UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
Commission File Number 0-24118
OTTAWA FINANCIAL CORPORATION
----------------------------
(Exact name of registrant as specified in its charter)
Delaware 38-3172166
-------- ----------
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
245 Central Avenue, Holland, Michigan 49423
-------------------------------------------
(Address of principal executive offices)
616-393-7000
------------
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
Class:
Common stock, $.01 par value As of November 2, 1999, there were 6,145,071
shares outstanding.
OTTAWA FINANCIAL CORPORATION
FORM 10-Q
QUARTER ENDED SEPTEMBER 30, 1999
PART I - FINANCIAL INFORMATION
Interim Financial Information required by Rule 10-01 of Regulation S-X and Item
303 of Regulation S-K is included in this Form 10-Q as referenced below:
Page
ITEM 1 - FINANCIAL STATEMENTS
Consolidated Statements of Financial Condition........................3
Consolidated Statements of Operations.................................4
Consolidated Statements of Comprehensive Income.......................5
Consolidated Statements of Cash Flows.................................6-7
Notes to the Consolidated Financial Statements........................8
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS.........................................9-16
ITEM 3 QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK................................................................17-18
Part II - Other Information
OTHER INFORMATION...........................................................19
SIGNATURES..................................................................20
EXHIBIT INDEX...............................................................21
2
PART 1 OTTAWA FINANCIAL CORPORATION
Item 1. CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(UNAUDITED)
September 30, 1999 December 31, 1998
------------------ -----------------
(Dollars in Thousands)
ASSETS
Cash and due from financial institutions $ 15,467 $ 20,437
Interest-bearing demand deposits in other financial institutions 1,021 21,788
--------- ---------
Total cash and cash equivalents 16,488 42,225
Securities available for sale 88,035 71,646
Federal Home Loan Bank stock 11,782 11,782
Loans held for sale 2,103 3,375
Loans receivable, net 809,521 769,770
Premises and equipment, net 15,715 15,200
Acquisition intangibles 12,129 13,032
Other assets 12,304 11,000
--------- ---------
Total Assets $ 968,077 $ 938,030
========= =========
LIABILITIES
Deposits $ 673,787 $ 693,632
Federal funds purchased 14,000
Federal Home Loan Bank advances 191,353 160,268
Accrued expenses and other liabilities 11,679 10,723
--------- ---------
Total Liabilities 890,819 864,623
--------- ---------
SHAREHOLDERS' EQUITY
Common Stock, $.01 par value;
10,000,000 shares authorized; issued
6,439,399 shares at September 30, 1999,
6,770,757 shares at December 31, 1998 66 62
Additional Paid-in Capital 77,049 73,177
Retained earnings, substantially restricted 8,507 15,363
Net unrealized gain or (loss) on securities available for sale, net of tax (558) 23
Employee Stock Ownership Plan (Unallocated Shares) (1,566) (1,886)
Management Recognition and Retention Plan (Unearned Shares) (339) (712)
Less Cost of Common Stock in
Treasury - 294,328 shares at
September 30, 1999, 777,780 shares at
December 31, 1998 (5,901) (12,620)
--------- ---------
Total Shareholders' Equity 77,258 73,407
--------- ---------
Total Liabilities and Shareholders' Equity $ 968,077 $ 938,030
========= =========
See accompanying notes to consolidated financial statements.
3
OTTAWA FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three Months Ended Nine Months Ended
September 30 September 30
1999 1998 1999 1998
---- ---- ---- ----
(Dollars in Thousands,
except per share data)
Interest Income
Loans $ 15,865 $ 15,914 $ 46,405 $ 46,922
Investment securities and
equity investments 1,204 977 3,325 2,948
Other interest and dividend income 274 397 1,094 937
-------- -------- -------- --------
17,343 17,288 50,824 50,807
-------- -------- -------- --------
Interest Expense
Deposits 6,920 7,692 21,211 22,878
Federal Home Loan Bank advances 2,518 2,482 7,066 7,104
Other 74 4 86 35
-------- -------- -------- --------
9,512 10,178 28,363 30,017
-------- -------- -------- --------
NET INTEREST INCOME 7,831 7,110 22,461 20,790
Provision for loan losses 300 240 855 675
-------- -------- -------- --------
NET INTEREST INCOME AFTER PROVISION
FOR LOAN LOSSES 7,531 6,870 21,606 20,115
-------- -------- -------- --------
Noninterest income
Service charges and other fees 1,183 1,093 3,362 3,151
Mortgage servicing fees 98 83 302 254
Gain (loss) on sale of loans (3) 592 592 1,584
Gain (loss) on sale of securities (9) (24)
Other 281 227 782 576
-------- -------- -------- --------
1,559 1,995 5,029 5,541
-------- -------- -------- --------
Noninterest expense
Compensation and benefits 2,742 2,953 8,510 8,709
Occupancy 426 392 1,279 1,127
Furniture, fixtures and equipment 329 335 985 920
Advertising 75 75 225 225
FDIC deposit insurance 99 101 302 302
State single business tax 143 138 428 414
Data processing 332 230 946 699
Professional services 96 109 323 320
Acquisition intangibles amortization 301 304 903 912
Other 690 715 2,006 2,067
-------- -------- -------- --------
5,233 5,352 15,907 15,695
-------- -------- -------- --------
INCOME BEFORE FEDERAL
INCOME TAX EXPENSE 3,857 3,513 10,728 9,961
Federal income tax expense 1,372 1,308 3,868 3,698
-------- -------- -------- --------
NET INCOME $ 2,485 $ 2,205 $ 6,860 $ 6,263
======== ======== ======== ========
Earnings per common share
Basic $ .41 $ .37 $ 1.15 $ 1.04
======== ======== ======== ========
Diluted .39 .34 1.08 .93
======== ======== ======== ========
Dividends per common share .12 .09 .33 .25
======== ======== ======== ========
See accompanying notes to consolidated financial statements.
