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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [Fee Required]
For the Fiscal Year Ended September 30, 1996
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OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [No Fee Required]
For the transition period from ______________to___________________
Commission File Number: 0-24834
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MILTON FEDERAL FINANCIAL CORPORATION
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(Name of registrant as specified in its charter)
Ohio 31-1412064
- ------------------------------- ----------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
25 Lowry Drive, West Milton, Ohio 45383
---------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number: (513) 698-4168
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Securities registered pursuant to Section 12(b) of the Exchange Act:
None
-------------------------------------
Securities registered pursuant to Section 12(g) of the Exchange Act:
Common Shares, without par value
--------------------------------
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act during the
preceding 12 months (or for such shorter period that the issuer was required to
file such reports), and (2) has been subject to such filing requirements for the
past 90 days. Yes X No
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K (Section 229.405 of this Chapter) is not contained herein, and
will not be contained, to the best of registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of this
Form 10-K or any amendment to this Form 10-K. [ ]
Based upon the last sale price provided by The Nasdaq Stock Market, the
aggregate market value of the voting stock held by nonaffiliates of the issuer
on November 30, 1996, was $30,570,729.
2,401,432 of the issuer's common shares were issued and outstanding on November
30, 1996.
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DOCUMENTS INCORPORATED BY REFERENCE
Exhibit 99.2 attached hereto is incorporated by reference into Item 1 of this
Form 10-K.
The following sections of the definitive Proxy Statement for the 1997 Annual
Meeting of Shareholders of Milton Federal Financial Corporation are incorporated
by reference into Part III of this Form 10-K:
1. Board of Directors;
2. Executive Officers;
3. Compensation of Executive Officers and Directors;
4. Voting Securities and Ownership of Certain Beneficial Owners and
Management;
5. Certain Transactions with MFFC; and
6. Section 16(a) Beneficial Ownership Reporting Compliance.
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PART I
ITEM 1. BUSINESS
Milton Federal Financial Corporation, an Ohio corporation ("MFFC"), is a unitary
savings and loan holding company which owns all of the issued and outstanding
common shares of Milton Federal Savings Bank ("Milton Federal"), a federal
savings bank chartered under the laws of the United States. On October 6, 1994,
MFFC acquired all of the common shares issued by Milton Federal upon its
conversion from a mutual savings and loan association to a stock savings bank
(the "Conversion"). Prior to the Conversion, Milton Federal's name was Milton
Federal Savings and Loan Association.
GENERAL
Milton Federal is principally engaged in the business of making permanent first
mortgage loans secured by one- to four-family residential real estate located in
Milton Federal's designated lending area. Milton Federal also originates loans
for the construction of one- to four-family residential real estate and loans
secured by multifamily real estate (over four units) and nonresidential real
estate. The origination of consumer loans, including unsecured loans and loans
secured by deposits, automobiles, recreational vehicles and boats, and home
improvement loans constitutes a small portion of Milton Federal's lending
activities. Loan funds are obtained primarily from savings deposits, which are
insured up to applicable limits by the Federal Deposit Insurance Corporation
(the "FDIC"), borrowings from the Federal Home Loan Bank, and loan and
mortgage-backed and related securities repayments. In addition to originating
loans, Milton Federal invests in U.S. Government and agency obligations,
interest-bearing deposits in other financial institutions, mortgage-backed
securities, collateralized mortgage obligations ("CMOs") and real estate
mortgage investment conduits ("REMICs").
Milton Federal conducts business from its main office in West Milton, Ohio, and
from its full-service branch office located in Englewood, Ohio. Milton Federal's
designated lending area consists of portions of Miami, Montgomery and Darke
Counties, Ohio. Milton Federal's primary market area for savings deposits
consists of Miami and Montgomery Counties and all contiguous counties.
As a savings and loan holding company, MFFC is subject to regulation,
supervision and examination by the Office of Thrift Supervision of the United
States Department of the Treasury (the "OTS"). As a savings bank chartered under
the laws of the United States, Milton Federal is subject to regulation,
supervision and examination by the OTS and the FDIC. Deposits in Milton Federal
are insured up to applicable limits by the FDIC. Milton Federal is also a member
of the Federal Home Loan Bank of Cincinnati (the "FHLB").
Other than investing excess funds from the Conversion in investment and
mortgage-backed and related securities, MFFC's activities have been limited
primarily to holding the common stock of Milton Federal since acquiring such
common stock in connection with the Conversion. Consequently, the following
discussion focuses primarily on the business of Milton Federal.
In addition to the historic financial information included herein, the following
discussion contains forward-looking statements that involve risks and
uncertainties. Economic circumstances and
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MFFC's operations and actual results could differ significantly from those
discussed in those forward-looking statements. Some of the factors that could
cause or contribute to such differences are discussed herein, but also include
changes in the economy and interest rates in the nation and in MFFC's general
market area. See Exhibit 99.2 hereto, "Safe Harbor Under the Private Securities
Litigation Reform Act of 1995," which is incorporated herein by reference.
LENDING ACTIVITIES
GENERAL. Milton Federal's primary lending activity is the origination of
conventional mortgage loans secured by one- to four-family residential real
estate located in Milton Federal's designated lending area and home improvement
loans secured by second mortgages on properties on which Milton Federal has the
first mortgage. Loans for the construction of one- to four-family homes and
mortgage loans on multifamily properties containing five units or more and
nonresidential properties are also offered by Milton Federal. Milton Federal
does not originate loans insured by the Federal Housing Authority or loans
guaranteed by the Veterans Administration. In addition to mortgage lending,
Milton Federal makes unsecured loans and consumer loans secured by deposits,
automobiles, boats and recreational vehicles.
LOAN PORTFOLIO COMPOSITION. The following table presents certain information
with respect to the composition of Milton Federal's loan portfolio at the dates
indicated:
At September 30,
------------------------------------------------------------------------
1996 1995 1994
---------------------- --------------------- ---------------------
Percent Percent Percent
of Total of Total of Total
Amount Loans Amount Loans Amount Loans
------ ----- ------ ----- ------ -----
(Dollars in thousands)
Residential real estate loans:
One- to four-family
(first mortgage) $ 102,393 83.02% $ 88,899 84.45% $ 80,984 86.36%
Home equity (one- to four-family
second mortgage) 2,929 2.38 1,129 1.07 959 1.02
Multifamily 2,249 1.82 1,986 1.89 2,153 2.30
Nonresidential real estate loans 4,425 3.59 4,750 4.51 4,026 4.29
Construction loans 9,083 7.36 6,353 6.04 4,030 4.30
----------- -------- ----------- ------- ---------- -------
Total real estate loans 121,079 98.17 103,117 97.96 92,152 98.27
Consumer loans:
Automobile loans 1,929 1.56 1,847 1.75 1,356 1.44
Loans on deposits 199 0.16 193 0.18 190 0.20
Other consumer loans 130 0.11 115 0.11 81 0.09
----------- -------- ----------- ------- ---------- -------
Total consumer loans 2,258 1.83 2,155 2.04 1,627 1.73
----------- -------- ----------- ------- ---------- -------
Total loans 123,337 100.00% 105,272 100.00% 93,779 100.00%
----------- ======== ----------- ======= ---------- ========
Less:
Unearned and deferred income (627) (647) (647)
Loans in process (5,474) (3,534) (1,617)
Allowance for loan losses (487) (333) (269)
----------- ----------- ----------
Net loans $ 116,749 $ 100,758 $ 91,246
=========== =========== ==========
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LOAN MATURITY SCHEDULE. The following table sets forth certain information as of
September 30, 1996, regarding the dollar amount of loans maturing in Milton
Federal's portfolio based on their contractual terms to maturity. Demand loans
and loans having no stated schedule of repayments and no stated maturity are
reported as due in one year or less.
Due during the year ending Due 4-5 Due 6-10 Due 11-20 Due 20 or
September 30, years years years more years
--------------------------- after after after after
1997 1998 1999 9/30/96 9/30/96 9/30/96 9/30/96 Total
---- ---- ---- ------- ------- ------- ------- -----
Mortgage loans:
One- to four-family
(first mortgage) $ 145 $ 54 $ 68 $ 478 $ 13,000 $ 44,507 $ 44,141 $ 102,393
Home equity (one-
to four-family
second mortgage) 2,785 2 4 11 127 2,929
Multifamily and
nonresidential 4 283 1,026 1,593 2,225 1,543 6,674
Construction loans 1,563 1,070 6,450 9,083
Consumer loans 245 279 430 1,185 106 13 2,258
--------- --------- --------- --------- -------- -------- -------- ----------
Total loans $ 3,175 $ 1,902 $ 785 $ 2,700 $ 14,699 $ 47,942 $ 52,134 $ 123,337
========= ========= ========= ========= ======== ======== ======== ==========
The following table sets forth at September 30, 1996, the dollar amount of all
loans before net items, due after one year from September 30, 1996, which have
predetermined interest rates and floating or adjustable interest rates:
Floating or
Predetermined Adjustable
Rates Rates
----- -----
Mortgage loans:
One- to four-family residential $ 100,676 $ 1,572
Home equity loans 144
Multi-family and nonresidential 6,476 198
Construction loans 8,633 450
Consumer loans 2,013
------------
Total loans $ 117,942 $ 2,220
============ ===========
ONE- TO FOUR-FAMILY RESIDENTIAL REAL ESTATE LOANS. The primary lending activity
of Milton Federal has been the origination of permanent conventional loans
secured by one- to four-family residences, primarily single-family residences,
located within Milton Federal's designated lending area. Milton Federal also
originates loans for the construction of one- to four-family residences and home
equity loans secured by second mortgages on one- to four-family residential real
estate. Each of such loans is secured by a mortgage on the underlying real
estate and improvements thereon, if any.
OTS regulations limit the amount which Milton Federal may lend in relationship
to the appraised value of the real estate and improvements at the time of loan
origination. In accordance with such regulations, Milton Federal makes
fixed-rate loans on one- to four-family residences up to 95% of the value of the
real estate and improvements (the "Loan-to-Value Ratio" or "LTV"). Milton
Federal requires private mortgage insurance for such loans in excess of 90% of
the value of the real estate securing such loans. Residential real estate loans
are offered by Milton Federal for terms of up to 30 years. Milton Federal began
originating adjustable rate mortgage loans ("ARMs") in fiscal year 1995.
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ARMs are offered by Milton Federal for terms of up to 30 years. The interest
rate adjustment periods on the ARMs are either one year, three years or five
years. The interest rate adjustments on ARMs presently originated by Milton
Federal are tied to changes in the weekly average yield on the one-, three- and
five-year U.S. Treasury constant maturities index. Rate adjustments are computed
by adding a stated margin, typically 3%, to the index. The maximum allowable
adjustment at each adjustment date is usually 2% with a maximum adjustment of 6%
over the term of the loan. The initial rate is dependent, in part, on how often
the rate can be adjusted. Milton Federal originates ARMs which have initial
interest rates lower than the sum of the index plus the margin. Such loans are
subject to increased risk of delinquency or default due to increasing monthly
payments as the interest rates on such loans increase to the fully-indexed
level, although such increase is considered in Milton Federal's underwriting of
such loans.
The aggregate amount of Milton Federal's one- to four-family residential real
estate loans equaled approximately $105.3 million at September 30, 1996, and
represented 85.40% of loans at such date. At such date, loans secured by one- to
four-family residential real estate with outstanding balances of $597,000, or
.57% of its one- to four-family residential real estate loan balance, were more
than 90 days delinquent or nonaccruing. See "Delinquent Loans, Nonperforming
Assets and Classified Assets."
MULTIFAMILY RESIDENTIAL REAL ESTATE LOANS. In addition to loans on one- to
four-family properties, Milton Federal makes loans secured by multifamily
properties containing over four units. Such loans are made with fixed and
adjustable interest rates and a maximum LTV of 75%. ARMs on multifamily
properties are offered with the same adjustment periods and index as ARMs on
one- to four-family properties and typically with a margin of 4% over the index.
Multifamily lending is generally considered to involve a higher degree of risk
because the loan amounts are larger and the borrower typically depends upon
income generated by the project to cover operating expenses and debt service.
The profitability of a project can be affected by economic conditions,
government policies and other factors beyond the control of the borrower. Milton
Federal attempts to reduce the risk associated with multifamily lending by
evaluating the credit-worthiness of the borrower and the projected income from
the project and by obtaining personal guarantees on loans made to corporations
and partnerships. Milton Federal currently requires that borrowers agree to
submit financial statements and tax returns annually to enable Milton Federal to
monitor the loan.
At September 30, 1996, loans secured by multifamily properties totaled
approximately $2.2 million, or 1.82% of total loans, all of which were secured
by property located in Miami and Montgomery Counties, Ohio, and none of which
were more than 90 days delinquent or nonaccruing. See "Delinquent Loans,
Nonperforming Assets and Classified Assets."
CONSTRUCTION LOANS. Milton Federal makes loans for the construction of
residential and nonresidential real estate. Such loans are structured as
permanent loans with fixed and adjustable rates of interest and for terms of up
to 30 years. Almost all of the construction loans originated by Milton Federal
are made to owner-occupants for the construction of single-family homes by a
general contractor. The remainder are made to builders for small projects, some
of which have not been pre-sold.
Construction loans generally involve greater underwriting and default risks than
do loans secured by mortgages on existing properties due to the concentration of
principal in a limited number of loans and borrowers and the effects of general
economic conditions on real estate
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developments, developers, managers and builders. In addition, such loans are
more difficult to evaluate and monitor. Loan funds are advanced upon the
security of the project under construction, which is more difficult to value
before the completion of construction.
Moreover, because of the uncertainties inherent in estimating construction
costs, it is relatively difficult to evaluate accurately the LTVs and the total
loan funds required to complete a project. In the event a default on a
construction loan occurs and foreclosure follows, Milton Federal must take
control of the project and attempt either to arrange for completion of
construction or dispose of the unfinished project.
At September 30, 1996, a total of $9.1 million, or approximately 7.36% of Milton
Federal's total loans, consisted of construction loans. The majority of Milton
Federal's construction loans are secured by property in Miami and Montgomery
Counties and the economy of such lending area has been relatively stable.
NONRESIDENTIAL REAL ESTATE LOANS. Milton Federal also makes loans secured by
nonresidential real estate consisting primarily of retail stores, office
buildings and churches. Such loans are originated with a 21-year amortization
schedule, but with the balance due in a lump sum after seven years. Milton
Federal will extend such loans for two seven-year periods, if warranted upon
review of Milton Federal's underwriting criteria and the interest rate on the
loan is adjusted at each such extension. Such loans have a maximum LTV of 75%.
Nonresidential real estate lending is generally considered to involve a higher
degree of risk than residential lending due to the relatively larger loan
amounts and the effects of general economic conditions on the successful
operation of income-producing properties. If the cash flow on the property is
reduced, for example, as leases are not obtained or renewed, the borrower's
ability to repay may be impaired. Milton Federal has endeavored to reduce such
risk by evaluating the credit history and past performance of the borrower, the
location of the real estate, the quality of the management constructing and
operating the property, the debt service ratio, the quality and characteristics
of the income stream generated by the property and appraisals supporting the
property's valuation.
At September 30, 1996, Milton Federal had a total of $4.4 million invested in
nonresidential real estate loans, all of which were secured by property located
in Miami and Montgomery Counties, Ohio. Such loans comprised approximately 3.59%
of Milton Federal's total loans at such date. At such date Milton Federal had no
nonresidential real estate loans which were more than 90 days delinquent or
nonaccruing. See "Delinquent Loans, Nonperforming Assets and Classified Assets."
Federal regulations limit the amount of nonresidential mortgage loans which an
association may make to 400% of its capital. At September 30, 1996, Milton
Federal's nonresidential mortgage loans totaled 21.88% of Milton Federal's
capital.
CONSUMER LOANS. Milton Federal makes various types of consumer loans, including
unsecured loans and loans secured by deposits, automobiles, boats and
recreational vehicles. Such loans are made at fixed rates of interest only.
Milton Federal has been attempting to increase its consumer loan portfolio as
part of its interest rate risk management efforts.
Consumer loans may entail greater risk than do residential mortgage loans. The
risk of default on consumer loans increases during periods of recession, high
unemployment and other adverse
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economic conditions. Although Milton Federal has not had significant
delinquencies on consumer loans, no assurance can be provided that delinquencies
will not increase.
At September 30, 1996, Milton Federal had approximately $2.3 million, or 1.83%
of its total loans, invested in consumer loans. No consumer loans were more than
90 days delinquent or nonaccruing. See "Delinquent Loans, Nonperforming Assets
and Classified Assets."
COMMERCIAL LOANS. Through September 30, 1996, Milton Federal had not issued any
letters of credit or originated or purchased any loans for commercial, business
or agricultural purposes, other than loans secured by real estate. In fiscal
1997, Milton Federal plans to implement a commercial loan program, which will
include extending letters of credit and commercial loans to finance commercial
and industrial business activities including equipment financing, commercial
lines of credit and working capital.
LOAN SOLICITATION AND PROCESSING. Loan originations are developed from a number
of sources, including continuing business with depositors, borrowers and real
estate developers, periodic newspaper and radio advertisements, solicitations by
Milton Federal's lending staff and walk-in customers.
Loan applications for permanent mortgage loans are taken by loan personnel.
Milton Federal obtains a credit report, verification of employment and other
documentation concerning the credit-worthiness of the borrower. An appraisal of
the fair market value of the real estate on which Milton Federal will be granted
a mortgage to secure the loan is prepared by an independent fee appraiser
approved by the Board of Directors. An environmental study is conducted for all
business properties and for other real estate only if the appraiser or the loan
committee has reason to believe that an environmental problem may exist.
Commencing in 1992, Milton Federal required a survey of the property for every
real estate loan.
For multifamily and nonresidential mortgage loans, a personal guarantee of the
borrower's obligation to repay the loan is required. Milton Federal also obtains
information with respect to prior projects completed by the borrower. Upon the
completion of the appraisal and the receipt of information on the borrower, the
application for a loan is submitted to the Loan Committee for approval or
rejection if the loan does not exceed $300,000. If the loan amount exceeds
$300,000, the application is approved or rejected by the full Board of
Directors.
If a mortgage loan application is approved, title insurance is obtained on the
title to the real estate which will secure the mortgage loan. Prior to September
1990, Milton Federal did not require title insurance but did obtain an
attorney's opinion of title. Borrowers are required to carry fire and casualty
insurance and flood insurance, if applicable, and to name Milton Federal as an
insured mortgagee.
The procedure for approval of construction loans is the same as for permanent
mortgage loans, except that an appraiser evaluates the building plans,
construction specifications and estimates of construction costs. Milton Federal
also evaluates the feasibility of the proposed construction project and the
experience and financial status of the builder.
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Consumer loans are underwritten on the basis of the borrower's credit history
and an analysis of the borrower's income and expenses, ability to repay the loan
and the value of the collateral, if any.
Milton Federal's loans carry no pre-payment penalties but do provide that the
entire balance of the loan is due upon sale of the property securing the loan.
Milton Federal generally enforces such due-on-sale provisions.
LOAN ORIGINATIONS, PURCHASES AND SALES. Prior to 1995, Milton Federal had been
actively originating only new fixed-rate loans. In fiscal year 1995, Milton
Federal began to originate adjustable-rate loans in addition to fixed-rate
loans. Although Milton Federal has never sold loans, management has recently
originated, and intends in the future to originate, fixed-rate loans in a manner
which permits their sale into the secondary mortgage market. Milton Federal
intends to retain the servicing of loans sold in the secondary mortgage market.
At September 30, 1996, Milton Federal had approximately $11.0 million of one- to
four-family fixed-rate first mortgage loans which were classified as held for
sale. Milton Federal occasionally participates in loans originated by other
institutions.
The following table presents Milton Federal's mortgage loan origination and sale
activity for the periods indicated:
Year ended September 30,
-------------------------------------------
1996 1995 1994
---- ---- ----
(In thousands)
Loans originated
One- to four-family residential $ 29,774 $ 17,026 $ 25,511
Multifamily residential 71 86 332
Nonresidential 150 33 781
Construction 7,912 7,555 3,922
Consumer 1,717 1,857 1,142
----------- ----------- -----------
Total loans originated 39,624 26,557 31,688
----------- ----------- -----------
Loan participations purchased -- -- --
----------- ----------- -----------
Reductions:
Principal repayments (23,633) (16,905) (22,251)
Transfers from loans to real estate owned and
repossessed assets -- (70) (9)
----------- ----------- -----------
Total reductions (23,633) (16,975) (22,260)
Increase (decrease) in other items, net (1) 21 (42) (161)
----------- ----------- -----------
Net increase (decrease) $ 16,012 $ 9,540 $ 9,267
=========== =========== ===========
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<FN>
(1) Consists of unearned and deferred fees, deferred costs and allowance for
loan losses.
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OTS regulations generally limit the aggregate amount that a savings association
may lend to any one borrower to an amount equal to 15% of the association's
total capital for regulatory capital purposes plus any additional loan reserves
not included in total capital (collectively, "Lending Limit Capital"). A savings
association may lend to one borrower an additional amount not to exceed 10% of
the association's Lending Limit Capital if the additional amount is fully
secured by certain forms of "readily marketable collateral." Real estate is not
considered "readily marketable collateral." In addition, the regulations require
that loans to certain related or affiliated borrowers be aggregated for purposes
of such limits. An exception to these limits permits loans to one borrower of up
to $500,000 "for any purpose."
Based on such limits, Milton Federal was able to lend approximately $3.0 million
to any one borrower at September 30, 1996. The largest amount Milton Federal had
outstanding to one borrower was $742,072. Such loan was secured by a multi-unit
apartment building in Montgomery County and was current at September 30, 1996.
LOAN ORIGINATION AND OTHER FEES. Milton Federal realizes loan origination fees
and other fee income from its lending activities. In addition, Milton Federal
also realizes income from late payment charges, application fees, and fees for
other miscellaneous services.
Loan origination fees and other fees are a volatile source of income, varying
with the volume of lending, loan repayments and general economic conditions. All
nonrefundable loan origination fees and certain direct loan origination costs
are deferred and recognized as an adjustment to yield over the life of the
related loan.
DELINQUENT LOANS, NONPERFORMING ASSETS AND CLASSIFIED ASSETS. When a borrower
fails to make a required payment on a loan, Milton Federal attempts to cause the
deficiency to be cured by contacting the borrower. In most cases, deficiencies
are cured promptly.
When a real estate loan is fifteen days or more delinquent, the borrower is sent
a delinquency notice. When a loan is thirty days delinquent, Milton Federal
sends a letter to the borrower and may telephone the borrower. Depending upon
the circumstances, Milton Federal may also inspect the property and inform the
borrower of the availability of credit counseling from Milton Federal and
counseling agencies. When a loan becomes 90 days delinquent, it is generally
referred to an attorney for foreclosure, unless the Board of Directors deems
appropriate alternative payment arrangements to eliminate the arrearage. A
decision as to whether and when to initiate foreclosure proceedings is based on
such factors as the amount of the outstanding loan in relation to the original
indebtedness, the extent of the delinquency and the borrower's ability and
willingness to cooperate in curing delinquencies. If a foreclosure occurs, the
real estate is sold at public sale and may be purchased by Milton Federal.
Real estate acquired, or deemed acquired, by Milton Federal as a result of
foreclosure proceedings is classified as real estate owned ("REO") until it is
sold. When property is so acquired, or deemed to have been acquired, it is
initially recorded by Milton Federal at the fair value of the real estate, less
estimated costs to sell. Interest accrual, if any, ceases no later than the date
of acquisition of the real estate. Any reduction in fair value is reflected in a
valuation allowance account established by a charge to income. Costs incurred to
carry other real estate are charged to expense. Milton Federal had one REO
property at September 30, 1996, with a carrying value of $32,554.
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In the case of delinquencies on consumer loans, a notice is sent to the borrower
when payment is not received by the tenth business day after the payment due
date. When a payment is fifteen days past due, a letter is sent or the borrower
is contacted by telephone. If no payment or satisfactory promise is made by the
second due date, a collection officer makes a personal visit to the borrower's
residence. If an account is ninety days delinquent, the borrower is provided a
written notice that legal action will be taken if the account is not brought
current within ten days, and the failure to so bring the account current
generally results in repossession of the collateral, if any.
Milton Federal places a loan on nonaccrual status when the loan is delinquent 90
days or more, unless the value of the collateral provides sufficient equity to
warrant the continued accrual of interest.
The following table reflects the number and amount of loans in a delinquent
status as of the dates indicated:
At September 30,
-------------------------------------------------------------------------------------
1996 1995 1994
------------------------- ------------------------- ---------------------------
(dollars in thousands)
Percent of Percent of Percent of
Total Total Total
No. Amt. Loans No. Amt. Loans No. Amt. Loans
--- ---- ----- --- ---- ----- --- ---- -----
Loans delinquent for (1):
30-59 days 13 $ 337 0.27% 9 $ 413 0.39% 13 $ 436 0.46%
60-89 days 3 124 0.10 5 170 0.16 7 407 0.43
90 days and over 10 597 0.49 11 520 0.50 10 286 0.31
-- -------- ------- -- -------- -------- -- --------- -------
Total delinquent loans 26 $ 1,058(2) 0.86% 25 $ 1,103 1.05% 30 $ 1,129 1.20%
== ======== ==== == ======== ==== == ========= ====
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<FN>
(1) The number of days a loan is delinquent is measured from the day the payment was due under the terms of the
loan agreement.
(2) Of such amount, $979,558 is secured by one- to four-family real estate.
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The following table sets forth information with respect to the accrual and
nonaccrual status of Milton Federal's loans which are 90 days or more past due
and other nonperforming assets at the dates indicated:
At September 30,
-----------------------------------
1996 1995 1994
---- ---- ----
(Dollars in thousands)
Accruing loans delinquent more than 90 days (1) $ 285 $ 367 $ 226
Loans accounted for on a nonaccrual basis:
Real estate:
Residential 312 153 60
Nonresidential -- -- --
Consumer -- -- --
-------- -------- ---------
Total nonaccrual loans 312 153 60
Other nonperforming assets (2) 32 32 41
-------- -------- ---------
Total nonperforming assets $ 629 $ 552 $ 327
======== ======== =========
Total loan loss allowance $ 487 $ 333 $ 269
Total nonperforming assets as a percentage of total assets 0.35% 0.34% 0.22%
Loan loss allowance as a percent of nonperforming loans 81.57% 64.04% 94.06%
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<FN>
(1) All are secured by one- to four-family real estate.
