SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 1997
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ____________ to ____________
Commission file number 33-76930
TELEBANC FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 13-3759196
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1111 NORTH HIGHLAND STREET, ARLINGTON, VIRGINIA 22201
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (703) 247-3700.
Securities registered pursuant to Section 12(b) of the Act:
(Not applicable)
Securities registered pursuant to Section 12(g) of the Act:
(Not applicable)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K (ss. 229.405 of this chapte\\r) is not contained
herein, and will not be contained, to the best of registrant's knowledge, in
definitive proxy or information statements incorporated by reference in Part III
of this Form 10-K or any amendment to this Form 10-K. [ X ]
Based upon the closing price of the registrant's common stock as of
March 19, 1998, the aggregate market value of the voting stock held by
non-affiliates of the registrant is $45.1 million.*
The number of shares outstanding of each of the registrant's classes of
common stock, as of the latest practicable date is:
Class: Common Stock, par value $.01 per share.
Outstanding at March 19, 1998: 2,242,494 shares.
DOCUMENTS INCORPORATED BY REFERENCE:
PART III:
Portions of the definitive proxy statement for the 1998 Annual Meeting
of Shareholders, if filed before April 30, 1998.
- ----------------
* Solely for purposes of this calculation, all executive officers and
directors of the registrant, Employee Stock Ownership Plan and all
shareholders reporting beneficial ownership of more than 5% of the
registrant's common stock are considered to be affiliates. This reference
to affiliate status is not necessarily a conclusive determination for other
purposes.
PART I
ITEM 1. BUSINESS
GENERAL
TeleBanc Financial Corporation (the "Company" or "TeleBanc"), with
headquarters in Arlington, Virginia, had total assets of $1.1 billion at the end
of 1997. TeleBanc was organized by its majority stockholder, MET Holdings
Corporation ("MET Holdings"), to become, in March 1994, the parent savings and
loan holding company for TeleBank ("the Bank"), a federally chartered savings
bank. In February 1997, TeleBanc acquired TeleBanc Capital Markets, Inc.
("TCM"), a registered investment advisor, funds manager, and broker-dealer
specializing in mortgages and mortgage-related securities. In June 1997, the
Company formed TeleBanc Capital Trust I ("TCT"), which in turn sold shares of
trust preferred securities, Series A, for a total of $10.0 million in a private
placement. All references to the Company include the business of the Bank, TCM,
and TCT. Financial and other data as of and for all periods prior to March 1994
represent the consolidated data of the Bank only. Prior to March 1996, the Bank
was formerly known as Metropolitan Bank for Savings, F.S.B.
The Company's revenues are derived principally from interest income on
loans, mortgage-backed and related securities, and interest and dividends on
investment securities and interest-bearing deposits. The Company's principal
expenses are interest expense on deposits and borrowings and operating expenses,
such as compensation and employee benefits. The Company's net income also may be
offset by gains or losses on hedging transactions and other trading account
gains or losses as part of the Company's asset/liability management strategies.
Funds for these activities are provided by deposits, borrowings, principal
repayments on outstanding loans and mortgage-backed and related securities, and
sales of investment securities held for trading.
The Bank, through its wholly owned subsidiary TeleBanc Servicing
Corporation ("TSC"), funded 50% of the capital commitment for two new entities,
AGT Mortgage Services, LLC ("AGT") and AGT PRA, LLC ("AGT PRA"). AGT services
performing loans and administers workouts for troubled or defaulted loans for a
fee. Management ceased operation of AGT on July 31, 1997. The primary business
of AGT PRA is its investment in Portfolio Recovery Associates, LLC ("PRA"). PRA
acquires and collects delinquent consumer debt obligations for its own
portfolio.
Since 1994, TeleBanc has raised approximately $61.8 million through the
sale of capital stock and warrants and the issuance of subordinated notes and
trust preferred securities. In the second quarter of 1994, TeleBanc completed
its initial public offering, raising $4.6 million through the sale of common
stock and an additional $17.3 million through the issuance of subordinated notes
with warrants. Upon the completion of this offering, the Company invested $15
million of the proceeds as capital of the Bank. In February 1997, the Company
consummated the sale of $29.9 million of units to investment partnerships
managed by Conning & Company, CIBC WG Argosy Merchant Fund 2, LLC, General
American Life Insurance Company, the Progressive Corporation, and The
Northwestern Mutual Life Insurance Company and the purchase of the assets of
Arbor Capital Partners, Inc., which was majority owned by MET Holdings, through
the issuance of 162,461 shares of TeleBanc common stock and a $500,000 cash
payment. The units consist of convertible preferred stock and senior
subordinated notes with warrants. In June 1997, the Company formed TCT, which in
turn sold shares of trust preferred securities, Series A, for a total of $10.0
million in a private placement.
1
MARKET AREA AND COMPETITION
From its office in Arlington, Virginia, the Company has a customer base
in all 50 states and the District of Columbia. As a result of the Company's
direct marketing strategy for deposits and reliance upon the secondary market to
purchase mortgage loans and mortgage-backed and related securities, the Company
competes on a nationwide basis for deposits and investments in residential
mortgage products. Generally, the Company faces substantial competition for
deposits from thrifts, commercial banks, credit unions, and other institutions
providing retail investment opportunities. The ability of the Company to attract
and retain deposits depends on its ability to provide an investment opportunity
meeting the requirements of investors as to rate of return, liquidity, risk, and
other factors, as well as on the perception of depositors as to the convenience
and quality of its services. Competition in residential mortgage investing comes
primarily from commercial banks, thrift institutions, and purchasers of mortgage
products in the secondary market. The Company competes for residential mortgage
investments principally on the basis of bid price and for loans on the basis of
interest rate, fees it charges, and loan types offered.
LENDING ACTIVITIES
GENERAL. The Company's lending activities consist primarily of the
purchases of whole loans and mortgage-backed and related securities rather than
the production and origination of loans, which entails greater overhead
expenses, commonly found in a traditional thrift or community bank.
LOAN PORTFOLIO COMPOSITION. The Company's net loans receivable totaled
$540.7 million at December 31, 1997, or 49.1%, of total assets at that date. At
December 31, 1997, $547.7 million, or 98.8%, of the total gross loan portfolio,
consisted of one-to-four family residential mortgage loans. Prior to 1990, the
Company originated a limited number of loans for the purchase or construction of
multifamily and commercial real estate. As part of the Company's general
operating strategy and in response to risks associated with multifamily and
commercial real estate lending and prevailing economic conditions, the Company
has substantially reduced its purchases and originations of such loans. At
December 31, 1997, multifamily, commercial, and mixed use real estate loans
amounted to $5.3 million, or 1.0%, of the Company's total loan portfolio. The
loan portfolio also included home equity lines of credit and loans secured by
savings deposits in the amount of $869,000, or 0.2%, of the Company's total loan
portfolio at December 31, 1997.
2
The following table sets forth information concerning the Company's
loan portfolio in dollar amounts and in percentages, by type of loan.
AT DECEMBER 31,
------------------------------------
1997 % 1996 %
---- ---- ---- ---
(DOLLARS IN THOUSANDS)
Real estate loans:
One- to four-family fixed-rate.................... $ 211,287 38.11% $142,211 38.59%
One- to four-family adjustable-rate............... 336,470 60.69 217,352 58.97
Multifamily....................................... 1,447 0.26 1,516 0.41
Commercial real estate............................ 3,033 0.55 4,017 1.09
Mixed use real estate............................. 856 0.15 1,180 0.32
Land.............................................. 463 0.08 781 0.21
--------- ------ -------- ------
Total real estate loans.......................... 553,556 99.84 367,057 99.59
--------- ------ -------- ------
Consumer and other loans:
Lease financing................................... -- -- -- --
Home equity lines of credit and
second mortgage loans............................. 564 0.10 1,208 0.33
Other (1)......................................... 305 0.06 305 0.03
---------------- -------- ------
Total consumer and other loans.................... 869 0.16 1,513 0.41
---------------- -------- ------
Total loans....................................... $ 554,425 100.00% $368,570 100.00%
========= ======= ======== ======
Deduct:
Non accrual/cost recovery......................... (155) (182)
Deferred loan fees................................ (34) (42)
Deferred discounts on loans....................... (9,938) (13,750)
Allowance for loan losses......................... (3,594) (2,957)
------------- ----------
Total................................................ (13,721) (16,749)
------------- ----------
Loans receivable, net................................ $ 540,704 $ 351,821
============= ==========
AT DECEMBER 31,
-------------------------------------------------------
1995 % 1994 % 1993 %
---- --- ---- --- ---- --
(DOLLARS IN THOUSANDS)
Real estate loans:
One- to four-family fixed-rate.................... $ 105,750 39.91% $ 67,449 42.54% $ 44,450 43.06%
One- to four-family adjustable-rate............... 148,928 56.20 79,701 50.27 50,708 49.14
Multifamily....................................... 1,286 0.49 1,114 0.70 932 0.90
Commercial real estate............................ 4,553 1.72 4,385 2.77 5,912 5.73
Mixed use real estate............................. 1,792 0.68 1,953 1.23 -- --
Land.............................................. 384 0.14 387 0.24 16 0.02
--------- ------- --------- ------ --------- ------
Total real estate loans.......................... 262,693 99.14 154,989 97.75 102,018 98.85
--------- ------- --------- ------ --------- ------
Consumer and other loans:
Lease financing................................... -- -- -- -- 17 0.02
Home equity lines of credit and
second mortgage loans............................. 2,202 0.83 3,395 2.14 1,007 0.98
Other (1)......................................... 79 0.08 168 0.11 151 0.15
--------- ------- --------- ------ --------- ------
Total consumer and other loans.................... 2,281 0.86 3,563 2.25 1,175 1.15
--------- ------- --------- ------ --------- ------
Total loans....................................... $ 264,974 100.00% $ 158,552 100.00% $ 103,193 100.00%
========= ======= ========= ====== ========= ======
Deduct:
Non accrual/cost recovery......................... -- -- --
Deferred loan fees................................ (42) (50) (68)
Deferred discounts on loans....................... (14,129) (2,835) (1,431)
Allowance for loan losses......................... (2,311) (925) (835)
------- ------ ------
Total................................................ (16,482) (3,810) (2,334)
------- ------ ------
Loans receivable, net................................ $248,492 $154,742 $100,859
========= ========= ========
- ------------
(1) Includes primarily loans secured by deposit accounts in the Bank, and to a
lesser extent, unsecured consumer credit.
3
MATURITY OF LOAN PORTFOLIO. The following table sets forth certain
information at December 31, 1997 regarding the dollar amount of loans maturing
in the Company's portfolio, including scheduled repayments of principal, based
on contractual terms to maturity. Demand loans, loans having no stated schedule
of repayments and no stated maturity, and overdrafts are reported as due within
one year. The table below does not include any estimate of prepayments, which
may significantly shorten the average life of a loan and may cause the Company's
actual repayment experience to differ from that shown below.
DUE IN ONE DUE IN ONE DUE AFTER
YEAR OR LESS TO FIVE YEARS FIVE YEARS TOTAL
------------ ------------- ---------- -----
(IN THOUSANDS)
Real estate loans:
One- to four-family fixed-rate........... $ 1,402 $ 6,878 $ 203,007 $ 211,287
One- to four-family adjustable-rate...... 11 12,634 323,825 336,470
Multifamily.............................. -- 1,114 333 1,447
Mixed use................................ 110 300 446 856
Commercial real estate................... 453 252 2,328 3,033
Land..................................... -- -- 463 463
Consumer and other loans:
Home equity lines of credit and
second mortgage loans.................. -- 544 20 564
Other.................................... -- -- 305 305
--------- --------- --------- ------------
Total.................................. $ 1,976 $ 21,722 $530,727 $ 554,425
========= ========= ======== ============
The following table sets forth as of December 31, 1997 the dollar
amount of the loans maturing subsequent to December 31, 1998 allocated between
those with fixed interest rates and those with adjustable interest rates.
FIXED RATES ADJUSTABLE RATES TOTAL
----------- ---------------- -----
(IN THOUSANDS)
Real estate loans:
One- to four-family........................................ $209,885 $336,459 $ 546,344
Multifamily................................................ 1,270 177 1,447
Mixed use.................................................. 746 -- 746
Commercial real estate..................................... 537 2,043 2,580
Land....................................................... 463 -- 463
Consumer and other loans:
Home equity lines of credit and second
mortgage loans........................................... 21 543 564
Other...................................................... 81 224 305
---------- ---------- -----------
Total.................................................... $ 213,003 $ 339,446 $ 552,449
=========== =========== ===========
Scheduled contractual principal repayments of loans may not reflect the
actual life of such assets. The average life of loans may be substantially less
than their contractual terms because of prepayments. In addition, due-on-sale
clauses on loans generally give the Company the right to declare a conventional
loan immediately due and payable in the event, among other things, that the
borrower sells the property. 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. Consistent with the Company's
strategy of minimizing operating expenses, the Company emphasizes the purchase
of loans rather than direct
4
originations. The Company purchased $342.9 million, $183.1 million, $145.9
million, $85.4 million, and $33.4 million of loans during the years ended
December 31, 1997, 1996, 1995, 1994, and 1993, respectively. The Company's
mortgage loan originations totaled $0, $462,000, $2.7 million, $4.3 million, and
$1.8 million in the years ended December 31, 1997, 1996, 1995, 1994, and 1993,
respectively.
Approximately 54.4% of the Company's loan portfolio is
serviced by other lenders for which the Company pays a fee ranging from a
minimum of 25 basis points of the principal balance of the loan per annum to a
maximum of $12 per month per loan. The institutions servicing loans for the
Company, among other things, collect and remit loan payments, maintain escrow
accounts, inspect properties, and administer foreclosures when necessary.
The Company sells whole loans to institutional investors and,
accordingly, is a Fanie Mae seller/servicer and a Federal Home Loan Mortgage
Corporation ("FHLMC") servicer. The majority of loans sold have consisted of
long-term, fixed-rate mortgage loans sold to Fannie Mae.
The Company generally sells such loans with servicing retained.
The following table shows loan origination, purchase, sale, and
repayment activity of the Company during the periods indicated.
