1996 MD&A
OVERVIEW
On December 20, 1995, First Northern Savings Bank, S.A. (the "Savings Bank"), a
Wisconsin chartered capital stock savings and loan association, reorganized
into a unitary savings and loan holding company (the"Reorganization") structure
becoming a wholly-owned subsidiary of First Northern Capital Corp. (the
"Company" or "First Northern"). At that date, each outstanding share of the
Savings Bank's common stock was converted into one share of the Company's
common stock. Consequently, the holders of all the outstanding stock of the
Savings Bank acquired the same proportionate ownership interest in First
Northern as they had held in the Savings Bank. The consolidated capital,
assets, liabilities, income and other financial data of First Northern
immediately following the Reorganization were substantially the same as those
of the Savings Bank immediately prior to consummation of the Reorganization.
The discussion below reflects the accounts and operations of the Company since
December 20, 1995 and the accounts and operations of the Savings Bank and its
wholly-owned subsidiaries for the entire periods discussed. The Reorganization
was effected to provide greater flexibility in meeting its future financial and
competitive needs.
On April 28, 1994, Prime Federal Bank, FSB, De Pere, Wisconsin ("Prime
Federal") merged with and into the Savings Bank. For every Prime Federal
common share outstanding, the Savings Bank exchanged 2.8275 shares of Savings
Bank's common stock. The acquisition was accounted for as a pooling of
interests.
The Savings Bank is the only direct subsidiary of the Company and its
operations are the primary contributor to the Company's earnings and expenses.
The Savings Bank's business consists primarily of attracting deposits from the
general public and originating loans throughout its Northeastern Wisconsin
branch network. Great Northern Financial Services Corporation ("GNFSC"), a
wholly-owned subsidiary of the Savings Bank, offers full brokerage services to
the public, through a network agreement with a registered broker-dealer, and
sells tax deferred annuities, credit life and disability insurance. Another
wholly-owned Savings Bank subsidiary, First Northern Investments, Inc.
("FNII"), manages a majority of the Savings Bank's investments. The Savings
Bank also owns 50% of Savings Financial Corporation ("SFC"), which originates,
sells and services automobile loans to its parent corporations.
CAUTIONARY FACTORS
The Annual Report contains various forward-looking statements concerning the
Company's prospects that are based on the current expectations and beliefs of
Management. Forward-looking statements may also be made by the Company from
time to time in other reports and documents as well as oral presentations.
When used in written documents or oral statements, the words "anticipate,"
"believe," "estimate," "expect," "objective" and similar expressions are
intended to identify forward-looking statements. The statements contained
herein and such future statements involve or may involve certain assumptions,
risks and uncertainties, many of which are beyond the Company's control, that
could cause the Company's actual results and performance to differ materially
from what is expected. In addition to the assumptions and other factors
referenced specifically in connection with such statements, the following
factors could impact the business and financial prospects of the Company:
general economic conditions; legislative and regulatory initiatives; monetary
and fiscal policies of the federal government; deposit flows;
disintermediation; the cost of funds; general market rates of interest;
interest rates or investment returns on competing investments; demand for
loan products; demand for financial services; changes in accounting policies
or guidelines; and changes in the quality or composition of the Savings
Bank's loan and investment portfolios and the investment portfolio of FNII.
BALANCE SHEET ANALYSIS
LIQUIDITY. The Company's primary sources of funds are deposits, proceeds from
principal and interest payments on loans, advances from the Federal Home Loan
Bank (the "FHLB") of Chicago, and, to a lesser extent, maturities of
investment securities and short-term investments, sales of mortgage loans,
repurchase agreements, and operations. While scheduled loan repayments and
maturing investments are a relatively predictable source of funds, deposit
flows and loan prepayments are influenced to a great extent by interest
rates, general economic conditions, and competition.
Federal regulations historically have required First Northern to maintain
minimum levels of liquid assets such as cash, certain time deposits, U.S.
government and agency securities, and other obligations generally having
remaining maturities of less than five years. Liquidity requirements have
varied from time to time based upon economic conditions and deposit flows,
and they are currently 1% (short-term liquidity ratio) and 5% (total
liquidity ratio) of the preceding calendar month's average net withdrawable
deposits and borrowings payable on demand or in one year or less. The
Company's short-term and total liquidity ratios at December 31, 1996 were
3.04% and 5.97%, respectively, and 4.62% and 6.90%, respectively, at
December 31, 1995. Short-term and total liquidity ratios decreased at
year-end 1996 as compared to year-end 1995 as a result of funding loan
originations.
Liquidity management is both a daily and long-term responsibility of
Management. The Company adjusts its investments in liquid assets based upon
Management s assessment of (i) expected loan demand, (ii) expected deposit
flows, (iii) yields available on interest-earning deposits and (iv)
the objectives of its asset/liability management program. Excess liquidity
is generally invested in interest-earning overnight deposits and short-term
U.S. government and agency obligations. If the Savings Bank requires funds
beyond its ability to generate them from operations, it can borrow from the
FHLB of Chicago (See "Borrowings").
INVESTMENT AND MORTGAGE-RELATED SECURITIES. A substantial portion of the
Company's investment securities (approximately $24.6 million at December 31,
1996 and $23.5 million at December 31, 1995) are held and managed by FNII, a
wholly-owned investment subsidiary of the Savings Bank. The following table
sets forth the composition of First Northern s investment and mortgage-related
securities portfolio:
INVESTMENT AND MORTGAGE-RELATED SECURITIES
PORTFOLIO COMPOSITION
AT DECEMBER 31
-----------------------------------------
1996 1995
-------------------- -------------------
Percent Percent
Carrying of Carrying of
Value Total Value Total
--------- --------- --------- ---------
(Dollars in Thousands)
Interest-earning deposits $ 1,598 4.57% $ 82 .28%
Securities available-for-sale:
U.S. government securities 2,517 7.20 1,018 3.58
Federal agency obligations 1,985 5.67 1,004 3.53
Mortgage-related securities 1,837 5.25 2,013 7.07
Asset Management fund 471 1.35 455 1.60
FHLMC stock 662 1.89 501 1.76
-------- ------ ------- ------
Total securities
available-for-sale 7,472 21.36 4,991 17.54
Securities held-to-maturity:
U.S. government securities 3,004 8.59 10,073 35.39
Federal agency obligations 13,579 38.82 9,291 32.65
Mortgage-related securities 9,325 26.66 4,024 14.14
-------- ------ ------- ------
Total securities
held-to-maturity 25,908 74.07 23,388 82.18
-------- ------ ------- ------
Total $34,978 100.00% $28,461 100.00%
======== ====== ======= ======
Interest-earning deposits increased $1,516,000 in 1996 as a result of year-end
maturing securities being placed in an overnight fund before being reinvested
into investment securities.
