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 September 30, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number 0-6198
FIRST AMERICAN CORPORATION
(Exact name of Registrant as specified in its charter)
TENNESSEE 62-0799975
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
FIRST AMERICAN CENTER, NASHVILLE, TENNESSEE 37237
(address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: 615/748-2000
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No .
--- ---
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Common shares outstanding: 58,402,763 as of October 31, 1997.
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FIRST AMERICAN CORPORATION
AND SUBSIDIARIES
INDEX
Page
----
Part I. Financial Information
Item 1 Financial Statements (unaudited)
Consolidated Income Statements for the Three and Nine
Months Ended September 30, 1997 and 1996 3
Consolidated Balance Sheets as of September 30, 1997 and
1996 and December 31, 1996 4
Consolidated Statements of Changes in Shareholders'
Equity for the Nine Months Ended September 30, 1997
and September 30, 1996 5
Consolidated Statements of Cash Flows for the Nine
Months Ended September 30, 1997 and September 30, 1996 6
Notes to Consolidated Financial Statements 7
Item 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations 12
Part II. Other Information
Item 1 Legal Proceedings 22
Item 6 Exhibits and Reports on Form 8-K 22
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FIRST AMERICAN CORPORATION
AND SUBSIDIARIES
CONSOLIDATED INCOME STATEMENTS
Quarter Ended Nine Months Ended
September 30 September 30
------------------------- -----------------------
(dollars in thousands, except per share amounts) 1997 1996 1997 1996
- ---------------------------------------------------------------------------------------------------------------------------
INTEREST INCOME
Interest and fees on loans $150,134 $138,286 $430,797 $406,537
Interest and dividends on securities 37,739 39,384 118,079 111,203
Interest on federal funds sold and securities purchased under
agreements to resell 905 845 2,502 5,564
Interest on time deposits with other banks and other interest 1,246 1,487 3,582 2,651
- ---------------------------------------------------------------------------------------------------------------------------
Total interest income 190,024 180,002 554,960 525,955
- ---------------------------------------------------------------------------------------------------------------------------
INTEREST EXPENSE
Interest on deposits:
NOW accounts 5,195 3,962 14,511 11,798
Money market accounts 27,324 26,970 79,284 79,616
Regular savings 1,628 1,878 5,143 6,077
Certificates of deposit under $100,000 21,504 21,976 65,004 65,569
Certificates of deposit $100,000 and over 11,200 9,736 31,768 27,779
Other time and foreign 6,512 6,518 19,220 19,775
- ---------------------------------------------------------------------------------------------------------------------------
Total interest on deposits 73,363 71,040 214,930 210,614
- ---------------------------------------------------------------------------------------------------------------------------
Interest on short-term borrowings 15,882 13,510 42,817 37,829
Interest on long-term debt 4,883 6,161 14,834 19,176
- ---------------------------------------------------------------------------------------------------------------------------
Total interest expense 94,128 90,711 272,581 267,619
- ---------------------------------------------------------------------------------------------------------------------------
NET INTEREST INCOME 95,896 89,291 282,379 258,336
PROVISION FOR LOAN LOSSES - - - -
- ---------------------------------------------------------------------------------------------------------------------------
Net interest income after provision for loan losses 95,896 89,291 282,379 258,336
- ---------------------------------------------------------------------------------------------------------------------------
NONINTEREST INCOME
Service charges on deposit accounts 16,495 14,436 47,730 42,665
Commissions and fees on fiduciary activities 4,922 4,644 14,356 13,400
Investment services income 29,377 26,685 87,669 33,552
Trading account (loss) income (292) 686 365 970
Merchant discount fees 967 1,021 2,687 2,646
Net realized gain on sales of securities 641 15 1,407 1,522
Gain on sale of subsidiaries 2,105 - 2,105 -
Other income 10,035 10,232 32,521 26,429
- ---------------------------------------------------------------------------------------------------------------------------
Total noninterest income 64,250 57,719 188,840 121,184
- ---------------------------------------------------------------------------------------------------------------------------
NONINTEREST EXPENSE
Salaries and employee benefits 47,860 44,022 141,789 121,946
Net occupancy expense 6,905 7,008 20,589 18,698
Equipment expense 5,749 4,322 16,086 12,557
Systems and processing expense 3,852 3,885 11,728 10,518
FDIC insurance expense 238 8,910 831 10,286
Marketing expense 3,329 3,805 9,500 10,785
Communication expense 3,461 3,155 10,423 8,916
Supplies expense 1,322 1,370 4,441 3,745
Foreclosed properties expense (income), net (2,171) (1,098) (4,399) (3,750)
Subscribers' commissions 18,165 17,449 53,126 17,449
Other expenses 11,221 10,349 34,395 26,136
- ---------------------------------------------------------------------------------------------------------------------------
Total noninterest expense 99,931 103,177 298,509 237,286
- ---------------------------------------------------------------------------------------------------------------------------
INCOME BEFORE INCOME TAX EXPENSE 60,215 43,833 172,710 142,234
Income tax expense 22,982 16,414 66,106 54,126
- ---------------------------------------------------------------------------------------------------------------------------
NET INCOME $ 37,233 $ 27,419 $106,604 $ 88,108
===========================================================================================================================
PER COMMON SHARE: (RESTATED FOR 2-FOR-1 STOCK SPLIT ON MAY 9, 1997)
Net income $ .63 $ .47 $1.81 $1.49
Dividends declared .20 .155 .555 .45
===========================================================================================================================
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 58,411 59,101 58,776 59,178
===========================================================================================================================
See notes to consolidated financial statements.
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FIRST AMERICAN CORPORATION
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
September 30 December 31
--------------------------- -------------
(dollars in thousands, except share amounts) 1997 1996 1996
- ---------------------------------------------------------------------------------------------------------------------------
ASSETS
Cash and due from banks $ 508,953 $ 521,296 $ 603,456
Time deposits with other banks 9,557 8,592 53,801
Securities:
Held to maturity (market value $655,162, $887,798, and $835,192,
respectively) 653,277 888,462 834,547
Available for sale (amortized cost $1,740,588, $1,513,172, and
$1,685,743, respectively) 1,737,776 1,495,760 1,678,232
- ---------------------------------------------------------------------------------------------------------------------------
Total securities 2,391,053 2,384,222 2,512,779
- ---------------------------------------------------------------------------------------------------------------------------
Federal funds sold and securities purchased under agreements to resell 58,291 110,781 161,677
Trading account securities 71,348 95,647 60,210
Loans:
Commercial 3,235,454 2,952,130 3,010,125
Consumer--amortizing mortgages 1,736,011 1,771,531 1,782,630
Consumer--other 1,601,270 1,325,130 1,334,750
Real estate--construction 202,823 182,993 190,673
Real estate--commercial mortgages and other 376,694 354,490 345,466
- ---------------------------------------------------------------------------------------------------------------------------
Total loans 7,152,252 6,586,274 6,663,644
Unearned discount and net deferred loan fees 527 5,505 5,047
- ---------------------------------------------------------------------------------------------------------------------------
Loans, net of unearned discount and net deferred loan fees 7,151,725 6,580,769 6,658,597
Allowance for loan losses 115,297 128,225 123,265
- ---------------------------------------------------------------------------------------------------------------------------
Total net loans 7,036,428 6,452,544 6,535,332
- ---------------------------------------------------------------------------------------------------------------------------
Premises and equipment, net 189,004 149,833 162,257
Foreclosed properties 3,700 7,944 7,363
Other assets 293,648 297,506 302,593
- ---------------------------------------------------------------------------------------------------------------------------
Total assets $10,561,982 $10,028,365 $10,399,468
===========================================================================================================================
LIABILITIES
Deposits:
Demand (noninterest-bearing) $ 1,290,652 $ 1,319,074 $ 1,374,528
NOW accounts 869,287 786,077 830,269
Money market accounts 2,406,476 2,242,885 2,295,112
Regular savings 273,383 318,248 303,691
Certificates of deposit under $100,000 1,611,545 1,673,629 1,665,675
Certificates of deposit $100,000 and over 772,940 714,741 893,794
Other time 362,612 396,299 332,651
Foreign 114,510 100,712 97,257
- ---------------------------------------------------------------------------------------------------------------------------
Total deposits 7,701,405 7,551,665 7,792,977
- ---------------------------------------------------------------------------------------------------------------------------
Short-term borrowings 1,485,278 1,153,294 1,154,372
Long-term debt 210,056 340,497 331,157
Other liabilities 275,973 144,918 252,255
- ---------------------------------------------------------------------------------------------------------------------------
Total liabilities 9,672,712 9,190,374 9,530,761
- ---------------------------------------------------------------------------------------------------------------------------
SHAREHOLDERS' EQUITY
Common stock, $2.50 par value; authorized 100,000,000 shares; issued:
58,379,132 shares at September 30, 1997; 59,113,218 shares at
September 30, 1996 and 59,262,998 shares at December 31, 1996 145,948 147,783 148,158
Capital surplus 116,114 158,229 157,792
Retained earnings 643,745 545,564 569,851
Deferred compensation on restricted stock (14,645) (2,333) (2,066)
Employee stock ownership plan obligation (224) (567) (443)
- ---------------------------------------------------------------------------------------------------------------------------
Realized shareholders' equity 890,938 848,676 873,292
Net unrealized losses on securities available for sale, net of tax (1,668) (10,685) (4,585)
- ---------------------------------------------------------------------------------------------------------------------------
Total shareholders' equity 889,270 837,991 868,707
- ---------------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $10,561,982 $10,028,365 $10,399,468
===========================================================================================================================
See notes to consolidated financial statements.
