Securities and Exchange Commission
Washington, D.C. 20549
Form 10-Q
Quarterly Report Under Section 13 or 15(d)
Of the Securities Exchange Act of 1934
For Quarter Ended: Commission File
December 31, 1996 Number: 33-67746
Virginia First Financial Corporation
(Exact Name of Registrant as Specified in its Charter)
Virginia 54-1678497
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification Number)
Franklin and Adams Streets, Petersburg, Virginia 23804-2009
(Address of Principal Executive Office) (Zip Code)
804-733-0333 or 804-748-5847
(Registrant's Telephone Number, Including Area Code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
At February 1, 1997, 5,789,123 shares of common stock of the Registrant were
outstanding.
Virginia First Financial Corporation
Quarterly Report on Form 10-Q
December 31, 1996
Index
Part I. Financial Information Page No.
Item 1 Consolidated Statements of Condition as of
December 31, 1996, June 30, 1996, and December 31, 1995 3
Consolidated Statements of Operations for the
three-month and six-month periods ended
December 31, 1996 and December 31, 1995 4
Consolidated Statements of Cash Flows for the
three-month and six-month periods ended
December 31, 1996 and December 31, 1995 5
Selected Notes to Consolidated Financial Statements 6
Item 2 Management's Discussion and Analysis of
Financial Condition and Results of Operations 7
Part II. Other Information
Item 4 Submission of Matters to a Vote of Security Holders 43
Item 6 Exhibits and Reports on Form 8-K 43
Signatures 44
2
PART I. FINANCIAL INFORMATION
VIRGINIA FIRST FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
December 31, June 30, December 31,
(IN THOUSANDS, EXCEPT SHARE DATA) 1996 1996 1995
---------------- --------- ---------------
(Unaudited) (Note) (Unaudited)
ASSETS
Cash and cash equivalents $ 19,269 $ 24,575 $ 31,367
Investment securities, net 12,695 12,663 16,584
Mortgage-backed securities and collateralized
mortgage obligations, net 22,065 15,694 7,095
Loans receivable held for investment, net 649,991 615,554 591,309
Loans receivable held for sale 69,705 46,481 44,787
Real estate owned, net 6,376 5,353 4,403
Accrued interest receivable, net 5,439 5,292 5,155
Federal Home Loan Bank stock, at cost 7,453 6,998 5,545
Office properties and equipment, net 9,167 8,780 8,833
Other assets 6,385 5,477 4,841
---------- ---------- ----------
Total assets $808,545 $746,867 $719,919
========== ========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits $579,984 $573,536 $549,800
Notes payable and other borrowings 9,657 639 30
Advances from Federal Home Loan Bank 149,052 102,052 110,908
Advance payments by borrowers for taxes and insurance 2,105 2,169 1,983
Accrued interest payable 965 716 1,141
Accrued expenses and other liabilities 3,313 6,759 3,050
---------- ---------- ----------
Total liabilities 745,076 685,871 666,912
---------- ---------- ----------
Stockholders' equity:
Preferred stock of $1 par value. Authorized 10,000,000 shares;
none issued - - -
Common stock of $1 par value. Authorized 20,000,000 shares;
issued and outstanding 5,774,855 shares at December 31, 1996
5,740,503 at June 30, 1996 and 5,615,450 at December 31, 1995 5,775 5,740 5,615
Additional paid-in capital 8,671 8,439 8,341
Retained earnings - substantially restricted 49,029 46,943 39,036
Net unrealized gain (loss) on securities available for sale, net of taxes (6) (126) 15
---------- ---------- ----------
Total stockholders' equity 63,469 60,996 53,007
---------- ---------- ----------
Total liabilities and stockholders' equity $808,545 $746,867 $719,919
========== ========== ==========
NOTE: The Consolidated Statements of Condition for June 30, 1996, has been
taken from the Audited Financial Statements.
The accompanying notes are an integral part of these unaudited
Consolidated Financial Statements.
3
PART I. FINANCIAL INFORMATION
VIRGINIA FIRST FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Three Months Ended Six Months Ended
December 31, December 31,
--------------------------- -----------------------------
(IN THOUSANDS, EXCEPT PER SHARE DATA) 1996 1995 1996 1995
------------ -------------- --------------- -------------
(Unaudited) (Unaudited) (Unaudited) (Unaudited)
INTEREST INCOME
Loans receivable $ 15,531 $ 13,825 $ 30,288 $ 27,917
Mortgage-backed securities and collateralized
mortgage obligations 382 88 759 199
Investment securities 334 380 661 831
Other interest-earning assets 237 109 460 287
----------- ------------- ------------- -----------
Total interest income 16,484 14,402 32,168 29,234
----------- ------------- ------------- -----------
INTEREST EXPENSE
Deposits 6,870 6,619 13,667 12,923
Borrowings 2,032 1,514 3,744 3,403
----------- ------------- ------------- -----------
Total interest expense 8,902 8,133 17,411 16,326
----------- ------------- ------------- -----------
Net interest income 7,582 6,269 14,757 12,908
Provision for loan losses 581 449 1,142 931
----------- ------------- ------------- -----------
Net interest income after provision for loan losses 7,001 5,820 13,615 11,977
----------- ------------- ------------- -----------
NONINTEREST INCOME
Gain on sale of loans and securitized loans, net 1,143 462 1,891 927
Loan servicing income 377 889 720 1,715
Gain (loss) on sale of investment securities - - -
Loss on sale and revaluation of mortgage-backed securities
and collateralized mortgage obligations - - -
Financial service fees 683 563 1,325 1,131
Gain on sale of real estate owned 37 11 97 70
Loss on revaluation of real estate owned (202) (138) (214) (367)
Other 10 43 143 96
----------- ------------- ------------- -----------
Total noninterest income 2,048 1,830 3,962 3,572
----------- ------------- ------------- -----------
NONINTEREST EXPENSE
Personnel 2,920 2,301 5,575 4,579
Occupancy, net 431 384 839 755
Equipment 336 297 669 596
Advertising 119 79 200 180
Federal deposit insurance premiums 253 285 3,727 561
Data processing 468 440 933 848
Amortization of intangibles 62 62 123 124
Other 970 836 1,914 1,512
----------- ------------- ------------- -----------
Total noninterest expenses 5,559 4,684 13,980 9,155
----------- ------------- ------------- -----------
Earnings before income tax expense 3,490 2,966 3,597 6,394
Income tax expense 1,313 1,062 1,223 2,386
=========== ============= ============= ===========
Net earnings $ 2,177 $ 1,904 $ 2,374 $ 4,008
=========== ============= ============= ===========
Net earnings per share $ 0.37 $ .33 $ 0.40 $ .69
=========== ============= ============= ===========
The accompanying notes are an integral part of these unaudited Consolidated
Financial Statements.
4
PART I. FINANCIAL INFORMATION
VIRGINIA FIRST FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Three Months Ended Six Months Ended
December 31, December 31,
----------------------------- ----------------------------
(IN THOUSANDS) 1996 1995 1996 1995
--------------- ----------- ---------- -----------
(Unaudited) (Unaudited) (Unaudited) (Unaudited)
OPERATING ACTIVITIES:
Net earnings $ 2,177 $ 1,904 $ 2,374 $ 4,008
Adjustments to reconcile net earnings to net cash
provided in operating activities:
Depreciation and amortization 315 297 617 555
Provision for loan losses and losses on
real estate owned 783 587 1,356 1,298
Loans and securitized loans held for sale:
Originations and purchases (125,323) (103,380) (234,570) (209,953)
Gains on sales (1,396) (687) (2,144) (1,152)
Proceeds from sales 103,718 101,425 210,427 196,709
Gains (losses) on securities 8 0 8 0
(Increase) decrease in other assets (518) 4 (1,111) 615
Increase in accrued expenses and other liabilities (4,107) (293) (3,196) 551
------------ ---------- ----------- -------------
Net cash used in operating activities (24,343) (143) (26,239) (7,369)
------------ ---------- ----------- -------------
INVESTING ACTIVITIES:
Net decrease (increase) in loans receivable held for
investment (16,930) (11,060) (35,515) (10,546)
Mortgage-backed securities:
Purchases 0 0 (10,245) 0
Proceeds from sales, net 2,283 0 2,283 0
Principal collected 906 1,341 1,661 2,299
Investment securities:
Purchases 0 (6,000) (2,500) (11,000)
Principal collected 2,526 10,464 2,552 17,490
Proceeds from sale of real estate owned 442 1,630 914 2,565
Office properties and equipment
Purchases (221) (211) (598) (397)
Proceeds from sales 1 0 1 1
------------ ---------- ----------- -------------
Net cash provided by (used in)
investing activities (10,993) (3,836) (41,447) 412
------------ ---------- ----------- -------------
FINANCING ACTIVITIES:
Net increase (decrease) in savings, checking and
money market deposit accounts (1,711) (1,612) (7,028) 7,524
Net increase in certificates of deposit 9,303 17,573 13,476 38,609
Borrowings resulting from:
Securities sold under agreements to repurchase 0 0 18,544 0
Advances from Federal Home Loan Bank 87,000 38,000 217,400 64,500
Other 4,155 3,064 8,450 6,410
Repayments of borrowings attributable to:
Securities sold under agreements to repurchase (493) 0 (9,523) 0
Advances from Federal Home Loan Bank (64,500) (34,500) (170,400) (88,250)
Other (4,146) (3,653) (8,453) (6,940)
Net increase in mortgage escrow funds (670) (879) (63) (271)
Proceeds from issuance of common stock 231 93 264 285
Cash dividends paid (144) (97) (287) (181)
------------ ---------- ----------- -------------
Net cash provided by financing activities 29,025 17,989 62,380 21,686
------------ ---------- ----------- -------------
Net increase (decrease) in cash and due from banks (6,311) 14,010 (5,306) 14,729
Cash and due from banks at beginning of period 25,580 17,357 24,575 16,638
============ ========== =========== =============
Cash and due from banks at end of period $ 19,269 $ 31,367 $ 19,269 $ 31,367
============ ========== =========== =============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash payments of interest $ 8,709 $ 7,719 $ 17,162 $ 16,119
============ ========== ========== ==============
Cash payments of income taxes $ 2,656 $ 1,323 $ 5,551 $ 1,533
============ ========== ========== ==============
The accompanying notes are an integral part of these unaudited Consolidated
Financial Statements.
5
Part I. Financial Information
Virginia First Financial Corporation and Subsidiaries
Selected Notes to Consolidated Financial Statements
Note 1: The interim condensed consolidated financial statements are unaudited
but, in the opinion of management, reflect all adjustments necessary
for a fair presentation of results for such periods. All such
adjustments are of a normal, recurring nature. The results of
operations for any interim period are not necessarily indicative of
results for the full year. These consolidated financial statements
should be read in conjunction with the consolidated financial
statements and notes thereto contained in the Company's Annual Report
for the year ended June 30, 1996 ("fiscal year 1996"). The accompanying
consolidated financial statements for prior periods reflect certain
reclassifications in order to conform to the fiscal year 1997
presentation.
Note 2: For purposes of computing net earnings per share, the weighted average
number of shares outstanding for the quarters ended December 31, 1996
and 1995 were 5,847,075 and 5,790,256, respectively. The number of
shares for the three and six month periods ended December 31, 1995 has
been adjusted to reflect the two-for- one split of the Company's common
stock, which occurred November 17, 1995. During the quarters ended
December 31, 1996 and 1995, the Company paid cash dividends of 2.5
cents per share and 3.0 cents per share, respectively.
