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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 QUARTER ENDED JUNE 30, 1999
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
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COMMISSION FILE NUMBER: 000-22007
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SOUTHWEST BANCORPORATION OF TEXAS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
TEXAS 76-0519693
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER OF
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
4400 POST OAK PARKWAY
HOUSTON, TEXAS 77027
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, INCLUDING ZIP CODE)
(713) 235-8800
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
------------------------
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes U No ____
------------------------
There were 27,930,951 shares of the Registrant's Common Stock outstanding
as of the close of business on July 28, 1999.
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SOUTHWEST BANCORPORATION OF TEXAS, INC. AND SUBSIDIARIES
INDEX TO FORM 10-Q
PAGE
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Report of Independent
Accountants.................... 2
Condensed Consolidated Balance
Sheet as of June 30, 1999 and
December 31, 1998
(unaudited).................... 3
Condensed Consolidated Statement
of Income for the Three Months
Ended June 30,
1999 and 1998, and for the Six
Months Ended June 30, 1999 and
1998 (unaudited)............... 4
Condensed Consolidated Statement
of Changes in Shareholders'
Equity for the
Six Months Ended June 30, 1999
(unaudited).................... 5
Condensed Consolidated Statement
of Cash Flows for the Six
Months Ended June 30,
1999 and 1998 (unaudited)..... 6
Notes to Condensed Consolidated
Financial Statements........... 7
Item 2. Management's Discussion and
Analysis of Financial Condition
and Results of Operations...... 10
Item 3. Quantitative and Qualitative
Disclosures About Market
Risk........................... 25
PART II. OTHER INFORMATION
Item 1. Legal Proceedings............... 26
Item 2. Changes in Securities and
Use of Proceeds................ 26
Item 3. Default upon Senior
Securities..................... 26
Item 4. Submission of Matters to a
Vote of Security Holders....... 26
Item 5. Other Information............... 26
Item 6. Exhibits and Reports on Form
8-K............................ 26
Signatures..................... 27
1
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
REPORT OF INDEPENDENT ACCOUNTANTS
Board of Directors
Southwest Bancorporation of Texas, Inc.:
We have reviewed the accompanying condensed consolidated balance sheet of
Southwest Bancorporation of Texas, Inc. and Subsidiaries (the "Company") as of
June 30, 1999, the related condensed consolidated statement of income for the
three- and six-month periods ended June 30, 1999 and 1998, the condensed
consolidated statement of changes in shareholders' equity for the six-month
period ended June 30, 1999 and the condensed consolidated statement of cash
flows for the six-month periods ended June 30, 1999 and 1998. These financial
statements are the responsibility of the Company's management.
We conducted our review in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures to
financial data and making inquiries of persons responsible for financial and
accounting matters. It is substantially less in scope than an audit conducted in
accordance with generally accepted auditing standards, the objective of which is
the expression of an opinion regarding the financial statements taken as a
whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that
should be made to the accompanying condensed consolidated interim financial
statements for them to be in conformity with generally accepted accounting
principles.
We have previously audited, prior to the restatement for the pooling of
interests described in Note 5, in accordance with generally accepted auditing
standards, the consolidated balance sheet of Southwest Bancorporation of Texas
and Subsidiary as of December 31, 1998, and the related consolidated statements
of income, of changes in shareholders' equity, and of cash flows for the year
then ended (not presented herein); and, in our report dated February 12, 1999,
we expressed an unqualified opinion on those consolidated financial statements.
We did not audit the consolidated financial statements of Fort Bend Holding
Corp. as of December 31, 1998, which statements reflect total assets and
shareholders' equity of $316.9 million and $33.6 million, respectively, as of
December 31, 1998. Those statements were reviewed by us in accordance with
standards established by the American Institute of Certified Public Accountants.
In our opinion, the information set forth in the accompanying condensed
consolidated balance sheet and statement of changes in shareholders' equity as
of December 31, 1998, is fairly stated, in all material respects in relation to
the consolidated financial statements from which they have been derived.
PricewaterhouseCoopers LLP
Houston, Texas
August 12, 1999
2
SOUTHWEST BANCORPORATION OF TEXAS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEET
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
(UNAUDITED)
JUNE 30, DECEMBER 31,
1999 1998
------------ ------------
ASSETS
Cash and due from banks.............. $ 124,888 $ 129,922
Federal funds sold and other cash
equivalents.......................... 39,340 57,571
------------ ------------
Total cash and cash
equivalents............ 164,228 187,493
Securities -- available for sale..... 715,377 651,623
Securities -- held to maturity....... -- 67,117
Loans held for sale.................. 24,020 15,310
Loans receivable, net................ 1,590,484 1,498,709
Premises and equipment, net.......... 32,664 30,944
Accrued interest receivable.......... 15,197 15,459
Prepaid expenses and other assets.... 83,712 55,736
------------ ------------
Total assets............... $ 2,625,682 $2,522,391
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits:
Demand -- noninterest-bearing... $ 553,928 $ 561,420
Demand -- interest-bearing...... 74,489 94,683
Money market accounts........... 670,337 735,000
Savings......................... 36,268 35,915
Time, $100 and over............. 365,640 337,365
Other time...................... 249,798 235,079
------------ ------------
Total deposits............. 1,950,460 1,999,462
Securities sold under repurchase
agreements......................... 208,116 181,696
Other short-term borrowings.......... 258,586 138,388
Long-term borrowings................. 4,286 4,362
Accrued interest payable............. 1,745 1,499
Other liabilities.................... 19,563 16,926
------------ ------------
Total liabilities.......... 2,442,756 2,342,333
------------ ------------
Minority interest in consolidated
subsidiary......................... -- 2,722
Commitments and contingencies
Shareholders' equity:
Common stock -- $1 par value,
50,000,000 shares authorized;
27,930,951 issued and
outstanding at June 30, 1999
and 27,649,710 issued and
27,394,005 outstanding at
December 31,
1998.......................... 27,931 27,650
Additional paid-in capital...... 61,201 58,549
Retained earnings............... 99,143 88,844
Accumulated other comprehensive
income......................... (5,349) 3,749
Treasury stock, at
cost -- 255,705 shares......... -- (1,456)
------------ ------------
Total shareholders'
equity................. 182,926 177,336
------------ ------------
Total liabilities and
shareholders' equity... $ 2,625,682 $2,522,391
============ ============
The accompanying notes are an integral part of the condensed consolidated
financial statements.
3
SOUTHWEST BANCORPORATION OF TEXAS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------- --------------------
1999 1998 1999 1998
--------- --------- --------- ---------
Interest income:
Loans........................... $ 33,078 $ 28,692 $ 64,554 $ 54,744
Securities...................... 11,549 9,460 22,385 18,617
Federal funds sold and other.... 397 1,462 1,151 3,683
--------- --------- --------- ---------
Total interest income...... 45,024 39,614 88,090 77,044
Interest expense on deposits and
other borrowings................... 19,340 17,208 37,687 34,431
--------- --------- --------- ---------
Net interest income........ 25,684 22,406 50,403 42,613
Provision for loan losses............ 1,515 945 3,060 1,563
--------- --------- --------- ---------
Net interest income after
provision for loan
losses.................. 24,169 21,461 47,343 41,050
--------- --------- --------- ---------
Other income:
Loan servicing income........... 435 206 513 458
Service charges................. 2,490 1,975 5,128 4,179
Other operating income.......... 3,620 2,841 7,311 5,296
Gain on sale of loans, net...... 48 297 272 605
Gains/(losses) on sales of
securities, net............... (242) 177 (149) 185
--------- --------- --------- ---------
Total other income......... 6,351 5,496 13,075 10,723
--------- --------- --------- ---------
Other expenses:
Salaries and employee
benefits...................... 11,690 10,356 23,608 20,131
Occupancy expense............... 3,037 2,629 5,971 5,148
Merger-related expenses and
other charges................. 4,474 48 4,474 67
Other operating expenses........ 4,611 4,387 9,259 8,102
--------- --------- --------- ---------
Total other expenses....... 23,812 17,420 43,312 33,448
--------- --------- --------- ---------
Income before income taxes
and minority interest... 6,708 9,537 17,106 18,325
Provision for income taxes........... 2,813 3,355 6,549 6,465
--------- --------- --------- ---------
Income before minority
interest................ 3,895 6,182 10,557 11,860
Minority interest.................... 34 123 (19) 159
--------- --------- --------- ---------
Net income................. $ 3,861 $ 6,059 $ 10,576 $ 11,701
========= ========= ========= =========
Earnings per common share:
Basic...................... $ 0.14 $ 0.24 $ 0.38 $ 0.45
========= ========= ========= =========
Diluted.................... $ 0.13 $ 0.22 $ 0.37 $ 0.42
========= ========= ========= =========
The accompanying notes are an integral part of the condensed consolidated
financial statements.