Both the securities available-for-sale and securities held-to-maturity dollars
increased in 1996 as compared to 1995 as a result of reinvesting the interest
earned on the investment portfolio into additional securities and borrowing
approximately $5.0 million for investment in securities. First Northern will
generally borrow money and reinvest it in securities (also know as an
arbitrage) when it can incrementally improve earnings without undue credit or
interest rate risk.
LENDING ACTIVITIES. First Northern has traditionally concentrated on the
origination of adjustable and fixed interest rate one- to four-family mortgage
and consumer loans. First Northern also originates construction, more than
four family residential and commercial real estate loans. Adjustable interest
rate mortgage loans are originated for First Northern's portfolio while fixed
interest rate mortgage loans, particularly those with terms greater than 15
years, are primarily originated for sale in the secondary mortgage market.
However, First Northern retained most of its 15 year fixed interest rate
mortgage loan originations in 1996, in its portfolio. At December 31, 1996,
approximately 90% of First Northern's mortgage loan portfolio was interest
rate adjustable.
First Northern's origination of second mortgage loans, automobile, boat,
recreational vehicle and other types of consumer loans, which are generally
of shorter maturities than first mortgage loans, enhances the matching of
maturities of its assets and liabilities. Second mortgage loans are offered
on both a fixed and adjustable interest rate basis; other consumer loans
are generally offered on a fixed interest rate basis. First Northern changed
its policy in 1995 from offering both a variable and fixed interest rate
consumer loan to offering only a fixed interest rate because of (i) increased
opportunities for higher interest income and (ii) market acceptance of fixed
interest rate consumer loans. At December 31, 1996 and 1995, approximately
35% and 33%, respectively, of First Northern's consumer loan portfolio was
interest rate adjustable. A significant dollar amount of second mortgage loans
were originated in 1996 with adjustable interest rates.
First Northern originates a variety of adjustable and fixed interest rate
mortgage loan products based upon market demands and general economic
conditions. Adjustable indexed interest rate mortgage loans at December 31,
1996, contain an interest rate adjustment provision tied to the national
monthly median cost of funds ratio for Savings Association Insurance Fund
("SAIF") insured institutions, plus an additional mark-up of 2.75% to 4.00%
(the "index") which varies with the mortgage loan product. Interest rates on
indexed mortgage loans are adjusted, up or down, on predetermined dates fixed
by contract, in relation to and based on the index or market interest rates
as of a predetermined time prior to the adjustment date.
Adjustable indexed interest rate mortgage loans have an initial period, ranging
from one to five years, during which the interest rate is fixed, with
adjustments permitted thereafter, subject to annual and lifetime interest
rate caps which vary with the product. Annual limits on interest rate
increases are 1% to 2%, while aggregate lifetime interest rate increases over
the term of the loan are currently at 6% above the original mortgage loan
interest rate.
The following table sets forth First Northern's mortgage and consumer loan
originations and purchases:
LOAN ORIGINATIONS AND PURCHASES
DURING THE YEAR ENDED DECEMBER 31
----------------------------
1996 1995
--------- ---------
(In Thousands)
Mortgage loans:
Construction - Residential $ 26,596 $ 17,325
Loans on existing property 49,017 38,834
Refinancing 35,497 15,122
Other loans 2,668 1,216
-------- --------
Total mortgage loans 113,778 72,497
Consumer loans:
Consumer 15,292 8,773
Second mortgage 24,871 30,473
Automobile 45,722 26,109
Education 2,382 2,895
-------- --------
Total consumer loans 88,267 68,250
-------- --------
Total loans originated and purchased $202,045 $140,747
======== ========
The dollar volume of First Northern's mortgage loan originations and purchases
substantially increased in 1996 as compared to 1995 as a result of a strong
economy in Northeastern Wisconsin which increased loan demand and Management's
increased emphasis on loan originations and purchases. First Northern
purchased (in the state of Wisconsin) $8.4 million of one family residential
and $0.8 million of multi-family and other mortgage loans in 1996, as compared
to $2.9 million of one family residential loans in 1995. First Northern
purchases loans when loan interest rates provide an opportunity to incrementally
add to the profitability of the Company. In addition, mortgage loan
refinancings increased as a result of favorable interest rates that were
offered on mortgage loans early in 1996.
First Northern's growth in the dollar amount of mortgage loans outstanding was
$32.4 million or 8.2% for 1996 as compared to $5.6 million or 1.4% in 1995.
The increase in the 1996 mortgage loan portfolio was the result of the
increased dollar amount of adjustable indexed interest rate mortgage loans
originated and purchased, which First Northern retained in its portfolio.
As part of First Northern's asset and liability management, its general policy,
which is subject to review by Management as a result of changing market and
economic conditions and other factors, is to retain all adjustable interest
rate mortgage loans in its portfolio and to keep up to approximately 20% of
the mortgage portfolio in fixed interest rate mortgage loans. At
December 31, 1996, First Northern had approximately $11.6 million or 2.7% of
30 year and $30.0 million or 7.0% of 15 year fixed interest rate mortgage
loans in its mortgage loan portfolio, compared to approximately $8.5 million or
2.2% of 30 year and $27.1 million or 6.9% of 15 year fixed interest rate
mortgage loans at December 31, 1995.
In 1996, First Northern sold $11.1 million of fixed interest rate mortgage
loans as compared to $11.6 million in 1995.
