SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549-1004
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1997 Commission File Number 33-27139
FEDERAL TRUST CORPORATION
(Exact name of registrant is specified in its charter)
Florida 59-2935028
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1211 Orange Avenue
Winter Park, Florida 32789
(Address of principal (Zip Code)
executive office)
Registrant's telephone number, including area code: (407) 645-1201
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: None
The Registrant's voting common stock is not regularly or actively traded on any
established market and there are no regularly quoted bid and asked price for the
registrant's voting common stock. The number of shares of Common Stock
outstanding as of March 1, 1998 was 4,941,547. The number of shares of the
voting common stock held by non-affiliates of the registrant was 4,712,700.
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 and (2) has been subject to such filing requirements for
the past 90 days. YES X NO
DOCUMENTS INCORPORATED BY REFERENCE:
NONE
PART I
ITEM 1. BUSINESS
General
Federal Trust Corporation ("Federal Trust" or the "Company" or the "Holding
Company") was organized in February 1989 for the purpose of becoming the unitary
savings and loan holding company of Federal Trust Bank (the "Bank"), a federally
chartered stock savings bank then headquartered in Amelia Island, Florida.
Federal Trust's and the Bank's headquarters are currently located in Winter
Park, Florida. Federal Trust is currently conducting business as a unitary
savings and loan holding company, and its principal asset is all of the capital
stock of the Bank. As a unitary holding company, Federal Trust has greater
flexibility than the Bank to diversify and expand its business activities,
either through newly formed subsidiaries or through acquisitions.
Federal Trust's primary investment is the ownership of the Bank. The Bank is
chartered as a federal stock savings bank and is primarily engaged in the
business of obtaining funds in the form of deposits and Federal Home Loan Bank
("FHLB") advances and investing such funds in permanent loans on residential and
to a lesser extent commercial real estate primarily in Florida, in various types
of construction and other loans and in investment securities. The Holding
Company had been operating two non-bank subsidiaries, Federal Trust Properties
Corp. ("FTPC") , a real estate holding and development company, organized
December 12, 1994, which owned two office buildings in Amelia Island, Florida
until December, 1995 and a residential site in Augusta, Georgia; and 1270
Leasing Co. ("1270 LC"), a real estate leasing entity organized May 27, 1994,
which leased the Holding Company's office located in Winter Park, Florida. On
July 1, 1996, the Company sold FTPC to an unaffiliated third party and is
renting the office space previously occupied by the Company to FTPC. On
September 26, 1996, the company dissolved 1270 Leasing Co.
The Federal Deposit Insurance Corporation ("FDIC"), an agency of the United
States Government, insures through the Savings Association Insurance Fund
("SAIF"), all depositors of the Bank up to $100,000 in accordance with the rules
and regulations of the FDIC. The Bank is subject to comprehensive regulation,
examination and supervision by the Office of Thrift Supervision ("OTS") and the
FDIC, which is intended primarily for the benefit of depositors. See
"Regulation" and "Management's Discussion and Analysis of Financial Condition
and Results of Operations."
Federal Trust is a legal entity separate from the Bank. The principal sources of
Federal Trust's revenues on an unconsolidated basis are earnings on its
investments and dividends from the Bank. Various regulatory restrictions and tax
considerations limit directly or indirectly the amount of dividends the Bank can
pay to Federal Trust. Currently no dividends can be paid to Federal Trust by the
Bank without the specific approval of the OTS. In addition, federal law
restricts the Bank in the making of investments in or loans to Federal Trust or
its affiliates. See "Regulation."
Federal Trust's executive offices are located at 1211 Orange Avenue, Winter
Park, Florida 32789 and its telephone number is (407) 645-1201. As used herein,
references to "Federal Trust and the Bank" may include Federal Trust and its
consolidated subsidiaries (the Bank) unless the context otherwise indicates.
The Bank is primarily engaged in the bulk purchase of loans and other assets,
the origination of one-to-four family residential mortgage loans, residential
construction loans, multi-family loans, commercial real estate loans, SBA loans,
land acquisition and development loans, as well as consumer loans. The Bank
originates loans within its market area, defined generally as the state of
Florida and well known out of state regions. The Bank also invests in U.S.
Government securities, federal funds and other debt securities as well as
mortgage-backed securities as appropriate. Funding for these activities is
primarily from customer deposits, FHLB advances and other borrowings as well as
normal amortization and prepayments from its loan portfolio.
Traditional thrift institutions are changing rapidly. Consumer-oriented services
historically provided by banks are now offered by thrift institutions. The
Bank's current operating strategy focuses on banking strategies which include
loan origination, bulk loan/asset purchases and core deposit generation in its
local community. Variable rate, short-term
2
loans and adjustable rate loans are offered to help the Bank manage its interest
rate spreads. Also, the Bank enhances its profitability by attracting deposits
without a network of branch offices thus gaining increased operating efficiency.
The mortgage lending emphasis is on bulk loan purchases, as well as, the
origination of residential loans in its market area. Management intends, to the
extent possible, to control interest rates paid on deposits; however, outside
factors such as economic, environmental, competitive and liquidity needs will
have an effect on the cost of deposits. The Bank's principal sources of earnings
are currently interest on real estate mortgage loans, investments, and overnight
deposits, fees on checking accounts and sales of loans. Its principal expenses
are interest paid on deposits, FHLB advances and operating expenses.
Market Area and Competition
The Company and the Bank are located in Winter Park, a city of 24,000 residents,
located approximately 7 miles northeast of downtown Orlando. Winter Park is in
the heart of the greater metropolitan Orlando area which encompasses Orange,
Seminole, Lake, and Osceola counties in central Florida. The total population of
the four county area is estimated at 1.475 million, with the majority in Orange
and Seminole counties. The bank's primary market area is northeast Orange county
and southwest Seminole county, although its customers come from the entire four
county area. Although best known as a tourist destination, with over 20 million
visitors a year, the area has become a center for industries such as aerospace
and defense, electro-optics and lasers, computer simulated training, computer
networking and data management. In addition, motion picture production,
professional and amateur sports, and distribution make the local economy more
diverse each year. Many companies, including some in the Fortune 500, have
chosen the Orlando area as a base for corporate, regional, and divisional
headquarters. The area is also home to the University of Central Florida with an
enrollment of 26,000, one of the fastest growing schools in the state university
system, as well as Valencia Community College and Seminole Community College
whose combined enrollment exceeds 90,000. Winter Park is home to Rollins
College, the oldest college in Florida founded in 1885. According to The Orlando
Sentinel newspaper, the greater metropolitan Orlando area is projected to be one
of the fastest growing areas in the United States through the year 2000.
The Bank experiences substantial competition in attracting and retaining
deposits and in lending funds. The primary factor in competing for deposits is
interest rates. Direct competition for deposits comes from other thrift
institutions and commercial banks. Additional significant competition for
deposits comes from corporate and government securities and money market funds.
The primary factors in competing for loans are interest rates and loan
origination points. The Bank is currently competing aggressively, due to the
current level of interest rates, for the origination of construction and
permanent residential mortgage loans. Competition for origination of real estate
loans normally comes from other thrift institutions, commercial banks, mortgage
bankers, insurance companies and real estate investment trusts.
In addition to competition from other thrifts, the Bank faces significant
competition from other financial services organizations. Commercial banks
continue to compete for loans and deposits, while finance companies and credit
unions compete in the important areas of consumer lending and deposit gathering.
Additionally, nontraditional financial service providers such as brokerages,
mutual funds and insurance companies have intensified competition for savings
and investment dollars in recent years.
Consolidation within the banking industry, and in particular within Florida, has
been dramatic. As of September 30, 1997, the four largest banking institutions
in the state controlled approximately 67% of the bank deposits. In 1980, the
four largest controlled less than 33% of the deposits.
Geographic deregulation also has had a material impact on the banking industry.
Recent legislation in Florida and on the national level will remove most of the
final barriers to interstate banking. Under Florida Law, bank holding companies
are permitted to acquire existing banks across state lines. As of June 1, 1997,
a bank holding company may now consolidate its interstate subsidiary banks into
branches and merge with a bank in another state, depending on state laws.
Risk Factors
Readers should note, in particular, that this document contains forward-looking
statements within the meaning of
3
Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange
Act"), that involve substantial risks and uncertainties. When used in this
document, or in the documents incorporated by reference herein, the words
"anticipate", "believe", "estimate", "may", "intend" and "expect" and similar
expressions identify certain of such forward-looking statements. Actual results,
performance or achievements could differ materially from those contemplated,
expressed or implied by the forward-looking statements contained herein. The
considerations listed herein represent certain important factors the Company
believes could cause such results to differ. These considerations are not
intended to represent a complete list of the general or specific risks that may
affect the Company. It should be recognized that other risks, including general
economic factors and expansion strategies, may be significant, presently or in
the future, and the risks set forth herein may affect the Company to a greater
extent than indicated.
Lending Activities
General. The primary lending activity of the Company is the acquisition and, to
a more limited extent, the origination of conventional loans for the purchase or
construction of residential real property, which loans are secured by first
liens on such property. Conventional loans are loans which are not insured by
the Federal Housing Administration ("FHA") or partially guaranteed by the
Veterans Administration ("VA"). Within this category, the largest portion of the
Company's loans are made to homeowners on the security of single-family
dwellings. The Company has also, to a lesser extent, made commercial real estate
and consumer loans. The Company also makes SBA loans secured by real estate.
Loan Portfolio Composition. The Company's net loan portfolio, which is total
loans plus premiums paid for loans purchased less loans in process, unearned
discounts and loan origination fees and allowance for loan losses, totaled
$121.9 million at December 31, 1997, representing 85.5% of total assets at such
date. At December 31, 1996, the Company's total loan portfolio, net (excluding
mortgage-backed securities) amounted to $112.5 million.
Residential mortgage loans comprise the largest group of loans in the Company's
loan portfolio, amounting to $109.1 million or 88.1% of the total loan portfolio
at December 31, 1997, of which approximately 98.7% are first mortgage loans and
includes $3.2 million in loans for the construction of single-family homes and
$.8 million which are either insured by the Federal Housing Administration
("FHA") or partially guaranteed by the Department of Veterans Administration
("VA"). The percentage of the Company's loan portfolio consisting of
single-family residential real estate loans has remained stable during the past
few years.
In addition, commercial real estate loans, including land loans, amounted to
$12.9 million or 10.4% of the total loan portfolio, net at December 31, 1997.
Commercial real estate loans consist of $12.4 million of loans secured by other
non-residential property and $.5 million of loans secured by undeveloped land as
of December 31, 1997. The percentage of the Company's loan portfolio consisting
of such loans has, in the past five years, ranged from 21.0% of the total loan
portfolio, in 1990, to 10.4% of the total loan portfolio in 1997. At December
31, 1997, consumer and other loans, consisting of installment loans and savings
account loans, amounted to $1.3 million or 1.1% of the total loan portfolio.
[THE REMAINDER OF THIS PAGE INTENTIONALLY LEFT BLANK.]
4
The following table sets forth information concerning the Company's loan
portfolio by type at the dates indicated.
At December 31,
-----------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
---------------- ---------------- ---------------- ----------------- ----------------
Percent Percent Percent Percent Percent
Amount of Total Amount of Total Amount of Total Amount of Total Amount of Total
------ -------- ------ -------- ------ -------- ------ -------- ------ --------
Mortgage loans:
Permanent 117,279 94.7% 109,012 94.8% 110,725 96.0% 103,659 92.2% 88,886 91.9%
Construction 4,715 3.8% 3,795 3.3% 1,667 1.4% 1,342 1.2% 1,661 1.7%
Total mortgage loans 121,994 98.5% 112,807 98.1% 112,392 97.9% 105,001 93.4% 90,547 93.6%
Consumer & other loans 746 0.6% 15 0.1% 18 0.2% 503 0.5% 58 0.6%
Commercial loans 490 0.4% 1,350 1.2% 1,443 1.3% 891 0.8% 72 0.8%
Lines of credit 570 0.5% 6 0.6% 1,259 1.1% 2,385 2.1% 4,744 4.9%
In substance foreclosure - - - - - - 3,592 3.2% 10 0.1%
--------- ------- --------- ------ --------- ------ -------- ------ -------- ------
Total loans 123,800 100.0% 114,997 100.0% 115,274 100.0% 112,372 100.0% 96,712 100.0%
Premium on loans purchased 1,370 1,155 987 1,460 1,128
Less:
Loans in process 2,138 1,902 1,190 525 478
Unearned discounts & loan
origination fees 13 170 104 149 138
Loans held for sale - - - - -
Allowance for loan losses 1,110 1,533 2,061 1,975 1,850
--------- ---------- --------- ------- ---------
Net loans 121,909 112,547 112,906 111,183 95,374
======= ======= ======= ======= =========
Contractual Repayments. Scheduled contractual principal repayments of loans do
not reflect the actual life of such assets. The average life of loans is
substantially less than their average contractual terms because of prepayments.
In addition, due-on-sale clauses on loans generally give the Bank the right to
declare a conventional loan immediately due and payable in the event, among
other things, that the borrower sells the real property subject to the mortgage
and the loan is not repaid. The average life of mortgage loans tends to
increase, however, when current mortgage loan rates are substantially higher
than rates on existing mortgage loans and, conversely, decrease when rates on
existing mortgages are substantially higher than current mortgage loan rates. As
of December 31, 1997, the Bank had $4.7 million in construction loans, all of
which mature in one year or less. Eight percent (8%) of such loans have fixed
rates and 92% have adjustable rates.
Purchase, Origination, and Sale of Loans. Historically, Florida has experienced
a rate of population growth in excess of national averages. However, the real
estate development and construction industries in Florida have been sensitive to
cyclical changes in economic conditions and the demand for and supply of
residential units. The Company's real estate mortgage loan origination
activities will be affected by changes in the real estate development and
construction industries.
The Company's residential real estate loan volume has been primarily purchased
since 1991. The Company generally purchases loan packages of $2.0 million to
$10.0 million of single family residential mortgages which are primarily
seasoned one-year ARM loans. Approximately 75% of the single family residential
mortgages in the Company's loan portfolio are secured by properties located in
Florida. While the Company prefers to purchase loan packages comprised of
Florida real estate, because of pricing and the limited number of Florida loan
packages that are available, the Company also purchases packages of seasoned
loans outside of Florida, generally consisting of loans in Georgia, Ohio, South
Carolina and Virginia. The loan packages undergo the same underwriting standards
as are applied to loans which the Company originates.
The Company generally originates loans on real estate located in its primary
lending area of central Florida. Residential mortgage loan originations by the
Bank are attributable to depositors, other existing customers, advertising and
referrals
5
from real estate brokers, mortgage brokers and developers. The Company has
authority within regulatory limitations to originate loans secured by real
estate throughout the United States and has exercised this authority on a
limited basis. The Bank's residential mortgage loans generally are originated to
ensure compliance with documentation and underwriting standards which permit
their sale to Fannie Mae and other investors in the secondary market. The Bank
has engaged in the sale of whole loans and participations.
The Company utilizes the sale of fixed rate loans and purchases of ARM loans to
improve its interest rate sensitivity and to ensure its future interest margin
against adverse economic conditions created by rising interest rates. Sale of
fixed rate loans can also provide liquidity and profits under certain market
conditions.
Consumer loan originations by the Bank are attributable largely to depositors
and walk-in customers and referrals. Commercial real estate loan originations
are also attributable largely to brokers, walk-in customers, and referrals. All
of the Bank's loan applications are evaluated by the Bank's staff at the main
office to ensure compliance with the Bank's underwriting standards. See "Lending
Activities - Loan Portfolio Composition - Loan Underwriting Policies."
The following table sets forth for the Bank total loans originated, purchased,
sold and repaid during the periods indicated.
Year Ended December 31,
1997 1996 1995 1994 1993
--------- -------- ------- -------- ------
(In Thousands of Dollars)
Originations:
Real Estate Loans:
Loans on existing property 10,405 4,955 3,354 3,739 5,600
Construction loans 2,758 621 186 1,466 1,500
Commercial loans 2,308 663 100 148 1,196
Lines of credit 409 - 74 154 933
Consumer & other loans 285 515 47 54 275
------ ------- -------- ------- --------
Total loans originated 16,165 6,754 3,761 5,561 9,504
Purchases: 23,675 25,082 29,005 36,913 22,880
------- ------- ------- ------- -------
Total loans originated & purchased 39,840 31,836 32,766 42,474 32,384
Sales and principal reductions
Loans sold (2,241) (7,761) (2,561) (4,620) (30,422)
Principal on loan reductions (28,796) (24,351) (27,296) (22,194) (30,127)
-------- -------- -------- -------- --------
Total loans sold & principal reductions (31,037) (32,112) (29,587) (26,814) (60,549)
-------- -------- -------- -------- --------
Increase (decrease) in loans receivable (before net items) 8,803 (276) 2,909 15,660 (28,165)
======== ========= ======= ====== =======
Loan Underwriting Lending activities are subject to the bank's underwriting
standards and loan origination procedures prescribed by the Board of Directors
and management. Loan applications are obtained to determine the borrower's
ability to repay, and the more significant items on these applications are
verified through the use of credit reports, financial statements and
confirmations. The Company's lending policy for real estate loans generally
requires that collateral be appraised by an independent, outside appraiser
approved by the bank's board of directors.
Loans are approved at various management levels up to and including the Bank's
Board of Directors, depending on the amount of the loan. Loan approvals are made
in accordance with a Chart of Delegated Authority approved by the Board of
Directors. Generally, loans less than $250,000 are approved by authorized
officers or underwriters. Loans in excess of $250,000 to $350,000 require the
concurrence of two or more authorized officers. Loans over $350,000 usually
require approval by the Loan Committee or Board of Directors.
While the Company has always had underwriting standards and loan policies for
its lending programs, the management team has established an internal and an
external loan review process to ensure that the underwriting standards and loan
policies are being followed.
6
General lending policies. The policy of the Company for real estate loans is to
have a valid mortgage lien on real estate securing a loan and to obtain a title
insurance policy which insures the validity and priority of the lien. Borrowers
must also obtain hazard insurance policies prior to closing, and when the
property is in a flood prone area, flood insurance is required. Most real estate
loans also require the borrower to advance funds on a monthly basis together
with each payment of principal and interest to a mortgage escrow account from
which disbursements are made for items such as real estate taxes and property
insurance.
The Company is permitted to lend up to 100% of the appraised value of real
property securing a mortgage loan. However, if the amount of a conventional,
residential loan (including a construction loan or a combination construction
and permanent loan) originated or refinanced exceeds 90% of the appraised value,
the Company is required by federal regulations to obtain private mortgage
insurance on that portion of the principal amount of the loan that exceeds 80%
of the appraised value of the property. The Company will originate single family
residential mortgage loans up to a 95% loan-to-value ratio if the required
private mortgage insurance is obtained. Loans over 95% loan-to-value ratio, if
originated, would be under special community support programs or one of the
Federal Housing Administration, Veterans Administration or USDA Rural Housing
Service or insurance programs. The loan-to-value ratio on a home loan secured by
a junior lien generally does not exceed 100%, including the amount of the first
mortgage on the collateral. With respect to home loans granted for construction
or combination construction/permanent financing, the Company will lend up to 95%
of the appraised value of the property on an "as completed" basis. The Company
generally limits the loan-to-value ratio on multi-family residential and
commercial real estate loans to 80% of value. Consumer loans are considered to
be loans to natural persons for personal, family or household purposes, and
these loans may be unsecured, secured by personal property or secured by liens
on real estate which, when aggregated with prior liens, equals or exceeds the
appraised value of the collateral property.
The maximum amount which the Company could have loaned to one borrower and the
borrower's related entities at December 31, 1997 was approximately $1.68
million. The Company currently has one loan relationship in excess of this
amount. See "Regulation."
Federal regulations also permit the Company to invest, in the aggregate, up to
four times its regulatory capital in loans secured by non-residential or
commercial real estate. At December 31, 1997, this limit allowed the Company to
invest in non-residential or commercial real estate loans in an aggregate amount
up to $44.9 million. Loans in the Company's loan portfolio secured by
non-residential or commercial real estate totaled $12.9 million at such date.
Interest rates charged on loans are affected principally by competitive factors,
the demand for such loans and the supply of funds available for lending
purposes. These factors are, in turn, affected by general economic conditions,
monetary policies of the federal government, including the Federal Reserve
Board, legislative tax policies and government budgetary matters.
Home Lending. The Company historically has been and continues to be primarily a
purchaser and, to a lesser extent, an originator of one-to-four family
residential real estate loans secured by properties located in the southeastern
United States. The Company generally purchases loan packages of $2.0 million to
$10.0 million of single-family residential mortgages comprised of seasoned
one-year ARM loans. The loan packages undergo the same underwriting standards as
are applied to loans which the Company originates. The Company currently
originates fixed-rate residential mortgage loans and ARMS loans for terms of up
to 30 years. As of December 31, 1997, $104.0 million or 84.0% of the Company's
total loan portfolio consisted of one-to-four family residential real estate
loans. As of such date, approximately $88.9 million, or 85.5%, of these loans
were ARM loans and $15.1 million, or 14.5%, of the residential loans were
fixed-rate.
The home loans with adjustable rate terms currently offered by the bank have
interest rates that are fixed for a period of 1, 3 or 5 years and then after the
initial period, the interest rate is adjusted annually based upon an index such
as the yield on Treasury Securities adjusted to a one year maturity, plus a
margin. Most of the Company's ARM lending programs limit the amount of any
increase or decrease in the interest rate at each adjustment and over the life
of the loan. Typical limitations are 2% at each adjustment with a limit of 6%
over the life of the loan. The Company may offer ARMS with different annual and
life of loan interest change limits, shorter or longer adjustment periods and
different base indices as may be appropriate to meet market demand, portfolio
needs, and the Company's interest rate risk management goals. While the Company
usually offers an initial rate on ARM loans below a fully indexed rate, the loan
7
is always underwritten based on the borrower's ability to pay at the interest
rate which would be in effect after adjustment of the loan. Some ARM loans
include features that allow the borrower, under special conditions, to convert
the loan to a fixed rate at the then prevailing market rates.
ARM loans reduce the risks to the Company concerning changes in interest rates,
but involve other risks because as interest rates increase, the borrower's
required payments increase, thus increasing the potential for default.
Marketability of real estate is also affected by the level of interest rates.
Most fixed rate home loans are originated for 30 year amortization terms.
Borrowers requesting a term of 15 years or less are usually granted an interest
rate slightly lower than is offered for a 30 year amortizing loan. These loans
are originated to ensure compliance with documentation and underwriting
standards which permit their sale in the secondary market to institutional
investors such as the Federal National Mortgage Association (Fannie Mae). Fixed
rate home loans include a "Due on Sale" clause which provides the bank with the
contractual right to declare the loan immediately due and payable in the event
the borrower transfers ownership of the property without the bank's consent. It
is the bank's policy to enforce "Due on Sale" provisions.
Construction Lending. The Company has and continues to offer adjustable and
fixed rate residential construction loans to owners wishing to construct their
primary residence and to selected builders/developers acceptable to the bank to
build 1-4 family dwellings in the bank's primary market area. Loans to
builders/developers are for homes that are pre-sold or are constructed on a
speculative basis. Loans to builders for the construction of a home for which
there is no end buyer at the time of construction are considered speculative
loans. Construction loans to individuals usually are originated in connection
with a permanent loan on the property (a construction/permanent loan).
Construction- permanent loans typically provide for a construction term of six
months to one year followed by the permanent loan term of up to 30 years.
Speculative builder loans are typically for one year and provide for interest
only payments during the loan term. The Company reviews the financial capacity
of the builder, the experience and credit history of the builder, and present
market conditions before approving speculative loans. Speculative loans to one
builder are generally limited to a specific dollar amount in the aggregate. Loan
advances to borrowers during construction are made on a percentage of completion
basis, and funds are typically disbursed in four to six draws after an
inspection is made by bank personnel and/or authorized independent inspectors
and a written report of construction progress is received by the Company. At
December 31, 1997 construction loans amounted to $4.7 million or 3.8% of the
loan portfolio.
Loan advances to borrowers during construction are made on a percentage of
completion basis, and funds are typically disbursed in four to six draws after
an inspection is made by Company personnel and/or authorized independent
inspectors and after a written report of construction progress is received.
Construction financing is generally considered to involve a higher degree of
risk of loss than long-term financing on improved, owner-occupied real estate.
Risk of loss on a construction loan is dependent largely upon the accuracy of
the initial estimate of construction cost and of the initial estimate of the
property's value upon completion. During construction, a number of factors could
result in delays and cost overruns. If the estimate of construction costs proves
to be inaccurate, funds may be required to be advanced beyond the amount
originally committed to complete construction. If the estimate of value proves
to be high, the Company may be confronted with a project having a value which is
insufficient to assure full payment. Repayment of construction loans to builders
of single family homes usually depends upon the builder successfully negotiating
a sale for the property. Sales of homes are affected by market conditions and
the supply and demand for such products.
Consumer and Other Loans. Federal regulations permit the Company to make secured
and unsecured consumer loans up to 35% of the Bank's assets. Although the
Company has few consumer loans, management considers consumer lending to be an
important component of its future strategic plan. The Company makes various
types of consumer loans, primarily home equity loans and second mortgages.
Consumer loans are originated in order to provide a wide range of financial
services to its customers and to create stronger ties to its customers and
because the shorter term and normally higher interest rates on such loans help
the bank increase the sensitivity of its interest earning assets to changes in
interest rates and maintain a profitable spread between its average loan yield
and its cost of funds. The terms of consumer loans generally range from one to
ten years. Underwriting standards for consumer loans include an assessment of
the applicant's payment history on other debts and ability to meet existing
obligations and payments on the proposed loans. Although the applicant's
creditworthiness is a primary consideration, the underwriting process also
includes a comparison of the value of the security, if any, to the proposed loan
amount. Consumer loans generally involve more credit risks than mortgage loans
because of the type and nature of the collateral or absence of collateral.
Consumer
8
lending collections are dependent on the borrower's continuing financial
stability, and are likely to be adversely affected by job loss, divorce and
illness. Furthermore, the application of various federal and state laws,
including federal and state bankruptcy and insolvency laws, may limit the amount
which can be recovered on such loans. In most cases, any repossessed collateral
for a defaulted consumer loan will not provide an adequate source of repayment
of the outstanding loan balance. The bank believes that the yields earned on
consumer loans are commensurate with the credit risk associated with such loans.
At December 31, 1997 consumer loans amounted to $1.3 million or 1.1% of the loan
portfolio.
Multi-family and Commercial Real Estate Loans. Multi-family real estate loans
are collateralized primarily by garden style apartments located in Florida.
Commercial real estate loans are secured primarily by office, warehouse and
retail business properties located in Florida. These types of loans amounted to
$14.8 million or 11.95% of the total loan portfolio at December 31, 1997. These
loans may be for an amortization term of up to 30 years but frequently include a
maturity in 7 to 15 years. Commercial and multi-family loans are usually
originated with an interest rate that adjusts based upon an index such as the
prime rate or the yield on Treasury Securities adjusted to a maturity of 1, 3 or
5 years. The Company generally does not offer fixed rate commercial real estate
or multi-family loans.
Loans secured by multi-family and commercial real estate are originated with
loan-to-value not exceeding 80% of the appraised value of the properties. Loans
on this type of collateral continue to be a part of the Company's future lending
programs.
Loans secured by multi-family and commercial real estate are generally larger
and involve a greater degree of risk than residential mortgage loans. Because
payments on loans secured by multi-family and commercial property depend to a
large degree on results of operations and management of the properties,
repayment of such loans may be subject to a greater extent to adverse conditions
in the real estate market or the economy. As of December 31, 1997 the bank had
$.5 million in loans secured by land which is undeveloped or in the process of
development. The Company will originate multi-family residential real estate,
commercial real estate and business loans, and management estimates such lending
will be between 5% and 10% of the bank's total loan portfolio in the future.
Business Loans with Government Guarantee. The Company originates loans where the
principal balance is partially guaranteed by the U.S. Small Business
Administration (SBA). The bank expects to continue to originate loans to small
businesses with guarantee by the SBA or the U. S. Department of Agriculture
(USDA). These loans are underwritten consistent with the bank's policies but may
include a higher loan relative to the value of collateral than commercial loans
originated without a government guarantee. These lending programs help small
businesses to develop and/or expand and are an important tool in helping meet
the credit needs of the Company's lending area.
The Company is not a delegated SBA underwriter. Applications for SBA or USDA
guaranteed or insured loans are carefully underwritten and include an analysis
of the borrower's business plan, the value of collateral, financial capacity,
the experience of the borrower and market conditions. After the Company's
underwriting review, a complete application is submitted to the appropriate
agency which in turn performs its own underwriting analysis and makes a credit
decision authorizing guarantee or insurance of the loan. SBA usually guarantees
up to 75% of a loan, and some programs of USDA provide guarantees up to 90% of
the loan. Loans with government guarantees may be originated with fixed or
adjustable rates; however, the bank usually originates loans with adjustable
rate terms. Amortization terms for such loans are commensurate with the business
purpose and expected life of the collateral. Real estate secured loans are
usually offered for terms up to 25 years. SBA/USDA guaranteed loans are
originated on fully amortizing terms without a shorter maturity date and balloon
payment requirement. At December 31, 1997 SBA guaranteed loans amounted to $1.63
million or 1.3% of the total loan portfolio.
Income from Lending Activities. Fees are earned in connection with loan
commitments and originations, loan modifications, late payments, changes of
property ownership and for miscellaneous services related to its loans. The
Company also receives fees for servicing loans sold to others. Income from these
activities varies from period to period with the volume and type of loans
originated, sold and purchased, which in turn is dependent upon prevailing
mortgage interest rates and their effect on the demand for loans in the
Company's market area.
