Frontier Financial Corporation
Chairman's Message
To Our Shareowners, Employees, and Customers,
Our 25th anniversary year celebrated during 2003, was a period of change and
continued success for Frontier Financial Corporation and its subsidiary,
Frontier Bank.
The major change occurred in mid-May when I relinquished the day-to-day
management of both the corporation and the bank and passed the baton to the next
generation of management. (A complete identification of the new management team
appears elsewhere in this report). In my opinion, the transition process was
virtually flawless and transparent to our customers and staff members. I feel
very comfortable that our unique culture and values that have evolved over the
past 25 years will be maintained and enhanced by our new management team. We all
agree that customer service is most important and all of us at Frontier are
dedicated to exceeding customer expectations in terms of quality, value, and
service. We believe in creating a comfortable working environment for our staff
members to develop their potential in an environment without discrimination and
where all employees are treated with respect and dignity. We strive to grow our
business profitability - both organically, with an emphasis on integrity and
ethical practices, and through strategic acquisitions. In addition, we will
continue to focus on increasing shareowner value through performance and through
increased dividends and share repurchases. Our new management team is off to a
great start and we wish them continued success.
Frontier produced another year of excellent financial results in spite of a
challenging economic environment. Our servicing area experienced a sluggish
economy highlighted by an unemployment rate that was among the highest in the
nation. Fortunately, the slowdown was mitigated by a very strong residential
real estate market, driven by low interest rates and relatively high rates of
home price appreciation that allowed homeowners to take cash out when
refinancing, bolstering consumer spending and lowering monthly debt service
levels.
It is a pleasure to again report record annual earnings. This brings our overall
record up to 24 years in which earnings were at record levels out of 25 years of
operation. Net earnings for the year of $39.6 million represents an increase of
10% over 2002 earnings of $36.0 million. Diluted earnings per share of $2.12
reflected an increase of 13.4% over the $1.87 per share earned in 2002. The
larger percentage increase in earnings per share over total earnings was the
result of fewer shares outstanding in 2003, compared to 2002. During the year,
Frontier Financial repurchased 361,800 shares of its stock in the open market,
with the last purchase occurring on April 1, 2003.
At year-end 2003, Frontier's total assets were $2.08 billion, and deposits
totaled $1.67 billion, an increase of 6.8% for both categories compared to the
prior year. Net loans of $1.74 billion and investments of $187.9 million
reflected an increase of 6.8% and 34.2%, respectively.
Return on average assets for the year was 1.96% compared to 1.94% in 2002, and
return on shareowners' equity was 19.23% compared to 18.36% in the prior year.
Frontier's efficiency ratio for 2003 was 41% compared to 40% last year. This
ratio reflects the cost of producing a dollar of revenue and a lower ratio
reflects a more productive organization. Based on the above ratios, Frontier
continues to be among the top performing bank holding companies in the nation.
A major goal that was accomplished during the year was a substantial reduction
of problem loans. Non-performing assets were .52% of total assets at year-end
2003, down from .98% a year ago. Non-accruing loans decreased to $6.7 million at
year-end compared to $12.4 million at December 31, 2002. Net chargeoffs amounted
to $2.9 million or .17% of total loans in 2003, compared to $4.5 million or .28%
in 2002. Loan loss reserves stood at $29.6 million, or 1.67% of total loans at
year-end, compared to $28.2 million, or 1.70% of total loans outstanding at the
end of the prior year. In our opinion, the reserves are ample based on the
quality of our loan portfolio.
Drivers of earnings growth in 2003, were an increase in net interest income
primarily by a reduction in funding costs, strong mortgage banking income, gain
on sale of securities, and reduced contribution to the loan loss reserve. We are
particularly enthused that during the last six months of 2003, loan growth
increased dramatically, and that momentum has carried over to 2004.
Reflecting this strong financial performance, our Board of Directors increased
the cash dividend on our stock in each successive quarter during the year. The
dividend of $.185 per share declared in December 2003, marked the 17th
consecutive quarter in which the cash dividend has been increased.
Our newest office recently opened for business in downtown Seattle. It is the
39th banking center in the Frontier organization and is located at 1200 5th
Avenue in the IBM building. The office staff includes seven long-time downtown
Seattle bankers who recently joined our company. The new team is off to a great
start and we feel this office has tremendous potential.
Change also occurred at the board level. Three directors, Dave Dujardin, Don
Regan, and Dr. Roger Rice retired during the past year. Dujardin and Rice were
part of the group that organized Frontier Bank and served on the board since
inception of our bank. Don Regan joined the board in 1982 following our
acquisition of Bank of Arlington. Michael Corliss, who joined our board in 1998,
following our merger with Bank of Sumner, resigned from the board. They
exemplify the strong-minded, independent directors who serve on our board and
who are absolutely essential to good corporate governance. They all will be
missed.
While it appears that the national economy is on the road to recovery, many
challenges still exist. The war in Iraq, the threat of terrorism, budget
deficits, the possibility of higher interest rates, plus the occasion of an
election year create much uncertainty. In any event, Frontier is well positioned
with a strong capital base, ample reserves, a quality loan portfolio and an
efficient operation. As we look to the future, the opportunities are abundant.
The recent and highly publicized transgressions of a few large corporations have
heightened public concern over corporate ethics. Frontier Financial Corporation
is committed to the highest standards of integrity. We have in place, the
internal controls and the oversight to make sure that we have accounting
integrity and full, transparent disclosure.
Our sincere thanks to the members of our Board of Directors for their wisdom and
leadership during 2003. Our employees deserve special mention, as well, for
their dedication to our customers, their focus on results during a challenging
year, and for their positive, can-do spirit. Thanks to all of our shareowners
for your continued support.
All of us working together as a team will move this organization to further
growth and success----"it's really the people who make the difference".
Sincerely,
/s/ Bob Dickson
Bob Dickson
Chairman of the Board
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 December 31, 2003
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number 000-15540
FRONTIER FINANCIAL CORPORATION
(Exact Name of Registrant as Specified in its Charter)
Washington 91-1223535
- ------------------------------- ------------------------
(State or Other Jurisdiction of (IRS Employer
Incorporated or Organization) Identification Number)
332 S.W. Everett Mall Way
P. O. Box 2215
Everett, Washington 98203
(Address of Principal Executive Office) (Zip Code)
(425-514-0700)
(Registrant's Telephone Number, Including Area Code)
Securities Registered Pursuant to Section 12(g) of the Act:
Common Stock (No Par Value)
(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
of Regulation S-K (ss.229.405 of this chapter) is not contained herein, and will
not be contained, to the best of the registrant's knowledge, in definitive proxy
or information statements incorporated by reference in Part III of this Form
10-K or any amendment to this Form 10-K. [ ]
Indicate by a check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act) Yes [ X ] No [ ]
The aggregate market value of common stock held by nonaffiliates at February 29,
2004 was $540,945,572 based on the last reported sale price at February 29,
2004.
The issuer has one class of common stock (no par value) with 18,550,060 shares
outstanding as of December 31, 2003, and 18,602,824 shares outstanding as of
February 29, 2004.
Documents Incorporated by Reference
- -----------------------------------
Annual Report to Shareowners for the year ended December 31, 2003
Proxy Statement dated March 11, 2004
TABLE OF CONTENTS
Annual
Shareowners' Proxy
Form 10-K Report Statement
Item Number Page Page Page
- ----------- --------- ----------- ---------
PART I
- -------
1 Business 1-11
Statistical Disclosure Index 12
2 Properties 22
3 Legal Proceedings 22
4 Submission of Matters to
a Vote of Shareowners 22
PART II
- -------
5 Market for Registrant's Common
Equity, Related Shareowner Matters
And Issuer Purchases of Equity
Securities 22 17, 40
6 Selected Financial Data 24
7 Management's Discussion and
Analysis of Financial Condition
and Results of Operations 28 - 45
7A Quantitative and Qualitative
Disclosures about Market Risk 33 - 36, 38 - 39
8 Financial Statements and
Supplementary Data 25
9 Changes in and Disagreements with
Accountants on Accounting and
Financial Disclosure 25
9A Controls and Procedures 25
PART III
- --------
10 Directors and Executive
Officers of Frontier
Financial Corporation 2 - 12
11 Executive Compensation 7 - 12
12 Security Ownership of Certain
Beneficial Owners and Management
And Related Shareowner Matters 7 - 8
13 Certain Relationships and
Related Transactions 14
14 Principal Accountant Fees and Services 15
PART IV
- -------
15 Exhibits, Financial Statement
Schedules, and Reports on Form 8-K 27
Signatures 29
i
PART I
ITEM 1 - BUSINESS
Frontier Financial Corporation ("FFC" or "the Corporation") is a Washington
corporation which was incorporated in 1983 and is registered as a financial
holding company under the Bank Holding Company Act of 1956. As part of a plan of
reorganization consummated following the close of business September 30, 1983,
FFC acquired all of the stock of Frontier Bank (the "Bank"), issuing its common
stock in an exchange for the Bank's common stock on a share-for-share basis. FFC
has two subsidiaries: the Bank, which is engaged in a general banking business
and in businesses related to banking, and FFP, Inc., a nonbank corporation which
leases property to the Bank.
The Corporation posts its annual report, Form 10-K, quarterly reports on Form
10-Q, current reports on Form 8-K, and press releases on its investors relations
page at www.frontierbank.com. These reports are posted as soon as reasonably
practicable after they are electronically filed with the Securities and Exchange
commission (the "SEC"). All SEC filings of the Corporation are also available
free of charge at the SEC's website, www.sec.gov. The Corporation has also
adopted a Code of Ethics that covers the Corporation's principal officers, a
copy of which will be provided to interested persons without charge upon written
request to the Corporation's Secretary.
The Bank
Frontier Bank is a Washington state-chartered commercial bank that is a member
of the Federal Reserve System, with its headquarters located in Everett,
Snohomish County, Washington. It was founded in September, 1978 by Robert J.
Dickson and local business persons. The Bank is an "insured bank" as defined in
the Federal Deposit Insurance Act.