4
SOUTHWEST BANCORPORATION OF TEXAS, INC. AND SUBSIDARIES
CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
(UNAUDITED)
ACCUMULATED
COMMON STOCK ADDITIONAL OTHER TOTAL
------------------- PAID-IN RETAINED COMPREHENSIVE TREASURY SHAREHOLDERS'
SHARES DOLLARS CAPITAL EARNINGS INCOME/(LOSS) STOCK EQUITY
--------- ------- ---------- -------- -------------- -------- -------------
BALANCE, DECEMBER 31, 1998........... 27,394,005 $27,650 $ 58,549 $ 88,844 $ 3,749 $ (1,456) $ 177,336
Common stock issued to 401(k)
plan............................ 4,431 4 73 77
Exercise of stock options.......... 225,482 225 1,221 1,446
Deferred compensation
amortization.................... 171 171
Shares issued in exchange for
minority interest in Mitchell
Mortgage........................ 307,323 307 2,268 2,575
Cancellation of treasury stock..... (255) (1,201) 1,456
Other, net......................... (290) 120 120
Cash dividends..................... (277) (277)
Comprehensive income:
Net income for the six months
ended June 30, 1999........... 10,576 10,576
Net change in unrealized
depreciation on securities
available for sale, net
of deferred taxes of $4,898... (9,098) (9,098)
-------------
Total comprehensive income......... 1,478
--------- ------- ---------- -------- -------------- -------- -------------
BALANCE, JUNE 30, 1999............... 27,930,951 $27,931 $ 61,201 $ 99,143 $ (5,349) $ -- $ 182,926
========= ======= ========== ======== ============== ======== =============
The accompanying notes are an integral part of the condensed consolidated
financial statements.
5
SOUTHWEST BANCORPORATION OF TEXAS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
SIX MONTHS
ENDED JUNE 30,
--------------------
1999 1998
--------- ---------
Cash flows from operating activities:
Net income....................... $ 10,576 $ 11,701
Adjustments to reconcile net
income to net cash provided by
(used in) operating activities:
Provision for loan losses.... 3,060 1,563
Depreciation................. 3,662 2,552
Realized (gains) losses on
securities available for
sale, net.................... 149 (185)
Amortization................. 1,781 1,922
Minority interest in net
income of consolidted
subsidiary................... (19) 159
Dividends on Federal Home
Loan Bank stock.............. (219) (609)
Origination of loans held for
sale and mortgage servicing
rights....................... (55,336) (64,483)
Proceeds from sales of
loans........................ 46,547 61,103
Increase in accrued interest
receivable, prepaid expenses
and other assets............. (23,491) (11,264)
Increase (decrease) in
accrued interest payable and
other liabilities............ 3,474 (29)
Other, net................... (83) (328)
Adjustment to conform
reporting periods............ -- 2,650
--------- ---------
Net cash provided by
(used in) operating
activities............... (9,899) 4,752
--------- ---------
Cash flows from investing activities:
Proceeds from maturity of
securities available for sale... 40,000 122,446
Proceeds from maturity of
securities held to maturity..... 2,212 2,000
Principal paydowns of
mortgage-backed securities
available for sale.............. 54,423 62,748
Principal paydowns of
mortgage-backed securities held
to maturity..................... 7,315 11,183
Proceeds from sale of securities
available for sale.............. 234,978 112,077
Purchase of securities available
for sale........................ (350,318) (242,502)
Net increase in loans
receivable...................... (95,074) (177,678)
Purchase of premises and
equipment....................... (5,272) (4,901)
Other, net....................... 380 18
Adjustment to conform reporting
periods......................... -- 9,654
--------- ---------
Net cash used in
investing activities..... (111,356) (104,955)
--------- ---------
Cash flows from financing activities:
Net (decrease) increase in
noninterest-bearing demand
deposits........................ (7,492) 20,314
Net increase (decrease) in time
deposits........................ 42,994 (4,489)
Net (decrease) increase in other
interest-bearing deposits....... (84,504) 71,722
Net increase in securities sold
under repurchase agreements..... 26,420 18,512
Net increase (decrease) in other
short-term borrowings........... 120,198 (12,201)
Payments on long term
borrowings...................... (76) (27)
Proceeds from long term
borrowings...................... -- 500
Net increase in advances from
borrowers for taxes and
insurance....................... -- 2,865
Net proceeds from exercise of
stock options................... 855 1,763
Payment of dividends to minority
stockholders.................... (128) (172)
Payment of dividends on common
stock........................... (277) (345)
Adjustment to conform reporting
periods......................... -- (13,318)
--------- ---------
Net cash provided by
financing activities..... 97,990 85,124
--------- ---------
Net decrease in cash and cash
equivalents........................ (23,265) (15,079)
Cash and cash equivalents at
beginning of period................ 187,493 264,023
--------- ---------
Cash and cash equivalents at end of
period............................. $ 164,228 $ 248,944
========= =========
The accompanying notes are an integral part of the condensed consolidated
financial statements.
6
SOUTHWEST BANCORPORATION OF TEXAS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
The condensed consolidated financial statements include the accounts of
Southwest Bancorporation of Texas, Inc. (the "Company") and its direct and
indirect wholly-owned subsidiaries Southwest Holding Delaware Inc. (the
"Delaware Company"), Southwest Bank of Texas National Association (the
"Bank") and Mitchell Mortgage Company, LLC ("Mitchell") (see Note 5). These
financial statements give retroactive effect to the merger of Fort Bend Holding
Corp., ("Fort Bend") on April 1, 1999 in a transaction accounted for as a
pooling of interests (See Note 5). All material intercompany accounts and
transactions have been eliminated. In the opinion of management, the unaudited
condensed consolidated financial statements reflect all adjustments, consisting
only of normal and recurring adjustments, necessary to present fairly the
Company's consolidated financial position at June 30, 1999 and December 31,
1998, consolidated results of operations for the three-month and six-month
periods ended June 30, 1999 and 1998, consolidated cash flows for the six months
ended June 30, 1999 and 1998 and the consolidated changes in shareholders'
equity for the six months ended June 30, 1999. Interim period results are not
necessarily indicative of results of operations or cash flows for a full-year
period.
These financial statements and the notes thereto should be read in
conjunction with the Company's annual report on Form 10-K for the year ended
December 31, 1998, Fort Bend's annual report on Form 10-K for the year ended
March 31, 1998, Form S-4 dated January 13, 1999 and Form 8-K dated April 1,
1999.
NEW ACCOUNTING PRONOUNCEMENTS
In June 1998, Statement of Financial Accounting Standards (SFAS) No. 133,
ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES, as amended, was
issued by the Financial Accounting Standards Board to establish accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts, and for hedging activities. SFAS No.
133 requires that an entity recognize those instruments at fair value. If
certain conditions are met, a derivative may be specifically designated as (a) a
hedge of the exposure to changes in the fair value of a recognized asset or
liability or an unrecognized firm commitment, (b) a hedge of the exposure to
variable cash flows of a forecasted transaction, or (c) a hedge of the foreign
currency exposure of a net investment in a foreign operation, an unrecognized
firm commitment, an available-for-sale security, or a foreign-currency-
denominated forecasted transaction. The accounting for the changes in the fair
value of a derivative depends on the intended use of the derivative and the
resulting designation. The standard is effective for all fiscal years beginning
after June 15, 2000. This pronouncement is not anticipated to have a material
affect on the Company's financial position, results of operations or cash flows.
