<PAGE> 1
United States
Securities and Exchange Commission
Washington, D.C. 20549
FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarter ended................................September 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from.................... to .................
Commission File No..............................................0-27942
Commonwealth Bancorp, Inc.
----------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Pennsylvania 23-2828883
- ------------ ----------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
Commonwealth Bank Plaza
2 West Lafayette Street
Norristown, Pennsylvania 19401-4758
- ------------------------ ----------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code:
(610) 313-1600
--------------
Indicate by check mark whether the registrant (1) has filed all
reports required by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
--- ---
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date: As of November 6,
1998, there were 18,053,209 issued and 14,720,302 outstanding shares of the
Registrant's Common Stock.
1
<PAGE> 2
Commonwealth Bancorp, Inc. and Subsidiaries
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Item Page
No. No.
--- ---
<C> <S> <C>
PART I - CONSOLIDATED FINANCIAL INFORMATION
1 Consolidated Financial Statements
Consolidated Balance Sheets at September 30, 1998 and December 31, 1997 3
Consolidated Statements of Income for the Quarter and Nine Month
Periods Ended September 30, 1998 and 1997 4
Consolidated Statements of Changes in Shareholders' Equity for the Nine Month
Periods Ended September 30, 1998 and 1997 5
Consolidated Statements of Cash Flows for the Nine Month
Periods Ended September 30, 1998 and 1997 6
Notes to Consolidated Financial Statements 8
2 Management's Discussion and Analysis of Financial Condition and Results of
Operations 12
3 Quantitative and Qualitative Disclosures about Market Risk 25
PART II - OTHER INFORMATION
1 Legal Proceedings 26
2 Changes in Securities 26
3 Default Upon Senior Securities 26
4 Submission of Matters to a Vote of Security Holders 26
5 Other Information 26
6 Exhibits and Reports on Form 8-K 26
</TABLE>
2
<PAGE> 3
Commonwealth Bancorp, Inc. and Subsidiaries
Consolidated Balance Sheets
(in thousands, except share amounts)
<TABLE>
<CAPTION>
September 30, December 31,
1998 1997
------------- ------------
Assets: (Unaudited)
<S> <C> <C>
Cash and due from banks $44,687 $43,251
Interest-bearing deposits - 4,391
Short-term investments available for sale 5,174 6,296
Mortgage loans held for sale 69,202 37,574
Investment securities
Securities available for sale (cost of $32,348
and $50,428, respectively), at market value 32,564 51,326
Mortgage-backed securities
Securities held to maturity (market value of $149,856
and $199,048, respectively), at cost 147,841 196,213
Securities available for sale (cost of $472,652
and $534,573, respectively), at market value 477,514 539,078
Loans receivable, net 1,370,419 1,260,841
Accrued interest receivable, net 12,511 13,271
FHLB stock, at cost 18,400 14,175
Premises and equipment, net 16,984 18,590
Intangible assets 41,120 45,244
Mortgage servicing rights 9,217 8,039
Other assets, including net deferred taxes of $1,277
and $482, respectively 32,092 30,306
------------- ------------
Total assets $2,277,725 $2,268,595
============= ============
Liabilities:
Deposits $1,529,391 $1,552,824
Notes payable and other borrowings:
Secured notes due to Federal Home Loan Bank of Pittsburgh 323,000 213,000
Securities sold under agreements to repurchase 176,133 246,099
Advances from borrowers for taxes and insurance 17,583 24,071
Accrued interest payable, accrued expenses and other
liabilities 40,735 17,749
------------- ------------
Total liabilities 2,086,842 2,053,743
------------- ------------
Commitments and contingencies
Shareholders' equity:
Preferred stock, $0.10 par value; 5,000,000 shares
authorized; none issued - -
Common stock, $0.10 par value; 30,000,000 shares authorized;
18,046,412 shares issued and 14,763,505 outstanding at
September 30, 1998;
17,998,736 shares issued and 16,247,136 outstanding at
December 31, 1997 1,805 1,800
Additional paid-in capital 135,063 133,541
Retained earnings 122,100 117,582
Unearned stock benefit plan compensation (11,151) (12,900)
Unrealized gain on marketable securities, net 3,300 3,512
Treasury stock, at cost; 3,282,907 and 1,751,600
shares (60,234) (28,683)
------------- ------------
Total shareholders' equity 190,883 214,852
------------- ------------
Total liabilities and shareholders' equity $2,277,725 $2,268,595
============= ============
</TABLE>
The accompanying notes are an integral part of these statements.
