SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
---------------------------
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended March 31, 1999 OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number: 0-27062
Horizon Financial Corp.
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(Exact name of registrant as specified in its charter)
Chartered by the State of Washington 91-1695422
- --------------------------------------------- -------------------
(State or other jurisdiction of incorporation (I.R.S. Employer
or organization) Identification No.)
1500 Cornwall Avenue, Bellingham, Washington 98225
- --------------------------------------------- -------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (360) 733-3050
-------------------
Securities registered pursuant to Section 12(b) of the Act: None
----
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $1.00 per share
---------------------------------------
(Title of Class)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. YES X NO
------ -----
Indicate by check mark whether disclosure of delinquent filers pursuant
to Item 405 of Regulation S-K is not contained herein, and will not be
contained, to the best of the registrant's knowledge, in definitive proxy or
other information statements incorporated by reference in Part III of this
Form 10-K or any amendments to this Form 10-K. YES NO X
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The aggregate market value of the voting stock held by nonaffiliates of
the registrant, based on the closing sales price of the registrant's Common
Stock as quoted on the Nasdaq Stock Market under the symbol "HRZB" on June 7,
1999, was $99,722,746 (7,526,245 shares at $13.25 per share). It is assumed
for purposes of this calculation that none of the registrant's officers,
directors and 5% stockholders are affiliates.
DOCUMENTS INCORPORATED BY REFERENCE
1. Portions of the Registrant's Annual Report to Stockholders for the
Fiscal Year Ended March 31, 1999 (Parts I and III).
2. Portions of the Registrant's Proxy Statement for the 1999 Annual
Meeting of Stockholders. (Part III).
<PAGE>
PART I
ITEM 1. BUSINESS
- -----------------
(a) General
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Horizon Financial Corp. ("Horizon Financial" or the "Corporation") was
formed under Washington law on May 22, 1995, and became the holding company
for Horizon Bank, a savings bank ("Horizon Bank" or the "Bank"), effective
October 13, 1995. The Bank was organized in 1922 as a Washington state
chartered mutual savings and loan association and converted to a federal
mutual savings and loan association in 1934. In 1979, the Bank converted to a
Washington state chartered mutual savings bank, the deposits of which are
insured by the Federal Deposit Insurance Corporation ("FDIC"). On August 12,
1986, the Bank converted to a state chartered stock savings bank. The primary
business of the Bank is to acquire funds in the form of savings deposits and
wholesale funds, and to use the funds to make consumer, real estate and
commercial loans in the Bank's primary market area.
The Bank's operations are conducted through 12 full-service office
facilities, located in Whatcom, Skagit and Snohomish counties in Northwest
Washington. The Bank is currently building an additional office in Whatcom
County, located in the Barkley Village area of Bellingham, in the northeast
portion of the city. In addition to serving the growing population in this
area, this office (approximately 15,000 square feet) will serve as an
operation center to support additional growth for the Corporation. Completion
of construction is scheduled for the fourth quarter of 1999. The Bank is also
currently working on plans to build an office at Murphy's Corner near Mill
Creek, which will replace the Bank's current leased location in that area.
During the fiscal year ended March 31, 1999, the Bank relocated its Edmonds
office by purchasing the Dayton Place building at the corner of 5th and Dayton
in downtown Edmonds. The Bank's management continues to research sites for
future development, with emphasis on locations in the growing Snohomish County
markets.
At its March 19, 1998 meeting, the Board of Directors authorized the
repurchase of up to 10% (approximately 747,000 shares) of the Corporation's
outstanding common stock over a 24 month period. During the fiscal year ended
March 31, 1999, the Corporation repurchased 13,900 shares of its common stock,
compared to no repurchases during the prior year. This repurchase plan was
rescinded by the Board of Directors effective January 18, 1999 with the
signing of the definitive agreement to merge with Bellingham Bancorporation,
as discussed below.
As of December 11, 1998, the Bank became a member of the Federal Home
Loan Bank of Seattle. One of the significant benefits of membership include
the ability to supplement the Bank's balance sheet with wholesale funds in
order to meet cyclical funding needs and to assist management in its interest
rate risk management efforts.
Acquisition
- -----------
On June 19, 1999 the Company completed the acquisition of Bellingham
Bancorporation ("Bancorporation") headquartered in Bellingham, Washington.
The acquisition was accomplished in an all stock transaction valued at
approximately $15.5 million, including the assumption of outstanding
Bellingham Bancorporation stock options and warrants. The Company exchanged
2.74 shares of its common stock for each Bancorporation share. In this
regard, Horizon issued approximately 1,129,264 shares of its common stock in
the transaction. The acquisition was accounted for as a pooling of interests.
2
<PAGE>
Selected Financial Data
- ------------------------
The following table sets forth certain information concerning the financial
position of the Bank at and for the dates indicated.
March 31,
----------------------------------------------
1999 1998 1997 1996 1995
------ ---- ---- ---- ----
(In thousands)
Total Assets . . . . . . $602,126 $547,146 $515,341 $488,968 $457,478
Loans Outstanding. . . . 484,545 433,697 399,078 389,651 360,120
Cash and Investment
Securities . . . . . . 101,285 101,499 104,356 87,662 83,782
Deposits . . . . . . . . 481,119 450,125 424,811 402,676 377,703
Borrowings . . . . . . . 19,800 -- -- -- --
Stockholders' Equity . . 89,750 83,895 78,509 79,147 72,685
Number of Full Service
Offices. . . . . . . . 12 12 12 12 11
Interest Income. . . . . 43,203 40,901 38,710 37,082 33,989
Interest Expense . . . . (23,276) (22,235) (20,832) (20,773) (16,948)
Net Interest Income. . . 19,927 18,666 17,878 16,309 17,041
Other Income . . . . . . 1,964 1,691 1,583 1,293 1,220
Non-interest Expense . . (8,407) (7,565) (7,461) (6,685) (7,149)
Provision for Loan Losses. (395) (355) (200) (110) (132)
--------- -------- ------- -------- -------
Income (Loss) Before Taxes . . 13,089 12,437 11,800 10,807 10,980
Federal Income Tax . . . 4,456 4,215 3,997 3,586 3,640
Gain on Sale of
Trust Department. . . . -- -- -- -- 181
--------- -------- ------- -------- --------
Net Income . . . . . . . $ 8,633 $ 8,222 $ 7,803 $ 7,221 $ 7,521
========= ======== ======= ======== ========
Key Operating Ratios
- --------------------
The table below sets forth certain performance ratios of the Bank for the
periods indicated. These ratios are calculated based on month end balances.
At and for the
Year Ended March 31,
---------------------------
1999 1998 1997
---- ---- ----
Return on average assets (net income
divided by average total assets). . . . . 1.50% 1.55% 1.55%
Return on average equity (net income
divided by average equity). . . . . . . . 9.94 10.13 9.90
Dividend payout ratio (dividends declared
per share divided by net income per share) 38.26 74.77 62.50
Equity to assets ratio (average equity
divided by average total assets). . . . . 15.11 15.29 15.70
Interest rate spread (difference between
average yield on interest-earning assets and
average cost of interest bearing liabilities) 2.99 2.94 2.98
Net yield on earning assets (net interest
income as a percentage of average interest
earning assets) . . . . . . . . . . . . . 3.66 3.68 3.72
3
<PAGE>
Yields Earned and Rates Paid
- ----------------------------
The Bank's pre-tax earnings depend primarily on its net interest income,
the difference between the income it receives on its loan portfolio and other
investments and its cost of money, consisting primarily of interest paid on
savings deposits, and other borrowings. Net interest income is affected by
(i) the difference between rates of interest earned on its interest-earning
assets and rates paid on its interest-bearing liabilities ("interest rate
spread") and (ii) the relative amounts of its interest-earning assets and
interest-bearing liabilities. When interest-earning assets approximate or
exceed interest-bearing liabilities, any positive interest rate spread will
generate net interest income. Thrift institutions have traditionally used
interest rate spreads as a measure of net interest income. Another indicator
of an institution's net interest income is its "net yield on interest-earning
assets" which is net interest income divided by average interest earning
assets.
In an effort to make the yields on its loan portfolio and investments more
interest rate sensitive, the Bank has implemented a number of measures, which
are discussed herein under "-- Lending Activities."
4
<PAGE>
<TABLE>
The following table presents at the date and for the periods indicated, the total dollar amount of
interest income and interest expense, as well as the resulting yields earned and rates paid.
At March 31, Year Ended March 31,
--------------- --------------------------------------------------------------------------
1999 1999 1998 1997
--------------- ------------------------ ----------------------- -------------------------
Average Average Average Average
Yield/ Average Yield/ Average Yield/ Average Yield/
Balance Cost Balance Interest Cost Balance Interest Cost Balance Interest Cost
------- ---- ------- -------- ----- ------- -------- ----- ------- -------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-
earning
assets:
Loans
receivable. . .$484,545 8.26% $453,487 $37,450 8.26% $416,557 $35,008 8.40% $403,056 $33,812 8.39%
Investment
securities. . . 29,667 6.03 33,211 2,002 6.03 43,811 2,803 6.40 46,850 2,937 6.27
Mortgage-
backed securi-
ties . . . . . 54,429 6.50 57,721 3,751 6.50 47,158 3,090 6.55 30,834 1,962 6.36
------- ---- ------- ------ ---- ------- ------ ---- ------- ------ ----
Total
interest-
earning assets 568,641 7.94 544,419 43,203 7.94 507,526 40,901 8.06 480,740 38,711 8.05
Interest-
bearing
liabilities:
Deposits . . . 481,119 4.94 461,915 22,776 4.94 439,381 22,235 5.12 410,267 20,832 5.07
Borrowings . . 19,800 5.39 10,050 500 5.39 -- -- - - - --
------- ---- ------- ------ ---- ------- ------ ---- ------- ------ ----
Total
interest-
bearing
liabilities. . 500,919 4.95 471,965 23,276 4.95 439,381 22,235 5.12 410,267 20,832 5.07
------- ---- ------- ------ ---- ------- ------ ---- ------- ------ ----
Net interest
income. . . . . $19,927 $18,666 $17,879
======= ======= =======
Interest rate
spread. . . . . 2.99% 2.94% 2.98%
---- ---- ----
Net yield on
interest-
earning
assets. . . . . 3.66% 3.68% 3.72%
---- ---- ----
Ratio of average
interest-
earning assets
to average
interest-
bearing
liabilities . . 113.76% 115.51% 117.18%
====== ====== ======
5
</TABLE>
<PAGE>
<TABLE>
Rate/Volume Analysis
- --------------------
The table below sets forth certain information regarding changes in interest income and interest expense
for the Bank for the periods indicated. For each category of interest-earning asset and interest-bearing
liability, information is provided on changes attributable to (1) changes in volume (change in volume
multiplied by old rate); (2) changes in rates (change in rate multiplied by old volume); (3) changes to
rate-volume (changes in rate multiplied by the change in volume); and (4) the total changes (the sum of the
prior columns).
Year Ended March 31,
---------------------------------------------------------------------------------
1999 vs. 1998 1998 vs. 1997 1997 vs. 1996
------------------------- ------------------------ ---------------------------
Increase (Decrease) Increase (Decrease) Increase (Decrease)
Due to Due to Due to
------------------------- ------------------------ ---------------------------
Rate/ Rate/ Rate/
Volume Rate Volume Total Volume Rate Volume Total Volume Rate Volume Total
------ ---- ------ ----- ------ ---- ------ ----- ------ ---- ------ -----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest income:
Interest and fees
on loans. . . . . . . $3,070 $(577) $(51) 2,442 $1,154 $ 41 $ 1 $1,196 $2,388 $(671) $(50)$1,667
Investment securities
and other interest-
bearing securities . . (2) (138) 1 (139) 839 132 23 994 71 (671) (1) (38)
------ ---- ---- ------ ----- ---- ----- ------ ------ ----- ----- ----
Total interest-
earning assets $3,068 $(715) $(50) $2,303 $1,993 $173 $ 24 $2,190 $2,459 $(779) $(51)$1,629
====== ===== ===== ====== ====== ==== ===== ====== ===== ====== ==== ======
Interest expense:
Deposit accounts. . . . 1,378 (789) (48) $ 541 $1,183 $208 $ 12 $1,403 $ 835 $(731) $(45)$ 59
Borrowings. . . . . . . -- -- 500 500 - - -- -- -- -- - --
------ ---- --- ------ ----- ---- ----- ------ ------ ----- ----- -----
Total interest-bearing
liabilities. . . . . . $1,378 $(789) $452 $1,041 $1,183 $208 $ 12 $1,403 $ 835 $(731) $(45)$ 59
====== ====== ==== ====== ====== ==== ===== ====== ====== ====== ===== =====
6
</TABLE>
<PAGE>
Lending Activities
- ------------------
GENERAL. The Bank's loan portfolio totaled $484,544,820 at March 31,
1999, representing approximately 80.47% of its total assets. On that date,
77.66% of total outstanding loans consisted of loans secured by mortgages on
single family residential properties, 4.15% of the loans consisted of loans
secured by two-to-four unit residential properties, 4.41% of total outstanding
loans consisted of loans secured by mortgages on over four unit residential
properties, and 10.10% of total outstanding loans consisted of commercial real
estate loans. The balance of the Bank's outstanding loans at that date
consisted of secured consumer loans and loans secured by savings deposits.
The Bank originates both fixed rate and adjustable rate mortgages
("ARMs") secured by residential, business, and commercial real estate, the
majority of which include building improvements.
The Bank has no significant concentration of credit risk other than that
a substantial portion of its loan portfolio is secured by real estate located
in the Bank's primary market area, which the Bank considers to be Whatcom,
Skagit and Snohomish Counties in Washington. This concentration of credit
risk could have a material adverse effect on the Bank's financial condition
and results of operations to the extent there is a material deterioration in
the counties' economic and real estate values.
In order to have the ability to make the yields on its loan portfolio and
investments more interest rate sensitive, the Bank has implemented a number of
measures. Those measures include: (i) adoption of a policy under which the
Bank generally originates long-term, fixed-rate mortgage loans when such loans
are written to specifications promulgated by the Federal Home Loan Mortgage
Corporation ("FHLMC") and qualify for sale in the secondary market, (ii)
origination of ARM loans on residential and commercial properties subject to
market conditions, (iii) origination of construction loans secured by
residential and income producing properties at interest rates subject to
periodic adjustment based upon changes in a nationally recognized money market
index and (iv) increased emphasis on originating 10 and 15 year amortizing
mortgage loans. At March 31, 1999, $218,707,915 (or 45.14%) of the Bank's net
mortgage loans receivable were comprised of loans that were other than
long-term fixed-rate mortgage loans (i.e., loans with maturities greater than
15 years, which historically have been the industry's traditional area of
lending activity).
7
<PAGE>
<TABLE>
LOAN MATURITY. The following table sets forth certain information at March 31, 1999 regarding the
dollar amount of loans maturing in the Bank's portfolio based on their contractual terms to maturity.
Demand loans, loans having no stated schedule of repayments and no stated maturity, and overdrafts are
reported as due in one year or less. Loan balances are net of undisbursed loan proceeds, unearned
discounts, unearned income and allowance for loan losses.
Due After 1 Due After 3 Due After 5
Due During Through 3 Through 5 Through 15 Due Over 15
the Year Ended Years After Years After Years After Years After
March 31, March 31, March 31, March 31, March 31,
2000 1999 1999 1999 1999 Total
-------------- ----------- ----------- ----------- --------- ------
(In thousands)
<S> <C> <C> <C> <C> <C> <C>
Commercial, financial and
agricultural . . . . . . . $1,805 $28,637 $10,051 $ 29,163 $ 37,857 $107,513
Real estate construction . . -- -- -- -- 22,763 22,763
Real estate-mortgage,
installment and other . . . 3,204 5,138 9,695 138,257 197,975 354,269
------ ------- ------- -------- -------- --------
Total . . . . . . . . . $5,009 $33,775 $19,746 $167,420 $258,595 $484,545
====== ======= ======= ======== ======== ========
</TABLE>
<TABLE>
The following table sets forth the dollar amount of all loans due one year after March 31, 1999 which
have fixed interest rates and have floating or adjustable interest rates. Loan balances do not include
undisbursed loan proceeds, unearned discounts, unearned income, and allowance for loan losses.
Fixed
Rates Adjustable Rates Total
----- ---------------- -----
(In thousands)
<S> <C> <C> <C>
Commercial, financial and
agricultural. . . . . . . . . $1,805 $ -- $1,805
Real estate construction . . . -- -- --
Real estate-mortgage, installment
and other . . . . . . . . . . 3,204 -- 3,204
------ ---- ------
Total . . . . . . . . . . $5,009 $ -- $5,009
====== ==== ======
8
</TABLE>
<PAGE>
RESIDENTIAL LOANS. The primary lending activity of the Bank has been the
granting of conventional loans to enable borrowers to purchase existing homes
or construct new homes. The Bank's real estate loan portfolio also includes
loans on two-to-four family dwellings, multi-family housing (over four units),
and loans made to purchase or refinance improved buildings to be used for
residential housing. At March 31, 1999, approximately 81.81% of the Bank's
total loan portfolio consisted of loans secured by residential real estate.
The Bank's lending practices generally limit the maximum loan-to-value
ratio on one-to-four family residential mortgage loans to 97% of the appraised
value as determined by an independent appraiser, with the condition that
private mortgage insurance generally be required on any home loans with
loan-to-value ratios in excess of 80% of the appraised value. The Bank places
this insurance with carriers approved by the FHLMC. The coverage generally
limits the Bank's exposure to 72% of the loan amount. If private mortgage
insurance is required, the borrower pays the premium at loan closing and any
recurring premiums through an escrow reserve account established with the Bank
for such period of time as the Bank requires the insurance coverage to be in
force. Multi-family residential and commercial real estate loans and
unimproved real estate loans generally do not exceed 80% of appraised value.
The Bank presently originates both fixed-rate and ARMs secured by
one-to-four family properties with a loan term not exceeding 30 years. Under
certain conditions, ARM borrowers are allowed to convert beginning on the
first interest rate change date and ending on the fifth interest rate change
date from the date of the loan note. In addition, certain consumer safeguards
are built into the ARM instruments used by the Bank. These safeguards include
limits on annual and lifetime interest rate adjustments. The Bank generally
originates these loans in accordance with guidelines established by the FHLMC.
For the fiscal year ended March 31, 1999, adjustable mortgage loans totalled
$196,000 or .08% of total originations as compared to $140,000 or .09% of
total originations for the year ended March 31, 1998.
CONSTRUCTION LOANS. The Bank also provides construction financing for
single-family dwellings and to a lesser extent makes land acquisition and
development loans on properties intended for residential use. The interest
rate charged by the Bank on these loans varies depending upon the type of
security property and the creditworthiness of the borrower. At March 31,
1999, the Bank had $22,763,297, or 4.70% of total loans outstanding in
construction loans, as compared to $24,883,763 or 5.74% of total loans at
March 31, 1998. At March 31, 1999, $4,730,020, or 20.78% of the construction
loan portfolio consisted of "speculative" construction loans (i.e., loans on
dwellings for which there is not an underlying contract for sales).
Construction lending is generally considered to involve a higher level of
risk as compared to one-to-four family residential permanent lending because
of the inherent difficulty in estimating both a property's value at completion
of the project and the estimated cost of the project. The nature of these
loans is such that they are generally more difficult to evaluate and monitor.
If the estimate of value proves to be inaccurate, the Bank may be confronted
at, or prior to, the maturity of the loan, with a project whose value is
insufficient to assure full repayment. Loans for the construction of
speculative homes carry more risk because the payoff for the loan is dependent
on the builder's ability to sell the property prior to the time that the
construction loan is due.
MULTI-FAMILY, BUSINESS AND COMMERCIAL LOANS. These types of loans
constituted $70,525,228 or approximately 14.55% of Horizon Bank's loan
portfolio at March 31, 1999. These loans include fixed rate and adjustable
rate mortgages secured by apartment buildings (i.e., those containing five or
more living units) and business and commercial properties. The Bank generally
requires that such loans have a debt service coverage of 1.20 to 1 with a
loan-to-value ratio not exceeding 80%. Fixed-rate loans generally have a five
to 15-year loan term, with payments based upon a 15 to 30-year amortization
schedule.
At March 31, 1999, $6,604,572 of loans secured by income-producing
properties have an interest rate which adjusts annually based upon changes in
an index of United States Treasury securities published by the Board of
Governors
9
<PAGE>
of the Federal Reserve System ("Federal Reserve"). The amount of any increase
in the interest rate is generally limited to two percentage points (upward or
downward) each adjustment period, with a limit of six percentage points on the
amount which the interest rate can increase or decrease over the life of the
loan.
Multi-family residential and business and commercial real estate lending
is generally considered to involve a higher degree of risk than permanent
residential one-to-four family lending. Such lending typically involves large
loan balances concentrated in a single borrower or groups of related
borrowers. In addition, the payment experience on loans secured by
income-producing properties is typically dependent on the successful operation
of the related real estate project and thus may be subject to a greater extent
to adverse conditions in the real estate market or in the economy generally.
Horizon Bank generally attempts to mitigate the risks associated with
multi-family commercial and residential real estate lending by, among other
things, lending on collateral located in its market area and generally to
individuals who reside in its market.
CONSUMER LOANS. The Bank makes a variety of loans for consumer purposes.
Included among these are home equity loans, home equity lines of credit, loans
secured by personal property, such as automobiles, boats, and other vehicles,
loans secured by a Horizon Bank's Certificate of Deposit, and loans for mobile
homes located in parks.
Horizon Bank actively markets consumer loans in order to provide a wider
range of financial services to its customers and to achieve shorter terms and
higher interest rates normally typical of such loans. At March 31, 1999, the
Bank held $14,746,801 of consumer loans.
Consumer loans entail greater risk than do residential mortgage loans,
particularly in the case of consumer loans which are unsecured or secured by
rapidly depreciating assets such as automobiles, boats and other vehicles. In
such cases, any repossessed collateral for a defaulted consumer loan may not
provide an adequate source of repayment of the outstanding loan balance as a
result of the greater likelihood of damage, loss or depreciation. The
remaining deficiency often does not warrant further substantial collection
efforts against the borrower beyond obtaining a deficiency judgment. In
addition, consumer loan collections are dependent on the borrower's continuing
financial stability, and thus are more likely to be adversely affected by job
loss, divorce, illness or personal bankruptcy. Furthermore, the application
of various federal and state laws, including federal and state bankruptcy and
insolvency laws, may limit the amount that can be recovered on such loans.
Consumer loans are made based on an evaluation of the borrower's
creditworthiness, including income, other indebtedness, and satisfactory
credit history, and the value of the collateral. Designated managers or Loan
Committee members approve consumer loan requests.
Secured loan amounts typically do not exceed 80% of the value of the
collateral, or 80% of the appraised value of the residence in the case of home
equity loans.
LOAN SOLICITATION AND PROCESSING. The primary sources for loan
originations are attributable to deposit customers, current borrowers, walk-in
customers, and referrals from real estate agents and builders. The Bank does
not currently purchase loans from, or otherwise utilize, mortgage brokers in
the origination of loans.
The Bank accepts completed loan applications from all of its branches.
Processing is substantially centralized in the main office of the Bank.
Detailed information is obtained to determine the creditworthiness of the
borrower and the borrower's ability to repay. The more significant items
appearing on the applications and accompanying material are verified through
the use of written credit reports, financial statements, and confirmations.
After analysis of the loan application, supporting documents and the property
to be pledged as loan security, including an appraisal of the property by
either a staff appraiser or an independent fee appraiser, the application is
forwarded to the Bank's Loan
10
<PAGE>
Committee. Loan approval requires the signatures of two members of the Loan
Committee. The Loan Committee consists of officers of the Bank who are
appointed by the Bank's Board of Directors. The Bank generally requires its
mortgage notes to be co-signed individually by the principals on loans made to
entities other than natural persons. Certain lending personnel have been
given limited loan approval authority by the Board of Directors covering
secondary market quality loans not exceeding 80% to value.
Loan assumption requests of adjustable rate loans are handled by the Bank
in a manner similar to new loan requests. FHLMC standards are generally
applied to each request and full credit underwriting is required. For fixed
rate loans, a sale or transfer of the secured property generally results in
the Bank enforcing its due on transfer rights contained in the mortgage
instrument.
LOAN ORIGINATIONS, PURCHASES AND SALES. Currently, the Bank emphasizes
the origination of intermediate and long-term fixed rate loans on terms and
conditions which will permit them to be sold in the secondary market, while
originating ARM loans and 10, 15 and 20 year fixed-rate loans for its own
portfolio.
In addition to originating loans, Horizon Bank may purchase real estate
loans in the secondary market. The Bank's purchases in the secondary market
depend upon the demand for mortgage credit in the local market area and the
inflow of funds from traditional sources. Loan purchases enable the Bank to
utilize funds more quickly, particularly where sufficient loan demand is not
obtainable locally.
