Exhibit 13
[FRONT COVER]
TierOne(SM)
Corporation
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2002 Annual Report Taking the extra step
[INSIDE FRONT COVER]
TierOne Corporation
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Taking the extra step
TierOne Corporation (NASDAQ(R): TONE) is the holding company for TierOne Bank, a
federally chartered savings bank headquartered in Lincoln, Nebraska. With assets
totaling over $1.9 billion, TierOne Bank has grown to become the largest
financial institution headquartered in Lincoln and ranks as one of the largest
publicly held thrifts in its market region.
Established in 1907, TierOne Bank offers a wide variety of full service consumer
and commercial banking products and services to customers through a
geographically diverse network of 58 banking offices in Nebraska, Iowa and
Kansas and two loan production offices in Colorado. Leading products include
residential and commercial real estate financing; consumer, construction and
business loans and lines of credit; consumer and business checking and savings
plans; investment and insurance services; and telephone and Internet banking
convenience.
TierOne Bank's dedication to serve as a model community bank has strategically
positioned the Company as a progressive and innovative market leader and has
contributed to strengthening profitability and fueling continued growth.
Core revenue is derived primarily through interest income and non-interest
income fee generation. The Company's strategy is focused on improving
profitability and increasing franchise value through the continued growth of a
higher-yielding loan portfolio while reducing interest rate risk, emphasizing
growth of core deposits and reducing cost of funds, increasing fee income and
expanding products and services, maintaining asset quality, building upon
TierOne Bank's strong corporate brand and public identity and strategically
continuing the Company's controlled growth and franchise expansion.
The Bank's primary subsidiaries include TierOne Investments and Insurance, which
offers consumers a full range of brokerage, investment and insurance services,
and TierOne Reinsurance, an Arizona-chartered subsidiary offering reinsurance
underwriting services.
Table of Contents:
Financial Highlights 1
Message from the Chairman and President 3
Mission Statement 5 Locations 6
Strategic Initiatives 7
Financials 9
Financial Highlights:
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At or For the Year Ended December 31,
(Dollars in thousands) 2002 2001
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Total assets $ 1,945,535 $ 1,570,013
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Loan receivables, net 1,765,744 1,379,066
Deposits 1,128,880 1,096,242
Shareholders' equity 339,896 121,755
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Net interest income $ 60,720 $ 47,960
Non-interest income 13,111 11,286
Non-interest expense 45,669(1) 34,946
Net income 14,966(1) 13,042
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Return on average assets 0.90%(1) 0.90%
Return on average equity 7.80%(1) 11.36%
Average interest rate spread 3.37% 3.04%
Net interest margin 3.82% 3.44%
Efficiency ratio 61.86%(1) 58.98%
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Non-performing loans to total loans 0.31% 0.12%
Non-performing loans to total assets 0.38% 0.12%
Allowance for losses on loans to total
non-performing loans 311.68% 808.65%
Allowance for losses on loans to total loans 0.96% 0.96%
(1) Includes a pre-tax charge of $5.0 million representing the contribution of
500,000 shares of TierOne Corporation common stock to the TierOne
Charitable Foundation which was formed in connection with the Bank's
conversion from mutual to stock form in October 2002.
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TierOne Corporation
(1)
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[THE FOLLOWING DATA WAS REPRESENTED BY A BAR CHART IN THE PRINTED MATERIAL]
Net Loan Receivables
(in millions)
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2000 $1,124.4
2001 $1,379.1
2002 $1,765.7
[THE FOLLOWING DATA WAS REPRESENTED BY A BAR CHART IN THE PRINTED MATERIAL]
TURBO Assets
(in millions)
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2000 $573.3
2001 $904.6
2002 $1,214.1
[THE FOLLOWING DATA WAS REPRESENTED BY PIE CHARTS IN THE PRINTED MATERIAL]
Loan Portfolio Mix
2000 2001 2002
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49.7% Residential 35.7% Residential 32.1% Residential
5.4% Construction 8.2% Construction 10.6% Construction
3.3% Warehouse Lines 15.9% Warehouse Lines 13.2% Warehouse Lines
18.1% Consumer 17.7% Consumer 18.1% Consumer
23.6% Commercial 22.5% Commercial 26.0% Commercial
RE/Multi-Family RE/Multi-Family RE/Multi-Family
[IMAGE OMITTED]
Gilbert G. Lundstrom James A. Laphen
Chairman of the Board and President and
Chief Executive Officer Chief Operating Officer
(2)
Message from the Chairman and President:
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On behalf of your Board of Directors, senior management and the more than 500
members of the TierOne family of employees, we wish to welcome you as a TierOne
Corporation shareholder and to deliver our first annual report.
Founded in 1907, TierOne has a proud tradition of providing a diverse selection
of banking services. With 58 retail banking offices and two loan production
offices in a four state region, TierOne has grown to become a highly respected
market leader with an uncompromising commitment to quality customer service.
Earning this reputation did not occur overnight. It was achieved through a
history of spirited dedication, solid Midwestern values and a commitment to
building a company on the leading edge of financial services, a philosophy which
we continue to embrace today.
Beginning in 1995, TierOne Bank embarked on an evolutionary process to change
its business model from that of a traditional thrift to one which more closely
resembles a community bank. A coordinated effort of restructuring our balance
sheet and expanding our operational capabilities, in partnership with a renewed
sales culture, set the stage for our new strategic direction.
A Landmark Year
Following this seven-year evolutionary period of change, 2002 was dedicated as
the year of "Execution."
The components of the Bank's business model had been put in place and
performance momentum was growing. However, two events remained on the horizon
which, when accomplished, would pave the way to a new and exciting chapter in
the Bank's storied history: the adoption of our new name and a public stock
offering.
The result of the Bank's record of growth and expansion combined with a more
diverse business line and broader geographic reach presented a new challenge.
The challenge was the Bank had literally outgrown its old name.
On February 10th, the new era of TierOne Bank was born. The new name in
partnership with a new brand identity helped to redefine the true essence of the
Bank and boldly proclaimed the hallmarks of our ideology: integrity, strength,
progressiveness, innovation, quality and leadership.
In addition to a new name and identity, we sought to adopt and implement a brand
supportive phrase or "promise" that would not only complement our name but would
also characterize the spirit of our brand.
[THE FOLLOWING DATA WAS REPRESENTED BY A BAR CHART IN THE PRINTED MATERIAL]
Shareholders' Equity
(in millions)
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2000 $107.9
2001 $121.8
2002 $339.9
[IMAGE OMITTED]
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TierOne Corporation
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"Taking the extra step" epitomizes the TierOne spirit. It represents our
commitment to doing everything we can to earn our customer's business every day.
It means working hard to exceed our customers' expectations while developing new
products and services to meet their ever-changing needs. It illustrates the
leadership role our Company and our employees take in the communities we serve.
It symbolizes our dedication to achieving sound and prudent growth, increased
profitability and greater shareholder value. In a nutshell, "Taking the extra
step" is more than a brand promise, it is our way of doing business.
In April 2002, your Board of Directors announced plans to convert TierOne Bank
from a mutual to a public stock company. This milestone event was undertaken to
strengthen the Company's competitive position by providing additional capital to
support the Bank's growing lending activities. In addition, it positions the
Company for future expansion through acquisitions and diversification of our
business.
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...."Taking the extra step" is more than a brand promise, it is our way of doing
business.
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The plan of conversion was approved by members of the Bank on September 27, 2002
and the initial public offering was completed on October 1st. The following day,
TierOne Corporation began trading on the Nasdaq National Market(R) under the
symbol "TONE." Approximately $198.1 million was generated in net proceeds from
the offering resulting in one of the largest mutual-to-stock thrift conversions
conducted in the previous three years.
[THE FOLLOWING DATA WAS REPRESENTED BY A BAR CHART IN THE PRINTED MATERIAL]
Net Income
(in millions)
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2000 $9.0
2001 $13.0
2002 $15.0
Our 2002 Performance
The culmination of your Company's proactive efforts to improve performance has
resulted in another record year of outstanding results.
For the sixth consecutive year, the Company reported increased net income
reaching a record level of $15.0 million in 2002. Included in expenses in 2002
was a pre-tax charge of $5.0 million representing the contribution of 500,000
shares of TierOne Corporation common stock to the TierOne Charitable Foundation
which was formed in connection with the Bank's conversion from mutual to stock
form.
Net interest income increased 26.6 percent in 2002 to a record level of $60.7
million. Average yearly net interest margin also increased 38 basis points to
finish out the year at an average of 3.82 percent, another yearly record high.
Growth in fees and service charges associated with the Bank's expanding deposit
account base, combined with increases in gain on sales of loans held for sale,
contributed to a $1.8 million, or 16.2 percent, rise in 2002 non-interest income
to $13.1 million.
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Your Company's strategic focus on building a quality loan portfolio was evident
in the results. Net loan receivables grew to a record $1.8 billion at December
31, 2002; a $386.7 million, or 28.0 percent increase, from year-end 2001.
Fueling this outstanding performance is the Company's continuing trend in
shifting its balance sheet mix to areas we have identified as "TURBO Assets."
These loans are higher-yielding, shorter-term loans which are less subject to
interest rate risk and primarily consist of commercial real estate and business,
construction, consumer and multi-family loans and warehouse lines of credit.
TURBO Assets grew from $904.6 million at the end of 2001 to over $1.2 billion at
December 31, 2002; a $309.5 million, or 34.2 percent, increase. TURBO Assets now
make up 62.4 percent of the Company's total assets at the end of 2002 compared
to 57.6 percent in 2001 and 42.2 percent in 2000.
Maintaining asset quality is paramount to building a successful loan portfolio
and TierOne Corporation's balance sheet is no exception. Non-performing assets
amounted to just $7.5 million, or 0.38 percent of total assets at December 31,
2002, well below industry levels.
[THE FOLLOWING DATA WAS REPRESENTED BY A BAR CHART IN THE PRINTED MATERIAL]
Net Interest Income
(in millions)
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2000 $38.3
2001 $48.0
2002 $60.7
Even though customers withdrew funds from their accounts in order to purchase
shares in the offering, total deposits still increased a net $32.6 million to
over $1.1 billion at the end of 2002, an increase of nearly 3.0 percent.
Transaction deposits, consisting of checking, money market and savings accounts,
grew 9.1 percent in 2002. Checking account relationships and balances, two
strategically important focal points in 2002, increased 20.3 percent and 29.4
percent, respectively.
Taking the Extra Step--Our Customers
TierOne Corporation initiated several decisive moves in 2002 designed to enhance
product
Our Mission:
TierOne Bank is dedicated to serving as a model community bank by providing our
customers, shareholders, employees and communities with competitive financial
services, an uncompromising commitment to value and an improved quality of life.
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TierOne Corporation
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selection, increase product availability and strengthen retail delivery for our
customers.
The success of the Company's "High Performance Checking" program continues to
build low-cost, core relationships with new checking customers. To date, more
than 37,000 new checking relationships have been established which open new
opportunities to cross-sell additional profitable financial services.
To meet growing market demand, new commercial banking products designed for
small to medium-sized businesses were developed including low-cost depository
services, cash management tools, ACH and lending services. Personnel additions
in retail banking, investment sales, mortgage lending, professional/executive
banking and commercial banking provided greater opportunities for product
availability and customer sales.
[THE FOLLOWING DATA WAS REPRESENTED BY A BAR CHART IN THE PRINTED MATERIAL]
Checking Balances
(in millions)
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2000 $157.5
2001 $251.9
2002 $326.0
[IMAGE OMITTED]
TierOne Bank's geographically diverse delivery network includes 58 banking
offices in 41 communities in Iowa, Kansas and throughout Nebraska and two loan
production offices in Colorado.
Over 15,000 customers have signed on for TierOne Bank's Internet Banking service
and with the 2002 introduction of electronic bill payment via the Internet, a
growing number of TierOne customers are finding it even easier to pay bills and
manage their finances.
In 2002, TierOne Bank deployed new models of NCR's Self-Service TouchPoints(TM)
ATMs in nearly all retail locations. The new ATMs offer customers easier-to-read
displays, have high reliability, provide more custom features and are more
accessible.
Notwithstanding our desire to embrace advances in technology, brick and mortar
continues to be an integral part of TierOne Corporation's retail delivery
system.
Using the Bank's unique state-of-the-art "Bank of the Future" design concept, a
new retail office was opened in Council Bluffs, Iowa to replace a nearby smaller
office. A bank facility was also purchased in a growing area of southwest Omaha,
Nebraska which will replace another nearby office in the spring of 2003.
Thirteen other banking offices were retrofitted to improve operational
efficiency and increase the sales platform. The Bank also opened a loan
production office in Colorado Springs, its first office facility in the Colorado
market. In January 2003, the Bank opened an additional loan production office in
Denver.
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[THE FOLLOWING DATA WAS REPRESENTED BY A BAR CHART IN THE PRINTED MATERIAL]
Stock Price
(per share)
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IPO $10.00
10/1/02
1st Day $14.00
10/2/02
Year-End $15.16
12/31/02
Taking the Extra Step--Our Shareholders
Delivering long-term returns to our valued shareholders is an important,
strategic objective of this Company and we believe our record of solid market
performance has begun.
Following TierOne Corporation's first day of trading on October 2nd, the
Company's common stock per share price increased 40.0 percent to $14.00 from its
$10.00 initial offering price. By year-end December 31, 2002, TierOne
Corporation's common stock climbed an additional $1.16 per share to close the
year at $15.16, a 51.6 percent increase from its initial offering price.
This growth compares to a 5.1 percent increase for the Dow Jones Industrial
Average and a 10.0 percent increase for the Nasdaq Composite Index(R) for the
same period. TierOne Corporation's market capitalization totaled $342.2 million
at year end.
Your Company takes great lengths to communicate the latest investment news and
information to keep shareholders informed. Through the development of the
www.tieronebank.com website under "Investor Relations," investors can check
up-to-the-minute stock prices, review quarterly earnings releases and other
corporate news, examine the latest SEC filings and much more.
Taking the Extra Step--Our Employees
The greatest asset of TierOne Corporation cannot be found on any balance sheet,
income statement or any other financial table. Your Company's greatest asset
lies with the dedicated professionals who make up the TierOne family of
employees.
This highly trained staff thinks and works like entrepreneurial owners and takes
the lead in differentiating us from the competition. Each has firmly
Our Strategic Initiatives:
TierOne Bank is built upon a foundation of five key strategic initiatives which
serve as fundamental guideposts in fulfilling our corporate mission and our
vision for the future.
At TierOne Bank, we are committed to:
o Nurture a strong and respected public awareness and identity.
o Fuel TURBO Assets with an advantageous mix of liabilities, wholesale funds
and shareholders' equity.
o Manage corporate balance sheet and business opportunities for profitable
revenue growth.
o Strive to retain profitable customers while recruiting new profitable
customer relationships.
o Continue to develop a strong, focused and innovative employee culture.
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TierOne Corporation
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embraced the "Taking the extra step" brand promise and continuously strives for
customer satisfaction. Our training efforts are unmatched in our market area and
frequent research surveys prove it.
Our employees are also civic-minded and community-driven. Many participate in
local paint-a-thons and Habitat for Humanity construction projects, volunteer as
coaches for local schools, serve as mentors for adolescent children, assist the
elderly with their banking needs and staff phone banks for civic fund drives.
Employees recognize the importance of giving back to the community and do so
with vigor.
Taking the Extra Step--Our Communities
The economic health of any business is driven in large part by the vitality of
the markets it serves. TierOne Corporation is fortunate to have carefully
established strong lending relationships throughout selected areas of the
country and to be based in a region known for its economic stability, low
unemployment, affordable housing and quality of life.
Working to ensure this continued economic vitality is not a destination but a
journey. TierOne Corporation takes great pride in actively supporting
development efforts through involvement in various professional and civic
organizations, chambers of commerce, economic development councils, non-profit
and community groups.
We believe the creation of the TierOne Charitable Foundation as part of the
stock conversion will significantly strengthen the Company's role as a civic and
community leader. In 2003, the Foundation expects to begin funding grants and
donations to community projects within the Bank's primary market area.
Looking Forward
Our future is bright and is filled with great potential and opportunity. Our
challenge for the years ahead is to build upon the momentum we have already
created and further position ourselves to strategically leverage our Company's
strengths, seize new opportunities for increased profitability and build upon
our growing franchise value.
[IMAGE OMITTED]
We are committed to "Taking the extra step" to successfully meet this challenge
and are excited about our future as a public company. Together with our
extraordinary team of TierOne employees, we look forward to working in
partnership with our shareholders, who have placed their valued trust in us, as
we continue our journey toward becoming one of the finest, most respected
financial institutions in the Midwest.
Thank you for your continued confidence and support.
