1
INDEPENDENT AUDITORS' REPORT
The Board of Directors
HFNC Financial Corp.
Charlotte, North Carolina
We have audited the consolidated statements of financial position of HFNC
Financial Corp. and its subsidiaries (the "Company") as of June 30, 1997 and
1996, and the related consolidated statements of income, equity, and cash flows
for each of the three years in the period ended June 30, 1997. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of the Company at June 30, 1997 and
1996, and the results of its operations and its cash flows for each of the three
years in the period ended June 30, 1997 in conformity with generally accepted
accounting principles.
As discussed in Note 11 to the consolidated financial statements, the Company is
a defendant in certain litigation in which the ultimate outcome cannot presently
be determined. Accordingly, no provision for any loss that may result upon
resolution of these matters has been made in the accompanying financial
statements.
As discussed in Note 1 to the consolidated financial statements, effective July
1, 1995, the Company changed its method of accounting for postretirement
benefits to conform with the provisions of Statement of Financial Accounting
Standards No. 106 and effective July 1, 1994, the Company changed its method of
accounting for investments in debt and equity securities to conform with the
provisions of Statement of Financial Accounting Standards No. 115.
/s/ Deloitte & Touche LLP
August 12, 1997
Hickory, North Carolina
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HFNC FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
JUNE 30, 1997 AND 1996
- ------------------------------------------------------------------------------------------------------------------------------------
1997 1996
CASH AND CASH EQUIVALENTS:
Cash $ 9,934,359 $ 6,769,598
Federal funds sold 21,436,000 2,836,000
------------- -------------
Total cash and cash equivalents 31,370,359 9,605,598
------------- -------------
SECURITIES - Available for sale, at fair value (amortized
cost: $169,285,103 and $248,922,746, at June 30, 1997 and 1996,
respectively) 175,710,104 248,445,333
LOANS RECEIVABLE, NET (allowance for loan losses:
$7,611,675 and $7,495,515, at June 30, 1997 and 1996,
respectively) 658,323,320 505,130,813
REAL ESTATE, NET 867,876 2,539,014
OFFICE PROPERTIES AND EQUIPMENT, NET 10,099,107 5,846,103
STOCK OF FEDERAL HOME LOAN BANK OF ATLANTA -
At cost 6,450,000 5,062,100
NET DEFERRED INCOME TAX ASSET 3,390,125 5,805,502
OTHER ASSETS 6,709,218 6,443,605
------------- -------------
TOTAL $ 892,920,109 $ 788,878,068
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
DEPOSITS $ 443,839,542 $ 448,570,916
OTHER BORROWED FUNDS 277,000,000 85,000,000
OTHER LIABILITIES 11,020,650 8,802,696
------------- -------------
Total liabilities 731,860,192 542,373,612
------------- -------------
SHAREHOLDERS' EQUITY:
Common stock, par value $0.01 per share: 25,000,000 shares
authorized; 17,192,500 shares issued and outstanding 171,925 171,925
Additional paid-in capital 89,967,883 168,390,571
ESOP loan and unvested restricted stock (23,137,490) (8,700,000)
Retained income 90,106,224 86,896,095
Unrealized gain (loss) on securities available for sale (net of
deferred taxes: $2,473,626 and $223,278 at June 30, 1997 and
1996, respectively) 3,951,375 (254,135)
------------- -------------
Total shareholders' equity 161,059,917 246,504,456
------------- -------------
TOTAL $ 892,920,109 $ 788,878,068
============= =============
See notes to consolidated financial statements.
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HFNC FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
YEARS ENDED JUNE 30, 1997, 1996 AND 1995
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1997 1996 1995
INTEREST INCOME:
Interest on loans $ 49,101,206 $ 39,995,122 $ 38,918,640
Interest on securities 16,214,450 12,146,926 7,202,264
------------ ------------ ------------
Total 65,315,656 52,142,048 46,120,904
------------ ------------ ------------
INTEREST EXPENSE:
Interest on customer deposits 23,564,888 27,218,333 21,464,269
Interest on other borrowed funds 11,053,822 790,224 2,786,523
------------ ------------ ------------
Total 34,618,710 28,008,557 24,250,792
------------ ------------ ------------
NET INTEREST INCOME 30,696,946 24,133,491 21,870,112
PROVISION FOR LOAN LOSSES (RECOVERY OF
ALLOWANCE) (59,286) 336,957 486,101
------------ ------------ ------------
NET INTEREST INCOME AFTER PROVISION FOR
LOAN LOSSES (RECOVERY OF ALLOWANCE) 30,756,232 23,796,534 21,384,011
------------ ------------ ------------
OTHER OPERATING INCOME:
Service charges and fees 715,265 735,362 689,840
Gain on sale of office properties and equipment -- 657,616 192,436
Gain on sale of securities 19,379 -- --
Other income 467,209 423,619 547,737
------------ ------------ ------------
Total 1,201,853 1,816,597 1,430,013
------------ ------------ ------------
OTHER OPERATING EXPENSES:
Personnel expenses 10,429,710 6,046,919 6,302,236
Federal deposit insurance premiums 664,860 1,113,602 1,027,961
Special SAIF recapitalization assessment 3,077,275 -- --
Occupancy 1,817,445 1,937,129 1,752,760
Net cost of real estate operations 70,249 341,800 1,257,792
Advertising 841,896 797,040 869,141
Data processing 420,862 406,429 387,380
Other expenses 2,662,324 1,780,266 1,209,561
------------ ------------ ------------
Total 19,984,621 12,423,185 12,806,831
------------ ------------ ------------
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HFNC FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
YEARS ENDED JUNE 30, 1997, 1996 AND 1995
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1997 1996 1995
INCOME BEFORE INCOME TAXES AND
CUMULATIVE EFFECT OF A CHANGE IN
ACCOUNTING PRINCIPLE 11,973,464 13,189,946 10,007,193
PROVISION FOR INCOME TAXES 4,609,783 4,565,844 3,857,182
------------ ------------ ------------
INCOME BEFORE CUMULATIVE EFFECT OF A
CHANGE IN ACCOUNTING PRINCIPLE 7,363,681 8,624,102 6,150,011
CUMULATIVE EFFECT ON PRIOR YEARS OF A
CHANGE IN ACCOUNTING PRINCIPLE -- (1,050,000) --
------------ ------------ ------------
NET INCOME $ 7,363,681 $ 7,574,102 $ 6,150,011
============ ============ ============
NET INCOME PER SHARE OF COMMON STOCK $ 0.46 N/A N/A
============
AVERAGE NUMBER OF SHARES OUTSTANDING 15,995,345 N/A N/A
==========
See notes to consolidated financial statements.
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HFNC FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
YEARS ENDED JUNE 30, 1997, 1996 AND 1995
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Unearned Net Unrealized
ESOP and Gain (Loss) on
Additional Unvested Securities
Common Paid-In Retained Restricted Available for
Stock Capital Income Shares Sale (1) Total
----- ------- ------ ------ -------- -----
BALANCE, JUNE 30, 1994 $73,171,982 $73,171,982
Net income 6,150,011 6,150,011
Net unrealized gain on
securities available for
sale upon adoption
of SFAS No. 115 -- 2,207,105 2,207,105
Change in net unrealized
gain on securities
available for sale -- 283,013 283,013
----------- ---------- ------------
BALANCE, JUNE 30, 1995 79,321,993 2,490,118 81,812,111
Net income 7,574,102 -- 7,574,102
Net proceeds of
common stock issued $171,925 $168,266,013 -- (9,000,000) -- 159,437,938
Shares released from
ESOP -- 124,558 -- 300,000 -- 424,558
Net unrealized gain on
securities transferred
to available for sale
portfolio -- -- -- -- 248,231 248,231
Change in net unrealized
gain on securities
available for sale -- -- -- -- (2,992,484) (2,992,484)
-------- ----------- ----------- ------------ ---------- ------------
BALANCE, JUNE 30, 1996 171,925 168,390,571 86,896,095 (8,700,000) (254,135) 246,504,456
-------- ----------- ----------- ------------ ---------- ------------
Net income -- -- 7,363,681 -- -- 7,363,681
Shares released from
ESOP and restricted
stock trusts -- 494,810 -- 3,269,211 -- 3,764,021
Dividends paid -- (78,917,498) (4,153,552) -- -- (83,071,050)
Purchase of ESOP and
restricted stock -- -- -- (17,706,701) -- (17,706,701)
Change in net unrealized
loss on securities
available for sale -- -- -- -- 4,205,510 4,205,510
-------- ----------- ----------- ------------ ---------- ------------
BALANCE, JUNE 30, 1997 $171,925 $89,967,883 $90,106,224 $(23,137,490) $3,951,375 $161,059,917
======== =========== =========== ============ ========== ============
(1) Net of deferred income taxes.
See notes to consolidated financial statements.
