================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended...................... June 30, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ________ to ________
Commission File Number 005-57091
FIRST MUTUAL BANCSHARES, INC.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
WASHINGTON 91-2005970
--------------------------- --------------
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
400 108th Avenue N.E., Bellevue, WA 98004
-----------------------------------------------------
(Address of principal executive offices and zip code)
(425)453-5301
----------------------------------------------------
(Registrant's telephone number, including area code)
----------------------------------------------------
(Former name, former address and former fiscal year,
if changed since last report.)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
(1) Yes X No
----- -----
APPLICABLE ONLY TO CORPORATE ISSUERS
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Title of class: As of August 14, 2000
--------------- ---------------------
Common Stock, $1.00 par value 4,671,286 shares
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FIRST MUTUAL BANCSHARES, INC.
QUARTERLY REPORT ON FORM 10-Q
JUNE 30, 2000
TABLE OF CONTENTS
PAGE
PART I: FINANCIAL INFORMATION
Item 1. Financial Statements ...................................... 3
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations ............. 15
General ................................................ 15
Results of Operations .................................. 15
Net Interest Income ............................... 15
Other Operating Income ............................ 16
Operating Expenses ................................ 18
Net Income ........................................ 19
Business Segments ...................................... 20
Consumer Banking .................................. 20
Residential Lending ............................... 20
Commercial Lending ................................ 21
Financial Condition .................................... 22
Asset Quality ..................................... 23
Liquidity and Capital Reserves .................... 24
Year 2000 Issues ....................................... 25
Item 3. Quantitative and Qualitative Disclosures About
Market Risk ............................................... 25
PART II: OTHER INFORMATION
Item 1. Legal Proceedings ......................................... 27
Item 2. Changes in Securities ..................................... 27
Item 3. Defaults Upon Senior Securities ........................... 27
Item 4. Submission of Matters to a Vote of Security-Holders ....... 27
Item 5. Other Information ......................................... 28
Item 6. Exhibits and Reports on Form 8-K .......................... 28
Forward-Looking Statements Disclaimer ............................. 28
2
Item 1. Financial Statements
FIRST MUTUAL BANCSHARES INC.
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
ASSETS June 30 December 31
2000 1999
---- ----
(Unaudited)
CASH AND CASH EQUIVALENTS:
Interest-earning deposits $ 6,464,333 $ 14,993
Noninterest-earning demand deposits
and cash on hand 2,546,043 3,850,002
------------- -------------
9,010,376 3,864,995
MORTGAGE-BACKED AND OTHER SECURITIES
AVAILABLE FOR SALE 16,562,158 17,374,783
LOANS RECEIVABLE, HELD FOR SALE 14,968,966 2,709,750
MORTGAGE-BACKED AND OTHER SECURITIES
HELD TO MATURITY 87,571,187 88,056,338
LOANS RECEIVABLE 470,863,670 457,980,649
RESERVE FOR LOAN LOSSES (6,491,375) (6,309,268)
------------- -------------
LOANS RECEIVABLE, net 464,372,295 451,671,381
ACCRUED INTEREST RECEIVABLE 4,206,564 3,840,911
REAL ESTATE HELD FOR SALE 527,594 --
LAND, BUILDINGS AND EQUIPMENT, net 5,532,247 5,527,024
FEDERAL HOME LOAN BANK (FHLB) STOCK, 7,502,400 7,020,400
at cost
MORTGAGE SERVICING RIGHTS 187,228 110,341
OTHER ASSETS 1,316,979 940,383
------------- -------------
TOTAL $ 611,757,994 $ 581,116,306
============= =============
3
FIRST MUTUAL BANCSHARES INC.
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(Continued)
June 30 December 31
2000 1999
---- ----
(Unaudited)
LIABILITIES:
Deposits:
Investor custodial checking $ 3,023,617 $ 3,216,280
Money market deposit and 91,985,870 96,623,844
checking accounts
Regular savings 8,940,255 11,018,069
Time Deposits 335,024,889 289,315,897
------------- -------------
Total deposits 438,974,631 400,174,090
Drafts payable 652,004 1,381,374
Accounts payable and other liabilities 3,192,759 4,147,946
Advance payments by borrowers for
taxes and insurance 1,638,788 1,589,312
FHLB advances 124,786,725 134,236,925
Other advances 250,000 250,000
------------- -------------
Total liabilities 569,494,907 541,779,647
STOCKHOLDERS' EQUITY:
Common stock, $1 par value-
Authorized, 10,000,000 shares
Issued and outstanding, 4,671,286
and 4,672,636 shares, respectively 4,671,286 4,672,636
Additional paid-in capital 31,118,545 31,116,359
Employee Stock Ownership Plan Debt (129,634) (310,739)
Retained earnings 7,271,720 4,527,356
Accumulated other comprehensive income(loss):
Unrealized (loss) on securities available for sale,
net of federal income tax (668,830) (668,953)
------------- -------------
Total stockholders' equity 42,263,087 39,336,659
------------- -------------
TOTAL $ 611,757,994 $ 581,116,306
============= =============
4
FIRST MUTUAL BANCSHARES, INC.
CONSOLIDATED STATEMENTS OF INCOME
Quarters ended June 30 Six Months ended June 30
2000 1999 2000 1999
---- ---- ---- ----
(Unaudited)
INTEREST INCOME:
Loans Receivable $10,708,299 $ 8,511,265 $20,959,593 $16,937,060
Interest on AFS Securities 284,487 311,398 576,432 633,642
Interest on HTM Securities 1,326,183 1,338,912 2,645,550 2,508,718
Interest Other 132,947 99,073 261,169 203,649
----------- ----------- ----------- -----------
12,451,916 10,260,648 24,442,744 20,283,069
INTEREST EXPENSE:
Deposits 5,518,638 4,550,101 10,525,201 9,265,195
FHLB advances and other borrowings 1,877,257 1,029,845 3,784,680 1,794,541
----------- ----------- ----------- -----------
7,395,895 5,579,946 14,309,881 11,059,736
----------- ----------- ----------- -----------
Net interest income before provision
for loan losses 5,056,021 4,680,702 10,132,863 9,223,333
PROVISION FOR LOAN LOSSES 100,000 285,000 230,000 435,000
----------- ----------- ----------- -----------
Net interest income, after provision
for loan losses 4,956,021 4,395,702 9,902,863 8,788,333
OTHER OPERATING INCOME (EXPENSE):
Gain on sales of loans 6,857 382,702 128,389 776,388
Servicing fees, net of amortization 108,473 114,217 338,247 229,363
Fees on deposits 72,313 92,980 153,077 161,198
Other 151,916 183,593 342,246 401,265
----------- ----------- ----------- -----------
Total other operating income 339,559 773,492 961,959 1,568,214
BALANCE, carried forward 5,295,580 5,169,194 10,864,822 10,356,547
5
FIRST MUTUAL BANCSHARES, INC.
CONSOLIDATED STATEMENTS OF INCOME
(Continued)
Quarters ended June 30 Six Months ended June 30
2000 1999 2000 1999
---- ---- ---- ----
(Unaudited)
BALANCE, brought forward $ 5,295,580 $ 5,169,194 $10,864,822 $10,356,547
OPERATING EXPENSES:
Salaries and employees benefits 1,676,089 1,680,137 3,616,977 3,630,156
Occupancy 422,549 346,264 850,077 689,201
Other 753,593 917,851 1,461,079 1,649,587
----------- ----------- ----------- -----------
Total other operating expenses 2,852,231 2,944,252 5,928,133 5,968,944
----------- ----------- ----------- -----------
Income before federal income taxes 2,443,349 2,224,942 4,936,689 4,387,603
PROVISION FOR FEDERAL INCOME TAXES 827,623 754,783 1,673,667 1,488,388
----------- ----------- ----------- -----------
NET INCOME $ 1,615,726 $ 1,470,159 $ 3,263,022 $ 2,899,215
=========== =========== =========== ===========
PER SHARE DATA(1):
BASIC EARNINGS PER COMMON SHARE $ 0.35 $ 0.31 $ 0.70 $ 0.62
=========== =========== =========== ===========
EARNINGS PER COMMON SHARE-ASSUMING DILUTION $ 0.34 $ 0.31 $ 0.69 $ 0.61
=========== =========== =========== ===========
WEIGHTED AVERAGE SHARES OUTSTANDING 4,670,907 4,672,243 4,670,207 4,672,002
=========== =========== =========== ===========
WEIGHTED AVERAGE SHARES OUTSTANDING
INCLUDING DILUTIVE STOCK OPTIONS 4,733,959 4,760,023 4,734,125 4,760,951
=========== =========== =========== ===========
(1) Comparative Earnings Per Share data for the prior year has been restated to conform with Statement
of Financial Accounting Standards No. 128. See Note 5.