Loan fees typically are charged at the time of loan origination and may be a
flat fee or a percentage of the amount of the loan. Under current accounting
standards such fees cannot typically be recognized as income and are deferred
and
9
taken into income over the contractual life of the loan, using a level yield
method. If a loan is prepaid or refinanced, all remaining deferred fees with
respect to such loan are taken into income at that time.
The accounting for non-refundable fees and costs associated with originating and
acquiring loans is governed by Statement of Financial Accounting Standards
("SFAS") 91, promulgated by the Financial Accounting Standards Board ("FASB").
SFAS 91 required that loan origination fees be offset against certain related
direct loan origination costs and that the resulting net amount be deferred and
amortized over the life of the related loans as an adjustment to the yield of
such related loans. In addition, commitment fees are required to be offset
against related direct costs, and the resulting net amount is recognized either
over the life of the related loans as an adjustment to the yield if the
commitment is exercised, or upon expiration of the commitment, if the commitment
expires unexercised.
Non-performing Loans and Real Estate Owned. When a borrower fails to make a
required payment on a loan, the Company attempts to collect the payment by
contacting the borrower. If a payment on a loan has not been received by the end
of a grace period (usually 15 days from the payment due date), notices are sent
at that time, with follow-up contacts made thereafter. In most cases, the
delinquencies are cured promptly. If the delinquency exceeds 90 days and is not
cured through the Company's normal collection procedures, the Company will
institute more formal measures to remedy the default, including the commencement
of foreclosure proceedings. The Company will attempt to negotiate with the
delinquent borrower to establish a satisfactory payment schedule.
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 bank's underwriting guidelines. At December
31, 1997 the Company had no loans to facilitate.
Loans are placed on non-accrual status when, in the judgment of management, the
probability of collection of interest is deemed to be insufficient to warrant
further accrual. When a loan is placed on non-accrual status, previously accrued
but unpaid interest is deducted from interest income. As a matter of policy, the
Company does not accrue interest on loans past due 90 days or more.
Real estate acquired by the Company as a result of foreclosure or by
deed-in-lieu of foreclosure is classified as real estate owned until it is sold.
When property is acquired, it is recorded at the lower of cost or fair value
less costs to sell at the date of acquisition and any write-down resulting
therefrom is charged to the allowance for losses on loans.
[THE REMAINDER OF THIS PAGE INTENTIONALLY LEFT BLANK]
10
The following table sets forth for the Company certain information regarding
non-accrual loans and real estate owned, including in-substance foreclosures,
the ratio as such loans and real estate owned to total assets as of the date
indicated, and certain other related information. The Company did not have any
troubled debt restructuring or accruing loans more than 90 days delinquent at
any of the dates presented.
December 31,
1997 1996 1995 1994 1993
-------- -------- -------- -------- -----
(In Thousands of Dollars)
Non-accrual loans:
Residential:
Construction and land loans - 548 2,035 1,025 1,081
Permanent loans (1-4 units) 1,283 323 807 1,029 704
All other mortgage loans - - 416 650 1,310
Commercial loans - 47 - - -
Consumer and other loans - 73 69 77 30
In-substance foreclosures - - - 3,592 108
------- ------- ------ ----- ------
Total non-accrual loans 1,283 991 3,327 6,373 3,233
===== ======= ====== ===== =====
Total non-accrual loans to total loans 1.0% 0.9% 2.9% 5.7% 3.3%
===== ===== ====== ====== ======
Total non-accrual loans to total assets 0.9% 0.7% 2.4% 4.1% 2.2%
====== ===== ====== ====== ======
Total allowance for loss to total non-accrual loans 86.5% 154.7% 61.9% 31.0% 57.2%
====== ======= ===== ===== =====
Real estate owned:
Real estate acquired by foreclosure 1,390 1,508 3,293 2,891 565
Total real estate owned 1,390 1,508 3,293 2,891 565
===== ===== ===== ===== ===
Total non-accrual loans and real estate owned to total assets 1.9% 1.8% 4.7% 6.0% 2.6%
==== ==== ==== ==== ====
If the non-accrual loans at December 31, 1997 had been current in accordance
with their original terms for the entire year (or from the date of origination
if originated during such period), the total interest income on such loans for
the period ended December 31, 1997 would have been increased approximately
$149,000.
The $1.28 million of non-accruing single-family residential permanent loans at
December 31, 1997 consists of 18 loans. Such loans have an average loan balance
of approximately $71,000 and no loan exceeds $181,000.
The Company had no non-accruing land acquisition and development loans at
December 31, 1997.
At December 31, 1997, the Company had real estate owned of $1,389,900 acquired
by foreclosure consisting of three single family properties with an average
balance of $44,721, three vacant land properties zoned commercial with an
average balance of $398,153, and one acquisition and development project with a
balance of $106,000.
Allowance for Losses on Loans
The allowance for loan losses is established through a provision for loan losses
charged to expenses. Loans are charged against the allowance when management
believes that the collectibility of the principal is unlikely. The allowance is
an estimated amount that management believes will be adequate to absorb losses
inherent in the loan portfolio and commitments to extend credit, based on
evaluations of its collectibility. The evaluations take into consideration such
factors as changes in the nature and volume of the portfolio, overall portfolio
quality, specific problem loans and commitments, and current and anticipated
economic conditions that may affect the borrower's ability to pay. While
management uses the best information available to recognize losses on loans,
future additions to the allowance may be necessary based on changes in economic
conditions.
In accordance with SFAS No. 114, as amended by SFAS No. 118, the Bank records
impairment in the value of its loan as an addition to the allowance for loan
losses. Any changes in the value of impaired loans due to the passage of time or
revisions in estimates are reported as adjustments to provision expense in the
same manner in which impairment initially was recognized. Adoption of SFAS No.
114, as amended by SFAS No. 118, had no impact on the level of the overall
allowance for loan losses or on operating results, and does not affect the
Bank's policies regarding write-offs, recoveries or income recognition.
11
Although management believes that it uses the best information available to
determine the allowance, unforeseen market conditions could result in
adjustments and net earnings could be significantly affected if circumstances
differ substantially from the assumptions used in making the final
determination. Future additions to the Company's allowance for loan losses will
be the result of periodic loan, property and collateral reviews and thus cannot
be predicted in advance. In addition, federal regulatory agencies, as an
integral part of the examination process, periodically review the Company's
allowance for loan losses. Such agencies may require the Company to recognize
additions to the allowance level based upon their judgment of the information
available to them at the time of their examination.
The following table sets forth information with respect to activity in the
Bank's allowance for loan losses during the periods indicated.
Year Ended December 31,
-------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(In Thousands of Dollars)
Average loans outstanding, net 113,472 112,288 115,608 108,771 109,063
Allowance at beginning of year, 1,533 2,061 1,975 1,850 1,292
Charge offs:,
Conventional loans - 794 267 4 27
Construction loans - - - - -
Commercial real estate loans 480 390 440 400 -
Consumer loans 50 39 - 5 5
------- ------ -------- ---- ------
Total loans charged off 530 1,233 707 409 32
------ ----- ------ ---- ----
Recoveries 14 267 14 3 -
---- --- -- ------ ---
Net charge-offs 516 956 694 406 32
Provision for loan losses charged to operating expenses 93 280 779 531 590
Transfer from allowance for real estate owned - 149 - - -
----- ---------- --------- --------- ---------
Allowance at end of year 1,110 1,533 2,061 1,975 1,850
===== ========== ========= ========= =========
Ratio of net charge-offs to average loans outstanding .45% 0.85% 0.61% 0.37% 0.03%
------ ----- ----- ----- -----
Ratio of allowance to period-end total loans, net .91% 1.36% 1.83% 1.78% 1.94%
------ ----- ----- ----- -----
Period-end total loans, net 121,909 112,547 112,906 111,183 95,374
------- ------- ------- ------- ------
The following table represents information regarding the Bank's total allowance
for losses as well as the allocation of such amounts to the various categories
of loans. The allowance shown in the table below should not be interpreted as an
indication that charge-offs in future periods will occur in these amounts or
proportions or that the allowance indicates future charge-off amounts or trends.
Year Ended December 31,
1997 1996 1995 1994 1993
Percent of Percent of Percent of Percent of Percent of
Loans to Loans to Loans to Loans to Loans to
Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans
------ ----------- ------ ----------- ------ ----------- ------ ----------- ------ -----------
(In Thousand of Dollars)
Residential real estate loans 413 86.5% 283 88.3% 415 86.1% 421 83.6% 983 72.6%
Commercial real estate loans
(Including multi-family & land) 434 12.0% 946 9.8% 1,073 11.4% 1,318 13.1% 772 21.0%
Non-mortgage loans 263 1.5% 304 1.9% 573 2.5% 236 3.3% 95 6.4%
---- ----- ------ ------ ----- ------ ----- ------ -------- ------
Total Allowance for loan losses 1,110 100.0% 1,533 100.0% 2,061 100.0% 1,975 100.0% 1,850 100.0%
===== ====== ===== ====== ===== ====== ====== ====== ===== ======
12
Mortgage-Backed Securities and Mortgage Derivatives
During 1994, the Company invested in a GNMA "Dollar Roll" consisting of a
portfolio of mortgage-backed securities which were guaranteed as to principal
and interest by the full faith and credit of the United States or insured or
guaranteed by agencies of or corporations or entities chartered by the Federal
government or have investment grade ratings issued by either of the top two
rating agencies. The mortgage-backed securities owned by the Company were
insured or guaranteed by the Government National Mortgage Association ("GNMA").
The securities were purchased for a period of 20 days and were sold on July 9,
1994, and at December 31, 1994, December 31, 1995, December 31, 1996 and
December 31, 1997, the Company had no investment in mortgage-backed securities
or mortgage derivatives.
The following table sets forth mortgage-backed securities purchased, sold and
repaid during the periods indicated:
Year Ended December 31,
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(In Thousands of Dollars)
Purchases - - - 4,647 4,521
Sales - - - 4,124 2,416
Principal reductions, net - - - 13 2,105
------- ------- -------- -------- ------
Increase (decrease) in mortgage-backed securities - - - - -
======= ======= ======== ========== ======
Investment Activities
The Company's investment portfolio currently consists of $9,669,955 in bonds
issued by the Federal Home Loan Bank. The Company purchases securities to meet
regulatory liquidity requirements, to invest excess funds resulting from excess
liquidity and to leverage capital through the use of borrowed funds. All of the
securities held at December 31, 1997 meet the liquidity requirements of the
Office of Thrift Supervision.
The Company's investment in obligations of U.S. government agencies consist of
dual indexed bonds issued by the Federal Home Loan Bank. At December 31, 1997,
the bonds had a market value of $9,726,532 and gross unrealized losses of
$623,468. The bonds have a par value of $10,350,000 and pay interest based on
the difference between two indices. All of the bonds pay interest at the10 year
constant maturity treasury rate less the 3 month or 6 month LIBOR rate plus a
contractual amount ranging from 2.75% to 4.00%. The Company purchased the bonds
to offset some of its risk related to its portfolio of adjustable rate mortgages
and, as such, subjects the Company to a certain degree of market risk as the
indices change with prevailing market interest rates. Generally, when short term
interest rates are low and the yield curve is in a normal slope, i.e., long term
interest rates higher than short term interest rates, the bonds will have a
yield that is above the yields on other agency securities of three or six month
maturities, however, the Company's portfolio of adjustable rate mortgage ("ARM")
loans will have yields that are declining due to the adjustment on these loans
being based on a short term index, primarily the one year CMT. When short term
rates are high and the yield curve is flat or inverted, the bonds will have
yields that are generally lower than the yields on other agency securities of
three or six month maturities, however, the Company's ARM loans will have yields
that are increasing since their adjustment is based on a short term index,
primarily the one year CMT. As a result, the yields on the dual indexed bonds
generally move in an inverse relationship to the movement in yields on the
Company's ARM loans and as a result, offset some of the risk related to the
movement of interest rates in the loan portfolio. The risk associated with
changes in the indices is that when the yield curve is flat, the bonds will
generally have yields that are below the yields on bonds that mature or reprice
in three or six months unless the general level of rates is very low in which
case the margin on the bonds would reduce or mitigate the effects of a flat
yield curve. If the yield curve is inverted, the bonds will generally have below
market yields. The Company does not currently have any investments in hedges to
offset the market risk for these securities. The effective rates earned for the
portfolio of dual indexed bonds for 1995, 1996, and 1997 were, 5.43%, 3.98%, and
4.29% respectively. Market values for all securities were calculated using
published prices or the equivalent at December 31, 1997.
Based on Office of Thrift Supervision (OTS) Thrift Bulletin 65 - Structured
Notes, and other releases from the OTS,
13
it is the opinion of management that the OTS would prefer that the institutions
that they regulate not hold structured notes because many institutions do not
clearly understand them, and the OTS has directed that the Bank refrain from
purchasing any dual indexed bonds (see "Supervision"), although they continue to
be a permissible investment for Thrifts.
At December 31, 1997, 1996, and 1995, the Bank had $3,547,948, $6,284,377, and
$7,000,000, respectively, in investments securities pledged to the Federal Home
Loan Bank as collateral under its short-term credit agreement with the Bank. On
November 30, 1995 the Company reclassified its entire portfolio of Federal Home
Loan Bank bonds from the held to maturity category to the available for sale
category, in accordance with the guidance issued by the Financial Accounting
Standards Board (FASB), which permitted the one-time opportunity to reassess the
designations of all securities between November 15, 1995 and December 31, 1995.
The transfer resulted in an increase in the unrealized loss on investment
securities available for sale, net (of the effect of income taxes) account, a
component of stockholders' equity, to $1,291,699 at November 30,1995. During
December 1995, the Company sold $7,250,000, par value, of the Federal Home Loan
Bank bonds maturing in 2003, at a gross loss of $942,500, which decreased the
unrealized loss on investment securities available for sale, net (of the effect
of income taxes) account in stockholder's equity to $779,872 at December 31,
1995. On April 1, 1996, the Company transferred $7,000,000 par value of the
Federal Home Loan Bank bonds maturing in 2003 from the available for sale to the
held to maturity category, and during November, 1996, the Company sold
$1,000,000 par value of the Federal Home Loan Bank bonds that mature in 1998 at
a gross loss of $12,344. During 1997, the Company sold $5,750,000 par value of
the Federal Home Loan Bank bonds that mature in 1998 at a gross loss of
$125,625.
The Company must maintain minimum liquidity levels specified by the OTS which
vary from time to time. The Company complies with such requirement primarily by
maintaining a significant amount of funds in interest-bearing deposits at the
FHLB of Atlanta and with the qualifying unpledged bonds in the investment
portfolio that have maturities of 5 years of less. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations Liquidity and
Capital Resources." Liquidity may increase or decrease depending upon the yields
available on investment opportunities and upon management's judgment as to the
attractiveness of such yields and its expectation of the level of yields that
will be available in the future. The Company also has an investment in the
common stock of the FHLB of Atlanta in order to satisfy the requirement for
membership in such FHLB.
The following table sets forth the carrying value of the Bank's total
investments and liquidity as of the dates indicated.
December 31,
-----------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(In Thousands of Dollars)
Short-term investments:
Interest-bearing deposits 3,556 4,837 51 6,861 6,221
Debt securities:
FHLB Notes 9,670 15,048 15,918 24,257 24,353
Orange County tax certificates - 6 19 44 135
Mortgage-backed securities - - - - -
ARM mutual fund - - - - 12,048
Equity securities:
FHLB stock 1,428 1,253 1,853 1,975 2,815
----- ----- ----- ----- ------
Total investment portfolio 14,654 21,144 17,841 33,137 45,572
====== ====== ====== ====== ======
Sources of Funds
General. Deposits are the primary source of the Company's funds for use in
lending and for other general business purposes. In addition to deposits, the
Company obtains funds from normal loan amortization and prepayments and from
operations. Contractual loan payments are a relatively stable source of funds,
while deposit inflows and outflows and loan prepayments are significantly
influenced by general market interest rates and economic conditions. Borrowings
are also used on a short-term basis to compensate for seasonal or other
reductions in normal sources of funds.
14
Borrowings may also be used on a longer term basis to support expanded lending
or investment activities. At December 31, 1997, the Bank had $23.0 million in
FHLB Advances outstanding which are due in one year or less.
Deposits. Due to changes in regulatory and economic conditions in recent years,
the Company has increasingly emphasized deregulated fixed-rate certificate
accounts and other types of deposits. The Company has a number of different
programs designed to attract both short-term and long-term deposits of the
general public by providing an assortment of accounts and rates. These programs
include statement savings accounts, NOW accounts, MMDAs and certificates of
deposit currently ranging in terms from 91 days to 120 months.
The Company's deposits are obtained from residents in its primary market area
and, to a much lesser extent, nationwide via a computer network and the
principal methods used by the Company to attract "in market" deposit accounts
include offering a wide variety of services and accounts, competitive interest
rates and a convenient office location, including access to automated teller
machines ("ATMs"). The Company currently operates no ATM's but issues cards
which have access to the Honor(R) and other shared ATM networks. The Company
utilizes very few brokered deposits and at times seeks some negotiated rate
certificates of deposit less than $100,000 through the CD Network(R) which
electronically allows the Company to display its rates on certificates to
individual investors nationwide. Company personnel then deal directly with
investors who telephone or write for information concerning certificates of
deposit.
The following table shows the distribution of, and certain other information
relating to, the Company's deposits by type as of the dates indicated.
December 31,
-----------------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
-----------------------------------------------------------------------------------------------------
Percent Percent Percent Percent Percent
of of of of of
Amount Deposits Amount Deposits Amount Deposits Amount Deposit Amount Deposits
Non-interest bearing commercial
checking accounts 126 .1 59 .1 209 .2 257 .3 776 1.0
Regular savings accounts 1,035 1.0 1,364 1.3 2.158 2.0 4,234 4.2 8,932 11.4
MMDA's 7,246 6.9 7,429 7.0 6,601 6.1 9,247 9.1 822 1.0
NOW accounts 890 .9 654 .6 675 .6 857 .8 1,213 1.5
----- -- ------ -- ------ -- ------- --- ------ -----
Subtotal 9,297 8.9 9,506 9.0 9,643 8.9 14,595 14.4 11,743 24.9
----- --- ----- --- ----- --- ------ ---- ------ ----
Certificate of Deposit:
1.00% to 3.99% 443 .4 499 .5 1,219 1.0 5,431 5.4 36,857 46.8
4.00% to 4.99% 1,150 1.1 3,077 2.9 2,171 2.0 29,421 29.0 23,558 29.9
5.00% to 5.99% 79,490 75.8 78,123 73.5 54,847 49.9 29,165 28.7 4,845 6.2
6.00% to 7.99% 14,504 13.8 14,910 14.0 41,311 37.6 22,859 22.5 1,675 2.1
8.00% to 9.99% - - - - - - 46 - 50 .1
---------- ------- --------- ------- --------- ------ ------- ------- ------ ------
Total Certificates of D 95,587 91.1 96,609 91.0 99,548 90.5 86,922 85.6 66,985 85.1
------ ---- ------- ---- ------ ---- ------ ---- ------ ----
Total Deposits 104,884 100.0 106,115 100.0 109,191 100.0 101,517 100.0 78,728 100.0
======= ===== ======= ===== ======= ===== ======= ===== ====== =====
The following table shows the average amount of and the average rate paid on
each of the following categories during the periods indicated.
December 31,
-----------------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
Average Average Average Average Average Average Average Average Average Average
Balance Rate Balance Rate Balance Rate Balance Rate Balance Rate
------- ---- ------- ---- ------- ---- ------- ---- ------- ----
MMDA's, NOW and non-interest
bearing commercial checking
accounts 8,174 3.69% 7,722 3.44% 7,587 3.56% 8,629 3.11% 4,998 1.03%
Regular savings 1,286 2.57% 1,641 2.62% 2,975 3.09% 6,227 3.40% 15,529 3.05%
Certificates of Deposit 95,652 5.67% 97,042 5.62% 99,716 5.88% 77,333 4.30% 58,402 4.26%
------ ----- ------ ----- ------ ----- ------ ----- ------ -----
Total Deposits 105,112 5.48% 106,405 5.41% 110,278 5.63% 92,190 4.12% 78,929 3.90%
======= ===== ======= ===== ======= ===== ====== ===== ====== =====
15
The variety of deposit accounts offered by the Company has increased the
Company's ability to retain deposits and has allowed it to be competitive in
obtaining new funds, although the threat of disintermediation (the flow of funds
away from savings institutions into direct investment vehicles such as
government and corporate securities) still exists. Newer types of accounts,
however, have been more costly than traditional accounts during periods of high
interest rates. The Company's ability to attract and retain deposits and the
Company's cost of funds have been, and will continue to be, significantly
affected by market conditions.
Management periodically reviews rates offered by other savings institutions in
its market area and will adjust the rates it offers to be competitive with such
institutions. The Company has generally had to price its deposit products
competitively to attract deposits. The $18.7 million decrease in 1993 resulted
from the sale of the Bank's Amelia Island branch. During the year ended December
31, 1996 the Company's deposits decreased $3.1 million and for the year ended
December 31, 1997, deposits decreased by $1.2 million.
The following table sets forth the net deposit flows of the Bank during the
periods indicated.
Year Ended December 31,
----------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
Net increase (decrease) before interest credited (5,006) (6,675) 10,530 23,902 (18,585)
Less:
Interest credited 3,777 3,599 2,945 1,113 892
----- ----- ----- ----- ---
Net deposit increase (decrease) (1,229) (3,076) 7,585 22,789 (18,693)
======= ======= ===== ====== ========
Borrowings. The Company is permitted to obtain advances from the FHLB of
Atlanta, upon the security of the capital stock of the FHLB of Atlanta it owns
and certain of its home mortgage loans and other assets (principally, securities
which are obligations of, or guaranteed by, the U.S. government or agencies
thereof), provided certain standards related to creditworthiness have been met.
Such advances may be made pursuant to several different credit programs. Each
credit program has its own interest rate and range of maturities, and the FHLB
of Atlanta prescribes the acceptable uses to which the advances pursuant to each
program may be made as well as limitations on the size of such advances.
Depending on the program, such limitations are based either on a fixed
percentage of the Company's regulatory capital or its liability for shares and
deposits or on the FHLB's assessment of the Company's creditworthiness. The FHLB
is required to review its credit limitations and standards at least once every
six months. Prepayment of FHLB of Atlanta advances would incur prepayment
penalties. At December 31, 1997, the Company had $23.0 million in borrowings
outstanding and at December 31, 1996, the Company had $24.8 million in
borrowings outstanding.
The following is an analysis of the advances from the Federal Home Loan Bank:
Amounts outstanding at December 31, 1997:
--------------------------------------------------------------------
Maturity Date Rate Amount Type
------------- ---- ------ ----
12/02/98 6.50% $ 5,500,000 Variable Rate
03/04/98 6.02% 2,500,000 Fixed Rate
06/30/98 6.00% 5,000,000 Fixed Rate
09/15/98 6.12% 5,000,000 Fixed Rate
10/16/98 5.88% 5,000,000 Fixed Rate
----- ---------
Total 6.12% $ 23,000,000
===== ==========
16
Amounts outstanding at December 31, 1996:
-----------------------------------------
Maturity Date Rate Amount Type
------------- ---- ------ ----
12/31/97 6.95% $ 4,800,000 Variable Rate
06/28/97 6.01% 5,000,000 Fixed Rate
09/16/97 6.01% 5,000,000 Fixed Rate
10/16/97 5.86% 5,000,000 Fixed Rate
09/15/98 6.12% 5,000,000 Fixed Rate
----- ---------
Total 6.18% $ 24,800,000
===== ==========
Variable rate advances reprice daily and may be repaid at any time without
penalty. Fixed rate advances incur a prepayment penalty if repaid prior to
maturity, and the interest rate is fixed for the term of the advance.
Amounts outstanding at:
------------------------------------------------------------------------------------------------------
1997 1996
------------------------------------------------------ ------------------------------------
Monthend Rate Amount Monthend Rate Amount
-------- ---- ------ -------- ---- ------
01/31/97 5.93% 24,800,000 01/31/96 6.12% 20,500,000
02/28/97 5.90% 27,300,000 02/29/96 5.81% 19,300,000
03/31/97 6.15% 27,250,000 03/31/96 5.77% 22,300,000
04/30/97 5.99% 27,250,000 04/30/96 5.77% 23,300,000
05/31/97 6.00% 23,250,000 05/31/96 5.74% 24,700,000
06/30/97 6.02% 23,500,000 06/30/96 5.80% 25,500,000
07/31/97 6.00% 23,500,000 07/31/96 5.93% 22,800,000
08/31/97 6.00% 22,500,000 08/31/96 5.78% 24,100,000
09/30/97 6.15% 24,000,000 09/30/96 6.05% 25,000,000
10/31/97 5.96% 24,250,000 10/31/96 5.98% 24,200,000
11/30/97 5.97% 23,000,000 11/30/96 6.01% 23,800,000
12/31/97 6.12% 23,000,000 12/31/96 6.18% 24,800,000
During the twelve-month periods ended December 31, 1997 and December 31, 1996,
average advances outstanding totaled $23.2 million and $23.5 million at an
average rate of 6.04% and 5.43%, respectively.
Advances from the FHLB are collateralized by loans, securities, and FHLB stock
that totaled approximately $31.1 million, $3.5, and $1.4 million, respectively
at December 31, 1997.
Expansion Plans
As a result of raising additional capital in the fourth quarter of 1997, Federal
Trust plans to expand the Bank's operations by branching in the greater Orlando
market area. Management expects to open the first branch in the second or third
quarter of 1998. The ability to branch is subject to approval by the OTS. The
OTS considers factors such as earnings, capital, management and Community
Reinvestment Activities prior to approving branch applications.
17
Employees
At December 31, 1997, the Holding Company had no full-time employees and the
Bank had 27 full-time employees. Management considers its relations with its
employees to be excellent.
Federal Trust currently maintains a comprehensive employee benefit program
providing, among other benefits, hospitalization and major medical insurance,
long-term disability insurance, life insurance, and education assistance. In
addition, during 1997 the bank began offering its employees a 401k Plan. Such
employee benefits are considered by management to be generally competitive with
employee benefits provided by other major employers in Federal Trust's market
areas. Federal Trust's employees are not represented by any collective
bargaining group.
Other Subsidiaries
At December 31, 1997, the Company had no subsidiaries other than Federal Trust
Bank.
Total Equity Investments at December 31, 1997
Federal Trust Bank $10,803,793
Thrift Subsidiaries
Current OTS regulations permit a thrift to invest up to 3% of its assets in
service corporations, provided any investment in excess of 2% must serve
primarily community, inner city or community development purposes. In addition,
a thrift can invest up to 20% of its net worth in conforming loans to service
corporations if net worth is equal to the minimum net worth requirement of the
thrift and scheduled items do not exceed 2.5% of specified assets. At December
31, 1997, the Bank had one subsidiary, FTB Financial Services, Inc.("FTBFS"),
that commenced operations in 1996. FTBFS is engaged in the business of selling
non-FDIC insured annuities, and its operations in 1997 were minimal.
Legal Proceedings
There are no material pending legal proceedings to which Federal Trust or the
Bank or any other subsidiary of Federal Trust is a party or to which any of
their property is subject.
18
Asset Sales
Sale of Federal Trust Properties Corporation. Pursuant to a Purchase Agreement
dated June 30, 1996 the Company sold all of the stock of Federal Trust
Properties Corporation to an unaffiliated party for $425,354 consisting of
$60,000 in cash, a note for $60,000 which was due and paid on August 8, 1996, a
note for $230,354 that was paid on September 2, 1997, and three notes for
$25,000 each, due December 31, 1998, 1999 and 2000, respectively. In addition,
the Company is renting the quarters it previously occupied to FTPC on a month to
month basis, and plans to sub-lease the space to a long term tenant. No gain or
loss was recognized on the sale.
Dissolution of 1270 Leasing Company. The Company dissolved 1270 LC on September
26, 1996, as it was no longer necessary to maintain the entity for purposes of
the lease on the office space previously occupied by the Company.
Regulatory and Supervisory Actions
On October 3, 1994, the OTS issued a Supervisory Order to Cease and Desist (the
"Order") for the Bank. Management and the Board of Directors have committed to
adhering to the terms of the Order. The Order provides for the Board of
Directors to: develop, adopt and adhere to policies and procedures to strengthen
the Bank's underwriting, administration, collection and foreclosure efforts;
review and revise underwriting policies and procedures to comply with regulatory
requirements; record minutes to the loan committee and grant loans only on terms
approved by the committee and document the recipient of proceeds of the loan;
develop and implement a written plan to collect, strengthen and reduce the risk
of loss for all real estate owned and for certain loans at risk and secured by
real estate; comply with policies and procedures requiring written inspection of
development and construction loans; pay no more than market rate, determined by
a rent study approved by the OTS for lease of the Bank's offices; make no
payment of taxes owed by a person affiliated with the Bank; seek services
agreement for work performed for the Holding Company by the Bank; develop and
submit for approval a three year business plan; comply with loans to one
borrower policy; pay no dividend without consent of the OTS; appoint a
compliance committee; refrain from purchasing dual indexed bonds. In addition,
the OTS issued a separate Order for the Company requiring: the Holding Company
shall not request dividends from the Bank without written permission from the
OTS; the Holding Company reimburse the Bank for the Holding Company's expenses,
develop a management services agreement with the Bank which provides for the
reimbursement for employees who work for both the Bank and the Holding Company;
appoint a compliance committee to report to the Board of Directors as to the
Holding Company's compliance with the Order. See "Regulation".