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FIRST AMERICAN CORPORATION
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
NET
UNREALIZED
GAINS
NINE MONTHS ENDED SEPTEMBER 30, COMMON DEFERRED EMPLOYEE (LOSSES)
1996 AND SEPTEMBER 30, 1997 SHARES COMPENSATION STOCK ON
ISSUED ON OWNERSHIP SECURITIES
(DOLLARS IN THOUSANDS EXCEPT PER SHARE AND COMMON CAPITAL RETAINED RESTRICTED PLAN AVAILABLE
AMOUNTS) OUTSTANDING STOCK SURPLUS EARNINGS STOCK OBLIGATION FOR SALE TOTAL
- ----------------------------------------------------------------------------------------------------------------------------------
Balance, January 1, 1996 59,079,638 $147,699 $162,254 $483,973 $ (1,263) $ (661) $ 3,530 $795,532
Issuance of common shares in
connection with Employee Benefit
Plan, net of discount on Dividend
Reinvestment Plan 578,942 1,447 8,966 - - - - 10,413
Issuance of shares of restricted
common stock 88,976 223 1,868 - (2,091) - -
Repurchase of shares of common
stock (2,780,662) (6,952) (55,780) - - - - (62,732)
Issuance of common shares for
purchase of First City Bancorp, Inc. 2,147,518 5,369 40,937 - - - - 46,306
Amortization of deferred
compensation on restricted stock - - - - 1,021 - - 1,021
Reduction in employee stock
ownership plan obligation - - - - - 94 - 94
Net income - - - 88,108 - - - 88,108
Cash dividends declared ($.45 per
common share) - - - (26,517) - - - (26,517)
Change in net unrealized gains/losses
on securities available for sale, -
net of tax - - - - - (14,215) (14,215)
Other (1,194) (3) (16) - - - - (19)
- ----------------------------------------------------------------------------------------------------------------------------------
Balance, September 30, 1996 59,113,218 $147,783 $158,229 $545,564 $ (2,333) $ (567) $(10,685) $837,991
==================================================================================================================================
Balance, January 1, 1997 59,262,998 $148,158 $157,792 $569,851 $ (2,066) $ (443) $ (4,585) $868,707
Issuance of common shares in
connection with Employee Benefit
Plan, net of discount on Dividend
Reinvestment Plan 866,961 2,167 14,263 - - - - 16,430
Issuance of shares of restricted
common stock 459,674 1,149 14,002 - (15,151) - -
Repurchase of shares of common
stock (2,561,111) (6,403) (81,691) - - - - (88,094)
Issuance of shares for purchase of
Hartsville Bancshares, Inc. 350,522 876 9,223 - - - - 10,099
Amortization of deferred
compensation on restricted stock - - - - 2,572 - - 2,572
Reduction in employee stock
ownership plan obligation - - - - - 219 - 219
Net income - - - 106,604 - - - 106,604
Cash dividends declared ($.555 per
common share) - - - (32,710) - - - (32,710)
Change in net unrealized gains/losses
on securities available for sale, net -
of tax - - - - - 2,917 2,917
Tax benefit from stock option and
award plans - - 2,522 - - - - 2,522
Other 88 1 3 - - - - 4
- ----------------------------------------------------------------------------------------------------------------------------------
Balance, September 30, 1997 58,379,132 $145,948 $116,114 $643,745 $(14,645) $ (224) $ (1,668) $ 889,270
==================================================================================================================================
See notes to consolidated financial statements.
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FIRST AMERICAN CORPORATION
and Subsidiaries
Consolidated Statements of Cash Flows
NINE MONTHS ENDED
SEPTEMBER 30
-----------------------------
(in thousands) 1997 1996
- ---------------------------------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net income $106,604 $ 88,108
Adjustments to reconcile net income to net cash provided by operating
activities:
Depreciation and amortization of premises and equipment 14,577 11,432
Amortization of intangible assets 8,417 6,952
Other amortization, net 2,790 103
Deferred income tax expense 9,804 11,149
Net gain on sales and writedowns of foreclosed property (4,642) (3,681)
Net realized gain on sales of securities (1,378) (1,522)
Net gain on sales and writedowns of premises and equipment (171) (57)
Gain on sale of subsidiary (2,105) -
Change in assets and liabilities, net of effects from acquisitions:
(Increase) decrease in accrued interest receivable (11,337) 8,476
Increase (decrease) in accrued interest payable 5,012 (10,730)
Increase in trading account securities (11,138) (65,238)
Decrease in other assets 4,106 39,307
Increase (decrease) in other liabilities 18,627 (5,551)
- ---------------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 139,166 78,748
- ---------------------------------------------------------------------------------------------------------------------------
INVESTING ACTIVITIES
Net decrease in time deposits with other banks 44,150 19,905
Proceeds from sales of securities available for sale 787,353 437,770
Proceeds from maturities of securities available for sale 240,367 287,925
Purchases of securities available for sale (1,057,059) (909,413)
Proceeds from maturities of securities held to maturity 285,187 161,271
Purchases of securities held to maturity (104,150) (115,961)
Net decrease in federal funds sold and securities purchased under
agreements to resell 103,386 215,450
Net (increase) decrease in loans, net of repayments and sales (454,900) 6,764
Proceeds from sales of foreclosed property 10,720 6,685
Acquisitions, net of cash acquired 3,369 (19,216)
Proceeds from sale of subsidiary, net of cash disposed of 2,007 -
Proceeds from sales of premises and equipment 4,071 5,737
Purchases of premises and equipment (44,079) (29,746)
- ---------------------------------------------------------------------------------------------------------------------------
Net cash (used in) provided by investing activities (179,578) 67,171
- ---------------------------------------------------------------------------------------------------------------------------
FINANCING ACTIVITIES
Net decrease in deposits (173,165) (157,877)
Net increase in other short-term borrowings 87,542 200,564
Advances from (repayment to) Federal Home Loan Bank 133,516 (82,106)
Net repayment of other long-term debt (136) (939)
Issuance of common shares under Employee Benefit and Dividend
Reinvestment Plans 16,430 10,413
Cash dividends paid (32,710) (26,517)
Repurchase of common stock (88,094) (62,732)
Tax benefit related to stock options 2,522 -
Other 4 75
- ---------------------------------------------------------------------------------------------------------------------------
Net cash used in financing activities (54,091) (119,119)
- ---------------------------------------------------------------------------------------------------------------------------
Decrease in cash and due from banks (94,503) 26,800
Cash and due from banks, January 1 603,456 494,496
- ---------------------------------------------------------------------------------------------------------------------------
Cash and due from banks, September 30 $508,953 $521,296
===========================================================================================================================
Cash paid during the year for:
Interest expense $267,077 $276,910
Income taxes 41,851 43,964
Non-cash investing activities:
Foreclosures 2,461 1,051
Stock issued for acquisitions 10,099 46,306
===========================================================================================================================
See notes to consolidated financial statements.
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FIRST AMERICAN CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) BASIS OF PRESENTATION
The consolidated financial statements have been prepared in conformity
with generally accepted accounting principles and general practices within the
banking industry.
The interim consolidated financial statements should be read in
conjunction with the consolidated financial statements and notes thereto
presented in First American Corporation's (the "Corporation" or "First
American") 1996 Annual Report to Shareholders. The quarterly consolidated
financial statements reflect all adjustments which are, in the opinion of
management, necessary for a fair presentation of the results for interim
periods. All such adjustments are of a normal recurring nature. Certain prior
year amounts have been reclassified to conform with the current year
presentation. The results for interim periods are not necessarily indicative of
results to be expected for the complete fiscal year.
On April 7, 1997, the Board of Directors authorized a 2-for-1 stock split
of First American's common stock payable on May 9, 1997. Accordingly, the
consolidated financial statements for all periods presented have been restated
to reflect the impact of the stock split.
