1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(X) Quarterly Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the quarterly period ended June 30, 1998
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 0-15580
St. Paul Bancorp, Inc.
(Exact name of registrant as specified in its charter)
Delaware 36-3504665
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
6700 W. North Avenue
Chicago, Illinois 60707
(Address of principal executive offices) (Zip Code)
(773) 622-5000
(Registrant's telephone number, including area code)
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 the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Common Stock, $.01 par value -- 40,568,018 shares, as of July 31, 1998
2
ST. PAUL BANCORP, INC.
AND SUBSIDIARIES
FORM 10-Q
INDEX
PART I. FINANCIAL INFORMATION
Item 1 Financial Statements (Unaudited)
Consolidated Statements of Financial Condition
as of June 30, 1998 and Dec. 31, 1997........................3
Consolidated Statements of Income for the Three and Six
Months Ended June 30, 1998 and 1997..........................4
Consolidated Statements of Stockholders' Equity for the
Six Months Ended June 30, 1998 and 1997......................5
Consolidated Statements of Cash Flows for the
Six Months Ended June 30, 1998 and 1997......................6
Notes to Consolidated Financial Statements...................7
Item 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations.........................10
PART II. OTHER INFORMATION
Item 4 Submission of Matters to a Vote of Security Holders.........42
Item 6 Exhibits and Reports on Form 8-K............................42
Signature Page..............................................43
Exhibits....................................................44
2
3
ST. PAUL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (UNAUDITED)
June 30, Dec. 31,
Dollars in thousands 1998 1997
----------- -----------
ASSETS:
Cash and cash equivalents
Cash and amounts due from depository institutions $ 81,678 $ 89,429
Federal funds sold and interest-bearing bank balances 171,309 59,094
Short-term cash equivalent securities 91,965 56,160
----------- -----------
Total cash and cash equivalents 344,952 204,683
Investment securities
(Market: June 30, 1998-$80,332; Dec. 31, 1997-$41,574) 80,332 41,574
Mortgage-backed securities
(Market: June 30, 1998-$613,951; Dec. 31, 1997-$921,277) 609,582 917,863
Securities due from broker
(Market: June 30, 1998-$106,697) 106,697 --
Loans receivable (Net of allowance for loan losses:
June 30, 1998-$33,891; Dec. 31, 1997-$34,395) 3,193,280 3,205,443
Loans held for sale, at lower of cost or market
(Market: June 30, 1998-$54,791; Dec. 31, 1997-$17,091) 54,099 17,028
Accrued interest receivable 26,467 26,313
Foreclosed real estate (Net of allowance for losses:
June 30, 1998-$148; Dec. 31, 1997-$157) 1,206 1,358
Real estate held for development or investment 14,537 15,287
Investment in Federal Home Loan Bank stock 39,995 38,188
Office properties and equipment 56,786 52,135
Prepaid expenses and other assets 36,936 37,464
----------- -----------
Total Assets $ 4,564,869 $ 4,557,336
=========== ===========
LIABILITIES:
Deposits $ 3,287,245 $ 3,284,428
Short-term borrowings 200,210 370,203
Long-term borrowings 568,831 418,855
Advance payments by borrowers for taxes and insurance 21,483 21,232
Other liabilities 48,999 44,706
----------- -----------
Total Liabilities 4,126,768 4,139,424
COMMITMENTS
STOCKHOLDERS' EQUITY:
Preferred stock (par value $.01 per share: authorized-10,000,000
shares; none issued) -- --
Common stock (par value $.01 per share: Authorized:
June 30,1998-80,000,000 shares; Dec. 31 1997-40,000,000 shares;
Issued: June 30, 1998-35,444,499 shares; Dec. 31, 1997-35,444, shares;
Outstanding: June 30, 1998-34,357,418 shares;
Dec. 31, 1997-34,204,659 shares) 354 354
Paid-in capital 115,083 114,648
Retained income, substantially restricted 342,804 324,937
Accumulated other comprehensive income:
Unrealized gain on securities (net of taxes of $1,003 at
June 30, 1998 and $1,148 at Dec. 31, 1997) 1,647 1,887
Borrowings by employee stock ownership plan (121) (221)
Unearned employee stock ownership plan shares (364,963 shares) (2,858) (2,858)
Treasury stock (June 30, 1998-1,087,081 shares;
Dec. 31, 1997-1,239,208 shares) (18,808) (20,835)
----------- -----------
Total stockholders' equity 438,101 417,912
----------- -----------
Total liabilities and stockholders' equity $ 4,564,869 $ 4,557,336
=========== ===========
See notes to consolidated financial statements.
3
4
ST. PAUL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
Three months ended Six months ended
June 30, June 30,
Dollars in thousands except per share amounts 1998 1997 1998 1997
--------- --------- --------- ---------
INTEREST INCOME:
Loans receivable $ 61,103 $ 56,668 $ 120,312 $ 110,221
Mortgage-backed securities/securities due from broker 12,415 18,949 27,012 38,561
Investment securities 1,260 1,056 2,404 2,057
Federal funds and interest-bearing bank balances 998 1,070 3,514 2,723
Other investment income 1,762 981 3,207 2,004
--------- --------- --------- ---------
Total interest income 77,538 78,724 156,449 155,566
INTEREST EXPENSE:
Deposits 32,935 35,696 66,195 71,513
Short-term borrowings 3,332 5,039 6,927 9,246
Long-term borrowings 8,350 4,595 17,415 9,142
--------- --------- --------- ---------
Total interest expense 44,617 45,330 90,537 89,901
--------- --------- --------- ---------
Net interest income 32,921 33,394 65,912 65,665
Reversal of provision for loan losses (500) -- (1,000) --
--------- --------- --------- ---------
Net interest income after provision for loan losses 33,421 33,394 66,912 65,665
OTHER INCOME:
Loan servicing fees 23 391 208 845
Other fee income 4,204 4,027 8,147 7,883
ATM operations 3,137 3,279 5,889 6,557
Net gain on loan sales 1,315 65 2,407 182
Discount brokerage commissions 2,073 1,629 3,718 3,146
Income from real estate development operations 614 681 1,923 1,167
Insurance and annuity commissions 671 921 1,301 1,697
--------- --------- --------- ---------
Total other income 12,037 10,993 23,593 21,477
GENERAL AND ADMINISTRATIVE EXPENSE:
Salaries and employee benefits 14,231 14,226 29,534 28,105
Occupancy, equipment and other office expense 8,467 7,451 15,909 14,170
Advertising 1,492 1,413 3,008 2,841
Federal deposit insurance 673 697 1,347 1,382
Other 2,344 1,781 4,662 3,239
--------- --------- --------- ---------
General and administrative expense 27,207 25,568 54,460 49,737
Loss on foreclosed real estate 50 39 84 83
--------- --------- --------- ---------
Income before income taxes and extraordinary item 18,201 18,780 35,961 37,322
Income taxes 5,685 6,383 11,307 12,688
--------- --------- --------- ---------
Income before extraordinary item 12,516 12,397 24,654 24,634
Extraordinary item:
Loss on early extinguishment of debt, net of tax of $207 -- -- -- (403)
--------- --------- --------- ---------
NET INCOME $ 12,516 $ 12,397 $ 24,654 $ 24,231
========= ========= ========= =========
INCOME BEFORE EXTRAORDINARY ITEM PER SHARE:
Basic $ 0.37 $ 0.37 $ 0.73 $ 0.73
Diluted 0.36 0.36 0.70 0.71
========= ========= ========= =========
NET INCOME PER SHARE:
Basic $ 0.37 $ 0.37 $ 0.73 $ 0.70
Diluted 0.36 0.36 0.70 0.69
========= ========= ========= =========
DIVIDENDS PER SHARE $ 0.10 $ 0.08 $ 0.20 $ 0.16
========= ========= ========= =========
See notes to consolidated financial statements.
4
5
ST. PAUL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (UNAUDITED)
Borrowings Unearned
Accumulated by Employee Employee
Common Stock Other Stock Stock Total
------------ Paid-In Retained Comprehensive Ownership Ownership Treasury Stockholders'
Shares Amount Capital Income Income Plan Plan Shares Stock Equity
---------------------------------------------------------------------------------------------------------
Balance at
Dec. 31, 1996 34,163,988 $ 384 $ 148,265 $ 288,065 $ 2,278 ($396) ($2,883) ($47,603) $ 388,110
Comprehensive
income:
Net income -- -- -- 24,231 -- -- -- -- 24,231
Change in unrealized
gain on securities,
(net of tax of $535) -- -- -- -- (483) -- -- -- (483)
---------
Comprehensive
income 23,748
Retirement of
Treasury stock -- (38) (41,177) -- -- -- -- 41,215 --
Retirement of
fractional shares (1,230) -- (19) -- -- -- -- -- (19)
Stock option
exercises 802,937 8 7,388 -- -- -- -- -- 7,396
Cash dividends paid
to stockholders
($0.16 per share) -- -- -- (5,430) -- -- -- -- (5,430)
Repayment of
ESOP principal -- -- -- -- -- -- 92 -- -- 92
Treasury stock
purchases (977,625) -- -- -- -- -- -- (17,134) (17,134)
----------- ----- --------- --------- ------- ----- ------- -------- ---------
Balance at
June 30, 1997 33,988,070 $ 354 $ 114,457 $ 306,866 $ 1,795 ($304) ($2,883) ($23,522) $ 396,763
=========== ===== ========= ========= ======= ===== ======= ======== =========
Balance at
Dec. 31, 1997 34,204,659 $ 354 $ 114,648 $ 324,937 $ 1,887 ($221) ($2,858) ($20,835) $ 417,912
Comprehensive
income:
Net income -- -- -- 24,654 -- -- -- -- 24,654
Change in unrealized
gain on securities,
(net of tax of $145) -- -- -- -- (240) -- -- -- (240)
---------
Comprehensive
income 24,414
Stock option
exercises 152,127 -- 419 -- -- -- 2,027 2,446
Issuance of
common stock 632 -- 16 -- -- -- -- -- 16
Cash dividends paid
to stockholders
($0.20 per share) -- -- -- (6,787) -- -- -- -- (6,787)
Repayment of
ESOP principal -- -- -- -- -- 100 -- -- 100
----------- ----- --------- --------- ------- ----- ------- -------- ---------
Balance at
June 30, 1998 34,357,418 $ 354 $ 115,083 $ 342,804 $ 1,647 ($121) ($2,858) ($18,808) $ 438,101
=========== ===== ========= ========= ======= ===== ======= ======== =========
See notes to consolidated financial statements
5
6
ST. PAUL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
Six months ended June 30
Dollars in thousands 1998 1997
--------- ---------
OPERATING ACTIVITIES
Net income $ 24,654 $ 24,231
Adjustments to reconcile net income to net cash
provided (used) by operating activities:
Reversal of provision for loan losses (1,000) --
Provision for depreciation 4,248 3,834
Assets originated and acquired for sale (183,200) (15,508)
Sale of assets held for sale 145,713 16,189
Increase in accrued interest receivable (154) (2,362)
Decrease in prepaid expenses and other assets 528 1,539
Increase (decrease) in other liabilities 4,293 (1,191)
Net amortization of yield adjustments (1,815) (2,178)
Other items, net 462 (2,743)
--------- ---------
Net cash provided (used) by operating activities (6,271) 21,811
--------- ---------
INVESTING ACTIVITIES
Principal repayments on loans receivable 742,948 425,030
Loans originated and purchased for investment (733,000) (749,919)
Loans receivable sold 5,504 3,579
Principal repayments on available for sale mortgage-
backed securities 111,009 58,121
Principal repayments on held to maturity mortgage-
backed securities 88,405 49,854
Maturities of available for sale investment securities 20,164 16,200
Purchase of available for sale investment securities (58,630) (40,157)
Additions to real estate (2,314) (6,206)
Real estate sold 4,417 5,248
Purchase of Federal Home Loan Bank stock (1,807) (2,977)
Additions to office properties and equipment (8,899) (9,255)
--------- ---------
Net cash provided (used) by investing activities 167,797 (250,482)
--------- ---------
FINANCING ACTIVITIES
Proceeds from issuance of certificates of deposit 154,831 193,310
Payments for maturing certificates of deposit (193,758) (268,375)
Net increase in other deposit products 41,744 33,221
New long-term borrowings 250,000 148,538
Repayment of long-term borrowings -- (75,852)
Increase (decrease) in short-term borrowings, net (270,000) 214,685
Dividends paid to stockholders (6,787) (5,430)
Net proceeds from exercise of stock options 2,446 7,396
Issuance of common stock 16 --
Purchase of treasury stock -- (17,134)
Increase in advance payments by borrowers
for taxes and insurance 251 824
--------- ---------
Net cash provided (used) by financing activities (21,257) 231,183
--------- ---------
INCREASE IN CASH AND CASH EQUIVALENTS 140,269 2,512
Cash and cash equivalents at beginning of period 204,683 190,208
--------- ---------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 344,952 $ 192,720
========= =========
See notes to consolidated financial statements
SUPPLEMENTAL CASH FLOW DISCLOSURES
Interest credited on deposits $ 61,248 $69,593
Interest paid on deposits 5,505 6,411
-------- -------
Total interest paid on deposits 66,753 76,004
Interest paid on borrowings 25,685 14,378
Income taxes paid, net 374 6,804
Real estate acquired through foreclosure 1,275 751
Loans originated in connection with real estate
acquired through foreclosure -- --
6
7
ST. PAUL BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. The accompanying consolidated financial statements have been prepared
according to generally accepted accounting principles for interim financial
information and with the instructions to Form 10-Q and Article 10 of Regulation
S-X. Accordingly, they do not include all of the information and footnotes
required by generally accepted accounting principles for complete financial
statements. In the opinion of Management, all necessary adjustments, consisting
only of normal recurring accruals, necessary for a fair presentation have been
included. The results of operations for the three- and six-month periods ended
June 30, 1998 are not necessarily indicative of the results expected for the
entire fiscal year.
