BANK MUTUAL CORP - 10-Q Quarterly Report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

Form 10-Q

x	Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended September 30, 2004

¨	Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

Commission File Number 000-31207

BANK MUTUAL CORPORATION

(Exact name of registrant as specified in its charter)

Wisconsin

39-2004336

(State or other jurisdiction of

incorporation or organization)

(IRS Employer Identification No.)

4949 West Brown Deer Road

Milwaukee, WI 53223

(414) 354-1500

(Address, including Zip Code, and telephone number,

including area code, of registrant’s principal executive offices)

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, and (2) has been subject to such filing requirements for the past 90 days.

Yes x No ¨

Indicate by checkmark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

Yes x No ¨

The number of shares outstanding of the issuer’s common stock $0.01 par value per share, was 78,417,764 shares, at November 2, 2004.

BANK MUTUAL CORPORATION

10-Q INDEX


		Page No.
PART I.	FINANCIAL INFORMATION

Item l.	Financial Statements

	Unaudited Consolidated Statements of Financial Condition as of September 30, 2004 and December 31, 2003	3

	Unaudited Consolidated Statements of Income for the three months ended September 30, 2004 and 2003	4

	Unaudited Consolidated Statements of Income for the nine months ended September 30, 2004 and 2003	5

	Unaudited Consolidated Statements of Shareholders’ Equity for the nine months ended September 30, 2004 and 2003	6

	Unaudited Consolidated Statements of Cash Flows for the nine months ended September 30, 2004 and 2003	7-8

	Notes to Unaudited Consolidated Financial Statements	9-22

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	23-41

Item 3.	Quantitative and Qualitative Disclosures about Market Risk	42-45

Item 4.	Controls and Procedures	46

PART II.	OTHER INFORMATION

Item 2.	Unregistered Sale of Equity Securities and Use of Proceeds	47

Item 5.	Other Information	48

Item 6.	Exhibits	48

	Signatures	49

PART I - FINANCIAL INFORMATION

Item 1.

Financial Statements

BANK MUTUAL CORPORATION

AND SUBSIDIARIES

UNAUDITED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION


	September 30 2004			December 31 2003
	*(In thousands)*
Assets
Cash and due from banks	$	26,469		$	36,384
Federal funds sold		—			30,000
Interest-earning deposits		6,458			20,119

Cash and cash equivalents		32,927			86,503
Securities available-for-sale, at fair value:
Investment securities		65,905			67,833
Mortgage-related securities		1,048,313			1,053,349
Loans held for sale		5,606			4,056
Loans receivable, net		1,831,110			1,712,278
Goodwill		52,570			52,570
Other intangible assets		4,577			5,073
Mortgage servicing rights		4,615			4,698
Other assets		129,521			122,167

	$	3,175,144		$	3,108,527

Liabilities and shareholders’ equity
Liabilities:
Deposits	$	1,979,423		$	2,052,290
Borrowings		416,282			299,491
Advance payments by borrowers for taxes and insurance		28,665			2,987
Other liabilities		23,701			22,679

		2,448,071			2,377,447

Minority interest in real estate development		2,296			—

Shareholders’ equity:
Preferred stock – $.01 par value:
Authorized– 20,000,000 shares in 2004 and 2003 Issued and outstanding – none in 2004 and 2003		—			—
Common stock – $.01 par value:
Authorized– 200,000,000 shares in 2004 and 2003 Issued – 78,783,849 shares in 2004 and 78,775,779 in 2003 Outstanding – 78,410,264 shares in 2004 and 78,775,779 in 2003		788			788
Additional paid-in capital		495,453			495,990
Retained earnings		253,175			241,958
Unearned ESOP shares		(4,877	)		(5,766	)
Accumulated other comprehensive income		(5,066	)		149
Unearned deferred compensation		(10,785	)		(2,039	)
Treasury stock – 373,585 shares in 2004		(3,911	)		—

Total shareholders’ equity		724,777			731,080

	$	3,175,144		$	3,108,527

See Notes to Unaudited Consolidated Financial Statements.

BANK MUTUAL CORPORATION

AND SUBSIDIARIES

UNAUDITED CONSOLIDATED STATEMENTS OF INCOME


	Three Months Ended September 30
	2004			2003
	(In thousands, except per share data)
Interest income:
Loans	$	24,421		$	25,494
Investment securities		955			1,125
Mortgage-related securities		11,352			6,418
Interest-earning deposits		28			765

Total interest income		36,756			33,802
Interest expense:
Deposits		10,425			12,484
Borrowings		3,976			4,462
Advance payments by borrowers for taxes and insurance		12			29

Total interest expense		14,413			16,975

Net interest income		22,343			16,827
Provision for loan losses		267			—

Net interest income after provision for loan losses		22,076			16,827
Noninterest income:
Service charges on deposits		1,226			1,259
Brokerage and insurance commissions		653			547
Loan related fees and servicing revenue		282			1,001
Gain on sale of investments		—			—
Gain on sales of loans		253			2,761
Gain on sale of real estate		2,009			—
Loss on retirement of debt		(1,737	)		—
Other		1,190			598

Total noninterest income		3,876			6,166

Noninterest expenses:
Compensation, payroll taxes and other employee benefits		9,242			8,143
Occupancy and equipment		2,894			2,757
Amortization of other intangible assets		165			165
Other		2,758			3,015

Total noninterest expenses		15,059			14,080

Income before income taxes		10,893			8,913
Income taxes		3,859			2,912

Net income	$	7,034		$	6,001

Per share data:
Earnings per share – basic	$	0.09		$	0.08

Earnings per share – diluted	$	0.09		$	0.08

Cash dividends paid	$	0.05		$	0.03

See Notes to Unaudited Consolidated Financial Statements.

BANK MUTUAL CORPORATION

AND SUBSIDIARIES

UNAUDITED CONSOLIDATED STATEMENTS OF INCOME


	Nine Months Ended September 30
	2004			2003
	(In thousands, except per share data)
Interest income:
Loans	$	72,002		$	80,123
Investment securities		2,952			3,571
Mortgage-related securities		34,563			20,552
Interest-earning deposits		153			1,828

Total interest income		109,670			106,074
Interest expense:
Deposits		31,501			39,857
Borrowings		11,827			13,644
Advance payments by borrowers for taxes and insurance		24			61

Total interest expense		43,352			53,562

Net interest income		66,318			52,512
Provision for loan losses		1,141			367

Net interest income after provision for loan losses		65,177			52,145
Noninterest income:
Service charges on deposits		3,452			3,557
Brokerage and insurance commissions		2,128			1,822
Loan related fees and servicing revenue		1,167			248
Gain on sale of investments		537			121
Gain on sales of loans		1,233			6,467
Gain on sale of real estate		2,009			—
Loss on retirement of debt		(1,737	)		—
Other		3,363			3,493

Total noninterest income		12,152			15,708

Noninterest expenses:
Compensation, payroll taxes and other employee benefits		26,713			23,674
Occupancy and equipment		8,306			8,168
Amortization of other intangible assets		496			496
Other		9,316			9,483

Total noninterest expenses		44,831			41,821

Income before income taxes		32,498			26,032
Income taxes		11,272			8,982

Net income	$	21,226		$	17,050

Per share data:
Earnings per share – basic	$	0.28		$	0.22

Earnings per share – diluted	$	0.27		$	0.22

Cash dividends paid	$	0.130		$	0.084

See Notes to Unaudited Consolidated Financial Statements.

BANK MUTUAL CORPORATION

AND SUBSIDIARIES

UNAUDITED CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY


	Common Stock		Additional Paid-In Capital			Retained Earnings			Unearned ESOP Shares			Accumulated Other Comprehensive Income (Loss)			Unearned Deferred Compensation			Treasury Stock			Total
	*(In thousands)*
For the Nine Months Ended September 30, 2004
Balance at January 1, 2004	$	788	$	495,990		$	241,958		$	(5,766	)	$	149		$	(2,039	)	$	—		$	731,080
Comprehensive income:
Net income		—		—			21,226			—			—			—			—			21,226
Other comprehensive income Change in net unrealized gain on securities available-for-sale, net of deferred income tax liability of $3,021		—		—			—			—			(5,215	)		—			—			(5,215	)

Total comprehensive income		—		—			—			—			—			—			—			(16,011	)
Purchase of treasury stock		—		—			—			—			—			—			(17,463	)		(17,463	)
Issuance of management recognition plan shares		—		(23	)		—			—			—			(10,193	)		10,216			—
Committed ESOP shares		—		1,815			—			889			—			—			—			2,704
Exercise of stock options		—		(2,329	)		—			—			—			—			3,336			1,007
Amortization of deferred compensation		—		—			—			—			—			1,447			—			1,447
Cash dividends ($0.13 per share)		—		—			(10,009	)		—			—			—			—			(10,009	)

Balance at September 30, 2004	$	788	$	495,453		$	253,175		$	(4,877	)	$	(5,066	)	$	(10,785	)	$	(3,911	)	$	724,777

For the Nine Months Ended September 30, 2003
Balance at January 1, 2003	$	820	$	108,477		$	224,932		$	(6,647	)	$	10,487		$	(3,133	)	$	(11,861	)	$	323,075
Comprehensive income:
Net income		—		—			17,050			—			—			—			—			17,050
Other comprehensive income Change in net unrealized gain on securities available-for-sale, net of deferred income tax liability of $4,021		—		—			—			—			(7,252	)		—			—			(7,252	)

Total comprehensive income		—		—			—			—			—			—			—			9,798
Purchase of treasury stock		—		—			—			—			—			—			(8,011	)		(8,011	)
Committed ESOP shares		—		1,161			—			890			—			—			—			2,051
Exercise of stock options		—		(458	)		—			—			—			—			1,192			734
Amortization of deferred compensation		—		—			—			—			—			907			(461	)		446
Cash dividends ($0.084 per share)		—		—			(3,170	)		—			—			—			—			(3,170	)

Balance at September 30, 2003	$	820	$	109,180		$	238,812		$	(5,757	)	$	3,235		$	(2,226	)	$	(19,141	)	$	324,923

See Notes to Unaudited Consolidated Financial Statements.

BANK MUTUAL CORPORATION

AND SUBSIDIARIES

UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS


	Nine Months Ended September 30
	2004			2003
	*(In thousands)*
Operating activities:
Net income	$	21,226		$	17,050
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for loan losses		1,141			367
Provision for depreciation		2,509			2,142
Amortization of intangibles		496			496
Net change in mortgage servicing rights		83			(1,717	)
Amortization of cost of stock benefit plans		4,151			2,497
Net discount amortization on securities		389			1,830
Net gain on sale of available-for-sale securities		(537	)		(121	)
Net change in loans originated or held for sale		(317	)		41,710
Gains on sales of loans		(1,233	)		(2,761	)
Gain on sale of real estate owned		(2,009	)		(47	)
Increase (decrease) in other liabilities		6,630			(232	)
Increase in other assets		(14,438	)		(1,302	)
Decrease in accrued interest receivable		24			1,895

Net cash provided by operating activities		18,115			61,807
Investing activities:
Net purchases of mutual funds		(690	)		(10,675	)
Proceeds from maturities of investment securities		26,250			111,572
Purchases of investment securities		(24,015	)		(107,602	)
Purchases of mortgage-related securities		(228,613	)		(436,209	)
Principal repayments on mortgage-related securities		225,555			403,911
Proceeds from sale of investment securities		537			8,076
Net (increase) decrease in loans receivable		(115,635	)		6,022
Proceeds from sale of foreclosed properties		2,986			690
Proceeds from sale of real estate		2,182			—
Net increase in Federal Home Loan Bank stock		(1,653	)		(2,002	)
Net purchases of premises and equipment		(1,292	)		(3,118	)

Net cash used by investing activities		(114,388	)		(29,335	)

BANK MUTUAL CORPORATION

AND SUBSIDIARIES

UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)


	Nine Months Ended September 30
	2004			2003
	*(In thousands)*
Financing activities:
Net decrease in deposits	$	(73,307	)	$	(30,175	)
Net increase (decrease) in short-term borrowings		144,000			(22,679	)
Proceeds from long-term borrowings		204,746			4,350
Repayments on long-term borrowings		(231,955	)		(28,778	)
Net increase in advance payments by borrowers for taxes and insurance		25,678			26,863
Proceeds from exercise of stock options		1,007			734
Cash dividends		(10,009	)		(3,170	)
Purchase of treasury stock		(17,463	)		(8,011	)

Net cash provided (used) by financing activities		42,697			(60,866	)

Decrease in cash and cash equivalents		(53,576	)		(28,394	)
Cash and cash equivalents at beginning of period		86,503			241,759

Cash and cash equivalents at end of period	$	32,927		$	213,365

Supplemental information:
Interest paid on deposits	$	31,062		$	39,361
Income taxes paid		11,990			10,274
Loans transferred to foreclosed properties and repossessed assets		4,337			861

See Notes to Unaudited Consolidated Financial Statements.