4
OTTAWA FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED)
Nine Months Ended
September 30
1999 1998
---- ----
(Dollars in Thousands)
Net Income $ 6,860 $ 6,263
Other comprehensive income, net of tax:
Unrealized gains (losses) arising during the period
on securities available for sale (587) 186
Less: reclassification adjustment for accumulated (gains)
losses included in net income 6 16
------- -------
Unrealized gains (losses) on securities available for sale (581) 202
------- -------
Comprehensive income $ 6,279 $ 6,465
======= =======
See accompanying notes to consolidated financial statements.
5
OTTAWA FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Nine Months Ended
September 30
1999 1998
---- ----
(Dollars in Thousands)
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 6,860 $ 6,263
Adjustments to reconcile net income to net cash
from operating activities
Depreciation 990 888
Net amortization of security premiums and discounts 281 331
Amortization of acquisition intangibles 903 912
Provision for loan losses 855 675
Loss on limited partnership investments 212 244
ESOP expense 887 1,059
MRP expense 373 405
Origination of loans for sale (60,409) (98,076)
Proceeds from sale of loans originated for sale 61,629 96,324
Gain on sale of loans (592) (1,584)
Loss on sale of securities 9 24
Changes in:
Other assets (1,217) (145)
Other liabilities 1,154 936
-------- --------
Net cash from operating activities 11,935 8,256
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES
Activity in available-for-sale securities:
Purchases (36,993) (33,833)
Maturities, prepayments and calls 18,429 27,890
Sales 1,005 3,976
Purchases of FHLB stock (4,474)
Purchases of loans (9,910)
Loan originations net of principal payments on loans (30,052) (33,287)
Premises and equipment expenditures, net (1,505) (1,370)
Net cash from investing activities (59,026) (41,098)
-------- --------
6
OTTAWA FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
CONTINUED
Nine Months Ended
September 30
1999 1998
---- ----
(Dollars in Thousands)
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase(decrease) in deposits (19,845) 22,369
Net increase in Federal funds purchased 14,000 000
Proceeds from FHLB advances 62,000 154,625
Repayment of FHLB advances (30,915) (130,315)
Proceeds from exercise of stock options 445 487
Proceeds from exercise of stock warrants 1,078 1,482
Cash paid for exchange of warrants (92) 000
Cash dividends paid (1,988) (1,545)
Purchase of treasury shares (3,329) (11,541)
--------- ---------
Net cash from financing activities 21,354 35,562
--------- ---------
Net change in cash and cash equivalents (25,737) 2,720
--------- ---------
Cash and cash equivalents at beginning of year 42,225 32,524
--------- ---------
Cash and cash equivalents at end of year $ 16,488 $ 35,244
========= =========
Supplemental disclosures of cash flow information
Cash paid during the year for
Interest $ 28,710 $ 29,809
Income taxes 3,700 3,160
See accompanying notes to consolidated financial statements.
7
OTTAWA FINANCIAL CORPORATION
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
QUARTER ENDED SEPTEMBER 30, 1999
(UNAUDITED)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying consolidated financial statements include the accounts of
Ottawa Financial Corporation ("Corporation") and its wholly owned subsidiary,
AmeriBank ("Bank"). All significant intercompany accounts and transactions have
been eliminated in consolidation.
These interim financial statements are prepared without audit and reflect
all adjustments which, in the opinion of management, are necessary to present
fairly the consolidated financial position of the Corporation at September 30,
1999, and its results of operations and statement of cash flows for the periods
presented. All such adjustments are normal and recurring in nature. The
accompanying consolidated financial statements do not purport to contain all the
necessary financial disclosures required by generally accepted accounting
principles that might otherwise be necessary in the circumstances and should be
read in conjunction with the consolidated financial statements and notes thereto
of Ottawa Financial Corporation for the year ended December 31, 1998.
The provision for income taxes is based upon the effective tax rate
expected to be applicable for the entire year.