3
<PAGE> 4
Commonwealth Bancorp, Inc. and Subsidiaries
Consolidated Statements of Income
(in thousands, except share amounts)
<TABLE>
<CAPTION>
For the Quarter For the Nine Months
Ended September 30, Ended September 30,
1998 1997 1998 1997
------------- ------------- -------------- ------------
(Unaudited) (Unaudited)
<S> <C> <C> <C> <C>
Interest income:
Interest on loans $27,346 $24,274 $79,256 $69,378
Interest and dividends on deposits and money
market investments 511 436 1,969 1,590
Interest on investment securities 497 966 1,849 3,214
Interest on mortgage-backed securities 11,517 13,861 36,537 41,928
------------- ------------- -------------- ------------
Total interest income 39,871 39,537 119,611 116,110
Interest expense:
Interest on deposits 14,827 14,942 44,720 43,368
Interest on notes payable and other borrowings 7,242 6,971 21,879 19,356
------------- ------------- -------------- ------------
Total interest expense 22,069 21,913 66,599 62,724
------------- ------------- -------------- ------------
Net interest income 17,802 17,624 53,012 53,386
Provision for loan losses 1,000 300 2,500 900
------------- ------------- -------------- ------------
Net interest income after provisions for
loan losses 16,802 17,324 50,512 52,486
Noninterest income:
Deposit fees and related income 2,232 2,076 6,558 5,373
Servicing fees 629 1,468 2,703 3,794
Net gain on sale of mortgage loans 2,709 1,666 7,546 3,298
Net gain (loss) on sale of securities 298 - 985 (175)
Other 603 483 2,064 2,732
------------- ------------- -------------- ------------
Total noninterest income 6,471 5,693 19,856 15,022
------------- ------------- -------------- ------------
Noninterest expense:
Compensation and employee benefits 9,230 8,679 28,349 24,500
Occupancy and office operations 2,701 2,613 7,870 7,634
FDIC premium 196 191 584 357
Advertising and promotion 694 501 1,673 1,383
Amortization of intangible assets 1,290 1,417 4,124 4,573
Valuation adjustment relating to an equity investment in a
mortgage servicing partnership 750 - 3,483 -
Other 4,318 3,631 12,315 10,427
------------- ------------- -------------- ------------
Total noninterest expense 19,179 17,032 58,398 48,874
------------- ------------- -------------- ------------
Income before income taxes 4,094 5,985 11,970 18,634
Income tax provision 1,392 1,984 3,947 6,283
------------- ------------- -------------- ------------
Net income $2,702 $4,001 $8,023 $12,351
============= ============= ============== ============
Basic weighted average number of shares outstanding 13,981,578 15,369,978 14,538,500 15,703,526
============= ============= ============== ============
Basic earnings per share $0.19 $0.26 $0.55 $0.79
============= ============= ============== ============
Diluted weighted average number of shares outstanding 14,561,792 15,968,267 15,206,110 16,195,633
============= ============= ============== ============
Diluted earnings per share $0.19 $0.25 $0.53 $0.76
============= ============= ============== ============
</TABLE>
The accompanying notes are an integral part of these statements.
4
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Commonwealth Bancorp, Inc. and Subsidiaries
Consolidated Statements of Changes in Shareholders' Equity
(in thousands)
(Unaudited)
<TABLE>
<CAPTION>
Common Additional
Shares Common Paid-In Retained
Outstanding Stock Capital Earnings
- -------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Fiscal 1997
- -----------
Balance at December 31, 1996 17,954 $1,795 $132,931 $105,577
Net income 12,351
Dividends (3,276)
Release of ESOP shares (a) 548
Amortization of unearned compensation
Exercise of stock options 83 9 391
Cash in lieu of fractional shares (2) (21)
Stock retired (40) (4) (613)
Increase in unrealized gain on marketable
securities, net of tax
Common stock acquired by stock benefit plans
Purchase of Treasury stock (1,752)
--------------------------------------------
Balance at September 30, 1997 16,243 $1,800 $133,236 $114,652
============================================
Fiscal 1998
- -----------
Balance at December 31, 1997 16,247 $1,800 $133,541 $117,582
Net income 8,023
Dividends (3,505)
Release of ESOP shares (a) 930
Amortization of unearned compensation
Exercise of stock options 48 5 263
Decrease in unrealized gain on marketable
securities, net of tax
Purchase of Treasury stock (1,531)
Tax benefit on employee stock plans 329
--------------------------------------------
Balance at September 30, 1998 14,764 $1,805 $135,063 $122,100
============================================
<CAPTION>
Unearned Unrealized
Stock Gain/(Loss)
Benefit Plan On Marketable Treasury
Compensation Securities,net Stock Total
- -------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Fiscal 1997
- -----------
Balance at December 31, 1996 ($10,510) $2,131 $ - $231,924
Net income 12,351
Dividends (3,276)
Release of ESOP shares (a) 691 1,239
Amortization of unearned compensation 995 995
Exercise of stock options 400
Cash in lieu of fractional shares (21)
Stock retired (617)
Increase in unrealized gain on marketable
securities, net of tax 1,666 1,666
Common stock acquired by stock benefit plans (4,495) (4,495)
Purchase of Treasury stock (28,683) (28,683)
--------------------------------------------------
Balance at September 30, 1997 ($13,319) $3,797 ($28,683) $211,483
==================================================
Fiscal 1998
- -----------
Balance at December 31, 1997 ($12,900) $3,512 ($28,683) $214,852
Net income 8,023
Dividends (3,505)
Release of ESOP shares (a) 690 1,620
Amortization of unearned compensation 1,059 1,059
Exercise of stock options 268
Decrease in unrealized gain on marketable
securities, net of tax (212) (212)
Purchase of Treasury stock (31,551) (31,551)
Tax benefit on employee stock plans 329
--------------------------------------------------
Balance at September 30, 1998 ($11,151) $3,300 ($60,234) $190,883
==================================================
</TABLE>
- ----------------------------------------------------
(a) Shares totaling 78,702 were released during the nine month periods
ended September 30, 1998 and 1997.
The accompanying notes are an integral part of these statements.
