UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(X) Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the quarterly period ended March 31, 1998
or
( ) Transition Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the transition period from to
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Commission File Number 0-15580
St. Paul Bancorp, Inc.
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(Exact name of registrant as specified in its charter)
Delaware 36-3504665
--------------------------------- -------------------
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
6700 W. North Avenue
Chicago, Illinois 60707
- ---------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(773) 622-5000
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(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding twelve months (or such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES X NO
--- ---
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
COMMON STOCK, $.01 PAR VALUE -- 34,350,981 SHARES, AS OF MAY 1, 1998
ST. PAUL BANCORP, INC.
AND SUBSIDIARIES
FORM 10-Q
INDEX
PART I. FINANCIAL INFORMATION
Item 1 Financial Statements (Unaudited)
Consolidated Statements of Financial Condition
as of Mar. 31, 1998 and Dec. 31, 1997. . . . . . . . . . . . . . . .3
Consolidated Statements of Income for the Three
Months Ended Mar. 31, 1998 and 1997. . . . . . . . . . . . . . . . .4
Consolidated Statements of Stockholders' Equity for the
Three Months Ended Mar. 31, 1998 and 1997. . . . . . . . . . . . . .5
Consolidated Statements of Cash Flows for the
Three Months Ended Mar. 31, 1998 and 1997. . . . . . . . . . . . . .6
Notes to Consolidated Financial Statements . . . . . . . . . . . . .7
Item 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations. . . . . . . . . . . . . . . . 10
PART II. OTHER INFORMATION
Item 6 Exhibits and Reports on Form 8-K . . . . . . . . . . . . . . . . . 41
Signature Page . . . . . . . . . . . . . . . . . . . . . . . . . . 42
Exhibits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 43
2
ST. PAUL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (UNAUDITED)
Mar. 31, Dec. 31,
Dollars in thousands 1998 1997
- -----------------------------------------------------------------------------------------------------
ASSETS:
Cash and cash equivalents
Cash and amounts due from depository institutions $ 70,644 $ 89,429
Federal funds sold and interest-bearing bank balances 22,706 59,094
Short-term cash equivalent securities 77,700 56,160
-------------------------
Total cash and cash equivalents 171,050 204,683
Investment securities
(Market: Mar. 31, 1998-$90,086; Dec. 31, 1997-$41,574) 90,086 41,574
Mortgage-backed securities
(Market: Mar. 31, 1998-$724,711; Dec. 31, 1997-$921,277) 720,726 917,863
Securities due from broker
(Market: Mar. 31, 1998-$102,364) 102,364 -
Loans receivable, (Net of allowance for loan losses:
Mar. 31, 1998-$34,179; Dec. 31, 1997-$34,395) 3,296,498 3,205,443
Loans held for sale, at lower of cost or market
(Market: Mar. 31, 1998-$30,648; Dec. 31, 1997-$17,091) 30,336 17,028
Accrued interest receivable 26,698 26,313
Foreclosed real estate (Net of allowance for losses:
Mar. 31, 1998-$154; Dec. 31, 1997-$157) 851 1,358
Real estate held for development or investment 15,759 15,287
Investment in Federal Home Loan Bank stock 38,188 38,188
Office properties and equipment 54,043 52,135
Prepaid expenses and other assets 36,791 37,464
-------------------------
Total Assets $4,583,390 $4,557,336
-------------------------
-------------------------
LIABILITIES:
Deposits $3,230,580 $3,284,428
Short-term borrowings 243,697 370,203
Long-term borrowings 618,850 418,855
Advance payments by borrowers for taxes and insurance 20,352 21,232
Other liabilities 41,790 44,706
-------------------------
Total Liabilities 4,155,269 4,139,424
COMMITMENTS
STOCKHOLDERS' EQUITY:
Preferred stock (par value $.01 per share: authorized-10,000,000
shares; none issued) - -
Common stock (par value $.01 per share: authorized-40,000,000 shares;
Issued: Mar. 31, 1998 and Dec. 31, 1997-35,443,867 shares;
Outstanding: Mar. 31, 1998-34,310,608 shares;
Dec. 31, 1997-34,204,659 shares) 354 354
Paid-in capital 114,813 114,648
Retained income, substantially restricted 333,687 324,937
Accumulated other comprehensive income:
Unrealized gain on securities (net of taxes of $1,081 at
Mar. 31, 1998 and $1,148 of taxes at Dec. 31, 1997) 1,779 1,887
Borrowings by employee stock ownership plan (171) (221)
Unearned employee stock ownership plan shares (364,963 shares) (2,858) (2,858)
Treasury stock (Mar. 31, 1998-1,133,259 shares;
Dec. 31, 1997-1,239,208 shares) (19,483) (20,835)
-------------------------
Total stockholders' equity 428,121 417,912
-------------------------
Total liabilities and stockholders' equity $4,583,390 $4,557,336
-------------------------
-------------------------
See notes to consolidated financial statements
3
ST. PAUL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
Three months ended
Mar. 31,
-----------------------
Dollars in thousands except per share amounts 1998 1997
- -------------------------------------------------------------------------------------
INTEREST INCOME:
Loans receivable $59,209 $53,553
Mortgage-backed securities/securities due from broker 14,597 19,612
Investment securities 1,144 1,001
Federal funds and interest-bearing bank balances 2,516 1,653
Other investment income 1,445 1,023
----------------------
Total interest income 78,911 76,842
INTEREST EXPENSE:
Deposits 33,260 35,817
Short-term borrowings 3,595 4,207
Long-term borrowings 9,065 4,547
----------------------
Total interest expense 45,920 44,571
----------------------
Net interest income 32,991 32,271
Reversal of provision for loan losses (500) ---
----------------------
Net interest income after provision for loan losses 33,491 32,271
OTHER INCOME:
Loan servicing fees 185 454
Other fee income 3,943 3,856
ATM operations 2,752 3,278
Net gain on loan sales 1,092 117
Discount brokerage commissions 1,645 1,517
Income from real estate development operations 1,309 486
Insurance and annuity commissions 630 776
----------------------
Total other income 11,556 10,484
GENERAL AND ADMINISTRATIVE EXPENSE:
Salaries and employee benefits 15,303 13,879
Occupancy, equipment and other office expense 7,442 6,719
Advertising 1,516 1,428
Federal deposit insurance 674 685
Other 2,318 1,458
----------------------
General and administrative expense 27,253 24,169
Loss on foreclosed real estate 34 44
----------------------
Income before income taxes and extraordinary item 17,760 18,542
Income taxes 5,622 6,305
----------------------
Income before extraordinary item 12,138 12,237
Extraordinary item:
Loss on early extinguishment of debt, net of tax of $207 --- 403
----------------------
NET INCOME $12,138 $11,834
----------------------
----------------------
INCOME BEFORE EXTRAORDINARY ITEM PER SHARE:
Basic $ 0.36 $ 0.36
Diluted 0.35 0.34
----------------------
----------------------
NET INCOME PER SHARE:
Basic $ 0.36 $ 0.35
Diluted 0.35 0.33
----------------------
----------------------
DIVIDENDS PER SHARE $ 0.10 $ 0.08
----------------------
----------------------
See notes to consolidated financial statements.
4
ST. PAUL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (UNAUDITED)
Borrowings Unearned
Accumulated by Employee Employee
Other Stock Stock Total
Common Stock Paid-In Retained Comprehensive Ownership Ownership Treasury Stockholders'
Shares Amount Capital Income Income Plan Plan Shares Stock Equity
------------------------------------------------------------------------------------------------------------
Balance at
Dec. 31, 1996 34,163,988 $384 $148,265 $288,065 $2,278 ($396) ($2,883) ($47,603) $388,110
Comprehensive
income:
Net income - - - 11,834 - - - - 11,834
Change in unrealized
gain on securities,
(net of tax of $1,178) - - - - (1,934) - - - (1,934)
--------
Comprehensive
income 9,900
Retirement of
fractional shares (1,230) - (19) - - - - - (19)
Stock option
exercises 596,520 6 5,187 - - - - - 5,193
Cash dividends paid
to stockholders
($0.08 per share) - - - (2,775) - - - - (2,775)
Repayment of
ESOP principal - - - - 46 - - 46
Treasury stock
purchases (499,125) - - - - - - (8,555) (8,555)
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Balance at
Mar. 31, 1997 34,260,153 $390 $153,433 $297,124 $344 ($350) ($2,883) ($56,158) $391,900
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Balance at
Dec. 31, 1997 34,204,659 $354 $114,648 $324,937 $1,887 ($221) ($2,858) ($20,835) $417,912
Comprehensive
income:
Net income - - - 12,138 - - - - 12,138
Change in unrealized
gain on securities,
(net of tax of $67) - - - - (108) - - - (108)
--------
Comprehensive
income 12,030
Stock option
exercises 105,949 - 165 - - - - 1,352 1,517
Cash dividends paid
to stockholders
($0.10 per share) - - - (3,388) - - - - (3,388)
Repayment of
ESOP principal - - - - - 50 - - 50
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Balance at
Mar. 31, 1998 34,310,608 $354 $114,813 $333,687 $1,779 ($171) ($2,858) ($19,483) $428,121
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See notes to consolidated financial statements
5
ST. PAUL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
Three months ended Mar. 31
Dollars in thousands 1998 1997
- -------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net income $ 12,138 $ 11,834
Adjustments to reconcile net income to net cash
provided (used) by operating activities:
Reversal of provision for loan losses (500) -
Provision for depreciation 2,055 1,902
Assets originated and acquired for sale (79,495) (8,990)
Sale of assets held for sale 64,637 8,027
Increase in accrued interest receivable (385) (582)
Decrease in prepaid expenses and other assets 673 3,909
Increase (decrease) in other liabilities (2,916) 13,052
Net amortization of yield adjustments (1,910) (109)
Other items, net (2,754) 1,043
- -------------------------------------------------------------------------------------
Net cash provided (used) by operating activities (8,457) 30,086
- -------------------------------------------------------------------------------------
INVESTING ACTIVITIES
Principal repayments on loans receivable 335,177 203,866
Loans originated and purchased for investment (420,426) (343,066)
Loans receivable sold 1,019 3,247
Principal repayments on available for sale mortgage-
backed securities 55,230 29,037
Principal repayments on held to maturity mortgage-
backed securities 38,687 23,153
Maturities of available for sale investment securities 10,164 16,200
Purchase of available for sale investment securities (58,630) (30,157)
Additions to real estate (1,895) (2,929)
Real estate sold 2,570 1,261
Additions to office properties and equipment (3,963) (2,688)
- -------------------------------------------------------------------------------------
Net cash used in investing activities (42,067) (102,076)
- -------------------------------------------------------------------------------------
FINANCING ACTIVITIES
Proceeds from issuance of certificates of deposit 37,787 129,571
Payments for maturing certificates of deposit (125,015) (92,727)
Net increase in other deposit products 33,380 21,323
New long-term borrowings 250,000 148,538
Repayment of long-term borrowings - (35,853)
Decrease in short-term borrowings, net (176,510) (60,000)
Dividends paid to stockholders (3,388) (2,775)
Net proceeds from exercise of stock options 1,517 5,193
Purchase of treasury stock - (8,555)
Decrease in advance payments by borrowers
for taxes and insurance (880) (491)
- -------------------------------------------------------------------------------------
Net cash provided by financing activities 16,891 104,224
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INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (33,633) 32,234
Cash and cash equivalents at beginning of period 204,683 190,208
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CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 171,050 $ 222,442
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- -------------------------------------------------------------------------------------
See notes to consolidated financial statements
SUPPLEMENTAL CASH FLOW DISCLOSURES
Interest credited on deposits $ 30,936 $ 26,281
Interest paid on deposits 2,733 3,318
--------- --------
Total interest paid on deposits 33,669 29,599
Interest paid on borrowings 16,123 7,611
Income taxes paid, net 210 (1,985)
Real estate acquired through foreclosure 688 271
Loans originated in connection with real estate
acquired through foreclosure - -
6
ST. PAUL BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. The accompanying consolidated financial statements have been prepared
according to generally accepted accounting principles for interim financial
information and with the instructions to Form 10-Q and Article 10 of Regulation
S-X. Accordingly, they do not include all of the information and footnotes
required by generally accepted accounting principles for complete financial
statements. In the opinion of Management, all necessary adjustments, consisting
only of normal recurring accruals, necessary for a fair presentation have been
included. The results of operations for the three month period ended Mar. 31,
1998 are not necessarily indicative of the results expected for the entire
fiscal year.