(2) Other nonperforming assets represent real estate acquired by Milton Federal
through foreclosure, which is carried at the lower of the fair value of the
real estate, less selling expenses, or the unpaid principal balance of the
loan at the date of foreclosure.
As of and for the year ended September 30, 1996, no loans were considered
impaired within the scope of SFAS No. 114. During the year ended September 30,
1996, $26,075 would have been recorded on nonaccruing loans had such loans been
accruing pursuant to contractual terms. During such period, no interest income
was recorded on such loans. Management believes that no loans, other than loans
which are currently classified as nonaccrual, more than 90 days past due or
restructured, may be so classified in the near future due to concerns as to the
ability of the borrowers to comply with repayment terms.
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OTS regulations require that each thrift institution classify its own assets on
a regular basis. Problem assets are classified as "substandard," "doubtful" or
"loss." "Substandard" assets have one or more defined weaknesses and are
characterized by the distinct possibility that the insured institution will
sustain some loss if the deficiencies are not corrected. "Doubtful" assets have
the same weaknesses as "substandard" assets, with the additional characteristics
that (i) the weaknesses make collection or liquidation in full on the basis of
currently existing facts, conditions and values questionable and (ii) there is a
high possibility of loss. An asset classified "loss" is considered uncollectible
and of such little value that its continuance as an asset of the institution is
not warranted. The regulations also contain a "special mention" category,
consisting of assets which do not currently expose an institution to a
sufficient degree of risk to warrant classification but which possess credit
deficiencies or potential weaknesses deserving management's close attention.
Generally, Milton Federal classifies as "substandard" all loans that are
delinquent more than 60 days, unless management believes the delinquency status
is short-term due to unusual circumstances. Loans delinquent fewer than 60 days
may also be classified if the loans have the characteristics described above
rendering classification appropriate.
The aggregate amounts of Milton Federal's classified assets at the dates
indicated were as follows:
At September 30,
-----------------------------------
1996 1995 1994
---- ---- ----
Substandard $ 714 $ 370 $ 791
Doubtful 0 38 149
Loss 149 148 --
--------- --------- ---------
Total classified assets $ 863 $ 556 $ 940
========= ========= =========
Federal examiners are authorized to classify an association's assets. If an
association does not agree with an examiner's classification of an asset, it may
appeal this determination to the District Director of the OTS. Milton Federal
had no disagreements with the examiners regarding the classification of assets
at the time of the last examination.
OTS regulations require that Milton Federal establish prudent general allowances
for loan losses for any loan classified as substandard or doubtful. If an asset,
or portion thereof, is classified as loss, the association must either establish
specific allowances for losses in the amount of 100% of the portion of the asset
classified loss, or charge off such amount.
ALLOWANCE FOR LOAN LOSSES. Milton Federal maintains an allowance for loan losses
based upon a number of relevant factors, including, but not limited to, trends
in the level of nonperforming assets and classified loans, current and
anticipated economic conditions in the primary lending area, past loss
experience, possible losses arising from specific problem assets and changes in
the composition of the loan portfolio.
The single largest component of Milton Federal's loan portfolio consists of one-
to four-family residential real estate loans. Substantially all of these loans
are secured by residential real estate and require a down payment of 20% of the
lower of the sales price or appraisal value of the real estate. In addition,
these loans are secured by property in Milton Federal's designated lending area
consisting of portions of Miami, Montgomery and Darke Counties in Ohio. Milton
-13-
14
Federal's practice of making the majority of its loans in its designated lending
area and requiring a 20% down payment have contributed to a low historical
charge-off history.
In addition to one- to four-family residential real estate loans, Milton Federal
makes additional real estate loans, including home equity, multifamily
residential real estate, nonresidential real estate and construction loans.
These real estate loans are secured by property in Milton Federal's designated
lending area and also require the borrower to provide a down payment. Milton
Federal has not experienced any charge-offs from these other real estate loan
categories.
A small portion of Milton Federal's total loans consists of consumer loans,
primarily automobile loans. These loans typically have a lower down payment and
are secured by collateral that declines in value. Such loans therefore carry a
higher degree of risk than the real estate loans. Milton Federal has, however,
recorded less than $2,000 of charge-offs on consumer loans since these loans
have been offered.
The allowance for loan losses is reviewed quarterly by management's Asset
Classification Committee and the Board of Directors. While the Board of
Directors believes that it uses the best information available to determine the
allowance for loan losses, unforeseen market conditions could result in material
adjustments, and net earnings could be significantly adversely affected, if
circumstances differ substantially from the assumptions used in making the final
determination.
The following table sets forth an analysis of Milton Federal's allowance for
losses on loans for the periods indicated.
Year ended September 30,
-----------------------------------
1996 1995 1994
---- ---- ----
(Dollars in thousands)
Balance at beginning of period $ 333 $ 269 $ 227
Charge-offs (1) -- -- --
Recoveries -- -- --
Provision for loan losses (charged to operations) 154 64 42
-------- -------- ---------
Balance at end of period $ 487 $ 333 $ 269
======== ======== =========
Ratio of net charge-offs (recoveries) to average loans outstanding
during the period 0.00% 0.00% 0.00%
Ratio of allowance for loan losses to total loans 0.40 0.32 0.29
Allowance for loan losses as a percentage of nonperforming loans 81.57 64.04 94.06
- -------------------------------------------------------------------------------------------------------------------
<FN>
(1) Actual charge-offs for the year ended September 30, 1995, were $326 which rounds to $0 when rounding to the
nearest thousand. The entire amount of charge-offs were related to consumer loans.
-14-
15
The following schedule is a breakdown of the allowance for loan losses allocated
by type of loan and related ratios.
At September 30,
------------------------------------------------------------------------------------
1996 1995 1994
------------------------- ------------------------- --------------------------
Percent Percent Percent
of Loans of Loans of Loans
in Each in Each in Each
Category Category Category
to Total to Total to Total
Amount Loans Amount Loans Amount Loans
------ ----- ------ ----- ------ -----
(in Thousands)
Real estate and
construction loans $ 321 98.17% $ 298 97.96% $ 218 98.27%
Consumer loans 3 1.83 2 2.04 2 1.73
Unallocated 163 -- 33 -- 49 --
----------- ------- ----------- -------- ----------- -------
Total $ 487 100.00% $ 333 100.00% $ 269 100.00%
=========== ======= =========== ======== =========== =======
While management's periodic analysis of the adequacy of the allowance for loan
losses may allocate portions of the allowance for specific problem loan
situations, the entire allowance is available for any loan charge-offs that may
occur.
MORTGAGE-BACKED AND RELATED SECURITIES
MFFC maintains a significant portfolio of mortgage-backed securities in the form
of Federal Home Loan Mortgage Corporation ("FHLMC"), Federal National Mortgage
Association ("FNMA"), Government National Mortgage Association ("GNMA") and
Small Business Association ("SBA") participation certificates. Mortgage-backed
securities generally entitle MFFC to receive a portion of the cash flows from an
identified pool of mortgages, and FHLMC, FNMA, GNMA and SBA securities are each
guaranteed by their respective agencies as to principal and interest. MFFC has
also invested significant amounts in CMOs and REMICs. CMOs and REMICs are backed
by pools of mortgages that are insured or guaranteed by FNMA and FHLMC.
Although mortgage-backed and related securities generally yield less than
individual loans originated by Milton Federal, they present less credit risk. In
addition, MFFC has purchased adjustable-rate mortgage-backed and related
securities as part of its effort to reduce its interest rate risk. If interest
rates rise in general, including the interest paid by Milton Federal on its
liabilities, the interest rates on the loans backing the mortgage-backed and
related securities will also adjust upward. At September 30, 1996, all of the
$34.0 million of MFFC's mortgage-backed and related securities available for
sale and $13.5 million of MFFC's mortgage-backed and related securities held to
maturity had adjustable rates.
-15-
16
The following table sets forth information regarding Milton Federal's
mortgage-backed and related securities at the dates indicated.
At September 30,
---------------------------------------------------------
1996 1995
-------------------------- ---------------------------
Available Held to Available Held to
For Sale Maturity For Sale Maturity
-------- -------- -------- --------
(Dollars in thousands)
FNMA certificates $ 524 $ 5,904 $ 951 $ 6,863
GNMA certificates -- 918 1,961 2,955
FHLMC certificates 2,659 7,180 3,729 8,863
SBA certificates -- -- -- 39
Collateralized mortgage obligations
and REMICs 30,826 -- 10,469 7,254
----------- ----------- ----------- -----------
Total $ 34,009 $ 14,002 $ 17,110 $ 25,974
=========== =========== =========== ===========
-16-
17
The following table sets forth information regarding scheduled maturities,
amortized costs, market value and weighted average yields of MFFC's
mortgage-backed and related securities at September 30, 1996. Actual maturities
will differ from contractual maturities due to scheduled repayments and because
borrowers may have the right to call or prepay obligations with or without
prepayment penalties. The following table does not take into consideration the
effects of scheduled repayments or the effects of possible prepayments. The
weighted average yield has been computed using the historical amortized cost for
available-for-sale securities.
At September 30, 1996
----------------------------------------------------------------------------------------------
After After
One Year or Less One to Five Years Five to Ten Years After Ten Years
---------------- ----------------- ----------------- ---------------
Carrying Average Carrying Average Carrying Average Carrying Average
Value Yield Value Yield Value Yield Value Yield
----- ----- ----- ----- ----- ----- ----- -----
Securities available for sale
FNMA certificates $ -- --% $ -- --% $ -- --% $ 524 7.55%
FHLMC certificates -- -- -- -- -- -- 2,659 7.43
CMOs and REMICs -- -- -- -- -- -- 30,826 6.35
--------- ----- --------- ------- --------- ------- ---------- --------
Total $ -- --% $ -- --% $ -- --% $ 34,009 6.45%
========= ====== ========= ======== ========= ======== ========== ========
Securities held to maturity
FNMA certificates $ -- --% $ -- --% $ -- --% $ 5,904 6.71%
GNMA certificates -- -- -- -- 16 8.50 902 6.32
FHLMC certificates -- -- 4 12.00 -- -- 7,176 6.90
--------- ----- --------- -------- --------- -------- ---------- --------
Total $ -- --% $ 4 12.00% $ 16 8.50% $ 13,982 6.78%
========= ====== ========= ======== ========= ======== ========== ========
At September 30, 1996
-------------------------------------
Total
Mortgage-Backed Portfolio
-------------------------
Carrying Fair Average
Value Value Yield
----- ----- -----
Securities available for sale
FNMA certificates $ 524 $ 524 7.55%
FHLMC certificates 2,659 2,659 7.43
CMOs and REMICs 30,826 30,826 6.35
---------- --------- -------
Total $ 34,009 $ 34,009 6.45%
========== ========= =======
Securities held to maturity
FNMA certificates $ 5,904 5,795 6.71%
GNMA certificates 918 938 6.32
FHLMC certificates 7,180 7,074 6.90
---------- --------- -------
Total $ 14,002 $ 13,807 6.78%
========== ========= =======
For additional information, see Note 3 of the Notes to Consolidated Financial
Statements.
-17-
18
INVESTMENT ACTIVITIES
OTS regulations require that Milton Federal maintain a minimum amount of liquid
assets, which may be invested in U. S. Treasury obligations, securities of
various federal agencies, certificates of deposit at insured banks, bankers'
acceptances and federal funds. Milton Federal is also permitted to make
investments in certain commercial paper, corporate debt securities rated in one
of the four highest rating categories by one or more nationally recognized
statistical rating organizations, and mutual funds, as well as other investments
permitted by federal regulations. See "REGULATION."
The following table sets forth the composition of MFFC's interest-bearing
deposits and investment portfolio at the dates indicated:
At September 30,
----------------------------------------------------------------------------------
1996 1995
--------------------------------------- ----------------------------------------
Carrying % of Market % of Carrying % of Market % of
Value Total Value Total Value Total Value Total
----- ----- ----- ----- ----- ----- ----- -----
(Dollars in Thousands)
Interest-bearing deposits in other
financial institutions $ 809 8.2% $ 809 8.2% $ 752 6.4% $ 752 6.4%
Securities available for sale:
U.S. Government and federal
agency securities 8,507 86.5 8,507 86.7 11,063 93.5 11,063 93.5
Equity securities 15 0.2 15 0.2 15 0.1 15 0.1
Securities held to maturity:
U.S. Government and federal
agency securities 500 5.1 484 4.9 -- -- -- --
Equity securities -- -- -- -- -- -- -- --
-------- ----- -------- ----- --------- ------ --------- ------
Total interest-bearing deposits
and investment securities $ 9,831 100.0% $ 9,815 100.0% $ 11,830 100.0% $ 11,830 100.0%
======== ====== ========= ====== ========= ======= ========= =======
At September 30,
---------------------------------------
1994
---------------------------------------
Carrying % of Market % of
Value Total Value Total
----- ----- ----- -----
Interest-bearing deposits in other
financial institutions $ 25,165 89.3% $ 25,165 89.3%
Securities available for sale:
U.S. Government and federal
agency securities -- -- -- --
Equity securities -- -- -- --
Securities held to maturity:
U.S. Government and federal
agency securities 3,000 10.6 2,988 10.6
Equity securities 15 0.1 15 0.1
--------- ------ --------- ------
Total interest-bearing deposits
and investment securities $ 28,180 100.0% $ 28,168 100.0%
========= ====== ========= =======
-18-
19
The following table sets forth the contractual maturities, carrying values,
market values and average yields for MFFC's interest-bearing deposits in other
financial institutions and investment securities at September 30, 1996. The
weighted average yield has been computed using the historical amortized cost for
available-for-sale securities.
At September 30, 1996
---------------------------------------------------------------------------
After After
One Year or Less One to Five Years Five to Ten Years (2)
---------------- ----------------- ---------------------
Carrying Average Carrying Average Carrying Average
Value Yield Value Yield Value Yield
----- ----- ----- ----- ----- -----
(Dollars in thousands)
Interest-bearing deposits in
other financial institutions $ 809 5.60% $ -- --% $ -- --%
Securities available for sale:
U.S. Government and
federal agency securities 4,005 6.33 4,502 6.57 -- --
Securities held to maturity:
U.S. Government and
federal agency
securities -- -- -- -- 500 7.00
Equity securities (1) -- -- -- -- 15 --
---------- -------- ---------- -------- --------- --------
Total $ 4,814 6.21% $ 4,502 6.57% $ 515 7.00%
----- ========== ======= ========== ======== ========= =======
At September 30, 1996
------------------------------------------------
Total Interest-Bearing Deposits in Other
Financial Institutions and Investment Securities
------------------------------------------------
Average Weighted
Life Carrying Market Average
In Years Value Value Yield
-------- ----- ----- -----
(Dollars in thousands)
Interest-bearing deposits in other financial
institutions 0.01 $ 809 $ 809 5.60%
Securities available for sale:
U.S. Government and federal agency securities 1.48 8,507 8,507 6.46
Securities held to maturity:
U.S. Government and federal agency securities 9.17 500 484 7.00
Equity securities (1) N/A 15 15 --
-------- ---------- --------- --------
Total 1.75 $ 9,831 $ 9,815 6.42%
======== ========== ========= =======
- -----------------------------------------------------------------------------------------------------------------
<FN>
(1) Comprised of Intrieve, Incorporated ("Intrieve"), stock, which is reported
at the fair value, which approximates cost.
(2) All investment securities mature within ten years.
-19-
20
DEPOSITS AND BORROWINGS
GENERAL. Deposits have traditionally been the primary source of Milton Federal's
funds for use in lending and other investment activities. In addition to
deposits, Milton Federal derives funds from interest payments and principal
repayments on loans and mortgage-backed and related securities, income on
earning assets, service charges and gains on the sale of assets. Loan payments
are a relatively stable source of funds, while deposit inflows and outflows
fluctuate more in response to general interest rates and money market
conditions.
DEPOSITS. Deposits are attracted principally from within Milton Federal's
primary market area through the offering of a broad selection of deposit
instruments, including negotiable order of withdrawal ("NOW") accounts, money
market accounts, passbook savings accounts, term certificate accounts,
individual retirement accounts ("IRAs") and Keogh retirement accounts
("Keoghs"). Interest rates paid, maturity terms, service fees and withdrawal
penalties for the various types of accounts are established periodically by the
management of Milton Federal based on Milton Federal's liquidity requirements,
growth goals and interest rates paid by competitors. Milton Federal does not use
brokers to attract deposits.
At September 30, 1996, Milton Federal's certificates of deposit totaled $95.8
million, or 74.56% of total deposits. Of such amount, approximately $50.0
million in certificates of deposit mature within one year. Based on past
experience and Milton Federal's prevailing pricing strategies, management
believes that a substantial percentage of such certificates will renew with
Milton Federal at maturity. If there is a significant deviation from historical
experience, Milton Federal can utilize borrowings from the FHLB as an
alternative to this source of funds.
The following table sets forth the dollar amount of deposits in the various
types of savings programs offered by Milton Federal at the dates indicated:
As of September 30,
--------------------------------------------------------------------------------
1996 1995 1994
-------------------------- ------------------------ ---------------------
Transaction accounts:
NOW accounts (1) $ 9,202 7.16% $ 7,146 6.06% $ 8,276 6.14%
Money market accounts (2) 6,744 5.24 8,602 7.30 11,292 8.38
Passbook savings
accounts (3) 16,760 13.04 17,427 14.78 40,610 30.13
----------- ------- ----------- -------- ----------- -------
Total transaction
accounts 32,706 25.44 33,175 28.14 60,178 44.65
Certificates of deposit (4): 95,848 74.56 84,723 71.86 74,612 55.35
- ----------------------- ----------- ------- ----------- -------- ----------- -------
Total deposits (5) $ 128,554 100.00% $ 117,898 100.00% $ 134,790 100.00%
=========== ======= =========== ======== =========== ========
- -----------------------------------------------------------------------------------------------------------------
<FN>
(1) Milton Federal's weighted average interest rate paid on NOW accounts
fluctuates with the general movement of interest rates. At September 30,
1996, 1995 and 1994, the weighted average rates on NOW accounts were 2.40%,
2.08% and 1.91%, respectively.
(2) Milton Federal's weighted average interest rate paid on money market
accounts fluctuates with the general movement of interest rates. At
September 30, 1996, 1995 and 1994, the weighted average rates on money
market accounts were 3.00%, 3.00% and 2.75%, respectively.
(Footnotes continued on next page)
-20-
21
(3) Milton Federal's weighted average rate on passbook savings accounts
fluctuates with the general movement of interest rates. The weighted
average interest rate on passbook accounts was 2.52%, 2.52% and 2.50% at
September 30, 1996, 1995 and 1994, respectively.
(4) The interest rate on individual certificates of deposit remains fixed until
maturity. At September 30, 1996, 1995 and 1994, the weighted average rates
on certificates of deposit were 5.82%, 6.16% and 5.22%, respectively.
(5) IRAs and Keoghs are included in the various certificates of deposit
balances. IRAs and Keoghs totaled $18.5 million, $17.0 million and $16.1
million as of September 30, 1996, 1995 and 1994, respectively.
At September 30, 1996, scheduled maturities of certificates of deposit were as
follows (in thousands):
Year Ended September 30, Amount
------------------------ ------
1997 $ 50,046
1998 31,766
1999 4,855
2000 6,366
2001 2,815
---- -----------
$ 95,848
===========
The following table presents the amount of Milton Federal's certificates of
deposit of $100,000 or more by the time remaining until maturity as of September
30, 1996:
Maturity Amount
-------- ------
(In thousands)
Three months or less $ 796
Over 3 months to 6 months 859
Over 6 months to 12 months 219
Over 12 months 1,311
-----------
Total $ 3,185
===========
The following table sets forth Milton Federal's deposit account balance activity
for the periods indicated:
Year Ended September 30,
---------------------------------------------
1996 1995 1994
---- ---- ----
(In thousands)
Beginning balance $ 117,898 $ 134,790 $ 109,482
Deposits 160,602 158,975 165,708
Withdrawals (155,225) (180,180) (144,089)
------------ ------------ ------------
Net increases (decreases) before interest credited 5,377 (21,205) 21,619
Interest credited 5,279 4,313 3,689
------------ ------------ ------------
Ending balance $ 128,554 $ 117,898 $ 134,790
============ ============ ============
Net increase (decrease) $ 10,656 $ (16,892) $ 25,308
Percent increase (decrease) 9.04% (12.53%) 23.15%
-21-
22
BORROWINGS. The FHLB System functions as a central reserve bank providing credit
for its member institutions and certain other financial institutions. See
"REGULATION - Federal Home Loan Banks." As a member in good standing of the FHLB
of Cincinnati, Milton Federal is authorized to apply for advances from the FHLB
of Cincinnati, provided certain standards of creditworthiness have been met.
Under current regulations, an association must meet certain qualifications to be
eligible for FHLB advances. The extent to which an association is eligible for
such advances will depend upon whether it meets the Qualified Thrift Lender Test
(the "QTL Test"). See "REGULATION - OTS Regulations -- Qualified Thrift Lender
Test." If an association meets the QTL Test, it will be eligible for 100% of the
advances it would otherwise be eligible to receive. If an association does not
meet the QTL Test, it will be eligible for such advances only to the extent it
holds specified QTL Test assets. At September 30, 1996, Milton Federal was in
compliance with the QTL Test. As of September 30, 1996 and 1995, Milton Federal
had borrowed $17,489,203 and $5,260,000, respectively. Most of the borrowed
funds have been invested in mortgage-backed and related securities to leverage a
portion of Milton Federal's excess capital. Milton Federal borrowed $1 million
for approximately three months during fiscal year 1994 as a temporary source of
funds, rather than other alternatives, with the expectation that substantial
funds would be available following completion of the Conversion.
The following table sets forth certain information regarding FHLB advances for
the periods indicated:
Year ended September 30,
-----------------------------------------------------
1996 1995 1994
---- ---- ----
Maximum amount of FHLB advances
outstanding at any month end during year $ 17,825,795 $ 5,260,000 $ 1,000,000
Average amount of FHLB advances outstanding
during year 10,751,000 118,000 211,000
Weighted average interest rate of FHLB advances
outstanding during year 5.77% 5.93% 4.74%
Amount of FHLB advances outstanding at
end of year 17,489,203 5,260,000 --
Weighted average interest rate of FHLB advances
outstanding at end of year 5.70% 6.07% N/A
YIELDS EARNED AND RATES PAID
The spread between the average interest rate on interest-earning assets and the
average interest rate on interest-bearing liabilities decreased from 2.95%
during the year ended September 30, 1995, to 2.57% for the year ended September
30, 1996. The cost of funds of Milton Federal increased from 4.62% for the year
ended September 30, 1995, to 5.05% for the year ended September 30, 1996, due to
the upward climb of interest rates on deposits and increased borrowing during
the year. The yield on interest-earning assets increased from 7.57% for the year
ended September 30, 1995, to 7.62% for the year ended September 30, 1996. Upward
repricing of variable-rate mortgage-backed and related securities and purchases
of new higher yielding investment and mortgage-backed and related securities
contributed to the increase in the yield on interest-earning assets.
-22-
23
The following table sets forth certain information relating to MFFC's average
balance sheet information and reflects the average yield on interest-earning
assets and the average cost of interest-bearing liabilities for the years
indicated. Such yields and costs are derived by dividing income or expense by
the average monthly balance of interest-earning assets or interest-bearing
liabilities, respectively, for the years presented. Average balances are derived
from daily balances, which include nonaccruing loans in the loan portfolio, net
of the allowance for loan losses.
Year Ended September 30,
----------------------------------------------------------------------------------------------------
1996 1995 1994
---------------------------------- -------------------------------- -------------------------------
Average Interest Average Interest Average Interest
Outstanding Earned/ Yield/ Outstanding Earned/ Yield/ Outstanding Earned/ Yield/
Balance Paid Rate Balance Paid Rate Balance Paid Rate
------- ---- ---- ------- ---- ---- ------- ---- ----
(Dollars in thousands)
Interest-earning
assets: %
Interest-bearing
deposits in
other financial
institutions $ 1,952 $ 104 5.33% $ 4,478 $ 192 4.29% $ 5,424 $ 162 2.99%
Investment
securities
available for
sale (1) 9,404 599 6.40 11,210 740 6.60
Investment
securities held
to maturity 422 29 6.87 3,547 165 4.65
Mortgage-backed
and related
securities
available for
sale (1) 30,797 1,991 6.48 10,996 609 5.54
Mortgage-backed
and related securities
held to maturity 15,318 1,004 6.55 24,908 1,615 6.48 26,645 1,397 5.24
Loans receivable
(2) 107,321 8,859 8.25 94,504 7,913 8.37 86,665 7,463 8.61
Federal Home Loan
Bank stock 1,130 79 6.99 1,055 70 6.64 995 52 5.23
-------- ---------- -------- -------- -------- ------
Total interest-
earning assets 166,344 12,665 7.62 147,151 11,139 7.57 123,276 9,239 7.49
Noninterest-earning
assets:
Cash and amounts
due from depository
institutions 962 430 448
Premises and
equipment, net 1,471 1,489 1,551
Other nonearning
assets 2,363 2,453 1,805
-------- -------- --------
Total assets $171,140 $151,523 $127,080
======== ======== ========
(Continued on next page.)