(2) ACCOUNTING POLICIES FOR DERIVATIVE INSTRUMENTS
The Corporation enters into interest rate swap and forward interest rate
swap transactions (swaps), as well as futures contracts, in connection with its
asset/liability management program in managing interest rate exposure arising
out of non-trading assets and liabilities. There must be correlation of interest
rate movements between these derivative instruments and the underlying assets or
liabilities. The impact of a swap is accrued over the life of the agreement
based on expected settlement payments and is recorded as an adjustment to
interest income or expense in the period in which it accrues and in the category
appropriate to the related asset or liability. The related amount receivable
from or payable to the swap counterpart is included as accrued interest in other
assets or liabilities in the consolidated balance sheets. Realized and
unrealized gains and losses on futures contracts which are designated as
effective hedges of interest rate exposure arising out of non-trading assets and
liabilities are deferred and recognized as interest income or interest expense,
in the category appropriate to the related asset or liability, over the covered
periods or lives of the hedged assets or liabilities. Gains or losses on early
terminations of derivative financial instruments that modify the underlying
characteristics of specified assets or liabilities are deferred and amortized as
an adjustment to the yield or rate of the related assets or liabilities over the
remaining covered period. At such time that there is no longer correlation of
interest rate movements between the derivative instrument and the underlying
asset or liability, or if all of the underlying assets or liabilities
specifically related to a derivative instrument mature, are sold, or terminated,
then the related derivative instrument would be closed out or marked to market
as an element of noninterest income on an ongoing basis.
On a limited basis, the Corporation also enters into interest rate swap
agreements, as well as interest rate cap and floor agreements, with customers
desiring protection from possible adverse future fluctuations in interest rates.
As an intermediary, the Corporation generally maintains a portfolio of matched
offsetting interest rate contract agreements. At the inception of such
agreements, the portion of the compensation related to credit risk and ongoing
servicing, if any, is deferred and taken into income over the term of the
agreements.
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(3) NONPERFORMING ASSETS
Nonperforming assets were as follows:
SEPTEMBER 30 December 31
-----------------------------------------------
(in thousands) 1997 1996 1996
- -------------------------------------------------------------------------------------------------------------------------
Non-accrual loans $ 18,771 $ 14,064 $ 16,331
Foreclosed properties 3,700 7,944 7,363
- -------------------------------------------------------------------------------------------------------------------------
Total nonperforming assets $ 22,471 $ 22,008 $ 23,694
=========================================================================================================================
90 days or more past due on accrual $ 11,679 $ 8,335 $ 11,711
=========================================================================================================================
Nonperforming assets as a percent of loans
and foreclosed properties (excluding
90 days or more past due on accrual) .31% .33% .36%
=========================================================================================================================
(4) ALLOWANCE FOR LOAN LOSSES
Transactions in the allowance for loan losses were as follows:
NINE MONTHS ENDED
SEPTEMBER 30
-------------------------------
(in thousands) 1997 1996
- -----------------------------------------------------------------------------------------------------------------------
Balance, January 1 $123,265 $132,415
Provision charged to operating expenses - -
Allowance of subsidiary purchased 711 2,126
Allowance of subsidiary sold (252) -
- -----------------------------------------------------------------------------------------------------------------------
123,724 134,541
- -----------------------------------------------------------------------------------------------------------------------
Loans charged off 21,132 21,784
Recoveries of loans previously charged off 12,705 15,468
- -----------------------------------------------------------------------------------------------------------------------
Net charge-offs 8,427 6,316
- -----------------------------------------------------------------------------------------------------------------------
Balance, September 30 $115,297 $128,225
=======================================================================================================================
Allowance ratios were as follows:
NINE MONTHS ENDED
SEPTEMBER 30
-------------------------------
(in thousands) 1997 1996
- -----------------------------------------------------------------------------------------------------------------------
Allowance end of period to net loans outstanding 1.61% 1.95%
Net charge-offs to average loans (annualized) .16 .13
=======================================================================================================================
(5) ACQUISITIONS
On January 1, 1997, the Corporation completed its acquisition of
Hartsville Bancshares, Inc. ("Hartsville"), an $89.5 million bank holding
company, by exchanging approximately 350,000 shares of the Corporation's common
stock (adjusted for the 2-for-1 split) for all of the outstanding shares of
Hartsville. The acquisition was accounted for as a purchase. The purchase price
in excess of the fair value of net assets acquired was $6 million and was
recorded as goodwill. Hartsville was the parent of CommunityFirst Bank, which
operated five branches in Middle Tennessee. CommunityFirst was simultaneously
merged with and into First American National Bank ("FANB"), a wholly-owned
subsidiary of the Corporation.
On July 1, 1996, FANB purchased 96.2% of the stock of INVEST Financial
Corporation ("INVEST") for $26.0 million in cash. Simultaneously, INVEST
completed its acquisition of Investment Center Group, Inc., the parent of
Investment Centers of America, in a transaction valued at approximately $5.0
million. INVEST is a national marketer of mutual funds, annuities and other
investment products sold through financial institutions. Both transactions were
accounted for as purchases. During the third quarter of 1996, FANB purchased an
additional 2.1% of the stock of INVEST. The purchase price in excess of the fair
value of net assets acquired was an aggregate of $17.7 million which is recorded
as goodwill. Effective February 1, 1997, AmeriStar Capital Markets, Inc.,
formerly a wholly-owned subsidiary of FANB and a
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broker-dealer registered with the National Association of Securities Dealers,
was merged with and into INVEST. As a result of this merger, FANB's equity
ownership in INVEST increased to 98.5%.
Effective April 1, 1996, FANB purchased 49% of the stock of The SSI
Group, Inc., a healthcare payments processing company, for $8.6 million. The
transaction was accounted for under the equity method of accounting.
Effective March 11, 1996, the Corporation acquired First City Bancorp,
Inc. ("First City") by exchanging approximately 2.2 million shares of First
American Corporation common stock (adjusted for the 2-for-1 stock split) for all
of the outstanding shares of First City. First City was a bank holding company
headquartered in Murfreesboro, Tennessee, and operated two Tennessee state
chartered banks and a consumer finance company. First City had $366 million in
assets, 11 banking offices, and nine consumer finance locations in the middle
Tennessee area. The transaction was accounted for as a purchase. The purchase
price in excess of the fair value of net assets acquired (goodwill) was $32.2
million.
(6) ACCOUNTING MATTERS
Statement of Financial Accounting Standards ("SFAS") No. 125, "Accounting
for Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities," was adopted prospectively by the Corporation on January 1, 1997
with the exception of certain transactions that are deferred by the provisions
of SFAS No. 127, "Deferral of the Effective Date of Certain Provisions of FASB
Statement No. 125." SFAS No. 125 provides accounting and reporting standards for
sales, securitizations, and servicing of receivables and other financial assets,
secured borrowing and collateral transactions, and extinguishments of
liabilities. The adoption of this statement had no material impact on the
consolidated financial statements.
SFAS No. 128, "Earnings Per Share," establishes standards for computing
and presenting earnings per share ("EPS") and applies to entities with publicly
held common stock. The statement simplifies the standards for computing EPS and
provides a more compatible computation with EPS standards of other countries. It
replaces the presentation of primary EPS with a presentation of basic EPS and
requires dual presentation of basic and diluted EPS on the face of the income
statement. SFAS No. 128 is effective for financial statements issued for periods
ending after December 15, 1997, including interim periods; earlier application
is not permitted. Restatement of all prior period EPS data presented is
required. The following presents the Corporation's EPS under the current and new
requirements.
QUARTER ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
-------------------------- ------------------------
1997 1996 1997 1996
- -------------------------------------------------------------------------------------------------------------------------
AS REPORTED
Primary EPS $.63 $.47 $1.81 $1.49
PRO FORMA
Basic EPS .63 .47 1.81 1.49
Diluted EPS .62 .45 1.76 1.46
=========================================================================================================================
SFAS No. 129, "Disclosure of Information about Capital Structure," requires
disclosure of information about an entity's capital structure that has issued
securities. This statement requires no change in the Corporation's previous
disclosure requirements under Accounting Principles Board Opinion No. 15 and, as
such, will have no material impact on the consolidated financial statements.
SFAS No. 129 is effective for financial statements issued for periods ending
after December 15, 1997.
SFAS No. 130, "Reporting Comprehensive Income," establishes standards for
reporting and display of comprehensive income and its components in a full set
of general-purpose financial statements and requires that all components of
comprehensive income be reported in a financial statement that is displayed with
the same prominence as other financial statements. SFAS No. 130 is effective for
fiscal years beginning after December 15, 1997. The presentation of
comprehensive income for earlier periods is required. Adoption of SFAS No. 130
does not affect recognition or measurement of comprehensive
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income and its components and as such will only affect the reporting and display
in the consolidated financial statements.
SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information," is effective for financial statements for periods beginning after
December 15, 1997. SFAS No. 131 establishes standards for the way that public
business enterprises report information about operating segments in annual
financial statements and requires that those enterprises report selected
information about operating segments in interim financial reports to
shareholders. Operating segments are components of an enterprise about which
separate financial information is available that is evaluated regularly by the
chief operating decision maker in deciding how to allocate resources and in
assessing performance. Adoption of SFAS No. 131 will expand disclosures related
to the consolidated financial statements.
(7) EARNINGS PER COMMON SHARE
Earnings per common share amounts are computed by dividing net income by the
weighted average number of common shares outstanding during each respective
period.
(8) COMMON STOCK
The Corporation purchased 2.6 million shares of First American Corporation
common stock (adjusted for the 2-for-1 stock split) in the open market during
the first nine months of 1997 at a total cost of $88.1 million. Under Tennessee
law, such shares have been recognized as authorized but unissued. Accordingly,
the Corporation reduced the par value and reflected the excess of the purchase
price over par of such repurchased shares as a reduction from capital surplus.
All of the First American shares exchanged in the Hartsville transaction
were repurchased during January 1997 in the open market.
(9) LEGAL AND REGULATORY MATTERS
On September 30, 1996, special legislation was enacted which required many
financial institutions to pay a special one-time assessment on deposits insured
by the Savings Association Insurance Fund ("SAIF") at the rate of $.657 per $100
of deposits held as of March 31, 1995. The Corporation's special assessment was
$8.1 million or $4.949 million, net of tax ($.08 per share), and was accrued by
First American in September 1996. The purpose of the legislation was to
recapitalize the thrift fund up to the statutorily prescribed 1.25%. Effective
January 1, 1997, the normal SAIF deposit insurance rate for well-capitalized
institutions dropped to 0 basis points per $100 of deposits. Beginning January
1, 1997, a separate 1.3 basis point annual charge will be assessed through 1999
on Bank Insurance Fund deposits and a 6.4 basis point annual charge will be
assessed on SAIF deposits in order to service debt incurred by the Financing
Corporation, a corporation established by the Federal Housing Finance Board to
issue stock and debt principally to assist in funding the Federal Savings and
Loan Insurance Corporation Resolution Fund. Starting in the year 2000 until the
Financial Corporation debt is retired, banks and thrifts will pay such
assessment on a pro rata basis, which is estimated to run approximately 2.5
basis points.
Following the adoption of the Financial Institutions Reform, Recovery and
Enforcement Act of 1989 ("FIRREA"), Charter Federal Savings Bank ("Charter" or
now "FAFSB"), brought an action against the Office of Thrift Supervision and the
Federal Deposit Insurance Corporation seeking injunctive and other relief,
contending that Congress' elimination of supervisory goodwill required
rescission of certain supervisory transactions. The Federal District Court found
in Charter's favor, but in 1992 the Fourth Circuit Court of Appeals reversed,
and the U.S. Supreme Court denied Charter's petition for certiorari. In 1995,
the Federal Circuit Court found in favor of another thrift institution in a
similar case (Winstar Corp. v. United States) in which the association sought
damages for breach of contract. Charter also filed suit against the United
States Government ("Government") in the Court of Federal Claims based on breach
of contract. Pending the Supreme Court's review of the Winstar decision, FAFSB's
action was stayed. In July 1996, the Supreme Court affirmed the lower court's
decision in Winstar. The stay was automatically lifted and FAFSB's suit is now
proceeding. The Government, however, has filed a motion to dismiss the suit
based on the prior Fourth Circuit decision. This motion has not yet been decided
by the Federal Claims Court.
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The value of FAFSB's claims against the Government, as well as their
ultimate outcome, are contingent upon a number of factors, some of which are
outside of FAFSB's control, and are highly uncertain as to substance, timing and
the dollar amount of any damages which might be awarded should FAFSB finally
prevail. Under the Agreement and Plan of Reorganization as amended by and
between FAFSB and the Corporation, in the event that FAFSB is successful in this
litigation, the FAFSB shareholders as of December 1, 1995 will be entitled to
receive additional consideration equal in value to 50% of any recovery, net of
all taxes and certain other expenses, including the costs and expenses of such
litigation, received on or before December 1, 2000 subject to certain
limitations in the case of certain business combinations. Such additional
consideration, if any, is payable in the common stock of the Corporation, based
on the average per share closing price on the date of receipt by FAFSB of the
last payment constituting a recovery from the Government.
Also, there are from time to time other legal proceedings pending against
the Corporation and its subsidiaries. In the opinion of Management and counsel,
liabilities, if any, arising from such proceedings presently pending would not
have a material adverse effect on the consolidated financial statements of the
Corporation.
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MANAGEMENT'S DISCUSSION AND ANALYSIS
The following discussion should be read in conjunction with the consolidated
financial statements appearing within this report and by reference to First
American Corporation's 1996 Annual Report.
OVERVIEW
On April 17, 1997, the Board of Directors authorized a 2-for-1 stock split
of First American Corporation common stock which was made on May 9, 1997. The
par value of the common stock was reduced from $5.00 to $2.50 per share. All
financial data included has been restated to reflect the impact of the stock
split.
Net income for the nine months ended September 30, 1997, was $106.6 million,
an $18.5 million or 21.0% increase from the $88.1 million earned during the same
time last year. Earnings per share also increased during the nine months ended
September 30, 1997 to $1.81 per share, up 21.8% over the $1.49 for the same
period in 1996. Return on average assets ("ROA") and return on average equity
("ROE") improved to 1.41% and 16.26%, respectively, for the nine months ended
September 30, 1997 from 1.21% and 14.34%, respectively, for the same time in
1996.
During 1996, special legislation was enacted which required many financial
institutions to pay a special one-time assessment on deposits insured by the
Savings Association Insurance Fund ("SAIF") at the rate of $.657 per $100 of
deposits held as of March 31, 1995. The Corporation's special assessment was
$8.1 million or $5.0 million, net of tax ($.08 per share), and was accrued by
First American in September 1996. The purpose of the legislation was to
recapitalize the thrift fund up to the statutorily prescribed 1.25%. Excluding
the one-time SAIF assessment, net income increased 15.0%, from $93.1 million in
the first nine months of 1996, or $1.57 per share. Also, excluding these
expenses, ROA was 1.28% and ROE was 15.15%.
During 1997, First American has taken steps to further align the goals of
management with the strategic and financial goals of First American. The Board
of Directors approved a new program under the terms of the 1991 Employee Stock
Incentive Plan to compensate management based on the Corporation's overall
achievement of its goals. Executive and senior management were given the choice
of receiving part, or all, of their annual incentive compensation (20%-50% of
total compensation) in restricted common stock, rather than cash, with the
opportunity to have it matched by the Corporation. First American's matching
contribution will vest if the Corporation achieves a price-to-book multiple
greater than or equal to the median of a defined high performing peer group by
the end of the year 2000. The composition of the peer group and the
Corporation's goals are subject to change by the Human Resources Committee in
order to ensure that they remain reflective of the most high performing, highly
valued companies in the industry.
On July 17, 1997, First American National Bank ("FANB") completed its sale
of Tennessee Credit Corporation and First City Life Insurance Company, with
total assets of $13.6 million, to Norwest Financial Tennessee, Inc. The
transaction resulted in a net gain of $2.1 million.
Effective January 1, 1997, First American acquired Hartsville Bancshares,
Inc. ("Hartsville"), an $89.5 million bank holding company, by exchanging
approximately 350,000 shares (adjusted for the 2-for-1 stock split) of the
Corporation's common stock for all of the outstanding shares of Hartsville. All
of the First American shares exchanged in the transaction were repurchased in
the open market during January 1997. Hartsville had five branches in Middle
Tennessee and operated under the name CommunityFirst. Immediately following the
merger of Hartsville with and into First American, CommunityFirst was merged
with and into FANB. The acquisition was accounted for as a purchase.
Effective July 1, 1996, FANB, a wholly-owned subsidiary of First American,
purchased 96.2% of the stock of INVEST for $26.0 million in cash.
Simultaneously, INVEST completed its acquisition of Investment Center Group,
Inc., the parent of Investment Centers of America, in a transaction valued at
$5.0 million, which makes INVEST the nation's largest marketer of mutual funds,
annuities, and other investment products sold through financial institutions.
Both transactions were accounted for as purchases. During the third quarter of
1996, FANB purchased an additional 2.1% of the stock of INVEST. Effective
February 1, 1997, AmeriStar Capital Markets, Inc., formerly a wholly-owned
subsidiary of FANB and a
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broker-dealer registered with the National Association of Securities Dealers,
was merged with and into INVEST. As a result of the merger, FANB's equity
ownership in INVEST increased to 98.5%.
Effective April 1, 1996, FANB purchased 49% of the stock of The SSI Group,
Inc., a health care payments processing company, for $8.6 million. The
transaction is being accounted for under the equity method of accounting.