2. The accompanying consolidated financial statements include the accounts of
St. Paul Bancorp, Inc. (the "Company" or "St. Paul Bancorp") and its
wholly-owned subsidiaries, St. Paul Federal Bank For Savings (the "Bank"),
Annuity Network, Inc. and St. Paul Financial Development Corporation. The
financial statements of the Bank include the accounts of its subsidiaries.
Certain prior year amounts have been reclassified to conform to the 1998
presentation.
3. At Mar. 31, 1998, the Company had the following outstanding commitments to
originate loans (dollars in thousands):
1-4 Family Mortgage Loans $75,198
Income Property Loans 12,233
Commercial Adjustable-Rate Construction 1,872
Consumer Loans 9,604
Unused Lines of Credit 101,752
The Company anticipates funding these origination commitments with cash flow
from operations and incremental borrowings as necessary.
The Bank held commitments, at Mar. 31, 1998, to sell $48.4 million of 1-4 family
real estate loans. The consolidated financial statements contain market value
losses, if any, related to these commitments.
At Mar. 31, 1998, the Company has outstanding $5.8 million of standby letters of
credit on behalf of St. Paul Financial Development Corporation and other
borrowers or customers to various counties and villages as a performance
guarantee for land development and improvements.
4. During 1997, the Company adopted SFAS No. 125, ACCOUNTING FOR TRANSFERS AND
SERVICING OF FINANCIAL ASSETS AND EXTINGUISHMENTS OF LIABILITIES. The
implementation of some of the provisions of this Statement were delayed until
1998 as required by SFAS No. 127, DEFERRAL OF THE EFFECTIVE DATE OF CERTAIN
PROVISIONS OF FASB STATEMENT NO. 125. These Statements provide accounting and
reporting standards for the sale, securitization, and servicing of receivables
and other financial assets and the extinguishment of liabilities. The adoption
of this Statement did not affect operations in a material way. In accordance
with SFAS No. 125, as amended by SFAS No. 127, the Company began to report the
collateral that has been pledged to a third party in connection with a
repurchase agreement and for which the third party may sell or repledge the
collateral and which the Company does not have the right to redeem the
collateral on short
7
notice, as "Due from Broker" on the Statement of Financial Position. The
amount due from brokers consists of the carrying value of MBS pledged as
collateral.
5. On December 31, 1997, the Company adopted SFAS No. 128, EARNINGS PER
SHARE. Under the new requirements, the Company reports basic and diluted
earnings per share, in the place of the previously reported primary and fully
diluted earnings per share. Restatement of prior periods was required.
Under SFAS No. 128, the computation of basic earnings per share excludes the
dilutive effect of common stock equivalents. The Company's only common stock
equivalents are stock options issued to employees and directors. Diluted
earnings per share reflects the potential dilutive effect of stock options,
computed using the treasury stock method and the average market price of the
Company's common stock over the period. For the Company, diluted earnings
per share approximated the previously reported primary earnings per share.
The impact of this Statement on future earnings per share is largely
dependent on future share prices and the amount of stock options outstanding.
The following table sets forth the computation for basic and diluted earnings
per share for the three months ended Mar. 31, 1998 and 1997:
1998 1997
-----------------------------------------------------------------
Income before extraordinary item $12,138 $11,834
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-----------------------------------------------------------------
Denominator for basic earnings per
share-weighted average shares 33,910,947 34,034,040
Effect of diluted securities:
Stock options issued to
employees and directors 1,160,241 1,611,630
-----------------------------------------------------------------
Denominator for diluted earnings per
share-adjusted weighted average
shares and assumed conversions 35,071,188 35,645,670
-----------------------------------------------------------------
-----------------------------------------------------------------
Income before extraordinary
item per share:
Basic $ 0.36 $ 0.35
-----------------------------------------------------------------
-----------------------------------------------------------------
Diluted $ 0.35 $ 0.33
-----------------------------------------------------------------
-----------------------------------------------------------------
6. In 1998, the Company adopted SFAS No. 131, DISCLOSURES ABOUT SEGMENTS OF AN
ENTERPRISE AND RELATED INFORMATION. SFAS No. 131 establishes standards for the
reporting of financial information from operating segments in annual and interim
financial statements. This Statement requires that financial information be
reported on the basis that it is reported internally for evaluating segment
performance and deciding how to allocate resources to segments. Because this
Statement addresses how supplemental financial information is disclosed in
annual and interim reports, the adoption will have no material impact on the
financial statements. The Company will begin to provide segment information
beginning with the Dec. 31, 1998 Annual Report/Form 10-K, and will provide
selected quarterly segment information in Form 10-Q thereafter.
7. In February 1998, the Financial Accounting Standards Board issued SFAS No.
132, EMPLOYER'S DISCLOSURE ABOUT PENSIONS AND OTHER POST-RETIREMENT BENEFITS.
This Statement revises an employer's financial statement disclosures for pension
and other post-retirement benefit plans. This Statement does not, however,
8
change the measurement or recognition of those plans, and will therefore have no
effect on the financial statements. This statement is effective for 1998.
8. All share and per share amounts have been restated for a five-for-four stock
split distributed to stockholders on Jan. 14, 1997 and a three-for-two stock
split distributed to stockholders on July 14, 1997.
9
MANAGEMENT'S DISCUSSION AND ANALYSIS
GENERAL
St. Paul Bancorp, Inc. (the "Company") is the holding company for St. Paul
Federal Bank For Savings (the "Bank"), the largest independent savings
institution in the State of Illinois. At Mar. 31, 1998, the Company reported
total assets of $4.6 billion. The Bank operates 54 branches in the Chicago
metropolitan area, comprised of 35 free-standing offices, 17 banking offices
located in grocery supermarkets and two MONEY CONNECTION CENTERS.
The Bank opened its first MONEY CONNECTION CENTER in December 1997 in a
Chicago storefront location with the second location opening in May 1998.
These locations are designed to leverage a smaller space and the lower
initial investment of grocery store branches. The locations will combine
self-service banking options with branch personnel to deliver a full range of
bank services and broaden the appeal and convenience to customers. The Bank
will be closing one of its in-store locations in the second quarter of 1998,
due to the scheduled closing of the grocery store in which the branch is
located.(1) The Bank also operates one of the largest networks of automated
teller machines ("ATMs") in the Chicagoland area with 496 machines at Mar.
31, 1998. This network includes 252 ATMs located in White Hen Pantry
convenience stores in the eight-county Chicago area, including stores in
northwest Indiana, and 25 ATMs located in Eagle grocery stores. The Bank
installed the Eagle ATMs in the first quarter of 1998 and has an option of
adding another 30 machines at a later date.
Both the Company and the Bank continued to operate other wholly owned
financial services companies, including Investment Network, Inc., Annuity
Network, Inc., SPF Insurance Agency, Inc., and St. Paul Financial Development
Corporation ("SPFD"). As of Mar. 31, 1998, customers maintained $692 million of
investments through Investment Network, Inc. and $335 million of annuity
contracts through Annuity Network, Inc. SPFD is a residential and commercial
land development company focused in the greater Chicagoland area, providing both
equity and financing investments for real estate development projects. At Mar.
31, 1998, SPFD had $22.6 million in real estate equity and financing
investments. In addition, in January 1998, ATM Connection, Inc. began
operations as a new
____________________
(1) Of the 17 branches located in grocery supermarkets, 16 of the locations
are inside Dominick's grocery stores. At the end of 1997, Dominick's changed
the format of the stores from a low margin/high volume warehouse superstore
to a higher margin upscale grocery store. During the remodeling process, the
Bank has seen a decline in transaction volumes in these store branches. The
decline was due to the remodeling and renovation and the shift in the focus
of the store's targeted customer strategy. Management continues to monitor
the activities in these locations, as well as the performance of Dominick's.
10
subsidiary of the Bank. This subsidiary owns and operates the ATM network of
the Bank.
In January 1998 the Bank acquired a privately-held residential mortgage
broker serving Chicago and its surrounding suburbs. This broker now operates as
a separate subsidiary of the Bank under the name Serve Corps Mortgage
Corporation ("Serve Corps"). Serve Corps originates 1-4 family residential
mortgages for sale to third party investors for portfolio. The Bank anticipates
that the acquisition of this operation will increase overall 1-4 family loan
origination volumes and enhance other income for gains on loans sold to third
party investors. Some Bank lending functions are being integrated into Serve
Corps operations. During the first quarter, Serve Corps originated $63.7
million of 1-4 family loans.