19
TAXATION
Federal
Federal Trust files a consolidated calendar tax year federal income tax return
on behalf of itself and its subsidiaries. The Bank and the other companies
report income and expense for income tax purposes under the accrual method of
accounting.
Thrift institutions are generally taxed in the same manner as other
corporations. Unlike other corporations, however, qualifying savings
institutions such as the Bank that meet certain definitional tests relating to
the nature of their supervision, income, assets and business operations are
allowed to establish a reserve for bad debts and are permitted to deduct
additions to that reserve on "qualifying real property loans"..
Until 1996, savings institutions that met certain definitional tests and other
conditions prescribed by the Internal Revenue Code of 1986 (the "Code") relating
primarily to the composition of their assets and the nature of their business
activities, were, within certain limitations, permitted to establish and deduct
additions to reserves for bad debts in amounts in excess of those which would
otherwise be allowable on the basis of actual loss experience. A qualifying
savings institution could elect annually to compute the addition to its bad debt
reserve for qualifying real property loans (generally, loans secured by
interests in improved real property) using the more favorable of the following
methods: (i) a method based on the institution's actual loss experience (the
"experience method") or (ii) a method based on specified percentage of the
institution's taxable income (the "percentage of taxable income method"), and
not be bound by the election in any subsequent year. The addition to the reserve
for nonqualifying loans was required to be computed under the experience method
and reduced by the current year's addition to the reserve for losses on
nonqualifying loans, unless that addition also was determined under the
experience method. The aggregate of the additions to each reserve for each year
was Federal Trust Bank's annual bad debt deduction. For years preceding 1996,
Federal Trust Bank utilized either the percentage of taxable income method or
the experience method in computing the tax-deductible addition to its bad debt
reserves.
If the percentage of Federal Trust Bank's specified qualifying assets
(generally, loans secured by residential real estate or deposits, banker's
acceptances, educational loans, cash, government obligations and certain
certificates of deposit) were to fall below 60% of total assets, Federal Trust
Bank would not be eligible to claim further bad debt reserve deductions and
would recapture into income all previously accumulated excess bad debt reserves.
At December 31, 1996 and 1997, Federal Trust Bank's qualifying assets were in
excess of 60% of total assets.
The Small Business Job Protection Act of 1996 repealed the percentage of taxable
income method of accounting for bad debts for tax years beginning after 1995.
Federal Trust Bank switched solely to the experience method to compute its bad
debt deduction in 1996 and future years. Federal Trust Bank is required to
recapture into taxable income the portion of its bad debt reserves that exceed
its bad debt reserves calculated under the experience method from the bank's
inception. Accordingly, Federal Trust Bank will have to recapture approximately
$70,000 of bad debt reserves as a result of this change in law.This will not
have an effect on the consolidated financial statements as deferred taxes have
already been provided for.
The recapture amount resulting from the change in method of account for bad debt
reserves generally will be taken into Federal Trust Bank's taxable income
ratably (on a straight-line basis) over a six-year period. If a thrift meets a
residential loan requirement for a tax year beginning in 1996 or 1997, the
recapture of the reserves will be suspended for that tax year. Thus, recapture
can potentially be deferred for up to two years.
To the extent that (i) the Bank's reserve for losses on qualifying real property
loans exceeds the amount that would have been allowed under the experience
method and (ii) the Bank makes distributions to its stockholders that are
considered to result in withdrawals from that excess bad debt reserve, then the
amounts withdrawn will be included in the Bank's taxable income. The amount
considered to be withdrawn by a distribution will be the amount of the
distribution plus the amount necessary to pay the tax with respect to the
withdrawal. Dividends paid out of the Bank's current or accumulated earnings and
profits as calculated for federal income tax purposes, however, will not be
considered to result in withdrawals from the Bank's bad debt reserves.
Distributions in excess of the Bank's current and accumulated earnings and
profits, distributions in redemption of stock, and distributions in partial or
complete liquidation of the Bank will be considered to result in withdrawals
from the Bank's bad debt reserves. Because the Bank made no distributions to
Federal Trust during the year, it has no excess loss reserves that could be
subject to these provisions.
20
Depending on the composition of its items of income and expense, a thrift
institution may be subject to the alternative minimum tax. A thrift institution
must pay an alternative minimum tax equal to the amount (if any) by which 20% of
alternative minimum taxable income ("AMTI"), as reduced by an exemption varying
with AMTI, exceeds the regular tax due. AMTI equals regular taxable income
increased by certain tax preferences, including depreciation deductions in
excess of that allowable for alternative minimum tax purposes, tax-exempt
interest on most private activity bonds issued after August 7, 1986 (reduced by
any related interest expense disallowed for regular tax purposes), the amount of
the bad debt reserve deduction claimed in excess of the deduction based on the
experience method and, 75% of the excess of adjusted current earnings over AMTI.
The alternative minimum tax applicable to tax years after 1986 is significantly
broader in scope than the old minimum tax and substantially increases the
likelihood that savings institutions will have to pay alternative minimum tax.
The Bank's federal income tax returns have never been examined by the Internal
Revenue Service.
State
The State of Florida imposes a corporate income/franchise tax on banks and
thrift institutions which subjects the Florida taxable income of such
institutions to a 5.5% tax (or, if greater, an alternative minimum tax equal to
3.3% of alternative minimum taxable income). Florida taxable income is
substantially similar to federal taxable income less $5,000, except that it
includes interest income on obligations of any state or political subdivision
thereof which is not otherwise exempt under Florida laws, and net operating
losses cannot be carried back to prior taxable years. The Florida
income/franchise tax may be reduced by a credit equal to the lesser of (i)
intangible tax paid or (ii) 65% of the sum of the franchise tax due before the
credit and the emergency excise tax due. The Florida franchise tax is deductible
in determining federal taxable income.
REGULATION AND SUPERVISION
General
The banking industry is highly regulated with numerous federal and state laws
and regulations governing its activities. As a savings and loan holding company,
Federal Trust is subject to examination and the regulations of the OTS as
provided under the Home Owners Loan Act, as amended ("HOLA"). In addition,
Federal Trust is a reporting company and files its Forms 10-Q and Forms 10-K
with the SEC, pursuant to Section 15(d) of the Exchange Act. As a Florida
Corporation, Federal Trust is also subject to the Florida Business Corporations
Act ("Act") and the regulation of the Florida Department of State under its
authority to administer and implement the Act.
Regulation of the Holding Company
Restrictions on the Acquisition of Federal Trust. Section 1467a of the HOLA
provides that no holding company, "directly or indirectly" or acting in concert
with one or more persons, or through one or more subsidiaries, or through one or
more transactions, may acquire "control" of an insured savings institution at
any time without the prior approval of the OTS. In addition, any holding company
that acquires such control becomes a "savings and loan Holding Company" subject
to registration, examination and regulation under HOLA and the regulations
promulgated thereunder. "Control" in this context means ownership, control of,
or holding proxies representing more than 25% of the voting shares of, an
insured institution, the power to control in any manner the election of a
majority of the directors of such institution or the power to exercise a
controlling influence over the management or policies of the institution.
The OTS also has established certain rebuttable control determinations. An
acquiror must file for approval of control with the OTS or file to rebut the
presumptions before surpassing a rebuttable control level of ownership. To rebut
the presumption, the acquiror must file a submission with the OTS setting forth
the reasons for rebuttal. The submission must be filed when the acquiror
acquires more than 25% of any class of voting stock of the savings bank and when
they have any of the control factors enumerated in 12 C.F.R. Section 574.4(c)
which include but are not limited to: (1) the acquiror would be one of the two
largest shareholders of any class of voting stock; (ii) the acquiror and/or the
21
acquiror's representative or nominees would constitute more than one member of
the savings bank's board of directors; and (iii) the acquiror or nominee or
management official of the acquiror would serve as the chairman of the board of
directors, chairman of the executive committee, chief executive officer, chief
operating officer, chief financial officer, or in any similar policy making
authority in the savings bank.
A rebuttable presumption of concerted action will occur but is not limited to
these situations: (1) a person will be presumed to be acting in concert with
members of the person's immediate family (which includes a person's spouse,
father, mother, children, brothers, sisters and grandchildren; the father,
mother, brother and sisters of the person's spouse; and the spouse of the
person's child, brother or sister); (2) persons will be presumed to be acting in
concert with each other where: (1) both own stock in a savings bank and both are
also management officials, controlling shareholders, partners, or trustees of
another company; or (ii) one person provides credit to another or is
instrumental in obtaining financing for another person to purchase stock of the
savings bank; and (3) a person will be presumed to be acting in concert with any
trust for which such persons or company serves as a trustee.
Transactions with Affiliates. The authority of Federal Trust to engage in
transactions with related parties or "affiliates" or to make loans to certain
insiders, is limited by Sections 23A and 23B of the Federal Reserve Act ("FRA").
Section 23A limits the aggregate amount of transactions with any individual
affiliate to 10% of the capital and surplus of the savings institution and also
limits the aggregate amount of transactions with all affiliates to 20% of the
savings institution's capital and surplus. Certain transactions with affiliates
are required to be secured by collateral in an amount and of a type described in
the FRA and the purchase of low quality assets from affiliates is generally
prohibited. Section 23B provides that certain transactions with affiliates,
including loans and asset purchases, must be on terms and circumstances,
including credit standards, that are substantially the same or at least as
favorable to the savings institution as those prevailing at the time for
comparable transactions with a non-related party or nonaffiliated holding
company. In the absence of comparable transactions, such transactions may only
occur under terms and circumstances, including credit standards, that in good
faith would be offered to or would apply to non-related parties or nonaffiliated
companies. Notwithstanding Sections 23A and 23B, savings institutions are
prohibited from lending to any affiliate that is engaged in activities that are
not permissible for bank holding companies under Section 4(c) of the Bank
Holding Company Act of 1956. Further, no savings institution may purchase the
securities of any affiliate other than a subsidiary.
In addition, Sections 22(g) and 22(h) of the FRA and Regulation O (which set
limits on extensions of credit to executive officers, directors and 10%
shareholders, as well as companies which such persons control) apply to savings
institutions. Among other things, such loans must be made on terms, including
interest rates, substantially the same as loans to unaffiliated individuals and
which involve no more than the normal risk of collectability. In addition, these
regulations place limits on the amount of loans the Bank may make to such
persons. These restrictions apply in addition to certain restrictions on
transactions with affiliates contained in the OTS regulations.
Support of Subsidiary Depository Institutions. Under OTS policy, Federal Trust
is expected to act as a source of financial strength to and to commit resources
to support the Bank. This support may be required at times when, in the absence
of such OTS policy, Federal Trust might not be inclined to provide such support.
In addition, any capital loans by Federal Trust to the Bank must be subordinate
in right of payment to deposits and to certain other indebtedness of the Bank.
In the event of bankruptcy, any commitment by a Holding Company to a federal
bank regulatory agency to maintain the capital of a subsidiary depository
institution will be assumed by the bankruptcy trustee and will be entitled to a
priority of payment.
Under the FDIA, a depository institution of a holding company, can be held
liable for any loss incurred by, or reasonably expected to be incurred by, the
FDIC after August 9, 1989, in connection with (i) the default of a commonly
controlled FDIC-insured depository institution or (ii) any assistance provided
by the FDIC to any commonly controlled FDIC-insured depository institution "in
danger of default". "Default" is defined generally as the appointment of a
conservator or a receiver and "in danger of default" is defined generally as the
existence of certain conditions indicating that a default is likely to occur in
the absence of regulatory assistance.
Payment of Dividends. Federal Trust is a legal business entity separate and
distinct from the Bank. To date, the principal source of cash flow of Federal
Trust, including cash flow to pay cash dividends, has been dividends from the
Bank. There are statutory and regulatory limitations on the payment of dividends
by the Bank. In general, the ability of the Bank to pay a dividend to Federal
Trust is governed by the OTS's capital distribution regulation. The OTS
regulation establishes three tiers of savings institutions based primarily on an
22
institution's capital level. A savings institution that exceeds all fully
phased-in capital requirements before and after the proposed capital
distribution ("Tier 1 association") and has not been advised by the OTS that it
is in need of more than normal supervision could, after prior notice but without
the approval of the OTS, make capital distribution during a calendar year equal
to the greater of: (i) 100% of its net income to date during the calendar year,
plus the amount that would reduce by one-half its "surplus capital ratio" (the
excess capital over its fully phased-in capital requirements) at the beginning
of the calendar year, or (ii) 75% of the savings institution's net income for
the previous four quarters. Any additional capital distributions require prior
regulatory approval. Because the Bank is currently operating under an OTS Order,
the Bank is considered a Tier 2 association and is required to obtain OTS
approval before it can make a capital distribution to the Holding Company. A
Tier 2 association may make capital distributions of between 25% and 75% of its
net income over the most recent four-quarter period, depending on its risk-based
capital level. The OTS can prohibit a proposed capital distribution by a savings
institution, which would otherwise be permitted by the regulation if the OTS
determines that such distribution would constitute an unsafe or unsound
practice. The Bank did not make a capital distribution to Federal Trust in 1997.
According to the holding company's Order, Federal Trust cannot request dividends
from the Bank without written permission from the OTS. It is unlikely that the
Bank will be permitted to pay a dividend to Federal Trust while the Cease and
Desist Orders are in effect.
Regulation of the Bank
Bills are introduced from time to time in the United States Congress with
respect to the regulation of financial institutions. Recent banking legislation,
particularly the Financial Institution Reform, Recovery and Enforcement Act of
1989 ("FIRREA") and the Federal Deposit Insurance Corporation Improvement Act of
1991 ("FDICIA"), has broadened the regulatory powers of the federal bank
regulatory agencies and restructured the nation's banking system.
Prompt and Corrective Action. The FDICIA required the federal banking regulatory
agencies to set certain capital and other criteria which would define the
category under which a particular financial institution would be classified. The
FDICIA imposes progressively more restrictive constraints on operations,
management, and capital distributions depending on the category in which a
financial institution is classified. Among other things, the regulations define
the relevant capital measures for the five capital categories. (well
capitalized, adequately capitalized, undercapitalized, significantly under
capitalized and critically under capitalized). For example, a savings
institution is deemed to be "well capitalized" if it has a total risk-based
capital ratio (total capital to risk-weighted assets) of 10% or greater, a Tier
1 risk- based capital ratio (Tier 1 capital to risk-weighted assets) of 6% or
greater, and a Tier 1 leverage capital ratio (Tier 1 capital to adjusted total
assets) of 5% or greater, and is not subject to a regulatory order, agreement or
directive to meet and maintain a specific capital level for any capital measure.
The OTS has also established minimum tangible and minimum leverage capital
requirements for savings institutions. These requirements provide for a minimum
ratio of tangible capital of not less than 1.5% of the savings institutions
adjusted total assets. Tangible capital is defined as core capital minus any
"intangible assets (as defined by the regulation). The minimum leverage capital
(as defined by the regulation) ratio established by the regulation is 3% of
adjusted total assets.
A savings institution is deemed to be "adequately capitalized" if it has a total
risk-based capital ratio of 8% or greater, and (generally) a Tier 1 leverage
capital ratio of 4% or greater, and the institution does not meet the definition
of a "well capitalized" institution. A savings institution is deemed to be
"critically undercapitalized" if it has a ratio of tangible equity (as defined
in the regulations) to total assets that is equal to or less than 2%. In
addition, the OTS is authorized to downgrade a savings institution to a lower
capital category than the savings institution's capital ratios would otherwise
indicate, based upon safety and soundness considerations (such as when the
institution has received a less than satisfactory examination rating for any of
the equivalent CAMEL rating categories). Both the risk-based capital guidelines
and the leverage ratio are minimum requirements, applicable only to top-rated
savings institutions. Institutions operating at or near these levels are
expected to have well-diversified risk, excellent asset quality, high liquidity,
good earnings and in general, have to be considered strong banking organizations
and rated composite 1 under the CAMEL rating system adopted by the OTS.
Institutions with lower ratings and institutions with high levels of risk or
experiencing or anticipating significant growth would be expected to maintain
ratios 100 to 200 basis points above the state minimums. A savings institution
cannot make a capital distribution such as cash dividends, redemptions and other
purchases of stock, or pay management fees to any person having control of that
institution, if after doing so, the savings institution would be
undercapitalized.
Capital Requirements. Both OTS and FDIC have promulgated regulations setting
23
forth capital requirements applicable to depository institutions. The OTS
capital regulations require savings institutions to meet three capital
standards: (i) a 1.5% tangible capital ratio (defined as the ratio of tangible
capital to adjusted total assets); (ii) a 3% leverage (core capital) ratio
(defined as the ratio of core capital to adjusted total assets); and, (iii) an
8% risk-based capital standard as defined below. Core capital is defined as
common stockholder's equity (including retained earning), certain noncumulative
perpetual preferred stock and related surplus, minority interests in equity
accounts of consolidated subsidiaries, certain goodwill and certain mortgage
servicing rights less certain intangible assets, mortgage servicing rights less
certain intangible assets, mortgage servicing rights and investments in
nonincludable subsidiaries. Tangible capital is defined in the same manner as
core capital, except that all intangible assets (excluding certain mortgage
servicing rights) must be deducted. Adjusted total assets is defined as GAAP
total assets, minus intangible assets (except those included in core capital).
The OTS regulations also require that in calculating the leverage ratio,
tangible and risk- based capital standards, savings institutions must deduct
investments in and loans to subsidiaries engaged in activities not permissible
for a national bank. The Bank currently has one subsidiary, FTB Financial
Services, Inc., which is in the business of selling non-FDIC insured annuities.
The OTS risk-based capital standard for savings institutions requires that total
capital (comprised of core capital and supplementary capital) be at least 8% of
risk-weighted assets. In determining risk-weighted assets, all assets, including
certain off-balance sheet assets, are multiplied by a risk-weight of 0% to 100%,
as assigned by the OTS capital regulation based on the risks OTS believes are
inherent in the type of asset. Generally, zero weight is assigned to risk- free
assets, such as cash and unconditionally guaranteed United States government
securities. A weight of 20% is assigned to, among other things, certain
obligations of United States government-sponsored agencies (such as the FNMA and
the FHLMC) and certain high quality mortgage-related securities. A weight of 50%
is assigned to qualifying mortgage loans and certain other mortgaged-related
Securities, repossessed assets and assets that are 90 days or more past due. The
components of core capital are equivalent to those discussed above. The
components of supplementary capital include permanent capital instruments (such
as cumulative perpetual preferred stock, mandatory convertible subordinated debt
and perpetual subordinated debt), maturing capital instruments (such as
mandatory convertible subordinated debt and intermediate-term preferred stock)
and the allowance for loan and lease losses. Allowance for loan and lease losses
includable in supplementary capital is limited to a maximum of 1.25% of
risk-weighted assets. Overall, the amount of capital counted toward
supplementary capital cannot exceed 100% of core capital.
On August 31, 1995, the OTS issued an interim rule providing that the amount of
risk-based capital that may be required to be maintained by an institution for
recourse assets cannot be greater than the total of the recourse liability. The
interim rule provides that whenever the calculation of risk-based assets
(including assets sold with recourse) would result in a capital charge greater
than the institution's maximum recourse liability on the assets sold, instead of
including the assets sold in the savings institution's risk-weighted assets, the
institution may increase its risk-based capital by its maximum recourse
liability. In addition, qualified savings institutions may include in their
risk-weighted assets for the purpose of capital standards and other capital
measure, only the amount of retained recourse of small business obligation
transfers multiplied by the appropriate risk weight percentage. The interim rule
sets reserve requirements and aggregate limits for recourse held under the
modified treatment. Only well-capitalized institutions and adequately
capitalized institutions with OTS permission may use this reduced capital
treatment.
On August 16, 1996, the OTS and the other federal banking agencies jointly
proposed to revise their respective risk- based capital rules relating to
treatment of certain collateralized transactions. These types of transactions
generally include claims held by banks (such as loans and repurchase agreements)
that are collateralized by cash or securities issued by the U.S. Treasury or
U.S. Government agencies. If adopted, the proposal would permit certain
partially collateralized claims to qualify for the 0% risk category. To qualify
for the 0% risk category, the portion of the claim that will be continuously
collateralized must be specified either in terms of dollar amount or percentage
of the claim. For off-balance-sheet derivative contracts, the collateralized
portion of the transaction could be specified by dollar amount or percentage of
the current or potential future exposure.
The OTS incorporated an interest-rate component as part of the calculation of a
savings institution's regulatory capital. Savings institutions with "above
normal" interest-rate risk exposure are subject to a deduction from total
capital for purposes of calculating their risk-based capital requirements. A
savings institution's interest-rate risk is measured by the decline in the net
portfolio value of its assets (i.e. the difference between incoming and outgoing
discounted cash flows from assets, liabilities and off-balance sheet contracts)
that would result from a hypothetical 200 basis point increase or decrease in
market interest rates (except when the three-month Treasury bond equivalent
yield falls below 4%, then the decrease will be equal to one-half of that
24
Treasury rate) divided by the estimated economic value of the savings
institution's assets, as calculated in accordance with guidelines set forth by
the OTS. A savings institution whose measured interest-rate risk exposure
exceeds 2% must deduct an interest-rate component in calculating its total
capital under the risk-based capital rule. The interest-rate risk component is
an amount equal to one-half of the difference between the savings institution's
measured interest-rate risk and 2%, multiplied by the estimated economic value
of the savings institution's assets. That dollar amount is deducted from the
savings institution's total capital in calculating compliance with its
risk-based capital requirement. The interest rate-risk rule includes an
assessment of exposure to declines in the economic value of a savings
institution's capital due to changes in interest rates. Under the rule, there is
a three-quarter lag between the reporting date of an institution's financial
data and the effective date for the new capital requirement based on that data.
Each quarter, the OTS calculates a savings institution's interest-rate risk
exposure and advised the savings institution of any interest-rate risk capital
component resulting from greater than "normal" exposure. The rule also provides
that the Director of the OTS may waive or defer a savings institution's
interest-rate risk component on a case by case basis. The OTS, however, has
postponed the effective date of the interest rate component as a part of the
calculation of a savings institution's risk-based capital requirement.
As of December 31, 1997, the Bank's interest rate-risk exposure, according to
OTS calculations, would not have been above the threshold requiring an
additional capital component.
The FDICIA also required that the OTS (and other federal banking agencies)
revise the risk-based capital standards with appropriate transition rules to
take into account concentration of credit risks and risks of nontraditional
activities. The regulations explicitly identify concentration of credit risk and
other risks from nontraditional activities, as well as an institution's ability
to manage these risks, as important factors in assessing an institution's
overall capital adequacy. These regulations do not contain any specific
mathematical formulas or capital requirements.
At December 31, 1997, the Bank met each of its capital requirements, in each
case on a fully phased-in basis. The following table sets forth the regulatory
capital calculations of the Bank at December 31, 1997:
Tangible Core Risk-Based
-------- ---- ----------
Percent Percent Percent
of of of
Amount Assets Amount Assets Amount Assets
------ ------ ------ ------ ------ ------
Regulatory Capital $11,055,454 7.77% $11,055,454 7.77% $12,062,756 14.99%
Requirement $ 2,135,168 1.50% $ 4,270,336 3.00% $ 6,438,476 8.00%
Excess $ 8,920,286 6.27% $ 6,785,118 4.77% $ 5,624,280 6.99%
Standards for Safety and Soundness. The FDICIA, as amended by the Reigle
Community Development and Regulatory Improvement Act of 1994, requires each
federal banking agency to prescribe for all insured depository institutions and
their holding companies standards relating to internal controls, information
systems and audit systems, loan documentation, credit underwriting, interest
rate risk exposure, asset growth, and compensation, fees and benefits and such
other operational and managerial standards as the agency deems appropriate. The
OTS and the other federal banking agencies adopted a rule establishing deadlines
for the agencies to submit and review safety and soundness compliance plans and
Interagency Guidelines Establishing Standards for Safety and Soundness. The
guidelines require savings institutions to maintain internal controls and
information systems and internal audit systems that are appropriate for the
size, nature and scope of the institution's business. The guidelines also
establish certain basic standards for loan documentation, credit underwriting,
interest rate-risk exposure, and asset growth. The guidelines further provide
that savings institutions should maintain safeguards to prevent the payment of
compensation, fees and benefits that are excessive or that could lead to
material financial loss, and that they should take into account factors such as
compensation practices at comparable institutions. In October 1996, the federal
banking agencies jointly adopted asset quality and earning standards to be added
to the Interagency Guidelines.
If the OTS determines that a savings institution is not in compliance with the
safety and soundness guidelines, it may require the institution to submit an
acceptable plan to achieve compliance with the guidelines. A savings institution
is required to submit an acceptable compliance plan to the OTS within 30 days
25
after receipt of a request for such a plan. Failure to submit or implement a
compliance plan may subject the institution to regulatory sanctions.
Insurance of Deposit Accounts. The FDIC is the administrator for the SAIF and
the Bank Insurance Fund ("BIF"), independently setting insurance premiums for
each Fund. The Bank's deposit accounts are insured by the SAIF which is
administered by the FDIC. The Federal Deposit Insurance Act required the FDIC to
increase the reserves of the SAIF and the BIF to 1.25% of total insured
deposits. The Deposit Insurance Funds Act of 1996 ("Deposit Act") required a
depository institutions to pay a one-time special assessment of 65.7 basis
points on SAIF-insured deposits held at March 31, 1995 in order to recapitalize
the SAIF to the same level as the BIF. The Bank's pre-tax special assessment was
$716,498. The FDIC applies a risk-based assessment system for insured depository
institutions that takes into account the risks attributable to different
categories and concentrations of assets and liabilities. In accordance with its
rule, the FDIC assigns a financial institution to one of three capital
categories based on the institution's financial information, as of the reporting
period ending seven months before the assessment period. A financial
institution's assessment rate depends on the capital category and supervisory
category to which it is assigned. There are nine assessment risk classifications
(i.e., combinations of capital groups and supervisory subgroups) to which
different assessment rates are applied. Until September 26, 1996, Assessment
rates range from 23 basis points on deposits for a financial institution in the
highest category (i.e.. well-capitalized and financially sound with only a few
minor weaknesses) to 31 basis points on deposits for an institution in the
lowest category (i.e., undercapitalized and posing a substantial probability of
loss to the SAIF or the BIF, unless effective corrective action is taken). The
Bank's assessment for 1996 was 29 basis points on deposits.
The FDIC in early December, 1996 adopted a rule that would reduce regular
semi-annual SAIF assessments from the current range of 0.23% - 0.31% of deposits
to a range of 0% - 0.27% of deposits. The new rates will be effective for
SAIF-assessable institutions on January 1, 1997. From October 1, 1996 through
December 31, 1996, SAIF-assessable institutions will be assessed at rates
ranging from 0.18% to 0.27% of deposits, which represents the amount the FDIC
calculates as necessary to cover the interest due for that period on outstanding
Financing Corporation ("FICO") Bonds discussed below. Effective October 1, 1996,
the Bank's SAIF insurance premiums were temporarily reduced from $0.29 per $100
to $0.17 per $100 of insured deposits in January, 1997. In the second half of
1997, the Bank's SAIF insurance premiums were increased to $0.24 per $100 of
insured deposits and will remain at that level until June 30, 1998. Management
believes that the FDIC will reduce the insurance premium when the Cease and
Desist Order is lifted by the OTS. See "MANAGEMENT DECISIONS AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATION-SUPERVISION".
The Deposit Act also reduced the burden on SAIF-insured institutions in paying
bonds (the "FICO Bonds") issued by the FICO, the entity created in 1987 to
finance the recapitalization of the Federal Savings and Loan Insurance
Corporation, the SAIF's predecessor insurance fund. Prior to the Deposit Act, a
substantial amount of the SAIF assessment revenue was used to pay the interest
due on the FICO Bonds. Beginning with the semi-annual period after December 31,
1996, interest due on FICO Bonds will be covered by assessments against both
SAIF and BIF insured institutions. Between January 1, 1997 and December 31,
1999, BIF-assessable deposits will be assessed at a rate of 20% of the
assessment rate applicable to SAIF-assessable deposits. After December 31, 1999,
FICO assessments are to be shared on a pro rata basis.
The Deposit Act also provides for the merger of the SAIF and the BIF into one
"Deposit Insurance Fund" on January 1, 1999, provided there are no state or
federally chartered FDIC-insured savings associations existing on that date. If
the SAIF and the BIF are not merged, the Deposit Act provides for creation of a
SAIF Special Reserve if the reserve ratio of the SAIF exceeds the designated
reserve ratio. The amount by which the SAIF reserve ratio exceeds the designated
reserve ratio will be deposited into the SAIF Special Reserve. Like the DIF
Special Reserve, the SAIF Special Reserve would be available for emergency
purposes if the reserve ratio of the SAIF is less than 50% of the designated
reserve ratio and the FDIC expects the reserve ratio to remain at less than 50%
of the designated reserve ratio for each of the next four calendar quarters.
Under the FDIA, insurance of deposits may be terminated by the FDIC upon a
finding that the savings institution has engaged in unsafe or unsound practices,
is in such an unsafe or unsound condition so as to warrant discontinuation of
operations or has violated any applicable law regulation, rule, order or
condition imposed by the FDIC or the OTS. Management does not know of any
practice, condition or violation that might lead to termination of deposit
insurance. At December 31, 1997, the Bank exceeded all of the fully phased-in
capital requirements.