5
<PAGE> 6
Commonwealth Bancorp, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(in thousands)
<TABLE>
<CAPTION>
For the Nine Months
Ended September 30,
1998 1997
------------- -------------
(Unaudited)
<S> <C> <C>
Operating activities:
Net income $8,023 $12,351
Adjustments to reconcile net income to net cash
(used in) provided by operating activities-
Proceeds from loans sold to others 474,776 218,294
Loans originated for sale (362,032) (207,390)
Purchases of loans held for sale (140,602) (37,383)
Principal collection on mortgage loans held for sale 652 384
Net gain on sale of mortgage loans (7,546) (3,298)
Increase in net deferred loan fees 484 126
Provision for loan losses and foreclosed real estate 2,573 965
(Gain) loss on sale of investment securities (985) 175
Valuation adjustment on an equity investment 3,540 -
Net gain on sale of assets - (1,531)
Depreciation and amortization 2,605 2,341
Net amortization of other assets and liabilities 7,810 7,604
Interest reinvested on repurchase agreements (9,337) (9,932)
Changes in assets and liabilities-
Decrease (increase) in-
Accrued interest receivable, net 760 (922)
Deferred income taxes (795) 780
Other assets (3,062) (7,093)
Increase in-
Advances from borrowers for taxes and insurance (6,488) (7,039)
Accrued interest payable, accrued expenses and other liabilities 22,986 22,549
------------- -------------
Net cash used in operating activities ($6,638) ($9,019)
------------- -------------
</TABLE>
(continued)
The accompanying notes are an integral part of these statements.
6
<PAGE> 7
Commonwealth Bancorp, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(in thousands)
<TABLE>
<CAPTION>
For the Nine Months
Ended September 30,
1998 1997
------------- -------------
(Unaudited)
<S> <C> <C>
Investing activities:
Proceeds from sale of investment securities $6,704 $ -
Proceeds from maturities of investment securities 30,000 38,000
Purchases of investment securities (20,000) (39,402)
Proceeds from sale of mortgage-backed securities - 41,770
Proceeds from call of mortgage-backed securities 30,000 -
Purchases of mortgage-backed securities (156,958) (174,616)
Principal collected on mortgage-backed securities 237,251 114,249
Principal collected on loans 332,079 169,153
Loans originated (299,033) (156,795)
Loans purchased (144,216) (132,431)
Sales of real estate acquired through foreclosure 956 1,134
Purchase of FHLB Stock (4,225) (3,016)
Purchases of premises and equipment (1,191) (5,473)
Proceeds from sales of assets 44 11,145
------------- -------------
Net cash provided by (used in) investing activities 11,411 (136,282)
------------- -------------
Financing activities:
Net (decrease) increase in deposits (23,433) 37,064
Proceeds from notes payable and other borrowings 722,372 324,815
Repayment of notes payable and other borrowings (673,001) (188,880)
Net purchase of common stock (31,283) (33,416)
Cash dividends paid (3,505) (3,274)
------------- -------------
Net cash (used in) provided by financing activities (8,850) 136,309
------------- -------------
Net decrease in cash and cash equivalents (4,077) (8,992)
Cash and cash equivalents at beginning of period 53,938 60,102
------------- -------------
Cash and cash equivalents at end of period $49,861 $51,110
============= =============
Supplemental disclosures of cash flow information:
Cash paid during the year for-
Interest $52,649 $49,088
============= =============
Income taxes $3,050 $6,925
============= =============
</TABLE>
The accompanying notes are an integral part of these statements.
7
<PAGE> 8
Commonwealth Bancorp, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Presentation
In the opinion of management, the accompanying unaudited consolidated
financial statements contain all adjustments (consisting of only normal
recurring accruals) necessary for a fair presentation of Commonwealth Bancorp,
Inc.'s ("Commonwealth" or the "Company") financial condition as of September
30, 1998 and the results of operations, changes in shareholders' equity, and
cash flows for the periods presented.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities,
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates. The
accompanying unaudited consolidated financial statements were prepared in
accordance with the instructions for Form 10-Q. For further information, refer
to the Company's consolidated financial statements and footnotes thereto
included in the Company's Annual Report on Form 10-K for the year ended
December 31, 1997. Certain items in the 1997 financial statements and
footnotes have been reclassified in order to conform with the 1998 financial
statement and footnote presentation.
The Company is a Pennsylvania corporation which is the holding company
for Commonwealth Bank ("Bank"). Headquartered in Norristown, PA, Commonwealth
Bank has offices located in Berks, Bucks, Chester, Delaware, Lebanon, Lehigh,
Montgomery, and Philadelphia Counties, Pennsylvania. ComNet Mortgage Services
("ComNet'), a division of the Bank, has offices in Pennsylvania, Connecticut,
New Jersey, Rhode Island, and Virginia. ComNet operates under the trade name
of Homestead Mortgage in Maryland.
2. Principles of Consolidation
The accompanying consolidated financial statements include the
accounts of Commonwealth; Commonwealth Bank; CFSL Investment Corporation;
Commonwealth Investment Corporation of Delaware, Inc.; ComLife, Inc.; CS
Corporation; Firstcor, Ltd.; and QME, Inc. All material intercompany accounts
and transactions have been eliminated in consolidation.
3. Shareholders' Equity
On September 9, 1998, the Board of Directors declared a $0.08 per
share cash dividend for the quarter ended September 30, 1998, which was made
payable to shareholders of record at the close of business on September 25,
1998. This dividend was paid on October 9, 1998.
During the third quarter and first nine months of 1998, the Company
purchased 0.7 million and 1.5 million shares of its common stock, representing
purchases of $12.3 million and $31.6 million, respectively. This compared to
purchases of 0.9 million and 1.8 million shares, representing purchases of
$14.9 million and $28.7 million, respectively, in the third quarter and first
nine months of 1997. The repurchased shares were held as treasury stock at
September 30, 1998 and are reserved for general corporate purposes and/or
issuance pursuant to the Company's stock option plans.
