1
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 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 March 31, 1996
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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 0-24358
MLF BANCORP, INC.
- --------------------------------------------------------------------------------
(Exact Name of registrant as specified in its charter)
PENNSYLVANIA 23-2752439
- ------------ -----------------------------
(State or other jurisdiction of incorporation (I.R.S. Employer Identification Number)
or organization)
TWO ALDWYN CENTER
VILLANOVA, PENNSYLVANIA 19085
- ----------------------- -----
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (610) 526-6460
--------------
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, PAR VALUE $0.01
-----------------------------
(Title of Class)
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 twelve months (or such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. YES X NO
---- ----
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K. (X)
The aggregate market value of the voting stock held by nonaffiliates of the
registrant, based on the closing prices of the registrant's common stock as
quoted on the National Association of Securities Dealers Automated Quotation
System as of June 18, 1996 was $137.5 million. For purposes of this
calculation only, affiliates are deemed to be directors, executive officers and
certain beneficial owners.
As of June 18, 1996, there were 7,273,800 shares issued and 6,246,900 shares
outstanding of the registrant's common stock.
DOCUMENTS INCORPORATED BY REFERENCE
Documents Where Incorporated
- ----------------------------------------- ---------------------------------------
1) 1996 Annual Report Part II - Items 5, 6, 7 and 8;
Part IV - Item 14
2) Proxy Statement for 1996 Annual Meeting of Stockholders Part III - Items 10, 11, 12 and 13
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MLF BANCORP, INC.
TABLE OF CONTENTS
PART I
------
Item 1 Business..........................................................................................1
Item 2 Properties.......................................................................................41
Item 3 Legal Proceedings................................................................................43
Item 4 Submission of Matters To A Vote of Security Holders..............................................43
PART II
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Item 5 Market for Registrant's Common
Equity and Related Stockholder Matters...........................................................43
Item 6 Selected Financial Data..........................................................................43
Item 7 Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................................................43
Item 8 Financial Statements & Supplementary Data........................................................44
Item 9 Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure...................................................................44
PART III
--------
Item 10 Directors and Executive Officers of the Registrant...............................................44
Item 11 Executive Compensation...........................................................................44
Item 12 Security Ownership of Certain Beneficial Owners and Management...................................44
Item 13 Certain Relationships and Related Transactions...................................................44
PART IV
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Item 14 Exhibits, Financial Statement Schedules and Reports on Form 8-K..................................45
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ITEM 1: BUSINESS
MLF BANCORP, INC.
MLF Bancorp, Inc. (the "Company" or "Bancorp") is a Pennsylvania corporation
organized in March 1994 by Main Line Bank (the "Bank") for the purpose of
acquiring all of the capital stock of the Bank issued in the Bank's mutual to
stock conversion which occurred on August 11, 1994. At March 31, 1996, the
only significant asset of the Company is the capital stock of the Bank. At
March 31, 1996, Bancorp had $1.8 billion of total assets, $831.0 million of
total deposits and $140.3 million of equity.
MAIN LINE BANK
The Bank is a federally-chartered stock savings bank conducting business from
its executive offices located in Villanova, Pennsylvania, 18 full service
offices located in Chester, Delaware and Montgomery Counties, Pennsylvania and
nine mortgage loan production offices which are located in eastern
Pennsylvania, southern New Jersey and northern Delaware. The Bank's market
area, which includes the affluent western suburbs of Philadelphia, has
experienced reasonable growth in total population and employment in recent
years. The Bank's deposits are insured by the Savings Association Insurance
Fund ("SAIF"), which is administered by the Federal Deposit Insurance
Corporation ("FDIC"), to the maximum extent permitted by law. The Bank is a
community oriented savings bank which has historically offered a wide variety
of savings products to its retail customers while concentrating its lending
activities on real estate loans secured by one-to-four family residential
properties, residential construction and development projects and selected
commercial properties. In addition to these traditional product lines, the
Bank is now delivering deposit and credit products to the small and commercial
business markets. The Bank, by endeavoring to become a full service community
bank, has also increased its emphasis on consumer lending.
During the year ended March 31, 1996, the Company completed its acquisition of
Hart Mortgage Co. ("Hart"), a privately-held mortgage banking company, and
Suburban Federal Savings Bank, a community bank with $66.0 million in assets
headquartered in Collingdale, Delaware County, Pennsylvania. Both acquisitions
were accounted for using the purchase method of accounting.
On April 1, 1996, the Company completed its acquisition of Philadelphia
Mortgage Corporation ("PMC"), a privately-held mortgage banking company.
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LENDING ACTIVITIES
GENERAL. Since fiscal 1991, the Company has organized its commercial lending
operations and developed a mortgage banking operation. Regarding the latter,
the Company shifted its lending focus from the traditional origination of
residential mortgage loans for portfolio retention to the origination of such
loans primarily for sale into the secondary market with servicing retained in
order to enhance the Company's sources of other income. This shift was also
undertaken to reduce the interest rate risk inherent in traditional long-term,
fixed-rate residential mortgage lending while enhancing the Company's sources
of non-interest income. In order to fulfill its strategy of becoming a full
service community oriented bank, management decided in fiscal 1991 to enter the
commercial business lending business and to reenergize its commercial
construction and commercial real estate lines of business. This strategy
evolved and was put in place to balance and diversify the Company's loan
portfolio as well as to serve the banking needs of small and medium-sized
businesses and the owners thereof located in the greater Philadelphia
metropolitan area.
The Company's lending operations are organized into four areas: mortgage
banking operations, real estate financing, consumer lending and commercial
business lending.
The Company's mortgage banking operation originates single-family residential
loans primarily for sale into the secondary market and to a limited degree, for
portfolio retention. The bulk of such loans are packaged and sold to either
the Federal Home Loan Mortgage Corporation ("FHLMC") or the Federal National
Mortgage Association ("FNMA"). A portion of such loans are sold pursuant to
commitments to purchase obtained from investors concurrent with the origination
of the loans. During the fiscal years ended March 31, 1996 and 1995, the
Company originated $161.6 million and $303.1 million and sold $134.7 million
and $99.6 million, respectively, of first mortgage loans. In addition, as of
March 31, 1996, the Company services $2.4 billion of loans for others,
including $1.7 billion of loans as to which it has purchased mortgage servicing
rights ("PMSRs"). See "- Mortgage Banking Activities."
Real estate financing, consisting of construction lending on residential and
commercial properties and commercial and multi-family real estate lending, is a
continuation of the Company's traditional involvement in such lending
activities. However, due to the combination of deterioration in market values
due to general recessionary effects as well as asset quality issues arising
from loans originated in connection with the Company's joint venture real
estate activity in the latter part of the 1980's and early 1990's, the Company
significantly reduced its involvement in the origination of construction loans
prior to fiscal 1993. During fiscal years 1994-1996, as described under "-
Construction Lending Activities," experienced senior lending officers and
underwriting staff were hired and the underwriting policies and procedures were
substantially revised and enhanced from a risk tolerance perspective. As of
March 31, 1996, commercial/multi-family real estate and total construction
loans amounted to $245.8 million or 31.9% of the total loan portfolio, an
increase of 58.0% from March 31, 1995.
The Company's involvement in consumer lending has continued to increase
as a result of the Company's emphasis on expanding the retail franchise.
Consumer loans, which consist primarily of home equity loans, home equity lines
of credit and lines of credit amounted to $110.3 million or 14.3% of the total
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loan portfolio at March 31, 1996, an 18.1% increase from March 31, 1995. The
Company has also selectively entered the non-conforming as well as B & C credit
consumer markets. The development and expansion of a small business lending
program was instituted in fiscal 1996 and this line of business will receive
greater strategic emphasis as the Company grows in the ensuing years.
In conjunction with the determination to diversify its loan portfolio and
develop banking relationships with small and medium-sized businesses in the
greater Philadelphia metropolitan area, the Company began offering commercial
business loans in 1991, including lines and letters of credit, equipment loans
and term loans. Such loans comprised $69.6 million or 9.0% of the total loan
portfolio at March 31, 1996, more than double that of the March 31, 1995
portfolio. The Company expects to continue significant expansion and
diversification of this loan portfolio in fiscal 1997 and future years. The
commercial business strategy is to provide credit and non-credit services to
entities primarily within the Philadelphia metropolitan area. The achievements
to date and the future goals will be achieved through the hiring of experienced
commercial lenders, who are supported by customer service oriented assistants
and, who are focused by enhanced credit policies. In fiscal 1996 a Credit
Policy department was established to manage the loan risk analysis activities
and to provide ongoing credit policy risk management strategies. The asset
workout function of the Company in fiscal 1996 was placed under the management
of the Company's Chief Credit Policy Officer.
The Company's primary market area consists of the greater Philadelphia
metropolitan area. The Company's mortgage banking and commercial real estate
departments lend to borrowers located outside of this area, but within
approximately 100 miles of the Company's headquarters. The Company has also
extended its home equity lending activities to both the Pocono region of
Pennsylvania as well as southern and central New Jersey.
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LOAN PORTFOLIO COMPOSITION. The following table sets forth the composition of
the Company's loan portfolio by type of loan at the dates indicated.
March 31,
---------------------------------------------------------------------------------------
1996 1995 1994
-------------------------- ----------------------- ----------------------------
Amount % Amount % Amount %
------ --- ------ --- ------ ---
(Dollars in Thousands)
Real estate loans:
Single-family $344,713 44.74% $326,029 53.59% $106,350 36.53
Multi-family 11,348 1.47 10,812 1.78 10,297 3.54
Commercial 109,135 14.17 69,779 11.47 47,671 16.37
Construction and land:
Residential 110,693 14.37 59,112 9.72 33,794 11.61
Commercial 14,625 1.90 15,891 2.61 2,018 0.69
-------- -------- -------- -------- -------- --------
Total real estate loans 590,514 76.65 481,623 79.17 200,130 68.74
-------- -------- -------- -------- -------- --------
Other Loans:
Consumer:
Home equity loans and lines of Credit 92,139 11.96 76,393 12.56 64,417 22.12
Unsecured lines of credit 3,091 0.40 3,527 0.58 4,626 1.59
Automobile 5,926 0.77 7,710 1.27 10,189 3.50
Education (1) - - - - - -
Other 9,098 1.18 5,734 0.94 3,560 1.22
Commercial loans 69,647 9.04 33,328 5.48 8,238 2.83
-------- -------- -------- -------- -------- --------
Total other loans 179,901 23.35 126,692 20.83 91,030 31.26
-------- -------- -------- -------- -------- --------
Total loans receivable $770,415 100.00% 608,315 100.00% 291,160 100.00%
-------- ======== -------- ======== -------- ========
Less:
Loans in process (construction and land) 61,389 45,613 18,833
Deferred loan origination fees and discounts 4,111 3,578 2,029
Allowance for loan losses 13,124 9,111 7,337
-------- -------- --------
78,624 58,302 28,199
-------- -------- --------
Total loans receivable, net $691,791 $550,013 $262,961
======== ======== ========
March 31,
---------------------------------------------------
1993 1992
-------------------------- ---------------------
Amount % Amount %
------ --- ------ ---
(Dollars in Thousands)
Real estate loans:
Single-family $136,630 44.36% $205,528 49.42%
Multi-family 14,871 4.83 20,163 4.85
Commercial 35,381 11.49 39,522 9.50
Construction and land:
Residential 27,605 8.96 47,904 11.52
Commercial 1,540 0.50 10,611 2.55
-------- -------- -------- --------
Total real estate loans 216,027 70.14 323,728 77.84
-------- -------- -------- --------
Other Loans:
Consumer:
Home equity loans and lines of Credit 66,489 21.59 61,988 14.90
Unsecured lines of credit 4,262 1.38 3,984 0.96
Automobile 11,904 3.86 12,347 2.97
Education (1) - - 4,032 0.97
Other 2,217 0.72 4,190 1.01
Commercial loans 7,114 2.31 5,598 1.35
-------- -------- -------- --------
Total other loans 91,986 29.86 92,139 22.16
-------- -------- -------- --------
Total loans receivable 308,013 100.00% 415,867 100.00%
-------- ======== -------- ========
Less:
Loans in process (construction and land) 11,229 25,726
Deferred loan origination fees and discounts 2,473 2,756
Allowance for loan losses 7,488 6,996
-------- --------
21,190 35,478
-------- --------
Total loans receivable, net $286,823 $380,389
======== ========
- --------
(1) Education loans are classified as loans receivable available for sale.
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CONTRACTUAL MATURITIES. The following table sets forth the scheduled
contractual maturities of the Company's loans held to maturity at March 31,
1996. Demand loans, loans having no stated schedule of repayments and no
stated maturity and overdraft loans are reported as due in one year or less.
The amounts shown for each period do not take into account loan prepayments and
normal amortization of the Company's loan portfolio held to maturity.
Real Estate Loans
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Single-family Multi-family Commercial Construction Total
------------- ------------ ---------- ------------ -----
(In Thousands)
Amounts due in:
One year or less $999 $ - $6,046 $101,993 $109,038
After one year through five years 34,221 169 3,092 23,325 60,807
After five years 309,493 11,179 99,997 - 420,669
-------- ------- -------- -------- --------
Total(1) $344,713 $11,348 $109,135 $125,318 $590,514
======== ======= ======== ======== ========
Interest rate terms on amounts due after one year:
Fixed $145,834
Adjustable 335,642
--------
$481,476
========
Consumer and
Other Loans Total
----------- -----
(In Thousands)
Amounts due in:
One year or less $68,230 $177,268
After one year through five years 41,294 102,101
After five years 70,377 491,046
-------- --------
Total(1) $179,901 $770,415
======== ========
Interest rate terms on amounts due after one year:
Fixed $89,452 $235,286
Adjustable 22,219 357,861
-------- --------
$111,671 $593,147
======== ========
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(1) Does not include adjustments relating to loans in process, allowance for
loan losses and deferred fee income.