2. The accompanying consolidated financial statements include the accounts of
St. Paul Bancorp, Inc. (the "Company" or "St. Paul Bancorp") and its
wholly-owned subsidiaries, St. Paul Federal Bank For Savings (the "Bank"),
Annuity Network, Inc. and St. Paul Financial Development Corporation. The
financial statements of the Bank include the accounts of its subsidiaries.
Certain prior year amounts have been reclassified to conform to the 1998
presentation.
On July 1, 1998, the Company completed a merger with Beverly Bancorporation,
Inc. that will be accounted for as a pooling-of-interests. Beginning with the
Company's financial statements in the third quarter of 1998, all financial
statements will be restated for the pooling-of-interests. See "MANAGEMENT'S
DISCUSSION AND ANALYSIS-GENERAL" for further details.
3. At June 30, 1998, the Company had the following outstanding commitments to
originate loans (dollars in thousands):
1-4 Family Mortgage Loans $97,145
Income Property Loans 29,141
Commercial Construction 302
Consumer Loans 7,284
Unused Lines of Credit 101,251
The Bank had commitments to purchase 1-4 family adjustable real estate loans of
$850 million scheduled to close in the third quarter. The Bank also had
commitments to purchase adjustable rate mortgage-backed securities of $30
million. The Company anticipates funding these origination commitments with cash
flow from operations and incremental borrowings as necessary.
The Company had forward contracts at June 30, 1998, to sell $44.1 million of 1-4
family real estate loans. The consolidated financial statements contain market
value losses, if any, related to these contracts.
7
8
At June 30, 1998, the Company has outstanding $5.2 million of standby letters of
credit on behalf of St. Paul Financial Development Corporation and other
borrowers or customers to various counties and villages as a performance
guarantee for land development and improvements.
4. During 1997, the Company adopted SFAS No. 125, Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities. The
implementation of some of the provisions of this Statement were delayed until
1998 as required by SFAS No. 127, Deferral of the Effective Date of Certain
Provisions of FASB Statement No. 125. These Statements provide accounting and
reporting standards for the sale, securitization, and servicing of receivables
and other financial assets and the extinguishment of liabilities. The adoption
of this Statement did not affect operations in a material way. In accordance
with SFAS No. 125, as amended by SFAS No. 127, the Company began to report the
collateral that has been pledged to a third party in connection with a
repurchase agreement and for which the third party may sell or repledge the
collateral and which the Company does not have the right to redeem the
collateral on short notice, as "Due from Broker" on the Statement of Financial
Position. The amount due from brokers consists of the carrying value of MBS
pledged as collateral.
5. On December 31, 1997, the Company adopted SFAS No. 128, Earnings per Share.
Under the new requirements, the Company reports basic and diluted earnings per
share, in the place of the previously reported primary and fully diluted
earnings per share. Restatement of prior periods was required. Under SFAS No.
128, the computation of basic earnings per share excludes the dilutive effect of
common stock equivalents. The Company's only common stock equivalents are stock
options issued to employees and directors. Diluted earnings per share reflect
the potential dilutive effect of stock options, computed using the treasury
stock method and the average market price of the Company's common stock over the
period. For the Company, diluted earnings per share approximated the previously
reported primary earnings per share. The impact of this Statement on future
earnings per share is largely dependent on future share prices and the amount of
stock options outstanding.
8
9
The following table sets forth the computation for basic and diluted earnings
per share for the three and six months ended June 30, 1998 and 1997:
Three months ended Six months ended
------------------ ----------------
1998 1997 1998 1997
----------- ----------- ----------- -----------
Income before
extraordinary item $ 12,516 $ 12,397 $ 24,654 $ 24,634
=========== =========== =========== ===========
Denominator for basic
earnings per share-
weighted average shares 33,980,596 33,615,380 33,945,964 33,823,553
Effect of diluted securities:
Stock options issued to
employees and directors 1,100,412 1,068,654 1,130,054 1,075,331
----------- ----------- ----------- -----------
Denominator for diluted
earnings per share-
adjusted weighted
average shares and
assumed conversions 35,081,008 34,684,034 35,076,018 34,898,884
=========== =========== =========== ===========
Income before extraordinary item per share:
Basic $ 0.37 $ 0.37 $ 0.73 $ 0.73
=========== =========== =========== ===========
Diluted $ 0.36 $ 0.36 $ 0.70 $ 0.71
=========== =========== =========== ===========
6. In 1998, the Company adopted SFAS No. 131, Disclosures about Segments of an
Enterprise and Related Information. SFAS No. 131 establishes standards for the
reporting of financial information from operating segments in annual and interim
financial statements. This Statement requires that financial information be
reported on the basis that it is reported internally for evaluating segment
performance and deciding how to allocate resources to segments. Because this
Statement addresses how supplemental financial information is disclosed in
annual and interim reports, the adoption will have no material impact on the
financial statements. The Company will begin to provide segment information
beginning with the Dec. 31, 1998 Annual Report/Form 10-K, and will provide
selected quarterly segment information in Form 10-Q thereafter.
7. In February 1998, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 132, Employer's Disclosure about Pensions and Other Post-retirement
Benefits. This Statement revises an employer's financial statement disclosures
for pension and other post-retirement benefit plans. This Statement does not,
however, change the measurement or recognition of those plans, and will
therefore have no effect on the financial statements. This Statement is
effective for 1998.
8. In June 1998, the FASB issued SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities, which is required to be adopted in years
beginning after June 15, 1999. This Statement provides a comprehensive and
consistent standard for the recognition and measurement of derivatives and
hedging activities. Because of the Company's minimal use of derivatives,
Management does not anticipate that the adoption of the new Statement will have
significant impact on earnings or the financial position of the Company.
9
10
MANAGEMENT'S DISCUSSION AND ANALYSIS
GENERAL
St. Paul Bancorp, Inc. (the "Company") is the holding company
for St. Paul Federal Bank For Savings (the "Bank"), the largest independent
savings institution in the State of Illinois. At June 30, 1998, the Company
reported total assets of $4.6 billion and the Bank operated 53 branches in the
Chicago metropolitan area with a network of 496 automated teller machines (ATM)
in the eight county Chicagoland area, including Northwestern Indiana.
On July 1, 1998, the Company merged with Beverly
Bancorporation, Inc. ("Beverly"), the bank holding company of Beverly National
Bank and Beverly Trust Company. Beverly, with total assets of $705 million at
June 30, 1998, operates 12 branches primarily serving the south and southwestern
suburbs of Chicago and has a network of over 50 ATM machines. Beverly Trust
Company provides a wide array of trust services for individuals and
corporations, including asset management of personal living trusts and corporate
employee benefit plans, and the administration of land trusts. The Company
issued 1.063 shares of its common stock in exchange for each outstanding common
share of Beverly. The Company issued approximately 6.1 million new shares of
common stock and reserved an additional 558,000 common shares in exchange for
the outstanding stock options issued to Beverly officers and directors. The
combined shares issued and stock options outstanding resulted in an initial
value of the transaction of approximately $151.0 million.
As of July 1, 1998, the combined entity had total assets of
over $5.3 billion, 65 branches and an ATM network of over 550 machines. In
connection with the merger, the Company is expected to record, in the third
quarter of 1998, a transaction charge of approximately $11.5 million before
income taxes. This charge will include one-time transaction costs, contract
termination penalties, severance, and additional provisions for loan losses to
conform Beverly's allowance for loan losses to the Company's methodology.
Management expects that the transaction will be accretive to earnings within the
first twelve months after the merger. Management expects to reduce annual
Beverly expenses by $4.8 million or 19 percent of Beverly's general and
administrative expenses. In addition, by introducing the Bank's products, such
as brokerage and annuity products, to the Beverly customers, and Beverly
products, such as trust operations and commercial banking to St. Paul customers,
fee income is expected to be enhanced by approximately $1.0 million.
10
11
The merger will be accounted for as a pooling-of-interests.
Accordingly, beginning in the third quarter of 1998, the Company will restate
all financial information to incorporate Beverly's results as if the merger
occurred at the beginning of the period. Because the merger occurred on July 1,
1998, the accompanying consolidated financial statements and Management
Discussion and Analysis of the financial results for the three month and six
month periods ended June 30, 1998 represent the results of St. Paul Bancorp only
and are not restated for the merger with Beverly. Financial results will be
restated in the third quarter 1998.
