SCHEDULE 14A INFORMATION
PROXY STATEMENT PURSUANT TO SECTION 14(A) OF THE SECURITIES
EXCHANGE ACT OF 1934 (AMENDMENT NO. 1)
Filed by the Registrant [x]
Filed by a Party other than the Registrant [_]
Check the appropriate box:
[_] Preliminary Proxy Statement [_] Confidential, for Use of the
[x] Definitive Proxy Statement Commission Only (as permitted
[_] Definitive Additional Materials by Rule 14a-6(e)(2))
[_] Soliciting Material Pursuant to Rule 14a-11(c) or Rule 14a-12
NORTHWESTERN FINANCIAL CORP.
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(Name of Registrant as Specified in its Charter)
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(Name of Person(s) Filing Proxy Statement, if other than the Registrant)
Payment of Filing Fee (Check the appropriate box):
[_] $125 per Exchange Act Rules 0-11(c)(1)(ii), 14a-6(i)(1), or 14a-6(i)(2), or
Item 22(a)(2) of Schedule 14A.
[_] $500 per each party to the controversy pursuant to Exchange Act Rule 14a-
6(i)(3).
[x] Fee computed on table below per Exchange Act Rules 14a-6(i)(4) and 0-11.
1. Title of each class of securities to which transaction applies:
Common Stock, par value $.01 per share
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2. Aggregate number of securities to which transaction applies:
558,283
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3. Per unit price or other underlying value of transaction computed
pursuant to Exchange Act Rule 0-11 (Set forth the amount on which the
filing fee is calculated and state how it was determined):
$23.25 (Proposed cash purchase price per share)
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4. Proposed maximum aggregate value of transaction:
$12,980,080
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5. Total Fee Paid:
$2,597.00
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[x] Fee paid previously with preliminary materials: $2,597.00
[_] Check box if any part of the fee is offset as provided by Exchange Act Rule
0-11(a)(2) and identify the filing for which the offsetting fee was paid
previously. Identify the previous filing by registration statement number,
or the Form or Schedule and the date of its filing.
1. Amount Previously Paid:
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2. Form, Schedule or Registration Statement No.:
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3 Filing Party:
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4. Date Filed:
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[Northwestern Financial Corp. Letterhead]
June 3, 1996
Dear Stockholder:
You are cordially invited to attend the Special Meeting of Stockholders
(the "Special Meeting") of Northwestern Financial Corp. (the "Company") to be
held at Northwestern Savings Bank, F.S.B.'s South Bank office located at 1301
30th Avenue South, Fargo, North Dakota, on Friday, June 28, 1996 at 11:00 a.m.,
local time.
As described in the enclosed Proxy Statement, at the Special Meeting, the
stockholders of the Company will be asked to approve a Reorganization and Merger
Agreement, dated as of February 13, 1996 (the "Agreement"), which provides for
the acquisition of the Company by AFS Financial Corporation, for a per share
cash purchase price of $23.25. Further information concerning the proposed
acquisition is contained in the accompanying Notice of Special Meeting and Proxy
Statement.
Your Board of Directors has unanimously approved the proposed acquisition
and recommends that you vote FOR approval of the Agreement. An abstention or
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failure to vote is the equivalent of voting against the proposal.
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Your vote is important, regardless of the number of shares you own. ON
BEHALF OF THE BOARD OF DIRECTORS, WE URGE YOU TO SIGN, DATE AND RETURN THE
ENCLOSED PROXY CARD AS SOON AS POSSIBLE, EVEN IF YOU CURRENTLY PLAN TO ATTEND
THE SPECIAL MEETING. This will NOT prevent you from voting in person but will
assure that your vote is counted if you are unable to attend the Special
Meeting.
Sincerely,
/s/ David S. Paulson
David S. Paulson
President and Chief Executive Officer
** PLEASE DO NOT SEND IN ANY STOCK CERTIFICATES AT THIS TIME **
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NORTHWESTERN FINANCIAL CORP.
720 MAIN AVENUE
FARGO, NORTH DAKOTA 58103
(701) 235-4248
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NOTICE OF SPECIAL MEETING OF STOCKHOLDERS
TO BE HELD ON JUNE 28, 1996
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NOTICE IS HEREBY GIVEN that a Special Meeting of Stockholders (including
any adjournment or postponement, the "Special Meeting") of Northwestern
Financial Corp. (the "Company") will be held at Northwestern Savings Bank,
F.S.B.'s South Bank office located at 1301 30th Avenue South, Fargo, North
Dakota, on Friday, June 28, 1996 at 11:00 a.m., local time for the purpose of
considering and acting upon the following proposals:
1. The approval of a Reorganization and Merger Agreement, dated as of February
13, 1996 (the "Agreement"), by and between the Company and Northwestern
Savings Bank, F.S.B. (the "Bank") on the one hand and AFS Financial
Corporation ("AFS"), American Federal Bank ("American Federal") and
American Acquisition Corp. ("NewSub") on the other hand, pursuant to which:
(i) the Company will be acquired by AFS by means of the merger of NewSub, a
wholly owned subsidiary of American Federal, with and into the Company (the
"Merger") with the Company as the surviving corporation; (ii) each share of
the Company's common stock, $0.01 par value per share (the "Common Stock"),
will be converted into the right to receive $23.25 in cash; and (iii) each
holder of an option to acquire Common Stock will receive a cash payment in
an amount determined by multiplying the number of shares of Common Stock
subject to option by an amount equal to the difference between $23.25 and
the per share exercise price of the option, under such terms and conditions
as are described in the Proxy Statement and the Agreement and the other
transactions contemplated thereby; and
2. The transaction of such other matters as may properly come before the
Special Meeting or any adjournment thereof.
A Proxy Card and a Proxy Statement for the Special Meeting are enclosed. A
copy of the Agreement is attached as Appendix A to the Proxy Statement which
accompanies this Notice.
Any action may be taken on any of the foregoing proposals at the Special
Meeting on the date specified above or on any date or dates to which, by
original or later adjournment, the Special Meeting may be adjourned. Pursuant
to the Bylaws, the Board of Directors has fixed the close of business on May 3,
1996, as the record date (the "Record Date") for determination of the
stockholders entitled to notice of and to vote at the Special Meeting and any
adjournments thereof.
Stockholders of the Company will be entitled to and may exercise
dissenters' rights under the provisions of Division XIII of the Iowa Business
Corporation Act ("IBCA"). A copy of Division XIII of the IBCA is attached as
Appendix B to the Proxy Statement that accompanies this Notice.
You are requested to fill in and sign the enclosed form of proxy which is
solicited by the Board of Directors and to mail it promptly in the enclosed
envelope. The proxy will not be used if you attend and vote at the Special
Meeting in person.
BY ORDER OF THE BOARD OF DIRECTORS
/s/ Mary K. Nelson
Mary K. Nelson
Secretary
Fargo, North Dakota
June 3, 1996
NORTHWESTERN FINANCIAL CORP.
720 MAIN AVENUE
FARGO, NORTH DAKOTA 58103
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PROXY STATEMENT
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SPECIAL MEETING OF STOCKHOLDERS
TO BE HELD ON JUNE 28, 1996
INTRODUCTION
This Proxy Statement is furnished in connection with the solicitation of
proxies by the Board of Directors of Northwestern Financial Corp. (the
"Company") to be used at a Special Meeting of Stockholders (including any
adjournment or postponement, the "Special Meeting") to be held at Northwestern
Savings Bank, F.S.B.'s South Bank office located at 1301 30th Avenue South,
Fargo, North Dakota on Friday, June 28, 1996 at 11:00 a.m., local time, and at
any adjournment or postponement thereof. At the Special Meeting, stockholders
will be asked to consider and vote upon a proposal to: (i) approve a
Reorganization and Merger Agreement (the "Agreement"), dated February 13, 1996,
by and between the Company and Northwestern Savings Bank, F.S.B. (the "Bank") on
the one hand and AFS Financial Corporation ("AFS"), American Federal Bank
("American Federal"), a wholly owned subsidiary of AFS, and American Acquisition
Corp. ("NewSub"), a wholly owned subsidiary of American Federal, on the other.
A copy of the Agreement is attached to this Proxy Statement as Appendix A. Only
stockholders of record as of the close of business on May 3, 1996 (the "Record
Date") are entitled to notice of and to vote at the Special Meeting. The
accompanying Notice of Special Meeting and this Proxy Statement, together with
the enclosed proxy card, are being mailed to stockholders of record on or about
June 3, 1996.
The Agreement provides for the acquisition of the Company by AFS by means
of the merger of NewSub with and into the Company (the "Merger"). The Company
will be the surviving corporation and as a result of the Merger shall become a
wholly owned subsidiary of American Federal. At the effective time of the Merger
(the "Effective Time"), each share of the Common Stock outstanding immediately
prior thereto would be cancelled and converted into the right to receive a cash
payment from AFS equal to $23.25 (the "Merger Consideration"). In addition,
pursuant to the Agreement, at the effective time of the Merger, each outstanding
option to acquire Common Stock ("Option") will be cancelled, and, in
consideration for such cancellation, each holder of an Option will receive a
cash payment in an amount determined by multiplying the number of shares of
Common Stock subject to such Option by an amount equal to the difference between
the Merger Consideration and the per share exercise price of such Option. THE
BOARD OF DIRECTORS BELIEVES THE MERGER IS IN THE BEST INTERESTS OF STOCKHOLDERS
AND UNANIMOUSLY RECOMMENDS A VOTE FOR APPROVAL OF THE AGREEMENT.
ALL INFORMATION CONTAINED IN THIS PROXY STATEMENT WITH RESPECT TO AFS,
AMERICAN FEDERAL AND NEWSUB HAS BEEN SUPPLIED BY AFS, AND ALL INFORMATION WITH
RESPECT TO THE COMPANY AND THE BANK HAS BEEN SUPPLIED BY THE COMPANY.
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IMPORTANT: THE PROMPT RETURN OF PROXIES WILL SAVE YOUR COMPANY THE EXPENSE OF
FURTHER REQUESTS FOR PROXIES IN ORDER TO ENSURE A QUORUM. AN ADDRESSED ENVELOPE
IS ENCLOSED FOR YOUR CONVENIENCE. NO POSTAGE IS REQUIRED IF MAILED IN THE UNITED
STATES.
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** PLEASE DO NOT SEND IN ANY STOCK CERTIFICATES AT THIS TIME **
STOCKHOLDERS WILL BE GIVEN DETAILED INSTRUCTIONS FOR
SURRENDERING THEIR STOCK CERTIFICATES AS SOON
AS PRACTICABLE AFTER THE MERGER
BECOMES EFFECTIVE.
TABLE OF CONTENTS
PAGE
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SUMMARY................................................... 3
NORTHWESTERN FINANCIAL CORP. SELECTED
CONSOLIDATED FINANCIAL AND OTHER DATA.................... 11
MEETING INFORMATION....................................... 13
Date, Time and Place................................. 13
Voting Rights......................................... 13
Voting and Revocation of Proxies...................... 13
Solicitation of Proxies............................... 13
PROPOSAL I -- APPROVAL OF THE MERGER...................... 14
General............................................... 14
The Parties to the Agreement.......................... 14
Background of the Merger.............................. 16
Recommendation of the Board of Directors;
Reasons for the Merger.............................. 19
Opinion of Financial Advisor.......................... 19
Vote Required......................................... 22
Dissenters' Rights.................................... 23
Description of the Merger............................. 24
Exchange of Stock Certificates and Settlement
of Options.......................................... 25
Effective Time........................................ 25
Conditions to the Merger.............................. 25
Conduct of Business Pending the Merger................ 27
No Solicitation....................................... 28
Representations and Warranties of the Company
and the Bank........................................ 29
Representations and Warranties of AFS
and American Federal................................ 29
Further Agreements of the Parties..................... 29
Termination of the Agreement.......................... 31
Amendment............................................ 32
Expenses 32
Interests of Certain Persons in the Merger............ 32
Certain Federal Income Tax Consequences............... 35
Accounting Treatment.................................. 35
Regulatory Approvals.................................. 35
NORTHWESTERN FINANCIAL CORP............................... 36
General............................................... 36
Branch Sales.......................................... 37
Past Supervisory Actions.............................. 37
Arizona Lending....................................... 37
Market Area........................................... 38
Lending Activities 39
Mortgage-Backed Securities Held to Maturity........... 55
Securities Available for Sale......................... 55
Investments Held to Maturity and Other Investments.... 55
Deposit Activity and Other Sources of Funds........... 58
Subsidiary Activities................................. 63
Competition........................................... 63
Employees............................................. 64
Properties............................................ 64
Legal Proceedings..................................... 64
PAGE
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REGULATION................................................ 65
TAXATION.................................................. 75
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS........................................... 77
Financial Review..................................... 77
Results of Operations for the Years Ended June 30,
1995, 1994 and 1993................................. 78
Financial Condition at June 30, 1995, 1994 and 1993.. 84
Financial Condition at March 31, 1996 and
June 30, 1995....................................... 91
Results of Operations for the Nine Months Ended
March 31, 1996 and 1995............................. 94
Liquidity and Capital Resources...................... 97
STOCK OWNERSHIP OF MANAGEMENT AND
CERTAIN BENEFICIAL OWNERS............................... 98
MARKET FOR THE COMMON STOCK AND DIVIDENDS................. 99
INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS.................. 100
OTHER MATTERS............................................. 100
STOCKHOLDER PROPOSALS..................................... 100
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
OF NORTHWESTERN FINANCIAL CORP.......................... 101
APPENDICES
Appendix A - Reorganization and Merger Agreement A-1
Appendix B - Opinion of Robert W. Baird & Co.,
Incorporated........................................ B-1
Appendix C - Division XIII of the Iowa Business
Corporation Act..................................... C-1
2
SUMMARY
The following is a brief summary of certain information regarding the
Merger contained in this Proxy Statement and the Appendices hereto. This
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summary does not contain a complete statement of all material information
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relating to the proposed acquisition of Northwestern Financial Corp. (the
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"Company") and is subject to and qualified in its entirety by reference to the
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more detailed information contained elsewhere in this Proxy Statement, including
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the Appendices. Each stockholder is urged to give careful consideration to all
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of the information contained herein before casting his or her vote.
INFORMATION RELATING TO THE SPECIAL MEETING
The Special Meeting of Stockholders (including any adjournment or
postponement thereof, the "Special Meeting") of the Company will be held on
Friday, June 28, 1996 at 11:00 a.m., local time, at Northwestern Savings Bank,
F.S.B.'s South Bank office located at 1301 30th Avenue South, Fargo, North
Dakota. At the Special Meeting, stockholders will be asked to consider and vote
upon a proposal to: (i) approve a Reorganization and Merger Agreement (the
"Agreement"), dated February 13, 1996, by and between the Company and
Northwestern Savings Bank, F.S.B. (the "Bank") on the one hand and AFS Financial
Corporation ("AFS"), American Federal Bank ("American Federal"), a wholly owned
subsidiary of AFS, and American Acquisition Corp. ("NewSub), a wholly owned
subsidiary of American Federal, on the other. A copy of the Agreement is
attached to this Proxy Statement as Appendix A. Only stockholders of record as
of the close of business on May 3, 1996 (the "Record Date") are entitled to
notice of and to vote at the Special Meeting. See "MEETING INFORMATION." The
Company and the Bank are collectively referred to herein as "Seller" or
"Sellers", and AFS, American Federal and NewSub are collectively referred to
herein as "Buyer" or "Buyers".
APPROVAL OF THE AGREEMENT WILL REQUIRE THE AFFIRMATIVE VOTE OF AT LEAST A
MAJORITY OF ALL VOTES ENTITLED TO BE CAST BY THE HOLDERS OF THE COMPANY'S COMMON
STOCK, $0.01 PAR VALUE PER SHARE (THE "COMMON STOCK").
THE MERGER
The Agreement provides for the acquisition of the Company by AFS by means
of a merger of NewSub with and into the Company (the "Merger") in accordance
with the provisions of the Agreement and applicable provisions of Iowa law. The
Company will be the surviving entity resulting from the Merger (the "Surviving
Corporation") and as a result of the Merger will become a wholly owned
subsidiary of American Federal. The Agreement has been approved and adopted by
the Boards of Directors of the Company and the Bank and by AFS, American Federal
and NewSub. At the effective time of the Merger (the "Effective Time"), each
share of Common Stock outstanding immediately prior thereto will be cancelled
and converted into the right to receive a cash payment from AFS equal to $23.25
(the "Merger Consideration"). In addition, pursuant to the Agreement, prior to
the Effective Time, the Company will amend the Northwestern Financial Corp. 1993
Stock Option and Incentive Plan (the "Option Plan") to the extent necessary to
permit the cancellation or termination on the Effective Time of each option to
purchase Common Stock ("Option") outstanding as of the Effective Time. At the
Effective Time, each Option holder will receive a cash payment in an amount
determined by multiplying the number of shares of Common Stock subject to such
Option by an amount equal to the difference between the Merger Consideration and
the per share exercise price of such Option. The amount of such a cash payment
to holders of Options with respect to each Option to purchase one share of
Common Stock is referred to as the "Stock Option Price." As of the Record Date,
there were outstanding Options to acquire 47,023 shares of Common Stock. All
Options had an exercise price of $10.00 per share and were held by 11 holders.
Following the Effective Time, the Company will be liquidated into American
Federal and, thereafter, the Bank will be merged with and into American Federal
(the "Bank Merger").
The Merger Consideration was determined in negotiations between the Company
and AFS with the assistance of the Company's financial advisor. For a general
discussion of these negotiations, the factors considered by the Board of
Directors of the Company in evaluating the Merger and the basis for the opinion
of the Company's financial advisor that the Merger Consideration is fair to
stockholders from a financial point of view, see
3
"PROPOSAL I -- APPROVAL OF THE MERGER -- Background of the Merger," " --
Recommendation of the Board of Directors; Reasons for the Merger" and " --
Opinion of Financial Advisor."
THE PARTIES TO THE AGREEMENT
Northwestern Financial Corp. The Company was incorporated under the laws
of the State of Iowa in September 1993 to become a savings institution holding
company with the Bank as its sole subsidiary. The Company acquired all of the
capital stock of the Bank issued in connection with the Bank's conversion from
mutual to stock form (the "Conversion") on December 31, 1993. The Company's
principal business is the business of the Bank and its subsidiaries. In
conjunction with the Bank's conversion, the Company issued 508,238 shares of
Common Stock to the public and registered its Common Stock with the Securities
and Exchange Commission ("SEC") under the Securities Exchange Act of 1934, as
amended (the "Exchange Act").
The Company is classified as a unitary savings and loan holding company
subject to regulation by the Office of Thrift Supervision ("OTS"). Prior to its
acquisition of the capital stock of the Bank, the Company had no assets and no
liabilities and engaged in no business activities. Since the acquisition, the
Company has not engaged in any significant activity other than holding the stock
of the Bank. At March 31, 1996, the Company had total assets of $69.9 million,
deposits of $52.8 million and stockholders' equity of $9.7 million.
The executive offices of the Company are located at 720 Main Avenue, Fargo,
North Dakota 58103, and its main telephone number is (701) 235-4248.
Northwestern Savings Bank, F.S.B. The Bank is a federal savings bank
operating through three offices located in Fargo and Wahpeton, North Dakota.
The Bank has operated continuously for over 100 years, having been founded as a
North Dakota chartered mutual savings and loan association in 1893. The Bank
became a Federal Home Loan Bank ("FHLB") member in 1933, and its deposits became
federally insured in 1959. The Bank adopted a federal charter in 1973, at which
time it adopted the title Northwestern Federal Savings and Loan Association. In
1991, the Bank adopted its present title of Northwestern Savings Bank, F.S.B.
The Bank converted to the stock form of ownership on December 31, 1993, at which
time it became a wholly owned subsidiary of the Company.
The Bank's principal business consists of attracting deposits from the
general public and investing these funds primarily in loans secured by first
mortgages on real estate located primarily in the Bank's primary market area,
the Fargo-Moorhead area, which consists of Cass and Richland Counties in North
Dakota and Clay and Wilkin Counties in Minnesota. To a limited extent, the Bank
has resumed the placement of loans secured by properties in Arizona in its loan
portfolio to be held for investment purposes. Such loans are originated by the
Bank's loan production office in Chandler, Arizona. The Bank emphasizes the
origination of loans for the purchase or construction of residential real estate
and multi-family residential property. In addition, to a lesser extent, the
Bank originates commercial real estate loans, commercial leases and consumer
loans, including automobile loans, home equity loans, and loans secured by
savings accounts.
The Bank derives its income principally from interest earned on loans and,
to a lesser extent, loan servicing and other fees, gains on the sale of loans
and interest earned on investment and mortgage-backed securities. The Bank's
principal expenses are interest expense on deposits and non-interest expense
such as compensation and employee benefits, office occupancy and equipment
expenses and other miscellaneous expenses. Funds for these activities are
provided principally by deposits, repayments of outstanding loans, sales of
loans and operating revenues.
The Bank is subject to examination and comprehensive regulation by the OTS,
and the Bank's savings deposits are insured up to applicable limits by the
Savings Association Insurance Fund (the "SAIF"), which is administered by the
Federal Deposit Insurance Corporation (the "FDIC"). The Bank is a member of and
owns capital stock in the FHLB of Des Moines, which is one of 12 regional banks
in the FHLB System. The Bank is further subject to regulations of the Board of
Governors of the Federal Reserve System (the "Federal Reserve Board") governing
reserves to be maintained and certain other matters.
4
The executive offices of the Bank are located at 720 Main Avenue, Fargo,
North Dakota 58103, and its main telephone number is (701) 235-4248.
AFS Financial Corporation. AFS was formed in April 1991 at the direction
of American Federal for the purpose of becoming a holding company for American
Federal as part of its conversion from mutual to stock form. AFS is classified
as a unitary savings and loan holding company subject to regulation by the OTS.
AFS does not engage in any significant activity other than holding the stock of
American Federal and operating the business of a savings association through
American Federal. At March 31, 1996, AFS had total assets of $204.8 million,
deposits of $176.1 million and stockholders' equity of $14.3 million. The
executive offices of AFS are located at 124 DeMers Avenue, East Grand Forks,
Minnesota 56721, and its main telephone number is (218) 773-9711.
American Federal Bank. American Federal was incorporated in 1890 as a
Minnesota-chartered building and loan association. American Federal converted
to a federally chartered savings and loan association in 1934 and to a federally
chartered mutual savings bank in 1985. In 1991, American Federal converted to
stock form.
American Federal is principally engaged in the business of accepting
deposits from the general public and originating permanent loans which are
secured by one- to four-family residential properties located in its market
area. To a lesser extent, American Federal originates commercial real estate
and multi-family residential real estate loans and consumer loans, and maintains
an investment securities and mortgage-backed securities portfolio.
As a federally chartered savings bank, American Federal is subject to
extensive regulation and examination by the OTS and the FDIC, as the
administrator of the SAIF, which insures American Federal's deposits up to
applicable limits. American Federal is a member of the FHLB of Des Moines,
which is one of the 12 district banks comprising the FHLB system.
The executive offices of American Federal are located at 124 DeMers Avenue,
East Grand Forks, Minnesota 56721, and its main telephone number is (218) 773-
9711.
American Acquisition Corp. NewSub is an Iowa corporation and a wholly
owned subsidiary of American Federal. NewSub has conducted no business
operations and was formed solely to consummate the Merger.
The executive offices of NewSub are located at 124 DeMers Avenue, East
Grand Forks, Minnesota 56721, and its main telephone number is (218) 773-9711.
RECOMMENDATION OF THE BOARD OF DIRECTORS; VOTE REQUIRED
The Board of Directors of the Company has unanimously approved the
Agreement and determined that the Merger is in the best interests of the Company
and its stockholders. THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS THAT
STOCKHOLDERS VOTE FOR APPROVAL OF THE AGREEMENT. See "PROPOSAL I -- APPROVAL OF
---
THE MERGER -- Recommendation of the Board of Directors; Reasons for the Merger."
Approval of the Merger requires the affirmative vote of a majority of the shares
of Common Stock outstanding. As of the Record Date, directors and executive
officers of the Company and their affiliates were the beneficial owners of
130,324 shares, or 23.5%, of the Common Stock outstanding at that date. In
addition, the MRP trusts, of which four non-employee directors are trustees,
were the beneficial owners of 2,247 shares, or 0.4%, of the outstanding Common
Stock, and, at the Record Date, there were 32,016 shares, representing 6.3% of
the outstanding Common Stock, held in the ESOP suspense account for future
allocation to participating employees. The ESOP trustees, consisting of four
non-employee directors of the Company, vote allocated shares in accordance with
the instructions of the participants and unallocated shares and shares for which
no instructions have been given in the same ratio as participants direct the
voting of allocated shares or, in the absence of such direction, in the ESOP
trustees' best judgment. In addition, as of the Record Date, AFS and its
affiliates owned 638 shares, or 0.1%, of the outstanding Common Stock. See
"PROPOSAL I -- APPROVAL OF THE MERGER -- Vote Required."
5
CONDITIONS TO THE MERGER
The Agreement sets forth a number of conditions which must be satisfied
before the Merger may be consummated, including the approval of the Agreement by
the requisite vote of the stockholders of the Company and the receipt of all
governmental approvals required by the Agreement. An application for approval
of the Merger has been submitted to the OTS. No assurance can be given that
such application will be approved or that it will not be approved on terms or
conditions that may require an amendment to the Agreement. After Company
stockholders have approved the Agreement, no amendment without further
stockholder approval may change the amount or form of the consideration to be
received by the Company stockholders in the Merger.
If stockholder approval of the Agreement is not obtained, none of the
transactions contemplated thereby, including the Merger, shall be consummated.
While no definitive plans have been formulated as to what course of action would
be pursued in this event, the Board of Directors presently intends to continue
the operation of the Company as an independent entity.
Consummation of the Merger also is subject to receipt by AFS of an opinion
of its tax counsel or tax accountants as to the tax consequences of the Merger
and the Bank Merger to AFS, American Federal, the Company and the Bank. Such
opinion has been received.
The Merger is also subject to a number of other conditions set forth in the
Agreement. It is not known as of the date of this Proxy Statement whether all
conditions to the Merger will be satisfied. The Agreement may be terminated by
a party if any event occurs which renders it impossible for the other party to
satisfy in any material respect a condition to the terminating party's
obligation to effect the Merger or the Bank Merger. See "PROPOSAL I -- APPROVAL
OF THE MERGER -- Conditions to the Merger" and " -- Termination of the
Agreement." Except for conditions relating to Company stockholder approval of
the Agreement, receipt of governmental approvals and the absence of governmental
or judicial orders prohibiting the Merger, any condition to a party's obligation
to consummate the Merger may be waived by that party. Neither party can predict
as of the date of this Proxy Statement whether it would waive any condition to
its obligation to consummate the Merger.
EXCHANGE OF STOCK CERTIFICATES
Within five business days after the Effective Time, an exchange agent (the
"Exchange Agent") to be mutually agreed upon by Buyer and Seller will send a
notice and a form of letter of transmittal ("Letter of Transmittal") to each
holder of certificate(s) which immediately prior to the Effective Time
represented shares of Common Stock, advising the holders of the terms of the
exchange and the procedure for surrendering such certificate(s) in exchange for
the Merger Consideration. Upon receipt of the certificate(s) and properly
completed transmittal forms or letters, the Exchange Agent will make the
appropriate cash payment. The Agreement provides that AFS may act as the
Exchange Agent. See "PROPOSAL I -- APPROVAL OF THE MERGER -- Exchange of Stock
Certificates and Settlement of Options."
PLEASE DO NOT SEND IN ANY STOCK CERTIFICATES AT THIS TIME.
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OPINION OF FINANCIAL ADVISOR
The Board of Directors retained Robert W. Baird & Co. Incorporated
("Baird") to render financial advisory services to the Company and requested
that Baird render its opinion with respect to the fairness, from a financial
point of view, to the Company's stockholders of the consideration to be received
in the Merger. Baird rendered its opinion to the Board of Directors of the
Company as of February 13, 1996 that, from a financial point of view, the
consideration to be received in the Merger was fair to the stockholders of the
Company. This opinion has been updated and confirmed as of the date of this
Proxy Statement. (Such opinion, as updated, is hereinafter referred to as the
"Opinion"). The Opinion sets forth a description of the assumptions made and
matters considered by Baird and contains certain limitations and qualifications.
A copy of the Opinion is attached as Appendix B hereto, and the description set
forth herein is qualified in its entirety by reference to the attached Opinion.
For additional
6
information, see "PROPOSAL I -- APPROVAL OF THE MERGER -- Opinion of Financial
Advisor" and the opinion of Baird attached hereto as Appendix B.
DISSENTERS' RIGHTS
Under the provisions of Iowa law, any stockholders of the Company who
object to the Merger will have a statutory right to demand payment of the "fair
value" of their Common Stock in cash. To perfect this right, a Company
stockholder must not vote such shares in favor of the Merger at the Special
Meeting (this may be done by marking the proxy either to vote against the Merger
or to abstain from voting thereon or by not voting at all) and must take such
action as is required by the provisions of Part B of Division XIII of the Iowa
Business Corporation Act ("IBCA"), including delivering written notice of
objection to the Company prior to the vote on the Agreement at the Special
Meeting. See "PROPOSAL I -- APPROVAL OF THE MERGER -- Dissenters' Rights" and
Appendix C hereto.
NO SOLICITATION
The Agreement provides that neither the Company nor the Bank will authorize
or permit any officer, director, employee, investment banker, attorney,
accountant or other representative to initiate contact with any person or entity
in an effort to solicit, initiate or encourage any proposal other than as
contemplated by the Agreement for a merger or other business combination
involving the Company or the Bank or for the acquisition of a 10% or greater
equity interest in the Company or the Bank, or for the acquisition of a
substantial portion of the assets of the Company or the Bank ("Takeover
Proposal"). Except as the fiduciary duties of the Company's Board of Directors
may require, the Company and the Bank are not permitted to cooperate with or
furnish non-public information concerning its business to any person in
connection with a Takeover Proposal, negotiate a Takeover Proposal or enter into
an agreement as to any Takeover Proposal. The Company must notify AFS
immediately upon becoming aware of the possibility of a Takeover Proposal or
having contact initiated by any party other than AFS or American Federal
regarding a significant corporate event. The Agreement also provides that the
Company and the Bank will upon demand pay $500,000 to AFS and American Federal
if the Agreement is terminated under certain circumstances and prior to such
termination there occurred either of the following events: (i) the Company or a
subsidiary without AFS's prior written consent shall have entered into an
agreement to engage in a merger with or acquisition or purchase of the Company's
or the Bank's assets by a party other than AFS or an affiliate; or (ii) after a
bona fide proposal is made by any person other than AFS or an affiliate to
engage in a transaction described in (i) above, either the Company shall have
willfully breached a covenant contained in the Agreement, the Company
stockholders shall not have approved the Agreement at the Special Meeting, the
Special Meeting is not held or the Company's Board of Directors shall have
withdrawn or modified in a manner adverse to AFS its recommendations that
stockholders vote FOR approval of the Agreement.
The foregoing provisions may have the effect of discouraging competing
offers to acquire or merge with the Company.
See "PROPOSAL I -- APPROVAL OF THE MERGER -- No Solicitation."
TERMINATION OF THE AGREEMENT
The Agreement is subject to termination by the mutual agreement of the
parties. The Agreement also is subject to termination by either the Company or
AFS if the closing of the transactions provided for in the Agreement (the
"Closing") has not occurred by October 31, 1996 (the "Termination Date"), except
that the right to terminate is not available to any party whose failure to
perform an obligation under the Agreement caused the Closing not to occur prior
to the Termination Date. The Agreement may be terminated by a party if any
event occurs which renders it impossible for the other party to satisfy in any
material respect a condition to the terminating party's obligation to effect the
Merger or the Bank Merger. See "PROPOSAL I -- APPROVAL OF THE MERGER --
Termination of the Agreement" and " -- Conditions to the Merger."
7
CERTAIN FEDERAL INCOME TAX CONSEQUENCES
All stockholders should read carefully the discussion in "PROPOSAL I --
APPROVAL OF THE MERGER -- Certain Federal Income Tax Consequences" and other
sections of this Proxy Statement. Stockholders are urged to consult their own
tax advisors as to the specific consequences to them of the Merger under
applicable tax laws.
The receipt of cash by a stockholder of the Company in exchange for shares
of the Common Stock pursuant to the Merger will be a taxable transaction to such
stockholder for federal income tax purposes. In general, a stockholder who
receives cash in the Merger in exchange for such stockholder's shares of Common
Stock will recognize gain or loss equal to the difference, if any, between (i)
the sum of the cash payment of $23.25 per share received from AFS in exchange
for the shares of the Common Stock and (ii) the stockholder's tax basis in such
shares of Common Stock. See "PROPOSAL I -- APPROVAL OF THE MERGER -- Certain
Federal Income Tax Consequences."
INTERESTS OF CERTAIN PERSONS IN THE MERGER
Certain members of the Company's and the Bank's Boards of Directors and
their officers and employees have interests in the Merger in addition to their
interests as stockholders of the Company generally. These interests include,
among others, provisions in the Agreement relating to liability insurance and
indemnification, the accelerated vesting of previously granted awards of
restricted shares of Common Stock, accelerated vesting under the Company's
Employee Stock Ownership Plan ("ESOP") and the Bank's Directors' Retirement Plan
and other employee benefit matters. See "PROPOSAL I -- APPROVAL OF THE MERGER -
- - Interests of Certain Persons in the Merger" and " -- Further Agreements of
the Parties."
The Agreement provides that the employment agreements of Mr. Paulson, the
President and Chief Executive Officer of the Company and the Bank, and Ms.
Nelson, the Executive Vice President and Secretary of the Company and the Bank,
will be terminated at the Effective Time and at the Effective Time, the payments
to which Mr. Paulson and Ms. Nelson are due under their agreements upon a change
in control will be made. It is currently anticipated that in the event the
Closing occurred on June 30, 1996, Mr. Paulson and Ms. Nelson will be entitled
to severance payments under their current employment agreements in the
approximate amounts of approximately $287,000 and $156,000, respectively.
Pursuant to the Agreement, in no event may the aggregate amount of such payments
to Mr. Paulson and Ms. Nelson exceed the "golden parachute" limits of the
Internal Revenue Code of 1986 or $292,000 and $159,000, respectively.
The existing severance agreement between Brian P. Wittman, Controller of
the Company and the Bank, and the Company will be terminated and in lieu thereof
Mr. Wittman and American Federal will enter into a severance agreement providing
that: (A) on the earlier to occur of 120 days following the Effective Time or
December 31, 1996, Mr. Wittman will receive as consideration for agreeing to
terminate his existing severance agreement (and such rights as he may be
entitled to thereunder) and for assisting in the transition following the
Effective Time a cash payment of $23,130 from American Federal; (B) on the date
that is 120 days following the Effective Time, Mr. Wittman will receive an
additional cash payment of $23,130 from American Federal, unless on or prior to
such date Mr. Wittman and American Federal agree in writing for Mr. Wittman to
continue full time employment with American Federal on mutually acceptable
terms, in which event such additional $23,130 payment shall not be made; (C) in
the event Mr. Wittman's employment is terminated by either AFS or American
Federal prior to the date on which a payment is to be made pursuant to clause
(A) or (B) Mr. Wittman will receive a cash payment of $46,260 less any payment
previously tendered to him pursuant to clause (A) or (B) effective upon such
termination and no further payment shall be required; and (D) no payments still
owing to Mr. Wittman will be due if at any time prior to the date on which a
payment is required to be made Mr. Wittman voluntarily self-terminates his
employment or he is terminated by American Federal for cause.
8
Pursuant to the Agreement, at the Effective Time, each holder of an Option
will receive, in consideration for the cancellation of such Option, an amount
determined by multiplying the number of shares subject to Option by an amount
equal to the difference between $23.25 and the exercise price per share of
Common Stock underlying such Option. All outstanding Options have an exercise
price of $10.00 per share. Assuming that no Options are exercised prior to the
Effective Time, the amount each director, director emeritus and executive
officer of the Company is expected to receive in exchange for the cancellation
of his or her Options outstanding as of the Record Date is as follows:
NUMBER OF SHARES NET REALIZABLE
NAME POSITION UNDERLYING OPTIONS VALUE OF OPTIONS
- ---- -------- ------------------ ----------------
David S. Paulson Director, President and Chief
Executive Officer 15,006 $ 198,830
John M. Grove Chairman of the Board 3,602 47,727
Carl R. Ekern Director 3,602 47,727
Robert S. Gibb, Sr. Director 3,602 47,727
Mary K. Nelson Director, Executive Vice President
and Secretary 7,502 99,402
Mark V. Sweeney Director 3,602 47,727
C. Nicholas Vogel Director Emeritus 3,602 47,727
Brian P. Wittman Controller/Treasurer -- --
Stanley D. Bachmeier Vice President - Lending 3,002 39,777
Marlin D. Lindquist Vice President 1,251 16,576
Eric B. Rogne Vice President 1,251 16,576
In addition, at the Effective Time, each non-employee director and the
director emeritus will become fully vested in 1,440 shares of restricted Common
Stock with an individual value of $33,480 at the Effective Time and Messrs.
Paulson, Wittman, Bachmeier, Lindquist and Rogne and Ms. Nelson would become
immediately fully vested in 6,002, 800, 1,200, 500, 500 and 3,001 shares of
restricted Common Stock, respectively, with an approximate value (based on a per
share price of $23.25) of $139,547, $18,600, $27,900, $11,625, $11,625 and
$69,773, respectively and would also be entitled to receive any unpaid cash
dividends which had accrued on such shares plus interest as well as, in the case
of Messrs. Wittman and Bachmeier who did not exercise an election to receive a
cash bonus at the time of award, a cash bonus equal to $4.00 per share for each
share award received by the individual for the tax liability which such
individuals will recognize with respect to such unvested restricted stock
awards.
As a result of the Merger and upon the termination of the ESOP, the ESOP
loan from Northwestern Financial Corp. of $320,160 will be repaid from the
Merger Consideration received for the 31,016 shares of Common Stock held by the
ESOP that remained unallocated at December 31, 1995. The remaining proceeds will
be allocated to the ESOP participants. The expected amounts to be allocated as a
result of such action to Messrs. Paulson, Wittman, Bachmeier, Lindquist and
Rogne and Ms. Nelson are approximately $55,000, $13,000, $28,000, $26,000,
$21,000, and $31,000, respectively. Such amounts are subject to change if
additional contributions by the Company are made to the ESOP prior to the
Effective Time. In addition, each participant in the ESOP not fully vested will
become fully vested in his or her ESOP account upon termination of the ESOP. At
December 31, 1995, the only executive officer of the Company who was not fully
vested in his ESOP account was Mr. Wittman. As a result of such acceleration in
vesting, Mr. Wittman would become fully vested in the unvested $5,000 of his
ESOP account.
At the Effective Time, the Bank's Directors' Retirement Plan will be
terminated, and all participants will become fully vested and eligible to
receive benefits therein. As a result, within ten days following the Effective
Time, Directors Ekern, Sweeney, Paulson, Gibb, Grove and Nelson each will
receive a lump sum cash payment of up to $14,400.
9
Pursuant to the Agreement, six months after the Effective Time, all
employees of the Company or the Bank will receive a cash payment based on years
of service and monthly base compensation. The payment to be made to Messrs.
Bachmeier, Lindquist and Rogne and Ms. Udart and Ms. Fredericks will be one-half
of monthly salary for each year of service up to a maximum of six months. Such
payment will not be due if the employee self-terminates or is terminated for
cause prior to the expiration of such six month period. In addition, if AFS
terminates certain senior officer employees, which include Messrs. Bachmeier,
Lindquist and Rogne and Ms. Udart and Ms. Fredericks, within one year following
the Effective Time, such terminated senior officer employee will receive an
additional payment of one-half of monthly base salary for each year of service
up to a maximum of six months. Such additional payment will not be due if the
senior officer employee self-terminates or is terminated for cause prior to the
expiration of such one-year period.
The Company's Board of Directors was aware of these interests and
considered them, among other matters, in unanimously approving the Agreement and
the transactions contemplated thereby.
MARKET FOR THE COMMON STOCK AND DIVIDENDS
As of May 3, 1996, there were 511,240 shares of Common Stock outstanding.
As of the same date, there were approximately 203 stockholders of record.
At the present time, there is no market in which shares of the Common Stock
are actively traded, nor are there any uniformly quoted prices for such shares.
Registered brokers can facilitate sales and purchases of Common Stock using
standard procedures for trading unlisted stocks. The Common Stock is listed
over-the-counter through the National Daily Quotation System "Pink Sheets."
Stockbrokers can provide recent price ranges using information contained in the
"Pink Sheets."
On October 24, 1994, the Company declared a cash dividend of $.10 per share
of Common Stock payable as of November 20, 1994 to stockholders of record as of
November 10, 1994. For certain dividend restrictions see Note 15 of Notes to
Consolidated Financial Statements for additional information.
The last reported sale price for the Common Stock on the National Quotation
Bureau Pink Sheets on February 13, 1996, the last business day prior to the
announcement of the signing of the Agreement was $16.25. The last reported sale
price of the Common Stock on May 15, 1996, the last practicable date prior to
the mailing of this Proxy Statement was $20.75 per share.
See "MARKET FOR THE COMMON STOCK AND DIVIDENDS."
10
NORTHWESTERN FINANCIAL CORP.
SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA
The following tables present selected consolidated financial
information for the Company at the dates and for the periods indicated. This
information is derived from and should be read in conjunction with the Company's
consolidated financial statements and the notes thereto.
At
March 31, At June 30,
--------------------------------------------------
1996 (1) 1995 (1) 1994 (1) 1993 (1) 1992 1991
-------- ------ ------ ------ ------ ------
SUMMARY OF FINANCIAL CONDITION (In thousands)
Total assets................................. $69,873 $64,457 $55,006 $52,881 $82,710 $85,753
Cash and cash equivalents.................... 1,150 1,088 3,532 1,119 18,764 6,869
Loans receivable, net........................ 58,619 48,125 37,405 40,556 54,197 63,693
Securities available for sale................ 3,632 414 -- -- -- --
Investment securities held to maturity....... 476 7,602 9,470 5,990 495 1,699
Mortgage-backed securities held to maturity.. 877 2,064 380 836 1,364 2,971
Real estate, net............................. 41 65 179 423 2,774 5,533
Deposits..................................... 52,752 49,570 43,981 46,349 74,121 77,765
FHLB advances................................ 5,590 3,592 -- -- 2,000 2,000
Stockholders' equity......................... 9,653 9,043 8,856 3,932 3,218 2,602
Nine Months Ended
March 31, Year Ended June 30,
------------------ -------------------------------------------------
SUMMARY OF OPERATIONS 1996 (1) 1995 (1) 1995 (1) 1994 (1) 1993 (1) 1992 1991
------ ------ ------ ------ ------ ------ -----
(In thousands)
Interest income.............................. $ 3,864 $ 2,980 $ 4,120 $ 3,771 $ 4,919 $ 6,967 $8,608
Interest expense............................. 2,257 1,585 2,300 1,838 2,982 4,790 6,382
------- ------- ------- ------- ------- ------- ------
Net interest income.......................... 1,607 1,395 1,820 1,933 1,937 2,177 2,226
Provision for loan losses.................... -- -- -- 12 -- 56 35
------- ------- ------- ------- ------- ------- ------
Net interest income after provision for loan
losses...................................... 1,607 1,395 1,820 1,921 1,937 2,121 2,191
Gain on sale of loans held for sale, net..... 184 58 121 621 597 364 184
Rental income................................ 20 15 23 16 139 328 352
Securities gains (losses), net............... -- 6 6 (139) -- (4) --
Gain (loss) on sale of real estate, net...... 29 105 124 261 (44) 27 147
Other income................................. 275 217 291 383 428 546 1,000
------- ------- ------- ------- ------- ------- ------
Total non-interest income................... 508 401 565 1,142 1,120 1,261 1,683
------- ------- ------- ------- ------- ------- ------
Real estate owned expenses................... 7 20 24 36 58 146 337
Provision for real estate losses............. -- -- -- -- 8 302 514
Other expenses............................... 1,814 1,755 2,326 2,058 1,955 1,956 2,333
------- ------- ------- ------- ------- ------- ------
Total non-interest expense.................. 1,821 1,775 2,350 2,094 2,021 2,404 3,184
------- ------- ------- ------- ------- ------- ------
Income before income taxes and cumulative
effect of change in accounting principle.... 294 21 35 969 1,036 978 690
Income tax expense (benefit)................. (217) 8 (51) 415 322 362 180
Cumulative effect of change in accounting
principle................................... -- -- -- 325 -- -- --
------- ------- ------- ------- ------- ------- ------
Net income $ 511 $ 13 $ 86 $ 879 $ 714 $ 616 $ 510
======= ======= ======= ======= ======= ======= ======
11
NORTHWESTERN FINANCIAL CORP.
SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA (CONTINUED)
Nine Month Ended
March 31, Year Ended June 30,
------------------- -----------------------------------------------------
OTHER SELECTED DATA 1996 (1) 1995 (1) 1995 (1) 1994 (1) 1993 (1) 1992 1991
------ ------ ------ ------ ------ ------ ------
Return on average assets (2)..................... 1.02% 0.03% 0.15% 1.59% 1.06% 0.73% 0.55%
Return on average equity (2)..................... 7.32 0.19 0.96 13.25 19.47 21.03 22.60
Net interest margin (2).......................... 3.44 3.44 3.29 3.68 3.11 2.89 2.73
Average equity to average assets................. 13.96 15.50 15.17 12.00 5.46 3.49 2.44
Ratio of average interest-earning assets to
average interest-bearing liabilities........... 115.44 118.56 117.82 117.01 103.84 98.09 95.25
Ratio of allowance for losses to total assets
at end of period............................... 1.24 1.38 1.35 1.59 1.81 1.57 1.92
Non-performing assets to total assets at
end of period.................................. 2.81 1.19 0.99 1.33 3.09 5.71 8.61
Dividend payout ratio............................ -- 333.33 55.56 -- N/A N/A N/A
Number of full service offices at end of period.. 3 3 3 2 2 4 4
Nine Month Ended
March 31, Year Ended June 30,
------------------- -----------------------------------------------------
OTHER SELECTED DATA 1996 (1) 1995 (1) 1995 (1) 1994 (1) 1993 (1) 1992 1991
------ ------ ------ ------ ------ ------ ------
Net income per share.............................. $ 1.04 $ 0.03 $ 0.18 $ 0.37 (3) $ N/A $ N/A $ N/A
Book value per share.............................. 18.88 17.48 17.69 17.42 N/A N/A N/A
Dividends declared per share...................... -- 0.10 0.10 -- N/A N/A N/A
_____________________
(1) Reflects financial condition or operations of the Bank after the sale of
two of its branch offices on January 2, 1993 and December 31, 1992.
(2) Annualized for the nine months ended March 31, 1996 and 1995.
(3) Earnings per share for the year ended June 30, 1994 were computed by
dividing earnings ($176,719) from the date of conversion, December 31,
1993, to the end of the year, June 30, 1994, by the weighted average common
and common equivalent shares (476,669) outstanding.
12
MEETING INFORMATION
DATE, TIME AND PLACE
The Special Meeting of Stockholders (including any adjournment or
postponement thereof, the "Special Meeting") of the Company will be held on
Friday, June 28, 1996 at 11:00 a.m., local time, at Northwestern Savings Bank,
F.S.B.'s South Bank office located at 1301 30th Avenue South, Fargo, North
Dakota.
VOTING RIGHTS
The securities entitled to vote at the Special Meeting consist of the
Common Stock. Stockholders of record as of the close of business on the Record
Date are entitled to one vote for each share of Common Stock then held. The
presence, either in person or by proxy, of a majority of the outstanding Common
Stock is required for a quorum. As of the Record Date, the Company had 511,240
shares of Common Stock issued and outstanding, including shares held by certain
employee benefit plans of the Company and the Bank. At that date, such shares
were held of record by approximately 203 stockholders.
VOTING AND REVOCATION OF PROXIES
Shares of the Common Stock represented by properly executed proxies will be
---------------------------------------------------------------------------
voted in accordance with the instructions indicated on the proxies or, if no
- ----------------------------------------------------------------------------
instructions are indicated, will be voted FOR the proposal to approve the
- -------------------------------------------------------------------------
Agreement. The proxy confers discretionary authority on the persons named
- ---------
therein to vote with respect to matters incident to the conduct of the Special
Meeting. If any other business is presented at the Special Meeting or any
adjournment or postponement thereof, properly executed proxies will be voted by
those named therein in accordance with the determination of a majority of the
Board of Directors. In the event there are insufficient votes represented, in
person or by proxy, at the Special Meeting to approve the Agreement, the persons
named as proxies may vote for one or more adjournments of the Special Meeting to
permit solicitation of additional proxies; provided, however, that no proxy
which is voted against the Agreement will be voted in favor of such adjournment.
Proxies marked as abstentions will not be counted as votes cast. In addition,
shares held in street name which have been designated by brokers on proxy cards
as not voted will not be counted as votes cast. Proxies marked as abstentions
or as broker no votes, however, will be treated as shares present for purposes
of determining whether a quorum is present.
Stockholders who execute proxies in the form solicited hereby will retain
the right to revoke their proxies at any time before the closing of the polls at
the Special Meeting. A stockholder may, however, revoke a proxy by filing a
written notice of revocation with, or delivering a duly executed proxy bearing a
later date to, the Secretary of the Company at the Company's main office address
at any time before the Special Meeting. Stockholders may also revoke proxies by
delivering a duly executed proxy bearing a later date to the Inspector of
Election at the Special Meeting before the closing of the polls or by attending
the Special Meeting and voting in person by ballot. The presence of a
stockholder at the Special Meeting in itself will not automatically revoke the
stockholder's proxy.
SOLICITATION OF PROXIES
The cost of solicitation of proxies will be borne by the Company. In
addition to solicitations by mail, directors, officers and regular employees of
the Company may solicit proxies personally or by telegraph or telephone without
additional compensation. The Company will reimburse banks, brokerage firms and
other custodians, nominees and fiduciaries for reasonable expenses incurred by
them in sending proxy soliciting material to the beneficial owners of shares of
Common Stock.
13
PROPOSAL I -- APPROVAL OF THE MERGER
The following description of the Merger does not purport to be complete and
is qualified in its entirety by reference to the Agreement attached hereto as
Appendix A. Stockholders are urged to read this document carefully.
GENERAL
On February 13, 1996, the Company and AFS entered into the Agreement, which
provides for the acquisition of the Company by AFS by means of the Merger, with
the Company surviving the Merger and thereupon becoming a wholly owned
subsidiary of American Federal. Following the Effective Time, the Company will
be liquidated into American Federal and, thereafter, the Bank will be merged
with and into American Federal (the "Bank Merger"). The Agreement provides that
the Merger is subject to the receipt of all required regulatory approvals, the
approval by the holders of the Common Stock and the satisfaction or waiver of a
number of other conditions and that each outstanding share of the Common Stock,
by virtue of the Merger and without any further action by the holder thereof,
will be converted into the right to receive $23.25 in cash. See " --
Description of the Merger."
The aggregate purchase price to be paid by AFS for the Common Stock in the
Merger is approximately $12.5 million (including the cash out of Options). AFS
has represented that it will have sufficient cash on hand at the Effective Time
to pay for shares of the Common Stock pursuant to the Agreement.
APPROVAL OF THE AGREEMENT REQUIRES THE AFFIRMATIVE VOTE OF AT LEAST A
MAJORITY OF ALL VOTES ENTITLED TO BE CAST BY THE HOLDERS OF THE COMMON STOCK.
THE PARTIES TO THE AGREEMENT
Northwestern Financial Corp. The Company was incorporated under the laws
of the State of Iowa in September 1993 to become a savings institution holding
company with the Bank as its sole subsidiary. The Company acquired all of the
capital stock of the Bank issued in connection with the Bank's conversion from
mutual to stock form on December 31, 1993. The Company's principal business is
the business of the Bank and its subsidiaries. In conjunction with the Bank's
conversion, the Company issued 508,238 shares of Common Stock to the public and
registered its Common Stock with the Securities and Exchange Commission ("SEC")
under the Securities Exchange Act of 1934, as amended (the "Exchange Act").
The Company is classified as a unitary savings and loan holding company
subject to regulation by the Office of Thrift Supervision ("OTS"). Prior to its
acquisition of the capital stock of the Bank, the Company had no assets and no
liabilities and engaged in no business activities. Since the acquisition, the
Company has not engaged in any significant activity other than holding the stock
of the Bank. At March 31, 1996, the Company had total assets of $69.9 million,
deposits of $52.8 million and stockholders' equity of $9.7 million.
The executive offices of the Company are located at 720 Main Avenue, Fargo,
North Dakota 58103, and its main telephone number is (701) 235-4248.
Northwestern Savings Bank, F.S.B. The Bank is a federal savings bank
operating through three offices located in Fargo and Wahpeton, North Dakota.
The Bank has operated continuously for over 100 years, having been founded as a
North Dakota chartered mutual savings and loan association in 1893. The Bank
became a Federal Home Loan Bank ("FHLB") member in 1933, and its deposits became
federally insured in 1959. The Bank adopted a federal charter in 1973, at which
time it adopted the title Northwestern Federal Savings and Loan Association. In
1991, the Bank adopted its present title of Northwestern Savings Bank, F.S.B.
The Bank converted to the stock form of ownership on December 31, 1993, at which
time it became a wholly owned subsidiary of the Company.
14
The Bank's principal business consists of attracting deposits from the
general public and investing these funds primarily in loans secured by first
mortgages on real estate located primarily in the Bank's primary market area,
the Fargo-Moorhead area, which consists of Cass and Richland Counties in North
Dakota and Clay and Wilkin Counties in Minnesota. To a limited extent, the Bank
has resumed the placement of loans secured by properties in Arizona in its loan
portfolio to be held for investment purposes. Such loans are originated by the
Bank's loan production office in Chandler, Arizona. The Bank emphasizes the
origination of loans for the purchase or construction of residential real estate
and multi-family residential property. In addition, to a lesser extent, the
Bank originates commercial real estate loans, commercial leases and consumer
loans, including automobile loans, home equity loans, and loans secured by
savings accounts.
The Bank derives its income principally from interest earned on loans and,
to a lesser extent, loan servicing and other fees, gains on the sale of loans
and interest earned on investment and mortgage-backed securities. The Bank's
principal expenses are interest expense on deposits and non-interest expense
such as compensation and employee benefits, office occupancy and equipment
expenses and other miscellaneous expenses. Funds for these activities are
provided principally by deposits, repayments of outstanding loans, sales of
loans and operating revenues.
The Bank is subject to examination and comprehensive regulation by the OTS,
and the Bank's savings deposits are insured up to applicable limits by the
Savings Association Insurance Fund (the "SAIF"), which is administered by the
Federal Deposit Insurance Corporation (the "FDIC"). The Bank is a member of and
owns capital stock in the Federal Home Loan Bank ("FHLB") of Des Moines, which
is one of 12 regional banks in the FHLB System. The Bank is further subject to
regulations of the Board of Governors of the Federal Reserve System (the
"Federal Reserve Board") governing reserves to be maintained and certain other
matters.
The executive offices of the Bank are located at 720 Main Avenue, Fargo,
North Dakota 58103, and its main telephone number is (701) 235-4248.
AFS Financial Corporation. AFS was formed in April 1991 at the direction
of American Federal for the purpose of becoming a holding company for American
Federal as part of its conversion from mutual to stock form. AFS is classified
as a unitary savings and loan holding company subject to regulation by the OTS.
AFS does not engage in any significant activity other than holding the stock of
American Federal and operating the business of a savings association through
American Federal. At March 31, 1996, AFS had total assets of $204.8 million,
deposits of $176.1 million and stockholders' equity of $14.3 million. The
executive offices of AFS are located at 124 DeMers Avenue, East Grand Forks,
Minnesota 56721, and its main telephone number is (218) 773-9711.
American Federal Bank. American Federal was incorporated in 1890 as a
Minnesota-chartered building and loan association. American Federal converted
to a federally chartered savings and loan association in 1934 and to a federally
chartered mutual savings bank in 1985. In 1991, American Federal converted to
stock form.
American Federal is principally engaged in the business of accepting
deposits from the general public and originating permanent loans which are
secured by one- to four-family residential properties located in its market
area. To a lesser extent, American Federal originates commercial real estate
and multi-family residential real estate loans and consumer loans, and maintains
an investment securities and mortgage-backed securities portfolio.
As a federally chartered savings bank, American Federal is subject to
extensive regulation and examination by the OTS and the FDIC, as the
administrator of the SAIF, which insures American Federal's deposits up to
applicable limits. American Federal is a member of the FHLB of Des Moines,
which is one of the 12 district banks comprising the FHLB system.
The executive offices of American Federal are located at 124 DeMers Avenue,
East Grand Forks, Minnesota 56721, and its main telephone number is (218) 773-
9711.
15
American Acquisition Corp. NewSub is an Iowa corporation and a wholly
owned subsidiary of American Federal. NewSub has conducted no business
operations and was formed solely to consummate the Merger.
The executive offices of NewSub are located at 124 DeMers Avenue, East
Grand Forks, Minnesota 56721, and its main telephone number is (218) 773-9711.
BACKGROUND OF THE MERGER
In the summer of 1995, the Board of Directors determined that it was
appropriate to retain an outside financial advisor to help it assess the
Company's existing operations, analyze the strategic alternatives available to
the Company and advise the Board of Directors as to the most appropriate
strategy for the maximization of stockholder returns. Although the market value
of the Common Stock had appreciated by approximately 30% since the completion of
the Company's initial public offering in December 1993, the Board of Directors
was concerned whether the Company would be able to continue to produce favorable
returns to stockholders with its existing operating strategy of investing in
low-risk assets and operating with capital levels well in excess of regulatory
requirements. The Board of Directors was also aware of the continuing merger
activity in the financial services industry and believed that it would be
beneficial for the Board to inform itself as to the Company's potential value in
a business combination.
The Board of Directors retained Baird to assist the Board of Directors in
its strategic review. The Board of Directors engaged Baird because of its
expertise in financial analysis and extensive experience in the thrift and
banking industries. Baird was directed to analyze the Company's strategic
options as an independent company and its potential value in a business
combination with another institution. For information regarding the
compensation paid to Baird, see " -- Opinion of Financial Advisor."
Baird presented its review and analysis to the Board of Directors at a
special meeting held on August 17, 1995, at which special counsel, Housley
Kantarian & Bronstein, P.C., Washington, D.C., was also present. In its review,
Baird analyzed three strategic options, including (i) continuation of its
current operating strategy, (ii) leveraging the Company's and the Bank's capital
by increasing assets and liabilities to the extent and as quickly as reasonably
practicable based on growth opportunities and competitive conditions in the
Bank's market area and (iii) a strategy that combined the second strategy with
the implementation of a stock repurchase program. Baird did not review any
diversification options involving investments in new businesses or any bank or
branch acquisitions by the Company because it did not believe that any such
actions could enhance shareholders value under the Company's existing market and
competitive conditions. Finally, Baird valued the Company in an acquisition
using various analyses.
Baird noted that the Company's return on equity did not compare favorably
to those of other publicly traded thrift institutions, and the ratio of the
Company's market price per share to the earnings per share of its stock was
significantly higher than those of comparable institutions. Baird also believed
that the Company's small size would not enable the Company to take advantage of
economies of scale, customarily enjoyed by larger community banks, necessary to
increase its return on equity and earnings per share. Unless the Company
significantly increased its return on equity, the price of the Common Stock was
not likely to increase significantly.
Baird attributed the Company's low return on equity to its comparatively
high capital levels, lower yields on assets and volatile cost of deposits, a
situation that could be expected to continue if the Company followed its
existing strategy. Baird concluded that the present value of the Company, based
on reasonable investor expectations of stock price appreciation and assuming
that the Company was able to successfully implement the best case asset and
liability growth and stock repurchase strategy outlined by Baird, was between
$13 and $15 per share. Further, successful implementation of the best case
strategy, which called for significant loan growth and over 20% deposit growth
from the Bank's new branch office, was subject to considerable uncertainty.
This strategy was unlikely to provide returns in excess of the value which
stockholders could expect to receive in a business combination currently,
16
which Baird estimated to be in the range of approximately $22 to $26 per share
based on certain assumptions including anticipated earnings for the 1996 fiscal
year.
Following the Baird presentation, the Board of Directors discussed the
relative merits of remaining independent and of seeking an affiliation with
another company. The Board of Directors noted the significant challenges which
the Company faced in remaining independent, including the dramatic operational
changes that would be necessary to compete more effectively and the merits and
challenges of continuing to operate independently in today's environment given
the increasing competition the Company faces from much larger financial
institutions in the Fargo market. The Board of Directors discussed the current
favorable acquisition market and the impact of an affiliation on the Company's
customers and employees and the communities which it serves. The Board of
Directors discussed with counsel the procedures for testing the market for the
Company and the various legal issues and risks associated with such an endeavor.
After discussion, the Board of Directors determined that it was in the best
interests of the Company to solicit indications of interest from other financial
institutions and authorized Baird to prepare a confidential memorandum for
distribution to potentially interested parties for the Board's review, along
with recommendations regarding financial institutions to which the confidential
memorandum should be sent.
The Board of Directors next met with representatives of Baird at its
regular meeting on October 25, 1995. The Baird representatives presented an
overview of the process of soliciting indications of interest and discussed the
structural, accounting, regulatory and tax issues which could have an impact on
an affiliation. The representatives of Baird reviewed the confidential
memorandum and described the procedures that would be followed in soliciting
indications of interest. The Board of Directors then discussed the list of
potential acquirors which Baird had prepared. The list included 11 financial
institution holding companies. Baird also prepared a second list consisting of
five financial institution holding companies that could be contacted in the
event that insufficient expressions of interest were received after the 11
institutions had been contacted. The institutions consisted of regional
financial institution holding companies selected based on geographical
proximity, expressed interest in Fargo market acquisitions, past acquisition
history and financial ability to consummate an acquisition within Baird's
established valuation range. The Board of Directors authorized Baird to
distribute the confidential memorandum subject to agreed upon confidentiality
procedures.
The Board of Directors again met with representatives of Baird on December
8, 1995 to discuss the results of the solicitation. Baird reported that 12
institutions were contacted, of which 10 had elected to receive a copy of the
confidential memorandum. Although Baird had further discussions with the 10
companies, only three companies, including AFS, submitted an indication of
interest. Acquirors that did not bid indicated that the Company's size and
relatively modest earnings were major factors in their decision.
Of the three indications of interest, AFS had proposed a business
combination with the highest indicated value of $23.00 per share of Common
Stock. A second indication of interest proposed a value below the minimum of
Baird's estimated valuation range, and the third indication of interest proposed
a lower value. Baird analyzed the expressions of interest in detail and
compared them to the terms of other acquisitions of thrift institutions,
including the ratio of the valuation to the Company's book value and earnings
per share and as a premium to deposits.
Baird outlined the options available to the Board of Directors and
presented for the Board's consideration a strategy which would involve (i)
contacting both AFS and the second highest bidder and indicating that they are
finalists and requesting that they set up due diligence schedules, and (ii)
contacting the lowest bidder and indicating that unless the bidder was prepared
to significantly raise its bid, the Company does not intend to proceed further
with them. After consideration of this strategy, the Board of Directors
instructed Baird, with the assistance of counsel, to prepare letters, subject to
review and approval by the Company's President, to be delivered to AFS and the
second highest bidder, requesting that in their final expressions of interest
following due diligence they clarify various issues raised with respect to their
preliminary expressions of interest. It was then agreed that AFS and the second
highest bidder would be given until early January 1996 to complete due diligence
and provide their final and best bids. The Board of Directors also instructed
Baird to contact the lowest bidder to determine if they were prepared to
significantly increase their bid. The bidder subsequently indicated to Baird
that they would not do so, and the Company did not proceed further with that
bidder.
17
The indication of interest submitted by AFS stated that up to one-half of
the consideration could be in AFS common stock. The Company's Board of
Directors noted, however that there was not an active or liquid trading market
for AFS common stock and that AFS common stock was not registered under the
Securities Exchange Act of 1934, as amended, so that public information
regarding AFS was not available to Company stockholders and would not be
available in the event they were to become stockholders of AFS. The Board of
Directors of the Company also noted that even if a portion of the consideration
was in stock, the transaction would still be taxable to stockholders, although
to a lesser extent, but concluded that the drawbacks of an illiquid and
unregistered stock outweighed the tax benefits of receiving a portion of the
consideration in AFS common stock. Accordingly, the Board did not pursue with
AFS the possibility of receiving a portion of the consideration in the form of
AFS common stock.