/s/ Gilbert G. Lundstrom
Gilbert G. Lundstrom
Chairman of the Board and
Chief Executive Officer
/s/ James A. Laphen
James A. Laphen
President and
Chief Operating Officer
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Financials
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Financial Summary 10
Management's Discussion and Analysis of Financial
Condition and Results of Operations 11
Statement of Management's Responsibility 26
Consolidated Balance Sheets 27
Consolidated Statements of Income 28
Consolidated Statements of Changes in
Shareholders' Equity and Comprehensive Income 29
Consolidated Statements of Cash Flows 30
Notes to Consolidated Financial Statements 32
Independent Auditors' Report 50
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TierOne Corporation and Subsidiaries
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Financial Summary
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At December 31
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(Dollars in thousands) 2002 2001 2000 1999 1998
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Selected Financial and Other Data:
Total assets $1,945,535 $1,570,013 $1,359,474 $1,303,427 $1,116,530
Cash and cash equivalents 33,037 34,441 30,779 35,649 101,417
Investment securities:
Held to maturity 157 221 195 28,204 6,206
Available for sale 30,546 44,524 84,935 59,830 8,595
Mortgage-backed securities:
Held to maturity -- -- -- 54,797 83,212
Available for sale 30,369 46,287 68,398 98,035 --
Loans receivable, net 1,765,744 1,379,066 1,124,362 986,832 883,246
Loans held for sale 8,504 14,373 3,712 2,042 3,120
Deposits 1,128,880 1,096,242 1,047,836 1,005,988 986,440
FHLB advances and other borrowings 418,329 303,315 172,449 170,482 5,515
Shareholders' equity 339,896 121,755 107,872 96,899 91,235
Full service offices 58 58 58 57 57
Year ended December 31
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(Dollars in thousands) 2002 2001 2000 1999 1998
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Selected Operating Data:
Total interest income $ 104,941 $ 105,145 $ 103,866 $ 84,814 $ 80,386
Total interest expense 44,221 57,185 65,540 49,648 48,340
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Net interest income 60,720 47,960 38,326 35,166 32,046
Provision for loan losses 4,695 3,997 1,273 1,132 832
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Net interest income after provision
for loan losses 56,025 43,963 37,053 34,034 31,214
Total noninterest income 13,111 11,286 6,575 6,069 6,096
Total noninterest expense 45,669 34,946 29,529 26,777 24,169
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Income before income taxes 23,467 20,303 14,099 13,326 13,141
Income tax expense 8,501 7,261 5,073 4,898 4,803
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Net income $ 14,966 $ 13,042 $ 9,026 $ 8,428 $ 8,338
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Management's Discussion and Analysis of Financial Condition and
Results of Operations
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General
TierOne Bank, a subsidiary of TierOne Corporation, is a $1.9 billion federally
chartered savings bank headquartered in Lincoln, Nebraska. Established in 1907,
TierOne Bank offers a wide variety of full-service consumer and commercial
banking products and services to customers through a geographically diverse
network of 58 banking offices in Nebraska, Iowa and Kansas and two loan
production offices in Colorado. Leading products offered include residential and
commercial real estate financing, consumer, construction and business loans and
lines of credit, consumer and business checking and savings plans, investment
and insurance services, and telephone and Internet banking access.
TierOne Corporation's results of operations are dependent on the results
of TierOne Bank, its wholly owned subsidiary. TierOne Bank's results of
operations depend, to a large extent, on net interest income, which is the
difference between the income earned on its loan and investment portfolios and
the cost of funds, consisting of the interest paid on deposits and borrowings.
Results of operations are also affected by, among other things, provision for
loan losses, loan sale activities and loan servicing. Non-interest expense
principally consists of compensation and employee benefits, office occupancy and
equipment expense, data processing, advertising and business promotion and other
expense.
Forward-Looking Statements
In the normal course of business, in an effort to help keep our shareholders and
the public informed about TierOne Corporation's operations, we may from time to
time issue or make certain statements, either in writing or orally, that are or
contain forward-looking statements, as that term is defined in the federal
securities laws. Generally, these statements relate to business plans or
strategies, projected or anticipated benefits from potential acquisitions,
projections involving anticipated revenues, earnings, profitability or other
aspects of operating results or other future developments in our affairs or the
industry in which we conduct business. These forward-looking statements, which
are based on various assumptions (some of which are beyond our control), may be
identified by reference to a future period or periods or by the use of
forward-looking terminology such as "anticipate," "believe," "commitment,"
"consider," "continue," "could," "encourage," "estimate," "expect," "intend,"
"in the event of," "may," "plan," "present," "propose," "prospect," "update,"
"whether," "will," "would," future or conditional verb tenses, similar terms,
variations on such terms or negatives of such terms. Although we believe that
the anticipated results or other expectations reflected in such forward-looking
statements are based on reasonable assumptions, we can give no assurance that
those results or expectations will be attained. Actual results could differ
materially from those indicated in such statements due to risks, uncertainties
and changes with respect to a variety of factors, including, but not limited to,
the following: competitive pressure among depository and other financial
institutions may increase significantly; changes in the interest rate
environment may reduce interest margins and net interest income, as well as
adversely affect loan originations and sales activities and the value of certain
assets, such as investment securities; general economic or business conditions,
either nationally or in regions in which we do business, may be less favorable
than expected, resulting in, among other things, a deterioration in credit
quality or a reduced demand for credit; legislation or changes in regulatory
requirements, including without limitation, capital requirements, or accounting
standards may adversely affect us and the business in which we are engaged;
adverse changes may occur in the securities markets; our competitors may have
greater financial resources and develop products and technology that enable
those competitors to compete more successfully than us; and the growth and
profitability of our noninterest income may be less than expected.
We undertake no obligation to update forward-looking statements to reflect
events or circumstances occurring after the date of this Annual Report.
As used in this report, unless the context otherwise requires, the terms
"we," "us," or "our" refer to TierOne Corporation, a Wisconsin corporation, and
our wholly owned subsidiary, TierOne Bank, a federally chartered stock savings
bank.
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TierOne Corporation and Subsidiaries
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Our Management Strategy
We historically operated as a traditional savings bank providing single-family
residential mortgage loans and a variety of retail deposit products and services
to our customers. In the mid-1990s, in an effort to increase our profitability,
we implemented a plan to grow and diversify our operations to become more like a
community bank. In our primary market area of Nebraska, southwest Iowa and
northern Kansas, we have endeavored to position ourselves as a "hometown"
alternative to our national and super-regional competitors. In addition, we have
availed ourselves of additional loan opportunities outside of our primary market
areas and have selectively entered into relationships with other financial
institutions throughout the United States to purchase whole loans or
participation interests in loans, particularly commercial real estate and land
loans and construction loans. We also have expanded our originations of
warehouse lines of credit to mortgage brokers that serve regions outside of our
primary market area.
Highlights of our management strategy are as follows:
o Repositioning Our Loan Portfolio to Increase Yields and Reduce Interest
Rate Risk. We have focused on increasing our holdings of loans with
relatively higher yields as well as adjustable rates of interest and/or
shorter terms to maturity. At December 31, 2002, our commercial real
estate and land loans, consumer loans, warehouse mortgage lines of credit
and construction loans amounted to $1.2 billion in the aggregate or 64.1%
of our total loan portfolio at such date. In recent years we also have
generally sold into the secondary market, with servicing retained, new
single-family fixed-rate residential mortgage loans.
o Emphasizing Growth of Our Core Deposits and Reducing Our Cost of Funds.
Our core deposits, consisting of checking accounts, money market accounts
and passbook savings accounts, have increased from $560.9 million, or
51.2% of total deposits, at December 31, 2001 to $612.2 million, or 54.2%
of total deposits, at December 31, 2002. In particular, we have emphasized
increasing the amount of our checking accounts, which grew by 29.4% to an
aggregate of $326.0 million, or 28.9% of total deposits, at December 31,
2002 compared to $251.9 million, or 23.0% of total deposits, at December
31, 2001. During the three year period ended December 31, 2002, the number
of our checking accounts has increased by 92.5% from 29,400 to 56,600. At
the same time, we have continued to reduce the concentration of our
certificates of deposit from 53.4% of total deposits at December 31, 1999
to 45.8% of total deposits at December 31, 2002.
o Increasing Our Fee Income and Expanding Our Products and Services. Our
other income, which is non-interest income, increased by $1.8 million, or
16.2%, to $13.1 million for the year ended December 31, 2002 compared to
$11.3 million for the year ended December 31, 2001. The increase primarily
reflects increases in fee income and service charges, which were due
largely to an increase in the number of our checking accounts and
increased gains from our sales of fixed-rate residential mortgage loans.
We have been pro-active in our efforts to increase other income, largely
by increasing the number of customers that we serve in our primary market
area as well as increasing the number of our financial products that our
customers use. We expect our employees to cross-sell our financial
products to customers and we provide them economic incentives to do so. In
our efforts, we have re-designed a number of our branch offices to be
retail sales centers, which have a floor plan we believe is more conducive
to the cross-selling of products. We constantly look for new products and
services that we can offer our customers. In the past two years, we have
introduced on-line banking, a new "High Performance" checking program,
indirect automobile lending, business checking and an expanded commercial
business loan program.
o Maintaining Asset Quality. We believe that high asset quality is a key to
long-term financial success. We have sought to maintain a high level of
asset quality and moderate credit risk by using underwriting standards
which we believe are conservative. As a result of our assessment of levels
of acceptable risk, we have chosen not to engage in agricultural lending
at this time. Although we are an active acquirer of mortgage
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loans and participation interests in loans from outside our primary market
area, we apply our own underwriting standards to all such loans. Total
non- performing assets have remained relatively low even as our asset base
has grown and diversified. Our ratio of non-performing assets to total
assets at December 31, 2002 was 0.38%.
o Building a Strong Corporate Brand and Identity. We adopted our current
name in February 2002. The unveiling of our new name was accompanied by
significant marketing efforts focused on developing a well-known corporate
brand. We have significantly enhanced our marketing by direct mail and
other advertising as part of our program to increase the recognition of
our corporate identity. We also have continued to develop a strong,
focused and innovative employee culture. We have increased the investment
in our employee base to help ensure that our employees have the
capability, training and incentives to deliver quality service across our
expanded product line.
o Continuing Our Controlled Growth and Expanding Our Franchise. We have
increased our total assets in each of the past five years. During this
five-year period, total assets have increased by 74.2%. In addition, we
believe that our conversion from mutual to stock form facilitates our
ability to expand our franchise through acquisition opportunities.
Currently, we have no specific plans, agreements or understandings with
respect to any acquisitions.
How We Manage Our Risks
Market risk is the risk of loss from adverse changes in market prices and rates.
Our market risk arises primarily from the interest rate risk which is inherent
in our lending and deposit taking activities. To that end, management actively
monitors and manages our interest rate risk exposure. In addition to market
risk, our primary risk is credit risk on our loan portfolio. We attempt to
manage credit risk through our loan underwriting and oversight policies.
The principal objective of our interest rate risk management function is
to evaluate the interest rate risk embedded in certain balance sheet accounts,
determine the level of risk appropriate given our business strategy, operating
environment, capital and liquidity requirements and performance objectives, and
manage the risk consistent with our Board of Directors' approved guidelines.
Through such management, we seek to reduce the vulnerability of our operations
to changes in interest rates. We monitor our interest rate risk as such risk
relates to our operating strategies. Our Board of Directors has established an
Asset/Liability Committee, responsible for reviewing our asset/liability
policies and interest rate risk position, which meets on a monthly basis and
reports trends and interest rate risk positions to the Board of Directors on a
quarterly basis. The extent of the movement of interest rates is an uncertainty
that could have a negative impact on our future earnings.
In recent years, we have primarily utilized the following strategies in
our efforts to manage interest rate risk:
o we have emphasized originations and purchases for portfolio retention of
adjustable-rate and shorter term loans, particularly construction loans,
commercial real estate and land loans, consumer loans and warehouse
mortgage lines of credit;
o we have purchased adjustable-rate mortgage loans for retention in our
portfolio;
o we have been an active seller in the secondary market of our newly
originated, long-term fixed-rate residential mortgage loans;
o when market conditions permit, we have attempted to lengthen the terms of
our certificates of deposit; and
o we have invested in securities with relatively short lives or adjustable
rates of interest.
Our interest rate sensitivity is monitored by management through the use
of a model which internally generates estimates of the change in our net
portfolio value ("NPV") over a range of interest rate scenarios. NPV is the
present value of expected cash flows from assets, liabilities, and off-balance
sheet contracts. The NPV ratio,
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under any interest rate scenario, is defined as the NPV in that scenario divided
by the market value of assets in the same scenario. The Office of Thrift
Supervision produces a similar analysis using its own model, based upon data
submitted in our quarterly Thrift Financial Reports, the results of which may
vary from our internal model primarily due to differences in assumptions
utilized, including estimated loan prepayment rates, reinvestment rates and
deposit decay rates. The following table sets forth our NPV as of December 31,
2002, as calculated by the Office of Thrift Supervision.
Change in NPV as % of Portfolio
Interest Rates Net Portfolio Value Value of Assets
in Basis Points -------------------------------------------------------------
(Rate Shock) Amount $ Change % Change NPV Ratio Change
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(Dollars in thousands)
300 $259,080 $ (5,552) (2)% 13.14% (.01)%
200 265,719 1,087 -- 13.36 .22
100 268,591 3,958 1 13.41 .27
Static 264,633 -- -- 13.15 --
(100) 258,807 (5,826) (2) 12.78 (.36)
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Due to our recognition of the need to control our interest rate exposure,
we have focused on being active in the purchase of adjustable-rate residential
mortgage loans. In addition, our policy is to sell new fixed-rate single-family
residential mortgage loans. In recent years, we also have emphasized the
origination of construction loans, adjustable-rate multi-family and commercial
real estate and land loans and consumer loans. We plan to continue these lending
strategies.
Certain shortcomings are inherent in the methodology used in the above
interest rate risk measurements. Modeling changes in NPV require the making of
certain assumptions which may or may not reflect the manner in which actual
yields and costs respond to changes in market interest rates. In this regard,
the NPV model presented assumes that the composition of our interest sensitive
assets and liabilities existing at the beginning of a period remains constant
over the period being measured and also assumes that a particular change in
interest rates is reflected uniformly across the yield curve regardless of the
duration to maturity or repricing of specific assets and liabilities.
Accordingly, although the NPV measurements and net interest income models
provide an indication of our interest rate risk exposure at a particular point
in time, such measurements are not intended to and do not provide a precise
forecast of the effect of changes in market interest rates on our net interest
income and will differ from actual results.
Quantitative and Qualitative Disclosures About Market Risk
A derivative financial instrument includes futures, forwards, interest rate
swaps, option contracts, and other financial instruments with similar
characteristics. We currently do not enter into futures, swaps, or options.
However, we are party to financial instruments with off-balance sheet risk in
the normal course of business to meet the financing needs of our customers.
These financial instruments include commitments to extend credit. These
instruments involve, to varying degrees, elements of credit and interest rate
risk in excess of the amount recognized in the consolidated balance sheets.
Commitments generally have fixed expiration dates and may require additional
collateral from the borrower if deemed necessary.
(14)
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Table of Market Risk Sensitive Instruments
The following table shows our financial instruments that are sensitive to change
in interest rates, categorized by expected maturity, and the instruments' fair
values at December 31, 2002. Market risk sensitive instruments are generally
defined as on- and off-balance sheet derivatives and other financial
instruments.
Average Expected Maturity/Principal Repayment December 31
Interest ---------------------------------------------------------------------- Fair
(Dollars in thousands) Rate 2003 2004 2005 2006 2007 Thereafter Total(1) Value(1)
===============================================================================================================================
Interest-Sensitive Assets:
Federal funds sold --% $ -- $ -- $ -- $ -- $ -- $ -- $ -- $ --
Investment securities 3.41 17,916 -- -- -- 4,990 8,669 31,575 30,703
Loans receivable 6.26 853,296 482,770 321,846 104,696 69,798 78,283 1,910,689 1,953,874
Mortgage-backed securities 5.37 25,158 2,834 1,889 -- -- -- 29,881 30,369
FHLB stock 3.50 21,459 -- -- -- -- -- 21,459 12,681
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Total $917,829 $485,604 $323,735 $104,696 $ 74,788 $ 86,952 $1,993,604 $2,027,627
===============================================================================================================================
Interest-Sensitive Liabilities:
Money market accounts 1.48% $ 58,704 $ 49,486 $ 49,487 $ 26,337 $ 26,336 $ 59,925 $ 270,275 $ 270,275
Savings accounts 0.80 3,350 2,839 2,838 1,550 1,550 3,728 15,855 15,855
Interest-bearing checking accounts 1.21 38,323 34,739 34,739 25,158 25,158 132,120 290,237 290,237
Certificate accounts 3.65 336,879 60,317 23,417 78,383 17,337 387 516,720 531,203
FHLB advances and
other borrowings 3.81 107,980 33 60,033 33 135,033 115,217 418,329 443,668
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Total $545,236 $147,414 $170,514 $131,461 $205,414 $311,377 $1,511,416 $1,551,238
===============================================================================================================================
Interest-Sensitive
Off-Balance Sheet Items:(1)
Loans serviced for others 6.47% $ 730,135 $ 730,135
Commitments to extend credit 6.02 107,307 107,307
Unused consumer lines of credit 5.21 75,508 75,508
Unused commercial lines
of credit 6.13 18,840 18,840
Commitments to purchase loans 5.47 95,492 95,492
Commitments to sell loans 5.83 115,574 115,574
Commitments to purchase
securities -- -- --
===============================================================================================================================
(1) Total balance equals the notional amount of off-balance sheet items, and
interest rates are the weighted average interest rates of the underlying
loans.
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Expected maturities are contractual maturities adjusted for prepayment of
principal. We use certain assumptions to estimate fair values and expected
maturities. For assets, expected maturities are based upon contractual maturity,
projected repayments and prepayments of principal. The prepayment experience
reflected herein is based on our historical experience. The actual maturities of
these instruments could vary substantially if future prepayments differ from
TierOne Bank's historical experience.
We are subject to certain market risks and interest rate risks from the
time we issue commitments to originate new loans. In recent periods, we have
substantially reduced our exposure to interest rate risk by focusing on loans
with adjustable interest rates and/or shorter terms for retention in portfolio
and selling most of our newly originated fixed-rate loans into the secondary
market. In an effort to protect us against adverse interest rate movements, at
the time we take an application for a fixed-rate loan, we typically enter into
an agreement to sell the loan, or a loan within the same interest rate range,
into the secondary market. This is known as a "matched sale" approach and
reduces our interest rate risk with respect to these loans. There is still some
risk because some portion of these loans may never close for various reasons.
However, the agencies we sell loans to permit us some flexibility in delivering
loan product to them. In certain instances, if the loans we deliver for sale do
not match the characteristics outlined in our forward sale commitments, our gain
on sale may be reduced. To date this has not been a significant issue.
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Analysis of Net Interest Income
Net interest income represents the difference between income on interest-earning
assets and expense on interest-bearing liabilities. Net interest income also
depends upon the relative amounts of interest-earnings assets and
interest-bearing liabilities and the interest rate earned or paid on them.
Average Balances, Net Interest Income, and Yields Earned and Rates Paid
The following table shows for the periods indicated the total dollar amount of
interest from average interest-earning assets and the resulting yields, as well
as the interest expense on average interest-bearing liabilities, expressed both
in dollars and rates, and the net interest margin. Tax-exempt income and yields
have not been adjusted to a tax-equivalent basis. All average balances are based
on monthly balances. Management does not believe that the monthly averages
differ significantly from what the daily averages would be.
