FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
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OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from____________________to____________________________
Commission file number 1-10506
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Essex Bancorp, Inc.
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(Exact name of registrant as specified in its charter)
Delaware 54-1721085
----------------------- ----------------
(State of organization) (I.R.S. Employer
Identification No.)
9 Interstate Corporate Center, Suite 200
Norfolk, Virginia 23502
--------------------- ----------
(Address of principal (Zip Code)
executive offices)
Registrant's telephone number, including area code (757) 893-1300
--------------
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 .
--- ---
Shares outstanding as of November 10, 1999: 1,060,642 shares of Common
Stock, par value $.01 per share.
Essex Bancorp, Inc.
Quarterly Report on Form 10-Q for the
Quarter Ended September 30, 1999
Table of Contents
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Page
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Part I FINANCIAL INFORMATION
Item 1. Financial Statements 3
Consolidated Balance Sheets (unaudited)
as of September 30, 1999 and December 31, 1998 3
Consolidated Statements of Operations (unaudited)
for the three months and nine months ended
September 30, 1999 and 1998 4
Consolidated Statement of Shareholders' Equity
(unaudited) for the nine months ended
September 30, 1999 6
Consolidated Statements of Cash
Flows (unaudited) for the nine months
ended September 30, 1999 and 1998 7
Notes to Consolidated Financial
Statements (unaudited) 9
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of
Operations 12
Item 3. Quantitative and Qualitative Disclosures
About Market Risk 20
Part II OTHER INFORMATION
Item 1. Legal Proceedings 21
Item 2. Changes in Securities 21
Item 3. Defaults Upon Senior Securities 21
Item 4. Submission of Matters to a Vote
of Security Holders 21
Item 5. Other Information 21
Item 6. Exhibits and Reports on Form 8-K 21
2
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
ESSEX BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (unaudited)
September 30, December 31,
1999 1998
---- ----
ASSETS
Cash............................................................... $ 6,332,866 $ 5,315,805
Interest-bearing deposits.......................................... 6,380,783 11,314,478
Federal funds sold and securities purchased under
agreements to resell............................................. 916,781 1,314,397
------------ ------------
Cash and cash equivalents..................................... 13,630,430 17,944,680
Federal Home Loan Bank stock....................................... 1,737,500 1,548,800
Securities available for sale - cost approximates market........... 19,077 18,406
Securities held for investment - market value of
$2,715,000 in 1999 and $2,704,000 in 1998........................ 2,750,089 2,750,089
Mortgage-backed securities held for investment - market
value of $480,000 in 1999 and $1,454,000 in 1998................. 479,891 1,455,738
Loans, net of allowance for loan losses of $1,619,000
in 1999 and $1,845,000 in 1998................................... 225,456,363 192,667,763
Loans held for sale................................................ 1,917,470 4,486,271
Mortgage servicing rights.......................................... 2,134,703 831,197
Foreclosed properties, net......................................... 637,549 571,294
Accrued interest receivable........................................ 1,544,541 1,250,349
Excess of cost over net assets acquired............................ 51,147 97,692
Advances for taxes, insurance, and other........................... 2,478,734 1,572,225
Premises and equipment............................................. 3,254,975 3,183,577
Other assets....................................................... 3,437,883 2,661,487
------------ ------------
Total Assets.............................................. $259,530,352 $231,039,568
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES
Deposits:
Noninterest-bearing.............................................. $ 14,743,943 $ 16,791,063
Interest-bearing................................................. 190,899,981 170,841,193
------------ -----------
Total deposits................................................ 205,643,924 187,632,256
Federal Home Loan Bank advances.................................... 34,750,000 24,908,333
Capitalized lease obligations...................................... 212,057 268,123
Other liabilities.................................................. 2,345,395 2,395,768
------------ ------------
Total Liabilities......................................... 242,951,376 215,204,480
SHAREHOLDERS' EQUITY
Series B preferred stock, $6.67 stated value:
Authorized shares - 2,250,000
Issued and outstanding shares - 2,125,000........................ 14,173,750 14,173,750
Series C preferred stock, $6.67 stated value:
Authorized shares - 125,000
Issued and outstanding shares - 125,000.......................... 833,750 833,750
Common stock, $.01 par value:
Authorized shares - 20,000,000
Issued and outstanding shares - 1,060,642........................ 10,606 10,606
Capital in excess of par........................................... 8,687,770 8,687,772
Accumulated deficit................................................ (7,126,900) (7,870,790)
------------ ------------
Total Shareholders' Equity................................ 16,578,976 15,835,088
------------ ------------
Total Liabilities and Shareholders' Equity................ $259,530,352 $231,039,568
============ ============
See notes to consolidated financial statements.