Brokered Deposits. The FDIC has adopted regulations under FDICIA governing the
26
acceptance or retention of brokered deposits. Under these regulations, a
depository institution cannot accept, rollover or renew brokered deposits unless
(i) it is well capitalized or (ii) it is adequately capitalized and receives a
waiver from the FDIC. A depository institution that cannot receive brokered
deposits also cannot offer "pass-through" insurance on certain employee benefit
accounts. Whether or not it has obtained such a waiver, an adequately
capitalized depository institution may not pay an interest rate on any deposits
in excess of 75 basis points over certain prevailing market rates specified by
regulation. There are no such restrictions on a depository institution that is
well capitalized. As of December 31, 1997, the Bank had no brokered deposits.
Loans to One Borrower. Under the HOLA, savings institutions are subject to the
same limits on loans to one borrower as national banks. Generally, savings
institutions may lend to a single or related group of borrowers on an unsecured
basis an amount equal to 15% of its unimpaired capital and surplus. An
additional amount may be lent, equal to 10% of unimpaired capital and surplus,
if such loan is secured by readily-marketable collateral, which is defined to
include certain securities and bullion, but generally does not include real
estate.
The calculation of capital includes the Bank's total Tier 1 and Tier 2 capital,
plus the balance of the bank's allowance for loan and lease losses not included
in the total Tier 1 and Tier 2 capital. At December 31, 1997, the Bank had one
loan which exceeded the loans to one borrower limit, totaling $1,883,739.
Qualified Thrift Lender Test ("QTL"). The HOLA requires savings institutions to
meet a QTL test. The QTL test, as amended by the FDICIA, requires savings
institutions to maintain at least 65% of its "portfolio assets" (total assets
less [i] specified liquid assets up to 20% of total assets; [ii] intangibles,
including goodwill; and [iii] the value of property used to conduct business) in
qualified thrift investments, primarily residential mortgages and related
investments (including certain mortgage-backed and mortgage-related securities)
on a monthly basis in nine out of every 12 months.
A savings institution that fails to become or remain a qualified thrift lender
must convert to a bank charter or be subject to certain operating restrictions.
A savings institution that fails to meet the QTL test and does not convert to a
bank charter will be prohibited from: (i) making any new investment or engaging
in activities that would not be permissible for national banks; (ii)
establishing any new branch offices where a national bank located in the savings
institution's home state would not be able to establish a branch office; (iii)
obtaining new advances from any FHLB; and (iv) the payment of dividends except
as limited to the statutory and regulatory dividend restrictions applicable to
national banks. Also, beginning three years after the savings institution ceases
to be a qualified thrift lender, the savings institution would be prohibited
from retaining any investment or engaging in any activity not permissible for a
national bank and would be required to repay any outstanding advances to any
FHLB. A savings institution may requalify as a qualified thrift lender if it
thereafter complies with the QTL test.
As of December 31, 1997, the Bank exceeded the 65.0% QTL test, maintaining 84.5%
of its portfolio assets in qualified thrift investments.
Interstate Banking. Federally chartered savings institutions are allowed to
branch nationwide to the extent allowed by federal statute. This ability permits
savings institutions with interstate networks to diversify their loan portfolios
and lines of business. The OTS authority preempts any state law purporting to
regulate branching by federal savings institutions. Prior approval of the OTS is
required for a savings institution to branch interstate or intrastate. To obtain
supervisory clearance for branching, an applicant's regulatory capital must meet
or exceed the minimum requirements established by law and by the OTS
regulations. In addition, the savings institution must have a satisfactory
record under the Community Reinvestment Act ("CRA"). The Bank does not conduct
interstate branching operations and does not plan to do so in the foreseeable
future.
The Reigle-Neal Interstate Banking and Branching Efficiency Act of 1994
("Interstate Act") eliminated many existing restrictions on interstate banking
by authorizing interstate acquisitions of banks by bank holding companies
without geographic limitations. Under the Interstate Act, existing restrictions
on interstate acquisitions of banks by bank holding companies were repealed on
September 29, 1995, so that bank holding companies located in Florida are able
to acquire any Florida-based bank, subject to certain deposit percentage and
other restrictions. The legislation also provides that, unless an individual
state elects before hand either (i) to accelerate the effective date or (ii) to
prohibit out-of-state banks from operating interstate branches within its
territory, on or after June 1, 1997, adequately capitalized and managed bank
holding companies will be able to consolidate. De novo branching by an
out-of-state bank would be permitted only if it is expressly permitted by the
laws of the host state. The authority of a bank to establish and operate
27
branches within a state will continue to be subject to applicable state
branching laws. In 1996, the Florida Legislature adopted legislation which
permits interstate branching effective June 1, 1997.
OTS Assessments. Savings institutions are required by OTS regulation to pay
assessments to the OTS to fund the operations of the OTS. The general
assessment, to be paid on a semiannually basis, is computed upon the savings
institution's total assets, including consolidated subsidiaries, as reported in
the institution's latest quarterly thrift financial report. The Bank paid
$63,705 in OTS assessments for the year-ended December 31, 1997.
Community Reinvestment. The Community Reinvestment Act of 1977 ("CRA") and the
implementing regulations of the Federal Reserve and the FDIC are intended to
encourage regulated financial institutions to help meet the credit needs of
their local community or communities, including low and moderate income
neighborhoods, consistent with the safe and sound operation of such financial
institutions. The CRA and such regulations provide that the appropriate
regulatory authority will access the records of regulated financial institutions
in satisfying their continuing and affirmative obligations to help meet the
credit needs of their local communities as part of their regulatory examination
of the financial institution. The results of such examinations are made public
and are taken into account upon the filing of any application to establish a
domestic branch or to merge or to acquire the assets or assume the liabilities
of a financial institution. In the case of a bank or savings and loan holding
company, the CRA performance recorded of the financial institutions involved in
the transaction are reviewed in connection with the filing of an application to
acquire ownership or control of shares or assets of a financial institution or
to merge with any other bank or savings and loan holding company. An
unsatisfactory record can substantially delay or block the transaction. The Bank
received a "Satisfactory" CRA Rating in its last CRA Examination.
On May 4, 1995, the OTS and the other federal banking agencies adopted new,
uniform CRA regulations that provide guidance to financial institutions on their
CRA obligations and the methods by which those obligations would be assessed and
enforced. The regulations establish three tests applicable to the Bank: (i) a
lending test to evaluate direct lending in low-income areas and indirect lending
to groups that specialize in community lending; (ii) a service test to evaluate
an institution's delivery of services to such areas; and (iii) an investment
test to evaluate an institution's investment in programs beneficial to such
areas. Reporting requirements became effective on January 1, 1997. Evaluation
under the regulations is not mandatory until July 1, 1997. The Bank's operations
and policies substantially comply with the new regulations and as such, no
material changes to operations or policies are expected.
Federal Home Loan Bank System
The Bank is a member of the Federal Home Loan Bank ("FHLB") System which
consists of 12 regional FHLBs. The FHLB provides a central credit facility
primarily for member institutions. As a member of the FHLB-Atlanta, the Bank is
required to acquire and hold shares of capital stock in that FHLB in an amount
at least equal to 1% of the aggregate principal amount of its unpaid residential
mortgage loans and similar obligations at the beginning of each year, or 1/20th
of its advances (borrowings) from the FHLB-Atlanta, whichever is greater. The
Bank is in compliance with this requirement. FHLB advances must be secured by
specified types of collateral and may be obtained only for the purpose of
providing funds for residential housing finance.
The FHLBs are required to provide funds for the resolution of insolvent savings
institutions and to contribute funds for affordable housing programs. These
requirements could reduce the amount of dividends that the FHLBs pay to their
members and could also result in the FHLBs imposing a higher rate of interest on
advances to members. For the year ended December 31, 1997, dividends paid by the
FHLB-Atlanta to the Bank amounted $102,638, of the Bank's pre-tax income. Should
dividends be reduced, or interest on FHLB advances increased, the consolidated
net interest income might also be reduced for the Bank. Furthermore, there can
be no assurance at the value of the FHLB-Atlanta stock held by the Bank will not
decrease as a result of any new legislation.
Federal Reserve System
The Federal Reserve regulations require savings institutions to maintain
non-interest-earning reserves against their transaction accounts (primarily NOW
and regular checking accounts). The Federal Reserve regulations generally
require that reserves of 3% must be maintained against aggregate transaction
accounts of $52.0 million less (subject to adjustment by the Federal Reserve)
and an initial reserve of $1,560,000 plus 10% (subject to adjustment by the
Federal Reserve between 11 3/4% and 16 1/4%) against that portion of total
28
transaction accounts in excess of $52 million. The first $4.3 million of
otherwise reversible balances (subject to adjustments by the Federal Reserve)
are exempted from the reserve requirements. The Bank is in compliance with the
foregoing requirements. The balances maintained to meet the reserve requirements
imposed by the Federal Reserve may be used to satisfy liquidity requirements
imposed by the OTS. Because required reserves must be maintained in the form of
either vault cash, a non-interest-bearing account at a Federal Reserve or a
pass-through account as defined by the Federal Reserve, the effect of this
reserve requirement is to reduce the Bank's interest-earning assets. FHLB System
members are also authorized to borrow from the Federal Reserve "discount
window", however, Federal Reserve regulations require institutions to exhaust
all FHLB sources before borrowing from a Federal Reserve.
29
ITEM 2. PROPERTIES
During 1990, Federal Trust entered into a long-term lease obligation with John
Martin Bell, a stockholder and former director of Federal Trust, and the wife of
a former director of Federal Trust, James T. Bell, for the use of the Federal
Trust Building located at 1211 Orange Avenue, Winter Park, Florida. The Federal
Trust Building serves as the headquarters for the Bank. and the Company. The
base annual rental paid in 1997 was $276,408 or $20.77 per square foot and
increases annually according to the CPI. The lease was restated in 1991 and
amended in 1992, 1993 and 1995 and expires in 2000, unless allowed to
automatically renew for two successive ten year periods. The lease is considered
an "affiliated party" transaction under Federal Reserve Board regulations.
The offices leased by, and formerly occupied by, Federal Trust Corporation are
rented on a month to month basis by Federal Trust Properties Corporation, a
former subsidiary of the Corporation, for the same amount as the Corporation
pays.
The following table sets forth certain information on the Company's principal
offices, net carrying value and the expiration of leases when applicable at
December 31, 1997.
Net carrying value of real property
Lease
Owned Leased expiration
----- ------ ----------
Federal Trust Building - 0 - $712,787 12/31/00
1211 Orange Avenue
Winter Park, Florida 32789
Federal Trust Corporation - former offices - 0 - $ - 0 - 10/01/01
1270 Orange Avenue, Suite C
Winter Park, Florida 32789
ITEM 3. LEGAL PROCEEDINGS
There are no material pending legal proceedings to which the Company is a party
or to which any of its property is subject.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF
SECURITY HOLDERS
During the fourth quarter of the fiscal year ended December 31, 1997, no matters
were submitted to a vote of the security holders through a solicitation or
otherwise.
30
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND
RELATED SECURITY HOLDER MATTERS
There had been no active or established public market in the common stock of the
Company, however, subsequent to the stock offering in the fourth quarter of
1997, which closed on December 4, 1997, the Company's stock began trading on the
Over-The-Counter Bulletin Board under the symbol FDTR. As of February 4, 1998,
there were 559 holders of common stock of the Company, some of which are street
name holders. The Company paid quarterly cash dividends to stockholders during
1994 and 1993 in the annual amount of $0.12 and $.092 per share of common stock,
respectively.
The Company did not pay dividends during 1995, 1996 or 1997.
On March 9, 1998 the closing sales price of the Company's common stock was
$4.125. From December 5, 1997 when the Company's stock began trading, through
December 31, 1997, the range of sale prices was $2.50 to $3.50. At December 31,
1997, the Company's stock was bid at $2.75 with an asking price of $3.25.
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth selected financial data for Federal Trust as of
the dates and for the periods indicated. Such information is qualified in its
entirety by the more detailed information set forth in the Financial Statements
and the notes thereto included elsewhere herein.
Summary of Operations
Year Ended December 31,
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(In Thousands of Dollars except per share amounts)
Interest income 10,159 9,609 10,609 9,847 9,506
Interest expense 7,176 7,038 8,029 5,781 4,824
Net interest income 2,983 2,899 2,583 4,066 4,682
Provision for loan losses 93 280 779 531 590
Net interest income after provision for loan losses 2,890 2,619 1,804 3,535 4,092
Non-interest income 852 427 505 483 1,299
Non-interest expenses 3,156 4,236 5,791 4,238 4,216
Earnings (loss) before income taxes 586 (1,190) (3,482) (220) 1,175
Income tax (benefit) expense 229 (214) (1,232) (41) 409
Net earnings (loss) 357 (977) (2,250) (179) 766
Net earnings (loss) per share .15 (.43) (1.00) (0.08) 0.40
Average equity to average assets 4.94% 5.13% 5.55% 6.22% 7.06%
Return on average assets .26% (.70%) (1.50%) (.12%) .56%
Return on average equity 5.24% (13.62%) (26.96%) (2.00%) 8.20%
31
Summary of Financial Condition
At December 31,
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(In Thousands of Dollars)
Cash, non-interest-bearing 446 629 1,619 744 1,090
Investments(2) 14,654 21,145 17,842 33,137 45,573
Mortgage-backed securities - - - - -
Loans, net 121,909 112,547 112,906 111,183 95,374
All other assets 5,575 5,261 8,022 8,893 4,851
----- ----- ----- ----- -----
Total assets 142,584 139,582 140,389 153,957 146,888
======= ======= ======= ======= =======
Deposits 104,890 106,119 109,203 101,528 78,742
Borrowings 23,000 24,800 21,000 39,500 55,300
All other liabilities 2,123 1,498 2,126 1,911 2,320
Stockholders' equity 12,571 7,165 8,060 11,018 10,526
------ ----- ----- ------ ------
Total liabilities and stockholders' equity 142,584 138,582 140,389 153,957 146,888
======= ======= ======= ======= =======
For the Year Ended December 31,
Other Data 1996 1996 1995 1994 1993
---- ---- ---- ---- ----
Return on average assets .26% (.70%) (1.50%) (.12%) .56%
Return on average equity 5.24% (13.62%) (26.96%) (2.00%) 8.02%
Dividend payout - - - $.12 $.092
Average equity to average assets ratio 4.94% 5.13% 5.55% 6.22% 7.06%
Average interest rate spread (1) 2.13% 1.99% 1.58% 2.63% 3.33%
Net yield on average interest-earning assets(2) 7.71% 7.41% 7.41% 6.99% 7.32%
Non-interest expenses to average assets 2.28% 3.03% 3.79% 2.96% 3.11%
Ratio of average interest-earning assets to average
interest-bearing liabilities 1.03 1.03 1.04 1.06 1.07
Residential mortgage loans (1-4), mortgage-backed
securities, US Government and agency
obligations, and interest-earning deposits
with the FHLB as a percentage of total assets 88.5% 87.0% 76.5% 78.5% 81.5%
Non-performing loans and real estate owned as a
percentage of total assets 1.87% 1.79% 4.70% 6.02% 2.66%
Allowance for loan losses as a percentage of total loans, net .91% 1.36% 1.83% 1.78% 1.94%
Total number of full service facilities 1 1 1 2 2
Total shares outstanding (in thousands) 4,942 2,240 2,240 2,240 2,082
Earnings (loss) per share $.15 ($.43) ($1.00) ($.08) $.40
Book value per share 2.54 $3.20 $3.60 $4.92 $5.06
(1) Difference between weighted average yield on all interest-earning assets and
weighted average rate on all interest-bearing liabilities.
(2) Includes interest-earning balances in other banks, federal funds sold,
U.S.government and agency obligations, FHLB Stock and marketable equity
securities.
32
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS OF
FEDERAL TRUST CORPORATION
RESULTS OF OPERATIONS
Overview
The Bank's net earnings were adversely affected by the rise in interest rates
that occurred during 1994 and 1995, due to its negative GAP position, as its
liabilities have repriced sooner than, and in greater amounts than, its assets.
As a result, the Bank's cost of funds increased faster than the yields earned on
its assets, resulting in a decrease in its interest rate spread and lower
earnings. The Bank has continued to concentrate on increasing its portfolio of
adjustable rate loans and, as interest rates began to decline in 1995, increased
its efforts to lengthen the maturities of its liabilities in order to reduce its
negative GAP position and the impact of higher interest rates in the future. As
a result, the Bank's interest rate spread increased during 1997, even though the
cost of funds increased. A portion of the increase in interest income was the
reduction in the amount of non-performing assets.
In addition, during 1997 the Bank was able to decrease the amount of addition to
its loss reserves. Although the level of non-performing loans increased slightly
in 1997, the amount of real estate owned decreased during the year and, although
management believes that the level of non-performing assets will continue to
decrease somewhat in future periods, unforeseen economic conditions and other
circumstances beyond the Bank's control could result in material additions to
the loss reserves in future periods if the level of non-performing assets
increases. In addition, the Bank has reduced the amount of commercial loans in
its portfolio with the exception of those loans insured by the SBA, and
concentrated primarily on residential mortgage loans, which tend to have a lower
risk of loss. The Bank does anticipate additions to the loss reserves in future
periods as part of the normal course of business, as the Bank's assets,
consisting primarily of loans, are continually evaluated and the loss allowances
are adjusted to reflect the potential losses in the portfolio on an ongoing
basis.
The Company made a profit in 1997 after incurring a loss for 1996, primarily as
a result of the reduced legal expenses and other costs associated with
repossessed assets, the increase in the net interest margin, profits on the sale
of real estate owned, and a reduction in other expenses. Also in 1996, there was
a one time special assessment that was charged to all SAIF insured institutions
to fully capitalize the SAIF at 1.25 percent of insured deposits, which amounted
to $716,498 for the Bank.
General
Federal Trust Corporation ("Federal Trust" or the "Company" or the "Holding
Company"), formerly FedTrust Corporation, was incorporated as a unitary savings
and loan holding company in August, 1988. Federal Trust was capitalized on
February 28, 1989 and acquired all outstanding common stock of Federal Trust
Bank, a federally chartered savings bank (the "Bank"), formerly First Coast
Savings Bank, F.S.B., in exchange for all the outstanding shares of Federal
Trust. Five shares of Federal Trust's common stock were exchanged for each four
shares of the Bank's common stock on that date. The acquisition of the Bank was
accounted for as a pooling of interests. The Bank is currently the only
operating subsidiary of Federal Trust and began operations on May 3, 1988.
33
During 1995 and the first half of 1996 FTPC had been in the initial stages of a
HUD insured apartment development project, which during the quarter ended June
30, 1996, had advanced to the stage of applying for a mortgage insurance
commitment. Based on the anticipated cash needs and continuing overhead for such
a project, the Company concluded that it would be in the best interest of the
Company, and its banking subsidiary, to sell FTPC, in order to focus the
Company's efforts and resources on the Bank. On July 1, 1996, the Company sold
the stock of FTPC for $425,354 consisting of $60,000 in cash, a note for $60,000
which was paid on August 8, 1996, a note for $230,354 which was paid on
September 2, 1997, and three notes for $25,000 each, due December 31, 1998, 1999
and 2000, respectively. In addition, the Company is renting the quarters it
previously occupied to FTPC on a month to month basis, and plans to sub-lease
the space to a long term tenant. The Company dissolved 1270 LC on September 26,
1996, as it was no longer necessary to maintain the entity for purposes of the
lease on the office space previously occupied by the Company.
As a result of the sale of FTPC and the dissolution of 1270 LC, the only
remaining subsidiary of the Company is the Bank, and the Company's expenses have
been reduced to minimal levels, as there are no longer any salaried employees in
the Company and its offices have been sub-let. As a part of this reorganization,
in June 1996 Mr. James T. Bell resigned as Chairman, President and Chief
Executive Officer of the Company and did not stand for reelection to the Board
of Directors when his term expired in 1997. The Board named James V. Suskiewich,
the Chairman, President and Chief Executive Officer of the Bank, to the
positions previously held by Mr. Bell.
On June 1, 1995, the Company assumed the lease from the Bank on the remote
drive-in facility that had been previously used by the Bank. The annual lease
payment on this facility was $40,063. During the second quarter of 1996, the
Company entered into a contract to sell this facility under the purchase option
in the lease. This was done in order to terminate the remaining lease obligation
which had 16 years remaining. The sale closed in September and the Company
incurred a loss of $34,262, which was the lease termination fee and closing
costs on the sale. In addition, the Company wrote off the remaining balance of
the leasehold improvements at the facility, totaling $34,921, during the second
quarter of 1996.
(THE REMAINDER OF THIS PAGE INTENTIONALLY LEFT BLANK)
34
The following table sets forth, for the periods indicated, information regarding
(i) the total dollar amount of interest and dividend income of Federal Trust
from interest-earning assets and the resultant average yields; (ii) the total
dollar amount of interest expense on interest-bearing liabilities and the
resultant average cost; (iii) net interest income; (iv) interest rate spread;
(v) net interest margin; and (vi) weighted average yields and rates.
Average balances are based on average daily balances.
Year Ended December 31,
1997 1996 1995
Average Average Average
Average Yield/ Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate Balance Interest Rate
------- -------- ---- ------- -------- ---- ------- -------- ----
Interest-earning assets:
Loans(1) 113,472 9,303 8.20% 112,288 9,040 8.05% 115,608 9,001 7.79%
Investment securities 14,454 619 4.28% 15,728 675 4.29% 23,408 1,289 5.51%
Other interest-earning assets 3,780 237 6.27% 6,029 222 3.66% 6,424 319 4.77%
----- -------- ------ --------- -------- ------ --------- ----------------
Total interest-earning assets 131,706 10,159 7.71% 134,062 9,937 7.41% 145,440 10,609 7.29%
Non-interest-earning assets 6,525 5,719 5,033
--------- --------- ---------
Total assets 138,231 139,781 150,473
======= ======= =======
Interest-bearing liabilities:
Non-interest bearing demand deposits 271 - 0.00% 239 - 0.00% 286 - 0.00%
Interest bearing demand deposits 7,903 303 3.82% 7,483 266 3.55% 7,301 269 3.56%
Savings deposits 1,286 33 2.57% 1,641 4 2.62% 2,975 7 3.09%
Time deposits 95,652 5,439 5.69% 97,042 5,451 5.62% 99,716 5,883 5.88%
------ ------- ------ -------- ------- ------ -------- ------- --------
Total Deposit accounts 105,112 5,775 5.49% 106,405 5,760 5.41% 110,278 6,230 5.63%
FHLB advances & other borrowings 23,209 1,401 6.04% 23,529 1,277 5.43% 29,725 1,766 6.10%
-------- ------- ------ -------- ------- ------ -------- ------- --------
Total interest-bearing liabilities 128,321 7,176 5.59% 129,934 7,037 5.42% 140,003 7,966 5.73%
Non-interest-bearing liabilities 3,084 2,677 2,125
Retained earnings and stockholder's equity 6,826 7,170 8,345
--------- --------- ---------
Total liabilities & retained earnings 138,231 139,781 150,743
======= ======= =======
Net interest/dividend income 2.983 2,899 4,067
====== ======= ========
Interest rate spread(3) 2.12% 1.99% 1.56%
====== ====== ========
Net interest margin(4) 2.28% 2.16% 1.78%
====== ====== ========
Ratio of average interest-earning assets to
average interest-bearing liabilities 1.03% 1.03% 1.04%
====== ====== ========
(1) Includes non-accrual loans. (3) Interest rate spread represents the
difference between the average yield on
interest-earning assets and the average
cost of interest-liabilities.
(2) Includes interest-earning (4) Net interest margin is net interest
deposits and FHLB of Atlanta income dividend divided by average
stock interest-earning assets.
(THE REMAINDER OF THIS PAGE INTENTIONALLY LEFT BLANK)
35
Rate/Volume Analysis: The following table sets forth certain information
regarding changes in interest income and interest income expense of Federal
Trust for the periods indicated. For each category of interest-earning assets
and interest-bearing liabilities, information is provided on changes
attributable to (1) changes in rate (change in rate multiplied by prior volume,
(2) changes in volume multiplied by prior rate and (3) changes in rate-volume
(change in rate multiplied by change in volume).
Year Ended December 31, 1997 Year Ended December 31, 1996 Year Ended December 31, 1995
vs. 1996 vs. 1995 vs. 1994
Increase (Decrease) Due to Increase (Decrease) Due Increase (Decrease) Due to
Rate/ Rate/ Rate/
Rate Volume Volume Total Rate Volume Volume Total Rate Volume Volume Total
----------- ------ ----- ---- ------ ------ ----- ---- ------ ------ -----
Interest-earning assets:
Loans 166 95 2 263 315 (258) (19) 38 761 484 48 1,293
Investment securities (1) (55) - (56) (284) (423) 93 (614) (403) (81) 19 (465)
Other interest-earning assets 157 (83) (59) 15 (92) (19) 15 (96) 24 (56) (4) (35)
----- ------- ----- ------ ------- ------ ------ ----- ------- ------ ------ --------
Total 322 (43) ( 57) 222 (61) (700) 89 (672) 383 347 63 793
Interest-bearing liabilities:
Deposit accounts 86 (70) (2) 14 (260) (218) 25 (453) 1,401 745 275 2,421
FHLB Advances &
other borrowings 143 (17) (2) 124 (151) (368) (16) (535) 470 (516) (125) (171)
----- ------- ------ ---- ------ ------ ------- ----- ------- ------ ----- --------
Total 229 (87) (4) 138 (411) (586) 9 (988) 1,871 229 150 2,250
Net change in net interest
income before provision
for loan losses 93 44 (53) 84 350 (114) 80 316 (1,488) 118 (87) (1,457)
===== ====== ===== ===== ===== ====== ====== ==== ============== ===== =======
Impact of Increased Interest Rates on Investment Portfolio
During the fourth quarter of 1995 the Federal Reserve began decreasing interest
rates as the economy slowed. As a result of the higher interest rates in 1994,
the Bank's portfolio of investments consisting primarily of Federal Home Loan
Bank Bonds ("Bonds"), was adversely affected as to their market value, but the
market value has improved as a result of decreasing interest since 1995 and the
decrease in the time to maturity. In addition, the Bank has sold some of the
bonds in each of the years since 1995. At December 31,1995 the unrealized losses
were $1,181,624, at December 31, 1996 the unrealized losses had decreased to
$1,069,171, and at December 31, 1997 the unrealized losses had further decreased
to $623,468.
Pursuant to Financial Accounting Standards Board (FASB), Statement of Financial
Accounting Standards No. 115, "Accounting for Certain Investments in Debt and
equity Securities", which requires that investments be classified into three
categories, the Bank had classified the Bonds as Held-to-maturity securities,
and, as a result, the Bonds were reported at amortized cost. However, on
November 30, 1995 the bank reclassified its entire portfolio of Federal Home
Loan Bank bonds from the held to maturity category to the available for sale
category, in accordance with the guidance issued by the Financial Accounting
Standards Board (FASB), which permitted the one-time opportunity to reassess the
designations of all securities between November 15, 1995 and December 31, 1995.
The transfer resulted in an increase in the unrealized loss on investment
securities available for sale, net of the effect of income taxes as a component
of stockholders' equity, to $1,291,699 at November 30,1995. During December
1995, the bank sold $7,250,000, par value, of the Federal Home Loan Bank bonds
maturing in 2003, at a gross loss of $942,500, which decreased the unrealized
loss on investment securities available for sale, net of the effect of income
taxes as a separate component of stockholder's equity to $779,872 at December
31, 1995. During 1996 the Bank sold $1,000,000 par value, of the Federal Home
Loan Bank bonds maturing in 1997 and 1998 at a gross loss of $12,344. In 1997
the Bank sold $5,750,000 par value of the bonds at a gross loss of $125,625. The
unrealized loss on investment securities available for sale, net of the effect
of income taxes as a component of stockholder's equity at December 31, 1997 was
$30,035.
(See "Impact of Accounting Requirements").
36
The Bonds are issued by, and are joint and several obligations of, the Federal
Home Loan Banks, which are instrumentalities of the U.S. Government and are
rated AAA by Moody's. As a result, management is of the opinion that the Bonds
carry little, if any, risk of default. The market value of the Bonds, has been
and will continue to be, affected by the overall level of interest rates until
they mature. As, and when, interest rates decline the unrealized losses on the
Bonds should decrease and the market value of the Bonds should be affected to a
lesser extent as they near maturity. The bonds begin maturing in 1998, and the
longest issue matures in 2003.
Liquidity
The Bank is required by the OTS to maintain a daily average balance of liquid
assets equal to a specified percentage (currently 4%) of net withdrawable
deposit accounts and borrowings payable in one year or less. Generally, the
Bank's management seeks to maintain its liquid assets at comfortable levels
above the minimum requirements imposed by its regulators. In December 1997, the
Bank's average liquidity was 9.56%.
Federal Trust expects the Bank to generate sufficient deposits to provide
liquidity for expected loan growth and other investments. The Asset/Liability
Management Committee of the Bank meets regularly and, in part, reviews liquidity
levels to ensure that funds are available as needed.
Provisions for Loan Losses
A provision for loan losses is generally charged to operations based upon
management's evaluation of the losses in its loan portfolio and as a result, the
Bank charged $93,132 to its provision for loan losses during 1997.
The Bank's net loans increased by $9.4 million during 1997. Although management
believes that its present allowance for loan losses is adequate as of December
31, 1997, the Bank's provisions are based on the current and currently
anticipated future operating conditions, thereby causing these estimates to be
susceptible to changes that could result in a material adjustment to results of
operations in the near term. The amount needed in the allowance for loan losses
is based on the particular circumstances of the individual non-performing loans,
including the type, amount, and value of the collateral, if any, and the overall
composition and amount of the performing loans in the portfolio at the time of
37
evaluation, and, as a result, will vary over time. Recovery of the carrying
value of such loans is dependent to a great extent on economic, operating and
other conditions that may be beyond the Bank's control. Therefore, actual losses
in future periods could differ materially from amounts provided in the current
period and could result in a material adjustment to operations.
