[LOGO] PALFED, INC.
1 9 9 6 A N N U A L R E P O R T
TABLE OF CONTENTS
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PAGE
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To Our Shareholders............................... 1
Selected Financial Data........................... 6
Management's Discussion and Analysis of Financial
Condition and
Results of Operations............................ 7
Report of Independent Accountants................. 18
Consolidated Financial Statements................. 19
Notes to Consolidated Financial Statements........ 24
Board of Directors................................ 43
Principal Officers................................ 45
Office Locations.................................. 46
Corporate Information............................. 47
COMPANY PROFILE
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PALFED, Inc. (together with its subsidiaries, the "Company") is a South Carolina
corporation whose principal subsidiary, Palmetto Federal Savings Bank of South
Carolina ("Palmetto Federal" or the "Bank") is a federal stock savings bank,
originally chartered in 1951. As of December 31, 1996 the Bank operated 21
banking and seven mortgage lending offices in South Carolina, one mortgage
lending office in Georgia and, in March 1997, opened its 22nd branch in Hilton
Head Island, South Carolina. The Company's other subsidiary is PALFED Investment
Services, Inc., a South Carolina corporation that offers retail securities
brokerage services and consumer insurance products.
EQUAL EMPLOYMENT OPPORTUNITY
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It is the Company's policy to grant equal employment opportunities to all
qualified persons without regard to race, creed, color, religion, age, national
origin, citizenship status, physical or mental handicap, or veteran's status. To
deny a qualified person the chance to contribute to our effort because he or she
is a member of a minority group is unfair, not only to the individual but to our
Company and our nation as well. It is our intent and desire to provide equal
opportunities in employment, promotion, wages, benefits, and all other
privileges, terms and conditions of employment. This policy has the support of
the highest levels of our management team.
ANNUAL MEETING NOTICE
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All shareholders are cordially invited to the Annual Meeting of Shareholders on
Tuesday, April 22, 1997 at 10:00 a.m. at the Aiken City Hall Meeting Room, 214
Park Avenue, Aiken, South Carolina, 29801.
MISSION
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Our mission is to maximize shareholder value as South Carolina's Bank.
We shall maximize shareholder value by:
-providing the best service for our customers, communities, employees and
shareholders.
-
growing our franchise through internal and new market expansion.
Our vision is for PALFED to be the best independent financial institution in
South Carolina.
TO OUR SHAREHOLDERS:
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We are extremely pleased with our results for 1996. Our third consecutive
year of record operating earnings confirms that our strategy of internal
growth and market expansion is working to build current and long-term
shareholder value.
Shareholder value is our number one priority. We are confident that as
our problem assets, investment in real estate, and their related expenses
reach normal industry standards, Palmetto
Federal will be a high performance bank
and our shareholders will continue to
benefit accordingly.
Our shareholders have been richly
rewarded in the marketplace with a stock
value that has increased from $5.50 at
the time of our rights offering in 1993
to $15.00 as of our record date in
February. In a collaborative effort with
the Company's independent financial
advisors, we have identified a number of
opportunities to further enhance
shareholder value over the near and
intermediate term. We intend to pursue
these initiatives and believe that, when
realized, they will add to the value of
our stock.
[PHOTO]
Our growth strategy has served us well
over the last four years as we have grown
from sixteen branches to twenty-two and
from five mortgage offices to eight. During 1996, we opened full-service
banking centers in downtown Charleston, Lexington, and Mt. Pleasant, as
well as a mortgage office in Columbia. In March of this year we opened
our second full-service banking center on Hilton Head Island. These new
offices made an immediate impact on balance sheet growth and earnings and
will continue to make a positive impact in the future. During 1996,
approximately 33% of mortgage originations, 33% of deposit growth and 67%
of the growth in consumer and commercial loans came from the Bank's new
markets.
The industry-wide FDIC Savings Association Insurance Fund ("SAIF")
recapitalization assessment reduced earnings in 1996 by $3.3 million
($2.2 million after tax) and also resulted in an additional $2.4 million
non-cash charge related to the write-off of Palmetto Federal's remaining
core deposit intangible. Although the SAIF assessment and deposit
intangible charges significantly reduced 1996 income, future annual
earnings will be improved by reduced insurance premiums of nearly
$825,000 and reduced intangible amortization expenses of approximately
$250,000. The core deposit intangible write-off had no impact on
regulatory capital levels and neither charge affected the Bank's "well
capitalized" status.
1
The PALFED team is very proud of the progress made since 1993 when some tough
decisions were made to position the Company for the future. The graphs below
illustrate the positive trends the Company has experienced in the very important
areas of operating income, deposit and loan growth, and reduction in
non-performing assets.
EDGAR REPRESENTATION OF DATA POINTS USED IN
PRINTED GRAPHIC
OPERATING INCOME
1993 $ (2,632,000.00)
1994 $ 3,754,000.00
1995 $ 4,145,000.00
1996 $ 4,700,000.00
EDGAR REPRESENTATION OF DATA POINTS USED IN PRINTED GRAPHIC
DEPOSITS
1993 $ 477,218,000
1994 $ 478,248,000
1995 $ 496,746,000
1996 $ 540,128,000
EDGAR REPRESENTATION OF DATA POINTS USED IN PRINTED GRAPHIC
LOANS
1993 $ 445,058,000
1994 $ 447,991,000
1995 $ 464,281,000
1996 $ 524,120,000
EDGAR REPRESENTATION OF DATA POINTS USED IN PRINTED GRAPHIC
NON-PERFORMING ASSETS
1993 $ 45,500,000
1994 $ 35,859,000
1995 $ 27,424,000
1996 $ 18,022,000
It is easy to see that as we continue to implement our "classic banking
turnaround," the future is very bright for the Company and its shareholders.
Your Board, Management, and staff have achieved our growth in share value by
hard work and dedication. We shareholders owe them our thanks for a job well
done.
2
Let me share one last graph with you -- the outstanding performance of your
Company's stock.
EDGAR REPRESENTATION OF DATA POINTS USED IN PRINTED GRAPHIC
PALFED, INC. STOCK PRICE
1993 $7.00
1994 $7.13
1995 $11.88
1996 $14.00
Our stock, in recent years, has consistently been among the top performers in
South Carolina. We believe that we will continue to have a top performing stock
as a high performance bank.
3
The PALFED story is a success story, and we have made giant strides in
solving the Company's problems and building a very valuable franchise. Our
strategic growth plan is working. We still have work to do with the remaining
assets that do not make a satisfactory contribution to earnings, but we intend
to continue to make progress in this area. Every day we see new opportunities to
expand our franchise. When the latest announced bank merger is consummated, we
will be the second largest thrift and the fourth largest independent bank in
South Carolina. Our plan is to continue to grow the Company, strengthen our
franchise and increase shareholder value.
We believe that well-managed community banks can generate superior returns
for shareholders. We also believe that Palmetto Federal, by offering exceptional
customer service, can outperform its larger, regional competitors.
Senator Strom Thurmond and Judge Charles Simons founded Palmetto Federal
forty-six years ago to build a strong community bank to serve South Carolina. We
believe that there is an important role for community banks and that all the
fundamentals are present in your Company to achieve greatness for those it was
created to serve: shareholders, customers, communities, and employees as "SOUTH
CAROLINA'S BANK."
Thank you for your continued support.
[LOGO]
John C. Troutman
President and
Chief Executive Officer
PALMETTO FEDERAL MANAGEMENT COMMITTEE
HOWARD M. HICKEY, JR., JOE W. DEVORE, JOHN C. TROUTMAN,
HOLLY Z. JOHNSON, PATRICK D. CUNNING, DARRELL R. RAINS, W. BARRY ADAMS.
4
SELECTED FINANCIAL DATA
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The selected financial data presented below for and as of the end of each of the
years in the five year period ended December 31, 1996 have been derived from the
Company's consolidated financial statements.
SUMMARY OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31 1996 1995 1994 1993 1992
(dollars and shares in thousands, except per share
amounts)
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Total interest income $ 50,735 $ 50,530 $ 46,937 $ 48,191 $ 58,480
Total interest expense 28,517 30,530 26,514 30,837 41,079
Net interest income 22,218 20,000 20,423 17,354 17,401
Provision for estimated losses on loans 1,154 1,322 2,329 6,289 6,557
Net interest income after provision for losses on loans 21,064 18,678 18,094 11,065 10,844
Noninterest income 4,492 4,178 3,334 1,400 8,422
FDIC SAIF special assessment 3,300
Write-off of core deposit intangible 2,407
Other noninterest expenses 18,388 16,454 15,917 16,166 16,514
Provision (benefit) for income taxes 1,349 2,257 1,757 (1,069) 1,229
Income (loss) before cumulative effect of a change in
accounting principle 112 4,145 3,754 (2,632) 1,523
Cumulative effect of a change in accounting principle (10,454) 1,086
Net income (loss) $ *112 $ 4,145 $ 3,754 $(13,086) $ 2,609
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AT DECEMBER 31
Total assets $665,257 $646,024 $662,425 $647,606 $746,362
Interest-earning assets 621,176 598,863 618,019 592,945 652,090
Loans receivable (including those held-for-sale) 524,120 464,281 447,991 445,058 453,891
Mortgage-backed securities 59,977 77,844 106,273 106,563 125,129
Intangible assets 2,650 2,932 3,193 13,955
Deposits 540,128 496,746 478,249 477,218 520,613
FHLB advances and other borrowed money 68,400 91,500 135,800 119,459 181,264
Shareholders' equity $ 51,823 $ 51,485 $ 45,156 $ 45,125 $ 39,375
Number of banking offices 21 18 16 16 16
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PER COMMON SHARE
Net income (loss) $ *0.02 $ 0.80 $ 0.73 $ (6.12) $ 1.80
Cash dividends declared 0.08
Tangible book value $ 9.91 $ 9.57 $ 8.32 $ 8.16 $ 17.33
Average outstanding shares used to compute net income
(loss) per share 5,242 5,163 5,170 2,137 1,446
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SELECTED RATIOS
Return on average assets *0.02% 0.64% 0.57% (1.93)% 0.35%
Return on average shareholders' equity *0.21 8.54 8.35 (31.94) 6.86
Net interest margin 3.59 3.14 3.37 2.95 2.74
Average shareholders' equity to average assets 8.26 7.44 6.84 5.96 5.06
Dividend payout ratio NM
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ASSET QUALITY RATIOS
Allowance for loan losses to total loans 1.33% 1.81% 1.83% 2.22% 1.82%
Net charge-offs to average loans outstanding 0.54 0.24 0.90 1.03 1.48
Nonperforming assets to total loans and foreclosed real
estate 3.32 3.47 4.54 6.76 3.64
General allowance for loan losses to nonperforming
assets and restructured loans 36.90 26.35 19.31 16.84 17.46
Allowance for loan losses and shareholders' equity to
nonperforming assets and restructured loans 332.95 218.43 148.83 120.89 115.40
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REGULATORY CAPITAL RATIOS
Tangible capital 6.6% 6.8% 5.9% 5.6% 3.6%
Core capital 6.6 6.8 6.3 6.1 5.0
Risk-based capital 10.4 11.4 11.2 10.5 9.3
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NM Not meaningful
* Excluding the SAIF special assessment and the write-off of core deposit intangible results in net
income of $4.7 million, net income per share of $0.90, a return on average assets of 0.73% and a
return on average shareholders' equity of 8.86%.
6
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
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OVERVIEW
In 1996, PALFED, Inc. reported its third consecutive year of record earnings
from operations. "Core" earnings (earnings excluding the SAIF special assessment
and the core deposit intangible write-off) were $4.7 million or $0.90 per common
share, an increase of 13% over 1995. As a result of the Company's improved
operating performance, in January the Board of Directors increased the quarterly
dividend to $0.03 per share. The Savings Association Insurance Fund ("SAIF")
assessment of approximately $3.3 million ($2.2 million after tax) and the $2.4
million write-off of the Bank's remaining core deposit intangible reduced net
income for 1996 to $112,000, or $0.02 per share, compared to $4.1 million or
$0.80 per share in 1995.
The Company continued to pursue opportunities to expand the Bank's franchise
into adjacent markets, thereby reducing the Company's exposure to the Central
Savannah River Area (the "CSRA") economy. Declining employment levels at the
U.S. Department of Energy's Savannah River Site ("SRS"), the area's largest
employer, continue to affect the CSRA economy. Located outside Aiken, employment
at SRS has decreased from 22,000 in 1993 to approximately 15,000 currently. SRS
recently announced additional staff reductions of 1,500. Although employment
levels may stabilize at SRS, further reductions are possible.
Since 1993 the Company's strategy of planned growth and diversification into
new markets has reduced its reliance on the CSRA economy, while expanding the
Company's franchise. In 1995 and 1996, the Company opened six new full service
banking centers in the greater Charleston and Columbia markets and in March 1997
the Company opened its twenty-second full service branch on the north end of
Hilton Head Island. Consolidations and mergers in the banking industry have
allowed the Company to minimize the capital costs of this expansion by acquiring
or leasing offices vacated by other banks. Opening offices in existing banking
facilities also has reduced start up costs and allowed the Company to leverage
the "Palmetto Federal" name as South Carolina's Bank.
The six offices opened since 1994 have generated significant new business.
During 1996 nearly 33% of mortgage division originations, 33% of the growth in
deposit balances and 67% of the loan growth in the Bank's consumer and
commercial division came from the Bank's presence in new markets.
Reductions in problem assets continued to be a high priority. As a result of
ongoing efforts, $6.6 million of troubled loans and real estate acquired through
foreclosure were sold during 1996, which contributed to a reduction in
nonperforming assets and restructured loans of $9.4 million. The Company's
strategic focus includes continued enhancement of the credit administration
functions, and a philosophy of continuous improvement in systems to identify and
quickly resolve troubled loans.
The Company continues to be mindful of the intense competition for customer
deposits from both bank and nonbank institutions. Accordingly, the Company
continues to promote and look for ways to expand its retail brokerage and tax
deferred annuity sales business. Recently, the Company's subsidiary PALFED
Investment Services opened an office in Charleston, South Carolina in order to
complement the retail offices in that market. Additionally, the Company offers
trust services to its customers through an outsourcing arrangement.
Technology continues to change the manner in which customers expect financial
services to be rendered and the products required to meet those expectations. As
a part of an ongoing process to address these issues, the Company upgraded the
computer equipment and software for its teller and customer service
representative platforms in 1996. The new systems resulted in faster processing,
enhanced transaction controls, and improved balancing procedures for branch
personnel. In addition, the Company improved its existing telephone banking
system so that customers can now order checks, make loan payments, transfer
funds, obtain account information and current rates, and transact a variety of
other services 24 hours a day by telephone. In 1996 the Company began offering
an automated bill paying service through an outside specialty phone vendor. In
1997 the Company will begin to offer VISA debit cards to its checking and ATM
customers and intends to add a home page on the Internet.
Palmetto Federal places a high priority on meeting its Community Reinvestment
Act responsibilities and meeting the credit needs of the communities it serves.
In 1996 the Bank continued to maintain its "Outstanding" rating for its CRA
efforts. This rating reflects the many efforts the Bank's officers and directors
have made in making affordable housing available in the markets served.
