UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2005
- OR -
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ______________________ to _______________________
Commission File Number: 0-17353
FMS FINANCIAL CORPORATION
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(Exact name of registrant as specified in its charter)
New Jersey 22-2916440
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(State or other jurisdiction of incorporation (I.R.S. Employer or organization)
Identification No.)
3 Sunset Road, Burlington, New Jersey 08016
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (609) 386-2400
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Securities registered pursuant to Section 12(b) of the Act: None
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Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.10 per share
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(Title of Class)
Indicate by check mark if the registrant is a well-known seasoned issuer, as
defined in Rule 405 of the Securities Act. [ ] YES [X] NO
Indicate by check mark if the registrant is not required to file reports
pursuant to Section 13 or Section 15(d) of the Act. [ ] YES [X] NO
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. [X] YES [ ] NO
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). [ ] YES [X ] NO
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Act). [ ] YES [X ] NO
Based on the closing sales price of $17.29 per share of the
registrant's common stock on June 30, 2005, as reported on the Nasdaq National
Market System, the aggregate market value of voting stock held by non-affiliates
of the registrant was approximately $66.6 million. As of March 10, 2006, there
were 6,515,110 shares outstanding of the registrant's common stock.
DOCUMENTS INCORPORATED BY REFERENCE
1. Portions of 2005 Annual Report to Stockholders (Parts II and IV)
2. Portions of the Proxy Statement for the 2006 Annual Meeting of
Stockholders. (Part III)
PART I
Forward-Looking Statements
FMS Financial Corporation (the "Corporation" or "Registrant") may from
time to time make written or oral "forward-looking statements," including
statements contained in the Corporation's filings with the Securities and
Exchange Commission (including this Annual Report on Form 10-K and the exhibits
thereto), in its reports to stockholders and in other communications by the
Corporation, which are made in good faith by the Corporation pursuant to the
"safe harbor" provisions of the private securities litigation reform act of
1995.
These forward-looking statements involve risks and uncertainties, such
as statements of the Corporation's plans, objectives, expectations, estimates
and intentions, that are subject to change based on various important factors
(some of which are beyond the Corporation's control). The following factors,
among others, could cause the Corporation's financial performance to differ
materially from the plans, objectives, expectations, estimates and intentions
expressed in such forward-looking statements: the strength of the United States
economy in general and the strength of the local economies in which the
Corporation conducts operations; the effects of, and changes in, trade, monetary
and fiscal policies and laws, including interest rate policies of the board of
governors of the federal reserve system, inflation, interest rate, market and
monetary fluctuations; the timely development of and acceptance of new products
and services of the Corporation and the perceived overall value of these
products and services by users, including the features, pricing and quality
compared to competitors' products and services; the willingness of users to
substitute competitors' products and services for the Corporation's products and
services; the success of the Corporation in gaining regulatory approval of its
products and services, when required; the impact of changes in financial
services' laws and regulations (including laws concerning taxes, banking,
securities and insurance); technological changes, acquisitions; changes in
consumer spending and saving habits; and the success of the Corporation at
managing the risks involved in the foregoing.
The Corporation cautions that the foregoing list of important factors
is not exclusive. The Corporation does not undertake to update any
forward-looking statement, whether written or oral, that may be made from time
to time by or on behalf of the Corporation.
Item 1. Business
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General
FMS Financial Corporation, a New Jersey corporation, headquartered in
Burlington, New Jersey, is the holding company for Farmers and Mechanics Bank
(the "Bank"). The Corporation conducts no significant business or operations of
its own other than holding all of the outstanding common stock of the Bank. As a
result, references to the Corporation or Registrant generally refers to the
consolidated entity which includes the main operating company, the Bank, unless
the context indicates otherwise.
The Registrant principally operates through its forty-two banking
offices located in Burlington, Camden and Mercer Counties, New Jersey. The
Registrant is primarily engaged in the business of attracting deposits from the
general public and originating loans which are secured by residential real
estate. To a lesser extent, the Registrant also originates consumer, commercial
business loans and
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construction loans and invests in U.S. government securities and
mortgage-related securities.
Competition
The Registrant's primary market area consists of Burlington, Camden and
Mercer Counties, New Jersey, and is one of many financial institutions serving
this market area. The competition for deposit products comes from other insured
financial institutions such as commercial banks, thrift institutions and credit
unions in the Registrant's market area. Deposit competition also includes a
number of insurance products sold by local agents and investment products such
as mutual funds and other securities sold by local and regional brokers. Loan
competition comes from other insured financial institutions such as commercial
banks, thrift institutions and credit unions.
Lending Activities
Analysis of Loan Portfolio
The following table sets forth the composition of the Registrant's loan
portfolio in dollar amounts and in percentages of the respective portfolios at
the dates indicated.
December 31,
------------------------------------------------------------------------------------------------------
2005 2004 2003 2002 2001
------------------ -------------------- ------------------ ----------------- ------------------
Carrying Percent Carrying Percent Carrying Percent Carrying Percent Carrying Percent
Value of Total Value of Total Value of Total Value of Total Value of Total
----- -------- ----- -------- ----- -------- ----- -------- ----- --------
(In thousands)
Mortgage loans:
One-to-four family........ $286,476 63.97% $275,843 65.08% $280,664 68.84% $272,777 74.38% $259,970 76.11%
Commercial real estate.... 127,704 28.52 116,380 27.46 104,352 25.60 76,354 20.82 60,627 17.75
Commercial construction... 6,942 1.55 11,971 2.82 5,994 1.47 1,157 .32 4,606 1.35
Construction.............. 1,775 .40 897 .21 1,324 .32 306 .08 1,254 .37
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total mortgage loans.. 422,897 94.44 405,091 95.57 392,334 96.23 350,594 95.60 326,457 95.58
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Consumer and other loans:
Consumer.................. 2,356 .53 2,472 .58 3,187 .78 3,522 .96 4,583 1.34
Commercial business....... 22,550 5.03 16,312 3.85 12,180 2.99 12,621 3.44 10,521 3.08
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total consumer and other
loans.............. 24,906 5.56 18,784 4.43 15,367 3.77 16,143 4.40 15,104 4.42
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total loans........... $447,803 100.00% $423,875 100.00% $407,701 100.00% $366,737 100.00% $341,561 100.00%
======== ====== ======== ====== ======== ====== ======== ====== ======== ======
One- to- Four Family Loans. The Registrant's primary lending activity
consists of the origination of one- to-four family residential mortgage loans
("residential loans") secured by the property in the Registrant's market area.
The Registrant's residential loan portfolio also includes second mortgage loans
and home equity loans (including home equity lines of credit loans). The
Registrant generally originates mortgage loans with terms of 15 to 30 years,
amortized on a monthly basis, with principal and interest due each month.
Typically, residential loans remain outstanding for significantly shorter
periods than their contractual terms because borrowers may refinance or prepay
loans at their option.
The Registrant presently offers residential loans that adjust every
year after an initial fixed term of one, two, five or seven years, at an
interest rate indexed higher than the corresponding U.S. Treasury security
index. The interest rates on these mortgages adjust annually after the one, two,
five or seven year
3
anniversary date of the loan with an interest rate adjustment cap of 1.5% per
year and presently not to exceed a rate of 11.5% over the life of the loan. At
December 31, 2005, adjustable-rate residential first mortgage loans amounted to
$21.7 million or 4.84% of the total residential loan portfolio. These loans are
generally not originated under terms, conditions and documentation which permit
their sale in the secondary mortgage market to FreddieMac and FannieMae.
Fixed-rate mortgage loans are generally underwritten according to
FreddieMac and FannieMae guidelines. The Registrant periodically sells selected
fixed-rate residential loans, without recourse, to provide additional funds for
lending and to restructure the loan portfolio to improve interest rate risk.
Generally, if the property is not owner-occupied, a higher rate of interest is
charged on such loans. At December 31, 2005, $228.4 million, or 51.01% of the
total residential loan portfolio, consisted of long- term fixed-rate first
mortgage loans, none of which were classified as held for sale.