Note 3: Regulatory Capital of Virginia First Savings Bank:
Excess
Over
Actual Required Requirement
Amount Percent Amount Percent Amount Percent
(In thousands)
December 31, 1996
Tangible capital $60,388 7.49% $12,983 1.50% $48,305 5.99%
Core capital 60,572 7.51 32,229 4.00 28,343 3.51
Risk-based capital 67,815 11.70 46,533 8.00 21,462 3.70
December 31, 1995
Tangible capital $48,332 6.93% $10,463 1.50% $37,869 5.43%
Core capital 48,669 6.97 27,915 4.00 20,754 2.97
Risk-based capital 53,848 10.92 39,463 8.00 14,385 2.92
See Page 37 for a reconciliation of GAAP capital to regulatory capital as of
December 31, 1996.
6
Part I. Financial Information
Virginia First Financial Corporation and Subsidiaries
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
General
Virginia First Financial Corporation (the "Company") was incorporated
in Virginia in 1993 to serve as the holding company of Virginia First Savings
Bank, F.S.B. (the "Savings Bank"). The Savings Bank is a federally chartered
capital stock savings bank with its principal offices in Petersburg, Virginia.
The Savings Bank, incorporated in 1888, is one of the oldest financial
institutions in the Commonwealth of Virginia.
The Company's principal business activities, which are conducted
through the Savings Bank, are attracting checking and savings deposits from the
general public through its retail banking offices and originating, servicing,
investing in and selling loans secured by first mortgage liens on single-family
dwellings, including condominium units. The Company also lends funds to retail
banking customers by means of home equity and installment loans, and originates
residential construction loans and loans secured by commercial property,
multi-family dwellings and manufactured housing units. The Company invests in
certain U.S. Government and agency obligations and other investments permitted
by applicable laws and regulations. The operating results of the Company are
highly dependent on net interest income, the difference between interest income
earned on loans and investments and the cost of checking and savings deposits
and borrowed funds.
Deposit accounts up to $100,000 are insured by the Savings Association
Insurance Fund administered by the Federal Deposit Insurance Corporation (the
"FDIC"). The Savings Bank is a member of the Federal Home Loan Bank (the "FHLB")
of Atlanta. The Company and the Savings Bank are subject to the supervision,
regulation and examination of the Office of Thrift Supervision (the "OTS") and
the FDIC. The Savings Bank is also subject to the regulations of the Board of
Governors of the Federal Reserve System governing reserves required to be
maintained against deposits.
The Company's only direct subsidiary is the Savings Bank and the
Company has no material assets or liabilities, except for the stock of the
Savings Bank. The Savings Bank has three active subsidiaries; one is engaged in
real estate development and another is a title insurance agency. The third,
American Finance and Investment, Inc., is a mortgage banking company, the assets
of which were acquired December 19, 1996. (See discussion on page 24)
7
The following commentary discusses major components of the Company's
business and presents an overview of the Company's consolidated results of
operations during the three-month and six-month periods ended December 31, 1996
and 1995, and its consolidated financial position at December 31, 1996, June 30,
1996 and December 31, 1995. This discussion should be reviewed in conjunction
with the consolidated financial statements and accompanying notes and other
statistical information presented in the Company's Annual Report for the fiscal
year ended June 30, 1996.
Results of Operations
Results of operations for the three-month and six-month periods ended
December 31, 1996 (the fiscal year ending June 30, 1997, or "fiscal year 1997")
and December 31, 1995 (the fiscal year ended June 30, 1996, or "fiscal year
1996") reflect the Company's focus on expanding its community banking and
mortgage banking operations.
The Company's results of operations for the first six months of fiscal
year 1997 reflect several differences from the same period in fiscal year 1996.
First, net earnings for the first quarter of fiscal year 1997 reflect a one-time
pre-tax charge of $3,149,000 to pay for a special assessment to recapitalize the
Savings Association Insurance Fund (the "SAIF") maintained by the Federal
Deposit Insurance Corporation (the "FDIC"). The FDIC's authority to assess this
special assessment is contained in the omnibus appropriations bill passed by the
Congress and signed into law by President Clinton on September 30, 1996.
Second, the Company's income from servicing loans declined by 58.0%
during the first half of fiscal year 1997 compared to the same period in fiscal
year 1996. This decline is due to the Company's sale of substantially all of its
servicing rights related to mortgage loans serviced for others in a transaction
effective as of April 1, 1996. The Company's decision to exit the mortgage loan
servicing business was driven by the increasing "critical mass" necessary to
generate acceptable returns on loan servicing activities. The after-tax proceeds
of the sale of $4,148,000 have been deployed in other areas, including the
$1,954,000 after-tax funding of the FDIC special assessment, and are providing
additional capital to enhance the Company's core business activities.
Third, as a result of rising market interest rates, originations of
residential mortgage loans declined dramatically in the first half of fiscal
year 1996 compared to fiscal year 1995, which resulted in a significant decrease
in gains on sales of mortgage loans in the first six-months of fiscal year 1996.
This situation turned around in fiscal year 1997, as market interest rates had
moderated and the Company realized higher loan originations, sales and gains
than in the first six- months of fiscal year 1996. The addition of four mortgage
loan origination offices in August 1996 also contributed to the increase in loan
originations.
8
Net interest income increased by 14.3% in the first half of fiscal year
1997, compared to the first half of fiscal year 1996 after posting a 0.9%
decrease by in the first six-months of fiscal year 1996, compared to the same
period in fiscal year 1995. Increases in capital in recent years have permitted
the Company to increase both its assets and liabilities. Most of the net
increases in interest income in the first six months of fiscal year 1997 were
attributable to increases in the size of the balance sheet. When compared to the
first quarter of fiscal year 1995, the rates paid on interest-bearing
liabilities in the first half of fiscal year 1996 increased at faster rates than
yields earned on interest-earning assets. While the Company's balance sheet was
larger in the first half of fiscal year 1997, market rates on both
interest-earning assets and interest-bearing liabilities moderated and declined
slightly, when compared to the same period in fiscal year 1996, and the Company
continued to experience a migration by depositors from lower-yielding checking
and savings deposits to higher-yielding certificates of deposit.
Net Earnings. The Company's net earnings for the second quarter of
fiscal year 1997 were $2,177,000, an increase of 14.3% over the $1,904,000 for
the second quarter of fiscal year 1996. On a per share basis, earnings for the
second quarter of fiscal year 1997 were $.37, an increase of 12.1% over the $.33
for the second quarter of fiscal year 1996.
The Company's net earnings for the first half of fiscal year 1997 were
$2,374,000, a decrease of 40.8% versus the $4,008,000 for the first half of
fiscal year 1996. On a per share basis, earnings for the first half of fiscal
year 1997 were $.40, a decrease of 42.0% versus the $.69 for the first half of
fiscal year 1996.
The per share earnings figures for the three- and six-month periods
ended December 31, 1995 have been adjusted to reflect the two-for-one split of
the Company's common stock, which occurred on November 17, 1995.
As described earlier, the Company's net earnings for the first half of
fiscal year 1997 reflect a one-time, after-tax charge of $1,954,000, or $.34 per
share, to recapitalize the SAIF fund administered by the FDIC. Without the FDIC
charge, the Company's net earnings for the first half of fiscal year 1997 would
have been $4,348,000, or $.74 per share, an increase of 7.2%, or $.05 per share,
from the same six-month period in fiscal year 1996.
The new law also authorizes the FDIC to reduce insurance premiums after
December 31, 1996 to reflect the recapitalized insurance fund. The Company
expects that beginning January 1, 1997, its annualized insurance premiums will
be approximately $940,000 lower on a pre-tax basis than they would have been
without the special assessment law. In addition, future growth in deposits will
be subject to the lower statutory premiums.
9
The following table shows changes in earnings per share:
Fiscal Year Fiscal Year
1997 1996
Versus 1996 Versus 1995
Net earnings per share for the
first six months of fiscal years
1996 and 1995, respectively $ .69 $ .60
Increase (decrease) attributable to:
Net interest income .32 (.02)
FDIC SAIF Assessment (.54) --
Provision for loan losses (.04) (.06)
Noninterest income .07 .11
Noninterest expense (.28) .08
Income taxes .20 (.01)
Average shares outstanding (.02) (.01)
------ ------
Net increase (decrease) (.29) .09
------ ------
Net earnings per share for the
first six months of fiscal years
1997 and 1996, respectively $ .40 $ .69
====== ======
Net Interest Income. Net interest income before the provision for loan
losses for the second quarter of fiscal year 1997 was $7,582,000, an increase of
$1,313,000, or 20.9%, compared to the second quarter of fiscal year 1996. For
the second quarter of fiscal year 1996, net interest income before the provision
for loan losses was $6,269,000, a decrease of $406,000, or 6.1%, compared to the
second quarter of fiscal year 1995.
Net interest income before the provision for loan losses for the first
half of fiscal year 1997 was $14,757,000, an increase of $1,849,000, or 14.3%,
compared to the first half of fiscal year 1996. For the first half of fiscal
year 1996, net interest income before the provision for loan losses was
$12,908,000, a decrease of $111,000, or 0.9%, compared to the first half of
fiscal year 1995.
The Company's net earnings are highly dependent on the difference, or
"spread", between the income it receives from its loan and investment portfolios
and its cost of funds, consisting principally of the interest paid on checking
and savings accounts and borrowings.
10
The average yield received on the Company's loan portfolio may not
change at the same pace as the interest rates it must pay on its deposits and
borrowings. As a result, in times of rising interest rates, decreases in the
difference between the yield received on loans and other investments and the
rate paid on deposits and borrowings usually occur. However, interest received
on short-term investments and adjustable rate mortgage loans and construction
loans also increases as a result of upward trends in short-term interest rates,
which enables the Company to partially compensate for increased deposit and
borrowing costs.
The following tables reflect the average yields earned and rates paid
by the Company during the three-month and six-month periods ended December 31,
1996 and 1995. In computing the average yields and rates, the accretion of loan
fees are considered an adjustment to yield.
11
(In thousands)
Three-Month Periods
Ended December 31
1996 1995
------------------------------------- ------------------------------------
Interest Interest
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
Interest-earning assets;
Loans receivable (1)(2) $ 698,313 $ 15,531 8.82% $621,383 $13,825 8.83%
Mortgage-backed securities and
collateralized mortgage obligations 23,798 382 6.37 7,737 88 4.51
Investments 21,376 334 6.20 25,683 380 5.87
Other interest-earning assets 18,151 237 5.18 8,531 109 5.07
--------- -------- ------ -------- ------- ------
Total interest-earning assets 761,638 16,484 8.59 663,334 14,402 8.61
--------- -------- ------ -------- ------- ------
Noninterest-earning assets:
Cash and cash equivalents 8,065 8,487
Office properties and equipment, net 8,923 8,886
Other assets 18,271 10,006
Allowance for loan losses (8,256) (5,858)
--------- ---------
Total assets $ 788,641 $684,855
========= =========
Interest-bearing liabilities:
Checking and money market
deposit accounts $ 101,345 949 3.72 $ 85,973 861 3.97
Savings deposits 67,151 575 3.40 67,328 583 3.44
Certificates 374,718 5,346 5.66 343,350 5,175 5.98
Federal Home Loan Bank advances 138,845 1,900 5.43 96,902 1,509 6.18
Other borrowings 9,799 132 5.43 304 5 6.53
--------- -------- ------ -------- ------- ------
Total interest-bearing liabilities 691,858 8,902 5.10 593,857 8,133 5.43
--------- -------- ------ -------- ------- ------
Noninterest-bearing liabilities:
Deposits 23,126 29,909
Other 10,508 8,030
--------- ---------
Total liabilities 725,492 631,796
Stockholders' equity 63,149 53,059
Total liabilities and
stockholders' equity $ 788,641 $ 684,855
========= =========
Average dollar difference between
interest-earning assets
and interest-bearing liabilities $ 69,780 $ 69,477
========= =========
Net interest income $ 7,582 $ 6,269
========= =========
Interest rate spread (3) 3.49% 3.18%
===== =====
Net yield on average interest-earning assets (4) 3.95% 3.75%
===== =====
- ------------------
Notes on Page 13.