Amounts reported as basic earnings per common share reflect the earnings
available to common shareholders for the period divided by the weighted average
number of common shares outstanding during the period. Common shares outstanding
includes issued shares less shares held in the treasury and unallocated shares
held by the employee stock ownership plan. Diluted earnings per common share
include the shares that would be outstanding assuming exercise of dilutive stock
options and warrants. All share and per share information has been retroactively
adjusted to reflect the 10% stock dividend paid on June 30, 1999.
NOTE 2 - PENDING LITIGATION
A lawsuit against AmeriBank was filed in December 1998 alleging that we
engaged in the unauthorized practice of law due to charging a fee for preparing
loan documents. The complaint sought class action certification, restitution of
all fees paid for the last six years, interest, attorney fees and other costs.
The class action certification was obtained in March 1999. We filed a motion for
summary disposition based upon our belief that the complaint was wholly without
merit. In July 1999, the court granted our motion and the case was dismissed.
After the case was dismissed, the plaintiff amended the complaint and alleged we
violated certain banking regulations. In September 1999, the case was again
dismissed from the state court system. After the case was dismissed for a second
time, the attorney for the plaintiff filed a similar case on behalf of a new
plaintiff in the federal court system, with a focus on the allegation that we
violated certain banking regulations. In October 1999 we filed a motion for
summary disposition within the federal courts. We again believe, after
consultation with legal counsel, that these allegations are wholly without merit
and intend to vigorously defend against this lawsuit.
8
Item 2
OTTAWA FINANCIAL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
The following discussion compares the financial condition of Ottawa
Financial Corporation and its wholly owned subsidiary, AmeriBank, at September
30, 1999 to December 31, 1998, and the results of operations for the three and
nine months ended September 30, 1999, compared to the same periods in 1998. This
discussion should be read with the interim consolidated condensed financial
statements and footnotes attached.
We may from time to time make written or oral "forward-looking
statements." These forward-looking statements may be contained in this quarterly
filing with the Securities and Exchange Commission, our Annual Report to
Shareholders, other filings with the Securities and Exchange Commission, and in
other communications by us, which are made in good faith pursuant to the "safe
harbor" provisions of the Private Securities Litigation Reform Act of 1995. The
words "may", "could", "should", "would", "believe", "anticipate", "estimate",
"expect", "intend", "plan" and similar expressions are intended to identify
forward-looking statements.
Forward-looking statements include statements with respect to our beliefs,
plans, objectives, goals, expectations, anticipations, estimates and intentions,
that are subject to significant risks and uncertainties. The following factors,
many of which are subject to change based on various other factors beyond our
control, and other factors discussed in this Form 10-Q, as well as other factors
identified in our filings with the Securities and Exchange Commission and those
presented elsewhere by management from time to time, could cause our financial
performance to differ materially from the plans, objectives, expectations,
estimates and intentions expressed in such forward-looking statements:
o the strength of the United States economy in general and the strength
of the local economies in which we conduct operations;
o the effects of, and changes in, trade, monetary and fiscal policies and
laws, including interest rate policies of the Federal Reserve Board;
o inflation, interest rate, market and monetary fluctuations;
o the timely development of and acceptance of new products and services
and the perceived overall value of these products and services by
users, including the features, pricing and quality compared to
competitors' products and services;
o the willingness of users to substitute competitors' products and
services for our products and services;
o our success in gaining regulatory approval of our products and
services, when required;
o the impact of changes in financial services' laws and regulations
(including laws concerning taxes, banking, securities and insurance);
o the impact of technological changes;
o acquisitions;
o changes in consumer spending and saving habits; and
o our success at managing the risks involved in our business.
This list of important factors is not exclusive. We do not undertake to
update any forward-looking statement, whether written or oral, that may be made
from time to time by or on behalf of Ottawa or AmeriBank.
FINANCIAL CONDITION
Total assets increased to $968.08 million at September 30, 1999 from
$938.03 million at December 31, 1998. Most of this growth was in the loan
portfolio and, to a lesser extent, in securities available for sale. This growth
was funded from the proceeds received from FHLB advances and federal funds
purchased.
9
Net loans receivable increased to $809.52 million at September 30, 1999
from $769.77 million at December 31, 1998. Through our focus on the development
of our commercial and business banking services and our consumer lending
products, as well as healthy loan demand in our market area, we were able to
grow our commercial business and commercial real estate loan portfolios by
$39.58 million and our consumer loan portfolio by $14.90 million during the
first nine months of 1999. This growth, however, was partially offset by the
decrease in the residential mortgage portfolio of $15.31 million during the same
period. While the residential mortgage portfolio declined during the year, the
third quarter of 1999 experienced a small amount of growth in the adjustable
rate mortgage loan portfolio. The combination of rising interest rates and loan
demand in our market area caused a slight shift in mix from fixed rate loans to
adjustable rate loans. Since we retain for our portfolio adjustable rate
mortgage loan production, the growth in this product offset some of the overall
reduction experienced in the mortgage loan portfolio during the first six months
of 1999.