-23-
24
Year Ended September 30,
--------------------------------------------------------------------------------------------------------
1996 1995 1994
------------------------------- --------------------------------- --------------------------------
Average Interest Average Interest Average Interest
Outstanding Earned/ Yield/ Outstanding Earned/ Yield/ Outstanding Earned/ Yield/
Balance Paid Rate Balance Paid Rate Balance Paid Rate
(Dollars in thousands)
Interest-bearing
liabilities:
NOW accounts $ 8,451 $ 160 1.89% $ 7,648 $ 150 1.96% $ 8,147 $ 159 1.95%
Money market
accounts 7,396 220 2.97 8,525 241 2.83 12,088 334 2.76
Passbook savings
accounts 17,498 439 2.51 17,588 445 2.53 21,087 527 2.50
Certificates of
deposit 90,873 5,380 5.92 79,335 4,393 5.54 70,967 3,601 5.07
----------- -------- ----------- ---------- ---------- ----------
Total deposits 124,218 6,199 4.99 113,096 5,229 4.62 112,289 4,621 4.11
Borrowings 10,751 620 5.77 118 7 5.93 211 10 4.74
----------- -------- ----------- ---------- ---------- ----------
Total interest-
earning
liabilities 134,969 6,819 5.05 113,214 5,236 4.62 112,500 4,631 4.12
-------- ---------- ----------
Noninterest-bearing
liabilities 1,321 1,401 936
----------- ----------- ----------
Total liabilities 136,290 114,615 113,436
Shareholders'
equity (3) 34,850 36,908 13,644
----------- ----------- ----------
Total liabilities and
shareholders'
equity $ 171,140 $ 151,523 $ 127,080
=========== =========== ==========
Net interest income;
interest rate
spread $ 5,846 2.57% $ 5,903 2,95% $ 4,608 3.37%
======== ====== ========== ====== ========== ======
Net interest margin
(net interest income
as a percent of
average interest-
earning assets) 3.51% 4.01% 3.74%
====== ====== ======
Average interest-
earnings assets to
interest-bearing
liabilities 123.25% 129.96% 109.58%
====== ====== ======
- ----------------------------------------------------------------------------------------------------------------------------------
<FN>
(1) Average balance includes unrealized gains and losses, while yield is based on amortized cost.
(2) Calculated net of deferred loan fees, loan discounts, loans in process and allowance for loan losses.
(3) Retained earnings only prior to September 30, 1995.
-24-
25
The following table describes the extent to which changes in interest rates and
changes in volume of interest-earning assets and interest-bearing liabilities
have affected MFFC's interest income and expense during the years indicated. For
each category of interest-earning assets and interest-bearing liabilities,
information is provided on changes attributable to (i) changes in volume (change
in volume multiplied by prior year rate), (ii) changes in rate (change in rate
multiplied by prior year volume) and (iii) total changes in rate and volume. The
combined effects of changes in both volume and rate, which cannot be separately
identified, have been allocated proportionately to the change due to volume and
the change due to rate:
Year Ended September 30,
--------------------------------------------------------------------------
1996 vs. 1995 1995 vs. 1994
-------------------------------------- ----------------------------------
Increase Increase
(Decrease) (Decrease)
Due to Due to
------ ------
Volume Rate Total Volume Rate Total
------ ---- ----- ------ ---- -----
(In thousands)
Interest income attributable to:
Interest-bearing deposits in
other financial institutions $ (127) $ 39 $ (88) $ (32) $ 62 $ 30
Investment securities available
for sale (119) (22) (141) 740 740
Investment securities held to
maturity 29 29 (165) (165)
Mortgage-backed and related
securities available for sale 1,262 120 1,382 609 609
Mortgage-backed and related
securities held to maturity (628) 17 (611) (96) 314 218
Loans receivable 1,059 (113) 946 661 (211) 450
Federal Home Loan Bank stock 5 4 9 3 15 18
---------- ---------- --------- -------- --------- ---------
Total interest income 1,481 45 1,526 1,720 180 1,900
---------- ---------- --------- -------- --------- ---------
Interest expense attributable to:
NOW accounts 15 (5) 10 (10) 1 (9)
Money market accounts (33) 12 (21) (101) 8 (93)
Passbook savings accounts (2) (4) (6) (88) 6 (82)
Certificates of deposit 669 318 987 446 346 792
Borrowings 613 -- 613 (5) 2 (3)
---------- ---------- --------- -------- --------- ---------
Total interest expense 1,262 321 1,583 242 363 605
---------- ---------- --------- -------- --------- ---------
Increase (decrease) in net interest
income $ 219 $ (276) $ (57) $ 1,478 $ (183) $ 1,295
========== ========== ========= ======== ========= =========
Milton Federal, like other financial institutions, is subject to interest rate
risk to the extent that its interest-earning assets reprice differently than its
interest-bearing liabilities. As a part of its effort to monitor its interest
rate risk, Milton Federal reviews the reports of the OTS which set forth the
application of the "net portfolio value" ("NPV") methodology adopted by the OTS
as part of its capital regulations to the assets and liabilities of Milton
Federal. Although Milton Federal is not currently subject to the NPV regulation
because such regulation does not apply to institutions with less than $300
million in assets and risk-based capital in excess of 12%, the application of
the NPV methodology may illustrate Milton Federal's interest rate risk.
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Generally, NPV is the discounted present value of the difference between
incoming cash flows on interest-earning and other assets and outgoing cash flows
on interest-bearing liabilities. The application of the methodology attempts to
quantify interest rate risk as the change in the NPV which would result from a
theoretical 200 basis point (1 basis point equals .01%) change in market
interest rates. Both a 200 basis point increase in market interest rates and a
200 basis point decrease in market interest rates are considered. If the NPV
would decrease more than 2% of the present value of the institution's assets
with either an increase or a decrease in market rates, the institution must
deduct 50% of the amount of the decrease in excess of such 2% in the calculation
of the institution's risk-based capital.
At September 30, 1996, 2% of the present value of Milton Federal's assets was
approximately $3.5 million. Because the interest rate risk of a 200 basis point
increase in market interest rates (which was greater than the interest rate risk
of a 200 basis point decrease) was $8.1 million at September 30, 1996, Milton
Federal would have been required to deduct approximately $2.3 million (50% of
the approximate $4.6 million difference) from its capital in determining whether
Milton Federal met its risk-based capital requirement. Regardless of such
reduction, however, Milton Federal's risk-based capital at September 30, 1996,
would still have exceeded the regulatory requirement by approximately $11.5
million.
Presented below, as of September 30, 1996 and 1995, is an analysis of Milton
Federal's interest rate risk as measured by changes in NPV for instantaneous and
sustained parallel shifts of 100 basis points in market interest rates. The
table also contains policy limits set by the Board of Directors of Milton
Federal as the maximum change in NPV that the Board of Directors deems advisable
in the event of various changes in interest rates. Such limits are established
with consideration of the dollar impact of various changes and Milton Federal's
strong capital position.
As illustrated in the table, NPV is more sensitive to rising rates than
declining rates. Such difference in sensitivity occurs principally because, as
rates rise, borrowers do not prepay fixed-rate loans as quickly as they do when
interest rates are declining. Thus, in a rising interest rate environment, the
amount of interest Milton Federal would receive on its loans would increase
relatively slowly as loans are slowly prepaid and new loans at higher rates are
made. Moreover, the interest Milton Federal would pay on its deposits would
increase rapidly because Milton Federal's deposits generally have shorter
periods to repricing. Assumptions used in calculating the amounts in this table
are OTS assumptions.
September 30, 1996 September 30, 1995
-------------------------- ------------------------
Change in
Interest Rate Board Limit $ Change % Change $ Change % Change
(Basis Points) % Change in NPV in NPV in NPV in NPV
-------------- -------- ------ ------ ------ ------
(Dollars in thousands)
+300 (40)% $ (12,184) (52)% $ (7,475) (28)%
+200 (30) (8,071) (35) (4,626) (17)
+100 (15) (4,024) (17) (2,120) (8)
0 0 0 0 0 0
-100 15 3,072 13 1,542 6
-200 20 4,738 20 2,573 10
-300 25 5,141 22 3,488 13
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As with any method of measuring interest rate risk, certain shortcomings are
inherent in the NPV approach. For example, although certain assets and
liabilities may have similar maturities or periods of repricing, they may react
in different degrees to changes in market interest rates. Also, the interest
rates on certain types of assets and liabilities may fluctuate in advance of
changes in market interest rates, while interest rates on other types may lag
behind changes in market rates. Further, in the event of a change in interest
rates, expected rates of prepayment on loans and mortgage-backed securities and
early withdrawal levels from certificates of deposit would likely deviate
significantly from those assumed in making the risk calculations.
At September 30, 1996, the Corporation exceeded the Board limit percentage
change for an increase in interest rates of 100, 200 and 300 basis points. As a
part of management's overall strategy to manage interest rate risk, the
mortgage-backed and related security portfolio was structured so that
substantially all of the mortgage-backed and related securities reprice on at
least an annual basis. In addition, management has increased consumer lending
although it still remains a small percentage of the overall loan portfolio.
Consumer loans typically have a significantly shorter weighted average maturity
and offer less exposure to interest rate risk. Management also began originating
adjustable-rate mortgage loans during fiscal 1995 as an additional tool to
manage interest rate risk. Milton Federal intends to sell a portion of the
fixed-rate mortgage loan portfolio and invest the funds in shorter-term or
adjustable-rate loans which have less exposure to interest rate risk.
COMPETITION
Milton Federal competes for deposits with other savings associations, commercial
banks and credit unions and with the issuers of commercial paper and other
securities, such as shares in money market mutual funds. The primary factors in
competing for deposits are interest rates and convenience of office location. In
making loans, Milton Federal competes with other savings associations,
commercial banks, consumer finance companies, credit unions, leasing companies,
mortgage companies and other lenders. Milton Federal competes for loan
originations primarily through the interest rates and loan fees offered and
through the efficiency and quality of services provided. Competition is affected
by, among other things, the general availability of lendable funds, general and
local economic conditions, current interest rate levels and other factors which
are not readily predictable.
The size of financial institutions competing with Milton Federal is likely to
increase as a result of changes in statutes and regulations eliminating various
restrictions on interstate and inter-industry branching and acquisitions. Such
increased competition may have an adverse effect upon Milton Federal.
SUBSIDIARIES
Milton Federal owns all of the outstanding shares of Milton Financial Service
Corporation ("Milton Financial"), the only asset of which is stock of Intrieve.
The net book value of Milton Federal's investment in Milton Financial at
September 30, 1996, was $15,005.
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PERSONNEL
As of September 30, 1996, Milton Federal had 43 full-time employees and 8
part-time employees. Milton Federal believes that relations with its employees
are good. Milton Federal offers health, disability and life insurance benefits.
None of the employees of Milton Federal are represented by a collective
bargaining unit. MFFC has no full-time employees.
REGULATION
GENERAL
As a savings bank organized under the laws of the United States, Milton Federal
is subject to regulation, examination and oversight by the OTS. Because Milton
Federal's deposits are insured by the FDIC, Milton Federal is also subject to
regulatory oversight by the FDIC. Milton Federal must file periodic reports with
the OTS concerning its activities and financial condition. Examinations are
conducted periodically by the OTS to determine whether Milton Federal is in
compliance with various regulatory requirements and is operating in a safe and
sound manner. Milton Federal is a member of the FHLB of Cincinnati.
MFFC is a savings and loan holding company within the meaning of the Home Owners
Loan Act, as amended (the "HOLA"). Consequently, MFFC is subject to regulation,
examination and oversight by the OTS and must submit periodic reports thereto.
Because MFFC is a corporation organized under Ohio law, it is subject to
provisions of the Ohio Revised Code applicable to corporations generally.
Congress is considering legislation which may eliminate the OTS and may require
that Milton Federal be regulated under federal law as a bank. As a result,
Milton Federal may become subject to additional regulation, examination and
oversight by the FDIC. In addition, MFFC might become a bank holding company
subject to examination, regulation and oversight by the Board of Governors of
the Federal Reserve Board ("FRB"), including greater activity and capital
requirements than imposed on it by the OTS.
OHIO CORPORATION LAW
MERGER MORATORIUM STATUTE. Chapter 1704 of the Ohio Revised Code regulates
certain takeover bids affecting certain public corporations which have
significant ties to Ohio. This statute prohibits, with some exceptions, any
merger, combination or consolidation and any of certain other sales, leases,
distributions, dividends, exchanges, mortgages or transfers between such an Ohio
corporation and any person who has the right to exercise, alone or with others,
10% or more of the voting power of such corporation (an "Interested
Shareholder"), for three years following the date on which such person first
becomes an Interested Shareholder. Such a business combination is permitted only
if, prior to the time such person first becomes an Interested Shareholder, the
Board of Directors of the issuing corporation has approved the purchase of
shares which resulted in such person first becoming an Interested Shareholder.
After the initial three-year moratorium, such a business combination may not
occur unless (1) one of the specified exceptions applies, (2) the holders of at
least two-thirds of the voting
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shares, and of at least a majority of the voting shares not beneficially owned
by the Interested Shareholder, approve the business combination at a meeting
called for such purpose, or (3) the business combination meets certain statutory
criteria designed to ensure that the issuing public corporation's remaining
shareholders receive fair consideration for their shares.
An Ohio corporation may, under certain circumstances, "opt out" of the statute
by specifically providing in its articles of incorporation that the statute does
not apply to any business combination of such corporation. However, the statute
still prohibits for twelve months any business combination that would have been
prohibited but for the adoption of such an opt-out amendment. The statute also
provides that it will continue to apply to any business combination between a
person who became an Interested Shareholder prior to the adoption of such an
amendment as if the amendment had not been adopted. Neither the Articles of
Incorporation of MFFC nor Milton Federal opt out of the protection afforded by
Chapter 1704.
CONTROL SHARE ACQUISITION. Section 1701.831 of the Ohio Revised Code (the
"Control Share Acquisition Statute") requires that certain acquisitions of
voting securities which would result in the acquiring shareholder owning 20%,
33-1/3%, or 50% of the outstanding voting securities of MFFC (a "Control Share
Acquisition") must be approved in advance by the holders of at least a majority
of the outstanding voting shares represented at a meeting at which a quorum is
present and a majority of the portion of the outstanding voting shares
represented at such a meeting, excluding the voting shares owned by the
acquiring shareholder. The Control Share Acquisition Statute was intended, in
part, to protect shareholders of Ohio corporations from coercive tender offers.
TAKEOVER BID STATUTE. Ohio law also contains a statute regulating takeover bids
for any Ohio corporation. Such statute provides that no offeror may make a
takeover bid unless (i) at least 20 days prior thereto the offeror announces
publicly the terms of the proposed takeover bid and files with the Ohio Division
of Securities (the "Securities Division") and provides the target company with
certain information in respect of the offeror, his ownership of the company's
shares and his plans for the company, and (ii) within ten days following such
filing either (a) no hearing is required by the Securities Division, (b) a
hearing is requested by the target company within such time but the Securities
Division finds no cause for hearing exists, or (c) a hearing is ordered and upon
such hearing the Securities Division adjudicates that the offeror proposes to
make full, fair and effective disclosure to offerees of all information material
to a decision to accept or reject the offer.
The takeover bid statute also states that no offeror shall make a takeover bid
if he owns 5% or more of the issued and outstanding equity securities of any
class of the target company, any of which were purchased within one year before
the proposed takeover bid, and the offeror, before making any such purchase,
failed to announce his intention to gain control of the target company, or
otherwise failed to make full and fair disclosure of such intention to the
persons from whom he acquired such securities. The United States District Court
for the Southern District of Ohio has determined that the Ohio takeover bid
statute is preempted by federal regulation.
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OFFICE OF THRIFT SUPERVISION
GENERAL. The OTS is an office in the Department of the Treasury and is
responsible for the regulation and supervision of all savings associations.
Deposits of federally chartered savings institutions are insured by the Savings
Association Insurance Fund of the FDIC. The OTS issues regulations governing the
operation of savings associations, regularly examines such associations and
imposes assessments on savings associations based on their asset size to cover
the cost of general supervision and examination. The OTS charters federally
chartered associations, such as Milton Federal, and prescribes their permissible
investments and activities, including the types of loans and investments in real
estate, subsidiaries and securities they may make. The OTS has authority over
mergers and acquisitions of control of federally chartered savings and loan
associations. The OTS also may initiate enforcement actions against savings
associations and certain persons affiliated with them for violations of laws or
regulations or for engaging in unsafe or unsound practices. If the grounds
provided by law exist, the OTS may appoint a conservator or receiver for a
savings association.
Savings associations are subject to regulatory oversight under various consumer
protection and fair lending laws. These laws govern, among other things,
truth-in-lending disclosure, equal credit opportunity, fair credit reporting and
community reinvestment. Failure to abide by federal laws and regulations
governing community reinvestment could limit the ability of an association to
open a new branch or engage in a merger. Community reinvestment regulations
evaluate how well and to what extent an institution lends and invests in its
designated service area, with particular emphasis on low- to moderate-income
areas. Milton Federal received an "Outstanding" rating under these regulations.
REGULATORY CAPITAL REQUIREMENTS. Milton Federal is required by OTS regulations
to meet certain minimum capital requirements. Such requirements call for
tangible capital of 1.5% of adjusted total assets, core capital (which for
Milton Federal consists solely of tangible capital) of 3.0% of adjusted total
assets and risk-based capital (which for Milton Federal consists of core capital
and general valuation allowances) of 8% of risk-weighted assets (assets and
certain off balance sheet items are weighted at percentage levels ranging from
0% to 100% depending on their relative risk). The OTS has proposed to amend the
core capital requirement so that those associations that do not have the highest
examination rating and an acceptable level of risk will be required to maintain
core capital of from 4% to 5%, depending on the association's examination rating
and overall risk. Milton Federal does not anticipate that it will be adversely
affected if the core capital requirements regulations is amended as proposed.
The following table sets forth the amount and percentage level of regulatory
capital of Milton Federal at September 30, 1996, and the amount by which it
exceeds its requirements. Tangible and core capital are reflected as a
percentage of adjusted total assets. Risk-based (or total) capital, which
consists of core and supplementary capital, is reflected as a percentage of
risk-weighted assets.
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At September 30, 1996
--------------------------------
Amount Percent
------ -------
(In thousands)
Tangible capital $ 20,226 11.56%
Requirement 2,624 1.50
----------- -------
Excess 17,602 10.06
Core capital 20,226 11.56
Requirement 5,248 3.00
----------- -------
Excess 14,978 8.56
Risk-based capital 20,562 24.25
Risk-based requirement 6,784 8.00
----------- -------
Excess 13,778 16.25
The OTS has adopted an interest rate risk component to the risk-based capital
requirement, although the implementation of that component has been delayed.
Pursuant to that requirement, each savings association would measure the effect
of an immediate 200 basis point change in interest rates on the value of its
portfolio, as determined under the methodology established by the OTS. See
"Description of Business - Yields Earned and Rates Paid." Pending implementation
of the interest rate risk component, the OTS has the authority to impose a
higher individualized capital requirement on any savings association it deems to
have excess interest rate risk. The OTS may also adjust the risk-based capital
requirement on an individualized basis to take into account risks due to
concentrations of credit and nontraditional activities.
The OTS has adopted regulations governing prompt corrective action to resolve
the problems of capital deficient and otherwise troubled savings associations.
At each successively lower defined capital category, an association is subject
to more restrictive and numerous mandatory or discretionary regulatory actions
or limits, and the OTS has less flexibility in determining how to resolve the
problems of the institution. In addition, the OTS generally can downgrade an
association's capital category, notwithstanding its capital level, based on less
than satisfactory examination ratings in areas other than capital or, after
notice and opportunity for hearing, if the association is deemed to be in an
unsafe or unsound condition or to be engaging in an unsafe or unsound practice.
Each undercapitalized association must submit a capital restoration plan to the
OTS within 45 days after it becomes undercapitalized. Such institution will be
subject to increased monitoring and asset growth restrictions and will be
required to obtain prior approval for acquisitions, branching and engaging in
new lines of business. Furthermore, critically undercapitalized institutions
must be placed in conservatorship or receivership within 90 days of reaching
that capitalization level, except under limited circumstances. Milton Federal's
capital at September 30, 1996, meets the standards for the highest category, a
"well-capitalized" institution.
Federal law prohibits an insured institution from making a capital distribution
to anyone or paying management fees to any person having control of the
institution if, after such distribution or payment, the institution would be
undercapitalized. In addition, each company controlling an undercapitalized
institution must guarantee that the institution will comply with
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its capital plan until the institution has been adequately capitalized on an
average during each of four consecutive calendar quarters and must provide
adequate assurances of performance. The aggregate liability pursuant to such
guarantee is limited to the lesser of (a) an amount equal to 5% of the
institution's total assets at the time the institution became undercapitalized
or (b) the amount that is necessary to bring the institution into compliance
with all capital standards applicable to such association at the time the
institution fails to comply with its capital restoration plan.
LIMITATIONS ON CAPITAL DISTRIBUTIONS. The OTS imposes various restrictions or
requirements on the ability of associations to make capital distributions,
including dividend payments. An association is prohibited from declaring or
paying any dividends or from repurchasing any of its stock if, as a result, the
net worth of the association would be reduced below the amount required to be
maintained for the liquidation account established in connection with its mutual
to stock conversion. OTS regulations also establish a system limiting capital
distributions according to ratings of associations based on their capital level
and supervisory condition.
The first rating category is Tier 1, consisting of associations that, before and
after the proposed distribution, meet their fully phased-in capital
requirements. Associations in this category may make capital distributions
during any calendar year equal to the greater of 100% of net income, current
year-to-date, plus 50% of the amount by which the lesser of the association's
tangible, core or risk-based capital exceeds its fully phased-in capital
requirement for such capital component, as measured at the beginning of the
calendar year, or the amount authorized for a Tier 2 association. A Tier 1
association deemed to be in need of more than normal supervision by the OTS may
be downgraded to a Tier 2 or Tier 3 association. Milton Federal meets the
requirements for a Tier 1 association and has not been notified of any need for
more than normal supervision.
A Tier 2 association may make capital distributions of up to 75% of net income
over the most recent four quarters. Tier 3 associations do not meet current
minimum capital requirements and must obtain OTS approval of any capital
distribution. Tier 2 associations that propose to make a capital distribution in
excess of the noted safe harbor level must also obtain OTS approval. Tier 2
associations proposing to make a capital distribution within the safe harbor
provisions and Tier 1 associations proposing to make any capital distribution
need only submit written notice to the OTS 30 days prior to such distribution.
As a subsidiary of MFFC, Milton Federal is also required to give the OTS 30 days
notice prior to declaring any dividend on its stock. The OTS may object to the
distribution during that 30-day period based on safety and soundness concerns.
On October 21, 1996, the Corporation declared a special dividend of $2.50 per
share to all shareholders of record on November 4, 1996. The dividend is payable
on November 15, 1996. Additionally, in October, 1996, the Corporation began a
program authorizing the purchase of up to 5% of its outstanding common shares
over a six-month period. The shares will be purchased periodically in the
over-the-counter market. The number shares to be purchased and the price to be
paid will depend upon the availability of shares, the prevailing market prices
and any other considerations which may, in the opinion of the Corporation's
Board of Directors or management, affect the advisability of purchasing shares.
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LIQUIDITY. OTS regulations require that savings associations maintain an average
daily balance of liquid assets (cash, certain time deposits, bankers'
acceptances and specified United States Government, state or federal agency
obligations) equal to a monthly average of not less than 5% of its net
withdrawable savings deposits plus borrowings payable in one year or less.
Federal regulations also require each association to maintain an average daily
balance of short-term liquid assets of at least 1% of the total of its net
withdrawable savings accounts and borrowings payable in one year or less.
Monetary penalties may be imposed upon associations failing to meet these
liquidity requirements. The eligible liquidity of Milton Federal, as computed
under current regulations, at September 30, 1996, was approximately $8.7
million, or 6.59%, and exceeded the then applicable 5.0% liquidity requirement
by approximately $2.1 million.
QUALIFIED THRIFT LENDER TEST. Savings associations are required to meet the QTL
Test. Prior to September 30, 1996, there was only one QTL Test, which required
savings associations to maintain a specified amount of investments in assets
that are designated as qualifying thrift investments ("QTI"). QTIs are generally
related to domestic residential real estate and manufactured housing and include
stock issued by any FHLB, the FHLMC or the FNMA. Under this test, 65% of an
institution's "portfolio assets" (total assets less goodwill and other
intangibles, property used to conduct business and 20% of liquid assets) must
consist of QTI on a monthly average basis in 9 out of every 12 months. Congress
created a second QTL Test, effective September 30, 1996, pursuant to which a
savings association may also meet the QTL Test under the Internal Revenue Code
of 1986, as amended (the "Code"), for thrift institution status. According to
the test under the Code, at least 60% of the institution's assets ( on a tax
basis) must consist of specified assets (generally loans secured by residential
real estate or deposits, educational loans, cash and certain governmental
obligations). The OTS has not yet promulgated regulations for the new test. The
OTS may grant exceptions to the QTL Test under certain circumstances. If a
savings association fails to meet the QTL Test, the association and its holding
company become subject to certain operating and regulatory restrictions. A
savings association that fails to meet the QTL Test will not be eligible for new
FHLB advances. At September 30, 1996, Milton Federal met the QTL Test.
LENDING LIMIT. OTS regulations generally limit the aggregate amount that a
savings association can lend to one borrower or a group of related borrowers to
an amount equal to 15% of the association's Lending Limit Capital. A savings
association may loan to one borrower an additional amount not to exceed 10% of
the association's Lending Limit Capital, if the additional amount is fully
secured by certain forms of "readily marketable collateral." Real estate is not
considered "readily marketable collateral." See "THE BUSINESS OF MILTON FEDERAL
- - Lending Activities -- Loan Originations, Purchases and Sales."
TRANSACTIONS WITH INSIDERS AND AFFILIATES. Loans to executive officers,
directors and principal shareholders and their related interests must conform to
limits on loans to one borrower, and the total of such loans to executive
officers, directors, principal shareholders and their related interests cannot
exceed the association's total capital or 200% of total capital for eligible,
adequately capitalized institutions with less than $100 million in assets. Most
loans to directors, executive officers and principal shareholders must be
approved in advance by a majority of the "disinterested" members of the board of
directors of the association with any "interested" director not participating.
All loans to directors, executive officers and principal shareholders must be
made on terms substantially the same as offered to all employees of Milton
Federal. In addition, no loan may be made to an executive officer, except loans
for specific authorized purposes such as financing the education of the
executive officer's children
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or financing the purchase of the executive officer's primary residence. Milton
Federal was in compliance with such restrictions at September 30, 1996.
Savings associations must comply with Sections 23A and 23B of the Federal
Reserve Act (the "FRA") pertaining to transactions with affiliates. An affiliate
of a savings association is any company or entity that controls, is controlled
by or is under common control with the savings association. MFFC is an affiliate
of Milton Federal. Generally, Sections 23A and 23B of the FRA (i) limit the
extent to which a savings association or its subsidiaries may engage in "covered
transactions" with any one affiliate to an amount equal to 10% of such
institution's capital stock and surplus, (ii) limit the aggregate of all such
transactions with all affiliates to an amount equal to 20% of such capital stock
and surplus, and (iii) require that all such transactions be on terms
substantially the same, or at least as favorable to the association, as those
provided in transactions with a nonaffiliate. The term "covered transaction"
includes the making of loans, purchase of assets, issuance of a guarantee and
other similar types of transactions.