3
ESSEX BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)
Three Months Nine Months
Ended September 30, Ended September 30,
------------------- -------------------
1999 1998 1999 1998
---- ---- ---- ----
INTEREST INCOME
Loans, including fees................................. $4,364,120 $3,735,039 $12,073,084 $10,843,295
Federal funds sold and securities purchased
under agreements to resell.......................... 18,298 24,504 51,033 92,215
Investment securities, including
dividend income..................................... 64,463 57,440 186,431 166,326
Mortgage-backed securities............................ 8,187 31,488 38,279 94,463
Other................................................. 115,940 104,487 317,559 238,821
---------- ---------- ----------- -----------
Total Interest Income........................ 4,571,008 3,952,958 12,666,386 11,435,120
INTEREST EXPENSE
Deposits ............................................. 2,460,468 2,167,654 7,059,864 6,220,323
Federal Home Loan Bank advances....................... 447,271 364,773 1,046,078 954,456
Notes payable......................................... - - - 792
Other................................................. 10,261 13,495 33,336 42,614
---------- ---------- ----------- -----------
Total Interest Expense....................... 2,918,000 2,545,922 8,139,278 7,218,185
---------- ---------- ----------- -----------
Net Interest Income.......................... 1,653,008 1,407,036 4,527,108 4,216,935
PROVISION FOR LOAN LOSSES................................. - - - -
---------- ---------- ----------- -----------
Net Interest Income After
Provision for Loan Losses.................... 1,653,008 1,407,036 4,527,108 4,216,935
NONINTEREST INCOME
Loan servicing fees................................... 408,955 330,919 1,167,571 893,516
Mortgage banking income, including
gain on sale of loans............................... 104,701 214,707 413,729 540,404
Other service charges and fees........................ 145,853 124,538 451,443 316,535
Other................................................. 97,074 95,132 287,211 186,525
---------- ---------- ----------- -----------
Total Noninterest Income..................... 756,583 765,296 2,319,954 1,936,980
See notes to consolidated financial statements.
4
ESSEX BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)
Three Months Nine Months
Ended September 30, Ended September 30,
------------------- -------------------
1999 1998 1999 1998
---- ---- ---- ----
NONINTEREST EXPENSE
Salaries and employee benefits........................ 1,036,888 915,553 3,030,120 2,499,519
Net occupancy and equipment........................... 233,705 249,617 677,937 728,855
Deposit insurance premiums............................ 149,513 123,265 435,740 367,069
Amortization of intangible assets..................... 138,995 112,019 418,941 379,470
Service bureau........................................ 153,863 146,058 445,517 370,072
Professional fees..................................... 61,066 76,710 199,640 229,910
Foreclosed properties, net............................ (3,619) 59,629 813 139,942
Other................................................. 364,044 331,144 1,248,879 1,045,287
---------- ---------- ---------- ----------
Total Noninterest Expense.................... 2,134,455 2,013,995 6,457,587 5,760,124
---------- ---------- ---------- ----------
Income Before Income Taxes................... 275,136 158,337 389,475 393,791
Provision for (BENEFIT from)
income taxes ............................................. (332,621) 29,526 (354,415) 29,526
---------- ---------- ---------- ----------
Net Income................................... $ 607,757 $ 128,811 $ 743,890 $ 364,265
========== ========== ========== ==========
Income (loss) available to common
shareholders (Note 2)............................... $ 116,913 $ (320,807) $ (703,658) $ (959,603)
========== ========== ========== ==========
Income (loss) per common share (Note 2):
Basic............................................... $ .11 $ (.30) $ (.66) $ (.91)
========== ========== ========== ==========
Diluted............................................. $ .02 $ (.30) $ (.66) $ (.91)
========== ========== ========== ==========
See notes to consolidated financial statements.
5
ESSEX BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY (unaudited)
For the nine months ended September 30, 1999
Series B Series C
Common Preferred Preferred Additional
Stock, $.01 Stock, $6.67 Stock, $6.67 Paid-in Accumulated
Par Value Stated Value Stated Value Capital Deficit Total
--------- ------------ ------------ ------- ------- -----
Balance at January 1, 1999................ $10,606 $14,173,750 $833,750 $8,687,772 $(7,870,790) $15,835,088
Fractional share pay-outs under
the Employee Stock Purchase
Plan................................... - - - (2) - (2)
Comprehensive net income.................. - - - - 743,890 743,890
------- ----------- -------- ---------- ----------- -----------
Balance at September 30, 1999............. $10,606 $14,173,750 $833,750 $8,687,770 $(7,126,900) $16,578,976
======= =========== ======== ========== =========== ===========
See notes to consolidated financial statements.
6
ESSEX BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)
Nine Months Ended September 30,
-------------------------------
1999 1998
---- ----
OPERATING ACTIVITIES
Net income (loss).................................................... $ 743,890 $ 364,265
Adjustments to reconcile net income (loss) to cash
provided by (used in) operating activities:
Provisions for:
Losses on loans, foreclosed properties and other.............. 26,121 107,195
Depreciation and amortization of premises
and equipment............................................. 259,287 284,468
Amortization (accretion) of:
Premiums and discounts on:
Loans................................................... 198,486 120,950
Mortgage-backed securities held to maturity............. 1,728 364
Securities held to maturity............................. - (584)
Mortgage servicing rights................................. 372,395 332,924
Excess of costs over equity in net assets
acquired................................................ 46,545 46,546
Mortgage banking activities:
Net decrease (increase) in loans originated for resale........ 2,932,231 (1,022,024)
Realized gains from sale of loans............................. (363,430) (482,865)
Realized gains from sales of:
Premises and equipment........................................ - (525)
Foreclosed properties......................................... (63,129) (23,933)
Changes in operating assets and liabilities:
Accrued interest receivable................................... (294,192) (87,727)
Advances for taxes, insurance and other....................... (924,509) (600,374)
Other assets.................................................. (776,396) (284,925)
Other liabilities............................................. (50,373) 443,808
------------- -------------
Net cash provided by (used in) operating activities.................. 2,108,654 (802,437)
INVESTING ACTIVITIES
Purchase of certificates of deposit in other
financial institutions........................................... - (4,000,000)
Proceeds from maturities of certificates of deposit in
other financial institutions..................................... - 4,000,000
Purchase of Federal Home Loan Bank stock............................. (373,400) (117,800)
Redemptions of Federal Home Loan Bank stock.......................... 184,700 -
Purchase of securities held to maturity.............................. - (11)
Purchase of securities available for sale............................ (671) (728)
Payments on mortgage-backed securities............................... 974,119 -
Purchases of loans................................................... (31,117,238) (19,864,239)
Net (increase) decrease net loans.................................... (2,178,138) 8,378,034
Proceeds from sales of foreclosed properties......................... 321,207 1,483,718
Increase in foreclosed properties.................................... (24,164) (61,344)
Purchase of mortgage servicing rights................................ (1,675,901) -
Purchase of premises and equipment................................... (330,685) (1,590,021)
Proceeds from sales of premises and equipment........................ - 525
------------- -------------
Net cash used in investing activities................................ (34,220,171) (11,771,866)
See notes to consolidated financial statements.