Securities available for sale increased to $88.04 million at September 30,
1999 from $71.65 million at December 31, 1998. The growth in securities of
$16.39 million was primarily in agency bonds and agency mortgage-backed
securities with the purpose of investing our excess interest-bearing demand
deposits in other financial institutions existing at December 31, 1998.
Deposits decreased to $673.79 million at September 30, 1999 from $693.63
million at December 31, 1998. This decrease in deposits was a result of a
reduction in our certificates of deposit portfolio. Due to excess liquidity as
evidenced by the high balance of cash and cash equivalents at December 31, 1998,
we priced our certificates of deposit either at or below the market in certain
maturity categories to provide for some reduction in the certificates of deposit
portfolio. Certificates of deposit and savings accounts decreased by $24.79
million and $3.94 million, respectively, in the first nine months of 1999, while
our transaction accounts increased by $8.89 million in the same period.
Approximately 49% of the commercial business and commercial real estate loan
growth discussed above occurred in the third quarter of 1999. This quick growth,
accompanied with the decline in our deposits, necessitated the use of wholesale
funding sources. Federal funds purchased and FHLB advances increased by $14.00
million and $31.09 million during the year but primarily in the third quarter to
fund this loan growth.
The primary components of growth in shareholder's equity for the nine
months ended September 30, 1999 related to net income, as well as proceeds
received from the exercise of stock options and warrants. The increases were
offset by cash dividends declared and additional repurchases of outstanding
shares of common stock. In connection with our warrant exchange offer that
expired on January 26, 1999, we issued 180,599 shares of Ottawa Financial
Corporation common stock and paid $90,130 in cash. The remaining warrants were
exercised by the date of the warrant plan expiration, resulting in additional
capital of $900,000.
10
AVERAGE BALANCES, INTEREST RATES AND YIELDS
This table presents the amount of interest income from average
interest-earning assets and the yields earned on those assets, as well as the
interest expense on average interest-bearing liabilities and the rates paid on
those liabilities. Loans receivable are calculated net of deferred loan fees,
loan discounts, loans in process, and loan reserves. Tax exempt interest on
loans and securities has been converted to a fully taxable equivalent basis. All
average balances are daily average balances.
Nine Months Ended Nine Months Ended
September 30, 1999 September 30, 1998
------------------------------ ------------------------------
Average Interest Average
Outstanding Earned/ Yield/ Outstanding Interest Yield/
Balance Paid Rate Balance Earned/Paid Rate
------------------------------ ------------------------------
(Dollars in Thousands)
Interest-Earning Assets:
Loans receivable $782,177 $46,432 7.92% $775,255 $46,953 8.08%
Securities 76,531 3,332 5.81 61,104 2,970 6.48
Other interest-earning 21,121 1,094 6.93 16,588 937 7.55
------ ----- ---- ------ --- ----
assets
Total interest-earning assets $879,829 $50,858 7.71% $852,947 $50,860 7.96%
------- ------ ---- ------- ------ ----
Interest-Bearing Liabilities:
Demand and NOW deposits $204,980 $5,226 3.41% $168,364 $4,792 3.81%
Savings deposits 53,731 692 1.72 61,053 882 1.93
Certificate accounts 380,450 15,293 5.37 402,007 17,204 5.72
FHLB advances 161,810 7,066 5.84 158,562 7,104 5.99
Other interest-bearing 2,197 86 5.22 844 35 5.70
----- -- ---- --- -- ----
Total interest-bearing liabilities $803,168 $28,363 4.72% $790,830 $30,017 5.07%
------- ------ ---- ------- ------ ----
Net interest income $22,495 $20,843
====== ======
Net interest rate spread 2.99% 2.89%
==== ====
Net earning assets $74,398 $62,117
====== ======
Net yield on average
interest-earning assets 3.41% 3.26%
==== ====
Average interest-earning assets
to average intereset-bearing
liabilities 1.10x 1.08x
11
RATE/VOLUME ANALYSIS
This table presents the dollar amount of changes in interest income and
interest expense for major components of interest-earning assets and
interest-bearing liabilities. For each category of interest-earning assets and
interest-bearing liabilities, information is provided on changes attributable to
(i) changes in volume (i.e., changes in volume multiplied by old rate) and (ii)
changes in rate (i.e., changes in rate multiplied by old volume). Changes
attributable to both rate and volume which cannot be segregated have been
allocated proportionately to the change due to volume and the change due to
rate.