Year ended December 31
==========================================================================================
2002 2001 2000
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Average Average Average
Average Yield/ Average Yield/ Average Yield/
(Dollars in thousands) Balance Interest Rate Balance Interest Rate Balance Interest Rate
====================================================================================================================================
Interest-earning assets:
Federal funds sold $ 22,246 $ 391 1.76% $ 26,389 $ 1,153 4.37% $ 3,472 $ 206 5.93%
Investment securities(1) 62,430 2,726 4.37 76,362 5,084 6.66 101,798 7,135 7.01
Mortgage-backed securities(1) 36,300 1,929 5.31 62,372 3,769 6.04 132,489 8,975 6.77
Loans receivable(2) 1,469,785 99,895 6.80 1,228,956 95,139 7.74 1,109,365 87,550 7.89
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Total interest-earning assets 1,590,761 104,941 6.60 1,394,079 105,145 7.54 1,347,124 103,866 7.71
Non-interest-earning assets 69,398 48,707 48,992
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Total assets $1,660,159 $1,442,786 $1,396,116
====================================================================================================================================
Interest-bearing liabilities:
Interest-bearing checking accounts $ 269,274 4,619 1.72 $ 177,984 4,750 2.67 $ 97,319 2,512 2.58
Savings accounts 14,811 179 1.21 11,296 171 1.51 10,829 190 1.75
Money market accounts 284,399 5,533 1.95 305,987 10,551 3.45 338,181 15,450 4.57
Certificate accounts 524,911 20,759 3.95 570,846 31,685 5.55 554,137 32,161 5.80
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Total deposits 1,093,395 31,090 2.84 1,066,113 47,157 4.42 1,000,466 50,313 5.03
FHLB advances and other borrowings 274,605 13,131 4.78 203,867 10,028 4.92 246,789 15,227 6.17
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Total interest-bearing liabilities 1,368,000 44,221 3.23 1,269,980 57,185 4.50 1,247,255 65,540 5.25
Non-interest-bearing checking accounts 29,901 22,234 19,392
Other liabilities 70,320 35,763 27,488
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Total liabilities 1,468,221 1,327,977 1,294,135
Shareholders' equity 191,938 114,809 101,981
- ------------------------------------------------------------------------------------------------------------------------------------
Total liabilities and
shareholders' equity $1,660,159 $1,442,786 $1,396,116
====================================================================================================================================
Net interest-earning assets $ 222,761 $ 124,099 $ 99,869
Net interest income; average interest
rate spread $ 60,720 3.37% $ 47,960 3.04% $ 38,326 2.46%
Net interest margin(3) 3.82% 3.44% 2.85%
Average interest-earning assets to
average interest-bearing liabilities 116.28% 109.77% 108.01%
====================================================================================================================================
(1) Includes securities available for sale and held to maturity. Investment
securities also include Federal Home Loan Bank stock.
(2) Includes nonaccrual loans during the respective periods. Calculated net of
deferred fees and discounts, loans in process and allowance for loan
losses.
(3) Equals net interest income divided by average interest-earning assets.
(16)
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Rate/Volume Analysis
The following table shows the extent to which changes in interest rates and
changes in volume of interest-related assets and liabilities affected our
interest income and expense during the periods indicated. For each category of
interest-earning assets and interest-bearing liabilities, information is
provided on changes attributable to (1) changes in rate (change in rate
multiplied by prior year volume), and (2) changes in volume (change in volume
multiplied by prior year rate). The combined effect of changes in both rate and
volume has been allocated proportionately to the change due to rate and the
change due to volume.
2002 vs. 2001 2001 vs. 2000
=============================================================================
Increase (Decrease) Due to Increase (Decrease) Due to
-------------------------- Total -------------------------- Total
Increase Increase
(In thousands) Rate Volume (Decrease) Rate Volume (Decrease)
====================================================================================================================
Interest income:
Federal funds sold $ (603) $ (159) $ (762) $ (39) $ 986 $ 947
Investment securities (1,541) (817) (2,358) (343) (1,708) (2,051)
Mortgage-backed securities (412) (1,428) (1,840) (882) (4,324) (5,206)
Loans receivable, net (7,854) 12,610 4,756 (1,630) 9,219 7,589
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Total interest-earning assets (10,410) 10,206 (204) (2,894) 4,173 1,279
- --------------------------------------------------------------------------------------------------------------------
Interest expense:
Interest-bearing checking accounts 301 (432) (131) 88 2,150 2,238
Savings accounts (14) 22 8 (27) 8 (19)
Money market accounts (4,319) (699) (5,018) (3,529) (1,370) (4,899)
Certificate accounts (8,536) (2,390) (10,926) (1,542) 1,066 (476)
- --------------------------------------------------------------------------------------------------------------------
Total deposits (12,568) (3,499) (16,067) (5,010) 1,854 (3,156)
FHLB advances and other borrowings (272) 3,375 3,103 (2,799) (2,400) (5,199)
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Total interest-bearing liabilities (12,840) (124) (12,964) (7,809) (546) (8,355)
- --------------------------------------------------------------------------------------------------------------------
Increase in net interest income $ 2,430 $ 10,330 $ 12,760 $ 4,915 $ 4,719 $ 9,634
====================================================================================================================
Comparison of Financial Condition at December 31, 2002 and December 31, 2001
Our total assets were $1.9 billion at December 31, 2002, a $375.5 million, or
23.9%, increase from December 31, 2001. A moderate decrease in our investment
and mortgage-backed securities during 2002 was more than offset by a $386.7
million increase in our net loan portfolio. During the year, we used a portion
of our excess cash, proceeds from the initial public offering, proceeds from the
maturities of securities and additional borrowings to fund our new loan
originations and purchases. Our available for sale investment securities
(excluding mortgage-backed securities) amounted to $30.5 million at December 31,
2002, a $14.0 million decrease from December 31, 2001. Likewise, our
mortgage-backed securities decreased by $15.9 million, to $30.4 million at
December 31, 2002 compared to $46.3 million at December 31, 2001. This decrease
reflects, in part, repayments due to the continuing high level of mortgage
refinance activity in the current interest rate environment which has resulted
in more rapid repayment of such securities. Our net loans receivable increased
by 28.0% to $1.8 billion at December 31, 2002 compared to December 31, 2001.
Loan repayments and sales during the year ended December 31, 2002 were offset by
new loan originations and purchases. During the year ended December 31, 2002 we
purchased a total of $671.3 million of loans, including $334.0 million of
adjustable-rate single-family residential loans, $140.0 million of commercial
real estate and land loans, $112.1 million of construction loans and $85.2
million of consumer loans. A substantial portion of the commercial real estate
and land loans purchased during this period consisted of 75% to 95%
participation interests in loans originated by two financial institutions
headquartered in the State of Washington with the underlying collateral located
in several states.
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Our total deposits increased by $32.6 million, or 3.0%, during the year
and amounted to $1.1 billion at December 31, 2002. Such increase reflects, in
part, our continuing effort to increase the level of our checking accounts and
other core deposits. At December 31, 2002, our interest-bearing and
non-interest-bearing checking accounts amounted to $326.0 million in the
aggregate, a $74.1 million, or 29.4%, increase from the aggregate amount at
December 31, 2001. Our total certificates of deposit declined to $516.7 million,
or 45.8% of total deposits, at December 31, 2002 compared to $535.3 million, or
48.8% of total deposits, at December 31, 2001. Our FHLB advances and other
borrowings amounted to $418.3 million at December 31, 2002 compared to $303.3
million at December 31, 2001, the increase being the result of the determination
to use borrowings to a more significant degree to fund our loan origination and
purchase activities.
Due primarily to $198.1 million in net proceeds from our initial public
offering, our total equity increased by $218.1 million to $339.9 million at
December 31, 2002 compared to $121.8 million at December 31, 2001. The growth in
our equity also reflected, in part, the $15.0 million of net income for the year
ended December 31, 2002. Due primarily to a change in net unrealized gain/loss
on securities, we had a cumulative other comprehensive loss of $405,000 at
December 31, 2002 compared to cumulative other comprehensive income of $77,000
at December 31, 2001.
Comparison of Financial Condition at December 31, 2001 and December 31, 2000
Total assets increased by $210.5 million, or 15.5%, during 2001 to $1.6 billion
at December 31, 2001 compared to $1.4 billion at December 31, 2000. The primary
reason for the increase in total assets in 2001 was a $254.7 million, or 22.7%,
increase in net loans receivable reflecting our efforts to increase our
relatively higher yielding, interest-sensitive or shorter term assets such as
warehouse mortgage lines of credit, construction, commercial real estate and
land and consumer loans. A significant reason for the increase in our net loans
receivable was a $186.9 million increase in outstanding warehouse mortgage lines
of credit reflecting the mortgage refinance boom that existed throughout 2001
due to the low interest rate environment. The increase in net loans receivable
during 2001 was partially offset by a $62.5 million, or 40.8%, decrease in
available for sale investment securities which amounted to $90.8 million at
December 31, 2001 compared to $153.3 million at December 31, 2000. The decrease
in available for sale investment securities during 2001 was due to maturities
and prepayments in the ordinary course of business.
Our total deposits increased by $48.4 million, or 4.6%, during 2001 and
amounted to $1.1 billion at December 31, 2001. The increase in deposits in 2001
reflects, in part, our efforts to increase checking accounts and other core
deposits as a funding source for our lending. Borrowings, consisting primarily
of Federal Home Loan Bank advances, increased by $130.9 million, or 75.9%, to
$303.3 million at December 31, 2001. We have increased our utilization of
borrowings in recent years as an additional source of funds.
Primarily as a result of net income for the year ended December 31, 2001,
our total retained earnings increased by $13.9 million, or 12.9%, to $121.8
million at December 31, 2001 compared to $107.9 million at December 31, 2000. In
addition, due primarily to a change in net unrealized gains/losses on
securities, we had cumulative other comprehensive income of $77,000 at December
31, 2001 compared to a cumulative other comprehensive loss of $764,000 at
December 31, 2000.
Comparison of Operating Results for the Years Ended December 31, 2002 and
December 31, 2001
General
Our net income increased by $1.9 million, or 14.8%, to $15.0 million for the
year ended December 31, 2002 compared to $13.0 million for the year ended
December 31, 2001. Our net income increased due primarily to a lower cost of
funds in 2002 which improved our net interest income. Net interest income is our
principal source of income and represents the difference between the income we
earn on our loan and investment portfolios and our cost of funds, which is the
interest we pay on deposits and borrowings. In large part, net interest income
is determined by interest rate spread (i.e., the difference between the yields
earned on interest-earning assets and the rates paid on interest-bearing
liabilities) and also by the amount of interest-earning assets relative to
interest-bearing liabilities. Our average interest rate spread increased to
3.37% for the year ended December 31, 2002 compared to 3.04% for the year ended
December 31, 2001. Our net interest margin improved to 3.82% for the year ended
December 31, 2002 compared to 3.44% for the year ended December 31, 2001.
(18)
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Our ratio of average interest-earning assets to average interest-bearing
liabilities increased to 116.3% for the year ended December 31, 2002 compared to
109.8% for the year ended December 31, 2001.
Interest Income
Our total interest income for the year ended December 31, 2002 was $104.9
million compared to $105.1 million for the year ended December 31, 2001. The
primary reason for the decrease in interest income was lower yields earned on
interest-earning assets in fiscal 2002 compared to 2001. The average yield
earned on net loans receivable was 6.80% for the year ended December 31, 2002
compared to 7.74% for the year ended December 31, 2001. Average yields also were
lower on our investment securities and mortgage-backed securities in the year
ended December 31, 2002 compared to 2001. These declines in the average yields
earned on interest-earning assets primarily reflect lower market rates of
interest as interest rates declined throughout 2002.
Interest Expense
Our total interest expense for the year ended December 31, 2002 was $44.2
million compared to $57.2 million for the year ended December 31, 2001. The
primary reason for the decrease in our interest expense was a $16.1 million
decrease in interest expense on deposits due to a reduction in the average rate
paid on our interest-bearing deposits to 2.84% during 2002 compared to 4.42%
during 2001. The average rate paid on our certificates of deposit was 3.95% in
the year ended December 31, 2002 compared to 5.55% in the year ended December
31, 2001. The average rates paid on our interest-bearing checking accounts,
money market accounts and savings accounts also declined in 2002 compared to
2001. Interest expense on FHLB advances and other borrowings increased by $3.1
million in 2002 compared to 2001 as a result of a higher average balance of
borrowings in 2002 which more than offset a 14 basis point reduction in the
average rate paid.
Provision for Loan Losses
We have identified the evaluation of the allowance for loan losses as a critical
accounting policy as amounts are sensitive to material variation. This policy is
significantly affected by our judgment and uncertainties and there is a
likelihood that materially different amounts would be reported under different,
but reasonably plausible, conditions or assumptions. We establish the provision
for loan losses, which is charged to our operating results, in order to maintain
a level of the allowance for loan losses that management believes covers all
known and inherent losses that are both probable and reasonably estimable at
each reporting date. Management performs reviews no less frequently than
quarterly in order to identify these losses and to assess the overall collection
probability for the loan portfolio. Our reviews consist of a quantitative
analysis by loan category, using historical loss experience, and consideration
of a series of qualitative loss factors. For each primary type of loan, we
establish a loss factor reflecting our estimate of the known and inherent losses
in each loan type using both the quantitative analysis as well as consideration
of the qualitative factors. Our evaluation process includes, among other things,
an analysis of delinquency trends, non-performing loan trends, the levels of
charge-offs and recoveries, prior loss experience, total loans outstanding, the
volume of loan originations, the type, size, terms and geographic concentration
of loans held by us, the value of collateral securing loans, the number of loans
requiring heightened management oversight, general economic conditions and loan
loss information for other institutions. In lending business lines where our
historical experience is not as extensive as compared to more established
lending operations, we have also considered the experience of other lenders
whose portfolios of such loans appear to have similar characteristics in terms
of structure, amount and geographic location. The amount of the allowance for
loan losses is only an estimate and actual losses may vary from these estimates.
We assess our allowance for loan losses no less frequently than quarterly, and
make any necessary provision for loan losses.
We made a provision for loan losses of $4.7 million for the year ended
December 31, 2002 compared to $4.0 million for the year ended December 31, 2001.
Our portfolios of commercial real estate and land loans, construction loans,
commercial business loans and consumer loans, which generally are deemed to have
higher levels of known and inherent losses than single-family residential
mortgage loans, have continued to grow, both in terms of total dollar amounts
and as a percentage of our total loan portfolio. We continued to purchase both
commercial real estate and construction loans. Such loans are more susceptible
to experiencing problems as the economy weakens due to the nature of their
operations. At December 31, 2002, our total non-performing assets amounted to
$7.5 million compared to $1.8 million at December 31, 2001. The increase in
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non-performing assets was due to a $3.8 million increase in non-accrual
commercial real estate mortgage loans as well as a $1.9 million increase in real
estate owned. The increase in non-performing loans was related to a $3.8 million
real estate loan secured by an Arizona hotel. The increase in real estate owned
in 2002 was primarily related to a $1.4 million residential mortgage loan
secured by property in California which is subject to confirmation of the
trustee sale by a bankruptcy court. During fiscal 2002, we charged off an
aggregate of $1.2 million of loans compared to only $496,000 for fiscal 2001.
For the year ended December 31, 2002, approximately 75% of our charge-offs
related to consumer loans, in particular automobile loans. At December 31, 2002,
our allowance for loan losses amounted to 311.7% of non-performing loans and
0.96% of total loans outstanding. We believe that the allowance for loan losses
at December 31, 2002 was at a level to cover the known and inherent losses in
our loan portfolio that were both probable and reasonably estimable based upon
the facts and circumstances known at that date. No assurance can be made that
additional provisions may not be needed in future periods, which could adversely
affect results of operations. Regulatory agencies, in the course of their
regular examinations, review the allowance for loan losses and carrying value of
non-performing assets. No assurance can be given that these agencies might not
require changes to the allowance for loan losses in the future.
Other Income
Our other income increased by $1.8 million, or 16.2%, to $13.1 million for the
year ended December 31, 2002 compared to $11.3 million for the year ended
December 31, 2001. The primary reason for the increase in other income was a
$2.0 million increase in gain on sale of loans, due primarily to sales of
single-family fixed-rate loans. Partially offsetting the increase in other
income was a $1.6 million increase in our mortgage servicing rights valuation
allowance due to increased prepayments in our loan servicing portfolio due to
the low interest rate environment existing throughout 2002.
Other Expense
Our other expense increased by $10.7 million, or 30.7%, to $45.7 million for the
year ended December 31, 2002 compared to $34.9 million for the year ended
December 31, 2001. The primary reasons for the increase in other expense were a
$5.0 million charitable contribution to the TierOne Charitable Foundation and a
$2.9 million increase in salaries and employee benefits due to an increase in
the number of staff, increased health insurance costs, normal salary increases,
and increased benefit cost related to the establishment of an employee stock
ownership plan in connection with the initial public offering. To a lesser
extent, the increase also reflected a $1.7 million increase in advertising
costs, due primarily to expenses incurred in connection with our name change to
TierOne Bank in early 2002 and related marketing efforts.
Income Tax Expense
Our income tax expense increased by $1.2 million to $8.5 million for the year
ended December 31, 2002 compared to $7.3 million for the year ended December 31,
2001. The increase in income tax expense primarily reflects the increase in
income.
Comparison of Operating Results for the Years Ended December 31, 2001 and
December 31, 2000
General
Our net income increased by $4.0 million, or 44.5%, for the year ended December
31, 2001, from $9.0 million for the year ended December 31, 2000 to $13.0
million for the year ended December 31, 2001. The increase was due primarily to
a reduction in our cost of funds. The reduction in our cost of funds in 2001
compared to 2000 was a primary reason for an increase in net interest income.
Our average interest rate spread increased to 3.04% for the year ended December
31, 2001 compared to 2.46% for the year ended December 31, 2000, and our net
interest margin (which is net interest income expressed as a percentage of
average interest-earning assets) improved to 3.44% for the year ended December
31, 2001 compared to 2.85% for the year ended December 31, 2000. Our ratio of
average interest-earning assets to average interest-bearing liabilities
increased to 109.8% for the year ended December 31, 2001 compared to 108.0% for
the year ended December 31, 2000.
