Securities and Exchange Commission
Washington, D.C. 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2003
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File No.: 001-16767
Westfield Financial, Inc.
(Exact Name of Registrant as Specified in Its Charter)
Massachusetts 73-1627673
(State or Other Jurisdiction (I.R.S. Employer Identification No.)
of Incorporation or Organization)
141 Elm Street, Westfield, Massachusetts 01085
(Address of Principal Executive Offices, including zip code)
(413) 568-1911
(Registrant's telephone number including area code)
Securities registered pursuant to Section 12(b) of the Act: Common Stock,
$.01 par value per share
Securities registered pursuant to Section 12(g) of the Act: None.
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes [X] No [ ].
Indicate by check mark if disclosure of delinquent files pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes [X] No [ ].
As of March 5, 2004, the registrant had 10,504,150 shares of common stock,
$.01 par value, issued and outstanding. Of such shares outstanding,
5,607,400 shares were held by Westfield Mutual Holding Company, the
registrant's mutual holding company, and 4,896,750 were held by the public
and directors, officers and employees of the registrant.
The aggregate market value of the voting stock held by non-affiliates of the
registrant as of June 30, 2003, was $83,352,941. This figure was based on
the closing price as of June 30, 2003 on The American Stock Exchange for a
share of the registrant's common stock, which was $18.81 on June 30, 2003.
DOCUMENTS INCORPORATED BY REFERENCE:
Part III of Form 10-K - Portions of the Proxy Statement for the 2004 Annual
Meeting of Stockholders.
WESTFIELD FINANCIAL, INC.
ANNUAL REPORT ON FORM 10-K
FOR THE FISCAL YEAR ENDED
DECEMBER 31, 2003
TABLE OF CONTENTS
ITEM PART I PAGE
1 BUSINESS 2
2 PROPERTIES 42
3 LEGAL PROCEEDINGS 43
4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 43
PART II
5 MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED 43
STOCKHOLDER MATTERS
6 SELECTED FINANCIAL DATA 44
7 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL 45
CONDITION AND RESULTS OF OPERATIONS
7A QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT 67
MARKET RISK
8 FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 67
9 CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON 68
ACCOUNTING AND FINANCIAL DISCLOSURE
9A CONTROLS AND PROCEDURES 68
PART III
10 DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT 68
11 EXECUTIVE COMPENSATION 69
12 SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND 69
MANAGEMENT
13 CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS 69
14 PRINCIPAL ACCOUNTING FEES AND SERVICES 70
PART IV
15 EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON 70
FORM 8-K
SIGNATURES 71
FORWARD - LOOKING STATEMENTS
This Annual Report on Form 10-K contains "forward-looking statements"
which may be identified by the use of such words as "believe," "expect,"
"anticipate," "should," "planned," "estimated," and "potential." Examples
of forward-looking statements include, but are not limited to, estimates
with respect to our financial condition and results of operation and
business that are subject to various factors which could cause actual
results to differ materially from these estimates. These factors include,
but are not limited to:
* general and local economic conditions;
* changes in interest rates, deposit flows, demand for mortgages
and other loans, real estate values, and competition;
* changes in accounting principles, policies, or guidelines;
* changes in legislation or regulation; and
* other economic, competitive, governmental, regulatory, and
technological factors affecting our operations, pricing,
products, and services.
Any or all of our forward-looking statements in this Annual Report on
Form 10-K and in any other public statements we make may turn out to be
wrong. They can be affected by inaccurate assumptions we might make or
known or unknown risks and uncertainties. Consequently, no forward-looking
statements can be guaranteed. We disclaim any obligation to subsequently
revise any forward-looking statements to reflect events or circumstances
after the date of such statements, or to reflect the occurrence of
anticipated or unanticipated events.
1
PART I
ITEM 1. BUSINESS
General. Westfield Financial, Inc. ("Westfield Financial," "us,"
"our," or "we") is a Massachusetts-chartered stock holding company
organized in November 2001 in connection with the reorganization of
Westfield Mutual Holding Company, a Massachusetts chartered mutual holding
company which owns 53% of the outstanding common stock of Westfield
Financial. Westfield Financial serves as the bank holding company for
Westfield Bank, a Massachusetts chartered stock savings bank. Unless the
context otherwise requires, all references herein to Westfield Bank or
Westfield Financial include Westfield Financial and Westfield Bank on a
consolidated basis. Westfield Financial sold 4,972,600 shares of its
common stock to eligible depositors of Westfield Bank. Net proceeds of the
stock offering were $47.7 million. The reorganization of Westfield Mutual
Holding Company and the related stock offering by Westfield Financial were
completed on December 27, 2001. The common stock of Westfield Financial
commenced trading on The American Stock Exchange under the symbol "WFD" on
December 28, 2001.
On September 23, 2003, the Board of Trustees of Westfield Mutual
Holding Company and the Boards of Directors of Westfield Bank and Westfield
Financial adopted a Plan of Charter Conversion. Pursuant to the Plan of
Charter Conversion, Westfield Mutual Holding Company will establish a
federal mutual holding company (the "Federal MHC"). Westfield Mutual
Holding Company will then merge with and into the Federal MHC, with the
Federal MHC as the surviving entity. Concurrently, Westfield Bank will
exchange its Massachusetts stock savings bank charter for a federal stock
savings bank charter (the "Federal Savings Bank"). As a result of the
charter conversion, Westfield Mutual Holding Company and Westfield
Financial will become savings and loan holding companies regulated by the
Office of Thrift Supervision (the "OTS") and Westfield Bank will become a
federal savings bank regulated by the OTS. Westfield Financial expects
that the charter conversion will be completed in the second quarter of
2004.
The charter conversion will have little impact on the daily
operations of Westfield Mutual Holding Company, Westfield Financial or
Westfield Bank. Westfield Bank will continue its operations at the same
locations, with the same officers and employees, and be subject to all the
rights, obligations and liabilities of Westfield Bank existing immediately
prior to the charter conversion. The charter conversion would not likely
result in any material increased expenses or regulatory burden to Westfield
Mutual Holding Company, Westfield Financial or Westfield Bank. Following
the charter conversion, Westfield Financial will continue to file periodic
reports and proxy materials with the Securities and Exchange Commission
("SEC"), and its stock will continue to trade on the American Stock
Exchange under the symbol "WFD."
Westfield Securities Corp., a Massachusetts chartered security
corporation, and Westfield Bank are the only operating subsidiaries of
Westfield Financial. Westfield Securities Corp. was formed in December 2001
by Westfield Financial for the primary purpose of holding qualified
investment securities.
2
Westfield Bank was formed in 1853 and reorganized into a mutual
holding company structure without a stock offering in 1995. Historically,
Westfield Bank has been a community-oriented provider of banking products
and services to businesses and individuals, including traditional products
such as residential and commercial real estate loans, consumer loans and a
variety of deposit products. In recent years, however, Westfield Bank has
developed and implemented a lending strategy that focuses less on
residential real estate lending and more on servicing commercial customers,
including increased emphasis on commercial and industrial and consumer
lending and deposit relationships, extending its branch network and
broadening its product lines and services.
Beginning on September 1, 2001, Westfield Bank began referring its
residential real estate loan customers to a third party mortgage company.
Under the program, substantially all of Westfield Bank's residential real
estate loans are underwritten and originated by a third party mortgage
company. In connection with this referral program, Westfield Bank receives
fee income for each of the loans originated by the third party mortgage
company. Westfield Bank may purchase residential real estate loans from
the third party mortgage company depending on market conditions. To date,
the Bank has not purchased a significant amount of loans from the third
party mortgage company. The Bank believes that this program diversifies
its loan portfolio and reduces interest rate risk.
Westfield Bank believes that this business strategy is best for its
long term success and viability, and complements its existing commitment to
high quality customer service. Westfield Bank operates through 10 banking
offices in Agawam, East Longmeadow, Holyoke, Southwick, Springfield, West
Springfield and Westfield, Massachusetts. It also has four free-standing
ATM locations in Agawam, Feeding Hills and Springfield, Massachusetts.
Westfield Bank's primary deposit gathering area is concentrated in the
communities surrounding these locations and its primary lending area
includes all of Hampden County in western Massachusetts. In addition,
Westfield Bank provides online banking services through its web site
(http://www.westfieldbank.com).
Westfield Bank's revenues are derived principally from interest on
its loans and interest and dividends on its investment securities. Its
primary sources of funds are deposits, scheduled amortization and
prepayments of loan principal and mortgage-backed securities, maturities
and calls of investment securities, and funds provided by operations.
Market Area. Westfield Bank conducts its operations out of the
Bank's main office in Westfield, Massachusetts. It also operates through
nine other banking offices located in Westfield and in the communities of
Agawam, East Longmeadow, Holyoke, Southwick, Springfield and West
Springfield, Massachusetts. Its deposits are gathered from the general
public in these towns and surrounding communities, and its lending
activities are concentrated primarily in Hampden County, Massachusetts.
3
The City of Westfield is largely suburban and is located in the
Pioneer Valley near the intersection of U.S. Interstates 90 (the
Massachusetts Turnpike) and 91. Interstate 90 is the major east-west
highway that crosses Massachusetts. Interstate 91 is the major north-south
highway that runs directly through the heart of New England. Westfield is
located approximately 90 miles west of Boston, Massachusetts, 70 miles
southeast of Albany, New York and 30 miles north of Hartford, Connecticut.
Westfield's 2003 population was approximately 40,500 and the estimated 2003
population for Hampden County was approximately 457,300.
The economy of Westfield Bank's market area historically has been
supported by a variety of industries. Its primary market area has
benefited from the presence of large employers centered in insurance,
health care, warehouse, manufacturing and education. Among the largest
employers currently in its market area are Bay State Health Systems, Big Y
Foods, Friendly Ice Cream Corporation, Hasbro, Mass Mutual Life Insurance
Company, Mestek, Noble Hospital, C&S Wholesale, the University of
Massachusetts, Westfield State College, American International College, and
the Sullivan Paper Company. In addition, other employment and economic
activity is provided by a substantial number of small and medium size
businesses in the area.
During the late 1990's, the regional economy in our primary market
area, based on economic indicators, such as unemployment rates, vacancy
rates and household income trends, strengthened, and residential and
commercial real estate values in some areas approached the market values
existing before the economic downturn in the late 1980s.
In recent years, however, the regional economy in Westfield Bank's
primary market area has showed signs of weakening. Unemployment rates in
Westfield Bank's market area have recently increased and Westfield Bank
expects that unemployment rates may stabilize or decrease as the regional
and national economy improves. Westfield Bank's future growth
opportunities will be influenced by the growth and stability of the
statewide and regional economies, other demographic population trends and
the competitive environment. Westfield Bank believes that it has developed
lending products and marketing strategies to address the diverse credit-
related needs of the residents in its market area.
As of December 2003, the unemployment rate of Westfield Bank's
primary market area and Massachusetts was 6.5% and 5.4%, respectively,
compared to 5.8% and 5.0%, respectively, in December 2002. From June 2002
to June 2003, the median household income in Westfield Bank's market area
increased by 1.0% to $54,387, compared to $53,840 as of June 2002. Despite
the increase, the median household income in Westfield Bank's market area
is below state and national averages.
4
Competition. Westfield Bank faces intense competition both in making
loans and attracting deposits. Its primary market area is highly
competitive and it faces direct competition from approximately 24 financial
institutions, many with a local, state-wide or regional presence and, in
some cases, a national presence. Many of these financial institutions are
significantly larger than and have greater financial resources than
Westfield Bank. Westfield Bank's competition for loans comes principally
from commercial banks, savings institutions, mortgage banking firms, credit
unions, finance companies, mutual funds, insurance companies and brokerage
and investment banking firms. Westfield Bank's most direct competition for
deposits has historically come from commercial banks, savings banks, co-
operative banks and credit unions. Westfield Bank faces additional
competition for deposits from short-term money market funds and other
corporate and government securities funds and from brokerage firms and
insurance companies. Historically, Westfield Bank's most direct competition
for deposits has come from savings, co-operative and commercial banks. In
Westfield Bank's market area, there were approximately ten of the foregoing
institutions at December 31, 2003.
Lending Activities
Loan Portfolio Composition. Westfield Bank's loan portfolio
primarily consists of residential real estate loans, home equity loans,
commercial real estate loans, commercial and industrial loans and consumer
loans.
At December 31, 2003, Westfield Bank had total loans of $349.4
million, of which $131.3 were commercial real estate loans and $85.3
million were commercial and industrial loans. The remainder of its loans
at December 31, 2003 consisted of residential mortgage loans, home equity
loans and consumer loans. Residential mortgage and home equity loans
outstanding at December 31, 2003 totaled $110.5 million. Of this total,
51.3% were adjustable-rate loans and 59.2% were fixed-rate loans. Consumer
loans outstanding at December 31, 2003 were $22.3 million.
Westfield Bank's loans are subject to federal and state law and
regulations. The interest rates Westfield Bank charges on loans are
affected principally by the demand for loans, the supply of money available
for lending purposes and the interest rates offered by its competitors.
These factors are, in turn, affected by general and local economic
conditions, monetary policies of the federal government, including the
Federal Reserve Board, legislative tax policies and governmental budgetary
matters. The following table presents the composition of Westfield Bank's
loan portfolio in dollar amounts and in percentages of the total portfolio
at the dates indicated.
5
At December 31,
-------------------------------------------------------------------------------------------------------
2003 2002 2001 2000 1999
------------------- ------------------- ------------------- ------------------- -------------------
Percent of Percent of Percent of Percent of Percent of
Amount Total Amount Total Amount Total Amount Total Amount Total
------ ---------- ------ ---------- ------ ---------- ------ ---------- ------ ----------
(Dollars in thousands)
<s> <c> <c> <c> <c> <c> <c> <c> <c> <c> <c>
Real estate loans:
Residential $100,729 28.83% $146,664 40.59% $199,710 47.86% $250,945 53.64% $250,625 53.29%
Home equity 9,819 2.81 11,232 3.11 13,041 3.13 13,217 2.83 14,258 3.03
Commercial 131,291 37.57 100,903 27.92 99,425 23.82 92,826 19.84 89,333 18.99
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total real estate loans 241,839 69.21 258,799 71.62 312,176 74.81 356,988 76.31 354,216 75.31
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Other loans:
Commercial and industrial 85,292 24.41 61,494 17.01 47,012 11.27 37,510 8.02 32,673 6.95
Indirect auto 15,983 4.57 33,848 9.37 52,129 12.49 66,168 14.14 76,006 16.16
Consumer, other 6,327 1.81 7,216 2.00 5,955 1.43 7,171 1.53 7,436 1.58
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total other loans 107,602 30.79 102,558 28.38 105,096 25.19 110,849 23.69 116,115 24.69
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total loans 349,441 100.00% 361,357 100.00% 417,272 100.00% 467,837 100.00% 470,331 100.00%
Net deferred loan
origination costs 181 123 197 128 231
Allowance for loan losses (4,642) (4,325) (3,923) (3,434) (3,118)
-------- -------- -------- -------- --------
Total loans, net $344,980 $357,155 $413,546 $464,531 $467,444
======== ======== ======== ======== ========
6
Loan Maturity and Repricing. The following table shows the repricing
dates or contractual maturity dates as of December 31, 2003. The table
does not reflect prepayments or scheduled principal amortization. Demand
loans, loans having no stated maturity, and overdrafts are shown as due in
within one year.
At December 31, 2003
-------------------------------------------------------------------------------
Commercial
Residential Commercial and
Real Estate Home Equity Real Estate Industrial Consumer
Loans Loans Loans Loans Loans Totals
----------- ----------- ----------- ---------- -------- ------
(In thousands)
<s> <c> <c> <c> <c> <c> <c>
Amounts due:
Within one year $ 30,886 $9,819 $ 27,734 $62,659 $ 2,296 $133,394
-------- ------ -------- ------- ------- --------
After one year:
One to three years 10,249 - 12,608 4,753 11,420 39,030
Three to five years 6,898 - 57,397 9,196 8,085 81,576
Five to ten years 20,464 - 24,754 8,442 509 54,169
Ten to twenty years 18,928 - 8,798 11 - 27,737
Over twenty years 13,304 - - 231 - 13,535
-------- ------ -------- ------- ------- --------
Total due after one year 69,843 - 103,557 22,633 20,014 216,047
-------- ------ -------- ------- ------- --------
Total amount due: 100,729 9,819 131,291 85,292 22,310 349,441
-------- ------ -------- ------- ------- --------
Less:
Net deferred loan origination
costs 94 - - - 87 181
Allowance for loan losses (467) (50) (2,011) (1,713) (401) (4,642)
-------- ------ -------- ------- ------- --------
Loans, net $100,356 $9,769 $129,280 $83,579 $21,996 $344,980
======== ====== ======== ======= ======= ========
The following table presents, as of December 31, 2003, the dollar
amount of all loans contractually due or scheduled to reprice after
December 31, 2004 and whether such loans have fixed interest rates or
adjustable interest rates.
Due After December 31, 2004
----------------------------------
Fixed Adjustable Total
----- ---------- -----
(In thousands)
<s> <c> <c> <c>
Real Estate Loans
Residential $ 59,168 $ 10,675 $ 69,843
Home Equity - - -
Commercial real estate 6,881 96,676 103,557
-------- -------- --------
Total real estate loans 66,049 107,351 173,400
-------- -------- --------
Other Loans
Commercial and industrial 20,250 2,383 22,633
Consumer 20,014 0 20,014
-------- -------- --------
Total other loans 40,264 2,383 42,647
-------- -------- --------
Total loans $106,313 $109,734 $216,047
======== ======== ========
7
The following table presents our loan originations, purchases, sales
and principal payments for the periods indicated.
For the Year Ended December 31,
--------------------------------
2003 2002 2001
---- ---- ----
(In thousands)
<s> <c> <c> <c>
Loans:
Balance outstanding at beginning of period $361,357 $417,272 $467,837
Originations:
Real estate loans:
Residential 11,941 7,842 46,625
Home Equity 5,694 2,247 10,853
Commercial 58,978 27,746 20,797
-------- -------- --------
Total mortgage originations 76,613 37,835 78,275
Commercial and industrial loans 67,558 47,844 56,778
Consumer loans 4,676 13,932 21,358
-------- -------- --------
Total originations 148,847 99,611 156,411
Purchases of one-to-four family mortgage loans 3,473 4,648 18,553
-------- -------- --------
152,320 104,259 174,964
-------- -------- --------
Less:
Principal repayments, unadvanced funds and
other, net 163,803 159,577 163,834
Loan securitizations - - 60,268
Loan charge-offs, net 433 532 1,141
Transfers to foreclosed real estate - 65 286
-------- -------- --------
Total deductions 164,236 160,174 225,529
-------- -------- --------
Ending balance $349,441 $361,357 $417,272
======== ======== ========
8
Residential Mortgage Loans and Originations. Westfield Bank
originates mortgage loans secured by one-to-four family properties that
serve as the primary residence of the owner. Most of its loan originations
are generated by referrals from real estate brokers and builders, its
marketing efforts and existing and walk-in customers. As of December 31,
2003, loans on one-to-four family residential properties, including home
equity lines, accounted for $110.5 million, or 31.64%, of Westfield Bank's
total loan portfolio.
Beginning on September 1, 2001, Westfield Bank began referring its
residential real estate borrowers to a third party mortgage company.
Residential real estate borrowers submit applications to Westfield Bank,
but the loan is closed on the books of the mortgage company. Westfield
Bank receives a fee of 65 basis points for each of these loans originated
by the third party mortgage company. Under the program, substantially all
of Westfield Bank's residential real estate loans are underwritten and
originated by the third party mortgage company. In addition, depending on
market conditions, Westfield Bank may purchase residential real estate
loans from the third party mortgage company. To date, the Bank has not
purchased a significant amount of loans from the third party mortgage
company. Westfield Bank believes that this program diversifies its loan
portfolio and reduces its interest rate risk.
Westfield Bank also originates residential real estate loans on
either a fixed-rate or adjustable-rate basis, as consumer demand dictates.
The maximum loan-to-value ratios depend on the type of property and the
size of the loan involved. The loan-to-value ratio is the loan amount
divided by the appraised value of the property. The loan-to-value ratio is
a measure commonly used by financial institutions to determine exposure to
risk. The majority of Westfield Bank's real estate loans are originated
with a loan-to-value ratio of 80% or less. Loans originated with loan-to-
value ratios in excess of 80% require the borrower to obtain mortgage
insurance.
Westfield Bank offers adjustable-rate mortgage loans with either a
one-year, three-year or five-year term to the initial repricing date.
After that initial period, the interest rate for each adjustable-rate
mortgage loan generally adjusts annually for the remainder of the term of
the loan. Westfield Bank uses a different number of indices to reprice its
adjustable-rate mortgage loans.
Westfield Bank's residential adjustable-rate mortgage loans generally
are fully amortizing loans with contractual maturities of up to 30 years,
payments due monthly. Its adjustable-rate mortgage loans generally provide
for specified minimum and maximum interest rates, with a lifetime cap and
floor, and a periodic adjustment on the interest rate over the rate in
effect on the date of origination. As a consequence of using caps, the
interest rates on these loans are not generally as rate sensitive as its
cost of funds. The adjustable-rate mortgage loans that Westfield Bank
originates generally are not convertible into fixed-rate loans.
Adjustable-rate mortgage loans generally pose different credit risks
than fixed-rate loans, primarily because as interest rates rise, the
borrower's payments rises, increasing the potential for default. To date,
Westfield Bank has not experienced difficulty with payments for these
loans. At December 31, 2003, its residential mortgage and home equity loan
portfolio included $51.3 million in adjustable-rate loans or, 14.7% of its
total loan portfolio, and $59.2 million in fixed-rate loans, or 16.9% of
its total loan portfolio.
9
Westfield Bank's home equity lines of credit totaled $9.8 million and
comprised 2.81% of its total loan portfolio at December 31, 2003. These
loans may be originated in amounts of the existing first mortgage, or up to
100% of the value of the property securing the loan. The term to maturity
on Westfield Bank's home equity and home improvement loans may be up to 15
years.
Commercial Real Estate Loans. Westfield Bank originates commercial
real estate loans to finance the purchase of real property, which generally
consists of apartment buildings, business properties, multi-family
investment properties and construction loans to developers of commercial
and residential properties. In underwriting commercial real estate loans,
consideration is given to the property's historic cash flow, current and
projected occupancy, location and physical condition. At December 31,
2003, Westfield Bank's commercial real estate loan portfolio consisted of
418 loans, totaling $131.3 million, or 37.57% of total loans. Since 1998,
commercial real estate loans have grown by $41.3 million, or 45.89%, from
$90.0 million at December 31, 1998 to $131.3 million at December 31, 2003.
Substantially all of the commercial real estate portfolio consists
of loans which are collateralized by properties in Westfield Bank's normal
lending area. Westfield Bank's commercial real estate loan portfolio is
diverse, and does not have any significant loan concentration by type of
property or borrower. Westfield Bank generally lends up to a maximum loan-
to-value ratio of 80% on commercial properties and requires a minimum debt
coverage ratio of 1.20 times. Its largest commercial real estate loan
relationship had an outstanding balance of $7.2 million at December 31,
2003 which was secured by two commercial investment properties located in
Massachusetts and one property in Connecticut. The loans of this borrower
have performed to contractual terms.
Westfield Bank also offers construction loans to finance the
construction of commercial properties located in its primary market area.
Westfield Bank had $3.8 million in commercial construction loans and
commitments at December 31, 2003.
Commercial real estate lending involves additional risks compared
with one-to-four family residential lending. Payments on loans secured by
commercial real estate properties often depend on the successful management
of the properties, on the amount of rent from the properties, or on the
level of expenses needed to maintain the properties. Repayment of such
loans may therefore be adversely affected by conditions in the real estate
market or the general economy. Also, commercial real estate loans
typically involve large loan balances to single borrowers or groups of
related borrowers. In order to mitigate this risk, Westfield Bank monitors
its loan concentration on a quarterly basis and its loan policies generally
limit the amount of loans to a single borrower or group of borrowers.
Because of increased risks associated with commercial real estate
loans, Westfield Bank's commercial real estate loans generally have higher
rates and shorter maturities than residential mortgage loans. Westfield
Bank usually offers commercial real estate loans at adjustable rates tied
to the prime rate or to yields on U.S. Treasury securities. The terms of
such loans generally do not exceed 20 years.
10
Commercial and Industrial Loans. Westfield Bank offers commercial
and industrial loan products and services which are designed to give
business owners borrowing opportunities for modernization, inventory,
equipment, construction, consolidation, real estate, working capital,
vehicle purchases and the financing of existing corporate debt. Westfield
Bank offers business installment loans, vehicle and equipment financing,
lines of credit, equipment leasing and other commercial loans. At December
31, 2003, Westfield Bank's commercial and industrial loan portfolio
consisted of 826 loans, totaling $85.3 million or 24.41% of its total
loans. Since 1998, commercial and industrial loans have grown $59.9
million, or 236%, from $25.4 at December 31, 1998 to $85.3 million at
December 31, 2003. In addition, Westfield Bank has added five commercial
loan officers and one business development officer beginning in 1996.
Westfield Bank may hire additional commercial loan officers on an as needed
basis.
As part of Westfield Bank's strategy of increasing its emphasis on
commercial lending, Westfield Bank seeks to attract its business customers'
entire banking relationship. All commercial borrowers are required to
maintain a commercial deposit at Westfield Bank. Westfield Bank also
provides complementary commercial products and services, including an
equipment leasing program with a third party vendor, a variety of
commercial deposit accounts, cash management services, sweep accounts, a
broad ATM network and night deposit services. Commercial loan officers are
based in its main and branch offices, and Westfield Bank views its recent
and potential branch expansion as a means of facilitating these commercial
relationships. Westfield Bank intends to continue to expand the volume of
its commercial business products and services within its current
underwriting standards.
Westfield Bank's commercial loan portfolio does not have any
significant loan concentration by type of property or borrower. The
largest concentration of loans was for paper and allied products including
printing and publishing, which comprise approximately 4.96% of the total
loan portfolio as of December 31, 2003. At December 31, 2003, Westfield
Bank's largest commercial and industrial loan relationship was $10.8
million to a company engaged in the manufacture of school furniture and
bicycles. The loans of this borrower have performed to contractual terms.
Commercial and industrial loans are limited to terms of seven years
but generally have terms of five years or less. Although Westfield Bank
does originate fixed-rate commercial loans, substantially all of its
commercial loans have variable interest rates tied to the prime rate.
Whenever possible, Westfield Bank also collateralizes these commercial and
industrial loans with a lien on commercial real estate. Alternatively,
Westfield Bank may collateralize these loans with a lien on business assets
and equipment. In some cases, both types of liens are required. Westfield
Bank also generally requires the personal guarantee of the business owner.
Interest rates on commercial loans generally have higher yields than
residential or commercial real estate loans.
11
Commercial and industrial loans are generally considered to involve a
higher degree of risk than residential or commercial real estate loans
because the collateral may be in the form of intangible assets and/or
inventory subject to market obsolescence. Commercial and industrial loans
may also involve relatively large loan balances to single borrowers or
groups of related borrowers, with the repayment of such loans typically
dependent on the successful operation and income stream of the borrower.
These risks can be significantly affected by economic conditions. In
addition, business lending generally requires substantially greater
oversight efforts by Westfield Bank's staff compared to residential or
commercial real estate lending. In order to mitigate this risk, Westfield
Bank monitors its loan concentration and its loan policies generally limit
the amount of loans to a single borrower or group of borrowers. Westfield
Bank also utilizes the services of an outside consultant to conduct on-site
credit quality reviews of the commercial and industrial loan portfolio.
Consumer Loans. Consumer loans are generally originated at higher
interest rates than residential and commercial mortgage loans, but they
also generally tend to have a higher credit risk than residential mortgage
loans because they are usually unsecured or secured by rapidly depreciable
assets. Management, however, believes that offering consumer loan products
helps to expand and create stronger ties to Westfield Bank's existing
customer base by increasing the number of customer relationships and
providing cross-marketing opportunities.
Westfield Bank offers a variety of consumer loans to retail customers
in the communities its serves. Examples of its consumer loans include:
* automobile loans;
* secured passbook loans;
* credit lines tied to deposit accounts to provide overdraft
protection; and
* unsecured personal loans.
At December 31, 2003, the consumer loan portfolio totaled $22.3
million or 6.38% of total loans. Westfield Bank's consumer lending will
allow it to diversify its loan portfolio while continuing to meet the needs
of the individuals and businesses that it serves.
Indirect automobile loans currently represent the largest portion of
its consumer loan portfolio, totaling $16.0 million, or 4.57% of its total
loan portfolio and 71.7% of its consumer loan portfolio, at December 31,
2003.
12
Westfield Bank began offering indirect automobile loans through
automobile dealers approximately nine years ago. The indirect automobile
loan portfolio grew substantially in 1999 as a result of aggressive pricing
and the addition of several new dealers. Management curtailed its indirect
lending beginning in fiscal year 2000 and in fourth quarter of 2003 the
Bank ceased writing new loans under this program.
When the indirect lending program was in operation, Westfield Bank
maintained contractual relationships with approximately 40 new and used car
dealers located throughout western Massachusetts and northern Connecticut.
Westfield Bank had maintained a contractual arrangement and outsourced a
portion of the origination function and all of the servicing function to a
nationally recognized service provider. As of the fourth quarter of 2003,
the Bank no longer originates indirect loans and has elected to transfer
servicing of the indirect loans from the service provider to Westfield
Bank. The Bank expects the transfer to take place by the end of the first
quarter of 2004. The collection and liquidation functions had been, and
will continue to be, handled in-house by Westfield Bank personnel.
Loans collateralized by rapidly depreciable assets such as
automobiles or that are unsecured entail greater risks than residential
mortgage loans. In such cases, repossessed collateral for a defaulted loan
may not provide an adequate source of repayment of the outstanding loan
balance, since there is a greater likelihood of damage, loss or
depreciation of the underlying collateral. The remaining deficiency often
does not warrant further substantial collection efforts against the
borrower beyond obtaining a deficiency judgment. Further, collections on
these loans are dependent on the borrower's continuing financial stability
and, therefore, are more likely to be adversely affected by job loss,
divorce, illness or personal bankruptcy. Repossessed collateral relating to
consumer loans at December 31, 2003 approximated $27,000. Finally, the
application of various federal and state laws, including federal and state
bankruptcy and insolvency laws, may limit the amount which can be recovered
on such loans if a borrower defaults.