Nine Months Ended
September 30
1999 vs. 1998
-----------------------------------
Increase
(Decrease)
Due to
---------------------
Total
Volume Rate Increase
(Decrease)
----------------------------------
(Dollars in Thousands)
Interest-earning assets:
Loans receivable $ 426 $ (947) $ (521)
Securities - Taxable 617 (255) 362
Other interest-earning assets 226 (69) 157
------- ------- -------
Total interest-earning assets $ 1,269 $(1,271) $ (2)
======= ======= =======
Interest-bearing liabilities:
Demand and NOW deposits 834 (400) 434
Savings deposits (100) (90) (190)
Certificate accounts (896) (1,015) (1,911)
Borrowings 161 (199) (38)
Other interest-bearing liabilities 53 (2) 51
------- ------- -------
Total interest-bearing liabilities $ 52 $(1,706) $(1,654)
======= ======= =======
Net interest income $ 1,217 $ 435 $ 1,652
======= ======= =======
RESULTS OF OPERATIONS
Net income for the quarter ended Septemnber 30, 1999 was $2.49 million or
$.39 per diluted common share compared to net income of $2.21 million or $.34
per diluted common share for the same period in 1998. Net income for the nine
months ended September 30, 1999 was $6.86 million or $1.08 per diluted common
share compared to net income of $6.26 million or $.93 per diluted common share
for the same period in 1998. The improvement in earnings over the same periods
in the prior year was due primarily to the growth in net interest income. This
improvement was partially offset by a decrease in gains on sales of loans. All
per share information has been retroactively adjusted to reflect the 10% stock
dividend paid on June 30, 1999.
To supplement the earnings per share information typically disclosed, we
are providing "cash" or "tangible" earnings per share as an alternative measure
for evaluating the Corporation's ability to grow tangible capital. The
calculations of cash earnings per share were specifically formulated by us and
may not be comparable to similarly titled measures reported by other companies.
This measure is not intended to reflect cash flow per share. The "cash" or
"tangible" earnings per share for the third quarter of 1999 was $.48, which was
12
$.09 per share higher than the diluted earnings per share, compared to a cash
earnings per share of $.43 for the third quarter of 1998. The cash or tangible
earnings per share for the nine months ended September 30, 1999 was $1.35, which
was $.27 per share higher than the diluted earnings per share, compared to a
cash earnings per share of $1.20 for the same period in 1998. This measure and
the factors influencing its calculation are described more fully in the 1998
Annual Report to Shareholders.
Net interest income increased $1.65 million and $721,000 on a tax
equivalent basis for the nine and three months ended September 30, 1999 compared
to the same periods in 1998. The increase in net interest income was
attributable to the positive impact of interest-earning asset volume increases
caused by internal growth experienced during the latter half of 1998 and first
nine months of 1999, as well as the positive impact of decreases in the cost of
interest-bearing liabilities. The improvement in interest income resulting from
the increase in the volume of interest-earning assets was offset by a decrease
in the yield on interest-earning assets caused by the decline in general market
interest rates. There was an even larger decrease in the cost of
interest-bearing liabilities, resulting in an improvement in net interest
spread. While there was an overall increase in the volume of interest-bearing
liabilities, the shift in the mix from higher costing certificates of deposit to
lower costing demand deposits for the first nine months of 1999 compared to the
same period of the prior year contributed to the lower interest expense. Net
interest margin increased to 3.41% from 3.26% for the nine months ended
September 30, 1999 compared to the same period in the prior year. A similar
increase in net interest margin occurred for the three months ended September
30, 1999. These improvements in net interest margin were due to the spread
improvement discussed above and the growth in noninterest-bearing deposits
during the past year.
The provision for loan losses is a result of management's periodic
analysis of the adequacy of the allowance for loan losses. Although actual
losses on loans have not increased for the three and nine month periods ended
September 30, 1999 compared to the same periods in the prior year, the increase
in provisions were in response to the growth achieved in the consumer and
commercial loan portfolios, which generally involve a greater degree of credit
risk than one-to-four family mortgage lending.
The allowance is maintained by management at a level considered adequate
to cover possible loan losses that are currently anticipated based on past loss
experience, general economic conditions, information about specific borrower
situations, including their financial position and collateral values, and other
factors and estimates, which are subject to change over time. Although the level
of non-performing assets is considered in establishing the allowance for loan
losses balance, variations in non-performing loans have not been meaningful
based upon our past loss experience and, as such, have not had a significant
impact on the overall level of the allowance for loan losses. Delinquent loans
more than 90 days are put on non-accrual status unless they are adequately
collateralized and in the process of collection (see discussion on
Non-Performing Assets and Allowance for Loan Losses below).
Noninterest income decreased for both the three and nine month periods
ended September 30, 1999 compared to the same periods in 1998. The decrease
related primarily to lower gains on sales of mortgage loans. The rising interest
rate environment in 1999 not only caused a reduction in the volume of loans
originated for sale but also caused a tightening of the profit margins
experienced on the sale of those loans. Noninterest income in most other areas
including loan servicing fees, deposit account service charges and fees from the
sale of mutual funds and annuities improved in 1999.