12
(In thousands)
Six-Month Periods
Ended December 31
1996 1995
------------------------------------- ------------------------------------
Interest Interest
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
Interest-earning assets;
Loans receivable (1)(2) 684,694 $ 30,288 8.78% $618,245 $27,917 8.96%
Mortgage-backed securities and
collateralized mortgage obligations 23,465 759 6.42 8,328 199 4.74
Investments 20,992 661 6.25 27,410 831 6.01
Other interest-earning assets 17,292 460 5.28 11,057 287 5.15
--------- -------- ------ -------- ------- ------
Total interest-earning assets 746,443 32,168 8.55 665,040 29,234 8.72
--------- -------- ------ -------- ------- ------
Noninterest-earning assets:
Cash and cash equivalents 7,953 8,913
Office properties and equipment, net 8,852 8,873
Other assets 17,231 9,429
Allowance for loan losses (7,973) (6,004)
--------- ---------
Total assets $ 772,506 $ 686,251
Interest-bearing liabilities:
Checking and money market
deposit accounts $ 99,806 1,871 3.72 $ 83,995 1,675 3.96
Savings deposits 68,133 1,167 3.40 68,659 1,188 3.43
Certificates 371,163 10,630 5.68 334,410 10,060 5.97
Federal Home Loan Bank advances 126,376 3,500 5.49 108,554 3,392 6.20
Other borrowings 8,923 243 5.40 347 11 6.29
--------- -------- ------ -------- ------- ------
Total interest-bearing liabilities 674,401 17,411 5.12 595,965 16,326 5.43
--------- -------- ------ -------- ------- ------
Noninterest-bearing liabilities:
Deposits 23,888 29,466
Other 11,328 8,835
--------- ---------
Total liabilities 709,617 634,266
Stockholders' equity 62,889 51,985
--------- ---------
Total liabilities and
stockholders' equity $ 772,506 $ 686,251
========= =========
Average dollar difference between
interest-earning assets
and interest-bearing liabilities $ 72,042 $ 69,075
========= =========
Net interest income $ 14,757 $ 12,908
========= =========
Interest rate spread (3) 3.43% 3.29%
===== =====
Net yield on average interest-earning assets (4) 3.92% 3.85%
===== =====
(1) Loans receivable shown gross of allowance for loan losses, gross of
premiums/discounts.
(2) Nonaccrual loans are included in the average loan balances and income on
such loans is recognized on a cash basis.
(3) Average yield on total interest-earning assets during the period less the
average rate paid on total interest-bearing liabilities.
(4) Net interest income divided by average interest-earning assets.
13
The Company's net interest income is affected by changes in both
average interest rates and the average volumes of interest-earning assets and
interest-bearing liabilities. Total interest income increased by $2,934,000 in
the first half of fiscal year 1997 and increased by $3,683,000 in the first half
of fiscal year 1996, as compared to the same periods in the previous fiscal
years. Total interest expense increased by $1,085,000 in the first half of
fiscal year 1997 and increased by $3,794,000 in the first half of fiscal year
1996, as compared to the same periods in the previous fiscal years. The fiscal
year 1996 and 1995 increases in both interest income and interest expense are
due primarily to increases in average interest-earning assets and
interest-bearing liabilities.
The following tables show the amounts of the changes in interest income
and expense which can be attributed to rate (change in rate multiplied by old
volume) and volume (change in volume multiplied by old rate) for the three-month
and six-month periods ended December 31, 1996 and 1995. The changes in net
interest income due to both volume and rate changes have been allocated to
volume and rate in proportion to the relationship of absolute dollar amounts of
the change of each. The table demonstrates that the $1,850,000 increase in net
interest income in the first half of fiscal year 1997 was the net result of a
growing balance sheet partially offset by rising deposit rates, while the
$111,000 decline in net interest income in the first half of fiscal year 1996
was the net result of a growing balance sheet adversely affected by rising
deposit rates.
(In thousands)
Three-Month Periods
Ended December 31
Fiscal Year 1997 Versus 1996 Fiscal Year 1996 Versus 1995
Increase (Decrease) Due to Increase (Decrease) Due to
Volume Rate Total Volume Rate Total
Loans receivable $ 1,722 $ (16) $ 1,706 $ 1,416 $(109) $ 1,307
Mortgage-backed securities and
collateralized mortgage obligations 245 49 294 (46) (61) (107)
Investments (69) 23 (46) (71) (2) (73)
Other interest-earning assets 126 2 128 17 7 24
------- ------ ------- ------- ------ -------
Total interest-earning assets 2,204 58 2,082 1,316 (165) 1,151
------- ------ ------- ------- ------ -------
Checking and money market
deposit accounts 134 (47) 87 (9) 113 104
Savings deposits (1) (7) (8) (241) (4) (245)
Certificates 415 (243) 172 1,285 542 1,827
Federal Home Loan Bank advances 543 (152) 391 (26) 59 33
Other borrowings 129 (1) 128 (193) 31 (162)
------- ------ ------- ------- ------ -------
Total interest-bearing liabilities 1,220 (450) 770 816 741 1,557
------- ------ ------- ------- ------ -------
Net interest income $ 804 $ 508 $ 1,312 $ 500 $(906) $ (406)
======= ====== ======= ======= ====== =======
14
(In thousands)
Six-Month Periods
Ended December 31
Fiscal Year 1997 Versus 1996 Fiscal Year 1996 Versus 1995
Increase (Decrease) Due to Increase (Decrease) Due to
Volume Rate Total Volume Rate Total
Loans receivable $ 2,916 $(545) $ 2,371 $ 3,319 $ 418 $ 3,737
Mortgage-backed securities and
collateralized mortgage obligations 469 91 560 (75) (72) (147)
Investments (205) 35 (170) (58) 24 (34)
Other interest-earning assets 166 7 173 100 27 127
------- ------ ------- ------- ------ -------
Total interest-earning assets 3,346 (412) 2,934 3,286 397 3,683
------- ------ ------- ------- ------ -------
Checking and money market
deposit accounts 289 (93) 196 (80) 260 180
Savings deposits (10) (11) (21) (529) (9) (538)
Certificates 1,021 (451) 570 2,645 1,159 3,804
Federal Home Loan Bank advances 357 (250) 107 356 258 614
Other borrowings 233 (1) 232 (290) 24 (266)
------- ------ ------- ------- ------ -------
Total interest-bearing liabilities 1,890 (806) 1,084 2,102 1,692 3,794
------- ------ ------- ------- ------ -------
Net interest income $ 1,456 $ 394 $ 1,850 $ 1,184 $(1,295) $ (111)
======= ====== ======= ======= ======= =======
Asset/Liability Management. Management strives to manage the maturity
or repricing match between assets and liabilities. The degree to which the
Company is "mismatched" in its maturities is a primary measure of interest rate
risk. In periods of stable interest rates, net interest income can be increased
by financing higher yielding long-term mortgage loan assets with lower cost
short-term deposits and borrowings. Although such a strategy may increase
profits in the short run, it increases the risk of exposure to rising interest
rates and can result in funding costs rising faster than asset yields. The
Company attempts to limit its interest rate risk by selling a majority of the
fixed rate mortgage loans that it originates.
The following tables summarize the contractual repayment terms of the
total loans receivable of the Company as of December 31, 1996, as well as the
amount of fixed rate and variable rate loans due after December 31, 1997. The
tables have not been adjusted for estimates of prepayments and do not reflect
periodic repricing of adjustable rate loans. The tables do include $52,432,000
of fixed rate loans receivable held for sale and $17,333,000 adjustable rate
loans held for sale as of December 31, 1996.
15
Balance Principal Repayment Contractually Due in
Outstanding 12-Month Period Ending December 31,
December 31, 2000- 2002- 2007 and
(In thousands) 1996 1997 1998 1999 2001 2006 Thereafter
Residential and commercial real estate (1) $535,257 $ 34,658 $22,942 $24,337 $39,977 $ 88,273 $325,069
Construction 126,030 97,974 21,686 6,028 342 -- --
Consumer and other loans 58,409 16,267 12,552 9,774 11,160 4,325 4,332
-------- -------- ------- ------- ------- -------- --------
$719,696 $148,899 $57,180 $40,139 $51,479 $ 92,598 $329,401
======== ======== ======= ======= ======= ======== ========
(1) Includes loans held for sale.
Fixed Variable
(In thousands) Rate Rate Total
Residential and commercial real estate (2) $161,399 $339,200 $500,599
Construction 329 27,727 28,056
Consumer and other loans 39,507 2,635 42,142
-------- -------- --------
Total due after December 31, 1997 $201,235 $369,562 $570,797
======== ======== ========
(2) Includes loans held for sale.
Contractual principal repayments of loans do not necessarily reflect
the actual term of the Company's loan portfolio. The average lives of mortgage
loans is substantially less than their contractual terms because of loan
prepayments and because of enforcement of due-on-sale clauses, which gives the
Company the right to declare a loan immediately due and payable in the event,
among other things, the borrower sells the real property subject to the mortgage
and the loan is not repaid. In addition, certain borrowers increase their equity
in the security property by making payments in excess of those required under
the terms of the mortgage.
Asset and liability management strategies impact the one year maturity
"gap", which is the difference between interest-earning assets and
interest-bearing liabilities maturing or repricing in one year or less. The
Company's one year gap was a positive 6.53% of total assets at December 31,
1996, as follows:
16
1 Year 1 - 3 3 - 5 Over 5
(In thousands) Total or Less Years Years Years
Interest-earning assets:
Loans receivable (1) $ 728,303 $467,406 $ 129,477 $29,084 $102,336
Mortgage-backed securities and
collateralized mortgage obligations 22,065 4,535 3,379 4,369 9,782
Investments 20,148 7,714 859 4,557 7,018
Other interest-earning assets 4,649 4,649 -- -- --
--------- -------- --------- ------- --------
Total interest-earning assets $ 775,165 $484,304 $ 133,715 $38,010 $119,136
======== ========= ======= ========
Noninterest-earning assets 41,987
Allowance for loan losses (8,607)
Total assets $ 808,545
=========
Interest-bearing liabilities:
Checking and money-market
Deposit accounts (2) 96,742 34,692 -- -- 62,050
Savings deposits (3) $ 66,519 $ 16,630 $ 9,313 $ 7,982 $ 32,594
Certificates 381,063 263,553 73,313 42,554 1,643
FHLB advances 149,052 107,000 31,500 7,500 3,052
Other borrowings 9,657 9,657 -- -- --
--------- -------- --------- ------- --------
Total interest-bearing liabilities $ 703,333 $431,352 $ 114,126 $58,036 $ 99,339
======== ========= ======= ========
Noninterest-bearing liabilities 42,043
---------
Total liabilities 745,076
Stockholders' equity 63,469
---------
Total liabilities and
stockholders' equity $ 808,545
=========
Maturity/repricing gap $ 52,773 $ 19,589 $ (20,026) $19,797
Cumulative gap $ 52,733 $ 72,362 $ 52,336 $72,132
As percent of total assets 6.53 % 8.95 % 6.47 % 8.92 %
(1) Loans receivable shown gross of allowance for loan losses, net of
premiums/discounts.