Loan Approval Procedures and Authority. As established by the
Executive Committee of the Board of Directors, Westfield Bank's lending
policies provide that its mortgage underwriting department may review and
approve mortgage loans up to $500,000. Westfield Bank's underwriting
department also may review and approve home equity loans up to $100,000.
Any loan applications, including mortgage loans, that exceed $500,000 or
$100,000 for home equity loans require approval of the Executive Committee.
For loans requiring board approval, management is responsible for
presenting to the board information about the creditworthiness of a
borrower and the estimated value of the subject property. Generally, the
estimated value of the property must be supported by an independent
appraisal report prepared in accordance with Westfield Bank's appraisal
policy.
13
The following generally describes Westfield Bank's current lending
procedures. Upon receipt of a completed loan application from a
prospective borrower, Westfield Bank must order a credit report and verify
other information. If necessary, Westfield Bank obtains additional
financial or credit related information. Westfield Bank requires an
appraisal for all mortgage loans. Appraisals for mortgage loans are
performed by licensed or certified third-party appraisal firms and are
reviewed by Westfield Bank's lending department. Appraisals for second
mortgages or home equity loans are not required. Rather, a designated
employee of Westfield Bank conducts an inspection of the property.
Westfield Bank requires title insurance on all mortgage loans and certain
other loans. Westfield Bank requires borrowers to obtain hazard insurance.
Westfield Bank also requires borrowers to obtain flood insurance, if
applicable, prior to closing. In addition, Westfield Bank makes available
to borrowers the option to advance funds on a monthly basis together with
each payment of principal and interest to a mortgage escrow account from
which it makes disbursements for items such as real estate taxes, flood
insurance, and private mortgage insurance premiums. Beginning on September
1, 2001, Westfield Bank began referring its residential real estate loans
to a third-party mortgage company. Residential real estate borrowers
submit applications to Westfield Bank, but the loan is closed on the books
of the mortgage company.
Asset Quality. One of Westfield Bank's key operating objectives has
been and continues to be the achievement of a high level of asset quality.
Westfield Bank maintains a large proportion of loans secured by residential
and commercial properties, set sound credit standards for new loan
originations and follow careful loan administration procedures. Westfield
Bank also utilizes the services of an outside consultant to conduct on-site
credit quality reviews of Westfield Bank's commercial and industrial loan
portfolio on an annual basis. These practices and relatively favorable
economic and real estate market conditions have resulted in historically
low delinquency ratios and, in recent years, a low level of nonaccrual
loans.
Delinquent Loans and Foreclosed Assets. Westfield Bank's policies
require that management continuously monitor the status of the loan
portfolio and report to the Board of Directors on a monthly basis. These
reports include information on delinquent loans and foreclosed real estate,
as well as Westfield Bank's actions and plans to cure the delinquent status
of the loans and to dispose of the foreclosed property.
14
The following table presents information regarding non-accrual
mortgage, consumer and other loans, and foreclosed real estate as of the
dates indicated. All loans where the interest payment is 90 days or more
in arrears as of the closing date of each month are placed on non-accrual
status. At December 31, 2003, 2002, and 2001, Westfield Bank had $1.8
million, $2.4 million, and $2.7 million, respectively, of non-accrual
loans. If all non-accrual loans had been performing in accordance with
their terms, Westfield Bank would have earned additional interest income of
$327,000, $324,000 and $263,000 for the years ended December 31, 2003,
2002, and 2001, respectively.
At December 31,
--------------------------------------------------
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
(Dollars in thousands)
<s> <c> <c> <c> <c> <c>
Non-accrual real estate loans:
Residential $ 995 $1,323 $1,866 $1,180 $ 864
Home equity 32 30 14 113 -
Commercial real estate 342 374 536 247 1,496
------ ------ ------ ------ ------
Total non-accrual real estate loans 1,369 1,727 2,416 1,540 2,360
Other loans:
Commercial and industrial 289 530 183 392 35
Consumer 110 126 85 376 356
------ ------ ------ ------ ------
Total non-accrual consumer and other loans $1,768 $2,383 $2,684 $2,308 $2,751
====== ====== ====== ====== ======
Total nonperforming loans $1,768 $2,383 $2,684 $2,308 $2,751
Foreclosed real estate, net - - 176 - -
------ ------ ------ ------ ------
Total nonperforming assets $1,768 $2,383 $2,860 $2,308 $2,751
====== ====== ====== ====== ======
Nonperforming loans to total loans 0.51% 0.66% 0.64% 0.49% 0.58%
Nonperforming assets to total assets 0.22 0.29 0.37 0.33 0.43
15
Allowance for Loan Losses. The following table presents the activity
in Westfield Bank's allowance for loan losses and other ratios at or for
the dates indicated.
At or for Years Ended December 31,
------------------------------------------------------------
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
(Dollars in thousands)
<s> <c> <c> <c> <c> <c>
Balance at beginning of period $ 4,325 $ 3,923 $ 3,434 $ 3,118 $ 2,632
Charge-offs:
Residential (3) (36) (16) (12) (19)
Commercial real estate - (29) (17) (20) -
Home equity loans (31) - - - -
Commercial and industrial (124) (241) (26) (42) (5)
Consumer (567) (622) (1,784) (985) (521)
-------- -------- -------- -------- --------
Total charge-offs (725) (928) (1,843) (1,059) (545)
-------- -------- -------- -------- --------
Recoveries:
Residential 10 17 - - 30
Commercial real estate - - - - 5
Home equity loans 3 - - - -
Commercial and industrial 73 16 14 8 18
Consumer 206 363 688 278 135
-------- -------- -------- -------- --------
Total recoveries 292 396 702 286 188
-------- -------- -------- -------- --------
Net charge-offs (433) (532) (1,141) (773) (357)
Provision for loan losses 750 934 1,630 1,089 843
-------- -------- -------- -------- --------
Balance at end of period $ 4,642 $ 4,325 $ 3,923 $ 3,434 $ 3,118
======== ======== ======== ======== ========
Total loans receivable(1) $349,441 $361,357 $417,272 $467,837 $470,331
======== ======== ======== ======== ========
Average loans outstanding $354,134 $398,555 $443,652 $464,917 $443,982
======== ======== ======== ======== ========
Allowance for loan losses as a
percent of total loans
receivable 1.33% 1.20% 0.94% 0.73% 0.66%
Net loans charged off a percent of
average loans outstanding 0.12% 0.13% 0.26% 0.17% 0.08%
<FN>
- --------------------
<F1> Does not include deferred fees.
</FN>
Westfield Bank maintains an allowance for loan losses to absorb
losses inherent in the loan portfolio based on ongoing quarterly
assessments of the estimated losses. Westfield Bank's methodology for
assessing the appropriateness of the allowance consists of a review of the
components, which include a specific valuation allowance for identified
problem loans and a formula allowance for current performing loans.
Fluctuations in the balances of impaired loans affect the specific
valuation allowance while fluctuations in volume and concentrations of
loans affects the formula reserve and the allocation of the allowance of
the loan losses among loan types.
16
The specific valuation allowance incorporates the results of
measuring impairment for specifically identified non-homogenous problem
loans in accordance with Statement of Financial Accounting Standards (SFAS)
No. 114 "Accounting By Creditors for Impairment of a Loan," and SFAS No.
118, "Accounting by Creditors for Impairment of a Loan - Income Recognition
and Disclosures." In accordance with SFAS No. 114 and No. 118 the specific
allowance reduces the carrying amount of the impaired loans to their
estimated fair value. A loan is recognized as impaired when it is probable
that principal and/or interest are not collectible in accordance with the
loan's contractual terms. A loan is not deemed to be impaired if there is
a short delay in receipt of payment or if, during a longer period of delay,
the Westfield Bank expects to collect all amounts due including interest
accrued at the contractual rate during the period of delay. Measurement of
impairment can be based on the present value of expected future cash flows
discounted at the loan's effective interest rate, the loan's observable
market price or the fair value of the collateral, if the loan is collateral
dependent. Measurement of impairment does not apply to large groups of
smaller balance homogenous loans that are collectively evaluated for
impairment such as the Westfield Bank portfolios of home equity loans, real
estate mortgages, installment and other loans.
The formula allowance is calculated by applying loss factors to
outstanding loans by type, excluding loans for which a specific allowance
has been determined. As part of this analysis, each quarter Westfield Bank
prepares an allowance for loan losses worksheet which categorizes the loan
portfolio by risk characteristics such as loan type and loan grade.
Changes in the mix of loans and the internal loan grades affect the amount
of the formula allowance. Loss factors are assigned to each category based
on Westfield Bank's assessment of each category's inherent risk. In
determining the loss factors to apply to each loan category, Westfield Bank
considers historical losses, peer group comparisons, industry data and loss
percentages used by banking regulators for similarly graded loans. Loss
factors may be adjusted for qualitative factors that, in management's
judgment, affect the collectibility of the portfolio as of the evaluation
date. Loss factors are described as follows:
* Classified loan loss factors are derived from loss percentages
utilized by banking regulators for similarly graded loans.
Loss factors of 3% to 5%, 10% to 15% and 50% to 75% are applied
to the outstanding balance of loans internally classified
special mention, substandard and doubtful, respectively.
* Pass graded loan loss factors are based on actual losses for
the previous twelve quarters adjusted for qualitative factors,
such as new loan products, credit quality trends (including
trends in nonperforming loans expected to result from existing
conditions), collateral values, loan volumes and concentrations
and specific industry conditions within portfolio segments that
exist at the balance sheet date. The loss factors are applied
to outstanding loans by loan type.
17
In addition, management employs an independent third party to perform
an annual review of all of Westfield Bank's commercial and industrial loans
and commercial real estate loans with balances in excess of $600,000. The
third party also reviews all watch list loans with aggregate balances
greater than $100,000 and all 30 day or longer past due commercial loans
with balances in excess of $100,000.
Westfield Bank's methodologies include several factors that are
intended to reduce the difference between estimated and actual losses. The
loss factors that are used to establish the allowance for pass graded loans
are designated to be self-correcting by taking into account changes in loan
classification, loan concentrations and loan volumes and by permitting
adjustments based on management's judgments of qualitative factors as of
the evaluation date. Similarly, by basing the pass graded loan loss
factors on loss experience over the prior three years, the methodology is
designed to take Westfield Bank's recent loss experience into account.
Westfield Bank's allowance methodology has been applied on a
consistent basis. Based on this methodology, Westfield Bank believes that
it has established and maintained the allowance for loan losses at adequate
levels, future adjustments to the allowance for loan losses, however, may
be necessary if economic, real estate and other conditions differ
substantially from the current operating environment resulting in estimated
and actual losses differing substantially. Adjustments to the allowance
for loan losses are charged to income through the provision for loan
losses.
A summary of the components of the allowance for loan losses is as
follows:
December 31, 2003 December 31, 2002 December 31, 2001
----------------------------- ----------------------------- -----------------------------
Specific Formula Total Specific Formula Total Specific Formula Total
-------- ------- ----- -------- ------- ----- -------- ------- -----
(In Thousands)
<s> <c> <c> <c> <c> <c> <c> <c> <c> <c>
Real estate mortgage
Residential $ - $ 517 $ 517 $ - $ 713 $ 713 $ - $ 839 $ 839
Commercial 17 1,994 2,011 17 1,618 1,635 32 1,435 1,467
Commercial and Industrial 53 1,660 1,713 53 1,408 1,461 53 946 999
Consumer - 401 401 - 516 516 - 618 618
---- ------ ------ ---- ------ ------ ---- ------ ------
Total $ 70 $4,572 $4,642 $ 70 $4,255 $4,325 $ 85 $3,838 $3,923
==== ====== ====== ==== ====== ====== ==== ====== ======
December 31, 2000 December 31, 1999
----------------------------- -----------------------------
Specific Formula Total Specific Formula Total
-------- ------- ----- -------- ------- -----
<s> <c> <c> <c> <c> <c> <c>
Real estate mortgage
Residential $ - $ 859 $ 859 $ - $ 682 $ 682
Commercial 49 1,187 1,236 136 1,057 1,193
Commercial and Industrial 28 551 579 - 397 397
Consumer - 760 760 - 846 846
---- ------ ------ ---- ------ ------
Total $ 77 $3,357 $3,434 $136 $2,982 $3,118
==== ====== ====== ==== ====== ======
18
In addition, various regulatory agencies, as an integral part of
their examination process, periodically review Westfield Bank's loan and
foreclosed real estate portfolios and the related allowance for loan losses
and valuation allowance for foreclosed real estate. These agencies,
including the Federal Deposit Insurance Corporation and the Massachusetts
Division of Banks, may require Westfield Bank to adjust the allowance for
loan losses or the valuation allowance for foreclosed real estate based on
their judgments of information available to them at the time of their
examination, thereby adversely affecting Westfield Bank's results of
operations.
For the year ended December 31, 2003, Westfield Bank provided
$750,000 to the allowance for loan losses based on its evaluation of the
items discussed above. Westfield Bank believes that the allowance for loan
losses accurately reflects the level of risk in the current loan portfolio
as of December 31, 2003.
19
Allocation of Allowance for Loan Losses. The following tables set
forth the allowance for loan losses allocated by loan category, the total
loan balances by category, and the percent of loans in each category to
total loans indicated.
At December 31,
------------------------------------------------------------------------------------------------------
2003 2002 2001
-------------------------------- -------------------------------- --------------------------------
Percent of Percent of Percent of
Loan Loans in Loan Loans in Loan Loans in
Amount Balances Each Amount Balances Each Amount Balances Each
of Loan by Category to of Loan by Category to of Loan by Category to
Loan Category Loss Category Total Loans Loss Category Total Loans Loss Category Total Loans
- ------------- ------- -------- ----------- ------- -------- ----------- ------- -------- -----------
(Dollars in thousands)
<s> <c> <c> <c> <c> <c> <c> <c> <c> <c>
Real estate - mortgage:
Residential(1) $ 517 $110,547 31.64% $ 713 $157,896 43.70% $ 839 $212,751 50.98%
Commercial 2,011 131,292 37.57 1,635 100,903 27.92 1,467 99,425 23.83
Commercial loans 1,713 85,292 24.41 1,461 61,494 17.01 999 47,012 11.27
Consumer loans(2) 401 22,310 6.38 516 41,064 11.37 618 58,084 13.92
------ -------- ------ ------ -------- ------ ------ -------- ------
Total allowance
for loan losses $4,642 $349,441 100.00% $4,325 $361,357 100.00% $3,923 $417,272 100.00%
====== ======== ====== ====== ======== ====== ====== ======== ======
At December 31,
-------------------------------------------------------------------
2000 1999
-------------------------------- --------------------------------
Percent of Percent of
Loan Loans in Loan Loans in
Amount Balances Each Amount Balances Each
of Loan by Category to of Loan by Category to
Loan Category Loss Category Total Loans Loss Category Total Loans
- ------------- ------- -------- ----------- ------- -------- -----------
(Dollars in thousands)
<s> <c> <c> <c> <c> <c> <c>
Real estate - mortgage:
Residential(1) $ 859 $264,162 56.47% $ 682 $264,883 56.32%
Commercial 1,236 92,826 19.84 1,193 89,333 18.99
Commercial loans 579 37,510 8.02 397 32,673 6.95
Consumer loans(2) 760 73,339 15.67 846 83,442 17.74
------ -------- ------ ------ -------- ------
Total allowance
for loan losses $3,434 $467,837 100.00% $3,118 $470,331 100.00%
====== ======== ====== ====== ======== ======
<FN>
- --------------------
<F1> Includes home equity loans.
<F2> Excludes passbook loans.
</FN>
20
Investment Activities The Board of Directors reviews and approves
Westfield Bank's investment policy on an annual basis. The President and
Treasurer, as authorized by the Board, implement this policy based on the
established guidelines within the written policy.
Westfield Bank's investment policy is designed primarily to manage
the interest rate sensitivity of its assets and liabilities, to generate a
favorable return without incurring undue interest rate and credit risk, to
complement its lending activities and to provide and maintain liquidity
within the range established by policy. In determining Westfield Bank's
investment strategies, it considers its interest rate sensitivity, yield,
credit risk factors, maturity and amortization schedules, and other
characteristics of the securities to be held.
Massachusetts-chartered savings banks have authority to invest in
various types of assets, including U.S. Treasury obligations, securities of
various federal agencies, mortgage-backed securities, certain certificates
of deposit of insured financial institutions, repurchase agreements,
overnight and short term loans to other banks, corporate debt instruments,
and equity securities.
Securities Portfolio Westfield Financial classifies securities as
held to maturity or available for sale at the date of purchase. Westfield
Financial does not have any securities classified as trading. Held to
maturity securities are reported at cost, adjusted for amortization of
premium and accretion of discount. Available for sale securities are
reported at fair market value. At December 31, 2003, held to maturity
securities totaled $261.6 million, or 72% of the total securities
portfolio, and available for sale investments totaled $102.0 million, or
28% of Westfield Financial's total securities portfolio. Westfield
Financial classifies U.S. Government securities and U.S. Government Agency
securities as available for sale and held to maturity. These securities
predominately have maturities of less than five years, although Westfield
Financial also invests in adjustable rate securities with maturities of up
to 15 years. Westfield Financial's mortgage-backed securities, which are
directly or indirectly insured or guaranteed by Freddie Mac, Ginnie Mae or
Fannie Mae or are rated AAA, consist of both 30-year securities and seven-
year balloon securities. The latter are so named because they mature (i.e.
balloon) prior to completing their normal 30-year amortization. The 30-
year mortgage backed securities are classified as held to maturity while
the seven-year balloon securities are classified as available for sale.
Westfield Financial also invests in municipal bonds issued by cities and
towns in Massachusetts. These securities generally have maturities between
7 and 20 years, however, many have earlier call dates. In addition,
Westfield Financial has investments in Federal Home Loan Bank stock and
other equity securities.
21
The following table sets forth the composition of Westfield Bank's
securities portfolio at the dates indicated.
At December 31,
-----------------------------------------------------------------------
2003 2002 2001
--------------------- --------------------- ---------------------
Amortized Market Amortized Market Amortized Market
Cost Value Cost Value Cost Value
--------- ------ --------- ------ --------- ------
(In thousands)
<s> <c> <c> <c> <c> <c> <c>
Securities:
Federal agency obligations $ 49,737 $ 50,296 $ 70,525 $ 71,376 $ 56,895 $ 57,380
Municipal bonds 21,687 22,041 - - - -
Corporate debt securities 8,735 9,017 26,764 27,314 47,087 48,284
-------- -------- -------- -------- -------- --------
Total securities 80,159 81,354 97,289 98,690 103,982 105,664
-------- -------- -------- -------- -------- --------
Mortgage-backed and mortgage-
related securities:
Ginnie Mae 29,437 29,446 39,682 40,323 29,233 29,277
Fannie Mae 163,435 163,557 99,231 100,944 59,749 60,825
Freddie Mac 69,362 69,275 88,918 90,302 49,960 50,296
Collateralized mortgage
obligations 5,413 5,410 20,153 20,396 27,973 28,119
-------- -------- -------- -------- -------- --------
Total mortgage-backed and
mortgage-related securities 267,647 267,688 247,984 251,965 166,915 168,517
-------- -------- -------- -------- -------- --------
Marketable equity securities 14,594 15,455 28,432 27,734 14,320 14,675
-------- -------- -------- -------- -------- --------
Total securities $362,400 $364,497 $373,705 $378,389 $285,217 $288,856
======== ======== ======== ======== ======== ========
22
Mortgage-Backed Securities and Mortgage-Related Securities. The
following table sets forth the amortized cost and fair value of Westfield
Bank's mortgage-backed and mortgage-related securities, which are
classified as available for sale or held to maturity at the dates
indicated.
At December 31,
---------------------------------------------------------------------------------------------------
2003 2002 2001
------------------------------- ------------------------------- -------------------------------
Amortized Percent of Market Amortized Percent of Market Amortized Percent of Market
Cost Total Value Cost Total Value Cost Total Value
--------- ---------- ------ --------- ---------- ------ --------- ---------- ------
(Dollars in thousands)
<s> <c> <c> <c> <c> <c> <c> <c> <c> <c>
Mortgage-backed and mortgage-
related securities available
for sale:
Ginnie Mae $ 20,854 7.79% $ 20,857 $ 25,762 10.39% $ 26,200 $ 22,018 13.19% $ 22,053
Fannie Mae 31,627 11.82 31,872 22,182 8.95 22,879 35,822 21.46 36,822
Freddie Mac 18,611 6.95 18,586 29,930 12.07 30,481 18,490 11.08 18,553
Collateralized mortgage
obligations 4,872 1.82 4,862 10,771 4.34 10,908 9,578 5.74 9,722
-------- ------ -------- -------- ------ -------- -------- ------ --------
Total mortgage-backed and
mortgage related securities
available for sale 75,964 28.38 76,177 88,645 35.75 90,468 85,908 51.47 87,150
-------- ------ -------- -------- ------ -------- -------- ------ --------
Mortgage-backed and mortgage
related securities held
to maturity:
Ginnie Mae 8,583 3.21 8,589 13,920 5.61 14,123 7,215 4.32 7,224
Fannie Mae 131,808 49.25 131,685 77,049 31.07 78,065 23,927 14.34 24,003
Freddie Mac 50,751 18.96 50,689 58,988 23.79 59,821 31,470 18.85 31,743
Collateralized mortgage
obligations 541 0.20 548 9,382 3.78 9,488 18,395 11.02 18,397
-------- ------ -------- -------- ------ -------- -------- ------ --------
Total mortgage-backed and
mortgage related securities
held to maturity 191,683 71.62 191,511 159,339 64.25 161,497 81,007 48.53 81,367
-------- ------ -------- -------- ------ -------- -------- ------ --------
Total mortgage-backed and
mortgage related securities $267,647 100.00% $267,688 $247,984 100.00% $251,965 $166,915 100.00% $168,517
======== ====== ======== ======== ====== ======== ======== ====== ========
23
Securities Portfolio Maturities. The composition and maturities of the
securities portfolio (debt securities) and the mortgage-backed securities
portfolio at December 31, 2003 are summarized in the following table.
Maturities are based on the final contractual payment dates, and do not
reflect the impact of prepayments or redemptions that may occur.
More than One Year More than Five Years
One Year or Less Through Five Years Through Ten Years More than Ten Years Total Securities
------------------- ------------------- -------------------- ------------------- ---------------------------
Weighted Weighted Weighted Weighted Weighted
Amortized Average Amortized Average Amortized Average Amortized Average Amortized Market Average
Cost Yield Cost Yield Cost Yield Cost Yield Cost Value Yield
--------- -------- --------- -------- --------- -------- --------- -------- --------- ------ --------
(Dollars in thousands)
<s> <c> <c> <c> <c> <c> <c> <c> <c> <c> <c> <c>
Securities available
for sale:
Federal agency
securities $ -- --% $ 3,002 2.84% $ -- --% $ 3,485 1.82% $ 6,487 $ 6,557 2.29%
Corporate debt
securities 1,996 6.96 -- -- -- -- 1,749 1.67 3,745 3,794 4.49
------ ------- ------- -------- -------- --------
Total securities 1,996 6.96 3,002 2.84 -- -- 5,234 1.77 10,232 10,351 3.10
------ ------- ------- -------- -------- --------
Mortgage-backed
securities available
for sale:
Ginnie Mae -- -- -- -- -- -- 20,854 3.62 20,854 20,857 3.62
Fannie Mae -- -- -- -- 4,715 3.91 26,912 4.07 31,627 31,872 4.05
Freddie Mac -- -- 321 4.55 -- -- 18,290 4.00 18,611 18,586 4.01
Collateralized
mortgage
obligations -- -- -- -- -- -- 4,872 5.90 4,872 4,862 5.91
------ ------- ------- -------- -------- --------
Total mortgage-back
securities -- -- 321 4.55 4,715 3.91 70,928 4.09 75,964 76,177 4.04
------ ------- ------- -------- -------- --------
Total $1,996 6.96 $ 3,323 3.01 $ 4,715 3.91 $ 76,162 3.93 $ 86,196 $ 86,528 3.93
====== ======= ======= ======== ======== ========
Securities held to
maturity:
Federal agency
securities -- -- 28,258 3.17 4,992 5.52 10,000 5.94 43,250 43,739 4.08
Municipal bonds -- -- -- -- 5,264 3.64 16,423 4.39 21,687 22,041 4.21
Corporate debt
securities 1,006 5.33 3,984 7.22 -- -- -- -- 4,990 5,223 6.85
------ ------- ------- -------- -------- --------
Total investment
securities 1,006 5.33 32,242 3.67 10,256 4.56 26,423 4.98 69,927 71,003 4.32
------ ------- ------- -------- -------- --------
Mortgage-backed
securities held
to maturity:
Ginnie Mae -- -- 22 8.00 1,718 5.39 6,843 3.56 8,583 8,589 3.95
Fannie Mae -- -- 768 5.40 26,046 3.89 104,994 4.44 131,808 131,685 4.33
Freddie Mac -- -- 1,148 4.98 8,084 3.74 41,519 4.18 50,751 50,689 4.13
Collateralized
mortgage
obligations -- -- -- -- -- -- 541 6.09 541 548 6.09
------ ------- ------- -------- -------- --------
Total mortgage-
backed securities -- -- 1,938 5.18 35,848 3.93 153,897 4.34 191,683 191,511 4.27
------ ------- ------- -------- -------- --------
Total $1,006 5.33% $34,180 3.76% $46,104 4.07% $180,320 5.89% $261,610 $262,514 4.28%
====== ======= ======= ======== ======== ========
24
Sources of Funds
General. Deposits, scheduled amortization and prepayments of loan
principal, maturities and calls of investments securities and funds
provided by operations are Westfield Bank's primary sources of funds for
use in lending, investing and for other general purposes. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Liquidity and Capital Resources."
Deposits. Westfield Bank offers a variety of deposit accounts having
a range of interest rates and terms. Westfield Bank currently offers
regular savings deposits (consisting of passbook and statement savings
accounts), interest-bearing demand accounts, noninterest-bearing demand
accounts, money market accounts and time deposits. Westfield Bank has
expanded the types of deposit products that it offers to include jumbo
certificates of deposit, tiered money market accounts and customer
repurchase agreements to compliment its increased emphasis on attracting
commercial banking relationships.
Deposit flows are influenced significantly by general and local
economic conditions, changes in prevailing interest rates, pricing of
deposits and competition. Westfield Bank's deposits are primarily obtained
from areas surrounding our offices. Westfield Bank relies primarily on
paying competitive rates, service and long-standing relationships with
customers to attract and retain these deposits. Westfield Bank does not
use brokers to obtain deposits.
When Westfield Bank determines its deposit rates, it considers local
competition, U.S. Treasury securities offerings and the rates charged on
other sources of funds. Core deposits (defined as regular accounts, money
market accounts, NOW accounts and demand accounts) represented 47.2% of
total deposits on December 31, 2003 and 42.8% on December 31, 2002. The
strategic plan calls for a greater reliance on core deposits and a
decreased reliance on time deposits. At December 31, 2003 and December 31,
2002, time deposits with remaining terms to maturity of less than one year
amounted to $234.7 million and $265.8 million, respectively. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Net Interest and Dividend Income" for information relating to
the average balances and costs of Westfield Bank's deposit accounts for the
years ended December 31, 2003, 2002 and 2001.
25
Deposit Distribution Weighted Average. The following table sets
forth the distribution of Westfield Bank's deposit accounts, by account
type, at the dates indicated.
At December 31,
------------------------------------------------------------------------------------------------
2003 2002 2001
------------------------------ ------------------------------ ------------------------------
Weighted Weighted Weighted
Average Average Average
Amount Percent Rates Amount Percent Rates Amount Percent Rates
------ ------- -------- ------ ------- -------- ------ ------- --------
(Dollars in thousands)
<s> <c> <c> <c> <c> <c> <c> <c> <c> <c>
Demand deposits (1) $ 54,620 8.64% 0.00% $ 54,736 8.34% 0.00% $ 48,247 7.57% 0.00%
NOW deposits 42,465 6.71 0.54 41,907 6.39 1.07 38,758 6.08 1.69
Regular accounts 46,331 7.33 0.50 44,876 6.84 1.05 42,673 6.70 1.05
Money market accounts 154,825 24.48 0.98 139,543 21.27 1.49 127,085 19.95 2.02
-------- ------ -------- ------ -------- ------
Total non-certificated
accounts 298,241 47.16 0.81 281,062 42.84 1.32 256,763 40.30 1.43
-------- ------ -------- ------ -------- ------
Time certificates of deposit
Due within 1 year 234,694 37.11 2.35 265,760 40.51 3.33 282,245 44.30 4.44
Over 1 year through 3 years 90,934 14.38 3.13 98,418 15.00 3.91 95,357 14.97 4.93
Over 3 years 8,562 1.35 3.24 10,825 1.65 4.28 2,744 0.43 4.36
-------- ------ -------- ------ -------- ------
Total certificated accounts 334,190 52.84 2.58 375,003 57.16 3.51 380,346 59.70 4.56
-------- ------ -------- ------ -------- ------
Total $632,431 100.00% 1.75% $656,065 100.00% 2.57% $637,109 100.00% 3.30%
======== ====== ======== ====== ======== ======
<FN>
- --------------------
<F1> Includes mortgagor's escrow payments.
</FN>
C.D. Maturities. At December 31, 2003, Westfield Bank had $69.8
million in time certificates of deposits with balances of $100,000 and over
maturing as follows:
Weighted
Average
Maturity Period Amount Rate
- ------------------------------------- ---------------------- --------
(Dollars in thousands)
<s> <c> <c>
Three months or less $19,315 2.10%
Over three months through six months 9,907 2.29
Over six months through twelve months 17,283 2.38
Over twelve months 23,323 3.37
-------
Total $69,828 2.62%
=======
C.D. Balances by Rates. The following table sets forth, by interest
rate ranges, information concerning Westfield Bank's time certificates of
deposit at the dates indicated.