Noninterest expense was relatively stable for the three and nine month
periods ended September 30, 1999 compared to the same periods in 1998. Slight
increases in salaries expense were more than offset by the improvements in ESOP
expense and pension income resulting in overall decreases in compensation and
benefits expense for the three and nine months ended September 30, 1999 compared
to the same periods of the prior year. Due to favorable market conditions, the
performance of the pension assets was strong and exceeded the expenses
associated with the plan thereby resulting in net pension income. While
noninterest expense showed an increase, our efficiency ratio, defined as
noninterest expense divided by the sum of net interest income and noninterest
income, decreased from 60.75% for the nine months ended September 30, 1998 to
57.75% for the same period in 1999. This ratio demonstrates that while the
absolute dollars of noninterest expense increased for the period presented, our
ability to generate revenues on those dollars improved.
13
NON-PERFORMING ASSETS AND ALLOWANCE FOR LOAN LOSSES
Non-performing assets decreased to $2.19 million at September 30, 1999
from $4.03 million at December 31, 1998 primarily due to decreases in
non-accruing loans. The percentage of non-performing assets to total assets was
.23% at September 30, 1999 compared to .43% at December 31, 1998. Our allowance
for loan losses as a percentage of non-performing loans at September 30, 1999
was 270.77% compared to 129.37% at December 31, 1998.
The table below sets forth the amounts and categories of non-performing
assets at September 30, 1999 and December 31, 1998.
September 30 December 31
1999 1998
---- ----
(Dollars in Thousands)
Non-accruing loans
One to four family $247 $696
Multi-family and commercial real estate 879
Construction or development 609
Commercial business 488 504
Consumer 251 446
--- ---
Total 986 3,134
Accruing loans delinquent more than 90 days:
One- to four-family 349 32
Construction or development 21
Commercial business 332
Consumer __ 11
--
Total 681 64
Foreclosed assets:
One- to four-family 295 656
Consumer 232 174
--- ---
Total 527 830
--- ---
Total non-performing assets $2,194 $4,028
===== =====
Total as a percentage of total assets .23% .43%
=== ===
LIQUIDITY
We anticipate we will have sufficient funds available to meet current loan
commitments through sales, calls and maturities of securities, loan payments and
payoffs, and the growth of deposits. If necessary, significant sources of
liquidity are available from Federal Home Loan Bank advances and unused lines of
credit with correspondent banks. At September 30, 1999, we had commitments to
make loans of $23.13 million, unused lines of credit of $91.42 million, and
construction loans in process of $55.12 million.
14
CAPITAL RESOURCES
AmeriBank is subject to capital requirements in accordance with state
banking regulations. There has been no significant change in the level of
AmeriBank's regulatory capital relative to the requirements since December 31,
1998. AmeriBank remains "well capitalized" under the prompt corrective action
regulations.
YEAR 2000 ISSUE
The year 2000 ("Y2K") issue relates to the inability of computer systems
to recognize the year 2000. Processing problems could result from existing
computer programs and systems misinterpreting the year 2000 as the year 1900.
The financial institutions industry could be significantly impacted by the Y2K
issue due to our dependence on technology and date-sensitive data. If not
adequately addressed, the Y2K issue could have a significant adverse impact on
our business and, in turn, our financial condition and results of operations.
Our Y2K assessment began in late 1997 when an action plan was developed
and approved by our Board of Directors. We created a "Y2K Task Force" to work
with associates corporate-wide to prepare for Y2K. Our Computer and Network
Department, as well as our Technology Committee, have been testing these areas
to assess Y2K compliance. If an area is not validated as Y2K compliant, then
updates are made to become Y2K compliant.
Our Y2K plan consists of several phases including awareness, assessment,
renovation, validation and implementation. Within the awareness phase, we
defined the Y2K problem and identified the resources to perform compliance work.
Within the assessment phase, we evaluated the complexity of the Y2K issue and
detailed the effort necessary to address the issues. The renovation phase
included code enhancements, hardware and software upgrades, system replacements,
vendor certifications and other similar changes. Within the validation phase, we
tested the incremental changes to hardware and software components identified in
the renovation phase. All of the above stages were completed prior to March 31,
1999.
At the end of the implementation phase we were able to certify our
mission-critical systems as Y2K compliant. In addition, this phase ensured that
any new systems or subsequent changes to verified systems are Y2K compliant.
This phase was completed by June 30, 1999.
We are expensing all costs associated with required system changes as
they occur. These costs are being funded through operating cash flows. The total
cost of our Y2K conversion project has been approximately $200,000, net of
income taxes through September 30,1999. We do not expect any significant
additional Y2K cost.
The software program that processes and tracks customer account
information is the most significant component of our computer system. This
software is the ITI Premier Financial Information System that is used by 3,500
banks across the country and has been certified as Y2K compliant. This is
relatively new software that was written to include four digits for the year
calculations, and therefore does not require its language to be rewritten. An
outside service bureau runs this software for us which also is certified as Y2K
compliant. We have completed the compliance testing of this system and our
interfacing with the service bureau in the implementation phase discussed above
and have concluded that it is Y2K compliant.