Effective March 11, 1996, First American acquired First City by exchanging
approximately 2.2 million shares (adjusted for the 2-for-1 stock split) of First
American Corporation common stock for all of the outstanding shares of First
City. First City was a bank holding company headquartered in Murfreesboro,
Tennessee, and operated two Tennessee state chartered banks and a consumer
finance company. First City had $366 million in assets, 11 banking offices, and
nine consumer finance locations in the middle Tennessee area. The transaction
was accounted for as a purchase.
On October 22, 1997, FANB entered into a definitive agreement with the Bank
of New York to purchase FANB's corporate trust business. FANB intends to
transfer to the Bank of New York approximately 550 bond trustee and agency
relationships representing $5 billion in outstanding securities for
municipalities and corporations located primarily in Tennessee. The transaction
is expected to be completed in the first quarter of 1998.
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INCOME STATEMENT ANALYSIS
NET INTEREST INCOME
Net interest income on a taxable equivalent basis represented 60% of total
revenues in the third quarter of 1997 and 61% in the third quarter of 1996. For
purposes of this discussion, total revenues consist of the sum of net interest
income and noninterest income. Net interest income on a taxable equivalent basis
in the third quarter of 1997 was $97.0 million, up $6.8 million, or 7.5%, from
$90.2 million in the third quarter of 1996. Net interest income is the
difference between total interest income earned on earning assets such as loans
and securities and total interest expense incurred on interest-bearing
liabilities such as deposits. Net interest income is affected by the volume and
mix of earning assets and interest-bearing liabilities and the corresponding
interest yields and costs.
Net interest income on a taxable equivalent basis represented 60% of total
revenues in the first nine months of 1997 and 68% of total revenues during the
same period last year. Net interest income on a taxable equivalent basis in the
nine months ended September 30, 1997 was $285.2 million, up $24.2 million, or
9.3% from the $261.0 million during the same period last year.
Total interest income on a taxable equivalent basis amounted to $191.1
million for the third quarter of 1997, compared to $180.9 million for the third
quarter of 1996, an increase of $10.2 million, or 5.6%. Of the $10.2 million
increase in total interest income, $8.1 million resulted from an increase in the
volume of earning assets (primarily loans) and $2.1 million resulted from an
increase in average yields. Average earning assets rose $386.8 million, or 4.3%,
to $9.45 billion. Of the total increase, average loans increased $553.5 million,
or 8.5%, to $7.07 billion, average federal funds sold and securities purchased
under agreements to resell increased $2.1 million to $63.8 million, while
average securities decreased $159.0 million, or 6.6%, to $2.24 billion. The
average yield on earning assets increased 8 basis points to 8.02% from 7.94%,
due to a shift in the mix of earning assets. Average loans increased to 75% of
average earning assets in the third quarter of 1997 versus 72% in the same
period for 1996 while average securities decreased to 24% of average earning
assets in the third quarter of 1997 versus 26% in the third quarter of 1996. As
average earning assets increased from the third quarter of 1996 to the third
quarter of 1997 with more earning assets in higher yielding loan balances than
in securities, the mix was more favorable and the overall yield improved.
Total interest income on a taxable equivalent basis amounted to $557.8
million for the nine months ended September 30, 1997, compared to $528.7 million
for the same period last year, an increase of $29.1 million, or 5.5%. Of the
$29.1 million increase in total interest income, $22.2 million resulted from an
increase in the volume of earning assets (primarily loans) and $6.9 million
resulted from an increase in average yields. Average earning assets rose $385.2
million, or 4.3%, to $9.34 billion. Of the total increase, average loans
increased $356.2 million, or 5.5%, to $6.84 billion, average securities
increased $88.0 million, or 3.9%, to $2.36 billion, while average federal funds
sold and securities purchased under agreements to resell decreased $77.1 million
to $60.8 million. The average yield on earning assets increased 9 basis points
to 7.98% from 7.89%, reflecting a generally higher interest rate environment in
the first nine months of 1997 compared to the same time last year. Short-term
and long-term external interest rates were generally higher in the first nine
months of 1997, compared to the first nine months of 1996. For example, the
average prime rate for the nine months ended September 30, 1997 was 8.42%,
compared to 8.28% for the same period last year. Also, 1-year and 5-year
treasury securities yielded 5.64% and 6.35% on average, respectively, in the
first nine months of 1997 compared to 5.52% and 6.19%, respectively, in the
first nine months of 1996.
Total interest expense in the third quarter of 1997 increased $3.4 million,
or 3.8%, to $94.1 million from the third quarter of 1996. Of the increase, $4.4
million resulted from an increase in the volume of interest-bearing liabilities
offset by a $1.0 million decrease due to lower average interest rates paid on
interest-bearing funds. In the third quarter of 1997, average interest-bearing
liabilities grew $349.9 million, or 4.6%, to $8.0 billion from $7.65 billion in
the third quarter of 1996. Of the total increase, average interest-bearing
deposits increased $232.5 million, or 3.7%, to $6.45 billion, average short-term
borrowings rose $139.1 million, or 74.9%, to $324.8 million, and average
long-term debt decreased $30.9 million, or 8.9%, to $315.5 million. Excluding
the effects of the Hartsville acquisition, total average interest-bearing
deposits increased 2.5%. The average rate paid on interest-bearing liabilities
decreased 4 basis points to 4.67% from 4.71% due to a more favorable mix of
interest-bearing liabilities (higher NOW account and money market account
balances as a percentage of interest-bearing liabilities), more favorable
average
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interest rates paid on interest-bearing liabilities in 1997 versus 1996, and a
decrease in the expense involved in hedging the rates paid on these liabilities.
Total interest expense in the nine months ended September 30, 1997,
increased $5.0 million, or 1.9%, to $272.6 million from the same time last year.
Of the total increase, $12.0 million resulted from an increase in the volume of
interest-bearing liabilities offset by a $7.0 million decrease due to lower
average interest rates paid on interest-bearing funds. In the first nine months
of 1997, average interest-bearing liabilities grew $345.4 million, or 4.6%, to
$7.89 billion from $7.55 billion in the first nine months of 1996. Of the total
increase, average interest-bearing deposits increased $270.9 million, or 4.4%,
to $6.42 billion, average short-term borrowings rose $96.2 million, or 62.6%, to
$250.1 million, and average long-term debt decreased $44.0 million, or 12.1%, to
$319.9 million. Excluding the Hartsville and First City acquisitions, total
average interest-bearing deposits increased 2.0%. The average rate paid on
interest-bearing liabilities decreased 12 basis points to 4.62% from 4.74%, due
to a more favorable mix of interest-bearing liabilities (higher NOW account and
money market account balances as a percentage of interest-bearing liabilities),
more favorable average interest rates paid on interest-bearing liabilities in
1997 versus 1996, and a decrease in the expense involved in hedging the rates
paid on these liabilities.
Net interest income in the third quarter of 1997 increased largely as a
result of the increase in the volume of earning assets and an improved net
interest spread. Net interest spread is the difference between the yield on
earning assets and the rate paid on interest-bearing liabilities. First
American's net interest spread improved 12 basis points to 3.35% during the
third quarter of 1997 from 3.23% for the third quarter of 1996.
As the net interest spread improved, the net interest margin, which is net
interest income expressed as a percentage of average earning assets, increased
to 4.07% for the third quarter of 1997 as compared with 3.96% for the same
quarter a year earlier. The primary factors leading to the improvement in the
net interest margin were the increase in the volume of earning assets and the
improvement in net interest spread.
Net interest income in the nine months ended September 30, 1997, increased
largely as a result of the increase in the volume of earning assets and an
improved net interest spread. First American's net interest spread improved 21
basis points to 3.36% during the first nine months of 1997 from 3.15% for the
same time last year.
As the net interest spread improved, the net interest margin increased to
4.08% for the nine months ended September 30, 1997, as compared with 3.89% for
the same period a year earlier. The primary factors leading to the improvement
in the net interest margin were the increase in the volume of earning assets and
the improvement in net interest spread.
PROVISION FOR LOAN LOSSES
This topic is addressed under the caption "Allowance and Provision for Loan
Losses."