At December 31, 2003
-------------------------------------------------------------------------------
Period to Maturity
-------------------------------------------------------------------------------
Less than One to Two Two to More than Percent of
One Year Years Three Years Three Years Total Total
--------- ---------- ----------- ----------- ----- ----------
(Dollars in thousands)
<s> <c> <c> <c> <c> <c> <c>
2.00% and under $136,271 $10,127 $ - $ - $146,398 44%
2.01% to 3.00% 35,910 18,921 12,546 2,037 69,414 21
3.01% to 4.00% 29,882 14,102 11,972 6,525 62,481 19
4.01% to 5.00% 21,483 14,905 8,361 - 44,749 13
5.01% and over 11,148 - - - 11,148 3
======== ======= ======= ====== ======== ===
Total $234,694 $58,055 $32,879 $8,562 $334,190 100%
======== ======= ======= ====== ======== ===
26
Borrowings. In addition to deposits, borrowings from the Federal
Home Loan Bank of Boston are available as an additional source of funds to
finance Westfield Bank's lending and investing activities. Westfield Bank
traditionally has not relied upon borrowings from the Federal Home Loan
Bank. However, Westfield Bank borrowed $5.0 million in 2003 and $15.0
million in 2002 from the Federal Home Loan Bank to take advantage of the
low interest rate environment.
Westfield Bank offers retail repurchase agreements to commercial
customers and higher balance retail customers. These agreements are direct
obligations of Westfield Bank to repay at maturity or on demand the
purchase price of an undivided interest in a U.S. Government or agency
security owned by Westfield Bank. Since these agreements are not deposits,
they are not insured by the Federal Deposit Insurance Corporation. At
December 31, 2003, such repurchase agreement borrowings totaled $12.1
million.
Personnel
As of December 31, 2003, Westfield Bank had 134 full-time employees
and 18 part-time employees. The employees are not represented by a
collective bargaining unit, and we consider our relationship with our
employees to be excellent.
FEDERAL AND STATE TAXATION
Federal
General. For federal income tax purposes, we report income on the
basis of a taxable year ending December 31, using the accrual method of
accounting, and we are generally subject to federal income taxation in the
same manner as other corporations. Westfield Bank and Westfield Financial
constitute an affiliated group of corporations and, therefore, are eligible
to report their income on a consolidated basis. Because Westfield Mutual
Holding Company owns less than 80% of the common stock of Westfield
Financial, it is not a member of such affiliated group and therefore, must
report its income on a separate return. Westfield Bank and Westfield Mutual
Holding Company are not currently under audit by the IRS.
Distributions. To the extent that Westfield Bank makes "non-dividend
distributions" to Westfield Financial, such distributions will be
considered to result in distributions from unrecaptured tax bad debt
reserve as of December 31, 1987 (our "base year reserve"), to the extent
thereof and then from supplemental reserve for losses on loans, and an
amount based on the amount distributed will be included in income. Non-
dividend distributions include distributions in excess of current and
accumulated earnings and profits, distributions in redemption of stock and
distributions in partial or complete liquidation. Dividends paid out of
current or accumulated earnings and profits will not be included in income.
27
The amount of additional income created from a non-dividend
distribution is equal to the lesser of the base year reserve and
supplemental reserve for losses on loans or an amount that, when reduced by
the tax attributable to the income, is equal to the amount of the
distribution. Thus, in some situations, approximately one and one-half
times the non-dividend distribution would be includible in gross income for
federal income tax purposes, assuming a 34% federal corporate income tax
rate. Westfield Bank does not intend to pay dividends that would result in
the recapture of any portion of the bad debt reserves.
Corporate Alternative Minimum Tax. The Internal Revenue Code of
1986, as amended (the "Code"), imposes a tax on alternative minimum taxable
income at a rate of 20%. Only 90% of alternative minimum taxable income
can be offset by net operating loss carryovers of which we currently have
none. Alternative minimum taxable income is also adjusted by determining
the tax treatment of certain items in a manner that negates the deferral of
income resulting from the regular tax treatment of those items. We have
not been subject to a tax on alternative minimum taxable income during the
past five years.
Elimination of Dividends; Dividends Received Deduction. Westfield
Financial may exclude from its income 100% of dividends received from
Westfield Bank as a member of the same affiliated group of corporations.
Because Westfield Mutual Holding Company is not a member of such affiliated
group, it does not qualify for such 100% dividends exclusion, but is
entitled to deduct 80% of the dividends it receives from Westfield
Financial so long as it owns more than 20% of the common stock.
State
Westfield Bank files Massachusetts Financial Institution excise tax
returns. Generally, the income of financial institutions in Massachusetts,
which is calculated based on federal taxable income, subject to certain
adjustments, is subject to Massachusetts tax. Westfield Bank is not
currently under audit with respect to its Massachusetts income tax returns
and its state tax returns have not been audited for the past five years.
Westfield Financial is also required to file a Massachusetts income
tax return and is generally subject to a state income tax rate that is the
same tax rate as the tax rate for financial institutions in Massachusetts.
However, Westfield Securities Corp. and Elm Street Securities Corp. are
taxed at a rate that is currently lower than income tax rates for savings
institutions in Massachusetts.
Massachusetts legislation was signed on March 5, 2003 amending the
corporate tax law affecting the treatment of dividends received from Real
Estate Investment Trusts (REITs). Dividends from the REIT subsidiary are
no longer eligible for a dividends-received deduction. As a result of the
enactment of this legislation, Westfield Financial has ceased recording the
tax benefits associated with the dividend received deduction effective for
the 2003 tax year.
In addition to the effect on 2003, the legislation is retroactive to
1999. Westfield Financial's 2003 results include a charge of $1.45 million
representing the additional state tax liability, including interest,
relating to the deduction for dividends received from the REIT for 2002 and
prior years.
28
REGULATION
General
Westfield Bank is a Massachusetts-chartered savings bank, and its
deposit accounts are insured up to applicable limits by Westfield Bank
Insurance Fund of the FDIC and by the Depositors Insurance Fund. Westfield
Bank is subject to extensive regulation, examination and supervision by the
Commonwealth of Massachusetts Division of Banks as its primary corporate
regulator, and by the FDIC as the deposit insurer.
Westfield Financial as Westfield Bank holding company controlling
Westfield Bank, is subject to Westfield Bank Holding Company Act of 1956,
as amended, and the rules and regulations of the Federal Reserve Board
under Westfield Bank Holding Company Act. Westfield Financial are also
subject to the provisions of the Massachusetts General Laws applicable to
savings banks and other depository institutions and their holding companies
(the Massachusetts banking laws) and the regulations of the Massachusetts
Division of Banks under the Massachusetts banking laws applicable to bank
holding companies. Westfield Financial is also subject to the rules and
regulations of the Securities and Exchange Commission.
Any change in such laws and regulations, whether by the Division, the
FDIC, the Federal Reserve Board, or the Securities and Exchange Commission
or through legislation, could have a material adverse impact on Westfield
Financial and Westfield Bank and their operations and stockholders.
Massachusetts Banking Regulation
Community Reinvestment Act. Westfield Bank is subject to provisions
of the Massachusetts Community Reinvestment Act, which are similar to those
imposed by the federal Community Reinvestment Act with the exception of the
assigned exam ratings. Massachusetts banking law provides for an
additional exam rating of "high satisfactory" in addition to the federal
Community Reinvestment Act ratings of "outstanding," "satisfactory," "needs
to improve" and "substantial noncompliance." The Division is required to
consider a bank's Massachusetts Community Reinvestment Act rating when
reviewing Westfield Bank's application to engage in certain transactions,
including mergers, asset purchases and the establishment of branch offices
or automated teller machines, and provides that such assessment may serve
as a basis for the denial of any such application. The Massachusetts
Community Reinvestment Act requires the Division to assess a bank's
compliance with the Massachusetts Community Reinvestment Act and to make
such assessment available to the public. Westfield Bank's latest
Massachusetts Community Reinvestment Act rating, received by letter, dated
October 30 2001, from the Division was a rating of "satisfactory."
Loans-to-One-Borrower Limitations. With specified exceptions, the
total obligations of a single borrower to a Massachusetts chartered savings
bank may not exceed 20% stockholder's equity. A savings bank may lend
additional amounts up to 100% of Westfield Bank's retained earnings account
if secured by collateral meeting the requirements of the Massachusetts
banking laws. Westfield Bank currently complies with applicable loans-to-
one-borrower limitations.
29
Dividends. Under the Massachusetts banking laws, a stock savings
bank may, subject to several limitations, declare and pay a dividend on its
capital stock out of Westfield Bank's net profits. A dividend may not be
declared, credited or paid by a stock savings bank so long as there is any
impairment of capital stock. No dividend may be declared on Westfield
Bank's common stock for any period other than for which dividends are
declared upon preferred stock, except as authorized by the Commissioner.
The approval of the Commissioner is also required for a stock savings bank
to declare a dividend, if the total of all dividends declared by the
savings bank in any calendar year shall exceed the total of its net profits
for that year combined with its retained net profits of the preceding two
years, less any required transfer to surplus or a fund for the retirement
of any preferred stock.
In addition, federal law may also limit the amount of dividends that
may be paid by Westfield Bank. See "- Federal Banking Regulation - Prompt
Corrective Action."
Examination and Enforcement. The Division is required to
periodically examine savings banks at least once every calendar year or at
least once each 18-month period if the savings bank qualifies as well
capitalized under the prompt corrective action provisions of the Federal
Deposit Insurance Act. See "- Federal Banking Regulation - Prompt
Corrective Action."
Federal Banking Regulation
Capital Requirements. FDIC regulations require BIF-insured banks,
such as Westfield Bank to maintain minimum levels of capital. The FDIC
regulations define two classes of capital known as Tier 1 and Tier 2
capital.
The FDIC regulations establish a minimum leverage capital requirement
for banks in the strongest financial and managerial condition, with a
rating of 1 (the highest examination rating of the FDIC for banks) under
the Uniform Financial Institutions Rating System, of not less than a ratio
of 3.0% of Tier 1 capital to total assets. For all other banks, the
minimum leverage capital requirement is 4.0%, unless a higher leverage
capital ratio is warranted by the particular circumstances or risk profile
of the depository institution.
The FDIC regulations also require that savings banks meet a risk-
based capital standard. The risk-based capital standard requires the
maintenance of a ratio of total capital (which is defined as the sum of
Tier 1 capital and Tier 2 capital) to risk-weighted assets of at least 8%
and a ratio of Tier 1 capital to risk-weighted assets of at least 4%. In
determining the amount of risk-weighted assets, all assets, plus certain
off balance sheet items, are multiplied by a risk-weight of 0% to 100%,
based on the risks the FDIC believes are inherent in the type of asset or
item.
The federal banking agencies, including the FDIC, have also adopted
regulations to require an assessment of an institution's exposure to
declines in the economic value of a bank's capital due to changes in
interest rates when assessing Westfield Bank's capital adequacy. Under
such a risk assessment, examiners will evaluate a bank's capital for
interest rate risk on a case-by-case basis, with consideration of both
quantitative and qualitative factors.
30
Institutions with significant interest rate risk may be required to
hold additional capital. The agencies also issued a joint policy statement
providing guidance on interest rate risk management, including a discussion
of the critical factors affecting the agencies' evaluation of interest rate
risk in connection with capital adequacy. Westfield Bank was considered
"well-capitalized" under FDIC guidelines at December 31, 2002.
Activity Restrictions on State-Chartered Banks. Section 24 of the
Federal Deposit Insurance Act, as amended (FDIA), which was added by the
Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA),
generally limits the activities and investments of state-chartered FDIC
insured banks and their subsidiaries to those permissible for federally
chartered national banks and their subsidiaries, unless such activities and
investments are specifically exempted by Section 24 or consented to by the
FDIC.
Section 24 provides an exception for investments by a bank in common
and preferred stocks listed on a national securities exchange or the shares
of registered investment companies if
(1) Westfield Bank held such types of investments during the
14-month period from September 30, 1990 through November 26,
1991;
(2) the state in which Westfield Bank is chartered permitted such
investments as of September 30, 1991; and
(3) Westfield Bank notifies the FDIC and obtains approval from the
FDIC to make or retain such investments. Upon receiving such
FDIC approval, an institution's investment in such equity
securities will be subject to an aggregate limit up to the
amount of its Tier 1 capital.
Westfield Bank received approval from the FDIC to retain and acquire such
equity investments subject to a maximum permissible investment equal to the
lesser of 100% of Westfield Bank' Tier 1 capital or the maximum permissible
amount specified by Westfield Banking Act. Section 24 also provides an
exception for majority owned subsidiaries of a bank, but Section 24 limits
the activities of such subsidiaries to those permissible for a national
bank, permissible under Section 24 of the FDIA and the FDIC regulations
issued pursuant thereto, or as approved by the FDIC.
Before making a new investment or engaging in a new activity not
permissible for a national bank or otherwise permissible under Section 24
of the FDIC regulations thereunder, an insured bank must seek approval from
the FDIC to make such investment or engage in such activity. The FDIC will
not approve the activity unless Westfield Bank meets its minimum capital
requirements and the FDIC determines that the activity does not present a
significant risk to the FDIC insurance funds.
31
Enforcement. The FDIC has extensive enforcement authority over
insured savings banks, including Westfield Bank. This enforcement
authority includes, among other things, the ability to assess civil money
penalties, to issue cease and desist orders and to remove directors and
officers. In general, these enforcement actions may be initiated in
response to violations of laws and regulations and to unsafe or unsound
practices.
The FDIC is required, with certain exceptions, to appoint a receiver
or conservator for an insured state bank if that bank is "critically
undercapitalized." For this purpose, "critically undercapitalized" means
having a ratio of tangible capital to total assets of less than 2%. The
FDIC may also appoint a conservator or receiver for a state bank on the
basis of the institution's financial condition or upon the occurrence of
certain events.
Deposit Insurance. Pursuant to FDICIA, the FDIC established a system
for setting deposit insurance premiums based upon the risks a particular
institution poses to its deposit insurance fund. Under the risk-based
deposit insurance assessment system, the FDIC assigns an institution to one
of three capital categories based on the institution's financial
information, as of the most recent quarterly report filed with the
applicable bank regulatory agency prior to the assessment period. The
three capital categories are (1) well capitalized, (2) adequately
capitalized and (3) undercapitalized using capital ratios that are
substantially similar to the prompt corrective action capital ratios
discussed below. See "- Federal Banking Regulation - Prompt Corrective
Action" below. The FDIC also assigns an institution to supervisory
subgroup based on a supervisory evaluation provided to the FDIC by the
institution's primary federal regulator and information that the FDIC
determines to be relevant to the institution's financial condition and the
risk posed to the deposit insurance funds (which may include, if
applicable, information provided by the institution's state supervisor).
An institution's assessment rate depends on the capital category and
supervisory category to which it is assigned. Any increase in insurance
assessments could have an adverse effect on the earnings of insured
institutions, including Westfield Bank.
Under the Deposit Insurance Funds Act of 1996, the assessment base
for the payments on the bonds issued in the late 1980's by the Financing
Corporation to recapitalize the now defunct Federal Savings and Loan
Insurance Corporation was expanded to include, beginning January 1, 1997,
the deposits of BIF-insured institutions, such as Westfield Bank. The rate
of assessment for BIF-assessable deposits will be one-fifth of the rate
imposed on deposits insured by the Savings Association Insurance Fund
(SAIF).
Under the FDIA, the FDIC may terminate the insurance of an
institution's deposits upon a finding that the institution has engaged in
unsafe or unsound practices, is in an unsafe or unsound condition to
continue operations or has violated any applicable law, regulation, rule,
order or condition imposed by the FDIC. The management of Westfield Bank
does not know of any practice, condition or violation that might lead to
termination of deposit insurance.
Transactions with Affiliates of Westfield Bank. Transactions
between an insured bank, such as Westfield Bank, and any of its affiliates
is governed by Sections 23A and 23B of the Federal Reserve Act. An
affiliate of a bank is any company or entity that controls, is controlled
by or is under common control with Westfield Bank. Currently, a subsidiary
of a bank that is not
32
also a depository institution is not treated as an affiliate of Westfield
Bank for purposes of Sections 23A and 23B, but the Federal Reserve Board
has proposed a comprehensive regulation implementing Sections 23A and 23B,
which would establish certain exceptions to this policy.
Section 23A:
* limits the extent to which Westfield Bank or its subsidiaries
may engage in "covered transactions" with any one affiliate to
an amount equal to 10% of such bank's capital stock and
retained earnings, and limit on all such transactions with all
affiliates to an amount equal to 20% of such capital stock and
retained earnings; and
* requires that all such transactions be on terms that are
consistent with safe and sound banking practices.
The term "covered transaction" includes the making of loans, purchase of
assets, issuance of guarantees and other similar types of transactions.
Further, most loans by a bank to any of its affiliates must be secured by
collateral in amounts ranging from 100 to 130 percent of the loan amounts.
In addition, any covered transaction by a bank with an affiliate and any
purchase of assets or services by a bank from an affiliate must be on terms
that are substantially the same, or at least as favorable to Westfield
Bank, as those that would be provided to a non-affiliate.
Effective April 1, 2003, the Federal Reserve Board, or FRB, rescinded
its interpretations of Sections 23A and 23B of the FRA and replaced these
interpretations with Regulation W. In addition, Regulation W makes various
changes to existing law regarding Sections 23A and 23B, including expanding
the definition of what constitutes an affiliate subject to Sections 23A and
23B and exempting certain subsidiaries of state-chartered banks from the
restrictions of Sections 23A and 23B.
Under Regulation W, all transactions entered into on or before
December 12, 2002, which either became subject to Sections 23A and 23B
solely because of Regulation W, and all transactions covered by Sections
23A and 23B, the treatment of which will change solely because of
Regulation W, became subject to Regulation W on July 1, 2003. All other
covered affiliate transactions become subject to Regulation W on April 1,
2003. The Federal Reserve Board expects each depository institution that
is subject to Sections 23A and 23B to implement policies and procedures to
ensure compliance with Regulation W. We do not expect that the changes
made by Regulation W will have a material adverse effect on our business.
Westfield Bank's authority to extend credit to its directors,
executive officers and 10% shareholders, as well as to entities controlled
by such persons, is currently governed by the requirements of Sections
22(g) and 22(h) of the FRA and Regulation O of the Federal Reserve Board.
Among other things, these provisions require that extensions of credit to
insiders (a) be made on terms that are substantially the same as, and
follow credit underwriting procedures that are not less stringent than,
those prevailing for comparable transactions with unaffiliated persons and
that do not involve more that the normal risk of repayment or present other
unfavorable features and (b) not exceed certain limitations on the amount
of credit extended to such persons, individually and in the aggregate,
which limits are based, in part, on the amount of Westfield
33
Bank's capital. The regulations allow small discounts on fees on
residential mortgages for directors, officers and employees. In addition,
extensions for credit in excess of certain limits must be approved by
Westfield Bank's Board of Directors.
Section 402 of the Sarbanes-Oxley Act of 2002 prohibits the extension
of personal loans to directors and executive officers of issuers (as
defined in Sarbanes-Oxley). The prohibition, however, does not apply to
mortgages advanced by an insured depository institution, such as Westfield
Bank, that are subject to the insider lending restrictions of Section 22(h)
of the Federal Reserve Act.
Community Reinvestment Act. Under the Community Reinvestment Act
(CRA), any insured depository institution, including Westfield Bank has a
continuing and affirmative obligation consistent with its safe and sound
operation to help meet the credit needs of its entire community, including
low and moderate income neighborhoods. The CRA does not establish specific
lending requirements or programs for financial institutions nor does it
limit an institution's discretion to develop the types of products and
services that it believes are best suited to its particular community. The
CRA requires the FDIC, in connection with its examination of a savings
bank, to assess the depository institution's record of meeting the credit
needs of its community and to take such record into account in its
evaluation of certain applications by such institution, including
applications for additional branches and acquisitions.
The CRA requires the FDIC to provide a written evaluation of an
institution's CRA performance utilizing a four-tiered descriptive rating
system and requires public disclosure of an institution's CRA rating.
Westfield Bank received a "satisfactory" rating on its last CRA exam in
December 1999.
Safety and Soundness Standards. Pursuant to the requirements of
FDICIA, as amended by the Riegle Community Development and Regulatory
Improvement Act of 1994, each federal banking agency, including the FDIC,
has adopted guidelines establishing general standards relating to internal
controls, information and internal audit systems, loan documentation,
credit underwriting, interest rate exposure, asset growth, asset quality,
earnings, and compensation, fees and benefits. In general, the guidelines
require, among other things, appropriate systems and practices to identify
and manage the risks and exposures specified in the guidelines. The
guidelines prohibit excessive compensation as an unsafe and unsound
practice and describe compensation as excessive when the amounts paid are
unreasonable or disproportionate to the services performed by an executive
officer, employee, director, or principal stockholder.
In addition, the FDIC adopted regulations to require a bank that is
given notice by the FDIC that it is not satisfying any of such safety and
soundness standards to submit a compliance plan to the FDIC. If, after
being so notified, a bank fails to submit an acceptable compliance plan or
fails in any material respect to implement an accepted compliance plan, the
FDIC may issue an order directing corrective and other actions of the types
to which a significantly undercapitalized institution is subject under the
"prompt corrective action" provisions of FDICIA. If a bank fails to comply
with such an order, the FDIC may seek to enforce such an order in judicial
proceedings and to impose civil monetary penalties.
34
Prompt Corrective Action. FDICIA also established a system of prompt
corrective action to resolve the problems of undercapitalized institutions.
The FDIC, as well as the other federal banking regulators, adopted
regulations governing the supervisory actions that may be taken against
undercapitalized institutions. The regulations establish five categories,
consisting of "well capitalized," "adequately capitalized,"
"undercapitalized," "significantly undercapitalized" and "critically
undercapitalized." The severity of the action authorized or required to be
taken under the prompt corrective action regulations increases as a bank's
capital decreases within the three undercapitalized categories. All banks
are prohibited from paying dividends or other capital distributions or
paying management fees to any controlling person if, following such
distribution, Westfield Bank would be undercapitalized.
Federal Home Loan Bank System
Westfield Bank is a member of the FHLB of Boston, which is one of the
regional FHLBs composing the FHLB System. Each FHLB provides a central
credit facility primarily for its member institutions. Westfield Bank, as
a member of the FHLB of Boston, must maintain a minimum investment in FHLB
of Boston capital stock in an amount equal to the sum of (i) .35% of member
eligible collateral (subject to a minimum of $10,000 and a maximum of
$25,000,000, per member), and (ii) 4.50% of the member's activity-based
assets. Westfield Bank was in compliance with this requirement with an
investment in FHLB of Boston stock at December 31, 2003 of $4.2 million.
Any advances from a FHLB must be secured by specified types of collateral,
and all long-term advances may be obtained only for the purpose of
providing funds for residential housing finance.
The FHLBs are required to provide funds for the resolution of
insolvent thrifts and to contribute funds for affordable housing programs.
These requirements could reduce the amount of earnings that the FHLBs can
pay as dividends to their members and could also result in the FHLBs
imposing a higher rate of interest on advances to their members. If
dividends were reduced, or interest on future FHLB advances increased,
Westfield Bank's net interest income would be affected.
Under the Gramm-Leach Bliley Financial Services Modernization Act,
membership in the FHLB is now voluntary for all state savings banks, such
as Westfield Bank. The Gramm-Leach Bliley Act also replaces the existing
redeemable stock structure of the FHLB System with a capital structure that
requires each FHLB to meet a leverage limit and a risk-based permanent
capital requirement. Two classes of stock are authorized: Class A
(redeemable on 6-months notice) and Class B (redeemable on 5-years notice).
Federal Reserve System
Under Federal Reserve Board regulations, Westfield Bank is required
to maintain noninterest-earning reserves against its transaction accounts.
The Federal Reserve Board regulations generally require that reserves of 3%
must be maintained against aggregate transaction accounts of $38.8 million
or less, subject to adjustment by the Federal Reserve Board. Total
transaction accounts in excess of $38.8 million are required to have a
reserve of 10% held against them, which are also subject to adjustment by
the Federal Reserve Board. The
35
first $6.6 million of otherwise reservable balances, subject to adjustments
by the Federal Reserve Board, are exempted from the reserve requirements.
Westfield Bank is in compliance with these requirements. Because required
reserves must be maintained in the form of either vault cash, a
noninterest-bearing account at a Federal Reserve Bank or a pass-through
account as defined by the Federal Reserve Board, the effect of this reserve
requirement is to reduce Westfield Bank's interest-earning assets.
Holding Company Regulation
Federal Regulation. As a bank holding company, Westfield Financial
is required to obtain the prior approval of the Federal Reserve Board to
acquire all, or substantially all, of the assets of any bank or bank
holding company. Prior Federal Reserve Board approval will be required for
Westfield Financial to acquire direct or indirect ownership or control of
any voting securities of any bank or bank holding company if, after giving
effect to such acquisition, it would, directly or indirectly, own or
control more than 5% of any class of voting shares of such bank or bank
holding company.
A bank holding company is required to give the Federal Reserve Board
prior written notice of any purchase or redemption of its outstanding
equity securities if the gross consideration for the purchase or
redemption, when combined with the net consideration paid for all such
purchases or redemptions during the preceding 12 months, will be equal to
10% or more of Westfield Financial's consolidated net worth. The Federal
Reserve Board may disapprove such a purchase or redemption if it determines
that the proposal would constitute an unsafe and unsound practice, or would
violate any law, regulation, Federal Reserve Board order or directive, or
any condition imposed by, or written agreement with, the Federal Reserve
Board. Such notice and approval is not required for a bank holding company
that would be treated as "well capitalized" under applicable regulations of
the Federal Reserve Board, that has received a composite "1" or "2" rating
at its most recent bank holding company inspection by the Federal Reserve
Board, and that is not the subject of any unresolved supervisory issues.
In addition, a bank holding company which does not qualify as a
financial holding company under the Gramm-Leach-Bliley Financial Services
Modernization Act, is generally prohibited from engaging in, or acquiring
direct or indirect control of any company engaged in non-banking
activities. One of the principal exceptions to this prohibition is for
activities found by the Federal Reserve Board to be so closely related to
banking or managing or controlling banks as to be permissible.
Bank holding companies that do qualify as a financial holding company
may engage in activities that are financial in nature or incident to
activities which are financial in nature. Bank holding companies may
qualify to become a financial holding company if it meets certain criteria
set forth by the Federal Reserve Board.
36
Under the Federal Deposit Insurance Act, depository institutions are
liable to the FDIC for losses suffered or anticipated by the FDIC in
connection with the default of a commonly controlled depository institution
or any assistance provided by the FDIC to such an institution in danger of
default. This law would potentially be applicable to Westfield Mutual
Holding Company or Westfield Financial if it ever acquired as a separate
subsidiary a depository institution in addition to Westfield Bank.
Massachusetts Regulation
Under the Massachusetts banking laws, a company owning or controlling
two or more banking institutions, including a savings bank, is regulated as
a bank holding company. The term "company" is defined by the Massachusetts
banking laws similarly to the definition of "company" under Westfield Bank
Holding Company Act. Each Massachusetts bank holding company:
* must obtain the approval of the Massachusetts Board of Bank
Incorporation before engaging in certain transactions, such as
the acquisition of more than 5% of the voting stock of another
banking institution;
* must register, and file reports, with the Division; and
* is subject to examination by the Division.
Westfield Mutual Holding Company or Westfield Financial will become a
Massachusetts bank holding company if they acquire a second banking
institution and hold and operate it separately from Westfield Bank.
Acquisition of Westfield Financial or Westfield Bank
Federal Restrictions. Under the federal Change in Bank Control Act,
any person (including a company), or group acting in concert, seeking to
acquire 10% or more of the outstanding shares of Westfield Financial's
common stock will be required to submit prior notice to the Federal Reserve
Board, unless the Federal Reserve Board has found that the acquisition of
such shares will not result in a change in control of Westfield Financial.
Under the Change in Bank Control Act, the Federal Reserve Board has 60 days
within which to act on such notices, taking into consideration factors,
including the financial and managerial resources of the acquirer, the
convenience and needs of the communities served by Westfield Financial and
Westfield Bank, and the anti-trust effects of the acquisition. Under
Westfield Bank Holding Company Act, any company would be required to obtain
prior approval from the Federal Reserve Board before it may obtain
"control," within the meaning of Westfield Bank Holding Company Act, of
Westfield Financial. The term "control" is defined generally under
Westfield Bank Holding Company Act to mean the ownership or power to vote
25% more of any class of voting securities of an institution or the ability
to control in any manner the election of a majority of the institution's
directors. An existing bank holding company would require FRB approval
prior to acquiring more than 5% of any class of voting stock of Westfield
Financial.
37
Massachusetts Restrictions. Under the Massachusetts banking laws,
the prior approval of the Division is required before any person may
acquire a Massachusetts bank holding company. For this purpose, the term
"person" is defined broadly to mean a natural person or a corporation,
company, partnership, or other forms of organized entities. The term
"acquire" is defined differently for an existing bank holding company and
for other companies or persons. A bank holding company will be treated as
"acquiring" a Massachusetts bank holding company if Westfield Bank holding
company acquires more than 5% of any class of the voting shares of
Westfield Bank holding company. Any other person will be treated as
"acquiring" a Massachusetts bank holding company if it acquires ownership
or control of more than 25% of any class of the voting shares of Westfield
Bank holding company.
Other Federal Regulation
The USA PATRIOT Act
In response to the events of September 11th, 2001, President George W.
Bush signed into law the Uniting and Strengthening America by Providing
Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001,
or the USA PATRIOT Act, on October 26, 2001. The USA PATRIOT Act gives the
federal government new powers to address terrorist threats through enhanced
domestic security measures, expanded surveillance powers, increased
information sharing, and broadened anti-money laundering requirements. By
way of amendments to Westfield Bank Secrecy Act, Title III of the USA
PATRIOT Act takes measures intended to encourage information sharing among
bank regulatory agencies and law enforcement bodies. Further, certain
provisions of Title III impose affirmative obligations on a broad range of
financial institutions, including banks, thrifts, brokers, dealers, credit
unions, money transfer agents and parties registered under the Commodity
Exchange Act.