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HFNC FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED JUNE 30, 1997, 1996 AND 1995
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1997 1996 1995
OPERATING ACTIVITIES:
Net income $ 7,363,681 $ 7,574,102 $ 6,150,011
Adjustments to reconcile net income to net cash
provided by operating activities:
Cumulative effect of a change in accounting principle -- 1,050,000 --
Depreciation and amortization 901,982 533,049 511,339
Amortization of net deferred loan fees (1,788,109) (2,038,329) (1,718,914)
Provision for losses on loans (recovery of allowance) (59,286) 336,957 486,101
Provision for losses on real estate 92,379 139,812 1,236,027
Deferred income tax (benefit) provision (281,527) 329,276 (427,055)
Amortization of unearned stock compensation 3,764,021 424,558 --
(Gain) loss on sales of:
Fixed assets -- (657,616) (192,436)
Real estate owned (149,136) 179,258 (29,497)
Investments (19,379) (15,157) --
Increase in other assets (265,613) (1,474,967) (2,124,908)
Increase in other liabilities 2,217,954 472,522 2,932,697
------------- ------------- -------------
Net cash provided by operating activities 11,776,967 6,853,465 6,823,365
------------- ------------- -------------
INVESTING ACTIVITIES:
Proceeds from maturities of investment securities 8,394,737 42,469,426 6,000,000
Proceeds from sales of securities available for sale 67,279,572 7,515,157 --
Purchases of securities available for sale (6,950,000) (193,170,501) (14,987,327)
Purchases of Federal Home Loan Bank stock (1,387,900) -- --
Principal repayment on mortgage-backed securities 10,584,525 4,449,592 --
Proceeds from sales of real estate held for
development -- 700,000 412,565
Proceeds from sales of real estate owned 2,841,885 1,911,353 3,475,871
Net loan originations (152,459,102) (70,086,708) (2,213,974)
Proceeds from disposals of office properties and
equipment -- 1,497,098 361,804
Purchases of office properties and equipment (4,806,798) (98,415) (157,473)
------------- ------------- -------------
Net cash used in investing activities (76,503,081) (204,812,998) (7,108,534)
------------- ------------- -------------
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HFNC FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED JUNE 30, 1997, 1996 AND 1995
- ------------------------------------------------------------------------------------------------------------------------------------
1997 1996 1995
FINANCING ACTIVITIES:
(Decrease) increase in deposits (4,731,374) (41,995,531) 45,070,553
Proceeds from other borrowed funds 192,000,000 85,000,000 60,000,000
Purchases of restricted stock for benefit plan (17,706,701) -- --
Repayments of Federal Home Loan Bank advances -- (10,000,000) (100,000,000)
Net proceeds from the sale of stock -- 159,437,938 --
Dividends paid (83,071,050) -- --
------------- ------------- -------------
Net cash provided by financing activities 86,490,875 192,442,407 5,070,553
------------- ------------- -------------
INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS- 21,764,761 (5,517,126) 4,785,384
CASH AND CASH EQUIVALENTS AT
BEGINNING OF YEAR 9,605,598 15,122,724 10,337,340
------------- ------------- -------------
CASH AND CASH EQUIVALENTS AT END
OF YEAR $ 31,370,359 $ 9,605,598 $ 15,122,724
============= ============= =============
SUPPLEMENTAL DISCLOSURES:
Cash paid during the year for:
Interest $ 49,205,450 $ 28,048,607 $ 23,343,529
Income taxes 4,696,284 2,482,214 3,985,685
Non-cash investing activities:
Transfers from loans to real estate acquired in
settlement of loans 1,113,990 2,127,081 4,080,832
Unrealized net gain (loss) on securities available
for sale, net of deferred income taxes 4,205,510 2,744,253 (2,490,118)
Investment securities transferred from held to
maturity to available for sale, at fair value
(amortized cost $0, $108,288,966 and $2,745,308,
respectively) -- 108,537,197 4,952,413
See notes to consolidated financial statements.
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HFNC FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED JUNE 30, 1997 AND 1996
- --------------------------------------------------------------------------------
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization and Principles of Consolidation - HFNC Financial Corp.
(the "Corporation") was incorporated under North Carolina law in August
1995 by Home Federal Savings and Loan Association (the "Association") in
connection with the conversion of the Association from a federally
chartered mutual savings and loan association to a federally chartered
stock savings and loan association, the issuance of the Association's
stock to the Corporation and the offer and sale of the Corporation's
common stock by the Corporation (the "Conversion"). The Conversion,
completed on December 28, 1995, resulted in the issuance and sale of
17,192,500 shares of $0.01 par value common stock. The accompanying
consolidated financial statements include the accounts of the Corporation
and its wholly owned subsidiaries, HFNC Investment Corp. and Home Federal
Savings and Loan Association (collectively referred to herein as the
"Company"). The Company's consolidated financial statements also include
the accounts of the Association's wholly owned subsidiary, Home Federal
Savings Service Corporation ("HFSS"). HFSS participates in real estate
joint ventures for the development and sale of residential lots, and the
sale of annuities and various insurance products. All significant
intercompany balances and transfers have been eliminated in consolidation.
The following is a description of the more significant accounting policies
which the Company follows in preparing and presenting its consolidated
statements.
Accounting Principles - The accounting and reporting policies of the
Company conform to generally accepted accounting principles and to the
general practices within the savings and loan industry.
Financial Statement Estimates - The preparation of financial
statements in conformity with generally accepted accounting principles
requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosures of contingent
assets and liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Cash Equivalents - Cash and cash equivalents include cash on hand
and on deposit and federal funds sold with a maturity date of three months
or less.
Investment Securities - The Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 115, Accounting for Certain Investments
in Debt and Equity Securities, effective July 1, 1994. SFAS No. 115
requires investments to be classified in three categories. Debt securities
that the Company has the positive intent and ability to hold to maturity
are classified as "held to maturity securities" and reported at amortized
cost. Debt and equity securities that are bought and held principally for
the purpose of selling in the near term are classified as "trading
securities" and reported at fair value, with unrealized gains and losses
included in earnings. Debt securities not classified as either held to
maturity securities or trading securities and equity securities not
classified as trading securities are to be classified as "available for
sale securities" and reported at fair value, with unrealized gains and
losses excluded from earnings and reported as a separate component of
shareholders' equity. As of June 30, 1997, all investments are classified
as available for sale.
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In November 1995, the FASB issued a Special Report, A Guide to
Implementation of Statement 115 on Accounting for Certain Debt and Equity
Securities, which included a transition provision allowing all entities to
reassess the appropriateness of the classifications of all securities held
and account for any resulting reclassifications at fair value.
Reclassifications from the held to maturity category resulting from this
one-time reassessment will not call into question, or "taint," the intent
of the entity to hold other debt securities to maturity in the future. In
accordance with this Special Report, the Association transferred
securities with a fair value and amortized cost of approximately $108
million from held to maturity to available for sale. This transfer is
disclosed as a noncash transaction in the statements of cash flows.
Realized gains and losses on investment securities are recognized at
the time of sale based upon the specific identification method. Premiums
and discounts are amortized to expense and accreted to income over the
lives of the securities.
Loans - Loans held for investment are recorded at cost. Mortgage
loans held for sale are valued at the aggregate lower of cost or market as
determined by outstanding commitments from investors or current investor
yield requirements calculated on the aggregate loan basis. No loans have
been classified as held for sale.
Nonaccrual loans are those loans on which the accrual of interest
has ceased. Loans are placed on nonaccrual status if, in the opinion of
management, principal or interest is not likely to be paid in accordance
with the terms of the loan agreement, or when principal or interest is
past due 90 days or more. Interest accrued but not collected at the date a
loan is placed on nonaccrual status is reversed against interest income in
the current period. Interest income on nonaccrual loans is recognized only
to the extent received in cash. However, where there is doubt regarding
the ultimate collectibility of the loan principal, cash receipts, whether
designated as principal or interest, are thereafter applied to reduce the
carrying value of the loan. Loans are restored to accrual status only when
interest and principal payments are brought current and future payments
are reasonably assured.
Restructured loans are those for which concessions, such as the
reduction of interest rates or deferral of interest or principal payments,
have been granted due to a deterioration in the borrower's financial
condition. Interest on restructured loans is accrued at the restructured
rates. The difference between interest that would have recognized under
the original terms of nonaccrual and restructured loans and interest
actually recognized on such loans was not a material amount for the years
ended June 30, 1997, 1996 and 1995.
Effective July 1, 1995, the Company adopted SFAS No. 114, Accounting
by Creditors for Impairment of a Loan, and SFAS No. 118, Accounting by
Creditors for Impairment of a Loan - Income Recognition and Disclosures.
SFAS No. 114 requires that the carrying value of an impaired loan be based
on the present value of expected future cash flows discounted at the
loan's effective interest rate or, as a practical expedient, at the loan's
observable market price or the fair value of the collateral, if the loan
is collateral-dependent. Under SFAS No. 114, a loan is considered impaired
when, based on current information, it is probable that the borrower will
be unable to pay contractual interest or principal payments as scheduled
in the loan agreement. SFAS No. 114 applies to all loans except
smaller-balance homogenous mortgage and consumer loans, loans carried at
fair value or the lower of cost or fair value, debt securities, and
leases. Generally, the Company applies SFAS No. 114 to nonaccrual
commercial loans and restructured loans.
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SFAS No. 118 permits a creditor to use existing methods for
recognizing interest revenue on impaired loans. The Company recognizes
interest income on impaired loans pursuant to the discussion above for
nonaccrual and renegotiated loans.
Allowance for Loan Losses - The Company provides for loan losses
using the allowance method. Accordingly, all loan losses are charged to
the related allowance, and all recoveries are credited to the allowance.
Additions to the allowance for loan losses are provided by charges to
operations based on various factors which, in management's judgment,
deserve current recognition in estimating losses. Because of the
uncertainty inherent in the estimation process, management's estimate of
the allowance for loan losses may change in the near term. However, the
amount of the change that is reasonably possible cannot be estimated.
Real Estate Acquired in Settlement of Loans - Real estate acquired
in settlement of loans is initially recorded at fair value at the date of
acquisition, establishing a new cost basis. After acquisition, valuations
are performed periodically by management and the real estate is carried at
the lower of cost or fair value minus estimated costs of disposal.
Revenues, expenses and additions to the valuation allowance related to
real estate acquired in settlement of loans are included in net cost of
real estate operations.
Real Estate Held for Development or Resale - Real estate held for
development or resale is carried at the lower of cost or estimated net
realizable value. Costs related to the development or improvement of
property are capitalized to the extent such costs are estimated to be
recoverable, whereas those costs related to holding the property are
expensed.
Office Properties and Equipment - Office properties and equipment
are carried at cost, net of accumulated depreciation and amortization.
Depreciation is computed primarily on the straight-line method over
estimated useful lives of up to fifty years for buildings, ten years for
building improvements, four to ten years for furniture, fixtures and
equipment and four years for automobiles. Leasehold improvements are
amortized on the straight-line method over the term of the lease.
Interest Income and Fees - Interest income on loans is accrued on a
monthly basis. Servicing fees are credited to income as earned.
Loan Origination Fees - The Company defers loan origination fees, as
well as certain direct loan origination costs and amortizes such costs and
fees to interest income as an adjustment to yield over the contractual
lives of the related loans utilizing a method of amortization that
approximates the level yield method.
Postretirement Benefits - Effective July 1, 1995, the Company
adopted SFAS No. 106, Employers' Accounting for Postretirement Benefits
Other Than Pensions. SFAS No. 106 requires the Company to accrue the
estimated cost of retiree benefit payments during the years the employee
provides services. The Company previously expensed the cost of these
benefits, which are principally health care, as premiums were paid. SFAS
No. 106 allows recognition of the cumulative effect of the liability in
the year of adoption or the amortization of the obligation over a period
of up to twenty years. The Company has elected to recognize the cumulative
effect of this obligation upon adoption. The cumulative effect of adopting
SFAS No. 106 as of July 1, 1995 was an increase in accrued postretirement
health care costs of $1,700,000 and a decrease in net income of $1,050,000
(net of deferred income taxes of $650,000) for the year ended June 30,
1996.
Advertising Costs - The Company expenses advertising costs as incurred.
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Income Taxes - Provisions for income taxes are based on amounts
reported in the consolidated statements of income (after exclusion of
nontaxable income such as interest on state and municipal securities) and
include changes in deferred income taxes. Deferred taxes are computed
using the asset and liability approach. The tax effects of differences
between the tax and financial accounting basis of assets and liabilities
are reflected in the balance sheets at the tax rates expected to be in
effect when the differences reverse.