2. COMPREHENSIVE INCOME (LOSS)
Comprehensive income (loss) consisted of the following:
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------- --------------------
1999 1998 1999 1998
--------- --------- --------- ---------
Net income........................... $ 3,861 $ 6,059 $ 10,576 $ 11,701
Net change in unrealized
appreciation/
(depreciation) on securities
available for sale, net of tax..... (7,073) (1,567) (9,098) (976)
--------- --------- --------- ---------
Total comprehensive income (loss).... $ (3,212) $ 4,492 $ 1,478 $ 10,725
========= ========= ========= =========
7
SOUTHWEST BANCORPORATION OF TEXAS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(UNAUDITED)
3. EARNINGS PER COMMON SHARE:
Earnings per common share is computed as follows:
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------- --------------------
1999 1998 1999 1998
--------- --------- --------- ---------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Net income........................... $ 3,861 $ 6,059 $ 10,576 $ 11,701
Interest on 8% convertible
debentures, net of tax............. 123 307
Minority interest in net income of
subsidiary, net of tax............. 22 (a) (13) 105
--------- --------- --------- ---------
Net income, adjusted................. $ 3,883 $ 6,182 $ 10,563 $ 12,113
========= ========= ========= =========
Divided by average common shares and
common share equivalents:
Average common shares........... 27,574 25,740 27,519 25,486
Average common shares issuable
under the stock option plan... 1,078 1,355 1,032 1,388
Average common shares issuable
with the conversion of the 8%
convertible debentures........ 1,474 1,529
Average common shares issuable
with the conversion of the
minority interest of
subsidiary.................... 277 (a) 290 282
--------- --------- --------- ---------
Total average common shares and
common
share equivalents.................. 28,929 28,569 28,841 28,399
========= ========= ========= =========
Basic earnings per common share...... $ 0.14 $ 0.24 $ 0.38 $ 0.45
========= ========= ========= =========
Diluted earnings per common share.... $ 0.13 $ 0.22 $ 0.37 $ 0.42
========= ========= ========= =========
- ------------
(a) The assumed conversion of the minority ownership interest into shares of
common stock has an antidilutive effect on earnings per share for the three
months ended June 30, 1998. Thus, it is excluded from the calculation of
diluted earnings per share.
4. SUPPLEMENTAL NONCASH FINANCING ACTIVITIES:
During the six months ended June 30, 1999, the Company reduced its federal
income tax liability by approximately $591,000 and recorded a corresponding
increase to additional paid-in capital representing the tax benefit related to
the exercise of certain stock options.
5. MERGER RELATED ACTIVITY:
On April 1, 1999, the Company consummated its previously announced merger
with Fort Bend, whereby Fort Bend merged into the Company. Fort Bend is the
parent company of Fort Bend Federal Savings and Loan Association of Rosenberg
(which also was merged into the Bank on April 1, 1999) and the majority owner of
Mitchell. In accordance with the Agreement and Plan of Merger, the Company
exchanged 1.45 shares of the Company's common shares for each share of Fort Bend
common stock, resulting in the issuance of approximately 4.6 million shares of
Company Common Stock on a fully diluted basis. At March 31, 1999, Fort Bend had
total assets of approximately $316 million and total deposits of $269 million.
The transaction has been accounted for as a pooling of interests; therefore the
Company's
8
SOUTHWEST BANCORPORATION OF TEXAS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(UNAUDITED)
condensed consolidated financial statements have been restated to include the
accounts and operations of Fort Bend for all periods presented.
Separate interest income and net income amounts of the merged entities are
presented in the following table:
SIX MONTHS ENDED
JUNE 30,
--------------------
1999 1998
--------- ---------
Interest income:
Periods prior to consummation:
Southwest Bancorporation........ $ 37,612 $ 65,849
Fort Bend ...................... 5,454 11,195
Periods subsequent to
consummation.................... 45,024 --
--------- ---------
Total interest income...... $ 88,090 $ 77,044
========= =========
Net income:
Periods prior to consummation:
Southwest Bancorporation........ $ 6,305 $ 10,626
Fort Bend....................... 410 1,075
Periods subsequent to
consummation.................... 3,861 --
--------- ---------
Total net income........... $ 10,576 $ 11,701
========= =========
Through the merger with Fort Bend, the Company acquired Fort Bend's 51
percent ownership interest in Mitchell, a full-service mortgage banking
affiliate of The Woodlands Operating Company, L.P. ("Woodlands"). Following
the merger, Woodlands had the right to convert its 49% ownership interest in
Mitchell into shares of Company common stock at an exchange rate of 119.3408
shares for each $1,000 of its ownership interest in Mitchell. Prior to the
merger, Woodlands had the right to convert its ownership interest into Fort Bend
stock. Effective as of June 30, 1999, Woodlands exercised its conversion right,
resulting in the issuance of 307,323 shares of Company common stock to Woodlands
in exchange for Woodlands' 49% ownership interest in Mitchell and Mitchell
becoming a wholly-owned subsidiary of the Bank. The acquisition of additional
ownership interest in Mitchell has been accounted for as a purchase.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
On April 1, 1999, Southwest Bancorporation of Texas, Inc. (the "Company")
and Fort Bend Holding Corp. ("Fort Bend") completed their previously announced
merger, which was accounted for as a pooling of interests. The merger agreement
provided for the exchange of 1.45 shares of the Company's Common Stock for each
share of Fort Bend Common Stock, resulting in the issuance of approximately 4.6
million shares of Company Common Stock on a fully diluted basis. In connection
with this merger, the Company incurred approximately $4.5 million in pretax
merger-related expenses and other charges (the "special charge"). The
historical financial data has been restated to include the accounts and
operations of Fort Bend for all periods presented.
Total assets at June 30, 1999, and December 31, 1998 were $2.63 billion,
and $2.52 billion, respectively. Gross loans were $1.63 billion at June 30,
1999, an increase of $100 million or 6% from $1.53 billion at December 31, 1998.
This growth was a result of a strong local economy, and the Company's style of
relationship banking. Shareholders' equity was $182.9 million and $177.3 million
at June 30, 1999 and December 31, 1998, respectively.
RESULTS OF OPERATIONS EXCLUDING MERGER-RELATED EXPENSES AND NET LOSSES ON SALES
OF SECURITIES
For the six months ended June 30, 1999, net income would have been $14.3
million compared to $11.7 million for the same period in 1998, an increase of 22
percent. For the three months ended June 30, 1999, net income would have been
$7.5 million, or $0.26 per common share compared to $6.1 million or $0.22 per
common share for the same period in 1998, an increase of 24 percent and 18
percent, respectively. Return on average assets and return on average common
shareholders' equity for the three months ended June 30, 1999 would have been
1.17 percent and 16.51 percent, respectively.
RESULT OF OPERATIONS AS REPORTED
For the six months ended June 30, 1999, net income was $10.6 million
compared to $11.7 million for the same period in 1998, a decrease of 10 percent.
For the three months ended June 30, 1999, net income was $3.9 million compared
to $6.1 million for the same period in 1998, a decrease of 36 percent. Net
income per diluted common share was $0.13 for the three months ended June 30,
1999 compared with $0.22 for the three months ended June 30, 1998. Return on
average assets and return on average common shareholders' equity for the three
months ended June 30, 1999 was 0.60 percent, and 8.45 percent, respectively.
RESULTS OF OPERATIONS
INTEREST INCOME
Interest income for the three months ended June 30, 1999 was $45.0 million,
an increase of $5.4 million, or 14% from the three months ended June 30, 1998.
For the six months ended June 30, 1999, interest income was $88.1 million, an
$11.0 million, or 14% increase from the same period a year ago. This increase in
interest income is due to a $375.4 million increase in average earning assets to
$2.37 billion for the three months ended June 30, 1999, a 19% increase from the
same period last year.
Interest income on loans increased $4.4 million to $33.1 million for the
three months ended June 30, 1999. This was due to a $311.1 million increase in
average loans outstanding during the same period. Interest income on securities
increased to $11.5 million, a $2.1 million increase from the prior comparable
period. This increase was attributable to a $135.7 million increase in average
securities outstanding, up 22% when compared to the three months ended June 30,
1998.
For the six months ended June 30, 1999, interest income on loans increased
18% to $64.6 million, up from $54.7 million for the same period last year.
Interest income on securities increased to $22.4 million, an increase of $3.8
million or 20% from the prior period. These gains were principally related to an
increase of 19% in average earning assets to $2.3 billion for the six months
ended June 30, 1999 over the same period in 1998.
10
INTEREST EXPENSE
Interest expense on deposits and other borrowings was $19.3 million for the
three months ended June 30, 1999, compared to $17.2 million for the same period
in 1998. For the six months ended June 30, 1999, interest expense on deposits
and other borrowings was $37.7 million compared to $34.4 million for the same
period a year ago. The increase in interest expense was attributable to a $325.8
million and $311.7 million respective increase in average interest-bearing
liabilities for the three- and six-month comparable periods.
NET INTEREST INCOME
Net interest income was $25.7 million for the three months ended June 30,
1999, compared with $22.4 million for the same period in 1998, an increase of
15%. For the six months ended June 30, 1999, net interest income increased 18%
from the same period in 1998 to $50.4 million. The increase in net interest
income during the three- and six-months ended June 30, 1999 was largely due to
growth in average interest-earning assets, primarily loans.
