FORM 10-Q/A
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
(RESTATED)
For the quarterly period ended .................... JUNE 30, 2001
------------------
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission File Number 0-26584
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BANNER CORPORATION
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(Exact name of registrant as specified in its charter)
WASHINGTON 91-1691604
-------------------------------- -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
10 S. FIRST AVENUE WALLA WALLA, WASHINGTON 99362
------------------------------------------------------------
(Address of principal executive offices and zip code)
(509) 527-3636
-----------------------
(Registrant's telephone number, including area code)
(Former name, former address and former fiscal year, if changed since last
report.)
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.
(1) Yes [X] No [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Title of class: As of JULY 31, 2001
--------------- -------------------
COMMON STOCK, $.01 PAR VALUE 11,839,957 SHARES *
* Includes 633,278 shares held by employee stock ownership
plan (ESOP) that have not been released, committed to be
released, or allocated to participant accounts.
BANNER CORPORATION AND SUBSIDIARIES
This amendment on Form 10-Q/A of Banner Corporation incorporates certain
revisions to historical financial data and related descriptions but is not
intended to update other information presented in this report as originally
filed except where specifically noted. The amendment reflects the restatement
of the registrant's consolidated financial statements as of and for the three
and six months ended June 30, 2001 related to losses incurred as a result of a
check kiting scheme and credit manipulation activities associated with a former
senior lending officer. See Note 6 for further discussion of this matter. It
also includes revised forward looking statements relating to the conversion of
the data processing system.
1
BANNER CORPORATION AND SUBSIDIARIES
Table of Contents
PART I - FINANCIAL INFORMATION
ITEM 1 - Financial Statements. The Consolidated Financial Statements of Banner
Corporation and Subsidiaries filed as a part of the report are as follows:
Consolidated Statements of Financial Condition
as of June 30, 2001, (as restated, see Note 6), and December 31, 2000.... 3
Consolidated Statements of Income
for the Quarters and Six Months Ended June 30, 2001, (as restated,
see Note 6), and 2000. ................................................. 4
Consolidated Statements of Comprehensive Income
for the Quarters and Six Months Ended June 30, 2001, (as restated,
see Note 6), and 2000.................................................... 5
Consolidated Statements of Changes in Stockholders' Equity
for the Six months Ended June 30, 2001, (as restated,
see Note 6), and 2000.................................................... 6
Consolidated Statements of Cash Flows
for the Six Months Ended June 30, 2001, (as restated, see Note 6),
and 2000................................................................. 8
Selected Notes to Consolidated Financial Statements......................10
ITEM 2 - Management's Discussion and Analysis of Financial Condition and
Results of Operation
Special Note Regarding Forward-Looking Statements...................... 17
General................................................................ 17
Recent Developments and Significant Events............................. 19
Comparison of Financial Condition at June 30, 2001
and December 31, 2000.................................................. 19
Comparison of Results of Operations for the Quarters and Six Months
Ended June 30, 2001 and 2000........................................... 19
Asset Quality.......................................................... 27
Market Risk and Asset/Liability Management..............................28
Sensitivity Analysis................................................... 29
Liquidity and Capital Resources........................................ 31
Capital Requirements....................................................32
PART II - OTHER INFORMATION
Item 1. Legal Proceedings........................................... 33
Item 2. Changes in Securities....................................... 33
Item 3. Defaults upon Senior Securities............................. 33
Item 4. Submission of Matters to a Vote of Stockholders............. 33
Item 5. Other Information........................................... 33
Item 6. Exhibits and Reports on Form 8-K............................ 33
SIGNATURES................................................................ 34
2
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(IN THOUSANDS, EXCEPT SHARES)
JUNE 30, 2001 AND DECEMBER 31, 2000
(Unaudited)
(Restated,
See Note 6)
June 30 December 31
ASSETS 2001 2000
-------------------------
Cash and due from banks $ 50,316 $ 67,356
Securities available for sale, cost $280,735
and $310,539
Encumbered 56,681 66,405
Unencumbered 225,552 242,393
--------- ---------
282,233 308,798
Securities held to maturity, fair value $16,483
and $18,269 16,557 17,717
Federal Home Loan Bank stock 29,780 28,807
Loans receivable:
Held for sale, fair value $26,473 and $8,011 26,139 7,934
Held for portfolio 1,555,751 1,479,149
Allowance for loan losses (16,775) (15,314)
--------- ---------
1,565,115 1,471,769
Accrued interest receivable 12,875 12,963
Real estate owned, held for sale, net 3,227 3,287
Property and equipment, net 18,167 17,746
Costs in excess of net assets acquired (goodwill), net 33,027 34,617
Deferred income tax asset, net 1,859 2,337
Bank owned life insurance 19,682 14,190
Other assets 3,758 3,244
--------- ---------
$2,036,596 $1,982,831
========= =========
LIABILITIES
Deposits:
Non-interest-bearing $ 140,513 $ 140,779
Interest-bearing 1,119,490 1,051,936
--------- ---------
1,260,003 1,192,715
Advances from Federal Home Loan Bank 504,082 507,098
Other borrowings 65,097 74,538
Accrued expenses and other liabilities 12,001 10,857
Deferred compensation 2,434 2,293
Income taxes payable -- 1,535
--------- ---------
1,843,617 1,789,036
STOCKHOLDERS' EQUITY
Preferred stock - $0.01 par value, 500,000 shares
authorized, no shares issued -- --
Common stock - $0.01 par value, 27,500,000 shares
authorized, 13,201,418 shares issued:
11,839,957 shares and 12,005,302 shares outstanding
at June 30, 2001 and December 31, 2000, respectively 129,843 133,839
Retained earnings 67,523 66,893
Accumulated other comprehensive income:
Unrealized gain (loss) on securities available for sale 958 (1,125)
Unearned shares of common stock issued to Employee Stock
Ownership Plan (ESOP) trust:
633,278 and 633,278 restricted shares outstanding at
June 30, 2001 and December 31, 2000, respectively,
at cost (5,234) (5,234)
Carrying value of shares held in trust for stock
related compensation plans (2,713) (3,130)
Liability for common stock issued to deferred, stock
related, compensation plan 2,602 2,552
--------- ---------
(111) (578)
--------- ---------
192,979 193,795
--------- ---------
$2,036,596 $1,982,831
========== ==========
See notes to consolidated financial statements
3
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED) (IN THOUSANDS EXCEPT FOR PER SHARE AMOUNTS)
Quarters Ended Six Months Ended
June 30 June 30
----------------- ------------------
(Restated, (Restated,
See Note 6) See Note 6)
2001 2000 2001 2000
------ ------ ------ ------
INTEREST INCOME:
Loans receivable $34,257 $32,214 $68,919 $62,146
Mortgage-backed securities 3,005 3,951 6,277 7,906
Securities and deposits 2,477 2,943 5,121 5,686
-------- -------- -------- --------
39,739 39,108 80,317 75,738
INTEREST EXPENSE:
Deposits 13,992 12,928 28,211 24,690
Federal Home Loan Bank advances 7,686 7,694 15,506 14,730
Other borrowings 867 1,115 1,935 2,342
-------- -------- -------- --------
22,545 21,777 45,652 41,762
-------- -------- -------- --------
Net interest income before
provision for loan losses 17,194 17,331 34,665 33,976
PROVISION FOR LOAN LOSSES 2,950 819 3,900 1,364
-------- -------- -------- --------
Net interest income 14,244 16,512 30,765 32,612
OTHER OPERATING INCOME:
Loan servicing fees 285 248 595 480
Other fees and service charges 1,468 1,222 2,931 2,379
Gain on sale of loans 1,222 282 2,083 469
Gain (loss) on sale of securities 360 15 360 15
Miscellaneous 300 55 531 110
-------- -------- -------- --------
Total other operating income 3,635 1,822 6,500 3,453
OTHER OPERATING EXPENSES:
Salary and employee benefits 7,625 6,526 15,004 12,782
Less capitalized loan origination
costs (1,371) (901) (2,436) (1,692)
Occupancy and equipment 1,885 1,767 3,744 3,444
Information/computer data services 859 626 1,502 1,201
Advertising 215 169 418 329
Check kiting loss 2,600 -- 6,200 --
Amortization of goodwill 795 792 1,590 1,584
Miscellaneous 2,593 2,306 4,890 4,447
-------- -------- -------- --------
Total other operating expenses 15,201 11,285 30,912 22,095
-------- -------- -------- --------
Income before provision for
income taxes 2,678 7,049 6,353 13,970
PROVISION FOR INCOME TAXES 1,059 2,506 2,425 5,002
-------- -------- -------- --------
NET INCOME $ 1,619 $ 4,543 $ 3,928 $ 8,968
======== ======== ======== ========
Net income per common share, see Note 5:
Basic $ .14 $ .40 $ .35 $ .79
Diluted $ .14 $ .40 $ .34 $ .78
Cumulative dividends declared per
common share: $ .14 $ .13 $ .28 $ .26
See notes to consolidated financial statements
4
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED) (IN THOUSANDS)
Quarters Ended Six Months Ended
June 30 June 30
----------------- ------------------
(Restated, (Restated,
See Note 6) See Note 6)
2001 2000 2001 2000
------ ------ ------ ------
NET INCOME: $ 1,619 $ 4,543 $ 3,928 $ 8,968
OTHER COMPREHENSIVE INCOME (LOSS),
NET OF INCOME TAXES:
Unrealized holding gain (loss) during
the period, net of deferred income tax
(benefit) of $102, $(68), $1,282 and
$(67); respectively. 199 (117) 2,317 (97)
Less adjustment for (gains)/losses
included in net income, net of
income tax (benefit) of $126, $5,
$126 and $5; respectively. (234) (10) (234) (10)
-------- -------- -------- --------
Other comprehensive income (loss) (35) (127) 2,083 (107)
-------- -------- -------- --------
COMPREHENSIVE INCOME $ 1,584 $ 4,416 $ 6,011 $ 8,861
======== ======== ======== ========
See notes to consolidated financial statements
5
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(UNAUDITED) ( IN THOUSANDS)
FOR THE SIX MONTHS ENDED JUNE 30, 2001 AND 2000
(Restated,
See Note 6)
2001 2000
-------- --------
COMMON STOCK AND ADDITIONAL PAID-IN CAPITAL:
Balance, beginning of period $ 133,839 $ 123,204
Adjustment of and/or issuance of stock in
connection with acquisitions -- 53
Issuance of shares to MRP 52 43
Purchase of forfeited shares from MRP (3) (23)
Net proceeds (cost) of treasury stock reissued
for exercised stock options 1,384 130
Purchase and retirement of treasury stock (5,429) (2,254)
-------- --------
Balance, end of period 129,843 121,153
RETAINED EARNINGS:
Balance, beginning of period 66,893 69,170
Net income 3,928 8,968
Cash dividends (3,298) (3,057)
Adjustment of stock issued and related stock dividend
in connection with acquisitions -- (7)
-------- --------
Balance, end of period 67,523 75,074
ACCUMULATED OTHER COMPREHENSIVE INCOME:
Balance, beginning of period (1,125) (5,331)
Other comprehensive income (loss), net of related
income taxes 2,083 (107)
-------- --------
Balance, end of period 958 (5,438)
UNEARNED, RESTRICTED ESOP SHARES AT COST:
Balance, beginning of period (5,234) (6,162)
Release of earned ESOP shares -- --
-------- --------
Balance, end of period (5,234) (6,162)
CARRYING VALUE OF SHARES HELD IN TRUST FOR
STOCK-RELATED COMPENSATION PLANS:
Balance, beginning of period (578) (1,708)
Issuance of treasury stock for MRP grant (52) (43)
Net change in number and/or valuation of shares