6
FIRST MUTUAL BANCSHARES INCORPORATED
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(Unaudited)
Common stock Additional
------------ paid-in Retained
Shares Amount capital earnings
------ ------ ------- --------
BALANCE, January 31, 1998 4,125,227 $ 4,125,227 $ 24,882,773 $ 2,520,178
Options exercised, including tax benefit of $545,675 122,048 122,048 965,908 --
Repayment of employee stock
ownership plan debt -- -- -- --
Cash dividends declared ($.60 per share) (1) -- -- -- (2,546,154)
Comprehensive income:
Net income -- -- -- 5,207,696
Other comprehensive income(loss)--Change in unrealized
losses on securities available for sale, net of
federal income tax -- -- -- --
------------
Total Comprehensive income -- -- -- 5,207,696
------------ ------------ ------------ ------------
BALANCE, December 31, 1998 4,247,275 $ 4,247,275 $ 25,848,681 $ 5,181,720
============ ============ ============ ============
Options exercised, including tax benefit of $13,038 9,378 9,378 48,701 --
10% stock dividend 424,483 424,483 5,252,977 (5,677,460)
Retirement of shares repurchased (8,500) (8,500) (34,000) (60,031)
Repayment of employee stock
ownership plan debt -- -- -- --
Cash dividends declared ($.20 per share) (1) -- -- -- (917,221)
Comprehensive income:
Net income -- -- -- 6,000,348
Other comprehensive income(loss)--Change in unrealized
losses on securities available for sale, net of
federal income tax -- -- -- --
------------
Total Comprehensive income -- -- -- 6,000,348
------------ ------------ ------------ ------------
BALANCE, December 31, 1999 4,672,636 $ 4,672,636 $ 31,116,359 $ 4,527,356
============ ============ ============ ============
Options exercised, including tax benefit of $6,431 8,650 8,650 42,186 --
Retirement of shares repurchased (10,000) (10,000) (40,000) (51,874)
Repayment of employee stock
ownership plan debt -- -- -- --
Cash dividends declared ($.10 per share) (1) -- -- -- (466,784)
Comprehensive income:
Net income -- -- -- 3,263,022
Other comprehensive income(loss)--Change in unrealized
losses on securities available for sale, net of
federal income tax -- -- -- --
------------
Total Comprehensive income -- -- -- 3,263,022
------------ ------------ ------------ ------------
BALANCE, June 30, 2000 4,671,286 $ 4,671,286 $ 31,118,545 $ 7,271,720
============ ============ ============ ============
Employee stock Accumulated
ownership Comprehensive
plan debt Income(loss)(2) Total
------------ ------------ ------------
BALANCE, January 31, 1998 $ (871,570) $ (4,780) 30,651,828
Options exercised, including tax benefit of $545,675 1,087,956
Repayment of employee stock
ownership plan debt 267,832 -- 267,832
Cash dividends declared ($.60 per share) (1) -- -- (2,546,154)
Comprehensive income:
Net income -- -- 5,207,696
Other comprehensive income(loss)--Change in unrealized
losses on securities available for sale, net of
federal income tax -- (7,205) (7,205)
------------ ------------
Total Comprehensive income (7,205) 5,200,491
------------ ------------ ------------
BALANCE, December 31, 1998 $ (603,738) $ (11,985) $ 34,661,953
============ ============ ============
Options exercised, including tax benefit of $13,038 58,079
10% stock dividend -- -- --
Retirement of shares repurchased -- -- (102,531)
Repayment of employee stock
ownership plan debt 292,999 -- 292,999
Cash dividends declared ($.20 per share) (1) -- -- (917,221)
Comprehensive income:
Net income -- -- 6,000,348
Other comprehensive income(loss)--Change in unrealized
losses on securities available for sale, net of
federal income tax -- (656,968) (656,968)
------------ ------------
Total Comprehensive income (656,968) 5,343,380
------------ ------------ ------------
BALANCE, December 31, 1999 $ (310,739) $ (668,953) $ 39,336,659
============ ============ ============
Options exercised, including tax benefit of $6,431 50,836
Retirement of shares repurchased -- -- (101,874)
Repayment of employee stock
ownership plan debt 181,105 -- 181,105
Cash dividends declared ($.10 per share) (1) -- -- (466,784)
Comprehensive income:
Net income -- -- 3,263,022
Other comprehensive income(loss)--Change in unrealized
losses on securities available for sale, net of
federal income tax -- 123 123
------------ ------------
Total Comprehensive income 123 3,263,145
------------ ------------ ------------
BALANCE, June 30, 2000 $ (129,634) $ (668,830) $ 42,263,087
============ ============ ============
(1) Cash dividends declared divided by weighted average shares outstanding of 4,670,207 in 2000 and 4,675,654 in
1999 and 4,215,764 in 1998.
(2) Income tax benefit netted against accumulated comprehensive losses were $344,549, $344,612, and $6,174 for
the periods ended June 30, 2000, December 31, 1999 and 1998, respectively.
7
FIRST MUTUAL BANCSHARES INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
Six months ended June 30
------------------------
2000 1999
---- ----
(Unaudited)
OPERATING ACTIVITIES:
Net income $ 3,263,022 $ 2,899,215
Adjustments to reconcile net cash
provided (used) by operating activities:
Provision for loan losses 230,000 435,000
Depreciation and Amortization 374,718 275,577
Deferred loan origination fees, net of accretion (247,359) (30,907)
Amortization of mortgage servicing rights 64,899 96,842
Gain on sales of loans (138,245) (842,493)
Gain on sale of repossessed real estate -- (17,029)
FHLB stock dividends (235,974) (182,900)
Cash provided (used) by changes in
operating assets and liabilities:
Loans receivable held for sale (12,259,216) 13,266,584
Accrued interest receivable (365,653) (136,515)
Other assets (540,208) (580,066)
Drafts payable (729,370) (2,790,147)
Accounts payable and other liabilities (954,694) (520,074)
Federal income taxes (363,981) --
Advance payments by borrowers for taxes and insurance 49,476 12,103
------------ ------------
Net cash provided (used) by operating activities (11,852,585) 11,885,190
INVESTING ACTIVITIES:
Loan originations (73,121,485) (93,369,554)
Loan principal repayments 54,644,237 63,456,650
Increase in undisbursed loan proceeds 5,540,913 2,829,328
Principal repayments & redemptions on mortgage-backed
and other securities 4,554,371 11,545,366
Purchase of mortgage-backed and other securities held to maturity (3,250,000) (39,717,343)
Purchases of premises and equipment (379,691) (245,408)
Purchase of FHLB stock (246,026) --
Proceeds from sale of Loans 248,947 1,301,940
Proceeds from sale of Real Estate Held for Sale -- 119,738
------------ ------------
Net cash provided (used) by
investing activities, carried forward (12,008,734) (54,079,283)
8
FIRST MUTUAL BANCSHARES INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Continued)
Six months ended June 30
--------------------------------
2000 1999
------------- -------------
(Unaudited)
BALANCE, net cash provided (used) by
investing activities, brought forward $ (12,008,734) $ (54,079,283)
FINANCING ACTIVITIES:
Net increase (decrease) in deposit accounts 28,357,637 (25,394,016)
Interest credited to deposit accounts 10,442,904 9,428,641
Proceeds from advances 437,111,800 208,570,000
Repayment of advances (446,562,000) (148,792,000)
Dividends paid (467,277) (2,126,816)
Proceeds from exercise of stock options 44,405 32,374
Repurchase of common stock (101,874) --
Repayment of Employee Stock Ownership Plan Debt 181,105 262,567
------------- -------------
Net cash provided (used) by financing activities 29,006,700 41,980,750
------------- -------------
NET INCREASE/(DECREASE) IN CASH AND CASH
EQUIVALENTS 5,145,381 (213,343)
CASH:
Beginning of year 3,864,995 5,529,145
------------- -------------
End of quarter $ 9,010,376 $ 5,315,802
============= =============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW
INFORMATION:
Loans originated for mortgage banking activities $ 33,468,583 $ 77,644,400
Loans originated for investment activities 73,121,485 93,369,554
------------- -------------
Total loans originated for mortgage banking
activities and investment activities $ 106,590,068 $ 171,013,954
============= =============
Proceeds from sales of loans held for sale $ 21,209,367 $ 90,910,984
============= =============
Cash paid during six months ended June 30
Interest $ 14,270,047 $ 11,000,749
============= =============
Income taxes $ 2,031,280 $ 1,760,155
============= =============
SUPPLEMENTAL DISCLOSURES OF NONCASH
INVESTING ACTIVITIES:
Loans securitized into securities held to maturity $ -- $ --
Loans transferred to real estate held for sale, net $ 527,594 $ --
============= =============
9
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1.
