FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 (Mark One) [x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended 03/31/98 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ________ to ___________ Commission file number: 000-20809 SIS BANCORP, INC. (Exact Name of Issuer as Specified in its Charter) Massachusetts 04-3303264 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) SIS BANCORP, INC. 1441 Main Street Springfield, Massachusetts 01102 (Address of Principal Executive Offices) (Zip Code) (413) 748-8000 (Issuers 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 X No__ Indicate the number of shares outstanding of the registrant's common stock, as of the latest practicable date: 6,973,584 shares as of May 7,1998. CAUTIONARY STATEMENT FOR PURPOSES OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 This Report contains certain "forward-looking statements" including statements concerning plans, objectives, future events or performance and assumptions and other statements which are other than statements of historical fact. SIS Bancorp, Inc. and its subsidiaries (the "Company") wishes to caution readers that the following important factors, among others, may have affected and could in the future affect the Company's actual results and could cause the Company's actual results for subsequent periods to differ materially from those expressed in any forward-looking statement made by or on behalf of the Company herein: (i) the effect of changes in laws and regulations, including federal and state banking laws and regulations, with which the Company must comply, and the associated costs of compliance with such laws and regulations either currently or in the future as applicable; (ii) the effect of changes in accounting policies and practices, as may be adopted by the regulatory agencies as well as by the Financial Accounting Standards Board; (iii) the effect on the Company's competitive position within its market area of the increasing consolidation within the banking and financial services industries, including the increased competition from larger regional and out-of-state banking organizations as well as nonbank providers of various financial services; (iv) the effect of changes in interest rates; (v) the effect of changes in the business cycle and downturns in the local, regional or national economies; (vi) the effect of the "year 2000" issue (i.e. that current computer programs use only two digits to identify a year in the date field and cannot reflect a change in the century) on the Company's financial condition or results of operations; and (vii) the impact of pending litigation on the Company's financial condition or results of operations. SIS BANCORP, INC. AND SUBSIDIARIES FORM 10-Q INDEX PAGE NO. PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Unaudited) Condensed Consolidated Balance Sheet at March 31, 1998 and December 31, 1997 1 Condensed Consolidated Statement of Operations for the three months ended March 31, 1998 and 1997 2 Condensed Consolidated Statement of Cash Flows for the three months ended March 31, 1998 and 1997 3 Condensed Consolidated Statement of Changes in Stockholders' Equity for the three months ended March 31, 1998 and 1997 5 Notes to the Unaudited Financial Statements 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 8 PART II OTHER INFORMATION Item 1. Legal Proceedings 24 Item 2. Changes in Securities 24 Item 3. Default upon Senior Securities 24 Item 4. Submission of Matters to a Vote of Security Holders 24 Item 5. Other Information 24 Item 6. Exhibits and Reports on Form 8-K 24 SIGNATURES 26 SIS BANCORP, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEET (Dollars In Thousands) (Unaudited) March 31, December 31, 1998 1997 ------------ ------------ ASSETS Cash and due from banks $ 48,885 $ 50,297 Federal funds sold and short term investments 54,458 17,317 Investment securities available for sale 568,853 576,108 Investment securities held to maturity (fair value: $213,861 at March 31, 1998 and $193,396 at December 31, 1997) 213,508 193,007 Loans receivable, net of allowance for possible losses ($23,239 at March 31, 1998 and $22,724 at December 31, 1997) 837,336 828,761 Accrued interest and dividends receivable 11,168 10,749 Investments in real estate and real estate partnerships 2,879 2,903 Foreclosed real estate, net 817 1,209 Bank premises, furniture and fixtures, net 37,036 35,843 Other assets 19,028 17,424 ----------- ----------- Total assets $ 1,793,968 $ 1,733,618 =========== =========== LIABILITIES AND STOCKHOLDERS' EQUITY Deposits $ 1,309,402 $ 1,267,298 Federal Home Loan Bank advances 173,446 184,121 Securities sold under agreements to repurchase 134,023 113,299 Loans payable 2,474 2,492 Mortgage escrow deposits 7,662 5,642 Accrued expenses and other liabilities 38,776 35,294 ----------- ----------- Total liabilities 1,665,783 1,608,146 ----------- ----------- Commitments and contingent liabilities -- -- Stockholders' equity: Preferred stock ($.01 par value; 5,000,000 shares authorized: no shares issued and outstanding) -- -- Common stock ($.01 par value; 25,000,000 shares authorized; shares issued: 7,081,184 at March 31, 1998 and 7,081,187 at December 31, 1997; shares outstanding: 6,969,984 at March 31, 1998 and 6,947,787 at December 31, 1997) 71 71 Unearned compensation (3,388) (3,123) Additional paid-in capital 55,068 54,755 Retained earnings 78,163 75,153 Accumulated other comprehensive income - net unrealized gain on investment securities available for sale 1,203 2,133 Treasury stock, at cost (111,200 and 133,400 shares at March 31, 1998 and December 31, 1997, respectively) (2,932) (3,517) ----------- ----------- Total stockholders' equity 128,185 125,472 ----------- ----------- Total liabilities and stockholders' equity $ 1,793,968 $ 1,733,618 =========== =========== See accompanying Notes to the Unaudited Financial Statements 1 SIS BANCORP, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS (Dollars In Thousands Except Per Share Amounts) (Unaudited) Three Months Ended --------------------------- March 31, March 31, 1998 1997 ------------ ----------- Interest and dividend income: Loans $ 17,901 $ 16,248 Investment securities available for sale 8,517 8,502 Investment securities held to maturity 3,472 3,778 Investment securities held for trading -- 2 Federal funds sold and short term investments 561 295 ----------- ----------- Total interest and dividend income 30,451 28,825 ----------- ----------- Interest expense: Deposits 10,577 10,056 Borrowings 4,475 3,856 ----------- ----------- Total interest expense 15,052 13,912 ----------- ----------- Net interest and dividend income 15,399 14,913 Less: Provision for possible loan losses 251 500 ----------- ----------- Net interest and dividend income after provision for possible loan losses 15,148 14,413 Noninterest income: Net gain on sale of loans 255 106 Net loss on sale of securities held for trading -- (11) Fees and other income 3,721 3,298 ----------- ----------- Total noninterest income 3,976 3,393 ----------- ----------- Noninterest expense: Operating expenses: Salaries and employee benefits 6,221 5,914 Occupancy expense of bank premises, net 1,220 1,200 Furniture and equipment expense 963 773 Other operating expenses 4,081 4,201 ----------- ----------- Total operating expenses 12,485 12,088 ----------- ----------- Foreclosed real estate expense (income) 68 (74) Net (income) expense of real estate operations (13) 421 ----------- ----------- Total noninterest expense 12,540 12,435 Income before income tax expense 6,584 5,371 Income tax expense 2,508 2,091 ----------- ----------- Net income $ 4,076 $ 3,280 =========== =========== Earnings per share: Basic $ 0.61 $ 0.50 Diluted $ 0.58 $ 0.48 Weighted average shares outstanding: Basic 6,638,457 6,576,684 Diluted 7,004,057 6,851,596 See accompanying Notes to the Unaudited Financial Statements 2 SIS BANCORP, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS (Dollars In Thousands) (Unaudited) Three Months Ended March 31, -------------------- 1998 1997 --------- -------- Cash Flows From Operating Activities Net income $ 4,076 $ 3,280 Adjustments to reconcile net income to net cash provided by operating activities Provision for possible loan losses 251 500 Depreciation 1,081 958 Amortization of