7
ESSEX BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)
Nine Months Ended September 30,
-------------------------------
1999 1998
---- ----
FINANCING ACTIVITIES
Net increase in NOW, money market and savings deposits............... 8,074,635 4,859,139
Net increase in certificates of deposit.............................. 9,937,033 16,300,164
Proceeds from Federal Home Loan Bank advances........................ 41,000,000 36,500,000
Repayment of Federal Home Loan Bank advances......................... (31,158,333) (40,317,500)
Payments on notes payable............................................ - (72,102)
Payments on capital lease obligations................................ (56,066) (46,787)
Common stock issued under Employee Stock Purchase
Plan, net of fractional share pay-outs............................ (2) 6,058
------------- -------------
Net cash provided by financing activities............................ 27,797,267 17,228,972
------------- -------------
(Decrease) increase in cash and cash equivalents..................... (4,314,250) 4,654,669
Cash and cash equivalents at beginning of period..................... 17,944,680 11,032,883
------------- -------------
Cash and cash equivalents at end of period........................... $ 13,630,430 $ 15,687,552
============= =============
NONCASH INVESTING AND FINANCING ACTIVITIES:
Real estate acquired in settlement of loans.......................... $ 308,290 $ 495,704
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid during the period for:
Interest......................................................... $ 8,046,213 $ 7,266,424
Net income taxes................................................. 3,000 -
See notes to consolidated financial statements.
8
ESSEX BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
September 30, 1999
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of Essex Bancorp,
Inc. and subsidiaries ("EBI") have been prepared in accordance with generally
accepted accounting principles for condensed interim financial statements and,
therefore, do not include all information required by generally accepted
accounting principles for complete financial statements. The notes included
herein should be read in conjunction with the notes to EBI's financial
statements for the year ended December 31, 1998 included in the EBI 1998 Annual
Report.
In the opinion of management, the accompanying unaudited financial statements
include all adjustments (including normal recurring entries) necessary for a
fair presentation of EBI's financial condition and interim results of
operations. The preparation of the financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect reported amounts of assets and liabilities and the
disclosures of contingent assets and liabilities at the date of the financial
statements and that affect the reported amounts of income and expenses during
the reporting period. Actual results could differ from those estimates.
NOTE 2 - EARNINGS PER SHARE
EBI calculates its basic and diluted earnings per share ("EPS") in accordance
with Statement of Financial Accounting Standards No. 128 - Earnings Per Share.
Accordingly, the components of EBI's EPS calculations for the three months and
nine months ended September 30 are as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
--------------------------- -----------------------------
1999 1998 1999 1998
---- ---- ---- ----
Net income $ 607,757 $ 128,811 $ 743,890 $ 364,265
Preferred stock dividends (490,844) (449,618) (1,447,548) (1,323,868)
-------- -------- ---------- ----------
Net income (loss) available
to common shareholders $ 116,913 $(320,807) $ (703,658) $ (959,603)
======== ======== ========== ==========
Weighted average common
shares outstanding:
Basic 1,060,642 1,059,219 1,060,642 1,058,631
Diluted 5,093,858 1,059,219 1,060,642 1,058,631
Income (loss) per common share:
Basic $.11 $(.30) $(.66) $(.91)
Diluted $.02 $(.30) $(.66) $(.91)
EBI's options and warrants (collectively, common stock equivalents) are
antidilutive with respect to loss available to common shareholders for the three
months ended September 30, 1998 and for the nine months ended September 30, 1999
and 1998; therefore, basic and diluted EPS are the same. EBI's common stock
equivalents are dilutive for the three months ended September 30, 1999 and
diluted income per share is computed under the treasury stock method.
9
NOTE 3 - SEGMENT INFORMATION
EBI adopted Statement of Financial Accounting Standards No. 131 - Disclosures
about Segments of an Enterprise and Related Information ("SFAS 131") for the
year ended December 31, 1998. SFAS 131 requires companies to report information
about the revenues derived from the enterprise's segments, about the
geographical divisions in which the enterprise earns revenues and holds assets
and about major customers. SFAS 131 further requires the disclosure of interim
period information after the initial year of application. Accordingly, the
following segment information for EBI for the three months and nine months ended
September 30, 1999 and 1998 is presented on the same basis and for the same
segments as those presented in EBI's 1998 Annual Report.