The Registrant's lending policies generally limit the maximum
loan-to-value ratio on owner- occupied residential first mortgage loans to 97%
of the lesser of the appraised value or purchase price, with the condition that
private mortgage insurance is required on loans with loan-to-value ratios in
excess of 80%. Mortgage loans on investment properties are made at loan-to-value
ratios up to 70%. The loan-to- value ratio, maturity and other provisions of the
loans made by the Registrant have generally reflected the policy of making less
than the maximum loan permissible under applicable regulations, in accordance
with established lending practices, market conditions and underwriting standards
maintained by the Registrant. The Registrant requires fire and casualty
insurance on all properties securing real estate loans and also performs title
searches to ensure its lien position.
The Registrant actively solicits and originates home equity loans and
home equity lines of credit secured by the equity in the borrower's primary
residence. These loans generally have terms of 10 to 15 years, some of which are
fixed rates and some of which have rates that adjust based upon the prime rate.
At December 31, 2005, the Registrant had home equity loans in the amount of
$17.8 million, or 6.20%, of its residential loan portfolio and approved $44.8
million in home equity lines of credit, of which $18.6 million was outstanding.
Commercial Real Estate Loans. Commercial real estate loans are loans
secured by commercial real estate (e.g., shopping centers, medical buildings,
retail offices) and multi-family dwelling units (e.g., apartment projects with
more than four units), in the Registrant's market area. Commercial real estate
loans and multi-family residential loans have been made in amounts up to $4.0
million, with most of such loans ranging in size from $100,000 to $2.0 million.
Loans on commercial properties are generally originated in amounts up to 75% of
the appraised value of the property. Commercial real estate loans and
multi-family residential loans are generally made at rates which adjust above
the prime interest rate (generally 1% to 2%) or a specified treasury index or
are balloon loans with fixed interest rates which mature in three to five years
with principal amortization for a period of up to 25 years. At December 31,
2005, the Registrant's commercial real estate loan portfolio consisted of $121.9
million of commercial real estate and $5.8 million of multi-family loans.
Loans secured by commercial real estate are generally larger and
involve a greater degree of risk than one- to-four family residential mortgage
loans. Of primary concern, in commercial and multi-family real estate lending,
is the borrower's creditworthiness and the feasibility and cash flow potential
of the
4
property. Loans secured by income properties are generally larger and involve
greater risks than residential mortgage loans because payments on loans secured
by income properties are often dependent on successful operation or management
of the properties. As a result, repayment of such loans may be subject to a
greater extent than residential real estate loans to adverse conditions in the
real estate market or the economy.
Construction Loans. The Registrant originates loans to finance the
construction of one- to-four family dwellings and/or commercial real estate.
Construction loans to builders are generally made only if the Registrant makes
the permanent mortgage loan or if the builder has a contract for sale and the
purchaser has received a permanent mortgage commitment. Interim construction
loans to builders generally have terms of up to nine months and interest rates
which adjust above the prime interest rate (generally 1% to 2%).
Construction financing is generally considered to involve a higher
degree of risk of loss than long- term financing on improved, occupied real
estate. Risk of loss on a construction loan is dependent largely upon the
accuracy of the initial estimate of the property's value at completion of
construction and development and the estimated cost (including interest) of
construction. During the construction phase, a number of factors could result in
delays and cost overruns. If the estimate of construction costs proves to be
inaccurate, the Registrant may be required to advance funds beyond the amount
originally committed to permit completion of the development. If the estimate of
value proves to be inaccurate, the Registrant may be confronted, at or prior to
the maturity of the loan, with a project having a value which is insufficient to
assure full repayment.
Consumer Loans. Regulations permit federally chartered thrift
institutions to make secured and unsecured consumer loans up to 35% of the
institution's assets. The Registrant makes various types of secured and
unsecured consumer loans including education loans, lines of credit, automobile
loans (new and used) and loans secured by deposit accounts. Consumer loans
generally have terms of six months to five years, some of which are at fixed
rates and some of which have rates that adjust periodically.
Consumer loans may entail greater risk than residential loans,
particularly in the case of consumer loans that are unsecured or secured by
assets that depreciate rapidly. Repossessed collateral for a defaulted consumer
loan may not be sufficient for repayment of the outstanding loan, and the
remaining deficiency may not be collectible.
Commercial Business Loans. Commercial business loans are underwritten
on the basis of the borrower's ability to service such debt from income and are
generally made to small and mid-sized companies located within the Registrant's
primary lending area. Generally, the Registrant requires additional collateral
of equipment, chattel or other assets before making a commercial business loan.
Loan Commitments. The Registrant issues loan origination commitments to
real estate developers and qualified borrowers primarily for the construction,
purchase and refinancing of residential real estate and commercial real estate.
Such commitments are made on specified terms and conditions, including in most
cases, the payment of a non-refundable commitment fee based on a percentage of
the amount of committed funds. Generally, the commitment requires acceptance
within 15 days of the date of issuance. At December 31, 2005, the Registrant had
$22.8 million of commitments to cover originations and $31.3
5
million in undisbursed funds on outstanding lines of credit. Management believes
that virtually all of the Registrant's commitments will be funded.
Origination of Loans
Commercial loan origination comes from a variety of sources, including
the Registrant's existing customer base, referrals from real estate offices,
accountants, financial advisers, attorneys, builders and walk in business as
well as solicitations by the Registrant's business development officers.
Residential mortgage loan customers are derived in a similar manner. Consumer
loans are directly obtained through the Registrant's network of branch offices
and advertising.
All applications are processed in accordance with established policies
of the Registrant, including the review of credit references, verification of
information provided and, where real estate is involved, the review of an
appraisal completed by an independent third party appraiser from a list of
approved appraisers that the Registrant maintains.
Loan approvals may be approved by loan officers up to their
individually assigned lending limit, which are established and modified
periodically to reflect the officer's expertise and experience. Certain officers
have joint lending authorities that exceed their individual authorities. The
Board of Directors approves loans above the individual and joint authorities of
the officers. The Board reviews on an annual basis the loan approval
authorities.
Non-Performing and Problem Assets
When a loan is more than 30 days delinquent, the borrower is contacted
by mail or phone and payment is requested. If the delinquency continues,
subsequent efforts are made to contact the delinquent borrower. In certain
instances, the Registrant may modify the loan or grant a limited moratorium on
loan payments to enable the borrower to reorganize their financial affairs. If
the loan continues in a delinquent status for 90 days or more, the Registrant
generally will initiate foreclosure proceedings.
Loans are generally placed on non-accrual status when either principal
or interest is 90 days or more past due. Interest accrued and unpaid at the time
a loan is placed on non-accrual status is charged against interest income. Such
interest, when ultimately collected, is credited to income in the period
received. At December 31, 2005, the Bank had $1.8 million of loans that were
held on a non-accrual basis.
6
Non-Performing Assets. The following table sets forth information
regarding non-accrual loans, troubled debt restructured and real estate owned
assets by the Registrant at the dates indicated.