The Bank's branch network of 65 locations, including the
twelve Beverly locations, consists of 47 free-standing branches, 16 banking
offices located in grocery supermarkets and two Money Connection Centers. The
two Money Connection Centers are the Bank's newest locations and opened in
December 1997 and May 1998. These locations are designed to leverage a smaller
space and the lower initial investment of grocery store branches. The Bank also
closed one of its in-store locations in the second quarter of 1998, due to the
closing of the grocery store in which the branch is located.(1)
The Bank also operates one of the largest networks of
automated teller machines ("ATMs") in the Chicagoland area with over 550
machines, including the Beverly machines. This network includes 250 ATMs located
in White Hen Pantry convenience stores, and additional machines located in
Dominick's and Eagle grocery stores, JJ Pepper's convenience stores, and Gas
City service stations. The Bank installed the Eagle ATMs in the first quarter of
1998 and has an option to add another 30 machines at a later date.
Both the Company and the Bank continued to operate other
wholly owned financial services companies, including Investment Network, Inc.,
Annuity Network, Inc., SPF Insurance Agency, Inc., and St. Paul Financial
Development Corporation ("SPFD"). As of June 30, 1998, customers maintained $730
million of investments
- --------
(1) Of the 16 branches located in grocery supermarkets, 15 of the locations
are inside Dominick's grocery stores. At the end of 1997, Dominick's changed the
format of the stores from a low margin/high volume warehouse superstore to a
higher margin upscale grocery store. During the remodeling process, the Bank has
seen a decline in transaction volumes in these store branches. The decline was
due to the remodeling and renovation and the shift in the focus of the store's
targeted customer strategy. Management continues to monitor the activities in
these locations, as well as the performance of Dominick's.
11
12
through Investment Network, Inc. and $338 million of annuity contracts through
Annuity Network, Inc. SPFD is a residential and commercial land development
company focused in the greater Chicagoland area, providing both equity and
financing investments for real estate development projects. At June 30, 1998,
SPFD had $21.6 million in real estate equity and financing investments. In
addition, in January 1998, ATM Connection, Inc. began operations as a new
subsidiary of the Bank. This subsidiary owns and operates the ATM network of the
Bank.
In January 1998 the Bank acquired a privately-held residential
mortgage broker serving Chicago and its surrounding suburbs. This broker now
operates as a separate subsidiary of the Bank under the name Serve Corps
Mortgage Corporation ("Serve Corps"). Serve Corps originates 1-4 family
residential mortgages for sale to third party investors. The Bank anticipates
that the acquisition of this operation will increase overall 1-4 family loan
origination volumes and enhance other income through gains on loans sold to
third party investors. Some Bank lending functions are being integrated into
Serve Corps operations. During the first six months of 1998 Serve Corps
originated $161.9 million of 1-4 family loans, including $31.5 million of loans
originated for the Bank's portfolio.
The Company will also operate an additional subsidiary, St.
Paul Trust Company (formerly Beverly Trust Company) acquired in connection with
the Beverly merger as a subsidiary of the holding company. As of July 1, 1998,
the trust operations had $341.1 million of assets under management.
In general, the business of the Bank is to reinvest deposits
collected from branch facilities into interest-yielding assets, such as loans
secured by mortgages on real estate, securities, and to a lesser extent,
consumer and commercial real estate loans. The Bank's 1-4 family residential
mortgage products are originated through its mortgage brokerage operations,
retail banking offices, and telephone banking facility, as well as a
correspondent loan program in the Chicago metropolitan area and other Midwestern
states (including Wisconsin, Indiana, Michigan and Ohio). The Bank also
originates a variety of consumer loan products, including home equity loans,
secured lines of credit, education, automobile and credit card loans through the
retail banking offices. The Bank has also entered into agreements to sell lesser
quality home equity and automobile loans to third parties rather than retaining
them for its portfolio. During the first six months of 1998, the Bank (including
Serve Corps) originated $332.7 million of 1-4 family loans, $33.8 million of
home equity/line of credit loans, and $5.1 million of other consumer loans.
12
13
The Bank offers mortgage loans to qualifying borrowers to
finance apartment buildings and commercial real estate. After the Beverly
merger, the Bank will begin to offer commercial loan products. In recent years,
the Bank made income property loans only in several Midwestern states, such as
Illinois, Indiana, Wisconsin, Minnesota, and Ohio. In 1997, the Bank resumed its
nationwide income property lending program, to help offset repayments in its
existing portfolio. The Bank will focus its efforts in those markets where
Management believes the economies are strong. In addition, Management will
consider originations to borrowers with whom the Bank has a long standing
relationship. During 1997, the Board of Directors also approved a program to
originate loans secured by industrial, office, and, to a lesser extent, shopping
center properties located in the Midwest. See "CREDIT RISK MANAGEMENT" for
further details. During the first six months, the Bank originated $116.0 million
of income property loans and $17.5 million of loans under the industrial,
office, and shopping center program. In connection with the Beverly merger, the
Company acquired a commercial loan portfolio of approximately $186 million. The
Bank expects to expand these product lines.
To supplement its loan origination efforts and offset heavy
loan prepayments, the Bank has actively purchased 1-4 family adjustable rate
whole loans for its portfolio. During the first six months of 1998, the Bank
purchased $355.9 million of 1-4 family adjustable rate loans located nationally.
Also, the Bank has purchase commitments for $850 million of 1-4 family loans
scheduled to close in the third quarter. The Bank also invests in
mortgage-backed securities ("MBS"), government and other investment-grade,
liquid investment securities. The Bank classifies investment securities as
either available for sale ("AFS") or held to maturity ("HTM"). Unrealized gains
and losses on AFS securities are recorded as an adjustment to stockholders'
equity, net of related taxes.
As a consumer-oriented retail financial institution, the Bank
gathers deposits from the neighborhoods and surrounding suburbs of the
metropolitan Chicago area, which have favorable savings patterns and high levels
of home ownership. The Bank offers a variety of deposit products including
checking, savings, money market accounts, and certificates of deposit ("CDs").
The Bank will begin to offer commercial checking services to its customers,
expanding on this product line obtained in the Beverly merger. The Beverly
commercial deposit portfolio totaled nearly $52 million at June 30, 1998. The
Bank also relies on borrowings to help finance operations and create interest
earning assets.
13
14
Earnings of the Bank are susceptible to interest rate risk to
the extent that the Bank's deposits and borrowings reprice on a different basis
and in different periods than its securities and loans. Prepayment options
embedded in loans and MBS and varying demand for loan products, due to changes
in interest rates, create additional operating risk for the Bank in matching the
repricing of its assets and liabilities. The Bank tries to structure its balance
sheet to reduce exposure to interest rate risk and to maximize its return on
equity, commensurate with risk levels that do not jeopardize the financial
safety and soundness of the institution.
Changes in real estate market values also affect the Bank's
earnings. As changes occur in interest rates, the forces of supply and demand
for real estate, and the economic conditions of real estate markets, the risk of
actual losses in the Bank's loan portfolio will also change. See "CREDIT RISK
MANAGEMENT" for further details.
This report contains certain "forward-looking statements." The
Company desires to take advantage of the "safe harbor" provisions of the Private
Securities Litigation Reform Act of 1995 and is including this statement for the
express purpose of availing itself of the protection of the safe harbor with
respect to all of such forward-looking statements. These forward-looking
statements describe future plans or strategies and include the Company's
expectations of future financial results. The Company's ability to predict
results or the effect of future plans or strategies is inherently uncertain.
Factors that could affect actual results include but are not limited to i)
general market rates, ii) changes in market interest rates and the shape of the
yield curve, iii) general economic conditions, iv) real estate markets, v)
legislative/regulatory changes, vi) monetary and fiscal policies of the U.S.
Treasury and the Federal Reserve, vii) changes in the quality or composition of
the Company's loan and investment portfolios, viii) demand for loan products,
ix) the level of loan and MBS repayments, x) deposit flows, xi) competition,
xii) demand for financial services in the Company's markets, xiii) changes in
accounting principles, policies or guidelines, xiv) expected merger cost savings
and revenue enhancements cannot be realized or realized within the expected
timeframe, and xv) cost difficulties related to the integration of the business
of Beverly and the Company are greater than expected. These factors should be
considered in evaluating the forward-looking statements, and undue reliance
should not be placed on such statements.
14
15
The Company does not undertake and specifically disclaims any
obligation to update any forward-looking statements to reflect occurrence of
anticipated or unanticipated events or circumstances after the date of such
statements.
STATEMENT OF FINANCIAL CONDITION
St. Paul Bancorp reported total assets of $4.6 billion at June
30, 1998, a $7.5 million increase over total assets reported at Dec. 31, 1997.
Higher cash equivalent securities and investment securities generally produced
the increase in total assets. These increases were partly offset by lower MBS
balances and a slight decline in loans receivable.
Cash and cash equivalents totaled $345.0 million at June 30,
1998, $140.3 million more than Dec. 31, 1997. See "CASH FLOW ACTIVITY" for
further details.
Investment securities, comprised of U.S. Treasury and agency
debt securities and other marketable equity securities, totaled $80.3 million at
June 30, 1998, as compared to $41.6 million at Dec. 31, 1997. Additional
purchases of U.S. Treasury and agency debt and an equity security, offset by
maturities, produced the increase. At both June 30, 1998 and Dec. 31, 1997, all
of the Company's investment securities were classified as AFS. The Company
recorded an unrealized gain on AFS investment securities of $708,000 at June 30,
1998, and $428,000 at Dec. 31, 1997.
MBS (including securities due from brokers) totaled $716.3
million at June 30, 1998, $201.6 million or 22.0 percent less than the $917.9
million of MBS at Dec. 31, 1997. Principal repayments produced the lower
balance. The Bank held commitments to purchase $30.0 million of MBS in the third
quarter. The weighted average yield on the MBS portfolio was 6.75 percent at
June 30, 1998, or 12 basis points lower than the weighted average yield at Dec.
31, 1997. Higher amortization of net premiums produced the decrease in the
weighted average yield since Dec. 31, 1997. The Bank's MBS portfolio at June 30,
1998, included $228.9 million of loans originated and serviced by the Bank.
Approximately 53 percent of the MBS portfolio is classified as
AFS, and at June 30, 1998, the Company reported an unrealized gain on its AFS
MBS of $2.0 million compared to an unrealized gain of $2.6 million at Dec. 31,
1997. At June 30, 1998, 72 percent of the MBS portfolio had adjustable rate
characteristics
15
16
(although some may be performing at initial fixed interest rates), compared to
74 percent of the portfolio at Dec. 31, 1997.
Net loans receivable totaled $3.2 billion at June 30, 1998 or
$12.2 million less than at Dec. 31, 1997. The purchase of $356.7 million of
loans and the origination of another $371.6 million of loans held for
investment, partly offset by $742.9 million of principal repayments, produced
the increase in loans receivable since year end 1997. The Bank had commitments
to purchase $850 million of loans in the third quarter. See "CASH FLOW ACTIVITY"
for further discussion of loan prepayment and originations.
The weighted average rate on loans receivable decreased to
7.42 percent at June 30, 1998 from 7.49 percent at Dec. 31, 1997. The repayment
of higher yielding loans and the purchase and origination of loans at rates
lower than the portfolio average produced a decline in the weighted average
rate. At both June 30, 1998 and Dec. 31, 1997, 85 percent of the loan portfolio
had adjustable rate characteristics.