YEAR ENDED DECEMBER 31,
-------------------------------
1997 1996 1995
---- ---- ----
(IN THOUSANDS)
Total loans receivable at beginning of period........... $ 351,821 $ 248,492 $ 154,742
Loans purchased:
Real estate loans:
One- to four-family variable rate.................... 256,545 128,171 98,065
One- to four-family fixed rate....................... 86,331 53,915 47,845
Multi-Family ........................................ -- 1,000 --
Mixed-used........................................... -- -- --
Commercial real estate............................... -- -- --
Consumer and other loans............................. -- -- --
----------- ----------- ---------
Total loans purchased.............................. 342,876 183,086 145,910
Loans originated:
Real estate loans:
One- to four-family variable rate.................... -- -- --
One- to four-family fixed rate....................... -- 25 80
Commercial real estate............................... -- -- --
Land ................................................ -- 400 --
Home equity lines of credit and second mortgage loans... -- 37 2,644
----------- ----------- -----------
Total loans originated............................. -- 462 2,724
----------- ----------- -----------
Total loans purchased and originated............... 342,876 183,548 148,634
Loans sold.............................................. 39,656 18,829 6,192
Loans securitized....................................... 21,017 8,275 2,794
Loan repayments......................................... 95,127 50,221 32,755
----------- ----------- -----------
Total loans sold, securitized, and repaid............ 155,800 77,325 41,741
Net change - TBFC ESOP Note Receivable ................. -- (65) --
Net change in deferred discounts and loan fees.......... 3,820 (379) (11,286)
Net transfers to REO ................................... (1,454) (1,513) (471)
Net provision for loan losses........................... (637) (646) (1,386)
Cost Recovery/Contra Assets ............................ 27 (41) --
Other loan debits/HELOC advances ....................... 51 (250) --
------- -------- -------
Increase (decrease) in total loans receivable........... 188,883 103,329 93,750
------- -------- -------
Net loans receivable at end of period................... $ 540,704 $ 351,821 $ 248,492
======= ======== =======
The Company's loan purchases during 1997 increased $159.8 million from
fiscal year 1996 as the Company continued to expand the Bank's operations.
During fiscal 1997 and 1996, the Company's loan purchases involved purchases of
whole loans in the secondary market, principally
5
from private investors. The Company's loan purchases during fiscal year 1997
included purchases of 92 pools with approximately 2,900 loans. The Company's
loan purchases during fiscal year 1996 included purchases of 35 pools with
approximately 1,253 loans and minimal loan originations consistent with the
Company's operating strategy. The Company's loan purchases during fiscal year
1995 included purchases of 26 pools with approximately 1,200 loans and minimal
loan originations consistent with the Company's operating strategy.
ONE-TO-FOUR FAMILY RESIDENTIAL LENDING. No mortgage loans were
originated during 1997. In 1996, the Company originated $25,000 of loans secured
by one-to-four-family residential properties, excluding home equity lines of
credit, in accordance with Fannie Mae and FHLMC underwriting guidelines for
terms up to 30 years. It is the Company's policy to make one-to-four-family
mortgage loans with up to a 95% loan-to-value ratio, if private mortgage
insurance is obtained on the portion of the principal amount in excess of 80% of
the appraised value.
MULTIFAMILY AND COMMERCIAL REAL ESTATE LENDING. Since 1990, the Company
has not actively pursued multifamily and commercial real estate lending or loans
secured by undeveloped land and has substantially reduced originations of such
loans. As of December 31, 1997, multifamily, mixed use, commercial real estate,
and land loans amounted to $5.8 million, or 1.05%, of the Company's total loan
portfolio.
CONSUMER AND OTHER LENDING. The Company does not emphasize consumer or
other loans, but from time to time, originates such loans as an accommodation to
its customers or purchases such loans as part of larger loan packages. Such
lending primarily includes home equity lines of credit and loans secured by
savings deposits. However, the Company did not originate any consumer or other
loans during 1997. During 1996, the Company originated $37,000 in consumer loans
and $305,000 in other loans. At December 31, 1997, consumer and other loans
totaled $305,000, or 0.06%, of the Company's total loan portfolio. At December
31, 1997, total outstanding home equity lines of credit and second mortgage
loans amounted to $564,000, or 0.10%, of the Company's total loan portfolio.
CRA LENDING ACTIVITIES. The Bank participates in various community
development programs in an effort to meet its responsibilities under the CRA.
The Bank has now committed to invest up to $500,000 in an investment tax credit
fund that qualifies for CRA purposes.
In 1995, the federal financial regulatory agencies promulgated a final
rule revising the regulations that implement the CRA. The revised regulations
outline special evaluations for wholesale institutions. The Bank believes that
it meets the definition of a wholesale institution and that it serves the credit
needs of the entire nation.
6
MORTGAGE-BACKED AND RELATED SECURITIES, AND SECONDARY MARKET ACTIVITIES
The Company maintains a significant portion of mortgage-backed
securities, primarily in the form of privately insured mortgage pass-through
securities, as well as Government National Mortgage Association ("GNMA"), Fannie
Mae, and FHLMC participation certificates, and securities issued by other
nonagency organizations. GNMA certificates are guaranteed as to principal and
interest by the full faith and credit of the United States, while Fannie Mae and
FHLMC certificates are each guaranteed by their respective agencies.
Mortgage-backed securities generally entitle the Company to receive a pro rata
portion of the cash flows from an identified pool of mortgages. The Company has
also invested in collateralized mortgage obligations ("CMOs") which are
securities issued by special purpose entities generally collateralized by pools
of mortgage-backed securities. The cash flows from such pools are segmented and
paid in accordance with a predetermined priority to various classes of
securities issued by the entity. The Company's CMOs are senior tranches
collateralized by federal agency securities or whole loans. In the fourth
quarter of 1995, the Company reclassified the existing held-to-maturity
mortgage-backed security portfolio to available-for-sale. The following table
sets forth the activity in the Company's mortgage-backed securities
held-to-maturity portfolio during the periods indicated.
In 1997, the Company acquired certain trading securities. Trading
securities are bought and held principally for the purpose of selling them in
the near term. Securities purchased for trading are carried at market value with
the corresponding unrealized gains and losses being recognized by credits and
charges to income. The Company had $21.1 million classified as trading
securities at December 31, 1997. No securities were classified as trading
securities at and prior to December 31, 1996. For the period ending December 31,
1997, the Company recognized approximately $564,000 in realized gains from the
sale of trading assets and approximately $640,000 in unrealized appreciation of
trading assets.
7
YEAR ENDED DECEMBER 31,
---------------------------------------------
1997 1996 1995
---- ---- ----
(DOLLARS IN THOUSANDS)
Mortgage-backed and related securities at beginning
of period (not including available for sale and trading)... $ -- $ -- $ 221,005
Purchases:
Pass-through securities.................................. -- -- 55,110
CMOs..................................................... -- -- 5,235
FNMA..................................................... -- -- --
GNMA..................................................... -- -- --
FHLMC.................................................... -- -- --
Acquired in exchange for loans............................. -- -- (10,465)
Sales (1).................................................. -- -- (18,813)
Repayments................................................. -- -- (39,155)
Transfer to held for sale.................................. -- -- (212,917)
--------------------------------------------
Mortgage-backed and related securities at
end of period (not including available for sale and trading). $ -- $ -- $ --
=============================================
The following table sets forth the activity in the Company's
mortgage-back securities available for sale portfolio during the period
indicated.
-------------------------------------------------
1997 1996 1995
---- ---- ----
(DOLLARS IN THOUSANDS)
Mortgage-backed and related securities at beginning
of period ................................................. $ 184,743 $ 234,835 $15,459
Purchases:
Pass-through securities.................................. 39,400 109,600 13,183
CMOs..................................................... 218,836 30,053 --
FNMA..................................................... 2,115 12,102 2,634
GNMA..................................................... 32,200 30,687 --
FHLMC.................................................... 4,649 14,194 12,810
Transfer from held to maturity............................. -- -- 212,917
Sales (1).................................................. (117,047) (185,703) (15,755)
Repayments................................................. (45,304) (61,805) (6,024)
Transfer to trading........................................ -- -- (1,650)
Provision for losses on securities............................ -- (22) --
Mark to market ............................................... (389) 826 811
FASB 122 servicing ........................................... -- (24) --
-------------------------------------------------
Mortgage-backed and related securities at
end of period ............................................... $ 319,203 $184,743 $ 234,835
=================================================
- ------------------------
(1) Includes mortgage-backed securities on which call options have been
exercised.
8
The following table sets forth the scheduled maturities, carrying
values, and current yields for the Company's portfolio of mortgage-backed
securities at December 31, 1997:
AFTER ONE BUT AFTER FIVE BUT
WITHIN ONE YEAR WITHIN FIVE YEARS WITHIN TEN YEARS
--------------- ----------------- ----------------
BALANCE WEIGHTED BALANCE WEIGHTED BALANCE WEIGHTED
DUE YIELD DUE YIELD DUE YIELD
--- ----- --- ----- --- -----
(DOLLARS IN THOUSANDS)
Private issuer $ -- --% $ 2,621 6.44% $ 6,021 8.84%
Collateralized mortgage obligations -- -- -- -- -- --
Agencies 939 6.26 623 6.75 -- --
------ ---- ------- ---- ------- ----
$ 939 6.26% $ 3,244 6.50% $ 6,021 8.84%
====== ==== ======= ==== ======= =====
AFTER TEN YEARS TOTALS
--------------- ------------------
BALANCE WEIGHTED BALANCE WEIGHTED
DUE YIELD DUE YIELD
--- ----- --- -----
Private issuer $145,417 8.78% $154,059 8.74%
Collateralized mortgage obligations 139,578 6.90 139,578 6.90
Agencies 24,004 6.90 25,566 6.87
-------- ---- -------- ----
$308,999 7.78% $319,203 7.79%
======== ==== ======== ====
9
In May 1996, the Company formed AGT, a 50% owned subsidiary which
services loans for both the Bank and third parties. The Company entered into a
loan servicing agreement with AGT on May 1, 1996, whereby AGT is paid a fee of
$8 to $100 per loan per month depending upon the type of loan and whether it is
performing or non-performing. AGT also receives a fee in its capacity as Master
Servicer for the Company's subserviced portfolio and is reimbursed for any
direct collection expenses including attorney fees, repair costs, etc. The
Company ceased operation of AGT on July 31, 1997. For the period ending December
31,1997, the Company incurred a loss in equity investment in AGT of
approximately $640,000.
Most of the loans sold by the Company are sold on a servicing retained
basis. Servicing includes collecting and remitting loan payments, holding escrow
funds for the payment of real estate taxes, contacting delinquent mortgagors, in
some cases advancing to the investor interest when the mortgage is delinquent,
supervising foreclosures in the event of unremedied defaults and generally
administering the loans. Under loan servicing contracts, the Company receives
servicing fees that are withheld from the monthly payments made to investors.
The Company's aggregate loan servicing fees amounted to $942,000, $790,000, and
$126,000 in 1997, 1996, and 1995, respectively.
The following table sets forth information regarding the Company's loan
servicing portfolio at the dates shown.
AT DECEMBER 31,
----------------------------------------------------------------------------
1997 1996 1995
----------------------- ----------------------- -----------------------
PERCENT PERCENT PERCENT
OF OF OF
AMOUNT TOTAL AMOUNT TOTAL AMOUNT TOTAL
------ ----- ------ ----- ------ -----
(DOLLARS IN THOUSANDS)
Loans owned and serviced by
the Company....................... $ 252,945 45.6 % $ 164,745 44.7% $ 161,625 61.0%
Loans owned by the Company
and serviced by others............ 301,500 54.4 203,853 55.3 103,349 39.0
--------- ------- ----------- ------ --------- -----
Total loans owned by the
Company......................... $ 554,425 100.0 % $ 368,598 100.0% $ 264,974 100.0%
=========== ======= =========== ====== =========== =====
Loans serviced for others............ $ 57,682 $ 45,856 $ 18,196
NON-PERFORMING, DELINQUENT, AND OTHER PROBLEM ASSETS
GENERAL. It is management's policy to monitor continually the Company's
loan portfolio to anticipate and address potential and actual delinquencies.
Valuations are periodically performed by management and an allowance for losses
on REO is established by a charge to operations if the fair value of the
property has changed.
NONPERFORMING ASSETS. Nonperforming assets consist of loans on which
interest is no longer accrued, loans which have been restructured in order to
allow the borrower to maintain control of the collateral, real estate acquired
by foreclosure, real estate upon which deeds in lieu of foreclosure have been
accepted and real estate owned which has been classified as In-Substance
Foreclosure ("ISF"). Restructured loans and real estate owned have been written
down to estimated fair value, based upon estimates of cash flow expected from
the underlying collateral and appropriately discounted.
10
The following table sets forth information with respect to the
Company's non-accrual loans, REO and ISF, and troubled debt restructuring
("TDRs") at the dates indicated. Since December 1993, the Company no longer
classifies ISF loans as REO.
AT DECEMBER 31,
----------------------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(DOLLARS IN THOUSANDS)
Loans accounted for on a
non-accrual basis:
Real estate loans:
One- to four-family................ $ 10,359 $ 8,979 $ 4,526 $ 1,296 $ 1,570
Commercial real estate............. 568 1,217 261 702 902
Land............................... -- -- -- -- --
Construction....................... -- -- -- -- --
Home equity lines of credit and
second mortgage loans.............. -- 54 136 41 47
Other................................ -- -- -- 27 35
----------- ----------- ----------- ----------- -----------
Total................................... $ 10,927 $ 10,250 $ 4,923 $ 2,066 $ 2,554
=========== =========== =========== =========== ===========
Accruing loans which are contractu-
ally past due 90 days or more:
Real estate loans:
One- to four-family................ $ -- $ -- $ 230 $ -- $ --
----------- ----------- ------------ ----------- -----------
Total................................... $ -- $ -- $ 230 $ -- $ --
=========== =========== ============ =========== ===========
Total of non-accrual and 90 days
past due loans......................... $ 10,927 $ 10,250 $ 5,153 $ 2,066 $ 2,554
=========== =========== =========== =========== ===========
REO:
One- to four-family.................. $ 681 $ 1,300 $ 421 $ 98 $ 194
Commercial real estate............... -- -- -- 206 665
Land................................. -- -- 582 581 582
----------- ----------- ----------- ----------- -----------
681 1,300 1,003 885 1,441
Loss allowance for REO............... -- (65) (213) (92) (221)
----------- ----------- ----------- ------------ -----------
Total REO, net..................... 681 1,235 790 793 1,220
----------- ----------- ----------- ----------- -----------
Total non-performing assets, net........ $ 11,608 $ 11,485 $ 5,943 2,859 $ 3,774
=========== =========== =========== =========== ===========
Total non-performing assets, net,
as a percentage of total assets...... 1.05% 1.83% 1.07% 0.7% 1.7%
=========== =========== =========== ============ ===========
Total loss allowance as a percentage
of total non-performing assets,
gross................................ 30.96% 26.30% 39.53% 34.45% 26.43%
=========== =========== =========== ============ ===========
TDRs .................................. $ 425 $ 435 $ 365 $ 688 $ 413
=========== =========== =========== ============ ===========
During 1997, non-performing assets increased by $123,000 or 1.1%. This
increase is attributed to the $188.9 million, or 53.6%, growth in the overall
loan portfolio. In accordance with the Company's policy, management actively
monitors the non-performing assets.