At December 31,
----------------------------------------------
2005 2004 2003 2002 2001
------ ------ ------ ------ ------
(Dollars in Thousands)
Loans accounted for on a non-accrual basis:
Mortgage loans:
One-to-four family ........................ $ 794 $ 819 $ 507 $ 960 $1,348
Commercial real estate .................... 985 985 1,189 1,786 1,634
Consumer and other ........................ -- -- -- 12 --
------ ------ ------ ------ ------
Total mortgage non-accrual loans ....... $1,779 $1,804 $1,696 $2,758 $2,982
------ ------ ------ ------ ------
Troubled debt restructuring .................. $ 176 $ 718 $1,027 $ 987 $1,072
Real estate owned, net ....................... -- -- 48 291 214
Other non-performing assets .................. -- -- -- 88 88
------ ------ ------ ------ ------
Total non-performing assets .................. $1,955 $2,522 $2,771 $4,124 $4,356
------ ------ ------ ------ ------
Total non-accrual loans to net loans ......... .40% .43% .42% .76% .89%
====== ====== ====== ====== ======
Total non-accrual loans to total assets ...... .14% .14% .14% .24% .31%
====== ====== ====== ====== ======
Total non-performing assets to total assets... .16% .20% .23% .37% .45%
====== ====== ====== ====== ======
Classified Assets. The Office of Thrift Supervision ("OTS") regulations
provide for a classification system for problem assets of insured institutions
which covers all problem assets. Under this classification system, problem
assets of insured institutions are classified as "substandard," "doubtful," or
"loss." An asset is considered substandard if it is inadequately protected by
the current net worth and paying capacity of the obligor or of the collateral
pledged, if any. Substandard assets include those characterized by the "distinct
possibility" that the insured institution will sustain "some loss" if the
deficiencies are not corrected. Assets classified as doubtful have all of the
weaknesses inherent in those classified substandard, with the added
characteristic that the weaknesses present make "collection or liquidation in
full," on the basis of currently existing facts, conditions, and values, "highly
questionable and improbable." Assets classified as loss are those considered
"uncollectible" and of such little value that their continuance as assets
without the establishment of a specific loss reserve is not warranted. Assets
may be designated "special mention" because of potential weaknesses that do not
currently warrant classification in one of the aforementioned categories.
When an insured institution classifies problem assets as loss, it is
required either to establish a specific allowance for losses equal to 100% of
that portion of the asset so classified or to charge off such amount. An
institution's determination as to the classification of its assets and the
amount of its valuation allowances is subject to review by the OTS.
Management's evaluation of the classification of assets and the
adequacy of the reserve for loan losses is reviewed by the Board on a regular
basis and by the regulatory agencies as part of their examination process.
7
The following table sets forth the Registrant's classified assets in
accordance with its classification system.
At December 31, 2005
--------------------
(In thousands)
Special mention.................. $3,134
Substandard...................... 4,917
Doubtful......................... --
Loss............................. --
------
Total................... $8,051
======
Provision for Loan Losses. A provision for loan losses is charged to
operations based on management's evaluation of the probable losses in the
Registrant's loan portfolio. Such evaluation, which includes a review of all
loans of which full collectibility of interest and principal may not be
reasonably assured, considers the Registrant's past loan loss experience, known
and inherent risks in the portfolio, adverse situations that may affect the
borrower's ability to repay, estimated value of any underlying collateral, and
current economic conditions.
Management will continue to review the entire loan portfolio to
determine the extent, if any, to which further additional loss provisions may be
deemed necessary. There can be no assurance that the allowance for losses will
be adequate to cover losses which may in fact be realized in the future and that
additional provisions for losses will not be required.
The following table sets forth an analysis of the Registrant's
allowance for loan losses for the periods indicated.
For the Year Ended December 31,
-------------------------------------------------------
2005 2004 2003 2002 2001
------- ------- ------- ------- -------
(Dollars in Thousands)
Balance at beginning of period ............. $ 4,719 $ 4,408 $ 4,317 $ 4,231 $ 3,980
Loans charged-off:
One-to-four family ....................... (9) (3) -- (10) (42)
Commercial real estate .................... -- -- -- -- --
Construction .............................. -- -- -- -- --
Consumer .................................. (45) (6) (4) (10) (3)
Commercial business ....................... (4) (14) (184) (58) --
------- ------- ------- ------- -------
Total charge-offs ....................... (58) (23) (188) (78) (45)
Recoveries .................................. 42 4 9 15 13
------- ------- ------- ------- -------
Net loans charged-off ....................... (16) (19) (179) (63) (32)
------- ------- ------- ------- -------
Provision for loan losses ................... 360 330 270 149 221
------- ------- ------- ------- -------
Increase as a result of merger .............. -- -- -- -- 62
------- ------- ------- ------- -------
Balance at end of period .................... $ 5,063 $ 4,719 $ 4,408 $ 4,317 $ 4,231
======= ======= ======= ======= =======
Ratio of net charge-offs to average loans
outstanding during the period ............ .005% .005% .046% .017% .010%
======= ======= ======= ======= =======
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Analysis of the Allowance for Loan Losses
The following table sets forth the breakdown of the allowance for loan
losses by loan category and the percent of loans in each category to total loans
receivable for the periods indicated. The allocation of the allowance to each
category is not necessarily indicative of future losses.
At December 31,
---------------------------------------------------------------------------------------------------
2005 2004 2003 2002 2001
------------------- ------------------ ------------------ ------------------- -------------------
Percent of Percent of Percent of Percent of Percent of
Loans to Loans to Loans to Loans to Loans to
Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans
------ ----------- ------ ----------- ------ ----------- ------ ----------- ------ -----------
(Dollars in Thousands)
Loans:
One- to-four family....... $1,694 63.97% $ 986 65.08% $1,446 68.84% $1,672 74.38% $1,339 76.11%
Commercial real estate.... 2,792 28.52 2,883 27.46 2,540 25.60 2,284 20.82 2,311 17.75
Commercial construction... 279 1.55 582 2.82 194 1.47 69 .32 100 1.35
Construction.............. 8 .40 2 .21 25 .32 34 .08 222 .37
Consumer and other........ 19 .53 22 .58 24 .78 28 .96 33 1.34
Commercial business....... 271 5.03 244 3.85 179 2.99 230 3.44 226 3.08
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
Total allowance
for loan losses..... $5,063 100.00% $4,719 100.00% $4,408 100.00% $4,317 100.00% $4,231 100.00%
====== ====== ====== ====== ====== ====== ====== ====== ====== ======
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Investment Activities
The Registrant is required under federal regulations to maintain a
minimum amount of liquid assets which may be invested in specified short-term
securities and certain other investments. The level of liquid assets varies
depending upon several factors, including: (i) the yields on investment
alternatives, (ii) management's judgment as to the attractiveness of the yields
then available in relation to other opportunities, (iii) expectation of future
yield levels, and (iv) management's projections as to the short-term demand for
funds to be used in loan origination and other activities. Investment
securities, including mortgage-backed securities, are classified at the time of
purchase, based upon management's intentions and abilities, as securities held
to maturity or securities available for sale. Debt securities acquired with the
intent and ability to hold to maturity are classified as held to maturity and
are stated at cost and adjusted for amortization of premium and accretion of
discount, which are computed using the level yield method and recognized as
adjustments of interest income. All other debt securities are classified as
available for sale to serve principally as a source of liquidity.
Current regulatory and accounting guidelines regarding investment
securities (including mortgage backed securities) require the Registrant to
categorize securities as "held to maturity," "available for sale" or "trading."
As of December 31, 2005, the Registrant had securities classified as "held to
maturity" and "available for sale" in the amount of $483.5 million and $155.6
million, respectively and had no securities classified as "trading." Securities
classified as "available for sale" are reported for financial reporting purposes
at the fair market value with their net unrealized gain or loss included as a
separate component of stockholders' equity, net of income taxes. At December 31,
2005, the Registrant's securities available for sale had an amortized cost of
$157.5 million and market value of $155.6 million (net unrealized loss of $1.9
million, net of income taxes). The changes in market value in the Registrant's
available for sale portfolio reflect normal market conditions and vary, either
positively or negatively, based primarily on changes in general levels of market
interest rates relative to the yields of the portfolio. Additionally, changes in
the market value of securities available for sale do not affect the
Corporation's income nor does it affect the Bank's regulatory capital
requirements or its loan-to-one borrower limit.
The Registrant's investment securities "available-for-sale" and
"held-to-maturity" portfolios at December 31, 2005, did not contain securities
of any issuer with an aggregate book value in excess of 10% of the Registrant's
equity, excluding those issued by the United States government agencies.
At December 31, 2005, the Registrant's investment portfolio policy
allowed investments in instruments such as: (i) U.S. Treasury obligations, (ii)
U.S. federal agency or federally sponsored agency obligations, (iii) local
municipal obligations, (iv) mortgage-backed securities, (v) banker's
acceptances, (vi) certificates of deposit, and (vii) investment grade corporate
bonds, and commercial paper. The board of directors may authorize additional
investments.
