U. S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTIONS 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
[ X ] Annual report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the fiscal year ended June 30, 2002
--------------
- - 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: 0-49706
Willow Grove Bancorp, Inc.
--------------------------
(Exact Name of Registrant as Specified in its Charter)
PENNSYLVANIA 80-0034942
- --------------------------------- ---------------------
(State or other jurisdiction of (IRS Employee
incorporation or organization) Identification No.)
WELSH AND NORRISTOWN ROADS
MAPLE GLEN, PENNSYLVANIA 19002
------------------------------
(Address of Principal Executive Offices)
Registrant's telephone number: (including area code) (215) 646-5405
--------------
Securities registered pursuant to Section 12(b) of the Act:
NONE
----
Securities registered pursuant to Section 12(g) of the Act:
Common Stock (Par Value $0.01 Per Share)
----------------------------------------
(Title of Class)
Indicate by check mark whether the Registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such 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 by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ X ]
The aggregate market value of the voting stock held by non-affiliates of the
Registrant on September 20, 2002 was $122,074,480. (10,122,262 shares at $12.06
per share). Although directors and executive officers of the Registrant and
certain employee benefit plans were assumed to be "affiliates" of the Registrant
for purposes of the calculation, the classification is not to be interpreted as
an admission of such status.
As of September 20, 2002 there were 11,285,566 shares of the Registrant's Common
Stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
- -----------------------------------
1. Portions of the Definitive Proxy Statement for the 2002 Annual Meeting of
Stockholders (portions of Part II and Part III)
PART I
THIS FORM 10-K CONTAINS CERTAIN FORWARD-LOOKING STATEMENTS AND INFORMATION
BASED UPON OUR BELIEFS AS WELL AS ASSUMPTIONS WE HAVE MADE. IN ADDITION, TO
THOSE AND OTHER PORTIONS OF THIS DOCUMENT, THE WORDS "ANTICIPATE," "BELIEVE,"
"ESTIMATE," "EXPECT," "INTEND," "SHOULD," AND SIMILAR EXPRESSIONS, OR THE
NEGATIVE THEREOF, AS THEY RELATE TO US ARE INTENDED TO IDENTIFY FORWARD-LOOKING
STATEMENTS. SUCH STATEMENTS REFLECT OUR CURRENT VIEW WITH RESPECT TO FUTURE
LOOKING EVENTS AND ARE SUBJECT TO CERTAIN RISKS, UNCERTAINTIES AND ASSUMPTIONS.
FACTORS THAT COULD CAUSE FUTURE RESULTS TO VARY FROM CURRENT MANAGEMENT
EXPECTATIONS INCLUDE, BUT ARE NOT LIMITED TO, GENERAL ECONOMIC CONDITIONS,
LEGISLATIVE AND REGULATORY CHANGES, HOSTILITIES INVOLVING THE UNITED STATES,
MONETARY AND FISCAL POLICIES OF THE FEDERAL GOVERNMENT, CHANGES IN TAX POLICIES,
RATES AND REGULATIONS OF FEDERAL, STATE AND LOCAL TAX AUTHORITIES, CHANGES IN
INTEREST RATES, DEPOSIT FLOWS, THE COST OF FUNDS, DEMAND FOR LOAN PRODUCTS,
DEMAND FOR FINANCIAL SERVICES, COMPETITION, CHANGES IN THE QUALITY OR
COMPOSITION OF THE COMPANY'S LOAN AND INVESTMENT PORTFOLIOS, CHANGES IN
ACCOUNTING PRINCIPLES, POLICIES OR GUIDELINES, AND OTHER ECONOMIC, COMPETITIVE,
GOVERNMENTAL AND TECHNOLOGICAL FACTORS AFFECTING OUR OPERATIONS, MARKETS,
PRODUCTS, SERVICES AND FEES. SHOULD ONE OR MORE OF THESE RISKS OR UNCERTAINTIES
MATERIALIZE OR SHOULD UNDERLYING ASSUMPTIONS PROVE INCORRECT, ACTUAL RESULTS MAY
VARY MATERIALLY FROM THOSE DESCRIBED HEREIN AS ANTICIPATED, BELIEVED, ESTIMATED,
EXPECTED OR INTENDED. WE DO NOT INTEND TO UPDATE THESE FORWARD-LOOKING
STATEMENTS.
ITEM 1. BUSINESS
GENERAL. Willow Grove Bancorp, Inc. (the "Company"), a Pennsylvania corporation,
was formed to facilitate the reorganization of Willow Grove Bank (the "Bank")
from the two-tier mutual holding company form to the stock holding company form
of organization. The reorganization was completed on April 3, 2002. The Company
issued 6,414,125 shares of common stock in a subscription offering and issued
4,869,375 shares of common stock in exchange for the stock held by the
shareholders of the former Willow Grove Bancorp, Inc., the federally chartered
stock-form mid-tier holding company. The Bank, which is now a wholly-owned
subsidiary of the Company, was originally organized in 1909. In December 1998,
the Bank was reorganized from a federally chartered mutual savings bank into a
federally chartered stock savings bank in the mutual holding company form of
ownership with a "mid-tier" holding company. The Bank is primarily engaged in
attracting deposits from the general public and using those funds to invest in
loans and securities. At the present time, the business of the Company is
primarily the business of the Bank. In September 2000, Willow Grove Investment
Corporation ("WGIC"), a Delaware corporation was formed as a wholly owned
subsidiary of the Bank to hold and manage certain securities investments of the
Bank.
References in this document to "we," "our" or "us" refer to Willow Grove
Bancorp, Inc. together with its subsidiary, Willow Grove Bank, unless the
context otherwise requires.
In recent years, we have concentrated our business plan on the following
primary goals - changing operations to a full-service community bank, continuing
steady growth and maintaining a high level of asset quality. We intend to
continue our growth through internal means, and to the extent opportunities are
available and deemed prudent by management, through acquisitions of other
institutions. We believe our business plan will continue to enhance shareholder
value.
Our principal sources of funds are deposits, repayment of loans and
mortgage-backed securities, maturities of investments and interest-bearing
deposits, funds provided from operations and funds borrowed from outside sources
such as the Federal Home Loan Bank ("FHLB") of Pittsburgh. These funds are
primarily used for the origination of various loan types including,
single-family residential, commercial real estate and multi-family residential
mortgage loans, construction real estate loans, home equity loans, consumer
loans and commercial business loans. Our major source of income is the interest
payments received on our loan and securities portfolios, while our major expense
is interest paid on deposit accounts.
The Office of Thrift Supervision ("OTS") is the Bank's chartering
authority and primary regulator. The Bank is also regulated by the Federal
Deposit Insurance Corporation ("FDIC"), the administrator for the Savings
Association Insurance Fund ("SAIF"). The Bank is also subject to reserve
requirements established by the Board of Governors of the Federal Reserve System
(the "Federal Reserve Board" or "FRB"), and we are a member of the FHLB of
Pittsburgh, one of the regional banks comprising the FHLB System.
1
Our executive offices are located at Welsh and Norristown Roads, Maple
Glen, Pennsylvania, and our telephone number is (215) 646-5405. The office for
Willow Grove Investment Corporation is 1105 Market Street, Suite 1300,
Wilmington, Delaware.
SECOND STEP CONVERSION
On April 3, 2002 Willow Grove Bank completed its reorganization from the
two-tier mutual holding company form of organization to the stock form of
organization (the "April 2002 Reorganization"). The former Willow Grove Bancorp,
Inc. was a federally chartered mid-tier mutual holding company with
approximately 56.9% of its stock being held by Willow Grove Mutual Holding
Company and the remaining 43.1% being held by public shareholders. As part of
the April 2002 Reorganization, the former Willow Grove Bancorp, Inc., the
federal corporation, was merged into Willow Grove Bank and the current Willow
Grove Bancorp Inc., a Pennsylvania corporation, was incorporated by the Bank for
the purpose of becoming the holding company for the Bank. Willow Grove Bancorp,
Inc., the new Pennsylvania corporation, through a public subscription offering,
sold 6,414,125 shares of stock at $10.00 per share and issued 4,869,375 to the
stockholders of Willow Grove Bancorp, Inc., the former federal corporation,
which represented an exchange of 2.28019 shares of its stock for each share of
the former company. Willow Grove Bank is now the wholly-owned subsidiary of
Willow Grove Bancorp, Inc., the Pennsylvania corporation. All per share data and
information prior to April 3, 2002 refers to the former Willow Grove Bancorp,
Inc., the federal corporation and has been restated to reflect the effect of the
increased shares resulting from the share issuance and exchange resulting from
the April 2002 Reorganization. For an interim period of time after the
completion of the April 2002 Reorganization, our stock traded under the symbol
"WGBCD", for all other periods the stock of both the former federal corporation
and the current Pennsylvania corporation traded under the symbol "WGBC".
MARKET AREA AND COMPETITION
Our main office is in Montgomery County, Pennsylvania, approximately 20
miles north of downtown Philadelphia. The primary market areas that we serve
are: Montgomery County, Bucks County and the northeast section of Philadelphia
that borders these counties. To a lesser extent, we provide services to areas of
Chester and Delaware counties, the remainder of the City of Philadelphia, and
central and southern New Jersey.
Most of our direct competition for attracting deposits and originating
loans has historically come from savings associations, other savings banks,
commercial banks and credit unions. We face additional competition for deposits
from short-term money market funds and other corporate and government securities
funds, mutual funds, and other non-financial institutions such as securities
brokerage firms and insurance companies. Locally, we estimate that we compete
with approximately 46 other financial institutions and 55 offices of securities
brokers in our market service area.
LENDING ACTIVITIES
GENERAL. At June 30, 2002 our net loan portfolio totaled $443.9 million or
58.42% of our total assets. Historically, our primary emphasis has been the
origination of loans secured by first liens on single-family (one-to four-units)
residences. In recent years, we have changed the focus of our lending to place
more emphasis on home equity loans, construction, commercial real estate and
multi-family residential loans and commercial business loans. At June 30, 2002,
commercial real estate and multi-family residential loans amounted to $134.3
million, or 29.90% of our total loan portfolio. As of that date, construction
loans were $29.3 million or 6.52% of our loan portfolio; commercial business
loans totaled $19.1 million or 4.24% of the total loan portfolio. Loans secured
by liens on single-family residential properties include first mortgage loans
totaling $181.5 million, or 40.40% of the loan portfolio, and $75.0 million of
home equity loans and lines of credit, which accounted for 16.70% of the loan
portfolio at June 30, 2002.
The types of loans that we originate are subject to federal and state laws
and regulations. Interest rates and fees charged on these loans are affected
primarily by the demand for loans by borrowers and the supply of funds available
for lending purposes and rates and fees charged by our competitors. Local,
national, and international economic conditions and their effect on the monetary
policies of the Federal Reserve Board, legislative and tax policies, and
budgetary matters of local, state, and federal governmental bodies affect the
supply of funds available and the demand for loans.
2
LOAN PORTFOLIO COMPOSITION. The following table sets forth the composition
of the loan portfolio at the dates indicated. This data does not include single
family loans classified as held for sale which amounted to $1.6 million, $2.6
million, $35.8 million, zero and $12.1 million at June 30, 2002, 2001, 2000,
1999, and 1998, respectively.
June 30, 2002 June 30, 2001 June 30, 2000
----------------------- ----------------------- -----------------------
Percent Percent Percent
Amount of total Amount of total Amount of total
--------- ---------- --------- --------- --------- ----------
(DOLLARS IN THOUSANDS)
Mortgage loans:
Single-family $ 181,454 40.40 % $ 198,310 43.17 % $ 206,340 48.04 %
Commercial real estate 134,294 29.90 128,613 28.00 102,513 23.86
and multi-family
Construction 29,306 6.52 27,724 6.04 14,973 3.49
Home equity 75,016 16.70 75,060 16.34 72,217 16.81
--------- ------ --------- ------ --------- ------
Total mortgage loans 420,070 93.52 429,707 93.55 396,043 92.20
Consumer loans 10,081 2.24 9,688 2.11 7,818 1.82
Commercial business loans 19,067 4.24 19,925 4.34 25,683 5.98
--------- ------ --------- ------ --------- ------
Total loans receivable 449,218 100.00 % 459,320 100.00 % 429,544 100.00 %
========= ====== ========= ====== ========= ======
Allowance for loan losses (4,626) (4,313) (3,905)
Deferred loan fees (737) (808) (699)
--------- --------- ---------
Loans receivable, net $ 443,855 $ 454,199 $ 424,940
========= ========= =========
June 30, 1999 June 30, 1998
----------------------- -----------------------
Percent Percent
Amount of total Amount of total
--------- ---------- --------- ---------
Mortgage loans:
Single-family $ 231,498 61.16 % $ 230,979 72.30 %
Commercial real estate 65,707 17.36 31,978 10.01
and multi-family
Construction 7,773 2.05 4,772 1.49
Home equity 54,090 14.29 41,366 12.95
--------- ------ --------- ------
Total mortgage loans 359,068 94.86 309,095 96.75
Consumer loans 6,431 1.70 4,930 1.55
Commercial business loans 13,023 3.44 5,437 1.70
--------- ------ --------- ------
Total loans receivable 378,522 100.00 % 319,462 100.00 %
========= ====== ========= ======
Allowance for loan losses (3,138) (2,665)
Deferred loan fees (800) (1,092)
--------- ---------
Loans receivable, net $ 374,584 $ 315,705
========= =========
3
CONTRACTUAL PRINCIPAL REPAYMENTS AND INTEREST RATES. The following table
sets forth scheduled contractual amortization of the loan portfolio at June 30,
2002. Demand loans, loans having no schedule of repayments and no stated
maturity and overdraft loans are reported as due in one year or less.
At June 30, 2002, the amount due within
----------------------------------------------------------------------------------------
more than more than more than more than
1 year 1 year to 3 years to 5 years to 10 years to more than
or less 3 years 5 years 10 years 20 years 20 years total
-------- -------- -------- -------- --------- --------- ---------
(DOLLARS IN THOUSANDS)
Mortgage loans:
Single-family and $ 882 $ 5,533 $ 11,942 $ 28,790 $ 88,521 $ 120,802 $ 256,470
home equity
Commercial real 1,865 5,346 3,826 18,494 96,296 8,467 134,294
estate and
multi-family
Construction 16,484 10,560 1,900 - 362 - 29,306
-------- -------- -------- -------- --------- --------- ---------
Total mortgage loans 19,231 21,439 17,668 47,284 185,179 129,269 420,070
Consumer 2,640 2,572 1,378 3,355 63 73 10,081
Commercial business 7,016 3,290 2,811 4,608 573 769 19,067
-------- -------- -------- -------- --------- --------- ---------
Total $ 28,887 $ 27,301 $ 21,857 $ 55,247 $ 185,815 $ 130,111 $ 449,218
======== ======== ======== ======== ========= ========= =========
Of the $420.3 million of loan principal repayments due after June 30,
2003, $286.5 million have fixed rates of interest and $133.8 million have
adjustable rates of interest.
LENDING ACTIVITY. Our lending activities are subject to underwriting
standards and origination procedures which have been approved by our Board of
Directors. We process, underwrite and originate single-family residential
mortgage loans on both a retail and wholesale basis. We have developed a network
of approximately 33 active residential mortgage brokers and mortgage bankers to
support our wholesale production system. These correspondents identify, process
and close loans on our behalf based upon rates and terms that we provide to them
on a regular basis. Depending upon the various programs we have with the
correspondents, loans will be classified as either purchased or originated. When
the correspondent advances funds for the closing of a loan we have committed to
purchase, it is classified as "purchased". When we provide the funds for the
closing of the loan, it is classified as "originated". In either case, we may
retain the loan in our portfolio or sell it (on either a servicing released or
retained basis) in the secondary market. The correspondents forward completed
loan applications for our review. Based upon our assessment of our demand for
the type of loan, we will determine whether to reject the loan or acquire the
loan for our portfolio or for sale into the secondary market. Retail production
is supported through bank loan officers who obtain loan applications through our
branch network and referrals from local builders, real estate brokers and
financial consultants. Single-family residential mortgage loans generally are
required to be underwritten in accordance with Federal Home Loan Mortgage
Corporation ("FHLMC") and Federal National Mortgage Association ("FNMA")
guidelines (this facilitates resale into the secondary market). We also acquire
loans that do not conform to FHLMC/FNMA guidelines ("non-conforming" loans) for
the portfolio. Non-conforming loans that we place in the portfolio include, but
are not limited to, sub-prime, investor loans and non-FNMA "A" paper.
Non-conforming loans are underwritten according to our alternative underwriting
guidelines. We believe that our underwriting guidelines are consistent with
industry standards. These non-conforming loans account for approximately 30% of
our single-family loan portfolio.
In addition to originating loans, the Bank periodically purchases
participation interests in larger balance loans, typically multi-family and
commercial real estate mortgage loans and construction loans from other
financial institutions in our market area. These participations are reviewed for
compliance with our underwriting standards before they are purchased.
Our loan underwriting function is managed at our main office. All
conforming loans are contractually underwritten by any one of five private
mortgage insurance companies to ensure saleability in the secondary market. We
require a current appraisal prepared by an independent appraiser on all new
mortgage loans. We also require
4
title insurance on all loans secured by real estate, except home equity loans
under $100,000. Hazard insurance is required on all real estate loans. Flood
insurance is also required for all loans secured by properties located in a
designated flood area.
Our loan policy authorizes certain officers to approve loans up to certain
designated amounts, not exceeding $1,000,000 individually in the case of the
President. Loans exceeding individual limits must be approved by: the Management
Loan Committee consisting of the President, other executive officers, a credit
manager and senior loan officers; the Director's Loan Committee, consisting of
three outside directors and the President, or the full Board of Directors. The
Director's Loan Committee and the full Board of Directors are also provided with
summaries of new loan activity on a routine basis.
As a federal savings bank, we are limited in the amount of loans we make
to any one borrower. This amount is equal to 15% of the Bank's unimpaired
capital and surplus (in our case, this amount would be approximately $13.1
million at June 30, 2002), although there are provisions that would allow us to
lend an additional 10% of unimpaired capital and surplus if the loans are
secured by readily marketable securities. Our aggregate loans to any one
borrower have been within these limits. At June 30, 2002, our three largest
credit relationships with an individual borrower and related entities amounted
to $7.6 million, $7.3 million and $7.1 million; all the loans included in these
relationships were performing in accordance with their terms and conditions.
The following table shows the activity in our loan portfolio during the
periods indicated.
Year ended June 30,
-------------------
2002 2001 2000
---- ---- ----
(DOLLARS IN THOUSANDS)
Loans held at the beginning of the period (1) $ 459,320 $ 429,544 $ 378,522
Originated and purchased for portfolio:
Mortgage loans
Single-family 43,841 27,867 47,668
Commercial real estate and multi-family 23,341 30,591 44,841
Construction 32,369 27,758 13,076
Home equity 36,725 27,985 31,560
Consumer loans 10,371 8,873 9,157
Commercial business loans 11,057 21,675 19,403
--------- --------- ---------
Total originations and purchases for portfolio 157,704 144,749 165,705
Transfer of loans from portfolio to held for sale - - (35,992)
Amortization (166,852) (107,525) (78,606)
Charge-offs (954) (7,448) (85)
--------- --------- ---------
Net change in loans (10,102) 29,776 51,022
--------- --------- ---------
Total loans held at the end of the period $ 449,218 $ 459,320 $ 429,544
========= ========= =========
(1) Excludes loans classified as held for sale at the time of origination
SINGLE-FAMILY RESIDENTIAL LOANS. We utilize bank loan officers and a
network of mortgage brokers and bankers to originate and buy conventional
single-family (one-to-four-units) mortgage loans. During the year ended June 30,
2002, single-family residential loans originated to be kept in our portfolio
amounted to $43.8 million. In addition, we originated $75.9 million of
single-family residential mortgage loans for resale in the secondary market. Our
total single-family residential mortgage loans originated for portfolio or
resale amounted to $119.7 million in the year ended June 30, 2002, of which
$86.8 million were originated through our wholesale network and the remaining
$32.9 million was originated through our retail sources. Conventional loans are
loans that are neither insured by the Federal Housing Administration ("FHA") nor
partially guaranteed by the Department of Veterans Affairs ("VA"). The majority
of our single-family mortgage loans are secured by properties located in our
primary
5
lending area which includes Montgomery, Bucks and Philadelphia Counties,
Pennsylvania. Our residential lending areas have expanded to include
northeastern Pennsylvania, central and southern New Jersey and Delaware. At June
30, 2002, single-family mortgage loans amounted to $181.5 million, or 40.40% of
our total loan portfolio. Due to our strategic plan to diversify the loan
portfolio, the single-family portion of our loan portfolio has decreased during
the past five years. We expect future changes in this portfolio, which may
include additional declines or relatively small increases, to be more gradual
than the recent declines experienced in this portfolio.
Single-family residential mortgage loans which we purchase or originate
for sale generally are underwritten with terms conforming to FHLMC/FNMA
guidelines. Loans purchased or originated for our portfolio, may conform to
these guidelines, may exceed the conforming loan amount for those agencies, or
may otherwise not comply with the underwriting standards of the agencies for a
variety of reasons, including credit risk. Recently we have been more active in
selling conforming loans, in excess of our portfolio needs, in the secondary
market. We have generally sold loans to three national investors who purchase
our loans primarily on a best efforts, servicing released basis. This
arrangement, although not eliminating all risks associated with secondary market
activity, can provide an additional source of non-interest income. As of June
30, 2002, $1.6 million of our single-family residential mortgage loans were
classified as held-for-sale. During the year ended June 30, 2002, we sold an
aggregate of $77.8 million of single-family residential mortgage loans at a gain
of $519,000 while for the year ended June 30, 2001, we had loan sales of $93.0
million at a gain of $381,000. Although we anticipate a continued effort in
secondary market activity, there can be no assurance that this activity will
continue as currently structured or result in the realization of non-interest
income and in fact could result in negative operating results. Low interest
rates among other factors have led to increases in our sales activity.
Interest rates on our single-family residential mortgage loans either are
fixed for the life of the loan ("fixed-rate") or are subject to adjustment at
certain pre-determined dates throughout the life of the loan ("ARM"). Our
fixed-rate loans generally mature in 10, 15, 20 or 30 years, and have equal
monthly payments to repay the loan with interest by the end of the loan term. At
June 30, 2002, the fixed-rate portion of our residential mortgage loan portfolio
which includes single-family real estate loans and home equity loans, totaled
$232.9 million which was 90.80% of the total single-family residential loans
plus home equity loans outstanding at that date.
We offer a variety of ARM loans. These loans have a pre-determined
interest rate for a specified period of time ranging from one to ten years.
After this initial period, the interest rate will adjust on a periodic basis in
accordance with a designated index such as the one-year US Treasury yield
adjusted to a constant maturity ("CMT") plus a stipulated margin. Also, ARM
loans generally carry an annual limit for rate changes of 1% or 2%, and a
maximum amount the rate can increase or decrease from the initial rate of 4% to
6% during the life of the loan. From time to time, we offer ARM loans with an
initial rate less than the fully-indexed rate (the index at the time of
origination plus the stipulated margin). These loans are underwritten based upon
the borrower making payments calculated at the fully-indexed rate. Our ARM loans
require that any payment adjustment caused by a change in the interest rate
result in full amortization of the loan by the end of the original loan term,
and no portion of the payment increase is permitted to be added to the principal
balance of the loan, so-called negative amortization. At June 30, 2002, $23.6
million or 9.20% of our residential mortgage loan portfolio, which includes
single-family real estate loans and home equity loans, were adjustable rate.
ARM loans decrease some of the risks associated with changing interest
rates. However, increases in the amount of a borrower's payment due to interest
rate increases may affect the borrower's ability to repay the loan increasing
the potential for default. To date, we have not experienced a material impact as
a result of this additional credit risk associated with ARM loans, and believe
that this risk is less than the interest rate risk of holding fixed-rate loans
in a rising interest rate environment.
Such factors as consumer preferences, the general level of interest rates,
competition, and the availability of funds affect the amount of ARM loans we
originate. Although we anticipate that we will continue to offer ARM loans,
there can be no assurance that we can originate a sufficient amount of such
loans to increase or maintain the percentage of such loans in our portfolio.
Generally the largest single-family mortgage loan we originate or purchase
does not exceed $400,000. In addition, our maximum loan-to-value ratio (the rate
of the loan amount to the lesser of the appraised value or sales price - "LTV")
is 95%. Some special first time homebuyer programs have loan to value ratios of
100%. In all cases
6
when the loan to value ratio exceeds 80%, we require the borrower to maintain
private mortgage insurance until the loan balance is reduced to 80% of current
market value.
HOME EQUITY LOANS. In recent years, we have increased our emphasis on the
origination of home equity loans and lines of credit, due to their shorter
maturities (the maximum term of our home equity loans is 20 years with the
exception of purchase money second mortgage loans whose maximum term may be up
to 30 years) and higher interest rates. A home equity loan is a fixed-rate loan
where the borrower receives the total loan amount at a closing and makes monthly
payments to repay the loan within a specific time period. Home equity lines of
credit are a revolving line of credit with a variable rate and no stated
maturity date. The borrower may draw on this account (up to the maximum credit
amount) and repay this line at any time. At June 30, 2002 we had $75.0 million
or 16.70% of the total loan portfolio in home equity loans and lines of credit
outstanding. Of the $75.0 million outstanding at June 30, 2002, $7.8 million
were in lines of credit. The unused portion of equity lines of credit was $10.8
million at that date. The low level of interest rates in recent periods has
increased amortization and prepayments on home equity loans. This has resulted
in a slight decline in the outstanding balance of loans despite increases in the
amount of home equity loans originated during the year.
Home equity loans and lines of credit are secured by the borrower's
residence, and we generally obtain a second lien position on these loans. We
offer home equity programs in amounts, when combined with the first mortgage, up
to 100% of the value of the property securing the loan. In addition to
originating home equity loans through our branch offices, we sometimes purchase
these loans from our network of correspondents.
COMMERCIAL REAL ESTATE AND MULTI-FAMILY RESIDENTIAL REAL ESTATE LOANS. At
June 30, 2002 commercial real estate and multi-family residential loans amounted
to $134.3 million or 29.90% of the total loan portfolio. This compares to $128.6
million or 28.00% at June 30, 2001.
Our commercial real estate and multi-family residential loan portfolio
consists primarily of loans secured by office buildings, retail and industrial
use buildings, strip shopping centers, residential properties with five or more
units and other properties used for commercial and multi-family purposes located
in our market area. Our commercial and multi-family real estate loans tend to be
originated in an amount less than $3.0 million but will occasionally exceed that
amount. At June 30, 2002, the average commercial and multi-family residential
loan size was $461,000. The five largest commercial real estate and multi-family
residential loans outstanding at June 30, 2002, were $ 4.1 million, $4.0
million, $3.4 million, $3.1 million, and $2.7 million and all of such loans were
performing in accordance with their terms. However, during our internal review
of the portfolio, it was determined that the debt service coverage ratio for the
loan in the amount of $4.1 million no longer was meeting our underwriting
standards and therefore was classified as substandard. This borrower has made
all contractual payments on this loan and it satisfies all other terms of the
loan agreement. During the year ended June 30, 2002, our commercial real estate
and multi-family loan portfolio grew by $5.7 million, or 4.4% as the result of
originations, purchases and the conversion of loans from construction to
permanent status,. The relatively low interest rate environment during the year
ended June 30, 2002 stimulated increased amortization and prepayments which
partially offset the total amount of multi-family and commercial real estate
originations of $23.3 million during the year.
Although terms for commercial real estate and multi-family loans vary, our
underwriting standards generally allow for terms up to 20 years with monthly
amortization over the life of the loan and LTV ratios of not more than 80%.
Interest rates are either fixed or adjustable, based upon designated market
indices such as the 5-year Treasury CMT plus a margin, and fees ranging from
0.5% to 1.5% are charged to the borrower at the origination of the loan.
Prepayment fees are charged on most loans in the event of early repayment.
Generally we obtain personal guarantees of the principals as additional
collateral for commercial real estate and multi-family real estate loans.
Commercial real estate and multi-family real estate lending involves
different risks than single-family residential lending. These risks include, but
are not limited to, larger loans to individual borrowers and loan payments that
are dependent upon the successful operation of the project or the borrower's
business. These risks can be affected by supply and demand conditions in the
project's market area of rental housing units, office and retail space,
warehouses, and other commercial space. We attempt to minimize these risks by
limiting our loans to proven businesses, only considering properties with
existing operating performance which can be analyzed, using conservative debt
coverage ratios in our underwriting, and periodically monitoring the operation
of the business or
7
project and the physical condition of the property. As of June 30, 2002, $1.2
million, or 0.88% of our commercial real estate and multi-family residential
mortgage loans were on non-accrual status compared to $675,000 or 0.52% at June
30, 2001. The increase was due primarily to three loans becoming more than 90
days past due as of June 30, 2002.
Various aspects of a commercial and multi-family loan transaction are
evaluated in our effort to mitigate the additional risk in these types of loans.
In our underwriting procedures, consideration is given to the stability of the
property's cash flow history, future operating projections, current and
projected occupancy levels, location and physical condition. Generally, we
impose a debt service ratio (the ratio of net cash flows from operations before
the payment of debt service to debt service) of not less than 115%. We also
evaluate the credit and financial condition of the borrower, and if applicable,
the guarantor. Appraisal reports prepared by independent appraisers are obtained
on each loan to substantiate the property's market value, and are reviewed by us
prior to the closing of the loan.