During the years ended December 31, 1997, 1996, 1995, and 1994,
interest income of approximately $739,000, $789,000, $365,000, and $113,000,
respectively, would have been recorded on non-accruing loans had they been
performing in accordance with their terms. No interest on non-accruing loans was
included in income during the years ended December 31, 1997, 1996, 1995, and
1994. TDRs are loans to which the Company has granted certain concessions taking
into consideration among other things the borrower's financial difficulty. The
objective of the Company in granting these concessions, through a modification
of terms, is to maximize the recovery of its investment. Such modifications of
terms may include reduction in stated rate, extension of maturity at a more
favorable rate, and/or reduction of accrued interest. TDRs with concessions
totaled approximately $ 425,000, $435,000, $365,000, and $688,000 at December
31, 1997, 1996, 1995, and 1994, respectively. TDRs continue to be closely
monitored by the Company due to their inherent risk characteristics. Interest
income recorded on TDRs in 1997, 1996, 1995, and 1994 was approximately $28,000,
$28,000, $45,000, and $9,000, respectively.
11
Loans which are not classified as non-accrual, past due 90 days or more
or TDRs, but where known information about possible credit problems of borrowers
caused management to have serious doubts as to the ability of the borrowers to
comply with present loan repayment terms and may result in disclosure as
non-accrual, past due 90 days or more or TDRs are considered potential problem
loans. At December 31, 1997, loans still accruing interest, but identified by
management as potential problem loans aggregated $2.5 million. The majority of
these loans, identified as "special mention" loans, include a $2.3 million pool
of single family, non-performing loans which are performing in accordance with a
bankruptcy plan.
ALLOWANCE FOR LOAN LOSSES. In originating and purchasing loans, 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, 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 and the industry'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 the
Company's income.
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. General allowances are
established by management and approved by the Board of Directors. These
allowances are reviewed monthly based on an assessment of risk in the Company'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 general economic conditions. Additional
provisions for losses on loans may be made to bring the allowance to a level
deemed adequate. Additionally, the Company's internal audit consultants have
established an independent internal loan review program which is followed by
bank personnel.
In general, the Company adds provisions to its allowance for loan
losses in amounts equal to 0.20% of one-to-four family mortgages, 0.50% for home
equity lines of credit and second trusts, 1.0% of multifamily and mixed use real
estate loans and 2.0% of commercial and land loans. During 1997, the Company
recorded a $637,000 net increase in the allowance for loan losses in relation to
the $188.9 million increase in the loan portfolio. Of this increase in the
allowance for loan losses, 100% of the amount related to the general valuation
allowance ("GVA").
As of December 31, 1997, total loans receivable include four pools of
credit enhanced one-to-four family mortgage loans totaling $41.7 million, or
7.5%, of total loans outstanding. Two of these pools totaling $28.3 million have
a credit reserve from the seller equal to 2.5% of the unpaid principal balance
at the time of the purchase available to offset any losses. Another pool,
totaling $7.3 million, has an indemnification whereby the seller must repurchase
any loan that become more than four payments past due at any time during the
life of the loan. The final pool, totaling $6.1 million, has a credit reserve
equal to approximately 10.0% of the unpaid principal balance at the time of
acquisition. Management believes that the combination of the Company's loan loss
allowance, net credit discount, and credit enhancement on certain loan pools are
adequate to cover potential losses.
Information regarding movements in the provision for loan losses during
the five year period ending December 31, 1997 is incorporated herein by
reference to the section titled "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Earnings Performance --
Provision for Loan and Security Losses" included in this Form 10-K.
12
The following table sets forth at December 31, 1997 the aggregate
carrying value of the Company's assets classified as substandard, doubtful,
loss, and special mention according to type.
TOTAL SPECIAL
SUBSTANDARD DOUBTFUL LOSS CLASSIFIED MENTION
----------- -------- ---- ---------- -------
(IN THOUSANDS)
Loans:
One- to four-family.................. $ 10,359 $ -- $ 443 $ 10,802 $ 2,257
Commercial real estate............... 283 285 67 635 249
Land................................. -- -- -- -- --
Home equity lines of credit and
second mortgage.................... -- -- -- -- --
----------- -------- ---------- ----------- ---------
Total loans............................. $ 10,642 $ 285 $ 510 $ 11,437 $ 2,506
=========== ========= ========== =========== =========
REO:
One- to four-family.................. $ 681 $ -- $ -- $ 681 $ --
----------- -------- ---------- ----------- ---------
Total REO............................... 681 -- -- 681 --
----------- -------- ---------- ----------- ---------
Total................................... $ 11,323 $ 285 $ 510 $ 12,118 $ 2,506
=========== ========= ========== =========== =========
As a result of the declines in regional real estate market values and
the significant losses experienced by many financial institutions, there has
been a greater level of scrutiny by regulatory authorities of the loan
portfolios of financial institutions undertaken as part of the examination of
the institution by the FDIC, OTS, and other state and federal regulators.
Although the Company believes it has established its existing allowances for
losses in accordance with generally accepted accounting principles, there can be
no assurance that regulators, in reviewing the Company's loan portfolio, will
not request the Company to increase its allowance for losses, thereby negatively
affecting the Company's financial condition and earnings.
13
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 other category.
AT DECEMBER 31,
-------------------------------------------------------------------------------
1997 1996 1995
------------------------- ------------------------- --------------------------
PERCENT OF PERCENT OF PERCENT OF
LOANS IN EACH LOANS IN EACH LOANS IN EACH CH
CATEGORY TO CATEGORY TO CATEGORY TO O
AMOUNT TOTAL LOANS AMOUNT TOTAL LOANS AMOUNT TOTAL LOANS S
------ ------------- ------ ------------- ------ ------------- -
(DOLLARS IN THOUSANDS)
Real estate loans:
One- to four-family..... $ 3,271 98.80% $ 2,529 97.56% $ 1,939 96.11%
Multifamily............. 15 0.26 15 0.41 13 0.49
Commercial real estate.. 286 0.55 373 1.09 281 1.72
Mixed use............... 9 0.15 12 0.32 18 0.68
Land.................... 8 0.08 8 0.21 8 0.14
Lease financing........... -- -- -- -- -- --
Home equity lines of
credit and second
mortgage loans.......... 5 0.16 20 0.41 28 0.83
Other consumer............ -- -- -- -- 24 0.03
--------- ----------- --------- ------- -------- ------
Total allowance for
loan losses............. $ 3,594 100.00% $ 2,957 100.00% $ 2,311 100.00%
========= ======= ========= ======== ======== =======
-----------------------------------------------------
1994 1993
------------------------- ---------------------------
PERCENT OF PERCENT OF
LOANS IN EACH LOANS IN EACH
CATEGORY TO CATEGORY TO
AMOUNT TOTAL LOANS AMOUNT TOTAL LOANS
------ ------------- ------ ------------
Real estate loans:
One- to four-family..... $ 667 92.81% $ 468 92.20%
Multifamily............. 11 0.70 9 0.90
Commercial real estate.. 273 2.77 329 5.73
Mixed use............... -- 1.23 -- --
Land.................... 8 0.24 1 0.02
Lease financing........... -- -- 3 0.02
Home equity lines of
credit and second
mortgage loans.......... 16 2.14 5 0.98
Other consumer............ 14 0.11 20 0.15
--------- ----- --------- ------
Total allowance for
loan losses............. $ 989 100.00% $ 835 100.00%
========= ======= ========= ========
14
Included in the above amounts are specific reserves totaling $510,000,
$579,000, $392,000, $201,000, and $240,000, at December 31, 1997, 1996, 1995,
1994, and 1993, respectively, related to loans classified as loss.
REO. REO is initially recorded at estimated fair value less selling
costs. Fair value is defined as the estimated 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. Subsequent to foreclosure,
REO is periodically evaluated by management and an allowance for loss is
established if the estimated fair value of the property, less estimated costs to
sell, declines.
As of December 31, 1997, all of the Company's REO consisted of
one-to-four family real estate.
INVESTMENT SECURITIES
The following table sets forth the cost basis and fair value of the
Company's investment portfolio at the dates indicated.
AT DECEMBER 31,
1997 1996 1995
-------------------- ------------------- ------------
COST FAIR COST FAIR COST FAIR
BASIS VALUE BASIS VALUE BASIS VALUE
----- ----- ----- ----- ----- -----
(DOLLARS IN THOUSANDS)
Investment Securities:
Held to maturity:
Corporate debt................. $ -- $ -- $ -- $ -- $ -- $ --
Margin account ................ -- -- 18 18 -- --
Other investments.............. -- -- 1 1 -- --
Available for sale:
Municipal bonds................ 7,327 7,681 7,325 7,507 12,360 12,712
Corporate debt................. 18,536 19,575 22,525 23,569 22,850 23,987
Obligations of U.S.
government agencies.......... 22,147 22,505 31,139 31,272 3,359 3,359
Other Investments.............. 25,536 25,553 -- -- -- --
Certificate of Deposits ....... 499 499 499 499 -- --
-------- --------- --------- -------- ------- -------
Subtotal............................ 74,045 75,813 61,505 62,866 38,569 40,058
Securities purchased under
agreements to resell........... -- -- 1,730 1,730 -- --
Equity securities:
Stock in FHLB Atlanta.......... 10,000 10,000 7,300 7,300 5,275 5,275
Stock in FHLMC ................ 5,000 4,950 5,000 4,988 -- --
Stock in FNMA .................. 8,000 8,375 8,000 8,232 -- --
Other corporate stock ......... 2,038 2,099 1,011 1,011 -- --
-------- --------- --------- --------- -------- ---------
Total.......................... $ 99,083 $101,237 $ 84,546 $ 86,127 $ 43,844 $ 45,333
======== ======== ========= ========= ======== =========
15
The following table sets forth the scheduled maturities, carrying
values, and current yields for the Company's investment portfolio of debt
securities at December 31, 1997 (dollars in thousands):
AFTER ONE BUT AFTER FIVE BUT
WITHIN ONE YEAR WITHIN FIVE YEARS WITHIN TEN YEARS
-------------------- ---------------------- --------------------
BALANCE WEIGHTED BALANCE WEIGHTED BALANCE WEIGHTED
DUE YIELD DUE YIELD DUE YIELD
--- ----- --- ----- --- -----
(DOLLARS IN THOUSANDS)
Municipal bonds (a) $ -- --% $ 577 6.35% $ 3,692 6.50%
Corporate debt -- -- -- -- 7,675 6.95
Certificates of Deposit -- -- 499 6.92 -- --
Obligations of U.S. Government Agencies 539 5.95 -- -- -- --
Other Investments 324 5.84 25,054 5.69 175 7.50
Equities -- -- -- -- -- --
--------- ------ -------- ------ -------- ------
$ 863 5.91% $ 26,130 5.73% $ 11,542 6.81%
========= ====== ======== ====== ======== ======
AFTER TEN YEARS TOTALS
------------------ ------------------
BALANCE WEIGHTED BALANCE WEIGHTED
DUE YIELD DUE YIELD
--- ----- --- -----
Municipal bonds (a) $ 3,412 9.67% $ 7,681 7.90%
Corporate debt 11,900 6.59 19,575 6.73
Certificates of Deposit -- -- 499 6.92
Obligations of U.S. Government Agencies 21,966 6.18 22,505 6.17
Other Investments -- -- 25,553 5.70
Equities 25,424 6.42 25,424 6.42
-------- ------ --------- ------
$ 62,702 6.55% $ 101,237 6.36%
======== ====== ========= ======
- -----------------
(a) Yields on tax exempt obligations are computed on a tax equivalent basis.
16
DEPOSITS AND OTHER SOURCES OF FUNDS
Deposits in the Bank as of December 31, 1997 were represented by the various
categories described below:
PERCENT
OF TOTAL
TERM CATEGORY BALANCE DEPOSITS
---- -------- ------- --------
(In thousands)
None Checking Accounts $ 761 0.15%
None Money Market Accounts 122,185 23.40%
None Passbook Accounts 665 0.13%
Certificates of Deposit
3-month Fixed-Term, Fixed-Rate 949 0.18%
6-month Fixed-Term, Fixed-Rate 4,414 0.84%
12-month Fixed-Term, Fixed-Rate 54,604 11.41%
18-month Fixed-Term, Fixed-Rate 8,312 1.59%
2-year Fixed-Term, Fixed-Rate 60,490 11.63%
30-month Fixed-Term, Fixed-Rate 136,599 26.12%
3-year Fixed-Term, Fixed-Rate 23,404 4.48%
4-year Fixed-Term, Fixed-Rate 603 0.12%
5-year Fixed-Term, Fixed-Rate 94,804 18.15%
7-year Fixed-Term, Fixed-Rate 4,303 0.82%
10-year Fixed-Term, Fixed-Rate 5,128 0.98%
----------- -------
Total $ 522,221 100.00%
=========== =======
17
The following table sets forth the change in dollar amount of deposits
in the various types of accounts offered by the Company between the dates
indicated:
BALANCE BALANCE
AT PERCENTAGE AT PERCENTAGE
DECEMBER 31, OF INCREASE DECEMBER 31, OF
ACCOUNTS 1997 DEPOSITS (DECREASE) 1996 DEPOSITS
-------- ---------- ---------------- ---------- --------------- ----------
(DOLLARS IN THOUSANDS)
Passbook.............................. $ 665 0.13% $ (1,093) $ 1,758 0.45%
Money market.......................... 122,185 23.40 12,350 109,835 28.13
Checking.............................. 761 0.15 452 309 0.08
Certificates of deposit............... 398,610 76.32 120,026 278,584 71.34
---------- ------ --------- --------- ------
Total............................ $ 522,221 100.00% $ 131,735 $ 390,486 100.00%
========== ====== ========= ========= ======
BALANCE
AT PERCENTAGE
INCREASE DECEMBER 31, OF
ACCOUNTS (DECREASE) 1995 DEPOSITS
-------- ---------- --------------- ---------
Passbook.............................. $ (262) $ 2,020 0.66%
Money market.......................... 34,103 75,732 24.71
Checking.............................. (1,439) 1,748 0.57
Certificates of deposit............... 51,584 227,000 74.06
--------- --------- -------
Total............................ $ 83,986 $ 306,500 100.00%
========= ========= =======
18
The following table sets forth certificates of deposit and money market
accounts in the Company classified by rates at the dates indicated.