Interest Income
Our total interest income increased by $1.3 million, or 1.2%, to $105.1 million
for the year ended December 31, 2001 compared to $103.9 million for the year
ended December 31, 2000. The primary reason for the increase in interest income
in 2001 compared to 2000 was an increase in interest income on loans which more
than offset decreases in interest income from investment
(20)
- --------------------------------------------------------------------------------
securities and mortgage-backed securities. Interest income on loans increased by
$7.6 million, or 8.7%, to $95.1 million in the year ended December 31, 2001
compared to $87.6 million for the year ended December 31, 2000. The primary
reason for the increase in interest income from loans was a $119.6 million, or
10.8%, increase in the average balance of outstanding loans receivable in 2001
compared to 2000 which more than offset a 15 basis point (100 basis points being
equal to 1.0%) decline in the average yield earned on loans. The increase in the
average balance of loans outstanding in 2001 compared to 2000 reflects our
efforts to increase our interest-sensitive or shorter term loans. Interest
income on investment securities decreased by $2.1 million, or 28.8%, to $5.1
million in the year ended December 31, 2001 compared to $7.1 million in the year
ended December 31, 2000. The decrease in interest income from investment
securities was due to a $25.4 million, or 25.0%, decrease in the average balance
of our investment securities together with a 35 basis point decrease in the
average yield earned thereon. Interest income on mortgage-backed securities
decreased by $5.2 million, or 58.0%, to $3.8 million during the year ended
December 31, 2001 compared to $9.0 million for the year ended December 31, 2000.
The average balance of our mortgage-backed securities decreased by $70.1
million, or 52.9%, in 2001 compared to 2000 and the average yield earned
decreased by 73 basis points. The decrease in average balances in
mortgage-backed securities in 2001 reflects the relatively higher levels of
prepayments on the underlying mortgage loans while the decrease in average yield
reflects the fact that higher yielding mortgage-backed securities tend to
pre-pay faster when market rates of interest are at lower levels. During the
year ended December 31, 2001, we used a significant portion of the cash from
investment securities and mortgage-backed securities as they matured or were
prepaid to fund new loan originations and purchases.
Interest Expense
Total interest expense decreased by $8.4 million, or 12.8%, to $57.2 million for
the year ended December 31, 2001 compared to $65.5 million for the year ended
December 31, 2000. Interest expense on total deposits decreased by $3.2 million,
or 6.3%, to $47.2 million in 2001 compared to $50.3 million in 2000. The
decrease in interest expense on interest-bearing deposits was due to a 61 basis
point decrease in the average rate paid on deposits in 2001 which more than
offset a $65.6 million, or 6.6%, increase in the average balance of
interest-bearing deposits. The average balance of our interest-bearing checking
accounts increased by $80.7 million, or 82.9%, in 2001 compared to 2000,
reflecting our efforts to increase checking accounts. The increase in
interest-bearing checking accounts in 2001 compared to 2000, together with
slight increases in savings accounts and certificates of deposit, more than
offset a 9.5% decrease in the average balance of money market accounts. Interest
expense on Federal Home Loan Bank advances and other borrowings decreased by
$5.2 million, or 34.1%, to $10.0 million in the year ended December 31, 2001
compared to $15.2 million for the year ended December 31, 2000. The decrease in
interest expense on borrowings in 2001 compared to 2000 was due to a $42.9
million decrease in the average balance of borrowings as well as a 125 basis
point decrease in the average rate paid. The increase in deposit accounts,
particularly interest-bearing checking accounts, permitted us to reduce our
utilization of Federal Home Loan Bank advances and other borrowings in 2001
compared to 2000.
Provision for Loan Losses
The provision for the loan losses amounted to $4.0 million for the year ended
December 31, 2001 compared to $1.3 million for the year ended December 31, 2000.
The $2.7 million increase was primarily due to an increased provision for known
and inherent losses in our consumer loans, commercial construction loans and
warehouse mortgage lines of credit. The consumer loan provision increased by
$1.7 million for the year ended December 31, 2001 based upon management's
assessment of known and inherent losses in our loan portfolio. Consumer loan
charge-offs increased by $321,000 to $458,000 for the year ended December 31,
2001 compared to the year ended December 31, 2000 and the total of consumer
loans delinquent 30 days or more increased from $2.1 million at December 31,
2000 to $3.5 million at December 31, 2001. We increased the amount of our
provision for commercial construction loans by $156,000 in 2001 compared to 2000
due to construction delays and increased costs to complete. Our allowance for
loan losses amounted to $13.5 million at December 31, 2001 compared to $9.9
million at December 31, 2000, or 0.96% of total loans outstanding at December
31, 2001 compared to 0.87% of total loans outstanding at December 31, 2000. In
making the provision for loan losses during the year ended December 31, 2001, we
considered the
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TierOne Corporation and Subsidiaries
(21)
- --------------------------------------------------------------------------------
increased inherent losses in our loan portfolio based upon historical loss
experience and other factors. In particular, we considered that the level of our
total delinquent loans increased significantly during the second half of 2001
and amounted to $11.0 million at December 31, 2001 compared to $8.7 million at
December 31, 2000. We also considered our increased investment in loans which
may be deemed to have increased levels of known and inherent losses compared to
single-family residential mortgage loans such as our commercial construction
loans, which increased by $49.4 million, or 107.0%, at December 31, 2001
compared to December 31, 2000, our commercial real estate and land loans, which
increased by $47.6 million, or 22.6%, during the year, and our consumer loans
generally and, in particular, our equity lines of credit, which increased by
$23.1 million, or 59.8%, and our automobile loans, which increased by $20.1
million, or 89.1%, during the year. We also considered our charge-offs of
$496,000 of loans during the year ended December 31, 2001, an increase of 150.5%
from the amount for the prior fiscal year. In addition to the increases in
outstanding balances of loans deemed to have relatively higher known and
inherent losses in 2001, the composition and profile of our loan portfolio was
also affected by a decline in our single-family residential mortgage loans to
$502.5 million at December 31, 2001 compared to $565.4 million at December 31,
2000. Single-family residential mortgage loans generally are deemed to have a
lower risk of loss than consumer loans, construction loans, commercial real
estate loans and warehouse mortgage lines of credit. We also took into
consideration certain qualitative factors such as the effect of the events of
September 11, 2001 on our local economy, workforce reductions announced by
several large employers with operations in our local market areas and that the
State of Nebraska has experienced lower tax revenues which has had a significant
adverse effect on state agencies and the University of Nebraska.
Other Income
Our other, or non-interest, income is comprised primarily of fees and service
charges on customer accounts, gains on loans sold, and other operating income.
Our other income increased by $4.4 million, or 66.3%, to $10.9 million for the
year ended December 31, 2001 compared to $6.6 million for the year ended
December 31, 2000. The primary reasons for the increases in other income in 2001
were a $2.4 million increase in fees and service charges, due primarily to a
significant increase in the number of our checking accounts, which increased by
27.8% at December 31, 2001 compared to December 31, 2000, as well as increased
fees from a significantly higher volume of loan originations, a $1.3 million
increase in net gains on sales of loans held for sale, due to increased mortgage
loan sales, and a $767,000 increase in other operating income, due primarily to
increased premium income from insurance sales. Also included in 2001 was
$438,000 in payments received pursuant to a consent decree against a law firm
involved in our earlier attempted conversion.
Other Expense
Other, or non-interest, expense is comprised of salaries and employee benefits,
occupancy expense, data processing, advertising and various other operating
expenses. Our other expense increased by $5.1 million, or 17.2%, to $34.6
million for the year ended December 31, 2001 compared to $29.5 million for the
year ended December 31, 2000. The primary reason for the increase in other
expense in 2001 compared to 2000 was a $3.2 million increase in salaries and
employee benefits due primarily to increased commissions paid as a result of
increased mortgage loan originations and increased annuities and securities
sales, increased incentive compensation payments, an increase in the total
number of employees and normal salary and benefit increases. Our net occupancy
costs increased by $443,000 in 2001 compared to 2000 reflecting our remodeling
and refurbishing efforts at our branch offices as well as upgrades of our
computer software. Our advertising expense increased by $321,000 in 2001
compared to 2000 reflecting, in large part, costs associated with our direct
mail marketing efforts which are designed to increase our customer base in our
market area and which, in recent periods, focused on increasing our levels of
checking accounts. Our other operating expense increased by $1.1 million in 2001
compared to 2000 due largely to expenses related to our change in name and
operating expense of our new reinsurance subsidiary.
Income Tax Expense
Our income tax expense increased by $2.2 million, or 43.1%, to $7.3 million for
the year ended December 31, 2001 compared to $5.1 million for the year ended
December 31, 2000. The increase in income tax expense was due to our increase in
net income in 2001. Our effective Federal tax rate was 35.8% for the year ended
December 31, 2001 compared to 36.0% for the year ended December 31, 2000.
(22)
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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. TierOne
Bank also utilizes outside borrowings, primarily from the Federal Home Loan Bank
of Topeka, as an additional funding source.
We use our liquidity 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 December 31,
2002, we had the following contractual obligations and lending commitments:
Due in
-----------------------------------------
After
(In thousands) Total 1 Year 1-3 Years 3-5 Years 5 Years
========================================================================================================
Contractual Obligations:
Total borrowings $418,329 $ 82,947 $ 35,000 $ 25,000 $275,382
Annual rental commitments under non-cancellable
operating leases 2,429 584 630 298 917
- --------------------------------------------------------------------------------------------------------
$420,758 $ 83,531 $ 35,630 $ 25,298 $276,299
========================================================================================================
Due in
-----------------------------------------
After
(In thousands) Total 1 Year 1-3 Years 3-5 Years 5 Years
========================================================================================================
Lending Commitments:
Commitments to lend $297,147 $297,147 $ -- $ -- $ --
Commitments to sell loans (115,574) (115,574) -- -- --
Undisbursed portion of loans in process 123,331 123,331 -- -- --
- --------------------------------------------------------------------------------------------------------
$304,904 $304,904 $ -- $ -- $ --
========================================================================================================
At December 31, 2002, we also had certificates of deposit maturing within
the next 12 months amounting to $336.9 million. Based upon historical
experience, we anticipate that a significant portion of the maturing
certificates of deposit will be redeposited with us.
In addition to cash flow from loan and securities payments and prepayments
as well as from sales of available for sale securities, we have significant
borrowing capacity available to fund our liquidity needs. We have increased our
utilization of borrowings in recent years as a cost efficient addition to
deposits as a source of funds. The average balance of our borrowings was $274.6
million for the year ended December 31, 2002 compared to $203.9 million and
$246.8 million for the years ended December 31, 2001 and 2000, respectively. To
date, substantially all of our borrowings have consisted of advances from the
Federal Home Loan Bank of Topeka, of which we are a member. Pursuant to blanket
collateral agreements with the Federal Home Loan Bank of Topeka, we pledged
qualifying residential, multi-family and commercial real estate mortgages and
residential construction loans with carrying values totaling approximately
$797.0 million and $485.0 million at December 31, 2002 and 2001, respectively.
Other qualifying collateral can be pledged in the event additional borrowing
capacity is required.
We have not used, and have no intention to use, any significant
off-balance sheet financing arrangements for liquidity purposes. Our primary
financial instruments with off-balance sheet risk are limited to loan servicing
for others, our obligations to fund loans to customers pursuant to existing
commitments and commitments to purchase and sell mortgage loans. In addition, we
have certain risks due to limited recourse arrangements on loans serviced for
others. At December 31, 2002, the maximum total amount of such recourse was
approximately $5.9 million. Based on historical experience, at December 31,
2002, we had established a reserve of
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TierOne Corporation and Subsidiaries
(23)
- --------------------------------------------------------------------------------
$389,000 with respect to this recourse obligation. In addition, we have not had,
and have no intention to have, any significant transactions, arrangements or
other relationships with any unconsolidated, limited purpose entities. We have
not, and do not intend to, trade in 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 accounting principles
generally accepted in the United States of America, 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 its 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.
Recent Accounting Pronouncements
In September 2000, the FASB issued Statement No. 140, "Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities," that
replaces, in its entirety, Statement No. 125, "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities." Statement No.
140 revises the standards for accounting for securitizations and other transfers
of financial assets and collateral and requires certain additional disclosures,
but it carries over most of Statement No. 125's provisions without
reconsideration. Statement No. 140 is effective for transfers and servicing of
financial assets and extinguishments of liabilities occurring after December 31,
2001. Statement No. 140 is effective for recognition and reclassification of
collateral and for disclosures relating to securitization transactions and
collateral for fiscal years ending after December 15, 2000 and is to be applied
prospectively with certain exceptions. Implementation of Statement No. 140 did
not have any impact on our earnings, financial condition or equity.
In June 2001, the FASB issued Statement No. 141, "Business Combinations."
The Statement addresses financial accounting and reporting for business
combinations and supersedes APB Opinion No. 16, "Business Combinations," and
FASB Statement No. 38, "Accounting for Preacquisition Contingencies of Purchased
Enterprises." All business combinations in the scope of the Statement are to be
accounted for using the purchase method. The provisions of the Statement apply
to all business combinations initiated after June 30, 2001. The Statement also
applies to all business combinations accounted for using the purchase method for
which the date of acquisition is July 1, 2001, or later. Adoption of Statement
No. 141 did not have any impact on our earnings, financial condition or equity.
In June 2001, the FASB issued Statement No. 142, "Goodwill and Other
Intangible Assets." SFAS No. 142 addresses financial accounting and reporting
for acquired goodwill and other intangible assets and supersedes APB Opinion No.
17, "Intangible Assets." SFAS No. 142 requires that goodwill and other
intangible assets with indefinite useful lives no longer be amortized but
instead be tested for impairment at least annually. SFAS No. 142 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
SFAS No. 142 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 non-amortization and
amortization provisions of the SFAS No. 142. Early application is permitted for
entities with fiscal years beginning after December 15, 2001, provided that the
first interim financial statements have not previously been issued. SFAS No. 142
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. The adoption of SFAS No. 142 did not have any impact on
our earnings, financial condition or equity.
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 SFAS 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
(24)
- --------------------------------------------------------------------------------
Statement 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 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 APB 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. The adoption of Statement No. 144 did
not have any impact on our earnings, financial condition or equity.
In October 2002, the FASB issued Statement No. 147, "Acquisitions of
Certain Financial Institutions," which amends statement No. 72, "Accounting for
Certain Acquisitions of Banking or Thrift Institutions," Statement No. 144,
"Accounting for the Impairment or Disposal of Long-Lived Assets," and FASB
Interpretation No. 9. Except for transactions between two or more mutual
enterprises, this Statement removes acquisitions of financial institutions from
the scope of both Statement No. 72 and Interpretation 9 and requires that those
transactions be accounted for in accordance with FASB Statements No. 141,
"Business Combinations," and No. 142, "Goodwill and Other Intangible Assets."
Thus, the requirement in paragraph 5 of Statement No. 72 to recognize any excess
of the fair value of liabilities assumed over the fair value of tangible and
identifiable intangible assets acquired as an unidentifiable intangible asset of
a business no longer applies to acquisitions within the scope of this Statement.
In addition, this Statement amends Statement No. 144 to include in its scope
long-term customer-relationship intangible assets of financial institutions such
as depositor- and borrower-relationship intangible assets and credit cardholder
intangible assets. Consequently, those intangible assets are subject to the same
undiscounted cash flow recoverability test and impairment loss recognition and
measurement provisions that Statement No. 144 requires for other long-lived
assets that are held and used. With some exceptions, the requirements of
Statement No. 147 are effective October 1, 2002. The adoption of this Statement
did not have any material impact on the Company's consolidated earnings,
financial condition, or equity.
In December 2002, the FASB issued Statement No. 148, "Accounting for
Stock-Based Compensation--Transition and Disclosure, an amendment of FASB
Statement No. 123." Statement No. 148 amends SFAS No. 123 to provide alternative
methods of transition for a voluntary change to the fair value based method of
accounting for stock-based employee compensation. In addition, this Statement
amends the disclosure requirements of Statement No. 123 to require prominent
disclosures in both annual and interim financial statements about the method of
accounting for stock-based employee compensation and the effect of the method
used on reported results. This statement is effective for financial statements
for fiscal years ending after December 15, 2002. The Company is required to
adopt certain disclosure provisions for interim periods beginning after December
15, 2002. At December 31, 2002, SFAS No. 148 did not have any impact on the
Company's financial statements or disclosures.
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, including Indirect
Guarantees of Indebtedness of Others," an interpretation of SFAS No. 5, 57 and
107 and recision of FASB Interpretation No. 34. This interpretation requires
additional disclosures to be made by a guarantor in its interim and annual
financial statements about its obligations under certain guarantees that it has
issued. It also specifies the requirements for liability recognition (at fair
value) for obligations undertaken in issuing the guarantee. The disclosure
requirements are effective for interim and annual financial statements ending
after December 15, 2002 (December 31, 2002 financial statements for calendar
year companies). The initial recognition and measurement provisions are
effective for all guarantees within the scope of Interpretation 45 issued or
modified after December 31, 2002. The Company has not yet determined the effect
of Interpretation No. 45 on its earnings, financial condition or equity.
AR02
TierOne Corporation and Subsidiaries
(25)
Statement of Management's Responsibility
- --------------------------------------------------------------------------------
Management is responsible for establishing and maintaining the internal and
disclosure controls relating to the preparation, content and integrity of the
published financial statements that are designed to provide reasonable assurance
of the integrity and fair presentation of our published financial statements and
all other information included in this annual report. The consolidated financial
statements and related footnotes are prepared in conformity with accounting
principles generally accepted in the United States of America. Management is
also responsible for compliance with laws and regulations relating to safety and
soundness as designated by the Office of Thrift Supervision.
Management maintains a system of internal control, including an internal
audit function, which provides reasonable assurance that assets are safeguarded
against loss from unauthorized use or disposition, transactions are properly
authorized and that accounting records are reliable for the preparation of
financial statements. Even effective internal controls, no matter how well
designed, have inherent limitations, such as the possibility of human error or
of circumvention or overriding of controls, and the consideration of cost in
relation to benefit of a control. Further, the effectiveness of an internal
control can change with circumstances.