At September 30, 1998, shareholders' equity represented 8.4% of
assets, compared to 9.3% at September 30, 1997 and 9.5% at December 31, 1997.
4. Future Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for
Derivative Instruments and Hedging Activities." The statement establishes
accounting and reporting standards requiring that every derivative instrument
(including certain derivative instruments embedded in other contracts) be
recorded in the balance sheet as either an asset or liability measured at its
fair value. The statement requires that changes in the derivative's fair value
be recognized currently in earnings unless specific hedge accounting criteria
are met. Special accounting for qualifying hedges allows a derivative's gains
and losses to offset related
8
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Commonwealth Bancorp, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
results on the hedged item in the income statement, and requires that a company
must formally document, designate, and assess the effectiveness of transactions
that receive hedge accounting.
SFAS No. 133 is effective for fiscal years beginning after June 15,
1999. A company may also implement the statement as of the beginning of any
fiscal quarter after issuance (that is, fiscal quarters beginning June 16, 1998
and thereafter). SFAS No. 133 cannot be applied retroactively and must be
applied to derivative instruments and certain derivative instruments embedded
in hybrid contracts that were issued, acquired, or substantively modified after
December 31, 1997 (and, at the company's election, before January 1, 1998).
Commonwealth has not yet quantified the financial statement impacts of adopting
SFAS No. 133 and has not determined the timing of or method of the adoption of
SFAS No. 133. However, the Statement could increase volatility in earnings and
other comprehensive income.
SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information" was issued in June 1997. This statement is effective for fiscal
years beginning after December 15, 1997, and need not be applied to interim
statements in the initial year of application. SFAS No. 131 introduces a new
model for segment reporting, called the "management approach." The management
approach is based on the way the chief operating decision maker organizes
segments within a company for making operating decisions and assessing
performance. Reportable segments are based on product and services, geography,
legal structure, management structure - any manner in which management
disaggregates a company. The management approach replaces the notion of
industry and geographic segments in current FASB standards. The Company
intends to report information on two segments as a result of the adoption of
SFAS No. 131, the Banking Operations and the Mortgage Operations.
5. Earnings Per Share
In February 1997, SFAS No. 128, "Earnings per share," was issued. This
statement specified the computation, presentation, and disclosure requirements
for earnings per share ("EPS"). The main objectives of the statement were to
simplify the EPS calculation and to make EPS comparable on an international
basis. Effective for both interim and annual periods ending after December 15,
1997, primary and fully diluted EPS have been replaced by basic and diluted
EPS. Prior period results have been restated. The most significant difference
is that basic EPS no longer assumes potentially dilutive securities in the
computation. Calculating EPS under the new method has no material impact on
previously reported 1997 EPS figures.
Basic EPS is calculated by dividing net income available to common
shareholders by the weighted average number of common shares outstanding during
the period, adjusted for Employee Stock Ownership Plan ("ESOP") shares that
have not been committed to be released, and the effects of shares held by the
Recognition Plans. Options, warrants, and other potentially dilutive
securities and treasury shares are excluded from the basic calculation, as
follows:
<TABLE>
<CAPTION>
For the Quarter Ended September 30,
-----------------------------------
1998 1997
----- -----
<S> <C> <C>
Basic weighted average number of common shares outstanding 13,981,578 15,369,978
Effect of diluted securities:
Stock options 452,602 451,429
Recognition Plan stock 127,612 146,860
------- -------
Diluted weighted average number of common shares outstanding 14,561,792 15,968,267
========== ==========
</TABLE>
9
<PAGE> 10
Commonwealth Bancorp, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
For the Nine Months Ended September 30,
---------------------------------------
1998 1997
----- -----
<S> <C> <C>
Basic weighted average number of common shares outstanding 14,538,500 15,703,526
Effect of diluted securities:
Stock options 540,899 384,573
Recognition Plan stock 126,711 107,534
------- -------
Diluted weighted average number of common shares outstanding 15,206,110 16,195,633
========== ==========
</TABLE>
Diluted EPS is computed by dividing net income available to common
shareholders by the weighted average number of shares of common stock
outstanding during the period, adjusted for ESOP shares that have not been
committed to be released, and the effects of shares held by the Recognition
Plans. The effect of diluted securities, such as stock options and Recognition
Plan stock, are considered common stock equivalents and are included in the
computation of the number of outstanding shares using the treasury stock
method. Common shares outstanding exclude treasury shares.
Basic EPS was $0.19 per share for the quarter ended September 30,
1998, compared to $0.26 per share for the quarter ended September 30, 1997.
Diluted EPS was $0.19 per share for the quarter ended September 30, 1998,
compared to $0.25 per share for the quarter ended September 30, 1997.
Basic EPS was $0.55 per share for the nine months ended September 30,
1998, compared to $0.79 per share for the nine months ended September 30, 1997.
Diluted EPS was $0.53 per share for the nine months ended September 30, 1998,
compared to $0.76 per share for the nine months ended September 30, 1997.
