In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133 (SFAS 133), Accounting for Derivative Instruments and Hedging Activities. The Statement, as amended, establishes accounting and reporting standards requiring that every derivative instrument (including certain derivative instruments embedded in other contracts) be recorded in the balance sheet as either an asset or liability measured at its fair value. The Corporation does not own any freestanding or imbedded derivatives.
The Corporation adopted SFAS 133 effective January 1, 2001. The implementation of this statement did not have a material impact on the Corporation’s financial position or results of operations.
In June 2001, the Financial Standards Accounting Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 141, "Business Combinations" and SFAS No. 142, "Goodwill and Other Intangible Assets". SFAS No. 141 addresses financial accounting and reporting for business combinations and supercedes APB Opinion No. 16, "Business Combinations" and SFAS No. 38, "Accounting for Preacquisition Contingencies of Purchased Enterprises". SFAS No. 141 is effective for transactions initiated after June 30, 2001. SFAS No. 142 addresses financial accounting and reporting for acquired goodwill and other intangible assets and supersedes APB Opinion No. 17, Intangible Assets. It addresses how intangible assets that are acquired individually or with a group of other assets (but not those acquired in a business combination) should be accounted for in financial statements upon their acquisition. SFAS No. 142 also addresses how goodwill and other intangible assets should be accounted for after they have been initially recognized in the financial statements. The Corporation does not expect the adoption of this statement to have a material effect on its consolidated results of operations or financial position.
In June 2001, the Financial Standards Accounting Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 143, “Accounting for Asset Retirement Obligations”. This Statement addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. It applies to legal obligations associated with the retirement of long-lived assets that result from the acquisition, construction, development and (or) the normal operation of a long-lived asset, except for certain obligations of lessees. The Corporation is required to adopt the provisions of Statement No. 143 no later than the beginning of fiscal year 2003, with early adoption permitted. The Corporation does not expect the adoption of this statement to have a material effect on its consolidated results of operations or financial position.
In October 2001, the FASB issued Statement No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets”, which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. While Statement No. 144 supersedes FASB Statement No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, it retains many of the fundamental provisions of that Statement. Statement No. 144 becomes effective for fiscal years beginning after December 15, 2001, with early applications encouraged. The Corporation does not expect the adoption of this statement to have a material effect on its consolidated results of operations or financial position.
General
Total assets of the Corporation at September 30, 2001 of $406,658,000 have increased $72,598,000 or 22% as compared to September 30, 2000. Total loans of $273,835,000 have increased $31,601,000 or 13%, and total deposits of $357,931,000 have increased $59,737,000 or 20%. Since year-end 2000 the Corporation’s assets have increased 16%, loans increased 9%, and deposits increased 16%.
The Corporation’s loan-to-deposit ratio as of September 30, 2001 was 77%, as compared to 81% in 2000.
Net Income
Net income for the first nine months in 2001 of $4,070,000 was $643,000 less than the first nine months in 2000. This represented a return on average assets during this period of 1.48% and a return on average equity of 15.06%. The return on average assets during the first nine months of 2000 was 1.97%, and the return on average equity was 20.39%.
Net income for the three months ending September 30, 2001 of $1,473,000 was $188,000 less than the comparable period in 2000. The return on average assets during the third quarter was 1.55%, and the return on average equity was 18.32%. The return on average assets during the third quarter of 2000 was 2.01%, and the return on average equity was 20.81%.
Earning assets averaged $344,948,000 during the nine months ended September 30, 2001, as compared to $298,273,000 for the comparable period in 2000. Earning assets averaged $359,479,000 during the third quarter of 2001 as compared to $308,815,000 during the third quarter of 2000.
Diluted earnings per average common share were $1.18 for the first nine months of 2001 as compared to $1.33 for the first nine months of 2000. For the third quarter of 2001, diluted earnings per average common share were $0.43 as compared to $0.47 for the third quarter of 2000.
Net Interest Income
Interest income represents the interest earned by the Corporation on its portfolio of loans, investment securities, and other short-term investments. Interest expense represents interest paid to the Corporation’s depositors, as well as to others from whom the Corporation borrows funds on a temporary basis.
Net interest income is the difference between interest income on earning assets and interest expense on deposits and other borrowed funds. The volume of loans and deposits and interest rate fluctuations caused by economic conditions greatly affect net interest income.