NONINTEREST INCOME
Total noninterest income was $64.3 million for the third quarter of 1997
compared with $57.7 million for the third quarter of 1996, an increase of $6.5
million, or 11.3%. Noninterest income represented 40% of total revenues in the
third quarter of 1997 and 39% during the same time last year. Noninterest
income, excluding net realized securities gains, totaled $63.6 million, an
increase of $5.9 million, or 10.2% from $57.7 million in the third quarter of
1996. The increase in noninterest income from the third quarter of 1996 included
a $2.7 million increase in investment services income, a $2.1 million gain on
the sale of Tennessee Credit Corporation, and a $2.1 million, or 14.3%, increase
in service charges on deposit accounts offset by a $1.0 million decrease in
trading account revenue. The $2.7 million improvement in investment services
income over the third quarter of 1996 resulted from an increased growth in
retail brokerage commissions related to mutual funds and annuities sales and
institutional brokerage commissions on various types of securities transactions
associated with the operations of INVEST. The $2.1 million increase in service
charges on deposit accounts can be attributed to an increase in related
activities for commercial and retail deposits, although there was a slight
decrease in the average number of retail deposit accounts. The average number of
retail deposit accounts decreased .3% and the average number of commercial
deposit accounts increased .2% from third quarter 1996 to the current quarter.
The $2.1
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million gain on the sale of Tennessee Credit Corporation occurred on July 17,
1997. The $1.0 million decrease in trading account revenue was primarily due to
a change in market conditions during the quarter. Excluding INVEST, noninterest
income increased $3.8 million, or 11.2%.
Total noninterest income was $188.8 million for the first nine months of
1997 compared with $121.2 million for the same time last year, an increase of
$67.8 million, or 55.8%. Noninterest income represented 40% of total revenues in
the first nine months of 1997 and 32% during the same time last year.
Noninterest income, excluding net realized securities gains, totaled $187.4
million, an increase of $67.8 million, or 56.6%, from $119.7 million in the nine
months ended September 30, 1996. The increase from the first nine months of 1996
included a $54.1 million increase in investment services income, a $6.1 million
or 23.0% increase in other income, a $5.1 million, or 11.9%, increase in service
charges on deposit accounts, a $2.1 million gain on the sale of Tennessee Credit
Corporation, and a $1.0 million increase in commissions and fees on fiduciary
activities. Of the total $54.1 million improvement in investment services income
over the year-to-date 1996, $45.6 million can be attributed to the acquisition
of INVEST, and the remainder resulted primarily from growth in retail brokerage
commissions related to mutual funds and annuities sales and institutional
brokerage commissions on various types of securities transactions. The $6.1
million increase in other income resulted largely from a $2.7 million increase
in ATM surcharge and network transaction fee items due substantially to fees
generated by the introduction of new ATM services such as stamps,
mini-statements, and ATM use by non-First American customers, a $1.1 million
increase in income from Financial Insurance Retention Group ("FIRG") due
primarily to the fact that FIRG changed its reserve methodology and subsequently
took a portion of its reserves back into income, and a $1.0 million increase in
open-end, non-loan fees due to interchange fees generated by the "CheckCard"
product. Other income in the first nine months of 1997 also included a $1.0
million increase in income related mainly to the acquisition of INVEST which
consists of fees collected from clients related to account activity, and a $.5
million increase in collection expense and related bank fees due primarily to
increases in agency fees and fund transfer fees. The increases in other income
were offset by $.9 million decrease in gains on the sale of mortgage loans. The
$5.1 million increase in service charges on deposit accounts can be attributed
to a greater number of deposit accounts and related activities for commercial
and retail deposits. The average number of retail deposit accounts increased
1.0% and the average number of commercial deposit accounts increased 1.5% from
nine months ended September 30, 1996 to the current period. The $1.0 million
increase in commission and fees on fiduciary activities resulted principally
from favorable market conditions, as well as increased trust activity due to
improved marketing efforts. Excluding INVEST, noninterest income increased $14.1
million, or 14.8%, from the nine months ended September 30, 1996.
NONINTEREST EXPENSE
Total noninterest expense decreased $3.2 million, or 3.1%, to $99.9 million
for the third quarter of 1997 compared with $103.2 million for the same period
in 1996. The decrease in noninterest expense included a $3.8 million increase in
salaries and employee benefits, a $1.4 million increase in equipment expense, a
$.9 million increase in other expenses, a $.7 million increase in subscribers'
commissions related to INVEST's brokerage activities, offset by an $8.7 million
decrease in FDIC insurance expense, a $1.1 million decrease in foreclosed
property expense, and a $.5 million decrease in marketing expense.
Salaries and employee benefits increased $3.8 million, or 8.7%, from the
same period in 1996 principally due to merit increases and higher incentive
compensation. Equipment expense increased $1.4 million over last year's third
quarter due to higher depreciation expense resulting from the addition of
furniture and fixtures at various branches and enhancements and housing for the
ATMs. Additional equipment expense was also incurred due to the opening of a
branch during the third quarter of 1997. Other expenses increased $.9 million,
or 8.4%, mainly due to a $.6 million increase in professional fee expense
related largely to an increase in various consulting projects during the third
quarter of 1997, a $.3 million increase in software expense related to software
upgrades throughout the company, a $.2 million increase in travel expenses, a
$.2 million increase in security clearing fees primarily associated with INVEST,
and an increase in amortization of intangibles of $.2 million due to the
Hartsville acquisitions and mortgage servicing rights. The increases in other
expenses were offset by a $.9 million increase in deferred loan expense due to
an increased volume of consumer and mortgage loans in the third quarter of 1997,
as compared to the third quarter of 1996. The decrease in FDIC insurance expense
relates to the
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$8.1 million one-time assessment on SAIF deposits held as of March 31, 1995,
which was accrued during the third quarter of 1996. Foreclosed property expense
decreased by $1.0 million due to more sales of foreclosed property during the
third quarter of 1997. The decrease in marketing expense of $.5 million occurred
primarily because certain statewide advertising projects are planned for late
1997. Excluding INVEST, noninterest expense decreased $4.8 million, or 6.0%.
Total noninterest expense increased $61.2 million, or 25.8%, to $298.5
million for the nine months ended September 30, 1997, compared with $237.3
million for the same period in 1996. The increase in noninterest expense
included a $35.7 million increase in subscribers' commissions related to
INVEST's brokerage activities, a $19.8 million increase in salaries and employee
benefits, a $8.3 million increase in other expenses, a $3.5 million increase in
equipment expense, a $1.9 million increase in net occupancy expense, a $1.5
million increase in communications expense, and a $1.2 million increase in
systems and processing expense. The increases in noninterest expense were offset
by a $9.5 million decrease in FDIC insurance expense and a $1.3 million decrease
in marketing expense.
Salaries and employee benefits increased $19.8 million, or 16.3%, from the
same period in 1996 principally due to merit increases and additional employees
resulting predominantly from acquisitions. Other expenses increased $8.3
million, or 31.6% from the prior year mainly due to a $1.5 million increase in
security clearing fees, a $1.1 million increase in travel expense, and a $.5
million increase in convention and group meeting expense, all of which can be
attributed to the acquisition of INVEST. Other expenses also included a $1.4
million increase in the amortization of intangibles related to the Hartsville,
First City and INVEST acquisitions and mortgage servicing rights, an increase of
$1.2 million in professional fee expense related to additional consulting fees
generated by various projects during the third quarter of 1997, a $.5 million
increase in software expense due to software upgrades throughout the company,
and a $.5 million increase in other non-interest deposit expense which can be
attributed to higher losses because of forgery and check card fraud. Equipment
expense increased $3.5 million compared to the nine months ended September 30,
1996, largely due to higher depreciation expense resulting from the addition of
furniture and fixtures at various branches, the addition of new image scanning
equipment, and enhancements and housing for the ATMs. Expense was also incurred
due to an increased usage of computer maintenance contracts and the addition
and/or renovation of branches during the year. Net occupancy expense grew $1.9
million essentially from higher rent and other occupancy-related expenses
related to the Hartsville, First City, and INVEST acquisitions. Communication
expenses increased $1.5 million, mainly because of higher expenditures for
telecommunications, postage, and air courier services. Systems and processing
expense increased $1.2 million due to higher processing volumes related to the
recent acquisitions and various projects to enhance systems. The $9.5 million
decrease in FDIC insurance expense related to the $8.1 million one-time
assessment on SAIF deposits held as of March 31, 1995, which was accrued during
the third quarter of 1996. The $1.3 million decrease in marketing expense
occurred primarily because certain statewide advertising projects are planned
for late 1997. Excluding INVEST, noninterest expense increased $9.3 million, or
4.3%.
First American's operating efficiency ratio from the traditional banking
business improved to 54.81% in the third quarter of 1997 compared to 57.24%
(excluding the SAIF assessment) for the third quarter of 1996, while the
operating efficiency ratio for the first nine months of 1997 improved to 55.90%
compared to 57.02% (excluding the SAIF assessment) for the same period in 1996.
INCOME TAXES
During the third quarters of 1997 and 1996, income tax expense was $23.0
million and $16.4 million, respectively. During the nine months ended September
30, 1997 and September 30, 1996, income tax expense was $66.1 million and $54.1
million, respectively. The major factor for the 22.1% increase in year-to-date
income tax expense was the higher income before income taxes.