AT DECEMBER 31,
1997 1996 1995
---- ---- ----
(IN THOUSANDS)
0 - 1.99%..................................................... $ 5 $ 5,235 $ --
2 - 3.99%..................................................... -- 148 --
4 - 5.99%..................................................... 231,048 210,481 141,750
6 - 7.99%..................................................... 289,046 170,056 158,375
8 - 9.99%..................................................... 696 1,709 1,817
10 - 11.99%................................................... -- 790 790
----------- ----------- -----------
$ 520,795 $ 388,419 $ 302,732
=========== =========== ===========
The following table indicates the amount of the Company's certificates
of deposit of $100,000 or more by time remaining until maturity as of December
31, 1997.
CERTIFICATES
OF DEPOSIT
----------
(IN THOUSANDS)
Three months or less........................................ $ 3,379
Three through six months.................................... 3,174
Six through twelve months................................... 11,779
Over twelve months.......................................... 29,208
----------
Total....................................................... $ 47,540
==========
BORROWINGS
Although deposits are the Company's primary source of funds, the
Company also utilizes borrowings from the FHLB of Atlanta and securities sold
under agreements to repurchase as alternative funding sources. As a member of
the FHLB System, which, among other things, functions in a reserve credit
capacity for savings institutions, the Company is required to own capital stock
in the FHLB of Atlanta and is authorized to apply for advances on the security
of such stock and certain of its home mortgages and other assets (principally
securities which are obligations of, or guaranteed by, the United States of
America) provided certain creditworthiness standards have been met. See
"Regulation."
As of December 31, 1997 the Company had outstanding advances of $200.0
million from the FHLB of Atlanta at interest rates ranging from 5.45% to 5.89%
and at a weighted average rate of 5.66%.
19
The Company also borrows funds by entering into sales of securities
under agreements to repurchase the same securities with nationally recognized
investment banking firms. The securities are held in custody by the investment
banking firms with which the Company enters into the repurchase agreement.
Repurchase agreements are treated as borrowings by the Company and are secured
by designated fixed and variable rate securities. The proceeds of these
transactions are used to meet cash flow or asset/liability matching needs of the
Company. The following table sets forth certain information regarding repurchase
agreements for the dates indicated:
1997 1996 1995
---- ---- ----
(DOLLARS IN THOUSANDS)
Weighted average balance during the year...................... $ 117,431 $ 68,920 $ 97,692
Weighted average interest rate during the year................ 5.76% 5.77% 6.29%
Maximum month-end balance during the year..................... $ 279,909 $ 97,416 $ 119,507
Mortgage-backed securities underlying
the agreements as of the end of the year:
Carrying value, including accrued interest................. $ 104,736 $ 22,856 $ 103,590
Estimated market value........................................ $ 104,696 $ 22,804 $ 103,891
Agencies:
Carrying value, including accrued interest................. $ 190,820 $ 38,562 $ 10,499
Estimated market value..................................... $ 190,804 $ 38,621 $ 10,594
20
The following table sets forth information regarding the weighted
average interest rates and the highest and average month end balances of the
Company's borrowings.
AT OR AT OR
FOR THE YEAR ENDED FOR THE YEAR ENDED
DECEMBER 31, 1997 DECEMBER 31, 1996
--------------------------------------------------- ---------------------------------------------------
WEIGHTED MAXIMUM WEIGHTED AVERAGE WEIGHTED MAXIMUM WEIGHTED AVERAGE
ENDING AVERAGE AMOUNT AT AVERAGE WEIGHTED ENDING AVERAGE AMOUNT AT AVERAGE WEIGHTED
CATEGORY BALANCE RATE MONTH-END BALANCE AVERAGE RATE BALANCE RATE MONTH-END BALANCE AVERAGE RATE
- -------- ------- ---- ---------- ------- ------------ ------- ------- --------- ------- ------------
(DOLLARS IN THOUSANDS)
Advances from the FHLB of
Atlanta............. $200,000 5.71% $200,000 $160,749 5.66% $144,800 5.94% $ 154,500 $120,633 5.91%
Securities sold under
agreement to repurchase $279,909 5.91% $279,909 $117,431 5.76% $ 57,581 5.69% $ 97,416 $ 68,920 5.77%
AT OR
FOR THE YEAR ENDED
DECEMBER 31, 1995
------------------------------------------------
WEIGHTED MAXIMUM WEIGHTED AVERAGE
ENDING AVERAGE AMOUNT AT AVERAGE WEIGHTED
CATEGORY BALANCE RATE MONTH-END BALANCE AVERAGE RATE
- -------- ------- -------- --------- ------- ------------
Advances from the FHLB of
Atlanta............. $105,500 5.87% $ 106,800 $ 104,110 6.06%
Securities sold under
agreement to repurchase $ 93,905 6.06% $ 119,507 $ 97,692 6.29%
21
PROPERTIES
During 1997, the Bank operated from the Company's headquarters located
at 1111 North Highland Street, Arlington, Virginia 22201 and the Company
operated from an office that it subleases from Danzinger and Danzinger, a law
firm, in New York for approximately $24,000 per year.
SUBSIDIARIES
During the second quarter of 1996, the Bank through its wholly owned
subsidiary TeleBanc Servicing Corporation ("TSC") funded 50% of the capital
commitment to AGT Mortgage Services, LLC ("AGT"). AGT services performing loans
and workouts for troubled or defaulted loans for a fee. The Company ceased
operation of AGT on July 31, 1997. The Bank also provided in the second quarter
of 1996, 50% of the capital commitment to AGT PRA, LLC ("AGT PRA"). The primary
business of AGT PRA is its investment in Portfolio Recovery Associates, LLC
("PRA"). PRA acquires and collects delinquent consumer debt obligations for its
own portfolio.
In February 1997, TeleBanc acquired TeleBanc Capital Markets, Inc.
("TCM"), a registered investment advisor, funds manager, and broker-dealer
specializing in mortgages and mortgage-related securities. In June 1997, the
Company formed TeleBanc Capital Trust I ("TCT"), which in turn sold shares of
trust preferred securities, Series A, for a total of $10.0 million in a private
placement.
EMPLOYEES
At December 31, 1997, the Company had approximately 58 full-time
employees. Management considers its relations with its employees to be
excellent. The Bank's employees are not represented by any collective bargaining
group.
REGULATION
GENERAL
The Company, as a savings and loan holding company, and the Bank, as a
federally chartered savings bank, are subject to extensive regulation,
supervision and examination by the OTS as their primary federal regulator. The
Bank also is subject to regulation, supervision and examination by the Federal
Deposit Insurance Corporation (the "FDIC") and as to certain matters by the
Board of Governors of the Federal Reserve System (the "Federal Reserve Board").
See "Management's Discussion and Analysis" and "Notes to Consolidated Financial
Statements" as to the impact of certain laws, rules and regulations on the
operations of the Company and the Bank. Set forth below is a description of
certain recent regulatory developments.
As discussed in Management's Discussion and Analysis, in September
1996, legislation (the "1996 legislation") was enacted to address the
undercapitalization of the SAIF, of which the Bank is a member. As a result of
the 1996 legislation, the FDIC imposed a one-time special assessment of 0.657%
on deposits insured by the SAIF as of March 31, 1995. The Bank incurred a
one-time charge of $1.7 million (before taxes) to pay for the special assessment
based upon its level of SAIF deposits as of March 31, 1995. After the SAIF was
deemed to be recapitalized, the Bank's deposit insurance premiums to the SAIF
were reduced as of September 30, 1996. The Bank expects that its future deposit
insurance premiums will continue to be lower than the premiums it paid prior to
the recapitalization.
The 1996 legislation also contemplates the merger o the saif with the
Bank Insurance Fund (the "BIF"), which generally insures desposits in national
and state-chartered banks. The combined deposit insurance fund, which would be
formed no earlier than January 1, 1999, would insure deposits at all FDIC
Insured despository institutions. As a condition to the combined insurance fund,
22
however, the 1996 legislation contemplates that no insured depository
institution would be chartered as a savings association (such as TeleBank).
Several proposals for abolishing the federal thrift charter were introduced in
Congress during 1997 in bills addressing financial services modernization,
including a proposal from the Treasury Department developed pursuant to
requirements of the 1996 legislation. While no legislation was passed in 1997,
financial modernization legislation continues to be discussed by Congress. In
the most recent proposal introduced in Congress, the thrift charter would be
preserved, but the OTS would become a division of the Office of the Comptroller
of the Currency, the agency that regulates national banks, and thrifts would
become subject to national bank branching rules. In addition, the legislation
would require thrifts to hold 10% of their assets in home mortgages, and only
mortgage-backed securities backed by residential mortgages originated by the
thrift would count towards meeting this threshold. The Company does not believe
that the proposed changes to the thrift charter or the change in OTS status
would have a material effect on its operations, however, the Company is unable
to predict what form any final legislation will take. If final legislation is
passed abolishing the federal thrift charter, TeleBank could be required to
convert its federal charter to either a national bank charter, a new federal
type of bank charter or a state depository institution charter.
The legislation currently being discussed in Congress also would
subject the Company to regulation by the Federal Reserve Board. Regulation by
the Federal Reserve Board could subject the Company to capital requirements that
are not currently applicable to holding companies under OTS regulation, and may
result in limitations on the type of business activities in which the Company
may engage at the holding company level, which business activities currently are
not restricted.
Various proposals were introduced in Congress in 1997 to permit the
payment of interest on required reserve balances, and to permit savings
institutions and other regulated financial institutions to pay interest on
business demand accounts. While this legislation appears to have strong support
from many constituencies, the Company is unable to predict whether such
legistation will be enacted.
During 1997, the OTS continued its comprehensive review of its
regulations to eliminate duplicative, unduly burdensome, and unnecessary
regulations. The OTS revised or has proposed revising regulations addressing
electronic banking operations, capital distributions, liquidity requirements,
deposit accounts, and application processing. The proposal on electronic banking
operations would expand the services that TeleBank can provide electronically by
permitting savings institutions to engage in any activity through electronic
means that they may conduct through more traditional delivery mechanisms,
including opening new deposit accounts and the establishment of loan accounts.
The proposal also would allow savings institutions to market and sell electronic
capacities and by-products to third parties if the capacities and by-products
are acquired or developed in good faith as part of providing financial services.
The recently proposed revisions to the OTS capital distribution
regulation would conform the definition of "capital distribution" to the
definition used in the OTS prompt corrective action regulations, and would
delete the three classifications of institutions. Under the proposal, there
would be no specific limitation on the amount of permissible capital
distributions, but the OTS could disapprove a capital distribution if the
institution would not be at least adequately capitalized under the OTS prompt
correction action regulations following the distribution, if the distribution
raised safety or soundness concerns, or if the distribution violated a
prohibition contained in any statute, regulation, or agreement between the
institution and the OTS, or a condition imposed on the institution by the OTS.
The OTS would consider the amount of the distribution when determining whether
it raised safety or soundness concerns.
The recently adopted revisions to the OTS liquidity requirements
lowered the minimum liquidity requirement for a federal savings institution from
5% to 4%, but made clear that an institution must maintain sufficient liquidity
to ensure its safe and sound operation. The revisions also added certain
mortgage-related securities and mortgage loans to the types of assets that can
be used to meet liquidity requirements, and provided alternatives for measuring
compliance with the requirements.
23
ITEM 2. PROPERTIES
Reference is made to the information set forth under the caption
"Properties" under Item 1. Business of this Annual Report on Form 10-K.
ITEM 3. LEGAL PROCEEDINGS
There are no material pending legal proceedings, other than ordinary
routine litigation incidental to its business, to which the Company or any of
its subsidiaries is a party or of which any of their property is the subject.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of TeleBanc stockholders during the
fourth quarter of the fiscal year ended December 31, 1997.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
The Common Stock is currently traded "over-the-counter" under the symbol "TBFC".
The following table sets forth the closing high and low bid prices for the
Common Stock of the periods indicated.
Initial offering $6.125
1996 High Low
- ---- ---- ---
1st quarter $ 8.00 $ 7.50
2nd quarter $ 9.75 $ 8.00
3rd quarter $10.00 $8.875
4th quarter $13.25 $ 9.75
1997
- ----
1st quarter $17.00 $12.00
2nd quarter $17.50 $12.50
3rd quarter $19.00 $15.75
4th quarter $18.75 $17.50
No dividends were paid in 1996 and 1997. The closing per share bidprice of the
Common Stock on December 31, 1997 was $17.75. The approximate number of holders
of record of the Company's common stock at December 31, 1997 was less than 300.