10
<PAGE> 11
Commonwealth Bancorp, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
6. Comprehensive Income
SFAS No. 130, "Reporting Comprehensive Income" was issued in July
1997. The Company adopted SFAS No. 130 on January 1, 1998, as required. SFAS
No. 130 established standards for the reporting and display of comprehensive
income and its components. The main objective of the statement is to report a
measure of all changes in equity that result from transactions and other
economic events of the period other than transactions with owners. Such
components of total comprehensive income for the Company are net income and
unrealized gains or losses on marketable securities, net of tax, as follows:
<TABLE>
<CAPTION>
For the Quarter Ended September 30,
-----------------------------------
1998 1997
----- -----
(in thousands)
<S> <C> <C>
Net income $2,702 $4,001
Unrealized gain on marketable securities, net of tax 950 2,286
------ ------
Comprehensive income $3,652 $6,287
====== ======
<CAPTION>
For the Nine Months Ended September 30,
---------------------------------------
1998 1997
----- -----
(in thousands)
<S> <C> <C>
Net income $8,023 $12,351
Unrealized (loss) gain on marketable securities, net of tax (212) 1,666
------- -------
Comprehensive income $7,811 $14,017
======== =======
</TABLE>
7. Acquisitions
On March 31, 1998, Commonwealth Bank acquired selected assets of
Edmunds Financial Corporation d/b/a Service First Mortgage, a mortgage company
headquartered in Annandale, Virginia. Among the assets acquired from Service
First Mortgage was its production branch located in Annandale, Virginia. Under
the terms of the transaction, the group will operate under the ComNet Mortgage
Services name.
11
<PAGE> 12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
When used in this Form 10-Q, or in future filings by the Company with
the Securities and Exchange Commission, in the Company's press releases or
other public or shareholder communications, or in oral statements made with the
approval of an authorized executive officer, the words or phases "will likely
result", "are expected to", "will continue", "is anticipated", "estimate",
"project", or similar expressions are intended to identify "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995 and Section 27A of the Securities Act and Section 21E of the Exchange
Act. Such statements are subject to certain risks and uncertainties including
changes in economic conditions in the Company's market area, changes in
policies by regulatory agencies, fluctuations in interest rates, demand for
loans in the Company's market area and competition that could cause actual
results to differ materially from historical earnings and those presently
anticipated or projected. The Company wishes to caution readers not to place
undue reliance on any such forward-looking statements, which speak only as of
the date made. The Company wishes to advise readers that the factors listed
above could affect the Company's financial performance and could cause the
Company's actual results for future periods to differ materially from any
opinions or statements expressed with respect to future periods in any current
statements.
The Company does not undertake, and specifically disclaims any
obligation, to publicly release the result of any revisions which may be made
to forward-looking statements to reflect events or circumstances after the date
of such statements or to reflect the occurrence of anticipated or unanticipated
events.
GENERAL. The Company is a Pennsylvania corporation which is the
holding company for the Bank. Commonwealth Bank is a federally chartered stock
savings bank, primarily regulated by the Office of Thrift Supervision ("OTS").
The Bank conducts business from its executive offices in Norristown,
Pennsylvania and, as of September 30, 1998, 58 full-service offices located in
southeast Pennsylvania. ComNet Mortgage Services, a division of the Bank, also
located in Norristown, conducts business through loan origination offices
located in Pennsylvania, Connecticut, New Jersey, Rhode Island, and Virginia,
and operates under the trade name of Homestead Mortgage in Maryland. ComNet
also conducts business through its wholesale network, which includes
correspondents in 29 states.
On March 31, 1998, Commonwealth Bank acquired selected assets of
Edmunds Financial Corporation d/b/a Service First Mortgage, a mortgage company
headquartered in Annandale, Virginia. Among the assets acquired from Service
First Mortgage was its production branch located in Annandale, Virginia. Under
the terms of the transaction, the group will operate under the ComNet Mortgage
Services name.
YEAR 2000. Commonwealth initiated an extensive review in 1997 of
operations that could be impacted by Year 2000 non-compliant computer systems
and microprocessors. An inventory of over 175 computer systems, outside
service providers, security systems, HVAC systems and power systems was
compiled and has been reviewed for risk of non-compliance. The Company's core
processing systems are outsourced with outside service providers. Throughout
1998, Commonwealth has worked with these service providers to confirm that
action plans are in place to ensure Year 2000 compliance. Testing efforts were
organized and completed to validate compliance of core systems and the related
key interfaces. Currently it is believed all of Commonwealth's core systems
are fully compliant and are being used to support daily business operations.
Commonwealth continues to work with its technology partners and
secondary service providers to ensure that low impact business components are
also fully compliant. Action plans are in place to upgrade equipment and
software systems where necessary. Total expenditures for Year 2000 compliance
are estimated to be less than $0.25 million and will be charged to expense
during the fourth quarter of 1998.
Additionally, Commonwealth has been proactive in assessing the Year
2000 readiness of our larger deposit and loan customers. An initial assessment
has been made of existing customers and ongoing monitoring processes are in
place to assess Commonwealth's exposure to customer non-compliance with Year
2000 in order to minimize its impact. Presently, management has not become
aware of non-compliance conditions which materially expose the Company.
Processes are also in place to evaluate the Year 2000 readiness of new
customers.
Although Commonwealth believes its Year 2000 program is adequate to
address the Year 2000 issue, there can be no assurance to that effect. The
Company will implement its existing Business Resumption Plan in the event of
non-compliance with Year 2000.
12
<PAGE> 13
FINANCIAL CONDITION
GENERAL. Total assets were $2.3 billion at both December 31, 1997 and
September 30, 1998. Increases in the Company's loans receivable and mortgage
loans held for sale were offset by decreases in mortgage-backed securities and
investment securities. Total liabilities were 2.1 billion at both December 31,
1997 and September 30, 1998. Increases in notes payable and other borrowings,
accrued interest payable, accrued expenses and other liabilities were offset by
decreases in deposits and advances from borrowers for taxes and insurance.