The Bank is a qualified servicer for both FHLMC and Fannie Mae. The
Bank's general practice is to close its fixed-rate, one-to-four family
residential loans on FHLMC loan documents in order to facilitate future sales
to the mortgage corporation as well as to other institutional investors. From
time to time, depending upon interest rates and economic conditions, the Bank
has sold participation interests in loans in order to provide additional funds
for lending, to generate servicing fee income and to decrease the dollar
amount of its intermediate and long-term fixed-rate loans. The sale of loans
in the secondary mortgage market reduces the Bank's interest rate risk and
allows the Bank to continue to make loans during periods when savings flows
decline or funds are otherwise unavailable for lending purposes. In
connection with such sales, the Bank generally retains the servicing of the
loans (i.e., collection of principal and interest payments), for which it
generally receives a fee payable monthly of .25% to .375% per annum of the
unpaid balance of each loan. As of March 31, 1999, the Bank was servicing
loans for others aggregating approximately $163,526,986. All sales of loan
interests by the Bank are made without right of recourse to the Bank by the
buyer of the loan interests in the event of default by the borrower.
LOAN COMMITMENTS. Horizon Bank issues commitments to originate
conventional mortgage loans on existing residential dwellings are made for
periods up to 45 days from the date of loan application and are based upon the
prevailing market rate at the time of application. At March 31, 1999, such
commitments amounted to $16,237,726.
LOAN ORIGINATION AND OTHER FEES. In addition to interest earned on
loans, the Bank receives loan origination fees for originating loans. Loan
origination fees are a percentage of the principal amount of the mortgage loan
which are charged to the borrower at the closing of the loan.
The Bank's loan origination fees are generally 0% to 2.5% on conventional
residential mortgages and 1.0% to 2.0% for commercial real estate loans. The
total amount of deferred loan origination fees and unearned discounts at March
31, 1999 was $7,147,664. Any unamortized loan fees are recognized as income
at the time the loan is sold or paid off.
Income from loan origination and commitment fees varies with the volume
and type of loans and commitments made and purchased and with competitive
conditions in mortgage markets, which in turn responds to the demand for and
availability of money. The Bank experiences an increase in loan fee income
during periods of
11
<PAGE>
low interest rates due to the resulting demand for mortgage loans. The Bank
also receives other fees and income from charges relating to existing loans,
which include late charges, and fees collected in connection with a change in
terms or other loan modifications. These fees and charges have not
constituted a material source of income.
LOAN MODIFICATIONS. The Bank offers a loan modification program to
assist customers who were considering refinancing their home loans. For a fee
the Bank will modify customers' loans under the program. No new principal is
required and only the interest rate and payment amounts are changed. All
other terms and conditions remain the same. In fiscal 1999, the Bank modified
$17,148,381 of real estate loans, compared to $4,515,129 in fiscal 1998.
DELINQUENT LOANS, LOANS IN FORECLOSURE AND FORECLOSED PROPERTY. Real
estate loans are defined as delinquent when any payment of principal and/or
interest is past due. While the Bank generally is able to work out a
satisfactory repayment schedule with a delinquent borrower, the Bank will
undertake foreclosure proceedings if the delinquency is not otherwise resolved
within 90 days. Property acquired by the Bank as a result of foreclosure or
by deed in lieu of foreclosure is classified as "real estate owned" until such
time as it is sold or otherwise disposed of. At March 31, 1999, the Bank had
three loans over 90 days delinquent with a net balance of $332,624.
Management does not anticipate incurring material losses from these loans.
Delinquent loans have been consistently low over the last three fiscal
years due to a strong local economy and strong underwriting. No assurances,
however, can be given as to future delinquency levels and the continued
strength of the local economy.
The following table sets forth information with respect to the Bank's
non-performing assets at the dates indicated.
At March 31,
---------------------------------------
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
Non-accrual loans. . . $ -- $ -- $ -- $ -- $ --
Loans 90 days or more
delinquent and accruing
interest. . . . . . . 332,624 25,345 38,918 -- 1,545
Restructured loans . . -- -- -- -- --
Real estate acquired
through foreclosure . -- -- -- -- --
-------- ------- ------- ----- ------
Total. . . . . . . . $332,624 $25,345 $38,918 $ -- $1,545
======== ======= ======= ===== ======
As a percentage of net
loans . . . . . . . . .07% .006% .010% -- .0004%
As a percentage of total
assets. . . . . . . . .06% .005 .008% -- .0003%
RESERVES FOR LOSSES. The Bank operates under a general loan loss reserve
system. Any differences between the loss reserve and the amount of loss
realized is charged or credited to current income. The provision for loan
losses is maintained at a level sufficient to provide for estimated loan
losses based on evaluating known and inherent risks in the loan portfolio.
These factors include changes in the size and composition of the loan
portfolio, actual loan loss experience, current and anticipated economic
conditions, detailed analysis of individual loans for which full
collectibility may not be assured, and determination of the existence and
realizable value of the collateral and guarantees securing the loans. The
reserve is based upon factors and trends identified by management at the time
financial statements are prepared, but the ultimate recovery of loans is
susceptible to future market factors beyond the Bank's control, which may
result in losses or recoveries differing significantly from those provided for
in the financial statements.
12
<PAGE>
The Bank established an allowance for losses for the year ended March 31,
1999 in the amount of $3,956,150 and $3,611,150 for the year ended March 31,
1998. The Bank's loan loss reserve as of March 31, 1999, is approximately
.82% of total loans receivable.
The following table sets forth an analysis of the Bank's allowance for
loan losses for the periods indicated.
Year Ended March 31,
----------------------------------------------------------
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
Balance at
beginning
of period. . . $3,611,150 $3,406,150 $3,236,150 $3,126,150 $2,994,150
Provision for
loan losses . . 395,000 355,000 200,400 110,000 132,000
Adjustment to
reserves. . . . (50,000) (150,000) (30,400) -- --
---------- ---------- ---------- ---------- ----------
Balance at end
of period . . . $3,956,150 $3,611,150 $3,406,150 $3,236,150 $3,126,150
========== ========== ========== ========== ==========
The following table sets forth the breakdown of the allowance for loan
losses by loan category for the periods indicated.
Year Ended March 31,
------------------------------------------------------
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
Commercial, financial
and agricultural. . . $ 950,000 $ 850,000 $ 800,000 $ 800,000 $ 858,000
Real estate -
mortgage. . 3,006,150 2,761,150 2,606,150 2,436,150 2,268,150
---------- ---------- ---------- ---------- ----------
Total allowance
for loan losses. . $3,956,150 $3,611,150 $3,406,150 $3,236,150 $3,126,150
========== ========== ========== ========== ==========
The Bank had no allowances for real estate acquired through foreclosure
at March 31, 1999, 1998, 1997, 1996 and 1995.
Investment Activities
- ---------------------
Under Washington law, savings banks are permitted to own U.S. government
and government agency obligations, commercial paper, corporate bonds, mutual
fund shares, debt and equity obligations issued by creditworthy entities,
whether traded on public securities exchanges or placed privately for
investment purposes. The Bank holds a diverse portfolio of money market
instruments, United States Treasury obligations, federal agency securities,
common stock, preferred stock and corporate notes.
The FDIC has adopted the Federal Financial Institutions Examination
Council statement of policy on securities activities and accounting
procedures. This policy requires that institutions establish prudent policies
and strategies for securities activities, identify certain securities trading
practices that are unsuitable for an investment portfolio, recommends
procedures for selection of a securities dealer, and limits investment in high
risk mortgage securities and disproportionately large holdings of long-term
zero coupon bonds.
The policy addresses concerns about speculative or other non-investment
activities in the securities investment portfolios of depository institutions.
Speculative securities activities can impair earnings or capital and, in some
cases, may cause the failure of the institution. The policy establishes a
framework for structuring securities activities and clarifies various
accounting issues concerning investment accounts versus trading accounts.
The amortized cost of the above investments at March 31, 1999 was
$21,614,380 compared to a market value of $26,081,374. For further
information concerning the Bank's investment securities portfolio, see Note 3
of the Notes to the Consolidated Financial Statements.
The Bank also invests in mortgage-backed securities. At March 31, 1999,
such securities had an amortized cost of $54,429,126 and a market value of
$55,095,846.
13
<PAGE>
The following table presents the amortized cost of the Bank's investment
securities portfolio and short-term investments. The market value of the
Bank's investment securities portfolio at March 31, 1999 was approximately
$81,177,220. This does not include interest-bearing deposits and cash
equivalents.
At March 31,
--------------------------------
1999 1998 1997
---- ---- ----
(In thousands)
Investment securities:
U.S. Government:
Available for sale . . . $10,814 $20,258 $21,944
Held to maturity . . . . 494 1,485 4,970
------- ------- -------
11,308 21,745 26,914
Asset-backed securities(1):
Available for sale . . . 43,470 33,100 36,512
Held to maturity . . . . 10,959 15,489 19,691
------- ------- ------
54,429 48,589 56,203
Other securities(2):
Available for sale . . . 9,807 9,056 2,065
Held to maturity . . . . 500 500 3,412
------- ------- -------
10,307 9,556 5,477
------- ------- -------
Total investments . . . 76,044 79,890 88,594
Interest bearing deposits and
cash equivalents . . . . 15,833 16,859 14,815
------- ------- -------
$91,877 $96,749 $103,409
======= ======= ========
- ----------------
(1) Consists of mortgage-backed securities and CMO's.
(2) Consists of corporate debt securities and marketable equity securities.
14
<PAGE>
<TABLE>
The following table sets forth the scheduled maturities, amortized cost, market values and average
yields for the Bank's investment securities at March 31, 1999.
At March 31, 1999
------------------------------------------------------------------------------------
One Year One to Five Five to Ten More than
or Less Years Years Ten Years Total Investment Securities
---------- ------------ ----------- ---------- ---------------------------
Amor- Aver- Amor- Aver- Amor- Aver- Amor- Aver- Amor- Mar- Aver-
tized age tized age tized age tized age tized ket rage
Cost Yield Cost Yield Cost Yield Cost Yield Cost Value Yield
----- ----- ----- ----- ----- ----- ----- ----- ----- ------ ------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> C> <C> <C> <C>
U.S. Government,
agency securities,
state and political
subdivisions:
Available for
sale . . . . . . $ 6,446 5.81% $ 4,218 6.10% $ 150 7.00%$ -- --% $10,814 $10,877 5.94%
Held to maturity. 494 5.70 -- -- -- -- -- -- 494 494 5.70
------ ---- ------- ----- -- -- ----- --- -- --- ------ ------ ----
6,940 5.80 4,218 6.10 150 7.00 -- -- 11,308 11,371 5.93
Mortgage-backed
securities:
Available for
sale . . . . . . 903 4.52 4,382 5.72 1,709 6.74 36,475 6.44 43,469 43,887 6.34
Held to maturity. -- -- 881 6.52 7,543 6.38 2,536 7.72 10,960 11,209 6.70
------ ---- ------- ---- ----- ---- ------- ---- ------ ------ ----
903 4.52 5,263 5.85 9,252 6.44 39,011 6.52 54,429 55,096 6.41
Other:
Available for
sale . . . . . . 8,907 6.33 900 6.75 -- -- -- -- 9,807 14,171 6.37
Held to maturity. -- 500 11.53 -- -- -- -- 500 540 11.53
------- ---- ------- ----- ------ ---- ------- ---- ------ ------ -----
8,907 6.33 1,400 8.46 -- -- -- -- 10,307 14,711 6.62
------- ---- ------- ----- ------ ---- ------- ---- ------- ------ -----
Total . . . . . . $16,750 6.01 $10,881 6.28 $9,402 6.45% $39,011 6.52%$76,044 $81,178 6.37%
======= ==== ======= ====== ======= ======= =======
15
</TABLE>
<PAGE>
Savings Activities and Other Sources of Funds
- ---------------------------------------------
GENERAL. Savings accounts and other types of deposits have traditionally
been an important source of the Bank's funds for use in lending and for other
general business purposes. In addition to savings accounts, the Bank derives
funds from loan repayments, loan sales, and other borrowings and operations.
The availability of funds from loan sales is influenced by general interest
rates and other market conditions. Loan repayments are a relatively stable
source of funds while deposit inflows and outflows vary widely and are
influenced by prevailing interest rates and money market conditions.
Borrowings may be used on a short-term basis to compensate for reductions in
deposits or deposit inflows at less than projected levels and may be used on a
longer term basis to support expanded lending activities.
DEPOSITS. Horizon Bank offers several deposit accounts, including
Regular Passbook and Statement Savings Accounts, Checking Accounts, Money
Market with and without Check Access and Certificates of Deposit Accounts with
maturities ranging from 30 days up to 10 years. Certificates of Deposit
account requirements vary according to minimum principal balances, the time
period the funds must remain on deposit and the interest rate determined for
each term and minimum balance.
The following table sets forth certain information concerning the
deposits at the Bank.
Year Ended March 31,
-----------------------------------------------------
1999 1998 1997
---------------- ---------------- ---------------
Weighted Weighted Weighted
Average Average Average Average Average Average
Type Balance Rate Balance Rate Balance Rate
- ---- ------- -------- ------- -------- ------- -------
(Dollars in thousands)
Savings. . . . . $ 32,944 3.09% $ 31,452 3.38% $ 30,164 3.45%
Drafts . . . . . 32,447 1.50 27,624 1.67 25,482 1.68
Money Market . . 57,800 3.83 58,256 3.81 52,334 4.15
Time Deposits. . 338,724 5.64 322,049 5.77 302,287 5.72
-------- ----- -------- ----- -------- -----
Total. . . . . $461,915 4.94% $439,381 5.08% $410,267 5.10%
======== ===== ======== ===== ======== =====
The following table indicates the amount of the Bank's deposits by time
remaining until maturity as of March 31, 1999 of $100,000 or more.
Certificates
Maturity Period of Deposit
--------------- ------------
Three months or less . . . . $10,180,196
Three through six months . . 17,844,974
Six through twelve months. . 26,201,109
Over twelve months . . . . . 31,801,702
-----------
Total. . . . . . . . . . . $86,027,981
===========
The Bank has a number of different programs designed to attract both
short-term and long-term savings of the general public by providing a wide
assortment of accounts and rates. The program includes traditional passbook
accounts; nonnegotiable time deposits with minimum deposits of $100,000 and
terms of 30 days to five years called Jumbo Certificates of Deposit;
nonnegotiable, nontransferable time deposits with minimum deposits of $500 and
terms from 30 days to five years at fixed rates; 12-month to 10-year variable
rate fixed term certificates; Individual Retirement Accounts (IRAs); Qualified
Retirement Plans; transaction accounts such as regular checking; MMDAs with
and without limited check access.
The Bank's practice on early withdrawal penalties is applicable only to
time deposits. Management believes that in periods of rising interest rates
this practice will discourage depositors from making premature withdrawals for
the purpose of reinvesting in higher rate time deposits.
16
<PAGE>
The minimum amount required to open a time deposit varies from $500 to
$100,000, depending on the type of time deposit. Pricing of rates on time
deposits with maturities from 30 days to 10 years are determined periodically
by the Bank, based upon competitive rates and local market rates, national
money market rates, and yields on assets of the same maturity.
The Bank's MMDA currently has a $1,000 minimum deposit and has a tiered
pricing program, with interest rates that vary by account dollar balance -
$2,000, $10,000, $25,000 and higher. This account has no maturity
requirements, no regulatory interest rate ceiling, and limited check writing
privileges. The interest rate on the account is adjusted by the Bank
periodically, based on money market conditions. The Bank currently has a
$10,000 minimum deposit (MMK) money market and has a tiered pricing program,
with interest rates that vary by account dollar balance -- $10,000, $25,000,
$50,000 and higher. This account has no maturity requirements, no regulatory
interest rate ceiling, and no check writing privileges. The interest rates on
the account are adjusted by the Bank periodically or as dictated by money
market conditions.
The large variety of deposit accounts offered by the Bank has increased
the Bank's ability to retain deposits and has allowed it to be competitive in
obtaining new funds, although the threat of disintermediation (the flow of
funds away from the Bank into direct investment vehicles, such as common
stocks and mutual funds) still exists. The ability of the Bank to attract and
retain deposits and the Bank's cost of funds have been, and will continue to
be, significantly affected by capital and money market conditions.
Horizon Bank attempts to control the flow of deposits by pricing its
accounts to remain competitive with other financial institutions in its market
area but does not necessarily seek to match the highest rates paid by
competing institutions.
The senior officers of the Bank meet periodically to determine the
interest rates which the Bank will offer to the general public. Such officers
consider the amount of funds needed by the Bank on both a short-term and
long-term basis, the rates being offered by the Bank's competitors,
alternative sources of funds and the projected level of interest rates in the
future.
The Bank's deposits are obtained primarily from residents of Northwest
Washington. Horizon Bank attracts deposits by offering a wide variety of
services and convenient branch locations and service hours. The Bank has not
solicited brokered deposits and has no present intention to attract such
deposits in the future.
For further information concerning the Bank's savings deposits, reference
is made to Note 9 of the Notes to the Consolidated Financial Statements.
BORROWINGS. In December 1998, the Bank joined the Federal Home Loan Bank
of Seattle providing access to a variety of wholesale funding options. Also,
the Bank's security portfolio provides additional borrowing capacity in the
reverse repurchase markets. At March 31, 1999, the Bank had $19.8 million on
borrowings, compared to no borrowings during the previous two fiscal years.
Access to these wholesale borrowings allows management to meet cyclical
funding needs, and assists in interest rate risk management efforts.
Competition
- -----------
The Bank faces strong competition in its market area in originating loans
and attracting deposits. Competition in originating loans is primarily from
other thrift institutions, commercial banks, mortgage companies, credit unions
and consumer finance companies. The Bank competes for loan originations
primarily through interest rates and loan fees it charges and through the
efficiency and quality of services it provides borrowers. Competition is
affected by, among other things, the general availability of lendable funds,
general and local economic conditions and current interest rate levels.
In attracting deposits, the Bank competes primarily with other thrift
institutions, commercial banks and credit unions. The Bank competes for
customer
17
<PAGE>
deposits principally on the basis of convenience and quality of its banking
services and the investment opportunities that satisfy the requirements of
investors with respect to rate of return, liquidity, risk and other factors.
The primary factors in competing for deposits are interest rates and the
convenience of office locations. In light of the deregulation of interest
rate controls on deposits, the Bank has faced increasing competition for
deposits from commercial banks, other thrift institutions and non-regulated
financial intermediaries.
Personnel
- ---------
At March 31, 1999, Horizon Bank employed 132 full-time and 13 part-time
employees. Horizon Bank employees are not represented by any collective
bargaining agreement. Management of Horizon Bank considers its relations with
its employees to be good.
REGULATION AND SUPERVISION
The Bank
- --------
GENERAL. As a state-chartered, federally insured bank, Horizon Bank is
subject to extensive federal and state regulation. Lending activities and
other investments must comply with various statutory and regulatory
requirements, including prescribed minimum capital standards. Horizon Bank is
regularly examined by the FDIC and the Washington Department of Financial
Institutions, Division of Banks, and files periodic reports concerning the
Bank's activities and financial condition with its regulators. The Bank's
relationship with depositors and borrowers also is regulated to a great extent
by both federal and state law, especially in such matters as the ownership of
savings accounts and the form and content of mortgage documents. The law and
regulations of the State of Washington pertaining to banks and other
corporations apply to the Bank. Among other things, those laws and
regulations govern the Bank's investments and borrowings, loans, payment of
interest and dividends, and establishment and relocation of branch offices.
DEPOSIT INSURANCE. Deposit accounts at the Bank are insured up to
applicable limits by the FDIC under the BIF. As an insurer, the FDIC issues
regulations, conducts examinations, requires the filing of reports and
generally supervises and regulates the operations of state-chartered banks
that are not members of the Federal Reserve System. FDIC approval is required
prior to any merger or consolidation involving state, nonmember banks, or the
establishment or relocation of an office facility thereof. FDIC supervision
and regulation is intended primarily for the protection of depositors and the
FDIC insurance funds.
Pursuant to provisions in the Federal Deposit Insurance Act ("FDI Act"),
all BIF-insured banks must pay semiannual insurance assessments. These
insurance premiums were substantially reduced by the FDIC effective January 1,
1996 as a result of the BIF having reached its designated reserve ratio in
1995. Insurance premiums for BIF insured institutions currently range from 0
to 27 basis points. As a well capitalized bank, Horizon Bank qualified for
the minimum statutory assessment during fiscal 1999. The Bank's assessments
for the year ended March 31, 1999, equalled $54,565.
On September 30, 1996, the Deposit Insurance Fund Act was enacted to
assist depository institutions insured by the Savings Association Insurance
Fund ("SAIF") in meeting its designated reserve ratio. Pursuant to the Act,
the FDIC imposed an assessment on SAIF and BIF insured financial institutions
beginning January 1, 1997, for the purpose of paying interest on the
obligations issued by the Financing Corporation in the 1980's to help fund the
thrift industry cleanup. BIF-assessable deposits will be charged an
assessment at a rate of approximately 0.013% until the earlier of December 31,
1999, or the date upon which the last savings association ceases to exist,
after which time the assessment will be the same for all insured deposits.
Any insured bank which does not operate in accordance with or conform to
FDIC regulations, policies and directives may be sanctioned for
non-compliance. For example, proceedings may be instituted against any
insured bank or any
18
<PAGE>
director, officer, or employee of such bank who engages in unsafe and unsound
practices, including the violation of applicable laws and regulations. The
FDIC has the authority to terminate deposit insurance pursuant to procedures
established for that purpose.
CAPITAL REQUIREMENTS. FDIC regulations recognize two types or tiers of
capital: core ("Tier 1") capital and supplementary ("Tier 2") capital. Tier 1
capital generally includes common stockholders' equity and noncumulative
perpetual preferred stock, less most intangible assets. Tier 2 capital, which
is limited to 100 percent of Tier 1 capital, includes such items as qualifying
general loan loss reserves, cumulative perpetual preferred stock, mandatory
convertible debt, term subordinated debt and limited life preferred stock;
however, the amount of term subordinated debt and intermediate term preferred
stock (original maturity of at least five years but less than 20 years) that
may be included in Tier 2 capital is limited to 50 percent of Tier 1 capital.
The FDIC currently measures an institution's capital using a leverage
limit together with certain risk-based ratios. The FDIC's minimum leverage
capital requirement specifies a minimum ratio of Tier 1 capital to average
total assets. Most banks are required to maintain a minimum leverage ratio of
at least 4% to 5% of total assets. The FDIC retains the right to require a
particular institution to maintain a higher capital level based on an
institution's particular risk profile. The Bank calculated its leverage ratio
to be 14.62% as of March 31, 1999.
FDIC regulations also establish a measure of capital adequacy based on
ratios of qualifying capital to risk-weighted assets. Assets are placed in
one of four categories and given a percentage weight -- 0%, 20%, 50% or 100%
- -- based on the relative risk of that category. In addition, certain
off-balance-sheet items are converted to balance-sheet credit equivalent
amounts, and each amount is then assigned to one of the four categories.
Under the guidelines, the ratio of total capital (Tier 1 capital plus Tier 2
capital) to risk-weighted assets must be at least 8%, and the ratio of Tier 1
capital to risk-weighted assets must be at least 4%. The Bank has calculated
its total risk-based ratio to be 27.50% as of March 31, 1999, and its Tier 1
risk-based capital ratio to be 25.97%. In evaluating the adequacy of a bank's
capital, the FDIC may also consider other factors that may affect a bank's
financial condition. Such factors may include interest rate risk exposure,
liquidity, funding and market risks, the quality and level of earnings,
concentration of credit risk, risks arising from nontraditional activities,
loan and investment quality, the effectiveness of loan and investment
policies, and management's ability to monitor and control financial operating
risks.
Federal statutes establish a supervisory framework based on five capital
categories: well capitalized, adequately capitalized, undercapitalized,
significantly undercapitalized and critically undercapitalized. An
institution's category depends upon where its capital levels are in relation
to relevant capital measure, which include a risk-based capital measure, a
leverage ratio capital measure, and certain other factors. The federal
banking agencies have adopted regulations that implement this statutory
framework. Under these regulations, an institution is treated as well
capitalized if its ratio of total capital to risk-weighted assets is 10% or
more, its ratio of core capital to risk-weighted assets is 6% or more, its
ratio of core capital to adjusted total assets is 5% or more, and it is not
subject to any federal supervisory order or directive to meet a specific
capital level. In order to be adequately capitalized, an institution must
have a total risk-based capital ratio of not less than 8%, a Tier 1 risk-based
capital ratio of not less than 4%, and a leverage ratio of not less than 4%.
Any institution which is neither well capitalized nor adequately capitalized
will be considered undercapitalized.