On March 15, 1998, the Company announced an agreement to merge with Beverly
Bancorporation, Inc. ("Beverly"), the bank holding company of Beverly National
Bank and Beverly Trust Company. Beverly, with total assets of $669 million,
currently operates 12 branches primarily serving the south and southwestern
suburbs of Chicago. The Company will issue 1.063 shares of its common stock in
exchange for each outstanding common share of Beverly, subject to adjustment
under certain circumstances. Based upon current Beverly shares, the Company is
expected to issue approximately 6.1 million new shares of common stock that will
result in an initial value of the transaction of approximately $170 million,
based upon the price of the stock at the time of the announcement. If the per
share price of the Company common stock falls below the lesser of $21.25 or
$21.25 reduced for changes in an index of stock prices of certain financial
institution holding companies, the merger agreement may be terminated by Beverly
(subject to the right of the Company to increase the number of shares of Company
common stock it would issue to Beverly shareholders). In connection with the
merger agreement, Beverly has granted the Company an irrevocable option to
purchase up to 1,155,512 newly issued shares of Beverly common stock at a
purchase price of $21.82 per share (which price is subject to adjustment) upon
the occurrence of certain events. The Company intends to account for the
transaction as a pooling of interests.
The agreement is subject to regulatory and shareholder approvals, including
approval by the Company's shareholders of an increase in the number of
authorized shares of common stock and the issuance of stock in the merger. The
combined entity would have total assets of over $5.2 billion, 66 branches and an
ATM network of over 550 machines. In connection with the merger, the Company is
expected to record a transaction charge of $11.5 million before income taxes.
This charge will include transaction costs, severance, and additional provisions
for loan losses to conform Beverly's allowance for loan losses to the Company's
11
methodology. Management expects that the transaction will be accretive to
earnings within the first twelve months after the merger. Management expects
to reduce expenses by $4.8 million or 19 percent of Beverly's general and
administrative expenses. In addition, by introducing the Bank's products,
such as brokerage and annuity products, to the Beverly customers, and Beverly
products, such as trust operations and commercial banking to St. Paul
customers, revenues are expected to increase by approximately $1.0 million.
The merger is expected to be completed in the summer of 1998.
In general, the business of the Bank is to reinvest funds obtained from its
retail banking facilities into interest-yielding assets, such as loans secured
by mortgages on real estate, securities, and to a lesser extent, consumer and
commercial real estate loans. The Bank's 1-4 family residential mortgage
products are originated through its mortgage brokerage operations, retail
banking offices, and telephone banking facility, as well as a correspondent loan
program in the Chicago metropolitan area and other Midwestern states (including
Wisconsin, Indiana, Michigan and Ohio). The Bank also originates a variety of
consumer loan products, including home equity loans, secured lines of credit,
education, automobile and credit card loans through the retail banking offices.
The Bank has also entered into agreements to sell lesser quality home equity and
automobile loans to third parties rather than retaining them for its portfolio.
During the first three months of 1998, the Bank (including Serve Corps)
originated $138.3 million of 1-4 family loans, $15.6 million of home equity/line
of credit loans, and $2.8 million of other consumer loans.
The Bank offers mortgage loans to qualifying borrowers to finance apartment
buildings and commercial real estate. In recent years, the Bank made these
income property loans in several Midwestern states, such as Illinois, Indiana,
Wisconsin, Minnesota, and Ohio. In 1997, the Bank resumed its nationwide
income property lending program, to help offset repayments in its existing
portfolio. The Bank will focus its efforts in those markets where Management
believes the economies are strong. In addition, Management will consider
originations to borrowers with whom the Bank has a long standing relationship.
During 1997, the Board of Directors also approved a program to originate loans
secured by industrial, office, and, to a lesser extent, shopping center
properties located in the Midwest. See "CREDIT RISK MANAGEMENT" for further
details. During the first three months, the Bank originated $41.8 million of
income property loans and no loans under the industrial, office, and shopping
center program.
To supplement its loan origination efforts and offset heavy loan
prepayments, the Bank has actively purchased 1-4 family adjustable rate whole
loans for its portfolio. During the first quarter of 1998, the Bank purchased
12
$264.3 million of 1-4 family adjustable rate loans located nationally. Also,
the Bank has purchase commitments for $85 million of 1-4 family loans
scheduled to close in the second quarter. The Bank also invests in
mortgage-backed securities ("MBS"), government and other investment-grade,
liquid investment securities. The Bank classifies investment securities as
either available for sale ("AFS") or held to maturity ("HTM"). Unrealized
gains and losses on AFS securities are recorded as an adjustment to
stockholders' equity, net of related taxes.
As a consumer-oriented retail financial institution, the Bank gathers
deposits from the neighborhoods and surrounding suburbs of the metropolitan
Chicago area, which have favorable savings patterns and high levels of home
ownership. The Bank offers a variety of deposit products including checking,
savings, money market accounts, and certificates of deposit ("CDs"). The Bank
also relies on borrowings to help finance operations and the creation of
interest earning asset growth.
Earnings of the Bank are susceptible to interest rate risk to the extent
that the Bank's deposits and borrowings reprice on a different basis and in
different periods than its securities and loans. Prepayment options embedded in
loans and MBS and varying demand for loan products, due to changes in interest
rates, create additional operating risk for the Bank in matching the repricing
of its assets and liabilities. The Bank tries to structure its balance sheet to
reduce exposure to interest rate risk and to maximize its return on equity,
commensurate with risk levels that do not jeopardize the financial safety and
soundness of the institution.
Changes in real estate market values also affect the Bank's earnings. As
changes occur in interest rates, the forces of supply and demand for real
estate, and the economic conditions of real estate markets, the risk of actual
losses in the Bank's loan portfolio will also change. See "CREDIT RISK
MANAGEMENT" for further details.
This report contains certain "forward-looking statements." The Company
desires to take advantage of the "safe harbor" provisions of the Private
Securities Litigation Reform Act of 1995 and is including this statement for
the express purpose of availing itself of the protection of the safe harbor
with respect to all of such forward-looking statements. These
forward-looking statements describe future plans or strategies and include
the Company's expectations of future financial results. The Company's
ability to predict results or the effect of future plans or strategies is
inherently uncertain. Factors that could affect actual results include but
are not limited to i) general market rates, ii) changes in market interest
rates and the shape of the yield curve, iii) general economic conditions, iv)
real estate markets, v)
13
legislative/regulatory changes, vi) monetary and fiscal policies of the U.S.
Treasury and the Federal Reserve, vii) changes in the quality or composition
of the Company's loan and investment portfolios, viii) demand for loan
products, ix) the level of loan and MBS repayments, x) deposit flows, xi)
competition, xii) demand for financial services in the Company's markets,
xiii) changes in accounting principles, policies or guidelines, xiv) expected
merger cost savings and revenue enhancements cannot be realized or realized
within the expected timeframe, and xv) cost difficulties related to the
integration of the business of Beverly and the Company are greater than
expected. These factors should be considered in evaluating the
forward-looking statements, and undue reliance should not be placed on such
statements.
The Company does not undertake and specifically disclaims any obligation to
update any forward-looking statements to reflect occurrence of anticipated or
unanticipated events or circumstances after the date of such statements.
STATEMENT OF FINANCIAL CONDITION
St. Paul Bancorp reported total assets of $4.6 billion at Mar. 31, 1998, a
$26.1 million increase over total assets reported at Dec. 31, 1997. Higher
loans receivable and investment securities generally produced the increase in
total assets. These increases were partly offset by lower MBS balances.
Cash and cash equivalents totaled $171.1 million at Mar. 31, 1998, $33.6
million less than Dec. 31, 1997. See "CASH FLOW ACTIVITY" for further details.
Investment securities, comprised of U.S. Treasury and agency debt
securities and other marketable equity securities, totaled $90.1 million at Mar.
31, 1998, as compared to $41.6 million at Dec. 31, 1997. Additional purchases
of U.S. Treasury and agency debt and an equity security, offset by maturities,
produced the increase. At both Mar. 31, 1998 and Dec. 31, 1997, all of the
Company's investment securities were classified as AFS. The Company recorded an
unrealized gain on AFS investment securities of $468,000 at Mar. 31, 1998, and
$428,000 at Dec. 31, 1997.
MBS (including securities due from brokers) totaled $823.1 million at
Mar. 31, 1998, $94.8 million or 10.3 percent less than the $917.9 million of
MBS at Dec. 31, 1997. Principal repayments produced the lower balance. The
weighted average yield on the MBS portfolio was 6.82 percent at Mar. 31,
1998, or 6 basis points lower than the weighted average yield at Dec. 31,
1997. Higher amortization of net premiums produced the decrease in the
weighted average yield
14
since Dec. 31, 1997. The Bank's MBS portfolio at Mar. 31, 1998, included
$266.2 million of loans originated and serviced by the Bank.
Approximately 53 percent of the MBS portfolio is classified as AFS, and at
Mar. 31, 1998, the Company reported an unrealized gain on its AFS MBS of $2.4
million compared to an unrealized gain of $2.6 million at Dec. 31, 1997. At
Mar. 31, 1998, 73 percent of the MBS portfolio had adjustable rate
characteristics (although some may be performing at initial fixed interest
rates), compared to 74 percent of the portfolio at Dec. 31, 1997.
Net loans receivable totaled $3.3 billion at Mar. 31, 1998, $91.1 million
or 2.8 percent higher than the $3.2 billion of loans receivable at Dec. 31,
1997. The purchase of $264.3 million of loans held for investment and the
origination of another $156.2 million of loans, partly offset by $335.2 million
of principal repayments, primarily produced the increase in loans receivable
since year end 1997. See "CASH FLOW ACTIVITY" for further discussion of loan
prepayment and originations.
The weighted average rate on loans receivable decreased to 7.44 percent at
Mar. 31, 1998 from 7.49 percent at Dec. 31, 1997. The repayment of higher
yielding loans and the purchase and origination of loans at rates lower than the
portfolio average produced a decline in the weighted average rate. At both Mar.
31, 1998 and Dec. 31, 1997, 85 percent of the loan portfolio had adjustable rate
characteristics.