premium on investment securities, net 1,044 644 ESOP and restricted stock expenses 507 348 Increase in assets held for trading -- (10) Income from equity investment in partnerships -- (1) Gain on sale of loans (255) (106) Disbursements for mortgage loans held for sale (30,355) (15,101) Receipts from mortgage loans held for sale 30,610 15,207 Gain on sale of fixed assets and real estate -- (86) Changes in assets and liabilities: (Increase) decrease in other assets, net (1,298) 1,355 Decrease in accrued expenses and other liabilities 3,482 2,290 -------- -------- Net cash provided by operating activities 9,143 9,278 -------- -------- Cash Flows From Investing Activities Proceeds from maturities and principal payments received on investment securities available for sale 76,685 33,653 Purchase of investment securities available for sale (72,005) (87,096) Proceeds from maturities and principal payments received on investment securities held to maturity 15,996 11,347 Purchase of investment securities held to maturity (36,621) (7,264) Net increase in investments in real estate (6) -- Net increase in loans receivable (8,882) (7,354) Net decrease in foreclosed real estate 448 225 Proceeds from sale of loans -- 89 Proceeds from sale of fixed assets -- 21 Purchase of fixed assets (2,244) (1,282) -------- -------- Net cash used for investing activities (26,629) (57,661) -------- -------- See accompanying Notes to the Unaudited Financial Statements 3 SIS BANCORP, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS (continued) (Dollars In Thousands) (Unaudited) Three Months Ended March 31, ---------------------- 1998 1997 --------- ---------- Cash Flows from Financing Activities Net increase in deposits 42,104 37,034 Net increase in borrowings 10,031 18,106 Net increase in mortgagors' escrow deposits 2,020 2,117 Net proceeds from exercise of stock options 126 175 Repurchase/retirement of common stock -- (2,095) Cash dividends paid (1,066) (776) --------- --------- Net cash provided by financing activities 53,215 54,561 --------- --------- Increase in cash and cash equivalents 35,729 6,178 Cash and cash equivalents, beginning of year 67,614 68,090 --------- --------- Cash and cash equivalents, end of year $ 103,343 $ 74,268 ========= ========= Supplemental disclosures of cash flow information: Cash paid during the year for interest to depositors and interest on debt $ 14,710 $ 13,777 Income taxes paid $ 1,144 $ 841 Non-cash investing activities: Transfers to foreclosed real estate, net $ 56 $ -- See accompanying Notes to the Consolidated Financial Statements 4 SIS BANCORP, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY For The Three Months Ended March 31, 1998 and 1997 (Dollars In Thousands) Net unrealized gain (loss) on investment Additional securities Treasury Common Unearned Paid-In Retained available Stock Stock Compensation Capital Earnings for sale at Cost Total ------- ------------ ---------- -------- --------- -------- -------- Balance at December 31, 1997 $ 71 $(3,123) $54,755 $75,153 $ 2,133 $(3,517) $125,472 Net income -- -- -- 4,076 -- -- 4,076 Cash dividends declared -- -- -- (1,066) -- -- (1,066) Issuance of common stock in connection with employee and non-employee directors benefit programs -- (459) -- -- -- 585 126 Decrease in unearned compensation -- 194 313 -- -- -- 507 Change in unrealized gain on investment securities available for sale -- -- -- -- (930) -- (930) ------ ------- ------- ------- ------- ------- -------- Balance at March 31, 1998 $ 71 $(3,388) $55,068 $78,163 $ 1,203 $(2,932) $128,185 ====== ======= ======= ======= ======= ======= ======== Balance at December 31, 1996 $ 71 $(3,693) $53,836 $67,119 $ 1,453 $ -- $118,786 Net income -- -- -- 3,280 -- -- 3,280 Cash dividends declared -- -- -- (775) -- -- (775) Issuance of common stock in connection with employee and non-employee directors benefit programs -- (98) 44 -- -- 228 174 Decrease in unearned compensation -- 167 181 -- -- -- 348 Change in unrealized gain on investment securities available for sale -- -- -- -- (1,441) -- (1,441) Treasury stock purchased -- -- -- -- -- (2,095) (2,095) ------ ------- ------- ------- ------- ------- -------- Balance at March 31, 1997 $ 71 $(3,624) $54,061 $69,624 $ 12 $(1,867) $118,277 ====== ======= ======= ======= ======= ======= ======== See accompanying Notes to the Unaudited Financial Statements 5 SIS BANCORP, INC. AND SUBSIDIARIES NOTES TO THE UNAUDITED FINANCIAL STATEMENTS (Dollars in thousands except per share amounts) 1. Acquisition of Glastonbury Bank & Trust Company On August 18, 1997, the Company and Glastonbury Bank & Trust Company ("GBT") signed an Agreement and Plan of Reorganization, under which the Company acquired all of the outstanding shares of GBT (the "Merger"). The Merger was completed on December 17, 1997. As a result of the Merger, GBT became a wholly-owned subsidiary of the Company. The Merger resulted in the exchange of 0.74 of a share of the Company's common stock for each of GBT's 1,829,920 shares of common stock and was treated as a pooling of interests for accounting purposes. Accordingly, the Company's historical financial statements have been restated to reflect the combination with GBT. 2. Condensed Consolidated Financial Statements The Condensed Consolidated Financial Statements of the Company included herein are unaudited, and in the opinion of management all adjustments, consisting only of normal recurring adjustments necessary for a fair presentation of the financial condition, results of operations and cash flows, as of and for the periods covered herein, have been made. Certain information and note disclosures normally included in Condensed Consolidated Financial Statements have been omitted as they are included in the most recent Securities and Exchange Commission ("SEC") Form 10-K and accompanying Notes to the Financial Statements (the "Form 10-K") filed by the Company for the year ended December 31, 1997. Management believes that the disclosures contained herein are adequate to make a fair presentation. These unaudited condensed consolidated financial statements should be read in conjunction with the Form 10-K. The results for the three month interim period covered hereby are not necessarily indicative of the operating results for a full year. 3. New Accounting Pronouncements In June 1997, the FASB issued SFAS 130 "Reporting Comprehensive Income" which establishes standards for disclosure of comprehensive income. Comprehensive income represents net income for a period plus the change in equity of a business during a period from non-shareholder sources. Excluding net income, the Company's only other source of comprehensive income is its unrealized gain (loss) on investment securities available for sale, net of tax. SFAS 130 requires the restatement of prior periods for comparative purposes. The Company adopted SFAS 130 on January 1, 1998. Adoption of this Statement did not have a material impact on the Company's financial position or results of operations. Total comprehensive income for the three months ended March 31, 1998 and 1997 was $4.1 and $2.5 million, respectively. In June 1997, the FASB issued SFAS 131 "Disclosures about Segments of an Enterprise and Related Information" which establishes standards for the way that public business enterprises report financial and descriptive information about operating segments. SFAS 131 defines an operating segment as components of an enterprise about which separate financial information is available that is evaluated by management in deciding how to allocate resources and in assessing performance. The Company adopted SFAS 131 on January 1, 1998. Adoption of this Statement did not have a material impact on the Company's financial position or results of operations. In February 1998, the FASB issued SFAS 132 "Employers' Disclosures about Pensions and Other Postretirement Benefits - an amendment of FASB Statements No. 87, 88 and 106" (SFAS 132) which revises employers' disclosures about pension and other postretirement benefit plans, though it does not change the measurement or recognition of those plans. The Company adopted SFAS 132 effective January 1, 1998. Adoption of this Statement did not have a material impact on the Company's financial position or results of operations. 