The results of operations for the interim periods shown in this report are not
necessarily indicative of results to be expected for the fiscal year. In the
opinion of management, the information contained herein reflects all adjustments
necessary to make the results of operations for the interim periods a fair
statement of such operations.
NOTE 2.
MORTGAGE-BACKED AND OTHER SECURITIES AVAILABLE FOR SALE
The amortized cost and estimated fair value of securities available for sale at
June 30, 2000 and December 31, 1999 is summarized as follows:
Gross Gross Estimated
Amortized unrealized unrealized fair
cost gains losses value
----------- ----------- ----------- -----------
June 30, 2000
- -------------
FHLMC securities $ 423,853 $ 13,608 -- $ 437,461
FNMA securities 15,343,076 40,825 953,476 14,430,425
GNMA securities 1,800,483 -- 106,211 1,694,272
----------- ----------- ----------- -----------
$17,567,412 $ 54,433 $ 1,059,687 $16,562,158
=========== =========== =========== ===========
December 31, 1999:
- ------------------
FHLMC securities $ 427,499 $ 7,216 -- $ 434,715
FNMA securities 16,077,306 43,566 933,028 15,187,844
GNMA securities 1,869,018 -- 116,794 1,752,224
----------- ----------- ----------- -----------
$18,373,823 $ 50,782 $ 1,049,822 $17,374,783
=========== =========== =========== ===========
NOTE 3.
MORTGAGE-BACKED AND OTHER SECURITIES HELD TO MATURITY
The amortized cost and estimated fair value of mortgage-backed and other
securities is summarized as follows:
Gross Gross Estimated
Amortized unrealized unrealized fair
cost gains losses value
----------- ----------- ----------- -----------
June 30, 2000
- -------------
FNMA certificates $36,273,484 $ 198,745 $ 1,445,167 $35,027,062
FHLMC certificates 1,773,530 29,851 -- 1,803,381
U.S. Government Agency securities 45,659,087 6,900 1,307,562 44,358,425
Merrill Lynch corporate bond 2,528,541 -- 118,716 2,409,825
Municipal bonds 873,990 -- 73,101 800,889
REMICS 462,555 1,632 323 463,864
----------- ----------- ----------- -----------
$87,571,187 $ 237,128 $ 2,944,869 $84,863,446
=========== =========== =========== ===========
December 31, 1999:
- ------------------
FNMA certificates $39,827,759 $ 149,563 $ 1,389,648 $38,587,674
FHLMC certificates 1,792,237 18,780 -- 1,811,017
U.S. Government Agency securities 42,652,659 44,178 1,250,503 41,446,334
Merrill Lynch corporate bond 2,534,010 -- 111,285 2,422,725
Municipal bonds 625,395 -- 84,965 540,430
REMICS 624,278 7,194 -- 631,472
----------- ----------- ----------- -----------
$88,056,338 $ 219,715 $ 2,836,401 $85,439,652
=========== =========== =========== ===========
10
NOTE 4.
NONPERFORMING ASSETS
The Company had nonperforming assets as follows.
June 30, 2000 December 31, 1999
------------- -----------------
Nonperforming loans $2,395,118 $342,579
Real Estate and Repossessed assets Held for Sale 537,207 9,613
---------- ----------
Totals $2,932,325 $ 352,192
========== ==========
At June 30, 2000 and December 31, 1999, the Bank had no impaired loans as
defined under Statement of Financial Accounting Standards (SFAS) No. 114,
"Accounting by Creditors for Impairment of a Loan."
NOTE 5.
EARNINGS PER SHARE
Basic Earnings Per Share is computed by dividing net income by the
weighted-average number of shares outstanding during the year. Diluted EPS
reflects the potential dilutive effect of stock options and is computed by
dividing net income by the weighted-average number of shares outstanding during
the year, plus the dilutive common shares that would have been outstanding had
the stock options been exercised.
The following is a reconciliation of the numerators and denominators of the
basic and diluted earnings per share computations for quarters and years ending
June 30, 2000 and June 30, 1999:
Income Shares Per share
(numerator) (denominator) amount
-----------------------------------
Quarter ended June 30, 2000
Basic EPS:
Income available to common shareholders $ 1,615,726 4,670,907 $ 0.35
======
Effect of dilutive stock options -- 63,052
----------- -----------
Diluted EPS:
Income available to common shareholders
plus assumed stock options exercised $ 1,615,726 4,733,959 $ 0.34
=========== =========== ======
Year ended June 30, 2000
Basic EPS:
Income available to common shareholders $ 3,263,022 4,670,207 $ 0.70
======
Effect of dilutive stock options -- 63,918
----------- -----------
Diluted EPS:
Income available to common shareholders
plus assumed stock options exercised $ 3,263,022 4,734,125 $ 0.69
=========== =========== ======
Quarter ended June 30, 1999
Basic EPS:
Income available to common shareholders $ 1,470,159 4,672,243 $ 0.31
======
Effect of dilutive stock options -- 87,780
----------- -----------
Diluted EPS:
Income available to common shareholders
plus assumed stock options exercised $ 1,470,159 4,760,023 $ 0.31
=========== =========== ======
Year ended June 30, 1999
Basic EPS:
Income available to common shareholders $ 2,899,215 4,672,002 $ 0.62
======
Effect of dilutive stock options -- 88,949
----------- -----------
Diluted EPS:
Income available to common shareholders
plus assumed stock options exercised $ 2,899,215 4,760,951 $ 0.61
=========== =========== ======
11
NOTE 6.
RATE VOLUME ANALYSIS SECOND QUARTER 2000 SIX MONTHS ENDED JUNE 30, 2000
(Dollars in thousands) VS VS
SECOND QUARTER 1999 SIX MONTHS ENDED JUNE 30, 1999
INCREASE (DECREASE) DUE TO INCREASE (DECREASE) DUE TO
TOTAL TOTAL
VOLUME RATE CHANGE VOLUME RATE CHANGE
- --------------------------------------------------------------------------------- ----------------------------------
INTEREST INCOME
Investments:
Available for sale securities $ (37) $ 10 $ (27) $ (83) $ 26 $ (57)
Held to maturity securities 114 (127) $ (13) 236 (99) 137
Other equity investments 45 (11) 34 90 (32) 58
------- ------- ------- ------- ------- -------
Total investments 122 (128) (6) 243 (105) 138
Loans:
Residential 244 105 349 321 160 481
Residential construction 98 102 200 157 167 324
Multifamily 639 181 820 1,336 221 1,557
Multifamily construction 90 32 122 149 86 235
Commercial real estate and Business 319 118 437 768 149 917
Commercial real estate construction 34 (27) 7 77 (26) 51
Consumer & Other 214 48 262 386 71 457
------- ------- ------- ------- ------- -------
Total loans 1,638 559 2,197 3,194 828 4,022
--------------------------------- ---------------------------------
Total interest income 1,760 431 2,191 3,437 723 4,160
INTEREST EXPENSE
Deposits:
Money market deposit and checking (72) 19 (53) (113) 66 (47)
Regular savings (10) (18) (28) (17) (33) (50)
Time deposits 568 482 1,050 751 607 1,358
------- ------- ------- ------- ------- -------
Total deposits 486 483 969 621 640 1,261
FHLB advances and other 515 332 847 1,386 604 1,990
------- ------- ------- ------- ------- -------
Total interest expense 1,001 815 1,816 2,007 1,244 3,251
Net interest income $ 759 $ (384) $ 375 $ 1,430 $ (521) $ 909
======= ======= ======= ======= ======= =======
12
NOTE 7.
SEGMENTS
The Company is organized based on the products and services that it offers.
Under this organizational structure, the Company has three reportable segments:
consumer banking, residential lending, and commercial lending.
Consumer banking offers depositor banking services, home equity lending, direct
consumer loans, consumer dealer financing contracts and small business lending.
Residential lending offers conventional or government-insured loans to borrowers
to purchase, refinance, or build homes, secured by one-to-four unit family
dwellings. Embedded within the residential lending segment is a mortgage banking
operation, which sells loans in the secondary mortgage market. The mortgage
banking operation may choose to retain or sell the right to service the loans
sold(i.e., collection of principal and interest payments) depending upon market
conditions.
Commercial lending offers permanent and interim (construction) loans for
multifamily housing (over 4 units), commercial real estate properties, and loans
to small and medium-sized businesses for financing inventory, accounts
receivables, and equipment, among other things. The underlying real estate
collateral or business asset being financed typically secures these loans.