As a source of liquidity and to supplement Registrant's lending
activities, the Registrant has invested in residential mortgage-backed
securities. Mortgage-backed securities can serve as collateral for borrowings
and, through repayments, as a source of liquidity. Mortgage-backed securities
represent a participation interest in a pool of single-family or other type of
mortgages. Principal and interest payments are passed from the mortgage
originators, through intermediaries (generally quasi-governmental agencies) that
pool and repackage the participation interests in the form of securities, to
investors, like us. The quasi-governmental agencies guarantee the payment of
principal and interest to investors and include
10
Federal National Mortgage Association ("FNMA"), Government National Mortgage
Association ("GNMA"), and Federal Home Loan Mortgage Corporation ("FHLMC").
Mortgage-backed securities typically are issued with stated principal
amounts. The securities are backed by pools of mortgages that have loans with
interest rates that are within a set range and have varying maturities. The
underlying pool of mortgages can be composed of either fixed rate or adjustable
rate mortgage loans. Mortgage-backed securities are generally referred to as
mortgage participation certificates or pass-through certificates. The interest
rate risk characteristics of the underlying pool of mortgages (i.e., fixed rate
or adjustable rate) and the prepayment risk, are passed on to the certificate
holder. The life of a mortgage-backed pass-through security is equal to the life
of the underlying mortgages. Expected maturities will differ from contractual
maturities due to scheduled repayments and because borrowers may have the right
to call or prepay obligations with or without prepayment penalties.
Mortgage-backed securities issued by GNMA, FNMA and FHLMC make up a majority of
the pass- through certificates market.
The Registrant also invests in mortgage-related securities, primarily
collateralized mortgage obligations ("CMOs"), issued or sponsored by GNMA, FNMA
and FHLMC, as well as private issuers. CMOs are a type of debt security that
aggregates pools of mortgages and mortgage-backed securities and creates
different classes of CMO securities with varying maturities and amortization
schedules as well as a residual interest with each class having different risk
characteristics. The cash flows from the underlying collateral are usually
divided into "tranches" or classes whereby tranches have descending priorities
with respect to the distribution of principal and interest repayment of the
underlying mortgages and mortgage backed securities as opposed to pass-through
mortgage-backed securities where cash flows are distributed pro rata to all
security holders. Unlike mortgage-backed securities from which cash flow is
received and prepayment risk is shared pro rata by all securities holders, cash
flows from the mortgages and mortgage- backed securities underlying CMOs are
paid in accordance with a predetermined priority to investors holding various
tranches of such securities or obligations. A particular tranche or class may
carry prepayment risk which may be different from that of the underlying
collateral and other tranches. CMOs attempt to moderate reinvestment risk
associated with conventional mortgage-backed securities resulting from
unexpected prepayment activity. Management believes these securities represent
attractive alternatives relative to other investments due to the wide variety of
maturity, repayment and interest rate options available.
11
The following table sets forth the carrying value of the Registrant's
investment securities held to maturity, securities available for sale, FHLB
stock, and interest bearing deposits and overnight investments at the dates
indicated.
At December 31,
------------------------------
2005 2004 2003
-------- -------- --------
(In Thousands)
Investment securities held to maturity:
U.S. government and agency securities ..... $192,328 $164,381 $ 72,256
CMO's ..................................... 71,621 87,413 110,973
Municipal bonds ........................... 11,391 3,039 2,400
Mortgage-backed securities ................ 208,196 269,222 359,670
Investment securities available for sale:
U.S. government and agency securities ..... 59,581 30,317 13,189
CMO's ..................................... 21,990 37,602 33,597
Mortgage-backed securities ................ 74,060 74,081 102,445
-------- -------- --------
Total investment securities ........... 639,167 666,055 694,530
FHLB stock ................................ 8,248 10,250 11,810
Interest bearing deposits and
overnight investments ................... 39,296 64,142 31,312
-------- -------- --------
Total investments ........................... $686,711 $740,447 $737,652
======== ======== ========
12
The following table sets forth the scheduled maturities, carrying
values, market values and average yields for the Registrant's investment
securities at December 31, 2005. The following table does not take into
consideration the effects of unscheduled repayments or the effects of possible
prepayments.
One to Five to More than
One Year or Less Five Years Ten Years Ten Years Total Investment Securities
----------------- ---------------- ----------------- ----------------- ---------------------------
Carrying Average Carrying Average Carrying Average Carrying Average Carrying Market Average
Value Yield Value Yield Value Yield Value Yield Value Value Yield
------- ------- ------- ------- ------- ------- ----- ----- ------- ------- -----
(Dollars in Thousands)
Investment securities held to
maturity:
U.S. government and
agency obligations............. $ - -% $19,994 4.13% $ 83,947 5.25% $ 88,387 5.90% $192,328 $190,184 5.43%
Municipal bonds................ 11,291 3.02 100 4.30 - - - - 11,391 11,393 3.03
CMO's.......................... - - 1,211 4.00 6,112 3.91 64,298 4.49 71,621 69,647 4.43
Mortgage-backed securities..... 101 5.20 23,987 4.41 5,399 5.50 178,709 5.31 208,196 206,475 5.21
Investment securities
available for sale:
U.S. government and
agency obligations........... - - 29,613 4.25 24,403 5.03 5,565 6.03 59,581 59,581 4.74
CMO's.......................... - - 462 4.25 3,378 4.50 18,150 4.82 21,990 21,990 4.76
Mortgage-backed securities..... - - 3,027 4.72 1,997 5.00 69,036 5.06 74,060 74,060 4.82
FHLB stock..................... - - - - - - 8,248 5.25 8,248 8,248 5.25
Interest-bearing deposits and
overnight investments........ 39,296 4.07 - - - - - - 39,296 39,296 4.07
------- ---- ------- ---- -------- ---- -------- ---- -------- -------- ----
Total........................ $50,688 3.84% $78,394 4.28% $125,236 5.13% $432,393 5.26% $686,711 $680,874 4.99%
======= ==== ======= ==== ======== ==== ======== ==== ======== ======== ====
13
Sources of Funds
General. Deposits are the major external source of the Registrant's
funds for lending and other investment purposes. Funds are derived from
amortization and prepayment of loans and maturities of investment securities,
borrowings, mortgage-backed securities and operations. Scheduled loan principal
repayments are a relatively stable source of funds, while deposit inflows and
outflows and loan prepayments are significantly influenced by general interest
rates and market conditions.
Deposits. Deposits are attracted from within the Registrant's market
areas of Burlington, Camden and Mercer Counties, New Jersey, through the
offering of a broad selection of deposit instruments including regular checking
accounts, non-interest checking accounts, money market accounts, regular
passbook accounts, certificates of deposit and IRA accounts. Deposit account
terms vary according to the minimum balance required, the time periods the funds
must remain on deposit and the interest rate, among other factors. The
Registrant regularly evaluates the internal cost of funds, surveys rates offered
by competing institutions, reviews the Registrant's cash flow requirements for
lending and liquidity and executes rate changes when deemed appropriate. The
Registrant does not have any brokered deposits and has no present intention to
accept or solicit such deposits.
Certificates of Deposit in Excess of $100,000. The following table
indicates the amount of the Registrant's certificates of deposit of $100,000 or
more by time remaining until maturity as of December 31, 2005.
Maturity Period of Deposits Certificates of Deposit
- --------------------------- -----------------------
(In Thousands)
Three months or less................................... $12,209
Three through six months............................... 7,847
Six through twelve months.............................. 8,410
Over twelve months..................................... 7,137
-------
Total............................................. $35,603
=======
14
Deposit Rate. The following table sets forth the distribution of the
Registrant's average balance of deposit accounts at the dates indicated and the
weighted average nominal interest rates on each category of deposits presented.