The net interest margin was 4.34% for the three months ended June 30, 1999,
compared with 4.50% in the second quarter of 1998. The net interest margin was
4.36% for the six months ended June 30, 1999, down from 4.38% for the first six
months of 1998. The decrease in the net interest margin was primarily due to a
decrease in the yield on average earning assets which decreased 35 basis points
to 7.61% for the three months ended June 30, 1999, and 29 basis points to 7.63%
for the six months ended June 30, 1999.
11
The following table presents for the periods indicated the total dollar
amount of interest income from average interest-earning assets and the resultant
yields, as well as the interest expense on average interest-bearing liabilities,
expressed both in dollars and rates. No tax equivalent adjustments were made and
all average balances are daily average balances. Nonaccruing loans have been
included in the table as loans carrying a zero yield.
THREE MONTHS ENDED THREE MONTHS ENDED
JUNE 30, 1999 JUNE 30, 1998
--------------------------------- ---------------------------------
AVERAGE INTEREST AVERAGE AVERAGE INTEREST AVERAGE
OUTSTANDING EARNED/ YIELD/ OUTSTANDING EARNED/ YIELD/
BALANCE PAID RATE BALANCE PAID RATE
----------- ------- ------- ----------- ------- -------
(DOLLARS IN THOUSANDS)
ASSETS
Interest-earning assets:
Loans.............................. $ 1,590,012 $33,078 8.34% $ 1,278,914 $28,692 9.00%
Securities......................... 748,156 11,549 6.19 612,421 9,460 6.20
Federal funds sold and other....... 34,533 397 4.61 106,011 1,462 5.53
----------- ------- ------- ----------- ------- -------
Total interest-earning
assets..................... 2,372,701 45,024 7.61% 1,997,346 39,614 7.96%
------- ------- ------- -------
Less allowance for loan losses.......... (16,892) (12,894)
----------- -----------
Total earning assets, net of
allowance............................. 2,355,809 1,984,452
Nonearning assets....................... 222,755 153,723
----------- -----------
Total assets.................. $ 2,578,564 $ 2,138,175
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Interest-bearing liabilities:
Money market and savings
deposits......................... $ 831,157 7,266 3.51% $ 792,447 7,775 3.94%
Certificates of deposits........... 608,015 7,392 4.88 512,735 6,739 5.27
Repurchase agreements and borrowed
funds............................ 402,751 4,682 4.66 210,913 2,694 5.12
----------- ------- ------- ----------- ------- -------
Total interest-bearing
liabilities................ 1,841,923 19,340 4.21% 1,516,095 17,208 4.55%
------- ------- ------- -------
Noninterest-bearing liabilities:
Noninterest-bearing demand
deposits......................... 528,153 453,645
Other liabilities.................. 25,288 20,939
----------- -----------
Total liabilities............. 2,395,364 1,990,679
Shareholders' equity.................... 183,200 147,496
----------- -----------
Total liabilities and
shareholders' equity....... $ 2,578,564 $ 2,138,175
=========== ===========
Net interest income..................... $25,684 $22,406
======= =======
Net interest spread..................... 3.40% 3.41%
======= =======
Net interest margin..................... 4.34% 4.50%
======= =======
12
SIX MONTHS ENDED SIX MONTHS ENDED
JUNE 30, 1999 JUNE 30, 1998
--------------------------------- ---------------------------------
AVERAGE INTEREST AVERAGE AVERAGE INTEREST AVERAGE
OUTSTANDING EARNED/ YIELD/ OUTSTANDING EARNED/ YIELD/
BALANCE PAID RATE BALANCE PAID RATE
----------- ------- ------- ----------- ------- -------
(DOLLARS IN THOUSANDS)
ASSETS
Interest-earning assets:
Loans.............................. $ 1,555,442 $64,554 8.37% $ 1,226,620 $54,744 9.00%
Securities......................... 723,897 22,385 6.24 601,989 18,617 6.24
Federal funds sold and other....... 49,216 1,151 4.72 132,079 3,683 5.62
----------- ------- ------- ----------- ------- -------
Total interest-earning
assets..................... 2,328,555 88,090 7.63% 1,960,688 77,044 7.92%
------- ------- ------- -------
Less allowance for loan losses.......... (16,333) (12,634)
----------- -----------
Total earning assets, net of
allowance............................. 2,312,222 1,948,054
Nonearning assets....................... 209,139 156,635
----------- -----------
Total assets.................. $ 2,521,361 $ 2,104,689
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Interest-bearing liabilities:
Money market and savings
deposits......................... $ 846,503 14,825 3.53% $ 770,753 15,343 4.01%
Certificates of deposits........... 606,254 14,738 4.90 516,641 13,601 5.31
Repurchase agreements and borrowed
funds............................ 357,154 8,124 4.59 210,846 5,487 5.25
----------- ------- ------- ----------- ------- -------
Total interest-bearing
liabilities................ 1,809,911 37,687 4.20% 1,498,240 34,431 4.63%
------- ------- ------- -------
Noninterest-bearing liabilities:
Noninterest-bearing demand
deposits......................... 522,005 444,360
Other liabilities.................. 25,442 18,358
----------- -----------
Total liabilities............. 2,357,358 1,960,958
Shareholders' equity.................... 164,003 143,731
----------- -----------
Total liabilities and
shareholders' equity....... $ 2,521,361 $ 2,104,689
=========== ===========
Net interest income..................... $50,403 $42,613
======= =======
Net interest spread..................... 3.43% 3.29%
======= =======
Net interest margin..................... 4.36% 4.38%
======= =======
13
The following table presents the dollar amount of changes in interest
income and interest expense for the major components of interest-earning assets
and interest-bearing liabilities and distinguishes between the increase
(decrease) related to outstanding balances and the volatility of interest rates.
For purposes of this table, changes attributable to both rate and volume which
cannot be segregated have been allocated.
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------------------- -------------------------------
1999 VS. 1998 1999 VS. 1998
------------------------------- -------------------------------
INCREASE (DECREASE) INCREASE (DECREASE)
DUE TO DUE TO
------------------------------- -------------------------------
VOLUME RATE TOTAL VOLUME RATE TOTAL
--------- --------- --------- --------- --------- ---------
(DOLLARS IN THOUSANDS)
INTEREST-EARNING ASSETS:
Loans................................... $ 6,979 $ (2,593) $ 4,386 $ 14,675 $ (4,865) $ 9,810
Securities.............................. 2,097 (8) 2,089 3,770 (2) 3,768
Federal funds sold and other............ (986) (79) (1,065) (2,365) (167) (2,532)
--------- --------- --------- --------- --------- ---------
Total increase (decrease) in
interest income.................. 8,090 (2,680) 5,410 16,080 (5,034) 11,046
--------- --------- --------- --------- --------- ---------
INTEREST-BEARING LIABILITIES:
Money market and savings deposits....... 375 (884) (509) 1,508 (2,026) (518)
Certificates of deposits................ 1,252 (599) 653 2,359 (1,222) 1,137
Repurchase agreements and borrowed
funds................................. 2,450 (462) 1,988 3,807 (1,170) 2,637
--------- --------- --------- --------- --------- ---------
Total increase (decrease) in
interest expense................. 4,077 (1,945) 2,132 7,674 (4,418) 3,256
--------- --------- --------- --------- --------- ---------
Increase (decrease) in net interest
income................................ $ 4,013 $ (735) $ 3,278 $ 8,406 $ (616) $ 7,790
========= ========= ========= ========= ========= =========
PROVISION FOR LOAN LOSSES
The provision for loan losses was $1.5 million for the three months ended
June 30, 1999 as compared to $945,000 for the three months ended June 30, 1998.
The provision for loan losses was $3.1 million for the six months ended June 30,
1999 as compared to $1.6 million for the six months ended June 30, 1998.
Although no assurance can be given, management believes that the present
allowance for loan losses is adequate considering loss experience, delinquency
trends and current economic conditions. Management will continue to review its
loan loss allowance policy as the Company's loan portfolio grows and
diversifies.
14
NONINTEREST INCOME
Noninterest income for the three months ended June 30, 1999 was $6.4
million, an increase of $855,000 or 16% over the same period in 1998.
Noninterest income for the six months ended June 30, 1999 was $13.1 million, an
increase of 22%, from $10.7 million during the comparable period in 1998. The
following table presents for the periods indicated the major changes in
noninterest income.