held in trust 3 23
Amortization of compensation related to MRP 516 562
-------- --------
Balance, end of period (111) (1,166)
-------- --------
TOTAL STOCKHOLDERS' EQUITY $192,979 $183,461
======== ========
See notes to consolidated financial statements
6
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(UNAUDITED) (CONTINUED) (IN THOUSANDS)
FOR THE SIX MONTHS ENDED JUNE 30, 2001 AND 2000
2001 2000*
-------- --------
COMMON STOCK , SHARES ISSUED:
Number of shares, beginning of period 13,201 13,201
-------- --------
Number of shares, end of period 13,201 13,201
-------- --------
LESS TREASURY STOCK PURCHASED AND RETIRED:
Number of shares, beginning of period (1,196) (864)
Purchase of shares forfeited from MRP -- (2)
Reissuance of treasury stock to deferred compensation
plan and/or exercised stock options 123 31
Purchase and retirement of treasury stock (288) (174)
-------- --------
Number of shares retired/repurchased, end of period (1,361) (1,009)
-------- --------
Shares issued and outstanding, end of period 11,840 12,192
======== ========
UNEARNED, RESTRICTED ESOP SHARES:
Number of shares, beginning of period (633) (746)
Release of earned shares -- --
-------- --------
Number of shares, end of period (633) (746)
======== ========
*Adjusted for stock dividend, see note 2
See notes to consolidated financial statements
7
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED) (IN THOUSANDS)
FOR THE SIX MONTHS ENDED JUNE 30, 2001 AND 2000
(Restated,
See Note 6)
2001 2000
-------- --------
OPERATING ACTIVITIES
Net income $ 3,928 $ 8,968
Adjustments to reconcile net income to net cash
provided (used) by operating activities:
Deferred taxes (678) 776
Depreciation 1,388 1,289
Loss (gain) on sale of securities (360) (15)
Net amortization of premiums and discounts on investments (53) 69
Increase in cash surrender value of bank owned life
insurance (492) (156)
Amortization of costs in excess of net assets acquired 1,590 1,584
Amortization of MRP compensation liability 516 562
Loss (gain) on sale of loans (1,991) (446)
Net changes in deferred loan fees, premiums and discounts (306) 752
Loss (gain) on disposal of real estate held for sale 8 3
Loss (gain) on disposal of property and equipment (16) 8
Amortization of mortgage servicing rights 292 125
Capitalization of mortgage servicing rights from sale of
mortgages with servicing retained (92) (23)
Provision for losses on loans and real estate held for
sale 3,991 1,373
FHLB stock dividend (973) (810)
Net change in:
Loans held for sale (18,205) (300)
Accrued interest receivable 88 (1,818)
Other assets (684) 383
Deferred compensation 152 99
Accrued expenses and other liabilities 1,167 627
Income taxes payable (1,535) (459)
-------- -------
Net cash provided (used) by operating activities (12,265) 12,591
-------- -------
INVESTING ACTIVITIES:
Purchases of securities available for sale (32,118) (11,351)
Principal repayments and maturities of securities
available for sale 60,960 18,536
Proceeds from sales of securities available for sale 1,372 --
Purchases of securities held to maturity -- (3,249)
Principal repayments and maturities of securities held
to maturity 1,163 117
Net sales (purchases) of FHLB stock -- (1,654)
Origination of loans, net of principal repayments (212,170) (143,897)
Purchases of loans and participating interest in loans (1,311) (8,435)
Proceeds from sales of loans and participating interest
in loans 134,418 38,682
Purchases of property and equipment (1,816) (2,095)
Proceeds from sale of property and equipment 23 10
Additional capitalized costs of real estate
held for sale, net of insurance proceeds (246) (47)
Proceeds from sale of real estate held for sale 2,629 562
Funds transferred to deferred compensation plan trusts (41) (61)
Investment in bank owned life insurance (5,000) (7)
-------- --------
Net cash used by investing activities (52,137) (112,889)
-------- --------
(Continued on next page)
8
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED) (IN THOUSANDS)
FOR THE SIX MONTHS ENDED JUNE 30, 2001 AND 2000
(CONTINUED FROM PRIOR PAGE)
(Restated,
See Note 6)
2001 2000
-------- --------
FINANCING ACTIVITIES
Increase (decrease) in deposits $ 67,288 $ 75,130
Proceeds from FHLB advances 106,464 456,579
Repayment of FHLB advances (109,480) (402,105)
Proceeds from repurchase agreement borrowings -- 234
Repayments of repurchase agreement borrowings (9,628) (1,561)
Increase (decrease) in other borrowings 84 (5,480)
Cash dividends paid (3,321) (2,859)
Net (cost) proceeds of exercised stock options 1,384 131
Repurchases of stock, net of forfeitures (5,429) (2,255)
-------- --------
Net cash provided by financing activities 47,362 117,814
-------- --------
NET INCREASE (DECREASE) IN CASH AND DUE FROM BANKS (17,040) 17,516
CASH AND DUE FROM BANKS, BEGINNING OF PERIOD 67,356 44,769
-------- --------
CASH AND DUE FROM BANKS, END OF PERIOD $ 50,316 $ 62,285
======== ========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Interest paid $ 45,332 $ 40,788
Taxes paid $ 5,607 $ 4,685
Non-cash transactions:
Loans, net of discounts, specific loss allowances
and unearned income transferred to real estate owned $ 2,422 $ 965
Net change in accrued dividends payable $ 23 $ 200
Net change in unrealized gain (loss) in deferred
compensation trust and related liability $ 39 $ 7
Treasury stock forfeited by MRP $ 3 $ 14
Treasury stock issued to MRP $ 52 $ 6
Fair value of stock issued and options assumed in
connection with acquisitions $ -- $ 48
See notes to consolidated financial statements
9
BANNER CORPORATION AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1: BASIS OF PRESENTATION
Banner Corporation (BANR or the Company) is a bank holding company incorporated
in the State of Washington. The Company is primarily engaged in the business of
planning, directing and coordinating the business activities of its wholly owned
subsidiaries, Banner Bank (BB) and Banner Bank of Oregon (BBO) (together, the
Banks). BB is a Washington-chartered commercial bank the deposits of which are
insured by the Federal Deposit Insurance Corporation (FDIC) under both the Bank
Insurance Fund (BIF) and the Savings Association Insurance Fund (SAIF). BB
conducts business from its main office in Walla Walla, Washington, and its 32
branch offices and four loan production offices located in Washington, Oregon
and Idaho. BBO is an Oregon-chartered commercial bank and its deposits are
insured by the FDIC under BIF. BBO conducts business from its main office in
Hermiston, Oregon, and its six branch offices and one loan production office
located in northeast Oregon. The Company and its Bank subsidiaries are subject
to regulation by the Federal Reserve Board (FRB) and the FDIC. In addition, BB
and BBO are subject to the state banking regulations applicable to their state
charters.
In the opinion of management, the accompanying consolidated statements of
financial condition and related interim consolidated statements of income,
comprehensive income, changes in stockholders' equity and cash flows reflect all
adjustments (which include reclassifications and normal recurring adjustments as
well as the restatements explained in Note 2 and 6) that are necessary for a
fair presentation in conformity with accounting principles generally accepted in
the United States of America ("GAAP"). The preparation of financial statements
in conformity with GAAP requires management to make estimates and assumptions
that affect amounts reported in the financial statements. Actual results could
differ from these estimates and may have a material impact on the financial
statements.
Certain reclassifications have been made to the 2000 financial statements and/or
schedules to conform to the 2001 presentation. These reclassifications may have
affected certain ratios for the prior periods. The effect of such
reclassifications is considered immaterial. All significant intercompany
transactions and balances have been eliminated.
The information included in this Form 10-Q/A (amended for the restatement of
June 30, 2001 financial statements) should be read in conjunction with Banner
Corporation's 2000 Annual Report on Form 10-K filed with the Securities and
Exchange Commission. Interim results are not necessarily indicative of results
for a full year.
NOTE 2: RECENT DEVELOPMENTS AND SIGNIFICANT EVENTS
Restatement of Financial Statements: As explained in Note 6, on September 17,
2001, Banner Corporation announced that it had become aware of irregularities
associated with a former senior lending officer. The irregularities included a
check kiting scheme of a single commercial loan customer of Banner Bank, as well
as activities designed to conceal credit weaknesses of several loan customers.
Upon further review, the Company determined that it would be necessary to file
amended quarterly reports on Form 10-Q/A for each of the quarters ended March
31, 2001 and June 30, 2001, to recognize charges in those periods which
appropriately reflect the timing of losses incurred as a result of the check
kiting and credit manipulation activities.
Name Change/Consolidation of Banking Operations: On October 30, 2000 First
Washington Bancorp, Inc. (FWWB) changed its name to Banner Corporation in
conjunction with a consolidation of banking operations affecting its banking
subsidiaries. Towne Bank (TB) merged with First Savings Bank of Washington
FSBW), FSBW converted from a Washington state-chartered savings bank to a
Washington state-chartered commercial bank and changed its name, along with the
names of its divisions, Whatcom State Bank and Seaport Citizens Bank, to Banner
Bank (BB). At the same time, Inland Empire Bank (IEB) changed its name to Banner
Bank of Oregon (BBO).
The combination was designed to strengthen the Company by more effectively
sharing the resources of the existing subsidiaries, improving operating
efficiency and developing a broader regional brand identity. Final integration
of all data processing into a common system is scheduled for completion by
December 31, 2001. The Banks use one name, Banner Bank, and were united under
the leadership of an experienced management team. The same ten individuals serve
as members of the Board of Directors of the Company and each of the Banks.
10
In light of the Gramm-Leach-Bliley financial modernization legislation, the
Company chose to retain a separate charter for BBO and to operate two banking
subsidiaries. That legislation enacted Federal Home Loan Bank System reforms
that impacted community financial institutions. The intent was for BBO to
qualify as a community financial institution allowing it to obtain long-term
Federal Home Loan Bank (FHLB) advances to fund small business and small
agribusiness loans and to offer those loans as collateral for such borrowings.
A community financial institution is defined as a "member of the Federal Home
Loan Bank (FHLB) System, the deposits of which are insured by the FDIC and that
has average total assets (over the preceding three years) of less than $500
million." However, with release of the FHLB's implementing procedures,
including rules expanding eligible collateral for members not qualifying as
community financial institutions, the Company has determined that potential
benefits of additional borrowing capacity are not as substantial as the
efficiencies it may derive by operating under a single bank charter. Therefore,
on June 29, 2001, the Company announced its plans to merge its two subsidiary
banks. The merger of BB and BBO was completed on September 1, 2001, with the
surviving entity operating as a Washington state-chartered commercial bank.
Declaration of 10% Stock Dividend: On October 19, 2000 BANR's Board of Directors
declared a 10% stock dividend payable November 10, 2000 to shareholders of
record on October 31, 2000. All earnings per share and share data have been
adjusted to reflect the 10% stock dividend.