BANK MUTUAL CORPORATION

AND SUBSIDIARIES

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Note 1 - Basis of Presentation

The consolidated financial statements include the accounts of Bank Mutual Corporation, its wholly-owned subsidiary Bank Mutual (the “Bank”) and the Bank’s subsidiaries.

From November 1, 2000 until October 29, 2003, Bank Mutual Corporation was an OTS chartered United States corporation which became the mid-tier holding company in the regulatory restructuring of Mutual Savings Bank, into mutual holding company form. Until October 29, 2003, Bank Mutual Bancorp, MHC (the “MHC”), a U.S.-chartered mutual holding company of which Mutual Savings Bank’s depositors held all of the voting and membership rights, owned 52.2% of Bank Mutual Corporation’s outstanding common stock.

On November 1, 2000, Bank Mutual Corporation also acquired First Northern Capital Corp., the parent of First Northern Savings Bank. On March 16, 2003, Mutual Savings Bank and First Northern Savings Bank combined to form a single OTS chartered savings bank subsidiary of Bank Mutual Corporation called Bank Mutual (“Bank Mutual” or the “Bank”).

On October 29, 2003, Bank Mutual Corporation completed a conversion and reorganization from a mutual holding company form, established a new Wisconsin chartered Bank Mutual Corporation and, in effect, sold the MHC’s interest in Bank Mutual Corporation to the public. Existing Bank Mutual Corporation shareholders exchanged each existing share for 3.6686 shares of the new Bank Mutual Corporation. The total number of shares issued and exchanged in the offering and conversion was 78,707,669 shares.

All share and per share numbers in these financial statements have been adjusted to reflect the full conversion transaction and related 3.6686 for 1 share exchange.

As used herein, the “Company” and Bank Mutual Corporation refer to Bank Mutual Corporation both before and after the full conversion transaction

The accompanying unaudited financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information, Rule 10-01 of Regulation S-X and the instructions to Form 10-Q. The financial statements do not include all of the information and footnotes required by generally accepted accounting principles for complete financial information. In the opinion of Bank Mutual Corporation, the accompanying Unaudited Consolidated Statements of Financial Condition, Unaudited Consolidated Statements of Income, Unaudited Consolidated Statements of Shareholders’ Equity and Unaudited Consolidated Statements of Cash Flows contain all adjustments, which are of a normal recurring nature, necessary to present fairly the consolidated financial position of Bank Mutual Corporation and subsidiaries at September 30, 2004 and December 31, 2003, the results of their income for the three and nine months ended September 30, 2004 and 2003, the changes in shareholders’ equity

for the nine months ended September 30, 2004 and 2003, and their cash flows for the nine months ended September 30, 2004 and 2003. The accompanying Unaudited Consolidated Financial Statements and related notes should be read in conjunction with Bank Mutual Corporation’s 2003 Annual Report on Form 10-K. Operating results for the three and nine months ended September 30, 2004, are not necessarily indicative of the results that may be expected for the year ending December 31, 2004.

In January 2003, the Financial Accounting Standards Board issued Financial Interpretation Number (“FIN”) 46. FIN 46 requires the consolidation of entities in which an enterprise absorbs a majority of the entity’s expected losses, receives a majority of the entity’s expected residual returns, or both, as a result of ownership, contractual or other financial interest in the entity. The provisions of this statement were effective immediately for variable interests in variable interest entities (“VIE’s”) created after January 31, 2003. The Corporation adopted FIN 46 for the quarter ended December 31, 2003.

As a result of the consolidation of the Arrowood Development, LLC in which the Corporation has a 50% interest, which was established in the third quarter of 2004, into Bank Mutual’s financial statements as required by FIN 46, other assets increased by $2.3 million. The increase in assets was accompanied by minority interest (the other partner’s ownership interests) of $2.3 million on the statement of financial condition as a mezzanine item, after liabilities and before shareholders’ equity.

Note 2 - Securities Available-for-Sale

The amortized cost and fair value of investment securities available-for-sale are as follows:


	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Estimated Fair Value
At September 30, 2004:
Investment securities:
U.S. government and federal agency obligations	$	19,218	$	95	$	(135	)	$	19,178
Mutual funds		45,741		14		(594	)		45,161
Federal Home Loan Mortgage Corporation stock		1,440		126		—			1,566

Total investment securities		66,399		235		(729	)		65,905
Mortgage-related securities:
Federal Home Loan Mortgage Corporation		565,432		1,735		(6,755	)		560,412
Federal National Mortgage Association		424,181		3,247		(5,448	)		421,980
Private Placement CMOs		121		1		—			122
Government National Mortgage Association		66,102		111		(414	)		65,799

Total mortgage-related securities		1,055,836		5,094		(12,617	)		1,048,313

Total	$	1,122,235	$	5,329	$	(13,346	)	$	1,114,218

The Company does not believe any individual unrealized loss as of September 30, 2004 represents an other-than-temporary impairment. The unrealized losses reported for mortgage-backed securities relate primarily to securities issued by FNMA, FHLMC and private institutions. These unrealized losses are primarily attributable to changes in interest rates.


	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Estimated Fair Value
At December 31, 2003:
Investment securities:
U.S. government and federal agency obligations	$	21,434	$	352	$	(50	)	$	21,736
Mutual funds		45,051		20		(374	)		44,697
Federal Home Loan Mortgage Corporation stock		1,440		—		(40	)		1,400

Total investment securities		67,925		372		(464	)		67,833
Mortgage-related securities:
Federal Home Loan Mortgage Corporation		518,893		3,053		(3,774	)		518,172
Federal National Mortgage Association		444,167		4,700		(3,371	)		445,496
Private Placement CMOs		537		6		—			543
Government National Mortgage Association		89,589		322		(773	)		89,138

Total mortgage-related securities		1,053,186		8,081		(7,918	)		1,053,349

Total	$	1,121,111	$	8,453	$	(8,382	)	$	1,121,182

The amortized cost and fair values of investment securities by contractual maturity at September 30, 2004, are shown below. Actual maturities may differ from contractual maturities because issuers have the right to call or prepay obligations with or without call or prepayment penalties.


	Amortized Cost		Fair Value
Due in one year or less	$	4,498	$	4,594
Due after one year through five years		14,720		14,585
Due after five years through ten years		—		—
Mutual funds		45,741		45,161
Federal Home Loan Mortgage Corporation stock		1,440		1,566
Mortgage-related securities		1,055,836		1,048,312

	$	1,122,235	$	1,114,218

Note 3 - Loans Receivable

Loans receivable consist of the following:


	September 30 2004			December 31 2003
Mortgage loans:
One-to-four family	$	864,324		$	793,247
Multifamily		167,049			124,494
Commercial real estate		203,093			209,293
Construction and development		127,702			122,436

Total mortgage loans		1,362,168			1,249,470
Consumer loans and other loans:
Fixed home equity		263,305			252,550
Home equity lines of credit		86,656			78,567
Student		21,123			20,546
Home improvement		23,469			12,605
Automobile		64,307			67,630
Other		16,193			18,623

Total consumer loans		475,053			450,521
Total commercial business loans		70,279			75,022

Total loans receivable		1,907,500			1,775,013
Less:
Undisbursed loan proceeds		62,762			47,743
Allowance for loan losses		13,898			13,771
Unearned loan fees and discounts		(270	)		1,221

		76,390			62,735

Total loans receivable, net	$	1,831,110		$	1,712,278

Bank Mutual Corporation’s mortgage loans and home equity loans are primarily secured by properties housing one-to-four families which are generally located in Bank Mutual’s local lending areas in Wisconsin and Minnesota. In addition, Bank Mutual has purchased some loans in other Midwest states.

Note 4 – Goodwill, Other Intangible Assets and Mortgage Servicing Rights

The carrying amount of mortgage servicing rights net of accumulated amortization and the associated valuation allowance at September 30, 2004 and December 31, 2003 are presented in the following table.


	September 30 2004			December 31 2003
Mortgage servicing rights at beginning of year	$	4,698		$	6,149
Capitalized servicing rights		1,188			4,480
Amortization of servicing rights		(1,271	)		(5,931	)

Mortgage servicing rights at end of period		4,615			4,698
Valuation allowance		—			—

Balance	$	4,615		$	4,698

The carrying amounts of the intangible assets, net of accumulated amortization, valuation allowance and net carrying amounts of intangible assets at September 30, 2004 are presented in the following table.


Intangible Assets	Intangible Asset Amount Net of Accumulated Amortization		Valuation Allowance		Carrying Amount
Goodwill	$	52,570	$	—	$	52,570
Mortgage servicing rights		4,615		—		4,615
Deposit base intangibles		4,577		—		4,577

Total	$	61,762	$	—	$	61,762

The projections of amortization expense shown below for mortgage servicing rights are based on existing asset balances and the existing interest rate environment as of September 30, 2004. Future amortization expense may be significantly different depending upon changes in the mortgage servicing portfolio, mortgage interest rates and market conditions.