The Bank engages in general banking business in the State of Washington,
including the acceptance of demand, time and savings deposits and the making of
loans. As of December 31, 2003, the Bank conducted its business operations out
of 38 offices located in Clallam, Jefferson, King, Kitsap, Pierce, Skagit,
Snohomish, and Whatcom counties, which is the Bank's principal market area. Four
offices are located in Everett, one office each is located in Arlington, Duvall,
Snohomish, Smokey Point, Lake Stevens, Kirkland, Marysville, Lynnwood, Mill
Creek, Mount Vernon, Edmonds, Stanwood, Bothell, Woodinville, Monroe, Lake City
(Seattle), Totem Lake, Tacoma, Kent, Redmond, Burlington, Bellingham and four
offices located in Pierce county in the cities of Sumner, Puyallup, Orting and
Buckley. In addition, the following eight branches are located in Clallam,
Jefferson and Kitsap counties; two branches in Poulsbo, and one each are in
Bainbridge Island, Port Angeles, Port Hadlock, Port Townsend, Sequim and
Silverdale. Acquired in the merger with Interbancorp, Inc. (InterBank) which was
consummated in February 2001, were three branches located in King County in the
cities of Duvall, Kirkland and Totem Lake.
Banking Services
The Bank provides a full range of consumer banking services including savings
accounts, checking accounts, installments and commercial lending, safe deposit
facilities, time deposits and other consumer and business related financial
services. In addition to consumer-oriented activities, the Bank maintains a
strong commercial lending program, servicing businesses headquartered in the
Bank's principal market area. At the end of 1983, the Bank began to offer a
discount brokerage service to its customers. In September of 1984, the Bank
opened its Real Estate Division, offering a broad range of home, construction
and commercial long-term financing. The Trust Department opened for business in
March of 1985. This department offers a full array of trust services to its
customers. In May 1988, the Bank opened a Private Banking Office to give
personal service to upscale customers. In August 1989, the Bank acquired,
through a merger, three banking offices of Citizens Bank of Snohomish County,
and a real estate origination department. In January 1991, the Bank opened an
office in Mill Creek, providing a full range of consumer banking services.
In March 1991, the Bank opened an Insurance and Investment Center which markets
annuities, life insurance products, and mutual funds to Bank customers and the
general public. In July 1992, the Bank opened its Stanwood Office. In November
1992, the Bank acquired through merger, Edmonds National Bank, which had one
office. In July 1993, the Bank acquired through merger, The Bank of Northshore,
which had two offices located in Bothell and Woodinville, King County,
Washington. This merger marked the first time the Bank branched outside of
Snohomish County. In October 1993, FFP, Inc. a bank premises holding company
subsidiary, purchased land for construction of the Administrative offices which
were relocated from the Evergreen Way Office. This building was placed in
service in 1995. In June 1995, the Bank opened an office in Monroe, providing a
full range of consumer banking services. In August 1996, the Bank opened the
Lake City Office, (North Seattle) and in December 1996 opened its first office
in Skagit County, in Burlington. In May 1997, the Bank opened an office in
Redmond, Washington. This is the Bank's first office in eastern King County.
1
In December 1998, the Bank acquired, through merger, the Bank of Sumner, with
four offices, and a real estate origination department. These offices provide a
full range of consumer and commercial banking services. In July 1999, the Bank
opened its Bellingham office, which is the Bank's first office in Whatcom
County. In September 1999, the Bank opened its Mount Vernon office which is the
Bank's second office in Skagit County. In December 1999, FFP Inc., purchased
property and a building two miles south of the current Administrative Building
for the Bank's Operations Center which began use in the second quarter of 2001.
In July 2000, the Bank acquired, through merger, North Sound Bank, with eight
offices, a real estate origination department and a financial services company.
These offices provide a full range of consumer and commercial banking services.
In May 2001, the Bank opened an office in Kent, Washington, which is south of
Seattle.
In February 2001, the Bank acquired, through merger, Inter Bank, with two
operating offices and one office approved but not yet opened, which has
subsequently been opened for business. Additionally, Inter Bank had a real
estate origination office. These offices provide a full range of consumer and
commercial banking services.
In February of 2004, the Bank opened a full service banking office in downtown
Seattle, its only office in the metropolitan area of Seattle.
Employees
At December 31, 2003, the Bank had 622 full time equivalent employees. The Bank
considers its relations with employees to be good.
Competition
All phases of the Bank's activities are highly competitive. Management believes
that the principal competitive factors affecting the Corporation's markets
include interest rates paid on deposits and charged on loans, the range of
banking products available, and customer service and support. The Bank competes
actively with national and state banks, mutual savings banks, savings and loan
associations, finance companies, credit unions, brokerage houses, and other
financial institutions operating in its service area. Some of these financial
institutions have greater resources than those of the Bank. On December 31,
2003, the Corporation had total assets of $2.075 billion and deposits of $1.667
billion.
REGULATION AND SUPERVISION
To the extent that the following information describes statutory and regulatory
provisions, it is qualified in its entirety by reference to the full text of
those provisions. Also, such statutes, regulations and policies are continually
under review by Congress and state legislatures and federal and state regulatory
agencies. A change in statutes, regulations or regulatory policies applicable to
FFC could have a material effect on the business of FFC.
2
Introduction
FFC, its banking and nonbanking subsidiaries, are subject to extensive
regulation by federal and state agencies. The regulation of bank holding
companies and their subsidiaries is intended primarily for the protection of
depositors, federal deposit insurance funds and the banking system as a whole
and not for the protection of security holders.
As discussed in more detail below, this regulatory environment, among other
things, may restrict FFC's ability to diversify into certain areas of financial
services and pay dividends on its capital stock. It may also require FFC to
provide financial support to its banking subsidiary, maintain capital balances
in excess of those desired by management and pay higher deposit insurance
premiums as a result of the deterioration in the financial condition of
depository institutions in general.
Holding Company Structure
FFC is a Washington corporation which was incorporated in 1983 and is registered
as a bank holding company under the Bank Holding Company Act of 1956 (the "Bank
Holding Company Act"). As part of a plan of reorganization consummated following
the close of business on September 30, 1983, FFC acquired all of the stock of
Frontier Bank (the "Bank"), issuing its common stock in an exchange for the
Bank's common stock on a share-for-share basis. FFC has two subsidiaries: the
Bank, which is engaged in a general banking business and in businesses related
to banking, and FFP, Inc., a nonbank corporation which leases property to the
Bank. Effective October 28, 2000, FFC became a financial holding company.
Source of Strength Doctrine. Under current FRB policy, FFC is expected to act as
a source of financial and managerial strength to its subsidiary bank and, under
appropriate circumstances, to commit resources to support such subsidiary bank.
Capital loans from FFC to its subsidiary bank is subordinate in right of payment
to deposits and certain other indebtedness of the subsidiary bank. In the event
of FFC's bankruptcy, any commitment by FFC to a federal bank regulatory agency
to maintain the capital of a subsidiary bank will be assumed by the bankruptcy
trustee and entitled to a priority of payment.
Depositor Preference. The Federal Deposit Insurance Act ("FDI Act") provides
that, in the event of the "liquidation or other resolution" of an insured
depository institution, the claims of depositors of the institution, including
the claims of the FDIC as subrogee of insured depositors, and certain claims for
administrative expenses of the FDIC as a receiver will have priority over other
general unsecured claims against the institution. If an insured depository
institution fails, insured and uninsured depositors, along with the FDIC, will
have priority in payment ahead of unsecured, nondeposit creditors, including
FFC, with respect to any extensions of credit they have made to such insured
depository institution.
Regulatory Agencies
Bank Holding Company. FFC, as a bank holding company, is subject to regulation
under the Bank Holding Company Act and to inspection, examination and
supervision by the Board of Governors of the Federal Reserve System (Federal
Reserve Board) ("FRB") under the Bank Holding Company Act. As of October 28,
2000, FFC became a financial holding company under the Bank Holding Company Act.
Subsidiary Bank. FFC's subsidiary bank, Frontier Bank, is a Washington
state-chartered commercial bank. Effective October 7, 2002, Frontier Bank became
a member bank of the Federal Reserve System. As a Federal Reserve system member,
Frontier Bank is subject to supervision and examination by applicable federal
and state bank agencies, primarily the Federal Reserve, but also the Federal
Deposit Insurance Corporation ("FDIC") and the Division of Banks of the
Department of Financial Institutions for the State of Washington (the
"Division").
3
Bank Holding Company Activities
"Financial in Nature" Requirement. As a bank holding company that has elected
also to become a financial holding company pursuant to the Bank Holding Company
Act, FFC may affiliate with securities firms and insurance companies and engage
in other activities that are financial in nature or are incidental or
complementary to activities that are financial in nature. "Financial in nature"
activities include securities underwriting, dealing and market making,
sponsoring mutual funds and investment companies, insurance underwriting and
agency, merchant banking, and activities that the FRB determines from time to
time to be so closely related to banking or managing or controlling banks as to
be a proper incident thereto. A bank holding company that is not also a
financial holding company is limited to engaging in banking and such other
activities as determined by the FRB to be so closely related to banking or
managing or controlling banks as to be a proper incident thereto.
No FRB approval is required for FFC to acquire a company (other than a bank
holding company, bank or savings association) engaged in activities that are
financial in nature or incidental to activities that are financial in nature, as
determined by the FRB. Prior FRB approval is required before FFC may acquire the
beneficial ownership or control of more than 5% of the voting shares or
substantially all of the assets of a bank holding company, bank or savings
association.
If the subsidiary bank of FFC receives a rating under the Community Reinvestment
Act of 1977 of less than satisfactory, FFC will be prohibited from engaging in
new activities or acquiring companies other than bank holding companies, banks
or savings associations.
Regulatory Approval. In determining whether to approve a proposed bank
acquisition, federal banking regulators will consider, among other factors, the
effect of the acquisition on competition, the public benefits expected to be
received from the acquisition, the projected capital ratios and levels on a
post-acquisition basis, and the acquiring institution's record of addressing the
credit needs of the communities it serves, including the needs of low and
moderate income neighborhoods, consistent with the safe and sound operation of
the bank, under the Community Reinvestment Act of 1977.
Dividend Restrictions
FFC is a legal entity separate and distinct from its subsidiary bank. Its
principal source of funds to pay dividends on its common stock and debt service
on its debt is dividends from its subsidiary bank. The Bank, by statute, cannot
declare or pay any dividend in an amount greater than its retained earnings
without the approval of the Director of the Division of Banks for the State of
Washington.
Deposit Insurance Assessments
Through the Bank Insurance Fund (BIF), the FDIC insures the deposits of FFC's
depository institution subsidiaries up to prescribed limits for each depositor.