Scheduled contractual repayment of loans does not reflect the expected term of
the Company's loan portfolio. The expected average life of loans is
substantially less than their contractual terms because of prepayments and
due-on-sale clauses, which give the Company the right to declare a conventional
loan immediately due and payable in the event, among other things, that the
borrower sells the real property subject to the mortgage and the loan is not
repaid. The average life of mortgage loans tends to increase when current
mortgage loan rates are higher than rates on existing mortgage loans and,
conversely, decrease when rates on existing mortgage loans are lower than
current mortgage loan rates (due to refinancings of adjustable-rate and
fixed-rate loans at lower rates). Under the latter circumstance, the weighted
average yield on loans decreases as higher-yielding loans are repaid or
refinanced at lower rates.
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LOAN ORIGINATION, PURCHASE AND SALES ACTIVITY. Applications for residential
mortgage, consumer and commercial business loans are taken at all of the
Company's business center locations. Applications for residential mortgage
loans are also obtained through account executives (i.e., employees and other
persons) who solicit and refer residential mortgage loan applications to the
Company. These account executives are compensated on a commission basis and
provide origination services during banking and non-banking hours.
Residential mortgage loans which conform to requirements for resale into the
secondary market are approved by the Company's mortgage loan underwriters.
Non-conforming residential mortgage and other loans are otherwise approved by
designated individuals or committees depending on loan size. In accordance
with loan policies adopted by the Board of Directors, specific approval of the
Board of Directors is not required with respect to any loans. The maximum
amount of any loan(s) to one borrower cannot exceed the lesser of $22.0 million
or 100% of the Company's regulatorily imposed loans-to-one borrower limitation
as of March 31, 1996. As of March 31, 1996, the largest loans-to-one-borrower
totaled $14.2 million and consisted of 2 commercial construction loans. These
loans are current as to payments of principal and interest and are performing
according to the terms of the loan documents as of March 31, 1996.
The Company has on occasion purchased whole loans and participation interests
therein. During the past few years, the purchases involved the acquisition of
residential whole loans. During fiscal 1994, the Company purchased a $24.7
million package of 15-year, jumbo fixed-rate, single-family mortgage loans
secured by properties located primarily in the Northeastern United States. The
Company will also consider purchasing participation interests in commercial
real estate and commercial business loans, although to date no purchases have
been made. The determination with respect to the purchase of loans (whether in
the form of whole loans or participation interests) will take into account the
Company's asset mix and whether the Company can originate the desired product
in the amounts and on the terms necessary to meet its overall asset/liability
strategy and goals. Currently, the Company only securitizes those residential
loans being sold directly to FHLMC or FNMA.
MORTGAGE BANKING ACTIVITIES. One of the primary lending activities of the
Company is the origination and sale of Conventional and Government real estate
loans secured by first liens on single family residences. The principal
purpose of the Company's mortgage banking operation is to generate non-interest
income through loan sales and servicing fees while avoiding the interest rate
risk associated with holding low interest rate, longer term fixed rate mortgage
loans in the portfolio. Loan originations are generated through a variety of
distribution channels including retail bank business centers, real estate
brokers, builders, and a small correspondent network of mortgage brokers and
mortgage bankers. On February 14, 1996 and April 1, 1996, the Company completed
its acquisitions of Hart and PMC, respectively, two prominent local mortgage
banking operations. Combined with the Company's original mortgage banking
operation, estimated annual production will be approximately $500 million with
85% of the production generated by retail channels. The Company's Pennsylvania
retail loan production offices (LPOs) are located in Rosemont, Ft. Washington,
Lancaster, Camp Hill, Easton, and State College. New Jersey's LPOs are located
in Marlton and West Trenton, and a Delaware LPO is supported in Wilmington.
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The Mortgage Banking Division of the Company originates conventional
FHA-insured and VA -guaranteed government loan production. The vast majority
of the product originated by the mortgage banking division qualify as
conforming loans which are eligible for sale into the secondary market via
agency or private investor relationships. For conventional residential loans,
the Company offers a variety of first-time homebuyer loans offering agency and
portfolio products for as little as a 3% down payment (FNMA 97) to the
Company's own Homeward Bound portfolio product. The conventional financing
products combined with the FHA-insured and VA guaranteed product enable the
Company to extend home ownership opportunities to a wide range of first time
homebuyers. The Mortgage Banking Division also offers alternative financing
options through its non-conforming (B through D Paper) loan unit.
The ability of the Mortgage Banking operation to originate loans is dependent
in part on prevailing interest rate levels, demographic trends, and the climate
of the local economic landscape. For fiscal 1997, the outlook is for low to
steady interest rate levels to accommodate recent sluggish economic growth.
Low interest rate levels are expected to generate adequate homebuying
opportunities and ample debt consolidation (refinance) opportunities for most
consumers. Other factors affecting origination capabilities include
competitive pricing pressures, various strategically aligned controlled
business arrangements between realtors and mortgage bankers, and the
implementation and utilization of technology.
Borrowers are generally charged an origination fee, which is a percentage of
the principal balance of the loan, as well as a document preparation fee and a
tax service fee. The Company charges its correspondents an underwriting fee,
which is a percentage of the principal balance of the loan being originated, a
tax service fee and, in some cases, a settlement fee. The various fees
received by the Company in connection with the origination of loans are
deferred and amortized as a yield adjustment over the life of the related loans
using the interest method. However, when such loans are sold, the remaining
unamortized fees (which are generally all or substantially all of such fees due
to the relatively short period during which such loans are held, if at all) are
recognized as gain or loss on sale of loans available for sale. During the
fiscal years ended March 31, 1996, 1995 and 1994, gain on sale of loans
resulting from the Mortgage Banking division's origination and sale activities
amounted to $2.1 million, $87,000 and $1.3 million, respectively.
The Company sells loans originated by it to private investors in the secondary
market or to FNMA or FHLMC with servicing rights retained. The Company's
mortgage loans sold to others generally are sold in groups through
mortgage-related securities issued by FNMA or FHLMC or on a loan-by-loan basis
to these agencies or other private investors. A period of 60 to 90 days
generally lapses between the closing of the loan by the Company and its
purchase by the investor. In the case of the loans sold through
mortgage-related securities, the loans are generally grouped in pools which are
issued as FNMA or FHLMC mortgage-backed securities, representing an undivided
interest in the loan pool. For issuing the security, FNMA or FHLMC receives an
annual guarantee fee of approximately .25% of the declining principal amount of
the loan pool. All FHA-insured or VA guaranteed mortgages are sold with the
servicing rights released to the investor.
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The Company currently employs forward commitments, described below, as a
hedging technique to protect the value of its mortgage production from
"pipeline risk" (the risk created by offering loan applicants agreed upon
interest rates for a future closing). The Company will also consider other
hedging techniques. Mortgages with established interest rates generally will
decrease in value during periods of increasing interest rates and increase in
value during periods of decreasing interest rates. Accordingly, fluctuations in
prevailing interest rates may result in a gain or loss to the Company as a
result of adjustments to the carrying value of loans held for sale or otherwise
on sale of loans to the extent that the Company has not obtained prior
commitments by investors to purchase such loans or otherwise hedged the value
of the loans against changes in interest rates. Pursuant to policies adopted
by Asset/Liability Management Committee ("the ALCO"), at any given time, the
Mortgage Banking division cannot have more than $20.0 million of loans which
are not covered by purchase commitments. This limit is reviewed periodically to
determine its appropriateness in light of the then existing interest rate
environment.
OTHER MORTGAGE BANKING ACTIVITIES. In 1993, the Company became involved in a
loan participation program for residential mortgage loan originators for resale
into the secondary market. The Company purchases from approved mortgage
originators single-family residential loans which already have commitments for
sale within 90 days in the secondary mortgage market to FNMA, FHLMC, Government
National Mortgage Association ("GNMA") or other private investors. The Company
obtains funding to purchase participations with pricing on the funding
established at a level necessary to create a minimum spread between the cost of
funds and the yield on the participation purchased. An independent financial
institution holds the original mortgage loan notes and other documentation as
custodian until the previously committed sale of the loans occurs. After
evaluating a potential participant in the program, if the originator appears to
be a likely candidate for approval, Company personnel will visit the originator
and review, among other things, its business organization, management, quality
control, funding sources, risk management, loan volume and historical
delinquency rate, financial condition, contingent obligations and regulatory
compliance. Upon conclusion of such review, the Company establishes a maximum
dollar amount of loans which it will be willing to purchase from the mortgage
loan originator at any given time. At March 31, 1996, the Company had extended
commitments totaling $96.0 million to 10 mortgage loan originators, and had
loan participation purchases outstanding of $51.5 million which are included in
assets available for sale.
LOAN SERVICING. The Company services residential real estate loans owned by
the Company and by others, including FNMA, FHLMC and other private mortgage
investors. Loan servicing includes collecting and remitting loan payments,
accounting for principal and interest, making advances to cover delinquent
payments, making or arranging for inspections as required of mortgaged
premises, contacting delinquent mortgagors, supervising foreclosures and
property dispositions in the event of unremedied defaults and generally
administering the loans. Funds that have been escrowed by borrowers for the
payment of mortgage-related expenses, such as property taxes and hazard and
mortgage insurance premiums, are maintained in non-interest-bearing deposit
accounts at the Company. At March 31, 1996, the Company had $32.7 million
deposited in such escrow accounts.
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The following table presents information regarding the loans serviced by the
Company for others at the dates indicated.
March 31,
----------------------------------------
1996 1995 1994
---- ---- ----
(In Thousands)
Loans originated by the Company
and serviced for:
FNMA $69,308 $77,942 $86,734
FHLMC 594,106 582,000 559,826
Others 69,639 74,562 69,567
--------- ---------- --------
733,053 734,504 716,127
--------- ---------- --------
Purchased mortgage loan servicing
rights serviced for:
FNMA 723,535 399,155 149,298
FHLMC 952,932 546,481 38,993
Others 2,165 2,949 3,087
--------- ---------- --------
1,678,632 948,585 191,378
--------- ---------- --------
Total loans serviced for others $2,411,685 $1,683,089 $907,505
========== ========== ========
The Company receives fees for servicing mortgage loans, which generally range
from 0.25% to 0.375% per annum on the declining principal balance of fixed-rate
mortgage loans and from 0.375% to 0.5% per annum on the declining principal
balance of adjustable-rate mortgage loans. Such fees serve to compensate the
Company for the costs of performing the servicing function. Other sources of
loan servicing revenues include late charges and other ancillary fees. For
fiscal years ended March 31, 1996, 1995 and 1994, the Company earned gross fees
from loan servicing of $6.0 million, $ 3.7 million and $2.6 million,
respectively, which does not take into consideration the amortization of
mortgage servicing rights ("MSRs") as shown in the table below. The Company's
gross servicing fee income as a percent of interest income and other income was
4.7%, 4.0% and 3.7% for the same respective periods. Servicing fees are
collected by the Company out of the monthly mortgage payments made by
borrowers.
In recent years, the Company has sought to expand its mortgage servicing
portfolio through the acquisition of MSRs. During the fiscal years ended March
31, 1996, 1995 and 1994, the Company paid $12.0 million, $12.3 million and
$772,000 to acquire the servicing rights related to $858.4 million, $801.9
million and $54.3 million of loans, respectively
The amounts paid to acquire MSRs are capitalized. These amounts are then
amortized over the estimated servicing life of the loans to which they relate,
using a level yield method over the contract life of the underlying mortgage
loans and an estimated prepayment assumption. In accordance with applicable
regulatory requirements, the prepayment assumption is reviewed quarterly based
on actual prepayment experience and the amortization is adjusted if necessary.
Amortization of MSRs amounted to $3.7
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million, $1.5 million and $2.1 million in fiscal years ended March 31, 1996,
1995 and 1994, respectively.
As of the beginning of the current fiscal year, the Company adopted SFAS No.
122, "Accounting for Mortgage Servicing Rights," and as a result, included
$760,000 in income from mortgage banking operations. Additionally, the Company
is required to assess the fair value of these MSRs at each reporting date to
determine impairment.
The following table sets forth an analysis of the Company's MSRs during the
periods indicated.
Carrying Value of MSRs
---------------------------------------
Year ended March 31,
---------------------------------------
1996 1995 1994
---- ---- ----
(In Thousands)
Amortized cost, beginning of period $12,823 $2,042 $3,339
Acquisitions 11,985 12,316 772
Originated servicing rights 760 - -
Amortization (3,703) (1,535) (2,069)
------- ------- ------
Amortized cost, end of period $21,865 $12,823 $2,042
======= ======= ======
As part of a servicer's responsibilities for investors of certain
mortgage-related securities, the Company is required to remit to the investors
the monthly principal collected and scheduled interest payments on most loans,
including those for which no interest payments have been received due to
delinquency. At March 31, 1996, the principal amount of loans serviced by the
Company for others subject to this condition aggregated $2.4 billion, of which
$10.8 million or 0.5% were more than 30 days delinquent. At March 31, 1996, the
Company had advanced principal and interest payments of $249,000 with respect
to such loans. Substantially all of these loans were sold without recourse
and are guaranteed by the FNMA or the FHLMC. The responsibility of having to
advance interest and other costs on certain loans is a normal part of servicing
and has been considered by the Company when determining the purchase price for
MSRs.
The amount, if any, by which the value of MSRs exceeds the lower of 90.0% of
determinable fair market value, 90.0% of original cost or current amortized
book value must be deducted from both assets and capital in calculating
regulatory capital. See "Regulation - The Bank - Capital Requirements."
CONSUMER LENDING ACTIVITIES. A wide variety of consumer loan products and
services are offered to accommodate customer needs within the Company's
delineated community. At March 31, 1996, $110.3 million or 14.3% of the
Company's total loan portfolio was comprised of consumer loans. While the
Company does accept applications from other areas, the majority of the loans
are from within the delineated community. Consumer loans are originated
through the Company's business centers, customer service department and
indirect sources.