Shareholders' equity as of September 30, 1998, equaled $190.9 million, compared
to $214.9 million at December 31, 1997. This $24.0 million, or 11%, decrease
was primarily the result of the $31.6 million purchase of 1.5 million shares of
treasury stock, offset, in part, by a $4.5 million, or 4%, increase in retained
earnings during the first nine months of 1998.
CASH, INTEREST-BEARING DEPOSITS, AND SHORT-TERM INVESTMENTS ("CASH AND
CASH EQUIVALENTS"). Cash and cash equivalents decreased by $4.1 million, or
8%, from $53.9 million at December 31, 1997, to $49.9 million at September 30,
1998. The decrease was primarily related to the investment of excess liquidity
in loans receivable and mortgage loans held for sale.
MORTGAGE LOANS HELD FOR SALE. Mortgage loans held for sale increased
by $31.6 million, or 84%, from $37.6 million at December 31, 1997, to $69.2
million at September 30, 1998. The increase was attributable to an increase in
loans originated during September 1998, primarily as a result of the current
low interest rate environment.
13
<PAGE> 14
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS-CONTINUED
INVESTMENT SECURITIES. Investment securities decreased by $18.8
million, or 37%, from $51.3 million at December 31, 1997 to $32.6 million at
September 30, 1998. The decrease was primarily attributable to the maturity of
U.S. Treasury and U.S. Government agency securities, the recording of a
valuation adjustment relating to an equity investment in a mortgage servicing
limited partnership, and the sale of a mortgage security mutual fund and
certain equity investments. These decreases were offset, in part, by the
purchase of corporate bonds. Investments in debt and equity securities at
September 30, 1998 and December 31, 1997 were as follows:
<TABLE>
<CAPTION>
September 30, 1998
---------------------------------------------------------------------------
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------------------------------------------------------------------------
(in thousands)
<S> <C> <C> <C> <C>
Available for sale:
Corporate Bonds $ 19,997 $ 205 $ - $20,202
U.S. Treasury and U.S.
Government agency securities 9,997 28 - 10,025
Mortgage Servicing Partnership 1,750 - - 1,750
Other Equity Investments 604 - 17 587
---------------------------------------------------------------------------
Total $ 32,348 $ 233 $ 17 $ 32,564
===========================================================================
<CAPTION>
December 31, 1997
---------------------------------------------------------------------------
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------------------------------------------------------------------------
(in thousands)
<S> <C> <C> <C> <C>
Available for sale:
U.S. Treasury and U.S.
Government agency securities $ 39,980 $ 61 $ - $ 40,041
Mortgage Security Mutual Fund 2,373 31 - 2,404
Mortgage Servicing Partnership 4,819 - - 4,819
Other Equity Investments 3,256 806 - 4,062
---------------------------------------------------------------------------
Total $ 50,428 $ 898 $ - $ 51,326
===========================================================================
</TABLE>
Investment securities classified as held to maturity are carried at
amortized cost and are adjusted for amortization of premiums and accretion of
discounts over the life of the related security pursuant to the level-yield
method. Investment securities classified as available for sale are reported at
fair value, with unrealized gains and losses, net of tax, excluded from
earnings and reported as a separate component of shareholders' equity. There
were no investment securities classified as held to maturity at September 30,
1998 and December 31, 1997.
14
<PAGE> 15
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS-CONTINUED
MORTGAGE-BACKED SECURITIES. Mortgage-backed securities decreased by
$109.9 million, or 15%, from $735.3 million at December 31, 1997 to $625.4
million at September 30, 1998. The decrease in mortgage-backed securities
during the first nine months of 1998 was related to repayments and prepayments
and the $30 million call of mortgage-backed securities during the first quarter
of 1998. The decrease was offset, in part, by a strategy to enhance the
Company's net interest income through the purchase of mortgage-backed
securities funded through Federal Home Loan Bank ("FHLB") advances.
Mortgage-backed securities generally increase the quality of the
Company's assets by virtue of the insurance or guarantees related to the
securities, are more liquid than individual mortgage loans, and may be used to
collateralize borrowings or other obligations of the Company. At September 30,
1998 and December 31, 1997, $361.5 million, or 58%, and $479.4 million, or 65%,
respectively, of the Company's mortgage-backed securities were insured or
guaranteed by the Government National Mortgage Association ("GNMA"), the
Federal Home Loan Mortgage Corporation ("FHLMC"), or the Federal National
Mortgage Association ("FNMA"). As part of its investment policy, the Company
also has the ability to invest in private mortgage-backed securities. These
non-federally insured mortgage-backed securities, which are generally rated AA
or better, yield a higher rate of return and involve a higher risk of loss than
comparable mortgage-backed securities issued by the GNMA, FHLMC, or the FNMA,
and serve to further diversity the Company's mortgage-backed securities
portfolio. At September 30, 1998 and December 31, 1997, $263.9 million, or
42%, and $255.9 million, or 35%, respectively, of the Company's mortgage-backed
securities were private mortgage-backed securities. The following table sets
forth the Company's mortgage-backed securities portfolio at the dates
indicated.