The amount of FDIC assessments paid by each BIF member institution is based on
its relative risk of default as measured by regulatory capital ratios and other
factors. Specifically, the assessment rate is based on the institution's
capitalization risk category and supervisory subgroup category. An institution's
capitalization risk category is based on the FDIC's determination of whether the
institution is well capitalized, adequately capitalized or less than adequately
capitalized. An institution's supervisory subgroup category is based on the
FDIC's assessment of the financial condition of the institution and the
probability that FDIC intervention or other corrective action will be required.
The BIF assessment rate currently ranges from zero to 27 cents per $100 of
domestic deposits. The FDIC may increase or decrease the assessment rate
schedule on a semi-annual basis. An increase in the BIF assessment rate could
have a material adverse effect on FFC's earnings, depending on the amount of the
increase. The FDIC is authorized to terminate a depository institution's deposit
insurance upon a finding by the FDIC that the institution's financial condition
is unsafe or unsound or that the institution has engaged in unsafe or unsound
practices or has violated any applicable rule, regulation, order or condition
enacted or imposed by the institution's regulatory agency.
4
All FDIC-insured depository institutions must pay an annual assessment to
provide funds for the payment of interest on bonds issued by the Financing
Corporation, a federal corporation chartered under the authority of the Federal
Housing Finance Board. The bonds, commonly referred to as FICO bonds, were
issued to capitalize the Federal Savings and Loan Insurance Corporation. The
FDIC established the FICO assessment rates effective for the first quarter of
2002 at approximately $.0154 per $100 annually for BIF-assessable deposits. The
FICO assessments are adjusted quarterly to reflect changes in the assessment
bases of the FDIC's insurance funds and do not vary depending on a depository
institution's capitalization or supervisory evaluations.
FDIC-insured depository institutions pay an assessment rate equal to the rate
assessed on deposits insured by the Savings Association Insurance Fund.
Securities Registration and Reporting
FFC common stock is registered as a class with the SEC under Section 12(g) of
the Securities Exchange Act of 1934 and thus is subject to the periodic
reporting and proxy solicitation requirements and the insider-trading
restrictions of that Act. The periodic reports, proxy statements and other
information filed by FFC under that Act can be inspected and copied at or
obtained from the SEC's Public Reference Room at 450 Fifth Street, NW,
Washington, D.C. 20549. The public may obtain information on the operation of
the Public Reference Room by calling the SEC at 1-800-SEC-0330. FFC is an
electronic filer with the SEC, and the FFC filings may be obtained at the SEC
website (http://www.sec.gov). In addition, the securities issued by FFC are
subject to the registration requirements of the Securities Act of 1933 and
applicable state securities laws unless exemptions are available.
NASD
FFC common stock is traded on the Nasdaq market under the symbol FTBK. The
National Association of Securities Dealers ("NASD") is the self-regulatory
organization of the Nasdaq Market. FFC is subject to the rules of the NASD.
The NASD may implement rules from time to time that are required by the SEC. The
NASD implemented rules under the Sarbanes-Oxley Act of 2002 regarding certain
required disclosures to shareholders, and independence requirements for
directors. In order for FFC common stock to continue to be traded on the Nasdaq
market, FFC is required to comply with these listing rules, as amended from time
to time.
Fiscal and Monetary Policies
FFC's business and earnings are affected significantly by the fiscal and
monetary policies of the federal government and its agencies. FFC is
particularly affected by the policies of the FRB, which regulates the supply of
money and credit in the United States. Among the instruments of monetary policy
available to the Federal Reserve are (a) conducting open market operations in
United States government securities, (b) changing the discount rates of
borrowings of depository institutions, (c) imposing or changing reserve
requirements against depository institutions' deposits, and (d) imposing or
changing reserve requirements against certain borrowing by banks and their
affiliates. These methods are used in varying degrees and combinations to
directly affect the availability of bank loans and deposits, as well as the
interest rates charged on loans and paid on deposits. For that reason alone, the
policies of the FRB have a material effect on the earnings of FFC.
Privacy Provisions of Gramm-Leach-Bliley Act
Under the Gramm-Leach-Bliley Act ("GLB Act"), federal banking regulators adopted
rules limiting the ability of banks and other financial institutions to disclose
nonpublic information about consumers to nonaffiliated third parties. These
limitations require disclosure of privacy policies to consumers and, in some
circumstances, will allow consumers to prevent disclosure of certain personal
information to a nonaffiliated third party.
Disclosure Controls and Procedures
The Sarbanes-Oxley Act of 2002 and related rulemaking by the SEC, which effect
sweeping corporate disclosure and financial reporting reform, generally require
public companies to focus on their disclosure controls and procedures. As a
result, public companies such as FFC now must have disclosure controls and
procedures in place and make certain disclosures about them in their periodic
SEC reports (i.e., Forms 10-K and 10-Q) and their chief executive and chief
financial officers must certify in these filings that they are responsible for
developing and evaluating disclosure controls and procedures and disclose the
results of an evaluation conducted by them within the 90-day period preceding
the filing of the relevant report, among other things.
5
Future Legislation
Various legislation, including proposals to substantially change the financial
institution regulatory system and to expand or contract the powers of banking
institutions and bank holding companies, is from time to time introduced in the
Congress. This legislation may change banking statutes and the operating
environment of FFC and its subsidiaries in substantial and unpredictable ways.
If enacted, such legislation could increase or decrease the cost of doing
business, limit or expand permissible activities or affect the competitive
balance among banks, savings associations, credit unions, and other financial
institutions. FFC cannot predict whether any of this potential legislation will
be enacted, and if enacted, the effect that it, or any implementing regulations,
would have on the financial condition or results of operations of FFC or any of
its subsidiaries.
THE BANK
GENERAL. Applicable federal and state statutes and regulations governing a
bank's operations relate among other matters, to capital requirements, required
reserves against deposits, investments, loans, legal lending limits, certain
interest rates payable, mergers and consolidations, borrowings, issuance of
securities, payment of dividends (see "Restrictions on Capital Distributions"
below), establishment of branches, and dealings with affiliated persons. The
FDIC has authority to prohibit banks under their supervision from engaging in
what they consider to be an unsafe and unsound practice in conducting their
business.
FFC's subsidiary bank, Frontier Bank, is a Washington state-charted commercial
bank that is a member bank of the Federal Reserve System. All member banks of
the Federal Reserve are required to purchase Federal Reserve stock, and to
comply with the safety and soundness regulations. As a Federal Reserve System
member, Frontier Bank is subject to supervision and examination by applicable
federal and state banking agencies, primarily the Federal Reserve, but also the
FDIC and the Division. The Bank is also subject to regulation and examination by
the FDIC which insures the deposits of the Bank to the maximum extent permitted
by law and by requirements established by the FRB. The federal laws that apply
to the Bank regulate, among other things, the scope of its business,
investments, reserves against deposits, the timing of the availability of
deposited funds and the nature and amount of and collateral for loans. The laws
and regulations governing the Bank generally have been promulgated to protect
depositors and not to protect shareowners of such institutions or their holding
companies.
The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA")
requires federal banking regulators to adopt regulations or guidelines in a
number of areas to ensure bank safety and soundness including: internal
controls, credit underwriting, asset growth, management compensation, ratios of
classified assets to capital, and earnings. FDICIA also contains provisions
which are intended to change independent auditing requirements; restrict the
activities of "undercapitalized banks" to borrow from the FRB's discount window;
and require regulators to perform annual on-site bank examinations and set
standards for real estate lending.
LOANS TO ONE BORROWER. The Bank is subject to limitations on the aggregate
amount of loans that it can make to any one borrower, including related
entities. Applicable regulations generally limit loans-to-one borrower to 20
percent of capital. As of December 31, 2003 the Bank was in compliance with
applicable loans-to-one borrower requirements.
FDIC INSURANCE. Generally, customer deposit accounts in banks are insured by the
FDIC for up to a maximum amount of $100,000. The FDIC has adopted a risk-based
insurance assessment system under which depository institutions contribute funds
to the Bank Insurance Fund ("BIF"), based on their risk.
6
On September 30, 1996, the Deposit Insurance Fund Act of 1996 ("Funds Act") was
enacted. The Funds Act provides, among other things, for the recapitalization of
the SAIF through a special assessment on all depository institutions that hold
SAIF insured deposits. The one-time assessment was designed to place the SAIF at
its 1.25 reserve ratio goal.
The Funds Act, for the three-year period beginning in 1997, subjects BIF insured
deposits to a Financing Corporation ("FICO") premium assessment on domestic
deposits at one-fifth the premium rate (approximately 1.3 basis points) imposed
on SAIF insured deposits (approximately 6.5 basis points).
Beginning in the year 2000, BIF insured institutions were required to pay the
FICO obligations on a pro-rata basis with all thrift institutions; annual
assessments are expected to equal approximately 2.4 basis points until 2017, to
be phased out completely by 2019. Until further action by the FDIC, BIF premiums
will be maintained at their current level.
Banking regulations are empowered under the Funds Act to prohibit insured
institutions and their holding companies from facilitating or encouraging the
shifting of deposits from the SAIF to the BIF in order to avoid higher
assessment rates. It is expected that Congress will continue to address
comprehensive legislation on the merger of the funds and elimination of the
thrift charter.
The FDIC may terminate the deposit insurance of any insured depository
institution if it determined after a hearing that the institution has engaged or
is engaging in unsafe or unsound practices, is in an unsafe or unsound condition
to continue operations, or has violated any applicable law. The insurance may be
terminated permanently, if the institution has no tangible capital. If deposit
insurance is terminated, the accounts at the institution at the time of the
termination, less subsequent withdrawals, will continue to be insured for a
period of six months to two years, as determined by the FDIC.
CAPITAL ADEQUACY REQUIREMENTS. The FRB and the FDIC (collectively, the
"Agencies") have adopted risk-based capital guidelines for banks and bank
holding companies that are designed to make regulatory capital requirements more
sensitive to differences in risk profiles among banks and bank holding companies
and account for off-balance sheet items. The guidelines are minimums, and the
federal regulators have noted that banks and bank holding companies
contemplating significant expansion programs should not allow expansion to
diminish their capital ratios and should maintain ratios in excess of the
minimums. Failure to achieve and maintain adequate capital levels may give rise
to supervisory action through the issuance of a capital directive to ensure the
maintenance of required capital levels.