CONSTRUCTION LOANS. We originate construction loans for residential and
commercial uses within our market area. We generally limit construction loans to
builders and developers with whom we have an established relationship, or who
are otherwise known to officers of the Bank. Construction loans outstanding at
June 30, 2002 were $29.3 million, or 6.52% of total loans, compared to $27.7
million or 6.04% of total loans at June 30, 2001.
Our construction loans generally have variable rates of interest, a
maximum term to maturity of three years and LTV ratios less than 80%.
Residential construction loans to developers are made on either a pre-sold or
speculative (unsold) basis. Limits are placed on the number of units that can be
built on a speculative basis based upon the reputation and financial position of
the builder, his/her present obligations, the location of the property and prior
sales in the development and the surrounding area. Generally a limit of two to
six model homes is permitted per project.
Prior to committing to a construction loan, we require that an independent
appraiser prepare an appraisal of the property. We also review and inspect each
project at its inception and prior to every disbursement of loan proceeds.
Disbursements are made after inspections based upon a percentage of project
completion. Monthly payment of interest is required on all construction loans.
We also make construction loans for the acquisition and development of
land for sale (i.e. roads, sewer and water lines). We make these loans only in
conjunction with a commitment for a construction loan for the units to be built
on the site. These loans are secured by a lien on the property and are limited
to a LTV ratio of 75% of the appraised value. The loans have a variable rate of
interest and require monthly payments of interest. The principal of the loan is
repaid as units are sold and released. All of our loans of this type are in our
market area and are to developers with whom we have established relationships.
In most cases, we also obtain personal guarantees from the borrowers.
Construction and land loans generally are considered to involve a higher
level of risk than single-family residential lending, due to the concentration
of principal in a limited number of loans and borrowers and the effect of
economic conditions on developers, builders and projects. Additional risk is
also associated with construction lending because of the inherent difficulty in
estimating both a property's value at completion and the estimated cost
(including interest) to complete a project. The nature of these loans is such
that they are more difficult to evaluate and monitor. In addition, speculative
construction loans to a builder are not pre-sold and thus pose a greater
potential risk than construction loans to individuals on their personal
residences. At June 30, 2002, our five largest construction loans had
outstanding balances of $5.3 million, $4.2 million, $2.2 million, $2.0 million
and $2.0 million and all were performing in accordance with the terms of their
agreements. One loan, in the amount of $4.2 million was, although performing,
classified substandard because leasing the rental space has been slower than
originally anticipated. Our balance of this loan represents a participation
interest in a $19.8 million loan that we purchased from another local financial
institution.
In order to mitigate some of the risks inherent to construction lending,
we inspect properties under construction, review construction progress prior to
advancing funds, work with builders who have established relationships, and
obtain personal guarantees from the principals.
8
COMMERCIAL BUSINESS LOANS. At June 30, 2002, we had $19.1 million in
commercial business loans (4.24% of gross loans outstanding) compared to $19.9
million at June 30, 2001, a decrease of $858,000 or 4.31%. During the year ended
June 30, 2002, we originated or advanced additional funds on business lines of
credit in the amount of $11.1 million. These originations were offset by
increased amortization and prepayments of loans primarily due to the low
interest rate environment and also by $725,000 in charge-offs, net of recoveries
during the year. We began originating loans to small-to-mid-sized businesses in
our market area in May 1997. Since that time, we have hired commercial lenders
to actively solicit commercial business loans as well as commercial real estate
and multi-family real estate loans. Based upon our size, expertise and desired
level of risk, we have determined that, with certain exceptions, we will
generally not originate new commercial business loans in amounts exceeding
$250,000. Management is in the process of enhancing the systems, policies,
procedures and personnel with an expectation that at some time in the future our
comfort level with such loans will be increased. Commercial business loans in
amounts greater than $250,000 may still be originated on occasion if the Bank,
after review and consideration by the full Board of Directors approves such
larger loans. In accordance with these more restrictive guidelines, we
originated two commercial business loans in excess of $250,000 during the year
ended June 30, 2002. In addition to our commercial loan officers, we use our
business development officers working from several of our branch locations to
actively solicit potential customers in the bank's market area. No assurance can
be given as to the volume of new commercial loans originated in the future. This
portfolio may decline in the near term as previously originated larger balance
loans are repaid and replaced with smaller balance new originations. We believe
that these types of loans assist in our asset/liability management since they
generally provide shorter maturities and/or adjustable rates of interest in
addition to generally having higher rates of return which are designed to
compensate for the additional credit risk associated with these loans.
Generally, the Bank provides secured revolving lines of credit for short
term working capital support of a business's accounts receivables and inventory.
Typically the secured revolving line of credit is collateralized based upon an
advance rate of up to 75% of eligible accounts receivable and up to 30% of
finished goods inventory. Secured term loan financing is provided for the
acquisition of fixed business assets, such as real property, vehicles, equipment
and machinery. Generally, we provide financing up to 80% of the purchase price
for the new fixed assets and 70% of book value for pre-owned fixed assets. In
addition to business assets pledged as collateral, most commercial business
loans are personally guaranteed by the principal owner(s) of the borrower.
Interest rates are adjustable, indexed to a published prime rate of interest or
fixed. At June 30, 2002, the Company's five largest commercial business loans
were $1.1 million, $930,000, $850,000, $691,000 and $622,000 (all such loans
were performing in accordance with their terms). At June 30, 2002 the average
balance of the Company's commercial business loans was $91,700.
Generally, commercial business loans have been characterized as having
higher risks associated with them than single-family mortgage loans. We have
recently experienced significant charge-offs with respect to two commercial
business loans which were charged-off during the year ended June 30, 2001. We
have hired individuals, experienced in this type of lending, and have
implemented policies and procedures which we deem to be prudent. As of June 30,
2002, the Company had $724,000 of non-accrual commercial business loans compared
to $966,000 at June 30, 2001. Charge-offs of commercial business loans amounted
to $769,000 during the year ended June 30, 2002 compared to $7.4 million in the
year ended June 30, 2001.
OTHER CONSUMER LENDING ACTIVITIES. In our efforts to provide a full range
of financial services to our customers, we offer various types of consumer loans
primarily consisting of student loans and loans secured by deposit accounts and
to a much lesser extent automobile loans, and unsecured personal loans. These
loans are originated primarily through existing and walk-in customers and direct
advertising. At June 30, 2002, $10.1 million, or 2.24% of our total loan
portfolio consisted of these types of loans. This compares to $9.7 million of
consumer loans, or 2.11% of the total loan portfolio at June 30, 2001.
Consumer loans, other than student loans and loans secured by deposit
accounts, generally have higher interest rates and shorter terms than
residential loans, however they have additional credit risk due to the type of
collateral securing the loan or in some cases the absence of collateral. In the
fiscal year ended June 30, 2002, there were charge-offs, net of recoveries
totaling $162,000 related to other consumer loans. This compares to $72,000 in
net consumer loan charge-offs in the fiscal year ended June 30, 2001.
9
ASSET QUALITY
GENERAL. As a part of our efforts to maintain asset quality, we have
developed and implemented an asset classification system. All of our assets are
subject to this classification system. Loans are periodically reviewed and the
classifications reviewed at least quarterly by the Asset Quality Committee of
the Board of Directors.
When a borrower fails to make a scheduled payment, we attempt to cure the
deficiency by making personal contact with the borrower. Initial contacts are
generally made 16 days after the date the payment is due. In most cases,
deficiencies are promptly resolved. If the delinquency continues, late charges
are assessed and additional efforts are made to collect the deficiency. We
generally work with borrowers to resolve such problems, however, when the
account becomes 90 days delinquent, we institute foreclosure or other
proceedings, as necessary, to minimize any potential loss.
On loans which we consider the collection of principal or interest
payments doubtful, we cease the accrual of interest income ("non-accrual"
loans). On loans more than 90 days past due, as to principal and interest
payments, it is our policy to discontinue accruing additional interest and
reverse any interest currently accrued (unless we determine that the loan
principal and interest are fully secured and in the process of collection). On
occasion, we may take this action earlier if the financial condition of the
borrower raises significant concern with regard to his/her ability to service
the debt in accordance with the terms of the loan. Interest income is not
accrued on these loans until the borrower's financial condition and payment
record demonstrate an ability to service the debt.
Real estate which we acquire as a result of foreclosure or deed-in-lieu of
foreclosure is classified as real estate owned until sold. Real estate owned is
recorded at the lower of cost or fair value less estimated selling cost. Costs
associated with acquiring and improving a foreclosed property are usually
capitalized to the extent that the carrying value does not exceed fair value
less estimated selling costs. Holding costs are charged to expense. Gains and
losses on the sale of real estate owned are charged to operations, as incurred.
DELINQUENT LOANS. The following table sets forth information concerning
delinquent loans at the dates indicated. The amounts presented represent the
total outstanding principal balances of the related loans rather than the actual
payment amounts that are past due.
At At
June 30, 2002 June 30, 2001
------------------- ------------------
30 to 60 to 30 to 60 to
59 days 89 days 59 days 89 days
-------- -------- -------- -------
(DOLLARS IN THOUSANDS)
Mortgage loans:
Single-family $ 2,449 $ 566 $ 3,529 $ 894
Commercial real estate and multi-family 767 - 51 162
Construction - - - -
Home equity 192 - 50 23
Consumer loans 9 16 3 4
Commercial business loans 412 35 86 -
------- ------ ------- -------
Total loans receivable $ 3,829 $ 617 $ 3,719 $ 1,083
======= ====== ======= =======
Loans delinquent 30 to 89 days amounted to $4.4 million at June 30, 2002
compared to $4.8 million at June 30, 2001. Decreases in the amount of delinquent
single-family mortgage loans offset increases in past due multi-family and
commercial real estate, commercial business, home equity and consumer loans
Management continues to regularly monitor all delinquent loan activity.
Management does not consider the current level of delinquencies to be of any
significant concern as, based upon past experience, most of such loans are
expected to return to fully performing status without going to non-accrual
status. In any event, management believes that these loans are adequately
collateralized.
10
NON-PERFORMING ASSETS. The following table sets forth information with
respect to non-performing assets we have identified, including non-accrual loans
and other real estate owned. The increase in non-performing assets from $5.2
million at June 30, 2001 to $5.8 million at June 30, 2002 was the result of
increases in non-accrual single family and multi-family and commercial real
estate mortgage loans.
At June 30,
------------------------------------------------------
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
(DOLLARS IN THOUSANDS)
Accruing loans 90 or more days past due
Mortgage loans $ - $ 42 $ 9 $ 4 $ 142
Commercial business loans 200 - - - -
Other - 49 - - -
-------- -------- -------- -------- --------
Total accruing but 90 or more days past due 200 91 9 4 142
-------- -------- -------- -------- --------
Nonaccrual loans
Mortgage loans
Single-family 1,897 1,485 828 1,006 1,249
Commercial real estate and multi-family 1,179 675 140 - -
Construction - - - - -
Home equity 55 278 10 37 -
Consumer 104 151 19 8 2
Commercial business 724 966 250 13 96
-------- -------- -------- -------- --------
Total nonaccrual loans 3,959 3,555 1,247 1,064 1,347
-------- -------- -------- -------- --------
Performing troubled debt restructurings 1,512 1,535 - - -
Total non-performing loans 5,671 5,181 1,256 1,068 1,489
Other real estate owned, net 85 - - - -
-------- -------- -------- -------- --------
Total non-performing assets $ 5,756 $ 5,181 $ 1,256 $ 1,068 $ 1,489
======== ======== ======== ======== ========
Non-performing loans to total loans 1.28% 1.13% 0.29% 0.28% 0.47%
Non-performing assets to total assets 0.76% 0.83% 0.22% 0.23% 0.37%
CLASSIFIED AND CRITICIZED ASSETS. Federal regulations require that each
insured institution classify its assets on a regular basis. Furthermore, in
connection with examinations of insured institutions, federal examiners have
authority to identify problem assets and, based upon their judgment, classify
them. There are three classifications for problem assets: "substandard,"
"doubtful," and "loss". Substandard assets have one or more defined weaknesses
and are characterized by the distinct possibility that the insured institution
will sustain some loss if the deficiencies are not corrected. Doubtful assets
have weaknesses of substandard assets with the additional characteristic that
the weaknesses make collection or liquidation in full on the basis of current
existing facts, conditions and values, questionable, and there is a high
probability of loss. An asset classified loss is considered uncollectible and of
such little value that continuance as an asset of the institution is not
warranted. Federal regulations also require another unclassified category
designated "special mention" to be established and maintained for assets that do
not currently expose an insured institution to a sufficient degree of risk to
warrant classification as substandard, doubtful, or loss. At June 30, 2002, we
had $13.6 million classified as substandard ($1.9 million of single-family
mortgage loans, $6.8 of multi-family and commercial real estate loans, $4.2
million of construction loans, $479,000 of commercial business loans, $154,000
of home equity loans and $6,000 of consumer loans); $93,000 of business loans
classified as doubtful and no loans classified as loss. This compares to $5.2
million in assets classified as substandard, $101,000 classified as doubtful and
no assets classified as a loss, at June 30, 2001. The increase in substandard
assets is the result of the classification of two, currently performing loans, a
$4.1 million commercial real estate loan that was classified because of a
decline in the debt service ratio below our underwriting standards and a $4.2
million construction loan due to slower than originally anticipated leasing of
rental space.
11
ALLOWANCE FOR LOAN LOSSES. The allowance for loan losses is maintained at
a level we believe is adequate to cover known and inherent losses in the loan
portfolio that are both probable and reasonable to estimate at each reporting
date. Our determination of the adequacy of the allowance is based upon an
evaluation of the portfolio, loss experience, current economic conditions,
volume, growth, composition of the portfolio, and other relevant factors. With
the expansion of our lending activities into commercial real estate, business
and other consumer loans in recent years, we consider industry-wide loss
experience in our process when we determine the adequacy of our allowance for
loan losses. We believe that due to the changing mix of our loan portfolio and
our relative lack of historical loss experience with these types of loans,
considering loan loss data from other banking institutions with loan portfolios
similar to ours and in a similar geographic setting will provide us with a more
representative approach to evaluating the credit risks in our loan portfolio.
During the year ended June 30, 2001, based upon a more detailed stratification
of the loan portfolio, we modified the formulas we use to calculate the
allowance on various loan types. In some cases, such as business lending and
home equity lending where the combined LTV exceeds 80%, the percentage used to
calculate the allowance was increased. In other cases, such as single-family
first mortgage lending with LTVs below 60%, the percentage used was decreased.
The overall effect of this modification did not materially impact the amount of
the allowance for loan loss. During the fiscal year ended June 30, 2002 we
modified the methodology for calculating the allowance for loan loss based upon
the guidance provided by the SEC and the Federal Financial Institutions
Examination Council ("FFIEC"). We continue to use historical loss factors for
each loan type and for loans that we consider higher risk for all but
single-family mortgage loans and guaranteed consumer loans, we now add a
component for factors that may not be included in the historical loss
calculation. This component establishes a range for factors such as, but not
limited to, delinquency trends, asset classification trends and current economic
conditions. Management then assesses these conditions and establishes, to the
best of its ability, the allowance for loan loss from within the range
calculated, based upon the facts known at that time. At June 30, 2002, our
allowance for loan loss was in the lower quintile of the range established by
this methodology. The result of this change in methodology is to allocate the
entire allowance for loan loss to specific loan types, whereas prior methodology
had an unallocated component. The change in methodology does not imply that any
portion of the allowance for loan loss is restricted, but the allowance for loan
loss applies to the entire loan portfolio.
The allowance is increased by provisions for loan losses which are charges
against income. As shown in the table below, at June 30, 2002, our allowance for
loan losses amounted to $4.6 million or 81.57% and 1.03% of our non-performing
loans and total loans receivable, respectively.
12
Year ended June 30,
------------------------------------------------------
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
(DOLLARS IN THOUSANDS)
Balance - beginning of period $ 4,313 $ 3,905 $ 3,138 $ 2,665 $ 1,678
Plus: provisions for loan losses 1,212 7,856 706 531 993
Less: charge-offs for
Mortgage loans 12 18 51 32 -
Consumer loans 173 72 31 23 6
Commercial business loans 769 7,359 3 3 -
-------- -------- -------- -------- --------
Total charge-offs 954 7,449 85 58 6
-------- -------- -------- -------- --------
Plus: recoveries for
Mortgage loans - 16 - -
Consumer loans 11 1 - - -
Commercial business loans 44 - 130 - -
-------- -------- -------- -------- --------
Total recoveries 55 1 146 - -
-------- -------- -------- -------- --------
Balance - end of period $ 4,626 $ 4,313 $ 3,905 $ 3,138 $ 2,665
======== ======== ======== ======== ========
Allowance for loan loss to total end
of period non-performing loans 81.57% 83.25% 310.91% 293.82% 178.98%
Charge-offs to average loans 0.21% 1.65% 0.02% 0.02% n/m
Allowance for loan loss to end of
period total loans less deferred fees 1.03% 0.94% 0.91% 0.83% 0.84%
Provisions for loan losses for the year ended June 30, 2002 were $1.2
million compared to $7.9 million in the prior year. Charge-offs decreased from
$7.4 million in fiscal year 2001 to $954,000 in fiscal year 2002. The amount of
charge-offs in fiscal 2002 includes a charge-off of the remaining balance
of$545,000 from one of the two commercial business loans that caused the large
loss in fiscal 2001. During fiscal 2001, we recorded charge-offs aggregating
$7.4 million related to two commercial credits. One loan, totaling $6.7 million
was made to a local business with a history of solid financial performance and
was partially secured by real estate, inventory, equity securities and fixed
assets. The entity subsequently filed for bankruptcy protection and we are
pursuing recovery efforts. Another commercial business loan totaling $2.0
million became impaired as a result of extensive fraud. The principal borrower
was arrested, charged and convicted for embezzlement in his financial capacity
at a related not for profit organization and his illegal activities extended to
our loan. The loan was made to a local business that builds-out ambulances and
which maintained a production facility in Florida. We assess our allowance for
loan losses at least quarterly, and make any necessary provision for losses
needed to maintain our allowance for losses at a level deemed adequate. We
believe that the allowance for losses was adequate at June 30, 2002 to cover
losses that are both probable and reasonably estimable based upon the facts and
circumstances known to us at that date.
Effective December 21, 1993, the OTS in conjunction with the Comptroller
of the Currency, the FDIC and the Federal Reserve Board issued a Policy
Statement regarding a financial institution's allowance for loan and lease
losses. The Policy Statement, which reflects the position of the regulatory
agencies and does not necessarily constitute generally accepted accounting
principles, includes guidance (i) on our responsibilities for the assessment and
establishment of an adequate allowance; and (ii) for the agencies' examiners to
use in evaluating the adequacy of such allowance and the policies used to
determine such allowance. The Policy Statement also sets forth quantitative
measures for the allowance with respect to assets classified substandard and
doubtful and with respect to the remaining portion of the institution's
portfolio. Specifically, the Policy Statement sets forth the following
quantitative measures which examiners may use to determine the reasonableness of
an allowance: (i) 50% of the portfolio that is classified doubtful; (ii) 15% of
the portfolio classified substandard; and (iii) for the portions of the
13
portfolio that have not been classified (including loans designated special
mention), estimated credit losses over the upcoming twelve months based on facts
and circumstances available as of the evaluation date. While the Policy
Statement sets forth this quantitative measure, such guidance is not intended as
a "floor" or "ceiling". Our policy for establishing loan losses is consistent
with the Policy Statement. In July 2001, the SEC issued Staff Accounting
Bulletin ("SAB") No. 102, "Selected Loan Loss Allowance Methodology And
Documentation Issues". The guidance in the SAB was effective immediately and
focuses on the documentation the SEC staff normally expects registrants to
prepare and maintain in support of the allowance for loan losses. Concurrent
with the SEC's issuance of SAB No. 102, the federal banking agencies,
represented by the FFIEC issued an interagency policy statement entitled
"Allowance For Loan and Lease Loss Methodologies And Documentation For Banks and
Savings Institutions" ("Policy Statement"). The SAB and Policy Statement were
the result of an agreement between the SEC and the federal banking agencies in
March 1999 to provide guidance on allowance for loan loss methodologies and
supporting documentation. We believe to the best of our knowledge that our
documentation relating to the allowance for loan loss is consistent with these
pronouncements.
14
We have allocated the allowance for loan losses as shown in the table
below into components by loan types at year end. Due to a change in methodology
there is no unallocated portion of the allowance at June 30, 2002. Through such
allocations, we do not intend to imply that actual future charge-offs will
necessarily follow the same pattern or that any portion of the allowance is
restricted.
June 30, 2002 June 30, 2001 June 30, 2000
------------------------ ------------------------ ------------------------
Percent Percent Percent
loan type to loan type to loan type to
Amount of total Amount of total Amount of total
--------- ------------ --------- ------------- --------- ------------
(DOLLARS IN THOUSANDS)
Mortgage loans:
Single-family $ 255 40.40 % $ 239 43.17 % $ 591 48.04 %
Commercial real estate 2,239 29.90 1,454 28.00 1,230 23.86
and multi-family
Construction 937 6.52 554 6.04 299 3.49
Home equity 472 16.70 437 16.34 482 16.81
-------- ------ -------- ------ -------- ------
Total mortgage loans 3,903 93.52 2,684 93.55 2,602 92.20
Consumer loans 70 2.24 86 2.11 38 1.82
Commercial business loans 653 4.24 656 4.34 382 5.98
Unallocated - 0.00 887 N/A 883 N/A
-------- ------ -------- ------ -------- ------
Total $ 4,626 100.00 % $ 4,313 100.00 % $ 3,905 100.00 %
======== ====== ======== ====== ======== ======
June 30, 2002 June 30, 2001
------------------------ ------------------------
Percent Percent
loan type to loan type to
Amount of total Amount of total
--------- ------------ --------- -------------
Mortgage loans:
Single-family $ 598 61.16 % $ 630 72.30 %
Commercial real estate 695 17.36 371 10.01
and multi-family
Construction 346 2.05 361 1.49
Home equity 359 14.29 324 12.95
-------- ------ -------- ------
Total mortgage loans 1,998 94.86 1,686 96.75
Consumer loans 29 1.70 28 1.55
Commercial business loans 186 3.44 124 1.70
Unallocated 925 N/A 827 N/A
-------- ------ -------- ------
Total $ 3,138 100.00 % $ 2,665 100.00 %
======== ====== ======== ======
15
SECURITIES ACTIVITIES
GENERAL. Our investment policy is designed, among other things, to assist
us in our asset/liability management strategies. It emphasizes principal
preservation, favorable returns, maintaining liquidity and flexibility and
minimizing credit risk. The policy permits investments in US Government and
agency securities, investment grade corporate bonds and commercial paper,
municipal bonds, various types of mortgage-backed securities, certificates of
deposit and federal funds sold to financial institutions approved by our Board
of Directors, equity investments in the FHLB of Pittsburgh, the FNMA, the FHLMC,
and mutual funds with investments in the above described investments.
Currently, we are not participating in hedging programs, interest rate
swaps, caps, collars or other activities involving the use of off-balance sheet
financial derivatives. Also, we do not purchase mortgage-backed derivative
instruments that would be characterized "high-risk" under OTS regulations at the
time of purchase, nor do we purchase corporate obligations, which are not rated
investment grade. Although permissible by our policy, currently we do not own
any corporate bonds regardless of rating.
In order to achieve the maximum flexibility with our investment
securities, prior to January 2002 all of our investment securities were
classified as Available For Sale ("AFS") for more than the past three fiscal
years pursuant to Statement of Financial Accounting Standards No. 115. This
accounting pronouncement requires us to classify a security as AFS, Held to
Maturity ("HTM"), or trading, at the time of acquisition. Securities being
classified as HTM must be purchased with the intent and ability to hold that
security until its final maturity, and can be sold prior to maturity only under
rare circumstances. HTM securities are accounted for based upon the historical
cost of the security. AFS securities can be sold at any time based upon our
needs or judgment as to market changes. AFS securities are accounted for at fair
value, unrealized gains and losses on these securities, net of income tax
provisions, are reflected in the stockholders' equity section of our Statement
of Financial Condition. During the year ended June 30, 2002, we reclassified our
municipal bonds from AFS to HTM due to our intention to hold these securities
until they mature. At the time of the transfer the difference between the
amortized cost and market value of these securities was $14,000 which is being
amortized over a period of five years.
At June 30, 2002, our investment securities amounted to $268.7 million, or
35.36% of total assets. This includes a $3.0 million unrealized gain, net of
income tax, due to their classification as AFS. The portfolio consists primarily
of US government agency securities, most with callable features and agency
mortgage-backed pass-through securities. Other investments include municipal
bonds, equity investments in the FHLB of Pittsburgh, other equity securities and
a mutual fund consisting of adjustable-rate mortgage-backed securities.
The following table sets forth information on the carrying value and the
amortized cost of our securities classified as held to maturity and available
for sale at the dates indicated.
16
At June 30,
----------------------------------------------------------------------------
2002 2001 2000
---- ---- ----
Amortized Market Amortized Market Amortized Market
Cost Value Cost Value Cost Value
--------- --------- --------- --------- --------- ---------
(DOLLARS IN THOUSANDS)
Held to maturity:
Municipal bonds $ 13,973 $ 14,117 $ - $ - $ - $ -
--------- --------- --------- --------- --------- ---------
Total held to maturity 13,973 14,117 - - - -
--------- --------- --------- --------- --------- ---------
Amortized Market Amortized Market Amortized Market
Cost Value Cost Value Cost Value
--------- --------- --------- --------- --------- ---------
Available for sale:
Equity securities 9,514 9,463 7,876 7,838 7,528 7,451
US Gov't agency securities 75,692 76,693 43,722 43,798 33,000 31,025
Mortgage-backed securities 166,445 168,531 75,905 75,834 31,162 29,626
Municipal bonds - - 2,903 2,888 2,601 2,475
--------- --------- --------- --------- --------- ---------
Total available for sale 251,651 254,687 130,406 130,358 74,291 70,577
--------- --------- --------- --------- --------- ---------
Total securities $ 265,624 $ 268,804 $ 130,406 $ 130,358 $ 74,291 $ 70,577
========= ========= ========= ========= ========= =========
MORTGAGE-BACKED SECURITIES. At June 30, 2002, we had mortgage-backed
securities totaling $168.5 million compared to $75.8 million at June 30, 2001.
The increase in this portfolio was due to purchases of these type of securities
with a portion of the net proceeds from our April 2002 Reorganization and
subscription offering, accelerated prepayment on our loan portfolios due to low
interest rates and slower loan growth than in previous years. Mortgage-backed
securities represent a participation interest in a pool of single-family or
multi-family mortgages. Mortgages are sold by various originators to
intermediaries (generally agencies of the US Government and government sponsored
enterprises) that pool and repackage the mortgages and sell participation
interests in the pools to investors. The servicer of the mortgage loan collects
the principal and interest payments and passes those payments through to the
intermediary who then remits the payment to the investor. The US Government
agencies and government sponsored enterprises, primarily the Government National
Mortgage Association ("GNMA"), FNMA and FHLMC, guarantee the timely payment of
principal and interest on these securities.
Mortgage-backed securities are issued in stated principal amounts and are
backed by mortgage loans within a specific interest rate range, but may have
varying maturity dates. The underlying pool of mortgages may be comprised of
either fixed-rate or adjustable-rate mortgage loans. Each mortgage-backed
security pool will also differ based upon the actual level of prepayment
experienced by the underlying mortgage loans.
At June 30, 2002, the weighted average life of our mortgage-backed
securities was approximately 4.5 years, based upon our assumptions related to
the future prepayments of the underlying mortgages. Prepayments that are greater
than those projected will shorten the remaining term of the security, while a
decrease in the amount of prepayments will lengthen the amount of time until the
security matures. Prepayments depend on many factors, including the type of
mortgage, the coupon rate, the geographic region, and the general level of
market interest rates. During periods of rising interest rates, if the coupon
rates of the underlying mortgages are less than prevailing market rates offered
on mortgages, refinancings will decrease and prepayments of the mortgages
underlying the security will decline. Conversely, when market interest rates are
falling, and the coupon rate on the underlying mortgage exceeds the prevailing
market interest rate for mortgages offered, refinancings tend to increase which
will increase the amount of prepayments of the underlying mortgages.
17
Our average yield on our mortgage-backed securities was 5.85% at June 30,
2002. This yield is computed by decreasing/increasing the amount of interest
income collected on the security by the amortization/accretion of the
premium/discount associated with the acquisition of the security. In accordance
with generally accepted accounting principles, premiums/discounts are
amortized/accreted over the estimated remaining life of the security. The yield
on the security may vary if the prepayment assumptions used to determine the
remaining life differ from actual prepayment experiences. These assumptions are
reviewed on a periodic basis to reflect actual prepayments.
US GOVERNMENT AGENCY SECURITIES AND MUNICIPAL BONDS. At June 30, 2002, we
had $76.7 million, which includes approximately $1.0 million in unrealized
gains, in securities issued by US government agencies, primarily the FHLB, FNMA,
FHLMC and the Federal Farm Credit Bank compared to $43.8 million at June 30,
2001. These types of securities were also purchased with some of the proceeds
from our April 2002 Reorganization and subscription offering and from the
accelerated prepayments from our loan portfolio. Most of these securities have
call features that allow the issuer to redeem these securities at par value
prior to their stated maturity. Generally, if the prevailing market interest
rate on new issue callable agency securities with similar maturities exceeds the
coupon rate of the security with the call feature, the call will not be
exercised. Conversely, if the prevailing market interest rate for new issue
agency callable securities with similar maturities is below the coupon rate of
the security with the call feature, the call will be exercised and the bond will
be redeemed. When calls are exercised and bonds redeemed prior to their
maturity, we face the risk of re-investing those proceeds into other investments
with lower yields or longer terms.