7
COMPARISON OF 1996 AND 1995 OPERATING RESULTS
NET INTEREST INCOME
The Company's primary determinant of earnings is net interest income. During
1996, the Company pursued a strategy of selling investment and mortgage-backed
securities to fund loan growth and to repay Federal Home Loan Bank advances.
This activity, combined with deposit growth in established and new markets,
resulted in significant increases to both the net interest margin and the net
yield. As a result, net interest income increased from $20.0 million in 1995 to
$22.2 million in 1996 despite declines in the Company's level of average
interest-earning assets and average interest-bearing liabilities.
The following table presents information with respect to interest income from
interest-earning assets and interest expense from interest-bearing liabilities,
expressed in both dollars (in thousands) and rates, for the periods indicated.
Averages are computed using month-end balances for the periods presented.
Nonaccruing loans have been included in average loans receivable for purposes of
calculating the average yield on loans receivable.
Interest Interest Interest
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INCOME/ YIELD/ Income/ Yield/ Income/ Yield/
1996 EXPENSE RATE 1995 Expense Rate 1994 Expense Rate
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AVERAGE ASSETS:
Interest-earning:
Interest bearing
deposits $ 4,456 $ 233 5.23% $ 6,370 $ 360 5.65% $ 4,577 $ 153 3.34%
Loans receivable and
held-for-sale 491,379 43,756 8.90 456,939 40,677 8.90 444,634 37,752 8.49
Mortgage-backed
securities 64,077 4,337 6.77 95,803 6,335 6.61 106,602 6,237 5.85
Total investments
(taxable) 29,003 1,620 5.59 42,945 2,369 5.52 40,079 2,124 5.30
FHLB stock 10,884 789 7.25 10,884 789 7.25 10,873 671 6.17
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Total
interest-earning 599,799 50,735 8.46% 612,941 50,530 8.24% 606,765 46,937 7.73%
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Noninterest-earning
assets 41,845 39,187 50,457
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Total average
assets $ 641,644 $ 652,128 $ 657,222
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AVERAGE LIABILITIES &
EQUITY:
Interest-bearing:
Retail savings
deposits $ 32,381 $ 838 2.59% $ 31,074 827 2.66% $ 31,409 $ 836 2.66%
Brokered time
deposits 1,862 178 9.55
Retail time deposits 374,934 21,692 5.79 365,020 21,169 5.80 323,498 15,971 4.94
Demand deposits 106,611 1,882 1.77 98,666 1,684 1.71 115,615 1,805 1.56
FHLB Advances 69,335 4,105 5.92 104,042 6,850 6.58 135,125 7,724 5.72
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Total
interest-bearing 583,261 28,517 4.89 598,802 30,530 5.10% 607,509 26,514 4.36%
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Other 5,373 4,814 4,779
Shareholders' equity 53,010 48,512 44,934
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Total average
liabilities and
equity $ 641,644 $ 652,128 $ 657,222
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Net interest income $ 22,218 $ 20,000 $ 20,423
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Interest rate spread 3.57% 3.14% 3.37%
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Net yield 3.70% 3.26% 3.37%
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The following table describes the extent to which changes in interest rates
and changes in volume of interest-earning assets and interest-bearing
liabilities have affected Palmetto Federal's interest income and expense during
the periods
8
indicated. For each category of interest-earning asset and interest-bearing
liability, information is provided on changes attributable to (1) change in
volume (change in volume multiplied by old rate); (2) change in rates (change in
rate multiplied by old volume); (3) change in rate-volume (change in rate
multiplied by the change in volume).
1996 VERSUS 1995 1995 VERSUS 1994
INCREASE (DECREASE) INCREASE (DECREASE)
DUE TO DUE TO
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RATE/ Rate/
VOLUME RATE VOLUME TOTAL Volume Rate Volume Total
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(dollars in thousands)
Changes In:
Interest revenue:
Loans receivable $ 3,066 $ 12 $ 1 $3,079 $ 692 $ 2,188 $ 45 $ 2,925
Mortgage-backed securities (2,071) 109 (36) (1,998) (667) 857 (92) 98
Investments (997) 169 (48) (876) 244 301 25 570
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Total interest income (2) 290 (83) 205 269 3,346 (22) 3,593
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Interest expense:
Deposits 918 (179) (7) 732 890 3,819 181 4,890
Other borrowed money (2,285) (690) 230 (2,745) (1,777) 1,173 (270) (874)
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Total interest expense (1,367) (869) 223 (2,013) (887) 4,992 (89) 4,016
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Net interest income (expense) $ 1,365 $ 1,159 $(306) $2,218 $ 1,156 $(1,646) $ 67 $ (423)
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NONINTEREST INCOME
Noninterest income increased by $314,000 or 7.5% in 1996 compared to 1995,
primarily due to increases in gains on sales of loans and securities, other
income and financial services fees, offset in part by a decrease in gains from
trading account securities and checking transaction fees.
Gains on sales of loans and securities increased by $669,000 to $1.0 million
in 1996 and resulted primarily from mortgage servicing rights recorded under the
provisions of Statement of Financial Accounting Standards ("SFAS") No. 122,
"Accounting for Mortgage Servicing Rights", of $244,000 and a gain of $162,000
from the sale of Federal National Mortgage Association ("FNMA") stock. The
Company adopted SFAS No. 122 effective October 1, 1995.
Miscellaneous other income increased $94,000 during 1996 primarily due to
receipt of $100,000 in interest on a federal income tax refund. Additionally,
fees on products such as wire transfers, money orders, travelers checks and
ATM's increased by $74,000 or 21.2% due to a greater volume of transactions and
a new ATM fee charged to noncustomers. Additional accretion related to purchased
loans decreased by $43,000 or 55.1% due to slower repayment of the related
loans.
NONINTEREST EXPENSES
Noninterest expenses in 1996 increased $7.7 million, primarily attributable to
the FDIC SAIF special assessment of $3.3 million and the write-off of the $2.4
million core deposit intangible asset. Additionally, other noninterest expenses
increased due primarily to the Company's expansion into new markets.
Increases in compensation and employee benefits were due to: $771,000 or
10.0% in costs due to normal merit wage adjustments and increased staffing at
new offices; an increase of $365,000 in incentive program costs; an increase of
$125,000 or 15.8% in medical and retirement costs resulting from increased
medical claims in 1996 combined with increased staffing levels. These increases
were offset by an increase of $95,000 or 8.5% in capitalized loan costs
resulting from greater loan origination volume. Additional capitalized costs
result in more fixed costs associated with loan originations being deferred over
the life of the loans rather than being recognized as a current expense.
The primary components of compensation and employee benefits for the years
ended December 31 follow:
1996 1995
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(in thousands)
Salaries $ 8,507 $ 7,736
Incentive programs 928 563
Medical and retirement expenses 915 790
Payroll and other taxes 646 593
Other expenses 126 122
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11,122 9,804
Capitalized costs of loan originations (1,215) (1,120)
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Compensation and employee benefits $ 9,907 $ 8,684
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9
The 15.5% increase in occupancy and equipment expenses resulted primarily
from $235,000 in costs directly related to new offices opened in late 1995 and
1996. The Company opened 3 new banking offices and one mortgage office in 1996
at an average capital investment of approximately $100,000 per office. The
Company purchased its Lexington branch for approximately $300,000 and is leasing
the other new offices.
An increased number of loan accounts and direct mailings resulted in
increased postage and supplies expense of $36,000 and $65,000, respectively.
Other expenses include a loss of $290,000 related to a commercial checking
account.
The 15.5% increase in professional and outside service fees was primarily
attributable to an increase of $112,000 or 31.0% in legal fees, an increase of
$28,000 or 33.3% in financial printing and stock transfer agent expenses and an
increase of $57,000 or 19.3% in outside service fees paid primarily to temporary
and part-time employees as the Company sought to avoid the costs of adding
full-time employees.
INCOME TAXES
The effective tax rate was 92.3% in 1996 compared to 35.3% in 1995. The
significant increase resulted from the previously discussed write-off of an
intangible asset, which is nondeductible under the Internal Revenue Code.
FOURTH QUARTER RESULTS OF OPERATIONS
The fourth quarter net loss was $1.1 million in 1996 compared to earnings of
$1.1 million in 1995. The principal reason for the decrease in 1996 fourth
quarter earnings was the write-off of the $2.4 million core deposit intangible
asset. Additionally, losses from real estate operations increased $413,000 due
to an increased provision for loss on foreclosed real estate and compensation
and employee benefits increased $325,000.
Positive factors in the 1996 quarter included an increase of $948,000 in net
interest income and a decline of $132,000 in federal deposit insurance premiums.
LENDING ACTIVITIES
Loans comprise the major interest-earning assets of the Company, accounting for
82% and 75% of average interest-earning assets in 1996 and 1995, respectively.
The Bank's loan portfolio consists of real estate mortgage and construction
loans, home equity lines of credit, consumer loans including mobile home loans,
commercial real estate, commercial and multifamily loans. Single family loan
originations consist of both fixed and adjustable rate loans. The Company
generally retains all adjustable rate loans, construction loans, fixed rate
loans with original terms of 20 years or less and balloon loans in portfolio.
FHA, VA and 30 year fixed rate loans are typically originated for sale and
either securitized and sold in the secondary market as mortgage backed
securities or sold for cash through an established investor network.
Compared with balances at December 31, 1995, net loans receivable grew by
11%. Loan originations increased significantly in 1996 over 1995 levels. In
1996, the Bank originated loans of $227.1 million, compared to $172.2 million in
1995. Although residential mortgage originations comprise the majority of
originations, a significant portion of originations during 1995 and 1996 were
commercial real estate and construction loans. Total residential originations in
1996 were $149.9 million, compared to $106.4 million in 1995. The Bank
originated $36.2 million in commercial and commercial real estate loans in 1996,
compared to $30.9 million in 1995. During 1995, the Bank changed its lending
strategy to increase the origination of larger commercial real estate loans,
including those loans greater than $1.0 million. These loans typically involve
more risk than associated with residential lending. The 1996 originations
included 8 such loans, totalling $10.9 million, compared to 8 loans of this
scope totalling $13.1 million in 1995.
INVESTMENT AND MORTGAGE-BACKED SECURITIES
The primary objective of the Company in managing the investment portfolio is to
maintain a portfolio of high quality, liquid investments with returns
competitive with short term US treasury or agency securities. The objective with
respect to mortgage-backed securities and collateralized mortgage obligations is
generally to maintain a portfolio of highly rated (generally AAA) securities
with a significant amount of monthly repayment of principal at an attractive
yield spread to comparable treasuries at time of purchase. The Bank's strategy
has been to decrease levels of investments and redeploy these funds into retail
loans and reductions in FHLB advances. As a result of this strategy investment
and mortgage-backed securities decreased $35.1 million or 29.8% to $82.7 million
at December 31, 1996.
In November 1995, the Financial Accounting Standards Board ("FASB") issued a
Special Report, "A Guide to Implementation of Statement 115 on Accounting For
Certain Debt and Equity Securities", which included a transition provision
allowing all entities to reassess the appropriateness of the classifications of
all securities held and account for any resulting reclassifications at fair
value. In response to the Special Report, the Company transferred securities
with a carrying value of $42.8 million from held-to-maturity to
available-for-sale.
10
ASSET/LIABILITY MANAGEMENT
Asset and liability management is the process by which Palmetto Federal attempts
to maximize net interest income while minimizing the adverse effects of
potential interest rate changes (interest rate risk). The Company presently does
not utilize financial derivative products such as futures, options or interest
rate swaps as part of its asset and liability management process.
The Company's Asset and Liability Committee makes weekly pricing and
marketing decisions on deposit and loan products in conjunction with managing
the Company's interest rate risk. The Investment Committee of the Board of
Directors reviews the Bank's investment and mortgage-backed securities
portfolios, FHLB advances and other borrowings as well as the Company's asset
and liability policies. Additionally, the Investment Committee monitors the
interest rate risk of the Bank's balance sheet.
The Company's primary method used to analyze interest rate risk is balance
sheet modeling. Because rate changes in adjustable rate mortgages and certain
securities and liabilities tend to lag changes in interest rates, management
utilizes computer asset and liability simulation models as another analytical
tool to estimate the effects of interest rate changes on net interest income and
net portfolio value ("NPV") that would result from possible changes in interest
rates. Management utilizes these simulation models to analyze the estimated
impact of various strategies on the Bank's interest rate risk exposure before
implementing such strategies. Palmetto Federal's NPV ratio change, referred to
as the "sensitivity measure", increased from 1.02% at December 31, 1995 to 1.33%
at December 31, 1996, indicating an increase in interest rate risk. Management's
objective is to maintain the sensitivity measure at or below 2.0%. As the
Company is liability sensitive, the sensitivity measure generally increases when
market interest rates rise. During 1996, the benchmark 30 year Treasury bond
yield increased 69 basis points. The Office of Thrift Supervision ("OTS") uses a
similar computer simulation model to calculate interest rate risk on
institutions it regulates.
NONPERFORMING ASSETS AND RESTRUCTURED LOANS
The Company marked a third consecutive year of reducing nonperforming assets and
restructured loans in 1996 with a reduction of $9.7 million. The decrease was
primarily attributable to sales of certain nonaccrual loans and foreclosed real
estate.
The table below sets forth the amounts and categories of Palmetto Federal's
nonaccrual and restructured loans and foreclosed real estate at the dates
indicated. Restructured loans include loans restructured under the provisions of
both SFAS No. 15, "Accounting by Debtors and Creditors for Troubled Debt
Restructurings" and SFAS No. 114, "Accounting by Creditors for Impairment of a
Loan".
- ----------------------------------------------------------------------------------------------
DECEMBER 31 1996 1995 1994 1993 1992
- ----------------------------------------------------------------------------------------------
(dollars in thousands)
Nonaccrual loans $ 4,302 $ 8,391 $ 12,466 $ 23,790 $ 12,209
Foreclosed real estate 7,187 8,015 8,269 6,775 4,563
Restructured loans 6,562 12,210 16,412 17,158 25,511
- ----------------------------------------------------------------------------------------------
18,051 28,616 37,147 47,723 42,283
Less specific valuation allowances (360) (1,192) (1,288) (2,223) (1,030)
- ----------------------------------------------------------------------------------------------
$ 17,691 $ 27,424 $ 35,859 $ 45,500 $ 41,253
- ----------------------------------------------------------------------------------------------
General allowance for loan losses as a
percentage of the total 36.2% 26.3% 19.3% 16.8% 17.5%
Total as a percentage of loans
receivable, net 3.4% 5.9% 8.1% 10.2% 9.1%
Total as a percentage of total assets 2.7% 4.2% 5.4% 7.0% 5.5%
- ----------------------------------------------------------------------------------------------
Potential problem loans represent loans that are current as to payment of
principal and interest, but where management has doubts about the borrower's
ability to comply with present repayment terms. These loans, which are primarily
commercial real estate loans, are not included in nonperforming assets and
restructured loans. These loans totalled approximately $14.5 million and $9.4
million at December 31, 1996 and 1995, respectively. The increase is due
primarily to the upgrade of certain assets which were previously nonperforming
or restructured, but which management continues to monitor closely.