Consumer loan originations and purchases increased in 1996 as compared to 1995
primarily as a result of increased originations by SFC and increased loan
purchases by the Savings Bank from SFC. In 1996, First Northern purchased $38.0
million of automobile loans from SFC as compared to $18.7 million in 1995.
This increase in purchases from SFC was the result of a more active automobile
loan market and the expansion of SFC's operations in Northern Wisconsin. SFC
originates indirect automobile loans in the state of Wisconsin and sells these
loans to First Northern and the other SFC shareholder while retaining the
servicing of such loans. The book value of First Northern's investment in
SFC as of December 31, 1996 was $27,720.
ASSET QUALITY. First Northern currently classifies any loan on which a payment
is 90 days or more past due as non-performing. The following table summarizes
non-performing loans and assets:
NON-PERFORMING LOANS AND ASSETS
AT DECEMBER 31
---------------------------------
1996 1995
------- -------
(DOLLARS IN THOUSANDS)
Non-accrual mortgage loans $509 $266
Non-accrual consumer loans 235 152
---- ----
Total non-performing loans 744 418
Properties subject to foreclosure 157 113
Foreclosed properties and repossessed assets 32 23
---- ----
Total non-performing assets $933 $554
==== ====
Non-performing loans as a percent of total loans .13% .08%
==== ===
Non-performing assets as a percent of total assets .15% .10%
==== ===
Total non-performing loans and assets increased moderately in 1996 as compared
to 1995 as a result of a modest increase in overall delinquencies. In
addition, the level of non-performing loans and assets was historically low
in 1995. Management believes non-performing loans and assets at the end of
1996 are still significantly below state and national averages.
Management also believes that allowances for losses on loans, real estate owned
and repossessed assets are adequate. While Management uses available
information to recognize losses on loans, real estate owned and repossessed
assets, future additions to the allowances may be necessary based on changes
in economic conditions or regulatory requirements.
A summary of the general loan loss allowances is shown below:
GENERAL LOAN LOSS ALLOWANCES
AT DECEMBER 31
-------------------------------
1996 1995 1994
------- ------- -------
(DOLLARS IN THOUSANDS)
Balance at the beginning
of the year $2,608 $2,400 $2,306
Provisions 370 240 145
Loan charge-offs (66) (71) (147)
Recoveries 25 39 45
Adjustment to conform pooled
companies' fiscal year-ends. 51
------ ------ ------
Balance at the end of the year $2,937 $2,608 $2,400
====== ====== ======
Allowance as a percent of
total loans .53% .52% .48%
=== === ===
Allowance as a percent of
non-performing loans 394.76% 623.92% 439.56%
====== ====== ======
Allowance as a percent of
total assets .48% .47% .44%
=== === ===
Allowance as a percent of
non-performing assets 314.79% 470.76% 360.36%
====== ====== ======
DEPOSITS. Deposits increased $8.4 million or 1.9% in 1996 as compared to
$26.2 million or 6.2% in 1995. As of December 31, 1996 deposits totaled
$458.3 million or 84.1% of total liabilities. The deposit increase in 1996 was
more consistent with what the Savings Bank has experienced in recent years,
prior to 1995. The deposit increase of $26.2 million in 1995 was higher than
normal as a result of the popularity of a new deposit product. Competition for
deposits in First Northern's market area has and will continue to be very
strong.
First Northern establishes savings deposit interest rates to maintain a
favorable spread from loan interest rates and to be competitive in each market
area. The deposit philosophy has been and continues to be that an increase in
deposit dollars will be sought only if the increase is incrementally
profitable.
Due to loan demand and competition for retail deposits, First Northern has and
will continue to seek alternative sources of funding, including wholesale and
jumbo ($100,000 or more) deposits. At the end of 1996, First Northern had
obtained $917,000 in wholesale brokered funds and has become more aggressive
in obtaining corporate and municipal jumbo deposits. These funds were obtained
at a lower cost than retail deposits and this new strategy will be an integral
part of the deposit acquisition for 1997.
First Northern believes that the household checking account is the basic
account upon which further banking customer relationships can be developed.
First Northern incorporated aggressive pricing and marketing of the checking
account and has been able to become the "primary financial institution" for
many households. To enhance this checking account relationship and to
increase non-interest fee income, First Northern introduced the First Northern
CheckCard in 1996. The First Northern CheckCard gives a checking account
customer the opportunity to access a checking account anywhere in the world
where VISA is accepted. In addition, the TYME 24-Hour Teller Card is combined
with the First Northern CheckCard for additional customer convenience. First
Northern aggressively marketed the First Northern CheckCard by mailing the card
to all qualified First Northern checking account customers. This aggressive
marketing philosophy resulted in greater customer acceptance and increased
product profitability.
First Northern's objective is to create a one-stop family financial banking
center by offering a wide selection of checking accounts, short, intermediate
and long-term certificates of deposit, insured retirement accounts and mortgage
and consumer loans to meet a wide variety of customer needs.
First Northern's brokerage division, established in April, 1995, posted a
second straight year of profitability. The brokerage division offers
non-insured deposit products, such as tax deferred annuities and, through a
network agreement with a registered broker-dealer, mutual funds and brokerage
products. The establishment of this division has resulted in increased
customer retention and new customer relationships.
BORROWINGS. Historically, First Northern has funded its loan originations from
increases in its deposit portfolio and from operations. However, if deposit
inflows and operations are not sufficient to fund the lending needs, First
Northern will borrow funds. First Northern borrows funds primarily from the
FHLB of Chicago with maturity terms that range from overnight to approximately
four years (See Notes to Consolidated Financial Statements-- Note
G--Borrowings). Management anticipates it will continue to utilize borrowings
to fund its growth in interest-earning assets in 1997.
STOCKHOLDERS' EQUITY. First Northern's stockholders' equity to total assets
ratio at December 31, 1996 was 11.4%, as compared to 13.1% at December 31,
1995. First Northern employs methods which are intended to increase
interest-earning assets and thus reduce the percentage of equity to total
assets (known as leveraging). In addition to interest-earning asset growth,
the Company has also begun to repurchase its stock. The first stock repurchase
program, began in March of 1996 and was completed in September 1996, resulted
in the repurchase of 228,467 shares at an average cost of $15.82 per share.