Net interest income during the first nine months of 2001 was $16,707,000 or $143,000 less than the comparable period in 2000. This was on a net earning-asset base (earning assets less interest-bearing deposits and borrowings) that averaged $46,678,000 more than during the first nine months of 2000. The prime lending rate decreased from 9.50% at the beginning of 2001 to 6.00% as of September 30, 2001, or a drop of 3.50%. The average prime rate for the first nine months of 2001 was 7.51% as compared to an average of 9.15% in 2000.
Due to the Corporation’s asset-sensitive position, decreasing interest rates result in a decrease in the Corporation’s net interest margin. The Corporation’s net interest margin averaged 6.54% during the first nine months of 2001 as compared to 7.62% in 2000. The decrease in net interest margin alone is estimated to have resulted in a decrease in interest income of $2,298,000 during the first nine months of 2001. This was offset by the increased interest income related to growth of earning assets, which contributed an increase over the comparable period of an estimated $2,155,000. The result was a net decrease in interest income of $143,000 during the first nine months of 2001 as compared to 2000.
During the third quarter 2001 the Corporation’s net interest margin averaged 6.21% as compared to 7.77% in 2000. The decrease in net interest margin alone is estimated to have resulted in a decrease in interest income of $1,013,000 during the third quarter of 2001. This was offset by the increased interest income related to growth of earning assets, which contributed an increase over the comparable period of an estimated $591,000. The result was a net decrease in interest income of $422,000 during the third quarter of 2001 as compared to 2000.
Provision for Credit Losses
An allowance for credit losses is maintained at a level considered adequate to provide for losses that can be reasonably anticipated and is in accordance with SFAS 114. The allowance is increased by provisions charged to expense and reduced by net charge-offs. Management continually evaluates the economic climate, the performance of borrowers, and other conditions to determine the adequacy of the allowance.
The ratio of the allowance for credit losses to total loans as of September 30, 2001 was 1.80%, as compared to 2.12% for the period ending September 30, 2000. The Corporation’s ratios for both periods is considered adequate to provide for losses inherent in the loan portfolio.
The Corporation performs a quarterly analysis of the adequacy of its allowance for loan losses. As of September 30, 2001 the Corporation had fully allocated its reserves of $4,936,000. The Bank operates an Asset-based Lending Department, a Leasing Department and a Small Business Administration lending program. The Bank also has a high concentration of credit in Construction Real Estate lending. The uncertainties associated with the products, coupled with the Bank’s traditionally strong construction concentration, support a strong allowance position.
The Corporation had net charge-offs of $1,256,000 during the first nine months of 2001 as compared to net charge-offs of $102,000 during the comparable period in 2000. During the second quarter of 2001 a charge was taken against the allowance of approximately $600,000 and in the third quarter a charge was taken in the amount of $325,000 related to two borrowers in the Corporation’s Asset-based Lending Department. A thorough review of all credits in this department has been completed, utilizing both internal and external credit analysts, and management believes all identified probable credit losses have been provided for.
The following table provides information on past-due and nonaccrual loans:
September 30,
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2001 2000
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Loans Past-due 90 Days or More $ 31,000 $ 12,000
Nonaccrual Loans 1,117,000 206,000
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Total $1,148,000 $ 218,000
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As of September 30, 2001 and 2000, no loans were outstanding that had been restructured. No interest earned on nonaccrual loans that was recorded in income during 2001 remains uncollected. Interest foregone on nonaccrual loans was approximately $318,000 and $13,000, as of September 30, 2001 and 2000 respectively.
Noninterest Income
Noninterest income during the first nine months of 2001 was $2,329,000 greater than during the comparable period of 2000. The increase in 2001 was primarily related to increased activity in the Corporation’s brokerage subsidiary, BWC Mortgage Services, which had total fee income of $4,646,000 during the first nine months of 2001 which was $2,066,000 greater than that earned during the comparable period in 2000. The increase in income is in large part a reflection of the decrease in interest rates during the current year and the corresponding increase in mortgages and refinancing activity.
There were gains on securities available-for-sale of $65,000 during the first nine months of 2001 whereas there was only $9,000 during the 2000 period. The gains in 2001 were the result of a large number of agency securities which were called by the issuing agencies due to the decline in rates and the ability of these agencies to reissue debt at lower rates.