Among other requirements, Title III of the USA PATRIOT Act imposes
the following requirements with respect to financial institutions:
* Pursuant to Section 352, all financial institutions must
establish anti-money laundering programs that include, at
minimum: (i) internal policies, procedures, and controls, (ii)
specific designation of an anti-money laundering compliance
officer, (iii) ongoing employee training programs, and (iv) an
independent audit function to test the anti-money laundering
program.
* Pursuant to Section 326, on May 9, 2003, the Secretary of the
Department of Treasury, in conjunction with other bank
regulators issued Joint Final Rules that provide for minimum
standards with respect to customer identification and
verification. These rules became effective on October 1, 2003.
* Section 312 requires financial institutions that establish,
maintain, administer, or manage private banking accounts or
correspondent accounts in the United States for non-United
States persons or their representatives (including foreign
individuals visiting the United States) to establish
appropriate, specific, and, where necessary, enhanced due
diligence policies, procedures, and controls designed to detect
and report money laundering.
38
* Effective December 25, 2001, financial institutions are
prohibited from establishing, maintaining, administering or
managing correspondent accounts for foreign shell banks
(foreign banks that do not have a physical presence in any
country), and will be subject to certain record keeping
obligations with respect to correspondent accounts of foreign
banks.
* Bank regulators are directed to consider a holding company's
effectiveness in combating money laundering when ruling on
Federal Reserve Act and Bank Merger Act applications.
The Sarbanes-Oxley Act
On July 30, 2002, President George W. Bush signed into law the
Sarbanes-Oxley Act of 2002. The Sarbanes-Oxley Act implements a broad
range of corporate governance and accounting measures for public companies
designed to promote honesty and transparency in corporate America and
better protect investors from the type of corporate wrongdoing that
occurred in Enron, WorldCom and similar companies. The Sarbanes-Oxley
Act's principal legislation includes:
* the creation of an independent accounting oversight board;
* auditor independence provisions which restrict non-audit
services that accountants may provide to their audit clients;
* additional corporate governance and responsibility measures,
including the requirement that the chief executive officer and
chief financial officer certify financial statements;
* the forfeiture of bonuses or other incentive-based compensation
and profits from the sale of an issuer's securities by
directors and senior officers in the twelve month period
following initial publication of any financial statements that
later require restatement;
* an increase in the oversight of, and enhancement of certain
requirements relating to audit committees of public companies
and how they interact with Westfield Financial's independent
auditors;
* requirement that audit committee members must be independent
and are absolutely barred from accepting consulting, advisory
or other compensatory fees from the issuer;
* requirement that companies disclose whether at least one member
of the committee is a "financial expert" (as such term is
defined by the Securities and Exchange Commission) and if not,
why not;
* expanded disclosure requirements for corporate insiders,
including accelerated reporting of stock transactions by
insiders and a prohibition on insider trading during pension
blackout periods;
39
* a prohibition on personal loans to directors and officers,
except certain loans made by insured financial institutions;
* disclosure of a code of ethics and filing a Form 8-K for a
change or waiver of such code;
* mandatory disclosure by analysts of potential conflicts of
interest; and
* a range of enhanced penalties for fraud and other violations.
Although we anticipate that we will incur additional expense in
complying with the provisions of the Sarbanes-Oxley Act and the resulting
regulations, management does not expect that such compliance will have a
material impact on our results of operations or financial condition.
Federal Securities Law
Our common stock is registered with the Securities and Exchange
Commission under Section 12(b) of the Securities Exchange Act of 1934, as
amended (the "Exchange Act"). We are subject to information, proxy
solicitation, insider trading restrictions, and other requirements under
the Exchange Act.
Conversion to Federal Savings Association and Savings and Loan Holding
Companies
On September 23, 2003, the Board of Trustees of Westfield Mutual
Holding Company and the Boards of Directors of Westfield Bank and Westfield
Financial adopted a Plan of Charter Conversion. Pursuant to the Plan of
Charter Conversion, Westfield Mutual Holding Company will establish a
federal mutual holding company (the "Federal MHC"). Westfield Mutual
Holding Company will then merge with and into the Federal MHC, with the
Federal MHC as the surviving entity. Concurrently, Westfield Bank will
exchange its Massachusetts stock savings bank charter for a federal stock
savings bank charter (the "Federal Savings Bank"). As a result of the
charter conversion, Westfield Mutual Holding Company and Westfield
Financial will become savings and loan holding companies regulated by the
Office of Thrift Supervision (the "OTS") and Westfield Bank will become a
federal savings bank regulated by the OTS. Westfield Financial expects
that the charter conversion will be completed in the second quarter of
2004.
Powers. The federal mutual holding company charter has been
modernized and improved under recently enacted financial modernization
legislation. Specifically, federal mutual holding companies now have all
of the powers of financial holding companies, plus certain additional
enumerated powers.
Upon a charter conversion to a federally-chartered savings bank, the
lending and investment powers of Westfield Bank will come from federal law
and regulations. A federally-chartered savings bank has a wide range of
lending authority and specified investment authority in debt securities.
Its lending authority is capped in the amount of consumer loans and
commercial loans it may make under the Home Owners' Loan Act.
40
A Massachusetts-chartered savings bank also has a wide range of
lending and investment authorities that are comparable to those of a full-
service commercial bank. Additionally, unlike a federal savings bank, a
Massachusetts-chartered savings bank has broad authority to invest in
equity securities. Moreover, Massachusetts law allows a savings bank,
subject to regulations or approval of the Commissioner of Banks, to perform
any activity or make any investment authorized to a federally-chartered
bank or a bank chartered by another state.
Additionally, the FDIC regulates the activities of state-chartered
banks and their subsidiaries. If a state-chartered bank desired to engage
in activities not permissible for national banks, it generally must obtain
permission or non-objection from the FDIC to engage in such activities.
Commercial and Consumer Lending Limits. The charter conversion would
subject Westfield Bank to a lending limit of 35% of assets for consumer
loans and 20% of assets for commercial loans, of which amounts in excess of
10% must be in small business loans. Massachusetts does not restrict the
commercial and consumer lending of state-chartered banks. Westfield Bank
does not currently exceed the OTS' commercial and consumer lending limits.
Massachusetts law does not limit the aggregate amount of consumer credit
and commercial loans a savings bank may make.
Qualified Thrift Lender Test. In addition, in order for Westfield
Mutual Holding Company and Westfield Financial to be regulated as savings
and loan holding companies, Westfield Bank must qualify as a "qualified
thrift lender." Under the qualified thrift lender test, a savings
institution is required to maintain at least 65% of its "portfolio assets"
(total assets less: (i) specified liquid assets up to 20% of total assets;
(ii) intangibles, including goodwill; and (iii) the value of property used
to conduct business) in certain "qualified thrift investments" (primarily
residential mortgages and related investments, including certain mortgage-
backed and related securities) in at least nine months out of each 12 month
period. Westfield Bank currently maintains the majority of its portfolio
assets in qualified thrift investments and would have met the qualified
thrift lender test in each of the last 12 months had Westfield Bank been
subject to the test. However, attaining and maintaining its status as a
qualified thrift lender may require Westfield Bank to restructure its
balance sheet from time to time.
41
ITEM 2. PROPERTIES
PROPERTIES
Westfield Bank currently conducts its business through its ten
banking offices and four off-site ATMs. As of December 31, 2003, the
properties and leasehold improvements owned by us had an aggregate net book
value of $11.8 million.
Year of Lease
or License Deposits as of
Location Ownership Year Opened Expiration December 31, 2003
- -------------------------------------------------------------------------------------------
(In thousands)
<s> <c> <c> <c> <c>
Main Office:
141 Elm St
Westfield, MA Owned 1964 N/A $208,066
Branch Offices:
206 Park St
W. Springfield, MA Owned 1957 N/A 120,489
655 Main St.
Agawam, MA Owned 1968 N/A 134,926
26 Arnold St.
Westfield, MA Owned 1976 N/A 2,877
300 Southampton Rd.
Westfield, MA Owned 1987 N/A 45,682
462 College Highway
Southwick, MA Owned 1990 N/A 34,011
382 N. Main St.
E. Longmeadow, MA Leased 1997 2007(1) 48,927
1341 Main St.
Springfield, MA Leased 1999 2009(2) 22,618
1642 Northampton St.
Holyoke, MA Owned 2001 N/A 9,442
1342 Liberty St.
Springfield, MA Owned 2001 N/A 5,393
ATMs:
337 N. Westfield St.
Feeding Hills, MA Leased 1988 2008(2) N/A
830 Suffield St.
Agawam, MA Tenant at will 1997 N/A N/A
516 Carew St.
Springfield, MA Tenant at will 2002 N/A N/A
1000 State St. Tenant at will 2003 N/A N/A
Springfield, MA
<FN>
- --------------------
<F1> Does not include two additional five-year options.
<F2> Does not include three additional five-year options.
</FN>
42
ITEM 3. LEGAL PROCEEDINGS
We are not involved in any pending legal proceeding other than
routine legal proceedings occurring in the ordinary course of business. In
the opinion of management, no legal proceedings will have a material effect
on the company's consolidated financial position or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
Our common stock is listed on The American Stock Exchange under the
symbol "WFD." Westfield Mutual Holding Company owns 5,607,400 shares, or
53% of our outstanding common stock. At December 31, 2003, there were
10,522,300 shares of common stock issued and outstanding, and there were
approximately 1,437 holders of record.
The table below shows the high and low sales price during the periods
indicated as well as dividends declared per share. The information set
forth in the table below was provided by the American Stock Exchange.
Price Range Dividends
---------------- ---------
For the Fiscal Year Ended December 31, 2003 High Low
---- ---
<s> <c> <c> <c>
Fourth Quarter ended December 31, 2003 $24.80 $22.70 $0.05
Third Quarter ended September 30, 2003 22.32 18.60 0.05
Second Quarter ended June 30, 2003 18.90 15.47 0.05
First Quarter ended March 31, 2003 15.90 15.15 0.05
Price Range Dividends
---------------- ---------
For the Fiscal Year Ended December 31, 2002 High Low
---- ---
<s> <c> <c> <c>
Fourth Quarter ended December 31, 2002 $15.90 $14.34 $ -
Third Quarter ended September 30, 2002 15.98 12.99 0.05
Second Quarter ended June 30, 2002 16.23 14.46 0.05
First Quarter ended March 31, 2002 14.89 13.00 0.05
The stock price information set forth above has been provided by The
American Stock Exchange. High, low, and closing prices and daily trading
volumes are reported in most major newspapers.
A quarterly cash dividend of $0.05 per share was declared by the
Board of Directors on January 28, April 22, July 22, and October 28, 2003.
The continued payment of dividends also depend upon our debt and equity
structure, earnings, financial condition, need for capital in connection
with possible future acquisitions and other factors, including economic
conditions, regulatory restrictions and tax considerations. We cannot
guarantee that we will pay dividends or that, if paid, that we will not
reduce or eliminate dividends in the future.
43
The only funds available for the payment of dividends on the capital
stock of Westfield Financial will be cash and cash equivalents held by
Westfield Financial, dividends paid by Westfield Bank to Westfield
Financial, and borrowings. Westfield Bank will be prohibited from paying
cash dividends to Westfield Financial to the extent that any such payment
would reduce Westfield Bank's capital below required capital levels or
would impair the liquidation account to be established for the benefit of
the Westfield Bank's eligible account holders and supplemental eligible
account holders at the time of the reorganization and stock offering.
ITEM 6. SELECTED FINANCIAL DATA
The summary information presented below at or for each of the years
presented is derived in part from the consolidated financial statements of
Westfield Financial. The following information is only a summary, and you
should read it in conjunction with our consolidated financial statements
and notes beginning on page F-1.
At December 31,
--------------------------------------------------------
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
(In thousands)
<s> <c> <c> <c> <c> <c>
Selected Financial Condition Data:
Total assets $795,216 $812,980 $782,732 $694,791 $638,563
Loans, net(1) 344,980 357,155 413,546 464,531 467,444
Securities available for sale 25,806 79,842 74,184 75,709 53,164
Securities held to maturity 69,927 45,960 45,614 39,461 44,239
Mortgage backed securities
available for sale 76,177 90,468 87,150 52,580 23,568
Mortgage backed securities
held to maturity 191,683 159,339 81,007 6,806 4,507
Deposits 632,431 656,065 637,109 601,896 551,024
Customer repurchase agreements 12,135 8,724 6,061 7,686 3,274
Federal Home Loan Bank advances 20,000 15,000 - - 5,000
Total equity 124,804 126,699 131,317 77,755 71,245
Allowance for loan losses 4,642 4,325 3,923 3,434 3,118
Nonperforming loans 1,768 2,383 2,684 2,308 2,751
For the Years Ended
December 31,
--------------------------------------------------------
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
(In thousands, except per share data)
<s> <c> <c> <c> <c> <c>
Selected Operating Data:
Interest and dividend income $35,635 $43,013 $47,543 $46,718 $41,850
Interest expense 13,858 18,775 25,002 24,535 21,151
------- ------- ------- ------- -------
Net interest and dividend income 21,777 24,238 22,541 22,183 20,699
Provision for loan losses 750 934 1,630 1,089 843
------- ------- ------- ------- -------
Net interest and dividend income
after provision for loan losses 21,027 23,304 20,911 21,094 19,856
Total noninterest income 3,074 (362) 2,517 2,855 1,555
Total noninterest expense 17,630 16,659 15,899 14,684 12,986
------- ------- ------- ------- -------
Income before income taxes 6,471 6,283 7,529 9,265 8,425
Income taxes 2,820 2,239 2,512 3,185 2,898
------- ------- ------- ------- -------
Net income. $ 3,651 $ 4,044 $ 5,017 $ 6,080 $ 5,527
======= ======= ======= ======= =======
Basic earnings per share $ 0.36 $ 0.39 N/A N/A N/A
Diluted earnings per share $ 0.36 $ 0.38 N/A N/A N/A
Dividends per share paid $ 0.20 $ 0.15 N/A N/A N/A
<FN>
- --------------------
<F1> Loans are shown net of deferred loan fees, allowance for loan losses
and unadvanced loan funds.
</FN>
44
At or for the Years Ended December 31,
---------------------------------------------------
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
<s> <c> <c> <c> <c> <c>
Selected Financial Ratios and
Other Data(1)
Performance Ratios:
Return on average assets 0.45% 0.51% 0.70% 0.92% 0.91%
Return on average equity 2.94 3.14 6.16 8.04 7.95
Average equity to average assets 15.33 16.23 11.32 11.45 11.50
Equity to total assets at end of period 15.69 15.58 16.78 11.19 11.16
Average interest rate spread 2.47 2.54 2.75 2.91 2.98
Net interest margin(2) 2.86 3.18 3.33 3.51 3.55
Average interest earning assets to
average interest earning liabilities 121.49 125.76 115.77 115.40 115.82
Total noninterest expense to
average assets 2.18 2.10 2.21 2.22 2.15
Efficiency ratio(3) 74.59 65.01 65.62 62.48 59.74
Regulatory Capital Ratios:
Regulatory tier 1 leverage capital 15.31 15.65 17.27 11.51 11.11
Tier 1 risk-based capital 28.46 28.77 28.09 16.33 16.28
Total risk-based capital 29.63 29.78 28.98 17.24 17.32
Asset Quality Ratios:
Nonperforming loans as a percent of
total loans 0.51 0.66 0.64 0.49 0.58
Nonperforming assets as a percent of
total assets 0.22 0.29 0.37 0.33 0.43
Allowance for loan losses as a percent of
total loans 1.33 1.20 0.94 0.73 0.66
Allowance for loan losses as a percent of
nonperforming assets 263 181 137 149 113
Number of:
Banking offices 10 10 10 8 8
Full-time equivalent employees 152 146 159 151 150
<FN>
- --------------------
<F1> Asset Quality Ratios and Regulatory Capital Ratios are end of period
ratios.
<F2> Net interest margin represents net interest and dividend income as a
percentage of average interest earning assets.
<F3> The efficiency ratio represents the ratio of operating expenses divided
by the sum of net interest and dividend income and noninterest income
less gain on sale of securities.
</FN>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Overview
Westfield Financial strives to remain a leader in meeting the
financial service needs of the local community and to provide quality
service to the individuals and businesses in the market areas that it has
served since 1853. Historically, Westfield Bank has been a community-
oriented provider of traditional banking products and services to business
organizations and individuals, including products such as residential and
commercial real estate loans, consumer loans and a variety of deposit
products. Westfield Bank meets the needs of its local community through a
community-based and service-oriented approach to banking.
In recent years, in addition to real estate lending, we have adopted
a growth-oriented strategy that has focused on increased emphasis on
commercial lending. Our strategy also calls for increasing deposit
relationships and broadening our product lines and services. We believe
that this business strategy is best for our long term success and
viability, and complements our existing commitment to high quality customer
service. In connection with our overall growth strategy, Westfield Bank
seeks to:
45
* continue to grow its commercial loan portfolio as a means to
increase the yield on and diversify its loan portfolio and
build transactional deposit account relationships;
* focus on expanding its retail banking franchise, and increasing
the number of households served within its market area; and
* depending on market conditions, refer substantially all of the
fixed-rate residential real estate loans to a third party
mortgage company which underwrites, originates and services
these loans in order to diversify its loan portfolio, increase
fee income and reduce interest rate risk.
You should read our financial results for the year ended December 31,
2003 in the context of this strategy.
* Net income decreased $393,000, or 7.5%, to $3.7 million or
$0.36 per diluted share for the year ended December 31, 2003
from $4.0 million or $0.38 per diluted share for 2002 due to a
$2.5 million decrease in net interest income and a $581,000
increase in income tax expense, offset in part by an increase
in noninterest income of $3.4 million.
* Westfield Financial entered into an agreement with the
Massachusetts Department of Revenue to settle the issue related
to taxes owed on dividends received from Westfield Bank's REIT
subsidiary in 2002 and prior tax years. Under the agreement,
Westfield Financial paid 50% of the amount owed including
interest. This resulted in a charge of approximately $1.45
million for state taxes, interest and penalties, net of federal
benefit.
* Residential loans decreased $47.3 million from December 31,
2002 to December 31, 2003 primarily as a result of the
residential real estate loan program with a third party
mortgage company. Westfield Bank refers its residential real
estate borrowers to a third party mortgage company and
substantially all of Westfield Bank's residential real estate
loans are underwritten, originated and serviced by a third
party mortgage company. Westfield Bank receives a fee of 65
basis points from each of these loans originated. Westfield
Bank believes that this program has diversified its loan
portfolio and continues to reduce interest rate risk. The
decrease in residential real estate loans combined with the
lower interest rate environment contributed to a $7.4 million
decrease in interest income for the year 2003 as compared to
2002. However, reduced interest expense and $340,000 in
noninterest fee income from the third party mortgage company
partially offset the decrease.
* Indirect automobile loans decreased $17.8 million, or 52.7%
from December 31, 2002 to December 31, 2003. Management
curtailed its indirect automobile lending beginning in fiscal
year 2000 due to credit quality concerns, and in the fourth
quarter of 2003, Westfield Bank ceased writing indirect
automobile loans. Although indirect auto loans had higher
yields, they also had higher costs, therefore Westfield Bank
expects minimal impact on earnings as a result of the
discontinuation of the program.
46
* Commercial real estate and commercial and industrial loans
increased $54.2 million from December 31, 2002 to December 31,
2003. This is consistent with Westfield Bank's strategic plan,
which emphasizes commercial lending. The continued success of
Westfield Bank's commercial lending is primarily dependent on
the local and national economy.
* Net interest and dividend income decreased primarily as a
result of a change in the mix of interest-earning assets and
the declining interest rate environment. The loan portfolio
decreased $12.2 million, or 3.4% from December 31, 2002 to
December 31, 2003 while the investment portfolio increased
$12.0 million, or 3.2% from December 31, 2002 to December 31,
2003. Westfield Bank's loans typically have higher yields than
investments. Westfield Financial expects net interest and
dividend income to increase in future periods as it continues
to emphasize higher yielding commercial real estate loans and
commercial and industrial loans, while referring residential
mortgage loans to a third party mortgage company. In addition,
Westfield Bank continues to emphasize core deposits over time
deposits.
* Westfield Bank purchased $16.5 million in Bank Owned Life
Insurance ("BOLI") as a means to offset employee benefit costs
such as health care and retirement plan costs. Income earned
on BOLI is shown as noninterest income. As a result, the
purchase of BOLI during 2003 had a negative effect on Westfield
Bank's interest margin. This is because the funds invested in
BOLI would have been otherwise invested in loans or
investments, which would have had a positive effect on interest
income.
* Core deposits increased while time deposits decreased. This is
consistent with Westfield Bank's strategy for growing core
deposits in order to maintain long-term relationships with
customers and to reduce the cost of funds. Management believes
however, that a percentage of the growth in core deposits is
due to the low rate environment, i.e. no incentive for
customers to lock up funds in time deposits. In a period of
rising interest rates, the more rate sensitive customers may
shift funds bank into time deposits, resulting in a higher cost
of deposits.
* Asset quality improved; nonperforming loans as a percent of
total loans decreased. Charge-offs also decreased,
particularly as a result of the curtailment of indirect auto
loans and the improved local and national economy.
* The allowance for loans as a percent of total loans receivable
increased. Westfield Bank has steadily increased this ratio
over the last five years to compensate for growth in commercial
loans, which typically have higher risks than residential
loans. As Westfield Bank emphasizes the origination of
commercial real estate loans and commercial and industrial
loans for its loan portfolio, increased allowance requirements
may continue. Due to Westfield Bank's third party mortgage
company program and the curtailment of its indirect automobile
lending, the balance of residential real estate loans and
consumer loans is expected to decrease. Decreased allowances
for residential real estate loans and consumer loans in the
future may result.
47
General
Westfield Financial's consolidated results of operations are
comprised of earnings on investments and the net income recorded by its
principal operating subsidiary, Westfield Bank. Westfield Bank's
consolidated results of operations depend primarily on net interest and
dividend income. Net interest and dividend income is the difference
between the interest income earned on interest-earning assets and the
interest paid on interest-bearing liabilities. Interest-earning assets
consist primarily of residential mortgage loans, commercial mortgage loans,
commercial loans, consumer loans, mortgage-backed securities and investment
securities. Interest-bearing liabilities consist primarily of certificates
of deposit, savings and money market and NOW account deposits, and
borrowings from the Federal Home Loan Bank of Boston. The consolidated
results of operations also depend on provision for loan losses, noninterest
income, and noninterest expense. Noninterest expense includes salaries and
employee benefits, occupancy expenses and other general and administrative
expenses. Noninterest income includes gains (losses) on sales of
securities and securities writedowns and service fees and charges.
The consolidated results of operations may also be affected
significantly by economic and competitive conditions in the market area and
elsewhere, including those conditions that influence market interest rates,
government policies and the actions of regulatory authorities. Future
changes in applicable laws, regulations or government policies may
materially affect the results of operations. Furthermore, because
Westfield Bank's lending activity is concentrated in loans secured by
residential and commercial real estate located in Hampden County,
Massachusetts, downturns in this regional economy could have a negative
impact on its earnings.
Critical Accounting Policies
Westfield Financial's accounting policies are disclosed in Note 2 to
the Consolidated Financial Statements. The more critical policies given
Westfield Financial's current business strategy and asset/liability
structure are accounting for non performing loans, the allowance for loan
losses and provision for credit loans, the classification of securities as
either held to maturity or available for sale, other than temporary
impairment of securities, and discount rate assumptions used for benefit
liabilities. In addition to the information disclosure in the Notes to the
Consolidated Financial Statements, Westfield Financial's policy on each of
these accounting policies is described in detail in the applicable sections
of Management's Discussion and Analysis of Financial Condition and results
of Operations. Senior management has discussed the development and
selection of these accounting estimates and the related disclosures with
the Audit Committee of the Company's Board of Directors.
On a quarterly basis, the Company reviews available for sale
investment securities with unrealized depreciation to assess whether the
decline is fair value is temporary or other than temporary. The Company
judges whether the decline in value is from company-specific events,
industry developments, general economic conditions or other reasons. Once
the estimated reasons for the decline are identified, further judgments are
required as to whether those conditions are likely to reverse and, if so,
whether that reversal is likely to result in a recovery of the fair value
of the investment in the near term. Unrealized losses which are not
expected to reverse in the near term are charged to operations.
48
Securities, including mortgage backed securities, which management
has the positive intent and ability to hold until maturity are classified
as held to maturity and are carried at amortized cost. Securities,
including mortgage-backed securities, which have been identified as 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, net of income taxes, reported as a separate component of
equity. Accordingly, a misclassification would have a direct effect on
stockholders' equity. Sales or reclassification as available for sale
(except for certain permitted reasons) of held to maturity securities may
result in the reclassification of all such securities to available for
sale. The Company has never sold held to maturity securities or
reclassified such securities to available for sale other than in
specifically permitted circumstances. Westfield Financial does not acquire
securities or mortgage backed securities for purposes of engaging in
trading activities.
Westfield Financial's general policy is to discontinue the accrual of
interest when principal or interest payments are delinquent 90 days or
more, or earlier if the loan is considered impaired. Any unpaid amounts
previously accrued on these loans are reversed from income. Subsequent cash
receipts are applied to the outstanding principal balance or to interest
income if, in the judgment of management, collection of principal balance
is not in question. Loans are returned to accrual status when they become
current as to both principal and interest and when subsequent performance
reduces the concern as to the collectibility of principal and interest.
Loan fees and certain direct loan origination costs are deferred, and the
net fee or cost is recognized as an adjustment to interest income over the
estimated average lives of the related loans. Compensation to an auto
dealer is normally based upon a spread that a dealer adds on the loan base
rate set by Westfield Financial. The compensation is paid to an automobile
dealer shortly after the loan is originated. Westfield Financial records
the amount as a deferred cost that is amortized over the life of the loans
in relation to the interest paid by the consumer.
The process of evaluating the loan portfolio, classifying loans and
determining the allowance and provision is described in detail on pages 16
- - 20. Westfield Financial's methodology for assessing the appropriations of
the allowance consists of two key components, which are a specific
allowance for identified problems or impaired loans and a formula allowance
for the remainder of the portfolio. Measurement of impairment can be based
on present value of expected future cash flows discounted at the loan's
effective interest rate, the loan's observable market price or the fair
value of the collateral, if the loan is collateral dependent. This
evaluation is inherently subjective as it requires material estimates that
may be susceptible to significant change. The appropriations of the
allowance is also reviewed by management based upon its evaluation of then-
existing economic and business conditions affecting the key lending areas
of Westfield Financial and other conditions, such as new loan products,
credit quality trends (including trends in non performing loans expected to
result from existing condition), collateral values, loan volumes and
concentrations, specific industry conditions within portfolio segments that
existed as of the balance sheet date and the impact that such conditions
were believed to have had on the collectibility of the loan portfolio.
Although management believes it has established and maintained the
allowance for loan losses at adequate levels, future adjustments may be
necessary if economic, real estate and other conditions differ
substantially from the current operating environment.
49
AVERAGE BALANCE SHEET AND ANALYSIS OF NET INTEREST AND DIVIDEND INCOME
The following tables set forth information relating to our financial
condition and net interest and dividend income for the years ended December
31, 2003, 2002 and 2001 and reflect the average yield on assets and average
cost of liabilities for the periods indicated. The yields and costs were
derived by dividing income or expense by the average balance of interest-
earning assets or interest-bearing liabilities, respectively, for the
periods shown. Average balances were derived from actual daily balances
over the periods indicated. Interest income includes fees earned from
making changes in loan rates or terms, and fees earned when commercial real
estate loans were prepaid or refinanced.
For the Year Ended December 31,
---------------------------------------------------------------------------------------------
2003 2002 2001
----------------------------- ----------------------------- -----------------------------
Average Average Average
Average Yield/ Average Yield/ Average Yield/
Balance Interest Cost Balance Interest Cost Balance Interest Cost
------- -------- ------- ------- -------- ------- ------- -------- -------
(Dollars in thousands)
<s> <c> <c> <c> <c> <c> <c> <c> <c> <c>
ASSETS:
Interest-earning assets:
Short term investments(1) $ 17,648 $ 170 0.96% $ 27,162 $ 416 1.53% $ 17,893 $ 562 3.14%
Securities 389,333 13,189 3.39 337,646 14,562 4.31 212,340 13,190 6.21
Loans(2) 354,134 22,276 6.29 398,555 28,035 7.03 445,987 33,791 7.58
-------- ------- -------- ------- -------- -------
Total interest-earning
assets 761,115 35,635 4.68 763,363 43,013 5.63 676,220 47,543 7.03
------- ------- -------
Total noninterest-earning
assets 48,693 28,971 43,394
-------- -------- --------
Total assets $809,808 $792,334 $719,614
======== ======== ========
LIABILITIES AND EQUITY:
Interest-bearing liabilities:
NOW accounts 42,783 347 0.81 40,636 589 1.45% 35,738 770 2.15%
Savings accounts 46,771 371 0.79 44,026 474 1.08 43,965 523 1.19
Money market deposit accounts 152,863 1,860 1.22 133,622 2,541 1.90 123,085 3,670 2.98
Time certificates of deposit 353,967 10,544 2.98 380,385 14,957 3.93 374,100 19,767 5.28
-------- ------- -------- ------- -------- -------
Total interest-bearing
deposits 596,384 13,122 598,669 18,561 576,888 24,730 4.29
Customer repurchase agreements
and other borrowings 30,123 736 2.44 8,332 214 2.57 7,199 272 3.78
-------- ------- -------- ------- -------- -------
Interest-bearing liabilities 626,507 13,858 2.21 607,001 18,775 3.09 584,087 25,002 4.28
-------- ------- -------- ------- -------- -------
Noninterest-bearing deposits 54,119 48,856 38,737
Other noninterest-bearing
liabilities 5,020 7,883 15,324
-------- -------- --------
Total noninterest-bearing
liabilities 59,139 56,739 54,061
-------- -------- --------
Total liabilities 685,646 663,740 638,148
Total equity 124,162 128,594 81,466
-------- -------- --------
Total liabilities and equity $809,808 $792,334 $719,614
======== ======== ========
Net interest and dividend
income $21,777 $24,238 $22,541
======= ======= =======
Net interest rate spread(3) 2.47 2.54 2.75
Net interest margin(4) 2.86% 3.18% 3.33%
Ratio of average interest-
earning assets to average
interest-bearing liabilities 121.5x 125.8x 115.8x
<FN>
- --------------------
<F1> Short term investments include Federal Funds Sold
<F2> Loans, including non-accrual loans, are net of deferred loan
origination costs (fees), and unadvanced funds.