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------- --------------------
1999 1998 1999 1998
--------- --------- --------- ---------
(DOLLARS IN THOUSANDS)
Service charges on deposit
accounts........................... $ 2,490 $ 1,975 $ 5,128 $ 4,179
Investment services.................. 1,036 876 2,075 1,670
Gain/(loss) on sale of securities,
net................................ (242) 177 (149) 185
Mortgage fee income and other
charges............................ 847 1,225 1,833 2,192
Gain on sale of loans, net........... 48 297 272 605
Loan servicing income................ 435 206 513 458
Factoring fee income................. 766 396 1,342 716
Other noninterest income............. 971 344 2,061 718
--------- --------- --------- ---------
Total noninterest income........ $ 6,351 $ 5,496 $ 13,075 $ 10,723
========= ========= ========= =========
Service charges were $2.5 million for the three months ended June 30, 1999,
compared to $2.0 million for the three months ended June 30, 1998, an increase
of $515,000 or 26%. Service charges were $5.1 million for the six months ended
June 30, 1999 compared to $4.2 million for the same period in 1998, an increase
of $1.0 million, or 23%. The deposit accounts serviced increased to 72,654 at
June 30, 1999 from 63,222 at June 30, 1998.
For the three months ended June 30, 1999, investment services income grew
to $1 million, an increase of 18% over the 1998 level. For the six months ended
June 30, 1999, investment services income grew to $2.1 million or 24% from the
$1.7 million level during the 1998 period. This increase is attributable to the
expanding international and foreign exchange departments, as well as the
continued strategic focus by the Company to increase its competitive position in
providing investment services.
Fee income earned from mortgage lending and gains recorded from the sale of
loans declined for each of the reported periods. This decline was primarily the
result of a decrease in the volume of transactions processed due to interest
rate uncertainty. Gain on sale of loans was adversely affected by less favorable
pricing in the secondary market during the current year.
Other noninterest income for the three months ended June 30, 1999 increased
182% to $971,000 from $344,000 in 1998. Significant components of this increase
include earnings from bank owned life insurance of $343,000 and gains from sale
of assets of $114,000. For the six months ended June 30, 1999, other noninterest
income increased 187% to $2.1 million, up $1.3 million from the same period in
1998. This increase was primarily due to earnings from bank owned life insurance
of $626,000 and earnings from an unconsolidated investee of $238,000.
NONINTEREST EXPENSES
For the three months ended June 30, 1999, noninterest expenses totaled
$23.8 million, an increase of $6.4 million, or 37%, from $17.4 million during
1998. For the six months ended June 30, 1999 noninterest expenses totaled $43.3
million, an increase of $9.9 million, or 29%, from the same period in 1998. The
increase in noninterest expenses during these periods was primarily due to $4.5
million in merger-related expenses and other charges (including investment
banking fees, other professional fees and severance expense), in connection with
the merger with Fort Bend and increases in salaries and employee benefits.
Excluding the special charge, the efficiency ratio would have decreased to
59.61% for the three months ended June 30, 1999 from 62.83% for the comparable
period in 1998. For the six months ended June 30, the efficiency ratio increased
to 64.01% for 1999 from 62.93% for 1998.
15
Salary and benefit expense for the three months ended June 30, 1999 was
$11.7 million, an increase of $1.3 million or 13% from the three months ended
June 30, 1998. Salary and benefit expense for the six months ended June 30, 1999
was $23.6 million, an increase of $3.5 million or 17% from the same period in
1998. This increase was due primarily to hiring of additional personnel required
to accommodate the Company's growth. Total full-time employees at June 30, 1999
and June 30, 1998 were 889 and 794, respectively.
Occupancy expense increased $400,000, or 16% to $3.0 million for the three
months ended June 30, 1999. For the six months ended June 30, 1999, occupancy
expense increased $800,000, or 16% from the same period a year ago to $6.0
million. Major categories within occupancy expense are building lease expense
and depreciation expense. Building lease expense increased to $837,000 for the
three months ended June 30, 1999 from $636,000 for the same period in 1998. For
the six months ended June 30, 1999, building lease expense was $1.7 million, an
increase of 23%, or $310,000 from $1.3 million for the first six months of 1998.
This increase resulted from increasing operating costs at the 25 branches, and
by increasing the rentable square feet at the corporate office. Depreciation
expense was $1.6 million for the three months ended June 30, 1999, an increase
of 23% or $300,000 from the $1.3 million level from the prior comparable period.
For the six months ended June 30, 1999 depreciation expense increased $600,000,
or 24%, to $3.1 million from $2.5 million in the first six months of 1998. This
increase was primarily due to depreciation on equipment provided to new
employees and expense related to technology upgrades throughout the Company.
INCOME TAXES
Income tax expense includes the regular federal income tax at the statutory
rate, plus the income tax component of the Texas franchise tax. The amount of
federal income tax expense is influenced by the amount of taxable income, the
amount of tax-exempt income, the amount of nondeductible interest expense, and
the amount of other nondeductible expenses. Taxable income for the income tax
component of the Texas franchise tax is the federal pre-tax income, plus certain
officers salaries, less interest income from federal securities. For the three
months ended June 30, 1999, the provision for income taxes was $4.4 million
excluding merger related expenses, an increase of $1 million or 29% from the
$3.4 million provided for the same period in 1998. For the six months ended June
30, 1999, income tax expense was $6.5 million, unchanged from the same period in
1998.
FINANCIAL CONDITION
LOAN PORTFOLIO
Total gross loans were $1.63 billion at June 30, 1999, an increase of $100
million or 7% from $1.53 billion at December 31, 1998.
The following table summarizes the loan portfolio of the Company by type of
loan as of June 30, 1999 and December 31, 1998:
JUNE 30, 1999 DECEMBER 31, 1998
---------------------- ----------------------
AMOUNT PERCENT AMOUNT PERCENT
------------ ------- ------------ -------
Commercial and industrial............... $ 630,013 38.6% $ 639,207 41.8%
Real estate:
Construction and land
development........................ 363,064 22.2 296,004 19.4%
1-4 family......................... 316,492 19.4 267,690 17.5%
Commercial owner occupied.......... 164,313 10.1 167,084 10.9%
Ranchland.......................... 7,533 0.5 8,134 0.5%
Other.............................. 21,048 1.3 20,719 1.4%
Consumer................................ 129,376 7.9 130,161 8.5%
------------ ------- ------------ -------
Total loans............................. $ 1,631,839 100.0% $ 1,528,999 100.0%
============ ======= ============ =======
16
The primary lending focus of the Company is on small- and medium-sized
commercial, residential mortgage and consumer loans. The Company offers a
variety of commercial lending products including term loans, lines of credit and
equipment financing. A broad range of short- to medium-term commercial loans,
both collateralized and uncollateralized, are made available to businesses for
working capital (including inventory and receivables), business expansion
(including acquisitions of real estate and improvements) and the purchase of
equipment and machinery. The purpose of a particular loan generally determines
its structure.
Generally, the Company's commercial loans are underwritten in the Company's
primary market area on the basis of the borrower's ability to service such debt
from income. As a general practice, the Company takes as collateral a lien on
any available real estate, equipment or other assets. Working capital loans are
primarily collateralized by short-term assets whereas term loans are primarily
collateralized by long-term assets.
A substantial portion of the Company's real estate loans consists of loans
collateralized by real estate and other assets of commercial customers.
Additionally, a portion of the Company's lending activity consists of the
origination of single-family residential mortgage loans collateralized by
owner-occupied properties located in the Company's primary market area. The
Company offers a variety of mortgage loan products which generally are amortized
over five to 30 years.
Loans collateralized by single-family residential real estate generally
have been originated in amounts of no more than 90% of appraised value. The
Company requires mortgage title insurance and hazard insurance in the amount of
the loan. Although the contractual loan payment periods for single-family
residential real estate loans are generally for a three to seven year period,
such loans often remain outstanding for significantly shorter periods than their
contractual terms.
Consumer loans made by the Company include automobile loans, recreational
vehicle loans, boat loans, home improvement loans, personal loans
(collateralized and uncollateralized) and deposit account collateralized loans.
The terms of these loans typically range from 12 to 84 months and vary based
upon the nature of collateral and size of loan.