Following the Board meeting, Baird requested certain additional information
from AFS and the other bidder regarding their respective indications of
interest. Due diligence was conducted by both parties during December 1995 and
January 1996. Following due diligence, AFS submitted its final bid in which it
raised its valuation to $23.25 per share in cash. No AFS common stock was
offered by AFS in its final bid. The second party that conducted due diligence
withdrew from the bidding process.
On January 10, 1996, the Board of Directors convened a special meeting,
which also was attended by its legal advisors, Housley Kantarian & Bronstein,
P.C., and financial advisors, to discuss the results of the contacts made with
AFS and the other institution invited to conduct due diligence and in particular
the final expression of interest submitted by AFS. The Baird representative
discussed in detail the final expression of interest received from AFS and
compared the consideration offered by AFS to the consideration offered in other
recently announced thrift acquisitions. Baird explained that the consideration
offered approximated the midpoint of the range established by Baird and the
Board of Directors at the outset of the bid process. The Board of Directors
also reviewed the pro forma financial information furnished by AFS with their
bid. It was concluded that further information was needed to understand the
assumptions utilized by AFS in preparing the pro forma financial information so
that the Board of Directors could satisfy itself that AFS was financially
capable of consummating the acquisition. Baird undertook to contact AFS and
request additional information and to analyze that information when it was
provided. The Board then authorized management, Baird and special counsel to
proceed with the negotiation of a definitive agreement for the acquisition of
the Company by AFS.
On February 13, 1995, the Board of Directors met with its legal and
financial advisors to discuss in detail the terms of the definitive agreement
which had been negotiated between the Company and AFS. A representative of
Baird reviewed the entire process to date and presented a comparison of the
financial terms of the proposed transaction to the terms of comparable
transactions. Based on such analysis, Baird indicated that it was prepared to
deliver its opinion that the consideration to be received by the Company's
stockholders was fair to such stockholders from a financial point of view. In
addition to the adequacy of the consideration, the Board of Directors considered
the social and economic effects of a business combination and the ability of the
Company to fulfill its corporate objectives. The Board of Directors also
discussed again with Baird the financial effect of the Company's continued
operation as an independent financial institution on stockholder value and
compared the benefits of continued independent operation to the benefits of an
affiliation. Baird also reviewed with the Board whether AFS would be able to
consummate the transaction in light of AFS's capital and earnings levels and the
fact that AFS would be incurring debt to finance the acquisition. The Board
reviewed the commitment letter from an outside lender that was providing the
financing to AFS. Baird reviewed with the Board their analysis of the pro forma
capital and income projections for AFS and American Federal following the
acquisition. Legal counsel reviewed with the Board of Directors the definitive
agreement and discussed the final changes to the Agreement. Baird also
presented its written opinion that the consideration to be received by the
Company's stockholders was fair to such stockholders from a financial point of
view. After additional discussion, the Board of Directors unanimously approved
the execution of the definitive agreement and a public announcement was made.
No affiliation existed between AFS and the Company prior to the execution of the
Agreement, except that certain directors and executive officers of AFS owned
shares of Common Stock (such individuals owned 638 shares of Common Stock as of
the Record Date), and American Federal from time to time has purchased
participation interests in loans originated by the Bank.
18
RECOMMENDATION OF THE BOARD OF DIRECTORS; REASONS FOR THE MERGER
THE BOARD OF DIRECTORS HAS UNANIMOUSLY DETERMINED THAT THE MERGER IS IN THE
BEST INTERESTS OF THE COMPANY AND ITS STOCKHOLDERS AND UNANIMOUSLY RECOMMENDS A
VOTE FOR APPROVAL OF THE AGREEMENT. In determining that the Merger is in the
best interests of stockholders, the Board of Directors in consultation with its
legal and financial advisors considered numerous factors including, but not
limited to, the following: (i) the value being offered the Company's
stockholders by AFS in relation to the market value, book value and earnings per
share of the Company's common stock; (ii) the future business prospects for the
Company as an independent savings and loan holding company; (iii) the
competitive environment for financial institutions generally and for savings and
loan holding companies in its market area; (iv) the financial terms of other
recent comparable business combinations in the financial services industry; (v)
the solicitation and negotiation process preceding the Agreement; (vi) the value
of the Merger Consideration in relation to anticipated returns to stockholders
through continued operation as an independent entity; (vii) the ability of AFS
to provide comprehensive financial services in relevant markets; (viii) the fact
that AFS has the financial and managerial resources to serve the lending and
deposit needs of the local communities served by the Company and that the
increased financial and managerial resources following the Merger will enhance
the long-term customer service potential for the Company's customer base; (ix)
the opinion of the Company's financial advisor that the consideration to be
received by the Company's stockholders is fair to such stockholders from a
financial point of view; (x) the income tax consequences of the Merger; and (xi)
the benefits to be received by directors, management and employees in the Merger
(see " -- Interests of Certain Persons in the Merger").
In its deliberations, the Board of Directors discussed a variety of other
matters related to the Merger but believes that the foregoing factors represent
the principal matters considered in the Board's collective determination that
the Merger is in the best interests of stockholders. The Board of Directors did
not quantify or otherwise attempt to assign relative weights to the factors
considered in making its determination and does not believe that any single
factor discussed above was given greater weight than any other factor. Having
considered all of the foregoing, the Board of Directors determined that the
Merger is in the best interest of stockholders and unanimously recommends that
stockholders vote for approval of the Agreement.
THE BOARD OF DIRECTORS UNANIMOUSLY RECOMMENDS THAT THE STOCKHOLDERS OF THE
COMPANY VOTE FOR APPROVAL OF THE AGREEMENT.
---
OPINION OF FINANCIAL ADVISOR
The Company retained Baird to act as financial advisor. Baird, as part of
its investment banking business, is engaged in the evaluation of businesses and
their securities in connection with mergers and acquisitions, negotiated
underwriting, competitive bidding, secondary distributions of listed and
unlisted securities, private placements, and valuations for estate, corporate
and other purposes. Baird is familiar with the Company, having provided
advisory services in connection with the negotiations leading up to the
Agreement. In its role as financial advisor, Baird assisted the Company in
identifying potential candidates for business combination, solicited expressions
of interest from identified parties and evaluated the proposals received in
conjunction with the solicitation.
On February 13, 1996 and the date hereof, Baird delivered its written
Opinion to the Board of Directors that, as of such dates, the consideration to
be received by Company stockholders pursuant to the Agreement was fair from a
financial point of view.
THE FULL TEXT OF THE BAIRD OPINION, WHICH SETS FORTH CERTAIN ASSUMPTIONS
MADE, MATTERS CONSIDERED AND LIMITS ON THE REVIEW UNDERTAKEN, IS ATTACHED HERETO
AS APPENDIX B AND IS INCORPORATED HEREIN BY REFERENCE. THE OPINION DOES NOT
CONSTITUTE A RECOMMENDATION AS TO HOW A STOCKHOLDER SHOULD VOTE WITH RESPECT TO
THE MERGER. THE COMPANY'S STOCKHOLDERS ARE URGED TO READ THE OPINION IN ITS
ENTIRETY. THE FOLLOWING SUMMARY OF THE OPINION IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO THE FULL TEXT OF THE OPINION.
19
The consideration received by the Company pursuant to the Agreement was
determined by the Company and AFS in their negotiations. No limitations were
imposed by the Board or management of the Company on Baird with respect to its
investigation or procedures followed in rendering the Opinion.
In connection with the Opinion, Baird reviewed the Agreement; the Company's
proxy statement dated September 25, 1995, its audited financial statements for
the five fiscal years ended June 30, 1995 and its interim financial statements
on Form 10-Q for the periods ended September 30, 1995 and December 31, 1995;
financial budgets and analyses prepared by management of the Company; the views
of senior management and the Board of Directors of the Company's past and future
business operations; and the limited reported price and trading history for the
Common Stock. The analysis conducted in connection with providing the Opinion
to the Company was based on the most recent financial information available to
Baird, and included updated information and estimates provided by and with the
assistance of the Company as part of Baird's due diligence process. In
developing the Opinion, Baird performed a number of analyses. These analyses
included, but were not limited to, an analysis of the Company's audited
financial statements for the past five years, an analysis of comparable prices
and terms governing recent transactions, a review of earnings forecasts and
budgets prepared by the Company. Baird believes, based on its experience as an
investment banking firm and its specific expertise valuing financial
institutions, that its methods are the most effective means of establishing the
fairness of a transaction from a financial point of view.
Baird has relied without independent verification on the completeness and
accuracy of the financial and other records provided it by the Company and has
not conducted or ordered any independent appraisals of the Company's assets or
liabilities, including real property, the collateral securing such assets or the
collectibility of such assets. The Opinion is based on the economic and market
conditions that prevailed as of the date of the Opinion.
Summary of Financial Analysis. In connection with its Opinion on the
consideration to be received pursuant to the Agreement and the presentation of
that Opinion to the Board of Directors, Baird performed several analyses with
respect to the Company. These included:
. The Company's limited stock trading history
. Analysis of comparative prices and terms of recent transactions
involving the acquisition of thrifts.
. Analysis of the Company's value compared to comparative prices and
terms of recent transactions involving the acquisition of thrifts by
other institutions after adjusting the Company's financial information
for an implied dividend which fully leverages the Company's capital.
. A discounted earnings analysis for the Company
. Analysis of earnings per share and book value of the pro forma
combined entity as compared to AFS.
The following presents a summary of the analysis used in connection with
providing the Opinion to the Company. This summary is not intended to be a
complete description of the analysis performed by Baird.
Stock Trading History. To the extent that such information was readily
available, Baird reviewed the trading prices and volume of the Common Stock of
the Company. Baird evaluated the Company against a group of 14 midwestern and
Rocky Mountain area savings institution companies believed to have
characteristics similar to that of the Company.
Comparative Transaction Analysis. Baird performed four analyses of
premiums paid for selected savings institutions with comparable characteristics
to the Company. The comparable transactions were grouped into four major
categories. They are:
20
. All completed or pending transactions with available pricing date
involving savings institutions with assets of between $50 million and
$100 million during a period from January 1, 1994 to January 31, 1996
(42 transactions).
. Midwestern transactions that occurred during calendar 1995 (31
transactions).
. A "high capitalization" comparative group of savings institution
transactions that occurred since mid-1993 (36 transactions).
. A specific comparative group with characteristics similar to those of
the Company, involving transactions that closed since June 30, 1994.
(12 transactions).
The following summarizes the results of the analysis of these transactions.
Small Institution Transactions. Forty-two small institution transactions
were evaluated. Comparatives had no geographic limitations, but the major
filtering mechanism was asset size of between $50.0 million and $100.0 million
in assets. Median asset size was $76.0 million with a size range of from $51.4
million to $96.8 million. Capitalization ranged from 3.12% of assets to 19.46%
of assets with median return on average assets being 0.90%. ROAA ranged from -
3.01% to 2.21% while ROAE ranged from -85.78% to 18.79% with a median of 8.98%.
This group had the strongest performance on a price-book basis, at a median
price/book ratio of 148.05% but was the laggard among the groups price-earnings
multiple, at 14.9x trailing 12 month earnings.
Midwestern Transactions. Thirty-one transactions in the Midwest were
evaluated. No size limitation was placed on the Comparative Group. The only
filter was location in one of eight Midwestern states. Selling institutions in
this group ranged in size from $25.0 million to $8.5 billion with a median asset
size of $131.6 million and median capitalization of 11.51% assets. Median
return on average assets was 0.81%, with a range of from -1.93% to 1.68% and
median return on equity was 6.17% with a range from -16.81% to 16.67%. Owing to
their generally high capitalization, the Midwestern transactions had the lowest
median price-earnings level, 126.85%, but the second highest price-earnings
multiple -- 19.7x trailing 12 month earnings. Premium paid as a percentage of
core deposits -- 5.70% -- was the lowest among the four comparative groups but,
again, consistent with the median of the four medians for the Comparatives.
High Capitalization Group. This group contains 36 transactions involving
thrift institutions from across the United States. Asset size ranged from $51.4
million to $194.6 million, with a median of $94.3 million. Capitalization
ranged from 10.02% to more than 20.00% with a median capitalization of 13.73%.
Among the four groups of comparative institutions, this group was slightly below
the median for the four groups on a price-book level, at 132.90%, and the median
price-earnings level, at 16.49%.
Comparative Group. Twelve institutions believed to be comparable to
Northwestern were evaluated. These institutions were generally small in size --
all having total assets of less than $100.0 million -- and for the most part,
were well-capitalized. The Group's median asset size was $47.3 million and its
median capitalization was 12.81%. Median return on average equity was 5.85% and
median non-performing assets were 0.45%. All were generally similar to
Northwestern, especially the low return on average equity and modest non-
performing assets. This group's median price-book ratio was 141.16%, slightly
greater than the price-book ratio of AFS' offer but its price-earnings multiple
of 21.5x trailing 12 month earnings, was significantly less than the AFS offer
received by Northwestern.
The Company. As of the date of Baird's opinion, the transaction on an
aggregate basis represented a price-to-book ratio of 133.44% and a price-
earnings multiple of 35.59x trailing 12-month earnings. The Merger
Consideration to be paid to stockholders of the Company in conjunction with the
Agreement represents a premium of 6.10% of deposits at December 31, 1995. The
price-to-book multiple for this transaction was slightly less than
21
the median and average price-to-book levels for the above comparative
transactions groups while the price-earnings multiple exceeded median and
average figures for the comparative transactions groups. The premium-to-deposit
paid in the Merger was slightly less than the average and median premium-to-
deposit levels recorded for the comparative transaction groups. At December 31,
1995, the Company had assets of $69.5 million and stockholders' equity of $9.4
million, which represented 13.5% of total assets at that date.
Deleverage Capital. Baird used the comparative groups of acquisitions to
develop a potential range of values by adjusting certain financial statistics to
reflect the Company's capital greater than a fully leveraged position. Baird
assumed an 8.0% capital-to-assets ratio to be a fully leveraged position, with
excess capital treated as if it were paid as a dividend prior to acquisition.
Baird used acquisition group multiples of price to book and price to earnings
against adjusted Company financial information. On a book basis, this resulted
in a valuation range from $12.4 million, or $22.98, per share, to $13.1 million,
or $24.31, per share. On an earnings basis, this resulted in a valuation range
from $7.0 million, or $13.00, per share, to $8.4 million, or $15.53, per share.
Discounted Cash Flow Analysis. Using financial performance estimates of
the Company, Baird estimated the future earnings stream available to
shareholders during the next 10 years. Baird calculated earnings based on 5.0%
annual earnings growth using discount rates from 10.0% to 11.5%. Baird's
assessment of the present value of the Company's future earnings ranged from
$5.2 million to $8.4 million, or from $9.71 per share to $15.67 per share.
The above discussion is a summary of the material financial analyses
performed by Baird and is not intended as a complete description of the analyses
performed by Baird. The preparation of a fairness opinion is a complex process
and does not necessarily lend itself to summary description. Reviewing a
portion of the analyses summarized above, without considering the Opinion as a
whole, could create an incomplete view of the process underlying Baird's
opinion. In arriving at its determination of fairness, Baird considered the
results of all such analyses and did not assign relative weights to any of the
analyses.
As no comparative group or transaction from any comparative group is
identical to the Merger, Baird indicated to the Board of Directors of the
Company that the analyses described under "Stock Trading History," "Comparative
Transaction Analysis" and "Deleverage Capital" are not mathematical, but rather
involve complex considerations and judgments concerning differences in operating
and financial characteristics including, among other things, differences in
revenue composition and earnings performance between the Company and the
selected companies and transactions reviewed. The analyses were prepared solely
for purposes of Baird's written opinion to the Board of Directors of the Company
and do not purport to be appraisals or necessarily reflect the prices for which
the Company or its securities actually may be sold. Analyses based upon
forecasts of future results are not necessarily indicative of future results,
which may be significantly more or less favorable than suggested by such
analyses.
The Company has agreed to pay Baird a fee of $25,000 as a financial
advisory fee. Additionally, if the Merger is consummated, the Company will pay
Baird a transaction fee not to exceed $150,000. This transaction fee will
include fees previously paid to Baird, including the financial advisory fee, the
fairness opinion fee and an advisory fee. Additionally, the Company has agreed
to reimburse Baird for reasonable out-of-pocket expenses and has agreed to
indemnify Baird against certain liabilities, including liabilities under the
federal securities laws, incurred in connection with the engagement of Baird by
the Company.
VOTE REQUIRED
Under Iowa law and the Company's Articles of Incorporation, approval of the
Agreement requires the affirmative vote of at least a majority of the
outstanding shares of Common Stock of the Company. As of the Record Date,
directors and executive officers of the Company and their affiliates were the
beneficial owners of 130,324 shares, or 23.5%, of the Common Stock outstanding
at that date. In addition, the MRP trusts, of which four
22
non-employee directors are trustees, were the beneficial owners of 2,247 shares,
or 0.4%, of the Common Stock outstanding, and, at the Record Date, there were
32,016 shares, representing 6.3% of the outstanding Common Stock, held in the
ESOP suspense account for future allocation to participating employees. The
ESOP trustees, consisting of four non-employee directors of the Company, vote
allocated shares in accordance with the instructions of the participants and
unallocated shares and shares for which no instructions have been given in the
same ratio as participants direct the voting of allocated shares or, in the
absence of such direction, in the ESOP trustees' best judgment. In addition, as
of the Record Date, AFS and its affiliates owned 638 shares, or 0.1%, of the
outstanding Common Stock.
DISSENTERS' RIGHTS
Under the provisions of Division XIII of the IBCA, and in accordance with
the procedures set forth in Part B thereof, a copy of which is attached to this
Proxy Statement as Appendix B, any holder of record or beneficial holder of
Common Stock has the right to dissent from the Merger and demand payment of the
fair value of his or her shares in cash. Any shareholder who wishes to assert
dissenters' rights must file a written notice of his or her intent to demand
payment with Northwestern Financial Corp. Attention: Secretary, 720 Main
Avenue, Fargo, North Dakota 58103, before the vote on the Agreement is taken at
the Special Meeting, and must refrain from voting in favor of the Agreement. A
PROXY OR VOTE AGAINST THE AGREEMENT WILL NOT, BY ITSELF, BE REGARDED AS A
WRITTEN NOTICE OF INTENT TO DEMAND PAYMENT FOR PURPOSES OF ASSERTING DISSENTERS'
RIGHTS.
A record holder of Common Stock may assert dissenters' rights as to fewer
than all shares registered in that shareholder's name only if the holder
dissents with respect to all shares beneficially owned by any one person and
notifies the Company in writing of the name and address of each person on whose
behalf the shareholder asserts dissenters' rights.
A beneficial shareholder may assert dissenters' rights as to shares held on
the shareholder's behalf only if, in addition to meeting the other requirements
to dissent, the beneficial shareholder (i) submits to the Company the record
shareholder's written consent to the dissent not later than the time the
beneficial shareholder asserts dissenters' rights and (ii) asserts dissenters'
rights with respect to all shares of which such shareholder is the beneficial
shareholder or over which that beneficial shareholder has power to direct the
vote.
If the Agreement is approved by the requisite vote of the holders of Common
Stock, the Company is required to send a notice to all dissenting shareholders
containing a form for demanding payment and payment demand and certificate
surrender information (the "Dissenters' Notice") within 10 days after such
approval. The date (the "Payment Demand Date") specified by the Company for
receiving payment demand (the "Payment Demand") from dissenting shareholders
will be not less than 30 nor more than 60 days after the date on which the
Dissenters' Notice was sent. Upon receipt of the Dissenters' Notice, each
dissenting shareholder must return his or her Payment Demand and certificates no
later than the Payment Demand Date as provided in the notice and certify whether
he or she acquired beneficial ownership of the shares prior to the first public
announcement of the terms of the Merger on February 13, 1996.
Upon effecting the Merger within 60 days after the Payment Demand Date, the
Company will pay each dissenting shareholder who properly complied with the
statutory requirements the amount that the Company estimates to be the fair
value of such dissenting shareholder's shares, plus accrued interest from the
Effective Time.
If the Merger is not effected within 60 days of the Payment Demand Date,
the Company will return all deposited certificates to any dissenting
shareholders. If the Merger is thereafter effected, the Company will send a new
Dissenters' Notice within 10 days of effecting the Merger and repeat the payment
demand procedures.
23
If any dissenter is dissatisfied with the Company's payment or offer, as
the case may be, such dissenting shareholder may notify the Company in writing
of his or her own estimate of the fair value of his or her shares and the amount
of interest due and demand payment of such estimate less any amount already paid
by the Company to the dissenter. This demand must be made by the dissenting
shareholder within 30 days after the Company made or offered payment for the
dissenter's shares. The Company may either accept such dissenting shareholder's
estimate of fair value or commence a proceeding in the Iowa District Court of
Polk County to determine the fair value of the shares of all dissenting
shareholders whose own estimates of fair value are not accepted by the Company.
The IBCA is silent as to the methodology the court would employ to determine
fair value, so if such a proceeding were commenced, the methodology by which the
court would determine the fair value of dissenting shares cannot be predicted.
The court shall assess costs of such proceeding, including the reasonable
compensation and expenses of the appraiser appointed by the court, against the
Company, except that the court may assess such costs as it deems equitable
against any or all of the dissenters who are parties to the extent the court
finds the dissenters acted arbitrarily, vexatiously or not in good faith in
demanding payments.
In the event any holder of Common Stock fails to perfect his or her rights
to dissent by failing to comply strictly with the applicable statutory
requirements, the shareholder will be bound by the terms of the Agreement and
will not be entitled to payment for his or her shares under the IBCA. Any
holder of Common Stock who wishes to object to the transaction and demand
payment in cash for his or her shares should consider consulting his or her own
legal advisor.
Because an executed proxy relating to Common Stock on which no voting
direction is made will be voted at the Special Meeting in favor of the
Agreement, a dissenting shareholder who wishes to have his or her shares of
Common Stock represented by proxy at the Special Meeting but preserve
dissenters' rights must mark the proxy card either to vote against the Agreement
or to abstain from voting thereon, in addition to the foregoing requirements.
The foregoing, while a summary of all material provisions of Part B of
Division XIII of the IBCA, is qualified in its entirety by reference to the text
of such statutory provisions, which is set forth in Appendix C.
DESCRIPTION OF THE MERGER
Subject to the terms of the Agreement, AFS will acquire the Company through
the Merger in accordance with the Agreement and applicable provisions of Iowa
law. The Company shall be the surviving entity resulting from the Merger and,
as a result of the Merger, will become a wholly owned subsidiary of American
Federal. The Merger will become effective and the separate corporate existence
of NewSub shall cease at the Effective Time. Each share of Common Stock
outstanding immediately prior to the Effective Time shall, by virtue of the
Merger and without any further action by the holder thereof, be cancelled and
converted into and represent the right to receive $23.25 in cash. In addition,
at the Effective Time, each outstanding Option to acquire shares of Common Stock
will be cancelled, and each holder thereof will be paid an amount determined by
multiplying the number of shares of Common Stock subject to such Option by an
amount equal to the difference between the Merger Consideration and the exercise
price of the Option. Each share of common stock, par value $0.01 per share of
NewSub (the "NewSub Common Stock") which is issued and outstanding immediately
prior to the Effective Time shall by virtue of the Merger, be converted into and
become one validly issued and outstanding share of common stock of the Company,
all of which shall be owned by American Federal. Following the Effective Time,
the Company will be liquidated into American Federal and, thereafter, the Bank
will be merged with and into American Federal (the "Bank Merger"). Following
the Effective Time, there shall be no further registration or transfer on the
records of the Company of shares of Common Stock which were outstanding
immediately prior to the Effective Time.
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EXCHANGE OF STOCK CERTIFICATES AND SETTLEMENT OF OPTIONS
Within five business days after the Effective Time, an Exchange Agent to be
mutually agreed to by AFS and the Company will send a notice, instructions and
transmittal form to each holder of a certificate which, immediately prior to the
Effective Time, represented issued and outstanding shares of Common Stock. The
Company and AFS have agreed that AFS may act as Exchange Agent. Except with
respect to shares as to which the holders thereof have exercised dissenters'
rights, the Exchange Agent will make payment of the Merger Consideration to each
holder of shares of Common Stock who surrenders the certificate or certificates
representing such shares to the Exchange Agent, together with a duly executed
Letter of Transmittal, within five business days after the certificate has been
surrendered. Not later than the Closing, the Exchange Agent in its fiduciary
capacity shall have acknowledged in writing receipt of the aggregate total
Merger Consideration for all shares of Common Stock to be acquired and the
aggregate total Stock Option Price for all Options to be cancelled pursuant to
the Merger. The Exchange Agent will not be required to deliver the
consideration to which a holder of Common Stock is entitled until the holder
surrenders their certificates therefor or an appropriate affidavit of loss and
indemnity agreement and/or bond as may be required by AFS. If any payment for
shares of Common Stock is to be made in a name other than that in which the
certificate for such shares surrendered for exchange is registered, it shall be
a condition of such payment that the certificate so surrendered shall be
properly endorsed or otherwise in proper form for transfer and that the amount
of any stock transfer or similar taxes payable on account of the transfer will
be deducted from the amount to be paid by the Exchange Agent or the Exchange
Agent may refuse to make such payment unless the person requesting such payment
establishes to the satisfaction of the Exchange Agent that such tax has been
paid or is not payable. After the Effective Time, there shall be no transfers
on the stock transfer books of the Company of the shares of Common Stock
outstanding immediately prior to the Effective Time, and any such shares
presented for transfer after the Effective Time shall be cancelled and exchanged
for the Merger Consideration. No interest shall accrue on the Merger
Consideration for the benefit of any holder of shares of Common Stock after the
Effective Time.
At the Effective Time, each outstanding Option to acquire shares of Common
Stock will be cancelled, and each holder thereof will be paid an amount
determined by multiplying the number of shares of Common Stock subject to such
Option by an amount equal to the difference between the Merger Consideration and
the exercise price of the Option.
PLEASE DO NOT SEND IN ANY STOCK CERTIFICATES AT THIS TIME.
---
EFFECTIVE TIME
The Effective Time shall be on the date and at the time when the Merger
become effective in accordance with applicable law. Assuming that the Agreement
is approved by the Company's stockholders, the Merger will remain subject to a
number of conditions, including the receipt of required regulatory approvals.
See " -- Regulatory Approvals."
CONDITIONS TO THE MERGER
The obligations of the Company and AFS to consummate the Merger are subject
to the satisfaction or waiver of a number of conditions on or before the
Closing, including the following (as used herein, the term "Party" shall mean
the Company and the Bank on the one hand and AFS, American Federal and NewSub on
the other hand, and the term "Parties" shall mean, the Company, the Bank, AFS,
American Federal and NewSub): (i) the approval of the Agreement by the
stockholders of the Company; (ii) no order shall have been entered and remain in
force restraining or prohibiting the Merger or the Bank Merger in any legal,
administrative, arbitration, investigatory or other proceedings (collectively,
"Proceedings") by any governmental or judicial or other authority; (iii) to the
extent required by applicable law or regulation, all approvals of or filings
with any governmental authority (collectively, "Governmental Approvals"),
including without limitation those of the OTS, the FDIC, applicable state
regulatory authorities, the Federal Trade Commission, the U.S. Department of
Justice, the Securities and Exchange Commission,
25
and any state securities or blue sky authorities, shall have been obtained or
made and any waiting periods shall have expired in connection with the
consummation of the Merger and the Bank Merger and all other statutory or
regulatory requirements for the valid consummation of the Merger and the Bank
Merger and related transactions shall have been satisfied; (iv) the
representations and warranties of each Party as set forth in the Agreement shall
have been true in all material respects at the Effective Time with the same
effect as though made at the Effective Time except (a) as contemplated by the
Agreement, (b) as consented to in writing by the other Party or (c) breaches of
representations and warranties that would not have a material adverse effect on
the financial condition, business or operations of the breaching party; prior to
the Closing, each Party shall have in all material respects performed all
obligations and complied with each covenant required to be performed by it by
the Closing except for failure to perform or comply with such obligations or
covenants, which would not have or would not reasonably be expected to have any
material adverse effect on such Party's financial condition, business or
operations; and each Party shall have delivered to the other certificates to
that effect dated as of the Closing and signed by their Chief Executive Officers
and Chief Financial Officers; and (v) each Party shall have received from
counsel for the other Party the required legal opinion in the form specified in
the Agreement.
The obligations of AFS and American Federal to effect the Merger and the
Bank Merger are contingent upon: (i) the absence of any material adverse change
since the date of the Agreement in the financial condition, business or results
of operations of the Company and its subsidiaries taken as a whole other than
changes resulting from or attributable to changes in laws, regulations and
generally accepted accounting principles ("GAAP") or interpretations of general
application to the banking and thrift industries; (ii) all outstanding Options
having been cancelled in accordance with the provisions of the Agreement; (iii)
the directors of the Company and the Bank having tendered their resignations;
(iv) Sellers having obtained the consent or approval of each person (other than
the Governmental Approvals) whose consent or approval shall be required in order
to permit the succession by the Surviving Corporation pursuant to the Merger or
American Federal pursuant to the Bank Merger to any obligation, right or
interest of the Company or any subsidiary under any loan or credit agreement,
note, mortgage, indenture, lease, license or other agreement or instrument,
except those for which failure to obtain such consents and approvals would not,
individually or in the aggregate, have a material adverse effect on AFS and its
subsidiaries taken as a whole or upon the consummation of the transactions
contemplated by the Agreement; (v) AFS shall have received an opinion of its tax
counsel or tax accountants as to the tax consequences of the Merger and the Bank
Merger to AFS, American Federal, the Company and the Bank; (vi) no greater than
15.0% of the outstanding Common Stock entitled to vote at the Special Meeting
shall have delivered the written notice of intent to demand payment pursuant to
Division XIII of the IBCA; and (vii) certain officers and directors of the
Company shall have executed and delivered a letter to AFS providing that the
payments made to them, or those specifically identified to be made to them
subsequent to the Effective Time, pursuant to their employment by Sellers or
under the terms of any agreements with Sellers or as otherwise provided for in
the Agreement satisfy all outstanding obligations of Buyers and Sellers to such
individuals and no other payment of any kind is due or owing to such individuals
by Buyers, Sellers or any affiliate thereof.
The obligations of the Company and the Bank to effect the Merger and the
Bank Merger are contingent upon the Exchange Agent in its fiduciary capacity
having acknowledged in writing receipt of the aggregate Merger Consideration for
all shares of Common Stock to be acquired and the aggregate Stock Option Price
for all Options to be cancelled in the Merger.
It is not known as of the date of this Proxy Statement whether all
conditions to the Merger will be satisfied. The Agreement may be terminated by
a party if any event occurs which renders it impossible for the other party to
satisfy in any material respect a condition to the terminating party's
obligation to effect the Merger or the Bank Merger. Except for conditions
relating to Company stockholder approval of the Agreement, receipt of
governmental approvals and the absence of governmental or judicial orders
prohibiting the Merger, any condition to a party's obligation to consummate the
Merger may be waived by that party. Neither party can predict as of the date of
this Proxy Statement whether it would waive any condition to its obligation to
consummate the Merger.
26
CONDUCT OF BUSINESS PENDING THE MERGER
The Company and the Bank have agreed that until the Effective Time each
will conduct its respective business in the ordinary course and maintain their
books and records in accordance with past practices. Neither the Company nor
the Bank may do any of the following without first obtaining the prior written
consent of American Federal (i) declare, set aside or pay any dividend or make
any other distribution with respect to the Company's capital stock or reacquire
any of the Company's outstanding shares, except that the Bank shall be permitted
to pay cash dividends to the Company in the ordinary course to meet any of the
Company's obligations; (ii) issue or sell or buy any shares of capital stock of
the Company or any subsidiary, except shares of Common Stock issued pursuant to
the Option Plan; (iii) effect any stock split, stock dividend or other
reclassification of the Common Stock; or (iv) grant any options or issue any
warrants exercisable for or securities convertible or exchangeable into capital
stock of the Company or any subsidiary or grant any stock appreciation or other
rights with respect to shares of capital stock of the Company or of any
subsidiary.
In addition, the Company and its subsidiaries shall not, without the prior
written consent of American Federal (which consent shall not be unreasonably
withheld): (i) sell or dispose of any assets of the Company or of any
subsidiary other than the sale of single-family residential mortgage loans in
the ordinary course; (ii) change the articles of incorporation, charter
documents or other governing instruments of the Company or any subsidiary; (iii)
except as otherwise provided in the Agreement, grant to any employee of the
Company or any subsidiary an increase in compensation, bonus or benefits except
increases in compensation, bonus or benefits in the ordinary course of business
to non-officer employees; (iv) adopt any new or amend or terminate any existing
employee plans or benefit arrangements of any type, except as contemplated in
the Agreement and in compliance with applicable law; provided, however, that
prior to the Effective Time, the Company and its subsidiaries shall be
permitted, consistent with past practices, to (A) make contributions to the
Employee Plans and Benefit Arrangements, and (B) extend the term of any existing
employment agreement; (v) authorize severance pay or other benefits for any
employee of the Company or any subsidiary except (A) in accordance with existing
agreements or (B) as otherwise provided in the Agreement; (vi) incur any
material obligation or enter into or extend any contract involving annual
payments in excess of $5,000; (vii) engage in any lending activities, provided,
however, that the Company or any subsidiary may without prior approval originate
(A) consumer loans in amount of $50,000 or less per loan, (B) single-family
residential loans in amount of $175,000 or less per loan for retention in its
portfolio, (C) single-family residential loans without limit as to size where
the Company or a subsidiary has obtained a prior and valid commitment for the
purchase of such loan, and (D) commercial leases in amount of $25,000 or less
per lease; (viii) form any new subsidiary or cause or permit a material change
in the activities presently conducted by any subsidiary or make additional
investments in subsidiaries; (ix) purchase any equity securities other than FHLB
stock; (x) make any investment which would cause the Bank to not be a qualified
thrift lender under federal savings institution statutes, or not to be a
"domestic building and loan association" as defined in Section 7701(a)(19) of
the Internal Revenue Code; (xi) borrow or agree to borrow any amount of funds,
excluding for these purposes FHLB advances with a maturity not to exceed six
months and the acceptance of deposits in the ordinary course of business; (xii)
hire any new permanent employees; (xiii) make any capital expenditures exceeding
$5,000 in the aggregate; or (xiv) establish interest and fee schedules related
to the Bank's deposit products or lending products which materially differ from
the average interest and fees charged for similar products by financial
institutions conducting business in the Bank's primary market area.
The Company and the Bank also have agreed: (i) to give AFS and American
Federal and their respective representatives and agents full access at all
reasonable times to all of their premises, books, records and employees and
furnish them access to and copies of such financial and operating data, all
documents with respect to matters to which reference is made in the
representations and warranties contained in the Agreement or on any list,
schedule or certificate delivered or to be delivered in connection with the
Agreement, and such other documents, records, or information with respect to the
business and properties of the Company and its subsidiaries as they shall from
time to time reasonably request; provided, however, that any such inspection (a)
-------- -------
shall be conducted in such manner as not to interfere unreasonably with the
operation of the business of the entity inspected and (b) shall not affect any
of the representations and warranties under the Agreement; (ii) to submit the
Agreement to the stockholders of the Company for approval at a meeting to be
held as soon as practicable after the execution of the Agreement and to
27
use its best efforts to solicit from its stockholders proxies in favor of
approval of the Agreement and to take all other action necessary or helpful to
secure a stockholder vote in favor of approval of the Agreement, except as the
fiduciary duties of the Board of Directors may otherwise require; (iii) to
deliver to AFS and American Federal, as soon as practicable after they become
available, copies of publicly available financial statements for all periods
prior to the Effective Time. In addition, the Board of Directors of the Company
agreed to recommend to the stockholders in this Proxy Statement that they vote
for approval of the Agreement, subject to the Bank's fiduciary duties and
receipt of an updated fairness opinion from Baird.
AFS and American Federal have agreed: (i) to prepare and file as soon as
practicable all required applications for regulatory approval of the Merger, the
Bank Merger and the other transactions contemplated by the Agreement and to use
all reasonable efforts to obtain prompt approval of each required application;
and (ii) not to permit any of their subsidiaries to, without the prior written
consent of the Company, take any action that would materially adversely affect
or delay the ability of the Buyer or Seller to obtain the Government Approvals
or to perform their covenants and agreements under the Agreement and the Bank
Plan of Merger.
Each Party to the Agreement has agreed: (i) to cooperate when issuing or
making any press release, disclosure or statement with respect to the Merger,
the Bank Merger or the other transactions contemplated by the Agreement; (ii) to
give prompt written notice to the other Party of any event or development (x)
which, had it existed or been known on the date of the Agreement, would have
been required to be disclosed under the Agreement, (y) which would cause any of
its representations and warranties contained in the Agreement to be inaccurate
or otherwise materially misleading, or (z) which materially relate to the
satisfaction of the conditions to consummation of the Merger; and (iii) to use
their best efforts, and take all actions necessary or appropriate (including
their joint cooperation and assistance, as necessary, in preparing this Proxy
Statement and the regulatory applications), to consummate the Merger and the
other transactions contemplated by the Agreement at the earliest practicable
date.
NO SOLICITATION
The Agreement provides that neither the Company nor the Bank will authorize
or permit any officer, director, employee, investment banker, financial
consultant, attorney, accountant or other representative, directly or
indirectly, to initiate contact with any person or entity in an effort to
solicit, initiate or encourage any Takeover Proposal (as defined). Except as the
fiduciary duties of the Company's Board of Directors may otherwise require, the
Company will not authorize or permit any officer, director, employee, investment
banker, financial consultant, attorney, accountant or other representative,
directly or indirectly, (A) to cooperate with, or furnish or cause to be
furnished any non-public information concerning its business, properties or
assets to, any person or entity in connection with any Takeover Proposal, (B) to
negotiate any Takeover Proposal with any person or entity, or (C) to enter into
any agreement, letter of intent or agreement in principle as to any Takeover
Proposal. "Takeover Proposal" is defined in the Agreement as any proposal, other
than as contemplated by the Agreement, for a merger or other business
combination involving the Company or the Bank or for the acquisition of a 10% or
greater equity interest in the Company or the Bank, or for the acquisition of a
substantial portion of the assets of the Company or the Bank. The Company and/or
the Bank are required to notify AFS and American Federal immediately upon they
or any officer, director, employee, investment banker, financial consultant,
attorney, accountant or other representative becoming aware of the possibility
of a Takeover Proposal or having contact initiated with any of them by any party
other than AFS or American Federal regarding a significant corporate event.
The Agreement also provides that if the Agreement is terminated in
accordance with its terms (other than if terminated by the Company and the Bank
as a result of the noncompliance by AFS with certain conditions to the
obligations of Sellers to effect the Merger) and prior to such termination a
"Termination Event", as defined, shall have occurred, the Company and the Bank
will upon demand pay to the Corporation and American Federal in immediately
available funds $500,000. A Termination Event is defined in the Agreement to
mean either of the following:
28
(i) the Company or any subsidiary without the prior written consent of
AFS shall have entered into an agreement to engage in an Acquisition Transaction
(as defined) with a party other than AFS or an affiliate of AFS. An Acquisition
Transaction is defined as: (x) a merger or consolidation, or any similar
transaction, involving the Company or any subsidiary; (y) a purchase, lease, or
other acquisition of all or substantially all of the assets of the Company or
any subsidiary; or (z) a purchase or other acquisition (including by way of
merger, consolidation, share exchange or otherwise) of 15% or more of any class
of equity securities of the Company or any subsidiary; or
(ii) After a bona fide proposal is made by any person other than AFS or
any affiliate for the Company to engage in an Acquisition Transaction, either
(x) the Company shall have willfully breached any covenant or obligation
contained in the Agreement and such breach would entitle AFS to terminate the
Agreement, or (y) the holders of Common Stock shall not have approved the
Agreement at the Special Meeting, the Special Meeting shall not have been held
or shall have been cancelled prior to termination of the Agreement or the
Company's Board of Directors shall have withdrawn or modified in a manner
adverse to AFS the recommendation of the Company's Board of Directors with
respect to the Agreement.
The foregoing provisions may have the effect of discouraging competing
offers to acquire or merge with the Company.
REPRESENTATIONS AND WARRANTIES OF THE COMPANY AND THE BANK
The Company and the Bank have made certain representations and warranties
to AFS with respect to, among other things: their organization, good standing
and qualification; status as a domestic building and loan association, FHLB
member, qualified thrift lender and SAIF-insured institution; the capitalization
of the Company; the Company's and the Bank's authority with respect to the
Agreement; ownership of subsidiaries; the Common Stock and the Bank's common
stock; financial statements; the absence of undisclosed liabilities; the absence
of dividends since June 30, 1995; the absence of certain changes or events;
taxes; properties and assets; environmental hazards; litigation, compliance with
laws and regulations; labor relations and employment agreements; employee
benefits; material contracts; breaches of agreements; broker's or finder's fees;
the loan portfolio; material accuracy of reports filed with the SEC; information
with respect to the Company and the Bank contained in this Proxy Statement; and
Community Reinvestment Act rating.
REPRESENTATIONS AND WARRANTIES OF AFS AND AMERICAN FEDERAL
AFS and American Federal have made certain representations and warranties
to the Company and the Bank with respect to, among other things: their
organization, good standing and qualification; status as a domestic building and
loan association, FHLB member, SAIF-insured institution and qualified thrift
lender; authority with respect to the Agreement; AFS's financial statements;
broker's or finder's fees; regulatory approvals; the absence of any material
adverse changes in the condition, business or operations of AFS; litigation;
information with respect to AFS and American Federal contained in this Proxy
Statement; compliance with laws and regulations; AFS's having sufficient cash on
hand at the Effective Time to pay the aggregate Merger Consideration and
aggregate Stock Option Price; and Community Reinvestment Act rating.
FURTHER AGREEMENTS OF THE PARTIES
AFS and American Federal have agreed to the following arrangements with
respect to Company employees and benefits:
(i) AFS and American Federal, subject to the exercise of their business
judgment in their sole discretion, shall use reasonable efforts to
continue the employment of Company and Bank employees at comparable
positions. To the extent such employment is not available, subject
to the exercise of their business judgment in their sole
discretion, AFS and American Federal shall use
29
all reasonable efforts to secure alternative employment for any
such persons within AFS or a subsidiary;
(ii) The existing Severance Agreement between Brian P. Wittman and the
Company will be terminated and in lieu thereof Mr. Wittman and AFS
will enter into a severance agreement (see " -- Interest of Certain
Persons in the Merger");
(iii) Six months after the Effective Time, Buyers will pay all Company or
Bank employees listed on an exhibit to the Agreement, other than
employees who prior to the expiration of such six month period
either self-terminate employment or are terminated for cause, a
payment determined based on monthly base compensation and years of
service. Employees designated as senior officers will receive a
second payment if terminated without cause within one year
following the Effective Time, unless prior to then the senior
officer self-terminates employment or is terminated for cause (see
" -- Interest of Certain Persons in the Merger");
(iv) The employees of the Company and the Bank continuing employment
with AFS and American Federal shall be eligible to receive medical,
group hospitalization, dental, life and disability insurance and
other welfare benefits no less than those provided to other
employees of AFS and American Federal holding comparable positions
without any waiting period relating to coverage under an AFS or
American Federal medical insurance plan, and will receive full
credit for payment of current and past premiums, co-payments and
deductibles;
(v) The continuing employees of the Company and the Bank shall become
subject to AFS's and American Federal's policies and procedures
relative to long-term disability, short-term disability and paid
time off to the same extent as comparably situated AFS or American
Federal employees;
(vi) Continuing employees shall be entitled to participate in all AFS
employee benefit plans to the same extent as other comparably
situated employees of AFS and American Federal, with credit for
their prior service to the Company or any subsidiary for purposes
of determining eligibility, participation and vesting;
(vii) The Company and AFS will cooperate to cause the ESOP and the Bank's
401(k) Profit Sharing Plan (together, the "Terminating Plans") to
be amended and other action taken to provide (a) that each
participant in the Terminating Plans not fully vested will become
fully vested in his or her plan account as of the Effective Time,
and (b) that the Company and the Bank shall terminate on or before
the Effective Time the Terminating Plans. Upon the repayment of the
ESOP loan, the remaining proceeds in the Loan Suspense Account will
be allocated (to the extent permitted by the Internal Revenue Code
and other applicable laws and regulations) to ESOP participants (as
determined under the terms of the ESOP). As soon as practicable
after the Effective Time, subject to receipt of a favorable
Internal Revenue Service determination letter, participants in the
Terminating Plans will receive lump sum distributions of their plan
accounts. To the extent permitted by applicable law, and to the
extent requested by participants in the Terminating Plans, AFS will
permit continuing employees to elect to have their accounts under
the Terminating Plans transferred into AFS's ESOP and American
Federal's 401(k) plan;
(viii) The existing employment agreements between the Company and the Bank
and David S. Paulson and Mary K. Nelson shall each be terminated at
the Effective Time. As a result of such termination, each of Mr.
Paulson and Ms. Nelson will be entitled to certain payments (see
" -- Interest of Certain Persons in the Merger");
30
(ix) The Bank's Directors' Retirement Plan shall be terminated at the
Effective Time and as of such time the participants therein will be
fully vested in and eligible to receive certain benefits thereunder
(see " -- Interest of Certain Persons in the Merger");
(x) On or before the Effective Time, the Bank will terminate any of its
obligations to provide death benefits to certain officers and
directors, in exchange for the payment of $187.50 to each of such
officers and directors, and no further payments of any kind will be
made on account of such termination; and
(xi) The Bank will terminate its Deferred Compensation Plan on or before
the Effective Time at no expense to, or require any payment by,
Buyers or Sellers;
The Company and the Bank may take such actions on or before the Effective
Time as are necessary or appropriate to effectuate the above agreements,
including but not limited to (i) the adoption and execution of agreements and
amendments relating to the plans, programs and agreements referred to and (ii)
the adoption and execution of any amendment required by applicable law.
AFS also has agreed, from and after the Effective Date, to indemnify
officers, directors and employees of the Company or the Bank against certain
liabilities and to provide prospective indemnification rights to, and to cover
under the liability insurance policies of AFS and its subsidiaries, such
individuals who become directors, officers or employees of AFS or its
subsidiaries. Subject to availability and a cost of no greater than $15,000,
the Company is permitted to purchase and keep in force for a period of at least
three years following the Effective Time directors' and officers' liability
insurance to provide coverage for acts or omissions of the type and in the
amount currently covered by the Company's and the Bank's existing directors' and
officers' liability insurance for acts or omissions occurring on or prior to the
Effective Time. See " -- Interests of Certain Persons in the Merger."
TERMINATION OF THE AGREEMENT
The Agreement may be terminated at any time before the Effective Time as
provided below:
(i) By mutual consent of the parties, evidenced by their written
agreement;
(ii) At the election of either party, by written notice, if the Closing
shall not have occurred on or before October 31, 1996, or such later date as
shall have been agreed to in writing by the parties; provided, however, that
-------- -------
this right to terminate shall not be available to any party whose failure to
perform an obligation under the Agreement caused the failure of the Closing to
occur on or before the date of such notice;
(iii) By AFS or American Federal upon delivery of written notice to the
Bank if any event occurs which renders impossible of satisfaction in any
material respect one or more of the conditions to the obligations of Buyer to
effect the Merger or the Bank Merger and noncompliance is not waived by Buyer;
provided, however, that the right to terminate under this paragraph shall not be
available to AFS or American Federal where either of their failure to perform an
obligation under the Agreement has been the cause of, or has resulted in, the
failure of the Closing to occur on or before the date of such written notice; or
(iv) By the Company or the Bank upon delivery of written notice to AFS
or American Federal if any event occurs which renders impossible of satisfaction
in any material respect one or more of the conditions to the obligations of
Seller to effect the Merger or the Bank Merger and noncompliance is not waived
by Sellers; provided, however, that the right to terminate under this paragraph
shall not be available to the Company or the Bank where either of their failure
to perform an obligation under the Agreement has been the cause of, or has
resulted in, the failure of the Closing to occur on or before such date.
31
In the event of termination of the Agreement, the Agreement will become
void and have no effect, except that the representations as to the absence of
broker's and finder's fees, the agreement to cooperate on publicity, the payment
of expenses, the parties' obligations to keep certain information confidential
and any required payment of the $500,000 fee described above (see " -- No
Solicitation") will survive termination of the Agreement. Termination pursuant
to paragraph (iii) or (iv) above will not relieve the breaching party of
liability for an uncured willful breach of a representation, warranty, covenant
or agreement giving rise to such termination.
AMENDMENT
The Agreement may be amended by a written document signed by all parties to
the Agreement. However, no amendment made after the Company stockholders have
approved the Agreement may alter or change the amount or form of the
consideration to be received by Company stockholders in the Merger.
EXPENSES
The Agreement provides that each Party shall bear and pay all expenses
incurred by it in connection with the transactions contemplated by the
Agreement. See also " -- No Solicitation."
INTERESTS OF CERTAIN PERSONS IN THE MERGER
Certain members of the Boards of Directors and management of the Company
and the Bank may be deemed to have certain interests in the Merger in addition
to their interests as stockholders of the Company generally. The Board of
Directors of the Company was aware of these interests and considered them, among
other matters, in unanimously approving (with all directors voting) the
Agreement and the transactions contemplated thereby.
Change in Control Payments. Mr. Paulson and Ms. Nelson are each party to
employment agreements with the Company and the Bank that provide for severance
payments upon the occurrence of certain events, including termination of their
respective employment under such agreements following a change in control of the
Company or the Bank. The Agreement provides that the employment agreements of
Mr. Paulson and Ms. Nelson will be terminated at the Effective Time and at the
Effective Time, the payments to which Mr. Paulson and Ms. Nelson are due under
their agreements upon a change in control will be made. It is currently
anticipated that in the event the Closing occurred on June 30, 1996, Mr. Paulson
and Ms. Nelson will be entitled to severance payments under their current
employment agreements in the approximate amounts of approximately $287,000 and
$156,000, respectively. Pursuant to the Agreement, in no event may the
aggregate amount of such payments to Mr. Paulson and Ms. Nelson exceed the
"golden parachute" limits of the Internal Revenue Code of 1986 or $292,000 and
$159,000, respectively."
Severance Agreement. The existing severance agreement between Brian P.
Wittman and the Company will be terminated and in lieu thereof Mr. Wittman and
American Federal will enter into a severance agreement providing that: (A) on
the earlier to occur of 120 days following the Effective Time or December 31,
1996, Mr. Wittman will receive as consideration for agreeing to terminate his
existing severance agreement (and such rights as he may be entitled to
thereunder) and for assisting in the transition following the Effective Time a
cash payment of $23,130 from American Federal; (B) on the date that is 120 days
following the Effective Time, Mr. Wittman will receive an additional cash
payment of $23,130 from American Federal, unless on or prior to such date Mr.
Wittman and American Federal agree in writing for Mr. Wittman to continue full
time employment with American Federal on mutually acceptable terms, in which
event such additional $23,130 payment shall not be made; (C) in the event Mr.
Wittman's employment is terminated by either AFS or American Federal prior to
the date on which a payment is to be made pursuant to clause (A) or (B) Mr.
Wittman will receive a cash payment of $46,260 less any payment previously
tendered to him pursuant to clause (A) or (B) effective upon such termination
and no further payment shall be required; and (D) no payments still owing to Mr.
Wittman will be due if at any time prior to the date on which a payment is
required to be made Mr. Wittman voluntarily self-terminates his employment or he
is terminated by American Federal for cause.
32
Stock Options. Pursuant to the Agreement, at the Effective Time, each
holder of an Option will receive, in consideration for the cancellation of such
Option, an amount determined by multiplying the number of shares subject to
Option by an amount equal to the difference between $23.25 and the exercise
price per share of Common Stock underlying such Option. All Options have an
exercise price of $10.00 per share. Assuming that no Options are exercised
prior to the Effective Time, the amount each director, director emeritus and
executive officer of the Company is expected to receive in exchange for the
cancellation of his or her Options outstanding as of the Record Date is as
follows:
NUMBER OF SHARES NET REALIZABLE
NAME POSITION UNDERLYING OPTIONS VALUE OF OPTIONS
- ---- -------- ------------------ ----------------
David S. Paulson Director, President and Chief
Executive Officer 15,006 $198,830
John M. Grove Chairman of the Board 3,602 47,727
Carl R. Ekern Director 3,602 47,727
Robert S. Gibb, Sr. Director 3,602 47,727
Mary K. Nelson Director, Executive Vice President
and Secretary 7,502 99,402
Mark V. Sweeney Director 3,602 47,727
C. Nicholas Vogel Director Emeritus 3,602 47,727
Brian P. Wittman Controller/Treasurer -- --
Stanley D. Bachmeier Vice President - Lending 3,002 39,777
Marlin D. Lindquist Vice President 1,251 16,576
Eric B. Rogne Vice President 1,251 16,576
Restricted Stock Awards. The Company has previously issued shares of
Common Stock pursuant to the Northwestern Financial Corp. Management Recognition
Plans "A" and "B" (the "MRPs") to directors, the director emeritus, officers and
employees of the Company and the Bank. Pursuant to the terms of the MRPs, the
participants vest in such shares over a three-year period, although such vesting
is accelerated in the event of a change in control of the Company. As a result
of the change in control of the Company due to the Merger, at the Effective
Time, each non-employee director and the director emeritus will become fully
vested in 1,440 shares of Common Stock with an individual value of $33,480 at
the Effective Time and Messrs. Paulson, Wittman, Bachmeier, Lindquist and Rogne
and Ms. Nelson would become immediately fully vested in 6,002, 800, 1,200, 500,
500 and 3,001 shares of Common Stock, respectively, with an approximate value
(based on a per share price of $23.25) of $139,547, $18,600, $27,900, $11,625,
$11,625 and $69,773, respectively and would also be entitled to receive any
unpaid cash dividends which had accrued on such shares plus interest as well as,
in the case of Messrs. Wittman and Bachmeier who did not exercise an election to
receive a cash bonus at the time of award, a cash bonus equal to $4.00 per share
for each share award received by the individual for the tax liability which such
individuals will recognize with respect to such unvested restricted stock
awards.
Employee Stock Ownership Plan and 401(k) Profit Sharing Plan. On or before
the Effective Time, the Company and AFS will cooperate to amend the Terminating
Plans to provide that each employee who is not vested will become full vested in
his or her plan account as of the Effective Time and that the Company and the
Bank shall terminate the Terminating Plans on or before the Effective Time. Upon
termination, the assets of the Terminating Plans will be distributed to
participants in accordance with the terms of such plan. Messrs. Paulson,
Wittman, Bachmeier, Lindquist and Rogne and Ms. Udart and Ms. Nelson are fully
vested in the 401(k) Plan.
As a result of the Merger and upon the termination of the ESOP, the ESOP
loan from Northwestern Financial Corp. of $320,160 will be repaid from the
Merger Consideration received for the 31,016 shares of Common Stock held by the
ESOP that remained unallocated at December 31, 1995. The remaining proceeds will
be allocated to the ESOP participants. The expected amounts to be allocated as a
result of such action to Messrs. Paulson, Wittman, Bachmeier, Lindquist and
Rogne and Ms. Nelson are approximately $55,000, $13,000, $28,000, $26,000,
$21,000, and $31,000, respectively. Such amounts are subject to change if
additional contributions by the Company
33
are made to the ESOP prior to the Effective Time. In addition, each participant
in the ESOP not fully vested will become fully vested in his or her ESOP account
upon termination of the ESOP. At December 31, 1995, the only executive officer
of the Company who was not fully vested in his ESOP account was Mr. Wittman. As
a result of such acceleration in vesting, Mr. Wittman would become fully vested
in the unvested $5,000 of his ESOP account.
Directors' Retirement Plan. At the Effective Time, the Bank's Directors'
Retirement Plan will be terminated, and all participants will become fully
vested and eligible to receive benefits therein. As a result, within ten days
following the Effective Time, Directors Ekern, Sweeney, Paulson, Gibb, Grove and
Nelson each will receive a lump sum cash payment of up to $14,400.
Severance Payments. Pursuant to the Agreement, six months after the
Effective Time, all employees of the Company or the Bank will receive a cash
payment based on years of service and monthly base compensation. The payment to
be made to Messrs. Bachmeier, Lindquist and Rogne and Ms. Udart and Ms.
Fredericks will be one-half of monthly salary for each year of service up to a
maximum of six months. Such payment will not be due if the employee self-
terminates or is terminated for cause prior to the expiration of such six month
period. In addition, if AFS terminates certain senior officer employees, which
include Messrs. Bachmeier, Lindquist and Rogne and Ms. Udart and Ms. Fredericks,
within one year following the Effective Time, such terminated senior officer
employee will receive an additional payment of one-half of monthly base salary
for each year of service up to a maximum of six months. Such additional payment
will not be due if the senior officer employee self-terminates or is terminated
for cause prior to the expiration of such one-year period.
Insurance; Indemnification. AFS and American Federal have agreed to
indemnify, defend and hold harmless each person who is, or has been at any time
prior to the date of the Agreement or who becomes prior to the Effective Time,
an officer, director or employee of the Company or any subsidiary (the
"Indemnified Parties") against all losses, claims, damages, costs, expenses
(including attorney's fees), liabilities, judgments or amounts that are paid in
settlement of or in connection with any claim, action, suit, proceeding or
investigation (each a "Claim") in which an Indemnified Party is, or is
threatened to be made, a party or a witness based in whole or in part on or
arising in whole or in part out of the fact that such person is or was a
director, officer or employee of the Company or any subsidiary if such Claim
pertains to any matter or fact arising, existing or occurring prior to the
Effective Time (including, without limitation, the Merger and other transactions
contemplated by the Agreement) (the "Indemnified Liabilities") to the full
extent permitted under (i) applicable Iowa or federal law or (ii) under the
Company's or the Bank's Articles of Incorporation, Charter and Bylaws. AFS and
American Federal shall pay expenses in advance of the final disposition of any
such Claim to each Indemnified Party to the full extent permitted by Iowa or
federal law upon receipt of any undertaking required by applicable law. Any
Indemnified Party wishing to claim indemnification upon learning of any Claim,
shall notify AFS promptly after learning of any Claim and shall deliver to AFS
any undertaking required by applicable law.
From and after the Effective Time, the directors, officers and employees of
the Company and its subsidiaries who become directors, officers or employees of
AFS or its subsidiaries (i) shall have indemnification rights having prospective
application only, except for the indemnification rights described in the
previous paragraph and (ii) shall be covered by the directors, officers and
employees liability insurance policy of AFS and its subsidiaries on a basis at
least equal to the coverage provided to persons in similar positions with AFS or
any of its subsidiaries. These prospective indemnification rights consist of
such rights to which directors, officers and employees of AFS or its
subsidiaries are entitled under the provisions of (A) the Articles of
Incorporation of AFS and its subsidiaries and (B) provisions of applicable
Minnesota and federal law.
Subject to availability and a cost of no greater than $15,000, the Company
is permitted to purchase and keep in force for a period of at least three years
following the Effective Time directors' and officers' liability insurance to
provide coverage for acts or omissions of the type and in the amount currently
covered by the Company's and the Bank's existing directors' and officers'
liability insurance for acts or omissions occurring on or prior to the Effective
Time.
34
CERTAIN FEDERAL INCOME TAX CONSEQUENCES
THE FOLLOWING ARE ALL MATERIAL FEDERAL INCOME TAX CONSEQUENCES OF THE
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MERGER TO STOCKHOLDERS OF THE COMPANY. THE TAX DISCUSSION SET FORTH BELOW
- --------------------------------------------------------------------------
CONSTITUTES THE MATERIAL FEDERAL INCOME TAX CONSEQUENCES OF THE MERGER TO THE
- -----------------------------------------------------------------------------
STOCKHOLDERS OF THE COMPANY, WITHOUT CONSIDERATION OF THE FACTS AND
- -------------------------------------------------------------------
CIRCUMSTANCES OF THE SITUATION OF EACH OF THE COMPANY'S STOCKHOLDERS. EACH
- ---------------------------------------------------------------------------
STOCKHOLDER OF THE COMPANY IS URGED TO CONSULT HIS OR HER OWN TAX AND FINANCIAL
- -------------------------------------------------------------------------------
ADVISORS AS TO THE MATTERS DESCRIBED HEREIN AND ALSO AS TO ANY STATE, LOCAL,
- ----------------------------------------------------------------------------
FOREIGN OR OTHER TAX CONSEQUENCES ARISING OUT OF THE MERGER.
- ------------------------------------------------------------
For federal income tax purposes, the receipt of cash by a stockholder of
the Company in exchange for shares of the Common Stock pursuant to the Merger
will constitute a taxable transaction to such stockholder. In general, a
stockholder who receives cash in the Merger in exchange for such stockholder's
shares of Common Stock will recognize gain or loss equal to the difference, if
any, between (i) the sum of the cash payment of $23.25 per share received from
AFS in exchange for the shares of the Common Stock and (ii) the stockholder's
tax basis in such Common Stock. Any gain or loss will be treated as capital gain
or loss if the Common Stock exchanged was held as a capital asset in the hands
of the stockholder.
The cash payments due to the holders of the Common Stock upon the exchange
thereof pursuant to the Merger (other than certain exempt entities and persons),
will be subject to a backup withholding tax at the rate of 31% unless certain
requirements are met. Generally, the Exchange Agent will be required to deduct
and withhold the tax if: (i) the stockholder fails to furnish a taxpayer
identification number ("TIN") to the Exchange Agent or fails to certify under
penalty of perjury that such TIN is correct; (ii) the Internal Revenue Service
("IRS") notifies the Exchange Agent that the TIN furnished by the stockholder is
incorrect; (iii) the IRS notifies the Exchange Agent that the stockholder has
failed to report interest, dividends or original issue discount in the past; or
(iv) there has been a failure by the stockholder to certify under penalty of
perjury that such stockholder is not subject to the backup withholding tax. Any
amounts withheld by the Exchange Agent in collection of the backup withholding
tax will reduce the federal income tax liability of the stockholders from whom
such tax was withheld. The TIN of an individual stockholder is that
stockholder's Social Security number.
No ruling has been or will be requested from the IRS as to any of the tax
effects of any of the transactions discussed in this Proxy Statement to
stockholders of the Company, and no opinion of counsel has been or will be
rendered to the Company's stockholders with respect to any of the tax effects of
the Merger to the Company's stockholders. The above discussion of federal income
tax consequences is based on management's independent analysis.
ACCOUNTING TREATMENT
The Company has been advised by AFS Corporation that the transaction will
be accounted for utilizing purchase accounting as required by Accounting
Principles Board Opinion No. 16 Business Combinations.
REGULATORY APPROVALS
Consummation of the Merger is subject to the receipt of all regulatory
approvals required for the completion of the Merger. The Merger must be approved
by the OTS under the Home Owners' Loan Act, as amended ("HOLA"). The HOLA
requires the OTS to take into consideration the financial and managerial
resources and future prospects of AFS and the Company, the effect of the Merger,
the insurance risk to the SAIF, and the convenience and needs of the communities
to be served. Before approving the Merger, the OTS must request and consider any
report rendered by the Attorney General within 30 days on the competitive
factors involved. Further, the OTS may not approve the Merger if it determines,
among other things, that the Merger would: (i) result in a monopoly or would be
in furtherance of any combination or conspiracy to monopolize or to attempt to
monopolize the savings and loan business in any part of the United States; or
(ii) substantially lessen competition, or tend to create a monopoly, in any
section of the country, or in any other manner be in restraint of trade, unless
the OTS finds that
35
the anti-competitive effects of the Merger are clearly outweighed in the public
interest by the probable effect of the Merger in meeting the convenience and
needs of the communities to be served. The regulations promulgated under the
HOLA require the publication of notice of any application filed thereunder and
the opportunity for the public to comment. An application for approval of the
Merger has been submitted to the OTS. No assurance can be given that such
application will be approved or that it will not be approved on terms or
conditions that may require an amendment to the Agreement. No amendment made
after the Company stockholders have approved the Agreement may change the amount
or form of the consideration to be received by Company stockholders in the
Merger.