<F3> Net interest rate spread represents the difference between the
weighted average yield on interest-earning assets and the weighted
average cost of interest-bearing liabilities.
<F4> Net interest margin represents net interest and dividend income as a
percentage of average interest earning assets.
</FN>
50
Rate/Volume Analysis. The following table shows how changes in
interest rates and changes in the volume of interest-earning assets and
interest-bearing liabilities have affected our interest and dividend income
and interest expense during the periods indicated. Information is provided
in each category with respect to:
(1) interest income changes attributable to changes in volume
(changes in volume multiplied by prior rate);
(2) interest income changes attributable to changes in rate
(changes in rate multiplied by prior volume); and
(3) the net change.
The changes attributable to the combined impact of volume and rate
have been allocated proportionately to the changes due to volume and the
changes due to rate.
Year Ended December 31, 2003 Year Ended December 31, 2002
Compared to Year Ended Compared to Year Ended
December 31, 2002 December 31, 2001
Increase/(Decrease) Increase/(Decrease)
-------------------------------- --------------------------------
Due to Due to
-------------------- --------------------
Volume Rate Net Volume Rate Net
------ ---- --- ------ ---- ---
(In thousands)
<s> <c> <c> <c> <c> <c> <c>
Interest earning assets:
Short term investments $ (146) $ (100) $ (246) $ 291 $ (437) $ (146)
Investment securities 2,229 (3,602) (1,373) 7,784 (6,412) 1,372
Loans (3,125) (2,634) (5,759) (3,594) (2,162) (5,756)
------- ------- ------- ------- ------- -------
Total interest-earning assets $(1,042) $(6,336) $(7,378) $ 4,481 $(9,011) $(4,530)
======= ======= ======= ======= ======= =======
Interest bearing liabilities:
NOW accounts $ 31 $ (273) $ (242) $ 106 $ (287) $ (181)
Savings accounts 30 (133) (103) 1 (50) (49)
Money market deposit accounts 366 (1,047) (681) 314 (1,443) (1,129)
Time certificates of deposit (1,039) (3,374) (4,413) 332 (5,142) (4,810)
Customer repurchase agreements
and other borrowings 560 (38) 522 43 (101) (58)
------- ------- ------- ------- ------- -------
Total interest bearing
liabilities (52) (4,865) (4,917) 796 (7,023) (6,227)
------- ------- ------- ------- ------- -------
Change in net interest and
dividend income $ (990) $(1,471) $(2,461) $ 3,685 $(1,988) $ 1,697
======= ======= ======= ======= ======= =======
51
Comparison of Financial Condition at December 31, 2003 and December 31, 2002
Consolidated assets decreased $17.8 million, or 2.2%, to $795.2
million at December 31, 2003 from $813.0 million at December 31, 2002.
Securities decreased $12.0 million, or 3.2%, to $363.6 million at December
31, 2003 from $375.6 million at December 31, 2002. Cash and cash
equivalents decreased $10.9 million to $45.7 million at December 31, 2003
from $56.6 million at December 31, 2002.
Net loans during this period decreased by $12.2 million, or 3.4%, to
$345.0 million at December 31, 2003, from $357.2 million at December 31,
2002. Decreases in residential and indirect automobile loans were
partially offset by increases in commercial real estate loans and
commercial and industrial loans.
Residential loans decreased $47.4 million to $110.5 million at
December 31, 2003 from $157.9 million at December 31, 2002. The decrease
is primarily the result of the current residential real estate loan program
with a third party mortgage company. Under this program which commenced on
September 1, 2001, Westfield Bank refers its residential real estate
borrowers to a third party mortgage company and substantially all of the
Bank's residential real estate loans are underwritten, originated and
serviced by a third party mortgage company. The Bank receives a fee of 65
basis points for each of these loans originated. The Bank believes that
this program will diversify its loan portfolio and reduce interest risk.
The Bank may purchase residential real estate loans from the third party
mortgage company depending on market conditions. To date, the Bank has not
purchased a significant amount of loans from the third party mortgage
company.
Indirect automobile loans decreased $17.8 million, or 52.7% to $16.0
million on December 31, 2003 as compared to $33.8 million on December 31,
2002. Management curtailed its indirect lending beginning in fiscal year
2000 and in the fourth quarter of 2003, the Bank ceased writing loans under
this program.
Commercial real estate loans increased $30.4 million or 30.1% to
$131.3 million at December 31, 2003 from $100.9 million at December 31,
2002. Commercial and industrial loans increased $23.8 million or 38.7% to
$85.3 million at December 31, 2003 from $61.5 million at December 31, 2002.
The Bank's strategic plan calls for emphasis on commercial lending. The
success of the plan to grow commercial loans is primarily dependent upon
the improvement of the local and national economy.
During the twelve month period ended December 31, 2003, the Bank
invested $16.5 million in bank owned life insurance ("BOLI"). The Bank
purchased BOLI as a means to offset employee benefit costs. A substantial
number of employees are covered by BOLI policies.
52
Total deposits decreased $23.7 million, or 3.6%, to $632.4 million at
December 31, 2003 from $656.1 million at December 31, 2002. Non-interest
bearing accounts decreased $116,000 to $54.6 million at December 31, 2003
from $54.7 million at December 31, 2002. This decrease was primarily the
result of a $2.7 million decrease in internal checking accounts to $3.4
million at December 31, 2003. The amount reported in internal checking
accounts represents checks outstanding that were issued by the Bank for
accounts payable purposes, loan proceeds, and official checks and money
orders purchased by Bank customers. The decrease in internal checking was
partially offset by an increase in customer demand deposits of $2.6
million, or 5.3%, to $51.2 million at December 31, 2003 from $48.6 million
at December 31, 2002.
NOW, regular savings, and money market accounts increased $17.3
million, or 7.6%, to $243.6 million at December 31, 2003 from $226.3
million at December 31, 2002. Time deposits decreased by $40.8 million, or
10.9% to $334.2 million at December 31, 2003 from $375.0 million at
December 31, 2002. The Bank's strategic plan calls for a lesser reliance
on time deposits accounts. This was facilitated by the low interest rate
environment of 2003, which gave little incentive for customers to lock up
funds in time deposits.
Customer repurchase agreements increased $3.4 million or 39.1% to
$12.1 million at December 31, 2003 from $8.7 million at December 31, 2002.
A customer repurchase agreement is an agreement by Westfield Bank to sell
to and repurchase from the customer an interest in specific securities
issued by or guaranteed by the United States Government. This transaction
settles immediately on a same day basis in immediately available funds.
Interest paid is commensurate with other products of equal interest and
credit risk. Substantially all the customer repurchase agreements are held
by the Bank's commercial loan customers. Federal Home Loan Bank ("FHLB")
borrowings increased $5.0 million from $15.0 million at December 31, 2002
to $20.0 million at December 31, 2003 to take advantage of the low interest
rate environment.
Stockholders' equity at December 31, 2003 and December 31, 2002 was
$124.8 million and $126.7 million, respectively. The change is comprised
of net income of $3.7 million for the year ended December 31, 2003, a
decrease in net unrealized gains on securities available for sale of
$430,000, net of income taxes, the net repurchase of 57,700 shares of
common stock for $1.1 million, the purchase of shares of common stock for
the management recognition and retention plan for $2.3 million and the
declaration by the Board of Directors of quarterly $0.05 per share cash
dividends aggregating $2.1 million.
53
Comparison of Operating Results for Years Ended December 31, 2003 and 2002
General
The Company reported net income of $3.7 million or $0.36 per diluted
share for the year ended December 31, 2003 compared to net income of $4.0
million or $0.38 per diluted share for the same period in 2002. Interest
and dividend income decreased by $7.4 million and interest expense
decreased by $4.9 million resulting in a decrease in net interest income of
$2.5 million. This was offset by an increase in noninterest income of $3.4
million.
The Company entered into an agreement with the Massachusetts
Department of Revenue to settle the issue related to taxes owed on
dividends received from the Bank's REIT subsidiary in 2002 and prior tax
years. Under the agreement, the Company paid 50% of the amount including
interest that would have been owed under legislation that was enacted in
March 2003. The payment is a deductible expense for federal tax purposes.
This resulted in a charge of approximately $1.45 million for state taxes,
interest, and penalties, net of federal tax benefit. Total income taxes
were $2.8 million for the year ended December 31, 2003 as compared to $2.2
million for the same period in 2002.
Interest and Dividend Income
Total interest and dividend income decreased $7.4 million or 17.2% to
$35.6 million for the year ended December 31, 2003 compared to $43.0
million for the same period in 2002. Interest and dividends on securities
decreased $1.2 million to $12.4 million, while interest income on loans
decreased $5.8 million to $22.3 million.
The decrease in interest and dividend income on securities was the
result of a decrease of 92 basis points in the average yield on securities
from 4.31% for the year 2002 to 3.39% for the same period in 2003. This
change was partially offset by a $51.7 million increase in the average
balance of securities from $337.6 million for 2002 to $389.3 million for
2003. Market interest rates have declined significantly since January 1,
2001. For example, the prime rate of interest decreased 550 basis points
from January of 2001 through December 31, 2003. As higher yielding
investments purchased in a higher rate environment have matured, been
called, or paid down in 2003, the funds were reinvested at lower rates. In
addition, the interest rate on adjustable rate securities repriced downward
in the declining interest rate environment.
The decrease in interest income on loans was primarily the result of
a $4.3 million decrease in interest on residential real estate loans. The
average balance of residential real estate loans decreased from $186.2
million for the year ended December 31, 2002 to $131.4 million for the year
ended December 31, 2003 due to our residential real estate loan program
with a third party mortgage company. However, Westfield Bank earned
$340,000 in fee income on the origination of these loans which is included
in non interest income in 2003. In addition, as a result of the low
interest rate environment of 2003, the Bank experienced high levels of
payoffs of existing mortgages due to refinancing activity. Moreover,
interest on consumer loans decreased $1.7 million. This was primarily the
result of a decrease in average balance of consumer loans from $49.6
million for 2002 to $31.2 million for 2003 due to management's decision to
curtail indirect automobile loan originations.
54
Interest income from commercial real estate loans and commercial and
industrial loans increased $167,000 for the year ended December 31, 2003
from the year ended December 31, 2002. In accordance with Westfield Bank's
strategic plan, the average balance of commercial real estate loans and
commercial industrial loans increased $28.8 million to $191.5 million for
the year ended December 31, 2003 as compared to $162.7 million for the same
period in 2002. This change was offset by a decrease in the average yield
on these loans due to the significant decline in market interest rates
since December 31, 2000. Loans originated in the current low interest rate
environment have typically been at lower rates than in previous years. In
addition, some adjustable rate loans repriced downward. This resulted in a
lower yield for the commercial real estate loan and commercial and
industrial loan portfolios.
Interest Expense
Interest expense for the year ended December 31, 2003 decreased $4.9
million to $13.9 million from the comparable 2002 period. This was
attributable to a decrease in the average cost of interest-bearing
liabilities of 88 basis points to 2.21% for the year ended December 31,
2003 from 3.09% for the same period in 2002. This decrease was partially
offset by an increase of $19.5 million in the average balance of total
interest-bearing liabilities. The decrease in average cost of interest-
bearing liabilities was the result of the declining rate environment
discussed previously and Westfield Bank's emphasis on core deposits over
time deposits.
Net Interest and Dividend Income
Net interest and dividend income for the year ended December 31, 2003
decreased $2.5 million, or 10.3%, to $21.8 million in 2003 from $24.2
million in 2002. The net interest rate spread, the difference between the
average yield on average interest earning assets and the average cost of
average total interest bearing liabilities, decreased 7 basis points to
2.47% for 2003 from 2.54% for 2002. The net interest margin, which is net
interest and dividend income divided by average total interest earning
assets, decreased 32 basis points to 2.86% for 2003 from 3.18% for the
comparable prior year period. As discussed above, the decreases in net
interest and dividend income due to lower interest rates were partially
offset by the increase in the balance of interest-earning assets.
Provision for Loan Losses
During 2003, Westfield Bank provided $750,000 for loans losses,
compared to $934,000 for 2002. The provision for loan losses brings
Westfield Bank's allowance for loan losses to a level determined
appropriate by management based on the methodology discussed under
"Allowance for Loan Losses". The allocation of the provision for loan
losses among loan types and between the specific and formula components of
the allowance for loan losses is also determined based on the methodology
discussed under "Allowance for Loan Losses". The following factors resulted
in a decrease in the provision for 2003 as compared to 2002.
55
* Loan concentrations - Commercial real estate loans and
commercial and industrial loans increased $54.2 million or
33.4%. Westfield Bank considers these types of loans to
contain more risk than conventional residential mortgages.
These increases resulted in an increase in the allowance
requirements for commercial real estate and commercial and
industrial loans. As Westfield Bank emphasizes increasing its
commercial real estate loans and commercial and industrial
loans, increased allowance requirements may continue.
These increases were offset by a decrease in residential real
estate loans of $47.4 million to $110.5 million and a decrease
in consumer loans of $18.8 million to $22.3 million, resulting
in decreases in the allowance requirements for residential real
estate loans and consumer loans, respectively. Due to
Westfield Bank's residential real estate loan program with a
third party mortgage company and the discontinuation of its
indirect auto lending, the balance of residential mortgages and
consumer loans is expected to continue to decrease. Decreased
future allowances for these loans may result.
* Credit quality - Actual loss experience on loans decreased with
charge-offs totaling $725,000 in 2003 as compared to $928,000
in 2002. Net loans charged off as a percent of average loans
outstanding decreased from 0.13% in 2002 to 0.12% in 2003.
Non-accrual loans decreased $615,000 from $2.4 million at
December 31, 2002 to $1.8 million at December 31, 2003.
As a result of the detailed allowance for loan loss methodology and
consideration of the above factors, the provision for loan losses decreased
by $184,000 in 2003 as compared to 2002.
The allowance for loan losses at the end of 2003 was 1.33% of total
loans compared with 1.20% at the end of 2002. The increase in the coverage
ratio reflects the changes in the loan portfolio described above.
Noninterest Income
Noninterest income increased $3.4 million to $3.1 million in 2003
from ($362,000) for 2002. Included in noninterest income in the year 2002
were writedowns of certain equity securities of $2.5 million. Income on
bank owned life insurance ("BOLI") was $806,000 for the year ended December
31, 2003, compared to none for the same period in 2002. In addition, fees
received from our residential real estate loan program with a third party
mortgage company were $340,000 for the year ended December 31, 2003
compared with $196,000 for the same period in 2002. It is anticipated
that these fees will decrease as refinancing of residential loans
decreases, particularly if interest rates increase in future periods.
56
Noninterest Expense
Noninterest expense for the year ended December 31, 2003 was $17.6
million compared to $16.7 million for the same period in 2002. Employee
salary and benefits for the year ended December 31, 2003 were $9.7 million
compared to $8.9 million in 2002. The increase was the result of normal
salary increases, along with an increase in employee benefit expense of
$688,000 for the year ended December 31, 2003, primarily as a result of
increased expenses for the management recognition and retention plan and
supplemental employee retirement plan.
Income Taxes
Income taxes increased $581,000, or 26.0%, to $2.8 million in 2003.
The effective tax rate was 43.6% in 2003 compared to 35.6% for 2002. The
effective tax rate also reflects the utilization of Westfield Securities
Corporation and Elm Street Securities Corporation, both qualified
securities corporations, and Elm Street Real Estate Investments, Inc., a
wholly-owned subsidiary of Westfield Bank, as a real estate investment
trust.
Massachusetts legislation was signed on March 5, 2003 amending the
corporate tax law affecting the treatment of dividends received from Real
Estate Investment Trusts (REITs). Dividends from the REIT subsidiary are
no longer eligible for a dividends-received deduction. As a result of the
enactment of this legislation, the Company has ceased recording the tax
benefits associated with the dividend received deduction effective for the
2003 tax year.
In addition to the effect on 2003, the legislation is retroactive to
1999. The Company's 2003 results included a charge of $1.45 million
representing the additional state tax liability, including interest,
relating to the deduction for dividends received from the REIT for 2002 and
prior years.
Comparison of Financial Condition at December 31, 2002 and December 31, 2001
Consolidated assets increased $30.3 million, or 3.9%, to $813.0
million at December 31, 2002 from $782.7 million at December 31, 2001.
Securities increased $87.6 million, or 30.4%, to $375.6 million at
December 31, 2002 from $288.0 million at December 31, 2001. Federal Funds
sold increased $2.9 million to $37.2 million at December 31, 2002 from
$34.3 million at December 31, 2001 primarily because of the decrease in net
loans. Net loans during this period decreased by $56.3 million, or 13.6%,
to $357.2 million at December 31, 2002, from $413.5 million at December 31,
2001. Residential loans decreased $54.9 million from $212.8 million at
December 31, 2001 to $157.9 million at December 31, 2002. The decrease is
primarily the result of the current residential loan referral program with
a third party mortgage company. Under this program which commenced on
September 1, 2001, Westfield Bank refers its residential real estate
borrowers to a third party mortgage company and substantially all of the
Bank's residential real estate loans are underwritten, originated and
serviced by a third party mortgage company. The Bank receives a fee of 65
basis points for each of these loans originated. The Bank believes that
this program will diversify its loan portfolio and reduce interest risk.
In 2001, Westfield Bank securitized $35.7 million in thirty-year fixed rate
residential mortgage loans and $24.6 million in fifteen year fixed rate
residential mortgage loans with Fannie Mae. This transaction was done to
reduce interest rate risk as well as improve liquidity and enhance the
subsequent
57
saleability of the resulting securities. Because Westfield Bank retained
all beneficial interests in the resulting mortgage backed securities, the
securitization did not result in a material change in total assets.
Commercial and industrial loans increased $14.5 million, or 30.8 %, for the
year ended December 31, 2002.
Asset growth was funded by an increase in deposits of $19.0 million
or 3.0% to $656.1 million at December 31, 2002 from $637.1 million at
December 31, 2001. Demand deposits, NOW and money market accounts
increased $9.6 million and $12.5 million respectively, while regular
accounts increased $2.2 million to $44.9 million at December 31, 2002.
Time deposits decreased $5.3 million to $375.0 million at December 31, 2002
from $380.3 million at December 31, 2001.
Customer repurchase agreements increased $2.6 million or 42.6% to
$8.7 million at December 31, 2002 from $6.1 million at December 31, 2001.
A "customer repurchase agreement" is an agreement by Westfield Bank to sell
to and repurchase from the customer an interest in specific securities
issued by or guaranteed by the United States Government. This transaction
settles immediately on a same day basis in immediately available funds.
Interest paid is commensurate with other products of equal interest and
credit risk. Federal Home Loan Bank borrowings increased $15.0 million
from zero at December 31, 2001 to $15.0 million at December 31, 2002 to
take advantage of the current yield curve.
Stockholders' equity at December 31, 2002 and December 31, 2001 was
$126.7 million and $131.3 million, respectively, representing 15.6% and
16.8% of total assets. The change is comprised of net income of $4.0
million for the year ended December 31, 2002, a decrease in net unrealized
gains on securities available for sale of $562,000, net of income taxes,
the recording of the purchase of 380,150 shares of stock for the employee
stock ownership plan amounting to $5.6 million and shares for the
management recognition and retention plan amounting to $2.7 million and the
declaration by the Board of Directors of three $0.05 per share cash
dividends on March 26, June 28, and September 24, 2002 amounting to $1.6
million.
Comparison of Operating Results for the Year Ended December 31, 2002 and
December 31, 2001.
General
Net income was $4.0 million for the year ended December 31, 2002, a
decrease of $1.0 million, or 20%, compared with net income of $5.0 million
for the year ended December 31, 2001. The decrease was primarily
attributable to net losses from sales and writedowns of certain equity
securities of $1.8 million for 2002 compared with net gains of $830,000 for
the year ended December 31, 2001. Writedowns of certain equity securities
in 2002 resulted from impairment that was determined to be other than
temporary of $2.1 million. The provision for loan losses decreased
$696,000 from $1.6 million in 2001 to $934,000 for 2002. Noninterest
expense increased $760,000 while federal and state income taxes decreased
$273,000 and net interest and dividend income increased $1.7 million
compared with the prior year.
58
Interest and Dividend Income
Total interest and dividend income decreased $4.5 million or 9.5% to
$43.0 million for the year ended December 31, 2002 compared with $47.5
million for the same period in 2001. Interest and dividends on securities
increased $1.4 million to $13.6 million from $12.2 million as the company
invested principal paydowns on its residential real estate portfolio in
investment securities. Interest income on loans decreased $5.8 million due
to the decline of loans held in portfolio over the prior period. The
average balance of interest earning assets increased $87.1 million, or
12.9%. However, the yield on earning assets decreased from 7.03% in 2001
to 5.63% for 2002 due to the low interest rate environment.
Interest Expense
Interest expense decreased $6.2 million, or 24.8%, to $18.8 million
for 2002 compared to $25.0 million for 2001. The average balance of total
interest-bearing deposits increased $21.8 million in 2002 to $598.7
million, while the average cost of deposits decreased 119 basis points to
3.09% due to the low interest rate environment. The average balance of
customer repurchase agreements and other borrowings increased $1.1 million
from $7.2 million in 2001 to $8.3 million in 2002.
Net Interest and Dividend Income
Net interest and dividend income for 2002 was $24.2 million as
compared with $22.5 million for 2001. Net interest rate spread decreased
to 2.54% for 2002 from 2.75% for the prior year. Net interest margin
decreased to 3.18% for 2002 compared with 3.33% for 2001. The decrease in
interest rate spread and net interest margin was primarily the result of
the yield on earning assets falling more than the cost of interest-bearing
liabilities.
Provision for Loan Losses
During 2002, Westfield Bank provided $934,000 for loans losses,
compared to $1.6 million for 2001. The provision for loan losses brings
Westfield Bank's allowance for loan losses to a level determined
appropriate by management based on the methodology discussed under
"Allowance for Loan Losses". The allocation of the provision among loan
types and between the specific and formula components of the allowance for
loan losses is also determined based on the methodology discussed under
"Allowance for Loan Losses". The following factors resulted in an increase
in the provision for 2002 as compared to 2001.
* Loan concentrations - Commercial real estate loans and
commercial and industrial loans increased $16.0 million or
10.9%. Westfield Bank considers these types of loans to
contain more risk than conventional residential mortgages which
remained relatively constant as a percentage of the loan
portfolio. These increases resulted in an increase in the
allowance requirements for commercial real estate and
commercial and industrial loans. These increases were
partially offset by a decrease in consumer loans from $58.0
million at December 31, 2001 to $41.1 million at December 31,
2002, resulting in a decrease in the allowance requirement for
consumer loans.
59
* Credit quality - Actual loss experience on loans decreased
significantly with charge-offs totaling $928,000 in 2002 as
compared to $1.8 million in 2001. Net loans charged off as a
percent of average loans outstanding decreased from 0.26% in
2001 to 0.13% in 2002. Non-accrual loans decreased $300,000
from $2.7 million at December 31, 2001 to $2.4 million at
December 31, 2002.
As a result of the detailed allowance for loan loss methodology and
consideration of the above factors, management determined that an decrease
in the provision of $696,000 was appropriate.
The allowance for loan losses at the end of 2002 was 1.20% of total
loans compared with 0.94% at the end of 2001. The increase in the
coverage ratio reflects the changes in the loan portfolio described above.
Noninterest Income
Noninterest income decreased $2.9 million to ($362,000) in 2002 from
$2.5 million for 2001. Included in noninterest income in the year 2002
were writedown of certain equity securities of $2.5 million. Included in
noninterest in the year 2001 were life insurance proceeds of $300,000.
Fees received from our current residential loan referral program with a
third party mortgage company were $196,000 for the year ended December 31,
2002 compared with $17,000 for the same period in 2001.
Noninterest Expense
Noninterest expense for the year ended December 31, 2002 was $16.7
million compared to $15.9 million for the same period in 2001. Employee
salary and benefits for the year ended December 31, 2002 was $8.9 million
compared to $8.4 million in 2001. For the year ended December 31, 2002,
stock based benefit plans expense amounted to $302,000. Because the
Company converted to stock form on December 27, 2001, no stock based
benefit plans expense was recognized in 2001.
Income Taxes
Income taxes decreased $273,000, or 10.9%, to $2.2 million in 2002.
The effective tax rate was 35.6% in 2002 compared to 33.4% for 2001. The
effective tax rate also reflects the utilization of Westfield Securities
Corporation, a qualified securities corporation, and Elm Street Real Estate
Investments, Inc., a wholly-owned subsidiary of Westfield Bank, as a real
estate investment trust.
60
Liquidity and Capital Resources
The term "liquidity" refers to our ability to generate adequate
amounts of cash to fund loan originations, loan purchases, deposit
withdrawals and operating expenses. Our primary sources of liquidity are
deposits, scheduled amortization and prepayments of loan principal and
mortgage-backed securities, maturities and calls of investment securities
and funds provided by our operations. Westfield Bank also can borrow funds
from the Federal Home Loan Bank based on eligible collateral of loans and
securities. Outstanding borrowings from the Federal Home Loan Bank at
December 31, 2003 and 2002 were $20.0 million and $15.0 million,
respectively. At December 31, 2003, Westfield Bank's maximum borrowing
capacity from the Federal Home Loan Bank was approximately $38.9 million,
net of any outstanding borrowings. In addition, we may enter into reverse
repurchase agreements with approved broker-dealers. Reverse repurchase
agreements are agreements that allow us to borrow money using our
securities as collateral.
The Bank also has outstanding, at any time, a significant number of
commitments to extend credit and provide financial guarantees to third
parties. These arrangements are subject to strict credit control
assessments. Guarantees specify limits to the Bank's obligations. Because
many commitments and almost all guarantees expire without being funded in
whole or in part, the contract amounts are not estimates of future cash
flows. The Bank is also obligated under agreements with the FHLB to repay
borrowed funds and is obligated under leases for certain of its branches
and equipment. A summary of lease obligations, borrowings, and credit
commitments at December 31, 2003 follows:
61
After 1 Year After 3 Years
Within but Within but Within After
1 Year 3 Years 5 Years 5 Years Total
------ ------------ ------------- ------- -----
(In thousands)
<s> <c> <c> <c> <c> <c>
Lease Obligations
Operating lease obligations $ 187 $ 374 $ 155 $ - $ 716
======= ====== ======= ======== =======
Borrowings
Federal Home Loan Bank $ - $5,000 $15,000 $ - $20,000
======= ====== ======= ======== =======
Credit Commitments
Available lines of credit $43,427 $ - $ - $12,685 $56,112
Other loan commitments 27,014 - - 981 27,995
Letters of Credits 6,052 - - 749 6,801
------- ------ ------- ------- -------
Total $76,493 $ - $ - $14,415 $90,908
======= ====== ======= ======== =======
Maturing investment securities are a relatively predictable source of
funds. However, deposit flows, calls of securities and prepayments of
loans and mortgage-backed securities are strongly influenced by interest
rates, general and local economic conditions and competition in the
marketplace. These factors reduce the predictability of the timing of
these sources of funds.
Our primary investing activities are the origination of commercial
real estate, commercial and industrial and consumer loans, and the purchase
of mortgage-backed and other investment securities. During the year ended
December 31, 2003, Westfield Bank originated loans of approximately $148.8
million, and during the comparable period of 2002, Westfield Bank
originated loans of approximately $99.6 million. Under the Bank's
residential real estate loan program which commenced on September 1, 2001,
Westfield Bank refers its residential real estate borrowers to a third
party mortgage company and substantially all of the Bank's residential real
estate loans are underwritten, originated and serviced by a third party
mortgage company. Purchases of securities totaled $252.9 million for the
year ended December 31, 2003 and $270.0 million for the year ended December
31, 2002. At December 31, 2003, Westfield Bank had loan commitments to
borrowers of approximately $34.8 million, and available home equity and
unadvanced lines of credit of approximately $56.1 million.
Deposit flows are affected by the level of interest rates, by the
interest rates and products offered by competitors and by other factors.
Total deposits decreased $23.7 million during the year ended December 31,
2003 and increased $18.9 million during the year ended December 31, 2002.
Time deposit accounts scheduled to mature within one year were $234.7
million at December 31, 2003. Based on Westfield Bank's deposit retention
experience and current pricing strategy, it anticipates that a significant
portion of these certificates of deposit will remain on deposit. We
monitor our liquidity position frequently and anticipate that we will have
sufficient funds to meet our current funding commitments.
62
At December 31, 2003, we exceeded each of the applicable regulatory
capital requirements. Our tier 1 leverage capital was $124.0 million, or
15.31% to average assets. Our tier 1 capital to risk weighted assets was
$124.0 million or 28.46%. We had total capital to risk weighted assets of
$129.1 million or 29.63%.
We do not anticipate any material capital expenditures during
calendar year 2004, nor do we have any balloon or other payments due on any
long-term obligations or any off-balance sheet items other than the
commitments and unused lines of credit noted above.
Off-Balance Sheet Arrangement
The Company does not have any off-balance sheet arrangements that
have or are reasonably likely to have a current or future effect on the
Company's financial condition, changes in financial condition, revenues or
expenses, results of operations, liquidity, capital expenditures or capital
resources that is material to investors.
Management of Market Risk
As a financial institution, our primary market risk is interest rate
risk since substantially all transactions are denominated in U.S. dollars
with no direct foreign exchange or changes in commodity price exposure.
Fluctuations in interest rates will affect both our level of income and
expense on a large portion of our assets and liabilities. Fluctuations in
interest rates will also affect the market value of all interest earning
assets.
The primary goal of our interest rate management strategy is to limit
fluctuations in net interest income as interest rates vary up or down and
control variations in the market value of assets, liabilities and net worth
as interest rates vary. We seek to coordinate asset and liability decisions
so that, under changing interest rate scenarios, net interest income will
remain within an acceptable range.