11
Changes in the components of nonperforming assets and restructured loans, net
of specific valuation allowances, during the year ended December 31, 1996 were
as follows:
Restructured Nonaccrual Foreclosed
Loans Loans Real Estate Total
- --------------------------------------------------------------------------------------------
(in thousands)
December 31, 1995 $ 11,553 $ 7,856 $ 8,015 $ 27,424
Performing loans which became
nonperforming 1,310 2,385 1,289 4,984
Upgrades due to performance (3,561) (797) (4,358)
Sales (1,420) (5,214) (6,634)
Charge-offs and other (852) (899) (1,751)
Cash repayments of principal (629) (1,345) (1,974)
Nonaccrual loans which became
restructured 376 (376)
Nonaccrual loans which became
foreclosures (2,821) 2,821
Restructured loans which became
foreclosures (1,175) 1,175
Restructured loans which became
nonaccrual loans (1,341) 1,341
- --------------------------------------------------------------------------------------------
December 31, 1996 $ 6,533 $ 3,971 $ 7,187 $ 17,691
- --------------------------------------------------------------------------------------------
Although restructured loans include earning assets, there is more than normal
risk associated with these loans due to the fact that some were made to
facilitate the sale of foreclosed real estate and some were restructured because
the borrower could not meet the original loan terms. The following table lists
Palmetto Federal's three largest restructured loans at December 31, 1996. These
loans represent approximately 67% of the Bank's restructured loans.
Amount Description
- ----------------------------------------------------------------------------------
(in thousands)
$ 2,187 Loan collateralized by a 102 unit apartment complex in Myrtle Beach,
South Carolina. The 1994 restructuring included a principal charge-off
of approximately $624,000, a new borrower and new repayment terms.
1,562 Loans to finance the December 1993 sale of the remaining lots, seven
outparcels and the development and sales offices at Woodside
Plantation. The 1995 restructuring included: the Company acquired 35
lots and reduced principal by $492,000; agreed to pay $330,000 in
joint marketing expenses and $184,500 to Woodside Plantation Country
Club under the membership agreement; and granted a 2 year extension of
the option to purchase the remaining undeveloped acreage.
654 Loan to finance the sale of several units within a condominium project
in Columbia, South Carolina. The 1994 restructuring included a
write-off of principal and a reduction in the interest rate.
- ----------------------------------------------------------------------------------
$ 4,403
- ----------------------------------------------------------------------------------
Palmetto Federal's nonaccrual loans at December 31, 1996 include one $1.0
million loan collateralized by a 40 unit townhouse type apartment complex in
Charleston, South Carolina. A 1994 restructuring of this loan included a
principal charge-off of approximately $314,000, a change in repayment terms and
a decrease in the interest rate. The remaining nonaccrual loans are primarily
comprised of loans collateralized by real estate, none of which individually
exceeds $400,000.
The following table lists Palmetto Federal's five largest foreclosed
properties at December 31, 1996. These properties represent approximately 48% of
the Bank's foreclosed properties.
Amount Description
- ----------------------------------------------------------------------------------
(in thousands)
$ 949 Undeveloped commercial land comprised of two tracts of 76 acres and
13.3 acres, respectively. The tracts are located south of Aiken, South
Carolina adjacent to Woodside Plantation.
839 A 26,024 square foot office building located within a commercial
office park in Aiken, South Carolina.
708 Thirty-three single family residential lots in Woodside Plantation
acquired in a 1995 debt restructuring. A single family house was built
on one lot in 1996. See REAL ESTATE DEVELOPMENT ACTIVITIES.
505 Sixteen single family residential lots and 75 acres of vacant land
south of Aiken, South Carolina.
450 Single family residence located in Aiken, South Carolina.
- ----------------------------------------------------------------------------------
$ 3,451
- ----------------------------------------------------------------------------------
The Asset Classification and Review Committee reviews quarterly all loan
relationships and REO greater than $250,000, and is responsible for the
appropriate classification of assets in accordance with OTS regulations.
Palmetto
12
Federal uses the quarterly classifications as well as historical charge-offs in
its determination of the allowance for loan losses. The Credit Administration
Department monitors lending relationships whose balances exceed $100,000,
exclusive of debt collateralized by a primary residence.
The determination of individual asset classifications depends on the degree
of risk associated with the asset and the likelihood of repayment or orderly
liquidation. The portion of a loan or other asset classified as "loss" is
considered uncollectible and a specific valuation allowance is established in
the amount of that portion. A "doubtful" asset has a high possibility of loss
but certain pending factors preclude the estimation of a specific valuation
allowance. Palmetto Federal classifies an asset as "substandard" if the asset
exhibits a defined weakness and is inadequately protected either by the paying
capacity of the borrower or the value of the underlying collateral. "Special
mention" assets are those assets that have potential weaknesses which, if not
corrected, could increase the risk of financial loss. The Bank's total
criticized assets include its nonperforming assets and restructured loans of
$18.0 million as well as its potential problem loans of $14.5 million. The
following table summarizes the Bank's criticized assets at December 31:
1996 1995 1994
- ------------------------------------------------------------------------
(in thousands)
Special mention $ 13,278 $ 9,867 $ 11,050
Substandard 17,702 25,450 30,138
Doubtful 364
Loss 1,220 1,462 1,822
- ------------------------------------------------------------------------
$ 32,564 $ 36,779 $ 43,010
- ------------------------------------------------------------------------
The following table summarizes Palmetto Federal's loan loss experience for
each of the periods indicated:
- ---------------------------------------------------------------------------------------------------
YEARS ENDED DECEMBER 31, 1996 1995 1994 1993 1992
- ---------------------------------------------------------------------------------------------------
(dollars in thousands)
Average loans for the year $ 491,379 $ 456,939 $ 444,634 $ 450,732 $ 499,816
- ---------------------------------------------------------------------------------------------------
Allowance for loan losses, beginning of
the year $ 8,417 $ 8,213 $ 9,883 $ 8,232 $ 9,054
- ---------------------------------------------------------------------------------------------------
Charge-offs:
Permanent residential 228 124 404 344 550
Second mortgages 24 68 64 9 3
Commercial real estate 1,414 671 3,150 3,382 5,746
Consumer 1,193 829 564 766 870
Commercial 185 78 390 378 406
- ---------------------------------------------------------------------------------------------------
Total charge-offs 3,044 1,770 4,572 4,879 7,575
- ---------------------------------------------------------------------------------------------------
Recoveries:
Permanent residential 13 36 58 9 51
Second mortgage 5 10
Commercial real estate 288 441 332 142
Consumer 131 102 103 84 134
Commercial 19 73 70 6 11
- ---------------------------------------------------------------------------------------------------
Total recoveries 456 652 573 241 196
- ---------------------------------------------------------------------------------------------------
Net charge-offs for the year (2,588) (1,118) (3,999) (4,638) (7,379)
Provision for loan losses 1,154 1,322 2,329 6,289 6,557
- ---------------------------------------------------------------------------------------------------
Allowance for loan losses, end of the
year $ 6,983 $ 8,417 $ 8,213 $ 9,883 $ 8,232
- ---------------------------------------------------------------------------------------------------
Ratio of net charge-offs to average
loans 0.53% 0.24% 0.90% 1.03% 1.48%
- ---------------------------------------------------------------------------------------------------
The provision for loan losses in 1996, 1995 and 1994 reflected the decreases
in nonperforming assets and restructured loans and classified loans. The
provision for loan losses for 1992 and 1993 averaged $6.4 million due to the
significant increase in nonperforming assets and restructured loans as well as a
significant increase in classified assets. These increases were principally
caused by the general weakening of certain commercial real estate loans and
single family development loans, which resulted in increased delinquencies and
loan restructurings.
Charge-offs in 1996 increased principally due to increases in charge-offs of
commercial real estate and consumer loans. The increase in the commercial real
estate sector occurred primarily because of one charge-off of approximately
$481,000 on a previously restructured loan. The underlying collateral of this
loan was sold to a new borrower and the loan modified to market terms. The 1996
increase in the consumer sector resulted from an increase of $514,000 in mobile
home loan charge-offs. In 1995, the Company began aggressively repossessing the
collateral related to these delinquent loans and in
13
1996 repossessed 51 mobile homes with a carrying value of $504,000 and sold 75
mobile homes with a carrying value of $758,000. The Company has also tightened
underwriting standards related to this type of lending and the portfolio
declined by $3.8 million to $18.4 million, after declining $3.1 million in 1995.
Charge-offs in 1995 declined principally due to a decline of $2.4 million in
commercial real estate loan charge-offs. In 1994, as in 1993 and 1992, portions
of several commercial real estate loans were charged-off as those loans were
restructured or written off as uncollectible. Charge-offs in other categories
declined as well in 1995, except for consumer loans, for which charge-offs
increased $265,000. This increase occurred primarily due to an increase of
$166,000 or 70.6% in mobile home loan charge-offs resulting from increased
collection efforts.
The provision for loan losses is a reflection of actual losses experienced
during the year and management's judgment as to the adequacy of the allowance
for loan losses to absorb future losses in loans currently outstanding. Some of
the factors considered by management in determining the amount of the provision
and resulting allowance include: (1) credit reviews of individual loans and
relationships; (2) net charge-offs over the prior three years; (3) growth in and
composition of the loan portfolio; (4) the current level of the allowance in
relation to total loans and to historical loss levels; (5) the level of
classified assets; (6) fair value of collateral property; and (7) management's
estimate of future economic conditions and the resulting impact on the Company.
Management's determination of the adequacy of the allowance for loan losses
requires the use of judgments and estimates that may change in the future.
Unfavorable changes in the factors used by management to determine the adequacy
of the allowance, or the availability of new information, could cause the
allowance for loan losses to be increased or decreased in future periods. In
addition, bank regulatory agencies, as part of their examination process, may
require additions to the allowance for loan losses based on their judgments and
estimates.
REAL ESTATE DEVELOPMENT ACTIVITY
At December 31, 1996, real estate acquired for development and sale (including
partnership interests) totalled $6.3 million compared to $6.4 million in 1995.
Approximately $4.5 million of the total consists of 2 outparcels and
approximately 1,000 acres of undeveloped land surrounding a golf course at
Woodside Plantation in Aiken, South Carolina.
Approximately $915,000 relates to 2 houses and 38 single family lots in the
Rapids subdivision in North Augusta, South Carolina. The Company recently sold
one of these homes and may build two additional speculative homes to facilitate
the sale of these lots.
The Company continues to have a significant concentration of risk related to
Woodside Plantation, exclusive of loans to individual home owners, comprised of
real estate held for development, acquisition and development loans, foreclosed
real estate and a 50% ownership in a partnership. The carrying values of these
components were as follows at December 31:
1996 1995
- -------------------------------------------------------------
(in thousands)
1,000 acres $ 3,733 $ 3,733
2 outparcels 750 750
WPCC loans 4,393 4,454
Woodside Development L.P. loans 2,308 3,311
Lots received in restructuring,
including subsequent improvements 708 492
Development loan to unrelated borrower 150 525
Investment in and loans to partnership
adjacent to Woodside Plantation 457 613
- -------------------------------------------------------------
$ 12,499 $ 13,878
- -------------------------------------------------------------
The Company was the original developer of the Woodside Plantation project, a
development planned to contain a country club and over 1,800 single family lots
as well as developed outparcels. The Company sold the country club in 1990 and
sold the remaining 219 lots and certain other outparcels to Woodside Development
L.P. (the "Purchaser") in December 1993. In addition, the Purchaser assumed
liabilities related to the purchase of memberships at Woodside Plantation
Country Club ("WPCC") and also entered into an option agreement, which expires
December 31, 1997, to acquire parcels of the undeveloped land at Woodside
Plantation. There are no assurances the Purchaser will acquire the entire 1,000
acres under the option agreement. During 1996, the Purchaser's indebtedness to
the Bank declined $1.0 million or 30.3% as a result of sales of lots and houses.
The Purchaser's ability to repay its indebtedness is primarily based on the
volume and timing of lot sales. Although there are no assurances that lot sales
will be sufficient to repay the debt, the Purchaser's business plan is targeted
primarily to the national retiree market, and therefore, current and future
sales are less reliant on the local economy.
14
Similarly, the ability of WPCC to repay its loans to Palmetto Federal depends
in part on the success of real estate sales, which in turn provides cash flow
through additional initiation deposits and membership fees to the Club.
Effective April 1, 1996, Palmetto Federal modified its loans to WPCC from
amortizing to interest only for one year.
LIQUIDITY AND CAPITAL RESOURCES
Palmetto Federal's principal sources of funds are deposits, principal and
interest payments on loans, investment and mortgage-backed securities, proceeds
from sales of investment and mortgage-backed securities, FHLB advances, other
borrowings, and retained earnings. Palmetto Federal's liquidity is measured by
the ratio of cash and short-term investments (as defined by the OTS regulations)
to the sum of savings and borrowings payable in one year, less loans on savings.
The Bank's average liquidity level of 6.5% was in excess of the required amount
of 5.0% for December 1996.
Shareholders' equity increased by 0.7% from December 31, 1995 to December 31,
1996, principally due to earnings of $112,000 and issuance of 130,000 shares of
common and treasury stock. The shareholders' equity to assets ratio decreased
from 7.97% at December 31, 1995 to 7.79% at December 31, 1996.
The Company's capital expenditures for its four new offices opened in 1996
were $398,000, principally for computers, office equipment and furniture.
Additionally, the company upgraded its branch network computer equipment and
software for approximately $240,000. Management does not expect significant
capital expenditures related to the opening of additional offices in 1997.
SAIF ASSESSMENT AND CORE DEPOSIT INTANGIBLE WRITE-OFF
On September 30, 1996, the President signed legislation to recapitalize the SAIF
through a special assessment to bring it up to the same reserve level as the
Bank Insurance Fund. The $3.3 million assessment equaled 65.7 cents per $100 of
insured deposits outstanding as of March 31, 1995. Following the SAIF
recapitalization, the FDIC reduced deposit insurance premiums for thrifts. As a
result, Palmetto Federal will pay 3 cents per $100 of deposits in 1997, compared
to 26 cents per $100 of deposits in 1996, resulting in estimated savings of
$825,000.
In addition, the costs of the Financing Corporation ("FICO") bonds will be
shared by the bank and thrift industries. Previously, the thrifts paid the
entire cost of these bond payments. Banks and thrifts will pay 1.29 cents and
6.48 cents, respectively, per $100 of deposits. After January 1, 2000, both
banks and thrifts will pay 2.43 cents per $100 of deposits. These rates are only
for FICO interest and further premiums could be assessed.
On the date the SAIF assessment was enacted, the remaining core deposit
intangible asset which resulted from the 1982 acquisition of another savings
institution totalled $2.4 million and had an estimated remaining life of
approximately 11 years. As a result of the SAIF assessment, management
reassessed the carrying value of this intangible asset, concluded that the asset
was impaired and wrote-off the remaining balance in December 1996.
RECENT ACCOUNTING AND REPORTING CHANGES
In June 1996, the FASB issued SFAS No. 125, "Accounting for Transfers and
Servicing of Financial Assets and extinguishments of Liabilities", which the
Company is required to adopt effective January 1, 1997. SFAS No. 125 establishes
accounting and reporting standards for transfers and servicing of financial
assets and extinguishments of liabilities. After a transfer of financial assets,
the Company recognizes the financial and servicing assets it controls and the
liabilities it has incurred and derecognizes financial assets when control has
been surrendered and derecognizes liabilities when extinguished. SFAS No. 125
also provides consistent standards for distinguishing transfers of financial
assets that are sales from transfers that are secured borrowings. Management
believes the adoption of SFAS No. 125 will not have a significant effect on the
financial condition or results of operations of the Company.