NORTHWESTERN FINANCIAL CORP.
GENERAL
The Company. The Company was incorporated at the direction of the Board of
Directors of the Bank in September 1993 and it acquired all of the capital stock
issued by the Bank on December 31, 1993 in connection with the Conversion. At
the March 31, 1996, the Company had no significant assets other than its
investment in the Bank and a $2.1 million receivable from the Bank. The
Company's principal business is the business of the Bank and its subsidiaries.
The Bank. The Bank is a federal savings bank operating through three
offices located in Fargo and Wahpeton, North Dakota. The Bank's principal
business consists of attracting deposits from the general public and investing
these funds primarily in loans secured by first mortgages on real estate located
primarily in the Bank's primary market area, the Fargo-Moorhead area, which
consists of Cass and Richland Counties in North Dakota and Clay and Wilkin
Counties in Minnesota. In previous periods, the Bank had originated and
purchased loans secured by properties in Arizona, and at March 31, 1996, $13.8
million, or 23%, of the Bank's gross loans, were secured by properties located
in Arizona. To a limited extent, the Bank has resumed the placement of loans
secured by properties in Arizona in its loan portfolio to be held for investment
purposes. Such loans are originated by the Bank's loan production office in
Chandler, Arizona. The Bank emphasizes the origination of loans for the purchase
or construction of residential real estate and multi-family residential
property. In addition, to a lesser extent, the Bank originates commercial real
estate loans, commercial leases and consumer loans, including automobile loans,
home equity loans, and loans secured by savings accounts.
The Bank derives its income principally from interest earned on loans and,
to a lesser extent, loan servicing and other fees, gains on the sale of loans
and interest earned on investment and mortgage-backed securities. The Bank's
principal expenses are interest expense on deposits and non-interest expense
such as compensation and employee benefits, office occupancy and equipment
expenses and other miscellaneous expenses. Funds for these activities are
provided principally by deposits, repayments of outstanding loans, sales of
loans and operating revenues.
The Bank opened a loan production office in Chandler, Arizona in May 1994
to originate mortgages both for sale into the secondary market with servicing
released and for retention in its loan portfolio. The office consists of one
loan officer whose salary is based on commissions paid on individual loan
production and one loan processing assistant who receives a base salary. Loan
processing and quality control for Arizona production is performed in North
Dakota.
In order to provide higher levels of service and to attract and retain both
deposit and loan customers, the Bank opened a new branch office in south Fargo,
North Dakota in October 1994.
The Bank is subject to examination and comprehensive regulation by the OTS
and the Bank's savings deposits are insured up to applicable limits by the SAIF,
which is administered by the FDIC. The Bank is a member of and owns capital
stock in the FHLB of Des Moines, which is one of 12 regional banks in the FHLB
System. The Bank is further subject to regulations of the Board of Governors of
the Federal Reserve System (the "Federal Reserve Board") governing reserves to
be maintained and certain other matters. See "-- Regulation."
36
BRANCH SALES
As part of its capital plan approved by the OTS in September 1991 (see "--
Past Supervisory Actions") the Bank determined to sell substantially all of the
assets and transfer substantially all of the liabilities of its two branch
offices located in Bismarck and Mandan, North Dakota. The Bank completed the
sale of the Mandan office on December 31, 1992 and completed the sale of the
Bismarck branch office on January 2, 1993. In connection with the sales of these
branches, the Bank sold total assets aggregating $10.2 million, transferred
total liabilities aggregating $23.7 million and incurred a loss of $19,000. See
Note 14 of Notes to Consolidated Financial Statements.
PAST SUPERVISORY ACTIONS
Between January 1990 and June 1993, the Bank was subject to certain
supervisory actions by the OTS. In January 1990, the Bank and the OTS entered
into a Supervisory Agreement (the "Supervisory Agreement"). The Supervisory
Agreement limited the Bank's investment in real estate loans to loans in its
local community. The Supervisory Agreement also prohibited the Bank from, among
other things, originating or purchasing construction loans other than custom
construction loans of less than $500,000, investing in commercial loans in
excess of $100,000 and investing in any non-residential real estate loans in
excess of the lesser of $500,000 or statutory limits. The Supervisory Agreement
also required the Bank to adopt various lending policies and to submit periodic
reports to the OTS demonstrating compliance with those policies.
Subsequently, in August 1991, the Bank consented to the entry of an Order
to Cease and Desist (the "Order"), which required the Bank to revise its
conflict of interest policy to prohibit the waiver of overdraft and non-
sufficient funds fees for executive officers and directors. In addition, among
other things, the Order required the Bank to implement procedures relating to
loan underwriting and record-keeping.
In connection with its approval of the Bank's capital plan, in September
1991, the OTS issued a Capital Directive (the "Capital Directive"). The Capital
Directive, which was consented to by the Bank, required the Bank to achieve
compliance with the capital requirements by the date specified in the Bank's
capital plan. The Capital Directive contained numerous other provisions,
including operating restrictions.
The above-mentioned supervisory actions influenced management's operating
strategy between 1990 and 1993 because of the limitations placed on the Bank's
activities by the supervisory actions. Among other things, the Supervisory
Agreement required the Bank to cease originating and purchasing loans secured by
real estate outside of its local community and to cease commercial leasing
activities. In addition, pursuant to its capital plan and the Capital Directive,
the Bank adopted a strategy of reducing assets and liabilities in order to
improve capital ratios. Such strategy included the sale of two of its branch
offices, which sales were completed on December 31, 1992 and January 2, 1993.
See " -- Branch Sales."
On June 8, 1993, the OTS terminated the Capital Directive, the Supervisory
Agreement and the Order. Accordingly, the Bank is no longer subject to the
Capital Directive, the Supervisory Agreement or the Order.
ARIZONA LENDING
During the mid-1980's, the Bank had excess liquidity that it sought to
invest in adjustable-rate loans, but sufficient lending opportunities were not
available in its primary market area. At that time, management of the Bank was
aware of two individuals, with whom it previously had engaged successfully in
occasional business dealings over a 15 year period, who had relocated from
Fargo, North Dakota to Scottsdale, Arizona where they operated a mortgage
banking business. In addition, certain of the Bank's directors who had vacation
properties in Arizona were familiar with Arizona real estate markets and
believed that the Bank could profitably invest its excess liquidity in loans
secured by Arizona real estate. Accordingly, beginning in 1982, the Bank began
purchasing single-family,
37
residential mortgage loans, construction loans and commercial and multi-family
residential real estate loans secured by real estate located in Arizona. Most
loans purchased were whole loans, but some of the commercial real estate loans
purchased were participations in loans.
In the late 1980's, due to over-building and declining economic conditions
in Arizona, the Bank experienced increased delinquencies and defaults on its
portfolio of Arizona loans, and in January 1990, the Bank and the OTS entered
into the Supervisory Agreement, which, among other things, prohibited the Bank
from investing in loans secured by property located outside its local community.
See " -- Past Supervisory Actions." The Supervisory Agreement was terminated by
the OTS on June 8, 1993, and the Bank opened a loan production office in
Chandler, Arizona, in May of 1994. See "-- General -- The Bank."
Through the placement of adjustable-rate residential real estate loans
originated by the new loan production office and certain other loans into the
Bank's loan portfolio for investment purposes, the Bank's loans secured by real
estate in Arizona increased from $12.6 million at June 30, 1994 to $13.8 million
at March 31, 1996, which represented 23% of the Bank's gross loan portfolio at
March 31, 1996. At March 31, 1996, a significant percentage of the Bank's loans
were secured by Arizona real estate. Specifically, at March 31, 1996, the Bank's
single-family residential mortgage loans, multi-family residential mortgage
loans and commercial real estate loans, secured by Arizona real estate, amounted
to $6.7 million, $414,000 and $6.7 million, respectively, which represented 39%,
1.4% and 78.9% of the Bank's portfolio of single-family residential mortgage
loans, multi-family residential mortgage loans and commercial real estate loans,
respectively. At March 31, 1996, the Bank's classified assets included one loan
of $100,000 secured by Arizona commercial real estate, which was classified as
substandard. See " -- Asset Classification." Such loan was performing at March
31, 1996.
MARKET AREA
The Bank conducts its business through three offices located in Cass and
Richland Counties in North Dakota. The Bank's primary market area is the Fargo-
Moorhead area, which consists of Cass and Richland Counties in North Dakota and
Clay and Wilkin Counties in Minnesota. Most of the Bank's lending and deposit
activities centered in the Fargo-Moorhead vicinity. Most of the Bank's
depositors live within a 50 mile radius of its three offices, and most of its
borrowers live within a 10 mile radius of its three offices.
The Fargo-Moorhead area has a population of approximately 120,000 and
serves as a hub for hospitals and colleges in the local area. North Dakota State
University, Moorhead State University and Concordia College, as well as three
hospitals, all are based in the Fargo-Moorhead area. The Fargo-Moorhead area has
a diverse economy with an emphasis on farming, but also includes light
manufacturing. The farm economy has been stable over the years, with farms
tending toward the larger sized farms. Crops raised locally include sugar beets,
potatoes and wheat. Other than farming, the primary employers in the area
include Crystal Sugar, Case Corp., the three universities, the three hospitals
and food distributors. The Fargo-Moorhead MSA experienced population growth of
approximately 6.7% between 1990 and 1995 and has an unemployment rate below the
national average. Fargo-Moorhead MSA median household income was $34,641 for
1995, compared to $33,610 at the national level.
At March 31, 1996, $13.8 million, or 23%, of the Bank's gross loans, were
secured by real estate located in Arizona. Most of the Bank's Arizona loans are
secured by properties located in the city of Scottsdale, which is in Maricopa
County. To a lesser extent, the Bank has loans secured by real estate located in
the cities of Phoenix, Chandler, Tempe, Mesa and Paradise Valley, all of which
are in Maricopa County. Maricopa County has a population of approximately 2.2
million, and Scottsdale has a population of approximately 41,000. Maricopa
County's economy has begun to experience growth during recent years after
slumping during the late 1980s and early 1990s. Maricopa County's economy is
based on the service and wholesale and retail trade industries. Major employers
include state, county and local government, as well as Motorola, Samaritan
Health System, Allied-Signal Aerospace Co., Honeywell, Inc. and America West
Airlines, Inc. Economic conditions in the Scottsdale area appear to have
stabilized or improved slightly during recent years. According to information
published by the Arizona
38
Department of Economic Security and the city of Scottsdale Economic Development
Office ("EDO"), through July 1995, the unemployment rates in Scottsdale, the
Phoenix metro area and Arizona were 2.7%, 3.8% and 5.0%, respectively, as
compared to rates of 3.7%, 5.1% and 6.0%, respectively, as of July 1994. The EDO
also reported that 2,102 single-family and 1,322 multi-family building units
were issued in the Scottsdale area during the first seven months of 1995,
compared to 2,011 single-family and 918 multi-family building units for the same
period last year. In addition, the EDO reported that the Phoenix office vacancy
rate decreased to 5% and the Scottsdale retail vacancy rate was 6% as of July
1995.
LENDING ACTIVITIES
Loan Portfolio Composition. The Bank's gross loan portfolio totalled
$60.2 million at March 31, 1996, representing 86.1% of total assets at that
date. It is the Bank's policy to concentrate its lending within its market
area. At March 31, 1996, $14.5 million, or 24.1%, of the gross loan portfolio,
consisted of single-family, conventional residential mortgage loans, which are
loans that are neither insured by the Federal Housing Administration ("FHA") nor
partially guaranteed by the Veterans Administration ("VA") or held for sale.
The Bank also makes conventional mortgage loans for the purpose of constructing
single-family and multi-family residences. At March 31, 1996, loans for the
construction of single-family and multi-family residential real estate totalled
$2.3 million, or 3.8%, of the Bank's gross loan portfolio.
Historically, the Bank has emphasized the origination and, to a lesser
extent, the purchase, of loans for the purchase or construction of commercial
real estate and multi-family residential real estate. However, legislation
enacted in 1989 reduced the amount of commercial and multi-family residential
real estate loans in which the Bank was permitted to invest. As a result, during
the years ended June 30, 1993 and 1994, the Bank substantially reduced its
originations of commercial real estate and multi-family residential real estate
loans. However, as a result of the additional capital received from the December
1993 stock conversion proceeds, the growing Fargo economy and increased demand
for multi-family residential real estate, the Bank has become more active in
originating and purchasing multi-family real estate during the nine months ended
March 31, 1996 and the year ended June 30, 1995. At March 31, 1996, commercial
real estate loans amounted to $8.3 million, or 13.8%, of the Bank's gross loan
portfolio, and multi-family residential real estate loans amounted to $27.3
million, or 45.4%, of the Bank's gross loan portfolio.
At March 31, 1996, the remainder of the Bank's portfolio of mortgage loans
consisted primarily of loans held for sale. Loans held for sale consist
primarily of fixed-rate, single-family mortgage loans which the Bank originated
for sale in the secondary market. See " -- Origination, Purchase and Sale of
Loans." Such loans amounted to $1.4 million, or 2.4%, of the Bank's gross loan
portfolio, at March 31, 1996.
The Bank also originates commercial leases and loans and consumer loans,
including automobile loans, home equity loans and loans secured by savings
deposits. Commercial leases and loans and consumer loans amounted to $2.7
million, or 4.5%, and $3.1 million, or 5.1%, respectively, of the Bank's gross
loan portfolio at March 31, 1996.
In addition to loans, the Bank had $877,000 in mortgage-backed securities
held at maturity and $1.7 million in mortgage-backed securities available for
sale at March 31, 1996. All mortgage-backed securities in the Bank's portfolio
at March 31, 1996 consisted of securities collateralized entirely by single-
family mortgage loans. See "-- Mortgage-Backed Securities Held to Maturity"
and "-- Securities Available for Sale."
39
Set forth below is selected data relating to the composition of the Bank's
loan portfolio by type of loan on the dates indicated. As of March 31, 1996, the
Bank had no concentrations of loans exceeding 10% of total loans other than as
disclosed below.
At March 31, At June 30,
----------------------------------------------------
1996 1995 1994 1993
---------------- --------------- --------------- ---------------
Amount % Amount % Amount % Amount %
------ ----- ------ ----- ------ ----- ------ -----
(Dollars in thousands)
Real estate loans:
Construction loans....................... $ 2,493 4.14% $ 6,326 12.21% $ 727 1.88% $ 1,171 2.77%
Conventional............................. 14,479 24.06 14,835 28.64 11,922 30.77 12,329 29.21
Loans held for sale...................... 1,431 2.38 785 1.52 445 1.15 3,133 7.42
Insured or guaranteed real estate loans.. 391 0.65 462 0.89 667 1.72 753 1.78
Commercial............................... 8,310 13.81 7,761 14.99 8,419 21.73 9,521 22.56
Multi-family residential................. 27,291 45.35 17,347 33.49 14,095 36.38 13,672 32.39
Commercial and consumer loans:
Commercial leases........................ 2,577 4.28 1,921 3.71 782 2.02 373 0.88
Commercial loans......................... 127 0.21 35 0.07 49 0.13 95 0.23
Home equity loans........................ 1,778 2.96 1,230 2.38 652 1.68 688 1.63
Automobile loans......................... 791 1.31 707 1.36 543 1.40 207 0.49
Savings account loans.................... 106 0.18 111 0.21 246 0.64 151 0.36
Other loans.............................. 402 0.67 272 0.53 194 0.50 118 0.28
------- ------ ------- ------ ------- ------ ------- ------
60,176 100.00% 51,792 100.00% 38,741 100.00% 42,211 100.00%
------- ====== ------- ====== ------- ====== ------- ======
Less:
Loans in process......................... (306) (2,480) (238) (696)
Deferred fees and discounts.............. (406) (337) (247) (109)
Allowance for loan losses................ (845) (850) (851) (850)
------- ------- ------- -------
Total $58,619 $48,125 $37,405 $40,556
======= ======= ======= =======
40
The following table sets forth certain information as of June 30, 1995
regarding the dollar amount of loans receivable and mortgage-backed securities
maturing in the Bank's portfolio, including scheduled repayments of principal,
based on contractual terms to maturity. Demand loans, loans having no schedule
of repayments and no stated maturity, and overdrafts are reported as due in one
year or less. The table below does not include any estimate of prepayments,
which significantly shorten the average life of all loans and mortgage-backed
securities and may cause the Bank's actual repayment experience to differ from
that shown below.
Due after Due after Due after
3 through 5 through 10 through Due after 15
Due during the year ending 5 years after 10 years after 15 years after years after
June 30, June 30, June 30, June 30, June 30,
------------------------------
1996 1997 1998 1995 1995 1995 1995 Total
------ ------ ------ ------------- -------------- -------------- ------------ -------
(In thousands)
Mortgage-backed securities:
Available for sale........ $ 10 $ 10 $ 11 $ 24 $ 75 $ 102 $ 182 $ 414
Held to maturity.......... 27 29 30 67 212 292 1,407 2,064
------ ------ ------ ------ ------ ------ ------- -------
Total.................... $ 37 $ 39 $ 41 $ 91 $ 287 $ 394 $ 1,589 $ 2,478
====== ====== ====== ====== ====== ====== ======= =======
Loan receivable:
Single-family residential
(1)...................... $ 314 $ 337 $ 362 $ 807 $2,602 $3,718 $ 7,942 $16,082
Real estate construction.. 6,326 -- -- -- -- -- -- 6,326
Commercial real estate.... 664 719 779 1,756 3,843 -- -- 7,761
Multi-family residential.. 405 436 470 1,053 3,440 5,003 6,540 17,347
Commercial and consumer... 274 881 818 2,233 70 -- -- 4,276
------ ------ ------ ------ ------ ------ ------- -------
Total.................... $7,983 $2,373 $2,429 $5,849 $9,955 $8,721 $14,482 $51,792
====== ====== ====== ====== ====== ====== ======= =======
_______________
(1) Includes loans held for sale.
41
The following table sets forth the dollar amount at June 30, 1995 of all
loans and mortgage-backed securities due after one year after June 30, 1995
which have predetermined interest rates and have floating or adjustable interest
rates.
Predetermined Floating or
Rate Adjustable Rates
------------- ----------------
(In thousands)
Mortgage-backed securities:
Available for sale............. $ -- $ 404
Held to maturity............... -- 2,037
-------- --------
Total......................... $ -- $ 2,441
======== ========
Loans receivable:
Single-family residential (1).. $ 3,165 $ 12,603
Commercial real estate......... 1,520 5,577
Multi-family residential....... 490 16,452
Commercial and consumer........ 2,778 1,224
-------- --------
Total......................... $ 7,953 $ 35,856
======== ========
_________________
(1) Includes loans held for sale.
Scheduled contractual principal repayments of loans and mortgage-backed
securities do not reflect the actual life of such assets. The average life of
loans and mortgage-backed securities is substantially less than their
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 market rates are substantially higher than rates on existing mortgage loans
and, conversely, decreases when rates on existing mortgage loans are
substantially higher than current mortgage loan market rates.
Origination, Purchase and Sale of Loans. The Bank generally has authority
to originate and purchase loans secured by real estate located throughout the
United States. Consistent with its emphasis on being a community-oriented
financial institution, the Bank concentrates its lending activities in its
market area.
Residential real estate loans typically are originated through commissioned
loan personnel, while construction loans and commercial and multi-family real
estate loans are originated through senior management officers. Residential
mortgage loan originations are attributable to depositors, walk-in customers,
advertising and referrals from real estate brokers and developers. Construction
and commercial and multi-family residential real estate loan originations are
attributable largely to the Bank's reputation and its long-standing ties to
builders in its market area. All loan applications are evaluated by the Bank's
staff to ensure compliance with the Bank's underwriting standards.
In 1991, the Bank adopted a general policy of selling fixed-rate,
single-family mortgage loans in the secondary market, thereby generating fee
income and removing any interest rate risk which would result from holding the
loans in portfolio. The Bank maintains a relationship with one institutional
investor that has agreed to purchase fixed-rate, single-family mortgage loans
meeting certain criteria originated by the Bank. In addition, the Bank also
sells whole loans to the North Dakota Housing Finance Agency (the "NDHFA"). On
loans sold to the institutional investor, the loans are underwritten by the
investor, and the Bank obtains a purchase commitment prior to committing to an
interest rate to the borrower. On loans sold to the NDHFA, the Bank underwrites
the loans in accordance with its own underwriting standards. In connection with
the origination of loans, the Bank currently charges an origination fee
generally ranging between 1-1/2 and 2 points, which the Bank retains upon the
sales of the related
42
loans. Except for loans sold to the NDHFA, the Bank sells such loans with
servicing released and receives an additional fee of 1% to 2% of the amount of
the loan for release of servicing. Management presently intends to continue to
offer fixed-rate residential real estate loans and to sell most of these loans
in the secondary market.
In addition to selling whole loans, the Bank periodically sells
participation interests in multi-family residential mortgage loans where the
amount of the loan exceeds the Bank's loans-to-one borrower limitation. The
Bank retains the servicing on loans where it sells participation interests to
other lenders.
Between 1982 and 1988, the Bank purchased single-family mortgage loans
and commercial and multi-family residential real estate loans from a lender in
Arizona, all of which loans were secured by properties in Arizona. However, due
to delinquencies experienced on such loans, the Bank stopped purchasing loans in
1988 and during fiscal 1993, 1994 and 1995 and the nine months ended March 31,
1996, the Bank did not purchase loans secured by properties located in Arizona.
During the year ended June 30, 1995 and the nine months ended March 31, 1996,
the Bank purchased participation interests in multi-family residential real
estate loans of $192,000 and $482,000, respectively. Such loans were secured by
properties located in North Dakota and Minnesota. In reviewing loans for
purchase, the Bank would use the same underwriting guidelines as those that are
required for originations.
The following table sets forth certain information with respect to the
loan origination, purchase and sale activity of the Bank during the periods
indicated.
Nine Months Ended
March 31, Year Ended June 30,
------------------- ----------------------------
1996 1995 1995 1994 1993
------- ------- ------ ------ ------
(In thousands)
Loans originated:
Construction....................... $ 2,145 $ 4,678 $ 6,185 $ 2,507 $ 1,788
Single-family residential.......... 1,172 4,145 4,452 420 1,943
Loans originated for sale.......... 15,107 5,563 9,675 37,353 37,784
Commercial real estate............. 340 -- 295 220 1,934
Multi-family residential........... 5,334 2,560 3,313 1,648 1,400
Commercial and consumer............ 2,612 2,085 3,367 2,159 608
-------- -------- -------- -------- ---------
Total loans originated............ $ 26,710 $ 19,031 $ 27,287 $ 44,307 $ 45,457
======== ======== ======== ======== =========
Loans and leases purchased:
Single-family residential.......... $ -- $ 63 $ 63 $ -- $ --
Multi-family residential........... 482 192 192 -- --
Commercial leases.................. 250 -- -- -- --
-------- -------- -------- -------- ---------
Total loans and leases purchased.. $ 732 $ 255 $ 255 $ -- $ --
======== ======== ======== ======== =========
Branch sale:
Bismarck........................... $ -- $ -- $ -- $ -- $ 7,543
Mandan............................. -- -- -- -- 1,447
-------- -------- -------- -------- ---------
Total branch loans sold........... $ -- $ -- $ -- $ -- $ 8,990
======== ======== ======== ======== =========
Loans sold:
Whole loans........................ $ 11,653 $ 5,369 $ 7,535 $ 40,041 $ 36,288
Participation loans................ 2,807 396 1,800 1,302 808
-------- -------- -------- -------- --------
Total loans sold.................. $ 14,460 $ 5,765 $ 9,335 $ 41,343 $ 37,096
======== ======== ======== ======== ========
Principal repayments............... $ 4,592 $ 4,193 $ 5,118 $ 6,403 $ 8,946
Decrease in other items, net....... 6 38 38 31 3,544
-------- -------- -------- -------- --------
Net increase (decrease) $ 8,384 $ 9,290 $ 13,051 $ (3,470) $(13,119)
======== ======== ======== ======== ========
43
Loan Underwriting Policies. The Bank's lending activities are subject to
the Bank's written, non-discriminatory underwriting standards and to loan
origination procedures prescribed by the Bank's Board of Directors and its
management. Detailed 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. Property valuations are performed by appraisers approved by the
Bank's Board of Directors. All single-family and multi-family residential
mortgage loans below $250,000 and commercial real estate loans below $100,000
may be approved by the Bank's Loan Committee, which consists of five senior
officers of the Bank. Single-family and multi-family residential mortgage loans
in excess of $250,000 and commercial real estate loans in excess of $100,000
must be approved by the full Board of Directors. Individual officers of the
Bank have been granted authority by the Board of Directors to approve consumer
loans up to varying specified dollar amounts, depending upon the type of loan.
It is the Bank's policy to record a lien on the real estate securing the
loan and to obtain a lawyer's opinion of title which insures that the property
is free of prior encumbrances. Borrowers must also obtain hazard insurance
policies prior to closing and, when the property is in a flood plain as
designated by the Department of Housing and Urban Development, paid flood
insurance policies. Most borrowers are also required to advance funds on a
monthly basis together with each payment of principal and interest to a mortgage
escrow account from which the Bank makes disbursements for items such as real
estate taxes.
Applications for fixed-rate, single-family real estate loans are
underwritten and closed in accordance with the standards of the entities from
which the Bank has commitments to purchase loans. Adjustable-rate loans
originated by the Bank for its portfolio are underwritten and closed based on
the Bank's own loan guidelines, which may exceed FHLMC and FNMA standards.
Fixed-rate, single-family real estate loans generally are sold to institutional
investors pursuant to pre-existing commitments. Residential and commercial
mortgage loans are required to have a lawyer's opinion of title or title
insurance and fire and extended coverage insurance.
Upon receipt of a loan application from a prospective borrower, a credit
report and verifications are ordered to verify specific information relating to
the loan applicant's employment, income and credit standing. An appraisal of
the real estate intended to secure the proposed loan is undertaken by an
appraiser approved by the Bank.
Federal regulations require that all appraisals performed in connection
with federally related transactions must be performed by state-certified or
state-licensed appraisers. Federally related transactions are defined to
include real estate-related financial transactions which the OTS regulates, and
would include mortgages made by the Bank. Appraisals by state-certified
appraisers will be required for all such transactions having a value of $1.0
million or more. The OTS is authorized to determine other circumstances in
which appraisals must be performed by state-certified appraisers. The OTS has
adopted regulations requiring that all real estate-related financial
transactions engaged in by savings associations having a transaction value of
$250,000 or more, other than those involving appraisals of one- to four-family
residential properties, require an appraisal performed by a state-certified
appraiser. One- to four-family residential property financing may require an
appraisal by a state-certified appraiser if the amount involved exceeds $1.0
million or the financing involves a "complex" one- to four-family property
appraisal. Exceptions are made for financings in which the transaction value is
$100,000 or less or when the lien is not necessary security. North Dakota and
Minnesota currently have a certification programs in effect. Management of the
Bank does not anticipate that these regulations will have a material effect on
its lending activities. It is the policy of the Bank that appraisals be
obtained in connection with all real estate loans.
The Bank is permitted to lend up to 100% of the appraised value of the real
property securing a mortgage loan. However, if the amount of a residential loan
originated or refinanced exceeds 90% of the appraised value, the Bank 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 Bank will make a single-family residential mortgage
loan with up to a 95% loan-to-value ratio if the required private mortgage
insurance is obtained. The Bank generally limits the loan-to-value ratio on
commercial real estate mortgage loans to 80%. The federal banking agencies,
including the OTS, have recently adopted regulations that would establish new
loan-to-value ratio requirements for specific categories of real estate loans.
44
Under the Financial Institution Reform, Recovery and Enforcement Act of
1989 ("FIRREA"), the Bank may not make loans to a single borrower aggregating in
excess of 15% of unimpaired capital and surplus. See "--Regulation -- Limits on
Loans to One Borrower." At March 31, 1996, the maximum amount the Bank was
permitted to lend to a single borrower was $1.2 million. At March 31, 1996, the
Bank had one lending relationship in excess of the loans-to-one-borrower limits
imposed by FIRREA, which lending relationship consisted of a loan concentration
of four loans aggregating $1.4 million. See "-- Asset Classification." All of
such loans were made prior to the effective date of FIRREA and did not involve
directors, officers or affiliates. These loans were placed on non-accrual
status as of March 31, 1996. These loans are secured by multi-family
residential real estate properties located in Fargo, North Dakota. Management
continues to closely monitor the performance of these loans and properties.
Interest rates charged by the Bank on loans are affected principally by
competitive factors, the demand for such loans and the supply of funds available
for lending purposes and, in the case of fixed-rate, single-family residential
loans, rates established by the investors to whom the Bank sells such loans.
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.
Single-Family Residential Real Estate Lending. The Bank historically has
been and continues to be an originator of single-family, residential real estate
loans in the Fargo-Moorhead market area. The Bank currently originates fixed-
rate, residential mortgage loans in accordance with underwriting guidelines of
one institutional investor with whom the Bank has a loan purchase agreement, and
adjustable-rate mortgage loans for terms of up to 30 years. At March 31, 1996,
single-family, residential mortgage loans, including FHA/VA loans and loans held
for sale but excluding construction loans and home equity loans, totalled $16.3
million, or 27.1%, of the Bank's gross loan portfolio, of which approximately
$12.9 million, or 21.4%, of the Bank's gross loan portfolio, carried adjustable
interest rates.
The Bank offers adjustable-rate residential mortgage loans with interest
rates which adjust annually based upon changes in an index based on either the
cost of funds for thrift institutions in the FHLB 11th District (the "11th
District Cost-of-Funds Index") or the weekly average yield on U.S. Treasury
securities adjusted to a constant comparable maturity of one year, as made
available by the Federal Reserve Board (the "Treasury Rate"), plus a margin of
2.75%. In prior years, the Bank offered adjustable-rate residential mortgage
loans with interest rates that adjust based upon changes in an index based on
the cost of funds for thrift institutions in the FHLB 8th District, and
management estimates that at June 30, 1995 approximately 10% of the Bank's loans
had adjustable rates tied to that index. The amount of any increase or decrease
in the interest rate presently is limited to two percentage points per year,
with a limit of six percentage points over the life of the loan. These
limitations may vary with market conditions. The Bank estimates that the
maximum rate to which the adjustable-rate mortgage loans currently held in
portfolio could adjust would not exceed 2% per annum as a result of current
contractual limits on annual rate increases. The adjustable-rate mortgage loans
offered by the Bank, as well as many other savings institutions, provide for
initial rates of interest below the rates which would prevail when the index
used for repricing is applied. However, the Bank underwrites the loan on the
basis of the borrower's ability to pay at the rate which would be in effect
without the discount.
The retention of adjustable-rate mortgage loans in the Bank's loan
portfolio helps reduce the Bank's exposure to changes in interest rates.
However, there are unquantifiable credit risks resulting from potential
increased costs to the borrower as a result of repricing of adjustable-rate
mortgage loans. It is possible that during periods of rising interest rates,
the risk of default on adjustable-rate mortgage loans may increase due to the
upward adjustment of interest cost to the borrower. Further, although
adjustable-rate mortgage loans allow the Bank to increase the sensitivity of its
asset base to changes in interest rates, the extent of this interest rate-
sensitivity is limited by the periodic and lifetime interest rate adjustment
limitations. Accordingly, there can be no assurance that yields on the Bank's
adjustable-rate mortgages will adjust sufficiently to compensate for increases
in the Bank's cost of funds.
45
Commercial Real Estate Lending. Excluding construction loans, the Bank
originated $1.9 million, $220,000, $295,000, $0 and $340,000 of commercial real
estate loans during the year ended June 30, 1993, 1994 and 1995 and the nine
months ended March 31, 1995 and 1996, respectively. Commercial real estate
loans have a maximum term of 25 years on new properties and 20 years on
properties that have existed for five years or more. Commercial real estate
loans generally are made with interest rates that adjust annually based upon
changes in the 11th District Cost-of-Funds Index, plus a negotiated margin. At
March 31, 1996, commercial real estate loans, excluding construction loans,
amounted to $8.3 million, or 13.8%, of the Bank's gross loan portfolio, as
compared to $7.8 million, or 15.0%, at June 30, 1995. The commercial real
estate loans originated in the past by the Bank have been generally made to
small businesses and have been primarily secured by retail stores, office
buildings, warehouses and other income-producing commercial property and range
in size from $22,000 to $700,000.
Commercial and multi-family real estate lending entails significant
additional risks as compared with single-family residential property lending.
Commercial and multi-family residential real estate loans typically involve
large loan balances to single borrowers or groups of related borrowers. The
payment experience on such loans typically is dependent on the successful
operation of the real estate project. These risks can be significantly impacted
by supply and demand conditions in the market for office and retail and
residential space, and, as such, may be subject to a greater extent to adverse
conditions in the economy generally. To minimize these risks, the Bank
generally limits itself to its market area or to borrowers with which it has
substantial experience or who are otherwise well known to the Bank. For loans
originated since 1991, it has been the Bank's policy to obtain annual financial
statements of the project for which commercial and multi-family residential real
estate loans are made. In addition, in the case of commercial mortgage loans
made to a partnership or a corporation, the Bank seeks, whenever possible, to
obtain personal guarantees and annual financial statements of the principals of
the partnership or corporation. The Bank inspects the properties securing
commercial real estate loans at least annually and also reviews all commercial
real estate loans in excess of $250,000 on an annual basis to ensure that each
loan meets current underwriting standards. In addition, the Bank underwrites
commercial real estate loans at a rate of interest significantly above that
carried on the loan at the time of origination to evaluate the borrower's
ability to meet principal and interest payments on the loan in the event of
upward adjustments to the interest rate on the loan.
The aggregate amount of loans which a federally chartered savings
association like the Bank may make on the security of liens on non-residential
real property may not exceed 400% of capital. The limits on non-residential
real property lending do not require divestiture of any loan or investment that
was lawful when made. Under this standard, at March 31, 1996, the Bank was
permitted to invest in non-residential real property loans in an aggregate
amount equal to $29.4 million. This restriction has not had a material impact on
the Bank's business.
Multi-Family Residential Real Estate Lending. In recent years, the Bank
has been active in the origination of loans secured by multi-family residential
real estate in the Fargo-Moorhead market area. At March 31, 1996, the Bank's
gross loan portfolio included approximately $27.3 million in loans secured by
multi-family properties. The Bank originated $1.4 million, $1.6 million, $3.3
million, $2.6 million and $5.3 million of multi-family residential real estate
loans during year ended June 30, 1993, 1994 and 1995 and for the nine months
ended March 31, 1995 and 1996, respectively. In recent periods, the Bank has
increased originations of multi-family residential real estate loans due to the
higher yield on such loans compared to yields on single-family residential loans
and the increased demand in its market area for multi-family residential real
estate loans. Pursuant to FIRREA, the Bank's loans-to-one-borrower limitation
is the greater of $500,000, or 15%, of unimpaired capital, which amounted to
$2.1 million at March 31, 1996. See "-- Regulation -- Loans-to-One-Borrower
Limitations." It is the Bank's current policy not to invest in individual
multi-family residential real estate loans in amounts greater than its loans-to-
one borrower limitations, although it may originate multi-family residential
real estate loans in excess of that amount where it has a commitment from one or
more third parties to purchase a participation in the loan so that the Bank's
investment in the loan will be reduced below its regulatory limit. Most of the
borrowers of multi-family residential mortgage loans have long-standing
relationships with the Bank and continue to utilize other services which the
Bank offers. To preserve these relationships, the Bank originates multi-family
residential mortgage loans to these customers and then sells loans or
participations in loans where the loan amount exceeds regulatory limitations and
to reduce its risk associated with any given loan. Multi-family residential
mortgage loans have a maximum term of 30 years on new
46
projects and up to 20 years on older projects. For information regarding risks
associated with multi-family residential real estate lending and policies and
procedures utilized by the Bank to mitigate such risk, see " -- Commercial Real
Estate Lending."
Construction Lending. Prior to the imposition of the Order, the
Supervisory Agreement and the Capital Directive, the Bank engaged in
construction lending to qualified borrowers for the construction of single-
family and multi-family residential properties and, on a limited basis, for the
construction of commercial properties. However, the Supervisory Agreement
significantly limited the Bank's ability to originate construction loans. As a
result, the Bank severely curtailed construction lending during the early 1990s.
All such supervisory actions were rescinded during June 1993, and the Bank has
resumed the origination of construction loans. During fiscal 1995, the Bank
significantly increased originations of loans for the construction of multi-
family residential real estate, originating $5.1 million of such loans for
retention in the Bank's loan portfolio during fiscal 1995, compared to $2.0
million in fiscal 1994.
Generally, loans for the construction of owner-occupied, single-family
residential properties are made for terms from six to nine months, during which
time the borrower is required to make monthly payments of accrued interest on
the outstanding loan balance. The interest rate on construction loans usually
does not adjust during the construction period. All construction loans are
secured by a first lien on the property under construction. These properties
primarily are located in the Bank's market area. Loan proceeds are disbursed in
increments as construction progresses and as inspections warrant. Construction
loans generally have a maximum loan-to-value ratio of 80%. Borrowers must
satisfy all credit requirements which would apply to the Bank's permanent
mortgage loan financing for the subject property. At March 31, 1996, the Bank's
gross loan portfolio included $2.5 million in construction loans, of which
$915,000, $1.4 million and $180,000 were for the construction of single-family
residential, multi-family residential and commercial real estate, respectively.
Construction of single-family dwellings include loans to local developers for
the building of single-family dwellings which may not be presold prior to
completion. In addition, the Bank makes construction loans to individuals for
the construction of their primary or secondary residences. Prior to approving a
loan for the construction of multi-family residential real estate, the Bank will
generally approve the permanent financing or in certain instances receive a
commitment from a lender to provide permanent financing once the construction is
completed.
Prior to making a commitment to fund a loan, the Bank requires both an
appraisal of the property by appraisers approved by the Board of Directors and a
study of the feasibility of the proposed project. The Bank uses appraisers
meeting federal and state certification standards on all of its commercial
construction loans. The Bank also reviews and inspects each project at the
commencement of construction and prior to every disbursement of funds during the
term of the construction loan.
Construction financing generally is considered to involve a higher degree
of risk of loss than long-term financing on improved, occupied real estate.
Risk of loss on a construction loan is dependent largely upon the accuracy of
the initial estimate of the property's value at completion of construction or
development and the estimated cost (including interest) of construction. During
the construction phase, a number of factors could result in delays and cost
overruns. If the estimate of construction costs proves to be inaccurate, the
Bank may be required to advance funds beyond the amount originally committed to
permit completion of the development. If the estimate of value proves to be
inaccurate, the Bank may be confronted, at or prior to the maturity of the loan,
with a project having a value which is insufficient to assure full repayment.
The ability of a developer to sell developed lots or completed dwelling units
will depend on, among other things, demand, pricing, availability of comparable
properties and economic conditions.
Commercial and Consumer Lending. The commercial and consumer loans
originated by the Bank include commercial leases, commercial loans, home equity
loans, automobile loans, loans secured by savings deposits and other consumer
loans. At March 31, 1996, commercial and consumer loans totalled $2.7 million,
or 4.5%, and $3.1 million, or 5.1%, of the Bank's gross loan portfolio,
respectively.
47
In order to provide diversification to the loan portfolio, the Bank has
actively originated commercial leases in recent periods as these types of loans
generally provide higher yields and shorter loan terms than real estate loans.
Under this program, the Bank finances the acquisition of equipment for a
borrower by acquiring the equipment and then leasing the equipment to the
borrower. The Bank owns the title to the equipment and records its ownership
interest by filing UCC Statements with the Secretary of State of the state in
which the property is located. In originating commercial leases, the Bank
reviews the borrower's financial statements, credit reports, tax returns and
other documentation. The Bank requires that the customer insure the equipment
and furnish proof of such insurance to the Bank on leases exceeding $5,000. In
addition, the Bank obtains insurance for uninsured losses to protect its
ownership interest in the equipment. Leases generally include an option for the
lessee to purchase the property at the end of the lease term. If the lessee
does not exercise the option or if no purchase option exists, the Bank is free
to dispose of the equipment at the completion of the lease. During the course
of the lease, the Bank writes down the value of the underlying equipment to the
estimated value of the equipment at the end of the lease. The Bank ceased
commercial leasing activities in 1990 pursuant to the Supervisory Agreement.
However, the Supervisory Agreement was rescinded in June 1993 and the Bank has
resumed commercial leasing. At March 31, 1996, commercial leases amounted to
$2.6 million, or 4.3%, of the Bank's gross loan portfolio.
Home equity loans are generally made on the security of residences,
normally do not exceed 90% of the appraised value of the residence, less the
outstanding principal of the first mortgage, and have terms of up to five years.
The Bank's home equity loans require the payment of interest only until maturity
when unpaid principal is due. Home equity loans are made on an adjustable-rate
basis at a rate which generally is equal to the Treasury Rate plus a margin of
between 3.5% and 5%. At March 31, 1996, total outstanding home equity loans
amounted to $1.8 million, or 3.0%, of the Bank's gross loan portfolio.
Automobile loans are secured by both new and late-model used cars and,
depending on the credit-worthiness of the borrower, may be made for up to 100%
of the "sticker price" or purchase price, whichever is lower, or the loan value
as published by the National Automobile Dealers Association. Automobile loans
are only made to the borrower-owner on a direct basis. New cars are financed
for a period of up to 60 months, while used cars are financed for 48 months or
less. Collision insurance is required for all automobile loans.
The Bank makes savings account loans for up to 90% of the depositor's
savings account balance. The interest rate is normally two percentage points
above the rate paid on the savings account, and the account must be pledged as
collateral to secure the loan. Savings account loans are payable on demand.
Interest is billed on a monthly or quarterly basis. At March 31, 1996, total
loans on savings accounts was $106,000, or 0.2%, of the Bank's gross loan
portfolio.
Commercial and consumer loans entail greater risk than do residential
mortgage loans, because they are unsecured or secured by rapidly depreciable
assets such as automobiles or computer equipment. In such cases, any
repossessed collateral for a defaulted commercial or consumer loan may not
provide an adequate source of repayment of the outstanding loan balance as a
result of the greater likelihood of damage, loss or depreciation. The remaining
deficiency often does not warrant further substantial collection efforts against
the borrower. In addition, consumer loan collections are dependent on the
borrower's continuing financial stability, and thus are more likely to be
adversely affected by job loss, divorce, illness or personal bankruptcy.
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. Such loans may also give rise to claims and
defenses by a consumer loan borrower against an assignee of such loans such as
the Bank, and a borrower may be able to assert against such assignee claims and
defenses which it has against the seller of the underlying collateral. The
risks associated with commercial and consumer loans are minimized due to the
relatively small amount of these types of loans originated by the Bank.
In underwriting commercial and consumer loans, the Bank places primary
emphasis on the borrower's credit history and an analysis of the borrower's
income and expenses, perceived ability to repay the loan and the value of the
collateral, if any. The Bank's policy is generally to fully provide for losses
in commercial and consumer loans not secured by real property at such time as
the loan becomes greater than 90 days delinquent.
48
Loan Fees and Servicing. In addition to interest earned on loans, the Bank
receives fees in connection with loan commitments and originations, loan
modifications, late payments and changes of property ownership and for
miscellaneous services related to its loans. Loan origination fees are
calculated as a percentage of the loan principal. The Bank typically receives
fees of up to 2 points (one point being equivalent to 1% of the principal amount
of the loan) in connection with the origination of fixed-rate and adjustable-
rate residential mortgage loans. Loan origination fees relating to loans held
in portfolio are deferred and accreted into income over the estimated life of
the loan using the interest method. If a loan is prepaid, refinanced or sold,
all remaining deferred fees with respect to such loan are taken into income at
such time. In regards to loans held for sale, net fees and costs associated
with originating and acquiring loans held for sale are recognized as a portion
of gain on sales when the loans are sold. See Note 1 of Notes to Consolidated
Financial Statements for additional information regarding significant accounting
policies.
In addition to the foregoing fees, the Bank receives fees for servicing
fixed-rate, single-family mortgage loans which have been sold to the NDHFA and
for servicing adjustable-rate mortgage loans, such as larger, multi-family
residential mortgage loans, where, it has sold participation interests to other
lenders. Servicing activities include the collection and processing of mortgage
payments, accounting for loan funds and paying real estate taxes, hazard
insurance and other loan-related expenses out of escrowed funds. As
compensation for these services, the Bank is generally permitted to retain a
portion of the monthly payment. Loan servicing fees have not been a significant
source of income for the Bank. At March 31, 1996, the Bank was servicing
approximately $20.7 million in 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 on
prevailing mortgage interest rates and their effect on the demand for loans in
the Bank's market area.
Non-Performing Loans and Other Problem Assets. It is management's policy
to continually monitor its loan portfolio to anticipate and address potential
and actual delinquencies. When a borrower fails to make a payment on a loan,
the Bank takes immediate steps to have the delinquency cured and the loan
restored to current status. Loans which are delinquent 15 days incur a late fee
of 4% of principal and interest due. As a matter of policy, the Bank will
contact the borrower after the loan has been delinquent 15 days. If payment is
not promptly received, the borrower is contacted again, and efforts are made to
formulate an affirmative plan to cure the delinquency. If a delinquency exceeds
60-90 days, depending on the age of the loan, in the case of a residential
mortgage loan, 30 days in the case of a construction loan or 30-60 days for a
loan on commercial and multi-family residential real estate, the Bank will
institute additional measures to enforce its remedies resulting from the loan's
default, including, commencing foreclosure action. Generally, after any loan is
delinquent 90 days or more, formal legal proceedings are commenced to collect
amounts owed.
After residential mortgage loans become past due more than 90 days, the
Bank generally establishes an allowance in the amount of uncollected interest.
Commercial and multi-family residential real estate loans generally are placed
on non-accrual status if the loan becomes past due more than 90 days, or
management concludes that payment in full is not likely. Commercial and
consumer loans are generally charged off, or any expected loss is reserved for,
after they become more than 90 days past due. Loans are charged off when
management concludes that they are uncollectible. See Note 1 of the Notes to
Consolidated Financial Statements for additional information regarding
significant accounting policies.
Real estate acquired by the Bank as a result of foreclosure is classified
as real estate acquired through foreclosure until such time as it is sold. When
such property is acquired, it is recorded at the lower of cost or its fair value
less estimated selling costs. Any required write-down of the loan to its fair
value less estimated selling costs upon foreclosure is charged against the
allowance for loan losses. See Note 1 of the Notes to Consolidated Financial
Statements for additional information regarding significant accounting policies.
49
The following table sets forth information with respect to the Bank's non-
accruing loans, accruing loans 90 days or more past due, restructured loans
within the meaning of SFAS No. 15 and foreclosed assets at the dates indicated.
At
March 31, At June 30,
----------------------
1996 1995 1994 1993
---------- ------ ------ ------
(Dollars in thousands)
Loans accounted for on a
non-accrual basis: (1)
Single-family residential............. $ -- $ -- $ 10 $ 102
Multi-family residential.............. 1,354 -- -- --
Commercial real estate................ 36 36 -- 481
------ ----- ----- -----
Total................................ $1,390 $ 36 $ 10 $ 583
====== ===== ===== =====
Accruing loans which are contractually
past due 90 days or more:
Single-family residential.............. $ -- $ -- $ -- $ 34
Commercial and consumer................ 2 -- 5 40
------ ----- ----- -----
Total................................ $ 2 $ -- $ 5 $ 74
====== ===== ===== =====
Total of non-accrual and 90
days past due loans................. $1,392 $ 36 $ 15 $ 657
====== ===== ===== =====
Percentage of gross loans............... 2.31% 0.07% 0.04% 1.56%
====== ===== ===== =====
Other non-performing assets (2)......... $ 63 $ 87 $ 201 $ 532
====== ===== ===== =====
Loans modified in troubled debt
restructuring.......................... $ 510 $ 514 $ 518 $ 516
====== ===== ===== =====
__________________
(1) Non-accrual status denotes loans on which, in the opinion of management,
the collection of additional interest is unlikely. Payments received on a
non-accrual loan are either applied to the outstanding principal balance or
recorded as interest income, depending on assessment of the collectibility
of the loan.
(2) Other non-performing assets includes property acquired by the Bank through
foreclosure or repossession. This property is carried at the lower of its
fair value less estimated selling costs or the principal balance of the
related loan, whichever is lower. Other non-performing assets also
includes real estate developed and held for sale.
Generally, it is the Bank's policy to discontinue the accrual of interest
income when loans become more than 90 days past due with respect to either
principal or interest unless such loans are adequately secured and in the
process of collection.
At March 31, 1996, the Bank had one troubled debt restructured loan of
$510,000. The restructured loan represents a participation interest purchased
by the Bank in January 1987 on a $1.5 million loan, secured by a strip shopping
center in Minot, North Dakota. Subsequently, the lead lender was taken over by
the Resolution Trust Corporation ("RTC"). The property had been fully leased
and the borrower had continued to make all payments of principal and interest
due on the loan. However, in May 1991, when the full amount of principal became
due on the loan, the borrower requested that the loan be renewed. The RTC
declined to extend or refinance the loan. As a result, the owner filed for
bankruptcy in December 1991. From November 1992 through June 1994, the borrower
made full payments due on the loan, which payments were held in escrow by the
bankruptcy court. In June 1994, the borrower and the lenders, which consist of
the Bank, another financial institution and the RTC, reached an agreement to
refinance the loan. The amount of the loan was the remaining balance of the
previous loan plus interest owed but not paid on the previous loan through
November 1992. The property securing the loan continues to be leased, and the
Bank believes that the cash flow will be sufficient to cover debt service. The
property securing the
50
loan was appraised at $2.4 million in July 1991. Subsequent to 1995 fiscal year
end, the servicer of the restructured loan notified the Bank that the real
estate taxes for the property securing the loan had become delinquent.
Management has reviewed its restructured loan and believes that the reserves
provided for restructured loans are adequate. During fiscal 1995, interest of
$49,300 was recognized based on the contractual terms of the restructured loan
which were assumed to be at market terms at the time of restructuring.
At March 31, 1996, non-accruing loans consisted of multi-family residential
and commercial real estate loans totalling $1.4 million. Non-accruing loans at
March 31, 1996 primarily consisted of a loan concentration of four loans
aggregating $1.4 million. The loans were secured by multi-family residential
real estate located in Fargo, North Dakota. Management continues to closely
monitor the performance of these loans and properties. Had all non-accruing
loans performed in accordance with their original terms throughout the nine
months ended March 31, 1996 and the year ended June 30, 1995, the Bank would
have recorded gross interest income of $85,000 and $4,000, respectively, for
these loans. Interest income of $35,000 and $2,000 was recorded on these loans
for the nine months ended March 31, 1996 and the year ended June 30, 1995,
respectively.
Real estate acquired by the Bank as a result of foreclosure is classified
as real estate owned until such time as it is sold. When such property is
acquired, it is recorded at the lower of the unpaid principal balance or its
fair value less estimated selling costs. Any required write-down of the loan to
its fair value less estimated selling costs upon foreclosure is charged against
the allowance for loan losses. At March 31, 1996, the Bank held no real estate
as a result of foreclosure.
At March 31, 1996, other non-performing assets also included real estate
developed and held for sale aggregating $63,000. Real estate developed and held
for sale consists of vacant land in West Fargo, North Dakota which the Bank
acquired through deed in lieu of foreclosure in 1986. Since that time, the Bank
has sold several parcels of land, and the remainder of the land was carried on
the Bank's books at March 31, 1996 at $63,000. The Bank has established a
specific reserve in connection with this land of $22,000. The Bank has listed
the property for sale and currently is negotiating agreements to sell
significant portions of its investment in this property.
At March 31, 1996, there were $424,000 of loans which were not classified
as non-accrual, 90 days past due or restructured but where known information
about possible credit problems of borrowers caused management to have serious
concerns as to the ability of the borrowers to comply with present loan
repayment terms and may result in disclosure as nonaccrual, 90 days past due or
restructured.
Asset Classification. Federal regulations require savings associations to
review their assets on a regular basis and to classify them as "substandard,"
"doubtful" or "loss," if warranted. Assets classified as substandard or
doubtful require the institution to establish general loss allowances. If an
asset or portion thereof is classified loss, the institution must either
establish specific loss allowances in the amount of 100% of the portion of the
asset classified loss, or charge off such amount. An asset which does not
currently warrant classification but which possesses weaknesses or deficiencies
deserving close attention is required to be designated as "special mention."
OTS examiners may disagree with the institution's classifications and amounts
reserved. If an institution does not agree with an examiner's classification of
an asset, it may appeal this determination to the OTS.
The Bank has determined that at March 31, 1996 it had $2.4 million in
classified assets, which consisted of $214,000 in assets classified as special
mention, $2.2 million in assets classified as substandard and $22,000 in assets
classified as loss. Substandard assets included a $1.4 million loan
concentration secured by four multi-family residential real estate properties
located in Fargo, North Dakota, which was on non-accrued status at March 31,
1996 and is described above, a $510,000 commercial real estate loan secured by a
strip shopping center in Minot, North Dakota and is described above, $41,000 in
real estate held for development and sale, net of reserves and a package of
individual commercial leases aggregating $210,000. On March 29, 1996, the
parent company of the servicer of such leases filed Voluntary Petition under
Chapter 11 of the Bankruptcy Code preventing any and all efforts to
51
collect on a pre-petition debt. The federal Securities and Exchange Commission
has filed a civil lawsuit based on allegations that the parent company sold
fictitious office equipment leases and sold rights to actual leases more than
once. The Company is currently investigating various alternatives to protect
its interest in such leases, including the request that the servicing be
transferred to the Company. Management currently believes its assets are
appropriately secured based on discussions with the operators of the leased
equipment and at this time is unaware of any other entity having a secured
interest in the same leases the Company holds. The Company continues to closely
monitor such leases, and as more information becomes available, a more accurate
assessment of a loss, if any, will be determined.
Allowance for Loan Losses. In originating loans, the Bank recognizes that
credit losses will be experienced and that the risk of loss will vary with,
among other things, the type of loan being made, the creditworthiness of the
borrower over the term of the loan, general economic conditions and, in the case
of a secured loan, the quality of the security for the loan. It is management's
policy to maintain an adequate allowance for loan losses based on, among other
things, the Bank's and the industry's historical loan loss experience,
evaluation of economic conditions, regular reviews of delinquencies and loan
portfolio quality and evolving standards imposed by federal bank examiners. The
Bank increases its allowance for loan losses by charging provisions for possible
loan losses against the Bank's income.
The Bank's methodology for establishing the allowance for loan losses takes
into consideration probable losses that have been identified in connection with
specific loans as well as losses in the loan portfolio that have not been
identified but can be expected to occur. Management conducts monthly reviews of
the loan portfolio and evaluates the need to establish general allowances on the
basis of this review. As part of its review, management grades loans for which
collection in full may not be reasonably assured using a classification system
similar to that employed by OTS examiners. Loans subject to grading include
delinquent loans and any loans that have been placed on a watch list. The Bank
establishes general and specific allowances in connection with all anticipated
losses in its loan portfolio. At the date of foreclosure, the Bank transfers
the property to real estate acquired through foreclosure at the lower of cost or
fair value less estimated selling costs. Any amount of cost in excess of fair
value less estimated selling costs is charged-off against the allowance for loan
losses. The Bank does not record partial charge-offs on individual loans. If,
upon ultimate disposition of the property, net sales proceeds exceeded the net
carrying value of the property, a gain on sale of real estate is recorded. Any
realized losses on sale are charged to income.
General allowances are recommended by management and reviewed and approved
by the Board of Directors on at least a quarterly basis based on an assessment
of risk in the Bank's loan portfolio as a whole taking into consideration the
composition and quality of the portfolio, delinquency trends, current charge-off
and loss experience, the state of the real estate market and economic conditions
generally. Additional provisions for losses on loans are made in order to bring
the allowance to a level deemed adequate.
Management continues to actively monitor the Bank's asset quality and to
charge off loans against the allowance for loan losses when appropriate.
Although management believes it uses the best information available to make
determinations with respect to the allowance for loan losses, future adjustments
may be necessary if economic conditions differ substantially from the economic
conditions in the assumptions used in making the initial determinations. In
addition, there can be no assurance that regulators, in reviewing the Bank's
loan portfolio, will not request the Bank to significantly increase its
allowance for loan losses, thereby negatively affecting the Bank's financial
condition and earnings.
52
The following table sets forth an analysis of the Bank's allowance for loan
losses for the periods indicated.
Nine Months Ended
March 31, Year Ended June 30,
-------------------------- -------------------------------
1996 1995 1995 1994 1993
-------- ------- ------ ------ ------
(In thousands)
Balance at beginning of period........ $ 850 $ 851 $ 851 $ 850 $ 864
--------- --------- ----- ----- -----
Loans charged off:
Real estate -- mortgage:
Residential......................... (6) -- -- (12) --
Commercial.......................... -- -- -- (2) (16)
Consumer............................. (1) (3) (3) -- --
--------- --------- ----- ----- -----
Total charge-offs..................... (7) (3) (3) (14) (16)
--------- --------- ----- ----- -----
Recoveries:
Commercial........................... 2 1 2 3 2
--------- --------- ----- ----- -----
Total recoveries.................... 2 1 2 3 2
--------- --------- ----- ----- -----
Net loans recoveries (charge-offs).... (5) (2) (1) (11) (14)
--------- --------- ----- ----- -----
Provision for loan losses............. -- -- -- 12 --
--------- --------- ----- ----- -----
Balance at end of period.............. $ 845 $ 849 $ 850 $ 851 $ 850
========= ========= ===== ===== =====
Allowance for loan losses to
gross loans at period end............ 1.40% 1.77% 1.64% 2.20% 2.01%
========= ========= ===== ===== =====
Ratio of net charge-offs to average
loans outstanding during the period.. 0.01% (1) 0.01% (1) 0.01% 0.03% 0.03%
========= ========= ===== ===== =====
____________________
(1) Annualized.
The allowance for loan losses is maintained at an amount considered
adequate to provide for potential losses. The provision for loan losses is based
on management's periodic analysis of the loan portfolio. In this analysis,
management considers factors including, but not limited to, general economic
conditions, loan portfolio composition, appraisals of collateral, the level of
non-performing assets and historical experience. Loans are charged off to the
extent they are deemed to be uncollectible. During the years ended June 30,
1993, 1994, 1995 and the nine months ended March 31, 1995 and 1996, the Company
recognized net charge-offs of $14,000, $11,000, $1,000, $2,000 and $5,000,
respectively. In addition, during the years ended June 30, 1993, 1994, 1995 and
the nine months ended March 31, 1996, non-performing loans totaled $583,000,
$10,000, $36,000 and $1.4 million. As a result of the low level of loan charge-
offs and non-performing loans as to which the Company has concerns regarding the
value of the collateral securing the loan and the factors noted above, the
Company's provision for loan losses was $12,000 for the year ended June 30, 1994
and $0 for the years ended June 30, 1993 and 1995 and the nine months ended
March 31, 1996 and 1995. As mentioned above, management considers the level of
non-performing assets in determining the Company's provision for loan losses.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Financial Review -- Loans Receivable" and "Northwestern Financial
Corp. -- Lending Activities -- Non-Performing Loans and Other Problem Assets"
for further information regarding credit concerns associated with non-performing
assets at March 31, 1996.
53
The following table allocates the allowance for loan losses by loan
category at the dates indicated. The allocation of the allowance to each
category is not necessarily indicative of future losses and does not restrict
the use of the allowance to absorb losses in any category..
At June 30,
--------------------------------------------------------------------
At March 31, 1996 1995 1994 1993
--------------------- -------------------- --------------------- ---------------------
Percent of Percent of Percent of Percent of
Loans in Each Loans in Each Loans in Each Loans in Each
Category to Category to Category to Category to
Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans
------ ----------- ------ ----------- ------ ----------- ------ -----------
(Dollars in thousands)
Real estate - mortgage:
Single-family residential........ $ 41 27.09% $ 41 31.05% $ 180 33.64% $ 284 38.41%
Commercial....................... 141 13.81 138 14.99 187 21.73 207 22.56
Multi-family residential......... 265 45.35 149 33.49 313 36.38 297 32.39
Real estate - construction........ 21 4.14 63 12.21 16 1.88 25 2.77
Commercial........................ 71 4.49 39 3.78 19 2.15 10 1.11
Consumer.......................... 33 5.12 27 4.48 36 4.22 27 2.76
Unallocated....................... 273 -- 393 -- 100 -- -- --
------ ------ ------ ------ ------ ------ ------ ------
Total allowance for loan losses... $ 845 100.00% $ 850 100.00% $ 851 100.00% $ 850 100.00%
====== ====== ====== ====== ====== ====== ====== ======
54
Real estate acquired through foreclosure is initially recorded at the lower
of cost (net loan receivable balance at date of foreclosure) or fair value less
estimated selling costs. Fair value is defined as the amount in cash or cash-
equivalent value of other consideration that a real estate parcel would yield in
a current sale between a willing buyer and a willing seller. Fair value is
measured by market transactions. If a market does not exist, fair value of the
item is estimated based on selling prices of similar items in active markets or,
if there are no active markets for similar items, by discounting a forecast of
expected cash flows at a rate commensurate with the risk involved. Fair value is
generally determined through independent appraisal at the time of foreclosure.
Subsequent to foreclosure, if the fair value of an asset minus the estimated
costs to sell should decline to less than the carrying amount of the asset, the
deficiency is recognized through the allowance for real estate losses.
MORTGAGE-BACKED SECURITIES HELD TO MATURITY
The Bank maintains a portfolio of mortgage-backed securities held to
maturity in the form of GNMA and FHLMC participation certificates, which are
guaranteed as to principal and interest. Mortgage-backed securities generally
entitle the Bank to receive a pro rata portion of the cash flows from an
identified pool of mortgages. Although mortgage-backed securities yield from 30
to 100 basis points less than the loans which are exchanged for such securities,
they present substantially lower credit risk and may be used to collateralize
obligations of the Bank.
At June 30, 1993, 1994 and 1995 and March 31, 1996, the Bank held mortgage-
backed securities held to maturity totalling $836,000, $380,000, $2.1 million
and $877,000, respectively. At March 31, 1996, the Bank's mortgage-backed
securities held to maturity had an amortized cost of $877,000, an approximate
market value of $898,000 and a weighted average yield of 7.20%. See Note 1 of
Notes to Consolidated Financial Statements for additional information regarding
significant accounting policies.
SECURITIES AVAILABLE FOR SALE
The Bank maintains a portfolio of securities available for sale. At March
31, 1996, securities available for sale totaled $3.6 million and consisted of
U.S. Government agency obligations and mortgage-backed securities in the form of
GNMA, FHLMC and FNMA participation certificates. Such securities are carried at
fair value with the unrealized gains or losses, net of deferred income taxes,
reported as a separate component of stockholders' equity. At March 31, 1996, the
Company's pre-tax net unrealized gain on securities available for sale totaled
$15,000, of which $25,000 represented a net unrealized gain on mortgage-backed
securities available for sale, partially offset by a $10,000 net unrealized loss
on investment securities available for sale. See Note 1 of Notes to Consolidated
Financial Statements for additional information regarding significant accounting
policies.
INVESTMENTS HELD TO MATURITY AND OTHER INVESTMENTS
The Bank is permitted under federal law to make certain investments,
including investments in securities issued by various federal agencies and state
and municipal governments, deposits at the FHLB of Des Moines, certificates of
deposits in federally insured institutions, certain bankers' acceptances and
federal funds. It may also invest, subject to certain limitations, in commercial
paper having one of the two highest investment ratings of a nationally
recognized credit rating agency, and certain other types of corporate debt
securities and mutual funds.
Federal regulations require the Bank to maintain an investment in FHLB
stock and a minimum amount of liquid assets which may be invested in cash and
specified securities. From time to time, the OTS adjusts the percentage of
liquid assets which savings and loan associations are required to maintain.
The Bank's investment policy currently allows for investment in various
types of liquid assets, including United States Government and agency
securities, time deposits at the FHLB of Des Moines, certificates of deposit or
bankers' acceptances at other federally insured depository institutions and
mortgage-backed securities. The general objective of the Company's investment
policy is to maximize returns without compromising liquidity or creating
55
undue credit or interest rate risk. See Note 1 of Notes to Consolidated
Financial Statements for additional information regarding significant accounting
policies.