TierOne Corporation's internal and disclosure controls are being
continually modified and improved in response to changes in business conditions
and operations. Based upon these controls, TierOne Corporation management
believes that, in all material respects, its internal control structure and
procedures relating to preparation of the consolidated financial statements
functioned effectively during the year ended December 31, 2002.
The Board of Directors has an Audit Committee composed of three outside
directors. The Committee meets regularly with the independent auditors, the
internal auditors and management to ensure that internal controls are being
properly administered and that financial data is being properly reported. The
Committee reviews the scope and timing of internal audits including
recommendations made with respect to internal controls and disclosure. The
independent auditors and the internal auditors have free access to the
Committee.
The consolidated financial statements as identified in the accompanying
Independent Auditors' Report have been audited by KPMG LLP, independent
certified public accountants, which have been given unrestricted access to all
financial records and related data, including minutes of all meetings of the
Board of Directors and committees of the Board. These audits were conducted in
accordance with auditing standards generally accepted in the United States of
America, and included tests of the accounting records and other auditing
procedures considered necessary to formulate an opinion on the consolidated
financial statements.
/s/ Gilbert G. Lundstrom
Gilbert G. Lundstrom
Chairman of the Board
and Chief Executive Officer
/s/ Eugene B. Witkowicz
Eugene B. Witkowicz
Executive Vice President and
Chief Financial Officer
(26)
Consolidated Balance Sheets
December 31, 2002 and 2001
- --------------------------------------------------------------------------------
(Dollars in thousands, except share data) 2002 2001
============================================================================================================
Assets
Cash and due from banks $ 33,037 $ 24,141
Federal funds sold -- 10,300
- ------------------------------------------------------------------------------------------------------------
Total cash and cash equivalents 33,037 34,441
Investment securities:
Held to maturity 157 221
Available for sale 30,546 44,524
Mortgage-backed securities, available for sale 30,369 46,287
Loans held for sale 8,504 14,373
Loans receivable, net 1,765,744 1,379,066
Federal Home Loan Bank stock 21,459 14,836
Premises and equipment, net 26,810 18,201
Accrued interest receivable 9,084 7,834
Other assets 19,825 10,230
- ------------------------------------------------------------------------------------------------------------
Total assets $ 1,945,535 $ 1,570,013
============================================================================================================
Liabilities and Shareholders' Equity
Liabilities:
Deposits $ 1,128,880 $ 1,096,242
Advances from Federal Home Loan Bank and other borrowings 418,329 303,315
Advance payments from borrowers for taxes, insurance and other escrow funds 29,453 15,535
Accrued interest payable 6,812 8,734
Accrued expenses and other liabilities 22,165 24,432
- ------------------------------------------------------------------------------------------------------------
Total liabilities 1,605,639 1,448,258
- ------------------------------------------------------------------------------------------------------------
Shareholders' equity:
Preferred stock, $.01 par value, 10,000,000 shares authorized; none issued -- --
Common stock, $.01 par value, 60,000,000 shares authorized; 22,575,075 shares
issued and outstanding 226 --
Additional paid-in capital 355,741 --
Retained earnings 2,018 121,678
Unallocated common stock held by the Employee Stock Ownership Plan (17,684) --
Accumulated other comprehensive income (loss), net (405) 77
- ------------------------------------------------------------------------------------------------------------
Total shareholders' equity 339,896 121,755
Commitments and contingent liabilities
- ------------------------------------------------------------------------------------------------------------
Total liabilities and shareholders' equity $ 1,945,535 $ 1,570,013
============================================================================================================
See accompanying notes to consolidated financial statements.
AR02
TierOne Corporation and Subsidiaries
(27)
Consolidated Statements of Income
Years ended December 31, 2002, 2001, and 2000
- --------------------------------------------------------------------------------
(Dollars in thousands, except share data) 2002 2001 2000
================================================================================================
Interest income:
Loans receivable $ 99,895 $ 95,139 $ 87,550
Investment securities 4,655 8,853 16,110
Other interest-earning assets 391 1,153 206
- ------------------------------------------------------------------------------------------------
Total interest income 104,941 105,145 103,866
- ------------------------------------------------------------------------------------------------
Interest expense:
Deposits 31,090 47,157 50,313
Advances from Federal Home Loan Bank and other borrowings 13,131 10,028 15,227
- ------------------------------------------------------------------------------------------------
Total interest expense 44,221 57,185 65,540
- ------------------------------------------------------------------------------------------------
Net interest income 60,720 47,960 38,326
Provision for loan losses 4,695 3,997 1,273
- ------------------------------------------------------------------------------------------------
Net interest income after provision for loan losses 56,025 43,963 37,053
- ------------------------------------------------------------------------------------------------
Other income:
Fees and service charges 5,852 6,765 4,357
Income from real estate operations, net 633 533 521
Net gain (loss) on sales of:
Loans held for sale 4,090 2,091 763
Investments -- -- 72
Real estate owned (3) 1 83
Other operating income 2,539 1,896 779
- ------------------------------------------------------------------------------------------------
Total other income 13,111 11,286 6,575
- ------------------------------------------------------------------------------------------------
Other expense:
Salaries and employee benefits 22,442 19,571 16,399
Occupancy, net 5,673 5,360 4,917
Data processing 1,482 1,366 1,280
Advertising 3,530 1,806 1,485
Contributions to TierOne Charitable Foundation and others 5,110 50 43
Other operating expense 7,432 6,793 5,405
- ------------------------------------------------------------------------------------------------
Total other expense 45,669 34,946 29,529
- ------------------------------------------------------------------------------------------------
Income before income taxes 23,467 20,303 14,099
Income tax expense 8,501 7,261 5,073
- ------------------------------------------------------------------------------------------------
Net income $ 14,966 $ 13,042 $ 9,026
- ------------------------------------------------------------------------------------------------
Net income per common share, basic and diluted
(fourth quarter, 2002 only) $ 0.10
=======================================================================
See accompanying notes to consolidated financial statements.
(28)
Consolidated Statements of Changes in Shareholders' Equity and
Comprehensive Income
Years ended December 31, 2002, 2001, and 2000
- --------------------------------------------------------------------------------
Unallocated
common stock Accumulated
held by the other com-
Additional Employee Stock prehensive Total
Common paid-in Retained Ownership income shareholders'
(Dollars in thousands) stock capital earnings Plan (loss) equity
===============================================================================================================
Balance at December 31, 1999 $ -- $ -- $ 99,610 $ -- $ (2,711) $ 96,899
- ---------------------------------------------------------------------------------------------------------------
Comprehensive income:
Net income -- -- 9,026 -- -- 9,026
Cumulative effect of the change
in accounting principle for
derivatives and hedging
activities -- -- -- -- (785) (785)
Change in unrealized loss on
available for sale securities,
net of tax and reclassifications -- -- -- -- 2,732 2,732
- ---------------------------------------------------------------------------------------------------------------
Total comprehensive income -- -- 9,026 -- 1,947 10,973
- ---------------------------------------------------------------------------------------------------------------
Balance at December 31, 2000 -- -- 108,636 -- (764) 107,872
- ---------------------------------------------------------------------------------------------------------------
Comprehensive income:
Net income -- -- 13,042 -- -- 13,042
Change in unrealized loss on
available for sale securities,
net of tax and reclassifications -- -- -- -- 841 841
- ---------------------------------------------------------------------------------------------------------------
Total comprehensive income -- -- 13,042 -- 841 13,883
- ---------------------------------------------------------------------------------------------------------------
Balance at December 31, 2001 -- -- 121,678 -- 77 121,755
- ---------------------------------------------------------------------------------------------------------------
Proceeds of stock conversion, net 203 197,919 -- -- -- 198,122
Acquisition of Bank's equity upon
stock conversion -- 134,626 (134,626) -- -- --
Contribution of stock to TierOne
Charitable Foundation 5 4,995 -- -- -- 5,000
Issuance of stock to Employee
Stock Ownership Plan 18 18,042 -- (18,060) -- --
Common stock allocated to
employees in Employee Stock
Ownership Plan -- 159 -- 376 -- 535
Comprehensive income:
Net income -- -- 14,966 -- -- 14,966
Additional minimum pension
liability, net of tax -- -- -- -- (156) (156)
Change in unrealized gain on
available for sale securities,
net of tax and reclassifications -- -- -- -- (326) (326)
- ---------------------------------------------------------------------------------------------------------------
Total comprehensive income -- -- 14,966 -- (482) 14,484
- ---------------------------------------------------------------------------------------------------------------
Balance at December 31, 2002 $ 226 $ 355,741 $ 2,018 $ (17,684) $ (405) $ 339,896
===============================================================================================================
See accompanying notes to consolidated financial statements.
AR02
TierOne Corporation and Subsidiaries
(29)
Consolidated Statements of Cash Flows
Years ended December 31, 2002, 2001, and 2000
- --------------------------------------------------------------------------------
(Dollars in thousands) 2002 2001 2000
================================================================================================================
Reconciliation of net income to net cash provided by operating activities:
Net income $ 14,966 $ 13,042 $ 9,026
Adjustments to reconcile net income to net cash
provided by operating activities:
Net amortization of investment and mortgage-backed securities 309 45 80
Depreciation and amortization 2,193 1,870 1,602
Amortization on loans receivable, net 933 121 300
Deferred income tax benefit (1,332) (109) (308)
Provision for loan losses 4,695 3,997 1,273
Proceeds from sales of loans held for sale 569,675 361,100 60,036
Originations and purchases of loans held for sale (571,454) (369,670) (60,942)
Net (gain) loss on sales of:
Investment securities -- -- (72)
Loans held for sale (4,090) (2,091) (763)
Real estate owned 3 (1) (83)
Premises and equipment (207) 251 5
Contribution of stock to TierOne Charitable Foundation 5,000 -- --
Changes in certain assets and liabilities:
Accrued interest receivable (1,250) 69 (938)
Other assets (5,909) (4,660) (1,160)
Accrued interest payable (1,922) (2,871) 1,652
Accrued expenses and other liabilities (2,267) 13,927 (749)
- ----------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 9,343 15,020 8,959
- ----------------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Purchase of investment securities:
Held to maturity (28) (38) (13)
Available for sale (82,658) (87,808) --
Proceeds from maturities of investment securities available for sale 76,259 116,750 1,250
Proceeds from sale of investment securities available for sale -- -- 61,817
Proceeds from principal repayments of investment securities 35,576 34,822 27,225
Increase in loans receivable (383,526) (259,766) (140,628)
Sale of Federal Home Loan Bank stock 4,713 5,138 2,113
Purchase of Federal Home Loan Bank stock (11,336) (4,814) (6,578)
Additions to premises and equipment (11,270) (2,744) (4,351)
Proceeds from sale of premises and equipment 675 8 23
Proceeds from sale of real estate owned 1,156 1,494 1,143
- ----------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (370,439) (196,958) (57,999)
- ----------------------------------------------------------------------------------------------------------------
(Continued)
(30)
- --------------------------------------------------------------------------------
Consolidated Statements of Cash Flows (continued)
Years ended December 31, 2002, 2001, and 2000
(Dollars in thousands) 2002 2001 2000
====================================================================================================
Cash flows from financing activities:
Net increase in deposits $ 32,638 $ 48,406 $ 41,848
Net increase in advances from borrowers for taxes,
insurance and other escrow funds 13,918 6,328 355
Proceeds from Federal Home Loan Bank long-term
advances and other borrowings 135,000 86,600 70,000
Repayment of Federal Home Loan Bank advances (6,633) (34) (35,033)
Net advances (repayment) on Federal Home Loan Bank
line of credit and short-term advances (13,353) 44,300 (33,000)
Proceeds of stock conversion, net 198,122 -- --
- ----------------------------------------------------------------------------------------------------
Net cash provided by financing activities 359,692 185,600 44,170
- ----------------------------------------------------------------------------------------------------
Net increase (decrease) in cash and cash equivalents (1,404) 3,662 (4,870)
Cash and cash equivalents at beginning of year 34,441 30,779 35,649
- ----------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of year $ 33,037 $ 34,441 $ 30,779
====================================================================================================
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest $ 46,143 $ 60,055 $ 63,887
Income taxes, net of refunds 10,000 6,942 5,470
====================================================================================================
Noncash investing activities:
Transfers from loans to real estate owned and other assets
through foreclosure $ 2,922 $ 945 $ 1,524
====================================================================================================
The Company transferred, on July 1, 2000, certain investment securities with
fair values of approximately $75,000,000 from the held to maturity
portfolio to the available for sale portfolio.
Noncash financing activities:
During 2002, the Company issued 1,806,006 shares of common stock to the
Employee Stock Option Plan (ESOP) and recorded a note receivable
from the ESOP. The note receivable is shown as unallocated common
stock held by the ESOP in the consolidated balance sheet.
See accompanying notes to consolidated financial statements.
AR02
TierOne Corporation and Subsidiaries
(31)
Notes to Consolidated Financial Statements
December 31, 2002, 2001, and 2000
- --------------------------------------------------------------------------------
(1) Summary of Significant Accounting Policies
Organization
TierOne Corporation (Company) is a Wisconsin corporation, incorporated in 2002
for the purpose of becoming the holding company for TierOne Bank, a Federal
savings bank (Bank). On October 1, 2002, TierOne Bank converted from mutual to
stock form of ownership. On the same date, the Company acquired all of the
issued and outstanding capital stock of TierOne Bank with a portion of the
proceeds from the Company's initial public offering.
Basis of Consolidation
The consolidated financial statements include the accounts of the Company, its
wholly owned subsidiary, TierOne Bank, and the Bank's wholly owned subsidiary,
TMS Corporation of the Americas (TMS). TMS is the holding company of TierOne
Investments and Insurance, Inc., a company that administers the sale of
insurance and securities products, and TierOne Reinsurance Company, which
reinsures credit life and disability insurance policies.
Investment Securities
The Company classifies its investment securities portfolio between those
securities the Company intends to hold to maturity and those securities
available for sale.
Securities classified as held to maturity are those securities which the
Company has the ability and positive intent to hold to maturity regardless of
changes in market condition, liquidity needs, or changes in general economic
conditions. These securities are stated at cost, adjusted for amortization of
premiums and accretion of discounts over the period to maturity using the
interest method.
Securities classified as available for sale are those securities that the
Company intends to hold for an indefinite period of time, but not necessarily to
maturity. Any decision to sell a security classified as available for sale would
be based on various factors, including movements in interest rates, changes in
the maturity mix of the Company's assets and liabilities, liquidity needs,
regulatory capital considerations, and other factors. These securities are
carried at fair value, with unrealized gains or losses reported as increases or
decreases in cumulative other comprehensive income, net of the related deferred
tax effect. Realized gains or losses, determined on the basis of the cost of
specific securities sold, are included in earnings. Unrealized losses for
securities classified as held to maturity and available for sale judged to be
other than temporary are charged to operations.
Accounting for Derivatives and Hedging Activities
Effective July 1, 2000, which was previously the beginning of the Company's
fiscal year, the Company adopted Statement of Financial Accounting Standards
(SFAS) No. 133, Accounting for Derivative Instruments and Hedging Activities, as
amended by SFAS No. 138, Accounting for Certain Derivative Instruments and
Certain Hedging Activities, an Amendment of FASB Statement No. 133. This
Statement establishes accounting and reporting standards for derivative
instruments and hedging activities, including certain derivative instruments
embedded in other contracts, and requires that an entity recognize all
derivatives as assets or liabilities in the balance sheet and measure them at
fair value. If certain conditions are met, an entity may elect to designate a
derivative as follows: (a) a hedge of the exposure to changes in the fair value
of a recognized asset or liability or an unrecognized firm commitment, or (b) a
hedge of the exposure to variable cash flows of a forecasted transaction. The
Statement generally provides for matching the timing of the recognition of the
gain or loss on derivatives designated as hedging instruments with the
recognition of the changes in the fair value of the item being hedged. Depending
on the type of hedge, such recognition will be either net income or other
comprehensive income. For a derivative not designated as a hedging instrument,
changes in fair value will be recognized in net income in the period of change.
The adoption of SFAS Nos. 133 and 138 had no effect on the consolidated
financial statements other than as disclosed in the following paragraph.
In accordance with its adoption of SFAS No. 133, on July 1, 2000, the
Company elected to make a one-time transfer of certain investment securities
from the held to maturity portfolio to the available for sale portfolio. The
Company transferred investment securities with a market value of approximately
$75,000,000 which
(32)
- --------------------------------------------------------------------------------
resulted in recording gross unrealized losses of approximately $1,200,000, a
deferred tax asset of approximately $415,000, and cumulative other comprehensive
loss as a component of shareholders' equity of $785,000. The Company had no
significant derivative instruments at December 31, 2002 and 2001.
Loans Receivable
Loans receivable are stated at unpaid principal balances, less the allowance for
loan losses, unearned discounts and premiums, and net deferred loan origination
fees. Interest on loans is credited to income as earned. Interest is not accrued
on loans contractually delinquent three months or more. Premiums or discounts on
purchased loans, loans acquired through merger, and property loans are amortized
into income over the life of the loan using the interest method. Loan
origination fees received in excess of certain direct origination costs are
deferred and amortized into income over the contractual life of the loan using
the interest method or recognized when the loan is sold.
Loans Held for Sale
Upon origination or purchase, the Company's management designates certain loans
receivable as held for sale as management does not intend to hold such loans
through maturity. Loans held for sale consist of one-to-four family residential
real estate loans and are carried at the lower of cost or market value,
determined on an individual loan basis. Gains or losses on such loans are
recognized utilizing the specific identification method.