Undercapitalized institutions are subject to certain prompt corrective
action requirements, regulatory controls and restrictions which become more
extensive as an institution becomes more severely undercapitalized. Failure
by the Bank to comply with applicable capital requirements would, if
unremedied, result in restrictions on its activities and lead to enforcement
actions including, but not limited to, the issuance of a capital directive to
ensure the maintenance of required capital levels. Banking regulators will
take prompt
19
<PAGE>
corrective action with respect to depository institutions that do not meet
minimum capital requirements. Additionally, approval of any regulatory
application filed for their review may be dependent on compliance with capital
requirements.
FEDERAL RESERVE SYSTEM. The Federal Reserve Board requires (under
"Regulation D") that all depository institutions, including savings banks,
maintain reserves on transaction accounts or non-personal time deposits.
These reserves may be in the form of cash or non-interest bearing deposits
with the regional Federal Reserve Bank. NOW accounts and other types of
accounts that permit payments or transfers to third parties fall within the
definition of transaction accounts and are subject to Regulation D reserve
requirements, as are any non-personal time deposits at a savings bank. Under
Regulation D, a bank must establish reserves equal to 0% of the first $4.9
million of net transaction accounts, 3% of the next $41.6 million, and 10%
plus $1.56 million of the remainder. The reserve requirement on non-personal
time deposits with original maturities of less than 1.5 years is 0%. As of
March 31, 1999, the Bank's deposit with the Federal Reserve Bank and vault
cash exceeded the Bank's reserve requirements.
PROMPT CORRECTIVE ACTION. Federal statutes establish a supervisory
framework based on five capital categories: well capitalized, adequately
capitalized, undercapitalized, significantly undercapitalized and critically
undercapitalized. An institution's category depends upon where its capital
levels are in relation to relevant capital measure, which include a risk-based
capital measure, a leverage ratio capital measure, and certain other factors.
The federal banking agencies have adopted regulations that implement this
statutory framework. Under these regulations, an institution is treated as
well capitalized if its ratio of total capital to risk-weighted assets is 10%
or more, its ratio of core capital to risk-weighted assets is 6% or more, its
ratio of core capital to adjusted total assets is 5% or more, and it is not
subject to any federal supervisory order or directive to meet a specific
capital level. In order to be adequately capitalized, an institution must
have a total risk-based capital ratio of not less than 8%, a Tier 1 risk-based
capital ratio of not less than 4%, and a leverage ratio of not less than 4%.
Any institution which is neither well capitalized nor adequately capitalized
will be considered undercapitalized.
Undercapitalized institutions are subject to certain prompt corrective
action requirements, regulatory controls and restrictions which become more
extensive as an institution becomes more severely undercapitalized. Failure
by the Bank to comply with applicable capital requirements would, if
unremedied, result in restrictions on its activities and lead to enforcement
actions, including, but not limited to, the issuance of a capital directive to
ensure the maintenance of required capital levels. Banking regulators will
take prompt corrective action with respect to depository institutions that do
not meet minimum capital requirements. Additionally, approval of any
regulatory application filed for their review may be dependent on compliance
with capital requirements.
The Corporation
- ---------------
GENERAL. The Corporation, as the sole shareholder of the Bank, is a bank
holding company and is registered as such with the Federal Reserve. Bank
holding companies are subject to comprehensive regulation by the Federal
Reserve under the Bank Holding Company Act, as amended (the "BHCA"), and the
regulations of the Federal Reserve. As a bank holding company, the
Corporation is required to file with the Federal Reserve annual reports and
such additional information as the Federal Reserve may require and will be
subject to regular examinations by the Federal Reserve. The Federal Reserve
also has extensive enforcement authority over bank holding companies,
including, among other things, the ability to assess civil money penalties to
issue cease and desist or removal orders and to require that a holding company
divest subsidiaries (including its bank subsidiaries). In general,
enforcement actions may be initiated for violations of law and regulations and
unsafe or unsound practices.
20
<PAGE>
Under the BHCA, a bank holding company must obtain Federal Reserve
approval before: (1) acquiring, directly or indirectly, ownership or control
of any voting shares of another bank or bank holding company if, after such
acquisition, it would own or control more than 5% of such shares (unless it
already owns or controls the majority of such shares); (2) acquiring all or
substantially all of the assets of another bank or bank holding company; or
(3) merging or consolidating with another bank holding company.
The BHCA also prohibits a bank holding company, with certain exceptions,
from acquiring direct or indirect ownership or control of more than 5% of the
voting shares of any company which is not a bank or bank holding company, or
from engaging directly or indirectly in activities other than those of
banking, managing or controlling banks, or providing services for its
subsidiaries. The principal exceptions to these prohibitions involve certain
non-bank activities which, by statute or by Federal Reserve regulation or
order, have been identified as activities closely related to the business of
banking or managing or controlling banks. The list of activities permitted by
the Federal Reserve includes, among other things, operating a savings
institution, mortgage company, finance company, credit card company or
factoring company, performing certain data processing operations; providing
certain investment and financial advice; underwriting and acting as an
insurance agent for certain types of credit-related insurance; leasing
property on a full-payout, non-operating basis; selling money orders,
travelers' checks and United States Savings Bonds; real estate and personal
property appraising; providing tax planning and preparation services; and,
subject to certain limitations, providing securities brokerage services for
customers.
DIVIDENDS. The Federal Reserve has issued a policy statement on the
payment of cash dividends by bank holding companies, which expresses the
Federal Reserve's view that a bank holding company should pay cash dividends
only to the extent that the company's net income for the past year is
sufficient to cover both the cash dividends and a rate of earning retention
that is consistent with the company's capital needs, asset quality and overall
financial condition. The Federal Reserve also indicated that it would be
inappropriate for a company experiencing serious financial problems to borrow
funds to pay dividends. Furthermore, under the prompt corrective action
regulations adopted by the Federal Reserve pursuant to the FDIC Improvement
Act, the Federal Reserve may prohibit a bank holding company from paying any
dividends if the holding company's bank subsidiary is classified as
"undercapitalized."
Bank holding companies, except for certain "well-capitalized" bank
holding companies, are required to give the Federal Reserve prior written
notice of any purchase or redemption of its outstanding equity securities if
the gross consideration for the purchase or redemption, when combined with the
net consideration paid for all such purchases or redemptions during the
preceding 12 months, is equal to 10% or more of their consolidated net worth.
The Federal Reserve may disapprove such a purchase or redemption of it
determines that the proposal would constitute an unsafe or unsound practice or
would violate any law, regulation, Federal Reserve order, or any condition
imposed by, or written agreement with, the Federal Reserve.
CAPITAL REQUIREMENTS. The Federal Reserve has established capital
requirements for bank holding companies that generally parallel the capital
requirements for national banks under the Office of the Comptroller of the
Currency's regulations. Under the Federal Reserve Board's capital guidelines,
the Corporation's levels of consolidated regulatory capital exceed the Federal
Reserve's minimum requirements, as follows:
21
<PAGE>
Amount Percent
------ -------
(Dollars in Thousands)
Tier 1 Capital $86,489 14.62%
Minimum Tier 1 (leverage) requirement 23,663 4.00
------- -------
Excess $62,826 10.62%
======= =======
Risk-based capital $91,560 27.50%
Minimum risk-based capital requirement 26,640 8.00
------- -------
Excess $64,920 19.50%
======= =======
TAXATION
Federal Taxation
- ----------------
GENERAL. The Corporation and the Bank report their consolidated income
on a fiscal year basis using the accrual method of accounting and will be
subject to federal income taxation in the same manner as other corporations
with some exceptions, including particularly the Bank's reserve for bad debts
discussed below. The following discussion of tax matters is intended only as
a summary and does not purport to be a comprehensive description of the tax
rules applicable to the Bank or the Corporation. Reference is made to Note 12
of the Notes to the Consolidated Financial Statements contained in the 1999
Annual Report to Stockholders ("Annual Report") for additional information
concerning the income taxes payable by the Bank.
TAX BAD DEBT RESERVES. Historically, savings institutions such as the
Bank, which met certain definitional tests primarily related to their assets
and the nature of their businesses, were permitted to establish a reserve for
bad debts and to make annual additions to the reserve. These additions may,
within specified formula limits, have been deducted in arriving at the Bank's
taxable income. For purposes of computing the deductible addition to its bad
debt reserve, the Bank's loans are separated into "qualifying real property
loans" (i.e., generally those loans secured by interests in residential real
property) and all other loans ("non-qualifying loans"). The following
formulas were used to compute the bad debt deduction with respect to
qualifying real property loans: (i) actual loss experience or (ii) a
percentage equal to 8% of taxable income. The deduction with respect to
non-qualifying loans was computed under the experience method. Reasonable
additions to the reserve for losses on non- qualifying loans were based upon
actual loss experience and would reduce the current year's addition to the
reserve for losses on qualifying real property loans, unless that addition was
also determined under the experience method. The sum of the additions to each
reserve for each year was the Bank's annual bad debt deduction.
The provisions repealing the current thrift bad debt rules were passed by
Congress as part of "The Small Business Job Protection Act of 1996." The new
rules eliminate the 8% of taxable income method for deducting additions to the
tax bad debt reserves for all financial institutions for tax years beginning
after December 31, 1995. These rules also require that all institutions
recapture all or a portion of their bad debt reserves added since the base
year (last taxable year beginning before January 1, 1988). The Bank has
previously recorded a deferred tax liability equal to the bad debt recapture
and as such the new rules will have no effect on the net income or federal
income tax expense. For taxable years beginning after December 31, 1995, the
Bank's bad debt deduction will be determined under the experience method using
a formula based on actual bad debt experience over a period of years or, if
the Bank is a "large" association (assets in excess of $500 million) on the
basis of net charge-offs during the taxable year. The new rules allow an
institution to suspend bad debt reserve recapture for the 1996 and 1997 tax
years if the institution's lending activity for those years is equal to or
greater than the institution's average mortgage lending activity for the six
taxable years preceding 1996 adjusted for inflation. For this purpose, only
home purchase or home improvement loans are included and the institution can
elect to have the tax years with the highest and lowest lending activity
removed from the average calculation. If an institution
22
<PAGE>
is permitted to postpone the reserve recapture, it must begin its six year
recapture no later than the 1998 tax year. The unrecaptured base year
reserves will not be subject to recapture as long as the institution continues
to carry on the business of banking. In addition, the balance of the pre-1988
bad debt reserves continue to be subject to provisions of present law referred
to below that require recapture in the case of certain excess distributions to
shareholders. Horizon Bank met the residential loan requirement for the
taxable year ending March 31, 1999.
DISTRIBUTIONS. If a stock institution distributes amounts to
stockholders and the distribution is treated as being from its accumulated bad
debt reserves, the distribution will cause the institution to have additional
taxable income. A distribution to stockholder is deemed to have been made
from accumulated bad debt reserves to the extent that (i) the reserves exceed
the amount that would have been accumulated on the basis of actual loss
experience, and (ii) the distribution is a "non-dividend distribution." A
distribution in respect of stock is a non-dividend distribution to the extent
that, for federal income tax purposes, (i) it is redemption of shares, (ii) it
is pursuant to a liquidation or partial liquidation of the institution, or
(iii) in the case of current distribution, together with all other such
distributions during the taxable year, it exceeds the institution's current
and post-1951 accumulated earnings and profits. The amount of additional
taxable income created by a non-dividend distribution is an amount that, when
reduced by tax attributable to it, is equal to the amount of the distribution.
MINIMUM TAX. In addition to regular corporate income tax, corporations
are subject to an alternative minimum tax which generally is equal to 20% of
alternative minimum taxable income (taxable income, increased by tax
preference items and adjusted for certain regular tax items). The preference
items which are generally applicable include an amount equal to 75% of the
amount by which a financial institution's adjusted current earnings (generally
alternative minimum taxable income computed without regard to this preference
and prior to reduction for net operating losses) exceeds its alternative
minimum taxable income without regard to this preference and the excess of the
institution's bad debt deduction over the amount deductible under the
experience method, as discussed below. Alternative minimum tax paid can be
credited against regular tax due in later years.
AUDITS. The Bank has not been audited by the IRS during the past five
years.
Washington Taxation
- -------------------
The Bank is subject to a business and occupation tax which is imposed
under Washington law at the rate of 1.50% of gross receipts; however, interest
received on loans secured by mortgages or deeds of trust on residential
properties is not subject to such tax. The Bank's business and occupation
tax returns were audited in November 1995.
ITEM 2. PROPERTIES
- -------------------
The following table sets forth the location of the Bank's offices, as
well as certain information relating to these offices.
23
<PAGE>
Net Book
Year Value as of Square Leased/
Opened March 31, 1999 Feet Owned
------ -------------- ------ -------
Bellingham Main Office . 1971 $1,505,863 19,179 Owned
1500 Cornwall Avenue
Bellingham, WA 98225
Bellingham/Meridian. . . 1987 818,999 4,650 Owned
4110 Meridian
Bellingham, WA 98226
Ferndale Office. . . . . 1976 431,572 3,692 Owned
Third and Main
Ferndale, WA 98248
Lynden Office. . . . . . 1981 495,471 3,702 Owned
Third and Grover
Lynden, WA 98264
Blaine Office. . . . . . 1976 606,283 3,610 Owned
Fourth & "H" Streets
Blaine, WA 98230
Mount Vernon Office. . . 1976 322,636 3,275 Owned
1503 Riverside Dr.
Mount Vernon, WA 98273
Anacortes Office . . . . 1987 883,528 3,650 Owned
1218 Commercial Avenue
Anacortes, WA 98221
Snohomish Office . . . . 1987 223,011 1,388 Owned
620 2nd Street
Snohomish, WA 98290
Everett Office . . . . . 1991 58,922 1,972 Leased
909 S.E. Everett Mall Way
#E-500
Everett, WA 98208
Burlington Office. . . . 1994 1,226,808 3,980 Owned
1020 S. Burlington Blvd
Burlington, WA 98232
Edmonds Office . . . . . 1994 2,305,678 15,265 Owned
130 Fifth Avenue South
Edmonds, WA 98020
Mill Creek Office. . . . 1995 99,364 1,945 Leased
13416 Bothell Everett Hwy.
Suite 201
Mill Creek, WA 98012
Barkley* . . . . . . . . 1999 902,227* -- Owned
Marysville . . . . . . . 25,000* Under contract
- ----------
*Reflects earnest money deposit, plus construction fees paid to date.
At March 31, 1999, the aggregate book value of the Corporation's premises
and equipment was $9,905,362.
24
<PAGE>
ITEM 3. LEGAL PROCEEDINGS
- --------------------------
Neither the Corporation nor the Bank is engaged in any legal proceedings
of a material nature at the present time. From time to time it is a party to
legal proceedings wherein it enforces its security interest in loans made by
it.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS
- -----------------------------------------------------------
Not applicable.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
- ----------------------------------------------------------
The information contained in the section "Corporate Information -- Stock
Prices and Dividend Information" in the Annual Report is incorporated herein
by reference.
ITEM 6. SELECTED FINANCIAL DATA
- --------------------------------
The information contained in "Item 1 - Business - Selected Financial
Data" in this Form 10-K is incorporated herein by reference.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
- ----------------------------------------------------------
The information required by this item, along with the Corporation's Year
2000 discussion, is incorporated herein by reference to the section captioned
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" in the Annual Report.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
- -------------------------------------------------------------------
The information required by this item is incorporated herein by reference
to the section captioned "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Quantitative and Qualitative
Disclosures About Market Risk" in the Annual Report.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
- ----------------------------------------------------
The financial statements contained in the Annual Report which are listed
under Item 14 herein, are incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
- ---------------------------------------------------------
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
- ------------------------------------------------------------
The information contained under the section captioned "Proposal I -
Election of Directors" and "Compliance with Section 16(a) of the Exchange Act"
in the Registrant's Proxy Statement is incorporated herein by reference.
25
<PAGE>
The executive officers of the Corporation and the Bank are as follows:
Name Age Position
- ---- ----- --------
George W. Gust 69 Chairman of the Board of the Corporation
V. Lawrence Evans 52 Chief Executive Officer and President
of the Corporation; and Chairman of
the Board, Chief Executive Officer
and President of the Bank
Richard P. Jacobson 36 Vice President and Secretary of the
Corporation and Senior Vice
President and Secretary of the Bank
Judy E. Boxx 57 Vice President of the Bank
Jeffrey H. Jansen 41 Vice President of the Bank
Karen A. LePage 58 Vice President of the Corporation and
the Bank
Karla C. Lewis 52 Senior Vice President of the Bank
Merwyn G. Murk 60 Vice President of the Bank
Donald A. Wolf 50 Vice President of the Bank
Kelli J. Holz 30 Vice President of the Corporation
and the Bank
Sandra R. Mathewson 39 Vice President of the Bank
Elizabeth E. Sherry 47 Vice President of the Bank
Carla J. Williams 53 Vice President of the Bank
The following is a description of the principal occupation and employment
of the executive officers of the Corporation and the Bank during at least the
past five years:
GEORGE W. GUST joined the Bank in 1975 and has served as the Chairman of
the Board of Directors of the Corporation since its formation in 1995. Mr.
Gust also served as Chairman of the Bank from August 1984 until July 1997.
Effective May 14, 1990, Mr. Gust resigned as President.
V. LAWRENCE EVANS joined the Bank in 1972 and served as the Bank's
Executive Vice President/Finance from 1983 to May 14, 1990 at which time, Mr.
Evans was appointed President of the Bank. On March 26, 1991, Mr. Evans was
appointed Chief Executive Officer of the Bank and in July 1997, Mr. Evans was
appointed Chairman of the Board of the Bank.
RICHARD P. JACOBSON has worked for the Bank for 12 years and was
appointed Vice President/Finance and Corporate Secretary in December 1994. In
March 1998, Mr. Jacobson was appointed Senior Vice President of the Bank.
JUDY E. BOXX joined Horizon Bank in 1984. She has worked in the Loan
Servicing/Collection Department since 1986. She was appointed Vice President
and Manager of the Loan Servicing Department in December of 1994.
JEFFREY H. JANSEN joined Horizon Bank in 1985 as the manager of the
Bank's Lynden Office. He was appointed Vice President in December of 1994.
KAREN A. LEPAGE has been employed by the Bank since 1958. In December
1985, she was promoted to Vice President. She has been manager of the
Accounting Department since 1977.
26
<PAGE>
KARLA C. LEWIS joined Horizon Bank in 1973. From 1983 to December 1994,
she was the Manager of the Loan Servicing Department. She was appointed Vice
President in June 1987 and is currently the Bank's Chief Lending Officer. In
March 1998, she was appointed Senior Vice President of the Bank.
MERWYN G. MURK joined the Bank in 1969 and has been manager of the
Savings Department since 1972. He was appointed Vice President in October
1977.
DONALD A. WOLF joined Horizon Bank in 1973. He has been the Bank's
Operations manager since October 1984. Mr. Wolf was appointed Vice President
in June 1987.
KELLI J. HOLZ, CPA, joined the Bank in 1988. From 1991 to 1998 she was
the Manager of the Internal Audit Department. In March 1998, she was
appointed Vice President and is currently acting as Controller of the Bank.
SANDRA R. MATHEWSON joined the Bank in 1986. She was appointed Vice
President in March 1998 and is currently the Sales and Service Manager for the
Bank.
ELIZABETH (BETH) E. SHERRY joined the Bank in 1996. She was appointed
Vice President in December 1997 and is currently the Bank's New Accounts
Manager.
CARLA J. WILLIAMS joined the Bank in 1988. She was appointed Vice
President in March 1998 and is currently the Bank's Loan Production Manager.
ITEM 11. EXECUTIVE COMPENSATION
- --------------------------------
Information regarding management compensation and transactions with
management and others is incorporated by reference to the section captioned
"Proposal I - Election of Directors" in the Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
- -----------------------------------------------------------------------
(a) Security Ownership of Certain Beneficial Owners
Information required by this item is incorporated herein by reference to
the section captioned "Voting Securities and Principal Holders Thereof"
in the Proxy Statement.
(b) Security Ownership of Management
Information required by this item is incorporated herein by reference to
the section captioned "Voting Securities and Principal Holders Thereof"
in the Proxy Statement.
(c) Changes in Control
The Corporation is not aware of any arrangements, including any pledge by
any person of securities of the Corporation, the operation of which may
at a subsequent date result in a change in control of the Corporation.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
- --------------------------------------------------------
The information contained under the sections captioned "Voting Securities
and Principal Holders Thereof" in the Proxy Statement is incorporated herein
by reference.
27
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
- ---------------------------------------------------------------------------
(a) (1) Financial Statements
--------------------
Independent Auditor's Report*
Consolidated Statement of Financial
Position, March 31, 1999 and 1998*
Consolidated Statement of Income for the years ended
March 31, 1999, 1998 and 1997*
Consolidated Statement of Stockholders' Equity
for the years ended March 31, 1999, 1998 and 1997*
Consolidated Statement of Cash Flows for the years
ended March 31, 1999 1998 and 1997*
Notes to Consolidated Financial Statements*
-------------------
* Contained in the Annual Report filed as Exhibit 13 hereto and
incorporated herein by reference.
(2) All required financial statement schedules are included in the Notes
to Consolidated Financial Statements.
(b) A Current Report on Form 8-K was filed on January 22, 1998 to report that
Horizon Financial Corp. and Horizon Bank had entered into an Agreement and
Plan of Mergers with Bellingham Bancorp and Bank of Bellingham. The
acquisition was effective as of June 19, 1999.
(c) Exhibits
--------
(3.1) Articles of Incorporation of Horizon Financial, Corp.
(incorporated by reference to Exhibit 3.1 to the Registrant's
Current Report on Form 8-K dated October 13, 1995)
(3.2) Bylaws of Horizon Financial Corp. (incorporated by reference
to Exhibit 3.2 to the Registrant's Current Report on Form 8-K
dated October 13, 1995)
(10.1) Amended and Restated Employment Agreement with V. Lawrence
Evans (incorporated by reference to the Registrant's Annual
Report on Form 10-K for the year ended March 31, 1996)
(10.2) Deferred Compensation Plan (incorporated by reference to the
Registrant's Annual Report on Form 10-K for the year ended
March 31, 1996)
(10.3) 1986 Stock Option and Incentive Plan (incorporated by
reference to Exhibit 99.1 to the Registrant's Registration
Statement on Form S-8 (File No. 33-99780))
(10.4) 1995 Stock Option Plan (incorporated by reference to Exhibit
99.2 to the Registrant's Registration Statement on Form S-8
(File No. 33-99780))
(13) Annual Report to Stockholders
(21) Subsidiaries of the Registrant
(23) Consent of Auditors
(27) Financial Data Schedule
28
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 of the Securities Exchange Act
of 1934, the bank has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized.
HORIZON FINANCIAL CORP.
Date: June 22, 1999 By: /s/ George W. Gust
---------------------------------
George W. Gust
Chairman of the Board
(Duly Authorized Representative)
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
By: /s/George W. Gust By:
--------------------------- ------------------------------
George W. Gust Robert C. Diehl
Director and Chairman of Director
the Board
Date: June 22, 1999 Date: June __, 1999
By: /s/V. Lawrence Evans By: /s/Fred R. Miller
--------------------------- ------------------------------
V. Lawrence Evans Fred R. Miller
Chief Executive Officer Director
and President
Date: June 22, 1999 Date: June 22, 1999
By: /s/ Richard P. Jacobson By: /s/ L.M. Strengholt
--------------------------- -------------------------------
Richard P. Jacobson L. M. Strengholt
Principal Financial Officer Director
Date: June 22, 1999 Date: June 22, 1999
By: /s/Kelli J. Holz By: /s/Frank G. Uhrig
--------------------------- -------------------------------
Kelli J. Holz Frank G. Uhrig
Principal Accounting Officer Director
Date: June 22, 1999 Date: June 22, 1999
By: /s/ Richard D. Haggen By: /s/Gary E. Goodman
--------------------------- -------------------------------
Richard D. Haggen Gary E. Goodman
Director Director
Date: June 22, 1999 Date: June 22, 1999
29
<PAGE>
EXHIBIT 13
ANNUAL REPORT TO STOCKHOLDERS
<PAGE>
HRZB
HORIZON FINANCIAL CORP.
FISCAL 1999 ANNUAL REPORT
<PAGE>
CORPORATE PROFILE
==============================================================================
Horizon Financial Corp. is a financial services holding company based in
Bellingham, Washington. The Corporation's primary subsidiary, Horizon Bank,
operates twelve full-service offices located in Whatcom, Skagit, and Snohomish
counties. Originally founded in 1922 as a savings and loan association,
Horizon converted to a mutual savings bank in 1979, and then converted to a
publicly traded company through an initial public offering in August 1986. The
conversion to the holding company structure occurred in October 1995.