Financial information for the Company's segments is shown below for 2000, 1999
and 1998:
CONSUMER RESIDENTIAL COMMERCIAL
QUARTER ENDED JUNE 30 BANKING LENDING LENDING TOTALS
- --------------------- ------- ------- ------- ------
Revenues from external customers 2000 $2,649,528 $1,961,157 $7,957,031 $12,567,716
1999 2,276,536 2,050,737 6,532,278 10,859,551
1998 1,466,093 2,746,842 6,037,519 10,250,454
Revenues from other segments 2000 4,810,832 89,662 454,205 5,354,699
1999 4,212,680 69,186 395,294 4,677,160
1998 5,439,312 114,535 376,814 5,930,661
Total Revenues 2000 7,460,360 2,050,819 8,411,236 17,922,415
1999 6,489,216 2,119,923 6,927,572 15,536,711
1998 6,905,405 2,861,377 6,414,333 16,181,115
Net interest revenue 2000 1,457,584 468,143 3,100,323 5,026,050
1999 1,605,894 438,462 2,474,266 4,518,622
1998 1,593,727 522,073 2,128,136 4,243,936
Income before federal income taxes 2000 162,466 169,038 2,344,470 2,675,974
1999 275,280 394,409 1,703,770 2,373,459
1998 303,760 325,749 1,414,372 2,043,881
CONSUMER RESIDENTIAL COMMERCIAL
YEAR-TO-DATE ENDED JUNE 30: BANKING LENDING LENDING TOTALS
- --------------------------- ------- ------- ------- ------
Revenues from external customers 2000 5,129,474 4,041,819 15,665,406 24,836,699
1999 4,375,472 4,302,360 12,733,749 21,411,581
1998 3,066,371 5,915,427 11,643,949 20,625,747
Revenues from other segments 2000 9,342,822 175,820 896,811 10,415,453
1999 8,755,866 149,988 779,488 9,685,342
1998 10,644,903 238,298 729,551 11,612,752
Total Revenues 2000 14,472,296 4,217,639 16,562,217 35,252,152
1999 13,131,338 4,452,348 13,513,237 31,096,923
1998 13,711,274 6,153,725 12,373,500 32,238,499
Net interest revenue 2000 3,040,619 949,832 6,035,860 10,026,311
1999 3,217,748 933,019 4,793,043 8,943,810
1998 3,323,251 1,003,041 4,075,606 8,401,898
Income before federal income taxes 2000 360,562 373,329 4,521,231 5,255,122
1999 497,841 842,270 3,265,304 4,605,415
1998 880,786 1,172,399 2,733,745 4,786,930
Total assets as of June 30: 2000 449,000,497 110,749,875 356,415,460 916,165,832
1999 398,671,249 87,985,365 306,383,660 793,040,274
1998 400,578,600 128,463,684 258,062,692 787,104,976
13
NOTE 7.
SEGMENTS (CONTINUED)
Reconciliations of segment data to the Company consolidated financial statements
are shown in the table below. The amounts for the segments will differ from the
actual consolidated financial statements due to a funds transfer pricing
mechanism that uses internal, proxy market interest rates, and also, various
methods for allocating costs.
QUARTER YEAR-TO-DATE QUARTER YEAR-TO-DATE
ENDED ENDED ENDED ENDED
2000 2000 1999 1999
---- ---- ---- ----
TOTAL REVENUES FOR JUNE 30:
- ---------------------------
Segment total revenues $ 17,922,415 $ 35,252,152 $ 15,536,711 $ 31,096,923
Back out or add back:
Revenues from other segments (5,354,699) (10,415,453) (4,677,160) (9,685,342)
Revenues of administrative departments netted against
overhead costs and reallocated as net costs 223,759 568,004 174,588 439,702
---------------------------------------------------------------
Consolidated total revenues $ 12,791,475 $ 25,404,703 $ 11,034,139 $ 21,851,283
NET INTEREST REVENUE FOR JUNE 30:
- ---------------------------------
Segment net interest revenue $ 5,026,050 $ 10,026,311 $ 4,518,622 $ 8,943,810
Back out or add back:
Difference between actual interest expense
and intersegment funding allocation (103,109) (171,058) 23,417 (50,521)
Interest revenues of administrative departments netted
against overhead costs and reallocated as net costs 133,080 277,610 138,663 330,044
---------------------------------------------------------------
Consolidated net interest revenue $ 5,056,021 $ 10,132,863 $ 4,680,702 $ 9,223,333
INCOME BEFORE FEDERAL INCOME TAXES FOR JUNE 30:
- -----------------------------------------------
Segment pre-tax income $ 2,675,974 $ 5,255,122 $ 2,373,459 $ 4,605,415
Back out or add back:
Unallocated loan loss provision (100,000) (230,000) (285,000) (435,000)
Unallocated net expenses of administrative departments -- -- -- --
Difference between actual total funding cost
and total intersegment funding allocation (132,625) (88,433) 136,483 217,188
---------------------------------------------------------------
Consolidated pre-tax income $ 2,443,349 $ 4,936,689 $ 2,224,942 $ 4,387,603
QUARTER YEAR-TO-DATE
ENDED ENDED
1998 1998
---- ----
TOTAL REVENUES FOR JUNE 30:
- ---------------------------
Segment total revenues $ 16,181,115 $ 32,238,499
Back out or add back:
Revenues from other segments (5,930,661) (11,612,752)
Revenues of administrative departments netted against
overhead costs and reallocated as net costs 225,631 438,800
------------------------------
Consolidated total revenues $ 10,476,085 $ 21,064,547
NET INTEREST REVENUE FOR JUNE 30:
- ---------------------------------
Segment net interest revenue $ 4,243,936 $ 8,401,898
Back out or add back:
Difference between actual interest expense
and intersegment funding allocation (109,404) (214,899)
Interest revenues of administrative departments netted
against overhead costs and reallocated as net costs 167,926 322,469
------------------------------
Consolidated net interest revenue $ 4,302,458 $ 8,509,468
INCOME BEFORE FEDERAL INCOME TAXES FOR JUNE 30:
- -----------------------------------------------
Segment pre-tax income $ 2,043,881 $ 4,786,930
Back out or add back:
Unallocated loan loss provision (100,000) (200,000)
Unallocated net expenses of administrative departments (16,932) (789,582)
Difference between actual total funding cost
and total intersegment funding allocation 8,349 17,260
------------------------------
Consolidated pre-tax income $ 1,935,298 $ 3,814,608
YEAR-TO-DATE ENDED JUNE 30,
-----------------------------------------------
TOTAL ASSETS AS OF JUNE 30: 2000 1999 1998
- --------------------------- ------------- ------------- -------------
SEGMENT TOTAL ASSETS $ 916,165,832 793,040,274 787,104,976
Back out or add back:
Inferred intersegment interest earning assets on branch deposits (300,062,357) (264,292,073) (321,528,028)
Unallocated reserve for loan loss (6,491,375) (5,984,891) (5,019,431)
Unallocated nonearning assets of administrative
departments 2,145,894 7,598,970 10,308,568
------------- ------------- -------------
Consolidated total assets $ 611,757,994 $ 530,362,280 $ 470,866,085
14
PART I
FINANACIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Consolidated Financial Statements of the Company begin on page 3.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
- -------
First Mutual Bancshares, Inc. (the "Company"), a Washington corporation, is a
financial holding company primarily engaged in the business of planning,
directing, and coordinating the activities of its wholly-owned subsidiary, First
Mutual Bank.
First Mutual Bank (the "Bank") is a Washington-chartered savings bank subject to
regulation by the State of Washington Department of Financial Institutions and
the Federal Deposit Insurance Corporation ("FDIC"). First Mutual Bancshares,
Inc., the financial holding company, is regulated by the Federal Reserve Board
("FRB"). The Bank conducts business from its headquarters in Bellevue,
Washington, and has nine full-service facilities located in Bellevue (3),
Redmond, Seattle (2), Issaquah, Bellingham, and Monroe, Washington, and has two
income property loan production offices located in Salem, Oregon, and Tacoma,
Washington. The Bank's business consists mainly of attracting deposits from the
general public as well as wholesale funding sources, and investing those funds
primarily in real estate loans, small and mid-sized business loans, and consumer
loans. In addition to portfolio lending, the Bank conducts a mortgage banking
operation.
The following discussion should be read in conjunction with the attached
consolidated financial statements and notes thereto, and with the audited
consolidated financial statements and notes thereto for the Company and
subsidiaries for the year ended December 31, 1999.