A second stock repurchase program begun in October 1996, authorized the
repurchase of 219,057 shares. As of December 31, 1996, a total of 5,000 shares
were repurchased in the second stock repurchase program at an average cost of
$16.625 per share.
The Wisconsin Department of Financial Institutions---Division of Savings
Institutions, which regulates the Savings Bank, requires maintenance of a
minimum of 6.00% equity to total assets. In addition, the Office of Thrift
Supervision ("OTS") capital rules require the Savings Bank to meet three
separate standards: (i) a leverage limit of core capital to total assets
if not less than three percent; (ii) tangible capital to total assets of not
less than one and one-half percent; and (iii) risk-based capital to
risk-weighted assets of eight percent. The Savings Bank meets and exceeds all
regulatory capital standards (See Notes to Consolidated Financial
Statements---Note I--Stockholders' Equity).
ASSET AND LIABILITY MANAGEMENT
The primary function of asset and liability management is to provide liquidity
and maintain an appropriate balance between interest-earning assets and
interest-bearing liabilities. Interest rate risk is the imbalance between
interest-earning assets and interest-bearing liabilities at a given maturity
or repricing date and is commonly referred to as the interest rate gap (the
"gap"). A positive gap exists when there are more assets than liabilities
maturing or repricing within the same time frame. A negative gap occurs when
there are more liabilities than assets maturing or repricing within the same
time frame.
The following chart reflects First Northern's gap position as of December 31,
1996:
CUMULATIVE GAP POSITION
-----------------------------------------
(DOLLARS IN THOUSANDS)
3 MONTHS 4 TO 12 1 TO 5 OVER
OR LESS MONTHS YEARS 5 YEARS TOTAL
-------------------------------------------
Interest-earning assets:
Mortgage loans (a) $ 76,132 $218,372$110,716 $16,108 $421,328
Consumer loans (b) 38,590 59,423 39,836 1,304 139,153
Investment securities(c) 8,082 4,999 12,279 25,360
Mortgage-related securities(d) 263 1,102 7,389 2,399 11,153
Interest-earning deposits 1,598 1,598
-------- -------- ------- ------- -------
Total rate-sensitive assets 124,665 283,896 170,220 19,811 598,592
Interest-bearing liabilities:
Passbook accounts (e) 5,168 10,757 10,859 30,570 57,354
NOW & variable rate insured
Money market accounts (e) 46,604 16,433 14,335 26,879 104,251
Time deposits (e) 57,306 170,617 66,441 294,364
Advance payments by borrowers
for taxes and insurance 3,900 774 773 5,447
Borrowings 33,122 15,400 28,750 77,272
------- -------- ------- ------- --------
Total rate-sensitive
liabilities 146,100 213,981 121,158 57,449 538,688
------- -------- ------- ------- --------
Gap $(21,435) $ 69,915 $49,062$(37,638)$ 59,904
======== ======== ======= ======= ========
Cumulative gap $(21,435) $ 48,480 $97,542 $59,904
======== ======== ======= =======
Cumulative gap as a percentage
of total assets (3.5)% 7.9% 15.8% 9.7%
==== === ==== ===
(a) Excludes undisbursed loan proceeds of $5,942; includes $1,045 of mortgage
loans held for sale.
(b) Includes $1,487 of education loans held for sale.
(c) Includes $3,773 of FHLB stock; excludes unrealized gains or losses.
(d) Excludes unrealized gains or losses.
(e) Does not include accrued interest which totals $2,354 for all deposits.
The calculation of a gap position is subjective by nature and requires
Management to make a number of assumptions as to when an asset or liability
will reprice or mature. Assumptions used in estimating the maturity/repricing
amounts and dates of the more significant asset and liability categories
include: (i) investment securities - based upon contractual maturities;
(ii) loans and mortgage-related securities - based upon contractual maturities,
repricing date, if applicable, scheduled repayments of principal and projected
prepayments of principal based upon the Company's historical experience; and
(iii) deposits based upon contractual maturities and various decay rates
applied to the remaining deposit dollars. The decay rate, which varies with
deposit product, is based on historical decay rates of thrift institutions.
First Northern's overall goal for asset liability management is to maximize
long-term profitability and returns to stockholders. First Northern's current
strategy is to: (i) originate and retain adjustable interest rate mortgage
loans; (ii) originate and retain 15 year fixed interest rate mortgage loans;
(iii) originate and sell 20 year and 30 year fixed interest rate mortgage
loans; (iv) originate shorter maturity consumer loans; (v) emphasize the
origination of adjustable interest rate home equity loans; (vi) counsel
depositors to balance their deposits between short-, intermediate-, and long-
term deposits; and (vii) to offer new and attractive deposits and investment
opportunities. In addition, borrowings with various terms are used to reach
the targeted asset/liability mix. Currently, Management's strategic goal for
asset/liability management is to maintain a cumulative 1 year gap within a
range of a positive 10% to a negative 20%. Management believes this is an
appropriate level to achieve First Northern's long-term goals, while
controlling interest rate risk.
AVERAGE BALANCE SHEET AND YIELD/RATE ANALYSIS
The following table presents, for the periods indicated, the total dollar
amount of interest income from average interest-earning assets, the resultant
yields, and the interest expense on average interest-bearing liabilities,
expressed both in dollars and rates. No tax equivalent adjustments were made.
Average balances are derived from average monthly balances. The yield on
securities available-for-sale are included in investment securities and
mortgage- related securities and yields are calculated on the historical
basis. The yields and rates are established by dividing income or expense
dollars by the average balance of the asset or liability.