In December 1996, the FASB issued SFAS No. 127, "Deferral of the Effective
Date of Certain Provisions of FASB Statement No. 125". SFAS No. 127 defers until
January 1, 1998, certain provisions of SFAS No. 125.
EFFECT OF INFLATION AND CHANGING PRICES
The Company's consolidated financial statements and related data have been
prepared in accordance with generally accepted accounting principles that
require the measurement of financial position and operating results in terms of
historical dollars, without considering changes in the relative purchasing power
of money over time due to inflation. Unlike industrial companies, virtually all
of the assets and liabilities of a financial institution are monetary in nature.
As a result, interest rates have a more significant impact on a financial
institution's performance than the effects of general levels of inflation.
Interest rates do not necessarily move in the same direction or in the same
magnitude as the prices of goods and services. However, noninterest expenses do
reflect general levels of inflation.
15
COMPARISON OF 1995 AND 1994 OPERATING RESULTS
PALFED recorded net earnings of $4.1 million or $0.80 per share in 1995 compared
to $3.8 million or $0.73 per share in 1994. Total assets were $646.0 million and
$662.4 million at December 31, 1995 and 1994, respectively.
NET INTEREST INCOME
Net interest income in 1995 was $20.0 million, a decrease of 2.1% from 1994.
Total interest income in 1995 was $50.5 million compared to $46.9 million in
1994, an increase of $3.6 million. Total interest expense in 1995 was $30.5
million compared to $26.5 million in 1994. During 1995, the Company's level of
average interest-earning assets increased while average interest-bearing
liabilities decreased, which improved earnings by $1.2 million. However, rates
paid on liabilities increased faster than rates earned on assets, which
decreased earnings by $1.6 million.
PROVISION FOR ESTIMATED LOSSES ON LOANS
Due principally to the decrease in the level of problem assets during the year,
the provision for estimated loan losses decreased from $2.3 million in 1994 to
$1.3 million in 1995. Net charge-offs in 1995 were $1.1 million or $0.2 million
less than the provision, resulting in an increase in the allowance for estimated
loan losses to $8.4 million or 1.81% of loans receivable at December 31, 1995
compared to $8.2 million or 1.83% of loans receivable at December 31, 1994.
NONINTEREST INCOME
Noninterest income increased by $844,000 in 1995 compared to 1994. The increase
was primarily attributable to: (1) decline of $1.5 million in losses from real
estate operations; (2) an increase of $406,000 in gains on sales of investment
and mortgage-backed securities and loans; and (3) an increase of $118,000 in
late charge and other fees. These factors were offset by a decrease of $1.0
million in other income.
The decrease in the loss from real estate operations resulted primarily from
the decrease of $1.1 million in the provision for loss on foreclosed real
estate, a decrease of $176,000 in expenses associated with foreclosed real
estate, and a decrease of $139,000 in expenses associated with real estate at
Woodside Plantation.
Gains on sales of investment and mortgage-backed securities and loans
increased due to increased sales of such assets. Additionally, in the fourth
quarter of 1995, the Company adopted Statement of Financial Accounting Standards
No. 122, "Accounting for Mortgage Servicing Rights", resulting in a gain of
$153,000.
Late charges on loans and other fees increased by $118,000 or 29.7% in 1995
primarily as a result of an increase of $98,000 in collections of reimbursable
fees from borrowers on credit bureau reports and appraisals.
Other income decreased $1.0 million during 1995 primarily due to the 1994
receipt of $923,000, net of related expenses, in interest on federal and state
income tax refunds. Additionally, insurance commissions on credit life insurance
sales decreased by $64,000 or 40.5% and miscellaneous fees decreased by $50,000
or 58.1%.
NONINTEREST EXPENSES
Noninterest expenses for 1995 were $16.5 million compared to $15.9 million for
1994, an increase of $537,000. Compensation and employee benefits increased
$673,000 or 8.4% and advertising and public relations increased by $296,000 or
67.6%. The net increase in compensation and benefits was due to: lower loan
origination volume resulting in $222,000 more in fixed costs associated with
loan originations recognized as current expense rather than deferred over the
life of the loans; $297,000 or 4.0% more in costs due to normal merit wage
adjustments and increased incentive programs costs of $159,000 due to increased
earnings. The increase in advertising and public relations resulted from the
introduction of a new multimedia advertising campaign to position Palmetto
Federal as "The Bank of Choice" in South Carolina.
These increases were offset primarily by decreases of $352,000 and $195,000
in professional and outside service fees and federal insurance premiums and
assessments, respectively. The decrease in professional and outside service fees
was primarily attributable to decreased consultant fees of $155,000 and to
decreased legal fees of $111,000.
INCOME TAXES
The effective tax rate was 35.3% in 1995 compared to 31.9% in 1994. During 1994,
the Internal Revenue Service completed its audit of the Company's consolidated
federal income tax returns through 1991. The audit resulted in federal income
tax refunds of $1.2 million plus $162,000 in related state income tax refunds
which reduced the 1994 effective tax rate.
16
INFORMATION IN THIS ANNUAL REPORT, OTHER THAN HISTORICAL INFORMATION, CONTAINS
FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS AND UNCERTAINTIES, INCLUDING, BUT
NOT LIMITED TO, THE IMPACT OF FUTURE REGULATORY ACTIONS OF THE FDIC REGARDING
FEDERAL DEPOSIT INSURANCE RATES, THE TIMING AND SUCCESS OF CERTAIN BUSINESS
INITIATIVES BY THE COMPANY, THE SUCCESS OF THE COMPANY'S EFFORTS IN REDUCING ITS
INVESTMENT IN REAL ESTATE AND LEVELS OF NONPERFORMING ASSETS, AND THE COMPANY'S
INTEREST RATE RISK POSITION. THE COMPANY'S ACTUAL RESULTS MAY DIFFER MATERIALLY
AND ADVERSELY FROM THOSE DISCUSSED IN THE FORWARD-LOOKING STATEMENTS. THE READER
MAY OBTAIN A COPY OF THE COMPANY'S ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED
DECEMBER 31, 1996 FOR A MORE COMPLETE ANALYSIS OF THE COMPANY'S OPERATIONS.
17
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders
PALFED, Inc.
We have audited the accompanying consolidated statements of financial condition of
PALFED, Inc. and Subsidiaries as of December 31, 1996 and 1995, and the related
consolidated statements of income, shareholders' equity, and cash flows for each of
the three years in the period ended December 31, 1996. These 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 generally accepted auditing standards.
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, the financial statements referred to above present fairly, in all
material respects, the consolidated financial position of PALFED, Inc. and
Subsidiaries as of December 31, 1996 and 1995, and the consolidated results of their
operations and cash flows for each of the three years in the period ended December
31, 1996 in conformity with generally accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, the Company changed
its methods of accounting for impaired loans and mortgage servicing rights in 1995.
[LOGO]
Atlanta, Georgia
February 22, 1997
18
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
PALFED, INC.
AND SUBSIDIARIES DECEMBER 31, 1996 1995
--------------------------------------------------------------------------------------
(IN THOUSANDS EXCEPT SHARE DATA)
ASSETS
--------------------------------------------------------------------------------------
Cash and due from banks $ 16,942 $ 15,471
Interest-bearing deposits with other banks 3,465 5,854
Investment and mortgage-backed securities:
Available-for-sale 24,007 55,550
Held-to-maturity 58,700 62,293
Loans held-for-sale 11,241 2,836
Loans receivable, net 512,879 461,445
Investment in real estate, net 13,501 14,448
Investment in Federal Home Loan Bank stock 10,884 10,884
Premises and equipment, net 5,958 5,350
Accrued interest receivable 3,835 4,256
Other assets 3,845 7,637
--------------------------------------------------------------------------------------
$ 665,257 $ 646,024
--------------------------------------------------------------------------------------
LIABILITIES AND SHAREHOLDERS' EQUITY
--------------------------------------------------------------------------------------
Deposits:
Noninterest-bearing accounts $ 30,577 $ 27,333
Savings and NOW accounts 121,432 105,329
Certificates of deposit 384,678 363,193
Accrued interest payable 3,441 891
--------------------------------------------------------------------------------------
Total deposits 540,128 496,746
Federal Home Loan Bank advances 68,400 91,500
Other liabilities 4,906 6,293
--------------------------------------------------------------------------------------
TOTAL LIABILITIES 613,434 594,539
--------------------------------------------------------------------------------------
COMMITMENTS AND CONTINGENCIES
--------------------------------------------------------------------------------------
Shareholders' equity:
Common stock, $1 par value; authorized 10,000,000 shares; issued
5,231,317 and 5,142,166 shares; 5,231,317 and 5,101,297
shares outstanding, respectively 5,231 5,142
Additional paid-in capital 28,115 26,904
Retained earnings 20,320 20,626
Unearned compensation (1,128)
Net unrealized loss on securities, net of tax benefit of $369
and $456, respectively (715) (884)
Treasury stock, at cost (40,869 shares) (303)
--------------------------------------------------------------------------------------
TOTAL SHAREHOLDERS' EQUITY 51,823 51,485
--------------------------------------------------------------------------------------
$ 665,257 $ 646,024
--------------------------------------------------------------------------------------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS.
19
CONSOLIDATED STATEMENTS OF INCOME
PALFED, INC.
AND SUBSIDIARIES FOR THE YEARS ENDED DECEMBER 31, 1996 1995 1994
--------------------------------------------------------------------------------
(in thousands, except per share data)
Interest income:
Loans $ 43,756 $ 40,677 $ 37,752
Mortgage-backed securities 4,337 6,335 6,237
Investment securities 2,409 3,158 2,795
Other 233 360 153
--------------------------------------------------------------------------------
Total interest income 50,735 50,530 46,937
--------------------------------------------------------------------------------
Interest expense:
Deposits 24,412 23,680 18,790
Other borrowings 4,105 6,850 7,724
--------------------------------------------------------------------------------
Total interest expense 28,517 30,530 26,514
--------------------------------------------------------------------------------
Net interest income 22,218 20,000 20,423
Provision for estimated losses on loans 1,154 1,322 2,329
--------------------------------------------------------------------------------
Net interest income after provision for losses on
loans 21,064 18,678 18,094
--------------------------------------------------------------------------------
Noninterest income:
Checking transaction fees 2,433 2,621 2,824
Financial services fees 817 756 752
Late charge and other fees 490 515 397
Net trading account gains and losses 335 374 129
Gain on sales of available-for-sale securities 239 145 1
Gain on sales of loans 380 50 33
Real estate operations (1,087) (1,074) (2,596)
Other 885 791 1,794
--------------------------------------------------------------------------------
Total noninterest income 4,492 4,178 3,334
--------------------------------------------------------------------------------
Noninterest expenses:
Compensation and employee benefits 9,907 8,684 8,011
Occupancy and equipment 3,036 2,629 2,516
FDIC SAIF special assessment 3,300
Write-off of core deposit intangible asset 2,407
Federal insurance premiums and assessments 1,294 1,401 1,596
Professional and outside service fees 1,370 1,186 1,538
Data processing 861 880 813
Advertising and public relations 695 734 438
Amortization of intangible assets 243 281 261
Other 982 659 744
--------------------------------------------------------------------------------
Total noninterest expenses 24,095 16,454 15,917
--------------------------------------------------------------------------------
Income before provision for income taxes 1,461 6,402 5,511
--------------------------------------------------------------------------------
Provision (benefit) for income taxes:
Current 726 359 (30)
Deferred 623 1,898 1,787
--------------------------------------------------------------------------------
Total provision for income taxes 1,349 2,257 1,757
--------------------------------------------------------------------------------
Net income $ 112 $ 4,145 $ 3,754
--------------------------------------------------------------------------------
NET INCOME PER COMMON AND COMMON EQUIVALENT SHARE $ 0.02 $ 0.80 $ 0.73
--------------------------------------------------------------------------------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS.
20
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
For the years ended December 31, 1996, 1995 and 1994
PALFED, INC.
AND SUBSIDIARIES
Unrealized
Additional Gain (Loss) on
Common Paid-In Retained Unearned Securities, Treasury
Stock Capital Earnings Compensation Net Stock
- -----------------------------------------------------------------------------------------------------------------------------
(in thousands)
Balance, December 31, 1993 $ 5,138 $ 26,881 $ 12,727 $379
Issuance of common stock 4 57
Purchase of treasury stock $ (480)
Change in unrealized loss on securities,
net (3,304)
Net income 3,754
- -----------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1994 5,142 26,938 16,481 (2,925) (480)
Issuance of treasury stock (34) 177
Change in unrealized loss on securities,
net 2,041
Net income 4,145
- -----------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1995 5,142 26,904 20,626 (884) (303)
Issuance of common stock 89 1,117
Issuance of treasury stock 303
Incentive stock grants issued $ (1,275)
Amortization of unearned compensation 94 147
Change in unrealized loss on securities,
net 169
Payment of cash dividends ($0.08 per
share) (418)
Net income 112
- -----------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1996 $ 5,231 $ 28,115 $ 20,320 $ (1,128) $(715) $ 0
- -----------------------------------------------------------------------------------------------------------------------------
PALFED, INC.
AND SUBSIDIARIES
Total
Shareholders'
Equity
- ---------------------------------------------------------------------
(in thousands)
Balance, December 31, 1993 $ 45,125
Issuance of common stock 61
Purchase of treasury stock (480)
Change in unrealized loss on securities,
net (3,304)
Net income 3,754
- -----------------------------------------------------------------------------------
Balance, December 31, 1994 45,156
Issuance of treasury stock 143
Change in unrealized loss on securities,
net 2,041
Net income 4,145
- -------------------------------------------------------------------------------------------------
Balance, December 31, 1995 51,485
Issuance of common stock 1,206
Issuance of treasury stock 303
Incentive stock grants issued (1,275)
Amortization of unearned compensation 241
Change in unrealized loss on securities,
net 169
Payment of cash dividends ($0.08 per
share) (418)
Net income 112
- ---------------------------------------------------------------------------------------------------------------
Balance, December 31, 1996 $ 51,823
- -----------------------------------------------------------------------------------------------------------------------------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
21
CONSOLIDATED STATEMENTS OF CASH FLOWS
PALFED, INC.