During the third quarter of 2001 noninterest income from BWC Mortgage Services was $1,623,000 which was $607,000 greater than that earned during the comparable quarter of 2000. The same reasons given above for the nine-month results are applicable to the third quarter.
Noninterest Expense
Noninterest expense during the first nine months of 2001 was $2,538,000 greater than during the comparable period in 2000.
BWC Mortgage Services reflected an increase in noninterest expense of $1,188,000 during the respective periods, which is related to their increase in mortgage origination activity due in part to lower interest rates.
Salaries and related benefits were $526,000 greater during the first nine months of 2001, as compared to 2000. This increase is related to the growth of operations, general merit increases and provision for performance bonuses. As the year progresses, if performance goals are not met, bonus provisions may be reduced or reversed. The Bank’s staff averaged 120 full-time equivalent (FTE) persons during the first nine months of 2001 as compared to 114 FTE in 2000.
Occupancy expense increased $314,000 over the comparable period in 2000 in part due to the Bank’s new San Jose office, which was opened in March, 2001, and due to CPI and operating increases.
Total furniture and equipment expenses increased $132,000 as compared to the 2000 period, which is related in part to the addition of the San Jose office and additions and upgrades to the Bank’s information technology systems. The Bank has added a number of new systems this year which will improve both internal operations and customer service in the future. Included in these enhancements are the Bank’s internet banking and bill paying services, a new customer profitability analysis system, a new accounts platform automation system and a check imaging system. The Bank also plans to extend the check imaging service to its internet banking clients.
Other expenses reflect an increase of $378,000 between the respective periods. The Bank incurred an operating loss of approximately $100,000 during the second quarter of 2001 related to check fraud. The balance of the increase in other expenses is primarily related to the Corporation’s growth and expanded activities.
During the third quarter of 2001 the Corporation’s noninterest expense increased $449,000 over the comparable quarter of 2000. BWC Mortgage Services reflected an increase in noninterest expense of $245,000 during the comparable periods, and other Corporation noninterest expenses reflected an increase of $204,000. The reasons that were applicable for the first nine months apply to the third quarter results, particularly as related to the new San Jose office and the addition of technology systems.
Other Real Estate Owned
As of September 30, 2001 the Corporation had no Other Real Estate Owned assets (assets acquired as the result of foreclosure on real estate collateral) on its books.
Capital Adequacy
The Federal Deposit Insurance Corporation (FDIC) has established risk-based capital guidelines requiring banks to maintain certain ratios of “qualifying capital” to “risk-weighted assets”. Under the guidelines, qualifying capital is classified into two tiers, referred to as Tier 1 (core) and Tier 2 (supplementary) capital. Currently, the bank’s Tier 1 capital consists of shareholders’ equity, while Tier 2 capital includes the eligible allowance for credit losses. The Bank has no subordinated notes or debentures included in its capital. Risk-weighted assets are calculated by applying risk percentages specified by the FDIC to categories of both balance-sheet assets and off-balance-sheet assets.
The Bank’s Tier 1 and Total (which included Tier 1 and Tier 2) risk-based capital ratios surpassed the regulatory minimum of 8% at September 30, for both 2001 and 2000. The FDIC has also adopted a leverage ratio requirement. This ratio supplements the risk-based capital ratios and is defined as Tier 1 capital divided by the quarterly average assets during the reporting period. The requirement established a minimum leverage ratio of 3% for the highest-rated banks.
The following table shows the Corporation’s risk-based capital ratios and leverage ratio as of September 30, 2001, December 31, 2000, and September 30, 2000.
Risk-based capital ratios: Capital Ratios
Minimum
September 30, December 31, September 30, Regulatory
2001 2000 2000 Requirements
Tier 1 capital 11.54% 12.21% 10.81% 4.00%
Total capital 12.79% 13.58% 12.06% 8.00%
Leverage ratio 9.79% 10.66% 9.98% 3.00%
Liquidity
Liquidity is a key aspect in the overall fiscal health of a financial corporation. The primary source of liquidity for BWC Financial Corp. is its marketable securities and Federal Funds Sold. Cash, investment securities and other temporary investments represented 31% of total assets at September 30, 2001 and 26% at September 30, 2000. The Corporation’s management has an effective asset and liability management program and carefully monitors its liquidity on a continuing basis. Additionally, the Corporation has available from correspondent banks Federal Fund lines of credit totaling $15,000,000 and the ability to borrow, on a collateralized basis, from the Federal Home Loan Bank and the Federal Reserve Bank.