The contractual maturity ranges of the commercial and industrial and real
estate construction loan portfolio and the amount of such loans with fixed
interest rates and floating rates in each maturity range as of June 30, 1999 are
summarized in the following table:
JUNE 30, 1999
--------------------------------------------------
AFTER ONE AFTER
ONE YEAR THROUGH FIVE
OR LESS FIVE YEARS YEARS TOTAL
---------- ----------- --------- ------------
(DOLLARS IN THOUSANDS)
Commercial and industrial............... $ 369,937 $ 236,569 $ 23,507 $ 630,013
Real estate construction................ 227,359 114,491 21,214 363,064
---------- ----------- --------- ------------
Total.............................. $ 597,296 $ 351,060 $ 44,721 $ 993,077
========== =========== ========= ============
Loans with a fixed interest rate........ $ 193,860 $ 86,997 $ 14,964 $ 295,821
Loans with a floating interest rate..... 403,436 264,063 29,757 697,256
---------- ----------- --------- ------------
Total.............................. $ 597,296 $ 351,060 $ 44,721 $ 993,077
========== =========== ========= ============
LOAN REVIEW AND ALLOWANCE FOR LOAN LOSSES
The Company has well developed procedures in place to maintain a high
quality loan portfolio. These procedures include a Credit Quality Assurance
Process that begins with approval of lending policies and underwriting
guidelines by the Board of Directors, an independent loan review department
staffed with OCC experienced personnel, low individual lending limits for
officers, Senior Loan Committee approval for large credit relationships and
quality loan documentation procedures. The Company also maintains a well
developed monitoring process for credit extensions in excess of $250,000. The
Company performs monthly and quarterly concentration analyses based on various
factors such as industries, collateral types, business
17
lines, large credit sizes, international investments and officer portfolio
loads. The Company has established underwriting guidelines to be followed by its
officers. The Company also monitors its delinquency levels for any negative or
adverse trends. There can be no assurance, however, that the Company's loan
portfolio will not become subject to increasing pressures from deteriorating
borrower credit due to general economic conditions.
Historically, Houston has been affected by the state of the energy
business, but since the mid 1980's the economic impact has been reduced by a
combination of increased industry diversification and less reliance on debt to
finance expansion. Nevertheless, slowdowns in the industry caused by declining
oil prices continue to affect the Houston economy. When energy prices drop, as
they did in 1998, it is the Company's practice to review and adjust underwriting
standards with respect to companies affected by oil and gas price volatility,
and to continuously monitor existing credit exposure to companies which are
impacted by this price volatility. To date, the Company has not deemed it
necessary to increase its allowance for loan losses due to conditions in this
industry but no assurance can be given that such an increase in the allowance
will not be necessary in the future.
The allowance for loan losses is established through charges to earnings in
the form of a provision for loan losses. Based on an evaluation of the loan
portfolio, management presents a quarterly review of the allowance for loan
losses to the Board of Directors, indicating any changes in the allowance since
the last review and any recommendations as to adjustments in the allowance. In
making its evaluation, management considers the diversification by industry of
the Company's commercial loan portfolio, the effect of changes in the local real
estate market on collateral values, the results of recent regulatory
examinations, the effects on the loan portfolio of current economic indicators
and their probable impact on borrowers, the amount of charge-offs for the
period, the amount of nonperforming loans and related collateral security and
the evaluation of its loan portfolio by the loan review function. Charge-offs
occur when loans are deemed to be uncollectible.
In order to determine the adequacy of the allowance for loan losses,
management considers the risk classification or delinquency status of loans and
other factors, such as collateral value, portfolio composition, trends in
economic conditions and the financial strength of borrowers. Management
establishes specific allowances for loans which management believes require
reserves greater than those allocated according to their classification or
delinquent status. An unallocated allowance is also established based on the
Company's historical charge-off experience. The Company then charges to
operations a provision for loan losses determined on an annualized basis to
maintain the allowance for loan losses at an adequate level determined according
to the foregoing methodology.
Management believes that the allowance for loan losses at June 30, 1999 is
adequate to cover losses inherent in the portfolio as of such date. There can be
no assurance, however, that the Company will not sustain losses in future
periods which could be greater than the size of the allowance at June 30, 1999.
18
The following table presents, for the periods indicated, an analysis of the
allowance for loan losses and other related data:
THREE MONTHS
ENDED YEAR ENDED
JUNE 30, DECEMBER 31,
1999 1998
--------------- -------------
(DOLLARS IN THOUSANDS)
Allowance for loan losses beginning
balance.............................. $16,182 $11,927
Provision for loan losses............ 1,515 4,053
Charge-offs.......................... (398) (1,151)
Recoveries........................... 36 133
Adjustment to conform reporting
periods.............................. -- 18
--------------- -------------
Allowance for loan losses ending
balance.............................. $17,335 $14,980
=============== =============
Allowance to period-end loans........ 1.08% 0.99%
Net charge-offs to average loans..... 0.09% 0.08%
Allowance to period-end nonperforming
loans.............................. 779.80% 482.45%
The following table describes the allocation of the allowance for loan
losses among various categories of loans and certain other information for the
dates indicated. The majority of the unallocated portion below represents
management's estimates of the amounts needed to cover economic and portfolio
trends, commitments, etc. The allocation is made for analytical purposes and is
not necessarily indicative of the categories in which future loan losses may
occur. The total allowance is available to absorb losses from any segment of
loans.
JUNE 30, 1999 DECEMBER 31, 1998
---------------------- ----------------------
PERCENT OF PERCENT OF
LOANS TO LOANS TO
AMOUNT TOTAL LOANS AMOUNT TOTAL LOANS
------- ----------- ------- -----------
Balance of allowance for loan losses
applicable to:
Commercial and industrial....... $ 2,940 38.6% $ 2,808 41.8%
Real estate:
Construction and loan
development................... 103 22.2 81 19.4
1-4 family residential.......... 33 19.4 -- 17.5
Commercial owner occupied....... -- 10.1 38 10.9
Farmland........................ -- 0.5 -- 0.5
Other........................... -- 1.3 -- 1.4
Consumer............................. 1,055 7.9 893 8.5
Unallocated.......................... 13,204 -- 11,160 --
------- ----------- ------- -----------
Total allowance for loan
losses..................... $17,335 100.0% $14,980 100.0%
======= =========== ======= ===========
NONPERFORMING ASSETS AND IMPAIRED LOANS
The Company generally places a loan on nonaccrual status and ceases
accruing interest when loan payment performance is deemed unsatisfactory. All
loans past due 90 days, however, are placed on nonaccrual status, unless the
loan is both well collateralized and in the process of collection. Cash payments
received while a loan is classified as nonaccrual are recorded as a reduction of
principal as long as doubt exists as to collection.
Nonperforming assets were $2.5 million at June 30, 1999 compared with $3.8
million at December 31, 1998. This resulted in a ratio of nonperforming assets
to loans plus other real estate of 0.16% and 0.25% at June 30, 1999 and December
31, 1998, respectively.
19
The following table presents information regarding nonperforming assets as
of the dates indicated:
JUNE 30, DECEMBER 31,
1999 1998
---------- ------------
(DOLLARS IN THOUSANDS)
Nonaccrual loans..................... $ 942 $2,424
Accruing loans 90 or more days past
due.................................. 1,281 681
Restructured loans................... -- 151
ORE & OLRA........................... 385 504
---------- ------------
Total nonperforming assets...... $2,608 $3,760
========== ============
Nonperforming assets to total loans
and other real estate.............. 0.16% 0.25%
The Company regularly updates appraisals on loans collateralized by real
estate, particularly those categorized as nonperforming loans and potential
problem loans. In instances where updated appraisals reflect reduced collateral
values, an evaluation of the borrower's overall financial condition is made to
determine the need, if any, for possible writedowns or appropriate additions to
the allowance for loan losses.
A loan is considered impaired when, based upon current information and
events, it is probable that the Company will be unable to collect the scheduled
payments of principal and interest when due according to the contractual terms
of the loan agreement. The Company's impaired loans were approximately $14.6
million and $14.0 million at June 30, 1999 and December 31, 1998, respectively.
The largest component of impaired loans is a commercial energy related loan of
approximately $11.3 million. The average recorded investment in impaired loans
during the six months ended June 30, 1999 and the year ended December 31, 1998
was $14.3 million and $6.0 million, respectively. The total required allowance
for loan losses related to these loans was $0 for each reported period. Interest
income on impaired loans of $1.2 million and $415,000 was recognized for cash
payments received during the six months ended June 30, 1999 and the year ended
December 31, 1998, respectively.
The Bank is not committed to lend additional funds to debtors whose loans
have been modified.
SECURITIES
At the date of purchase, the Company classifies debt and equity securities
into one of three categories: held to maturity, trading or available for sale.
At each reporting date, the appropriateness of the classification is reassessed.
Investments in debt securities are classified as held to maturity and measured
at amortized cost in the financial statements only if management has the
positive intent and ability to hold those securities to maturity. Securities
that are bought and held principally for the purpose of selling them in the near
term are classified as trading and measured at fair value in the financial
statements with unrealized gains and losses included in earnings. Securities not
classified as either held to maturity or trading are classified as available for
sale and measured at fair value in the financial statements with unrealized
gains and losses reported, net of tax as a component of accumulated other
comprehensive income until realized. Gains and losses on sales of securities are
determined using the specific-identification method. The Company has classified
all securities as available for sale. This allows the Company to manage its
investment portfolio more effectively and to enhance the average yield on the
portfolio.