Municipal bonds were classified as held to maturity at June 30, 2002 and
are recorded at an amortized cost basis of $14.0 million. The market value of
these securities at June 30, 2002 was $14.1 million. These municipal bonds
include issues from various townships and school districts located in
Pennsylvania.
The following table sets forth certain information regarding the
contractual maturities (without regard to any call provisions) of the carrying
value of our US government agency securities and municipal bonds at June 30,
2002. The yields on tax-exempt bonds have not been adjusted to taxable
equivalent yield.
Carrying Average
Value Yield
---------- -----------
(DOLLARS IN THOUSANDS)
Maturing in:
One year or less $ 2,006 4.29 %
One to five years 60,745 4.81
Five to ten years 14,189 5.73
Over ten years 13,870 4.45
---------- -------
Total $ 90,810 4.88 %
========== =======
OTHER INVESTMENTS. Other than mortgage-backed securities and US Government
agency securities, we have investments in various equity securities and mutual
funds. At June 30, 2002, these other investments totaled $5.4 million and $4.0
million, respectively. The equity securities include stock in the FHLB and
equity securities of several publicly traded companies. FHLB stock at June 30,
2002 was $5.0 million and the other equity investments amounted to $400,000. The
mutual fund investment is backed primarily by investments in adjustable-rate
mortgage-backed securities.
SOURCES OF FUNDS
GENERAL. Deposits are the primary source of funds for our lending and
investment activities. In addition to deposits, we obtain funds from the
amortization and prepayments on our loan and mortgage-backed security portfolio,
maturities of investments, and borrowings. Scheduled loan amortization is a
relatively stable source of funds. However, competition and the general level of
interest rates and market conditions significantly influence
18
deposit inflows and outflows. Borrowings may be used on a short-term basis to
compensate for reductions in other funding sources. On a longer-term basis,
borrowings may be used for general business purposes.
DEPOSITS
As shown in the table below, during the year ended June 30, 2002,
certificates of deposit fell as a percentage of total deposits from 64.6% to
57.7% while other core deposit accounts increased to 42.3% of total deposits
from 35.4% of deposits at June 30, 2001.
At June 30,
--------------------------------------------------
2002 2001
---- ----
Percent Percent
Amount of total Amount of total
--------- ---------- --------- ---------
(DOLLARS IN THOUSANDS)
Savings accounts (passbooks,
statements and clubs) $ 73,218 13.8 % $ 58,566 11.8 %
Money market accounts 47,752 9.0 34,788 7.0
Certificates of deposit 305,807 57.7 321,358 4.6
Checking accounts:
Interest-bearing 40,045 7.6 31,825 6.4
Non-interest-bearing 62,930 11.9 50,493 10.2
---------- ----- --------- -----
Total $ 529,752 100.0 % $ 497,030 100.0 %
========== ===== ========= =====
During the year ended June 30, 2002, total deposits increased by $32.7
million or 6.58% compared to an increase of $44.2 million, or 9.75% for the year
ended June 30, 2001.
Year ended June 30,
----------------------------------
2002 2001 2000
---- ---- ----
(DOLLARS IN THOUSANDS)
Beginning balance $ 497,030 $ 452,857 $ 390,681
Net increase in deposits 16,979 27,942 47,600
Interest credited 15,743 16,231 14,576
--------- --------- ---------
Total increase in deposits 32,722 44,173 62,176
--------- --------- ---------
Ending balance $ 529,752 $ 497,030 $ 452,857
========= ========= =========
The following table sets forth by various interest rate categories, the
amount of certificates of deposit at the dates indicated.
19
At June 30,
------------------------
2002 2001
---- ----
(DOLLARS IN THOUSANDS)
from 0.00% to 2.99% $ 106,833 $ 42
from 3.00% to 3.99% 71,310 15,546
from 4.00% to 4.99% 76,275 82,563
from 5.00% to 6.99% 48,853 212,384
7.00% and over 2,536 10,823
--------- ---------
Total $ 305,807 $ 321,358
========= =========
Shown below are the amount and remaining term to maturity for certificates
of deposit as of June 30, 2002.
Amounts maturing in
----------------------------------------------------------------------
Over six
months Over one Over two
Six months through one year through years through Over three
or less year two years three years years
---------- ---------- --------- --------- ---------
Interest rates: (DOLLARS IN THOUSANDS)
- ----------------------
from 0.00% to 2.99% $ 52,080 $ 50,703 $ 4,051 $ - $ -
from 3.00% to 3.99% 33,875 12,838 16,189 5,683 2,725
from 4.00% to 4.99% 25,276 8,312 17,849 15,111 9,727
from 5.00% to 6.99% 24,826 8,090 14,412 840 684
7.00% and over 1,689 395 452 - -
---------- ---------- --------- --------- ---------
Total $ 137,746 $ 80,338 $ 52,953 $ 21,634 $ 13,136
========== ========== ========= ========= =========
At June 30, 2002 the total amount of outstanding certificates of deposit
in amounts greater than or equal to $100,000 was $56.9 million. The following
table provides information regarding the maturity of these certificates of
deposit.
Amounts maturing in
----------------------------------------------------------------------
Over six
months Over one Over two
Six months through one year through years through Over three
or less year two years three years years
---------- ---------- --------- --------- ---------
(DOLLARS IN THOUSANDS)
$ 14,765 $ 12,155 $ 15,389 $ 14,625 $ 56,934
BORROWINGS.
We use outside borrowings to supplement our lending needs. We also use
borrowings in a revenue enhancement programs that allows us to take advantage of
arbitrage opportunities when investment returns exceed the cost of borrowings.
At June 30, 2002 we had $97.8 million in borrowings outstanding, all of which
were from the FHLB of Pittsburgh. Advances from the FHLB of Pittsburgh are
secured by our investment in FHLB Stock and
20
a portion of our residential mortgage loan portfolio. The FHLB of Pittsburgh
provides an array of borrowing programs which include: fixed or variable rate
programs; various fixed terms ranging from overnight to 20 years; and other
programs that have callable or putable features attached to them. We intend to
utilize borrowings in the future as an alternative source of funds.
The following table sets forth certain information regarding our outside
borrowings for the periods indicated.
At or for the year ended
--------------------------------------
June 30, 2002 June 30, 2001
--------------- ---------------
(DOLLARS IN THOUSANDS)
FHLB Advances:
Average balance outstanding for the period $ 73,829 $ 60,201
Maximum outstanding at any month end 100,800 74,196
Balance outstanding at end of the period 97,824 59,885
Average interest rate for the period 5.44% 6.38%
Interest rate at the end of the period 5.05% 5.85%
At June 30, 2002 the maturity of our FHLB advances ranged from March 2003
to February 2012. Certain advances also require monthly payments of principal.
At June 30, 2002, $62.5 million of FHLB advances were callable at the option of
the FHLB within certain parameters, of which $48.5 million could be called
within one year. Of the $62.5 million of FHLB advances that are callable at the
discretion of the FHLB, $30.5 million of these advances could be called only if
an index exceeded a specific pre-determined rate.
SUBSIDIARIES. Willow Grove Bank is the wholly owned subsidiary of Willow Grove
Bancorp, Inc. Willow Grove Investment Corporation is a wholly owned subsidiary
of the Bank.
EMPLOYEES. At June 30, 2002, we had 164 full-time employees, and 74 part-
time employees. None of our employees are represented by a collective bargaining
group, and we believe that our relationship with our employees is good.
21
REGULATION
Set forth below is a brief description of certain laws and regulations
which are applicable to Willow Grove Bancorp and Willow Grove Bank. The
description of these laws and regulations, as well as descriptions of laws and
regulations contained elsewhere herein, does not purport to be complete and is
qualified in its entirety by reference to the applicable laws and regulations.
GENERAL
Willow Grove Bank, as a federally chartered savings institution, is
subject to federal regulation and oversight by the Office of Thrift Supervision
extending to all aspects of its operations. Willow Grove Bank also is subject to
regulation and examination by the Federal Deposit Insurance Corporation, which
insures the deposits of Willow Grove Bank to the maximum extent permitted by
law, and requirements established by the Federal Reserve Board. Federally
chartered savings institutions are required to file periodic reports with the
Office of Thrift Supervision and are subject to periodic examinations by the
Office of Thrift Supervision and the Federal Deposit Insurance Corporation. The
investment and lending authority of savings institutions is prescribed by
federal laws and regulations, and such institutions are prohibited from engaging
in any activities not permitted by such laws and regulations. Such regulation
and supervision primarily is intended for the protection of depositors and not
for the purpose of protecting stockholders.
The Office of Thrift Supervision regularly examines Willow Grove Bank and
prepares reports for consideration by its Board of Directors on any deficiencies
that it may find in the bank's operations. The Federal Deposit Insurance
Corporation also has the authority to examine Willow Grove Bank in its role as
the administrator of the Savings Association Insurance Fund. Willow Grove Bank's
relationship with its depositors and borrowers also is regulated to a great
extent by both federal and, to a lesser extent, state laws, especially in such
matters as the ownership of savings accounts and the form and content of Willow
Grove Bank's mortgage requirements. The Office of Thrift Supervision's
enforcement authority over all savings institutions and their holding companies
includes, among other things, the ability to assess civil money penalties, to
issue cease and desist or removal orders and to initiate injunctive actions. In
general, these enforcement actions may be initiated for violations of laws and
regulations and unsafe or unsound practices. Other actions or inactions may
provide the basis for enforcement action, including misleading or untimely
reports filed with the Office of Thrift Supervision. Any change in such laws or
regulations, whether by the Federal Deposit Insurance Corporation, Office of
Thrift Supervision or Congress, could have a material adverse impact on us and
Willow Grove Bank and our operations.
WILLOW GROVE BANCORP, INC.
Willow Grove Bancorp is a registered savings and loan holding company
under Section 10 of the Home Owners' Loan Act, as amended and subject to Office
of Thrift Supervision examination and supervision as well as certain reporting
requirements. In addition, because Willow Grove Bank's deposits are insured by
the Savings Association Insurance Fund maintained by the Federal Deposit
Insurance Corporation, Willow Grove Bank is subject to certain restrictions in
dealing with us and with other persons affiliated with the bank.
22
Generally the Home Owners' Loan Act prohibits a savings and loan holding
company, such as us, directly or indirectly, from (1) acquiring control (as
defined) of a savings institution (or holding company thereof) without prior
Office of Thrift Supervision approval, (2) acquiring more than 5% of the voting
shares of a savings institution (or holding company thereof) which is not a
subsidiary, subject to certain exceptions, without prior Office of Thrift
Supervision approval, or (3) acquiring through a merger, consolidation or
purchase of assets of another savings institution (or holding company thereof)
or acquiring all or substantially all of the assets of another savings
institution (or holding company thereof) without prior Office of Thrift
Supervision approval or (4) acquiring control of an uninsured institution. A
savings and loan holding company may not acquire as a separate subsidiary a
savings institution which has its principal offices outside of the state where
the principal offices of its subsidiary institution is located, except (a) in
the case of certain emergency acquisitions approved by the Federal Deposit
Insurance Corporation, (b) if the holding company controlled (as defined) such
savings institution as of March 5, 1987 or (c) when the laws of the state in
which the savings institution to be acquired is located specifically authorize
such an acquisition. No director or officer of a savings and loan holding
company or person owning or controlling more than 25% of such holding company's
voting shares may, except with the prior approval of the Office of Thrift
Supervision, acquire control of any savings institution which is not a
subsidiary of such holding company.
WILLOW GROVE BANK
INSURANCE OF ACCOUNTS. The deposits of Willow Grove Bank are insured to
the maximum extent permitted by the Savings Association Insurance Fund, which is
administered by the Federal Deposit Insurance Corporation, and are backed by the
full faith and credit of the U.S. Government. As insurer, the Federal Deposit
Insurance Corporation is authorized to conduct examinations of, and to require
reporting by, insured institutions. It also may prohibit any insured institution
from engaging in any activity the Federal Deposit Insurance Corporation
determines by regulation or order to pose a serious threat to the Federal
Deposit Insurance Corporation. The Federal Deposit Insurance Corporation also
has the authority to initiate enforcement actions against savings institutions,
after giving the Office of Thrift Supervision an opportunity to take such
action.
Under current Federal Deposit Insurance Corporation regulations, Savings
Association Insurance Fund-insured institutions are assigned to one of three
capital groups which are based solely on the level of an institution's capital -
"well capitalized," "adequately capitalized," and "undercapitalized" - which are
defined in the same manner as the regulations establishing the prompt corrective
action system discussed below. These three groups are then divided into three
subgroups which reflect varying levels of supervisory concern, from those which
are considered to be healthy to those which are considered to be of substantial
supervisory concern. The matrix so created results in nine assessment risk
classifications, with rates during the last six months of 2001 ranging from zero
for well capitalized, healthy institutions, such as Willow Grove Bank, to 27
basis points for undercapitalized institutions with substantial supervisory
concerns.
In addition, all institutions with deposits insured by the Federal Deposit
Insurance Corporation are required to pay assessments to fund interest payments
on bonds issued by the Financing Corporation, a mixed-ownership government
corporation established to recapitalize the predecessor to the Savings
Association Insurance Fund. The assessment rate for the third quarter of 2002
was .0172% of insured deposits and is adjusted quarterly. These assessments will
continue until the Financing Corporation bonds mature in 2019.
The Federal Deposit Insurance Corporation may terminate the deposit
insurance of any insured depository institution, including Willow Grove Bank, if
it determines after a hearing that the institution has engaged or is engaging in
unsafe or unsound practices, is in an unsafe or unsound condition to continue
operations, or has violated any applicable law, regulation, order or any
condition imposed by an agreement with the Federal Deposit Insurance
Corporation. It also may suspend deposit insurance temporarily during the
hearing process for the permanent termination of insurance, if the institution
has no tangible capital. If insurance of accounts is terminated, the accounts at
the institution at the time of the termination, less subsequent withdrawals,
shall continue to be insured for a period of six months to two years, as
determined by the Federal Deposit Insurance Corporation. Management is aware of
no existing circumstances which would result in termination of Willow Grove
Bank's deposit insurance.
REGULATORY CAPITAL REQUIREMENTS. The Office of Thrift Supervision capital
requirements consist of a "tangible capital requirement," a "leverage capital
requirement" and a "risk-based capital requirement." The Office
23
of Thrift Supervision is authorized to impose capital requirements in excess of
those standards on individual institutions on a case-by-case basis.
Under the tangible capital requirement, a savings bank must maintain
tangible capital in an amount equal to at least 1.5% of adjusted total assets.
Tangible capital is defined as core capital less all intangible assets
(including supervisory goodwill), plus a specified amount of purchased mortgage
servicing rights.
Under the leverage capital requirement adopted by the Office of Thrift
Supervision, savings banks must maintain "core capital" in an amount equal to at
least 3.0% of adjusted total assets. Core capital is defined as common
stockholders' equity (including retained earnings), non-cumulative perpetual
preferred stock, and minority interests in the equity accounts of consolidated
subsidiaries, plus purchased mortgage servicing rights valued at the lower of
90% of fair market value, 90% of original cost or the current amortized book
value as determined under generally accepted accounting principles, and
"qualifying supervisory goodwill," less non-qualifying intangible assets.
Under the risk-based capital requirement, a savings bank must maintain
total capital (which is defined as core capital plus supplementary capital)
equal to at least 8.0% of risk-weighted assets. A savings bank must calculate
its risk-weighted assets by multiplying each asset and off-balance sheet item by
various risk factors, which range from 0% for cash and securities issued by the
United States Government or its agencies to 100% for repossessed assets or loans
more than 90 days past due. Qualifying one- to four-family residential real
estate loans and qualifying multi-family residential real estate loans (not more
than 90 days delinquent and having an 80% or lower loan-to-value ratio), which
at June 30, 2002, represented 59.6% of the total loans receivable of Willow
Grove Bank, are weighted at a 50% risk factor. Supplementary capital may
include, among other items, cumulative perpetual preferred stock, perpetual
subordinated debt, mandatory convertible subordinated debt, intermediate-term
preferred stock, and general allowances for loan losses. The allowance for loan
losses includable in supplementary capital is limited to 1.25% of risk-weighted
assets. The amount of supplementary capital that can be included is limited to
100% of core capital.
Certain exclusions from capital and assets are required to be made for the
purpose of calculating total capital, in addition to the adjustments required
for calculating core capital. Such exclusions consist of equity investments (as
defined by regulation) and that portion of land loans and non-residential
construction loans in excess of an 80% loan-to-value ratio and reciprocal
holdings of qualifying capital instruments. However, in calculating regulatory
capital, institutions can add back unrealized losses and deduct unrealized gains
net of taxes, on debt securities reported as a separate component of capital
calculated according to generally accepted accounting principles.
Office of Thrift Supervision regulations establish special capitalization
requirements for savings banks that own service corporations and other
subsidiaries, including subsidiary savings banks. According to these
regulations, certain subsidiaries are consolidated for capital purposes and
others are excluded from assets and capital. In determining compliance with the
capital requirements, all subsidiaries engaged solely in activities permissible
for national banks, engaged solely in mortgage-banking activities, or engaged in
certain other activities solely as agent for its customers are "includable"
subsidiaries that are consolidated for capital purposes in proportion to Willow
Grove Bank's level of ownership, including the assets of includable subsidiaries
in which Willow Grove Bank has a minority interest that is not consolidated for
generally accepted accounting principles purposes. For excludable subsidiaries,
the debt and equity investments in such subsidiaries are deducted from assets
and capital. At June 30, 2002, Willow Grove Bank had no investments subject to a
deduction from tangible capital.
Under currently applicable Office of Thrift Supervision policy, savings
institutions must value securities available for sale at amortized cost for
regulatory capital purposes. This means that in computing regulatory capital,
savings institutions should add back any unrealized losses and deduct any
unrealized gains, net of income taxes, on debt securities reported as a separate
component of capital calculated according to generally accepted accounting
principles.
At June 30, 2002, Willow Grove Bank exceeded all of its regulatory capital
requirements, with tangible, core and risk-based capital ratios of 10.9%, 10.9%
and 15.0%, respectively.
24
The Office of Thrift Supervision and the Federal Deposit Insurance
Corporation generally are authorized to take enforcement action against a
savings bank that fails to meet its capital requirements, which action may
include restrictions on operations and banking activities, the imposition of a
capital directive, a cease-and-desist order, civil money penalties or harsher
measures such as the appointment of a receiver or conservator or a forced merger
into another institution. In addition, under current regulatory policy, a
savings bank that fails to meet its capital requirements is prohibited from
paying any dividends.
PROMPT CORRECTIVE ACTION. Under the Federal Deposit Insurance Corporation
Improvement Act of 1991, the federal banking regulators are required to take
prompt corrective action if an insured depository institution fails to satisfy
certain minimum capital requirements, including a leverage limit, a risk-based
capital requirement, and any other measure of capital deemed appropriate by the
federal banking regulator for measuring the capital adequacy of an insured
depository institution. All institutions, regardless of their capital levels,
are restricted from making any capital distribution or paying management fees if
the institution would thereafter fail to satisfy the minimum levels for any of
its capital requirements.
Under the Federal Deposit Insurance Corporation Improvement Act an
institution is deemed to be (a) "well capitalized" if it has total risk-based
capital of 10.0% or more, has a Tier 1 risk-based capital ratio of 6.0% or more,
has a Tier 1 leverage capital ratio of 5.0% or more and is not subject to any
order or final capital directive to meet and maintain a specific capital level
for any capital measure, (b) "adequately capitalized" if it has a total
risk-based capital ratio of 8.0% or more, a Tier 1 risk-based capital ratio of
4.0% or more and a Tier 1 leverage capital ratio of 4.0% or more (3.0% under
certain circumstances) and does not meet the definition of "well capitalized,"
(c) "undercapitalized" if it has a total risk-based capital ratio that is less
than 8.0%, a Tier 1 risk-based capital ratio that is less than 4.0% or a Tier 1
leverage capital ratio that is less than 4.0% (3.0% under certain
circumstances), (d) "significantly undercapitalized" if it has a total
risk-based capital ratio that is less than 6.0%, a Tier 1 risk-based capital
ratio that is less than 3.0% or a Tier 1 leverage capital ratio that is less
than 3.0%, and (e) "critically undercapitalized" if it has a ratio of tangible
equity to total assets that is equal to or less than 2.0%. Under specified
circumstances, a federal banking agency may reclassify a well capitalized
institution as adequately capitalized and may require an adequately capitalized
institution or an undercapitalized institution to comply with supervisory
actions as if it were in the next lower category (except that the Federal
Deposit Insurance Corporation may not reclassify a significantly
undercapitalized institution as critically undercapitalized).
An institution generally must file a written capital restoration plan
which meets specified requirements with its appropriate federal banking agency
within 45 days of the date that the institution receives notice or is deemed to
have notice that it is undercapitalized, significantly undercapitalized or
critically undercapitalized. A federal banking agency must provide the
institution with written notice of approval or disapproval within 60 days after
receiving a capital restoration plan, subject to extensions by the agency. An
institution which is required to submit a capital restoration plan must
concurrently submit a performance guaranty by each company that controls the
institution. In addition, undercapitalized institutions are subject to various
regulatory restrictions, and the appropriate federal banking agency also may
take any number of discretionary supervisory actions.
At June 30, 2002, Willow Grove Bank was in the "well capitalized" category
for purposes of the above regulations.
SAFETY AND SOUNDNESS GUIDELINES. The Office of Thrift Supervision and the
other federal bank regulatory agencies have established guidelines for safety
and soundness, addressing operational and managerial standards, as well as
compensation matters for insured financial institutions. Institutions failing to
meet these standards may be required to submit compliance plans to their
appropriate federal regulators. The Office of Thrift Supervision and the other
agencies have also established guidelines regarding asset quality and earnings
standards for insured institutions. Willow Grove Bank believes that it is in
compliance with these guidelines and standards.
CAPITAL DISTRIBUTIONS. Office of Thrift Supervision regulations govern
capital distributions by savings institutions, which include cash dividends,
stock repurchases and other transactions charged to the capital account of a
savings institution to make capital distributions. A savings institution must
file an application for Office of Thrift Supervision approval of the capital
distribution if any of the following occur or would occur as a result of the
capital distribution (1) the total capital distributions for the applicable
calendar year exceed the sum of the institution's net income for that year to
date plus the institution's retained net income for the preceding two years, (2)
the institution
25
would not be at least adequately capitalized following the distribution, (3) the
distribution would violate any applicable statute, regulation, agreement or
Office of Thrift Supervision-imposed condition, or (4) the institution is not
eligible for expedited treatment of its filings. If an application is not
required to be filed, savings institutions which are a subsidiary of a holding
company (as well as certain other institutions) must still file a notice with
the Office of Thrift Supervision at least 30 days before the board of directors
declares a dividend or approves a capital distribution.
BRANCHING BY FEDERAL SAVINGS INSTITUTIONS. Office of Thrift Supervision
policy permits interstate branching to the full extent permitted by statute
(which is essentially unlimited). Generally, federal law prohibits federal
savings institutions from establishing, retaining or operating a branch outside
the state in which the federal institution has its home office unless the
institution meets the IRS' domestic building and loan test (generally, 60% of a
thrift's assets must be housing-related) ("IRS Test"). The IRS Test requirement
does not apply if: (a) the branch(es) result(s) from an emergency acquisition of
a troubled savings institution (however, if the troubled savings institution is
acquired by a bank holding company, does not have its home office in the state
of the bank holding company bank subsidiary and does not qualify under the IRS
Test, its branching is limited to the branching laws for state-chartered banks
in the state where the savings institution is located); (b) the law of the state
where the branch would be located would permit the branch to be established if
the federal savings institution were chartered by the state in which its home
office is located; or (c) the branch was operated lawfully as a branch under
state law prior to the savings institution's reorganization to a federal
charter.
Furthermore, the Office of Thrift Supervision will evaluate a branching
applicant's record of compliance with the Community Reinvestment Act of 1977. An
unsatisfactory Community Reinvestment Act record may be the basis for denial of
a branching application.
COMMUNITY REINVESTMENT ACT AND THE FAIR LENDING LAWS. Savings institutions
have a responsibility under the Community Reinvestment Act and related
regulations of the Office of Thrift Supervision to help meet the credit needs of
their communities, including low- and moderate-income neighborhoods. In
addition, the Equal Credit Opportunity Act and the Fair Housing Act prohibit
lenders from discriminating in their lending practices on the basis of
characteristics specified in those statutes. An institution's failure to comply
with the provisions of the Community Reinvestment Act could, at a minimum,
result in regulatory restrictions on its activities, and failure to comply with
the fair lending laws could result in enforcement actions by the Office of
Thrift Supervision, as well as other federal regulatory agencies and the
Department of Justice.
QUALIFIED THRIFT LENDER TEST. All savings institutions are required to
meet a qualified thrift lender test to avoid certain restrictions on their
operations. Under Section 2303 of the Economic Growth and Regulatory Paperwork
Reduction Act of 1996, a savings institution can comply with the qualified
thrift lender test by either qualifying as a domestic building and loan bank as
defined in Section 7701(a)(19) of the Internal Revenue Code or by meeting the
second prong of the qualified thrift lender test set forth in Section 10(m) of
the Home Owner's Loan Act. A savings institution that does not meet the
qualified thrift lender test must either convert to a bank charter or comply
with the following restrictions on its operations: (a) the institution may not
engage in any new activity or make any new investment, directly or indirectly,
unless such activity or investment is permissible for a national bank; (b) the
branching powers of the institution shall be restricted to those of a national
bank; (c) the institution shall not be eligible to obtain any new advances from
its Federal Home Loan Bank, other than special liquidity advances with the
approval of the Office of Thrift Supervision; and (d) payment of dividends by
the institution shall be subject to the rules regarding payment of dividends by
a national bank. Upon the expiration of three years from the date the savings
institution ceases to be a qualified thrift lender, it must cease any activity
and not retain any investment not permissible for a national bank and
immediately repay any outstanding Federal Home Loan Bank advances (subject to
safety and soundness considerations).
Currently, the portion of the qualified thrift lender test that is based
on Section 10(m) of the Home Owners' Loan Act rather than the Internal Revenue
Code requires that 65% of an institution's "portfolio assets" (as defined)
consist of certain housing and consumer-related assets on a monthly average
basis in nine out of every 12 months. Assets that qualify without limit for
inclusion as part of the 65% requirement are loans made to purchase, refinance,
construct, improve or repair domestic residential housing and manufactured
housing; home equity loans; mortgage-backed securities (where the mortgages are
secured by domestic residential housing or manufactured housing); stock issued
by the Federal Home Loan Bank of Pittsburgh; and direct or indirect obligations
of the Federal Deposit
26
Insurance Corporation. Small business loans, credit card loans and student loans
are also included without limitation as qualified investments. In addition, the
following assets, among others, may be included in meeting the test subject to
an overall limit of 20% of the savings institution's portfolio assets: 50% of
residential mortgage loans originated and sold within 90 days of origination;
100% of loans for personal, family and household purposes (other than credit
card loans and educational loans); and stock issued by Fannie Mae or Freddie
Mac. Portfolio assets consist of total assets minus the sum of (a) goodwill and
other intangible assets, (b) property used by the savings institution to conduct
its business, and (c) liquid assets up to 20% of the institution's total assets.
At June 30, 2002, approximately 97.04% of the portfolio assets of Willow Grove
Bank were qualified thrift investments.
FEDERAL HOME LOAN BANK SYSTEM. Willow Grove Bank is a member of the
Federal Home Loan Bank of Pittsburgh, which is one of 12 regional Federal Home
Loan Banks that administer the home financing credit function of savings
institutions. Each Federal Home Loan Bank serves as a reserve or central bank
for its members within its assigned region. It is funded primarily from proceeds
derived from the sale of consolidated obligations of the Federal Home Loan Bank
System. It makes loans to members (i.e., advances) in accordance with policies
and procedures established by its board of directors. At June 30, 2002, Willow
Grove Bank had $97.8 million of Federal Home Loan Bank advances.
As a member, Willow Grove Bank is required to purchase and maintain stock
in the Federal Home Loan Bank of Pittsburgh in an amount equal to at least 1% of
its aggregate unpaid residential mortgage loans, home purchase contracts or
similar obligations at the beginning of each year or 5% of the members'
aggregate amount of outstanding advances. At June 30, 2002, Willow Grove Bank
had $5.0 million in stock of the Federal Home Loan Bank of Pittsburgh, which was
in compliance with this requirement.
The Federal Home Loan Banks are required to provide funds for the
resolution of troubled savings institutions and to contribute to affordable
housing programs through direct loans or interest subsidies on advances targeted
for community investment and low- and moderate-income housing projects. These
contributions have adversely affected the level of Federal Home Loan Bank
dividends paid and could continue to do so in the future and could also result
in the Federal Home Loan Banks imposing higher interest rates on advances to
members. These contributions also could have an adverse effect on the value of
Federal Home Loan Bank stock in the future.
FEDERAL RESERVE SYSTEM. Federal Reserve Board regulations require all
depository institutions to maintain non-interest earning reserves against their
transaction accounts (primarily NOW and Super NOW checking accounts) and
non-personal time deposits. At June 30, 2002, Willow Grove Bank was in
compliance with these reserve requirements. The balances maintained to meet the
reserve requirements imposed by the Federal Reserve Board may be used to satisfy
liquidity requirements that may be imposed by the Office of Thrift Supervision.