AND SUBSIDIARIES FOR THE YEARS ENDED DECEMBER 31, 1996 1995 1994
------------------------------------------------------------------------------
(in thousands)
OPERATING ACTIVITIES:
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 112 $ 4,145 $ 3,754
Adjustments to reconcile net income to cash
provided by operations:
Provision for deferred income taxes 623 1,898 1,787
Write-off of core deposit intangible asset 2,407
Depreciation and amortization 900 863 946
Provision for estimated losses on loans and real 2,385 2,913 4,819
estate
Other gains, net (749) (869) (77)
Proceeds from sales of loans held-for-sale 20,579 13,508 14,738
Origination of loans held-for-sale (43,477) (33,007) (31,623)
Proceeds from sales of trading account securities 28,141 25,486 22,761
Gain on sales of available-for-sale securities (239) (145) (1)
Change in:
Accrued interest receivable, net (252) (1,722) (1,414)
Accrued interest payable 2,550 249 (225)
Other assets 727 (1,155) 1,390
Other liabilities (excluding deferred income) (870) 3,120 (2,733)
Other, net 966 282 811
------------------------------------------------------------------------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 13,803 15,566 14,933
------------------------------------------------------------------------------
INVESTING ACTIVITIES:
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of available-for-sale securities (7,925) (10,763) (44,791)
Proceeds from sales of available-for-sale 26,053 37,934 21,848
securities
Principal collections on available-for-sale 14,287 4,711 6,512
securities
Net increase in loans receivable (69,922) (34,779) (26,514)
Purchases of held-to-maturity securities (6,852) (11,043)
Principal collections and maturities of 9,966 14,003 16,168
held-to-maturity securities
Proceeds from sales of foreclosed real estate 2,936 3,366 4,877
Purchase of office premises and equipment (1,451) (981) (1,375)
Other, net 1,118 (260) 20
------------------------------------------------------------------------------
NET CASH PROVIDED (USED) BY INVESTING ACTIVITIES (31,790) 13,231 (34,298)
------------------------------------------------------------------------------
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS.
22
PALFED, INC.
AND SUBSIDIARIES FOR THE YEARS ENDED DECEMBER 31, 1996 1995 1994
--------------------------------------------------------------------------------
(in thousands)
FINANCING ACTIVITIES:
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase in deposit accounts 40,832 18,249 1,256
Proceeds from FHLB advances and other borrowed 129,650 68,200 123,100
money
Repayments of FHLB advances and other borrowed (152,750) (112,500) (106,759)
money
Payment of cash dividends (418)
(Purchase) sale of treasury stock 108 (480)
Other, net (353) 248 355
--------------------------------------------------------------------------------
NET CASH PROVIDED (USED) BY FINANCING ACTIVITIES 17,069 (25,803) 17,472
--------------------------------------------------------------------------------
NET INCREASE (DECREASE) IN CASH AND CASH (918) 2,994 (1,893)
EQUIVALENTS
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 21,325 18,331 20,224
--------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 20,407 $ 21,325 $ 18,331
--------------------------------------------------------------------------------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
CASH PAID DURING THE YEAR FOR:
Interest $ 25,967 $ 30,283 $ 26,739
Income taxes 1,217 1,100
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND
FINANCING ACTIVITIES:
Securitizations of mortgage loans 27,806 33,833 41,593
Conversion of adjustable rate and construction
loans receivable to 30 year fixed rate mortgage 13,589 5,373 2,391
loans held-for-sale
Loans foreclosed or in-substance foreclosed 4,742 9,017 3,099
Financed sales of foreclosed real estate 2,730 6,215 2,603
Transfers of investment and mortgage-backed
securities from available-for-sale to
held-to-maturity 91,574
Transfers of investment and mortgage-backed
securities from held-to-maturity to
available-for-sale 42,842
Issuance of treasury stock as compensation 47 172 31
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS.
23
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PALFED, INC. Following is a description of the more significant
AND SUBSIDIARIES accounting and financial reporting policies followed by
the Company in preparing and presenting its consolidated
financial statements.
NOTE 1: PRINCIPLES OF CONSOLIDATION
SUMMARY OF The consolidated financial statements include the
SIGNIFICANT accounts of PALFED, Inc. ("PALFED"); its wholly owned
ACCOUNTING subsidiaries, Palmetto Federal Savings Bank of South
POLICIES Carolina ("Palmetto Federal" or the "Bank") and PALFED
Investment Services, Inc.; Palmetto Federal's subsidiary,
Palmetto Service Corporation ("PSC"); and PSC's
subsidiary, Woodside Development Company of Aiken, Inc.
(collectively referred to as the "Company"). All
significant intercompany accounts and transactions have
been eliminated.
PALFED is a savings and loan holding company. The
Company's principal line of business is community
banking. The Company also has lines of business in real
estate and retail securities brokerage. The principal
markets for the Company's products and services are
individuals and families, professionals, and small and
medium sized businesses in South Carolina.
CASH AND CASH EQUIVALENTS
For purposes of presentation in the consolidated
statements of cash flows, cash and cash equivalents
include cash and due from banks and interest-bearing
deposits with other banks. Cash and due from banks
include all noninterest-bearing deposits with other
banks.
TRADING SECURITIES
Mortgage-backed securities held for sale in conjunction
with mortgage banking activities are classified as
trading securities and recorded at their fair values.
Unrealized gains and losses on trading account securities
are included in income. The Company held no trading
securities at December 31, 1996 or 1995.
SECURITIES HELD-TO-MATURITY
Bonds, notes and mortgage-backed securities for which the
Company has the positive intent and ability to hold to
maturity are carried at cost, adjusted for premiums and
discounts that are recognized in interest income using
the interest method over the period to maturity.
SECURITIES AVAILABLE-FOR-SALE
Available-for-sale securities consist of bonds, equity
and mortgage-backed securities not classified as held-to-
maturity or trading. Unrealized holding gains and losses
on available-for-sale securities are reported net of
income taxes as a separate component of shareholders'
equity until realized.
In November 1995, the Financial Accounting Standards
Board ("FASB") issued a Special Report, "A Guide to
Implementation of Statement 115 on Accounting For Certain
Debt and Equity Securities", which included a transition
provision allowing all entities to reassess the
appropriateness of the classifications of all securities
held and account for any resulting reclassifications at
fair value. Reclassifications from the held-to-maturity
category resulting from this one-time reassessment did
not call into question, or "taint", the intent of the
entity to hold other debt securities to maturity in the
future. In accordance with this Special Report, the
Company transferred securities with an amortized cost of
$42.8 million from held-to-maturity to available-for-sale
in December 1995. The transfer was effected at the fair
value of the securities and the unrealized loss on these
securities at the time of transfer was not significant.
Gains and losses on sales of securities are determined
using the specific identification method. Premiums and
discounts are recognized in interest income using the
interest method over the period to maturity.
LOANS HELD-FOR-SALE
Mortgage loans originated and intended for sale in the
secondary market are carried at the lower of cost or
estimated market value in the aggregate. Net unrealized
losses are recognized through a valuation allowance by
charges to income.
24
LOANS RECEIVABLE
Loans receivable that management has the intent and
ability to hold for the foreseeable future or until
maturity or payoff are reported at their outstanding
principal adjusted for charge-offs, the allowance for
loan losses and any deferred fees or costs on originated
loans and unamortized premiums or discounts on purchased
loans.
The allowance for loan losses is increased by charges to
income and decreased by charge-offs (net of recoveries).
Management's periodic evaluation of the adequacy of the
allowance is based on the Company's past loan experience,
known and inherent risks in the portfolio, adverse
situations that may affect the borrower's ability to
repay, the estimated value of any underlying collateral,
and current economic conditions. While management uses
its best judgment in establishing the allowances for
losses, future adjustments to the allowances may be
necessary if economic conditions differ substantially
from the assumptions used in making the evaluations.
On January 1, 1995, the Company adopted Statement of
Financial Accounting Standards ("SFAS") No. 114,
"Accounting By Creditors for Impairment of a Loan", as
amended by SFAS No. 118, "Accounting By Creditors For
Impairment of a Loan -- Income Recognition and
Disclosures, an Amendment of SFAS No. 114". Under these
new standards, a loan is considered impaired, based on
current information and events, if it is probable that
the Company will be unable to collect the scheduled
payments of principal and interest when due according to
the contractual terms of the loan agreement.
The Company uses several factors in determining if a loan
is impaired under SFAS No. 114. Quarterly asset
classification procedures generally include a review of
significant loans and lending data, including loan
payment status and borrowers' financial data and
operating factors, such as cash flows and operating
income or loss. The measurement of impaired loans is
generally based on the present value of expected future
cash flows discounted at the historical effective
interest rate of the loan, except that collateral
dependent loans are measured for impairment at the fair
value of the collateral. The adoption of SFAS No. 114
resulted in no additional provision for credit losses at
January 1, 1995.
Interest income is recognized under the interest method.
The accrual of interest on loans, including impaired
loans, in excess of 90 days past due is generally
discontinued and previously recognized interest income is
reversed until the loans become current. Additionally,
the Bank discontinues the accrual of interest on any loan
when it is determined that collection of interest is not
probable.
Loan origination and commitment fees and certain direct
origination costs are recognized as an adjustment of the
yield over the life of the related loan.
LOAN SERVICING
The Company adopted SFAS No. 122, "Accounting for
Mortgage Servicing Rights", effective October 1, 1995.
SFAS No. 122 requires that the right to service mortgage
loans for others be recognized as an asset, whether that
servicing right is acquired or originated. The total cost
of mortgage loans sold or securitized is allocated to the
loans and to the mortgage servicing rights based upon
their relative fair values. The Company evaluates
mortgage servicing rights for impairment based on the
fair value of those rights. The servicing rights are
stratified based on the weighted average interest rates
of the underlying loans on an aggregate loan basis. The
Company amortizes the mortgage servicing rights over the
period of the estimated net servicing income. Servicing
rights of $153,000 were recorded during 1995 as a result
of adopting this standard, resulting in a gain of
$101,000 net of income taxes. The Company capitalized
$483,000 and amortized $87,000 in originated mortgage
servicing rights during 1996.
The Company typically sells loans on a nonrecourse basis.
Gains and losses on sales of loans are recognized at the
time of sale, as determined by: (1) the difference
between the net sale proceeds and the book value of the
loans sold, and (2) the estimated present value
associated with excess or deficient servicing fees. Gains
and losses related to excess or deficient servicing fees
are amortized on the level yield method over the
estimated lives of the related mortgage loans as a
reduction or increase, respectively, in income on
servicing fees received.
25
INVESTMENT IN REAL ESTATE
Investment in real estate includes real estate acquired
in settlement of loans ("REO"), real estate acquired for
development and sale, and equity in and loans to
partnerships.
Real estate properties acquired through, or in lieu of,
loan foreclosure are initially recorded at fair value at
the date of foreclosure, establishing a new cost basis.
After foreclosure, valuations are periodically performed
by management and the real estate is carried at the lower
of cost or fair value minus estimated costs to sell.
Revenue and expenses from operations and additions to the
valuation allowance are included in real estate
operations.
Real estate acquired for development and sale is carried
at the lower of cost or estimated net realizable value.
Profits from the sales of real estate are recognized
under either the full accrual method or the percentage of
completion method, whichever is appropriate under the
terms and conditions of the sales transaction.
From time to time, as a result of the Company's various
investments in real estate, potential liabilities for
environmental remediation may arise. Liabilities are
recorded when environmental assessments and/or remedial
efforts are probable and the cost can be reasonably
estimated. At December 31, 1996 and 1995, no such
liabilities were recorded.
PREMISES AND EQUIPMENT
Premises and equipment consist principally of furniture,
fixtures and equipment and office buildings. Land is also
included in premises and equipment and is carried at
cost. Other premises and equipment are carried at cost
and are depreciated using straight-line and declining
balance methods over the estimated lives of the related
assets (20 to 40 years for buildings and 3 to 10 years
for equipment). Gains and losses on disposal are
reflected in income. Accumulated depreciation was $10.6
million and $9.9 million at December 31, 1996 and 1995,
respectively.
CORE DEPOSIT INTANGIBLE
The Company used the purchase method of accounting for
the acquisition of a savings institution in 1982. The
goodwill resulting from this acquisition has been
substantially amortized in prior years. The core deposit
intangible asset acquired of $5.4 million was being
amortized on a straight-line basis over 25 years and, at
September 30, 1996, totalled $2.4 million and had an
estimated remaining life of approximately 11 years. As a
result of the SAIF special assessment on September 30,
1996, management reassessed the carrying value of this
intangible asset. As a result of this reassessment,
management concluded that the asset was impaired and
wrote-off the remaining balance in December 1996.
STOCK-BASED COMPENSATION
Effective January 1, 1996, the Company adopted SFAS No.
123, "Accounting for Stock-Based Compensation". SFAS No.
123 establishes a fair value based method of accounting
for stock-based compensation. SFAS No. 123 allows for the
continued use of the intrinsic value method prescribed by
Accounting Principles Board Opinion No. 25, "Accounting
for Stock Issued to Employees". The Company continues to
account for stock-based compensation under the provisions
of Opinion No. 25.
ADVERTISING COSTS
The Company expenses the production costs of advertising
the first time the advertising takes place. The costs of
communicating the advertising, such as television air
time or print media space, is capitalized and amortized
over the period of use. Direct-response advertising is
expensed as incurred due to the relatively minor nature
of such costs.
At December 31, 1996 and 1995, no advertising costs were
reported as assets. Advertising expense was $416,000,
$335,000 and $236,000 in 1996, 1995 and 1994,
respectively.
26
INCOME TAXES
The Company uses the asset and liability approach for
financial accounting and reporting for income taxes.
Deferred tax assets and liabilities are reflected at
currently enacted income tax rates applicable to the
period in which the deferred tax assets or liabilities
are expected to be realized or settled. As changes in tax
laws or rates are enacted, deferred tax assets and
liabilities are adjusted through the provision for income
taxes.
EARNINGS PER SHARE
Earnings per share is based on the weighted average
number of common shares outstanding, plus common stock
equivalents (principally equivalent common shares
calculated for stock options outstanding). Allocated
shares owned by the PALFED, Inc. Employee Savings and
Stock Ownership Plan are included in shares outstanding.
The weighted average number of shares used in the
computation for 1996, 1995 and 1994 was approximately
5,242,000, 5,163,000 and 5,170,000, respectively.
USE OF ESTIMATES
The preparation of financial statements in conformity
with generally accepted accounting principles 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
dates of the financial statements and the reported
amounts of income and expenses during the reporting
periods. Actual results could differ from those
estimates.
RECLASSIFICATIONS
Certain accounts have been reclassified in the 1995 and
1994 financial statements to conform to the 1996
presentation. Included in these accounts are net
reclassifications between operating and investing
activities in the statements of cash flows of $6.0
million and $5.9 million in 1995 and 1994, respectively,
relating to loans held-for-sale and trading securities.
FAIR VALUES OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used by the
Company in estimating its fair value disclosures for
financial instruments:
Cash and cash equivalents: The carrying amounts
approximate fair value.
Investment and mortgage-backed securities: Fair values
are based on quoted market prices or dealer quotes, where
available. If quoted market prices are not available,
fair values are estimated using quoted market prices for
similar securities.
Loans held-for-sale: Fair values are based on quoted
market prices, dealer quotes or forward sales
commitments.
Loans receivable: The fair values are estimated by
discounting the future cash flows using the current
interest rates at which similar loans would be made to
borrowers with similar credit ratings and for the same
remaining maturities.
Accrued interest receivable and payable: The fair values
approximate the carrying values.
Investment in FHLB stock: The fair value approximates
the carrying value of this investment as this is the
amount which would be received upon sale of the stock.
Mortgage servicing rights: The fair value is estimated
by discounting net cash flows from servicing rights using
the discount rates that approximate current market rates.