HOLDING COMPANY REGULATION. MFFC is a savings and loan holding company within
the meaning of the HOLA. The HOLA generally prohibits a savings and loan holding
company from controlling any other savings association or savings and loan
holding company, without prior approval of the OTS, or from acquiring or
retaining more than 5% of the voting shares of a savings association or holding
company thereof, which is not a subsidiary. Under certain circumstances, a
savings and loan holding company is permitted to acquire, with the approval of
the OTS, up to 15% of the previously unissued voting shares of an
undercapitalized savings association for cash without such savings association
being deemed to be controlled by the holding company. Except with the prior
approval of the OTS, no director or officer of a savings and loan holding
company or person owning or controlling by proxy or otherwise more than 25% of
such company's stock may also acquire control of any savings institution, other
than a subsidiary institution, or any other savings and loan holding company.
MFFC is a unitary savings and loan holding company. Under current law, there are
generally no restrictions on the activities of a unitary savings and loan
holding company and such companies are the only financial institution holding
companies that may engage in commercial, securities and insurance activities
without limitation. The broad latitude to engage in activities under current law
can be restricted if the OTS determines that there is reasonable cause to
believe that the continuation by a savings and loan holding company of an
activity constitutes a serious risk to the financial safety, soundness or
stability of its subsidiary savings association, the OTS may impose such
restrictions as deemed necessary to address such risk, including limiting (i)
payment of dividends by the savings association, (ii) transactions between the
savings association and its affiliates, and (iii) any activities of the savings
association that might create a serious risk that the liabilities of the holding
company and its affiliates may be imposed on the savings association.
Notwithstanding the foregoing rules as to permissible business activities of a
unitary savings and loan holding company, if the savings association subsidiary
of a holding company fails to meet the QTL Test, then such unitary holding
company would become subject to the activities restrictions applicable to
multiple holding companies. At September 30, 1996, Milton Federal met the QTL
Test.
If MFFC were to acquire control of another savings institution, other than
through a merger or other business combination with Milton Federal, MFFC would
become a multiple savings and loan holding company. Unless the acquisition is an
emergency thrift acquisition and each subsidiary savings association meets the
QTL Test, the activities of MFFC and any of its
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subsidiaries (other than Milton Federal or other subsidiary savings
associations) would thereafter be subject to activity restrictions. The HOLA
provides that, among other things, no multiple savings and loan holding company
or subsidiary thereof that is not a savings institution shall commence or
continue for a limited period of time after becoming a multiple savings and loan
holding company or subsidiary thereof, any business activity other than (i)
furnishing or performing management services for a subsidiary savings
institution, (ii) conducting an insurance agency or escrow business, (iii)
holding, managing or liquidating assets owned by or acquired from a subsidiary
savings institution, (iv) holding or managing properties used or occupied by a
subsidiary savings institution, (v) acting as trustee under deeds of trust, (vi)
those activities previously directly authorized by federal regulation as of
March 5, 1987, to be engaged in by multiple holding companies, or (vii) those
activities authorized by the FRB as permissible for bank holding companies,
unless the OTS by regulation prohibits or limits such activities for savings and
loan holding companies. Those activities described in (vii) above must also be
approved by the OTS prior to being engaged in by a multiple holding company.
The OTS may approve acquisitions resulting in the formation of a multiple
savings and loan holding company that controls savings associations in more than
one state only if the multiple savings and loan holding company involved
controls a savings association that operated a home or branch office in the
state of the association to be acquired as of March 5, 1987, or if the laws of
the state in which the institution to be acquired is located specifically permit
institutions to be acquired by state-chartered institutions or savings and loan
holding companies located in the state where the acquiring entity is located (or
by a holding company that controls such state-chartered savings institutions).
As under prior law, the OTS may approve an acquisition resulting in a multiple
savings and loan holding company controlling savings associations in more than
one state in the case of certain emergency thrift acquisitions.
Federal legislative proposals have been introduced or are under consideration
that would either limit unitary savings and loan holding companies to the same
activities as multiple savings and loan holding companies and other financial
institutions holding companies or would permit certain bank holding companies to
engage in commercial activities. MFFC cannot predict when, and in what form,
these proposals might become law.
No subsidiary savings association of a savings and loan holding company may
declare or pay a dividend on its permanent or nonwithdrawable stock unless it
first gives the Director of the OTS 30 days advance notice of such declaration
and payment. Any dividend declared during such period or without the giving of
such notice shall be invalid.
Congress is considering legislation which may require that MFFC become a bank
holding company regulated by the FRB. Bank holding companies with more than $150
million in assets are subject to capital requirements similar to those imposed
on Milton Federal and have more extensive interstate acquisition authority than
savings and loan holding companies. They are also subject to more restrictive
activity and investment limits than savings and loan holding companies. No
assurances can be given that such legislation will be enacted, and MFFC cannot
be certain of the legislation's impact on its future operations until it is
enacted.
FEDERAL REGULATION OF ACQUISITIONS OF CONTROL OF MFFC AND MILTON FEDERAL. In
addition to the Ohio law limitations on the merger and acquisition of MFFC
previously discussed, federal limitations generally require regulatory approval
of acquisitions at specified levels. Under
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pertinent federal law and regulations, no person, directly or indirectly, or
acting in concert with others, may acquire control of Milton Federal or MFFC
without 60 days prior notice to the OTS. "Control" is generally defined as
having more than 25% ownership or voting power; however, ownership or voting
power of more than 10% may be deemed "control" if certain factors are in place.
If the acquisition of control is by a company, the acquiror must obtain
approval, rather than give notice, of the acquisition as a savings and loan
holding company.
In addition, any merger of Milton Federal or of MFFC in which MFFC is not the
resulting company must also be approved by the OTS.
FEDERAL DEPOSIT INSURANCE CORPORATION
DEPOSIT INSURANCE. The FDIC is an independent federal agency that insures the
deposits, up to prescribed statutory limits, of federally insured banks and
thrifts and safeguards the safety and soundness of the banking and thrift
industries. FIRREA established two separate insurance funds, the Bank Insurance
Fund ("BIF") for commercial banks and state savings banks and the SAIF for
savings associations, both to be maintained and administered by the FDIC. Milton
Federal is a member of the SAIF and its deposit accounts are insured by the
FDIC, up to the prescribed limits. The FDIC has examination authority over all
insured depository institutions, including Milton Federal, and has authority to
initiate enforcement actions against federally insured savings associations, if
the FDIC does not believe the OTS has taken appropriate action to safeguard
safety and soundness and the deposit insurance fund.
Depository institutions are generally prohibited from converting from one
insurance fund to the other until the SAIF meets a designated reserve level,
except with the prior approval of the FDIC in certain limited cases, provided
applicable exit and entrance fees are paid. The reserves of the SAIF are
currently below the level required by law. The insurance fund conversion
provisions do not prohibit a SAIF member from converting to a bank charter or
merging with a bank during the five-year moratorium, as long as the resulting
bank continues to pay the applicable insurance assessments to the SAIF during
that period and certain other conditions are met. Milton Federal has no present
intention to convert to the BIF or to a bank charter.
ASSESSMENTS. The FDIC is authorized to establish separate annual assessment
rates for deposit insurance each for members of the BIF and the SAIF. The FDIC
may increase assessment rates for either fund if necessary to restore the fund's
ratio of reserves to insured deposits to its target level within a reasonable
time and may decrease such assessment rates if such target level has been met.
The FDIC has established a risk-based assessment system for both SAIF and BIF
members. Under this system, assessments are set within a range, based on the
risk the institution poses to its deposit insurance fund. This risk level is
determined based on the institution's capital level and the FDIC's level of
supervisory concern about the institution.
Because a significant portion of the assessments paid into the SAIF by savings
associations are used to pay the cost of prior thrift failures, the reserves of
the SAIF are below the level required by law. The BIF has, however, met its
required reserve level.
Assessments paid by healthy savings associations exceeded those paid by healthy
commercial banks by approximately $.19 per $100 in deposits in late 1995 and no
BIF assessments have been required of healthy commercial banks in 1996, except a
$2,000 minimum fee. Such premium
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disparity could have a negative competitive impact on Milton Federal and other
institutions with SAIF deposits.
Legislation to recapitalize the SAIF and to eliminate the significant premium
disparity between the BIF and the SAIF became effective September 30, 1996. The
recapitalization plan provides for a special assessment equal to $.657 per $100
of SAIF deposits held at March 31, 1995, in order to increase SAIF reserves to
the level required by law. Certain BIF institutions holding SAIF-insured
deposits will pay a lower special assessment. On the basis of its $110.8 million
in deposits at March 31, 1995, Milton Federal paid, on November 27, 1996, an
additional pre-tax assessment of $728,000. Such payment was recorded as an
expense and accounted for by Milton Federal as of September 30, 1996. Earnings
and capital were, therefore, negatively affected for the quarter ended September
30, 1996, by an after-tax amount of approximately $480,000.
The recapitalization plan also provides that the cost of prior thrift failures
will be shared by both the SAIF and the BIF, which will increase BIF assessments
for healthy banks to approximately $.013 per $100 of deposits in 1997. SAIF
assessments for healthy savings associations in 1997 will be approximately $.064
per $100 in deposits and may never be reduced below the level set for healthy
BIF institutions.
The recapitalization plan also provides for the merger of the SAIF and BIF
effective January 1, 1999, assuming there are no savings associations under
federal law. Under separate proposed legislation, Congress is considering the
elimination of the federal thrift charter and the separate federal regulation of
thrifts. As a result, Milton Federal would have to convert to a different
financial institution charter and would be regulated under federal law as a
bank, including being subject to the more restrictive activity limitations
imposed on national banks.
In addition, MFFC might become subject to more restrictive holding company
requirements, including activity limits and capital requirements similar to
those imposed on Milton Federal. MFFC cannot predict the impact of the
conversion of Milton Federal to, or regulation of Milton Federal as, a bank
until the legislation requiring such change is enacted.
Congress has passed legislation requiring any bad debt reserves taken after
1987, using the percentage of taxable income method, be included in future
taxable income of the association over a six-year period, although a two-year
delay is permitted for institutions meeting a residential mortgage loan
origination test. See "TAXATION - Federal Taxation."
FEDERAL RESERVE BOARD
FRB regulations require savings associations to maintain reserves against their
transaction accounts (primarily NOW accounts) of 3% of net transaction accounts
up to $52 million (subject to an exemption of up to $4.3 million) and 10% that
portion of total net transaction accounts in excess of $52 million.
At September 30, 1996, Milton Federal was in compliance with its reserve
requirements.
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FEDERAL HOME LOAN BANKS
The FHLBs, under the regulatory oversight of the Federal Housing Financing
Board, provide credit to their members in the form of advances. Milton Federal
is a member of the FHLB of Cincinnati and must maintain an investment in the
capital stock of that FHLB in an amount equal to the greater of 1.0% of the
aggregate outstanding principal amount of Milton Federal's residential mortgage
loans, home purchase contracts and similar obligations at the beginning of each
year, or 5% of its advances from the FHLB. Milton Federal is in compliance with
this requirement with an investment in stock of the FHLB of Cincinnati of
$1,181,500 at September 30, 1996.
Upon the origination or renewal of a loan or advance, the FHLB of Cincinnati is
required by law to obtain and maintain a security interest in collateral in one
or more of the following categories: fully disbursed, whole first mortgage loans
on improved residential property or securities representing a whole interest in
such loans; securities issued, insured or guaranteed by the United States
government or an agency thereof; deposits in any FHLB; or other real estate
related collateral (up to 30% of the member association's capital) acceptable to
the applicable FHLB, if such collateral has a readily ascertainable value and
the FHLB can perfect its security interest in the collateral.
Each FHLB is required to establish standards of community investment or service
that its members must maintain for continued access to long-term advances from
the FHLBs. The standards take into account a member's performance under the
Community Reinvestment Act and its record of lending to first-time home buyers.
All long-term advances by each FHLB must be made only to provide funds for
residential housing finance.
TAXATION
FEDERAL TAXATION
MFFC is subject to the federal tax laws and regulations which apply to
corporations generally. Milton Federal is also subject to the federal tax laws
and regulations which apply to corporations generally. However, certain thrift
institutions such as Milton Federal were, prior to the enactment of the Small
Business Jobs Protection Act, which was signed into law on August 21, 1996,
allowed deductions for bad debts under methods more favorable to those granted
to other taxpayers. Qualified thrift institutions could compute deductions for
bad debts using either the specific charge-off method of Section 166 of the
Code, or the reserve method of Section 593 of the Code.
Under Section 593, a thrift institution annually could elect to deduct bad debts
under either (i) the "percentage of taxable income" method applicable only to
thrift institutions, or (ii) the "experience" method that also was available to
small banks. Under the "percentage of taxable income" method, a thrift
institution generally was allowed a deduction for an addition to its bad debt
reserve equal to 8% of its taxable income (determined without regard to this
deduction and with additional adjustments). Under the "experience" method, a
thrift institution was generally allowed a deduction for an addition to its bad
debt reserve equal to the greater of (i) an amount based on its actual average
experience for losses in the current and five preceding taxable years, or (ii)
an amount necessary to restore the reserve to its balance as of the close of the
base year. A thrift institution could elect annually to compute its allowable
addition to bad debt reserves for
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qualifying loans either under the "experience" method or the "percentage of
taxable income" method. For tax years 1995, 1994 and 1993, Milton Federal used
the "percentage of taxable income" method because such method provided a higher
bad debt deduction than the "experience" method.
Section 1616(a) of the Small Business Job Protection Act repealed the Section
593 reserve method of accounting for bad debts by thrift institutions, effective
for taxable years beginning after 1995. Thrift institutions that would be
treated as small banks are allowed to utilize the "experience" method applicable
to such institutions, while thrift institutions that are treated as large banks
are required to use on the specific charge-off method. The "percentage of
taxable income" method of accounting for bad debts is no longer available for
any financial institution.
A thrift institution required to change its method of computing reserves for bad
debt will treat such change as a change in the method of accounting, initiated
by the taxpayer, and having been made with the consent of the Secretary of the
Treasury. Any adjustments under Section 481(a) of the Code required to be
recaptured with respect to such change generally will be determined solely with
respect to the "applicable excess reserves" of the taxpayer. The amount of the
"applicable excess reserves" will be taken into account ratably over a
six-taxable-year period, beginning with the first taxable year beginning after
1995, subject to the residential loan requirement described below. In the case
of a thrift institution that becomes a large bank, the amount of the
institution's applicable excess reserves generally is the excess of (i) the
balances of its reserve for losses on qualifying real property loans (generally
loans secured by improved real estate) and its reserve for losses on
nonqualifying loans (all other types of loans) as of the close of its last
taxable year beginning before January 1, 1996, over (ii) the balances of such
reserves as of the close of its last taxable year beginning before January 1,
1988 (i.e., the "pre-1988 reserves"). In the case of a thrift institution that
becomes a small bank, like Milton Federal, the amount of the institution's
"applicable excess reserves" generally is the excess of (i) the balances of its
reserve for loan losses on qualifying real property loans and its reserve for
losses on nonqualifying loans as of the close of its last taxable year beginning
before January 1, 1996, over (ii) the greater balance of (a) its "pre-1988
reserves" or (b) what the thrift's reserves would have been at the close of its
last year beginning before January 1, 1996, had the thrift always used the
"experience" method.
For taxable years that begin after December 31, 1995, and before January 1,
1998, if a thrift meets the residential loan requirement for a tax year, the
recapture of the "applicable excess reserves" otherwise required to be taken
into account as a Code Section 481(a) adjustment for the year will be suspended.
A thrift meets the residential loan requirement if, for the tax year, the
principal amount of residential loans made by the thrift during the year is not
less than its "base amount." The "base amount" generally is the average of the
principal amounts of the residential loans made by the thrift during the six
most recent tax years beginning before January 1, 1996.
A residential loan is a loan as described in Section 7701(a)(19)(C)(v)
(generally a loan secured by residential real and church property and certain
mobile homes), but only to the extent that the loan is made to the owner of the
property to acquire, construct or improve the property.
The balance of the "pre-1988 reserves" is subject to the provisions of Section
593(e) as modified by the Small Business Job Protection Act which requires
recapture in the case of certain excessive distributions to shareholders. The
"pre-1988 reserves" may not be utilized for payment of cash dividends or other
distributions to a shareholder (including distributions in dissolution or
liquidation) or for any other purpose (except to absorb bad debt losses).
Distribution of a cash
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dividend by a thrift institution to a shareholder is treated as made: First, out
of the institution's post-1951 accumulated earnings and profits; second, out of
the "pre-1988 reserves"; and, third, out of such other accounts as may be
proper. To the extent a distribution by Milton Federal to MFFC is deemed paid
out of its "pre-1988 reserves" under these rules, the "pre-1988 reserves" would
be reduced and Milton Federal's gross income for tax purposes would be increased
by the amount which, when reduced by the income tax, if any, attributable to the
inclusion of such amount in its gross income, equals the amount deemed paid out
of the "pre-1988 reserves." As of September 30, 1996, Milton Federal's "pre-1988
reserves" subject to potential recapture for tax purposes totaled approximately
$5.2 million. Milton Federal believes it has approximately $4.1 million of
accumulated earnings and profits for tax purposes as of September 30, 1996,
which would be available for dividend distributions, provided regulatory
restrictions applicable to the payment of dividends are met. No representation
can be made as to whether Milton Federal will have current or accumulated
earnings and profits in subsequent years.
In addition to the regular income tax, MFFC and Milton Federal are subject to a
minimum tax. An alternative minimum tax is imposed at a minimum tax rate of 20%
on "alternative minimum taxable income" (which is the sum of a corporation's
regular taxable income, with certain adjustments, and tax preference items),
less any available exemption. Such tax preference items include interest on
certain tax-exempt bonds issued after august 7, 1986. In addition, 75% of the
amount by which a corporation's "adjusted current earnings" exceeds its
"alternative minimum taxable income" computed without regard to this preference
item and prior to reduction by net operating losses, is included in "alternative
minimum taxable income." Net operating losses can offset no more than 90% of
"alternative minimum taxable income." The alternative minimum tax is imposed to
the extent it exceeds the corporation's regular income tax. Payments of
alternative minimum tax may be used as credits against regular tax liabilities
in future years. In addition, for taxable years after 1986 and before 1996, MFFC
and Milton Federal are also subject to an environmental tax equal to 0.12% of
the excess of "alternative minimum taxable income" for the taxable year
(determined without regard to net operating losses and the deduction for the
environmental tax) over $2.0 million.
The tax returns of Milton Federal have been audited or closed without audit
through 1992. In the opinion of management, any examination of open returns
would not result in a deficiency which could have a material adverse effect on
the financial condition of Milton Federal.
OHIO TAXATION
MFFC is subject to the Ohio corporation franchise tax, which, as applied to
MFFC, is a tax measured by both net earnings and net worth. The rate of tax is
the greater of (i) 5.1% on the first $50,000 of computed Ohio taxable income and
8.9% of computed Ohio taxable income in excess of $50,000 or (ii) 0.582% times
taxable net worth.
In computing its tax under the net worth method, MFFC may exclude 100% of its
investment in the capital stock of Milton Federal after the Conversion, as
reflected on the balance sheet of MFFC, in computing its taxable net worth as
long as it owns at least 25% of the issued and outstanding capital stock of
Milton Federal. The calculation of the exclusion from net worth is based on the
ratio of the excludable investment (net of any appreciation or goodwill included
in such investment) to total assets multiplied by the net value of the stock. As
a holding company, MFFC may be entitled to various other deductions in computing
taxable net worth that are not generally available to operating companies.
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A special litter tax is also applicable to all corporations, including MFFC,
subject to the Ohio corporation franchise tax other than "financial
institutions." If the franchise tax is paid on the net income basis, the litter
tax is equal to .11% of the first $50,000 of computed Ohio taxable income and
.22% of computed Ohio taxable income in excess of $50,000. If the franchise tax
is paid on the net worth basis, the litter tax is equal to .014% times taxable
net worth.
Milton Federal is a "financial institution" for State of Ohio tax purposes. As
such, it is subject to the Ohio corporate franchise tax on "financial
institutions," which is imposed annually at a rate of 1.5% of Milton Federal's
book net worth determined in accordance with generally accepted accounting
principles. As a "financial institution," Milton Federal is not subject to any
tax based upon net income or net profits imposed by the State of Ohio.
ITEM 2. PROPERTIES
The following table sets forth certain information at September 30, 1996,
regarding the properties on which the main office and the branch office of
Milton Federal are located:
Owned Date Square Net
Location or leased acquired footage book value (1)
- -------- --------- -------- ------- ----------
25 Lowry Drive
West Milton, Ohio 45383 Owned 1966 7,606 876,671
415 West National Road
Englewood, Ohio 45322 Owned 1972 3,249 243,176
- ------------------------------------------------------------------------------------------------------------
<FN>
(1) At September 30, 1996, Milton Federal's office premises and equipment had a
total net book value of $1,541,676. For additional information regarding
Milton Federal's office premises and equipment, see Notes 1 and 5 to
Financial Statements. Milton Federal has purchased a lot and is in the
process of constructing a branch office at the corner of Arlington Road and
Parkview Road in Brookville, Ohio. Brookville, Ohio, is a growing community
located in western Montgomery County on Interstate 70 approximately 12
miles from the intersection of Interstate 75. The new branch office is
located within Milton Federal's existing designated lending area.
Construction will begin in December, 1996. This will be Milton Federal's
third office.
The management of MFFC believes that its properties are adequately insured.
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ITEM 3. LEGAL PROCEEDINGS
Neither MFFC nor Milton Federal is presently involved in any legal proceedings
of a material nature. From time to time, Milton Federal is a party to legal
proceedings incidental to its business to enforce its security interest in
collateral pledged to secure loans made by Milton Federal.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Corporation had 2,401,432 common shares outstanding on November 27, 1996,
held of record by approximately 1,128 shareholders. Price information with
respect to the Corporation's common shares is quoted on The Nasdaq National
Market System. The high and low trading prices for the common shares of the
Corporation, as quoted by The Nasdaq Stock Market, Inc., by quarter, are shown
below.
DECEMBER 31, MARCH 31, JUNE 30, SEPTEMBER 30,
1995 1996 1996 1996
-------------- ------------- ------------ --------------
High $ 17.13 $ 16.25 $ 15.75 $ 14.38
Low 14.50 15.25 12.25 11.50
DECEMBER 31, MARCH 31, JUNE 30, SEPTEMBER 30,
1994 1995 1995 1995
-------------- ------------- ------------ --------------
High $ 12.25 $ 13.88 $ 13.63 $ 15.75
Low 10.00 10.75 11.38 11.88
For the year ended September 30, 1996, the Corporation paid regular quarterly
dividends per common share of $.08 on November 15, 1995, $.10 on February 15,
1996, $.12 on May 15, 1996 and $.13 on August 15, 1996. The Corporation also
paid a special dividend of $1.00 per common share on December 8, 1996. For the
year ended September 30, 1995, the Corporation paid regular quarterly dividends
per common share of $.06 on February 27, 1995, $.06 on May 15, 1995 and $.07 on
August 18, 1995. No dividends were paid during the first quarter of fiscal 1995.
Income of the Corporation consists of interest on investment and mortgage-backed
securities and dividends which were periodically declared and paid by the Board
of Directors of the Bank on common shares of the Bank held by the Corporation.
In addition to certain federal income tax considerations, OTS regulations impose
limitations on the payment of dividends and other capital distributions by
savings associations. Under OTS regulations applicable to converted savings
associations, the Bank is not permitted to pay a cash dividend on its common
shares if its regulatory capital would, as a result of payment of such dividend,
be reduced below the amount required for the Liquidation Account (the account
established for the purpose of granting a limited priority claim on the assets
of the Bank in the
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event of complete liquidation to those members of the Bank before the Conversion
who maintain a savings account at the Bank after the Conversion), or applicable
regulatory capital requirements prescribed by the OTS.
OTS regulations applicable to all savings and loan associations provide that a
savings association which immediately prior to, and on a pro forma basis after
giving effect to, a proposed capital distribution (including a dividend) has
total capital (as defined by OTS regulations) that is equal to or greater than
the amount of its capital requirements is generally permitted without OTS
approval (but subsequent to 30 days' prior notice to the OTS) to make capital
distributions, including dividends, during a calendar year in an amount not to
exceed the greater of (1) 100% of its net earnings to date during the calendar
year, plus an amount equal to one-half that which its total capital to assets
ratio exceeded its required capital to assets ratio at the beginning of the
calendar year, or (2) 75% of its net earnings for the most recent four-quarter
period. Savings associations with total capital in excess of the capital
requirements that have been notified by the OTS that they are in need of more
than normal supervision will be subject to restrictions on dividends. A savings
association that fails to meet current minimum capital requirements is
prohibited from making any capital distributions without the prior approval of
the OTS.
The Bank currently meets all of its capital requirements and, because the OTS
has not determined that the Bank is an institution requiring more than normal
supervision, the Bank may pay dividends in accordance with the foregoing
provisions of OTS regulations.
ITEM 6. SELECTED FINANCIAL DATA
The following tables set forth certain information concerning the financial
condition, earnings and other data regarding Milton Federal at the dates and for
the periods indicated. The financial information should be read in conjunction
with the financial statements and notes thereto included elsewhere herein.
At September 30,
----------------------------------------------------------------------
Selected financial data: 1996 1995 1994 1993 1992
---- ---- ---- ---- ----
(In thousands)
Total amount of:
Assets $ 180,831 $ 161,680 $ 149,927 $ 123,131 $ 115,463
Cash and cash equivalents (1) 1,301 1,701 25,604 3,853 5,265
Investment securities available
for sale (2) 8,522 11,078
Investment securities held to
maturity (2) 500 3,015 4,318 6,359
Mortgage-backed and related
securities available for sale (2) 34,009 17,110
Mortgage-backed and related
securities held to maturity (2) 14,002 25,974 25,183 28,516 27,636
FHLB stock 1,182 1,099 1,029 977 921
Loans receivable - net 116,749 100,758 91,246 81,827 72,791
Deposits 128,554 117,898 134,790 109,483 103,467
Borrowings 17,489 5,260
Shareholders' equity (3) 33,479 37,502 14,394 13,012 11,524
(Tables and footnotes continue on following page.)