ITEM 6. SELECTED FINANCIAL DATA
SELECTED FINANCIAL DATA
Years ended December 31,
(Dollars in thousands, except per share data) 1997 1996 1995 1994 1993
Interest income $ 59,301 $ 45,800 $ 40,511 $ 22,208 $ 16,667
Interest expense 46,063 34,815 31,946 17,513 11,828
Net interest income 13,238 10,985 8,565 4,695 4,839
Provision for loan losses 921 919 1,722 492 211
Non-interest income 4,093 2,756 3,777 175 1,157
General and administrative expenses 9,042 8,375 5,561 3,503 2,997
Other non-interest operating expenses 1,100 700 679 153 739
Income before income taxes and cumulative
effect of change in accounting principle 6,268 3,747 4,380 722 2,049
Income tax expense 1,657 1,195 1,660 182 842
Cumulative effect of change in
accounting principle -- -- -- -- 170
Net income $ 3,671 $ 2,552 $ 2,720 $ 540 $ 1,377
Earnings per share:
Basic $ 1.68 $ 1.25 $ 1.33 $ 0.31 $ 1.06
Diluted $ 1.49 $ 1.16 $ 1.33 $ 0.31 $ 1.06
At December 31,
Total assets $ 1,100,352 $ 647,965 $ 553,943 $427,292 $ 220,301
Loans receivable, net 540,704 351,821 248,492 154,742 100,859
Mortgage-backed securities (a) 340,313 184,743 234,385 236,464 80,782
Investment securities (a) 91,237 78,826 40,058 12,444 18,110
Deposits 522,221 390,486 306,500 212,411 113,132
Advances from the FHLB 200,000 144,800 105,500 96,000 61,000
Securities sold under agreements to repurchase 279,909 57,581 93,905 79,613 29,642
Total stockholders equity 45,824 24,658 21,565 17,028 12,378
Financial ratios:
Return on average
Total assets 0.45% 0.61%(c) 0.53% 0.17% 0.61%
Stockholders' equity 9.17% 16.50%(c) 14.10% 3.17% 11.79%
Average stockholders'
equity to average total assets 4.92% 3.70% 3.77% 5.27% 5.20%
Total general and administrative expenses
to total assets 0.82% 1.03%(c) 1.00% 0.82% 1.36%
Number of (b):
Deposit accounts 25,507 16,506 12,919 8,564 2,932
Full-time equivalent employees 58 39 30 29 18
Total assets per employee (b) $ 18,972 $ 16,614 $ 18,465 $ 14,734 $ 12,239
(a) Includes available for sale, held to maturity, held for sale, and trading.
(b) At end of period. (c) Excludes SAIF assessment.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The information contained in this section should be read in conjunction with the
Company's 1997 Consolidated Financial Statements and Notes thereto. In addition,
this Annual Report, which includes Management's Discussion and Analysis,
contains certain forward-looking information. This information includes the
plans and objectives of management for future operations and financial
objectives, loan portfolio growth, and availability of funds. This
forward-looking information is subject to the inherent uncertainties in
predicting future results and conditions. Certain factors that could cause
actual results and conditions to differ materially from those projected in the
forward-looking information are set forth below in the Interest Rate Sensitivity
Management section. Other factors that could cause actual results to differ
materially include the uncertainties of economic, competitive and market
conditions, and future business decisions, all of which are difficult or
impossible to predict accurately and many of which are beyond the control of the
Company. Although the Company believes that the assumptions underlying the
forward-looking information included herein are reasonable, any of the
assumptions could be inaccurate and therefore, there can be no assurance that
the forward-looking information included herein will prove to be accurate.
Therefore, the inclusion of such information should not be regarded as a
representation by the Company or any other person that the objectives and plans
of the Company will be achieved.
INTRODUCTION
TeleBanc Financial Corporation ("TeleBanc" or the "Company") was
organized by its majority stockholder, MET Holdings Corporation ("MET
Holdings"), to become, in March 1994, the parent savings and loan holding
company for TeleBank ("the Bank"), a federally chartered savings bank. In
February 1997, TeleBanc acquired TeleBanc Capital Markets, Inc. ("TCM"), a
registered investment advisor, funds manager, and broker-dealer specializing in
mortgages and mortgage-related securities. In June 1997, the Company formed
TeleBanc Capital Trust I ("TCT"), which in turn sold shares of trust preferred
securities, Series A, for a total of $10.0 million in a private placement. All
references to the Company include the business of the Bank, TCM, and TCT.
Financial and other data as of and for all periods prior to March 1994 represent
the consolidated data of the Bank only. Prior to March 1996, the Bank was known
as Metropolitan Bank for Savings, F.S.B.
Since 1994, TeleBanc has raised approximately $61.8 million through the
sale of capital stock and warrants and the issuance of subordinated notes and
trust preferred securities. In the second quarter of 1994, TeleBanc completed
its initial public offering, raising $4.6 million through the sale of common
stock and an additional $17.3 million through the issuance of subordinated notes
with warrants. Upon the completion of this offering, the Company invested $15
million of the proceeds as capital of the Bank. In February 1997, the Company
consummated the sale of $29.9 million of units to investment partnerships
managed by Conning & Company, CIBC WG Argosy Merchant Fund 2, LLC, the
Progressive Corporation, and The Northwestern Mutual Life Insurance Company and
the purchase of the assets of Arbor Capital Partners, Inc., which was majority
owned by MET Holdings, through the issuance of 162,461 shares of TeleBanc common
stock and a $500,000 cash payment. The units consist of convertible preferred
stock and senior
24
subordinated notes with warrants. For the period ending December 31, 1997, the
Company invested $15.3 million in the Bank and $3.0 million in TCM.
Overall growth in assets and deposits reflects the Company's efforts to
invest and leverage the capital proceeds. At December 31, 1997, TeleBanc
reported total assets of $1.1 billion, total deposits of $522.2 million, and
stockholders' equity of $45.8 million, compared to $220.3 million, $113.1
million, and $12.4 million, respectively, at December 31, 1993.
Since 1989, the Bank has been developing an operating strategy that
seeks to minimize general and administrative expenses through more efficient
deposit gathering, borrowing, and asset generation. From its headquarters in
Arlington, Virginia, the Company attracts deposit accounts such as certificates
of deposit, money market accounts, and interest checking accounts through a
targeted direct marketing program. Unlike traditional financial institutions,
the Company pursues a "branchless" marketing strategy and thus interacts with
its customers primarily through the telephone, internet, mail, and fax. Company
representatives utilize a sophisticated computer software system to market and
process deposits, build a customer database for future products, and provide
quality service. Other funding sources for the Company include borrowings from
the Federal Home Loan Bank of Atlanta ("FHLB"), securities sold under agreements
to repurchase, and subordinated debt.
The Company's asset acquisition strategy is focused on investing in
one-to-four unit, single-family mortgages and mortgage backed securities
purchased in the secondary market rather than to originate loans. The Company
seeks to manage interest rate risk through matching the maturities of its
deposit solicitations and borrowings as compared with its asset purchases and
the use of certain hedging techniques in order to operate profitably in various
interest rate environments.
In the first quarter of 1998, TeleBanc announced that it had signed a
definitive merger agreement to acquire (the "DFC Acquisition") Direct Financial
Corporation ("DFC"). DFC is the parent holding company of Premium Bank, a
federal savings bank headquartered in New Jersey. At December 31, 1997, DFC
reported total assets of $326.1 million, loans receivable, net of $187.2
million, total deposits of $273.9 million and total stockholders' equity of
$12.3 million. TeleBanc will pay $12 for each share of Direct Financial common
stock or common stock equivalent. The transaction is valued at approximately
$26.4 million. The DFC Acquisition is expected to be consummated in the second
quarter of 1998, subject to DFC stockholder and regulatory approvals.
Also in January 1998, TeleBanc signed a definitive acquisition
agreement whereby MET Holdings will sell substantially all of its assets,
including approximately 1,433,081 shares of TeleBanc Common Stock owned by MET
Holdings, and assign substantially all of its liabilities, to TeleBanc.
Immediately following consummation of the acquisition, MET Holdings will
dissolve and distribute its remaining assets and liabilities to its
stockholders, assuming such dissolution is approved by the requisite number of
stockholders of MET Holdings and TeleBanc.
Given the ever-increasing competitive financial services environment,
the Company has adopted a plan to establish the Bank as a leading brand name in
direct banking. The Company intends to focus on higher growth rates and
therefore anticipates increased associated expenses, including marketing,
compensation, and technology costs, for
25
the next two years. The Bank's core competency has been to incorporate
technology to operate at a significantly lower cost structure than its
competitors and to use a portion of the expense differential to offer higher
value savings products. The Bank has also evolved from using national rate
surveys as the primary means of attracting deposits to developing sophisticated,
multiple channel marketing strategies. These strategies are building brand
identity, franchise value, and savings patterns that mirror the favorable
deposit structure of a traditional savings bank without the corresponding
infrastructure expense. Management believes this commitment to expansion
directly associated with brand building is necessary to establish the preeminent
direct banking franchise.
The following financial review presents management's analysis of the
consolidated financial condition and results of operations of TeleBanc and
should be read together with the consolidated financial statements and
accompanying notes.
INTEREST RATE SENSITIVITY MANAGEMENT
The Company actively monitors the sensitivity of its assets and
liabilities to various interest rate environments due to repricing in future
time periods. Effective interest rate sensitivity management seeks to ensure
that net interest income is protected from the impact of changes in interest
rates. The risk management function is responsible for the measurement,
monitoring, and control of market risk and the communication of risk limits
throughout the Company in connection with its asset-liability management
activities and trading.
The Company's strategies are intended to stabilize the Company's exposure
to market risk and net interest rate spread under a variety of changes in
interest rates. In an effort to manage growth effectively, the Company
undertakes a slow and steady path to leverage its capital and invest in
interest-earning assets. This growth is funded by raising deposits and incurring
debt including FHLB advances and securities sold under agreements to repurchase
("repos"). The Company's deposit gathering strategy tends to rely on higher
yielding interest checking accounts, money market accounts, and certificates of
deposit accumulated through the Bank's branchless banking telephone and mail
operations, rather than relying on extensive branch networks which require
higher overhead. Similarly, the Company tends to invest its funds in assets
purchased in the secondary market rather than incurring overhead for extensive
loan origination operations. As a result, the Company's interest rate spread is
lower than that of traditional financial institutions. By actively managing the
maturities of its interest-sensitive assets and liabilities, the Company seeks
to maintain relatively consistent interest rate spreads and mitigate much of the
interest rate risk associated with such assets and liabilities.
Management utilizes a risk management process that allows risk-taking
within well defined limits which can be used to create and enhance shareholder
value through the effective employment of risk capital. To this end, the Company
has established an Asset-Liability Committee ("ALCO") and implemented a
measurement of risk using "market value of equity"and "gap" methodologies and
other measures.
ALCO establishes the policies and guidelines for the management of the
Company's assets and liabilities. The ALCO meets a minimum of eight times each
year and its membership is composed of individuals from the Company and two
members of the Board of Directors. The ALCO policy is directed toward reducing
the variability of the market value of its equity under a wide range of interest
rate environments. Fair value of equity (FVE) represents the
26
net fair value of the company's financial assets and liabilities, including
off-balance sheet hedges. The Company monitors the sensitivity of changes in its
fair value of equity with respect to various interest rate environments and
reports regularly to ALCO. Effective fair value management maximizes net
interest income while constraining the changes in the fair value of equity with
respect to changes in interest rates to acceptable levels. The model calculates
a benchmark FVE for current market conditions.
The Company utilizes sensitivity analysis to evaluate the rate and
extent of changes to its FVE under various market environments. In preparing
simulation analysis, the Company breaks down the aggregate investment portfolio
into discrete product types that share similar properties, such as fixed- or
adjustable rate, similar coupon, and similar age. In the model, each product
type exhibits different projected cashflows (i.e. prepayment assumptions). Under
this analysis, the net present value of expected cashflows for interest
sensitive assets and liabilities are calculated under various interest rate
scenarios. In conducting this sensitivity analysis, the model considers all
asset, liability, and off-balance sheet hedges, including whole loan mortgages,
mortgage-backed securities, mortgage derivatives, corporate bonds, interest rate
swaps, caps, floors, and options. The range of interest rate scenarios evaluated
encompasses significant changes to current market conditions. By this process,
the Company subjects its interest rate sensitive assets and liabilities to
substantial market stress and evaluates the FVE resulting from various market
scenarios. ALCO reviews the results of these stress tests and establishes
appropriate strategies to promote continued compliance with established
guidelines.
Management measures the efficiency of its asset/liability management
strategies by analyzing, on a quarterly basis, the Bank's theoretical FVE and
the expected effect of changes in interest rates. The Board of Directors
establishes limits within which such changes in FVE are to be maintained in the
event of changes in interest rates.
The Company calculates a theoretical FVE in response to a hypothetical
change in market interest risk. The model addresses the exposure to the Bank of
its market sensitive (i.e. interest rates) non-trading financial instruments.
The model excludes the Bank's trading portfolio, which based on management's
analysis, has an immaterial impact on the Bank's FVE. A hypothetical
instantaneous move upward of 100 basis points would cause FVE to decrease by
7.7%.
Every method of market value sensitivity analysis contains inherent
limitations and express and implied assumptions that can affect the resulting
calculations. For example, each interest rate scenario reflects unique
prepayment and repricing assumptions. In addition, this analysis offers a static
view of assets, liabilities, and hedges held as of December 31, 1997 and makes
no assumptions regarding transactions the Company might take in response to
changing market conditions.
The Company employs various hedging techniques to implement ALCO
strategies directed toward managing the variability of the FVE by controlling
the relative sensitivity of market value of interest-earning assets and
interest-bearing liabilities. The sensitivity of changes in market value of
assets and liabilities is affected by such factors as the level of interest
rates, market expectations regarding future interest rates, projected related
loan prepayments, and the repricing characteristics of interest bearing
liabilities.
27
The Company utilizes hedging techniques to reduce the variability of
FVE and its overall interest rate risk exposure over a one-to-seven year period.
A policy adopted by the Company's Board of Directors prohibits management from
speculative purchases or sales of futures, options, stripped mortgage-backed
securities, or other mortgage derivative products.
Interest rate swaps, caps, swaptions, floors, collars, financial
options, and other mortgage derivative products are used to manage
interest rate exposure by hedging certain assets and liabilities and are not
used for speculative purposes. The Company's interest rate spread was 1.49%,
1.84%, and 1.72% for 1997, 1996, and 1995, respectively. The Company's yield on
interest-earning assets for such periods was 1.73%, 1.94%, and 1.88%,
respectively. Since the initial public offering in May 1994, the Company has
steadily grown in both assets and liabilities, with average interest earning
assets growing from $206.9 million for the quarter ended March 31, 1994 to
$772.2 million for the year ended December 31, 1997, and average interest
bearing liabilities growing from $206.1 million to $738.3 million over the same
period. The Company's ongoing strategy is to maintain a relatively stable
interest rate margin and interest rate spread.
The Company also monitors its assets and liabilities by examining the
extent to which such assets and liabilities are "interest rate sensitive" and by
monitoring interest rate sensitivity "gap." An asset or liability is said to be
interest rate sensitive within a specific period if it will mature or reprice
within that period. The interest rate sensitivity gap is defined as the
difference between the amount of interest-earning assets maturing or repricing
within a specific time period and the amount of interest-bearing liabilities
maturing or repricing within the same time period. A gap is considered positive
when the amount of interest rate sensitive assets exceeds the amount of interest
rate sensitive liabilities and is considered negative when the amount of
interest rate sensitive liabilities exceeds the amount of interest rate
sensitive assets. Generally, during a period of rising interest rates, a
negative gap would adversely affect net interest income while a positive gap
would result in an increase in net interest income; conversely, during a period
of falling interest rates, a negative gap would result in an increase in net
interest income and a positive gap would adversely affect net interest income.