Since the days of its founding, Horizon has focused on providing
exceptional customer service through the delivery of a variety of checking and
savings accounts and by originating consumer, residential and commercial real
estate loans. In January 1999, Horizon signed a definitive agreement to merge
with Bellingham Bancorporation, which operates the Bank of Bellingham, a
commercial banking subsidiary. The merger is expected to close on June 18, at
which time Horizon will incorporate the best of business and personal banking
services in one great community bank. We believe that this combined, full
service structure will allow us to generate better returns for stockholders
and to better serve our customers and the local community.
We invite you to review the enclosed materials and we thank you for your
continued support.
Corporate Profile ................................................ 1
Financial Highlights ............................................. 2
Letter to Stockholders ........................................... 3
Management's
Discussion & Analysis ............................................ 7
Quantitative and Qualitative
Disclosure About Market Risk..................................11 - 12
Consolidated
Financial Statements
Independent
Auditor's Report.................................................. 16
Statements of
Financial Position................................................ 17
Statements of Income ............................................. 18
Statements of
Stockholders' Equity.............................................. 19
Statement of Cash Flows........................................... 20
Notes to Consolidated
Financial Statements..........................................21 - 43
Directors & Officers.............................................. 45
Corporate Information ............................................ 46
Office Locations ................................................. 47
=============================================================================
1
<PAGE>
FINANCIAL HIGHLIGHTS
==============================================================================
Thousands of dollars except common share data
Years Ended March 31 99 98 97 96 95
- ------------------------------------------------------------------------------
Balance sheet data
total amount of
Assets $602,126 $547,146 $515,341 $488,968 $457,478
Loans outstanding 484,545 433,697 399,078 389,651 360,120
Cash and investment
securities 101,285 101,499 104,356 87,662 83,782
Deposits 481,119 450,125 424,811 402,676 377,703
Stockholders' equity 89,750 83,895 78,509 79,147 72,685
- ------------------------------------------------------------------------------
Summary of Operations
Interest income $43,203 $40,901 $38,711 $37,082 $33,989
Interest expense (23,276) (22,235) (20,832) (20,773) (16,948)
Net interest income 19,927 18,666 17,878 16,309 17,041
Other income 1,964 1,691 1,583 1,293 1,220
Non-interest expense(1) (8,802) (7,920) (7,661) (6,795) (7,281)
Income before taxes 13,089 12,437 11,800 10,807 11,255(3)
Income taxes (4,456) (4,215) (3,997) (3,586) (3,734)(3)
Net income $8,633 $8,222 $7,803 $7,221 $7,521
- ------------------------------------------------------------------------------
Per Common Share(2)
Basic earnings $1.15 $1.11 $1.04 $0.96 $1.01
Dividends .44 0.83(5) 0.75(4) 0.32 0.31
Equity 11.95 11.22 10.61 10.46 9.70
Weighted average
shares outstanding 7,491,280 7,435,782 7,478,666 7,535,956 7,460,697
- ------------------------------------------------------------------------------
1 Includes provision for loan losses.
2 Restated for 15% stock dividend declared April 22, 1997; 10% stock dividend
declared June 28, 1994.
3 Includes gain on sale of Trust Department.
4 Includes special cash dividend of $0.35 declared November 21, 1996.
5 Includes special cash dividend of $0.40 declared January 28, 1998.
Bar graphs appear below table as follows:
Assets: Deposits: Loans Receivable:
1995: $457.5 1995: $377.7 1995: $360.1
1996: $489.0 1996: $402.7 1996: $389.7
1997: $515.3 1997: $424.8 1997: $399.1
1998: $547.2 1998: $450.1 1998: $433.7
1999: $602.1 1999: $481.1 1999: $484.5
==============================================================================
2
<PAGE>
LETTER TO STOCKHOLDERS
==============================================================================
[Picture of V. Lawrence Evans
President and Chief Executive Officer
Horizon Financial Corp.]
"Our merger with Bellingham Bancorporation accomplishes several things for
Horizon: it accelerates our entry into commercial banking; it provides us with
an immediate base of commercial customers and products; and it affords us the
experience of a commercial banking team whose business philosophy mirrors our
commitment to service excellence. This merger is the next logical step in
pursuing our goals."
To our stockholders and customers,
Horizon Financial Corp. is pleased to provide you with this report on
your Corporation's performance. In the following pages, you will read about
how fiscal 1999 was another successful year: demand for Horizon's products and
services reached record levels; we added convenient new ways for our customers
and prospects to interact with us; we completed the upgrade of our computer
systems to better prepare ourselves for the future; and now, as we prepare to
close our merger with Bellingham Bancorporation, Horizon prepares to expand
its business in new and exciting ways.
Business was strong.
For the second year in a row, demand for Horizon's products and services
has never been higher. Loan volume grew to a record $258.0 million, up 65
percent from the previous year's record-setting high of $256.0 million. Loan
refinance activity accounted for a large part of the increase in volume, as
many homeowners took advantage of the low interest rate environment.
In Horizon's two primary markets of Whatcom and Skagit County, the
Corporation continues to be one of the leaders in market share - we were the
second highest lender as determined by loan volume. And Horizon's
underwriting quality continues to rank the Corporation as one of the best in
the state - as of March 31, 1999, Horizon had only $373,141 in nonperfomring
loans, or 0.06 percent of assets.
Deposit growth was strong too, increasing $31 million for the year and
illustrating Horizon's ability to attract deposits in a highly competitive
environment. Customers continue to be attracted to Horizon's "un-big"
approach to banking, where service excellence, personal attention and low fees
stand in stark contract with Horizon's larger competitors.
We are pleased to report that Horizon also made progress on its longer-
term goal of using its capital more profitably. By growing its balance sheet
with long-term borrowings, Horizon was able to lock in a low-cost source of
funds and increase its assets faster than if it had
==============================================================================
3
<PAGE>
LETTER TO STOCKHOLDERS
==============================================================================
[Picture of Jack D. Daughters appears on right hand side of page
President
Bellingham Bancorporation]
"The word 'synergy' is often overused when it comes to mergers. I prefer to
think of this as an opportunity for both organizations to combine their forces
and create a higher level of value than either would achieve on their own. It
truly is the best of business and personal services in one great community
bank."
relied on the growth of its traditional retail deposits alone. As of March
31, Horizon had $19.8 million in borrowings and, as opportunities present
themselves, Horizon intends to continue to utilize borrowings to obtain low-
cost funds and further enhance profitability.
Net income for the year increased to $8.6 million and the Corporation's
net interest margin continues, at 3.66 percent, to be a solid measure of
Horizon's profitability. These were challenging accomplishments during a year
of relatively flat interest rates and increased competition. But at the same
time, Horizon succeeded in completing several of its major strategic
initiatives and we are well positioned for the year ahead.
Tools for better business.
One of the strategic initiatives Horizon completed during the year was
the upgrade of its computer system. This involved replacing nearly every
personal computer in the Corporation with higher speed components and
increased capacity, and installing a wide-area network that connects all of
Horizon's offices. At the same time, the Corporation upgraded its teller and
new accounts areas to a platform automation system. These improvements will
allow us to better serve our customers, increase communication between
offices, and provide a solid foundation from which future technology and
enhancements may be launched.
Another benefit of the computer system upgrade is that it
[Bar graph for Loan Volume appears at bottom of page]
Loan Volume
95 - 64.1
96 - 95.6
97 - 110.2
98 - 161.1
99 - 257.6
==============================================================================
4
<PAGE>
LETTER TO STOCKHOLDERS
==============================================================================
[Picture of Karla C. Lewis
Senior Vice President
Real Estate Lending, Horizon Bank]
"Helping a customer buy their home is a very personal transaction. Horizon
has been helping people with home loans since 1922 and we are committed to
providing a high level of service. Now we have the opportunity to bring this
same level of service to business banking. I think business customers will
enjoy it."
represents a significant step toward Year 2000 readiness. We are pleased to
report that we have completed testing of our most critical internal systems
and the systems of our data processor. These tests indicate that we are well
prepared for the new millennium. We feel confident of our ability to serve
our customers now and on January 3, 2000, and beyond.
Improving service to our customers now and into the new century was the
focus of other key efforts during the year. In addition to its new computer
system, Horizon deployed additional cash machines (ATMs) throughout its office
network. We also upgraded to a new, more capable phone system, expanded the
capacity of our 24-hour telephone banking system, and expanded our web site
and Internet email capabilities. Customers may now communicate with Horizon
in any number of ways and obtain access to cash and account information with
more ease and convenience.
We are also pleased to update you on our progress to expand our office
locations. In March 1999, we relocated our Edmonds office to new, larger
facilities in downtown Edmonds. The new office held its grand opening
celebration during April and we are happy to report that many new account
relationships have already been established. In addition, construction is
under way on our new Barkley office, at the corner of Barkley and Woburn, in
Bellingham. This new office should be completed in the Fall and will serve a
growing area of Whatcom County. We are also pleased to announce that Horizon
recently entered into an agreement to purchase land for a new office in the
Murphy's Corner area of Mill Creek in Snohomish County. Architectural plans
are in progress and construction should begin in the Summer.
The un-big bank just got better.
The most exciting development of fiscal 1999 was the announcement of our
intent to merge with Bellingham Bancorporation. This transaction is expected
to close on June 18,
==============================================================================
5
<PAGE>
LETTER TO STOCKHOLDERS
==============================================================================
[Picture of Elizabeth E. (Beth) Sherry appears on right hand side of page
Vice President
New Accounts, Horizon Bank]
"I came to Horizon from a much larger bank and I can honestly say that we
provide a higher level of service. We're called 'the un-big bank' for a
reason, and I don't think it has as much to do with our size. It's more about
how we relate to our customers. I think the business community will recognize
this. And I know they're going to like it."
1999. Not only will the merger provide three more offices for Horizon Bank in
Whatcom County and further expand our market share but also, Horizon will
become a truly full-service bank, offering the best of business and personal
banking in one great community bank.
The merger will also help Horizon accomplish one of its other long-term
goals - to diversify its business and provide commercial products and
services. Bellingham Bancorporation, and its subsidiary, the Bank of
Bellingham, provide a complete commercial product line and ready base of
commercial customers. Horizon's ability to deliver these products to its
existing three-county market holds great potential.
Last, but most important, the merger with Bellingham Bancorporation
provides Horizon with one more element that will help it achieve its goals:
experienced people. The employees of the Bank of Bellingham have many years
of commercial banking service. Combined with Horizon's experience in real
estate, consumer, and retail products, this merger will create a combined
institution that is better able to serve the needs of its customers and the
local community.
Looking ahead.
Fiscal 1999 was a challenging year. Punctuated by record demand for
Horizon's products and services, a flat interest rate environment, completion
of several strategic initiatives and the beginning of a whole new way of doing
business, we are very proud of the results and efforts of our employees. As
we look ahead to the new banking millennium, I cannot help but feel that we
are well prepared for what lies ahead.
We look forward to our Annual Meeting of Stockholders on July 27, and we
thank you for your continued support.
V. Lawrence Evans
President and Chief Executive Officer
George W. Gust
Chairman of the Board
==============================================================================
6
<PAGE>
Management's Discussion & Analysis
==============================================================================
General
Horizon Financial Corp. was formed under Washington law on May 22, 1995,
and became the holding company for Horizon Bank, effective October 13, 1995.
The Bank was organized in 1922 as a Washington state chartered mutual savings
and loan association and converted to a federal mutual savings and loan
association in 1934. In 1979, the Bank converted to a Washington state
chartered mutual savings bank, the deposits of which are insured by the
Federal Deposit Insurance Corporation ("FDIC"). On August 12, 1986, the Bank
converted to a state chartered stock savings bank. The primary business of
the Bank is to acquire funds in the form of savings deposits and wholesale
funds, and to use the funds to make consumer, real estate and commercial loans
in the Bank's primary market area.
The Bank's operations are conducted through 12 full-service office
facilities, located in Whatcom, Skagit and Snohomish counties in Northwest
Washington. The Bank is currently building an additional office in Whatcom
County, located in the Barkley Village area of Bellingham, in the northeast
portion of the city. In addition to serving the growing population in this
area, this office (approximately 15,000 square feet) will serve as an
operation center to support additional growth for the Corporation. Completion
of construction is scheduled for the fourth quarter of 1999. The Bank is also
currently working on plans to build an office at Murphy's Corner near Mill
Creek, which will replace the Bank's current leased location in that area.
During the fiscal year ended March 31, 1999, the Bank relocated its Edmonds
office by purchasing the Dayton Place building at the corner of 5th and Dayton
in downtown Edmonds. The Bank's management continues to research sites for
future development, with emphasis on locations in the growing Snohomish County
markets.
At its March 19, 1998 meeting, the Board of Directors authorized the
repurchase of up to 10% (approximately 747,000 shares) of the Corporation's
outstanding common stock over a 24 month period. During the fiscal year ended
March 31, 1999, the Corporation repurchased 13,900 shares of its common stock,
compared to no repurchases during the prior year. This repurchase plan has
been rescinded by the Board of Directors effective January 18, 1999 with the
signing of the definitive agreement to merge with Bellingham Bancorporation,
as discussed below.
As of December 11, 1998, the Bank became a member of the Federal Home
Loan Bank of Seattle. One of the significant benefits of membership include
the ability to supplement the Bank's balance sheet with wholesale funds in
order to meet cyclical funding needs and to assist management in its interest
rate risk management efforts.
On January 18, 1999, the Corporation announced a definitive agreement to
merge with Bellingham Bancorporation, creating a company with combined assets
in excess of $652 million. As a result of the transaction, Bellingham
Bancorporation will be merged into Horizon Financial Corp. The transaction
has received the necessary approvals, and is expected to close on June 18,
1999. The transaction is expected to be accounted for as a pooling of
interests.
Results of Operations
Total consolidated assets for the Corporation as of fiscal year-end March
31, 1999 were $602,125,761, an increase of 10.05% from the March 31, 1998
level of $547,146,296. This increase in assets was due primarily to the
growth in loans receivable, which increased 11.72% to $484,544,820 from
$433,697,267. Real estate and commercial loans originated for fiscal 1999
were $244,789,677, compared to fiscal 1998 of $148,660,761 and fiscal 1997 of
$100,579,512. The increase in total real estate loan originations in fiscal
1999 was the result of lower long-term interest rates and continued strong
demand for refinance mortgages, along with an increased focus on commercial
real estate lending. Consumer lending originations were little changed, with
annual activity increasing slightly to $12,798,847 from $12,462,472 in fiscal
1998, and $9,606,372 in fiscal 1997. The lack of consumer loan growth was due
in
7
<PAGE>
Management's Discussion & Analysis
==============================================================================
large part to the lower level of interest rates for first mortgages, which led
many borrowers to refinance their existing first mortgage loans, rather than
utilize second mortgage financing options.
The Bank sold $42,468,549 of real estate loans in fiscal 1999, compared
to $29,370,377 in fiscal 1998. The Bank sells real estate loans during
periods of increased loan volume to improve the Bank's cash flow and to manage
its interest rate risk profile. In addition to these cash sales, the Bank
securitized $36,830,692 in long term, fixed rate mortgages during fiscal 1999,
compared to $12,622,660 in fiscal 1998. These securitizations shifted loans
from loans receivable into the investment portfolio, which enhanced the Bank's
liquidity position and decreased the credit risk associated with the loans
receivable. These securitizations also provided the Bank with collateral to
borrow wholesale funds in the reverse repurchase markets.
Total liabilities were $512,375,732 at March 31, 1999 an increase of
10.60% from $463,251,499 at March 31, 1998. The increase in liabilities was
due in large part to the growth in savings deposits, which increased 6.89% to
$481,118,998 from $450,125,058. In addition, the Bank's balance sheet
included $19,800,000 in other borrowings at March 31, 1999, compared to no
borrowings at March 31, 1998. During the year, the Bank increased the size of
its balance sheet with borrowings from the Federal Home Loan Bank and with
reverse repurchase agreements.
Shareholder equity in fiscal 1999 increased 6.98% to $89,750,029 from
$83,894,797 at fiscal 1998 year end. This increase was due primarily to the
growth in retained earnings, net of the $.44 per share in dividends paid
during the fiscal year ended March 31, 1999. The Corporation remains strong
in terms of its capital position, with a shareholder equity-to-assets ratio of
14.91% at March 31, 1999, compared to 15.33% at March 31, 1998.
Net Interest Income
Net interest income in fiscal 1999 was $19,927,032, a 6.76% increase from
fiscal 1998 of $18,665,514, compared to $17,878,339 in fiscal 1997. Total
interest income increased in fiscal 1999 to $43,203,418, a 5.63% increase from
fiscal 1998 of $40,900,914, compared to $38,710,639 in fiscal 1997. Interest
income on loans in fiscal 1999 was $37,449,922, a 6.97% increase from
$35,008,202 in fiscal 1998, compared to $33,812,005 in fiscal 1997. This
increase in interest income was lower than the percentage increase in loans
receivable as many borrowers refinanced their existing loans in last year's
historically low interest rate environment. Therefore, the overall increase
in interest income can be attributed to the growth in loans receivable, not to
higher interest rates.
Interest and dividends on investments and mortgage-backed securities was
$5,753,496 in fiscal 1999, a 2.36% decrease from $5,892,712 in fiscal 1998,
compared to $4,898,634 in fiscal 1997. The decrease in fiscal 1999 was
primarily due to the lower level of interest rates during the year. The
increase in fiscal 1998 compared to fiscal 1997 was due primarily to the fact
that the Bank has been shifting assets from loans receivable to investments by
securitizing long-term fixed rate mortgages with the Federal Home Loan
Mortgage Corporation in an effort to improve its liquidity and to better
manage its interest rate risk profile.
Total interest expense in fiscal 1999 increased to $23,276,386, a 4.68%
increase over fiscal 1998 of $22,235,400, compared to $20,832,300 in fiscal
1997. Interest on deposits increased 2.43% in fiscal 1999, to $22,776,189
compared to $22,235,400 in fiscal 1998, and $20,832,300 in fiscal 1997. This
increase in fiscal 1999 occurred while the Bank's deposit base increased by
6.89%. The low interest rate environment was favorable to the Bank's cost of
savings in fiscal 1999 as a significant portion of the Bank's savings accounts
re-priced during the year. In addition, the Bank was successful in increasing
its overall checking deposits during the year, which represent a low interest
rate source of funds for the Bank.
Interest on borrowings increased to $500,197 in fiscal 1999, compared to
- -0- in fiscal 1998, as the Bank borrowed funds in the wholesale markets in
order to
8
<PAGE>
Management's Discussion & Analysis
==============================================================================
further leverage its balance sheet and better manage its interest rate risk
profile.
Provision for Losses on Loans
The provision for losses on loans increased in fiscal 1999 to $395,000
from $355,000 in fiscal 1998 and $200,400 in fiscal 1997. These figures
include both specific and general reserves. As of March 31, 1999, the
allowance for loan loss reserves was $3,956,150. The general and specific
reserves as of March 31, 1999 represent .82% of loans receivable, compared to
.83% as of March 31, 1998 and .85% at March 31, 1997. The Bank's management
considers this to be an adequate level of reserves at this time.
As of March 31, 1999, there were two loans in the Bank's portfolio over
90 days delinquent, with balances totaling $373,141, which represented .06% of
total assets. This is up from two loans with balances totaling $50,345 or
.01% of assets at March 31, 1998.
Non-Interest Income
Non-interest income in fiscal 1999 was $1,964,363, an increase of 16.15%
from fiscal 1998 of $1,691,273, compared to $1,583,063 in fiscal 1997.
Service fee income was $1,611,999 in fiscal 1999, a 35.35% increase from
fiscal 1998 of $1,191,004, compared to $1,037,308 in fiscal 1997. The
increases in fiscal 1999 & 1998 were due in large part to increases in
servicing fee income from loans sold in the secondary market, along with
increased fee income (e.g. escrow and appraisal fees) related to the increased
loan origination activity for the year.
Other non-interest income decreased in fiscal 1999 to $382,162 from
$416,761 in fiscal 1998, compared to $276,840 in fiscal 1997. The primary
factor contributing to the difference in fiscal 1998 was an adjustment of
$150,000 in specific loan loss reserves due to a large principal reduction on
a loan with an allocated reserve made during that year. An increase in Visa
debit card income continued to enhance the Bank's other non-interest income in
fiscal 1999.
The net gain/(loss) on sale of loans decreased to ($359,130), in fiscal
1999, from ($356,668) in fiscal 1998, compared to ($31,188) in fiscal 1997.
When the Bank sells loans, the gains or losses related to the loan balances
and the prices received in the secondary market are reflected as non-interest
income. When the bank sells low coupon, long- term fixed rate mortgages to
reduce its interest rate risk exposure, the non-interest income portion of the
income statement may show a loss, as has been the case in the past three
fiscal years. The remaining outstanding fees associated with these mortgages,
however, flow to the income statement as interest income. Therefore, even
when the non-interest income portion of the sale reflects a loss, it is
possible that the loan sales (including the fee recognition) generate an
overall profit to the Bank. For example, in fiscal 1999, the fees recognized
from loan sales exceeded the losses from the sale of these loans by $234,872.
The net gain on sale of investments decreased to $329,332 in fiscal 1999,
compared to $440,176 in fiscal 1998, and $300,103 in fiscal 1997. These
differences were due to the varying amounts of gains recognized from the sale
of investments and common stocks in each of these years.
Non-Interest Expense
Non-interest expense in fiscal 1999 increased to $8,406,932, an 11.13%
increase from fiscal 1998 of $7,565,253, compared to $7,460,889 in fiscal
1997. Compensation and employee benefits increased 6.36% in fiscal 1999 to
$4,247,081 from $3,993,022 in fiscal 1998, compared to $4,164,945 in fiscal
1997. The increase in fiscal 1999 is primarily due to the overall growth of
the bank. The higher figures in fiscal 1997 were due primarily to the
one-time recognition of $277,525 in expenses relating to the Bank's retirement
program recognized in that year.
Building occupancy expense was $1,346,724, in fiscal 1999, a 16.87%
increase from $1,152,365 in fiscal 1998, compared to $1,120,585 in fiscal
1997. The primary reasons for the increase in fiscal 1999 relate to increased
expenses for computer hardware upgrades, software expenses and the relocation
of the Bank's Edmonds office.
9
<PAGE>
Management's Discussion & Analysis
==============================================================================
Other non-interest expenses increased to $1,819,741 in fiscal 1999, a
30.84% increase from $1,390,860 in fiscal 1998, compared to $1,413,505 in
fiscal 1997. The increase in fiscal 1999 was due in part to additional
expenses related to the significant technology upgrades implemented during the
year, along with expenses relating to the pending merger with Bellingham
Bancorporation.
Data processing expenses declined in 1999 to $548,560 after increasing
significantly in fiscal 1998 to $612,799 from $413,512 in fiscal 1997. The
increase in fiscal 1998 was due in large part to the recognition of expenses
relating to upgrading the technology at the Bank, including the installation
of a teller platform system and the implementation of a Wide Area Network.
The benefits of these enhancements should include: an enhanced operating
platform for tellers and new accounts personnel; a faster, more powerful
computer network capable of interoffice communication and file sharing; a
better foundation for future technologies; and more efficient operations.
Advertising and Marketing expenses increased 6.88% to $444,826 in fiscal
1999 from $416,207 in fiscal 1998, compared to $348,342 in fiscal 1997. This
increase in fiscal 1999 is due in part to expenses relating to increased
direct mail marketing utilizing the Bank's Marketing Customer Information
File, along with rolling out the "Un-Big Bank" image campaign during the year.
Provisions for Income Tax
Income tax expense increased to $4,456,462 in fiscal 1999, from
$4,214,657 in fiscal 1998, compared to $3,996,693 in fiscal 1997. The Bank's
effective tax rate was approximately 34% in each of the past three fiscal
years.
Net Income
Annual earnings of $8,633,001 for fiscal 1999 represent a 5.00% increase
from fiscal 1998 earnings of $8,221,877, compared to fiscal 1997 earnings of
$7,803,420. Basic earnings per share for fiscal 1999 were $1.15 on weighted
average shares of 7,491,280, compared to basic earnings per share of $1.11 on
weighted average shares of 7,435,782 in fiscal 1998, and basic earnings per
share of $1.04 on weighted average shares of 7,478,666 in fiscal 1997 (as
restated for the 15% stock dividend declared in April 1997).
Liquidity and Capital Resources
The Bank maintains liquid assets in the form of cash and short-term
investments to provide a source to fund loans, savings withdrawals, and other
short-term cash requirements. At March 31, 1999, the Bank had liquid assets
(cash and marketable securities with maturities of one year or less) with a
book value of $24,420,809.
As of March 31, 1999, the total book value of investments and
mortgage-backed securities was $88,659,487, compared to a market value of
$93,793,202 with an unrealized gain of $5,133,715. On March 31, 1998, the
book value of investments and mortgage-backed securities was $89,869,807
compared to a market value of $94,938,374, with an unrealized gain of
$5,068,567. The Bank foresees no factors that would impair its ability to
hold debt securities to maturity.