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At September 30,
----------------------------------------------------------------------
Summary of earnings: 1996 1995 1994 1993 1992
---- ---- ---- ---- ----
(In thousands)
Interest and dividend income $ 12,665 $ 11,139 $ 9,239 $ 9,375 $ 9,777
Interest expense 6,819 5,236 4,631 4,772 5,770
----------- ----------- ----------- ----------- -----------
Net interest income 5,846 5,903 4,608 4,603 4,007
Provision for loan losses 154 64 42 14 17
----------- ----------- ----------- ----------- -----------
Net interest income after provision
for loan losses 5,692 5,839 4,566 4,589 3,990
Noninterest income 457 257 247 200 (35)
Noninterest expense 4,410 3,300 2,751 2,510 2,215
----------- ----------- ----------- ----------- -----------
Income before income tax 1,739 2,796 2,062 2,279 1,740
Income tax expense 595 947 680 791 638
----------- ----------- ----------- ----------- -----------
Net income $ 1,144 $ 1,849 $ 1,382 $ 1,488 $ 1,102
=========== =========== =========== =========== ===========
Earnings per share (4) $ .49 $ .77 N/A N/A N/A
=========== ===========
Dividends declared per share (4) $ 1.43 $ .19
========== ===========
At September 30,
-------------------------------------------------
Selected financial ratios and other data: 1996 1995 1994 1993 1992
---- ---- ---- ---- ----
(In thousands)
Return on assets (5) 0.67% 1.22% 1.09% 1.25% 0.98%
Return on equity (6) 3.28 5.01 10.13 12.13 10.15
Interest rate spread (7) 2.57 2.95 3.37 3.55 3.18
Net interest margin (8) 3.51 4.01 3.74 3.96 3.65
Operating expenses to average assets (9) 2.58 2.18 2.16 2.11 1.97
Average equity to average assets 20.36 24.36 10.74 10.32 9.66
Dividend payout ratio 296.89 24.66 -- -- --
Nonperforming assets to total assets 0.35 0.34 0.22 0.61 0.86
Nonperforming loans to total loans 0.48 0.49 0.35 0.80 1.11
Allowance for loan losses as a percentage of
nonperforming loans 81.57 64.04 94.14 33.51 22.28
Allowance for loan losses to total loans 0.40 0.32 0.29 0.27 0.25
Net charge-offs to average loans -- -- -- (0.03) 0.07
Number of offices, all full service 2 2 2 2 2
- ---------------------------------------------------------------------------------------------------------------
<FN>
(1) Includes cash and amounts due from depository institutions and
interest-bearing deposits in other financial institutions.
(2) At October 1, 1994, MFFC adopted SFAS No. 115 and accordingly classified
its securities into held-to-maturity, available-for-sale and trading
categories. Prior to this date, all securities were classified as held to
maturity and reported at amortized cost.
(3) Retained earnings only prior to September 30, 1995.
(4) Earnings and dividends per share are not applicable for any of the periods
presented prior to September 30, 1995, due to Milton Federal's mutual form
of ownership prior to October 6, 1994.
(5) Net income divided by average total assets.
(6) Net income divided by average total equity.
(7) Average yield on interest-earning assets less average cost of interest-bearing liabilities.
(8) Net interest income as a percentage of average interest-earning assets.
(9) Noninterest expense divided by average total assets.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL AND RESULTS OF
OPERATIONS INTRODUCTION
In the following pages, management presents an analysis of the Corporation's
financial condition and results of operations as of and for the year ended
September 30, 1996 as compared to prior years. This discussion is designed to
provide shareholders with a more comprehensive review of the operating results
and financial position than could be obtained from an examination of the
financial statements alone. This analysis should be read in conjunction with the
financial statements and related footnotes and the selected financial data
included elsewhere in this report.
The Bank is primarily engaged in the business of attracting savings deposits
from the general public and investing such funds in permanent mortgage loans
secured by one- to four-family residential real estate located primarily in
Miami, Montgomery and Darke Counties, Ohio. The Bank also originates loans for
the construction of one- to four-family residential real estate, loans secured
by multifamily real estate (over four units), and nonresidential real estate and
consumer loans and invests in U.S. Government obligations, interest-bearing
deposits in other financial institutions, mortgage-backed and related securities
and other investments permitted by applicable law.
FORWARD-LOOKING STATEMENTS
In addition to the historical information contained herein, the following
discussion contains forward-looking statements that involve risks and
uncertainties. Economic circumstances, the Corporation's operations and the
Corporation's actual results could differ significantly from those discussed in
the forward-looking statements. Some of the factors that could cause or
contribute to such differences are discussed herein but also include changes in
the economy and interest rates in the nation and the Corporation's general
market area.
ANALYSIS OF FINANCIAL CONDITION
The Corporation's assets totaled $180.8 million at September 30, 1996, an
increase of $19.1 million, or 11.8%, from $161.7 million as of September 30,
1995.
Investment securities, mortgage-backed and related securities and FHLB stock
increased from $55.3 million at September 30, 1995, to $58.2 million at
September 30, 1996. The increase is due to the purchase of $26.9 million of
investment and mortgage-backed and related securities. Some of the securities
purchased were a part of the Corporation's strategy of borrowing long-term,
variable-rate funds from the FHLB to fund the purchase of similar-maturity,
variable-rate mortgage-backed and related securities to capitalize on the yield
spread. Additional variable-rate mortgaged-backed and related securities were
purchased with funds provided by long-term, fixed-rate borrowings from the FHLB.
The Corporation took advantage of low, long-term, fixed-rate borrowings to
provide additional liquidity for future loan growth without increasing the cost
of funds. The overall increase in investment and mortgage-backed and related
securities was offset somewhat by the redirection of funds provided from
maturities and principal repayments to loans. Additionally, the Corporation sold
mortgage-backed and related securities with an amortized cost of $11.8 million
to provide funds for the $1.00 per share special dividend to shareholders during
the first quarter and for the purchase of treasury shares and loan growth during
the remainder of 1996. Mortgage-backed and related securities
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include Federal Home Loan Mortgage Corporation ("FHLMC"), Government National
Mortgage Association ("GNMA"), Federal National Mortgage Association ("FNMA")
and Small Business Administration ("SBA") participation certificates,
collateralized mortgage obligations ("CMOs") and real estate mortgage investment
conduits ("REMICs"). Investment securities are comprised of United States
Treasury and government agency securities. The majority of investments have been
classified as available for sale to provide management the flexibility to
redirect these funds into loans as opportunities permit.
The Corporation's investment policy limits investments in U.S. Treasury and
government agency securities to securities with terms of ten years or less for
fixed-rate investments and thirty years or less for adjustable-rate investments.
Mortgaged-backed securities guaranteed by FHLMC, GNMA or FNMA may have terms of
up to forty years. Substantially all CMOs and REMICs are collateralized with
FHLMC, GNMA or FNMA securities and may have terms of up to forty years. CMOs and
REMICs must meet OTS guidelines and not be "high risk" at the time of purchase
as defined by Thrift Bulletin No. 52. The Corporation has not invested in any
derivative securities other than CMOs and REMICs.
Management's strategy emphasizes investment in securities guaranteed by the U.S.
government and its agencies as a means to mediate credit risk. The investment
strategy also includes purchasing adjustable-rate mortgage-backed security
products with monthly payments and interest rates that adjust annually or more
frequently. These securities provide the Corporation a continued cash flow
stream through principal paydowns as well as provide some protection against
interest rate risk. As an additional effort to manage interest rate risk, the
Corporation purchases government agency securities which reprice annually,
monthly and weekly.
Net loans receivable, including loans held for sale, increased from $100.8
million at September 30, 1995, to $116.7 million at September 30, 1996. The
Corporation experienced increases in the majority of the real estate loan
categories.
Loans secured by one- to four-family first mortgages increased from $88.9
million at September 30, 1995, to $102.4 million at September 30, 1996 resulting
from a high volume of loan originations. The substantial increase in mortgage
loans was related to growth in the Corporation's market area as the Corporation
has not changed its philosophy regarding pricing or underwriting standards
during the period. The increases in one- to four-family second mortgages,
multi-family real estate and construction loans from September 30, 1995, to
September 30, 1996, were the result of the same factors as for one- to
four-family first mortgage loans.
At September 30, 1996, the Corporation had approximately $11.0 million in loans
classified as held for sale. There were no loans held for sale at September 30,
1996. Held for sale loans at September 30, 1996 are included in the total for
one- to four-family first mortgage loans discussed above.
The Corporation's consumer loan portfolio increased slightly between September
30, 1995, and September 30, 1996. Consumer loans remain a small portion of the
entire loan portfolio and represented only 1.8% and 2.0% of total loans at
September 30, 1996 and 1995, respectively.
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47
Total deposits increased $10.7 million, or 9.1%, from $117.9 million at
September 30, 1995, to $128.6 million at September 30, 1996. The Bank
experienced a slight decrease in passbook savings accounts which decreased from
14.8% of total deposits at September 30, 1995, to 13.0% of total deposits at
September 30, 1996. A decrease in money market accounts was offset by an
increase in negotiable order of withdrawal ("NOW") accounts while the combined
demand deposit portfolio decreased from 13.4% of total deposits at September 30,
1995 to 12.4% of total deposits at September 30, 1996. Certificates of deposit
increased 13.1% and were the primary reason for the overall deposit growth.
Certificates of deposit growth has been due to normal operating procedures as
the Corporation has not used special promotions to attract the increased volume.
The certificate of deposit portfolio increased from 71.9% of total deposits at
September 30, 1995 to 74.6% September 30, 1996. All of the time deposits held at
the Bank mature in less than five years.
Borrowed funds increased from $5.3 million at September 30, 1995, to $17.5
million at September 30, 1996. As discussed above, most of the borrowed funds
were invested in mortgage-backed and related securities to leverage the Bank's
excess capital from the Conversion and to provide liquidity for loan growth.
COMPARISON OF RESULTS OF OPERATIONS
NET INCOME. The operating results of the Corporation are affected by general
economic conditions, the monetary and fiscal policies of federal agencies and
the regulatory policies of agencies that regulate financial institutions. The
Corporation's cost of funds is influenced by interest rates on competing
investments and general market rates of interest. Lending activities are
influenced by the demand for real estate loans and other types of loans, which
in turn is affected by the interest rates at which such loans are made, general
economic conditions and the availability of funds for lending activities.
The Corporation's net income is primarily dependent upon its net interest
income, which is the difference between interest income generated on
interest-earning assets and interest expense incurred on interest-bearing
liabilities. Net income is also affected by provisions for loan losses, service
charges, gains on the sale of assets and other income, noninterest expense and
income taxes.
The Corporation's net income of $1,144,000 for the year ended September 30,
1996, represented a $705,000 decrease from the $1,849,000 net income for the
year ended September 30, 1995. Similarly, earnings per share decreased by $.28
per share from $.77 per share at September 30, 1995 to $.49 per share at
September 30, 1996. The decrease in earnings was due to a slight decrease in net
interest income combined with an increase in noninterest expense, resulting
primarily from a one-time deposit insurance assessment, partially offset by
gains from the sales of mortgage-backed and related securities, as more fully
discussed below.
The Corporation's net income of $1,849,000 for the year ended September 30, 1995
represented a $467,000 increase from the $1,382,000 in net income for the year
ended September 30, 1994. The increase in earnings was primarily due to an
increase in net interest income, partially offset by an increase in noninterest
expense.
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NET INTEREST INCOME. Net interest income is the largest component of the
Corporation's income and is affected by the interest rate environment and the
volume and composition of interest-earning assets and interest-bearing
liabilities.
Historically, the Corporation had only fixed-rate loans in its loan portfolio.
Consequently, due to interest rates rising from historically low levels during
most of fiscal 1995, the Corporation's net interest spread was negatively
affected because the interest rates paid on deposits increased at a faster pace
than the rates earned on loans. The negative effect on the interest rate spread
has slowed as interest rates have stabilized and even declined since the
beginning of 1996. As part of the Corporation's overall strategy to manage
interest rate risk, management began to originate adjustable-rate mortgage loans
in the latter quarters of fiscal 1995. As of September 30, 1996, the Corporation
had approximately $3.1 million in adjustable-rate mortgages. Additionally, the
mortgage-backed and related securities portfolio has been structured so that
substantially all of the mortgage-backed and related securities reprice on at
least an annual basis. At September 30, 1996, 98.9% of the Corporation's
mortgage-backed and related securities portfolio reprices on at least an annual
basis.
The net interest income of the Corporation decreased by $56,000 for the year
ended September 30, 1996, compared to the year ended September 30, 1995. The
change in net interest income is attributable to increases in higher yielding
interest-earning asset balances being entirely offset by an overall increase in
the cost of funds for deposits with a larger portion of the deposit base being
in higher cost certificates of deposit and an increased level of borrowed funds.
See "Yields Earned and Rates Paid."
The net interest income of the Corporation increased by $1,295,000 for the year
ended September 30, 1995, compared to the year ended September 30, 1994. The
change in net interest income was attributable to increases in the average
volume of interest-earning assets, primarily investment and mortgage-backed and
related securities acquired with the proceeds from the Conversion and loans,
partially offset by an increase in the cost of funds and an increase in average
interest-bearing liabilities.
Interest and fees on loans totaled $8,859,000 for the year ended September 30,
1996, compared to $7,913,000 and $7,463,000 for the years ended September 30,
1995 and 1994, respectively. Such increase in interest income was due to higher
average loans receivable balances, related to the origination of new one- to
four-family real estate loans, partially offset by a decrease in the average
yield earned to 8.25% for the year ended September 30, 1996 from 8.37% and 8.61%
for the years ended September 30, 1995 and 1994, respectively.
For the fiscal year ended September 30, 1996, interest on mortgage-backed and
related securities totaled $2,995,000, compared to $2,224,000 and $1,397,000 for
the years ended September 30, 1995 and 1994, respectively. The increase in 1996
over 1995 was due to a larger percentage of higher yielding mortgage-backed and
related securities as compared to the prior period combined with an overall
increase in the level of mortgage-backed and related securities. Most of the
mortgage-backed and related securities have repriced to higher yield levels over
the past year. The variable-rate feature of these securities helps mitigate the
Corporation's exposure to upward interest rate movement due to its primarily
fixed-rate loan portfolio. The increase in 1995 over 1994 was also due to an
increase in the average balance and yield of mortgage-backed and related
securities. In fiscal 1995, management invested a substantial portion of the
proceeds received from the Conversion in adjustable-rate, mortgage-backed and
related securities. These securities were, for the most part, classified as
available for sale to provide the
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Corporation with the flexibility to move funds into loans as demand warrants.
The mortgage-backed and related securities also provide the Corporation with a
constant cash flow stream from principal repayments.
Interest on investment securities totaled $629,000 for the year ended September
30, 1996, compared to $740,000 for the year ended September 30, 1995 and
$165,000 for the year ended September 30, 1994. The decrease in 1996 from 1995
is a result of lower average balances of investment securities combined with a
decrease in the overall portfolio yield. The increase in 1995 over 1994 was due
to both an increase in average balances and higher rates.
Other interest and dividend income totaled $183,000 for the year ended September
30, 1996, compared to $262,000 and $214,000 for the years ended September 30,
1995 and 1994, respectively. The decrease in other interest and dividend income
in 1996 from 1995 the prior year was due to lower average balances in overnight
funds, partially offset by higher rates earned. The increase in 1995 over 1994
was also due to higher rates earned on funds temporarily invested in overnight
funds.
Interest paid on deposits totaled $6,199,000 for the year ended September 30,
1996, compared to $5,230,000 and $4,621,000 for the years ended September 30,
1995 and 1994, respectively. This resulted from an overall increase in the
average cost of deposits to 4.99% for the year ended September 30, 1996 from
4.62% and 4.11% during the years ended September 30, 1995 and 1994,
respectively, combined with increasing average deposit balances over the prior
periods.
PROVISION FOR LOAN LOSSES. The Corporation maintains an allowance for loan
losses in an amount which, in management's judgment, is adequate to absorb
reasonably foreseeable losses inherent in the loan portfolio. While management
utilizes its best judgment and information available, the ultimate adequacy of
the allowance is dependent upon a variety of factors, including the performance
of the Corporation's loan portfolio, the economy, changes in real estate values
and interest rates and the view of the regulatory authorities toward loan
classifications. The provision for loan losses is determined by management as
the amount to be added to the allowance for loan losses after net charge-offs
have been deducted to bring the allowance to a level which is considered
adequate to absorb losses inherent in the loan portfolio. The amount of the
provision is based on management's regular review of the loan portfolio and
consideration of such factors as historical loss experience, general prevailing
economic conditions, changes in the size and composition of the loan portfolio
and specific borrower considerations, including the ability of the borrower to
repay the loan and the estimated value of the underlying collateral.
The Corporation did not experience any net charge-offs in the years ended
September 30, 1996 and 1994 while net charge-offs for the year ended September
30, 1995 were less than $1,000. The Corporation's low historical charge-off
history is the product of a variety of factors, including the Corporation's
underwriting guidelines, which generally require a down payment of 20% of the
lower of the sales price or appraised value of one- to four-family residential
real estate loans, established income information and defined ratios of debt to
income. Loans secured by real estate make up 98.2% of the Corporation's loan
portfolio, and loans secured by first mortgages on one- to four-family
residential real estate constituted 83.0% of total loans at September 30, 1996.
Notwithstanding the historical charge-off history, however, management believes
that continuing to increase the allowance for loan losses is prudent as total
loans, particularly consumer loans, increase. Accordingly, management
anticipates that it will continue its provisions to the allowance for loan
losses at current levels for the foreseeable
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50
future, providing the volume of nonperforming loans remains insignificant. The
provision for loan losses totaled $154,300, $64,300 and $42,400 for the years
ended September 30, 1996, 1995 and 1994, respectively.
NONINTEREST INCOME. Noninterest income totaled $457,000, $257,000 and $247,000
for the years ended September 30, 1996, 1995 and 1994, respectively. The primary
source of the increase was from realized gains of $226,000 from sales of
mortgage-backed and related securities held in the available-for-sale portfolio.
The sales were primarily made for interest rate risk strategy purposes. The
Corporation was able to restructure its mortgage-backed and related securities
portfolio so that its securities reprice monthly and in the process also
increased the interest rate caps on the securities. Offsetting the increase from
the gains were proceeds received from the liquidation of assets owned by the
Pool Three Service Corporation during year ended September 30, 1995. The
Corporation had a 44.77% ownership interest in Pool Three Service Corporation.
Pool Three's liquidation was completed during 1995. The Corporation completely
eliminated the carrying value of its investment in Pool Three during fiscal 1993
as management believed that the remaining assets owned by Pool Three had no
market value. The proceeds from the completion of the Pool Three liquidation
totaled $23,000. No proceeds were received during the year ended September 30,
1996. Other changes in noninterest income were insignificant.
NONINTEREST EXPENSE. Noninterest expense increased $1,111,000, or 33.7%, from
the 1995 fiscal year end to the 1996 fiscal year end. Federal deposit insurance
premiums were the primary cause of the increase. The Bank recognized an
additional expense of approximately $728,000 in September 1996 as a result of
legislation passed to recapitalize the Savings Association Insurance Fund
("SAIF") of the FDIC. The SAIF was below the level required by law because a
significant portion of the assessments paid into the SAIF by thrifts, like the
Bank, were used to pay the cost of prior thrift failures. The legislation called
for a one-time assessment of $.657 per $100 of SAIF insured deposits held as of
March 31, 1995. As a result of the recapitalization of the SAIF, the current
disparity between bank and thrift insurance assessments will be reduced. Thrifts
had been paying assessments of $.23 per $100 of deposits, which, for most
thrifts, will be reduced to $.064 per $100 in deposits in January 1997 and to
$.024 per $100 in deposits no later than January 2000. If the Bank's deposits
were to remain constant next year, annual deposit insurance premiums would be
reduced by approximately $213,000, increasing net income by $141,000.
The legislation also provides for the merger of the SAIF and the BIF effective
January 1, 1999, assuming there are no savings associations under federal law.
Under separate proposed legislation, Congress is considering the elimination of
the federal thrift charter and the separate federal regulation of thrifts. As a
result, the Bank would be required to convert to a different financial
institution charter and the Bank and the Corporation might become subject to
more restrictive activity limits. The Corporation cannot predict the impact of
any such legislation until it is enacted.
Salaries and employee benefits and Ohio franchise taxes primarily made up the
remainder of the increase. Salaries and employee benefits increased due to
annual merit increases, increased compensation expense related to the Milton
Federal Financial Corporation Employee Stock Ownership Plan ("ESOP") as a result
of the Corporation's stock price increasing and the added expense from the
Milton Federal Savings Bank Recognition and Retention Plan and Trust Agreement
("RRP"), which had not been implemented during 1995. Ohio franchise taxes
increased due to the change in corporate structure during fiscal 1995 and the
resulting tax
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impact of higher capital levels at the Bank and earnings at the Corporation. The
second quarter of fiscal 1996 was the first period in which the franchise taxes
were impacted by the capital raised in the mutual to stock conversion. Other
changes in noninterest expense were insignificant.
Noninterest expense increased $549,000, or 20.0%, from $2,751,000 to $3,300,000
during the year ended September 30, 1995. Salaries and employee benefits and
other expenses were the primary causes of the increases. Salaries and employee
benefits increased due to annual merit increases and the implementation of the
ESOP in October 1994. Other expenses increased due to the change in corporate
structure and the resulting impact of shareholder and securities law reporting
costs.
INCOME TAX EXPENSE. The volatility of income tax expense is primarily
attributable to the change in net income before income taxes. See Note 9 of the
Notes to Consolidated Financial Statements. Income tax expense totaled $595,000
in fiscal 1996, $947,000 in fiscal 1995 and $680,000 in fiscal 1994, resulting
in effective tax rates of 34.2%, 33.9% and 33.0% , respectively.
Prior to the enactment of legislation discussed below, thrifts which met certain
tests relating to the composition of assets had been permitted to establish
reserves for bad debts and to make annual additions thereto which could, within
specified formula limits, be taken as a deduction in computing taxable income
for federal income tax purposes. The amount of the bad debt reserve deduction
for "nonqualifying loans" was computed under the experience method. The amount
of the bad debt reserve deduction for "qualifying real property loans" could be
computed under either the experience method or the percentage of taxable income
method, based on an annual election.
In August 1996, legislation was enacted that repeals the reserve method of
accounting used by many thrifts to calculate their bad debt reserve for federal
income tax purposes. As a result, small thrifts such as the Bank must recapture
that portion of the reserve that exceeds the amount that could have been taken
under the experience method for tax years beginning after December 31, 1987. The
legislation also requires thrifts to account for bad debts for federal income
tax purposes on the same basis as commercial banks for tax years beginning after
December 31, 1995. The recapture will occur over a six-year period, the
commencement of which will be delayed until the first taxable year beginning
after December 31, 1997, provided the institution meets certain residential
lending requirements. At September 30, 1996, the Bank had approximately $1.1
million in bad debt reserves subject to recapture for federal income tax
purposes. The deferred tax liability related to the recapture has been
previously established.
YIELDS EARNED AND RATES PAID. The following table sets forth certain information
relating to the Corporation's average balance sheet information and reflects the
average yield on interest-earning assets and the average cost of
interest-bearing liabilities for the periods indicated. Such yields and costs
are derived by dividing income or expense by the average monthly balance of
interest-earning assets or interest-bearing liabilities, respectively, for the
periods presented. Average balances are derived from daily balances, which
include nonaccruing loans in the loan portfolio, net of the allowance for loan
losses.
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Year ended September 30,
--------------------------------------------------------------------------------------------
1996 1995 1994
----------------------------- ---------------------------- ------------------------------
Average Interest Average Interest Average Interest
outstanding earned/ Yield/ outstanding earned/ Yield/ outstanding earned/ Yield/
balance paid rate balance paid rate balance paid rate
------- ---- ---- ------- ---- ---- ------- ---- ----
(Dollars in thousands)
Interest-earning assets:
Interest-bearing deposits in other
financial institutions $ 1,952 $ 104 5.33% $ 4,478 $ 192 4.29% $ 5,424 $ 162 2.99%
Investment securities available
for sale (1) 9,404 599 6.40 11,210 740 6.60
Investment securities held to
maturity 422 29 6.87 3,547 165 4.65 3,547 165 4.65
Mortgage-backed and related
securities available for sale (1) 30,797 1,991 6.48 10,996 609 5.54
Mortgage-backed and related
securities held to maturity 15,318 1,004 6.55 24,908 1,615 6.48 26,645 1,397 5.24
Loans receivable (2) 107,321 8,859 8.25 94,504 7,913 8.37 86,665 7,463 8.61
Federal Home Loan Bank stock 1,130 79 6.99 1,055 70 6.64 995 52 5.23
---------- --------- ------- ------- --------- --------
Total interest-earning assets 166,344 12,665 7.62% 147,151 11,139 7.57% 123,276 9,239 7.49%
--------- -------
Noninterest earning assets:
Cash and amounts due from
depository institutions 962 430 448
Premises and equipment, net 1,471 1,489 1,551
Other nonearning assets 2,363 2,453 1,805
---------- ------- ---------
Total assets 171,140 $151,523 $ 127,080
========== ======== =========
Interest-bearing liabilities:
NOW accounts $ 8,451 160 1.89% $ 7,648 150 1.96% $ 8,147 159 1.95%
Money market accounts 7,396 220 2.97 8,525 241 2.83 12,088 334 2.76
Passbook savings accounts 17,498 439 2.51 17,588 445 2.53 21,087 527 2.50
Certificates of deposit 90,873 5,380 5.92 79,335 4,393 5.54 70,967 3,601 5.07
---------- --------- ------- ------- --------- --------
Total deposits 124,218 6,199 4.99 113,096 5,229 4.62 112,289 4,621 4.11
Borrowings 10,751 620 5.77 118 7 5.93 211 10 4.74
---------- --------- ------- ------- --------- --------
Total interest-bearing
liabilities 134,969 6,819 5.05% 113,214 5,236 4.62% 112,500 4,631 4.12%
--------- ------- --------
Noninterest-bearing liabilities 1,321 1,401 936
---------- ------- ---------
Total liabilities 136,290 114,615 113,436
Shareholders' equity (3) 34,850 36,908 13,644
---------- ------- ---------
Total liabilities &
shareholders' equity $ 171,140 $151,523 $ 127,080
========== ======== =========
Net interest income;
interest rate spread $ 5,846 2.57% $ 5,903 2.95% $ 4,608 3.37%
========= ======= ======= ======= ======== =======
Net interest margin (net interest
income as a percent of average
interest-earning assets) 3.51% 4.01% 3.74%
======= ======= =======
Average interest-earning assets to
interest-bearing liabilities 123.25% 129.96% 109.58%
======= ======== ======
- ------------------------
<FN>
(1) Average balance includes unrealized gains and losses while yield is based
on amortized cost.