AVERAGE BALANCE SHEET, INTEREST AND RATE PAID
YEAR ENDED DECEMBER 31,
1996 1995 1994
----------------------- ------------------------ -------------------------
INTEREST INTEREST INTEREST
AVERAGE EARNED/ YIELD/ AVERAGE EARNED/ YIELD/ AVERAGE EARNED/ YIELD/
BALANCE PAID RATE BALANCE PAID RATE BALANCE PAID RATE
-------- -------- ----- -------- ------- ------ ------- --------- ------
(DOLLARS IN THOUSANDS)
Interest-earning assets (1):
Mortgage loans $401,652 $28,831 7.18% $386,128 $26,982 6.99% $365,966 $25,294 6.91%
Consumer loans 126,177 10,725 8.50 117,899 9,948 8.44 101,495 8,045 7.93
Investment securities 25,215 1,582 6.27 24,865 1,612 6.48 23,386 1,494 6.39
Interest-earning
deposits 1,220 66 5.41 1,601 100 6.25 3,419 150 4.39
Mortgage-related
securities 10,344 672 6.50 5,428 383 7.06 6,168 426 6.91
--------- ------- ----- -------- ------- ----- -------- ------- -----
TOTAL 564,608 41,876 7.42 535,921 39,025 7.28 500,434 35,409 7.08
Interest-bearing liabilities:
Passbook accounts 58,744 1,313 2.24 60,367 1,498 2.48 69,070 1,734 2.51
NOW and variable rate
insured money market
accounts 102,338 2,388 2.33 85,234 1,884 2.21 79,736 1,391 1.74
Time deposits 292,477 16,543 5.66 292,248 16,190 5.54 270,880 12,653 4.67
Advance payments by
borrowers for taxes
and insurance 7,142 162 2.27 8,528 178 2.09 8,202 187 2.28
Borrowings 48,393 2,797 5.78 33,681 2,286 6.79 17,304 889 5.14
--------- ------- ----- -------- ------- ----- -------- ------- -----
TOTAL 509,094 23,203 4.56 480,058 22,036 4.59 445,192 16,854 3.79
--------- ------- ----- -------- ------- ----- -------- ------- -----
Net interest earning
assets and interest
rate spread $ 55,514 2.86% $55,863 2.69% $ 55,242 3.29%
======== ==== ======= ==== ======== ====
Average interest-earning
assets, net interest income
and net yield on average
interest-earning
assets $564,608 $18,673 3.31% $535,921 $16,989 3.17% $500,434 $18,555 3.71%
======== ======= ==== ======== ======= ==== ======== ======= ====
Average interest-earning assets
to interest-bearing
liabilities 110.9% 111.6% 112.4%
===== ===== =====
(1) For the purpose of these computations, non-accruing loans and loans held
-for-sale are included in the average loan amounts outstanding.
RATE VOLUME ANALYSIS OF NET INTEREST INCOME
The interaction of changes in volume and rates earned or paid with regard to
interest-earning assets and interest-bearing liabilities has a significant
impact on net income between periods. The volume of interest-earning dollars
in loans and investments compared to the volume of interest-bearing dollars
in deposits and borrowings, combined with the interest rate spread, produces
the changes in net interest income between periods.
The following table sets forth the relative contribution of changes in volume
and effective interest rates on changes in net income:
RATE VOLUME ANALYSIS
YEAR ENDED DECEMBER 31
1996 VS 1995
--------------------------------------
INCREASE (DECREASE) DUE TO:
--------------------------------------
RATE/
RATE VOLUME VOLUME TOTAL
-------- -------- -------- ---------
(IN THOUSANDS)
Interest-earning assets:
Mortgage loans $734 $ 1,086 $29 $ 1,849
Consumer loans 71 701 5 777
Investment securities (52) 23 (1) (30)
Interest-earning deposits (13) (24) 3 (34)
Mortgage-related securities (30) 347 (28) 289
---- ------- ---- -------
TOTAL $710 $ 2,133 $ 8 2,851
==== ======= ==== -------
Interest-bearing liabilities:
Passbook accounts $(149) $ (40) $ 4 (185)
NOW and variable rate insured
money market accounts 102 381 21 504
Time deposits 340 13 353
Advance payments by borrowers
for taxes and insurance 15 (29) (2) (16)
Borrowings (340) 1,000 (149) 511
---- ------- ---- -------
TOTAL $ (32) $ 1,325 $(126) 1,167
==== ======= ==== -------
Net change in net interest income $1,684
=====
YEAR ENDED DECEMBER 31
--------------------------------------
1995 VS 1994
INCREASE (DECREASE) DUE TO:
--------------------------------------
RATE/
RATE VOLUME VOLUME TOTAL
------- -------- -------- --------
(IN THOUSANDS)
Interest-earning assets:
Mortgage loans $293 $ 1,379 $16 $ 1,688
Consumer loans 518 1,301 84 1,903
Investment securities 21 96 1 118
Interest-earning deposits 64 (80) (34) (50)
Mortgage-related securities 9 (51) (1) (43)
---- ------- ---- -------
TOTAL $905 $ 2,645 $66 3,616
==== ======= ==== -------
Interest-bearing liabilities:
Passbook accounts $ (21) $ (218) $ 3 (236)
NOW and variable rate insured
money market accounts 371 96 26 493
Time deposits 2,353 998 186 3,537
Advance payments by borrowers
for taxes and insurance (15) 7 (1) (9)
Borrowings 286 841 270 1,397
------ ------- ---- -------
TOTAL $2,974 $ 1,724 $484 5,182
====== ======= ==== -------
Net change in net interest income $(1,566)
=======
YEAR ENDED DECEMBER 31
1994 VS 1993
------------------------------------
INCREASE (DECREASE) DUE TO:
------------------------------------
RATE/
RATE VOLUME VOLUME TOTAL
-------- -------- -------- --------
(IN THOUSANDS)
Interest-earning assets:
Mortgage loans $(3,433) $ 1,513 $(190) $ (2,110)
Consumer loans (718) 1,833 (185) 930
Investment securities 68 (547) (19) (498)
Interest-earning deposits 175 (450) (140) (415)
Mortgage-related securities (100) (185) 27 (258)
------- ------- ---- -------
TOTAL $(4,008) $ 2,164 $(507) (2,351)
======= ======= ==== -------
Interest-bearing liabilities:
Passbook accounts $ (236) $ 223 $ (30) (43)
NOW and variable rate insured
money market accounts (351) 12 (2) (341)
Time deposits (824) (450) 27 (1,247)
Advance payments by borrowers
for taxes and insurance (132) 19 (8) (121)
Borrowings 44 533 126 703
---- ------- ---- -------
TOTAL $(1,499) $ 337 $113 (1,049)
======= ======= ==== -------
Net change in net interest income $(1,302)
=======
RESULTS OF OPERATIONS
COMPARISON OF YEARS ENDED DECEMBER 31, 1996 AND 1995.