Provision and Allowance for Loan Losses
A provision for loan losses is charged to income when it is determined by
management to be required based on its analysis. The allowance is maintained at
a level to cover all known and inherent losses in the loan portfolio that are
both probable and reasonable to estimate at each reporting date. Management
reviews the loan portfolio no less frequently than quarterly in order to
identify those inherent losses and to assess the overall collection probability
of the portfolio. Management's review includes a quantitative analysis by loan
category, using historical loss experience, classifying loans pursuant to a
grading system and consideration of a series of qualitative loss factors. The
evaluation process includes, among other things, an analysis of delinquency
trends, nonperforming loan trends, the level of charge-offs and recoveries,
prior loss experience, the type, size and geographic concentration of loans, the
value of collateral securing the loan, the number of loans requiring heightened
management oversight, prevailing local and national economic conditions and loan
loss data of comparable institutions. This evaluation is inherently subjective
as it requires estimates that are susceptible to significant revision as more
information becomes available or as future events change.
The allowance for loan losses is maintained at a level believed, to the
best of management's knowledge, to cover all known and inherent losses in the
portfolio that are both probable and reasonable to estimate at each reporting
date. The allowance for loan losses consists of two elements. The first element
is an allocated allowance established for specific loans identified by the
Company's credit review function that are evaluated individually for impairment
and are considered to be impaired. A loan is considered impaired when, based on
current information and events, it is probable that the Company will be unable
to collect the scheduled payments of principal and interest when due according
to the contractual terms of the loan agreement. Impairment is measured by (i)
the fair value of the collateral if the loan is collateral dependent, (ii) the
present value of expected future cash flows, or (iii) the loan's obtainable
market price. The second element is an estimated allowance established for
losses which are probable and reasonable to estimate on each of the Company's
categories of outstanding loans. While management uses available information to
recognize probable losses on loans inherent in the portfolio, future additions
to the allowance may be necessary based on changes in economic conditions and
other factors. In addition, various regulatory agencies, as an integral part of
their examination process, periodically review the Company's allowance for
losses on loans. 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.
AR02
TierOne Corporation and Subsidiaries
(33)
- --------------------------------------------------------------------------------
Additionally, accrual of interest and amortization of deferred loan fees
on problem loans are excluded from income when, in the opinion of management,
such suspension is warranted. Income is subsequently recognized only to the
extent cash payments are received until, in management's judgment, the
borrower's ability to make periodic interest and principal payments has returned
to normal, in which case the loan is returned to accrual status.
Intangible Assets
On January 1, 2002, the Company adopted SFAS No. 142, Goodwill and Other
Intangible Assets, which requires that goodwill and other intangible assets with
indefinite useful lives no longer be amortized, but instead be tested for
impairment at least annually. The Company has no goodwill or other intangible
assets with indefinite useful lives in its financial statements.
Mortgage Servicing Rights
The right to service loans for others are obtained by the sale of loans sold
servicing retained or by direct purchase of such rights. Servicing assets are
recognized as separate assets when rights are acquired through purchase, or
through the sale of loans classified as held for sale. Capitalized mortgage
servicing rights are reported in other assets and are amortized to other income
in proportion to, and over the period of, the estimated future net servicing
income for the underlying financial assets. These assets are evaluated for
impairment based upon the fair value of the rights as compared to amortized
costs. Impairment is determined by stratifying rights by predominant
characteristics, including interest rates and terms. Fair value is determined
using prices for similar assets with similar characteristics, when available, or
based upon discounted cash flows using market-based assumptions. Impairment is
recognized through a valuation allowance for an individual stratum, to the
extent that fair value is less than the capitalized amount for the stratum. The
amortization expense and valuation adjustment is recorded as a reduction of fees
and service charges in the accompanying consolidated statements of income.
Transfers of Financial Assets
Transfers of financial assets are accounted for as sales, when control over the
assets has been surrendered. Control over transferred assets is deemed to be
surrendered when (1) the assets have been isolated from the Company, (2) the
transferee obtains the right (free of conditions that constrain it from taking
advantage of that right) to pledge or exchange the transferred assets, and (3)
the Company does not maintain effective control over the transferred assets
through an agreement to repurchase them before their maturity. The Company has
not had any significant transactions, arrangements or other relationships with
any special purpose entities.
Estimates
The preparation of consolidated financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the reported
amount of assets and liabilities at the date of the statement of financial
condition, and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from these estimates.
Real Estate Owned
Real estate acquired through foreclosure is considered to be held for sale. It
is initially recorded at estimated fair value (carrying value). Subsequent to
foreclosure, these assets are carried at the lower of carrying value or fair
value, less selling costs. Changes in the valuation allowances for unrealized
gains and losses and income and operating expenses are included in other income
of the current period.
Premises and Equipment
Premises and equipment are stated at cost, less accumulated depreciation and
amortization. The Company's general policy is to capitalize asset purchases
which exceed a certain monetary threshold and whose useful lives exceed one
year. Depreciation and amortization are computed using the straight-line method
over the estimated useful lives of the related assets. Improvements to buildings
are depreciated over their useful lives not to exceed the remaining useful life
of the related building. Leasehold improvements are amortized over the lesser of
their useful lives or the related lease period.
Income Taxes
The Company files a consolidated Federal income tax return on a calendar-year
basis. Deferred income taxes reflect the net tax effects of temporary
differences between the carrying amounts of assets and liabilities
(34)
- --------------------------------------------------------------------------------
for financial reporting purposes and the amounts used for income tax purposes.
Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which 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
Basic earnings per common share (EPS) is computed by dividing net income by the
weighted average number of common shares outstanding for the period. Employee
Stock Ownership Plan (ESOP) shares not committed to be released are not
considered to be outstanding. The basic EPS calculation excludes the dilutive
effect of all common stock equivalents. Diluted EPS reflects the potential
dilution that could occur if securities or other contracts to issue common stock
were exercised or converted into common stock. The Company had no potentially
dilutive common shares at December 31, 2002. Earnings per share are only
computed for the quarter ended December 31, 2002 as no shares were outstanding
before that period.
Comprehensive Income
Comprehensive income consists of net income, net unrealized gains (losses) on
securities and an additional minimum pension liability (in 2002) and is
reported, net of tax, in the consolidated statements of changes in shareholders'
equity and comprehensive income. Increases (decreases) in other comprehensive
income are net of related income taxes (benefit) of ($260,000), $435,000, and
$1,003,000 for the years ended December 31, 2002, 2001, and 2000, respectively.
Reclassification adjustments for realized gross losses included in income, were
($10,000), ($266,000), and ($1,331,000), net of tax benefit of $3,000, $93,000,
and $455,000, respectively for the years ended December 31, 2002, 2001, and
2000, respectively.
Cash and Cash Equivalents
For purposes of the consolidated statement of cash flows, cash and cash
equivalents include cash on hand, federal funds sold, and due from banks.
Reclassifications
Certain prior years amounts have been reclassified to conform to the 2002
presentation.
(2) Industry Segment Information
The Company's activities are considered to be a single industry segment for
financial reporting purposes. The Company is engaged in the business of
commercial and retail banking, investment management, and insurance with
operations conducted through its main office and branches located throughout
Nebraska, southwest Iowa, and northern Kansas. Substantially all income is
derived from a diverse base of commercial, mortgage and retail lending
activities and investments.
(3) Stock Conversion
On October 1, 2002, the Company completed the mutual to stock conversion
(Conversion) of TierOne Bank, and the concurrent issuance in connection
therewith of 22,575,075 shares of company common stock, par value $0.01 per
share, at $10.00 per share resulting in net proceeds of $198,122,000. As an
integral part of the Conversion and in furtherance of the Company's commitment
to the communities that it serves, the Company established a charitable
foundation known as the TierOne Charitable Foundation (Foundation) and
contributed 500,000 shares of common stock to the Foundation on October 1, 2002.
The Foundation will provide funding to support charitable causes and community
development activities which will complement the Company's existing community
activities. In addition, the Company established an Employee Stock Ownership
Plan (ESOP) for the employees of the Company and the Bank which became effective
upon the completion of the Conversion. See note 14 for additional discussion of
the ESOP.
In connection with the Conversion, TierOne Bank established a liquidation
account in an amount equal to its net worth as of March 31, 2002 (the
eligibility record date). The liquidation account will be maintained for the
benefit of eligible account holders and supplemental eligible account holders
who continue to maintain their deposit accounts after the Conversion. The
liquidation account will be reduced annually to the extent that eligible account
holders and supplemental eligible account holders have reduced their qualifying
deposits as of each anniversary date. Subsequent increases will not restore an
eligible account holder's or a supplemental eligible account holder's interest
in the liquidation account. In the event of a complete liquidation, each
eligible account holder and supplemental eligible account holder will be
entitled to receive balances for accounts then held.
AR02
TierOne Corporation and Subsidiaries
(35)
- --------------------------------------------------------------------------------
(4) Investment and Mortgage-Backed Securities
The amortized cost, gross unrealized gains and losses, and fair value of
investment and mortgage-backed securities by major security category at December
31, 2002 and 2001 are as follows:
December 31, 2002
=====================================
Gross unrealized
Amortized ----------------- Fair
(Dollars in thousands) cost Gains Losses value
============================================================================
Held to maturity:
Municipal obligations $ 157 $ -- $ -- $ 157
============================================================================
Available for sale:
U.S. Government agency obligations 2,000 -- -- 2,000
Corporate securities 23,418 16 888 22,546
Mutual funds 6,000 -- -- 6,000
- ----------------------------------------------------------------------------
$31,418 $ 16 $ 888 $30,546
============================================================================
Mortgage-backed securities:
FHLMC 552 9 -- 561
FNMA 13,051 243 -- 13,294
GNMA 12,786 125 -- 12,911
Private CMO's 3,492 111 -- 3,603
- ----------------------------------------------------------------------------
$29,881 $ 488 $-- $30,369
============================================================================
December 31, 2001
=====================================
Gross unrealized
Amortized ----------------- Fair
(Dollars in thousands) cost Gains Losses value
============================================================================
Held to maturity:
Municipal obligations $ 221 $ -- $ -- $ 221
============================================================================
Available for sale:
U.S. Government agency obligations 26,691 -- -- 26,691
Corporate securities 12,214 -- 381 11,833
Mutual funds 6,000 -- -- 6,000
- ----------------------------------------------------------------------------
$44,905 $ -- 381 44,524
============================================================================
Mortgage-backed securities:
FHLMC 828 15 -- 843
FNMA 29,669 280 -- 29,949
GNMA 4,608 142 -- 4,750
FHLMC/FNMA CMO's 3,101 -- 20 3,081
Private CMO's 7,582 91 9 7,664
- ----------------------------------------------------------------------------
$45,788 $ 528 $ 29 $46,287
============================================================================
The amortized cost and estimated fair value of investment securities,
excluding mutual funds and mortgage-backed securities, at December 31, 2002, by
contractual maturity, are shown on the following page. Expected maturities will
differ from the contractual maturities because borrowers may have the right to
call or prepay obligations with or without call or prepayment penalties.
(36)
- --------------------------------------------------------------------------------
December 31, 2002
==========================================
Held to maturity Available for sale
------------------------------------------
Amortized Fair Amortized Fair
(Dollars in thousands) cost value cost value
============================================================================
Within 1 year $ -- -- $ 9,916 $ 9,922
Over 1 year through 5 years -- -- 6,990 7,000
After 5 years through 10 years 157 157 -- --
Over 10 years -- -- 8,512 7,624
- ----------------------------------------------------------------------------
$157 $157 $25,418 $24,546
============================================================================
There were no sales of investment securities held as available for sale
during the years ended December 31, 2002 and 2001. Proceeds from the sale of
investment securities held as available for sale were approximately $61,817,000
for the year ended December 31, 2000, resulting in gross realized gains of
approximately $269,000 and gross realized losses of approximately $197,000.
There were no sales of held to maturity investment securities during the
three years ended December 31, 2002.
At December 31, 2002 and 2001, investment and mortgage-backed securities
with fair values of approximately $7,074,000 and $7,213,000, respectively, were
pledged to secure public deposits.
- --------------------------------------------------------------------------------
(5) Loans Receivable
Loans receivable at December 31, 2002 and 2001 are summarized below:
December 31
==========================
(Dollars in thousands) 2002 2001
===============================================================
One-to-four family $ 573,209 $ 502,502
Commercial real estate and land 398,076 258,277
Multi-family 79,953 74,209
Residential construction 156,322 113,300
Commercial construction 143,020 95,614
Warehouse mortgage lines of credit 236,492 224,067
Commercial business loans 33,375 12,193
Consumer and property
improvement loans 290,242 236,825
- ---------------------------------------------------------------
1,910,689 1,516,987
Less:
Allowance for loan losses (17,108) (13,464)
Deferred loan fees (516) (520)
Unearned premiums and
discounts 4,688 558
Discounts on loans acquired
through merger (174) (270)
Undisbursed portion of loans
in process (123,331) (109,852)
Loans held for sale (8,504) (14,373)
- ---------------------------------------------------------------
$ 1,765,744 $ 1,379,066
===============================================================
At December 31, 2002 and 2001, approximately 60.4% and 51.2%,
respectively, of the loans receivable were secured by properties or made to
individuals located outside the Company's primary market area.
The activity in the allowance for loan losses is summarized below:
Year ended December 31
================================
(Dollars in thousands) 2002 2001 2000
===============================================================
Balance at beginning of year $ 13,464 $ 9,947 $ 8,860
Provision for loan losses 4,695 3,997 1,273
Losses charged off (1,154) (496) (198)
Recoveries 103 16 12
- ---------------------------------------------------------------
Balance at end of year $ 17,108 $ 13,464 $ 9,947
===============================================================
Total nonaccrual and restructured loans aggregated approximately
$5,698,000 and $2,010,000 at December 31, 2002 and 2001, respectively. There
were no material commitments to lend additional funds to these customers at
December 31, 2002 and 2001. Interest income recognized on nonaccrual and
restructured loans totaled $35,000, $174,000, and $14,000 for the periods ended
December 31, 2002, 2001, and 2000, respectively.
Impaired loans, which are included in the balances for nonaccrual and
restructured loans, totaled $4,003,000 (includes one $3.8 million commercial
real estate property loan) and $345,000 at December 31, 2002 and 2001,
respectively. There was an allowance for loan
AR02
TierOne Corporation and Subsidiaries
(37)
- --------------------------------------------------------------------------------
loss of $535,000 specifically allocated to these loans at December 31, 2002
(none at December 31, 2001). Average balances of impaired loans for the periods
ended December 31, 2002, 2001, and 2000 totaled $560,000, $718,000, and
$813,000, respectively. The interest income not recognized on impaired loans was
approximately $147,000, $74,000, and $131,000 in 2002, 2001, and 2000,
respectively.
The Company serviced loans for others amounting to approximately
$730,135,000 and $406,424,000 at December 31, 2002 and 2001, respectively. Loans
serviced for others are not included in the accompanying consolidated balance
sheets. Servicing loans for others consists of collecting mortgage payments,
maintaining escrow accounts, disbursing payments to investors, and foreclosure
processing. In connection with these loans serviced for others, the Bank held
borrowers' escrow balances of approximately $8,295,000 and $4,397,000 at
December 31, 2002 and 2001, respectively.
Loans serviced for others include approximately $294,649,000 and
$188,495,000 of unpaid principal balances of residential real estate loans at
December 31, 2002 and 2001, respectively, for which the Company has maintained a
limited amount of recourse obligation. The maximum total recourse liability for
these loans is contractually limited to approximately $5,911,000 and $5,030,000
at December 31, 2002 and 2001, respectively. The Bank has established a reserve
for this liability, which is based on historical loss experience of the Bank's
loan portfolio, in the amount of approximately $389,000 and $259,000 at December
31, 2002 and 2001, respectively. This reserve is included in accrued expenses
and other liabilities.
(6) Mortgage Servicing Rights
The balance of capitalized mortgage servicing rights, net of valuation
allowances, included in other assets at December 31, 2002 and 2001, was
$6,290,000 and $4,577,000, respectively. The fair values of these rights were
approximately $6,290,000 and $5,069,000, respectively, at such dates. The
following are the key assumptions used in measuring the fair values of
capitalized mortgage servicing rights and the sensitivity of the fair values to
changes in those assumptions:
December 31
=============================
(Dollars in thousands) 2002 2001
=================================================================
Fair value $6,290 $5,069
Prepayment speed 9.20%-74.00% 8.70%-37.80%
Weighted average
prepayment speed 29.90% 14.04%
Fair value with 10%
adverse change $5,894 $4,989
Fair value with 20%
adverse change 5,545 4,910
Discount rate 9.00%-15.00% 10.50%-15.00%
Fair value with 10%
adverse change $6,143 $4,906
Fair value with 20%
adverse change 6,004 4,754
The sensitivity of the fair values is hypothetical and should be used with
caution. As the figures indicate, changes in fair value based on a variation in
assumptions generally cannot be extrapolated because the relationship of the
change in assumption to the change in fair value may not be linear. Also, in the
tables, the effect of a variation in a particular assumption on the fair value
of the capitalized mortgage servicing rights is calculated without changing any
other assumption. In reality, changes in one assumption may result in changes in
another which might magnify or counteract the sensitivities.
The following table summarizes activity in capitalized mortgage servicing
rights, including amortization expense:
Year ended December 31
============================
(Dollars in thousands) 2002 2001 2000
==================================================================
Balance at beginning of period $ 4,577 $ 1,101 $ 656
Mortgage servicing rights
capitalized 6,302 4,830 734
Amortization expense (2,619) (1,004) (289)
Valuation adjustment (1,970) (350) --
- ------------------------------------------------------------------
Balance at end of period $ 6,290 $ 4,577 $1,101
==================================================================
(38)
- --------------------------------------------------------------------------------
The estimated future amortization expense for capitalized mortgage
servicing rights for each of the years ending December 31, 2003 through 2007 is
approximately $1,318,000, $1,387,000, $1,028,000, $706,000 and $531,000,
respectively. The projections of amortization expense are based on existing
asset balances and the existing interest rate environment as of December 31,
2002. What the Company actually experiences in amortization expense in any given
period may be significantly different depending upon changes in mortgage
interest rates and market conditions.
The Company periodically evaluates its capitalized mortgage servicing
rights for impairment. There was a valuation allowance established for
capitalized mortgage servicing rights of $2,320,000 and $350,000 at December 31,
2002 and 2001, respectively. The amortization expense and valuation adjustment
is recorded as a reduction of fees and service charges in the accompanying
consolidated statements of income.