6 4. Earnings Per Share Basic and diluted net income per share and weighted average shares outstanding follow (dollars in thousands, except per share amounts): (Unaudited) Three months ended -------------------------------- March 31, March 31, 1998 1997 ----------- ---------- Net income $ 4,076 $ 3,280 Weighted average shares outstanding: Basic 6,638,457 6,576,684 Effect of dilutive securities: Stock options 336,651 235,127 Restricted stock 28,949 39,785 ---------- ---------- Diluted 7,004,057 6,851,596 ========== ========== Net income per share: Basic $ 0.61 $ 0.50 Diluted $ 0.58 $ 0.48 5. Dividend Policy The Company paid cash dividends in the amount of $0.16 per share on February 23, 1998. On April 22, 1998 the Company declared a dividend of $0.16 per share payable on May 26, 1998 to shareholders of record as of the close of business on May 4, 1998. 6. Divestment Related Charges The Company has certain subsidiaries that are engaged in various real estate investments, directly or in joint ventures with unaffiliated partners. In accordance with the Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"), the Company has terminated its real estate development activities and is in the process of selling its remaining real estate investments. In the first quarter of 1997, the Company established a reserve of $1.0 million relating to the divestment of its real estate investment and brokerage subsidiaries, Colebrook Inc. and subsidiaries ("Colebrook"). The $1.0 million reserve consists of $0.7 million in severance and benefit accruals and $0.3 million for other expenses. As of March 31, 1998, approximately $0.1 million of expenses have been paid relating to the divestiture. This divestment is scheduled to be completed by June 30, 1998. 7 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (DOLLARS IN THOUSANDS) Overview SIS Bancorp, Inc. (the "Company") is a Massachusetts corporation formed in 1996 and serves as the bank holding company for Springfield Institution for Savings ("SIS Bank"), and Glastonbury Bank & Trust Company ("GBT"). The Company was formed for the purpose of reorganizing SIS Bank into a holding company structure ("the Reorganization"). Upon the effectiveness of the Reorganization, SIS Bank became a wholly-owned subsidiary of the Company and SIS Bank's former stockholders became stockholders of the Company. The Company acquired GBT on December 17, 1997. Established in 1827, SIS Bank is a Massachusetts chartered stock savings bank headquartered in Springfield, Massachusetts. GBT, with its headquarters located in Glastonbury, Connecticut, is a Connecticut chartered commercial bank founded in 1919. Substantially all of the Company's operations are conducted through its subsidiary banks. The Company provides a wide variety of financial services through both SIS Bank and GBT (the "Banks"), including retail and commercial banking, residential mortgage origination and servicing, commercial and consumer lending, merchant processing and insurance sales. The Banks serve the consumers and businesses located in western Massachusetts and central Connecticut through a network of 33 full service branches. The Company's revenues are derived principally from dividend payments received from the Banks, which in turn derive their revenues principally from interest payments on their loan portfolios and mortgage-backed and other investment securities. The Banks' primary sources of funds are deposits, borrowings and principal and interest payments on loans and mortgage-backed securities. Year 2000 During 1997, the Company conducted a review of its computer systems to identify those areas that could be affected by the Year 2000 issue. The Company is addressing this issue in accordance with the guidance set forth in various statements that have been issued by the Federal Financial Institutions Examination Counsel. The Company has completed the remedial phases associated with awareness and assessment. The Company has developed an implementation plan to resolve its Year 2000 issues. A timely resolution of the Year 2000 issues depends largely upon the expertise and advice of outside vendors retained by the Company to both modify the Company's existing software and develop new software to address current internal systems deficiencies. All of the Company's third party vendors with non-compliant systems have also been identified and notified. The Company is also preparing plans to test all modifications to critical internal systems and verify that critical third party vendors have adequately addressed their own systems issues. Test plans are scheduled to be completed by June 30, 1998 with the Company's internal systems testing to be completed by December 31, 1998 and external testing of third party vendor systems to be completed by March 31, 1999. Additionally, the Company is currently assessing the potential impact of Year 2000 on its larger commercial borrowers. The Company is presently unaware of any situation where any vendor will not be able to modify its products and systems in a timely manner. The Company is also monitored in its Year 2000 efforts by reports to, and examinations by, various regulators, including the Federal Deposit Insurance Corporation, the Federal Reserve Board, and the Massachusetts and Connecticut Commissioners of Banks. The primary costs associated with the Year 2000 issue consist of expenses for the replacement or upgrade of third party systems, and the replacement of personal computers. The Company is not aware of any obstacles or issues that are presently anticipated in connection with the resolution of Year 2000 issues that are likely to cause significant operational problems or are otherwise expected to have a material adverse effect on the Company's financial condition or results of operations. Results of Operations for the Three Months Ended March 31, 1998 and March 31, 1997 The Company reported net income of $4.1 million, or $0.58 per diluted share for the three months ended March 31, 1998 as compared to net income of $3.3 million, or $0.48 per diluted share for the same period last year. The Company 8 experienced an increase in pre-tax operating earnings primarily attributable to increased net interest income and noninterest income as well as lower provisions for possible loan losses. Net Interest Income Net interest income represents the difference between income on interest-earning assets and expense on interest-bearing liabilities. Net interest income is affected by the mix and volume of assets and liabilities, and the movement and level of interest rates. The Company invests in certain assets that have preferential tax treatment. In order to present yields on a comparable basis, net interest income is presented on a fully taxable equivalent basis for purposes of yield and margin analysis. The following table sets forth, for the period indicated, average balances, interest income and expense, and yields earned or rates paid on the major categories of assets and liabilities. Non-accrual loans have been included in the appropriate average balance loan category, but unpaid interest on non-accrual loans has not been included for purposes of determining interest income. In addition, investment securities available for sale are reflected at amortized cost. Three Months Ended March 31, ----------------------------------------------------------------------------------- 1998 1997 ---------------------------------------- -------------------------------------- Average Average Average Average Balance (3) Interest (1) Yield/Cost (1) Balance Interest (1) Yield/Cost(1) ------------- ------------- -------------- ------------ ------------ ------------- (Dollars In Thousands) Interest-earning assets: Fed funds sold and short-term investments $ 43,617 $ 615 5.64% $ 26,498 $ 295 4.45% Investment securities held to maturity 203,385 3,472 6.83% 221,176 3,778 6.83% Investment securities available for sale 552,713 8,660 6.27% 498,938 8,626 6.92% Investment securites held for trading -- -- -- 479 2 1.67% Residential real estate loans 272,174 5,415 7.96% 291,103 5,757 7.91% Commercial real estate loans 188,598 4,223 8.96% 168,419 3,832 9.10% Commercial loans 217,274 4,644 8.55% 188,598 4,076 8.64% Home equity loans 159,455 3,326 8.46% 119,950 2,373 8.02% Consumer loans 12,443 293 