Mortgage Lending Subsidiary: On April 1, 2000 BB opened a new mortgage lending
subsidiary, Community Financial Corporation (CFC), located in the Lake Oswego
area of Portland, Oregon, with John Satterberg as President. Primary lending
activities for CFC are in the area of construction and permanent financing for
one- to four-family residential dwellings. CFC, an Oregon corporation, functions
as a wholly owned subsidiary of Banner Bank. BB has capitalized CFC with $2
million of equity capital and provides funding support for CFC's lending
operations.
Accounting Standards Recently Adopted: In June 1998 the Financial Accounting
Standards Board (FASB) issued Statements of Financial Accounting Standards
(SFAS) No. 133, Accounting for Derivative Instruments and Hedging Activities.
In June 2000, the FASB issued SFAS No. 138, which amends certain provisions of
SFAS No. 133 to clarify specific areas causing difficulties in implementation.
The Company has not historically engaged in any hedging activities, and does not
anticipate that it will enter into any transactions that will qualify for hedge
accounting as defined by SFAS No. 133. The Company adopted SFAS No. 133 and the
corresponding amendments under SFAS No. 138 effective on January 1, 2001. The
adoption of SFAS No. 133, as amended by SFAS No. 138, did not have a material
impact on the Company's consolidated results of operations, financial position
or cash flows.
In September 2000, the FASB issued SFAS No. 140, Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities, which revises
the standards for accounting for securitizations and other transfers of
financial assets and collateral and requires certain disclosures, but carries
over most of the provisions of SFAS No. 125 without reconsideration. SFAS No.
140 is effective for transfers and servicing of financial assets and
extinguishments of liabilities occurring after March 31, 2001. The provisions of
this statement did not have a material effect on the Company's financial
position or results of operations.
Recent Accounting Standards Not Yet Adopted: In July 2001, the FASB issued SFAS
No. 141, Business Combinations, which applies to all business combinations
initiated after June 30, 2001. This statement requires that all business
combinations be accounted for using the purchase method of accounting; the use
of the pooling-of-interests method is no longer permitted. The purchase method
of accounting requires goodwill to be measured as the excess of the cost of an
acquired entity over the estimated fair value of net amounts assigned to assets
acquired and liabilities assumed. This statement also addressees the disclosures
required in the financial statements pertaining to business combinations. The
adoption of this statement is not expected to have a material impact on the
Company's financial condition or results of operations.
11
In July 2001, the FASB issued SFAS No. 142, Goodwill and Other Intangible
Assets, which applies to all acquired intangible assets whether acquired singly,
as part of a group, or in a business combination. This statement requires that
goodwill not be amortized; however, goodwill for each reporting unit must be
evaluated for impairment on at least an annual basis using a two-step approach.
The first step used to identify potential impairment compares the estimated fair
value of a reporting unit to its carrying amount, including goodwill. If the
fair value of a reporting unit is less than its carrying amount, the second step
of the impairment evaluation which compares the implied fair value of goodwill
to its carrying amount must be performed to determine the amount of the
impairment loss, if any. This statement also provides standards for financial
statement disclosures of goodwill and other intangible assets and related
impairment losses. The Company will be required to adopt this statement on
January 1, 2002. The adoption of this statement is expected to have a material
impact on the Company's results of operation. Goodwill will no longer be
amortized which will reduce other operating expenses by an estimated $793,000
per quarter or $3.2 million a year with a corresponding increase in net income.
NOTE 3: BUSINESS SEGMENTS
The Company presently is managed by legal entity or Bank, not by lines of
business. Each Bank is managed by its management team that is responsible for
its own lending, deposit operations, information systems and administration.
Marketing support, sales training assistance, and human resource services are
provided from a central source at BB, and costs are allocated to the individual
Banks using appropriate methods based on usage. In addition, corporate overhead
and centralized administrative costs are allocated to each Bank.
BB is a community oriented commercial bank chartered in the State of Washington.
As explained above under Consolidation of Banking Operations in Note 2, BB
includes the operations of the former First Savings Bank of Washington and its
divisions, Whatcom State Bank and Seaport Citizens Bank, and the former Towne
Bank. BB offers a wide variety of deposit products to its consumer and
commercial customers. Lending activities include the origination of real estate,
commercial/agriculture business and consumer loans. BB's primary business is
that of a traditional banking institution, gathering deposits and originating
loans for portfolio in its primary market area. BB is also an active participant
in the secondary market, originating residential loans for sale on both a
servicing released and servicing retained basis. In addition to interest income
on loans and investment securities, BB receives other income from deposit
servicing charges, loan servicing fees and from the sale of loans and
investments. BB also has a mortgage lending subsidiary, Community Financial
Corporation (CFC), located in the Lake Oswego area of Portland, Oregon, that was
established fiscal 2000. CFC's primary lending activities are in the area of
construction and permanent financing for one- to four-family residential
dwellings.
BBO (formerly IEB) is a community oriented commercial bank chartered in the
State of Oregon which historically has offered a wide variety of deposit and
loan products to its consumer and commercial customers. Lending activities have
included origination of consumer, commercial, agribusiness and real estate
loans. BBO also has engaged in mortgage banking activity with respect to
residential lending within its local markets and originating loans for sale
generally on a servicing released basis. BBO operates a division, Inland
Financial Services, which offers insurance and brokerage services to its
customers.
The performance of each Bank is reviewed by the Company's executive management
team and the Board of Directors on a monthly basis. The Company has announced
its intention to merge Banner Bank of Oregon with and into Banner Bank by
September 30, 2001.
12
NOTE 3: BUSINESS SEGMENTS (CONTINUED)
Financial highlights by legal entity were as follows:
Quarter Ended June 30, 2001 (Restated)
---------------------------------------
(dollars in thousands)
Condensed Income Statement
BB BBO Other* Total
------ ------ ------ ------
Net interest income before
provision for loan losses $ 14,462 $ 2,715 $ 17 $ 17,194
Provision for loan losses 2,905 45 -- 2,950
Other operating income 3,059 576 -- 3,635
Other operating expenses 12,962 1,760 479 15,201
------ ------ ------ ------
Income (loss) before income taxes 1,654 1,486 (462) 2,678
Income taxes (benefit) 557 665 (163) 1,059
------ ------ ------ ------
Net income (loss) $ 1,097 $ 821 $ (299) $ 1,619
======= ====== ====== =======
Quarter Ended June 30, 2000
---------------------------------------------
(dollars in thousands)
Condensed Income Statement
TB
(Now merged
BB BBO into BB) Other* Total
------ ------ ------ ------ ------
Net interest income before
provision for loan losses $10,274 $2,783 $4,309 $ 10 $17,331
Provision for loan losses 399 70 350 -- 819
Other operating income 970 502 370 (20) 1,822
Other operating expenses 6,287 1,780 2,712 506 11,285
------ ------ ------ ------ ------
Income(loss) before income taxes 4,558 1,390 1,617 (516) 7,049
Income taxes (benefit) 1,360 630 691 (175) 2,506
------ ------ ------ ------ ------
Net income (loss) $3,198 $ 760 $ 926 (341) $4,543
====== ====== ===== ====== ======
* Includes intercompany eliminations and holding company amounts.
13
NOTE 3: BUSINESS SEGMENTS, CONTINUED:
Six Months Ended June 30, 2001 (Restated)
-------------------------------------------
(dollars in thousands)
Condensed Income Statement
BB BBO Other* Total
------ ------ ------ ------
Net interest income before
provision for loan losses $29,245 $ 5,379 $ 41 $34,665
Provision for loan losses 3,810 90 -- 3,900
Other operating income 5,435 1,065 -- 6,500
Other operating expenses 26,281 3,618 1,013 30,912
------ ------ ------ ------
Income(loss) before income taxes 4,589 2,736 (972) 6,353
Income taxes (benefit) 1,532 1,236 (343) 2,425
------ ------ ------ ------
Net income (loss) $3,057 $1,500 $ (629) $3,928
====== ====== ======= ======
Six Months Ended June 30, 2000
--------------------------------------------
(dollars in thousands)
Condensed Income Statement
TB
(Now merged
BB BBO into BB) Other* Total
------ ------ ------- ------ ------
Net interest income before
provision for loan losses $20,257 $5,343 $ 8,349 $ 27 $33,976
Provision for loan losses 674 140 550 -- 1,364
Other operating income 1,786 938 763 (34) 3,453
Other operating expenses 12,197 3,545 5,387 966 22,095
------ ------ ------- ------ ------
Income(loss) before income taxes 9,172 2,596 3,175 (973) 13,970
Income taxes (benefit) 2,789 1,188 1,360 (335) 5,002
------ ------ ------- ------ ------
Net income (loss) $6,383 $1,408 $ 1,815 $ (638) $8,968
====== ====== ======= ====== ======
*Includes intercompany eliminations and holding company amounts.
TB
(Now merged
BB BBO into BB) Other* Total
------ ------ ------- ------ ------
June 30, 2001 (Restated)
--------------------------------------------------
Total Assets $1,805,661 $230,018 $ 917 $2,036,596
========== ======== ===== ==========
June 30, 2000
--------------------------------------------------
Total Assets $1,376,835 $230,143 $339,787 $ 818 $1,947,583
========== ======== ======== ===== ==========
14
NOTE 4: ADDITIONAL INFORMATION REGARDING INTEREST-BEARING DEPOSITS AND
SECURITIES
The following table sets forth additional detail on BANR's interest-bearing
deposits and securities at the dates indicated (at carrying value) (in
thousands):
JUNE 30 December 31
2001 2000
-------- ----------
Interest-bearing deposits included
in cash and due from banks $ 9,001 $ 15,661
Mortgage-backed securities 183,617 194,073
Other securities-taxable 83,754 100,261
Other securities-tax exempt 27,465 28,212
Other stocks with dividends 3,954 3,969
--------- ---------
Total securities 298,790 326,515
Federal Home Loan Bank (FHLB) stock 29,780 28,807
--------- ---------
$ 337,571 $ 370,983
========= =========
The following table provides additional detail on income from deposits and
securities for the periods indicated (in thousands):
Quarters Ended Six Months Ended
June 30 June 30
------------------ ------------------
2001 2000 2001 2000
-------- -------- -------- --------
Mortgage-backed securities $ 3,005 $ 3,951 $ 6,277 $ 7,906
-------- -------- -------- --------
Taxable interest and dividends 1,554 2,044 3,320 3,909
Tax-exempt interest 412 477 828 953
Federal Home Loan Bank stock-dividends 511 422 973 824
-------- -------- -------- --------
2,477 2,943 5,121 5,686
-------- -------- -------- --------
$ 5,482 $ 6,894 $ 11,398 $ 13,592
======== ======== ======== ========
NOTE 5: CALCULATION OF WEIGHTED AVERAGE SHARES OUTSTANDING FOR EARNINGS PER
SHARE (EPS) (IN THOUSANDS)
Quarters Ended Six Months Ended
June 30 June 30
------------------ ------------------
2001 2000 2001 2000
-------- -------- -------- --------
Total shares originally issued 13,201 13,201 13,201 13,201
Less retired shares and treasury
stock plus unvested shares
allocated to MRP (1,391) (1,167) (1,349) (1,119)
Less unallocated shares held by
the ESOP (633) (746) (633) (746)
-------- -------- -------- --------
Basic weighted average shares
outstanding 11,177 11,288 11,219 11,336
Plus unvested MRP and stock option
incremental shares considered
outstanding for diluted
EPS calculations 506 202 433 197
-------- -------- -------- --------
Diluted weighted average shares
outstanding 11,683 11,490 11,653 11,533
======== ======== ======== ========
15
NOTE 6: RESTATEMENT OF FINANCIAL STATEMENT
In September 2001, the Company became aware of irregularities associated with a
former senior lending officer. The irregularities included a check kiting
scheme of a single commercial loan customer of Banner Bank, as well as
activities designed to conceal credit weaknesses of several loan customers. As
a result, the Company's financial statements as of and for the quarters ended
March 31, 2001 and June 30, 2001, have been restated from the amounts previously
reported to recognize charges in those periods to reflect the losses incurred as
a result of the check kiting and credit manipulation activities. For the
restated quarter ended March 31, 2001, the Company has recorded an expense of
$3.6 million ($2.3 million after tax) as a result of the check kiting scheme
(see the Company's Form 10-Q/A for the quarter ended March 31, 2001 for more
information.) For the restated quarter ended June 30, 2001, the Company
recorded $2.6 million ($1.7 million after tax) of expense related to the check
kiting scheme and an additional $2.0 million ($1.3 million after tax) as added
to the provision for loan losses relating to the credit manipulation activities.