RESULTS OF OPERATIONS
- ---------------------
Net Interest Income
-------------------
Net interest income increased $375,000, or 8.0%, in the second quarter of 2000
as contrasted with the same quarter in 1999. The net interest margin for the
quarter was 3.41%, which compares to 3.52%, 3.61%, 3.69%, and 3.65%, for the
quarters ended March 31, 2000, December 31, 1999, September 30, 1999, and June
30, 1999, respectively.
Net interest income improved principally as a result of an increase in earning
assets, which contributed $760,000 in the second quarter. Offsetting the benefit
from greater-earning assets, which grew from $514,811,000 at June 30, 1999, to
$597,441,000 at quarter-end June 2000, was the negative impact of $384,000 from
a change in interest rates.
The unfavorable change in interest rates is primarily due to the fact that our
liabilities reprice more quickly than our assets. The cost ratio of our
interest-bearing liabilities (interest expense/average earning assets) rose 64
basis points to 4.99% for the second quarter of 2000 from 4.35% for the same
period a year ago. By comparison our ratio for return on assets (interest
income/average earning assets) only increased 41 basis points from 7.99% in 1999
to 8.40% this year.
15
In general, interest rates have risen rapidly over the past year. For example,
the one-year Treasury rate has increased from 5.18% at June 30, 1999, to 6.44%
as of June 30, 2000.
One of the factors that contributed to the decrease in the net interest margin
is the Bank's mismatch (called gap) between the amount of assets repricing
within a one-year period and the corresponding one-year liabilities. As of June
30, 2000, the gap was a negative 11.55%, which means that $438 million in
liabilities is projected to reprice within the next 12 months as compared to
$368 million in assets. Comparable ratios for year-end 1999 and March 2000 were
a negative 15.3% and a negative 23.5%, respectively.
The more favorable gap experienced in the last three months is largely due to
the extension of the maturity of many of the liabilities that repriced in the
second quarter of 2000. Federal Home Loan Bank (FHLB) borrowings were extended
out to two years, and many of our time deposits were renewed at 15- and 24-month
periods.
However, with the Bank still possessing a one-year negative gap of 11.55% at
June 30, 2000, a further rise in short-to-intermediate interest rates will most
likely continue to reduce the net interest margin.
Net interest income year-to-date 2000 rose $910,000, or 9.86%, over the
comparable period in 1999. Like the second quarter, the improvement in net
interest income was the result of a growth in earning assets. Greater earning
assets contributed $1,430,000, which was partially offset by an unfavorable
variance of $521,000 in interest rates. See Note 6. for further information
regarding volume and rate relationships affecting net interest income.
Other Operating Income
----------------------
Other operating income consisted of the following:
Three Months Six Months
Ended June 30 Ended June 30
------------- -------------
2000 1999 2000 1999
----------- ----------- ----------- -----------
Sale of Servicing Rights $ 9,000 $ 550,000 $ 103,000 $ 1,022,000
Secondary Market Fees (68,000) (267,000) (108,000) (474,000)
Mortgage Servicing Rights 66,000 100,000 133,000 228,000
----------- ----------- ----------- -----------
Gain on Sale of Loans 7,000 383,000 128,000 776,000
----------- ----------- ----------- -----------
Servicing Fees 108,000 114,000 338,000 229,000
Broker Fees 30,000 49,000 77,000 131,000
Prepayment & Extension Fees 18,000 76,000 66,000 114,000
TransAlliance Limited Partnership 22,000 -- 44,000 --
Other Income 82,000 58,000 155,000 156,000
NSF Fee Income 40,000 38,000 82,000 64,000
Other Deposit Fees 33,000 55,000 72,000 98,000
----------- ----------- ----------- -----------
Total $ 340,000 $ 773,000 $ 962,000 $ 1,568,000
=========== =========== =========== ===========
16
The net gain from the sale of servicing rights amounted to $9,000 in the second
quarter of 2000 and $103,000 year-to-date; off dramatically from a year earlier.
The Bank sold $4 million in servicing rights in the most recent quarter and $13
million in the first half. The comparative figures for 1999 are $40 million in
the second quarter and $72 million in the first six months of the year. The
outlook for the rest of the year is mixed. The Bank has just executed (in the
month of July) a $22.5 million sale of servicing that is related to the
conversion of portfolio loans to mortgaged-backed securities. For both strategic
and capital considerations this transaction was completed in the third quarter.
The Bank does not anticipate any further loan conversions, with the subsequent
sale of servicing, this year. The outlook for core operations, however, remains
depressed as compared to sales in 1999. July core operation sales, for example,
were only $2.6 million. Because of the rise in interest rates in the last 12
months, the refinance loan origination activity is down substantially, and is
not expected to recover until such time as home loan rates decline materially
from the current yields.
Secondary market fees are the cash gains or losses from the sale of loans into
the secondary market. Cash losses on loan sales of $12,292,000 in the second
quarter totaled $68,000. That figure compares to a loss of $267,000 on loan
sales of $39,853,000 in the same quarter of 1999. The year-to-date trend in
secondary market fees is similar to the second quarter results. Because of fewer
loan sales this year, $21,209,000 compared to $90,911,000 in 1999, cash losses
from those sales have declined from $474,000 last year to $108,000 year-to-date
2000.
The gains recorded for mortgage servicing rights (MSR) are pursuant to Statement
of Financial Accounting Standard (SFAS) No. 125, Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities, which requires
the capitalization of internally generated servicing rights. The amount
recognized as income totaled $66,000 in the second quarter, and $133,000
year-to-date in 2000, as compared to $100,000 and $228,000, respectively, in the
same periods in 1999. The drop in MSR gains in 2000 is the result of lower loan
originations, partially offset by a significant change in the first quarter of
the valuation of the capitalized mortgage servicing rights.
Servicing fees continued a decline in the second quarter of 2000 that has been
evident for several years. The servicing portfolio totaled $182 million at June
30, 2000, down from $237 million in 1999 and $298 million the previous year. The
sale of servicing rights in the last few years has eroded the balance of that
portfolio. As it is the current intent of the Bank to continue the sale of
servicing, the servicing portfolio will most likely continue to drop. The
year-to-date trend for servicing fees is in sharp contrast to the second quarter
because of a favorable $120,000 adjustment in the first quarter of 2000. Due to
rising interest rates, the value of the servicing asset was increased to reflect
its current fair market value. The Bank does not anticipate any further material
adjustments this year.
Loans Originated for
Mortgage Banking Activities
Year 2000 Year 1999
----------- -----------
First Quarter $11,434,000 $44,470,000
Second Quarter 22,035,000 33,174,000
----------- -----------
Total Year-to-Date $33,469,000 $77,644,000
=========== ===========
17
Broker fees are down as a result of lower mortgage-banking loan originations.
Mortgage-banking loan closings are off 132% year-to-date 2000.
Prepayment and extension fees, which are usually related to construction
lending, have declined despite an increase in construction lending. Construction
loan originations totaled $21.3 million in the second quarter of 2000, and $42.5
million year-to-date. In comparison, construction loans closed in the same
periods of 1999 were $18.1 million in the second quarter and $31.1 million for
the first half. Construction of Bank-financed properties have been completed in
a more timely manner this year, resulting in fewer fees being assessed for late
completion of projects.
The TransAlliance Limited Partnership dividend was a pleasant surprise this
year. Dividends received from that partnership are erratic, varying widely from
year-to-year.
NSF fee income from checking accounts continues to improve each year.
Year-to-date fee income is up $18,000, or 28.1%. In the last year the Bank has
focused more attention on growing fee income from deposit accounts in general,
and checking accounts in particular. This emphasis on fee income has been
successful, and the Bank anticipates continued success in future quarters.
Other deposit fees have declined in 2000, $22,000 on a quarter-to-quarter basis,
and $26,000 on a year-to-date basis, due to a change in strategic direction
regarding non-insured Bank investment products. The Bank found that fee income
derived from those investment product sales is not sufficient to justify the
expense and effort dedicated to that activity.