9.42% 9,124 245 10.74% ---------- ---------- ----- ---------- ---------- ----- Total interest-earning assets 1,649,659 30,648 7.43% 1,524,285 28,984 7.61% Allowance for loan losses (23,036) (19,884) Non-interest-earning assets 120,672 111,427 ---------- ---------- $1,747,295 $ 30,648 $1,615,828 $ 28,984 ========== ========== ========== ========== Interest-bearing liabilities: Deposits Savings accounts $ 239,392 $ 1,234 2.09% $ 257,140 $ 1,478 2.33% NOW accounts (2) 40,027 152 1.54% 79,725 229 1.16% Money manager accounts (2) 48,663 143 1.19% -- -- -- Money market accounts 235,772 1,938 3.33% 205,236 1,677 3.31% Time deposit accounts 539,236 7,110 5.35% 513,258 6,672 5.27% ---------- ---------- ----- ---------- ---------- ----- Total interest-bearing deposits 1,103,090 10,577 3.89% 1,055,359 10,056 3.86% Borrowed funds 310,483 4,475 5.77% 279,007 3,856 5.53% ---------- ---------- ----- ---------- ---------- ----- Total interest-bearing liabilities 1,413,573 15,052 4.32% 1,334,366 13,912 4.23% Non-interest-bearing liabilities 209,507 163,409 ---------- ---------- Total liabilities 1,623,080 1,497,775 Total stockholders' equity 124,215 118,053 ---------- ---------- Total liabilities and stockholders'equity $1,747,295 $ 15,052 $1,615,828 $ 13,912 ========== ========== ========== ========== Net interest income/spread $ 15,596 3.11% $ 15,072 3.38% ========== ===== ========== ===== Net interest margin as a % of interest- earning assets 3.78% 3.96% ====== ===== Tax equivalent adjustment $ 197 $ 159 ---------- ---------- Net interest income/spread per Condensed Consolidated Statement of Operations $ 15,399 $ 14,913 ========== ========== <FN> (1) On a fully taxable equivalent basis. Calculated using a Federal income tax rate of 34% for 1998 and 1997. (2) During July 1997, the Company implemented a program which converted certain NOW accounts to money manager accounts. This program has no effect on the Company's depositors, but has provided additional investable funds to the Company by substantially reducing the reserve balances required to be maintained at the Federal Reserve Bank of Boston. (3) A reclassification of some savings accounts to money market accounts affecting average balance outstanding was made in connection with the GBT acquisition. </FN> 9 Net interest income on a fully taxable equivalent basis for the three months ended March 31, 1998 was $15.6 million compared to $15.1 million for the three months ended March 31, 1997, an increase of $0.5 million or 3.5%. This increase was the result of a $125.4 million increase in interest-earning assets partially offset by an 18 basis point decrease in the net interest margin. Total interest income was $30.6 million on a fully taxable equivalent basis for the three months ended March 31, 1998, an increase of $1.7 million or 5.7% from the same period last year. This increase is attributable to higher levels of interest-earning assets, partially offset by lower yields on interest-earning assets. Average interest-earning assets totaled $1.6 billion in the first quarter of 1998 compared to $1.5 billion in the first quarter of 1997, an increase of $125.4 million or 8.2%. Average investments increased $35.5 million or 4.9% and were funded by higher deposit levels and borrowed funds. Average loans increased $72.8 million as the Company continued to focus on the commercial and home equity market segments, which grew by $28.7 million or 15.2% and $39.5 million or 32.9%, respectively. Commercial real estate loans increased $20.2 million or 12.0% reflecting growth in commercial construction lending. Residential real estate loan balances declined $18.9 million or 6.5% for the three months ended March 31, 1998, reflecting amortization and prepayments of the existing loan portfolio. Yields on interest-earning assets declined 18 basis points from the first quarter of 1997 primarily reflecting lower level of interest rates as well as accelerated amortization and prepayments of mortgage-backed securities and residential real estate loans. Accelerated prepayment speeds were the result of lower long-term interest rates which significantly increased refinancing activity. Total interest expense was $15.1 million for the three months ended March 31, 1998 compared to $13.9 million during the same period in 1997, an increase of $1.1 million or 8.2%. This increase is attributable to increases in interest-bearing deposits and borrowed funds. Average interest-bearing deposits increased $47.7 million or 4.5%. This growth occurred primarily in time deposits which increased $26.0 million or 5.1% largely due to growth in time deposits with local municipalities. Borrowed funds averaged $310.5 million for the three months ended March 31, 1998 compared to $279.0 million for the same period in 1997. These borrowings were used to match fund fixed rate assets and to extend the maturity of the Company's liabilities. The following table presents the changes in net interest income (on a fully taxable equivalent basis) resulting from changes in interest rates or changes in the volume of interest-earning assets and interest-bearing liabilities during the periods indicated. Changes which are attributable to both rate and volume have been allocated evenly between the change in rate and volume components. 10 Three months ended March 31, 1998 versus 1997 --------------------------------- Increase (Decrease) Due to --------------------------------- Volume Rate Net -------- ---------- --------- (Dollars In Thousands) Interest-earning assets: Federal funds sold and interest bearing deposits $ 222 $ 80 $ 302 Investment securities held to maturity (304) (2) (306) Investment securities available for sale 885 (833) 52 Investment securities held for trading (2) -- (2) Residential real estate loans (375) 33 (342) Commercial real estate loans 455 (64) 391 Commercial loans 616 (48) 568 Home equity loans 803 150 953 Consumer loans 84 (36) 48 ------- ------- ------- Total interest-earning assets 2,384 (720) 1,664 ------- ------- ------- Interest-bearing liabilities: Deposits: Savings accounts (97) (147) (244) NOW accounts (132) 55 (77) Money manager account 72 71 143 Money market accounts 250 11 261 Time deposit accounts 340 98 438 ------- ------- ------- Total deposits 433 88 521 Borrowed funds 444 175 619 ------- ------- ------- Total interest-bearing liabilities 877 263 1,140 ------- ------- ------- Change in net interest income $ 1,507 $ (983) $ 524 ======= ======= ======= Provision for Possible Loan Losses The Company's provision for possible loan losses was $0.3 million for the first quarter of 1998 compared to $0.5 million in the first quarter of 1997. The provision for possible loan losses is based upon management's judgment of the amount necessary to maintain the allowance for possible loan losses at a level which is considered adequate. 11 Non-interest Income Non-interest income is composed of fee income for bank services and gains or losses from the sale of assets. The components of non-interest income for the periods presented are as follows: Three months ended March 31, ------------------------ 1998 1997 -------- ------- (Dollars in Thousands) Net gain on sale of loans $ 255 $ 106 Net loss on securities held for trading -- (11) Loan charges and fees 745 745 Deposit related fees 1,889 1,763 Merchant processing fees 438 367 Other charges and fees 649 423 ------- ------- $ 3,976 $ 3,393 ======= ======= Non-interest income totaled $4.0 million for the first quarter of 1998 compared to $3.4 million for the same period in 1997, an increase of $0.6 million or 17.2%. Other charges and fees are up $0.2 million due to increases in brokerage service fees as well as fees associated with Business Manager, a commercial cash management product introduced by the Company in 1997, which involves the funding and management of accounts receivable for small-to-medium-sized business customers. Net gain on sale of loans increased $0.1 million due to an increase in mortgage production and the sale of loans to the secondary market. Deposit service charges and fees increased $0.1 million due to fees associated with the Company's larger non-interest bearing deposit base. Merchant processing fees increased $0.1 million reflecting increased merchant activity. Non-interest Expense Salaries and Benefits