The following table shows the current period and estimated future amortization expense for amortizable intangible assets:


	Mortgage Servicing Rights		Deposit Base Intangibles		Total
	*(In thousands)*
Nine months ended September 30, 2004 (actual)	$	1,271	$	496	$	1,767

Three months ending December 31, 2004 (estimate)	$	241	$	165	$	406
Estimate for year ending December 31,
2005		959		661		1,620
2006		957		661		1,618
2007		953		661		1,614
2008		926		618		1,544
2009		515		405		920
Thereafter		64		1,406		1,470

	$	4,615	$	4,577	$	9,192

Note 5 - Other Assets

Other Assets are summarized as follows:


	September 30 2004		December 31 2003
Accrued interest:
Mortgage-related securities	$	3,856	$	4,034
Investment securities		137		200
Loans receivable		6,803		6,586

Total accrued interest		10,796		10,820
Foreclosed properties and repossessed assets		1,169		630
Premises and equipment		43,979		45,196
Federal Home Loan Bank stock, at cost		37,151		35,498
Bank owned life insurance		19,068		18,268
Other		17,358		11,755

	$	129,521	$	122,167

Note 6 - Deposits

Deposits are summarized as follows:


	September 30 2004		December 31 2003
Checking accounts:
Noninterest-bearing	$	105,571	$	110,099
Interest-bearing		155,070		157,231

		260,641		267,330
Money market accounts		326,392		358,003
Savings accounts		255,528		240,543
Certificate accounts:
Due within one year		560,966		510,195
After one but within two years		268,913		318,652
After two but within three years		201,708		140,604
After three but within four years		71,153		192,203
After four but within five years		34,122		24,760
After five years		—		—

		1,136,862		1,186,414

	$	1,979,423	$	2,052,290

Note 7 - Borrowings

Borrowings consist of the following:


	September 30 2004				December 31 2003
	Balance		Weighted- Average Rate		Balance		Weighted- Average Rate
Federal Home Loan Bank advances maturing:
2004	$	—	—		$	231,775	5.61	%
2005		18,002	5.20	%		17,996	5.20
2006		207,952	2.83			7,948	4.85
2007		—	—			—	—
2008		1,025	5.90			1,024	5.90
Thereafter		45,303	5.21			40,748	5.23
Open-line of credit		144,000	1.33			—	—

	$	416,282			$	299,491

The Bank is required to maintain unencumbered mortgage loans in its portfolio aggregating at least 167% of the amount of outstanding advances from the FHLB as collateral. The Bank’s borrowings at the FHLB are limited to the lesser of 35% of total assets or 60% of the book value of certain mortgage loans. In addition, these advances are collateralized by FHLB stock of $37,151 and $35,498 at September 30, 2004 and December 31, 2003, respectively.

Note 8 - Shareholders’ Equity

The Bank is subject to various regulatory capital requirements administered by the federal banking agencies. OTS can initiate certain mandatory, and possible additional discretionary actions, which, if undertaken, could have a direct material effect on Bank Mutual Corporation’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank’s assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. The Bank’s capital amounts and classifications are also subject to qualitative judgments by the OTS about components, risk weightings and other factors.

Quantitative measures established by federal regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios (set forth in the following table) of total and Tier I capital to risk-weighted assets (as these terms are defined in regulations), and of Tier I capital to total assets (as these terms are defined in regulations). Management believes, as of September 30, 2004, that the Bank meets or exceeds all capital adequacy requirements to which it is subject.


	Actual				Required For Capital Adequacy Purposes				To Be Well Capitalized Under Prompt Corrective Action Provisions
	Amount		Ratio		Amount		Ratio		Amount		Ratio
The Bank
As of September 30, 2004:
Total risk-based capital	$	469,337	29.80	%	$	125,987	8.00	%	$	157,484	10.00	%
(to risk-weighted assets)
Tier I capital		460,808	29.26			62,994	4.00			94,491	6.00
(to risk-weighted assets)
Tier I capital		460,808	14.78			124,688	4.00			155,860	5.00
(to average assets)

Bank Mutual Corporation is not aware of any conditions or events which would change the Bank’s status as well capitalized. There are no conditions or events that management believes have changed the Bank’s category.

Following are reconciliations of the Bank’s equity under generally accepted accounting principles to capital as determined by regulators:


	The Bank
	Risk- Based Capital			Tier I (Core) Capital
As of September 30, 2004:
Equity per Bank records	$	514,587		$	514,587
Unrealized losses on investments		5,066			5,066
Goodwill and deposit base intangibles, net of deferred taxes		(55,316	)		(55,316	)
Investment in “nonincludable” subsidiaries		(3,252	)		(3,252	)
Disallowed servicing assets		(277	)		(277	)
Equity investments required to be deducted		(5,369	)		—
Allowance for loan losses		13,898			—

Regulatory capital	$	469,337		$	460,808

Note 9 – Earnings Per Share

The computation of basic and diluted earnings per share is presented in the following table:


	Three Months Ended September 30				Nine Months Ended September 30
	2004		2003		2004		2003
	(Dollars in thousands)				(Dollars in thousands)
Basic Earnings Per Share
Net Income	$	7,034	$	6,001	$	21,226	$	17,050

Weighted average shares outstanding net of unallocated ESOP and unvested MRP shares		74,778,015		75,856,031		75,757,093		75,868,148
Allocated ESOP shares for period		81,799		81,799		163,598		245,396
Vested MRP shares for period		98,013		53,558		132,358		172,366

		74,957,827		75,991,388		76,053,049		76,285,910

Basic earnings per share	$	0.09	$	0.08	$	0.28	$	0.22

Diluted Earnings Per Share
Net Income	$	7,034	$	6,001	$	21,226	$	17,050

Weighted average shares outstanding used in basic earnings per share		74,957,827		75,991,388		76,053,049		76,285,910
Net dilutive effect of:
Stock option shares		1,930,717		2,011,365		1,924,528		1,839,759
Unvested MRP shares		288,376		352,523		284,943		356,294

		77,176,920		78,355,276		78,262,520		78,481,963

Diluted earnings per share	$	0.09	$	0.08	$	0.27	$	0.22

Note 10 – Employee Benefit Plans

Bank Mutual Corporation has a discretionary, defined contribution savings plan (the Savings Plan). The Savings Plan is qualified under Sections 401 and 401(k) of the Internal Revenue Code and provides employees meeting certain minimum age and service requirements the ability to make contributions to the Savings Plan on a pretax basis. The Company then matches a percentage of the employee’s contributions. Matching contributions made by the Company were $35,000 in the third quarter of 2004 and $38,000 in the third quarter of 2003. For the nine months ended September 30, 2004 and 2003, contributions made by the Company were $118,000 and $114,000, respectively.

Bank Mutual Corporation also has a defined benefit pension plan covering employees meeting certain minimum age and service requirements and a supplemental pension plan for certain qualifying employees (collectively, “the Plan”). The supplemental pension plan is funded through a “rabbi trust” arrangement. The benefits are generally based on years of service and the employee’s average annual compensation for five consecutive calendar years in the last ten calendar years which produces the highest average. The Company’s funding policy is to contribute annually the amount necessary to satisfy the requirements of the Employee Retirement Income Security Act of 1974.

The following table set forth the net periodic benefit cost:


	For the Three Months Ended September 30						For the Nine Months Ended September 30
	2004			2003			2004			2003
	*(In thousands)*						*(In thousands)*
Service cost	$	420		$	354		$	1,260		$	1,064
Interest cost		369			315			1,107			945
Expected return on plan assets		(418	)		(391	)		(1,254	)		(1,175	)
Amortization of prior service cost		32			32			96			97
Amortization of net (gain) loss		43			(11	)		129			(32	)
Asset gain		—			29			—			86

Net periodic benefit cost	$	446		$	328		$	1,338		$	985

Pension plan assets which consist primarily of immediate participation guarantee contracts with an insurance company are actively managed by investment professionals.

The investment objective is to minimize risk. Asset allocation strongly favors immediate participation contracts with an insurance company.

The Company expects to contribute $3.3 million to the Plan during 2004 and has been accruing for this contribution throughout 2004. This amount was determined based on a number of factors, including the results of the actuarial valuation report as of January 1, 2004.

Bank Mutual has a deferred retirement plan, which was formerly a Mutual Savings Bank plan, for non-officer directors who have provided at least five years of service. Four of the five existing

eligible directors’ benefits have vested. In the event a director dies prior to completion of these payments, payments will go to the director’s heirs. Bank Mutual has funded these arrangements through “rabbi trust” arrangements, and based on actuarial analyses believes these obligations are adequately funded.

First Northern Savings Bank had an unfunded deferred retirement plan for their non-employee directors. All members of First Northern Savings Bank’s Board of Directors were eligible under the plan. Directors of predecessor institutions who were members of an advisory board were eligible at the discretion of First Northern Savings Bank. Currently there are four retired advisory board members in the plan. This plan was terminated as a consequence of the merger of First Northern Savings Bank into Bank Mutual and former First Northern Savings Bank directors began to receive payments.

First Northern Savings Bank also had supplemental retirement plans for several executives.

In May 2001, Bank Mutual Corporation shareholders approved the 2001 Stock Incentive Plan, providing for the grant of stock options up to 4,089,935 shares and restricted stock (“MRP”) awards up to 1,226,977 shares. Of these, 1,210,630 MRP shares were granted during the year ended December 31, 2001 to employees in management positions, directors and other key employees of which 124,737 shares were subsequently forfeited. In May 2004, the 2004 Stock Incentive Plan was approved by shareholders, providing for the grant of stock options to 4,106,362 shares and MRP awards up to 1,642,521 shares. On May 3, 2004, options for 2,382,000 shares and 955,000 MRP shares were granted. Total outstanding MRP grants had a fair value of $17.3 million at September 30, 2004. The grants under the MRP are being amortized to compensation expense as Bank Mutual Corporation’s employees become vested in the awarded shares.

The amount of MRP awards amortized to expense was $709,000 for the third quarter of 2004 and $71,000 for the same period in 2003 and for the nine months ended September 30, 2004 and 2003 the expense was $1.4 million and $482,000, respectively. The remaining unamortized cost of the MRP is unearned deferred compensation and is reflected as a reduction of shareholders’ equity.

Options to purchase 4,050,122 shares were granted on May 8, 2001 at an exercise price of $3.2056. On May 3, 2004, options to purchase 2,382,000 shares were granted at an exercise price of $10.673. In total, options for 5,355,076 shares remain outstanding at September 30, 2004, of which options for 1,552,581 shares were vested. In addition, since inception of the plans, options for 840,789 shares were exercised and options for 236,257 shares have been forfeited.

The estimated fair value of each option granted is calculated using the Black-Scholes option-pricing model. The following summarizes the weighted average assumptions used in the model:


	For the Three Months Ended September 30				For the Nine Months Ended September 30
	2004		2003		2004		2003
Risk-free interest rate	4.81 - 5.30	%	5.30	%	4.81 - 5.30	%	5.30	%
Dividend yield	2.00	%	2.00	%	2.00	%	2.00	%
Expected stock volatility	11.76 - 26.30	%	26.30	%	11.76 - 26.30	%	26.30	%
Expected years until exercise	5.25 - 9.50		6.25		5.25 - 9.50		6.25

The Black-Scholes option valuation model was developed for use in estimating the fair value of publicly traded options that have no vesting restrictions and are fully transferable. Option valuation models such as the Black-Scholes require the input of highly subjective assumptions including the expected stock price volatility. Bank Mutual Corporation’s stock options have characteristics significantly different from traded options and inasmuch, changes in the subjective input assumptions can materially affect the fair value estimate. In management’s opinion, the existing model does not necessarily provide a reliable single measure of the fair value of its stock options.

Bank Mutual Corporation accounts for the stock options in accordance with APB Opinion 25, as allowed under FAS No. 123, and, therefore, no compensation cost has been recognized in connection with stock options granted in any year. Pursuant to FAS No. 123 disclosure requirements as amended by FAS No. 148, pro forma net income and earnings per share are presented below as if compensation cost for stock options was determined under the fair value method and amortized to expense over the options’ vesting periods.


	For the Three Months Ended September 30				For the Nine Months Ended September 30
	2004		2003		2004		2003
Net income:
As reported	$	7,034	$	6,001	$	21,226	$	17,050
Pro forma	$	6,798	$	5,821	$	20,595	$	16,511
Basic earnings per share:
As reported	$	0.09	$	0.08	$	0.28	$	0.22
Pro forma	$	0.09	$	0.08	$	0.27	$	0.22
Diluted earnings per share:
As reported	$	0.09	$	0.08	$	0.27	$	0.22
Pro forma	$	0.09	$	0.07	$	0.26	$	0.21

The pro forma amounts may not be indicative of the effect on reported net income and earnings per share for future years as current options vest over five years.