Deposits: The fair value of demand deposits, savings
accounts, and certain money market deposits is the amount
payable on demand at the reporting date. The fair value
of fixed-maturity certificates of deposit is estimated
using the rates currently offered for deposits of similar
remaining maturities.
FHLB advances: The carrying amounts reported for
short-term advances approximate those liabilities' fair
values. The fair value of long-term advances is estimated
using the rates currently offered for these liabilities
of similar remaining maturities.
27
Commitments to originate loans, unused lines of credit
and standby letters of credit: The fair value of
commitments is estimated using the fees currently charged
to enter into similar agreements, taking into account the
remaining terms of the agreements and the present credit
worthiness of the counterparties. The fair value of
letters of credit is based on fees currently charged for
similar agreements with the counterparties at the
reporting date.
SFAS No. 119, "Disclosure About Derivative Financial
Instruments and Fair Value of Financial Instruments",
requires disclosures about derivative financial
instruments -- futures, forward, swap and option
contracts, and other financial instruments with similar
characteristics. As of December 31, 1996 and 1995, the
Company did not hold, and had not issued, instruments
which are subject to the disclosure requirements of SFAS
No. 119.
RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1996, the FASB issued SFAS No. 125, "Accounting
for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities", effective January 1,
1997. SFAS No. 125 establishes accounting and reporting
standards for transfers and servicing of financial assets
and extinguishments of liabilities. After a transfer of
financial assets, the Company recognizes the financial
and servicing assets it controls and the liabilities it
has incurred, derecognizes financing assets when control
has been surrendered, and derecognizes liabilities when
extinguished. SFAS No. 125 also provides consistent
standards for distinguishing transfers of financial
assets that are sales from transfers that are secured
borrowings. Management believes the adoption of SFAS No.
125 will not have a significant effect on the financial
condition or results of operations of the Company.
In December 1996, the FASB issued SFAS No. 127, "Deferral
of the Effective Date of Certain Provisions of FASB
Statement No. 125". SFAS No. 127 defers until January 1,
1998, certain provisions of SFAS No. 125.
NOTE 2: Investment and mortgage-backed securities are summarized as follows:
INVESTMENT AND
MORTGAGE-BACKED
SECURITIES
Gross Gross
Amortized Unrealized Unrealized Fair
AVAILABLE-FOR-SALE Cost Gains Losses Value
----------------------------------------------------------------------------------------
(in thousands)
December 31, 1996:
U.S. Treasury and agency obligations $ 15,964 $ 30 $ 226 $ 15,768
FNMA, FHLMC and GNMA securities 6,374 90 30 6,434
Other mortgage-backed securities 1,787 18 1,805
----------------------------------------------------------------------------------------
$ 24,125 $ 138 $ 256 $ 24,007
----------------------------------------------------------------------------------------
December 31, 1995:
U.S. Treasury and agency obligations $ 31,230 $ 86 $ 256 $ 31,060
FNMA, FHLMC and GNMA securities 20,799 165 114 20,850
Other mortgage-backed securities 3,584 56 3,640
----------------------------------------------------------------------------------------
$ 55,613 $ 307 $ 370 $ 55,550
----------------------------------------------------------------------------------------
HELD-TO-MATURITY
December 31, 1996:
U.S. government agency obligations $ 6,962 $ 12 $ 27 $ 6,947
FNMA, FHLMC and GNMA securities 34,166 307 276 34,197
Other mortgage-backed securities 17,572 506 18,078
----------------------------------------------------------------------------------------
$ 58,700 $ 825 $ 303 $ 59,222
----------------------------------------------------------------------------------------
28
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
----------------------------------------------------------------------------------------
December 31, 1995:
U.S. government agency obligations $ 8,940 $ 5 $ 66 $ 8,879
FNMA, FHLMC and GNMA securities 36,971 488 1 37,458
Other mortgage-backed securities 16,382 851 17,233
----------------------------------------------------------------------------------------
$ 62,293 $1,344 $ 67 $ 63,570
----------------------------------------------------------------------------------------
The change in the unrealized gain (loss) on investment and mortgage-backed securities
for the years ended December 31, 1994, 1995 and 1996 is as follows:
Available- Held-To- Income Tax
For-Sale Maturity Effect Total
----------------------------------------------------------------------------------------
(in thousands)
Balance at December 31, 1993 $ 575 $ (196) $ 379
Net change in unrealized losses (2,833) 964 (1,869)
Unrealized loss on securities
transferred from available-for-sale $(2,519) 856 (1,663)
Amortization of unrealized loss on
transferred securities 347 (119) 228
----------------------------------------------------------------------------------------
Balance at December 31, 1994 (2,258) (2,172) 1,505 (2,925)
----------------------------------------------------------------------------------------
Net change in unrealized losses 2,195 (745) 1,450
Unrealized loss on securities
transferred from available-for-sale 486 (165) 321
Amortization of unrealized loss on
transferred securities 409 (139) 270
----------------------------------------------------------------------------------------
Balance at December 31, 1995 (63) (1,277) 456 (884)
----------------------------------------------------------------------------------------
Net change in unrealized losses (55) 18 (37)
Amortization of unrealized loss on
transferred securities 312 (106) 206
----------------------------------------------------------------------------------------
Balance at December 31, 1996 $ (118) $ (965) $ 368 $ (715)
----------------------------------------------------------------------------------------
Proceeds from sales of investment and mortgage-backed securities during the years ended
December 31, 1996, 1995 and 1994, as well as the gross gains and gross losses realized,
are summarized as follows:
AVAILABLE-FOR-SALE SECURITIES 1996 1995 1994
----------------------------------------------------------------------------
(in thousands)
Proceeds from sales $ 26,053 $ 37,934 $ 21,848
----------------------------------------------------------------------------
Gross gains $ 272 $ 150 $ 14
----------------------------------------------------------------------------
Gross losses $ 33 $ 4 $ 13
----------------------------------------------------------------------------
The amortized cost and estimated market value of investments at December 31,
1996, by contractual maturity, are shown below. Expected maturities will
differ from contractual maturities because borrowers may have the right to
prepay obligations with or without call or prepayment penalties.
29
Held-to-maturity Available-for-sale
------------------- -------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
-----------------------------------------------------------------------------
(in thousands)
After one year through five years $ 3,967 $ 3,980 $15,561 $15,335
After five years through ten years 2,995 2,967
After ten years 403 433
Mortgage-backed securities 51,738 52,275 8,161 8,239
-----------------------------------------------------------------------------
$58,700 $59,222 $24,125 $24,007
-----------------------------------------------------------------------------
NOTE 3: Loans receivable are summarized as follows at December 31:
LOANS
RECEIVABLE
1996 1995
---------------------------------------------------------------
(in thousands)
Loans collateralized by real estate:
Permanent residential mortgage $ 224,955 $ 204,835
Construction 54,816 38,114
Second mortgage 56,022 52,313
Commercial 145,685 128,051
Loans collateralized by other property:
Consumer 34,903 39,585
Commercial 16,209 16,080
Loans collateralized by savings account 4,725 4,769
---------------------------------------------------------------
537,315 483,747
Less:
Loans in process (16,263) (13,141)
Unamortized yield adjustments (1,190) (744)
Allowance for estimated losses (6,983) (8,417)
---------------------------------------------------------------
$ 512,879 $ 461,445
---------------------------------------------------------------
Weighted average yield on loans 8.73% 8.87%
---------------------------------------------------------------
Changes in the allowance for estimated losses on loans are
summarized as follows for each of the years ended December 31:
1996 1995 1994
------------------------------------------------------------------------
(in thousands)
Balance, beginning of year $ 8,417 $ 8,213 $ 9,883
Provision 1,154 1,322 2,329
Charge-offs (3,044) (1,770) (4,572)
Recoveries 456 652 573
------------------------------------------------------------------------
Balance, end of year $ 6,983 $ 8,417 $ 8,213
------------------------------------------------------------------------
30
At December 31, 1996 and 1995, the recorded investment in loans for
which impairment has been recognized in accordance with SFAS No. 114
totalled approximately $8.2 million and $13.0 million, respectively. Of
these amounts, $2.2 million and $6.1 million, respectively, related to
loans with corresponding valuation allowances of $401,000 and $1.1
million, respectively. The impaired loans at December 31, 1996 and 1995
were measured for impairment using the fair value of the collateral as
substantially all of these loans were collateral dependent. The average
recorded investment in impaired loans during 1996 and 1995 was
approximately $10.9 million and $14.5 million, respectively. The
interest income recognized on impaired loans during 1996 and 1995 was
$537,000 and $743,000, respectively. Impaired loans are summarized as
follows at December 31:
1996 1995
-------------------------------------------------------------
(in thousands)
Construction loans $ 557 $ 844
Commercial real estate loans 7,150 11,300
Residential mortgage 515 899
-------------------------------------------------------------
$ 8,222 $ 13,043
-------------------------------------------------------------
Troubled debt restructurings, resulting primarily from
commercial real estate loans, had principal balances of
approximately $3.0 million and $6.1 million at December 31,
1996 and 1995, respectively. The amount of interest income on
these restructured loans included in net earnings for 1996
and 1995 was approximately $208,000 and $428,000,
respectively. The additional interest income that would have
been recorded if these loans had been current in accordance
with their original terms and had been outstanding throughout
the years would have been $160,000 and $222,000 in 1996 and
1995, respectively.
The Company was servicing first mortgage loans of
approximately $248.1 million and $237.1 million at December
31, 1996 and 1995, respectively, which had been sold to
investors on a nonrecourse basis, and approximately $4.4
million and $5.3 million, at December 31, 1996 and 1995,
respectively, which had been sold to investors on a recourse
basis. Mortgage loans serviced for others are not included in
the accompanying consolidated statements of financial
condition.
NOTE 4: The Company's investment in real estate is summarized as
INVESTMENT IN follows at December 31:
REAL ESTATE
1996 1995
-------------------------------------------------------------
(in thousands)
Acquired in settlement of loans $ 7,896 $ 8,286
Less allowance for estimated losses (709) (271)
-------------------------------------------------------------
7,187 8,015
-------------------------------------------------------------
Acquired for development and sale 6,257 6,083
Less allowance for estimated losses (400) (370)
-------------------------------------------------------------
5,857 5,713
-------------------------------------------------------------
Equity in and loans to partnerships 457 720
-------------------------------------------------------------
$ 13,501 $ 14,448
-------------------------------------------------------------
Real estate acquired for development and sale at December 31,
1996 consisted principally of 2 outparcels and approximately
1,000 acres of undeveloped land at Woodside Plantation, a
real estate project located in Aiken, South Carolina, subject
to a purchase option that expires December 31, 1997.
31
Changes in the allowance for estimated losses on real estate
are summarized as follows:
Development
REO and Sale Total
--------------------------------------------------------------------------
(in thousands)
Balance at December 31, 1993 $ 118 $ 230 $ 348
Provision for loss 1,388 100 1,488
Charge-offs (1,062) (1,062)
Recoveries 90 90
--------------------------------------------------------------------------
Balance at December 31, 1994 534 330 864
Provision for loss 374 40 414
Charge-offs (637) (637)
--------------------------------------------------------------------------
Balance at December 31, 1995 271 370 641
Provision for loss 528 30 558
Charge-offs (90) (90)
--------------------------------------------------------------------------
Balance at December 31, 1996 $ 709 $ 400 $ 1,109
--------------------------------------------------------------------------
Real estate operations for each of the years ended December 31 consists of
the following:
1996 1995 1994
------------------------------------------------------------------------
(in thousands)
Provision for estimated losses on real
estate held for development $ (30) $ (40) $ (100)
Real estate expenses, including
provision for estimated losses on REO (1,098) (1,129) (2,515)
Other 41 95 19
------------------------------------------------------------------------
$ (1,087) $ (1,074) $ (2,596)
------------------------------------------------------------------------
NOTE 5: A summary of certificates of deposit by interest rate at December 31
DEPOSITS follows:
1996 1995
----------------------------------------------------------------------
(in thousands)
Under 4.00% $ 16,985 $ 20,943
4.01%-6.00% 254,986 165,733
6.01%-8.00% 101,219 165,057
Above 8.00% 11,488 11,460
----------------------------------------------------------------------
$384,678 $363,193
----------------------------------------------------------------------
A summary of certificates of deposit at December 31 by contractual
maturities follows:
1996 1995
---------------------------------------------------------------------------------
(in thousands)
Within one year $ 265,915 $ 244,206
1-2 years 77,555 69,330
2-3 years 23,826 18,168
3-4 years 10,802 17,671
4-5 years 4,028 10,540
Over 5 years 2,552 3,278
---------------------------------------------------------------------------------
$ 384,678 $ 363,193
---------------------------------------------------------------------------------
32
The aggregate amount of time deposits greater than or equal to $100,000 was $90.5
million and $82.9 million at December 31, 1996 and 1995, respectively. The
weighted average interest rate on savings deposits was 4.78% and 4.98% at
December 31, 1996 and 1995, respectively.
At December 31, 1996 and 1995, certain certificates of deposit were
collateralized by certain investment and mortgage-backed securities aggregating
$32.6 million and $33.0 million, respectively.
Interest expense on savings deposits is summarized as follows for the years ended
December 31:
1996 1995 1994
-----------------------------------------------------------------------------
(in thousands)
Regular and statement savings $ 838 $ 827 $ 823
NOW/IFA accounts 1,878 1,685 1,819
Certificates of deposit 21,794 21,289 16,238
-----------------------------------------------------------------------------
24,510 23,801 18,880
Penalties for early withdrawal (98) (121) (90)
-----------------------------------------------------------------------------
$24,412 $23,680 $18,790
-----------------------------------------------------------------------------
NOTE 6: Maturities and interest rates of FHLB advances were as follows at December
FEDERAL HOME LOAN 31:
BANK ADVANCES
1996 1995
----------------------- -----------------------
INTEREST Interest
AMOUNT RATE Amount Rate
--------------------------------------------------------------------------------------
(dollars in thousands)
One year $ 57,900 5.30 - 6.95% $ 81,500 5.73 - 9.10%
Two years 10,500 5.39 - 5.87 10,000 6.37
--------------------------------------------------------------------------------------
$ 68,400 5.94% $ 91,500 6.56%
--------------------------------------------------------------------------------------
At December 31, 1996 and 1995, advances were collateralized by $145.6 million and
$160.4 million of specifically identified unencumbered first mortgage loans and
mortgage-backed securities, respectively. The weighted average interest rate on short
term advances was 6.01% and 6.59% at December 31, 1996 and 1995, respectively.