The Company's current asset-liability management strategy is to maintain an
evenly matched one-to-five year gap giving effect to hedging, but depending on
market conditions and related circumstances, a positive or negative one-to-five
year gap of up to 20% may be acceptable. Inclusive of the Company's hedging
activities, the Company's one-year gap at December 31, 1997 is 5.35%. The
Company's hedge-effected one-to-five year gap at such date is (6.36)%.
The following assumptions were used by management in order to prepare
the Company's gap table set forth on the next page. Non-amortizing investment
securities are shown in the period in which they contractually mature.
Investment securities which contain embedded options such as puts or calls are
shown in the period in which that security is currently expected to be put or
called or to mature. The table assumes that fully-indexed, adjustable-rate,
residential mortgage loans and mortgage-backed securities prepay at an annual
rate between 10% and 15%, based on estimated future prepayment rates for
comparable market benchmark securities and the Company's prepayment history. The
table also assumes that fixed rate, current-coupon residential loans prepay at
an annual rate of between 10% and 15%. The above assumptions were adjusted up or
down on a pool by pool basis to model the effects of product type, coupon rate,
rate adjustment frequency, lifetime cap, net coupon reset margin, and periodic
rate caps upon prevailing
28
annual prepayment rates. Time deposits are shown in the period in which they
contractually mature, and savings deposits are shown to reprice immediately. The
interest rate sensitivity of the Company's assets and liabilities could vary
substantially if different assumptions were used or if actual experience differs
from the assumptions used. Certain shortcomings are inherent in the method of
analysis presented in the gap 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 assets. In the event of a change in
interest rates, prepayment rates would likely deviate significantly from those
assumed in calculating the table. The ability of many borrowers to service their
debt may decease in the event of an interest rate increase.
Repricing Repricing Repricing
Within Within Within Repricing
Balance Percent 0-3 4-12 1-5 Over
(Dollars in Thousands) December 31, 1997 of Total Months Months Years 5 Years
Interst-earning assets:
Loans receivable, net $ 540,704 50.43% $ 62,981 $ 174,892 $204,997 $ 97,834
Investment securities
available for sale, interest
bearing accounts & FHLB stock 91,237 8.51 15,158 638 61,934 13,507
Mortgage backed securities
available for sale and trading 340,313 31.74 127,191 104,601 61,715 46,805
Federal funds sold & interest
bearing deposits 99,991 9.32 99,991 -- -- --
Total interest-earning assets $1,072,245 100.00% $ 305,321 $ 280,131 $328,647 $158,146
Non-interest earning assets: 28,107
Total assets $1,100,352
Interest-bearing liabilities:
Savings deposits $ 123,611 11.98% $ 123,611 $ -- $ -- $ --
Time deposits 398,610 38.63 23,414 102,348 266,838 6,010
FHLB advances 200,000 19.39 200,000 -- -- --
Other borrowings 279,909 27.13 279,909 -- -- --
Subordinated debt 29,614 2.87 -- -- 12,937 16,677
Total interest-bearing liabilities $1,031,744 100.00% $ 626,934 $ 102,348 $279,775 $ 22,687
Non-interest bearing liabilities 13,212
Total liabilities $1,044,956
Total trust preferred 9,572
Stockholders' equity 45,824
Total liabilities and
stockholders equity $1,100,352
Periodic repricing difference
(periodic gap) $(321,613) $ 177,783 $ 48,872 $135,459
Cumulative repricing difference
(cumulative gap) $(321,613) $ (143,830) $ (94,958) $ 40,501
Cumulative gap to total assets (29.23)% (13.07)% (8.63)% 3.68%
Cumulative gap to total assets
hedge affected (a) (10.81)% 5.35% (6.36)% 3.68%
(a) The hedge effected cumulative gap to total assets reflects the effect of
hedging instruments on the Company's gap at December 31, 1997. For purposes of
determining the effect of such hedging instruments, interest rate swap
agreements are treated as part of the hedged liability; hence, the cash flows
from the swap and the hedged asset or liability are netted and the resulting
cash flows are used in the gap calculation. Interest rate cap agreements also
are
29
treated as part of the hedged asset or liability and weighted the market's
estimate of the likelihood the cap strike will be met or exceeded. The net cash
flows are used in the gap calculations.
FINANCIAL CONDITION
The Company's total assets increased by $452.0 million or 69.8% from
$648.0 million at December 31, 1996 to $1.1 billion at December 31, 1997. Growth
in assets is attributable to increases in mortgage-backed securities and loans
receivable. The primary sources of funds for this growth in assets were deposits
and borrowings.
Loans receivable, net and loans receivable held for sale increased
$188.9 million or 53.7%, from $351.8 million at December 31, 1996 to $540.7
million at December 31, 1997. The increase reflects whole loan purchases of
$343.2 million offset by $95.1 million of principal repayments and $60.7 million
of loans sold in 1997. In the past year, the Company focused its efforts on
expanding its direct loan acquisition program. As a result, the Company has
significantly improved its ability to source, price, and close whole loans.
During 1996, the Company recorded whole loan purchases of $103.1 million offset
by $50.2 million of principal repayments and $27.1 million of loans sold. In the
second quarter of 1996, the Company reevaluated its loan investment strategy.
The Company determined that the probable sale of loans, subsequent to a
restructuring or credit enhancement, would add value to the portfolio. Pursuant
to this strategy, the Company created a loans held for sale category with a
one-time transfer of loans from the investment portfolio that have
characteristics that make them susceptible to sale after restructuring, credit
enhancement, or other improvements. Loans held for sale are recorded at the
lower of cost or market. The Company maintains loans held for sale and loans
held for investment categories.
Mortgage-backed securities, available-for-sale, increased $134.5
million, or 72.8%, from $184.7 million at December 31, 1996 to $319.2 million at
December 31, 1997. Investment securities, available for sale, increased $12.4
million, or 15.7%, from $78.8 million at December 31, 1996 to $91.2 million at
December 31, 1997. These securities are held for liquidity purposes and
increased along with the growth of assets of the Bank in 1997.
Deposits increased $131.7 million, or 33.7%, from $390.5 million at
December 31, 1996 to $522.2 million at December 31, 1997, largely as a result of
the Company's continued marketing efforts to attract money market and
certificate of deposit accounts. During fiscal year 1997, approximately $25.9
million of interest was credited to the accounts while deposits exceeded
withdrawals by $105.8 million, resulting in a net change of $131.7 million.
During 1997, the Company completed a systems conversion to an integrated
platform for marketing, deposit operations, and accounting/finance. The new
system will support future growth and improve the Company's ability to launch
new products. To prepare for the systems upgrade, management controlled growth
of deposits in an effort to focus on the conversion process and minimize the
impact to new customers. The Company relied on FHLB advances and other
borrowings to support asset growth. .
FHLB advances increased $55.2 million, or 38.1%, from $144.8 million at
December 31, 1996 to $200.0 million at December 31, 1997. Other borrowings,
composed of securities sold under agreements to repurchase, increased $222.3
million, or 385.9%, from $57.6 million at December 31, 1996 to $279.9 million at
December 31, 1997. For the year ended 1997, subordinated debt, net of original
issue discount, was $29.6 million, which includes the 9.5% senior
30
subordinated debt raised in February 1997 and the 11.5% subordinated debt raised
in the second quarter of 1994. In June 1997, the Company formed TCT, which in
turn sold shares of trust preferred securities, Series A, for a total of $10.0
million in a private placement. The trust preferred securities have an annual
dividend rate of 11.0% payable semi-annually, beginning in December 1997. These
transactions reflect the Company's ability to utilize alternate sources of
funding in order to support asset growth.
Stockholders' equity increased $21.1 million to $45.8 million at
December 31, 1997 from $24.7 million at December 31, 1996. The increase reflects
the issuance of $15.3 million of 4% convertible preferred stock, $1.5 million
stock issuance in exchange for Arbor's assets, $4.6 million in net income, and
an unrealized gain for the year on securities available for sale of $642,000,
net of taxes, which increases the Company's stockholders' equity, but does not
impact the statement of operations. The consolidated average balance sheets
along with income and expense and related interest yields and rates at December
31, 1997 and for each of the preceding three fiscal years are shown below. The
table also presents information for the periods indicated with respect to the
difference between the weighted average yield earned on interest-earning assets
and weighted average rate paid on interest-bearing liabilities, or "interest
rate spread," which savings institutions traditionally use as an indicator of
profitability. Another indicator of an institution's profitability is its "net
yield on interest-earning assets," which is its net interest income divided by
the average balance of interest-earning assets. Net interest income is affected
by the interest rate spread and by the relative amounts of interest earning
assets and interest-bearing liabilities. As discussed above, the Company's
operating strategy results in lower spreads and margins than other comparable
financial institutions, but the Company believes lower net interest income is
mitigated by savings in general and administrative expenses.
1997 1996 1995
Balance Average Interest Average Average Interest Average Average Interest Average
(Dollars in thousands) December 31, 1997 Balance Inc./Exp. Yield/Cost Balance Inc./Exp.Yield/Cost Balance Inc./Exp.Yield/Cost
Interest-earning assets:
Loans receivable, net(a) $ 540,704 $441,819 $34,729 7.86% $279,038 $23,089 8.28% $201,737 $17,726 8.80%
Mortgage-backed &
related securities -- -- -- -- -- -- -- 233,728 18,614 7.96
Investment securities (b) 54,241 16,203 1,064 6.48 12,841 871 6.79 13,627 990 7.274
Mortgage-backed &
related securities, AFS 319,203 226,064 17,646 7.81 221,656 17,955 8.10 19,138 1,597 8.35
Investment securities, AFS (c) 91,237 73,649 4,776 6.49 61,169 3,959 6.47 25,516 2,071 8.12
Federal funds sold 45,750 1,844 100 5.37 842 44 5.22 810 49 6.05
Trading account 21,110 12,581 1,124 8.81 -- -- -- 1,932 166 8.59
Total interest-earning
assets $1,072,245 $772,160 $59,439 7.70% $575,546 $45,918 7.98% $496,488 $41,213 8.31%
Non-interest earning assets 28,107 41,465 26,929 15,388
Total assets $1,100,352 $813,625 $602,475 $511,876
Interest-bearing liabilities:
Savings deposits $ 123,611 $120,901 $ 6,380 5.28% $ 99,346$ 4,815 4.85% $ 41,387$ 2,111 5.10%
Time deposits 398,610 311,740 19,578 6.28 258,870 16,542 6.39 223,745 14,922 6.67
FHLB advances 200,000 160,681 9,885 6.07 120,678 6,689 5.54 94,718 5,985 6.32
Other borrowings 279,909 117,515 6,941 5.83 68,154 4,569 6.70 107,330 6,839 6.37
Subordinated debt, net 29,614 27,434 3,279 11.95 17,250 2,200 12.75 17,250 2,089 12.11
Total interest-bearing
liabilities $1,031,744 $738,271 $46,063 6.21% $564,298 $34,815 6.14% $484,430 $31,9466.59%
Non-interest-bearing
liabilities 13,212 25,719 15,900 8,150
Total liabilities $1,044,956 $763,990 $580,198 $492,580
Total Trust Preferred 9,572 9,597 -- --
Stockholders' equity 45,824 40,038 22,277 19,296
Total liabilities and
stockholders' equity $1,100,352 $813,625 $602,475 $511,876
Excess of interest-earning
assets over interest-
bearing liabilities/
net interest income/
31
interest rate spread $ 40,501 $ 33,889 $13,376 1.49% $ 11,248 $11,103 1.84%$ 12,058$ 9,267 1.72%
Net yield on interest
earning assets 1.73% 1.94% 1.87%
Ratio of interest-earning
assets to interest-bearing
liabilities 104.59% 101.99% 102.49%
(a) Includes mortgages held for sale and investment. (b) Includes
interest-bearing deposits, repurchase agreements, investment securities held to
maturity, and FHLB stock. (c) Interest income and average yields on municipal
bonds are presented on a tax equivalent basis.
LIQUIDITY MANAGEMENT AND FUNDING
Liquidity is a company's ability to maintain sufficient cash flows to
fund operations and meet existing and future obligations, including maturing
liabilities, loan commitments, and depositors' withdrawals. The asset portion of
the balance sheet provides liquidity through short-term investments and
maturities and repayments of loans and investment securities. Other sources of
asset liquidity include sales of loans or securities.
Liquidity is provided through the Company's ability to attract and
maintain sufficient deposits and to access available funding markets. Federal
regulations require that the Bank maintain an average of 5.00% liquidity ratio
in relation to certain borrowings and the deposit base. The Bank exceeded the
requirement throughout 1997 and 1996.
The Company continues to enhance the core deposit base through its
branchless marketing strategy that targets individual savers who deposit an
average of $21,000. Management is developing new deposit products, such as an
interest checking account, responsive to our customers needs and cross marketing
these services, which should provide stable funding sources in future periods.
In an effort to decrease the costs associated with new accounts, the Company
attracted several new affinity groups including the National Council of Senior
Citizens. Members of the affinity groups receive increased benefits including
higher rates and lower minimum balances.
The following table shows the changes in deposits for each of the prior
periods:
Years ended December 31,
(Dollars in thousands) 1997 1996 1995
Balance at beginning of period $390,486 $306,500 $212,411
Deposits in excess of (less than)
withdrawals 105,777 62,629 76,866
Interest credited on deposits 25,958 21,357 17,223
Balance at end of period $522,221 $390,486 $306,500
Management believes that liquidity of bank deposits coupled with FDIC
insurance will continue to encourage depositors to maintain significant portions
of their funds in insured depository accounts. Management also believes that a
high level of service and convenience coupled with a growing acceptance of
electronic and branchless banking will allow the Company to compete efficiently
and effectively against other FDIC insured banks and other non-bank financial
institutions. Savings deposits increased $11.7 million, or 10.5%, and
certificate of deposit accounts increased $120.0 million, or 43.1% during 1997.