Loans held for sale increased $13.3 million or 78.2 percent during the
first three months of 1998 to $30.3 million at Mar. 31, 1998. The increase in
loans held for sale resulted from the addition of Serve Corps, the Bank's new
mortgage loan broker subsidiary. Serve Corps originated loans are sold to third
parties (and classified as held for sale) or for portfolio.
Deposits totaled $3.2 billion at Mar. 31, 1998, $53.8 million or 1.6
percent lower than deposit balances at Dec. 31, 1997. The decrease in deposit
balances primarily resulted from the maturity of higher rate CD balances. As
the balances matured, the Bank did not retain these deposits, producing the
decline. The maturity of these higher rate deposits, and the associated
decrease in the relative size of CDs, the highest costing deposit product, also
produced a decline in the weighted average rate paid on deposits. In addition,
the Bank reduced the rate paid on certain savings, money market, and checking
products, further producing a decline in the weighted average rate. The
weighted average cost of deposits decreased to 4.09 percent at Mar. 31, 1998
from 4.26 percent at Dec. 31, 1997.
15
Total borrowings, which include FHLB advances, totaled $862.5 million at
Mar. 31, 1998, $73.4 million or 9.3 percent higher than the $789.1 million of
borrowings at Dec. 31, 1997. The increase was largely due to the use of
long-term borrowings by the Bank to fund whole loan purchases. In addition,
the Bank used long-term borrowing to refinance some higher costing short-term
balances.
The combined weighted average cost of borrowings declined to 5.84 percent
at Mar. 31, 1998 from 6.09 percent at Dec. 31, 1997, due primarily to the Bank
replacing higher rate repurchase agreements with more favorable long-term FHLB
advances. See "CASH FLOW ACTIVITY" for further discussion.
Stockholders' equity of the Company was $428.1 million at Mar. 31, 1998 or
$12.48 per share. In comparison, stockholders' equity at Dec. 31, 1997 was
$417.9 million or $12.22 per share. The $10.2 million increase in stockholders'
equity during the three months ended Mar. 31, 1998 resulted from $12.1 million
of net income and $1.5 million of capital provided by the exercise of stock
options granted to employees and directors. These increases were partly offset
by dividends paid to shareholders of $3.4 million. See "CAPITAL" and
"CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY" for further analysis.
See "CREDIT RISK MANAGEMENT" for discussion of foreclosed real estate
balances.
CAPITAL
The Bank is subject to various regulatory capital requirements administered
by the federal banking agencies. Failure to meet minimum capital requirements
can initiate certain mandatory (and possibly additionally discretionary) actions
by the regulators that, if undertaken, could have a direct material effect on
the Bank's financial statements and therefore the Company's financial
statements. Under capital adequacy guidelines and regulatory framework for
prompt corrective action, the Bank must meet specific capital guidelines that
involve quantitative measures of the Bank's assets, liabilities, and certain
off-balance sheet items calculated under regulatory accounting practices. The
Bank's capital amounts and classification also are subject to qualitative
judgments by the regulators about components, risk weightings, and other
factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios of total and Tier I
capital to risk-weighted assets, and of Tier I capital to average assets. Tier
I capital equals the capital of the Bank less certain intangible assets and the
net assets of non-includable subsidiaries. Total capital equals Tier I capital
plus the Bank's general allowance for loan losses, up to certain limits.
16
As of Mar. 31, 1998, Management believes that the Bank meets all capital
adequacy requirements to which it is subject.
As of Mar. 31, 1998, the Bank meets the requirements of the Office of
Thrift Supervision ("OTS") to be categorized as "well capitalized" under the
regulatory framework for prompt corrective action. To be categorized as
"well capitalized," the Bank must maintain minimum total risk-based capital
ratios, Tier I risk-based ratios, and Tier I leverage ratios (2) as set forth
in the table below. The Bank's actual amounts and ratios are also presented
in the following table:
For Capital
Actual Adequacy Purposes:
----------------- --------------------------------
Amount Ratio Amount Ratio
----------------- --------------------------------
Dollars in thousands
As of Mar. 31, 1998
Total Capital
(to Risk Weighted Assets) $413,094 17.34% >= $190,550 >= 8.00%
Tier I Capital
(to Risk Weighted Assets) $383,278 16.09% >= $ 95,409 >= 4.00%
Tier I Capital (core)
(to Regulatory Assets) $383,278 8.60% >= $178,360 >= 4.00%
As of Dec. 31, 1997
Total Capital
(to Risk Weighted Assets) $413,080 17.12% >= $193,073 >= 8.00%
Tier I Capital
(to Risk Weighted Assets) $382,879 15.85% >= $ 96,645 >= 4.00%
Tier I Capital (core)
(to Regulatory Assets) $382,879 8.61% >= $177,939 >= 4.00%
To Be Well
Capitalized Under
Prompt Corrective
Action Provisions:
----------------------------------
Amount Ratio
----------------------------------
Dollars in thousands
As of Mar. 31, 1998
Total Capital
(to Risk Weighted Assets) >= $238,188 >= 10.00%
Tier I Capital
(to Risk Weighted Assets) >= $143,114 >= 6.00%
Tier I Capital (core)
(to Regulatory Assets) >= $222,950 >= 5.00%
As of Dec. 31, 1997
Total Capital
(to Risk Weighted Assets) >= $241,341 >= 10.00%
Tier I Capital
(to Risk Weighted Assets) >= $144,967 >= 6.00%
Tier I Capital (core)
(to Regulatory Assets) >= $222,424 >= 5.00%
The following schedule reconciles stockholders' equity of the Company to the
components of regulatory capital of the Bank at Mar. 31, 1998:
_______________________
(2) Under separate OTS regulations, the Bank is required to maintain minimum
capital level ratios of core and tangible capital to adjusted assets and
total regulatory capital to risk-weighted assets. At Mar. 31, 1998, the
Bank's tangible and core capital ratio of 8.60 percent and risk-based capital
of 17.34 exceed required capital levels.
17
Mar. 31,
Dollars in thousands 1998
- -----------------------------------------------------------------------
Stockholders' equity of the Company $428,121
Less: capitalization of the Company
and non-Bank subsidiaries (37,461)
- -----------------------------------------------------------------------
Stockholder's equity of the Bank 390,660
Less: unrealized gain on
available for sale securities (1,425)
Less: investments in non-includable
subsidiaries (1,442)
Less: intangible assets and other non-includable assets (4,515)
- -----------------------------------------------------------------------
Tangible and core capital 383,278
Plus: allowable GVAs 29,816
- -----------------------------------------------------------------------
Risk-based capital $ 413,094
- -----------------------------------------------------------------------
- -----------------------------------------------------------------------
In an attempt to address the interest rate risk inherent in the balance
sheets of insured institutions, the OTS proposed a regulation that adds an
interest rate risk component to the risk-based capital requirement for excess
interest rate risk. Under this proposed regulation, which has never been
implemented by the OTS, an institution is considered to have excess interest
rate risk if, based upon a 200 basis point change in market interest rates,
the market value of an institution's capital changes by more than two
percent. If a change greater than two percent occurs, one-half of the
percent change in the market value of capital in excess of two percent is
added to the institution's risk-based capital requirement. At Mar. 31, 1998,
the Bank had no "excess" interest rate risk that would have required
additional risk-based capital if the regulation had been implemented by the
OTS. Even if it had excess interest rate risk, at Mar. 31, 1998, the Bank
would have $222.5 million of excess risk-based capital available to meet any
additional capital requirement.
Under the Federal Deposit Insurance Corporation Improvement Act, the OTS
recently published regulations to ensure that its risk-based capital
standards take adequate account of concentration of credit risk, risk from
nontraditional activities, and actual performance and expected risk of loss
on multifamily mortgages. These rules allow the regulators to impose, on a
case-by-case basis, an additional capital requirement above the current
requirements where an institution has significant concentration of credit
risk or risks from nontraditional activities. The Bank is currently not
subject to any additional capital requirements under these regulations.
The OTS may establish capital requirements higher than the generally
applicable minimum for a particular savings institution if the OTS determines
the institution's capital was or may become inadequate in view of its particular
circumstances. Individual minimum capital requirements may be appropriate where
18
the savings institution is receiving special supervisory attention, has a
high degree of exposure to interest rate risk, or poses safety or soundness
concerns. The Bank has no such requirements.
Regulatory rules currently impose limitations on all capital
distributions by savings institutions, including dividends, stock repurchase
and cash-out mergers. Under the current rule, institutions are grouped into
three classifications depending upon their level of regulatory capital both
before and after giving effect to a proposed capital distribution. The OTS
recently proposed revising its capital distribution regulation to conform the
definition of "capital distribution" to the definition used in its prompt
corrective regulations, and to delete the three classifications of
institutions. Under the proposal, there would be no specific limitation on
the amount of permissible capital distributions, but the OTS could disapprove
a capital distribution if the institution would not be at least adequately
capitalized under the OTS prompt correction action regulations following the
distribution raised safety or soundness concerns, or if the distribution
violated a prohibition contained in any statute, regulation, or agreement
between the institution and the OTS, or a condition imposed on the
institution by the OTS. The OTS would consider the amount of the
distribution when determining whether it raised safety or soundness concerns.
During 1998, the Bank plans to pay dividends to the Company equal to 100
percent of Bank net income.
CASH FLOW ACTIVITY
SOURCES OF FUNDS The major sources of funds during the first three months of
1998 included $429.1 million of principal repayments on loans receivable and
MBS, a $73.5 million net increase in borrowings, $37.8 million from the issuance
of CDs, a $33.4 million increase in other deposit products, and $10.2 million
from maturing AFS investment securities.
During the first three months of 1998, repayments of loans receivable and
MBS totaled $429.1 million, compared to $256.1 million during the first three
months of 1997. Most of the increase resulted from higher repayments on 1-4
family loans and MBS repayments. Repayments on 1-4 family loans and MBS totaled
$352.3 million in the first three months of 1998, compared to $149.2 million for
the first three months of 1997. The Bank has experienced a high level of
repayments in these portfolios because of the low interest rate environment. In
addition, repayments have been high on the adjustable-rate loans that have a low
initial interest rate period of 1 to 5 years as borrowers refinance before the
introductory interest rate resets. The level of prepayments has risen steadily
19
over the past several quarters, and the low interest rate environment may
continue to cause prepayments to remain at high levels.