At December 31,
---------------------------------------------------------------------------------------------
2005 2004 2003
------------------------------- ---------------------------- -----------------------------
Weighted Weighted Weighted
Percent of Average Percent Average Percent Average
Average Total Nominal Average of Total Nominal Average of Total Nominal
Balance Deposits Rate Balance Deposits Rate Balance Deposits Rate
------- -------- ------ ------- -------- ------ ------- -------- -----
(Dollars In Thousands)
Passbook and regular savings.......... $185,680 19.61% 0.43% $182,873 19.95% 0.43% $167,936 19.78% 0.57%
Checking accounts..................... 219,153 23.14 1.88 198,700 21.68 0.86 164,656 19.39 0.56
Noninterest checking.................. 180,803 19.09 0.00 167,638 18.29 0.00 148,836 17.53 0.00
Money market deposit accounts......... 142,137 15.01 0.89 139,038 15.17 0.72 130,822 15.40 0.78
Certificates of deposit............... 208,825 22.05 2.34 216,906 23.67 1.83 225,240 26.52 2.40
Surrogate statement................... 10,350 1.10 3.45 11,373 1.24 2.55 11,737 1.38 2.55
-------- ------ ---- -------- ------ ---- -------- ------ ----
Total Deposits...................... $946,948 100.00% 1.21% $916,528 100.00% 0.84% $849,227 100.00% 1.01%
======== ====== ==== ======== ====== ==== ======== ====== ====
15
Personnel
As of December 31, 2005, the Registrant had 380 full-time employees and
237 part-time employees. The employees are not represented by a collective
bargaining unit. Management believes its relationship with its employees is
good.
Regulation of the Corporation
Set forth below is a brief description of certain laws which relate to
the regulation of the Corporation. The description does not purport to be
complete and is qualified in its entirety by reference to applicable laws and
regulations.
General. The Corporation is a unitary savings and loan holding company
subject to regulatory oversight by the OTS. As such, the Corporation is required
to register and file reports with the OTS and is subject to regulation and
examination by the OTS. In addition, the OTS has enforcement authority over the
Corporation and its non-savings association subsidiaries, should such
subsidiaries be formed, which also permits the OTS to restrict or prohibit
activities that are determined to be a serious risk to the subsidiary savings
association. This regulation and oversight is intended primarily for the
protection of the depositors of the Bank and not for the benefit of stockholders
of the Corporation.
As a unitary savings and loan holding company, the Corporation
generally is not subject to any restrictions on its business activities. While
the Gramm-Leach-Bliley Act (the "GLB Act") terminated the "unitary thrift
holding company" exemption from activity restrictions on a prospective basis,
the Corporation enjoys grandfathered status under this provision of the GLB Act
because it acquired the Bank prior to May 4, 1999. As a result, the
Corporation's freedom from activity restrictions as a unitary savings and loan
holding company was not affected by the GLB Act. However, if the Corporation
were to acquire control of an additional savings institution, its business
activities would be subject to restriction under the Home Owners' Loan Act.
Furthermore, if the Corporation were in the future to sell control of the Bank
to any other company, such company would not succeed to the Corporation's
grandfathered status under the GLB Act and would be subject to the Home Owner's
Loan Act's activity restrictions.
The continuation of the Corporation's exemption from restrictions on
business activities as a unitary savings and loan holding company is also
subject to the Corporation's continued compliance with the QTL Test. See "-
Regulation of the Bank - Qualified Thrift Lender ("QTL") Test."
Sarbanes-Oxley Act of 2002. On July 30, 2002, President Bush signed
into law the Sarbanes-Oxley Act of 2002 (the "Sarbanes-Oxley Act"). The
Securities and Exchange Commission (the "SEC") has promulgated new regulations
pursuant to the Act and may continue to propose additional implementing or
clarifying regulations as necessary in furtherance of the Act. The passage of
the Act and the regulations implemented by the SEC subject publicly-traded
companies to additional and more cumbersome reporting regulations and
disclosure. Compliance with the Act and corresponding regulations may increase
the Corporation's expenses.
Regulation of the Bank
General. Set forth below is a brief description of certain laws that
relate to the regulation of the Bank. The description does not purport to be
complete and is qualified in its entirety by reference to applicable laws and
regulations. As a federally chartered savings association insured by the Savings
Association Insurance Fund ("SAIF"), the Bank is subject to extensive regulation
by the OTS and the
16
Federal Deposit Insurance Corporation ("FDIC"). Lending activities and other
investments must comply with various federal statutory and regulatory
requirements. The Bank is also subject to certain reserve requirements
promulgated by the Federal Reserve Board.
The OTS, in conjunction with the FDIC, regularly examines the Bank and
prepares reports for the consideration of the Bank's Board of Directors on any
deficiencies that are found in the Bank's operations. The Bank's relationship
with its depositors and borrowers is also regulated to a great extent by federal
and state law, especially in such matters as the ownership of savings accounts
and the form and content of the Bank's mortgage documents.
The Bank must file reports with the OTS and the FDIC concerning its
activities and financial condition, in addition to obtaining regulatory
approvals prior to entering into certain transactions such as mergers with or
acquisitions of other savings institutions. This regulation and supervision
establishes a comprehensive framework of activities in which an institution can
engage and is intended primarily for the protection of the SAIF and depositors.
The regulatory structure also gives the regulatory authorities extensive
discretion in connection with their supervisory and enforcement activities and
examination policies, including policies with respect to the classification of
assets and the establishment of adequate loan loss reserves for regulatory
purposes.
Insurance of Deposit Accounts. The deposit accounts held by the Bank
are insured by the SAIF to a maximum of $100,000 for each insured member (as
defined by law and regulation). Insurance of deposits may be terminated by the
FDIC upon a finding that the institution has engaged in unsafe or unsound
practices, is in an unsafe or unsound condition to continue operations or has
violated any applicable law, regulation, rule, order or condition imposed by the
FDIC or the institution's primary regulator.
Regardless of an institution's capital level, insurance of deposits may
be terminated by the FDIC upon a finding that the institution has engaged in
unsafe or unsound practices, is in an unsafe or unsound condition to continue
operations or has violated any applicable law, regulation, rule, order or
condition imposed by the FDIC or the institution's primary regulator. The
management of the Bank is unaware of any practice, condition or violation that
might lead to termination of its deposit insurance.
The FDIC charges an annual assessment for the insurance of deposits
based on the risk a particular institution poses to its deposit insurance fund.
This risk classification is based on an institution's capital group and
supervisory subgroup assignment.
Regulatory Capital Requirements. OTS capital regulations require
savings institutions to meet three capital standards: (1) tangible capital equal
to 1.5% of total adjusted assets, (2) a leverage ratio (core capital) equal to
at least 3% of total adjusted assets for savings institutions that receive the
highest supervisory rating for safety and soundness and 4% for all other
thrifts, and (3) a risk-based capital requirement equal to 8.0% of total
risk-weighted assets. At December 31, 2005, the Bank was in compliance with its
regulatory capital requirements.
Dividend and Other Capital Distribution Limitations. The OTS imposes
various restrictions or requirements on the ability of savings institutions to
make capital distributions, including cash dividends.
A savings association that is a subsidiary of a savings and loan
holding company, such as the Bank must file an application or a notice with the
OTS at least 30 days before making a capital distribution. Savings associations
are not required to file an application for permission to make a capital
distribution and
17
need only file a notice if the following conditions are met: (1) they are
eligible for expedited treatment under OTS regulations, (2) they would remain
adequately capitalized after the distribution, (3) the annual amount of capital
distribution does not exceed net income for that year to date added to retained
net income for the two preceding years, and (4) the capital distribution would
not violate any agreements between the OTS and the savings association or any
OTS regulations. Any other situation would require an application to the OTS.
The OTS may disapprove an application or notice if the proposed capital
distribution would: (i) make the savings association undercapitalized,
significantly undercapitalized, or critically undercapitalized; (ii) raise
safety or soundness concerns; or (iii) violate a statute, regulation, or
agreement with the OTS (or with the FDIC), or a condition imposed in an
OTS-approved application or notice. Further, a federal savings association, like
the Bank, cannot distribute regulatory capital that is needed for its
liquidation account.