The Bank is required to maintain average daily balances of liquid assets
(cash, deposits maintained pursuant to Federal Reserve Board requirements, time
and savings deposits in certain institutions, obligations of state and political
subdivisions thereof, shares in mutual funds with certain restricted investment
policies, highly rated corporate debt, and mortgage loans and mortgage-backed
securities with less than one year to maturity or subject to repurchase within
one year) equal to a monthly average of not less than a specified percentage
(currently 5%) of its net withdrawable savings deposits plus short-term
borrowings. Savings associations are also required to maintain average daily
balances of short-term liquid assets at a specified percentage (currently 1%) of
the total of their net withdrawable savings accounts and borrowings payable in
one year or less. Monetary penalties may be imposed for failure to meet
liquidity requirements. The Bank has maintained average monthly liquidity ratios
in excess of these requirements.
The following table sets forth the carrying value of the Company's
investment portfolio at the dates indicated.
At
March 31, At June 30,
---------------------------------
1996 1995 1994 1993
-------- ------ ------ ------
(In thousands)
Investment securities held to maturity:
U.S. government and agency securities........... $ -- $ 7,122 $ 6,116 $ --
Commercial paper and bankers' acceptances....... -- -- 2,864 --
Mutual funds.................................... -- -- -- 5,500
Other (1)....................................... 476 480 490 490
------- ------- -------- ------
Total investment securities held to maturity.. 476 7,602 9,470 5,990
Investment securities available for sale:
U.S. government and agency securities.......... 1,941 -- -- --
Interest-bearing deposits with banks............. 1,050 991 3,441 1,048
FHLB stock....................................... 645 632 787 787
------- ------- -------- ------
Total........................................ $ 4,112 $ 9,225 $ 13,698 $ 7,825
======= ======= ======== =======
- --------------------
(1) Primarily consists of a Jamestown Multifamily Housing Refunding Revenue
Bond issued by First Trust National Association, First Trust Group, St.
Paul, Minnesota, with a book value and market value of $425,000 at March
31, 1996.
56
The following table sets forth the scheduled maturities, carrying values,
fair values and average yields for the Company's investment portfolio at June
30, 1995.
At June 30, 1995
----------------------------------------------------------------------------------
One Year or Less One to Five Years Five to Ten Years More than Ten Years
------------------ ------------------ ------------------ --------------------
Carrying Average Carrying Average Carrying Average Carrying Average
Value Yield Value Yield Value Yield Value Yield
-------- -------- -------- -------- -------- -------- -------- --------
(Dollars in thousands)
Investment securities held
to maturity:
U.S. government and
agency securities..... $4,690 5.04% $2,432 6.10% $ -- --% $ -- --%
Industrial revenue bond.. -- -- -- -- -- -- 470 9.75
Other.................... 10 6.00 -- -- -- -- -- --
Interest-bearing deposits
with banks.............. 991 5.62 -- -- -- -- -- --
FHLB stock (1)............. -- -- -- -- -- -- 632 7.00
------ ---- -------- ------- -------- ------- -------- -------
Total................. $5,691 5.14 $2,432 6.10 $ -- -- $1,102 8.17
====== ======== ======== ========
At June 30, 1995
--------------------------
Total Investment Portfolio
--------------------------
Carrying Fair Average
Value Value Yield
-------- ------ --------
Investment securities held
to maturity:
U.S. government and
agency securities..... $7,122 $7,102 5.40%
Industrial revenue bond.. 470 470 9.75
Other.................... 10 10 6.00
Interest-bearing deposits
with banks.............. 991 991 5.62
FHLB stock (1)............. 632 632 7.00
------ ------ ----
Total................. $9,225 $9,205 5.76
====== ======
__________________
(1) These securities have no stated maturity.
57
DEPOSIT ACTIVITY AND OTHER SOURCES OF FUNDS
General. Deposits are the primary source of the Bank's funds for lending,
investment activities and general operational purposes. In addition to deposits,
the Bank derives funds from loan principal and interest repayments, maturities
of investment securities and interest payments thereon. Although loan repayments
are a relatively stable source of funds, deposit inflows and outflows are
significantly influenced by general interest rates and money market conditions.
Borrowings may be used on a short-term basis to compensate for reductions in the
availability of funds, or on a longer term basis for general operational
purposes.
Deposits. The Bank attracts deposits principally from within its primary
market area by offering a variety of deposit instruments, including checking
accounts, money market accounts, regular savings accounts, retirement savings
plans, and certificates of deposit which range in maturity from three months to
four years. Deposit terms vary according to the minimum balance required, the
length of time the funds must remain on deposit and the interest rate.
Maturities, terms, service fees and withdrawal penalties for its deposit
accounts are established by the Bank on a periodic basis. The Bank generally
reviews its deposit mix and pricing on a weekly basis. In determining the
characteristics of its deposit accounts, the Bank considers the rates offered by
competing institutions, funds acquisition and liquidity requirements, growth
goals, and federal regulations. The Bank does not accept brokered deposits.
The Bank competes for deposits with other institutions in its market areas
by offering deposit instruments that are competitively priced and by providing
customer service through convenient and attractive offices, knowledgeable and
efficient staff and hours of service that meet customers' needs. Substantially
all of the Bank's depositors are North Dakota or Minnesota residents. To provide
additional convenience, the Bank participates in the Instant Cash Automatic
Teller Machine network at locations throughout the upper Midwest, through which
customers can gain access to their accounts at any time.
58
The following table sets forth the dollar amount of deposits in the various
types of deposit programs offered by the Bank at the dates indicated.
At March 31,
------------------------------------- -----------------------------------
1996 1995
------------------------------------- -----------------------------------
Weighted Weighted
Average Percent Average Percent
Rate Amount of Total Rate Amount of Total
-------- ------ -------- ------- ------ --------
(Dollars in thousands)
NOW:
Noninterest-bearing...... --% $ 924 1.8% --% $ 1,100 2.2%
Interest bearing......... 2.58 3,081 5.8 2.47 2,981 6.0
------- ----- ------- -----
Total.................. 1.98 4,005 7.6 1.81 4,081 8.2
Passbook and statement..... 2.25 5,215 9.9 2.25 5,135 10.4
Certificate accounts:
3.01% to 4.00%........... -- --
4.01% to 5.00%........... 6,259 3,665
5.01% to 6.00%........... 25,067 12,441
6.01% to 7.00%........... 8,369 19,671
7.01% to 8.00%........... 3,837 4,577
8.01% to 9.00%........... -- --
9.01% to 10.00%.......... -- --
------- -------
Total.................. 5.87 43,532 82.5 6.27 40,354 81.4
------- ----- ------- -----
Total................ 5.22 $52,752 100.0% 5.49 $49,570 100.0%
======= ===== ======= =====
At June 30,
----------------------------------------------------------------------------------
1994 1993
------------------------------------- ---------------------------------------
Weighted Weighted
Average Percent Average Percent
Rate Amount of Total Rate Amount of Total
-------- ------ -------- -------- ------ --------
NOW:
Noninterest-bearing...... --% $ 513 1.1% --% $ 343 0.7%
Interest bearing......... 2.61 3,548 8.1 2.79 3,870 8.4
------- ----- ------- -----
Total.................. 2.28 4,061 9.2 2.56 4,213 9.1
Passbook and statement..... 2.10 6,471 14.7 2.50 6,573 14.2
Certificate accounts:
3.01% to 4.00%........... 13,666 14,150
4.01% to 5.00%........... 13,279 10,769
5.01% to 6.00%........... 2,878 4,244
6.01% to 7.00%........... 1,522 2,937
7.01% to 8.00%........... 1,498 2,630
8.01% to 9.00%........... 506 732
9.01% to 10.00%.......... 100 100
------- -------
Total.................. 4.57 33,449 76.1 4.82 35,562 76.7
------- ----- ------- -----
Total................ 4.00 $43,981 100.0% 4.29 $46,348 100.0%
======= ===== ======= =====
59
The following table sets forth the change in dollar amount of deposits in the
various types of accounts offered by the Bank between the dates indicated.
Increase
Balance (Decrease) Balance at
at March % of from June June 30, % of
31, 1996 Deposits 30, 1995 1995 Deposits
--------- -------- --------- ------- --------
NOW accounts............... $ 1,064 2.02% $ (139) $ 1,203 2.43%
Money market accounts...... 2,017 3.82 239 1,778 3.59
Demand deposit accounts
(noninterest-bearing)..... 924 1.75 (176) 1,100 2.22
Jumbo certificates and
public funds.............. 3,565 6.76 22 3,543 7.15
Passbook and statement..... 5,215 9.89 80 5,135 10.36
Certificate accounts....... 35,354 67.02 2,997 32,357 65.27
IRA and Keogh accounts..... 4,613 8.74 159 4,454 8.98
--------- ------ --------- ------- ------
Total.................... $ 52,752 100.00% $ 3,182 $49,570 100.00%
========= ====== ========= ======= ======
Increase Increase
(Decrease) Balance at (Decrease) Balance at
from June June 30, % of from June June 30, % of
30, 1994 1994 Deposits 30, 1993 1993 Deposits
--------- ---------- -------- --------- ---------- --------
(Dollars in thousands)
NOW accounts............... $ 100 $ 1,103 2.51% $ (130) $ 1,233 2.66%
Money market accounts...... (667) 2,445 5.56 (192) 2,637 5.69
Demand deposit accounts
(noninterest-bearing)..... 587 513 1.16 170 343 0.74
Jumbo certificates and
public funds.............. 1,271 2,272 5.17 (620) 2,892 6.24
Passbook and statement..... (1,336) 6,471 14.71 (102) 6,573 14.18
Certificate accounts....... 4,923 27,434 62.38 (1,370) 28,804 62.15
IRA and Keogh accounts..... 711 3,734 8.51 (123) 3,866 8.34
-------- --------- ------ --------- --------- ------
Total................... $ 5,589 $ 43,981 100.00% $ (2,367) $ 46,348 100.00%
======== ========= ====== ========= ========= ======
The following tables set forth the average balances and interest rates
for certificates of deposit and non-certificate accounts as of the
dates indicated.
Nine Months Ended March 31,
---------------------------------------------------------------------------- ------------
1996 1995
------------------------------------- ------------------------------------ ------------
Interest- Noninterest- Certif- Interest- Noninterest- Certif- Interest-
Bearing Bearing icates Bearing Bearing icates Bearing
Transaction Demand of Transaction Demand of Transaction
Accounts Deposits Deposit Accounts Deposits Deposit Accounts
------------ ------------- -------- ------------ ------------- -------- ------------
(Dollars in thousands)
Average balance............ $8,009 $1,038 $41,864 $9,632 $696 $34,385 $9,305
Average rate............... 2.38% --% 6.13% 2.32% --% 5.23% 2.32%
Year Ended June 30,
---------------------------------------------------------------------------------------------------------
1995 1994 1993
------------------------- -------------------------------------- ---------------------------------------
Noninterest- Certif- Interest- Noninterest- Certif- Interest- Noninterest- Certif-
Bearing icates Bearing Bearing icates Bearing Bearing icates
Demand of Transaction Demand of Transaction Demand of
Deposits Deposits Accounts Deposits Deposits Accounts Deposits Deposits
------------- --------- ------------ ------------- --------- ------------ ------------- ---------
Average balance........... $786 $35,550 $10,295 $458 $34,493 $13,861 $ 486 $45,268
Average rate.............. --% 5.50% 2.44% --% 4.59% 3.22% --% 5.41%
60
The following table sets forth the amount and maturities for the Bank's
certificates of deposit in specified weighted average interest rate categories
at March 31, 1996.
Amount Due
---------------------------------------------------
Less Than After
Rate One Year 1-2 Years 2-3 Years 3 Years Total
- ---- --------- --------- --------- ------- ------
(In thousands)
4.00 - 5.99%..... $ 22,651 $ 1,929 $ 1,097 $ 484 $ 26,161
6.00 - 7.99%..... 7,645 5,389 2,081 2,256 17,371
--------- --------- --------- ------- --------
$ 30,296 $ 7,318 $ 3,178 $ 2,740 $ 43,532
========= ========= ========= ======= ========
The Bank will seek to retain these deposits to the extent consistent with
its long-term objective of maintaining positive interest rate spreads. Depending
upon interest rates existing at the time such certificates mature, the Bank's
cost of funds may be significantly affected by the rollover of these funds. A
decrease in such cost of funds, if any, may have a material impact on the Bank's
operations. To the extent such deposits do not rollover, the Bank may, if
necessary, use other sources of funds, including borrowings from the FHLB of Des
Moines, to replace such deposits.
The following table indicates the amount of the Bank's certificates of
deposit of $100,000 or more by time remaining until maturity as of March 31,
1996.
Certificates
Maturity Period of Deposit
--------------- --------------
(In thousands)
Three months or less............... $ 1,569
Three through six months........... 329
Six through 12 months.............. 1,117
Over 12 months..................... 919
------
Total........................ $3,934
======
Borrowings. Savings deposits historically have been the primary source of
funds for the Bank's lending, investments and general operating activities. The
Bank is authorized, however, to use advances from the FHLB of Des Moines to
supplement its supply of lendable funds and to meet deposit withdrawal
requirements. The FHLB of Des Moines functions as a central reserve bank
providing credit for savings institutions and certain other member financial
institutions. As a member of the FHLB System, the Bank is required to own stock
in the FHLB of Des Moines and is authorized to apply for advances. Advances are
pursuant to several different programs, each of which has its own interest rate
and range of maturities. The Bank has a Blanket Agreement for advances with the
FHLB under which the Bank holds an unencumbered portfolio of eligible one- to
four-family residential mortgages with unpaid principal of not less than 150% of
outstanding FHLB advances. In addition, advances from the FHLB of Des Moines are
secured by the Bank's stock in the FHLB of Des Moines.
61
The following table sets forth certain information regarding the Company's
borrowings from the FHLB of Des Moines for the periods indicated:
Nine Months Ended
March 31, Year Ended June 30,
--------------------- ---------------------------------------
1996 1995 1995 1994 1993
------ ------ ------ ------ ------
(In thousands)
FHLB advances:
Maximum amount outstanding at
any month end.................... $ 6,075 $ 500 $ 500 $ -- $ 2,000
Approximate average outstanding
balance........................... 3,615 107 203 -- 583
Approximate weighted average
rate paid (1).................... 6.18% 8.19% 8.19% -- % 11.50%
FHLB of Des Moines line of credit:
Maximum amount outstanding at
any month end.................... $ 3,200 $ 4,497 $ 4,497 $ 2,500 $ 4,000
Approximate average outstanding
balance.......................... 418 1,414 1,832 162 333
Approximate weighted average rate
paid (1)......................... 6.77% 5.96% 6.16% 3.09% 3.76%
_____________________
(1) Computed from average monthly balances.
During the nine months ended March 31, 1996 and the years ended June 30,
1995, 1994 and 1993, the Company had no borrowings other than from the FHLB of
Des Moines.
62
SUBSIDIARY ACTIVITIES
As a federally chartered savings bank, the Bank is permitted to invest
an amount equal to 2% of its assets in subsidiaries, with an additional
investment of 1% of assets where such investment serves primarily community,
inner-city and community development purposes. Under such limitations, as of
March 31, 1996, the Bank was authorized to invest up to approximately $2.1
million in the stock of or loans to subsidiaries, including the additional 1%
investment for community inner-city and community development purposes.
Institutions meeting their applicable minimum regulatory capital requirements
may invest up to 50% of their regulatory capital in conforming first mortgage
loans to subsidiaries in which they own 10% or more of the capital stock.
The Bank has two subsidiaries. Central Prairie Investment Corporation
("CPIC"), a North Dakota corporation, was incorporated in 1970 and, until 1990,
was active in land development and home construction. In 1991, CPIC terminated
its activities and all its assets were returned to the Bank. Subsequently, the
Bank determined to reactivate CPIC to conduct certain insurance and mutual fund
sales activities. Accordingly, CPIC has entered into agreements with a licensed
broker/dealer, pursuant to which agreements the broker/dealer sells insurance
products and mutual funds and purchase equity securities at the request of the
Bank's customers. CPIC will receive fees based on a percentage of the
commissions earned by the broker/dealer from its activities involving the Bank's
customers. During fiscal 1995 and nine months ended March 31, 1996, the Bank
had $16,600 and $41,700, respectively, in pre-tax earnings from the activities
of CPIC, and at March 31, 1996 CPIC had a net book value of $0. The Bank's
second subsidiary, Northwestern Mortgage Corporation ("NMC"), a North Dakota
corporation incorporated in 1981, currently is inactive. At March 31, 1996, NMC
had a net book value of $0.
FIRREA requires SAIF-insured savings institutions to give the FDIC and
OTS 30 days' prior notice before establishing or acquiring a new subsidiary, or
commencing any new activity through an existing subsidiary. Both the FDIC and
OTS have authority to order termination of subsidiary activities determined to
pose a risk to the safety or soundness of the institution. In addition,
recently adopted capital requirements require savings institutions to deduct
from capital the amount of their investments in and extensions of credit to
subsidiaries engaged in activities not permissible to national banks in
determining regulatory capital compliance.
COMPETITION
The Bank faces strong competition both in originating real estate and
other loans and in attracting deposits. The Bank competes for real estate and
other loans principally on the basis of interest rates and the loan fees it
charges, the types of loans it originates and the quality of services it
provides to borrowers. Its primary competition in originating real estate loans
comes primarily from other savings institutions, commercial banks and mortgage
bankers making loans secured by real estate located in the Bank's market area.
Commercial banks, credit unions and finance companies provide vigorous
competition in consumer lending. Competition may increase as a result of the
continuing reduction of restrictions on the interstate operations of financial
institutions.
The Bank attracts all its deposits through its branch offices
primarily from the communities in which those branch offices are located.
Consequently, competition for deposits is principally from other savings
institutions, commercial banks, credit unions and brokers in these communities.
The Bank competes for deposits and loans by offering a variety of deposit
accounts at competitive rates, a wide array of loan products, convenient
business hours and branch locations, a commitment to outstanding customer
service and a well-trained staff. In addition, the Bank believes it has
developed strong relationships with local businesses, realtors, and the public
in general.
Management believes its primary market to be the Fargo-Moorhead area,
which includes Cass and Richland Counties in North Dakota and Clay and Wilkin
Counties in Minnesota. The Bank originated 5.9% and 9.5% of the dollar amount
of single-family residential mortgage loans originated during calendar years
1994 and 1993, respectively, in the Fargo-Moorhead market area, and during the
six months ended June 30, 1995, the Bank originated 2.7% of single-family
residential mortgage loans originated in the Fargo-Moorhead market area. At
June 30, 1994, the Bank had 2.9% of deposits in financial institutions in Cass
County.
63
At March 31, 1996, $13.8 million, or 23%, of the Bank's gross loans,
were secured by properties in Arizona. The Arizona market is very large and is
predominately serviced by three large commercial banks and numerous smaller
banks. Small banks and mortgage companies are able to compete by providing
better service, which is the objective of the Bank's management.
EMPLOYEES
As of March 31, 1996, the Company and its subsidiary had 30 full-time
and five part-time employees, none of whom was represented by a collective
bargaining agreement.
PROPERTIES
The following table sets forth the location and certain additional
information regarding the Bank's offices at March 31, 1996. The Bank owns all
of its offices except as indicated.
YEAR TOTAL NET BOOK APPROXIMATE TYPE OF
OPENED DEPOSITS VALUE SQUARE FOOTAGE OWNERSHIP
------ -------- -------- -------------- ---------
(DOLLARS IN THOUSANDS)
MAIN OFFICE:
720 Main Avenue 1959 $ 36,034 $ 660 16,833 Owned
Fargo, North Dakota 58103
BRANCH OFFICES:
Wahpeton
615 North 2nd Avenue 1976 13,405 347 6,788 Owned
Wahpeton, North Dakota 58075
South Bank 1994 3,313 1,287 6,600 Owned
"@1301 30th Avenue South
Fargo, North Dakota 58103
LOAN PRODUCTION OFFICE: 1994 N/A 22 1,060 Leased (1)
610 N. Alma School Road
Chandler, AZ 85224
__________________________
(1) Lease term effective through December 1997 at a monthly rate of $796.
The net book value of the Bank's investment in premises and equipment
totalled approximately $2.3 million at March 31, 1996. For a discussion of
premises and equipment, see Note 8 of Notes to Consolidated Financial
Statements.
LEGAL PROCEEDINGS
From time to time, the Company or the Bank is a party to various legal
proceedings incident to their businesses. There are no legal proceedings to
which the Company, the Bank or the Bank's subsidiaries is currently a party or
to which any of their property is subject which are currently expected to result
in a material loss. In addition, there are no pending regulatory proceedings to
which the Company, the Bank or the Bank's subsidiaries is a party or to which
any of their properties is subject which are currently expected to result in a
material loss.
64
REGULATION
General. As a federally-chartered savings institution, the Bank is
subject to extensive regulation by the OTS. The lending and deposit taking
activities and other investments of the Bank must comply with various federal
regulatory requirements. The OTS periodically examines the Bank for compliance
with various regulatory requirements and the FDIC also has the authority to
conduct special examinations of the Bank because its deposits are insured by the
SAIF. The Bank must file reports with the OTS describing its activities and
financial condition. The Bank is also subject to certain reserve requirements
promulgated by the Federal Reserve Board which are intended primarily for the
protection of depositors.
Federal Home Loan Bank System. The Bank is a member of the FHLB
System, which consists of 12 district FHLBs subject to supervision and
regulation by the Federal Housing Finance Board ("FHFB"). The FHLBs provide a
central credit facility primarily for member institutions. As a member of the
FHLB of Des Moines, the Bank is required to acquire and hold shares of capital
stock in the FHLB of Des Moines in an amount at least equal to 1% of the
aggregate principal amount of its unpaid home mortgage loans, home purchase
contracts, and similar obligations at the end of each year, 1/20 of its advances
(borrowings) from the FHLB of Des Moines, or .3%, of assets, whichever is
greater. The Bank was in compliance with this requirement with an investment in
FHLB of Des Moines stock at March 31, 1996 of $645,000.
The FHLB of Des Moines serves as a reserve or central bank for its member
thrift institutions within its assigned district. It is funded primarily from
proceeds derived from the sale of consolidated obligations of the FHLB System.
It makes advances to members in accordance with policies and procedures
established by the FHFB and the Board of Directors of the FHLB of Des Moines.
Long term advances may only be made for the purpose of providing funds for
residential housing finance. As of March 31, 1996, the Bank had $5.6 million in
outstanding advances from the FHLB of Des Moines.
Liquidity Requirements. The Bank is required to maintain average daily
balances of liquid assets (cash, deposits maintained pursuant to Federal Reserve
Board requirements, time and savings deposits in certain institutions,
obligations of the United States and states and political subdivisions thereof,
shares in mutual funds with certain restricted investment policies, highly rated
corporate debt and mortgage loans and mortgage-related securities with less than
one year to maturity or subject to pre-arranged sale within one year) equal to
the monthly average of not less than a specified percentage (currently 5%) of
its net withdrawable savings deposits plus short-term borrowings. The Bank is
also required to maintain average daily balances of short-term liquid assets at
a specified percentage (currently 1%) of the total of its net withdrawable
savings accounts and borrowings payable in one year or less. Monetary penalties
may be imposed for failure to meet liquidity requirements. The Bank has
maintained average monthly liquidity ratios in excess of these requirements.
Qualified Thrift Lender Test. A savings association that does not meet the
Qualified Thrift Lender test ("QTL Test") must either convert to a bank charter
or comply with the following restrictions on its operations: (i) the institution
may not engage in any new activity or make any new investment, directly or
indirectly, unless such activity or investment is permissible for a national
bank; (ii) the branching powers of the institution shall be restricted to those
of a national bank; (iii) the institution shall not be eligible to obtain any
advances from its FHLB; and (iv) payment of dividends by the institution shall
be subject to the rules regarding payment of dividends by a national bank. Upon
the expiration of three years from the date the institution ceases to be a
Qualified Thrift Lender, it must cease any activity, and not retain any
investment not permissible for a national bank and immediately repay any
outstanding FHLB advances (subject to safety and soundness considerations).
To meet its QTL Test, an institution's "Qualified Thrift Investments" must
represent 65% of "portfolio assets". Under OTS implementing regulations,
portfolio assets are defined as total assets less intangibles, property used by
a savings association in its business and liquidity investments in an amount not
exceeding 20% of assets. Qualified Thrift Investments consist of (i) loans,
equity positions or securities related to domestic, residential real
65
estate or manufactured housing and (ii) 50% of the dollar amount of residential
mortgage loans originated and sold within 90 days of origination, provided that
these mortgage loans were sold during the period for which the calculation is
being made. In addition to a 20% of portfolio assets limit, however, savings
associations are able to treat as Qualified Thrift Investments 200% of their
investments in loans to finance "starter homes" and loans for construction,
development or improvement of housing and community service facilities or for
financing small businesses in "credit-needy" areas. Qualified Thrift
Investments do not include any intangible asset.
In addition, a savings institution must maintain its status as a QTL on a
monthly basis in nine out of every 12 months. A savings institution that fails
to maintain Qualified Thrift Lender status will be permitted to requalify once,
and if it fails the QTL test a second time, it will become immediately subject
to all penalties as if all time limits on such penalties had expired. Failure to
qualify as a QTL results in a number of sanctions, including the imposition of
certain operating restrictions imposed on national banks and a restriction on
obtaining additional advances from the FHLB System. At March 31, 1996, the Bank
qualified as a QTL.
Uniform Lending Standards. Under OTS regulations, savings banks must adopt
and maintain written policies that establish appropriate limits and standards
for extensions of credit that are secured by liens or interests in real estate
or are made for the purpose of financing permanent improvements to real estate.
These policies must establish loan portfolio diversification standards, prudent
underwriting standards, including loan-to-value limits, that are clear and
measurable, loan administration procedures and documentation, approval and
reporting requirements. The real estate lending policies must reflect
consideration of the Interagency Guidelines for Real Estate Lending Policies
(the "Interagency Guidelines") that have been adopted by the federal bank
regulators.
The Interagency Guidelines, among other things, call upon depository
institutions to establish internal loan-to-value limits for real estate loans
that are not in excess of the following supervisory limits: (i) for loans
secured by raw land, the supervisory loan-to-value limit is 65% of the value of
the collateral; (ii) for land development loans (i.e., loans for the purpose of
improving unimproved property prior to the erection of structures), the
supervisory limit is 75%; (iii) for loans for the construction of commercial,
multifamily or other nonresidential property, the supervisory limit is 80%; (iv)
for loans for the construction of one-to-four family properties, the supervisory
limit is 85%; and (v) for loans secured by other improved property (e.g.,
farmland, completed commercial property and other income-producing property
including non-owner-occupied, one-to-four family property), the limit is 85%.
Although no supervisory loan-to-value limit has been established for owner-
occupied, one-to-four family and home equity loans, the Interagency Guidelines
state that for any such loan with a loan-to-value ratio that equals or exceeds
90% at origination, an institution should require appropriate credit enhancement
in the form of either mortgage insurance or readily marketable collateral.
The Interagency Guidelines state that it may be appropriate in individual
cases to originate or purchase loans with loan-to-value ratios in excess of the
supervisory loan-to-value limits, based on the support provided by other credit
factors. The aggregate amount of loans in excess of the supervisory loan-to-
value limits, however, should not exceed 100% of total capital and the total of
such loans secured by commercial, agricultural, multifamily and other
non-single-family residential properties should not exceed 30% of total capital.
The supervisory loan-to-value limits do not apply to certain categories of loans
including loans insured or guaranteed by the U.S. government and its agencies or
by financially capable state, local or municipal governments or agencies, loans
backed by the full faith and credit of a state government, loans that are to be
sold promptly after origination without recourse to a financially responsible
party, loans that are renewed, refinanced or restructured without the
advancement of new funds, loans that are renewed, refinanced or restructured in
connection with a workout, loans to facilitate sales of real estate acquired by
the institution in the ordinary course of collecting a debt previously
contracted and loans where the real estate is not the primary collateral.
Management believes that the Bank's current lending policies conform to the
Interagency Guidelines and does not anticipate that the Interagency Guidelines
will have a material effect on its lending activities.
66
Loans-to-One-Borrower Limitations. The Bank's loans and extensions of
credit outstanding at one time to a person and not fully secured generally may
not exceed 15% of the Bank's unimpaired capital and surplus on an unsecured
basis. Loans and extensions of credit fully secured by certain readily
marketable collateral may represent an additional 10% of unimpaired capital and
surplus. Savings associations are further authorized to make loans to one
borrower, for any purpose, in an amount not to exceed $500,000 or, by order of
the Director of OTS, in an amount not to exceed the lesser of $30 million or 30%
of unimpaired capital and surplus to develop residential housing, provided: (i)
the purchase price of each single-family dwelling in the development does not
exceed $500,000; (ii) the savings association is in compliance with its fully
phased-in capital standards; (iii) the loans comply with applicable loan-to-
value requirements, and; (iv) the aggregate amount of loans made under this
authority does not exceed 150% of unimpaired capital and surplus. At March 31,
1996, the 15% and the additional 10% loans to one borrower limits for the Bank
were $1.2 million and $819,000, respectively. At March 31, 1996, the Bank had
one lending relationship in excess of the loans-to-one-borrower limits imposed
by FIRREA, which lending relationship consisted of a loan concentration of four
loans aggregating $1.4 million. See "-- Asset Classification." All of such loans
were made prior to the effective date of FIRREA and did not involve directors,
officers or affiliates.
Regulatory Capital Requirements. Under OTS capital standards, savings
associations must maintain "tangible" capital equal to 1.5% of adjusted total
assets, "core" capital equal to 3.0% of adjusted total assets and a combination
of core and "supplementary" capital equal to 8.0% of "risk-weighted" assets. In
addition, the OTS has recently adopted regulations which impose certain
restrictions on savings associations that have a total risk-based capital ratio
that is less than 8.0%, a ratio of Tier 1 capital to risk-weighted assets of
less than 4.0% or a ratio of Tier 1 capital to adjusted total assets of less
than 4.0% (or 3.0% if the institution is rated composite 1 under the OTS
examination rating system). For purposes of these regulations, Tier 1 capital
has the same definition as core capital. See "-- Prompt Corrective Regulatory
Action." The OTS regulation defines core capital as common stockholders' equity
(including retained earnings), noncumulative perpetual preferred stock and
related surplus, minority interests in the equity accounts of fully consolidated
subsidiaries, certain nonwithdrawable accounts and pledged deposits and
"qualifying supervisory goodwill." Core capital is generally reduced by the
amount of the savings association's intangible assets for which no market
exists. Limited exceptions to the deduction of intangible assets are provided
for purchased mortgage servicing rights, purchased credit card relationships and
qualifying supervisory goodwill. Tangible capital is given the same definition
as core capital but does not include an exception for qualifying supervisory
goodwill and is reduced by the amount of all the savings association's
intangible assets with only a limited exception for purchased mortgage servicing
rights and purchased credit card relationships. Both core and tangible capital
are further reduced by an amount equal to a gradually increasing percentage of
the savings association's debt and equity investments in subsidiaries engaged in
activities not permissible to national banks other than subsidiaries engaged in
activities undertaken as agent for customers or in mortgage banking activities
and subsidiary depository institutions or their holding companies. At March 31,
1996, the Bank had no such investments.
In determining compliance with the risk-based capital requirement, a
savings association is allowed to use both core capital and supplementary
capital provided the amount of supplementary capital used does not exceed the
savings association's core capital. Supplementary capital is defined to include
certain preferred stock issues, nonwithdrawable accounts and pledged deposits
that do not qualify as core capital, certain approved subordinated debt, certain
other capital instruments and a portion of the savings association's general
loan and lease loss allowances.
The risk-based capital requirement is measured against risk-weighted
assets which equal the sum of each asset and the credit-equivalent amount of
each off-balance sheet item after being multiplied by an assigned risk weight.
Under the OTS risk-weighting system, one- to four-family first mortgages not
more than 90 days past due with original loan-to-value ratios under 80% are
assigned a risk weight of 50%. Consumer and residential construction loans are
assigned a risk weight of 100%. Mortgage-backed securities issued, or fully
guaranteed as to principal and interest, by the FNMA or FHLMC are assigned a 20%
risk weight. Cash and U.S. Government securities backed by the full faith and
credit of the U.S. Government are given a 0% risk weight.
67
The table below presents the Bank's capital position relative to its
various minimum statutory and regulatory capital requirements at March 31, 1996.
Percent
of
Amount Assets(1)
------ ---------
(Dollars in thousands)
Tangible capital................ $7,345 10.36%
Tangible capital requirement.... 1,064 1.50
------ -----
Excess........................ $6,281 8.86%
====== =====
Core capital.................... $7,345 10.36%
Core capital requirement........ 2,127 3.00
------ -----
Excess........................ $5,218 7.36%
====== =====
Risk-based capital.............. $7,857 17.87%
Risk-based capital requirement.. 3,518 8.00
------ -----
Excess........................ $4,339 9.87%
====== =====
________________________
(1) Based upon adjusted total assets for purposes of the tangible capital and
core capital requirements, and risk-weighted assets for purposes of the
risk-based capital requirements.
Proposed OTS regulations require savings institutions with more than a
"normal" level of interest rate risk to maintain additional total capital. A
savings institution's interest rate risk will be measured in terms of the
sensitivity of its "net portfolio value" to changes in interest rates. Net
portfolio value is defined, generally, as the present value of expected cash
inflows from existing assets and off-balance sheet contracts less the present
value of expected cash outflows from existing liabilities. A savings
institution will be considered to have a "normal" level of interest rate risk
exposure if the decline in its net portfolio value after an immediate 200 basis
point increase or decrease in market interest rates (whichever results in the
greater decline) is less than two percent of the current estimated economic
value of its assets. A savings institution with a greater than normal interest
rate risk would be required to deduct from total capital, for purposes of
calculating its risk-based capital requirement, an amount (the "interest rate
risk component") equal to one-half the difference between the institution's
measured interest rate risk and the normal level of interest rate risk,
multiplied by the economic value of its total assets.
The OTS calculates the sensitivity of a savings institution's net portfolio
value based on data submitted by the institution in a schedule to its quarterly
Thrift Financial Report and using the interest rate risk measurement model
adopted by the OTS. The amount of the interest rate risk component, if any, to
be deducted from a savings institution's total capital will be based on the
institution's Thrift Financial Report filed two quarters earlier. Savings
institutions with less than $300 million in assets and a risk-based capital
ratio above 12% are generally exempt from filing the interest rate risk schedule
with their Thrift Financial Reports. However, the OTS will require any exempt
savings institution that it determines may have a high level of interest rate
exposure to file such schedule on a quarterly basis. The Bank has determined
that, on the basis of current financial data, it would not be deemed to have
more than normal level of interest rate risk under the proposed rule and
believes that it will not be required to increase its total capital as a result
of the rule. The OTS has delayed the implementation of this rule pending
further review.
The OTS has proposed an amendment to its capital regulations establishing a
minimum core capital ratio of 3.00% for savings institutions rated composite 1
under the OTS CAMEL examination rating system. For all other savings
associations, the minimum core capital ratio would be 3.00% plus at least an
additional 100 to 200 basis points. In determining the amount of additional
core capital, the OTS would assess both the quality of risk management systems
and the level of overall risk in each individual savings institution through the
supervisory process on a case-by-case basis.
68
In addition to requiring generally applicable capital standards for savings
associations, the OTS is authorized to establish the minimum level of capital
for a savings association at such amount or at such ratio of capital-to-assets
as the OTS determines to be necessary or appropriate for such association in
light of the particular circumstances of the association. The OTS may treat the
failure of any savings association to maintain capital at or above such level as
an unsafe or unsound practice and may issue a directive requiring any savings
association which fails to maintain capital at or above the minimum level
required by the Director to submit and adhere to a plan for increasing capital.
Such an order may be enforced in the same manner as an order issued by the FDIC.
Prompt Corrective Regulatory Action. FDICIA requires the federal banking
regulators to take prompt corrective action if an insured depository institution
fails to satisfy certain minimum capital requirements. Under FDICIA, capital
requirements would include a leverage limit, a risk-based capital requirement,
and any other measure of capital deemed appropriate by the federal banking
regulators for measuring the capital adequacy of an insured depository
institution. All institutions, regardless of their capital levels, are
restricted from making any capital distribution or paying any management fees
that would cause the institution to fail to satisfy the minimum levels for any
of its capital requirements. An institution that failed to meet the minimum
level for any relevant capital measure (an "undercapitalized institution") may
be: (i) subject to increased monitoring by the appropriate federal banking
regulator; (ii) required to submit an acceptable capital restoration plan within
45 days; (iii) subject to asset growth limits; and (iv) required to obtain prior
regulatory approval for acquisitions, branching and new lines of businesses.
The capital restoration plan must include a guarantee by the institution's
holding company that the institution will comply with the plan until it has been
adequately capitalized on average for four consecutive quarters, under which the
holding company would be liable up to the lesser of 5% of the institution's
total assets or the amount necessary to bring the institution into capital
compliance as of the date it failed to comply with its capital restoration plan.
A "significantly undercapitalized" institution, as well as any undercapitalized
institution that did not submit an acceptable capital restoration plan, may be
subject to regulatory demands for recapitalization, broader application of
restrictions on transactions with affiliates, limitations on interest rates paid
on deposits, asset growth and other activities, possible replacement of
directors and officers, and restrictions on capital distributions by any bank
holding company controlling the institution. Any company controlling the
institution could also be required to divest the institution or the institution
could be required to divest subsidiaries.
Under implementing regulations, the OTS will generally measure a savings
association's capital adequacy on the basis of the association's total risk-
based capital ratio (the ratio of its total capital to risk-weighted assets),
Tier 1 risk-based capital ratio (the ratio of its core capital to risk-weighted
assets) and leverage ratio (the ratio of its core capital to adjusted total
assets). A savings association will be deemed "well capitalized" if it has: (i)
a total risk-based capital ratio of 10.0% or greater; (ii) a Tier 1 risk-based
capital ratio of 6.0% or greater; and (iii) a leverage ratio of 5.0% or greater.
An "adequately capitalized" savings association is a savings association that
does not meet the definition of well capitalized and has: (i) a total risk-based
capital ratio of 8.0% or greater; (ii) a Tier 1 capital risk-based ratio of 4.0%
or greater; and (iii) a leverage ratio of 4.0% or greater (or 3.0% or greater if
the savings association has a composite 1 CAMEL rating). An "undercapitalized
institution" is a savings association that has: (i) a total risk-based capital
ratio less than 8.0%; (ii) a Tier 1 risk-based capital ratio of less than 4.0%;
or (iii) a leverage ratio of less than 4.0% (or 3.0% if the association has a
composite 1 CAMEL rating). A "significantly undercapitalized" institution is
defined as a savings association that has: (i) a total risk-based capital ratio
of less than 6.0%; or (ii) a Tier 1 risk-based capital ratio of less than 3.0%;
or (iii) a leverage ratio of less than 3.0%. A "critically undercapitalized"
savings association is defined as a savings association that has a ratio of
"tangible equity" to total assets of less than 2.0%. Tangible equity is defined
as core capital plus cumulative perpetual preferred stock (and related surplus)
less all intangibles other than qualifying supervisory goodwill and certain
purchased mortgage servicing rights. The OTS may reclassify a well capitalized
savings association as adequately capitalized and may require an adequately
capitalized or undercapitalized association to comply with the supervisory
actions applicable to associations in the next lower capital category (but may
not reclassify a significantly undercapitalized institution as critically
undercapitalized) if the OTS determines, after notice and an opportunity for a
hearing, that the savings association is in an unsafe or unsound condition or if
the OTS determines that the association has received and not corrected a less-
than-satisfactory rating for any CAMEL rating category. At March 31, 1996, the
Bank met the capital requirements to be classified as "well-capitalized" under
these regulations.
69
Deposit Insurance. The Bank is required to pay assessments based on a
percent of its insured deposits to the FDIC for insurance of its deposits by the
SAIF. Through December 31, 1997, the assessment rate shall not be less than
0.18%. After December 31, 1997, the SAIF assessment rate will be a rate
determined by the FDIC to be appropriate to increase the reserve ratio of the
SAIF to 1.25% of insured deposits or such higher percentage as the FDIC
determines to be appropriate but not less than 0.15%.
Under the FDIC's risk-based deposit insurance assessment system, the
assessment rate for an insured depository institution depends on the assessment
risk classification assigned to the institution by the FDIC, which is determined
by the institution's capital level and supervisory evaluations. Based on the
data reported to regulators for the date closest to the last day of the seventh
month preceding the semi-annual assessment period institutions are assigned to
one of three capital groups -- well capitalized, adequately capitalized or
undercapitalized -- using the same percentage criteria as in the prompt
corrective action regulations. See "-- Prompt Corrective Regulatory Action."
Within each capital group, institutions are assigned to one of three subgroups
on the basis of supervisory evaluations by the institution's primary supervisory
authority and such other information as the FDIC determines to be relevant to
the institution's financial condition and the risk posed to the deposit
insurance fund. Subgroup A consists of financially sound institutions with only
a few minor weaknesses. Subgroup B consists of institutions that demonstrate
weaknesses which, if not corrected, could result in significant deterioration of
the institution and increased risk of loss to the deposit insurance fund.
Subgroup C consists of institutions that pose a substantial probability of loss
to the deposit insurance fund unless effective corrective action is taken. The
assessment rate currently ranges from 0.23% of deposits for well capitalized
institutions in Subgroup A to 0.31% of deposits for undercapitalized
institutions in Subgroup C.
The Bank's savings deposits are insured by the SAIF, which is administered
by the FDIC. The assessment rate currently ranges from 0.23% of deposits for
well capitalized institutions to 0.31% of deposits for undercapitalized
institutions. The FDIC also administers the Bank Insurance Fund ("BIF"), which
has the same designated reserve ratio as the SAIF. On August 8, 1995, the FDIC
adopted an amendment to the BIF risk-based assessment schedule which lowered the
deposit insurance assessment rate for most commercial banks and other depository
institutions with deposits insured by the BIF to a range of from 0.31% of
insured deposits for undercapitalized BIF-insured institutions to 0.04% of
deposits for well-capitalized institutions, which constitute over 90% of BIF-
insured institutions. The FDIC amendment became effective for the quarter ended
September 30, 1995. The amendment created a substantial disparity in the
deposit insurance premiums paid by BIF and SAIF members and could place SAIF-
insured savings institutions at a significant competitive disadvantage to BIF-
insured institutions.
The House of Representatives and the Senate of the United States provided
for a resolution of the recapitalization of the SAIF in the Balanced Budget Act
of 1995 (the "Reconciliation Bill") which was vetoed by the President in
December 1995 for reasons unrelated to the recapitalization of the SAIF. The
Reconciliation Bill provided that all SAIF member institutions would pay a
special assessment recently estimated to be a one-time charge of 0.85% of the
Company's total SAIF-assessable deposits as of March 31, 1995, or approximately
$410,000 pretax. Such special assessment would be in addition to the Company's
annual deposit insurance premium. However, it is anticipated that after the
recapitalization of the SAIF, the premiums of SAIF-insured institutions would be
reduced to a level comparable to those currently being assessed BIF-insured
commercial banks. A balanced budget bill subsequently was enacted and signed by
the President in April 1996. That bill did not provide for the recapitalization
of the SAIF, and there can be no assurance whether the SAIF will be
recapitalized, whether the premium disparity between SAIF and BIF insured
institutions will be reduced or eliminated or whether a special assessment will
be charged.
SAIF members are generally prohibited from converting to the status of
members of the BIF administered by the FDIC or merging with or transferring
assets to a BIF member before the date on which the SAIF first meets or exceeds
the designated reserve ratio of 1.25% of insured deposits. The FDIC, however,
may approve such a transaction in the case of a SAIF member in default or if the
transaction involves an insubstantial portion of the deposits of each
participant. In addition, mergers, transfers of assets and assumptions of
liabilities may be approved
70
by the appropriate bank regulator so long as deposit insurance premiums continue
to be paid to the SAIF for deposits attributable to the SAIF members plus an
adjustment for the annual rate of growth of deposits in the surviving bank
without regard to subsequent acquisitions. A savings association may adopt a
commercial bank or savings bank charter if the resulting bank remains an SAIF
member.
The FDIC has adopted a regulation which provides that any insured
depository institution with a ratio of Tier 1 capital to total assets of less
than 2% will be deemed to be operating in an unsafe or unsound condition, which
would constitute grounds for the initiation of termination of deposit insurance
proceedings. The FDIC, however, would not initiate termination of insurance
proceedings if the depository institution has entered into and is in compliance
with a written agreement with its primary regulator, and the FDIC is a party to
the agreement, to increase its Tier 1 capital to such level as the FDIC deems
appropriate. Tier 1 capital is defined as the sum of common stockholders'
equity, noncumulative perpetual preferred stock (including any related surplus)
and minority interests in consolidated subsidiaries, minus all intangible assets
other than mortgage servicing rights and qualifying supervisory goodwill
eligible for inclusion in core capital under OTS regulations and minus
identified losses and investments in certain securities subsidiaries. Insured
depository institutions with Tier 1 capital equal to or greater than 2% of total
assets may also be deemed to be operating in an unsafe or unsound condition
notwithstanding such capital level. The regulation further provides that in
considering applications that must be submitted to it by savings associations,
the FDIC will take into account whether the savings association is meeting with
the Tier 1 capital requirement for state non-member banks of 4% of total assets
for all but the most highly rated state non-member banks.
Federal Reserve System. Pursuant to regulations of Federal Reserve Board,
a savings institution must currently maintain average daily reserves equal to 3%
on the first $54.0 million of net transaction accounts, plus 12% on the
remainder. These percentages are subject to adjustment by the Federal Reserve
Board. Because required reserves must be maintained in the form of vault cash
or in a non-interest bearing account at a Federal Reserve Bank, the effect of
the reserve requirement is to reduce the amount of the institution's interest-
earning assets. As of March 31, 1996, the Bank met its reserve requirements.
Dividend Limitations. Under OTS regulations, the Bank is not permitted to
pay dividends on its capital stock if its regulatory capital would thereby be
reduced below the remaining balance of the liquidation account established for
the benefit of certain depositors of the Bank at the time of its conversion to
stock form. In addition, the Bank will be required by OTS regulations to give
the OTS 30 days' prior notice of any proposed declaration of dividends to the
Company.
OTS regulations impose additional limitations on the payment of dividends
and other capital distributions (including stock repurchases and cash mergers)
by the Bank. Under these regulations, a savings association that, immediately
prior to, and on a pro forma basis after giving effect to, a proposed capital
distribution, has total capital (as defined by OTS regulation) that is equal to
or greater than the amount of its capital requirements (a "Tier 1 Association")
is generally permitted without OTS approval, after notice, to make capital
distributions during a calendar year in the amount equal to the greater of (i)
75% of net income for the previous four quarters; or (ii) up to 100% of its net
income to date during the calendar year plus an amount that would reduce by one-
half the amount by which its ratio of total capital to assets exceeded
regulatory requirements at the beginning of the calendar year. A savings
association with total capital in excess of current minimum capital requirements
(a "Tier 2 Association") is permitted to make capital distributions without OTS
approval of up to 75% of its net income for the previous four quarters, less
dividends already paid for such period. A savings association that fails to
meet current minimum capital requirements (a "Tier 3 Association") is prohibited
from making any capital distributions without the prior approval of the OTS. A
Tier 1 Association that has been notified by the OTS that it is in need of more
than normal supervision will be treated as either a Tier 2 or Tier 3
Association. Unless the OTS determines that the Bank is an institution
requiring more than normal supervision, the Bank is authorized to pay dividends
in accordance with the provisions of the OTS regulations discussed above as a
Tier 1 Association.
71
Under the OTS' prompt corrective action regulations, the Bank is also
prohibited from making any capital distributions if after making the
distribution, the Bank would have: (i) a total risk-based capital ratio of less
than 8.0%; (ii) a Tier 1 risk-based capital ratio of less than 4.0%; or (iii) a
leverage ratio of less than 4.0%. The OTS, after consultation with the FDIC,
however, may permit an otherwise prohibited stock repurchase if made in
connection with the issuance of additional shares in an equivalent amount and
the repurchase will reduce the institution's financial obligations or otherwise
improve the institution's financial condition. See " -- Prompt Corrective
Regulatory Action."
In addition to the foregoing, earnings of the Bank appropriated to bad debt
reserves and deducted for federal income tax purposes are not available for
payment of cash dividends or other distributions to stockholders without payment
of taxes at the then current tax rate by the Bank on the amount of earnings
removed from the reserves for such distributions. See " -- Taxation." The Bank
intends to make full use of this favorable tax treatment afforded to it and does
not contemplate use of any earnings in a manner which would limit the Bank's bad
debt deduction or create federal tax liabilities.
Transactions with Related Parties. Transactions between savings
institutions and any affiliate are governed by Sections 23A and 23B of the
Federal Reserve Act. An affiliate of a savings institution is any company or
entity which controls, is controlled by or is under common control with the
savings institution. In a holding company context, the parent holding company
of a savings institution (such as the Company) and any companies which are
controlled by such parent holding company are affiliates of the savings
institution. Generally, Sections 23A and 23B (i) limit the extent to which the
savings institution or its subsidiaries may engage in "covered transactions"
with any one affiliate to an amount equal to 10% of such institution's capital
stock and surplus, and contain an aggregate limit on all such transactions with
all affiliates to an amount equal to 20% of such capital stock and surplus and
(ii) require that all such transactions be on terms substantially the same, or
at least as favorable, to the institution or subsidiary as those provided to a
non-affiliate. The term "covered transaction" includes the making of loans,
purchase of assets, issuance of a guarantee and similar other types of
transactions. In addition to the restrictions imposed by Sections 23A and 23B,
no savings institution may (i) make a loan or otherwise extend credit to an
affiliate, except for any affiliate which engages only in activities which are
permissible for bank holding companies, or (ii) purchase or invest in any
stocks, bonds, debentures, notes or similar obligations of any affiliate, except
for affiliates which are subsidiaries of the savings institution.
Savings institutions are also subject to the restrictions contained in
Section 22(h) of the Federal Reserve Act on loans to executive officers,
directors and principal stockholders. Under Section 22(h), loans to a director,
executive officer and to a greater than 10% stockholder of a savings institution
and certain affiliated interests of such persons, may not exceed, together with
all other outstanding loans to such person and affiliated interests, the
institution's loans-to-one-borrower limit (generally equal to 15% of the
institution's unimpaired capital and surplus) and all loans to such persons may
not exceed the institution's unimpaired capital and unimpaired surplus. Section
22(h) also prohibits loans, above amounts prescribed by the appropriate federal
banking agency, to directors, executive officers and greater than 10%
stockholders of a savings institution, and their respective affiliates, unless
such loan is approved in advance by a majority of the board of directors of the
institution with any "interested" director not participating in the voting. The
Federal Reserve Board has prescribed the loan amount (which includes all other
outstanding loans to such person) as to which such prior board of director
approval is required as being the greater of $25,000 or 5% of capital and
surplus (up to $500,000). Further, Section 22(h) requires that loans to
directors, executive officers and principal stockholders be made on terms
substantially the same as offered in comparable transactions to other persons.
Section 22(h) also generally prohibits a depository institution from paying the
overdrafts of any of its executive officers or directors.
Savings institutions are also subject to the requirements and restrictions
of Section 22(g) of the Federal Reserve Act on loans to executive officers and
the restrictions of 12 U.S.C. (S) 1972 on certain tying arrangements and
extensions of credit by correspondent banks. Section 22(g) of the Federal
Reserve Act requires that loans to executive officers of depository institutions
not be made on terms more favorable than those afforded to other
72
borrowers, requires approval by the board of directors of a depository
institution for extension of credit to executive officers of the institution,
and imposes reporting requirements for and additional restrictions on the type,
amount and terms of credits to such officers. Section 1972 (i) prohibits a
depository institution from extending credit to or offering any other services,
or fixing or varying the consideration for such extension of credit or service,
on the condition that the customer obtain some additional service from the
institution or certain of its affiliates or not obtain services of a competitor
of the institution, subject to certain exceptions, and (ii) prohibits extensions
of credit to executive officers, directors, and greater than 10% stockholders of
a depository institution by any other institution which has a correspondent
banking relationship with the institution, unless such extension of credit is on
substantially the same terms as those prevailing at the time for comparable
transactions with other persons and does not involve more than the normal risk
of repayment or present other unfavorable features.
Safety and Soundness Standards. Under FDICIA, as amended by the Riegle
Community Development and Regulatory Improvement Act of 1994 (the "CDRI Act"),
each Federal banking agency is required to establish safety and soundness
standards for institutions under its authority. On July 10, 1995, the Federal
banking agencies, including the OTS, released Interagency Guidelines
Establishing Standards for Safety and Soundness and published a final rule
establishing deadlines for submission and review of safety and soundness
compliance plans. The final rule and the guidelines go into effect on August 9,
1995. 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 should take into account factors such as comparable
compensation practices at comparable institutions. 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 must submit an
acceptable compliance plan to the OTS within 30 days of receipt of a request for
such a plan. Failure to submit or implement a compliance plan may subject the
institution to regulatory sanctions. Management believes that the Bank already
meets substantially all the standards adopted in the interagency guidelines, and
therefore does not believe that implementation of these regulatory standards
will materially affect the Bank's operations.
Additionally, under FDICIA, as amended by the CDRI Act, the Federal banking
agencies are required to establish standards relating to the asset quality and
earnings that the agencies determine to be appropriate. On July 10, 1995, the
federal banking agencies, including the OTS, issued proposed guidelines relating
to asset quality and earnings. Under the proposed guidelines, a savings
institution should maintain systems, commensurate with its size and the nature
and scope of its operations, to identify problem assets and prevent
deterioration in those assets as well as to evaluate and monitor earnings and
ensure that earnings are sufficient to maintain adequate capital and reserves.
Management believes that the asset quality and earnings standards, in the form
proposed by the banking agencies, would not have a material effect on the Bank's
operations.
Savings and Loan Holding Company Regulations. The Company is a savings and
loan holding company within the meaning of the Home Owners' Loan Act. As such,
it is registered with the OTS and is subject to OTS regulations, examinations,
supervision and reporting requirements. As a subsidiary of a savings and loan
holding company, the Bank is subject to certain restrictions in its dealings
with the Company and affiliates thereof.
Activities Restrictions. The Board of Directors of the Company presently
-----------------------
intends to continue to operate the Company as a unitary savings and loan holding
company. There are generally no restrictions on the activities of a unitary
savings and loan holding company. However, if the director of OTS determines
that there is reasonable cause to believe that the continuation by a savings and
loan holding company of an activity constitutes a serious risk to the financial
safety, soundness or stability of its subsidiary savings association, the
Director of OTS may impose such restrictions as deemed necessary to address such
risk and limiting (i) payment of dividends by the savings association, (ii)
transactions between the savings association and its affiliates, and (iii) any
activities of the savings
73
association that might create a serious risk that the liabilities of the holding
company and its affiliates may be imposed on the savings association.
Notwithstanding the above rules as to permissible business activities of unitary
savings and loan holding companies, if the savings association subsidiary of
such a holding company fails to meet the QTL Test, then such unitary holding
company shall also presently become subject to the activities restrictions
applicable to multiple holding companies and, unless the savings association
requalified as a QTL within one year thereafter, register as, and become subject
to, the restrictions applicable to bank holding companies. See " --Qualified
Thrift Lender Test."
If the Company were to acquire control of another savings institution other
than through merger or other business combinations with the Bank, the Company
would thereupon become a multiple savings and loan holding company. Except
where such acquisition is pursuant to the authority to approve emergency thrift
acquisitions and where each subsidiary savings institution meets the Qualified
Thrift Lender Test, the activities of the Company and any of its subsidiaries
(other than the Bank or other subsidiary savings institutions) would thereafter
be subject to further restrictions. Among other things, no multiple savings and
loan holding company or subsidiary thereof which is not a savings institution
shall commence or continue for a limited period of time after becoming a
multiple savings and loan holding company or subsidiary thereof, any business
activity, upon prior notice to, and no objection by the OTS, other than (i)
furnishing or performing management services for a subsidiary savings
institution, (ii) conducting an insurance agency or escrow business, (iii)
holding, managing, or liquidating assets owned by or acquired from a subsidiary
savings institution, (iv) holding or managing properties used or occupied by a
subsidiary savings institution, (v) acting as trustee under deeds of trust, (vi)
those activities authorized by regulation as of May 5, 1987 to be engaged in by
multiple holding companies, or (vii) those activities authorized by the Federal
Reserve Board as permissible for bank holding companies, unless the Director of
OTS by regulation prohibits or limits such activities for savings and loan
holding companies. Those activities described in (vii) above must also be
approved by the Director of OTS prior to being engaged in by a multiple holding
company.
Legislation has been introduced into the U.S. Congress which would subject
all unitary holding companies to the same restrictions on activities as are
currently applied to multiple holding companies. If such legislation were
enacted, the ability of the Company to engage in certain activities that are
currently permitted to a unitary holding company would be restricted. Since the
Company does not, and has no current plans to, engage in any business activity
impermissible for a multiple holding company, such legislation would not require
the Company to discontinue any current activity. In addition, such legislation
would preclude companies that are engaged in activities not permitted to
multiple holding companies from acquiring control of the Company. No prediction
can be made at this time as to whether such legislation will be enacted.
Restrictions on Acquisitions. Savings and loan holding companies are
----------------------------
prohibited from acquiring, without prior approval of the OTS, (i) control of any
savings association or savings and loan holding company or substantially all the
assets thereof, or (ii) more than 5% of the voting shares of a savings
association or holding company thereof which is not a subsidiary. Under certain
circumstances, a registered savings and loan holding company is permitted to
acquire, with the approval of the OTS, up to 15% of the voting shares of an
under-capitalized savings association pursuant to a "qualified stock issuance"
without that savings association being deemed controlled by the holding company.
In order for the shares acquired to constitute a "qualified stock issuance," the
shares must consist of previously unissued stock or treasury shares, the shares
must be acquired for cash, the savings and loan holding company's other
subsidiaries must have tangible capital of at least 6 1/2% of total assets,
there must not be more than one common director or officer between the savings
and loan holding company and the issuing savings association and transactions
between the savings association and the savings and loan holding company and any
of its affiliates must conform to Sections 23A and 23B of the Federal Reserve
Act. Except with the prior approval of the OTS, no director or officer of a
savings and loan holding company or person owning or controlling by proxy or
otherwise more than 25% of such company's stock, may acquire control of any
savings association, other than a subsidiary savings association, or of any
other savings and loan holding company.
The Director of the OTS may only approve acquisitions resulting in the
formation of a multiple savings and loan holding company which controls savings
associations in more than one state if: (i) the multiple savings and
74
loan holding company involved controls a savings associations which operated a
home or branch office in the state of the association to be acquired as of May
5, 1987; (ii) the acquiror is authorized to acquire control of the savings
association pursuant to the emergency acquisition provisions of the Federal
Deposit Insurance Act; or (iii) the statutes of the state in which the
association to be acquired is located specifically permit institutions to be
acquired by state-chartered associations or savings and loan holding companies
located in the state where the acquiring entity is located (or by a holding
company that controls such state-chartered savings institution).
Under the Bank Holding Company Act, bank holding companies are specifically
authorized to acquire control of any savings association. Pursuant to rules
promulgated by the Federal Reserve Board, owning, controlling, or operating a
savings association is a permissible activity for bank holding companies, if the
savings association engages only in deposit-taking activities and lending and
other activities that are permissible for bank holding companies. A bank
holding company that controls a savings association may merge or consolidate the
assets and liabilities of that association with, or transfer assets and
liabilities to, any subsidiary bank which is a member of the BIF with the
approval of the appropriate federal banking agency and the Federal Reserve
Board. The resulting bank will be required to continue to pay assessments to
the SAIF at the rates prescribed for SAIF members on the deposits attributable
to the merged association plus an annual growth increment. In addition, the
transaction must comply with the restrictions on interstate acquisitions of
commercial banks under the Bank Holding Company Act.
TAXATION
The Company, the Bank and the Bank's subsidiaries file a consolidated
federal income tax return based on a calendar year. Consolidated returns have
the effect of eliminating intercompany distributions, including dividends, from
the computation of consolidated taxable income for the taxable year in which the
distributions occur.
Federal Income Taxation. Savings institutions are subject to the
provisions of the Internal Revenue Code in the same general manner as other
corporations. However, institutions such as the Bank which meet certain
definitional tests and other conditions prescribed by the Code may benefit from
certain favorable provisions regarding their deductions from taxable income for
annual additions to their bad debt reserve. For purposes of the bad debt
reserve deduction, loans are separated into "qualifying real property loans,"
which generally are loans secured by interests in certain real property, and
nonqualifying loans, which are all other loans. The bad debt reserve deduction
with respect to nonqualifying loans must be based on actual loss experience.
The amount of the bad debt reserve deduction with respect to qualifying real
property loans may be based upon actual loss experience (the "experience
method") or a percentage of taxable income determined without regard to such
deduction (the "percentage of taxable income method").
The Bank has generally elected to use the method which has resulted in the
greatest deductions for federal income tax purposes. Under the experience
method, the bad debt deduction for an addition to the reserve for qualifying
real property loans is an amount determined under a formula based generally on
the bad debts actually sustained by a savings institution over a period of
years. Under the percentage of taxable income method, the bad debt reserve
deduction for qualifying real property loans is computed as a percentage, which
Congress has reduced from as much as 60% in prior years to 8% of taxable income,
with certain adjustments, effective for taxable years beginning after 1986. The
allowable deduction under the percentage of taxable income method (the
"percentage bad debt deduction") for taxable years beginning before 1987 was
scaled downward in the event that less than 82% of the total dollar amount of
the assets of an institution was within certain designated categories. When the
percentage method bad debt deduction was lowered to 8%, the 82% qualifying
assets requirement was lowered to 60%. For all taxable years, there is no
deduction in the event that less than 60% of the total dollar amount of the
assets of an institution falls within such categories. Moreover, in such case,
the Bank could be required to recapture, generally over a period of up to four
years, its existing bad debt reserve. As of March 31, 1996, more than the
required amount of the Bank's total assets fell within such category.
75
The bad debt deduction under the percentage of taxable income method is
subject to certain limitations. First, the amount added to the reserve for
losses on qualifying real property loans may not exceed the amount necessary to
increase the balance of such reserve at the close of the taxable year to 6% of
such loans outstanding at the end of the taxable year. Further, the addition to
the reserve for losses on qualifying real property loans cannot exceed the
amount which, when added to that year's addition to the bad debt reserve for
losses on nonqualifying loans, equals the amount by which 12% of total deposits
or withdrawable accounts of depositors at year-end exceeds the sum of surplus,
undivided profits and reserves at the beginning of the year. Finally, the
percentage bad debt deduction under the percentage of taxable income method is
reduced by the deduction for losses on nonqualifying loans.
Earnings appropriated to the Bank's bad debt reserve and claimed as a tax
deduction are not available for the payment of cash dividends or for
distribution to stockholders (including distributions made on dissolution or
liquidation), unless the Bank includes the amount in taxable income, along with
the amount deemed necessary to pay the resulting federal income tax.
Legislation currently being considered by Congress would repeal the bad
debt reserve provisions of the Internal Revenue Code. Savings associations,
like the Bank, which have previously calculated the bad debt reserve under the
percentage of taxable income method would be required to recapture into taxable
income post-1987 reserves over a six-year period beginning with the 1996 taxable
year. The start of such recapture may be delayed until the 1998 taxable year if
the dollar amount of the institution's residential loan originations in each
year is not less than the average dollar amount of residential loan originated
in each of the six most recent years disregarding the years with the highest and
lowest originations during such period. For purposes of this test, residential
loan originations would not include refinancings and home equity loans.
For taxable years beginning after December 31, 1986, the Code imposes an
alternative minimum tax at a rate of 20%. The alternative minimum tax generally
applies to a base of regular taxable income plus or minus certain adjustments
and plus tax preferences ("alternative minimum taxable income" or "AMTI") and is
payable to the extent such AMTI exceeds an exemption amount. The Code provides
that one item of tax preference is the excess of the bad debt deduction
allowable for a taxable year over the amount allowable on the basis of actual
experience. Another item of tax preference that constitutes AMTI includes tax
exempt interest on newly-issued (generally, issued on or after August 8, 1986)
private activity bonds other than certain qualified bonds. Certain adjustments
would include for taxable years from 1987 through 1989, 50% of the excess of (i)
the taxpayer's adjusted net book income over (ii) AMTI (determined without
regard to this adjustment and prior to reduction by alternative net operating
losses). For taxable years beginning after 1989, this adjustment has been
replaced by 75% of the excess (if any) of (i) adjusted current earnings as
defined in the Code, over (ii) AMTI (determined without regard to this
adjustment and prior to reduction by alternative net operating losses). For any
taxable year beginning after 1986, alternative net operating losses can offset
no more than 90% of AMTI. To a certain extent, payments of alternative minimum
taxes may be used as credits against regular tax liabilities in future years.