The issuance of CDs during the first three months of 1998 totaled $37.8
million, as compared to $129.6 million of CDs issued during the same period in
1997. Management did not retain a portion of the higher rate, short-term CD
products originated in early 1997, which began maturing in the first quarter, as
part of Management's strategy to reduce the cost of funds. As a result, the
amount of CD's issued during the first quarter of 1998 declined significantly
from the same quarter in 1997. Some of the CD products not retained either
flowed out of the Bank or were placed into other deposit products. As a result,
other deposit products increased $33.4 million during the first quarter of 1998.
During the first three months of 1998, net borrowings increased by $73.5
million, as compared to a $52.7 million net increase during the first three
months of 1997. Long-term borrowings were used to help fund whole loan
acquisitions and refinance higher costing short-term advances. See "STATEMENT
OF FINANCIAL CONDITION" for further details.
The maturity of $10.2 million of investment securities also provided
additional liquidity during 1998. In comparison, during the same three month
period in 1997, $16.2 million of funds were provided by the maturity of
investment securities.
USES OF FUNDS. The major uses of funds during the three months ended Mar. 31,
1998 included $420.4 million of loans originated and purchased for investment,
$125.0 million of payments for maturing CDs, and $58.6 million for the purchase
of AFS investment securities.
Loans originated and purchased for investment totaled $420.4 million during
the first three months of 1998, compared to $343.1 million during the same
period of 1997. The Bank purchased $264.3 million of mortgage loans during the
first three months of 1997 as part of Management's strategy to replace loan
repayments and build interest earning asset levels. In addition to loans
originated for investment, the Company originated $79.5 million of loans that
were held for sale, compared to $9.0 million during the same three months in
1997. Similarly, the sale of assets held for sale increased to $64.6 million in
1998 compared to $8.0 million during the first three months of 1997. Both
increases were due to the operations of Serve Corps.
Payments for maturing CDs increased from $92.7 million during the three
months ended Mar. 31, 1997 to $125.0 million during the first three months
20
of 1998. The scheduled maturity of promotional short-term CD products opened
in 1997, resulted in the higher payments for maturing CDs.
In addition, during the first three months of 1998, $58.6 million of funds
were used to purchase AFS investment securities. In comparison, during the same
period in 1997, $50.1 million of funds were used to purchase AFS investment
securities.
During the first three months of 1998, the Company did not repurchase any
shares of its own common stock. In comparison, the Company used $8.6 million to
acquire 499,125 of its own common stock during the first three months of 1997.
HOLDING COMPANY LIQUIDITY. At Mar. 31, 1998, St. Paul Bancorp, the "holding
company," had $75.3 million of cash and cash equivalents, which included amounts
due from depository institutions and investment securities with original
maturities of less than 90 days. In addition, the Company has $14.2 million of
investment securities classified as AFS and $3.9 million of MBS securities. The
Company also maintains a $20.0 million revolving line of credit agreement from
another financial institution. At Mar. 31, 1998, no funds have been borrowed
under this agreement.
Sources of liquidity for St. Paul Bancorp during the first three months of
1998 included $10.7 million of repayments of advances to SPFD, $11.2 million of
dividends from the Bank, and $500,000 of dividends from SPFD and Annuity
Network, Inc. Uses of St. Paul Bancorp's liquidity during the first three
months of 1998 included the purchase of $17.4 million of investment securities,
$3.4 million of dividends paid to stockholders, and advances to the Bank of
$900,000.(3)
REGULATORY LIQUIDITY REQUIREMENTS. Savings institutions are required to
maintain average daily balances of liquid assets equal to a specified percentage
of the institution's average net withdrawable deposits plus short-term
borrowings. Liquid assets include cash, certain time deposits, federal funds
sold, and certain securities. This liquidity requirement may be changed from
time to time by the Director of the OTS to any amount within the range of 4
percent to 10 percent, depending upon economic conditions and the deposit flows
of savings institutions. In November 1997, the OTS revised its liquidity
requirement to 4
______________________
(3) During 1998, the Company used its excess liquidity to advance funds to
the Bank for use in the Bank's operation. The advance is due upon demand and
earns a rate of interest comparable to what the Company could earn on its
investment portfolio.
21
percent from 5 percent and expanded the asset types that qualify as liquid
assets. The OTS also added a qualitative liquidity requirement so the Bank
must maintain liquidity to ensure safe and sound operations. Because of the
expanded definition of liquid assets, the Bank's liquidity at Mar. 31, 1998
of $559.5 million substantially exceeded the 4 percent requirement of $139.4
million. Because of the change in regulation, Management's regulatory
liquidity compliance focus has shifted from quantitative measures to
qualitative safety and soundness concerns.
22
RATE/VOLUME ANALYSIS
The following tables present the components of the changes in net
interest income by volume and rate (4) for the three months ended Mar. 31,
1998 and 1997:
INCREASE/(DECREASE) DUE TO
------------------------------
TOTAL
Dollars in thousands VOLUME RATE CHANGE
- -------------------------------------------------------------------------
CHANGE IN INTEREST INCOME:
Loans receivable $ 6,942 $(1,286) $ 5,656
Mortgage-backed securities (5) (4,248) (767) (5,015)
Investment securities 173 (30) 143
Federal funds and interest-bearing
bank balances 771 92 863
Other short-term investments 534 (112) 422
------- ------- -------
Total interest income 4,172 (2,103) 2,069
CHANGE IN INTEREST EXPENSE:
Deposits (1,159) (1,398) (2,557)
Short-term borrowings (705) 93 (612)
Long-term borrowings 5,329 (811) 4,518
------- ------- -------
Total interest expense 3,465 (2,116) 1,349
------- ------- -------
NET CHANGE IN NET INTEREST INCOME
BEFORE PROVISION FOR LOAN LOSSES $ 707 $ 13 $ 720
------- ------- -------
------- ------- -------
______________________
(4) This analysis allocates the change in interest income and expense related
to volume based upon the change in average balance and prior period's
applicable yield or rate paid. The change in interest income and expense
related to rate is based upon the change in yield or rate paid and the prior
period's average balances. Changes due to both rate and volume have been
allocated to volume and rate changes in proportion to the relationship of the
absolute dollar amounts of the change in each. The effect of nonperforming
assets has been included in the rate variance. Average balances exclude the
effect of unrealized gains and losses.
(5) Includes securities due from broker.
23
RESULTS OF OPERATIONS
GENERAL. Net income for the first quarter of 1998 was $12.1 million or $0.35
per share compared to net income of $11.8 million or $0.33 per share during the
same quarter in 1997. Results for the first quarter of 1997 included a $403,000
extraordinary loss (net of tax) incurred in refinancing $34.5 million of the
Company's subordinated notes. Net income for the first quarter of 1997 before
this extraordinary item was $12.2 million or $0.34 per share. During the first
quarter of 1998, higher general and administrative costs ("G&A") were mostly
offset by higher other income and net interest income as well as a lower
provision for loan losses.
NET INTEREST INCOME. Net interest income totaled $33.0 million during the
first quarter of 1998, a 2.2 percent increase from the $32.3 million of net
interest income recorded during the same quarter in 1997. Higher interest
earning asset levels produced most of the increase in net interest income.
Average interest earning asset levels increased $225 million to $4.5 billion
in the three month period ended Mar.31, 1998 from same three month period in
1997. This growth in interest earning assets was mainly funded with
additional borrowings.
The net interest margin ("NIM") was 2.96 percent during the first
quarter of 1998, compared to 3.05 percent during the same quarter in 1997.
The decline in the NIM since the first quarter of 1997 mainly resulted from
the use of borrowings to fund loan growth. The margin earned on the loans
purchased with borrowings was narrower than the overall NIM, producing the
decline. While overall asset yields declined, the Company was able to lower
the overall cost of funds to offset this decline.
INTEREST INCOME. Interest income on loans receivable rose $5.7 million to
$59.2 million. The increase was primarily due to higher average loan
balances that increased by $373.9 million to total $3.2 billion at Mar. 31,
1998, as compared to $2.8 billion the same quarter a year ago. The Bank
increased average loan balances through new loan originations for portfolio
of $195.7 million and the acquisition of $264.3 million of whole loans during
the first quarter of 1998. A decline in the effective loan yield partly
offset the effect of higher average balances. The loan yield was 7.40
percent during the first quarter of 1998, or 18 basis points lower than
during the same quarter in 1997. Contributing to the decline in the loan
yield was the repayment of higher rate loans and the purchase
24
and origination of loans at weighted average rates less than the portfolio
average.
MBS interest income decreased $5.0 million during the first quarter to
$14.6 million, compared to $19.6 million the same quarter a year ago. The
decline was primarily related to a $255.8 million decline in average
balances, and a 28 basis point decline in the effective yield. The decline
in average MBS balances was primarily due to prepayments. The lower
effective MBS yield was associated with higher amortization of net premiums,
as well as some downward repricing in the portfolio.
Interest income from investments increased $1.4 million during the first
quarter to $5.1 million, compared to $3.7 million the same quarter a year ago
due to higher average balances, partly offset by a lower effective yield.
Average investment balances increased $106.9 million during the first quarter
of 1998 compared to the same quarter last year. Most of the increase in
average balances was associated with higher fed fund and interest-bearing
bank balances, as the Company increased liquidity. Lower yields earned on
new investment securities and the maturities of some higher rate securities,
produced the nine basis point decline in the yield.
INTEREST EXPENSE. The decline in interest expense on deposits was produced
by lower average balances and a lower effective rate. Deposit interest
expense declined by $2.6 million to $33.3 million during the first quarter of
1998 compared to the same period a year ago. Average deposit balances
declined by $111.1 million to $3.3 billion during the first quarter of 1998,
as compared to $3.4 billion the same quarter a year ago. The decline in
average balances was primarily related to the maturity of higher rate
short-term CD products that were heavily promoted during the beginning of
1997. The Bank allowed some of these balances to flow out of the Bank in an
effort to reduce the cost of funds. The average yield paid on deposits
declined 17 basis points to 4.14 percent at Mar. 31, 1998. The decline was
mostly related to the reduction of the rates paid on certain checking and
savings products in response to lower short-term interest rates. In
addition, a decline in the overall size of the CD portfolio also contributed
to the lower overall deposit rate.
Higher average borrowing balances, partly offset by a decrease in
average borrowing rates produced the increase in borrowing interest expense
for the first quarter of 1998 as compared to the same period a year ago.