Retail Mortgage
Community Mortgage Loan Corporate/
Banking Banking Servicing Eliminations Total
------- ------- --------- ------------ -----
(in thousands)
As of and for the three months
ended September 30, 1999:
Customer revenues $ 908 $ 921 $ 574 $ 7 $ 2,410
Affiliate revenues - 80 118 (198) -
Depreciation and
amortization 28 14 20 26 88
Pre-tax income (loss) 124 548 137 (534) 275
Total assets 217,538 37,130 7,198 (2,336) 259,530
As of and for the three months
ended September 30, 1998:
Customer revenues $ 971 $ 739 $ 459 $ 4 $ 2,173
Affiliate revenues - 117 109 (226) -
Depreciation and
amortization 24 16 20 32 92
Pre-tax income (loss) 248 421 87 (597) 159
Total assets 190,119 21,859 8,058 (6,911) 213,125
As of and for the nine months
ended September 30, 1999:
Customer revenues $ 2,710 $ 2,413 $1,673 $ 51 $ 6,847
Affiliate revenues - 319 355 (674) -
Depreciation and
amortization 81 42 59 77 259
Pre-tax income (loss) 312 1,373 288 (1,584) 389
Total assets 217,538 37,130 7,198 (2,336) 259,530
As of and for the nine months
ended September 30, 1998:
Customer revenues $ 3,037 $ 1,948 $1,122 $ 47 $ 6,154
Affiliate revenues - 343 296 (639) -
Depreciation and
amortization 65 57 62 100 284
Pre-tax income (loss) 844 1,128 119 (1,697) 394
Total assets 190,119 21,859 8,058 (6,911) 213,125
Customer revenues consist of (i) net interest income, which represents the
difference between interest earned on loans and investments and interest paid on
deposits and other borrowings and (ii) noninterest income, which consists
primarily of mortgage loan servicing fees, mortgage banking income (primarily
gains on the sale of loans), and service charges and fees (primarily on deposits
and the loan servicing portfolio).
10
NOTE 4 - ACCOUNTING FOR DERIVATIVES
On June 15, 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133 - Accounting for Derivative Instruments
and Hedging Activities ("SFAS 133"). SFAS 133 is effective for all fiscal
quarters of all fiscal years beginning after June 15, 2000 (January 1, 2001 for
EBI). SFAS 133 requires that all derivative instruments be recorded on the
balance sheet at their fair value. Changes in the fair value of derivatives are
recorded each period in current earnings or other comprehensive income,
depending on whether a derivative is designated as part of a hedge transaction
and, if it is, the type of hedge transaction. EBI's management anticipates that,
due to its limited use of derivative instruments, the adoption of SFAS 133 will
not have a significant effect on EBI's results of operations or its financial
position.
[intentionally blank]
11
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Financial Condition
Total assets of Essex Bancorp, Inc. ("EBI") at September 30, 1999 were
$259.5 million as compared to $231.0 million at December 31, 1998, an increase
of approximately $28.5 million or 12.3%. The predominant factor contributing to
the increase in total assets was the growth in loans held for investment, the
comparative composition of which is presented below.
September 30, December 31,
1999 1998
---- ----
Real estate:
First mortgages $165,669 $151,890
Second mortgages 10,658 7,462
Construction and development 34,811 19,447
Commercial 4,916 6,470
Consumer 7,684 5,959
Commercial - other 2,004 1,601
Secured by deposits 418 621
-------- --------
Total Loans 226,160 193,450
Net premiums, deferred and unearned
loan fees and discounts 915 1,063
Allowance for loan losses (1,619) (1,845)
-------- --------
Net Loans $225,456 $192,668
======= =======
The increase in construction loans, second mortgages and consumer loans
was strategically designed to further enable EBI to reposition its balance sheet
in order to improve its net interest margin over the long-term partially through
higher-yielding and adjustable-rate assets. The increase in loans resulted
primarily from $23.9 million of secondary market purchases of residential first
mortgage loans. EBI experienced significant accelerated prepayments, primarily
during the first half of 1999, in its first mortgage loan portfolio as a result
of the lower interest rate environment. The increase in net loans was funded
through a partial utilization of EBI's excess liquidity coupled with deposit
growth and an increase in borrowings from the Federal Home Loan Bank ("FHLB").
Deposits, the primary source of EBI's funds, totaled $205.6 million at
September 30, 1999 as compared to $187.6 million at December 31, 1998, an
increase of $18.0 million or 9.6%. An increase in interest-bearing deposits,
primarily in money market accounts and certificates of deposit, was partially
offset by a decrease in noninterest-bearing deposits resulting from fluctuations
in escrow accounts maintained by Essex Home Mortgage Servicing Corporation
("Essex Home") at Essex Savings Bank, F.S.B. (the "Bank"). The increase in
interest-bearing deposits occurred primarily at EBI's Suffolk, Virginia retail
banking branch, which was relocated from a leased facility to a
newly-constructed Bank-owned branch in April 1998, and at EBI's Richmond,
Virginia retail banking branch.
Results of Operations
First Nine Months of 1999 Compared to First Nine Months of 1998
EBI's net income for the nine months ended September 30, 1999 totaled
$744,000, compared to net income of $364,000 for the nine months ended September
30, 1998. EBI's 1999 net income included a $500,000 tax benefit resulting from
the recognition of a deferred tax asset for a portion of EBI's net operating tax
12
loss ("NOL") carryforwards, the benefit of which was partially offset by a
current tax provision for benefits recognized in 1998. EBI's pre-tax earnings
declined slightly from $394,000 for the first nine months of 1998 to $389,000
for the first nine months of 1999. EBI's comparative results reflected increases
in (i) net interest income resulting from an increase in interest-earning
assets, the benefit of which was partially offset by the impact of net interest
margin compression as evidenced by a decline in net interest yield, (ii) loan
servicing fees resulting from a 63 percent increase since the third quarter of
1998 in the size of Essex Home's nonaffiliate mortgage loan servicing portfolio,
(iii) other noninterest income resulting from service charges and fees on the
higher servicing volume at Essex Home and (iv) noninterest expenses associated
with the increase in EBI's loan servicing volumes and deposit levels, as well as
the impact of technology enhancements on telecommunications expense. EBI's 1999
results also reflected a decline in residential loan originations as interest
rates have begun to rise.