In addition, for taxable years after 1986 and before 1996, corporations,
including savings institutions, are also subject to an environmental tax equal
to 0.12% of the excess of AMTI for the taxable year (determined without regard
to alternative net operating losses and the deduction for the environmental tax)
over $2.0 million. The Company paid alternative minimum tax of $16,000 and
$19,000 for calendar years 1994 and 1995, respectively, and may, depending on
future results of operations, be subject to this tax.
The Bank's federal income tax returns have not been audited since 1983.
Under provisions of the Revenue Reconciliation Act of 1993 ("RRA"), enacted
on August 10, 1993, the maximum federal corporate income tax rate was increased
from 34% to 35% for taxable income over $10.0 million, with a 3% surtax imposed
on taxable income over $15.0 million. Beginning with tax years ending on or
after January 1, 1993, RRA also provides that securities dealers must use mark-
to-market accounting and generally reflect changes in value during the year or
upon sale as taxable gains or losses. The IRS has indicated that financial
institutions which originate and sell loans will be subject to the new rule.
Because of the absence of definitive IRS guidance on the scope and extent of
this provision's applicability to financial institutions, it is unclear what
effect, if any, this provision will have on the Company or the Bank.
76
State Income Taxation. The Bank currently files North Dakota privilege tax
returns on a calendar year basis. The state of North Dakota imposes a 5%
privilege tax on the net income of thrifts which is allocated to the counties in
which the thrift is located. An additional 2% privilege tax on net income is
imposed on thrifts and collected by the state of North Dakota. Net income for
the purposes of these taxes is generally similar to federal taxable income
except that interest from state and municipal obligations is taxable, bad debt
deductions are based on actual charge-offs rather than the reserve method
allowed for federal purposes, and a deduction is allowed for federal income tax
but not the North Dakota privilege taxes. Net operating losses may only be
carried forward.
The Company is required to file a separate North Dakota corporation tax
return. The North Dakota corporation income tax rate ranges from 3% to 10.5%
depending upon North Dakota taxable income. North Dakota corporation taxable
income generally is similar to federal taxable income except that interest from
obligations of other states and their municipalities is taxable, interest from
federal obligations is exempt and no deduction is allowed for income tax other
than federal income tax. Net operating losses may be carried back or forward
similar to federal net operating losses.
In addition, the Company is required to file a consolidated Arizona
corporation income tax return. The Arizona corporation income tax rate is 9% of
taxable income and is computed on taxable business activity in Arizona. Arizona
taxable income is determined using the three factor apportionment method which
considers 1) average yearly value of real and tangible personal property; 2)
wages, salaries, commissions and other compensation of employees; and 3) gross
sales.
For additional information regarding taxation, see Note 12 of Notes to
Consolidated Financial Statements.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FINANCIAL REVIEW
Northwestern Financial Corp. (the "Company") was organized as an Iowa
corporation at the direction of Northwestern Savings Bank, F.S.B., (the "Bank")
for the purpose of becoming a holding company for the Bank as part of the
conversion from a federal mutual savings bank to a federal stock savings bank.
See Note 15 of Notes to Consolidated Financial Statements for additional
information concerning the Bank's stock conversion.
The primary business of the Company through its wholly-owned subsidiary,
the Bank, is to attract federally-insured deposits from the general public and
invest these funds primarily in loans secured by first mortgages on real estate.
The Company emphasizes the origination of loans for the purchase or construction
of residential, multifamily and commercial real estate. Real estate loans
originated are both held for investment and sold into the secondary market or
through participation agreements with other financial institutions, depending on
the Company's portfolio goals and objectives. In addition, to a lesser extent,
the Company originates commercial leases and consumer loans, including
automobile loans, home equity loans and loans secured by savings accounts. The
Company earns additional income from interest on investment and mortgage-backed
securities and servicing revenue on loans serviced for others.
The Company primarily provides financial services to the residents of the
Red River Valley and more specifically to those customers residing in Fargo and
Wahpeton, North Dakota and Moorhead, Minnesota.
The operations of the Bank and the entire thrift industry are significantly
affected by prevailing economic conditions, competition and the monetary and
fiscal policies of governmental agencies. Lending activities are influenced by
the demand for and supply of housing, competition among lenders, the level of
interest rates and the availability of funds. Deposit flows and costs of funds
are influenced by prevailing market rates of interest, primarily on competing
investments, account maturities and the levels of personal income and savings in
the market area.
77
RESULTS OF OPERATIONS FOR THE YEARS ENDED JUNE 30, 1995, 1994 AND 1993
Performance Summary. The Company reported net income of $86,000 for
fiscal 1995, compared to $879,000 for fiscal 1994 and $714,000 for fiscal 1993.
Earnings per common share for fiscal 1995 and 1994 were $0.18 and $0.37 per
share, respectively. Earnings per share for fiscal 1994 is based upon earnings
from the date of conversion, December 31, 1993, to the end of the year, June 30,
1994. On a pro forma basis which assumes the weighted average common and common
equivalent shares outstanding to be the same as the average shares outstanding
during the period from the date of conversion to end of the year, earnings per
share for the year ended June 30, 1994 amounted to $1.84. This computation does
not reflect the pro forma effects of the investment income that would have been
earned had the net proceeds from the stock offering been received at the
beginning of the year. As a result of the adoption of Statement of Financial
Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes," the
Company realized a non-recurring gain of $325,000 or $0.68 per share for the
year ended June 30, 1994. Earnings per share amounts have not been presented
for the year ended June 30, 1993, which was prior to the stock conversion.
In fiscal 1993, the Bank sold substantially all of the assets and
transferred substantially all of the liabilities of its two branch offices
located in Bismarck and Mandan, North Dakota. The Bank completed the sale of
the Bismarck branch office on January 2, 1993 and completed the sale of the
Mandan branch office on December 31, 1992. See Note 14 of Notes to Consolidated
Financial Statements for additional information concerning the branch sales.
Net Interest Income. A significant component of the Company's earnings is
net interest income, which is the difference between interest earned on its
loans, investments and other earning assets (interest income) and the interest
paid on interest-bearing liabilities (interest expense). This amount, when
divided by average interest-earning assets, is referred to as the net interest
margin, expressed as a percentage. Net interest income and net interest margin
are affected by changes in interest rates, the volume and the mix of interest-
earning assets and interest-bearing liabilities and the level of non-performing
assets. The arithmetic difference between the yield on interest-earning assets
and the cost of interest-bearing liabilities expressed as a percentage is
referred to as the interest rate spread.
Net interest income for the year ended June 30, 1995 was $1.8 million,
compared to $1.9 million in fiscal 1994 and 1993. Total average interest-
earning assets increased 5% during fiscal 1995, compared to a 15.6% decrease in
fiscal 1994. The net interest margin for fiscal 1995 was 3.29%, compared with
3.68% in fiscal 1994 and 3.11% in fiscal 1993. In addition, the Company's
interest rate spread was 2.55% in fiscal 1995, compared with 3.08% and 2.92% in
fiscal 1994 and 1993, respectively.
The decrease in net interest income, net interest margin and interest rate
spread during fiscal 1995, compared to fiscal 1994 was due to the rising rate
paid on deposit accounts. The Company's weighted average rate for deposits,
including non-interest-bearing deposits, was 5.49% at June 30, 1995, compared to
4.00% at June 30, 1994. The effect of the rising cost of deposits on the
earnings of the Company was partially offset by an increase in earning assets.
Net loans receivable at June 30, 1995 totaled $48.1 million, an increase of
$10.7 million or 28.7% from $37.4 million at June 30, 1994. The Company's loan
growth was financed with deposit growth of $5.6 million, net proceeds received
from Federal Home Loan Bank advances of $3.6 million and proceeds from maturing
investments which were originally purchased with the December 1993 stock
conversion proceeds. The Company initially invested the conversion proceeds in
shorter term lower yielding assets. As suitable opportunities arise, the
Company continues to reinvest such proceeds in higher yielding loans and other
earning assets which meet the Company's goals and objectives.
In fiscal 1994, net interest margin and interest rate spread increased
primarily due to a lower cost of funds, an increase in the ratio of average
interest-earning assets to average interest-bearing liabilities and the
completion of the restructuring of a large loan and recognizing interest income
of $66,500 which was collected under the new terms of the loan. The favorable
impact of the lower cost of funds was partially offset by the downward repricing
78
of loans that were tied to variable index rates. The increase in the ratio of
average interest-earning assets to average interest-bearing liabilities to 117%
for fiscal 1994, compared to 104% for fiscal 1993, was due to the investment of
the stock conversion proceeds received in December 1993 into earning assets.
In fiscal 1993, net interest income decreased as a result of the Bank
completing the sale of the Bismarck and Mandan branch offices on January 2, 1993
and December 31, 1992, respectively. As a result of such sales, loans
aggregating $9 million were sold and deposits of $23.1 million were transferred
to the acquiring financial institution. The Company's interest rate spread also
decreased to 2.92% for the year ended June 30, 1993 from 3.01% for the year
ended June 30, 1992. The decrease is the result of the Company's high level of
cash equivalents, which typically carry lower rates of interest than other
interest-earning assets such as loans, during the first half of fiscal 1993 to
fund the sale of the two branches.
79
The following table presents the Company's average balance sheets, interest
and dividends earned or paid, and related yields and rates on major categories
of the Company's interest-earning assets and interest-bearing liabilities:
Year Ended June 30,
------------------------------------------------------------
1995 1994
--------------------------- -------------------------------
Average Average
Average Yield/ Average Yield/
Balance Interest Cost Balance(1) Interest Cost
------- -------- -------- ---------- -------- --------
(Dollars in thousands)
Interest-earning assets:
Loans receivable....................... $41,690 $3,345 8.02% $40,407 $3,220 7.97%
Investment securities held to
maturity (2)......................... 10,543 572 5.43 8,641 369 4.27
Mortgage-backed securities (3)......... 1,682 111 6.60 611 35 5.73
Cash equivalents....................... 626 37 5.91 2,151 83 3.86
Other investments...................... 704 55 7.81 787 64 8.13
------- ------ ------- ------
Total interest-earning assets........ 55,245 4,120 7.46 52,597 3,771 7.17
------ ------
Non-interest-earning assets (1)........... 3,417 2,693
------- -------
Total assets......................... $58,662 $55,290
======= =======
Interest-bearing liabilities:
Certificate accounts................... $35,550 $1,954 5.50 $34,493 $1,582 4.59
Other deposits......................... 9,305 216 2.32 10,295 251 2.44
FHLB advances.......................... 2,035 130 6.39 162 5 3.09
------- ------ ------- ------
Total interest-bearing liabilities... 46,890 2,300 4.91 44,950 1,838 4.09
------ ---- ------ ------
Non-interest-bearing liabilities (1)...... 2,874 3,705
Stockholders' equity (1).................. 8,898 6,635
------- -------
Total liabilities and stockholders'
equity............................. $58,662 $55,290
======= =======
Net interest income....................... $1,820 $1,933
====== ======
Interest rate spread...................... 2.55% 3.08%
===== ======
Net interest margin....................... 3.29% 3.68%
===== ======
Ratio of average interest-earning
assets to average interest-bearing
liabilities............................. 117.82% 117.01%
====== ======
-------------------------------
1993
-------------------------------
Average
Average Yield/
Balance(1) Interest Cost
---------- -------- --------
Interest-earning assets:
Loans receivable....................... $46,841 $4,246 9.06%
Investment securities held to
maturity (2)......................... 3,740 164 4.39
Mortgage-backed securities (3)......... 1,028 82 7.98
Cash equivalents....................... 9,986 364 3.64
Other investments...................... 754 63 8.36
------- ------
Total interest-earning assets........ 62,349 4,919 7.89
------
Non-interest-earning assets (1)........... 4,852
-------
Total assets......................... $67,201
=======
Interest-bearing liabilities:
Certificate accounts................... $45,268 $2,447 5.41
Other deposits......................... 13,861 447 3.22
FHLB advances.......................... 917 88 9.60
------- ------
Total interest-bearing liabilities... 60,046 2,982 4.97
------ ----
Non-interest-bearing liabilities (1)...... 3,487
Stockholders' equity (1).................. 3,668
-------
Total liabilities and stockholders'
equity............................. $67,201
=======
Net interest income....................... $1,937
======
Interest rate spread...................... 2.92%
====
Net interest margin....................... 3.11%
====
Ratio of average interest-earning
assets to average interest-bearing
liabilities............................. 103.84%
======
_____________________________
(1) Average balances are based upon month-end balances.
(2) Tax-exempt income was not significant and thus has not been presented on a
tax equivalent basis.
(3) Includes securities available for sale.
80
The following table allocates the period-to-period changes in the Company's
various categories of interest income and interest expense between changes due
to changes in volume (calculated by multiplying the change in average volume of
the related interest-earning asset or interest-bearing liability category by the
prior year's rate) and changes due to changes in rate (change in rate multiplied
by prior year's volume):
Year Ended June 30,
------------------------------------------------------------------------------
1995 vs. 1994 1994 vs. 1993
----------------------------------- --------------------------------------
Increase (Decrease) Increase (Decrease)
Due to Due to
------------------------------------ --------------------------------------
Rate/ Rate/
Volume Rate Volume Total Volume Rate Volume Total
------ ---- ------ ----- ------ ---- ------ -----
(In thousands)
Interest Income:
Loans receivable...................... $ 102 $ 23 $ 1 $ 126 $ (583) $ (511) $ 68 $ (1,026)
Investment securities held
to maturity......................... 81 100 22 203 215 (4) (6) 205
Mortgage-backed securities (1)........ 62 5 8 75 (34) (23) 10 (47)
Cash equivalents...................... (59) 43 (30) (46) (285) 22 (17) (280)
Other investments..................... (7) (2) -- (9) 3 (2) -- 1
----- ----- ---- ----- ----- ----- ----- -------
Total interest-earning assets....... 179 169 1 349 (684) (518) 55 (1,147)
----- ----- ---- ----- ----- ----- ----- -------
Interest expense:
Certificate accounts.................. 48 314 10 372 (583) (373) 91 (865)
Other deposits........................ (24) (11) 1 (34) (115) (108) 27 (196)
FHLB advances......................... 61 5 58 124 (68) (66) 51 (83)
----- ----- ---- ----- ----- ----- ----- -------
Total interest-bearing liabilities.. 85 308 69 462 (766) (547) 169 (1,144)
----- ----- ---- ----- ----- ----- ----- -------
Change in net interest income............. $ 94 $(139) $(68) $(113) $ 82 $ 29 $(114) $ (3)
===== ===== ==== ===== ===== ===== ===== =======
______________
(1) Includes securities available for sale
Non-interest Income. Non-interest income has been a significant source of
revenue for the Company in past periods. Non-interest income was $565,000 for
fiscal 1995 compared to $1.1 in fiscal 1994 and 1993.
Gains on sales of loans held for sale were $121,000 in fiscal 1995, a
decrease from gains recognized in fiscal 1994 and 1993 of $621,000 and $597,000,
respectively. Originations of loans held for sale totaled $9.7 million in fiscal
1995, compared to $37.4 million and $37.8 million in fiscal 1994 and 1993
respectively. Similar to other institutions, the Company has experienced a
significant decline in gains on sale of loans held for sale as a result of
rising market interest rates for most of fiscal 1995 that has led to diminishing
refinancing activity. Gains or losses on sales of loans held for sale may
fluctuate significantly from period to period due to changes in interest rates
and volume, and results in any period relating to these transactions may not be
indicative of results which will be obtained in future periods.
In May 1995, the FASB issued SFAS No. 122, "Accounting for Mortgage
Servicing Rights." SFAS No. 122 amends the accounting for mortgage servicing
rights prescribed under SFAS No. 65, "Accounting for Certain Mortgage Banking
Activities," to eliminate the accounting distinction between rights to service
mortgage loans for others that are acquired through loan origination activities
and those acquired through purchase transactions. Under the provisions of SFAS
No. 122, entities are required to recognize as separate assets, rights to
service mortgage loans for others, however those servicing rights are acquired.
An entity that either purchases or originates mortgage loans and subsequently
sells or securitizes the mortgage loans and retains the mortgage servicing
rights is required to allocate the total cost of the mortgage loans to the
mortgage servicing rights and the mortgage loans (without the
81
mortgage servicing rights) based on their relative fair values. If it is not
practicable to estimate the fair values of the mortgage servicing rights and the
mortgage loans, the entire cost of acquiring the loans should be allocated to
the mortgage loans and no cost should be allocated to the mortgage servicing
rights. SFAS No. 122 also requires that capitalized mortgage servicing rights
be assessed for impairment based on the fair value of those rights. SFAS No.
122 applies to financial statements issued for fiscal years beginning after
December 15, 1995, with earlier application encouraged. Management has not yet
determined what effect, if any, SFAS No. 122 will have on the Company's results
of operations.
Fees and service charges decreased $113,000 in fiscal 1995 and $51,000 in
fiscal 1994, totaling $190,000, $303,000 and $354,000 for the years ended June
30, 1995, 1994 and 1993, respectively. The decrease in fiscal 1995 was due to a
reduction in loan closing fees which are fees received from the borrower to
reimburse the Company for expenses incurred with third parties during the loan
origination process. The Company also incurred a decrease in lease broker fees
in fiscal 1995 as the Company retained a majority of its lease originations in
its loan portfolio for investment purposes. The fiscal 1994 decrease in fees
and service charges was primarily due to a decrease in deposit service charges
as a result of the Company transferring $23.1 million of deposits to another
financial institution in connection with the branch sales.
Securities gains totaled $6,000 for fiscal 1995, compared to net securities
loss of $139,000 for fiscal 1994. During fiscal 1994, the Company sold its
$13.5 million investment in two government bond mutual funds at a pretax net
loss of $139,000 due to management's concern that a continued rise in market
interest rates would further impair the value of the mutual funds. The proceeds
from the sales of the mutual funds were reinvested in commercial paper and
securities backed by the U.S. Government where the risk of principal loss is
significantly less since management has the ability to hold the securities to
maturity. See Note 1 of Notes to Consolidated Financial Statements for
additional information regarding the accounting polices for investment
securities.
Included in fiscal 1995 non-interest income were pretax gains of $124,000
from the sale of certain real estate properties developed and held for sale and
acquired through foreclosure, compared with pretax gains of $261,000 and pretax
losses of $44,000 for fiscal 1994 and 1993, respectively. The proceeds from
these sales were invested into earning assets which will generate future income
for the Company.
Non-interest Expense. Total non-interest expense was $2.3 million for
fiscal 1995, compared to $2.1 million and $2 million for fiscal 1994 and 1993,
respectively. The following table presents the components of non-interest
expense:
Year Ended June 30,
---------------------------
1995 1994 1993
------ ------ ------
(In thousands)
Compensation and employee benefits.. $ 1,202 $ 1,053 $ 909
Provision for real estate losses.... - - 8
Real estate owned expenses.......... 24 36 58
Occupancy and equipment............. 289 240 284
Federal deposit insurance premiums.. 104 109 176
Data processing..................... 139 95 124
Advertising......................... 121 49 35
Professional service expenses....... 184 167 139
Other............................... 287 345 288
------- ------- -------
Total non-interest expense..... $ 2,350 $ 2,094 $ 2,021
======= ======= =======
82
Compensation and employee benefits, representing 51.1% of total non-
interest expense in fiscal 1995 compared to 50.3% in fiscal 1994 and 45% in
fiscal 1993, increased $149,000 or 14.1% in fiscal 1995. The fiscal 1995
increase was primarily due to the hiring of additional employees in the fourth
quarter of fiscal 1994 and during fiscal 1995 to operate the new branch office
in south Fargo and the loan production office in Chandler, Arizona and an
additional six months of employee benefit expense associated with the new
Employee Stock Ownership Plan ("ESOP") and Management Recognition Plans ("MRPs")
which were formed in December 1993. See Note 13 of Notes to Consolidated
Financial Statements for additional information concerning employee benefits.
Compensation and employee benefits in fiscal 1994 totaled $1.1 million, an
increase of $144,000 or 15.8%. The fiscal 1994 increase was largely due to a
non-recurring charge of $42,000 for amounts paid to officers to offset income
tax resulting from the recognition of income on awards received under employee
benefit plans, increased staffing needs in advance of opening a full-serviced
branch in south Fargo and compensation expenses associated with the ESOP and
MRPs. Subsequent to June 30, 1995, the Company adopted a Directors' Retirement
Plan which will provide a benefit to each director and director emeritus of the
Bank based upon their years of previous service with the Bank.
No provision for real estate losses was provided in fiscal 1995 and 1994,
compared to $8,000 in fiscal 1993. The amounts provided for real estate losses
in each of the three years reflects the decrease in non-performing assets and
stabilization of real estate markets in Arizona where the Company once held a
significant amount of real estate. See "Financial Condition - Allowance for Loan
and Real Estate Losses" for further details on the provision for real estate
losses.
The decrease in real estate owned expense in fiscal 1995, 1994 and 1993,
was consistent with the decrease in real estate owned during the three year
period. At June 30, 1995, 1994, 1993 and 1992, real estate owned totaled
$87,000, $201,000, $532,000 and $3.2 million, respectively.
Occupancy and equipment increased $49,000 to $289,000 during fiscal 1995.
The increase is due to additional depreciation expense incurred relating to new
computer and phone communication equipment and the new branch office in south
Fargo. Occupancy and equipment decreased $44,000 to $240,000 in fiscal 1994 from
$284,000 in fiscal 1993 as a result of the disposal of two branch office
locations in Bismarck and Mandan.
Federal deposit insurance premiums totaled $104,000, $109,000 and $176,000,
consistent with average deposits of $44.9 million, $44.8 million and $59.1
million for fiscal years 1995, 1994 and 1993, respectively. The decrease in
federal deposit insurance premiums and average deposits between fiscal 1994 and
1993 was a result of the branch sales during fiscal 1993 and a reduction in the
assessment rate as a result of the improvement in the Bank's supervisory
subgroup and risk classification categories. The thrift industry faces the
prospect of significantly higher deposit insurance premiums than those paid by
banks, and this may have an adverse effect on the Company's ability to attract
and retain deposits. In addition, the U. S. Department of the Treasury recently
disclosed that it is considering a plan to recapitalize the Savings Association
Insurance Fund ("SAIF") that would entail charging the thrift industry
approximately $6 billion in the form of a special assessment, among other
proposals under consideration. The special assessment recently estimated to
range from .78% to .90% of the Company's total insured deposits, or
approximately $390,000 to $450,000 pretax, would be in addition to the Company's
annual deposit insurance premium. Deposit insurance premium rates would likely
decline following such a charge. It is too early to predict whether the
proposed special assessment will be approved, or, if approved, when it will be
charged. Although the current proposed recapitalization plans do not address
the merger of the thrift and bank charters, it is believed savings institutions
would be required to convert their thrift charters to commercial bank charters.
Under existing tax laws, the conversion of a thrift charter into a bank charter,
whether immediate or over a prescribed phase-in period, has significant
financial accounting and income tax ramifications. Such conversion may require
the Company to recapture retained earnings appropriated to bad debt reserves
that have been deducted for federal income tax purposes. As a result, once
legislation requiring a thrift to convert its charter to a bank charter is
adopted, even if the required conversion will not occur for some time, the
thrift will be required to charge to both earnings and regulatory capital the
additional deferred taxes it would have to establish. The Company cannot
predict at this time if such a conversion will be required. At June 30, 1995,
retained earnings included $969,00 for which no provision for federal income tax
has been provided.
83
Data processing increased $44,000 in fiscal 1995 and decreased $29,000 in
fiscal 1994. The increase in fiscal 1995 was due to additional costs incurred
in offering an on-site automated teller machine, the leasing of banking
operating software for the new computer system and the opening of a new branch
office in south Fargo. The decrease in fiscal 1994 was the result of the
exclusion of data processing costs for the full fiscal year that were previously
associated with the branches that were sold in January 1993 and December 1992.
Advertising expense totaled $121,000 in fiscal 1995, an increase of $73,000
from fiscal 1994. The increase reflects the Company's strategy to compete in
its market area in attracting low-cost deposits and promote its new branch
location.
Professional service expenses increased $16,000 and $28,000 in fiscal 1995
and 1994, respectively. These increases are the result of additional
professional services being incurred which are associated with being a
Securities and Exchange Commission registrant.
Other non-interest expense decreased $57,000 in fiscal 1995 following an
increase of $56,000 in fiscal 1994. The decrease in fiscal 1995, was the result
of a decrease in mortgage brokerage activity. Conversely, the increase in
fiscal 1994 reflects an increase in mortgage brokerage activity in addition to
the purchase of directors and officers insurance.
Income Taxes. The Company recorded an income tax benefit of $51,000 in
fiscal 1995, compared to income tax expense of $415,000 in fiscal 1994 and
$322,000 in fiscal 1993. An income tax benefit was recognized in fiscal 1995 as
a result of the relatively low pretax income and adjustments to book income
which decreased taxable amounts to arrive at a taxable loss. Such adjustments
included the tax effect of tax-exempt income, net of related expenses of
$27,000, received from the Company's investment in a municipal revenue bond and
the cash surrender value of life insurance policies on certain current and
former executive officers and directors of the Bank. In addition, a tax benefit
of $30,000 was recognized during fiscal 1995 as a result of an increase in the
Company's statutory base year reserves due to growth in loans receivable during
fiscal 1995.
Income tax expense represented 42.8% and 31.1% of pretax income for fiscal
1994 and 1993, respectively. The Company's fiscal 1994 effective tax rate
reflects additional taxes provided for the estimated interest exposure incurred
as a result of certain tax benefits that were taken on the Company's tax returns
in prior years and state income tax unitary filing positions. The Company's
fiscal 1993 effective tax rate reflects benefits obtained under Accounting
Principal Board Opinions No. 11 and No. 23 from the amount which expected fiscal
1993 tax bad debt deductions exceeded provisions for loan losses for financial
reporting purposes.
Effective July 1, 1993, the Company adopted SFAS No. 109, "Accounting for
Income Taxes." The cumulative effect of this change in accounting principal was
to increase net income by $325,000. Further detail on income taxes is provided
in Note 12 of Notes to Consolidated Financial Statements.
FINANCIAL CONDITION AT JUNE 30, 1995, 1994 AND 1993
Loans Receivable. The following table sets forth information about loans
held in the Company's loan portfolio:
At June 30,
---------------------------------------------
1995 1994 1993 1992 1991
-------- -------- ------- ------- -------
(In thousands)
Loans held for sale............ $ 785 $ 445 $ 3,133 $ 1,636 $ 1,925
Construction loans............. 6,326 727 1,171 665 2,331
Residential real estate loans.. 15,297 12,589 13,082 22,795 28,264
Multifamily real estate loans.. 17,347 14,095 13,672 16,108 15,494
Commercial real estate loans... 7,761 8,419 9,521 10,077 10,203
Commercial leases and loans.... 1,956 832 467 1,343 2,800
Consumer loans................. 2,320 1,634 1,165 2,706 3,796
------- ------- ------- ------- -------
$51,792 $38,741 $42,211 $55,330 $64,813
======= ======= ======= ======= =======
84
Loans held for sale at June 30, 1995 and 1994 have decreased in comparison
to previous periods as a result of the decrease in origination and refinancing
demand caused by the increase in market interest rates during fourth quarter of
fiscal 1994 and most of fiscal 1995.
Construction loans at June 30, 1995 totaled $6.3 million of which $5.7
million is for the construction of multifamily and commercial real estate and
$630,000 is for the construction of residential real estate.
At June 30, 1995 residential real estate loans totaled $15.3 million or
29.5% of loans, an increase of $2.7 million from June 30, 1994 residential real
estate loans of $12.6 million. The increase reflects the origination of $4.1
million of adjustable-rate residential real estate loans which were placed in
the Company's loan portfolio for investment purposes. At June 30, 1995, the
Company's residential real estate loan portfolio was comprised of $12.9 million
of adjustable-rate loans and $2.4 million of fixed-rate loans.
Multifamily real estate loans increased $3.3 million during fiscal 1995 as
the Company has become more active in originating and purchasing multifamily
loans. Included in multifamily loans is a loan concentration of four loans
aggregating $1.4 million which are included in loans subject to management
concern. At June 30, 1995 these loans were listed as 60 days delinquent. The
loans are secured by multifamily real estate located in Fargo, North Dakota.
Management continues to closely monitor the performance of these loans and
properties.
Commercial real estate loans decreased $658,000 during fiscal 1995 to $7.8
million at June 30, 1995. The decrease is primarily the result of loan
repayments and the low level of commercial real estate originations in fiscal
1995. At June 30, 1995, the Company had one restructured loan with an
outstanding balance of $514,000 that was secured by commercial real estate
located in Minot, North Dakota. The restructured loan represents a
participation interest purchased by the Company in January 1987 on a $1.5
million loan. Subsequent to year end, the servicer of the loan notified the
Company that the real estate taxes for the property securing the loan had become
delinquent. Management is closely monitoring the resolution of this matter and
at this time perceives the collateral securing the loan to be adequate to cover
the loan's outstanding balance and delinquent real estate taxes.
During fiscal 1995 commercial leases and loans increased $1.1 million, or
135%, totaling $2 million at June 30, 1995. By providing diversification to the
loan portfolio, the Company has emphasized the growth in leases as these types
of loans generally provide higher yields and shorter loan terms than real estate
loans.
Consumer loans totaled $2.3 million at June 30, 1995, an increase of
$686,000 from June 30, 1994. Home equity loans of $1.2 million, comprising 53%
of consumer loans at June 30, 1995, increased $578,000 from $653,000 at June 30,
1994. In addition, automobile loans increased $164,000 to $707,000 at June 30,
1995 from $543,000 at June 30, 1994.
During the mid-1980's, the Bank actively originated and purchased loans
secured by properties in Arizona, but ceased such activities in early 1990,
except in instances to facilitate the sale of real estate owned. To a limited
extent, the Bank has resumed the placement of loans secured by properties in
Arizona in its loan portfolio to be held for investment purposes. Such loans
are originated by the Bank's new loan production office in Chandler, Arizona.
At June 30, 1995, $13.8 million, or 26.7% of the Company's gross loans, were
secured by properties located in Arizona, $2.2 million of which loans were
originated since the opening of the Arizona loan production office in May 1994.
Allowance for Loan and Real Estate Losses. The Company recognizes that
credit losses will be experienced and that the risk of loss will vary with,
among other things, the type of loan being made, the creditworthiness of the
borrower over the term of the loan, general economic conditions and, in the case
of a secured loan, the quality of the security for the loan. It is management's
policy to maintain an adequate allowance for loan losses based on, among other
things, the Company's historical loan loss experience, evaluation of economic
conditions and regular reviews of delinquencies and loan portfolio quality. The
Company increases its allowance for loan losses by charging provisions for
possible loan losses against income.
85
The Company's methodology for establishing the allowance for loan losses
takes into consideration probable losses that have been identified in connection
with specific loans as well as losses in the loan portfolio that have not been
identified but can be expected to occur. Management conducts monthly reviews of
the loan portfolio and evaluates the need to establish general allowances on the
basis of this review. Management continues to actively monitor the Company's
asset quality and to charge off loans against the allowance for loan losses when
appropriate.
Although management believes it uses the best information available to make
determinations with respect to the allowance for loan losses, future adjustments
may be necessary if economic conditions differ substantially from the economic
conditions in the assumptions used in making the initial determinations.
The allowance for loan losses was $850,000 or 1.6% of total gross loans at
June 30, 1995, compared to $851,000 or 2.2% of total loans at June 30, 1994 and
$850,000 or 2% of total loans at June 30, 1993. A summary of the allowance for
loan losses and selected statistics follows:
Year Ended June 30,
--------------------------
1995 1994 1993
------ ------ ------
(In thousands)
Balance at beginning of year..................... $ 851 $ 850 $ 864
Provision for losses............................. -- 12 --
Charge-offs...................................... (3) (14) (16)
Recoveries....................................... 2 3 2
------ ------ ------
Net charge-offs............................. (1) (11) (14)
------ ------ ------
Balance at end of year........................... $ 850 $ 851 $ 850
====== ====== ======
Year-end allowance for loan losses as a percent
of year-end gross loan balance................ 1.64% 2.20% 2.01%
====== ====== ======
Ratio of net loan charge-offs
to average loans outstanding.................. 0.01% 0.03% 0.03%
====== ====== ======
During fiscal 1995, 1994 and 1993, the Company sold real estate owned,
which was located in North Dakota and Arizona, in an attempt to reduce non-
performing assets. Such action led to a $3.1 million decrease in real estate
owned to $87,000 at June 30, 1995 from $3.2 million at June 30, 1992. As a
result of such sales, real estate charge-offs of reserves primarily provided in
previous years totaled $0, $88,000 and $330,000 during fiscal 1995, 1994 and
1993, respectively. Due to the stabilizing real estate market and improving
economic conditions both in North Dakota and Arizona, the Company recognized
gains on the sale of real estate of $124,000 and $261,000 during fiscal 1995 and
1994, respectively, compared to a loss of $44,000 during fiscal 1993.
A summary of the allowance for real estate losses follows:
Year Ended June 30,
----------------------------
1995 1994 1993
----- ------ ------
(In thousands)
Balance at beginning of year....... $ 22 $ 110 $ 432
Provision for losses........... -- -- 8
Charge-offs.................... -- (88) (330)
----- ----- -----
Balance at end of year............. $ 22 $ 22 $ 110
===== ===== =====
86
Real estate owned or expected to be acquired through foreclosure is
recorded at the lower of cost or fair value minus estimated costs to sell at the
date of transfer to real estate. If the fair value of an asset minus the
estimated costs to sell should decline to less than the carrying amount of the
asset, the deficiency is recognized through the allowance for real estate
losses. Real estate developed and held for sale is carried at lower of cost
less accumulated depreciation or net realizable value.
Non-performing Assets. The company continued to improve the credit
quality of the loan portfolio and to reduce the level of non-performing assets.
Non-performing assets include all non-accrual loans, restructured loans, real
estate acquired through foreclosure, loans meeting the criteria for in-substance
foreclosure and real estate developed and held for sale. Non-performing assets
are summarized in the following table:
At June 30,
--------------------------------------
1995 1994 1993
------ ------ ------
(In thousands)
Non-accrual loans...................................... $ 36 $ 10 $ 583
Restructured loans..................................... 514 518 516
Real estate............................................ 87 201 532
----- ------ ------
$ 637 $ 729 $1,631
===== ====== ======
Non-performing assets as a percentage of total assets.. 0.99% 1.33% 3.09%
===== ====== ======
In May 1993, the Financial Accounting Standards Board (the "FASB")
issued SFAS No. 114, "Accounting by Creditors for Impairment of a Loan." SFAS
No. 114 is applicable to all creditors and to all loans, uncollateralized as
well as collateralized, except large groups of smaller-balance homogeneous loans
that are collectively evaluated for impairment, loans that are measured at fair
value or at the lower of cost or fair value, leases and debt securities. SFAS
No. 114 requires that impaired loans be measured at the present value of
expected future cash flows by discounting those cash flows at the loan's
effective interest rate. The fair value of the collateral of an impaired
collateral-dependent loan or an observable market price, if one exists, may be
used as an alternative to discounting. As defined by SFAS No. 114, a loan is
considered impaired when, based on current information and events, it is
probable that a creditor will be unable to collect all amounts due according to
the contractual terms of the loan agreement. SFAS No. 114 applies to all loans
that are restructured in a troubled debt restructuring involving a modification
of terms. In October 1994, the FASB issued SFAS No. 118, "Accounting by
Creditors for Impairment of a Loan - Income Recognition and Disclosures." SFAS
No. 118 amends SFAS No. 114 to allow a creditor to use existing methods for
recognizing interest income on impaired loans, and to clarify disclosure
requirements. SFAS No. 114 and SFAS No. 118 apply to financial statements
issued for fiscal years beginning after December 15, 1994, with earlier
application encouraged. Management has not yet determined what effect, if any,
these pronouncements will have on the Company's results of operations.
Liquidity Management. The Company's primary sources of funds for
operations are deposits from its primary market area, borrowings from the
Federal Home Loan Bank of Des Moines, principal and interest payments on loans
and mortgage-backed securities and proceeds from maturing investment securities.
While maturities, borrowing activity and scheduled amortization of loans and
mortgage-backed securities are a predictable source of funds, deposit flows and
mortgage prepayments are greatly influenced by general interest rates, economic
conditions and competition.
In connection with the Company's operating activity the Company has been
actively involved in mortgage brokerage operations. The Company manages interest
rate risk by selling substantially all new originations of long-term, fixed-rate
residential real estate loans in the secondary market. The Company manages its
concentration risk by selling loans or participations in large multifamily loans
to other financial institutions. During the years ended June 30, 1995, 1994 and
1993, the Company originated mortgage loans held for sale of $9.7 million, $37.4
million
87
and $37.8 million, respectively. Proceeds from sales of loans held for sale
were $9.5 million, $40.7 million and $36.9 million during the years ended June
30, 1995, 1994 and 1993, respectively.
Generally the primary investing activity of the Company is the origination
of mortgage loans. The Company incurred cash outflows from net loan originations
of $10.2 million in fiscal 1995. However, due to low market interest rates
during fiscal 1994 and 1993, the consumer demand for adjustable-rate single
family residential real estate loans was at relatively low levels. The Company
received cash inflow from net loan repayments of $511,000 and $8.2 million
during fiscal 1994 and 1993, respectively, and proceeds from sale of loans in
connection with the branch sales of $9 million in fiscal 1993. Other investing
activities for fiscal 1995 included cash outflows of $6.4 million for the
purchase of investments and adjustable-rate mortgaged-backed securities and $1.1
million for the purchase of premises and equipment, primarily for the
construction of the new branch office in south Fargo. These cash outflows were
offset by proceeds from maturities of investment securities held to maturity of
$5.4 million.
The primary financing activity of the Company is the attraction of
deposits. During the year ended June 30, 1995, the Company experienced a net
increase in deposits of $5.6 million, compared to net reductions in deposits of
$2.4 million and $27.8 million for the years ended June 30, 1994 and 1993,
respectively. The large decrease in deposits during fiscal 1993 was due to the
branch sales. Other financing activity for fiscal 1995 included net proceeds
from Federal Home Loan Bank (the "FHLB") advances of $3.6 million. Such activity
primarily related to borrowings from the Company's open line of credit
arrangement with the FHLB of Des Moines whereby the Company may initiate
borrowings of up to $7 million.
The Bank is required to maintain minimum levels of liquid assets as defined
by the Office of Thrift Supervision (the "OTS") regulations. This requirement,
which may be varied at the direction of the OTS depending upon economic
conditions and deposit flows, is based upon a percentage of deposits and short-
term borrowings. The required minimum ratio is currently 5%. The Bank has
maintained average monthly liquidity ratios in excess of this requirement.
Investment Securities Held to Maturity. Investment securities held to
maturity decreased $1.9 million in fiscal 1995 to $7.6 million at June 30, 1995.
The decrease is consistent with the Company's ongoing effort to reinvest in
higher yielding loans and other earning assets. At June 30, 1995, the Company's
investment portfolio was comprised primarily of U.S. Government securities and
agency obligations. At June 30, 1995, the Company's investment portfolio
included two structured notes with an aggregate balance of $1.9 million. The
structured notes, held by the Company, are debt securities with derivative-like
characteristics and were issued by the International Bank for Reconstruction and
Development (the "IBRD") and the FHLB. The IBRD and FHLB notes mature in March
of 1998 and have interest rates that adjust quarterly and semi-annually,
respectively. Due to the minimal credit and interest rate risk and the short
duration of such securities, the Company has both the ability and intent to hold
these securities until maturity.
In May 1993, the FASB issued SFAS No. 115, "Accounting for Certain
Investments in Debt and Equity Securities." SFAS No. 115 addresses the
accounting and reporting for investments in equity securities that have readily
determinable fair values and for all investments in debt securities. SFAS No.
115 does not apply to unsecuritized loans. SFAS No. 115 requires investments in
equity and debt securities to be classified in one of three categories and
accounted for as follows:
1. Debt securities that the enterprise has the positive intent and ability to
hold to maturity are classified as held to maturity securities and reported
at amortized cost.
2. Debt and equity securities that are bought and held principally for the
purpose of selling them in the near term are classified as trading
securities and reported at fair value, with unrealized gains and losses
included in earnings.
88
3. Debt and equity securities not classified in the first two categories are
classified as available for sale securities and reported at fair value,
with unrealized gains and losses excluded from earnings and reported in a
separate component of stockholders' equity.
The Company adopted SFAS No. 115 effective July 1, 1994. In accordance
with SFAS No. 115, prior period financial statements have not been restated to
reflect the change in accounting method. Additional information on the
Company's adoption of SFAS No. 115 is provided in Note 1 to Consolidated
Financial Statements.
Mortgage-backed Securities Held to Maturity. At June 30, 1995, mortgage-
backed securities held to maturity totaled $2.1 million, an increase of $1.7
million from June 30, 1994. During fiscal 1995, the Company purchased $2
million of adjustable-rate GNMA securities to be held to maturity.
Deposits. Deposits totaled $49.6 million at June 30, 1995, compared to $44
million at June 30, 1994. Deposits are the primary source of the Company's
funds for use in lending and for other general business purposes. During the
year ended June 30, 1995, the Company experienced a net increase in deposits of
$5.6 million, compared to the net reductions in deposits of $2.4 million and
$27.8 million for the years ended June 30, 1994 and 1993, respectively. The
large decrease in deposits during fiscal 1993 was due to the branch sales. See
Note 14 of Notes to Consolidated Financial Statements. In order to provide a
higher level of service and to attract and retain both deposit and loan
customers, the Company constructed a new branch office in south Fargo, North
Dakota. At June 30, 1995, the south Fargo branch office had deposits
aggregating $1.6 million.
Federal Home Loan Bank Advances. At June 30, 1995, FHLB advances totaled
$3.6 million. These advances were used to fund the purchase of mortgaged-backed
securities held to maturity and loan demand.
Capital Management. The Bank currently exceeds the capital standards
defined as "well capitalized" established by the regulatory agencies. See Note
15 of the Notes to Consolidated Financial Statements for additional information
concerning capital requirements. The Bank conducts an ongoing assessment of its
capital needs in order to maintain an adequate level of capital to support
business growth and ensure depositor protection.
Asset Liability Management. A significant part of the Company's overall
risk management objectives has been the reduction of interest rate risk, or
minimizing the impact of future interest rate changes on net interest income.
Management of interest rate risk is accomplished by adjusting the composition of
loans, investments and deposits, and matching the maturities or repricing of
earning assets and interest-bearing liabilities. While no single measure can
completely capture the impact of changes in interest rates on net interest
income, one gauge of interest rate sensitivity is to measure, over a variety of
time periods, the differences in the amounts of the Company's rate sensitive
assets and rate sensitive liabilities. These differences, or "gaps," provide an
indication of the extent that net interest income may be affected by future
changes in interest rates. Management has, for several years, sought to
minimize the adverse impact of changes in interest rates by affecting a better
matching of interest rate sensitivity between assets and liabilities.
The primary strategies used by the Company to manage interest rate risk
have included selling substantially all new originations of long-term, fixed-
rate single family residential mortgage loans, retaining adjustable-rate single
family residential mortgage loans and emphasizing portfolio growth in commercial
leases and consumer loans which generally have shorter terms to maturity and
higher interest rates. The Company also originates multifamily and commercial
real estate loans which are generally adjustable-rate. On occasion long-term
funding has been utilized through Federal Home Loan Bank advances.
89
The following table sets forth the Company's estimated interest sensitivity
gap between interest-earning assets and interest-bearing liabilities at June 30,
1995:
Over One Over Three
One Year Through Through Over Five
or Less Three Years Five Years Years Total
--------- ------------ ----------- ---------- --------
(In thousands)
Interest-earning assets(1):
Residential loans............................ $ 13,066 $ 1,973 $ 821 $ 852 $ 16,712
Multi-family real estate loans............... 18,714 3,584 179 46 22,523
Commercial real estate....................... 4,297 3,032 416 536 8,281
Other loans.................................. 1,902 1,385 929 60 4,276
Mortgage-backed securities held to maturity.. 2,064 -- -- -- 2,064
Investment securities held to maturity....... 4,701 2,431 -- 470 7,602
Other........................................ 1,405 -- -- 632 2,037
-------- -------- -------- -------- --------
Total....................................... $ 46,149 $ 12,405 $ 2,345 $ 2,596 $ 63,495
======== ======== ======== ======== ========
Interest-Bearing Liabilities:
Transaction accounts (2)..................... $ 9,216 $ -- $ -- $ -- $ 9,216
Certificates of deposit (3).................. 30,967 5,862 3,525 -- 40,354
FHLB advances................................ 3,116 41 48 387 3,592
-------- -------- -------- -------- --------
Total....................................... $ 43,299 $ 5,903 $ 3,573 $ 387 $ 53,162
-------- -------- -------- -------- --------
Interest sensitivity gap...................... $ 2,850 $ 6,502 $ (1,228) $ 2,209 $ 10,333
======== ======== ======== ======== ========
Cumulative gap................................ $ 2,850 $ 9,352 $ 8,124 $ 10,333 $ 10,333
======== ======== ======== ======== ========
As percentage of total assets................. 4.4% 14.5% 12.6% 16.0% 16.0%
======== ======== ======== ======== ========
_____________________
(1) Based upon a) contracted maturity, b) repricing date, if applicable, c)
projected prepayments of principal based upon experience. Includes loans
in process of $2.5 million that have not yet been disbursed to the
borrower.
(2) Includes non-interest-bearing deposits.
(3) Includes certificates of deposit with original maturities of one year with
terms that allow the depositors a one-time opportunity to reset their
interest rate to the Bank's current offered rate.
At June 30, 1995, the Bank had a positive one-year interest rate
sensitivity gap of 4.4%. Generally, for institutions with a positive gap, net
interest income would be expected to be adversely affected by falling interest
rates and positively affected by rising interest rates. Generally, during a
period of rising interest rates, a negative gap would be expected to adversely
affect net interest income while a positive gap would be expected to result in
an increase in net interest income, while conversely during a period of falling
interest rates, a negative gap would be expected to result in an increase in net
interest income and a positive gap would be expected to adversely affect net
interest income. The Board of Directors does not set target gap ratios.
Notwithstanding its positive gap position at June 30, 1995, the Bank believes
that its net interest income would be adversely affected by rising interest
rates and positively affected by falling interest rates in the short term
because many of the Bank's adjustable-rate loans are tied to an index that lags
changes in market interest rates, while deposit rates are set weekly based upon
prevailing market rates.
Certain shortcomings are inherent in the method of analysis presented in
the above table. Although certain assets and liabilities may have similar
maturities or periods of 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 of assets and liabilities may lag behind
changes in market interest rates. Certain assets, such as adjustable-rate
mortgages, have features which restrict changes in interest rates on a short
term basis and over the life of the asset. In the event of a change in interest
rates,
90
prepayment and early withdrawal levels would likely deviate significantly from
those assumed in calculating the table. The ability of many borrowers to
service their debt may decrease in the event of an interest rate increase.
Impact of Inflation and Changing Prices. The Consolidated Financial
Statements and Notes thereto presented herein have been prepared in accordance
with generally accepted accounting principles, which require the measurement of
financial position and operating results in terms of historical dollars without
considering the changes in the relative purchasing power of money over time due
to inflation. The impact of inflation is reflected in the increased cost of the
Company's operations. Unlike most industrial companies, nearly all the assets
and liabilities of the Company's are monetary in nature. As a result, interest
rates have a greater impact on the Company's performance than do the effects of
general levels of inflation. Interest rates do not necessarily move in the same
direction or to the same extent as the prices of goods and services.
FINANCIAL CONDITION AT MARCH 31, 1996 AND JUNE 30, 1995
Total assets increased by $5.4 million to $69.9 million at March 31, 1996
from $64.5 million at June 30, 1995. This increase was the result of the
Company's strategy to gradually grow earning assets to increase earnings.
Earning assets at March 31, 1996 totaled $66.1 million, compared to $60.7
million at June 30, 1995. The growth in earning assets was primarily funded by
an increase in deposits and proceeds from Federal Home Loan Bank advances.
Securities Available for Sale. Securities available for sale are carried
at fair value with the unrealized holding gains or losses, net of deferred
income taxes, reported as a separate component of stockholders' equity.
Securities available for sale totaled $3.6 million and $414,000 at March 31,
1996 and June 30, 1995, respectively. During the second quarter of fiscal 1996,
the Financial Accounting Standards Board ("FASB") issued a Special Report, "A
Guide to Implementation of Statement 115 on Accounting for Certain Investments
in Debt and Equity Securities." The Special Report permitted a one-time
opportunity for companies to reassess the classification of their investment and
mortgage-backed securities between available for sale and held to maturity
portfolios without the risk of tainting other securities within these
portfolios. Such redesignations were to be made in conjunction with the
implementation of the FASB's supplemental guidance. After evaluating the
Company's liquidity needs and strategic objectives, the Company transferred
investment securities of $1.9 million and mortgage-backed securities of
$964,000 from held to maturity to available for sale in December 1995. In
addition, the Company purchased mortgage-backed securities of $461,000 during
the second quarter of fiscal 1996, to be held in its available for sale
portfolio. At March 31, 1996, investment securities available for sale were
composed of two structured notes with an aggregate balance of $1.9 million. The
structured notes, held by the Company, are debt securities with derivative-like
characteristics and were issued by the International Bank for Reconstruction and
Development ("IBRD") and the Federal Home Loan Bank ("FHLB"). The IBRD and FHLB
notes mature in March of 1998 and have interest rates that adjust quarterly and
semi-annually, respectively.
Investment Securities Held to Maturity. Investment securities held to
maturity are carried at amortized cost. As a result of maturities and transfers
to available for sale, investment securities held to maturity decreased $7.1
million to $476,000 at March 31, 1996 from $7.6 million at June 30, 1995.
Mortgage-backed Securities Held to Maturity. Mortgage-backed securities
held to maturity are carried at amortized cost. Mortgage-backed securities held
to maturity totaled $877,000 and $2.1 million at March 31, 1996 and June 30,
1995, respectively. The decrease for the nine months ended March 31, 1996 was
the result of principal collected on mortgage-backed securities held to maturity
and transfers to available for sale.
91
Loans Receivable. Loans receivable, net increased $10.5 million during the
nine months ended March 31, 1996, totaling $58.6 million at March 31, 1996,
compared to $48.1 million at June 30, 1995. The following table summarizes
loans receivable as of March 31, 1996 and June 30, 1995:
At At
March 31, June 30,
1996 1995
----------- -----------
Residential real estate loans:
Loans held for sale............ $ 1,431,250 $ 784,930
Construction loans............. 915,400 630,000
Insured or guaranteed loans.... 390,903 461,654
Conventional loans............. 14,478,669 14,835,437
----------- -----------
17,216,222 16,712,021
----------- -----------
Multifamily real estate loans:
Construction................... 1,397,310 5,176,000
Permanent...................... 27,290,952 17,346,983
----------- -----------
28,688,262 22,522,983
----------- -----------
Commercial real estate loans:
Construction................... 180,000 520,000
Permanent...................... 8,309,903 7,761,383
----------- -----------
8,489,903 8,281,383
----------- -----------
Commercial leases and loans..... 2,703,569 1,955,535
Consumer loans.................. 3,077,458 2,320,253
----------- -----------
60,175,414 51,792,175
Less:
Loans in process............... 305,705 2,480,199
Deferred fees and discounts.... 405,438 336,876
Allowance for loan losses...... 845,430 850,054
----------- -----------
$58,618,841 $48,125,046
=========== ===========
Residential real estate loans increased $504,000 to $17.2 million at March
31, 1996 from $16.7 million at June 30, 1995. The increase was primarily the
result of an increase in loans held for sale of $646,000 to $1.4 million at
March 31, 1996 from $785,000 at June 30, 1995. During the nine months ended
March 31, 1996, the Company originated $1.2 million of adjustable-rate
residential real estate loans to be placed in its loan portfolio for investment
purposes, compared to $3.6 million of adjustable-rate residential real estate
loans for the same period in fiscal 1995.
Multifamily real estate loans totaled $28.7 million at March 31, 1996,
compared to $22.5 million at June 30, 1995. Multifamily real estate loans
typically involve large loan balances to a single borrower or groups of related
borrowers. The payment experience on such loans typically is dependent on the
successful operation of the real estate project. These risks can be
significantly impacted by supply and demand conditions in the market for
residential space, and as such, may be subject to a greater extent to adverse
conditions in the economy generally. At March 31, 1996, multifamily construction
loans totaled $1.4 million, compared to $5.2 million at June 30, 1995.
Construction financing generally is considered to involve a higher degree of
risk of loss than long-term financing on improved, occupied real estate. Risk of
loss on a construction loan is dependent largely upon the accuracy of the
initial estimate of the property's value at completion of construction or
development and the estimated cost of construction.
Commercial real estate loans totaled $8.5 million and $8.3 million at March
31, 1996 and June 30, 1995, respectively. Similar to multifamily real estate
loans, commercial real estate loans typically involve large loan balances to a
single borrower or groups of related borrowers. The payment experience on such
loans typically is dependent on the successful operation of the real estate
project. These risks can be significantly impacted by supply and demand
conditions in the market for office and retail space, and as such, may be
subject to a greater extent to adverse conditions in the economy generally.
92
Commercial leases and loans increased $748,000 to $2.7 million at March 31,
1996 from $2 million at June 30, 1995. Consumer loans also increased $757,000 to
$3.1 million at March 31, 1996 from $2.3 million at June 30, 1995. The Company
intends to gradually increase its commercial leases and consumer loans
portfolios as these types of loans generally provide higher yields and shorter
loan terms than real estate loans. Commercial leases and consumer loans entail
greater risk than do residential mortgage loans since they are either unsecured
or secured by rapidly depreciable assets such as computer equipment, photo
copiers or automobiles. In such cases, any repossessed collateral for a
defaulted lease or loan may not provide an adequate source of repayment of the
outstanding lease or loan balance as a result of the greater likelihood of
damage, loss or depreciation.
A reconciliation of the Company's allowance for loan losses is summarized
as follows:
Nine Months Ended
March 31,
---------------------
1996 1995
-------- ------
Balance (beginning of period).............. $ 850,054 $ 851,109
Provision.................................. -- --
Charge-offs................................ (6,486) (3,458)
Recoveries................................. 1,862 1,433
--------- ---------
Balance (end of period).................... $ 845,430 $ 849,084
========= =========
Allowance for loan losses as a percent of
gross loan balance (end of period)....... 1.40% 1.77%
========= =========
Non-performing assets were $2 million, or 2.81%, of total assets at March
31, 1996, compared to $637,000, or 0.99% of total assets, at June 30, 1995.
Included in non-performing assets at March 31, 1996, was a restructured loan of
$510,000. The restructured loan represents a participation interest purchased by
the Company in January 1987 on a $1.5 million loan. During the first quarter of
fiscal 1996, the servicer notified the Company that the real estate taxes for
the property securing the loan had become delinquent. An arrangement was made
with the borrower whereby the delinquent taxes would be substantially paid
during the next twelve months in addition to escrowing for the current year's
taxes. Although the borrower has been current on his monthly principal and
interest payments, the borrower has not honored his arrangement with respect to
the delinquent real estate taxes. The servicer has sent the borrower a notice of
foreclosure and is considering placing the property under the control of a
receiver. Management continues to closely monitor the resolution of this matter.
Also included in non-performing assets as of March 31, 1996, was a loan
concentration of four loans, totaling $1.4 million that were listed as 120 days
delinquent and is currently in bankruptcy court. The Company has executed a cash
collateral agreement to secure the monthly rental payments made by the tenants
of the apartment building and expects a capital infusion from the partners in
the projects to occur once the reorganization plan is approved. Management
continues to closely monitor the performance of these loans and properties. As a
result of placing this loan concentration on non-accrual, the related accrued
interest receivable of $47,000 was reversed from interest income.
In addition to non-performing assets, there were performing loans
aggregating $424,000 outstanding at March 31, 1996, compared to $2.7 million at
June 30, 1995, for which management has concerns regarding the ability of the
borrowers to meet existing repayment terms. These amounts consist of performing
loans that were classified for regulatory purposes. Included in performing
assets which management has concerns at March 31, 1996 was a package of
individual commercial leases aggregating $210,000. On March 29, 1996, the parent
company of the servicer of such leases filed Voluntary Petition under Chapter 11
of the Bankruptcy Code preventing any and all efforts to collect on pre-petition
debt. The federal Securities and Exchange Commission has filed a civil lawsuit
based on allegations that the parent company sold fictitious office-equipment
leases and sold rights to actual leases more than once. The Company is currently
investigating various alternatives in protecting its interest in such leases,
including the request that the servicing be transferred to the Company.
Management currently believes its assets are appropriately secured based on
discussions with the operators of the leased equipment and at this time is
unaware of any other entity having a secured interest in the same leases in
which the Company holds. The Company
93
continues to closely monitor such leases, and as more information becomes
available, a more accurate assessment of a loss, if any, will be determined.
The allowance for loan losses is maintained at an amount considered
adequate to provide for potential losses. The provision for loan losses is
based on management's periodic analysis of the loan portfolio. In this
analysis, management considers factors including, but not limited to, general
economic conditions, loan portfolio composition, appraisals of collateral,
historical experience and the items mentioned above. Loans are charged off to
the extent they are deemed to be uncollectible.
Deposits. Total deposits increased $3.2 million during the nine months
ended March 31, 1996, totaling $52.8 million at March 31, 1996, compared to
$49.6 million at June 30, 1995. The following table summarizes the Company's
deposits at March 31, 1996 and June 30, 1995:
At March 31, 1996 At June 30, 1995
------------------------------------ -------------------------------------
Weighted Percent Weighted Percent
Average Rate Amount of Total Average Rate Amount of Total
------------ ------ --------- ------------ ------ --------
Checking:
Non-interest-bearing... 0.00% $ 924,164 1.8% 0.00% $ 1,100,052 2.2%
Interest-bearing....... 2.58 3,080,843 5.8 2.47 2,980,872 6.0
------------ ----- ------------ -----
1.98 4,005,007 7.6 1.81 4,080,924 8.2
Passbook and statement.. 2.25 5,215,296 9.9 2.25 5,134,985 10.4
Certificate accounts.... 5.87 43,532,172 82.5 6.27 40,353,794 81.4
------------ ----- ------------- -----
5.22 $ 52,752,475 100.0% 5.49 $ 49,569,703 100.0%
============ ===== ============= =====
At March 31, 1996, $18.1 million, or 41.6%, of certificate accounts will
mature during the next six months. The weighted average rate for such
certificate accounts was 5.81% at March 31, 1996. As these certificate accounts
mature during the six months following March 31, 1996, the Company expects a
majority of such accounts to be renewed as the Company intends to remain
competitive within the market for such source of funds. However, if such
certificate accounts were not renewed, the Company would either be forced to
offer premium rates on certificate accounts to attract new funds, expand its
borrowing from other sources such as the FHLB of Des Moines and/or initiate a
suitable asset/liability management plan to reduce the level of assets owned by
the Company.
FHLB Advances. At March 31, 1996 and June 30, 1995, FHLB advances totaled
$5.6 million and $3.6 million, respectively. During the nine months ended March
31, 1996, the Company received proceeds from three and five year term FHLB
advances aggregating $5.6 million which were used to fund loan growth and repay
amounts drawn on the Company's open line of credit at the FHLB. During the third
quarter of fiscal 1996, the Company elected to prepay the 8.19% fixed-rate FHLB
mortgage-matched advance of which $485,000 was outstanding at December 31, 1995.
RESULTS OF OPERATIONS FOR THE NINE MONTHS ENDED MARCH 31, 1996 AND 1995
Performance. Net income for the nine months ended March 31, 1996, was
$511,000, or $1.04 per share, compared to $13,000, or $ .03 per share, for the
same period in fiscal 1995. Such increase in the Company's earnings was the
result of the Company's ability to grow the assets of the Company while
maintaining a modest interest rate spread between interest-earning assets and
interest-bearing liabilities and the recognition of certain tax benefits.
Net Interest Income. Net interest income increased to $1,607,000 for the
nine months ended March 31, 1996, compared to $1,395,000 for the same period in
fiscal 1995. The increase in net interest income was due to a $12.9 million, or
32.1%, increase in average interest-earning loans receivable to $53 million for
the nine months ended March 31, 1996, compared to $40.1 million for the same
period in fiscal 1995. The Company's net interest margin for the nine months
ended March 31, 1996 and 1995 was 3.44%. In addition, the Company's interest
rate spread was 2.70% for the nine months ended March 31, 1996, compared to
2.72% for the same period in fiscal 1995.
94
The following table presents the Company's average balance sheets, interest
and dividends earned or paid, and related yields and rates on major categories
of the Company's interest-earning assets and interest-bearing liabilities:
Nine Months Ended March 31,
------------------------------------------------------------
1996 1995
--------------------------- --------------------------
Average Average
Average Yield/ Average Yield/
Balance Interest Cost (4) Balance Interest Cost (4)
-------- -------- -------- ------- -------- --------
(Dollars in thousands)
Interest-earning assets:
Loans receivable.............................. $ 52,989 $ 3,427 8.62% $ 40,119 $ 2,392 7.95%
Investment securities (2)(3).................. 4,285 191 5.94 11,078 447 5.38
Mortgage-backed securities (3)................ 2,576 130 6.73 1,422 70 6.53
Cash equivalents.............................. 1,743 82 6.26 641 27 5.55
Other investments............................. 637 34 7.28 728 44 8.09
-------- -------- -------- --------
Total interest-earning assets............... 62,230 3,864 8.28 53,988 2,980 7.36
-------- --------
Non-interest-earning assets (1).................. 4,427 3,301
-------- ---------
Total assets................................ $ 66,657 $ 57,289
======== =========
Interest-bearing liabilities:
Certificate accounts.......................... $ 41,864 $ 1,925 6.13% $ 34,385 $ 1,348 5.23%
Other deposits................................ 8,009 143 2.38 9,632 167 2.32
FHLB advances................................. 4,033 189 6.26 1,521 70 6.11
-------- -------- -------- --------
Total interest-bearing liabilities.......... 53,906 2,257 5.58 45,538 1,585 4.64
-------- ------ -------- -----
Non-interest-bearing liabilities (1)............. 3,447 2,873
Stockholders' equity (1)......................... 9,304 8,878
-------- --------
Total liabilities and stockholders' equity.. $ 66,657 $ 57,289
======== ========
Net interest income.............................. $ 1,607 $ 1,395
======== ========
Interest rate spread............................. 2.70% 2.72%
====== ======
Net interest margin.............................. 3.44% 3.44%
====== ======
Ratio of average interest-earning assets to
average interest-bearing liabilities........... 115.44% 118.56%
====== ======
________________
(1) Average balances are based upon month-end balances.
(2) Tax-exempt income was not significant and thus has not been presented on a
tax equivalent basis.
(3) Includes securities available for sale.
(4) Annualized.
95
The following rate/volume analysis details the increase (decrease) in
interest income and expense resulting from interest rate and volume changes
during the nine months ended March 31, 1996 as compared to the same period last
year. Changes attributable to the combined impact of volume and rate have been
allocated proportionately to the change due to volume and the change due to
rate.
Nine Months Ended March 31, 1996
Versus Same Period in Fiscal 1995
-------------------------------------
Increase (Decrease)
Due to
-------------------------------------
Volume Rate Total
------ ---- -----
(In thousands)
Interest income:
Loans receivable..................... $ 819 $ 216 $ 1,035
Investment securities(1)............. (298) 42 (256)
Mortgage-backed securities(1)........ 58 2 60
Cash equivalents..................... 51 4 55
Other investments.................... (5) (4) (9)
----- ------ ------
Total interest-earnings assets...... 625 260 885
Interest expense:
Deposits............................. 218 335 553
FHLB advances........................ 118 2 120
----- ------ ------
Total interest-bearing liabilities.. 336 337 673
Change in net interest income......... $ 289 $ (77) $ 212
===== ====== ======
_________________
(1) Includes securities available for sale.