The current guidelines require all federally-regulated banks to maintain a
minimum risk-based total ratio equal to 8 percent, of which at least 4 percent
must be Tier 1 capital. Tier 1 capital includes common shareowners' equity,
qualifying perpetual preferred stock, and minority interest in equity accounts
of consolidated subsidiaries, but excludes goodwill and most other intangibles,
gains or losses on available for sale securities and the allowance for losses on
loans. Total capital includes the excess of any preferred stock not included in
Tier 1 capital, mandatory convertible securities, hybrid capital instruments,
subordinated debts and intermediate term preferred stock and the allowance for
losses on loans up to 1.25 percent of risk-weighted assets. The Bank has not
received notice indicating that it will be subject to higher capital
requirements.
Under these guidelines, banks' assets are given risk-weights of 0 percent, 20
percent, 50 percent or 100 percent. In addition, certain off-balance sheet items
are given credit conversion factors to convert them to asset equivalent amounts
to which an appropriate risk-weight will apply. These computations result in the
total risk-weighted assets. Most loans are assigned to the 100 percent risk
category, except for first mortgage loans fully secured by residential property
and, under certain circumstances, residential construction loans (both carry a
50 percent rating).
Most investment securities are assigned to the 20 percent category, except for
municipal or state revenue bonds (which have a 50 percent rating) and direct
obligations of or obligations guaranteed by the United States Treasury or United
States Government Agencies (which have a 0 and 20 percent rating, respectively).
7
The Agencies have also implemented a leverage ratio, which is equal to Tier 1
capital as a percentage of average total assets less intangibles, to be used as
a supplement to the risk-based guidelines. The principal objective of the
leverage ratio is to limit the maximum degree to which a bank may leverage its
equity capital base. The minimum required leverage ratio for top-rated
institutions is 4 percent, but most institutions are required to maintain an
additional cushion of at least 100 to 200 basis points. Any institution
operating at or near the 4 percent level is expected to have well-diversified
risk, including no undue interest rate risk exposure, excellent asset quality,
high liquidity and good earnings, and in general to be a strong banking
organization without any supervisory, financial or operational weaknesses or
deficiencies. Any institutions experiencing or anticipating significant growth
would be expected to maintain capital ratios, including tangible capital
positions, well above the minimum levels.
PROMPT CORRECTIVE ACTION. Regulations adopted by the Agencies as required by
FDICIA impose even more stringent capital requirements. The regulators require
the FDIC and other Federal Banking Agencies to take certain "prompt corrective
action" when a bank fails to meet certain capital requirements. The regulations
establish and define five capital levels: (1) "well-capitalized", (2)
"adequately capitalized", (3) "undercapitalized", (4) "significantly
undercapitalized", and (5) "critically undercapitalized." To qualify as "well
capitalized" an institution must maintain at least 10 percent total risk-based
capital, 6 percent Tier 1 risk-based capital, and a leverage ratio of no less
than 5 percent. Increasingly severe restrictions are imposed on the payment of
dividends and management fees, asset growth and other aspects of the operations
of institutions that fall below the category of being "adequately capitalized"
(which requires at least 8 percent total risk-based capital, 4 percent Tier 1
risk-based capital, and a leverage ratio of at least 4 percent).
Undercapitalized institutions are required to develop and implement capital
plans acceptable to the appropriate federal regulatory agency. Such plans must
require that any company that controls the undercapitalized institution must
provide certain guarantees that the institution will comply with the plan until
it is adequately capitalized. As of December 31, 2003, the Bank was well
capitalized and maintained a leverage ratio of 9.44 percent, a risk-based Tier 1
capital ratio of 9.54 percent, and a risk-based total capital ratio of 10.79
percent.
In August of 1995, the Federal Banking Agencies adopted a final rule
implementing the portion of Section 305 of FDICIA that requires the banking
agencies to revise their risk-based capital standards to ensure that those
standards take adequate account of interest rate risk. Effective September 1,
1995, when evaluating the capital adequacy of a bank, the Federal Banking
Agencies' examiners will consider exposure to declines in the economic value of
the bank's capital due to changes in interest rates. A bank may be required to
hold additional capital for interest rate risk if it has a significant exposure
or a weak interest rate risk management process.
RESTRICTIONS ON CAPITAL DISTRIBUTIONS. Dividends paid to FFC by the Bank are a
material source of FFC's cash flow. Various federal and state statutory
provisions limit the amount of dividends the Bank is permitted to pay to FFC
without regulatory approval.
FRB policy further limits the circumstances under which bank holding companies
may declare dividends. For example, a bank holding company should not continue
its existing rate of cash dividends on its common stock unless its net income is
sufficient to fully fund each dividend and its prospective rate of earnings
retention appears consistent with its capital needs, asset quality, and overall
financial condition.
If, in the opinion of the applicable federal banking agency, a depository
institution under its jurisdiction is engaged in or is about to engage in an
unsafe or unsound practice (which depending on the financial condition of the
institution, could include the payment of dividends), the agency may require,
after notice and hearing, that such institution cease and desist from such
practice. In addition, the FRB and the FDIC have issued policy statements which
provide that insured banks and bank holding companies should generally pay
dividends only out of current operating earnings.
According to Washington law, the Bank may not declare or pay a cash dividend in
an amount greater than its retained earnings, without the approval of the
Director of the Division of Financial Institutions.
8
INTERSTATE BANKING AND BRANCHING. The Riegle-Neal Interstate Banking and
Branching Efficiency Act of 1994 ("Interstate Act") generally permits nationwide
interstate banking and branching by relaxing federal law restrictions on
interstate banking and providing general authorization for interstate branching.
Subject to certain state laws, such as age and contingency laws, the Interstate
Act allows adequately capitalized and adequately managed bank holding companies
to purchase the assets of out-of-state banks. Additionally, since June 1, 1997,
the Interstate Act permits interstate bank mergers subject to these state laws,
unless the home state of either merging bank has "opted-out" of these provisions
by enacting "opt-out" legislation. The Interstate Act does allow states to
impose certain conditions on interstate bank mergers within their borders; for
example, states may require that the in-state merging bank exist for up to five
years before the interstate merger. Under the Interstate Act, states may also
"opt-in" to de novo branching, allowing out-of-state banks to establish de novo
branches within the state.
In 1996, Washington enacted "opting-in" legislation authorizing interstate
mergers pursuant to the Interstate Act. Accordingly, as of June 6, 1996, an
out-of-state bank holding company may now acquire more than 5 percent of the
voting shares of a Washington-based bank, regardless of reciprocity, provided
such bank or its predecessor has been doing business for at least five years
prior to the acquisition. Further, an out-of-state bank may engage in banking in
Washington if the requirement of Washington's interstate banking statute are
met, and either: (1) was lawfully engaged in banking in Washington on June 6,
1996, (2) resulted from an interstate combination pursuant to Washington law,
(3) resulted from a relocation of a head office of a state bank or a main office
of a national bank pursuant to federal law, or (4) resulted from the
establishment of a savings bank branch in compliance with applicable Washington
law. Additionally, the Director of the Division of Financial Institutions may
approve interstate combinations if the basis for such approval does not
discriminate against out-of-state banks, out-of-state holding companies, or
their subsidiaries.
The agencies recently adopted regulations, under which banks are prohibited from
using their interstate branches primarily for deposit production. The Agencies
have accordingly implemented a loan-to-deposit ratio screen to ensure compliance
with this prohibition.
REGULATORY IMPROVEMENT. In 1994, Congress enacted the Community Development and
Regulatory Improvement Act ("Regulatory Improvement Act"), with the intent of,
among other things, reducing the regulatory burden on financial institutions.
This Act is intended to streamline certain regulatory procedures and relax
certain regulatory compliance requirements. In addition, the Regulatory
Improvement Act specifically directs each federal banking agency to review and
streamline its regulations and written supervisory policies.
FINANCIAL MODERNIZATION. In 1999, the Financial Service Act was enacted which:
(1) repealed historical restrictions on preventing banks from affiliating with
securities firms, (2) broadens the activities that may be conducted by national
banks and banking subsidiaries of holding companies, and (3) provides an
enhanced framework for protecting the privacy of consumers' information. In
addition, bank holding companies may be owned, controlled or acquired by any
company engaged in financially related activities, as long as such company meets
regulatory requirements. To the extent that this legislation permits banks to
affiliate with financial services companies, the banking industry may experience
further consolidation, although the impact of this legislation on FFC and the
Bank is unclear at this time.
Effect of Governmental Policies. The Bank is affected not only by general
economic conditions, but also by the monetary and fiscal policies of the United
States Government and various agencies, particularly the Federal Reserve System.
In its role of implementing its monetary policy, the Federal Reserve Board has
the power to regulate the national supply of bank credit through such methods as
open market operations in the United States Government securities markets,
control of the discount rate on member bank borrowings, and establishment of
reserve requirements against bank deposits. These means are used in varying
combinations and have an influence over the growth of bank loans, investments,
and deposits. They may also affect interest rates charged on loans or paid on
deposits. The nature and timing of future changes in monetary policies and their
impact on the Bank are not predictable. As a consequence of extensive regulation
of commercial banking activities in the United States, the Bank's business is
particularly susceptible to being affected by Federal legislation and
regulations which may have the effect of increasing the cost of doing business
or limiting permissible activities.
9
Equity Compensation Plans
The following table sets forth information regarding outstanding options and
shares reserved for issuance under the Corporation's plans:
Number of securities
Number of securities remaining available for
to be issued upon Weighted-average future issuance under
exercise of outstanding exercise price of equity compensation plans
options, warrants and outstanding options, (excluding securities
rights warrants and rights reflected in first column)
---------------------- -------------------- ---------------------------
Equity compensation
plans approved by
security holders 487,489 $26.06 477,717 (A)
Equity compensation
plans not approved
by security holders -0- N/A 55,342 (B)
---------------------- ---------------------------
Total 487,489 533,059
====================== ===========================
(A) Consists of FFC Incentive Stock Option Plan.
(B) Consists of FFC 1999 Employee Stock Award Plan and 2001 Stock Award Plan.
FFP, Inc.
On April 4, 1988, the Corporation formed a new subsidiary corporation called
FFP, Inc. The purpose of this corporation is to purchase and lease improved real
property to the Bank. The reason for this approach was to preclude placing
nonearning assets on the books of the Bank or the Corporation. For further
details, please see page 22 of this Form 10-K Report, "Properties." It is
intended that future purchases of real property will be made by FFP, Inc. At
this time, it is not anticipated that FFP, Inc. will engage in any other type of
business.