In addition to reviewing our own computer operating systems and
applications, we initiated formal communications with our significant vendors
(operating risk) and large customers (credit risk) to determine the extent to
which AmeriBank is vulnerable to those third parties' failure to resolve their
own Y2K issues. There is no assurance that the systems of other companies with
which we have a relationship will be timely converted. If such modifications and
conversions are not made, or are not completed in a timely manner, the Y2K issue
could have an adverse impact on our operations. Our communications with these
third parties have taken place over the various stages of our Y2K plan. We have
assessed the readiness status of our significant vendors and borrowers and have
updated these assessments on an ongoing basis. If any of these vendors or
borrowers displayed a high risk of not being ready for Y2K, the relationship was
severed. Underwriting standards for our significant borrowing customers have
15
incorporated Y2K assessments since late 1997. At that time all existing
significant borrowing customer relationships were evaluated and new
relationships have been evaluated in the underwriting process. Y2K readiness is
monitored on an ongoing basis by the individual loan officers assigned to these
borrowing customers.
While our Y2K readiness process is proceeding according to plan, as a
precaution, we developed a contingency plan in the event of physical disaster
including power outage and/or telecommunication system outages. We assigned
responsibilities regarding final preparation to individuals within each
department. In addition, we identified a centralized location to accomplish
communications and data processing under various disaster conditions.
The costs of the project, the date on which we believe the Year 2000
modifications will be completed, and the related risk exposures are based on
management's best estimates. There can be no guarantee that these estimates will
be achieved and actual results could differ from those anticipated. Furthermore,
no assurance can be given that our contingency plans, if needed, will function
as anticipated, or that our results of operations will not be adversely affected
by difficulties or delays in third parties Y2K readiness efforts. Specific
factors that might cause differences include, but are not limited to, the
ability of other companies on which our systems rely to modify or convert their
systems to be Y2K compliant, the ability to locate and correct all relevant
computer codes, and similar uncertainties.
16
Item 3
OTTAWA FINANCIAL CORPORATION
QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK
The balance sheet consists of investments in interest-earning assets,
primarily loans and investment securities, which are primarily funded by
interest-bearing liabilities, deposits and borrowings. These financial
instruments have varying levels of sensitivity to changes in market interest
rates, resulting in market risk. Other than loans that are originated and held
for sale, all of our financial instruments are for other than trading purposes.
We are subject to interest rate risk to the extent that our interest-bearing
liabilities with short and intermediate-term maturities reprice more rapidly, or
on a different basis, than our interest-earning assets.
Our senior management and Board of Directors review AmeriBank's exposure
to interest rate risk on a quarterly basis. We measure interest rate risk by
computing estimated changes in net interest income and the net portfolio value
of cash flows from assets, liabilities and off-balance sheet items within a
range of assumed changes in market interest rates. If estimated changes to net
portfolio value and net interest income are not within the limits established by
the Board, the Board may direct management to adjust AmeriBank's asset and
liability mix to bring interest rate risk within Board approved limits.
Net portfolio value 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 risk sensitive instruments in the event of sudden and sustained
1% to 3% increases and decreases in market interest rates. The tables below
present the change in AmeriBank's net portfolio value and net interest income at
September 30, 1999 and December 31, 1998, based on internal assumptions, that
would occur upon an immediate change in interest rates, with no effect given to
any steps that management might take to counteract that change.
SEPTEMBER 30, 1999: Net Portfolio Value Net Interest Income
------------------- -----------------------
Change in
Interest Rate $ Amount % Change $ Amount % Change
(Basis Points) in NPV in NPV in NII in NII
- --------------------------------------------------------------------------------
+300 $ 44,921 -44 % $ 20,249 -30 %
+200 56,812 -29 23,340 -20
+100 70,976 -11 26,264 -9
0 80,078 --- 29,005 ---
-100 85,132 6 31,496 9
-200 86,682 8 33,293 15
-300 92,545 16 34,987 21
DECEMBER 31, 1998: Net Portfolio Value Net Interest Income
------------------- -----------------------
Change in
Interest Rate $ Amount % Change $ Amount % Change
(Basis Points) in NPV in NPV in NII in NII
- --------------------------------------------------------------------------------
+300 $ 45,280 -39 % $ 20,275 -27 %
+200 56,873 -23 23,040 -18
+100 64,838 -13 25,532 -9
0 74,187 --- 27,965 ---
-100 79,649 7 30,309 8
-200 83,117 12 31,886 14
-300 91,819 24 33,440 20
17
As illustrated in the table, net portfolio value is more sensitive to
rising rates than declining rates. This occurs principally because, as rates
rise, the market value of fixed-rate loans declines due to both the rate
increase and slowing prepayments. When rates decline, we do not experience a
significant rise in market value for these loans because borrowers prepay at
relatively high rates. The value of our deposits changes in approximately the
same proportion in rising or falling rate scenarios.