Non-interest Income. For the nine months ended March 31, 1996, non-
interest income increased to $508,000 from $401,000 for the same period in
fiscal 1995.
Gains on loans held for sale for the nine months ended March 31, 1996 were
$184,000, compared with $58,000 for the same period in fiscal 1995. Such
increase was the result of stronger consumer demand for fixed-rate residential
real estate loans, which the Company generally sells in the secondary market.
The change in consumer demand for fixed-rate versus adjustable-rate residential
real estate loans was due to lower market interest rates on fixed-rate mortgages
during the nine months ended March 31, 1996, compared to the same period in
fiscal 1995. Also contributing to the increase in gains on loans held for sale
for the nine months ended March 31, 1996, compared to the same period in fiscal
1995, were gains from the sales of participations in multifamily loans.
Originations of loans held for sale for the first nine months of fiscal 1996
were $15.1 million, compared to $5.6 million for the same period in fiscal 1995.
Gains on sales of loans held for sale may fluctuate significantly from period to
period due to changes in interest rates, volumes and seasonality in the housing
market, and results in any period related to these transactions may not be
indicative of results which will be obtained in future periods.
Included in non-interest income for the nine months ended March 31, 1996,
were pretax gains on the sale of real estate of $29,000, compared to $105,000
for the same period in fiscal 1995. The proceeds from these sales were invested
into earning assets which will generate future income for the Company. Gains and
losses on the sale of real estate are non-recurring in nature and may not be
indicative of results which will be obtained in future periods.
96
For the nine months ended March 31, 1996, other non-interest income
increased $52,000 to $119,000 from $67,000 for the same period in fiscal 1995.
Such increase was the result of additional commission income earned during the
first quarter of fiscal 1996 with the transfer of certain customers' annuities
and is not expected to occur in future periods. Commissions received from sales
of annuities may fluctuate from period to period, and future sales levels will
depend upon continued favorable tax treatment, the level of interest rates,
general economic conditions and investor preferences.
Non-interest Expense. For the nine months ended March 31, 1996, non-
interest expense was $1,821,000, compared with $1,775,000 for the same period in
fiscal 1995. Compensation and employee benefits totaled $898,000 for the nine
months ended March 31, 1996, compared with $905,000 for the same period in
fiscal 1995.
Occupancy and equipment totaled $268,000 for the nine months ended March
31, 1996, compared with $210,000 for the same period in fiscal 1995. The
increase was due to additional costs incurred relating to the new computer and
phone communication equipment and the new branch office in south Fargo which
opened in October of 1994.
Advertising totaled $73,000 for the nine months ended March 31, 1996,
compared to $93,000 for the same period in fiscal 1995. After the completion of
the new south Fargo branch office in October 1994, the Company sponsored several
promotional and advertisement campaigns to increase the number of low cost
deposit accounts held by the Company and actively market its new branch office
in the developing south Fargo market.
Professional service expenses totaled $177,000 for the nine months ended
March 31, 1996, compared to $143,000 for the same period in fiscal 1995. Such
increase primarily resulted from legal fees incurred in connection with the
Merger.
Income Taxes. Income tax benefit for the nine months ended March 31, 1996
was $217,000, compared with income tax expense of $8,000 for the same period in
fiscal 1995. Such benefit was due to the recognition of certain tax benefits
that were taken on the Company's tax returns in prior years but were recognized
in fiscal 1996 as a result of the Company sustaining its tax position.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary sources of funds for operations are deposits from its
primary market area, borrowings from the FHLB of Des Moines, principal and
interest payments on loans and mortgage-backed securities and proceeds from
maturing investment securities. While maturities, borrowing activity and
scheduled amortization of loans and mortgage-backed securities are a predictable
source of funds, deposit flows and mortgage prepayments are greatly influenced
by general interest rates, economic conditions and competition.
The Bank is required to maintain minimum levels of liquid assets as defined
by OTS regulations. This requirement, which may be varied at the direction of
the OTS depending upon economic conditions and deposit flows, is based upon a
percentage of deposits and short-term borrowings. The required minimum ratio is
currently 5.0%. The Bank has maintained average monthly liquidity ratios in
excess of this requirement.
97
STOCK OWNERSHIP OF MANAGEMENT AND CERTAIN BENEFICIAL OWNERS
The following table sets forth, as of the Record Date, certain information
as to those persons who were beneficial owners of more than five percent (5%) of
the Common Stock and as to the shares of the Common Stock beneficially owned by
each of the Company's directors and executive officers required to be named in a
summary compensation table and by all executive officers and directors of the
Company as a group. Persons and groups owning in excess of 5% of the Common
Stock are required to file certain reports regarding such ownership pursuant to
the Exchange Act. Based upon such reports, management knows of no persons, other
than those set forth below, who owned more than 5% of the outstanding shares of
the Common Stock as of the Record Date.
PERCENTAGE OF
AMOUNT AND NATURE SHARES OF
OF BENEFICIAL COMMON STOCK
OWNERSHIP(1) OUTSTANDING
------------ -------------
PRINCIPAL STOCKHOLDERS:
Norman M. Jones
5401 Interlachen Bluff
Edina, Minnesota 55436 50,685 9.91%
Northwestern Financial Corp.
Employee Stock Ownership Plan
720 Main Avenue
Fargo, North Dakota 58103 40,020 (2) 7.83
DIRECTORS:
Carl R. Ekern 15,322 (3) 2.98
Mark V. Sweeney 19,542 (4) 3.80
David S. Paulson 35,058 (5) 6.66
Robert Gibb, Sr. 14,562 (6) 2.83
John M. Grove 8,797 (7) 1.71
Mary K. Nelson 12,585 (8) 2.43
All Executive Officers and
Directors as a Group (10 persons) 130,324 (9) 23.54%
______________
(1) In accordance with Rule 13d-3 under the Exchange Act, a person is deemed to
be the beneficial owner, for purposes of this table, of any shares of
Common Stock if he or she has or shares voting or investment power with
respect to such Common Stock or has a right to acquire beneficial ownership
at any time within 60 days from the Record Date. As used herein, "voting
power" is the power to vote or direct the voting of shares and "investment
power" is the power to dispose or direct the disposition of shares. Unless
otherwise indicated, ownership is direct and the named individuals and
group exercise sole voting and investment power over the shares listed as
beneficially owned by such persons or group. The amounts shown include
3,602, 3,602, 15,006, 3,602, 3,602, 7,502 and 42,420 shares of Common Stock
as to which stock options have been granted to Directors Ekern, Sweeney,
Paulson, Gibb, Grove and Nelson and all executive officers and directors as
a group, respectively, which options are exercisable within 60 days of the
Record Date. The amounts shown do not include 32,016 unallocated shares
held by the ESOP, the voting of which is directed by the ESOP trustees,
consisting of Directors Ekern, Sweeney, Gibb and Grove, in the same ratio
as ESOP participants direct the voting of allocated shares or, in the
absence of such direction, in the ESOP trustees' best judgment. The
amounts shown also do not include 2,247 shares of Common Stock owned by the
MRP trusts, of which Directors Ekern, Sweeney, Gibb and Grove are trustees.
The trustees of the MRP trusts vote the shares of Common Stock held by the
MRP trusts as directed by the Board of Directors.
(Footnotes continued on following page)
98
(2) These shares are either held in a suspense account for future allocation
among participating employees as the loan used to purchase the shares is
repaid or have been allocated to participant's individual accounts. The
ESOP trustees, currently Directors Gibb, Grove, Ekern, and Sweeney, vote
all allocated shares in accordance with instructions of the participants.
Unallocated shares and shares for which no instructions have been received
are voted by the ESOP trustees in the same ratio as participants direct the
voting of allocated shares or, in the absence of such direction, in the
ESOP trustees' best judgment. At the Record Date, 8,004 shares had been
allocated.
(3) The amount shown includes 420 shares of Common Stock owned by Mr. Ekern's
wife's IRA account.
(4) The amount shown includes 7,000 shares of Common Stock owned by Mr.
Sweeney's IRA account and 7,500 shares of Common Stock owned by Mr.
Sweeney's wife.
(5) The amount shown includes 12,256 shares of Common Stock owned by Mr.
Paulson's IRA account, 175 shares of Common Stock owned by Mr. Paulson as
custodian for his grandchildren under the Uniform Gifts to Minors Act, 590
shares of Common Stock owned by Mr. Paulson through the Bank's 401(k) plan
and 1,029 shares of Common Stock allocated to Mr. Paulson's account under
the ESOP.
(6) The amount shown includes 10,000 shares of Common Stock owned by Mr. Gibb's
wife.
(7) The amount shown includes 1,941 shares of Common Stock owned by Mr. Grove's
IRA account and 1,671 shares of Common Stock owned by Mr. Grove's wife's
IRA account.
(8) The amount shown includes 330 shares of Common Stock owned by Ms. Nelson
through the Bank's 401(k) plan and 582 shares of Common Stock allocated to
Ms. Nelson's account under the ESOP.
(9) Includes shares held by certain directors and officers as custodian under
Uniform Transfer to Minors Act, by their spouses, and for the benefit of
certain directors and officers under IRAs as set forth above. The amount
shown includes 1,510 shares of Common Stock owned by all executive officers
and directors as a group through the Bank's 401(k) plan and 3,283 shares of
Common Stock allocated to the account of all executive officers and
directors as a group under the ESOP.
MARKET FOR THE COMMON STOCK AND DIVIDENDS
As of May 3, 1996, there were 511,240 shares of Common Stock outstanding.
As of the same date, there were approximately 203 stockholders of record.
At the present time, there is no market in which shares of the Common Stock
are actively traded, nor are there any uniformly quoted prices for such shares.
Registered brokers can facilitate sales and purchases of Common Stock using
standard procedures for trading unlisted stocks. The Common Stock is listed
over-the-counter through the National Daily Quotation System "Pink Sheets."
Stockbrokers can provide recent price ranges using information contained in the
"Pink Sheets." Trades during fiscal 1995 indicated that bid and ask share
prices were in the $10.75 to $13.00 range, exclusive of retail markup, markdown,
or commissions. Trades during fiscal 1996 through May 24, 1996 indicated that
bid and asked share prices were in the $12.00 to $20.75 range, exclusive of
retail markup, markdown or commissions.
On October 24, 1994, the Company declared a cash dividend of $.10 per share
of Common Stock payable as of November 20, 1994 to stockholders of record as of
November 10, 1994. For certain dividend restrictions see Note 15 of Notes to
Consolidated Financial Statements for additional information.
The last reported sale price for the Common Stock on the National Quotation
Bureau Pink Sheets on February 13, 1996, the last business day prior to the
announcement of the signing of the Agreement was $16.25. The last reported sale
price of the Common Stock on May 24, 1996, the last practicable date prior to
the mailing of this Proxy Statement was $20.75 per share.
99
INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
KPMG Peat Marwick LLP, which was the Company's independent certified public
accounting firm for the 1995 fiscal year, has been retained by the Board of
Directors to be the Company's auditors for the 1996 fiscal year. A
representative of KPMG Peat Marwick LLP will not be present at the Special
Meeting.
OTHER MATTERS
The Board of Directors is not aware of any business to come before the
Special Meeting other than those matters described above in this Proxy Statement
and matters incident to the conduct of the Special Meeting. However, if any
other matters should properly come before the Meeting, it is intended that
proxies in the accompanying form will be voted in respect thereof in accordance
with the determination of the Board of Directors.
STOCKHOLDER PROPOSALS
In the event the Merger is not consummated, any stockholder proposal
intended for inclusion in the Company's proxy statement and proxy relating to
the 1996 Annual Meeting of Stockholders be received at the Company's main office
at 720 Main Avenue, Fargo, North Dakota, no later than May 28, 1996. Any such
proposal shall be subject to the requirements of the proxy rules adopted under
the Exchange Act.
BY ORDER OF THE BOARD OF DIRECTORS
/s/ Mary K. Nelson
Mary K. Nelson
Secretary
Fargo, North Dakota
June 3, 1996
100
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
OF NORTHWESTERN FINANCIAL CORP.
Page
----
Consolidated Statements of Financial Condition - June 30, 1995 and 1994 F-1
Consolidated Statements of Operations - Years Ended June 30, 1995, 1994 and 1993 F-2
Consolidated Statements of Stockholders' Equity - Years Ended June 30, 1995, 1994 and 1993 F-3
Consolidated Statements of Cash Flows - Years Ended June 30, 1995, 1994 and 1993 F-4
Notes to Consolidated Financial Statements F-5
Independent Auditors' Report F-26
Consolidated Statements of Financial Condition - March 31, 1996 and June 30, 1995 (Unaudited) F-27
Consolidated Statements of Operations - Three Months and Nine Months Ended
March 31, 1996 and 1995 (Unaudited) F-28
Consolidated Statements of Stockholders' Equity - Nine Months Ended March 31, 1996
and Year Ended June 30, 1995 (Unaudited) F-29
Statements of Cash Flows - Nine Months Ended March 31, 1996 and 1995 (Unaudited) F-30
Notes to Consolidated Financial Statements (Unaudited) F-31
Schedules - All schedules are omitted because the required information is not
applicable or is presented in the consolidated financial statements or
accompanying notes.
101
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
At June 30,
--------------------------
1995 1994
- -------------------------------------------------------------------------------
ASSETS
Cash and due from banks $ 97,251 91,107
Interest-bearing deposits with banks 990,520 3,440,917
------------ ------------
Cash and cash equivalents 1,087,771 3,532,024
Securities available for sale (amortized cost of
$407,770) 414,322 -
Investment securities held to maturity (fair
value of $7,582,694 and $9,392,998) 7,602,485 9,469,542
Mortgage-backed securities held to maturity
(fair value of $2,112,818 and $382,813) 2,063,696 380,444
Loans receivable, net 48,125,046 37,405,287
Federal Home Loan Bank stock, at cost 632,200 787,200
Real estate, net 64,889 179,286
Accrued interest receivable 524,867 371,564
Premises and equipment, net 2,437,245 1,438,651
Cash surrender value of life insurance 1,080,015 1,038,652
Other assets 424,592 402,912
------------ ------------
$64,457,128 55,005,562
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits $49,569,703 43,980,638
Federal Home Loan Bank advances 3,592,401 -
Advance payments by borrowers for taxes and 770,849 684,503
insurance
Accrued interest payable 665,890 473,323
Accrued expenses and other liabilities 815,614 1,011,282
------------ ------------
Total liabilities 55,414,457 46,149,746
------------ ------------
Commitments and contingencies
Stockholders' equity
Common stock, par value $.01 per share,
4,000,000 shares authorized; 511,240 and
508,238 shares issued and outstanding 5,112 5,082
Additional paid-in capital 4,623,254 4,586,240
Unamortized deferred compensation (100,050) (166,752)
Unearned Employee Stock Ownership Plan
(ESOP) shares (340,170) (380,190)
Unrealized gains on securities
available for sale, net 4,052 -
Retained earnings, subject to certain
restrictions 4,850,473 4,811,436
------------- -----------
Total stockholders' equity 9,042,671 8,855,816
------------- -----------
$ 64,457,128 55,005,562
============= ===========
See accompanying notes to consolidated financial statements.
F-1
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
Years Ended June 30,
------------------------------------------
1995 1994 1993
- ---------------------------------------------------------------------------------------------------------------
INTEREST INCOME:
Loans receivable $ 3,345,069 3,219,553 4,245,842
Investment securities held to maturity 572,218 369,319 164,154
Mortgage-backed securities 110,518 35,164 82,147
Cash equivalents 36,466 82,913 363,131
Other 55,243 64,107 63,476
------------- ----------- ------------
Total interest income 4,119,514 3,771,056 4,918,750
------------- ----------- ------------
INTEREST EXPENSE:
Deposits 2,169,880 1,832,323 2,893,827
Federal Home Loan Bank advances 129,593 5,285 88,101
------------- ----------- ------------
Total interest expense 2,299,473 1,837,608 2,981,928
------------- ----------- ------------
Net interest income 1,820,041 1,933,448 1,936,822
Provision for loan losses - 12,000 -
------------ ----------- ------------
Net interest income after provision for loan losses 1,820,041 1,921,448 1,936,822
------------ ----------- ------------
NON-INTEREST INCOME:
Gain on sale of loans held for sale, net 121,291 621,048 597,334
Fees and service charges 190,098 303,352 354,120
Rental income 22,693 15,780 138,970
Securities gains (losses), net 6,101 (138,525) -
Gain (loss) on sale of real estate, net 123,839 261,131 (44,150)
Other 100,831 78,807 73,930
------------ ----------- ------------
Total non-interest income 564,853 1,141,593 1,120,204
------------ ----------- ------------
NON-INTEREST EXPENSE:
Compensation and employee benefits 1,201,446 1,052,835 909,108
Provision for real estate losses - - 7,500
Real estate owned expenses 23,884 36,202 58,089
Occupancy and equipment 288,959 239,942 284,442
Federal deposit insurance premiums 103,837 108,929 175,555
Data processing 139,163 95,469 124,146
Advertising 121,357 48,633 34,650
Professional service expenses 183,656 167,430 139,268
Other 287,434 344,788 288,479
------------ ----------- ------------
Total non-interest expense 2,349,736 2,094,228 2,021,237
------------ ----------- ------------
Income before income taxes and cumulative effect
of change in accounting principle 35,158 968,813 1,035,789
Income tax expense (benefit) (50,700) 414,600 321,950
------------ ----------- ------------
Income before cumulative effect of change in accounting principle 85,858 554,213 713,839
Cumulative effect of change in accounting principle - 325,000 -
------------ ----------- ------------
Net income $ 85,858 879,213 713,839
============ =========== ============
EARNINGS PER SHARE $ 0.18 0.37
============ ===========
PRO FORMA EARNINGS PER SHARE
Income before cumulative effect of change in accounting principle $ 1.16
Cumulative effect of change in accounting principle 0.68
----------
Net income $ 1.84
===========
See accompanying notes to consolidated financial statements.
F-2
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Unrealized
Unamortized Gains on
Additional Deferred Unearned Securites
Common Paid-in Compen- ESOP Available Retained
Stock Capital sation Shares for Sale, Net Earnings Total
- ------------------------------------------------------------------------------------------------------------------------------------
BALANCE JUNE 30, 1992 $ - - - - - 3,218,384 3,218,384
Net income - - - - - 713,839 713,839
--------- ------------ ------------ ------------- ----------- ------------ ------------
BALANCE JUNE 30, 1993 - - - - - 3,932,223 3,932,223
Issuance of common stock 5,082 4,583,739 (200,100) (400,200) - - 3,988,521
Net income - - - - - 879,213 879,213
Amortization of deferred
compensation - - 33,348 - - - 33,348
Release of ESOP shares - 2,501 - 20,010 - - 22,511
--------- ------------ ------------ ------------- ----------- ------------ ------------
BALANCE JUNE 30, 1994 5,082 4,586,240 (166,752) (380,190) - 4,811,436 8,855,816
Net income - - - - - 85,858 85,858
Dividends on common stock - - - - - (46,821) (46,821)
Exercise of stock options for 3,002
shares of common stock 30 29,990 - - - - 30,020
Amortization of deferred compensation - - 66,702 - - - 66,702
Release of ESOP shares - 7,024 - 40,020 - - 47,044
Change in unrealized gains on
securities available for sale, net - - - - 4,052 - 4,052
--------- ------------ ------------ ------------- ----------- ------------ ------------
BALANCE JUNE 30, 1995 $ 5,112 4,623,254 (100,050) (340,170) 4,052 4,850,473 9,042,671
========= ============ ============ ============= =========== ============ ============
See accompanying notes to consolidated financial statements.
F-3
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
Consolidated Statements of Cash Flows
Years ended June 30,
-----------------------------------------
1995 1994 1993
- -----------------------------------------------------------------------------------------------------------------------------------
Cash flows from operating activities:
Net income $ 85,858 879,213 713,839
Adjustments to reconcile net income to net cash provided
(used) by operating activities:
Provision for loan and real estate losses - 12,000 7,500
Depreciation of premises and equipment 142,473 90,704 86,242
Amortization of fees, discounts and premiums, net (156,214) (87,821) -
Stock dividends on Federal Home Loan Bank stock - - (63,200)
Deferred income taxes (51,000) 22,500 (23,000)
Proceeds from sales of loans held for sale 9,456,140 40,661,793 36,885,357
Originations of loans held for sale (9,674,879) (37,353,175) (37,784,414)
Gain on sale of loans held for sale, net (121,291) (621,048) (597,334)
Change in accrued interest receivable (157,357) (14,982) 172,072
Change in accrued interest payable 192,567 (54,907) (236,952)
Change in cash surrender value of life insurance (41,363) (43,148) (48,659)
Loss on sale of branches - - 18,580
(Gain) loss on sale of real estate, net (123,839) (261,131) 44,150
Securities (gains) losses, net (6,101) 138,525 0.00
Other, net (63,917) 160,017 (92,336)
------------- ------------- -------------
Net cash provided (used) by operating activities (518,923) 3,528,540 (918,155)
------------- ------------- -------------
Cash flows from investing activities:
Net change in loans receivable (10,241,312) 511,047 8,211,013
Purchases of securities available for sale (905,111) - -
Proceeds from sale of securities available for sale 490,167 - -
Principal collected on securities available for sale 14,371 - -
Purchases of mortgage-backed securities held to maturity (2,014,434) - -
Principal collected on mortgage-backed securities held to maturity 331,504 455,064 528,724
Purchases of investment securities held to maturity (3,462,131) (19,932,528) (5,500,000)
Proceeds from maturities of investment securities held to maturity 5,420,000 2,910,000 5,000
Proceeds from sales of mutual fund investments - 13,461,475 -
Purchases of premises and equipment, net (1,141,067) (438,437) (148,159)
Proceeds from redemption of FHLB stock 155,000 - -
Proceeds from sale of real estate 177,959 403,342 315,629
Proceeds from sale of branches:
Loans receivable - - 8,990,352
Accrued interest receivable - - 65,257
Premises and equipment - - 484,000
Other - - 616,000
------------- ------------- -------------
Net cash provided (used) by investing activities (11,175,054) (2,630,037) 13,567,816
------------- ------------- -------------
Cash flows from financing activities:
Net change in deposits 5,589,065 (2,368,373) (4,653,713)
Proceeds from Federal Home Loan Bank advances 13,696,911 5,000,000 7,000,000
Repayment of Federal Home Loan Bank advances (10,105,797) (5,000,000) (9,000,000)
Change in advance payments by borrowers for taxes and insurance 86,346 (105,780) 47,145
Proceeds from issuance of common stock - 4,588,821 -
ESOP and Management Recognition Plans - (600,300) -
Dividends paid on common stock (46,821) - -
Other, net 30,020 - -
Liabilities transferred in sale of branches:
Deposits - - (23,118,755)
Advance payments by borrowers for taxes and insurance - - (294,057)
Accrued interest payable - - (275,099)
------------- ------------- -------------
Net cash provided (used) by financing activities 9,249,724 1,514,368 (30,294,479)
------------- ------------- -------------
Net change in cash and cash equivalents (2,444,253) 2,412,871 (17,644,818)
Cash and cash equivalents at beginning of year 3,532,024 1,119,153 18,763,971
------------- ------------- -------------
Cash and cash equivalents at end of year $ 1,087,771 3,532,024 1,119,153
============= ============= =============
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest $ 2,106,906 1,892,515 3,218,880
Income taxes 127,467 227,798 404,201
Non-cash investing activities:
Transfer of loans to real estate $ 123,582 50,846 4,000
Transfer of real estate to loans 196,728 80,173 1,989,403
See accompanying notes to consolidated financial statements.
F-4
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED JUNE 30, 1995, 1994 AND 1993
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION The consolidated financial statements include the
accounts of Northwestern Financial Corp. (the "Company"), its wholly-owned
subsidiary, Northwestern Savings Bank F.S.B. (the "Bank"), and all of the
Bank's wholly-owned subsidiary entities. All significant intercompany
accounts and transactions have been eliminated in consolidation. The
consolidated financial statements have been prepared in conformity with
generally accepted accounting principles.
MATERIAL ESTIMATES In preparing the consolidated financial statements,
management is required to make estimates and assumptions that affect the
reported amounts of assets and liabilities as of the date of the balance
sheet and revenues and expenses for the period. Actual results could differ
significantly from those estimates.
Material estimates that are particularly susceptible to significant change
in the near-term relate to the determination of the allowance for loan
losses and the valuation of real estate acquired in connection with
foreclosures or in satisfaction of loans.
While management believes that the allowances for losses on loans and real
estate are adequate and uses available information to recognize losses on
loans and real estate, future additions to the allowances may be necessary
based on changes in economic conditions. In addition, various regulatory
agencies, as an integral part of their examination process, periodically
review the allowances for losses on loans and real estate and may require
additions to the allowances based on their judgment about information
available to them at the time of their examination.
CHANGE IN METHOD OF ACCOUNTING FOR CERTAIN INVESTMENTS IN DEBT AND EQUITY
SECURITIES In May 1993, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards ("SFAS") No. 115,
"Accounting for Certain Investments in Debt and Equity Securities." The
Company adopted SFAS No. 115 effective July 1, 1994. In accordance with
SFAS No. 115, prior period financial statements have not been restated to
reflect the change in accounting method. Under the provisions of SFAS No.
115, debt securities that the Company has both the positive intent and
ability to hold to maturity are classified as held to maturity and carried
at amortized cost. Debt securities that the Company does not have the
positive intent and ability to hold to maturity and all marketable equity
securities are classified as available for sale or trading and carried at
fair value. Unrealized holding gains and losses on securities classified as
available for sale, if any, are reported as a component of stockholders'
equity, net of deferred income taxes. Unrealized holding gains and losses
on securities classified as trading are reported in the results of
operations. Prior to July 1, 1994, debt and equity securities were either
classified as investments or mortgage-backed securities and carried at
amortized cost or lower of cost or market.
F-5
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
SECURITIES AVAILABLE FOR SALE Mortgage-backed securities classified as
available for sale are carried at fair value with the unrealized holding
gains or losses, net of deferred income taxes, reported as a separate
component of stockholders' equity. Cost of securities sold is determined on
a specific identification basis and gains or losses on sales of securities
available for sale are recognized at trade dates. Prior to the adoption of
SFAS No. 115, marketable equity securities were carried at the lower of
cost or market. When market value was lower than cost, a valuation
allowance was established by a charge against stockholders' equity.
INVESTMENT AND MORTGAGE-BACKED SECURITIES HELD TO MATURITY Investment and
mortgage-backed securities held to maturity are carried at amortized cost
as management has the intent and ability to hold them to maturity. If a
decline in market value is determined to be other than a temporary decline,
a loss in the value of the investment is recognized. Premiums and discounts
are amortized using the interest method over the term of the securities.
LOANS HELD FOR SALE Residential real estate loans held for sale are
carried at the lower of aggregate cost or estimated market value. Cost of
loans sold is determined on a specific identification basis and gains or
losses on sales of loans held for sale are recognized at settlement dates.
Gains and losses include the difference between sales proceeds and the
carrying value of the mortgage loans. Net fees and costs associated with
originating loans held for sale are deferred and are included in the basis
for determining the gain or loss on sales of loans held for sale.
In addition to the sale of residential real estate loans, the Company, to a
lesser extent, sells loans or participations in multifamily loans when the
loan commitment to the borrower exceeds the Company's loans to one
borrowers limitation or its loan portfolio goals and objectives. Gains and
losses on the sale of multifamily real estate loans or participations
therein, are determined on a specific identification basis and such gains
or losses are recognized on the loan closing date. Related net fees and
costs associated with originating such loans are included in the basis for
determining the gain or loss on sales of such loans.
LOANS Loans are considered long-term investments and, accordingly, are
carried at amortized cost. Loan origination fees received, net of certain
loan origination costs, on loans are deferred as an adjustment to the
carrying value of the related loans, and are amortized into income using
the interest method over the estimated life of the loans.
The allowance for loan losses is maintained at an amount considered
adequate to provide for potential losses. The provision for loan losses is
based on management's periodic analysis of the loan portfolio. In this
analysis, management considers factors including, but not limited to,
general economic conditions, loan portfolio composition, appraisals of
collateral and historical experience. Loans are charged off to the extent
they are deemed to be uncollectible.
Interest income is recognized on an accrual basis except when
collectibility is in doubt. When loans are placed on a non-accrual basis,
unpaid interest previously accrued is reversed from
F-6
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
income. Interest is subsequently recognized as income to the extent cash is
received when, in management's judgment, principal is collectible.
REAL ESTATE Real estate owned or expected to be acquired through
foreclosure is recorded at the lower of cost or fair value minus estimated
costs to sell at the date of transfer to real estate. If the fair value of
an asset minus the estimated costs to sell should decline to less than the
carrying amount of the asset, the deficiency is recognized through the
allowance for real estate losses. Real estate developed and held for sale
is carried at lower of cost less accumulated depreciation or net realizable
value.
After acquisition, costs of capital improvements made to facilitate sale
are capitalized as incurred. Costs of holding properties incurred after the
redemption period are expensed currently. The carrying value of individual
properties is periodically evaluated and reduced to the extent cost exceeds
estimated fair market value net of estimated selling costs. Gains or losses
on the sales of such real estate are recorded at the time of closing.
The allowance for real estate losses is based on management's periodic
analysis of real estate holdings. In this analysis, management considers
factors including, but not limited to, general economic and market
conditions, geographic location, the composition and appraisals of the real
estate holdings and property conditions.
PREMISES AND EQUIPMENT Premises and equipment are stated at cost less
accumulated depreciation and amortization. Depreciation and amortization
are accumulated on a straight-line basis over the estimated useful lives.
INCOME TAXES In February 1992, FASB issued SFAS No. 109, "Accounting for
Income Taxes." The Company elected to apply the provisions of SFAS No. 109
prospectively beginning July 1, 1993. Prior to adopting SFAS No. 109, the
Company accounted for income taxes in accordance with Accounting Principles
Board Opinion ("APB") No. 11, "Accounting for Income Taxes," and APB No.
23, "Accounting for Income Taxes Special Areas." SFAS No. 109 required a
change from the deferred method of APB No. 11 to the asset and liability
method of accounting for income taxes.
Under the asset and liability method of SFAS No. 109, deferred tax assets
and liabilities are recognized for the future tax consequences attributable
to temporary 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. Under SFAS No. 109, the effect on
deferred tax assets and liabilities of a change in tax rates is recognized
in income in the period that includes the enactment date. The cumulative
effect of the initial application of SFAS No. 109 increased net income in
fiscal 1994 by $325,000.
F-7
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
CASH EQUIVALENTS For purposes of the consolidated statements of cash
flows, the Company considers all highly liquid investments with original
maturities less than three months to be cash equivalents.
EARNINGS PER SHARE Earnings per share for fiscal 1995 were calculated
based upon weighted average number of common and common equivalent shares
outstanding during the year of 480,671. The earnings per share for fiscal
1994 were computed by dividing earnings ($176,719) from the date of
conversion, December 31, 1993, to the end of the year, June 30, 1994 by
weighted average common and common equivalent shares (476,669) outstanding.
Earnings per share for the year ended June 30, 1994 amounted to $1.84 on a
pro forma basis using the same number of common and common equivalent
shares outstanding. This computation does not reflect the pro forma effects
of the investment income that would have been earned had the net proceeds
from the stock offering been received at the beginning of the year.
Earnings per share amounts have not been presented for the year ended June
30, 1993, which was prior to the stock conversion.
RECLASSIFICATIONS Certain amounts in the prior years' financial statements
have been reclassified to conform to the current year presentation.
(2) SECURITIES AVAILABLE FOR SALE
Securities available for sale consist of the following at June 30, 1995:
Gross Gross
Amortized unrealized unrealized Fair
cost gains losses value
- -------------------------------------------------------------------------------
FNMA $ 318,460 728 - 319,188
GNMA 89,310 5,824 - 95,134
------------ -------- ----------- ----------
$ 407,770 6,552 - 414,322
============ ======== =========== ==========
Accrued interest receivable on securities available for sale was $2,003 at
June 30, 1995.
Proceeds from sale of securities available for sale totaled $490,167 during
fiscal 1995 with gross gains and losses of $6,101 and $0, respectively,
recognized during the year. There were no sales of securities available for
sale during fiscal 1994 and 1993.
F-8
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
(3) INVESTMENT SECURITIES HELD TO MATURITY
Investment securities held to maturity consisted of the following at June
30:
Gross Gross
Amortized unrealized unrealized Fair
cost gains loss value
--------------------------------------------------------------------------------------------------
1995:
U. S. Government securities
and agency obligations $ 7,122,104 7,579 (27,370) 7,102,313
Industrial revenue bond 470,000 - - 470,000
Other 10,381 - - 10,381
------------- ------- ---------- ----------
$ 7,602,485 7,579 (27,370) 7,582,694
============= ======= ========== ==========
Gross Gross
Amortized unrealized unrealized Fair
cost gains losses value
--------------------------------------------------------------------------------------------------
1994:
U.S. Government securities
and agency obligations $ 6,115,271 - (71,053) 6,044,218
Commercial paper and
bankers acceptances 2,864,271 - (5,491) 2,858,780
Industrial revenue bond 480,000 - - 480,000
Other 10,000 - - 10,000
-------------- ---------- --------- ----------
$ 9,469,542 - (76,544) 9,392,998
============== ========== ========= ==========
Proceeds from the sales of mutual fund investments held to maturity during
fiscal 1994 were $13,461,475. The gross realized gains and losses
recognized on sales of mutual fund investments during fiscal 1994 were
$13,283 and $151,808, respectively.
There were no sales of investment securities held to maturity during fiscal
1995 and 1993.
The amortized cost and fair value of investment securities held to maturity
at June 30, 1995 by contractual maturity are shown below. Expected
maturities will differ from contractual maturities because borrowers may
have the right to call or repay obligations with or without call or
prepayment penalties.
Amortized Fair
cost value
- -------------------------------------------------------------------------------------------------------
Due in one year or less 4,700,863 4,691,259
Due after one year through five years 2,431,622 2,421,435
Due after 10 years 470,000 470,000
------------ ---------
$ 7,602,485 7,582,694
============ =========
F-9
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
The industrial revenue bond owned at June 30, 1995 and 1994 is scheduled to
mature on July 1, 2015. The issuer, however, has the option to call the
industrial revenue bond or any portion thereof in principal amounts of
$5,000, or any integral multiple thereof, on an annual basis until the
scheduled maturity. The issuer also has the option to redeem the bond in
whole or in part beginning July 1, 2000.
Accrued interest receivable on investment securities held to maturity was
$190,104 and $119,496 at June 30, 1995 and 1994, respectively.
(4) MORTGAGE-BACKED SECURITIES HELD TO MATURITY
Mortgage-backed securities held to maturity consisted of the following at
June 30:
1995 1994
-------------------- --------------------
Carrying Fair Carrying Fair
Value Value Value Value
--------------------------------------------------------------------------
FHLMC $ 74,018 75,382 380,444 382,813
GNMA 1,989,678 2,037,436 - -
---------- --------- ------- -------
$2,063,696 2,112,818 380,444 382,813
========== ========= ======= =======
At June 30, 1995 and 1994, the Bank's mortgage-backed securities held to
maturity portfolio had gross unrealized gains of $49,122 and $2,369,
respectively, and there were no gross unrealized losses. There were no
sales of mortgage-backed securities held to maturity during fiscal 1995,
1994 and 1993.
Accrued interest receivable on mortgage-backed securities held to maturity
was $12,153 and $4,438 at June 30, 1995 and 1994, respectively.
F-10
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
(5) LOANS RECEIVABLE
Loans receivable consisted of the following at June 30:
1995 1994
-----------------------------------------------------------------------
Residential real estate loans:
Loans held for sale $ 784,930 444,900
Construction loans 630,000 252,300
Insured or guaranteed loans 461,654 666,794
Conventional loans 14,835,437 11,921,853
------------ ----------
16,712,021 13,285,847
============ ==========
Multifamily real estate loans:
Construction 5,176,000 475,000
Permanent 17,346,983 14,095,387
------------ ----------
22,522,983 14,570,387
============ ==========
Commercial real estate loans:
Construction 520,000 -
Permanent 7,761,383 8,418,474
------------ ----------
8,281,383 8,418,474
============ ==========
Commercial leases and loans 1,955,535 831,712
Consumer loans 2,320,253 1,634,538
------------ ----------
51,792,175 38,740,958
Less:
Loans in process 2,480,199 238,205
Deferred fees and discounts 336,876 246,357
Allowance for loan losses 850,054 851,109
------------ ----------
$ 48,125,046 37,405,287
============ ==========
Weighted average contractual interest rate 8.14% 7.79%
============ ==========
Commitments to originate loans $ 410,245 523,978
============ ==========
Included in total commitments to originate loans are commitments to
originate fixed rate loans aggregating $168,612 and $334,378 as of June 30,
1995 and 1994, respectively. The interest rates on these commitments ranged
from 6.95% to 7.87% at June 30, 1995 and from 7.65% to 9.00% at June 30,
1994. At June 30, 1995, the Company also had commitments to purchase a
participation interest in a multifamily project of $482,000 and a package
of individual commercial leases of $250,000.
At June 30, 1995 and 1994, loans on non-accrual status totaled $35,996 and
$10,000, respectively.
F-11
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
Had the loans performed in accordance with their original terms throughout
fiscal 1995, the Company would have recorded gross interest income of
$3,826 for these loans. Interest income of $2,069 has been recorded on
these loans for the year ended June 30, 1995.
Included in loans at June 30, 1995 and 1994 is a loan with an outstanding
balance of $513,882 and $517,879, respectively, with terms that have been
modified in troubled debt restructuring. Such restructuring resulted in
recognition of $66,500 of previously unrecorded interest income in fiscal
1994. There were no material commitments to lend additional funds to
customers whose loans were classified as restructured or non-accrual at
June 30, 1995.
Accrued interest on loans receivable was $320,607 and $247,630 at June 30,
1995 and 1994, respectively.
The aggregate amount of loans to directors, director emeritus and executive
officers of the Company was $167,387, $226,383 and $211,717 at June 30,
1995, 1994 and 1993, respectively. Activity with respect to these loans
during fiscal 1995 and 1994 included net repayments and net originations of
$58,996 and $14,666, respectively. Such loans were made in the ordinary
course of business on normal credit terms, including interest rate and
collateralization, and in the opinion of management do not represent more
than a normal risk of collection.
The Company's loan portfolio consists primarily of loans secured by
residential, multifamily and commercial real estate made primarily to
customers who live in Minnesota or North Dakota. At June 30, 1995 and 1994,
loans aggregating approximately $13.8 million and $12.6 million,
respectively, were secured by residential and commercial real estate in
Arizona.
At June 30, 1995, 1994 and 1993, the Company was servicing loans for others
with an aggregate unpaid principal balance of approximately $18.1 million,
$17.6 million and $21.3 million, respectively.
F-12
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
(6) ALLOWANCE FOR LOAN AND REAL ESTATE LOSSES
Activity in the allowance for losses is summarized as follows:
Real
Loans estate Total
--------------------------------------------------------------------------
Balance June 30, 1992 $ 863,822 432,460 1,296,282
Provision for losses - 7,500 7,500
Charge-offs (15,850) (330,460) (346,310)
Recoveries 1,993 - 1,993
---------- --------- --------
Balance June 30, 1993 849,965 109,500 959,465
Provision for losses 12,000 - 12,000
Charge-offs (14,288) (87,500) (101,788)
Recoveries 3,432 - 3,432
---------- -------- ---------
Balance June 30, 1994 851,109 22,000 873,109
Provision for losses - - -
Charge-offs (3,458) - (3,458)
Recoveries 2,403 - 2,403
---------- -------- ---------
Balance June 30, 1995 $ 850,054 22,000 872,054
========== ========= =========
(7) REAL ESTATE
Real estate consisted of the following at June 30:
1995 1994
--------------------------------------------------------------------------
Real estate developed and held for sale $ 86,889 201,286
Less allowances for real estate losses 22,000 22,000
----------- ---------
$ 64,889 179,286
=========== =========
(8) PREMISES AND EQUIPMENT
Premises and equipment consisted of the following at June 30:
1995 1994
--------------------------------------------------------------------------
Land and improvement $ 454,688 172,104
Office buildings 2,330,982 1,393,397
Furniture and equipment 710,633 551,333
Automobiles 40,111 40,111
Construction-in-progress - 345,750
------------ ---------
3,536,414 2,502,695
Less accumulated depreciation 1,099,169 1,064,044
------------ ----------
$ 2,437,245 1,438,651
============ ==========
F-13
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
(9) CASH SURRENDER VALUE OF LIFE INSURANCE
During 1987, the Bank purchased life insurance policies on certain key
executive officers and directors of the Bank (the "Insured") for a one-time
interest-earning deposit of $735,000 and a fee of $15,000. Upon the death
of the Insured, the Bank will receive the proceeds from the life insurance
policy. In connection with the life insurance policies, the Bank entered
into death benefit agreements with the Insureds, whereby if certain
eligibility requirements are met upon the death of the Insured, the Bank
will provide the surviving spouse or in certain cases the beneficiary, a
defined death benefit.
(10) DEPOSITS
Deposits consisted of the following at June 30:
1995 1994
------------------------------------------- -------------------------------------------------
Weighted Percent Weighted Percent
average of average of
rate Amount total rate Amount total
- -------------------------------------------------------------------------------------------------------------------------------
Checking:
Non-interest-bearing 0.00% $ 1,100,052 2.2% 0.00% $ 512,671 1.1%
Interest-bearing 2.47 2,980,872 6.0 2.61 3,548,444 8.1
------------- ------ ------------- ------
1.81 4,080,924 8.2 2.28 4,061,115 9.2
------------- ------ ------------- ------
Passbook & Statement 2.25 5,134,985 10.4 2.10 6,470,283 14.7
------------- ------ ------------- ------
Certificate accounts:
3.01% to 4.00% - 13,665,964
4.01% to 5.00% 3,665,481 13,279,084
5.01% to 6.00% 12,440,594 2,878,210
6.01% to 7.00% 19,670,883 1,521,588
7.01% to 8.00% 4,576,836 1,498,084
8.01% to 9.00% - 506,310
9.01% to 10.00% - 100,000
------------- -------------
6.27 40,353,794 81.4 4.57 33,449,240 76.1
------------- ------ ------------- ------
5.49 $ 49,569,703 100.0% 4.00 $ 43,980,638 100.0%
============== ====== ============= ======
At June 30, 1995 and 1994, the Bank had $4,637,436 and $3,579,315,
respectively, of deposit accounts with balances at $100,000 or more.
F-14
NORTHWESTERN FINANCIAL CORP, AND SUBSIDIARY
Certificates had the following maturities at June 30:
1995 1994
------------------------ ---------------------------
Weighted Weighted
average average
Amount rate Amount rate
---------------------------------------------------------------------------------------
0-3 months $ 9,430,350 5.79% $ 9,166,612 4.04%
4-6 months 8,153,191 6.13 7,507,337 4.52
7-12 months 13,383,135 6.43 10,823,264 4.65
13-24 months 2,588,068 6.04 3,979,002 5.52
25-36 months 3,274,152 6.65 1,086,227 4.98
37-48 months 3,524,898 7.10 886,798 4.76
------------ -------------
$ 40,353,794 6.27 $ 33,449,240 4.57
============ =============
Interest expense on deposits is summarized as follows for the years ended
June 30:
1995 1994 1993
---------------------------------------------------------------------------------------
Checking $ 86,503 103,734 191,199
Passbook 129,741 146,917 255,531
Certificates 1,953,636 1,581,672 2,447,097
------------ ----------- -----------
$ 2,169,880 1,832,323 2,893,827
============ =========== ===========
The Bank, as a member of the Federal Home Loan Bank system, is required to
hold a specified number of shares of capital stock, which is carried at
cost, in the Federal Home Loan Bank of Des Moines. In addition, the Bank is
required to maintain cash and other liquid assets in an amount equal to 5%
of its deposit accounts and other obligations due within one year. The Bank
has met these requirements as of June 30, 1995.
(11) FEDERAL HOME LOAN BANK ADVANCES
Federal Home Loan Bank ("FHLB") advances consisted of the following at June
30, 1995:
Weighted
Fiscal year average
of maturity Amount rate
---------------------------------------------------------------------------------------
Open line of credit 1996 $ 3,098,198 6.55%
Mortgage-matched advances 1996-2010 494,203 8.19
-----------
$ 3,592,401 6.78
===========
The Company's open line of credit arrangement with the FHLB of Des Moines
provides an alternative source of funds in which the Company may initiate
borrowings of up to $7 million.
F-15
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
The open line of credit has no stated date of maturity and the rate of
interest paid varies daily based on the FHLB's short-term investment
return. The mortgage matched advance is a fixed-rate advance with monthly
payments of principal and interest. At the Company's option, such advance
may be prepaid in whole or in part beginning February 1, 1996 without
incurring a prepayment penalty.
Advances from the FHLB are secured by FHLB stock owned by the Company. In
addition, the Company has agreed to maintain unencumbered additional
security in the form of certain residential mortgage loans aggregating no
less than 150% of advances, commitments and open line of credit.
(12) INCOME TAXES
Federal and state income tax expense (benefit) is as follows for the years
ended June 30:
1995 1994 1993
--------------------------------------------------------------------------------------------
Current:
Federal $ 200 342,100 292,950
State 100 50,000 52,000
---------- ------- -------
Total current 300 392,100 344,950
---------- ------- -------
Deferred:
Federal (44,500) 19,600 (40,000)
State (6,500) 2,900 17,000
---------- ------- -------
Total deferred (51,000) 22,500 (23,000)
---------- ------- -------
$ (50,700) 414,600 321,950
========== ======= =======
The effective tax rate differs from the "expected" income tax rate,
computed at the statutory federal corporate tax rate of 34% for fiscal
1995, 1994 and 1993 as follows for the years ended June 30:
1995 1994 1993
-------------------------------------------------------------------------------------------
Expected income tax expense $ 12,000 329,000 352,000
Difference between tax and book
provision for loan losses - - (44,000)
Change related to statutory base reserve (30,000) 10,000 36,000
State taxes net of federal tax benefits (4,200) 35,000 46,000
Increase in cash surrender value of life insurance (14,000) (15,000) (17,000)
Other (14,500) 55,600 (51,050)
---------- ------- -------
$ (50,700) 414,600 321,950
========== ======= =======
F-16
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
The tax effects of temporary differences that give rise to the deferred tax
assets and deferred tax liabilities are as follows at June 30:
1995 1994
----------------------------------------------------------------------------
Deferred tax assets:
Deferred loan fees $ 119,754 84,884
Allowances for loan losses 323,021 323,421
Bases difference for assets sold - 71,764
Deferred compensation 15,666 18,393
Other 23,156 19,368
---------- ----------
Total deferred tax assets 481,597 517,830
Deferred tax liabilities:
Tax bad debt reserve over base year 74,225 77,335
FHLB stock 86,070 107,345
Employee benefit plans 21,820 37,830
Premises and equipment basis differences 31,375 27,751
Other 32,107 80,069
---------- ----------
Total deferred tax liabilities 245,597 330,330
---------- ----------
Net deferred tax asset $ 236,000 187,500
========== ==========
No valuation allowance was required as of June 30, 1995 and 1994 since the
Company has paid taxes in excess of its deferred tax assets which are
available for carryback.
Timing differences in the recognition of revenue and expenses for tax and
financial reporting resulted in deferred income tax expense (benefit) as
follows for the years ended June 30, 1993:
State taxes on bad debt deduction allowable for federal
income taxes $ 16,000
Deferred gain on the sale of real estate (27,000)
Loan fees and discounts (28,000)
Federal Home Loan Bank stock dividend 24,000
Other (8,000)
---------
$ (23,000)
=========
(13) EMPLOYEE BENEFITS
401(K) PROFIT SHARING PLAN In January 1993, the Bank established a defined
contribution savings plan designed to qualify under Section 401(a) and
401(k) of the Code (the "Savings Plan"). An employee is eligible to
participate in the Savings Plan on the first January 1 or July 1 on or
after having attained age 21 and completing one year of service from the
date of hire. Participants may elect to contribute up to 10% of their base
salary and receive a 50% matching contribution from the Bank for up to 2.5%
of salary. In addition, the Bank may make discretionary contributions to
the Savings Plan. Participants are at all times 100% vested in their
contributions and the Bank's
F-17
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
matching contribution to the Savings Plan and any earnings thereon, and
become 100% vested in the Bank's discretionary contributions to the Savings
Plan and any earnings thereon upon retirement at or after age 65 or death,
or otherwise upon completion of six years of service (20% each for years
two through six). The Bank's contributions to the Savings Plan are expensed
when made. The Bank's contribution to the Savings Plan was $15,952, $18,806
and $9,465 in fiscal 1995, 1994 and 1993, respectively.
EMPLOYEE STOCK OWNERSHIP PLAN In December 1993 the Company established an
Employee Stock Ownership Plan (the "ESOP") in connection with the stock
conversion in which employees meeting age and service requirements are
eligible to participate. The ESOP borrowed $400,200 from the Company and
purchased 40,020 shares of common stock of the Company at the date of the
conversion. This debt carries an interest rate of 1% over prime and
requires annual principal and interest payments. The Company has committed
to make annual contributions to the ESOP necessary to repay the loan
including interest.
As the debt is repaid, ESOP shares which were initially pledged as
collateral for its debt, are released from collateral and allocated to
active employees, based on the proportion of debt service paid in the year.
The Company accounts for its ESOP in accordance with Statement of Position
93-6, "Employers' Accounting for Employee Stock Ownership Plans."
Accordingly, the shares pledged as collateral are reported as unearned ESOP
shares in the Consolidated Statements of Financial Condition. As shares are
determined to be ratably released from collateral, the Company reports
compensation expense equal to the current market price of the shares, and
the shares become outstanding for earnings per share computations.
Dividends on allocated ESOP shares are recorded as a reduction of retained
earnings and dividends on unallocated ESOP shares are used to pay debt
servicing costs. Compensation expense for the ESOP was $47,044 and $22,511
in fiscal 1995 and 1994, respectively. The ESOP shares were as follows at
June 30:
1995 1994
---------------------------------------------------------------------------
Allocated shares 4,002 -
Shares ratably released for allocation 2,001 2,001
Unreleased shares 34,017 38,019
-------- --------
Total ESOP shares 40,020 40,020
======== ========
Fair value of unreleased shares at June 30, $408,204 427,714
======== ========
MANAGEMENT RECOGNITION PLANS The Company adopted two Management
Recognition Plans (the "MRPs") in December 1993 in connection with the
stock conversion. The plans provide for the grant of shares of stock to
eligible directors and officers in the form of restricted stock, which vest
over a three-year period at the rate of 33 1/3% per year. Under the plans,
20,010 shares of restricted stock were granted. Compensation expense for
the MRPs in fiscal 1995 and 1994 was $66,702 and $33,348, respectively.
STOCK OPTION PLAN The Company adopted a stock option plan in December 1993
in connection with the stock conversion. The plan provides for the granting
of options for the purpose of
F-18
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
attracting and retaining key personnel and to facilitate their purchase of
a stock interest in the Company. Options on 50,025 shares were granted at
an exercise price of $10.00 per share. The options become exercisable upon
grant. If unused, the options expire December 30, 2003. The following is a
summary of activity in the plan:
Option
shares Price
------------------------------------------------------------------------
December 31, 1993 50,025 $10.00
Exercised - -
Granted - -
Canceled - -
------
June 30, 1994 50,025 10.00
Exercised (3,002) 10.00
Granted - -
Canceled - -
------
June 30, 1995 47,023 $10.00
======
(14) BRANCH SALES
On January 2, 1993 and December 31, 1992, the Company consummated a
purchase and assumption agreement with another financial institution
whereby the other institution purchased substantially all of the assets and
assumed the deposit liabilities of the Company's branches in Bismarck and
Mandan, North Dakota, respectively. As a result of the branch sales, the
Company incurred a loss of $18,580. The proceeds received and liabilities
transferred in the sale of the branches are summarized as follows:
Assets
------------------------------------------------------------------------
Loans receivable $ 8,990,352
Accrued interest receivable 65,257
Premises and equipment 484,000
Other 616,000
------------
$ 10,155,609
============
Liabilities
------------------------------------------------------------------------
Deposits $ 23,118,755
Advance payments by borrowers for taxes and insurance 294,057
Accrued interest payable 275,099
------------
$ 23,687,911
============
(15) STOCKHOLDERS' EQUITY
STOCK CONVERSION On August 17, 1993, the board of directors of the Bank
adopted a plan of conversion whereby the Bank would be converted from a
federal mutual savings bank to a federal stock savings bank. The conversion
was completed on December 31, 1993 with the issuance of
F-19
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
508,238 shares of the Company's common stock at a price of $10.00 per
share. Total proceeds from the conversion of $4,588,821, net of costs
relating to the conversion of $493,559, have been recorded as common stock
and additional paid-in capital. The Company received all of the capital
stock of the Bank in exchange for 50% of the net proceeds received in the
conversion.
The Company's articles of incorporation authorizes the issuance of up to
1,000,000 shares of preferred stock, which may be issued with certain
rights and preferences. As of June 30, 1995, no preferred stock has been
issued.
In order to grant a priority to eligible account holders in the event of
future liquidation, the Bank, at the time of conversion, established a
liquidation account equal to its regulatory capital as of March 31, 1993.
In the event of future liquidation of the Bank, an eligible account holder
who continues to maintain their deposit account shall be entitled to
receive a distribution from the liquidation account. The total amount of
the liquidation account will be decreased as the balance of eligible
account holders are reduced subsequent to the conversion, based on an
annual determination of such balance.
TREASURY STOCK On January 24, 1995, the Board of Directors of the Company
authorized the repurchase of up to 25,400 shares of the Company's stock
which represent approximately 5% of the outstanding stock at December 31,
1994. The repurchased shares will be held as treasury stock and will be
available for issuance upon the exercise of outstanding stock options and
for other corporate purposes. As of June 30, 1995, the Company has not
purchased any stock under the stock repurchase program.
REGULATORY CAPITAL REQUIREMENTS Federal savings institutions are required
to satisfy three capital requirements: (i) a requirement that "tangible
capital" equal or exceed 1.5% of adjusted total assets, (ii) a requirement
that "core capital" equal or exceed 3% of adjusted total assets, and (iii)
a requirement that "risk-based capital" equal or exceed 8% of risk-weighted
assets. With certain exceptions, all three capital standards must generally
conform to, and be no less stringent than, the capital standards published
by the Comptroller of the Currency for national banks. At June 30, 1995,
the Bank exceeded each of the three capital requirements.
F-20
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
The following is a summary of the Bank's regulatory capital position at
June 30, 1995 (unaudited and in thousands):
Actual Requirement Excess
----------------- ----------------- -----------------
Amount Percent Amount Percent Amount Percent
------- ------- ------- ------- ------- -------
Bank's stockholder's
equity $ 6,697
Adjustment for unrealized
gains on certain securities
available for sale, net (4)
-------
Tangible capital $ 6,693 10.50% $ 956 1.50% $ 5,737 9.00%
------- ===== ======= ==== ======= ====
Core Capital $ 6,693 10.50% $ 1,912 3.00% $ 4,781 7.50%
------- ===== ======= ==== ======= ====
Plus allowable portion of
general allowance
for loan losses 477
Less adjustment for
equity investment in
real property (65)
-------
Risk-based capital $ 7,105 18.78% $ 3,027 8.00% $ 4,078 10.78%
======= ===== ======= ==== ======= =====
RESTRICTED RETAINED EARNINGS The Bank may not declare or pay a cash
dividend to the Company in excess of 100% of its net income to date during
the current calendar year plus the amount that would reduce by one-half the
Bank's surplus capital ratio at the beginning of the calendar year without
prior OTS approval. Additional limitation on dividends declared or paid on,
or repurchases of, the Bank's capital stock are tied to the Bank's level of
compliance with its regulatory capital requirements.
Retained earnings at June 30, 1995 includes approximately $969,000 for
which no provision for federal income tax has been made. This amount
represents earnings appropriated to bad debt reserves and deducted for
federal income tax purposes and is not available for payment of cash
dividends or other distributions to shareholders. Payments or distributions
of these appropriated earnings could invoke a tax liability for the Bank
based on the amount of earnings removed at current tax rates.
(16) FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK
The Bank is a party to financial instruments with off-balance sheet risk in
the normal course of business to meet the financing needs of its customers.
These financial instruments include commitments to extend credit and
financial guarantees on certain loans sold with recourse. These instruments
involve, to varying degrees, elements of credit and interest rate risk in
excess of the
F-21
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
amount recognized in the balance sheet. The contract or notional amounts of
these instruments reflect the extent of involvement by the Bank.
The Bank's exposure to credit loss in the event of nonperformance by the
other party to the financial instrument for commitments to extend credit is
represented by the contract amount of these commitments. The Bank uses the
same credit policies in making commitments as it does for on-balance sheet
instruments.
The contract or notional amount of these financial instruments is as
follows at June 30, (in thousands):
1995 1994
------------------------------------------------------------------------------------------
Financial instruments whose contract amount represents credit risk:
Commitments to extend credit $ 5,102 1,628
VA loans serviced with partial recourse 300 402
------- ------
$ 5,402 2,030
======= ======
Commitments to extend credit are agreements to lend to a customer or
purchase loans, or participating interest therein, from a third-party as
long as there is no violation of any condition established in the contract.
Commitments generally have fixed expiration dates or other termination
clauses and may require payment of a fee. Since a portion of the
commitments are expected to expire without being drawn upon, the total
commitment amounts do not necessarily represent future cash requirements.
Included in commitments to extend credit are loans in process aggregating
$1.2 million whereby the Company has received commitments from other
financial institutions to purchase such amounts when disbursed. The Bank
evaluates each customer's creditworthiness on a case-by-case basis. The
amount of collateral obtained, if deemed necessary by the Bank upon
extension of credit, is based on the loan type and on management's credit
evaluation of the borrower. Collateral consists primarily of residential
real estate and personal property.
During the normal course of business, the Bank may sell certain loans with
limited recourse provisions. In addition, the Bank services VA loans on
which it must cover any principal loss in excess of the VA's guarantee if
the VA elects its "no-bid" option upon the foreclosure of a loan. A
significant portion of the loan is partially supported by government-
sponsored insurance, private mortgage insurance or the VA partial
guarantee, and all of the loans are collateralized by residential real
estate.
(17) LITIGATION
The Company is involved, from time to time, in certain legal matters in the
course of its general lending business and other operations. Management,
after review with its legal counsel, is of the opinion that there are no
litigation matters that will have a material adverse effect on the
Company's financial condition or results of operations.
F-22
NORTHWESTERN FINANCIAL CORP. AND SUBSIDARY
(18) NORTHWESTERN FINANCIAL CORP.'S FINANCIAL INFORMATION (PARENT COMPANY ONLY)
The parent company's principal assets are its investment in the Bank,
investment securities held to maturity and receivable from subsidiary. The
following are the condensed statements of financial condition for the
parent company only as of June 30, 1995 and 1994 and its condensed
statements of operations and cash flows for the year ended June 30, 1995
and for the period from December 31, 1993 to June 30, 1994:
At June 30,
-----------------------------------
CONDENSED STATEMENTS OF FINANCIAL CONDITION 1995 1994
----------------------------------------------------------------------------------------
Assets:
Cash and due from banks $ 34,737 81,077
Investment securities held to maturity 1,206,400 1,595,134
Investment in subsidiary 6,696,578 7,161,846
Accrued interest receivable 25,756 25,564
Receivable from subsidiary 1,000,000 -
Other assets 87,800 16,500
----------- -----------
$ 9,051,271 8,880,121
=========== ===========
Liabilities and Stockholders' Equity:
Accrued expenses and other liabilities $ 8,600 24,305
Stockholders' equity:
Common stock 5,112 5,082
Additional paid-in capital 4,623,254 4,586,240
Unamortized deferred compensation (100,050) (166,752)
Unearned ESOP shares (340,170) (380,190)
Unrealized gains on securities available
for sale, net 4,052 -
Retained earnings, subject to certain
restrictions 4,850,473 4,811,436
----------- -----------
Total stockholders' equity 9,042,671 8,855,816
----------- -----------
$ 9,051,271 8,880,121
=========== ===========
Year Ended Period Ended
CONDENSED STATEMENTS OF OPERATIONS June 30, 1995 June 30, 1994
----------------------------------------------------------------------------------------
Interest income $ 62,458 32,559
Equity in earnings of subsidiary 139,978 901,864
Compensation and employee benefits (124,831) (58,811)
Professional service expenses (6,471) (6,000)
Other (16,576) (6,899)
----------- ----------
Income before income taxes 54,558 862,713
Income tax expense (benefit) (31,300) 16,500
----------- ----------
Net income $ 85,858 879,213
=========== ==========
F-23
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
Year Ended Period Ended
CONDENSED STATEMENTS OF CASH FLOW June 30, 1995 June 30, 1994
---------------------------------------------------------------------------------------------------------
Cash flows from operating activities:
Net income $ 85,858 879,213
Equity in earnings of subsidiary (139,978) (901,864)
Dividends received from subsidiary 676,000 -
Other, net (51,038) (1,339)
------------- ------------
Net cash provided (used) by operating activities 570,842 (23,990)
------------- ------------
Cash flows from investing activity:
Purchase investment in subsidiary - (2,294,411)
Purchases of investment securities held to maturity (10,381) (3,589,043)
Maturities of investment securities held to maturity 410,000 400,000
Receivable from subsidiary (1,000,000) -
Sale of mutual fund investment - 1,600,000
------------- ------------
Net cash used by investing activities (600,381) (3,883,454)
------------- ------------
Cash flows from financing activities:
Proceeds from stock issuance - 4,588,821
Management Recognition Plans - (200,100)
Employee Stock Ownership Plan - (400,200)
Dividends paid on common stock (46,821) -
Other, net 30,020 -
------------- ------------
Net cash provided (used) by financing activities (16,801) 3,988,521
------------- ------------
Net change in cash and cash equivalents (46,340) 81,077
Cash and cash equivalents at beginning of period 81,077 -
------------- ------------
Cash and cash equivalents at end of period $ 34,737 81,077
============= ============
F-24
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
(19) BUSINESS SEGMENTS
The following is summarized financial data for the Company's business
segments:
Year Ended June 30,
-------------------------------------------
1995 1994 1993
-------------------------------------------
Revenues:
Financial institution $ 4,485,795 4,144,942 5,314,291
Mortgage brokerage operations 253,548 767,707 724,663
Eliminations (54,976) - -
-------------- --------- ---------
$ 4,684,367 4,912,649 6,038,954
============== ========= =========
Income before income taxes and
cumulative effect of change in
accounting principle:
Financial institution $ 236,303 588,097 657,165
Mortgage brokerage operations (146,169) 380,716 378,624
Eliminations (54,976) - -
-------------- --------- ---------
$ 35,158 968,813 1,035,789
============== ========= =========
At June 30,
----------------------------
1995 1994
----------------------------
Identifiable assets:
Financial institution $63,672,198 54,560,662
Mortgage brokerage operations 784,930 444,900
----------- ----------
$64,457,128 55,005,562
=========== ==========
F-25
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Northwestern Financial Corp.
Fargo, North Dakota:
We have audited the accompanying consolidated statements of financial condition
of Northwestern Financial Corp. and subsidiary (the Company) as of June 30, 1995
and 1994, and the related consolidated statements of operations, stockholders'
equity, and cash flows for each of the years in the three-year period ended June
30, 1995. 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 Northwestern
Financial Corp. and subsidiary as of June 30, 1995 and 1994, and the results of
their operations and their cash flows for each of the years in the three-year
period ended June 30, 1995, in conformity with generally accepted accounting
principles.
As discussed in note 1 to the consolidated financial statements, the Company
adopted the provisions of the Financial Accounting Standards Board's Statements
of Financial Accounting Standards No. 115, Accounting for Certain Investments in
Debt and Equity Securities in fiscal 1995 and No. 109, Accounting for Income
Taxes in fiscal 1994.