The Bank's primary sources of funds are cash flow from operations, which
consist primarily of mortgage loan repayments, deposit increases, loan sales,
and cash received from the maturity or sale of investment securities. The
Bank's liquidity fluctuates with the supply of funds and management believes
that the current level of liquidity is adequate at this time. If additional
liquidity is needed, the Bank's options include, but are not necessarily
limited to: 1) Selling additional loans in the secondary market; 2) Entering
into reverse repurchase agreements; 3) Borrowing from the Federal Home Loan
Bank of Seattle; 4) Accepting additional jumbo and/or public funds deposits;
or 5) Accessing the discount window of the Federal Reserve Bank of San
Francisco.
Shareholder's equity as of March 31, 1999 was $89,750,029 or 14.91% of
assets, compared to $83,894,797 or 15.33% of assets at March 31, 1998. The
Bank continues to exceed the 5.0% minimum required by the FDIC in order to be
considered well capitalized. The Bank's total risk-adjusted capital
10
<PAGE>
Management's Discussion & Analysis
==============================================================================
ratio as of March 31, 1999 was 26.28%, compared to March 31, 1998 of 28.46%.
These figures are well above the well-capitalized minimum of 10% required by
the FDIC.
Forward Looking Statements
In this document, Horizon has included certain "forward looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. This statement is for the express purpose of availing Horizon to the
protections of such safe harbor provisions of said Act with respect to all
"forward looking statements". Horizon has used "forward looking statements"
to describe future plans and strategies, including expectations of Horizon's
potential future financial results. Management's ability to predict results
or the effect of future plans and strategies is inherently uncertain. Factors
that could effect results include, but are not limited to: the future level of
interest rates, industry trends, general economic conditions, loan delinquency
rates, and changes in state and federal regulations. These factors should be
considered when evaluating the "forward looking statements" and undue reliance
should not be placed on such statements.
QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK
The Bank's largest component of market risk continues to be interest rate
risk. Currently, the Bank's assets and liabilities are not directly exposed
to foreign currency or commodity price risk. At March 31, 1999, the Bank had
no off-balance sheet derivative financial instruments, nor did it have a
trading portfolio of investments.
One method of analyzing an institution's interest rate risk position is
an interest rate sensitivity GAP analysis. The interest rate GAP is defined
as the difference between the amount of interest-earning assets maturing or
repricing within a specific time period, and the interest-bearing liabilities
maturing or repricing within that same time period. A GAP is considered
positive when the amount of interest rate sensitive assets exceeds the amount
of interest rate liabilities during the same period. A GAP is considered
negative when the amount of interest sensitive liabilities exceeds the amount
of interest sensitive assets. At March 31, 1999, the Bank's one year GAP
position was a negative 33.70%, compared to a negative 38.67% at March 31,
1998. The Bank has historically been considered liability sensitive with its
negative GAP position, due to the assumption that its liabilities (primarily
comprised of certificates of deposit) would reprice more rapidly than its
assets (which are primarily longer term mortgages). For example, in a rising
rate environment, the Bank's cost of savings should rise more rapidly than its
yield on its mortgages, as these liabilities reprice more rapidly than the
Bank's assets. The result to the Bank's operation in a rising rate
environment should be a compression of its net interest margin, which is the
primary factor currently affecting the Bank's income statement. Conversely,
in a falling rate environment, the Bank's liabilities should re- price more
rapidly than its assets, resulting in an improvement in its net interest
margin. Other factors, such as prepayments on mortgages and investments, the
interest rate sensitivity of deposits, and general economic conditions can
also have significant effects on the Bank's performance in a changing interest
rate environment.
In addition to changes in the directions of interest rates, the Bank's
long term performance is likely to be affected significantly by the shape and
magnitude of the slope of the yield curve. The yield curve is a graphical
representation of the relationship between short and long term interest rates.
As mentioned above, the majority of the Bank's liabilities are in the form of
certificates of deposit, most of which reprice or mature within one year. As
such, the rates paid on these liabilities are influenced primarily by rates at
the short end of the yield curve. The Bank's composition of assets, however,
is heavily weighted in long term fixed rate mortgages, which are generally
affected more by the rates at the long end of the yield curve. Therefore, all
else being equal, the Bank should generally be more profitable in the long run
when there is slope in the yield curve. Historically, a positively sloped
yield curve is more common, with long-term rates higher than short-term rates.
However, the current shape of the yield
11
<PAGE>
Management's Discussion & Analysis
==============================================================================
curve is very flat, a scenario which continues to present challenges to the
Bank. The Bank's excellent asset quality, low efficiency ratio, and healthy
capital to assets ratio have allowed the Bank to continue to operate
profitability, despite a very flat yield curve environment.
Following the completion of the merger with the Bank of Bellingham, the
combined Bank's balance sheet should become less liability sensitive, as many
of the Bank of Bellingham's assets are variable rate products which generally
re-price more rapidly than Horizon's existing asset base.
Quantitative Disclosures About Market Risk
- ------------------------------------------------------------------------------
The table below represents the balances of the Bank's financial
instruments at March 31, 1999. The expected maturity categories take into
consideration projected prepayment rates as well as actual amortization of
principal. In preparation of the table, numerous assumptions were made
regarding prepayment rates and deposit account interest sensitivity.
<TABLE>
2 Years 3 Years 4 Years
Average Within 1 Year To To To To Beyond Fair
Yield 1 Year 2 Years 3 Years 4 Years 5 Years 5 Years Total Value
---------------------------------------------------------------------------------
Dollars in thousands
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-Sensitive
Assets:
Loans receivable 8.11 $65,456 $54,843 $71,843 $51,430 $46,754 $194,219 $484,545 $488,642
Mortgage-backed
securities 6.41 7,235 5,663 4,568 4,066 3,619 29,278 54,429 55,096
Investments and other
interest-earning
assets 6.20 21,413 4,546 385 4,634 250 3,002 34,230 38,697
Interest-Sensitive
Liabilities:
Checking accounts 1.50 - 10,796 10,796 3,599 3,599 7,197 35,987 35,987
Money market/
Ultimate accounts 3.93 19,864 6,621 6,621 6,621 6,621 19,866 66,214 66,214
Savings accounts 3.05 - 10,170 10,170 3,390 3,390 6,779 33,899 33,899
Certificates of
deposit 5.64 252,249 50,694 7,303 4,796 9,311 20,666 345,019 347,708
Other Borrowings 5.15 14,800 5,000 - - - - 19,800 19,786
Off-Balance Sheet
Items:
Commitments to
extend credit 6.93 7,161 - - - - - 7,161 7,161
Unused lines of credit 9.25 9,077 - - - - - 9,077 9,077
</TABLE>
As with any method of measuring interest rate risk, certain shortcomings
are inherent in the method of analysis presented in the foregoing table. For
example, although certain assets and liabilities may have similar maturities,
they may react in different degrees to changes in market interest rates. In
addition, in the event of changes in interest rates, expected rates of
prepayments on loans and withdrawals from savings accounts might deviate
significantly from those assumed in presenting the table. Therefore, the data
presented in the table should not be relied upon as necessarily indicative of
actual future results.
12
<PAGE>
Management's Discussion & Analysis
==============================================================================
General
The year 2000 ("Y2K") issue centers on the potential inability of
computer systems and programs to recognize the year 2000. Many existing
computer programs and systems originally were programmed to allow only two
digits to identify the calendar year in the date field. If left unchanged,
these programs and systems might interpret "00" as the year 1900, rather than
as the year 2000.
Regulation
Financial institution regulators have increased their focus upon Year
2000 issues and have issued guidance concerning the responsibilities of senior
management and directors. The sole subsidiary of Horizon Financial Corp.,
Horizon Bank ("Bank"), has been examined by the FDIC and the State of
Washington's Department of Financial Institutions on several occasions,
including both on-site and off-site exams. The Bank's most recent exam was
conducted by the State of Washington in February of 1999. Regulations do not
allow the Bank to make public the results of the State or FDIC examinations.
However, the Bank's Board of Directors reviews each report, and the Board is
satisfied with management's progress to date regarding Year 2000 issues.
The Federal Financial Institution Examination Council ("FFIEC") has
issued several interagency statements on Year 2000 issues. These statements
require financial institutions to proceed through five phases of year 2000
preparedness. The following sections summarize these phases, and the Bank's
progress to date in each phase:
Awareness Phase
The Bank has established a formal Year 2000 plan and created an internal
Year 2000 committee, which has been meeting on this issue since 1997. This
phase focused on identifying those systems and programs that had the potential
of being affected by Year 2000 risks. This phase also included educating the
Bank's employees about Year 2000 issues and resulted in a bank wide effort to
identify potential problems related to the Year 2000. This phase was
substantially completed early in 1998.
Assessment Phase
This phase focused on completing assessments of hardware, software and
other computer applications in order to identify risks and monitor Year 2000
progress. Further, this phase included a prioritization of Year 2000 risks,
to identify which systems were mission critical systems for the Bank's
business, and which were considered less important in terms of potential
adverse impact to the Bank. This assessment was substantially completed in
mid 1998.
Renovation Phase
Following the Assessment Phase, the Bank moved into the renovation phase,
which focused on identifying solutions to potential Year 2000 problems with
its systems and programs. During the fourth quarter of 1998, the Bank
completed a major personal computer renovation, which included new machines at
all teller stations, and numerous other network upgrades. While the primary
purpose for this renovation was not related to the Year 2000 issue, compliance
efforts were enhanced by this project, since computers with older BIOS chips
are more likely to be susceptible to Year 2000 problems than newer computers.
The Bank decided, however, that even these new machines would be tested for
Year 2000 readiness. The renovation phase is substantially completed at this
time.
Validation Phase
This phase was designed to test the ability of hardware and software to
accurately process date sensitive data. The Bank is working with its data
processor, Fiserv, as well as other vendors, to make sure that their computers
and software programs have been tested for Year 2000 readiness. As an example,
the Bank conducted extensive testing of the Fiserv system in December 1998,
with additional testing performed in April of 1999. Based on the analysis of
these test results, along with the extensive amount of data received on the
Year 2000 issue from Fiserv over the past two years, the Bank is satisfied
with the
13
<PAGE>
Management's Discussion & Analysis
==============================================================================
progress made by its service provider in its Year 2000 efforts. In addition,
the Bank is satisfied with the results of the testing of the Bank's other
vendors and internal computer systems, along with the renovations that have
been completed to date. Year 2000 testing expenses are anticipated to total
less than $50,000, the majority of which have already been paid by the Bank
through its fiscal year ended March 31, 1999. Future expenses relating to
Year 2000 issues are not anticipated to have a material impact on the Bank's
financial statements. The Validation phase is substantially complete at this
time.
Implementation Phase
The Bank has completed the implementation phase for all systems currently
being utilized. Any new systems deployed prior to year-end will also be
reviewed for Year 2000 compliance. In light of the pending merger with the
Bank of Bellingham, Horizon Bank's management will be working closely with
Bank of Bellingham's management to ensure that the programs utilized by the
Bank of Bellingham will not create any additional Year 2000 concerns.
Early in 1999, the Bank's Year 2000 focus shifted from the five phases
presented above, to the development of business resumption and contingency
plans. Guidelines provided by the FFIEC set forth four phases in this
contingency planning process, and the paragraphs below set forth the Bank's
progress to date in these phases.
Organizational Planning Guidelines
This phase focused on establishing organizational planning guidelines
that define the business continuity planning strategy for the Bank, and the
FDIC expects institutions to complete this phase prior to March 31, 1999. The
Bank has substantially completed this phase of the Contingency Planning
process.
Business Impact Analysis
Irrespective of best efforts towards Year 2000 compliance, the
possibility exists that there may be an interruption of business around the
turn of the century. Therefore, the Bank has completed a Business Impact
Analysis, which assesses the effects of potential system failures in each core
business process, such as deposit taking, check cashing, cash withdrawals and
lending services. This analysis sets forth Year 2000 event scenarios and
considers the risks of both internal and external infrastructure failures on
each core business process and determines the minimum acceptable level of
outputs and services for each process. This analysis will be conducted as a
joint effort with the Bank of Bellingham, with members from each institution's
management team working on Year 2000 issues from this point forward. While
this analysis will be an ongoing process during the remainder of 1999, the
Business Impact Analysis was substantially completed prior to March 31, 1999.
Business Resumption Contingency Plan
Upon completion of the Business Impact Analysis, the Bank's management
began developing a Business Resumption Contingency Plan. Said plan shall
provide the framework to operate the Bank in the event that any of the Bank's
core business processes experience Year 2000 related problems. Specifically,
the plan shall set forth logistical guidelines and time frames to assist the
Bank's personnel in its business resumption contingency planning efforts.
This plan shall be considered a supplement to the Bank's Disaster Recovery
Plan, already in place. The Business Resumption Contingency Plan is nearing
completion, and will be substantially completed prior to June 30, 1999.
Validation of Business Resumption Contingency Plan
Finally, the Bank's Internal Audit Department is in the process of
designing methods to validate its Business Resumption Contingency Plan to
ensure that the plan will be effective, if needed. Said Validation methods
will be substantially completed by June 30, 1999.
While there can be no guarantee of total Year 2000 compliance, be assured
that Horizon Bank is taking this issue very seriously and is working
diligently to minimize potential impacts to its customers and shareholders as
a result of the turn of the century.
14
<PAGE>
HORIZON FINANCIAL CORP.
Independent Auditor's Report
and
Consolidated Financial Statements
March 31, 1999, 1998 and 1997
15
<PAGE>
MOSS-ADAMS LLP
- ------------------------------------------------------------------------------
Certified Public Accountants
INDEPENDENT AUDITOR'S REPORT
To the Stockholders and Directors
Horizon Financial Corp.
We have audited the accompanying consolidated statement of financial position
of Horizon Financial Corp. and its subsidiary as of March 31, 1999 and 1998,
and the related consolidated statements of income, stockholders' equity and
comprehensive income, and cash flows for each of the three years in the period
ended March 31, 1999, 1998 and 1997. These financial statements are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. 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 Horizon
Financial Corp. and Subsidiary as of March 31, 1999 and 1998, and the results
of their operations and cash flows for each of the years ended March 31, 1999,
1998 and 1997, in conformity with generally accepted accounting principles.
/s/ Moss Adams LLP
Bellingham, Washington
May 7, 1999
16
<PAGE>
HORIZON FINANCIAL CORP.
CONSOLIDATED STATEMENT OF FINANCIAL POSITION
March 31, 1999 and 1998
ASSETS
1999 1998
------------ ------------
Cash and cash equivalents $ 7,781,073 $ 6,878,615
Interest-bearing deposits 8,052,381 9,980,349
Investment securities
Available-for-sale (amortized cost
1999: $20,620,191; 1998: $29,314,764) 25,047,312 33,813,752
Held-to-maturity (estimated fair value
1999: $1,034,061; 1998: $2,047,811) 994,189 1,985,941
Mortgage-backed securities
Available-for-sale (amortized cost 1999:
$43,469,587;1998: $33,100,230) 43,886,859 33,352,267
Held-to-maturity (estimated fair value
1999: $11,208,987; 1998: $15,744,195) 10,959,539 15,488,523
Federal Home Loan Bank Stock 4,563,600 -
Loans receivable 484,544,820 433,697,267
Accrued interest and dividends receivable 3,739,470 3,678,614
Bank premises and equipment, net 9,905,362 6,046,468
Other assets 2,651,156 2,224,500
------------ ------------
TOTAL ASSETS $602,125,761 $547,146,296
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits $481,118,998 $450,125,058
Accounts payable and other liabilities 5,924,556 7,925,825
Securities sold under agreements to repurchase 14,800,000 -
Other borrowed funds 5,000,000 -
Advances by borrowers for taxes and insurance 928,618 920,995
Income tax currently payable 770,986 124,893
Net deferred income tax liabilities 2,572,474 2,879,728
Deferred compensation 1,260,100 1,275,000
------------ ------------
Total liabilities 512,375,732 463,251,499
------------ ------------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY
Serial preferred stock, $1 par value,
10,000,000 shares authorized; none
issued or outstanding - -
Common stock, $1 par value, 30,000,000
shares authorized; 7,771,327 and 7,726,762
issued and outstanding, respectively 7,771,327 7,726,762
Additional paid-in capital 54,388,785 53,821,396
Retained earnings 27,845,086 22,509,593
Unearned ESOP shares (350,000) (400,000)
Accumulated other comprehensive income 3,197,300 3,135,677
Treasury stock, 262,990 and 249,090 shares,
at cost (3,102,469) (2,898,631)
------------ ------------
Total stockholders' equity 89,750,029 83,894,797
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $602,125,761 $547,146,296
============ ============
See accompanying notes to these financial statements.
17
<PAGE>
HORIZON FINANCIAL CORP.
CONSOLIDATED STATEMENT OF INCOME
Years Ended March 31, 1999, 1998 and 1997
1998 1997 1996
------------- ------------- ------------
- -
INTEREST INCOME
Interest on loans $ 37,449,922 $ 35,008,202 $ 33,812,005
Investment and Mortgage-
backed securities
Taxable interest 5,543,463 5,681,821 4,634,411
Nontaxable interest income 146,466 162,618 168,057
Dividends 63,567 48,273 96,166
------------- ------------- ------------
- -
Total interest income 43,203,418 40,900,914 38,710,639
------------- ------------- ------------
- -
INTEREST EXPENSE
Interest on deposits 22,776,189 22,235,400 20,832,300
Interest on other borrowings 500,197 - -
------------- ------------- ------------
- -
Total interest expense 23,276,386 22,235,400 20,832,300
------------- ------------- ------------
- -
Net interest income 19,927,032 18,665,514 17,878,339
PROVISION FOR LOAN LOSSES 395,000 355,000 200,400
------------- ------------- ------------
- -
Net interest income after
provision for loan losses 19,532,032 18,310,514 17,677,939
------------- ------------- ------------
- -
NONINTEREST INCOME
Service fees 1,611,999 1,191,004 1,037,308
Other 382,162 416,761 276,840
Net gain (loss) on sales of
loans (359,130) (356,668) (31,188)
Net gain on sale of investment
securities 329,332 440,176 300,103
------------- ------------- ------------
- -
Total noninterest income 1,964,363 1,691,273 1,583,063
------------- ------------- ------------
- -
NONINTEREST EXPENSE
Compensation and employee
benefits 4,247,081 3,993,022 4,164,945
Building occupancy 1,346,724 1,152,365 1,120,585
Other expenses 1,819,741 1,390,860 1,413,505
Data processing 548,560 612,799 413,512
Advertising 444,826 416,207 348,342
------------- ------------- ------------
- -
Total noninterest expense 8,406,932 7,565,253 7,460,889
------------- ------------- ------------
- -
INCOME FROM CONTINUING OPERATIONS
BEFORE PROVISION FOR INCOME TAX 13,089,463 12,436,534 11,800,113
------------- ------------- ------------
- -
PROVISION FOR INCOME TAX
Current 4,795,462 3,524,657 3,171,693
Deferred (339,000) 690,000 825,000
------------- ------------- ------------
- -
Total provision for
income tax 4,456,462 4,214,657 3,996,693
------------- ------------- ------------
- -
NET INCOME $ 8,633,001 $ 8,221,877 $ 7,803,420
============= ============= =============
BASIC EARNINGS PER SHARE $ 1.15 $ 1.11 $ 1.04
======= ======= =======
DILUTED EARNINGS PER SHARE $ 1.14 $ 1.09 $ 1.03
======= ======= =======
See accompanying notes to these financial statements.
18
<PAGE>
<TABLE>
HORIZON FINANCIAL CORP.
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
Years Ended March 31, 1999, 1998 and 1997
Common Stock
------------------------- Additional Unearned
Number of Paid-In Retained ESOP
Shares At Par Capital Earnings Shares
--------- ---------- ----------- ------------ --------
<S> <C> <C> <C> <C> <C>
BALANCE, March 31,1996 6,579,954 $6,579,954 $39,415,875 $ 31,548,712 $ -
Comprehensive income
Net income - - - 7,803,420 -
Other comprehensive income
Change in unrealized gains
available- for-sale
securities, net taxes
of $503,736 - - - - -
Total other comprehensive
income - - - - -
Comprehensive income - - - - -
Unearned ESOP shares - - - - (500,000)
Recognition of ESOP shares
released - - - - 50,000
Cash dividends on common
stock at $0.75 per share - - - (4,833,338) -
Dividend reinvestment plan 23,743 23,743 304,498 - -
Stock options exercised 46,643 46,643 343,305 - -
Treasury stock purchased - - - - -
--------- ---------- ----------- ------------ --------
BALANCE, March 31, 1997 6,650,340 6,650,340 40,063,678 34,518,794 (450,000)
Comprehensive income
Net income - - - 8,221,877 -
Other comprehensive income
Change in unrealized gains
on available-for-sale
securities, net taxes of
$1,293,465 - - - - -
Total other comprehensive
income - - - - -
Comprehensive income - - - - -
Recognition of ESOP shares
released - - - - 50,000
Cash dividends on common stock
at $0.83 per share - - - (6,188,444) -
Dividend reinvestment plan 26,720 26,720 413,136 - -
Stock options exercised 51,750 51,750 308,834 - -
15% stock dividend 997,952 997,952 13,035,748 (14,033,700) -
Cash paid for fractional
shares in connection with
stock dividend - - - (8,934) -
--------- ---------- ----------- ------------ --------
BALANCE, March 31, 1998 7,726,762 7,726,762 53,821,396 22,509,593 (400,000)
Comprehensive income
Net income - - - 8,633,001 -
Other comprehensive income
Change in unrealized gains
on available-for-sale
securities, net taxes of
$31,744 - - - - -
Total other comprehensive
income - - - - -
Comprehensive income - - - - -
Recognition of ESOP shares
released - - - - 50,000
Cash dividends on common
stock at $0.11 per share - - - (3,297,508) -
Dividend reinvestment plan 35,801 35,801 496,461 - -
Stock options exercised 8,764 8,764 70,928 - -
Treasury stock purchased - - - - -
--------- ---------- ----------- ------------ ---------
BALANCE, March 31, 1999 7,771,327 $7,771,327 $54,388,785 $ 27,845,086 $(350,000)
========= =========== =========== ============ =========
</TABLE>
<PAGE>
<TABLE>
Accumulated
Other Treasury Total
Comprehensive Stock Stockholders' Comprehensive
Income(Loss) At Cost Equity Income
------------ ---------- ------------- -------------
<S> <C> <C> <C> <C>
BALANCE, March 31,1996 $1,602,673 $ - $79,147,214
Comprehensive income
Net income - - 7,803,420 $ 7,803,420
Other comprehensive income
Change in unrealized gains
available- for-sale
securities, net taxes
of $503,736 (977,840) - (977,840) (977,840)
Total other comprehensive ------------
income - - - (977,840)
------------
Comprehensive income - - - $ 6,825,580
Unearned ESOP shares - (500,000) ============
Recognition of ESOP shares
released - - 50,000
Cash dividends on common
stock at $0.75 per share - - (4,833,338)
Dividend reinvestment plan - - 328,241
Stock options exercised - - 389,948
Treasury stock purchased - (2,898,631) (2,898,631)
---------- ---------- -------------
BALANCE, March 31, 1997 624,833 (2,898,631) 78,509,014
Comprehensive income
Net income - - 8,221,877 $ 8,221,877
Other comprehensive income
Change in unrealized gains
on available-for-sale
securities, net taxes of
$1,293,465 2,510,844 - 2,510,844 2,510,844
Total other comprehensive ------------
income - - - 2,510,844
------------
Comprehensive income - - - $ 10,732,721
============
Recognition of ESOP shares
released - - 50,000
Cash dividends on common stock
at $0.83 per share - - (6,188,444)
Dividend reinvestment plan - - 439,856
Stock options exercised - - 360,584
15% stock dividend - - -
Cash paid for fractional
shares in connection with
stock dividend - - (8,934)
---------- ---------- -------------
BALANCE, March 31, 1998 3,135,677 (2,898,631) 83,894,797
Comprehensive income
Net income - - 8,633,001 $ 8,633,001
Other comprehensive income
Change in unrealized gains
on available-for-sale
securities, net taxes of
$31,744 61,623 - 61,623 61,623
Total other comprehensive ------------
income - - - 61,623
------------
Comprehensive income - - - $ 8,694,624
Recognition of ESOP shares ============
released - - 50,000
Cash dividends on common
stock at $0.11 per share - - (3,297,508)
Dividend reinvestment plan - - 532,262
Stock options exercised - - 79,692
Treasury stock purchased - (203,838) (203,838)
----------- ----------- ------------
BALANCE, March 31, 1999 $3,197,300 $(3,102,469) $ 89,750,029
========== =========== ============
See accompanying notes to these financial statements.
19
</TABLE>
<PAGE>
HORIZON FINANCIAL CORP.