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13
The largest component of the consumer loan portfolio is the home equity product
which is secured by the underlying equity in the borrower's home or second
residence. The home equity product consists of fixed rate amortizing home
equity loans and equity lines of credit with variable interest rates floating
with changes in the prime rate. The total equity portfolio amounted to $92.1
million or 12.0% of the Company's total loan portfolio, unused commitments for
the equity lines of credit totaled $55.7 million. The Company has introduced
alternative financing programs: 100% home equity products and real estate
secured B & C Credits. The combined balances of these alternative financing
programs totaled $4.5 million at March 31, 1996.
The second mortgage indirect program was started in January 1995. Loans in
this program are originated by the Company's approved originators and purchased
after loan closing. There are nine approved originators and total outstanding
loans in this portfolio were $9.5 million at March 31, 1996.
The consumer portfolio also contains small business loans. Small business
loans are originated for business purposes but are structured in accordance
with the Consumer Lending Policy with a maximum commitment amount of $300,000.
These are classified as other consumer loans on the balance sheet and totaled
$8.5 million or 7.7% of the Company's total consumer loan portfolio at March
31, 1996.
The Company originates education loans which are sold at the commencement of
the repayment period to the Student Loan Marketing Association and are
underwritten to conform to the standards of the Pennsylvania Higher Education
Assistance Agency. At March 31, 1996, the Company had $10.5 million of such
loans classified as loans available for sale.
At March 31, 1996, the Company's remaining consumer loan portfolio was
comprised of automobile loans, personal loans and other consumer products. The
total outstanding for these products was $15.0 million at March 31, 1996.
Consumer loans generally have shorter terms and higher interest rates than
mortgage loans but generally involve more credit risk than mortgage loans
because of the type and nature of the collateral and, in certain cases, the
absence of collateral. These risks are not as prevalent in the case of the
Company's consumer loan portfolio, however, because a high percentage of the
portfolio is comprised of home equity loans and home equity lines of credit
which are secured by real estate and underwritten in a manner such that they
result in a lending risk which is substantially similar to single-family
residential loans.
MULTI-FAMILY/COMMERCIAL REAL ESTATE LENDING ACTIVITIES. The Company has
maintained an active role in commercial and multi-family lending for many years
with the majority of its portfolio secured by properties consisting primarily
of owner-occupied, multi-use commercial buildings, apartment buildings and
retail operations. The loans are originated for no more than 80% of the
appraised market value of the property, generally with a term of between five
to seven years, amortization periods of 15 to 25 years and have floating rates
of interest set at the Company's prime rate plus a margin or have fixed
interest rates indexed to U.S. Treasury securities with a constant maturity
("CMT") plus a margin. With respect to fixed-rate loans, the interest rates on
such loans generally are fixed for three to five years at which time they
reprice to the then current CMT rate plus a margin. Fees totaling 1% to 2% of
the
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14
principal balance are also charged. At March 31, 1996, commercial and
multi-family real estate loans totaled $120.5 million or 15.6% of the total
loan portfolio, a $39.9 million or 49.5% increase over the prior year. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Changes in Financial Condition," incorporated by reference in Item
7 hereof. The Company expects to continue its involvement in such lending.
The Company evaluates all aspects of commercial and multi-family residential
real estate loan transactions in order to understand and mitigate risk to the
extent possible. In underwriting these loans, consideration is given to the
stability of the property's cash flow history, future operating projections,
current and projected occupancy, position in the local and regional market, as
well as location and physical condition. The Company also generally imposes a
debt coverage ratio (the ratio of net cash from operations before payment of
debt service to debt service) of not less than 115%. The underwriting analysis
also includes credit checks and a review of the financial condition of the
borrower and guarantor, if applicable. A narrative appraisal report is
prepared by either a state-certified or a Member of Appraisal Institute
appraiser commissioned or pre-approved by the Company to substantiate property
values for every commercial real estate loan transaction. These appraisal
reports are reviewed by the Company prior to the closing of the loan. The
Company also obtains recourse from the borrower or principals of the borrowers
whenever possible.
Multi-family and commercial lending entails different and significant risks
when compared to single-family residential lending because such loans typically
involve large loan balances to single borrowers and because the payment
experience on such loans is typically dependent on the successful operation of
the project or the borrower's business. These risks can also be significantly
affected by supply and demand conditions in the local market for apartments,
offices, warehouses or other commercial space. The Company attempts to minimize
its risk exposure by limiting such lending to proven developers/owners, only
considering properties with existing operating performance which can be
analyzed, requiring conservative debt coverage ratios, and continually
monitoring the operation and physical condition of the collateral.
CONSTRUCTION LENDING ACTIVITIES. Substantially all of the construction loans
originated by the Company in recent periods have been for the construction of
owner-occupied, single-family dwellings in the Company's primary market area.
Such loans generally have terms not exceeding 18 months, with the ability of
the Company to extend the term up to 12 additional months, have loan-to-value
ratios of 80% or less of the appraised market value upon completion and
generally do not require the amortization of the principal during the term. The
loans are made with floating rates of interest based on the Company's prime
rate plus a margin. The Company also receives fees upon issuance of the
commitment, which generally range from 1.0% to 1.5% of the commitment. The
majority of such loans consist of loans to selected local developers with whom
the Company is familiar to build single-family dwellings on both a pre-sold or
limited speculative basis. However, the Company generally will not allow a
developer to have more than one speculative property and one model home at any
given time. The developer may qualify for additional speculative units with
the contribution of additional equity. The borrower is required to fund at
least 25% of the project costs. All other units must be pre-sold before
construction financing on those units commences. Loan proceeds are disbursed
in stages after inspections of the project indicate that such disbursements are
for costs already incurred and added to the value of the
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15
project. Only interest payments are due during the construction phase and
often the loans include a reserve for paying the stated interest due thereon.
The Company also will originate construction loans which convert upon the
completion of construction to permanent residential mortgage loans. At March
31, 1996, residential construction loans totaled $110.7 million or 14.4% of the
total loan portfolio, an increase of $51.6 million or 87.3% from March 31, 1995
primarily due to an increase in lending to local developers. Commercial
construction loans totaled $14.6 million or 1.9% of the total loan portfolio, a
decrease of $1.3 million from March 31, 1995.
Prior to making a commitment to fund a construction loan, the Company requires
an appraisal of the property by independent appraisers approved by the Board of
Directors. The Company uses MAI qualified appraisers on all of its
construction loans. Loan officers of the Company also review and inspect each
project at the commencement of construction. In addition, the project is
inspected by a salaried inspection officer of the Company prior to every
disbursement of funds during the term of the construction loan. Such
inspection includes a review for compliance with the construction plan,
including materials specifications.
Construction financing is generally considered to involve a higher degree of
risk of loss than long-term financing on improved, owner-occupied real estate.
Risk of loss on a construction loan is dependent largely upon the accuracy of
the initial estimate of the property's value at completion of construction or
development and the estimated cost (including interest) of construction.
During the construction phase, a number of factors could result in delays and
cost overruns. If the estimate of value proves to be inaccurate, the Company
may be confronted, at or prior to the maturity of the loan, with a project,
when completed, having a value which is insufficient to assure full repayment.
The Company believes that these risks are somewhat mitigated by its experienced
senior lending personnel and its underwriting standards and procedures which
focus on the credit quality and cash flow of the sponsors and guarantors.
Equity interests of the borrowers are required for each transaction, which is
reviewed for the reasonableness of the projected costs involved. In addition, a
market analysis is conducted on each project using independent market data as
well as the knowledge and experience of the construction lending staff.
COMMERCIAL BUSINESS LENDING ACTIVITIES. Beginning in fiscal 1991, the Company
began offering commercial business loans, including working capital lines of
credit and term loans to facilitate the financing of inventory, accounts
receivable, equipment and real property. Depending on the collateral pledged
to secure the extension of credit, maximum loan to value ratios range from 50%
(if used equipment is pledged) to 100% (if deposits at the Company are
pledged). Loan terms vary from one year for lines of credit to 10 years for
equipment, real property and business acquisition loans. The interest rates on
such loans can be fixed or variable. Variable-rate loans are indexed to the
Company's prime rate, while fixed-rate loans are tied to the CMT plus a margin.
The Company also generally obtains personal guarantees from the principals of
the borrowers. At March 31, 1996, commercial business loans amounted to $69.6
million or 9.0% of the total portfolio, as compared to $33.3 million or 5.5% at
March 31, 1995. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Changes in Financial Condition,"
incorporated by reference in Item 7 hereof.
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ASSET QUALITY
When a borrower fails to make a required payment on a loan, the Company
attempts to cure the deficiency by contacting the borrower and seeking the
payment. Depending upon the type of loan, late notices are sent and/or
personal contacts are made. In most cases, deficiencies are cured promptly.
While the Company generally prefers to work with borrowers to resolve such
problems, when a mortgage loan becomes 90 days delinquent, the Company
institutes foreclosure or other proceedings, as necessary, to minimize any
potential loss.
Loans are placed on non-accrual status when, in the judgment of management, the
probability of collection of interest is deemed to be insufficient to warrant
further accrual. When a loan is placed on non-accrual status, previously
accrued but unpaid interest is deducted from interest income. The Company does
not accrue interest on loans past due 90 days or more. Payments received on
nonaccrual and impaired loans are applied to the outstanding principal balance.
Real estate acquired by the Company as a result of foreclosure or by
deed-in-lieu of foreclosure is classified as other real estate owned until it
is sold. When a property is acquired, it is recorded at the lower of cost or
fair value, less estimated selling costs. Fair value is generally determined
through the use of independent appraisals. In certain cases, internal cash
flow analyses are used as the basis for fair value if such amounts are lower
than appraised values. All costs incurred in maintaining the Company's
interest in the property are capitalized between the date the loan becomes
delinquent and the date of acquisition, and any write-downs resulting at
acquisition are charged to the allowance for loan losses. After the date of
acquisition, all costs incurred in maintaining the property are expensed and
costs incurred for the improvement or development of such property are
capitalized. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations - Recent Accounting Pronouncements," incorporated by
reference in Item 7 hereof.
The Company's Asset Workout Group consists of a full time employee and two
part-time employees who manage the disposition of all real estate owned
projects, and other impaired assets that are transferred to that department for
resolution. The Company has ceased its involvement in any new real estate
development activities. The transfer of a loan to the Asset Workout Group for
resolution is made when the normal payment of a loan becomes doubtful and usual
methods of collection have been exhausted and/or a loan has to be restructured
in a manner that would significantly alter the original terms of the loan
beyond what the Company would be willing to accept in a normal situation. The
Asset Workout Group reports to the Manager, Lending Division and on a quarterly
basis to the Asset Review Committee and the Board of Directors.
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NON-PERFORMING ASSETS. The following table sets forth the amounts and
categories of the Company's non-performing assets and troubled debt
restructurings at the dates indicated.
March 31,
-----------------------------------------------------------------------
1996 1995 1994 1993 1992
---- ---- ---- ---- ----
Non-accruing loans:
Single-family residential $4,039 $1,670 $1,521 $2,738 $3,487
Construction 3,275 2,130 2,018 7,311 9,439
Commercial real estate 526 2,733 1,385 2,689 3,887
Consumer and other 562 224 392 795 380
------- ------ ------- ------- -------
Total non-accruing loans 8,402 6,757 5,316 13,533 17,193
------- ------ ------- ------- -------
Accruing loans greater than 90 days delinquent - 5 23 43 4
------- ------ ------- ------- -------
Total non-performing loans 8,402 6,762 5,339 13,576 17,197
------- ------ ------- ------- -------
Other real estate owned ("OREO") 2,043 1,010 3,075 3,404 3,862
Real estate held for development or resale - 1,159 3,949 7,678 15,790
------- ------ ------- ------- -------
Total non-performing assets $10,445 $8,931 $12,363 $24,658 $36,849
======= ====== ======= ======= =======
Total non-performing loans as a percentage
of gross loans receivable (1) 1.05% 1.23% 1.77% 4.25% 4.12%
======= ====== ======= ======= =======
Total non-performing assets
as a percentage of total assets 0.59% 0.57% 1.23% 3.72% 3.72%
======= ====== ======= ======= =======
- ---------------
(1) Includes loans receivable and loans available for sale, less construction
and land loans in process and deferred loan origination fees and discounts.
The Company's total non-performing assets have declined from $36.8 million or
3.72% of total assets at March 31, 1992 to $10.4 million or 0.59% of total
assets at March 31, 1996. During the fiscal year ended March 31, 1996, total
non-performing assets increased by $1.5 million or 17.0% principally due to the
acquisition of $3.1 million of nonacccrual loans and $900,000 of other real
estate owned in connection with the Suburban acquisition, despite a $2.2
million decrease in nonaccruing commercial real estate loans.
The $4.0 million of non-performing single-family residential loans at March 31,
1996 consisted of 66 loans, the largest of which had a balance of $373,000.
The $3.3 million of non-accruing construction loans at March 31, 1996 consisted
of three loans, including one loan with a balance of $1.8 million. This loan
was an acquisition and development and construction loan for a commercial
development located in West Chester, PA. The underlying collateral consists of
approximately 70 acres of unimproved land zoned for multi-family and light
commercial use. The borrower has been in personal bankruptcy for approximately
two years.
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The $526,000 of the Company's non-performing commercial real estate loans at
March 31, 1996 consisted of five loans. The largest of these loans had a
balance of $312,000, and is secured by a restaurant/entertainment facility in
Pennsylvania.
During fiscal 1996, 1995 and 1994 approximately $1.1 million, $642,000 and
$429,000 in interest income, respectively, would have been recorded on loans
accounted for on a non-accrual basis if such loans had been current in such
periods according to their original terms and had been outstanding throughout
the period or since origination if held for part of the period. These amounts
were not included in the Company's interest income for the respective periods.