Operating Expenses
------------------
Operating expenses consisted of the following:
Three Months Six Months
Ended June 30 Ended June 30
------------------------------ ------------------------------
2000 1999 2000 1999
---------- ---------- ---------- ----------
Salaries and Benefits $1,676,000 $1,680,000 $3,617,000 $3,630,000
Occupancy 423,000 346,000 850,000 689,000
Legal Fees 47,000 109,000 90,000 216,000
Marketing 147,000 138,000 260,000 239,000
B&O Taxes (11,000) 75,000 61,000 146,000
REHFS Expense 30,000 -- 30,000 --
Data Processing 118,000 112,000 221,000 221,000
Office Supplies/Postage 107,000 88,000 150,000 180,000
Audit & Examination 39,000 33,000 77,000 66,000
Other 276,000 363,000 572,000 582,000
---------- ---------- ---------- ----------
Total $2,852,000 $2,944,000 $5,928,000 $5,969,000
========== ========== ========== ==========
Salaries and employee benefits were down slightly as compared to last year in
both the second quarter and first half of 2000. Loan officer commissions,
because of decreased loan originations, have declined 25.2% in the second
quarter of 2000, and 21.1% year-to-date. Also reducing
18
salary and benefit expense on a quarter-to-quarter comparison is the decreased
provision for the staff performance bonus. The provision in the second quarter
of 1999 was $65,000 as compared to a $90,000 reversal this year of a first
quarter 2000 accrual. Year-to-date the expense for year 2000 is $92,000 as
compared to $317,000 in the same period of 1999. The staff bonus is accrued
throughout the year in accordance with management's assessment as to the amount
that will be due the staff at year-end.
Offsetting the favorable decline in costs from lower commission and bonus
expense was the decrease in SFAS No. 91 benefits. In accordance with SFAS No.
91, standard loan costs are determined annually for common loan types. The
predetermined standard loan costs are deducted from operating expenses with the
net figures reported in the financial statements. In the second quarter of 2000
the SFAS No. 91 benefit related to compensation and employee benefits amounted
to $177,000 as compared to $277,000 last year. Year-to-date the SFAS No. 91
benefit totaled $397,000. The comparable figure for 1999 is $627,000. The
decrease in SFAS No. 91 benefits is largely the result of a drop in loan
originations this year. Loans closed in 2000 totaled $107 million versus $171
million the prior year.
Occupancy expense increased $76,000, or 22.0%, on a quarter-to-quarter
comparison. Year-to-date 2000 occupancy expense is up $161,000, or 23.3%.
Although no new full-service offices were opened in the last 12 months, the Bank
has expanded its facilities at the Bellevue headquarters and added the Salem
loan production office. The rise in occupancy costs is largely the result of
increased rent expense, which has jumped 44.3% on a quarter-to-quarter basis and
32.6% on a year-over-year comparison. The opening of the Kirkland Office in
August will further increase occupancy costs this year.
Legal fees are down sharply this year, both for second quarter and the first six
months. The Bank incurred substantial legal fees in 1999 with the formation of
First Mutual Bancshares, Inc., the Bank's holding company.
Business and occupation (B&O) taxes for the second quarter of 2000 are a net
gain of $11,000 versus an expense of $75,000 in the like quarter last year.
Year-to-date B&O taxes are $61,000 as compared to $146,000 in 1999. In the
second quarter of 2000 the Bank recorded an $85,000 refund of B&O taxes from the
State of Washington Department of Revenue.
Real estate held for sale (REHFS) expense was $30,000 for both the quarter and
year-to-date 2000. There were no similar costs in the first half of 1999. REHFS
is related to the $528,000 single-family residence acquired this year. For a
further discussion of this asset, see "Asset Quality" on page 23.
Net Income
----------
Net income increased 9.9%, from $1,470,000 in the second quarter of 1999 to
$1,616,000 in the same period of 2000. For the first six months of 2000 net
income is up $364,000, or 12.6%, over the comparable period in 1999. The
improvement in net income is a reflection of higher net interest income offset
by a decrease in non-interest income.
19
BUSINESS SEGMENTS
- -----------------
The Bank has identified three segments of business for the purposes of
management reporting. The amounts for the segments are different from the actual
consolidated financial statements due to the various methods for allocating
costs and the inferring of interest-earning assets. The management accounting
process measures the performance of the business segments based on the
management structure of the Bank and is not necessarily comparable with similar
information for any other financial institution.
Consumer Banking
----------------
Income before taxes for the consumer-banking segment fell from $275,000 in the
second quarter of 1999 to $162,000 in the same quarter in 2000. The decline in
income before taxes was largely the result of a drop in net interest income.
Net interest income was down $148,000, falling from $1,606,000 in the second
quarter of 1999 to $1,458,000 this year. The net interest margin also declined
from 1.61% in 1999 to 1.32% in 2000. Although average assets this year increased
$44.4 million, or 11.2%, on a quarter-to-quarter comparison, the favorable
impact from that growth was insufficient to offset the compression in the net
interest margin.
Non-interest income increased from $142,000 in the three months ending June 1999
to $176,000 in the same quarter this year. Contributing to the growth in
non-interest income was the $22,000 dividend received from the TransAlliance
Limited Partnership. TransAlliance is a network of automated teller machines
(ATMs), and dividends are paid to the limited partners as deemed appropriate by
the Partnership's directors. No dividends were paid in the first half of 1999.
Operating expenses were down slightly, $30,000, from $1,473,000 in the second
quarter of 1999 to $1,443,000 this year. The decline in operating expenses is
principally the result of a lower accrual for the staff performance bonus as
compared to last year. Partially offsetting the lower accrual was the normal
annual salary increases for the branch and support staff.
The year-to-date trend is similar to that of the second quarter. Net interest
income is down significantly; fee income is up $59,000, or 21.6%; and operating
expenses are down a modest .32%. Net interest income fell from $3,218,000 in the
first half of 1999 to $3,041,000 this year. The net interest margin has
compressed from 1.58% in 1999 to 1.41% in the first half of 2000. The consumer
line of business, like the Bank as a whole, has experienced an environment in
which deposit costs have risen more rapidly than asset revenues.
Non-interest income year-to-date is largely the reflection of TransAlliance
Limited Partnership payments in both the first and second quarters of 2000.
There was also an improvement in NSF fee income.
Residential Lending
-------------------
Income before taxes dropped sharply for the residential lending segment, from
$394,000 in the second quarter of 1999 to $169,000 in 2000. Non-interest income
fell dramatically, from $509,000 last year to $86,000 in 2000. The sale of
servicing rights dropped from $40 million in the second quarter of 1999 to $4
million this year. In addition, loans originated for mortgage-banking activities
decreased $11.1 million, or 33.6%, on a quarter-to-quarter basis.
20
Operating expenses decreased 30.4%, from $553,000 in the three months ending
June 30, 1999, to $385,000 in the same period of 2000. Contributing to that
decline in operating costs was a significant fall in loan officer commissions,
offset by a decrease in SFAS No. 91 benefits. Residential loan officer
commissions totaled $62,000 in the second quarter of 1999, as compared to
$76,000 in the like period of 2000. SFAS No. 91 benefits, which are also
affected by loan originations, dropped from $100,000 in the second quarter last
year to $60,000 in the like period in year 2000.
The year-to-date results for residential lending are much the same as the second
quarter. Pre-tax income is down 55.7%, from $842,000 in 1999 to $373,000 in
2000. Fee income is sharply off, which is partially ameliorated by a decline in
operating expenses.
Non-interest income fell from $1,052,000 in the first six months of 1999 to
$329,000 in the same period this year. Both the sale of servicing rights and
loan originations are down significantly. Servicing sales have fallen 82% and
loan originations for this business segment have decreased 56.9%.
Operating expenses declined from $1,142,000 in the first two quarters of 1999 to
$905,000 this year. On a year-to-year comparison, loan officer commissions are
down 35%, and the accrual for the staff performance bonus has fallen 66%.
Partially offsetting the impact of those two items on operating costs was the
loss of $188,000 in SFAS No. 91 benefits.
Commercial Lending
------------------
Income before taxes for this business segment rose $641,000, or 37.6%, from
$1,704,000 in the second quarter of 1999 to $2,344,000 in the like period of
2000. Net interest revenue grew $626,000, while operating expenses fell $67,000.
Net interest revenue benefited from a 20.2% increase in average assets. Average
assets rose from $286.9 million in the second quarter of 1999 to $344.8 million
this year. Also of importance to this business segment was the improvement in
the net interest margin, which rose from 3.30% in the second quarter of 1999 to
3.53% in the like period of 2000. The favorable change in the net interest
margin for this business line is related to the asset mix of its loan portfolio.
Unlike the other two business segments, the assets for commercial lending
repriced more rapidly than the funding sources.
Operating expenses declined 7.8% in the second quarter of 2000 as compared to
the like quarter in 1999. Non-interest expenses dropped primarily because of
lower staff performance bonus costs and a refund of B&O taxes.
The year-to-date trend parallels the second quarter. Income before federal
income taxes has risen $1,256,000, or 38.5%, from $3,265,000 in 1999 to
$4,521,000 in year 2000. Net interest income is up 25.9% and operating costs are
down 3%.
Net interest income jumped $1,243,000, from $4,793,000 in the first two quarters
of 1999 to $6,036,000 in the same period in 2000. Average assets have grown
19.6% from $290,309,000 in 1999 to $347,180,000 this year.