NOTE 7: Actual income taxes differ from income taxes computed at the federal corporate
FEDERAL AND STATE statutory rate of 34% as shown below for the years ended December 31:
INCOME TAXES
1996 1995 1994
------------------------------------------------------------------------------------
(in thousands)
Tax expense at statutory federal income tax rate $ 497 $ 2,177 $ 1,874
Amortization and accretion of discounts, premiums
and intangible assets related to purchase
adjustments 901 96 89
State income tax refund (53) (162)
Other, net (49) 37 (44)
------------------------------------------------------------------------------------
Provision for income taxes $ 1,349 $ 2,257 $ 1,757
------------------------------------------------------------------------------------
33
Under the liability method of accounting for income taxes, deferred income tax
expense arises from temporary differences between the tax basis of assets and
liabilities and their reported amounts in the financial statements. The tax effects
of temporary differences that give rise to significant portions of deferred tax
assets and deferred tax liabilities at December 31, 1996 and 1995 are as follows:
1996 1995
-------------------------------------------------------------------------------------
(in thousands)
DEFERRED TAX ASSETS:
Allowance for loan losses $ 2,555 $ 3,002
Deferred loan fees 312 143
Basis difference in acquired assets 59 76
Unrealized securities losses 449 616
Deferred income 14 30
Other 339 250
-------------------------------------------------------------------------------------
$ 3,728 $ 4,117
-------------------------------------------------------------------------------------
DEFERRED TAX LIABILITIES:
Tax bad debt reserve in excess of base year reserve $ 1,034 $ 1,034
Recognition of profits on sales of real estate 137 137
Differences in depreciation methods for premises and equipment 90 90
Deferred loan fees 967 630
FHLB stock dividends not recognized for tax 1,006 1,006
Unrealized securities gains 558 534
Other 50 29
-------------------------------------------------------------------------------------
$ 3,842 $ 3,460
-------------------------------------------------------------------------------------
The Company files a consolidated federal income tax return. Prior to 1996, the
Company was allowed to determine its bad debt deduction for tax purposes based on
either the experience method (the "bad debt reserve method") or the percentage of
taxable income method (limited to 8.0% of taxable income before such deduction). The
Company used the experience method in 1995 and 1994 since this method provided a more
favorable bad debt deduction.
The "Small Business Job Protection Act of 1996" repealed the bad debt reserve method
for thrifts effective January 1, 1996. The legislation suspends recapture of bad debt
reserves taken through 1987 (i.e., the base year reserve), but requires thrifts to
recapture or repay bad debt deductions taken after 1987 over 6 years beginning in
1996. As of December 31, 1995, PALFED's bad debt reserves subject to recapture, for
which deferred taxes have previously been provided, totalled $3.0 million. Thrifts
meeting certain home mortgage lending tests are allowed to defer repayment for an
additional 2 years. The Company qualified for the first year of the deferral period.
Under SFAS No. 109, "Accounting for Income Taxes", the Company is not required to
recognize a deferred tax liability with respect to the base year reserve, unless it
becomes apparent that this temporary difference will reverse in the foreseeable
future. This temporary difference will become taxable in the event the Company no
longer qualifies as a bank for federal income tax purposes. The cumulative amount of
this temporary difference for which the Company is not required to recognize a
deferred tax liability is equal to the amount of its tax base year reserve as of
December 31, 1987 of approximately $2.9 million.
During 1994, the Internal Revenue Service completed an examination of the Company's
consolidated federal income tax returns through 1991. The examination resulted in an
income tax refund of $1.2 million and interest on the refund of approximately
$800,000, net of related fees and expenses. Both the refund and related interest were
received in 1994. Subsequent to the completion of the IRS examination, Palmetto
Federal filed amended South Carolina state income tax returns and received refunds
and related interest of approximately $285,000 in 1994.
34
The Bank is subject to various regulatory capital requirements administered by the
NOTE 8: federal banking agencies. Failure to meet minimum capital requirements can initiate
REGULATORY MATTERS certain mandatory and discretionary actions by regulators that, if undertaken, could
have a material adverse effect on the Company. Under capital adequacy guidelines and
the regulatory framework for prompt corrective action, Palmetto Federal must meet
specific capital guidelines that involve quantitative measures of the Bank's assets,
liabilities, and certain off-balance-sheet items as calculated under regulatory
accounting practices. The Bank's capital amounts and classification are also subject
to qualitative judgments by the regulators about components, risk weightings and
other factors.
As of December 31, 1996, the FDIC categorized the Bank as "well capitalized" under
the regulatory framework for prompt corrective action. To be categorized as well
capitalized, the Bank must maintain risk-based, core and tangible capital ratios of
10.0%, 6.0% and 5.0%, respectively. There are no conditions or events since that
notification that management believes have changed the Bank's classification.
The Bank's regulatory capital amounts and ratios are as follows as of the dates
indicated:
To Be Well
Capitalized
Under
Prompt
For Capital Corrective
Adequacy Action
Actual Purposes Provisions
-------------- -------------- --------------
Amount Ratio Amount Ratio Amount Ratio
----------------------------------------------------------------------------------------------------
(in thousands)
DECEMBER 31, 1996
Risk-based Capital
(to risk weighted assets) $48,008 10.4% $36,791 8.0% $45,989 10.0%
Core Capital
(to adjusted tangible assets) 43,361 6.6 19,726 3.0 39,449 6.0
Tangible Capital
(to tangible assets) 43,361 6.6 9,862 1.5 32,873 5.0
DECEMBER 31, 1995
Risk-based Capital
(to risk weighted assets) $48,425 11.4% $33,865 8.0% $42,335 10.0%
Core Capital
(to adjusted total assets) 43,375 6.8 19,172 3.0 38,345 6.0
Tangible Capital
(to tangible assets) 43,375 6.8 9,586 1.5 31,954 5.0
----------------------------------------------------------------------------------------------------
The payment of dividends by the Bank to PALFED is subject to substantial restrictions and would
require prior notice to and approval of the OTS.
NOTE 9: The Company maintains a trusteed, noncontributory defined benefit pension plan which covers
EMPLOYEE BENEFIT substantially all full-time employees with one year of service. The formula used to determine
PLANS benefits paid to retired employees is based upon their length of service and their average
compensation during the final years of their employment. The plan's assets are invested primarily in
equity and bond mutual funds. The plan also owns 21,118 shares of PALFED common stock at December
31, 1996 and 1995 with a fair value of approximately $296,000 and $251,000, respectively. The
Company funds pension costs based upon the amount allowable or deductible for federal income tax
purposes. The actuarial method used in accounting for pension costs is the projected unit credit
method.
35
The following tables set forth the plan's funded status and certain amounts recognized in the
Company's consolidated financial statements at December 31, 1996, 1995 and 1994, respectively.
1996 1995 1994
------------------------------------------------------------------------------------
(in thousands)
Actuarial present value of accumulated benefits
including vested benefits of $1,714, $1,475 and
$1,403, respectively: $ 1,828 $ 1,604 $ 1,479
------------------------------------------------------------------------------------
Fair value of plan assets $ 3,083 $ 2,455 $ 1,892
Projected benefit obligation (3,150) (2,669) (2,141)
Unrecognized prior service cost (348) (368) (388)
Unrecognized net loss (from past experiences
different from assumed) 775 781 814
Additional transition liability recognized (net of
amortization) 1 1 1
------------------------------------------------------------------------------------
Prepaid pension costs $ 361 $ 200 $ 178
------------------------------------------------------------------------------------
Assumed rates used in actuarial computations:
Weighted average discount rate 7.25% 7.25% 7.50%
Rate of increase in compensation 4.50 4.50 5.00
Rate of increase in Social Security wage base 4.00 4.00 4.00
Expected return on plan assets 8.50 8.00 6.00
------------------------------------------------------------------------------------
For the years ended December 31 1996 1995 1994
------------------------------------------------------------------------------------
Service cost $ 271 $ 205 $ 246
Interest cost 202 172 136
Expected return on assets (311) (155) (107)
Net amortization and deferral 100 23 6
------------------------------------------------------------------------------------
Net pension expense $ 262 $ 245 $ 281
------------------------------------------------------------------------------------
The Company maintains an Employee Savings and Stock Ownership Plan ("401(k) Plan")
for all full-time employees with one year of service who choose to participate. At
December 31, 1996, the 401(k) Plan owned 209,536 allocated shares and owned no
committed-to-be-released shares, unearned or suspense shares of PALFED common stock.
At December 31, 1996, there was no obligation to repurchase 401(k) Plan shares. The
Company's matching contribution varies according to the level of net income attained
by the Company. The Company's expense was $164,000, $126,000 and $90,000 for the
years ended December 31, 1996, 1995, and 1994, respectively.
The Company maintains an Executive Incentive Bonus Plan (the "Bonus Plan") for
certain officers who have been employed by the Company for at least one year.
Bonuses are awarded considering the individual's contribution to the Company's
performance. The Company accrued bonus expense of $750,000, $424,000 and $279,000
for the years ended December 31, 1996, 1995 and 1994, respectively, related to this
Bonus Plan.
36
NOTE 10: The Company has operating leases for certain branch banking facilities and equipment.
COMMITMENTS AND Future minimum rental commitments under these leases as of December 31, 1996, are
CONTINGENCIES approximately as follows:
Year Amount
-------------------------------------------------------------------------------------------
1997 $ 294,000
1998 161,000
1999 161,000
2000 137,000
2001 91,000
Thereafter 250,000
-------------------------------------------------------------------------------------------
Total minimum payments required $ 1,094,000
-------------------------------------------------------------------------------------------
Rental expense for the years ending December 31, 1996, 1995, and 1994 was approximately
$573,000, $454,000 and $473,000, respectively.
The Company has salary continuation agreements with nine officers which grant these
officers the right to receive three times their average annual compensation for the five
years preceding a change of control of the Company and a change of duties or salary for
such officers. The maximum contingent liability for salary continuation under these
agreements is approximately $2.9 million at December 31, 1996.
At December 31, 1996 and 1995, the Company had outstanding commitments to sell loans of
$10.6 million and $2.3 million, respectively.
Concurrent with the 1990 sale of the Woodside Plantation Country Club ("WPCC"), the Company
entered into an agreement with WPCC to purchase club memberships. This obligation to
purchase memberships, based on future lot sales, is subject to an annual limitation and
depends upon whether full or partial memberships are purchased. The maximum liability under
this contingency, assuming the annual limitation is met and partial memberships are
purchased, is approximately $1.2 million. In 1993, the Company sold the remaining lots and
other real estate at Woodside Plantation and the purchaser assumed the Company's
obligations under this agreement. The Company remains contingently liable under this
agreement.
The Company continues to have a significant concentration of risk at Woodside Plantation,
exclusive of loans to individual homeowners, comprised of acquisition and development
loans, real estate held for development, a 50% interest in a partnership and foreclosed
real estate. The total carrying value of these assets was $12.4 million and $13.9 million
at December 31, 1996 and 1995, respectively. Included in these assets are aggregate loans
of $6.7 million and $7.8 million at December 31, 1996 and 1995, respectively, to WPCC and
the purchaser of the remaining lots. The ability of these borrowers to repay their
indebtedness is primarily based upon the success of real estate sales at Woodside
Plantation. There are no assurances that real estate sales will be sufficient for these
borrowers to service their debt. During 1995, Palmetto Federal restructured the
indebtedness to the purchaser of the remaining lots. In addition, effective April 1, 1996,
Palmetto Federal modified its loans to WPCC from amortizing to interest only for one year.
PALFED has a significant concentration of customers in and around Aiken and Barnwell
Counties, South Carolina, the location of the U.S. Department of Energy's Savannah River
Site ("SRS"). Employment at SRS has decreased from 22,000 in 1993 to approximately 15,000
currently. SRS recently announced additional staff reductions of 1,500. Further reductions
at SRS could have a significant adverse effect on the local economy and the Company.
37
The Company has granted options to purchase its common stock to certain officers and key
NOTE 11: employees under the 1985 Incentive Stock Option Plan, the 1993 Stock Option Plan and the
STOCK OPTIONS AND 1995 Stock Option Plan. Substantially all outstanding options were issued at the market
STOCK GRANTS value of PALFED common stock on the date of grant. The outstanding options become vested
over a period of either one, three, or five years from the date of issuance. An aggregate
of 250,000 and 100,000 shares have been authorized for issuance under the 1993 Stock Option
Plan and the 1995 Stock Option Plan, respectively, of which 50,616 and 61,725 shares,
respectively, remained available at December 31, 1996. The 1985 Incentive Stock Option Plan
terminated on September 24, 1995, although outstanding options remain exercisable according
to their terms. During the year ended December 31, 1996, the following options were
exercised: options issued under the 1985 Plan to purchase 1,250 shares at $12.80 per share,
14,500 shares at $5.75 per share and 5,478 shares at $6.50 per share; options issued under
the 1993 Plan to purchase 534 shares at $6.38 per share and 183 shares at $7.75 per share.
During the year ended December 31, 1995, options issued under the 1993 Plan to purchase 667
shares at $6.38 per share were exercised. During the year ended December 31, 1994, no
options were exercised.
The Company's Amended and Restated Directors Stock Plan provides for the grant of stock
options and shares of Company Stock to directors, consulting directors and advisory
directors who are not employees subject to certain restrictions. An aggregate of 250,000
shares of common stock are authorized for issuance of which 175,000 shares remained
available at December 31, 1996. On April 24, 1996, 36,000 options were granted at market
value, or $12.75 per share. On April 26, 1995, 13,000 shares and 39,000 options were
granted at market value, or $9.88 per share.
At December 31, 1996, the Company had the following options outstanding:
Outstanding Exercisable Option
Grant Date Options Shares Price Expiration Date
-------------------------------------------------------------------------------------------
February 24, 1987 23,750 23,750 $12.80 February 24, 1997
April 26, 1988 6,875 6,875 11.80 April 26, 1998
February 20, 1992 35,022 35,022 6.50 February 20, 1997
November 16, 1993 64,533 64,533 6.38 November 16, 2003
November 15, 1994 49,117 32,745 7.75 November 15, 2004
April 26, 1995 36,000 36,000 9.88 April 26, 1998
November 14, 1995 75,000 25,000 12.78 November 14, 2005
April 24, 1996 36,000 0 12.75 April 24, 1999
April 24, 1996 14,500 0 5.75 April 24, 2006
November 19, 1996 50,000 0 14.50 November 19, 2006
-------------------------------------------------------------------------------------------
The Company's 1993 Restricted Stock Incentive Award Plan ("the Plan") provides for the
grant of shares of the Company's common stock to officers and other key employees subject
to certain restrictions. An aggregate of 200,000 shares of Common Stock are authorized for
issuance of which 69,445 shares remained available at December 31, 1996. During the years
ended December 31, 1996, 1995, and 1994, 106,345, 10,464, and 4,606 shares were granted
under the provisions of the Plan, respectively. On the dates of grants, the market value of
PALFED common stock was $12.75 per share in 1996, $7.38 per share in 1995 and $6.63 per
share in 1994.
38
The Company has elected the disclosure-only provisions of SFAS No. 123, "Accounting for
Stock-Based Compensation." Accordingly, no compensation cost has been recognized for the
stock option plans. Had compensation cost for the Company's stock option plans been
determined based on the fair value at the grant date for awards in 1996 and 1995,
consistent with the provisions of SFAS No. 123, the Company's net income and earnings per
share amounts would have been reduced to the pro forma amounts indicated below (in
thousands):
1996 1995
-----------------------------------------------------------------------------------------------
Net income -- as reported $ 112 $ 4,145
Net income (loss) -- pro forma $ (180) $ 4,056
Earnings per share -- as reported $ 0.02 $ 0.80
Earnings (loss) per share -- pro forma $ (0.03) $ 0.79
-----------------------------------------------------------------------------------------------
The pro forma amounts reflected above are not representative of the effects on reported net
income in future years because, in general, the options granted typically do not vest for
several years and additional awards are generally made each year.