During the
25
first quarter of 1998, borrowing interest expense rose by $3.9
million to $12.7 million as compared to $8.8 million in the same period a
year ago. Average balances rose by $308.2 million during the current quarter
to total $869.2 million, as compared to $561.0 million the same period a year
ago. Management relied on borrowings, particularly long-term borrowings, to
fund a significant portion of the whole loan acquisitions, and to replace
more costly short-term financings. The effective rate declined 42 basis
points during the first quarter of 1998 compared to the same quarter a year
ago. Lower rates on new long-term borrowings mainly produced the
decrease.(6)
INTEREST RATE SPREAD. The Bank's ability to sustain current net interest
income levels during future periods is largely dependent on maintaining the
interest rate spread, which is the difference between weighted average rates
on interest earning assets and interest bearing liabilities. The interest
rate spread was 2.79 percent at Mar. 31, 1998, compared to 2.66 percent at
Dec. 31, 1997 and 2.74 percent at Mar. 31, 1997. The increase in the
interest rate spread was produced by a decline in the cost of funds, partly
offset by lower asset yields. During January, Management lowered its rates on
certain checking and savings accounts to lower the Bank's average cost of
funds. In addition, Management allowed certain higher rate CD balances to
flow out of the Bank. The Bank also was able to refinance some borrowings
with new, lower rate FHLB advances. The repayment of higher rate loans and
MBS and the purchase and origination of loans at rates below the portfolio
average primarily generated the lower asset yields.
External forces, such as the performance of the economy, actions of the
Board of Governors of the Federal Reserve System, and market interest rates,
can significantly influence the size of the interest rate spread and are
beyond the control of Management. In response to these forces, Management
evaluates market conditions and deploys strategies that it believes will
produce a sustainable and profitable interest rate spread.
Management also believes that several product-related factors will
continue to impact the interest rate spread. First, the Bank has $1.6
billion
- ---------------
(6) In February of 1997, the Company issued $100 million of 7.125 percent
senior notes. A portion of the proceeds from the senior notes were used on
Mar. 31, 1997 to redeem, at par, the Company's $34.5 million of 8.25 percent
subordinated notes. The benefit from this repayment of the higher costing
borrowings did not begin to impact borrowing expense until the second quarter
of 1997. Thus, the repayment benefited interest expense in the first quarter
of 1998, but not the first quarter of 1997.
26
of "adjustable" rate loans and MBS that have initial fixed interest rate
periods ranging from three to seven years. At Mar. 31, 1998, only $244.9
million of these loans and MBS were scheduled to reprice during the ensuing
twelve months. If interest rates remain at current levels at the time of
repricing, the Bank may experience an increase in the yields, but could also
experience higher prepayments.
Second, approximately $243.1 million of adjustable rate 1-4 family and
multifamily loans are at their interest rate floors. These loans will not
reprice until their fully indexed interest rate exceeds the floor rate.(7)
Third, $951.8 million of the Company's assets are tied to movements that
lag behind the movements in market interest rates. In general, this
condition benefits the Bank's asset yields as market rates decrease, but
constrains repricing as interest rates increase.
Lastly, nearly all adjustable rate loans and MBS contain periodic and
lifetime interest rate caps that limit the amount of upward repricing on
loans and MBS. Most of the annual interest caps in the Bank's loan and MBS
portfolio are 2 percent. At Mar. 31, 1998, only $13.1 million of loans and
MBS are at their periodic or lifetime interest rate caps.
On the liability side, the Company has $296.5 million of borrowings that
are scheduled to reprice during the next six months and a CD portfolio of
$1.9 billion that has a weighted average remaining maturity of 10 months.
The Company also has $1.3 billion of deposits in checking, savings, and money
market accounts that are expected to help mitigate the effect of a rapid
change in interest rates.
Traditionally, financial institutions have used "GAP" analysis as a
measure of interest rate sensitivity. GAP is the ratio of interest rate
sensitive assets to interest rate sensitive liabilities over a specified time
horizon, expressed as a percentage of total assets. At Mar. 31, 1998, the
Company maintained a matched GAP position, suggesting that the Bank was
relatively insulated from the effects of market rates during the next 12
months.
- ---------------
(7) At Mar. 31, 1998, the weighted average fully indexed rate on these loans
was 7.47 percent and the weighted average floor was 8.02 percent. These
interest rate floors benefited net income by $347,000 during the first
quarter of 1998. The floors also increased the NIM and interest rate spread
during the quarter by 3 basis points. In comparison, at Mar. 31, 1997, the
Bank had $348.4 million of loans at their floors, which benefited interest
income by $818,000 during the first quarter of 1997. In addition, the floors
increased the NIM and interest rate spread during the first quarter of 1997
by 8 basis points.
27
See "ASSET/LIABILITY REPRICING SCHEDULE" following for further details.
Also, see the Company's 1997 Annual Report/Form 10-K interest rate risk
discussion.
PROVISION FOR LOAN LOSSES. Due to continued positive trends in credit
quality, the Company reversed $500,000 of loan loss provisions during the
first quarter of 1998. See "CREDIT RISK MANAGEMENT" for further discussion
of loss provisions and the adequacy of the accumulated provisions for losses.
In comparison, the Company recorded no loss provisions during the first
quarter or the entire year of 1997.
OTHER INCOME. An increase in other income contributed to the higher level
of net income for the first quarter of 1998. Other income for the first
quarter of 1998 was $11.6 million, $1.1 million or 10.2 percent higher than
during the same quarter a year ago.
The increase in other income was primarily related to a $975,000
increase in gains from loan sales and higher income from real estate
operations $823,000. The higher gains on loan sales were primarily related to
an increase in loan sales volumes from the addition of the Bank's new
mortgage subsidiary, Serve Corps Mortgage Corp. Most of the loans originated
by Serve Corps are sold with servicing released to unaffiliated third party
investors. In the future, Management plans to use Serve Corps to originate
loans for the Bank's portfolio. The higher income from real estate operations
was related to higher sales volumes primarily the sale of a 120-acre lot
during the current quarter. In addition, brokerage commissions increased by
$128,000 during the first quarter, as compared to the same quarter a year
ago, due to an increase in transaction volumes at Investment Network, Inc.,
the Bank's discount brokerage subsidiary.
These increases in other income were partly offset by lower revenues
from ATM operations of $526,000 due to lower transaction volumes, and lower
loan servicing fees of $269,000 due to a lower average servicing portfolio
and the effect of rapid prepayments on capitalized servicing rights. The
decline in ATM transaction volumes was partly due to increased competition
from other ATM sites and the loss of some non-customer activity after the
introduction of access fees for non-customers that use a Bank ATM in January
1997.
GENERAL AND ADMINISTRATIVE EXPENSE. General and administrative expenses
("G&A")totaled $27.3 million during the first quarter of 1998, or 12.8
percent higher than during the same period of 1997. The higher level of
expense was
28
mainly generated by increases in compensation and benefits, occupancy,
equipment and office expense, and other expense
Compensation and benefits rose $1.4 million during the first quarter of
1998 over the same quarter in 1997, due to the addition of Serve Corps, as
well as annual merit increases and higher sales incentives. In addition,
higher employment taxes and higher costs related to the employee stock
ownership plan contributed to the increase. Occupancy, equipment and office
expense rose $723,000 during the current quarter. This increase was
primarily related to additional operating costs of the Bank's new operation
center and higher systems costs. Higher systems costs primarily relate to
retail banking and ATM applications and compliance work in preparation for
the year 2000. In addition, other expense increased by $860,000 primarily
due to higher tax consulting fees, higher professional fees, and expenses
associated with Serve Corps.
Management also increased the size of the branch network in recent
months. The Bank opened its first MONEY CONNECTION CENTER in December 1997
and the second recently opened in May 1998. These branches are located in
storefronts that have a similar cost composition as the Bank's current
in-store branch locations. These centers will be located in areas with
significant pedestrian traffic and will combine self-banking features, such
as ATMs and telephone banking, with branch personnel to deliver a full range
of banking services. The Bank plans to look for other opportunities to open
these storefront branches in the future. The Bank intends to fund all branch
expansion with existing liquidity.
Management also expects G&A costs in 1998 related to the systems
requirements to ensure that the Bank can process transactions in the next
century. In 1996, The Bank began preliminary work on the Year 2000
compliance issue. Critical risk elements were identified and an inventory of
computer hardware, software application, Bank vendors and available internal
resources was prepared. From this assessment, a formal action plan was
prepared and approved by the Bank's Board of Directors in early 1997. The
action plan divided the project into segments which were aligned with the
type of computer platform used by the Bank. Execution of the plan
development work began in 1997 and will continue into 1998. The Bank has
dedicated sufficient internal resources to this project and will continue to
use external resources as necessary to meet project deadlines. The Bank is
committed to completing the necessary compliance work by the end of 1998,
with testing on the segments to begin later in the year and into
29
1999. The OTS has mandated that all savings institutions be Year 2000
compliant by the end of 1998, with 1999 set for testing. At Mar. 31, 1998,
Management believes that development work in each of the segments is at least
on schedule with compliance work to be completed and some testing to begin
before the end of the year. Management currently estimates that the costs
incurred in 1998 for work on the Year 2000 project will not be material. The
Bank intends to fund these costs from operations and excess liquidity. The
Bank expects that the outsourcing of its loan processing system will be
completed by the end of 1998, ensuring that this area is Year 2000 compliant
within the required time frame. The loan outsourcing decision will increase
the Bank's operating expenses by approximately $350,000 per year.
In addition to higher G&A costs associated with additions to the branch
network and system projects, other factors will lead to an increase in expense
during 1998. While Serve Corps operations will add to G&A, the addition to fee
income will more than offset this increase. This subsidiary caused $875,000 of
additional G&A expenses during the first quarter. Management also expects tax
consulting expenses to increase with the implementation of new tax planning
strategies, but the tax savings will more than offset the higher operating
expenses.
OPERATIONS OF FORECLOSED REAL ESTATE. The net loss generated from foreclosed
real estate operation was $34,000 during the first quarter of 1998, or $10,000
less than the net loss recorded during the same period a year ago. See "CREDIT
RISK MANAGEMENT" for further discussion of REO.
INCOME TAXES. A lower level of pretax income and a decline in the effective
income tax rate produced the decrease in the provision for income taxes during
the first quarter of 1998, as compared to the same quarter a year ago. The
annual effective income tax rate for the first quarter of 1998 was 31.7 percent,
compared to 34.0 percent during the first quarter of 1997. The implementation
of certain tax planning strategies produced the lower effective income tax rate.