The following table shows the effects of the restatement for the quarter ended
and six-months ended June 30, 2001, for both the check kiting scheme and the
credit manipulation activities:
As Previously Reported As Restated
- -------------------------------------------------------------------------------
Quarter Six-months Quarter Six-months
ended ended ended ended
At June 30, 2001:
Cash and due from balances $ -- $ 57,066 $ -- $ 50,316
Loans held for portfolio -- 1,557,751 -- 1,555,251
Allowance for loan losses -- (16,275) -- (16,775)
Deferred income tax assets -- 1,684 -- 1,859
Other assets -- 3,364 -- 3,758
Interest-bearing-deposits -- 1,120,040 -- 1,119,490
Income taxes payable -- 2,301 -- --
Retained earnings -- 72,853 -- 67,523
For the quarter and
six-months ended June 30, 2001:
Check kiting loss $ -- $ -- $2,600 $ 6,200
Provision for loan losses 950 1,900 2,950 3,900
Income before provision for
income taxes 7,278 14,553 2,678 6,353
Provision for income taxes 2,669 5,295 1,059 2,425
Net income 4,609 9,258 1,619 3,928
Comprehensive income 4,574 11,341 1,584 6,011
Net income per common share:
Basic $ .41 $ .83 $ .14 $ .35
Diluted $ .39 $ .79 $ .14 $ .34
The Company recorded an additional expense of $1.9 million in the quarter ended
September 30, 2001, with respect to the check kiting scheme and also recognized
$4.2 million of additional provision for loan losses associated with the credit
manipulation (see the Company's Form 10-Q for the quarter ended September 30,
2001 for more information).
16
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
Management's Discussion and Analysis (MD&A) and other portions of this report
contain certain "forward-looking statements" concerning the future operations of
Banner Corporation. Management desires to take advantage of the "safe harbor"
provisions of the Private Securities Litigation Reform Act of 1995 and is
including this statement for the express purpose of availing the Company of the
protections of such safe harbor with respect to all "forward-looking statements"
contained in this report and our Annual Report. We have used "forward-looking
statements" to describe future plans and strategies, including our expectations
of the Company's future financial results. Management's ability to predict
results or the effect of future plans or strategies is inherently uncertain.
Factors which could affect actual results include interest rate trends, the
general economic climate in the Company's market area and the country as a
whole, the ability of the Company to control costs and expenses, the ability of
the Company to efficiently incorporate acquisitions into its operations,
competitive products and pricing, loan delinquency rates, and changes in federal
and state regulation. These factors should be considered in evaluating the
"forward-looking statements," and undue reliance should not be placed on such
statements.
GENERAL
Banner Corporation (the Company or BANR), a Washington corporation, is primarily
engaged in the business of planning, directing and coordinating the business
activities of its wholly owned subsidiaries, Banner Bank (BB) and Banner Bank of
Oregon (BBO). Prior to the consolidation and name change, which occurred on
October 30, 2000, the Company's subsidiaries included First Savings Bank of
Washington (FSBW), Inland Empire Bank (IEB) and Towne Bank (TB) (together, the
Banks). As of June 30, 2001, Banner Bank is a Washington-chartered commercial
bank the deposits of which are insured by the Federal Deposit Insurance
Corporation (FDIC) under both the Bank Insurance Fund (BIF) and the Savings
Association Insurance Fund (SAIF). BB conducts business from its main office in
Walla Walla, Washington, and its 32 branch offices and four loan production
offices located in Washington, Idaho and Oregon. Prior to merging with FSBW on
October 30, 2000, TB was a Washington-chartered commercial bank whose deposits
were insured by the FDIC under BIF. As of October 30, 2000, TB conducted
business from seven full service branches in the Seattle, Washington,
metropolitan area. An eighth Seattle area office opened in November 2000. Banner
Bank of Oregon is an Oregon-chartered commercial bank and its deposits are
insured by the FDIC, under BIF. BBO conducts business from its main office in
Hermiston, Oregon, and its six branch offices and one loan production office
located in northeast Oregon. The Company has announced its intention to merge
Banner Bank of Oregon with and into Banner Bank by September 30, 2001.
The operating results of BANR depend primarily on its net interest income, which
is the difference between interest income on interest-earning assets, consisting
of loans and investment securities, and interest expense on interest-bearing
liabilities, composed primarily of savings deposits and Federal Home Loan Bank
(FHLB) advances. Net interest income is primarily a function of BANR's interest
rate spread, which is the difference between the yield earned on
interest-earning assets and the rate paid on interest-bearing liabilities, as
well as a function of the average balance of interest-earning assets as compared
to the average balance of interest-bearing liabilities. As more fully explained
below, BANR's net interest income decreased for the quarter-ended June 30, 2001
compared to the same period a year earlier, as significantly lower levels of
market interest rates led to an 18 basis point reduction in the interest rate
spread. While the Company's interest rate spread also declined 13 basis points
for the six months ended June 30, 2001, net interest income for the first six
months increased slightly from the year earlier periods as a result of the
significant asset and liability growth that occurred at BANR. The net interest
margin also declined 20 and 13 basis points, respectively, for the quarter and
six months ended June 30, 2001, when compared to the same periods one year prior
reflecting the reduced interest rate spread and the increased use of
interest-bearing liabilities relative to interest-earning assets. BANR's net
income also is affected by provisions for loan losses and the level of its other
income, including deposit service charges, loan origination and servicing fees,
and gains and losses on the sale of loans and securities, as well as its
non-interest operating expenses and income tax provisions. Other operating
income increased significantly for both the quarter and six months ended June
30, 2001, largely as a result of increased gain on the sale of loans. Non-
interest expenses, excluding the check kiting charges noted above and below,
also increased reflecting the continued growth of the Company. As explained in
Notes 2 and 6 of the Selected Notes to the Consolidated Financial Statements,
BANR's net income for the quarter and six months ended June 30, 2001, have been
restated to reflect charges associated with a check kiting scheme involving a
single commercial loan customer as well as additional provisions for loan losses
as result of credit weaknesses that had been concealed by a former senior loan
officer of BB. The restated financial results reflect a check kiting loss of
$2.6 million ($1.7 million after tax) for the quarter ended June 30, 2001, and
$6.2 million ($4.0 million after tax) for the six months ended June 30, 2001.
For the quarter and six months ended June 30, 2001 the Company also recorded
additional provision for loan losses of $2.0 million ($1.3 million after tax) as
a result of the credit manipulation activities. The accompanying discussion and
analysis gives effect to the restatement.
17
In addition, the restated financial results reflect an additional $1.5 million
of loans charged off for the quarter and six months ended June 30, 2001, as well
as an additional $1.7 million of non-accrual loans at June 30, 2001.
Management's discussion and analysis of results of operations is intended to
assist in understanding the financial condition and results of operations of the
Company. The information contained in this section should be read in conjunction
with the Consolidated Financial Statements and accompanying Notes to the
Consolidated Financial Statements.
18
RECENT DEVELOPMENTS AND SIGNIFICANT EVENTS
See Notes 2 and 6 to Selected Notes to Consolidated Financial Statements
COMPARISON OF FINANCIAL CONDITION AT JUNE 30, 2001, (RESTATED) AND DECEMBER 31,
2000
Total assets increased $53.8 million, or 3.1%, from $1.983 billion at December
31, 2000, to $2.037 billion at June 30, 2001. The growth of $53.8 million
occurred substantially at BB and was funded primarily with deposit growth. This
growth reflects the economic conditions in the markets where BANR operates. Net
loans receivable (gross loans less loans in process, deferred fees and
discounts, and allowance for loan losses) grew $93.4 million, or 6.3%, from
$1.472 billion at December 31, 2000, to $1.565 billion at June 30, 2001. This
loan growth included an increase of $18.2 million in loans held for sale which
increased to $26.1 million at June 30, 2001. The increase in net loans
consisted of $29.5 million of mortgages secured by commercial and multifamily
real estate, $56.0 million of construction and land loans and $25.1 million of
non-mortgage loans such as commercial, agricultural and consumer loans reduced
by a decrease of $15.8 million in residential mortgages. These balances reflect
the Company's continuing effort to increase the portion of its assets invested
in loans and more specifically the portion of loans invested in commercial real
estate, construction and land development, and non-mortgage loans. While these
loans are of inherently higher risk than residential mortgages, management
believes they can produce higher credit adjusted returns to the Company and
provide better opportunities to develop comprehensive banking relationships with
the borrowers than most residential mortgages. The majority of the increase in
loans was funded by a net increase of $67.3 million in deposits. Loan growth
was also funded by a $27.7 million net decrease in securities. Net income from
operations also helped to fund asset growth. Deposits grew $67.3 million, or
5.6%, from $1.193 billion at December 31, 2000, to $1.260 billion at June 30,
2001. FHLB advances decreased $3.0 million from $507.1 million at December 31,
2000, to $504.1 million at June 30, 2001. Other borrowings, primarily reverse
repurchase agreements with securities dealers, decreased $9.4 million, from
$74.5 million at December 31, 2000, to $65.1 million at June 30, 2001.
Securities available for sale and held to maturity decreased $27.7 million, or
8.5%, from $326.5 million at December 31, 2000, to $298.8 million at June 30,
2001, as much of the proceeds from maturing or called securities and
amortizations or prepayments on mortgage-related securities were used to fund
loan growth. FHLB stock increased $973,000 as a result of the regular quarterly
stock dividend paid by the FHLB. The Company's investment in bank owned life
insurance increased by $5.8 million reflecting $800,000 of accumulated earnings
from increased cash surrender value and an initial premium of $5.0 million for
the purchase of additional insurance.