GENERAL. Net income decreased $1,307,000 in 1996 primarily as a result of a
one-time SAIF special assessment of $2,856,000 pre-tax or $1,733,000 after-tax,
on assessable deposits. In addition, 1995 net income included $391,000 of non-
recurring net income primarily from: (i) the sale of $10.5 million of education
loans for a pre-tax gain of $468,000; (ii) the sale of Federal Home Loan
Mortgage Corporation ("Freddie Mac") stock for a pre-tax gain of $318,000;
and (iii) the sale of an excess branch office property (resulting from the
Prime Federal acquisition) for a pre-tax gain of $149,000.
INTEREST INCOME. Interest income on mortgage loans increased $1,849,000 as a
result of increased dollars outstanding in the mortgage loan portfolio and an
increase in the average interest rate earned. The dollar increase in the
mortgage loan portfolio resulted from the increase of adjustable interest rate
mortgage loan originations. The increase in the average interest rate earned
resulted primarily from interest rates being adjusted upward on existing
adjustable interest rate mortgage loans. At times, First Northern will not
increase interest rates on qualified adjustable interest rate mortgage loans
to the maximum allowable contractual interest rates since to do so would be
inconsistent with market rates and promote the refinancings of the mortgage
loan at a lower interest rate.
Interest income on consumer loans increased $777,000 primarily as the result
of growth in the consumer loan portfolio. The yield on consumer loans
increased to 8.50% from 8.44% as a result of escalations on the interest rate
adjustable portion of the consumer loan portfolio and consumer loan
originations at higher interest rates than the historical yield on the consumer
loan portfolio.
Interest income on investment securities and interest-earning deposits
decreased in 1996 as a result of maturing securities and deposits and
reinvesting of those funds at lower interest rates. In addition, the average
balances of interest-earning deposits decreased $ 381,000 in 1996.
Mortgage-related securities average balance increased in 1996 which resulted
in the $289,000 increase in interest income on mortgage-related securities.
First Northern, to a limited extent, borrowed funds and reinvested those
monies in mortgage-related securities. Historically, mortgage-related
securities have had higher yields than other investments with like terms.
Interest expense. Interest expense on deposits increased $672,000 in 1996
as a result of increased deposit dollars outstanding and an increase in the
cost of deposits. Although deposits at year-end 1996 increased $8.4 million,
average deposits increased $15,710,000 in 1996.
Interest expense on borrowings increased $511,000 as a result of increased
borrowings outstanding. First Northern utilizes borrowings to supplement
deposits for the funding of loans and investments. Management anticipates it
will continue to use borrowings in 1997 to fund its lending activity.
Interest expense on advance payment by borrowers for taxes and insurance
("escrow") decreased slightly in 1996 as a result of lower balances in escrow
accounts. Even though First Northern increased the number of loans with
escrows in 1996, the Housing and Urban Development ("HUD") regulation, which
allows for aggregating of tax and insurance dollars within an individual's
escrow, effectively reduces the monies needed within escrow accounts. First
Northern estimates the HUD ruling reduced escrows by approximately $1.0
million. The interest rate paid on escrow accounts in 1996 was 2.91% as
compared to 2.81% in 1995. The escrow interest rate for 1997 is 2.83%.
PROVISION FOR LOAN LOSSES. First Northern expensed $370,000 in 1996 as
compared to $240,000 in 1995 primarily as a result of the increased dollars
outstanding in the loan portfolio. The total loan loss allowance is
$2,937,000 which is .53% of the total loan portfolio. Net charge-offs were
.01% of total loans in 1996.
NON-INTEREST INCOME. Fees on serviced loans decreased slightly in 1996 as a
result of a decrease in the dollar amount of loans serviced. Loan fees and
service charges increased $8,000 primarily as the result of increases in late
charges and commissions on mortgage loans closed for others (i.e., Wisconsin
Housing and Economic Development Authority ("WHEDA") loans, State V.A. loans
or other loans).
Deposit account service charges increased $147,000 as a result of increased
number of accounts and their associated fees and an increase in pricing for
deposit account services. First Northern periodically reviews its product
pricing in relationship to the internal cost of offering the service and
external competition and makes appropriate adjustments in its pricing of
those products or services.
Insurance commissions increased in 1996 primarily as the result of bonuses
received from insurance carriers. If First Northern obtains a predetermined
threshold of insurance sales and insurance losses are at or below another
threshold, insurance bonuses can be earned. In 1996, those insurance bonuses
amounted to $76,978 and in 1995, insurance bonuses were $50,393.
The gain on sales of loans decreased $390,000 in 1996, primarily as the result
of the sale of $10.5 million of education loans in 1995 for a pre-tax gain of
$468,000.
First Northern normally sells all of the 20 and 30 year fixed interest rate
mortgage loans and education loans it originates, in the secondary market.
Depending on pricing at the time of the sale, it may incur a gain or loss on
the sale of the mortgage loans. In 1996, First Northern sold $11.1 million of
fixed interest rate mortgage loans and $3.2 of education loans.
In addition, Statement No. 122 "Accounting for Mortgage Servicing Rights"
requires First Northern to recognize an asset for servicing rights on loans
it sells and services. This accounting change increased the gain on the sale
of loans approximately $109,000 in 1996.
Management periodically reviews its securities available-for-sale for profit
opportunities. In 1996, Management determined that there was more opportunity
to be gained by retaining securities and therefore, did not sell any
securities. In 1995, First Northern sold Freddie Mac stock for a pre-tax gain
of $318,000.