Loans held for sale increased $37.0 million during the first
six months of 1998 to $54.1 million at June 30, 1998. The increase in loans held
for sale resulted from the addition of Serve Corps, the Bank's new mortgage loan
brokerage subsidiary. Loans originated by Serve Corps are either classified as
held for sale (and sold to third parties) or originated for the Bank's
portfolio.
Deposits totaled $3.3 billion at June 30, 1998, relatively
unchanged from Dec. 31, 1997. The weighted average cost of deposits decreased to
4.08 percent at June 30, 1998 from 4.26 percent at Dec. 31, 1997. The maturity
of higher rate certificates of deposit (CDs), and a decrease in the relative
size of the CD portfolio, produced a decline in the weighted average rate paid
on deposits. In addition, the Bank lowered the rates paid on certain savings,
money market, and checking products, further reducing the weighted average rate.
Total borrowings, which include FHLB advances, totaled $769.0
million at June 30, 1998, $20.1 million or 2.5 percent lower than the $789.1
million of borrowings at Dec. 31, 1997. During the first six months of 1998, the
Bank used long-term borrowings to refinance some higher costing short-term
balances. The replacing of higher costing short-term borrowings with long-term
borrowings causes the combined weighted average cost of borrowings to decline to
5.83 percent at June
16
17
30, 1998 from 6.09 percent at Dec. 31, 1997. The Bank expects to use borrowings
to fund a portion of its commitments to purchase loans and MBS in the third
quarter. See "CASH FLOW ACTIVITY" for further discussion.
Stockholders' equity of the Company was $438.1 million at June
30, 1998 or $12.75 per share. In comparison, stockholders' equity at Dec. 31,
1997 was $417.9 million or $12.22 per share. The $20.2 million increase in
stockholders' equity during the six months ended June 30, 1998 resulted from
$24.7 million of net income and $2.3 million of capital provided by the exercise
of stock options granted to employees and directors, partly offset by dividends
paid to shareholders of $6.8 million. See "CAPITAL" and "CONSOLIDATED STATEMENTS
OF STOCKHOLDERS' EQUITY" for further analysis.
See "CREDIT RISK MANAGEMENT" for discussion of foreclosed real
estate balances.
CAPITAL
The Bank is subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory (and possibly additionally
discretionary) actions by the regulators that, if undertaken, could have a
direct material effect on the Bank's financial statements and therefore the
Company's financial statements. Under capital adequacy guidelines and regulatory
framework for prompt corrective action, the Bank must meet specific capital
guidelines that involve quantitative measures of the Bank's assets, liabilities,
and certain off-balance sheet items calculated under regulatory accounting
practices. The Bank's capital amounts and classification also are subject to
qualitative judgments by the regulators about components, risk weightings, and
other factors.
Quantitative measures established by regulation to ensure
capital adequacy require the Bank to maintain minimum amounts and ratios of
total and Tier I capital to risk-weighted assets, and of Tier I capital to
average assets. Tier I capital equals the capital of the Bank less certain
intangible assets and the net assets of non-includable subsidiaries. Total
capital equals Tier I capital plus the Bank's general allowance for loan losses,
up to certain limits. As of June 30, 1998, Management believes that the Bank
meets all capital adequacy requirements to which it is subject.
17
18
As of June 30, 1998, the Bank meets the requirements of the
Office of Thrift Supervision ("OTS") to be categorized as "well capitalized"
under the regulatory framework for prompt corrective action. To be categorized
as "well capitalized," the Bank must maintain minimum total risk-based capital
ratios, Tier I risk-based ratios, and Tier I leverage ratios(2) as set forth in
the table below. The Bank's actual amounts and ratios are also presented
corrected in the
following table:
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes: Action Provisions:
Dollars in thousands Amount Ratio Amount Ratio Amount Ratio
- -------------------- ------ ----- ------ ----- ------ -----
As of June 30, 1998
Total Capital
(to Risk Weighted Assets) $417,459 16.10% >$207,450 >8.00% >$259,313 >10.00%
- - - -
Tier I Capital
(to Risk Weighted Assets) $385,027 14.85% >$103,725 >4.00% >$155,588 > 6.00%
- - - -
Tier I Capital (core)
(to Regulatory Assets) $385,027 8.69% >$177,242 >4.00% >$221,553 > 5.00%
- - - -
As of Dec. 31, 1997
Total Capital
(to Risk Weighted Assets) $413,080 17.12% >$193,073 >8.00% >$241,341 >10.00%
- - - -
Tier I Capital
(to Risk Weighted Assets) $382,879 15.85% >$ 96,645 >4.00% >$144,967 > 6.00%
- - - -
Tier I Capital (core)
(to Regulatory Assets) $382,879 8.61% >$177,939 >4.00% >$222,424 > 5.00%
- - - -
While tier I capital to regulatory assets increased slightly
from Dec. 31, 1997 to June 30, 1998, both total capital and tier I capital to
risk-weighted assets declined by approximately 100 basis points. The lower ratio
was caused by an increase in risk-weighted assets, as total and tier I capital
actually increased slightly during the period. The higher risk-weighted assets
were primarily due to the off-balance sheet commitments at June 30, 1998 to
purchase loans and MBS in the third quarter.
The following schedule reconciles stockholders' equity of the
Company to the components of regulatory capital of the Bank at June 30, 1998:
- --------
(2) Under separate OTS regulations, the Bank is required to maintain
minimum capital level ratios of core and tangible capital to adjusted assets and
total regulatory capital to risk-weighted assets. At June 30, 1998, the Bank's
tangible and core capital ratio of 8.69 percent and risk-based capital of 16.10
percent exceed required capital levels.
18
19
June 30,
Dollars in thousands 1998
---------
Stockholders' equity of the Company $ 438,101
Less: capitalization of the Company
and non-Bank subsidiaries (46,231)
---------
Stockholder's equity of the Bank 391,870
Less: unrealized gain on
available for sale securities (1,232)
Less: investments in non-includable
subsidiaries (1,376)
Less: intangible assets and other non-includable assets (4,235)
---------
Tangible and core capital 385,027
Plus: allowable GVAs 32,432
---------
Risk-based capital $ 417,459
=========
In an attempt to address the interest rate risk inherent in
the balance sheets of insured institutions, the OTS proposed a regulation that
adds an interest rate risk component to the risk-based capital requirement for
excess interest rate risk. Under this proposed regulation, which has never been
implemented by the OTS, an institution is considered to have excess interest
rate risk if, based upon a 200 basis point change in market interest rates, the
market value of an institution's capital changes by more than two percent. If a
change greater than two percent occurs, one-half of the percent change in the
market value of capital in excess of two percent is added to the institution's
risk-based capital requirement. At June 30, 1998, the Bank had no "excess"
interest rate risk that would have required additional risk-based capital if the
regulation had been implemented by the OTS. Even if it had excess interest rate
risk, at June 30, 1998, the Bank would have $210.0 million of excess risk-based
capital available to meet any additional capital requirement.
Under the Federal Deposit Insurance Corporation Improvement
Act, the OTS recently published regulations to ensure that its risk-based
capital standards take adequate account of concentration of credit risk, risk
from nontraditional activities, and actual performance and expected risk of loss
on multifamily mortgages. These rules allow the regulators to impose, on a
case-by-case basis, an additional capital requirement above the current
requirements where an institution has significant concentration of credit risk
or risks from nontraditional activities. The Bank is currently not subject to
any additional capital requirements under these regulations.
The OTS may establish capital requirements higher than the
generally applicable minimum for a particular savings institution if the OTS
determines the
19
20
institution's capital was or may become inadequate in view of its particular
circumstances. Individual minimum capital requirements may be appropriate where
the savings institution is receiving special supervisory attention, has a high
degree of exposure to interest rate risk, or poses safety or soundness concerns.
The Bank has no such requirements.
Regulatory rules currently impose limitations on all capital
distributions by savings institutions, including dividends, stock repurchase and
cash-out mergers. Under the current rule, institutions are grouped into three
classifications depending upon their level of regulatory capital both before and
after giving effect to a proposed capital distribution. The OTS recently
proposed revising its capital distribution regulation to conform the definition
of "capital distribution" to the definition used in its prompt corrective
regulations, and to delete the three classifications of institutions. Under the
proposal, there would be no specific limitation on the amount of permissible
capital distributions, but the OTS could disapprove a capital distribution if
the institution would not be at least adequately capitalized under the OTS
prompt correction action regulations following the distribution raised safety or
soundness concerns, or if the distribution violated a prohibition contained in
any statute, regulation, or agreement between the institution and the OTS, or a
condition imposed on the institution by the OTS. The OTS would consider the
amount of the distribution when determining whether it raised safety or
soundness concerns. During 1998, the Bank plans to pay dividends to the Company
equal to 100 percent of Bank net income.
CASH FLOW ACTIVITY
Sources of Funds. The major sources of funds during the first six months of
1998 included $942.4 million of principal repayments on loans receivable and
MBS, $154.8 million from the issuance of CDs, $145.7 million from the sale of
assets held for sale, a $41.7 million increase in other deposit products, and
$20.2 million from maturing AFS investment securities.
During the first six months of 1998, repayments of loans
receivable and MBS totaled $942.4 million, compared to $533.0 million during the
first six months of 1997. The increase in repayments during the first six months
of 1998 was primarily in the 1-4 family loan and MBS portfolios, which totaled
$750.5 million during the first half of 1998, mainly due to the low interest
rate environment. This low interest rate environment may continue to cause
prepayments to remain at
20
21
high levels. In addition, the Bank has experienced high prepayments in the loan
portfolio with initial fixed interest rate periods of three to five years as
many borrowers refinanced before this introductory term expired.
The issuance of CDs during the first six months of 1998
totaled $154.8 million, as compared to $193.3 million of CDs issued during the
same period in 1997. Management did not retain a portion of the short-term,
higher-rate, CD products issued during 1997 in an effort to reduce the cost of
funds. The Bank also reduced its marketing efforts associated with the CD
products. Checking, savings and money market account balances increased $41.7
million during the first six months of 1998, compared to $33.2 million during
the first six months of 1997.
The sale of $145.7 million of loans originated for sale
provided liquidity during 1998, compared to $16.2 million in the same period in
1997. The addition of Serve Corps, the Bank's new residential loan brokerage
subsidiary in January 1998 produced the increase. See "MANAGEMENT DISCUSSION AND
ANALYSIS - GENERAL" for further details.
The maturity of $20.2 million of investment securities also
provided additional liquidity during 1998. In comparison, during the same six
month period in 1997, $16.2 million of funds were provided by the maturity of
investment securities.
Uses of Funds. The major uses of funds during the six months ended June 30, 1998
included $733.0 million of loans originated and purchased for investment, $193.8
million of payments for maturing CDs, $183.2 million for the origination of
assets held for sale, $58.6 million for the purchase of AFS investment
securities, and $20.0 million in repayments of short-term borrowings.
Loans originated and purchased for investment totaled $733.0
million during the first six months of 1998, compared to $749.9 million during
the same period of 1997. The Bank has used whole loan purchases to offset the
effects of high loan repayments, build earning asset levels, and supplement
loans originated for investment. During the first six months of 1998, the Bank
purchased $356.7 million of loans compared to the purchase of $514.2 million of
loans during the first six months of 1998. The Bank has commitments to purchase
an additional $880 million of loans and MBS during the third quarter of 1998. In
addition to loans originated for investment, the Company originated $194.2
million of loans that were held for sale,
21
22
compared to $15.5 million during the same six months in 1997, due to the
operations of Serve Corps.