Note 11 – Financial Instruments with Off-Balance Sheet Risk

Off-balance sheet financial instruments or obligations whose contract amounts represent credit and/or interest rate risk at September 30, 2004 and December 31, 2003 are as follows:


	September 30 2004		December 31 2003
Unused consumer lines of credit	$	151,144	$	153,068
Unused commercial lines of credit		26,791		12,919
Commitments to extend credit:
Fixed rate		27,313		17,115
Adjustable rate		30,726		35,838
Undisbursed commercial loans		24,586		28,992
Credit enhancement under the Federal Home Loan Bank of Chicago Mortgage Partnership Finance Program		2		3

Forward commitments to sell mortgage loans of $12.7 million at September 30, 2004 represent commitments obtained by the Bank from a secondary market agency to purchase mortgages from the Bank. Commitments to sell loans expose the Bank to interest rate risk if market rates of interest decrease during the commitment period. Commitments to sell loans are made to mitigate interest rate risk on commitments to originate loans and loans held for sale. There were $8.3 million of forward commitments at December 31, 2003.

Note 12 – Recent Accounting Developments

Securities and Exchange Commission (“SEC”) Staff Accounting Bulletin (“SAB”) No. 105, “Application of Accounting Principles to Loan Commitments” was issued on March 9, 2004 and is effective for commitments to originate mortgage loans to be held for sale that are entered into after March 31, 2004. SAB No. 105 requires that fair-value measurement include only differences between the guaranteed interest rate in the loan commitment and a market interest rate, excluding expected future cash flows related to the customers relationship or loan servicing. Because of the SAB’s limit on the types of cash flows that can be considered in the fair-value measurement, mortgage-loan commitments could be recognized as liabilities if the guaranteed rate in the commitment is less than the market interest rate. In addition, SAB No. 105 requires registrants to disclose their accounting policy for loan commitments pursuant to APB Opinion No. 22, including methods and assumptions used to estimate fair value and any associated hedging strategies, as required by Statement No. 107, Statement No. 133 and Item No. 305 of Regulation S-K (Quantitative and Qualitative Disclosures About Market Risk). The provisions of SAB No. 105 must be applied to loan commitments accounted for as derivatives that are entered into after March 31, 2004. This SAB had minimal impact on our financial condition or the results of operations.

The Financial Accounting Standards Board’s (“FASB”) Emerging Issues Task Force (EITF”) issued EITF No. 03-01 “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments” to provide guidance on certain accounting issues. Specifically, it provided guidance to better define when and whether unrealized losses in the investment category of “Available-for-Sale” should be deemed other than temporary and if the unrealized losses are other than temporary requiring immediate recognition through the statement of income. FASB, after receiving input from businesses, delayed the implementation of certain aspects of the issue which addresses the determination of other-than –temporary issues until further discussions can be held.

Note 13 – Reclassifications

Certain 2003 amounts have been reclassified to conform to the 2004 presentation.

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

Cautionary Statement Regarding Forward-Looking Information

This document contains various forward-looking statements concerning Bank Mutual Corporation’s prospects that are based on the current expectations and beliefs of management. Forward-looking statements may also be made by Bank Mutual Corporation from time to time in other reports and documents as well as oral presentations. When used in written documents or oral presentations, the words “anticipate,” “believe,” “estimate,” “expect,” “objective,” “projection” and similar expressions or use of verbs in the future tense are intended to identify forward-looking statements. The statements contained herein and such future statements involve or may involve certain assumptions, risks and uncertainties, many of which are beyond Bank Mutual Corporation’s control, that could cause Bank Mutual Corporation’s actual results and performance to differ materially from what is expected. In addition to the assumptions and other factors referenced specifically in connection with such statements, the following factors could impact the business and financial prospects of Bank Mutual Corporation: general economic conditions; negative developments affecting particular borrowers; legislative and regulatory initiatives; monetary and fiscal policies of the federal government; deposit flows; disintermediation; the cost of funds and changes in those costs; general market rates of interest; interest rates or investment returns on competing investments; demand for loan products; demand for financial services; changes in accounting policies or guidelines; changes in the quality or composition of Bank Mutual’s loan and investment portfolios; general economic and political developments; and other factors referred to in the reports filed by Bank Mutual Corporation with the Securities and Exchange Commission (particularly under “Risk Factors” in Item 7 of Bank Mutual Corporation’s 2003 Annual Report on Form 10-K).

Overview

From November 1, 2000 until October 29, 2003, Bank Mutual Corporation was an OTS chartered United States corporation which became the mid-tier holding company in the regulatory restructuring of the Bank, then known as “Mutual Savings Bank,” into mutual holding company form. Until October 29, 2003, Bank Mutual Bancorp, MHC (the “MHC”), a U.S.-chartered mutual holding company of which the Bank’s depositors held all of the voting and membership rights, and owned 52.2% of Bank Mutual Corporation’s outstanding common stock.

Conversion

On October 29, 2003, Bank Mutual Corporation completed a conversion and reorganization from a mutual holding company form, established a new Wisconsin chartered Bank Mutual Corporation and, in effect, sold the MHC’s interest in Bank Mutual Corporation to the public. Existing Bank Mutual Corporation shareholders exchanged their shares for the new Bank Mutual Corporation shares. The total number of shares issued and exchanged in the offering was approximately 78,707,669 shares. Unless otherwise indicated, all shares and per share numbers in these financial statements have been restated to reflect the conversion and the related 3.6686 for 1 share exchange.

Significant Accounting Policies

There are a number of accounting policies that we established which require us to use our judgment and make estimates. Some of the more significant policies are as follows:

•

Establishing the amount of the allowance for loan losses requires the use of our judgment. The allowance for loan losses is maintained at a level believed adequate by management to absorb probable losses inherent in the loan portfolio and is based on the size and current risk characteristics of the loan portfolio, an assessment of individual problem loans and actual loss experience, current economic events in specific industries and geographical areas, including unemployment levels, and other pertinent factors, including regulatory guidance and general economic conditions. Determination of the allowance is inherently subjective as it requires significant estimates, including the amounts and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on historical loss experience, and consideration of current economic trends, all of which may be susceptible to significant change. Loan losses are charged off against the allowance, while recoveries of amounts previously charged off are credited to the allowance. A provision for loan losses is charged to operations based on management’s periodic evaluation of the factors previously mentioned, as well as other pertinent factors. Evaluations are conducted at least quarterly and more often if deemed necessary. If we misjudge a major component and experience a loss, it will likely affect our earnings. Developments affecting loans can also cause the allowance to vary significantly between quarters. We consistently challenge ourselves in the review of the risk components to identify any changes in trends and their cause.

•

Another valuation that requires our judgment relates to mortgage servicing rights. Mortgage servicing rights are recorded as an asset when loans are sold with servicing rights retained. The total cost of loans sold is allocated between the loan balance and the servicing asset based on their relative fair values. The capitalized value of mortgage servicing rights is amortized in proportion to, and over the period of, estimated net future servicing revenue. Mortgage servicing rights are carried at the lower of the initial carrying value, adjusted for amortization, or estimated fair value. The carrying values are periodically evaluated for impairment. For purposes of measuring impairment, the servicing rights are stratified into pools based on term and interest rate. Impairment represents the excess of the remaining capitalized cost of a stratified pool over its fair value, and is recorded through a valuation allowance. The fair value of each servicing rights pool is calculated based on the present value of estimated future cash flows using a discount rate, given current market conditions. Estimates of fair value include assumptions about prepayment speeds, interest rates and other factors which are subject to change over time. Changes in these underlying assumptions could cause the fair value of mortgage servicing rights, and the related valuation allowance, if any, to change significantly in the future.

•

We also use our judgment in the valuation of other intangible assets (core deposit base intangibles). Core deposit base intangible assets have been recorded for core deposits (defined as checking, money market and savings deposits) that have been acquired in acquisitions that were accounted for as purchase business combinations. The core deposit

base intangible assets have been recorded using the assumption that they provide a more favorable source of funding than more expensive wholesale borrowings. An intangible asset has been recorded for the present value of the difference between the expected interest to be incurred on these deposits and interest expense that would be expected if these deposits were replaced by wholesale borrowings, over the expected lives of the core deposits. We currently estimate the underlying core deposits have lives of seven to fifteen years. If we find these deposits have a shorter life, we will have to write down the asset by expensing the amount that is impaired.

•

We review goodwill at least annually for impairment, which requires the use of our judgment. Goodwill has been recorded as a result of two acquisitions in which the purchase price exceeded the fair value of tangible net assets acquired. If goodwill is determined to be impaired, it would be expensed in the period in which it became impaired.

•

The assessment of tax assets and liabilities involves the use of estimates, assumptions, interpretations, and judgments concerning certain accounting pronouncements and federal and state tax codes. There can be no assurance that future events, such as court decisions or changes in positions of federal and state taxing authorities, will not differ from management’s current assessment. The impact of these events could be significant to the consolidated results of operations and reported earnings.

Comparison of Financial Condition at September 30, 2004 and December 31, 2003

Total Assets. Bank Mutual Corporation’s total assets increased modestly for the first nine months, by $66.6 million; total assets at September 30, 2004 were $3.2 billion as compared to $3.1 billion at December 31, 2003. Although the total amount of assets stayed relatively constant, loans receivable increased, while cash and cash equivalents and mortgage-related securities decreased.

Cash and Cash Equivalents. Cash and cash equivalents decreased $53.6 million in the first nine months of 2004 primarily as a result of using cash equivalents to fund the decrease in deposits and the increase in loans receivable. The cash had been invested in short-term investments and overnight funds.

Securities Available-for-Sale. Investment securities decreased $1.9 million in the first nine months of 2004 primarily as a result of maturing investment securities.

Mortgage-related securities decreased $5.0 million primarily as a result of payments and prepayments of the underlying mortgage loans which collateralize the mortgage-related securities and a decrease in market value. Funds obtained from repayments on these securities were also used to fund increases in loans receivable.

Loans Held for Sale. Loans held for sale increased $1.6 million as a result of fixed rate mortgage loan originations exceeding the sales of fixed rate mortgage loans. Currently, we sell most of our 30 and 20 year fixed rate mortgage loan originations and some of our 15 year fixed rate mortgage loan originations.

Loans Receivable. Loans receivable increased $118.8 million in the first nine months of 2004 primarily as a result of an increase in mortgage and consumer loan portfolios.

The mortgage loan portfolio increased $112.7 million in the first nine months of 2004 primarily as a result of an increase in the one-to-four family, multi-family and construction and development mortgage loan portfolios. The one-to-four family mortgage loans increased $71.1 million in the first nine months of 2004 primarily as a result of: an increase in adjustable rate mortgage loan originations and purchases which are held in the portfolio; decreased fixed rate mortgage loan sales; and decreased prepayments. We have supplemented our mortgage loan originations by purchasing mortgage loans (primarily adjustable rate single family mortgage loans) from various Midwest sources. These purchased loans are individually underwritten by our staff and conform to our underwriting standards. These purchased mortgage loans are predominately located in Wisconsin or adjacent states.

Multi-family mortgage loans increased $42.6 million in the first nine months of 2004 primarily as a result of our focus on increasing this type of lending and increased demand.

The commercial business real estate portfolio decreased $6.2 million in the first nine months of 2004 primarily as a result of prepayments of commercial real estate loans.

Construction and development mortgage loan portfolio increased $5.3 million in the nine months ended September 30, 2004 primarily as the result of increased single-and multi-family originations.