20
The amortized cost and approximate fair value of securities classified as
held to maturity and available for sale is as follows:
JUNE 30, 1999
-----------------------------------------------
GROSS UNREALIZED
AMORTIZED ------------------- FAIR
COST GAIN LOSS VALUE
--------- ------ ------- ----------
(DOLLARS IN THOUSANDS)
AVAILABLE FOR SALE
U.S. Government securities........... $ 87,862 $ 103 $ (772) $ 87,193
Mortgage-backed securities........... 615,292 1,479 (9,167) 607,604
Federal Reserve Bank stock........... 2,408 -- -- 2,408
Federal Home Loan Bank stock......... 13,029 -- -- 13,029
Other securities..................... 5,079 67 (3) 5,143
--------- ------ ------- ----------
TOTAL SECURITIES AVAILABLE FOR
SALE.......................... $ 723,670 $1,649 $(9,942) $ 715,377
========= ====== ======= ==========
DECEMBER 31, 1998
-----------------------------------------------
GROSS UNREALIZED
AMORTIZED ------------------- FAIR
COST GAIN LOSS VALUE
--------- ------ ------- ----------
(DOLLARS IN THOUSANDS)
AVAILABLE FOR SALE
U.S. Government securities........... $ 143,570 $1,575 $ -- $ 145,145
Mortgage-backed securities........... 488,851 4,549 (452) 492,948
Federal Reserve Bank stock........... 2,069 13 -- 2,082
Federal Home Loan Bank stock......... 7,672 -- -- 7,672
Other securities..................... 3,694 94 (12) 3,776
--------- ------ ------- ----------
TOTAL SECURITIES AVAILABLE FOR
SALE.......................... $ 645,856 $6,231 $ (464) $ 651,623
========= ====== ======= ==========
HELD TO MATURITY
U.S. Government securities........... $ 6,248 $ 14 $ (186) $ 6,076
Mortgage-backed securities........... 60,869 689 (259) 61,299
--------- ------ ------- ----------
TOTAL SECURITIES HELD TO
MATURITY...................... $ 67,117 $ 703 $ (445) $ 67,375
========= ====== ======= ==========
In connection with the merger, the Company transferred all of Fort Bend's
held-to-maturity debt securities to the available for sale category. The
amortized cost of these securities at the time of transfer was $57.8 million and
the unrealized gain was $80,000 ($52,000 net of income taxes). Although the
Company does not intend to sell these securities in the near term, a transfer
was made to maintain the Company's existing interest rate position and credit
risk policy.
Securities totaled $715.4 million at June 30, 1999, a decrease of $5.7
million from $721.1 million at December 31, 1998. The yield on the securities
portfolio for the six months ended June 30, 1999 was 8.37% while the yield was
9.00% in 1998.
Included in the Company's mortgage-backed securities at June 30, 1999 were
$303.0 million in agency issued collateral mortgage obligations.
At June 30, 1999, 88% of the mortgage-backed securities held by the Company
had final maturities of more than 10 years. At June 30, 1999, approximately
$62.0 million of the Company's mortgage-backed securities earned interest at
floating rates and repriced within one year, and accordingly were less
susceptible to declines in value should interest rates increase.
21
The following table summarizes the contractual maturity of investments
(including securities, federal funds sold and interest-bearing deposits) and
their weighted average yields at June 30, 1999. The yield on the securities
portfolio is based on average historical cost balances and does not give effect
to changes in fair value that are reflected as a component of consolidated
shareholders' equity.
JUNE 30, 1999
-----------------------------------------------------------------------------------------
AFTER ONE AFTER FIVE
YEAR BUT YEARS BUT
WITHIN WITHIN WITHIN
ONE YEAR FIVE YEARS TEN YEARS AFTER TEN YEARS
----------------- ----------------- ----------------- -----------------
AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD TOTAL
--------- ----- --------- ----- --------- ----- --------- ----- ---------
(DOLLARS IN THOUSANDS)
U.S. Government
securities......................... $ 21,289 5.35 % $ 51,573 5.64 % $ 15,000 6.45 % $ -- 0.00 % $ 87,862
Mortgage-backed
securities......................... 2,062 6.18 % 29,477 6.29 % 43,288 6.29 % 540,465 6.46 % 615,292
Federal Reserve Bank
stock.............................. 2,408 6.00 % -- -- -- -- -- -- 2,408
Federal Home Loan Bank
stock.............................. 13,029 5.25 % -- -- -- -- -- -- 13,029
Other securities..................... 1,445 4.63 % 212 8.03 % 515 7.07 % 2,907 5.41 % 5,079
Federal funds sold................... 37,357 4.70 % -- -- -- -- -- -- 37,357
Interest-bearing deposits............ 1,983 6.52 % -- -- -- -- -- -- 1,983
--------- ----- --------- ----- --------- ----- --------- ----- ---------
Total investments................ $ 79,573 5.09 % $ 81,262 5.88 % $ 58,803 6.34 % $ 543,372 6.46 % $ 763,010
========= ===== ========= ===== ========= ===== ========= ===== =========
YIELD
-----
U.S. Government
securities......................... 5.71 %
Mortgage-backed
securities......................... 6.44 %
Federal Reserve Bank
stock.............................. 6.00 %
Federal Home Loan Bank
stock.............................. 5.25 %
Other securities..................... 5.47 %
Federal funds sold................... 4.70 %
Interest-bearing deposits............ 6.52 %
-----
Total investments................ 6.24 %
=====
PREPAID EXPENSES AND OTHER ASSETS
Total prepaid expenses and other assets were $77.2 million at June 30,
1999, an increase of $28.5 million from $48.7 million at December 31, 1998.
Significant components within prepaid expenses and other assets include the cash
value of bank owned life insurance, $26.0 million and accounts receivable
purchased. At June 30, 1999 the balance of accounts receivable purchased was
$19.9 million an increase of $11.1 million from December 31, 1998.
DEPOSITS
The Company offers a variety of deposit accounts having a wide range of
interest rates and terms. The Company's deposits consist of demand, savings, NOW
accounts, money market and time accounts. The Company relies primarily on
advertising, competitive pricing policies and customer service to attract and
retain these deposits. As of June 30, 1999, the Company had less than 5% of its
deposits classified as brokered funds and does not anticipate any significant
increase. Deposits provide the primary source of funding for the Company's
lending and investment activities, and the interest paid for deposits must be
managed carefully to control the level of interest expense.
The Company's ratio of average demand deposits to average total deposits
for the periods ended June 30, 1999 and December 31, 1998, was 26% for each
respective period.
22
The average daily balances and weighted average rates paid on deposits for
the six months ended June 30, 1999 and the year ended December 31, 1998, are
presented below:
JUNE 30, 1999 DECEMBER 31, 1998
----------------------- -----------------------
AVERAGE AVERAGE
OUTSTANDING OUTSTANDING
BALANCE RATE BALANCE RATE
----------- --------- ----------- ---------
(DOLLARS IN THOUSANDS)
NOW accounts......................... $ 41,094 2.79% $ 47,482 1.67%
Regular savings...................... 36,527 2.39 35,122 2.35
Premium Yield........................ 449,103 4.15 426,034 4.69
Money market......................... 319,779 2.89 300,141 3.39
CD's less than $100,000.............. 233,473 4.97 192,041 5.15
CD's $100,000 and over............... 341,257 4.82 289,357 5.17
IRA's & QRP's........................ 31,524 5.36 54,697 5.70
----------- --------- ----------- ---------
Total interest-bearing
deposits...................... 1,452,757 4.10% 1,344,874 4.44%
========= =========
Noninterest-bearing deposits......... 522,005 469,721
----------- -----------
Total deposits.................. $ 1,974,762 $ 1,814,595
=========== ===========
The following table sets forth the maturity of the Company's time deposits
that are $100,000 or greater as of the dates indicated:
JUNE 30, 1999 DECEMBER 31, 1998
------------------ -----------------
(DOLLARS IN THOUSANDS)
3 months or less..................... $206,670 $ 213,705
Between 3 months and 6 months........ 61,300 56,005
Between 6 months and 1 year.......... 75,099 43,019
Over 1 year.......................... 22,571 24,636
------------------ -----------------
Total time deposits $100,000 and
over.......................... $365,640 $ 337,365
================== =================
BORROWINGS
Securities sold under repurchase agreements and other short-term
borrowings, consisting of federal funds purchased and treasury, tax, and loan
deposits, generally represent borrowings with maturities ranging from one to
thirty days. Information relating to these borrowings is summarized as follows:
JUNE 30, DECEMBER 31,
1999 1998
------------- ------------
(DOLLARS IN THOUSANDS)
Securities sold under repurchase
agreements:
Average......................... $ 199,035 $182,254
Period-end...................... 208,116 181,696
Maximum month-end balance during
period........................ 265,440 240,670
Interest rate:
Average......................... 4.06% 4.77%
Period-end...................... 5.73% 5.16%
Other short-term borrowings:
Average......................... $ 173,404 $ 26,034
Period-end...................... 262,872 138,388
Maximum month-end balance during
period........................ 210,059 138,388
Interest rate:
Average......................... 4.79% 5.65%
Period-end...................... 5.18% 5.53%
Securities sold under repurchase agreements are maintained in safekeeping
by correspondent banks.