CONSOLIDATED STATEMENT OF CASH FLOWS
Years Ended March 31, 1999, 1998 and 1997
Increase (Decrease) in Cash and Cash Equivalents
1999 1998 1997
------------- ------------- -------------
CASH FLOWS FROM OPERATING
ACTIVITIES
Net income $ 8,633,001 $ 8,221,877 $ 7,803,420
Adjustments to reconcile net
income to net cash provided
by operating activities
Depreciation 555,740 449,141 443,827
Amortization and deferrals, net 260,919 51,387 (724,355)
Provision for loan losses 395,000 355,000 200,400
Provision for deferred income tax (339,000) 690,000 825,000
Changes in assets and liabilities
Interest and dividends receivable (60,856) (133,234) 69,557
Interest payable 53,873 (98,714) (55,520)
Federal income tax (receivable)
payable 646,093 422,085 (363,307)
Other assets (426,656) (290,072) (140,600)
Other liabilities (1,919,050) (904,241) 4,677,457
------------- ------------- -------------
Net cash flows from
operating activities 7,799,064 8,763,229 12,735,879
------------- ------------- -------------
CASH FLOWS FROM INVESTING
ACTIVITIES
Investment in interest-
bearing deposits, net 1,927,968 417,967 (1,642,012)
Purchases of investment
securities - available-
for-sale (4,902,969) (19,278,206) (8,626,426)
Proceeds from sales and
maturities of investment
securities - available-
for-sale 13,669,409 13,972,408 16,807,528
Proceeds from maturities of
investment securities -
held-to-maturity 991,752 6,395,834 7,698,472
Proceeds from maturities of
mortgage-backed securities -
available-for-sale 25,622,744 4,202,075 712,754
Purchases of mortgage-backed
securities - held-to-maturity - 22,544,856 3,388,227
Proceeds from maturities of
mortgage-backed securities -
held-to-maturity 4,528,984 (6,510,126) (8,816,864)
Purchase of Federal Home
Loan Bank stock (4,563,600) - -
Proceeds from sales of loans 43,141,911 29,370,377 5,038,460
Principal payments on loans 127,257,512 79,122,140 66,132,069
Originations and purchases
of loans (258,060,231) (156,090,708) (108,647,972)
Purchases of bank premises
and equipment (4,414,634) (364,926) (328,469)
------------- ------------- -------------
Net cash flows from
investing activities (54,801,154) (26,218,309) (28,284,233)
------------- ------------- -------------
CASH FLOWS FROM FINANCING
ACTIVITIES
Change in checking and
savings accounts, net 19,051,484 2,349,945 13,055,711
Proceeds from issuance of
time deposits 157,374,792 152,668,178 154,013,669
Payments for maturing time
deposits (145,432,336) (129,704,352) (144,934,530)
Proceeds from securities
sold under agreements to
repurchase 14,800,000 - -
Proceeds from other
borrowed funds 5,000,000 - -
Common stock issued, net 611,954 800,440 718,189
Cash dividends paid (3,297,508) (6,197,378) (4,833,338)
Treasury stock purchased (203,838) - (2,898,631)
------------- ------------- -------------
Net cash flows from
financing activities 47,904,548 19,916,833 15,121,070
------------- ------------- -------------
NET CHANGE IN CASH AND CASH
EQUIVALENTS 902,458 2,461,753 (427,284)
CASH AND CASH EQUIVALENTS,
beginning of year 6,878,615 4,416,862 4,844,146
------------- ------------- -------------
CASH AND CASH EQUIVALENTS,
end of year $ 7,781,073 $ 6,878,615 $ 4,416,862
============= ============= =============
SUPPLEMENTAL DISCLOSURES OF
CASH FLOW INFORMATION
Cash paid during the year
for interest $ 22,778,750 $ 22,334,114 $ 20,887,820
============= ============= =============
Cash paid during the year
for income tax $ 4,150,000 $ 3,110,000 $ 3,535,000
============= ============= =============
NONCASH INVESTING AND FINANCING
TRANSACTIONS
Mortgage loans securitized
and exchanged for
FHLMC participation
certificates $ 36,830,693 $ 12,622,660 $ 28,123,822
============= ============= =============
See accompanying notes to these financial statements.
20
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 1 - NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) Nature of Operations - Horizon Financial Corp. (the "Company"), through
its wholly-owned subsidiary, Horizon Bank (the "Bank"), provides a full range
of mortgage lending services to borrowers and a full range of customer
services to depositors through twelve branches located in Whatcom, Skagit and
Snohomish Counties of Washington State. The Bank is an FDIC insured, state-
chartered stock savings bank.
(b) Financial Statement Presentation and Use of Estimates - The financial
statements have been prepared in accordance with generally accepted
accounting principles and reporting practices applicable to the banking
industry. In preparing the financial statements, management is required to
make estimates and assumptions that affect the reported amounts of revenues
and expenses for the period and assets and liabilities as of the balance
sheet date. Actual results could differ from estimated amounts.
(c) Principles of Consolidation - As of March 31, 1999, 1998, and 1997, and
for the years then ended, the consolidated financial statements include the
accounts of Horizon Financial Corp. and its wholly-owned subsidiary, Horizon
Bank. Westward Financial Services, Inc. is a wholly-owned subsidiary of
Horizon Bank, whose accounts are also included in the consolidation. All
material intercompany balances and transactions have been eliminated.
(d) Cash and Cash Equivalents - For purposes of reporting cash flows, cash
and cash equivalents include cash on hand and noninterest-bearing amounts due
from banks.
The Company maintains cash balances at several banks. Accounts at each
institution are insured by the Federal Deposit Insurance Corporation up to
$100,000.
(e) Investments in Interest-Bearing Deposits - Investments in interest-
bearing deposits consist principally of federal funds sold to a major Seattle-
area bank and short-term certificates of deposit with Western Washington
financial institutions.
(f) Investments and Mortgage-Backed Securities - The Company classifies its
securities into one of three categories: (1) held-to-maturity, (2) available-
for-sale, or (3) trading. Investment securities are categorized as held-to-
maturity when the Bank has the positive intent and ability to hold those
securities to maturity. Securities which are held-to-maturity are stated at
cost, adjusted for amortization of premiums, and accretion of discounts which
are recognized as adjustments to interest income.
Investment securities categorized as available-for-sale are generally held
for investment purposes (to maturity), although unanticipated future events
may result in the sale of some securities. Available-for-sale securities
are recorded at fair value, with the net unrealized gain or loss included as
other comprehensive income within the statement of stockholders' equity, net
of the related tax effect. Realized gains or losses on dispositions are based
on the net proceeds and the adjusted carrying amount of securities sold,
using the specific identification method.
Declines in the fair value of individual held-to-maturity and available-for-
sale securities below their cost that are other than temporary are recognized
by write-downs of the individual securities to their fair value. Such write-
downs would be included in earnings as realized losses.
Premiums and discounts are recognized in interest income using the interest
method over the period to maturity. The Company had no trading securities at
December 31, 1999 and 1998.
21
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 1 - NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(Continued)
(g) Federal Home Loan Bank Stock - The Bank's investment in Federal Home Loan
Bank (the FHLB) stock is a restricted investment carried at par value ($100
per share), which reasonably approximates its fair value. As a member of the
FHLB system, the Bank is required to maintain a minimum level of investment in
FHLB stock based on specific percentages of its outstanding FHLB advances.
The Bank may request redemption at par value of any stock in excess of the
amount the Bank is required to hold. Stock redemptions are at the discretion
of the FHLB.
(h) Loans Held for Sale - Mortgage loans originated and intended for sale
in the secondary market are carried at the lower of cost or estimated market
value in the aggregate. Net unrealized losses are recognized through a
valuation allowance by charges to income.
(i) Loans Receivable - Loans receivable that management has the intent and
ability to hold for the foreseeable future or until maturity or pay-off are
reported at their outstanding principal adjusted for any charge-offs, the
allowance for loan losses, and any deferred fees or costs on originated loans
and unamortized premiums or discounts on purchased loans.
Loan origination fees, net of certain direct loan origination costs, are
deferred and recognized as an adjustment of the yield on the related loans,
using the interest method.
(j) Impaired Loans and Related Income - A loan is considered impaired when
management determines that it is probable that all contractual amounts of
principal and interest will not be paid as scheduled in the loan agreement.
These loans include nonaccruing loans past due 90 days or more, loans
restructured in the current year, and other loans that management considers to
be impaired.
When a loan is placed on nonaccrual status, all interest previously accrued,
but not collected, is reversed and charged against interest income. Income on
nonaccrual loans is then recognized only when the loan is brought current, or
when, in the opinion of management, the borrower has demonstrated the ability
to resume payments of principal and interest. Interest income on restructured
loans is recognized pursuant to the terms of new loan agreements. Interest
income on other impaired loans is monitored and based upon the terms of the
underlying loan agreement. However, the recorded net investment in impaired
loans, including accrued interest, is limited to the present value of the
expected cash flows of the impaired loan, or the observable fair market value
of the loan, or the fair value of the loan's collateral.
(k) Mortgage Servicing Rights - The Company allocates its total cost in
mortgage loans between mortgage servicing rights and loans, based upon their
relative fair values, when loans are subsequently sold or securitized, with
the servicing rights retained. Fair values are generally obtained through
quoted market prices. The Company has established a valuation allowance to
measure impairment of its mortgage servicing rights. Impairment is measured
based upon the characteristics of the individual loans, including note rate,
term, underlying collateral, current market conditions and estimates of net
servicing income. The Company accounts for its recorded value, and possible
impairment of mortgage servicing rights, on a loan-by-loan basis.
The cost allocated to mortgage servicing rights is amortized in proportion to,
and over the period of, estimated net servicing income.
22
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 1 - NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(Continued)
(l) Provision for Loan Losses - Management estimates the provision for loan
losses by evaluating known and inherent risks in the loan portfolio. These
factors include changes in the size and composition of the loan portfolio,
actual loan loss experience, current and anticipated economic conditions,
detailed analysis of individual loans for which full collectibility may not be
assured, and determination of the existence and realizable value of the
collateral and guarantees securing the loans. The allowance is based upon
factors and trends identified by future market factors beyond the Company's
control, which may result in losses or recoveries differing significantly from
those provided for in the financial statements.
A material estimate that is particularly susceptible to significant change
relates to the determination of the allowance for losses on loans and the
valuation of real estate acquired in connection with foreclosures or in
satisfaction of loans. In connection with the determination of the estimated
losses on loans and foreclosed assets held for sale, management obtains
independent appraisals for significant properties.
The majority of the Company's loan portfolio consists of commercial loans and
single-family residential loans secured by real estate in the Whatcom, Skagit
and Snohomish County areas. Real estate prices in this market are stable at
this time. However, the ultimate collectibility of a substantial portion of
the Company's loan portfolio may be susceptible to changes in local market
conditions in the future.
While management uses available information to recognize losses on loans,
further reductions in the carrying amounts of loans may be necessary based on
changes in local economic conditions. In addition, regulatory agencies, as an
integral part of their examination process periodically review the estimated
losses on loans. Such agencies may require the Company to recognize
additional losses based on their judgment about information available to them
at the time of their examination.
(m) Premises and Equipment - Premises and equipment are stated at cost less
accumulated depreciation. Major renewals or betterments are capitalized and
depreciated over their estimated useful lives. Depreciation is computed on
the straight-line method over the estimated useful lives of thirty-five years
for buildings and three to ten years for equipment.
(n) Real Estate Owned - Real estate acquired through foreclosure is recorded
at the lower of cost (unpaid loan balance plus foreclosure expenses) less any
reserve, or estimated market value. At March 31, 1999 and 1998, the Company
did not own any real estate acquired through foreclosure.
(o) Income Taxes - The Company reports income and expenses using the accrual
method of accounting and files a consolidated tax return which includes its
subsidiary. Deferred tax assets and liabilities are reflected at currently
enacted income tax rates applicable to the period in which the deferred tax
assets or liabilities are expected to be realized or settled. As changes in
tax laws or rates are enacted, deferred tax assets and liabilities are
adjusted through the provision for income taxes. Deferred taxes result from
temporary differences in the recognition of certain income and expense
amounts between the Bank's financial statements and its tax returns.
(p) Earnings Per Share - Basic earnings per share amounts are computed based
on the weighted average number of shares outstanding during the period after
giving retroactive effect to stock dividends and stock splits. Diluted
earnings per share amounts are computed by determining the number of
additional shares that are deemed outstanding due to stock options under the
treasury stock method.
(q) Financial Instruments - All financial instruments held or issued by the
Bank are held or issued for purposes other than trading. In the ordinary
course of business, the Bank enters into off-balance-sheet financial
instruments consisting of commitments to extend credit. These commitments are
recorded in the financial statements when they are funded.
23
<PAGE>
NOTE 1 - NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(Continued)
(r) Advertising Costs - The Company expenses advertising costs as they are
incurred.
(s) Stock Options - The Company recognizes the financial effects of stock
options in accordance with Accounting Principles Board Opinion No. 25
Accounting for Stock Issued to Employees (APB 25). Generally, stock
options are issued at a price equal to the fair value of the Company's stock
as of the grant date. Under APB 25, options issued in this manner do not
result in the recognition of employee compensation in the Company's
financial statements. Disclosures required by Statement of Financial
Accounting Standard No. 123 Accounting for Stock-Based Compensation are
provided in Note 14.
(t) Reclassifications - Certain reclassifications have been made to prior
years' amounts to conform to the current year presentation. These
reclassifications have no significant effect on the Bank's previously
reported financial position or results of operations.
(u) Impact of New Accounting Standards - In June 1997, the Financial
Accounting Standards Board issued SFAS No. 130 "Reporting Comprehensive
Income" ("SFAS No. 130"), which requires that an enterprise report, by major
components and as a single total, the change in its net assets during the
period from non-owner sources; and SFAS No. 131 "Disclosures about Segments of
an Enterprise and Related Information" ("SFAS No. 131"), which establishes
annual and interim reporting standards for an enterprise's operating segments
and related disclosures about its products, services, geographic areas, and
major customers.
In February 1998, the FASB issued SFAS 132, Employers' Disclosures about
Pensions and Other Postretirement Benefits--an amendment of FASB Statements
No. 87, 88, and 106. This Statement revises employers' disclosures about
pension and other postretirement benefit plans. It does not change the
measurement or recognition of those plans. Rather, it standardizes the
disclosure requirements for pensions and other postretirement benefits to the
extent practicable, requires additional information on changes in the benefit
obligations and fair values of plan assets that will facilitate financial
analysis, and eliminates certain disclosures that are no longer useful.
The adoption of these statements did not impact the Company's consolidated
financial position, results of operations, or cash flows, because their
effects were limited to the form and content of disclosures.
The Financial Accounting Standards Board ("FASB") issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities" ("SFAS No.
133") which must be adopted by the Company as of April 1, 2000. However, on
May 20, 1999 FASB issued an exposure draft that would defer the effective
date of this statement by one year. This Statement establishes accounting and
reporting standards for derivative financial instruments and for hedging
activities. Upon adoption of the Statement, all derivatives must be recognized
at fair value as either assets or liabilities in the statement of financial
position. Changes in the fair value of derivatives not designated as hedging
instruments are to be recognized currently in earnings or are to be recognized
as a component of other comprehensive income, depending on the intended use
of the derivatives and the resulting designations. Upon adoption, retroactive
application of this Statement to financial statements of prior periods is not
permitted. The Company is currently in the process of evaluating the impact
of SFAS No. 133 on its consolidated financial position and results of
operations.
24
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 2 - INTEREST-BEARING DEPOSITS
Interest bearing deposits consisted of the following at March 31, 1999 and
1998:
1999 1998
------------ ------------
Federal funds sold $ 7,825,000 $ 9,395,000
Certificates of deposit 227,381 585,349
------------ ------------
$ 8,052,381 $ 9,980,349
============ ============
The Company has purchased securities under an agreement to resell
substantially identical securities with a major Seattle-area bank. The amounts
advanced under this agreement represent short-term loans and are reflected as
interest-bearing deposits in the consolidated statement of financial position.
The securities underlying the agreements are comprised of shares of a mutual
fund, which trades primarily in U.S. government securities.
The underlying investments, which mature within 90 days, are maintained by a
third party custodian in an investment pool that is comprised of securities
which have been purchased by a variety of institutions under similar
agreements to resell. The Company's transactions have been executed under a
written custodial agreement that explicitly recognizes the Company's interest
in their portion of the total investment pool.
NOTE 3 - INVESTMENT SECURITIES
The Company's investment policy requires that the Company purchase only
high-grade investment securities. Purchases of debt instruments are generally
restricted to those rated A or better by a nationally recognized statistical
rating organization.
The amortized cost and estimated market values of investments, together with
unrealized gains and losses, are as follows as of March 31, 1999 and 1998,
respectively:
1999
-------------------------------------------------
- -
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ---------- ----------- ------------
- -
Available-For-
Sale Securities
State and political
subdivisions and U.S.
government agency
securities $10,813,228 $ 63,716 $ (316) $ 10,876,628
Marketable equity
securities 337,851 4,390,661 (23,438) 4,705,074
Corporate debt
securities 9,469,112 15,140 (18,642) 9,465,610
Total available-for- ----------- ---------- -------- ------------
sale securities 20,620,191 4,469,517 (42,396) 25,047,312
----------- ---------- -------- ------------
Held-To-Maturity
Securities
State and political
subdivisions and U.S.
government agency
securities 494,379 - (785) 493,594
Corporate debt securities 499,810 40,658 - 540,468
----------- ---------- -------- ------------
Total held-to-maturity
securities 994,189 40,658 (785) 1,034,062
----------- ---------- -------- ------------
Total investment
securities $21,614,380 $4,510,175 $(43,181) $ 26,081,374
=========== ========== ======== ============
25
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 3 - INVESTMENT SECURITIES (Continued)
1998
-------------------------------------------------
- -
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ---------- ----------- ------------
- -
Available-For-
Sale Securities
State and political
subdivisions and U.S.
government agency
securities $20,258,274 $ 97,886 $(15,206) $ 20,340,954
Marketable equity
securities 339,161 4,403,537 - 4,742,698
Corporate debt
securities 8,717,329 14,898 (2,127) 8,730,100
Total available-for- ----------- ---------- -------- ------------
sale securities 29,314,764 4,516,321 (17,333) 33,813,752
----------- ---------- -------- ------------
Held-To-Maturity
Securities
State and political
subdivisions and U.S.
government agency
securities 1,486,248 334 (1,739) 1,484,843
Corporate debt securities 499,693 63,275 - 562,968
----------- ---------- -------- ------------
Total held-to-maturity
securities 1,985,941 63,609 (1,739) 2,047,811
----------- ---------- -------- ------------
Total investment
securities $31,300,705 $4,579,930 $(19,072) $ 35,861,563
=========== ========== ======== ============
The amortized cost and estimated fair value of investment securities at March
31, 1999 by contractual maturity are shown below. Expected maturities will
differ from contractual maturities because borrowers may have the right to
call or prepay obligations with or without call or prepayment penalties.
1999
------------------------------------------------------
- -
Available-For-Sale Held-To-Maturity
--------------------------- ------------------------
- -
Amortized Estimated Amortized Estimated
Cost Fair Value Cost Fair
Value ----------- ----------- ---------- --
- --------
State and political
subdivisions and
U.S. government
agencies
One year $ 6,445,713 $ 6,470,277 $ 494,379 $ 493,594
Two to five years 4,217,515 4,252,550 - -
Five to ten years 150,000 153,801 - -
----------- ----------- ---------- ----------
10,813,228 10,876,628 494,379 493,594
----------- ----------- ---------- ----------
Corporate debt
securities
One year 8,569,112 8,561,673 - -
Two to five years 900,000 903,937 499,810 540,468
Five to ten years - - - -
----------- ----------- ---------- ----------
9,469,112 9,465,610 499,810 540,468
----------- ----------- ---------- ----------
Marketable equity
securities (liquid) 337,851 4,705,074 - -
----------- ----------- ---------- ----------
Total investment
securities $20,620,191 $25,047,312 $ 994,189 $1,034,062
=========== =========== ========== ==========
26
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 3 - INVESTMENT SECURITIES (Continued)
Proceeds from sales of investments and gross realized gains and losses on
investment sales were as follows for the year ended March 31:
1999 1998 1997
---------- ---------- --------
Proceeds from sales of investments $ - $1,949,359 $374,175
========== ========== ========
Gross gains realized on sales of
investments $ - $ 443,766 $303,072
========== ========== ========
Gross losses realized on sales of
investments $ - $ 3,590 $ $2,969
========== ========== ========
Information about concentrations of investments in particular industries for
marketable equity securities and corporate debt securities at March 31 consist
of the following:
1999 1998
----------------------- ---------------------
- -
Market Market
Cost Value Cost Value
---------- ---------- ---------- ---------
- -
Marketable equity securities
Banking $ 318,380 $ 968,387 $ 318,380 $1,333,136
FHLMC common stock 18,008 3,152,187 19,318 2,798,812
Other 1,463 584,500 1,462 610,750
---------- ---------- ---------- ----------
$ 337,851 $4,705,074 $ 339,160 $4,742,698
========== ========== ========== ==========
Corporate debt securities
Finance companies $8,569,112 $8,561,673 $7,813,687 $7,826,725
Private utilities 900,000 903,937 903,642 903,375
---------- ---------- ---------- ----------
$9,469,112 $9,465,610 $8,717,329 $8,730,100
========== ========== ========== ==========
At March 31, 1999 and 1998, U.S. government agency and corporate debt
securities of $1,000,000 were pledged as collateral for deposits of state and
local government agencies and deposits for trust accounts in excess of
$100,000, as required by Washington State Law.
NOTE 4 - MORTGAGE-BACKED SECURITIES
Mortgage-backed securities at March 31 consist of the following:
1999
--------------------------------------------------
- -
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
----------- ----------- ----------- ----------
- -
Available-for-sale
securities $43,469,587 $ 565,079 $ (147,808) $43,886,859
Held-to-maturity
securities 10,959,539 259,122 (9,674) 11,208,987
----------- ----------- ----------- ----------
- -
Total mortgage-backed
securities $54,429,126 $ 824,201 $ (157,482) $55,095,846
=========== =========== ========== ===========
1998
--------------------------------------------------
- -
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
----------- ----------- ----------- ----------
- -
Available-for-sale
securities $33,100,230 $ 333,595 $ (81,558) $33,352,267
Held-to-maturity
securities 15,488,523 307,729 (52,057) 15,744,195
----------- ----------- ----------- ----------
- -
Total mortgage-backed
securities $48,588,753 $ 641,324 $ (133,615) $49,096,462
=========== =========== ========== ===========
27
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 4 - MORTGAGE-BACKED SECURITIES (Continued)
The amortized cost and estimated fair value of mortgage-backed securities at
March 31, 1999 by contractual maturity are shown below. Expected maturities
will differ from contractual maturities because borrowers may have the right
to prepay obligations with or without prepayment penalties.
1999
------------------------------------------------------
- --
Available-For-Sale Held-To-Maturity
-------------------------- -------------------------
- --
Amortized Estimated Amortized
Estimated
Cost Fair Value Cost Fair
Value ----------- ----------- ------------ ---
- ----------
Mortgage-Backed
Securities
One year $ 903,151 $ 895,133 $ - $ -
Two to five years 4,381,797 4,332,280 881,182 893,433
Six to ten years 1,709,140 1,714,290 7,542,837 7,604,690
After ten years 36,475,499 36,945,157 2,535,520 2,710,864
----------- ----------- ------------ ----------
- -
Total mortgage-
backed securities $43,469,587 $43,886,860 $ 10,959,539 $11,208,987
=========== =========== ============ ===========
All of the above mortgage-backed securities are rated AAA by a nationally
recognized statistical rating organization.
NOTE 5 - LOANS RECEIVABLE
Loans receivable (collateralized principally by properties in the Whatcom,
Skagit and Snohomish Counties of Washington State) at March 31 consist of the
following:
1999 1998
------------- -------------
First mortgage loans
Conventional $ 632,505,211 $ 524,805,125
Construction - conventional 22,763,297 24,883,763
FHA 8,408 11,612
VA 5,249 6,741
Real estate contracts 122,129 130,240
------------- -------------
655,404,294 549,837,481
Less participating interests sold (163,526,986) (112,251,375)
------------- -------------
Net of first mortgage loans 491,877,308 437,586,106
Participation loan interests 838,422 1,802,347
Home equity loans 8,532,376 11,645,867
Home equity LOC 2,126,742 1,297,603
Loans on savings deposits 998,679 1,206,550
Consumer loans 3,364,407 3,209,353
Other loans 74,597 82,938
------------- -------------
507,812,531 456,830,764
Less:
Undisbursed loan proceeds (12,163,897) (12,635,603)
Deferred loan fees (7,147,664) (6,886,744)
Allowance for loan losses (3,956,150) (3,611,150)
------------- -------------
$ 484,544,820 $ 433,697,267
============= =============
28
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 5 - LOANS RECEIVABLE (Continued)
The Company originates both adjustable and fixed interest rate loans.