/s/ KPMG Peat Marwick LLP
----------------------------------------
Minneapolis, Minnesota
August 11, 1995
F-26
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
Consolidated Statements of Financial Condition
(Unaudited)
At At
March 31, June 30,
1996 1995
------------ -----------
Assets
Cash and due from banks $ 100,190 97,251
Interest-bearing deposits with banks 1,049,925 990,520
------------ -----------
Cash and cash equivalents 1,150,115 1,087,771
Investment securities available for sale
(amortized cost of $1,950,606) 1,940,950 -
Mortgage-backed securities available for sale
(amortized cost of $1,666,634 and $407,770) 1,691,426 414,322
Investment securities held to maturity (fair
value of $476,021 and $7,582,694) 476,021 7,602,485
Mortgage-backed securities held to maturity (fair
value of $897,876 and $2,112,818) 877,007 2,063,696
Loans receivable, net 58,618,841 48,125,046
Federal Home Loan Bank stock, at cost 644,900 632,200
Real estate, net 40,776 64,889
Accrued interest receivable 431,757 524,867
Premises and equipment, net 2,325,258 2,437,245
Cash surrender value of life insurance 1,133,456 1,080,015
Other assets 542,456 424,592
------------- ------------
$ 69,872,963 64,457,128
============= ============
Liabilities and Stockholders' Equity
Deposits $ 52,752,475 49,569,703
Federal Home Loan Bank advances 5,590,000 3,592,401
Advance payments by borrowers for taxes and 524,186 770,849
insurance
Accrued interest payable 750,769 665,890
Accrued expenses and other liabilities 602,968 815,614
------------- ------------
Total liabilities 60,220,398 55,414,457
------------- ------------
Commitments and contingencies
Stockholders' equity
Common stock, par value $.01 per
share, 4,000,000 shares authorized;
511,240 shares issued and outstanding 5,112 5,112
Additional paid-in capital 4,636,886 4,623,254
Unamortized deferred compensation (50,028) (100,050)
Unearned Employee Stock Ownership Plan
(ESOP) shares (310,155) (340,170)
Unrealized gains on securities available
for sale, net 9,336 4,052
Retained earnings, subject to certain
restrictions 5,361,414 4,850,473
------------- ------------
Total stockholders' equity 9,652,565 9,042,671
------------- ------------
$ 69,872,963 64,457,128
============= ============
See accompanying notes to consolidated financial statements.
Annual financial statements are subject to audit.
F-27
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
Consolidated Statements of Operations
(Unaudited)
Three Months Ended Nine Months Ended
March 31, March 31,
------------------------- -----------------------
1996 1995 1996 1995
------------ ----------- ----------- ----------
Interest income:
Loans receivable $ 1,208,024 863,895 3,426,853 2,391,930
Investment securities 40,124 138,202 190,783 446,929
Mortgage-backed securities 44,709 44,722 130,103 69,671
Cash equivalents 41,461 6,790 81,838 26,683
Other 10,853 10,912 34,755 44,210
------------ ----------- ----------- ----------
Total interest income 1,345,171 1,064,521 3,864,332 2,979,423
------------ ----------- ----------- ----------
Interest expense:
Deposits 687,925 561,525 2,068,325 1,515,127
Federal Home Loan Bank advances 86,684 60,592 189,297 69,661
------------ ----------- ----------- ----------
Total interest expense 774,609 622,117 2,257,622 1,584,788
------------ ----------- ----------- ----------
Net interest income 570,562 442,404 1,606,710 1,394,635
Provision for loan losses - - - -
------------ ----------- ----------- ----------
Net interest income after provision for loan losses 570,562 442,404 1,606,710 1,394,635
------------ ----------- ----------- ----------
Non-interest income:
Gain on sale of loans held for sale, net 57,819 14,883 184,363 58,450
Fees and service charges 52,527 49,866 156,685 150,052
Rental income 7,066 7,066 19,917 15,249
Securities gains, net - 6,101 - 6,101
Gain on sale of real estate, net 307 68,900 28,507 104,801
Other 25,201 16,639 118,767 66,539
------------ ----------- ----------- ----------
Total non-interest income 142,920 163,455 508,239 401,192
------------ ----------- ----------- ----------
Non-interest expense:
Compensation and employee benefits 307,460 285,149 898,005 904,693
Real estate owned expenses 2,950 5,845 7,395 20,205
Occupancy and equipment 100,670 85,427 267,611 210,005
Federal deposit insurance premiums 29,631 25,299 86,399 79,419
Data processing 38,055 40,624 110,410 102,907
Advertising 17,857 35,011 73,492 92,989
Professional service expenses 98,780 43,030 177,228 143,465
Other 64,941 59,677 200,468 221,546
------------ ----------- ----------- ----------
Total non-interest expense 660,344 580,062 1,821,008 1,775,229
------------ ----------- ----------- ----------
Income before income taxes 53,138 25,797 293,941 20,598
Income tax expense (benefit) (195,900) 9,400 (217,000) 7,900
------------ ----------- ----------- ----------
Net income $ 249,038 16,397 510,941 12,698
============ =========== =========== ==========
Earnings per share $ 0.50 0.03 1.04 0.03
============ =========== =========== ==========
See accompanying notes to consolidated financial statements.
Annual financial statements are subject to audit.
F-28
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
Consolidated Statements of Stockholders' Equity
(Unaudited)
Unrealized
Unamortized Gains on
Additional Deferred Unearned Securities
Common Paid-in Compen- ESOP Available Retained
Stock Capital sation Shares for Sale, Net Earnings Total
- --------------------------------------------------------------------------------------------------------------------------
Balance June 30, 1994 $ 5,082 4,586,240 (166,752) (380,190) - 4,811,436 8,855,816
Net income - - - - - 85,858 85,858
Dividends on common stock - - - - - (46,821) (46,821)
Exercise of stock options for 3,002
shares of common stock 30 29,990 - - - - 30,020
Amortization of deferred compensation - - 66,702 - - - 66,702
Release of ESOP shares - 7,024 - 40,020 - - 47,044
Change in unrealized gains on
securities available for sale, net - - - - 4,052 - 4,052
---------- ----------- --------- ---------- --------------- ---------- -----------
Balance June 30, 1995 5,112 4,623,254 (100,050) (340,170) 4,052 4,850,473 9,042,671
Net income - - - - - 510,941 510,941
Amortization of deferred compensation - - 50,022 - - - 50,022
Release of ESOP shares - 13,632 - 30,015 - - 43,647
Change in unrealized gains on
securities available for sale, net - - - - 5,284 - 5,284
---------- ----------- --------- ---------- --------------- ---------- -----------
Balance March 31, 1996 $ 5,112 4,636,886 (50,028) (310,155) 9,336 5,361,414 9,652,565
========== =========== ========= ========== =============== ========== ===========
See accompanying notes to consolidated financial statements.
Annual financial statements are subject to audit.
F-29
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
Consolidated Statements of Cash Flows
(Unaudited)
Nine Months Ended
March 31,
-----------------------------
1996 1995
- --------------------------------------------------------------------------------------------------------
Cash flows from operating activities:
Net income $ 510,941 12,698
Adjustments to reconcile net income to net cash provided
(used) by operating activities:
Depreciation of premises and equipment 125,274 101,371
Amortization of fees, discounts and premiums, net (75,885) (126,194)
Stock dividends on Federal Home Loan Bank stock (12,700) -
Deferred income taxes 105,400 1,000
Proceeds from sales of loans held for sale 14,644,879 5,823,444
Originations of loans held for sale (15,106,836) (5,563,344)
Gain on sale of loans held for sale, net (184,363) (58,450)
Securities gains, net - (6,101)
Change in accrued interest receivable 93,110 (84,776)
Change in accrued interest payable 84,879 109,137
Change in cash surrender value of life insurance (53,441) (31,188)
Gain on sale of real estate, net (28,507) (104,801)
Change in accrued expenses and other liabilities (227,416) (172,555)
Other, net (132,895) 249,561
--------------- ------------
Net cash provided (used) by operating activities (257,560) 149,802
--------------- ------------
Cash flows from investing activities:
Net change in loans receivable (9,757,338) (7,244,726)
Purchases of mortgage-backed securities available for sale (460,665) (585,775)
Proceeds from sale of mortgage-backed securities available for sale - 490,167
Principal collected on mortgage-backed securities available for sale 169,017 11,361
Purchases of mortgage-backed securities held to maturity - (2,014,434)
Principal collected on mortgage-backed securities held to maturity 222,920 166,610
Purchases of investment securities held to maturity (11,021) (3,462,131)
Proceeds from maturities of investment securities held to maturity 5,215,381 2,920,000
Purchases of premises and equipment, net (13,287) (1,136,179)
Proceeds from redemption of FHLB stock - 155,000
Proceeds from sale of real estate, net 22,390 120,455
--------------- ------------
Net cash used by investing activities (4,612,603) (10,579,652)
--------------- ------------
Cash flows from financing activities:
Net change in deposits 3,182,772 3,254,630
Proceeds from Federal Home Loan Bank advances 9,190,601 10,896,911
Repayment of Federal Home Loan Bank advances (7,194,203) (6,001,435)
Change in advance payments by borrowers for taxes and insurance (246,663) (174,460)
Dividends paid on common stock - (46,821)
Other, net - 30,020
--------------- ------------
Net cash provided by financing activities 4,932,507 7,958,845
--------------- ------------
Net change in cash and cash equivalents 62,344 (2,471,005)
Cash and cash equivalents at beginning of period 1,087,771 3,532,024
--------------- ------------
Cash and cash equivalents at end of period $ 1,150,115 1,061,019
=============== ============
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest $ 2,172,743 1,475,651
Income taxes 5,270 117,563
Non-cash investing activities:
Transfer of loans to real estate - 123,582
Transfer of real estate to loans 45,000 88,728
Transfer of securities to available for sale from held to maturity:
Investment securities 1,942,184 -
Mortgage-backed securities 964,040 -
See accompanying notes to consolidated financial statements.
Annual financial statements are subject to audit.
F-30
NORTHWESTERN FINANCIAL CORP. AND SUBSIDIARY
Notes to Consolidated Financial Statements
(Unaudited)
Note 1 - Northwestern Financial Corp.
- -------------------------------------
Northwestern Financial Corp. (the "Company") is an Iowa corporation formed at
the direction of Northwestern Savings Bank, F.S.B. (the "Bank") to acquire all
the outstanding capital stock that the Bank issued upon conversion from a
federally-chartered mutual savings bank to a federally-chartered stock savings
bank.
Note 2 - Basis of Preparation
- -----------------------------
The accompanying unaudited consolidated financial statements have been prepared
in accordance with instructions to Form 10-Q and, therefore, do not include all
information and notes necessary for a complete presentation of the financial
statements in conformity with generally accepted accounting principles.
However, all adjustments, consisting of only normal recurring adjustments, which
are, in the opinion of management, necessary for the fair presentation of the
interim financial statements have been included. The consolidated statements of
operations for the three and nine months ended March 31, 1996 are not
necessarily indicative of the results which may be expected for the entire year.
The material contained herein, is written with the presumption that the users of
the interim financial statements have read or have access to the most recent
Annual Report on Form 10-K of Northwestern Financial Corp., which contains the
latest audited financial statements and notes thereto, together with
Management's Discussion and Analysis of Financial Condition and Results of
Operations as of June 30, 1995 and for the year then ended.
Certain reclassifications have been made to prior period balances to conform to
current period presentation.
Note 3 - Earnings Per Share
- ---------------------------
The weighted average number of common and common equivalent shares outstanding
used to compute earnings per share was 499,288 and 482,309 for the three months
ended March 31, 1996 and 1995, respectively and 493,410 and 478,466 for the nine
months ended March 31, 1996 and 1995, respectively.
Note 4 - Regulatory Capital Requirements
- ----------------------------------------
At March 31, 1996 the Bank met each of the three minimum regulatory capital
requirements.
F-31
The following table reconciles the Bank's stockholder's equity at March 31, 1996
to its tangible, core and risk-based capital levels and compares such totals to
the regulatory requirements:
Actual Requirement Excess Capital
------------------ ------------------------ --------------------
Percent of Percent of Percent of
Amount Assets(1) Amount Assets(1) Amount Assets(1)
------ --------- ------ --------- ------ ---------
(Dollars in Thousands)
Bank's stockholder's equity $7,354
Adjustment for unrealized
gains on certain securities
available for sale, net...... (9)
------
Tangible capital $7,345 10.36% $1,064 1.50% $6,281 8.86%
------ ------ ------ ----- ------ -----
Core capital................... $7,345 10.36% $2,127 3.00% $5,218 7.36%
------ ------ ------ ----- ------ -----
Plus allowable portion of
general allowance for loan
losses....................... 553
Less adjustment for equity
investment in real property.. 41
------
Risk-based capital............. $7,857 17.87% $3,518 8.00% $4,339 9.87%
------ ------ ------ ----- ------ -----
(1) Based on the Bank's adjusted total assets for the purpose of the tangible
and core capital ratios and risk-weighted assets for the purpose of the
risk-based capital ratio.
Note 5 - Change in Method of Accounting by Creditors for Impairment of a Loan
- -----------------------------------------------------------------------------
Effective July 1, 1995, the Company adopted Statement of Financial Accounting
Standards ("SFAS") No. 114, "Accounting by Creditors for Impairment of a Loan"
and SFAS No. 118, "Accounting by Creditors for Impairment of a Loan - Income
Recognition and Disclosures." SFAS No. 114 requires that impaired loans,
including all loans that are restructured in a troubled debt restructuring
involving a modification of terms, be measured at the present value of expected
future cash flows discounted at the loan's initial effective interest rate. The
fair value of the collateral of an impaired collateral-dependent loan or an
observable market price, if one exists, may be used as an alternative to
discounting. If the measure of the impaired loan is less than the recorded
investment in the loan, impairment is to be recognized through the allowance for
loan losses. A loan is considered impaired when, based on current information
and events, it is probable that a creditor will be unable to collect all amounts
due according to the contractual terms of the loan agreement. SFAS No. 118
amends SFAS No. 114 to allow a creditor to use existing methods for recognizing
interest income on impaired loans and to clarify disclosure requirements. The
adoption of SFAS No. 114 and SFAS No. 118 did not impact the Company's results
of operations for the nine months ended March 31, 1996 or any prior period. In
accordance with SFAS No. 114 and SFAS No. 118, prior period financial statements
have not been restated to reflect the change in accounting method.
F-32
APPENDIX A
APPENDIX A
REORGANIZATION AND MERGER AGREEMENT
THIS REORGANIZATION AND MERGER AGREEMENT ("Agreement") is dated as of
February 13, 1996, by and among AFS FINANCIAL CORPORATION, a Minnesota
corporation ("Corporation"), AMERICAN FEDERAL BANK, a Federal stock savings bank
and wholly-owned subsidiary of the Corporation ("American") and AMERICAN
ACQUISITION CORP., an Iowa corporation ("NewSub"), on the one hand, and
NORTHWESTERN FINANCIAL CORP., an Iowa corporation ("Financial"), and
NORTHWESTERN SAVINGS BANK, F.S.B., a Federal stock savings bank and wholly-owned
subsidiary of Financial ("Savings"), on the other hand. For purposes herein,
the Corporation, American and NewSub are collectively referred to herein as
"Buyer"or "Buyers" and Financial and Savings are collectively referred to herein
as "Seller" or "Sellers."
BACKGROUND
The parties have determined that it would be desirable and in their
respective best interests, including the best interests of their respective
shareholders, for (i) NewSub, a wholly owned subsidiary of American, to merge
with and into Financial (the "Company Merger"), pursuant to which each of the
issued and outstanding shares of common stock of Financial ("Financial Common
Stock") shall be automatically by operation of law converted into $23.25 in cash
(the "Merger Consideration") and the issued and outstanding shares of NewSub
common stock shall be converted by operation of law into an equal number of
newly issued shares of Financial Common Stock all of which shall be owned by
American, (ii) immediately following the Company Merger, Financial shall be
liquidated into American (the "Liquidation") and (iii) immediately following the
Liquidation, Savings shall be merged with and into American (the "Bank Merger")
in accordance with the Bank Plan of Merger attached as Exhibit A hereto.
NOW THEREFORE, in consideration of the premises and mutual promises
hereinafter set forth, and of other good and valuable consideration, the receipt
and sufficiency of which are hereby acknowledged, the parties hereto hereby
agree as follows:
ARTICLE I
THE COMPANY MERGER AND RELATED MATTERS
1.1 The Company Merger. At the Effective Time (as defined in Section 1.2
------------------
hereof), NewSub shall be merged with and into Financial pursuant to the
provisions herein. The Company Merger shall be effected in accordance with any
and all applicable provisions of the Iowa Business Corporation Act (the "IBCA").
Financial shall thereafter continue as the surviving corporation under the name
of "Northwestern Financial Corp." Financial after the Effective Time
A-1
is sometimes referred to in this Agreement as the "Surviving Corporation." At
and after the Effective Time:
(1) The separate existence of NewSub shall cease.
(2) The Articles of Incorporation and the Bylaws of Financial in
effect immediately prior to the Company Merger shall continue as the
Articles of Incorporation and Bylaws of the Surviving Corporation after the
Company Merger.
(3) The Surviving Corporation shall possess all the rights,
privileges, powers and franchises of a public as well as a private nature,
and be subject to all the restrictions, disabilities and duties of each of
Financial and NewSub; and possess all and singular rights, privileges,
power and franchises of each of Financial and NewSub, and possess all
property, real, personal and mixed, and all debts due to either of
Financial and NewSub on whatever account, as well as for stock
subscriptions and all other things in action or belonging to each of
Financial and NewSub, shall be vested in the Surviving Corporation; and all
property, rights, privileges, power and franchises, and all and every other
interest shall be thereafter as effectively the property of the Surviving
Corporation as they were of Financial and NewSub, and the title to any real
estate vested by deed or otherwise, in either of Financial and NewSub,
shall not revert or be in any way impaired; but all rights of creditors and
all liens upon any property of either of Financial or NewSub shall be
preserved unimpaired, and all debts, liabilities and duties of Financial
and NewSub shall thenceforth attach to the Surviving Corporation, and may
be enforced against it to the same extent as if said debts and liabilities
had been incurred by it. Any action or proceeding, whether civil, criminal
or administrative, pending by or against either Financial or NewSub shall
be prosecuted as if the Company Merger had not taken place, and the
Surviving Corporation may be substituted as a party in such action or
proceeding in place of Financial or NewSub.
1.2 Effective Time of the Company Merger. As soon as practicable after
------------------------------------
each of the conditions set forth in Article VI hereof have been satisfied or
waived, NewSub and Financial will file, or cause to be filed, articles of merger
with the Secretary of State of Iowa, which articles of merger shall be in the
form required by and executed in accordance with the applicable provisions of
the IBCA. The Company Merger shall become effective at the time the articles of
merger are filed with the Secretary of State of Iowa or at such later time as is
set forth in the articles of merger (the "Effective Time"), which shall be
immediately following the Closing (as defined in Section 2.1) and on the same
day as the Closing if practicable.
1.3 Conversion of Shares. The manner and basis of the conversion of the
--------------------
respective outstanding shares of capital stock of Financial and NewSub and the
consideration which the respective record holders thereof shall be entitled to
receive pursuant to the Company Merger shall be as follows:
A-2
(a) Financial Common Stock. At the Effective Time each share of
----------------------
Financial Common Stock issued and outstanding immediately prior to the Effective
Time (except treasury shares, Dissenting Shares (as defined in Section 1.4) and
shares, if any, held by Financial, the Corporation or any of their subsidiaries
other than in a fiduciary capacity), shall automatically by virtue of the
effectiveness of the Company Merger and without the necessity of any action on
the part of the holder thereof, be cancelled and converted into the right to
receive the Merger Consideration.
(b) NewSub Common Stock. Each share of common stock of NewSub issued
-------------------
and outstanding immediately prior to the Effective Time shall, automatically by
virtue of the effectiveness of the Company Merger and without necessity of any
action on the part of the holder thereof, be cancelled and converted into one
share of common stock of the Surviving Corporation.
1.4 Dissenting Shares. Except for purposes of determining the total
-----------------
number of shares of Financial Common Stock issued and outstanding immediately
prior to the Effective Time, the provisions of Sections 1.3, 2.2 and 2.3 hereof
shall not apply to any shares of Financial Common Stock which shall be held by
holders who properly demand the relief to which dissenting shareholders are
entitled under the IBCA ("Dissenting Shares"), it being intended that any holder
of Dissenting Shares shall have in consideration for the cancellation of such
Dissenting Shares only such rights as may be given to such holder under the
IBCA, including the right to require that such holder's Dissenting Shares be
purchased at their fair value, in the manner and subject to the procedures and
conditions therein provided, unless and until the holder shall have failed to
perfect, or shall have effectively withdrawn or lost, such holder's right to
receive such payment for such holder's shares of Financial Common Stock under
the IBCA, at which time such shares shall be cancelled and converted into the
right to receive the Merger Consideration only and no other consideration.
1.5 Directors and Officers. The directors and officers of the Surviving
----------------------
Corporation after the Effective Time, who shall hold office until their
resignation or removal or until their successors have been elected and qualified
in accordance with law and the Surviving Corporation's Articles of Incorporation
and Bylaws, shall be those persons designated in Exhibit B hereto for the terms
therein indicated.
1.6 Financial Stock Options. Prior to the Effective Time, Financial shall
-----------------------
amend its 1993 Stock Option and Incentive Plan ("Stock Option Plan") to the
extent necessary to permit the cancellation or termination on the Effective Time
of each option (whether or not currently exercisable) to purchase Financial
Common Stock thereunder ("Financial Stock Option") outstanding on the Effective
Time. Each holder of a Financial Stock Option whose option shall be cancelled
or terminated shall receive a cash payment on the Effective Time in an amount
determined by multiplying the number of shares of Financial Common Stock subject
to option by such holder by an amount equal to the difference between the Merger
Consideration and the per share exercise price of such option. The amount of
such a cash payment to holders of
A-3
Financial Stock Options with respect to each option to purchase one share of
Financial Common Stock is sometimes referred to in this Agreement as the "Stock
Option Price."
1.7 Right to Revise the Structure of the Transaction. The Corporation and
------------------------------------------------
American shall, in their reasonable discretion, have the unilateral right to
revise the structure of the corporate reorganization contemplated by this
Agreement in order to achieve tax benefits or for any other reason which they
may deem advisable; provided, however, that the Corporation and American shall
-------- -------
not have the right to make any revision to the structure of the reorganization
which (i) changes the form or amount of the consideration payable hereunder,
(ii) would unreasonably impede or delay consummation of the transactions
contemplated herein or (iii) would result in treatment for Federal income tax
purposes of receipt by a shareholder of Financial of the Merger Consideration
set forth herein as a taxable dividend. The Corporation and American may
exercise this right of revision by giving written notice to Financial and
Savings in the manner provided in Section 9.4 of this Agreement, which notice
shall be in the form of an amendment to this Agreement.
ARTICLE II
CLOSING AND EXCHANGE OF CERTIFICATES
2.1 The Closing. The closing of the transactions provided for in this
-----------
Agreement (the "Closing") shall take place at the home office of American, no
later than thirty days after the satisfaction or waiver of all conditions and
obligations contained in Article VI of this Agreement (the date of the closing
is sometimes referred to in this Agreement as the "Closing Date"). On the
Closing Date, all documents required to be delivered hereunder by the parties
shall be so delivered.
2.2 Exchange of Shares for Cash. Within five business days after the
---------------------------
Effective Time, an exchange agent to be mutually agreed to by Buyer and Seller
(the "Exchange Agent"), will send a notice, instructions and transmittal form to
each holder of a certificate theretofore evidencing Financial Common Stock,
advising such holder of the procedure for surrendering to the Exchange Agent
such certificates in exchange for payment therefor. The parties hereto agree
that American may act as Exchange Agent. Except with respect to any Dissenting
Shares, each holder of a certificate theretofore evidencing Financial Common
Stock, upon surrender of the same to the Exchange Agent together with such
letter of transmittal, shall be entitled promptly to receive in exchange for
such certificate the Merger Consideration multiplied by the number of shares of
Financial Common Stock surrendered thereby. Within five business days after
each such holder's certificate has been surrendered, the Exchange Agent will
mail to each holder of Financial Common Stock whose certificates for shares,
which are not Dissenting Shares, have been surrendered a check in the
appropriate amount to which such holder is entitled pursuant to this Agreement
in respect of such shares. No interest will be paid or accrued on the cash
payable upon surrender of such certificates. If payment for Financial Common
Stock is to be made to any person other than the registered holder of Financial
Common Stock surrendered as aforesaid,
A-4
the amount of any stock transfer or similar taxes (whether imposed on the
registered holder or such person) payable on account of the transfer of
Financial Common Stock will be deducted from the amount to be paid by the
Exchange Agent or the Exchange Agent may refuse to make such payment unless
satisfactory evidence of the payment of such taxes, or exemption therefrom, is
submitted to the Exchange Agent. Shares as to which dissenting shareholders'
rights have been properly perfected shall be treated in the manner provided by
Section 1.4. The Stock Option Price shall be paid on the Effective Time to each
holder of an outstanding Financial Stock Option whose option shall thereafter be
deemed terminated or cancelled.
2.3 Status of Certificates. At and after the Effective Time, each
----------------------
outstanding certificate which previously represented shares of Financial Common
Stock (except any Dissenting Shares, which Dissenting Shares will evidence only
the rights specified in Section 1.4 hereof) shall until surrendered for exchange
pursuant to this Article II be deemed for all purposes to evidence only the
right to receive cash in accordance with the provisions of this Agreement and
shall not be deemed to confer upon the holder thereof any voting, dividend or
other rights of a shareholder of the Surviving Corporation. After the Effective
Time, there shall be no further registration or transfer on the records of the
Surviving Corporation of shares of Financial Common Stock (except the shares of
common stock of the Surviving Corporation issued pursuant to Section 1.3(b)
hereof).
ARTICLE III
REPRESENTATIONS AND WARRANTIES OF FINANCIAL AND Savings
Seller represents and warrants to Buyer that, except as disclosed in
Schedule I delivered by Seller to Buyer concurrently with or prior to the date
of execution of this Agreement:
3.1 Organization, Good Standing, Authority, Insurance, Etc. Financial is
------------------------------------------------------
a corporation duly organized, validly existing and in good standing under the
laws of the State of Iowa. Section 3.1 of Schedule I lists each "subsidiary" of
Financial and Savings within the meaning of Section 10(a)(1)(G) of the Home
Owners' Loan Act ("HOLA"), (individually a "Financial Subsidiary" and
collectively the "Financial Subsidiaries") (unless otherwise noted herein all
references to a "Financial Subsidiary" or to the "Financial Subsidiaries" shall
include Savings). Each of the Financial Subsidiaries is duly organized, validly
existing, and in good standing under the laws of the respective jurisdiction
under which it is organized. Each of Financial and each Financial Subsidiary
has all requisite power and authority and is duly qualified and licensed to own,
lease and operate its properties and conduct its business as it is now being
conducted. Financial has delivered to American a true, complete and correct
copy of the articles of incorporation, charter, or other organizing document and
the bylaws of Financial and each Financial Subsidiary. Financial and each
Financial Subsidiary is qualified to do business as a foreign corporation and is
in good standing in each jurisdiction in which qualification is necessary under
applicable law, except to the extent that any failure to so qualify would not,
in the aggregate, have a material adverse effect on the business, financial
condition or results of
A-5
operations of Financial and the Financial Subsidiaries, taken as a whole.
Savings is a member in good standing of the Federal Home Loan Bank of Des Moines
and all eligible accounts issued by Savings are insured by the Savings
Association Insurance Fund ("SAIF") to the maximum extent permitted under
applicable law. Savings is a "domestic building and loan association" as
defined in Section 7701(a)(19) of the Internal Revenue Code of 1986, as amended
(the "Code"), and is a "qualified thrift lender" as defined in Section 10(m) of
the HOLA and the rules and regulations thereunder. Financial is duly registered
as a savings and loan holding company under the HOLA.
The minute books of Financial and the Financial Subsidiaries contain
complete and accurate records of all meetings and other corporate actions held
or taken of their respective shareholders and Boards of Directors (including the
committees of such Boards).
3.2 Capitalization. The authorized capital stock of Financial consists of
--------------
(i) 4,000,000 shares of common stock, par value $0.01 per share, of which
511,240 shares were issued and outstanding as of the date of this Agreement, and
(ii) 1,000,000 shares of preferred stock, par value $0.01 per share, of which no
shares were issued and outstanding as of the date of this Agreement. All
outstanding shares of Financial Common Stock are duly authorized, validly
issued, fully paid, nonassessable and free of preemptive rights. Except for
outstanding options under the Stock Option Plan as set forth in Section 3.2 of
Schedule I, there are no options, convertible securities, warrants, or other
rights (preemptive or otherwise) to purchase or acquire any of Financial's
capital stock from Financial and no oral or written agreement, contract,
arrangement, understanding, plan or instrument of any kind (collectively,
"Contract") to which Financial or any of its affiliates is subject with respect
to the issuance, voting or sale of issued or unissued shares of Financial's
capital stock. A true and complete copy of the Stock Option Plan, as in effect
on the date of this Agreement, is attached as Section 3.2 of Schedule I.
3.3 Ownership of Subsidiaries. All the outstanding shares of the capital
-------------------------
stock of the Financial Subsidiaries are validly issued, fully paid,
nonassessable and owned beneficially and of record by Financial or a Financial
Subsidiary free and clear of any lien, claim, charge, restriction or encumbrance
(collectively, "Encumbrance"). There are no options, convertible securities,
warrants, or other rights (preemptive or otherwise) to purchase or acquire any
capital stock of any Financial Subsidiary and no Contracts to which Financial or
any of its affiliates is subject with respect to the issuance, voting or sale of
issued or unissued shares of the capital stock of any of the Financial
Subsidiaries.
3.4 Financial Statements. (a) Financial has delivered to American: (i)
--------------------
Consolidated Statements of Financial Condition, Consolidated Statements of
Operations, Consolidated Statements of Stockholders' Equity and Consolidated
Statements of Cash Flows of Financial and the Financial Subsidiaries as of and
for the years ended June 30, 1995 and 1994, certified by KPMG Peat Marwick LLP;
and (ii) a consolidated statement of condition, statement of operations,
statement of stockholders' equity and statement of cash flows of Financial and
the Financial Subsidiaries for the three-month period ended September 30, 1995.
Each of the foregoing financial statements fairly presents the consolidated
financial condition, assets, liabilities
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and results of operations of Financial and the Financial Subsidiaries, at their
respective dates and for the respective periods then ended and has been prepared
in accordance with generally accepted accounting principles consistently
applied, except as otherwise noted in a footnote thereto and subject, in the
case of interim financial statements, to normal recurring year-end adjustments,
which are not material in any case or in the aggregate.
(b) Financial and Savings have previously delivered, or will deliver, to
the Corporation the Financial and Savings regulatory reports, consisting of the
thrift financial reports, consolidated reports of condition and income, and
accompanying schedules, filed by Financial or Savings with the Office of Thrift
Supervision or the Securities and Exchange Commission for each calendar quarter,
beginning with the quarter ended December 31, 1992, through the Closing Date
("Regulatory Reports"). The Regulatory Reports have been, or will be, prepared
in accordance with applicable regulatory accounting principles and practices.
3.5 Absence of Undisclosed Liabilities. Except (i) as disclosed in
----------------------------------
Section 3.5 of Schedule I, (ii) as reflected, noted or adequately reserved
against in the financial statements referred to in Section 3.4(a) herein, or
(iii) for deposits incurred in the ordinary course of business consistent with
past practice, Financial and the Financial Subsidiaries do not have any material
liabilities (whether accrued, absolute, contingent or otherwise) of specific
application to Financial or the Financial Subsidiaries and not of general
application to thrift institutions.
3.6 Absence of Changes. Since June 30, 1995 to the date hereof, Financial
------------------
and the Financial Subsidiaries have conducted their respective businesses in the
ordinary course of business and, except as disclosed in Section 3.6 of Schedule
I, Financial and the Financial Subsidiaries have not undergone any change in
condition (financial or otherwise), assets, liabilities, business or operations,
other than changes in the ordinary course of business which have not been,
either in any case or in the aggregate, materially adverse on a consolidated
basis. Without limiting the foregoing, except as disclosed in Section 3.6 of
Schedule I, since June 30, 1995, to the date hereof:
(i) Financial has not issued, sold, granted, conferred or awarded
any of its equity securities (except shares of Financial Common Stock upon
exercise of Financial Stock Options), or options to acquire its equity
securities, or any corporate debt securities which would be classified
under generally accepted accounting principles as long-term debt on the
consolidated balance sheets of Financial; (ii) Financial has not effected
any stock split or adjusted, combined, reclassified or otherwise changed
its capitalization; (iii) neither Financial nor any Financial Subsidiary
has discharged or satisfied any material lien or paid any material
obligation or liability (absolute or contingent), other than in the
ordinary course of business; (iv) neither Financial nor any Financial
Subsidiary has sold, assigned, transferred, leased, exchanged, or otherwise
disposed of any of its material properties or assets; (v) except as
required by contract or law, neither Financial nor any Financial Subsidiary
has (A) increased the rate of compensation of, or paid any bonus to, any of
its directors, officers, or other employees, (B) entered into any new, or
amended or supplemented any existing, employment, management, consulting,
deferred
A-7
compensation, severance, or other similar contract, (C) entered into,
terminated, or substantially modified any of the Employee Plans (as defined
in Section 3.16 hereafter) or (D) agreed to do any of the foregoing; (vi)
neither Financial nor any Financial Subsidiary has suffered any material
damage, destruction, or loss, whether as a result of fire, explosion,
earthquake, accident, casualty, labor trouble, requisition, or taking of
property by any regulatory authority, flood, windstorm, embargo, riot, act
of God or the enemy, or other casualty or event, and whether or not covered
by insurance; and (vii) neither Financial nor any Financial Subsidiary has
cancelled or compromised any debt, except for debts of $5,000 or less,
individually or in the aggregate, charged off or compromised in accordance
with the past practice of Financial and Financial Subsidiaries.
3.7 Dividends, Distributions and Stock Purchases and Sales. Except as
------------------------------------------------------
disclosed in Section 3.7 of Schedule I, since June 30, 1995 to the date hereof,
Financial has not declared, set aside, made or paid any dividend or other
distribution in respect of Financial Common Stock, or purchased, issued or sold
any shares of Financial Common Stock.
3.8 Proxy Statement. At the time the Proxy Statement (as described in
---------------
Section 5.4 herein) is mailed to the shareholders of Financial for the
solicitation of proxies for the approval of the Company Merger and at all times
subsequent to such mailing up to and including the time of such approval, such
Proxy Statement (including any supplements thereto), with respect to all
information set forth therein relating to Financial (including the Financial
Subsidiaries) and its shareholders, Financial Common Stock, this Agreement, the
Company Merger and all other transactions contemplated hereby, will:
(a) Comply in all material respects with applicable provisions of the
Securities Exchange Act of 1934 (the "1934 Act") and the rules and regulations
under such 1934 Act; and
(b) Not contain any untrue statement of a material fact or omit to
state any material fact required to be stated therein or necessary in order to
make the statements contained therein, in light of the circumstances under which
they are made, not misleading.
3.9 No Broker's or Finder's Fees. Except as set forth in Section 3.9 of
----------------------------
Schedule I, no agent, broker, investment banker, person or firm acting on behalf
or under authority of Financial or any of the Financial Subsidiaries is or will
be entitled to any broker's or finder's fee or any other commission or similar
fee directly or indirectly in connection with the Company Merger or any other
transaction contemplated hereby.
3.10 Contracts. Each written or oral contract entered into by Financial or
---------
any Financial Subsidiary (other than deposit and loan contracts with customers
entered into by Financial or any Financial Subsidiary in the ordinary course of
business) which involves aggregate payments or receipts in excess of $5,000 per
year, including without limitation every agreement, lease, license, indenture,
mortgage and other commitment to which Financial or any Financial Subsidiary is
a party or by which they or any of their properties may be bound (all such
contracts involving annual payments in excess of $5,000 being collectively
referred to herein as "Material Contracts")
A-8
is identified in Section 3.10 of Schedule I. Except as disclosed in Schedule I,
all Material Contracts are valid and in full force and effect.
3.11 Litigation. Except as disclosed in Section 3.11 of Schedule I: (i)
----------
there is no litigation, investigation or proceeding pending, or to the knowledge
of the senior officers of Financial threatened, that involves Financial or any
Financial Subsidiary or any of their respective properties; (ii) there are no
outstanding orders, writs, injunctions, judgments, decrees, regulations,
directives, consent agreements or memoranda of understanding issued by any
federal, state or local court or governmental authority or arbitration tribunal
issued against or with the consent of Financial or any Financial Subsidiary.
3.12 Compliance with Law. Financial and the Financial Subsidiaries are in
-------------------
compliance in all material respects with all laws and regulations applicable to
their respective operations or with respect to which compliance is a condition
of engaging in the business thereof, except for failures to comply, which, in
the aggregate, would not have a material adverse effect on the business,
financial condition or results of operations of Financial and the Financial
Subsidiaries, taken as a whole, and neither Financial nor the Financial
Subsidiaries has received notice from any federal, state or local government or
governmental agency of any material violation of any of the above.
3.13 Corporate Actions. The Boards of Directors of Financial and Savings
-----------------
have duly authorized their respective officers to execute and deliver this
Agreement and, with respect to Savings, the Bank Plan of Merger, and to take all
action necessary to consummate the Company Merger and the Bank Merger and the
other transactions contemplated hereby and thereby. In its capacity as sole
shareholder of Savings, Financial has approved the Bank Merger.
3.14 Authority. Except as set forth in Section 3.14 of Schedule I, the
---------
execution, delivery and performance of this Agreement by Financial and Savings
and the Bank Plan of Merger by Savings does not violate any of the provisions
of, or constitute a breach or default under or give any person the right to
terminate or accelerate payment or performance under the articles of
incorporation or bylaws of Financial, the articles of incorporation, charter or
bylaws of any Financial Subsidiary, any regulatory restraint on the acquisition
of Financial or Savings or control thereof (subject to receipt of all required
regulatory approvals), or any contract, agreement, lease, note, bond, mortgage,
indenture, deed, license or other instrument or obligation to which Financial or
any of the Financial Subsidiaries is a party or is subject or by which any of
their properties or assets is bound. Financial and Savings have all requisite
corporate power and authority to enter into this Agreement and, with respect to
Savings, the Bank Plan of Merger, and to perform their respective obligations
hereunder and thereunder, except the approval of Financial's shareholders
required under applicable law and subject to receipt of all regulatory
approvals. This Agreement constitutes the valid and binding obligation of
Financial and Savings and is enforceable in accordance with its terms, except as
enforceability may be limited by applicable laws relating to bankruptcy,
insolvency or creditors' rights generally and general principles of equity.
A-9
3.15 Labor Relations and Employment Agreements. Neither Financial nor any
-----------------------------------------
Financial Subsidiary is a party to or bound by any collective bargaining
agreement. Financial and each Financial Subsidiary enjoy good working
relationships with their employees and there are no labor disputes pending, or
to the knowledge of the senior officers of Financial or Savings threatened, that
might materially and adversely affect the condition (financial or otherwise),
assets, liabilities, business or operations of Financial or Savings, taken as a
whole. Except as disclosed in Section 3.15 of Schedule I, neither Financial nor
any Financial Subsidiary has any employment contract, severance agreement,
deferred compensation agreement, consulting agreement or similar obligation
("Employment Obligation") with any director, officer, employee, consultant or
agent. Except as disclosed in Section 3.15 of Schedule I, neither Financial nor
any Financial Subsidiary has any contract, plan or arrangement which provides
for payments or benefits in certain circumstances which, together with other
payments or benefits payable to any participant therein or party thereto, might
render any portion of any such payments or benefits subject to disallowance of
deduction therefor as a result of the application of Section 280G of the Code.
3.16 Employee Benefits. (a) Neither Financial nor any of the Financial
-----------------
Subsidiaries maintains any funded deferred compensation plans (including profit
sharing, pension, savings or stock bonus plans), unfunded deferred compensation
arrangements or employee benefit plans as defined in Section 3(3) of the
Employee Retirement Income Security Act of 1974, as amended ("ERISA"), other
than any plans ("Employee Plans") set forth in Section 3.16 of Schedule I. None
of Financial or any of the Financial Subsidiaries has incurred or reasonably
expects to incur any liability to the Pension Benefit Guaranty Corporation
except for required premium payments which, to the extent due and payable, have
been paid. To the knowledge of Savings, the Employee Plans intended to be
qualified under Section 401(a) of the Code are so qualified, and Financial is
not aware of any fact which would adversely affect the qualified status of such
plans. Except as set forth in Section 3.16 of Schedule I, neither Financial nor
any of the Financial Subsidiaries (a) provides health, medical, death or
survivor benefits to any former employee or beneficiary thereof, or (b)
maintains any form of current (exclusive of base salary and base wages) or
deferred compensation, bonus, stock option, stock appreciation right, benefit,
severance pay, retirement, incentive, group or individual health insurance,
welfare or similar plan or arrangement for the benefit of any single or class of
directors, officers or employees, whether active or retired (collectively
"Benefit Arrangements").
(b) To the knowledge of Financial and Savings, (i) no condition
exists that could constitute grounds for the termination of any Employee Plan
under Section 4042 of ERISA; (ii) no "prohibited transaction," as defined in
Section 406 of ERISA and Section 4975 of the Code, has occurred with respect to
any Employee Plan, or any other employee benefit plan maintained by Financial or
any Financial Subsidiary; and (iii) neither Financial nor any Financial
Subsidiary has incurred or expects to incur, directly or indirectly, any
liability under Title IV of ERISA arising in connection with the termination of,
or a complete or partial withdrawal from, any plan covered or previously covered
by Title IV of ERISA.
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3.17 Property and Assets. Financial and the Financial Subsidiaries have
-------------------
good and marketable title to all of their real property reflected in the
financial statements at June 30, 1995, referred to in Section 3.4 herein, or
acquired subsequent thereto, free and clear of all Encumbrances, except for (a)
such items shown in such financial statements or in the notes thereto, (b) liens
for current real estate taxes not yet delinquent, (c) customary title exceptions
that have no material adverse effect upon the value of such property, (d)
property sold or transferred in the ordinary course of business since the date
of such financial statements, (e) pledges or liens incurred in the ordinary
course of business and (f) as otherwise specifically indicated in Section 3.17
of Schedule I. Financial and the Financial Subsidiaries enjoy peaceful and
undisturbed possession under all material leases for the use of real property
under which they are the lessee; all of such leases are valid and binding and in
full force and effect, and neither Financial nor any Financial Subsidiary is in
default in any material respect under any such lease. All property and assets
material to their business and currently used by Financial and the Financial
Subsidiaries are, in all material respects, in good operating condition and
repair, normal wear and tear excepted.
3.18 Tax Matters. (a) Except as set forth in Section 3.18 of Schedule I,
-----------
Financial and each of the Financial Subsidiaries have duly and properly filed
all federal, state, local and other tax returns required to be filed by them and
have made timely payments of all taxes due and payable, whether disputed or not;
the current status of audits of such returns by the Internal Revenue Service
("IRS") and other applicable agencies is as set forth in Section 3.18 of
Schedule I; and, except as set forth in Section 3.18 of Schedule I, there is no
agreement by Financial or any Financial Subsidiary for the extension of time or
for the assessment or payment of any taxes payable. Except as set forth in
Section 3.18 of Schedule I, neither the IRS nor any other taxing authority is
now asserting or, to the best knowledge of Financial, threatening to assert any
deficiency or claim for additional taxes (or interest thereon or penalties in
connection therewith), nor is Financial aware of any basis for any such
assertion or claim.
(b) Adequate provision for any federal, state, local, or foreign
taxes due or to become due for Financial or any of the Financial Subsidiaries
for any period or periods through and including June 30, 1995, has been made and
is reflected on the June 30, 1995 Financial consolidated financial statements
and has been or will be made with respect to periods ending after June 30, 1995.
3.19 Environmental Matters. Except as set forth in Section 3.19 of
---------------------
Schedule I, to the best knowledge of Financial, none of the assets of Financial
and the Financial Subsidiaries (defined for purposes of this subsection as the
real property and tangible personal property owned or leased by Financial or any
Financial Subsidiary as of the date of this Agreement and as of the Effective
Time) contain any hazardous materials (defined as any substance whose nature
and/or quantity or existence, use, manufacture or effect render it subject to
federal, state or local regulation as potentially injurious to public health or
welfare, including, without limitation, friable asbestos or PCBs ("Hazardous
Materials") other than in such quantities which are incidental and customary for
the maintenance and operation of such assets (e.g., cleaning fluids) or not
otherwise likely, in the aggregate, to have a material adverse effect on the
financial condition,
A-11
business or operations of Financial and the Financial Subsidiaries, taken as a
whole ("Incidental Quantities"). Except as set forth in Section 3.19 of
Schedule I, to Financial's best knowledge without inquiry, no collateral
securing any loan made by Financial or any Financial Subsidiary contains any
Hazardous Materials, other than in Incidental Quantities. Neither of Financial
nor any Financial Subsidiary is aware of, nor has Financial or any Financial
Subsidiary received written notice from any governmental or regulatory body of
any past, present or future conditions, activities, practices or incidents which
may interfere with or prevent compliance or continued compliance with hazardous
substance laws or any regulation, order, decree, judgment or injunction, issued,
entered, promulgated or approved thereunder, or which may give rise to any
common law or legal liability, or otherwise form the basis of any claim, action,
suit, proceeding, hearing or investigation based on or related to the
manufacture, processing, distribution, use, treatment, storage, disposal,
transport, or handling, or the emission, discharge, release or threatened
release into the environment, of any pollutant, contaminant or chemical, or
industrial, toxic or hazardous substance or waste. There is no civil, criminal
or administrative claim, action, suit, proceeding, hearing or investigation
pending or, to the knowledge of Financial's senior officers, threatened against
Financial or any Financial Subsidiary relating in any way to such hazardous
substance laws or any regulation, order, decree, judgment or injunction issued,
entered, promulgated or approved thereunder.
3.20 Governmental Approvals and Other Conditions. Neither Financial nor
-------------------------------------------
Savings is aware of any reason why (i) the regulatory approvals that are
required to be obtained by the Corporation and American in connection with the
transactions contemplated herein should not be granted, or (ii) such regulatory
approvals should be conditioned on any requirement that would present a
significant impediment to the Corporation's and American's future ability to
carry on their respective businesses, or (iii) any of the conditions precedent
as specified in Article VI to the obligation of either the Corporation and
American or Financial and Savings to consummate the transactions contemplated
herein are unlikely to be fulfilled within the applicable time period or periods
required for satisfaction of such condition or conditions.
3.21 SEC Filings. No registration statement, offering circular, proxy
-----------
statement, schedule or report (taken together with any amendments thereto) filed
and not withdrawn since January 1, 1993 by Financial or Savings with the SEC
under the Securities Act of 1933, as amended (the "1933 Act") or the 1934 Act,
on the date of effectiveness (in the case of such registration statements or
offering circulars) or on the date of filing (in the case of such reports or
schedules) or on the date of mailing (in the case of such proxy statements),
contained any untrue statement of a material fact or omitted to state any
material fact required to be stated therein or necessary in order to make the
statements therein, in light of the circumstances under which they were made,
not misleading.
3.22 Asset Classification. Section 3.22 of Schedule I sets forth a list,
--------------------
accurate and complete in all material respects, of each loan, extension of
credit and other asset of Savings that has been and remained through December
31, 1995, adversely designated, criticized or classified by Savings or any
regulatory authority, separated by category of classification or criticism (the
"Asset Classification"); and no amounts of loans, extensions of credit or other
assets that have
A-12
been adversely designated, classified or criticized through the date hereof by
any representative of any government entity as "Special Mention," "Substandard,"
"Doubtful," "Loss" or words of similar import are excluded from the amounts
disclosed in the Asset Classification, other than amounts of loans, extensions
of credit or other assets that were charged off by Savings before the date
hereof.
3.23 Community Reinvestment Act. Savings' rating pursuant to its most
--------------------------
recent examination by federal regulatory authorities pursuant to the provisions
of the Community Reinvestment Act was a "satisfactory" or better. Neither
Financial nor Savings has received any comment letters relating to its Community
Reinvestment Act Statement or is otherwise aware of any adverse reaction to such
statement.
3.24 Loan Portfolio. The allowance for loan losses reflected and shown, or
--------------
to be shown, on the balance sheets contained in the financial statements
provided for in Section 3.4(a) hereof are and will be with respect to financial
statements dated after the date hereof, in the opinion of management of
Financial, adequate to provide for all known and reasonably anticipated possible
losses, net of recoveries relating to loans previously charged off, on loans and
leases outstanding and accrued interest receivable on non-performing loans as of
the date of such balance sheet, in accordance with the requirements of generally
accepted accounting principles. No regulatory authority has requested, in
writing, Financial or Savings to increase the allowance for loan losses during
1993, 1994 or 1995 that has not been responded to in a manner satisfactory to
such regulatory authority.
ARTICLE IV
REPRESENTATIONS AND WARRANTIES OF THE CORPORATION AND American
Buyers represent and warrant to Sellers that, except as disclosed in
Schedule II delivered by Buyers to Sellers concurrently with or prior to the
date of execution of this Agreement:
4.1 Organization, Good Standing, Authority, Insurance, Etc. The
------------------------------------------------------
Corporation is a corporation duly organized, validly existing, and in good
standing under the laws of the State of Minnesota. Section 4.1 of Schedule II
lists each "subsidiary" of the Corporation within the meaning of Section 2(d) of
10(a)(1)(G) of HOLA (individually a "Corporation Subsidiary" and collectively
the "Corporation Subsidiaries"). Each of the Corporation Subsidiaries is duly
organized, validly existing, and in good standing under the laws of the
respective jurisdiction under which it is organized. The Corporation and each
Corporation Subsidiary have all requisite power and authority and are duly
qualified and licensed to own, lease and operate its properties and conduct its
business as it is now being conducted. The Corporation has delivered to
Financial a true, complete and correct copy of the articles of incorporation or
charter and bylaws of the Corporation and American. The Corporation and each
Corporation Subsidiary is qualified to do business as a foreign corporation and
is in good standing in each jurisdiction in which qualification is necessary
under applicable law, except to the extent that any failures to so qualify
A-13
would not, in the aggregate, have a material adverse effect on the business,
financial condition or results of operations of the Corporation and the
Corporation Subsidiaries, taken as a whole. American is a member in good
standing of the Federal Home Loan Bank of Des Moines and all eligible accounts
issued by American are insured by SAIF to the maximum extent permitted under
applicable law. American is a "domestic building and loan association" as
defined in Section 7701(a)(19) of the Code, and is a "qualified thrift lender"
as defined in Section 10(m) of the HOLA and the rules and regulations
thereunder. The Corporation is duly registered as a savings and loan holding
company under the HOLA.
4.2 Financial Statements. The Corporation has delivered to Financial: (i)
--------------------
Consolidated Balance Sheets, Consolidated Statements of Earnings, Consolidated
Statement of Stockholders' Equity, and Consolidated Statements of Cash Flows of
the Corporation and the Corporation Subsidiaries as of and for the years ended
December 31, 1994 and 1993, certified by KPMG Peat Marwick LLP and (ii)
Consolidated Balance Sheets, Consolidated Statements of Earnings, Consolidated
Statements of Changes in Stockholders' Equity and Consolidated Statements of
Cash Flows of the Corporation and the Corporation Subsidiaries as of and for the
three-month and nine-month periods ended September 30, 1995. Each of the
foregoing financial statements fairly presents the consolidated financial
position, assets, liabilities and results of operations of the Corporation and
the Corporation Subsidiaries at their respective dates and for the respective
periods then ended and has been prepared in accordance with generally accepted
accounting principles consistently applied, except as otherwise noted in a
footnote thereto and subject, in the case of the interim financial statements,
to normal recurring year-end adjustments, which are not material in any case or
in the aggregate.
4.3 Absence of Changes. Since December 31, 1994, the Corporation and the
------------------
Corporation Subsidiaries have not undergone any change in condition (financial
or otherwise), assets, liabilities, business or operations which would have a
material adverse effect upon the ability of the Corporation and American to
consummate the transactions contemplated herein.
4.4 Litigation. Except as disclosed in Section 4.4 of Schedule II: (i)
----------
there is no litigation, investigation or proceeding pending, or to the knowledge
of the senior officers of the Corporation threatened, that involves the
Corporation or any Corporation Subsidiary or any of their respective properties
and that, if determined adversely, would materially and adversely affect the
condition (financial or otherwise), assets, liabilities, business or operations
of the Corporation or any of its Subsidiaries; (ii) there are no outstanding
orders, writs, injunctions, decrees, consent agreements, memoranda of
understanding or other directives of any federal, state or local court or
governmental authority or of any arbitration tribunal against or with the
consent of the Corporation or any Corporation Subsidiary that materially and
adversely affect the condition (financial or otherwise), assets, liabilities,
business or operations of the Corporation and the Corporation Subsidiaries,
taken as a whole, or restrict in any material manner the right of the
Corporation or any Corporation Subsidiary to conduct its business as presently
conducted.
4.5 Necessary Information. With respect to the information to be provided
---------------------
by the Corporation and American to Financial for inclusion in Financial's proxy
statement to be used
A-14
for the solicitation of proxies for the approval of the Company Merger, such
information will not contain any statement which, at the time and in light of
the circumstances under which it is made, is false or misleading with respect to
any material fact or omit to state any material fact necessary in order to make
the statements therein not false or misleading or necessary to correct any
statement in any earlier communication with respect to the solicitation of a
proxy for the same meeting or subject matter which has become false or
misleading.
4.6 No Broker's or Finder's Fees. Except as set forth in Section 4.6 of
----------------------------
Schedule II, no agent, broker, investment banker, person or firm acting on
behalf or under authority of the Corporation or any of the Corporation
Subsidiaries is or will be entitled to any broker's or finder's fee or any other
commission or similar fee directly or indirectly in connection with the Company
Merger or any other transaction contemplated hereby.
4.7 Compliance With Law. The Corporation and the Corporation Subsidiaries
-------------------
are in compliance in all material respects with all laws and regulations
applicable to their respective operations or with respect to which compliance is
a condition of engaging in the business thereof, except for failures to comply,
which, in the aggregate, would not have a material adverse effect on the
business, financial condition or results of operations of the Corporation and
the Corporation Subsidiaries, taken as a whole, and the Corporation has not
received notice from any federal, state or local government or governmental
agency of any material violation of any of the above.
4.8 Corporate Actions. The Boards of Directors of the Corporation,
-----------------
American and NewSub have duly authorized their respective officers to execute
and deliver this Agreement and, with respect to American, the Bank Plan of
Merger, and to take all action necessary to consummate the Company Merger and
the Bank Merger and the other transactions contemplated hereby and thereby. The
shareholders of the Corporation are not required to approve either the Company
Merger, the Bank Merger or any of the other transactions contemplated by this
Agreement. In their capacity as sole shareholder of NewSub and American,
respectively, American has approved the Company Merger and the Corporation has
approved the Bank Merger.
4.9 Authority. The execution, delivery and performance of this Agreement
---------
by the Corporation, American and NewSub and the Bank Plan of Merger by American
does not violate any of the provisions of, or constitute a breach or default
under or give any person the right to accelerate payment or performance under
the articles of incorporation or bylaws of the Corporation, the articles of
incorporation, charter or bylaws of any other Corporation Subsidiary. The
Corporation, American and NewSub have all requisite corporate power and
authority to enter into this Agreement and, with respect to American, the Bank
Plan of Merger, and to perform their obligations hereunder and thereunder,
subject to receipt of all required regulatory approvals. This Agreement
constitutes the valid and binding obligation of the Corporation, American and
NewSub, and is enforceable in accordance with its terms, except as
enforceability may be limited by applicable laws relating to bankruptcy,
insolvency or creditors' rights generally and general principles of equity.
A-15
4.10 Consideration. At the Effective Time, American will have sufficient
-------------
cash on hand to pay the aggregate Merger Consideration and the aggregate Stock
Option Price for all of the outstanding shares of Financial Common Stock and
outstanding Financial Stock Options.
4.11 Governmental Approvals and Other Conditions. The Corporation and
-------------------------------------------
American are unaware of any reason why (i) the regulatory approvals that are
required to be obtained by them in connection with the transactions contemplated
herein should not be granted, or (ii) such regulatory approvals should be
conditioned on any requirement that would present a significant impediment to
their future ability to carry on business, or (iii) any of the conditions
precedent as specified in Article VI to their obligations to consummate the
transactions contemplated herein are unlikely to be fulfilled within the
applicable time period or periods required for satisfaction of such condition or
conditions. In this connection and in connection with the Bank Merger, the
Corporation represents it will incur approximately $4.0 million in indebtedness,
all of the proceeds of which will be infused as permanent equity capital into
American, and that it has obtained a legally binding loan commitment for such
indebtedness, a copy of which commitment is set forth in Section 4.11 of
Schedule II. The Corporation and American further represent, that in their
reasonable opinion, they do not believe that American's pro forma tangible, core
and risk-based capital levels following consummation of the Bank Merger,
including the debt proceeds described above but not including any other equity
or debt offering, would be unacceptable to the Office of Thrift Supervision
("OTS"). Payment of the aggregate Merger Consideration will be in compliance
with the provisions of 12 CFR 563.134.
4.12 Community Reinvestment Act. American's rating pursuant to its most
--------------------------
recent examination by federal regulatory authorities pursuant to the provisions
of the Community Reinvestment Act was a "satisfactory" or better. Neither the
Corporation nor American has received any comment letters relating to its
Community Reinvestment Act Statement or is otherwise aware of any adverse
reaction to such statement.
ARTICLE V
COVENANTS
5.1 Investigations; Access and Copies. Between the date of this Agreement
---------------------------------
and the Effective Time, Financial agrees on behalf of itself and the Financial
Subsidiaries to give to the Corporation and American and their respective
representatives and agents full access (to the extent lawful) to all of the
premises, books, records and employees of it and its subsidiaries at all
reasonable times (other than documents or other materials relating to the
transactions contemplated herein), and to furnish and cause its subsidiaries to
furnish to the Corporation and American and their respective agents or
representatives access to and true and complete copies of such financial and
operating data, all documents with respect to matters to which reference is made
in Article III of this Agreement (other than documents or other materials
relating to the transactions contemplated herein) or on any list, schedule or
certificate delivered or to be delivered in connection therewith, and such other
documents, records, or information with respect
A-16
to the business and properties of it and the Financial Subsidiaries as the
Corporation and American or their respective agents or representative shall from
time to time reasonably request (other than documents or other materials
relating to the transactions contemplated herein); provided, however, that any
-------- -------
such inspection (a) shall be conducted in such manner as not to interfere
unreasonably with the operation of the business of the entity inspected and (b)
shall not affect any of the representations and warranties hereunder. The
Corporation and American and Financial and Savings will give prompt written
notice to the other party of any event or development (x) which, had it existed
or been known on the date of this Agreement, would have been required to be
disclosed under this Agreement, (y) which would cause any of its representations
and warranties contained herein to be inaccurate or otherwise materially
misleading, or (z) which materially relate to the satisfaction of the conditions
set forth in Article VI of this Agreement.
5.2 Conduct of Business of Financial and Savings. Between the date of
--------------------------------------------
this Agreement and the Effective Time, Financial and Savings agree:
(a) That, except as otherwise set forth in Section 5.2 hereof,
Financial and the Financial Subsidiaries shall conduct their businesses only in
the ordinary course, and maintain their books and records in accordance with
past practices;
(b) That Financial or any Financial Subsidiaries shall not, without
the prior written consent of American (i) declare, set aside or pay any dividend
or make any other distribution with respect to Financial's capital stock or
reacquire any of Financial's outstanding shares, except that Savings shall be
permitted to pay cash dividends to Financial in the ordinary course to meet any
of Financial's obligations; (ii) issue or sell or buy any shares of capital
stock of Financial or any Financial Subsidiary, except shares of Financial
common stock issued pursuant to the Stock Option Plan; (iii) effect any stock
split, stock dividend or other reclassification of Financial's Common Stock; or
(iv) grant any options or issue any warrants exercisable for or securities
convertible or exchangeable into capital stock of Financial or any Financial
Subsidiary or grant any stock appreciation or other rights with respect to
shares of capital stock of Financial or of any Financial Subsidiary;
(c) That Financial and the Financial Subsidiaries shall not, without
the prior written consent of American (which consent shall not be unreasonably
withheld): (i) sell or dispose of any assets of Financial or of any Financial
Subsidiary other than the sale of single-family residential mortgage loans in
the ordinary course; (ii) change the articles of incorporation, charter
documents or other governing instruments of Financial or any Financial
Subsidiary; (iii) except as otherwise provided herein, grant to any employee of
Financial or any Financial Subsidiary an increase in compensation, bonus or
benefits except increases in compensation, bonus or benefits in the ordinary
course of business to non-officer employees; (iv) adopt any new or amend or
terminate any existing Employee Plans or Benefit Arrangements of any type,
except as contemplated herein and in compliance with applicable law; provided,
however, that prior to the Effective Time, Financial and the Financial
Subsidiaries shall be permitted, consistent with past practices, to (A) make
contributions to the Employee Plans and Benefit Arrangements, and
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(B) extend the term of any employment agreement disclosed in Schedule I; (v)
authorize severance pay or other benefits for any employee of Financial or any
Financial Subsidiary except (A) in accordance with existing agreements or (B) as
otherwise provided herein; (vi) incur any material obligation or enter into or
extend any Material Contract; (vii) engage in any lending activities, provided,
however, that Financial or any Financial Subsidiary may, without the prior
approval of the Corporation or American, originate (A) consumer loans in amount
of $50,000 or less per loan, (B) single-family residential loans in amount of
$175,000 or less per loan for retention in its portfolio, (C) single-family
residential loans without limit as to size where Financial or a Financial
Subsidiary has obtained a prior and valid commitment for the purchase of such
loan, and (D) commercial leases in amount of $25,000 or less per lease; (viii)
form any new subsidiary or cause or permit a material change in the activities
presently conducted by any Financial Subsidiary or make additional investments
in subsidiaries; (ix) purchase any equity securities other than Federal Home
Loan Bank stock; (x) make any investment which would cause Savings to not be a
qualified thrift lender under Section 10(m) of the HOLA, or not to be a
"domestic building and loan association" as defined in Section 7701(a)(19) of
the Code; (xi) borrow or agree to borrow any amount of funds, excluding for
these purposes FHLB advances with a maturity not to exceed six months and the
acceptance of deposits in the ordinary course of business; (xii) hire any new
permanent employees; (xiii) make any capital expenditures exceeding $5,000 in
the aggregate; or (xiv) establish interest and fee schedules related to Savings'
deposit products or lending products which materially differ from the average
interest and fees charged for similar products by financial institutions
conducting business in Savings' primary market area.
5.3 No Solicitation. Neither Financial nor Savings will authorize or
---------------
permit any officer, director, employee, investment banker, financial consultant,
attorney, accountant or other representative of Financial or any Financial
Subsidiary, directly or indirectly, to initiate contact with any person or
entity in an effort to solicit, initiate or encourage any "Takeover Proposal"
(as such term is defined below). Except as the fiduciary duties of Financial's
Board of Directors may otherwise require, Financial will not authorize or permit
any officer, director, employee, investment banker, financial consultant,
attorney, accountant or other representative of Financial or any Financial
Subsidiary, directly or indirectly, (A) to cooperate with, or furnish or cause
to be furnished any non-public information concerning its business, properties
or assets to, any person or entity in connection with any Takeover Proposal; (B)
to negotiate any Takeover Proposal with any person or entity; or (C) to enter
into any agreement, letter of intent or agreement in principle as to any
Takeover Proposal. As used in this Agreement with respect to Financial,
"Takeover Proposal" shall mean any proposal, other than as contemplated by this
Agreement, for a merger or other business combination involving Financial or
Savings or for the acquisition of a ten percent (10%) or greater equity interest
in Financial or Savings, or for the acquisition of a substantial portion of the
assets of Financial or Savings. Financial and/or Savings shall notify the
Corporation and American immediately upon they or any officer, director,
employee, investment banker, financial consultant, attorney, accountant or other
representative of Financial or any Financial Subsidiary becoming aware of the
possibility of a Takeover Proposal or having contact initiated with any of them
by any party other than the Corporation or American regarding a significant
corporate event.