COMPARISON OF RESULTS OF OPERATIONS FOR THE QUARTERS AND SIX MONTHS ENDED JUNE
30, 2001, (RESTATED) AND 2000
GENERAL. Net income for the quarter ended June 30, 2001 was $1.6 million, or
$.14 per share (diluted), compared to net income of $4.5 million, or $.40 per
share (diluted), for the quarter ended June 30, 2000 a decrease of $2.9 million.
Net income for the first six months of the current year was $3.9 million, a
decrease of $5.0 million from the six months ended June 30, 2000. The
decreases in net income resulted from the expenses associated with the check
kiting scheme and additional loan loss provision described in Notes 2 and 6.
Excluding those charges and the related tax effect, net income for the quarter
and six months ended June 30, 2001, would have increased $66,000 and $290,000,
respectively, compared to the same periods a year earlier. BANR's modestly
improved operating results (excluding the check kiting and credit manipulation
charges) reflect the significant growth of assets and liabilities which was
essentially offset by the decline in net interest margin. Net interest margin
declined 20 basis points for the quarter and 13 basis points for the six month
period reflecting changes in the level of market rates and the increased use of
interest-bearing liabilities relative to interest-earning assets. The Company's
operating results also reflect a significant increase in non-interest revenues,
particularly gain on sale of loans, and non-interest expenses including costs
associated with conversion of its data processing systems and expenses incurred
as a result of increased mortgage lending. Compared to levels a year ago, total
assets increased 4.6% to $2.037 billion at June 30, 2001, net loans rose 10.3%
to $1.565 billion, deposits grew 9.3% to $1.260 billion and borrowings decreased
4.5% to $569.2 million. Average equity was 9.83% of average assets for the
quarter ended June 30, 2001, compared to 9.51% of average assets for the quarter
ended June 30, 2000. The modest changes in net interest spread and net interest
margin are notable in light of the significant changes in the level of market
interest rates over the past twelve months.
19
INTEREST INCOME. Interest income for the quarter ended June 30, 2001 was $39.7
million compared to $39.1 million for the quarter ended June 30, 2000, an
increase of $631,000, or 1.6%. The increase in interest income was a result of
an $81.0 million, or 4.5%, growth in average balances of interest-earning assets
and occurred despite a 26 basis point decrease in the average yield on those
assets. The yield on average interest-earning assets decreased to 8.41% for the
quarter ended June 30, 2001 compared to 8.67% for the same period a year
earlier. Average loans receivable for the quarter ended June 30, 2001 increased
by $148.2 million, or 10.6%, when compared to the quarter ended June 30, 2000,
reflecting the Banks' significant internal growth. Interest income on loans
increased by $2.0 million, or 6.3%, compared to the prior year, reflecting the
impact of the increase in average loan balances and a 38 basis point decrease in
the average yield. The decrease in average loan yield reflects the significant
decline in the level of market interest rates, particularly the prime rate,
compared to year earlier levels, which offset continued changes in the mix of
the loan portfolio. The portfolio mix continued to change as the portion of the
portfolio invested in lower yielding one- to four-family residential loans
declined, while the portion invested in higher yielding construction, land
development and commercial loans increased. Loans yielded 8.85% for the quarter
ended June 30, 2001 compared to 9.23% for the quarter ended June 30, 2000. The
average balance of mortgage-backed securities, investment securities, daily
interest-bearing deposits and FHLB stock decreased by $67.2 million for the
quarter ended June 30, 2001, and the interest and dividend income from those
investments decreased $1.4 million, compared to the quarter ended June 30, 2000.
The average yield on mortgage-backed securities decreased from 6.89% for the
quarter ended June 30, 2000, to 6.23% for the comparable period in 2001. Yields
on mortgage-backed securities were lower in the 2001 period reflecting the
impact of lower market rates on the interest rates paid on the significant
portion of those securities that have adjustable rates and more rapid
prepayments on certain higher yielding portions of the portfolio. The average
yield on investment securities and short term cash investments decreased from
6.59% for the quarter ended June 30, 2000 to 6.54% for the comparable quarter in
2001, also reflecting the lower level of market rates. Earnings on FHLB stock
increased by $89,000, resulting from an increase of $3.2 million in the average
balance of FHLB stock for the quarter ended June 30, 2001 and a higher dividend
yield. The dividend yield on FHLB stock was 7.0% for the quarter ended June 30,
2001, compared to 6.51% for the quarter ended June 30, 2000. Dividends on FHLB
stock are established on a quarterly basis by vote of the Directors of the FHLB.
Interest income for the six months ended June 30, 2001 increased $4.6 million,
or 6.0%, from the comparable period in 2000. Interest income from loans
increased $6.8 million, or 10.9%, from the comparable period in 2000. The
increase from loan interest income reflected the impact of a $161.3 million
growth in average loans receivable balances and occurred despite a 4 basis point
decrease in the yield on the loan balances. Interest income from mortgage-backed
and investment securities and FHLB stock for the six months ended June 30, 2001,
decreased $2.2 million, from $13.6 million in 2000, to $11.4 million in the
current period, reflecting a $55.7 million decrease in average balances along
with a 17 basis point decrease in yield. While yields on loans and investments
declined compared to year earlier levels, the yield on average earning assets
increased from 8.56% for the six months ended June 30, 2000, to 8.59% for the
six months ended June 30, 2001, as a result of the change in the relative amount
of loans and investments.
INTEREST EXPENSE. Interest expense for the quarter ended June 30, 2001 was $22.5
million compared to $21.8 million for the comparable period in 2000, an increase
of $768,000, or 3.5%. The increase in interest expense was due to the $83.7
million growth in average interest-bearing liabilities which was somewhat offset
by a decrease in the average cost of all interest-bearing liabilities from 5.10%
to 5.02%. The $88.8 million increase in average interest-bearing deposits for
the quarter ended June 30, 2001, compared to June 30, 2000, reflects the solid
deposit growth throughout the Company over the past twelve months. Deposit
interest expense increased $1.1 million for the quarter ended June 30, 2001
compared to the same quarter a year ago. Average deposit balances increased
from $1.137 billion for the quarter ended June 30, 2000, to $1.226 billion for
the quarter ended June 30, 2001, while, at the same time, the average rate paid
on deposit balances increased 1 basis point. To a significant degree, deposit
costs for a quarter reflect market interest rates and pricing decisions made
three to twelve months prior to the end of that quarter. Generally, market
interest rates for deposits were higher for the nine months preceding the
quarter ended June 30,2001 than for the same period preceding the June 30, 2000
quarter. Average FHLB advances totaled $504.6 million during the quarter ended
June 30, 2001, compared to $505.9 million during the quarter ended June 30,
2000, a decrease of $1.3 million that, combined with a 1 basis point decrease in
average cost of advances, resulted in an $8,000 decrease in related interest
expense. The average rate paid on those advances decreased to 6.11% for the
quarter ended June 30, 2001 from 6.12% for the quarter ended June 30, 2000.
Other borrowings consist of retail repurchase agreements with customers and
repurchase agreements with investment banking firms secured by certain
investment securities. The average balance for other borrowings decreased $4.4
million from $73.5 million for the quarter ended June 30, 2000, to $69.1 million
for the same period in 2001, while the related interest expense decreased
$288,000 from $1.2 million to $867,000 for the respective periods. The average
rate paid on other borrowings was 5.03% in the quarter ended June 30, 2001
compared to 6.32% for the same quarter in 2000. Similar to deposits, the cost
of FHLB advances reflects to a degree a lagged effect from prior period market
interest rate levels, while the Company's other borrowings generally have
relatively short terms and therefore reprice to current market levels more
quickly.
20
A comparison of total interest expense for the six months ended June 30, 2001,
shows an increase of $3.9 million, or 9.3%, from the comparable period in June
2000. The increase in interest expense reflects an increase in average deposits
of $93.9 million combined with a $11.5 million increase in FHLB advances and
other borrowings. The effect on interest expense of the $105.4 million increase
in average interest-bearing liabilities was augmented by a 16 basis point
increase in the interest rate paid on those liabilities.
21
The following tables provide additional comparative data on the Company's
operating performance:
Quarters Ended Six Months Ended
AVERAGE BALANCES June 30 June 30
---------------- -------------------- --------------------
(Restated, (Restated,
See Note 6) See Note 6)
(in thousands) 2001 2000 2001 2000
--------- --------- --------- ---------
Investment securities and deposits $ 120,662 $ 153,793 $ 126,187 $ 147,646
Mortgage-backed obligations 193,511 230,791 195,573 233,389
Loans 1,551,811 1,403,569 1,534,087 1,372,757
FHLB stock 29,280 26,085 29,049 25,479
--------- --------- --------- ---------
Total average interest-
earning asset 1,895,264 1,814,238 1,884,896 1,779,271
Non-interest-earning assets 117,462 95,942 115,751 94,998
--------- --------- --------- ---------
Total average assets $2,012,726 $1,910,180 $2,000,647 $1,874,269
========== ========== ========== ==========
Deposits 1,226,077 1,137,251 $1,209,293 1,115,348
Advances from FHLB 504,614 505,924 506,700 491,170
Other borrowings 69,083 73,524 71,894 75,968
---------- ---------- ---------- ----------
Total average interest-bearing
liabilities 1,799,774 1,716,699 1,787,887 1,682,486
Non-interest-bearing liabilities 15,179 11,865 15,190 10,862
---------- ---------- ---------- ----------
Total average liabilities 1,814,953 1,728,564 1,803,077 1,693,348
Equity 197,773 181,616 197,570 180,921
---------- ---------- ---------- ----------
Total average liabilities and
equity $2,012,726 $1,910,180 $2,000,647 $1,874,269
========== ========== ========== ==========
INTEREST RATE YIELD/EXPENSE (RATES ARE ANNUALIZED)
--------------------------------------------------
Interest Rate Yield:
Investment securities and deposits 6.54% 6.59% 6.63% 6.62%
Mortgage-backed obligations 6.23% 6.89% 6.47% 6.81%
Loans 8.85% 9.23% 9.06% 9.10%
FHLB stock 7.00% 6.51% 6.75% 6.50%
------ ------ ------ ------
Total interest rate yield on interest-
earning assets 8.41% 8.67% 8.59% 8.56%
------ ------ ------ ------
Interest Rate Expense:
Deposits 4.58% 4.57% 4.70% 4.45%
Advances from FHLB 6.11% 6.12% 6.17% 6.03%
Other borrowings 5.03% 6.32% 5.43% 6.20%
------ ------ ------ ------
Total interest rate expense on
interest-bearing liabilities 5.02% 5.10% 5.15% 4.99%
------ ------ ------ ------
Interest spread 3.39% 3.57% 3.44% 3.57%
====== ====== ====== ======
Net interest margin on interest
earning assets 3.64% 3.84% 3.71% 3.84%
------ ------ ------ ------
ADDITIONAL KEY FINANCIAL RATIOS (RATIOS ARE ANNUALIZED)
-------------------------------------------------------
Return on average assets 0.32% 0.96% 0.40% 0.96%
Return on average equity 3.28% 10.06% 4.01% 9.97%
Average equity / average assets 9.83% 9.51% 9.88% 9.65%
Average interest-earning assets/
interest-bearing liabilities 105.31% 105.68% 105.43% 105.75%
Non-interest [other operating] expenses/
average assets Excluding amortization
of costs in excess of net assets
acquired (goodwill) 2.92% 2.25% 3.01% 2.24%
Including amortization of costs in excess
of net assets acquired (goodwill) 3.03% 2.38% 3.12% 2.37%
Efficiency ratio [non-interest (other
operating) expenses / revenues]
Excluding amortization of costs in excess
of net assets acquired (goodwill) 69.16% 54.79% 71.23% 54.80%
Including amortization of costs in excess
of net assets acquired (goodwill) 72.98% 58.92% 75.09% 59.03%
22
PROVISION FOR LOAN LOSSES.