The amount of interest income on loans accounted for on a non-accrual basis and
loans greater than 90 days past due and still accruing that was included in
income during the same respective periods amounted to approximately $96,000,
$227,000 and $77,000.
OTHER CLASSIFIED ASSETS. In addition to the non-performing assets discussed
above, at March 31, 1996, the Company had classified for regulatory and
internal purposes an additional $8.6 million of assets as "substandard." Under
applicable regulations, substandard assets have one or more defined weaknesses
and are characterized by the distinct possibility that an institution will
sustain some loss if the deficiencies are not corrected. See generally " -
Allowance for Loan Losses." Of the $8.6 million of substandard assets at March
31, 1996 which were not included under non-performing assets, an aggregate of
$2.2 million were commercial real estate loans and $1.8 million were commercial
business loans.
The $2.2 million of classified commercial real estate loans not included in
non-performing assets at March 31, 1996 consisted of seven loans, one of which
had a balance over $900,000. This is a 28.6% participation in a loan which was
originated in 1976, which is secured by a motor inn and adjacent office
building located in Maryland. At December 31, 1993, the balance of the
Company's participation amounted to $1.1 million. The lead bank on the loan
was taken into receivership in 1992 and an RTC contractor is currently
servicing the loan. A telephone company, which was the office building's only
tenant, vacated the building during 1993, but has continued to make payments on
the lease which expires in 1996. The motor inn, which was renovated in 1989,
is currently experiencing a cash flow deficit. The Company's participation
interest is secured by a first lien on the property. The property was
appraised in November 1993 for approximately $11.0 million. Based on the
appraisal, the Company does not anticipate any losses on its participation.
The $1.8 million of the Company's classified commercial business loans not
included in non-performing assets at March 31, 1996 consisted of 13 first
mortgage loans to one borrower related to investment properties and one home
improvement loan. The underlying investment properties were appraised in March
1996 for approximately $2.2 million. In March 1996, the borrower entered into
a forebearance agreement with the Company
ALLOWANCE FOR LOAN LOSSES. An allowance for loan losses is maintained at a
level that management considers adequate to provide for potential losses based
upon an evaluation of known and inherent risks in the loan portfolio.
Management's periodic evaluation is based upon examination of the portfolio,
past loss experience, current economic conditions, the results of the most
recent regulatory examinations, and
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other relevant factors. While management uses the best information available
to make such evaluations, future adjustments to the allowance may be necessary
if economic conditions differ substantially from the assumptions used in making
the evaluations.
ALLOWANCE FOR LOAN LOSSES. The following table summarizes changes in the
allowance for loan losses and other selected statistics for the periods
presented.
For Year Ended March 31,
---------------------------------------------------------------------
1996 1995 1994 1993 1992
---- ---- ---- ---- ----
(Dollars In Thousands)
Allowance for loan losses, beginning of year $9,111 $7,337 $7,488 $6,996 $2,521
Charged-off loans:
Single-family residential - - - (7) (315)
Construction - (1,350) (184) (1,346) (3,283)
Commercial real estate (485) (162) (584) (1,241) (1,283)
Commercial business (422) - - - -
Consumer and other (281) (249) (550) (157) (294)
--------- --------- --------- --------- ---------
Total charged-off loans (1,188) (1,761) (1,318) (2,751) (5,175)
--------- --------- --------- --------- ---------
Recoveries on loans previously charged-off:
Commercial real estate 125 - - - -
Consumer and other 56 135 54 74 23
--------- --------- --------- --------- ---------
Total recoveries 181 135 54 74 23
--------- --------- --------- --------- ---------
Net loans charged-off (1,007) (1,626) (1,264) (2,677) (5,152)
Provisions for loan losses 4,000 3,400 1,113 3,169 9,627
Allowance acquired from Suburban 1,020 - - - -
--------- --------- --------- --------- ---------
Allowance for loan losses, end of year $13,124 $9,111 $7,337 $7,488 $6,996
========= ========= ========= ========= =========
Net loans charged-off to average
interest-earning loans (1) 0.15% 0.39% 0.41% 0.75% 1.29%
========= ========= ========= ========= =========
Allowance for loan losses to gross
loans receivable (1) 1.64% 1.56% 2.43% 2.34% 1.67%
========= ========= ========= ========= =========
Allowance for loan losses to non-performing loans 156.20% 134.74% 137.50% 55.16% 40.68%
========= ========= ========= ========= =========
Net loans charged-off to allowance for loan losses 7.67% 17.85% 17.23% 35.75% 73.64%
========= ========= ========= ========= =========
Recoveries to charge-offs 15.24% 7.67% 4.10% 2.69% 0.44%
========= ========= ========= ========= =========
- ---------------
(1) Gross loans receivable and average interest-earning loans receivable
include loans receivable and loans available for sale, less construction and
land loans in process and deferred loan origination fees and discounts.
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The following table presents the allocation of the allowance for loan losses to
the total amount of loans in each category listed at the dates indicated.
March 31,
-------------------------------------------------------------------------------------------
1996 1995 1994
-------------------------- ---------------------------- -------------------------------
% of Loans % of Loans % of Loans
in Each in Each in Each
Catagory to Catagory to Catagory to
Amount Total Loans Amount Total Loans Amount Total Loans
------ ----------- ------ ----------- ------ -----------
Single-family residential $1,564 44.74% $595 53.59% $322 36.53%
Multi-family residential 113 1.47 108 1.78 26 3.54
Construction 3,083 16.27 1,738 12.33 1,906 12.30
Commercial real estate 2,635 14.17 2,484 11.47 1,342 16.37
Consumer 737 14.31 370 15.35 384 28.43
Commercial business 2,011 9.04 763 5.48 223 2.83
Unallocated 2,981 --- 3,053 --- 3,134 ---
--------- -------- -------- -------- --------- ---------
Total allowance for loan losses $13,124 100.00% $9,111 100.00% $7,337 100.00%
========= ======== ======== ======== ========= =========
March 31,
-----------------------------------------------------------
1993 1992
----------------------------- ----------------------------
% of Loans % of Loans
in Each in Each
Catagory to Catagory to
Amount Total Loans Amount Total Loans
------ ----------- ------ -----------
Single-family residential $328 44.36% $1,025 49.42%
Multi-family residential 37 4.83 50 4.85
Construction 866 9.46 2,115 14.07
Commercial real estate 1,295 11.49 991 9.50
Consumer 398 27.55 288 20.81
Commercial business 758 2.31 254 1.35
Unallocated 3,806 --- 2,273 ---
-------- --------- -------- ---------
Total allowance for loan losses $7,488 100.00% $6,996 100.00%
======== ========= ======== =========
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MORTGAGE-RELATED SECURITIES AND INVESTMENTS
Mortgage-Related Securities. Federally-chartered savings institutions have
authority to invest in various types of liquid assets, including United States
Treasury obligations, securities of various Federal agencies and of state and
municipal governments, certificates of deposit at federally-insured banks and
savings and loan associations, certain bankers' acceptances and Federal funds.
Subject to various restrictions, federally-chartered savings institutions may
also invest a portion of their assets in commercial paper, corporate debt
securities and mutual funds, the assets of which conform to the investments
that federally-chartered savings institutions are otherwise authorized to make
directly.
The Company's mortgage-related securities and investment portfolio is managed
by investment officers in accordance with a comprehensive written investment
policy which addresses strategies, types and levels of allowable investments
and which is reviewed and approved by the Board of Directors on an annual
basis. The management of the mortgage-related securities and investment
portfolio is set in accordance with strategies developed by the Company's ALCO.
The Company's Chief Executive Officer, the Chief Financial Officer and
portfolio manager execute the investment policy and are responsible for
informing ALCO of the types of investments available, the status and
performance of the portfolio and current market conditions. The investment
officers are authorized to: purchase or sell any securities as well as
commitments to hedge eligible investments; purchase or sell eligible
investments under repurchase or reverse repurchase agreements; execute hedging
strategies approved by ALCO; pledge securities owned as collateral for public
agency deposits or repurchase accounts or agreements; and lend securities to
approved dealers in government securities or approved commercial banks. Any
one investment officer has the authority to make investments up to 1.5% of
assets, 15% of capital or $21 million without prior approval of ALCO.
Investment officers are only authorized to purchase or sell securities in
excess of these limits when ALCO or the Board of Directors have approved an
overall portfolio strategy which results in the divestiture or the acquisition
of larger blocks of securities. Investment officers are also authorized to
invest excess liquidity in approved liquid investment vehicles. As set forth in
the current Board-approved policy statement, investments in the aggregate
cannot exceed 65% of total assets of the Company.
The Company maintains a significant portfolio of mortgage-related securities as
a means of investing in housing-related mortgage instruments without the costs
associated with originating mortgage loans for portfolio retention and with
limited credit risk of default which arises in holding a portfolio of loans to
maturity. Mortgage-related securities (which also are known as mortgage
participation certificates or pass-through certificates) represent a
participation interest in a pool of single-family or multi-family mortgages,
the principal and interest payments on which are passed from the mortgage
originators, through intermediaries (generally U.S. Government agencies and
government sponsored enterprises) that pool and repackage the participation
interests in the form of securities, to investors such as the Company. Such
U.S. Government agencies and government sponsored enterprises, which guarantee
the payment of principal and interest to investors, primarily include FHLMC,
FNMA and GNMA. The Company also invests in certain privately issued, credit
enhanced mortgage-related securities rated "AA" or better by national
securities rating agencies.
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22
Mortgage-related securities typically are issued with stated principal amounts,
and the securities are backed by pools of mortgages that have loans with
interest rates that are within a certain range and have varying maturities.
The underlying pool of mortgages, i.e., fixed rate or adjustable rate, as well
as prepayment risk, are passed on to the certificate holder. The life of a
mortgage-related pass-through security thus approximates the life of the
underlying mortgages.
The Company's mortgage-related securities include collateralized mortgage
obligations ("CMOs"). CMOs have been developed in response to investor concerns
regarding the uncertainty of cash flows associated with the prepayment option
of the underlying mortgagor and are typically issued by governmental agencies,
governmental sponsored enterprises and special purpose entities, such as
trusts, corporations or partnerships, established by financial institutions or
other similar institutions. A CMO can be collateralized by loans or securities
which are insured or guaranteed by FNMA, FHLMC or GNMA. In contrast to
pass-through mortgage-related securities, in which cash flow is received pro
rata by all security holders, the cash flow from the mortgages underlying a CMO
is segmented and paid in accordance with a predetermined priority to investors
holding various CMO classes. By allocating the principal and interest cash
flows from the underlying collateral among the separate CMO classes, different
classes of bonds are created, each with its own stated maturity, estimated
average life, coupon rate and prepayment characteristics.
Mortgage-related securities generally yield less than the loans which underlie
such securities because of their payment guarantees or credit enhancements
which offer nominal credit risk. In addition, mortgage-related securities are
more liquid than individual mortgage loans and may be used to collateralize
certain obligations of the Company. At March 31, 1996, $520.5 million or 59.6%
of the Company's mortgage-related securities were pledged to secure various
obligations of the Company. Mortgage-related securities issued or guaranteed by
FNMA or FHLMC (except interest-only securities or the residual interests in
CMOs) are weighted at no more than 20.0% for risk-based capital purposes,
compared to a weight of 50.0% for residential loans. See "Regulation - The
Company - Capital Requirements."
The Company's mortgage-related securities are classified as either "held to
maturity" or "available for sale" based upon the Company's intent and ability
to hold such securities to maturity at the time of purchase, in accordance with
generally accepted accounting principles. The Company's mortgage-backed
securities which are classified as available for sale include shorter duration
instruments which are used to assist the Company in its management of liquidity
and interest rate risk. These securities generally have less price volatility
than securities with longer durations. Examples of these securities include
adjustable-rate instruments, instruments with balloon payment requirements and
instruments with generally higher than current market fixed interest rates. In
contrast, securities which have longer lives and are subject to greater price
volatility, such as fixed-rate securities at the current market rate, are
classified by the Company as held to maturity. As of March 31, 1996, the
Company held an aggregate of $834.7 million or 47.3% of total assets invested
in mortgage-related securities, net, of which $404.2 million was held to
maturity and $430.6 million was available for sale. The tables below present
the Company's mortgage-related securities on the basis of these
classifications. The mortgage-related securities of the Company which are held
to maturity are carried at cost, adjusted for the amortization of premiums and
the accretion of discounts using a method which approximates a level yield,
while mortgage-related securities available for sale are carried at the lower
of cost or current market value.
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23
The following table sets forth the composition of the Company's
mortgage-related securities that were available for sale at the dates
indicated.
Fair Value at March 31,
----------------------------------------------------
1996 1995 1994
---- ---- ----
(In Thousands)
Mortgage-related securities available
for sale:
FHLMC $234,800 $203,387 $97,135
FNMA 115,518 140,374 53,223
GNMA 40,879 8,801 9,598
Privately issued 39,358 21,871 30,901
----------- ----------- -----------
Total $430,555 (1) $374,433 (1) $190,857 (1)
=========== =========== ===========
- --------------
(1) Includes an unrealized gain of $778,000 at March 31, 1996 and unrealized
losses of $3.7 million and $4.3 million at March 31, 1995 and 1994,
respectively.
The following table sets forth the composition of the Company's
mortgage-related securities portfolio held to maturity at the dates indicated.
Carrying Value at March 31,
------------------------------------------
1996 1995 1994
---- ---- ----
(In Thousands)
Mortgage-related securities:
FHLMC $149,990 $194,970 $190,796
FNMA 150,286 190,085 165,928
GNMA 8,397 27,014 ------
Privately issued 1,785 2,043 2,440
--------- --------- ---------
Total mortgage-related securities 310,458 414,112 359,164
--------- --------- ---------
Collateralized mortgage obligations 93,692 55,108 55,281
--------- --------- ---------
Total mortgage-related securities, net $404,150 $469,220 $414,445
========= ========= =========
Total market value (1) $401,231 $453,455 $405,568
========= ========= =========
- --------------
(1) See Note 3 of the Notes to Consolidated Financial Statements incorporated
by reference in Item 8 hereof.