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:
1996 1995
--------------------------------------------------------------------------------------------
Expected dividend yield 0.81% 0.81%
Expected stock price volatility 39.28% 53.15%
Risk-free interest rate 5.97% 5.97%
Expected life of options 3.6 YEARS 4.0 years
--------------------------------------------------------------------------------------------
The weighted average fair value of options granted during 1996 and 1995 was $3.91 and $3.65
per share respectively.
NOTE 12: The estimated fair values of the Company's financial instruments at December 31 are as
FINANCIAL INSTRUMENTS follows:
1996 1995
-------------------- --------------------
FAIR CARRYING Fair Carrying
VALUE VALUE Value Value
-------------------------------------------------------------------------------------------
(in thousands)
FINANCIAL ASSETS:
Cash and cash equivalents $ 20,407 $ 20,407 $ 21,325 $ 21,325
Investment and mortgage-backed securities 83,229 82,707 119,120 117,843
Loans receivable and held-for-sale 525,330 524,120 461,269 464,281
Accrued interest receivable 3,835 3,835 4,256 4,256
FHLB stock 10,884 10,884 10,884 10,884
Mortgage servicing rights 547 547 151 151
-------------------------------------------------------------------------------------------
FINANCIAL LIABILITIES:
Deposits $ 539,593 $ 536,687 $ 499,070 $ 495,855
Accrued interest payable 3,441 3,441 891 891
FHLB advances 68,346 68,400 1,886 91,500
-------------------------------------------------------------------------------------------
OFF-BALANCE-SHEET ASSETS (LIABILITIES):
Commitments to originate loans $ (252) $ (135)
Unused lines of credit (520) (483)
Standby letters of credit (4) (3)
-------------------------------------------------------------------------------------------
39
A summary of the notional amounts of the Company's financial instruments with
off-balance-sheet risk at December 31 is as follows:
1996 1995
---------------------------------------------------------------------------------------------
(in thousands)
Commitments to originate loans $ 32,908 $ 13,460
---------------------------------------------------------------------------------------------
Unused lines of credit $ 35,560 $ 31,639
---------------------------------------------------------------------------------------------
Standby letters of credit $ 1,004 $ 713
---------------------------------------------------------------------------------------------
The Company is a party to financial instruments with off- balance-sheet risk in the normal
course of business to meet the financing needs of its customers and to reduce its own
exposure to fluctuations in interest rates. These financial instruments are for purposes
other than trading and include loan commitments, unused lines of credit, and standby letters
of credit. The instruments involve, to varying degrees, elements of credit and interest rate
risk in excess of the amount recognized in the financial statements.
The Company's exposure to credit loss in the event of nonperformance by the other party to
the financial instrument for loan commitments and standby letters of credit is represented by
the contractual amount of those instruments. The Bank uses the same credit policies in making
commitments and conditional obligations as it does for on-balance-sheet instruments. The
Bank's lending is concentrated in South Carolina, its primary market area.
Since many of the loan commitments may expire without being drawn upon, the total commitment
amount does not necessarily represent future cash requirements. The Bank evaluates each
customer's credit worthiness on a case-by-case basis. The amount of collateral obtained is
based on management's credit evaluation of the counter-party. Collateral held varies but may
include real estate and improvements, marketable securities, accounts receivable, inventory,
equipment and personal property.
The credit risk associated with issuing letters of credit is essentially the same as that
associated with extending loan facilities to customers.
Palmetto Federal's risk with respect to mortgage servicing losses results from unrecoverable
advances of delinquent principal, interest and tax payments made on behalf of mortgagors. The
Bank's loan administration department controls the risk of this portfolio on an ongoing
basis. To date, the Bank has not suffered significant losses from its mortgage servicing
activities.
NOTE 13: PALFED's statement of financial condition at December 31, 1996 and 1995 and related
FINANCIAL INFORMATION statements of income and cash flows for the years ended December 31, 1996, 1995 and 1994 are
OF PALFED, INC. as follows:
(PARENT ONLY)
STATEMENTS OF FINANCIAL CONDITION 1996 1995
--------------------------------------------------------------------------------------
(in thousands)
Cash and cash equivalents $ 1,593 $ 1,590
Investment in and amounts due from banking subsidiary 49,233 49,026
Investment in and amounts due from other subsidiary 864 699
Other assets 133 170
--------------------------------------------------------------------------------------
TOTAL ASSETS $ 51,823 $ 51,485
--------------------------------------------------------------------------------------
Common stock $ 5,231 $ 5,142
Additional paid-in capital 28,115 26,904
Retained earnings 20,320 20,626
Deferred compensation (1,128)
Unrealized loss on debt securities, net (715) (884)
Treasury stock (303)
--------------------------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 51,823 $ 51,485
--------------------------------------------------------------------------------------
40
STATEMENTS OF INCOME 1996 1995 1994
------------------------------------------------------------------------------------------------
(in thousands)
Income (expenses), net of related income taxes $ 39 $ 41 $ (130)
Equity in earnings of subsidiaries 73 4,104 3,884
------------------------------------------------------------------------------------------------
Net income $ 112 $ 4,145 $ 3,754
------------------------------------------------------------------------------------------------
STATEMENTS OF CASH FLOWS 1996 1995 1994
------------------------------------------------------------------------------------------------
(in thousands)
OPERATING ACTIVITIES:
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 112 $ 4,145 $ 3,754
Less equity in earnings of subsidiaries (73) (4,104) (3,884)
Other, net (3) (10) (186)
------------------------------------------------------------------------------------------------
NET CASH PROVIDED (USED) BY OPERATING ACTIVITIES 36 31 (316)
------------------------------------------------------------------------------------------------
INVESTING ACTIVITIES:
CASH FLOWS FROM INVESTING ACTIVITIES:
Additional investment in subsidiaries, net (1,151)
Other, net 150 9
------------------------------------------------------------------------------------------------
NET CASH PROVIDED (USED) BY INVESTING ACTIVITIES 150 (1,151) 9
------------------------------------------------------------------------------------------------
FINANCING ACTIVITIES:
CASH FLOWS FROM FINANCING ACTIVITIES:
Purchase of treasury stock (480)
Payment of cash dividends (418)
Other, net 235 (29) 61
------------------------------------------------------------------------------------------------
NET CASH USED BY FINANCING ACTIVITIES (183) (29) (419)
------------------------------------------------------------------------------------------------
Net increase (decrease) in cash and cash equivalents 3 (1,149) (726)
------------------------------------------------------------------------------------------------
Cash and cash equivalents, beginning of year 1,590 2,739 3,465
------------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 1,593 $ 1,590 $ 2,739
------------------------------------------------------------------------------------------------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
CASH PAID DURING THE YEAR FOR:
Income taxes $ 1,217 $ 1,100
Supplemental schedule of noncash investing and financing
activities:
Issuance of common stock as compensation 47 172 $ 31
------------------------------------------------------------------------------------------------
41
NOTE 14: The following tables summarize the consolidated quarterly results of operations for each of the
CONSOLIDATED CONDENSED years ended December 31, 1996 and 1995 (in thousands except per share data):
QUARTERLY RESULTS
OF OPERATIONS
(UNAUDITED)
Quarter ended
--------------------------------------------
March 31 June 30 Sept. 30 Dec. 31
------------------------------------------------------------------------------------------------
1996
Total interest income $ 12,315 $ 12,413 $ 12,764 $ 13,243
Net interest income 5,053 5,405 5,735 6,025
Provision for estimated losses on loans 339 247 313 255
Net income (loss) 1,092 1,131 (978) (1,133)
Earnings (loss) per share $ 0.21 $ 0.22 $ (0.19) $ (0.22)
Average shares outstanding 5,207 5,231 5,228 5,251
------------------------------------------------------------------------------------------------
1995
Total interest income $ 12,347 $ 12,725 $ 12,820 $ 12,638
Net interest income 4,936 4,893 5,094 5,077
Provision for estimated losses on loans 238 209 451 424
Net income 965 1,021 1,068 1,091
Earnings per share $ 0.19 $ 0.20 $ 0.21 $ 0.21
Average shares outstanding 5,116 5,160 5,178 5,185
------------------------------------------------------------------------------------------------
The 1996 third quarter includes a $3.3 million SAIF assessment ($2.2 million after tax). The
1996 fourth quarter includes a $2.4 million write-off of the core deposit intangible asset.
42
PALMETTO
[LOGO] FEDERAL
OFFICE LOCATIONS
- -------------------------------------------------------------------------
PALMETTO FEDERAL
[MAP]
SAVINGS BANK
OF SOUTH CAROLINA
22 Banking Offices
8 Mortgage Lending Offices
AIKEN - MAIN OFFICE
107 Chesterfield Street South
MANAGER: W. LARRY RICKS
(803) 642-1400
AIKEN MORTGAGE CENTER
1359 Silver Bluff Road, Bldg C, Suite A-1
MANAGER: CHRISTINA H. HAMRICK
(803) 642-1441
AIKEN - OPERATIONS CENTER
237 Park Avenue
(803) 642-1340
SOUTH AIKEN
1799 Whiskey Road
MANAGER: BENNIE L. NEWMAN, JR.
(803) 642-1300
SOUTH AIKEN - KROGER
441 Silver Bluff Road
MANAGER: MELISSA L. CLARK
(803) 642-1350
AUGUSTA/MARTINEZ GA. MORTGAGE CENTER
4107 Columbia Road, Suite B
MANAGER: FRANK L. CUNNINGHAM III
(706) 863-3090
BARNWELL
1680 Jackson Street
MANAGER: JACQUELINE P. RAMSEY
(803) 259-5541
BEAUFORT
916 Bay Street
BRANCH SUPERVISOR: MARY ANN WASHINGTON
(803) 525-8400
BURTON
Highway 170 at Salem Road
MANAGER: RUMELL Y. LADSON
(803) 525-8400
BEAUFORT MORTGAGE CENTER
146 Sea Island Parkway
MANAGER: REID DAVIS
(803) 525-8400
COLUMBIA HARBISON WAL-MART
360 Harbison Boulevard
MANAGER: RHONDA J. HUGHEY
(803) 781-6160
COLUMBIA MORTGAGE CENTER
9308-B Two Notch Road
MANAGER: DORIS D. BLOCKER
(803) 736-0390
CHARLESTON - WEST ASHLEY
1545 Savannah Highway
MANAGER: D. TED HONNEY
(803) 852-7020
CHARLESTON - MEETING STREET
170 Meeting Street
BRANCH SUPERVISOR: DONNA L. ROBINSON
(803) 937-4140
CHARLESTON MORTGAGE CENTER
170 Meeting Street
(803) 937-4151
CLEARWATER
1 Midland Valley Plaza
MANAGER: CHERYL A. IAUKEA
(803) 593-4421
EDGEFIELD
201 Columbia Road
MANAGER: PATRICIA A. ALTMAN
(803) 637-5316
HAMPTON
406 First Street
MANAGER: PHYLLIS H. HARVEY
(803) 943-3021
HILTON HEAD
77 Pope Avenue
MANAGER: JOHN F. DAY
(803) 785-4249
HILTON HEAD MAIN STREET
200 Main Street
Opening March 1997
HILTON HEAD MORTGAGE CENTER
The Coastal Building
1036 Highway 278
(803) 785-7989
JOHNSTON
303 Lee Street
MANAGER: JOHN M. DELAUGHTER
(803) 275-3236
LADY'S ISLAND
146 Sea Island Parkway
MANAGER: M. ROBERT STEVENS, JR.
(803) 525-8400
LEXINGTON
216 E. Main Street
MANAGER: CLIFFORD B. SHEALY
(803) 957-9558
LEXINGTON MORTGAGE CENTER
216 E. Main Street
MANAGER: MARION H. MCDONALD
(803) 951-1977
MCCORMICK
407 East Gold Street
MANAGER: DOROTHY J. BANDY
(864) 465-2046
MT. PLEASANT
1210 Ben Sawyer Boulevard
MANAGER: PATRICIA AUSTIN
(803) 971-1117
NORTH AUGUSTA
432 West Avenue
MANAGER: KATHY S. GILLILAND
(803) 279-6250
NORTH AUGUSTA - KROGER
400 East Martintown Road at Crossroads Market
MANAGER: BEVERLY GUNN
(803) 279-050
NORTH AUGUSTA MORTGAGE CENTER
106-B East Martintown Road
MANAGER: FRANK L. CUNNINGHAM III
(803) 278-0183
RIDGELAND
312 North Jacob Smart Boulevard
MANAGER: HELEN RIVERS
(803) 726-8186
46
CORPORATE INFORMATION
- -------------------------------------------------------------------------
CORPORATE OFFICE
- ---------------
PALFED, INC.
107 CHESTERFIELD STREET SOUTH
P.O. BOX 1116
AIKEN, SOUTH CAROLINA 29802
(803) 642-1400
STOCK LISTING
- ------------
THE COMPANY'S COMMON STOCK IS TRADED IN THE OVER THE COUNTER MARKET AND IS
QUOTED ON THE NASDAQ NATIONAL MARKET UNDER THE SYMBOL "PALM" AND LISTED IN THE
WALL STREET JOURNAL UNDER THE NAME "PALFED". THE FOLLOWING FIRMS ARE MARKET
MAKERS IN THE COMPANY'S COMMON STOCK:
HERZOG, HEINE, GEDULD, INC.
FRIEDMAN, BILLINGS, RAMSEY & CO., INC.
MORGAN KEEGAN & COMPANY, INC.
MAYER & SCHWEITZER INC.
KEEFE, BRUYETTE & WOODS, INC.
SCOTT & STRINGFELLOW, INC.
FOX-PITT, KELTON, INC.
WHEAT FIRST SECURITIES INC.
DEAN WITTER REYNOLDS INC.
RAYMOND JAMES & ASSOCIATES, INC.
STERNE, AGEE & LEACH, INC.
INTERSTATE/JOHNSON LANE CORPORATION
THE ROBINSON-HUMPHREY COMPANY, INC.
PRICE RANGE OF COMMON STOCK
- ---------------------------
1996 1995
HIGH LOW HIGH LOW
- ----------------------------------------------------------------------------------
JANUARY - MARCH 13 1/4 11 1/4 9 5/8 7
APRIL - JUNE 13 1/2 11 7/8 11 1/4 8 5/8
JULY - SEPTEMBER 14 3/4 11 5/8 12 1/4 11
OCTOBER - DECEMBER 15 1/4 13 13 1/4 11
- ----------------------------------------------------------------------------------
TRANSFER AGENT
- --------------
THE BANK OF NEW YORK
RECEIVE AND DELIVER DEPARTMENT-11W
P.O. BOX 11002
CHURCH STREET STATION
NEW YORK, NY 10286
FOR SHAREHOLDER INQUIRIES:
THE BANK OF NEW YORK
SHAREHOLDER RELATIONS DEPARTMENT - 11E
P.O. BOX 11258
CHURCH STREET STATION
NEW YORK, NY 10286
ANNUAL REPORT
- --------------
ADDITIONAL COPIES OF THE COMPANY'S ANNUAL REPORT AND 1996 SEC FORM 10-K REPORT
(WITHOUT EXHIBITS) MAY BE OBTAINED WITHOUT COST UPON WRITTEN REQUEST TO:
PALFED, INC.
DARRELL R. RAINS
P.O. BOX 1116
AIKEN, SOUTH CAROLINA 29802
47