During the quarter ended June 30, 2001, the provision for loan losses was $2.95
million, compared to $819,000 for the quarter ended June 30, 2000, an increase
of $2.1 million. A comparison of the provision for loan losses for the six
month periods ended June 30, 2001 and 2000 shows an increase of $2.54 million
from $1.36 million to $3.90 million. The increase in the provision for losses
reflects the amount required to maintain the allowance for losses at an
appropriate level based upon management's evaluation of the adequacy of general
and specific loss reserves as more fully explained in the following paragraphs.
The higher provision in the current quarter reflects changes in the portfolio
mix, higher levels of non-performing loans and net charge offs, and concerns
about the current economic environment. The provision for loan losses for the
quarter and six months ended June 30, 2001, has been restated to reflect an
additional $2.0 million of charges associated with credit manipulation
activities by a former senior loan officer which were designed to conceal credit
weaknesses of several loan customers. Non-performing loans increased to $8.1
million at June 30, 2001, compared to $5.0 million at June 30, 2000. Non-
performing loans as restated at June 30, 2001, includes an additional $1.7
million of non-accrual loans associated with the credit manipulation activities.
Net charge offs were $2.2 million for the current quarter compared to $279,000
for the same quarter a year earlier. Net charge offs for the quarter and six
months ended June 30, 2001, include $1.5 million of charges associated with the
credit manipulation activities. A comparison of the allowance for loan losses
at June 30, 2001 and 2000 shows an increase of $2.3 million from $14.5 million
at June 30, 2000 to $16.8 million at June 30, 2001. The allowance for loan
losses as a percentage of net loans (loans receivable excluding allowance for
losses) was 1.06% and 1.01% at June 30, 2001 and June 30, 2000, respectively.
The allowance for loan losses equaled 207% of non-performing loans at June 30,
2001 compared to 290% of non-performing loans at June 30, 2000.
The allowance for losses on loans is maintained at a level sufficient to provide
for estimated losses based on evaluating known and inherent risks in the loan
portfolio and upon management's continuing analysis of the factors underlying
the quality of the loan portfolio. These factors include changes in the size and
composition of the loan portfolio, actual loan loss experience, current and
anticipated economic conditions, detailed analysis of individual loans for which
full collectibility may not be assured, and determination of the existence and
realizable value of the collateral and guarantees securing the loans. Additions
to the allowance are charged to earnings. Provisions for losses that are related
to specific assets are usually applied as a reduction of the carrying value of
the assets and charged immediately against the allowance for loan loss reserve.
Recoveries on previously charged off loans are credited to the allowance. The
reserve is based upon factors and trends identified by management at the time
financial statements are prepared. In addition, various regulatory agencies, as
an integral part of their examination process, periodically review the Banks'
allowance for loan losses. Such agencies may require the Banks to provide
additions to the allowance based upon judgments different from management.
Although management uses the best information available, future adjustments to
the allowance may be necessary due to economic, operating, regulatory and other
conditions beyond the Banks' control. The adequacy of general and specific
reserves is based on management's continuing evaluation of the pertinent factors
underlying the quality of the loan portfolio, including changes in the size and
composition of the loan portfolio, delinquency rates, actual loan loss
experience and current economic conditions. Large groups of smaller-balance
homogeneous loans are collectively evaluated for impairment. Loans that are
collectively evaluated for impairment by the Banks include residential real
estate and consumer loans. Smaller balance non-homogeneous loans also may be
evaluated collectively for impairment. Larger balance non-homogeneous
residential construction and land, commercial real estate, commercial business
loans and unsecured loans are individually evaluated for impairment. Loans are
considered impaired when, based on current information and events, management
determines that it is probable that the Bank will be unable to collect all
amounts due according to the contractual terms of the loan agreement. Factors
involved in determining impairment include, but are not limited to, the
financial condition of the borrower, value of the underlying collateral and
current status of the economy. Impaired loans are measured based on the present
value of expected future cash flows discounted at the loan's effective interest
rate or, as a practical expedient, at the loan's observable market price or the
fair value of collateral if the loan is collateral dependent. Subsequent changes
in the value of impaired loans are included within the provision for loan losses
in the same manner in which impairment initially was recognized or as a
reduction in the provision that would otherwise be reported.
The Company's methodology for assessing the appropriateness of the allowance
consists of several key elements, which include specific allowances, an
allocated formula allowance, and an unallocated allowance. Losses on specific
loans are provided for when the losses are probable and estimable. General loan
loss reserves are established to provide for inherent loan portfolio risks not
specifically provided for. The level of general reserves is based on analysis of
potential exposures existing in the Banks' loan portfolios including evaluation
of historical trends, current market conditions and other relevant factors
identified by management at the time the financial statements are prepared. The
formula allowance is calculated by applying loss factors to outstanding loans,
excluding loans with specific allowances. Loss factors are based on the
Company's historical loss experience adjusted for significant factors including
the experience of other banking organizations that, in management's judgment,
affect the collectibility of the portfolio as of the evaluation date. The
unallocated allowance is based upon management's evaluation of various factors
that are not directly measured in the determination of the formula and specific
allowances. This methodology may result in losses or recoveries differing
significantly from those provided in the financial statements.
23
The following tables are provided to disclose additional detail on the Banks'
loans and allowance for loan losses (in thousands):
(Restated,
See Note 6)
June 30 December 31
2001 2000
---------- -----------
Loans (including loans held for sale):
Secured by real estate
One- to four-family $ 404,314 $ 418,057
Commercial 396,017 366,071
Multifamily 83,853 84,282
Construction and land 327,261 271,273
Commercial business 252,308 228,676
Agricultural business 73,053 67,809
Consumer 45,084 50,915
--------- ---------
Total Loans $1,581,890 $1,487,083
Less allowance for loan losses 16,775 15,314
--------- ---------
Total net loans at end of period $1,565,115 $1,471,769
========== ==========
Allowance for loan losses as a percentage of
net loans outstanding 1.06% 1.03%
Quarters Ended Six Months Ended
June 30 June 30
------------------ ------------------
(Restated) (Restated)
2001 2000 2001 2000
------ ------ ------ ------
Balance, beginning of the period $15,980 $13,951 $15,314 $13,541
Provision 2,950 819 3,900 1,364
Recoveries of loans previously
charged off:
Secured by real estate
One- to four-family 1 -- 1 1
Commercial -- -- -- --
Multifamily -- -- -- --
Construction and land -- -- -- --
Commercial business 21 11 27 27
Agricultural business -- -- -- --
Consumer -- 99 5 101
------ ------ ------ ------
22 110 33 129
Loans charged off:
Secured by real estate
One- to four-family (65) (54) (97) (60)
Commercial -- -- -- --
Multifamily -- -- -- --
Construction and land (14) (12) (14) (12)
Commercial business (1,940) (114) (2,042) (173)
Agricultural business -- -- 100 --
Consumer (158) (209) (219) (298)
------ ------ ------ ------
(2,177) (389) (2,472) (543)
------ ------ ------ ------
Net charge offs (2,155) (279) (2,439) (414)
------ ------ ------ ------
Balance, end of period $16,775 $14,491 $16,775 $14,491
======= ======= ======= =======
Net charge-offs as a percentage of
average net book value of loans
outstanding for the period 0.14% 0.02% 0.16% 0.03%
------ ------ ------ ------
24
The following is a schedule of the Company's allocation of the allowance for
loan losses:
(Restated,
See Note 6)
June 30 December 31
2001 2000
--------- -----------
Specific or allocated loss allowances:
Secured by real estate:
One- to four-family $ 2,229 $ 2,256
Commercial 4,032 4,556
Multifamily 682 731
Construction and land 3,663 2,738
Commercial business 3,835 2,859
Agricultural business 890 851
Consumer 948 879
-------- --------
Total allocated 16,279 14,870
Unallocated 496 444
-------- --------
Total allowance for loan losses $ 16,775 $ 15,314
======== ========
Ratio of allowance for loan losses to non-
performing loans 207% 183%
Allowance for loan losses as a percent of
net loans (loans receivable excluding
allowance for losses) 1.06% 1.03%
OTHER OPERATING INCOME. Other operating income at $3.6 million for the quarter
ended June 30, 2001, increased by $1.8 million from the quarter ended June 30,
2000. This included a $940,000 increase in the gain on sale of loans for the
current quarter. Loan sales for the quarter ended June 30, 2001 totaled $87.4
million, including $26.3 million of loans sold by CFC, compared to $22.8 million
for the quarter ended June 30, 2000. Gain on sale of loans for BANR included
$126,000 of fees on $11.5 million of loans brokered by CFC, which are not
reflected in the volume of loans sold. Gain on sale of securities increased by
$345,000 compared to the same quarter a year earlier. Gain on sale of securities
which, was $360,000 for the current quarter resulted primarily from the sale of
5,000 shares of Federal Home Loan Mortgage Corporation (FHLMC) common stock.
Other fee and service charge income for BANR increased by $246,000 to $1.5
million for the quarter ended June 30, 2001, compared to $1.2 million for the
quarter ended June 30, 2000, primarily reflecting deposit growth and pricing
adjustments. Miscellaneous income increased by $245,000 in large part reflecting
the Company's increased investment in bank owned life insurance and the
resulting increase in cash surrender value.
Other operating income for the six months ended June 30, 2001, increased $3.0
million from the comparable period in 2000. This includes a $1.6 million
increase in the gain on sale of loans, $552,000 increase in other fee and
service charge income, $345,000 increase in gain on sale of securities and
$421,000 increase in miscellaneous income. Loan sales increased from $38.7
million for the six months ended June 30, 2000 to $134.4 million for the six
months ended June 30, 2001.
OTHER OPERATING EXPENSES. Other operating expenses increased $3.9 million from
$11.3 million for the quarter ended June 30, 2000, to $15.2 million for the
quarter ended June 30, 2001. As noted above, other operating expense for the
quarter ended June 30, 2001, included a charge of $2.6 million associated with a
check kiting scheme that had been concealed by a former senior lending officer
of BB. Excluding the check kiting charge, other operating expenses increased
$1.3 million compared to the same quarter a year earlier. Increases in other
operating expenses, excluding the check kiting charge, reflect the overall
growth in assets and liabilities, customer relationships and complexity of
operations as BANR continues to expand. The increase in expenses reflects the
inclusion of two new bank branches opened subsequent to June 30, 2000. The
increase also reflects expenses associated with the new lending subsidiary, CFC.