The results for the 300 basis point interest rate shocks are monitored
primarily to assist in identifying trends in our interest rate risk profile. We
feel that a sudden and sustained change in interest rates of 300 basis points is
not a realistic event. Therefore we focus on managing, to acceptable levels, the
change in net portfolio value for the 100 and 200 basis point interest rate
shocks both up and down.
The tables above show that from December 31, 1998 to September 30, 1999
there has been a slight increase in sensitivity to a rise in interest rates. At
an increase in interest rates of 300 basis points, net portfolio value decreases
by 44% as of September 30, 1999 compared to a 39% decrease as of December 31,
1998. Most of the increase in sensitivity relates to the increase in our Federal
Home Loan Bank advances portfolio from December 31, 1998 to September 30, 1999.
The increase in this borrowing portfolio has been primarily in adjustable rate
instruments as well as instruments with which the Federal Home Loan Bank has the
option to convert the advance from a fixed rate to an adjustable rate if market
interest rates rise. These convertible options are referred to as putable
advances. Although putable advances provide a low cost source of funds compared
to other kinds of advances, the Federal Home Loan Bank's option to convert has
an unfavorable impact on our interest rate risk both in a rising and falling
interest rate environment. Growth in the putable and adjustable rate advances
has caused a reduction in the advances portfolio's average number of months to
reprice from 34 months as of December 31, 1998 to 23 months as of September 30,
1999 thereby having an unfavorable impact on our sensitivity to a rise in
interest rates. Deposit portfolio mix changes have offset some of the
unfavorable impact of the advances portfolio changes. During the nine months
ended September 30, 1999, many of our shorter-term certificates of deposit
matured and rolled over into our 30-month certificate program. The effect of
this shift was to lengthen the average maturity of our certificate of deposit
portfolio which decreases our sensitivity to a rise in interest rates.
To decrease our exposure to interest rate risk, we are trying to reduce
the duration and average life of our interest-earning assets. To achieve this
goal, we are emphasizing adjustable-rate mortgage loans and growing our consumer
and commercial loan portfolios which are shorter-term in nature than the
mortgage loan portfolio. In addition, we are underwriting all long-term, fixed
rate residential mortgages in accordance with Freddie Mac guidelines which
allows us the flexibility of selling these assets into the secondary market. We
are currently selling 30- and 15-year fixed-rate residential mortgage loans as
they are originated. With our funding sources, we are attempting to reduce the
impact of interest rate changes by emphasizing non-interest bearing products and
using longer-term fixed-rate advances from the Federal Home Loan Bank.
As with any method of measuring interest rate risk, the above table
inherently has shortcomings. For example, although certain assets and
liabilities may have similar maturities or periods to repricing, they may react
in different degrees to changes in market interest rates. The interest rates on
certain types of assets and liabilities may fluctuate in advance of changes in
market interest rates, while interest rates on other types may lag behind
changes in market rates. Additionally, certain assets, such as adjustable-rate
mortgage loans, have features that restrict changes in interest rates on a
short-term basis and over the life of the asset. When there is a change in
interest rates, expected rates of prepayments on loans, decay rates of deposits
and early withdrawals from certificates could likely differ from those assumed
in the table. Finally, the ability of many borrowers to service their debt may
decrease in the event of a significant interest rate increase.
In addition, the above table may not properly reflect the impact of
general interest rate movements on our net interest income because the repricing
of certain categories of assets and liabilities are influenced by competitive
and other pressures beyond our control.
18
OTTAWA FINANCIAL CORPORATION
FORM 10-Q
QUARTER ENDED SEPTEMBER 30, 1999
PART II - OTHER INFORMATION
Item 1 Legal Proceedings:
There are no matters required to be reported under this item, but
see Note 2 of the Notes to Consolidated Financial Statements.
Item 2 Changes in Securities:
There are no matters required to be reported under this item.
Item 3 Defaults Upon Senior Securities:
There are no matters required to be reported under this item.
Item 4 Submission of Matters to a Vote of Security Holders:
There are no matters required to be reported under this item.
Item 5 Other Information:
There are no matters required to be reported under this item.
Item 6 Exhibits and Reports on Form 8-K:
(a) Exhibit 11 Statement - Re: Computation of per Share Earnings
(b) Exhibit 27 - Financial Data Schedule (electronic filing only)
(c) Exhibit 99 - Press Release dated September 29, 1999
19
SIGNATURES
Pursuant to the requirement of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
OTTAWA FINANCIAL CORPORATION
Date: November 9, 1999 /s/ Douglas J. Iverson
-------------------------------------------
Douglas J. Iverson
Vice Chairman and Chief Executive Officer
(Duly Authorized Officer)
Date: November 9, 1999 /s/ Jon W. Swets
-------------------------------------------
Jon W. Swets
Chief Financial Officer
(Principal Financial Officer)
EXHIBIT INDEX
Exhibit
Number Description
- ------ -----------
11 Statement - Re: Computation of per share earnings.
27 Financial Data Schedule (electronic filing only)
99 Press Release dated September 29, 1999