Savings banks are authorized to borrow from a Federal Reserve Bank
"discount window," but Federal Reserve Board regulations require savings banks
to exhaust other reasonable alternative sources of funds, including Federal Home
Loan Bank advances, before borrowing from a Federal Reserve Bank.
AFFILIATE RESTRICTIONS. Section 11 of the Home Owners' Loan Act provides
that transactions between an insured subsidiary of a holding company and an
affiliate thereof will be subject to the restrictions that apply to transactions
between banks that are members of the Federal Reserve System and their
affiliates pursuant to Sections 23A and 23B of the Federal Reserve Act.
Generally, Sections 23A and 23B and Office of Thrift Supervision
regulations issued in connection therewith limit the extent to which a savings
institution or its subsidiaries may engage in certain "covered transactions"
with affiliates to an amount equal to 10% of the institution's capital and
surplus, in the case of covered transactions with any one affiliate, and to an
amount equal to 20% of such capital and surplus, in the case of covered
transactions with all affiliates. Section 23B applies to "covered transactions"
and certain other transactions and requires that all such transactions be on
terms and under circumstances that are substantially the same, or at least as
favorable to the savings institution or its subsidiary, as those prevailing at
the time for comparable transactions with nonaffiliated companies. A "covered
transaction" is defined to include a loan or extension of credit to an
affiliate; a purchase of investment securities issued by an affiliate; a
purchase of assets from an affiliate, with certain exceptions; the acceptance of
securities issued by an affiliate as collateral for a loan or extension of
credit to any
27
party; or the issuance of a guarantee, acceptance or letter of credit on behalf
of an affiliate. Section 23B transactions also apply to the provision of
services and the sale of assets by a savings association to an affiliate.
In addition, under Office of Thrift Supervision regulations, a savings
institution may not make a loan or extension of credit to an affiliate unless
the affiliate is engaged only in activities permissible for bank holding
companies; a savings institution may not purchase or invest in securities of an
affiliate other than shares of a subsidiary; a savings institution and its
subsidiaries may not purchase a low-quality asset from an affiliate; and covered
transactions and certain other transactions between a savings institution or its
subsidiaries and an affiliate must be on terms and conditions that are
consistent with safe and sound banking practices. With certain exceptions, each
loan or extension of credit by a savings institution to an affiliate must be
secured by collateral with a market value ranging from 100% to 130% (depending
on the type of collateral) of the amount of the loan or extension of credit.
The Office of Thrift Supervision regulation generally excludes all
non-bank and non-savings institution subsidiaries of savings institutions from
treatment as affiliates, except to the extent that the Office of Thrift
Supervision or the Federal Reserve Board decides to treat such subsidiaries as
affiliates. The regulation also requires savings institutions to make and retain
records that reflect affiliate transactions in reasonable detail, and provides
that certain classes of savings institutions may be required to give the Office
of Thrift Supervision prior notice of affiliate transactions.
FEDERAL SECURITIES LAW
Our common stock is registered with the SEC under the Securities Exchange
Act of 1934, as amended, and under Office of Thrift Supervision regulations, and
generally may not be deregistered for at least three years after the April 2002
subscription offering. We are subject to the information, proxy solicitation,
insider trading restrictions and other requirements of the Securities Exchange
Act of 1934, as amended.
SARBANES-OXLEY ACT OF 2002
On July 30, 2002, the President signed into law the Sarbanes-Oxley Act of
2002 implementing legislative reforms intended to address corporate and
accounting fraud. In addition to the establishment of a new accounting oversight
board which will enforce auditing, quality control and independence standards
and will be funded by fees from all publicly traded companies, the bill
restricts provision of both auditing and consulting services by accounting
firms. To ensure auditor independence, any non-audit services being provided to
an audit client will require preapproval by the company's audit committee
members. In addition, the audit partners must be rotated. The bill requires
chief executive officers and chief financial officers, or their equivalent, to
certify to the accuracy of periodic reports filed with the SEC, subject to civil
and criminal penalties if they knowingly or willfully violate this certification
requirement. In addition, under the Act, counsel will be required to report
evidence of a material violation of the securities laws or a breach of fiduciary
duty by a company to its chief executive officer or its chief legal officer,
and, if such officer does not appropriately respond, to report such evidence to
the audit committee or other similar committee of the board of directors or the
board itself.
Longer prison terms will also be applied to corporate executives who
violate federal securities laws, the period during which certain types of suits
can be brought against a company or its officers has been extended, and bonuses
issued to top executives prior to restatement of a company's financial
statements are now subject to disgorgement if such restatement was due to
corporate misconduct. Executives are also prohibited from insider trading during
retirement plan "blackout" periods, and loans to company executives are
restricted. In addition, a provision directs that civil penalties levied by the
SEC as a result of any judicial or administrative action under the Act be
deposited to a fund for the benefit of harmed investors. The Federal Accounts
for Investor Restitution ("FAIR") provision also requires the SEC to develop
methods of improving collection rates. The legislation accelerates the time
frame for disclosures by public companies, as they must immediately disclose any
material changes in their financial condition or operations. Directors and
executive officers must also provide information for most changes in ownership
in a company's securities within two business days of the change.
The Act also increases the oversight of, and codifies certain requirements
relating to audit committees of public companies and how they interact with the
company's "registered public accounting firm" ("RPAF"). Audit
28
committee members must be independent and are barred from accepting consulting,
advisory or other compensatory fees from the issuer. In addition, companies must
disclose whether at least one member of the committee is a "financial expert"
(as such term will be defined by the SEC) and if not, why not. Under the Act, a
RPAF is prohibited from performing statutorily mandated audit services for a
company if such company's chief executive officer, chief financial officer,
comptroller, chief accounting officer or any person serving in equivalent
positions has been employed by such firm and participated in the audit of such
company during the one-year period preceding the audit initiation date. The Act
also prohibits any officer or director of a company or any other person acting
under their direction from taking any action to fraudulently influence, coerce,
manipulate or mislead any independent public or certified accountant engaged in
the audit of the company's financial statements for the purpose of rendering the
financial statement's materially misleading. The Act also requires the SEC to
prescribe rules requiring inclusion of an internal control report and assessment
by management in the annual report to shareholders. The Act requires the RPAF
that issues the audit report to attest to and report on management's assessment
of the company's internal controls. In addition, the Act requires that each
financial report required to be prepared in accordance with (or reconciled to)
generally accepted accounting principles and filed with the SEC reflect all
material correcting adjustments that are identified by a RPAF in accordance with
generally accepted accounting principles and the rules and regulations of the
SEC.
TAXATION
FEDERAL TAXATION
GENERAL. We are subject to federal income taxation in the same general
manner as other corporations with some exceptions listed below. The following
discussion of federal taxation is only intended to summarize certain pertinent
federal income tax matters and is not a comprehensive description of the
applicable tax rules. Our federal income tax returns have been closed without
audit by the Internal Revenue Service ("IRS") through 1995.
We will file a consolidated federal income tax return which includes the
Bank. Accordingly, it is anticipated that any cash distributions made by us
would be treated as cash dividends, and not as a non-taxable return of capital
to stockholders for federal and state tax purposes.
METHOD OF ACCOUNTING. For federal income tax purposes, we report our
income and expenses on the accrual method of accounting and file our federal
income tax return using a June 30 fiscal year end.
BAD DEBT RESERVES. The Small Business Protection Act of 1996 (the "1996
Act") eliminated the use of the reserve method of accounting for bad debt
reserves by savings institutions, effective for taxable years beginning after
1995. Prior to the 1996 Act, the Bank was permitted to establish a reserve for
bad debts and to make additions to the reserve. These additions could, within
specified formula limits, be deducted in arriving at taxable income. As a result
of the 1996 Act, savings associations must use the specific chargeoff method in
computing their bad debt deduction beginning with their 1996 federal tax return.
In addition, federal legislation requires the recapture (over a six year period)
of the excess of tax bad debt reserves at December 31, 1995 over those
established as of December 31, 1987. The amount of the Bank's reserve subject to
recapture as of June 30, 2002 is approximately $800,000.
TAXABLE DISTRIBUTIONS AND RECAPTURE. Prior to the 1996 Act, bad debt
reserves created prior to January 1, 1988 were subject to recapture into taxable
income if the Bank failed to meet certain thrift asset and definitional tests.
New federal legislation eliminated these thrift related recapture rules.
However, under current law, pre-1988 reserves remain subject to recapture should
the Bank make certain non-dividend distributions or ceases to maintain a bank
charter.
At June 30, 2002, the Bank's total federal pre-1988 reserve was
approximately $6.2 million. The reserve reflects the cumulative effects of
federal tax deductions for which no federal income tax provisions have been
made.
MINIMUM TAX. The Code imposes an alternative minimum tax ("AMT") at a rate
of 20% on a base of regular taxable income plus certain tax preferences
("alternative minimum taxable income" or "AMTI"). The AMT is payable to the
extent such AMTI is in excess of an exemption amount. Net operating losses can
offset no more than 90% of AMTI. Certain payments of alternative minimum tax may
be used as credits against regular tax
29
liabilities in future years. We have not been subject to the AMT nor do we have
any such amounts available as credits for carryover.
NET OPERATING LOSS CARRYOVERS. We may carry back net operating losses to
the three preceding taxable years and forward to the succeeding 15 taxable
years. This provision applies to losses incurred in taxable years beginning
before August 6, 1997. For net operating losses in years beginning after August
5, 1997, such net operating losses can be carried back to the two preceding
taxable years and forward to the succeeding 20 taxable years. At June 30, 2001,
we had no net operating loss carryforwards for federal income tax purposes.
CORPORATE DIVIDENDS-RECEIVED DEDUCTION. We may exclude from income 100% of
dividends received from a member of the same affiliated group of corporations.
The corporate dividends received deduction is 80% in the case of dividends
received from corporations which a corporate recipient owns less than 80%, but
at least 20% of the distribution corporation. Corporations which own less than
20% of the stock of a corporation distributing a dividend may deduct only 70% of
dividends received.
STATE AND LOCAL TAXATION
PENNSYLVANIA TAXATION. We are subject to the Pennsylvania Corporate Net
Income Tax and Capital Stock and Franchise Tax. The Corporation Net Income Tax
rate for 1998 is 9.99% and is imposed on unconsolidated taxable income for
federal purposes with certain adjustments. In general, the Capital Stock Tax is
a property tax imposed at the rate of approximately 1.2% of a corporation's
capital stock value, which is determined in accordance with a fixed formula
based upon average net income and net worth.
The Bank is subject to tax under the Pennsylvania Mutual Thrift
Institutions Tax Act (the "MTIT"), as amended to include thrift institutions
having capital stock. Pursuant to the MTIT, the tax rate is 11.5%. The MTIT
exempts the Bank from other taxes imposed by the Commonwealth of Pennsylvania
for state income tax purposes and from all local taxation imposed by political
subdivisions, except taxes on real estate and real estate transfers. The MTIT is
a tax upon net earnings, determined in accordance with generally accepted
accounting principles ("GAAP") with certain adjustments. The MTIT, in computing
GAAP income, allows for the deduction of interest earned on state and federal
obligations, while disallowing a percentage of a thrift's interest expense
deduction in the proportion of interest income on those securities to the
overall interest income of the Bank. Net operating losses, if any, thereafter
can be carried forward three years for MTIT purposes.
30
ITEM 2. PROPERTIES
We operate from the following locations:
At June 30, 2002
----------------
Owned or Lease
Leased expiration date Net book value Deposits
------ --------------- -------------- --------
(DOLLARS IN THOUSANDS)
Executive Office:
- -----------------
Welsh and Norristown Roads (1) Owned n/a $1,795 $120,185
Maple Glen, PA 19002-8030
Operations Center: Leased August 2004 72 n/a
- ------------------
101 Witmer Road
Horsham, PA 19044-2200
Branch Offices:
- ---------------
1555 W. Street Road Leased January 2006 n/m 50,878
Warminster, PA 18974-3103
1141 Ivyland Road Leased June 2004 17 22,549
Warminster, PA 18974-2048
9 Easton Road (2) Owned n/a 1,082 114,868
Willow Grove, PA 19090-0905
701 Twining Road Owned n/a 764 59,399
Dresher, PA 19025-1894
761 Huntingdon Pike Owned n/a 326 49,547
Huntingdon Valley, PA 19006-8399
2 N. York Road Leased May 2007 4 28,179
Hatboro, PA 19040-3201
1331 Easton Road Leased December 2004 36 10,953
Roslyn, PA 19001-2426
11730 Bustleton Avenue Leased February 2004 24 34,599
Philadelphia, PA 19116-2516
122 N. Main Street Leased February 2010 96 9,445
North Wales, PA 19454-3115
8200 Castor Avenue Leased December 2009 146 20,089
Philadelphia, PA 19152-2719
735 Davisville Road Leased May 2011 175 7,979
Southampton, PA 18966-3276
1452 Buck Road (3) Leased April 2007 222 1,082
C-8 Village Shires Center
Holland, PA 18966-2626
- -------------------------------
(1) Includes adjacent nine-acre parcel that could be used for future
expansion.
(2) Includes adjacent parcel of land with an existing structure.
(3) Opened in April 2002.
31
ITEM 3. LEGAL PROCEEDINGS
ATS PRODUCTS CORP. VS. WILLOW GROVE BANK, (United State Bankruptcy Court,
Eastern District of Pennsylvania). On May 2, 2001, a lawsuit was filed against
the Bank alleging four causes of action related to a line of credit between the
Bank and the plaintiff. The causes of action are: breach of contract, fraud,
negligent misrepresentation and breach of fiduciary duty. The plaintiff seeks
compensatory damages in an amount in excess of $150,000, punitive damages,
attorney's fees, costs and litigation expenses as well as other relief. The
plaintiff alleges that its actual damages may exceed $10 million. Discovery in
this case has been delayed due to a change of the plaintiff's status to a
Chapter 7 Bankruptcy. The Bank will vigorously defend the claims made by the
plaintiff and believes that the claims are without merit.
Other than the above referenced litigation, the Company is involved in
various legal proceedings occurring in the ordinary course of business.
Management of the Company, based on discussions with litigation counsel,
believes that such proceedings will not have a material adverse effect on the
financial condition or operations of the Company. There can be no assurance that
any of the outstanding legal proceedings to which the Company is a party will
not be decided adversely to the Company's interests and have a material adverse
effect on the financial condition and operations of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable
32
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDERS MATTERS
Our common stock is traded on the National Stock Market (NASDAQ) under the
symbol WGBC. Local newspapers listings include WillowG and WillGrvBcp. At
September 20, 2002 there were 1,992 registered shareholders of record, not
including the number of persons or entities whose stock is held in nominee or
"street" name through various brokerage firms and banks. The following table
shows the quarterly high and low trading prices of our stock and the amount of
cash dividends declared per share for our past three fiscal years. Data prior to
April 3, 2002 has been restated to reflect the 2.28019 exchange of shares of the
former Willow Grove Bancorp, Inc for shares of the new Willow Grove Bancorp,
Inc. stock.
Stock Price Cash dividends
High Low per share
Quarter ended:
June 30, 2002 $12.33 $10.00 $0.070
March 31, 2002 9.76 8.29 0.057
December 31, 2001 8.48 7.16 0.057
September 30, 2001 7.67 5.44 0.053
June 30, 2001 5.44 5.10 0.053
March 31, 2001 5.37 5.04 0.048
December 31, 2000 5.24 4.71 0.048
September 30, 2000 5.02 4.47 0.044
The information for all equity based and individual compensation
arrangements is incorporated by reference from Item 12 hereof.
33
ITEM 6. SELECTED FINANCIAL DATA
At June 30
----------------------------------------------------------
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
(DOLLARS IN THOUSANDS)
Total assets $ 759,714 $ 625,148 $ 560,123 $ 472,039 $ 405,374
Cash and cash equivalents 31,986 22,209 14,681 4,889 18,291
Securities held to maturity 13,973 - - - -
Securities available for sale 254,687 130,358 70,577 80,055 48,111
Loans held for sale 1,574 2,644 35,753 - 12,152
Loans receivable, net 443,855 454,199 424,940 374,584 315,705
Deposits 529,752 497,030 452,857 390,681 340,793
Borrowings 97,824 59,885 37,517 14,986 21,000
Total stockholders' equity 124,277 60,357 60,643 58,442 35,945
For the year ended June 30
----------------------------------------------------------
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
Interest income $ 44,818 $ 44,285 $ 38,893 $ 32,015 $ 28,604
Interest expense 21,463 24,216 19,369 16,164 15,097
Net interest income 23,355 20,069 19,524 15,851 13,507
Provision for loan loss 1,212 7,856 706 531 993
Net interest income after provision for loan loss 22,143 12,213 18,818 15,320 12,514
Non-interest income 2,461 1,787 1,102 1,009 760
Non-interest expense 16,455 13,875 12,076 10,652 9,462
Income before income taxes 8,149 125 7,844 5,677 3,812
Income tax expense (benefit) 2,690 (32) 3,001 2,044 1,367
Net income 5,459 157 4,843 3,633 2,445
Earnings per share - diluted (1) (2) $0.51 $0.01 $0.43 $0.20 n/a
Earnings per share - basic (1) (2) $0.53 $0.01 $0.43 $0.20 n/a
Cash dividends declared per share (1) (2) $0.23 $0.19 $0.16 $0.04 n/a
Dividend payout ratio (2) (3) (4) 45.22% n/m 36.68% 11.34% n/a
- -----------------------------------
(1) Data prior to April 3, 2002 adjusted for 2.28019 exchange ratio in
connection with the April 3, 2002 Reorganization and subscription
offering.
(2) Earnings per share data prior to January 1, 1999 is not applicable
(3) Data for June 30, 2001 is not meaningful
(4) For the years 2002, 2001, 2000 and 1999 includes dividends waived by
the Mutual Holding Company of $1.1 million, $1.2 million, $1.0
million and $225,000, respectively
34
ITEM 6. SELECTED FINANCIAL DATA (CONTINUED)
At or for the year ended june 30
----------------------------------------------------------
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
Return on average assets 0.82% 0.03% 0.93% 0.84% 0.65%
Return on average equity 7.53% 0.25% 8.09% 7.63% 6.81%
Average interest-earning assets to
average interest-bearing liabilities 121.77% 120.93% 121.64% 120.64% 108.22%
Interest rate spread (5) 2.89% 2.59% 3.00% 2.97% 3.12%
Interest rate margin (6) 3.61% 3.46% 3.83% 3.76% 3.71%
Non-performing assets to total assets (7) 0.76% 0.83% 22.00% 0.23% 0.37%
Allowance for loan loss to:
Non-performing loans 81.57% 83.25% 310.91% 293.82% 178.98%
Total loans less deferred fees 1.03% 0.94% 0.91% 0.83% 0.84%
Average equity to average assets 10.89% 10.64% 11.87% 11.02% 9.59%
Tangible equity to end of period assets 16.23% 9.45% 10.55% 11.97% 8.28%
Total capital to risk-weighted assets (8) 20.40% 14.99% 15.71% 18.10% 14.89%
- -----------------------------------
(5) The weighted average yield on interest-earning assets less the
weighted average cost of interest-bearing liabilities
(6) This represents net interest income as a percentage of average
interest-earning assets
(7) Non-performing assets equal non-accrual loans, troubled debt
re-structurings plus accruing loans 90 or more days past due and
real estate owned
(8) Bank only
35
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion is intended to assist in understanding our
financial condition, and the results of operations for Willow Grove Bancorp,
Inc. and its subsidiary Willow Grove Bank for the fiscal years ended June 30,
2002, 2001and 2000. The information in this section should be read in
conjunction with the Company's Financial Statements and the accompanying Notes
included elsewhere herein.
GENERAL
Our net income is primarily based upon our net interest income, which is
the difference between the income earned on interest-bearing assets and the
interest paid on interest-bearing liabilities and the relative amount of our
interest-earning assets to interest-bearing liabilities. Non-interest income and
expenses, the provision for loan losses and income tax expense also affect our
results of operations.
CRITICAL ACCOUNTING POLICIES
The following discussion and analysis of our financial condition and
results of operations is based upon consolidated financial statements which have
been prepared in accordance with accounting principles generally accepted in the
United States of America. The preparation of these financial statements requires
management to make estimates and judgments that affect the reported amounts of
assets and liabilities, revenues and expenses and related disclosures of
contingent asset and liabilities at the date of our financial statements. Actual
results may differ from these estimates under different assumptions or
conditions.
In management's opinion, the most critical accounting policies affecting
our consolidated financial statements are:
1. EVALUATION OF THE ALLOWANCE FOR LOAN LOSSES. The determination of
the allowance for loan losses involves significant judgment and
assumptions by management which may have a material impact on the
carrying value of net loans and potential on the net income we
recognize from period to period. For a description of the methods we
use to determine our allowance for loan losses, see -K "Results of
Operations - Provision for Loan Losses."
2. ACCRUAL AND RECOGNITION OF INTEREST ON LOANS. These policies involve
significant judgments and assumptions by management which may have a
significant impact on the amount of interest income recognized from
period to period. For a description of our policies for recognizing
interest income on loans, see Note 1 (Summary of Significant
Accounting Policies) of our audited consolidated financial
statements at and for the fiscal year ended June 30, 2002.
3. REALIZATION OF DEFERRED INCOME TAX ITEMS. Estimates of deferred tax
assets and deferred tax liabilities make up the asset category
titled "Net tax deferred asset." These estimates involve significant
judgments and assumptions by management which may have a material
affect on the carrying value of this asset for financial reporting
purposes. For a more detailed description of these items and
estimates, see Note 8 (Income Taxes) to our audited consolidated
financial statements at and for the fiscal year ended June 30, 2002.
The Notes to Consolidated Financial Statements identify other significant
accounting policies used in the development and presentation of our
financial statements. This discussion and analysis, the significant
accounting policies and other financial statement disclosures identify and
address key variables and other qualitative and quantitative factors that
are necessary for an understanding and evaluation of the Company and its
results of operations.
CHANGES IN FINANCIAL CONDITION
GENERAL. Our total assets increased by $134.6 million, or 21.5%, to $759.7
million at June 30, 2002 compared to $625.1 million at June 30, 2001. This
increase was primarily due to increases in securities, available for sale
($124.3 million) and held to maturity ($14.0 million) and cash and cash
equivalents of $8.7 million. These increases
36
were partially offset by a $10.3 million decrease in net loans receivable. The
increase in total assets during the fiscal year ended June 30, 2002 was funded
by a $32.7 million increase in deposits and a $37.9 million increase in
borrowings from the Federal Home Loan Bank ("FHLB") of Pittsburgh and the
additional equity capital raised in the April 2002 Reorganization and related
stock offering.
CASH AND CASH EQUIVALENTS. Cash and cash equivalents, which consist of
cash on hand and in other banks in interest-earning and non-interest earning
accounts, amounted to $32.0 million and $22.2 million at June 30, 2002 and 2001,
respectively. Cash and cash equivalents are available as a source of funds for
originations of new loans and purchases of additional securities investments.
SECURITIES AVAILABLE FOR SALE. At June 30, 2002, we had securities that
were classified available for sale ("AFS") totaling $254.5 million, compared to
$130.4 million in AFS securities at June 30, 2001. During our fiscal year which
ended June 30, 2002, interest rates on loans declined and many loans were
repaid. These additional loan repayments were used in large part to purchase
federal agency and mortgage-backed securities. In addition, we used a portion of
the net proceeds from the April 2002 Reorganization and offering as well as
advances from the FHLB for purchases of additional securities. Much of our
securities portfolio has been classified as available for sale. This
classification provides us the flexibility to sell securities prior to maturity,
if, for example, we determine that our interest rate risk profile should be
modified, or a sale would be desirable to change our liquidity position, or for
other asset/liability management reasons. Securities classified as AFS are
accounted for at fair value with unrealized gains and losses, net of tax,
reflected as an adjustment to equity. Primarily as a result of a general decline
in market interest rates, at June 30, 2002, we had unrealized gains on AFS
securities of $3.0 million compared to unrealized losses on AFS securities of
$48,000 at June 30, 2001.
SECURITIES HELD TO MATURITY. In January 2002 we changed the classification
on our municipal bond portfolio from available for sale to held to maturity
based upon our intention and our ability to hold these securities until their
maturity. Held to maturity securities are carried at amortized cost, and assets
transferred from available for sale to held to maturity are transferred at fair
value. Presently, additional purchases of municipal bonds are being classified
as held to maturity. For several years prior to January 2002, we did not have
any securities classified as held to maturity.
LOANS. Our net loan portfolio declined to $443.9 million at June 30, 2002
from $454.2 million at June 30, 2001. This decrease of $10.3 million, or 2.3%,
was due primarily to a decline in our single-family mortgage loan portfolio.
Significant changes in the types of loans in our portfolio during the year ended
June 30, 2002 were: an increase of $5.7 million (4.4%) in commercial real estate
and multi-family residential mortgage loans; an increase of $1.6 million (5.7%)
in construction mortgage loans; a $16.9 million (8.5%) decrease in single-family
first mortgage loans and an $858,000 (4.3%) decrease in commercial business
loans. During the year ended June 30, 2002, home equity loans decreased by
$44,000 and other consumer loans increased $393,000. Our allowance for loan
losses amounted to $4.6 million at June 30, 2002 representing a net increase of
$313,000 (7.3%) from the allowance of $4.3 million at June 30, 2001.
LOANS HELD FOR SALE. Mortgage loans originated or purchased with the
intention of being sold into the secondary market are classified as held for
sale and are carried at the lower of cost or market value with any unrealized
loss reflected in the statements of income. At June 30, 2002, $1.6 million of
fixed-rate, single-family residential mortgages were classified as held for sale
compared to $2.6 million in loans classified as held for sale at June 30, 2001.
Since fiscal 2001 we have become more active in the residential mortgage loan
secondary market in an attempt to take advantage of market opportunities and
realize gains upon the sale of loans.
INTANGIBLE ASSETS. At June 30, 2002, the amount of our intangible assets
totaled $990,000. This compares to $1.3 million at June 30, 2001. Our intangible
assets are comprised of goodwill and a core deposit intangible, which resulted
from the purchase of three branch offices in 1994. The goodwill is being
amortized on a straight-line basis over a 12-year period while the core deposit
intangible is being amortized over the remaining estimated period of benefit,
currently estimated at approximately 10 years.
DEPOSITS. Total deposits increased by $32.7 million, or 6.6%, to $529.8
million at June 30, 2002 compared to $497.0 million at June 30, 2001. At June
30, 2002, checking accounts totaled $103.0 million, representing an increase of
$20.7 million or 25.1% compared to the balance of checking accounts at June 30,
2001 of $82.3 million.
37
Savings accounts increased approximately $14.7 million, or 25.0% to $73.2
million at June 30, 2002 compared to $58.6 million at June 30, 2001, and money
market accounts increased $13.0 million or 37.3% to $47.8 million at June 30,
2002 compared to $34.8 million at June 30, 2001. At June 30, 2002, certificates
of deposit, which comprise the largest component of our deposit portfolio,
amounted to $305.8 million or 57.7% of our deposit portfolio. For the year ended
June 30, 2002 certificates of deposit declined by $15.6 million. Certificates of
deposit as a percent of total deposits were 64.7% at June 30, 2001. We believe
the changes in our deposit portfolio are due to our efforts to increase core
deposit accounts and balances through targeted marketing as well as many
depositor's unwillingness to extend the maturity of their account into
longer-term certificate of deposit accounts in the current interest rate
environment.
FEDERAL HOME LOAN BANK ADVANCES. We use advances from the FHLB of
Pittsburgh as an additional source of funds to meet our loan demand, fund
certain revenue enhancing investment strategies and for other asset/liability
management purposes. At June 30, 2002, the total amount of these borrowings
outstanding was $97.8 million, which is a $37.9 million increase from the $59.9
million outstanding at June 30, 2001. Of the total amount outstanding, $39.4
million and $19.0 million were outstanding in borrowings to fund revenue
enhancement investment strategies at June 30, 2002 and 2001, respectively.
STOCKHOLDERS' EQUITY. At June 30, 2002, our total stockholders' equity
amounted to $124.3 million or 16.4% of assets compared to $60.4 million or 9.7%
of assets at June 30, 2001. This increase of $63.9 million, or 105.9% was
primarily due to the increased capital raised in our April 2002 Reorganization
and related stock offering. Common equity (common stock plus additional paid-in
capital) increased by $60.3 million. Other changes in stockholders' equity were
due to $5.5 million in net income during the year ended June 30, 2002; a $1.9
million change in comprehensive income, which was the result of the change in
the unrealized market value, net of tax, of available for sale securities from a
$29,000 loss at June 30, 2001 to a gain of $1.9 million at June 30, 2002. In
addition, each quarter we paid a cash dividend which dividend amounted to an
aggregate of $1.3 million for the year ended June 30, 2002. Unallocated shares
held by Employee Stock Ownership Plan ("ESOP") and Recognition and Retention
Plan ("RRP") increased to $6.9 million at June 30, 2002 compared to $2.1 million
at June 30, 2001, as a result of $5.1 million in additional stock being
purchased by the ESOP in the April 2002 Reorganization, which was partially
offset by approximately $400,000 of amortization related to these plans which
are currently being amortized over 15 and five years for the ESOP and RRP,
respectively. As a result of the April 2002 Reorganization, all treasury shares
we had previously acquired were canceled.