At March 31, 1996, the contractual maturity of substantially all of the
Company's mortgage-related securities was in excess of ten years. The actual
maturity of a mortgage-related security is expected to be less than its stated
maturity due to prepayments of the underlying mortgages. Prepayments that are
21
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faster than anticipated may shorten the life of the security and adversely
affect its yield to maturity. The yield is based upon the interest income and
the amortization of any premium or discount related to the mortgage-backed
security. In accordance with GAAP, premiums and discounts are amortized over
the estimated lives of the loans, which decrease and increase interest income,
respectively. The prepayment assumptions used to determine the amortization
period for premiums and discounts can significantly affect the yield of the
mortgage-related security, and these assumptions are reviewed periodically to
reflect actual prepayments. Although prepayments of underlying mortgages
depend on many factors, including the type of mortgages, the coupon rate, the
age of mortgages, the geographical location of the underlying real estate
collateralizing the mortgages and general levels of market interest rates, the
difference between the interest rates on the underlying mortgages and the
prevailing mortgage interest rates generally is the most significant
determinant of the rate of prepayments. During periods of falling mortgage
interest rates, if the coupon rate of the underlying mortgages exceeds the
prevailing market interest rates offered for mortgage loans, refinancing
generally increases and accelerates the prepayment of the underlying mortgages
and the related security. Under such circumstances, the Company may be subject
to reinvestment risk because to the extent that the Company's mortgage-related
securities amortize or prepay faster than anticipated, the Company may not be
able to reinvest the proceeds of such repayments and prepayments at a
comparable rate. The declining yields earned during recent periods is a direct
response to falling interest rates and accelerated prepayments. At March 31,
1996, of the $404.2 million of mortgage-related securities held to maturity, an
aggregate of $371.4 million were secured by fixed-rate mortgage loans and an
aggregate of $32.7 million were secured by adjustable-rate mortgage loans. As
of such date, of the $430.6 million of mortgage-related securities available
for sale, an aggregate of $208.4 million were secured by fixed-rate mortgage
loans and an aggregate of $222.2 million were secured by adjustable-rate
mortgage loans.
OTHER INVESTMENTS. The following table sets forth certain information relating
to the Company's investment portfolio held to maturity at the dates indicated.
March 31,
------------------------------------------------------------------------------------------
1996 1995 1994
--------------------------- --------------------------- ----------------------------
Carrying Market Carrying Market Carrying Market
Value Value Value Value Value Value
-------- ------- --------- ------- -------- --------
(In Thousands)
Federal Home Loan Bank stock $18,802 $18,802 $15,997 $15,997 $13,480 $13,480
U.S. Government and agency
obligations and securities 6,000 6,004 30,000 29,157 ---- ----
Other securities 140 140 166 166 178 178
--------- --------- --------- --------- --------- ---------
Total $24,942 $24,946 $46,163 $45,320 $13,658 $13,658
========= ========= ========= ========= ========= =========
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The following table sets forth certain information relating to the Company's
equity and other securities portfolio available for sale at the dates
indicated.
Fair Market Value at March 31,
----------------------------------------
1996 1995 1994
------ ------ ------
(In Thousands)
FHLMC stock $5,060 $4,650 $4,950
FNMA stock 1,763 - -
U. S. Government agency notes 17,762 20,286 10,923
Asset Management Funds for
Financial Institutions, Inc. 11,826 10,951 32,005
Other 2,355 745 116
---------- --------- ---------
Total $38,766 $36,632 $47,994
========== ========= =========
- ---------------
At March 31, 1996, investments in the debt and/or equity securities of any one
issuer (other than securities of the U.S. Government and U.S. Government
agencies and corporations) did not exceed more than 10.0% of the Company's
equity.
SOURCES OF FUNDS
General. The Company's principal source of funds for use in lending and for
other general business purposes has traditionally come from deposits obtained
through the Company's business centers. The Company also derives funds from
amortization and prepayments of outstanding loans and mortgage-backed
securities, from sales of loans, from maturing investment securities and from
advances from the FHLB of Pittsburgh. Loan repayments are a relatively stable
source of funds, while deposits inflows and outflows are significantly
influenced by general interest rates and money market conditions. Borrowings
may be used on a short-term basis to compensate for reductions in the
availability of funds from other sources. They may also be used on a longer
term basis for general business purposes and for specific purposes as
delineated by ALCO.
Deposits. The Company's current deposit products include non-interest bearing
checking accounts, interest bearing checking accounts, passbook accounts,
money market deposit accounts and certificates of deposit ranging in terms from
14 days to 10 years. The Company's deposit products also include Individual
Retirement Account certificates ("IRA certificates").
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The Company's deposits are obtained primarily from residents in its primary
market area of Chester, Delaware and Montgomery Counties in Southeastern
Pennsylvania. The Company attracts deposit accounts by offering a wide variety
of deposit products, competitive interest rates, and convenient business center
locations and service hours. The Company utilizes traditional marketing
methods to attract new deposit customers, including print media and radio
advertising and direct mailings. The Company participates in the regional ATM
network known as MAC(R) and the national ATM network known as PLUS(R).
In fiscal 1995, the Company began acquiring deposits through an intermediary
(without cost). At March 31, 1996, the Company's deposits originated through
an intermediary were $22.7 million with a weighted average cost of 6.64% and an
average life of 11 months. In accordance with policies of the Company's ALCO,
any purchases of brokered deposits by the Company must be approved by a member
of ALCO and the total amount of brokered deposits held by the Company at any
time are limited to 7.5% of total deposits.
The Company has been competitive in the types of accounts and interest rates it
has offered on its deposit products but does not necessarily seek to match the
highest rates paid by competing institutions. The Company experienced increases
in both non-interest bearing checking accounts and interest bearing checking,
savings, money market and retail certificates. The increase in core deposits is
the result of the Company's relationship banking accounts and business
development activities. The Company also intends to continue its efforts to
attract certificates of deposit, including those deposits from local
municipalities. The Company intends to continue its efforts to attract
deposits as a principal source of funds for supporting its lending and
investment activities.
The following table shows the distribution of the Company's deposits by type of
deposit as of the dates indicated.
March 31,
------------------------------------------------------------------------------
1996 1995 1994
-------------------- ------------------- ---------------------
Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ -------
(Dollars in Thousands)
Passbook and statement savings accounts $88,010 10.59% $94,649 13.74% $136,726 20.12%
Money market accounts 100,530 12.10 82,055 11.91 92,324 13.59
Certificates of deposit 506,105 60.90 417,465 60.62 354,871 52.22
NOW accounts 54,585 6.57 40,673 5.91 49,377 7.27
Non-interest-bearing deposits:
Demand deposits 49,038 5.90 33,187 4.82 24,360 3.58
Other 32,729 3.94 20,649 3.00 21,867 3.22
--------- -------- --------- -------- --------- --------
Total deposits at end of period $830,997 100.00% $688,678 100.00% $679,525 100.00%
========= ======== ========= ======== ========= ========
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The following table presents, by various interest rate categories, the amount
of certificates of deposit at March 31, 1996 and 1995, and the amounts at March
31, 1996 which mature during the periods indicated.
Certificates of Deposit March 31, Amounts at March 31, 1996 Maturing Within
- ----------------------- ----------------------------- -------------------------------------------------------------
1996 1995 One Year Two Years Three Years Thereafter
---- ---- -------- --------- ----------- ----------
(In Thousands)
4.0% or less $10,570 $50,295 $10,320 $250 - -
4.01% to 6.0% 352,168 240,469 242,815 67,838 $ 22,051 $ 19,465
6.01% to 8.0% 136,519 116,396 59,572 31,534 7,541 37,871
8.01% to 10.0% 6,848 9,661 5,400 1,124 225 99
10.01% or more - 644 - - - -
--------- --------- --------- --------- -------- --------
Total certificate accounts $506,105 $417,465 $318,107 $100,746 $29,817 $57,435
========= ========= ========= ========= ======== ========
The following table presents the average balance of each deposit type and the
average rate paid on each deposit type for the periods indicated.
March 31,
-----------------------------------------------------------------------------------------------
1996 1995 1994
---------------------------- ----------------------------- -------------------------------
Average Average Average Average Average Average
Balance Rate Paid Balance Rate Paid Balance Rate Paid
------- --------- ------- --------- ------- ---------
(Dollars in Thousands)
Passbook and Statement
Savings Accounts $85,578 2.26% $115,840 2.38% $125,443 3.00%
Money Market Accounts 89,229 3.04 87,243 2.69 91,920 2.81
Certificates of Deposits 456,727 5.76 396,133 4.97 328,712 4.89
NOW Accounts 48,382 1.73 46,003 1.78 49,260 2.44
Non-Interest Bearing Deposits 65,494 ---- 46,448 ---- 43,459 ----
-------- -------- -------- -------- -------- --------
Total Deposits $745,410 4.26% $691,667 3.70% $638,794 3.70%
======== ======== ======== ======== ======== ========
The following table sets forth the net savings flows of the Company during the
periods indicated.
Year Ended March 31,
------------------------------------------------
1996 1995 1994
---- ---- ----
(In Thousands)
Increase (decrease) before interest credited $112,073 ($14,128) $37,113
Interest credited 30,246 23,281 23,719
--------- --------- ---------
Net savings increase $142,319 $9,153 $60,832
========= ========= =========
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The following table sets forth maturities of the Company's certificates of
deposit of $100,000 or more at March 31, 1996 by time remaining to maturity (In
thousands).
Three months or less $42,555
Over three months through six months 12,547
Over six months through 12 months 10,020
Over 12 months 6,309
-------
$71,431
=======
Borrowings. The Company may obtain advances from the FHLB of Pittsburgh upon
the security of the common stock it owns in that bank and certain of its
residential mortgage loans and securities held to maturity, provided certain
standards related to creditworthiness have been met. Such advances are made
pursuant to several credit programs, each of which has its own interest rate
and range of maturities. Such advances are generally available to meet
seasonal and other withdrawals of deposit accounts and to permit increased
lending. In recent years, such advances were primarily used to fund the
Company's investment and loan activities. See "Management's Discussion and
Analysis of Financial Condition and Results of Operation - Results of
Operations incorporated by reference in Item 7 hereof." At March 31, 1996, the
Company had $376.0 million of advances from the FHLB of Pittsburgh. See Note 8
of the Notes to Consolidated Financial Statements incorporated by reference in
Item 8 hereof.
In recent years, the Company entered into agreements to sell securities under
terms which require it to repurchase the same securities by a specified date.
Repurchase agreements are considered borrowings which are secured by the sold
securities and generally are short-term (90 days or less) in nature. At March
31, 1996, the Company had $402.2 million of repurchase agreements outstanding.
See Note 9 of the Notes to Consolidated Financial Statements incorporated by
reference in Item 8 hereof.
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29
The following table sets forth certain information regarding borrowed funds at
or for the dates indicated:
At or for the Year Ended March 31,
-----------------------------------------------------------
1996 1995 1994
---- ---- ----
(Dollars In Thousands)
FHLB of Pittsburgh advances:
Average balance outstanding $361,128 $320,572 $278,599
Maximum amount outstanding at any
month-end during the period 461,946 409,607 349,030
Balance outstanding at end of period 376,013 319,928 256,633
Weighted average interest rate
during the period 6.31% 5.64% 5.38%
Weighted average interest rate at
end of period 6.21 6.36 5.25
Repurchase agreements:
Average balance outstanding $357,064 $179,871 $15,427
Maximum amount outstanding at any
month-end during the period 406,310 394,503 20,000
Balance outstanding at end of period 402,212 390,613 162
Weighted average interest rate
during the period 6.19% 5.44% 3.07%
Weighted average interest rate at
end of period 5.65 6.18 3.75
Total borrowings
Average balance outstanding $718,192 $500,443 $294,026
Maximum amount outstanding at any
month-end during the period 779,861 710,541 368,755
Balance outstanding at end of period 778,225 710,541 256,795
Weighted average interest rate
during the period 6.25% 5.57% 5.26%
Weighted average interest rate at
end of period 5.93 6.30 5.25
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SUBSIDIARIES
The Company maintains subsidiary service corporations in order to conduct the
orderly disposition of repossessed assets or conduct operations which
complement the Company's business. Although certain subsidiaries hold a
portion of the Company's OREO, the administrative operations have been
transferred to the Company's Asset Workout Group, primarily as a means to
reduce the operating expenses of the subsidiaries as well as to more fully
utilize the trained personnel in the Asset Workout Group. Although the Company
actively engaged in real estate development activities during the 1980's, the
Company is not currently involved in any at such time, and does not presently
intend to enter into any development projects in the future. At March 31,
1996, the Company's net investment in and advances to its subsidiaries totaled
$109,000. A brief description of the activities of the Company's subsidiaries
is set forth below.
Main Line Abstract Company. Main Line Abstract Company ("Abstract"), a
Pennsylvania corporation and first tier subsidiary of the Company, is a title
insurance agency and abstract company, which provides title services primarily
to the Company and its customers. At March 31, 1996, the Bank's equity
investment in Abstract amounted to $63,000, and Abstract had total assets of
$73,000. For the fiscal year ended March 31, 1996, Main Line Abstract had
total revenues of $180,000, and net income of $18,000.
Greene Townes Financial Corporation. Greene Townes Financial Corporation
("Greene Townes"), a first tier subsidiary of the Bank, is a Pennsylvania
corporation which holds the stock of Revest I Corporation, Revest II
Corporation and Main Line of New Jersey. The Bank's investment in and advances
to Greene Townes amounted to $29,000 at March 31, 1996.