Earnings Per Share - For the year ended June 30, 1997, earnings per
share of common stock is based on the weighted average number of common
shares outstanding during the year. As the Company did not complete its
stock conversion from a mutual association until December 28, 1995, no
earnings per share have been shown for any periods prior to the year ended
June 30, 1997.
Accounting Standards Implemented in the Year Ended June 30, 1997 -
The Company implemented SFAS No. 121, Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of, effective
July 1, 1996. SFAS No. 121 establishes accounting standards for the
impairment of long-lived assets, certain identifiable intangible assets
and goodwill related to those assets to be held and used and for
long-lived assets to be held and certain intangible assets to be disposed
of. The adoption of this standard did not have a significant impact on
financial condition or results of operations.
The Company also implemented SFAS No. 122, Accounting for Mortgage
Servicing Rights, prospectively effective July 1, 1996. SFAS No. 122
amends SFAS No. 65 and the principal effect for the Company is the
elimination of the accounting distinction between rights to service
mortgage loans for others that are acquired through loan origination
activities and those acquired through purchase transactions. When a
mortgage banking enterprise purchases or originates mortgage loans and
sells or securitizes those loans with servicing rights retained, it should
allocate the total cost of the mortgage loans to the mortgage servicing
rights and the loans (without the mortgage servicing rights) based on
their relative fair values if it is practicable to estimate those fair
values. Any cost allocated to mortgage servicing rights should be
recognized as a separate asset and amortized in proportion to and over the
period of the estimated net servicing income. Implementation of the
provisions of SFAS No. 122 did not have a material impact on the Company's
financial condition or results of operations.
In June 1996, the FASB issued SFAS No. 125, Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities. This
Statement provides accounting and reporting standards for transfers and
servicing of financial assets and extinguishments of liabilities. It
requires that liabilities and derivatives incurred or obtained by
transferors as part of financial assets be initially measured at fair
value, if practicable. It also requires that servicing assets and other
retained interests in the transferred assets be measured by allocating the
previous carrying amount between the assets sold, if any, and retained
interests, if any, based on their relative fair values at the date of the
transfer. Servicing assets and liabilities must be subsequently measured
by amortization in proportion to and over the period of estimated net
servicing income or loss and assessment for asset impairment or increased
obligation based on their fair values. This Statement is effective for
transfers and servicing of financial assets and extinguishments of
liabilities occurring after December 31, 1996. In December 1996, the FASB
issued SFAS No. 127, Deferral of the Effective Date of Certain Provisions
of FASB Statement No. 125. This Statement defers the effective date of
application of certain transfer and collateral provisions of SFAS No. 125
until January 1, 1998.
On January 1, 1997, the Company implemented the provisions of SFAS
No. 125 which were not deferred by SFAS No. 127. Its adoption did not have
a significant impact on financial position or results of operations.
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Recently Issued Accounting Standards - The FASB has recently issued
three new accounting standards that will affect the reporting and
disclosure of financial information by the Company. Management has not
determined the effects of adopting these statements, but their adoption
will not impact financial condition or results of operations because they
deal with reporting and disclosure. The following is a summary of the
standards and their required implementation dates:
SFAS No. 128, Earnings Per Share - This statement establishes
standards for computing and presenting earnings per share ("EPS").
It will require the presentation of basic EPS on the face of the
income statement with dual presentation of both basic and diluted
EPS for entities with complex capital structures. Basic EPS excludes
the dilutive effect that could occur if any securities or other
contracts to issue common stock were exercised or converted into or
resulted in the issuance of common stock. Basic EPS is computed by
dividing income available to common shareholders by the
weighted-average number of common shares outstanding for the period.
The computation of diluted EPS is similar to the computation of
basic EPS except the denominator is increased to include the number
of additional common shares that would have been outstanding if the
dilutive potential common shares had been issued. In the case of
certain convertible securities, the numerator may also be increased
by related interest or dividends. This statement will be effective
for interim and annual periods ending after December 31, 1997.
SFAS No. 130, Reporting Comprehensive Income - This statement
establishes standards for reporting and disclosure of comprehensive
income and its components (revenues, expenses, gains and losses).
This statement requires that all items that are required to be
recognized under accounting standards as components of comprehensive
income (including, for example, unrealized holding gains and losses
on available for sale securities) be reported in a financial
statement similar to the statement of income and retained income.
The accumulated balance of other comprehensive income will be
disclosed separately from retained income in the shareholders'
equity section of the balance sheet. This statement is effective for
the Company for the fiscal year beginning July 1, 1998.
SFAS No. 131, Disclosures About Segments of an Enterprise and
Related Information - This statement establishes standards for the
way public business enterprises report information about operating
segments and establishes standards for related disclosures about
products and services, geographic areas and major customers.
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. Information
required to be disclosed includes segment profit or loss, certain
specific revenue and expense items, segment assets and certain other
information. This statement is effective for the Company for
financial statements issued for the fiscal year beginning July 1,
1998.
Reclassifications - Certain June 30, 1996 and 1995 amounts have been
reclassified to conform to the June 30, 1997 presentation.
12
13
2. SECURITIES
The maturities, amortized cost, unrealized gains, unrealized losses and
fair values of securities at June 30, 1997 and 1996 were as follows:
1997
------------------------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
------------ ------------ ------------ ------------
United States Government
Agency debt securities:
Due within one year $ 11,000,000 $ 4,165 45,579 $ 10,958,586
Due after one year but
within five years 66,013,428 91,680 682,172 65,422,936
Due after five years but
within ten years 7,000,000 -- 169,373 6,830,627
Due after ten years 31,971,799 -- 923,042 31,048,757
Federal Home Loan
Mortgage Corporation
common and preferred
stocks 249,358 8,002,792 -- 8,252,150
------------ ------------ ------------ ------------
Total investment
securities 116,234,585 8,098,637 1,820,166 122,513,056
------------ ------------ ------------ ------------
Mortgage-backed securities:
Federal National
Mortgage Association 12,939,158 -- 75,957 12,863,201
Government National
Mortgage Association 40,111,360 405,425 182,938 40,333,847
------------ ------------ ------------ ------------
Total mortgage-backed
securities 53,050,518 405,425 258,895 53,197,048
------------ ------------ ------------ ------------
Total $169,285,103 $ 8,504,062 $ 2,079,061 $175,710,104
============ ============ ============ ============
13
14
1996
---------------------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
------------ ------------ ------------ ------------
United States Government
Agency debt securities:
Due within one year $ 2,000,000 -- $ 5,140 $ 1,994,860
Due after one year but
within five years 82,935,029 $ 166,528 1,692,814 81,408,743
Due after five years but
within ten years 8,000,000 -- 267,511 7,732,489
Due after ten years 29,969,822 -- 1,300,699 28,669,123
Federal Home Loan
Mortgage Corporation
common and preferred
stocks 273,905 5,279,533 -- 5,553,438
------------ ------------ ------------ ------------
Total investment
securities 123,178,756 5,446,061 3,266,164 125,358,653
------------ ------------ ------------ ------------
Mortgage-backed securities:
Federal National
Mortgage Association 28,328,508 -- 494,668 27,833,840
Government National
Mortgage Association 97,415,482 -- 2,162,642 95,252,840
------------ ------------ ------------ ------------
Total mortgage-backed
securities 125,743,990 -- 2,657,310 123,086,680
------------ ------------ ------------ ------------
Total $248,922,746 $ 5,446,061 $ 5,923,474 $248,445,333
============ ============ ============ ============
As of June 30, 1997, there were approximately $73 million of investments
with call options, all of which are callable within one year. As of June
30, 1996, there were approximately $93 million of investments with call
options, of which $90 million are callable within one year.
Gross realized gains and losses on sales of securities were $714,527 and
$695,148, respectively, in fiscal 1997. Gross realized gains and losses
on sales of securities were $30,782 and $15,625, respectively, in fiscal
1996. There were no sales of investment securities for the year ended
June 30, 1995.
14
15
3. LOANS RECEIVABLE
Loans receivable at June 30, 1997 and 1996 consisted of the following:
1997 1996
Residential (1 - 4 family) real estate loans $ 561,352,476 $ 416,710,946
Construction loans 68,365,540 61,015,061
Commercial loans 30,631,001 29,342,750
Land loans 19,991,562 22,843,531
Consumer loans:
Home equity 14,494,824 13,696,894
Credit card 6,198,263 5,644,392
Other 3,255,459 3,277,814
------------- -------------
Total 704,289,125 552,531,388
Deduct:
Allowance for loan losses (7,611,675) (7,495,515)
Undisbursed portion of loans in process (33,029,829) (34,846,054)
Unearned loan fees, net (5,324,301) (5,059,006)
------------- -------------
Loans receivable, net $ 658,323,320 $ 505,130,813
============= =============
The changes in the allowance for loan losses consisted of the following:
1997 1996 1995
Allowance, beginning of year $ 7,495,515 $ 8,088,462 $ 7,828,492
Provision for loan losses (recovery of allowance) (59,286) 336,957 486,101
Write-offs (344,230) (1,493,125) (395,182)
Recoveries 519,676 563,221 169,051
----------- ----------- -----------
Allowance, end of year $ 7,611,675 $ 7,495,515 $ 8,088,462
=========== =========== ===========
Residential real estate loans are presented net of loans serviced for
others totaling $30.9 million, $36.6 million and $43.0 million at June
30, 1997, 1996 and 1995, respectively. Loans sold in the secondary market
are generally sold without recourse. Servicing loans for others generally
consists of collecting mortgage payments, maintaining escrow accounts,
disbursing payments to investors and foreclosure processing. In
connection with these loans serviced for others, the Company held
borrowers' escrow balances of $339,899, $393,826 and $476,131 at June 30,
1997, 1996 and 1995, respectively.
Loans not currently accruing interest at June 30, 1997 and June 30, 1996
amounted to $6.3 million and $8.0 million, respectively. Interest income
that would have been accrued on these loans if they were fully accruing
amounted to $472,000 and $791,000 for the 1997 and 1996 fiscal years,
respectively.
In accordance with SFAS Nos. 114 and 118, the recorded investment in
impaired loans was $4,385,280 and $6,275,358 at June 30, 1997 and 1996,
respectively. The related allowance for loan losses on these loans was
$1,979,647 and $2,804,497 at June 30, 1997 and 1996, respectively. All
impaired loans required an allowance for loan loss and were evaluated
using the fair value of the collateral. The average recorded investment
in impaired loans was $4,896,308 and $6,346,184 at June 30, 1997 and
1996, respectively, and the cash income recognized for the years ended
June 30, 1997 and 1996 was $68,000 and $121,000, respectively.