It is the Bank's practice to maintain the allowance for loan losses at a level
considered by management to be adequate to provide for reasonably foreseeable
loan losses. There is no precise method of predicting specific losses or amounts
that ultimately may be charged off on particular segments of the loan portfolio.
The conclusion that a loan may become uncollectible, in whole or in part, is a
matter of judgement. Similarly, the adequacy of the allowance for loan losses
can be determined only on a judgmental basis, after full review, including
consideration of:
The borrower's financial data, together with evaluations of industry data,
competition, the borrower's management capabilities and the underlying
collateral for secured loans, including, when appropriate, independent
appraisals of real estate properties, and other factors;
Consumer loan growth trends and delinquency and default rates, together
with an analysis of past and present repayment performance;
A continuing evaluation of the loan portfolio by lending officers and senior
management; and
Monthly review and evaluation of loans identified as having loss potential.
If, as a result of such monthly reviews, a loan is judged to be
uncollectible, the carrying value of the loan is reduced to that portion
that is considered to be collectible.
The allowance for loan losses at December 31, 1997 was $1,110,521 or 86.5% of
non-performing loans and .91% of net loans receivable compared to $1,533,003 or
154.7% of non-performing loans and 1.36% of net loans at December 31, 1996.
In addition to the continuing internal assessment of the loan portfolio, the
Bank's loan portfolio is also subject to examination by the OTS. The most recent
OTS regular examination was as of September 30, 1997 and concluded December 19,
1997. See "Supervision".
During 1997, the Bank's total non-accrual loans increased by approximately
$292,000.
Credit Risk
The Bank's primary business is the origination and acquisition of loans to
families and businesses. That activity entails potential credit losses, the
magnitude of which depends on a variety of economic factors affecting borrowers
which are beyond the control of the Bank. While the Bank has instituted
guidelines and credit review procedures to protect it from avoidable credit
losses, some losses may inevitably occur.
Short-term balloon mortgage loans are sometimes used to allow borrowers the
option of waiting until interest rates are more favorable for a long term fixed
rate loan. If interest rates rise, these loans may require renewals if borrowers
fail to qualify for a long term fixed rate loan at maturity and there is no
assurance that a borrower's income will be sufficient to service the renewal.
Management recognizes the risks associated with this type of lending and
believes that the policies and procedures it applies to such loans lowers the
general risk.
Supervision
The Holding Company and the Bank are subject to extensive regulation,
supervision and examination by the OTS, their primary federal regulator, by the
FDIC with regard to the insurance of deposit accounts and, to a lesser extent,
the Federal Reserve. Such regulation and supervision establishes a comprehensive
framework of activities in which a savings and loan holding company and its
financial institution subsidiaries may engage and is intended primarily for the
protection of the SAIF administered by the FDIC and depositors.
On October 3, 1994, Federal Trust and the Bank voluntarily entered into
individual Cease and Desist Orders (collectively, the "Orders") with the OTS.
The Bank Order superseded a prior Supervisory Agreement with the Bank. Under the
Holding Company's Order, Federal Trust (i) could not request dividends from the
Bank without written permission from the OTS; (ii) was required to reimburse the
Bank for the Holding Company's expenses; (iii) had to develop a Management
Services Agreement with the Bank which provides for the reimbursement for
employees who work for both the Bank and the Holding Company; (iv) had to
appoint a Compliance Committee to report to the Board of Directors as to the
Company's compliance with the Order; and (v) was required to report to the OTS
on a quarterly basis the Company's compliance with the Order.
The Bank's initial Order required the Board of Directors to: (i) develop, adopt
and adhere to policies and procedures to strengthen the Bank's underwriting,
administration, collection and foreclosure efforts with regard to loans; (ii)
review and revise underwriting policies and procedures to comply with regulatory
requirements; (iii) record minutes of the loan committee and grant loans only on
procedures which comply with regulatory requirements; (iv) record minutes of the
loan committee and grant loans only on terms approved by the loan committee; (v)
develop and implement a written plan to collect, strengthen and reduce the risk
of loss for all real estate owned and for certain loans at risk and secured by
real estate; (vi) comply with policies and procedures requiring written
inspection of development and construction loans; (vii) pay no more than market
rate, determined by a rent study approved by the OTS for lease of the Bank's
offices; (viii) make no payment of taxes owned by a person affiliated with the
Bank; (ix) seek reimbursement for work performed for the Holding Company by Bank
employees; (x) develop and submit for approval a three year business plan; (xi)
comply with loans to one borrower policy; (xii) make no capital distribution to
the Holding Company without the consent of the OTS; (xiii) appoint a compliance
committee; and (xiv) refrain from purchasing additional dual indexed bonds.
The respective Compliance Committees meet monthly to review, in detail, the
terms of the Orders to ensure that the Holding Company and the Bank are in
compliance with their Orders. The Bank also contracted with a company
specializing in the review of internal controls and operating procedures of
financial institutions, including compliance with internal policies and
procedures. In the 1996 examinations of Federal Trust and the Bank the OTS found
the companies to be in compliance with the Orders and upgraded the supervisory
rating of Federal Trust to an acceptable level. In light of the improvement in
the Bank's operations, the OTS reduced the number of provisions in the Bank's
Order from 27 to 23.
In connection with the Rights and Community Offering ("Offering"), management
requested that the OTS perform an examination on the Bank's loan underwriting
and classification, and allocated for loan losses. The OTS did not take
exception to the Bank's classifications or its allocation for loan losses. This
portion of the examination was completed in the first week of August 1997. In
October 1997, the OTS undertook the second phase of the examination which was
directed at the Bank's operation which included a separate examination of the
Holding Company. The OTS was satisfied with the steps taken by the Holding
Company in its restructuring of the Board of Directors and the completion of the
Offering which resulted in an infusion of $3.7 million dollars in capital to the
Bank. With regard to the Bank, the OTS noted improvement in the Bank's overall
operations, including underwriting procedures, documentation, significant
disposition of problem assets which included a $2.5 million dollar apartment
project in Amelia Island, Florida, the elimination of the bank's dependency on
wholesale funds, as well as continued reduction in operation expenses. As a
result, the Bank's CAMELS rating was upgraded, which should have a positive
effect on the Bank's insurance of deposit premiums for the second half of 1998.
In December 1997, the Bank formally requested that the OTS remove the growth
restrictions which it has been operating under since the entry of the Bank's
Order. In January 1998, management followed up with a request that the OTS
rescind the Holding Company Order and the Bank's Order.
On March 13, 1998, the OTS officially rescinded the growth restrictions. The OTS
has also advised that it is considering the removal of the Orders against the
Holding Company and the Bank, provided it can receive certain commitments from
the Bank's Board in the form of a Board resolution. The contents and specific
wording of the resolution are currently being discussed. While no assurances are
given, management believes that the Bank and the OTS will be able to agree to
the language in the board resolution and that the respective Orders will be
rescinded within the near future.
38
Impact of Inflation and Changing Prices
The financial statements and related data presented herein have been prepared in
accordance with Generally Accepted Accounting Principles ("GAAP"), which require
the measurement of financial position and operating results in terms of
historical dollars, without considering changes in the relative purchasing power
of money over time due to inflation. Unlike most industrial companies,
substantially all of the assets and liabilities of Federal Trust are monetary in
nature. As a result, interest rates have a more significant impact on Federal
Trust's performance than the effects of general levels of inflation. Interest
rates do not necessarily move in the same direction or in the same magnitude as
the prices of goods and services, since such prices are affected by inflation to
a larger extent than interest rates.
Impact of Accounting Requirements
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income".
This statement establishes standards for reporting and display of comprehensive
income and its components (revenues, expenses, gains and losses) in a full set
of general purpose financial statements. This statement requires that all items
that are required to be recognized under accounting standards as components of
comprehensive income be reported in a financial statement that is displayed with
the same prominence as other financial statements. The statement also requires
that an enterprise (a) classify items of other comprehensive income by their
nature in a financial statement and (b) display the accumulated balance of other
income separately from retained earnings and additional paid-in capital in the
equity section of a statement of financial position. The statement is required
41
for fiscal years beginning after December 15, 1997. The adoption of this
standard will require the Company to disclose as a component of comprehensive
income the activity in its unrealized gain of loss on investment securities
available for sale.
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information". This statement establishes standards for
the way that public business enterprises report information about operating
segments in annual financial statements and requires that those enterprises
report selected information about operating segments in interim financial
reports issued to shareholders. The statement is required for fiscal years
beginning after December 15, 1997. The company does not anticipate adoption of
this standard will have a significant impact on its consolidated financial
statements.
Year 2000 Considerations
The Company has formulated a Year 2000 Action Plan which has been presented to,
and approved by, the Board of Directors. Management believes that all affected
systems have been identified and plans have been made to ensure that all
necessary changes are accomplished in a timely manner. An OTS off-site
examination was performed on the Year 2000 plan in September 1997 and certain
changes were made to the plan as a result. Implementation of the plan is
progressing and the Board of Directors receives quarterly reports regarding the
progress made. Management has concluded that the additional costs for Year 2000
compliance will be approximately $20,000 in addition to already budgeted
purchases of new equipment and software.
Results of Operations
Comparison of the Years Ended December 31, 1996 and 1995 and 1994
General. The Company had a net profit for 1997 of $357,432 or $.15 per share
compared to a net loss of $976,503 or $.43 per share for 1996, and a net loss of
$2,249,701 or $1.00 per share in 1995. The improvement from a net loss for 1996
to a net profit in 1997 was due to an increase in net interest income, a
decreased provision for loan losses, an increase in other income, and a decrease
in other expenses.
Interest Income and Expense. Interest income was $10,159,346 in 1997 compared to
$9,936,960 in 1996 and $10,609,387 in 1995. Interest income on loans increased
to $9,302,807 in 1997 from $9,039,426 in 1996 compared to $9,001,646 in 1995.
The increase in interest income on loans in 1997 as compared to 1996 was
primarily attributable to increased interest rates on the loans and an increase
in the average amount of loans outstanding during the year. The increase in
interest income on loans between 1996 and 1995 was the result of an increase in
interest rates on the loans and a decrease in the amount of non-accruing loans.
Interest income on investment securities decreased to $619,706 in 1997 from
$675,279 in 1996 as a result of a decrease in the interest rates earned on the
securities and a decrease in the average balance of investment securities held
by the Bank. Interest income on investment securities decreased from $1,289,085
in 1995 to $675,279 in 1996 as a result of a decrease in the average amount of
investment securities and a decrease in the interest rates earned on the
securities. Other interest and dividends increased $14,578 during 1997 due to an
increase in rates earned on the assets, offset partially by a decrease in the
average amount outstanding, and decreased $96,401 during 1996 as a result of a
decrease in the average balance of, and the interest rates earned on, other
interest-bearing assets. Management expects the rates earned on the portfolios
to fluctuate with general market conditions.
Interest expense increased during 1997 to $7,175,978 compared to $7,037,882 in
1996 primarily due to an increase in interest rates offset partially by a
decrease in the average amount of deposit accounts and FHLB advances
outstanding. Interest expense decreased during 1996 to $7,037,882 compared to
$8,026,334 in 1995 due to a decrease in interest rates and a decrease in the
average amount of deposit accounts and FHLB advances outstanding. Interest
expense on deposits decreased by $14,294 in 1997 as a result of a decrease in
the average amount of deposits, offset to a great extent by an increase in the
rates paid on deposits. There was a decrease of $453,289 in interest expense in
1996 from 1995, as a result of a decrease in the average amount of deposits and
42
a decrease in the rates paid on the deposits. Interest expense on these accounts
will increase or decrease according to the general level of interest rates.
Interest on FHLB advances and other borrowings increased to $1,401,294 in 1997
from $1,277,492 in 1996 due to an increase in the average rates paid on FHLB
advances, partially offset by a decrease in amount of advances outstanding,
while interest expense decreased from $1,812,655 in 1995 to $1,277,492 in 1996
as a result of decreases in the amount of, and average rates paid, on FHLB
advances and other borrowings. Management expects to continue to use such
advances when the proceeds can be invested wisely.
Provisions for Loan Losses. A provision for loan losses is generally charged to
operations based upon management's evaluation of the potential losses in its
loan portfolio. However, in May 1995, the OTS directed the Bank to increase its
reserves for loan and REO losses by $730,000. The increase was primarily the
result of the adverse classification of the first mortgages on two loans on
which the Bank has a second mortgage position. Also, additional reserves were
required on two commercial loans whose classification was downgraded. The Bank's
provision for loan losses for 1996 was $279,596 compared to $779,415 in 1995. In
1997 the provision decreased by $186,464 to $93,132 for the year, primarily as a
result of improvements in loan quality and the resolution of non-performing
loans. Gross charge-offs totaled $529,777 in 1997 compared to $1,233,240 for
1996 and $707,222 for 1995. Total non-performing loans at December 31, 1997 were
$1,283,000 compared to $991,000 at December 31, 1996 and $3,327,000 at December
31, 1995. The allowance for loan losses at December 31, 1997 was $1,110,521 or
86.5% of non-performing loans and .91% of net loans receivable compared to
$1,533,003 or 154.7% of non-performing loans and 1.36% of net loans receivable
at December 31, 1996 compared to $2,060,568 or 61.9% of non-performing loans and
1.83% of net loans receivable at December, 31, 1995. The amount needed in the
allowance for loan losses is based on the particular circumstances of the
individual non-performing loans, including the type, amount, and value of the
collateral, if any, and the overall composition and amount of the performing
loans in the portfolio at the time of evaluation, and, as a result, will vary
over time.
Total Other Income. Other income increased from $426,707 in 1996 to $852,346 for
the year ended December 31, 1997. The increase in 1997 was the result of gains
on the sale of real estate owned of $490,049, primarily from the sale of the 44
condominium units which the Company received title to in April 1997, an increase
of $63,918 in fees and service charges, and an increase of $46,673 in other
income, offset partially by a decrease of $126,427 in gains on the sale of
loans. Other income increased as a result of increases in loan servicing fees
and loan application fees, as a result of an increase in the number of loans
originated.
Other income decreased from $505,424 in 1995 to $426,707 for the year ended
December 31, 1996. The decrease in other income during 1996 resulted from a
$88,171 decrease in rent income attributable to a repossessed office building
that was owned by a non-bank subsidiary and was sold in December, 1995, a
decrease in fees and service charges of $24,772, a decrease of $2,673 in other
income consisting mainly of decreased other loan income, offset partially by an
increase in the gain on the sale of loans of $31,381 and an increase in the gain
on the sale of other real estate of $5,518.
Total Other Expense. Other expense decreased to $3,156,502 in 1997 from
$4,236,492 in 1996 and from $5,790,591 in 1995. The decrease of $1,079,990 in
1997 was attributable to a decrease in deposit insurance premiums of $733,174, a
decrease of $203,094 in legal and professional fees, a decrease of $152,621 in
the loss on the disposal of fixed assets, a decrease of $139,308 in other
expense, a decrease of $127,787 in real estate owned expense, and a decrease of
$106,535 in occupancy and equipment expense. These decreases were offset
partially by increases of $246,230 in salary and employee benefits expense, an
increase of $113,281 in loss on the sale of investment securities, and an
increase of $23,018 in general and administrative expenses. The decrease in
deposit insurance premiums was the result of the one-time special assessment
that was charged by the FDIC on all SAIF insured deposits as a result of
legislation approved by Congress which the President signed on September 30,
1996. The special assessment was paid in November 1996 at the rate of $0.657 per
$100 and the Bank charged $716,498 against third quarter earnings in 1996. The
decrease in legal and professional fees was the result of the reduction in the
amount and number of non-performing loans. The decrease in the loss on the
disposal of fixed assets was the result of the write-offs by the Holding Company
in 1996 of the leasehold improvements in conjunction with the sale of the
43
drive-in facility, and the write-off of the leasehold improvements at the
Holding Company's office which it no longer uses. The decrease in other expense
was primarily the result of the Holding Company becoming inactive in mid 1996,
with all necessary functions performed by bank personnel. The decrease in real
estate owned expenses was due to the reduced numbers of repossessed properties
owned by the bank during the year. The decrease in occupancy and equipment was
the result of the sale of the drive-in facility previously used by the bank and
the sub-letting of the Holding Company former offices. The increase in salary
and employee benefits was primarily the result of normal annual salary
increases, increased staff, the commencement of the 401k plan, the
implementation of an executive deferred compensation (retirement) plan, and
increased group insurance costs. The increase in losses on the sale of
investments was the result of the sale of additional bonds from the investment
portfolio in order to reinvest the proceeds in higher yielding loans. The
increase in general and administrative expenses was primarily the result of
increased loan expenses incurred as the result of the increase in loans
originated.
The decrease of $1,554,099 in other expenses in 1996 was primarily the result of
a decrease of $263,891 in salary and employee benefits, a decrease of $118,383
in occupancy and equipment expense, decreased legal and professional expense of
$490,556, a decrease of $402,620 in real estate owned expenses, decreased
general and administrative expenses of $124,442, a decrease of $930,156 in
losses on sale of investment securities, a decrease of $122,222 in losses on the
sale of real estate, partially offset by an increase in deposit insurance
premiums of $710,415, a loss on the sale of fixed assets of $152,621, and
increased other expense of $35,135. The decrease in salary and employee benefits
were the result of reduced staff levels, particularly at the Holding Company
which eliminated all of its staff at mid-year, which consisted of three
positions. Occupancy and equipment expense were reduced as a result of the sale
of the drive-in facility in September 1996, and the sub-letting of the Holding
Company's offices at mid-year, both of which were no longer necessary. Legal and
professional expense decreased as a result of the reduction in the amount and
number of non-performing loans. Real estate owned expenses and losses on the
sale of real estate owned were reduced as the result of a reduction in the
amount of repossessed properties at the bank during 1996. General and
administrative expenses were reduced primarily as a result of the elimination of
the staff and offices of the Holding Company. The increase in deposit insurance
premiums was the result of the one-time special assessment that was charged by
the FDIC on all SAIF insured deposits as a result of legislation approved by
Congress which the President signed on September 30, 1996. The special
assessment of $716,498 was paid in November 1996. The loss on the sale of fixed
assets was the result of the leasehold improvements written-off by the Holding
Company in conjunction with the sale of the drive-in facility, and the write-off
of the leasehold improvements at the Holding Company's office which it no longer
uses. The decrease in loss on the sale of investment securities was a result of
the large loss incurred in 1995 on the sale of a $7,250,000 block of bonds.
Liquidity and Capital Resources at December 31, 1995
General. Like other financial institutions, the Bank must ensure that sufficient
funds are available to meet deposit withdrawals, loan commitments, investment
needs and expenses. Control of the Bank's cash flow requires the anticipation of
deposit flows and loan payments. The Bank's primary sources of funds are deposit
accounts, FHLB advances and principal and interest payments on loans.
The Bank requires funds in the short term to finance ongoing operating expenses,
pay liquidating deposits, purchase temporary investments in securities and
invest in loans. The Bank funds short-term requirements through advances from
the FHLB, the sale of temporary investments, deposit growth and loan principal
payments. In addition, management has no plans to significantly change long-term
funding requirements. The Bank requires funds in the long-term to invest in
loans for its portfolio, purchase fixed assets and provide for the liquidation
of deposits maturing in the future. The Bank funds its long-term requirements
with proceeds from maturing loans, the sale of loans, the sale of investments in
securities and deposits and the sale of real estate.
During the year ended December 31, 1997, the Company used funds primarily from
sale of loans of $7,245,627, proceeds from the sale of investment securities of
$5,624,375, funds from the issuance of capital stock of $4,773,879, and proceeds
from the sales of real estate owned of $1,371,334, to fund $17,621,045 in loan
originations and purchases, net; repayment of advances from the Federal Home
44
Loan Bank of $1,800,000, decreases in total deposits of $1,228,843, the funding
of an executive supplemental income plan for $1,071,443, and a decrease in cash
and cash equivalents of $1,463,712. Management believes that in the future,
funds will be obtained from the above sources. The weighted average cost of
interest-bearing liabilities at December 31, 1997 was 5.50% compared to 5.49% at
December 31, 1996.
At December 31, 1997, loans-in-process, or closed loans scheduled to be funded
over a future period of time, totaled $2,137,625. Loans committed, but not
closed, totaled $4,314,669, available lines of credit totaled $306,516, and
standby letters of credit totaled $500,000. Funding for these amounts is
expected to be provided by the sources described above. As of December 31, 1996,
the Bank had outstanding FHLB advances of $23,000,000 compared to $24,800,000 in
1996.
During 1997, the Company sold common stock through a rights/community offering.
The offering provided for the sale of a maximum of 2,701,619 shares (minimum of
1,000,000 shares). The offering ended on December 4, 1997. The number of shares
sold in the offering was 2,701,619 and generated $4,773,879, for the Company
after payment of offering expenses. Of the monies raised, $3,700,000 was
contributed to the Bank through the purchase of common stock in the Bank. No
securities were sold during 1995 or 1996.
OTS regulations require the Bank to maintain a daily average balance of liquid
assets equal to a specified percentage (currently 4%) of net withdrawable
deposit accounts and borrowings payable in one year or less. Generally, the
Bank's management seeks to maintain its liquid assets at comfortable levels
above the minimum requirements imposed by its regulators. For the month ending
December 31, 1997, liquidity averaged 9.56%.
The Company expects the Bank's central Florida office to generate sufficient
deposits to provide liquidity for expected loan originations and other
investments. The Asset/Liability Management Committee of the Bank meets
regularly and, in part, reviews liquidity levels to ensure that funds are
available as needed.
The Company last declared a dividend to its stockholders on September 30, 1994,
which was paid on November 14, 1994. As a result of the net losses that were
incurred by the Company from the fourth quarter of 1994 through the third
quarter of 1996, no additional dividends have been declared and the Board of
Directors decided to suspend the payment of dividends for calendar year 1995,
1996 and 1997. Although the Company was profitable during 1997 and projects a
profit for 1998, the Board of Directors does not anticipate the payment of
dividends in 1998. In addition, although the Company does not require OTS
approval for the granting of dividends, the Bank is prohibited from granting
dividends without OTS approval and Bank does not anticipate the payment of
dividends to the Company for calendar year 1998. The payment of dividends in
subsequent years will depend on general economic conditions, the overall
performance of the Company, and the capital needs of the Company
45
The following table is a reconciliation of the Bank's stockholder's equity
calculated in accordance with generally accepted accounting principles to
regulatory capital:
At December 31, 1997
Tangible Core Risk-Based
-------- ---- ----------
Stockholders' equity as shown in the accompanying
financial statements 10,804 10,804 10,804
Other:
Unrealized loss on investments 424 424 424
General valuation allowances - - 1,007
Less: Excess mortgage servicing rights and
Excess net deferred tax assets (173) (173) (173)
----------- ---------- -------
Regulatory capital 11,055 11,055 12,062
====== ====== ======
At December 31, 1997, the Bank met each of its capital requirements.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market Risk and Asset/Liability Management
Readers should note, in particular, that this document contains forward-looking
statements within the meaning of Section 21E of the Securities Exchange Act of
1934, as amended (the "Exchange Act"), that involve substantial risks and
uncertainties. When used in this document, or in the documents incorporated by
reference herein, the words "anticipate", "believe", "estimate", "may", "intend"
and "expect" and similar expressions identify certain of such forward-looking
statements. Actual results, performance or achievements could differ materially
from those contemplated, expressed or implied by the forward-looking statements
contained herein. The considerations listed herein represent certain important
factors the Company believes could cause such results to differ. These
considerations are not intended to represent a complete list of the general or
specific risks that may affect the Company. It should be recognized that other
risks, including general economic factors and expansion strategies, may be
significant, presently or in the future, and the risks set forth herein may
affect the Company to a greater extent than indicated.
The Company's net income is dependent to a large extent on its net interest
income, which is susceptible to interest rate risk to the extent that
interest-bearing liabilities mature or reprice on a different schedule than
interest-earning assets. In order to minimize the potential for adverse effects
of material and prolonged increases in interest rates on Federal Trust's results
of operations, Federal Trust's management has implemented and continues to
monitor asset and liability management policies to better match the maturities
and repricing terms of Federal Trust's interest-earning assets and
interest-bearing liabilities. Such policies have consisted primarily of: (i)
emphasizing the origination and purchase of single-family residential
adjustable-rate mortgage loans ("ARMs"); (ii) maintaining a stable core deposit
base with a relatively high percentage of low-cost deposits; and (iii)
maintaining an adequate portion of liquid assets (cash and interest-bearing
deposits).
The matching of assets and liabilities may be analyzed by examining the extent
to which such assets and liabilities are "interest rate sensitive" and by
monitoring an institution's interest rate sensitivity "gap." An asset or
liability is said to be interest rate sensitive within a specific time period if
it will mature or reprice within that time period. The interest rate sensitivity
gap is defined as the difference between interest-earning assets and
interest-bearing liabilities maturing or repricing within a given time period. A
gap is considered positive when the amount of interest rate sensitive assets
exceeds interest rate sensitive liabilities. A gap is considered negative when
the amount of interest rate sensitive liabilities exceeds interest rate
sensitive assets. During a period of rising interest rates, a negative gap would
adversely affect net interest income, while a positive gap would result in an
46
increase in net interest income. During a period of falling interest rates, a
negative gap would result in an increase in net interest income, while a
positive gap would adversely affect net interest income.
Between 1988 and 1989, Federal Trust successfully emphasized the origination of
single-family residential ARMs. However, due to the generally lower interest
rates which have prevailed during the past few years, Federal Trust's
originations of ARMs have decreased, due to the preference of Federal Trust's
customers for fixed-rate residential mortgage loans. As of December 31, 1997,
$88.9 million or 85.5% of the Bank's portfolio of single-family residential
mortgage loans consisted of ARMs.
The Bank also seeks to maintain a stable core deposit base by providing quality
service to its customers without significantly increasing its cost of funds or
operating expenses. At December 31, 1997 money market demand ("MMDA"), passbook,
regular savings, checking and negotiable order of withdrawal ("NOW") accounts,
totaled $9.3 million or 8.8% of total deposits. These accounts bore a weighted
average nominal rate of 3.60% at December 31, 1997.
The Bank has also maintained a portfolio of short-term liquid assets (cash and
assets maturing in one year or less) in order to reduce its vulnerability to
shifts in market rates of interest. At December 31, 1997, 5.12 % of Federal
Trust's total assets consisted of cash, interest-earning deposits, and
securities maturing in one year or less. Furthermore, as of such date, Federal
Trust's overall average liquidity ratio was 9.56%.
Based upon the assumptions set forth below, the Bank's one-year negative
interest rate sensitivity gap amounted to $1.4 million or 1.0% of total assets
as of December 31, 1997. At December 31, 1996, the one-year negative interest
rate sensitivity gap was $18.2 million or 13.1% of total assets based on the
assumptions in effect on such date. During 1997, the Bank's one-year negative
interest rate sensitivity gap improved and contributed to the increase in the
Bank's interest rate spread from 1.99% in 1995 to 2.13% in 1997. During 1997,
short-term interest rates remained relatively stable, until the latter part of
the year and the average volume of interest-earning assets decreased $2.4
million and the average yield on these assets increased by .30%, due in part to
the lagging nature of the adjustable rate mortgage loan portfolio, but primarily
as the result of the reduction in non-performing loans. For the same period,
interest-bearing liabilities decreased $1.6 million and the average rate on
these liabilities increased .16% due to competitive factors in the local market
and the higher cost of FHLB advances. Although management believes that the
Bank's current asset and liability management strategies reduce the potential
adverse effects of changes in interest rates on the Bank's results of
operations, any substantial and prolonged increases in market rates of interest
would have an adverse impact on the Bank's results of operations, since the
rates on loans adjust on a lagging basis and are subject to annual and life-time
limits on the amount of increase. Management monitors the Bank's interest rate
sensitivity and believes that its present gap position is appropriate for the
current interest rate environment.
In preparing the tables below, the following assumptions have been made, which
are based upon assumptions used by the FHLB of Atlanta during 1997. The FHLB's
prepayment estimates are based upon a major Wall Street firm's prepayment model
and the specific prepayment speeds applied to the bank's mortgages are a
function of their underlying coupons, maturities and lifetime rate caps.
Adjustable-rate mortgages are separated into 160 individual buckets by current
versus lagging market index, coupon reset frequency, teaser versus non-teaser,
distance to lifetime cap and periodic rate caps. The one-year decay rates for
NOW, money market, passbook and non-interest demand deposits are 37%, 79%, 17%
and 37%, respectively, based on a study done by the Office of Thrift
Supervision. The above assumptions should not be regarded as indicative of the
actual prepayments or withdrawals which may be experienced by Federal Trust in
the future. The interest rate sensitivity gaps as of December 31, 1997, 1996 and
1995 were based on the assumptions for 1997, 1996 and 1995 and were based on
economic and interest rate conditions during such years including the then
prevailing prepayment experience and decay rate levels.