(2) The Company has found that interest checking accounts are generally not
sensitive to changes in interest rates and therefore has placed such
deposits in the "over 5 years" category.
(3) In accordance with standard industry practice, decay factors have been
applied to savings deposits.
The preceding table does not reflect the degree to which adjustment of
rate sensitive assets may be restricted by contractual or other limitations
(such as loan rate ceilings) to applicable asset repricing mechanisms. Included
in rate sensitive assets maturing or repricing in one year or less are $167.0
million of adjustable rate mortgage loans with rates tied to U.S. Treasury
securities with a constant maturity of one year and a 2.00% annual interest rate
increase or decrease cap. The movement of interest rates on these loans may not
precisely correspond with the upward or downward movement in loan market rates
or deposit and borrowing rates.
17
The Company's portfolio of loans held for investment totaled
$649,991,000 at December 31, 1996, representing 80.4% of total assets. The
following table sets forth information at the dates indicated concerning the
composition of the Company's loan portfolio, by type:
December 31, 1996 June 30, 1996 December 31, 1995
Percent Percent Percent
of of of
Gross Gross Gross
(In thousands) Amount Loans Amount Loans Amount Loans
First mortgage loans:
Residential - fixed rate $ 70,126 10.6% $ 77,266 12.3% $ 75,975 12.7%
Residential - adjustable rate 287,057 43.5 270,374 43.2 261,289 43.6
------- ---- -------- ---- -------- ----
Total residential 357,183 54.1 347,640 55.5 337,264 56.3
------- ---- -------- ---- -------- ----
Commercial - fixed rate 16,168 2.4 16,633 2.7 17,112 2.8
Commercial - adjustable rate 29,178 4.4 32,089 5.1 38,421 6.4
------- ---- -------- ---- -------- ----
Total commercial 45,346 6.8 48,722 7.8 55,533 9.2
------- ---- -------- ---- -------- ----
Construction - fixed rate 16,655 2.5 20,185 3.2 11,240 1.9
Construction - adjustable rate 113,178 17.1 101,190 16.2 101,234 16.8
------- ---- -------- ---- -------- ----
Total construction (1) 129,833 19.6 121,375 19.4 112,474 18.7
------- ---- -------- ---- -------- ----
Total first mortgage loans 532,362 80.5 517,737 82.7 505,271 84.2
------- ---- -------- ---- -------- ----
Second mortgage loans (2):
Fixed rate 20,572 3.1 18,201 2.9 16,146 2.7
Adjustable rate 30,512 4.6 29,233 4.7 28,372 4.7
------- ---- -------- ---- -------- ----
Total second mortgage loans 51,084 7.7 47,434 7.6 44,518 7.4
------- ---- -------- ---- -------- ----
Loans on savings accounts 2,017 .3 1,691 0.3 1,440 0.2
------- ---- -------- ---- -------- ----
Installment loans:
Fixed rate 72,531 11.0 55,910 8.9 45,907 7.6
Adjustable rate 3,000 .5 3,275 0.5 3,467 0.6
------- ---- -------- ---- -------- ----
Total installment loans 75,531 11.5 59,185 9.4 49,374 8.2
------- ---- -------- ---- -------- ----
Gross Loans 660,994 100.0% 626,047 100.0% 600,603 100.0%
====== ====== ======
Less:
Unearned discount 99 301 778
Deferred income 2,297 2,665 2,399
Allowance for loan losses 8,607 7,527 6,117
-------- -------- ----------
11,003 10,493 9,294
-------- -------- ----------
Total net loans held for investment $649,991 $615,554 $ 591,309
======== ======== ==========
(1) Construction loans are shown net of undisbursed loan funds.
(2) Includes home equity lines of credit.
18
Provision for Loan Losses. The Company provided $581,000 during the
second quarter of fiscal year 1997 as additions to the allowance for loan
losses, compared to $449,000 in the second quarter of fiscal year 1996. The
Company provided $1,142,000 during the first half of fiscal year 1997 as
additions to the allowance for loan losses, compared to $931,000 in the first
half of fiscal year 1996. In establishing the level of the allowance for loan
losses, the Company considers many factors, including general economic
conditions, loan loss experience, historical trends and other circumstances,
both internal and external. The amount of the provision for loan losses is
established based on evaluations of the adequacy of the allowance for loan
losses. The Company considers the size and risk exposure of each segment of the
loan portfolio. For secured loans, management considers estimates of the fair
value of the collateral, considering the current and currently anticipated
future operating or sales conditions. Such estimates are particularly
susceptible to changes that could result in a material adjustment to future
results of operations. Factors such as independent appraisals, current economic
conditions and the financial condition of borrowers are continuously evaluated
to determine whether the Company's investment in such assets does not exceed
their estimated values. The Company's policy is to establish both general and
specific allowances for loan losses.
19
The following table presents the activity in the Company's allowance
for loan losses and selected loan loss data for the first six months of fiscal
years 1996 and 1995:
(In thousands)
Six-Month Periods
Ended December 31
1996 1995
Balance at beginning of period $ 7,527 $ 6,373
Provision charged to expense 1,142 931
Loans charged off:
Residential real estate - 3
Commercial real estate - 1,056
Construction - -
Consumer and other loans 95 162
Total charge-offs 95 1,221
Recoveries of loans previously charged off:
Residential real estate - -
Commercial real estate - -
Construction - -
Consumer and other loans 33 34
Total recoveries 33 34
Net charge-offs 62 1,187
Balance at end of period $ 8,607 $ 6,117
Average loans held for investment (1) $640,361 $589,664
Loans held for investment at period end (1) 658,598 597,426
Ratio of provision for loan losses to
average loans held for investment 0.18% 0.16%
Ratio of net charge-offs to average
loans held for investment 0.01% 0.20%
Ratio of allowance for loan losses to loans
held for investment at period end 1.31% 1.02%
- -------------------------------
(1) Loans receivable shown gross of allowance for loan losses, net of
premium/discount.
While the Company's management believes that its present allowance for
loan losses is adequate, future adjustments may be necessary.
The allowance for loan losses is a general allowance applicable to all
loan categories; however, management has allocated the allowance to the various
portfolios to provide an indication of the relative risk characteristics of the
total loan portfolio. The allocation is based on the same judgmental criteria
discussed earlier in determining the level of the allowance and should not be
interpreted as an indication that chargeoffs for the balance of fiscal year 1997
will occur in these amounts, or proportions, or that the allocation indicates
future trends. The allocation of
20
the allowance at December 31, 1996, June 30, 1996 and December 31, 1995 and the
ratio of the related outstanding loan balances to total loans held for
investment are as follows:
(In thousands) December 31, 1996 June 30, 1996 December 31, 1995
Ratio of Ratio of Ratio of
Loans to Loans to Loans to
Total Loans Total Loans Total Loans
Held for Held for Held for
Allowance Investment Allowance Investment Allowance Investment
Residential real estate $1,545 18.0% $1,425 63.1% $1,205 63.7%
Commercial real estate 2,792 32.4 2,552 7.8 2,052 9.2
Construction 2,800 32.5 2,200 19.4 1,600 18.7
Consumer and other loans 1,470 17.1 1,350 9.7 1,260 8.4
------ ----- ------ ----- ------ -----
$8,607 100.0% $7,527 100.0% $6,117 100.0%
====== ===== ====== ===== ====== =====
Business Lines. The Company tracks the performance of its business
lines using an internal value-based accounting system. Unlike generally
accepted accounting principles, no authoritative body of guidance exists for
internal financial accounting and reporting. The Company's internal accounting
process is based on practices which support its management structure and is not
necessarily comparable with similar information for other institutions. Results
for the first six months of fiscal years 1997 and 1996 are presented in a
consistent manner. However, methodologies may change from time to time as
accounting systems are enhanced or business products change.
The following table details the profitability of the Company's two
business lines, retail banking and mortgage banking. Retail banking includes the
retail branch network and the retail lending group, the Company's equity
line/second mortgage and installment loan portfolios, and related customer
service and administrative activities. Mortgage banking includes the loan
production and servicing functions, the Company's mortgage loan and construction
loan portfolios, and related administrative activities. A match-funded transfer
pricing system is used to allocate interest income and expense between the two
business lines. Since retail banking is a net provider of corporate funds
(retail deposits exceed the retail loan portfolio), and mortgage banking is a
net user of corporate funds, the match-funded pricing system has the effect of
transferring interest income from mortgage banking to retail banking. Loan loss
provisions are allocated based on risk weightings in each business line's
portfolio and changes therein. Corporate administrative costs have also been
allocated to the business lines.
(In thousands) Retail Banking Mortgage Banking Total
Six-Month Periods Increase Increase Increase
Ended December 31 1996 1995 (Decrease) 1996 1995 (Decrease) 1996 1995 (Decrease)
Net interest income $7,902 $6,652 $ 1,249 $6,857 $6,256 $ 601 $14,759 $12,908 $ 1,850
Provision for loan losses 183 179 4 960 752 208 1,143 931 212
Noninterest income 1,250 1,076 174 2,712 2,496 216 3,962 3,572 390
Noninterest expenses 8,777 5,183 3,594 5,204 3,972 1,232 13,979 9,155 4,824
Income taxes 74 914 (840) 1,150 1,472 (322) 1,224 2,386 (1,162)
------ ------ ------- ------ ------ ------- ------- ------- -------
Net earnings $ 118 $1,452 $(1,334) $2,255 $2,556 $ (301) $ 2,374 $ 4,008 $(1,634)
====== ====== ======= ====== ====== ======= ======= ======= =======
21
Retail banking produced a net earnings of $118,000 in the first six
months of fiscal year 1997, compared to $1,452,000 of net earnings in the first
six months of fiscal year 1996. If the FDIC special assessment is excluded,
retail banking yielded net earnings of $2,072,000, an increase of 42.7% over the
first half of fiscal year 1996. Net interest income from retail banking
increased by $1,250,000, or 18.8%, as loans and deposits grew and yields earned
on interest-earning assets and rates paid on deposits declined slightly.
Customers continued to show a preference for placing their deposits into
higher-rate certificates of deposit instead of lower-rate savings, checking and
money-market accounts.
Net earnings from mortgage banking decreased by 11.8% to $2,255,000 in
the six months of fiscal year 1997, when compared to net earnings of $2,556,000
in the first six months of fiscal year 1996. Noninterest expenses increased
$1,232,000 or 31% with the opening of four new branches during the second
quarter and the acquisition of AFI. Higher loan production volume, lower
mortgage loan interest rates, and the majority of mortgage loan sales on a
servicing released basis resulted higher loan sale gains and an 8.7% increase in
the mortgage banking's noninterest income.