<TABLE>
<CAPTION>
September 30, 1998
-------------------------------------------------------------------------
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
-------------------------------------------------------------------------
(in thousands)
<S> <C> <C> <C> <C>
Held to maturity:
GNMA $ 56,499 $1,413 $ 86 $ 57,826
FHLMC 32,896 239 200 32,935
FNMA 54,155 670 21 54,804
Private 4,291 - - 4,291
-------------------------------------------------------------------------
Total $147,841 $2,322 $ 307 $149,856
=========================================================================
Available for sale:
GNMA $ 14,330 $ 576 $ - $ 14,906
FHLMC 74,485 2,327 13 76,799
FNMA 75,712 936 348 76,300
CMO and REMIC 308,125 1,595 211 309,509
-------------------------------------------------------------------------
Total $472,652 $5,434 $572 $477,514
=========================================================================
</TABLE>
15
<PAGE> 16
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS-CONTINUED
<TABLE>
<CAPTION>
December 31, 1997
-------------------------------------------------------------------------
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
-------------------------------------------------------------------------
(in thousands)
<S> <C> <C> <C> <C>
Held to maturity:
GNMA $ 74,677 $2,251 $ 174 $ 76,754
FHLMC 43,256 485 - 43,741
FNMA 72,970 506 233 73,243
Private 5,310 - - 5,310
-------------------------------------------------------------------------
Total $196,213 $3,242 $ 407 $199,048
=========================================================================
Available for sale:
GNMA $ 16,572 $ 560 $ 16 $ 17,116
FHLMC 98,092 2,682 26 100,748
FNMA 81,531 865 388 82,008
CMO and REMIC 338,378 1,589 761 339,206
-------------------------------------------------------------------------
Total $534,573 $5,696 $1,191 $539,078
=========================================================================
</TABLE>
Mortgage-backed securities classified as held to maturity are carried
at amortized cost and are adjusted for amortization of premiums and accretion
of discounts over the life of the related security pursuant to the level-yield
method. Mortgage-backed securities classified as available for sale are
reported at fair value, with unrealized gains and losses, net of tax, excluded
from earnings and reported as a separate component of shareholders' equity.
16
<PAGE> 17
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS-CONTINUED
LOANS RECEIVABLE. Loans receivable, net of reserves and unamortized
premiums and unaccreted discounts, increased by $109.6 million, or 9%, during
the first nine months of 1998 to $1.4 billion at September 30, 1998. The
following table depicts the composition of the Company's loan portfolio at the
dates indicated.
<TABLE>
<CAPTION>
September 30, December 31,
1998 1997
-------------------------------- -------------------------------
% of % of
Amount Total Amount Total
------ -------- ------ --------
(dollars in thousands)
<S> <C> <C> <C> <C>
Mortgage loans - Residential (1) $1,017,210 73.68% $ 958,542 75.51%
Consumer loans:
Equity lines of credit 36,366 2.64 41,592 3.28
Second mortgage 122,495 8.87 98,934 7.79
Recreational vehicles 37,405 2.71 22,182 1.75
Other 37,276 2.70 32,085 2.53
--------- ------- ---------- --------
Total consumer loans 233,542 16.92 194,793 15.35
Commercial loans:
Small Business Administration Loans (2) 15,257 1.11 20,016 1.58
Commercial real estate 81,447 5.90 71,508 5.63
Business loans 33,029 2.39 24,456 1.93
--------- ------ ---------- ------
Total commercial loans 129,733 9.40 115,980 9.14
--------- ------ ---------- ------
Total loans receivable 1,380,485 100.00% 1,269,315 100.00%
--------- ======= --------- =======
Less:
Net premium on loans purchased (3,018) (3,559)
Allowance for loan losses 9,543 9,024
Deferred loan fees 3,541 3,009
--------- ---------
Loans receivable, net $1,370,419 $1,260,841
========== ==========
</TABLE>
- ------------------------------
(1) At September 30, 1998 and December 31, 1997, $465.2 million, or 46%,
and $613.6 million, or 64%, respectively, of the Company's
residential mortgage loans had adjustable interest rates.
(2) Consists entirely of loans (or securities backed by loans) which are
guaranteed by the U.S. Government, with the majority adjusting monthly
or quarterly. All such loans or securities were purchased by the
Company.
Total mortgage loans originated and purchased for the nine months
ended September 30, 1998, increased by $375.2 million, or 89%, from $421.9
million for the nine months ended September 30, 1997 to $797.1 million for the
nine months ended September 30, 1998. The $375.2 million increase in mortgage
originations was the result of increases in retail and wholesale residential
mortgage originations. Closed loans relating to Commonwealth's retail network
totaled $531.7 million during the nine months ended September 30, 1998, an
increase of 88% compared to $282.5 million for the nine months ended September
30, 1997. Commonwealth's Wholesale Lending Department originates loans through
a network of correspondent brokers in 29 states. All loans are underwritten
using the same criteria as those used for retail originations. Closed loans
relating to Commonwealth's wholesale network totaled $265.4 million during the
nine months ended September 30, 1998, an increase of 90% compared to $139.5
million for the nine months ended September 30, 1997.
17
<PAGE> 18
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS-CONTINUED
Consumer loans increased by $38.7 million, or 20%, from $194.8 million
at December 31, 1997, to $233.5 million at September 30, 1998. At September
30, 1998, consumer loans represented 17% of the Company's loan portfolio and
were comprised of $36.4 million of equity lines of credit, $122.5 million of
second mortgage loans, $37.4 million of recreational vehicle loans, and $37.3
million of other consumer loans. At December 31, 1997, consumer loans
represented 15% of total loans and were comprised of $41.6 million of equity
lines of credit, $98.9 million of second mortgage loans, $22.2 million of
recreational vehicle loans, and $32.1 million of other consumer loans.