46
December 31
1997 1996 1995
(In Thousands of Dollars)
Interest-earning assets maturing or repricing within one year 106,583 86,677 72,382
Interest-bearing liabilities maturing or repricing within one year 107,942 104,845 102,781
------- ------- -------
Excess (deficiency) of interest-earning assets over interest-bearing liabilities (1,359) (18,168) (30,399)
Excess (deficiency) of interest-earning assets over interest-bearing liabilities
maturing or repricing within one year as a percentage of total assets (.96%) (13.08%) (21.85%)
Percentage of assets to liabilities maturing or repricing within one year 98.74% 82.67% 70.42%
Interest rate sensitivity analysis is one approach to measure the Company's
interest rate risk by computing estimated changes in the net portfolio value
("NPV"). This analysis calculates the difference between the present value of
liabilities and the present value of expected cash flows from assets. NPV
represents the market value of portfolio equity and is equal to the market value
of assets minus the market value of liabilities, with adjustments made for
off-balance sheet items. This analysis assesses the risk of loss in market
sensitive instruments in the event of a sudden and sustained one-hundred, two
hundred, three hundred and four-hundred basis points increase or decrease in
market interest rates. The following table sets forth, as of December 31, 1997,
an analysis of the Company's interest rate risk as measured by the estimated
changes in NPV resulting from instantaneous and sustained parallel shifts in the
yield curve, as calculated by the OTS.
Change in Estimated Net Portfolio Value
Interest Rates $ Amount$ Change% Change
- -------------- --------- -------- -------
(Basis Points) (Dollars in Thousands)
+400 $ 5,332 $ (6,889) (56) %
+300 7,594 (4,626) (38)
+200 9,537 (2,683) (22)
+100 1,090 (1,130) (9)
(4) 12,220 - -
-100 13,010 790 6
-200 13,736 1,516 12
-300 14,726 2,506 21
-400 16,014 3,794 31
Certain assumptions utilized by the OTS in calculating the interest rate risk of
thrift institutions were used in preparing the data for the Bank included in the
preceding table. These assumptions relate to interest rates, loan prepayment
rates, deposit decay rates, and the market values of certain assets under the
various interest rate scenarios. It was also assumed that delinquency rates will
not change as a result of changes in interest rates, although there can be no
assurance that this will be the case. Even if interest rates changed as shown
above there can be no assurance that the Bank's assets and liabilities would
perform as set forth above.
Interest rate risk is the most significant market risk affecting the Company.
Other types of market risk, such as foreign currency exchange rate risk and
commodity price risk, do not arise in the normal course of the Company's
business activities.
48
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
49
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Consolidated Financial Statements
December 31, 1997, 1996 and 1995
With Independent Auditors' Report Thereon
Independent Auditors' Report
--------------------------
Board of Directors
Federal Trust Corporation and Subsidiaries:
We have audited the consolidated balance sheets of Federal Trust Corporation and
subsidiaries as of December 31, 1997 and 1996, and the related consolidated
statements of operations, stockholders' equity and cash flows for each of the
years in the three-year period ended December_31, 1997. These consolidated
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Federal Trust
Corporation and subsidiaries at December 31, 1997 and 1996 and the results of
their operations and their cash flows for each of the years in the three year
period ended December 31, 1997, in conformity with generally accepted accounting
principles.
February 13, 1998, except as to Note 16 which
is as of March 18, 1998
Orlando, Florida
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Consolidated Balance Sheets
December 31, 1997 and 1996
Assets 1997 1996
----- ---- ----
Cash $ 446,134 628,648
Interest-bearing deposits 3,555,916 4,837,114
Investment securities available for sale 3,301,844 8,763,641
Investment securities held to maturity 6,368,111 6,290,610
Loans, less allowance for loan losses of $1,110,521 and $1,533,003 in 1997
and 1996, respectively 121,908,816 112,547,266
Accrued interest receivable on loans 846,396 833,458
Accrued interest receivable on investment securities 157,155 196,171
Accounts receivable 39,533 143,048
Note receivable 75,000 305,354
Office facilities and equipment, net 814,325 917,572
Real estate owned 1,389,900 1,508,166
Federal Home Loan Bank stock, at cost 1,427,500 1,253,200
Prepaid expenses and other assets 377,482 228,113
Executive supplemental income plan - cash surrender value life insurance policies 1,071,443 -
Deferred income taxes 803,977 1,129,696
---------- ----------
$ 142,583,532 139,582,057
---------- ----------
Liabilities and Stockholders' Equity
-------------------------------
Liabilities:
Deposits $ 104,890,163 106,119,006
Official checks 1,208,607 646,235
Federal Home Loan Bank advances 23,000,000 24,800,000
Advance payments by borrowers for taxes and insurance 336,406 347,774
Accrued expenses and other liabilities 577,694 504,414
---------- ----------
Total liabilities 130,012,870 132,417,429
---------- ----------
Stockholders' equity:
Common stock, $.01 par value, 5,000,000 shares authorized; 4,941,547 and 2,256,505
shares issued and outstanding at December 31, 1997 and 1996, respectively 49,416 22,565
Additional paid-in capital 15,857,532 11,143,659
Accumulated deficit (2,912,142) (3,226,204)
Treasury stock (16,577 shares of common stock, at cost, at December 31, 1997
and 1996) - (76,525)
Unrealized loss on investment securities, net (30,035) (210,224)
Unrealized loss on investment securities transferred from available for sale to held
to maturity, net (394,109) (488,643)
---------- ----------
Total stockholders' equity 12,570,662 7,164,628
Commitments and contingencies
---------- ----------
Total liabilities and stockholders' equity $ 142,583,532 139,582,057
---------- ----------
See accompanying notes to consolidated financial statements.
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Consolidated Statements of Operations
For each of the years in the three-year period ended December 31, 1997
1997 1996 1995
---- ---- ----
Interest income:
Loans $ 9,302,807 9,039,426 9,001,646
Investment securities 619,706 675,279 1,289,085
Interest-bearing deposits and other 236,833 222,255 318,656
--------- -------- ---------
Total interest income 10,159,346 9,936,960 10,609,387
--------- -------- ---------
Interest expense:
Deposit accounts 5,774,684 5,760,390 6,213,679
FHLB advances, notes payable and other borrowings 1,401,294 1,277,492 1,812,655
--------- -------- ---------
Total interest expense 7,175,978 7,037,882 8,026,334
--------- -------- ---------
Net interest income 2,983,368 2,899,078 2,583,053
Provision for loan losses 93,132 279,596 779,415
--------- -------- ---------
Net interest income after provision for loan losses 2,890,236 2,619,482 1,803,638
--------- -------- ---------
Other income:
Fees and service charges 226,928 163,010 187,782
Rent income - - 88,171
Gain on sale of loans 55,618 182,045 150,664
Gain on sale of other real estate, net 490,049 48,574 43,056
Other 79,751 33,078 35,751
--------- -------- ---------
Total other income 852,346 426,707 505,424
--------- -------- ---------
Other expenses:
Salary and employee benefits 1,419,972 1,173,742 1,437,633
Deposit insurance premiums 284,728 1,017,902 307,487
Occupancy and equipment 488,168 594,703 713,086
Legal and professional 189,881 392,775 883,331
Real estate owned expenses 123,369 251,156 653,776
General and administrative expenses 195,448 172,430 296,872
Loss on disposal of fixed assets, net - 152,621 -
Loss on sale of investment securities available for sale 125,625 12,344 942,500
Loss on sale of real estate - - 122,222
Other 329,511 468,819 433,684
--------- -------- ---------
Total other expenses 3,156,502 4,236,492 5,790,591
--------- -------- ---------
Net income (loss) before income taxes 586,080 (1,190,303) (3,481,529)
Income tax (expense) benefit (228,648) 213,800 1,231,828
--------- -------- ---------
Net income (loss) $ 357,432 (976,503) (2,249,701)
--------- -------- ---------
Basic and diluted earning (loss) per share $ .15 (.43) (1.00)
--------- -------- ---------
Weighted average shares outstanding 2,455,125 2,256,505 2,256,505
--------- -------- ---------
See accompanying notes to consolidated financial statements.
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Consolidated Statements of Cash Flows
For each of the years in the three year period ended December 31, 1997
1997 1996 1995
---- ---- ----
Cash flows provided by (used in) operating activities:
Net income (loss) $ 357,432 (976,503) (2,249,701)
Adjustments to reconcile net income (loss) to net cash
flows from operations:
Loss on sale of investment securities available for sale 125,625 12,344 942,500
Provision for losses on loans and real estate owned 93,132 428,897 1,098,119
Amortization of premium on purchased loans 214,375 241,747 428,853
Deferred income taxes 228,471 (213,800) (171,747)
Depreciation of office facilities and equipment 157,154 159,564 179,416
Gain on sale of loans (55,618) (182,045) (150,664)
Net amortization of fees and discounts on loans (49,689) (89,405) (84,930)
Net (gain) loss on the sale of real estate owned (490,049) (48,574) 75,374
Write-down on other real estate owned 86,868 257,921 --
Net amortization of premiums and accretion
of discounts on investment securities -- -- 14,574
Net loss on disposal of office facilities and equipment -- 155,347 371
Executive supplemental income plan (1,071,443) -- --
Cash provided by (used in) changes in:
Accrued interest receivable on loans (12,938) (9,128) (159,546)
Accrued interest receivable on investment securities 39,016 (16,297) 383,380
Accounts receivable 103,515 (143,048) 19,787
Loan sale proceeds receivable -- 37,765 2,453,594
Prepaid expenses and other assets (149,369) 130,352 (80,877)
Income tax refund receivable -- 1,073,253 (976,558)
Official checks 562,372 (49,097) 221,388
Accrued expenses and other liabilities 73,280 (175,939) 100,481
Accrued interest on deposit accounts -- (7,831) 931
----------- ----------- -----------
Net cash provided by operating activities 212,134 585,523 2,044,745
----------- ----------- -----------
(Continued)
2
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Consolidated Statements of Cash Flows, Continued
1997 1996 1995
---- ---- ----
Cash flows provided by (used in) investing activities:
Long-term loans originated or purchased, net of principal
repayments (17,621,045) (7,394,909) (9,330,970)
Proceeds from sale of investment securities, available
for sale 5,624,375 987,656 6,307,501
Proceeds from the sale of other real estate owned 1,375,614 1,014,345 3,139,470
Proceeds from loans sold 7,245,627 7,942,943 2,855,234
Capitalized costs on other real estate owned (42,499) (27,504) (154,961)
Notes receivable, net of repayments 230,354 (305,354) --
Proceeds from the sale (purchase) of Federal Home
Loan Bank stock (174,300) 600,000 121,800
Purchase of premises and equipment (53,907) (21,353) (36,951)
Proceeds from sale of property and equipment -- 80,844 26,967
Maturities of investment securities held to maturity 6,267 12,826 24,968
------------ ------------ ------------
Net cash provided by (used in) investing activities (3,409,514) 2,889,494 2,953,058
------------ ------------ ------------
Cash flows provided by (used in) financing activities: Deposit accounts:
(Decrease) increase in certificate accounts (1,022,039) (3,613,173) 12,625,716
Net increase (decrease) in deposits (206,804) 536,887 (4,951,858)
Proceeds from (repayment) of FHLB advances (1,800,000) 3,800,000 (18,500,000)
Net increase (decrease) in advance payments by
borrowers for taxes and insurance (11,368) 17,270 (106,305)
Repayment of debentures -- (420,000) --
Issuance of capital stock, net of stock issuance costs 4,773,879 -- --
------------ ------------ ------------
Net cash provided by (used in) financing activities 1,733,668 320,984 (10,932,431)
------------ ------------ ------------
Net increase (decrease) in cash and cash
equivalents (1,463,712) 3,796,001 (5,934,628)
Cash and cash equivalents at beginning of period 5,465,762 1,669,761 7,604,389
------------ ------------ ------------
Cash and cash equivalents at end of period $ 4,002,050 5,465,762 1,669,761
------------ ------------ ------------
(Continued)
3
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Consolidated Statements of Cash Flows, Continued
1997 1996 1995
---- ---- ----
Supplemental disclosures of cash flow information: Cash paid during the period
for:
Interest $ 7,130,106 7,003,551 8,291,649
----------- ----------- -----------
Income taxes $ 10,000 -- --
----------- ----------- -----------
Supplemental disclosures of non-cash transactions:
Real estate acquired in settlement of loans $ 2,995,488 860,613 3,780,216
----------- ----------- -----------
Loans acquired in settlement of other real estate owned $ 2,043,890 1,300,066 --
----------- ----------- -----------
Transfer of investment securities held to maturity to
investment securities available for sale $ -- -- 24,350,000
----------- ----------- -----------
Market value adjustment - investment securities available for sale:
Market value adjustment - investments (48,156) (336,359) (1,181,624)
Deferred income tax asset (18,121) (126,135) (401,752)
----------- ----------- -----------
Unrealized loss on investment securities
available for sale, net $ (30,035) (210,224) (779,872)
----------- ----------- -----------
Unrealized loss on investment securities
transferred from available for sale to held
to maturity (631,889) (715,657) --
Deferred income tax asset (237,780) (227,014) --
----------- ----------- -----------
Unrealized loss on investment securities
transferred from available for sale to
held to maturity $ (394,109) (488,643) --
----------- ----------- -----------
See accompanying notes to consolidated financial statements.
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 1997 and 1996
(1) Organization and Summary of Significant Accounting Policies
(a) Organization
Federal Trust Corporation (the "Holding Company"), is the sole
shareholder of Federal Trust Bank (the "Bank"). The Holding
Company operates as a unitary savings and loan holding company.
The Holding Company's business activities primarily include the
operation of the Bank.
During the current year the Holding Company sold a subsidiary,
Federal Trust Properties Corp. ("FTPC"), a real estate holding and
development company for book value. In addition, the Holding
Company dissolved its other subsidiary, 1270 Leasing Company
("1270 LC"), a real estate leasing entity. The assets of 1270 LC
were transferred to the Bank or written-off. Operations of these
subsidiaries were not significant to the consolidated entity.
The Bank was chartered as a federal stock savings bank. The Bank
provides a wide range of banking services to individual and
corporate customers.
(b) Basis of Financial Statement Presentation
The consolidated financial statements include the accounts of the
Holding Company and its subsidiaries. All significant intercompany
accounts and transactions have been eliminated in consolidation.
The accounting and reporting policies of Federal Trust Corporation
and subsidiaries (collectively called the "Company") conform to
generally accepted accounting principles. The following summarizes
the more significant of these policies and practices.
(c) Cash and Cash Equivalents
For the purposes of reporting cash flows, cash and cash
equivalents includes cash and interest-bearing deposits with
maturities of three months or less.
(Continued)
-2-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(d) Federal Home Loan Bank ("FHLB") Stock
This asset is owned due to regulatory requirements and is carried
at cost. This stock is pledged as collateral to secure FHLB
advances.
(e) Investment Securities Held to Maturity and Investment Securities
Available for Sale
Certain securities are reported at fair value except for those
securities which the Company has the positive intent and ability
to hold to maturity. Investments to be held for indefinite periods
of time and not intended to be held to maturity are classified as
available for sale and are carried at fair value. Unrealized
holding gains and losses are included in stockholders' equity net
of the effect of income taxes.
Securities that management has the intent and the Company has the
ability at the time of purchase or origination to hold until
maturity are classified as investment securities held to maturity.
Securities in this category are carried at amortized cost adjusted
for accretion of discounts and amortization of premiums using the
level yield method over the estimated life of the securities. If a
security has a decline in fair value below its amortized cost that
is other than temporary, then the security will be written down to
its new cost basis by recording a loss in the consolidated
statements of operations. Realized gains and losses on investment
securities available for sale are computed using the specific
identification method.
(f) Loans
Loans receivable that the Bank has the intent and ability to hold
until maturity or payoff are reported at their outstanding unpaid
principal balance reduced by any charge-offs or specific valuation
accounts, net of any deferred fees on originated loans.
Loan origination fees and certain direct loan origination costs
are capitalized and recognized in income over the contractual life
of the loans, adjusted for estimated prepayments based on the
Bank's historical prepayment experience. If the loan is prepaid,
the remaining unamortized fees and costs are charged to
operations. Amortization is ceased on nonaccrual loans.
(Continued)
-3-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Commitment fees and costs relating to the commitments are
recognized over the commitment period on a straight-line basis. If
the commitment is exercised during the commitment period, the
remaining unamortized commitment fee at the time of exercise is
recognized over the life of the loan as an adjustment of yield.
Loans are placed on nonaccrual status when the loan becomes 90
days past due as to interest or principal, unless the loan is both
well secured and in the process of collection, or when the full
timely collection of interest or principal becomes uncertain. When
a loan is placed on nonaccrual status, the accrued and unpaid
interest receivable is written off and the loan is accounted for
on the cash or cost recovery method thereafter until qualifying
for return to accrual status.
The Company considers a loan to be impaired when it is probable
that the Company will be unable to collect all amounts due, both
principal and interest, according to the contractual terms of the
loan agreement. When a loan is impaired, the Company may measure
impairment based on (a) the present value of the expected future
cash flows of the impaired loan discounted at the loan's original
effective interest rate, (b) the observable market price of the
impaired loans, or (c) the fair value of the collateral of a
collateral-dependent loan. The Company selects the measurement
method on a loan-by-loan basis, except for collateral- dependent
loans for which foreclosure is probable must be measured at the
fair value of the collateral. In a troubled debt restructuring
involving a restructured loan, the Company measures impairment by
discounting the total expected future cash flows at the loan's
original effective rate of interest.
(g) Allowance for Loan Losses
The Company follows a consistent procedural discipline and
accounts for loan loss contingencies in accordance with Statement
of Financial Accounting Standards No. 5, "Accounting for
Contingencies" (Statement 5). The following is a description of
how each portion of the allowance for loan losses is determined.
(Continued)
-4-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The Company segregates the loan portfolio for loan loss purposes
into the following broad segments such as: commercial real estate;
residential real estate; commercial business; and consumer loan.
The Company provides for a general allowance for losses inherent
in the portfolio by the above categories, which consists of two
components. General loss percentages are calculated based upon
historical analyses. A supplemental portion of the allowance is
calculated for inherent losses which probably exist as of the
evaluation date even though they might not have been identified by
the more objective processes used for the portion of the allowance
described above. This is due to the risk of error and/or inherent
imprecision in the process. This portion of the allowance is
particularly subjective and requires judgments based on
qualitative factors which do not lend themselves to exact
mathematical calculations such as; trends in delinquencies and
nonaccruals; migration trends in the portfolio; trends in volume,
terms, and portfolio mix; new credit products and/or changes in
the geographic distribution of those products; changes in lending
policies and procedures; loan review reports on the efficacy of
the risk identification process; changes in the outlook for local,
regional and national economic conditions; concentrations of
credit; and peer group comparisons.
Specific allowances are provided in the event that the specific
collateral analysis on each classified loan indicates that the
probably loss upon liquidation of collateral would be in excess of
the general percentage allocation. The provision for loan loss is
debited or credited in order to state the allowance for loan
losses to the required level as determined above.
(h) Mortgage Servicing Rights
The Bank originates mortgage servicing rights by selling loans and
retaining servicing rights. In May 1995, the Financial Accounting
Standards Board ("FASB") issued Statement of financial Accounting
Standards ("Statement") No. 122, "Accounting for Mortgage
Servicing Rights". This Statement provides guidance for the
recognition of mortgage servicing rights as an asset when a
mortgage loan is sold and servicing rights are retained. The Bank
adopted this standards effective January 1, 1996. The results of
this adoption was to capitalize approximately $70,303 in mortgage
servicing rights related to loans originated by the Bank in 1996.
The carrying value of mortgage servicing rights is amortized over
the life of the related loan portfolio.
(Continued)
-5-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(i) Real Estate Owned
Real estate acquired in the settlement of loans is initially
recorded at the lower of cost (principal balance of the former
loan plus costs of obtaining title and possession) or estimated
fair value at the date of acquisition. Subsequently, such real
estate acquired is carried at the lower of cost or fair value less
estimated costs to sell. Costs relating to development and
improvement of the property are capitalized, whereas those
relating to holding the property are charged to operations.
(j) Office Facilities and Equipment
Office facilities and equipment are stated at cost less
accumulated depreciation and amortization. Depreciation is
computed using the straight-line method over the estimated useful
lives of the related assets. Leasehold improvements are stated at
cost less accumulated amortization. Amortization of leasehold
improvements is computed using the straight-line method over the
lesser of the estimated useful life or the respective lease terms.
(k) Income Taxes
The Holding Company and its subsidiaries file a consolidated
income tax return. Income taxes are allocated proportionately to
the Holding Company and its subsidiaries as though separate income
tax returns were filed.
The Company accounts for income taxes under the asset and
liability method. Deferred tax assets and liabilities are
recognized for the future tax consequences attributable to
differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases.
Deferred tax assets and liabilities are measured using enacted tax
rates expected to apply to taxable income in the years in which
those temporary differences are expected to be recovered or
settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that
included the enactment date.
(Continued)
-6-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(l) Derivative Instruments
The Company does not purchase, sell or enter into derivative
financial instruments or derivative commodity instruments as
defined by Statement of Financial Accounting Standards No. 119,
"Disclosures about Derivative Financial Instruments and Fair Value
of Financial Instruments", except for fixed rate loan commitments
which the Company believes are at market value, and dual index
bonds disclosed in note 2.
(m) Use of Estimates
The preparation of financial statements in conformity with
generally accepted accounting principles requires management to
make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the
reported amount of revenues and expenses during the reporting
period. The most significant estimates made by management are the
determination of the adequacy of the allowance for loan losses,
that real estate owned is stated at the lower of cost or fair
value, and the recoverability of the deferred tax asset. Actual
results could differ from these estimates.
(n) Effect of New Accounting Pronouncements
In June 1996, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards No. 125,
"Accounting for Transfers and Servicing of Financial Assets and
Extinguishment of Liabilities". This Statement provides accounting
and reporting standards for transfers and servicing of financial
assets and extinguishments of liabilities. Those standards are
based on consistent application of a financial-components approach
that focuses on control. Under that approach, after a transfer of
financial 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. This Statement
provides consistent standards for distinguishing transfers of
financial assets that are sales from transfers that are secured
borrowings.
The Company adopted this Statement as of January 1, 1997. The
adoption of this Statement did not have a material impact on the
financial position or results of operations of the Company.
(Continued)
-7-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
In February 1997, the FASB issued SFAS No. 128, "Earnings Per
Share." SFAS No. 128 establishes new standards for computing and
presenting earnings per share ("EPS"). SFAS No. 128 is effective
for financial statements issued for periods ending after December
15, 1997. The standards also requires the restatement of all
prior-period EPS data presented in the financial statements. The
Company adopted SFAS No. 128 as of January 1, 1997. The adoption
of this standards had no impact on its earnings per share of the
Company. The Company has no dilutive securities.
In June 1997, the FASB issued SFAS No. 130, "Reporting
Comprehensive Income." This statement establishes standards for
reporting and display of comprehensive income and its components
(revenues, expenses, gains and losses) in a full set of
general-purpose financial statements. This statement requires that
all items that are required to be recognized under accounting
standards as components of comprehensive income be reported in a
financial statement that is displayed with the same prominence as
other financial statements. The statement also requires that an
enterprise (a) classify items of other comprehensive income by
their nature in a financial statement and (b) display the
accumulated balance of other income separately from retained
earnings and additional paid-in capital in the equity section of a
statement of financial position. The statement is required for
fiscal years beginning after December 15, 1997. The adoption of
this standard will require the Company to disclose as a component
of comprehensive income the activity in its unrealized gain or
loss on investment securities available for sale.
In June 1997, the FASB issued SFAS No. 131, "Disclosures about
Segments of an Enterprise and Related Information." This statement
establishes standards for the way that public business enterprises
report information about operating segments in annual financial
statements and requires that those enterprises report selected
information about operating segments in interim financial reports
issued to shareholders. The statement is required for fiscal years
beginning after December 15, 1997. The Company does not anticipate
adoption of this standard will have a significant impact on its
consolidated financial statements.
(Continued)
-8-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(2) Investment Securities Held to Maturity and Investments Securities
Available for Sale
The amortized cost and estimated market values of investment securities
held to maturity and available for sale at December_31, 1997 and 1996
are as follows:
Investment securities held to maturity:
Gross
Amortized unrealized Estimated
cost gain/(loss) market value
--- --------- -----------
1997:
Obligation of U.S. government agencies $ 6,368,111 56,577 6,424,688
----------- ----------- -----------
1996:
Obligation of U.S. government agencies 6,284,343 (17,155) 6,267,188
Other 6,267 -- 6,267
----------- ----------- -----------
$ 6,290,610 (17,155) 6,273,455
----------- ----------- -----------
Investment securities available for sale:
1997:
Obligations of U.S. government agencies $ 3,350,000 (48,156) 3,301,844
----------- ----------- -----------
1996:
Obligations of U.S. government agencies $ 9,100,000 (336,359) 8,763,641
----------- ----------- -----------
(Continued)
-9-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The amortized cost and estimated market value of investment securities
held to maturity and investment securities available for sale at
December_31, 1997, by contractual maturity, are below. Expected
maturities will differ from contractual maturities because borrowers may
have the right to call or prepay obligations with or without call or
prepayment penalties.
Amortized Estimated
cost market value
---- ------------
Investment securities held to maturity:
Due after five years through ten years $ 6,368,111 6,424,688
-------- --------
Investment securities available for sale:
Due in one year or less $ 3,350,000 3,301,844
-------- --------
Market values for all securities were calculated using published prices
or the equivalent at December_31, 1997.
The Company's investment in obligations of U.S. government agencies
consist of dual indexed bonds issued by the Federal Home Loan Bank. The
bonds have a par value of $10,350,000 and pay interest based on the
difference between two indices. The bonds at December 31, 1997, pay
interest at the 10 year constant maturity treasury rate less the 3 month
or 6 month LIBOR rate plus a contractual amount ranging from 2.75% to
4.00%. The Company purchased the bonds to partially offset its risk
related to its portfolio of adjustable rate mortgages and as such
subjects the Company to a certain degree of market risk as the indices
change with prevailing market interest rates.
Proceeds from sales of investment securities available for sale were
$5,624,375, $987,656 and $6,307,501 in 1997, 1996 and 1995,
respectively. Gross realized losses on sales of investment securities
available for sale during 1997, 1996 and 1995 were $125,625, $12,344 and
$942,500, respectively.
In November 1995, the Company transferred investment securities
classified as held to maturity to investment securities available for
sale in accordance with guidelines issued by the Financial Accounting
Standards Board which permitted such a one-time election. The amortized
cost of the investment securities transferred was $24,350,000 and the
estimated market value was $22,283,281 and the unrealized loss was
$2,066,719.
(Continued)
-10-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
In March 1996, the Company transferred securities in the amount of
$7,000,000 from the available for sale category to the held to maturity
category resulting in an unrealized loss of $780,937 which remains in
equity, net of amortization and income tax. Amortization is an
adjustment to yield over the remaining term of the investments.
(3) Loans Receivable, Net
A summary of loans receivable at December 31, 1997 and 1996 follows:
1997 1996
---- ----
Mortgage loans:
Permanent conventional:
Commercial $ 12,891,454 11,294,679
Residential 105,943,147 97,717,708
Residential construction conventional 3,159,774 3,795,050
------------ ------------
Total mortgage loans 121,994,375 112,807,437
Commercial loans 490,417 1,349,483
Consumer loans 745,806 154,445
Lines of credit 569,604 686,072
------------ ------------
Total loans receivable 123,800,202 114,997,437
Net premium on mortgage loans purchased 1,370,337 1,154,942
Deduct:
Unearned loan origination fees, net of direct loan
origination costs 13,577 169,854
Undisbursed portion of loans in process 2,137,625 1,902,256
Allowance for loan losses 1,110,521 1,533,003
------------ ------------
Loans receivable, net $121,908,816 112,547,266
------------ ------------
(Continued)
-11-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The following is a summary of information regarding nonaccrual and
impaired loans as of December 31:
1997 1996 1995
---- ---- ----
Nonaccrual loans $ 1,283,000 991,000 3,326,600
-------- -------- --------
Recorded investment in impaired loans $ 1,819,285 4,078,174 6,122,356
-------- -------- --------
Allowance for loan losses related to
impaired loans $ 349,452 626,435 1,319,343
-------- -------- --------
Interest Interest Average
income income recorded
not recognized recognized on investment
on nonaccrual impaired in impaired
loans loans loans
----- ----- -----
For the years ended December 31:
1997 $ 149,000 89,077 2,136,289
------- ------- --------
1996 $ 181,000 259,263 5,072,872
------- ------- --------
1995 $ 381,000 338,997 6,032,515
------- ------- --------
(Continued)
-12-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The activity in the allowance for loan losses for the years ended
December_31, 1997, 1996 and 1995 is as follows:
1997 1996 1995
---- ---- ----
Balance at beginning of period $ 1,533,003 2,060,568 1,974,950
Charge-offs (529,777) (1,223,240) (707,222)
Provision for loan losses 93,132 279,596 779,415
Recoveries 14,163 266,778 13,425
Transfer from allowance for real estate owned - 149,301 -
-------- -------- --------
Balance at end of period $ 1,110,521 1,533,003 2,060,568
-------- -------- --------
Loan customers of the Bank include certain executive officers and
directors and their related interests and associates. All loans to this
group were made in the ordinary course of business at prevailing terms
and conditions.
There were no outstanding loans to executive officers, directors and
affiliates at December 31, 1997 or 1996.
(4) Loan Servicing
Mortgage loans serviced for others are not included in the accompanying
consolidated balance sheets. The unpaid principal balances of these
loans were $9,749,927 and $7,915,631 at December 31, 1997 and 1996,
respectively. Servicing fees earned were $28,633, $22,086 and $22,026
for the years ended December 31, 1997, 1996 and 1995, respectively.