23
LIQUIDITY AND CAPITAL RESOURCES
Liquidity involves the Company's ability to raise funds to support asset
growth or reduce assets to meet deposit withdrawals and other payment
obligations, to maintain reserve requirements and otherwise to operate the
Company on an ongoing basis. For the six months ended June 30, 1999, the
Company's liquidity needs have primarily been met by growth in short-term
borrowings from the Federal Home Loan Bank.
The Company's risk-based capital ratios including Leverage Capital, Tier 1
Risk-Based Capital and the Total Risk-Based Capital Ratio were 7.67%, 9.69% and
10.54%, respectively, at June 30, 1999.
YEAR 2000 INFORMATION AND READINESS DISCLOSURE
The Company has undertaken a company-wide initiative to address the Year
2000 issue and has developed a comprehensive plan to prepare, as appropriate,
its computer system and facilities. The Company has completed a thorough
education and awareness initiative and an inventory and assessment of its
technology and application portfolio to understand the scope of the Year 2000
impact. The Company is presently renovating, in the way of upgrades, and testing
these technologies and applications in partnership with software development
organizations.
The Company has focused on developing appropriate policies or risk
mitigation actions to address Year 2000 related failures prior to the millennium
due to reliance on internal or external dependencies. The Company is working
with key external parties, including customers, counterparties, vendors,
exchanges, depositories, utilities, suppliers, agents, and regulatory agencies,
to eliminate the potential risks posed by the Year 2000 problem. Year 2000
compliance by the Company's borrowers is now an integral part of its
underwriting procedures. The Company is prepared to curtail credit availability
to customers identified as having material exposure to the Year 2000 issue.
However, its ability to exercise curtailment may be limited by various factors,
including existing legal agreements and potential concerns regarding lender
liability.
The Company has also completed an extensive review of its non-information
technology systems, such as elevators, escalators, bank vaults and security
systems. Most of these systems do not have date sensitive systems or imbedded
computer chips, and the Company has received written confirmation from
substantially all vendors of these systems that they are Year 2000 compliant.
The failure of external parties to resolve their own Year 2000 issues in a
timely manner could result in a material financial risk to the Company. For
potential failure scenarios where the risk to the Company is deemed significant
and where the risk is considered to have higher probability of occurrence, the
Company has developed business recovery/contingency plans. These plans define
the infrastructure that should be put in place for managing a failure after
January 1, 2000.
Costs to prepare the Company's systems for the Year 2000 are estimated at
approximately $3.5 million, for internal systems renovation and testing, testing
equipment and both internal and external resources working on the project.
Through June 30, 1999, the Company had incurred approximately $3.0 million of
these costs. Capital expenditures total approximately $584,000 and non-capital
expenditures total approximately $2.4 million.
OTHER MATTERS
In June 1998, SFAS No. 133, ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND
HEDGING ACTIVITIES, as amended, was issued by the Financial Accounting Standard
Board to establish accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities. SFAS No. 133 requires that an entity
recognize those instruments at fair value. If certain conditions are met, a
derivative may be specifically designated as (a) a hedge of the exposure to
changes in the fair value of a recognized asset or liability or an unrecognized
firm commitment, (b) a hedge of the exposure to variable cash flows of a
forecasted transaction, or (c) a hedge of the foreign currency exposure of a net
investment in a foreign operation, an unrecognized firm commitment, an
available-for-sale security, or a foreign-currency-denominated forecasted
transaction. The accounting for the changes in the fair value of a derivative
depends on the intended use of the derivative and the resulting designation.
24
The standard is effective for all fiscal years beginning after June 15, 2000.
This pronouncement is not anticipated to have a material effect on the Company's
financial position, results of operations or cash flows.
On April 1, 1999, the Company consummated its previously announced merger
with Fort Bend, whereby Fort Bend merged into the Company. Fort Bend is the
parent company of Fort Bend Federal Savings and Loan Association of Rosenberg
(which also was merged into the Bank on April 1, 1999) and the majority owner of
Mitchell.In accordance with the Agreement and Plan of Merger, the Company
exchanged 1.45 shares of the Company's common shares for each share of Fort Bend
common stock, resulting in the issuance of approximately 4.6 million shares of
Southwest Common Stock on a fully diluted basis. At March 31, 1999, Fort Bend
had total assets of approximately $316 million and total deposits of $269
million. The transaction has been accounted for as a pooling of interests;
therefore the Company's condensed consolidated financial statements have been
restated to include the accounts and operations of Fort Bend for all periods
presented.
Through the merger with Fort Bend, the Company acquired Fort Bend's 51
percent ownership interest in Mitchell, L.L.C., a full-service mortgage banking
affiliate of Woodlands. Following the merger, Woodlands had the right to convert
its 49% ownership interest in Mitchell into shares of Company common stock at an
exchange rate of 119.3408 shares for each $1,000 of its ownership interest in
Mitchell. Prior to the merger Woodlands had the right to convert its ownership
interest into Fort Bend stock. Effective as of June 30, 1999, Woodlands
exercised its conversion right, resulting in the issuance of 307,323 shares of
Company common stock to Woodlands in exchange for Woodlands' 49% ownership
interest in Mitchell and Mitchell becoming a wholly-owned subsidiary of the
Bank.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
There have been no material changes since December 31, 1998. See the
Company's Annual Report on Form 10-K, "Item 7. Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Financial
Condition -- Interest Rate Sensitivity and Liquidity."
25
PART II -- OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
None.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
(a) The Company's Annual Meeting of Shareholders (the "Annual Meeting")
was held on April 28, 1999.
(b) The following Class III directors were elected for a three year term
at the annual Meeting: John W. Johnson, Walter E. Johnson and
Wilhelmina R. Morian. The following Class I and II Directors also
continued in office after the Annual Meeting: John B. Brock III, J.
David Heaney, Andres Palandjoglou, Ernest H. Cockrell, Paul B. Murphy,
Jr. Adolph A. Pfeffer, Jr., Michael T. Willis and Stanley D. Stearns.
(c) (1) A total of 18,589,681 votes were cast in favor of and 41,266
votes abstained from each Director other than Walter E. Johnson. A
total of 18,588,432 votes were cast in favor of Walter E. Johnson,
with 42,516 votes abstaining. No votes were cast against any of the
Directors.
(2) At the Annual Meeting, the Company's also ratified the selection
of PricewaterhouseCoopers LLP, the successor firm to Coopers & Lybrand
L.L.P., as the Company's independent auditors for the year ending
December 31, 1999. A total of 18,576,043 votes were cast in favor of
such proposal with 38,504 votes being cast against the proposal and
16,400 votes abstaining from voting on the proposal.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibits:
Exhibit 15.1 Awareness Letter of PricewaterhouseCoopers LLP
Exhibit 27. Financial Data Schedule
The required Financial Data Schedule has been included as Exhibit 27 of
the Form 10-Q filed electronically with the Securities and Exchange
Commission.
b) Reports on Form 8-K
The following report on Form 8-K was filed by the Company during
the three months ended June 30, 1999: Current Report on Form 8-K dated
April 1, 1999 and filed April 2, 1999; Item 5.
26
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, AS
AMENDED, THIS REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF
THE REGISTRANT AND IN THE CAPACITIES AND ON THE DATES INDICATED.
SIGNATURE TITLE DATE
- --------------------------------------------------- --------------------------------------- ----------------
WALTER E. JOHNSON Chairman of the Board and Chief August 12, 1999
WALTER E. JOHNSON Executive Officer (Principal Executive
Officer)
DAVID C. FARRIES Executive Vice President, August 12, 1999
DAVID C. FARRIES Treasurer and Secretary (Principal
Financial Officer)
R. JOHN McWHORTER Senior Vice President and Controller August 12, 1999
R. JOHN MCWHORTER (Principal Accounting Officer)
27