Qualified Thrift Lender Test. Federal savings institutions must meet
one of two Qualified Thrift Lender ("QTL") tests. To qualify as a QTL, a savings
institution must either (i) be deemed a "domestic building and loan association"
under the Internal Revenue Code by maintaining at least 60% of its total assets
in specified types of assets, including cash, certain government securities,
loans secured by and other assets related to residential real property,
educational loans and investments in premises of the institution or (ii) satisfy
the statutory QTL test set forth in the Home Owner's Loan Act by maintaining at
least 65% of its "portfolio assets" in certain"Qualified Thrift Investments"
(defined to include residential mortgages and related equity investments,
certain mortgage-related securities, small business loans, student loans and
credit card loans, and 50% of certain community development loans). For purposes
of the Home Owners' Loan Act, portfolio assets are defined as total assets minus
intangible assets, property used by the institution in conducting its business,
and liquid assets equal to 20% of total assets. A savings institution must
maintain its status as a QTL on a monthly basis in at least nine out of every 12
months. A failure to qualify as a QTL results in a number of sanctions,
including the imposition of certain operating restrictions and a restriction on
obtaining additional advances from its FHLB. At December 31, 2005, the Bank was
in compliance with its QTL requirement, with 82.67% of its assets invested in
Qualified Thrift Investments.
Federal Home Loan Bank System. The Bank is a member of the FHLB of New
York, which is one of 12 regional FHLBs that administers the home financing
credit function of savings associations. Each FHLB serves as a reserve or
central bank for its members within its assigned region. It is funded primarily
from proceeds derived from the sale of consolidated obligations of the FHLB
System. It makes loans to members (i.e., advances) in accordance with policies
and procedures established by the Board of Directors of the FHLB.
As a member, the Bank is required to purchase and maintain stock in the
FHLB of New York in an amount equal to at least 1% of its aggregate unpaid
residential mortgage loans, home purchase contracts or similar obligations at
the beginning of each year.
Federal Reserve Board System. The Federal Reserve Board requires all
depository institutions to maintain non-interest bearing reserves at specified
levels against their transaction accounts (primarily checking, NOW, and Super
NOW checking accounts) and non-personal time deposits. The balances maintained
to meet the reserve requirements imposed by the Federal Reserve Board may be
used to satisfy the liquidity requirements that are imposed by the OTS. At
December 31, 2005, the Bank was in compliance with these Federal Reserve Board
requirements.
18
Item 1A. Risk Factors
- ---------------------
Investing in our securities may involve certain risks, including the
risks described below. You should carefully consider these risk factors together
with all other available information and data before you decide to invest in our
securities.
We realize income primarily from the difference between interest earned on loans
and investments and interest paid on deposits and borrowings, and changes in
interest rates may adversely affect our profitability and assets.
Changes in prevailing interest rates may hurt our business. We derive
our income mainly from the difference or "spread" between the interest earned on
loans, securities and other interest-earning assets, and interest paid on
deposits, borrowings and other interest-bearing liabilities. In general, the
larger the spread, the more we earn. When market rates of interest change, the
interest we receive on our assets and the interest we pay on our liabilities
will fluctuate. This can cause decreases in our spread and can adversely affect
our income.
Interest rates affect how much money we can lend. For example, when
interest rates rise, the cost of borrowing increases and loan originations tend
to decrease. In addition, changes in interest rates can affect the average life
of loans and investment securities. A reduction in interest rates generally
results in increased prepayments of loans and mortgage-backed securities, as
borrowers refinance their debt in order to reduce their borrowing cost. This
causes reinvestment risk, because we generally are not able to reinvest
prepayments at rates that are comparable to the rates we earned on the prepaid
loans or securities. Changes in market interest rates could also reduce the
value of our financial assets. If we are unsuccessful in managing the effects of
changes in interest rates, our financial condition and results of operations
could suffer.
If we experience loan losses in excess of our allowance, our earnings will be
adversely affected.
The risk of credit losses on loans varies with, among other things,
general economic conditions, the type of loan being made, the creditworthiness
of the borrower over the term of the loan and, in the case of a collateralized
loan, the value and marketability of the collateral for the loan. Management
maintains an allowance for loan losses based upon, among other things,
historical experience, an evaluation of economic conditions and regular reviews
of delinquencies and loan portfolio quality. Based upon such factors, management
makes various assumptions and judgments about the ultimate collectibility of the
loan portfolio and provides an allowance for loan losses based upon a percentage
of the outstanding balances and for specific loans when their ultimate
collectibility is considered questionable. If management's assumptions and
judgments prove to be incorrect and the allowance for loan losses is inadequate
to absorb future losses, or if the bank regulatory authorities require us to
increase the allowance for loan losses as a part of their examination process,
our earnings and capital could be significantly and adversely affected.
As of December 31, 2005, our allowance for loan losses was
approximately $5.1 million which represented 1.13% of outstanding loans. At such
date, we had nine non-accrual loans totaling $1.8 million. We actively manage
our nonperforming loans in an effort to minimize credit losses. Although
management believes that its allowance for loan losses is adequate, there can be
no assurance that the allowance will prove sufficient to cover future loan
losses. Further, although management uses the best information available to make
determinations with respect to the allowance for loan losses, future adjustments
may be necessary if economic conditions differ substantially from the
assumptions used or adverse developments arise with respect to our
non-performing or performing loans. Material additions
19
to our allowance for loan losses would result in a decrease in our net income
and capital, and could have a material adverse effect on our financial condition
and results of operations.
A portion of our total loan portfolio consists of multi-family and commercial
real estate loans and commercial loans. The repayment risk related to these
types of loans is considered to be greater than the risk related to one- to-
four family residential loans.
At December 31, 2005, our loan portfolio included approximately $150.3
million of multi-family and commercial real estate loans and commercial business
loans, or 33.56% of our total loan portfolio.
Unlike one- to- four family residential mortgage loans, which generally
are made on the basis of the borrower's ability to make repayment from his or
her employment and other income and which are secured by real property whose
value tends to be more easily ascertainable, the repayment of multi-family and
commercial real estate loans and commercial business loans typically is
dependent on the successful operations and income stream of the borrower and the
real estate securing the loan as collateral, which can be significantly affected
by economic conditions. In addition, these loans generally carry larger balances
to single borrowers or related groups of borrowers than one- to- four family
loans. Any late payments or the failure to repay such loans would adversely
affect our earnings.
Our business is geographically concentrated and is subject to regional economic
factors that could have an adverse impact on our business.
Substantially all of our business is with customers in Burlington,
Camden and Mercer Counties, New Jersey. Most of our customers are consumers and
small and medium-sized businesses which are dependent upon the regional economy.
Adverse changes in economic and business conditions in our markets could
adversely affect our borrowers, their ability to repay their loans and to borrow
additional funds, and consequently our financial condition and performance.
In addition to the financial strength and cash flow characteristics of
the borrower in each case, we often secure our loans with real estate
collateral, most of which is located in Burlington, Camden and Mercer Counties,
New Jersey. As of December 31, 2005, approximately 94.4% of our loans had real
estate as a primary, secondary or tertiary component of collateral. Real estate
values and real estate markets are generally affected by, among other things,
changes in national, regional or local economic conditions, fluctuations in
interest rates and the availability of loans to potential purchasers, changes in
tax laws and other governmental statutes, regulations and policies, and acts of
nature. The real estate collateral in each case provides an alternate source of
repayment in the event of default by the borrower. If real estate prices in our
markets decline, the value of the real estate collateral securing our loans
could be reduced. If we are required to liquidate the collateral securing a loan
during a period of reduced real estate values to satisfy the debt, our earnings
and capital could be adversely affected. A decline in local economic conditions
could adversely affect the values of such real estate. Consequently, a decline
in local economic conditions may have a greater effect on our earnings and
capital than on the earnings and capital of larger financial institutions whose
real estate loan portfolios are geographically diverse. Rising interest rates
would likely hurt our profits and may affect our ability to pay dividends or
undertake other corporate transactions.