Washington Banking Company
In April 1996, the Corporation purchased 4.99% of the common stock of Whidbey
Island Bank, located approximately 15 miles west of Everett. Shortly thereafter,
the bank converted to the holding company structure and is now called Washington
Banking Company ("WBC"). Subsequent to the initial investment the Corporation
made application to the Board of Governors of the Federal Reserve System to
purchase up to 9.9% ownership in WBC. Approval was received, and the Corporation
has since purchased a total ownership of 9.0%, as of March 2, 2004. The FRB
approval for further purchases of WBC stock by FFC terminated in December, 1999.
FFC does not anticipate further investment in WBC stock at this time. If FFC
were to seek to increase its ownership in WBC, FRB regulatory approval would
again need to be obtained.
Share Repurchase Program
In January 2001 the Board announced the adoption of a stock repurchase program
authorizing the Corporation to repurchase up to 5% of its outstanding stock in
the open market. On October 17, 2001 the Board of Directors authorized to
repurchase an additional 5% of outstanding common stock under the plan. On
October 17, 2002 the Board of Directors authorized to repurchase an additional
5% of outstanding common stock under the plan. The plan expires October 2004.
The Corporation has repurchased 361,800 and 473,500 shares in 2003 and 2002.
There were 591,050 shares remaining under the current plan at December 31, 2003.
10
Availability of Filings
You may access, free of charge, copies of the following reports of FFC on its
investor relations page at www.frontierbank.com or on the SEC's website at
www.sec.gov:
1) Annual Reports on Form 10-K; and
2) Quarterly Reports on Form 10-Q.
These documents are posted on the SEC's website, generally within twenty-four
hours after FFC files these documents electronically with the Securities and
Exchange Commission.
Forward-Looking Statement
The Annual Report on Form 10-K contains certain forward-looking statements
within the meaning of the Private Securities Litigation Reform Act of 1995. In
addition, the Corporation may make certain statements in future SEC filings, in
press releases, and in oral and written statements made with the Corporation's
approval that are not statements of historical fact and may constitute
forward-looking statements. Forward-looking statements may relate to, without
limitation the Corporation's financial condition, results of operations, plans,
objectives, future performance or business.
Forward-looking statements are identified by the fact that they do not relate
only to historical or current facts. Sentences containing words such as "may",
"will", "expect", "anticipate", "believe", "estimate", "should", "projected", or
similar words may constitute forward-looking statements, but are not the only
means to identify these statements. The Corporation may have used these
statements to describe expectations and estimates in various areas, including,
but not limited to: changes in the economy of the markets in which it operates;
interest rate movements; future acquisition and growth strategies; system
conversions and integration activities; the impact of competitive products,
services and pricing; and legislative, regulatory and accounting changes
affecting the banking and financial service industry.
Forward-looking statements are subject to risks and uncertainties that may cause
actual future results to differ materially from estimated or projected results.
Factors that could cause this difference--many of which are beyond the
Corporation's control--include the following, without limitation: interest rate
trends may differ than expected; loan delinquency rates may be significantly
higher than expected; the general state of the economy in Washington state and
the United States as a whole could be worse than expected; competitive pressures
among financial institutions could increase significantly; and changes in laws
and regulations could adversely affect the Corporation.
11
STATISTICAL DISCLOSURE INDEX
The schedules listed below set forth the statistical information relating to
Frontier Financial Corporation and subsidiaries (unless otherwise stated) in
accordance with Guide 3. This information should be read in conjunction with the
consolidated financial statements.
Annual
I. Distribution of Assets, Liabilities Form 10-K Report
and Shareowners' Equity; Interest Page Page
Rates and Interest Differential: --------- ------
A. Consolidated Average Balance
Sheets/Interest Income and
Expense/Rates 44
B. Changes in Net Interest Income
and Expense due to Rate and
Volume 45
II. Investment Portfolio
A. Analysis of Investment
Securities at Year-end 13 11 - 12
B. Maturity Distribution of
Investment Securities 13 12
III. Loan Portfolio
A. Types of Loans 14 12 - 13
B. Loan Maturities and Sensitivity
to Changes in Interest Rates 14 28 - 30, 34 - 36, 38 -39
C. Risk Elements 15
D. Concentrations of Credit 20
IV. Summary of Loan Loss Experience
A. Analysis 18 - 21
B. Allocation of Allowance for
Possible Loan Losses 18 - 19
V. Deposits
Average Interest and Noninterest
Bearing Deposit Balances 44
VI. Return on Equity and Assets
Significant Financial Ratios 21
VII. Short-term Borrowings 21
12
Analysis of Investment Securities
- -----------------------------------------
The aggregate amortized recorded values of investment securities at December 31
are as follows:
2003 2002 2001
(In thousands) Amortized Amortized Amortized
Cost Cost Cost
------------- --------------- ---------------
U.S. Treasuries $251 $251 $251
U.S. Agencies 67,903 1,665 1,653
Municipal Bonds 10,705 21,169 23,487
Corporate Bonds 77,029 85,838 30,140
Equities 26,653 19,889 17,263
Certificates of Deposit - 8,000 8,000
------------- --------------- ---------------
Totals $182,541 $136,812 $80,794
============= =============== ===============
Maturity Distribution of Investment Securities
- ----------------------------------------------
The following table sets forth the maturities of investment securities at December 31,
2003. Taxable equivalent values are used in calculating yields assuming a tax rate of
35%.
(In thousands) After 1 Yr After 5 Yrs Totals &
(Amortized cost used) Within But Within But Within After Weighted
1 Year/ 5 Years/ 10 Years/ 10 Years/ Average
Yield Yield Yield Yield Yield
------------- ------------- --------------- --------------- -------------
U.S. Treasury $0 $0 $0 $251 $251
0.00% 0.00% 0.00% 7.16% 7.16%
U.S. Agencies 13 39,879 28,000 11 67,903
6.86% 3.24% 3.88% 0.01% 3.50%
Municipal Bonds 1,359 8,624 677 45 10,705
7.92% 7.66% 8.52% 7.77% 7.75%
Corporate Bonds 28,993 42,916 1,071 4,049 77,029
5.73% 4.77% 4.45% 10.16% 5.41%
Equities 26,653 0 0 0 26,653
5.54% 0.00% 0.00% 0.00% 5.54%
------------- ------------- --------------- --------------- -------------
TOTALS $57,018 $91,419 $29,748 $4,356 $182,541
============= ============= =============== =============== =============
5.69% 4.38% 4.01% 9.94% 4.86%
============= ============= =============== =============== =============
Investments in FHLB consist of securities with a book value of $60.7 million and
a market value of $60.7 million as of December 31, 2003.
13
Types of Loans
- --------------------------
Major classifications of loans, net of deferred loan fees, at December 31 are as
follows:
(In thousands) 2003 2002 2001 2000 1999
------------- ------------- ------------ -------------- -------------
Commercial $268,963 $272,440 $316,947 $283,287 $240,058
Real Estate Commercial 809,307 758,826 659,982 585,283 507,006
Real Estate Construction 507,872 443,461 412,501 335,667 277,126
Real Estate Mortgage 145,373 136,740 137,768 126,657 124,901
Installment 40,201 47,217 47,833 47,221 38,200
------------- ------------- ------------ -------------- -------------
TOTAL $1,771,716 $1,658,684 $1,575,031 $1,378,115 $1,187,291
============= ============= ============ ============== =============
Loan Maturities and Sensitivity to Changes in Interest Rates
- ------------------------------------------------------------
The following table shows the amounts and maturity analysis of loans outstanding as of December
31, 2003. Also, the amounts are classified as to fixed and variable rate
sensitivity for amounts
due after one year.
Maturity
-------------------------------------------------------
(In thousands) Within 1 - 5 After
1 Year Years 5 Years Total
-------------------------------------------------------
Commercial $143,148 $118,551 $7,264 $268,963
Real Estate Commercial 85,330 445,290 278,687 809,307
Real Estate Construction 360,129 130,970 16,773 507,872
Real Estate Mortgage 39,516 91,032 14,825 145,373
Installment 8,732 15,424 16,045 40,201
-------------------------------------------------------
TOTAL $636,855 $801,267 $333,594 $1,771,716
============= ============= ============ ==============
Loans maturing after one year with:
1 - 5 After
Years 5 Years
--------------------------
Fixed Rates $618,172 $239,971
Variable Rates 183,095 93,623
--------------------------
TOTAL $801,267 $333,594
============= ============
It is not uncommon to rollover loans at the maturity period, provided that the rate and terms
of the loan conform to the current policy.
Loan Administration
The Bank provides revolving lines of credit to many of its borrowers. Such lines
are approved by the Directors' Loan Committee ("Loan Committee") or other
administrative level committee or person if the amount exceeds the lending units
authorized loan limit.
Credit Review personnel, under the direction of the Chief Credit Officer,
examine the loan portfolio regularly. Reports are made by the Credit Review
Department to senior management and the Directors' Audit Committee, and
follow-up corrective action is monitored. Problem loan reports are prepared for
management review on a regular basis.
14
Certain problem loans are placed on a nonaccrual basis in conformance with
defined policy. The Loan Committee and other administrative personnel regularly
review information reports on adversely classified and delinquent loans.
Comparative summaries of delinquent loans are also provided on a regular basis
to senior management and to the Board of Directors.
Management closely monitors the adequacy of the loan loss reserve and an
analysis is performed four times a year. The allowance is maintained at a level
deemed sufficient to meet potential losses.
The reviews, examinations and actions described above are in addition to the
periodic examinations by federal and state regulatory agencies, as well as the
Bank's internal audit department and the Bank's outside public accounting firm.
Risk Elements - Impaired Assets
NONACCRUING LOANS
Loans are placed in a nonaccrual status when, in the opinion of management, the
collection of additional interest is doubtful or when the loan becomes ninety
(90) days past due. When a loan is placed on nonaccrual status, all interest
previously accrued, but not collected, is reversed and charged against interest
income. Income on nonaccrual loans is then recognized only to the extent cash is
received and where the future collection of principal is probable. Accruals are
resumed only when the loan is brought current, and when, in the opinion of
management, the borrower has demonstrated the ability to resume payments of
principal and interest on a regular basis. As a consequence, some of these loans
are current in their payments at this time.