(Continued)
-13-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(5) Mortgage Servicing Rights
An analysis of the activity for originated mortgage servicing rights for
the year ended December 31, 1997 is as follows:
Balance as of adoption of Statement of Financial Standards
No. 122 on January 1, 1996 $ -
Originations 70,303
Amortization (2,672)
------
Balance, January 1, 1997 67,631
Originations 28,811
Amortization (8,773)
------
Balance, December 31, 1997 $ 87,669
------
Mortgage servicing rights are included in prepaid expenses and
other assets in the consolidated balance sheets.
(6) Office Facilities and Equipment
Office facilities and equipment and their related accumulated
depreciation and amortization at December_31, 1997 and 1996 are
summarized as follows:
Estimated
1997 1996 useful lives
---- ---- ----------
Leasehold improvements $ 1,037,991 1,035,861 3-25 years
Furniture and fixtures 569,772 542,727 3-7 years
-------- --------
1,607,763 1,578,588
Less accumulated depreciation and amortization 793,438 661,016
-------- --------
Office facilities and equipment, net $ 814,325 917,572
-------- --------
(Continued)
-14-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(7) Deposits
A summary of deposits at December 31, 1997 and 1996 follows:
Weighted Weighted
average average
interest interest
1997 rate 1996 rate
---- ---- ---- ---
Commercial checking accounts -
noninterest-bearing $ 125,870 - % $ 58,994 - %
NOW accounts 889,551 1.58% 654,473 1.79%
Money market deposit accounts 7,246,449 4.02% 7,428,630 4.02%
Statement savings accounts 1,035,282 2.57% 1,363,750 2.58%
---------- ---- ---------- ----
9,297,152 3.60% 9,505,847 3.59%
---------- ---- ---------- ----
Certificate accounts by interest rates:
1.00% - 3.99% 442,782 499,355
4.00% - 4.99% 1,149,652 3,076,939
5.00% - 5.99% 79,489,822 78,123,278
6.00% - 7.99% 14,504,969 14,909,692
---------- ----------
Total certificate accounts 95,587,225 5.69% 96,609,264 5.56%
---------- ---- ---------- ----
Accrued interest 5,786 3,895
---------- ----------
Total deposits $ 104,890,163 5.48% $ 106,119,006 5.38%
---------- ---- ---------- ----
(Continued)
-15-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The following table presents, by various interest rate categories, the
amount of certificate accounts maturing during the periods reflected
below:
Interest rate 1998 1999 2000 2001 2002 2003 Total
----------- ---- ---- ---- ---- ---- ---- -----
1.00% - 3.99% $ 386,525 44,477 4,134 3,452 932 3,261 442,781
4.00% - 4.99% 1,147,969 1,684 -- -- -- -- 1,149,653
5.00% - 5.99% 65,672,152 10,989,046 1,621,121 776,518 430,985 -- 79,489,822
6.00% - 6.99% 10,482,602 2,974,159 742,898 207,310 -- -- 14,406,969
7.00% - 7.99% 98,000 -- -- -- -- -- 98,000
----------- ----------- ----------- ----------- ----------- ----------- -----------
$77,787,248 14,009,366 2,368,153 987,280 431,917 3,261 95,587,225
----------- ----------- ----------- ----------- ----------- ----------- -----------
The Company's large denomination ($100,000 and over) deposits included in
certificate accounts mature as follows:
At December 31, 1997 At December 31, 1996
------------------- -------------------
Amount % total Amount % total
------ ------- ------ -------
Three months or less $ 4,214,446 22.1% $ 3,952,908 21.5%
Over three months to six months 5,303,940 27.8% 5,844,172 31.9%
Over six months to twelve months 5,351,174 28.0% 4,707,383 25.7%
Over twelve months 4,207,654 22.1% 3,829,936 20.9%
----------- ----- ----------- -----
$19,077,214 100.0% $18,334,399 100.0%
----------- ----- ----------- -----
Interest expense on deposits for the years ended December 31, 1997, 1996
and 1995 is as follows:
1997 1996 1995
---- ---- ----
Interest on NOW and Super NOW accounts $ 13,187 9,511 5,624
Interest on money market accounts 288,745 256,130 254,271
Interest on savings accounts 32,708 43,335 91,557
Interest on certificate accounts, net of penalties 5,440,044 5,451,414 5,862,227
-------- -------- --------
$ 5,774,684 5,760,390 6,213,679
-------- -------- --------
(Continued)
-16-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(8) Federal Home Loan Bank Advances
A summary of advances from the Federal Home Loan Bank of Atlanta at December
31, 1997 and 1996 follows:
Maturing in year Interest rate
ending December 31, (variable rates) December 31, 1997
------------------ ------------- ----------------
1998 (6.50) $ 5,500,000
1998 6.00 5,000,000
1998 6.02 2,500,000
1998 6.12 5,000,000
1998 5.88 5,000,000
---------
$ 23,000,000
---------
Maturing in year Interest rate
ending December 31, (variable rates) December 31, 1996
------------------ ------------- ----------------
1997 6.01 $ 10,000,000
1997 5.86 5,000,000
1997 (6.95) 4,800,000
1998 6.12 5,000,000
---------
$ 24,800,000
---------
Pursuant to collateral agreements with the Federal Home Loan Bank
("FHLB"), advances are secured by the following at December 31:
1997 1996
---- ----
FHLB stock $ 1,427,500 1,253,200
Qualifying mortgage loans 31,139,250 34,588,904
Investment securities:
Amortized cost 3,547,948 6,284,343
Market value 3,579,469 6,267,188
--------- ---------
(Continued)
-17-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(9) Fair Value of Financial Instruments
The following methods and assumptions were used by the Company in
estimating fair values of financial instruments as disclosed herein:
Cash and Cash Equivalents - The carrying amount of cash and cash
equivalents (demand deposits maintained by the Company at various
financial institutions) and interest bearing deposits represents fair
value.
Investment Securities Available for Sale and Held to Maturity - The
Company's investment securities available for sale represent
investments in Federal Home Loan Bank ("FHLB") bonds. The fair value
of the FHLB bonds was based on quoted market prices. The Company's
investments held to maturity represent investments in Orange County,
Florida Tax Certificates and FHLB bonds. The carrying value of tax
certificates approximates the fair value. The fair value of FHLB
bonds was based on quoted market prices.
Federal Home Loan Bank Stock - Fair value approximates carrying
value.
Loans - For variable rate loans that reprice frequently and have no
significant change in credit risk, fair values are based on carrying
values. Fair values for commercial real estate, commercial and
consumer loans other than variable rate loans are estimated using
discount cash flow analysis, using interest rates currently being
offered for loans with similar terms to borrowers of similar credit
quality. Fair values of impaired loans are estimated using discounted
cash flow analysis or underlying collateral values, where applicable.
Deposits - The fair values disclosed for demand deposits are, by
definition, equal to the amount payable on demand at December 31,
1997 (that is their carrying amounts). The carrying amounts of
variable rate, fixed term money market accounts and certificates of
deposit (CDs) approximate their fair value at the reporting date.
Fair values for fixed rate CDs are estimated using a discounted cash
flow calculation that applies interest rates currently being offered
on certificates to a schedule of aggregated expected monthly
maturities on time deposits.
(Continued)
-18-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Federal Home Loan Bank Advances - Fair value of Federal Home Loan
Bank advances are estimated using discounted cash flow analysis based
on the Company's current incremental borrowing rates for similar
types of borrowing arrangements.
Commitments - Fair values for off-balance-sheet lending commitments
are based on fees currently charged to enter into similar agreements,
taking into account the remaining terms of the agreements and the
counterparties' credit standing.
The estimated fair values of the Company's financial instruments are as
follows:
December 31, 1997
-----------------
Carrying amount Fair value
--------------- ---------
Financial assets:
Cash and cash equivalents $ 4,002,050 4,002,050
Investment securities available for sale 3,301,844 3,301,844
Investment securities held to maturity 6,368,111 6,424,688
Loans (carrying amount less allowance
for loan loss of $1,110,521) 121,908,816 123,050,866
Federal Home Loan Bank stock 1,427,500 1,427,500
Financial liabilities:
Deposits:
Without stated maturities $ 9,297,152 9,297,152
With stated maturities 97,587,225 95,866,182
Federal Home Loan Bank advances 23,000,000 23,026,953
Commitments:
Letters of credit $ -- --
Loan commitments -- --
(Continued)
-19-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 1996
-----------------
Carrying amount Fair value
--------------- ---------
Financial assets:
Cash and cash equivalents $ 5,465,762 5,465,762
Investment securities available for sale 8,763,641 8,763,641
Investment securities held to maturity 6,290,610 6,273,455
Loans (carrying amount less allowance
for loan loss of $1,533,003) 112,547,266 112,879,373
Federal Home Loan Bank stock 1,253,200 1,253,200
Financial liabilities:
Deposits:
Without stated maturities $ 9,505,847 9,505,847
With stated maturities 96,609,264 96,869,394
Federal Home Loan Bank advances 24,800,000 24,784,484
Commitments:
Letters of credit $ -- --
Loan commitments -- --
The carrying amounts shown in the table are included in the consolidated
balance sheets under the indicated captions.
-20-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(10) Income Taxes
Income tax for the years ended December 31, 1997, 1996 and 1995 consists
of:
Current Deferred Total
------- -------- -----
1997:
Federal $ 177 195,052 195,229
State -- 33,419 33,419
----------- ----------- -----------
Total $ 177 228,471 228,648
----------- ----------- -----------
1996:
Federal $ -- (213,800) (213,800)
State -- -- --
----------- ----------- -----------
Total $ -- (213,800) (213,800)
----------- ----------- -----------
1995:
Federal (1,060,081) (152,747) (1,212,828)
State -- (19,000) (19,000)
----------- ----------- -----------
Total $(1,060,081) (171,747) (1,231,828)
----------- ----------- -----------
(Continued)
-21-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The tax effects of temporary differences between the tax basis of assets
and liabilities and their financial reporting amounts which give rise to
significant portions of deferred tax assets and liabilities are as
follows:
1997 1996
---- ----
Deferred tax assets:
Allowance for loan losses $ 206,279 411,600
Unrealized loss on investment securities available for sale 255,901 353,149
Deferred loan fees -- 14,008
AMT credit carryforward 65,878 44,294
Real estate owned 55,710 --
Other 1,396 1,133
Net operating loss carryforward 750,255 782,467
----------- -----------
Gross deferred tax asset 1,335,421 1,606,651
Less valuation allowance (432,526) (432,526)
----------- -----------
902,895 1,174,125
----------- -----------
Deferred tax liabilities:
FHLB stock dividend (17,840) (18,846)
Mortgage servicing rights (32,989) --
Deferred loan fees (14,014) --
Depreciation (34,075) (25,583)
----------- -----------
(98,918) (44,429)
----------- -----------
Total $ 803,977 1,129,696
----------- -----------
At December 31, 1997, the Company has net operating loss carryovers
(NOL's) of approximately $1,889,000 for federal and $4,954,000 state tax
purposes, which expire between 2009 and 2011. In addition, the Company
has approximately $66,000 in alternative minimum tax (AMT) credit
carryforwards. A valuation allowance has been established for those NOL
and AMT carryovers that management believes are more likely than not to
be utilized prior to their expiration through future profitable
operations.
(Continued)
-22-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The Company's effective tax rate on pretax (loss) income for 1997, 1996
and 1995 differs from the statutory Federal income tax rate as follows:
1997 % 1996 % 1995 %
---- --- ---- --- ---- ---
Tax (benefit) provision at
statutory rate $ 199,268 34.0% $ (404,703) (34.0)% $(1,183,720) (34.0)%
Increase (decrease) in tax
resulting from:
Increase in valuation allowance - - 211,702 17.8 - -
State income taxes net of
federal income tax benefit 21,275 3.6 - - (107,473) (3.0)
Other 8,105 1.4 (20,799) (1.7) 59,365 1.7
------- ---- ------ ---- -------- ----
$ 228,648 39.0% $ (213,800) (17.9)% $(1,231,828) (35.3)%
------- ---- ------- ---- -------- ----
(11) Regulatory Capital
The Bank is subject to various regulatory capital requirements administered
by the federal banking agencies. Failure to meet minimum capital requirements
can initiate certain mandatory and possibly additional discretionary actions by
regulators that, if undertaken, could have a direct material effect on the
Bank's financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Bank must meet specific
capital guidelines that involve quantitative measures of the Bank's assets,
liabilities and certain off-balance-sheet items as calculated under regulatory
accounting practices. The Bank's capital amounts and classification are also
subject to qualitative judgments by the regulators about components, risk
weightings and other factors.
Quantitative measures established by regulation to ensure capital
adequacy require the Bank to maintain minimum amounts and ratios (set
forth in the table below) of total and Tier I capital (as defined in the
regulations) to risk-weighted assets.
(Continued)
-23-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The following table summarizes the capital thresholds for each prompt
corrective action capital category. An institution's capital category is
based on whether it meets the threshold for all three capital ratios
within the category:
To be adequately
capitalized under
For capital prompt corrective
Actual adequacy purposes action provisions
--------------- ----------------- ----------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
As of December 31, 1997:
Total capital (to risk
weighted assets) $12,062,756 14.99% $ 6,438,476 greater than 8.0% $ 6,438,476 greater than 8.0%
----------- -----------------
Tier I capital (to risk
weighted assets) 11,055,454 7.77% 5,693,782 greater than 4.0% 5,693,782 greater than 4.0%
----------- -----------------
Tier I capital (to average
assets) 11,055,454 7.77% 5,693,782 greater than 4.0% 5,693,782 greater than 4.0%
----------- -----------------
As of December 31, 1996:
Total capital (to risk
weighted assets) $ 7,485,055 9.92% $ 6,037,864 greater than 8.0% $ 6,037,864 greater than 8.0%
----------- -----------------
Tier I capital (to risk
weighted assets) 6,614,345 4.74% 5,584,341 greater than 4.0% 5,584,341 greater than 4.0%
----------- -----------------
Tier I capital (to average
assets) 6,614,345 4.74% 5,584,341 greater than 4.0% 5,584,341 greater than 4.0%
----------- -----------------
Management believes, as of December 31, 1997, that the Bank meets all
capital adequacy requirements to which it is subject.
(Continued)
-24-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(12) Commitments and Related Party Transactions
Future minimum lease payments under noncancelable leases, at December 31,
1997 are as follows:
Year ending December 31, Operating leases
----------------------- --------------
1998 $ 304,687
1999 304,687
2000 304,687
2001 27,076
2002 -
-------
Total minimum lease payments $ 941,137
-------
Rent expense amounted to $285,214, $351,150 and $334,834 and for the
years ended 1997, 1996 and 1995, respectively.
During 1990, the Company entered into a long-term lease obligation with
John Martin Bell, wife of the former president of the Company, James T.
Bell, and a stockholder and director of the Company for the use of the
building in Winter Park, Florida. Rent payments in the amount of
$296,339, $291,767 and $247,923 were made during the years ended December
31, 1997, 1996 and 1995, respectively.
(13) Parent Company Financial Information
The parent company financial information is as follows at December 31,
1997 and 1996:
Condensed Balance Sheets
----------------------
1997 1996
---- ----
Assets:
Cash, deposited with subsidiary $ 1,390,821 115,099
Prepaid expenses and other assets 41,000 79,303
Property, plant and equipment, net 332,290 377,678
Note receivable 75,000 305,354
Investment in subsidiaries 10,803,793 6,401,425
--------- ---------
$ 12,642,904 7,278,859
--------- ---------
(Continued)
-25-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Condensed Balance Sheets, Continued
--------------------------------
1997 1996
---- ----
Liabilities and stockholders' equity:
Accounts payable and accrued expenses $ 72,242 114,231
--------- ---------
Stockholders' equity:
Common stock 49,416 22,565
Additional paid-in capital 15,857,532 11,143,659
Accumulated deficit (2,912,142) (3,226,204)
Treasure stock - (76,525)
Unrealized loss on investment securities (424,144) (698,867)
--------- ---------
Total stockholders' equity 12,570,662 7,164,628
--------- ---------
$ 12,642,904 7,278,859
--------- ---------
Condensed Statements of Operations
-------------------------------
1997 1996 1995
---- ---- ----
Revenues:
Interest and dividend income $ 5,918 17,579 8,280
Other income 334,883 308,770 250,485
------- ------- --------
Total income 340,801 326,349 258,765
------- ------- --------
Expenses:
Compensation 42,372 114,985 230,279
Occupancy 343,810 442,483 420,285
Other expense 67,192 382,926 473,678
------- ------- --------
Total expenses 453,374 940,394 1,124,242
------- ------- --------
Loss before income from subsidiaries (112,573) (614,045) (865,477)
(Loss) income from subsidiaries 427,644 (362,458) (1,597,758)
------- ------- --------
Net income (loss) before income taxes 315,071 (976,503) (2,463,235)
Income tax (benefit) expense (42,361) - (213,534)
------- ------- --------
Net income (loss) $ 357,432 (976,503) (2,249,701)
------- ------- --------
(Continued)
-26-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Condensed Statements of Cash Flows
--------------------------------
1997 1996 1995
---- ---- ----
Cash flows provided by (used in) operating activities:
Net income (loss) $ 357,432 (976,503) (2,249,701)
Adjustments to reconcile net income (loss) to net
cash provided by (used in) operating activities:
Loss on disposal of premises and equipment - 154,327 371
Depreciation 69,693 59,800 74,672
Equity in undistributed loss (earnings)
of subsidiaries (427,644) 362,458 1,597,758
Cash provided by (used in) changes in:
Prepaid expenses and other assets 13,999 235,883 (95,498)
Investment in subsidiaries (3,700,000) 1,082,058 -
Due to subsidiaries - (103,000) (284,800)
Accounts payable and accrued expenses (41,989) (38,244) 152,475
-------- -------- --------
Net cash provided by (used in) by operating
activities (3,728,509) 776,779 (804,723)
-------- -------- --------
Cash flows provided by (used in) investing activities:
Notes receivable originated, net of repayments 230,354 (305,354) -
Purchase of property and equipment - (4,759) -
Proceeds from sale of property and equipment - 68,191 13,353
-------- -------- --------
Net cash provided by (used in)
investing activities 230,354 (241,922) 13,353
-------- -------- --------
(Continued)
-27-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Condensed Statements of Cash Flows, Continued
-------------------------------------------
1997 1996 1995
---- ---- ----
Cash flows (used in) provided by financing activities:
Proceeds from sale of stock, net of issuance costs 4,773,877 -- --
Repayment of debentures -- (420,000) --
----------- ----------- -----------
Net cash (used in) provided by financing
activities 4,773,877 (420,000) --
----------- ----------- -----------
Net increase (decrease) in cash and cash
equivalents 1,275,722 114,857 (791,370)
Cash and cash equivalents at beginning of year 115,099 242 791,612
----------- ----------- -----------
Cash and cash equivalents at end of year $ 1,390,821 115,099 242
----------- ----------- -----------
Supplemental disclosures of non-cash transactions:
Market value adjustment - investment securities
available for sale:
Market value adjustment - investments (48,156) (336,359) (1,181,624)
Deferred income tax asset (18,121) (126,135) (401,752)
----------- ----------- -----------
Unrealized loss on investment securities
available for sale, net $ (30,035) (210,224) (779,872)
----------- ----------- -----------
Unrealized loss on investment securities
transferred from available for sale to
held to maturity $ (631,889) (715,657) --
----------- ----------- -----------
The major sources of funds available to the Company for payment of
dividends are dividends from the Bank. The ability of the Bank to pay
dividends to the Holding Company is subject to the approval of the Office
of Thrift Supervision.
(Continued)
-28-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(14) Selected Quarterly Financial Data (Unaudited)
Summarized quarterly financial data follows (in thousands, except for per
share amounts):
Fourth quarter
---------------------------
1997 1996 1995
---- ---- ----
Interest income $ 2,639 2,460 2,548
Net interest income 824 685 516
Provision for loan losses (115) (311) 5
Income (loss) before income taxes 189 361 (1,806)
Net income (loss) 141 16 (1,177)
----- ----- -----
Basic and diluted earnings (loss) per share $ .05 .01 (.52)
----- ----- -----
Third quarter
------------------------
1997 1996 1995
---- ---- ----
Interest income $ 2,475 2,487 2,648
Net interest income 659 742 548
Provision for loan losses 30 441 42
(Loss) income before income taxes 154 (1,151) (624)
Net (loss) income 90 (737) (400)
----- ----- -----
Basic and diluted (loss) earnings per share $ .04 (.33) (.18)
----- ----- -----
Second quarter
------------------------
1997 1996 1995
---- ---- ----
Interest income $ 2,495 2,432 2,765
Net interest income 694 731 735
Provision for loan losses 41 132 730
(Loss) income before income taxes 66 (405) (1,006)
Net (loss) income 25 (259) (644)
----- ----- -----
Basic and diluted (loss) earnings per share $ .01 (.11) (.29)
----- ----- -----
(Continued)
-29-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
First quarter
-----------------------------------
1997 1996 1995
---- ---- ----
Interest income $ 2,550 2,558 2,648
Net interest income 827 741 784
Provision for loan losses (3) 18 2
Income (loss) before income taxes 177 5 (46)
Net income (loss) 101 3 (29)
----- ----- -----
Basic and diluted earnings (loss) per share $ .05 - (.01)
----- ----- -----
(15) Employee Stock Ownership Plan
The Company maintains a qualified employee stock ownership plan (the
"Plan"). The Plan is qualified under Section 4975(e)(7) of the Internal Revenue
Code, under which all of its subsidiaries may act as participating employees.
In addition, the Plan meets all applicable requirements of the Tax Reform Act
of 1986 and is qualified under Section 401(c) of the Internal Revenue Code.
At the discretion of the Board of Directors, the Company may make a
contribution to the Plan of up to 15% of total compensation paid to employees
during the year. Employees are 100% vested after five years of service. For the
years ended December 31, 1997, 1996 and 1995, the Company contributed cash to
the Plan of $50,782, $38,000 and $10,000, respectively.
(Continued)
-30-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(16) Regulation and Supervisory Agreement
The Bank is subject to extensive regulation, supervision and examination by
the Office of Thrift Supervision ("OTS"), its primary federal regulator, and
by the FDIC, which insures deposits up to applicable limits. Such regulation
and supervision establishes a comprehensive framework of activities in which
a bank may engage and is intended primarily for the protection of the SAIF
administered by the FDIC and depositors. During the year ended December 31,
1996, the FDIC imposed a one-time assessment on all SAIF-insured deposits in
the amount of 65.7 cents per $100 of insured deposits, held as of March 31,
1995. The effect of this assessment resulted in a pre-tax charge to income of
$716,498. As a thrift holding company, the Holding Company also is subject to
extensive regulation, supervision and examination by the OTS and, to a lesser
extent, the FDIC.
The Bank and the Holding Company are subject to periodic examinations by
the OTS. Examinations to prior years resulted in the Bank entering into a
supervisory agreement in 1993 and the OTS issuing a Supervisory Order to
Cease and Desist (the "Order") to both the Bank and the Holding Company
in 1994. The 1996 examination found the Bank and Holding Company to be in
compliance with the Order and upgraded the Holding Company rating to
satisfactory. During 1997, the OTS completed a regular examination of the
Bank and Holding Company and again found them to be in compliance with
the Orders. In letter dated March 18, 1998, the OTS removed the growth
restrictions placed on the Bank pursuant to Regulatory Bulletin 3b,
permitting future growth of the Bank consistent with the Bank's strategic
and operating plans, and safe and sound banking practices.
(Continued)
-31-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The Bank and Holding Company has requested removal of the Orders. Until
such Orders are removed the following directives are still applicable to
the Bank and Holding Company. Management and the Board of Directors have
committed to adhering to the terms of the Order. The Order provides for
the Board of Directors to: develop, adopt and adhere to policies and
procedures to strengthen the Bank's underwriting, administration,
collection and foreclosure efforts; review and revise underwriting
policies and procedures to comply with regulatory requirements; record
minutes to the loan committee and grant loans only on terms approved by
the committee and document the recipient of proceeds of the loan; develop
and implement a written plan to collect, strengthen and reduce the risk
of loss for all real estate owned and for certain loans at risk and
secured by real estate; comply with policies and procedures requiring
written inspection of development and construction loans; pay no more
than market rate, determined by a rent study approved by the OTS for
lease of the Bank's offices; make no payment of taxes owed by a person
affiliated with the Bank; seek reimbursement of expenses of the Holding
Company paid by the Bank; provide a management services agreement for
work performed for the Holding Company by the Bank; develop and submit
for approval a three year business plan; comply with loans to one
borrower policy; pay no dividend without consent of the OTS; appoint a
compliance committee; refrain from purchasing dual indexed bonds. In
addition, the OTS issued a separate Order for the Company requiring: the
Holding Company shall not request dividends from the Bank without written
permission from the OTS; the Holding Company reimburse the Bank for the
Holding Company's expenses, develop a management services agreement with
the Bank which provides for the reimbursement for employees who work for
both the Bank and the Holding Company; appoint a compliance committee to
report to the board of directors as to the Holding Company's compliance
with the Order.
The regulatory structure governing savings associations and savings and
loan holding companies gives the regulatory authorities extensive
discretion in connection with their supervisory and enforcement
activities. Any change in such regulation, whether by the OTS, the FDIC
or the U.S. Congress, could have a significant impact on the Bank and the
Holding Company and their operations.
(Continued)
-32-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(17) Stock Options
On May 5, 1993, the Board of Directors of the Company approved a Stock
Option Plan for Directors. The Plan provides that a maximum of 176,968
shares of common stock (the "Option Shares") will be made available to
directors and former directors of the Company. Options for all the Option
Shares were issued on May 6, 1993 to 13 present and former directors. The
options are for a term of ten (10) years from the date of grant. The
Options were issued at an exercise price of $6.40 per share determined at
the time of issuance to be the fair market value of the underlying Common
Stock subject to the Option on the date the Option was granted. No
options have been exercised under the Plan at December 31, 1996. On March
7, 1997, the board of directors of the Company rescinded all options
previously granted and terminated the plan.
In addition, the Company has issued stock options to certain sales
representatives for their commitment in selling Federal Trust Corporation
stock. These options have a strike price of $5.63 per share, as amended
as a result of the 1997 stock offering, and will expire on October 26,
1999. At December 31, 1997 and 1996, options for 58,453 shares were
outstanding to various sales representatives.
(18) Credit Commitments
The Bank has outstanding at any time a significant number of
commitments to extend credit. These arrangements are subject to strict credit
control assessments and each customer's credit worthiness is evaluated on a
case-by-case basis. A summary of commitments to extend credit and standby
letters of credit written at December 31, 1997 and 1996 are as follows:
1997 1996
---- ----
Available lines of credit $ 306,516 179,283
-------- --------
Standby letters of credit $ 500,000 500,000
-------- --------
Outstanding mortgage loan commitments, exclusive of loans in
process:
Net fixed rates $ 577,846 584,097
Net variable rates 3,736,823 2,375,844
-------- --------
$ 4,314,669 2,959,941
-------- --------
(Continued)
-33-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Because many commitments expire without being funded in whole or part,
the contract amounts are not estimates of future cash flows.
Loan commitments written have off-balance-sheet credit risk because only
original fees are recognized in the balance sheet until the commitments
are fulfilled or expire. Credit risk represents the accounting loss that
would be recognized at the reporting date if counterparties failed
completely to perform as contracted. The credit risk amounts are equal
to the contractual amounts, assuming that the amounts are fully
advanced, and that collateral or other security is of no value.
The Bank's policy is to require customers to provide collateral prior to
the disbursement of approved loans. The amount of collateral obtained,
if it is deemed necessary by the Bank upon extension of credit, is based
on management's credit evaluation of the counterparty. Collateral held
varies but may include accounts receivable, inventory, real estate and
income producing commercial properties.
Standby letters of credit are contractual commitments issued by the Bank
to guarantee the performance of a customer to a third party. The credit
risk involved in issuing letters of credit is essentially the same as
that involved in extending loan facilities to customers.
(19) Concentration of Credit Risk
The Bank originates real estate, consumer and commercial loans
primarily in its Central Florida market area. Although the Bank has a
diversified loan portfolio, a substantial portion of its borrowers' ability to
honor their contracts is dependent upon the economy of Central Florida. The Bank
does not have a significant exposure to any individual customer or counterparty.
The Bank manages its credit risk by limiting the total amount of
arrangements outstanding with individual customers, by monitoring the size and
maturity structure of the loan portfolio, by obtaining collateral based on
management's credit assessment of the customers, and by applying a uniform
credit process for all credit exposures.
(Continued)
-34-
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(20) Year 2000
In January 1997, the Company developed a plan to deal with the Year
2000 problem and began converting its computer systems to be Year 2000
compliant. The plan provides for the conversion efforts to be completed by the
end of 1999. The Year 2000 problem is the result of computer programs being
written using two digits rather than four to define the applicable year. The
total cost of the project is estimated to $50,000 and is being funded through
operating cash flows. The Company is expensing all costs associated with these
systems changes as the costs are incurred.
As of December 31, 1997, $20,000 had been expensed.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS
OF THE REGISTRANT
MANAGEMENT
Management of Federal Trust
The Board of Directors of Federal Trust Corporation consists of 5 members all of
whom also presently serve as directors of the Bank. See "Management of the
Bank." The table below sets forth the name and positions of each director and
executive officer of Federal Trust.