The consumer loan portfolio increased $24.5 million, primarily as a result of reduced refinancing of first mortgage loans (consumers historically consolidate their debt into the first mortgage loan) coupled with $210.7 million of originations. Fixed home equity loan, home equity lines of credit and home improvement loan portfolios increased. This increase was partially offset by a reduction in the automobile loan portfolio. We continue to emphasize and market the 7 to 10 year fully amortizing fixed rate first and second home equity loan.

Commercial loan originations decreased in the third quarter of 2004 as compared to the second quarter of 2004, and in the comparable third quarter of 2003. The commercial business loan portfolio decreased a net $4.7 million in the first nine months of 2004 primarily as a result of continuing repayments, which exceeded originations. Business loan originations decreased in the third quarter of 2004 primarily as a result of a decrease in the demand for business loans.

The following table sets forth our mortgage, consumer and commercial loan originations and purchases:

LOAN ORIGINATIONS AND PURCHASES


	Three Months Ended September 30				Nine Months Ended September 30
	2004		2003		2004		2003
	*(In thousands)*				*(In thousands)*
Originations:
Mortgage loans	$	102,877	$	280,106	$	362,703	$	765,247
Consumer loans		62,470		91,021		210,737		240,916
Commercial business loans		5,427		17,183		31,849		46,660

Total loan originations		170,774		388,310		605,289		1,052,823
Purchases:
Mortgage loans		60,022		—		100,114		169

Total loans purchased		60,022		—		100,114		169

Total loans originated and purchased	$	230,796	$	388,310	$	705,403	$	1,052,992

Management will continue to emphasize consumer, non-residential mortgage loan and commercial loan originations, as we believe they will continue to add to the overall profitability and aid in the management of interest rate risk. However, these loans can present higher credit risks than residential mortgage loans.

Other Assets. Other assets increased $7.4 million, or 6.0%, during the first nine months of 2004. This increase is primarily the result of future tax effects relating to the decrease in market values of securities and the consolidation of Arrowood Development, LLC. See Note 1. Basis of Presentation.

Deposits. Deposits decreased $72.9 million in the first nine months of 2004 as a result of pricing our deposit offerings at market averages rather than above average pricing of deposits and the recent improved performance of the stock market. We also believe that deposit growth (or shrinkage) in the balance of 2004 and future periods will depend, in significant part, on the performance of other investment alternatives and world events.

Borrowings. Borrowings increased $116.8 million in the first nine months of 2004 as a result of borrowing overnight to fund the decrease in deposits and to fund loan originations. Overnight borrowings at September 30, 2004 were $144.0 million. We also refinanced two Federal Home Loan Bank of Chicago borrowings totaling $200.0 million that had maturities in November and December of 2004. The refinanced borrowings are due in September of 2006. Prior to refinancing, the interest rates on the borrowings were 5.62% and 5.77% while, the new two year FHLB borrowing has a fixed interest rate of 2.75%. As a result of this transaction, we paid a $1.7 million prepayment penalty.

Advance Payments by Borrowers for Taxes and Insurance; Other Liabilities. Advance payments by borrowers for taxes and insurance (“escrow”) increased $25.7 million in the first nine months of 2004. The increase of escrow dollars was the result of payments received for customers’ escrow accounts and is seasonally normal, as these payments tend to increase during the course of the calendar year until checks in payment of real estate tax obligations are paid out in December or January of the next year. In addition, other liabilities increased $1.0 million, as a result of increases to a number of various liabilities.

Shareholders’ Equity. Shareholders’ equity decreased $6.3 million in the first nine months of 2004, primarily as a result of stock repurchases, a decrease in other comprehensive income, increases in unearned deferred compensation, and cash dividends paid, offset by our net income.

After receiving shareholder approval of the 2004 Stock Incentive Plan in May 2004 and regulatory approval, we repurchased 1,642,521 shares in the second quarter of 2004 at an average price of $10.63. Of the total shares repurchased, 955,000 were reissued in restricted share awards; also 313,936 shares were issued for stock option exercises. No shares were repurchased in the third quarter of 2004.

On November 1, 2004, the Company announced a stock repurchase program whereby the Company may repurchase up to 5.0 million shares. No timing was given for completion. The Company can give no assurance as to the timing or terms of any such purchases.

Comprehensive income (net of tax) decreased as a result of marking the available-for-sale investments to current market value; decreases in value resulted from recent increase in market interest rates. Unearned deferred compensation increased as a result of awarding 955,000 restricted shares under the 2004 Stock Incentive Plan in May 2004. The restricted shares vest at a rate of 20% per year and were issued at a fair market value of $10.673 per share.

In addition, a cash dividend of $0.05 per share was paid September 1, 2004 to shareholders of record on August 19, 2004. The dividend payout ratio was 47.2% in the first nine months of 2004.

ASSET QUALITY

The following table summarizes non-performing loans and assets:

NON-PERFORMING LOANS AND ASSETS


	At September 30 2004			At December 31 2003
	*(Dollars in thousands)*
Non-accrual mortgage loans	$	2,101		$	2,894
Non-accrual consumer loans		879			961
Non-accrual commercial business loans		5,569			5,433
Accruing loans delinquent 90 days or more		602			1,084

Total non-performing loans		9,151			10,372
Foreclosed properties and repossessed assets, net		1,169			630

Total non-performing assets	$	10,320		$	11,002

Non-performing loans to total loans		0.50	%		0.61	%

Non-performing assets to total assets		0.33	%		0.35	%

Additional interest income that would have been recognized if non-accrual loans had been current	$	713		$	384

Allowance for loan losses as a percent of non-performing assets		134.67	%		125.17	%

Total non-performing loans decreased as of September 30, 2004, as compared to December 31, 2003, primarily as a result of reduced mortgage, consumer and accruing delinquent loans. Commercial business loan delinquencies increased primarily as a result of adding approximately a $2.0 million business loan in the third quarter of 2004.

In spite of some economic improvement, the national and local economies and securities markets have continued to experience challenges. The Company has also experienced commercial loan delinquencies, impairments and foreclosures, and has continued allocating management time to monitoring the loan portfolio and the loan loss allowance. Among other things, a reversal of the economic recovery and consequences of world events could affect the ability of individual and business borrowers to repay their obligations to Bank Mutual or otherwise affect the Company’s operations and financial condition.

A summary of the allowance for loan losses is shown below:

ALLOWANCE FOR LOAN LOSSES


	At and for the Nine Months Ended September 30, 2004			At and for the Year Ended December 31, 2003
	*(Dollars in thousands)*
Balance at the beginning of the period	$	13,771		$	12,743
Provisions for the period		1,141			1,304
Charge-offs:
Mortgage loans		(20	)		(67	)
Consumer loans		(261	)		(415	)
Commercial business loans		(800	)		(19	)

Total charge-offs		(1,081	)		(501	)
Recoveries:
Mortgage loans		9			113
Consumer loans		58			107
Commercial business loans		—			5

Total recoveries		67			225

Net recoveries (charge-offs)		(1,014	)		(276	)

Balance at the end of the period	$	13,898		$	13,771

Net charge-offs to average loans		(0.08	)%		(0.02	)%

Allowance as a percent of total loans		0.76	%		0.80	%

Allowance as a percent of non-performing loans		151.87	%		132.77	%

The charge-off of $800,000 of commercial business loans occurred in the second quarter of 2004 and was the result of writing off a portion of a commercial loan before reclassifying it to foreclosed properties and repossessed assets.

The allowance for loan losses has been determined in accordance with accounting principles generally accepted in the United States. We are responsible for the timely and periodic determination of the amount of the allowance required. Future provisions for loan losses will continue to be based upon our assessment of the overall loan portfolio and the underlying collateral, trends in non-performing loans, current economic conditions and other relevant factors. To the best of management’s knowledge, all known and inherent losses have been provided for in the allowance for loan losses. The establishment of the amount of the loan loss allowance inherently involves judgments by management as to the adequacy of the allowance, which ultimately may or may not be correct. Higher rates of loan defaults than anticipated would likely result in a need to increase provisions in future years. Also, as multifamily and commercial loan portfolios increase, additional provisions would likely be added to the loan loss allowances as they carry a higher risk of loss. The dollar amount of the typical commercial real estate, development and commercial loan tends to be larger than our average single family loan and, therefore, any loss that we experience on these loans could be larger than what we have

historically experienced on our single family loans. Depending on the type of commercial loan, the collateral may appeal only to a specialized group of people or businesses and, therefore, limit the number of potential buyers of the collateral, or in the case of collateral that is comprised of inventory, the liquidation of the collateral may be more uncertain. See “Non-performing Loans” for factors affecting some particular loans which affected the loan loss provisions for the periods discussed. Also, see “Significant Accounting Policies” for a discussion on the use of judgment in determining the amount of the allowance for loan losses.

Average Balance Sheet and Yield/Rate Analysis

The following table presents certain information regarding Bank Mutual Corporation’s financial condition and net interest income at and for the nine months ended September 30, 2004 and 2003. The table presents the average yield on interest-earning assets and the average cost of interest-bearing liabilities for the periods indicated. The yields and costs are derived by dividing income or expense by the average balance of interest-earnings assets or interest-bearing liabilities respectively, for the periods shown. The average balances are derived from daily balances over the periods indicated. Interest income includes fees, which we considered adjustments to yields. Net interest spread is the difference between the yield on interest-earning assets and the rate paid on interest-bearing liabilities. Net interest margin is derived by dividing net interest income by net interest-earning assets. No tax equivalent adjustments were made since we do not have any tax exempt investments.


	AVERAGE BALANCE SHEET, INTEREST AND RATE PAID
	Nine Months Ended September 30
	2004						2003
	Average Balance		Interest Earned/ Paid		Average Yield/ Rate		Average Balance		Interest Earned/ Paid		Average Yield/ Rate
	*(Dollars in thousands)*
Assets:
Interest-earning assets:
Loans receivable ⁽¹⁾	$	1,774,518	$	72,002	5.41	%	$	1,749,778	$	80,123	6.11	%
Mortgage-related securities		1,052,952		34,563	4.38			620,966		20,552	4.41
Investment securities ⁽²⁾		104,873		2,952	3.75			119,385		3,571	3.99
Interest-earning deposits		11,851		83	0.93			46,693		309	0.88
Federal funds		6,970		70	1.34			181,941		1,519	1.11

Total interest earning assets		2,951,164		109,670	4.96			2,718,763		106,074	5.20
Noninterest-earning assets		168,549						170,362

Total average assets	$	3,119,713					$	2,889,125

Liabilities and equity:
Interest-bearing liabilities:
Savings deposits	$	253,046		809	0.43		$	288,318		1,152	0.53
Money market accounts		339,751		2,516	0.99			360,860		3,574	1.32
Interest-bearing demand accounts		162,789		261	0.21			138,989		329	0.32
Time deposits		1,140,731		27,915	3.26			1,281,183		34,802	3.62

Total deposits		1,896,317		31,501	2.21			2,069,350		39,857	2.57
Advance payments by borrowers for taxes and insurance		17,947		24	0.18			16,992		61	0.48
Borrowings		342,764		11,827	4.60			323,613		13,644	5.62

Total Interest-bearing liabilities		2,257,028		43,352	2.56			2,409,955		53,562	2.96

Noninterest-bearing liabilities:
Noninterest-bearing deposits		106,259						112,964
Other noninterest-bearing liabilities		29,471						45,815

Total noninterest-bearing liabilities		135,730						158,779

Total liabilities		2,392,758						2,568,734
Shareholders’ equity		726,955						320,391

Total average liabilities and equity	$	3,119,713					$	2,889,125

Net interest income and net interest rate spread ⁽³⁾			$	66,318	2.40	%			$	52,512	2.24	%

Net interest margin ⁽⁴⁾					3.00	%					2.58	%

Average interest-earning assets to average interest-bearing liabilities		1.31x						1.13x

⁽¹⁾	For the purposes of these computations, non-accruing loans and loans held for sale are included in the average loans outstanding.