Revest II Corporation is a Pennsylvania corporation, holding certain of the
Company's real estate owned properties. At March 31, 1996, Revest II owns
condominium and apartment units in a development project located in the
Company's primary lending area which had a carrying value of $832,000.
Main Line Financial Corporation. Main Line Financial Corporation ("Main Line
Financial"), is a Pennsylvania corporation, which, through an unaffiliated
intermediary, sells mutual funds. At March 31, 1996, the Bank's investment and
advances to in Main Line Financial amounted to $11,000.
First ML Corporation. First ML Corporation ("First ML"), a Pennsylvania
corporation and a first-tier subsidiary of the Bank, holds the stock of Main
Line of Delaware, Inc., a Delaware holding company. At March 31, 1996, the
Bank's investment and net advances in First ML amounted to $6,000.
During the year ended March 31, 1996, Gulph Towne Corporation, Devon Towne
Corporation, Old Yorkton Corporation and Main Line II of Delaware II, Inc. were
liquidated due to cessation of the companies' operations.
28
31
REGULATION
Set forth below is a brief description of certain laws and regulations which
relate to the regulation of the Company and the Bank. The description of these
laws and regulations, as well as descriptions of laws and regulations contained
elsewhere herein, does not purport to be complete and is qualified in its
entirety by reference to applicable laws and regulations.
THE COMPANY. The Company is a registered savings and loan holding company and
is subject to OTS regulations, examinations, supervision and reporting
requirements. As a subsidiary of a savings and loan holding company, the Bank
is subject to certain restrictions in its dealings with the Company and
affiliates thereof.
Federal Activities Restrictions. There are generally no restrictions on the
activities of a savings and loan holding company which holds only one
subsidiary savings association. However, if the Director of the OTS determines
that there is reasonable cause to believe that the continuation by a savings
and loan holding company of an activity constitutes a serious risk to the
financial safety, soundness or stability of its subsidiary savings institution,
the Director may impose such restrictions as deemed necessary to address such
risk, including limiting (i) payment of dividends by the savings institution;
(ii) transactions between the savings institution and its affiliates; and (iii)
any activities of the savings institution that might create a serious risk that
the liabilities of the holding company and its affiliates may be imposed on the
savings institution. Notwithstanding the above rules as to permissible
business activities of unitary savings and loan holding companies, if the
savings institution subsidiary of such a holding company fails to meet a
Qualified Thrift Lender ("QTL") test, then such unitary holding company also
shall become subject to the activities restrictions applicable to multiple
savings and loan holding companies and, unless the savings institution
requalifies as a QTL within one year thereafter, shall register as, and become
subject to the restrictions applicable to, a bank holding company. See "- The
Bank - Qualified Thrift Lender Test."
If the Company were to acquire control of another savings institution, other
than through merger or other business combination with the Bank, the Company
would thereupon become a multiple savings and loan holding company. Except
where such acquisition is pursuant to the authority to approve emergency thrift
acquisitions and where each subsidiary savings institution meets the QTL test,
as set forth below, the activities of the Company and any of its subsidiaries
(other than the Bank or other subsidiary savings institutions) would thereafter
be subject to further restrictions. Among other things, no multiple savings
and loan holding company or subsidiary thereof which is not a savings
institution shall commence or continue for a limited period of time after
becoming a multiple savings and loan holding company or subsidiary thereof any
business activity, upon prior notice to, and no objection by the OTS, other
than: (i) furnishing or performing management services for a subsidiary savings
institution; (ii) conducting an insurance agency or escrow business; (iii)
holding, managing, or liquidating assets owned by or acquired from a subsidiary
savings institution; (iv) holding or managing properties used or occupied by a
subsidiary savings institution; (v) acting as trustee under deeds of trust;
(vi) those activities authorized by regulation as of March 5, 1987 to be
engaged in by multiple savings and loan holding companies; or (vii) unless the
Director of the OTS by regulation
29
32
prohibits or limits such activities for savings and loan holding companies,
those activities authorized by the Federal Reserve Board as permissible for
bank holding companies. The activities described in (i) through (vi) above may
only be engaged in after giving the OTS prior notice and being informed that
the OTS does not object to such activities. In addition, the activities
described in (vii) above also must be approved by the Director of the OTS prior
to being engaged in by a multiple savings and loan holding company.
Limitations on Transactions with Affiliates. Transactions between savings
institutions and any affiliate are governed by Sections 23A and 23B of the
Federal Reserve Act ("FRA"). An affiliate of a savings institution is any
company or entity which controls, is controlled by or is under common control
with the savings institution. In a holding company context, the parent holding
company of a savings institution (such as the Company) and any companies which
are controlled by such parent holding company are affiliates of the savings
institution. Generally, Sections 23A and 23B (i) limit the extent to which the
savings institution or its subsidiaries may engage in "covered transactions"
with any one affiliate to an amount equal to 10% of such institution's capital
stock and surplus, and contain an aggregate limit on all such transactions with
all affiliates to an amount equal to 20% of such capital stock and surplus and
(ii) require that all such transactions be on terms substantially the same, or
at least as favorable, to the institution or subsidiary as those provided to a
non-affiliate. The term "covered transaction" includes the making of loans,
purchase of assets, issuance of a guarantee and similar transactions. In
addition to the restrictions imposed by Sections 23A and 23B, no savings
institution may (i) loan or otherwise extend credit to an affiliate, except for
any affiliate which engages only in activities which are permissible for bank
holding companies, or (ii) purchase or invest in any stocks, bonds, debentures,
notes or similar obligations of any affiliate, except for affiliates which are
subsidiaries of the savings institution.
In addition, Sections 22(h) and (g) of the FRA place restrictions on loans to
executive officers, directors and principal stockholders. Under Section 22(h),
loans to a director, an executive officer and to a greater than 10% stockholder
of a savings institution (a "principal stockholder"), and certain affiliated
interests of either, may not exceed, together with all other outstanding loans
to such person and affiliated interests, the savings institution's loans to one
borrower limit (generally equal to 15% of the institution's unimpaired capital
and surplus). Section 22(h) also requires that loans to directors, executive
officers and principal stockholders be made on terms substantially the same as
offered in comparable transactions to other persons and also requires prior
board approval for certain loans. In addition, the aggregate amount of
extensions of credit by a savings institution to all insiders cannot exceed the
institution's unimpaired capital and surplus. Furthermore, Section 22(g)
places additional restrictions on loans to executive officers. At March 31,
1996, the Bank was in compliance with the above restrictions.
Restrictions on Acquisitions. Except under limited circumstances, savings and
loan holding companies are prohibited from acquiring, without prior approval of
the Director of the OTS, (i) control of any other savings institution or
savings and loan holding company or substantially all the assets thereof or
(ii) more than 5% of the voting shares of a savings institution or holding
company thereof which is not a subsidiary. Except with the prior approval of
the Director of the OTS, no director or officer of a savings and loan holding
company or person owning or controlling by proxy
30
33
or otherwise more than 25% of such company's stock, may acquire control of any
savings institution, other than a subsidiary savings institution, or of any
other savings and loan holding company.
The Director of the OTS may only approve acquisitions resulting in the
formation of a multiple savings and loan holding company which controls savings
institutions in more than one state if (i) the multiple savings and loan
holding company involved controls a savings institution which operated a home
or branch office located in the state of the institution to be acquired as of
March 5, 1987; (ii) the acquiror is authorized to acquire control of the
savings institution pursuant to the emergency acquisition provisions of the
Federal Deposit Insurance Act ("FDIA"); or (iii) the statutes of the state in
which the institution to be acquired is located specifically permit
institutions to be acquired by the state-chartered institutions or savings and
loan holding companies located in the state where the acquiring entity is
located (or by a holding company that controls such state-chartered savings
institutions).
Under applicable law, the Federal Reserve Board is authorized to approve an
application by a bank holding company to acquire control of a savings
institution. In addition, a bank holding company that controls a savings
institution may merge or consolidate the assets and liabilities of the savings
institution with, or transfer assets and liabilities to, any subsidiary bank
which is a member of the Bank Insurance Fund ("BIF") with the approval of the
appropriate federal banking agency and the Federal Reserve Board. There have
been a number of acquisitions of savings institutions by bank holding companies
in recent years.
THE BANK. The OTS has extensive regulatory authority over the operations of
savings institutions. As part of this authority, savings institutions are
required to file periodic reports with the OTS and are subject to periodic
examinations by the OTS. The investment and lending authority of savings
institutions are prescribed by federal laws and regulations and they are
prohibited from engaging in any activities not permitted by such laws and
regulations. Those laws and regulations generally are applicable to all
federally-chartered savings institutions and may also apply to state-chartered
savings institutions. Such regulation and supervision is primarily intended
for the protection of depositors.
The OTS' enforcement authority over all savings institutions and their holding
companies includes, among other things, the ability to assess civil money
penalties, to issue cease and desist or removal orders and to initiate
injunctive actions. In general, these enforcement actions may be initiated for
violations of laws and regulations and unsafe or unsound practices. Other
actions or inactions may provide the basis for enforcement action, including
misleading or untimely reports filed with the OTS. The OTS is required, except
under certain circumstances, to make public disclosure of final enforcement
actions.
Insurance of Accounts. The deposits of the Bank are insured up to $100,000 per
insured member (as defined by law and regulation) by the SAIF administered by
the FDIC and are backed by the full faith and credit of the United States
Government. As insurer, the FDIC is authorized to conduct examinations of, and
to require reporting by, FDIC-insured institutions. It also may prohibit any
FDIC-insured institution from engaging in any activity the FDIC determines by
regulation or order to
31
34
pose a serious threat to the FDIC. The FDIC also has the authority to initiate
enforcement actions against savings institutions, after giving the OTS an
opportunity to take such action.
The FDIC has issued a regulation which implements a risk-based assessment
system of insurance. Under the regulation, institutions are assigned to one of
three capital groups which are based solely on the level of an institution's
capital -- "well capitalized," "adequately capitalized," and "undercapitalized"
- -- which are defined in the same manner as the regulations establishing the
prompt corrective action system under the FDIA. These three groups are then
divided into three subgroups which reflect varying levels of supervisory
concern, from those which are considered to be healthy to those which are
considered to be of substantial supervisory concern. The matrix so created
results in nine assessment risk classifications, with rates ranging from .23%
for well capitalized, healthy institutions to .31% for undercapitalized
institutions with substantial supervisory concerns. The insurance premium
applicable to the Bank as of March 31, 1996 was .23% of insured deposits.
The FDIC may terminate the deposit insurance of any insured depository
institution, including the Bank, if it determines after a hearing that the
institution has engaged or is engaging in unsafe or unsound practices, is in an
unsafe or unsound condition to continue operations, or has violated any
applicable law, regulation, order or any condition imposed by an agreement with
the FDIC. It also may suspend deposit insurance temporarily during the hearing
process for the permanent termination of insurance, if the institution has no
tangible capital. If insurance of accounts is terminated, the accounts at the
institution at the time of the termination, less subsequent withdrawals, shall
continue to be insured for a period of six months to two years, as determined
by the FDIC. Management is aware of no existing circumstances which could
result in termination of the Bank's deposit insurance.
Both the SAIF and the BIF, the federal deposit insurance fund that covers the
deposits of state and national banks and certain state savings banks, are
required by law to attain and thereafter maintain a reserve ratio of 1.25% of
insured deposits. The BIF has achieved the required reserve rate, and, as
discussed below, the FDIC recently substantially reduced the average deposit
insurance premium paid by BIF-insured banks to a level substantially below the
average premium paid by savings institutions.
On November 14, 1995, the FDIC approved a final rule regarding deposit
insurance premiums. The final rule reduced deposit insurance premiums for BIF
member institutions to zero basis points (subject to a $1,000 minimum) for
institutions in the lowest risk category, while holding deposit insurance
premiums for SAIF members at their current levels (23 basis points for
institutions in the lowest risk category). The reduction was effective with
respect to the semiannual premium assessment beginning January 1, 1996.
Accordingly, in the absence of further legislative action, SAIF members such as
the Bank will be competitively disadvantaged as compared to commercial banks by
the resulting premium differential.
The U.S. House of Representatives and Senate have actively considered
legislation which would have eliminated the premium differential between
SAIF-insured institutions and BIF-insured institutions by recapitalizing the
SAIF's reserves to the required ratio. The proposed legislation would have
provided that all SAIF member institutions pay a special one-time assessment to
recapitalize the SAIF, which in the aggregate would have been sufficient to
bring the reserve ratio in the SAIF to 1.25% of insured deposits. Based on the
current level of reserves maintained by the SAIF, it was anticipated
32
35
that the amount of the special assessment required to recapitalize the SAIF
would have been approximately 80 to 85 basis points of the SAIF-assessable
deposits. It was anticipated that after the recapitalization of the SAIF,
premiums paid by SAIF-insured institutions would be reduced to match those
currently being assessed BIF-insured commercial banks. The legislation also
provided for the merger of the BIF and the SAIF, with such merger being
conditioned upon the prior elimination of the thrift charter.
The legislation discussed above had been, for some time, included as part of a
fiscal 1996 federal budget bill, but was eliminated prior to the bill being
enacted on April 26, 1996. In light of the legislation's elimination and the
uncertainty of the legislative process generally, management cannot predict
whether legislation reducing SAIF premiums and/or imposing a special one-time
assessment will be adopted, or, if adopted, the amount of the assessment, if
any, that would be imposed on the Company.
If legislation were to be enacted in the future which would assess a one-time
special assessment of 85 basis points, the Company would (based upon the
Company's SAIF deposits as of March 31, 1996) incur an adverse earnings impact
of approximately $4.3 million, net of related tax benefits. In addition, the
enactment of such legislation might have the effect of immediately reducing the
Company's capital by such an amount.
Capital Requirements. Federally insured savings institutions are required to
maintain minimum levels of regulatory capital. Pursuant to the Financial
Institutions Reform Recovery and Enforcement Act of 1989 ("FIRREA"), the OTS
has established capital standards applicable to all savings institutions.