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BALANCE SHEET REVIEW
ASSETS
Total assets of First American rose $533.6 million, or 5.3%, to $10.56
billion at September 30, 1997, compared to $10.03 billion one year earlier. The
growth in total assets was due to a $571.0 million, or 8.7%, increase in loans,
net of unearned discount and net deferred loan fees, to $7.15 billion at
September 30, 1997, from $6.58 billion at September 30, 1996, partially offset
by a $52.5 million decrease in federal funds sold and securities purchased under
agreements to resell, a $24.3 million decrease in trading securities, and a
$12.3 million decrease in cash. Leading the growth in loans were commercial
loans, which increased $283.3 million, or 9.6%, over a broad range of industry
categories, consumer loans, which increased $276.1 million, or 20.8%, primarily
due to the purchase of $200.0 million of loans, with recourse, from the
Tennessee Valley Authority on June 30, 1997, and commercial mortgage loans,
which increased $22.2 million, or 6.3%, partially offset by a decrease in
consumer residential mortgages of $35.5 million. The increase in loan volume was
generally a reflection of positive economic conditions in Tennessee and adjacent
states, and the success of First American's sales efforts and marketing
programs. An increase of $6.8 million in investment securities also contributed
to the growth in total assets.
Total assets increased $162.5 million from $10.40 billion at December 31,
1996, to $10.56 billion at September 30, 1997. The increase in total assets from
December 31, 1996, to September 30, 1997, was due to a $493.1 million increase
in loans, net of unearned discount and net deferred loan fees, partially offset
by a $121.7 million decrease in investment securities, a $103.4 million decrease
in Federal funds sold and securities purchased under agreements to resell, and
by the $94.5 million decrease in cash. Leading the growth in loans for the nine
months ended September 30, 1997, were consumer installment loans which increased
$266.5 million, or 20.0%, and commercial loans $225.3 million, a 7.5% increase.
ALLOWANCE AND PROVISION FOR LOAN LOSSES
Management's policy is to maintain the allowance for loan losses at a level
which is adequate to absorb estimated loan losses inherent in the loan
portfolio. The provision for loan losses is a charge to earnings necessary,
after loan charge-offs and recoveries, to maintain the allowance at an
appropriate level. Determining the appropriate level of the allowance and the
amount of the provision for loan losses involves uncertainties and matters of
judgment and therefore cannot be determined with precision.
In order to maintain the allowance at an appropriate level, First American's
loan loss methodology produced no provision for loan losses during the third
quarter of 1997 nor during the third quarter of 1996. The primary factors
leading to no provision for loan losses in the third quarters of 1997 and 1996,
were the continued favorable levels of asset quality as discussed under the
caption "Asset Quality" and the relatively low net loan charge-off experience.
In the third quarter of 1997 there were net charge-offs of $3.1 million which
compared to net charge-offs of $5.3 million in the third quarter of 1996. Net
charge-offs as a percentage of average loans on an annualized basis amounted to
.18% and .33%, respectively, in the third quarters of 1997 and 1996. Activity in
the allowance for loan losses in the first nine months of 1997 also included a
$.7 million increase due to the January 1, 1997 acquisition of Hartsville and a
$.2 million decrease due to the July 17, 1997 sale of Tennessee Credit
Corporation. For the nine months ended September 30, 1997 and September 30,
1996, net charge-offs were $8.4 million and $6.3 million, respectively, and net
charge-offs as a percentage of average loans on an annualized basis amounted to
.16% and .13%, respectively.
The allowance for loan losses was $115.3 million at September 30, 1997,
$128.2 million at September 30, 1996, and $123.3 million at December 31, 1996.
The allowance for loan losses represented 1.61% and 1.95% of net loans at
September 30, 1997 and 1996, respectively, and 1.85% at December 31, 1996.
ASSET QUALITY
First American's nonperforming assets (excluding loans 90 days past due on
accrual status) were $22.5 million at September 30, 1997, $22.0 million at
September 30, 1996, and $23.7 million at December 31, 1996. Nonperforming assets
(excluding loans 90 days past due on accrual status) at September 30, 1997,
represented .31% of total loans and foreclosed properties, compared to .33% at
September 30, 1996, and .36% at December 31, 1996. At September 30, 1997,
nonperforming assets were comprised of $18.8 million of non-accrual loans and
$3.7 million of foreclosed properties.
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Other potential problem loans consist of loans that are currently not
considered nonperforming but on which information about possible credit problems
has caused Management to doubt the ability of the borrowers to comply fully with
present repayment terms. At September 30, 1997, such loans totaled approximately
$67 million compared with approximately $76 million of such loans at September
30, 1996, and $52 million at December 31, 1996. Depending on the economy and
other factors, these loans and others, which may not be presently identified,
could become nonperforming assets in the future.
LIABILITIES
Total deposits were $7.70 billion at September 30, 1997, an increase of
$149.7 million, or 2.0%, from $7.55 billion a year earlier. Core deposits, which
are defined as total deposits excluding certificates of deposit $100,000 and
over and foreign deposits, totaled $6.81 billion at September 30, 1997, and
$6.74 billion at September 30, 1996. Short-term borrowings increased $332.0
million, or 28.8%, to $1.49 billion at September 30, 1997, from $1.15 billion at
September 30, 1996. Long-term debt decreased $130.4 million from September 30,
1996, to $210.1 million at September 30, 1997, essentially due to the
reclassification of $141.0 million of Federal Home Loan Bank ("FHLB") borrowing
from long- to short-term.
Total deposits decreased $91.6 million from $7.79 billion at December 31,
1996, to $7.70 billion at September 30, 1997. Core deposits increased $12.0
million, short-term borrowings increased $330.9 million, and long-term debt
decreased $121.1 million from December 31, 1996, to September 30, 1997. The
decrease in long-term debt resulted primarily from the reclassification of
$123.0 million of FHLB borrowings from long- to short-term.
DERIVATIVE INSTRUMENTS
First American has utilized off balance sheet derivative products for a
number of years in managing its interest rate sensitivity. Generally, a
derivative transaction is a payments exchange agreement whose value derives from
an underlying asset or underlying reference rate or index. The use of
non-complex, non-leveraged derivative products has reduced the Company's
exposure to changes in the interest rate environment. By using derivative
products such as interest rate swaps and futures contracts to alter the nature
of (hedge) specific assets or liabilities on the balance sheet (for example to
change a variable to a fixed rate obligation), the derivative product offsets
fluctuations in net interest income from the otherwise unhedged position. In
other words, if net interest income from the otherwise unhedged position changes
(increases or decreases) by a given amount, the derivative product should
produce close to the opposite result, making the combined amount (otherwise
unhedged position impact plus the derivative product position impact)
essentially unchanged. Derivative products have enabled First American to
improve its balance between interest-sensitive assets and interest-sensitive
liabilities by managing interest rate sensitivity, while continuing to meet the
lending and deposit needs of its customers.
In conjunction with managing interest rate sensitivity, at September 30,
1997, First American had derivatives with notional values totaling $2.02
billion. These derivatives had a net positive fair value (unrealized net pre-tax
gain) of $10.9 million. Notional amounts are key elements of derivative
financial instrument agreements. However, notional amounts do not represent the
amounts exchanged by the parties to derivatives and do not measure First
American's exposure to credit or market risks. The amounts exchanged are based
on the notional amounts and the other terms of the underlying derivative
agreements. At September 30, 1996, First American had derivatives with notional
values totaling $1.3 billion. These derivatives had a net positive fair value
(unrealized pre-tax gain) of $5.6 million at September 30, 1996. The instruments
utilized are noted in the following table along with their notional amounts and
fair values at September 30, 1997 and 1996.
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Weighted
Weighted Average Rate Average
Related Variable Rate Notional ----------------------------- Maturity Fair
(in thousands) Asset/Liability Amount Paid Received Years Value
- ------------------------------------------------------------------------------------------------------------------------------------
SEPTEMBER 30, 1997
Interest rate swaps Money market deposits $ 250,000 5.80% (1) 5.74% (2) 1.8 $ 1,012
Interest rate swaps Loans 675,000 5.73 (3) 6.66 (1) 4.5 11,821
Forward interest rate Available for sale
swaps securities 250,000 6.53 (4) N/A (4) 3.0 (919)
Forward interest rate
swaps Money market deposits 850,000 6.36 (5) 5.73 (5) 1.4 (1,018)
----------- ------
$2,025,000 $ 10,896
================================================================================================================ =================
September 30, 1996
Interest rate swaps Money market deposits $ 600,000 5.77% (1) 5.58% (2) 1.5 $ 4,013
Interest rate swaps Loans 300,000 5.59 (3) 6.80 (1) 4.8 3,644
Forward interest rate Available for sale
swaps securities 200,000 7.11 (6) N/A (6) 3.8 (2,025)
Forward interest rate
swaps Money market deposits 200,000 6.54 (7) N/A (7) 1.8 (63)
----------- ---
$1,300,000 $ 5,569
====================================================================================================================================
(1) Fixed rate.