Expense Salaries and benefits expense totaled $6.2 million for the first quarter of 1998 compared to $5.9 million for the same period in 1997, an increase of $0.3 million reflecting standard wage increases as well as increased staffing related to new branch openings and branch-related support. Furniture and Equipment Expense Furniture and equipment expense increased $0.2 million reflecting new branch openings as well as investments in new technology. Other Operating Expense The components of other operating expense for the periods presented are as follows: Three months ended March 31, ------------------------------ 1998 1997 --------- --------- (Dollars in Thousands) Marketing $ 560 $ 640 Insurance 152 189 Professional services 670 856 Outside processing 1,287 1,185 Other 1,412 1,331 ------ ------ $4,081 $4,201 ====== ====== 12 Other operating expenses totaled $4.1 million for the first quarter of 1998 compared to $4.2 million for the first quarter of 1997, a decrease of $0.1 million. Professional services decreased $0.2 million due to lower levels of legal and consulting expenses. Both outside processing charges and other operating expenses increased $0.1 million from the comparable period, reflecting costs associated with higher transaction and account volume resulting from the Company's consumer strategy. Foreclosed Real Estate Expense Foreclosed real estate expense reflects gains or losses on sales, writedowns and net operating results of foreclosed properties. Foreclosed real estate expense was $0.1 million for the first quarter of 1998 compared to income of $0.1 million for the first quarter of 1997. The results in the first quarter of 1997 reflect $0.1 million in gains on the sale of foreclosed properties compared to losses and writedowns of $0.1 million in foreclosed properties in the first quarter of 1998. Net Expense of Real Estate Operations The Company's real estate investment and brokerage subsidiary, Colebrook engages in various real estate investments, directly or in joint ventures with unaffiliated partners. In accordance with FDICIA, the Company has terminated its real estate development activities and is in the process of selling its remaining real estate investments. Net expense of real estate operations for the first quarter of 1998 were zero compared to expense of $0.4 million for the same period in 1997. In the first quarter of 1997 the Company recognized a $0.6 million gain on the sale of a real estate property which was offset by the establishment of a reserve of $1.0 million relating to the divestment of Colebrook. The $1.0 million reserve consists of $0.7 million in severance and benefit accruals and $0.3 million for other expenses. As of March 31, 1998, approximately $0.1 million of expenses have been paid relating to the divestiture. This divestment is scheduled to be completed by June 30, 1998. Income Taxes For the three months ended March 31, 1998 the Company recorded income tax expense of $2.5 million compared to expense of $2.1 million for the three months ended March 31, 1997. This increase is attributable to a 22.6% increase in pre-tax earnings. 13 Balance Sheet Analysis - Comparison Of March 31, 1998 To December 31, 1997 Total assets increased from $1.7 billion at December 31, 1997 to $1.8 billion at March 31, 1998. This increase primarily reflects growth in investment securities and loans funded through an increase in deposits and wholesale borrowings. Investments The Company's investment portfolio increased $13.2 million from $769.1 million at December 31, 1997 to $782.4 million at March 31, 1998. The Company engages in investment activities for both investment and liquidity purposes. The Company maintains an investment securities portfolio which consists primarily of U.S. Government and Agency securities, corporate obligations, asset-backed securities, collateralized mortgage obligations, FHLB stock, and marketable equity securities. Other short-term investments held by the Company periodically include interest-bearing deposits and federal funds sold. The Company also maintains a mortgage-backed securities portfolio consisting of securities issued and guaranteed by the Federal National Mortgage Association ("FNMA"), the Federal Home Loan Mortgage Corporation ("FHLMC") and the Government National Mortgage Association ("GNMA") in addition to publicly traded mortgage-backed securities issued by private financial intermediaries which are rated "AA" or higher by rating agencies of national prominence. Securities which the Company has the intent and ability to hold until maturity are classified as held-to-maturity and are carried at amortized cost, while those securities which have been identified as assets that may be sold prior to maturity or assets for which there is not a positive intent to hold to maturity are classified as available-for-sale and are carried at fair value, with unrealized gains and losses excluded from earnings and reported net of tax as accumulated other comprehensive income as a separate component of stockholders' equity. The table below sets forth certain information regarding the amortized cost and fair value of the Company's investment portfolio at the dates indicated. March 31, 1998 ---------------------------------------------------------- Available for Sale Held to Maturity -------------------------- ------------------------- (Dollars In Thousands) Amortized Amortized Cost Fair Value Cost Fair Value --------- ---------- --------- ---------- U.S. Government and Agency obligations $ 7,603 $ 7,608 $ 900 $ 897 Collateralized mortgage obligations 46,673 46,745 10,772 10,820 Mortgage-backed securities 466,845 466,972 143,751 143,899 Asset-backed securities -- -- 57,745 57,904 Other bonds and short term obligations 8,967 9,287 340 341 Other securities 36,913 38,241 -- -- -------- -------- -------- -------- Total $567,001 $568,853 $213,508 $213,861 ======== ======== ======== ======== December 31, 1997 ---------------------------------------------------------- Available for Sale Held to Maturity -------------------------- ------------------------- (Dollars In Thousands) Amortized Amortized Cost Fair Value Cost Fair Value --------- ---------- --------- ---------- U.S. Government and Agency obligations $ 15,608 $ 15,636 $ 2,400 $ 2,391 Collateralized mortgage obligations 51,273 51,415 2,934 2,953 Mortgage-backed securities 458,659 460,478 141,282 141,563 Asset-backed securities -- -- 46,046 46,143 Other bonds and short term obligations 8,966 9,355 345 346 Other securities 38,128 39,224 -- -- -------- -------- -------- -------- Total $572,634 $576,108 $193,007 $193,396 ======== ======== ======== ======== 14 Loan Portfolio Composition Gross loans comprised $858.4 million or 47.9% of total assets as of March 31, 1998. The following table sets forth information concerning the Company's loan portfolio in dollar amounts and percentages, by type of loan at March 31, 1998 and at December 31, 1997. March 31, 1998 December 31, 1997 ------------------------- ----------------------- Percent of Percent of Amount Total Amount Total ---------- ----------- ----------- ---------- (Dollars In Thousands) Residential real estate loans $277,226 32.29% $281,457 33.13% Commercial real estate loans 188,273 21.93% 185,226 21.80% Commercial loans 221,877 25.85% 212,869 25.06% Home equity loans 158,971 18.52% 158,753 18.69% Consumer loans 12,066 1.41% 11,189 1.32% -------- ------ -------- ------ Total loans receivable, gross 858,413 100.00% 849,494 100.00% -------- ------ -------- ------ Less: Unearned income and fees (2,162) (1,991) Allowance for loan losses 23,239 22,724 -------- -------- Total loans receivable, net $837,336 $828,761 ======== ======== The Company continues to actively originate loans secured by first mortgages on one to four family residences, and offers a variety of fixed and adjustable rate mortgage loan products. The Company originates long-term fixed rate mortgages for sale in the secondary market and generally holds adjustable rate mortgages in the Company's loan portfolio. During the three months ended March 31, 1998, the Company experienced an increase in prepayments in its adjustable rate mortgage portfolio. These prepayments offset new originations and resulted in a $4.2 million decrease in residential real estate balances between December 31, 1997 and March 31, 1998. During the three months ended March 31, 1998, commercial loan balances increased $9.0 million, reflecting the Company's continued focus on lending activities in the local business market. During this same period commercial real estate loan balances increased $3.0 million primarily due to new originations, partially offset by prepayments. 