Gain on sale of assets decreased $157,000 in 1996 because in 1995 an excess
branch office property (resulting from the Prime Federal acquisition), was
sold for a pre-tax gain of $149,000.
NON-INTEREST EXPENSE. Compensation and compensation related expenses increased
$346,000 or 5.4% in 1996 as a result of: (i) annual salary increases; (ii)
increased benefit costs; (iii) a higher cash payout of a management incentive
plan as a result of increased profitability; and (iv) increased education and
training costs. First Northern has self-funded health and dental insurance
plans, with appropriate maximum stop losses, that initially will cause a modest
increase in costs. It is anticipated, that after the initial phase-in period,
these self-funded plans will have subsequent increases that are less than
conventionally funded plans. Education and training have been emphasized by
Management especially with the implementation of a new P.C. based teller
system. Training for the new teller system will continue throughout 1997.
Federal insurance premiums decreased in 1996 as a result of the
recapitalization of the SAIF deposit insurance fund. The SAIF deposit
insurance fund recapitalization resulted from a one-time special assessment
of all SAIF members. First Northern paid an assessment of $2,856,000. The
reduction in First Northern's SAIF deposit insurance premiums occurred in the
fourth quarter of 1996 in the amount of $56,000. It is anticipated that the
reduced SAIF premiums will decrease First Northern's SAIF deposit insurance
expense by approximately $750,000 in 1997.
Occupancy costs decreased in 1996 primarily as a result of the reduction in
real estate taxes on First Northern offices and the sale of an excess branch
office property in 1995.
Data processing expense rose slightly in 1996 as a result of the
implementation of service contracts associated with the Wide Area Network
("WAN"). In 1995, First Northern implemented a WAN and in 1996, began the
implementation of a P.C. based teller system.
Furniture and equipment expense increased in 1996 as a result of a portion of
the new PC teller system being installed in 1996. The total cost of the new
teller system will be approximately $750,000 with the majority of the cost
depreciated over five years.
Telephone and postage increased $28,000 in 1996 as a result of increased number
of mailings and the addition of a customer personal access line. The personal
access line allows customers to access their account balances or transfer
money between First Northern accounts, at any time of the day via their
telephone. The increased number of mailings is the result of increased number
of accounts that First Northern services and the offering of new services and
accounts.
To increase lending and deposit volumes in 1996, First Northern also increased
its marketing expense by $20,000 in 1996. First Northern believes that growth
in lending and deposit volumes necessitates increased marketing and hence,
increased marketing costs.
First Northern incurred $108,000 of non-recurring reorganization cost with the
formation of a unitary savings and loan holding company on December 20, 1995.
The Savings Bank became a wholly-owned subsidiary of First Northern, which was
formed to permit greater flexibility in meeting its future financial and
competitive needs.
INCOME TAXES. First Northern's effective income tax rate was 35.0% in 1996 as
compared to 37.2% in 1995. The effective income tax rate was lower in 1996 as
a result of an over-accrual of taxes in 1995.
COMPARISON OF YEARS ENDED DECEMBER 31, 1995 AND 1994.
GENERAL. Net income increased $392,000 in 1995 primarily as a result of: (i)
the sale of $10.5 million of education loans for a pre-tax gain of $468,000;
(ii) the sale of Freddie Mac stock for a pre-tax gain of $318,000; (iii) the
sale of excess branch office property (resulting from the Prime Federal
acquisition) for a pre-tax gain of $149,000; and (iv) the elimination of 1994
non-recurring merger-related costs of $812,000. These gains were offset by a
decrease in net interest income of $1,566,000 and $108,000 of pre-tax
reorganization costs. The decrease in net interest income was primarily the
result of the decrease in the average interest rate spread from 3.29% in 1994
to 2.69% in 1995.
INTEREST INCOME AND INTEREST EXPENSE. Interest income on mortgage loans
increased $1,688,000 as a result of increased dollars outstanding in the
portfolio and an increase in the average interest rate earned. The dollar
increase in the mortgage loan portfolio resulted from the adjustable interest
rate mortgage loan originations which First Northern retains in its portfolio,
the reduction in mortgage loan prepayments and the decrease in fixed interest
rate mortgage loan sales. First Northern continued its upward adjustment of
interest rates on qualified adjustable interest rate mortgage loans to the
lesser of market interest rates or the contractual allowable interest rate.
Interest income on consumer loans increased $1,903,000 as a result of increased
dollars outstanding and an increased yield on the portfolio. The average
consumer loans outstanding increased $16.4 million in 1995, despite the sale of
$10.5 million of education loans in the second quarter of 1995. The increased
yield on the consumer loan portfolio is the result of consumer loan
originations at or above the existing yield on the portfolio and upward
interest rate adjustments on adjustable interest rate consumer loans.
Interest income on investments securities increased primarily as a result of
the increased dollar amount outstanding. First Northern has, to a limited
extent, borrowed funds and reinvested those monies in investments that
incrementally add to overall profitability.
Interest-earning deposits and mortgage-related securities interest income
decreased in 1995 as a result of decreased average dollars outstanding.
Interest-earning deposits were used to repay borrowings and to purchase
investments and securities. Average mortgage-related securities outstanding
decreased in 1995 as a result of repayments and prepayments of the underlying
mortgage collateral.
In 1995, interest expense on deposits rose $3.8 million or 24.0% as a result
of an increase in average deposits of $18.2 million (at year end 1995 as
compared to year end 1994, the deposit increase was $26.2 million) and the
increased cost of deposits. First Northern introduced a Daily Advantage
money market account in which the interest rate paid is determined by
Management weekly and consumers are allowed to make daily withdrawals. This
account was very popular with depositors, as evidenced by $32.6 million in
that account at year end 1995. The average cost of deposits rose to 4.47% in
1995 from 3.76% in 1994. Competition for deposits and the associated interest
rates offered to retain and obtain deposits, caused the increase in the cost
of deposits.