Net Interest Income. The table below presents average balances for
interest-earning assets and interest-bearing liabilities, as well as related
weighted average yields earned and rates paid for the nine months ended
September 30:
1999 1998
-------------------------------- -------------------------------
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
------- -------- ---- ------- -------- ----
(dollars in thousands)
Interest-earning assets:
Loans (1)...................... $209,671 $12,073 7.68% $175,515 $10,843 8.24%
Investment securities.......... 4,434 186 5.61 3,788 166 5.85
Mortgage-backed
securities................. 903 38 5.65 1,905 95 6.61
Federal funds sold and
securities purchased under
agreements to resell......... 1,414 51 4.81 2,247 92 5.47
Other.......................... 8,727 318 4.85 5,829 239 5.46
-------- ------- ------- -------
Total interest-earning
assets.................... $225,149 12,666 7.50 $189,284 11,435 8.06
======= =======
Interest-bearing liabilities:
Deposits....................... $181,056 7,060 5.21 $153,596 6,220 5.41
FHLB advances.................. 25,577 1,046 5.47 22,378 954 5.70
Notes payable.................. - - - 11 1 9.32
Other.......................... 240 33 18.56 311 43 18.33
-------- ------- ------- -------
Total interest-bearing
liabilities............... $206,873 8,139 5.26 $176,296 7,218 5.47
======= ------- ======= -------
Net interest earnings............ $ 4,527 $ 4,217
====== ======
Net interest spread............... 2.24% 2.59%
==== ====
Net yield on interest-earning
assets......................... 2.68% 2.97%
==== ====
(1) Nonaccrual loans are included in the average balance of loans.
13
The table below sets forth certain information regarding changes in
EBI's interest income and interest expense between the periods indicated.
Increase (Decrease) From the First Nine Months
of 1998 to the First Nine Months of 1999 Due to
-----------------------------------------------
Volume (1) Rate (1) Net
------ ---- ---
(in thousands)
Interest income on:
Loans (2)................................ $1,640 $(410) $1,230
Investment securities.................... 24 (4) 20
Mortgage-backed securities............... (44) (13) (57)
Federal funds sold and
securities purchased under
agreements to resell.................. (31) (10) (41)
Other interest-earning assets............ 93 (14) 79
------- ----- -------
Total interest income (2)............. 1,682 (451) 1,231
Interest expense on:
Deposits................................. 951 (111) 840
FHLB advances............................ 112 (20) 92
Notes payable............................ (1) - (1)
Other interest-bearing liabilities....... (9) (1) (10)
------- ------ ------
Total interest expense................ 1,053 (132) 921
------- ------ ------
Net interest income................... $ 629 $(319) $ 310
====== ==== ======
(1) Changes attributable to the combined impact of volume and rate have
been allocated proportionately to changes due to volume and changes
due to rate.
(2) Interest income includes the amortization of premiums and the
amortization of net deferred loan origination costs.
Net interest income increased from $4.2 million for the first nine
months of 1998 to $4.5 million for the first nine months of 1999, which
reflected the favorable impact of the increase in the ratio of average
interest-earning assets to average interest-bearing liabilities. However, there
was a decline in the net interest spread because the lower interest rate
environment in 1999 continued to result in significant refinancings to lower
fixed rate loans. Typically, declining interest rates favorably impact EBI's
earnings due to the repricing of deposits with shorter maturities as compared to
interest-earning assets, predominantly loans, which have either fixed interest
rates or interest rates that adjust over longer periods. However, in an extended
period of lower interest rates, like the present period, EBI can expect an
increase in the volume of refinancings to lower fixed-rate loans. EBI continues
to emphasize investment in adjustable-rate loan portfolios, but customer demand
has shifted to lower fixed-rate loans. Accordingly, within the residential loan
product line offered by the Bank, the percentage of balloon payment and
adjustable-rate loans with longer initial adjustment terms has increased. While
EBI will continue to emphasize the origination and secondary market purchase of
residential first mortgage loans, it is expanding its loan growth focus to
construction and consumer-type loans, which are generally higher-yielding and
more interest-rate-sensitive than residential loans.
Provision for Loan Losses. Changes in the allowance for loan losses for
the nine months ended September 30 are as follows (in thousands):
1999 1998
---- ----
Balance at beginning of period................... $1,845 $2,382
Provision for loan losses........................ - -
------ ------
1,845 2,382
Loans charged-off, net of recoveries............. (226) (568)
------ ------
Balance at end of period......................... $1,619 $1,814
===== =====
14
Management reviews the adequacy of the allowance for loan losses on a
continual basis to ensure that amounts provided are reasonable. At September 30,
1999, nonperforming assets as a percentage of total assets was .58% as compared
to .79% at December 31, 1998. In addition, nonperforming assets totaled $1.5
million at September 30, 1999 as compared to $1.8 million at December 31, 1998.