15
16
The Company is not committed to lend additional funds to debtors whose
loans have been modified.
4. REAL ESTATE
Real estate consisted of the following:
1997 1996
Acquired in settlement of loans $ 1,138,277 $ 3,682,554
Less allowance for estimated losses (270,401) (1,143,540)
----------- -----------
Real estate, net $ 867,876 $ 2,539,014
=========== ===========
The changes in the allowance for losses on real estate acquired in
settlement of loans consisted of the following:
1997 1996 1995
Allowance, beginning of year $ 1,143,540 $ 1,542,253 $ 1,920,257
Provision 92,379 139,812 1,236,027
Write-offs (965,518) (538,525) (1,614,031)
----------- ----------- -----------
Allowance, end of year $ 270,401 $ 1,143,540 $ 1,542,253
=========== =========== ===========
5. OFFICE PROPERTIES AND EQUIPMENT
Office properties and equipment consisted of the following:
1997 1996
Land $ 2,863,967 $ 1,921,737
Office buildings and improvements 9,741,536 6,463,490
Office equipment and leasehold improvements 2,922,692 2,336,170
Automobiles 100,388 100,388
------------ ------------
Total 15,628,583 10,821,785
Less accumulated depreciation and amortization (5,529,476) (4,975,682)
------------ ------------
Office properties and equipment, net $ 10,099,107 $ 5,846,103
============ ============
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17
6. DEPOSITS
Customer deposits at June 30, 1997 and 1996 consisted of the following:
1997 1996
Checking accounts $ 9,192,647 $ 9,326,000
NOW accounts - 2.50% at June 30, 1997 and 1996 11,798,817 10,109,446
Flexible rate checking:
Money market deposit accounts, 2.50% to 4.89% at
June 30, 1997 and 2.50% to 2.90% at June 30, 1996 34,759,502 32,315,154
Other - 2.50% to 2.55% at June 30, 1997 and 2.50% to
2.55% at June 30, 1996
3,369,134 3,528,117
------------ ------------
Total checking accounts 59,120,100 55,278,717
------------ ------------
Passbook accounts - 2.50% at June 30, 1997 and 1996 14,447,314 15,141,246
------------ ------------
Certificate accounts:
2.50% - 3.95% 3,940,677 1,764,422
4.00% - 4.95% 15,680,883 33,454,451
5.00% - 6.95% 320,077,671 284,252,015
7.00% - 8.95% 29,712,983 57,854,550
9.00% and over 859,914 825,515
------------ ------------
Total certificate accounts 370,272,128 378,150,953
------------ ------------
Total deposits $443,839,542 $448,570,916
============ ============
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18
The weighted average coupon rate on customer deposits at June 30, 1997
and 1996 was 5.24% and 5.42%, respectively.
Scheduled maturities of certificate accounts at June 30, 1997 were as
follows:
Year Ending June 30, Amount
- -------------------- ------
1998 $291,650,026
1999 55,764,166
2000 15,368,010
2001 3,529,827
2002 2,968,272
Thereafter 991,827
------------
Total certificate accounts $370,272,128
============
The aggregate amount of certificate accounts in excess of $100,000 was
$145,100,828 and $129,249,220 at June 30, 1997 and 1996, respectively.
Deposits in excess of $100,000 are not federally insured.
18
19
Interest expense by type of deposit for the years ended June 30, 1997,
1996 and 1995 was as follows:
1997 1996 1995
------------ ------------ ------------
Checking accounts $ 1,349,244 $ 1,510,906 $ 2,029,954
Passbook accounts
237,366 341,530 374,275
Certificate accounts 22,035,269 25,429,660 19,194,800
Less: Penalty income (56,991) (63,763) (134,760)
------------ ------------ ------------
Total interest expense $ 23,564,888 $ 27,218,333 $ 21,464,269
============ ============ ============
7. OTHER BORROWED FUNDS
At June 30, 1997, the Company had $129.0 million of outstanding advances
from the Federal Home Loan Bank of Atlanta ("FHLB"). No advances were
outstanding at June 30, 1996. Advances were at fixed rates. The maximum
amount of outstanding advances at any month-end during 1997 and 1996 was
$129.0 million and $10.0 million, respectively, and the average balance
outstanding for such years was approximately $61.1 million and $1.0
million respectively. The weighted average interest rate during fiscal
years 1997 and 1996 was 5.90% and 5.89%, respectively.
The Company pledges as collateral for these borrowings their FHLB stock
and has entered into blanket collateral agreements with the FHLB whereby
the Company maintains, free of other encumbrances, qualifying mortgages
(as defined) with unpaid principal balances, when discounted at 75% of
the unpaid principal balances, of at least 100% of total advances.
The Company also borrowed funds using securities sold under repurchase
agreements during 1997 and 1996. At June 30, 1997 and 1996, $120.0
million and $85.0 million of such borrowings were outstanding,
respectively. The maximum amount of outstanding agreements at any
month-end during 1997 and 1996 was $120.0 million and $85.0 million,
respectively, and the average outstanding balance of such agreements for
the years were approximately $117.4 million and $13.4 million,
respectively. Collateral for the securities sold under repurchase
agreements consisted of U.S. Government Agency securities and
mortgage-backed securities which were transferred to a third party for
safekeeping during the terms of the agreements. At June 30, 1997, the
market value of such collateralized securities totaled approximately
$114.4 million (amortized cost of approximately $115.6 million).
During the 1997 fiscal year, the Company also borrowed $28.0 million in
short term funds from a commercial bank to fund a portion of a $5 per
share special distribution paid to shareholders on March 18, 1997. The
loan, at prime rate less .5%, was obtained on March 18, 1997 and was paid
off subsequent to June 30, 1997.
8. INCOME TAXES
The provision for income taxes is summarized as follows:
19
20
Year Ended June 30,
----------------------------------------
1997 1996 1995
Current provision:
Federal $ 4,656,460 $ 3,925,383 $ 3,907,273
State 234,850 311,185 376,964
----------- ----------- -----------
Total current 4,891,310 4,236,568 4,284,237
----------- ----------- -----------
Year Ended June 30,
----------------------------------------
1997 1996 1995
Deferred (benefit) provision:
Federal $ (225,828) $ 253,845 $ (331,675)
State (55,699) 75,431 (95,380)
----------- ----------- -----------
Total deferred (281,527) 329,276 (427,055)
----------- ----------- -----------
Total provision for income taxes $ 4,609,783 $ 4,565,844 $ 3,857,182
=========== =========== ===========
For the years ended June 30, 1997 and 1996, deferred tax liabilities
(assets) of $2,473,626 and $(223,278), respectively, were allocated to
equity for the tax effect of the unrealized gain (loss) on investment
securities available for sale.
Income taxes differed from amounts computed by applying the statutory
federal rate (34%) to income before income taxes and cumulative effect of
a change in accounting principle (see Note 1) as follows:
Year Ended June 30,
---------------------------------------
1997 1996 1995
Tax at federal income tax rate $4,070,978 $4,484,581 $3,402,446
(Decrease) increase resulting from:
Statutory bad debt deduction for tax purposes -- (520,000) --
State income tax expense, net of federal benefit 118,240 255,166 185,845
Other, net 420,565 346,097 268,891
---------- ---------- ----------
Total $4,609,783 $4,565,844 $3,857,182
========== ========== ==========
Effective tax rate 38.5% 34.6% 38.5%
========== ========== ==========
The tax effects of significant items comprising the Company's net deferred
tax asset at June 30, 1997 and 1996 are as follows:
20
21
1997 1996
Deferred tax assets:
Differences between book and tax basis bad debt reserves $ 3,290,767 $ 3,606,805
Difference between book and tax basis of deferred loan fees 966,132 1,183,796
Deferred compensation 2,011,241 1,466,286
Net operating loss carryforward 677,562 --
Other (160,101) 247,187
----------- -----------
Total deferred tax assets 6,785,601 6,504,074
----------- -----------
Deferred tax liabilities:
Differences between book and tax basis of Federal Home Loan
Bank of Atlanta stock 921,850 921,850
Unrealized gain (loss) on securities available for sale 2,473,626 (223,278)
----------- -----------
Total deferred tax liabilities 3,395,476 698,572
----------- -----------
Net deferred tax asset $ 3,390,125 $ 5,805,502
=========== ===========
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22
The realization of the entire amount of the deferred tax asset is
considered to be more likely than not; therefore, no valuation allowance
has been provided.
The Company is permitted a bad debt deduction in determining federal
taxable income that may differ from actual experience, subject to certain
limitations. If the amounts that qualify as bad debt deductions for
federal income tax purposes are later used for purposes other than for
bad debt losses, they will be subject to federal income tax at the then
current statutory rate. As permitted under SFAS No. 109, no deferred tax
liability is provided for approximately $16.9 million (approximately $6.4
million tax effect) of such tax basis bad debt reserves that arose prior
to June 30, 1988.
9. BENEFIT PLANS
401(k)/Profit Sharing Plan - Effective November 30, 1995, the Company
modified its non-contributory qualified defined contribution retirement
plan to a contributory 401(k) profit sharing plan. The profit sharing
plan permits all full time employees with at least one year of service to
contribute up to 9% of their salary to the plan each year. The plan
provides for matching contributions by the Company equal to 100% of
employee contributions up to the first 3% of compensation. The Company
may, at its discretion, make profit sharing contributions to the plan.
Plan participants' accounts are 100% vested in Company contributions
after 5 years of qualifying service. The Company's matching contribution
charged to expense for the years ended June 30, 1997 and 1996 was
approximately $76,000 and $69,000, respectively.
The plan, prior to modification, was a non-contributory plan which
covered all full time employees with at least one year of service. Annual
employer contributions under the plan were based on a percentage of
compensation of all regular employees (as defined) less termination
credits. Retirement expenses relating to this plan were funded as accrued
and amounted to $352,094 and $608,782 for the years ended June 30, 1996
and 1995, respectively.
Stock Option and Management Recognition and Retention Plans - In
December, 1996, the Company's shareholders approved the Stock Option Plan
("SOP") and Management Recognition and Retention Plan ("MRRP").
Stock Option Plan - The SOP provides for the Company's Board of Directors
to award incentive stock options, non-qualified or compensatory stock
options and stock appreciation rights representing up to 1,719,250 shares
of Company stock. One-third of the options granted vested immediately
upon grant, with the balance vesting in equal amounts on the two
subsequent anniversary dates of the grant. Options granted vest
immediately in the event of retirement, disability, or death. Outstanding
stock options can be exercised over a ten year period.