IMPAIRED LOANS
A loan is considered impaired when management determines it is probable that all
contractual amounts of principal and interest will not be paid as scheduled in
the loan agreement. These loans include all loans in nonaccrual, loans
restructured, and other loans that management considers to be impaired.
This assessment for impairment occurs when and while such loans are on
nonaccrual, or the loan has been restructured. When a loan with unique risk
characteristics has been identified as being impaired, the amount of impairment
will be measured by the Corporation. If the measurement of the impaired loan is
less than the recorded investment in the loan an impairment is recognized by
creating or adjusting an existing allocation of the allowance for loan losses.
RESTRUCTURED LOANS
In cases where a borrower experiences financial difficulties and the Corporation
makes certain concessionary modifications to the contractual terms, the loan is
classified as a restructured (accruing) loan. Loans restructured at a rate equal
to or greater than that of a new loan with comparable risk at the time of the
contract is modified may be excluded from the impairment assessment and may
cease to be considered impaired.
Delinquent and problem loans are a part of any lending enterprise. When a
borrower fails to make payments, the Bank implements collection activities
commencing with simple past due notices. This then progresses to phone calls and
letters, followed by legal activity when and if necessary. At one month past
due, the loan is tracked and reported as a delinquency.
It is the Bank's practice to discontinue accruing interest on virtually all
loans that are delinquent in excess of 90 days regardless of risk of loss,
collateral, etc. Some problem loans which are less than 90 days delinquent are
also placed into nonaccrual status if the success of collecting full principal
and interest in a timely manner is in doubt and some loans will remain in
nonaccrual even after improved performance until a consistent timely payment
pattern is exhibited and/or timely performance is considered to be reliable.
15
On the following table the dollar amount of loans past due 90 days or more
whether accruing or not, past due, and other real estate owned as a percentage
of total loans was .61%, 1.14%, and .78%, for year-end 2003, 2002 and 2001,
respectively. These loans have a variety of situations, some of which may lead
to foreclosure or involve a bankruptcy case and while some of these loans are in
active legal collection processes, others are under active repayment plans and
may continue payment as the borrower's financial situation improves. The
year-end 2001 balance of $11.5 million was comprised of 60 loans. At year-end
2002, there were 32 loans ranging in size from $3.1 million to nominal amounts.
The Bank ended the year with thirteen nonaccruing loans with a combined balance
of $6.7 million or .3% of total assets. Ninety two percent of these loans are
centered in two loans. Both are secured by real estate and favorable resolution
is underway.
Loans past due 90 days or more and still accruing, nonaccruing, restructured and other
real estate owned (OREO) on which the accrual of interest has been discontinued as of
December 31st are as follows:
In thousands
- -------------------------------------------------------------------------------------------------------
2003 2002 2001 2000 1999
-------------------------------------------------------------------
Commercial $120 $909 $823 $106 $380
Agriculture - - 409 386 -
Real Estate 6,531 10,972 10,086 3,439 1,355
Installment 43 554 133 95 78
-------------------------------------------------------------------
Total nonaccruing loans 6,694 12,435 11,451 4,026 1,813
Other real estate owned 4,162 6,532 769 256 870
-------------------------------------------------------------------
Total nonperforming assets $10,856 $18,967 $12,220 $4,282 $2,683
===================================================================
Restructured (1) 6,178 6,178 6,200 - -
-------------------------------------------------------------------
Total loans at end of period $1,771,716 $1,658,684 $1,575,031 $1,378,115 $1,187,291
===================================================================
Total assets at end of period $2,075,793 $1,943,727 $1,806,740 $1,690,818 $1,425,411
===================================================================
Total nonperforming assets
to total loans 0.61% 1.14% 0.78% 0.31% 0.23%
Total nonperforming loans to total
assets 0.52% 0.98% 0.68% 0.25% 0.19%
Total impaired assets to total
assets 0.82% 1.29% 1.02% 0.25% 0.19%
(1) Consists of one loan which is accruing.
There are certain amounts of interest collected on the loans that is included in
income, and amounts that have not been accrued which are indicated in the
following table:
16
(In thousands)
At December 31, 2003 2002 2001 2000 1999
- -----------------------------------------------------------------------------------------------------
Total interest income which
would have been recorded
during the period under
original terms of loans above $443 $1,400 $958 $407 $100
Portion of interest
income included in
net income for the
period $429 $774 $1,600 $284 $161
Commitments for additional
funds related to loans
above -0- -0- -0- -0- -0-
Other Real Estate Owned
OREO is carried at the lesser of book value or market value. The costs related
to completion, repair, maintenance, or other costs of such properties, are
generally expensed with any gains or inadvertent shortfalls from the ultimate
sale of OREO being shown as other income or expense.
OREO totals ended the year with a balance of $4.2 million representing .20% of
total assets. This is down from the previous year ending total of .34%.
Management believes the amount of OREO is relatively modest and reflects the
transition of troubled loans through an orderly collection process. As of
December 31, 2003 OREO assets consisted of four properties with 92% of the
balance centered in one property. This property is a 3-unit condo project.
Subsequent to the year-end one of the three condos has sold and closed resulting
in $1.7 million net proceeds to the Corporation. The remaining two condos are
under agreements to sell and are expected to close in the first half of 2004.
All of the OREO properties are being actively marketed.
Certain other loans, currently in nonaccrual, are in the process of foreclosure
and there is a likelihood these foreclosures will be completed and the loans
will then become OREO. This is viewed as an ordinary part of the collection
process and efforts are constantly underway to reduce and minimize such
nonperforming assets.
The table below shows the carrying value of OREO at December 31st:
(In thousands) 2003 2002 2001 2000 1999
------------- ------------ -------------- ------------- ------------
Other Real Estate Owned $4,162 $6,532 $769 $256 $870
Summary of Loan Loss Experience
The allowance for loan losses is the amount, which, in the opinion of
management, provides adequate protection in the event of loan losses. This
analysis is performed quarterly and reviewed by senior management to determine
the adequacy of the reserve. The analysis takes into consideration current
economic trends both on a national and local level. It includes careful
consideration of delinquency rates and trends for special loan categories
including commercial, personal and real estate related loans by geographic
location.
The following table provides an analysis of net losses by loan type for the last
five years at December 31:
17
Summary of Loan Loss Experience
- ----------------------------------------
The following table provides an analysis of net losses by loan type for the last five years at
December 31st:
(In thousands) 2003 2002 2001 2000 1999
------------- ------------ ------------ ------------- ----------------
Balance at beginning of
year $28,175 $26,358 $21,907 $21,007 $19,288
Provision charged to
operating expense 4,250 6,300 13,600 1,007 2,266
Loans charged-off:
Commercial (1,560) (2,564) (10,044) (156) (797)
Real Estate (1,711) (2,008) (383) (461) (55)
Installment (351) (537) (266) (316) (71)
------------- ------------ ------------ ------------- ----------------
Total charged-off loans (3,622) (5,109) (10,693) (933) (923)
Less recoveries:
Commercial 620 482 240 54 243
Real Estate 68 71 625 598 105
Installment 65 73 27 174 28
------------- ------------ ------------ ------------- ----------------
Total recoveries 753 626 892 826 376
Net charge-offs (2,869) (4,483) (9,801) (107) (547)
Reserve acquired in merger - - 652 - -
Balance at end of year $29,556 $28,175 $26,358 $21,907 $21,007
============= ============ ============ ============= ================
Total loans at
end of period $1,771,716 $1,658,684 $1,575,031 $1,378,115 $1,187,291
Daily average loans $1,691,051 $1,601,037 $1,524,181 $1,327,699 $1,095,626
Ratio of net charged-off
loans during period to
average loans outstanding 0.17% 0.28% 0.64% 0.01% 0.05%
============= ============ ============ ============= ================
Loan loss reserve as a
percentage of total loans 1.67% 1.70% 1.67% 1.59% 1.77%
============= ============ ============ ============= ================
The provision for loan losses decreased $2.1 million in 2003, or 32.5%;
decreased $7.3 million in 2002, or 53.7%; and increased $12.6 million in 2001.
An uncertain economic environment and increasing delinquencies supported the
higher loan loss reserve for year-end 2002. An improving economy, and positive
credit performance trends, is reflected in both year-end 2003 reserve of 1.67%,
and an increasing ratio reserve to nonperforming loans of 272% as compared to
149% and 216% in previous two years ending 2002 and 2001, respectively.
Allocation of Allowance for Possible Loan Losses
Based on certain characteristics of the portfolio, potential losses can be
anticipated for major loan categories. In the following table, the allowance for
possible loan losses at year-end, for the last five years, has been allocated
among major loan categories based primarily on their historical net charge-off
experience, along with consideration of factors such as quality, volume,
anticipated economic conditions and other business considerations.
18
(In thousands, except percents)
- -------------------------------
Loan Loan Loan Loan Loan
2003 Category 2002 Category 2001 Category 2000 Category 1999 Category
Reserve Percent Reserve Percent Reserve Percent Reserve Percent Reserve Percent
-------- ------- ------ ------- ------- -------- -------- -------- ------- --------
Commercial $14,387 15.2% $15,561 16.4% $14,608 20.1% $11,611 20.6% $11,134 20.2%
Real Estate 14,412 82.5% 12,010 80.8% 11,070 76.8% 9,858 76.0% 9,453 76.6%
Installment 757 2.3% 604 2.8% 680 3.1% 438 3.4% 420 3.2%
------------------------------------------------------------------------------------------
TOTAL $29,556 100.0% $28,175 100.0% $26,358 100.0% $21,907 100.0% $21,007 100.0%
========= ======== ======== ======= ======== ======== ======== ======== ======== ========
Historical net charge-offs are not necessarily accurate indicators of future
losses since net charge-offs vary from period to period due to economic
conditions and other factors that cannot be accurately predicted. Thus, an
evaluation based on historical loss experience within individual loan categories
is only one of many factors considered by management in evaluating the adequacy
of the overall allocation.
In addition, regulatory agencies, as an integral part of their examination
process, periodically review the estimated losses on loans. Such agencies may
require the Bank to change the allowance based upon their judgment at the time
of their examination. It is the Bank's policy to be in compliance with all
accounting and regulatory standards related to loan loss reserves and all
accounting policies promulgated by GAAP.