To achieve the objectives of managing interest rate risk, Westfield
Bank's Asset and Liability Management Committee meets monthly to discuss
and monitor the market interest rate environment relative to interest rates
that are offered on its products. The Asset and Liability Management
Committee presents periodic reports to the Board of Directors of Westfield
Bank and Westfield Financial, Inc. at their regular meetings.
Historically, Westfield Bank's lending activities have emphasized
residential real estate and commercial real estate loans. However, since
1996, Westfield Bank has increased its emphasis on commercial and consumer
lending and deposit relationships. Commercial and industrial loans have
grown $67.0 million or 367.4%, since December 31, 1996. Commercial and
industrial loans have also grown 38.3% since December 31, 2001. Consumer
loans decreased $35.8 million, or 61.6%, since December 31, 2001. The
indirect automobile loan portfolio grew substantially in 1999 as a result
of aggressive pricing and the addition of several new automobile dealers.
Management curtailed its indirect lending beginning in fiscal year 2000 and
in the fourth quarter of 2003 the program was discontinued. We believe
that Westfield Bank's increased emphasis on commercial lending will allow
it to diversify its loan portfolio while continuing to meet the needs of
the businesses and individuals that it serves.
63
Westfield Bank's primary source of funds has been deposits,
consisting primarily of time deposits, money market accounts, savings
accounts, demand accounts and NOW accounts, which have shorter terms to
maturity than the loan portfolio. Several strategies have been employed to
manage the interest rate risk inherent in the asset/liability mix,
including but not limited to:
* maintaining the diversity of our existing loan portfolio
through the origination of commercial loans and commercial real
estate loans which typically have variable rates and shorter
terms than residential mortgages; and
* emphasizing investments with expected short-term maturities of
five years or less.
In addition, emphasis on commercial loans has reduced the average
maturity of Westfield Bank's loan portfolio. Moreover, the actual amount
of time before loans are repaid can be significantly affected by changes in
market interest rates. Prepayment rates will also vary due to a number of
other factors, including the regional economy in the area where the loans
were originated, seasonal factors, demographic variables and the
assumability of the loans. However, the major factors affecting prepayment
rates are prevailing interest rates, related financing opportunities and
competition. We monitor interest rate sensitivity so that we can adjust
our asset and liability mix in a timely manner and minimize the negative
effects of changing rates.
Each of the Westfield Bank's sources of liquidity is vulnerable to
various uncertainties beyond the control of the Westfield Bank. Scheduled
loan and security payments are a relatively stable source of funds, while
loan and security prepayments and calls, and deposit flows vary widely in
reaction to market conditions, primarily prevailing interest rates. Asset
sales are influenced by pledging activities, general market interest rates
and unforeseen market conditions. The Westfield Bank's financial condition
is affected by its ability to borrow at attractive rates, retain deposits
at market rates and other market conditions. Management considers the
Westfield Bank's sources of liquidity to be adequate to meet expected
funding needs and also to be responsive to changing interest rate markets.
Net Interest and Dividend Income Simulation. We use a simulation
model to monitor interest rate risk. This model reports the net interest
income at risk primarily under seven different interest rate environments.
Specifically, net interest income is measured in one scenario that assumes
no change in interest rates, and six scenarios where interest rates
increase and decrease, 100, 200 and 300 basis points, respectively, from
current rates over the one year time period following the current
consolidated financial statement.
The changes in interest income and interest expense due to changes in
interest rates reflect the rate sensitivity of our interest earning assets
and interest bearing liabilities. For example, in a rising interest rate
environment, the interest income from an adjustable rate loan is likely to
increase depending on its repricing characteristics while the interest
income from a fixed rate loan would not increase until the funds were
repaid and loaned out at a higher interest rate.
64
The tables below set forth as of December 31, 2004 the estimated
changes in net interest and dividend income that would result from
incremental changes in interest rates over the applicable twelve-month
period.
For the Twelve Months Ending December 31, 2004
(Dollars in thousands)
----------------------------------------------
Changes in Net Interest
Interest Rates and Dividend
(Basis Points) Income % Change
-------------- ------------ --------
<s> <c> <c>
300 25,349 0.4%
200 25,164 -0.3
100 25,598 1.4
0 25,243 N/A
-100 25,456 0.8
-200 25,654 1.6
-300 24,636 -2.4
Market rates were assumed to increase and decrease 100 basis points,
200 basis points, and 300 basis points in even increments over the twelve
month period. The repricing and/or new rates of assets and liabilities
moved in tandem with market rates. However, in certain deposit products,
the use of data from a historical analysis indicated that the rates on
these products would move only a fraction of the rate change amount.
As interest rates declined during 2001 through 2003, Westfield Bank
experienced an increase in core deposits and a decrease in term deposits.
Banks nationwide have reported this trend as well. With term deposit rates
at such low levels, there is little incentive for bank customers to lock up
funds in term deposits. Management believes that in a rising rate
environment, Westfield Bank will experience a shift, by some customers, out
of core deposits and back into term deposits. Based upon analysis,
Management has estimated what is believed to be the rate sensitive portion
of the funds currently in core deposits. In scenarios that assume a rising
rate environment of 200 basis points or more, this shift is incorporated
into the balance sheet forecasts.
The Company developed consolidated balance sheet growth projections
for the twelve month period. The same product mix and growth strategy was
used for all rate change simulations, except for the shift into term
deposits in certain scenarios as described in the previous paragraph.
Income from tax-exempt assets is calculated on a fully taxable equivalent
basis.
Pertinent data from each loan account, deposit account and investment
security was used to calculate future cash flows. The data included such
items as maturity date, payment amount, next repricing date, repricing
frequency, repricing index and spread. Prepayment speed assumptions were
based upon the difference between the account rate and the current market
rate.
65
Another circumstance that affects the results is that market rates as
of December 31, 2003 are near historical lows. In the three declining rate
scenarios, Westfield Bank forecasted that its rates on some deposit
products would not fall as sharply as market rates. For example, because
the rate on regular savings accounts is 0.50%, it is not possible for the
rate to decrease by 100 basis points or more.
Recent Accounting Pronouncements
In January 2003, the FASB issued Interpretation No. 46,
"Consolidation of Variable Interest Entities" ("FIN 46"), which requires an
enterprise to assess if consolidation is appropriate based upon its
variable economic interests in variable interest entities ("VIEs"). The
initial determination of whether an entity is a VIE shall be made on the
date at which an enterprise becomes involved with the entity. An entity is
considered to be a VIE if it lacks a sufficient amount of voting equity
interests (e.g. 10% of total assets) that are subject to the risk of loss
or residual return of the entity. An enterprise shall consolidate a VIE if
it has a variable interest that will absorb a majority of the VIE's
expected losses if they occur, receive a majority of the entity's expected
residual returns if they occur or both. A direct or indirect ability to
make decisions that significantly affect the results of the activities of a
VIE is a strong indication that an enterprise has one or both of the
characteristics that would require consolidation of the VIE. In December
2003, FASB issued a revised interpretation, FIN 46R that delays the
effective date until after 2003.
In April 2003, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 149, Amendment of Statement
133 on Derivative Instruments and Hedging Activities (SFAS No. 149), which
amends and clarifies financial accounting and reporting for derivative
instruments, including certain derivative instruments embedded in other
contracts (collectively referred to as derivatives) and for hedging
activities under FASB Statement No. 133, Accounting for Derivative
Instruments and Hedging Activities. The provisions of SFAS No. 149 are
generally effective for contracts entered into or modified after June 30,
2003 and are to be applied prospectively.
In May 2003, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 150, Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity
(SFAS No. 150), which establishes standards for how an issuer classifies
and measures certain financial instruments with characteristics of both
liabilities and equity. SFAS No. 150 requires an issuer to classify certain
instruments as liabilities (or assets in some circumstances) which may have
previously been classified as equity. This statement is effective for
financial instruments entered into or modified after May 31, 2003, and
otherwise was effective at the beginning of the first interim period
beginning after June 15, 2003. Certain provisions of SFAS No.150 related to
the application of paragraphs 9 and 10 have been deferred indefinitely.
The adoption of the effective provisions of these standards did not
have a material effect on the Company's audited consolidated financial
statements. The adoption of the remaining provisions of these standards is
not expected to have a material effect on its consolidated financial
statements.
66
In its November 2003 meeting, the Emerging Issues Task Force (EITF)
reached a consensus relating to disclosure requirements under EITF No. 03-
01 "The Meaning of Other-Than-Temporary Impairment and Its Application to
Certain Investments" (EITF No. 03-01). This issue addresses how to
determine the meaning of other-than-temporary in accounting for impairments
and its application to certain investments. The disclosure requirements
are effective for the Company's December 31, 2003 year end and have been
incorporated in the notes to the consolidated financial statements.
Impact of Inflation and Changing Prices
The Consolidated Financial Statements and accompanying Notes of
Westfield Financial have been prepared in accordance with Accounting
Principles Generally Accepted in the United States of America ("GAAP").
GAAP generally requires the measurement of financial position and operating
results in terms of historical dollars without consideration for changes in
the relative purchasing power of money over time due to inflation. The
impact of inflation is reflected in the increased cost of our operations.
Unlike industrial companies, our assets and liabilities are primarily
monetary in nature. As a result, changes in market interest rates have a
greater impact on performance than do the effects of inflation.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
See Item 7, Management's Discussion and Analysis of Financial
Condition and Results of Operations, Management of Market Risk, pages 62 -
65, for a discussion of Quantitative and Qualitative Disclosures About
Market Risk.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The following financial statements are incorporated by reference to the
indicated pages of the 2003 Annual Report to Stockholders.
Independent Auditor's Report F-1
Consolidated Balance Sheets as of December 31, 2003 and 2002 F-2
Consolidated Statements of Income for the Years F-3
Ended December 31, 2003, 2002 and 2001
Consolidated Statements of Changes in Stockholders' F-4
Equity for the Years Ended December 31, 2003, 2002 and 2001
Consolidated Statements of Cash Flows for the Years F-5
Ended December 31, 2003, 2002 and 2001
Notes to Consolidated Financial Statements F-6 - F-35
67
All schedules are omitted because they are not required or
applicable, or the required information is shown in the consolidated
financial statements or notes thereto.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
ITEM 9A. CONTROLS AND PROCEDURES
Management, including Westfield Financial's President and Chief
Executive Officer and Chief Financial Officer and Treasurer, has evaluated
the effectiveness of Westfield Financial's disclosure controls and
procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) as of
the end of the period covered by this report. Based upon that evaluation,
Westfield Financial's President and Chief Executive Officer and Chief
Financial Officer and Treasurer concluded that the disclosure controls and
procedures were effective, in all material respects, to ensure that
information required to be disclosed in the reports Westfield Financial
files and submits under the Exchange Act is recorded, processed, summarized
and reported as and when required.
There have been no changes in Westfield Financial's internal control
over financial reporting identified in connection with the evaluation that
occurred during Westfield Financial's last fiscal quarter that has
materially affected, or that is reasonably likely to materially affect,
Westfield Financial's internal control over financial reporting.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The following information included in the Company's Proxy Statement
for the 2004 Annual Meeting of Stockholders (the "Proxy Statement") is
incorporated herein by reference: "Election of Directors," Nominees for
Election as Director," "Continuing Directors", "Executive Officers," and
"Section 16(a) Beneficial Ownership Reporting Compliance.
Code of Ethics
Westfield Financial has adopted a Conflict of Interest Policy and
Code of Conduct, which applies to all employees and officers of Westfield
Financial and Westfield Bank. Westfield Financial has also adopted a Code
of Ethics for Senior Financial Officers of Westfield Financial, Inc., which
applies to Westfield Financial's principal executive officer, principal
financial officer, principal accounting officer or controller or person
performing similar functions for Westfield Financial and Westfield Bank,
and which requires compliance with the Conflict of Interest Policy and Code
of Conduct. The Code of Ethics for Senior Financial Officers of Westfield
Financial meets the requirements of a "code of ethics" as defined by Item
406 of Regulation S-K. The Code of Ethics for Senior Financial Officers is
filed as exhibit 14.1 to this report
68
ITEM 11. EXECUTIVE COMPENSATION
The following information included in the Proxy Statement is
incorporated herein by reference: "Management Salary Compensation
Committee Report on Executive Compensation," "Compensation Committee
Interlocks and Insider Participation," "Performance Graph," "Directors'
Compensation," "Executive Compensation," "Employment Agreements," and
"Benefits."
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following information included in the Proxy Statement is
incorporated herein by reference: "Security Ownership of Certain
beneficial Owners and Management-Principal Shareholders of the "Company,"
and "Security Ownership of Management."
Number of securities
Number of securities remaining available for
To be issued Weighted-average future issuance under
Upon exercise of exercise price of equity compensation plans
Outstanding options, outstanding options, (excluding securities
Plan category warrants and rights warrants and rights reflected in column (a))
- -------------- -------------------- -------------------- -------------------------
(a) (b) (c)
<s> <c> <c> <c>
Equity compensation
plans approved by
security holders 444,500 $14.39 211,704
Equity compensation
plans not approved by
security holders - - -
------- ------ -------
Total 444,500 $14.39 211,704(1)
======= ====== =======
<FN>
<F1> Reflects 50,760 shares reserved for future grant under the Westfield
Financial, Inc. 2002 Stock Option Plan, 151,840 shares subject to
current restricted stock awards under the Westfield Financial, Inc.
2002 Recognition and Retention Plan ("RRP") and 9,104 shares reserved
for future awards under the RRP.
</FN>
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The following information included in the Proxy Statement is
incorporated herein by reference: "Compensation of Directors and Executive
Officers - Transactions with Certain Related Persons."
69
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Information regarding the aggregate fees billed for each of the last
two fiscal years by Westfield Financial's principal accountant is included
under the heading "Principal Accountant Fees and Services" in Westfield
Financial's Proxy Statement for its Annual Meeting of Shareholders to be
held on April 23, 2004, which will be filed with the SEC on or about April
15, 2004 and is incorporated herein by reference.
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
Listed below are all financial statements and exhibits filed as part
of this report:
a. Financial Statements, Schedules, and Exhibits
(1) The consolidated balance sheets of Westfield Financial, Inc.
and subsidiaries as of December 31, 2003 and 2002 and the
related consolidated statements of income changes in
stockholders equity and cash flows for each of the years in the
three-year period ended December 31, 2003, together with the
related notes and independent auditors' report of Deloitte &
Touche LLP, independent certified public accountants.
(2) Schedules omitted as they are not applicable.
(3) See Exhibit Index.
b. Reports on Form 8-K
Westfield Financial filed a Form 8-K on October 27, 2003
furnishing to the Commission a press release announcing
Westfield Financial's earnings for the period ended September
30, 2003.
Exhibit Description
2.1 Plan of Reorganization and Minority Stock Issuance of
Westfield Mutual Holding Company, as amended. *
3.1 Articles of Organization of Westfield Financial, Inc.*
3.2 Bylaws of Westfield Financial, Inc. *
3.3 Amended and Restated Charter of Westfield Mutual Holding
Company*
3.4 Amended and Restated Bylaws of Westfield Mutual Holding
Company*
4.1 Articles of Organization of Westfield Financial, Inc. (See
Exhibit 3.1)*
4.2 Bylaws of Westfield Financial, Inc. (See Exhibit 3.2)*
4.3 Form of Stock Certificate of Westfield Financial, Inc.*
10.1 Form of Employee Stock Ownership Plan of Westfield
Financial, Inc.*
10.2 Form of the Benefit Restoration Plan of Westfield Financial,
Inc.*
10.3 Form of Employment Agreement between Donald A. Williams and
Westfield Financial, Inc.*
10.4 Form of Employment Agreement between Victor J. Carra and
Westfield Financial, Inc.*
10.5 Form of Employment Agreement between Michael J. Janosco, Jr.
and Westfield Financial, Inc.*
10.6 Form of One Year Change in Control Agreement by and among
certain officers and Westfield Financial, Inc. and Westfield
Bank*
10.7 Form of Directors' Deferred Compensation Plan*
10.8 The SBERA 401(k) Plan adopted by Westfield Bank**
10.9 Amendments to the Employee Stock Ownership Plan of Westfield
Financial, Inc.
14.1 Code of Ethics
70
21.1 Subsidiaries of the Registrant*
23.1 Consent of Deloitte & Touche LLP
31.1 Rule 13a - 14(a)/15d - 14(a) Certifications
32.1 Section 1350 Certifications
<FN>
* Incorporated herein by reference to the Registration Statement No.
333-68550, on Form S-1 of Westfield Financial filed with the SEC on
August 28, 2001, as amended.
** Incorporated herein by reference to the Registration Statement No.
333-73132, on Form S-8, filed with the SEC on November 9, 2001,
as amended.
*** Incorporated by reference to the Annual Report on Form 10K for the year
ended December 31, 2002 as filed with the SEC on March 31, 2003.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized, on
March 10, 2004.
Westfield Financial, Inc.
By: /s/ Donald A. Williams
-------------------------
Donald A. Williams
President and Chief Executive
Officer
71
Pursuant to the requirements of the Securities Act of 1933, as
amended, and any rules and regulations promulgated thereunder, this Annual
Report on Form 10-K, has been signed by the following persons in the
capacities and on the dates indicated.
Name Title Date
---- ----- ----
<s> <c> <c>
/s/ Donald A. Williams President, Chief Executive March 10, 2004
- ----------------------------- Officer and Director
Donald A. Williams (Principal Executive Officer)
/s/ Victor J. Carra Executive President and March 10, 2004
- ----------------------------- Director
Victor J. Carra
/s/ Michael J. Janosco, Jr. Chief Financial Officer and March 10, 2004
- ----------------------------- Treasurer (Principal
Michael J. Janosco, Jr. Accounting Officer)
/s/ David C. Colton, Jr. Director March 10, 2004
- -----------------------------
David C. Colton, Jr.
/s/ Robert T. Crowley, Jr Director March 10, 2004
- -----------------------------
Robert T. Crowley, Jr.
Director March 10, 2004
- -----------------------------
Thomas J. Howard
Director March 10, 2004
- -----------------------------
Harry C. Lane
Director March 10, 2004
- -----------------------------
William H. McClure
/s/ Mary C. O'Neil Director March 10, 2004
- -----------------------------
Mary C. O'Neil
Director March 10, 2004
- -----------------------------
Richard C. Placek
Director March 10, 2004
- -----------------------------
Paul R. Pohl
/s/ Charles E. Sullivan Director March 10, 2004
- -----------------------------
Charles E. Sullivan
/s/ Thomas C. Sullivan Director March 10, 2004
- -----------------------------
Thomas C. Sullivan
72
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders
Westfield Financial, Inc.
We have audited the accompanying consolidated balance sheets of Westfield
Financial, Inc. and subsidiaries (the "Company") as of December 31, 2003
and 2002 and the related consolidated statements of income, changes in
stockholders' equity, and cash flows for each of the three years in the
period ended December 31, 2003. These consolidated financial statements
are the responsibility of the Company's management. Our responsibility is
to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we
plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures
in the financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as
well as evaluating the overall financial statement presentation. We
believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of Westfield Financial, Inc.
and subsidiaries as of December 31, 2003 and 2002, and the results of their
operations and their cash flows for each of the three years in the period
ended December 31, 2003 in conformity with accounting principles generally
accepted in the United States of America.
/s/Deloitte & Touche, LLP
March 10, 2004
Hartford, Connecticut
F-1
WESTFIELD FINANCIAL, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in Thousands Except Per Share Amounts)
December 31,
---------------------
2003 2002
---- ----
<s> <c> <c>
ASSETS
CASH AND DUE FROM BANKS $ 11,740 $ 11,975
FEDERAL FUNDS SOLD 15,930 37,233
INTEREST-BEARING DEPOSITS 18,004 7,367
-------- --------
CASH AND CASH EQUIVALENTS 45,674 56,575
-------- --------
SECURITIES:
Available for Sale - at estimated fair value 25,806 79,842
Held To Maturity - at amortized cost (estimated
fair value of $71,003 in 2003 and $46,582 in 2002) 69,927 45,960
MORTGAGE BACKED SECURITIES:
Available for Sale - at estimated fair value 76,177 90,468
Held to Maturity - at amortized cost (estimated
fair value of $191,511 in 2003 and $161,497 in 2002) 191,683 159,339
FEDERAL HOME LOAN BANK OF BOSTON AND OTHER STOCK 4,237 3,933
LOANS - Net of allowance for loan losses
of $4,642 in 2003 and $4,325 in 2002 344,980 357,155
PREMISES AND EQUIPMENT - Net 11,774 12,851
ACCRUED INTEREST AND DIVIDENDS 3,555 3,937
BANK OWNED LIFE INSURANCE 16,507 -
OTHER ASSETS 4,896 2,920
-------- --------
TOTAL ASSETS $795,216 $812,980
======== ========
LIABILITIES AND EQUITY
LIABILITIES:
DEPOSITS:
Noninterest-bearing $ 54,620 $ 54,736
Interest-bearing 577,811 601,329
-------- --------
Total deposits 632,431 656,065
-------- --------
CUSTOMER REPURCHASE AGREEMENTS 12,135 8,724
FEDERAL HOME LOAN BANK OF BOSTON ADVANCES 20,000 15,000
OTHER LIABILITIES 5,846 6,492
-------- --------
TOTAL LIABILITIES 670,412 686,281
-------- --------
STOCKHOLDERS' EQUITY:
Preferred stock - $.01 par value, 5,000,000 shares authorized,
none outstanding at December 31, 2003 and 2002 - -
Common stock - $.01 par value, 25,000,000 shares authorized,
10,580,000 shares issued, 10,522,300 and 10,154,150 shares
outstanding at December 31, 2003 and December 31, 2002,
respectively 106 106
Additional paid-in capital 47,143 49,463
Unallocated Common Stock of Employee Stock Ownership Plan (5,837) (5,621)
Restricted stock unearned compensation (2,094) (2,731)
Retained earnings 85,794 84,264
Accumulated other comprehensive income 788 1,218
Treasury stock, at cost (57,700 shares at December 31, 2003
and none at December 31, 2002) (1,096) -
-------- --------
Total stockholders' equity 124,804 126,699
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $795,216 $812,980
======== ========
See notes to consolidated financial statements.
F-2
WESTFIELD FINANCIAL, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Dollars in thousands except per share amounts)
2003 2002 2001
---- ---- ----
<s> <c> <c> <c>
INTEREST AND DIVIDEND INCOME:
Residential and commercial real estate loans $15,834 $20,166 $24,737
Securities and mortgage backed securities 12,359 13,591 12,184
Consumer loans 2,440 4,113 5,577
Commercial and industrial loans 4,002 3,756 3,477
Federal funds sold 170 416 562
Marketable equity securities 526 603 401
Interest-bearing deposits 304 368 605
------- ------- -------
Total interest and dividend income 35,635 43,013 47,543
------- ------- -------
INTEREST EXPENSE:
Deposits 13,122 18,561 24,730
Customer repurchase agreements 211 213 246
Other borrowings 525 1 26
------- ------- -------
Total interest expense 13,858 18,775 25,002
------- ------- -------
Net interest and dividend income 21,777 24,238 22,541
PROVISION FOR LOAN LOSSES 750 934 1,630
------- ------- -------
Net interest and dividend income
after provision for loan losses 21,027 23,304 20,911
------- ------- -------
NONINTEREST INCOME:
Income from bank owned life insurance 806 - -
Service charges and fees 1,859 1,388 1,687
Gains (losses) on sales and writedowns
of securities, net 409 (1,750) 830
------- ------- -------
Total noninterest income 3,074 (362) 2,517
------- ------- -------
NONINTEREST EXPENSE:
Salaries and employee benefits 9,685 8,906 8,416
Occupancy 1,802 1,799 1,788
Computer operations 1,667 1,534 1,487
Stationery, supplies and postage 560 511 574
Other 3,916 3,909 3,634
------- ------- -------
Total noninterest expense 17,630 16,659 15,899
------- ------- -------
INCOME BEFORE INCOME TAXES 6,471 6,283 7,529
INCOME TAXES 2,820 2,239 2,512
------- ------- -------
NET INCOME $ 3,651 $ 4,044 $ 5,017
======= ======= =======
EARNINGS PER COMMON SHARE:
Basic $ 0.36 0.39 N/A
Diluted $ 0.36 0.38 N/A
See notes to consolidated financial statements.
F-3
WESTFIELD FINANCIAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(Dollars in Thousands)
Accumulated
Additional Other
Common Paid-In Unallocated Unearned Retained Comprehensive Treasury Stock
Stock Capital ESOP Compensation Earnings Income Shares Amount Total
------ ---------- ----------- ------------ -------- ------------- ------ ------ -----
<s> <c> <c> <c> <c> <c> <c> <c> <c> <c>
BALANCE, JANUARY 1, 2001 $ - $ - $ - $ - $76,791 $ 964 - $ - $ 77,755
Comprehensive income:
Net income - - - - 5,017 - - - 5,017
Unrealized gains on securities
arising during the year,
net of tax of $681 - - - - - 1,360 - - 1,360
Reclassification for gains
included in net income,
net of taxes of $273 - - - - - (544) - - (544)
--------
Comprehensive income - - - - - - - - 5,833
Net proceeds from sale
of common stock 106 47,723 - - - - 47,829
Capital Distribution to
the parent Company - (100) - - - - - - (100)
---- ------- ------- ------- ------- ------- --- ------- --------
BALANCE, DECEMBER 31, 2001 106 47,623 - - 81,808 1,780 - - 131,317
Comprehensive income:
Net income - - - - 4,044 - - - 4,044
Unrealized losses on securities
arising during the year,
net of tax of $911 - - - - - (1,689) - - (1,689)
Reclassification for gains
included in net income,
net of taxes of $623 - - - - - 1,127 - - 1,127
--------
Comprehensive income - - - - - - - - 3,482
Activity related to common stock
issued as Employee incentives - 2,052 (5,621) (2,731) - - - - (6,300)
Costs associated with
stock conversion - (212) - - - - - - (212)
Cash dividends declared - - - - (1,588) - - - (1,588)
---- ------- ------- ------- ------- ------- --- ------- --------
BALANCE, DECEMBER 31, 2002 106 49,463 (5,621) (2,731) 84,264 1,218 - - 126,699
Comprehensive income:
Net income - - - - 3,651 - - - 3,651
Unrealized losses on securities
arising during the year,
net of tax benefit of $92 - - - - - (167) - - (167)
Reclassification for gains
included in net income,
net of taxes of $146 - - - - - (263) - - (263)
--------
Comprehensive income - - - - - - - - 3,221
Activity related to common stock
issued as employee incentives - (2,320) (216) 637 - - - - (1,899)
Treasury stock purchased - - - - - - (60) (1,134) (1,134)
Reissuance of treasury shares
in connection with stock
option exercises - - - - (8) - 2 38 30
Cash dividends declared - - - - (2,113) - - - (2,113)
---- ------- ------- ------- ------- ------- --- ------- --------
BALANCE, DECEMBER 31, 2003 $106 $47,143 $(5,837) $(2,094) $85,794 $ 788 (58) $(1,096) $124,804
==== ======= ======= ======= ======= ======= === ======= ========
See notes to consolidated financial statements.
F-4
WESTFIELD FINANCIAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(Dollars in Thousands)
Years Ended December 31,
----------------------------------
2003 2002 2001
---- ---- ----
<s> <c> <c> <c>
OPERATING ACTIVITIES:
Net Income $ 3,651 $ 4,044 $ 5,017
Adjustments to reconcile net income to
net cash provided by operating activities:
Provision for loan losses 750 934 1,630
Valuation adjustment of other real estate owned - (77) 30
Other than temporary write-down of securities 85 2,105 315
Depreciation of premises and equipment 1,080 1,052 1,100
Net amortization of premiums and discounts of
securities, mortgage backed securities and
mortgage loans 3,273 1,601 341
Amortization of deferred compensation 769 302 -
Gain on sale of other real estate owned - (62) (15)
Gain on sale of fixed assets (50) - -
Gain on sales of securities - net (494) (355) (1,145)
Deferred income tax (benefit) provision (992) (2,843) 2,857
Changes in assets and liabilities:
Accrued interest and dividends 382 264 (29)
Other assets (708) 905 (308)
Other liabilities (646) (428) (1,044)
-------- -------- --------
Net cash provided by operating activities 7,100 7,442 8,749
-------- -------- --------
INVESTING ACTIVITIES:
Securities, held to maturity:
Purchases (61,941) (42,389) (28,099)
Proceeds from maturities and principles collections 37,980 42,053 22,043
Securities, available for sale:
Purchases (19,883) (37,445) (29,421)
Proceeds from sales 34,595 4,222 6,478
Proceeds from calls, maturities and
principal collections 40,610 23,598 24,466
Mortgage backed securities, held to maturity:
Purchases (127,681) (129,145) (89,761)
Principal collections 93,000 49,839 15,135
Mortgage backed securities, available for sale:
Purchases (43,383) (60,975) (50,736)
Proceeds from sales 8,104 20,214 52,807
Principal collections 47,111 38,236 24,747
Purchase of Federal Home Loan Bank of Boston
and other stock (304) (299) (188)
Net increase (decrease) in loans 11,359 55,484 (10,366)
Proceeds from sale or other real estate owned - 301 72
Net purchases of premise and equipment (452) (322) (2,937)
Proceeds from sale of fixed assets 499 - -
Purchase of Bank owned life insurance (16,507) - -
-------- -------- --------
Net cash used in investing activities 3,107 (36,628) (65,760)
-------- -------- --------
FINANCING ACTIVITIES:
(Decrease) increase in deposits (23,634) 18,956 35,213
Increase (decrease) in customer repurchase agreements 3,411 2,663 (1,625)
Activity related to common stock in connection
with employee benefit plan (2,668) (6,301) -
Federal Home Loan Bank of Boston advances, net 5,000 15,000 -
Net proceeds received from stock offering - - 47,829
Capital Distribution to the Parent Company - - (100)
Cash dividends paid (2,113) (1,588) -
Treasury stock purchased (1,134) - -
Reissuance of treasury shares in connection
with stock option exercises 30 - -
Stock issuance costs - (4) -
-------- -------- --------
Net cash (used in) provided by financing activities (21,108) 28,726 81,317
-------- -------- --------
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (10,901) (460) 24,306
CASH AND CASH EQUIVALENTS:
Beginning of year 56,575 57,035 32,729
-------- -------- --------
End of Year $ 45,674 $ 56,575 $ 57,035
======== ======== ========
See notes to consolidated financial statements
F-5
WESTFIELD FINANCIAL, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2003, 2002, AND 2001
1. REORGANIZATION AND STOCK OFFERING
On December 27, 2001, the Board of Directors of Westfield Mutual
Holding Company ("Mutual Holding Company") completed a plan of
reorganization (the "Plan") whereby the Mutual Holding Company formed
a mid-tier stock holding company ("Westfield Financial, Inc." or the
"Company") and exchanged 100% of the common stock of Westfield Bank
(the "Bank") for a majority interest in Westfield Financial, Inc.