(2) Calculated net of deferred loan fees, loan discounts, loans in process and
allowance for loan losses.
(3) Retained earnings only prior to September 30, 1995
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The table below describes the extent to which changes in interest rates and
changes in volume of interest-earning assets and interest-bearing liabilities
have affected the Corporation's interest income and expense during the years
indicated. For each category of interest-earning assets and interest-bearing
liabilities, information is provided on changes attributable to (1) changes in
volume (multiplied by prior year rate), (2) changes in rate (multiplied by prior
year volume) and (3) total changes in rate and volume. The combined effects of
changes in both volume and rate, that are not separately identified, have been
allocated proportionately to the change due to volume and change due to rate:
Year ended September 30,
-------------------------------------------------------------
1996 vs. 1995 1995 vs. 1994
---------------------------- ---------------------------
Increase Increase
(decrease) (decrease)
due to due to
---------------- ---------------
Volume Rate Total Volume Rate Total
------ ---- ----- ------ ---- -----
(In thousands)
Interest income attributable to:
Interest-bearing deposits in
other financial institutions $ (127) $ 39 $ (88) $ (32) $ 62 $ 30
Investment securities available
for sale (119) (22) (141) 740 740
Investment securities held
to maturity 29 29 (165) (165)
Mortgage-backed and related
securities available for sale 1,262 120 1,382 609 609
Mortgage-backed and related
securities held to maturity (628) 17 (611) (96) 314 218
Loans receivable 1,059 (113) 946 661 (211) 450
Federal Home Loan Bank stock 5 4 9 3 15 18
--------- -------- --------- ------- -------- -------
Total interest income 1,481 45 1,526 1,720 180 1,900
--------- -------- --------- ------- -------- -------
Interest expense attributable to:
NOW accounts 15 (5) 10 (10) 1 (9)
Money market accounts (33) 12 (21) (101) 8 (93)
Passbook savings accounts (2) (4) (6) (88) 6 (82)
Certificates of deposit 669 318 987 446 346 792
Borrowings 613 613 (5) 2 (3)
--------- -------- --------- ------- -------- -------
Total interest expense 1,262 321 1,583 242 363 605
--------- -------- --------- ------- -------- -------
Increase (decrease) in net
interest income $ 219 $ (276) $ (57) $ 1,478 $ (183) $ 1,295
========= ======== ========= ======= ======== =======
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ASSET AND LIABILITY MANAGEMENT
The Bank, like other financial institutions, is subject to interest rate risk to
the extent that its interest-earning assets reprice differently than its
interest-bearing liabilities. As part of its effort to monitor and manage
interest rate risk, the Bank uses the "net portfolio value" ("NPV") methodology
adopted by the OTS as part of its capital regulations. Although the Bank is not
currently subject to NPV regulation because such regulation does not apply to
institutions with less than $300 million in assets and risk-based capital in
excess of 12%, application of NPV methodology may illustrate the Bank's interest
rate risk.
Generally, NPV is the discounted present value of the difference between
incoming cash flows on interest-earning and other assets and outgoing cash flows
on interest-bearing and other liabilities. The application of the methodology
attempts to quantify interest rate risk as the change in the NPV that would
result from a theoretical 200 basis point (1 basis point equals 0.01%) change in
market interest rates. Both a 200 basis point increase in market interest rates
and a 200 basis point decrease in market interest rates are considered. If the
NPV would decrease by more than 2% of the present value of the institution's
assets with either an increase or a decrease in market rates, the institution
must deduct 50% of the amount of decrease in excess of such 2% in the
calculation of the institution's risk-based capital. See "Liquidity and Capital
Resources."
At September 30, 1996, 2% of the present value of the Bank's assets was
approximately $3,494,000. Because the interest rate risk of a 200 basis point
increase in market interest rates (which was greater than the interest rate risk
of a 200 basis point decrease) was $8,071,000 at September 30, 1996, the Bank
would have been required to deduct approximately $2,289,000 (50% of the
approximate $4,577,000 difference) from its capital in determining whether the
Bank met its risk-based capital requirement. Regardless of such reduction,
however, the Bank's risk-based capital at September 30, 1996, would still have
exceeded the regulatory requirement by $11,489,000.
Presented below, as of September 30, 1996 and 1995, is an analysis of the Bank's
interest rate risk as measured by changes in NPV for instantaneous and sustained
parallel shifts of 100 basis points in market interest rates. The table also
contains policy limits set by the Board of Directors of the Bank as the maximum
change in NPV that the Board of Directors deems advisable in the event of
various changes in interest rates. Such limits are established with
consideration of the dollar impact of various rate changes and the Bank's strong
capital position.
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55
As illustrated in the table, NPV is more sensitive to rising rates than
declining rates. Such difference in sensitivity occurs principally because, as
rates rise, borrowers do not prepay fixed-rate loans as quickly as they do when
interest rates are declining. Thus, in a rising interest rate environment,
because the Bank has predominantly fixed-rate loans in its loan portfolio, the
amount of interest the Bank would receive on its loans would increase relatively
slowly as loans are slowly prepaid and new loans at higher rates are made.
Moreover, the interest the Bank would pay on its deposits would increase rapidly
because the Bank's deposits generally have shorter periods to repricing.
Assumptions used in calculating the amounts in this table are OTS assumptions.
September 30, 1996 September 30, 1995
----------------------------- ----------------------------
Change in Interest Rate Board limit $ change % change $ change % change
(Basis Points) % change in NPV in NPV in NPV in NPV
------------------------ ------------ ------------- ------------ ------------- ----------
(Dollars in thousands)
+300 (40)% (12,184) (52)% $ (7,475) (28)%
+200 (30) (8,071) (35) (4,626) (17)
+100 (15) (4,024) (17) (2,120) (8)
0 0 0 0 0 0
-100 15 3,072 13 1,542 6
-200 20 4,738 20 2,573 10
-300 25 5,141 22 3,488 13
As with any method of measuring interest rate risk, certain shortcomings are
inherent in the NPV approach. For example, although certain assets and
liabilities may have similar maturities or periods of repricing, they may react
in different degrees to changes in market interest rates. Also, the interest
rates on certain types of assets and liabilities may fluctuate in advance of
changes in market interest rates, while interest rates on other types may lag
behind changes in market rates. Further, in the event of a change in interest
rates, expected rates of prepayment on loans and mortgage-backed securities and
early withdrawal levels from certificates of deposit, would likely deviate
significantly from those assumed in making risk calculations.
At September 30, 1996, the Corporation exceeded the Board limit percentage
change for an increase in interest rates of 100, 200 and 300 basis points. As
part of management's overall strategy to manage interest rate risk, the
mortgage-backed and related security portfolio was structured so that
substantially all of the mortgage-backed and related securities reprice on at
least an annual basis. In addition, management has increased consumer lending
although it still remains a small percentage of the overall loan portfolio.
Consumer loans typically have a significantly shorter weighted average maturity
and offer less exposure to interest rate risk. In addition, management began
originating adjustable-rate mortgage loans during fiscal 1995 as an additional
tool to manage interest rate risk. The Corporation intends to sell a portion of
the fixed-rate mortgage loan portfolio and invest the funds in shorter-term or
adjustable-rate loans which have less exposure to interest rate risk.
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56
LIQUIDITY AND CAPITAL RESOURCES
The Corporation's liquidity, primarily represented by cash equivalents, is a
result of its operating, investing and financing activities. These activities
are summarized below for the years ended September 30, 1996, 1995 and 1994.
Year Ended September 30,
------------------------------------------------
1996 1995 1994
------------- ------------ ------------
Net income $ 1,144 $ 1,849 $ 1,382
Adjustments to reconcile net income to net cash from
operating activities 392 258 (146)
------------- ------------ ------------
Net cash from operating activities 1,536 2,107 1,236
Net cash from investment activities (19,350) (35,260) (4,837)
Net cash from financing activities 17,414 9,250 25,352
------------- ------------ ------------
Net change in cash and cash equivalents (400) (23,903) 21,751
Cash and cash equivalents at beginning of period 1,701 25,604 3,853
------------- ------------ ------------
Cash and cash equivalents at end of period $ 1,301 $ 1,701 $ 25,604
============= ============ ============
The Corporation's principal sources of funds are deposits, loan and
mortgage-backed securities repayments, maturities of securities, investment and
mortgage-backed and related securities available for sale and other funds
provided by operations. The Bank also has the ability to borrow from the FHLB.
While scheduled loan repayments and maturing investments are relatively
predictable, deposit flows and early loan and mortgage-backed security
prepayments are more influenced by interest rates, general economic conditions,
and competition. The Corporation maintains investments in liquid assets based
upon management's assessment of (1) need for funds, (2) expected deposit flows,
(3) yields available on short-term liquid assets and (4) objectives of the
asset/liability management program.
OTS regulations presently require the Bank to maintain an average daily balance
of investments in United States Treasury, federal agency obligations and other
investments having maturities of five years or less in an amount equal to 5% of
the sum of the Bank's average daily balance of net withdrawable deposit accounts
and borrowings payable in one year or less. The liquidity requirement, which may
be changed from time to time by the OTS to reflect changing economic conditions,
is intended to provide a source of relatively liquid funds upon which the Bank
may rely, if necessary, to fund deposit withdrawals or other short-term funding
needs. At September 30, 1996, the Bank's regulatory liquidity ratio was 7.08%.
At such date, the Bank had commitments to originate fixed-rate loans totaling
$2,417,000. The Bank had no commitments to originate adjustable-rate loans and
no commitments to purchase or sell loans. The Corporation considers its
liquidity and capital reserves sufficient to meet its outstanding short-and
long-term needs. See Note 13 of the Notes to Consolidated Financial Statements.
-56-
57
The Bank is required by OTS regulations to meet certain minimum capital
requirements, which requirements must be generally as stringent as the
requirements established for banks. Current capital requirements call for
tangible capital of 1.5% of adjusted total assets, core capital (which for the
Bank consists solely of tangible capital) of 3.0% of adjusted total assets and
risk-based capital (which for the Bank consists of core capital and general
valuation allowances) of 8% of risk-weighted assets (assets are weighted at
percentage levels ranging from 0% to 100% depending on their relative risk). The
OTS has proposed to amend the core capital requirement so that those
associations that do not have the highest examination rating and an acceptable
level of risk will be required to maintain core capital of from 4% to 5%,
depending on the association's examination rating and overall risk. The Bank
does not anticipate that it will be adversely affected if the core capital
requirements regulations are amended as proposed.
The following table summarizes the Bank's regulatory capital requirements and
actual capital at September 30, 1996. (See Note 13 of Notes to Consolidated
Financial Statements for a reconciliation of capital under generally accepted
accounting principles and regulatory capital amounts.)
Excess of Actual
Capital Over Current
Actual capital Current requirement Requirement Applicable
Amount Percent Amount Percent Amount Percent Asset Total
------ ------- ------ ------- ------ ------- -----------
(Dollars in thousands)
Tangible Capital 20,226 11.56% $ 2,624 1.50% $ 17,602 10.06% 174,918
Core Capital 20,226 11.56 5,248 3.00 14,978 8.56 174,918
Risk-based Capital 20,562 24.25 6,784 8.00 13,778 16.25 84,796
At September 30, 1996, the Corporation had no material commitments for capital
expenditures.
On October 21, 1996, the Corporation declared a special dividend of $2.50 per
share to all shareholders of record on November 4, 1996. The dividend was paid
on November 15, 1996. Additionally, in October, 1996, the Board of Directors of
the Corporation authorized the purchase of up to 5% of the Corporation's
outstanding common shares over a six-month period. The shares will be purchased
in the over-the-counter market. The number of shares to be purchased and the
price to be paid will depend upon the availability of shares, the prevailing
market prices and any other considerations which may, in the opinion of the
Corporation's Board of Directors or management, affect the advisability of
purchasing shares.
IMPACT OF NEW ACCOUNTING STANDARDS
SFAS No. 106, "Employers' Accounting for Postretirement Benefits Other Than
Pensions," was adopted by the Corporation in October 1995. This statement
requires the accrual of retiree health and other postretirement benefits during
the working career of active employees, rather than the practice of expensing
the benefits when paid for the retirees. Currently, the Corporation is not
providing "postretirement benefits other than pensions." As such, adoption of
SFAS No. 106 had no impact on the Corporation's financial statements.
-57-
58
SFAS No. 107 disclosures were required for the first time for the Corporation in
the 1996 financial statements. The Statement extends existing fair value
disclosure practices for some instruments by requiring all entities to disclose
the fair value of all financial instruments, both assets and liabilities,
recognized and not recognized in the balance sheet, for which estimating the
fair value is practicable.
On October 1, 1995, the Corporation adopted the provisions of SFAS No. 114,
"Accounting by Creditors for Impairment of a Loan" as amended by SFAS No. 118,
"Accounting by Creditors for Impairment of a Loan - Income Recognition and
Disclosures." Under these standards, loans considered to be impaired are reduced
to the present value of expected future cash flows or to the fair value of
collateral, by allocating a portion of the allowance for loan losses to such
loans. If these allocations cause the allowance for loan losses to require
increase, such increase is reported as bad debt expense. The effect of adopting
these standards did not materially affect the allowance for loan losses at
October 1, 1995 or at September 30, 1996.
As discussed in Note 4, the Corporation was required to adopt SFAS No. 122,
"Accounting for Mortgage Servicing Rights," as of October 1, 1996. SFAS No. 122
was superseded by SFAS No. 125, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities" which will be effective on
October 1, 1997. The adoption of SFAS No. 122, as of October 1, 1996, did not
have a material impact on the Corporation's financial statements. The adoption
of SFAS No. 125, on October 1, 1997, is not expected to impact materially the
Corporation's financial statements.
As discussed in Note 15, in October 1995, the Financial Accounting Standards
Board ("FASB") issued SFAS No. 123, "Accounting for Stock-Based Compensation."
SFAS No. 123 encourages, but does not require, entities to use a "fair value
based method" to account for stock-based compensation plans. Currently, the
Corporation does not have any options subject to the new accounting or
disclosure requirements.
IMPACT OF INFLATION AND CHANGING PRICES
The Consolidated Financial Statements and Notes included herein have been
prepared in accordance with generally accepted accounting principles ("GAAP").
Presently, GAAP requires the Corporation to measure financial position and
operating results primarily in terms of historic dollars. Changes in the
relative value of money due to inflation or recession are generally not
considered.
In management's opinion, changes in interest rates affect the financial
condition of a financial institution to a far greater degree than changes in the
inflation rate. While interest rates are greatly influenced by changes in the
inflation rate, they do not change at the same rate or in the same magnitude as
the inflation rate. Rather, interest rate volatility is based on changes in the
expected rate of inflation, as well as on changes in monetary and fiscal
policies.
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ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
REPORT OF INDEPENDENT AUDITORS
Board of Directors and Shareholders
Milton Federal Financial Corporation
West Milton, Ohio
We have audited the accompanying consolidated balance sheets of Milton Federal
Financial Corporation as of September 30, 1996 and 1995, and the related
consolidated statements of income, changes in shareholders' equity and cash
flows for each of the three years in the period ended September 30, 1996. These
financial statements are the responsibility of the Corporation'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, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Milton Federal
Financial Corporation as of September 30, 1996 and 1995 and the results of its
operations and its cash flows for each of the three years in the period ended
September 30, 1996 in conformity with generally accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, the Corporation
changed its method of accounting for impaired loans in 1996 and its method of
accounting for certain investments in 1995 to comply with new accounting
guidance.
Crowe, Chizek and Company LLP
Columbus, Ohio
October 21, 1996
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MILTON FEDERAL FINANCIAL CORPORATION
CONSOLIDATED BALANCE SHEETS
September 30, 1996 and 1995
- -----------------------------------------------------------------------------------------
1996 1995
------------- -------------
ASSETS
Cash and amounts due from depository institutions $ 491,866 $ 949,114
Interest-bearing deposits in other financial
institutions 809,143 751,626
------------- -------------
Total cash and cash equivalents 1,301,009 1,700,740
Investment securities available for sale (Note 3) 8,521,559 11,077,800
Investment securities held to maturity
(Estimated fair value of $484,375) (Note 3) 500,000
Mortgage-backed and related securities available for
sale (Note 3) 34,009,393 17,110,006
Mortgage-backed and related securities held to maturity
(Estimated fair values of $13,807,113 and $25,812,581
for 1996 and 1995, respectively) (Note 3) 14,002,137 25,973,686
Federal Home Loan Bank stock 1,181,500 1,099,400
Loans receivable - net (Note 4) 116,748,891 100,757,649
Premises and equipment - net (Note 5) 1,541,676 1,443,629
Real estate owned - net 32,654 32,654
Cash surrender value of life insurance (Note 6) 1,455,493 1,388,855
Accrued interest receivable (Note 7) 1,057,428 891,413
Other assets 479,077 204,337
------------- -------------
Total assets $ 180,830,817 $ 161,680,169
============= =============
LIABILITIES
Deposits (Note 8) $ 128,554,107 $ 117,897,908
Borrowed funds (Note 10) 17,489,203 5,260,000
Advance payments by borrowers for taxes and
insurance 182,810 260,117
Accrued interest payable 104,818 27,190
Other liabilities (Note 11) 1,020,476 732,497
------------- -------------
Total liabilities 147,351,414 124,177,712
------------- -------------
Commitments and contingencies (Note 12)
SHAREHOLDERS' EQUITY (Notes 2 and 13)
Preferred stock, no par value, 1,000,000 shares
authorized, none outstanding
Common stock, no par value, 9,000,000 shares
authorized, 2,578,875 shares issued
Additional paid-in capital 24,951,691 24,880,297
Retained earnings (Note 9) 13,535,280 15,787,634
Treasury stock, 128,943 shares at cost (1,997,640)
Unearned employee stock ownership plan shares (Note 16) (1,650,479) (1,855,736)
Unearned recognition and retention plan shares (Note 17) (1,269,957) (1,485,339)
Unrealized gain (loss) on securities available for sale (89,492) 175,601
------------- -------------
Total shareholders' equity 33,479,403 37,502,457
------------- -------------
Total liabilities and shareholders' equity $ 180,830,817 $ 161,680,169
============= =============
- -----------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
-60-
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MILTON FEDERAL FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
Years ended September 30, 1996, 1995, and 1994
- -------------------------------------------------------------------------------------------
1996 1995 1994
---- ---- ----
INTEREST AND DIVIDEND INCOME
Interest and fees on loans $ 8,858,805 $ 7,913,407 $7,463,360
Interest on mortgage-backed
and related securities 2,995,124 2,223,779 1,396,749
Interest on investments 628,619 740,116 164,759
Interest on interest-bearing deposits 103,790 191,721 162,053
Dividends on Federal Home Loan Bank
stock 79,152 70,245 52,330
----------- ----------- ----------
12,665,490 11,139,268 9,239,251
INTEREST EXPENSE
Interest on deposits 6,199,016 5,229,721 4,621,167
Interest on other borrowings 619,790 6,761 9,949
----------- ----------- ----------
6,818,806 5,236,482 4,631,116
----------- ----------- ----------
NET INTEREST INCOME 5,846,684 5,902,786 4,608,135
Provision for loan losses (Note 4) 154,300 64,300 42,200
----------- ----------- ----------
NET INTEREST INCOME AFTER PROVISION
FOR LOAN LOSSES 5,692,384 5,838,486 4,565,935
----------- ----------- ----------
NONINTEREST INCOME
Service charges and other fees 131,696 136,221 137,218
Gain on sale of real estate owned, net 686 76
Gain on sale of mortgage-backed
and related securities available for sale 225,797
Other income 99,498 120,223 110,130
----------- ----------- ----------
456,991 257,130 247,424
----------- ----------- ----------
NONINTEREST EXPENSE
Salaries and employee benefits 1,958,788 1,783,944 1,391,227
Occupancy expense 283,422 285,889 283,639
Data processing services 158,180 146,895 141,202
Federal deposit insurance premiums (Note 11) 1,003,897 266,927 250,306
State franchise taxes 372,980 214,956 194,393
Advertising 42,472 45,007 67,251
Other expenses 590,658 555,963 422,915
----------- ----------- ----------
4,410,397 3,299,581 2,750,933
----------- ----------- ----------
INCOME BEFORE INCOME TAX 1,738,978 2,796,035 2,062,426
Income tax expense (Note 9) 595,000 946,654 680,001
----------- ----------- ----------
NET INCOME $ 1,143,978 $ 1,849,381 $1,382,425
=========== =========== ==========
Earnings per common share $ .49 $ .77
=========== ==========
- -------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
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MILTON FEDERAL FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
Years ended September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------------------------------------------
Unrealized
Gain (Loss) on
Additional Unearned Securities
Paid-In Retained Treasury Employee Benefit Available
Capital Earnings Stock Plan Shares for Sale Total
------- -------- ----- ----------- -------- -----
Balance, October 1,
1993 $13,011,938 $ 13,011,938
Net income for the year
ended September 30, 1994 1,382,425 1,382,425
----------- ------------
Balance, September 30,
1994 14,394,363 14,394,363
Net income for the year
ended September 30, 1995 1,849,381 1,849,381
Cash dividends -
$.19 per share (456,110) (456,110)
Effect of change in accounting
for investment securities at
October 1, 1994 (Note 1) $ (7,597) (7,597)
Sale of 2,578,875
shares of no par
common stock,
net of conversion
costs (Note 2) $ 24,844,095 24,844,095
191,240 shares purchased
under employee
stock ownership
plan (Note 16) $ (2,062,046) (2,062,046)
Commitment
to release 19,124
employee stock
ownership
plan shares
(Note 16) 36,202 206,310 242,512
103,155 shares purchased
under recognition
and retention plan
(Note 17) (1,485,339) (1,485,339)
Change in unrealized
gain (loss) on securities
available for sale 183,198 183,198
---------- ----------- ----------- ------------ ----------- ------------
Balance, September 30,
1995 24,880,297 15,787,634 (3,341,075) 175,601 37,502,457
- --------------------------------------------------------------------------------------------------------------------
(Continued)
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MILTON FEDERAL FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
Years ended September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------------------------------------------
Unrealized
Gain (Loss) on
Additional Unearned Securities
Paid-In Retained Treasury Employee Benefit Available
Capital Earnings Stock Plan Shares for Sale Total
------- -------- ----- ----------- -------- -----
Net income for
the year ended
September 30,
1996 1,143,978 1,143,978
Cash dividends -
$1.43 per share (3,396,332) (3,396,332)
Commitment
to release 19,124
employee stock
ownership
plan shares
(Note 16) 71,394 205,257 276,651
14,957 shares earned
under recognition
and retention plan
(Note 17) 215,382 215,382
Purchase 128,943 shares
of Treasury Stock at
cost (1,997,640) (1,997,640)
Change in unrealized gain
(loss) on securities
available for sale (265,093) (265,093)
------------- ----------- ----------- ----------- ----------- ------------
Balance,
September 30,
1996 $ 24,951,691 $13,535,280 $(1,997,640) $ (2,920,436) $ (89,492) $ 33,479,403
============== =========== =========== ============ =========== ============
- --------------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
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MILTON FEDERAL FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended September 30, 1996, 1995 and 1994
- -------------------------------------------------------------------------------------------------------------------
1996 1995 1994
---- ---- ----
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 1,143,978 $ 1,849,381 $ 1,382,425
Adjustments to reconcile net income to
net cash from operating activities
Amortization of deferred loan
origination fees (133,449) (105,669) (202,710)
Amortization of premiums, accretion
of discounts, net 43,407 43,658 111,242
Provision for loan losses 154,300 64,300 42,200
Depreciation 145,234 153,279 150,530
Increase in cash value of life
insurance (66,638) (63,576) (61,079)
Gain on sale of mortgage-backed and
related securities available for sale (225,797)
Federal Home Loan Bank stock
dividend (78,900) (70,000) (52,100)
Compensation expense related to
ESOP shares 276,651 242,512
Compensation expense related to RRP shares 215,382
Deferred tax expense (benefit) (304,334) 56,645 50,483
Change in accrued interest
receivable and other assets (440,672) (150,302) (205,883)
Change in accrued interest payable and
other liabilities 806,505 88,044 20,580
--------------- -------------- ----------------
Net cash from operating activities 1,535,667 2,108,272 1,235,688
--------------- -------------- ----------------
CASH FLOWS FROM INVESTING ACTIVITIES
Investment securities available for sale
Purchases (4,503,769) (9,992,080)
Proceeds from maturities 7,000,000 2,000,000
Investment securities held to maturity
Purchases (500,000)
Mortgage-backed securities available
for sale
Purchases (21,889,791) (17,460,956)
Proceeds from principal payments 2,182,385 584,620
Proceeds from sales 11,788,658
Mortgage-backed securities held to maturity
Purchases (5,793,067)
Proceeds from principal payments 2,831,653 4,919,948
Proceeds from maturities of
investment securities 1,300,000
Mortgage-backed security purchases (4,000,000)
- -------------------------------------------------------------------------------------------------------------------
(Continued)
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MILTON FEDERAL FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
Years ended September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------------------------------------------
1996 1995 1994
---- ---- ----
CASH FLOWS FROM INVESTING ACTIVITIES (Continued)
Proceeds from maturities and principal
payments of mortgage-backed securities $ 7,225,099
Purchase of Federal Home Loan Bank stock $ (3,200)
Net increase in loans (16,012,093) $ (9,540,273) (9,267,140)
Premises and equipment expenditures (243,364) (64,529) (133,854)
Proceeds from sale of real estate owned 85,898 38,676
--------------- --------------- ----------------
Net cash from investing activities (19,349,521) (35,260,439) (4,837,219)
--------------- --------------- ----------------
CASH FLOWS FROM FINANCING ACTIVITIES
Net change in deposit accounts 10,656,199 (16,891,606) 25,306,761
Net increase (decrease) in advance payments by
borrowers for taxes and insurance (77,307) 41,273 45,828
Net change in short-term borrowings 2,200,000 1,000,000
Long-term advances from Federal Home Loan Bank 10,120,000 4,260,000
Principal payments on long-term Federal Home
Loan Bank advances (90,797)
Cash dividends paid (3,396,332) (456,110)
Proceeds from issuance of common stock,
net of conversion costs 24,844,095
Cash provided to ESOP (2,063,100)
Shares purchased under RRP (1,485,339)
Purchase of treasury stock (1,997,640)
--------------- --------------- ----------------
Net cash from financing activities 17,414,123 9,249,213 25,352,589
--------------- --------------- ----------------
Net change in cash and cash equivalents (399,731) (23,902,954) 21,751,058
Cash and cash equivalents at beginning
of year 1,700,740 25,603,694 3,852,636
--------------- --------------- ----------------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 1,301,009 $ 1,700,740 $ 25,603,694
=============== =============== ================
SUPPLEMENTAL DISCLOSURES OF CASH FLOW
INFORMATION
Cash paid during the year for
Interest on deposits and other borrowings $ 6,741,178 $ 5,238,072 $ 4,633,036
Income taxes 932,000 887,754 632,039
Noncash activities
Transfer from loans to real estate owned 69,928 8,796
Transfers of investment securities to
available for sale from held to
maturity upon initial adoption of
Statement of Financial Accounting
Standards (SFAS) No. 115 3,015,000
Transfers of mortgage-backed and related
securities from held to maturity to available
for sale as allowed by the SFAS No. 115
implementation guide 9,090,701
- --------------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
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MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The following is a summary of significant accounting policies followed in the
preparation of the accompanying consolidated financial statements.