Age at Position with the Year First Term of
Director's Name January 1, 1997 Holding Company Elected Director Office Expires
--------------- --------------- --------------- ---------------- --------------
James V. Suskiewich 50 President/Chairman/Director 1994 1998
Aubrey H. Wright, Jr. 51 Sr. V.P./CFO/Director 1995 1998
Samuel C. Certo 50 Director 1997 1998
George W. Foster 68 Director 1997 1998
Kenneth W. Hill 64 Director 1997 1998
Directors are elected for a term of one year effective with the 1996 Annual
meeting.
Information with respect to the persons who are directors or executive officers
of Federal Trust, including an employment history covering the past five years
is detailed in the next section "Management of the Bank". Except as otherwise
indicated, all persons named have been engaged in their principal occupations
for more than the past five years.
51
The executive officers of Federal Trust are elected annually at the discretion
of the Board of Directors and hold office until their respective successors have
been elected and qualified or until death, resignation or removal by the Board
of Directors.
Management of the Bank
The direction and control of the Bank is vested in its Board of Directors, who
are elected by Federal Trust as the sole stockholder of the Bank. Directors are
elected for a term of three years, with one-third of the directors standing for
election each year.
Age at Position with Expiration
Name January 1, 1997 the Bank Director Since of Term
---- --------------- -------- -------------- ---------
James V. Suskiewich 50 President/ 1993 1997
Chairman
Director
George W. Foster 68 Director 1991 1997
Aubrey H. Wright, Jr. 51 SVP and CFO/ 1994 1998
Director
Samuel C. Certo 50 Director 1996 1999
Kenneth W. Hill 64 Director 1996 1999
Louis Laubscher 54 VP and CLO N/A N/A
Mr. Suskiewich joined the Bank as President in January 1993. He has served as
Chairman of the Board of Directors since May 1996. Prior to joining the Bank, he
was the President and a director of First Federal Savings Bank of the Glades,
Clewiston, Florida from March, 1988 to December 31, 1992.
Mr. Foster served as President of the Bank from December, 1990 to January, 1993,
has served as President of Barnett Bank of Seminole County, President of
Seminole County Chamber of Commerce, National President of the American Safe
Deposit Association, as well as Director and President of numerous other civic
and professional organizations. Prior to joining the Bank, Mr. Foster served as
Assistant Vice President, Security Branch manager of First Federal Savings and
Loan Association of Seminole County from 1980 to 1990.
Mr. Wright joined the Bank as Chief Financial Officer in June, 1993. Prior to
joining the Bank, Mr. Wright was President, Chief Operating Officer and director
of Essex Saving Bank, F.S.B. in West Palm Beach, Florida from August, 1991 to
May, 1993. From 1989 to August, 1991, Mr. Wright served as and President and
Chief Financial Officer of Coral Savings and Loan Association, Coral Springs,
Florida and Senior Vice President for Finance and Operations of Ambassador
Federal Savings, Tamarac, Florida. Coral Savings and Loan Association was placed
under conservatorship by the Resolution Trust Corporation in January, 1991.
Dr. Certo is the former dean and has been a professor of management in the
Crummer Graduate School of Business at Rollins College in Winter Park since
1986. In addition, Dr. Certo serves as a business consultant and has published
52
textbooks in the areas of management and strategic management, and has been
involved in executive education for the past 20 years.
Mr. Hill is retired from SunBank, N.A., where he served as Vice President and
Trust Officer from 1983 until 1995. Mr. Hill's banking career began in 1966 and
he has been a resident of central Florida since 1957.
Mr. Laubscher joined the Bank in February, 1995 and has been Chief Lending
Officer since January, 1996. Prior to joining the Bank, Mr. Laubscher was
Executive Vice President, Director and Chief Loan Officer for First Family Bank,
FSB from March, 1992 to January, 1995. Mr. Laubscher was employed by The First,
F.A. as Senior Vice President and Manager of the Loan and Investment divisions.
The First, F.A. was acquired by Great Western Bank in a Resolution Trust
Corporation assisted transaction in October, 1991. Mr. Laubscher has over 20
years of experience in senior management of financial institutions. He holds an
MBA from the University of California at Berkeley.
The following table sets forth information as of March 1, 1998 with respect to
the ownership of shares of the Common Stock by (i) such persons are believed by
management to be the beneficial owners of more than 5% of the Common Stock, (ii)
directors and officers of Federal Trust, and (iii) all directors and officers as
a group.
Percentage of
Shares of Common Stock Options to Percentage of
Common issued & Purchase Common Stock on a
Name Stock(1) outstanding Stock(2) fully diluted basis
---- -------- ----------- -------- -------------------
James V. Suskiewich(3) 92,818 1.88 - 0 - 1.88
Aubrey H. Wright, Jr. 25,100 .51 - 0 - .51
George W. Foster 11,343 .23 - 0 - .23
Samuel C. Certo 25,000 .51 - 0 - .51
Kenneth W. Hill 25,000 .51 - 0 - .51
Louis Laubscher 35,000 .71 - 0 - .71
Officers & Directors as a Group 228,847 4.63 - 0 - 4.63
(1) Except as indicated below, includes all shares of Common Stock owned by
each director's spouse, or as custodian or trustee for minor children,
over which shares such individuals effectively exercise sole voting and
investment power.
(2) The Stock Option Plan was rescinded by the Board of Directors of the Comp-
any on March 7, 1997. See "Item 11.Executive Compensation - Options."
(3) Includes 50,782 shares held as trustee under Federal Trust's ESOP with
respect to which Mr. Suskiewich exercises sole voting and investment
power.
Management is not aware of any contractual arrangements or any pledge of voting
stock which may result in a change of control of Federal Trust.
[THE REMAINDER OF THIS PAGE INTENTIONALLY LEFT BLANK.]
53
ITEM 11. EXECUTIVE COMPENSATION
Summary Compensation Table
Compensation. The following table sets forth, for the fiscal years ended
December 31, 1995, 1994 and 1993, the total compensation paid or accrued for the
Chief Executive Officer and each of the four most highly compensated executive
officers of the Company and its subsidiaries, whose aggregate salary and bonus
exceeded $100,000 per year.
Annual Compensation (1)
-----------------------
Name and Principal Other Annual Restricted Stock
Position (2) Year Salary Bonus (2) Directors' Fees Compensation(3) Awards(4) Options
--------------- ---- ------ --------- --------------- --------------- ----------- -------
James V. Suskiewich, 1997 $134,441 $41,000 $17,000 $21,446 - -
CEO of the Co. 1996 $137,409 $11,000 $13,750 $14,161 - -
CEO of the Bank 1995 $118,223 $16,000 $ 5,500 $13,168 - -
Aubrey H. Wright, Jr. 1997 $ 84,808 $18,500 $ 9,500 $ 8,291 - -
CFO of the Bank 1996 $ 79,904 $ 6,000 $ 7,250 $ 5,936 - -
CFO of the Co. 1995 $ 74,875 $ 4,500 $ - $ 1,589 - -
Louis Laubscher 1997 $ 74,038 $29,966 - $ 3,908 - -
CLO of the Bank 1996 $ 69,807 $16,848 - $ 4,218 - -
1995 $ 56,077 $18,318 - $ 2,522 - -
(1) Includes all compensation in the year earned whether received or
deferred at the election of the executive.
(2) Includes $28,966, $10,848, and $17,318 in incentive bonuses for
Mr. Laubscher based on resolutions of
non-performing loans and REO in 1997, 1996,and 1995 respectively.
(3) Includes the estimated value of:
James V. Suskiewich 1997 1996 1995
------------------- ---- ---- ----
Health & Life insurance premiums $ 4,126 $ 4,454 $ 3,933
Use of Company automobile 5,924 6,928 6,564
Social/Country Club Dues 5,600 2,779 2,671
Supplemental Retirement Plan 5,796 - -
------ ----- -----
Total: $21,446 $14,161 $13,168
Aubrey H. Wright Jr. 1997 1996 1995
-------------------- ---- ---- ----
Health & Life insurance premiums $ 5,477 $ 5,936 $ 6,285
Supplemental Retirement Plan 2,814 - -
----- ----- -----
Total 8,291 5,936 6,285
Louis Laubscher 1997 1996 1995
--------------- ---- ---- ----
Health & Life insurance premiums $ 3,908 $ 4,218 $ 2,522
(4) Includes value of fully vested participation in the Company's
Employee Stock Ownership Plan ("ESOP"). In 1990, the Company adopted
an ESOP which provides that the Company can make a contribution to a
trust fund for the purpose of purchasing shares of the Company's
common stock on behalf of the participants. The Company pays the
entire cost of the ESOP and all salaried employees of the Company who
have completed six months of service are eligible to participate. The
ESOP is qualified under Section 497(e)(7) of the Internal Revenue
Code, under which subsidiaries may act as participating employees. In
addition, the ESOP meets all applicable requirements of the Tax
Replacement Act of 1986 and is qualified under Section 401(C) of the
Internal Revenue Code.
54
All full-time salaried employees of the Company, and its subsidiaries are
participants in the ESOP. Executive officers of the Company are eligible to
participate in the ESOP, but directors are not eligible unless they are also
full-time salaried employees. A participant's interest in the ESOP is vested
after five years of service and there is no vesting prior to that period of
time. ten (10) employees had vested interest in the ESOP as of December 31,
1997. Mr. Suskiewich, Mr. Wright and Mr. Laubscher are not vested in the ESOP.
The ESOP contributions by the Company are determined annually by the Board of
Directors of the Company, taking into consideration the prevailing financial
conditions, the Company's fiscal requirements and other factors deemed relevant
by the Board. The Company, generally, may make contributions to the ESOP of up
to 15% of total compensation paid to employees during the year. Each
participant's contribution equals the proportion that each such participant's
compensation for the year bears to the total compensation of all participants
for such year. In 1997, 1996 and 1995, the Company contributed cash of $50,782,
$38,000,and $10,000, respectively to the ESOP.
Options and Long-term Compensation
Stock Option Plan for Directors: On May 5, 1993, the Board of Directors of the
Company approved a Stock Option Plan for Directors. The Plan provides that a
maximum of 176,968 shares of common stock (the "Option Shares") will be made
available to directors and former directors of the Company. Options for all the
Option Shares were issued on May 6, 1993 to 13 present and former directors. The
options are for a term of ten (10) years from the date of grant. The Options
were issued at an exercise price of $6.40 per share determined at the time of
issuance to be the fair market value of the underlying Common Stock subject to
the Option on the date the Option was granted. The options held by an active
director are canceled immediately if such director is removed for "cause" as
defined in the Plan.
The Company issued no stock options or stock appreciation rights as compensation
during the fiscal year ended December 31, 1996. On March 7, 1997, the Board of
Directors of the Company rescinded the Stock Option Plan for Directors. The
Company issued no stock options or stock appreciation rights as compensation
during the period January 1, 1996 through March 7, 1997.
Director Compensation
Each director of the Company receives a fee of $500 for each meeting of the
Board which he or she attends plus $750 per quarter, $250 for each Compliance
Committee meeting and no fee for any other standing committee of which he or she
is a member which he or she attends. Directors are reimbursed for expenses
incurred in connection with attendance at meetings of the Board of Directors and
all standing committees. The Company temporarily suspended the payment on all
Board and Committee fees in July 1996.
Report of Board of Directors
The compensation of the Company's executive officers is determined by the
Company's entire Board of Directors excluding any Director who is also an
executive officer. The Chief Executive Officer (the"CEO") determines the salary
range recommendations for all employees, including executives other than
himself. The CEO presents these to the Board and the Board, in turn, reviews and
analyzes all information submitted to it. Thereafter, the Board determines
compensation of all executive officers of the Company including the compensation
of the CEO.
Executive Compensation Policies and Program. The Company's executive
compensation program is designed to:
o Attract and retain qualified management of the Company;
o Enhance short-term financial goals of the Company; and
o Enhance long-term shareholder value of the Company.
55
The Company strives to pay each executive officer the base salary that would be
paid on the open market for a fully qualified officer of that position. The
Board of Directors determines the level of base salary and any incentive bonus
plan for the CEO and certain senior executive officers of the Company and a
range for other executive officers based upon competitive norms, derived from
annual surveys published by several independent banking institutes or private
companies specializing in financial analysis of financial institutions. Such
surveys provide information regarding compensation of financial institution
officers and employees based on size and geographic location of the financial
institution and serve as a bench mark for determining executive salaries. Actual
salary changes are based upon an evaluation of each individual's performance
based upon Holding Company objectives and specific job description objectives,
as well as the overall performance of the Holding Company. Executive officers's
salaries were reduced in fiscal year 1997 as compared to 1996, consistent with
the Holding Company's efforts to reduce budgeted expenses and overhead. Bonus
awards are made based upon the attainment of the Holding Company's net income
targets, the officer's responsibilities and individual performance standards
with each officer given the opportunity to earn an annual performance bonus,
generally in the range of approximately 10-40% of his or her base salary. In
fiscal year 1997, however, no bonuses were awarded primarily because the Holding
Company failed to attain its performance goals.
Compensation of the Chief Executive Officer. The CEO of the Company does not
receive compensation from the Company, but is compensated in his position as CEO
of the Bank. The Company reimburses the Bank for the time that the CEO spends on
Company matters.
The employment contract of the former CEO of the Company was assigned to Federal
Trust Properties Corporation ("FTPC") in June 1996, and FTPC was sold to an
unaffiliated third party on July 1, 1996.
Board of Directors
James V. Suskiewich Aubrey H. Wright, Jr. George W. Foster
Samuel C. Certo Kenneth W. Hill
Compensation Committee Interlocks and Insider Participation in Compensation
Decisions
James V. Suskiewich, President and Chief Executive Officer of the Company and
President and Chief Executive Officer of Federal Trust Bank, (the "Bank") is a
member of the Company's Board of Directors and participated in deliberations of
the Board of Directors regarding executive compensation. Mr. Suskiewich,
however, did not participate in any deliberation regarding his own compensation
or transactions.
Employment Contracts
Federal Trust and the Bank have jointly entered into employment agreements with
two of their executive officers, James V. Suskiewich, President and Chief
Executive Officer, and Aubrey H. Wright, Chief Financial Officer. The employment
agreements, which became effective September 1, 1995, were amended on August 22,
1997. The employment agreements with Messrs. Suskiewich and Wright are
substantially the same except as noted herein. On August 22, 1997, the Bank also
entered into a Employee Severance Agreement with Mr. Louis E. Laubscher, its
Chief Lending Officer, the material aspects of which are discussed herein.
Employment Agreements. Messrs. Suskiewich and Wright each are entitled to
receive a base salary, plus reimbursement of reasonable business expenses. The
employment agreements with Messrs. Suskiewich and Wright provide for three-year
terms. Mr. Suskiewich is entitled to a fixed performance bonus equal to 3% of
the Company's quarterly consolidated income before taxes and may be granted an
annual performance bonus which is solely at the discretion of the Board of
Directors, both of which are payable for the duration of his employment
agreement. The 3% fixed performance bonus is paid when the Bank meets the
"Well-Capitalized" definition under OTS regulations and attains quarterly
after-tax earnings of 0.5% or more of the average quarterly assets on an
annualize basis. The fixed performance bonus is paid within 45 days of the end
of a quarter. The Bank is currently considered to be "Adequately Capitalized"
under OTS regulations and does not currently meet the 0.5% after-tax minimum
earnings requirement. For the year ended December 31, 1996, Mr. Suskiewich
received a discretionary performance bonus of $11,000.
Mr. Wright is entitled to a 1% fixed performance bonus and may be granted an
annual discretionary performance, both of which are payable for the duration of
his agreement. The payment of the 1% fixed performance bonus is based upon the
same terms and conditions as provided for Mr. Suskiewich's fixed performance
bonus. For the year ended December 31, 1996, Mr. Wright received a discretionary
performance bonus of $7,500.
Under the employment agreements, the base salary and any bonus is paid by the
Bank. Messrs. Suskiewich and Wright may participate in all employee benefits,
stock option plans, pension plans, insurance plans and other fringe benefits
commensurate with his position. On or before each September 15, the Board of
Directors shall review the employment agreements and the employees' performance
and vote whether to extend the term of the employment agreements for an
additional year. The decision to extend the employment agreements is within the
sole discretion of the Board of Directors.
The employment agreements provide for termination by the Bank for "cause". In
the event the Bank chooses to terminate Messrs. Suskiewich and Wright's
employment for reasons other than for cause, they (or in the event of death,
their respective beneficiaries) would be entitled to a severance payment equal
to the total annual compensation for the remainder of the term of the respective
employment agreement. In the event of a change of control of Federal Trust or
the Bank, Mr. Suskiewich will be entitled to a special incentive bonus equal to
three times his annual compensation, times the price/book value ratio at which
Federal Trust or the Bank is acquired while Mr. Wright will be entitled to a
special incentive bonus equal to two times his annual compensation then in
effect, times the price/book value ratio at which Federal Trust or the Bank is
acquired. For example, if Federal Trust was acquired on June 30, 1997, for 1.5
times book value, Mr. Suskiewich would receive $607,500 ($135,000 x 3 x 1.5),
while Mr. Wright would receive $255,000 ($85,000 x 2 x 1.5). The special
incentive bonus is payable by either Federal Trust or the Bank.
In the event Messrs. Suskiewich or Wright voluntary terminate their employment
other than for the reasons mentioned herein, all rights and benefits under the
respective employment agreements shall immediately terminate upon the effective
date of termination.
Employee Severance Agreement. On September 8, 1997, the Bank entered into an
employee severance agreement with Louis E. Laubscher. According to the severance
agreement, Mr. Laubscher is entitled to receive a base salary and a
discretionary performance bonus payable annually, plus reimbursement for
reasonable business expenses. The base salary and any discretionary performance
bonus is paid by the Bank. Mr. Laubscher may participate in all employee benefit
plans, stock option plans, and pension plans that are offered to employees of
the Bank. The term of the employee severance agreement is for one year. The
Board of Directors, at their sole discretion, may extend the employee severance
agreement for an additional year. In the event of a change of control, Mr.
Laubscher would be entitled to one year's base salary as his severance payment,
regardless of whether he continues his employment with the Bank. Should Mr.
Laubscher be terminated other than for just cause or as a result of a change of
control, Mr. Laubscher would be entitled to a four month's severance payment
based on his base salary at the time of termination. If Mr. Laubscher
voluntarily terminates his employment other than for the reasons previously
described herein, all rights and benefits under the employee severance agreement
shall immediately terminate upon the effective date of termination.
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56
ITEM 12. SECURITY OWNERSHIP OF CERTAIN
BENEFICIAL OWNERS AND MANAGEMENT
The Company is not aware of any person who, on March 1, 1998, was the beneficial
owners of 5% or more of the Company's outstanding Common Stock, except for
William R. Hough & Co. Information concerning such ownership is set forth in the
following table together with information concerning beneficial ownership by
directors and officers as a group.
Amount and Nature of
Beneficial Owner Beneficial Ownership Percent of Class
---------------- -------------------- ----------------
William R. Hough & Co. 495,241(1) 10.02
100 Second Avenue South, Suite 800
St. Petersburg, Florida 33701
Directors and Executive Officers as 228,847 4.63
a Group (6 persons)
(1) Includes 247,641 shares owned by WRH Mortgage, Inc. and 247,600 shares owned
by William R. Hough & Co.
Security Ownership of Management
The table set forth in "Item 10. Directors and Executive Officers of the
Registrant" contains certain information concerning shares of the Company's
Common Stock beneficially owned by directors and all directors and officers as a
group. There are no shares of the Company's Preferred Stock issued and
outstanding.
Changes in Control
The Registrant does not know of any arrangement, including any pledge by any
person of the securities of the Registrant or any of its subsidiaries, the
operation of which may at a subsequent date result in a change in control of the
Registrant.
[THE REMAINDER OF THIS PAGE INTENTIONALLY LEFT BLANK.]
58
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
TRANSACTIONS WITH MANAGEMENT
Indebtedness of Management
In 1994 the Board of Directors of the Company and the Bank amended their loan
policies with regard to loans to directors, officers and employees. The current
policy is generally not to make loans to directors, officers and employees. Any
loans that are made, however, will require approval of a majority of the
disinterested directors of the company making the loan. The Bank is also subject
to the provisions of Section 22(h) of the Federal Reserve Act. Any credit
extended by the Bank to directors, executive officers and, to the extent
otherwise permitted, principal shareholders, or any affiliates thereof must be:
(I) on substantially the same terms, including interest rates and collateral, as
those prevailing at the time for comparable transactions by the Bank with
non-affiliated parties and (ii) not involve more than the normal risk of
repayment or present other unfavorable features.
As of December 31, 1997, neither the Company nor the Bank had any loans
outstanding to directors or executive officers. The Bank, however, did have
$737,472 in commercial loans to Morrone, Smoker and Grill, Inc., whose President
Jack L. Morrone is the brother-in-law of the Company's former Chairman and Chief
Executive Officer. Mr. Morrone is considered to be an "affiliate", as that term
is defined by SEC regulations. This largest outstanding balance during 1997 was
$478,128. As of February 28, 1997 the balance was $354,188.
Transactions With Certain Related Persons
Effective January 1, 1990, John Martin Bell, a former director and former major
shareholder of the Company and the wife of the former Chairman of the Board of
the Company, as lessor, and the Company, as lessee, entered into a triple net
lease (the "Lease"), pursuant to which the Company leased from Mrs. Bell 3,953
square feet of office space located at 1211 Orange Avenue, Winter Park, Florida
(the "Premises"). The term of the Lease was two (2) years. Effective January 1,
1991, the Lease was amended to increase the term from December 31, 1991 to
December 31, 2000. The square footage leased by the Company increased to 11,393
square feet. On November 11, 1991, the Company and Ms. Bell terminated the Lease
and executed a new triple net lease (the "New Lease"), pursuant to which the
Company has leased 13,305 square feet in the Premises. The term of the New Lease
runs until December 31, 2000. The New Lease will automatically be extended for
two (2) consecutive periods of ten (10) years each unless the Company elects to
terminate the New Lease pursuant to the notice provisions in the New Lease prior
to the expiration of the ten year lease period. Effective July 15, 1992, the New
Lease was modified to reduce the amount of space leased to 12,392 square feet
and to decrease the annual rental by $49,510 to $240,686. Effective June 6,
1994, the New Lease was modified to decrease the annual rent for the years 1993
and 1994 to $216,984 and $223,552, respectively. Effective June 1, 1995, the New
Lease was modified to increase the amount of space leased to 13,305 square feet.
The rent for 1996 through the end of the New Lease term will be the preceding
year's rent increased by the Consumer Price Index Escalation, provided however,
that in no event shall the rent increase be less than 3% or more than 6%. The
Company believes that the terms of this transaction are no less favorable to the
Company than transactions obtainable from unaffiliated parties.
During the year 1995, the Company reimbursed John Martin Bell for her cost of
furniture, fixtures and leasehold improvements for the Company's office space
located at 1270 Orange Avenue, Winter Park, Florida in the amount of $1,417. No
fees or profit was paid to the Bells in connection with this reimbursement. The
Company believes that the terms of this reimbursement are no less favorable to
the Company than what could be obtained from unaffiliated parties.
All future transactions with officers, directors, principal shareholders or
affiliates of the Company and its subsidiaries will be on terms no less
favorable than could be obtained from unaffiliated parties, and shall be
approved by the Board of Directors, including a majority of the independent
disinterested directors of the Company.
59
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES AND REPORTS ON
FORM 8-K
(a) List of Documents filed by Registrant as part of this report:
Financial Statements. Financial statements of Registrant included herein for
the year ended December 31, 1997.
o Independent Auditors' Report
o Consolidated Balance Sheets at December 31, 1997 and 1996
o Consolidated Statements of Operations for each of the years in the three
year period ended December 31, 1997
o Consolidated Statements of Cash Flows for each of the three years in the
three year period ended December 31, 1997
o Consolidated Statement of Stockholders' Equity for each of the three
years in the three year period ended December 31, 1997
o Notes to Consolidated Financial Statements
(b) The following exhibits are filed as part of this report:
Exhibit Number Description Page
- -------------- ----------- ----
3(a) Restated Articles of Incorporation dated July 22, 1994. ****
3(g) Bylaws dated August 3, 1988, as amended March 23, 1990 ****
and July 20, 1990.
10(a) Stock Exchange Agreement by and between the Company *
and The John Martin Bell Corporation dated March 8, 1990.
10(b) Employment Agreement by and between the Company and *
James T. Bell dated January 26, 1990.
10(C) Amendment to the Employment Agreement by and between **
the Company and James T. Bell dated June 29, 1990.
10(d) Second Amendment to the Employment Agreement by and ***
between the Company and James T. Bell dated April 5, 1991.
10(e) Employee Stock Ownership Plan dated January 1, 1990. **
10(f) Lease for Federal Trust Building dated November 11, ****
1991, as amended July 29, 1992 and March 1, 1994.
60
10(g) Amended and Restated Lease for Federal Trust Drive-In ****
Facility dated December 31, 1992.
10(h) Lease for Federal Trust Corporation offices dated ****
April 7, 1992, as amended and assumed on June 1, 1994.
10(i) Third Amendment to the Employment Agreement by and ****
between the Company and James T. Bell dated
January 5, 1994
10(j) Employment Agreement by and between the Company and *****
James V. Suskiewich dated September 1, 1995.
21 Subsidiaries. 93
99 Statement Regarding Issuance of Debentures. ***
(c) Financial Statement Schedules
All supplemental schedules are omitted as inapplicable or because the
required information is included in the financial statements or notes
thereto.
* Incorporated by reference to such documents filed as Exhibits
3, 10(a), 10(b), and 22 to the Company's Annual Report on Form
10-K for the fiscal year ended December 31, 1989
** Incorporated by reference to the document filed as Exhibits 10(C)
and 10(e) to the Company's Annual Report on Form 10-K for the
fiscal year ended December 31, 1990
*** Incorporated by reference to the document files as Exhibit 10(d)
and Exhibit 99 to the Company's Annual Report on Form 10-K from
the fiscal year ended December 31, 1991.
**** Incorporated by reference to the document files as Exhibits 3(a),
3(g), 10(f), 10(g), 10(h) and 10(i) to the Company's Annual
Report on Form 10-K from the fiscal year ended December 31, 1994.
***** Incorporated by reference to the document files as Exhibits 10(j)
to the Company's Annual Report on Form 10-K from the fiscal
year ended December 31, 1995.
61
SIGNATURES
Pursuant to the requirement of Section 13 of 15(d) of the Securities and
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
March 26, 1998 FEDERAL TRUST CORPORATION
By /s/ Aubrey H. Wright
Aubrey H. Wright
Chief Financial Officer
Pursuant to the requirements of the Securities and Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
/s/ James V. Suskiewich Chairman of the Board and March 26, 1998
- -----------------------
James V. Suskiewich President
/s/ Aubrey H. Wright, Jr Director March 26, 1998
- ------------------------
Aubrey H. Wright, Jr.
/s/ Samuel C. Certo Director March 26, 1998
- -------------------
Samuel C. Certo
/s/ Kenneth W. Hill Director March 26, 1998
- -------------------
Kenneth Hill
/s/ George W. Foster Director March 26, 1998
- --------------------
George Foster
Supplemental information to be furnished with Reports Filed Pursuant to Section
15(d) of the Act by Registrants Which Have Not Registered Securities Pursuant to
Section 12 of the Act.
No Annual Report or proxy material has been sent to security holders.
62
EXHIBIT INDEX
Exhibit Number Description Page
- -------------- ----------- ----
3(a) Restated Articles of Incorporation dated July 22, 1994. ****
3(g) Bylaws dated August 3, 1988, as amended March 23, 1990 ****
and July 20, 1990.
10(a) Stock Exchange Agreement by and between the Company *
and The John Martin Bell Corporation dated March 8, 1990.
10(b) Employment Agreement by and between the Company and James *
T. Bell dated January 26, 1990.
10(C) Amendment to the Employment Agreement by and between the **
Company and James T. Bell dated June 29, 1990.
10(d) Second Amendment to the Employment Agreement by and ***
between the Company and James T. Bell dated April 5, 1991.
10(e) Employee Stock Ownership Plan dated January 1, 1990. **
10(f) Lease for Federal Trust Building dated November 11,
1991, as amended July 29, 1992 and March 1, 1994. ****
10(g) Amended and Restated Lease for Federal Trust Drive-In ****
Facility dated December 31, 1992.
10(h) Lease for Federal Trust Corporation offices dated April 7, ****
1992, as amended and assumed on June 1, 1994.
10(i) Third Amendment to the Employment Agreement by and between ****
the Company and James T. Bell dated January 5, 1994
10(j) Employment Agreement by and between the Company and James V. *****
Suskiewich dated September 1, 1995.
21 Subsidiaries. 93
99 Statement Regarding Issuance of Debentures. ***
(c) Financial Statement Schedules
All supplemental schedules are omitted as inapplicable or
because the required information is included in the financial
statements or notes thereto.
* Incorporated by reference to such documents filed as Exhibits 3,
10(a), 10(b), and 22 to the Company's Annual Report on Form 10-K
for the fiscal year ended December 31, 1989
** Incorporated by reference to the document filed as Exhibits 10(C)
and 10(e) to the Company's Annual Report on Form 10-K for the
fiscal year ended December 31, 1990
*** Incorporated by reference to the document files as Exhibit 10(d)
and Exhibit 99 to the Company's Annual Report on Form 10-K from
the fiscal year ended December 31, 1991.
**** Incorporated by reference to the document files as Exhibits 3(a),
3(g), 10(f), 10(g), 10(h) and 10(i) to the Company's Annual Report
on Form 10-K from the fiscal year ended December 31, 1994.
***** Incorporated by reference to the document files as Exhibits 10(j)
to the Company's Annual Report on Form 10-K from the fiscal
year ended December 31, 1995.
63
64