Although we have paid cash dividends on a quarterly basis since 1995,
there is no assurance that we will continue to pay cash dividends. To be
profitable, we must earn more in interest and fees than we
20
pay in interest and expenses. If interest rates rise, the interest we pay on
interest-bearing liabilities, such as deposits and borrowings, may increase more
quickly than interest earned on interest-earning assets, such as loans and
investment securities. This will reduce our net interest income and thereby
reduce our net income in the short-term. In addition, rising interest rates are
likely to reduce our income via a reduction in the demand for loans and the
value of our investment securities and make it more difficult for our borrowers
to repay their loans. As a result, this could restrict the capital resources of
the Bank and could require us to contribute additional capital to the Bank or
may prevent the Bank from paying dividends to us. This could restrict our
ability to pay dividends or undertake other corporate transactions. Future
payment of cash dividends, if any, will be at the discretion of the Board of
Directors and will be dependent upon our financial condition, results of
operations, capital requirements and such other factors as the Board may deem
relevant and will be subject to applicable federal and state laws that impose
restrictions on our ability to pay dividends.
As a public company, we are subject to numerous reporting requirements that are
currently evolving and could substantially increase our operating expenses and
divert management's attention from the operation of our business.
The Sarbanes-Oxley Act has required changes in some of our corporate
governance, securities disclosure and compliance practices. In response to the
requirements of the Sarbanes-Oxley Act, the SEC has promulgated new rules
covering a variety of subjects. Compliance with these new rules has
significantly increased our legal and financial and accounting costs, and we
expect these increased costs to continue. In addition, compliance with the
requirements has taken a significant amount of management's and the Board of
Directors' time and resources. Likewise, these developments may make it more
difficult for us to attract and retain qualified members of our board of
directors, particularly independent directors, or qualified executive officers.
As directed by Section 404 of the Sarbanes-Oxley Act, the SEC adopted
rules requiring public companies to include a report of management on the
company's internal control over financial reporting in their annual reports on
Form 10-K that contains an assessment by management of the effectiveness of the
company's internal control over financial reporting. In addition, in the future,
the public accounting firm auditing the Company's financial statements may be
required to attest to and report on management's assessment of the effectiveness
of the Company's internal control over financial reporting. The costs associated
with the implementation of this requirement, including documentation and
testing, have not been estimated by us. If we are ever unable to conclude that
we have effective internal control over financial reporting or, if our
independent auditors are unable to provide us with an unqualified report as to
the effectiveness of our internal control over financial reporting for any
future year-ends as required by Section 404, investors could lose confidence in
the reliability of our financial statements, which could result in a decrease in
the value of our securities.
We operate in a highly regulated environment and may be adversely affected by
changes in laws and regulations.
We are subject to extensive regulation, supervision and examination by
the Office of Thrift Supervision, our chartering authority, and by the Federal
Deposit Insurance Corporation, as insurer of our deposits. As a federally
chartered holding company, FMS Financial Corporation is subject to regulation
and oversight by the Office of Thrift Supervision. Such regulation and
supervision govern the activities in which an institution and its holding
companies may engage and are intended primarily for the protection of the
insurance fund and depositors. Regulatory authorities have extensive discretion
in connection with their supervisory and enforcement activities, including the
imposition of restrictions on the operation of
21
an institution, the classification of assets by the institution and the adequacy
of an institution's allowance for loan losses. Any change in such regulation and
oversight, whether in the form of regulatory policy, regulations, or
legislation, including changes in the regulations governing mutual holding
companies, could have a material impact on the Corporation and the Bank, and
their operations.
Strong competition within our market area may limit our growth and
profitability.
Competition in the banking and financial services industry in New
Jersey is intense, competing for deposits and loans with commercial banks,
savings associations and other financial entities. Competition for deposits
comes primarily from other commercial banks, savings associations, credit
unions, money market and mutual funds and other investment alternatives.
Competition for loans comes primarily from other commercial banks, savings
associations, mortgage banking firms, credit unions and other financial
intermediaries. Many of these competitors have substantially greater resources
and lending limits than we do and may offer certain services that we do not or
cannot provide. There are large competitors operating throughout our total
market area, including Bank of America, Commerce Bank, Wachovia Bank, and PNC
Bank, and we also face strong competition from other community institutions in
certain counties. Our profitability depends upon our continued ability to
successfully compete in our market area.
We may issue additional shares of common stock, which may dilute the ownership
and voting power of our shareholders and the book value of our common stock.
We are currently authorized to issue up to 10,000,000 shares of common
stock of which 6,515,110 shares are currently outstanding. Our Board of
Directors has authority, without action or vote of the shareholders, to issue
all or part of the authorized but unissued shares. In addition, a total of
772,200 shares of common stock have been reserved for issuance under our stock
option plans. A total of 232,760 shares of common stock have been reserved for
issuance under options outstanding on December 31, 2005. As of December 31,
2005, options to purchase a total of 36,500 shares were exercisable and had an
exercise price of $10.00. Any such issuance will dilute the percentage ownership
interest of shareholders and may further dilute the book value of our common
stock.
Item 1B. Unresolved Staff Comments
- ----------------------------------
Not applicable.
Item 2. Properties
- -------------------
The Registrant conducts its business through its two administrative
offices located in Burlington, New Jersey and its 42 branch locations in
Burlington, Camden and Mercer Counties, New Jersey. All of the Registrant's
office and branch facilities are owned by the Registrant, except for eleven
branch office locations, two located in Lumberton and the others located in
Medford, Mt. Holly, Burlington, Cherry Hill Hamilton, Cinnaminson, Delanco,
Audubon and Marlton, New Jersey. Management of the Registrant considers the
physical condition of each of the Registrant's administrative and branch offices
to be good and adequate for the conduct of the Registrant's business.
Item 3. Legal Proceedings
- --------------------------
The Registrant is periodically involved as a plaintiff or defendant in
various legal actions, such as actions to enforce liens, condemnation
proceedings on properties in which the Registrant holds mortgage interests,
matters involving the making and servicing of mortgage loans and other matters
incident to the
22
Registrant's business. In the opinion of management, none of these actions
individually or in the aggregate is believed to be material to the financial
condition or results of operations of the Registrant.
Item 4. Submission of Matters to a Vote of Security Holders
- ------------------------------------------------------------
No matters were submitted to a vote of security holders during the
fourth quarter of the fiscal year ended December 31, 2005.
PART II
Item 5. Market for the Registrant's Common Equity, Related Stockholder Matters
- --------------------------------------------------------------------------------
and Issuer Purchases of Equity Securities
-----------------------------------------
(a) Market for Common Equity. The information contained under the
section captioned "Stock Market Information" in the Corporation's 2005 Annual
Report to Stockholders (the "Annual Report") is incorporated herein by
reference. The Registrant did not sell any equity securities that were not
registered under the Securities Act of 1933 during the period under report.
(b) Use of Proceeds. Not applicable.
(c) Issuer Purchase of Equity Securities.
(c) Total Number (d) Maximum Number
of Shares (or Units) (or Approximate Dollar
(a) Total (b) Purchased as Part Value) of Shares (or
Number Average Price of Publicly Units) that May Yet Be
of Shares (or Paid per Share Announced Plans Purchased Under the
Period Units) Purchased (or Unit) or Programs* Plans or Programs
- ------ ---------------- --------- ------------ -----------------
November 15-21, 2005 1,250 $16.56 1,250 198,750
December 6, 2005 750 $16.50 750 198,000
----- ------ ----- -------
Total 2,000 --- 2,000 198,000
===== ====== ===== =======
- -------------------
* On September 28, 2005, the Registrant authorized the repurchase in the open
market of up to 200,000 shares of the Company's outstanding common stock.
Item 6. Selected Financial Data
- --------------------------------
The information contained in the table captioned "Financial Highlights"
in the Annual Report is incorporated herein by reference.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
- --------------------------------------------------------------------------------
of Operations
-------------
The information contained in the section captioned "Management's
Discussion and Analysis of Financial Condition and Results of Operations" in the
Annual Report is incorporated herein by reference.
23
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
- --------------------------------------------------------------------
The information contained in the sections captioned "Market Risk and
Liquidity Risk"and "Interest Rate Risk" in the Annual Report is incorporated
herein by reference.