These standards generally must be as stringent as the comparable capital
requirements imposed on national banks. The OTS also is authorized to impose
capital requirements in excess of these standards on individual institutions on
a case-by-case basis.
Current OTS capital standards require savings institutions to satisfy three
different capital requirements. Under these standards, savings institutions
must maintain "tangible" capital equal to 1.5% of adjusted total assets, "core"
capital equal to 3% of adjusted total assets and "total" capital (a combination
of core and "supplementary" capital) equal to 8.0% of "risk-weighted" assets.
For purposes of the regulation, core capital generally consists of common
stockholders' equity (including retained earnings), noncumulative perpetual
preferred stock and related surplus, minority interests in the equity accounts
of fully consolidated subsidiaries, certain non-withdrawable accounts and
pledged deposits and "qualifying supervisory goodwill." Tangible capital is
given the same definition as core capital but does not include qualifying
supervisory goodwill and is reduced by the amount of all the savings
institution's intangible assets, with only a limited exception for purchased
mortgage servicing rights. Both core and tangible capital are further reduced
by an amount equal to a savings institution's debt and equity investments in
subsidiaries engaged in activities not permissible to national banks (other
than subsidiaries engaged in activities undertaken as agent for customers or in
mortgage banking activities and subsidiary depository institutions or their
holding companies). At March 31, 1996, the Bank had no subsidiaries which were
engaged in impermissible activities, and therefore did not have a deduction
from its capital calculation.
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36
A savings institution is allowed to include both core capital and supplementary
capital in the calculation of its total capital for purposes of the risk-based
capital requirements, provided that the amount of supplementary capital does
not exceed the savings institution's core capital. Supplementary capital
generally consists of hybrid capital instruments; perpetual preferred stock
which is not eligible to be included as core capital; subordinated debt and
intermediate-term preferred stock; and, subject to limitations, general
allowances for loan losses. Assets are adjusted under the risk-based
guidelines to take into account different risk characteristics, with the
categories ranging from 0% (requiring no additional capital) for assets such as
cash to 100% for repossessed assets or loans more than 90 days past due.
Single-family residential real estate loans which are not more than 90 days
past-due or non-performing and which have been made in accordance with prudent
underwriting standards are assigned a 50% level in the risk-weighing system, as
are certain privately-issued mortgage-backed securities representing indirect
ownership of such loans. Off-balance sheet items also are adjusted to take
into account certain risk characteristics.
In August 1993, the OTS and other federal banking agencies published a final
rule modifying their existing risk-based capital standards to provide for
consideration of interest rate risk when assessing capital adequacy of a bank.
Under the final rule, the OTS must explicitly include a bank's exposure to
declines in the economic value of its capital due to changes interest rates as
a factor in evaluating a bank's capital adequacy. In addition, in August 1995,
the OTS and the other federal banking agencies published a joint policy
statement for public comment that describes the process the banking agencies
will use to measure and assess the exposure of a bank's net economic value to
change in interest rates. Under the policy statement, the OTS will consider
results of supervisory and internal interest rate risk models as one factor in
evaluating capital adequacy. The OTS intends, at a future date, to incorporate
explicit minimum requirements for interest rate risk in its risk-based capital
standards through the use of a model developed from the policy statement, a
future proposed rule and the public comments received therefrom.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations - Capital Resources" incorporated by reference in Item 7 hereof
setting forth the Bank's compliance with its capital requirements.
Prompt Corrective Action. Under the FDIA, each federal banking agency is
required to implement a system of prompt corrective action for institutions
which it regulates. The federal banking agencies, including the OTS, have
adopted substantially similar regulations, which became effective December 19,
1992. Under the regulations, an institution shall be deemed to be (i) "well
capitalized" if it has total risk-based capital of 10.0% or more, has a Tier I
risk-based capital ratio of 6.0% or more, has a Tier I leverage capital ratio
of 5.0% or more and is not subject to any order or final capital directive to
meet and maintain a specific capital level for any capital measure, (ii)
"adequately capitalized" if it has a total risk-based capital ratio of 8.0% or
more, a Tier I risk-based capital ratio of 4.0% or more and a Tier I leverage
capital ratio of 4.0% or more (3.0% under certain circumstances) and does not
meet the definition of "well capitalized," (iii) "undercapitalized" if it has a
total risk-based capital ratio that is less than 8.0%, a Tier I risk-based
capital ratio that is less than 4.0% or a Tier I leverage capital ratio that is
less than 4.0% (3.0% under certain circumstances), (iv) "significantly
34
37
undercapitalized" if it has a total risk-based capital ratio that is less than
6.0%, a Tier I risk-based capital ratio that is less than 3.0% or a Tier I
leverage capital ratio that is less than 3.0%, and (v) "critically
undercapitalized" if it has a ratio of tangible equity to total assets that is
equal to or less than 2.0%. The FDIA and the regulations promulgated
thereunder also specify circumstances under which a federal banking agency may
reclassify a well capitalized institution as adequately capitalized and may
require an adequately capitalized institution or an undercapitalized
institution to comply with supervisory actions as if it were in the next lower
category (except that the FDIC may not reclassify a significantly
undercapitalized institution as critically undercapitalized). At March 31,
1996, the Bank was in the "well capitalized" category.
Liquidity Requirements. All savings institutions are required to maintain an
average daily balance of liquid assets equal to a certain percentage of the sum
of its average daily balance of net withdrawable deposit accounts and
borrowings payable in one year or less. The liquidity requirement may vary
from time to time (between 4% and 10%) depending upon economic conditions and
savings flows of all savings institutions. At the present time, the required
minimum liquid asset ratio is 5%. The Bank has consistently exceeded such
regulatory liquidity requirement and, at March 31, 1996, had a liquidity ratio
of 5.6%.
Qualified Thrift Lender Test. A thrift institution is required to maintain 65%
of portfolio assets in Qualified Thrift Investments ("QTIs") on a monthly
average basis in nine out of every 12 months. Portfolio assets are defined as
total assets less intangibles, property used by a savings institution in its
business and liquidity investments in an amount not exceeding 20% of assets.
Generally, QTIs are residential housing related assets. At March 31, 1996, the
amount of the Bank's assets which were invested in QTIs was 87.6%, which
exceeded the percentage required to qualify the Bank under the QTL test. A
savings institution that does not meet the QTL test must either convert to a
bank charter or comply with the following restrictions on its operations: (i)
the institution may not engage in any new activity or make any new investment,
directly or indirectly, unless such activity or investment is permissible for a
national bank; (ii) the branching powers of the institution shall be restricted
to those of a national bank; (iii) the institution shall not be eligible to
obtain any advances from its FHLB; and (iv) payment of dividends by the
institution shall be subject to the rules regarding payment of dividends by a
national bank. Upon the expiration of three years from the date the
institution ceases to be a QTL, it must cease any activity and not retain any
investment not permissible for a national bank and immediately repay any
outstanding FHLB advances (subject to safety and soundness considerations).
Restrictions on Capital Distributions. OTS regulations govern capital
distributions by savings institutions, which include cash dividends, stock
redemptions or repurchases, cash-out mergers, interest payments on certain
convertible debt and other transactions charged to the capital account of a
savings institution to make capital distributions. Generally, the regulation
creates a safe harbor for specified levels of capital distributions from
institutions meeting at least their minimum capital requirements, so long as
such institutions notify the OTS and receive no objection to the distribution
from the OTS. Savings institutions and distributions that do not qualify for
the safe harbor are required to obtain prior OTS approval before making any
capital distributions.
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38
Generally, savings institutions that before and after the proposed distribution
meet or exceed their fully phased-in capital requirements, or Tier 1
institutions, may make capital distributions during any calendar year equal to
the higher of (i) 100% of net income for the calendar year-to-date plus 50% of
its "surplus capital ratio" at the beginning of the calendar year or (ii) 75%
of net income over the most recent four-quarter period. The "surplus capital
ratio" is defined to mean the percentage by which the institution's ratio of
total capital to assets exceeds the ratio of its fully phased-in capital
requirement to assets. "Fully phased-in capital requirement" is defined to
mean an institution's capital requirement under the applicable statutory and
regulatory standards on December 31, 1994, as modified to reflect any
applicable individual minimum capital requirement imposed upon the institution.
Failure to meet fully phased-in or minimum capital requirements will result in
further restrictions on capital distributions including possible prohibition
without explicit OTS approval.
In order to make distributions under these safe harbors, Tier 1 and Tier 2
institutions must submit written notice to the OTS 30 days prior to making the
distribution. The OTS may object to the distribution during that 30-day period
based on safety and soundness concerns. In addition, a Tier 1 institution
deemed to be in need of more than normal supervision by the OTS may be
downgraded to a Tier 2 or Tier 3 institution as a result of such a
determination. The Bank currently is a Tier 1 institution for purposes of the
regulation dealing with capital distributions.
OTS regulations also prohibit the Bank from declaring or paying any dividends
or from repurchasing any of its stock if, as a result, the regulatory (or
total) capital of the Bank would be reduced below the amount required to be
maintained for the liquidation account established by it for certain depositors
in connection with its conversion from mutual to stock form.
On December 5, 1994, the OTS published a notice of proposed rule making to
amend its capital distribution regulation. Under the proposal, institutions
would only be permitted to make capital distributions that would not result in
their capital being reduced below the level required to remain "adequately
capitalized," as defined under "- Prompt Corrective Action" above. Because the
Bank is a subsidiary of a holding company, the proposal would require the Bank
to provide notice to the OTS of its intent to make a capital distribution. The
Bank does not believe that the proposal will adversely affect its ability to
make capital distributions if it is adopted substantially as proposed.
Community Reinvestment. Under the Community Reinvestment Act of 1977, as
amended ("CRA"), as implemented by OTS regulations, a savings institution has a
continuing and affirmative obligation consistent with its safe and sound
operation to help meet the credit needs of its entire community, including low
and moderate income neighborhoods. The CRA does not establish specific lending
requirements or programs for financial institutions nor does it limit an
institution's discretion to develop the types of products and services that it
believes are best suited to its particular community, consistent with the CRA.
The CRA requires the OTS, in connection with its examination of a savings
institution, to assess the institution's record of meeting the credit needs of
its community and to take such record into account in its evaluation of certain
applications by such institution. FIRREA amended the CRA to require public
disclosure of an institution's CRA rating and require the OTS to provide a
written evaluation of an institution's CRA performance utilizing a rating
system which identifies four levels of performance that may describe an
institution's record of meeting community
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needs: outstanding, satisfactory, needs to improve and substantial
noncompliance. The CRA also requires all institutions to make public
disclosure of their CRA ratings.
Policy Statement on Nationwide Branching. The OTS policy statement on
branching by federally-chartered savings institutions permits nationwide
branching to the extent allowed by federal statute. Current OTS policy
generally permits a federally-chartered savings institution to establish branch
offices outside of its home state if the institution meets the domestic
building and loan test under the Internal Revenue Code or an asset composition
test set forth in the Code, and if, with respect to each state outside of its
home state where the institution has established branches, the branches, taken
alone, also satisfy one of the two tax tests. An institution seeking to take
advantage of this authority would have to have a branching application approved
by the OTS, which would consider the regulatory capital of the institution and
its record under the CRA, as amended, among other things.
Federal Home Loan Bank System. The Bank is a member of the FHLB of Pittsburgh,
which is one of 12 regional FHLBs that administers the home financing credit
function of savings institutions. 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
Pittsburgh in an amount equal to at least 1% of its aggregate unpaid
residential mortgage loans, home purchase contracts and similar obligations at
the beginning of each year or 5% of its advances from the FHLB of Pittsburgh,
whichever is greater. At March 31, 1996, the Bank had $18.8 million in FHLB
stock, which was in compliance with this requirement.
Federal Reserve System. The Federal Reserve Board requires all depository
institutions to maintain reserves against their transaction accounts and
non-personal time deposits. At March 31, 1996, the Bank was in compliance with
applicable requirements. However, because required reserves must be
maintained in the form of vault cash or a non-interest-bearing account at a
Federal Reserve Bank, the effect of this reserve requirement is to reduce an
institution's earning assets.
FEDERAL AND STATE TAXATION
General. The Company and the Bank are subject to the corporate tax provisions
of the Internal Revenue Code of 1986 (the "Code"), as well as certain
additional provisions of the Code which apply to thrift and other types of
financial institutions. The following discussion of tax matters is intended
only as a summary and does not purport to be a comprehensive description of the
tax rules applicable to the Company and the Bank. The Company and its
subsidiaries file a consolidated federal income tax return.
Bad Debt Reserves. The Company has established a deferred tax liability
representing the estimated taxes that would be payable in the event the Company
were to convert its charter to that of a commercial bank. When the Company
undertakes such a charter conversion, it will be required to
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recapture and pay taxes on the approximately $17.8 million in bad debt
deductions previously taken while the Company was a "domestic building and loan
association" for tax purposes. See Note 11 of the Notes to Consolidated
Financial Statements. The Company's action is predicated on the Board of
Directors' intention to undertake such a charter conversion in the future,
among other reasons, in order to have increased regulatory flexibility to
diversify its products and services as set forth in its business plan. Because
of the significant cash flow impact of completing such a conversion (i.e., the
required payment to the IRS), and the pending legislation in congress that
could significantly reduce such payment, the Company anticipates delaying the
charter conversion until such time as the execution of its business plan would
otherwise be inhibited. The Company is currently unable to establish a
definitive time frame for this event, because various casual factors, such as
commercial loan growth, asset mix, and certain other activities, are not solely
within the Company's control. Upon a charter conversion, the Company will have
to recapture its bad debt reserves and will no longer be permitted to take
deductions for additions to such a reserve. Loan losses would then be deducted
from taxable income as they were incurred.