Pursuant to the Plan, shares of Westfield Financial, Inc. were
offered for subscription by depositors with eligible accounts at the
Bank as of specified dates. The Company issued 10,580,000 shares of
Common Stock (par value $0.01 per share) at a price of $10.00 per
share, of which 47% of these shares, or 4,972,600 shares, were sold
to the public, including depositors of the Bank and 53% of these
shares, or 5,607,400 shares, were issued to the Mutual Holding
Company. Net proceeds from the stock offering totaled $47.7 million.
Costs related to the reorganization were charged against the proceeds
from the shares sold in the reorganization. Reorganization costs of
approximately $2.3 million were incurred.
In connection with the reorganization, a "Liquidation Account" was
established in an amount equal to the net worth of the Mutual Holding
Company set forth in its latest consolidated statement of financial
condition contained in the reorganization prospectus. The function
of the Liquidation Account is to establish a priority on liquidation
to the assets of the Company to Eligible Account Holders (as defined
in the Plan) who continue to maintain deposits in the Bank after the
reorganization. In the unlikely event of a complete liquidation of
the Company, and only in such event, each Eligible Account Holder
would receive from the Liquidation Account a liquidation distribution
based on the their proportionate share of the then remaining
qualifying deposits.
Current regulations allow the Bank to pay dividends on its stock if
its regulatory capital would not thereby be reduced below the amount
then required for the aforementioned Liquidation Account. Also,
capital distribution regulations limit the Bank's ability to make
capital distributions which include dividends, stock redemptions and
repurchases and other transactions charged to the capital accounts
based on their capital level and supervisory condition. Federal
regulations also limit any repurchase of the stock for the Bank or
its holding company for three years after reorganization except for
repurchases pursuant to an open-market stock repurchase program with
certain regulatory criteria and approval of the FDIC.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations and Basis of Presentation - Westfield Financial,
Inc. is a Massachusetts security corporation. The Company has a
state chartered stock savings bank subsidiary called Westfield Bank
(the "Bank"). The Bank's deposits are insured to the limits
specified by the Federal Deposit Insurance Corporation ("FDIC") and
the Deposit Insurance Fund ("DIF"), a corporation formed by the
Massachusetts' legislature. The Bank operates 10 branches in Western
Massachusetts. The Bank's primary source of revenue is earned from
loans to small and middle-market businesses and to residential
property homeowners.
F-6
On September 23, 2003 the Company adopted an amended plan of charter
conversion pursuant to which the Bank, and Westfield Mutual Holding
Company (the "MHC") will convert to federal charters.
In 1998, the Bank formed a subsidiary, Elm Street Real Estate
Investments, Inc. (the "REIT"). The REIT was 99.9% owned by the
Bank. In December 2003, the Bank dissolved the REIT to streamline the
overall bank structure. Westfield Securities Corp., a Massachusetts
chartered security corporation, was formed in 2001 by the Company for
the primary purpose of holding qualified investment securities. In
2003, the Bank formed another wholly owned subsidiary, Elm Street
Securities Corporation, a Massachusetts chartered security
corporation for the primary purpose of holding quality investment
securities.
Principles of Consolidation - The consolidated financial statements
include the accounts of the Company, the Bank, Westfield Securities
Corp., Elm Street Securities Corporation, and the REIT prior to its
dissolution. All material intercompany balances and transactions
have been eliminated in consolidation.
Estimates - The preparation of consolidated financial statements in
conformity with accounting principles generally accepted in the
United States of America requires management to make estimates and
assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at
the date of the consolidated financial statements and the reported
amounts of income and expenses for each. Actual results could differ
from those estimates. Estimates that are particularly susceptible to
significant change in the near-term relate to the determination of
the allowance for loan losses, other than temporary impairment of
investment securities and accrued liabilities for pension and other
post retirement benefits.
Cash and Cash Equivalents - The Company defines cash on hand, cash
due from banks, federal funds sold and interest bearing deposits
having an original maturity of 90 days or less as cash and cash
equivalents. Cash and due from banks at December 31, 2003 and 2002
includes partially restricted cash of approximately $154,000, and
$220,000 respectively, for Federal Reserve Bank of Boston cash
reserve requirements.
Securities and Mortgage Backed Securities - Securities, including
mortgage backed securities, which management has the positive intent
and ability to hold until maturity are classified as held to maturity
and are carried at amortized cost. Securities, including mortgage
backed securities, which have been identified as 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, net of income taxes, reported as a separate
component of stockholders' equity. The Company does not acquire
securities and mortgage backed securities for purposes of engaging in
trading activities.
Realized gains and losses on sales of securities and mortgage backed
securities are computed using the specific identification method and
are included in noninterest income. The amortization of premiums and
accretion of discounts is determined by using the level yield method
to the earlier of the call or maturity date.
Other than Temporary Impairment of Securities - On a quarterly basis,
the Company reviews available for sale investment securities with
unrealized depreciation on a judgmental basis to assess whether the
decline in fair value is temporary or other than temporary. The
Company judges whether the decline in value is from company-specific
events, industry developments, general economic conditions or other
reasons. Once the estimated reasons for the decline are identified,
further judgements are required as to whether those conditions are
likely to reverse and, if so, whether that reversal is likely to
result in a recovery of the fair value of the investment in the near
term. Unrealized losses which are not expected to reverse in the
near term are charged to gains (losses) on sales and writedowns of
securities in the consolidated statements of income.
F-7
Loans - Loans are recorded at the principal amount outstanding.
Interest on loans is calculated using the effective yield method on
daily balances of the principal amount outstanding and is credited to
income on the accrual basis to the extent it is deemed collectible.
The Company's general policy is to discontinue the accrual of
interest when principal or interest payments are delinquent 90 days
or more, or earlier if the loan is considered impaired. Any unpaid
amounts previously accrued on these loans are reversed from income.
Subsequent cash receipts are applied to the outstanding principal
balance or to interest income if, in the judgment of management,
collection of the principal balance is not in question. Loans are
returned to accrual status when they become current as to both
principal and interest and when subsequent performance reduces the
concern as to the collectibility of principal and interest. Loan
fees and certain direct loan origination costs are deferred, and the
net fee or cost is recognized as an adjustment to interest income
over the estimated average lives of the related loans. Compensation
to an auto dealer is normally based upon a spread that a dealer adds
on the loan base rate set by the Company. The compensation is paid
to an automobile dealer shortly after the loan is originated. The
Company records the amount as a deferred cost that is amortized over
the life of the loans in relation to the interest paid by the
customer.
Allowance for Loan Losses - The allowance for loan losses is
established through provisions for loan losses charged to expense.
Loans are charged off against the allowance when management believes
that the collectibility of the principal is unlikely. Recoveries of
amounts previously charged-off are credited to the allowance.
The Bank maintains an allowance for loan losses to absorb losses
inherent in the loan portfolio based on ongoing quarterly assessments
of the estimated losses. The Bank's methodology for assessing the
appropriateness of the allowance consists of two key components,
which are a specific allowance for identified problem loans and a
formula allowance for the remainder of the portfolio. The specific
allowance incorporates the results of measuring impaired loans as
provided in SFAS No. 114, "Accounting by Creditors for Impairment of
a Loan," and SFAS No. 118, "Accounting by Creditors for Impairment of
a Loan - Income Recognition and Disclosures." These accounting
standards prescribe the measurement methods, income recognition and
disclosures related to impaired loans. The formula allowance is
calculated by applying loss factors to outstanding loans by type,
excluding loans for which a specific allowance has been determined.
In determining the loss factors to apply to each loan category, the
Company considers historical losses, peer group comparisons, industry
data and loss percentages used by banking regulators for similarly
graded loans. Loss factors may be adjusted for qualitative factors
that, in management's judgment, affect the collectibility of the
portfolio as of the evaluation date.
A loan is recognized as impaired when it is probable that principal
and/or interest are not collectible in accordance with the loan's
contractual terms. A loan is not deemed to be impaired if there is a
short delay in receipt of payment or if, during a longer period of
delay, the Company expects to collect all amounts due including
interest accrued at the contractual rate during the period of delay.
Measurement of impairment can be based on present value of expected
future cash flows discounted at the loan's effective interest rate,
the loan's observable market price or the fair value of the
collateral, if the loan is collateral dependent. This evaluation is
inherently subjective as it requires material estimates that may be
susceptible to significant change. If the fair value of the impaired
loan is less than the related recorded amount, a specific valuation
allowance is established within the allowance for loan losses or a
writedown is charged against the allowance for loan losses if the
impairment is considered to be permanent. Measurement of impairment
does not apply to large groups of smaller balance homogeneous loans
that are collectively evaluated for impairment such as the Company's
portfolios of home equity loans, real estate mortgages, installment
and other loans.
F-8
The appropriateness of the allowance is also reviewed by management
based upon its evaluation of then-existing economic and business
conditions affecting the key lending areas of the Company and other
conditions, such as new loan products, credit quality trends
(including trends in nonperforming loans expected to result from
existing conditions), collateral values, loan volumes and
concentrations, specific industry conditions within portfolio
segments that existed as of the balance sheet date and the impact
that such conditions were believed to have had on the collectibility
of the loan portfolio. There may be other factors that warrant the
Company's consideration in maintaining the allowance at a level
sufficient to cover probable losses. Although management believes it
has established and maintained the allowance for loan losses at
adequate levels, future adjustments may be necessary if economic,
real estate and other conditions differ substantially from the
current operating environment.
In addition, various regulatory agencies, as an integral part of
their examination process, periodically review the loan and
foreclosed real estate portfolios and the related allowance for loan
losses and valuation allowance for foreclosed real estate. These
agencies, including the FDIC and the Massachusetts Division of Banks,
may require adjustment to the allowance for loan losses based on
their judgments of information available to them at the time of their
examination, thereby adversely affecting results of operations.
Management believes that the allowance for loan losses accurately
reflects estimated credit losses for specifically identified loans,
as well as probable credit losses inherent in the remainder of the
portfolio as of the end of the periods presented.
Transfers and Servicing of Financial Assets - Transfers of financial
assets are accounted for as sales, when control over the assets has
been surrendered. Control over transferred assets is deemed to be
surrendered when (1) the assets have been isolated from the
Corporation, (2) the transferee obtains the right (free of conditions
that constrain it from taking advantage of that right) to pledge or
exchange the transferred assets, and (3) the Corporation does not
maintain effective control over the transferred assets through an
agreement to repurchase them before their maturity.
Premises and Equipment - Land is carried at cost. Buildings and
equipment are stated at cost, less accumulated depreciation, computed
on either the straight-line or accelerated methods over the estimated
useful lives of the assets, or lease term, if shorter, as follows:
Years
-----
<s> <c>
Buildings 39
Leasehold Improvements 20
Furniture and Equipment 3-7
The cost of maintenance and repairs is charged to expense when
incurred. Major expenditures for betterments are capitalized and
depreciated.
Other Real Estate Owned - Other real estate owned represents property
acquired through foreclosure or deeded to the Company in lieu of
foreclosure. Other real estate owned is recorded at the lower of the
carrying value of the related loan, or the estimated fair value of
the real estate acquired, net of estimated selling costs. Initial
write-downs are charged to the allowance for loan losses at the time
the loan is transferred to other real estate owned. Subsequent
valuations are periodically performed by management and the carrying
value is adjusted by a charge to expense to reflect any subsequent
declines in the estimated fair value. Operating costs associated
with other real estate owned are expensed as incurred.
F-9
Retirement Plans and Employee Benefits - The Company provides a
defined benefit pension plan for eligible employees through
membership in the Savings Banks Employees Retirement Association
("SBERA"). The Company's policy is to fund pension cost as accrued.
Employees are also eligible to participate in a 401(k) plan through
SBERA. Beginning in 2000, the Company began making matching
contributions to this plan at 50% of up to 6% of the employees'
eligible compensation.
The Company currently offers postretirement life insurance benefits
to retired employees. Such postretirement benefits represent a form
of deferred compensation which requires that the cost and obligations
of such benefits are recognized in the period in which services are
rendered.
Income Taxes - The Company uses the asset and liability method for
income tax accounting, whereby, deferred tax assets and liabilities
are recognized for the future tax consequences attributable to
differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases.
Deferred tax assets and liabilities are measured using enacted tax
rates applied to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on
deferred tax assets and liabilities of a change in tax rates is
recognized in income in the period that includes the enactment date.
Earnings per Share - Basic earnings per share represents income
available to common stockholders divided by the weighted-average
number of common shares outstanding during the period. Diluted
earnings per share reflects additional common shares that would have
been outstanding if dilutive potential common shares had been issued,
as well as any adjustment to income that would result from the
assumed issuance. Potential common shares that may be issued by the
Company relate solely to outstanding stock awards and options, are
determined using the treasury stock method.
Earnings per common share for the years ended December 31, have been
computed based on the following (in thousands, except per share
data):
2003 2002
<s> <c> <c>
Net income available to common stockholders $ 3,651 $ 4,044
======= =======
Weighted average number of common shares outstanding 10,037 10,336
Effect of dilutive stock awards 176 261
------- -------
Adjusted weighted average number of common shares outstanding
used to calculate diluted earnings per common shares 10,213 10,597
======= =======
Basic earnings per share $ 0.36 $ 0.39
Diluted earnings per share $ 0.36 $ 0.38
The common stock of the Company commenced trading on December 28,
2001. As such, earnings per share data for the year ended 2001 and
prior is not meaningful.
Reclassifications - Certain amounts in the prior year financial
statements have been reclassified to conform to the current year
presentation.
Stock Options - The Company applies APB Opinion No. 25 and related
Interpretations in accounting for stock options. Accordingly, no
compensation cost has been recognized. Had compensation cost for the
Company's stock options been determined based on the fair value at
the grants dates for awards under the plan consistent with the method
prescribed by SFAS No. 123, the Company's net income (in thousands)
and earnings per share would have been adjusted to the pro forma
amounts indicated below:
F-10
For the years ended December 31,
2003 2002
<s> <c> <c>
Net income as reported $3,651 $4,044
Less: Compensation expense
determined under fair value
based method for all awards,
net of tax effects (254) (129)
------ ------
Pro forma net income $3,397 $3,915
====== ======
Net income per share
Basic as reported $ 0.36 $ 0.39
Basic pro forma 0.34 0.38
Diluted as reported 0.36 0.38
Diluted pro forma 0.33 0.37
The fair value of each option grant is estimated on the date of grant
using the Black-Scholes option pricing model with the following
weighted average assumptions:
Year Ended
December 31, 2002
-----------------
<s> <c>
Dividend yield 1.25%
Expected life in years 10 years
Expected volatility 15%
Risk-free interest rate 3.58%
No options were granted in 2003.
Current Accounting Pronouncements - In January 2003, the FASB issued
Interpretation No. 46, "Consolidation of Variable Interest Entities"
("FIN 46"), which requires an enterprise to assess if consolidation
is appropriate based upon its variable economic interests in variable
interest entities ("VIEs"). The initial determination of whether an
entity is a VIE shall be made on the date at which an enterprise
becomes involved with the entity. An entity is considered to be a
VIE if it lacks a sufficient amount of voting equity interests (e.g.
10% of total assets) that are subject to the risk of loss or residual
return of the entity. An enterprise shall consolidate a VIE if it
has a variable interest that will absorb a majority of the VIE's
expected losses if they occur, receive a majority of the entity's
expected residual returns if they occur or both.
A direct or indirect ability to make decisions that significantly
affect the results of the activities of a VIE is a strong indication
that an enterprise has one or both of the characteristics that would
require consolidation of the VIE. In December 2003, FASB issued a
revised interpretation, FIN 46R, that delays the effective date until
after 2003.
In April 2003, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 149, Amendment of
Statement 133 on Derivative Instruments and Hedging Activities (SFAS
No. 149), which amends and clarifies financial accounting and
reporting for derivative instruments, including certain derivative
instruments embedded in other contracts (collectively referred to as
derivatives) and for hedging activities under FASB Statement No. 133,
Accounting for derivative Instruments and Hedging Activities. The
provisions of SFAS No. 149 are generally effective for contracts
entered into or modified after June 30, 2003 and are to be applied
prospectively.
F-11
In May 2003, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 150, Accounting for
Certain Financial Instruments with Characteristics of both
Liabilities and Equity (SFAS No. 150), which establishes standards
for how an issuer classified and measures certain financial
instruments with characteristics of both liabilities and equity.
SFAS No. 150 requires an issuer to classify certain instruments as
liabilities (or assets in some circumstances) which may have
previously been classified as equity. This statement is effective
for financial instruments entered into or modified after May 31,
2003, and otherwise was effective at the beginning of the first
interim period beginning after June 15, 2003. Certain provisions of
SFAS No. 150 related to the application of paragraphs 9 and 10 have
been deferred indefinitely.
The adoption of the effective provisions of these standards did not
have a material effect on the Company's consolidated financial
statements. The adoption of the remaining provisions of these
standards is not expected to have a material effect on the Company's
consolidated financial statements.
In its November 2003 meeting, the Emerging Issues Task Force (EITF)
reached a consensus relating to disclosure requirements under EITF
No. 03-01 "The Meaning of Other-Than-Temporary Impairment and its
Application to Certain Investments" (EITF No. 03-01). The disclosure
requirements have been incorporated herein (see Notes 3 and 4).
F-12
3. SECURITIES
Securities at December 31, 2003 are summarized as follows:
December 31, 2003
--------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- ---------- ---------
(In Thousands)
<s> <c> <c> <c> <c>
Held to maturity:
Federal agency obligations $43,250 $ 501 $ 12 $43,739
Municipal bonds 21,687 369 15 22,041
Corporate debt securities 4,990 233 - 5,223
------- ------ ---- -------
Total held to maturity 69,927 1,103 27 71,003
------- ------ ---- -------
Available for sale:
Corporate debt securities 3,745 49 - 3,794
Equity securities 14,594 1,004 143 15,455
Federal agency obligations 6,487 73 3 6,557
------- ------ ---- -------
Total available for sale 24,826 1,126 146 25,806
------- ------ ---- -------
Total Securities $94,753 $2,229 $173 $96,809
======= ====== ==== =======
Securities at December 31, 2002 are summarized as follows:
December 31, 2002
--------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- ---------- ---------
(In Thousands)
<s> <c> <c> <c> <c>
Held to maturity:
Federal agency obligations $ 38,391 $ 389 $ - $ 38,780
Corporate debt securities 7,569 234 1 7,802
-------- ------ ---- --------
Total held to maturity 45,960 623 1 46,582
-------- ------ ---- --------
Available for sale:
Corporate debt securities 19,195 317 - 19,512
Equity securities 28,432 176 874 27,734
Federal agency obligations 32,134 466 4 32,596
-------- ------ ---- --------
Total available for sale 79,761 959 878 79,842
-------- ------ ---- --------
Total Securities $125,721 $1,582 $879 $126,424
======== ====== ==== ========
F-13
Gross unrealized losses on securities as of December 31, 2003 were
$173,000 related to securities with a fair market value of $16.3
million as of December 31, 2003. Of the $16.3 million of
securities, $13.8 million have been in an unrealized loss position
for less than twelve months and $2.5 million of securities have been
in an unrealized loss position for twelve months or more. The total
unrealized loss on securities with a twelve month or more loss
position aggregated $22,000. Although $2.5 million of securities
have been in an unrealized loss position for at least twelve months,
management has concluded that the impairments are temporary as a
result of the nature of the investments.
The amortized cost and fair value of debt securities at December 31,
2003, by maturity, are shown below. Actual maturities may differ
from contractual maturities because certain issues have the right to
call or repay obligations.
December 31, 2003
-----------------------
Amortized Estimated
Cost Fair Value
--------- ----------
(In Thousands)
<s> <c> <c>
Held to maturity:
Due in one year or less $ 1,006 $ 1,029
Due after one year through five years 32,242 32,604
Due after five years through ten years 10,256 10,383
Due after ten years 26,423 26,987
------- -------
Total held to maturity $69,927 $71,003
======= =======
Available for sale:
Due in one year or less $ 1,996 $ 2,021
Due after one year through five years 3,002 3,029
Due after five years through ten years - -
Due after ten years 5,234 5,301
------- -------
Total available for sale $10,232 $10,351
======= =======
Gross gains of $771,000, $423,000, and $953,000 and gross losses
$333,000, $897,000, and $477,000 were recorded on securities during
the years ended December 31, 2003, 2002, and 2001, respectively.
During 2003, 2002, and 2001, the Company recorded losses of $85,000,
$2,105,000, and $315,000 respectively, for other than temporary
impairments in value.
Securities with a par value of $35 million and $15 million were
pledged as collateral to the Federal Reserve Bank of Boston at
December 31, 2003 and 2002, respectively.
Unrealized gains on securities available for sale, net of tax were
$647,000 and $51,000 at December 31, 2003 and 2002, respectively.
F-14
4. MORTGAGE BACKED SECURITIES
Mortgage backed securities at December 31, 2003 are summarized as
follows:
December 31, 2003
--------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- ---------- ---------
(In Thousands)
<s> <c> <c> <c> <c>
Held to maturity:
Fannie Mae $131,808 $ 772 $ 895 $131,685
Freddie Mac 50,751 239 301 50,689
Ginnie Mae 8,583 66 60 8,589
Collateralized Mortgage Obligations 541 7 - 548
-------- ------ ------ --------
Total held to maturity 191,683 1,084 1,256 191,511
-------- ------ ------ --------
Available for sale:
Fannie Mae 31,627 348 103 31,872
Freddie Mac 18,611 74 99 18,586
Ginnie Mae 20,854 91 88 20,857
Collateralized Mortgage Obligations 4,872 26 36 4,862
-------- ------ ------ --------
Total available for sale 75,964 539 326 76,177
-------- ------ ------ --------
Total Mortgage Backed Securities $267,647 $1,623 $1,582 $267,688
======== ====== ====== ========
Mortgage backed securities at December 31, 2002 are summarized as
follows:
December 31, 2002
--------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- ---------- ---------
(In Thousands)
<s> <c> <c> <c> <c>
Held to maturity:
Fannie Mae $ 77,049 $1,038 $22 $ 78,065
Freddie Mac 58,988 860 27 59,821
Ginnie Mae 13,920 226 23 14,123
Collateralized Mortgage Obligations 9,382 110 4 9,488
-------- ------ --- --------
Total held to maturity 159,339 2,234 76 161,497
-------- ------ --- --------
Available for sale:
Fannie Mae 22,182 697 - 22,879
Freddie Mac 29,930 551 - 30,481
Ginnie Mae 25,762 438 - 26,200
Collateralized Mortgage Obligations 10,771 142 5 10,908
-------- ------ --- --------
Total available for sale 88,645 1,828 5 90,468
-------- ------ --- --------
Total Mortgage Backed Securities $247,984 $4,062 $81 $251,965
======== ====== === ========
F-15
Collateralized Mortgage Obligations include traunches of AAA
investment grade and consist of high quality mortgage obligations.
Gross gains of $56,000, $850,000 and $833,000 and gross losses of $0,
$21,000, and $163,000 were recorded on mortgage backed securities
during the years ended December 31, 2003, 2002 and 2001,
respectively.
Unrealized gains on mortgage backed securities available for sale,
net of tax were $141,000 and $1,167,000 at December 31, 2003 and
2002, respectively.
Gross unrealized losses on mortgage backed securities for the year
ended December 31, 2003 were $1.6 million related to securities
with a fair market value of $142.4 million as of December 31, 2003.
The total fair market value of $142.4 million was in an unrealized
loss position for less than twelve months.
5. LOANS
Loans consisted of the following amounts as of:
December 31,
--------------------
2003 2002
--------------------
(In Thousands)
<s> <c> <c>
Residential real estate $110,547 $157,896
Commercial and industrial 85,292 61,494
Commercial real estate 131,292 100,903
Consumer 22,310 41,064
-------- --------
Total Loans 349,441 361,357
Unearned premiums and deferred loan fees
and costs, net 181 123
Allowance for loan losses (4,642) (4,325)
-------- --------
$344,980 $357,155
======== ========
F-16
The following table summarizes information regarding impaired loans:
Years Ended
December 31,
----------------------
2003 2002
----------------------
(Dollars in Thousands)
<s> <c> <c>
Recorded investment in impaired loans, period end $1,830 $1,974
Allowance for impaired loans 70 70
Years Ended
December 31,
--------------------------
2003 2002 2001
--------------------------
(Dollars in Thousands)
<s> <c> <c> <c>
Average recorded investment in impaired loans $1,970 $2,008 $1,612
Income recorded during the period for impaired loans 126 130 163
Income recorded on cash basis during the period for impaired loans 127 143 155
There were no restructured loans at December 31, 2003, 2002 and 2001.
Nonaccrual loans at December 31, 2003, December 31, 2002 and 2001 and
related interest income are summarized as follows:
Years Ended
December 31,
--------------------------
2003 2002 2001
--------------------------
(Dollars in Thousands)
<s> <c> <c> <c>
Amount $1,768 $2,383 $2,684
Interest income that would have been
recorded under the original contract terms 327 324 263
Mortgage loans serviced for others are not included in the
accompanying consolidated balance sheets. The unpaid balances of
these loans totaled $31.8 million and $70.3 million at December 31,
2003 and 2002, respectively. Net service fee income (expense) of
($46,000), $76,000, and $120,000 was recorded for the years ended
December 31, 2003, 2002, and 2001, respectively.
The Company's servicing assets are recorded at fair value at the time
the asset is acquired. The fair value is based upon the net present
value of future cash flows of the net servicing revenue. Assumptions
used in determining fair value include service fee revenue, float
revenue, escrow revenue, servicing expense, and estimated life of the
underlying loans. The fair value of the asset is recalculated
quarterly to determine possible impairment. In 2003 the Company
recorded an impairment charge of $30,000, to reduce the carrying
value of the servicing assets as of December 31, 2003 to $76,000. The
servicing asset is amortized in proportion to the estimated net
servicing revenue of the loans.
F-17
6. ALLOWANCE FOR LOAN LOSSES
An analysis of changes in the allowance for loan losses is as
follows:
Years Ended
December 31,
----------------------------
2003 2002 2001
----------------------------
(Dollars in Thousands)
<s> <c> <c> <c>
Balance, beginning of year $4,325 $3,923 $3,434
Provision 750 934 1,630
Charge-offs (725) (928) (1,843)
Recoveries 292 396 702
------ ------ ------
Balance, end of year $4,642 $4,325 $3,923
====== ====== ======
7. PREMISES AND EQUIPMENT
Premises and equipment are summarized as follows:
As of
December 31,
----------------------
2003 2002
----------------------
(Dollars in Thousands)
<s> <c> <c>
Land $ 2,201 $ 2,288
Buildings 9,866 10,242
Leasehold improvements 735 735
Furniture and equipment 5,666 5,296
------- -------
Total 18,468 18,561
Accumulated depreciation and amortization (6,694) (5,710)
------- -------
Premises and equipment, net $11,774 $12,851
======= =======
8. DEPOSITS
Deposit accounts by type and weighted average rates are summarized as
follows:
December 31, December 31,
2003 Rate 2002 Rate
----------------------------------------------
(Dollars in Thousands)
<s> <c> <c> <c> <c>
Demand and Now:
Now accounts $ 42,465 0.54% $ 41,907 1.07%
Demand accounts 54,620 - 54,736 -
Savings:
Regular accounts 46,331 0.50 44,876 1.05
Money market accounts 154,825 0.98 139,543 1.49
Time certificates of deposit 334,190 2.58 375,003 3.51
-------- --------
Total Deposits $632,431 $656,065
======== ========
Time deposits of $100,000 or more totaled approximately $69.8 million
and $80.6 million at December 31, 2003 and 2002, respectively.
Interest expense on such deposits totaled $2.3 million, $3.1 million
and $4.0 million for the years ended December 31, 2003, 2002 and 2001
respectively.
F-18
Cash paid for interest was:
Years Ended
December 31,
-----------------------------
2003 2002 2001
-----------------------------
(In Thousands)
<s> <c> <c> <c>
Deposits $13,130 $18,571 $24,698
Customer Repurchase Agreements 211 213 246
Federal Home Loan Advances 525 - 26
------- ------- -------
Total $13,866 $18,784 $24,970
======= ======= =======
At December 31, 2003, the scheduled maturities of time certificates
of deposits are as follows:
Amount Rate
----------------
(Dollars in Thousands)
<s> <c> <c>
Within 1 year $234,694 2.35%
Over 1 year to 3 years 90,934 3.13
Over 3 years to 5 years 8,562 3.24
--------
Total certificates of deposits $334,190 2.58%
========
9. CUSTOMER REPURCHASE AGREEMENTS
The following table summarizes information regarding repurchase
agreements:
Years Ended
December 31,
----------------------
2003 2002
----------------------
(Dollars in Thousands)
<s> <c> <c>
Balance outstanding, end of year $12,135 $ 8,724
Maximum amount outstanding at any month end during period 14,247 9,928
Average amount outstanding during period 13,192 8,291
Weighted average interest rate 1.21% 2.25%
Book value of collateral pledged end of period 35,204 14,994
Fair value of collateral pledged end of period 35,570 15,209
10. FEDERAL HOME LOAN BANK ADVANCES
The following advances are secured by a blanket lien on the Company's
residential real estate loans:
2003
Maturity Amount Rate
----------------
(in Thousands)
<s> <c> <c>
January 3, 2006 $ 5,000 2.56%
January 2, 2007 5,000 2.98%
December 31, 2007 5,000 3.33%
August 13, 2008 5,000 3.85%
-------
$20,000
=======
F-19
11. LINE OF CREDIT
The Company has a line of credit with the Federal Reserve Bank of
Boston collateralized by investments. Additionally, the Company has
an "Ideal Way" line of credit with the Federal Home Loan Bank for
$4,541,000 and $9,541,000 for the years ended December 31, 2003 and
2002, respectively. No amounts were outstanding under these lines at
December 31, 2003 and 2002.