15 Non-performing Assets Non-performing assets declined slightly from $8.1 million at December 31, 1997 to $7.7 million at March 31, 1998. The following table sets forth information regarding the components of non-performing assets for the periods presented: March 31, December 31, 1998 1997 ---------- ------------ (Dollars In Thousands) Non-accrual loans (1): Residential real estate loans $1,446 $1,211 Commercial real estate loans 1,539 1,542 Commercial loans 2,391 2,414 Home equity loans 214 181 Consumer loans 15 4 ------ ------ Total non-accrual loans 5,605 5,352 ------ ------ Loans past due 90 days still accruing (2) 183 431 ------ ------ Total non-performing loans 5,788 5,783 Foreclosed real estate (3) 817 1,209 Restructured loans on accrual status (4) 1,120 1,124 ------ ------ Total non-performing assets $7,725 $8,116 ====== ====== Total non-performing loans to total gross loans 0.67% 0.68% Total non-performing assets to total assets 0.43% 0.47% Allowance for possible losses to non-performing loans 401.50% 392.94% (1) Non-accrual loans are loans that are contractually past due in excess of 90 days, for which the Company has stopped the accrual of interest, or loans which are not past due but on which the Company has stopped the accrual of interest based on management's assessment of the circumstances surrounding these loans. (2) Accruing loans past due 90 days or more are loans which have not been placed on non-accrual status as, in management's opinion, the collection of the loan, in full, is not in doubt. (3) Foreclosed real estate includes OREO, defined as real estate acquired through foreclosure or acceptance of a deed in lieu of foreclosure. The Company carries foreclosed real estate at the lower of cost or net realizable value, which approximates fair value less estimated selling costs. (4) Restructured loans are loans for which concessions, including reduction of interest rates or deferral of interest or principal payments, have been granted due to the borrower's financial condition. Restructured loans on non-accrual status are reported in the non-accrual loan category. Restructured loans on accrual status are those loans that have complied with terms of a restructuring agreement for a satisfactory period (generally six months). 16 The principal amount of non-performing loans aggregated $5.8 million at both March 31, 1998 and December 31, 1997. Interest income that would have been recorded if the loans had been performing in accordance with their original terms aggregated $0.2 million and $0.1 million for the three months ended March 31, 1998 and 1997, respectively. Interest income recorded on these loans for the three months ended March 31, 1998 and 1997 was $0.1 million and $0.1 million, respectively. The principal amount of restructured loans aggregated $1.1 million at both March 31, 1998 and December 31, 1997. Interest income that would have been recorded if the loans had been performing within their original terms aggregated $27 thousand and $62 thousand for the periods ended March 31, 1998 and 1997, respectively. Interest income recorded on these loans amounted to $38 thousand and $27 thousand for the three months ended March 31, 1998 and 1997, respectively. Watch List Loans The Company maintains a "watch list" of loans, which represents performing loans that have potential weaknesses that require Management's attention. These potential weaknesses may stem from a variety of factors including, among other things, economic or market conditions, adverse conditions in the obligor's operations or financial condition weaknesses. Watch list loans totaled $18.2 million and $24.1 million at March 31, 1998 and December 31, 1997, respectively. Classified Loans The Company's Credit Grade Policy (the "Policy") provides for the classification of loans considered to be of lesser quality as "substandard", "doubtful", or "loss" loans. A loan is considered substandard under the Company's Policy if it is inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Substandard loans include those characterized by the "distinct possibility" that the Company will sustain "some loss" if the deficiencies are not corrected. Loans classified as doubtful, of which the Company has none, have all of the weaknesses inherent in those classified as substandard with the added characteristic that the weaknesses present make "collection or liquidation in full" on the basis of currently existing facts, conditions and values, "improbable." Loans characterized as loss, of which the Company has none, are those considered "uncollectible" and of such little value that their continuance as bankable assets is not warranted. Classified loans, all of which are categorized substandard, totaled $9.6 million and $6.2 million at March 31, 1998 and December 31, 1997, respectively. Included in these amounts are $5.6 million and $5.4 million of loans which have been reported as non-performing assets at March 31, 1998 and December 31, 1997, respectively. Allowance for Possible Loan Losses The allowance for possible loan losses reflects an amount that, in management's judgment, is adequate to provide for potential losses in the loan portfolio. In addition, examinations of the adequacy of the loan loss reserve are conducted periodically by various regulatory agencies. The allowance for possible loan losses at March 31, 1998 was $23.2 million, compared to $20.3 million at March 31, 1997. The activity in the allowance for possible loan losses for the three months ended March 31, 1998 and 1997 was as follows: 17 Three Months Ended March 31, -------------------------------- 1998 1997 ---------- ---------- (Dollars In Thousands) Balance, beginning of period $ 22,724 $ 19,549 Provision for loan losses 251 500 Charge-offs: Residential real estate loans (30) (3) Commercial real estate loans (1) -- Commercial loans (82) (128) Home equity loans (9) (15) Consumer loans (67) (44) Merchant processing (51) (32) -------- -------- Total charge-offs (240) (222) Recoveries: Residential real estate loans -- 1 Commercial real estate loans 443 426 Commercial loans 51 67 Home equity loans 1 5 Consumer loans 9 11 Merchant processing -- -- -------- -------- Total recoveries 504 510 -------- -------- Net recoveries (charge-offs) 264 288 Balance, end of period $ 23,239 $ 20,337 ======== ======== Ratio of net loan recoveries (charge-offs) during the period to average loans outstanding during the period 0.03% 0.04% Ratio of allowance for possible loan losses to total loans at the end of the period 2.71% 2.60% Ratio of allowance for possible loan losses to non-performing loans at the end of the period 401.50% 275.94% At March 31, 1998, the recorded investment in loans that are considered impaired under SFAS 114 "Accounting by Creditors for Impairment of a Loan" was $9.3 million. Included in this amount is $0.9 million of impaired loans for which the related SFAS 114 allowance is $0.2 million and $8.4 million of impaired loans for which the SFAS 114 allowance is zero. The average recorded investment in impaired loans during the three months ended March 31, 1998 was approximately $7.6 million. For the three month period ended March 31, 1998, the Company recognized interest income on these impaired loans of $0.1 million. 