Payments for maturing CDs decreased from $268.4 million during
the six months ended June 30, 1997 to $193.8 million during the first six months
of 1998. The Bank did not retain a significant portion of the higher costing,
short-term products issued in 1997.
During the first six months of 1998, $58.6 million of funds
were used to purchase AFS investment securities. In comparison, during the same
period in 1997, $40.2 million of funds were used to purchase AFS investment
securities.
During the first half of 1998, the Bank reduced net borrowings
by $20.0 million. During 1998, the Bank replaced some higher costing short-term
borrowings with lower costing long-term borrowings. The Bank may use additional
borrowings to fund the loan and MBS purchase commitments during the third
quarter. In comparison, during the first six months of 1997, the Bank increased
borrowings by $287.4 million to help fund loan purchases.
During the first six months of 1998, the Company did not
repurchase any shares of its own common stock under stock repurchase programs.
In comparison, the Company used $17.1 million to acquire 977,625 of its own
common stock during the first six months of 1997.
Holding Company Liquidity. At June 30, 1998, St. Paul Bancorp, the "holding
company," had $91.3 million of cash and cash equivalents, which included amounts
due from depository institutions and investment securities with original
maturities of less than 90 days. In addition, the Company has $14.3 million of
investment securities and $2.4 million of MBS securities classified as AFS. The
Company also maintains a $20.0 million revolving line of credit agreement from
another financial institution. At June 30, 1998, no funds have been borrowed
under this agreement.
Sources of liquidity for St. Paul Bancorp during the first six
months of 1998 included $10.7 million of repayments of advances to SPFD, $11.3
million of dividends from the Bank, and $850,000 of dividends from SPFD and
Annuity Network, Inc. Uses of St. Paul Bancorp's liquidity during the first six
months of 1998 included the purchase of $19.6 million of investment securities,
$6.9 million of
22
23
dividends paid to stockholders, and advances to the Bank of $3.5 million(3). In
July 1998, the Company's Board of Directors approved a 50% increase in the
quarterly dividend rate, by increasing the dividend to $0.15 per share per
quarter, from $0.10 per share, per quarter. The new quarterly dividend rate will
begin with the third quarter dividend payment.
Regulatory Liquidity Requirements. Savings institutions are required to maintain
average daily balances of liquid assets equal to a specified percentage of the
institution's average net withdrawable deposits plus short-term borrowings.
Liquid assets include cash, certain time deposits, federal funds sold, and
certain securities. This liquidity requirement may be changed from time to time
by the Director of the OTS to any amount within the range of 4 percent to 10
percent, depending upon economic conditions and the deposit flows of savings
institutions. In November 1997, the OTS revised its liquidity requirement to 4
percent from 5 percent and expanded the asset types that qualify as liquid
assets. The OTS also added a qualitative liquidity requirement so the Bank must
maintain liquidity to ensure safe and sound operations. Because of the expanded
definition of liquid assets, the Bank's liquidity at June 30, 1998 of $678.6
million substantially exceeded the 4 percent requirement of $139.4 million.
Because of the change in regulation, Management's regulatory liquidity
compliance focus has shifted from quantitative measures to qualitative safety
and soundness concerns.
- --------
(3) During 1998, the Company used its excess liquidity to advance funds to
the Bank for use in the Bank's operation. The advance is due upon demand and
earns a rate of interest comparable to what the Company could earn on its
investment portfolio.
23
24
RATE/VOLUME ANALYSIS
The following tables present the components of the changes in net
interest income by volume and rate(4) for the three and six months ended June
30, 1998 and 1997:
Three months ended June 30, 1998 and 1997 Six months ended June 30, 1998 and 1997
INCREASE/(DECREASE) DUE TO INCREASE/(DECREASE) DUE TO
TOTAL TOTAL
Dollars in thousands VOLUME RATE CHANGE VOLUME RATE CHANGE
------- ------- ------- -------- ------- --------
CHANGE IN INTEREST INCOME:
Loans receivable $ 6,730 $(2,295) $ 4,435 $ 13,664 $(3,573) $ 10,091
Mortgage-backed securities(5) (5,069) (1,465) (6,534) (9,302) (2,247) (11,549)
Investment securities 254 (50) 204 426 (79) 347
Federal funds and interest-bearing
bank balances (65) (7) (72) 705 86 791
Other short-term investments 891 (110) 781 1,422 (219) 1,203
------- ------- ------- -------- ------- --------
Total interest income 2,741 (3,927) (1,186) 6,915 (6,032) 883
CHANGE IN INTEREST EXPENSE:
Deposits (798) (1,963) (2,761) (1,955) (3,363) (5,318)
Short-term borrowings (1,609) (98) (1,707) (2,324) 5 (2,319)
Long-term borrowings 4,432 (677) 3,755 9,757 (1,484) 8,273
------- ------- ------- -------- ------- --------
Total interest expense 2,025 (2,738) (713) 5,478 (4,842) 636
------- ------- ------- -------- ------- --------
NET CHANGE IN NET INTEREST INCOME
BEFORE PROVISION FOR LOAN LOSSES $ 716 $(1,189) $ (473) $ 1,437 $(1,190) $ 247
======= ======= ======= ======== ======= ========
- --------
(4) This analysis allocates the change in interest income and expense
related to volume based upon the change in average balance and prior period's
applicable yield or rate paid. The change in interest income and expense related
to rate is based upon the change in yield or rate paid and the prior period's
average balances. Changes due to both rate and volume have been allocated to
volume and rate changes in proportion to the relationship of the absolute dollar
amounts of the change in each. The effect of nonperforming assets has been
included in the rate variance. Average balances exclude the effect of unrealized
gains and losses.
(5) Includes securities due from broker.
24
25
RESULTS OF OPERATIONS
General. Net income for the second quarter of 1998 was $12.5 million or $0.36
per diluted share outstanding compared to net income of $12.4 million or $0.36
per share during the same quarter in 1997. Net income for the six month period
ended June 30, 1998 was $24.7 million or $0.70 per share compared to $24.2
million or $0.70 per share for the same six month period in 1997. For both the
quarter and year-to-date periods, higher other income, the reversal of previous
loan loss provisions, and a lower effective income tax rate were partly offset
by higher general and administrative costs ("G&A"). Operating results during the
first six months of 1997 also included a $403,000 extraordinary loss, net of
tax, on the early extinguishment of the Company's $34.5 million of subordinated
notes.
Net Interest Income. Net interest income totaled $32.9 million during the second
quarter of 1998, compared to $33.4 million of net interest income recorded
during the same quarter in 1997. For the six month period ending June 30, 1998,
net interest income was $65.9 million compared to $65.7 million during the same
period in 1997. During both the quarter and year-to-date periods, net interest
income was impacted by a high level of repayments in the loan and MBS portfolios
and a greater reliance on borrowings as a source of funds. However, a decrease
in the cost of deposits helped to offset the impact on net interest income.
The net interest margin ("NIM") was 3.00 percent during the
second quarter of 1998, compared to 3.13 percent during the same quarter in
1997. The NIM for first six months of 1998 was 2.98 percent, compared to 3.09
percent during the same period in 1998. Declining loan and MBS yields mainly
produced the decline in the NIM in both the quarterly and year-to-date
comparisons. However, declining deposit costs and lower rates on new borrowings
partly offset these declines in the NIM.
Interest Income. Interest income on loans receivable rose $4.4 million to $61.1
million during the second quarter of 1998, compared to $56.7 million during the
second quarter in 1997. Interest income on loans receivable rose $10.1 million
to $120.3 million during the first six months of 1998, compared to $110.2
million during the same period in 1997. The increase in both the three and six
month
25
26
periods were primarily due to higher average loan balances, partly offset by a
decline in the effective loan yield. The increase in the average loan balance
was primarily due to the acquisition of $636.8 million of whole loans during the
twelve month period-end June 30, 1998 and new loans originated for portfolio.
The lower effective loan yield was produced by the repayment of higher rate
loans and the purchase and origination of loans at weighted average rates less
than the portfolio average.
MBS interest income decreased $6.5 million during the second
quarter to $12.4 million, compared to $18.9 million during the same quarter a
year ago. For the first six months of 1998, MBS interest income declined $11.5
million to $27.0 million, compared to $38.6 million during the same period a
year ago. For both the three and six month periods, the decline was primarily
related to lower average balances and a lower effective yield. The decline in
average MBS balances was due to prepayments. The lower effective MBS yield was
associated with higher amortization of net purchase premiums, as well as some
downward repricing in the portfolio.
Interest income from investments increased $913,000 during the
second quarter to $4.0 million compared to $3.1 million during the same quarter
a year ago. Interest income from investments rose $2.3 million during the first
six months of 1998 to $9.1 million compared to $6.8 million during the same
period a year ago. For both the three and six month periods the increase was due
to higher average balances, partly offset by a lower effective yield. An
increase in liquidity resulted in the increase in average investment balances.
Lower yields earned on new investment securities and the maturities of some
higher rate securities produced the decline in the yields.
Interest Expense. Deposit interest expense declined by $2.8 million to $32.9
million during the second quarter of 1998 compared to the same quarter a year
ago. In addition, during the first half of 1998, deposit interest expense
declined $5.3 million to $66.2 million compared to the same period a year ago.
The decline for both the three and six month periods were primarily due to lower
average balances, as well as a decline in effective cost of deposits. Average
deposit balances declined $76.0 million and $93.5 million in the three and six
month periods ended
26
27
June 30, 1998, respectively. The decline was largely due to the maturity of some
higher costing CD's that were issued during 1997 and during the second half of
1996. The decline in the higher costing CD products also contributed to the
decline in the effective cost of deposits. In addition, during the first quarter
of 1998, Management lowered the rates paid on certain savings, checking and
money market products in response to lower market rates, further contributing to
the lower effective cost of deposits. The weighted average cost of deposits has
declined to 4.08 percent from 4.26 percent at June 30, 1997.
Borrowing interest expense increased $2.0 million to $11.7
million during the second quarter of 1998, compared to the same period a year
ago, while borrowing interest expense for the first half of 1998 increased $6.0
million to $24.3 million compared to the same period in 1998. The increase in
both the three and six month periods were due to higher average borrowing
balances, partly offset by a lower effective cost. Average balances rose by
$186.1 million during the second quarter of 1998 and $246.8 million for the
first six months of 1998. Management relied on borrowings to fund a portion of
whole loan acquisitions. In addition to new borrowings, which were at low rates,
Management refinanced some of the short-term borrowings with lower costing
long-term borrowings causing the lower effective cost.
Interest Rate Spread. The Bank's ability to sustain current net interest income
levels during future periods is largely dependent on maintaining the interest
rate spread, which is the difference between weighted average rates on interest
earning assets and interest bearing liabilities. The interest rate spread was
2.73 percent at June 30, 1998, compared to 2.79 percent at Mar. 31, 1998 and
2.66 percent at June 30, 1997. Declining asset yields, mainly caused by heavy
loan and MBS prepayments during the past twelve months have put significant
downward pressure on the interest rate spread. However, Management has been
successful in lowering the cost of funds by both reducing rates paid on deposits
and the effective cost of borrowings to offset this decline in the spread. Most
of the decline in the cost of funds occurred during the fourth quarter of 1997
and the first quarter of 1998 causing the interest rate spread at June 30, 1998
to increase by thirteen basis points from a year ago, but actually decreasing by
six basis points from Mar. 31, 1998.