The increase in other operating expenses was partially offset by a $470,000
increase in capitalized loan origination costs reflecting a greater level of
loan origination activity. Additionally, during the quarter ended June 30,
2001, the Company incurred approximately $285,000 of expenses associated with
the conversion of its data processing systems. The Company incurred an
additional $800,000 of conversion related expenses in the quarter ended
September 30, 2001 and expects to incur about $300,000 of additional conversion
related expenses during the third quarter. The Company had previously projected
that it would incur $400,000 of conversion related expense in the quarter ended
September 30, 2001. The higher operating expenses associated with BANR's
transition to more of a commercial bank profile, coupled with pressure on net
interest margin, and the recognition of the check kiting loss caused BANR's
efficiency ratio, excluding the amortization of goodwill, to increase to 69.16%
(72.98% including goodwill), for the quarter ended June 30, 2001, from 54.79%
(58.92% including
25
goodwill) for the comparable period ended June 30, 2000. Other operating
expenses as a percentage of average assets increased to 3.03% (2.92% excluding
the amortization of goodwill) for the quarter ended June 30, 2001, compared to
2.38% (2.25% excluding the amortization of goodwill) for the quarter ended June
30, 2000. Excluding the check kiting loss and the amortization of goodwill for
the quarter ended June 30, 2001, BANR's efficiency ratio would have been 56.68%
and other operating expenses as a percentage of average assets would have been
2.39%.
Other operating expenses for the six months ended June 30, 2001 increased $8.8
million from $22.1 million for the first six months of 2000 to $30.9 million in
the current period. As explained earlier, the increase is largely due to the
previously noted check kiting loss ($6.2 million) and growth in BANR's
operations for the current six month period.
Other operating expenses for the six months ended June 30, 2001 increased $2.6
million from $22.1 million for the first six months of 2000 to $24.7 million in
the current period. As explained earlier, the increase is largely due to the
previously noted growth in BANR's operations for the current six month period.
INCOME TAXES. Income tax expense was $1.1 million for the quarter ended June 30,
2001, compared to $2.5 million for the comparable period in 2000. The Company's
effective tax rates for the quarters ended June 30, 2001 and 2000 were 40% and
36%, respectively. The higher effective tax rate in the current quarter is a
result of a larger relative effect of the non-deductible goodwill amortization
expense compared to the quarter one year earlier.
Income tax expense for the six months ended June 30, 2001 decreased to $2.4
million, compared to $5.0 million in the comparable period in 2000. The
Company's effective tax rates for the six months ended June 30, 2001 and 2000
were 38% and 36%, respectively. Similar to the quarterly results, the higher
effective tax rate in the current period is a result of a larger relative effect
of the non-deductible goodwill amortization expense compared to the same period
a year earlier.
26
ASSET QUALITY
The following tables are provided to disclose additional details on asset
quality (in thousands):
(Restated,
See Note 6)
June 30 December 31
2001 2000
----------- -----------
Non-performing assets at end of the period:
Nonaccrual Loans:
Secured by real estate
One- to four-family $ 832 $ 873
Multifamily real estate -- 1,741
Commercial real estate -- --
Construction and land 3,201 2,937
Commercial business 3,015 1,734
Agricultural business 147 529
Consumer 291 18
----------- -----------
7,486 7,832
Loans more than 90 days delinquent, still on accrual:
Secured by real estate
One- to four-family 48 20
Multifamily real estate 108 --
Commercial real estate -- --
Construction and land -- --
Commercial business 99 1
Agricultural business 333 467
Consumer 23 54
----------- -----------
611 542
----------- -----------
Total non-performing loans 8,097 8,374
Real estate owned, held for sale, net (REO),
and other repossessed assets 3,227 3,287
----------- -----------
Total non-performing assets at the end of
the period $ 11,324 $ 11,661
=========== ===========
Non-performing loans as a percentage of total
net loans before allowance for loan losses at
end of the period 0.51% 0.56%
Ratio of allowance for loan losses to non-
performing loans at end of the period 207% 183%
Non-performing assets as a percentage of total
assets at end of the period. 0.56% 0.59%
Troubled debt restructuring [TDRs]
at end of the period $ 305 $ 337
=========== ===========
Troubled debt restructuring as a percentage of:
Total gross principal of loans outstanding at
end of the period 0.02% 0.02%
Total assets at end of the period 0.01% 0.02%
27
MARKET RISK AND ASSET/LIABILITY MANAGEMENT
The financial condition and operation of the Company are influenced
significantly by general economic conditions, including the absolute level of
interest rates as well as changes in interest rates and the slope of the yield
curve. The Company's profitability is dependent to a large extent on its net
interest income, which is the difference between the interest received from its
interest-earning assets and the interest expense incurred on its
interest-bearing liabilities.
The activities of the Company, like all financial institutions, inherently
involve the assumption of interest rate risk. Interest rate risk is the risk
that changes in market interest rates will have an adverse impact on the
institution's earnings and underlying economic value. Interest rate risk is
determined by the maturity and repricing characteristics of an institution's
assets, liabilities, and off-balance-sheet contracts. Interest rate risk is
measured by the variability of financial performance and economic value
resulting from changes in interest rates. Interest rate risk is the primary
market risk impacting the Company's financial performance.
The greatest source of interest rate risk to the Company results from the
mismatch of maturities or repricing intervals for rate sensitive assets,
liabilities and off-balance-sheet contracts. This mismatch or gap is generally
characterized by a substantially shorter maturity structure for interest-bearing
liabilities than interest-earning assets. Additional interest rate risk results
from mismatched repricing indices and formulae (basis risk and yield curve
risk), and product caps and floors and early repayment or withdrawal provisions
(option risk), which may be contractual or market driven, that are generally
more favorable to customers than to the Company.
The principal objectives of asset/liability management are to evaluate the
interest-rate risk exposure of the Company; to determine the level of risk
appropriate given the Company's operating environment, business plan strategies,
performance objectives, capital and liquidity constraints, and asset and
liability allocation alternatives; and to manage the Company's interest rate
risk consistent with regulatory guidelines and approved policies of the Board of
Directors. Through such management the Company seeks to reduce the vulnerability
of its earnings and capital position to changes in the level of interest rates.
The Company's actions in this regard are taken under the guidance of the
Asset/Liability Management Committee, which is comprised of members of the
Company's senior management. The committee closely monitors the Company's
interest sensitivity exposure, asset and liability allocation decisions,
liquidity and capital positions, and local and national economic conditions and
attempts to structure the loan and investment portfolios and funding sources of
the Company to maximize earnings within acceptable risk tolerances.
The Company's primary monitoring tool for assessing interest rate risk is
asset/liability simulation modeling which is designed to capture the dynamics of
balance sheet, interest rate and spread movements and to quantify variations in
net interest income resulting from those movements under different rate
environments. The sensitivity of net interest income to changes in the modeled
interest rate environments provides a measurement of interest rate risk. The
Company also utilizes market value analysis, which addresses changes in
estimated net market value of equity arising from changes in the level of
interest rates. The net market value of equity is estimated by separately
valuing the Company's assets and liabilities under varying interest rate
environments. The extent to which assets gain or lose value in relation to the
gains or losses of liability values under the various interest rate assumptions
determines the sensitivity of net equity value to changes in interest rates and
provides an additional measure of interest rate risk.
The interest rate sensitivity analysis performed by the Company incorporates
beginning of the period rate, balance and maturity data, using various levels of
aggregation of that data, as well as certain assumptions concerning the
maturity, repricing, amortization and prepayment characteristics of loans and
other interest-earning assets and the repricing and withdrawal of deposits and
other interest-bearing liabilities into an asset/liability computer simulation
model. The Company updates and prepares simulation modeling at least quarterly
for review by senior management and the directors. The Company believes the data
and assumptions are realistic representations of its portfolio and possible
outcomes under the various interest rate scenarios. Nonetheless, the interest
rate sensitivity of the Company's net interest income and net market value of
equity could vary substantially if different assumptions were used or if actual
experience differs from the assumptions used.
28
SENSITIVITY ANALYSIS
The table of Interest Rate Risk Indicators sets forth, as of June 30, 2001, the
estimated changes in the Company's net interest income over a one year time
horizon and the estimated changes in market value of equity based on the
indicated interest rate environments.
TABLE OF INTEREST RATE RISK INDICATORS
Estimated Change in
------------------------------------------------
Change (In Basis Points) Net Interest Income
in Interest Rates (1) Next 12 Months Net Market Value
- ------------------------ ------------------- ----------------------
(Dollars in thousands)
+400 $ 228 0.3% $ (67,410) (33.7%)
+300 326 0.5% (51,916) (26.0%)
+200 432 0.6% (33,850) (16.9%)
+100 488 0.7% (14,852) (7.4%)
0 0 0 0 0
-100 (1,602) (2.2%) 5,807 2.9%
-200 (3,950) (5.5%) (4,800) (2.4%)
-300 (7,210) (10.0%) (24,001) (12.0%)
-400 $(10,365) (14.3%) $(42,248) (21.1%)
- ----------
(1) Assumes an instantaneous and sustained uniform change in market interest
rates at all maturities.
Another although less reliable monitoring tool for assessing interest rate risk
is "gap analysis." The matching of the repricing characteristics of assets and
liabilities may be analyzed by examining the extent to which such assets and
liabilities are "interest sensitive" and by monitoring an institution's interest
sensitivity "gap." An asset or liability is said to be interest sensitive within
a specific time period if it will mature or reprice within that time period. The
interest rate sensitivity gap is defined as the difference between the amount of
interest-earning assets anticipated, based upon certain assumptions, to mature
or reprice within a specific time period and the amount of interest-bearing
liabilities anticipated to mature or reprice, based upon certain assumptions,
within that same time period. A gap is considered positive when the amount of
interest sensitive assets exceeds the amount of interest sensitive liabilities.
A gap is considered negative when the amount of interest sensitive liabilities
exceeds the amount of interest sensitive assets. Generally, during a period of
rising rates, a negative gap would tend to adversely affect net interest income
while a positive gap would tend to result in an increase in net interest income.
During a period of falling interest rates, a negative gap would tend to result
in an increase in net interest income while a positive gap would tend to
adversely affect net interest income.
Certain shortcomings are inherent in gap analysis. For example, although certain
assets and liabilities may have similar maturities or periods of repricing, they
may react in different degrees to changes in market rates. Also, the interest
rates on certain types of assets and liabilities may fluctuate in advance of
changes in market rates, while interest rates on other types may lag behind
changes in market rates. Additionally, certain assets, such as ARM loans, have
features that restrict changes in interest rates on a short-term basis and over
the life of the asset. Further, in the event of a change in interest rates,
prepayment and early withdrawal levels would likely deviate significantly from
those assumed in calculating the table. Finally, the ability of some borrowers
to service their debt may decrease in the event of a severe interest rate
increase.
The table of Interest Sensitivity Gap presents the Company's interest
sensitivity gap between interest-earning assets and interest-bearing liabilities
at June 30, 2001. The table sets forth the amounts of interest-earning assets
and interest-bearing liabilities which are anticipated by the Company, based
upon certain assumptions, to reprice or mature in each of the future periods
shown. At June 30, 2001, total interest-bearing liabilities maturing or
repricing within one year exceeded total interest-earning assets maturing or
repricing in the same time period by $78.4 million, representing a one-year gap
to total assets ratio of (3.84%).