12. STOCK-BASED INCENTIVE PLAN AND EMPLOYEE STOCK OWNERSHIP PLAN
Stock Options
Under the Company's stock based Incentive Plan, the Company may grant
options to its directors, officers and employees for up to 497,260
shares of common stock. Both incentive stock options and non-
statutory stock options may be granted under the plan. The exercise
price of each option equals the market price of the Company's stock
on the date of grant and an option's maximum term is ten years.
Options vest at 20% per year.
A summary of the status of the Company's stock options for the years
ended December 31, 2002 and 2003 is presented below:
Weighted Average
Shares Exercise Price
----------------------------
<s> <c> <c>
Fixed Options:
Balance at December 31, 2001 - $ -
Granted 448,000 14.39
-------
Balance at December 31, 2002 448,000 14.39
Exercised (2,000) 14.39
Forfeited (1,500) 14.39
-------
Balance at December 31, 2003 444,500 $14.39
=======
The weighted average fair value of the options granted in 2002 using
the Black-Scholes option pricing model were $3.75 per share. No
options were granted in 2003.
Assumptions used to determine the weighted average fair value of
options granted in 2002:
<s> <c>
Dividend yield 1.25%
Expected life in years 10 years
Expected volatility 15%
Risk-free interest rate 3.58%
Information pertaining to options outstanding at December 31, 2003 is
as follows:
Weighted Average
Exercise Number Remaining Number
Price Outstanding Contractual Life Exercisable
-------- ----------- ---------------- -----------
<s> <c> <c> <c>
$14.39 444,500 8.6 years 87,300
======= ========= ======
F-20
Stock Awards
Under the Company's Recognition and Retention Plan dated November 1,
2002, the Company may grant stock awards to its directors, officers
and employees to purchase up to 198,904 shares of common stock. The
Company applies APB Opinion No. 25 and related Interpretations in
accounting for stock awards. The stock allocations, based on the
market price at the date of grant, is recorded as unearned
compensation. Unearned compensation is amortized over the vesting
period to be benefited. The Company recorded compensation cost
related to the stock awards of approximately $544,000 in 2003 and
$109,000 in 2002. No compensation expense was recorded in 2001 as
the plan was approved in 2002.
Stock awards for 189,800 shares were granted during 2002. No stock
awards were granted in 2003.
Employee Stock Ownership Plan
In January 2002, the Company established an Employee Stock Ownership
Plan (the ESOP) for the benefit of each employee that has reached the
age of 21 and has completed at least 1,000 hours of service in the
previous twelve-month period. Compensation expense is recognized as
ESOP shares are committed to be released. Expense recognized related
to the ESOP totaled $225,000, $193,000 and $0 for the years ended
December 31, 2003, 2002 and 2001, respectively. As of December 31,
2003 and 2002 the number of allocated shares held by the ESOP were
12,672 and 0, respectively. The number of committed-to-be-released
shares held by the ESOP as of December 31, 2003 and 2002 were 13,260
and 12,672, respectively. ESOP shares are considered outstanding for
earnings per share calculations based on the value of shares issued.
Other ESOP shares are excluded from earnings per share calculations.
Dividends declared on allocated ESOP shares are charged to retained
earnings. The value of unearned shares to be allocated to ESOP
participants for future services not yet performed is reflected as a
reduction of stockholders' equity.
13. RETIREMENT PLANS AND EMPLOYEE BENEFITS
Pension Plan - The Company provides basic and supplemental pension
benefits for eligible employees through the Savings Banks Employees
Retirement Association Pension Plan (the "Plan"). Employees must
work a minimum of 1,000 hours per year to be eligible for the Plan.
Eligible employees become vested in the Plan after five years of
service.
The following table provides information for the Plan at December 31:
2003 2002 2001
---- ---- ----
(Dollars in Thousands)
<s> <c> <c> <c>
Change in benefit obligation:
Benefit obligation, beginning of year $6,515 $6,262 $4,920
Service cost 504 513 378
Interest 439 438 381
Actuarial loss (gain) 80 (223) 880
Benefits paid (128) (475) (297)
------ ------ ------
Benefit obligation, end of year $7,410 $6,515 $6,262
====== ====== ======
Change in plan assets:
Fair value of plan assets, beginning of year $4,498 $4,678 $5,520
Actual return (loss) on plan assets 708 (460) (563)
Employer contribution 580 755 18
Benefits paid (128) (475) (297)
------ ------ ------
Fair value of plan assets, end of year $5,658 $4,498 $4,678
====== ====== ======
Funded status (benefit obligation less
fair value of plan assets) $1,752 $2,017 $1,584
Unrecognized net actuarial (loss) gain (165) (453) 165
Transition liability 127 139 150
------ ------ ------
Accrued benefit cost $1,714 $1,703 $1,899
====== ====== ======
F-21
Net pension cost includes the following components for the years
ended December 31:
2003 2002 2001
---- ---- ----
(Dollars in Thousands)
<s> <c> <c> <c>
Service cost $ 504 $ 513 $ 378
Interest cost 439 438 381
Expected return on assets (360) (374) (444)
Actuarial (gain) loss 19 (7) (86)
Transition obligation (12) (12) (12)
----- ----- -----
Net periodic pension cost $ 590 $ 558 $ 217
===== ===== =====
The following actuarial assumptions were used for the years ended
December 31:
2003 2002 2001
---- ---- ----
<s> <c> <c> <c>
Weighted-average assumption:
Discount rate 6.75% 7.00% 7.75%
Expected return on plan assets 8.00% 8.00% 8.00%
Rate of compensation increase 5.00% 5.50% 5.50%
The expected long term rate of return on plan assets is based on
prevailing yields of high quality fixed income investments increased
by a premium of 3 to 5% for equity investments. The Bank expects to
contribute $513,000 to its pension plan in 2004.
The Company's pension plan asset allocation at December 31, 2003 and
2002 and target allocation for 2004 are as follows:
Percentage of Plan
Target Assets
Allocation at December 31,
Asset Category 2004 2003 2002
-------------- ---------- ---- ----
<s> <c> <c> <c>
Fixed Income Securities 25 - 45% 44.9% 38.1%
Equity Securities 55 - 75% 55.1 61.9
----- -----
Total 100.0% 100.0%
Trustees of Savings Bank Employees Retirement Association select
investment managers for the portfolio and a special investment
advisory firm is retained to provide allocation analysis. The
overall investment objective is to diversify equity investments
across a spectrum of types, small cap, large cap and international,
along with investment styles such as growth and value.
F-22
The Company estimates that the benefits to be paid from the pension
plan for years ended December 31,
Benefit Payments to
Year Participants
<s> <c>
2004 $ 360,000
2005 109,000
2006 1,368,000
2007 66,000
2008 20,000
In Aggregate for 2009 - 2013 3,075,000
----------
$4,998,000
==========
Postretirement Benefits - The Company provides postretirement life
insurance benefits to employees based on the employee's salary at
time of retirement. The accrual of postretirement benefits other
than pension expense is made during the years an employee provides
service. The following sets forth the funded status:
December 31,
2003 2002
---- ----
(Dollars in Thousands)
<s> <c> <c>
Benefits obligation and funded status $(610) $(530)
Transitional obligation 166 149
----- -----
Accrued benefit costs $(444) $(381)
===== =====
Actuarial assumptions used in accounting for the postretirement
benefit plan were:
December 31,
2003 2002
---- ----
(Dollars in Thousands)
<s> <c> <c>
Assumed average salary compensation increase 5.00% 5.00%
Discount rate 6.75% 6.75%
Benefit cost $ 60 $ 48
Benefit paid 69 54
Net periodic benefit cost for:
Years Ended December 31,
2003 2002 2001
---- ---- ----
<s> <c> <c> <c>
Assumed average salary compensation increase 5.00% 5.00% 6.00%
Discount Rate 6.75 6.75 7.00
Expected long-term rate of return on assets 8.00 8.00 8.00
Supplemental Retirement Benefits - The Company provides supplemental
retirement benefits to certain key officers. At December 31, 2003
and 2002, the Company had accrued $1.8 million and $1.7 million,
respectively, relating to these benefits. Amounts charged to expense
were $180,000, $23,000 and $180,000 for the years ended December 31,
2003, 2002 and 2001, respectively.
401(k) - Employees are eligible to participate in a 401(k) plan
through SBERA. The Company makes a matching contribution of 50% with
respect to the first 6% of each participant's annual earnings
contributed to the plan. The Company's contribution to the plan were
$150,000, $113,000 and $50,000, for the years ended December 31,
2003, 2002 and 2001, respectively.
F-23
14. REGULATORY CAPITAL
The Company and the Bank are subject to various regulatory capital
requirements administered by the federal and state 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 effect
on the Company's and the Bank's financial statements. Under capital
adequacy guidelines and the regulatory framework for prompt
corrective action, the Company and the Bank must meet specific
capital guidelines that involve quantitative measures of assets,
liabilities, and certain off-balance sheet items as calculated under
regulatory accounting practices. The capital amounts and
classification are also subject to qualitative judgments by the
regulators about components, risk weightings, and other factors.
Prompt corrective action provisions are not applicable to bank
holding companies.
Quantitative measures established by regulation to ensure capital
adequacy require the Company and the Bank to maintain minimum amounts
and ratios (set forth in the following table) of total and Tier 1
capital (as defined in the regulations) to risk-weighted assets (as
defined) and of Tier 1 capital (as defined) to average assets (as
defined). Management believes, as of December 31, 2003 and 2002, that
the Company and the Bank met all capital adequacy requirements to
which they are subject.
As of December 31, 2003, the most recent notification from The
Federal Deposit Insurance Corporation categorized the Bank as "well
capitalized" under the regulatory framework for prompt corrective
action. To be categorized as "well capitalized" the Bank must
maintain minimum total risk-based, Tier I risk based and Tier I
leverage ratios as set forth in the following. There are no
conditions or events since that notification that management believes
have changed the Bank's category. The Company's and the Bank's
actual capital ratios as of December 31, 2003 and 2002 are also
presented in the table.
F-24
Minimum
To Be Well
Minimum Capitalized
For Capital Under Prompt
Adequacy Corrective
Actual Purposes Action Provisions
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
(Dollars in Thousands)
<s> <c> <c> <c> <c> <c> <c>
December 31, 2003
Total Capital (to Risk Weighted Assets):
Consolidated $129,120 29.63% $34,864 8.00% N/A -
Bank 82,733 19.57 33,820 8.00 $42,275 10.00%
Tier I Capital (to Risk Weighted Assets):
Consolidated 124,008 28.46 17,432 4.00 N/A -
Bank 77,621 18.36 16,910 4.00 25,365 6.00
Tier I Capital (to Average Assets):
Consolidated 124,008 15.31 32,407 4.00 N/A -
Bank 77,621 10.18 30,510 4.00 38,137 5.00
Minimum
To Be Well
Minimum Capitalized
For Capital Under Prompt
Adequacy Corrective
Actual Purposes Action Provisions
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
(Dollars in Thousands)
<s> <c> <c> <c> <c> <c> <c>
December 31, 2002
Total Capital (to Risk Weighted Assets):
Consolidated $129,371 29.78% $34,751 8.00% N/A -
Bank 78,479 19.44 32,303 8.00 $40,379 10.00%
Tier I Capital (to Risk Weighted Assets):
Consolidated 124,968 28.77 17,375 4.00 N/A -
Bank 74,076 18.35 16,151 4.00 24,227 6.00
Tier I Capital (to Average Assets):
Consolidated 124,968 15.65 31,942 4.00 N/A -
Bank 74,076 9.93 29,839 4.00 32,299 5.00
F-25
15. INCOME TAXES
Income taxes consist of the following:
Years Ended December 31,
---------------------------
2003 2002 2001
---- ---- ----
(in Thousands)
<s> <c> <c> <c>
Current tax provision (benefit):
Federal $2,106 $4,740 $ (352)
State 1,706 342 7
--------------------------
Total 3,812 5,082 (345)
--------------------------
Deferred tax (benefit) provision:
Federal (992) (2,843) 2,857
State - - -
--------------------------
Total (992) (2,843) 2,857
--------------------------
Total $2,820 $2,239 $2,512
==========================
The reasons for the differences between the statutory federal income
tax rate and the effective rates are summarized below:
Years Ended December 31,
------------------------
2003 2002 2001
---- ---- ----
(in Thousands)
<s> <c> <c> <c>
Statutory federal income tax rate 34.0% 34.0% 34.0%
Increase (decrease) resulting from:
State taxes, net of federal tax benefit 17.4% 3.6% 0.0%
Dividends received deduction (0.5%) (0.5%) 0.4%
Other, net (7.3%) (1.5%) (1.0%)
----------------------
Effective tax rate 43.6% 35.6% 33.4%
======================
Cash paid for income taxes for the years ended December 31, 2003,
2002 and 2001 was $7.2 million, $4.6 million and $200,000,
respectively.
F-26
The tax effects of each type of income and expense item that give
rise to deferred taxes are as of:
December 31,
2003 2002
---- ----
(in Thousands)
<s> <c> <c>
Net unrealized gain on securities
available for sale $ (406) $ (682)
Depreciation (128) (71)
Allowance for loan losses 1,578 1,520
Deferred income - (1,642)
Employee benefit plans 1,235 602
Other 274 1,558
-------------------
Net deferred tax asset $ 2,553 $ 1,285
===================
A summary of the change in the net deferred tax asset (liability) is
as follows:
Years Ended December 31
2003 2002
---- ----
(in Thousands)
<s> <c> <c>
Balance at beginning of year $1,285 $(1,835)
Deferred tax benefit 992 2,843
Net unrealized gain
on securities available for sale 276 277
------------------
Balance at end of year $2,553 $ 1,285
==================
Massachusetts legislation was signed on March 5, 2003 amending the
corporate tax law affecting the treatment of dividends received from
Real Estate Investment Trusts (REITs). Dividends from the REIT
subsidiary are no longer eligible for a dividends-received deduction.
As a result of the enactment of this legislation, the Company has
ceased recording the tax benefits associated with the dividend
received deduction effective for the 2003 tax year.
In addition to the effect on 2003, the legislation is retroactive to
1999. The Company's 2003 results included a charge of $1.45 million
representing the additional state tax liability, including interest,
relating to the deduction for dividends received from the REIT for
2002 and prior years.
F-27
The federal income tax reserve for loan losses at the Bank's base
year is $5.8 million. If any portion of the reserve is used for
purposes other than to absorb loan losses, approximately 150% of the
amount actually used, limited to the amount of the reserve, would be
subject to taxation in the fiscal year in which used. As the Bank
intends to use the reserve solely to absorb loan losses, a deferred
tax liability of approximately $2.4 million has not been provided.
16. TRANSACTIONS WITH DIRECTORS AND TRUSTEES
The Company has had, and expects to have in the future, loans with
its directors, trustees, and executive officers. Such loans, in the
opinion of management do not include more than the normal risk of
collectibility or other unfavorable features. Following is a summary
of activity for such loans:
Years Ended
December 31,
---------------------------
2003 2002 2001
---------------------------
(In Thousands)
<s> <c> <c> <c>
Balance, beginning of year $2,453 $1,570 $ 3,647
New loans granted 4,911 1,487 283
Repayments of principal (189) (604) (2,360)
------ ------ -------
Balance, end of year $7,175 $2,453 $ 1,570
====== ====== =======
17. COMMITMENTS AND CONTINGENCIES
In the normal course of business, various commitments and contingent
liabilities are outstanding, such as standby letters of credit and
commitments to extend credit with off-balance-sheet risk that are not
reflected in the consolidated financial statements. Financial
instruments with off-balance-sheet risk involve elements of credit,
interest rate, liquidity and market risk.
Management does not anticipate any significant losses as a result of
these transactions. The following summarizes these financial
instruments and other commitments and contingent liabilities at their
contract amounts:
December 31,
2003 2002
---- ----
(In Thousands)
<s> <c> <c>
Commitment to extend credit:
Unused lines of credit $56,112 $57,954
Other unused commitments 24,371 4,483
Mortgage commitments 134 687
Existing loan agreements 3,490 992
Standby letters of credit 6,801 1,300
The Company uses the same credit policies in making commitments and
conditional obligations as it does for on balance sheet instruments.
Commitments to extend credit are agreements to lend to a customer as
long as there is no violation of any condition established in the
contract. Commitments generally have fixed expiration dates or other
termination clauses and may require payment of a fee. Since some
commitments expire without being drawn upon, the total commitment
amounts do not necessarily represent future cash requirements. The
Company evaluates each customer's creditworthiness on a case-by-case
basis. The amount of collateral obtained, if deemed necessary by
the Company upon extension of credit, is based on management's credit
evaluation of the counterparty. Collateral held varies but may
include accounts receivable, inventory, property, plant and
equipment, and income-producing commercial properties.
F-28
Standby letters of credit are written conditional commitments issued
by the Bank to guarantee the performance of a customer to a third
party. Those guarantees are primarily issued to support public and
private borrowing arrangements. The credit risk involved in issuing
letters of credit is essentially the same as that involved in
extending loan facilities to customers.
In the ordinary course of business, the Company is party to various
legal proceedings, none of which, in the opinion of management, will
have a material effect on the Company's consolidated financial
position or results of operations.
The Company leases facilities and certain equipment under cancelable
and noncancelable leases expiring in various years through the year
2008. Certain of the leases provide for renewal periods for up to
fifteen years at the discretion of the Company. Rent expense under
operating leases was $172,000, $179,000, and $171,000, for the years
ended December 31, 2003, 2002, and 2001, respectively.
Aggregate future minimum rental payments under the terms of the
operating leases at December 31, 2003, are as follows:
(In Thousands)
<s> <c>
2004 $187
2005 189
2006 185
2007 104
2008 51
----
$716
====
18. CONCENTRATIONS OF CREDIT RISK
Most of the Company's loans consist of residential and commercial
real estate loans located in Western Massachusetts. As of December
31, 2003 and 2002, the Company's residential and commercial related
real estate loans represented 69% and 72% of total loans,
respectively. The Company's policy for collateral requires that the
amount of the loan may not exceed 95% and 80% of the appraised value
of the property for residential and commercial real estate,
respectively; at the date the loan is granted. For residential
loans, in cases where the loan exceeds the percentage, private
mortgage insurance is typically obtained for that portion of the
loan in excess of 80% of the appraised value of the property.
19. FAIR VALUE OF FINANCIAL INSTRUMENTS
Methods and assumptions for valuing the Company's financial
instruments are set forth below for financial instruments that have
fair values different than their carrying values. Estimated fair
values are calculated based on the value without regard to any
premium or discount that may result from concentrations of ownership
of a financial instrument, possible tax ramifications or estimated
transaction costs.
Cash and Cash Equivalents and Accrued Interest Receivable and Accrued
Interest Payable - The carrying amounts of these items are considered
to be a reasonable estimate of fair value due to their short-term
nature.
Securities and Mortgage Backed Securities - The estimated fair values
for securities and mortgage backed securities, except certain state
and municipal securities, are based on quoted market prices or dealer
quotations. The estimated fair value of certain state and municipal
securities, not readily available through market sources other than
dealer quotations, are based on quoted market prices of similar
instruments, adjusted for differences between the quoted instruments
and the instruments being valued.
Federal Home Loan Bank and Other Stock - These investments are
carried at cost which approximates fair value.
F-29
Loans - Fair values are estimated for portfolios of loans with
similar financial characteristics. Loans are segregated by type, net
of the applicable portion of the allowance for loan losses, such as
commercial and industrial, commercial real estate, residential
mortgage, and consumer. Each loan category is further segmented into
fixed and adjustable rate interest terms and by performing and
nonperforming categories.
The fair value of performing loans, except residential mortgage
loans, is calculated by discounting scheduled cash flows through the
estimated maturity using estimated market discount rates that reflect
the credit and interest rate risk inherent in the loan. The estimate
of maturity is based on the Company's historical experience with
repayments for each loan classification, modified, as required, by an
estimate of the effect of current economic and lending conditions.
For performing residential mortgage loans, fair value is estimated by
discounting contractual cash flows adjusted for prepayment estimates
using discount rates based on secondary market sources adjusted to
reflect differences in servicing and credit costs.
Estimated fair value for impaired loans is based on recent external
appraisals if the loan is collateral dependent. Assumptions
regarding credit risk cash flows and discount rates are judgmentally
determined using available market information and specific borrower
information.
Management has made estimates of fair value discount rates that it
believes to be reasonable.
Deposits - The estimated fair value of deposits with no stated
maturity, such as noninterest-bearing demands deposits, savings and
NOW accounts, and money market and checking accounts, is equal to the
amount payable on demand. The estimated fair value of certificates
of deposit is based on the discounted value of contractual cash
flows. The discount rate is estimated using the rates currently
offered for deposits of similar remaining maturities.
Customer Repurchase Agreements - The fair value of these agreements
is estimated based on the discounted value of contractual cash flows.
The discount rate is estimated using the rates currently offered.
Borrowings - The estimated fair value of borrowings is based upon the
discounted value of contractual cash flows. The discount rate is
estimated using Federal Home Loan Bank advance rates currently
offered for borrowings with similar maturities.
Commitments to Extend Credit - The stated value of commitments to
extend credit approximates fair value as the current interest rates
for similar commitments do not differ significantly. For fixed-rate
loan commitments, fair value also considers the difference between
current levels of interest rates and the committed rates. Such
differences are not considered significant.
F-30
The estimated fair values of the Company's financial instruments at
December 31 are as follows:
2003 2002
------------------------------------------------
Carrying Estimated Carrying Estimated
Value Fair Value Value Fair Value
------------------------------------------------
(In Thousands)
<s> <c> <c> <c> <c>
ASSETS:
Cash and cash equivalents $ 45,674 $ 45,674 $ 56,575 $ 56,575
Securities:
Available for sale 25,806 25,806 79,842 79,842
Held to maturity 69,927 71,003 45,960 46,582
Mortgage backed securities:
Available for sale 76,177 76,177 90,468 90,468
Held to maturity 191,683 191,511 159,339 161,497
Federal Home Loan Bank and
other stock 4,237 4,237 3,933 3,933
Loans - net 344,980 353,496 357,155 370,963
Accrued interest and dividends 3,555 3,555 3,937 3,937
LIABILITIES:
Deposits 632,431 633,390 656,065 659,586
Customer repurchase agreements 12,135 12,135 8,724 8,724
Federal Home Loan Bank advances 20,000 20,392 15,000 15,000
Accrued interest payable 9 9 18 18
Limitations - Fair value estimates are made at a specific point in
time, based on relevant market information and information about the
financial instrument. These estimates do not reflect any premium or
discount that could result from offering for sale at one time the
Company's entire holdings of a particular financial instrument.
Where quoted market prices are not available, fair value estimates
are based on judgments regarding future expected loss experience,
current economic conditions, risk characteristics of various
financial instruments, and other factors. These estimates are
subjective in nature and involve uncertainties and matters of
significant judgment. Changes in assumptions could significantly
affect the estimates.
20. SEGMENT INFORMATION
The Company has one reportable segment, "Community Banking." All of
the Company's activities are interrelated, and each activity is
dependent and assessed based on how each of the activities of the
Company supports the others. For example, commercial lending is
dependent upon the ability of the Bank to fund itself with retail
deposits and other borrowings and to manage interest rate and credit
risk. This situation is also similar for consumer and residential
mortgage lending. Accordingly, all significant operating decisions
are based upon analysis of the Company as one operating segment or
unit.
The Company operates only in the U.S. domestic market, primarily in
Western Massachusetts. For the years ended December 31, 2003, 2002
and 2001, there is no customer that accounted for more than 10% of
the Company's revenue.
F-31
21. CONDENSED PARENT COMPANY FINANCIAL STATEMENTS
The balance sheets of the Company are as follows:
December 31,
2003 2002
---- ----
(In Thousands)
<s> <c> <c>
ASSETS:
Due from banks $ 7,204 $ 660
Securities available for sale at estimated fair value - 15,232
Investment in subsidiaries 117,345 111,027
Other assets 500 -
-------- --------
TOTAL ASSETS $125,049 $126,919
LIABILITIES AND EQUITY:
Liabilities $ 245 $ 220
Equity 124,804 126,699
-------- --------
TOTAL LIABILITIES AND EQUITY $125,049 $126,699
======== ========
The statements of income for the Company are as follows:
December 31,
2003 2002
---- ----
(In Thousands)
<s> <c> <c>
INTEREST AND DIVIDEND INCOME:
Securities $ 34 $ 232
Interest-bearing deposits 35 88
------- ------
Total Interest and Dividend Income 69 320
------- ------
NONINTEREST EXPENSE:
Salaries and employee benefits 786 309
Other 294 251
------- ------
Total noninterest expense 1,080 560
------- ------
LOSS BEFORE EQUITY IN UNDISTRIBUTED INCOME
OF SUBSIDIARIES AND BENEFIT FOR INCOME TAX (1,011) (240)
EQUITY IN UNDISTRIBUTED INCOME
OF SUBSIDIARIES 4,248 4,200
INCOME TAX BENEFIT (414) (84)
------- ------
NET INCOME $ 3,651 $4,044
======= ======
F-32
The statement of cash flows of the Company are as follows:
Years Ended Years Ended
December 31, December 31,
2003 2002
(In Thousands) (In Thousands)
<s> <c> <c>
OPERATING ACTIVITIES:
Net Income $ 3,651 $ 4,044
Equity in undistributed earnings of subsidiary (4,248) (4,200)
Increase in other liabilities 25 220
Increase in other assets (500) -
Net transfers from subsidiaries - 23,695
Other, net 637 -
------- --------
Net cash (used in) provided by operating activities (435) 23,759
------- --------
INVESTING ACTIVITIES:
Purchase of securities (34) (15,000)
Sale of securities 15,266 -
Other, net (2,500) -
------- --------
Net cash provided by (used in) investing activities 12,732 (15,000)
------- --------
FINANCING ACTIVITIES:
Cash dividends paid (2,113) (1,588)
Other, net (3,640) (6,511)
------- --------
Net cash used in financing activities (5,753) (8,099)
------- --------
NET INCREASE IN CASH AND CASH EQUIVALENTS 6,544 660
CASH AND CASH EQUIVALENTS:
Beginning of year 660 -
------- --------
End of year $ 7,204 $ 660
======= ========
22. OTHER NONINTEREST EXPENSE
Indirect auto lending processing charges, as a component of other
noninterest expense, exceeds 1% of the aggregate of total interest
income and noninterest income in 2001. It is not shown separately on
the consolidated statements of income. Indirect auto lending
processing charges of approximately $719,000 were recorded for the
year ended December 31, 2001. There is no item that as a component
of noninterest expense, exceeds 1% of the aggregate of total interest
income and noninterest income for the years ended December 31, 2003
and 2002, respectively.
F-33
23. SUMMARY OF QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
2003
------------------------------------------------------------------
First Quarter Second Quarter Third Quarter Fourth Quarter
------------- -------------- ------------- --------------
<s> <c> <c> <c> <c>
Interest and dividend income $ 9,673 $ 8,991 $ 8,393 $ 8,578
Interest expense 3,957 3,575 3,320 3,006
------- ------- ------- -------
Net interest and dividend income 5,716 5,416 5,073 5,572
------- ------- ------- -------
Provision for loan losses 200 150 150 250
Noninterest income 624 639 710 642
Gains on sales and writedowns
of securities, net 60 53 70 276
Noninterest expense 4,629 4,478 4,315 4,208
------- ------- ------- -------
Income before income taxes 1,571 1,480 1,388 2,032
Income taxes(1) 3,177 (1,253) 337 559
------- ------- ------- -------
Net income $(1,606) $ 2,733 $ 1,051 $ 1,473
======= ======= ======= =======
2002
------------------------------------------------------------------
First Quarter Second Quarter Third Quarter Fourth Quarter
------------- -------------- ------------- --------------
<s> <c> <c> <c> <c>
Interest and dividend income $11,107 $10,965 $10,745 $10,196
Interest expense 5,012 4,811 4,637 4,315
------- ------- ------- -------
Net interest and dividend income 6,095 6,154 6,108 5,881
------- ------- ------- -------
Provision for loan losses 300 200 234 200
Noninterest income 379 384 417 208
Gains (losses) on sales and
writedowns of securities (248) (509) (139) (854)
Noninterest expense 4,276 4,270 4,220 3,893
------- ------- ------- -------
Income before income taxes 1,650 1,559 1,932 1,142
Income taxes 563 531 661 484
------- ------- ------- -------
Net income $ 1,087 $ 1,028 $ 1,271 $ 658
======= ======= ======= =======
2001
------------------------------------------------------------------
First Quarter Second Quarter Third Quarter Fourth Quarter
------------- -------------- ------------- --------------
<s> <c> <c> <c> <c>
Interest and dividend income $12,260 $12,016 $11,697 $11,569
Interest expense 6,842 6,582 5,989 5,588
------- ------- ------- -------
Net interest and dividend income 5,418 5,434 5,708 5,981
------- ------- ------- -------
Provision for loan losses 328 272 530 500
Noninterest income 356 314 354 662
Gains (losses) on sales and
writedowns of securities 29 141 452 208
Noninterest expense 3,563 3,935 3,762 4,639
------- ------- ------- -------
Income before income taxes 1,912 1,682 2,222 1,712
Income taxes 650 572 758 531
------- ------- ------- -------
Net income $ 1,262 $ 1,110 $ 1,464 $ 1,181
======= ======= ======= =======
F-34
(1) During the first quarter of 2003, the Company accrued an amount of
$2.9 million, net of federal benefit related to the REIT. As a result
of the settlement with the DOR, the Company's second quarter financial
results include a credit of approximately $1.45 million, representing
a reversal of 40% of the charge taken in the first quarter. See Note
15, Income Taxes, in the notes to the consolidated financial statements.
F-35