(7) Accrued Interest Receivable
Accrued interest receivable at December 31, 2002 and 2001 is summarized below:
December 31
================
(Dollars in thousands) 2002 2001
==============================================
Loans receivable $8,799 $6,991
Investment securities 285 843
- ----------------------------------------------
$9,084 $7,834
==============================================
(8) Restricted Stock in Federal Home Loan Bank
The Company is a member of the Federal Home Loan Bank (FHLB) system. As a
member, the Company is required to purchase and hold stock in the FHLB of
Topeka. The investment in FHLB stock is carried at cost, which represents
redemption value. The Company was required to hold approximately $21,459,000 and
$14,836,000 of FHLB stock at December 31, 2002 and 2001, respectively. The
investment in FHLB stock is pledged as collateral for advances from FHLB.
(9) Real Estate Owned
Real estate owned at December 31, 2002 and 2001 aggregating $1,939,000 and
$40,000, respectively, is recorded net of a valuation allowance of $7,000 and
$0, respectively. At December 31, 2002, one property in the approximate amount
of $1.4 million is subject to confirmation of the trustee sale by a bankruptcy
court. Real estate owned amounts are included in other assets in the
consolidated balance sheets.
(10) Premises and Equipment
Premises and equipment at December 31, 2002 and 2001 are summarized below:
December 31 Estimated
==================== useful
(Dollars in thousands) 2002 2001 lives
==============================================================
Land $ 4,269 $ 3,827 --
Buildings 26,898 18,154 15-50 years
Leasehold improvements 1,772 1,838 15 years
Furniture, fixtures, and
equipment 6,191 7,547 5-10 years
Computer equipment 3,004 2,860 5 years
Vehicles 285 317 3 years
- ------------------------------------------------
42,419 34,543
Less accumulated
depreciation and
amortization (15,609) (16,342)
- ------------------------------------------------
$ 26,810 18,201
================================================
AR02
TierOne Corporation and Subsidiaries
(39)
- --------------------------------------------------------------------------------
(11) Deposits
Deposits at December 31, 2002 and 2001 are summarized below:
December 31
============================================
2002 2001
--------------------------------------------
Weighted Weighted
average average
(Dollars in thousands) rates Amount rates Amount
===============================================================================
Noninterest-bearing checking 0.00% $ 35,793 0.00% $ 24,454
Passbook 0.80 15,855 1.29 12,988
Interest-bearing checking 1.21 290,237 1.85 227,473
Money market 1.48 270,275 2.09 295,991
---------- ----------
$ 612,160 $ 560,906
---------- ----------
54.23% 51.17%
---------- ----------
Certificate accounts:
1.00% to 2.99% $ 150,715 $ 32,156
3.00% to 4.99% 256,812 304,703
5.00% to 6.99% 109,185 197,923
7.00% and over 8 554
---------- ----------
3.65% 516,720 4.42% 535,336
---------- ----------
45.77% 48.83%
---------- ----------
2.35% $1,128,880 3.12% $1,096,242
========== ==========
100.00% 100.00%
========== ==========
- --------------------------------------------------------------------------------
At December 31, 2002, scheduled maturities of certificate accounts are
shown below:
(Dollars in thousands) Amount Percent
============================================
2003 $336,879 65.20%
2004 60,317 11.67
2005 23,417 4.53
2006 78,383 15.17
2007 17,337 3.36
Thereafter 387 0.07
- --------------------------------------------
$516,720 100.00%
============================================
At December 31, 2002 and 2001, certificate accounts over $100,000
approximated $40,669,000 and $33,212,000, respectively. The deposits of the
Company are insured up to $100,000 by the Federal Deposit Insurance Corporation
and are backed by the full faith and credit of the U.S. Government.
Interest expense, by each category of deposits, for the years ended
December 31, 2002, 2001, and 2000 is as follows:
(Dollars in thousands) 2002 2001 2000
=========================================================
Passbook $ 179 $ 171 $ 189
Interest-bearing checking 4,619 4,750 2,512
Money market 5,533 10,551 15,450
Certificate 20,759 31,685 32,162
- ---------------------------------------------------------
$31,090 $47,157 $50,313
=========================================================
(40)
- --------------------------------------------------------------------------------
(12) Advances from Federal Home Loan Bank and Other Borrowings
At December 31, 2002 and 2001, the Company was indebted on notes as shown below:
Interest December 31
Original rate -------------------
(Dollars in thousands) maturity range 2002 2001
- ---------------------------------------------------------------------------------------------
Permanent fixed-rate notes payable to the FHLB: 2003 5.09-5.20% $ 20,000 $ 20,000
2009 6.83 382 415
Convertible fixed-rate notes payable to the FHLB: 2005 5.81 25,000 25,000
2007 1.64 25,000 --
2009 5.45-5.55 75,000 75,000
2010 5.06-5.36 40,000 40,000
2011 3.96-4.32 60,000 60,000
2012 2.86-3.30 100,000 --
Line of credit with the FHLB 2003 1.47 62,700 76,300
Adjustable-rate note payable to FHLB 2005 1.40 10,000 --
Permanent fixed-rate note payable to Fannie Mae 2003 5.77 -- 6,600
Retail repurchase agreement 2003 1.64 247 --
-------------------
$418,329 $303,315
===================
Weighted average interest rate 3.81% 4.30%
===================
- --------------------------------------------------------------------------------
The convertible fixed-rate notes are convertible to adjustable-rate notes
at the option of the FHLB, with call dates ranging from March 2003 to December
2007. The line of credit with the FHLB expires in November 2003.
Pursuant to blanket collateral agreements with the FHLB, such advances are
secured by the Company's qualifying first mortgage, multi-family, commercial
real estate, second mortgage and residential construction loans with carrying
values totaling approximately $797,000,000 and $485,000,000 at December 31, 2002
and 2001, respectively. Other qualifying collateral can be pledged in the event
additional borrowing capacity is required.
The Company's chairman and chief executive officer was a director of the
Federal Home Loan Bank of Topeka for several terms of office, most recently
ending on December 31, 2001.
(13) Income Taxes
Income tax expense (benefit) for the years ended December 31, 2002, 2001, and
2000 consists of the following components:
(Dollars in thousands) 2002 2001 2000
===============================================================
Federal:
Current $ 9,375 $ 6,954 $ 4,991
Deferred (1,280) (109) (308)
- ---------------------------------------------------------------
8,095 6,845 4,683
- ---------------------------------------------------------------
State:
Current 458 416 390
Deferred (52) -- --
- ---------------------------------------------------------------
406 416 390
- ---------------------------------------------------------------
$ 8,501 $ 7,261 $ 5,073
===============================================================
AR02
TierOne Corporation and Subsidiaries
(41)
- --------------------------------------------------------------------------------
The actual income tax expense differs from the "expected" income tax
expense (computed by applying the statutory 35% Federal tax rate to income
before income tax expense) as shown below:
(Dollars in thousands) 2002 2001 2000
===========================================================
"Expected" income tax
expense $ 8,213 $ 7,106 $ 4,935
Increase (decrease)
resulting from:
State income taxes 264 270 254
Tax-exempt interest
income (11) (5) (6)
Other 35 (110) (110)
- -----------------------------------------------------------
Total income tax
expense $ 8,501 $ 7,261 $ 5,073
===========================================================
Effective tax rate 36.23% 35.80% 36.00%
===========================================================
The significant items comprising the Company's net deferred income tax
asset as of December 31, 2002 and 2001 are shown below:
December 31
==================
(Dollars in thousands) 2002 2001
=============================================================
Deferred tax liabilities:
Net unrealized gains on securities $ -- $ 42
Deferred fees on loans 1,671 1,411
Basis in FHLB stock 2,053 2,191
Fixed asset depreciation 687 331
Servicing asset 2,202 1,602
Other 512 258
- -------------------------------------------------------------
Deferred tax liabilities 7,125 5,835
- -------------------------------------------------------------
Deferred tax assets:
Charitable contribution 692 --
Net unrealized losses on securities 134 --
Loan fees 572 532
Deferred compensation 1,574 1,432
Allowance for loan losses 5,946 4,505
Discounts on purchased loans 57 88
Pension expense 594 428
Vacation expense 322 296
Other 456 267
Additional minimum pension liability 84 --
- -------------------------------------------------------------
Deferred tax assets 10,431 7,548
- -------------------------------------------------------------
Net deferred income tax asset $ 3,306 $1,713
=============================================================
There was no valuation allowance for deferred tax assets considered
necessary at December 31, 2002 and 2001. In assessing the realizability of the
Company's deferred tax assets, management considers whether it is more likely
than not that some portion or all of the deferred tax assets will be realized.
The ultimate realization of deferred tax assets is dependent upon the generation
of future taxable income during the periods in which those temporary differences
become deductible. Management considers the scheduled reversals of deferred tax
liabilities, projected taxable income, carryback opportunities, and tax planning
strategies in making the assessment of the amount of the valuation allowance.
The net deferred tax asset as of December 31, 2002 and 2001 is included in other
assets in the consolidated balance sheets. Income taxes payable as of December
31, 2002 and 2001 were approximately $2,138,000 and $2,299,000, respectively,
and are included in accrued expenses and other liabilities in the consolidated
balance sheets.
The Bank's retained earnings at December 31, 2002 and 2001 include
approximately $7,650,000, for which no Federal income tax liability has been
provided. Such amount represents the bad debt reserves for tax purposes, which
were accumulated in tax years through the year ended December 31, 1987 (the base
year).
These amounts represent allocations of income to bad debt deductions for
tax purposes only. Reductions of the remaining allocated retained earnings for
purposes other than tax bad debt losses will create taxable income, which will
be subject to the then corporate income tax rate.
The Small Business Protection Act (Act), passed by Congress during 1996,
requires that savings and loan associations recapture into taxable income bad
debt reserves, which were accumulated in taxable years after December 31, 1987,
and which exceeded guidelines. The Company's recorded deferred tax liability
provides for approximately $181,000 and $362,000 of income taxes associated with
the recapture of loan loss reserves at December 31, 2002 and 2001, respectively.
(42)
- --------------------------------------------------------------------------------
(14) Employee Benefit Plans
Retirement Plan
The Company has a qualified, noncontributory defined benefit pension plan
covering substantially all full-time employees who are at least 21 years of age
and have completed one year of service (at least 1,000 hours). Generally, the
plan provides for benefits at normal retirement age of 65, or five years after
plan entry date, if later, but employees may elect reduced benefits with early
retirement after completion of 10 years of service and reaching age 60. The
Company's funding policy is to make contributions to a trust as necessary to
provide up to the minimum funding requirements. Information pertaining to the
activity in the plan as of December 31, 2002 and 2001, the most recent actuarial
studies, is as follows:
Years ended
December 31
=====================
(Dollars in thousands) 2002 2001
===========================================================
Change in benefit obligation:
Benefit obligation at beginning
of year $ 16,501 $ 15,094
Service cost 661 602
Interest cost 1,054 999
Actuarial loss 1,077 223
Benefits paid (584) (446)
Curtailment gain (4,497) --
Other -- 29
- -----------------------------------------------------------
Benefit obligation at end of year 14,212 16,501
- -----------------------------------------------------------
Change in plan assets:
Fair value of plan assets at
beginning of year 13,625 15,525
Actual return on plan assets (852) (1,454)
Benefits paid (584) (446)
- -----------------------------------------------------------
Fair value of plan assets at end
of year 12,189 13,625
- -----------------------------------------------------------
Funded status (2,024) (2,876)
Unrecognized net actuarial loss 327 1,808
Unrecognized transition obligation -- 1
Unrecognized prior service cost -- 29
- -----------------------------------------------------------
Accrued pension liability $ (1,697) $ (1,038)
===========================================================
Effective December 31, 2002, there was a plan curtailment resulting in a
freeze of future accrual of benefits under the plan.
At December 31, 2002, the Company recorded an additional liability of
$240,000 and an offsetting charge to shareholders' equity of $156,000, net of
deferred taxes, for the additional minimum pension liability, as required by
SFAS No. 87, Employers' Accounting for Pensions.
The components of net periodic pension cost (benefit) charged to expense
are as follows:
Years ended December 31
==============================
(Dollars in thousands) 2002 2001 2000
===============================================================
Service cost $ 661 $ 602 $ 473
Interest cost 1,054 999 900
Expected return on plan assets (1,100) (1,333) (1,391)
Recognized net actuarial gain 13 -- (155)
Amortization of transition
obligation 2 4 4
Amortization of prior
service cost 2 -- --
Effect of curtailment 27 -- --
- ---------------------------------------------------------------
Net periodic pension
cost (benefit) $ 659 $ 272 $ (169)
===============================================================
For the years ended December 31, 2002, 2001, and 2000, actuarial
assumptions include an assumed discount rate on benefit obligations of 6.25%,
6.50%, and 6.70%, respectively, an expected long-term rate of return on plan
assets of 8.00%, 8.25%, and 8.75%, respectively, and an annual weighted average
rate of compensation increase of 5.73%, 5.73%, and 5.69%, respectively. The
expected long-term rate of return on plan assets is based upon a long-term
interest rate model because the assets of the retirement plan are invested
primarily in equity securities.
Savings Plan
The Company sponsors a defined contribution 401(k) profit sharing plan. At
December 31, 2002 and 2001, the Bank contributed 80% of each participant's
contribution to a maximum of 6% of the participant's eligible salary, as defined
by the plan. Plan expenses, net of forfeitures, for the years ended December 31,
2002, 2001, and 2000 were $650,000, $548,000, and $407,000, respectively, and
are included in salaries and employee benefits in the accompanying consolidated
statements of income. Effective January 1, 2001, the plan was amended to reduce
eligibility requirements from one year to six
AR02
TierOne Corporation and Subsidiaries
(43)
- --------------------------------------------------------------------------------
months of service, reduce vesting term from five years to three years and to
include commission and overtime in eligible compensation.
Employee Stock Ownership Plan
Concurrent with the conversion from mutual to stock ownership, the Company
established an Employee Stock Ownership Plan (ESOP) for the benefit of employees
of the Company and the Bank. The ESOP is a qualifying pension plan under
Internal Revenue Service guidelines which covers all full-time employees who
have completed 1,000 hours of service. Upon formation, the ESOP purchased
1,806,006 shares of common stock issued in the initial public offering with the
proceeds of an $18,060,060 loan from the Company.
The Company accounts for its ESOP in accordance with SOP 93-6.
Accordingly, expense is recognized based on the fair value (average stock price)
of shares scheduled to be released from the ESOP trust. As shares are committed
to be released from collateral, the Company reports compensation expense equal
to the average market price of the shares, and the shares become outstanding for
earnings per share computations. Bank contributions and dividends on the ESOP
shares, both allocated and unallocated, will be used to pay down the loan.
Accordingly, the Company has recorded the obligation with an offsetting amount
of unearned compensation in shareholders' equity in the accompanying December
31, 2002 consolidated balance sheets. Expense related to the ESOP for 2002 was
$536,000. At December 31, 2002, the ESOP held 37,625 shares allocated to
participants and 1,768,381 unallocated to participants and unearned shares on
outstanding debt of $17,778,000. The fair value of the unearned and unallocated
shares was approximately $26,809,000 at December 31, 2002.
Deferred Compensation Agreements
The Company has deferred compensation agreements with certain officers and
directors. These agreements, which include the Supplemental Executive Retirement
Plan, various deferred compensation agreements with officers, and the deferred
compensation program for the directors, generally include certain requirements
such as continued employment for a specified period, availability for consulting
services and agreements not to compete after retirement. These deferred
compensation arrangements, which are partially funded, represent only a promise
to pay amounts in the future and the assets to fund such promises are subject to
the claims of the creditors of the Bank. The expense related to the agreements
was approximately $334,000, $427,000, and $314,000 for the years ended December
31, 2002, 2001, and 2000, respectively. The liability, which is included in
accrued expenses and other liabilities, is as shown in the table as follows:
December 31
===============
(Dollars in thousands) 2002 2001
============================================================
Deferred compensation agreements--officers $ 525 $ 460
Deferred compensation agreements--directors 458 420
Supplemental Executive Retirement Plan 1,631 1,446
- ------------------------------------------------------------
$2,614 $2,326
============================================================
Management Incentive Compensation Plan
The Company has a management incentive compensation plan designed to give
officers and key employees, as determined by the board of directors, an
incentive for effectively operating the Company. This plan provides for payments
equal to a percentage of salaries for meeting certain organizational and
individual performance targets. Expense related to this plan totaled
approximately $1,350,000, $1,135,000, and $505,000 for the years ended December
31, 2002, 2001, and 2000, respectively. The liability for this plan is included
in accrued expenses and other liabilities.
(15) Regulatory Capital Requirements
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
Company'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 assets,
liabilities, and certain off-balance sheet items as calculated under regulatory
accounting practices. The capital amounts and classifications are also subject
to qualitative judgments by the regulators about components, risk weightings,
and other factors.
(44)
- --------------------------------------------------------------------------------
Quantitative measures that have been established by regulation to ensure
capital adequacy require the Bank to maintain minimum capital amounts and ratios
(set forth in the table below). The Bank's primary regulatory agency, the Office
of Thrift Supervision (OTS), requires that the Bank maintain minimum ratios of
tangible capital (as defined in the regulations) of 1.5%, core capital (as
defined) of 3%, and total risk-based capital (as defined) of 8%. Management
believes, as of December 31, 2002, that the Bank meets all capital adequacy
requirements to which it is subject.
As of December 31, 2002 and 2001, the most recent notifications 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 tangible capital, core (leverage) capital, and total (risk-based)
capital ratios as set forth in the table shown below. There are no conditions or
events since the notification that management believes have changed the Bank's
category. The actual capital amounts and ratios as of December 31, 2002 and 2001
are also presented in the table below.