38
AVERAGE BALANCES, NET INTEREST INCOME, YIELDS EARNED AND RATES PAID
The following table presents the average daily balances for various
categories of assets and liabilities, and income and expense related to those
assets and liabilities for the years ended June 30, 2002, 2001 and 2000. The
table also shows the average yields and costs on interest-earning assets and
interest-bearing liabilities for each of the fiscal years and at June 30, 2002.
To adjust nontaxable securities to a taxable equivalent, a 33%, 38% and 36%
effective rate has been used for the fiscal years ending June 30, 2002, 2001,
and 2000, respectively. Loans receivable include non-accrual loans.
At For the Year Ended
JUNE 30, 2002 JUNE 30, 2002 JUNE 30, 2001
------------- --------------------------------- ---------------------------------
Average Average
Yield/ Average Yield/ Average Yield/
(DOLLARS IN THOUSANDS) Cost Balance Interest Cost Balance Interest Cost
- ---------------------------------------- ------------- --------------------------------- ---------------------------------
Interest-earning assets:
Loans receivable:
Mortgage loans 7.50% $ 419,327 $ 32,682 7.79 % $ 417,547 $ 33,412 8.00 %
Consumer loans 6.00 10,127 535 5.28 9,091 612 6.73
Commercial business loans 7.28 19,904 1,544 7.76 24,807 2,124 8.56
----------- ---------- ----------- ----------
Total loans 7.46 449,358 34,761 7.74 451,445 36,148 8.01
Securities - taxable 5.48 159,983 9,126 5.70 115,005 7,731 6.72
Securities - nontaxable - adjusted to a
taxable equivalent yield 6.74 7,451 507 6.80 2,751 183 6.65
Other interest-earning assets 1.68 35,175 581 1.65 10,275 283 2.75
----------- ---------- ----------- ----------
Total interest-earning assets 6.56 651,967 44,975 6.90 579,476 44,345 7.64
Non-interest-earning assets 13,806 14,078
----------- -----------
Total assets $ 665,773 $ 593,554
=========== ===========
Interest-bearing liabilities:
Deposits:
NOW and money market accounts 1.59 $ 80,507 $ 1,346 1.67 % $ 62,292 $ 1,464 2.35
Savings accounts 1.56 65,272 1,175 1.80 53,472 1,102 2.06
Certificates of deposit 3.93 313,117 14,810 4.73 300,064 17,806 5.93
----------- ---------- ----------- ----------
Total deposits 3.11 458,896 17,331 3.78 415,828 20,372 4.90
Total borrowings 5.05 73,830 4,117 5.58 60,201 3,825 6.35
Total escrows 0.42 2,668 15 0.56 3,151 19 0.60
----------- ---------- ----------- ----------
Total interest-bearing liabilities 3.40 535,394 21,463 4.01 479,180 24,216 5.05
Non-interest-bearing liabilities:
Non-interest checking 52,194 45,412
Other 5,658 5,750
----------- -----------
Total liabilities 593,246 530,342
Total equity 72,527 63,212
----------- -----------
Total liabilities and equity $ 665,773 $ 593,554
=========== ===========
Net interest-earning assets $ 116,573 $ 100,296
=========== ===========
Net interest income $ 23,512 $ 20,129
========== ==========
Net interest rate spread 2.89% 2.59%
==== ====
Net interest margin 3.61% 3.46%
==== ====
Ratio of average interest-earning assets
to average interest-bearing liabilities 121.77% 120.93%
====== ======
JUNE 30, 2002
---------------------------------
Average
Average Yield/
(DOLLARS IN THOUSANDS) Balance Interest Cost
- ---------------------------------------- ---------------------------------
Interest-earning assets:
Loans receivable:
Mortgage loans $ 400,267 $ 31,564 7.89 %
Consumer loans 7,463 552 7.40
Commercial business loans 18,667 1,857 9.95
----------- ----------
Total loans 426,397 33,973 7.97
Securities - taxable 74,639 4,658 6.24
Securities - nontaxable - adjusted to a
taxable equivalent yield 2,280 149 6.54
Other interest-earning assets 7,006 170 2.43
Total interest-earning assets 5 10,322 38,950 7.62
Non-interest-earning assets 12,772
-----------
Total assets $ 523,094
===========
Interest-bearing liabilities:
Deposits:
NOW and money market accounts $ 59,182 $ 1,347 2.28
Savings accounts 50,987 1,049 2.06
Certificates of deposit 267,065 14,598 5.47
----------- ----------
Total deposits 377,234 16,994 4.50
Total borrowings 38,820 2,354 6.06
Total escrows 3,468 21 0.61
----------- ----------
Total interest-bearing liabilities 419,522 19,369 4.62
Non-interest-bearing liabilities:
Non-interest checking 37,638
Other 3,836
-----------
Total liabilities 460,996
Total equity 62,098
-----------
Total liabilities and equity $ 523,094
===========
Net interest-earning assets $ 90,800
===========
Net interest income $ 19,581
==========
Net interest rate spread 3.00%
====
Net interest margin 3.83%
====
Ratio of average interest-earning assets
to average interest-bearing liabilities 121.64%
======
39
RATE/VOLUME ANALYSIS
Increase (decrease) in net interest income Increase (decrease) in net interest income
for the year ended June 30, 2002 compared for the year ended June 30, 2001 compared
to the year ended June 30, 2001 due to to the year ended June 30, 2000 due to
--------------------------------------------- ----------------------------------------------
RATE/ INCREASE/ RATE/ INCREASE/
(DOLLARS IN THOUSANDS) RATE VOLUME VOLUME (DECREASE) RATE VOLUME VOLUME (DECREASE)
- ---------------------------------- ---------- ---------- ----------- ----------- ---------- ---------- ---------- -------------
Interest-earning assets
Loans receivable
Real estate loans $ (869) $ 142 $ (3) $ (730) $ 464 $ 1,363 $ 20 $ 1,847
Other consumer loans (132) 70 (15) (77) (49) 120 (11) 60
Business loans (200) (420) 40 (580) (259) 611 (84) 268
------- ------- ------- ------- ------- ------- ------- -------
Total loans (1,201) (208) 22 (1,387) 156 2,094 (75) 2,175
Securities (1,079) 3,313 (455) 1,779 141 2,877 86 3,104
Other interest-earning assets (114) 687 (275) 298 23 79 11 113
------- ------- ------- ------- ------- ------- ------- -------
Total net change in income on
interest-earning assets (2,394) 3,792 (708) 690 320 5,050 22 5,392
------- ------- ------- ------- ------- ------- ------- -------
Interest-bearing liabilities
Deposits
NOW and money market (424) 428 (122) (118) 44 71 2 117
Savings accounts (139) 243 (31) 73 2 51 - 53
Certificates of deposit (3,613) 775 (158) (2,996) 1,250 1,804 154 3,208
------- ------- ------- ------- ------- ------- ------- -------
Total deposits (4,176) 1,446 (311) (3,041) 1,296 1,926 156 3,378
Borrowings (468) 866 (106) 292 112 1,297 62 1,471
Advance payments for taxes
and insurance (1) (3) - (4) - (2) - (2)
------- ------- ------- ------- ------- ------- ------- -------
Total net change in expense on (4,645) 2,309 (417) (2,753) 1,408 3,221 218 4,847
------- ------- ------- ------- ------- ------- ------- -------
interest-bearing liabilities
Change in net interest income $ 2,251 $ 1,483 $ (291) $ 3,443 $(1,088) $ 1,829 $ (196) $ 545
------- ------- ------- ------- ------- ------- ------- -------
The following table shows the effect of changing rates and volumes on net
interest income for the years ended June 30, 2002 and 2001, compared to the
prior fiscal year. Information provided shows the effect on net interest income
of (1) rates (change in rate multiplied times prior volume), (2) volume (changes
in volume times prior rate) and (3) rate/volume (change in rate times change in
volume).
40
RESULTS OF OPERATIONS
GENERAL. Net income for the year ended June 30, 2002 was $5.5 million
compared to $157,000 and $4.8 million for the years ended June 30, 2001 and
2000, respectively. Fiscal 2002 net income increased compared to fiscal 2001
primarily due to a reduction in the provision for loan losses of $6.6 million
and increases in net interest income of $3.3 million and non-interest income of
$674,000. These were partially offset by increases in income tax expense of $2.7
million and non-interest expenses of $2.6 million. Fiscal 2001 operations were
adversely affected by provisions for loan losses aggregating $7.9 million,
primarily related to two non-performing commercial business loans
NET INTEREST INCOME. Net interest income is determined by our interest
rate spread (i.e., the difference between the yields on interest-earning assets
and the rates paid on interest-bearing liabilities) and also the amount of
interest-earning assets relative to interest-bearing liabilities. Our average
interest rate spread for the years ended June 30, 2002, 2001 and 2000 was 2.89%,
2.59% and 3.00%, respectively. Our net interest margin (i.e., net interest
income expressed as a percentage of average interest-earning assets) was 3.61%,
3.46% and 3.83% for the same three fiscal years. The changes in our interest
spread have been due primarily to the fluctuations in market interest rates
whereby rates on our interest-earning assets and interest-bearing liabilities
changed by different amounts and at different times. In fiscal year 2002, the
average cost of our interest-bearing liabilities decreased by 104 basis points
from 5.05% during fiscal 2001 to 4.01% during fiscal 2002. This was due
primarily to the re-pricing of maturing certificates of deposits at lower rates.
Because of the staggered and sometimes longer maturities of certificates of
deposit, there usually is a lagging effect on our cost of funds when interest
rates change. When interest rates fall, as they have recently, we continue to
pay the higher rate on certificates of deposit until their maturity at which
time they are re-priced to market conditions at the time of their maturity.
During the fiscal year ended June 30, 2002, the average yield on our
interest-earning assets declined by 74 basis points from 7.64% during fiscal
2001 to 6.90% during fiscal 2002. This decline was primarily due to increased
balances in our securities portfolio at yields that are generally less than
yields available to us on loans, as well as declines in the yields earned on our
loan portfolio. The larger decline in our average cost of interest-bearing
liabilities compared to the decline in the average yield on our interest-earning
assets caused our interest rate spread to increase by 30 basis points to 2.89%
for fiscal 2002 from 2.59% in fiscal 2001. During fiscal 2001 compared to fiscal
2000, the average yields on our shorter-term or adjustable rate assets declined
at a faster pace and more quickly than rates on our interest-bearing
liabilities. This contributed to the reduction of our spread from 3.00% in
fiscal 2000 to 2.59% in fiscal 2001. Net interest margin for the fiscal year
ended June 30, 2002 increased by 15 basis points to 3.61% primarily due to the
increase in the percentage of average interest-earning assets to average
interest-bearing liabilities. Average interest-earning assets increased by $72.5
million and were funded by increases in interest-bearing liabilities of $56.2
million and $16.0 million of non-interest-bearing liabilities and equity. In
fiscal 2001 compared to fiscal 2000, net interest margin declined 37 basis
points, due primarily to the increase in non-accrual loans and charge-offs which
resulted in the reduction in the ratio of average interest-earning assets to
average interest-bearing liabilities. The ratio of average interest-earning
assets to average interest-bearing liabilities was 121.77%, 120.93%, and 121.64%
for fiscal years 2002, 2001 and 2000, respectively.
For the fiscal year ended June 30, 2002, net interest income totaled $23.4
million compared to $20.1 million and $19.5 million in fiscal 2001 and 2000,
respectively. The increase in fiscal 2002 compared to fiscal 2001 of $3.3
million or 16.4% was primarily due to decreases in rates paid on
interest-bearing liabilities and increases in the amount of our average
interest-earning assets, specifically securities. In fiscal year 2001 compared
to fiscal 2000, the increase in net interest income of $545,000 or 2.8%, were
primarily due to increase in average balances of interest-earning assets
partially offset by the decrease in our interest rate spread.
INTEREST INCOME. Interest income includes the interest earned on our
various loans and securities, as well as yield adjustments for the premiums,
discounts and deferred fees recorded in connection with the acquisition of these
assets. Our total interest income for the year ended June 30, 2002 was $44.8
million compared to $44.3 million and $38.9 million for fiscal 2001 and 2000,
respectively.
The increase in interest income in fiscal 2002 compared to 2001 was
$533,000, or 1.2%. This increase was primarily due to an increase of $49.7
million in the average balance of securities, which was partially offset by
declining average yields on all of our interest-earning assets. During the year
ended June 30, 2002 compared to the year ended June 30, 2001, the average
balance of our loans receivable declined by $2.1 million. For fiscal 2002, the
41
yield on average interest-earning assets dropped 74 basis points to 6.90% from
7.64% in fiscal 2001. The major factors for this decline were the decrease in
the average yield on loans, which decreased 27 basis points from 8.01% to 7.74%,
and the increase in the average balance of taxable securities outstanding
together with a decline in the average yield earned on taxable securities from
6.72% to 5.70%. These yield declines were the result of the current interest
rate environment, which has accelerated loan repayments which have been
reinvested in lower yielding assets.
The $5.4 million, or 13.9%, increase in interest income in fiscal 2001
compared to fiscal 2000 was due to a $3.2 million (65.4%) increase in interest
on securities which was the result of a $40.8 million increase in the average
balance of our securities, and an increase of $2.2 million in interest on loans
which was due to a $25.0 million increase in the average balance of loans
outstanding although the increase in the balance of loans outstanding and the
interest earned on those loans was partially offset by increases in nonaccrual
loans and loan charge-offs.
INTEREST EXPENSE. Interest expense consists of the interest paid to our
depositors on their interest-bearing accounts with us, and to a lesser extent,
interest paid on funds borrowed from the FHLB and certain escrow accounts. For
the fiscal year ended June 30, 2002, our total interest expense was $21.5
million compared to $24.2 million and $19.4 million, for the fiscal years ended
June 30, 2001 and 2000, respectively.
For the fiscal year ended June 30, 2002, interest expense decreased by
$2.8 million, or 11.4% compared to the fiscal year ended June 30, 2001. This
decrease was due to a $3.0 million decrease in interest paid on deposits
primarily attributed to lower rates paid on our deposit accounts which was
partially offset by a $292,000 increase in interest expense on borrowed money
due mostly to larger average balances of borrowings outstanding during the
fiscal year. Compared to fiscal 2001, our average cost of deposits for fiscal
2002 declined by 112 basis points from 4.90% to 3.78% while the average amount
of interest-bearing deposits increased by $43.1 million from $415.8 million to
$458.9 million. The average balance of borrowings outstanding during fiscal 2002
was $73.8 million compared to $60.2 million in fiscal 2001. The average cost of
these borrowings for fiscal 2002 was 5.58% compared to 6.35% during fiscal 2001.
The primary reason for the $4.8 million, or 25.0%, increase in interest
expense for the year ended June 30, 2001 compared to fiscal 2000, was the
increased cost associated with the larger average balances of outstanding
deposits, along with an increase of the average rate paid on deposits. We also
had larger outstanding average balances on borrowings combined with a higher
average rate paid on those borrowings.
During fiscal year 2002, the average balance of certificates of deposit
("CDs") increased $13.1 million to $313.1 million, a 4.4% increase compared to
fiscal 2001. At June 30, 2002 and June 30, 2001, CDs made up 57.7% and 64.6%,
respectively, of our total deposits. The average balance on our core deposit
categories (interest and non-interest checking, savings and money market
accounts) increased $36.8 million (22.8%) to $198.0 million during fiscal 2002
compared to an average balance of $161.2 million during fiscal 2001. Interest
rates on core deposits are typically significantly less than rates paid on CDs.
We believe that increasing our core deposits as a percentage of total deposits
should decrease our weighted average cost of funds in a stable interest rate
environment.
PROVISION FOR LOAN LOSSES. We establish provisions for loan losses, which
are charges to our operating results, in order to maintain our total allowance
for losses at a level that we deem adequate to absorb known and unknown losses
which are both probable and can be reasonably estimated. Our determination of
the adequacy of the allowance is based upon an evaluation of our loan portfolio,
loss experience, current economic conditions, volume, growth, composition of the
loan portfolio and other relevant factors. The amount of our allowance for loan
loss is only an estimate and actual losses may vary from these estimates. We
assess our allowance for loan loss at least quarterly and make any necessary
adjustment to maintain our allowance for loss at a level deemed adequate. For
the years ended June 30, 2002, 2001 and 2000, our provisions for loan losses
were $1.2 million, $7.9 million and $706,000, respectively. In fiscal 2002, we
charged-off a total of $954,000 of loans, of which $769,000 ware commercial
business loans, $173,000 in consumer loans and $12,000 in mortgage loans.
Included in the amount of business loans charged-off was the $545,000 remaining
balance on one of the two business loans charged off in fiscal 2001. This was
the result of deterioration of the equity position we had in the remaining
collateral. During fiscal 2001 we incurred charges of $5.3 million and $1.9
million specifically related to two commercial business loans whose
pre-impairment balances were $6.7 million and $2.0 million, respectively.
42
At June 30, 2002, the amount of our allowance for loan losses was $4.6
million compared to $4.3 million at June 30, 2001. We believe that the allowance
for loan loss at June 30, 2002 was appropriate given, among other things, the
continuing growth of certain sectors of our loan portfolio and the inherent
credit risk associated with our loan portfolio diversification into other than
single-family residential loans. The percentage of the allowance for loss to
loans increased to 1.03% at June 30, 2002 compared to 0.94% at June 30, 2001.
We believe that the allowance for loss was adequate at June 30, 2002 based
upon the facts and circumstances known to us at that date. No assurance can be
made that additional provisions may not be needed in future periods, which could
adversely affect our results of operations. Regulatory agencies, in the course
of their regular examinations, review the allowance for loss and carrying value
of non-performing assets. No assurance can be given that these agencies might
not require changes to the allowance for losses in the future.
NON-INTEREST INCOME. Non-interest income is comprised of account service
fees and charges, loan servicing fees, and realized gains and losses on assets
available or held for sale. Total non-interest income for the years ended June
30, 2002, 2001, and 2000 was $2.5 million, $1.8 million and $1.1 million,
respectively. The increase in non-interest income of $674,000 or 37.7% for
fiscal 2002 compared to fiscal 2001, was due primarily to realized gains on
loans held for sale and securities available for sale and increases in services
fees and charges. Gains on sales of loans were $519,000 in fiscal 2002 compared
to $381,000 in fiscal 2001 while gains on available for sale securities were
$310,000 in fiscal 2002 compared to a loss of $15,000 in fiscal 2001. These
increases were the result of our continuing efforts to sell a portion of the
single-family fixed rate loans we originate and re-positioning our securities
portfolio in our efforts to meet our asset/liability management strategies.
Increases in account service charges and fees are the result of a larger number
of accounts and transaction volume. During fiscal year 2001, we realized gains
on sales of investments amounting to $243,000, but this was negatively impacted
by a $258,000 adjustment on equity investments in accordance with SFAS 115
whereby unrealized losses deemed to be other than temporary are recorded as a
realized loss.
NON-INTEREST EXPENSE. The primary components of non-interest expense are
compensation and employee benefits, occupancy and equipment expenses, data
processing, deposit account services and a variety of other expenses. For the
years ended June 30, 2002, 2001, and 2000, non-interest expense totaled $16.5
million, $13.9 million and $12.1 million, respectively. The primary reason for
the increase in non-interest expenses in fiscal 2002 was due to a $1.5 million
increase in compensation and employee benefits, a $407,000 increase in occupancy
and equipment expense and a $163,000 increase in advertising expense.
Compensation and benefits expenses totaled $9.5 million, $8.0 million and
$7.0 million, respectively, for the fiscal years ended June 30, 2002, 2001, and
2000. Some of the factors affecting the increase in compensation and benefits
include our continued efforts in opening new branches, increases in costs for
back office support to our lending functions and costs of stock benefit plans
that have increased due to the appreciation of our stock value. Our ESOP records
benefit expense based upon the market value of our stock at the reporting period
date. Due to the increases in our stock price, our ESOP expense was $338,000,
$138,000 and $81,000 for the years ended June 30, 2002, 2001 and 2000,
respectively. Expenses relating to our RRP were $162,000, $162,000 and $108,000
fiscal years 2002, 2001 and 2000, respectively. As part of the April 2002
Reorganization additional shares of our common stock were acquired by the ESOP
trust and are being amortized over a 15-year period. In April 2002, we opened
our thirteenth branch office in Holland, Bucks County. During fiscal 2002 we
also incurred full year expenses for our Southampton branch office which we
opened in May 2001. At June 30, 2002, we had 238 full and part-time employees
compared to 211 at June 30, 2001.
Occupancy and furniture and equipment expenses were $2.2 million, $1.8
million and $1.4 million for the fiscal years ended June 30, 2002, 2001, and
2000, respectively. The $407,000 increase in fiscal 2002 compared to fiscal 2001
was primarily due to our branch expansion. Advertising expenses for fiscal 2002,
2001 and 2000 were $567,000, $404,000 and $370,000, respectively. Increases in
advertising expenses were due to expenses relating to branch openings and
targeted marketing campaigns.
For the fiscal years ended June 30, 2002, 2001, and 2000, amortization of
intangible assets was $274,000, $276,000 and $410,000, respectively; data
processing expenses were $666,000, $563,000, and $525,000, respectively, deposit
account service expenses were $789,000, $675,000, and $593,000, respectively,
and professional fees were $650,000, $576,000 and $244,000, respectively.
Increases in professional fees in fiscal 2002
43
and 2001 were primarily related to costs associated with workout, analysis and
review of non-performing assets. For the fiscal years ended June 30, 2002, 2001,
and 2000, other expenses, which include miscellaneous operating items, were $1.6
million, $1.4 million and $1.2 million, respectively, other expenses increased
primarily due to our growth and diversification efforts.
INCOME TAX PROVISION/(BENEFIT). Expense for income taxes amounted to $2.7
million for the year ended June 30, 2002. This compares to a tax benefit of
$32,000, and tax expense of $3.0 million for the years ended June 30, 2001 and
2000, respectively. A significant reduction in pre-tax income caused by the
large provisions for loan losses that were made in fiscal 2001 was the primary
reason for the variances in our provision for income tax. The effective tax
rates for fiscal 2002, 2001 and 2000 were 33.00%, (26.00)% and 38.00%,
respectively.
LIQUIDITY AND COMMITMENTS
Our primary sources of funds are from deposits, amortization of loans,
loan prepayments and the maturity of loans, mortgage-backed securities and other
investments, and other funds provided from operations. While scheduled payments
from the amortization of loans and mortgage-backed securities and maturing
investment securities are relatively predictable sources of funds, deposit flows
and loan prepayments can be greatly influenced by general interest rates,
economic conditions and competition. We also maintain excess funds in
short-term, interest-bearing assets that provide additional liquidity. We have
also utilized outside borrowings, primarily from the FHLB of Pittsburgh as an
additional funding source.
We use our liquidity resources to fund existing and future loan
commitments, to fund maturing certificates of deposit and demand deposit
withdrawals, to invest in other interest-earning assets, and to meet operating
expenses. At June 30, 2002, we had outstanding approved loan commitments
totaling $40.2 million and certificates of deposit maturing within the next
twelve months amounting to $218.2 million. Based upon historical experience, we
anticipate that a significant portion of the maturing certificates of deposit
will be reinvested in the Bank.
Due to the interest rate environment, during the year ended June 30, 2002
we experienced increases in the amount of prepayments of loans and
mortgage-backed securities as borrowers repaid higher rates and refinanced those
loans at lower rates. We also experienced an increase in the amount of bonds
with call provisions having those call provisions exercised by the issuer to
take advantage of a lower borrowing cost. These accelerated repayments have
increased our liquidity.
We recently have also increased our use of borrowings from the FHLB of
Pittsburgh as a cost effective means to obtain funds at varying maturities to
match certain asset cash flows. Our outstanding borrowings from the FHLB of
Pittsburgh have increased to $97.8 million at June 30, 2002 compared to $59.9
million at June 30, 2001. Under terms of our borrowing agreement with the FHLB
of Pittsburgh, we pledge certain residential mortgage loans and mortgage-backed
securities as well as our stock in the FHLB as collateral for these advances. At
June 30, 2002, we had $299.5 million in additional borrowing capacity available
from the FHLB of Pittsburgh.
We have not used and currently are not intending to use any significant
off-balance sheet financing arrangement for liquidity purposes. Our financial
assets with off-balance sheet risk are limited to our obligation to fund loans
to borrowers pursuant to existing loan commitments. Additionally, we have not
had any transactions, arrangements or other relationships with any
unconsolidated, limited purpose entities that could affect our liquidity or
capital resources, nor do we, or currently intend to, engage in trading
commodity contracts.
We anticipate that we will continue to have sufficient funds and
alternative funding sources to meet our current commitments.
IMPACT OF INFLATION AND CHANGING PRICES
The financial statements, accompanying notes, and related financial data
presented herein have been prepared in accordance with generally accepted
accounting principles, which require the measurement of financial position and
operating results in terms of historical dollars without considering the changes
in purchasing power of money over time due to inflation. The impact of inflation
is reflected in the increased cost of our operations. Most of our assets and
liabilities are monetary in nature; therefore, the impact of interest rates has
a greater impact on our
44
performance than the effects of general levels of inflation. Interest rates do
not necessarily move in the same direction or to the same extent as the prices
of goods and services.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE OF MARKET RISK
ASSET/LIABILITY MANAGEMENT AND INTEREST RATE RISK
The market value of assets and liabilities, as well as future earnings,
can be affected by interest rate risk. Market values of financial assets have an
inverse relationship to rates, i.e., when interest rates rise, the market value
of many of the Company's assets declines and when rates fall, the market value
of many of the Company's assets rise. The primary assets of the Company are
loans to borrowers who often have the ability to prepay their loan. Therefore,
in a falling rate environment, the increase in the market value of the Company's
assets is limited by this option for the borrower to prepay the loan.
The ability to maximize net interest income is largely dependent upon the
achievement of a positive interest spread that can be maintained during
fluctuations in prevailing interest rates. Interest rate sensitivity gap ("gap")
is a measure of the difference between interest-earning assets and
interest-bearing liabilities that either mature or re-price within a specified
time period. A gap is considered positive when the amount of interest-earning
assets exceeds the amount of interest-bearing liabilities, and is considered
negative when interest-bearing liabilities exceed interest-earning assets.
Generally, during a period of rising interest rates, a negative gap would
adversely affect net interest income, while a positive gap would result in an
increase in net interest income. During a period of falling interest rates, a
negative gap would generally result in an increase in net interest income, and a
positive gap would result in a decrease in net interest income. This is usually
the case; however, interest rates on differing financial instruments will not
always change at the same time or to the same extent.
The following gap table shows the amount as of June 30, 2002 of assets and
liabilities projected to mature or re-price within various time periods. This
table includes certain assumptions we have made that affect the rate at which
loans will prepay and the duration of core deposits. Changes in interest rates
may affect these assumptions which would impact our gap position.
45
0 to 3 3 to 12 1 to 3 3 to 5 over 5
months months years years years total
--------- --------- --------- --------- --------- ---------
(DOLLARS IN THOUSANDS)
Interest-earning deposits $ 26,276 $ - $ - $ - $ - $ 26,276
Securities 36,248 58,781 50,546 51,109 71,976 268,660
Fixed rate loans 17,129 44,215 99,336 57,615 79,564 297,859
Adjustable rate loans 48,110 25,290 52,883 22,817 3,833 152,933
--------- --------- --------- --------- --------- ---------
Total interest-earning assets 127,763 128,286 202,765 131,541 155,373 745,728
--------- --------- --------- --------- --------- ---------
Certificates of deposit $ 66,686 $ 151,633 $ 74,351 $ 13,137 $ - $ 305,807
Other interest-bearing deposits 1,512 4,479 11,498 10,348 133,178 161,015
Borrowed money 1,468 14,400 15,366 26,590 40,000 97,824
Escrow accounts 800 - - - - 800
--------- --------- --------- --------- --------- ---------
Total interest-bearing liabilities 70,466 170,512 101,215 50,075 173,178 565,446
--------- --------- --------- --------- --------- ---------
Excess (deficiency) of
interest-earning assets over
interest-bearing liabilities $ 57,297 $ (42,226) $ 101,550 $ 81,466 $ (17,805) $ 180,282
Cumulative excess (deficiency) of
interest-earning assets over
interest-bearing liabilities $ 57,297 $ 15,071 $ 116,621 $ 198,087 $ 180,282 $ 360,564
Cumulative excess (deficiency) of
interest-earning assets to
interest-bearing liabilities as a
percent of total assets 7.54% 1.98% 15.35% 26.07% 23.73% 47.46%
Ratio of interest-earning assets to
interest-bearing liabilities 181.31% 75.24% 200.33% 262.69% 89.72% 131.88%
Cumulative ratio of interest-earning
assets to interest-bearing liabilities 181.31% 106.25% 134.08% 150.50% 131.88%
At June 30, 2002, the ratio of the cumulative interest-earning assets
maturing or re-pricing in one-year or less to interest-bearing liabilities
maturing or re-pricing in one-year or less is 106.25%, which results in a
cumulative one-year gap to total assets ratio of 1.98%.