Interest-Rate Risk Management
Movement in interest rates can create fluctuations in the Corporation’s income and economic value due to an imbalance in the re-pricing or maturity of assets or liabilities. The components of interest-rate risk which are actively measured and managed include: re-pricing risk and the risk of non-parallel shifts in the yield curve. Interest-rate risk exposure is actively managed with the goal of minimizing the impact of interest-rate volatility on current earnings and on the market value of equity.
In general, the assets and liabilities generated through ordinary business activities do not naturally create offsetting positions with respect to re-pricing or maturity characteristics. Therefore, the Corporation uses a variety of measurement tools to monitor and control the overall interest-rate risk exposure of the on-balance-sheet positions. For each measurement tool, the level of interest-rate risk created by the assets and liabilities is a function primarily of their contractual interest-rate re-pricing dates and contractual maturity (including principal amortization) dates.
The Corporation’s interest-rate risk as of September 30, 2001 was consistent with the interest-rate exposure presented in the Corporation’s 2000 annual report and was within the Corporation’s risk policy range.
Proper management of the rate sensitivity and maturities of assets and liabilities is required to provide an optimum and stable net interest margin. Interest rate sensitivity spread management is an important tool for achieving this objective and for developing strategies and means to improve profitability. The schedules shown below reflect the interest rate sensitivity position of the Corporation as of September 30, 2001. In a rising interest rate environment, the Corporation’s net interest margin and net interest income will improve. A falling interest rate environment will have the opposite effect. Management believes that the sensitivity ratios reflected in these schedules fall within acceptable ranges, and represent no undue interest rate risk to the future earnings prospects of the Corporation.
Repricing within: 3 3-6 12 1-5 Over 5
In thousands months months months years years Totals
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Assets:
Federal Funds Sold & Short-term
Investments $ 38,799 $ - $ - $ - $ - $ 38,799
Investment securities 5,693 4,978 10,745 46,261 707 68,384
Construction & Real Estate Loans 115,146 13,892 1,404 1,506 5,800 137,748
Commercial Loans 72,034 2,362 2,390 1,544 134 78,464
Consumer Loans 43,915 126 181 421 -- 44,643
Leases 82 192 1,328 11,416 -- 13,018
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Interest-bearing assets $ 275,669 $ 21,550 $ 16,048 $ 61,148 $ 6,641 $ 381,056
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Liabilities:
Money market accounts $ 114,919 $ 38,360 $ - $ - $ - $ 153,279
Time deposits <$100,000 9,213 9,394 10,682 1,797 1 31,087
Time deposits >$100,000 11,865 12,957 9,353 1,276 -- 35,451
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Interest-bearing liabilities $ 135,997 $ 60,711 $ 20,035 $ 3,073 $ 1 $ 219,817
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Rate-sensitive gap $ 139,672 $ (39,161) $ (3,987) $ 58,075 $ 6,640 $ 161,239
Cumulative rate-sensitive gap $ 139,672 $ 100,511 $ 96,524 $ 154,599 $ 161,239
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Cumulative rate-sensitive ratio 2.03 1.51 1.45 1.70 1.73
Item 1 - Legal Proceedings
The Corporation is a defendant in legal actions arising from normal
business activities. Management believes that these actions are without
merit or that the ultimate liability, if any, resulting from them will not
materially affect the Corporation's financial position.
Item 2 - Changes in Securities
None
Item 3 - Defaults Upon Senior Securities
None
Item 4 - Submission of Matters to a Vote of Security Holders
None
Item 5 - Other Materially Important Events
None
Item 6 - Exhibits and Reports on Form 8-K
On August 28, 2001 the Corporation terminated Arthur Andersen LLP as
principal accountants and engaged Moss Adams LLP as principal accountants
for fiscal year ending December 31, 2001. There were no disagreements with
Arthur Andersen LLP on any matters of accounting principles or practices,
financial statement disclosure, or auditing scope or procedures.
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.
BWC FINANCIAL CORP.
(Registrant)
October 25, 2001 James L. Ryan
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Date James L. Ryan
Chairman and Chief Executive Officer
October 25, 2001 Leland E. Wines
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Date Leland E. Wines
CFO and Corp. Secretary