⁽²⁾	Federal Home Loan Bank stock is included in investment securities dollars outstanding and yields.

⁽³⁾	Interest rate spread is the difference between the average yield on interest-earning assets and the average rate on interest-bearing liabilities.

⁽⁴⁾	Net interest margin is determined by dividing annualized net interest income by total interest-earning assets.

Rate Volume Analysis of Net Interest Income

The following table presents the extent to which changes in interest rates and changes in the volume of interest-earning assets and interest-bearing liabilities have affected our interest income and interest expense during the periods indicated. Information is provided in each category with respect to:

(1)

changes attributable to changes in volume (change in volume multiplied by prior rate);

(2)

changes attributable to change in rate (changes in rate multiplied by prior volume); and

(3)

the net change.

The changes attributable to the combined impact of volume and rate have been allocated proportionately to the changes due to volume and the changes due to rate.


	Nine Months Ended September 30, 2004 Compared to September 30, 2003 Increase (Decrease) Due To:
	Volume ⁽¹⁾			Rate ⁽²⁾			Net ⁽³⁾
	*(In thousands)*
Interest-earning assets:
Loans receivable	$	1,120		$	(9,241	)	$	(8,121	)
Mortgage-related securities		14,192			(181	)		14,011
Investment securities		(417	)		(202	)		(619	)
Interest-earning deposits		(242	)		16			(226	)
Federal funds		(1,705	)		256			(1,449	)

Total		12,948			(9,352	)		3,596

Interest-bearing liabilities:
Savings deposits		(130	)		(213	)		(343	)
Money market deposits		(199	)		(859	)		(1,058	)
Interest-bearing demand deposits		50			(118	)		(68	)
Time deposits		(3,614	)		(3,273	)		(6,887	)

Total deposits		(3,893	)		(4,463	)		(8,356	)
Advance payments by borrowers for taxes and insurance		3			(40	)		(37	)
Borrowings		771			(2,588	)		(1,817	)

Total		(3,119	)		(7,091	)		(10,210	)

Net change in net interest income	$	16,067		$	(2,261	)	$	13,806

Comparison of Operating Results for the Three and Nine Months Ended September 30, 2004 and 2003

General. Net income was $7.0 million for the third quarter of 2004 as compared to $6.0 million for the third quarter of 2003, and $21.2 million for the nine months ended September 30, 2004 as compared to $17.1 million for the nine months ended September 30, 2003. The increase for both periods in 2004 was primarily the result of investing the $404.8 million of capital received from the Company’s stock offering in October 2003, which resulted in increases in interest income and the net interest margin, and from a $2.0 million gain on sale of real estate in the third quarter of 2004. This increase was partially offset by reductions in the gains on the sales of loans, payment of a borrowing prepayment penalty, increases in the provision for loan losses, and increases in operating expenses.

Net Interest Income. Net interest income increased $5.5 million, or 32.8%, to $22.3 million in the third quarter of 2004 as compared to $16.8 million for the same period in 2003. Net interest income increased $13.8 million, or 26.3%, to $66.3 million for the first nine months of 2004 as compared to $52.5 million for the first nine months of 2003. Net interest income increased for both periods primarily as a result of increased assets invested and an increase in the net interest margin. The net interest margin for the third quarter of 2004 was 3.01% as compared to 2.40% for the same period in 2003 and 3.00% for the nine months ended September 30, 2004 as compared to 2.58% for the nine months ended September 30, 2003.

The increase in the net interest margin for both periods in 2004 was primarily the result of investing the $404.8 million of capital received from the stock offering (the capital bears no interest). The increase in the dollar amount of interest earning assets was also the result of the investment of the capital received from the Company’s stock offering. Most of the capital received was invested in mortgage-related securities. Going forward, for the fourth quarter of 2004, the income received from investment of that capital is expected to add to interest income as compared to the fourth quarter of 2003; however, the increase to interest income will be less in the fourth quarter of 2004 as compared to the first three quarters of 2004 because the comparable fourth quarter period of 2003 reflected the investment of the additional stock proceeds in November and December of 2003. In fiscal 2005, as a result of the investment of the proceeds of our offering in 2003, comparisons between 2004 and 2005 periods will be similar.

Total Interest Income. Total interest income increased $3.0 million, or 8.7% to $36.8 million in the third quarter of 2004 as compared to $33.8 million for the third quarter of 2003 and an increase of $3.6 million, or 3.4%, to $109.7 million for the nine months ended September 30, 2004 as compared to $106.1 million for the same period in 2003. The increase in the third quarter and the first nine months of 2004 was primarily the result of the increased dollar amount of mortgage-related securities.

Interest income on loans decreased $1.1 million, or 4.2%, to $24.4 million in the third quarter of 2004 as compared to $25.5 million for the third quarter of 2003 and a decrease of $8.1 million, or 10.1%, to $72.0 million for the first nine months of 2004 as compared to $80.1 million for the same period in 2003. The decreases for both periods were the result of decreased average yield on the loan portfolio partially offset by an increase in the average dollar amount of the loan portfolio

outstanding. Although loan originations were at high levels throughout 2003, most of the originations were fixed rate mortgage loans which we sold to the secondary market. These loan sales decreased the dollar amount of the portfolio outstanding. However, as market interest rates increased, fixed rate mortgage loan originations, and subsequent sales, decreased and adjustable rate mortgage loan originations increased. Adjustable rate mortgage loans are retained in the portfolio and not sold. In the first nine months of 2004 the loan portfolio increased $118.8 million.

Interest income on investments decreased $170,000 for the third quarter of 2004 and $619,000 for the first nine months of 2004 as compared to the same periods in 2003, respectively. The decreases were the result of a decrease in the yield earned on the investment securities and average dollars outstanding. As investment securities matured, the proceeds were primarily reinvested into mortgage-related securities or reinvested into another investment security. However, these reinvestments into new investment securities were generally at interest rates that were at or below the existing yield on the portfolio in spite of the current rising interest rate environment.

Interest income on mortgage-related securities increased $4.9 million, or 76.9%, in the third quarter of 2004 and increased $14.0 million, or 68.2%, in the first nine months of 2004 as compared to the same periods in 2003, respectively, as a result of the increase in the dollar amount of mortgage-related securities outstanding. This increase in the dollar amount outstanding was primarily the result of investing $404.8 million of capital received in our conversion to a fully shareholder owned company in October 2003.

Interest income on interest-earning deposits decreased $737,000 for the three months ended September 30, 2004 and decreased $1.7 million for the nine months ended September 30, 2004 as a result of a decrease in the dollar amount in interest-earning deposits. The decrease in the average dollars outstanding was primarily the result of investing the short-term funds into short- to medium-term mortgage-related securities.

Interest Expense. Total interest expense decreased $2.6 million, or 15.1% in the third quarter of 2004, as compared to the third quarter of 2003, and $10.2 million, or 19.1%, in the first nine months of 2004 as compared to that period in 2003. These decreases were primarily the result of a decrease in the rates paid on deposits and the decreased average deposits outstanding.

Interest expense on deposits decreased $2.1 million in the third quarter of 2004 and $8.4 million for the first nine months of 2004 as compared to the same periods in 2003, respectively, as a result of a decrease in the cost of deposits and a decrease in the average deposits. As a result of our strong capital position and current alternatives for its deployment, we reduced the interest rates offered on some of our time deposit products to decrease our cost of deposits.

Interest expense on borrowings decreased $486,000 for the three months ended September 30, 2004 and $1.8 million for the nine months ended September 30, 2004 as a result of a decrease in the cost of borrowings. We primarily borrow from the Federal Home Loan Bank (“FHLB”) of Chicago and most of those borrowings have fixed terms and interest rates. Borrowings at September 30, 2004, were $116.8 million higher than at December 31, 2003, primarily as a result of overnight borrowings. These overnight borrowings were necessitated as a result of utilizing our overnight funds to fund loan originations and the decrease in deposits.

In addition, a $100.0 million FHLB borrowing (with an interest rate of 5.62%) maturing in November of 2004 and a $100.0 million FHLB borrowing (with an interest rate of 5.77%) maturing in December of 2004, were refinanced in September of 2004 for another FHLB borrowing at 2.75%. The new borrowing has a two year maturity. As a result of prepaying the $200.0 million of FHLB borrowings, we paid a $1.7 million prepayment penalty. The prepayment of the FHLB borrowings was done as a result of management anticipating a rise in interest rates at the time the original FHLB borrowings matured and its desire to lock in relatively lower interest rates, which should favorably affect related interest expense going forward.

Provisions for Loan Losses. Provisions for loan losses were $267,000 for the third quarter of 2004 and $1.1 million for the first nine months of 2004 as compared to no provisions for the third quarter of 2003 and $367,000 for the first nine months of 2003. The increases in both periods in the provision for loan losses was primarily the result of the $800,000 charge-off for a commercial loan that was reclassified to foreclosed properties and subsequently liquidated and loan portfolio growth. This charge-off, which was the result of adverse developments affecting the borrower, necessitated the increase in the provisions for loan losses. The total allowance for loan losses at September 30, 2004 was $13.9 million, or 151.9%, of non-performing loans compared to $13.8 million, or 132.8% of non-performing loans at December 31, 2003. The loan loss allowance to total loans was 0.76% at September 30, 2004 as compared to 0.80% at December 31, 2003.

Noninterest Income. Total noninterest income decreased $2.3 million in the third quarter of 2004 and $3.6 million for the first nine months of 2004 primarily as a result of decreased gains on the sales of loans and a loss on the retirement of debt partially offset by gains on the sale of real estate, increases in brokerage and insurance commissions and other income and, for the nine month period, a gain on sale of securities.

Service charges on deposits decreased for the third quarter and the nine months ended September 30, 2004 primarily as a result of the decreased number of deposit accounts and customer utilization of on-line banking and check cards. On-line banking and real time check cards purchase authorizations have allowed customers to manage their accounts better and hence reduced service charge fees.

Brokerage and insurance commissions increased $106,000 for the three months ended September 30, 2004 and $306,000 for the nine months ended September 30, 2004 primarily as a result of increased securities and tax deferred annuity sales.

In the third quarter of 2004, loan related fees and servicing revenues were decreased by the normal amortization of originated mortgage servicing rights (“OMSRs”). However in the first nine months of 2004, servicing revenues were also significantly impacted by the reduction in the amortization of mortgage servicing rights. The amortization of mortgage servicing rights in the third quarter of 2004 was $362,000 and $1.3 million for the nine months ended September 30, 2004 as compared to $13,000 in the third quarter of 2003 and $2.0 million for the nine months ended September 30, 2003. The decreased amortization was the result of reduced prepayments to loans with mortgage servicing rights.

In the nine months ended September 30, 2004, we sold equity securities which resulted in a gain of $537,000.

Gains on the sales of loans decreased $2.5 million in the third quarter of 2004 as compared to the third quarter of 2003 and $5.2 million for the first nine months of 2004 as compared to the same period in 2003 as a result of decreased dollar amount of loans sold. We sold $21.8 million of loans in the third quarter of 2004 as compared to $153.4 million in the third quarter of 2003 and $92.1 million in the first nine months of 2004 as compared to $432.7 million in the first nine months of 2003. “See Comparison of Financial Condition - Loans Receivable.” Gains on the sales of loans are primarily dependent on the dollar amount of fixed rate mortgage loan originations and the sale of those loans. If interest rates remain flat or increase, these gains likely will be reduced in future periods.