Loan loss reserve coverage, expressed as the ratio of the allowance for loan
losses to nonperforming loans, increased from 145.97% as of December 31, 1998 to
184.19% as of September 30, 1999. Based on these favorable trends in
nonperforming assets and the coverage of loan loss reserves, management
considered the loan loss allowance sufficient to absorb losses and did not
provide for additional losses during the first nine months of 1999.
Noninterest Income. Noninterest income for the first nine months of
1999 totaled $2.3 million, a $383,000 or 19.8% increase over $1.9 million for
the first nine months of 1998. This increase was primarily attributable to
increases of $274,000 in loan servicing fees, $135,000 in other service charges
and fees and $101,000 in other noninterest income resulting primarily from the
increase in Essex Home's nonaffiliate mortgage loan servicing portfolio from
11,300 loans totaling $964.0 million as of September 30, 1998 to 16,200 loans
totaling $1.6 billion as of September 30 1999. These increases were partially
offset by a $127,000 decline in mortgage banking income, which occurred
primarily in the third quarter of 1999 as the volume of originations of
residential mortgage loans to be sold in the secondary market diminished because
of rising interest rates.
Noninterest Expense. Noninterest expense for the first nine months of
1999 totaled $6.5 million, a $697,000 or 12.1% increase over $5.8 million for
the first nine months of 1998. This increase was primarily attributable to
increases of (i) $531,000 in salaries and employee benefits because of the
increase in full-time-equivalent employees from 97 at January 1, 1998 to 121 at
September 30, 1999, the majority of which occurred at Essex Home in connection
with the growth in servicing volume, (ii) $69,000 in deposit insurance premiums
because of the growth in deposit balances on which the premiums are based, (iii)
$39,000 in amortization of intangible assets resulting from acquisitions of
mortgage servicing rights ("MSRs") in 1999, which was partially offset by the
benefit of reductions in MSR valuation allowances, (iv) $75,000 in service
bureau expense resulting predominantly from the higher loan servicing volume and
(v) $204,000 in other noninterest expense, the significant components of which
are presented below.
Nine Months Ended September 30,
------------------------------- Increase
1999 1998 (Decrease)
---- ---- ----------
Loan expense............................ $ 200,997 $ 136,523 $ 64,474
Telephone............................... 291,710 154,065 137,645
Postage and courier..................... 162,377 133,978 28,399
Stationery and supplies................. 108,649 82,663 25,986
Advertising and marketing............... 118,823 146,776 (27,953)
Corporate insurance..................... 61,215 75,362 (14,147)
Travel.................................. 40,633 52,709 (12,076)
Franchise and other taxes............... 81,350 36,494 44,856
Bank charges............................ 13,205 49,857 (36,652)
Year 2000 compliance.................... 7,367 31,866 (24,499)
Other................................... 162,553 144,994 17,559
---------- ---------- --------
$1,248,879 $1,045,287 $203,592
========= ========= =======
The increases in noninterest expense were partially offset by decreases
of (i) $51,000 in net occupancy and equipment expense resulting from lower
facilities rent because of the acquisition of the previously-leased retail
banking and mortgage loan production branch in Richmond, Virginia as well as
lower depreciation expense, which will increase in future periods because of
EBI's investment in technology enhancements such as the implementation of a wide
area network and (ii) $139,000 in foreclosed properties expense resulting from
lower provisions for losses and net gains on disposals in 1999.
15
Income Taxes. EBI's net income for the first nine months of 1999
included a $500,000 tax benefit resulting from the recognition of a deferred tax
asset for a portion of EBI's NOL carryforwards, the benefit of which was
partially offset by a current year tax provision. The recognition of the NOL
benefit was attributable to EBI's current projection of core profitability
improvements for the year 2000.
Third Quarter of 1999 Compared to Third Quarter of 1998
EBI's net income for the three months ended September 30, 1999 totaled
$608,000, compared to net income of $129,000 for the three months ended
September 30, 1998. Factors contributing to the third quarter increase in 1999
parallel the factors described in the nine-month comparison, except that on a
pre-tax basis EBI's earnings increased from $158,000 for the third quarter of
1998 to $275,000 for the third quarter of 1999.
Net Interest Income. The table below presents weighted average balances
for interest-earning assets and interest-bearing liabilities, as well as related
average yields earned and rates paid for the three months ended September 30:
1999 1998
-------------------------------- -------------------------------
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
------- -------- ---- ------- -------- ----
(dollars in thousands)
Interest-earning assets:
Loans (1)...................... $225,083 $4,364 7.76% $182,067 $3,735 8.21%
Investment securities.......... 4,543 65 5.68 3,866 57 5.94
Mortgage-backed
securities................. 573 8 5.72 1,905 32 6.61
Federal funds sold and
securities purchased under
agreements to resell......... 1,439 18 5.09 1,776 25 5.52
Other.......................... 9,043 116 5.13 7,602 104 5.50
-------- ------- ------- -------
Total interest-earning
assets.................... $240,681 4,571 7.60 $197,216 3,953 8.02
======= =======
Interest-bearing liabilities:
Deposits....................... $190,037 2,461 5.14 $159,477 2,168 5.39
FHLB advances.................. 33,044 447 5.37 25,278 365 5.73
Other.......................... 222 10 18.36 295 13 18.15
-------- ------- ------- -------
Total interest-bearing
liabilities............... $223,303 2,918 5.24 $185,050 2,546 5.45
======= ----- ======= -----
Net interest earnings............. $1,653 $1,407
===== =====
Net interest spread............... 2.36% 2.57%
==== ====
Net yield on interest-earning
assets......................... 2.75% 2.86%
==== ====
(1) Nonaccrual loans are included in the average balance of loans.