18 The following table shows the allocation of the allowance for possible loan losses to the various types of loans as well as the percentage of allowance for possible loan losses in each category to total allowance for possible loan loss. March 31, 1998 December 31, 1997 ----------------------------- --------------------------- % of % of Total Total Allowance for Allowance for Amount Loan Losses Amount Loan Losses ---------- --------------- --------- ------------- (Dollars In Thousands) Residential real estate loans $ 3,096 13.32% $ 3,664 16.12% Commercial real estate loans 6,395 27.52% 5,632 24.78% Commercial loans 8,265 35.57% 8,328 36.65% Home equity loans 3,066 13.19% 3,183 14.01% Consumer loans 1,231 5.30% 1,274 5.61% Merchant processing 1,186 5.10% 643 2.83% ------- ------ ------- ------ Total allowance for possible loan losses $23,239 100.00% $22,724 100.00% ======= ====== ======= ====== Deposit Distribution The principal source of funds for the Company are deposits from local consumers and businesses. There were no brokered deposits at March 31, 1998 or December 31, 1997. The Company's deposits consist of demand and NOW accounts, money manager accounts, passbook and statement savings accounts, money market accounts and time deposits. The following table presents the composition of deposits at the dates indicated: March 31, 1998 December 31, 1997 ------------------------ ---------------------- Percent Percent of of Amount Total Amount Total ----------- --------- ---------- --------- (Dollars In Thousands) Demand deposits $ 177,258 13.54% $ 171,343 13.52% NOW accounts 50,562 3.86% 51,412 4.06% Money manager accounts (1) 46,230 3.53% 39,447 3.11% Savings accounts 219,232 16.74% 263,449 20.79% Money market accounts 259,172 19.79% 211,286 16.67% Time deposits 556,948 42.54% 530,361 41.85% ---------- ------ ---------- ------ Total deposits $1,309,402 100.00% $1,267,298 100.00% ========== ====== ========== ====== (1) Money manager accounts represent NOW account balances which have been transferred to money market accounts to provide additional investable funds to the Company by substantially reducing the reserve balances required to be maintained at the Federal Reserve Bank of Boston. This program has no effect on the Company's depositors. 19 Total deposits were $1.3 billion at both March 31, 1998 and December 31, 1997. Deposits increased $42.1 million with growth occurring primarily in demand deposits, money manager accounts and time deposits. The $44.2 million decrease in savings accounts is offset by a comparable increase in money market accounts, which is attributable to the conversion of some savings accounts in connection with the GBT acquisition. Demand deposits increased $5.9 million, as customers continue to take advantage of free checking accounts offered as a result of the Company's consumer deposit strategy to attract and retain core deposits, which provide the Company with a lower cost source of funds. The $26.6 million increase in time deposits is primarily attributable to growth in deposits with local municipalities. Borrowings Borrowings consist of FHLB advances, securities sold under agreements to repurchase, and loans payable related to the Company's ESOP. The Company generally uses borrowings to fund loan growth and to leverage a portion of its capital position. Borrowings increased $10.0 million from $300.0 million at December 31, 1997 to $310.0 million at March 31, 1998 reflecting a portion of the funding for the growth in loans and investments. Regulatory Capital The Company is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory, and possibly additional discretionary, actions by regulators that, if undertaken, could have a direct material adverse effect on the Company's financial statements. Under applicable capital adequacy requirements the Company must meet specific minimum capital requirements that involve quantitative measures of the Company's assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Company's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Company to maintain minimum amounts and ratios (set forth in the table below) of total and Tier 1 capital to risk-weighted assets and Tier 1 capital to total average assets. Management believes, as of March 31, 1998, that the Company meets all capital adequacy requirements to which it is subject. Under the FDIC's regulatory framework for prompt corrective action, both SIS Bank and GBT are considered well capitalized as of March 31, 1998. To be categorized as well capitalized the Banks must maintain minimum total risk-based, Tier 1 risk-based, and Tier 1 leverage ratios as set forth in the table below. As of March 31, 1998 the Company also qualified as well capitalized under the applicable Federal Reserve Board regulations. 20 The actual capital amounts and ratios for the Company, SIS Bank and GBT are presented in the table below, no deductions were made from capital for interest-rate risk. Minimum Minimum Requirements Requirements For Capital To Qualify As Actual Adequacy Purposes Well Capitalized ----------------------- ---------------------- ---------------------- Amount Ratio Amount Ratio Amount Ratio ---------- --------- ---------- ------- ---------- -------- (Dollars In Thousands) As of March 31, 1998: Tier I Capital (to Average Assets) Company $126,978 7.3% $ 69,892 4.0% N/A SIS Bank $107,134 7.2% $ 59,301 4.0% $ 74,126 5.0% GBT $ 17,610 6.7% $ 10,570 4.0% $ 13,212 5.0% Tier I Capital (to Risk Weighted Assets) Company $126,978 11.5% $ 44,173 4.0% $ 66,259 6.0% SIS Bank $107,134 11.7% $ 36,495 4.0% $ 54,743 6.0% GBT $ 17,610 9.2% $ 7,668 4.0% $ 11,502 6.0% Total Capital (to Risk Weighted Assets) Company $140,888 12.8% $ 88,346 8.0% $110,432 10.0% SIS Bank $118,632 13.0% $ 72,991 8.0% $ 91,238 10.0% GBT $ 20,022 10.4% $ 15,336 8.0% $ 19,170 10.0% As of December 31, 1997: Tier I Capital (to Average Assets) Company $123,340 7.2% $ 68,834 4.0% N/A SIS Bank $103,780 7.1% $ 58,358 4.0% $ 72,947 5.0% GBT $ 17,291 6.6% $ 10,422 4.0% $ 13,028 5.0% Tier I Capital (to Risk Weighted Assets) Company $123,340 11.9% $ 41,568 4.0% $ 62,352 6.0% SIS Bank $103,780 11.9% $ 35,044 4.0% $ 52,565 6.0% GBT $ 17,291 10.6% $ 6,507 4.0% $ 9,761 6.0% Total Capital (to Risk Weighted Assets) Company $136,438 13.1% $ 83,137 8.0% $103,921 10.0% SIS Bank $114,825 13.1% $ 70,087 8.0% $ 87,609 10.0% GBT $ 19,344 11.9% $ 13,014 8.0% $ 16,268 10.0% Interest Rate Risk Management Using management's estimates of asset prepayments and core deposit decay in its computation, the Company estimates that its cumulative one-year gap position was liability sensitive by $62.7 million or 3.49% of total assets at March 31, 1998. The following table sets forth the amounts of assets and liabilities outstanding at March 31, 1998, which are anticipated by the Company to mature or reprice in each of the future time periods shown using certain assumptions based on its historical experience, the current interest rate environment, and other data available to management. Management believes that these assumptions approximate actual experience and considers such assumptions reasonable, however, the interest rate sensitivity of the Company's assets and liabilities could vary substantially if different assumptions were used or actual experience differs from the assumptions used. Management periodically reviews and, when appropriate, changes the assumptions used in creating this table. 21 GAP Position At March 31, 1998 --------------------------------------------------------------------------- More than six Less than months less six months than one year 1 - 5 Years Over 5 Yrs TOTAL ------------- --------------- ------------- ------------- -------------- (Dollars In Thousands) Assets: Federal funds sold and interest bearing deposits $ 54,458 $ -- $ -- $ -- $ 54,458 Investment securities 274,982 181,129 269,102 57,148 782,361 Residential real estate loans 86,785 46,597 112,142 30,427 275,951 Commercial real estate loans 51,390 18,634 104,141 12,803 186,968 Commercial loans 90,438 12,468 100,437 16,698 220,041 Home equity loans 119,655 2,388 22,502 15,799 160,344 Consumer loans 6,460 630 4,679 258 12,027 Other assets -- -- -- 101,818 101,818 ---------- ---------- ---------- ---------- ---------- Total assets $ 684,168 $ 261,846 $ 613,003 $ 234,951 $1,793,968 ========== ========== ========== ========== ========== Liabilities & stockholders' equity: Savings accounts $ 32,904 $ 32,904 $ 153,424 $ -- $ 219,232 NOW accounts 14,518 14,518 67,756 -- 96,792 Money market accounts 77,752 77,752 103,668 -- 259,172 Time deposits 302,492 189,293 65,163 -- 556,948 Borrowed funds 161,613 34,120 114,210 -- 309,943 Other liabilities & stockholders' equity 35,418 35,418 106,254 174,791 351,881 ---------- ---------- ---------- ---------- ---------- Total liabilities & stockholders' equity $ 624,697 $ 384,005 $ 610,475 $ 174,791 $1,793,968 ========== ========== ========== ========== ========== Period GAP