Operating expenses year-to-date are down $51,000, from $1,663,000 in the first
half of 1999 to $1,612,000 this year. Like the second quarter, a drop in the
staff performance bonus and a refund in B&O taxes contributed materially to the
decrease in operating costs.
21
FINANCIAL CONDITION
- -------------------
Assets. At June 30, 2000, the Bank's assets were $611,758,000, an increase of
5.3% from $581,116,000 at December 31, 1999. The change in assets is principally
the result of growth in the loan portfolio.
Loans. Loans receivable rose from $457,981,000 at year-end 1999 to $470,864,000,
an increase of 2.8% in the first six months. Portfolio loan growth of only 2.8%,
or 5.6% annualized, is disappointing. The Bank targets portfolio loan growth of
15.0% annually, and levels such as we have seen so far this year, which are
substantially below that target, are particularly disruptive to the profit
projections of the Bank. Residential loan originations have been affected by a
lack of refinance activity, while commercial and business banking loans appear
to be impacted by both rising rates and a more cautious outlook by commercial
real estate borrowers regarding future projects.
The current forecasts for loan originations for the remainder of 2000 are not
optimistic. The Bank anticipates that loan originations for third and fourth
quarters of 2000 will be at or below the first half of this year.
Loans held for sale increased from $2,710,000 at year-end 1999 to $14,969,000 as
of June 30, 2000. The rise in loans held for sale is attributable to several
factors. First of all, routine volatility in mortgage-banking activity affects
the total balances of loans held for sale. Secondly, construction lending for
custom-built homes has picked up this year. Loan originations for custom homes
totaled $8.0 million in the first half of last year as compared to $12.9 million
in 2000. Because custom homes often take 6-12 months to build they remain on the
Bank's balance sheet much longer than a typical mortgage-banking loan, which is
usually shipped within 45 days of origination. A consequence of closing more
custom loans this year has been a partial inflation of the loans held for sale
asset.
The Bank classifies investment securities in one of the following categories: 1)
trading, 2) available for sale, or 3) held to maturity. Securities classified as
available for sale are reviewed regularly and any unrealized gains or losses are
recorded in the shareholders' equity account. The balance of the unrealized
loss, net of federal income taxes, was $669,000 at both June 30, 2000, and
year-end 1999. Generally, falling interest rates will increase the amount
recorded as unrealized gain, and rising rates will decrease any unrealized
gains, as the market value of securities inversely adjusts to the change in
interest rates.
Securities. Security investments declined $1.3 million, or 1.2%, from year-end
1999. The drop in securities is principally the result of normal loan prepayment
activity, which occurs with mortgage-backed securities. In July 2000 the Bank
converted $22.5 million of residential loans to securities. Not only is the Bank
relieved of any future credit risk associated with those loans, it also gains a
capital advantage in the calculation of the risk-adjusted capital ratio. In the
determination of the risk-adjusted ratio, securities are risk-weighted at 20%,
while residential loans are risk-weighted at 50%. At July 31, 2000, securities
totaled $126.0 million, up from $104.1 million at June 30, 2000, and $105.4
million at December 1999.
Liabilities. Funds from deposits increased $38,801,000, or 9.7%, in the first
six months of 2000. The Bank is pleased with the deposit growth in the first
half, as deposits had generally declined throughout most of 1999. Deposit growth
this year not only funded asset growth, it allowed the Bank to repay a portion
of the FHLB borrowings that had been acquired to fund last year's asset growth.
22
The FHLB advances declined from $134,237,000 at year-end 1999 to $124,787,000 as
of the end of the second quarter. As of June 30, 2000, the Bank had the capacity
to borrow up to $245 million in FHLB advances, subject to sufficient collateral
to support those advances.
Asset Quality
-------------
Provision and Reserve for Loan Losses. The Bank analyzes a number of factors in
determining the provision for loan losses, such as current and historical
economic conditions, non-accrual asset trends, and historical loan loss
experience. The results of that analysis indicated the need for a provision of
$100,000 in the second quarter of 2000.
Non-accrual assets rose sharply in the second quarter to $2.9 million, up from
$352,000 at December 1999. In addition, real estate acquired through foreclosure
now totals $537,000 as compared to less than $10,000 six months ago.
The composition of those non-accrual assets is as follows:
Amount
----------
Commercial Real Estate Loan, Oregon $1,861,000
Four Residential Loans, Puget Sound Area 293,000
Residential Loan, Oregon Coast 221,000
Residential Real Estate (REO), Portland 528,000
Other 29,000
----------
Total $2,932,000
==========
The largest of the non-performing assets is the $1.9 million commercial real
estate loan in Portland, Oregon. Subsequent to quarter-end June 2000, that loan
was brought current by the borrower, and is no longer a non-performing asset.
The four loans in Puget Sound are builder loans and have a total loan balance of
$293,000. These properties are only partially completed, and will require
another $245,000 to finish. The Bank estimates that the value, net of closing
and sales costs, of these homes when finished is about $610,000.
Another builder loan, for $221,000, is a residence on the Oregon Coast. The
value of this property is only $145,000. However, a claim is pending with a
title company to reimburse the Bank up to $75,000 for any losses sustained in
the foreclosure.
The one property currently owned by the Bank is a residence with a balance of
$528,000. This home is only partially finished, and the Bank has listed it for
sale "as is" for $669,000.
In summary, although there was a sudden increase in non-performing assets in the
second quarter, the Bank is optimistic that it can manage these assets within a
reasonable degree of loss. Nevertheless, management believed that it was prudent
to record a loan loss provision of
23
$100,000 in the second quarter, both in recognition of the increase in
non-performing assets and the modest growth in portfolio loans.
Liquidity and Capital Reserves
------------------------------
The net change in cash, as reported in the Statement of Cash Flows, increased by
$5,145,000 in the first six months of 2000. The deposit flows for the first half
of 2000 were strong, and the Bank was able to both fund its assets and pay down
its FHLB borrowings.
The net cash flows from deposits were $38.8 million in the first half of 2000.
That cash was principally used to fund the loan portfolio, which increased $25.0
million since year-end 1999, and to reduce FHLB advances, which dropped $9.5
million.
The Bank's long-term liquidity objective is to fund growth through consumer
deposits. Whenever that source is inadequate to meet the Bank's asset growth
requirements, FHLB advances are normally accessed. The current ratio of FHLB
advances to assets is 20.4%, which is below the Bank's credit limit of 40% of
assets. Other sources of liquidity include the sale of loans into the secondary
market, net income after the payment of dividends, and reverse repurchase
agreement credit lines of $82,000,000.
On October 28, 1999, the Company announced a stock repurchase program for up to
225,000 shares, or approximately 5%, of the Company's outstanding common stock.
Shares purchased to date total 18,500, of which 10,000 were acquired in the
first quarter of this year. No purchases were made in the second quarter.
The FDIC's statutory framework for capital requirements establishes five
categories of capital strength, ranging from a high of well capitalized to a low
of critically under-capitalized. An institution's category depends upon its
capital level in relation to relevant capital measures, including a risk-based
capital measure, a leverage capital measure, and certain other factors. At June
30, 2000, the Bank exceeded the capital levels required to meet the definition
of a well-capitalized institution:
To be categorized as well
For capital capitalized under prompt
Actual adequacy minimum corrective action provisions
------ ---------------- ----------------------------
Total capital (to risk-weighted assets):
First Mutual Bancshares, Inc. 11.36% 8.00% N/A
First Mutual Bank 11.39 8.00 10.00%
Tier I capital (to risk-weighted assets):
First Mutual Bancshares, Inc. 10.11 4.00 N/A
First Mutual Bank 10.14 4.00 6.00
Tier I capital (to average assets):
First Mutual Bancshares, Inc. 7.11 4.00 N/A
First Mutual Bank 7.13 4.00 5.00
24
YEAR 2000 ISSUES
- ----------------
The Bank went through the date change into 2000 without any disruptions to its
systems or services to customers. The Bank relies on third-party vendors for
almost all of its data processing and telecommunications systems. These vendors
made all the necessary changes to their systems to ensure a smooth changeover.
While the Bank has not experienced any problems related to year 2000 to date,
there are still some important dates ahead as defined by the Federal Financial
Institutions Examination Council. These dates include October 10, 2000, and the
end of the year. The Bank will continue to monitor its systems to ensure they
properly handle these dates.
While the Bank currently believes that these dates will not pose significant
operational problems, there can be no assurance that any significant failures
will not have a material impact on the operations of the Bank.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's profitability is dependent to a large extent on its net interest
income, which is the difference between the interest received from its
interest-earning assets and the interest expense incurred on its
interest-bearing liabilities. The Company's objectives in its asset/liability
management are to utilize its capital effectively, to provide adequate
liquidity, and to enhance net interest income, without taking undue risks
subjecting the Company unduly to interest rate fluctuations.