In the third quarter of 2004, we sold one-half of our interest in approximately 300 acres of owned real estate to an unrelated third party for a $2.0 million gain. We simultaneously established a partnership, in which we maintain a 50% interest, to develop that land. It is anticipated that the development of the real estate into a residential subdivision and subsequent sale of the developed lots will be a two-to-four year project.

Other noninterest income increased $592,000 in the third quarter of 2004 primarily as a result of an increase in income recognition in accordance with FASB #133.

Noninterest Expense. Total noninterest expense increased $979,000 in the third quarter of 2004 and $3.0 million for the nine months ended September 30, 2004 primarily as a result of increased compensation expense from the decreased deferral of loan origination costs and the issuance of 955,000 restricted shares on May 3, 2004, pursuant to the 2004 Stock Incentive Plan, which was approved by shareholders.

Compensation, payroll taxes and other employee benefit expense increased $1.1 million in the third quarter of 2004 and $3.0 million for the nine months ended September 30, 2004 primarily as a result of a decreased deferral of loan origination costs and increased expense from the issuance of restricted shares in May 2004.

Occupancy and equipment expense increased $137,000 in the third quarter of 2004 and $138,000 for the first nine months of 2004 as compared to the same periods in 2003 primarily as a result of a write-off of a portion of one of our recently remodeled offices.

Other expenses decreased $257,000 for the third quarter of 2004 and $167,000 for the first nine months ended September 30, 2004 as compared to the same periods in 2003. Marketing expense which is part of other expenses in the third quarter of 2004 decreased primarily as a result of the non-recurring nature of expenses associated with the merger of our two subsidiary banks in March 2003. In addition, in the third quarter of 2004, we experienced a decrease of $80,000 in real estate owned operations as a result of the disposal of real estate owned late in the second quarter and early third quarter of 2004.

Income Taxes. The effective tax rate for the third quarter of 2004 was 35.4% as compared to 32.7% for the same period in 2003 and 34.7% for the nine months ended September 30, 2004 as compared to 34.5% for the nine months ended September 30, 2003.

Bank owned life insurance income is permanently tax deferred if the policy is held to the participant’s death. Therefore, the income earned on the life insurance is not included in taxable income for the calculation of tax expense.

Like many Wisconsin financial institutions, we have non-Wisconsin subsidiaries which hold and manage investment assets, the income on which has not been subject to Wisconsin tax. The Wisconsin Department of Revenue has instituted an audit program specifically aimed at out of state bank subsidiaries, has indicated that it may withdraw favorable rulings previously issued in connection with such subsidiaries, and has asserted the position that some or all of the income of the out of state subsidiaries is taxable in Wisconsin. The Department is conducting audits of many such organizations, including our Nevada subsidiaries; its audit of Bank Mutual and its Nevada subsidiaries has not yet been concluded.

The Department sent letters in late July 2004 to Wisconsin financial institutions (whether or not they are undergoing an audit) reporting on settlements relating to these issues involving 17 financial institutions and their out-of-state investment subsidiaries. The letter provided a summary of currently available settlement parameters. For prior periods they include: restrictions on the types of subsidiary income excluded from Wisconsin taxation; assessment of certain back taxes relating to a limited time period; limitations on net operating loss carry forwards and interest on past-due taxes (but no penalties). For 2004 and going forward, the letter states similar provisions, including limits on subsidiaries’ assets which could be considered in determining income not subject to Wisconsin taxation. As outlined, settlement would result in the rescission of prior letter rulings, and purport to be binding going forward except for future legislation or change by mutual agreement. However, the letter appears to implicitly accept the general proposition that some out-of-state investment subsidiary income is not subject to Wisconsin taxes.

The Company has engaged in discussions with the Department and has advised the Department that it wishes to receive and consider a settlement proposal from the Department. In particular, the Company asked the Department to consider some specific factors which the Company believes may distinguish it from many other institutions. However, the Company has not yet received a specific proposal nor has an assessment been made against the Company or its subsidiaries. The Company believes that it will need more specific detail than was included in the Department’s July letter to quantify in any definitive way the Department’s view of its exposure, either for past periods or with respect to operations going forward, and to evaluate the Company’s alternatives.

Depending upon the terms, the resolution of these matters could result in a substantial negative impact on the earnings of Bank Mutual Corporation. The Company believes it has reported income and paid Wisconsin taxes in accordance with applicable legal requirements, and the Department’s long standing interpretations thereof, therefore, it has not accrued for possible additional payments. We also may incur further costs in the future to address these issues.

Impact of Inflation and Changing Prices. The financial statements and accompanying notes of Bank Mutual Corporation have been prepared in accordance with the generally accepted accounting principles (“GAAP”). GAAP generally requires the measurement of financial position and operating results in terms of historical dollars without consideration for changes in the relative purchasing power of money over time due to inflation. The impact of inflation is reflected in the increased cost of our operations. Unlike industrial companies, our assets and liabilities are primarily monetary in nature. As a result, changes in market interest rates have a greater impact on performance than do the effects of inflation.

Liquidity and Capital Resources

The term “liquidity” refers to our ability to generate adequate amounts of cash to fund loan originations, loan purchases, deposit withdrawals, and operating expenses. Our primary sources of funds are deposits, scheduled amortization and prepayments of loan principal and mortgage-related securities, maturities and calls of investment securities, borrowings from the FHLB of Chicago and funds provided by our operations. Historically, these sources of funds have been adequate to maintain liquidity, with the Bank borrowing correspondingly more in periods in which its operations generate less cash. In the event these sources of liquidity would become inadequate, we believe that we could access the wholesale deposit market, although there can be no assurances that wholesale deposits would be available if needed.

Loan repayments and maturing investment securities are a relatively predictable source of funds. However, deposit flows, calls of investment securities and prepayments of loans and mortgage-related securities are strongly influenced by interest rates, general and local economic conditions and competition in the marketplace. For example, during the first nine months of 2004, loan prepayments were significantly reduced because of the interest rate environment. Another very different interest rate environment could lead to a significantly different result. These factors reduce the predictability of the timing of these sources of funds.

We are committed to maintaining a strong liquidity position; therefore, we monitor our liquidity position on a daily basis. Based upon our historical experience and available sources of liquidity, we anticipate that we will have sufficient funds to meet current funding commitments. See also “Qualitative and Quantitative Disclosures about Market Risk – Gap Analysis” in Item 3 hereof, which is incorporated herein by reference, which discusses maturities.

Our primary investing activities are the origination and purchase of one-to four-family real estate loans, multi-family and commercial real estate loans, home equity loans, other consumer loans, commercial business loans, the purchase of mortgage-related securities, and to a lesser extent, the purchase of investment securities. These investing activities are funded by principal payments on mortgage loans and mortgage-related securities, calls and maturities on investment securities, borrowings, deposit growth, and funds provided by our operating activities.

Cash and cash equivalents decreased $53.6 million during the first nine months of 2004. Investing activities utilized $114.4 million of cash, primarily as a result of the purchases of investment securities and mortgage-related securities and an increase in loans receivable. These uses were partially offset by principal repayments on mortgage-related securities and on investment securities that matured. Cash provided by financing activities of $42.7 million

resulted primarily from a decrease in deposits, an increase in short term borrowings, and repayments of long-term borrowings. Net cash provided by operating activities of $18.1 million consisted primarily of net income, amortization of cost of stock benefit plans and an increase in other liabilities partially offset by an increase in other assets.

At September 30, 2004, we exceeded each of the applicable regulatory capital requirements for the Bank. In order to be classified as “well-capitalized” by the FDIC we are required to have a leverage (Tier I) capital to average assets ratio of at least 5.00%. To be classified as a well-capitalized bank by the FDIC, we must also have a total risk-based capital to risk-weighted assets ratio of at least 10.00%. At September 30, 2004, the Bank had a total risk-based capital ratio of 29.8% and a leverage ratio of 14.78%. See Notes to Unaudited Consolidated Financial Statements – “Note 8 - Shareholders’ Equity.”

Contractual Obligations, Commitments, Contingent Liabilities, and Off-balance Sheet Arrangements

The Company has various financial obligations, including contractual obligations and commitments, that may require future cash payments.

The following table presents, as of September 30, 2004, significant fixed and determinable contractual obligations to third parties by payment date. Further discussion of the nature of each obligation is included in the referenced note to the consolidated financial statements.


	Payments Due In
	One Year Or Less		One to Three Years		Three to Five Years		Over Five Years		Total
	*(In thousands)*
Deposits without a stated maturity	$	842,561	$	—	$	—	$	—	$	842,561
Certificates of deposits		560,966		470,621		105,275		—		1,136,862
Borrowed funds ^(a)		144,000		225,954		1,025		45,303		416,282
Operating leases		1,104		1,682		1,204		575		4,565
Purchase obligations		2,160		4,320		3,420		—		9,900
Deferred retirement plans and deferred compensation plans		221		404		286		7,207		8,118

^(a)	Excludes interest to be paid in the periods indicated.

The Company’s operating lease obligations represent short and long-term lease and rental payments for facilities, certain software and data processing and other equipment. Purchase obligations represent obligations under agreements to purchase goods or services that are enforceable and legally binding on the Company and that specify all significant terms, including: fixed or minimum quantities to be purchased; fixed, minimum or variable price provisions; and the approximate timing of the transaction. The purchase obligation amounts presented above primarily relate to certain contractual payments for services provided for information technology.

The Company also has obligations under its deferred retirement plan for directors as described in Note 10 to the unaudited consolidated financial statements.

The following table details the amounts and expected maturities of significant commitments as of September 30, 2004.


	Payments Due In
	One Year Or Less		One to Three Years		Three to Five Years		Over Five Years		Total
	*(In thousands)*
Commitments to extend credit:
Commercial	$	1,239	$	—	$	—	$	—	$	1,239
Residential real estate		56,800		—		—		—		56,800
Revolving home equity and credit card lines		151,146		—		—		—		151,146
Standby letters of credit		1,906		1,687		—		—		3,593
Commercial letters of credit		26,791		—		—		—		26,791
Unused commercial lines of credit		24,586		—		—		—		24,586
Net commitments to sell mortgage loans		12,746		—		—		—		12,746

Commitments to extend credit, including loan commitments, standby letters of credit, unused lines of credit and commercial letters of credit do not necessarily represent future cash requirements, since these commitments often expire without being drawn upon.

Item 3.

Quantitative and Qualitative Disclosures about Market Risk

Gap Analysis. Repricing characteristics of assets and liabilities may be analyzed by examining the extent to which such assets and liabilities are “interest rate sensitive” and by monitoring a financial institution’s interest rate sensitivity “gap.” An asset or liability is said to be “interest rate sensitive” within a specific time period if it will mature or reprice within that time period. The interest rate sensitivity gap is defined as the difference between the amount of interest-earning assets maturing or repricing within a specific time period and the amount of interest-bearing liabilities maturing or repricing within that same time period.

A gap is considered positive when the amount of interest-earning assets maturing or repricing within a specific time period exceeds the amount of interest-bearing liabilities maturing or repricing within that specific time period. A gap is considered negative when the amount of interest-bearing liabilities maturing or repricing within a specific time period exceeds the amount of interest-earning assets maturing or repricing within the same period. During a period of rising interest rates, a financial institution with a negative gap position would be expected, absent the effects of other factors, to experience a greater increase in the costs of its liabilities relative to the yields of its assets and thus a decrease in the institution’s net interest income. An institution with a positive gap position would be expected, absent the effect of other factors, to experience the opposite result. Conversely, during a period of falling interest rates, a negative gap would tend to result in an increase in net interest income while a positive gap would tend to reduce net interest income.