position $ 59,471 $ (122,159) $ 2,528 $ 60,160 Net period GAP as a percentage of total assets 3.32% (6.81%) 0.14% 3.35% Cumulative GAP $59,471 $ (62,688) $ (60,160) -- Cumulative GAP as a percentage of total assets 3.32% (3.49%) (3.35%) -- Cumulative GAP as a percentage of total interest-earning assets 3.51% (3.70%) (3.56%) -- Cumulative interest-earning assets as a percentage of cumulative interest-bearing liabilities 116.10% 100.87% 108.11% 117.34% <FN> For purposes of the above interest sensitivity analysis: Residential loans held for sale at March 31, 1998 totaling $15.9 million are in the less than six month interest sensitivity period. Fixed rate assets are scheduled by contractual maturity and adjustable rate assets are scheduled by their next repricing date. In both cases, assets that have prepayment optionality are adjusted for the Company's estimate of prepayments. Loans do not include non-accrual loans of $5.6 million. Loans do not include the allowance for loan loss of $23.2 million. In certain deposit categories where there is no contractual maturity, Management assumed the sensitivity characteristics listed below based on the current interest rate environment and the Company's historical experience. Management reviews these assumptions on a quarterly basis and may modify them as circumstances dictate. - Savings accounts are assumed to decay at an annual rate of 30%. - NOW accounts are assumed to decay at an annual rate of 30%. - Money market accounts are assumed to decay at an annual rate of 60%. - Non-interest bearing accounts of $177.3 million are included in other liabilities and are assumed to decay at an annual rate of 40%. </FN> 22 Certain shortcomings are inherent in the method of analysis presented in the foregoing table. For example, while certain assets and liabilities may have similar contractual maturities or periods to repricing, they may react in different ways to changes in market interest rates. Further, in the event of a change in interest rates, prepayment and early withdrawal levels would likely deviate significantly from those assumed in calculating the table. Additionally, certain assets, such as adjustable rate mortgages, have features which restrict changes in interest rates on a short-term basis and over the life of the asset. Finally, the ability of borrowers to service their adjustable rate mortgages may decrease in the event of an interest rate increase. The Company also utilizes income simulation modeling in measuring its interest rate risk and managing its interest rate sensitivity. Income simulation not only considers the impact of changing market interest rates on forecasted net interest income, but also takes into consideration other factors such as yield curve relationships, the volume and mix of assets and liabilities, customer preferences and general market conditions. Liquidity Liquidity measures the ability of the Company to meet its maturing obligations and existing commitments, to withstand fluctuations in deposit levels, to fund its operations and to provide for customer credit needs. If the Company requires funds beyond its ability to generate them internally, it has additional borrowing capacity with the FHLB and collateral eligible for repurchase agreements. Because the Company has a stable retail deposit base, management believes that significant borrowings will not be necessary to maintain its current liquidity position. Management intends to continue seeking opportunities for expansion and believes that the Company's liquidity, capital resources and borrowing capabilities are adequate for its current and intended operations. Market Risk As a financial institution, the Company's chief market risk is interest rate risk. The Company has no exposure to foreign currency or commodity prices. Its exposure to equity prices is limited to marketable equity securities contained within its available for sale investment portfolio. At March 31, 1998 the Company did not have a trading portfolio. Interest rate risk is the sensitivity of income to variations in interest rates over defined time horizons. The primary goal of interest rate risk management is to control this risk within limits and guidelines approved by the Company's Asset/Liability Committee (ALCO). These limits and guidelines reflect the Company's tolerance for interest rate risk. The Company attempts to control interest rate risk by identifying exposures, quantifying them, and identifying their impact on income. The Company quantifies its interest rate risk exposures using simulation models as well as gap analyses. The Company manages its interest rate exposures using a combination of on-balance sheet instruments, consisting principally of fixed and variable rate securities, deposit pricing and FHLB borrowings. See the GAP Position analysis under this Item 2 and the notes to the Consolidated Financial Statements under Item 8 in the Company's Form 10-K for the year ended December 31, 1997 for further information regarding market risk of these instruments. At March 31, 1998 and December 31, 1997, the Company had no outstanding exposures to off-balance sheet interest rate instruments such as swaps, forwards or futures. GBT held derivative financial instruments during 1997. However, in December, 1997 concurrent with the acquisition of GBT, the Company sold its position in these instruments. At March 31, 1998 and December 31, 1997 the Company held no derivative financial instruments. 23 Part II. OTHER INFORMATION Item 1. Legal Proceedings Not applicable Item 2. Changes in Securities Not applicable Item 3. Default upon Senior Securities Not applicable Item 4. Submission of Matters to a Vote of Security Holders (a) On May 7, 1998, the Annual Meeting of the Stockholders of SIS Bancorp, Inc. was held at the Springfield Sheraton Hotel, Springfield, Massachusetts. (b) Directors elected at the Annual Meeting (Term to Expire in 2001) Charles L. Johnson Consultant- Associated Energy Managers, Investment Management Firm F. William Marshall, Jr. President and Chief Executive Officer, SIS Bancorp, Inc. and SIS Bank Continuing Directors (Term to Expire in 1999) William B. Hart, Jr. President, The Dunfey Group an investment corporation Thomas O'Brien Dean, University of Massachusetts School of Management Stephen A. Shatz Attorney, Partner in Shatz, Schwartz & Fentin, P.C. Continuing Directors: (Term to Expire in 2000) Sister Mary Caritas, S.P. Retired; former President and Chief Executive Officer of Mercy Hospital John M. Naughton Retired, former Executive Vice President, Massachusetts Mutual Life Insurance Co. Ronald E. Bourbeau Owner, Yankee Boat Yard & Marina, Inc.; Treasurer, Northeast Yacht Sales (c) The matters voted on at the meeting and the results of such voting were as follows: 1. To elect two Directors for a three-year term ending in the Year 2001 (Proposal 1); Votes For (shares) Votes Withheld (shares) Charles L. Johnson 5,974,045 36,704 F. William Marshall, Jr. 5,994,304 16,445 2. To approve and adopt the Amended and Restated SIS Bancorp, Inc. Stock Option Plan, as more fully described in the Proxy statement for the meeting Votes For (shares) Votes Against (shares) Votes Abstained (shares) Broker Non-Votes (shares) 4,271,816 1,676,902 62,031 -- Item 5. Other Information Not applicable Item 6. Exhibits and Reports on Form 8-K (a) Exhibits: 10. Material Contracts 24 10 (g) SIS Bancorp, Inc. Stock Option Plan amended and restated as of March 1, 1998- Incorporated by reference to Exhibit A to the definitive Proxy Statement and Notice of Meeting filed as Schedule 14A with the SEC on March 31, 1998. (b) Reports on Form 8-K On February 13, 1998, the Company filed a Form 8-K for reporting the results of the combined financial operations for the Company and its subsidiaries, including Glastonbury Bank & Trust Company, for the month ended January 31, 1998. 25 SIGNATURES Under the requirements of the Securities Exchange Act of 1934, as amended, the Company has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. SIS BANCORP, INC. (Registrant) May 14, 1998 /s/ F. William Marshall, Jr. Date F. William Marshall, Jr. President and Chief Executive Officer May 14, 1998 /s/ John F. Treanor Date John F. Treanor Executive Vice President, Chief Operating Officer and Chief Financial Officer 26