Retail Banking Operations. The Company's retail banking activities
consist of attracting checking and savings deposits from the general public
through its retail banking offices and lending funds to retail banking customers
by means of home equity and installment loans.
As of December 31, 1996, the Company operated twenty-three full service
retail facilities throughout Virginia. The Company opened a twenty fourth
full-service retail banking branch on January 27, 1997.
The Company opened a branch on September 11, 1995. The branch is
located at the intersection of Old Bridge Road and Hedges Run Drive, at the
"Lake Ridge Commons Shopping Center" in Woodbridge, Virginia. The Woodbridge
branch was the Company's first retail banking presence in the Northern Virginia
market. The Company's Mortgage Banking Division is also headquartered in
Woodbridge.
The Company originated $5,045,000 of residential equity lines of credit
and fixed-rate second mortgages during the second quarter of fiscal year 1997,
compared to $4,606,000 in the second quarter of fiscal year 1996. The Company
originated $10,452,000 of residential equity lines of credit and fixed-rate
second mortgages during the first half of fiscal year 1997, compared to
$13,120,000 in the first half of fiscal year 1996.
The Company originated $12,368,000 of consumer and installment loans
during the second quarter of fiscal year 1997, compared to $5,226,000 in the
second quarter of fiscal year 1996. The Company originated $29,635,000 of
consumer and installment loans during the first half of fiscal year 1997,
compared to $10,857,000 in the first half of fiscal year 1996.
22
The Company has placed emphasis on making these forms of credit
available to its retail customers. The Company's success in promoting these loan
products is attributed to enhanced training of retail branch personnel, the
centralization of credit decision-making, and marketing campaigns that target
these products.
In addition to originating consumer-type loans, the Company
occasionally purchases loans to obtain geographic diversity and yields not
obtainable in the Company's normal lending areas. The Company purchased
$3,623,000 of such loans during the second quarter, and $11,622,000 during the
first six months of fiscal 1997; no such loans were purchased in the comparable
periods in fiscal year 1996.
The following table summarizes retail banking loan originations and
purchases by type of loan for the three-month and six-month periods ended
December 31, 1996 and 1995:
(In thousands)
Three-Month Periods
Ended December 31 1996 1995
% of % of
Amount Total Amount Total
Residential equity lines of credit (1) $ 3,091 17.8% $ 2,567 26.1%
Fixed-rate second mortgage loans 1,954 11.2 2,039 20.7
Consumer loans 12,368 71.0 5,226 53.2
------- ----- ------- -----
Total originations and purchases $17,413 100.0% $ 9,832 100.0%
======= ===== ======= ======
Six-Month Periods
Ended December 31 1996 1995
% of % of
Amount Total Amount Total
Residential equity lines of credit (1) $ 5,743 14.3% $ 6,003 25.0%
Fixed-rate second mortgage loans 4,709 11.7 7,117 29.7
Consumer loans 29,635 74.0 10,857 45.3
------- ----- ------- -----
Total originations and purchases $40,087 100.0% $23,977 100.0%
======= ===== ======= ======
(1) Reflects loan balances prior to deduction of undisbursed loan amounts.
Management believes that it is important for the Company to diversify
beyond the traditional offerings of home equity loans and consumer installment
loans. The Company has begun to offer banking services to small businesses,
including loans and checking accounts. In addition, the Savings Bank has formed
a new subsidiary, Freedom Financial Services, Inc., which will offer more
financing alternatives to customers at competitive rates.
23
Mortgage Banking Operations. The principal sources of revenue from the
Company's mortgage banking operations are loan origination fees, loan servicing
fees, revenues from sales of loans, and revenues from any sales of rights to
service loans.
During the second half of fiscal year 1996, the Company consolidated
three of its loan production centers into other offices. In August 1996, the
Company opened mortgage loan centers in the Maryland communities of Columbia,
Frederick, Timonium and Bel Air. At December 31, 1996, the Company operated
twelve mortgage loan production centers in Virginia and Maryland.
The Company will continue to evaluate the number and locations of its
mortgage loan origination centers to ensure the most efficient and cost
effective allocation of mortgage lending resources. In subsequent periods the
Company may open new centers or close or consolidate existing centers,
depending on market conditions.
The Company's present operating strategy is to originate fixed rate
loans for sale in the secondary mortgage market, while adjustable rate mortgage
loans are originated both for sale and for the Company's portfolio.
On December 19, 1996, the Company purchased a majority of the assets of
American Finance and Investments, Inc. ("AFI"), a provider of residential
mortgage loans through the Internet. AFI generates mortgage loans on an
automated basis through a computer network presently available to potential
customers in forty-four states. Headquartered in Fairfax, Virginia, AFI is in
the evolving market for electronic commerce. During the past fifteen months AFI
has expanded rapidly by means of software designed to facilitate "on line "
mortgage loan originations. The acquisition of AFI provides the Company with a
means of expansion of electronic commerce to the retail banking customer base.
The Company's introduction to the Internet as a medium of product delivery might
logically expand to other bank-related products and services.
See the discussion under "Mortgage Loan Servicing" regarding the
Company's sale of substantially all of its servicing rights related to mortgage
loans serviced for others, in a transaction effective as of April 1, 1996.
Origination and Purchase of Mortgage Loans. The Company originated
$139,168,000 of fixed rate conventional, Federal Housing Administration ("FHA"),
and Veterans Administration ("VA") residential loans during the second quarter
of fiscal year 1997, compared to $112,385,000 in the second quarter of fiscal
year 1996 and $45,575,000 in the second quarter of fiscal year 1995. The Company
originated $262,612,000 of such loans during the first half of fiscal year 1997,
compared to $225,514,000 in the first half of fiscal year 1996 and $130,757,000
in the first half of fiscal year 1995. The 72.5% increase in the first half of
fiscal year 1996 compared to the same period in fiscal year 1995 was due to a
moderation in market interest rates and an increase in new housing starts,
primarily in the Northern Virginia and Maryland markets. The 16.4% increase in
the first half of 1997 compared to the same period in 1996 is due to continuing
moderate market interest rates as well as the addition of four new loan
origination centers in August 1996 and the acquisition of American Finance and
Investment, Inc. in December, 1996.
24
The Company originated $18,264,000 of adjustable rate residential
mortgage loans during the second quarter of fiscal year 1997, compared to
$20,382,000 in the second quarter of fiscal year 1996 and $25,103,000 in the
second quarter of fiscal year 1995. The Company originated $42,212,000 of such
loans during the first half of fiscal year 1997, compared to $41,526,000 in the
first half of fiscal year 1996 and $54,418,000 in the first half of fiscal year
1995. Originations in the first half of fiscal year 1996 were 23.7% less than in
the same period in fiscal year 1995, as moderating interest rates shifted
consumer interest back to the fixed rate products. This trend continued in 1997
as adjustable rate mortgage loan originations shrank to 12.4% of total
originations in the first half of fiscal year 1997, compared to 14.2% in the
first half of fiscal year 1996.
In addition to originating residential mortgage loans, the Company also
purchases loans to obtain geographic diversity and yields not obtainable in the
Company's normal lending areas. However, no ARM loans were purchased during the
first or second quarters of fiscal years 1997 and 1996.
The Company originated $25,067,000 of construction loans during the
second quarter of fiscal year 1997, compared to $9,555,000 in the second quarter
of fiscal year 1996 and $18,414,000 in the second quarter of fiscal year 1995.
The Company originated $35,504,000 of construction loans during the first half
of fiscal year 1997, compared to $22,521,000 in the first half of fiscal year
1996 and $38,515,000 in the first half of fiscal year 1995. Construction loans
were 10.4% of total permanent mortgage loan and construction loan originations
in the first half of fiscal year 1997, compared to 7.7% in the first half of
fiscal year 1996. The increases in both outstanding construction loan balances
and loan commitments has been consistent with management's goals of diversifying
the Company's loan portfolio and penetrating undeserved markets. The Company
believes that its construction lending underwriting standards are conservative.
Substantial builder equity is typically required and home starts ahead of actual
sales are strictly controlled.
The Company has successfully incorporated a strategic initiative
focusing on the use of a construction loan as the integral component in
obtaining a permanent mortgage loan. The Company has successfully utilized the
integrated construction loan product, in which the home buyer prequalifies for a
permanent mortgage loan and upon completion of the house the construction loan
automatically converts to a permanent loan without the need for a second closing
transaction.
While the Company has financed residential construction projects
throughout its business area, a substantial portion of the Company's
construction lending in the past two fiscal years has been in Northern Virginia
and Maryland. The Company utilized residential construction loan financing as an
entry mechanism into the Northern Virginia and Maryland markets at a time of
diminished competition due to savings institution failures, deflated real estate
prices and a migration by traditional lending sources away from construction and
residential mortgage lending. While the Company's market penetration of the
Northern Virginia and Maryland markets in the
25
past two years has been substantial, management is committed to retaining its
conservative credit risk profile, and is willing to forego market share to new
or returning competitors who may be willing to sacrifice quality to achieve
volume goals. Management's adherence to its quality standards could result in
reductions in construction loan balances and commitments in future periods. The
Company continues to evaluate the feasibility of sustaining or expanding the
present construction lending levels.
The following tables summarize first mortgage and construction loan
originations by type of loan for the three-month and six-month periods ended
December 31, 1996 and 1995:
(In thousands)
Three-Month Periods
Ended December 31 1996 1995
% of % of
Amount Total Amount Total
Permanent mortgage loans:
Fixed rate residential:
Conventional $ 87,301 47.9% $ 83,275 58.5%
FHA/VA 51,867 28.4 29,110 20.5
-------- ----- -------- -----
139,168 76.3 112,385 79.0
-------- ----- -------- -----
Adjustable rate residential:
One year 9,857 5.4 13,208 9.3
Three year 8,407 4.6 7,174 5.0
-------- ----- -------- -----
18,264 10.0 20,382 14.3
-------- ----- -------- -----
Construction loans (1):
Residential construction 18,619 10.2 8,755 6.1
Acquisition, development
and commercial construction 6,448 3.5 800 0.6
-------- ----- -------- -----
25,067 13.7 9,555 6.7
-------- ----- -------- -----
Total originations and purchases $182,499 100.0% $142,322 100.0%
======== ===== ======== =====
(1) Reflects loan balances prior to deduction of undisbursed loan amounts.
26
(In thousands)
Six-Month Periods
Ended December 31 1996 1995
% of % of
Amount Total Amount Total
Permanent mortgage loans:
Fixed rate residential:
Conventional $168,095 49.4% $166,929 57.0%
FHA/VA 94,517 27.8 58,585 20.0
-------- ----- -------- -----
262,612 77.2 225,514 77.0
-------- ----- -------- -----
Adjustable rate residential:
One year 22,724 6.7 27,369 9.3
Three year 19,488 5.7 14,157 4.8
-------- ----- -------- -----
42,212 12.4 41,526 14.2
-------- ----- -------- -----
Fixed rate commercial -- -- 3,283 1.1
-------- ----- -------- -----
Construction loans (1):
Residential construction 28,376 8.3 18,421 6.3
Acquisition, development
and commercial construction 7,128 2.1 4,100 1.4
-------- ----- -------- -----
35,504 10.4 22,521 7.7
-------- ----- -------- -----
Total originations and purchases $340,328 100.0% $292,844 100.0%
======== ===== ======== =====
(1) Reflects loan balances prior to deduction of undisbursed loan amounts.