Assumptions regarding interest rate risk are inherent in all financial
institutions. Interest rate risk is the risk to earnings or capital resulting
from adverse movements in interest rates. Interest rate sensitivity is the
relationship between market interest rates and net interest income due to the
repricing characteristics of assets and liabilities. The Company monitors
interest rate sensitivity by examining its one-year and longer gap positions on
a regular basis. Traditional gap analysis and a sophisticated income simulation
model are used to manage interest rate risk.
The traditional gap analysis report is prepared based on the maturity or
repricing characteristics of the assets and liabilities on the balance sheet for
specified time periods. The gap is the mismatch between the repricings or
maturities of the assets and liabilities for each time period. A positive gap
occurs when assets are repricing or maturing faster than liabilities within the
same time band. This situation will generally result in an institution's net
interest margin increasing in a rising rate environment and decreasing in a
falling rate environment. A negative gap will generally have the opposite result
on the institution's net interest margin. There are many limitations to gap
analysis such as the sensitivity of assets and liabilities to changes in
interest rates.
Certain shortcomings are inherent in gap analysis. For example, some assets and
liabilities may have similar maturities or repricing characteristics, but they
may react differently to changes in market rates. Certain assets, such as ARM
loans, have features that restrict changes in interest rates on a short-term
basis and over the life of the asset. Due to the restrictions of the gap
analysis, these features are not taken into consideration. Additionally, in the
event of a change in interest rates, prepayment and early withdrawal levels
would likely deviate significantly from those assumed in the one-year gap
calculation. As a result, the Company utilizes the gap report as a complement to
its income simulation model.
25
The Company utilizes an income simulation model that calculates the result of a
100, 200, 300, etc. basis point shock in regards to the net interest income as
well as the effect on the net portfolio value of the Company. The model
incorporates beginning of the period rate, balance, and maturity data, using
various levels of aggregation of that data, as well as certain assumptions
concerning the maturity, repricing, amortization, and prepayment characteristics
of loans and other interest-earning assets and the repricing withdrawal of
deposits and other interest-bearing liabilities. The Company updates and
prepares simulation modeling monthly for review by ALCO (Asset Liability
Committee), senior management, and the Board of Directors. The Company believes
that the data and assumptions are realistic representations of its portfolio and
possible outcomes under the various interest rate scenarios. Nonetheless, the
interest rate sensitivity of the Company's net interest income and net market
value of equity could vary substantially if different assumptions were used or
if actual experience differs from the assumptions used.
The Company's income simulation model results and its gap analysis results for
the periods ending June 30, 2000, and December 31, 1999, are presented below.
The results of both models indicate that in a rising rate environment the net
interest income of the Company would decrease, and in periods of falling
interest rates the net interest income would increase, indicating that the
Company is liability sensitive or negatively gapped.
RATE SHOCK ESTIMATES
Net Interest Income and Market Value
June 30, 2000
June 30, 2000 December 31, 1999
Percentage Change Percentage Change
-------------------- ----------------------
Immediate Net Net Net Net
Change in Interest Market Interest Market
Interest Rates Income Value Income Value
- -------------------------------------------------------------------
+400 (13) % (43) % (15) % (49) %
+300 (10) (32) (11) (38)
+200 (6) (21) (8) (26)
+100 (2) (10) (4) (14)
-100 1 6 1 5
-200 1 10 -- 8
-300 0 10 (2) 6
-400 (1) 8 (4) 2
- -------------------------------------------------------------------
One-Year Interest Rate Sensitive GAP
------------------------------------
June 30, 2000 December 31, 1999
------------- -----------------
One-year repricing assets $367,657,876 $333,124,176
One-year repricing liabilities 438,288,866 422,095,639
One-year gap ( 70,630,990) (88,971,463)
------------ ------------
Total assets $611,757,994 $581,116,306
============ ============
Interest rate sensitivity gap as a
percent of assets (11.6)% (15.3)%
26
The rate shock results for June 30, 2000, indicate that if rates were to
immediately rise 200 basis points, the Company's net interest income would
decrease by 6%. Conversely, if rates were to immediately fall 200 basis points,
the Company's net interest income would increase 1%. In addition, with the same
rise and fall in rates the Company's net market value would decrease 21% with a
200 basis point rise and increase 10% with a 200 basis point decrease in market
interest rates.
In the second quarter the Bank focused on reducing its one-year negative gap
position from first-quarter levels. The results of these efforts have
effectively aligned the one-year repricing/maturing gap to the Company's
targeted position. It is from this level that the Bank can optimally manage its
net interest margin in the current interest rate environment. Therefore, having
achieved its goal, the Company will now change its strategic efforts to focus on
maintaining the current position. At this time that strategy will be to replace
maturing FHLB borrowings with two and three year borrowings. The Company will
continue to review the gap position to measure and manage the effectiveness of
the new plan.
The sensitivity analysis does not represent a forecast for the Company. There
are numerous assumptions inherent in the simulation model as well as the gap
report. Some of these assumptions include the nature and timing of interest rate
levels, including yield curve shape, prepayments on loans and securities,
deposit decay rates, pricing decisions on loans and deposits, and
reinvestment/replacement of asset and liability cash flows. Customer
preferences, and competitor and economic influences, are impossible to predict;
therefore, the Company cannot make any assurances as to the outcome of these
analyses.
PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
First Mutual Bancshares, Inc. has certain litigations and negotiations in
progress resulting from activities arising from normal operations. In the
opinion of management, none of these matters is likely to have a material
adverse effect on the Company's financial position.
ITEM 2. CHANGES IN SECURITIES
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS
The Annual Meeting of Shareholders of First Mutual Bancshares, Inc. was
held on April 27, 2000. The results of votes on the matters presented at the
Meeting are as follows:
27
1. The following individuals were elected as directors for the terms
noted:
Director Votes For Votes Withheld Term
- -------- --------- -------------- ----
Janine Florence 4,317,432 94,675 1 year
F. Kemper Freeman, Jr. 4,315,646 96,461 1 year
Victor E. Parker 4,316,987 95,120 1 year
Mary Case Dunnam 4,313,375 98,732 2 years
George W. Rowley, Jr. 4,317,020 95,087 2 years
John R. Valaas 4,263,481 148,626 2 years
H. Scott Wallace 4,315,246 96,861 2 years
James J. Doud, Jr. 4,317,432 94,675 3 years
Richard S. Sprague 4,316,437 95,670 3 years
Robert C. Wallace 4,315,236 96,871 3 years
2. The proposal to adopt and approve the First Mutual Bancshares, Inc.
2000 Stock Option and Incentive Plan was adopted, with the following voting
results noted:
Number of Shares Number of Shares Number of Shares
FOR AGAINST ABSTAINING
--- ------- ----------
3,248,410 536,753 32,710
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. See exhibit 27 - Financial Data Schedule
b. During the quarter, the Company did not file any report on Form 8-K.
FORWARD-LOOKING STATEMENTS DISCLAIMER
- -------------------------------------
In this Form 10-Q, First Mutual Bancshares, Inc. has included certain
"forward-looking statements" concerning its future operations. It is the
Company's desire to take advantage of the "safe harbor" provisions of the
Private Securities Litigation Reform Act of 1995. This statement is for the
express purpose of availing the Company of the protections of such safe harbor
with respect to all forward-looking statements contained in this Form 10-Q.
Sentences containing words such as "may," "will," "expect," "anticipate,"
"believe," "estimate," "optimistic," "hopeful," "should," "projected," or
similar words may constitute forward-looking statements. Although the Company
believes that the expectations expressed in these forward-looking statements are
based on reasonable assumptions within the bounds of its knowledge of its
business and operations, it is possible that actual results may differ
materially from these expectations. Factors which could affect actual results
include interest rate trends, the general state of the economy in the Company's
market area and the country as a whole, the impact of competitive products,
services and pricing, the ability of the Company to control costs and expenses,
loan delinquency rates, and legislative, regulatory and accounting changes
affecting the banking and financial services industry. These risks and
uncertainties should be considered in evaluating the forward-looking statements
and undue reliance should not be placed on such statements. The Company and the
Bank disclaim any obligations publicly to announce future events or developments
which affect the forward-looking statements herein.
28
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.
Date: August 11, 2000 FIRST MUTUAL BANCSHARES, INC.
/s/ John R. Valaas
---------------------------------------
John R. Valaas
President and Chief Executive Officer
/s/ Roger A. Mandery
---------------------------------------
Roger A. Mandery
Executive Vice President
(Principal Financial Officer)
29