16
The table below sets forth certain information regarding changes in
EBI's interest income and interest expense between the periods indicated.
Increase (Decrease) From the Third Quarter of
1998 to the Third Quarter of 1999 Due to
----------------------------------------
Volume (1) Rate (1) Net
------ ---- ---
(in thousands)
Interest income on:
Loans (2)................................ $843 $(214) $629
Investment securities.................... 10 (2) 8
Mortgage-backed securities............... (20) (4) (24)
Federal funds sold and
securities purchased under
agreements to resell.................. (4) (3) (7)
Other interest-earning assets............ 19 (7) 12
---- ----- ----
Total interest income (2) 848 (230) 618
Interest expense on:
Deposits................................. 398 (105) 293
FHLB advances............................ 106 (24) 82
Other interest-bearing liabilities....... (3) - (3)
---- ----- ----
Total interest expense................ 501 (129) 372
---- ----- ----
Net interest income................... $347 $(101) $246
=== ==== ===
(1) Changes attributable to the combined impact of volume and rate have
been allocated proportionately to changes due to volume and changes
due to rate.
(2) Interest income includes the amortization of premiums and the
amortization of net deferred loan origination costs.
Net interest income increased from $1.4 million for the third quarter
of 1998 to $1.7 million for the third quarter of 1999, primarily as a result of
the increase in the ratio of average interest-earning assets to average
interest-bearing liabilities. However, there was a decline in the net interest
spread resulting from a 45 basis point decrease in yield on loans. This decline
reflected the impact of the continuing lower interest rate environment in 1999
on the volume of refinancings to lower fixed rate loans.
Provision for Loan Losses. Changes in the allowance for loan losses for
the three months ended September 30 are as follows (in thousands):
1999 1998
---- ----
Balance at beginning of period................... $1,696 $2,064
Provision for loan losses........................ - -
------ ------
1,696 2,064
Loans charged-off, net of recoveries............. (77) (250)
------ ------
Balance at end of period......................... $1,619 $1,814
===== =====
As previously described, based on the improving trends in nonperforming
assets and the coverage of general loss reserves, management determined that a
provision for loan losses was not necessary during the third quarter of 1999 in
order to maintain the loan loss reserves at adequate levels to absorb losses.
Noninterest Income. Noninterest income for the third quarter of 1999
totaled $757,000 as compared to $765,000 for the third quarter of 1998. EBI's
1999 quarterly results reflect a $110,000 decrease in mortgage banking income
resulting from a decline in the volume of originations of residential mortgage
loans to be sold in the secondary market as interest rates have begun to rise.
This decline was substantially offset by increases of $78,000 in loan servicing
fees and $21,000 in other service charges and fees resulting primarily from
Essex Home's 63 percent increase in its nonaffiliate mortgage loan servicing
portfolio since the third quarter of 1998.
17
Noninterest Expense. Noninterest expense for the third quarter of 1999
totaled $2.1 million, a $120,000 or 6.0% increase over $2.0 million for the
third quarter of 1998. The trends in the components of noninterest expense
parallel those described in the nine-month comparison.
Year 2000 Readiness
- -------------------
As previously reported, EBI has established a company-wide task force
to assess and remediate business risks associated with the Year 2000. This task
force has developed and implemented a seven-phase Year 2000 plan consisting of
the following components:
o Awareness - communication of the Year 2000 issue throughout EBI, including
EBI's board of directors and senior management;
o Assessment - development of inventories and analysis and evaluation of
hardware, software, services, forms, agencies and business partnerships and
the assignment of rankings of business risk (the highest being
"mission-critical") associated with each;
o Planning - development of comprehensive strategies and timelines for
correcting non-compliant items, testing and documenting results,
implementing and migrating enhancements and monitoring implementation
results;
o Renovation - implementation of the required software and hardware changes,
systems and interface modifications and conversions to replacement systems;
o Validation - completion of formal unit, system and integration testing and
documentation of results;
o Implementation - integration of all corrected and validated items into the
production environment; and
o Post-Implementation - monitoring implementation results and responding to
situations that invalidate corrections as implemented.
EBI has completed all phases of its Year 2000 readiness plan through
the implementation phase for all mission-critical internal and external systems
and operations. Because EBI outsources substantially all of its data processing
for loans, deposits and loan servicing, a significant component of the Year 2000
plan entailed working with external vendors to test and certify their systems as
Year 2000 compliant. Concurrently with the readiness measures described above,
EBI has developed contingency plans intended to mitigate the possible disruption
in business operations that may result from the Year 2000 issue. As part of
these plans, EBI has already initiated its Year 2000 event management program,
which provides for (i) intensified customer awareness efforts in order to assure
our depositors of the safety of their deposits and to offer advice on minimizing
their risk of exposure to con artists and criminals, (ii) implementation of
EBI's Year 2000 liquidity management plan in anticipation of stronger customer
demand for cash as the rollover to Year 2000 approaches and (iii) implementation
of enhanced procedures for additional database and application backups prior to
the century date change, verification of functionality at each of EBI's sites
immediately following the century date change and verification of the integrity
of data processed after the century date change.