Under the SOP, options have been granted to directors and key employees
to purchase common stock of HFNC Financial Corp. The exercise price in
each case equals the fair market value of the Corporation's stock at the
date of grant which has been adjusted for the impact of the $5 per share
special distribution to shareholders on March 18, 1997. Options granted
in the current year have exercise prices ranging from $13.67 to $14.78,
and a weighted average contract life of 8.5 years.
22
23
A summary of the status of the Company's stock option plan as of June 30,
1997 and changes during the year ending on that date is presented below:
Weighted
Average
Exercise
Options Shares Price
Outstanding at beginning of year -- --
Granted 1,548,471 $13.92
Exercised -- --
Forfeited (1,398) 14.78
---------
Outstanding at June 30, 1997 1,547,073 $13.92
========= ======
Options exercisable at June 30, 1997 516,157 $13.92
========= ======
The Company applies the provisions of APB Opinion No. 25 in accounting
for its stock option plan, as allowed under SFAS No. 123, Accounting for
Stock-Based Compensation. Accordingly, no compensation cost has been
recognized for options granted to employees. Had compensation cost for
these plans been determined based on the fair value at the grant dates
for awards under those plans consistent with the methods of SFAS No. 123,
the Company's pro forma net income and pro forma earnings per share would
have been as follows:
1997
--------------------------
As Reported Proforma
Net income $7,363,681 $6,510,387
Earnings per share $ .46 $ .41
In determining the above pro forma disclosure, the fair value of options
granted during the year was estimated on the date of grant using the
Black-Scholes option-pricing model with the following weighted average
assumptions: expected volatility - 18.23%, expected life of grant - 3.83
years, risk-free interest rate - 6.28%, and expected dividend rate -
1.70%. The weighted average fair value of options granted during the
fiscal year ended June 30, 1997 was $2.69 per share.
Management Recognition and Retention Plan - The MRRP provides for the
Company's Board of Directors to award restricted stock to officers and
key employees as well as non-employee directors. The MRRP authorizes the
Company to grant up to 687,700 shares of Company stock. One-fifth of the
shares granted to date vested immediately on the date of grant. The
remainder will vest at a rate of 25% per year over the next four
anniversary dates of the grants. As is the case with the SOP, shares
granted will
23
24
be deemed vested in the event of retirement, disability, or death. The
shares available for award under this plan were purchased on the open
market at a total cost of $13.0 million. An additional 25,704 shares at a
cost of $472,000 were purchased using a portion of the $5 per share
special distribution attributable to ungranted shares. Approximately $3.2
million in compensation expense was recognized during the current year
related to the MRRP. The following table presents the status of the MRRP
as of June 30, 1997, and changes during the year:
Weighted
Average
Grant
Restricted Stock Award Plan Shares Price
Outstanding at beginning of year -- --
Granted 619,540 $ 17.41
Vested (123,908) 18.07
Forfeited (600) 17.25
--------
Outstanding at June 30, 1997 495,032 $ 17.25
======== =========
Employee Stock Ownership Plan - In connection with the Conversion (Note
1), the Company established an Employee Stock Ownership Plan ("ESOP"). In
order to fund the ESOP, 900,000 shares of the Corporation's common stock
were purchased on December 28, 1995 by the ESOP with the proceeds of a
$9.0 million loan from the Corporation's wholly owned subsidiary, HFNC
Investment Corp. Unearned ESOP shares are shown as a reduction of
shareholders' equity. As the loan is internally leveraged, the note
receivable from the ESOP is not reported as an asset nor is the ESOP's
debt reported as a liability. An additional 230,154 shares,costing $4.2
million, were purchased by the plan using the $5 per share special
distribution attributable to unallocated shares in the plan. Expense
related to the ESOP was $1.5 million and $424,000 for the years ended
June 30, 1997 and 1996, respectively.
Other Postretirement Benefits - The Company provides certain health care
and life insurance benefits for substantially all of its retired
employees. The Company's postretirement plans currently are not funded.
As discussed in Note 1, the Company adopted SFAS No. 106, resulting in an
increase in accrued postretirement health care costs of $1.7 million and
a decrease in net income of $1.1 million (after deeferred income tax
credits of $650,000), which has been included in the Company's
consolidated statement of income for the year ended June 30, 1996. The
status of the plans were as follows:
Accumulated postretirement benefit obligation at June 30, 1997 and June
30, 1996:
1997 1996
---------- ----------
Retirees $ 457,067 $ 460,129
Fully eligible active plan participants 572,783 629,967
Other active plan participants 830,975 836,692
---------- ----------
Accumulated postretirement benefit obligation 1,860,825 1,926,788
Unrealized net gain 260,081 8,103
---------- ----------
Accrued postretirement benefit liability $2,120,906 $1,934,891
========== ==========
24
25
Net periodic postretirement benefit cost for the period ended June 30,
1997 and June 30, 1996 consisted of the following components:
1997 1996
---------- ----------
Service cost - benefits earned during the year $ 91,491 $ 115,169
Interest cost on accumulated postretirement
benefit obligation 132,418 135,406
Unrecognized gain (5,537) ---
--------- ---------
Net periodic postretirement benefit cost $ 218,372 $ 250,575
========= =========
The assumed health care cost trend rate used in measuring the accumulated
postretirement benefit obligation as of June 30, 1997 was 9%, decreasing
linearly each successive year until it reaches 6% in 2000, after which it
remains constant. A one percentage point increase in the assumed health
care cost trend rate for each year would increase the accumulated
postretirement benefit obligation as of June 30, 1997 by approximately
$327,000 and net annual postretirement benefit cost by approximately
$46,000. The assumed discount rate used in determining the accumulated
postretirement benefit obligation for both years was 8%.
10. DEFERRED COMPENSATION AGREEMENTS AND NON-EMPLOYEE DIRECTORS'
RETIREMENT PLAN
The Company has entered into deferred compensation agreements with the
President and CEO, Executive Vice President, Vice President and
Treasurer, and certain other Vice Presidents and is providing for the
present value of such benefits over the anticipated remaining periods of
employment. The agreements will be funded through life insurance policy
investments owned by the Company, on the lives of such employees.
Deferred compensation expense was approximately $32,000, $31,000 and
$115,000 for the years ended June 30, 1997, 1996 and 1995, respectively.
On August 25, 1994, the Company adopted the Non-employee Directors'
Retirement Plan (the "Directors' Plan"). Under the Directors' Plan, a
non-employee director becomes a participant upon completion of ten years
of continuous service as a director. Full benefits under the Director's
Plan are payable at the later of attaining age 65 or retiring from the
Board of Directors. Retirement with reduced benefits is available
beginning at age 62. The annual benefit for a retired director is equal
to the amount of compensation to which the director was entitled to
receive in the twelve months preceding retirement. This annual benefit is
to be paid quarterly for a ten year period.
The Directors' Plan also contains provisions for death benefits to a
surviving spouse at 100% of the retirement benefit that would have been
paid to the director upon retirement or would be payable over the
remaining term if the director was already receiving retirement benefits.
In the year ended June 30, 1995, the Company accrued approximately
$750,000 related to the Directors' Plan. This accrual represented vested
benefits as of the adoption date and benefits accumulated from the date
of adoption through June 30, 1995. Such pension expense for the years
ended June 30, 1997 and 1996 was approximately $54,000 and $25,000,
respectively.
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26
11. COMMITMENTS AND CONTINGENCIES
Loan Commitments - The Company, in the normal course of business, is a
party to financial instruments and commitments which involve, to varying
degrees, elements of risk in excess of the amounts recognized in the
consolidated financial statements. These financial instruments and
commitments include unused consumer lines of credit and commitments to
extend credit. Loan commitments, excluding undisbursed portions of loans
in process, were approximately $15.7 million at June 30, 1997.
Commitments, which are disbursed subject to certain limitations, extend
over periods of time with the majority of such commitments disbursed
within a six-month period. Also, at June 30, 1997, the Company had
commitments approximating $12.7 million representing available credit
under open line loans and approximately $600,000 under outstanding
letters of credit.
Concentrations of Credit Risk - Most of the Company's business activity
is with customers in the Charlotte, North Carolina area. The majority of
the Company's loans are residential mortgage loans, construction loans
for residential property and land loans for development of residential
real estate. The Company's policy generally permits mortgage loans up to
80% of the value of the real estate that is pledged as collateral or up
to 95% with private mortgage insurance.
Interest Rate Risk - The Company's profitability depends to a large
extent on its net interest income, which is the difference between
interest income from loans and investments and interest expense on
deposits and other borrowed funds. Like most financial institutions, the
Company's interest income and interest expense are significantly affected
by changes in market interest rates and other economic factors beyond its
control. The Company's interest-earning assets consist primarily of
long-term, fixed-rate mortgage loans and investments which adjust more
slowly to changes in interest rates than its interest-bearing liabilities
which are primarily term deposits and advances. Accordingly, the
Company's earnings would be adversely affected during periods of rising
interest rates and would be positively impacted during periods of
declining interest rates.
Litigation - In June 1995, a lawsuit was initiated against the
Association by a borrower's affiliated companies in which the plaintiffs
alleged that the Association wrongfully set-off certain funds in an
account being held and maintained by the Association. In addition, the
plaintiffs alleged that as a result of the wrongful set-off, the
Association wrongfully dishonored a check in the amount of $270,000.
Plaintiffs further alleged that the actions on behalf of the Association
constituted unfair and deceptive trade practices, thereby entitling
plaintiffs to recover treble damages and attorney fees. The Association
denied any wrongdoing and filed a motion for summary judgment. Upon
consideration of the motion, the United States Bankruptcy Judge entered a
Recommended Order Granting Summary Judgment, recommending the dismissal
of all claims asserted against the Association. The Recommended Order is
now before the United States District Court for the Western District of
North Carolina and the parties are awaiting the Federal District Court's
decision of whether to enter an Order Granting Summary Judgment in
accordance with the Recommended Order by the United States Bankruptcy
Judge.
In December 1996, the Association filed a suit against the borrower and
his company and against the borrower's wife, daughter and a company owned
by his wife and daughter, alleging transfers of assets to the wife,
daughter, and their company in fraud of creditors, and asking that the
fraudulent transfers be set aside. The objective of the lawsuit is to
recover assets which may be used to satisfy a portion of the judgments
obtained in favor of the Association in prior litigation. The borrower's
wife filed a
26
27
counterclaim against the Association alleging that she borrowed $750,000
from another financial institution, secured by a deed of trust on her
principal residence, the proceeds of which were paid to the Association
for application on a debt owed by one of her husband's corporations,
claiming that officers of the Association promised to resume making loans
to her husband's corporation after the payment. Home Federal and its
officers vigorously deny all of her allegations. The case is scheduled
for discovery in September 1997, after which the Association intends to
file a motion for summary judgment for dismissal of the counterclaim.