EXTRAORDINARY ITEM. During the first quarter of 1997, the Company recorded a
$403,000 extraordinary loss, net of tax, on the early extinguishment, at par, of
its $34.5 million of 8.25 percent subordinated debt due in 2000. The write-off
of unamortized issuance costs and discounts created the loss at extinguishment.
The subordinated debt was repaid with a portion of the proceeds from the
30
Company's issuance of $100 million of 7.125 percent senior notes due in 2004.
31
AVERAGE BALANCES, INTEREST AND AVERAGE YIELDS
Three months ended Mar. 31,
Dollars in thousands At Mar. 31, 1998 1998 1997
- ----------------------------------------------------------------------------------------------------------------------------
Weighted Effective Effective
Yield/ Average Yield/ Average Yield/
Balance Rate Balance(a) Interest Rate Balance(a) Interest Rate
- ----------------------------------------------------------------------------------------------------------------------------
Investments:
Investment securities (b) $ 90,086 6.04% $ 77,506 $ 1,144 5.99% $ 65,869 $ 1,001 6.16%
Federal funds and
interest-bearing bank balances 22,706 5.39 186,840 2,516 5.46 129,319 1,653 5.18
Other investments (c) 115,888 5.64 103,752 1,445 5.65 66,049 1,023 6.28
- ----------------------------------------------------------------------------------------------------------------------------
Total investments 228,680 5.77 368,098 5,105 5.62 261,237 3,677 5.71
Mortgage-backed securities/
securities due from broker 823,090 6.82 884,574 14,597 6.60 1,140,367 19,612 6.88
Loans receivable (d) 3,361,014 7.44 3,200,879 59,209 7.40 2,826,965 53,553 7.58
- ----------------------------------------------------------------------------------------------------------------------------
Total interest-earning assets $4,412,784 7.24% $4,453,551 $78,911 7.09% $4,228,569 $76,842 7.27%
- ----------------------------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------------------------
Deposits:
Interest-bearing checking $ 221,077 1.19% $ 223,148 $ 706 1.28% $ 232,182 $ 993 1.73%
Non-interest-bearing checking 168,653 -- 165,334 -- -- 140,225 -- --
Other non-interest-bearing accounts 47,532 -- 49,616 -- -- 36,546 -- --
Money market accounts 224,295 3.69 219,019 1,946 3.60 219,477 1,947 3.60
Savings accounts 687,118 2.14 677,280 3,655 2.19 679,142 4,017 2.40
Certificates of deposit 1,881,905 5.65 1,927,456 26,953 5.67 2,065,400 28,860 5.67
- ----------------------------------------------------------------------------------------------------------------------------
Total deposits 3,230,580 4.09 3,261,853 33,260 4.14 3,372,972 35,817 4.31
Borrowings:(e)
Short-term borrowings 243,697 5.80 249,795 3,595 5.84 298,945 4,207 5.71
Long-term borrowings 618,850 5.86 619,430 9,065 5.94 262,092 4,547 7.04
- ----------------------------------------------------------------------------------------------------------------------------
Total borrowings 862,547 5.84 869,225 12,660 5.91 561,037 8,754 6.33
- ----------------------------------------------------------------------------------------------------------------------------
Total interest-bearing liabilities $4,093,127 4.45% $4,131,078 $45,920 4.51% $3,934,009 $44,571 4.59%
- ----------------------------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------------------------
Excess of interest-earning assets
over interest-bearing liabilities $ 319,657 $ 322,473 $ 294,560
- ----------------------------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------------------------
Ratio of interest-earning assets to
interest-bearing liabilities 1.08x 1.08x 1.07x
- ----------------------------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------------------------
Net interest income $32,991 $32,271
- ----------------------------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------------------------
Interest rate spread 2.79%
- ----------------------------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------------------------
"Average" interest rate spread 2.58% 2.68%
- ----------------------------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------------------------
Net yield on average earning assets 2.96% 3.05%
- ----------------------------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------------------------
(a) All average balances based on daily balances.
(b) Average balances exclude the effect of unrealized gains or losses on
available for sale investment securities.
(c) Includes investment in FHLB stock and other short-term investments.
(d) Includes loans held for sale and loans placed on a nonaccrual status.
(e) Includes FHLB advances, securities sold under agreements to repurchase and
other borrowings.
32
KEY CREDIT STATISTICS
Mar. 31, 1998 Dec. 31, 1997 Dec. 31, 1996
Dollars in thousands Dollar % Dollar % Dollar %
- ------------------------------------------------------------------------------------------------
LOAN PORTFOLIO
- ------------------------------------------------------------------------------------------------
MORTGAGE LOANS:
1-4 family units $2,366,975 71% $2,251,823 70% $1,753,907 63%
Multifamily units 900,407 27 911,035 28 988,506 35
Commercial 51,430 2 63,742 2 54,985 2
Land and land development --- - --- - 1,633 *
- ------------------------------------------------------------------------------------------------
Total mortgage loans $3,318,812 100% $3,226,600 100% $2,799,031 100%
- ------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------
CONSUMER LOANS:
Secured by deposits $ 1,138 10% $ 1,015 8% $ 1,169 6%
Education 16 * 44 * 210 1
Home improvement 115 1 136 1 281 1
Auto 9,519 80 10,818 82 16,197 85
Personal 1,077 9 1,225 9 1,193 7
- ------------------------------------------------------------------------------------------------
Total consumer loans $ 11,865 100% $ 13,238 100% $ 19,050 100%
- ------------------------------------------------------------------------------------------------
Total loans held for investment $3,330,677 $3,239,838 $2,818,081
- ------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------
Weighted average rate 7.45% 7.49% 7.66%
- ------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------
*Less than 1 percent
Mar. 31, 1998 Dec. 31, 1997 Dec. 31, 1996
Dollars in thousands Dollar % Dollar % Dollar %
- ------------------------------------------------------------------------------------------------
NONPERFORMING ASSETS
- ------------------------------------------------------------------------------------------------
MORTGAGE LOANS:
1-4 family units $ 7,364 87% $ 8,701 84% $ 9,102 73%
Multifamily units --- -- --- -- --- --
Commercial --- -- --- -- 387 3
- ------------------------------------------------------------------------------------------------
Total mortgage loans 7,364 87 8,701 84 9,489 76
CONSUMER LOANS 78 1 76 1 46 *
REAL ESTATE OWNED:
1-4 family units 1,005 12 1,515 15 1,566 13
Multifamily units --- -- --- -- ----- --
Commercial --- -- --- -- 1,351 11
- ------------------------------------------------------------------------------------------------
Total real estate owned 1,005 12 1,515 15 2,917 24
- ------------------------------------------------------------------------------------------------
Total nonperforming assets $ 8,447 100% $ 10,292 100% $ 12,452 100%
- ------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------
*Less than 1 percent
Mar. 31, Dec. 31, Dec. 31,
1998 1997 1996
- ---------------------------------------------------------------------------------------------
KEY CREDIT RATIOS
- ---------------------------------------------------------------------------------------------
Net loan charge-offs (recoveries) to average
loans receivable (0.04)% 0.05% 0.15%
Net California loan charge-offs (recoveries) to
average California loans receivable (0.18) 0.27 0.56
Loan loss reserve to total loans 1.03 1.06 1.28
Loan loss reserve to nonperforming loans 459.27 391.88 377.19
Loan loss reserve to impaired loans 292.75 176.48 64.04
Nonperforming assets to total assets 0.18 0.23 0.29
General valuation allowance to non-
performing assets 394.56 321.34 248.88
- ------------------------------------------------------------------------------------------------
33
CREDIT RISK MANAGEMENT
LENDING
At Mar. 31, 1998, the loans receivable portfolio was mainly comprised of
residential mortgages, secured by both 1-4 family and multifamily dwellings.
The loan portfolio also included, but to a much lesser extent, other commercial
real estate loans, and consumer loans. See "KEY CREDIT STATISTICS" for further
details.
Non-performing loans totaled $7.4 million at Mar. 31, 1998, down $1.3
million from Dec. 31, 1997. At both Mar. 31, 1998 and Dec. 31, 1997, the
Company reported no non-performing loans in its income property lending
portfolio. The level of non-performing loans continues to be among the
lowest in the Company's recent history.
At Mar. 31, 1998, the Bank had a net investment in impaired loans of
$11.7 million, compared to $19.5 million at Dec. 31, 1997.(8) At both Mar.
31, 1998 and Dec. 31, 1997, all of the impaired loans were performing but
considered impaired because it is probable, based upon current information
and events, that the Bank will be unable to collect all amounts due in
accordance with the original contractual agreement. As anticipated by
Management, the level of impaired loans has been significantly reduced since
Dec. 31, 1996, when the net investment in impaired loans totalled $56.2
million, primarily because of the resolution of several income property loans
that had been classified as impaired because of pending maturities.
The accumulated provision for loan losses at Mar. 31, 1998 was $34.2
million compared to $34.4 million at Dec. 31, 1997, a decrease of $216,000.
The following table provides a rollforward of the accumulated provision for
loan losses from Jan. 1, 1997 through Mar. 31, 1998:
- ----------------
(8) Impaired as defined in SFAS No. 114 "Accounting by Creditors for
Impairment of a Loan", as amended by SFAS No. 118 "Accounting by Creditors
for Impairment of a Loan -Income Recognition and Disclosure."
34
1998 1997
-------------- -------------------------
Three Months Three Months Year Ended
Dollars in thousands Ended Mar. 31 Ended Mar. 31 Dec. 31
- -------------------- --------------- -------------------------
Beginning of Period $34,395 $35,965 $35,965
Reversal of provision for losses (500) --- ---
Charge-offs (83) (1,498) (2,781)
Recoveries 367 550 1,211
-------------- -------------------------
End of Period $34,179 $35,017 $34,395
-------------- -------------------------
-------------- -------------------------
The general valuation allowance is evaluated based on a careful review of
the various risk components that are inherent in each of the loan portfolios,
including off-balance sheet items. The risk components that are evaluated
include the level of non-performing and classified assets, geographic
concentrations of credit, economic conditions, trends in real estate values, the
impact of changing interest rates on borrower debt service, as well as
historical loss experience, peer group comparisons, and regulatory guidance.