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5.4 Shareholder Approval and Support Agreement. Financial shall call the
------------------------------------------
meeting of its shareholders to be held for the purpose of voting upon the
Company Merger and related matters, as soon as practicable. In connection with
such meeting, Financial's Board of Directors shall recommend approval of the
Company Merger, subject to the fiduciary duties of the Board of Directors and
receipt of an updated fairness opinion from its financial advisor immediately
prior to the date of mailing of the proxy statement with respect to the Company
Merger (the "Proxy Statement"). Financial shall use its best efforts to solicit
from its shareholders proxies in favor of approval and to take all other action
necessary or helpful to secure a vote of the holders of the shares of its common
stock in favor of the Company Merger, except as the fiduciary duties of the
Board of Directors may otherwise require.
To induce the Corporation and American to enter into this Agreement,
Financial has delivered letter agreements, each in the form attached hereto as
Exhibit C (each a "Support Agreement"), entered into by all members of
Financial's Board of Directors (solely in their capacity as stockholders of
Financial) committing these stockholders to support the transactions
contemplated by this Agreement by, among other things, voting in favor of such
transactions at the meeting of Financial's shareholders to be held for the
purpose of voting upon the Company Merger and related matters and not disposing
of any Financial Common Stock prior to such meeting.
5.5 Filing of Regulatory Applications. The Corporation and American shall
---------------------------------
prepare and file as soon as practicable after the date hereof all required
applications for regulatory approval of the Company Merger, the Bank Merger and
the other transactions contemplated herein. The Corporation and American shall
provide copies of each such application to Financial and its counsel for their
review at least five (5) days prior to the proposed date of filing. The
Corporation and American shall use all reasonable efforts to obtain prompt
approval of each required application.
5.6 Publicity. Neither the Corporation, Financial nor any of their
---------
subsidiaries shall, without the prior approval of the other, issue or make, or
permit any of its directors, employees, officers or agents to issue or make, any
press release, disclosure or statement to the press or any third party with
respect to the Company Merger, the Bank Merger or the other transactions
contemplated hereby, except as required by law. The parties shall cooperate
when issuing or making any press release, disclosure or statement with respect
to the Company Merger, the Bank Merger or the other transactions contemplated
hereby.
5.7 Cooperation Generally. Between the date of this Agreement and the
---------------------
Effective Time, the Corporation, Financial and their subsidiaries shall use
their best efforts, and take all actions necessary or appropriate (including
their joint cooperation and assistance, as necessary, in preparing the Proxy
Statement and the regulatory applications), to consummate the Company Merger and
the other transactions contemplated by this Agreement at the earliest
practicable date. If, at any time after the Effective Time, the Surviving
Corporation or American shall consider or be advised that any further deeds,
assignments or assurances or any other acts are necessary or desirable to vest,
perfect or confirm, of record or otherwise, in the Surviving Corporation or
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American its right, title or interest in, to or under any of the rights,
properties or assets of Financial or Savings or otherwise carry out the purposes
of this Agreement, Financial and Savings and each of their respective officers
and directors shall be deemed to have granted to the Surviving Corporation and
American an irrevocable power of attorney to execute and deliver all such deeds,
assignments or assurances and to do all acts necessary or desirable to vest,
perfect or confirm title and possession to such rights, properties or assets in
the Surviving Corporation or American and otherwise to carry out the purposes of
this Agreement, and the officers and directors of the Surviving Corporation and
American are authorized in the name of Financial, Savings or otherwise to take
any and all such action.
5.8 Additional Financial Statements and Reports. As soon as reasonably
-------------------------------------------
practicable after they become publicly available, Financial shall furnish to the
Corporation and the Corporation shall furnish to Financial, respectively, its
consolidated balance sheet and related statements of operations, cash flows and
changes in stockholders' equity for all periods prior to the Effective Time.
Such financial statements will be prepared in conformity with generally accepted
accounting principles applied on a consistent basis and fairly present the
financial condition, results of operations and cash flows of the Corporation or
Financial, as the case may be, subject, in the case of unaudited financial
statements, to (a) normal year-end audit adjustments, (b) any other adjustments
described therein and (c) the absence of notes which, if presented, would not
differ materially from those included in its most recent audited consolidated
balance sheet.
5.9 Forbearances of the Corporation. Between the date of this Agreement
-------------------------------
and the Effective Time, the Corporation shall not permit any of its subsidiaries
to, without the prior written consent of Financial, take any action that would
materially adversely affect or delay the ability of either Buyer or Seller to
obtain the Governmental Approvals (as defined in Section 6.1(c) hereof) required
for the transactions contemplated by this Agreement and the Bank Plan of Merger
or to perform its covenants and agreements under this Agreement and the Bank
Plan of Merger.
ARTICLE VI
CONDITIONS OF THE COMPANY MERGER;
TERMINATION OF AGREEMENT
6.1 General Conditions. The obligations of Buyers and Sellers to effect
------------------
the Company Merger and the Bank Merger shall be subject to the following
conditions:
(a) Stockholder Approval. The holders of the outstanding shares of
--------------------
Financial Common Stock shall have approved this Agreement and the Company Merger
by the requisite vote as specified in the IBCA.
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(b) No Proceedings. No order shall have been entered and remain in
--------------
force restraining or prohibiting the Company Merger or the Bank Merger in any
legal, administrative, arbitration, investigatory or other proceedings
(collectively, "Proceedings") by any governmental or judicial or other
authority.
(c) Government Approvals. To the extent required by applicable law
--------------------
or regulation, all approvals of or filings with any governmental authority
(collectively, "Governmental Approvals"), including without limitation those of
the Office of Thrift Supervision ("OTS"), the Federal Deposit Insurance
Corporation ("FDIC"), applicable state regulatory authorities, the Federal Trade
Commission, the U.S. Department of Justice; the Securities and Exchange
Commission, and any state securities or blue sky authorities, shall have been
obtained or made and any waiting periods shall have expired in connection with
the consummation of the Company Merger and the Bank Merger. All other statutory
or regulatory requirements for the valid consummation of the Company Merger and
the Bank Merger and related transactions shall have been satisfied.
6.2 Conditions to Obligations of Buyer. The obligations of Buyers to
----------------------------------
effect the Company Merger, the Bank Merger and the other transactions
contemplated herein shall be subject to the following additional conditions:
(a) Opinion of Counsel for Financial. The Corporation shall have
--------------------------------
received from counsel to Financial an opinion dated as of the Closing Date
covering the following matters:
(i) Financial is a corporation duly incorporated, validly
existing and in good standing under the laws of the State of Iowa;
(ii) Savings is a federal savings bank duly incorporated and
existing under the HOLA;
(iii) This Agreement has been duly and validly authorized,
executed and delivered by Financial and Savings and (assuming that this
Agreement is a binding obligation of the Corporation, American and NewSub)
constitutes a valid and binding obligation of Financial and Savings enforceable
in accordance with its terms, subject as to enforceability to applicable
bankruptcy, insolvency, reorganization, moratorium or similar laws affecting the
enforcement of creditors' rights generally and to the application of equitable
principles and judicial discretion; and
(iv) To the actual knowledge of such counsel, no consent or
approval, which has not already been obtained, from any governmental authority
is required for execution and delivery by Financial or Savings of the Agreement
or any of the documents to be executed and delivered by Financial or Savings in
connection therewith.
Such opinion may (i) expressly rely as to matters of fact upon certificates
furnished by appropriate officers of Financial or Savings or appropriate
government officials; (ii) in the case
A-21
of matters of law governed by the laws of the states in which they are not
licensed, reasonably rely upon the opinions of legal counsel duly licensed in
such states and may be limited, in any event, to Federal Law and laws of the
State of Iowa and (iii) incorporate, be guided by, and be interpreted in
accordance with, the Legal Opinion Accord of the ABA Section of Business Law
(1991).
(b) No Material Adverse Change. Between the date of this Agreement
--------------------------
and the Closing Date, there shall not have occurred any material adverse change
(including failure to obtain anticipated financial statement benefits from prior
federal income tax filings) in the financial condition, business or results of
operations of Financial and the Financial Subsidiaries, taken as a whole, other
than any such change attributable to or resulting from changes in law,
regulation or generally accepted accounting principles or interpretations
thereof of general application to the banking and thrift industries.
(c) Representations and Warranties to be True; Fulfillment of
---------------------------------------------------------
Covenants and Conditions. The representations and warranties of Financial and
- ------------------------
Savings shall be true in all material respects at the Effective Time with the
same effect as though made at the Effective Time (or on the date when made in
the case of any representation or warranty which specifically relates to an
earlier date); except (1) as contemplated by this Agreement, (2) as consented to
in writing by American or (3) for breaches of representations and warranties
which would not have, or would not reasonably be expected to have, a material
adverse effect on the financial condition, business or operations of Financial
and the Financial Subsidiaries, taken as a whole; Financial and Savings shall
have performed all obligations and complied with each covenant, in all material
respects, under this Agreement on their parts to be performed or complied with
at or prior to the Effective Time except for failures to perform or comply with
such obligations and covenants which would not have, or would not reasonably be
expected to have, any material adverse effect on the financial condition,
business or operations of Financial and the Financial Subsidiaries, taken as a
whole; and Financial shall have delivered to American a certificate, dated the
Effective Time and signed by its chief executive officer and chief financial
officer, to such effect.
(d) Acceptance of Legal Matters. The form and substance of all legal
---------------------------
matters contemplated hereby and all papers delivered hereunder shall be
reasonably acceptable to counsel to Buyer.
(e) Consents Under Agreements. Sellers shall have obtained the
-------------------------
consent or approval of each person (other than the Governmental Approvals) whose
consent or approval shall be required in order to permit the succession by the
Surviving Corporation pursuant to the Company Merger or American pursuant to the
Bank Merger to any obligation, right or interest of Financial or any Financial
Subsidiary under any loan or credit agreement, note, mortgage, indenture, lease,
license or other agreement or instrument, except those for which failure to
obtain such consents and approvals would not, individually or in the aggregate,
have a material adverse effect on the Corporation and the Corporation
Subsidiaries taken as a whole or upon the consummation of the transactions
contemplated hereby.
A-22
(f) Stock Options. All of the outstanding Financial Stock Options
-------------
shall have been terminated or cancelled as is contemplated in Section 1.6
herein.
(g) Tax Opinion. The Corporation shall have received an opinion of
-----------
its tax counsel or tax accountants substantially to the effect that (i) the
Corporation and American and Financial and Savings will not recognize any gain
or loss upon the acquisition of Financial Common Stock in the Company Merger;
(ii) Financial will not recognize any gain or loss upon its distribution of all
its assets to, and the assumption of all its liabilities by, American in the
Liquidation; (iii) the Corporation and American will not recognize any gain or
loss upon receipt of all the assets and assumption of all the liabilities of
Financial in the Liquidation; and (iv) the Corporation, American and Savings
will not recognize any gain or loss as a result of the Bank Merger.
(h) Resignation of Directors and Officers. Each of the persons
-------------------------------------
serving as a director or officer of Financial and Savings or any subsidiary of
either shall, at the Closing Date, submit his/her written resignation as a
director or officer, effective as of the Effective Time.
(i) Dissenters Rights. No greater than 15.0% of the outstanding
-----------------
Financial Common Stock entitled to vote at the meeting of Financial's
stockholders to be held for the purpose of voting upon the Company Merger and
related matters, shall have delivered the written notice of intent to demand
payment pursuant to the applicable provisions of the IBCA.
(j) Severance and Other Payments. Each of the individuals listed on
----------------------------
Exhibit D shall have executed and delivered a letter to the Corporation dated as
of the Effective Time providing that the payments made to them, or those
specifically identified to be made to them subsequent to the Effective Time,
pursuant to their employment by Sellers or under the terms of any agreements
with Sellers or as otherwise provided for in this Agreement satisfy all
outstanding obligations of Buyers and Sellers to such individual and no other
payment, of any kind, is or shall be due or owing to such individual by Buyers,
Sellers or any affiliate thereof.
6.3 Conditions to Obligations of Seller. The obligations of Sellers to
-----------------------------------
effect the Company Merger, the Bank Merger and the other transactions
contemplated herein shall be subject to the following additional conditions:
(a) Opinion of Counsel for the Corporation. Financial shall have
--------------------------------------
received from counsel to the Corporation an opinion dated as of the Closing Date
covering the following matters:
(i) The Corporation is a corporation duly organized, validly
existing, and in good standing under the laws of the State of Minnesota;
(ii) American is a Federal savings bank duly incorporated and
existing under the HOLA;
A-23
(iii) This Agreement has been duly and validly authorized,
executed and delivered by the Corporation, American and NewSub and (assuming
this Agreement is a binding obligation of Financial and Savings) constitutes a
valid and binding obligation of the Corporation, American and NewSub enforceable
in accordance with its terms, subject as to enforceability to applicable
bankruptcy, insolvency, reorganization, moratorium or similar laws affecting the
enforcement of creditors' rights generally and to the application of equitable
principles and judicial discretion;
(iv) To the actual knowledge of such counsel, no consent or
approval, which has not already been obtained from any governmental authority,
is required for execution and delivery by the Corporation, American and NewSub
of this Agreement or any of the documents to be executed and delivered by the
Corporation and American in connection therewith.
Such opinion may (i) expressly rely as to matters of fact upon certificates
furnished by appropriate officers of the Corporation or American or appropriate
government officials; (ii) in the case of matters of law governed by the laws of
the states in which they are not licensed, reasonably rely upon the opinions of
legal counsel duly licensed in such states and may be limited, in any event, to
Federal Law and laws of the States of Minnesota and Iowa and (iii) incorporate,
be guided by, and be interpreted in accordance with, the Legal Opinion Accord of
the ABA Section of Business Law (1991).
(b) Representations and Warranties to be True; Fulfillment of
---------------------------------------------------------
Covenants and Conditions. The representations and warranties of the Corporation
- ------------------------
and American shall be true in all material respects at the Effective Time with
the same effect as though made at the Effective Time (or on the date when made
in the case of any representation or warranty which specifically relates to an
earlier date) except (i) as contemplated by this Agreement, (2) as consented to
in writing by Savings or (3) for breaches of representations and warranties
which would not have, or would not reasonably be expected to have, a material
adverse effect on the financial condition, business or operations of the
Corporation and the Corporation Subsidiaries, taken as a whole; the Corporation
and American shall have performed all obligations and complied with each
covenant, in all material respects, and all conditions under this Agreement on
their parts to be performed or complied with at or prior to the Effective Time
except for failure to perform or comply with such obligations and covenants
which would not have, or would not reasonably be expected to have, any material
adverse effect on the financial condition, business or operations of the
Corporation and the Corporation Subsidiaries, taken as a whole; and the
Corporation shall have delivered to Financial a certificate, dated the Effective
Time and signed by its chief executive officer and chief financial officer, to
such effect.
(c) Acceptance of Legal Matters. The form and substance of all legal
---------------------------
matters contemplated hereby and all papers delivered hereunder shall be
reasonably acceptable to counsel to Seller.
A-24
(d) Receipt of Consideration. The Exchange Agent in its fiduciary
------------------------
capacity shall have acknowledged in writing receipt of the aggregate Merger
Consideration for all shares of Financial Common Stock to be acquired hereunder
and the aggregate Stock Option Price for all Financial Stock Options to be
cancelled hereunder.
6.4 Termination of Agreement and Abandonment of Company Merger. This
----------------------------------------------------------
Agreement may be terminated at any time before the Effective Time, whether
before or after approval thereof by shareholders of Financial, as provided
below:
(a) Mutual Consent. By mutual consent of the parties, evidenced by
--------------
their written agreement.
(b) Closing Delay. At the election of either party, evidenced by
-------------
written notice, if the Closing Date shall not have occurred on or before October
31, 1996, or such later date as shall have been agreed to in writing by the
parties; provided, however, that the right to terminate under this Section
-------- -------
6.4(b) shall not be available to any party whose failure to perform an
obligation hereunder has been the cause of, or has resulted in, the failure of
the Closing to occur on or before the date of such written notice.
(c) Conditions to Buyer's Performance Not Met. By the Corporation or
-----------------------------------------
American upon delivery of written notice of termination to Savings if any event
occurs which renders impossible of satisfaction in any material respect one or
more of the conditions to the obligations of Buyer to effect the Company Merger
or the Bank Merger set forth in Sections 6.1 and 6.2 and noncompliance is not
waived by Buyer; provided, however, that the right to terminate under this
paragraph shall not be available to the Corporation or American where either of
their failure to perform an obligation hereunder has been the cause of, or has
resulted in, the failure of the Closing to occur on or before the date of such
written notice.
(d) Conditions to Sellers Performance Not Met. By Financial or
-----------------------------------------
Savings upon delivery of written notice of termination to the Corporation or
American if any event occurs which renders impossible of satisfaction in any
material respect one or more of the conditions to the obligations of Seller to
effect the Company Merger or the Bank Merger set forth in Sections 6.1 and 6.3
and noncompliance is not waived by Sellers; provided, however, that the right to
terminate under this paragraph shall not be available to Financial or Savings
where either of their failure to perform an obligation hereunder has been the
cause of, or has resulted in, the failure of the Closing to occur on or before
such date.
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ARTICLE VII
TERMINATION OF OBLIGATIONS; PAYMENT OF EXPENSES
7.1 Termination; Lack of Survival of Representations and Warranties. In
---------------------------------------------------------------
the event of the termination and abandonment of this Agreement pursuant to
Section 6.4 of this Agreement, this Agreement shall become void and have no
effect, except that (i) the provisions of Sections 3.9 and 4.6 (Brokers and
Finders), 5.6 (Publicity), 7.2 (Expenses) and 9.2 (Confidentiality) of this
Agreement shall survive any such termination and abandonment, and (ii) a
termination pursuant to Sections 6.4(c) or 6.4(d) of this Agreement shall not
relieve the breaching party from liability for an uncured willful breach of a
representation, warranty, covenant, or agreement giving rise to such
termination.
The representations, warranties and agreements of the parties set forth in
this Agreement shall not survive the Effective Time, and shall be terminated and
extinguished at the Effective Time, and from and after the Effective Time none
of the parties hereto shall have any liability to any other party on account of
any breach or failure of any of those representations, warranties and
agreements; provided, however, that the foregoing clause shall not (i) apply to
-------- -------
agreements of the parties which by their terms are intended to be performed
after the Effective Time, and (ii) shall not relieve any person for liability
for fraud, deception or intentional misrepresentation.
7.2 Payment of Expenses. (a) Each of the parties hereto shall bear and
-------------------
pay all costs and expenses incurred by it or on its behalf in connection with
the transactions contemplated hereunder.
(b) Notwithstanding any provision in this Agreement to the contrary,
in order to induce the Corporation and American to enter into this Agreement and
as a means of compensating the Corporation and American for the substantial
direct and indirect monetary and other costs incurred and to be incurred in
connection with this Agreement and the transactions contemplated hereby,
Financial and Savings agree that if this Agreement is terminated in accordance
with its terms (other than if terminated by Financial and Savings pursuant to
Section 6.4(d) hereof as a result of the Corporation's noncompliance with the
conditions set forth in Section 6.3(b) hereof) and prior to such termination a
Termination Event, as defined in paragraph (c) below, shall have occurred,
Financial and Savings will upon demand pay to the Corporation and American in
immediately available funds $500,000.
(c) For purposes of this Agreement, a Termination Event shall mean
either of the following:
(i) Financial or any Financial Subsidiary, without having
received the Corporation's prior written consent, shall have entered into an
agreement to engage in an Acquisition Transaction (as defined below) with any
person (the term "person" for purposes of this Agreement having the meaning
assigned thereto in Sections 3(a)(9) and 13(d)(3) of the Securities Exchange Act
of 1934, and the rules and regulations thereunder) other than the
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Corporation or any affiliate of the Corporation (the term "affiliate" for
purposes of this Agreement having the meaning assigned thereto in Rule 405 under
the Securities Act of 1933) or the Board of Directors of Financial shall have
recommended that the shareholders of Financial approve or accept any Acquisition
Transaction with any person other than the Corporation or any affiliate of the
Corporation. For purposes of this Agreement, "Acquisition Transaction" shall
mean (x) a merger or consolidation, or any similar transaction, involving
Financial or any Financial Subsidiary, (y) a purchase, lease, or other
acquisition of all or substantially all of the assets of Financial or any
Financial Subsidiary or (z) a purchase or other acquisition (including by way of
merger, consolidation, share exchange or otherwise) of 15% or more of any class
of equity securities of Financial or any Financial Subsidiary; or
(ii) After a bona fide proposal is made by any person other
than the Corporation or any affiliate of the Corporation to Financial or its
shareholders to engage in an Acquisition Transaction, either (x) Financial shall
have willfully breached any covenant or obligation contained in this Agreement
and such breach would entitle the Corporation to terminate this Agreement, or
(y) the holders of Financial Common Stock shall not have approved this Agreement
at the meeting of such shareholders held for the purpose of voting on this
Agreement, such meeting shall not have been held or shall have been cancelled
prior to termination of this Agreement or Financial's Board of Directors shall
have withdrawn or modified in a manner adverse to the Corporation the
recommendation of Financial's Board of Directors with respect to this Agreement.
7.3 Non-Enforceability. This Agreement is not intended to confer nor does
------------------
it confer upon any person other than the parties hereto any rights or remedies
hereunder, except with respect to the Merger Consideration upon consummation of
the Company Merger and except as contemplated in Sections 8.1(a)(ii) and (iii)
and 8.2 herein (each of which shall be enforceable by the party intended to be
benefitted thereby).
ARTICLE VIII
CERTAIN FURTHER AGREEMENTS
8.1 Employees and Benefits. (a)(i) The Corporation and American shall on
----------------------
and after the Effective Time, subject to the exercise of their business judgment
in their sole discretion, use reasonable efforts to continue the employment of
the employees of Financial and Savings as of the Effective Time at comparable
positions as employed prior to the Effective Time. To the extent such
employment is not so available, the Corporation and American, subject to the
exercise of their business judgment in their sole discretion, shall use all
reasonable efforts to secure alternative employment for any such persons within
the Corporation or any of the Corporation Subsidiaries, including any new
positions in the Fargo-Moorhead area.
A-27
(ii) The existing severance agreement between Brian P. Wittman
and Financial will be terminated at the Effective Time, and in lieu thereof the
severance agreement between Mr. Wittman and American, which shall be binding on
both parties in accordance herewith and be in the form of a letter agreement to
be executed by American and Mr. Wittman at the Effective Time, shall be as
follows: (A) on the earlier to occur of 120 days following the Effective Time or
December 31, 1996, Mr. Wittman will receive as consideration for agreeing to
terminate his existing severance agreement (and such rights as he may be
entitled to thereunder) and for assisting in the transition following the
Effective Time a cash payment of $23,130 from American; (B) on the date that is
120 days following the Effective Time, Mr. Wittman will receive an additional
cash payment of $23,130 from American, unless on or prior to such date Mr.
Wittman and American agree in writing for Mr. Wittman to continue full time
employment with American on mutually acceptable terms, in which event such
additional $23,130 payment shall not be made; (C) in the event Mr. Wittman's
employment is terminated by either the Corporation or American prior to the date
on which a payment is to be made pursuant to clause (A) or (B) hereunder, Mr.
Wittman will receive a cash payment of $46,260 less any payment previously
tendered to him pursuant to clause (A) or (B) effective upon such termination
and no further payment shall be required hereunder; and (D) no payments still
owing to Mr. Wittman hereunder will be due if at any time prior to the date on
which a payment is required to be made hereunder Mr. Wittman voluntarily self-
terminates his employment or he is terminated by American for cause. Following
the Effective Time, Mr. Wittman's salary during his period of continued
employment shall be the same salary he is receiving as of the date hereof from
Savings until the earlier of his termination of employment or the entering into
of the agreement of the parties as contemplated in clause (B) herein.
(iii) Buyers will be required to pay each Financial or Savings
employee listed in Exhibit 8.1(a)(iii) hereto a cash payment ("Payment") six
months after the Effective Time calculated pursuant to the formula set forth in
Part 1 of Exhibit 8.1(a)(iii). Such "Payment" will not be due, however, to an
employee if at any time prior to the expiration of such six month period, the
employee self-terminates his/her employment or is terminated by the Corporation
or American or Financial or Savings for cause. In addition, in any instance
where the Corporation or American or Financial or Savings terminates an employee
noted as a Senior Officer on Exhibit 8.1(a)(iii) without cause within one year
following the Effective Time, such employee shall receive, in addition to the
Payment made pursuant to the first sentence of this Paragraph 8.1(a)(iii), a
payment ("Severed W/O Cause") calculated pursuant to the formula set forth in
Part 2 of Exhibit 8.1(a)(iii). Such additional "Severed W/O Cause" payment will
not be due, however, to such Senior Officer employee if at any time prior to the
expiration of such one year period, the Senior Officer employee self-terminates
his/her employment or is terminated by the Corporation or American or Financial
or Savings for cause.
(iv) After the Effective Time, the continuing employees of
Financial and Savings shall be eligible to receive medical, group
hospitalization, dental, life and disability insurance and other welfare
benefits no less than those provided to other employees of the Corporation and
American holding comparable positions. The continuing employees of Financial and
Savings shall not be subject to any exclusion or penalty for pre-existing
conditions after the
A-28
Effective Time which were covered under an existing Financial or Savings medical
insurance plan or any waiting period relating to coverage under a Corporation or
American medical insurance plan and they will receive full credit for payment of
current and past premiums, co-payments and deductibles.
(v) After the Effective Time, the continuing employees of
Financial and Savings shall become subject to the Corporation's and American's
policies and procedures relative to long-term disability, short-term disability
and paid time off, the latter of which is available for both vacation time and
sick time, to the same extent as comparably situated Corporation or American
employees. Accrued vacation time for continuing Financial and Savings employees
shall be converted into paid time off on a one for one basis. Those employees of
Financial or Savings not continuing as employees of the Corporation or American
shall be compensated (based upon their current rate of salary) for any accrued
vacation time but not for accrued sick leave.
(vi) Each employee of Financial or any Financial Subsidiary who
becomes an employee of the Corporation or any of its Subsidiaries as of the date
of the Company Merger shall be immediately entitled to participate in all
employee benefit plans sponsored by the Corporation or any of the Corporation
Subsidiaries to the same extent as other comparably situated employees of the
Corporation and American. Such employees shall receive credit for their prior
period of service to Financial or any Financial Subsidiary for purposes of
determining eligibility, participation and vesting in all Corporation or the
Corporation Subsidiaries employee benefit plans and for receiving other employee
benefits.
(b) As soon as practicable after the execution of this Agreement,
Financial and the Corporation will cooperate to cause the Financial ESOP and
Savings' 401(k) Profit Sharing Plan (together, the "Terminating Plans") to be
amended and other action taken in a manner reasonably acceptable to Financial
and the Corporation to provide (i) that each participant in the Terminating
Plans not fully vested will become fully vested in his or her plan account as of
the Effective Time, and (ii) that Financial and Savings shall terminate on or
before the Effective Time the Terminating Plans. The ESOP amendment and other
action taken will provide that, upon the repayment of the ESOP loan, the
remaining proceeds in the Loan Suspense Account will be allocated (to the extent
permitted by Section 415 of the Code and other applicable laws and regulations)
to ESOP participants (as determined under the terms of the ESOP). As soon as
practicable after the Effective Time, Financial and the Corporation agree that
participants in the Terminating Plans will receive lump sum distributions of
their plan accounts. To the extent permitted by applicable law, and to the
extent requested by participants in the Financial Terminating Plans, the
Corporation will permit continuing employees to elect to have their accounts
under the Financial ESOP and Savings' 401(k) Profit Sharing Plan transferred,
respectively, into the Corporation's ESOP and American's 401(k) plan.
The amendments to each Terminating Plan and actions related
thereto will be adopted conditioned upon the consummation of the Company Merger
and upon receiving a favorable determination letter from the IRS with regard to
the continued qualification of the
A-29
Terminating Plan after any required amendments and any private letter ruling
that Financial and the Corporation shall mutually deem appropriate. Financial
and the Corporation will cooperate in submitting appropriate requests for any
such determination letters or rulings to the IRS and will use their best efforts
to seek the issuance of such letter or ruling as soon as practicable following
the date hereof. Financial and the Corporation will adopt such additional
amendments to the Terminating Plans as may be reasonably required by the IRS as
a condition to granting such determination letter or ruling provided that such
amendments do not substantially change the terms outlined herein.
Notwithstanding anything to the contrary in this Agreement, until
the Effective Time, Financial and Savings shall not be permitted to make
additional contributions to the ESOP, except that Financial and Savings shall be
permitted to make a contribution to the ESOP in December 1996 in the amount
sufficient for the ESOP to pay the requisite amount of the principal and
interest then due on the ESOP loan. Any remaining indebtedness on the ESOP loan
as of the Effective Time shall be repaid from the Trust associated with the
ESOP.
If the final distribution of the assets from the Financial ESOP
has not been completed prior to the Effective Time, the Corporation shall cause
the ESOP to be continued for the exclusive benefit of employees and other
persons who were participants or beneficiaries therein prior to the Effective
Time and proceed with termination of the ESOP through distribution of its assets
in accordance with its terms without substantive amendments, unless such
amendments are needed to comply with applicable law or to obtain a favorable
determination from the IRS as to the continuing qualified status of the ESOP.
Financial shall cause the Financial ESOP to be amended, effective as of the
Effective Time, to provide that the administrative committee thereof shall
consist of two individuals appointed by the Board of Directors of Financial
prior to the Effective Time (which individuals may not be removed or changed by
the Corporation or its affiliates after the Effective Time) and three or more
individuals designated by and serving at the pleasure of the Corporation.
(c) The existing employment agreements between Financial and Savings
and David S. Paulson and Mary K. Nelson shall each be terminated at the
Effective Time. The Corporation and American acknowledge and agree that
consummation of the Company Merger constitutes a change of control under Mr.
Paulson's and Ms. Nelson's employment agreements, that the conditions set forth
in paragraph (a) of Section 11 of the employment agreement between each such
person and Savings will exist and, therefore, each of Mr. Paulson and Ms. Nelson
will be entitled to the payment determined pursuant to Section 11(a) of such
agreements upon consummation of the Company Merger. Assuming payment of the
requisite amount under Section 11(c) of each person's employment agreement with
Savings, no further payment will be required to be made upon termination of such
person's employment agreement with Financial. Attached hereto as Exhibit E is a
schedule of the maximum payments that could be made to Mr. Paulson and Ms.
Nelson as of the Closing Date computed pursuant to Section 11(a) of their
agreements, without reference to any deductions for deemed parachute payments
pursuant to Section 280G of the Code.
A-30
(d) Savings' Directors' Retirement Plan shall be terminated at and as
of the Effective Time and as of such time the participants therein will be fully
vested in and eligible to receive benefits thereunder. The Corporation and
American acknowledge and agree that consummation of the Company Merger
constitutes a change of control under the Directors' Retirement Plan. To the
extent permitted by applicable law and the Directors' Retirement Plan, all
vested accrued benefits (without present value reductions for a beneficiary in
pay status) shall be distributed as of the Effective Time. Attached hereto as
Exhibit F is a schedule of the payments to be made under Savings' Directors'
Retirement Plan upon its termination as of the Effective Time.
(e) Savings shall continue to maintain any corporate-owned life
insurance on its officers and directors in effect as of the date hereof through
the Effective Time, and shall, on or before the Effective Time, terminate any of
its obligations to provide death benefits to such officers and directors, and no
payments of any kind will be made on account of such termination. Attached
hereto as Exhibit G is the form of the letter agreement to be entered into as of
the Effective Time by each individual covered by any corporate-owned life
insurance agreeing to the termination of any right to death benefits.
(f) Savings shall terminate its Deferred Compensation Plan on or
before the Effective Time at no expense to, or require any payment by, Buyers or
Sellers.
(g) Consistent with the provisions herein, Financial and Savings may
take such actions on or before the Effective Time as are necessary or
appropriate to effectuate the provisions of this Section 8.1, including but not
limited to (i) the adoption and execution of agreements and amendments relating
to the plans, programs and agreements referenced herein and (ii) the adoption
and execution of any amendment required by applicable law.
8.2 Indemnification and Insurance. (a) From and after the Effective Time,
-----------------------------
the Corporation and American (including any successor thereto) shall indemnify,
defend and hold harmless each person who is now, or has been at any time prior
to the date hereof or who becomes prior to the Effective Time, an officer,
director or employee of Financial or any of the Financial Subsidiaries (the
"Indemnified Parties") against all losses, claims, damages, costs, expenses
(including attorney's fees), liabilities, judgments or amounts that are paid in
settlement of or in connection with any claim, action, suit, proceeding or
investigation (each a "Claim") in which an Indemnified Party is, or is
threatened to be made, a party or a witness based in whole or in part on or
arising in whole or in part out of the fact that such person is or was a
director, officer or employee of Financial or any Financial Subsidiary if such
Claim pertains to any matter or fact arising, existing or occurring prior to the
Effective Time (including, without limitation, the Company Merger and other
transactions contemplated by this Agreement), regardless of whether such Claim
is asserted or claimed prior to, or at or after, the Effective Time (the
"Indemnified Liabilities") to the full extent permitted under (i) applicable
Iowa or federal law in effect as of the date hereof or as amended applicable to
a time prior to the Effective Time or (ii) under Financial's or Savings'
Articles of Incorporation, Charter and Bylaws. The Corporation and American
shall pay expenses in advance of the final disposition of any such claim to each
A-31
Indemnified Party to the full extent permitted by Iowa or federal law in effect
as of the date hereof or as amended applicable to a time prior to the Effective
Time upon receipt of any undertaking required by applicable law. Any
Indemnified Party wishing to claim indemnification hereunder upon learning of
any Claim, shall notify the Corporation promptly after learning of any Claim
(but the failure so to notify the Corporation shall not relieve them from any
liability which they may have under this Section 8.2(a) except to the extent
such failure materially prejudices the Corporation) and shall deliver to the
Corporation the undertaking, if any, required by applicable law. The
Corporation shall insure, to the extent permitted under applicable law, that all
limitations of liability existing in favor of the Indemnified Parties as
provided in Financial's Articles of Incorporation and Bylaws, as in effect as of
the date hereof, or allowed under applicable Iowa or federal law as in effect as
of the date hereof or as amended applicable to a time prior to the Effective
Time, with respect to claims or liabilities arising from facts or events
existing or occurring prior to the Effective Time (including, without
limitation, the transactions contemplated by this Agreement), shall survive the
Company Merger.
(b) From and after the Effective Time, the directors, officers and
employees of Financial and the Financial Subsidiaries who become directors,
officers or employees of the Corporation or its subsidiaries, (i) shall have
indemnification rights having prospective application only, except for the
indemnification rights set forth in paragraph (a) above and (ii) shall be
covered by the directors, officers and employees liability insurance policy of
the Corporation and its subsidiaries on a basis at least equal to the coverage
provided to persons in similar positions with the Corporation or any of the
Corporation Subsidiaries. The prospective indemnification rights granted
consistent with the provisions hereunder shall consist of such rights to which
directors, officers and employees of the Corporation or the Corporation
Subsidiaries are entitled under the provisions of (A) the Articles of
Incorporation, or similar governing documents, of the Corporation and its
subsidiaries, as in effect from time to time after the Effective Time, as
applicable, and (B) provisions of applicable Minnesota and federal law as in
effect from time to time after the Effective Time.
(c) The obligations of the Corporation and American provided under
paragraphs (a) and (b) of this Section 8.2 are intended to be the joint and
several obligations of the Corporation and American and to benefit, and be
enforceable against the Corporation and American directly by, the Indemnified
Parties, and shall be binding on all respective successors and permitted assigns
of the Corporation and American.
(d) Subject to availability and a cost of no greater than $15,000,
the Corporation shall permit Financial and Savings to purchase and keep in force
for a period of at least three years following the Effective Time, directors'
and officers' liability insurance to provide coverage for acts or omissions of
the type and in the amount currently covered by Financial's and Savings'
existing directors' and officers' liability insurance for acts or omissions
occurring on or prior to the Effective Time.
A-32
ARTICLE IX
GENERAL
9.1 Amendments. Subject to applicable law, this Agreement may be amended,
----------
whether before or after any relevant approval of shareholders, by an agreement
in writing executed in the same manner as this Agreement and authorized or
ratified by the Boards of Directors of the parties hereto, provided that, after
-------------
the adoption of the Agreement by the shareholders of Financial, no such
amendment without further shareholder approval may change the amount or form of
the consideration to be received by Financial shareholders in the Company
Merger.
9.2 Confidentiality. All information disclosed hereafter by any party to
---------------
this Agreement to any other party to this Agreement, including, without
limitation, any information obtained pursuant to Section 5.1 hereof, shall be
kept confidential by such other party and shall not be used by such other party
otherwise than as herein contemplated except to the extent that (i) it was known
by such other party on a non-confidential basis when received, (ii) it is or
hereafter becomes lawfully obtainable from other sources, (iii) it is necessary
or appropriate to disclose to the OTS, the FDIC or any other applicable
regulatory authority having jurisdiction over the parties or their subsidiaries
or as may otherwise be required by law, or (iv) to the extent such duty as to
confidentiality is waived by the other party. In the event of the termination
of this Agreement, each party shall return upon request to the other party all
documents (and reproductions thereof) received from such other party (and, in
the case of reproductions, all such reproductions made by the receiving party)
that include information not within the exceptions contained in the first
sentence of this Section 9.2.
9.3 Governing Law. This Agreement and the legal relations between the
-------------
parties shall be governed by and construed in accordance with the laws of the
State of Minnesota without taking into account a provision regarding choice of
law, except to the extent certain matters may be governed by federal law by
reason of preemption and except to the extent that consummation of the Company
Merger shall be governed by Iowa law.
9.4 Notices. Any notices or other communications required or permitted
-------
hereunder shall be sufficiently given if sent by registered mail or certified
mail, postage prepaid, addressed, if to the Corporation or American, to
The Corporation AFS Financial Corporation
124 DeMers Avenue
East Grand Forks, Minnesota 56721
Attn: Steven P. Worwa, President
with copy to: Elias Matz Tiernan & Herrick, L.L.P.
12th Floor
734 15th Street, N.W.
Washington, D.C. 20005
Attn: Daniel P. Weitzel, Esquire
A-33
Financial Northwestern Financial Corp.
720 Main Avenue
Fargo, North Dakota 58103
Attn: David S. Paulson, President
with copy to: Housley Kantarian & Bronstein, P.C.
1220 19th Street, N.W., Suite 700
Washington, D.C. 20036
Attn: Gary R. Bronstein, Esquire
or such other address as shall be furnished in writing by any such party, and
any such notice or communication shall be deemed to have been given two business
days after the date of such mailing (except that the notice of change of address
shall not be deemed to have been given until received by the addressee).
Notices may also be sent by telegram, telex, facsimile transmission or hand
delivery and in such event shall be deemed to have been given as of the date
received.
9.5 No Assignment. This Agreement may not be assigned by any of the
-------------
parties hereto, by operation of law or otherwise, except as contemplated hereby.
9.6 Headings. The description heading of the several Articles and
--------
Sections of this Agreement are inserted for convenience only and do not
constitute a part of this Agreement.
9.7 Counterparts. This Agreement may be executed in one or more
------------
counterparts, all of which shall be considered one and the same agreement and
shall become effective when one or more counterparts have been signed by each of
the parties hereto and delivered to each of the other parties hereto.
9.8 Construction and Interpretation. Except as the context otherwise
-------------------------------
requires, (a) all references herein to any state or federal regulatory agency
shall also be deemed to refer to any predecessor or successor agency, and (b)
all references to state and federal statutes or regulations shall also be deemed
to refer to any successor statute or regulation.
9.9 Entire Agreement. This Agreement, together with the schedules, lists,
----------------
exhibits and certificates required to be delivered hereunder, and any amendment
hereafter executed and delivered in accordance with Section 9.1, constitutes the
entire agreement of the parties, and supersedes any prior written or oral
agreement or understanding among any of the parties hereto pertaining to the
Company Merger. This Agreement is not intended to confer upon any other persons
any rights or remedies hereunder except as expressly set forth herein.
9.10 Severability. Whenever possible, each provision of this Agreement
------------
shall be interpreted in such manner as to be effective and valid under
applicable law, but if any provision of this Agreement is held to be prohibited
by or invalid under applicable law, such provision will be ineffective only to
the extent of such prohibition or invalidity, without invalidating the remainder
of such provision or the remaining provisions of the Agreement.
A-34
IN WITNESS WHEREOF, each of the parties has caused this Agreement to be
executed on its behalf by its officers thereunder duly authorized, all as of the
date set forth above.
AFS FINANCIAL CORPORATION NORTHWESTERN FINANCIAL CORP.
By: /s/ Steven P. Worwa By: /s/ David S. Paulson
------------------------- ---------------------------------
Name: Steven P. Worwa Name: David S. Paulson
Title: President and Chief Executive Title: President and Chief Executive
Officer Officer
AMERICAN FEDERAL BANK NORTHWESTERN SAVINGS BANK, F.S.B.
By: /s/ Steven P. Worwa By: /s/ David S. Paulson
------------------------- ---------------------------------
Name: Steven P. Worwa Name: David S. Paulson
Title: President and Chief Executive Title: President and Chief Executive
Officer Officer
AMERICAN ACQUISITION CORP.
By: /s/ Steven P. Worwa
-------------------------
Name: Steven P. Worwa
Title: President and Chief Executive
Officer
A-35
EXHIBIT 8.1(a)(iii)
Employee
--------
Stan Bachmeier * Becky Stahl
Lisa Benson Carol Udart *
Pat Berglund Paula Wagner
Marlene Dukart George Wynn
Arlene Duval Rae Dabill
Nancy Ellingson Cliff Dronen
Pat Estenson Marlene Farley
Bernice Fredericks * Becky Waldera
Ralph Jose Jason Bedford
Becky Klein Debbie Greff
Marie Larson Mary Hewitt
Marlin Lindquist * Kimberly Jech
Lynette Neuschwander Nate Monson
Marcia Nustad Karl Pape
Eric Rogne * Frank Needham
______________
* Senior Officer
Part 1.
Non-Senior Officers:
Monthly Base
Years of Service and Compensation Payment(a)
---------------- ------------ ----------
N/A Full Commissioned $1,000
Employees
Less than 1.5 years Less than $1,500 $1,000
1.5 years to 3 years Less than $1,500 $1,750
More than 3 years More than $1,500 $5,000
_____________
(a) Employees not meeting both the Years of Service and Compensation
thresholds fall into the next lower Payment category.
Senior Officers:
1/2 of monthly base salary for each year of service up to a
maximum of six months.
Part 2
None-Senior Officers:
None
Senior Officers:
1/2 of monthly base salary for each year of service up to a
maximum of six months.
A-36
APPENDIX B
June 3, 1996
Board of Directors
Northwestern Financial Corp.
701 Main Avenue
Fargo, North Dakota 58103
Dear Directorate:
You have requested our opinion as to the fairness, from a financial point of
view, to the holders of the outstanding shares of common stock, par value $0.01
per share, (the "Common Stock") of Northwestern Financial Corp. ("NFC" or the
"Company"), of the consideration to be paid for the Common Stock pursuant to the
Reorganization and Merger Agreement (the "Agreement") dated as of February 13,
1996 among AFS Financial Corporation, American Acquisition Corp. (collectively
"AFS"), and American Federal Bank ("AFB") and NFC, Northwestern Savings Bank FSB
(collectively, the "Company").
Pursuant to the agreement, the Company will be merged with a wholly owned
subsidiary of AFB and each share of outstanding Common Stock of NFC, other than
shares held by dissenters, shall be exchanged for a price of $23.25 per share
("Acquisition Share Price"), representing aggregate consideration of $12.5
million (the "Consideration"). Consideration paid to NFC shareholders by AFS
shall be in the form of cash. Holders of NFC options shall also be cashed out
at $13.25 which represents the Acquisition Share Price less the option exercise
price of $10.00 per share.
Robert W. Baird & Co. Incorporated ("Baird"), as part of its investment banking
business, is engaged in the evaluation of businesses and their securities in
connection with mergers and acquisitions, negotiated underwritings, competitive
biddings, secondary distributions of listed and unlisted securities, private
placements, and valuations for estate, corporate and other purposes. Baird is
familiar with the Company having provided financial advisory services in
connection with the negotiations leading to the Agreement.
In connection with the opinion, we have reviewed among other things: (a) the
Agreement; (b) NFC's proxy statement dated September 25, 1995; (c) NFC's audited
financial statements for the five fiscal years ended June 30, 1995; and its
interim financial statements on Form 10-Q for the period ended September 30,
1995, December 31, 1995, and March 31, 1996; (d) financial forecasts and
analyses prepared by Management of the Company; (e) the views of senior
management and the Board of Directors of the Company's past and future business
operations; (f) certain reported price and trading history for the NFC's common
stock; (g) the financial terms of recent business combinations in the savings
institution business; (h) the current market environment generally and the
banking environment in particular; and, (i) such other financial information,
studies, analyses and investigations as well as financial, market and economic
criteria we considered relevant.
Northwestern Financial Corp.
Page 2
In performing our review, we have relied without independent verification upon
the accuracy and completeness of all of the financial and other information
reviewed by us for purposes of this opinion. We did not make an independent
evaluation or appraisal of the specific assets, the collateral securing assets
and liabilities of the Company or the collectibility of any such assets. With
respect to the financial projections reviewed with management, we have assumed
they reflect the best currently available estimates and judgments of the
Company's Management. We also have assumed that there has been no material
change in the Company's financial condition, results of operation, business or
prospects since the date of the last financial statements made available to us.
We have assumed that AFS will receive regulatory approvals without undue delay.
Our opinion is necessarily based on economic, market and other conditions in
effect on and material made available to us as of the date hereof. Subsequent
events could materially effect the assumptions used in this opinion. We have
not undertaken to reaffirm or revise this opinion or otherwise comment on any
events occurring after the date hereof.
We have acted as NFC's financial advisor and will receive a fee for that
service. A significant portion of that fee is contingent on consummation of an
acquisition.
It is understood that this opinion is not to be quoted or referred to, in whole
or part, in a registration statement, prospectus or proxy statement, or in any
other document used in connection with the offering or sale of securities, nor
shall this letter be used for any other purposes, without Baird's prior written
consent. Baird hereby consents to the inclusion of this opinion in any
registration statement or proxy statement used in connection with the
Acquisition so long as the opinion is quoted in full in such registration
statement or proxy statement.
Based upon and subject to the foregoing, we are of the opinion that, as of the
date hereof, the Consideration to be received by the holders of the Common Stock
pursuant to the Agreement is fair, from a financial point of view, to such
holders.
Very truly yours,
/s/ ROBERT W. BAIRD & CO. INCORPORATED
Steven P. Kent
Managing Director
APPENDIX C
APPENDIX C
DIVISION XIII
DISSENTERS' RIGHTS
PART A
490.1301 DEFINITIONS FOR DIVISION XIII. -- In this division:
1. "Beneficial shareholder" means the person who is a beneficial owner of
shares held by a nominee as the record shareholder.
2. "Corporation" means the issuer of the shares held by a dissenter
before the corporate action, or the surviving or acquiring corporation by merger
or share exchange of that issuer.
3. "Dissenter" means a shareholder who is entitled to dissent from
corporate action under Section 490.1302 and who exercises that right when and in
the manner required by sections 490.1320 through 490.1328.
4. "Fair value", with respect to a dissenter's shares, means the value of
the shares immediately before the effectuation of the corporate action to which
the dissenter objects, excluding any appreciation or depreciation in
anticipation of the corporate action unless exclusion would be inequitable.
5. "Interest" means interest from the effective date of the corporate
action until the date of payment, at the average rate currently paid by the
corporation on its principal bank loans or, if none, at a rate that is fair and
equitable under all circumstances.
6. "Record shareholder" means the person in whose name shares are
registered in the records of a corporation or the beneficial owner of shares to
the extent of the rights granted by a nominee certificate on file with a
corporation.
7. "Shareholder" means the record shareholder or the beneficial
shareholder.
490.1302 SHAREHOLDERS' RIGHT TO DISSENT. --
1. A shareholder is entitled to dissent from, and obtain payment of the
fair value of the shareholder's shares in the event of, any of the following
corporate actions:
a. Consummation of a plan of merger to which the corporation is a
party if either of the following apply:
(1) Shareholder approval is required for the merger by section
490.1103 or the articles of incorporation and the shareholder is entitled to
vote on the merger.
(2) The corporation is a subsidiary that is merged with its
parent under section 490.1104.
b. Consummation of a plan of share exchange to which the corporation
is a party as the corporation whose shares will be acquired, if the shareholder
is entitled to vote on the plan.
c. Consummation of a sale or exchange of all, or substantially all,
of the property of the corporation other than in the usual and regular course of
business, if the shareholder is entitled to vote on the sale or exchange,
including a sale in dissolution, but not including a sale pursuant to court
order or a sale for cash pursuant to a plan by which all or substantially all of
the net proceeds of the sale will be distributed to the shareholders within one
year after the date of sale.
d. An amendment of the articles of incorporation that materially and
adversely affects rights in respect of a dissenter's shares because it does any
or all of the following:
(1) Alters or abolishes a preferential right of the shares.
(2) Creates, alters, or abolishes a right in respect of
redemption, including a provision respecting a sinking fund for the redemption
or repurchase, of the shares.
(3) Alters or abolishes a preemptive right of the holder of the
shares to acquire shares or other securities.
(4) Excludes or limits the right of the shares to vote on any
matter, or to cumulate votes, other than a limitation by dilution through
issuance of shares or other securities with similar voting rights.
(5) Reduces the number of shares owned by the shareholder to a
fraction of a share if the fractional share so created is to be acquired for
cash under section 490.604.
C-1
(6) Extends, for the first time after being governed by this
chapter, the period of duration of a corporation organized under chapter 491 or
496A and existing for a period of years on the day preceding the date the
corporation is first governed by this chapter.
e. Any corporate action taken pursuant to a shareholder vote to the
extent the articles of incorporation, bylaws, or a resolution of the board of
directors provides that voting or nonvoting shareholders are entitled to dissent
and obtain payment for their shares.
2. A shareholder entitled to dissent and obtain payment for the
shareholder's shares under this chapter is not entitled to challenge the
corporate action creating the shareholder's entitlement unless the action is
unlawful or fraudulent with respect to the shareholder or the corporation.
490.1303 DISSENT BY NOMINEES AND BENEFICIAL OWNERS. --
1. A record shareholder may assert dissenters' rights as to fewer than
all the shares registered in that shareholder's name only if the shareholder
dissents with respect to all shares beneficially owned by any one person and
notifies the corporation in writing of the name and address of each person on
whose behalf the shareholder assets dissenters' rights. The rights of a partial
dissenter under this subsection are determined as if the shares as to which the
shareholder dissents and the shareholder's other shares were registered in the
names of different shareholders.
2. A beneficial shareholder may assert dissenters' rights as to shares
held on the shareholder's behalf only if the shareholder does both of the
following:
a. Submits to the corporation the record shareholder's written
consent to the dissent not later than the time the beneficial shareholder
asserts dissenters' rights.
b. Does so with respect to all shares of which the shareholder is
the beneficial shareholder or over which that beneficial shareholder has power
to direct the vote.
PART B
490.1320 NOTICE OF DISSENTERS' RIGHTS. --
1. If proposed corporate action creating dissenters' rights under section
490.1302 is submitted to a vote at a shareholders' meeting, the meeting notice
must state that shareholders are or may be entitled to assert dissenters' rights
under this part and be accompanied by a copy of this part.
2. If corporate action creating dissenters' rights under section 490.1302
is taken without a vote of shareholders, the corporation shall notify in writing
all shareholders entitled to assert dissenters' rights that the action was taken
and send them the dissenters' notice described in section 490.1322.
490.1321 NOTICE OF INTENT TO DEMAND PAYMENT. --
1. If proposed corporate action creating dissenters' rights under section
490.1302 is submitted to a vote at a shareholders' meeting, a shareholder who
wishes to assert dissenters' rights must do all of the following:
a. Deliver to the corporation before the vote is taken written
notice of the shareholder's intent to demand payment for the shareholder's
shares if the proposed action is effectuated.
b. Not vote the dissenting shareholder's shares in favor of the
proposed action.
2. A shareholder who does not satisfy the requirements of subsection 1,
is not entitled to payment for the shareholder's shares under this part.
490.1322 DISSENTERS' NOTICE.
1. If proposed corporate action creating dissenters' rights under section
490.1302 is authorized at a shareholders' meeting, the corporation shall deliver
a written dissenters' notice to all shareholders who satisfied the requirements
of section 490.1321.
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2. The dissenters' notice must be sent no later than ten days after the
proposed corporate action is authorized at a shareholders' meeting, or, if the
corporate action is taken without a vote of the shareholders, no later than ten
days after the corporate action is taken, and must do all of the following:
a. State where the payment demand must be sent and where and when
certificates for certificated shares must be deposited.
b. Inform holders of uncertificated shares to what extent transfer
of the shares will be restricted after the payment demand is received.
c. Supply a form for demanding payment that includes the date of the
first announcement to news media or to shareholders of the terms of the proposed
corporate action and requires that the person asserting dissenters' rights
certify whether or not the person acquired beneficial ownership of the shares
before that date.
d. Set a date by which the corporation must receive the payment
demand, which date shall not be fewer than thirty nor more than sixty days after
the date the dissenters' notice is delivered.
e. Be accompanied by a copy of this division.
490.1323 DUTY TO DEMAND PAYMENT. --
1. A shareholder sent a dissenter's notice described in section 490.1322
must demand payment, certify whether the shareholder acquired beneficial
ownership of the shares before the date required to be set forth in the
dissenter's notice pursuant to section 490.1322, subsection 2, paragraph "c",
and deposit the shareholder's certificates in accordance with the terms of the
notice.
2. The shareholder who demands payment and deposits the shareholder's
shares under subsection 1 retains all other rights of a shareholder until these
rights are canceled or modified by the taking of the proposed corporate action.
3. A shareholder who does not demand payment or deposit the shareholder's
share certificates where required, each by the date set in the dissenters'
notice, is not entitled to payment for the shareholder's shares under this
division.
490.1324 SHARE RESTRICTIONS. --
1. The corporation may restrict the transfer of uncertificated shares
from the date the demand for their payment is received until the proposed
corporate action is taken or the restrictions released under section 490.1326.
2. The person for whom dissenters' rights are asserted as to
uncertificated shares retains all other rights of a shareholder until these
rights are canceled or modified by the taking of the proposed corporate action.
490.1325 PAYMENT. --
1. Except as provided in section 490.1327, at the time the proposed
corporate action is taken, or upon receipt of a payment demand, whichever occurs
later, the corporation shall pay each dissenter who complied with section
490.1323 the amount the corporation estimates to be the fair value of the
dissenter's shares, plus accrued interest.
2. The payment must be accompanied by all of the following:
a. The corporation's balance sheet as of the end of a fiscal year
ending not more than sixteen months before the date of payment, an income
statement for that year, a statement of changes in shareholders' equity for that
year, and the latest available interim financial statements, if any.
b. A statement of the corporation's estimate of the fair value of
the shares.
c. An explanation of how the interest was calculated.
d. A statement of the dissenter's right to demand payment under
section 490.1328.
e. A copy of this division.
490.1326 FAILURE TO TAKE ACTION. --
1. If the corporation does not take the proposed action within sixty days
after the date set for demanding payment and depositing share certificates, the
corporation shall return the deposited certificates and release the transfer
restrictions imposed on uncertificated shares.
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2. If after returning deposited certificates and releasing transfer
restrictions, the corporation takes the proposed action, it must send a new
dissenters' notice under section 490.1322 as if the corporate action was taken
without a vote of the shareholders and repeat the payment demand procedure.
490.1327 AFTER-ACQUIRED SHARES. --
1. A corporation may elect to withhold payment required by section
490.1325 from a dissenter unless the dissenter was the beneficial owner of the
shares before the date set forth in the dissenters' notice as the date of the
first announcement to news media or to shareholders of the terms of the proposed
corporate action.
2. To the extent the corporation elects to withhold payment under
subsection 1, after taking the proposed corporate action, it shall estimate the
fair value of the shares, plus accrued interest, and shall pay this amount to
each dissenter who agrees to accept it in full satisfaction of the dissenter's
demand. The corporation shall send with its offer a statement of its estimate
of the fair value of the shares, an explanation of how the interest was
calculated, and a statement of the dissenter's right to demand payment under
section 490.1328.
490.1328 PROCEDURE IF SHAREHOLDER DISSATISFIED WITH PAYMENT OR OFFER. --
1. A dissenter may notify the corporation in writing of the dissenter's
own estimate of the fair value of the dissenter's shares and amount of interest
due, and demand payment of the dissenter's estimate, less any payment under
section 490.1325, or reject the corporation's offer under section 490.1327 and
demand payment of the fair value of the dissenter's shares and interest due, if
any of the following apply:
a. The dissenter believes that the amount paid under section
490.1325 or offered under section 490.1327 is less than the fair value of the
dissenter's shares or that the interest due is incorrectly calculated.
b. The corporation fails to make payment under section 490.1325
within sixty days after the date set for demanding payment.
c. The corporation, having failed to take the proposed action, does
not return the deposited certificates or release the transfer restrictions
imposed on uncertificated shares within sixty days after the date set for
demanding payment.
2. A dissenter waives the dissenter's right to demand payment under this
section unless the dissenter notifies the corporation of the dissenter's demand
in writing under subsection 1 within thirty days after the corporation made or
offered payment for the dissenter's shares.
PART C
490.1330 COURT ACTION. --
1. If a demand for payment under section 490.1328 remains unsettled, the
corporation shall commence a proceeding within sixty days after receiving the
payment demand and petition the court to determine the fair value of the shares
and accrued interest. If the corporation does not commence the proceeding
within the sixty-day period, it shall pay each dissenter whose demand remains
unsettled the amount demanded.
2. The corporation shall commence the proceeding in the district court of
the county where a corporation's principal office or, if none in this state, its
registered office is located. If the corporation is a foreign corporation
without a registered office in this state, it shall commence the proceeding in
the county in this state where the registered office of the domestic corporation
merged with or whose shares were acquired by the foreign corporation was
located.
3. The corporation shall make all dissenters, whether or not residents of
this state, whose demands remain unsettled parties to the proceeding as in an
action against their shares and all parties must be served with a copy of the
petition. Nonresidents may be served by registered or certified mail or by
publication as provided by law.
4. The jurisdiction of the court in which the proceeding is commenced
under subsection 2 is plenary and exclusive. The court may appoint one or more
persons as appraisers to receive evidence and recommend decision on the question
of fair value. The appraisers have the powers described in the order appointing
them, or in any amendment to it. The dissenters are entitled to the same
discovery rights as parties in other civil proceedings.
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5. Each dissenter made a party to the proceeding is entitled to judgment
for either of the following:
a. The amount, if any, by which the court finds the fair value of
the dissenter's shares, plus interest, exceeds the amount paid by the
corporation.
b. The fair value, plus accrued interest, of the dissenter's after-
acquired shares for which the corporation elected to withhold payment under
section 490.1327.
490.1331 COURT COSTS AND COUNSEL FEES. --
1. The court in an appraisal proceeding commenced under section 490.1330
shall determine all costs of the proceeding, including the reasonable
compensation and expenses of appraisers appointed by the court. The court shall
assess the costs against the corporation, except that the court may assess costs
against all or some of the dissenters, in amounts the court finds equitable, to
the extent the court finds the dissenters acted arbitrarily, vexatiously, or not
in good faith in demanding payment under section 490.1328.
2. The court may also assess the fees and expenses of counsel and experts
for the respective parties, in amounts the court finds equitable, for either of
the following:
a. Against the corporation and in favor of any or all dissenters if
the court finds the corporation did not substantially comply with the
requirements of sections 490.1320 through 490.1328.
b. Against either the corporation or a dissenter, in favor of any
other party, if the court finds that the party against whom the fees and
expenses are assessed acted arbitrarily, vexatiously, or not in good faith with
respect to the rights provided by this chapter.
3. If the court finds that the services of counsel for any dissenter were
of substantial benefit to other dissenters similarly situated, and that the fees
for those services should not be assessed against the corporation, the court may
award to these counsel reasonable fees to be paid out of the amounts awarded the
dissenters who were benefited.
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REVOCABLE PROXY
NORTHWESTERN FINANCIAL CORP.
________________________________________________________________________________
SPECIAL MEETING OF STOCKHOLDERS
JUNE 28, 1996
________________________________________________________________________________
The undersigned hereby appoints John M. Grove, Carl R. Ekern and Mark V.
Sweeney, with full powers of substitution, to act as attorneys and proxies for
the undersigned to vote all shares of the Common Stock of Northwestern Financial
Corp. (the "Company") which the undersigned is entitled to vote at the Special
Meeting of Stockholders (including any adjournment or postponement, the "Special
Meeting"), to be held at Northwestern Savings Bank, F.S.B.'s South Bank office
located at 1301 30th Avenue South, Fargo, North Dakota on Friday, June 28, 1996
at 11:00 a.m., local time, and at any and all adjournments thereof, as indicated
below and as determined by the majority of the Board of Directors with respect
to such other matters as may come before the Special Meeting.
1. The approval of a Reorganization and Merger FOR AGAINST ABSTAIN
Agreement, dated as of February 13, 1996 --- ------- -------
(the "Agreement"), by and between the
Company and Northwestern Savings Bank,
F.S.B. (the "Bank") on the one hand and AFS
Financial Corporation ("AFS"), American
Federal Bank ("American Federal") and
American Acquisition Corp. ("NewSub") on
the other hand, pursuant to which: (i) the
Company will be acquired by AFS by means of
the merger of NewSub, a wholly owned
subsidiary of American Federal, with and
into the Company (the "Merger") with the
Company as the surviving corporation; (ii)
each share of the Company's common stock,
$0.01 par value per share (the "Common
Stock"), will be converted into the right
to receive $23.25 in cash; and (iii) each
holder of an option to acquire Common Stock
will receive a cash payment in an amount
determined by multiplying the number of
shares of Common Stock subject to option by
an amount equal to the difference between
$23.25 and the per share exercise price of
the option, under such terms and conditions
as are described in the Proxy Statement and
the Agreement and the other transactions
contemplated thereby.
[_] [_] [_]
THE BOARD OF DIRECTORS RECOMMENDS A VOTE "FOR" THE LISTED PROPOSITION.
________________________________________________________________________________
THIS PROXY WILL BE VOTED AS DIRECTED, BUT IF NO INSTRUCTIONS ARE SPECIFIED, THIS
PROXY WILL BE VOTED FOR THE PROPOSITION STATED. IF ANY OTHER BUSINESS IS
---
PRESENTED AT THE SPECIAL MEETING, INCLUDING WITHOUT LIMITATION MATTERS RELATING
TO THE CONDUCT OF THE SPECIAL MEETING AND MATTERS WHICH THE BOARD DOES NOT KNOW
A REASONABLE TIME BEFORE COMMENCEMENT OF THIS SOLICITATION ARE TO BE PRESENTED
AT THE SPECIAL MEETING, THIS PROXY WILL BE VOTED BY THOSE NAMED IN THIS PROXY AS
DIRECTED BY THE BOARD OF DIRECTORS. AT THE PRESENT TIME, THE BOARD OF DIRECTORS
KNOWS OF NO OTHER BUSINESS TO BE PRESENTED AT THE SPECIAL MEETING.
________________________________________________________________________________
C-6
THIS PROXY IS SOLICITED BY THE BOARD OF DIRECTORS
Should the undersigned be present and elect to vote at the Special Meeting
or at any adjournment thereof and after notification to the Secretary of the
Company at the Special Meeting of the undersigned's decision to terminate this
proxy, then the power of said attorneys and proxies shall be deemed terminated
and of no further force and effect. The undersigned hereby revokes any and all
proxies heretofore given.
The undersigned acknowledges receipt from the Company prior to the
execution of this proxy of Notice of the Special Meeting and a Proxy Statement.
Date: _____________, 1996
____________________________ ___________________________
PRINT NAME OF STOCKHOLDER PRINT NAME OF STOCKHOLDER
____________________________ ___________________________
SIGNATURE OF STOCKHOLDER SIGNATURE OF STOCKHOLDER
Please sign exactly as your name appears on the enclosed card. When signing as
attorney, executor, administrator, trustee or guardian, please give your full
title. If shares are held jointly, each holder should sign.
________________________________________________________________________________
PLEASE COMPLETE, DATE, SIGN AND MAIL THIS PROXY PROMPTLY IN THE ENCLOSED
POSTAGE-PREPAID ENVELOPE.
________________________________________________________________________________