Determination of the Reserve for Loan Losses - Qualitative Factors
The loan portfolio is separated by quality and then by loan type. Loans of
acceptable quality are evaluated as a group, by loan type, with a specific
reserve percent assigned to the total loans in each type, but unallocated to any
individual loan. Conversely, each adversely classified loan is individually
analyzed, to determine a "worst case" loss. A valuation allowance is also
assigned to these adversely classified loans, but at a higher percent due to the
greater risk of loss. For those loans where the "worse case" loss is greater
than the background percentage, the greater amount is specifically allocated to
the reserve.
Setting the level of loan loss reserve includes consideration of subjective
factors in addition to historical loss rates. Our analysis and calculations take
into consideration the inherent risks of a loan portfolio such as loan types,
current and expected economic conditions, industry data for loan losses within
different business cycles, growth of the loan portfolio, as well as other
factors, and management believes that the reserve is adequate based upon those
inherent risks. Loan concentrations, quality, terms and basic underlying
assumptions remained substantially unchanged during the period.
The analysis/formula for computing the allowance for possible loan losses was
further refined in 2001 and is consistent with SEC Accounting Bulletin No. 102,
Selected Loan Loss Allowance Methodology and Documentation Issues, dated July 6,
2001. From time to time estimated loss factors on certain types or categories of
loans may be changed and/or loans may be sorted into more or different
categories base on similar characteristics and perceived risk profiles by loan
type or industry.
Loan concentrations, quality, terms and basic underlying assumptions remained
substantially unchanged during the period. The actual loan loss reserve as a
percentage of total loans has declined over the last five years, mainly due to
mergers with institutions which had a lower reserve comparably, and due to loan
portfolio quality.
Effects of Changing Interest Rates
The year 2003 saw one decrease in our base (prime) rate, down to 4.25%. At
year-end, approximately 46% of the loan portfolio represented variable rate
loans, however, 20% of these loans had not yet reached their floor. This helped
lessen the negative impact of declining yield on the portfolio, which dropped to
7.51% from 8.24% the previous year. However, due to the effect of lower rates on
the deposit side of the balance sheet, the cost of deposits declined to 2.18%
from 3.03% a year earlier. This reduced the net interest margin to 5.16% from
5.38% a year earlier.
19
Concentrations of Credit
The Bank concentrates its lending activities in the following principal areas:
installment, commercial, real estate commercial, real estate construction, and
residential. As of December 31, 2003, these categories accounted for
approximately 2.3%, 15.2%, 45.6%, 28.7% and 8.2% of the total loan portfolio
respectively. This mix was relatively unchanged compared to previous years.
The most significant portion of the loan portfolio consists of commercial real
estate. The portfolio consists of a wide cross-section of retail, small office,
warehouse, and industrial type properties. These loans are secured by first
trust deeds with maturities from 3 to 10 years and original loan to value ratios
generally from 65% to 75%. A substantial number of these properties are
owner-occupied. While the Bank has significant balances within this lending
category, management believes that its lending policies and underwriting
standards are sufficient to minimize risk even during these uncertain economic
times. Our lending activities have avoided those real estate sectors that have
been most impacted by the economic slump. As an example, loans to hotel/motel
operations comprise less than 2.5% of the loan portfolio, and Class A properties
are an insignificant portion. Management closely monitors the effects of current
and expected market conditions and other factors that may influence the
repayment of these loans.
The chart below indicates the amount of those loans, and as a percent of total
loans for the period:
(In Thousands)
At December 31, 2003 2002 2001 2000 1999
------------ ------------ ------------ ------------ ------------
Real Estate Commercial $809,307 $758,826 $659,982 $585,283 $507,006
============ ============ ============ ============ ============
Total Loans at end of period $1,771,716 $1,658,684 $1,575,031 $1,378,115 $1,187,291
============ ============ ============ ============ ============
Real estate commercial
loans as a percent
of total loans 45.6% 45.7% 41.9% 42.5% 42.7%
============ ============ ============ ============ ============
Levels of, and Trends in, Delinquencies and Nonaccruals
Nonperforming loans and other real estate decreased in 2003 to $10.9 million,
from $19.0 million in 2002. Management monitors delinquencies monthly and
reports are prepared for the Board of Directors review. Delinquencies for the
commercial, personal, real estate and credit lines categories are charted
separately when presented to the Board. The current level of nonperforming loans
represents a 43% decrease by dollar amount from the previous year. Management
attributes these positive trends to an improving Northwest economy, and our
credit teams proactive attention toward early problem resolution.
Trends in Volume and Terms of Loans
Average loans for the year 2003 were $1.691 billion, representing an increase of
$90.0 million, or 5.6% over the average balance for 2002. Average loans for 2002
totaled $1.601 billion representing an increase of $76.9 million, or a 5.0%
increase over 2001 average loans outstanding. Loans did show favorable increases
throughout 2003 with most of the activity occurring during the third and fourth
quarter. However growth did not reach levels achieved during previous years.
Management believes the decreased rate of growth is a reflection of continuing
economic constraints impacting the viability of the region.
20
Conclusion of Qualitative Factors
The allowance for loan losses is the amount, which, in the opinion of
management, is necessary to absorb inherent loan losses regardless of source.
Management's evaluation of the adequacy of the allowance is based on the market
area served, local economic conditions, the growth and mix of the portfolio and
their related risk characteristics. Based upon actual historical loan loss rates
the loan loss reserve may appear to be somewhat larger than might be necessary,
however our analysis includes subjective factors that cause us to believe the
reserve is adequate, but not unduly conservative.
Deposits
For the average amount of deposits and rates paid on such deposits for years
ended December 31, 2003, 2002, and 2001 please refer to page 44 of 2003 Annual
Report to Shareowners.
Maturities of time certificates of deposit $100,000 and over at year-end 2003
are shown below:
(In thousands)
3 months or less $47,358
Over 3 months through 6 months 21,442
6 months through 12 months 80,284
Over 12 months 86,005
----------
TOTAL $235,089
==========
Significant Financial Ratios
- -------------------------------------
Ratios for the years ended December 31, are as follows:
2003 2002 2001
---------- ---------- ----------
Return on Average
Assets 1.96% 1.94% 1.35%
Return on Average
Equity 19.23% 18.36% 11.63%
Dividend payout ratio 32.38% 32.45% 44.91%
Average Equity to Average Assets 10.21% 10.57% 11.59%
Borrowings
- ----------
Short-Term Borrowings Weighted Weighted Weighted
- ---------------------
(In thousands) Average Average Average
Interest Interest Interest
At December 31, 2003 Rate 2002 Rate 2001 Rate
---------- ---------- ---------- ---------- -------------- ----------
Year-end balance: $10,015 0.89% $11,809 1.20% $7,696 3.26%
Highest month end
balance during
the period: $56,761 $21,826 $23,765
For information regarding average balances and yields, please refer to page 44 of 2003
Annual Report to Shareowners.
21
ITEM 2 - PROPERTIES
At December 31, 2003 the Bank had 39 offices, including the main office, all of
which are located in the State of Washington. These offices are located in
Arlington, Bainbridge Island, Bellingham, Bothell, Buckley, Duvall, Edmonds,
Everett (4), Kent, Kirkland, Lake City, Lake Stevens, Lynnwood, Marysville,
Puyallup, Mill Creek, Milton, Monroe, Mount Vernon, Orting, Port Angeles, Port
Hadlock, Port Townsend, Poulsbo (2), Redmond, Seattle (2), Sequim, Silverdale,
Smokey Point, Snohomish, Stanwood, Sumner, Tacoma, Totem Lake and Woodinville.
All of its branches are located in properties owned by FFP, Inc., a real estate
holding subsidiary, except for the offices located in Bellingham (lease expires
May 2004), Edmonds (lease expires July 2004), one office in Everett (lease
expires October 2014), Lake Stevens (lease expires May 2006), Mill Creek (lease
expires November 2010), Puyallup (building is owned, land lease expires 2009),
Mount Vernon (building owned, lease expires March 2023), Bainbridge Island
(lease expires July 2012) Poulsbo (lease expires on October 2003 on one of the
two branches there), Port Angeles (lease expires January 2019), Port Hadlock,
(lease expires January 2017), Seattle Metro (lease expires October 2013), Tacoma
(lease expires September 2011), Totem Lake (lease expires June 2005) and Milton
(Lease expires March 2005). FFP, Inc. also owns the building and land in South
Everett and Sumner where Frontier Bank data processing and operations
departments are located. In 2003 construction began on the Bank's new location
of the Bellingham office, which will be completed in the second quarter of 2004.
The land and building will be owned by FFP, Inc.
ITEM 3 - LEGAL PROCEEDINGS
The Corporation is involved in ordinary routine litigation arising in the normal
course of business. In the opinion of management, liabilities (if any) arising
from such claims will not have a material effect on the business, results of
operations or financial condition of the Corporation.
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SHAREOWNERS
No matters were submitted to security holders during the fourth quarter
of 2003.
PART II
ITEM 5 - MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREOWNER MATTERS
(a) Frontier Financial Corporation's common stock is traded on the Nasdaq
market under the symbol FTBK. The table below indicates the high/low
trading range of Frontier stock over the last eight quarters:
High Low
------ ------
1st quarter 2002 $27.00 $25.20
2nd quarter 2002 30.05 26.33
3rd quarter 2002 30.35 24.67
4th quarter 2002 27.05 25.00
1st quarter 2003 26.20 24.33
2nd quarter 2003 30.00 24.12
3rd quarter 2003 32.00 27.62
4th quarter 2003 34.95 29.99
(b) Frontier Financial Corporation has only one class of stock outstanding,
which is common stock. At February 29, 2004 there were 18,602,824 shares
outstanding.