To be well-capitalized
For capital under prompt corrective
Actual adequacy purposes action provisions
=============================================================
(Dollars in thousands) Amount Ratio Amount Ratio Amount Ratio
==============================================================================================================
As of December 31, 2002:
Total capital (to risk-weighted assets) $254,535 15.7% $130,125 8.0% $162,656 10.0%
Tier 1 capital (to adjusted tangible assets) 237,427 12.2 77,725 4.0 97,157 5.0
Tangible capital (to tangible assets) 237,427 12.2 29,147 1.5 N/A N/A
Tier 1 capital (to risk-weighted assets) 237,427 14.6 65,063 4.0 97,594 6.0
As of December 31, 2001:
Total capital (to risk-weighted assets) $133,689 11.0% $ 97,386 8.0% $121,733 10.0%
Tier 1 capital (to adjusted tangible assets) 120,225 7.7 62,762 4.0 78,453 5.0
Tangible capital (to tangible assets) 120,225 7.7 23,536 1.5 N/A N/A
Tier 1 capital (to risk-weighted assets) 120,225 9.9 48,693 4.0 73,040 6.0
Management believes that with respect to the current regulations, the Bank
will continue to meet its minimum capital requirements for the foreseeable
future. However, events beyond the control of the Bank, such as increased
interest rates or a downturn in the economy in areas where the Bank has most of
its loans, could adversely affect future earnings and, consequently, the ability
of the Bank to meets its future minimum capital requirements. The tables below
show a reconciliation between the Bank's capital calculated in accordance with
accounting principles generally accepted in the United States of America (GAAP)
and consolidated Bank regulatory capital amounts as presented in the previous
table.
December 31, 2002
================================
Tangible Core Total
(Dollars in thousands) capital capital capital
=========================================================================================
Bank GAAP capital $238,853 $238,853 $238,853
Plus:
General loan valuation allowance for loan losses -- -- 17,108
Net unrealized loss on available for sale securities 249 249 249
Less:
Investment in subsidiaries 1,047 1,047 1,047
Disallowed mortgage servicing asset 628 628 628
- -----------------------------------------------------------------------------------------
Bank regulatory capital $237,427 $237,427 $254,535
=========================================================================================
AR02
TierOne Corporation and Subsidiaries
(45)
- --------------------------------------------------------------------------------
December 31, 2001
================================
Tangible Core Total
(Dollars in thousands) capital capital capital
=========================================================================================
Bank GAAP capital $121,755 $121,755 $121,755
Plus:
General loan valuation allowance for loan losses -- -- 13,464
Less:
Net unrealized gain on available for sale securities 77 77 77
Investment in subsidiaries 1,025 1,025 1,025
Disallowed mortgaging servicing asset 428 428 428
- -----------------------------------------------------------------------------------------
Bank regulatory capital $120,225 $120,225 $133,689
=========================================================================================
(16) Lease Commitments
At December 31, 2002, 2001, and 2000, the Company was obligated under
noncancelable operating leases for office space and equipment. Certain leases
contain escalation clauses providing for increased rentals based primarily on
increases in real estate taxes or in the average consumer price index. Net rent
expense under operating leases, included in occupancy expense, was approximately
$607,000, $786,000, and $669,000, for the years ended December 31, 2002, 2001,
and 2000, respectively.
The approximate future minimum rental payments projected under the
remaining terms of the leases are as follows for the years ending December 31:
(Dollars in thousands)
================================
2003 $ 584
2004 401
2005 229
2006 159
2007 139
Thereafter 917
- --------------------------------
$2,429
================================
(17) Fair Value of Financial Instruments
The following methods and assumptions were used in estimating fair value
disclosure for financial instruments.
General Assumptions
The Company assumes the book value of short-term financial instruments, defined
as any items that mature or reprice within six months or less, approximate their
fair value. Short-term financial instruments consist of cash and due from banks,
federal funds sold, accrued interest receivable, advances from borrowers for
taxes and insurance, and accrued interest payable.
Investment and Mortgage-Backed Securities
For investment and mortgage-backed securities, fair value equals quoted market
price, if available, or quotations received from securities dealers. If a quoted
market price is not available, fair value is estimated using quoted market
prices for similar securities, adjusted for differences between the quoted
securities and the securities being valued.
Investment in FHLB Stock, Advances from FHLB and Other Borrowings
The fair value of FHLB stock is equivalent to its carrying amount due to it only
being redeemable at par value with the FHLB. The fair value of advances from the
FHLB and other borrowings is the estimated market value of similar advances with
comparable maturities at interest rates currently offered by the FHLB.
Loans Receivable
Fair values are estimated for portfolios of loans with similar financial
characteristics. Loans are segregated by type, such as commercial, business,
mortgage and real estate, consumer, and other. Each loan category is further
segmented into fixed-rate, and adjustable-rate interest terms and by performing
and non-performing categories.
The fair value of performing loans is estimated by discounting the future
contractual cash flows using the current rates at which similar loans would be
made to borrowers with similar credit ratings and for the same remaining
maturities. The allowance for loan losses, as recorded in these consolidated
financial statements, is considered by management to include a reasonable
estimation of the credit and market risk associated with non-performing loans.
(46)
- --------------------------------------------------------------------------------
Deposits
The fair value of noninterest-bearing checking, passbook, interest-bearing
checking, and money market accounts is the amount payable on demand. The fair
value of fixed maturity certificate accounts is based on the discounted value of
contractual cash flows. The discount rate is estimated using the rates currently
offered for deposits of similar remaining maturities.
Commitments to Originate Loans
The fair value of commitments to originate loans is estimated using the fees
currently charged to enter into similar agreements, taking into account the
remaining terms of the agreements and the present creditworthiness of the
counterparties. For fixed-rate loan commitments, fair value also considers the
difference between current levels of interest rates and the committed rates.
The estimated fair values of the Company's financial instruments at
December 31, 2002 and 2001 are presented below. Since the fair value of
commitments to originate loans approximates carrying value, these disclosures
are not included in the table.
December 31
====================================================
2002 2001
----------------------------------------------------
Carrying Fair Carrying Fair
(Dollars in thousands) value value value value
=========================================================================================================
Financial assets:
Cash and due from banks $ 33,037 $ 33,037 $ 24,141 $ 24,141
Federal funds sold -- -- 10,300 10,300
Investment securities 30,703 30,703 44,745 44,745
Mortgage-backed securities 30,369 30,369 46,287 46,287
Loans receivable, net 1,765,744 1,808,929 1,379,066 1,403,665
Loans held for sale 8,504 8,504 14,373 14,373
Accrued interest receivable 9,084 9,084 7,834 7,834
FHLB stock 21,459 21,459 14,836 14,836
Financial liabilities:
Deposits 1,128,880 1,143,363 1,096,242 1,106,040
Advances from FHLB and other borrowings 418,329 443,668 303,315 313,943
Advances from borrowers for taxes, insurance and
other escrow funds 29,453 29,453 15,535 15,535
Accrued interest payable 6,812 6,812 8,734 8,734
- --------------------------------------------------------------------------------
Limitations
The fair value of a financial instrument is the current amount that would be
exchanged between willing parities, other than in a forced liquidation. Fair
value is best determined based upon quoted market prices. However, in many
instances, there are no quoted market prices for the Company's various financial
instruments. In cases where quoted market prices are not available, fair values
are based on estimates using present value or other valuation techniques. Those
techniques are significantly affected by the assumptions used, including the
discount rate and estimates of future cash flows. Accordingly, the fair value
estimates may not be realized in an immediate settlement of the instrument. SFAS
No. 107, Disclosures About Fair Value of Financial Instruments excludes certain
financial instruments and all nonfinancial instruments from its disclosure
requirements. Accordingly, the aggregate fair value amounts presented may not
necessarily represent the underlying fair value of the Company.
(18) Commitments, Contingencies, and Financial Instruments with Off-Balance
Sheet Risk
The consolidated financial statements do not reflect various commitments,
contingencies, and financial instruments with off-balance sheet risk, which
arise in the normal course of business. These commitments, contingencies, and
financial instruments, which represent credit risk, interest rate risk, and
liquidity risk, consist of commitments to extend credit, unsecured lending, and
litigation arising in the normal course of business.
AR02
TierOne Corporation and Subsidiaries
(47)
- --------------------------------------------------------------------------------
At December 31, 2002 and 2001, the Company had commitments to originate
fixed-rate loans of approximately $76,852,000 and $61,617,000, respectively, and
adjustable-rate loans of approximately $30,455,000 and $16,123,000,
respectively. Commitments, which are disbursed subject to certain limitations,
extend over periods of time with the majority of executed commitments disbursed
within a 12-month period. Fixed-rate commitments carried interest rates ranging
from 4.25% to 14.37% and 5.38% to 12.50% at December 31, 2002 and 2001,
respectively.
Commitments to extend credit are agreements to lend to customers as long
as there is no violation of any condition established in the contract.
Commitments generally have fixed expiration dates or other termination clauses
and may require payment of a fee. The Company evaluates each customer's
creditworthiness on a case-by-case basis. The same credit policies are used in
granting lines of credit as for on-balance sheet instruments. At December 31,
2002 and 2001, the Company had commitments to lend to customers' unused consumer
lines of credit of approximately $75,508,000 and $52,093,000, respectively. In
addition, at December 31, 2002 and 2001, the Company had commitments to lend to
customers pursuant to unused commercial lines of credit of approximately
$18,840,000 and $1,921,000, respectively.
At December 31, 2002 and 2001, outstanding commitments to purchase
mortgage loans aggregated approximately $95,492,000 and $36,699,000,
respectively, and commitments to sell mortgage loans aggregated approximately
$115,574,000 and $35,199,000, respectively. These commitments to sell extend
over varying periods of time with the majority being settled within a 60-day
period.
The Company has employment agreements with two key executives. The
employment agreements provide for annual base salaries, participation in
retirement and executive benefit plans, and other fringe benefits applicable to
executive personnel. These employment agreements provide for three-year terms
and are extended daily thereafter.
The Company is party to litigation and claims arising in the normal course
of business. Management, after consultation with legal counsel, believes that
the liabilities, if any, arising from such litigation and claims will not be
material to the Company's consolidated financial position or consolidated
results of operations.
(19) Concentration of Credit Risk
At December 31, 2002 and 2001, the Company had commercial real estate and
construction loans and certain residential construction loans which are
considered by management to be of greater risk of collectibility. These loans
totaled approximately $471,846,000 and $293,892,000 at December 31, 2002 and
2001, respectively.
(20) Condensed Parent Company Financial Statements
The following represents the condensed balance sheet as of December 31, 2002 and
condensed statements of income and cash flows for the period then ended for
TierOne Corporation, the parent company.
Balance Sheet
(Parent Company Only)
December 31, 2002
(Dollars in thousands)
============================================================
Assets
Cash in bank $ 5
Investment in subsidiary bank 238,853
Note receivable from subsidiary bank 98,334
Deferred tax asset 692
Tax benefit receivable 983
Accrued interest receivable 106
Prepaid expenses and other assets 974
- ------------------------------------------------------------
Total assets $ 339,947
============================================================
Liabilities and Shareholders' Equity
Liabilities:
Accrued taxes and other liabilities $ 51
Shareholders' equity:
Common stock 226
Additional paid-in capital 355,741
Retained earnings, substantially restricted 2,018
Unallocated common stock held by the
Employee Stock Ownership Plan (17,684)
Accumulated other comprehensive loss,
net of tax (405)
- ------------------------------------------------------------
Total shareholders' equity 339,896
- ------------------------------------------------------------
Total liabilities and shareholders' equity $ 339,947
============================================================
(48)
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Statement of Income
(Parent Company Only)
Period ended December 31, 2002
(Dollars in thousands)
============================================================================================
Interest income $ 362
Contributions to TierOne Charitable Foundation (5,015)
Other expense (15)
- --------------------------------------------------------------------------------------------
Net loss before income tax benefit and equity in earnings of subsidiary bank (4,668)
Income tax benefit 1,650
- --------------------------------------------------------------------------------------------
Net loss before equity in earnings of subsidiary bank (3,018)
Equity in earnings of subsidiary bank 5,036
- --------------------------------------------------------------------------------------------
Net income $ 2,018
============================================================================================
Statement of Cash Flows
(Parent Company Only)
Period ended December 31, 2002
(Dollars in thousands)
============================================================================================
Reconciliation of net income to net cash provided by operating activities:
Net income $ 2,018
Adjustments to reconcile net income to net cash used in operating activities:
Equity in earnings of subsidiary bank (5,036)
Contribution of stock to TierOne Charitable Foundation 5,000
Increase in deferred income taxes (692)
Changes in certain assets and liabilities:
Tax benefits receivable (983)
Accrued interest receivable (106)
Other assets (974)
Accrued expenses and other liabilities 51
- --------------------------------------------------------------------------------------------
Net cash used in operating activities (722)
- --------------------------------------------------------------------------------------------
Cash from investing activities:
Investment in subsidiary bank (99,061)
Loan to subsidiary bank (98,334)
- --------------------------------------------------------------------------------------------
Net cash used in investing activities (197,395)
- --------------------------------------------------------------------------------------------
Cash flows from financing activities, net proceeds from common stock offering 198,122
- --------------------------------------------------------------------------------------------
Net increase in cash in bank 5
Cash in bank at beginning of period --
- --------------------------------------------------------------------------------------------
Cash in bank at end of period $ 5
============================================================================================
Noncash financing activities:
During 2002, the Company issued 1,806,006 shares of common stock to the
Employee Stock Ownership Plan (ESOP) and recorded a note receivable from
the ESOP. The note receivable is shown as unallocated common stock held by
the ESOP in the balance sheet.
AR02
TierOne Corporation and Subsidiaries
(49)
- --------------------------------------------------------------------------------
(21) Quarterly Financial Information (Unaudited)
Year ended December 31, 2002
========================================
(Dollars in thousands except earnings per share data) First Second Third Fourth
===============================================================================================
Total interest income $24,585 $25,456 $26,542 $28,358
Net interest income 13,506 14,489 15,278 17,447
Provision for loan losses 564 643 1,262 2,226
Net income 4,135 4,403 4,410 2,018
Basic and diluted earnings per share N/A N/A N/A .10
Earnings per share are only presented for the fourth quarter of 2002, as
no capital stock was issued prior to October 1, 2002.
- --------------------------------------------------------------------------------
Independent Auditors' Report
The Board of Directors
TierOne Corporation:
We have audited the accompanying consolidated balance sheets of TierOne
Corporation and subsidiaries as of December 31, 2002 and 2001, and the related
consolidated statements of income, changes in shareholders' equity and
comprehensive income, and cash flows for each of the years in the three-year
period ended December 31, 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 TierOne
Corporation and subsidiaries at December 31, 2002 and 2001 and the results of
their operations and their cash flows for each of the years in the three-year
period ended December 31, 2002, in conformity with accounting principles
generally accepted in the United States of America.
/s/ KPMG LLP
February 14, 2003
Lincoln, Nebraska
(50)
Designed by Curran & Connors, Inc. / www.curran-connors.com
[INSIDE BACK COVER]
TierOne(SM)
Shareholder Information: Corporation
- --------------------------------------------------------------------------------
Directors & Officers
TierOne Corporation
Board of Directors
Gilbert G. Lundstrom
Chairman and Chief Executive Officer
James A. Laphen
President and Chief Operating Officer
Dr. Campbell R. McConnell(1,2)
Professor Emeritus of the
Economics Department,
University of Nebraska-Lincoln
Joyce Person Pocras(1,2)
CPA (inactive) and Retired Internal Auditor, First Federal Lincoln Bank
LaVern F. Roschewski
Retired President/CEO,
First Federal Lincoln Bank
Ann Lindley Spence(1,2)
Retired President,
Spence Title Services, Inc.
(1) Audit Committee
(2) TierOne Bank Compensation Committee
TierOne Bank
Executive Officers
Gilbert G. Lundstrom*
Chairman and Chief Executive Officer
James A. Laphen*
President and Chief Operating Officer
Gale R. Furnas
Executive Vice President
Director of Lending
Roger R. Ludemann
Executive Vice President
Director of Retail Banking
Larry L. Pfeil
Executive Vice President
Director of Administration
Eugene B. Witkowicz*
Executive Vice President
Chief Financial Officer and
Corporate Secretary
*Also an Officer of TierOne Corporation
TierOne Bank
Senior Vice Presidents
Craig E. Champion
Deposit Services Manager
David L. Hartman
Assistant Director of Lending
Paula J. Luther
Human Resources Officer
James R. McLaughlin
Controller
Edward J. Swotek
Strategic Planning Officer
Delmar E. Williams
Chief Credit Officer
Patricia A. Young
Marketing Officer
Shareholder Information
Corporate Headquarters
1235 "N" Street
Lincoln, NE 68508
(402) 475-0521
(402) 435-0427 (Fax)
www.tieronebank.com
Annual Meeting
of Shareholders
The Company's Annual Meeting of Shareholders will be held at 10:00 a.m. Central
Time on Wednesday, April 23, 2003 at the Embassy Suites Hotel, 1040 "P" Street,
Lincoln, Nebraska.
Investor Relations
Edward J. Swotek,
Senior Vice President
Investor Relations Department
(402) 473-6250
InvestorRelations@tieronecorp.com
Information about the Company's financial performance may also be found at
www.tieronebank.com under the "Investor Relations" menu tab.
Stock Transfer Agent & Registrar
American Stock Transfer
& Trust Co.
Shareholder Relations Department
59 Maiden Lane
New York, NY 10038
(800) 937-5449
www.amstock.com
Independent Auditors
KPMG LLP
233 South 13th Street
Suite 1600
Lincoln, NE 68508
Stock Listing
Shares of TierOne Corporation's common stock have been traded on the Nasdaq
National Market(R) since October 2, 2002 under the symbol "TONE" and were listed
with an initial offering price of $10.00 per share.
The table below represents the reported high and low daily closing prices of the
common stock during the period indicated and the closing price on the last day
of trading for the period.
High Low Close
- --------------------------------------------------------------------------------
4Q 2002 $15.25 $13.35 $15.16
As of December 31, 2002, the Company had 22,575,075 shares of common stock
outstanding held by approximately 2,100 shareholders of record which does not
include those persons or entities holding stock in nominee or "street" name
through brokerage firms or others. TierOne Corporation did not declare or pay
any dividends during the aforementioned period.
AR02
TierOne Corporation
[BACK COVER]
The best is yet to come! TierOne(SM)
Corporation
- --------------------------------------------------------------------------------
1235 "N" Street o P.O. Box 83009
Lincoln, NE 68501-3009