In February 1997, two companies affiliated with those referred to in the
first paragraph above filed an additional action against two executive
officers of the Association and against an officer of another financial
institution. The action was removed from the state court and is presently
pending in the United States Bankruptcy Court for the Western District of
North Carolina. At the same time, the borrower, who is affiliated with
all of these companies, also filed an action against the two executive
officers of the Association and against an officer of another financial
institution. The Complaints in both actions assert virtually identical
claims. The plaintiffs in both lawsuits allege that the officers of both
financial institutions engaged in a conspiracy to wrongfully declare
loans to be in default so as to eliminate those companies as borrowers of
the Association. Plaintiffs allege misrepresentation, breach of fiduciary
duty, constructive fraud, interference with business expectancy, wrongful
bank account set-off, and unfair and deceptive acts and practices.
Plaintiffs claim actual damages, treble damages and punitive damages
together with interest, attorneys' fees and other costs. The Association
has agreed to indemnify both of its officers with respect to costs,
expense and liability which might arise in connection with both of these
cases.
In July 1997, the above borrower and affiliated companies filed an
additional action against HFNC Financial Corp., the Association, and the
other financial institution referred to in the paragraph above, alleging
that previous judgments in favor of the Association and the other
financial institution obtained in prior litigation were obtained by the
perpetration of fraud on the Bankruptcy Court, U.S. District Court, and
the 4th Circuit Court of Appeals. The plaintiffs are seeking to have the
judgments set aside on that basis. The Association has not yet filed a
responsive pleading. The Association vehemently denies that any fraud was
perpetrated upon the courts and intends to vigorously contest this
matter.
In August 1997, the borrower filed a lawsuit against attorneys for the
Association, attorneys for the other financial institution, and two
United States Bankruptcy Judges in which the borrower alleges that the
defendants have conspired against him and his corporations by allowing
the Association to obtain judgments against him and his various
corporations.
The Association and its officers continue to deny any liability in the
above described cases and continue to vigorously defend against the
claims. However, based on the advice of legal counsel, the Association is
unable to give an opinion as to the likely outcome of the litigation or
estimate the amount or range of potential loss, if any.
12. REGULATORY CAPITAL REQUIREMENTS
The Association is subject to various regulatory capital requirements
imposed by the federal financial institution agencies. Failure to meet
minimum capital requirements can result in certain mandatory and possibly
additional discretionary actions by regulators that, if undertaken, could
have a direct material effect on the Company's financial statements.
Under capital adequacy guidelines and the regulatory
27
28
framework for prompt corrective action, the Association must meet
specific capital guidelines that involve quantitative measures of the
Association's assets, liabilities and certain off-balance-sheet items as
calculated under regulatory accounting practices. The Association's
capital amounts and classification are also 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 Association to maintain minimum amounts and ratios.
Under regulations of the OTS, the Association must have: (i) core capital
equal to 3% of adjusted total assets, (ii) tangible capital equal to 1.5%
of adjusted total assets and (iii) total capital equal to 8.0% of
risk-weighted assets. In measuring compliance with all three capital
standards, institutions must deduct from their capital (with several
exceptions primarily for mortgage banking subsidiaries and insured
depository institution subsidiaries) their investments in, and advances
to, subsidiaries engaged (as principal) in activities not permissible for
national banks, and certain other adjustments. Management believes, as of
June 30, 1997, that the Association meets all capital adequacy
requirements to which it is subject.
The following is a reconciliation of the Association's equity reported in
the consolidated financial statements under generally accepted accounting
principles to OTS regulatory capital requirements (dollars in thousands):
Tangible Core Risk-Based
Capital Capital Capital
--------- --------- ---------
June 30, 1997
Total equity as reported in the consolidated financial
statements $ 172,894 $ 172,894 $ 172,894
General allowance for loan losses -- -- 5,936
Unrealized loss on available for sale securities (3,951) (3,951) (3,951)
Investments not includable in regulatory capital (1,716) (1,716) (1,746)
--------- --------- ---------
Regulatory capital $ 167,227 $ 167,227 $ 173,133
========= ========= =========
June 30, 1996
Total equity as reported in the consolidated financial
statements $ 161,163 $ 161,163 $ 161,163
General allowance for loan losses
-- -- 4,770
Unrealized loss on available for sale securities
(787) (787) (787)
Investments not includable in regulatory capital
(1,587) (1,587) (1,667)
--------- --------- ---------
Regulatory capital $ 158,789 $ 158,789 $ 163,479
========= ========= =========
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29
The Association's actual and required capital amounts and ratios are
summarized as follows (in thousands):
Minimum
Actual Requirement
--------------------------- ------------------------
Amount Ratio Amount Ratio
June 30, 1997
Tangible capital (to total assets) $167,227 18.9% $13,291 1.5%
Core capital (to adjusted total assets) $167,227 18.9% $26,582 3.0%
Risk-based capital (to risk-weighted assets) $173,133 36.5% $37,960 8.0%
June 30, 1996
Tangible capital (to total assets) $158,789 22.3% $10,667 1.5%
Core capital (to adjusted total assets) $158,789 22.3% $21,332 3.0%
Risk-based capital (to risk-weighted assets) $163,479 42.9% $30,462 8.0%
As of June 30, 1997 and 1996, the most recent respective notifications
from the OTS classified the Association as well capitalized under the
regulatory framework for prompt corrective action. There are no
conditions or events since the most recent notification that management
believes have changed the Association's category. To be categorized as
well capitalized, the Association must maintain minimum ratios of total
capital to risk-weighted assets, core capital to risk-weighted assets and
core capital to adjusted total assets.
The Association's actual and minimum capital requirements to be well
capitalized under prompt corrective action provisions are as follows
(dollars in thousands):
Minimum
Actual Requirement
--------------------------- -------------------------
Amount Ratio Amount Ratio
June 30, 1997
Tier I Capital (to adjusted total assets) $167,227 18.9% $44,303 5.0%
Tier I Capital (to risk-weighted assets) $167,227 35.2% $28,470 6.0%
Total Capital (to risk-weighted assets) $173,133 36.5% $47,450 10.0%
June 30, 1996
Tier I Capital (to adjusted total assets) $158,789 22.3% $35,555 5.0%
Tier I Capital (to risk-weighted assets) $158,789 41.7% $22,847 6.0%
Total Capital (to risk-weighted assets) $163,479 42.9% $38,078 10.0%
On September 30, 1996, legislation was enacted to recapitalize the
Savings Association Insurance Fund. The effect of this legislation is to
require a one-time assessment on all federally insured savings
associations' deposits and was levied by the Federal Depository Insurance
Corporation ("FDIC") at .657% of insured deposits at June 30, 1996. The
amount of the Association's assessment was approximately $3.1 million.
The assessment was accrued as a charge to earnings in the quarter ended
September 30, 1996 and paid on November 27, 1996.
29
30
13. FAIR VALUE DISCLOSURE
The carrying and estimated fair value amounts of financial instruments as
of June 30, 1997 and 1996, are summarized below:
1997 1996
---------------------------------------- ----------------------------------------
Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
Assets:
Cash and cash
equivalents $ 31,370,359 $ 31,370,359 $ 9,605,598 $ 9,605,598
Securities available
for sale 175,710,104 175,710,104 248,445,333 248,445,333
Loans receivable 658,323,320 653,393,693 505,130,813 491,177,000
Stock of Federal
Home Loan Bank
of Atlanta 6,450,000 6,450,000 5,062,100 5,062,100
Other assets 6,151,280 6,151,280 5,907,147 5,907,147
Liabilities:
Demand deposits $ 73,567,414 $ 73,567,414 $ 70,419,963 $ 70,419,963
Time deposits 370,272,128 370,720,757 378,150,953 380,838,000
Other borrowed funds 277,000,000 277,354,949 85,000,000 84,975,000
Other liabilities 4,961,756 4,961,756 4,361,974 4,361,974
Cash and cash equivalents have maturities of three months or less, and
accordingly, the stated amount of such instruments is deemed to be a
reasonable estimate of fair value. The fair value of securities is based
on quoted market prices obtained from independent pricing services. The
fair values of loans, time deposits and other borrowings are estimated
based on present values using applicable risk-adjusted spreads to the
U.S. Treasury curve and other applicable market rates to approximate
current entry-value interest rates applicable to each category of such
financial instruments. Investment in stock of the Federal Home Loan Bank
is required by law for every federally insured savings institution. No
ready market exists for this stock, and it has no quoted market value.
However, redemption of this stock has historically been at par value.
Accordingly, the stated amount is deemed to be a reasonable estimate of
fair value. Other assets primarily represent accrued interest receivable;
other liabilities primarily represent advances from borrowers for taxes
and insurance and accrued interest payable. Since these financial
instruments will typically be received or paid within three months, the
stated amounts of such instruments are deemed to be a reasonable estimate
of fair value.
The Company had off-balance sheet financial commitments to originate
loans and fund unused consumer lines of credit (see Note 11) of $29.0
million and $31.0 million at June 30, 1997 and 1996, respectively. Since
the loan commitments are at interest rates that approximate current
market rates, the estimated fair value of the commitments have no other
financial statement impact.
Fair value estimates are made at a specific point in time, based on
relevant market information and information about the financial
instrument. These estimates do not reflect any premium or discount that
could result from offering for sale the Company's entire holdings of a
particular financial instrument. Because no active market exists for a
significant portion of the Company's financial instruments, fair value
estimates are based on judgments regarding future expected loss
experience, current economic
30
31
conditions, current interest rates and prepayment trends, risk
characteristics of various financial instruments, and other factors.
These estimates are subjective in nature and involve uncertainties and
matters of significant judgment and therefore cannot be determined with
precision. Changes in any of these assumptions used in calculating fair
value also would significantly affect the estimates. Further, the fair
value estimates were calculated as of June 30, 1997 and 1996. Changes in
market interest rates and prepayment assumptions could change
significantly the fair value.
Fair value estimates are based on existing on and off-balance sheet
financial instruments without attempting to estimate the value of
anticipated future business and the value of assets and liabilities that
are not considered financial instruments. For example, the Company has
significant assets and liabilities that are not considered financial
assets or liabilities including real estate, deferred tax liabilities and
premises and equipment. In addition, the tax ramifications related to the
realization of the unrealized gains and losses can have a significant
effect on fair value estimates and have not been considered in any of
these estimates.