Item 8. Financial Statements and Supplementary Data
- ----------------------------------------------------
The Registrant's financial statements listed in Item 15 herein are
incorporated herein by reference.
Item 9. Changes in and Disagreements with Accountants on Accounting and
- --------------------------------------------------------------------------------
Financial Disclosure
--------------------
None.
Item 9A. Controls and Procedures
- ---------------------------------
The Company's management evaluated, with the participation of the
Company's Chief Executive Officer and Chief Financial Officer, the effectiveness
of the Company's disclosure controls and procedures, as of the end of the period
covered by this report. Based on that evaluation, the Chief Executive Officer
and Chief Financial Officer concluded that the Company's disclosure controls and
procedures are effective to ensure that information required to be disclosed by
the Company in the reports that it files or submits under the Securities
Exchange Act of 1934 is recorded, processed, summarized and reported within the
time periods specified in the Securities and Exchange Commission's rules and
forms.
There were no changes in the Company's internal control over financial
reporting that occurred during the Company's last fiscal quarter that have
materially affected, or are reasonably likely to materially affect, the
Company's internal control over financial reporting.
Item 9B. Other Information
- ---------------------------
None.
PART III
Item 10. Directors and Executive Officers of the Registrant
- ------------------------------------------------------------
The information contained under the sections captioned "Section 16(a)
Beneficial Ownership Reporting Compliance" and "Proposal I - Election of
Directors" in the 2005 Proxy Statement ("Proxy Statement") are incorporated
herein by reference.
24
Executive Officers of the Corporation Who Are Not Directors
Name and Title Age as of December 31, 2005
- -------------- ---------------------------
Channing L. Smith 62
Vice President and Chief Financial Officer
James E. Igo 49
Senior Vice President and Chief Lending Officer
Thomas M. Topley 45
Senior Vice President and Corporate Secretary
Channing L. Smith has served as Vice President and Chief Financial
Officer of the Corporation and the Bank since October 1994. In this capacity, he
is responsible for the management of the accounting, treasury, and investments
of the Corporation and the Bank. From April 1993 to October 1994, Mr. Smith
served as controller of the Corporation and the Bank.
James E. Igo has served as Senior Vice President and Senior Mortgage
Lending Officer of the Corporation and the Bank since November 1991.
Thomas M. Topley has served as Senior Vice President of Operations
since April 1993 and as Corporate Secretary of the Corporation and the Bank
since April 1992. From June 1990 to April 1993, Mr. Topley served as Vice
President and Controller for the Bank.
The Company has adopted a Code of Ethics that applies to its principal
executive officer, principal financial officer, principal accounting officer or
controller or persons performing similar functions. A copy of the Corporation's
Code of Ethics will be furnished, without charge, to any person who requests
such copy by writing to the Secretary, FMS Financial Corporation, 3 Sunset Road,
Burlington, New Jersey 08016.
Item 11. Executive Compensation
- --------------------------------
The information contained under the section captioned "Proposal I -
Election of Directors - Directors and Executive Officer Compensation" in the
Proxy Statement is incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management and
- --------------------------------------------------------------------------------
Related Stockholder Matters.
----------------------------
(a) Security Ownership of Certain Beneficial Owners
Information required by this item is incorporated herein by
reference to the Section captioned "Principal Holders" and
"Proposal I - Election of Directors" of the Proxy Statement.
25
(b) Security Ownership of Management
Information required by this item is incorporated herein by
reference to the section captioned "Proposal I -- Election of
Directors" of the Proxy Statement.
(c) Changes in Control
Management of the Corporation knows of no arrangements,
including any pledge by any person of securities of the
Corporation, the operation of which may at a subsequent date
result in a change in control of the registrant.
(d) Securities Authorized for Issuance Under Equity Compensation
Plans
Set forth below is information as of December 31, 2005 with
respect to compensation plans under which equity securities of
the Registrant are authorized for issuance.
EQUITY COMPENSATION PLAN INFORMATION
(a) (b) (c)
Number of securities
remaining available
Number of securities Weighted-average for future issuance
to be issued upon exercise price of under equity
exercise of outstanding compensation plans
outstanding options, options, warrants (excluding securities
warrants and rights and rights reflected in column (a))
-------------------- ----------- ------------------------
Equity compensation plans
approved by shareholders
Stock Option and
Incentive Plan................. 36,500 $10.00 --
Equity compensation plans
not approved by shareholders N/A N/A N/A
------ ------ ---
TOTAL....................... 36,500 $10.00 --
====== ===== ====
Item 13. Certain Relationships and Related Transactions
- --------------------------------------------------------
The information required by this item is incorporated herein by
reference to the section captioned "Proposal I - Election of Directors -
Directors and Executive Officer Compensation - Certain Relationships and Related
Transactions" of the Proxy Statement.
26
Item 14. Principal Accountant Fees and Services
- ------------------------------------------------
The information called for by this item is incorporated herein by
reference to the section entitled "Proposal II - Ratification of Appointment of
"Independent Accountants" in the Proxy Statement.
PART IV
Item 15. Exhibits and Financial Statement Schedules
- ----------------------------------------------------
(a) Listed below are all financial statements and exhibits filed
as part of this report, and are incorporated by reference.
1. The consolidated statements of financial condition of
FMS Financial Corporation and subsidiary as of
December 31, 2005 and 2004, and the related
consolidated statements of income, changes in
stockholders' equity and cash flows for each of the
years in the three year period ended December 31,
2005, together with the related notes and the
Independent Registered Public Accounting Firms'
auditors' report of PricewaterhouseCoopers LLP.
2. Schedules omitted as they are not applicable.
3. Exhibits
The following Exhibits are filed as part of this
report:
3.1 Certificate of Incorporation*
3.2 Bylaws*
4 Agreement to furnish copy to Securities and Exchange Commission
upon request of Indenture dated July 28, 1994, relating to 10%
Subordinated Debentures due 2004 in aggregate principal amount of $10
million**
10.1 Stock Option and Incentive Plan***
13 2005 Annual Report to Stockholders
21 Subsidiaries of the Registrant
23 Consent of Independent Registered Public Accounting Firm
31 Certifications pursuant to Section 302 of the Sarbanes-Oxley Act of
2002
32 Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
---------------
* Incorporated by reference to the Registrant's
Form S-1 Registration Statement No. 33-24340.
** Incorporated by reference to the Registrant's Annual
Report on Form 10-K for the fiscal year ended
December 31, 1994.
*** Incorporated by reference to the Registrant's Form
S-8 Registration Statement No. 33-24340.
27
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized as of March 30, 2006.
FMS FINANCIAL CORPORATION
By: /s/Craig W. Yates
---------------------------------
Craig W. Yates, President and
Chief Executive Officer
(Duly Authorized Representative)
Pursuant to the requirement of the Securities Exchange Act of 1934,
this report has been signed below on March 30, 2006 by the following persons on
behalf of the registrant and in the capacities indicated.
/s/ Craig W. Yates /s/ George J. Barber
- ----------------------------------------------------- -----------------------------------------------------
Craig W. Yates George J. Barber
President, Chief Executive Officer and Director Director
(Principal Executive Officer)
/s/ Channing L. Smith /s/ Edward J. Staats, Jr.
- ----------------------------------------------------- -----------------------------------------------------
Channing L. Smith Edward J. Staats, Jr.,
Vice President and Chief Financial Officer Director
(Principal Financial and Accounting Officer)
/s/ Wayne H. Page /s/ Dominic W. Flamini
- ----------------------------------------------------- -----------------------------------------------------
Wayne H. Page Dominic W. Flamini
Director Director
/s/ Vincent R. Farias /s/ Roy D. Yates
- ----------------------------------------------------- -----------------------------------------------------
Vincent R. Farias Roy D. Yates
Director Chairman of the Board
/s/ Mary Wells /s/ Joseph W. Clarke, Jr.
- ----------------------------------------------------- -----------------------------------------------------
Mary Wells Joseph W. Clarke, Jr.
Director Director
28