We have adopted asset/liability management policies designed to quantify
the interest rate risk caused by mismatches in the maturities and re-pricing of
our interest-earning assets and interest-bearing liabilities. These interest
rate risk and asset/liability management actions are taken under the guidance of
the Asset/Liability Management Committee ("ALCO"). The ALCO's purpose is to
communicate, coordinate and control asset/liability management consistent with
our business plan and Board approved policies. The objective of the ALCO is to
manage assets and funding sources to produce results that are consistent with
liquidity, capital adequacy, growth, risk and profitability goals. The ALCO
meets at least quarterly and monitors the volume and mix of assets and funding
sources taking into account the relative costs and spreads, the interest rate
sensitivity gap and liquidity needs. The ALCO also reviews economic conditions
and interest rate projections, current and projected liquidity needs and capital
positions, anticipated changes in the mix of assets and liabilities, and
interest rate exposure limits versus current projections pursuant to gap
analysis and interest income simulations. At each meeting, the ALCO will
recommend changes in strategy as appropriate. Interest rate risk issues are also
discussed by the Board of
46
Directors on a regular basis. Management meets weekly to monitor progress in
achieving asset/liability targets approved by the Board, particularly the type
and rate on asset generation and sources of funding.
In order to manage our assets and liabilities and improve our interest
rate risk position, emphasis has been placed on the origination of assets with
shorter maturities or adjustable rates such as commercial and multi-family real
estate loans, construction loans, commercial business loans and home equity
loans. At the same time, other actions include attempts to increase our core
deposits and the use of FHLB advances as additional sources of funds. We also
classify a portion of the longer-term fixed rate loans we originate as held for
sale. During the years ended June 30, 2002 and 2001, we sold fixed rate mortgage
loans totaling $77.8 million and $92.4 million, respectively.
The ALCO regularly reviews interest rate risk by, among other things,
examining the impact of alternative interest rate environments on net interest
income and net portfolio value ("NPV"), and the change in NPV. NPV is the
difference between the market value of assets and the market value of
liabilities and off-balance sheet items under various interest rate scenarios.
Sensitivity is the difference (measured in basis points) between the NPV to
assets ratio at market rate and the NPV to assets ratio determined under each
rate scenario. The ALCO monitors both the NPV and sensitivity according to
guidelines established by the Office of Thrift Supervision ("OTS") in Thrift
Bulletin 13A "Management of Interest Rate Risk, Investment Securities and
Derivative Activities," and board approved limitations.
Presented below, as of June 30, 2002 and 2001, is an analysis of the
interest rate risk position as measured by NPV and sensitivity based upon
various rate scenarios. These values have been obtained from data submitted by
the Bank to the OTS. The OTS performs scenario analysis to estimate current or
base case economic value and estimates NPV that would result from instantaneous,
parallel shifts of the yields on various financial instruments of plus and minus
100, 200 and 300 basis points. The model does not value new business activities.
It only provides an estimate of economic value at a point in time and the
economic value of the same portfolio under the above referenced interest rate
scenarios.
Estimated change in NPV and Sensitivity
At June 30, 2002
Net Portfolio Value
---------------------------------------------
Amount of Percent of To
Change Change Assets Sensitivity
------ ------ ------ -----------
(in thousands)
Hypothetical change in interest rates
up 300 basis points $(48,118) (45)% 8.12% (556) bp
up 200 basis points (32,180) (30) 10.05 (362)
up 100 basis points (15,623) (15) 11.96 (172)
no change - base case - - 13.68 -
down 100 basis points 9,613 9 14.68 100
down 200 basis points n/a n/a n/a N/a
down 300 basis points n/a n/a n/a N/a
Due to the level of current interest rates, no values are calculated for
hypothetical rate scenarios of down 200 or down 300 basis points.
Estimated change in NPV and Sensitivity
At June 30, 2001
Net Portfolio Value
---------------------------------------------
Amount of Percent of To
Change Change Assets Sensitivity
------ ------ ------ -----------
(in thousands)
Hypothetical change in interest rates
up 300 basis points $(36,730) (54)% 5.23% (534) bp
up 200 basis points (24,791) (36) 7.05 (352)
up 100 basis points (12,319) (18) 8.86 (171)
no change - base case - - 10.56 -
down 100 basis points 8,602 13 11.70 113
down 200 basis points 14,365 21 12.43 186
down 300 basis points 20,473 30 13.19 263
47
The additional investment in the Bank by the Company as a result of the
April 2002 Reorganization and related subscription offering is the primary
reason for the increase in the NPV ratio at market levels from 10.56% to 13.68%
at June 30, 2001 and 2002, respectively. There was a small change of 10 basis
points from (352) to (362) at June 30, 2001 and 2002, respectively, in the
sensitivity measure in the plus 200 basis point rate scenario at the same dates.
This indicates that in the aggregate we did not significantly increase or
decrease our interest rate risk as measured by NPV during the fiscal year ended
June 30, 2002.
NPV is more sensitive and may be more negatively impacted by rising
interest rates than by declining rates. This occurs primarily because as rates
rise, the market value of long-term fixed rate assets, like fixed rate mortgage
loans, declines due to both the rate increase and slowing prepayments. When
rates decline, these assets do not experience similar appreciation in value.
This is due to the decrease in the duration of the asset resulting from the
increase in prepayments.
RECENT ACCOUNTING PRONOUNCEMENTS
GOODWILL AND OTHER INTANGIBLE ASSETS
In June 2001, the FASB issued Statement No. 142, "Goodwill and Other
Intangible Assets." The Statement addresses financial accounting and reporting
for acquired goodwill and other intangible assets and supersedes APB Opinion No.
17, "Intangible Assets." It addresses how intangible assets that are acquired
individually or with a group of other assets (but not those acquired in a
business combination) should be accounted for in financial statements upon their
acquisition. The Statement also addresses how goodwill and other intangible
assets should be accounted for after they have been initially recognized in the
financial statements.
The provisions of the Statement are required to be applied starting with
fiscal years beginning after December 15, 2001, except that goodwill and
intangible assets acquired after June 30, 2001, will be subject immediately to
the nonamortization and amortization provisions of the Statement. Early
application is permitted for entities with fiscal years beginning after March
15, 2001, provided that the first interim financial statements have not
previously been issued. The Statement is required to be applied at the beginning
of an entity's fiscal year and to be applied to all goodwill and other
intangible assets recognized in its financial statements at that date. There was
no impact on earnings, financial condition or equity upon adoption of Statement
No. 142 on January 1, 2002.
ASSET RETIREMENT OBLIGATIONS
In June 2001, the FASB issued Statement No. 143, "Accounting for Asset
Retirement Obligations." This Statement addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. It applies to legal
obligations associated with the retirement of long-lived assets that result from
the acquisition, construction, development and (or) the normal operation of a
long-lived asset, except for certain obligations of lessees. As used in this
Statement, a legal obligation is an obligation that a party is required to
settle as a result of an existing or enacted law, statute, ordinance or written
or oral contract or by legal construction of a contract under the doctrine of
promissory estoppel. This Statement requires that the fair value of a liability
for an asset retirement obligation be recognized in the period in which it is
incurred if a reasonable estimate of fair value can be made. The associated
asset retirement costs are capitalized as part of the carrying amount of the
long-lived asset.
This Statement amends FASB Statement No. 19, "Financial Accounting and
Reporting by Oil and Gas Producing Companies," and it applies to all entities.
It is effective for financial statements issued for fiscal years beginning after
June 15, 2002. Earlier application is encouraged. There is no expected impact on
earnings, financial condition or equity upon adoption of Statement No. 143.
48
IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS
In August 2001, the FASB issued Statement No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." This Statement addresses financial
accounting and reporting for the impairment or disposal of long-lived assets and
supersedes Statement No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of." However, the Statement
retains the fundamental provisions of Statement No. 121 for (a) recognition and
measurement of the impairment of long-lived assets to be held and used and (b)
measurement of long-lived assets to be disposed of by sale.
This Statement supersedes the accounting and reporting provisions of APB
Opinion No. 30, "Reporting the Results of Operations-Reporting the Effects of
Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions," for the disposal of a segment of a business.
However, this Statement retains the requirement of Opinion No. 30 to report
discontinued operations separately from continuing operations and extends that
reporting to a component of an entity that either has been disposed of (by sale,
by abandonment, or in distribution to owners) or is classified as held for sale.
This Statement also amends ARB No. 51, "Consolidated Financial Statements," to
eliminate the exception to consolidation for a temporarily controlled
subsidiary.
The provisions of this Statement are effective for financial statements
issued for fiscal years beginning after December 15, 2001 and interim periods
within those fiscal years, with earlier application encouraged. The provisions
of this Statement generally are to be applied prospectively. There was no impact
on earnings, financial condition or equity upon adoption of Statement No. 144 on
January 1, 2002.
RESCISSION OF FASB STATEMENTS NO. 4, 44 AND 64
In April 2002, the FASB issued SFAS No. 145 "Rescission of FASB Statements
No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." This Statement rescinds FASB Statement No. 4, REPORTING GAINS AND
LOSSES FROM EXTINGUISHMENT OF DEBT, and an amendment of that Statement, FASB
Statement No. 64, EXTINGUISHMENTS OF DEBT MADE TO SATISFY SINKING-FUND
REQUIREMENTS, along with rescinding FASB Statement No. 44, ACCOUNTING FOR
INTANGIBLE ASSETS OF MOTOR CARRIERS and amending FASB Statement No. 13,
ACCOUNTING FOR LEASES. This Statement (1) eliminates an inconsistency between
the required accounting for sale-leaseback transactions and the required
accounting for certain lease modifications that have economic effects that are
similar to sale-leaseback transactions, (2) eliminates the extraordinary item
treatment of reporting gains and losses from extinguishment of debt, and (3)
makes certain other technical corrections.
The provisions of this Statement related to the rescission of Statement 4
shall be applied in fiscal years beginning after May 15, 2002. The provisions of
this Statement related to Statement 13 shall be effective for transactions
occurring after May 15, 2002. All other provisions of this Statement shall be
effective for financial statements issued on or after May 15, 2002. Early
application of this Statement is encouraged. There is no expected impact on
earnings, financial condition or equity upon adoption of Statement No. 145.
ACCOUNTING FOR COSTS ASSOCIATED WITH EXIT OR DISPOSAL ACTIVITIES
In June 2002, the FASB issued SFAS No. 146 "Accounting for Costs
Associated with Exit or Disposal Activities." This Statement addresses financial
accounting and reporting for costs associated with exit or disposal activities
and nullifies Emerging Issues Task Force (EITF) Issue No. 94-3, "Liability
Recognition for Certain Employee Termination Benefits and Other Costs to Exit an
Activity (including Certain Costs Incurred in a Restructuring)."
The provisions of this Statement are effective for exit or disposal
activities that are initiated after December 31, 2002, with early application
encouraged. There is no expected impact on earnings, financial condition or
equity upon adoption of Statement No. 146.
49
SELECTED QUARTERLY FINANCIAL DATA
The following table presents selected quarterly operating data for the
fiscal years ended June 30, 2002 and 2001. Per share data for periods prior to
April 3, 2002 have been adjusted to reflect the effect of the exchange of
2.28019 shares of the former Willow Grove Bancorp, Inc. common stock for each
share of our common stock as a result of the April 2002 Reorganization.
(Unaudited) For the quarter ended
6/30/02 3/31/02 12/31/01 9/30/01
------- ------- -------- -------
(Dollars in thousands, except per share data)
---------------------------------------------
Total interest income $ 11,637 $ 10,649 $ 11,014 $ 11,518
Total interest expense 4,980 4,913 5,536 6,034
Net interest income 6,657 5,736 5,478 5,484
Provision for loan loss 118 100 620 374
Total non-interest income 406 561 958 536
Total non-interest expense 4,533 4,199 3,938 3,785
Income tax expense 803 640 626 621
Net income $ 1,609 $ 1,358 $ 1,252 $ 1,240
Earnings per share
Basic $0.18 $0.12 $0.12 $0.11
Diluted $0.15 $0.12 $0.11 $0.11
For the quarter ended
6/30/01 3/31/01 12/31/00 9/30/00
------- ------- -------- -------
(Dollars in thousands, except per share data)
---------------------------------------------
Total interest income $ 11,241 $ 11,050 $ 11,114 $ 10,880
Total interest expense 6.089 6,128 6,192 5,807
Net interest income 5,152 4,922 4,922 5,073
Provision for loan loss 638 2,742 4,366 110
Total non-interest income 275 550 618 344
Total non-interest expense 3,573 3,530 3,383 3,369
Income tax expense (benefit) 404 (312) (821) 697
Net income (loss) $ 812 $ (508) $ (1,388) $ 1,241
Earnings (loss) per share
Basic $0.07 $(0.05) $(0.13) $0.11
Diluted $0.07 $(0.05) $(0.12) $0.11
50
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Management's Responsibility for Financial Reporting...page 52
Independent Auditors Report........................... 53
Consolidated Statement of Financial Condition......... 54
Consolidated Statement of Income...................... 55
Consolidated Statements of Changes in Stockholders'
Equity and Comprehensive Income................... 56
Consolidated Statement of Cash Flows.................. 57-58
Notes to Consolidated Financial Statements............ 59-83
51
Willow Grove Bancorp, Inc.
MANAGEMENT REPORT
FINANCIAL STATEMENTS
Willow Grove Bank (the "Bank") is responsible for the preparation, integrity and
fair presentation of its published financial statements as of June 30, 2002, and
the year then ended. The financial statements have been prepared in accordance
with accounting principles generally accepted in the United States of America,
and as such, include amounts, some of which are based on judgments and estimates
of management.
INTERNAL CONTROL OVER FINANCIAL REPORTING
Management is responsible for establishing and maintaining effective internal
control over financial reporting presented in conformity with both accounting
principles generally accepted in the United States of America and the Office of
Thrift Supervision instructions for Thrift Financial Reports ("TFR
instructions"). This internal control contains monitoring mechanisms, and
actions are taken to correct deficiencies identified.
There are inherent limitations in the effectiveness of any internal control,
including the possibility of human error and the circumvention or overriding of
controls. Accordingly, even effective internal controls can provide only
reasonable assurance with respect to financial statement preparation. Further,
because of changes in conditions, the effectiveness of internal control may vary
over time.
Management assessed the Bank's internal control over financial reporting
presented in conformity with both accounting principles generally accepted in
the United States of America and TFR instructions as of June 30, 2002. This
assessment was based on criteria for effective internal control over financial
reporting described in INTERNAL CONTROL -- INTEGRATED FRAMEWORK issued by the
Committee of Sponsoring Organizations of the Treadway Commission. Based on this
assessment, management believes that, as of June 30, 2002, Willow Grove Bank
maintained effective internal control over financial reporting presented in
conformity with generally accepted accounting principles and call report
instructions.
COMPLIANCE WITH LAWS AND REGULATIONS
Management is also responsible for compliance with the federal and state laws
and regulations concerning dividend restrictions and federal laws and
regulations concerning loans to insiders designated by the Federal Deposit
Insurance Corporation as safety and soundness laws and regulations.
Management assessed its compliance with the designated laws and regulations
relating to safety and soundness. Based on this assessment, management believes
that Willow Grove Bank complied, in all significant respects, with the
designated laws and regulations relating to safety and soundness for the year
ended June 30, 2002.
/S/ Frederick A. Marcell Jr. /S/ Christopher E. Bell
- --------------------------------------- ---------------------------------
PRESIDENT AND CHIEF EXECUTIVE OFFICER SENIOR VICE PRESIDENT AND
CHIEF FINANCIAL OFFICER
July 19, 2002
52
Independent Auditors' Report
To the Board of Directors and Stockholders of
Willow Grove Bancorp, Inc.:
We have audited the accompanying consolidated statements of financial condition
of Willow Grove Bancorp, Inc. and subsidiary as of June 30, 2002 and 2001, and
the related consolidated statements of income, changes in stockholders' equity
and comprehensive income, and cash flows for each of the years in the three-year
period ended June 30, 2002. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Willow Grove
Bancorp, Inc. and subsidiary as of June 30, 2002 and 2001 and the results of
their operations and their cash flows for each of the years in the three-year
period ended June 30, 2002 in conformity with accounting principles generally
accepted in the United States of America.
/s/ KPMG LLP
- ---------------------------
Philadelphia, Pennsylvania
July 19, 2002
53
Willow Grove Bancorp, Inc.
Consolidated Statements of Financial Condition
At At
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA) June 30, 2002 June 30, 2001
- -------------------------------------------------------------------------------- ------------- -------------
Assets
Cash and cash equivalents:
Cash on hand and non-interest-earning deposits $ 5,710 $ 4,621
Interest-earning deposits 26,276 17,588
------------- -------------
Total cash and cash equivalents 31,986 22,209
Securities
Available for sale (amortized cost of $251,651 and $130,406, respectively) 254,687 130,358
Held to maturity (fair value of $14,117 and $0, respectively) 13,973 -
Loans (net of allowance for loan losses of $4,626 and $4,313, respectively) 443,855 454,199
Loans held for sale 1,574 2,644
Accrued income receivable 4,138 3,667
Property and equipment, net 6,515 6,188
Intangible assets 990 1,263
Other assets 1,996 4,620
------------- -------------
Total assets $ 759,714 $ 625,148
============= =============
Liabilities and Stockholders' Equity
Deposits $ 529,752 $ 497,030
Federal Home Loan Bank advances 97,824 59,885
Advance payments from borrowers for taxes 3,605 3,879
Accrued interest payable 868 1,146
Other liabilities 3,388 2,851
------------- -------------
Total liabilities 635,437 564,791
------------- -------------
Commitments and contingencies
Stockholders' equity:
Common stock, $0.01 par value; (40,000,000 authorized; 11,285,096 and
5,143,487 issued at June 30, 2002 and 2001, respectively) 113 51
Additional paid-in capital 82,521 22,265
Retained earnings -- substantially restricted 46,616 42,534
Accumulated other comprehensive income (loss) 1,881 (29)
Treasury stock at cost, 206,500 shares at June 30, 2001 - (2,351)
Unallocated common stock held by
Employee Stock Ownership Plan (ESOP) (6,420) (1,494)
Recognition and Retention Plan Trust (RRP) (434) (619)
------------- -------------
Total stockholders' equity 124,277 60,357
------------- -------------
Total liabilities and stockholders' equity $ 759,714 $ 625,148
============= =============
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
54
Willow Grove Bancorp, Inc.
Consolidated Statements of Income
For the year ended
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) June 30, 2002 June 30, 2001 June 30, 2000
- ------------------------------------------------------ ------------- -------------------- -------------
Interest and dividend income:
Loans $ 34,761 $ 36,148 $ 33,973
Securities, primarily taxable 10,057 8,137 4,920
------------- ------------- -------------
Total interest income 44,818 44,285 38,893
------------- ------------- -------------
Interest expense:
Deposits 17,331 20,372 16,994
Borrowings 4,117 3,825 2,354
Advance payments from borrowers for taxes 15 19 21
------------- ------------- -------------
Total interest expense 21,463 24,216 19,369
------------- ------------- -------------
Net interest income 23,355 20,069 19,524
Provision for loan losses 1,212 7,856 706
------------- ------------- -------------
Net interest income after provision for loan losses 22,143 12,213 18,818
------------- ------------- -------------
Non-interest income:
Service charges and fees 1,572 1,340 1,103
Realized gain (loss) on sale of:
Loans held for sale 519 381 -
Securities available for sale 310 (15) (46)
Loan servicing income, net 60 81 45
------------- ------------- -------------
Total non-interest income 2,461 1,787 1,102
------------- ------------- -------------
Non-interest expense:
Compensation and employee benefits 9,472 8,004 7,026
Occupancy 1,270 1,087 935
Furniture and equipment 894 670 507
Federal insurance premium 89 88 153
Amortization of intangible assets 274 276 410
Data processing 666 563 525
Advertising 567 404 370
Community enrichment 173 150 150
Deposit account services 789 675 593
Professional fees 650 576 244
Other expense 1,611 1,382 1,163
------------- ------------- -------------
Total non-interest expense 16,455 13,875 12,076
------------- ------------- -------------
Income before income taxes 8,149 125 7,844
Income tax expense (benefit) 2,690 (32) 3,001
------------- ------------- -------------
Net Income $ 5,459 $ 157 $ 4,843
============= ============= =============
Earnings per share:
Basic $0.53 $0.01 $0.43
Diluted $0.51 $0.01 $0.43
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
55
Willow Grove Bancorp, Inc.
Consolidated Statements of Changes in Stockholders' Equity and Comprehensive Income
ACCUMULATED
ADDITIONAL OTHER COMMON STOCK
COMMON PAID IN RETAINED COMPREHENSIVE TREASURY ACQUIRED BY TOTAL
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) STOCK CAPITAL EARNINGS INCOME(LOSS) STOCK BENEFIT PLANS EQUITY
- ------------------------------------------------- -------- --------- --------- --------------- -------- --------------- --------
Balance - June 30, 1999 51 22,295 39,211 (1,412) - (1,703) 5 8,442
Net income - - 4,843 - - - 4,843
Other comprehensive loss - - - (928) - - (928)
Common stock (89,635 shares) acquired by RRP - - - - - (929) (929)
ESOP shares committed to be released - (9) - - - 90 81
Amortization of RRP shares - (16) - - - 124 108
Treasury stock acquired (22,500 shares at cost) - - - - (211) - (211)
Cash dividends paid - ($0.36 per share) - - (763) - - - (763)
----- ------- -------- ---------- -------- ---------- ----------
Balance - June 30, 2000 $ 51 22,270 43,291 (2,340) (211) (2,418) $ 60,643
Net income - - 157 - - - 157
Other comprehensive income - - - 2,311 - - 2,311
ESOP shares committed to be released - 18 - - - 119 137
Amortization of RRP shares - (23) - - - 186 163
Treasury stock acquired ( 206,500 shares
at cost) - - - - (2,140) - (2,140)
Cash dividends paid - ($0.44 per share) - - (914) - - - (914)
----- ------- -------- ---------- -------- ---------- ----------
Balance - June 30, 2001 $ 51 22,265 42,534 (29) (2,351) (2,113) $ 60,357
----- ------- -------- ---------- -------- ---------- ----------
Net income - - 5,459 - - - 5,459
Other comprehensive income - - - 1,910 - - 1,910
Issuance of 6,414,125 $.01 par shares of
common stock 64 64,077 - - - - 64,141
Exchange of common stock due to reorganization (2) 3 - - - - 1
Payment of Deferred Acquisition Costs - (1,788) - - - - (1,788)
Common stock (513,130 shares) acquired by ESOP - - - - - (5,131) (5,131)
MHC Capital Consolidation 97 97
Exercise of Stock Options 6 6
ESOP shares committed to be released - 133 - - - 205 338
Amortization of RRP shares - (24) - - - 185 161
Treasury stock acquired (195,000 shares) 104 104
Treasury stock retired - (2,247) - - 2,247 - -
Cash dividends paid - ($0.44 per share) - - (1,378) - - - (1,378)
----- ------- -------- ---------- -------- ---------- ----------
Balance - June 30, 2002 $ 113 82,522 46,615 1,881 - (6,854) $ 124,277
----- ------- -------- ---------- -------- ---------- ----------
For the year ended June 30,
---------------------------------
2002 2001 2000
---- ---- ----
Net unrealized gains (losses) on securities available for sale arising during the period $ 2,220 $ 2,326 $ (957)
Less: reclassifications adjustment for gains (losses) included in net income 310 (15) (29)
-------- ---------- ----------
Other comprehensive income (loss) 1,910 2,311 (928)
Net income 5,459 157 4,843
-------- ---------- ----------
Comprehensive income $ 7,369 $ 2,468 $ 3,915
-------- ---------- ----------
See accompanying Notes to consolidated financial statements.
56
Willow Grove Bancorp, Inc.
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the year ended June 30,
-----------------------------------
(DOLLARS IN THOUSANDS) 2002 2001 2000
- ------------------------------------------------------------------ ---- ---- ----
Net cash flows from operating activities:
Net income $ 5,459 $ 157 $ 4,843
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation 883 722 575
Amortization of premium and accretion 228 (283) 12
of discount, net
Amortization of intangible assets 273 277 410
Provision for loan losses 1,212 7,856 706
Gain on sale of loans available for sale (519) (381) -
(Gain) loss on sale of securities available for sale (310) 15 46
Increase (decrease) in deferred loan fees 71 (109) (101)
Increase in accrued income receivable (471) (872) (276)
Decrease (increase) in other assets 1,756 (2,127) (153)
(Decrease) increase in accrued interest payable (278) (328) 768
Deferred income tax benefit (304) (244) (327)
Increase (decrease) in other liabilities 537 (56) 86
Expense of ESOP and RRP 501 300 189
Originations and purchases of (76,188) (59,477) (35,753)
loans available for sale
Proceeds from sale of loans available for sale 77,777 92,967 -
--------- --------- ---------
Net cash provided by (used in) operating activities 10,627 38,417 (28,975)
--------- --------- ---------
Cash flows from investing activities:
Net decrease (increase) in loans 9,061 (37,152) (50,915)
Purchase of securities available for sale (247,796) (112,926) (7,098)
Proceeds from sales, calls and maturities 83,947 42,705 11,477
of securities available for sale
Principal repayments of securities 28,655 14,374 3,568
available for sale
Proceeds from sale of other 157 147 281
real estate owned
Purchase of property and equipment (1,210) (678) (1,672)
--------- --------- ---------
Net cash used in investing activities (127,186) (93,530) (44,359)
--------- --------- ---------
See accompanying notes to consolidated financial statements.
57
Willow Grove Bancorp, Inc.
CONSOLIDATED STATEMENTS OF CASH FLOWS - CONTINUED
For the year ended June 30,
------------------------------------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) 2002 2001 2000
- -------------------------------------------------------------------- ---- ---- ----
Cash flows from financing activities:
Net increase in deposits 32,722 44,173 62,176
Net increase (decrease) in advances - 3,000 (2,000)
with original maturity less than 90 days
Increase in FHLB advances with 59,000 51,000 53,000
original maturity greater than 90 days
Repayment of FHLB advances with (21,061) (31,632) (28,469)
original maturity greater than 90 days
Net (decrease) increase in advance (274) (846) 322
payments from borrowers for taxes
Dividends paid (1,378) (914) (763)
Acquisition of stock for Recognition - - (929)
and Retention Plan
Proceeds from stock issuance, net 57,223 - -
Issuance (purchase) of treasury stock 104 (2,140) (211)
-------- -------- ---------
Net cash provided by financing activities 126,336 62,641 83,126
-------- -------- ---------
Net increase in cash and cash equivalents 9,777 7,528 9,792
Cash and cash equivalents:
Beginning of year 22,209 14,681 4,889
-------- -------- ---------
End of year $ 31,986 $ 22,209 $ 14,681
======== ======== =========
Supplemental disclosures of cash and cash flow information
Interest paid $ 21,741 $ 24,544 $ 18,601
Income taxes paid $ 805 $ 2,275 $ 2,909
Noncash items:
Change in unrealized gain (loss) on securities 1,910 2,311 (928)
available for sale (net of taxes of $1,122, ($1,423), and $545
in 2002, 2001 and 2000, respectively)
See accompanying notes to consolidated financial statements.
58
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Summary of Significant Accounting Policies
Description of Business
Willow Grove Bancorp, Inc. (the "Company") provides a full range of banking
services through its wholly-owned subsidiary, Willow Grove Bank (the "Bank" or
"Willow Grove") which has 13 branches in Dresher, Willow Grove, Maple Glen,
Warminster (2), Hatboro, Huntington Valley, Roslyn, Philadelphia (2 - Somerton
and Rhawnhurst), North Wales, Southampton and Holland, Pennsylvania. All of the
branches are full-service and offer commercial and retail banking products and
services. These products include checking accounts (interest and non-interest
bearing), savings accounts, certificates of deposit, business loans, real estate
loans, and home equity loans. The Company is subject to competition from other
financial institutions and other companies that provide financial services. The
Company is subject to the regulations of certain federal agencies and undergoes
periodic examinations by those regulatory authorities.
On April 3, 2002 Willow Grove Bank completed its reorganization from the
two-tier mutual holding company form of organization to the stock form of
organization (the "April 2002 Reorganization"). The former Willow Grove Bancorp,
Inc. was a federally chartered mid-tier mutual holding company with
approximately 56.9% of its stock being held by Willow Grove Mutual Holding
Company and the remaining 43.1% being held by public shareholders. As part of
the April 2002 Reorganization, the former Willow Grove Bancorp, Inc., the
federal corporation was merged into Willow Grove Bank and the current Willow
Grove Bancorp Inc., a Pennsylvania corporation was incorporated by the Bank for
the purpose of becoming the holding company for the Bank. Willow Grove Bancorp,
Inc., the new Pennsylvania corporation through a public subscription offering
sold 6,414,125 shares of stock at $10.00 per share and issued 4,869,375 to the
stockholders of Willow Grove Bancorp, Inc., the former federal corporation which
represented an exchange of 2.28019 shares of its stock for each share of the
former company. Willow Grove Bank is now the wholly-owned subsidiary of Willow
Grove Bancorp, Inc., the Pennsylvania corporation. All per share data and
information prior to April 3, 2002 refers to the former Willow Grove Bancorp,
Inc., the federal corporation and has been restated to reflect the effect of the
increased shares resulting from the share issuance and exchange resulting from
the April 2002 Reorganization. For an interim period of time after the
completion of the April 2002 Reorganization, our stock traded under the symbol
"WGBCD", for all other periods the stock of both the former federal corporation
and the current Pennsylvania corporation traded under the symbol "WGBC".
In September 2000, Willow Grove Investment Corporation ("WGIC"), a Delaware
corporation was formed as a wholly owned subsidiary of the Bank to conduct the
investment activities of the Bank.