Adjustable rate loans typically contain annual rate increase caps (2%) and
loan lifetime rate increase caps (6% to 8%). At March 31, 1999, the Company
had adjustable and fixed rate loans as follows:
Fixed Rate Adjustable Rate
- ---------------------------------- -------------------------------------
Term to Maturity Book Value Term to Maturity Book Value
-------------------- ------------ ----------------------- ----------
- --
Less than one year $ 4,912,293 Less than one year $ -
One to two years 5,839,987 One to two years -
Two to five years 47,243,362 Two to five years 560,436
Five to ten years 91,680,374 Five to ten years 621,740
Over ten years 344,125,817 Over ten years 12,828,522
Real estate loans serviced for others are $163,526,986 and $112,251,375,
respectively, as of March 31, 1999 and 1998.
Impaired loans on a nonaccrual basis or restructured, and the related
interest, were not material at March 31, 1999 and 1998.
The allowance for loan losses at March 31 and changes during the year are as
follows:
1999 1998 1997
-------------- -------------- -------------
Balance, beginning of year $ 3,406,150 $ 3,236,150 $ 3,126,150
Balance, beginning of year $ 3,611,150 $ 3,406,150 $ 3,236,150
Provision for loan losses 395,000 355,000 200,400
Adjustment to reserves (50,000) (150,000) (30,400)
-------------- -------------- -------------
Balance, end of year $ 3,956,150 $ 3,611,150 $ 3,406,150
============== ============== =============
NOTE 6 - MORTGAGE SERVICING RIGHTS
Loan costs allocated to mortgage servicing rights were as follows as of March
31, 1999 and 1998:
1999 1998
------------ -----------
Beginning balance $ 697,206 $ 336,101
Additions for new loans 779,592 405,064
Amortization (141,535) (43,959)
Ending balance 1,335,263 697,206
Valuation allowance for impairment
mortgage servicing rights (703,074) (370,035)
------------ -----------
Mortgage servicing rights, net $ 632,189 $ 327,171
============ ===========
Changes in the valuation allowance for impairment of mortgage servicing was as
follows:
Beginning balance $ (370,035) $ (179,743)
Additions (409,921) (214,292)
Credited to income 76,882 24,000
------------ -----------
Ending balance $ (703,074) $ (370,035)
============ ===========
29
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 7 - ACCRUED INTEREST AND DIVIDENDS RECEIVABLE
Accrued interest and dividends receivable at March 31 is summarized as
follows:
1998 1997
------------ ------------
Investment securities $ 650,808 $ 614,563
Investment securities $ 467,070 $ 650,808
Mortgage-backed securities 285,052 260,353
Loans receivable 2,977,903 2,759,202
Dividends on marketable equity
securities 9,445 8,251
------------ ------------
$ 3,739,470 $ 3,678,614
============ ============
NOTE 8 - PREMISES AND EQUIPMENT
Premises and equipment at March 31 consisted of:
1999 1998
------------ ------------
Buildings $ 6,812,296 $ 5,298,206
Equipment 5,317,024 4,034,632
------------ ------------
12,129,320 9,332,838
Accumulated depreciation (5,270,261) (4,845,137)
------------ ------------
6,859,059 4,487,701
Land 3,046,303 1,558,767
------------ ------------
$ 9,905,362 $ 6,046,468
============ ============
NOTE 9 - DEPOSITS
A comparative summary of deposits at March 31 follows (the contractual or
weighted average interest rates are indicated in parentheses):
1999 1998
------------- ------------
Demand deposits
Savings (3.38%, 3.45%) $ 33,899,713 $ 32,409,140
Checking (1.67%, 1.68%) 29,955,999 25,033,979
Checking (noninterest-bearing) 6,030,815 4,140,517
Money market (3.42%, 3.51%) 17,364,925 16,593,831
Ultimate Money Market
(3.95%, 4.42%) 48,848,798 38,871,298
------------- ------------
136,100,250 117,048,765
------------- ------------
Time certificates of deposit
Less than 6.00% 316,663,573 298,913,335
6.00% to 7.99% 27,049,978 30,185,878
8.00% to 9.99% 1,305,197 3,977,080
------------- ------------
345,018,748 333,076,293
------------- ------------
Total deposits $ 481,118,998 $450,125,058
============= ============
Time deposit accounts of $100,000 or more amount to $86,027,981 and
$81,482,382 at March 31, 1999 and 1998, respectively.
30
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 9 - DEPOSITS (Continued)
Time certificate of deposit maturities at March 31 are as follows:
1999
-----------------------------------------
Variable Fixed
Rate Rate Total 1997
----------- ------------ ------------ ------------
Within one year $ 4,604,131 $229,995,741 $234,599,872 $239,740,538
One to two years 1,815,509 50,693,873 52,509,382 33,086,263
Two to three years 475,154 7,303,306 7,778,460 11,859,815
Three to four years 987,801 4,796,498 5,784,299 5,316,916
Four to five years 7,734,496 9,311,228 17,045,724 5,081,293
Over five years 6,636,249 20,664,762 27,301,011 37,991,468
------------ ------------ ------------ ------------
$ 22,253,340 $322,765,408 $345,018,748 $333,076,293
============ ============ ============ ============
The terms of variable rate CDs allow customers to make additional deposits to
existing CDs at any time.
The weighted average nominal interest rate on all deposits at March 31, 1999
and 1998 is 4.95 percent and 5.08 percent, respectively.
Interest expense on deposits for the years ended March 31 is summarized as
follows:
1999 1998 1997
----------- ----------- -----------
Money market $ 2,264,215 $ 2,217,726 $ 2,169,938
Checking 488,125 461,249 427,690
Savings 1,018,023 1,064,260 1,039,920
Certificates of deposit 19,005,826 18,492,165 17,194,752
----------- ----------- -----------
$22,776,189 $22,235,400 $20,832,300
=========== =========== ===========
NOTE 10 - SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
The Bank has sold certain securities of the U.S. Government and its agencies
and other approved investments under agreements to repurchase. The securities
underlying the agreements were held by a safekeeping agent not under control
of the Bank. Securities sold under agreements to repurchase were $14,800,000
as of March 31, 1999, with interest rates ranging from 4.89% to 5.30%. The
Company has collateralized these agreements with mortgage-backed securities
totaling approximately $16 million. Maturities for the repurchase agreements
are $4,910,000 in June 1999, $4,890,000 in December 1999, and $5,000,000 in
September 2000.
NOTE 11 - OTHER BORROWED FUNDS
The bank is a member of the Federal Home Loan Bank (FHLB) of Seattle. As a
member, the Bank has a committed line of credit up to 20% of total assets,
subject to the Bank pledging sufficient collateral and maintaining the
required stock investment. At March 31, 1999, committed lines of credit
agreements totaling approximately $91 million were available to the Bank, of
which, $5 million was outstanding at year end. The advance bears interest at
5.03% per annum and matures August 1999.
31
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 12 - INCOME TAX
Deferred income tax results from temporary differences in the recognition of
income and expense for tax and financial statement purposes. The source of
these differences and the related tax effects for the years ended March 31 are
as follows:
1999 1998 1997
---------- ---------- ----------
Deferred loan fees $ (117,893) $ (766,610) $ (897,980)
Loan loss and general reserves 488,792 85,224 53,984
Deferred compensation (5,066) (5,100) 70,187
Other, net (26,833) (3,514) (51,191)
---------- ---------- ----------
$ 339,000 $ (690,000) $ (825,000)
========== ========== ==========
The nature and components of the Company's net deferred tax assets
(liabilities), established at an estimated tax rate of 34 percent, are as
follows at March 31:
1999 1998
----------- -----------
Deferred Tax Assets
Deferred compensation agreements $ 428,000 $ 435,000
Financial reporting accrued expenses
not recognized for tax purposes 276,000 275,000
----------- -----------
Total deferred assets 704,000 710,000
Deferred Tax Liabilities ----------- -----------
Deferred loan fees for tax purposes
in excess of amounts deferred for
financial reporting purposes (605,000) (485,000)
Tax based loan loss deductions not
recognized for financial reporting (798,000) (1,290,000)
Tax effect of unrealized gains on
available-for-sale securities (1,647,094) (1,615,348)
Other deferred tax liabilities (226,380) (199,380)
----------- -----------
Total deferred liabilities (3,276,474) (3,589,728)
----------- -----------
Net deferred tax assets (liabilities) $(2,572,474) $(2,879,728)
=========== ===========
The Company believes, based upon the available evidence, that all deferred
assets will be realized in the normal course of operations. Accordingly,
these assets have not been reduced by a valuation allowance.
A reconciliation of the Company's income tax provision to the statutory
federal income tax rate for the years ended March 31 is as follows:
1999 1998 1997
----------- ----------- -----------
Provision for income tax at the
statutory rate of 35 percent $ 4,581,312 $ 4,352,787 $ 4,130,040
Increase (decrease) in tax
resulting from
Income taxed at lower bracket (130,895) (124,365) (118,002)
Dividends received deduction (15,129) (18,638) (17,891)
Other, net 21,174 4,873 2,546
----------- ----------- -----------
Income tax provision $ 4,456,462 $ 4,214,657 $ 3,996,693
=========== =========== ===========
32
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 12 - INCOME TAX (Continued)
For fiscal years 1996 and 1995, the Company was allowed a bad debt deduction
of 8 percent of taxable income, subject to certain limitations. During 1997
a tax law change eliminated this tax deduction, and, in addition, requires the
Company to recapture and pay taxes on these deductions taken after fiscal
year ended March 31, 1988. The Company has previously recorded deferred tax
liabilities to account for this obligation. Therefore, the Company believes
retroactive effects of this law change will not be significant. The
cumulative tax-basis bad debt deduction as of March 31, 1999 and 1998
was approximately $5,337,000 and $6,404,000, respectively. If any portion
of this amount is subsequently used for purposes other than to absorb loan
losses, that portion will be subject to federal income tax at the then
prevailing tax rate.
NOTE 13 - BENEFIT PLANS
Defined Benefit Retirement Plan - The Company has a noncontributory defined
benefit retirement plan which covers all full-time employees with one year of
continuous service who were also eligible to participate as of December 31,
1992. Effective January 1, 1993, the Company curtailed the enrollment of new
participants to the plan. Concurrent with the curtailment, the plan fiscal
year end was changed to December 31. Contributions to the plan are based upon
the Projected Unit Credit actuarial funding method.
During fiscal year 1999, the Company began steps necessary to terminate the
plan, including seeking approval for termination from the Internal Revenue
Service. The Company expects to complete the steps necessary to terminate the
plan in the next fiscal year, at which time all assets of the plan will be
distributed to participants either through the purchase of a retirement
annuity or rolled into the participant's 401(k) account.
The plan's funded status as of December 31, 1999, 1998 and 1997 was as
follows:
December 31,
---------------------------------------
1999 1998 1997
----------- ----------- -----------
Change in benefit obligation
Benefit obligation at beginning
of year $ 3,327,085 $ 3,081,040 $ 2,883,175
Service cost 128,064 124,996 128,641
Interest cost 197,091 182,027 170,244
Plan curtailment (823,569) - -
Actuarial gain 311,008 42,802 (2,179)
Benefits paid 99,947 (103,780) (98,841)
Benefit obligation at end of ----------- ----------- -----------
year 3,039,732 3,327,085 3,081,040
----------- ----------- -----------
Change in plan assets
Fair value of plan assets at
beginning of year 2,667,341 2,340,028 2,041,493
Actual return on plan assets 380,811 214,496 234,504
Plan contributions 208,321 216,597 162,872
Benefits paid (99,947) (103,780) (98,841)
Fair value of plan assets at ----------- ----------- -----------
end of year 3,156,526 2,667,341 2,340,028
----------- ----------- -----------
Funded status 116,794 (659,744) (741,012)
Unrecognized net actuarial loss - 446,484 493,996
Unrecognized transition obligation - (70,882) (89,373)
Unrecognized prior service cost - (103,436) (116,801)
----------- ----------- -----------
Prepaid (accrued) benefit
cost $ 116,794 $ (387,578) $ (453,190)
=========== =========== ==========
33
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 13 - BENEFIT PLANS (Continued)
December 31,
----------------------------------------
1999 1998 1997
----------- ----------- -----------
Components of net periodic
benefit cost:
Service cost $ 128,064 $ 124,996 $ 128,641
Interest cost 197,091 182,027 170,244
Expected return on plan
assets (160,753) (141,356) (123,847)
Recognized net (gain)/loss 11,229 17,174 24,291
Amortization of prior
service cost (13,365) (13,365) (13,365)
Amortization of transition
obligation (18,491) (18,491) (18,491)
Recognizition of prior
service costs (349,755) - -
Recognized (gain)/loss of
curtailment (90,071) - -
----------- ----------- -----------
Net periodic benefit cost $ (296,051) $ 150,985 $ 167,473
=========== =========== ===========
The weighted average assumptions
used were as follows:
1999 1998 1997
----------- ----------- -----------
Discount rate 5.25 % 6 % 6 %
Rate of increase in
compensation levels - % 5 % 5 %
Expected long-term rate of
return on plan assets 6.00 % 6 % 6 %
(b) Deferred Compensation Plan - The Company has entered into deferred
compensation agreements with certain of its officers. The agreements provide
for additional retirement benefits payable over a twelve to seventeen year
period following retirement. In connection with these agreements, the Company
has acquired life insurance policies on the individual officers covered by the
deferred compensation agreements. At March 31, 1999 and 1998, the cash
surrender values of these policies included in other assets aggregated
$1,796,484 and $1,667,504, respectively.
Deferred compensation expense amounted to $72,000, $71,900 and $293,521 in
1999, 1998 and 1997, respectively.
(c) Profit Sharing Arrangement - The Company has a profit sharing arrangement
with employees meeting certain service requirements. Payments made to
employees pursuant to the arrangement are based upon earnings, growth in
deposits and attainment of certain corporate objectives. Costs of the
arrangement were $351,144, $338,536 and $412,829 for 1999, 1998 and 1997,
respectively.
(d) Employee Stock Ownership Plan - The Company has a noncontributory
employee stock ownership plan (ESOP) for those employees who have completed a
minimum of two years of service. The Company's contribution is determined
annually by the Board of Directors. Participants receive distributions from
the ESOP only in the event of retirement, disability or termination of
employment. The primary purpose of the ESOP is to acquire shares of the
Company's common stock on behalf of ESOP participants.
In April 1996, the Company issued a new loan to the ESOP in the amount of
$500,000, to purchase 40,000 shares of common stock in the open market. The
loan is to be repaid over a period of ten years, with annual payments
including interest due on March 31. The ESOP shares initially were pledged as
collateral for its debt. As the obligation is reduced, shares are released
from collateral and allocated to the participants' accounts at a rate of 10% a
year. In May 1997, the Company issued a 15% stock dividend which added an
additional 5,400 shares to the unallocated ESOP shares. The ESOP shares as
of March 31 were as follows:
35
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 13 - BENEFIT PLANS (Continued)
1999 1998 1997
----------- ----------- -----------
Number of shares
Allocated shares 13,200 8,600 4,000
Shares released for allocation 4,600 4,600 4,000
Unallocated shares 32,200 36,800 36,000
----------- ----------- -----------
Total ESOP shares 45,400 45,400 40,000
=========== =========== ===========
Fair Value
Unallocated shares $ 426,650 $ 687,700 $ 576,000
=========== =========== ===========
Dividends paid on unallocated shares of stock are reinvested and the new
shares purchased are allocated to the participants. Compensation expense for
the ESOP plan is based upon the fair value of shares committed to be released
each year.
(e) 401(k) Plan - Effective January 1, 1993, the Company adopted a defined
contribution 401(k) retirement and savings plan (the "Plan") covering
substantially all employees. The Company contributes three percent of
participating employee's eligible salary to the Plan and a discretionary
amount determined annually by the Board of Directors. Total contributions to
the Plan amounted to $174,463, $125,609 and $118,577 for the years ended March
31, 1999, 1998 and 1997, respectively.
NOTE 14 - STOCKHOLDERS' EQUITY
(a) Capital Requirements - The Corporation and Bank are 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 Corporation's
financial statements. Under capital adequacy guidelines on the regulatory
framework for prompt corrective action, the Corporation must meet specific
capital adequacy guidelines that involve quantitative measures of each
entity's assets, liabilities, and certain off-balance-sheet items as
calculated under regulatory accounting practices. Capital classifications are
also subject to qualitative judgments by the regulators about components,
risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require maintenance of minimum amounts and ratios (set forth in the table
below in thousands) of total and Tier 1 capital (as defined in the
regulations) to risk-weighted assets, and of Tier 1 capital to average
assets. Management believes, as of March 31, 1999, that each entity meets all
capital adequacy requirements to which they are subject.
As of August 21, 1998, the most recent notification from the Bank's regulator
categorized the Bank as well capitalized under the regulatory framework for
prompt corrective action. To be categorized as well capitalized, the Bank must
maintain minimum total risk-based, Tier 1 risk-based, and Tier 1 leverage
ratios as set forth in the table. There are no conditions or events since
that notification that management believes have changed the institution's
category.
35
<PAGE>
<TABLE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 14 - STOCKHOLDERS' EQUITY (Continued)
To be Well Capitalized
For Capital Under Prompt Corrective
Actual Adequacy Purposes Action Provisions
-------------------- ---------------------- ------------------------
Amount Ratio Amount Ratio Amount Ratio
--------- --------- ---------- ---------- ----------- ----------
<S> <C> <C> <C> <C> <C> <C>
As of March 31, 1999
Total Capital
(to Risk Weighted
Assets) Greater/less Greater/less
Consolidated $ 91,560 27.50% $ 26,640 than 8.00% $ 33,299 than 10.00%
Greater/less Greater/less
Horizon Bank $ 89,487 26.11% $ 27,420 than 8.00% $ 34,275 than 10.00%
Tier I Capital
(to Risk Weighted
Assets) Greater/less Greater/less
Consolidated $ 86,489 25.97% $ 13,320 than 4.00% $ 19,980 than 6.00%
Greater/less Greater/less
Horizon Bank $ 86,596 25.26% $ 13,710 than 4.00% $ 20,565 than 6.00%
Tier I Capital
(to Average Assets) Greater/less Greater/less
Consolidated $ 86,489 14.62% $ 23,663 than 4.00% $ 29,579 than 5.00%
Greater/less Greater/less
Horizon Bank $ 86,596 14.64% $ 23,666 than 4.00% $ 29,582 than 5.00%
</TABLE>
<TABLE>
To be Well Capitalized
For Capital Under Prompt Corrective
Actual Adequacy Purposes Action Provisions
-------------------- ---------------------- ------------------------
Amount Ratio Amount Ratio Amount Ratio
--------- --------- ---------- ---------- ----------- ----------
<S> <C> <C> <C> <C> <C> <C>
As of March 31,
1998
Total Capital
(to Risk Weighted
Assets) Greater/less Greater/less
Consolidated $ 83,956 28.4% $ 23,601 than 8.0% $ 29,501 than 10.00%
Greater/less Greater/less
Horizon Bank $ 83,848 28.4% $ 23,599 than 8.0% $ 29,499 than 10.00%
Tier I Capital
(to Risk Weighted
Assets) Greater/less Greater/less
Consolidated $ 81,259 27.5% $ 11,800 than 4.0% $ 17,700 than 6.00%
Greater/less Greater/less
Horizon Bank $ 81,151 27.5% $ 11,799 than 4.0% $ 17,699 than 6.00%
Tier I Capital
(to Average Assets) Greater/less Greater/less
Consolidated $ 81,259 15.3% $ 21,250 than 4.0% $ 26,562 than 5.00%
Greater/less Greater/less
Horizon Bank $ 81,151 15.3% $ 21,249 than 4.0% $ 26,561 than 5.00%
</TABLE>
(b) Holding Company Loans - Under federal regulations, the Bank is limited,
unless previously approved, as to the amount it may loan to the holding
company and any one affiliate to 10 percent of its capital stock and surplus,
and the total of loans to the holding company and affiliates must not exceed
20 percent of capital and surplus. Further, all such loans must be fully
collateralized.
(c) Dividend Reinvestment Plan - As a service to its stockholders of record,
the Bank offers a Dividend Reinvestment and Stock Purchase Plan ("Reinvestment
Plan"). Under the terms of the Reinvestment Plan, dividends and optional cash
payments may be reinvested toward the purchase of additional shares of stock.
No brokerage commission or fees are charged to acquire shares through the
Reinvestment Plan.
(d) Stock Repurchase Plans - During fiscal year 1998, the Company announced a
plan to repurchase up to 747,000 shares or approximately 10% of the Company's
outstanding common stock. During fiscal 1999, 13,900 shares were repurchased
under this plan at a cost of $203,838. In January 1999 the Company entered
into a definitive merger agreement with Bellingham Bancorporation, and in
connection with this agreement the Company subsequently canceled the
repurchase plan. Pursuant to an earlier plan, the Company repurchased 249,090
shares for a total amount of $2,898,631.
36
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 14 - STOCKHOLDERS' EQUITY (Continued)
(e) Stock Option and Incentive Plans - The Company may award options for a
maximum of 414,000 as restated, of authorized common stock to certain
officers and key employees under the 1995 Stock Option and Incentive Plan.
Options are granted at no less than fair market value and may or may not vest
immediately upon issuance based on the terms established by the Board of
Directors. Options are generally exercisable within three to five years
from date of grant and expire after 10 years.
Stock options outstanding also include shares issued under the 1986 Stock
Option and Incentive Plan. Options under this plan were granted at fair
market value, vest at 20 to 35 percent per year, are exercisable from one to
five years and expire after 10 years. There are no additional options to be
granted under this plan. Pro forma information regarding net income and
earnings per share is required by Statement of Financial Accounting Standards
No. 123 Accounting for Stock-Based Compensation. The pro forma information
recognizes, as compensation, the value of stock options granted using an
option valuation model known as the Black Scholes model. Pro forma
earnings per share amounts also reflect an adjustment for an assumed purchase
of treasury stock from proceeds deemed obtained from the issuance of stock
options. The fair value for options issued in 1997 and 1998 is estimated at
$12,401 and $90,307. he fair value of options issued in 1999 is estimated at
$497,788. The following assumptions were used to estimate the fair value of
the options:
1999 1998 1997
------ ------- ------
Risk-free interest rate 5.18 % 5.66 % 6.71 %
Dividend yield rate 2.827 % 5.117 % 5.263 %
Price volatility 0.2482 .2542 .2227
Weighted average expected
life of options 3.65 yr. 3.78 yr. 4.07 yr.
Management believes that the assumptions used in the option pricing model are
highly subjective and represent only one estimate of possible value, as there
is no active market for the options granted. The fair value of the options
granted in 1997, 1998 and 1999 will be allocated to pro forma earnings over
the vesting period of the options. Accordingly, until the provisions for SFAS
123 are recognized for all years for which options have been granted, pro
forma earnings will likely reflect an increasing amount of compensation
expense resulting from the stock options.
Pro forma disclosures:
1999 1998 1997
------ ------- ------
Net income as reported $ 8,633,001 $ 8,221,877 $ 7,803,420
Additional compensation for
fair value of stock options (294,846) (170,399) (147,823)
----------- ----------- -----------
Pro forma net income $ 8,338,155 $ 8,051,478 $ 7,655,597
=========== =========== ===========
Earnings per share
Basic
As reported $ 1.15 $ 1.ll $ 1.04
======== ======== ========
Pro forma $ 1.11 $ 1.08 $ 1.02
======== ======== ========
Diluted
As reported $ 1.14 $ 1.09 $ 1.03
======== ======== ========
Pro forma $ 1.10 $ 1.07 $ 1.01
======== ======== ========
37
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 14 - STOCKHOLDERS' EQUITY (Continued)
Shares of Common Stock
-------------------------- Weighted Average of
Available for Under Exercise Price of
Option/Award Plan Shares Under Plan
------------ ------------ ------------------
- --
Balance, March 31, 1996 241,272 379,790
Authorized - -
Granted (5,750) 5,750 11.685
Exercised - (53,731) 2.983 - 12.648
Lapsed 19,552 (19,552) 2.983 - 12.648
Expired (9,049) -
------------ ------------
Balance, March 31, 1997 246,025 312,257
Authorized - -
Granted (25,500) 25,500 18.625
Exercised - (62,369) 6.983 - 12.648
Lapsed 11,252 (11,252) 6.983 - 12.648
Expired (7) -
------------ ------------
Balance, March 31, 1998 231,770 264,136
Authorized - -
Granted (156,700) 156,700 12.813 - 13.25
Exercised - (8,764) 6.983 - 12.648
Lapsed 32,514 (32,514) 6.983 - 12.648
Expired (1,164) -
------------ ------------
Balance, March 31, 1999 106,420 379,558
============ ============
Options Outstanding Options Exercisable
----------------------------------- ---------------------
- -
Weighted
Average Weighted
Range of Remaining Average Average
Exercise Number Contractual Exercise Number
Exercise
Prices Outstanding Life Price Exercisable Price
---------- ----------- ----------- -------- ----------- -----
- ---
$5 to $10 80,412 2.404 years $ 7.77 80,412 $ 7.77
$10 to $15 299,145 8.107 years 11.93 109,421 11.02
At March 31, 1999, 485,977 shares of common stock were reserved for issuance
pursuant to stock plans, options and conversions of preferred stock.