(2) Variable rate which reprices quarterly based on 3-month LIBOR except for $25
million which reprices every 6 months based on 6-month LIBOR.
(3) Variable rate which reprices quarterly based on 3-month LIBOR.
(4) Forward swap periods will begin in September 1998. The rates to be paid are
fixed and were set at the inception of the contracts. Variable rates to be
received are based on 3-month LIBOR, repricing quarterly, but were unknown
at September 30, 1997, since the related forward swap period had not yet
begun.
(5) Forward swap periods have become effective for $200 million and will begin
in November 1997 for $200 million, June 1998 for $350 million, and July 1998
for $100 million. The rates to be paid are fixed and were set at the
inception of the contracts. Variable rates to be received are based on
3-month LIBOR, repricing quarterly, but were unknown for $650 million of
forward swaps at September 30, 1997, since the related forward swap periods
had not yet begun.
(6) Forward swap periods began in May 1997 for $50 million, June 1997 for $50
million, and July 1997 for $100 million. The rates to be paid are fixed and
were set at the inception of the contracts. Variable rates to be received
are based on 3-month LIBOR, repricing quarterly, but were unknown at
September 30, 1996, since the forward swap periods had not yet begun.
(7) Forward swap periods began in May 1997 for $100 million and September 1997
for $100 million. The rates to be paid are fixed and were set at the
inception of the contracts. Variable rates to be received are based on
3-month LIBOR, repricing quarterly, but were unknown at September 30, 1996,
since the forward swap periods had not yet begun.
As First American's individual derivative contracts approach maturity,
they may be terminated and replaced with derivatives with longer maturities
which offer more interest rate risk protection. At September 30, 1997, there
were $1.7 million of deferred net gains related to terminated derivatives
contracts, and there were $1.4 million of deferred net gains at September 30,
1996. Deferred gains and losses on off balance sheet derivative activities are
recognized as interest income or interest expense over the original covered
periods.
Net interest income for the quarter ended September 30, 1997, was
increased by derivative products income of $.8 million. Net interest income for
the quarter ended September 30, 1996, was decreased by $2.5 million derivative
products expense. Net interest income for the nine months ended September 30,
1997, was increased by derivative products income of $2.4 million. Net interest
income for the nine months ended September 30, 1996, was decreased by derivative
products expense of $9.3 million. The change from derivative products net
expense for year-to-date 1996 to net pretax income for year-to-date 1997 was
primarily due to the reduced amortization of deferred losses on terminated
derivative contracts and changes in the interest rate environment.
Credit risk exposure due to off-balance-sheet hedging is closely
monitored, and counterparts to these contracts are selected on the basis of
their credit worthiness, as well as their market-making ability. As of September
30, 1997, all outstanding derivative transactions were with counterparts with
credit ratings of A-2 or better. Enforceable bilateral netting contracts between
First American and its counterparts allow for the netting of gains and losses in
determining net credit exposure. First American's net credit exposure on
outstanding derivatives was $11.4 million on September 30, 1997. Given the
credit standing of the
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counterparts to the derivative contracts, Management believes that this credit
exposure is reasonable in light of its objectives.
CAPITAL POSITION
Total shareholders' equity was $889.3 million, or 8.42% of total assets
at September 30, 1997, $838.0 million, or 8.36% of total assets, at September
30, 1996, and $868.7 million, or 8.35% of total assets at December 31, 1996.
Book value per share was $15.23 on September 30, 1997, $14.18 per share on
September 30, 1996, and $14.66 per share on December 31, 1996.
Total shareholders' equity increased $20.6 million from December 31,
1996, principally from increases of $73.9 million of earnings retention ($106.6
million of net income less $32.7 million of dividends), $16.4 million of common
stock issued for employee benefit and dividend reinvestment plans, and $10.1
million of common stock issued for the acquisition of Hartsville. These
increases were reduced by the repurchase of $88.1 million of common stock. All
of the First American shares exchanged in the Hartsville transaction were
repurchased during January 1997 in the open market.
On April 17, 1997, the Board of Directors authorized a 2-for-1 stock
split and a 29% increase in the quarterly cash dividend. All financial data has
been restated to reflect the impact of the stock split. In the third quarter of
1997, First American declared cash dividends on its common stock of $.20 per
share compared to $.155 per share in the third quarter of 1996. Cash dividends
for the first nine months of 1997 were $.555 per share versus $.45 per share in
the first nine months of 1996, an increase of 23%. The dividend payout ratio was
32% in the third quarter of 1997 compared to 33% in the third quarter of 1996.
The dividend payout ratio for the nine months ended September 30, 1997 and 1996
was 31% and 30%, respectively.
The Federal Reserve Board and Office of the Comptroller of the Currency
(OCC) regulations require that bank holding companies and national banks
maintain minimum capital ratios. As of September 30, 1997, the Corporation and
FANB had ratios which exceeded the regulatory requirements to be classified as
"well capitalized," the highest regulatory capital rating. At September 30,
1997, the Corporation and FANB had total risk-based capital ratios of 11.46% and
11.16%, respectively, Tier I risk-based capital ratios of 9.06% and 9.91%,
respectively, and Tier I leverage capital ratios of 7.71% and 8.57%,
respectively. In order to be considered well capitalized, the total risk-based
capital ratio must be a minimum of 10%, the Tier I risk-based capital ratio must
equal or exceed 6%, and the Tier I leverage capital ratio must be 5% or greater.
First American Federal Savings Bank ("FAFSB") is subject to capital
requirements adopted by the Office of Thrift Supervision ("OTS"), which are
similar to those issued by the Federal Reserve Board and the OCC. At September
30, 1997, FAFSB's total risk-based capital ratio was 16.95%, its Tier I capital
ratio was 15.98% of risk based weighted assets, and its core (leverage) capital
ratio was 7.26%, all of which exceeded the minimum ratios established by the
OTS.
On July 17, 1997, the Board of Directors authorized the repurchase of up to
4.0 million additional shares of the Corporation's common stock to fund its
various employee benefit plans, dividend reinvestment plans and potential future
acquisitions.
LIQUIDITY
Liquidity management consists of maintaining sufficient cash levels to
fund operations and to meet the requirements of borrowers, depositors, and
creditors. Liquid assets, which include cash and cash equivalents (less Federal
Reserve Bank reserve requirements), money market instruments, and securities
that will mature within one year, amounted to $751.4 million and $943.0 million
at September 30, 1997 and 1996, respectively. The estimated average maturity of
securities was 3.5 years and 5.3 years at September 30, 1997 and 1996,
respectively. The average repricing life of the total securities portfolio was
3.1 years and 2.2 years at September 30, 1997 and 1996, respectively. The
overall liquidity position of First American is further enhanced by a high
proportion of core deposits, which provide a stable funding base. Core deposits
comprised 88% of total deposits at September 30, 1997, versus 89% at September
30, 1996.
An additional source of liquidity is the Corporation's three year $70
million revolving credit agreement which will expire March 31, 1998. First
American had no borrowings under this agreement during 1997 or 1996.
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PART II. OTHER INFORMATION
Item 1. Legal Proceedings
The information called for by this item is incorporated by reference to
Item 3 of the Registrant's annual report on Form 10-K for the year ended
December 31, 1996, and Note 9 to the Corporation's Consolidated
Financial Statements for the quarter ended September 30, 1997 included
herein.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
Number Description
------ ----------------------------------------------------------------
3.1 Restated Charter of the Registrant currently in effect as
amended and corrected is incorporated herein by
reference to Exhibit 3.1 of the Registrant's Form
10-Q for the period ended March 31, 1997.
3.2 By-laws of the Registrant currently in effect as amended January
16, 1997, are incorporated herein by reference to Exhibit 3.2 of
the Registrant's Annual Report on Form 10-K for the year
ended December 31, 1996.
10 Employment Agreement made on the first day of August, 1997 by and
between First American Corporation and Martin E. Simmons.
11 Statement regarding computation of per share earnings is
included in Note 7 to the Consolidated Financial Statements for
the quarter ended September 30, 1997. See Part 1, Item 1.
15 Letter regarding unaudited interim financial information from
KPMG Peat Marwick LLP, dated October 16, 1997.
27 Financial Data Schedule for interim year-to-date period ended
September 30, 1997. (For SEC use only)
(b) Reports on Form 8-K
No reports on Form 8-K were filed during the quarter ended September
30, 1997.
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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.
FIRST AMERICAN CORPORATION
--------------------------
(Registrant)
/s/ Dale W. Polley
-----------------------------------------
Dale W. Polley
President and Principal Financial Officer
Date: November 13, 1997
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