14. SPECIAL DISTRIBUTION TO SHAREHOLDERS
On March 18, 1997, the Company paid to its shareholders a special
distribution of $78.9 million, or $5 per share. The Company has
determined that 95% of all shareholder distributions during the year
represent a return of shareholder capital. Consequently, the return of
capital portion has been reflected in the Company's financial records as
a reduction of additional paid-in capital and the remainder has been
reflected as a reduction of retained income.
15. HFNC FINANCIAL CORP.
The following condensed statements of financial condition, as of June 30,
1997 and 1996 and condensed statements of income and cash flows for the
year ended June 30, 1997 and for the period from August 29, 1995 (date of
incorporation) to June 30, 1996 for HFNC Financial Corp. should be read
in conjunction with the consolidated financial statements and the notes
thereto.
Statement of Financial Position 1997 1996
Assets
Cash and cash equivalents $ 42,904 $ 553,980
Equity investment in subsidiaries 188,324,313 245,950,476
Deferred tax asset 990,521 --
------------ ------------
Total $189,357,738 $246,504,456
============ ============
Liabilities and Shareholders' Equity
Note payable $ 28,000,000
Other liabilities 297,821
Shareholders' equity 161,059,917 $246,504,456
------------ ------------
Total $189,357,738 $246,504,456
============ ============
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32
Statement of Income 1997 1996
Dividends from subsidiaries $ 75,912,925 $ 50,000
Interest income 14,365 3,980
------------ ------------
Total income 75,927,290 53,980
------------ ------------
Interest expense 651,778 --
Other expense 674,150 --
------------ ------------
Total expense 1,325,928 --
Income before taxes and equity in
undistributed earnings of subsidiaries 74,601,362 53,980
Income tax benefit 988,963 --
------------ ------------
Income before equity in earnings of subsidiaries 75,590,325 53,980
Equity in undistributed earnings of subsidiaries
(excess of dividends from subsidiaries over
earnings from subsidiaries) (68,226,644) 7,520,122
------------ ------------
Total $ 7,363,681 $ 7,574,102
============ ============
Statement of Cash Flows 1997 1996
Operating activities:
Net income $ 7,363,681 $ 7,574,102
Adjustments to reconcile net income to net cash
provided by operating activities:
Deferred income tax benefit (990,521) --
Dividends on unallocated ESOP and MRRP shares, net (6,394,971) --
Amortization of unearned stock compensation 3,764,021 --
Increase in other liabilities 297,821
Equity in undistributed earnings of subsidiaries
(excess of dividends from subsidiaries over earnings
from subsidiaries) 68,226,644 (7,520,122)
------------- ------------
Net cash provided by operating activities 72,266,675 53,980
Investing activities:
Purchase of capital stock of subsidiaries -- (167,937,938)
------------- -------------
Net cash used in investing activities -- (167,937,938)
------------- -------------
Financing activities:
Net proceeds from sale of common stock -- 168,437,938
Proceeds from note payable 28,000,000 --
Dividends paid (83,071,050) --
Purchases of restricted stock for benefit plans (17,706,701) --
-------------- -------------
Net cash (used in) provided by financing activities (72,777,751) 168,437,938
Net increase in cash and cash equivalents (511,076) 553,980
Cash and cash equivalents at beginning of period 553,980 --
------------- -------------
Cash and cash equivalents at end of period $ 42,904 $ 553,980
============= =============
**********
32
33
HFNC FINANCIAL CORP.
CONSOLIDATED CONDENSED BALANCE SHEETS
(Unaudited)
AS OF
--------------------------------
MARCH 31, JUNE 30,
1998 1997
------------- -------------
ASSETS
CASH AND CASH EQUIVALENTS:
Cash $ 7,550,233 $ 9,934,359
Federal funds sold 12,168,000 21,436,000
------------- -------------
Total 19,718,233 31,370,359
------------- -------------
SECURITIES - Available for sale, at fair value (amortized cost:
$129,288,280 and $169,285,103, at March 31 and June 30, respectively) 132,253,852 175,710,104
LOANS RECEIVABLE, NET 790,254,193 658,323,320
REAL ESTATE, NET 2,573,609 867,876
OFFICE PROPERTIES AND EQUIPMENT, NET 9,989,286 10,099,107
STOCK OF FEDERAL HOME LOAN BANK OF ATLANTA - At cost 13,650,000 6,450,000
DEFERRED INCOME TAX ASSET, NET 4,722,024 3,390,125
OTHER ASSETS 6,392,766 6,709,218
------------- -------------
TOTAL $ 979,553,963 $ 892,920,109
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
DEPOSITS $ 432,053,516 $ 443,839,542
OTHER BORROWED FUNDS 368,800,000 277,000,000
OTHER LIABILITIES 9,780,651 11,020,650
------------- -------------
Total liabilities 810,634,167 731,860,192
SHAREHOLDERS' EQUITY:
Common stock, par value $0.01 per share: 25,000,000 shares
authorized; 17,192,500 shares issued and outstanding 171,925 171,925
Additional paid-in capital 89,971,485 89,967,883
ESOP loan and unvested restricted stock (19,741,959) (23,137,490)
Retained income 96,694,518 90,106,224
Unrealized gain on securities available for sale (net of deferred taxes:
$1,141,745 and $2,473,626 at March 31 and June 30, respectively) 1,823,827 3,951,375
------------- -------------
Total shareholders' equity 168,919,796 161,059,917
------------- -------------
TOTAL $ 979,553,963 $ 892,920,109
============= =============
See notes to consolidated condensed financial statements.
1
34
HFNC FINANCIAL CORP.
CONSOLIDATED CONDENSED STATEMENTS OF INCOME
(Unaudited)
THREE MONTHS ENDED NINE MONTHS ENDED
MARCH 31, MARCH 31,
1998 1997 1998 1997
------------------------------ ------------------------------
INTEREST INCOME:
Interest on loans $ 15,554,946 $12,605,762 $ 43,965,366 $35,835,117
Interest on securities 2,606,528 4,010,549 8,177,630 12,966,122
------------ ----------- ------------ -----------
Total 18,161,474 16,616,311 52,142,996 48,801,239
------------ ----------- ------------ -----------
INTEREST EXPENSE:
Interest on deposits 5,590,335 5,801,495 17,427,204 17,682,886
Interest on other borrowed funds 4,748,825 2,906,014 12,587,958 7,243,373
------------ ----------- ------------ -----------
Total 10,339,160 8,707,509 30,015,162 24,926,259
------------ ----------- ------------ -----------
NET INTEREST INCOME 7,822,314 7,908,802 22,127,834 23,874,980
PROVISION FOR LOAN LOSSES (RECOVERY
OF ALLOWANCE) (47,768) 239,283 (45,707) 200,149
------------ ----------- ------------ -----------
NET INTEREST INCOME AFTER PROVISION FOR
LOAN LOSSES (RECOVERY OF ALLOWANCE) 7,870,082 7,669,519 22,173,541 23,674,831
------------ ----------- ------------ -----------
OTHER OPERATING INCOME:
Service charges and fees 195,496 170,613 509,111 558,808
Gain on sale of securities 907,808 19,379 5,741,123 19,379
Other income 67,134 123,564 224,398 367,408
------------ ----------- ------------ -----------
Total 1,170,438 313,556 6,474,632 945,595
------------ ----------- ------------ -----------
OTHER OPERATING EXPENSES:
Personnel expenses 2,427,662 3,302,129 7,630,470 7,756,832
Federal deposit insurance premiums 69,974 70,930 211,100 593,317
Special SAIF recapitalization assessment -- -- -- 3,077,275
Occupancy 446,799 434,425 1,371,192 1,244,569
Net cost of real estate operations 6,315 20,266 125,238 101,192
Advertising 181,517 253,433 640,362 626,414
Data processing 125,378 119,962 347,461 315,016
Other expenses 594,248 742,356 1,854,965 2,238,283
------------ ----------- ------------ -----------
Total 3,851,893 4,943,501 12,180,788 15,952,898
------------ ----------- ------------ -----------
INCOME BEFORE INCOME TAXES 5,188,627 3,039,574 16,467,385 8,667,528
PROVISION FOR INCOME TAXES 2,029,791 1,170,236 6,442,041 3,336,998
------------ ----------- ------------ -----------
NET INCOME $ 3,158,836 $ 1,869,338 $ 10,025,344 $ 5,330,530
============ =========== ============ ===========
Earnings per share $ 0.20 $ 0.12 $ 0.64 $ 0.33
Earnings per share assuming dilution $ 0.20 $ 0.11 $ 0.61 $ 0.33
Dividends per share $ 0.08 $ 5.07 $ 0.22 $ 5.19
See notes to consolidated condensed financial statements.
2
35
HFNC FINANCIAL CORP.
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED MARCH 31, 1998 AND 1997
(Unaudited)
NET UNREALIZED
ESOP AND GAIN (LOSS) ON
UNVESTED SECURITIES
COMMON ADDITIONAL RETAINED RESTRICTED AVAILABLE FOR
STOCK PAID-IN CAPITAL INCOME STOCK SALE (1) TOTAL
------------- --------------- ------------- ------------- ---------------- -------------
BALANCE,
JUNE 30, 1996 $171,925 $ 168,390,571 $ 86,896,095 $ (8,700,000) $ (254,135) $ 246,504,456
Net income -- -- 5,330,530 -- -- 5,330,530
Shares released from ESOP
and restricted stock trusts -- 303,575 -- 2,866,603 -- 3,170,178
Shares purchased for ESOP
and restricted stock trusts -- -- -- (15,949,032) -- (15,949,032)
Dividends paid -- (75,997,906) (5,954,990) -- -- (81,952,896)
Change in net unrealized
loss on securities
available for sale -- -- -- -- 1,632,565 1,632,565
-------- ------------- ------------ ------------ ----------- -------------
BALANCE,
MARCH 31, 1997 $171,925 $ 92,696,240 $ 86,271,635 $(21,782,429) $ 1,378,430 $ 158,735,801
======== ============= ============ ============ =========== =============
BALANCE,
JUNE 30, 1997 $171,925 $ 89,967,883 $ 90,106,224 $(23,137,490) $ 3,951,375 $ 161,059,917
Net income -- -- 10,025,344 -- -- 10,025,344
Shares released from ESOP
and restricted stock trusts -- 3,602 -- 3,395,531 -- 3,399,133
Dividends paid -- -- (3,437,050) -- -- (3,437,050)
Change in net unrealized
gain on securities
available for sale -- -- -- -- (2,127,548) (2,127,548)
-------- ------------- ------------ ------------ ----------- -------------
BALANCE,
MARCH 31, 1998 $171,925 $ 89,971,485 $ 96,694,518 $(19,741,959) $ 1,823,827 $ 168,919,796
======== ============= ============ ============ =========== =============
(1) Net of deferred income taxes.