Borrowings from the FHLB of Chicago decreased $20.0 million as of
December 31, 1995; however, average borrowings throughout 1995 amounted to
$33.7 million as compared to $17.3 million in 1994. The increase in the
average outstanding borrowings in 1995 led to the $1,397,000 increase in
borrowing interest expense. First Northern utilizes borrowings to supplement
deposits to fund lending and investment activities.
Interest expense on escrow decreased in 1995 primarily as the result of a
decrease in the interest rate paid. The interest rate paid on escrow accounts
decreased to 2.81% in 1995 from 2.93% in 1994.
PROVISION FOR LOAN LOSSES. The provisions for loan losses increased in 1995
as a result of Management's evaluation of historical loan losses, the level
of non-performing loans and the composition of the loan portfolio. First
Northern's general loan loss allowance of $2,608,000 was 623.9% of non-
performing loans and 470.8% of non-performing assets in 1995.
NON-INTEREST INCOME. Fees on serviced loans decreased slightly in 1995 as a
result of a decrease in average serviced loans outstanding. However, loan
fees and service charges increased $35,000 primarily as a result of increases
in late charges and annual fees associated with automobile loans and overdraft
protection on checking accounts, respectively. Insurance commissions increased
$23,000 primarily as a result of Management's continued emphasis on the sale of
credit life and disability insurance to existing and new loan customers.
Deposit account service charges increased $51,000 due to the increased number
of checking accounts and their associated fees.
The increase in the gains on sales of loans is a consequence of selling $10.5
million of education loans and $11.6 million of mortgage loans. Management
evaluated the current and direct involvement of the U.S. Government in
funding education loans along with an attractive offer price to sell the
education loan portfolio and made the decision to sell its current education
loans for a pre-tax gain of $468,000. First Northern will continue to sell
its education loans as they are originated and funded. In 1995, First
Northern had mortgage loan sales of $11.6 million compared to $18.2 million
in 1994 with gains of $181,000 and $170,000, respectively. The increase in
mortgage loan gains was the result of higher profit margins received on
mortgage loan sales.
First Northern reviews its total dollar amount of fixed interest rate mortgage
loans originated and determines if such loans should be held for investment
or held for sale. Loans identified as held for sale are carried at the lower
of cost or market value in accordance with generally accepted accounting
principles. Loans identified as held for investment are carried at
aggregate cost. During 1994, after review of alternative investments and the
total dollar amount of fixed interest rate mortgage loans in First Northern's
loan portfolio, $4.4 million of loans were reclassified from held for sale to
loans receivable (held for investment). An unrealized loss of $172,000 was
charged to earnings at the time of the transfer to reflect the decreased
market value of those loans and is being amortized into interest income over
the life of the loans as an adjustment to the level loan yield.
NON-INTEREST EXPENSE. Compensation and compensation related expenses decreased
$222,000 in 1995 primarily from the elimination of non-recurring costs
associated with the 1994 merger of Prime Federal and a reduction of expenses
associated with the Supplemental Executive Retirement Plan.
Federal insurance premiums increased $33,000 as a result of increased deposits.
The WAN installation primarily caused the increase of $153,000 in data
processing expense and the $32,000 increase in furniture and fixtures expense.
The WAN was established to provide for quicker and more efficient delivery of
loan documents, better internal communication and to provide a foundation for
future automation. First Northern will be purchasing additional personal
computers and possibly new teller equipment in 1996, to further automate and
improve the delivery of information and customer service.
Marketing expenses decreased $66,000 in 1995 as a result of the elimination of
non-recurring expenses in 1994 associated with the merger of Prime Federal.
First Northern incurred $108,000 of reorganization cost with the formation of a
unitary savings and loan holding company on December 20, 1995. The Savings
Bank became a wholly-owned subsidiary of First Northern, which was formed to
permit greater flexibility in operations.
INCOME TAXES. The effective income tax rate was 37.2% in 1995 as compared to
43.2% for 1994. The effective income tax rate was lower in 1995 in that 1994's
effective income tax rate was higher than normal because a majority of merger
related expenses were not tax deductible.
QUARTERLY FINANCIAL INFORMATION
The following table sets forth certain unaudited quarterly data for the periods
indicated:
QUARTER ENDED
------------------------------------------------
MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31
---------- --------- ------------ ------------
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
1996 (unaudited):
Interest income $10,046 $10,160 $10,632 $11,038
Interest expense 5,616 5,591 5,862 6,134
------- ------- ------- -------
Net interest income 4,430 4,569 4,770 4,904
Provisions for loan losses 60 60 90 160
------- ------- ------- -------
Net income after provisions
for loan losses 4,370 4,509 4,680 4,744
Total non-interest income 596 667 669 754
Total non-interest expenses 3,310 3,297 6,073(1) 3,259
------- ------- ------- -------
Income (loss) before
income taxes 1,656 1,879 (724) 2,239
Income taxes 567 698 (333) 835
------- ------- ------- -------
Net income (loss) $ 1,089 $1,181 $ (391)(2) $ 1,404
======= ====== ======= =======
Net income (loss) per share$ 0.23 $ 0.26 $ (0.09)(2) $ 0.31
====== ====== ======= =======
(1) Includes one-time SAIF special assessment of $2,856,000.
(2) Without the one-time SAIF special assessment net income would have been
$1,342,000 ($0.30 per share).
1995 (unaudited):
Interest income $9,421 $9,758 $9,838 $10,008
Interest expense 5,243 5,633 5,569 5,590
------- ------- ------- -------
Net interest income 4,178 4,125 4,269 4,418
Provisions for loan losses 60 60 60 60
------- ------- ------- -------
Net income after provisions
for loan losses 4,118 4,065 4,209 4,358
Total non-interest income 638 1,343 593 636
Total non-interest expenses 3,248 3,051 3,202 3,151
------- ------- ------- -------
Income before income taxes 1,508 2,357 1,600 1,843
Income taxes 524 886 634 674
------- ------- ------- -------
Net income $ 984 $1,471 $ 966 $ 1,169
====== ====== ====== =======
Net income per share $ 0.21 $ 0.32 $ 0.21 $ 0.25
====== ====== ====== =======