Risks Associated with Mortgage Loan "Pipeline". The Company's mortgage
banking activities involve risks of loss if secondary mortgage market interest
rates increase or decrease substantially while a loan is in the "pipeline" (the
period beginning with the application to make or the commitment to purchase a
loan and ending with the sale of the loan). In order to reduce this interest
rate risk, the Company typically enters into forward sales commitments in an
amount approximately equal to the closed loans held in inventory, plus a portion
of the unclosed loans that the Company has committed to make which are expected
to close. Additionally, the Company occasionally purchases over-the-counter
options to refine a risk management position in the event the percentage of
loans which actually closes differs from the original expectations. Such options
provide the owner with the right, but not the obligation, to deliver the
underlying commodity or financial asset to the transaction's counter party at a
specific price for a specific period of time. In this instance, the commodity or
financial asset would generally consist of mortgage-backed securities created
with securitized originated mortgage loans. The portion of the unclosed loans
which the Company commits to sell depends on numerous factors, including the
total amount of
27
the Company's outstanding commitments to make loans, the portion of such loans
that is likely to close, the timing of such closings, and anticipated changes in
interest rates. The Company continually monitors these factors and adjusts its
commitments and options positions accordingly.
Sale of Mortgage Loans. There is an active secondary market for most
types of mortgage loans originated by the Company. By originating loans for
subsequent sale in the secondary mortgage market, the Company is able to obtain
funds which may be used for lending and investment purposes. The Company had
been selling a large portion of its loans with the Company retaining the rights
to service the loans. However, beginning January 1, 1996, the Company shifted
its business strategy with respect to mortgage loan servicing, and most of the
loan sales since that date have been on a servicing-released basis. See the
discussion under "Mortgage Loan Servicing" regarding the Company's sale of
substantially all of its servicing rights related to loans serviced for others,
in a transaction effective as of April 1, 1996.
Gains from the sales of mortgage loans and securitized loans were
$1,143,000 in the second quarter of fiscal year 1997, an increase of $681,000,
or 147.4%, over the gains of $462,000 in the second quarter of fiscal year 1996.
Gains from such sales were $1,891,000 in the first half of fiscal year 1997, an
increase of $964,000, or 104.0%, over the gains of $927,000 in the first half of
fiscal year 1996.
All fixed rate mortgage loans originated by the Company are
underwritten following guidelines which will qualify them for sale in the
secondary market. The Company sells its FHA and VA loans to various investors on
a servicing-released basis. The Company either sells its conventional fixed rate
residential production on an individual loan basis or securitizes loans through
the creation of Federal National Mortgage Association ("FNMA") and Federal Loan
Mortgage Corporation ("FHLMC") mortgage-backed securities. The securities
created by securitizing loans originated by the Company are immediately sold to
various investors. No portions of such securities were held by the Company at
December 31, 1996, June 30, 1996, or December 31, 1995. In the event the Company
were to hold such a security as of the end of an accounting period, the security
would constitute a "trading security", and as such would be recorded on the
consolidated statement of financial condition at fair value, and unrealized
holding gains and losses would be included in earnings.
The Company sold $91,762,000 of fixed rate mortgage loans and
securitized loans during the second quarter of fiscal year 1997, compared to
$83,814,000 in the second quarter of fiscal year 1996. The Company sold
$195,436,000 of such loans during the first half of fiscal year 1997, compared
to $160,143,000 in the first half of fiscal year 1996. The sale of fixed rate
product is intended to protect the Company from precipitous changes in the
general level of interest rates. The magnitudes of the period-to-period changes
in loan sales are consistent with and reflect the percentage changes in fixed
rate mortgage loan originations in those periods.
28
The valuation of adjustable rate mortgage loans is not as directly
dependent on the level of interest rates as is the value of fixed rate loans.
Decisions to hold or sell adjustable rate mortgage loans are based on the need
for such loans in the Company's portfolio, which is influenced by the level of
market interest rates and the Company's asset/liability management strategy. As
with other investments, the Company regularly monitors the appropriateness of
the level of adjustable rate mortgage loans in its portfolio and may decide from
time to time to sell such loans and reinvest the proceeds in other adjustable
rate investments.
The Company sold $19,201,000 of adjustable rate mortgage loans and
securitized loans during the second quarter of fiscal year 1997, compared to
$18,498,000 in the second quarter of fiscal year 1996. The Company sold
$28,213,000 of such loans during the first half of fiscal year 1997, compared to
$40,310,000 in the first half of fiscal year 1996. The sizable proportion of
adjustable rate loan and securitized loan sales to total sales in fiscal year
1995 compared to fiscal year 1996 is due to the increased popularity of
adjustable rate mortgage loans in the rising interest rate environment, and the
corresponding demand for adjustable rate loans and securities in the secondary
market. In addition, production of adjustable rate loans in the first and second
quarters of both fiscal years 1996 and 1995 exceeded the Company's capacity to
add such loans to its loan portfolio.
The following tables summarize mortgage loan sales by type of loan for
the three-month and six-month periods ended December 31, 1996 and 1995. The
table does not reflect commitments sold for which mortgage loans had not been
delivered and funded at period end.
(In thousands)
Three-Month Periods
Ended December 31 1996 1995
% of % of
Amount Total Amount Total
Fixed rate $ 91,762 82.7% $ 83,814 81.9%
Adjustable rate 19,201 17.3 18,498 18.1
-------- ----- -------- -----
Total mortgage loans sold $110,903 100.0% $102,312 100.0%
======== ===== ======== =====
Six-Month Periods
Ended December 31 1996 1995
% of % of
Amount Total Amount Total
Fixed rate $195,436 87.4% $160,143 79.9%
Adjustable rate 28,213 12.6 40,310 20.1
-------- ----- -------- -----
Total mortgage loans sold $223,649 100.0% $200,453 100.0%
======== ===== ======== =====
29
Included in the figures above are mortgage loans which were securitized
into mortgage-backed securities in connection with and immediately prior to
sale. Securitized loans in the above figures totaled $93,245,000 in the first
half of fiscal year 1997 and $74,127,000 in the first half of fiscal year 1996.
In an environment of stable interest rates, the Company's gains on the
sale of mortgage loans and securitized loans would generally be limited to those
gains resulting from the yield differential between retail mortgage loan
interest rates and rates required by secondary market purchasers. A loss from
the sale of a loan may occur if interest rates increase between the time the
Company establishes the interest rate on a loan and the time the loan is sold.
Because of the uncertainty of future loan origination volume and the future
level of interest rates, there can be no assurance that the Company will realize
gains on the sale of financial assets in future periods.
The Company defers fees it receives in loan origination, commitment and
purchase transactions. Loan origination fees and certain direct loan origination
costs are deferred and recognized over the lives of the related loans as an
adjustment of the loan's yield using the level-yield method. Net commitment fees
for permanent forward commitments issued to builders and/or developers for the
purpose of securing loans for their purchasers are also deferred. Deferred
income pertaining to loans held for sale is taken into income at the time of
sale of the loan.
Mortgage Loan Servicing. Loan servicing includes collecting and
remitting loan payments, accounting for principal and interest, holding escrow
funds for payment of taxes and insurance, making required inspections of the
mortgage premises, contacting delinquent mortgagors, supervising foreclosures in
the event of unremedied defaults, and generally administering the loans for the
investors to whom they have been sold. The Company receives fees for servicing
mortgage loans, generally ranging from 1/4% to 1/2% per annum on the declining
principal balances of the loans. Servicing fees are collected by the Company out
of monthly mortgage payments.
The Company sold substantially all of its servicing rights related to
loans serviced for others, in a transaction effective as of April 1, 1996. The
transaction generated a pre-tax gain of $6,847,000. The amount of the gain is
net of the write-off of the remaining $14,000 of unamortized purchased mortgage
loan servicing rights and $767,000 of unamortized capitalized excess servicing.
The Company's decision to exit the mortgage loan servicing business was driven
by the increasing "critical mass" necessary to generate acceptable returns on
loan servicing activities.
As a result of the sale of the rights to service loans for others, loan
servicing income declined by $995,000 to $720,000 during the first half of
fiscal year 1997. The income in the first half of fiscal year 1997 consists of
late charges and other fee income related to the Company's loan portfolio.
30
The Company has adopted SFAS No. 122, "Accounting for Mortgage
Servicing Rights," beginning July 1, 1996. The Statement requires that the cost
of mortgage loans originated or purchased with a definitive plan to sell the
loans and retain the servicing rights, be allocated between the loans and
servicing rights based on their estimated values at the purchase or origination
date. Upon the sales of the loans, additional income may be recognized resulting
from a lower adjusted cost basis on the mortgage loans sold. The servicing
rights asset is amortized over the life of the servicing revenue stream, and
thus has the effect of reducing loan servicing income in future periods. The
adoption of the new accounting standard has had no material effect on the
Company, since mortgage loan servicing rights are no longer being accumulated,
but instead are being sold concurrently with the sale of the underlying loans.
Investments. The Company classifies a large portion of its investment
securities and mortgage-backed securities as available for sale. Such securities
are reported on a fair value basis, with unrealized gains and losses excluded
from earnings and reported as a separate component of stockholders' equity, net
of any deferred tax provision. Management believes the available for sale
classification allows the most flexibility in meeting liquidity needs, adjusting
interest rate risk and controlling balance sheet trends. The Company could
experience volatility in its capital account in future periods because of market
price fluctuation in its investment securities and mortgage-backed securities
holdings.
31
The amortized cost and fair value of the Company's investment
securities and mortgage-backed securities (including collateralized mortgage
obligations, or "CMOs") are as follows:
(In thousands) December 31, 1996 June 30, 1996 December 31, 1995
Amortized Fair Amortized Fair Amortized Fair
Cost Value Cost Value Cost Value
Investment Securities
Held to maturity:
FHLB notes $ -- $ -- $ -- $ -- $ 1,000 $ 1,000
Municipal bonds 6,226 6,226 6,278 6,278 7,556 7,556
-------- ------- -------- ------- -------- -------
6,226 6,226 6,278 6,278 8,556 8,556
-------- ------- -------- ------- -------- -------
Available for sale:
FHLB notes 6,447 6,449 6,440 6,385 6,000 6,000
FNMA bonds -- -- -- -- 1,966 2,028
-------- ------- -------- ------- -------- -------
6,385 7,966 8,028
Net unrealized gain (loss) 22 -- (55) -- 62 --
-------- ------- -------- ------- -------- -------
6,469 6,469 6,385 6,385 8,028 8,028
-------- ------- -------- ------- -------- -------
$ 12,695 $12,695 $ 12,663 $12,663 $ 16,584 16,584
======== ======= ======== ======= ======== =======
Mortgage-Backed Securities
Held to maturity:
FHLMC $ 372 $ 379 $ 374 $ 382 $ 378 $ 388
Other -- -- -- -- 196 196
-------- ------- -------- ------- -------- -------
372 379 374 382 574 584
-------- ------- -------- ------- -------- -------
Available for sale:
FHLMC 4,735 4,753
FNMA 5,113 5,114 3,066 3,051 3,245 3,189
CMOs 11,876 11,826 12,402 12,269 3,316 3,332
-------- ------- -------- ------- -------- -------
21,724 21,693 15,468 15,320 6,561 6,521
Net unrealized loss (31) -- (148) -- (40) --
-------- ------- -------- ------- -------- -------
21,693 21,693 15,320 15,320 6,521 6,521
-------- ------- -------- ------- -------- -------
$ 22,065 $22,072 $ 15,694 $15,702 $ 7,095 $ 7,105
======== ======= ======== ======= ======== =======
32
Noninterest Income. Financial service fees increased by $120,000, or
21.3% in the second quarter of fiscal 1997 and by $66,000, or 13.3%, in the
second quarter of fiscal year 1996, compared to the same periods in the
respective previous years. Such fees increased by $194,000 or 17.2% in the first
half of fiscal year 1997 and by $104,000, or 10.1%, in the first half of fiscal
year 1996, compared to the same periods in the respective previous years. These
three-month and six-month period-to-period increases are primarily attributed to
the increase in the number of checking accounts resulting from promotional
campaigns targeted to the checking product.