The Company also relies upon borrowed funds to provide a source of
liquidity at attractive interest rates. Total borrowings increased $277.5
million, or 137.1%, during 1997. Advances from the FHLB increased $55.2 million,
or 38.1%, during the period largely as a result of attractive interest rates and
due to the various products offered by the
32
FHLB to member institutions. Advances are collateralized by specific liens on
mortgage loans in accordance with an "Advances, Specific Collateral Pledge and
Security Agreement", which requires the Company to maintain qualified collateral
equal to 120 to 160 percent of the Company's advances. Accordingly, the Company
increased single-family residential mortgage loan collateral to the FHLB to
$255.8 million during the year. Additional borrowings from the FHLB are
contingent upon the Company providing the appropriate collateral. Repurchase
agreements increased $222.3 million, or 386.1%, during 1997. Principally,
mortgage-backed securities are pledged as collateral for the repurchase
agreements. As of December 31, 1997, the Bank had approximately $154.0 million
in additional borrowing capacity.
As of December 31 1997, the Company had approximately $31.0 million of
face amount of subordinated notes with warrants. The subordinated debt
represents a very stable, although relatively expensive, source of funds. At
December 31, 1997, subordinated debt, net was $29.6 million. In addition to the
subordinated debt, the Company also had outstanding $10.0 million face amount of
11.0% trust preferred securities and $16.2 million face amount of 4.0%
cumulative preferred stock at December 31, 1997. The annual cost to service the
subordinated debt and trust preferred securities is $4.4 million and the annual
dividend requirement on the cumulative preferred stock is $648,000. Subject to
regulatory approval, the Bank will dividend this balance to the Company to
service the debt. There are various regulatory limitations on the extent to
which federally chartered savings institutions may pay dividends. Also, savings
institution subsidiaries of holding companies generally are required to provide
their OTS Regional Director with no less than 30 days' advance notice of any
proposed declaration on the institution's stock. Under terms of the indenture
pursuant to which the subordinated notes were issued, the Company presently is
required to maintain, on an unconsolidated basis, liquid assets in an amount
equal to or greater than $3.3 million, which represents 100% of the aggregate
interest expense for one year on the subordinated debt. The Company had $48.6
million in liquid assets at December 31, 1997.
CAPITAL ADEQUACY
The Company's stockholders' equity at December 31, 1997, was $45.8
million. This represents a $21.2 million, or 85.8%, increase from the prior
year. The increase reflects the issuance of $15.3 million of 4% convertible
preferred stock, $1.6 million stock issuance in exchange for Arbor's assets,
$4.2 million in net income and an unrealized gain for the year on securities
available for sale of $642,000, net of taxes, which increases the Company's
stockholders' equity, but does not impact the statement of operations. See Note
2 of the Consolidated Financial Statements.
The Bank meets all current and fully phased-in capital requirements as
adjusted for the changes which are effective to the computation of risk-based
capital and core capital at December 31, 1997.
The required and actual amounts and ratios of capital pertaining to the
Bank as of December 31, 1997 are set forth as follows (dollars in thousands):
To Be Well
For Capital Capitalized Under
Adequacy Prompt Corrective
Actual Purposes: Action Provisions:
Amount Ratio Amount Ratio Amount Ratio
As of December 31, 1997:
Total Capital (to risk
33
weighted assets) $55,701 11.91% _$37,409 _8.0% _$46,761 _10.0%
Core Capital (to adjusted
tangible assets) $52,617 5.06% _$41,606 _4.0% _$52,008 _5.0%
Tangible Capital (to
tangible assets) $52,608 5.06% _$15,602 _1.5% N/A N/A
Tier I Capital (to
risk weighted assets) $52,617 11.25% N/A N/A _$28,057 _6.0%
As of December 31, 1996:
Total Capital (to risk
weighted assets) $34,104 10.41% _$26,205 _8.0% _$32,756 _10.0%
Core Capital (to adjusted
tangible assets) $31,726 5.08% _$24,999 _4.0% _$31,248 _5.0%
Tangible Capital (to
tangible assets) $31,711 5.07% _$9,374 _1.5% N/A N/A
Tier I Capital (to
risk weighted assets) $31,726 9.69% N/A N/A _$19,654 _6.0%
EARNINGS PERFORMANCE
Comparison of Operating Results for the Years Ended December 31, 1997 , 1996,
and 1995
NET INCOME. Net income for fiscal year 1997 was $3.7 million compared to $2.6
million for fiscal year 1996. Net income for the year ended December 31, 1997
consisted primarily of $12.3 million in net interest income, $3.3 million in net
gains on the sale of loans held for sale, mortgage-backed and investment
securities, and trading assets offset by $10.1 million in non-interest expenses,
$921,000 in provision for loan losses, and $1.7 million in income tax expenses.
For fiscal year 1997, the Company's return on average assets and return on
average equity was 0.45% and 9.17%, respectively. The Company's return on
average assets and return on average equity has historically declined in years
of capital raising. Based on 2,833,036 weighted average shares of common stock
issued and outstanding as well as potentially dilutive securities, diluted
earnings per share was $1.49.
Net income decreased by $168,000, or 6.2%, from $2.7 million in fiscal
year 1995, to $2.6 million in fiscal year 1996. Net income for 1996 includes the
effect of a one-time $1.7 million, before tax, assessment to recapitalize the
Savings Association Insurance Fund ("SAIF"). Without such assessment, net income
would have been $3.6 million. Net income for the year ended December 31, 1996
consisted primarily of $11.0 million in net interest income, $1.8 million in net
gains on the sale of loans held for sale and mortgage-backed and investment
securities offset by $9.1 million in non-interest expenses, $919,000 in
provision for loan losses, and $1.2 million in income tax expenses. For fiscal
year 1996, the Company's return on average assets and return on average equity
was 0.42% and 11.46%, respectively. Based on 2,203,075 weighted average shares
of common stock issued and outstanding as well as potentially dilutive
securities, diluted earnings per share was $1.16.
NET INTEREST INCOME. Net interest income is the principal source of a financial
institution's income stream and represents the spread between interest and fee
income generated from earning assets and the interest expense paid on deposits
and borrowed funds. Fluctuations in interest rates as well as volume and
composition changes in interest-earning assets and interest-bearing liabilities
materially affect net interest income.
Net interest income increased by $2.2 million, or 20.0%, from $11.0
million to $13.2 million for the years ended December 31, 1996 and 1997,
respectively. Interest rate spreads decreased from 1.84% to 1.49% for the years
34
ended December 31, 1996 and 1997, respectively. The decrease in spreads reflects
a 28 basis point decline in the yield of interest earning assets and a 7 basis
point increase in the costs of interest-bearing liabilities. The decline in
yield reflects a decrease in loan yield due to a larger loan held for sale
portfolio and an increase in costs associated with hedging instruments used to
reduce interest rate risk matched against the deposit portfolio resulting in
higher costs. Average interest-earning assets and liabilities were $772.2
million and $738.3 million, respectively, for 1997 compared to $575.5 million
and $564.3 million, respectively, for 1996.
Net interest income increased $2.4 million, or 27.9%, from $8.6 million
to $11.0 million for the years ended December 31, 1995 and 1996, respectively.
Interest rate spreads increased to 1.84% from 1.72% for the years ended December
31, 1996 and 1995, respectively. For 1995, average interest-earning assets and
liabilities were $ $496.5 million and $484.4 million, respectively.
The following table allocates the period-to-period changes in the
Company's various categories of interest income and 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 due to changes in rate (changes in rate multiplied by
prior year's volume). Changes due to changes in rate-volume (change in rate
multiplied by changes in volume) have been allocated proportionately between
changes in volume and changes in rate.
1997 vs. 1996 1996 vs. 1995
Increase (Decrease) Due to Increase (Decrease) Due to
(Dollars in thousands) Volume Rate Total Volume Rate Total
Interest-earning assets:
Loans receivable, net (a) $ 12,732 $ (1,092) $ 11,640 $ 6,333 $ (968) $ 5,365
Mortgage-backed and
related securities -- -- -- (9,307) (9,307) (18,614)
Investment securities (b) 220 (27) 193 16 (134) (118)
Mortgage-backed and related securities
available for sale 373 (682) (309) 16,404 (45) 16,359
Investment securities
available for sale (c) 809 8 817 2,194 (305) 1,889
Federal funds sold 54 2 56 2 (8) (6))
Trading account 562 562 1,124 17 (185) (168)
Total interest-earning assets $14,750 $(1,229) $ 13,521 $15,659 $ (10,952) $ 4,707
Interest-bearing liabilities:
Savings deposits $ 1,111 $ 454 $ 1,565 $ 2,803 $ (100) $ 2,703
Time deposits 3,315 (279) 3,036 2,208 (596) 1,612
FHLB advances 2,400 796 3,196 972 (292) 680
Other borrowings 2,838 (466) 2,372 (1,778) (446) (2,224)
Subordinated debt 1,207 (128) 1,079 -- 112 112
Total interest-bearing liabilities 10,871 377 11,248 4,205 (1,322) 2,883
Change in net interest income $3,879 $ (1,606) $ 2,273 $ 11,454 $ (9,630) $ 1,824
(a) Includes mortgage and other loans. (b) Includes interest-bearing deposits,
repurchase agreements, investment securities held to maturity, and FHLB stock.
(c) Interest income and average yields on municipal bonds, included in
investment securities, are presented on a tax equivalent basis.
INTEREST INCOME. Total interest income increased $13.5 million, or 29.5%, from
$45.8 million for the year ended December 31, 1996 to $59.3 million for the year
ended December 31, 1997. Interest income on mortgage and other loans increased
$11.6 million or 50.4%. The increase is largely attributed to the $162.8 million
increase in average loan
35
balance. Interest income on mortgage-backed securities held-to-maturity and
available-for-sale decreased by $309,000, or 1.7%, from $18.0 million at
December 31, 1996 to $17.6 million at December 31, 1997 largely as a result of a
29 basis point decline in the yield.
Total interest income increased $5.3 million, or 13.1%, from $40.5
million for the year ended December 31, 1995 to $45.8 million for the year ended
December 31, 1996. Interest income on mortgage and other loans increased $5.4
million or 30.5%. The increase is largely attributed to the $77.3 million
increase in average loan balance. Interest income on mortgage-backed securities
held-to-maturity and available-for-sale decreased by $2.2 million, or 10.9%,
from $20.2 million at December 31, 1995 to $18.0 million at December 31, 1996
largely as a result of a $31.2 million decline in average mortgage backed
securities held-to-maturity and available-for-sale.
INTEREST EXPENSE. Total interest expense increased by $11.2 million, or 32.3%,
from $34.8 million for the year ended December 31, 1996 to $46.1 million for the
year ended December 31, 1997. The increase is attributable to a $174.0 million
increase in interest bearing liabilities coupled with a 7 basis point increase
in interest costs. Total interest expense increased by $2.9 million, or 9.1%,
from $31.9 million for the year ended December 31, 1995 to $34.8 million for the
year ended December 31, 1996. The increase is attributable to a $79.9 million
increase in interest bearing liabilities offset by a 45 basis point decline in
interest costs.
PROVISION FOR LOAN LOSSES. The provision for loan losses is the annual cost of
providing an allowance for estimated losses in the loan portfolio. The allowance
reflects management's judgment as to the level considered appropriate to absorb
such losses based upon a review of factors including delinquent loan trends,
historical loss experience, economic conditions, loan portfolio mix and the
Company's internal credit review process.
Total provisions for loan losses increased by $2,000, or 0.2% from
$919,000 for the year ended December 31, 1996 to $921,000 for the year ended
December 31, 1997. The stable level of provision expenses during 1997 is
attributed to the low level of net charge-offs. The total loan loss allowance as
of December 31, 1997 and 1996 was $3.6 million and $3.0 million respectively,
which was 0.67% and 0.80% of total loans outstanding, respectively. Total loan
loss allowance as a percentage of total non-performing loans was 31.4% as of
December 31, 1997 as compared to 26.3% as of December 31, 1996.
The Company's strategy of purchasing loans in the secondary market has
provided management with the ability to acquire certain assets at discounts. As
of December 31, 1997, the Company reported a total net discount of $10.2
million. These discounts are only taken into income as the balance of the loans
receivable are repaid.
Total loans receivable as of December 31, 1997 include four pools of
credit enhanced one-to-four family mortgage loans totaling $41.7 million or 7.5%
of total loans outstanding. Two of these pools totaling $28.3 million have a
credit reserve from the seller equal to 2.5% of the unpaid principal balance at
the time of the purchase available to offset any losses. Another pool, totaling
$7.3 million, has an indemnification whereby the seller must repurchase any loan
that become more than four payments past due at any time during the life of the
loan. The final pool, totaling $6.1 million, has a credit reserve equal to
approximately 10.0% of the unpaid balance at the time of the acquisition.
36
Year Ended December 31,
1997 1996 1995 1994 1993
Balance at beginning of period $2,957 $2,311 $ 989 $ 835 $659
Loans charged off, net of recoveries:
Real estate loans:
One-to-four family (283) (273) -- (338) (19)
Land -- -- -- -- (1)
Other:
Other -- -- (400) -- (15)
Total charge-offs (283) (273) (400) (338) (35)
Provision for loan losses 921 919 1,722 492 211
Balance at end of period $3,595 $2,957 $2,311 $ 989 $835
Ratio of net charge-offs to net average
loans outstanding during the period 0.06% 0.10% 0.14% 0.24% 0.03%
NON-INTEREST INCOME. Total non-interest income increased by $1.3 million, or
46.4%, from $2.8 million for fiscal year 1996 to $4.1 million for fiscal year
1997. With the addition of trading assets, the Company recognized non-interest
income of $1.2 million. Gains on loans held for sale increased $274,000. Gains
on sales of mortgage-backed securities and investment totaled $982,000. Loan
fees, service charges and other decreased $188,000, which includes loan fees and
other income of $829,000, TCM commission income of $572,000 and a equity loss of
$642,000 for the write-off of the Bank's investment in AGT Mortgage Services
("AGT"). AGT serviced performing and non-performing loans for a fee. Given lower
than anticipated non-performing loan levels, AGT did not achieve adequate
economies of scale to generate sufficient revenue. Accordingly, management
decided to cease operations of AGT on July 31, 1997.
Total non-interest income declined by $1.0 million, or 26.3%, from $3.8
million for fiscal year 1995 to $2.8 million for fiscal year 1996. Loan fees and
service charges increased $756,000 due to fees collected on $2.8 million in
purchased mortgage servicing rights. Gains on loans held for sale increased
$642,000. Gains on sales of mortgage-backed securities and investments totaled
$935,000.