At September 30, 2004, based on the assumptions below, our interest-earning assets maturing or repricing within one year exceeded our interest-bearing liabilities maturing or repricing within the same period by $10.0 million. This represents a positive cumulative one-year interest rate sensitivity gap of 0.32%, and a ratio of interest-earning assets maturing or repricing within one year to interest-bearing liabilities maturing or repricing within one year of 100.9%. The cumulative gap ratio was significantly affected by $200.0 million of FHLB borrowings which was refinanced to September of 2006 since that refinancing had the affect of extending those borrowings.

The following table presents the amounts of our interest-earning assets and interest-bearing liabilities outstanding at September 30, 2004, which we anticipate to reprice or mature in each of the future time periods shown. The information presented in the following table is based on the following assumptions:

Investment securities - based upon contractual maturities and if applicable, call dates.

ii)

Mortgage-related securities - based upon an independent outside source for determining estimated cash flows (expected prepayment speeds).

iii)

Loans - based upon contractual maturities, repricing dates, if applicable, scheduled repayments of principal and projected prepayments of principal based upon our historical experience or anticipated prepayments.

iv)

Deposits - based upon contractual maturities and historical decay rates.

Borrowings - based upon the earlier of call date or final maturity.


	At September 30, 2004
	Within Three Months			Three to Twelve Months			More Than One Year To Three Years			More Than Three Years To Five Years			Over Five Years			Total
	*(Dollars in thousands)*
Interest-earning assets:
Loans receivable:
Mortgage loans:
Fixed	$	30,452		$	72,885		$	164,360		$	92,153		$	183,003		$	542,853
Adjustable		123,960			227,741			322,939			86,966			—			761,606
Consumer loans		108,719			137,136			151,153			49,009			29,036			475,053
Commercial business loans		26,928			11,872			25,447			5,465			908			70,620
Interest-earning deposits		6,458			—			—			—			—			6,458
Investment securities		47,951			3,749			14,720			—			—			66,420
Mortgage-related securities:
Fixed		90,182			229,485			409,336			191,664			114,579			1,035,246
Adjustable		20,590			—			—			—			—			20,590
Other interest-earning assets		37,151			—			—			—			—			37,151

Total interest-earning assets		492,391			682,868			1,087,955			425,257			327,526			3,015,997

Noninterest-bearing and interest-bearing liabilities:
Noninterest-bearing demand accounts		1,544			4,499			11,068			9,838			78,622			105,571
Interest-bearing liabilities:
Deposits:
Interest-bearing demand accounts		2,268			6,607			16,256			14,448			115,477			155,056
Savings accounts		8,422			16,655			37,745			30,006			162,696			255,524
Money market accounts		326,270			—			—			—			—			326,270
Time deposits		244,158			363,828			421,940			105,083			—			1,135,009
Advance payments by borrowers for taxes and insurance		28,665			—			—			—			—			28,665
Borrowings		144,068			18,250			209,252			2,536			42,188			416,294

Total interest-bearing and noninterest-bearing liabilities		755,395			409,839			696,261			161,911			398,983			2,422,389

Interest rate sensitivity gap	$	(263,004	)	$	273,029		$	391,694		$	263,346		$	(71,457	)	$	593,608

Cumulative interest rate sensitivity gap	$	(263,004	)	$	10,025		$	401,719		$	665,065		$	593,608

Cumulative interest rate sensitivity gap as a percentage of total assets		(8.28	)%		0.32	%		12.65	%		20.95	%		18.70	%

Cumulative interest-earning assets as a percentage of interest bearing liabilities		65.18	%		100.86	%		121.58	%		132.87	%		124.51	%

The methods used in the previous table have some shortcomings. For example, although certain assets and liabilities may have similar maturities or periods to repricing, they may react in different degrees to changes in market interest rates. Interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market rates. Certain assets, such as adjustable-rate loans, have features which limit changes in interest rates on a short-term basis and over the life of the loan. If interest rates change, prepayment, and early withdrawal levels would likely deviate significantly from those assumed in calculating the table. Finally, the ability of borrowers to make payments on their adjustable-rate loans may decrease if interest rates increase.

Net Equity Sensitivity

In addition to the gap analysis table, we also use simulation models to monitor interest rate risk. The models report the present value of equity in different interest rate environments, assuming an instantaneous and permanent interest rate shock to all interest rate-sensitive assets and liabilities. The present value of equity is the difference between the present value of expected cash flows of interest rate-sensitive assets and liabilities. The changes in market value of assets and liabilities due to changes in interest rates reflect the interest rate sensitivity of those assets and liabilities as their values are derived from the characteristics of the asset or liability (i.e., fixed rate, adjustable-rate, caps, floors) relative to the current interest rate environment. For example, in a rising interest rate environment the fair market value of a fixed rate asset will decline, whereas the fair market value of an adjustable-rate asset, depending on its repricing characteristics, may not decline. Increases in the market value of assets will increase the present value of equity whereas decreases in market value of assets will decrease the present value of equity. Conversely, increases in the market value of liabilities will decrease the present value of equity whereas decreases in the market value of liabilities will increase the present value of equity.

The following table presents the estimated present value of equity over a range of interest rate change scenarios at September 30, 2004. The present value ratio shown in the table is the present value of equity as a percent of the present value of total assets in each of the different rate environments. For purposes of this table, we have made assumptions such as prepayment rates and decay rates similar to those used for the gap analysis table.


	Present Value of Equity							Present Value of Equity as a Percent of Present Value of Assets
Change in Interest Rates	Dollar Amount		Dollar Change			Percent Change		Present Value Ratio		Percent Change
(Basis Points)	*(Dollars in thousands)*
+300	$	626,414	$	(218,350	)	(25.8	)%	21.26	%	(18.6	)%
+200		701,508		(143,256	)	(17.0	)	23.07		(11.7	)
+100		779,722		(65,042	)	(7.7	)	24.81		(5.1	)
0		844,764		0		0.0		26.13		0.0
-100		868,305		23,541		2.8		26.43		1.1
-200		857,148		12,384		1.5		25.81		(1.2	)
-300		820,545		(24,219	)	(2.9	)	24.60		(5.8	)

As in the case of the gap analysis table, the methods we used in the previous table have some shortcomings. This type of modeling requires that we make assumptions which may not reflect the manner in which actual yields and costs respond to changes in market interest rates. For example, we make assumptions regarding the acceleration rate of the prepayment speeds of higher yielding mortgage loans. Prepayments will accelerate in a falling rate environment and the reverse will occur in a rising rate environment. We also assume that decay rates on core deposits will accelerate in a rising rate environment and the reverse in a falling rate environment. The table assumes that we will take no action in response to the changes in interest rates, when in practice rate changes on certain products, such as savings deposits, may lag market changes. In addition, prepayment estimates and other assumptions within the model are subjective in nature, involve uncertainties, and therefore cannot be determined with precision. Accordingly, although the present value of equity model may provide an estimate of our interest rate risk at a particular point in time, such measurements are not intended to and do not provide a precise forecast of the effect of changes in interest rates on our present value of equity.

Item 4.

Controls and Procedures

Disclosure Controls and Procedures: Bank Mutual Corporation’s management, with the participation of Bank Mutual Corporation’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of Bank Mutual Corporation’s disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this report. Based on such evaluation, Bank Mutual Corporation’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, Bank Mutual Corporation’s disclosure controls and procedures are effective in recording, processing, summarizing and reporting, on a timely basis, information required to be disclosed by Bank Mutual Corporation in the reports that it files or submits under the Exchange Act.

Internal Control Over Financial Reporting: There have not been any changes in the Bank Mutual Corporation’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, Bank Mutual Corporation’s internal control over financial reporting.

PART II. OTHER INFORMATION

Item 2.

Unregistered Sale of Equity Securities and Use of Proceeds.

The following table provides the specified information about the repurchases of shares by the Company during the third quarter of 2004.


Period	Total number of shares purchased	Average price paid per share		Total number of shares purchased as part of publicly announced plans or programs	Maximum number of shares that may yet be purchased under the plans or programs
July 1 – July 31, 2004	1,307	$	10.79	—	—
August 1 – August 31, 2004	—		—	—	—
September 1 – September 30, 2004	—		—	—	—

Total	1,307	$	10.79	—	—

No open market or private cash purchases of Company shares were made during the quarter. The shares indicated were existing owned Company shares used by option holders in payment of the purchase price and/or tax withholding obligations in connection with their exercise of stock options under the Company’s 2001 Stock Incentive Plan. The “price” indicates the deemed value of those shares under the 2001 Plan.

The foregoing table does not reflect shares that may be purchased in the future under the Company’s stock repurchase program that was announced on November 1, 2004.

Item 5.

Other Information.

On September 13, 2004, the Company refinanced $200.0 million of borrowings with the Federal Home Loan Bank of Chicago (“FHLB”) by simultaneously repaying existing indebtedness in that amount and entering into an agreement for new borrowings. In connection with that transaction, the Company paid an early payment fee of $1.7 million. The new indebtedness expires in September 2006, and bears interest at a fixed rate of 2.75%.

On October 14 and October 15, 2004, the Company borrowed an additional $100.0 million on each date (for a total of $200.0 million) from the FHLB. These new borrowings are due two years from the date of the borrowing and bears interest at a fixed rate of 2.75% and 2.78%, respectively. Proceeds of this borrowing were initially invested in mortgage-backed securities.

In both cases, these borrowings were made in the ordinary course of the Company’s financial institution business on terms made generally available by the FHLB to its member institutions. The borrowings were not accompanied by covenants or other restrictions which the Company believes materially affect it business or operations, or the rights of its shareholders. As a financial institution, the Company frequently adjusts financing sources and it also takes advantage of availability of funds when the Company believes it can employ them profitably and/or advantageously replace other sources of financing.

Since these borrowings were made in the ordinary course of the financial institution business and given their character, the Company does not believe these borrowings constitute material definitive agreements not made in the ordinary course of the business of a registrant, nor does the Company believe that these financings should be deemed to create direct financial obligations that are material to the registrant. However, to address any ambiguity, the Company chooses to specifically disclose these matters under this Item even though it does not believe that a Report on Form 8-K would have been due with respect to these matters, nor would one necessarily be required in the future in the case of similar events.

Item 6.

Exhibits

(a)

Exhibits: See Exhibit Index, which follows the signature page hereof.

Signatures

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.


				BANK MUTUAL CORPORATION (Registrant)

Date: November 5, 2004				/s/ MICHAEL T. CROWLEY, JR.
				Michael T. Crowley, Jr.
				Chairman, President and Chief Executive Officer

Date: November 5, 2004				/s/ RICK B. COLBERG
				Rick B. Colberg
				Chief Financial Officer

EXHIBIT INDEX

BANK MUTUAL CORPORATION

Form 10-Q for Quarter Ended September 30, 2004


Exhibit No.	Description	Filed Herewith
31.1	Sarbanes-Oxley Act Section 302 Certification signed by the Chairman and Chief Executive Officer of Bank Mutual Corporation	X

31.2	Sarbanes-Oxley Act Section 302 Certification signed by the Chief Financial Officer of Bank Mutual Corporation	X

32.1	Certification pursuant to 18 U.S. C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 signed by the Chairman and Chief Executive Officer of Bank Mutual Corporation	X

32.2	Certification pursuant to 18 U.S. C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 signed by the Chief Financial Officer of Bank Mutual Corporation	X