27
28
External forces, such as the performance of the economy,
actions of the Board of Governors of the Federal Reserve System, and market
interest rates, can significantly influence the size of the interest rate spread
and are beyond the control of Management. In response to these forces,
Management evaluates market conditions and deploys strategies that it believes
will produce a sustainable and profitable interest rate spread.
Management also believes that several product-related factors
will continue to impact the interest rate spread. First, the Bank has $1.6
billion of "adjustable" rate loans and MBS that have initial fixed interest rate
periods ranging from three to seven years. At June 30, 1998, only $289.8 million
of these loans and MBS were scheduled to reprice during the ensuing twelve
months. If interest rates remain at current levels at the time of repricing, the
Bank may experience an increase in the yields, but could also experience a
further increase in prepayments.
Second, approximately $212.1 million of adjustable rate 1-4
family and multifamily loans are at their interest rate floors. These loans will
not reprice until their fully indexed interest rate exceeds the floor rate.(6)
Third, $904.4 million of the Company's assets are tied to
movements that lag behind the movements in market interest rates. In general,
this condition benefits the Bank's asset yields as market rates decrease, but
constrains repricing as interest rates increase.
On the liability side, the Company has $203.0 million of
borrowings that are scheduled to reprice during the next six months and a CD
portfolio of $1.9 billion that has a weighted average remaining maturity of 9.5
months. The Company also has $1.4 billion of deposits in checking, savings, and
money market accounts
- --------
(6) At June 30, 1998, the weighted average fully indexed rate on these
loans was 7.42 percent and the weighted average floor was 8.01 percent. These
interest rate floors benefited net income by $327,000 during the second quarter
of 1998 and $674,000 during the first half of 1998. The floors also increased
the NIM and interest rate spread during 1998 by 3 basis points. In comparison,
at June 30, 1997, the Bank had $298.6 million of loans at their floors, which
benefited interest income by $554,000 during the second quarter of 1997 and $1.4
million during the first half of 1997. In addition, the floors increased the NIM
and interest rate spread during the first six months of 1997 by 6 basis points.
28
29
that are expected to help mitigate the effect of a rapid change in interest
rates.
Traditionally, financial institutions have used "GAP" analysis
as a measure of interest rate sensitivity. GAP is the ratio of interest rate
sensitive assets to interest rate sensitive liabilities over a specified time
horizon, expressed as a percentage of total assets. At June 30, 1998, the
Company maintained a matched GAP position, suggesting that the Bank was
relatively insulated from the effects of market rates during the next 12 months.
See "ASSET/LIABILITY REPRICING SCHEDULE" following for further details. Also,
see the Company's 1997 Annual Report/Form 10-K interest rate risk discussion.
Provision for Loan Losses. Due to continued positive trends in credit quality,
the Company reversed $1.0 million of loan loss provisions during the first six
months of 1998, including $500,000 during the second quarter of 1998. See
"CREDIT RISK MANAGEMENT" for further discussion of loss provisions and the
adequacy of the accumulated provisions for losses. In comparison, the Company
recorded no loss provisions during either the second quarter or the first six
months of 1997.
Other Income. Other income for the second quarter of 1998 was $12.0 million,
$1.0 million or 9.5 percent higher than the $11.0 million for the same quarter
in 1997. Other income for the first six months of 1997 was $23.6 million, $2.1
million or 9.9 percent higher than the $21.5 million for the same period in
1997.
For both the three and six month periods, the increase in
other income was primarily due to higher gains from loans sales and higher
income from discount brokerage operations. Gains from loan sales increased $1.3
million and $2.2 million for the three and six month periods ended June 30,
1998, respectively. These increases were primarily due to increased loan sales
volumes caused by the addition of the Bank's new mortgage subsidiary, Serve
Corps Mortgage Corp. Loans originated by Serve Corps are either sold with
servicing released to unaffiliated third party investors or originated for the
Bank's portfolio(7). The higher income from discount brokerage operations was
mainly due to higher sales volumes at Investment Network,
- --------
(7) Gains are not recorded for loans transferred to the Bank.
29
30
Inc., the Bank's discount brokerage subsidiary. The sale of a 120-acre land
parcel during the first quarter of 1998 by the Company's real estate development
subsidiary mainly produced the $756,000 increase in income from real estate
development operations during the first six months of 1998.
These increases in other income were partly offset by lower
revenues from ATM operations of $142,000 and $668,000 for the three and six
month periods ended June 30, 1998, respectively, primarily due to lower
transaction volumes. The decline in ATM transaction volumes was partly due to
increased competition from other ATM sites and the loss of some non-customer
activity after the introduction of access fees. During the second quarter, the
Bank also increased the access fee charged to non-customers who use certain
ATMs.
General and Administrative Expense. General and administrative expenses
("G&A")totaled $27.2 million during the second quarter of 1998, $1.6 million or
6.5 percent higher than during the same period of 1997. G&A expense for the
first six months of 1998 totaled $54.5 million, $4.7 million or 9.5 percent
higher than the same period in 1997. The higher level of expense was mainly
generated by increases in compensation and benefits, occupancy, equipment and
office expense, and other expense.
Compensation and benefits rose $1.4 million during the first
six months of 1998, over the same period in 1997, due to the addition of Serve
Corps, as well as annual merit increases and higher sales incentives. In
addition, higher employment taxes and higher costs related to the employee stock
ownership plan contributed to the increase. While compensation rose in the
year-to-date comparison, the expense was relatively flat in the quarterly
comparison. Lower officer bonuses and medical costs offset the increases due to
Serve Corps, higher sales incentives and higher other benefit costs. Occupancy,
equipment and office expense rose $1.0 million and $1.7 million during the three
and six month periods ended June 30, 1998, respectively. These increases were
primarily related to additional operating costs of the Bank's new operations
center and higher systems costs. Higher systems costs primarily relate to retail
banking and ATM applications and compliance work in preparation for the year
2000. In addition, other expense increased by $563,000 and $1.4 million for the
quarter and year-to-date periods,
30
31
primarily due to higher professional fees and expenses associated with Serve
Corps.
The Company expects to focus on the overall cost structure of
the entire organization as it integrates the Beverly branches and products into
its network.
Management also expects to incur additional G&A costs in 1998
related to the systems requirements to ensure that the Bank can process
transactions in the next century. In 1996, the Bank began preliminary work on
the Year 2000 compliance issue. Critical risk elements were identified and an
inventory of computer hardware, software application, Bank vendors and available
internal resources was prepared. From this assessment, a formal action plan was
prepared and approved by the Bank's Board of Directors in early 1997. The action
plan divided the project into segments that were aligned with the type of
computer platform used by the Bank. Execution of the plan development work began
in 1997 and continues into 1998. Data processing management of the Bank has
assured the Board that sufficient internal resources have been allocated to this
project and that external resources will continue to be used as necessary to
meet project deadlines. The Company's plan has been expanded to include Beverly,
and Management is currently assessing the progress of Beverly's activities to
insure compliance. Management is committed to completing the necessary
compliance work by the end of 1998, with testing to begin later in the year and
into 1999. The OTS has mandated that all OTS regulated institutions be Year 2000
compliant by the end of 1998, with 1999 set for testing. Management currently
estimates that the costs incurred in 1998 for work on the Year 2000 project will
not be material. The Bank intends to fund these costs from operations and excess
liquidity. The Bank expects that the outsourcing of its loan servicing system
will be completed by the end of 1998, ensuring that this area is Year 2000
compliant within the required time frame. The loan outsourcing decision will
increase the Bank's operating expenses by approximately $350,000 per year.
Operations of Foreclosed Real Estate. The net loss generated from foreclosed
real estate operation was $50,000 during the second quarter of 1998, compared to
$39,000 for the same quarter in 1997. For the first six months of 1998, the net
loss generated from foreclosed real estate operations was $84,000, compared to
$83,000
31
32
for the same period in 1997. See "CREDIT RISK MANAGEMENT" for further discussion
of REO.
Income Taxes. A lower level of pretax income and a decline in the effective
income tax rate produced the decrease in the provision for income taxes during
the second quarter of 1998, and the first six months of 1998, as compared to the
same periods in the prior year. The implementation of certain tax planning
strategies produced the lower effective income tax rate.
32
33
AVERAGE BALANCES, INTEREST AND AVERAGE YIELDS
Three months ended June 30,
Dollars in thousands At June 30, 1998 1998 1997
- -------------------------------------------------------------------------------------------------------------------------------
Weighted Effective Effective
Yield/ Average Yield/ Average Yield/
Balance Rate Balance(a) Interest Rate Balance(a) Interest Rate
Investments:
Investment securities (b) $ 80,332 6.15% $ 82,807 $ 1,260 6.10% $ 66,235 $ 1,056 6.39%
Federal funds and
interest-bearing bank balances 171,309 5.43 74,031 998 5.41 78,849 1,070 5.44
Other investments (c) 131,960 5.46 122,296 1,762 5.78 61,099 981 6.44
- ----------------------------------------------------------------------------------------------------------------------------
Total investments 383,601 5.59 279,134 4,020 5.78 206,183 3,107 6.04
Mortgage-backed securities/
securities due from broker 716,279 6.75 777,220 12,415 6.39 1,088,326 18,949 6.96
Loans receivable (d) 3,281,270 7.42 3,336,945 61,103 7.32 2,972,994 56,668 7.62
- ----------------------------------------------------------------------------------------------------------------------------
Total interest-earning assets $4,381,150 7.14% $4,393,299 $77,538 7.06% $4,267,503 $78,724 7.38%
=============================================================================================================================
Deposits:
Interest-bearing checking $ 216,582 1.19% $ 228,283 $ 666 1.17% $ 233,836 $ 992 1.70%
Non-interest-bearing checking 167,864 -- 170,624 -- -- 147,532 -- --
Other non-interest-bearing accounts 56,847 -- 57,603 -- -- 40,605 -- --
Money market accounts 224,616 3.75 223,408 2,109 3.79 218,011 1,993 3.67
Savings accounts 691,128 2.15 691,173 3,687 2.14 689,899 4,329 2.52
Certificates of deposit 1,930,208 5.61 1,898,801 26,473 5.59 2,016,038 28,382 5.65
- ----------------------------------------------------------------------------------------------------------------------------
Total deposits 3,287,245 4.08 3,269,892 32,935 4.04 3,345,921 35,696 4.28
Borrowings:(e)
Short-term borrowings 200,210 5.74 233,156 3,332 5.73 345,620 5,039 5.85
Long-term borrowings 568,831 5.86 571,609 8,350 5.86 273,064 4,595 6.75
- ----------------------------------------------------------------------------------------------------------------------------
Total borrowings 769,041 5.83 804,765 11,682 5.82 618,684 9,634 6.25
- ----------------------------------------------------------------------------------------------------------------------------
Total interest-bearing liabilities $4,056,286 4.41% $4,074,657 $44,617 4.39% $3,964,605 $45,330 4.59%
=============================================================================================================================
Excess of interest-earning assets
over interest-bearing liabilities $ 324,864 $ 318,642 $ 302,898
=============================================================================================================================
Ratio of interest-earning assets to
interest-bearing liabilities 1.08x 1.08x 1.08x
Net interest income $32,921 $33,394
=============================================================================================================================
Interest rate spread 2.73%
"Average" interest rate spread 2.67% 2.79%
=============================================================================================================================
Net yield on average earning assets 3.00% 3.13%
=============================================================================================================================
(a) All average balances based on daily balances.