NON-INTEREST EXPENSES. Total non-interest expenses increased $1.0 million, or
11.0%, from $9.1 million for fiscal year 1996 to $10.1 million for fiscal year
1997. Non-interest expenses are composed of general and administrative expenses
and other non-interest expenses. General and administrative expenses increased
$600,000, or 7.1%, from $8.4 million for the year ended December 31, 1996 to
$9.0 million for the year ended December 31, 1997. The slight increase is
primarily attributed to the $1.2 million increase in compensation which was
offset by the effect of a one-time $1.7 million assessment to recapitalize the
SAIF which was recognized in fiscal year 1996. Compensation expenses reflect an
increase of 19 employees from the prior year including the compensation expenses
for TCM employees. Other administrative costs increased $1.1 million to
accommodate the growing deposit base and increased marketing expenses associated
with building a brand identity and enhancing franchise value. As in previous
years, it is the Company's compensation policy to pay a combination of salary
and incentive based compensation consisting of bonuses tied to the overall
Company's performance and individual performances consistent with the improved
performance of the Company. Bonuses increased from $1.1 million for 1996 to $1.5
million for 1997. General and administrative expenses net of bonuses and the
SAIF assessment as a percentage of total assets was 0.69% and 0.86% for the
years ended
37
December 31, 1997 and 1996, respectively. General and administrative expenses
net of the SAIF assessment as a percentage of total assets were 0.69% and 1.03%
for the years ended December 31, 1997 and 1996, respectively. Other non-interest
expense increased $1.1 million, or 36.7%, from $3.0 million at December 31, 1996
to $4.1 million at December 31, 1997. This increase is attributable to a
$375,000 increase in advertising expense in conjunction with the marketing plan,
$150,000 increase in amortization of purchased mortgage servicing rights,
$228,000 increase in office occupancy, and $350,000 increase in other operating
expenses.
Total non-interest expenses increased $2.9 million, or 46.8%, from $6.2
million for fiscal year 1995 to $9.1 million for fiscal year 1996. Non-interest
expenses are composed of general and administrative expenses and other
non-interest expenses. General and administrative expenses increased $2.8
million, or 50.0%, from $5.6 million for the year ended December 31, 1995 to
$8.4 million for the year ended December 31, 1996. The increase is primarily
attributed to the effect of a one-time $1.7 million assessment to recapitalize
the SAIF, a $660,000 increase in compensation, employee benefits, and $483,000
in federal insurance premium and overall administrative costs for a higher
deposit base. As in previous years, it is the Company's compensation policy to
pay a combination of salary and incentive based compensation consisting of
bonuses tied to the overall Company's performance and individual performances.
Consistent with the improved performance of the Company net of SAIF assessment,
bonuses increased to $1.1 million for 1996 from $775,000 for 1995. Bonuses were
$1.1 million and $745,000 for the year ended December 31, 1996 and 1995,
respectively. General and administrative expenses net of bonuses and the SAIF
assessment as a percentage of total assets was 0.86% and 0.87% for the years
ended December 31, 1996 and 1995, respectively. General and administrative
expenses net of the SAIF assessment as a percentage of total assets was 1.03%
and 1.00% for the years ended December 31, 1996 and 1995, respectively. Other
non-interest expense increased $21,000, or 3.1%, from $679,000 at December 31,
1995 to $700,000 at December 31, 1996. The slight increase is attributable to a
$213,000 increase in amortization of purchased mortgage servicing rights offset
by a $192,000 decline in real estate owned expenses.
INCOME TAX EXPENSE. Income tax expense is computed upon, and generally varies
proportionally with, earnings before income tax expense adjusted for non-taxable
income and non-deductible expenses.
The effective tax rate for the year ended December 31, 1997 was 26.4%
compared to 31.9% for 1996. The income tax expense for the year ended December
31, 1997 was $1.7 million as compared with $1.2 million for the year ended
December 31, 1996. The effective tax rate decreased largely as a result of an
increase in municipal bond interest.
The effective tax rate for the year ended December 31, 1996 was 31.9%
compared to 37.9% for 1995. The income tax expense for the year ended December
31, 1996 was $1.2 million as compared with $1.7 million for the year ended
December 31, 1995. The effective tax rate decreased largely as a result of a
decrease in municipal bond interest.
IMPACT OF INFLATION AND CHANGING PRICES
Since interest rates and inflation rates do not always move in concert,
the effect of inflation on financial institutions may not necessarily be the
same as on other businesses. A bank's asset and liability structure differs
38
significantly from that of industrial companies in that virtually all assets and
liabilities are of a monetary nature. Management believes that the impact of
inflation on financial results depends upon the Company's ability to manage
interest rate sensitivity and, by such management, reduce the inflationary
impact upon performance. Interest rates do not necessarily move in the same
direction, or in the same magnitude, as the prices of other goods and services.
As discussed above, management seeks to manage the relationship between interest
sensitive assets and liabilities in order to protect against wide interest rate
fluctuations, including those resulting from inflation.
YEAR 2000
The Company utilizes and is dependent upon data processing systems and
software to conduct its business. The data processing systems include various
software packages licensed to the Company by outside vendors and a client server
core processing system which are run on in-house computer networks. In 1997, the
Company initiated a review and assessment of all hardware and software to
confirm that it will function properly in the year 2000. The Company's core
processing software vendor and the majority of the vendors which have been
contacted have indicated that their hardware and/or software are Year 2000
compliant. Testing will be performed for compliance. While there may be some
additional expenses incurred during the next two years, Year 2000 compliance is
not expected to have a material effect on the Company's consolidated financial
statements.
NEW GENERALLY ACCEPTED ACCOUNTING PRINCIPLES
Statement of Financial Accounting Standards Nos. 130 and 131,
"Reporting Comprehensive Income" and "Disclosures about Segments of an
Enterprise and Related Information," respectively, were issued in June 1997.
SFAS 130 requires that certain financial activity typically disclosed in
shareholders' equity be reported in the financial statements as an adjustment to
net income in determining comprehensive income. SFAS 131 requires the reporting
of selected segmented information in quarterly and annual reports. The Company
does not anticipate any material financial impact from the implementation of
SFAS Nos. 130 and 131.
39
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Item 9 is not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Pursuant to General Instruction G of the Form 10-K, such information
shall be filed as an amendment no later than 120 days from December 31, 1997.
ITEM 11. EXECUTIVE COMPENSATION
Pursuant to General Instruction G of the Form 10-K, such information
shall be filed as an amendment no later than 120 days from December 31, 1997.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Pursuant to General Instruction G of the Form 10-K, such information
shall be filed as an amendment no later than 120 days from December 31, 1997.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Pursuant to General Instruction G of the Form 10-K, such information
shall be filed as an amendment no later than 120 days from December 31, 1997.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a)(1) The following consolidated financial statements of registrant
and its subsidiary and report of independent auditors are included in Item 8
hereof.
Report of Independent Auditors.
Consolidated Statements of Financial Condition - December 31, 1997 and
1996.
Consolidated Statements of Operations - Years Ended December 31, 1997,
1996, and 1995.
Consolidated Statements of Changes in Stockholders' Equity - Years
Ended December 31, 1997, 1996, and 1995.
40
Consolidated Statements of Cash Flows - Years Ended December 31, 1997,
1996, and 1995.
Notes to Consolidated Financial Statements.
(a)(2) All schedules for which provision is made in the applicable
accounting regulations of the Securities and Exchange Commission are not
required under the related instructions or are inapplicable and therefore have
been omitted.
(a)(3) The following exhibits are either filed with this Report or are
incorporated herein by reference:
3.1(a) Amended and Restated Certificate of Incorporation of the Company.*
3.1(b) Certificate of Designation****
3.2 Bylaws of the Company.****
4.1 Specimen certificate of shares of Common Stock.***
4.2 Indenture, dated as of June 9, 1997, between the Coporation and
Wilmington Trust Company, as debenture trustee.*
4.3 Form of Certificate of Exchange Junior Subordinated Debentures.*
4.4 Amended and Restated Declaration of Trust of TeleBanc Capital Trust
I dated as of June 9, 1997.*
4.5 Form of Exchange Capital Security Certificate.*
4.6 Exchange Guarantee Agreement by the Corporation for the benefit of
the holders of Exchange Capital Securities.*
4.7 Registration Rights Agreement, dated June 5, 1997, among the
Corporation, TeleBanc Capital Trust I, and the Initial Purchaser.*
4.8 Liquidated Damages Agreement, dated June 9, 1997, among the
Corporation, TeleBanc Capital Trust I, and the Initial Purchaser.*
10.1 1994 Stock Option Plan.***
10.2 Tax Allocation Agreement, dated April 7, 1994, between the Bank and
the Company.**
10.3 Unit Purchase Agreement, dated as of February 19, 1997, among the
Company and the Purchasers identified therein. ****
10.4 Amended and Restated Acquisition Agreement, dated as of February 19,
1997, among the Company, Arbor Capital Partners, Inc., MET Holdings,
Inc., and William M. Daugherty. ****
10.5 1997 Stock Option Plan*****
11 Statement regarding computation of per share earnings.
13 1997 Annual Report to Stockholders, portions of which have been
incorporated by reference into this Form 10-K.
21 Subsidiaries of the Registrant.
99.1 Independent auditor's report of Arthur Andersen LLP .
- ------------------
* Incorporated by reference to the Company's registration statement on Form
S-4/A (File 33-340399) filled with the SEC on December 8, 1997.
** Incorporated by reference herein to pre-effective Amendment No. 1 to the
Company's registration statement on Form S-1 (File No. 33-76930) filed
with the SEC on May 3, 1994.
*** Incorporated by reference herein to the Company's registration statement
on Form S-1 (File No. 33-76930) filed with the SEC on March 25, 1994.
**** Incorporated by reference herein from the Company's Current Report on Form
8-K, as filed with the SEC on March 17, 1997.
***** Incorporated by reference herein from Exhibit D to the Corporation's
definitive proxy materials which were filed as Exhibit 99.3 to the
Corporation's Annual Report on Form 10-K for the year ended December 31,
1996, attached to the prospectus as Appendix I.
41
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized as of the 30th day of
March, 1996.
TELEBANC FINANCIAL CORPORATION
------------------------------
Registrant
By: /s/ Mitchell H. Caplan
----------------------
Mitchell H. Caplan
President
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities indicated as of March 30, 1996.
Signature Title
--------- -----
/s/ David A. Smilow Chairman of the Board & CEO
- ------------------------- (principal executive officer)
David A. Smilow
/s/ Mitchell H. Caplan President, Vice Chairman
- ------------------------- and Director
Mitchell H. Caplan
/s/ Aileen Lopez Pugh Executive Vice President and
- ------------------------- Chief Financial Officer/Treasurer
Aileen Lopez Pugh (principal financial and accounting officer)
/s/ David DeCamp Director
- ------------------------
David DeCamp
/s/ Arlen W. Gelbard Director
- ------------------------
Arlen W. Gelbard
/s/ Dean C. Kehler Director
- ------------------------
Dean C. Kehler
/s/ Steven F. Piaker Director
- ------------------------
Steven F. Piaker
/s/ Mark Rollinson Director
- ------------------------
Mark Rollinson
/s/ Michael A. Smilow Director
- ------------------------
Michael A. Smilow
INDEX TO FINANCIALS
Report of Independent Auditors.
Consolidated Statements of Financial Condition - December 31, 1997 and
1996.
Consolidated Statements of Operations - Years Ended December 31, 1997,
1996, and 1995.
Consolidated Statements of Changes in Stockholders' Equity - Years
Ended December 31, 1997, 1996, and 1995.
Consolidated Statements of Cash Flows - Years Ended December 31, 1997,
1996, and 1995.
Notes to Consolidated Financial Statements.
EXHIBIT INDEX
Sequentially
Numbered
Exhibit No. Exhibit Page
----------- ------- ----
3.1(a) Amended and Restated Certificate of Incorporation of the
Company.*
3.1(b) Certificate of Designation****
3.2 Bylaws of the Company.****
4.1 Specimen certificate of shares of Common Stock.***
4.2 Indenture, dated as of June 9, 1997, between the Coporation
and Wilmington Trust Company, as debenture trustee.*
4.3 Form of Certificate of Exchange Junior Subordnates Debentures.
4.4 Amended and Restated Declaration of Trust of TeleBanc Capital
Trust I dated as of June 9, 1997.
4.5 Form of Exchange Capital Security Certificate.*
4.6 Exchange Guarantee Agreement by the Corporation for the
benefit of the holders of Exchange Capital Securities.
4.7 Registration Rights Agreement, dated June 5, 1997, among the
Corporation, TeleBanc Capital Trust I, and the Initial
Purchaser.
4.8 Liquidated Damages Agreement, dated June 9, 1997, among the
Corporation, TeleBanc Capital Trust I, and the Initial
Purchaser.
10.1 1994 Stock Option Plan.***
10.2 Tax Allocation Agreement, dated April 7, 1994, between the
Bank and the Company.**
10.3 Unit Purchase Agreement, dated as of February 19, 1997, among
the Company and the Purchasers identified therein. ****
10.4 Amended and Restated Acquisition Agreement, dated as of
February 19, 1997, among the Company, Arbor Capital Partners,
Inc., MET Holdings, Inc., and William M. Daugherty. ****
10.5 1997 Stock Option Plan.****
11 Statement regarding computation of per share earnings.
13 1997 Annual Report to Stockholders, portions of which have
been incorporated by reference into this Form 10-K.
21 Subsidiaries of the Registrant.
99.1 Independent auditor's report of Arthur Andersen LLP
* Incorporated by reference to the Company's registration statement on Form
S-4 (File 33-340399) filded with the SEC on December 8, 1997.
** Incorporated by reference to pre-effective Amendment No. 1 to the
Company's registration statement on Form S-1 (File No. 33-76930) filed
with the SEC on May 3, 1994.
*** Incorporated by reference to the Company's registration statement on Form
S-1 (File No. 33-76930) filed with the SEC on March 25, 1994.
**** Incorporated by reference from the Company's Current Report on Form 8-K,
as filed with the SEC on March 17, 1997.
***** Incorporated by reference herein from Exhibit D to the Corporation's
definitive proxy materials which were filed as Exhibit 99.3 to the
Corporation's Annual Report on Form 10-K for the year ended December 31,
1996, attached to the prospectus as Appendix I.