In addition, financial service fees in the first half of fiscal year
1997 include $38,000 earned from the Company's relationship with CoreLink
Financial, Inc. ("CoreLink"). The Company earned $37,000 in the first half of
fiscal year 1996 under a previous arrangement. Pursuant to a contractual
arrangement, CoreLink leases office space in certain of the Company's facilities
through which stocks, bonds, mutual funds and investment counseling are
provided. Such fees were lower in the first half of fiscal year 1997, as
compared to the same period in fiscal year 1996, since the CoreLink relationship
is in a start-up mode. Effective as of April 1, 1996, the Company engaged
CoreLink to replace INVEST Financial Services, Inc. as its broker-dealer for
providing mutual funds and other securities products to the Company's customers.
Sales of real estate owned yielded net gains of $37,000 and $11,000 in
the second quarters of fiscal years 1997 and 1996, respectively, and yielded
gains of $97,000 and $70,000, respectively, for the first six months of such
fiscal years. The Company recorded losses on the revaluation of real estate
owned of $202,000 and $138,000 in the second quarters of fiscal years 1997 and
1996, respectively, and recorded losses of $214,000 and $367,000, respectively,
for the first six months of such fiscal years. It is the Company's policy to
record allowances for estimated losses on real estate owned when, based upon its
evaluation of various factors such as independent appraisals and current
economic conditions, it determines that the investment in such assets is greater
than their fair values less cost to dispose.
Other noninterest income includes gains on sales of real estate
acquired for development of $1,000 in the first half of fiscal year 1996; $5,000
of such gains were realized in the first half of fiscal year 1997.
Century Title Insurance Agency, Inc. was incorporated in December 1994
as a subsidiary of the Savings Bank. This new business unit offers a full range
of title insurance products to the general public and enhances the
diversification of products to both existing and prospective mortgage loan
customers. It based at the headquarters of the Virginia First Mortgage Division
in Woodbridge, Virginia. Century Title generated $49,000 of gross title fee
income in the second quarter of fiscal year 1997 and $110,000 in the first half
of fiscal year 1997.
33
Noninterest Expenses. Personnel and related employee benefits expense
is the Company's largest non-interest expense. Personnel expense for the second
quarter of fiscal year 1997 was $2,920,000, compared to $2,301,000 in the second
quarter of fiscal year 1996 and $2,549,000 in the second quarter of fiscal year
1995. Such expense for the first half of fiscal year 1997 was $5,575,000,
compared to $4,579,000 in the first half of fiscal year 1996 and $5,330,000 in
the first half of fiscal year 1995. The 14.1% decrease in personnel expense in
the first half of fiscal year 1996, as compared to the same period in fiscal
year 1995, reflects the consolidation of back office operations of the Companies
mortgage banking divisions. The consolidation eliminated duplicate support
structures and provided for more efficient and uniform delivery of mortgage
services. Also, commissions paid to mortgage loan originators, which is a
substantial component of personnel expense, declined proportionately to the
reduction in the volume of loans closed. The 21.8% increase in personnel expense
in the first half of fiscal year 1997, as compared to the same period in fiscal
year 1996, reflects the overall increase in loan originations, the addition of
four loan origination offices in August 1996, and the effect of acquiring the
assets and personnel of American Finance and Investment, Inc. on December 19,
1996. The increase in personnel expense also reflects the impact of personnel
hired to meet the Company initiatives in marketing, consumer finance, commercial
lending, and deposits.
Occupancy expense for the second quarters of fiscal years 1997 and 1996
was $431,000 and $384,000, respectively. Such expense was $839,000 and $755,000,
respectively, for the first six months of those fiscal years. The 11.1% increase
for the first half of fiscal year 1997 is attributable to the opening of one
retail banking branch, the opening of four mortgage offices, and the acquisition
of American Finance & Investment, Inc.
Data processing expense for the second quarters of fiscal years 1997
and 1996 was $468,000 and $440,000, respectively. Such expense was $839,000 and
$755,000, respectively, for the first six months of those fiscal years. The
fiscal year 1996 and 1995 increases of 7.6% and 4.5%, respectively, were due to
increased loan and deposit account volume and local area networking.
Income Taxes. Income tax expense for the second quarter of fiscal year
1997 was $1,313,000, resulting in an effective tax rate of 37.6%. By comparison,
the Company had income tax expense of $1,062,000 for an effective tax rate of
35.8% in the second quarter of fiscal year 1996. The income tax expense and
effective tax rate of the first six months of fiscal year 1997 were $1,223,000
and 34.0%, compared to $2,386,000 and 37.3% in the same period in fiscal year
1996.
The effective tax rates differ from the statutory federal rates. The
prohibition against claiming amortization for certain purchase accounting
adjustments (goodwill) for income tax purposes tends to increase the effective
tax rate, while the effective tax rate tends to be lower due to tax-exempt
interest income. The effective rate also provides for state income taxes.
34
Financial Condition
Liquidity and Capital Resources. The primary sources of funds for the
Company consist of checking and savings deposits, loan sale fundings, loan
repayments, borrowings from the FHLB and others, and funds provided from
operations. Deposits totaled $579,984,000 at December 31, 1996, an increase of
$6,448,000, or 1.1%, over the $573,536,000 at June 30, 1996. Certificates of
deposit grew by $13,476,000 in the first half of fiscal year 1997, while savings
deposits declined by $2,305,000 and checking and money market deposit accounts
declined by a total of $4,723,000. The principal reason for the decline in
checking deposits was the transfer of mortgage loan servicing collateral
accounts at the conclusion of the subservicing arrangement related to the sale
of mortgage loan servicing rights. Approximately $263.6 million in certificate
accounts will mature in the twelve-month period ending December 31, 1997. The
Company's management believes that most of the maturing liabilities will be
reinvested with the Company.
Advances from the FHLB increased by $47,000,000 to $149,052,000 at
December 31, 1996, compared to $102,052,000 at June 30, 1996. The Company has
access to advances from the FHLB generally secured by pledging mortgage loans
and its stock in the FHLB.
The Company will sometimes borrow from several sources using
mortgage-backed securities as collateral. Such borrowings totaled $9,021,000 at
December 31, 1996; there were no such borrowings outstanding at June 30, 1996.
The Company's management will use this method of financing to the extent that it
is less expensive than alternative sources and is within regulatory guidelines.
The Company's borrowings, including FHLB advances, at December 31, 1996 were
19.6% of assets, compared to 13.7% of assets at June 30, 1996.
The Company sells mortgage loans and securitized loans in the secondary
market and redeploys the sales proceeds in its lending operations. To a lesser
extent, the proceeds of periodic loan payments and loan payoffs provide funds
for the lending operations.
The primary use of funds by the Company is loan originations. The
Company's loan portfolio, including loans held for sale, totaled $719,696,000 at
December 31, 1996 compared to $662,035,000 at June 30, 1996, an increase of
$57,661,000, or 8.7%. The Company's loans held for investment and for sale
represented 89.0% of assets at December 31, 1996, compared to 88.6% of assets at
June 30, 1996.
The Company had outstanding fixed rate loan origination commitments of
$655,000 and outstanding adjustable rate loan commitments of $565,000 at
December 31, 1996.
The Company had $5,000,000 in outstanding loan purchase commitments at
December 31, 1996. The Company had outstanding commitments to fund $29,383,000
of construction loans at December 31, 1996. In addition, the Company had
$30,633,000 outstanding in lines of credit extended to its customers at December
31, 1996. The Company's management does not anticipate any difficulties in
satisfying these commitments.
35
Due to the relative size of the Company's loan portfolio, purchases and
sales of investments have a limited impact on the Company's funding
requirements. Investments and mortgage-backed securities (classified as either
held to maturity or available for sale) totaled $34,760,000 at December 31, 1996
and $28,357,000 at June 30, 1996. Such balances represented 4.3% and 3.8%,
respectively, of total assets at those dates.
Liquidity is the ability to meet present and future financial
obligations, either through the acquisition of additional liabilities or from
the sale or maturity of existing assets, with minimal loss. Regulations of the
OTS require thrift associations and/or savings banks to maintain liquid assets
at certain levels. At present, the required ratio of liquid assets to
withdrawable savings and borrowings due in one year or less is 5.0%. In fiscal
year 1997 the Company is maintaining liquidity at or in excess of the required
amount. At December 31, 1996 and June 30, 1996, the Company had liquidity ratios
of 5.0% and 5.2%, respectively. The Company's management anticipates that it
will be able to maintain its current level of regulatory liquidity during the
balance of fiscal year 1997.
At December 31, 1996, the Savings Bank's net worth under generally
accepted accounting principles ("GAAP") was $63,469,000. OTS Regulations require
that savings institutions maintain the following capital levels: (1) tangible
capital of at least 1.5% of total adjusted assets, (2) core capital of 4.0% of
total adjusted assets, and (3) overall risk-based capital of 8.0% of total
risk-weighted assets. As of December 31, 1996, the Savings Bank satisfied all of
the regulatory capital requirements, as shown in the following table reconciling
the Savings Bank's GAAP capital to regulatory capital:
Risk-
Tangible Core Based
(In thousands) Capital Capital Capital
GAAP capital $ 63,469 $ 63,469 $ 63,469
Non-allowable assets:
Goodwill (2,168) (2,168) (2,168)
Other intangible assets (184) -- --
Equity in subsidiaries (734) (734) (734)
Additional capital items:
Unrealized gain on
debt securities, net 5 5 5
General loss allowances -- -- 7,243
-------- -------- --------
Regulatory capital - computed 60,388 60,572 67,815
Minimum capital requirement 12,083 32,229 46,353
-------- -------- --------
Excess regulatory capital $ 48,305 $ 28,343 $ 21,462
======== ======== ========
Ratios:
Regulatory capital - computed 7.49% 7.51% 11.70%
Minimum capital requirement 1.50 4.00 8.00
-------- -------- --------
Excess regulatory capital 5.99% 3.51% 3.70%
======== ======== ========
The Company has addressed the phase-in of higher capital requirements
and the phase-out from capital of certain assets. Management believes that there
are sufficient alternatives available to enable the Company to remain in
compliance with its capital requirements.
36
As a result of federal legislation, the Company has been subject to
higher federal deposit insurance premiums and supervisory examination expenses.
The Company is not aware of any other trends, events or uncertainties
which will have or that are likely to have a material effect on the Company's or
the Savings Bank's liquidity, capital resources or operations. The Company is
not aware of any current recommendations by regulatory authorities which if they
were implemented would have such an effect.