(b) Average balances exclude the effect of unrealized gains or losses on
available for sale investment securities.
(c) Includes investment in FHLB stock and other short-term investments.
(d) Includes loans held for sale and loans placed on a nonaccrual status.
(e) Includes FHLB advances, securities sold under agreements to repurchase
and other borrowings.
33
34
AVERAGE BALANCES, INTEREST AND AVERAGE YIELDS
Six months ended June 30,
Dollars in thousands At June 30, 1998 1998 1997
- -----------------------------------------------------------------------------------------------------------------------------
Weighted Effective Effective
Yield/ Average Yield/ Average Yield/
Balance Rate Balance(a) Interest Rate Balance(a) Interest Rate
Investments:
Investment securities (b) $ 80,332 6.15% $ 80,171 $ 2,404 6.05% $ 66,053 $ 2,057 6.28%
Federal funds and
interest-bearing bank balances 171,309 5.43 130,124 3,514 5.45 103,944 2,723 5.28
Other investments (c) 131,960 5.46 113,075 3,207 5.72 63,561 2,004 6.36
- ----------------------------------------------------------------------------------------------------------------------------
Total investments 383,601 5.59 323,370 9,125 5.69 233,558 6,784 5.86
Mortgage-backed securities/
securities due from broker 716,279 6.75 830,596 27,012 6.50 1,113,029 38,561 6.93
Loans receivable (d) 3,281,270 7.42 3,269,293 120,312 7.36 2,900,383 110,221 7.60
- ----------------------------------------------------------------------------------------------------------------------------
Total interest-earning assets $4,381,150 7.14% $4,423,259 $156,449 7.08% $4,246,970 $155,566 7.33%
=============================================================================================================================
Deposits:
Interest-bearing checking $ 216,582 1.19% $ 226,117 $ 1,371 1.22% $ 233,165 $ 1,985 1.72%
Non-interest-bearing checking 167,864 -- 167,883 -- -- 143,645 -- --
Other non-interest-bearing accounts 56,847 -- 53,626 -- -- 38,590 -- --
Money market accounts 224,616 3.75 220,948 4,055 3.70 218,839 3,940 3.63
Savings accounts 691,128 2.15 684,272 7,343 2.16 684,550 8,346 2.46
Certificates of deposit 1,930,208 5.61 1,913,049 53,426 5.63 2,040,583 57,242 5.66
- ----------------------------------------------------------------------------------------------------------------------------
Total deposits 3,287,245 4.08 3,265,895 66,195 4.09 3,359,372 71,513 4.29
Borrowings:(e)
Short-term borrowings 200,210 5.74 241,429 6,927 5.79 322,412 9,246 5.78
Long-term borrowings 568,831 5.86 595,388 17,415 5.90 267,608 9,142 6.89
- ----------------------------------------------------------------------------------------------------------------------------
Total borrowings 769,041 5.83 836,817 24,342 5.87 590,020 18,388 6.28
- ----------------------------------------------------------------------------------------------------------------------------
Total interest-bearing liabilities $4,056,286 4.41% $4,102,712 $90,537 4.45% $3,949,392 $89,901 4.59%
=============================================================================================================================
Excess of interest-earning assets
over interest-bearing liabilities $ 324,864 $ 320,547 $ 297,578
=============================================================================================================================
Ratio of interest-earning assets to
interest-bearing liabilities 1.08x 1.08x 1.08x
Net interest income $65,912 $65,665
=============================================================================================================================
Interest rate spread 2.73%
=============================================================================================================================
"Average" interest rate spread 2.63% 2.74%
=============================================================================================================================
Net yield on average earning assets 2.98% 3.09%
=============================================================================================================================
(a) All average balances based on daily balances.
(b) Average balances exclude the effect of unrealized gains or losses on
available for sale investment securities.
(c) Includes investment in FHLB stock and other short-term investments.
(d) Includes loans held for sale and loans placed on a nonaccrual status.
(e) Includes FHLB advances, securities sold under agreements to repurchase
and other borrowings.
34
35
KEY CREDIT STATISTICS
June 30, 1998 Dec. 31, 1997 Dec. 31, 1996
Dollars in thousands Dollar % Dollar % Dollar %
- -----------------------------------------------------------------------------------------------
LOAN PORTFOLIO
MORTGAGE LOANS:
1-4 family units $2,281,371 71% $2,251,823 70% $1,753,907 63%
Multifamily units 867,774 27 911,035 28 988,506 35
Commercial 66,786 2 63,742 2 54,985 2
Land and land development --- - --- - 1,633 *
- -----------------------------------------------------------------------------------------------
Total mortgage loans $3,215,931 100% $3,226,600 100% $2,799,031 100%
================================================================================================
CONSUMER LOANS:
Secured by deposits $ 1,346 12% $ 1,015 8% $ 1,169 6%
Education 10 * 44 * 210 1
Home improvement 81 1 136 1 281 1
Auto 8,815 78 10,818 82 16,197 85
Personal 988 9 1,225 9 1,193 7
- -----------------------------------------------------------------------------------------------
Total consumer loans $ 11,240 100% $ 13,238 100% $ 19,050 100%
- ------------------------------------------------------------------------------------------------
Total loans held for investment $3,227,171 $3,239,838 $2,818,081
================================================================================================
Weighted average rate 7.42% 77.49% 7.66%
================================================================================================
*Less than 1 percent
June 30, 1998 Dec. 31, 1997 Dec. 31, 1996
Dollars in thousands Dollar % Dollar % Dollar %
- ------------------------------------------------------------------------------------------------------
NONPERFORMING ASSETS
MORTGAGE LOANS:
1-4 family units $ 10,876 82% $ 8,701 84% $ 9,102 73%
Multifamily units 655 5 --- -- --- --
Commercial 366 3 --- -- 387 3
- ------------------------------------------------------------------------------------------------------
Total mortgage loans 11,897 90 8,701 84 9,489 76
CONSUMER LOANS 42 * 76 1 46 *
REAL ESTATE OWNED:
1-4 family units 1,353 10 1,515 15 1,566 13
Multifamily units --- -- --- -- --- --
Commercial --- -- --- -- 1,351 11
- ------------------------------------------------------------------------------------------------------
Total real estate owned 1,353 10 1,515 15 2,917 24
- ------------------------------------------------------------------------------------------------------
Total nonperforming assets $ 13,292 100% $ 10,292 100% $ 12,452 100%
======================================================================================================
*Less than 1 percent
June 30, Dec. 31, Dec. 31,
1998 1997 1996
- ------------------------------------------------------------------------------------------
KEY CREDIT RATIOS
- ------------------------------------------------------------------------------------------
Net loan charge-offs (recoveries) to average
loans receivable (0.03)% 0.05% 0.15%
Net California loan charge-offs (recoveries) to
average California loans receivable (0.16) 0.27 0.56
Loan loss reserve to total loans 1.05 1.06 1.28
Loan loss reserve to nonperforming loans 283.87 391.88 377.19
Loan loss reserve to impaired loans 325.07 176.48 64.04
Nonperforming assets to total assets 0.29 0.23 0.29
General valuation allowance to non-
performing assets 255.93 321.34 248.88
- ------------------------------------------------------------------------------------------
35
36
CREDIT RISK MANAGEMENT
LENDING
At June 30, 1998, the loans receivable portfolio was mainly comprised
of 1-4 family mortgages. The loan portfolio also included a large multifamily
portfolio, and to a much lesser extent, other commercial real estate loans, and
consumer loans. See "KEY CREDIT STATISTICS" for further details.
Non-performing loans totaled $11.9 million at June 30, 1998, up $3.2
million from Dec. 31, 1997. The majority of the increase resulted from a $1.7
million increase in non-performing 1-4 family loans. The remainder of the
increase was due to the addition of two Income Property loans, totaling
$1.0 million, to a non-performing status during the second quarter of 1998.
At June 30, 1998, the Bank had a net investment in impaired loans of
$10.5 million, compared to $19.5 million at Dec. 31, 1997.(8) At both June 30,
1998 and Dec. 31, 1997, all of the impaired loans were performing but considered
impaired because it is probable, based upon current information and events, that
the Bank will be unable to collect all amounts due in accordance with the
original contractual agreement. As anticipated by Management, the level of
impaired loans has been significantly reduced since Dec. 31, 1996, when the net
investment in impaired loans totalled $56.2 million.
The allowance for loan losses at June 30, 1998 was $33.9 million
compared to $34.4 million at Dec. 31, 1997, a decrease of $504,000. The
following table provides a rollforward of the allowance for loan losses from
Jan. 1, 1997 through June 30, 1998:
- --------
(8) Impaired as defined in SFAS No. 114 "Accounting by Creditors for
Impairment of a Loan", as amended by SFAS No. 118 "Accounting by Creditors for
Impairment of a Loan - Income Recognition and Disclosure."
36
37
1998 1997
------------- --------------------------
Six Months Six Months Year Ended
Dollars in thousands Ended June 30 Ended June 30 Dec. 31
- -------------------- ------------- -------------------------
Beginning of Period $ 34,395 $ 35,965 $ 35,965
Reversal of provision for losses (1,000) -- --
Charge-offs (143) (2,097) (2,781)
Recoveries 639 646 1,211
-------- -------- --------
End of Period $ 33,891 $ 34,514 $ 34,395
======== ======== ========
The general valuation allowance is evaluated based on a careful review
of the various risk components that are inherent in each of the loan portfolios,
including off-balance sheet items. The risk components that are evaluated
include the level of non-performing and classified assets, geographic
concentrations of credit, economic conditions, trends in real estate values, the
impact of changing interest rates on borrower debt service, as well as
historical loss experience, peer group comparisons, and regulatory guidance.
The adequacy of the accumulated provision for loan losses is approved
on a quarterly basis by the Loan Loss Reserve Committee ("Reserve Committee") of
the Bank's Board of Directors. The allowance for loan losses reflects
Management's best estimate of the risk of credit loss perceived in the Bank's
portfolios. However, actual results could differ from this estimate and future
additions to the allowance may be necessary based on unforeseen changes in
economic conditions. In addition, federal regulators periodically review the
Bank's allowance for losses on loans. Such regulators have the authority to
require the Bank to recognize additions to the allowance at the time of their
examinations.
Net loan recoveries in the first six months of 1998 totaled $496,000,
compared to $1.5 million of net charge-offs in the first six months of 1997.(9)
Annualized net loan recoveries to average loans receivable totaled 0.03 percent
during the first half of 1998. In comparison, the Company had net loan
charge-offs during all of 1997 and 1996 equivalent to 0.05 percent and 0.15
percent of average loans receivable, respectively. See "KEY CREDIT STATISTICS"
for further details.