BASIS OF FINANCIAL STATEMENT PRESENTATION
The Company has prepared its accompanying consolidated financial statements in
accordance with generally accepted accounting principles ("GAAP") as applicable
to the banking industry. Certain amounts in prior years are reclassified for
comparability to the current year's presentation. The consolidated financial
statements include the balances of the Company and its wholly owned subsidiary.
All material inter-company balances and transactions have been eliminated in
consolidation.
In preparing the consolidated financial statements, the Company is required to
make estimates and assumptions that affect the reported amounts of assets and
liabilities as of the date of the statement of financial condition and revenue
and expense for the period. Actual results could differ significantly from those
estimates. Material estimates that are particularly susceptible to significant
change in the near-term include the determination of the allowance for loan
losses.
RISKS AND UNCERTAINTIES
In the normal course of its business, the Company encounters two significant
types of risk: economic and regulatory. There are three main components of
economic risk: interest rate risk, credit risk, and market risk. The Company is
subject to interest rate risk to the degree that its interest-bearing
liabilities mature or re-price at different speeds, or on a different basis from
its interest-earning assets. The Company's primary credit risk is the risk of
default on the Company's loan portfolio that results from the borrower's
inability to make contractually required payments. The
59
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Company's lending activities are concentrated in Pennsylvania. The largest
concentration of the Company's loan portfolio is located in eastern
Pennsylvania. The ability of the Company's borrowers to repay amounts owed is
dependent on several factors, including the economic conditions in the
borrower's geographic region and the borrower's financial condition. Market risk
reflects changes in the value of collateral underlying loans, the valuation of
real estate held by the Company, the valuation of loans held for sale,
securities available for sale and mortgage servicing assets. The Company is
subject to certain regulations as further described herein and in note 12.
Compliance with regulations causes the Company to incur significant costs. In
addition, the possibility of future changes to such regulations presents the
risk that future costs will be incurred which may impact the Company.
CASH AND CASH EQUIVALENTS
For purposes of the statements of cash flows, cash and cash equivalents include
cash and interest- bearing deposits with original maturities of three months or
less.
The Company is required to maintain certain daily balances in accordance with
Federal Reserve Bank requirements. The reserve balances maintained in accordance
with such requirements at June 30, 2002 and 2001 were $6.5 million and $4.5
million, respectively. Such reserve requirements are satisfied through a
combination of vault cash balances and sterile reserve deposits held at the
Federal Home Loan Bank of Pittsburgh.
LOANS HELD FOR SALE
Mortgage loans originated and intended for sale in the secondary market are
carried at the lower of cost or market calculated on an aggregate basis, with
any unrealized losses reflected in the statement of income. Loans transferred
from loans held for sale to loans receivable are transferred at the lower of
cost or market value at the date of transfer.
SECURITIES
The Company divides its securities portfolio into two segments: (a) held to
maturity and (b) available for sale. Securities in the held to maturity category
are carried at cost, adjusted for amortization of premiums and accretion of
discounts, using the level yield method, based on the Company's intent and
ability to hold the securities until maturity. Marketable securities included in
the available for sale category are carried at fair value, with unrealized gains
or losses which are temporary in nature, net of taxes, reflected as an
adjustment to equity. Unrealized losses which are other than temporary in nature
are reflected in the statement of operations. The fair value of marketable
securities for sale is determined from publicly quoted market prices. Securities
available for sale which are not readily marketable, which include Federal Home
Loan Bank of Pittsburgh stock, are carried at cost which approximates
liquidation value. Premiums and discounts on securities are amortized/accreted
using the interest method.
At the time of purchase, the Company makes a determination of whether or not it
will hold the securities to maturity, based upon an evaluation of the
probability of future events. Securities, which the Company believes may be
involved in interest rate risk, liquidity, or other asset/liability decisions,
which might reasonably result in such securities not being held to maturity, are
classified as available for sale. If securities are sold, a gain or loss is
determined by the specific identification method and is reflected in the
operating results in the period the trade occurs.
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is maintained at a level that management considers
adequate to provide for loan losses based on an evaluation of known and inherent
risks in the loan portfolio. Management's judgement is based upon periodic
evaluation of the portfolio, past loss experience, current economic conditions,
and other relevant factors. While management uses the best information available
to make such evaluations, future adjustments to the allowance may be necessary
if economic conditions differ substantially from the assumptions used in making
the evaluation. In addition, various regulatory agencies, as an integral part of
their examination process, periodically review the Company's allowance for loan
losses. Such agencies may require the Company to recognize additions to the
allowance based on their judgment of information available to them at the time
of their examination.
60
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
A loan is considered to be impaired when, based on current information, it is
possible that the Company will not receive all amounts due in accordance with
the contractual terms of the loan agreement. For purposes of applying the
measurement criteria for impaired loans, the Company excludes large groups of
smaller balance homogeneous loans, primarily consisting of residential real
estate and consumer loans, as well as commercial loans with balances of less
than $100,000. Such loans are evaluated collectively for impairment. Interest
income recognition on impaired loans is the same as interest income recognition
on non-accrual loans as described below. Cash receipts on impaired loans are
generally applied to principal. A valuation allowance is established against
impaired loans when the Company determines that the fair value of the loan or
its related collateral is less than the recorded investment of the impaired
loan.
MORTGAGE SERVICING RIGHTS
The Company recognizes mortgage servicing rights as assets, regardless of how
such assets were acquired.
Impairment of mortgage servicing rights is assessed based upon a fair market
valuation of those rights on a disaggregated basis. Impairment, if any, is
recognized in the statement of income. There was no impairment in the mortgage
servicing rights for the years ended June 30, 2002, 2001 and 2000.
LOANS, LOAN ORIGINATION FEES, AND UNCOLLECTED INTEREST
Loans are recorded at cost, net of unearned discounts, deferred fees, and
allowances. Discounts or premiums on purchased loans are amortized using the
interest method over the remaining contractual life of the portfolio, adjusted
for actual prepayments. Loan origination fees and certain direct origination
costs are deferred and amortized over the contractual life of the related loans
using the level yield method.
Interest receivable on loans is accrued to income as earned. Non-accrual loans
are loans on which the accrual of interest has ceased because the collection of
principal or interest payments is determined to be doubtful by management. It is
the policy of the Company to discontinue the accrual of interest and reverse any
accrued interest when principal or interest payments are delinquent more than 90
days (unless the loan principal and interest are determined by management to be
fully secured and in the process of collection), or earlier if the financial
condition of the borrower raises significant concern with regard to the ability
of the borrower to service the debt in accordance with the terms of the loan.
Interest income on such loans is not accrued until the financial condition and
payment record of the borrower demonstrates the ability to service the debt.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost, less accumulated depreciation and
amortization. The Company computes depreciation and amortization using the
straight-line method over the estimated useful lives of the assets which range
from three to 40 years. Significant renovations and additions are capitalized.
Leasehold improvements are depreciated over the shorter of the useful lives of
the assets or the related lease term. When assets are retired or otherwise
disposed of, the cost and related accumulated depreciation are removed from the
accounts and any resulting gain or loss is reflected in income for the period.
The cost of maintenance and repairs is charged to expense as incurred.
INTANGIBLE ASSETS
Intangible assets include a core deposit intangible and goodwill, which
represents the excess cost over fair value of assets acquired and liabilities
assumed. The core deposit intangible is being amortized to expense over a
twelve-year life and goodwill is being amortized to expense over a period of ten
years. The carrying amount of intangible assets at June 30, 2002 and 2001 is net
of accumulated amortization of $3.2 million and $2.9 million, respectively.
INCOME TAXES
Deferred tax assets and liabilities are recognized for future tax consequences
attributable to differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases. Deferred tax
assets and liabilities are measured using enacted tax rates expected to apply to
taxable income in the years in which
61
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
those temporary differences are expected to be recovered or settled. The effect
on deferred tax assets and liabilities of a change in tax rates is recognized in
income in the period that includes the enactment date.
EARNINGS PER SHARE
Earnings per share ("EPS") consists of two separate components, basic EPS and
diluted EPS. Basic EPS is computed by dividing net income by the weighted
average number of common shares outstanding for each period presented. Diluted
EPS is calculated by dividing net income by the weighted average number of
common shares outstanding plus dilutive common stock equivalents ("CSEs"). CSEs
consist of dilutive stock options granted through the Company's stock option
plan and unvested common stock awards. Common stock equivalents which are
considered antidilutive are not included for the purposes of this calculation.
At June 30, 2002 there were no antidilutive shares.
STOCK OPTIONS
The Company accounts for its stock option plan in accordance with the provisions
of Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock
Issued to Employees," and related interpretations, as permitted by statement No.
123, "Accounting for Stock-Based Compensation". As such, compensation expense is
recorded on the date of grant only if the current market price of the underlying
stock exceeds the exercise price. Statement No. 123 requires entities which
continue to apply the provisions of APB Opinion No. 25 to provide pro-forma
earnings per share disclosures for stock option grants made in 1995 and
subsequent years as if the fair value based method defined in Statement No. 123
had been applied.
RECENT ACCOUNTING PRONOUNCEMENTS
GOODWILL AND OTHER INTANGIBLE ASSETS
In June 2001, the FASB issued Statement No. 142, "Goodwill and Other
Intangible Assets." The Statement addresses financial accounting and reporting
for acquired goodwill and other intangible assets and supersedes APB Opinion No.
17, "Intangible Assets." It addresses how intangible assets that are acquired
individually or with a group of other assets (but not those acquired in a
business combination) should be accounted for in financial statements upon their
acquisition. The Statement also addresses how goodwill and other intangible
assets should be accounted for after they have been initially recognized in the
financial statements.
The provisions of the Statement are required to be applied starting with
fiscal years beginning after December 15, 2001, except that goodwill and
intangible assets acquired after June 30, 2001, will be subject immediately to
the nonamortization and amortization provisions of the Statement. Early
application is permitted for entities with fiscal years beginning after March
15, 2001, provided that the first interim financial statements have not
previously been issued. The Statement is required to be applied at the beginning
of an entity's fiscal year and to be applied to all goodwill and other
intangible assets recognized in its financial statements at that date. As the
goodwill currently on the company's books is accounted for uder SFAS 72 there
was no impact on earnings, financial condition or equity upon adoption of
Statement No. 142 on January 1, 2002.
ASSET RETIREMENT OBLIGATIONS
In June 2001, the FASB issued Statement No. 143, "Accounting for Asset
Retirement Obligations." This Statement addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. It applies to legal
obligations associated with the retirement of long-lived assets that result from
the acquisition, construction, development and (or) the normal operation of a
long-lived asset, except for certain obligations of lessees. As used in this
Statement, a legal obligation is an obligation that a party is required to
settle as a result of an existing or enacted law, statute, ordinance or written
or oral contract or by legal construction of a contract under the doctrine of
promissory estoppel. This Statement requires that the fair value of a liability
for an asset retirement obligation be recognized in the period in which it is
incurred if a reasonable estimate of fair value can be made. The associated
asset retirement costs are capitalized as part of the carrying amount of the
long-lived asset.
62
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
This Statement amends FASB Statement No. 19, "Financial Accounting and
Reporting by Oil and Gas Producing Companies," and it applies to all entities.
It is effective for financial statements issued for fiscal years beginning after
June 15, 2002. Earlier application is encouraged. There is no expected impact on
earnings, financial condition or equity upon adoption of Statement No. 143.
IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS
In August 2001, the FASB issued Statement No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." This Statement addresses financial
accounting and reporting for the impairment or disposal of long-lived assets and
supersedes Statement No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of." However, the Statement
retains the fundamental provisions of Statement No. 121 for (a) recognition and
measurement of the impairment of long-lived assets to be held and used and (b)
measurement of long-lived assets to be disposed of by sale.
This Statement supersedes the accounting and reporting provisions of APB
Opinion No. 30, "Reporting the Results of Operations-Reporting the Effects of
Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions," for the disposal of a segment of a business.
However, this Statement retains the requirement of Opinion No. 30 to report
discontinued operations separately from continuing operations and extends that
reporting to a component of an entity that either has been disposed of (by sale,
by abandonment, or in distribution to owners) or is classified as held for sale.
This Statement also amends ARB No. 51, "Consolidated Financial Statements," to
eliminate the exception to consolidation for a temporarily controlled
subsidiary.
The provisions of this Statement are effective for financial statements
issued for fiscal years beginning after December 15, 2001 and interim periods
within those fiscal years, with earlier application encouraged. The provisions
of this Statement generally are to be applied prospectively. There was no impact
on earnings, financial condition or equity upon adoption of Statement No. 144 on
January 1, 2002.
RESCISSION OF FASB STATEMENTS NO. 4, 44 AND 64
In April 2002, the FASB issued SFAS No. 145 "Rescission of FASB Statements
No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." This Statement rescinds FASB Statement No. 4, REPORTING GAINS AND
LOSSES FROM EXTINGUISHMENT OF DEBT, and an amendment of that Statement, FASB
Statement No. 64, EXTINGUISHMENTS OF DEBT MADE TO SATISFY SINKING-FUND
REQUIREMENTS, along with rescinding FASB Statement No. 44, ACCOUNTING FOR
INTANGIBLE ASSETS OF MOTOR CARRIERS and amending FASB Statement No. 13,
ACCOUNTING FOR LEASES. This Statement (1) eliminates an inconsistency between
the required accounting for sale-leaseback transactions and the required
accounting for certain lease modifications that have economic effects that are
similar to sale-leaseback transactions, (2) eliminates the extraordinary item
treatment of reporting gains and losses from extinguishment of debt, and (3)
makes certain other technical corrections.
The provisions of this Statement related to the rescission of Statement 4
shall be applied in fiscal years beginning after May 15, 2002. The provisions of
this Statement related to Statement 13 shall be effective for transactions
occurring after May 15, 2002. All other provisions of this Statement shall be
effective for financial statements issued on or after May 15, 2002. Early
application of this Statement is encouraged. There is no expected impact on
earnings, financial condition or equity upon adoption of Statement No. 145.
ACCOUNTING FOR COSTS ASSOCIATED WITH EXIT OR DISPOSAL ACTIVITIES
In June 2002, the FASB issued SFAS No. 146 "Accounting for Costs
Associated with Exit or Disposal Activities." This Statement addresses financial
accounting and reporting for costs associated with exit or disposal activities
and nullifies Emerging Issues Task Force (EITF) Issue No. 94-3, "Liability
Recognition for Certain Employee Termination Benefits and Other Costs to Exit an
Activity (including Certain Costs Incurred in a Restructuring)."
63
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The provisions of this Statement are effective for exit or disposal
activities that are initiated after December 31, 2002, with early application
encouraged. There is no expected impact on earnings, financial condition or
equity upon adoption of Statement No. 146.
64
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(2) Earnings Per Share
For the years ended June 30, 2002, 2001 and 2000 earnings per share, basic and
diluted, were $0.53 and $0.51, $0.01 and $0.01, and $0.43 and $0.43,
respectively.
The following is a reconciliation of the numerators and denominators of the
basic and diluted earnings per share calculations.
Year Ended June 30,
----------------------------------------------------------------------------------
2002 2001 2000
---- ---- ----
Basic Diluted Basic Diluted Basic Diluted
----------- ----------- ----------- ----------- ----------- -----------
(DOLLARS IN THOUSANDS, EXCEPT SHARE DATA)
Net income $ 5,459 $ 5,459 $ 157 $ 157 $ 4,843 $ 4,843
Dividends on unvested (29) (29) (33) (33) (25) (25)
----------- ----------- ----------- ----------- ----------- -----------
stock awards
Income available to common $ 5,430 $ 5,430 $ 124 $ 124 $ 4,818 $ 4,818
stock holders
Weighted average 10,335,262 10,335,262 10,972,607 10,972,607 11,172,828 11,172,828
shares outstanding (1)
Effect of dilutive securities:
Options (1) - 159,100 - 63,585 - 4,161
Unvested stock awards (1) - 109,187 - 159,741 - 139,607
----------- ----------- ----------- ----------- ----------- -----------
Adjusted weighted average
shares used in earnings
per share calculation (1) 10,335,262 10,603,549 10,972,607 11,195,933 11,172,828 11,316,596
----------- ----------- ----------- ----------- ----------- -----------
Earnings per share (1) $ 0.53 $ 0.51 $ 0.01 $ 0.01 $ 0.43 $ 0.43
=========== =========== =========== =========== =========== ===========
- --------------------------------------------
(1) Data prior to April 3, 2002 adjusted for 2.28019 exchange ratio in
connection with the April 3, 2002
Reorganization and subscription offering.
65
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(3) Securities Available for Sale
Securities available for sale at June 30, 2002 and 2001 consisted of the
following:
June 30, 2002
---------------------------------------------------------------
AMORTIZED UNREALIZED UNREALIZED ESTIMATED
COST GAINS LOSSES FAIR VALUE
--------- ------- -------- --------
(DOLLARS IN THOUSANDS)
Held to maturity:
Municipal bonds $ 13,973 $ 147 $ (3) $ 14,117
Available for sale:
US government agency securities 75,692 1,013 (12) 76,693
Mortgage-backed securities
FNMA 87,778 1,649 - 89,427
FHLMC 40,820 303 (360) 40,763
GNMA 37,847 495 (1) 38,341
Equity securities 9,514 (51) 9,463
--------- ------- -------- --------
Total available for sale 251,651 3,460 (424) 254,687
--------- ------- -------- --------
Total securities $ 265,624 $ 3,607 $ (427) $ 268,804
========== ======= ======== =========
June 30, 2001
---------------------------------------------------------------
AMORTIZED UNREALIZED UNREALIZED ESTIMATED
COST GAINS LOSSES FAIR VALUE
--------- ------- -------- --------
(DOLLARS IN THOUSANDS)
Available for sale:
US government agency securities $ 43,722 $ 391 $ (315) $ 43,798
Mortgage-backed securities
FNMA 22,002 61 (124) 21,939
FHLMC 14,772 107 (71) 14,808
GNMA 39,131 176 (220) 39,087
Municipal bonds 2,903 6 (21) 2,888
Equity securities 7,876 - (38) 7,838
--------- ------- -------- ---------
Total securities $ 130,406 $ 741 $ (789) $ 130,358
========= ======= ======== =========
Proceeds from the sales of securities available for sale for the years ended
June 30, 2002, 2001, and 2000 were $23.6 million, $30.1 million and $9.5
million, respectively. Gross gains of $437,000, $260,000 and $57,000 were
realized in fiscal 2002, 2001 and 2000 respectively. There were gross losses of
$34,000, $17,000 and $103,000 in fiscal 2002, 2001 and 2000, respectively.
Additionally, we recognized losses of $93,000 and $258,000 in fiscal 2002 and
2001, respectively, resulting from other than temporary declining values of
certain equity securities.
Accrued interest receivable on securities amounted to $2.0 million and $1.3
million at June 30, 2002 and 2001, respectively.
66
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The amortized cost and estimated fair value of securities available for sale at
June 30, 2002, by contractual maturity, are shown below.
Securities by stated maturity
-------------------------------------------------------------
After 10
After 5 years
After 1 year years or with no
1 year but less than but less than stated
or less 5 years 10 years maturity Total
-------- -------------- -------------- ----------- ----------
(DOLLARS IN THOUSANDS)
US government agency securities $ 2,006 $ 60,745 $ 12,936 $ 1,006 $ 76,693
Mortgage-backed securities - 5,106 18,901 144,524 168,531
Municipal bonds - - 1,253 12,864 14,117
Equity securities - - - 9,463 9,463
------- -------- -------- --------- ---------
Total securities at fair value 2,006 65,851 33,090 167,857 268,804
Total securities at amortized cost $ 2,002 $ 65,049 $ 32,499 $ 166,074 $ 265,624
======= ======== ======== ========= =========
The Company must maintain stock as a member of the Federal Home Loan Bank of
Pittsburgh ("FHLB") of $5.0 million and $3.4 million as of June 30, 2002 and
2001, respectively.
For mortgage-backed securities, expected maturities will differ from contractual
maturities because borrowers may have the right to call or prepay the obligation
with or without call or prepayment penalties. Many of the Company's U.S.
government agency securities are callable within one year.
As described in note 10, certain securities available for sale are maintained to
collateralize advances from the FHLB.
(4) Loans
Loans receivable as of June 30, 2002 and 2001 consisted of the following:
June 30, 2002 June 30, 2001
------------- -------------
(DOLLARS IN THOUSANDS)
Mortgage loans:
Single-family $ 181,454 $ 198,310
Multi-family & commercial real estate 134,294 128,613
Construction 29,306 27,724
Home equity 75,016 75,060
------------- -------------
Total mortgage loans: 420,070 429,707
Consumer loans 10,081 9,688
Commercial business loans 19,067 19,925
------------- -------------
Total loans receivable 449,218 459,320
Allowance for loan losses (4,626) (4,313)
Deferred loan fees (737) (808)
------------- -------------
Loans receivable, net $ 443,855 $ 454,199
============= =============
67
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
As described in note 10, certain loans are maintained to collateralize advances
from the FHLB.
Included in loans receivable are loans on non-accrual status in the amounts of
$4.0 million, $3.6 million and $1.2 million at June 30, 2002, 2001 and 2000,
respectively. Interest income that would have been recognized on such
non-accrual loans during the years ended June 30, 2002, 2001 and 2000, had they
been current in accordance with their original terms was $257,000, $695,000, and
$104,000, respectively.
As of June 30, 2002, 2001 and 2000, the Company had impaired loans with a total
recorded investment of $3.4 million, $3.2 million and $390,000, respectively,
and an average recorded investment for the years ended June 30, 2002, 2001 and
2000 of $1.8 million, $8.5 million and $107,000 respectively. Cash of $134,000,
$648,000 and $24,000 was collected on these impaired loans during the years
ended June 30, 2002, 2001 and 2000, respectively. Interest income of $80,000,
$366,000 and $22,000 was recognized on such loans during the years ended June
30, 2002, 2001 and 2000, respectively. As of June 30, 2002, 2001 and 2000, there
were no recorded investments in impaired loans for which there was a related
specific allowance for credit losses
The following is a summary of the activity in the allowance for loan losses for
the years ended June 30, 2002, 2001 and 2000:
For the years ended June 30,
--------------------------------------------------------------
2002 2001 2000
------------------- ------------------ ------------------
(DOLLARS IN THOUSANDS)
Balance, beginning of the period $ 4,313 $ 3,905 $ 3,138
Provisions for loan losses 1,212 7,856 706
Charge-offs (954) (7,449) (85)
Recoveries 55 1 146
----------- ------------ -----------
Balance, end of the period $ 4,626 $ 4,313 $ 3,905
=========== ============ ===========
(5) Mortgage Servicing Activity
A summary of mortgage servicing rights activity follows:
For the years ended June 30,
-------------------------------------------------------------
2002 2001 2002
------------------ ------------------ ------------------
(DOLLARS IN THOUSANDS)
Balance, beginning of the period $ 340 $ 127 $ 236
Originated servicing rights - 350 -
Amortization (119) (137) (109)
----------- ------------ -----------
Balance, end of the period $ 221 $ 340 $ 127
=========== ============ ==========
At June 30, 2002, 2001 and 2000, the Company serviced loans for others of $58.3
million, $91.5 million, and $64.3 million, respectively. Loans serviced by
others for the Company as of June 30, 2002, 2001 and 2000 were $6.8 million,
$6.9 million, and $3.9 million, respectively.
68
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(6) Deposits
Deposit balances by type consisted of the following at June 30, 2002, and 2001:
JUNE 30, 2002 JUNE 30, 2001
------------------------ ------------------------
PERCENT OF PERCENT OF
AMOUNT TOTAL AMOUNT TOTAL
---------- ----------- ---------- ------------
(DOLLARS IN THOUSANDS)
Savings accounts (passbooks, statements, clubs) $ 73,218 13.8 % $ 58,566 11.8 %
Money market accounts 47,752 9.0 34,788 7.0
Certificates of deposit less than $100,000 248,873 47.0 264,458 53.2
Certificates of deposit greater than $100,000(1) 56,934 10.7 56,900 11.4
Interest-bearing checking accounts 40,045 7.6 31,825 6.4
Non-interest-bearing checking accounts 62,930 11.9 50,493 10.2
--------- ------ --------- -----
Total $ 529,752 100.0 % $ 497,030 100.0 %
========= ====== ========= =====
- ----------------------------
(1) Deposit balances in excess of $100,000 are not federally insured.
While certificates of deposit are frequently renewed at maturity rather than
paid out, a summary of certificates of deposit by contractual maturity and rate
at June 30, 2002 is as follows:
Maturity Date
----------------------------------------------------------------------
Over six
months Over one Over two
Six months through one year through years through Over three
or less year two years three years years
---------- ---------- --------- --------- ---------
Interest rates: (DOLLARS IN THOUSANDS)
- ----------------------
0.00% - 2.99% $ 52,080 $ 50,703 $ 4,051 $ - $ -
3.00% - 3.99% 33,875 12,838 16,189 5,683 2,725
4.00% - 4.99% 25,276 8,312 17,849 15,111 9,727
5.00% - 6.99% 24,826 8,090 14,412 840 684
7.00% and over 1,689 395 452 - -
---------- ---------- --------- --------- ---------
Total $ 137,746 $ 80,338 $ 52,953 $ 21,634 $ 13,136
========= ========= ========= ======== =========
Interest expense on deposits for the years ended June 30, 2002, 2001 and 2000
consisted of the following:
For the years ended June 30,
-------------------------------------------
2002 2001 2000
---- ---- ----
(DOLLARS IN THOUSANDS)
Savings accounts $ 1,175 $ 1,102 $ 1,049
Checking accounts 1,346 1,464 1,347
Certificates of deposit 14,810 17,806 14,598
--------- --------- ---------
Total $ 17,331 $ 20,372 $ 16,994
========= ========= =========
69
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(7) Property and Equipment
Amounts charged to operating expense for depreciation for the years ended June
30, 2002, 2001 and 2000 amounted to $883,000, $723,000 and $575,000,
respectively.
For the years ended June 30,
-----------------------------------
2002 2001
---------------- ----------------
(DOLLARS IN THOUSANDS)
Depreciable Life
----------------
Land $ 1,423 $ 1,323
Buildings 15 to 40 years 5,513 4,604
Furniture, fixtures and equipment 3 to 7 years 5,078 4,877
------------ ------------
Total 12,014 10,804
Accumulated depreciated (5,499) (4,616)
------------ ------------
Property and equipment, net $ 6,515 $ 6,188
============ ============
(8) Income Taxes
The Small Business Job Protection Act of 1996, enacted on August 20, 1996,
provides for the repeal of the tax bad debt deduction computed under the
percentage of taxable income method. Upon repeal, the Company is required to
recapture into income, over a six-year period, the portion of its tax bad debt
reserves that exceeds its base year reserves (i.e., tax reserves for tax years
beginning before 1988). The base year tax reserves, which may be subject to
recapture if the Company ceases to qualify as a bank for federal income tax
purposes, are restricted with respect to certain distributions. The Company's
total tax bad debt reserves at June 30, 2002 are approximately $7.0 million, of
which $6.2 million represents the base year amount and $800,000 is subject to
recapture. The Company has previously recorded a deferred tax liability for the
amount to be recaptured; therefore, this recapture does not impact the statement
of income.
Income tax expense (benefit) for the years ended June 30, 2002, 2001 and 2000
consisted of the following:
Current Deferred Total
------- -------- ---------
(DOLLARS IN THOUSANDS)
For the year ended June 30, 2002 Federal $ 2,988 $ (304) $ 2,684
State 6 - 6
------- -------- ---------
Total $ 2,994 $ (304) $ 2,690
======= ======== =========
For the year ended June 30, 2001 Federal $ 203 $ (244) $ (41)
State 9 - 9
------- -------- ---------
Total $ 212 $ (244) $ (32)
======= ======== =========
For the year ended June 30, 2000 Federal $ 2,849 $ (327) $ 2,522
State 479 - 479
------- -------- ---------
Total $ 3,328 $ (327) $ 3,001
======= ======== =========
70
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The expense (benefit) for income taxes differed from that computed at the
statutory federal corporate rate for the years ended June 30, 2002, 2001 and
2000 as follows:
June 30, 2002 June 30, 2001 June 30, 2000
----------------------- ----------------------- -----------------------
Percent Percent Percent
pretax pretax pretax
Amount income Amount income Amount income
--------- ---------- --------- --------- --------- ----------
(DOLLARS IN THOUSANDS)
At statutory rate $ 2,771 34 % $ 42 34 % $ 2,667 34 %
State tax, net of federal tax
benefit 4 - 6 5 316 4
Low income housing credit (29) - (29) (23) (29) -
Tax-exempt interest (100) (1) (34) (28) (25) -
Meals and entertainment 6 - 10 9 7 -
Dividends on ESOP shares - - (21) (18) (21) -
Non-deductible expenses 1 - - - 76 -
ESOP compensation expense 41
Other (4) - (6) (5) 10 -
--------- -------- -------- --------- --------- --------
Income tax per statement of
income $ 2,690 33 % $ (32) (26) % $ 3,001 38 %
========= ======== ======== ========= ========= ========
71
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Significant deferred tax assets and liabilities of the Company as of June 30,
2002 and 2001 are as follows:
June 30,
-----------------------------------
2002 2001
---- ----
(DOLLARS IN THOUSANDS)
Impairment reserves $ 97 $ 60
Deferred loan fees 250 275
Retirement plan reserves 398 344
Employee benefits 255 205
Intangible asset amortization 330 341
Capital loss carryover - 45
Charitable contributions - 34
Uncollected interest 50 40
Book bad debt reserves 1,573 1,466
Unrealized loss on available for sale securities - 11
Other, net 16 36
-------- ---------
Gross deferred tax assets 2,969 2,857
-------- ---------
Tax bad debt reserves - -
Tax bad debt reserves in excess of base year (275) (413)
Prepaid expenses (15) (16)
Originated mortgage servicing rights (75) (116)
Unrealized gain on available for sale securities (1,124) -
Depreciation (69) (70)
-------- ---------
Gross deferred tax liabilities (1,558) (615)
-------- ---------
Net tax deferred asset $ 1,411 $ 2,242
======== =========
The realizability of deferred tax assets is dependent upon a variety of factors,
including the generation of future taxable income, the existence of taxes paid
and recoverable, the reversal of deferred tax liabilities and tax planning
strategies. Based upon these and other factors, management believes it is more
likely than not that the Company will realize the benefits of these deferred tax
assets.