Asset Quality. When a borrower fails to make a required loan payment,
the Company contacts the borrower and attempts to cause the default to be cured.
In general, first attempts at contact are made immediately following the
assessment of late charges 15 days following the due date. Defaults are cured
promptly in most cases. If the borrower has not paid by the 45th day of
delinquency a letter is sent giving the borrower 7 days in which to cure the
default. If the default is not cured by the expiration date the loan is
accelerated. If the delinquency on a mortgage loan exceeds 90 days and is not
cured through the Company's normal collection procedures, or an acceptable
arrangement is not worked out with the borrower, the Company will institute
measures to remedy the default, including commencing a foreclosure action or, in
special circumstances, accepting from the mortgagor a voluntary deed of the
secured property in lieu of foreclosure.
Loans are placed on non-accrual status when, in the judgement of the
Company's management, the probability of collection of interest is deemed to be
insufficient to warrant further accrual. Generally, all loans more than 90 days
delinquent are placed on non-accrual status. When a loan is placed on
non-accrual status, previously accrued but unpaid interest is deducted from
interest income.
If foreclosure is effected, the property is sold at a public auction in
which the Company may participate as a bidder. If the Company is the successful
bidder, the acquired real estate property is then included in the Company's real
estate owned account until it is sold. The Company is permitted under federal
regulations to finance sales of real estate owned by "loans to facilitate,"
which may involve more favorable interest rates and terms than generally would
be granted under the Company's underwriting guidelines.
37
The following table sets forth information regarding non-accrual loans
and real estate owned held by the Company at the dates indicated:
(In thousands) December 31, June 30, December 31,
1996 1996 1995
Non-accrual loans:
Residential mortgage $ 4,598 $ 5,029 $ 4,964
Commercial mortgage 1,928 1,827 2,761
Construction 1,514 2,747 1,573
Consumer non-mortgage 1,612 1,342 1,155
-------- -------- --------
Total non-accrual loans 9,652 10,945 10,453
Specific loss allowances (895) (646) (703)
-------- -------- --------
Total non-accrual loans, net 8,757 10,299 9,750
Real estate acquired through foreclosure:
One to four family
residential units 3,484 2,319 2,229
Residential land/lots 2,023 2,004 1,940
Shopping/retail centers 1,686 1,727 672
Office buildings -- -- --
Commercial land 192 192 351
-------- -------- --------
Total real estate acquired
through foreclosure 7,385 6,242 5,192
Specific and general
allowances for losses (1,009) (889) (789)
-------- -------- --------
Total real estate acquired through
foreclosure, net 6,376 5,353 4,403
-------- -------- --------
Total non-performing assets $ 15,133 $ 15,652 $ 14,153
======== ======== ========
Non-accrual loans to gross loans 1.20% 1.63% 1.63%
Total non-performing assets to sum of
gross loans and real estate acquired
through foreclosure 2.05% 2.32% 2.19%
Total non-performing assets to total assets 2.02% 2.10% 1.97%
The net amount of interest income foregone during the second quarters
of fiscal years 1997 and 1996 on loans classified as non-performing was $164,000
and $132,000, respectively. The amount foregone in the first half of fiscal year
1997 was $334,000, compared to $241,000 in the first half of fiscal year 1996.
38
At June 30, 1995, the Company had $8,354,000 of restructured commercial
real estate loans (five loans) which were performing in accordance with their
restructured terms. These loans were reclassified as performing loans as of
September 30, 1995. As of December 31, 1996, the Company had no restructured
loans subject to special reporting rules.
The following table summarizes all non-accrual loans, by loan type, at
December 31, 1996:
Number
of Principal Specific Net
(Dollars in thousands) Loans Balance Allowances Investment
Residential mortgage 65 $ 4,598 $ -- $4,598
Commercial mortgage 7 1,928 -- 1,928
Construction 6 1,514 -- 1,514
Consumer non-mortgage 127 1,612 (895) 717
--- ------- ------- ------
205 $ 9,652 $ (895) $8,757
=== ======= ======= ======
Impaired loans are measured based on the present value of expected
future cash flows discounted at the effective interest rate of the loan, or at
fair value of the loan's collateral for "collateral dependent" loans. A loan is
considered impaired when it is probable that a creditor will be unable to
collect all interest and principal payments as scheduled in the loan agreement.
A loan is not considered impaired during a period of delay in payment if the
ultimate collectibility of all amounts due is expected. A valuation allowance is
required to the extent that the measure of the impaired loans is less than the
recorded investment. These rules do not apply to larger groups of homogeneous
loans such as consumer installment and real estate mortgage loans, which are
collectively evaluated for impairment. Impaired loans are therefore primarily
business loans, which include commercial loans and income property and
construction real estate loans. The Company's impaired loans are nonaccrual
loans, as generally loans are placed on nonaccrual status on the earlier of the
date that principal or interest amounts are 90 days or more past due or the date
that collection of such amounts is judged uncertain based on an evaluation of
the net realizable value of the collateral and the financial strength of the
borrower.
Impaired loans and the applicable valuation allowance at December 31,
1996 were as follows:
(In thousands) Related
Loan Valuation
Balance Allowance
Impaired with specific valuation allowance $ -- $--
Impaired without specific valuation allowance 3,561 --
------- ----
Total impaired loans $3,561 $--
======= ====
39
Collateral dependent loans, which are measured at the fair value of the
collateral, constituted 100% of impaired loans at December 31, 1996.
Consistent with the Company's method for nonaccrual loans, interest
receipts for impaired loans are recognized as interest income and applied to
principal when the ultimate collectibility of principal is in doubt. The average
recorded investment in impaired loans, the amount of interest income recognized,
and the amount of interest income recognized on a cash basis during the periods
ended December 31, 1996 were as follows:
Three Months Ended Six Months Ended
(In thousands) December 31, 1996 December 31, 1996
Average recorded investment
in impaired loans $4,660 $5,116
Interest income recognized
during impairment 59 76
Interest income recognized
on a cash basis during impairment 59 76
The following table summarizes all real estate acquired through
foreclosure, by property type, at December 31, 1996:
Number
of Original Net
(Dollars in thousands) Units Basis Allowances Investment
One to four family residential units 30 $ 3,483 $ (142) $3,341
Residential land/lots 6 2,024 (205) 1,818
Shopping/retail centers 2 1,686 (212) 1,474
Commercial land 1 192 192
--- ------- ------- ------
39 7,385 (559) 6,826
General loss allowance -- -- (450) (450)
--- ------- ------- ------
39 $ 7,385 $(1,009) $6,376
=== ======= ======= ======
There are no loans classified for regulatory purposes as loss,
doubtful, substandard or special mention that have not been disclosed above,
that either (a) represent or result from trends or uncertainties that management
reasonable expects will materially impact future operating results, liquidity or
capital resources or (b) represent material credits about which management is
aware of any information that causes management to have serious doubts as to the
ability of such borrowers to comply with loan repayment terms.
During the quarter ended September 30, 1995, the Company modified the
financing for a strip shopping center located in Marietta, Georgia. Prior to
June 30, 1995, Management was advised by the owners of the shopping center that
they were interested in selling the property. The Company had previously
acquired the shopping center though foreclosure in March 1990 and subsequently
sold the property to new owners in October 1990. The resulting "loan to
40
facilitate" was made at a below-market rate of interest and was the Company's
largest individual outstanding loan balance at June 30, 1995. Although the loan
was performing in accordance with its terms, the owners had minimal equity in
the project, and the loan was classified for regulatory purposes since its
inception. Management added to the allowance for commercial mortgage loan losses
in the past few years due to its concerns for this specific loan.
Management subsequently reached an agreement with the owners to accept
the net sales proceeds from the sale of the project to a third party. The
transaction was concluded in August 1995 and resulted in a chargeoff of
$1,056,000 against the allowance for commercial mortgage loan losses. An
arms-length loan was made by the Company to the acquiring entity at market
terms, including a substantial equity contribution. The new loan is being held
in the Company's commercial mortgage loan portfolio and is classified as a
performing credit. Management believes that the $2,652,000 in the allowance for
commercial mortgage loans at December 31, 1996, is adequate to cover potential
problems in the portfolio.
New Accounting Standard
In October 1995, SFAS No. 123, "Accounting for Stock-Based
Compensation," was issued. SFAS 123 prescribes accounting and reporting
standards for all stock-based compensation plans. The new standard allows
companies to continue to follow present accounting rules which often result in
no compensation expense being recorded or to adopt the SFAS 123 fair-value-based
method. The fair-value-based method will generally result in higher compensation
expense based on the estimated fair value of stock-based awards on the grant
date. Companies electing to continue following present accounting rules will be
required to provide pro-forma disclosures of net earnings and earnings per share
as if the fair-value- based method had been adopted. The Company intends to
continue to follow present accounting rules and to implement the new disclosure
requirements in fiscal year 1997 as required. The adoption of SFAS 123,
therefore, will not impact the financial condition and results of operations of
the Company.
In June 1996, SFAS No. 125, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities," was issued. The new
standard is effective for transfers and servicing of financial assets and
extinguishment of liabilities occurring after December 31, 1996, and is to be
applied prospectively. Earlier or retroactive application is not permitted.
Specific transition provisions apply to servicing contracts in existence before
January 1, 1997 and certain financial assets subject to prepayment. SFAS 125
provides accounting and reporting standards based on consistent application of
the "financial components" approach that focuses on control. Under the approach,
after a transfer of assets, an entity recognizes the financial and servicing
assets it controls and the liabilities it has incurred, derecognizes financial
assets when control has been surrendered, and derecognizes liabilities when
extinguished. It provides consistent standards for distinguishing transfers of
financial assets that are sales from transfers that are secured borrowings.
Implementation
41
guidance is provided for assessing isolation of transferred assets and for
accounting for transfers of partial interests, servicing of financial assets,
securitizations, transfers of sales-type and direct financing lease receivables,
securities lending transactions, repurchase agreements, including "dollar
rolls," "wash sales," loan syndications and participations, risk recourse, and
extinguishments of liabilities. The Company's adoption of SFAS 125 is not
expected to have a material adverse effect on the financial condition and
results of operations of the Company.
Impact of Inflation and Changing Prices. The consolidated financial
statements and related data presented in this quarterly report have been
prepared in accordance with generally accepted accounting principles, which
require the measurement of the financial position and operating results of the
Company in terms of historical dollars, without considering changes in the
relative purchasing power of money over time due to inflation.
Virtually all of the assets of the Company are monetary in nature. As a
result, interest rates have a more significant impact on of general levels of
inflation. Interest rates do not necessarily move in the same direction or with
the same magnitude as the prices of goods and services.
42
Part II. Other Information
Virginia First Financial Corporation and Subsidiaries
Item 4. Submissions of Matters to a Vote of Security Holders
None.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits - None
(b) Reports on Form 8-K - There were no reports on Form 8-K filed
for the three months ended December 31, 1996.
43
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Virginia First Financial Corporation
------------------------------------
(Registrant)
Date: February 14, 1997 /s/ Charles A. Patton
-----------------------
Charles A. Patton
President and
Chief Operating Officer
Date: February 14, 1997 /s/ William J. Vogt
-----------------------
William J. Vogt
Senior Vice President and
Chief Financial Officer
44