Prior to a charter conversion, and the recapture of its existing bad debt
reserves, the Company may continue to deduct additions to its bad debt reserves
in the same manner as it has in past years. The deduction of further additions
to the Company's bad debt reserve will result in additions to the Company's
deferred tax liability and the recognition of an income tax expense which would
offset part of the benefit of the deduction of future additions to the
Company's reserve for losses.
As a "domestic building and loan association", the Company is permitted to
establish reserves for bad debts and to make annual additions thereto which
qualify as deductions from taxable income. The bad debt deduction is generally
based on a savings institution's actual loss experience (the "Experience
Method"). In addition, provided that certain definitional tests relating to
the composition of assets and the nature of its business are met, a savings
institution may elect annually to compute its allowable addition to its bad
debt reserves for qualifying real property loans (generally loans secured by
improved real estate) by reference to a percentage of its taxable income (the
"Percentage Method").
Under the Experience Method, the deductible annual addition is the amount
necessary to increase the balance of the reserve at the close of the taxable
year to the greater of (i) the amount which bears the same ratio to loans
outstanding at the close of the taxable year as the total net bad debts
sustained during the current and five preceding taxable years bear to the sum
of the loans outstanding at the close of those six years or (ii) the balance in
the reserve account at the close of the Company's "base year", which was its
tax year ended December 31, 1987.
Under the Percentage Method, the bad debt deduction with respect to qualifying
real property loans is computed as a percentage of the Company's taxable income
before such deductions, as adjusted for certain items (such as capital gains
and the dividends received deduction). Under this method, a qualifying
institution such as the Company's generally may deduct 8% of its taxable
income. In the absence of other factors, the availability of the Percentage
Method has permitted a qualifying savings institution, such as the Company, to
be taxed at an effective federal income tax rate of 31.3%, as compared to 34%
for corporations generally.
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Recently, there have been various legislative proposals in the U.S. Congress
which provided for the repeal of the percentage bad debt reduction provision of
the Code. The proposed legislation would have required the Company to
recapture for tax purposes (i.e. take into income) over a six-year period the
excess of the balance of its bad debt reserves as of December 31, 1995 over the
balance of such reserves as of December 31, 1987. However, under the proposed
legislation, such recapture requirements would be suspended for each of two
successive taxable years beginning January 1, 1996 in which the Company
originates a minimum amount of certain residential loans based upon the average
of the principal amounts of such loans made by the Company during its six
taxable years preceding 1996. Management currently is unable to predict
whether any legislation regarding the repeal of the bad debt reduction will be
adopted.
Minimum Tax. The Code imposes an alternative minimum tax at a rate of 20% on a
base of regular taxable income plus certain tax preferences ("alternative
minimum taxable income" or "AMTI"). The alternative minimum tax is payable to
the extent such AMTI is in excess of an exemption amount. The Code provides
that an item of tax preference is the excess of bad debt deduction allowable
for a taxable year pursuant to the percentage of taxable income method over the
amount allowable under the experience method. The other items of tax
preference that constitute AMTI include (a) tax exempt interest on newly-issued
(generally, issued on or after August 8, 1986) privately activity bonds other
than certain qualified bonds and (b) for taxable years beginning after 1989,
75% of the excess (if any) of (I) adjusted current earnings as defined in the
Code, over (ii) AMTI (determined without regard to this preference and prior to
reduction by net operating losses). Net operating losses can offset no more
than 90% of AMTI. Certain payments of alternative minimum tax may be used as
credits against regular tax liabilities in future years.
Audit by IRS. The Company's consolidated federal income tax returns for taxable
years through December 31, 1991 have been closed for the purpose of examination
by the IRS.
State Taxation. The Company and its non-thrift Pennsylvania subsidiaries are
subject to the Pennsylvania Corporate Net Income Tax and Capital Stock and
Franchise Tax. The Corporate Net Income Tax rate for 1996 is 9.99% and is
imposed on the Company's and its non-thrift subsidiaries unconsolidated taxable
income for federal purposes with certain adjustments. In general, the Capital
Stock Tax is a property tax imposed at the rate of 1.275% of a corporation's
capital stock value, which is determined in accordance with a fixed formula.
The Company is taxed under the Pennsylvania Mutual Thrift Institutions Tax Act
(the "MTIT"), as amended to include thrift institutions having capital stock.
Pursuant to the MTIT, the Company's tax rate is 11.5%. The MTIT exempts the
Company from all other taxes imposed by the Commonwealth of Pennsylvania for
state income tax purposes and from all local taxation imposed by political
subdivisions, except taxes on real estate and real estate transfers. The MTIT
is a tax upon net earnings, determined in accordance with generally accept
accounting principals ("GAAP") with certain adjustments. The MTIT, in
computing GAAP income, allows for the deduction of interest earned on state and
federal securities, while disallowing a percentage of a thrift's interest
expense deduction in the proportion of interest income on those securities to
the overall interest income of the Company. Net operating losses, if any,
thereafter can be carried forward three years for MTIT
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purposes. As of March 31, 1996, the Company has net operating loss
carryforwards of approximately $3.8 million and $2.0 million for MTIT tax
purposes which will expire March 31, 1998 and 1999, respectively.
Upon conversion to a commercial bank charter, the Company will no longer be
subject to the MTIT, but will become subject to the Pennsylvania Company Shares
Tax, which is a tax on an average of the most recent six years net worth of the
Company on January 1 of each year, after exclusion of a portion of certain
government securities. The current rate applicable to the Pennsylvania Bank
Shares Tax is 1.25%.
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ITEM 2. PROPERTIES
At March 31, 1996, the Company conducted business from its executive offices
located in Villanova, Pennsylvania and 18 full service offices located in
Chester, Delaware and Montgomery Counties, Pennsylvania. See generally Note 14
of the Notes to Consolidated Financial Statements incorporated by reference in
Item 8 hereof.
The following table sets forth certain information with respect to the
Company's offices at March 31, 1996.
Net Book
Value of Amount of
Description/Address Leased/Owned Property Deposits
------------------- ------------ -------- ---------
(In Thousands)
Executive Offices:
- ------------------
Two Aldwyn Center Owned $3,771 $ ---
Lancaster Avenue and Rt. 320
Villanova, PA 19085
Branch Offices:
- ---------------
Two Aldwyn Center Owned --- 107,931
Lancaster Avenue and Rt. 320
Villanova, PA 19085
44 E. Lancaster Ave. Owned 362 106,342
Ardmore, PA 19003
1770 W. Dekalb Pike Leased(1) 55 14,697
Blue Bell, PA 19422
2535 West Chester Pike Leased(2) 0 16,610
Broomall, PA 19008
3001 West Chester Pike Owned 417 81,162
Broomall, PA 19008
44 N. Bryn Mawr Ave. Owned 277 56,996
Bryn Mawr, PA 19010
MacDade Blvd. & Chester Pike Owned 314 37,763
Collingdale, PA 19023
133 Lancaster Ave. Owned 592 47,004
Devon, PA 19333
5116 State Road Leased(3) 21 3,536
Drexel Hill, PA 19026
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Net Book
Value of Amount of
Description/Address Leased/Owned Property Deposits
------------------- ------------ -------- --------
(In Thousands)
Marchwood Shopping Center Leased(4) $26 $21,086
Exton, PA 19341
1140 West Chester Pike Owned 509 26,776
Goshen, PA 19382
Manoa Shopping Center Leased(5) 160 56,127
Havertown, PA 19083
677 DeKalb Pike Leased(6) 6 26,733
King of Prussia, PA 19406
Front and Orange Streets Owned 271 79,288
Media, PA 19063
3557 W. Chester Pike Leased(7) 37 9,601
Newtown Square, PA 19073
49 E. Lancaster Ave. Owned 1,244 26,013
Paoli, PA 19301
1141 Baltimore Pike Leased(8) 46 10,850
Springfield, PA 19064
123 W. Lancaster Ave. Owned 240 60,062
Wayne, PA 19087
33 W. Gay Street Owned 361 4,332
West Chester, PA 19380
Other Administrative Offices:
- -----------------------------
One Aldwyn Center Owned 988 38,089 (9)
Lancaster Ave. & Rt. 320
Villanova, PA 19085
--------- ----------
$9,697 $830,998
--------- ----------
- ---------------
(1) Lease expiration date is May 31, 2010; the Company has three five-year
renewal options.
(2) Lease expiration date was May 31, 1996; the Company did not renew the
lease and has transferred operations to 3001 West Chester Pike, Broomall, PA.
(3) Lease expiration date is June 30, 1998; the Company has three three-year
renewal options.
(4) Lease expiration date is August 31, 1996; the Company has two five-year
renewal options.
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(5) Lease expiration date is December 1, 2000; the Company has two five-year
renewal options.
(6) Lease expiration date is April 1, 1997; the Company has two five-year
renewal options.
(7) Lease expiration date is September 30, 1998; the Company has one five-year
renewal option.
(8) Branch opened in December 1994. Lease expiration date is July 31, 2004.
(9) Comprised of custodial accounts associated with the Company's loan servicing
for others. See "Loan Lending Activities - Loan Servicing."
ITEM 3. LEGAL PROCEEDINGS.
The Company and the Bank are involved in routine legal proceedings occurring in
the ordinary course of business which, in the aggregate, are believed by
management to be immaterial to the financial condition of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS.
Not applicable.
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The information required herein is incorporated by reference from page 1 of the
Registrant's 1996 Annual Report to Stockholders ("Annual Report").
ITEM 6. SELECTED FINANCIAL DATA.
The information required herein is incorporated by reference from page 1 of the
Registrant's 1996 Annual Report.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
The information required herein is incorporated by reference from pages 9 to 18
of the Registrant's 1996 Annual Report.
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ITEM 8. FINANCIAL STATEMENTS.
The information required herein is incorporated by reference from pages 19 to
38 of the Registrant's 1996 Annual Report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Not applicable.
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT.
The information required herein is incorporated by reference from pages 5 to 7
of the Registrant's Proxy Statement dated June 13, 1996 ("Proxy Statement").
ITEM 11. EXECUTIVE COMPENSATION.
The information required herein is incorporated by reference from pages 7 to 10
of the Registrant's Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required herein is incorporated by reference from
pages 3 and 4 of the Registrant's Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required herein is incorporated by reference from
pages 13 and 14 of the Registrant's Proxy Statement.
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PART IV
ITEM 14. EXHIBITS, LIST AND REPORTS ON FORM 8-K.
(a)(1) The following exhibits are filed as part of this Form 10-K, and this
list includes the Exhibit Index.
No. Description Page
3.1 Articles of Incorporation of MLF Bancorp, Inc. (1)
3.2 Bylaws of MLF Bancorp, Inc. (1)
4 Specimen Stock Certificate of MLF Bancorp, Inc.(1)
10.1 Employee Stock Ownership Plan and Trust of MLF
Bancorp, Inc. (1) *
10.2 Employment Agreements between MLF Bancorp, Inc. and Main Line Bank and Dennis S. E-1
Marlo*
10.3 Form of Employment Agreement between MLF Bancorp, Inc.
and Robert M. Campbell, Jr., Raymond M. Kilargis
and Brian M. Hartline (1) *
10.4 1994 Stock Option Plan (2)*
10.5 1994 Recognition and Retention Plan and Trust Agreement (2)*
13 1996 Annual Report to Stockholders specified portion (p.1 and pp. 8-39) of the E-26
Registrant's Annual Report to Stockholders for the year ended March 31, 1996.
21 Subsidiaries of the Registrant - Reference is made to Item 1. "Business" for the
required information
23 Consent of Accountants E-58
27 Financial Data Schedule E-59
- -------------
(1) Incorporated by reference from the Registration Statement on Form S-1
(Registration No. 33-76666) filed by the Registrant with the Securities and
Exchange Commission on March 18, 1994, as amended.
(2) Incorporated by reference from the Annual Report on Form 10-K for the year
ended March 31, 1995 filed by the Registrant with the Securities and Exchange
Commission on June 29, 1995.
* Management contract or compensatory plan or arrangement.
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(a)(2) The following documents are filed as part of this Form 10-K and are
incorporated herein by reference from the Registrant's 1996 Annual Report.
Independent Auditors' Report.
Consolidated Statements of Operations for each of the years in the three year
period ended March 31, 1996
Consolidated Statements of Financial Condition as of March 31, 1996 and 1995
Consolidated Statements of Changes in Stockholders' Equity for each of the
years in the three year period ended March 31, 1996
Consolidated Statements of Cash Flows for each of the years in the three year
period ended March 31, 1996
Notes to the Consolidated Financial Statements
(a)(3) All schedules for which provision is made in the applicable accounting
regulation of the Securities and Exchange Commission are omitted because they
are not applicable or the required information is included in the Consolidated
Financial Statements or notes thereto.
(b) Reports filed on Form 8-K.
None.
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SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the Registrant
caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized.
MLF BANCORP, INC.
By: /s/DENNIS S. MARLO
---------------------------------------
Dennis S. Marlo
President and Chief Executive Officer
In accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the Registrant and in the capacities and on the
dates indicated.
/s/DENNIS S. MARLO June 27, 1996
- -----------------------------------------
Dennis S. Marlo
President, Chief Executive Officer
and Director
(Principal Executive Officer)
/s/BRIAN M. HARTLINE June 27, 1996
- -----------------------------------------
Brian M. Hartline
Secretary, Treasurer and Chief
Financial Officer
(Principal Financial and
Accounting Officer)
/s/JOHN R. EPPINGER June 27, 1996
- -----------------------------------------
John R. Eppinger
Chairman of the Board
50
/s/DAVID B. HASTINGS June 27, 1996
- -----------------------------------------
David B. Hastings
Director
/s/JOHN J. LEAHY June 27, 1996
- -----------------------------------------
John J. Leahy
Director
/s/HENRY M. LUEDECKE June 27, 1996
- -----------------------------------------
Henry M. Luedecke
Director
/s/ALLAN WOOLFORD June 27, 1996
- -----------------------------------------
Allan Woolford
Director