- --------
(9) Gross loan charge-offs in the first half of 1998 totaled $143,000 and
were related to 1-4 family and consumer loans. Recoveries during the first six
months of 1998 were primarily related to commercial loans.
37
38
The continued trend of declining classified assets, the low level of
non-performing loans, continued reductions in balances in the Company's income
property lending portfolio, and net recoveries recorded during the first half of
1998, allowed the Company to reverse $1.0 million of previous provisions for
loan losses. In comparison, no loan loss provision was recorded during the first
half or the entire year of 1997. The decision to reverse loan loss provisions
was based upon a careful review of various risk components of each of the
portfolios as described above. The future level of loan loss provisions or
reversal of previous provisions will be subject to careful review of the risk
elements of the portfolio by Management, including the loan portfolio obtained
in connection with the Beverly merger. See "KEY CREDIT STATISTICS" for further
details.
In addition to refinancing existing maturing income property loans, the
Bank's Board of Directors has provided for an expansion of commercial real
estate lending outside of the Midwest. Under this program, the Bank has been
authorized to originate new multifamily loans where Management believes the
economies are strong or to borrowers with whom it has a long-standing
relationship. Originations under this program are expected to help offset the
repayment of maturing loans. During 1997, the Board of Directors also approved a
program to provide loans on real estate secured by industrial, office, and
shopping center properties. The initial focus of the program will be on
industrial centers and secondarily on office complexes. Loans on shopping
centers will be considered only on a very select basis. The geographic focus of
the program will be in the Midwestern states. Management anticipates
originations under this program to be between $20 million and $25 million during
1998.
During the first six months of 1998, the Bank purchased $356.7 million
of whole loans, secured by 1-4 family residences located nationally. Prior to
purchasing these loans, the Bank performs due diligence procedures, and because
of that process, Management believes that the portfolios acquired present no
greater risk than the Bank's own originated 1-4 family portfolio. The Bank
applied its own loan origination underwriting standards to the purchase of these
loans. All purchased loans are subject to the Bank's quarterly review of the
adequacy of the general valuation allowance.
Management continues to monitor events in the submarkets in which the
Bank has substantial loan concentrations, particularly California. While some
softness persists in certain areas, Management, through its market evaluations,
site visits,
38
39
and other research, is not aware of any unfavorable changes in those economies
that would have a significant adverse effect on the Bank's loan portfolio. The
Bank's largest concentrations of income property loans outside Illinois are
California and Washington.
The Bank acquired an approximately $414 million loan portfolio in
connection with the Beverly merger on July 1, 1998. The Beverly portfolio
consists of residential and commercial real estate loans, loans to consumers,
such as automobile, education, and credit card loans, and commercial and
industrial loans. The commercial and industrial portfolio will be a relatively
new product line for the Bank. The Bank will analyze the credit risks associated
with the Beverly portfolios in its quarterly review of the adequacy of the loan
loss allowance. Beverly maintained an accumulated reserve for loan losses of
$4.4 million at June 30, 1998, and the Bank expects to record an additional $2.5
million provision for loan losses as part of the pool transaction charge during
the third quarter of 1998 to conform Beverly's loan loss reserve to the Bank's
methodology.
As of June 30, 1998, the Bank's ratio of classified assets to tangible
capital and general valuation allowance was 13 percent, compared to 18 percent
at Dec. 31, 1997 and 34 percent at Dec. 31, 1996. Lower classified asset levels
primarily generated the decrease in the ratio.
OTHER REAL ESTATE OWNED
REO totaled $1.4 million at June 30, 1998 compared to $1.5 million at
the end of 1997. All of the REO at June 30, 1998 and Dec. 31, 1997, were 1-4
family assets.
The allowance for real estate losses totaled $148,000 at June 30, 1998
compared to $157,000 at Dec. 31, 1997. There was no provision for REO losses
during the first six months of 1998 and 1997. See "RESULTS OF OPERATIONS" for
further details on REO provision.
In accordance with the Company's accounting policy, REO assets are
initially recorded at the lower of their net book value or fair value, less
estimated selling costs. The allowance for loan losses is charged for any excess
of net book value over fair value at the foreclosure, or in-substance
foreclosure, date. After foreclosure, the allowance for foreclosed real estate
losses is used to establish
39
40
specific valuation allowances on individual REO properties as declines in market
value occur and to provide general valuation allowances for possible losses
associated with risks inherent in the REO portfolio.
40
41
ASSET/LIABILITY REPRICING SCHEDULE (a)
at June 30, 1998
--------------------------------------------------------------------------------------
Weighted More than 6
Average % of 6 Months months to Over
Rate Balance Total or less 1 year 1-3 years 3-5 years 5 years
- ----------------------------------------------------------------------------------------------------------------------------------
RATE SENSITIVE ASSETS: (Dollars in thousands)
Investments:(b)
Adjustable rate 5.43% $ 171,310 4% $ 171,310 $ - $ - $ - $ -
Fixed rate 5.71 212,291 5 96,571 50,056 10,097 4,997 50,570
Mortgage-backed securities:(c) (d)
Adjustable rate 6.67 516,918 12 206,038 158,126 152,754 - -
Fixed rate 6.96 199,361 5 15,091 14,253 49,685 40,145 80,187
Mortgage loans:(c)
Adjustable and renegotiable rate 7.33 2,745,290 62 1,210,759 361,707 879,748 293,076 -
Fixed rate 7.89 470,641 11 65,012 62,596 155,493 92,135 95,405
Consumer loans (c) 7.95 11,240 * 1,689 1,079 3,343 2,569 2,560
Loans held for sale 7.21 54,099 1 54,099 - - - -
--------------------------------------------------------------------------------------
Total rate sensitive assets 7.14% $4,381,150 100% $1,820,569 $ 647,817 $1,251,120 $432,922 $ 228,722
======================================================================================
RATE SENSITIVE LIABILITIES:
Deposits:
Checking and other deposit accounts 0.58% $ 440,895 11% $ 119,114 $ 25,114 $ 82,325 $ 59,480 $ 154,862
Savings accounts 2.15 691,176 17 228,020 43,750 137,397 92,386 189,623
Money market deposit accounts 3.74 224,966 6 224,966 - - - -
Fixed-maturity certificates 5.61 1,930,208 47 1,102,414 547,710 157,167 88,485 34,432
--------------------------------------------------------------------------------------
4.08 3,287,245 81 1,674,514 616,574 376,889 240,351 378,917
Borrowings:
FHLB advances 5.47 551,085 14 100,000 50,000 50,248 100,000 250,837
Other borrowings 6.59 201,556 5 103,004 - - - 98,552
Mortgage-backed note 8.54 16,400 * - - 16,400 - -
--------------------------------------------------------------------------------------
5.83 769,041 19 203,004 50,000 66,648 100,000 349,389
--------------------------------------------------------------------------------------
Total rate sensitive liabilities 4.41% $4,056,286 100% $1,877,518 $ 666,574 $ 443,537 $340,351 $ 728,306
======================================================================================
Excess (deficit) of rate sensitive assets
over rate sensitive liabilities (GAP) 2.73% $ 324,864 $ (56,949) $ (18,757) $ 807,583 $ 92,571 $(499,584)
=======================================================================================
Cumulative GAP $ (56,949) $ (75,706) $ 731,877 $824,448 $ 324,864
Cumulative GAP to total assets without
regard to hedging transactions (1.25)% (1.66)% 16.03% 18.06% 7.12%
Cumulative GAP to total assets with
impact of hedging transactions 0.60% (1.11)% 16.58% 18.06% 7.12%
* Less than 1 percent.
(a) Mortgage loan repricing/maturity projections were based upon principal
repayment percentages in excess of the contractual amortization
schedule of the underlying mortgages. Multifamily mortgages were
estimated to be prepaid at a rate of approximately 35 percent per year;
adjustable rate mortgage loans on single family residences and loan
securities were estimated to prepay at a rate of 22 percent per year;
fixed rate loans and loan securities were estimated to prepay at a rate
of 12 percent per year. Loans with an adjustable rate characteristic,
including loans with initial fixed interest rate periods, are
considered by Management to have an adjustable rate. Checking accounts
were estimated to be withdrawn at rates between 15 percent and 21
percent per year. Most of the regular savings accounts were estimated
to be withdrawn at rates between 18 percent and 26 percent per year,
although for some of the accounts, Management assumed an even faster
rate. Except for multifamily loans, the prepayment assumptions included
in this schedule are based upon the Bank's actual prepayment experience
over the past year, as well as Management's future expectations of
prepayments. The Bank assumed a prepayment percentage of 35 percent
because of current market conditions and the nature of the Bank's
multifamily portfolio. The new decay assumption on passbook and
checking accounts is based on a historical regression analysis of the
Bank's growth in these accounts.
(b) Includes investment in FHLB stock.
(c) Excludes accrued interest and allowance for loan losses.
(d) Includes MBS classified as securities due from broker.
41
42
PART II. -- OTHER INFORMATION
ITEM 4 -- SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) On May 6, 1998, the Company held an Annual Meeting of Shareholders (the
"Annual Meeting") to elect four directors for a term of three years and
the amendment to the Corporation's 1995 Incentive Plan to increase by
1,500,000 the number of shares of Common Stock reserved for issuance
under the plan.
(b) Set forth below is a description of each matter voted upon at the
Annual Meeting and the number of votes cast for and the number of votes
withheld as to each such matter.
1. Four directors were elected for a term of three years, or
until their successors have been elected and qualified. A list
of such directors, including the votes for and withheld is set
forth below:
Withhold
Authority
Nominee For To Vote
----------------------------------------------------------
Patrick J. Agnew 27,982,614 534,436
William A. Anderson 27,918,946 598,104
Alan J. Fredian 27,942,738 574,312
Jean C. Murray, O.P. 27,887,894 629,156
2. The number of shares of Common Stock reserved for issuance
under the Corporation's 1995 Incentive Plan was increased by
1,500,000. There were 21,964,537 votes cast for the proposal,
6,233,625 votes against
the proposal and 318,885 votes abstained.
(c) On June 26, 1998, the Company held a Special Meeting of Shareholders to
approve the following: 1) the amendment of St. Paul's Certificate of
Incorporation to increase the number of authorized shares of St. Paul
Common Stock from 40,000,000 to 80,000,000; and 2) the issuance of
additional shares of St. Paul Common Stock to shareholders of Beverly
Bancorporation, Inc. as part of St. Paul's acquisition of Beverly. For
the first proposal to increase the number of authorized shares,
23,453,200 votes were cast for the proposal, 841,939 votes against the
proposal, and 126,347 votes abstained. For the second proposal to
approve the issuance of common shares to Beverly shareholders,
23,539,981 votes were cast for the proposal, 699,218 votes against the
proposal and 182,287 votes abstained.
ITEM 6 -- SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) The Company filed a current report on Form 8-K on June 19, 1998,
announcing the approval by the OTS of the merger with Beverly
Bancorporation.
42
43
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ST. PAUL BANCORP, INC.
(Registrant)
Date: August 13, 1998 By: /s/ Joseph C. Scully
Joseph C. Scully
Chairman of the Board and Chief Executive Officer
(Duly Authorized Officer)
Date: August 13, 1998 By: /s/ Robert N. Parke
Robert N. Parke
Senior Vice President and Treasurer
(Principal Financial Officer)
43