The adequacy of the accumulated provision for loan losses is approved on a
quarterly basis by the Loan Loss Reserve Committee ("Reserve Committee") of the
Bank's Board of Directors. The accumulated provision for loan losses reflects
Management's best estimate of the reserves needed to provide for credit risks
for income property loans as well as all other perceived credit risks of the
Bank. However, actual results could differ from this estimate and future
additions to the reserves may be necessary based on unforeseen changes in
economic conditions. In addition, federal regulators periodically review the
Bank's accumulated provision for losses on loans. Such regulators have the
authority to require the Bank to recognize additions to the reserves at the time
of their examinations.
Net loan recoveries in the first three months of 1998 totaled $284,000,
compared to $948,000 of net charge-offs in the first three months of 1997.(9)
Annualized net loan recoveries to average loans receivable totaled 0.04
percent during the first quarter of 1998. In comparison, the Company had net
loan charge-offs during all of 1997 and 1996 equivalent to 0.05 percent and
0.15 percent of average loans receivable, respectively. See "KEY CREDIT
STATISTICS" for further details.
- ----------------
(9) Gross loan charge-offs in the first quarter of 1998 totaled $83,000 and
were related to 1-4 family and consumer loans. Recoveries during the first
three months of 1998 were primarily related to income property loans.
35
The continued trend of declining classified assets, the low level of
non-performing loans, continued reductions in balances in the Company's
nationwide income property loan portfolio, and net recoveries recorded during
the first quarter of 1998, allow the Company to reverse $500,000 of previous
provisions for loan losses. In comparison, no loan loss provision was
recorded during the first quarter or the entire year of 1997. The decision
to reverse loan loss provisions was based upon a careful review of various
risk components of each of the portfolios as described above. In the future,
subject to careful review of the risk elements of the portfolio, Management
may continue to reverse previous loan loss provisions. However, this
decision will be impacted by many factors, including real estate market
conditions, current positive credit quality trends continuing, and the
addition of the loan portfolio obtained in connection with the Beverly merger
scheduled to close in the third quarter of 1998. See "KEY CREDIT
STATISTICS" for further details.
In addition to refinancing existing maturing income property loans, the
Bank's Board of Directors has provided for an expansion of income property
lending outside of the Midwest. Under this program, the Bank has been
authorized to originate new multifamily loans where Management believes the
economies are strong or to borrowers with whom it has a long-standing
relationship. Originations under this program are expected to help offset the
repayment of maturing loans. During 1997, the Board of Directors also approved
a program to provide loans on real estate secured by industrial, office, and
shopping center properties. The initial focus of the program will be on
industrial centers and secondarily on office complexes. Loans on shopping
centers will be considered only on a very select basis. The geographic focus of
the program will be in the Midwestern states. Management anticipates
originations under this program to be between $20 million and $25 million during
1998.
During the first three months of 1998, the Bank purchased $264.3 million of
whole loans, secured by 1-4 family residences located nationally. Prior to
purchasing these loans, the Bank performs due diligence procedures, and because
of that process, Management believes that the portfolios acquired present no
greater risk than the Bank's own originated 1-4 family portfolio. The Bank
applied its own loan origination underwriting standards to the purchase of these
loans. All purchased loans are subject to the Bank's quarterly review of the
adequacy of the general valuation allowance.
Management continues to monitor events in the submarkets in which the
Bank has substantial loan concentrations, particularly California. While
some softness persists in certain areas, Management, through its market
evaluations, site visits, and other research, is not aware of any unfavorable
changes in those
36
economies that would have a significant adverse effect on the Bank's loan
portfolio. The Bank's largest concentrations of income property loans
outside Illinois are California and Washington.
As of Mar. 31, 1998, the Bank's ratio of classified assets to tangible
capital and general valuation allowance was 15 percent, compared to 18
percent at Dec. 31, 1997 and 34 percent at Dec. 31, 1996. Lower classified
asset levels primarily generated the decrease in the ratio.
OTHER REAL ESTATE OWNED
REO totaled $1.0 million at Mar. 31, 1998 compared to $1.5 million at
the end of 1997. All of the REO at Mar. 31, 1998 and Dec. 31, 1997, were
1-4 family assets.
The accumulated provision for real estate losses totaled $154,000 at
Mar. 31, 1998 compared to $157,000 at Dec. 31, 1997. There was no provision
for REO losses during the first three months of 1998 and 1997. See "RESULTS
OF OPERATIONS" for further details on REO provision.
In accordance with the Company's accounting policy, REO assets are
initially recorded at the lower of their net book value or fair value, less
estimated selling costs. The accumulated provision for loan losses is
charged for any excess of net book value over fair value at the foreclosure,
or in-substance foreclosure, date. After foreclosure, the accumulated
provision for foreclosed real estate losses is used to establish specific
valuation allowances on individual REO properties as declines in market value
occur and to provide general valuation allowances for possible losses
associated with risks inherent in the REO portfolio.
37
ASSET/LIABILITY REPRICING SCHEDULE (a)
at Mar. 31, 1998
-----------------------------------------------------------------------------------
Weighted More than 6
Average % of 6 Months months to Over
Rate Balance Total or less 1 year 1-3 years 3-5 years 5 years
- ------------------------------------------------------------------------------------------------------------------------------
RATE SENSITIVE ASSETS: (Dollars in thousands)
Investments:(b)
Adjustable rate 5.38% $ 22,706 *% $ 22,706 $ - $ - $ - $ -
Fixed rate 5.80 205,974 5 91,205 51,000 10,038 4,968 48,763
Mortgage-backed securities:(c) (d)
Adjustable rate 6.76 605,393 14 245,020 186,369 174,004 - -
Fixed rate 6.98 217,697 5 16,485 15,568 54,270 43,846 87,528
Mortgage loans:(c)
Adjustable and renegotiable rate 7.39 2,834,703 64 1,216,662 429,403 946,104 242,534 -
Fixed rate 7.93 484,110 11 66,109 56,251 163,556 93,963 104,231
Consumer loans (c) 7.43 11,865 * 1,789 1,137 3,526 2,712 2,701
Loans held for sale 7.24 30,336 1 30,336 - - - -
---------------------------------------------------------------------------------
Total rate sensitive assets 7.24% $4,412,784 100% $1,690,312 $ 739,728 $1,351,498 $388,023 $ 243,223
---------------------------------------------------------------------------------
---------------------------------------------------------------------------------
RATE SENSITIVE LIABILITIES:
Deposits:
Checking and other deposit accounts 0.60% $ 436,743 11% $ 118,112 $ 24,868 $ 81,519 $ 58,898 $ 153,346
Savings accounts 2.14 687,279 17 226,735 43,504 136,622 91,865 188,553
Money market deposit accounts 3.69 224,653 5 224,653 - - - -
Fixed-maturity certificates 5.65 1,881,905 46 1,143,262 343,396 273,228 82,903 39,116
---------------------------------------------------------------------------------
4.09 3,230,580 79 1,712,762 411,768 491,369 233,666 381,015
Borrowings:
FHLB advances 5.55 644,085 16 193,000 - 100,000 100,248 250,837
Other borrowings 6.54 202,062 5 103,545 - - - 98,517
Mortgage-backed note 8.82 16,400 * - - 16,400 - -
---------------------------------------------------------------------------------
5.84 862,547 21 296,545 - 116,400 100,248 349,354
---------------------------------------------------------------------------------
Total rate sensitive liabilities 4.45% $4,093,127 100% $2,009,307 $ 411,768 $ 607,769 $333,914 $ 730,369
---------------------------------------------------------------------------------
---------------------------------------------------------------------------------
Excess (deficit) of rate sensitive assets
over rate sensitive liabilities (GAP) 2.79% $ 319,657 $ (318,995) $ 327,960 $ 743,729 $ 54,109 $(487,146)
---------------------------------------------------------------------------------
---------------------------------------------------------------------------------
Cumulative GAP $ (318,995) $ 8,965 $ 752,694 $806,803 $ 319,657
Cumulative GAP to total assets without
regard to hedging transactions (6.96)% 0.20% 16.42% 17.60% 6.97%
Cumulative GAP to total assets with
impact of hedging transactions (5.08)% 1.07% 16.97% 17.60% 6.97%
* Less than 1 percent.
(a) Mortgage loan repricing/maturity projections were based upon
principal repayment percentages in excess of the contractual
amortization schedule of the underlying mortgages. Multifamily
mortgages were estimated to be prepaid at a rate of approximately 35
percent per year; adjustable rate mortgage loans on single family
residences and loan securities were estimated to prepay at a rate of 22
percent per year; fixed rate loans and loan securities were estimated to
prepay at a rate of 12 percent per year. Loans with an adjustable rate
characteristic, including loans with initial fixed interest rate
periods, are considered by Management to have an adjustable rate.
Checking accounts were estimated to be withdrawn at rates between 15
percent and 21 percent per year. Most of the regular savings accounts
were estimated to be withdrawn at rates between 18 percent and 26
percent per year, although for some of the accounts, Management assumed
an even faster rate. Except for multifamily loans, the prepayment
assumptions included in this schedule are based upon the Bank's actual
prepayment experience over the past year, as well as Management's
future expectations of prepayments. The Bank assumed a prepayment
percentage of 35 percent because of current market conditions and the
nature of the Bank's multifamily portfolio. The new decay assumption on
passbook and checking accounts is based on a historical regression
analysis of the Bank's growth in these accounts.
(b) Includes investment in FHLB stock.
(c) Excludes accrued interest and allowance for loan losses.
(d) Includes MBS classified as securities due from broker.
38
PART II. -- OTHER INFORMATION
ITEM 6 -- EXHIBITS AND REPORTS ON FORM 8-K
(a) The Company filed a current report on Form 8-K on March 17, 1998,
announcing the 1998 Annual Meeting of Shareholders to be held on May 6,
1998.
(b) The Company filed a current report on Form 8-K on March 20, 1998,
announcing an agreement to merge with Beverly Bancorporation.
39
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ST. PAUL BANCORP, INC.
-------------------------------------
(Registrant)
Date: May 15, 1998 By: /s/ Joseph C. Scully
--------------------------------------
Joseph C. Scully
Chairman of the Board and Chief Executive Officer
(Duly Authorized Officer)
Date: May 15, 1998 By: /s/ Robert N. Parke
-----------------------------------------
Robert N. Parke
Senior Vice President and Treasurer
(Principal Financial Officer)
40