22
(c) The table below indicates the cash dividends paid on each share of its
common stock over the last two years:
Dividend Declared Record Date Payment Date
----------------- ----------- ------------
$.145 January 7, 2002 January 21, 2002
.15 April 15, 2002 April 29, 2002
.155 July 8, 2002 July 22, 2002
.16 October 7, 2002 October 21, 2002
$.165 January 6, 2003 January 21, 2003
.17 April 14, 2003 April 28, 2003
.175 July 7, 2003 July 28, 2003
.18 October 6, 2003 October 27, 2003
Issuer Purchases of Equity Securities (d) Maximum Number
-------------------------------------
(or Approximate
(c) Total Number Dollar Value) of
of
(a) Total Number (b) Average Shares (or Shares (or Units)
Price Units)
of Shares (or Paid per Share Purchased as Part that May be
of
Period Units) Purchased (or Unit) Publicly Purchased Under the
Announced
Plans or Plans or Programs
Programs
----------------- ------------------ ---------------- ---------------- -------------------
October 1, 2003
thru
October 31, 2003 - N/A 2,332,100 591,050
----------------- ------------------ ---------------- ---------------- -------------------
November 1, 2003
thru
November 30, 2003 - N/A 2,332,100 591,050
----------------- ------------------ ---------------- ---------------- -------------------
December 1, 2003
thru
December 31, 2003 - N/A 2,332,100 591,050
----------------- ------------------ ---------------- ---------------- -------------------
Total - - 2,332,100 591,050
================== ================ ================ ===================
%%%%-DO-NOT-MODIFY-THIS-LINE-%%%%_Table_15_Start
Date Plan expired Date Plan was
Number of during period was terminated
Date Shares (Units) Expiration covered by if prior
Plan No. Announced Approved Date above date to expiration
- --------- -------------- -------------- -------------- ------------------- --------------
1 01/20/2000 990,251 09/11/2001 N/A 03/16/2000 (1)
2 10/18/2001 989,743 10/18/2003 N/A 10/17/2002
3 10/17/2002 943,156 10/17/2004 N/A N/A
--------------
Total 2,923,150
==============
(1) Plan was cancelled on 03-16-00 due to pending merger.
23
ITEM 6 - SELECTED FINANCIAL DATA
- --------------------------------
FINANCIAL HIGHLIGHTS
-----------------------
In thousands
- ----------
% Change
AT YEAR-END 2003 2002 2001 2000 1999 2003-2002
----------- ----------- ----------- ----------- ----------- ----------
Total assets $2,075,393 $1,943,727 $1,806,740 $1,690,818 $1,425,411 6.8%
Net loans 1,742,160 1,630,509 1,548,673 1,356,208 1,166,284 6.8%
Deposits 1,667,017 1,560,876 1,498,370 1,374,627 1,123,716 6.8%
Investment securities 187,915 140,037 81,770 143,651 155,034 34.2%
Shareowners' equity 219,406 198,863 183,530 191,777 168,260 10.3%
FOR THE YEAR
Interest income $135,201 $138,859 $149,055 $142,921 $118,465 -2.6%
Interest expense 37,829 45,581 65,456 62,728 45,452 -17.0%
Securities gains(losses) 190 -480 0 0 0
Provision for loan losses 4,250 6,300 13,600 1,007 2,266 -32.5%
Net income 39,607 36,014 24,499 32,116 28,299 10.0%
Basic earnings per share $2.13 $1.88 $1.22 $1.63 $1.43 13.3%
Diluted earnings per share $2.12 $1.87 $1.21 $1.62 $1.42 13.4%
Cash dividends declared per common
share $0.69 $0.61 $0.53 $0.42 $0.25 13.1%
Return on Average
Assets 1.96% 1.94% 1.35% 2.03% 2.06%
Equity 19.23% 18.36% 11.63% 17.60% 17.76%
Avg. equity/avg. assets 10.21% 10.57% 11.59% 11.52% 11.59%
Efficiency Ratio 41.00% 40.00% 43.00% 44.00% 44.00%
ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Please see 2003 Annual Report to Shareowners, page 28 through 45.
ITEM 7A - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Please see 2003 Annual Report to Shareowners, page 33-36 and
38-39. Please see this Form 10-K, page 19-21.
24
ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO FINANCIAL STATEMENTS
Annual
Form Report to
10-K Shareowners
Page Page
---- ----------
Report of Management 1
Independent Auditor's Report 2
Consolidated Balance Sheet at
December 31, 2003 and 2002 3
Consolidated Statement of Income for the years
Ended December 31, 2003, 2002 and 2001 4
Consolidated Statement of Shareowners' Equity 5
Consolidated Statement of Cash Flows for the
Years ended December 31, 2003, 2002 and 2001 6
Condensed Balance Sheet (Parent Only) at
December 31, 2003 and 2002 24
Condensed Statement of Income (Parent Only) for the
Years Ended December 31, 2003, 2002 and 2001 24
Condensed Statement of Cash Flows (Parent Only)
for Years Ended December 31, 2003, 2002 and 2001 25
Notes to Consolidated Financial Statements 7 - 27
ITEM 9 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
ITEM 9A - CONTROLS AND PROCEDURES
The Corporation's management, including the Corporation's Chief Executive
Officer and Chief Financial Officer, evaluated the effectiveness of its
disclosure controls and procedures as of December 31, 2003. Based on this
evaluation, the Chief Executive Officer and the Chief Financial Officer each
concludes that as of December 31, 2003, the Corporation maintained effective
disclosure controls and procedures in all material respects, including those to
ensure that information required to be disclosed in reports filed or submitted
with the SEC is recorded, processed, and reported within the time periods
specified by the SEC, and is accumulated and communicated to management,
including the Chief Executive Officer and the Chief Financial Officer, as
appropriate to allow for timely decisions regarding required disclosure.
There has been no change in the Corporation's internal control over financial
reporting in the period covered by this report that have materially affected, or
are reasonably likely to affect, the Corporation's internal control over
financial reporting.
25
PART III
ITEM 10 - DIRECTORS AND EXECUTIVE OFFICERS OF FRONTIER FINANCIAL
CORPORATION
Please see page 3 - 14 of 2004 Proxy Statement.
ITEM 11 - EXECUTIVE COMPENSATION
Please see pages 9 - 11 of 2004 Proxy Statement.
ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT AND RELATED SHAREOWNER MATTERS
Please see pages 7 - 8 of 2004 Proxy Statement.
ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Please see page 14 of 2004 Proxy Statement; and, Note 13,
page 21 of 2003 Annual Report to Shareowners.
ITEM 14 - PRINCIPAL ACCOUNTANT FEES AND SERVICES
Please see page 15 of 2004 Proxy Statement.
26
PART IV
ITEM 15 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of the report:
1. Financial Statements.
Financial statements required by Item 8 of this report are
incorporated by reference, from the 2003 Annual Report to Shareowners.
3. Exhibits.
(3)(a) Articles of Incorporation are incorporated herein by
reference to Appendix A to the registrant's definitive Proxy
Statement on Schedule 14A filed on March 20, 1998 (File No.
000-15540).
(3)(b) By-Laws are incorporated herein by reference to Exhibit
3(ii) to Form 10Q filed on October 29, 2003.
(10)(a) Amended and Restated Frontier Financial Corporation
Incentive Stock Option Plan incorporated by reference to
Exhibit 99.1 to Registration Statement on Form S-8, filed
March 27, 1998 (File No. 333-48805).
(10)(b) Frontier Financial Corporation 1999 Employee Stock Award
Plan, is incorporated herein by reference to Exhibit 99.1 to
Registration Statement on Form S-8, filed March 2, 1999
(File No. 333-73217).
(10)(c) Frontier Financial Corporation 2001 Stock Award Plan, is
incorporated herein by reference to Exhibit 99.1 to
Registration Statement on Form S-8, filed January 26, 2001,
(File No. 333-54362).
(10)(d) Frontier Financial Corporation Employee Stock Option Plan
and Interbancorp, Inc. Director Stock Option Plan, is
incorporated herein by reference to Exhibit 10.1 to
Registration Statement on Form S-8, filed January 26, 2001
(File No. 333-37242).
(10)(e) Interbancorp, Inc. Employee Stock Option Plan and
Interbancorp, Inc. Director Stock Option Plan, is
incorporated herein by reference to Exhibit 10.1 to
Registration Statement on Form S-8, filed February 13, 2001
(File No. 333-50882).
(11) Statement Regarding Computation of Earnings Per Share.
(13) Annual Report to Shareowners for the year ended December 31,
2003, is incorporated herein by reference to the Annual
Report on Schedule 14A, filed March 12, 2004.
(21) Subsidiaries of Registrant is incorporated by reference to
Part I, page 1 of this report.
(23.1) Consent of Moss Adams LLP, independent auditors.
(31.1) Certification of Chief Executive Officer Pursuant to Section
302 of the Sarbanes-Oxley Act.
(31.2) Certification of Chief Financial Officer Pursuant to Section
302 of the Sarbanes-Oxley Act.
(32.1) Certification of Chief Executive Officer Pursuant to Section
906 of the Sarbanes- Oxley Act.
(32.2) Certification of Chief Financial Officer Pursuant to Section
906 of the Sarbanes-Oxley Act.
(b) Reports on Form 8-K:
27
On October 16, 2003, Form 8-K was filed announcing retirements and a
resignation from the Board of Directors.
On October 21, 2003, Form 8-K was filed announcing third quarter earnings.
28
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.
FRONTIER FINANCIAL CORPORATION
March 11, 2004 /s/ Michael Clementz
- -------------- ------------------------------------
Date Michael Clementz
President & Chief Executive Officer
March 11, 2004 /s/ Carol E. Wheeler
- -------------- ------------------------------------
Date Carol E. Wheeler
Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated:
March 11, 2004 /s/George Barber
- -------------- ------------------------------------
George E. Barber, Director
March 11, 2004 /s/ Michael Clementz
- -------------- -------------------------------------
Michael Clementz, Director
March 11, 2004 /s/ Lucy DeYoung
- -------------- -------------------------------------
Lucy DeYoung, Director
March 11, 2004 /s/ John J. Dickson
- -------------- -------------------------------------
John J. Dickson, Director
March 11, 2004 /s/ Robert J. Dickson
- -------------- -----------------------------------------
Robert J. Dickson, Chairman of the Board
March 11, 2004 /s/ Edward D. Hansen
- -------------- -----------------------------------------
Edward D, Hansen, Director
March 11, 2004 /s/ William H. Lucas
- -------------- -------------------------------------
William H. Lucas, Director
March 11, 2004 /s/ James H. Mulligan
- -------------- -------------------------------------
James H. Mulligan, Director
March 11, 2004 /s/ William J. Robinson
- -------------- -------------------------------------
William J. Robinson, Director
March 11, 2004 /s/ Edward C. Rubatino
- -------------- -------------------------------------
Edward C. Rubatino, Director
March 11, 2004 /s/ Darrell J. Storkson
- -------------- -------------------------------------
Darrell J. Storkson, Director
29