PRINCIPLES OF CONSOLIDATION: The consolidated financial statements include the
accounts of Milton Federal Financial Corporation (the "Corporation") and its
wholly-owned subsidiary, Milton Federal Savings Bank (the "Bank"), a federal
stock savings bank. The financial statements of the Bank include the accounts of
its wholly-owned subsidiary, Milton Financial Service Corporation. Milton
Financial Service Corporation holds stock in Intrieve, which is the data
processing center utilized by the Bank.
All significant intercompany accounts and transactions have been eliminated.
NATURE OF OPERATIONS: The Corporation is a thrift holding company and is engaged
in the business of commercial and retail banking services with operations
conducted through its main office in West Milton, Ohio and its full-service
branch office located in Englewood, Ohio. Miami, Montgomery and Darke Counties
provide the source of substantially all of the Corporation's deposit and lending
activities. The majority of the Corporation's income is derived from
residential, nonresidential and consumer lending activities and investments.
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS: 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 disclosure 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. Areas involving the use of management's estimates and
assumptions include the allowance for loan losses, the realization of deferred
tax assets, fair value of certain securities, the determination and carrying
value of impaired loans, the carrying value of loans held for sale, the carrying
value of other real estate owned, the accrued liability for deferred
compensation, recognition and measurement of loss contingencies, and
depreciation of premises and equipment.
INVESTMENT AND MORTGAGE-BACKED AND RELATED SECURITIES: The Corporation
classifies investment and mortgage-backed and related securities into
held-to-maturity and available-for-sale categories. Held-to-maturity securities
are those which the Corporation has the positive intent and ability to hold to
maturity, and are reported at amortized cost. Available-for-sale securities are
those which the Corporation could sell for liquidity, asset-liability
management, or other reasons even if the Corporation does not presently intend
such sale. Available-for-sale securities are reported at fair value, with
unrealized gains or losses included as a separate component of equity, net of
tax.
- --------------------------------------------------------------------------------
(Continued)
-66-
67
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Realized gains and losses on investment and mortgage-backed and related
securities are determined based on the specific security sold. Interest and
dividend income, adjusted by amortization of purchase premium or discount, is
included in earnings.
On October 1, 1994, the Corporation adopted SFAS No. 115 and accordingly
classified its securities into the categories discussed above. Prior to this
date, all securities were reported at amortized cost. This reclassification
decreased equity by $7,597 at October 1, 1994, which is the after tax effect of
the adjustment from amortized cost to fair value for securities classified as
available for sale at that date.
The Financial Accounting Standards Board ("FASB") issued a "Question and Answer
Implementation Guide" to SFAS No. 115 in November 1995. Based upon the reading
thereof and in accordance with the provisions of this implementation guidance,
the Corporation conducted a one-time reassessment of the appropriateness of its
securities classifications and transferred $9,090,701 of investment securities
classified as held-to-maturity to available for sale in December, 1995. The
unrealized gain at the time the securities were transferred was approximately
$179,000. The after-tax effect of the transfer was to increase equity by
approximately $118,000.
ALLOWANCE FOR LOAN LOSSES: Because some loans may not be repaid in full, an
allowance for loan losses is maintained. Increases to the allowance are recorded
by a provision for loan losses charged to expense. Estimating the risk of the
loss and the amount of loss on any loan is necessarily subjective. Accordingly,
the allowance is maintained by management at a level considered adequate to
cover possible losses that are currently anticipated based on past loss
experience, general economic conditions, information about specific borrower
situations, including their financial position and collateral values and other
factors and estimates which are subject to change over time. While management
may periodically allocate portions of the allowance for specific problem loan
situations, the whole allowance is available for any loan charge-offs that
occur. A loan is charged off against the allowance by management when deemed
uncollectible, although collection efforts continue and future recoveries may
occur.
On October 1, 1995, the Corporation adopted the provisions of SFAS No. 114,
"Accounting by Creditors for Impairment of a Loan" as amended by SFAS No. 118,
"Accounting by Creditors for Impairment of a Loan - Income Recognition and
Disclosures." Under these standards, loans considered to be impaired are reduced
to the present value of expected future cash flows or to the fair value of
collateral, by allocating a portion of the allowance for loan losses to such
loans. If these allocations cause the allowance for loan losses to require an
increase, such increase is reported as bad debt expense. The adoption of this
standard did not materially affect the allowance for loan losses at October 1,
1995 or at September 30, 1996.
- --------------------------------------------------------------------------------
(Continued)
-67-
68
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Smaller-balance homogeneous pools of loans are evaluated for impairment in
total. Such loans include residential first mortgage loans secured by one- to
four-family residences, residential construction loans, automobile, home equity
and second mortgage loans. Commercial loans and mortgage loans secured by other
properties are evaluated individually for impairment. When analysis of borrower
operating results and financial condition indicates that underlying cash flows
of the borrower's business are not adequate to meet its debt service
requirements, the loan is evaluated for impairment. Often this is associated
with a delay or shortfall in payments of 30 days or more. Loans are generally
moved to nonaccrual status when 90 days or more past due, unless collection is
assured. These loans are often also considered impaired. Impaired loans, or
portions thereof, are charged off when deemed uncollectible. The nature of
disclosures for impaired loans is considered generally comparable to prior
nonaccrual loan disclosures.
INTEREST AND FEES ON LOANS: Interest on loans is accrued over the term of the
loans based upon the principal outstanding. Management reviews loans delinquent
90 days or more to determine if the interest accrual should be discontinued.
Under SFAS No. 114, as amended by SFAS No. 118, the carrying value of impaired
loans is periodically adjusted to reflect cash payments, revised estimates of
future cash flows and increases in the present value of expected cash flows due
to the passage of time. Cash payments on impaired loans representing interest
income are reported as such and other cash payments are reported as reductions
in carrying value. Increases or decreases in carrying value due to changes in
estimates of future payments or the passage of time are reported as reductions
or increases in bad debt expense.
Fees and costs associated with originating or acquiring loans are deferred and
amortized as an adjustment to the loan yield over the life of the respective
loans. The net amount of fees and costs deferred is reported in the consolidated
balance sheets as part of loans.
PREMISES AND EQUIPMENT: Premises and equipment are stated at cost less
accumulated depreciation. Depreciation is computed principally on an accelerated
method over the estimated useful life of the asset. Maintenance and repairs are
charged to expense as incurred and improvements are capitalized.
REAL ESTATE OWNED: Real estate acquired through foreclosure or
deed-in-lieu-of-foreclosure is initially recorded at fair value, less estimated
costs to sell. Any future reduction in fair value is reflected in a valuation
allowance account established by a charge to income. Costs incurred to carry
other real estate are charged to expense.
- --------------------------------------------------------------------------------
(Continued)
-68-
69
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
INCOME TAXES: The Corporation follows the liability method in accounting for
income taxes. The liability method provides that deferred tax assets and
liabilities are recorded based on the difference between the tax basis of assets
and liabilities and their carrying amounts for financial reporting purposes,
using enacted tax rates.
CONCENTRATIONS OF CREDIT RISK: The Bank grants residential and commercial real
estate and consumer loans to customers located primarily in Miami, Montgomery
and Darke Counties. Approximately 97.4% of the loans in the Bank's loan
portfolio have interest rates fixed until the maturity of the loans.
At September 30, 1996 and 1995, the Bank has interest-bearing deposits in the
Federal Home Loan Bank ("FHLB") of Cincinnati totaling $809,143 and $751,626,
respectively, and owns stock in the FHLB with a carrying value of $1,181,500 and
$1,099,400, respectively.
STATEMENT OF CASH FLOWS: For purposes of reporting cash flows, cash and cash
equivalents include cash on hand, amounts due from depository institutions and
interest-bearing deposits in other financial institutions with original
maturities of 90 days or less. The Corporation reports net cash flows for
customer loan and deposit transactions, as well as short-term borrowings under
its cash management line of credit with the FHLB.
COMMITMENTS AND FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK: The Bank, in
the normal course of business, makes commitments to extend credit which are not
reflected in the financial statements. A summary of these commitments is
disclosed in Note 12.
EARNINGS PER COMMON SHARE: Earnings per common share were computed by dividing
net income by the weighted average number of shares outstanding for the year.
The weighted average number of shares outstanding for the year ended September
30, 1996 and 1995 were 2,345,244 and 2,407,464 respectively. Stock options
outstanding do not presently have a dilutive effect greater than or equal to 3%
on earnings per common share. Unreleased ESOP shares are not considered to be
outstanding shares for the purpose of determining the weighted average number of
shares used in the earnings per common share calculation. No earnings per share
is shown for the year ended September 30, 1994, as prior to October 6, 1994, the
Bank was a mutual Company. The financial information for the year ended
September 30, 1994 reflects the Bank prior to the conversion.
RECLASSIFICATIONS: Certain amounts appearing in the financial statements and
notes thereto for the year ended September 30, 1995 and 1994 have been
reclassified to conform with the September 30, 1996 presentation.
- --------------------------------------------------------------------------------
(Continued)
-69-
70
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 2 - CONSUMMATION OF THE CONVERSION TO A STOCK SAVINGS BANK
WITH THE CONCURRENT FORMATION OF A HOLDING COMPANY
On February 21, 1994, the Board of Directors of the Bank unanimously adopted a
plan of conversion to convert from a federally chartered mutual savings and loan
association to a federally chartered stock savings bank with the concurrent
formation of a holding company, Milton Federal Financial Corporation. The Board
of Directors amended the plan of conversion on June 6, 1994. The conversion was
consummated on October 6, 1994 by amending the Bank's federal charter and the
sale of the Corporation's common shares in an amount equal to the market value
of the Bank after giving effect to the conversion. A total of 2,578,875 common
shares of the Corporation were sold at $10.00 per share and net proceeds from
the sale were $24,844,095 after deducting the costs of conversion.
The Corporation retained 50% of the net proceeds from the sale of common shares.
The remainder of the net proceeds were invested in the capital stock issued by
the Bank to the Corporation as a result of the conversion.
At the time of Conversion, the Bank established a liquidation account which was
equal to its regulatory capital as of the latest practicable date prior to the
Conversion. In the event of a complete liquidation, each eligible depositor will
be entitled to receive a distribution from the liquidation account in an amount
proportionate to the current adjusted qualifying balances for the accounts then
held.
Under Office of Thrift Supervision ("OTS") regulations, limitations have been
imposed on all capital distributions, including cash dividends. The regulation
establishes a three-tiered system of restrictions, with the greatest flexibility
afforded to thrifts which are both well-capitalized and given favorable
qualitative examination ratings by the OTS.
- --------------------------------------------------------------------------------
(Continued)
-70-
71
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 3 - INVESTMENT AND MORTGAGE-BACKED AND RELATED SECURITIES
The amortized cost and estimated fair values of investment and mortgage-backed
and related securities are as follows:
-------------------------September 30, 1996 --------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---- ----- ------ -----
SECURITIES AVAILABLE FOR SALE
Investment securities
U.S. Treasury securities $ 2,999,645 $ 7,230 $ 3,006,875
U.S. Government and federal
agency securities 5,503,769 620 $ (4,705) 5,499,684
Equity securities 15,000 15,000
--------------- ----------- ------------- ----------------
Total investment securities $ 8,518,414 $ 7,850 $ (4,705) $ 8,521,559
=============== =========== ============= ================
Mortgage-backed and
related securities
FNMA certificates $ 510,095 $ 13,526 $ 523,621
FHLMC certificates 2,596,117 63,413 2,659,530
Collateralized mortgage
obligations and REMICs 31,041,919 175,155 $ (390,832) 30,826,242
--------------- ----------- ------------- ----------------
Total mortgage-backed and
related securities $ 34,148,131 $ 252,094 $ (390,832) $ 34,009,393
=============== =========== ============= ================
SECURITIES HELD TO MATURITY
Investment securities
U.S. Government and federal
agency securities $ 500,000 $ (15,625) $ 484,375
=============== ============= ================
Mortgage-backed and
related securities
FNMA certificates $ 5,904,260 $ 30,425 $ (139,212) $ 5,795,473
GNMA certificates 917,818 20,166 937,984
FHLMC certificates 7,180,059 54,173 (160,576) 7,073,656
--------------- ----------- ------------- ----------------
Total mortgage-backed and
related securities $ 14,002,137 $ 104,764 $ (299,788) $ 13,807,113
=============== =========== ============= ================
- --------------------------------------------------------------------------------
(Continued)
-71-
72
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 3 - INVESTMENT AND MORTGAGE-BACKED AND RELATED SECURITIES (Continued)
-------------------------September 30, 1995 --------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
SECURITIES AVAILABLE FOR SALE
Investment securities
U.S. Treasury securities $ 7,995,248 $ 71,952 $ 8,067,200
U.S. Government and federal
agency securities 3,001,113 3,577 $ (9,090) 2,995,600
Equity securities 15,000 15,000
--------------- ----------- ------------- ----------------
Total investment securities $ 11,011,361 $ 75,529 $ (9,090) $ 11,077,800
=============== =========== ============= ================
Mortgage-backed and
related securities
FNMA certificates $ 932,055 $ 18,527 $ 950,582
GNMA certificates 1,908,315 53,134 1,961,449
FHLMC certificates 3,682,673 46,284 3,728,957
Collateralized mortgage
obligations and REMICs 10,387,339 97,083 $ (15,404) 10,469,018
--------------- ----------- ------------- ----------------
Total mortgage-backed and
related securities $ 16,910,382 $ 215,028 $ (15,404) $ 17,110,006
=============== =========== ============= ================
SECURITIES HELD TO MATURITY
Mortgage-backed and
related securities
FNMA certificates $ 6,862,444 $ 23,272 $ 114,855 $ 6,770,861
GNMA certificates 2,954,990 102,720 2,747 3,054,963
FHLMC certificates 8,863,328 54,001 201,041 8,716,288
SBA certificates 39,154 245 38,909
Collateralized mortgage
obligations and REMICs 7,253,770 126,668 148,878 7,231,560
--------------- ----------- ------------- ----------------
Total mortgage-backed and
related securities $ 25,973,686 $ 306,661 $ 467,766 $ 25,812,581
=============== =========== ============= ================
Substantially all collateralized mortgage obligations and REMICs (real estate
mortgage investment conduits) are backed by pools of mortgages that are insured
or guaranteed by the Federal National Mortgage Association ("FNMA") and the
Federal Home Loan Mortgage Corporation ("FHLMC").
- --------------------------------------------------------------------------------
(Continued)
-72-
73
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 3 - INVESTMENT AND MORTGAGE-BACKED AND RELATED SECURITIES (Continued)
The amortized cost and estimated fair value of investments in debt securities at
September 30, 1996, by contractual maturity, are shown below. Actual maturities
will differ from contractual maturities because borrowers may have the right to
call or prepay obligations with or without call or prepayment penalties.
Estimated
Amortized Fair
Cost Value
---- -----
SECURITIES AVAILABLE FOR SALE
Due in one year or less $ 3,999,645 $ 4,004,870
Due after one year through five years 4,503,769 4,501,689
Equity securities 15,000 15,000
--------------- ----------------
Total investment securities 8,518,414 8,521,559
Mortgage-backed and related securities 34,148,131 34,009,393
--------------- ----------------
Total investment and mortgage-backed
and related securities $ 42,666,545 $ 42,530,952
=============== ================
SECURITIES HELD TO MATURITY
Due after five years through ten years $ 500,000 $ 484,375
Mortgage-backed and related securities 14,002,137 13,807,113
--------------- ----------------
Total investment and mortgage-backed
and related securities $ 14,502,137 $ 14,291,488
=============== ================
Other than mortgage-backed and related securities available for sale, no
securities were sold during the fiscal years ended September 30, 1996, 1995 and
1994.
During the fiscal year ended September 1996, proceeds from the sales of
mortgage-backed and related securities available for sale were $11,788,658 with
gross gains of $252,907 and gross losses of $27,110 included in earnings. No
mortgage-backed and related securities were sold during the fiscal years ended
September 30, 1995 and 1994.
- --------------------------------------------------------------------------------
(Continued)
-73-
74
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 4 - LOANS RECEIVABLE
Loans receivable consisted of the following:
1996 1995
---- ----
Residential real estate loans
1-4 family (first mortgage) $ 102,392,912 $ 88,898,814
Home equity (1-4 family second mortgage) 2,928,693 1,128,590
Multi-family 2,248,970 1,986,929
Nonresidential real estate loans 4,425,522 4,749,984
Construction loans 9,083,082 6,352,789
---------------- -----------------
Total real estate loans 121,079,179 103,117,106
---------------- -----------------
Consumer
Automobile loans 1,928,376 1,846,729
Loans on deposits 199,313 192,850
Other consumer loans 129,877 114,850
---------------- -----------------
Total consumer and other loans 2,257,566 2,154,429
---------------- -----------------
Total loans 123,336,745 105,271,535
---------------- -----------------
Less
Net deferred loan fees 627,079 646,518
Loans in process 5,473,573 3,534,466
Allowance for losses on loans 487,202 332,902
---------------- -----------------
Net loans $ 116,748,891 $ 100,757,649
================ =================
The Bank is an authorized seller/servicer for the Federal Home Loan Mortgage
Corporation. No loans were sold during the years ending September 30, 1996, 1995
or 1994.
The Corporation had approximately $11.0 million of loans included in 1-4 family
first mortgage loans above which are classified as held for sale at September
30, 1996. These loans are recorded at the lower of cost or market in the
aggregate. There were no loans classified as held for sale at September 30,
1995.
- --------------------------------------------------------------------------------
(Continued)
-74-
75
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 4 - LOANS RECEIVABLE (Continued)
The Corporation was required to adopt SFAS No. 122, "Accounting for Mortgage
Servicing Rights," on October 1, 1996. It requires companies to recognize, as
separate assets, rights to service mortgage loans for others, regardless of how
these rights are acquired. Mortgage servicing rights acquired through either the
purchase or the origination of mortgage loans which are subsequently sold with
servicing rights retained should be determined by allocating the total cost of
the mortgage loans to mortgage servicing rights and to loans (without the
mortgage servicing rights) based on their relative fair values. Mortgage
servicing rights recorded as a separate asset are amortized in proportion to,
and over the period of, estimated net servicing income. This pronouncement was
superseded by SFAS No. 125, "Accounting for Transfers and Servicing of Financial
Assets and Extinguishments of Liabilities," which extends the accounting and
disclosure rules for mortgage servicing rights to all servicing rights including
mortgage, consumer and commercial loans. The adoption of SFAS 122 did not have a
material impact on the Corporation's financial statements at October 1, 1996.
SFAS 125 will be effective on October 1, 1997 and is not expected to have a
material impact on the Corporation's financial statements.
Activity in the allowance for losses on loans is as follows:
1996 1995 1994
---- ---- ----
Balance at beginning of year $ 332,902 $ 268,928 $ 226,728
Provision for loan losses 154,300 64,300 42,200
Recoveries
Charge-offs (326)
------------ ------------ ------------
Balance at end of year $ 487,202 $ 332,902 $ 268,928
============ ============ ============
Nonaccrual loans for which interest has been suspended totaled approximately
$312,000 and $153,000 at September 30, 1996 and 1995, respectively.
As of and for the year ended September 30, 1996, no loans were considered
impaired within the scope of SFAS No. 114.
Certain directors and executive officers of the Corporation and the Bank were
loan customers of the Bank. A summary of activity on related party loans is as
follows:
Beginning balance - October 1, 1995 $ 1,024,082
New loans 47,205
Repayments (94,628)
--------------
Ending balance - September 30, 1996 $ 976,659
==============
- --------------------------------------------------------------------------------
(Continued)
-75-
76
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 5 - PREMISES AND EQUIPMENT
Premises and equipment consisted of the following:
1996 1995
---- ----
Land $ 274,700 $ 108,337
Buildings and improvements 1,628,602 1,620,976
Furniture and equipment 924,539 855,477
------------- -------------
Total cost 2,827,841 2,584,790
Accumulated depreciation (1,286,165) (1,141,161)
------------- -------------
$ 1,541,676 $ 1,443,629
============= =============
NOTE 6 - DEFERRED COMPENSATION
The Corporation provides a deferred compensation plan for its Board of
Directors. Under the terms of the plan, directors may elect to defer a portion
of their fees which would be retained by the Corporation, with interest being
credited to the participant's deferred balance. Upon retirement, the participant
would be entitled to receive the accumulated deferred balance, paid over a
specified number of years. The Corporation accrued deferred compensation expense
of $48,736, $41,138 and $30,854 for the years ended September 30, 1996, 1995 and
1994, respectively.
The Corporation has purchased insurance contracts on the lives of the
participants in the deferred compensation plan and has named the Corporation as
beneficiary. While no direct contract exists between the deferred compensation
plan and the life insurance contracts, it is management's current intent that
the revenue from the insurance contracts be used as a funding source for the
deferred compensation plan.
NOTE 7 - ACCRUED INTEREST RECEIVABLE
Accrued interest receivable consisted of the following:
1996 1995
---- ----
Investments $ 148,619 $ 139,190
Mortgage-backed and related securities 268,633 254,373
Loans receivable 640,176 497,850
------------- --------------
$ 1,057,428 $ 891,413
============= ==============
- --------------------------------------------------------------------------------
(Continued)
-76-
77
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 8 - DEPOSITS
Deposits are summarized as follows:
1996 1995
---- ----
NOW accounts, including
noninterest-bearing deposits
of $444,049 and $295,125,
respectively $ 9,202,096 $ 7,145,633
Money market accounts 6,743,866 8,602,241
Passbook savings accounts 16,760,061 17,427,170
Certificates of deposit 95,848,084 84,722,864
---------------- -----------------
$ 128,554,107 $ 117,897,908
================ =================
The Bank had approximately $3,185,000 and $2,337,000 of short-term jumbo
certificates of deposit in denominations of $100,000 or more at September 30,
1996 and 1995, respectively.
At September 30, 1996, scheduled maturities of certificates of deposit for the
years ending September 30 were as follows:
1997 $ 50,046,481
1998 31,765,508
1999 4,854,873
2000 6,365,733
2001 2,815,489
---------------
$ 95,848,084
NOTE 9 - INCOME TAXES
An analysis of the provision for income taxes is as follows:
-----------Years ended September 30,---------
1996 1995 1994
---- ---- ----
Current $ 899,334 $ 890,009 $ 629,518
Deferred (304,334) 56,645 50,483
------------ ------------ ------------
$ 595,000 $ 946,654 $ 680,001
============ ============ ============
- --------------------------------------------------------------------------------
(Continued)
-77-
78
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 9 - INCOME TAXES (Continued)
The sources of gross deferred tax assets and gross deferred tax liabilities are
as follows:
September 30,
1996 1995
---- ----
Items giving rise to deferred tax assets
Deferred compensation $ 78,740 $ 59,873
SAIF insurance assessment 247,640
Recognition and retention plan 73,231
Unrealized loss on securities available for sale 46,101
------------- -------------
445,712 59,873
Items giving rise to deferred
tax liabilities
Allowance for loan losses 218,235 214,113
Federal Home Loan Bank stock dividends 204,619 177,793
Depreciation 23,940 19,484
Unrealized gain on securities available for sale 90,462
------------- -------------
446,794 501,852
------------- -------------
Net deferred tax liability $ 1,082 $ 441,979
============= =============
The provision for income tax differs from amounts computed by using the
statutory federal income tax rate of 34% primarily because of the investment in
life insurance contracts and the difference between the average cost and market
value of ESOP shares released. The reconciled difference between the financial
statement provision and amounts computed by using the statutory rate is as
follows:
Years ended September 30,
1996 1995 1994
---- ---- ----
Income tax computed at the
statutory rate $ 591,253 $ 950,652 $ 701,225
Tax effect of
Officer's life insurance (22,657) (21,616) (20,767)
ESOP 24,309 12,309
Other 2,095 5,309 (457)
------------- ------------- -------------
$ 595,000 $ 946,654 $ 680,001
============= ============= =============
- --------------------------------------------------------------------------------
(Continued)
-78-
79
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 9 - INCOME TAXES (Continued)
Retained earnings at September 30, 1996 and 1995 includes approximately
$3,436,000 for which no provision for federal income taxes has been made. This
amount represents the qualifying and nonqualifying tax bad debt reserve as of
December 31, 1987 which is the Corporation's base year for purposes of
calculating the bad debt deduction for tax purposes. The related amount of
unrecognized deferred tax liability was approximately $1,168,000 at September
30, 1996 and 1995. If this portion of retained earnings is used in the future
for any purpose other than to absorb bad debts, it will be added to future
taxable income.
NOTE 10 - BORROWED FUNDS
At September 30, 1996, the Bank had a cash management line of credit enabling it
to borrow up to $8,200,000 with the Federal Home Loan Bank ("FHLB") of
Cincinnati. The line of credit must be renewed on an annual basis. Borrowings
outstanding on this line of credit totaled $3,200,000 with interest rates
ranging from 5.45% to 6.15% at September 30, 1996 and $1,000,000 on September
30, 1995 at an interest rate of 6.90%. Additionally, as a member of the Federal
Home Loan Bank system, the Bank has the ability to obtain up to approximately
$43,679,000 of advances from the FHLB. As a result of this membership, the Bank
had variable rate borrowings totaling $9,930,000 and $4,260,000 at September 30,
1996 and 1995, respectively. The interest rates on the borrowings adjust
monthly. At September 30, 1996, the interest rates ranged from 5.44% to 5.95%.