38
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 15 - EARNINGS PER SHARE
The numerators and denominators of basic and diluted earnings per share are as
follows:
1999 1998 1997
----------- ----------- -----------
Net income (numerator) $ 8,633,001 $ 8,221,877 $ 7,803,420
Shares used in the calculation
(denominators)
Basic earnings per share
weighted average shares
outstanding 7,491,280 7,435,782 7,478,666
Effect of dilutive stock
options 85,993 108,481 71,688
----------- ----------- -----------
Diluted shares 7,577,273 7,544,263 7,550,354
=========== =========== ===========
Basic earnings per share $ 1.15 $ 1.11 $ 1.04
======= ======= =======
Diluted earnings per share $ 1.14 $ 1.09 $ 1.03
======= ======= =======
NOTE 16 - COMMITMENTS AND CONTINGENCIES
(a) Employment Agreement - The Company has entered into a four-year
employment agreement with the Company's president at an amount approximating
his current level of compensation. In the event of specified terminations of
the president's employment following a change in control of the Company (as
defined), the agreement provides the president with severance payments of up
to three times his annual compensation plus continuation of certain benefits.
(b) Contingency Reserve - The Company has a contingency reserve of $211,323
recorded to reflect the estimated impairment of value related to pension plan
assets invested with Mutual Benefit Life Insurance Company. The Company plans
to honor its pension commitments and, after reviewing all of the available
information, has reserved approximately 7 percent of the plan's asset values
to reflect this commitment.
(c) Long-Term Lease Commitments - The Company has entered into lease
agreements for three branch offices located in Snohomish County, Washington.
Future noncancelable lease payments under these agreements are as follows for
the years ending March 31:
2000 $ 80,026
2001 19,936
-----------
$ 99,962
===========
(d) Construction Commitment - The Company entered into a construction
contract for approximately $2 million to build a new branch office located in
Bellingham, Washington. As of March 31, 1999 the Company had incurred
approximately $300,000 of costs related to the construction.
NOTE 17 - SIGNIFICANT GROUP CONCENTRATIONS OF CREDIT RISK
Most of the Bank's business activity is with customers located within Whatcom,
Skagit and Snohomish Counties. Investments in state and municipal securities
involve governmental entities within the state of Washington. The Bank
originates commercial, real estate and consumer loans. Generally, loans are
secured by deposit accounts, personal property or real estate. Rights to
collateral vary and are legally documented to the extent practicable.
Although the Bank has a diversified loan portfolio, local economic conditions
may affect borrowers' ability to meet the stated repayment terms.
39
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 18 - FINANCIAL INSTRUMENTS
The Bank is a party to financial instruments with off-balance-sheet risk (loan
commitments) in the normal course of business to meet the financing needs of
its customers and to reduce its own exposure to fluctuations in interest
rates. Loan commitments involve, to varying degrees, elements of credit and
interest-rate risk in excess of the amount recognized in the balance sheet.
The contract amounts of those commitments reflect the extent of the Bank's
exposure to credit loss from these commitments. The Bank uses the same credit
policies in making commitments and conditional obligations as it does for
on-balance-sheet instruments.
Loan commitments are agreements to lend to a customer 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 Bank's experience has been that substantially all loan
commitments are drawn upon by customers. Collateral held usually includes
single family residential property and income producing commercial properties.
The Bank has not incurred any losses on its commitments in 1999, 1998 or 1997.
Loan commitments outstanding were $16,237,726 in 1999, $23,467,932 in 1998
and $2,523,820 in 1997.
NOTE 19 - DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate the fair value of
the following classes of financial instruments:
Cash Equivalents and Federal Funds Sold - Due to the relatively short period
of time between the origination of these instruments and their expected
realization, the carrying amount is estimated to approximate market value.
Accrued Income and Expense Accounts - Due to the short-term nature of these
amounts, recorded book value is believed to approximate fair value.
Investment and Mortgage-Backed Securities, and Loans Held-for-Sale - For
securities and loans held-for-sale, fair values are based on quoted market
prices or dealer quotes, if available. If a quoted market price is not
available, fair value is estimated using quoted market prices for similar
securities.
Federal Home Loan Bank ("FHLB") Stock - FHLB Stock is carried at $100 par
value. This investment is considered restricted as a minimum investment must
be maintained in order to obtain borrowing commitments from FHLB. The Company
may redeem its investment only at par value, which is used as the estimated
market value.
Loan Receivables - For certain homogeneous categories of loans, such as those
written to Federal Home Loan Mortgage Corporation ("FHLMC") standards, fair
value is estimated using the quoted market prices for securities backed by
similar loans, adjusted for differences in loan characteristics. For variable
rate loans that reprice frequently and with no significant change in credit
risk, fair values are based on carrying values.
Deposit Liabilities, Repurchase Agreements and Other Borrowed Funds - The fair
value of demand deposits, savings accounts, certain money market deposits, and
federal funds purchased, is the amount payable on demand at the reporting
date. The fair value of fixed-maturity certificates of deposit, repurchase
agreements and other borrowed funds are estimated by discounting the estimated
future cash flows using the rates currently offered for these instruments
with similar remaining maturities.
Off-Balance-Sheet Instruments - The Company's off-balance-sheet instruments
include unfunded commitments to extend credit and borrowing facilities
available to the Company. The fair value of these instruments is not
considered practicable to estimate because of the lack of quoted market price
and the inability to estimate fair value without incurring excessive costs.
40
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 19 - DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS (Continued)
The carrying amounts and estimated fair values of the Bank's financial
instruments at March 31, 1999 and 1998 are as follows:
1999 1998
-------------------------- -------------------------
Carrying Carrying
Amount Fair Value Amount Fair Value
------------- ------------ ----------- ----------
- --
Financial Assets
Cash and cash
equivalents $ 7,781,073 $ 7,781,073 $ 6,878,615 $ 6,878,615
Investment
securities 26,041,501 26,081,374 35,799,693 35,861,563
Mortgage-backed
securities 54,846,398 55,095,847 48,840,520 49,096,462
Interest-bearing
deposits 8,052,381 8,052,381 9,980,349 9,980,349
Federal Home Loan
Bank stock 4,563,600 4,563,600 - -
Loans receivable 484,544,820 488,642,223 433,697,267 438,828,229
Accrued interest
and dividends
receivable 3,739,470 3,739,470 3,678,614 3,678,614
Financial Liabilities
Demand and savings
deposits 136,100,250 136,100,250 117,048,765 117,048,765
Time deposits 345,018,748 347,707,798 333,076,293 334,751,011
Accounts payable
and accrued
liabilities 5,776,033 5,776,033 7,774,742 7,774,742
Accrued interest
payable 148,523 148,523 151,083 151,083
Securities sold
under agreements
to repurchase 14,800,000 14,787,000 - -
Other borrowed funds 5,000,000 4,998,500 - -
NOTE 20 - PARENT COMPANY (ONLY) FINANCIAL INFORMATION
In Thousands
---------------------
1999 1998
---------- ----------
Condensed balance sheet at March 31:
Cash $ 43 $ 257
Investment in bank 89,794 83,737
Other assets 739 723
-------- --------
$ 90,576 $ 84,717
======== ========
Other liabilities $ 826 $ 822
Stockholders' equity 89,750 83,895
-------- --------
$ 90,576 $ 84,717
======== ========
41
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 20 - PARENT COMPANY (ONLY) FINANCIAL INFORMATION (Continued)
Condensed statement of income for the years ended March 31, 1999 and 1998:
In Thousands
-----------------------
1999 1998
-------- --------
Income
Cash dividends from Bank subsidiary $ 2,989 $ 5,742
-------- --------
Expenses
Compensation 104 91
Other 264 260
-------- --------
Total expenses 368 351
Income before equity in undistributed -------- --------
income of subsidiary and benefit
equivalent to income taxes 2,621 5,391
Benefit equivalent to income taxes 67 89
Income before equity in undistributed -------- --------
income of subsidiary 2,676 5,480
Equity in undistributed income of subsidiary 5,945 2,742
-------- --------
Net income 8,633 8,222
======== ========
In Thousands
-----------------------
1999 1998
-------- --------
Cash flows from operating activities
Net income $ 8,633 $ 8,222
Adjustments to reconcile net income to net
cash flows from operating activities
Equity in undistributed income of
subsidiary (5,945) (2,742)
Other operating activities (12) (212)
Net cash flows from operating -------- --------
activities 2,688 5,268
Cash flows from financing activities -------- --------
Sale of common stock 612 800
Dividends paid (3,298) (6,197)
Repurchase of common stock (204) -
-------- --------
Net cash flows from financing activities (2,890) (5,397)
-------- --------
Net change in cash (214) (129)
Cash, beginning of year 257 386
-------- --------
Cash, end of year $ 43 $ 257
======== ========
42
<PAGE>
HORIZON FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999, 1998 and 1997
NOTE 21 - SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
<TABLE>
Year Ended March 31, 1999
-------------------------------------------------------------------
1st Quarter 2nd Quarter 3rd Quarter 4th Quarter
------------ ------------ ------------- -------------
<S> <C> <C> <C> <C>
Interest income $ 10,609,112 $ 10,665,795 $ 10,974,595 $ 10,953,906
Interest expense 5,754,285 5,856,933 5,886,368 5,778,800
------------ ------------ ------------- -------------
Net interest income 4,854,827 4,808,862 5,088,227 5,175,106
Provision for loan losses 320,000 - 75,000 -
Other income 662,922 456,704 381,327 463,410
Other expenses 1,953,592 2,019,111 2,102,160 2,332,069
Income from continuing ------------ ------------ ------------- -------------
operations before income tax 3,244,157 3,246,455 3,292,394 3,306,447
Federal income tax 1,101,091 1,101,754 1,118,082 1,135,535
------------ ------------ ------------- -------------
Net income $ 2,143,066 $ 2,144,701 $ 2,174,312 $ 2,170,922
============ ============ ============= =============
Basic earnings per share
(adjusted for stock
splits and dividends) $ .29 $ .29 $ .29 $ .29
====== ====== ====== ======
Diluted earnings per share
(adjusted for stock
splits and dividends) $ .28 $ .28 $ .29 $ .29
====== ====== ====== ======
</TABLE>
<TABLE>
Year Ended March 31, 1998
-------------------------------------------------------------------
1st Quarter 2nd Quarter 3rd Quarter 4th Quarter
------------ ------------ ------------- -------------
<S> <C> <C> <C> <C>
Interest income $ 9,942,613 $ 10,095,188 $ 10,371,826 $ 10,491,287
Interest expense 5,387,132 5,598,327 5,679,271 5,570,670
------------ ------------ ------------- -------------
Net interest income 4,555,481 4,496,861 4,692,555 4,920,617
Provision for loan losses 30,000 150,000 - 175,000
Other income 282,002 721,811 234,509 452,951
Other expenses 1,795,176 1,972,764 1,788,079 2,009,234
------------ ------------ ------------- -------------
Income from continuing
operations before income tax 3,012,307 3,095,908 3,138,985 3,189,334
Federal income tax 1,021,259 1,047,837 1,065,245 1,080,316
------------ ------------ ------------- -------------
Net income $ 1,991,048 $ 2,048,071 $ 2,073,740 $ 2,109,018
============ ============ ============= =============
Basic earnings per share
(adjusted for stock
splits and dividends) $ .27 $ .28 $ .28 $ .28
Diluted earnings per share ====== ====== ====== ======
(adjusted for stock
splits and dividends) $ .26 $ .27 $ .28 $ .28
====== ====== ====== ======
</TABLE>
NOTE 22 - SUBSEQUENT EVENT
In January 1999, the Corporation entered into a definitive merger agreement
with Bellingham Bancorporation. The merger agreement is subject to approval
by various federal and state agencies and the satisfaction of certain
contingencies contained in the merger agreement. The merger, if consummated
under the proposed terms, would be accounted for as a pooling-of-interests
and would result in the Corporation issuing approximately 1.1 million shares
of its common stock, including shares issuable upon the exercise of
outstanding stock options and warrants. Total assets of Bellingham
Bancorporation as of September 30, 1998 and 1997, at its most recent fiscal
year ends, were $64 million and $55 million, respectively. Net income for
these same periods were $734,000 and $641,000, respectively.
43
<PAGE>
"This page left intentionally blank."
44
<PAGE>
DIRECTORS AND OFFICERS
===============================================================================
<TABLE>
<S> <C> <C>
DIRECTORS Carla J. Williams
V. Lawrence Evans Vice President
President & Chief Executive Officer
Robert C. Diehl Donald A. Wolf
Diehl Ford, Inc., a car dealership. Kelli J. Holz, CPA Vice President
Vice President
V. Lawrence Evans Theresa A. Aiello
President & Chief Executive Officer Richard P. Jacobson Assistant Vice President
Horizon Financial Corp. Vice President & Corporate Secretary
Donald J. Anderson
Gary E. Goodman Karen A. LePage Assistant Vice President
Tosco Refinery, Inc., an oil refinery. Vice President
Tammy D. Barnett
George W. Gust OFFICERS OF Assistant Vice President
Chairman of the Board HORIZON BANK
Horizon Financial Corp. Marie A. Collings
V. Lawrence Evans Assistant Vice President
Richard R. Haggen Chairman of the Board
Haggen, Inc., a grocery chain. President & Chief Executive Officer David M. Eldred
Assistant Vice President
Fred R. Miller Richard P. Jacobson
Former owner of Skagit Senior Vice President & Nancy A. Graham
Bonded Collectors, Inc., Corporate Secretary Assistant Vice Preisent
a collection agency.
Karla C. Lewis Sandra L. Hain
L.M. (Larry) Strengholt Senior Vice President Assistant Vice President
Stengholt Construction Co., Inc.,
a general building contractor Judy E. Boxx Majorie K. LaValley
Vice President Assistant Vice President
Frank Uhrig
Yeagers, Inc., a sporting goods store. Kelli J. Holz, CPA Claudia B. Jonas
Vice President Assistant Vice President
DIRECTORS EMERITUS
Jeffrey Jansen Teresa A. Ledford
John H. Dunkak III Vice President Assistant Vice President
Robert E. Ebright, DVM
Howard E. Mitchell, PH.D. Karen A. LePage Dale R.C. Oliver
Morris Tarte Vice President Assistant Vice President
A.E. (Al) Williamson
Sandra R. Mathewson Carol A. Whelchel
OFFICERS OF HORIZON Vice President Assistant Vice President
FINANCIAL CORP.
Merwyn G. Murk
George W. Gust Vice President
Chairman of the Board
Elizabeth E. (Beth) Sherry
Vice President
=========================================================================================================
45
</TABLE>
<PAGE>
<TABLE>
CORPORATE INFORMATION
=========================================================================================================
<S> <C> <C>
Corporate Headquarters Stockholder Information 40 Wall Street
Bellingham & Dividend Reinvestment New York, NY 10005
Cornwall Office David Eldred (800) 278-4353
1500 Cornwall Avenue Assistant Vice President
Bellingham, WA 98225 & Investor Relations Manager
(360) 733-3050 Horizon Financial Corp. Stock Prices and Dividend Information
P.O. Box 580 Horizon Financial Corp.'s common
Email & Website Bellingham, WA 98227 stock is traded on The NASDAQ
[email protected] (360) 733-3050 National Market under the symbol
www.horizon-bank.com HRZB. The common stock began trading
Annual Meeting on the NASDAQ systems at the time of
Subsidiaries Horizon Financial Corp.'s annual meeting Horizon's conversion to stock form in
Horizon Bank of stockholders will be at 2 p.m. August 1986.
1500 Cornwall Avenue Tuesday, July 27, 1999 at the Best The following table presents the high
Bellingham, WA 98225 Western Lakeway Inn, 714 Lakeway and low prices as reported by the
(360) 733-3050 Drive, Bellingham, WA 98226. NASDAQ stock market and dividends
paid for the last two fiscal years.
Westward Financial Transfer Agent These prices represent quotations by
Services Corp. Request for information concerning the dealers and do not necessarily
Subsidiary of Horizon transfer requirements, dividend represent actual transactions, and do
Bank, payment, lost stock certificates, change not include retail markups, markdowns
1500 Cornwall Avenue of address and other shareholder or commissions. The Corporation has
Bellingham, WA 98225 Matters should be directed to: approximately 5,300 stockholders.
(360) 733-3050
American Stock Transfer 1999 Fiscal Year
Auditors & Trust Company Qtr. High Low Dividend
Moss Adams LLP 40 Wall Street ------------------------------------
114 West Magnolia, New York, NY 10005 4th $15.25 $12.56 $0.11
Suite 301 (800) 937-5449 3rd 14.25 12.00 0.11
Bellingham, WA 98225 2nd 16.50 12.38 0.11
(360) 676-1920 Dividend Reinvestment 1st 18.88 15.25 0.11
As a service to its stockholders of ------------------------------------
Special Counsel record, the Corporation offers a 1998 Fiscal Year
John F. Breyer, Jr. Dividend Reinvestment and Stock Qtr. High Low Dividend
Breyer & Associates PC Purchase Plan. Under the terms of the ------------------------------------
110 New York Ave., NW Plan, dividends and optional cash 4th $19.38 $16.25 $0.51
Suite 700-E payments may be reinvested toward the 3rd 18.50 15.75 0.11
Washington, D.C. 20005 purchase of additional shares of stock. 2nd 16.75 14.50 0.11
(202) 737-7900 No brokerage commission or fees are 1st 16.63 11.74 0.10
charged to acquire shares through the ------------------------------------
General Counsel Plan. For a Plan prospectus, or to
John S. Ludwigson enroll in the Plan, please contact the Dividend Policy
Ludwigson, Thompson, American Stock Transfer & Trust Horizon Financial Corp. historically
Hayes & Bell Company Dividend Reinvestment has paid cash dividends on its common
119 N. Commercial Department at the following address: stock. The Corporation must adhere
Bellingham, WA 98225 to certain regulatory requirements
(360) 734-2000 American Stock Transfer governing the distribution of divi-
& Trust Company dends, and there can be no assurance
Financial Information Dividend Reinvestment Department that the Corporation will continue to
Richard P. Jacobson declare cash dividends in the future.
Senior Vice President
& Corporate Secretary
Horizon Financial Corp.
P.O. Box 580
Bellingham, WA 98227
(360) 733-3050
</TABLE>
===============================================================================
46
<PAGE>
<TABLE>
OFFICE LOCATIONS
=========================================================================================================
<S> <C> <C>
Anacortes Everett, WA Mount Vernon
1218 Commercial Avenue (425) 353-9410 1503 Riverside Drive
Anacortes, WA 98221 Steven Heigert Mount Vernon, WA 98290
(360) 293-4571 Office Manager (360) 424-7022
Claudia Jonas Lucille Collazo
Assistant Vice President Ferndale Loan Officer
& Office Manager 2045 Main Street Bill Ketcheside
Carol Watts Ferndale, WA 98248 Loan Officer
Loan Officer (360) 384-1400 John Voth
Terry Aiello Customer Service Manager
Bellingham/Cornwall Assistant Vice President
1500 Cornwall Avenue & Office Manager Snohomish
Bellingham, WA 98225 620 2nd Street
(360) 733-3050 Lynden Snohomish, WA 98290
300 Grover Street (360) 568-1522
Bellingham/Meridian Lynden, WA 98264 Teresa Ledford
4110 Meridian (360) 354-5678ce Manager Assistant Vice President
Bellingham, WA 98226 Jeffrey Jansen & Office Manager
(360) 734-0181 Vice President
Carol Whelchel & Office Manager
Assistant Vice President Joyce Lemperes
& Loan Officer Loan Officer
Blaine Mill Creek
400 H Street 13416 Bothell Everett Highway
Blaine, WA 98230 Suite 201
(360) 332-8333 Mill Creek, WA 98012 Visit our website
Pam Martin (425) 316-6900
Loan Officer Chris Bolyard email: [email protected]
Carol Dean Office Manager www.horizon-bank.com
Customer Service Manager
Burlington
1020 South Burlington Blvd.------------------------------------------------------------------------------
Burlington, WA 98233 No Postage
(360) 757-3200 Necessary if
Tammy Barnett Mailed
Assistant Vice Presient ------------------------------- In the
& Office Manager BUSINESS REPLY CARD United States
Wendy Goodman First Class Permit No. 34 Bellingham, WA
Loan Officer
-------------------------------
Edmonds Postage will be paid by Addressee
315 5th Avenue South
Edmonds, WA 98020 HORIZON BANK
(425) 744-1333 INVESTOR RELATIONS
Sandra Hain PO BOX 580
Assistant Vice President BELLINGHAM, WA 98227-9855
& Office Manager
Everett
909 S.E. Everett Mall Way
Suite E-500
===========================
47
</TABLE>
<PAGE>
Email us
***
[email protected]
***
-----------------------------------
Visit our website
***
www.horizon-bank.com
***
-----------------------------------
- ------------------------------------------------------------
Dividend Reinvestment Information Request
- ------------------------------------------------------------
Please send me information regarding 24 Hour
Telephone
Horizon's Dividend Reinvestment & Stock Purchase Plan. Banking
***
Mailing Address
1.888.512.BANK
***
Name:
------------------------------------------------------
Address:
---------------------------------------------------
City: State: Zip:
--------------------- ------------ ----------
Phone: Fax: E-mail:
----------- ------------------ ------------
How are your shares held?
[ ] I have physical possession of my stock certificates.
[ ] My stock is held by a stock broker or other nominee.
<PAGE>
[Back cover]
[Logo - Horizon Financial Corp.]
<PAGE>
EXHIBIT 21
SUBSIDIARIES OF THE REGISTRANT
Parent
- ------
Horizon Financial Corp.
Jurisdiction
Percentage or State of
Subsidiaries (a) of Ownership Incorporation
- --------------- ------------ --------------
Horizon Bank, a savings bank 100% Washington
Westward Financial
Services, Inc. (b) 100% Washington
- -------------------
(a) The operation of the Corporation's wholly owned subsidiaries are included
in the Consolidated Financial Statements contained in the Annual Report
filed as Exhibit 13 hereto and incorporated herein by reference.
(b) Wholly-owned subsidiary of Horizon Bank, a savings bank.
<PAGE>
EXHIBIT 23
CONSENT OF AUDITORS
<PAGE>
[LETTERHEAD OF MOSS-ADAMS LLP]
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the incorporation by reference in the Registration
Statement on Form S-8 (No. 33-99780) of Horizon Financial Corp. of our report
dated May 7, 1999 appearing in the 1999 Annual Report to Stockholders of
Horizon Financial Corp., which is incorporated by reference in Horizon
Financial Corp.'s Annual Report on Form 10-K for the year ended March 31,
1999.
/s/MOSS ADAMS LLP
Bellingham, Washington
June 25, 1999
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 9
<CIK> 0001002682
<NAME> HORIZON FINANCIAL CORP. EXHIBIT 27
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> MAR-31-1999
<PERIOD-END> MAR-31-1999
<CASH> 7781073
<INT-BEARING-DEPOSITS> 8052381
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 68934171
<INVESTMENTS-CARRYING> 11953728
<INVESTMENTS-MARKET> 12243048
<LOANS> 484544820
<ALLOWANCE> 3956150
<TOTAL-ASSETS> 602125761
<DEPOSITS> 481118998
<SHORT-TERM> 19800000
<LIABILITIES-OTHER> 11456734
<LONG-TERM> 0
0
0
<COMMON> 7771327
<OTHER-SE> 81978702
<TOTAL-LIABILITIES-AND-EQUITY> 602125761
<INTEREST-LOAN> 37449922
<INTEREST-INVEST> 43203418
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 43203418
<INTEREST-DEPOSIT> 22776189
<INTEREST-EXPENSE> 23276386
<INTEREST-INCOME-NET> 19927032
<LOAN-LOSSES> 395000
<SECURITIES-GAINS> 329332
<EXPENSE-OTHER> 8406932
<INCOME-PRETAX> 13089463
<INCOME-PRE-EXTRAORDINARY> 13089463
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 8633001
<EPS-BASIC> 1.15
<EPS-DILUTED> 1.14
<YIELD-ACTUAL> 3.66
<LOANS-NON> 0
<LOANS-PAST> 332624
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 3611150
<CHARGE-OFFS> 395000
<RECOVERIES> 0
<ALLOWANCE-CLOSE> 3956150
<ALLOWANCE-DOMESTIC> 2891400
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 1064750
</TABLE>