29
TABLE OF INTEREST SENSITIVITY GAP
As of June 30, 2001 Within 6 Months to 1-3 3-5 5-10 Over 10
6 Months One Year Years Years Years Years Total
-------- -------- ----- ----- ----- ----- -------
(dollars in thousands)
<s> <c> <c> <c> <c> <c> <c> <c>
Interest-earning assets(1):
Construction loans $169,355 $ 78,171 $ 1,961 $ 953 $ -- $ -- $ 250,440
Fixed-rate mortgage loans 62,878 51,995 154,758 122,588 159,734 94,151 646,104
Adjustable-rate mortgage loans 165,298 50,775 85,214 3,904 -- -- 305,191
Fixed-rate mortgage-backed
securities 7,638 7,402 39,391 23,042 15,404 5,901 98,778
Adjustable-rate mortgage-backed
securities 85,031 4,678 -- -- -- -- 89,709
Fixed-rate commercial /agriculture
loans 17,960 7,797 23,134 22,381 7,744 2,408 81,424
Adjustable-rate commercial/
agriculture loans 245,777 -- -- -- -- -- 245,777
Consumer and other loans 19,919 5,572 17,286 12,820 1,374 2,564 59,535
Investment securities and interest-
bearing deposits 39,261 6,610 19,845 20,760 7,100 56,338 149,914
-------- -------- -------- -------- -------- -------- ----------
Total rate-sensitive assets 813,117 213,000 341,589 206,448 191,356 161,362 1,926,872
-------- -------- -------- -------- -------- -------- ----------
Interest-bearing liabilities(2):
Regular savings and NOW accounts 17,202 17,202 40,138 40,138 -- -- 114,680
Money market deposit accounts 71,974 43,184 28,789 -- -- -- 143,947
Certificates of deposit 470,912 194,542 168,887 19,905 7,131 37 861,414
FHLB advances 108,300 120,600 133,754 62,500 78,079 849 504,082
Other borrowings 53,762 -- -- -- -- -- 53,762
Retail repurchase agreements 6,782 100 2,610 -- 1,843 -- 11,335
-------- -------- -------- -------- -------- -------- ----------
Total rate-sensitive liabilities 728,932 375,628 374,178 122,543 87,053 886 1,689,220
-------- -------- -------- -------- -------- -------- ----------
Excess (deficiency) of interest-
sensitive assets over interest-
sensitive liabilities $ 84,185 $(162,628) $(32,589) $ 83,905 $104,303 $160,476 $ 237,652
Cumulative excess (deficiency) of ======== ========= ======== ======== ======== ======== ==========
interest-sensitive assets $ 84,185 $ (78,443) (111,032) (27,127) $ 77,176 $237,652 $ 237,652
======== ========= ======== ======== ======== ======== ==========
Cumulative ratio of interest-
earning assets to interest-
bearing liabilities 111.55% 92.90% 92.49% 98.31% 104.57% 114.07% 114.07%
======== ========= ======== ======== ======== ======== ==========
Interest sensitivity gap to
total assets 4.12% (7.95%) (1.59%) 4.10% 5.10% 7.85% 11.62%
======== ========= ======== ======== ======== ======== ==========
Ratio of cumulative gap to
total assets 4.12% (3.84%) (5.43%) (1.33%) 3.77% 11.62% 11.62%
======== ========= ======== ======== ======== ======== ==========
(footnotes on following page)
30
Footnotes for Table of Interest Sensitivity Gap
- -----------------------------------------------
(1) Adjustable-rate assets are included in the period in which interest rates
are next scheduled to adjust rather than in the period in which they are due to
mature, and fixed-rate assets are included in the periods in which they are
scheduled to be repaid based upon scheduled amortization, in each case adjusted
to take into account estimated prepayments. Mortgage loans and other loans are
not reduced for allowances for loan losses and non-performing loans. Mortgage
loans, mortgage-backed securities, other loans, and investment securities are
not adjusted for deferred fees and unamortized acquisition premiums and
discounts.
(2) Adjustable- and variable-rate liabilities are included in the period in
which interest rates are next scheduled to adjust rather than in the period they
are due to mature. Although the Banks' regular savings, demand, NOW, and money
market deposit accounts are subject to immediate withdrawal, management
considers a substantial amount of such accounts to be core deposits having
significantly longer maturities. For the purpose of the gap analysis, these
accounts have been assigned decay rates to reflect their longer effective
maturities. If all of these accounts had been assumed to be short-term, the one
year cumulative gap of interest-sensitive assets would have been negative $187.5
million or (9.17%) of total assets. Interest-bearing liabilities for this table
exclude certain non-interest bearing deposits which are included in the average
balance calculations in the earlier Table I, Analysis of Net Interest Spread.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary sources of funds are deposits, borrowings, proceeds from
loan principal and interest payments and sales of loans, and the maturity of and
interest income on mortgage-backed and investment securities. While maturities
and scheduled amortization of loans and mortgage-backed securities are a
predictable source of funds, deposit flows and mortgage prepayments are greatly
influenced by market interest rates, economic conditions and competition.
The primary investing activity of the Company, through its subsidiaries, is the
origination and purchase of loans. During the six months ended June 30, 2001,
the Company purchased loans in the amount of $1.3 million while loan
originations, net of repayments, totaled $212.2 million. This activity was
funded primarily by principal repayments on securities, sales of loans, and
deposit growth. During the six months ended June 30, 2001, the Company sold
$134.4 million of loans. Net deposit growth was $67.3 million for the six months
ended June 30, 2001. FHLB advances decreased $3.0 million for the six months
ended June 30, 2001. Other borrowings also decreased $9.6 million for the six
months ended June 30, 2001.
The Banks must maintain an adequate level of liquidity to ensure the
availability of sufficient funds to accommodate deposit withdrawals, to support
loan growth, to satisfy financial commitments and to take advantage of
investment opportunities. During the six months ended June 30, 2001, the Banks
used their sources of funds primarily to fund loan commitments, to purchase
securities, to repay FHLB advances and other borrowings, and to pay maturing
savings certificates and deposit withdrawals. At June 30, 2001, the Banks had
outstanding loan commitments totaling $147.8 million and undisbursed loans in
process totaling $137.2 million. The Banks generally maintain sufficient cash
and readily marketable securities to meet short-term liquidity needs. BB
maintains a credit facility with the FHLB-Seattle, which provides for advances
which, in aggregate, may equal the lesser of 45% of BB's assets or unencumbered
qualifying collateral, which as of June 30, 2001 could give a maximum total
credit line of $816 million. Advances under this credit facility totaled $477.2
million, or 26% of BB's assets at June 30, 2001. BBO also maintains credit lines
with various institutions, including the FHLB-Seattle, that would allow it to
borrow up to $10.7 million.
At June 30, 2001, savings certificates amounted to $861.3 million, or 68%, of
the Banks' total deposits, including $665.5 million which were scheduled to
mature within one year. Historically, the Banks have been able to retain a
significant amount of their deposits as they mature. Management believes it has
adequate resources to fund all loan commitments from savings deposits,
FHLB-Seattle advances, other borrowings and sale of mortgage loans and that it
can adjust the offering rates for savings certificates to retain deposits in
changing interest rate environments.
31
CAPITAL REQUIREMENTS
Federally-insured state-chartered banks are required to maintain minimum levels
of regulatory capital. Under current FDIC regulations, insured state-chartered
banks generally must maintain (i) a ratio of Tier 1 leverage capital to total
assets of at least 3.0% (4.0% to 5.0% for all but the most highly rated banks),
(ii) a ratio of Tier 1 capital to risk-weighted assets of at least 4.0% and
(iii) a ratio of total capital to risk-weighted assets of at least 8.0%. At June
30, 2001, BANR's banking subsidiaries exceeded all current regulatory capital
requirements to be classified as well capitalized institutions, the highest
regulatory standard. In order to be categorized as a well capitalized
institution, the FDIC requires banks it regulates to maintain a leverage ratio,
defined as Tier 1 capital divided by total regulatory assets, of at least 5.00%;
Tier 1 (or core) capital of at least 6.00% of risk-weighted assets; and total
capital of at least 10.00% of risk-weighted assets.
BANR, as a bank holding company, is regulated by the Federal Reserve Board
(FRB). The FRB has established capital requirements for bank holding companies
that generally parallel the capital requirements of the FDIC for banks with $150
million or more in total consolidated assets. BANR's total regulatory capital
must equal 8% of risk-weighted assets and one half of the 8% (4%) must consist
of Tier 1 (core) capital.
The actual regulatory capital ratios calculated for BANR along with the minimum
capital amounts and ratios for capital adequacy purposes were as follows
(dollars in thousands):
Minimum for capital
Actual adequacy purposes
----------------- -------------------
Amount Ratio Amount Ratio
------ ----- ------ -----
June 30, 2001: (Restated)
BANR--consolidated
Total capital to risk-
weighted assets $176,791 11.68% $121,122 8.00%
Tier 1 capital to risk-
weighted assets 158,841 10.49 60,561 4.00
Tier 1 leverage capital
average assets 158,841 8.03 79,144 4.00
32
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
From time to time BANR or its subsidiaries are engaged in legal proceedings in
the ordinary course of business, none of which is considered to have a material
impact on the BANR's financial position or results of operations.
ITEM 2. CHANGES IN SECURITIES
Not Applicable
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not Applicable
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF STOCKHOLDERS
The annual meeting of stockholders of the Company (meeting) was held on April
20, 2001. At the meeting there were a total number of 12,000,753 shares eligible
to vote of which 9,723,781 were received or cast at the meeting. The result of
the vote on the election of directors, the first proposal presented at the
meeting, is as follows:
The following individuals were elected as directors:
FOR WITHHELD
-------------------------- -------------------------
percentage of percentage of
# of votes shares voted # of votes shares voted
---------- ------------- ---------- -------------
Gary Sirmon 8,741,304 89.9% 982,477 10.1%
Wilbur Pribilsky 8,744,961 89.9% 978,820 10.1%
Robert D. Adams 8,745,173 89.9% 978,608 10.1%
Steve Sundquist 8,748,971 90.0% 974,810 10.0%
The terms of Directors David B. Casper, Jesse G. Foster, S. Rick Meikle, Dean
W. Mitchell, Brent A. Orrico and Margaret C. Langlie continued. Director Marvin
Sundquist retired.
The result of the vote on the approval of the appointment of Deloitte & Touche
LLP as independent auditors for the fiscal year ending December 31, 2001, the
second proposal at the meeting, is as follows:
# of votes percentage of shares voted
---------- --------------------------
FOR 9,633,735 99.10%
AGAINST 54,889 0.55%
ABSTAIN 35,157 0.35%
The result of the vote on the approval to adopt the Banner Corporation 2001
Stock Option Plan, the third proposal presented at the meeting, is as follows:
# of votes percentage of shares voted
---------- --------------------------
FOR 7,735,528 79.8%
AGAINST 1,906,094 19.6%
ABSTAIN 56,588 0.6%
ITEM 5. OTHER INFORMATION
Not Applicable
ITEM 6. EXHIBITS AND REPORTS ON FORM 8K
Report(s) on Form 8-K filed during the quarter ended June 30, 2001, are as
follows:
Date Filed Purpose
- ---------- -------
NONE
33
SIGNATURES
- ----------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Banner Corporation
October 31, 2001 /s/ Gary Sirmon
--------------------
Gary Sirmon
President and Chief Executive Officer
October 31, 2001 /s/ Lloyd W. Baker
--------------------
Lloyd W. Baker
Treasurer and Executive Vice President
34