18
The total cost of the Year 2000 project (including the capitalized cost
of new hardware and software approximating $280,000) is estimated to be $350,000
and is being funded through operating cash flows. This estimate does not include
any costs associated with the implementation of contingency plans for which
testing was completed in the third quarter of 1999. Capitalized costs are
associated with technology changes that will enhance EBI's ability to provide
competitive services. During the first nine months of 1999, EBI recognized
$7,400 of expense associated with this project, which brings the total expense
incurred by EBI since beginning this project to $56,000. This amount does not
include the implicit costs associated with the reallocation of internal staff
hours to the Year 2000 project. Management believes EBI can incur Year 2000
project costs without adversely affecting future operating results. However,
because of the complexity of the issue and possible unidentified risks, actual
costs may vary from the estimate. Furthermore, the Year 2000 compliance status
of integral third party suppliers and networks, which could adversely impact
EBI's mission critical applications, cannot be fully known even though EBI
monitors their Year 2000 readiness disclosures and solicits validation of their
renovations. As a result, EBI is unable to determine the impact that any system
interruption would have on its results of operations, financial position and
cash flows. Such impact could be material. Further, an inability of EBI's
integral third party suppliers and networks to reach substantial Year 2000
compliance could result in interruption of telecommunications services,
interruption or failure of EBI's ability to service customers, failure of
operating and other information systems and failure of certain date-sensitive
equipment. Such failures could result in loss of revenue due to service
interruption, delays in EBI's ability to service its customers accurately and
timely and increased expenses associated with stabilization of operations
following such failures or execution of contingency plans.
Liquidity
- ---------
The Office of Thrift Supervision ("OTS") has established minimum
liquidity requirements for savings associations. These regulations provide, in
part, that members of the FHLB system maintain daily average balances of liquid
assets equal to a certain percentage of net withdrawable deposits plus current
borrowings. Current regulations require a liquidity level of at least 4%. The
Bank has consistently exceeded such regulatory liquidity requirement and, at
September 30, 1999, had a liquidity ratio of 7.81%.
Regulatory Matters
- ------------------
Regulatory Capital. The Bank is required pursuant to the Financial
Institutions Reform, Recovery and Enforcement Act of 1989 ("FIRREA") and OTS
regulations promulgated thereunder to satisfy three separate requirements of
specified capital as a percent of the appropriate asset base. At September 30,
1999, the Bank was in compliance with the capital requirements established by
FIRREA.
Section 38 of the Federal Deposit Insurance Act, as added by the FDIC
Improvement Act ("FDICIA"), requires each appropriate agency and the Federal
Deposit Insurance Corporation to, among other things, take prompt corrective
action ("PCA") to resolve the problems of insured depository institutions that
fall below certain capital ratios. Federal regulations under FDICIA classify
savings institutions based on four separate requirements of specified capital as
a percent of the appropriate asset base. As of September 30, 1999, the Bank was
"well capitalized" for PCA purposes.
19
The Bank's capital amounts and ratios as of September 30, 1999 are
presented below (in thousands):
To Be Well
For Capital Capitalized Under
Actual Adequacy Purposes PCA Provisions
------------------ -------------------- --------------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
Total capital (to
risk-weighted assets) $17,925 11.78% $12,182 8.0% $15,227 =>10.0%
Tier I capital (to
risk-weighted assets) 16,987 11.16% 6,091 4.0% 9,136 =>6.0%
Tier I capital (to
total assets) 16,987 6.53% 10,411 4.0% 13,014 =>5.0%
Tangible capital (to
total assets) 16,987 6.53% 3,904 1.5% - -
Item 3. Quantitative and Qualitative Disclosures About Market Risk
As described in EBI's 1998 Annual Report, the Bank utilizes an interest
rate risk ("IRR") model developed by the OTS to measure the changes in the
Bank's net portfolio value ("NPV"), which is the difference between incoming and
outgoing discounted cash flows from assets, liabilities and off-balance-sheet
commitments. The IRR model is updated quarterly using financial information
provided by the Bank along with assumptions based upon the current interest rate
environment and economic conditions.
As interest rates have increased during 1999, particularly long-term
rates, modeling assumptions of mortgage prepayment rates have decreased
resulting in increased duration of incoming cash flows from mortgage assets.
Additionally, the Bank's management believes that current interest rates reflect
a year 2000 liquidity premium which will deteriorate early next year resulting
in a lower cost of funding balance sheet growth. With this in mind, the Bank has
funded much of its balance sheet growth with short-term advances from the FHLB.
One result of these factors has been an increase in the Bank's IRR. Management
believes that this increase will not differ significantly from industry averages
because the cause of the change is systemic and much of the Bank's balance sheet
growth has been by means of increased investment in prime-rate based and
adjustable-rate assets.
20
PART II. OTHER INFORMATION
Item 1. Legal Proceedings -- Not Applicable
Item 2. Changes in Securities -- Not Applicable
Item 3. Defaults Upon Senior Securities -- Not Applicable
Item 4. Submission of Matters to a Vote of Security Holders -- Not Applicable
Item 5. Other Information -- Not Applicable
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits -- The following exhibits are filed as part of this
Part II:
Exhibit No. Description
----------- -----------
27 Financial Data Schedule
(b) Reports on Form 8-K -- Not Applicable
[intentionally blank]
21
SIGNATURE
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.
Essex Bancorp, Inc.
November 10, 1999 By: /s/ Gene D. Ross
----------------- ------------------
(Date) Gene D. Ross
Chairman, President,
and Chief Executive
Officer
November 10, 1999 By: /s/ Mary-Jo Rawson
----------------- --------------------
(Date) Mary-Jo Rawson
Chief Accounting Officer
22