See notes to consolidated condensed financial statements.
3
36
HFNC FINANCIAL CORP.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
NINE MONTHS ENDED
MARCH 31,
---------------------------------
1998 1997
---------------------------------
OPERATING ACTIVITIES:
Net income $ 10,025,344 $ 5,330,530
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation 492,217 373,830
Net amortization of premiums on investment securities 124,308 338,277
Amortization of net deferred loan fees (1,526,695) (1,310,887)
Provision for loan loss (recovery of allowance) (45,707) 200,149
Provision for losses on real estate 4,381 92,379
Amortization of unearned stock compensation 3,399,133 3,170,178
Gain on sales of:
Real estate (39,331) (90,437)
Investments (5,741,123) (19,379)
Decrease (increase) in other assets 316,452 (189,214)
(Decrease) increase in other liabilities (1,239,997) 2,520,729
------------- -------------
Net cash provided by operating activities 5,768,982 10,416,155
------------- -------------
INVESTING ACTIVITIES:
Proceeds from maturities of investment securities 34,966,184 5,000,000
Proceeds from sales of securities available for sale 55,979,989 67,279,569
Purchases of securities available for sale (52,062,538) (6,950,000)
Purchases of Federal Home Loan Bank stock (7,200,000) (312,300)
Principal repayment on mortgage-backed securities 6,729,985 9,405,098
Proceeds from sales of real estate 1,406,872 2,214,110
Net loan originations (133,436,127) (112,564,945)
Purchases of office properties and equipment (382,397) (4,588,133)
------------- -------------
Net cash used in investing activities (93,998,032) (40,516,601)
------------- -------------
FINANCING ACTIVITIES:
Decrease in deposits (11,786,026) (713,128)
Proceeds from other borrowed funds 153,000,000 140,000,000
Repayments of other borrowed funds (61,200,000) --
Purchases of restricted stock for benefit plan -- (15,949,032)
Dividends paid (3,437,050) (81,952,896)
------------- -------------
Net cash provided by financing activities 76,576,924 41,384,944
------------- -------------
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (11,652,126) 11,284,498
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 31,370,359 9,605,598
------------- -------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 19,718,233 $ 20,890,096
============= =============
SUPPLEMENTAL DISCLOSURES:
Cash paid during the period for:
Interest $ 30,265,045 $ 25,226,620
Income taxes 6,402,190 2,781,284
Loans foreclosed 3,077,656 936,473
Change in unrealized (loss) gain on investment
securities available for sale, net of taxes (2,127,548) 1,632,565
See notes to consolidated condensed financial statements.
4
37
HFNC FINANCIAL CORP.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
HFNC Financial Corp. (the "Company") was incorporated under North Carolina law
in August 1995 by Home Federal Savings and Loan Association (the "Association")
in connection with the conversion of the Association from a federally chartered
mutual savings and loan association to a federally chartered stock savings and
loan association, the issuance of the Association's stock to the Company and the
offer and sale of the Company's common stock by the Company (the "Conversion").
The Conversion, completed on December 28, 1995, resulted in the issuance and
sale of 17,192,500 shares of $0.01 par value common stock. The gross proceeds of
the Conversion totaled $171,925,000, of which $171,925 was allocated to common
stock and $168,266,013 (net of conversion costs of $3,487,062) is included in
additional paid-in capital. Approximately 50% of the net proceeds from the
Conversion were used to acquire 100% of the common stock of the Association.
Substantially all of the remaining net proceeds from the Conversion were
retained by HFNC Investment Corp., a wholly owned subsidiary of the Company.
The accompanying consolidated condensed financial statements of the Company have
been prepared in accordance with instructions to Form 10-Q. Accordingly, they do
not include all of the information and footnotes required by generally accepted
accounting principles for complete financial statements. However, such
information reflects all adjustments (consisting solely of normal recurring
adjustments) which are, in the opinion of management, necessary for a fair
statement of results for the interim periods.
The results of operations for the three and nine months ended March 31, 1998 are
not necessarily indicative of the results to be expected for the year ending
June 30, 1998. The consolidated financial statements and notes thereto should be
read in conjunction with the audited financial statements and notes thereto for
the year ended June 30, 1997, contained in the Company's 1997 annual report.
Earnings Per Share -- Earnings per share has been computed by dividing net
income by the weighted average number of shares of common stock outstanding
during the period. In accordance with generally accepted accounting principles,
employee stock ownership plan and restricted stock shares are only considered
outstanding for the basic earnings per share calculations when they are vested
or committed to be released. The weighted average shares outstanding were
15,718,872 and 15,660,061, respectively, for the three and nine months ended
March 31, 1998, and 15,785,575 and 16,199,519, respectively, for the three and
nine months ended March 31, 1997.
Stock options and unvested restricted stock represented additional potentially
dilutive securities and are given effect in the computation of earnings per
share assuming dilution. Potential dilution from these options and restricted
shares amounted to 14,611 and 459,781 shares, respectively, for the quarter
ended March 31, 1998 and 135,394 and 557,067 shares, respectively, for the nine
months ended March 31, 1998. Potential dilution from these options and
restricted shares amounted to 121,269 and 563,792
5
38
shares, respectively, for the quarter ended March 31, 1997, while no potentially
dilutive securities were outstanding for a significant period prior to the March
1997 quarter. The total weighted average shares outstanding utilized in
computing earnings per share assuming dilution for the three and nine months
ended March 31, 1998 therefore amounted to 16,193,264 and 16,352,522 shares,
respectively. The shares outstanding assuming dilution for the three and nine
months ended March 31, 1997 amounted to 16,470,636 and 16,370,784 shares,
respectively.
2. LITIGATION
In June 1995, a lawsuit was initiated against the Association by a borrower's
affiliated companies in which the plaintiffs alleged that the Association
wrongfully set-off certain funds in an account being held and maintained by the
Association. In addition, the plaintiffs alleged that as a result of the
wrongful set-off, the Association wrongfully dishonored a check in the amount of
$270,000. Plaintiffs further alleged that the actions on behalf of the
Association constituted unfair and deceptive trade practices, thereby entitling
plaintiffs to recover treble damages and attorney fees. The Association denied
any wrongdoing and filed a motion for summary judgment. Upon consideration of
the motion, the United States Bankruptcy Judge entered a Recommended Order
Granting Summary Judgment, recommending the dismissal of all claims asserted
against the Association. On October 11, 1997, the United States District Court
for the Western District of North Carolina entered an Order Granting Summary
Judgment in accordance with the Recommended Order by the United States
Bankruptcy Judge. The borrower has appealed the Order Granting Summary Judgment
in favor of the Association.
In December 1996, the Association filed a suit against the borrower and his
company and against the borrower's wife, daughter and a company owned by his
wife and daughter, alleging transfers of assets to the wife, daughter, and their
company in fraud of creditors, and asking that the fraudulent transfers be set
aside. The objective of the lawsuit is to recover assets which may be used to
satisfy a portion of the judgments obtained in favor of the Association in prior
litigation. The borrower's wife filed a counterclaim against the Association
alleging that she borrowed $750,000 from another financial institution, secured
by a deed of trust on her principal residence, the proceeds of which were paid
to the Association for application on a debt owed by one of her husband's
corporations, claiming that officers of the Association promised to resume
making loans to her husband's corporations after the payment. Home Federal and
its officers vigorously deny all of her allegations. On February 18, 1998 the
Association filed a Motion for Summary Judgment seeking dismissal of the
counterclaim. Oral argument on the Motion was heard on April 28, 1998 and the
Association is currently awaiting a ruling on the Motion.
In February 1997, two companies affiliated with those referred to in the first
paragraph above filed an additional action against two executive officers of the
Association and against an officer of another financial institution. The action
was removed from the state court to the United States Bankruptcy Court for the
Western District of North Carolina. At the same time, the borrower, who is
affiliated with all of these companies, also filed an action in the Superior
Court for Mecklenburg County, North Carolina against the two executive officers
of the Association and against an officer of another financial institution. The
Complaints in both actions assert virtually identical claims. The plaintiffs in
both lawsuits allege that the officers of both financial institutions engaged in
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a conspiracy to wrongfully declare loans to be in default so as to eliminate
those companies as borrowers of the Association. Plaintiffs allege
misrepresentation, breach of fiduciary duty, constructive fraud, interference
with business expectancy, wrongful bank account set-off, and unfair and
deceptive acts and practices. Plaintiffs claim actual damages, treble damages
and punitive damages together with interest, attorneys' fees and other costs. On
January 29, 1998, the Superior Court of Mecklenburg County granted the Motion
for Summary Judgment filed by the officers of the Association dismissing the
lawsuit against them. The borrower has appealed the Order granting summary
judgment in favor of the Association's officers. The litigation in the United
States Bankruptcy Court referenced above remains pending. The Association agreed
to indemnify both of its officers with respect to certain costs, expenses, and
liability that might arise in connection with both of these cases.
In July 1997, the above borrower and affiliated companies filed an additional
action in the United States District Court for the Western District of North
Carolina against HFNC Financial Corp., the Association, and the other financial
institution referred to in the paragraph above, alleging that previous judgments
in favor of Home Federal and the other financial institution obtained in prior
litigation were obtained by the perpetration of fraud on the Bankruptcy Court,
US District Court, and the 4th Circuit Court of Appeals. The plaintiffs are
seeking to have the judgments set aside on that basis. Home Federal has filed a
motion to dismiss this lawsuit and is awaiting ruling on that motion. The
Association vehemently denies that any fraud was perpetrated upon the courts and
intends to vigorously contest this matter.
In August 1997, the borrower filed another lawsuit action in the United States
District Court for the Western District of North Carolina against attorneys for
the Association, attorneys for the other financial institution, and two United
States Bankruptcy Judges in which the borrower alleges that the defendants have
conspired against him and his corporations by allowing the Association to obtain
judgments against him and his various corporations. All defendants have filed
motions to dismiss this lawsuit. On December 4, 1997, this lawsuit was dismissed
as to all defendants. The borrower has appealed. The Association agreed to
indemnify the attorneys for the Association with respect to certain costs,
expenses, and liabilities that might arise in connection with this matter.
On April 13, 1998 the borrower, individually, filed a voluntary petition for
Chapter 11 bankruptcy protection.
The Association, its officers and its attorneys continue to deny any liability
in the above-described cases and continue to vigorously defend against the
claims. However, based on the advice of legal counsel, the Association is unable
at the present time to give an opinion as to the likely outcome of the lawsuits
or estimate the amount or range of potential loss, if any.
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