(9) Benefit Plans
The Company has a money purchase pension plan to which the Company contributes
for all eligible employees. During the first six months of the fiscal year ended
June 30,2002, this contribution was 7.50% of their base salary and during the
second six months, this contribution was 5.0% of their base salary. The expense
of such plan was $301,000, $269,000,and $222,000 for the years ended June 30,
2002, 2001 and 2000, respectively.
The Company also has a 401(k) plan which covers all eligible employees and
permits them to make certain contributions to the plan on a pretax basis.
Employees are permitted to contribute up to 10% of salary to this plan. The
Company matches fifty cents for every dollar contributed. The expense of such
plan was $158,000, $134,000 and $110,000 for the years ended June 30, 2002, 2001
and 2000, respectively.
Effective June 30, 1998, the Company adopted non-qualified supplemental
retirement plans for the Company's Board of Directors (the "Directors' Plan")
and for the Company's president (the "President's Plan"). The Directors' Plan
provides for fixed annual payments to qualified directors for a period of ten
years from retirement. Benefits to be paid accrue at the rate of 20% per year on
completion of six full years of service, with full benefit accrual at ten years
of service. At the time these plans were adopted credit was given for past
service. The President's Plan
72
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
provides for payments for a period of ten years beginning at retirement based on
a percentage of annual compensation not to exceed an established cap. Full
benefits become accrued at age 68 with partial vesting prior thereto. Both plans
provide for full payments in the event of a change in control of the Company.
The costs of each of the Directors' Plan and President's Plan were $120,000 and
$60,000 for fiscal year ended 2002 respectively, and $60,000 and $18,000
respectively, for years ended 2001 and 2000. The Directors' Plan and President's
Plan are intended to be and are unfunded.
The ESOP
In December 23, 1998 , the Company adopted an ESOP. The ESOP borrowed $1.8
million from the Company and used the funds to purchase 408,769 shares (179,270
shares pre-exchange) of the Company's stock. The loan has an interest rate of
7.75% and has an amortization schedule of 15 years. The April 2002
Reorganization resulted in an additional ESOP loan of $5.1 to purchase 513,130
of the Company's stock issued in the Reorganization. This loan has an interest
rate of 4.75% and an amortization schedule of 15 years. Shares purchased are
held in a suspense account for allocation among the participants as the loans
are repaid. Contributions to the ESOP and shares released from the loan
collateral will be in an amount proportional to repayment of the ESOP loans.
Shares are allocated to participants based on compensation as described in the
ESOP, in the year of allocation. At June 30, 2002, there were 186,419 ESOP
shares allocated to participants, representing a fair value of $959,000, in
addition, there were 31,069 shares committed to be released. The Company
recorded compensation expense of $338,000, $138,000, and $81,000 for the ESOP
for the years ended June 30, 2002, 2001 and 2000, respectively.
RRP
Pursuant to the 1999 Recognition and Retention Plan and Trust Agreement (the
"RRP"), the Company acquired 204,384 shares at a cost of $929,000 (89,635 shares
pre-exchange). Pursuant to the terms of the agreement, 204,384 shares have been
awarded to directors and management from the RRP Trust. As of June 30, 2002,
73,203 granted shares were vested pursuant to the terms of the Plan.
At June 30, 2002, the deferred cost of unearned RRP shares totaled $434,000 and
is recorded as a charge against stockholders' equity. Compensation expense on
RRP shares granted is recognized ratably over the five year vesting period in an
amount which totals the market price of the Company's stock at the date of
grant. The Company recorded compensation expense of $162,000 and $162,000
related to the RRP for the years ended June 30, 2002 and 2001, respectively.
Stock Option Plan
The stockholders of the Company approved a stock option plan in fiscal 2000
("the Plan") for officers, directors and certain employees of the Company or its
subsidiaries. Pursuant to the terms of the Plan, the number of common shares
reserved for issuance is 510,963 of which 11,400 options remain unawarded. All
options have been granted with an exercise price equal to fair market value at
the date of grant and expire in 10 years from the date of grant. All stock
options granted vest over a five year period from the date of grant.
73
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
A summary of the status of the Plan as of June 30, 2002 and changes during the
year is presented below:
Year ended June 30, 2002 Year ended June 30, 2001
------------------------------------------------------------
Weighted Weighted
Number of average exercise Number of average exercise
shares price shares price
----------- ---------------- ------------- ---------------
Outstanding at beginning of year 327,663 $3.97 381,019 $3.97
Granted 172,572 8.33 - -
Exercised (27,818) 3.97 - -
Forfeited (1,722) 3.97 (53,356) 3.97
--------- ----- --------- -----
Outstanding at end of year 470,695 $5.56 327,663 $3.97
--------- ----- --------- -----
Exercisable at end of year 119,660 $3.97 65,533 $3.97
SFAS No 123, "Accounting for Stock-based Compensation" encourages, but does not
require, the adoption of fair-value accounting for stock-based compensation to
employees. The Company, as permitted, has elected not to adopt the fair value
accounting provisions of SFAS 123, and has instead continued to apply APB
Opinion 25 and related interpretations in accounting for the Plan and to provide
the required proforma disclosures for SFAS No. 123. Had the Company determined
compensation cost based on the fair value at the grant date for its stock
options under SFAS No. 123, the Company's net income and earnings per share
would have been reduced to the proforma amounts indicated below:
For the year ended June 30,
------------------------------------------
2002 2001 2000
---- ---- ----
(DOLLARS IN THOUSANDS,
EXCEPT PER SHARE DATA)
Net income
As reported $ 5,459 $ 157 $ 4,843
Pro-forma 5,351 62 4,769
Basic earnings per share
As reported $0.53 $0.01 $0.43
Pro-forma $0.52 $0.01 $0.42
Diluted earnings per share
As reported $0.51 $0.01 $0.43
Pro-forma $0.50 $0.01 $0.42
Dividend yield 2.75% n/a 3.45%
Volatility 27.74% n/a 26.07%
Expected term 7.5 years n/a 10 years
Risk-free interest rate 4.41% n/a 5.80%
74
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table summarizes all stock options outstanding for the Plan as of
June 30, 2002, segmented by range of exercise prices:
Total outstanding options at June 30, 2002
Range of exercisable prices $3.97 to $8.33
Number outstanding 470,695
Weighted average remaining contractual life 8.09 years
Weighted average exercise price $5.56
Exercisable options at June 30, 2002
Number outstanding 119,660
Weighted average exercise price $3.97
(10) Federal Home Loan Bank Advances
Under terms of its collateral agreement with the FHLB, the Company maintains
otherwise unencumbered qualifying assets (principally qualifying 1-4 family
residential mortgage loans and U.S. government agency, and mortgage-backed
securities) in the amount of at least as much as its advances from the FHLB. The
Company's FHLB stock is also pledged to secure these advances.
At June 30, 2002, such advances have contractual maturities as follows:
Amount Weighted
outstanding average rate
----------- --------------
(DOLLARS IN THOUSANDS)
Due by:
June 30, 2003 $ 10,000 5.19 %
June 30, 2004 5,418 4.18
June 30, 2005 9,576 4.56
June 30, 2006 14,022 5.65
June 30, 2007 18,808 4.65
Thereafter 40,000 5.23
--------- ------------
Total $ 97,824 5.05 %
========= ============
At June 30, 2002, $62.5 million of the above advances were callable at the
direction of the FHLB within certain parameters, of which $48.5 million could be
called within one year.
75
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(11) Commitments and Contingencies
At June 30, 2002 and 2001, the Company was committed to fund loans as follows:
June 30,
-----------------------------
2002 2001
----------- ----------
(DOLLARS IN THOUSANDS)
Loans with fixed interest rates $ 11,090 $ 3,474
Loans with variable interest rates 29,082 7,246
-------- --------
Total commitments to fund loans $ 40,172 $ 10,720
======== ========
Financial Instruments With Off-Balance Sheet Risk
In the normal course of business, the Company is a party to financial
instruments with off-balance sheet risk to meet the financing needs of its
customers. At June 30, 2002 the Company is committed to the funding of first
mortgage loans of approximately $10.7 million, construction loans of
approximately $16.4 million, commercial business loans of approximately $5.1
million, and commercial real estate loans of $ 8.0 million.
The Company uses the same credit policies in extending commitments as it does
for on-balance sheet instruments. The Company attempts to control its exposure
to loss from these agreements through credit approval processes and monitoring
procedures. Commitments to extend credit are generally issued for one year or
less and may require payment of a fee. The total commitment amounts do not
necessarily represent future cash disbursements, as many of the commitments
expire without being drawn upon. The Company may require collateral in extending
commitments, which may include cash, accounts receivable, securities, real or
personal property, or other assets. For those commitments which require
collateral, the value of the collateral generally equals or exceeds the amount
of the commitment.
Concentration of Credit Risk
The Company offers residential and construction real estate loans as well as
commercial and consumer loans. The Company's lending activities are concentrated
in Pennsylvania. The largest concentration of the Company's loan portfolio is
located in eastern Pennsylvania. The ability of the Company's borrowers to repay
amounts owed is dependent on several factors, including the economic conditions
in the borrower's geographic region and the borrower's financial condition.
Legal Proceedings
ATS PRODUCTS CORP. VS. WILLOW GROVE BANK, (United State Bankruptcy Court,
Eastern District of Pennsylvania). On May 2, 2001, a lawsuit was filed against
the Bank alleging four causes of action related to a line of credit between the
Bank and the plaintiff. The causes of action are: breach of contract, fraud,
negligent misrepresentation and breach of fiduciary duty. The plaintiff seeks
compensatory damages in an amount in excess of $150,000, punitive damages,
attorney's fees, costs and litigation expenses as well as other relief. The
plaintiff alleges that its actual damages may exceed $10 million. Discovery in
this case has been delayed due to a change of the plaintiff's status to a
Chapter 7 Bankruptcy. The Bank will vigorously defend the claims made by the
plaintiff and believes that the claims are without merit.
Other than the above referenced litigation, the Company is involved in various
legal proceedings occurring in the ordinary course of business. Management of
the Company, based on discussions with litigation counsel, believes that such
proceedings will not have a material adverse effect on the financial condition
or operations of the Company. There can be no assurance that any of the
outstanding legal proceedings to which the Company is a party will not be
decided adversely to the Company's interests and have a material adverse effect
on the financial condition and operations of the Company.
76
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Other Commitments
In connection with the operation of thirteen of its banking offices and an
operations center, the Company leases certain office space. The leases are
classified as operating leases, with rent expense of $577,000, $485,000, and
$375,000 for the years ended June 30, 2002, 2001 and 2000, respectively. Minimum
payments over the remainder of the lease are summarized as follows:
Minimum Lease Payments
-----------------------
(DOLLARS IN THOUSANDS)
Year ended:
June 30, 2003 $ 564
June 30, 2004 475
June 30, 2005 334
June 30, 2006 322
Thereafter 313
--------
Total $ 2,008
========
(12) Regulatory Matters
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 additional discretionary actions by
regulators that if undertaken, could have a direct material effect on the Bank's
financial statements. Under capital adequacy guidelines and the 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 as calculated under accounting practices.
The Bank's capital amounts and classifications are also subject to qualitative
judgments by the regulators about components, risk weightings, and other
factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Bank to maintain certain minimum amounts and ratios (set forth in
the table below). Management believes that the Bank meets, as of June 30, 2002,
all capital adequacy requirements to which it is subject.
As of June 30, 2002 the most recent notification from the OTS categorized the
Bank as well capitalized under the regulatory framework for prompt corrective
action. To be categorized as well capitalized the Bank must maintain minimum
ratios as set forth in the table. There are no conditions or events since that
notification that management believes have changed the institution's category.
77
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Bank's actual capital amounts and ratios are presented in the following
table.
Required to be well
capitalized under
Required for capital prompt corrective
Actual capital adequacy purposes action provision
--------------- -------------------- ----------------------
Amount Rate Amount Rate Amount Rate
-------- ------ --------- --------- ----------- --------
(DOLLARS IN THOUSANDS)
As of June 30, 2002:
Tangible capital $82,668 $11,393 $15,191
to tangible assets 10.9 % 1.5 % 2.0 %
Core capital 82,668 30,267 37,834
to adjusted tangible assets 10.9 4.0 5.0
Tier 1 capital 82,668 N/A 24,311
to risk-weighted assets 20.4 N/A 6.0
Risk-based capital 87,293 32,414 40,518
to risk-weighted assets 21.5 8.0 10.0
As of June 30, 2001:
Tangible capital $51,428 $ 9,370 $12,495
to tangible assets 8.3 % 1.5 % 2.0 %
Core capital 51,428 24,938 31,172
to adjusted tangible assets 8.3 4.0 5.0
Tier 1 capital 51,428 N/A 22,305
to risk-weighted assets 13.8 N/A 6.0
Risk-based capital 55,741 29,740 37,175
to risk-weighted assets 15.0 8.0 10.0
The Bank is not under any agreement with the regulatory authorities nor is it
aware of any current recommendations by the regulatory authorities which, if
they were to be implemented, would have a material effect on liquidity, capital
resources, or operations of the Bank.
(13) Fair Value of Financial Instruments
The Company's methods for determining the fair value of its financial
instruments as well as significant assumptions and limitations are set forth
below.
Limitations
Estimates of fair value are made at a specific point in time, based upon, where
available, relevant market prices and information about the financial
instrument. Such estimates do not include any premium or discount that could
result from offering for sale at one time the Company's entire holdings of a
particular financial instrument. For a substantial portion of the Company's
financial instruments, no quoted market exists. Therefore, estimates of fair
value are necessarily based on a number of significant assumptions (many of
which involve events outside the control of management). Such assumptions
include assessments of current economic condition, perceived risks associated
with these financial instruments and their counterparties, future expected loss
experience, and other factors. Given the uncertainties surrounding these
assumptions, the reported fair values represent estimates only and, therefore,
cannot be compared to the historical accounting model. Use of different
assumptions or methodologies is likely to result in significantly different fair
value estimates.
78
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The estimated fair values presented neither include nor give effect to the
values associated with the Company's banking or other businesses, existing
customer relationships, branch banking network, property, equipment, goodwill,
or certain tax implications related to the realization of unrealized gains or
losses. The fair value of non-interest-bearing demand deposits, savings and NOW
accounts, and money market deposit accounts is equal to the carrying amount
because these deposits have no stated maturity. This approach to estimating fair
value excludes the significant benefit that results from the low-cost funding
provided by such deposit liabilities, as compared to alternative sources of
funding. As a consequence, this presentation may distort the actual fair value
of a banking organization that is a going concern.
The following methods and assumptions were used to estimate the fair value of
each major classification of financial instruments at June 30, 2002 and 2001:
CASH AND CASH EQUIVALENTS, ACCRUED INTEREST RECEIVABLE, DEPOSITS WITH NO STATED
MATURITY, AND ACCRUED INTEREST PAYABLE
These financial instruments have carrying values that approximate fair value.
SECURITIES AVAILABLE FOR SALE
Current quoted market prices were used to determine fair value.
LOANS
Fair values were estimated for portfolios of loans with similar financial
characteristics. Loans were segregated by type and each loan category was
further segmented by fixed and adjustable-rate interest terms. The estimated
fair value of the segregated portfolios was calculated by discounting cash flows
based on estimated maturity and prepayment speeds using estimated market
discounted rates that reflected credit and interest risk inherent in the loans.
The estimate of the maturities and prepayment speeds was based on the Company's
historical experience. Cash flows were discounted using market rates adjusted
for portfolio differences.
LOANS AVAILABLE FOR SALE
The fair value of mortgage loans originated and intended for sale in the
secondary market is based on contractual cash flows using current market rates,
calculated on an aggregate basis.
CERTIFICATES OF DEPOSIT
Fair value was estimated by discounting the contractual cash flows using current
market rates offered in the Company's market area for deposits with comparable
terms and maturities.
FHLB ADVANCES
Fair value was estimated using discounted cash flow analysis based on the
Company's current incremental borrowing rate for similar types of borrowing
arrangements.
COMMITMENTS TO EXTEND CREDIT
The majority of the Company's commitments to extend credit carry current
interest rates if converted to loans. Because commitments to extend credit are
generally unassignable by either the Company or the borrower, they only have
value to the Company and the borrower. The estimated fair value approximates the
recorded deferred fee amounts.
79
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The carrying amounts and estimated fair values of the Company's financial
instruments, including off-balance sheet financial instruments, were at June 30,
2002 and 2001:
JUNE 30, 2002 JUNE 30, 2001
------------------------ -------------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
---------- ---------- ----------- ----------
(DOLLARS IN THOUSANDS)
Assets:
Cash and cash equivalents $ 31,986 $ 31,986 $ 22,209 $ 22,209
Securities available for sale 254,687 254,687 130,358 130,358
Securities held to maturity 13,973 14,117 - -
Loans available for sale 1,574 1,574 2,644 2,644
Loans, net 443,855 450,273 454,199 460,768
Accrued interest receivable 4,138 4,138 3,667 3,667
Liabilities:
Deposits with no stated maturities 223,945 223,945 175,672 175,672
Certificates of deposits 305,807 309,999 321,358 325,302
FHLB Advances 97,824 94,686 59,885 59,402
Accrued interest payable 868 868 1,146 1,146
Carrying Fair Carrying Fair
Amount Value Amount Value
---------- ---------- ----------- ----------
Off balance sheet financial instruments:
Commitments to extend credit $ 40,172 $ 28,974 $ (4,015) $ (51)
(14) Comprehensive Income (Loss)
The tax effects allocated to each component of "Other comprehensive income" are
as follows:
80
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Year ended June 30, 2001
---------------------------------------
Before Tax Tax After tax
amount Benefit Amount
---------- -------- ---------
(DOLLARS IN THOUSANDS)
Unrealized gains (losses) on securities available for sale:
Unrealized holding gains (losses) during the period $ 2,722 $ (1,007) $ 1,715
Reclassification adjustment for gains (losses) 310 (115) 195
--------- -------- ---------
included in net income
Total other comprehensive income (loss) $ 3,032 $ (1,122) $ 1,910
========= ======== =========
Year ended June 30, 2001
---------------------------------------
Before Tax Tax After tax
amount Benefit Amount
---------- -------- ---------
(DOLLARS IN THOUSANDS)
Unrealized gains (losses) on securities available for sale:
Unrealized holding gains (losses) during the period $ 3,682 $ (1,362) $ 2,320
Reclassification adjustment for gains (losses) (15) 6 (9)
--------- -------- ---------
included in net income
Total other comprehensive loss $ 3,667 $ (1,356) $ 2,311
========= ========= =========
Year ended June 30, 2000
---------------------------------------
Before Tax Tax After tax
amount Benefit Amount
---------- -------- ---------
(DOLLARS IN THOUSANDS)
Unrealized gains (losses) on securities available for sale:
Unrealized holding gains (losses) during the period $ (1,519) $ 562 $ (957)
Reclassification adjustment for gains (losses) (46) 17 (29)
--------- -------- ---------
included in net income
Total other comprehensive loss $ (1,473) $ 545 $ (928)
========= ======== =========
(15) Dividend Policy
The Company's ability to pay dividends is dependent, in part, upon its ability
to obtain dividends from the Bank. The future dividend policy of the Company is
subject to the discretion of the Board of Directors and will depend upon a
number of factors, including future earnings, financial conditions, cash needs,
and general business conditions. Holders of common stock will be entitled to
receive dividends as and when declared by the Board of Directors of the Company
out of funds legally available for that purpose. Such payment, however, will be
subject to the regulatory restrictions set forth by the OTS. In addition, OTS
regulations provides that, as a general rule, a financial institution may not
make a capital distribution if it would be undercapitalized after making the
capital distribution.
81
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(16) Parent Company Financial Information (Willow Grove Bancorp, Inc.)
Condensed Statement of Financial Condition
At At
June 30, 2002 June 30, 2001
------------- -------------
(DOLLARS IN THOUSANDS)
Assets:
Cash on deposit with subsidiary $ 501 $ 572
Note receivable from subsidiary 38,015 6,671
Investment in subsidiary 85,554 52,672
Securities (amortized cost of $150 & $432, respectively) 126 416
Other assets 414 381
--------- ---------
Total assets $ 124,610 $ 60,712
========= =========
Liabilities and stockholders' equity:
Other liabilities $ 333 $ 355
--------- ---------
Total liabilities 333 355
Total stockholders' equity 124,277 60,357
--------- ---------
Total liabilities and stockholders' equity $ 124,610 $ 60,712
========= =========
Condensed Statement of Income
FOR THE YEAR ENDED JUNE 30,
------------------------------------------------
2002 2001 2000
---- ---- ----
(DOLLARS IN THOUSANDS)
Interest income:
Interest income on note receivable $ 599 $ 573 $ 412
--------- --------- ---------
Total interest income: 599 573 412
Non-interest income:
Realized loss on equity securities (107) (258) -
--------- --------- ---------
Total non-interest income (107) (258) -
Equity in undistributed income of subsidiary 5,430 240 4,760
--------- --------- ---------
Total income 5,922 555 5,172
--------- --------- ---------
Expense:
Professional fees 238 233 166
Stationery and printing 25 38 45
Other 187 187 52
--------- --------- ---------
Total expense 450 458 263
--------- --------- ---------
Income before taxes 5,472 97 4,909
Income tax expense (benefit) 13 (60) 66
--------- --------- ---------
Net income $ 5,459 $ 157 $ 4,843
========= ========= =========
82
Willow Grove Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Condensed Statement of Cash Flows
FOR THE YEAR ENDED JUNE 30,
-------------------------------------------------
2002 2001 2000
---- ---- ----
(DOLLARS IN THOUSANDS)
Cash flow from operating activities:
Net income: $ 5,459 $ 157 $ 4,843
Less items not affecting cash flows
Equity in undistributed income of subsidiary (5,430) (240) (4,760)
Decrease in accrued interest receivable - - 142
Realized loss on securities available for sale 37 258 -
Decrease (increase) decrease in other assets 257 (114) 188
(Decrease) increase in other liabilities (22) 212 (23)
--------- --------- ---------
Net cash provided by operating activities 301 273 390
--------- --------- ---------
Cash flows from investing activities:
Capital investment in subsidiary bank (31,070) - -
Acqusition of securities from bank - (727) -
Proceeds from sale of securities available for sale 175 37 -
Net repayment (issuance) of notes receivable (30,344) 3,954 531
--------- --------- ---------
Net cash provided by investing activities (61,239) 3,264 531
--------- --------- ---------
Cash flows from financing activities:
Proceeds from stock issuance 62,141 - -
Treasury stock issuances (purchases) 104 (2,140) (212)
Dividends paid (1,378) (914) (762)
--------- --------- ---------
Net cash from financing activities 60,867 (3,054) (974)
--------- --------- ---------
Net (decrease) increase in cash and cash equivalents (71) 483 (53)
Cash and cash equivalents at beginning of period 572 89 142
--------- --------- ---------
Cash and cash equivalents at end of period $ 501 $ 572 $ 89
========= ========= =========
83
ITEM 9. CHANGES IN AND DISAGREEMENT WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required herein is incorporated by reference from pages 7
of the definitive proxy statement of the Company for the Annual Meeting of
Stockholders to be held on November 8, 2002, which will be filed within 120 days
of June 30, 2002 ("Definitive Proxy Statement").
ITEM 11. EXECUTIVE COMPENSATION
The information required herein is incorporated by reference from pages 8
to 14 of the Definitive Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The information required herein is incorporated by reference from pages 12
and 15 to 17 of the Definitive Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required herein is incorporated by reference from page 13
of the Definitive Proxy Statement.
84
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT, SCHEDULES AND REPORTS ON FORM 8-K
(a) DOCUMENTS FILED AS PART OF THIS REPORT.
(1) The following financial statements are incorporated by reference
from Item 8 hereof:
Management's Responsibility for Financial Reporting
Independent Auditors Report
Consolidated Statement of Financial Condition
Consolidated Statement of Income
Consolidated Statements of Changes in Stockholders'
Equity and Comprehensive Income
Consolidated Statement of Cash Flows
Notes to Consolidated Financial Statements
(2) All schedules for which provision is made in the applicable
accounting regulation of the SEC are omitted because of the absence
of conditions under which they are required or because the required
information is included in the consolidated financial statements and
related notes thereto.
(3) The following exhibits are filed as part of this Form 10-K, and this
list includes the Exhibit Index.
EXHIBIT INDEX
2.1 * Plan of Conversion and Agreement and Plan of Reorganization
3.1 * Articles of Incorporation of Willow Grove Bancorp, Inc.
3.2 * Bylaws of Willow Grove Bancorp, Inc.
4.0 * Form of Stock Certificate of Willow Grove Bancorp, Inc.
10.1 ** Form of Employment Agreement entered into between Willow Grove
Bank and Frederick A. Marcell, Jr.
10.2 ** Form of Employment Agreement entered into between Willow Grove Bank
and each of Thomas M. Fewer, Christopher E. Bell and John T.
Powers
10.3 ** Supplemental Executive Retirement Agreement
10.4 ** Non-Employee Director's Retirement Plan
10.5 *** 1999 Stock Option Plan
10.6 *** 1999 Recognition and Retention Plan and Trust Agreement
10.7 Amended Incentive Compensation Plan
21.0 Subsidiaries of the Registrant - Reference is made to "Item 1.
Business" for the required information
23.0 Consent of KPMG LLP
99.1 Certification of President and Chief Executive Officer pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
99.2 Certification of Chief Financial Officer. pursuant to Section 906
of the Sarbanes-Oxley Act of 2002
----------------------
* Incorporated by reference from the Company's registration
statement on Form S-1 filed on December 14, 2001, as amended,
and declared effective on February 8, 2002.
** Incorporated by reference from the registration statement on
Form S-1 filed by the Company's predecessor, a federal
corporation also known as Willow Grove
85
Bancorp, Inc. (the "Mid-Tier") on September 18, 1998, as
amended, and declared effective on November 12, 1998.
*** Incorporated by reference from the Company's Definitive Proxy
Statement on Schedule 14A filed by the Mid-Tier on June 23,
1999.
(b) Reports on Form 8-K
(1) On July 24, 2002, the Company filed a Form 8-K that included a
press release announcing fourth quarter and year end results,
the declaration of a dividend and the hiring of a Chief
Operating Officer.
86
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
WILLOW GROVE BANCORP, INC.
By: /s/ Frederick A. Marcell, Jr.
-----------------------------------------
Frederick A. Marcell, Jr.
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, this report has been signed below by the following persons on behalf of
the registrant and in the capacities and on the dates indicated.
/s/ Lewis W. Hull September 30, 2002
- ---------------------------------
Lewis W. Hull
Director
/s/ Charles F. Kremp, 3rd September 30, 2002
- ---------------------------------
Charles F. Kremp 3rd
Director
/s/ William W. Langan September 30, 2002
- ---------------------------------
William W. Langan
Chairman of the Board
/s/ Rosemary C. Loring September 30, 2002
- ---------------------------------
Rosemary C. Loring
Director
/s/ Frederick A. Marcell, Jr. September 30, 2002
- ---------------------------------
Frederick A. Marcell, Jr.
Director, President and Chief
Executive Officer
/s/ A. Brent O'Brien September 30, 2002
- ---------------------------------
A. Brent O'Brien
Director
/s/ Samuel H. Ramsey, III September 30, 2002
- ---------------------------------
Samuel H. Ramsey, III
Director
/s/ William B. Weihenmayer September 30, 2002
- ---------------------------------
William B. Weihenmayer
Director
/s/ Christopher E. Bell September 30, 2002
- ----------------------------------
Christopher E. Bell
Senior Vice President and Chief
Financial Officer (principal
financial officer)
87
CERTIFICATION
I, Frederick A. Marcell Jr., President and Chief Executive Officer of Willow
Grove Bancorp, Inc., certify that:
1. I have reviewed this annual report on Form 10-K of Willow Grove Bancorp,
Inc.
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report; and
3. Based on my knowledge, the financial statements and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual
report.
Date: September 30, 2002 /s/ Frederick A. Marcell Jr.
------------------------------
Frederick A. Marcell Jr.
PRESIDENT AND CHIEF EXECUTIVE OFFICER
CERTIFICATION
I, Christopher E. Bell, Senior Vice President, Chief Financial Officer and
Corporate Secretary of Willow Grove Bancorp, Inc., certify that:
1. I have reviewed this annual report on Form 10-K of Willow Grove Bancorp,
Inc.
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report; and
3. Based on my knowledge, the financial statements and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual
report.
Date: September 30, 2002 /s/ Christopher E. Bell
--------------------------------------
Christopher E. Bell
SENIOR VICE PRESIDENT, CHIEF FINANCIAL
OFFICER AND CORPORATE SECRETARY
88