At September 30, 1995, the interest rate was 5.87%. The Bank also had fixed rate
borrowings totaling $4,359,203 at September 30, 1996. The interest rates on
these borrowings ranged from 5.80% to 6.40%. The Bank had no fixed rate
borrowings as of September 30, 1995. Average balances of borrowings outstanding
during 1996 and 1995 were $10,751,000 and $118,000, respectively. Advances under
the borrowing agreements are collateralized by a blanket pledge of the Bank's
residential mortgage loan portfolio and FHLB stock.
At September 30, 1996, required annual principal payments are as follows:
Year ending September 30:
1997 $ 4,494,764
1998 3,943,435
1999 1,312,967
2000 4,553,349
2001 1,294,595
Thereafter 1,890,093
---------------
$ 17,489,203
- --------------------------------------------------------------------------------
(Continued)
-79-
80
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 11 - SAVINGS ASSOCIATION INSURANCE FUND RECAPITALIZATION
Included in other liabilities and federal deposit insurance premium expense is
approximately $728,000 for a special assessment resulting from legislation
passed and enacted into law on September 30, 1996 to recapitalize the Savings
Association Insurance Fund of the Federal Deposit Insurance Corporation
("FDIC"). Thrifts such as the Bank will pay a one-time assessment estimated at
$.0657 for each $100 in deposits as of March 31, 1995. As a result of the
recapitalization, the Bank will begin paying lower deposit insurance premiums on
January 1, 1997.
NOTE 12 - COMMITMENTS AND CONTINGENCIES AND FINANCIAL INSTRUMENTS WITH
OFF-BALANCE-SHEET RISK
The Corporation and the Bank are defendants in legal actions arising from normal
business activities. Management believes that the ultimate liability, if any,
resulting from these actions will not materially affect the Corporation's or the
Bank's financial position.
The Corporation is a party to financial instruments with off-balance-sheet risk
in the normal course of business to meet the financing needs of its customers.
These financial instruments include commitments to make loans and the unfunded
portion of approved lines of credit. The Corporation's exposure to credit loss
in the event of nonperformance by the other party to the financial instrument
for commitments to make loans is represented by the contractual amount of those
instruments. The Corporation follows the same credit policy to make such
commitments as is followed for those loans recorded in the financial statements.
As of September 30, 1996 and 1995, the Corporation had commitments to make fixed
rate 1-4 family residential real estate loans at current market rates
approximating $2,417,000 and $1,054,000, respectively. Loan commitments are
generally for thirty days. The interest rate on commitments ranged from 6.50% to
10.00% at September 30, 1996 and 7.00% to 10.00% at September 30, 1995. The
Corporation had no commitments to make variable rate 1-4 family residential real
estate loans at September 30, 1996 or September 30, 1995. As of September 30,
1996 and 1995, the Corporation had approximately $2,552,000 and $1,195,000,
respectively, in unused variable rate home equity lines of credit.
Since commitments to make loans and lines of credit may expire without being
used, the amounts do not necessarily represent future cash commitments.
Collateral obtained upon exercise of the commitment is determined using
management's credit evaluation of the borrower and generally consists of
residential or commercial real estate. Lines of credit are primarily home equity
lines collateralized by second mortgages on 1-4 family residential real estate.
- --------------------------------------------------------------------------------
(Continued)
-80-
81
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 12 - COMMITMENTS AND CONTINGENCIES AND FINANCIAL INSTRUMENTS WITH
OFF-BALANCE-SHEET RISK (Continued)
The Bank entered into employment agreements with certain officers of the
Corporation and Bank. The agreements provide for a term of three years and a
salary and performance review by the Board of Directors not less often than
annually, as well as inclusion of the employee in any formally established
employee benefit, bonus, pension and profit-sharing plans for which management
personnel are eligible. The employment agreements also provide for vacation and
sick leave.
NOTE 13 - REGULATORY MATTERS AND CAPITAL REQUIREMENTS
MILTON FEDERAL SAVINGS BANK: The Bank is subject to regulation and examination
by the OTS and the FDIC, which also insures customer deposit accounts up to
applicable limits. Savings institutions insured by the FDIC are required to meet
three regulatory capital requirements. If a requirement is not met, regulatory
authorities may take legal or administrative actions, including restrictions on
growth or operations or, in extreme cases, seizure. Institutions not in
compliance may apply for an exemption from the requirements and submit a
recapitalization or merger plan. These regulations require institutions to have
minimum regulatory tangible capital equal to 1.5 percent of total assets, a 3.0
percent core capital ratio, and an 8.0 percent risk-based capital ratio.
The Bank, at September 30, 1996, exceeds the regulatory tangible, core and
risk-based capital requirements as defined. The following table reconciles the
Bank's capital amounts and the ratios under generally accepted accounting
principles to those required by regulation:
Tangible Capital Core Capital Risk-based Capital
---------------- ------------ ------------------
(In thousands) Dollar Percent Dollar Percent Dollar Percent
------ ------- ------ ------- ------ -------
GAAP capital, before
adjustments $ 20,129 $ 20,129 $ 20,129
Adjustments to capital
Unrealized loss on
securities available
for sale 128 128 128
Nonqualifying assets (31) (31) (31)
General loan and
valuation allowances-
limited 336
---------- ------- ---------- -------- ---------- -------
Regulatory capital -
computed 20,226 11.56 20,226 11.56 20,562 24.25
Minimum capital
requirement 2,624 1.50 5,248 3.00 6,784 8.00
---------- ------- ---------- -------- ---------- -------
Regulatory capital- excess $ 17,602 10.06% $ 14,978 8.56% $ 13,778 16.25%
========== ======= ========== ======== ========== =======
Regulatory asset base $ 174,918 $ 174,918 $ 84,796
========== ========== ==========
- --------------------------------------------------------------------------------
(Continued)
-81-
82
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 13 - REGULATORY MATTERS AND CAPITAL REQUIREMENTS (Continued)
MILTON FEDERAL FINANCIAL CORPORATION: On October 21, 1996, the Corporation
declared a special dividend of $2.50 per share to all shareholders of record on
November 4, 1996. The dividend is payable on November 15, 1996. Additionally, in
October, 1996, the Board of Directors of the Corporation authorized the purchase
of up to 5% of the Corporation's outstanding common shares over a six-month
period. The shares will be purchased in the over-the-counter market. The number
of shares to be purchased and the price to be paid will depend upon the
availability of shares, the prevailing market prices and any other
considerations which may, in the opinion of the Corporation's Board of Directors
or management, affect the advisability of purchasing shares.
NOTE 14 - EMPLOYEE PENSION AND PROFIT INCENTIVE PLANS
The Corporation is part of a qualified noncontributory multiple-employer defined
benefit pension plan covering substantially all of its employees. The plan is
administered by the trustees of the Financial Institutions Retirement Fund
("Retirement Fund").
The cost of the plan is set annually as an established percentage of wages.
During 1996, the Corporation reduced the defined benefit annual payment from 2%
to 1% of the average salary for the participant's highest five years of service
multiplied by the participant's years of service. As a result of the benefit
reduction, the contribution accrued of $38,211 at September 30, 1995 was
reversed, as no contributions were required for the years ended September 30,
1996 and 1995. The Corporation recognized pension expense of $(38,211), $131,373
and $36,645 for contributions made to the retirement fund during the years ended
September 30, 1996, 1995 and 1994, respectively. The Corporation also expensed
$7,889, $5,204 and $5,452 for the cost of administering the fund in 1996, 1995
and 1994, respectively.
The Corporation offers a 401(k) profit sharing plan covering substantially all
employees. The annual expense of the plan is based on a partial matching of
voluntary employee contributions of up to 4% of individual compensation. The
matching percentage was 25% for 1996, 1995 and 1994. Employee contributions are
vested at all times and the Corporation's matching contributions become fully
vested after an individual has completed three years of service. The cash
contribution and related expense included in salaries and employee benefits was
approximately $7,500, $7,200 and $9,000 for 1996, 1995 and 1994, respectively.
- --------------------------------------------------------------------------------
(Continued)
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83
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 15 - STOCK OPTION PLAN
On March 20, 1995, the Stock Option Committee of the Board of Directors granted
options to purchase 238,545 shares of common stock at an exercise price of
$13.69 to certain officers and directors of the Bank and Corporation. One-fifth
of the options awarded become first exercisable on each of the first five
anniversaries of the date of grant. The option period expires 10 years from the
date of grant. At September 30, 1996, options to purchase 47,709 shares were
exercisable. There were no options exercisable at September 30, 1995. No options
were exercised during the year ended September 30, 1996 and 1995. In addition,
19,342 shares of authorized but unissued common stock are reserved for which no
options have been granted.
In October 1995 the FASB issued SFAS No. 123, "Accounting for Stock-Based
Compensation." SFAS No. 123 encourages, but does not require, entities to use a
"fair value based method" to account for stock-based compensation plans. If the
fair value accounting encouraged by SFAS No. 123 is not adopted, entities must
disclose the pro forma effect on net income and on earnings per share had the
fair value accounting been adopted. Fair value of a stock option is to be
estimated using an option pricing model which considers the current price of the
stock, expected price volatility, expected dividends on the stock and the
risk-free interest rate. Once estimated, the fair value of an option is not
later changed. The accounting and disclosure requirements of this statement are
effective for transactions entered into in fiscal years beginning after December
15, 1995. Pro forma disclosures required for entities that elect to continue to
measure compensation cost using existing accounting methods must include the
effects of all awards granted in the first fiscal year beginning after December
15, 1994. Currently, the Corporation does not have any options subject to the
new accounting or disclosure requirements.
NOTE 16 - EMPLOYEE STOCK OWNERSHIP PLAN
The Corporation offers an employee stock ownership plan ("ESOP") for the benefit
of substantially all employees of the Corporation and the Bank. During 1996, the
ESOP received a favorable determination letter from the Internal Revenue Service
on the qualified status of the ESOP under applicable provisions of the Internal
Revenue Code.
The ESOP borrowed funds from the Corporation with which to acquire common shares
of the Corporation. The loan is secured by the shares purchased with the loan
proceeds and will be repaid by the ESOP with funds from the Bank's discretionary
contributions to the ESOP and earnings on ESOP assets. All dividends on
unallocated shares received by the ESOP are used to pay debt service. The shares
purchased with the loan proceeds are held in a suspense account for allocation
among participants as the loan is repaid. As payments are made and the shares
are released from the suspense account, such shares will be validly issued,
fully paid and nonassessable.
- --------------------------------------------------------------------------------
(Continued)
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84
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 16 - EMPLOYEE STOCK OWNERSHIP PLAN (Continued)
The Corporation accounts for its ESOP in accordance with Statement of Position
(SOP) 93-6. Accordingly, the shares pledged as collateral are reported as
unearned ESOP shares in the consolidated balance sheet. As shares are released
from collateral, the Company reports compensation expense equal to the current
market price of the shares and the shares become outstanding for
earnings-per-share computations. Dividends on allocated ESOP shares are recorded
as a reduction of retained earnings; dividends on unallocated ESOP shares are
recorded as a reduction of debt and accrued interest. ESOP compensation expense
was $276,651 and $242,512 for the years ended September 30, 1996 and 1995,
respectively. The ESOP shares as of September 30, 1996 and 1995 were as follows:
September 30, September 30,
1996 1995
---- ----
Allocated shares 9,536
Shares released for allocation 28,712 19,124
Unreleased shares 152,992 172,116
------------- -------------
Total ESOP shares 191,240 191,240
------------- -------------
Fair value of unreleased shares $ 2,065,392 $ 2,710,827
============= =============
NOTE 17 - RECOGNITION AND RETENTION PLAN
A recognition and retention plan ("RRP") was approved by the shareholders of the
Corporation on January 25, 1995, approved by the OTS on June 16, 1995 and
adopted by the Board of Directors on June 26, 1995. The RRP will be used as a
means of providing directors and certain key employees of the Bank with an
ownership interest in the Corporation in a manner designed to compensate such
directors and key employees for services to the Bank. The Bank contributed
sufficient funds to enable the RRP to purchase a number of common shares in the
open market which is equal to 4% of the common shares sold in connection with
the conversion.
On October 16, 1995, the Recognition and Retention Plan Committee of the Board
of Directors awarded 74,784 shares to certain directors and officers of the Bank
and the Corporation. No shares had been previously awarded. One-fifth of such
shares will be earned and nonforfeitable on each of the first five anniversaries
of the date of the awards. In the event of the death or disability of a
participant, however, the participant's shares will be deemed to be earned and
nonforfeitable upon such date. There were 28,371 and 103,155 shares at September
30, 1996 and September 30, 1995, respectfully, reserved for future awards.
Compensation expense, which is based upon the cost of the shares, was $215,382
for the year ended September 30, 1996. No compensation expense was recognized
during the year ended September 30, 1995.
- --------------------------------------------------------------------------------
(Continued)
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85
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 18 - DISCLOSURE ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The following table shows carrying values and the related estimated fair values
of financial instruments at September 30, 1996. Items which are not financial
instruments are not included.
-------------1996------------
Estimated
Carrying Fair
(In thousands) Value Value
----- -----
FINANCIAL ASSETS
Cash and cash equivalents $ 1,301 $ 1,301
Investment and mortgage-backed
and related securities available for sale 42,531 42,531
Investment and mortgage-backed and
related securities held to maturity 14,502 14,291
FHLB stock 1,182 1,182
Loans, receivable net 116,749 116,464
Cash surrender value of life insurance 1,455 1,455
Accrued interest receivable 1,057 1,057
FINANCIAL LIABILITIES
Deposits $ (128,554) $ (128,999)
Borrowed funds (17,489) (17,496)
Advance payments by borrowers
for taxes and insurance (183) (183)
Accrued interest payable (105) (105)
For purposes of the above disclosures of estimated fair value, the following
assumptions were used as of September 30, 1996. The estimated fair value of cash
and cash equivalents is considered to approximate cost. The estimated fair value
for investment and mortgage-backed securities is based on quoted market values
for the individual securities or for equivalent securities. Carrying value is
considered to approximate fair value for Federal Home Loan Bank stock, for cash
surrender value of life insurance, for loans that contractually reprice at
intervals of less than six months, for short-term fixed and variable-rate
borrowings, for advance payments made by borrowers for taxes and insurance and
for accrued interest. The fair values of fixed-rate loans, loans that reprice
less frequently than each six months, time deposits and long-term debt are
approximated by a discount rate value technique utilizing estimated market
interest rates as of September 30, 1996. The fair values of unrecorded
commitments at September 30, 1996 are not material.
- --------------------------------------------------------------------------------
(Continued)
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86
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 18 - DISCLOSURE ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS (Continued)
While these estimates of fair values are based on management's judgment of
appropriate factors, no assurance can be given that, were the Corporation to
have disposed of such items at September 30, 1996, the estimated fair values
would necessarily have been achieved at that date, since market values may
differ depending on various circumstances. The estimated fair values at
September 30, 1996 should not necessarily be considered to apply at subsequent
dates.
In addition, other assets and liabilities of the Corporation that are not
defined as financial instruments are not included in the above disclosures, such
as property and equipment. Also, nonfinancial instruments typically not
recognized in financial statements nevertheless may have value, but are not
included in the above disclosures. These include, among other items, the value
of a trained work force, customer goodwill, profit potential and similar items.
NOTE 19 - PARENT COMPANY ONLY CONDENSED FINANCIAL INFORMATION
Condensed financial information of Milton Federal Financial Corporation as of
and for the years ended September 30, 1996 and 1995 is as follows:
CONDENSED BALANCE SHEET
1996 1995
---- ----
ASSETS
Cash and cash equivalents $ 5,408,266 $ 1,436,843
Investment and mortgage-backed and related
securities available for sale 5,793,312 7,853,746
Mortgage- backed and related securities
held to maturity (Estimated fair value of
$2,053,613 for 1995) 1,957,115
Investment in subsidiary 20,128,716 23,942,337
Loan receivable from ESOP 1,856,790 2,063,100
Accrued interest receivable and other assets 340,113 292,700
--------------- ----------------
Total assets $ 33,527,197 $ 37,545,841
=============== ================
LIABILITIES
Other liabilities $ 47,794 $ 43,384
SHAREHOLDERS' EQUITY 33,479,403 37,502,457
--------------- ----------------
Total liabilities and shareholders' equity $ 35,527,197 $ 37,545,841
=============== ================
- --------------------------------------------------------------------------------
(Continued)
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87
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 19 - PARENT COMPANY ONLY CONDENSED FINANCIAL INFORMATION
(Continued)
CONDENSED STATEMENT OF INCOME
1996 1995
---- ----
INTEREST AND DIVIDEND INCOME
Dividends from subsidiary $ 5,000,000 $ 1,000,000
Investment and mortgage-backed
and related securities 470,893 634,833
Loan to subsidiary 177,581 199,290
Other 40,811 28,067
--------------- ----------------
Total interest and dividend income 5,689,285 1,862,190
Gain on sale of mortgage-backed
and related securities 131,459
Operating expenses 88,428 35,809
--------------- ----------------
Income before taxes and equity in
undistributed earnings of subsidiary 5,732,316 1,826,381
Provision for income taxes 247,321 277,652
--------------- ----------------
Income before equity in undistributed
earnings of subsidiary 5,484,995 1,548,729
(Distributions in excess of earnings) equity in
undistributed earnings of subsidiary (4,341,017) 300,652
--------------- ----------------
NET INCOME $ 1,143,978 $ 1,849,381
=============== ================
- --------------------------------------------------------------------------------
(Continued)
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88
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 19 - PARENT COMPANY ONLY CONDENSED FINANCIAL INFORMATION
(Continued)
CONDENSED STATEMENT OF CASH FLOWS
1996 1995
---- ----
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 1,143,978 $ 1,849,381
Adjustments to reconcile net income
to cash provided by operations:
(Distributions in excess of earnings) equity
in undistributed income of subsidiary 4,341,017 (300,652)
Gain on sale of mortgage-backed
and related securities (131,459)
Amortization of premiums,
accretion of discount (net) 1,626 (4,709)
Change in
Other assets (47,413) (292,700)
Other liabilities 25,336 2,516
--------------- ----------------
Net cash from operating activities 5,333,085 1,253,836
--------------- ----------------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of investment and
mortgage-backed securities available for sale $ (7,930,739)
Purchases of mortgage-backed securities
held to maturity (2,941,875)
Proceeds from principal payments on
mortgage-backed securities available for sale $ 1,228,387 233,034
Proceeds from principal payments
on mortgage-backed securities held to maturity 114,531 953,626
Proceeds from sales of mortgage-backed and
related securities 2,742,918
Purchase of stock in Milton Federal Savings Bank (12,422,047)
Loan to ESOP (2,063,100)
Proceeds from principal payments
on loan to ESOP 206,310
--------------- ----------------
Net cash from investing activities 4,292,146 (24,171,101)
--------------- ----------------
- --------------------------------------------------------------------------------
(Continued)
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89
MILTON FEDERAL FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996, 1995 and 1994
- --------------------------------------------------------------------------------
NOTE 19 - PARENT COMPANY ONLY CONDENSED FINANCIAL INFORMATION
(Continued)
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of common stock,
net of conversion costs 24,844,095
Purchase of treasury stock (1,997,640)
Cash dividends paid (3,396,332) (456,110)
Dividends on unallocated ESOP shares (259,836) (33,877)
--------------- ----------------
Net cash from financing activities (5,653,808) 24,354,108
--------------- ----------------
NET CHANGE IN CASH 3,971,423 1,436,843
Cash at beginning of year 1,436,843 0
--------------- ----------------
CASH AT END OF YEAR $ 5,408,266 $ 1,436,843
=============== ================
- --------------------------------------------------------------------------------
(Continued)
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90
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA (Continued)
QUARTERLY FINANCIAL DATA
The following table is a summary of selected quarterly results of operations for
the years ended September 30, 1996 and 1995.
Three months ended
------------------
September 30, 1996 December 31, March 31, June 30, September 30,
------------ --------- -------- -------------
(In thousands except per share data)
Interest and dividend income $ 3,075 $ 3,057 $ 3,205 $ 3,328
Interest expense 1,595 1,634 1,758 1,832
----------- ----------- ----------- -----------
Net interest income 1,480 1,423 1,447 1,496
Provision for loan losses 15 23 32 84
----------- ----------- ----------- -----------
Net interest income after
provision for loan losses 1,465 1,400 1,415 1,412
Noninterest income 151 152 84 70
Noninterest expense (1) 906 920 915 1,669
----------- ----------- ----------- -----------
Income before income tax 710 632 584 (187)
Income tax expense 245 216 199 (65)
----------- ----------- ----------- -----------
Net income $ 465 $ 416 $ 385 $ (122)
=========== =========== =========== ===========
Earnings per share $ .20 $ .18 $ .17 $ (.06)
=========== ========== =========== ==========
<FN>
(1) Included in noninterest expense for the three months ended September 30,
1996 is $728,000 related to the SAIF special assessment.
Three months ended
------------------
September 30, 1995 December 31, March 31, June 30, September 30,
------------ --------- -------- -------------
(In thousands except per share data)
Interest and dividend income $ 2,651 $ 2,710 $ 2,850 $ 2,928
Interest expense 1,181 1,221 1,374 1,460
----------- ----------- ----------- -----------
Net interest income 1,470 1,489 1,476 1,468
Provision for loan losses 10 16 37 1
----------- ----------- ----------- -----------
Net interest income after
provision for loan losses 1,460 1,473 1,439 1,467
Noninterest income 77 62 57 61
Noninterest expense 819 845 811 825
----------- ----------- ----------- -----------
Income before income tax 718 690 685 703
Income tax expense 250 237 220 240
----------- ----------- ----------- -----------
Net income $ 468 $ 453 $ 465 $ 463
=========== =========== =========== ===========
Earnings per share $ .19 $ .19 $ .19 $ .20
=========== ========== =========== ==========
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
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91
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information contained in the definitive Proxy Statement for the 1997 Annual
Meeting of Shareholders of Milton Federal Financial Corporation (the "Proxy
Statement") under the captions "Board of Directors," "Executive Officers,"
"Voting Securities and Ownership of Certain Beneficial Owners and Management"
and "Section 16(a) Beneficial Ownership Reporting Compliance" is incorporated
herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information contained in the Proxy Statement under the caption "Compensation
of Executive Officers and Directors" is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information contained in the Proxy Statement under the caption "Voting
Securities and Ownership of Certain Beneficial Owners and Management" is
incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information contained in the Proxy Statement under the caption "Certain
Transactions with MFFC" is incorporated herein by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
2 FINANCIAL STATEMENT SCHEDULES. All schedules are omitted because they are
not applicable or the required information is shown in the financial statements
or notes thereto.
3 EXHIBITS.
3.1 Articles of Incorporation
3.2 Code of Regulations
10.1 Employment Agreement with Mr. Aidt
10.2 Employment Agreement with Mr. Eyer
10.3 Milton Federal Savings Bank Recognition and Retention Plan and Trust
Agreement
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92
10.4 Milton Federal Financial Corporation 1995 Stock Option and Incentive
Plan
21 Subsidiaries of Milton Federal Financial Corporation
27 Financial Data Schedule
99.1 Proxy Statement
99.2 Safe Harbor Under the Private Securities Litigation Reform Act of 1995
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93
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
MILTON FEDERAL FINANCIAL CORPORATION
By /s/ Glenn E. Aidt
---------------------------------
Glenn E. Aidt
President
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been duly signed below by the following persons on behalf of the registrant
and in the capacities and on the dates indicated.
By /s/ Glenn E. Aidt By /s/ Thomas P. Eyer
------------------------------------------------- ------------------------------------------
Glenn E. Aidt Thomas P. Eyer
President and Director Treasurer
(Principal Financial Officer)
Date December 16, 1996 Date December 16, 1996
--------------------------------------------- ----------------------------------------
By /s/ E. Lynn App By /s/ Kenneth J. Faze, M.D.
------------------------------------------------- ------------------------------------------
E. Lynn App Kenneth J. Faze, M.D.
Director Director
Date December 16, 1996 Date December 16, 1996
--------------------------------------------- ----------------------------------------
By /s/ David R. Hayes, D.V.M. By /s/ Robert E. Hine
------------------------------------------------- ------------------------------------------
David R. Hayes, D.V.M. Robert E. Hine
Director Director/Vice Chairman
Date December 16, 1996 Date December 16, 1996
--------------------------------------------- ----------------------------------------
By /s/ Christopher S. Long By /s/ Cletus G. Minnich, Jr.
------------------------------------------------- ------------------------------------------
Christopher S. Long Cletus G. Minnich, Jr.
Director Director/Chairman
Date December 16, 1996 Date December 16, 1996
--------------------------------------------- ----------------------------------------
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94
INDEX TO EXHIBITS
EXHIBIT
NUMBER DESCRIPTION PAGE NUMBER
- ------ ----------- -----------
3.1 Articles of Incorporation of Milton Federal Financial Incorporated by reference to Annual Report
Corporation on Form 10-KSB for the Fiscal Year Ended
September 30, 1994 (the "1994 10-KSB"),
Exhibit 3.1.
3.2 Code of Regulations of Milton Federal Financial Corporation Incorporated by reference to the 1994
10-KSB, Exhibit 3.2.
10.1 Employment Agreement with Mr. Aidt 95
10.2 Employment Agreement with Mr. Eyer 105
10.3 Milton Federal Savings Bank Recognition and Retention Plan Incorporated by reference to annual report
and Trust Agreement on Form 10-KSB for the fiscal year ended
September 30, 1995 (the "1995 10-KSB"),
Exhibit 10.3.
10.4 Milton Federal Financial Corporation 1995 Stock Option and Incorporated by reference to the 1995
Incentive Plan 10-KSB, Exhibit 10.4.
21 Subsidiaries of Milton Federal Financial Corporation Incorporated by reference to the 1995
10-KSB, Exhibit 21.
27 Financial Data Schedule 114
99.1 Proxy Statement 116
99.2 Safe Harbor Under the Private Securities Litigation Reform 130
Act of 1995
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