As of September 30, 1998, commercial loans, exclusive of loans
guaranteed by the Small Business Administration ("SBA"), totaled $114.5
million, or 8%, of the Company's total loan portfolio, as compared to $96.0
million, or 8%, at December 31, 1997. At September 30, 1998, commercial loans
(other than SBA loans) were comprised of $81.4 million of commercial real
estate loans and $33.0 million of business loans. At December 31, 1997,
commercial loans (other than SBA loans) were comprised of $71.5 million of
commercial real estate loans and $24.5 million of business loans. Commercial
loans are generally considered to have a greater risk than residential mortgage
loans because the risk of borrower default is greater, and the collateral is
more likely to decline in value and may be more difficult to liquidate than
single-family residences.
NONPERFORMING ASSETS. The Company's nonperforming assets, which
principally consist of nonaccrual loans and real estate acquired through
foreclosure, increased by $0.9 million, or 9%, from $9.6 million at December
31, 1997, to $10.5 million at September 30, 1998. At September 30, 1998, the
Company's $10.5 million of nonperforming assets amounted to 0.46% of total
assets. At December 31, 1997, the Company's $9.6 million of nonperforming
assets amounted to 0.42% of total assets. The following table sets forth
information relating to the Company's nonperforming assets at the dates
indicated.
<TABLE>
<CAPTION>
September 30, 1998 December 31, 1997
------------------ -------------------
(dollars in thousands)
<S> <C> <C>
Mortgage loans $ 5,574 $5,269
Consumer loans 1,938 1,324
Commercial loans (1) 2,150 2,345
----- -----
Total nonperforming loans 9,662 8,938
Real estate owned, net 788 626
----- -----
Total nonperforming assets (1) $10,450 $9,564
====== =====
Nonperforming loans to total loans held for
investment (1) 0.70% 0.70%
==== ====
Total nonperforming assets to total assets (1) 0.46% 0.42%
==== ====
</TABLE>
- -----------------
(1) Does not include nonperforming commercial loans which are fully
guaranteed as to principal and interest by the U.S. Government, which amounted
to $0.5 million and $1.1 million at September 30, 1998 and December 31, 1997,
respectively.
18
<PAGE> 19
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS-CONTINUED
ALLOWANCE FOR LOAN LOSSES. The Company's allowance for loan losses
amounted to $9.5 million at September 30, 1998, compared to $9.0 million at
December 31, 1997. It is management's policy to maintain an allowance for
estimated loan losses based upon an assessment of prior loss experience, the
volume and type of lending conducted by the Company, industry standards, past
due loans, general economic conditions, and other factors related to the
collectability of the loan portfolio. At September 30, 1998, the Company's
allowance for loan losses amounted to 99% of total nonperforming loans and
0.69% of total loans held for investment, as compared to 101% of total
nonperforming loans and 0.71% of total loans held for investment at December
31, 1997. The Company utilizes these percentages as only one of the factors in
assessing the adequacy of the allowance for loan losses at various points in
time. The following table sets forth the activity in the Company's allowance
for loan losses during the periods indicated.
<TABLE>
<CAPTION>
For the Nine Months Ended September 30,
-----------------------------------------------------------
1998 1997
------ ------
(dollars in thousands)
<S> <C> <C>
Allowance at beginning of period $9,024 $ 9,971
Provision for loan losses 2,500 900
Charge-offs:
Mortgage loans (371) (425)
Consumer loans (1,189) (1,102)
Commercial loans (540) (387)
------ ------
Total charge-offs (2,100) (1,914)
Recoveries:
Mortgage loans 31 126
Consumer loans 53 42
Commercial loans 35 23
------ ------
Total recoveries 119 191
------ ------
Allowance at end of period $9,543 $9,148
====== ======
Allowance for loan losses to
total nonperforming loans at
end of period 98.77% 92.49%
===== =====
Allowance for loan losses to
total loans held for investment
at end of period 0.69% 0.74%
==== ====
</TABLE>
- ------------------
19
<PAGE> 20
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS-CONTINUED
INTANGIBLE ASSETS. Intangible assets, which are comprised of the
excess of cost over net assets acquired ("Goodwill") and core deposit
intangibles ("CDI"), were recorded in connection with the Berks Acquisition in
1996 and the Fidelity Federal Acquisition in 1995. The following table details
the components of intangible assets at the dates indicated.
<TABLE>
<CAPTION>
September 30, 1998 December 31, 1997
------------------ -----------------
(in thousands)
<S> <C> <C>
Goodwill (Berks Acquisition) $19,600 $20,973
CDI (Berks Acquisition) 8,742 10,442
Goodwill (Fidelity Federal) 10,524 11,327
CDI (Fidelity Federal) 2,254 2,502
------- -------
Total $41,120 $45,244
======= =======
</TABLE>
MORTGAGE SERVICING RIGHTS. At September 30, 1998, Commonwealth's
servicing portfolio was $2.4 billion, an increase of 10% compared to $2.2
billion at December 31, 1997. At September 30, 1998 and December 31, 1997,
Commonwealth was servicing $1.4 billion and $1.3 billion of third party loans,
as well as $1.0 billion and $0.9 billion, respectively, of loans held by
Commonwealth for investment and sale. The following table details the
components of mortgage servicing rights at the dates indicated.
<TABLE>
<CAPTION>
September 30, 1998 December 31, 1997
------------------ -----------------
(in thousands)
<S> <C> <C>
Purchased Mortgage Servicing Rights $1,214 $1,559
Capitalized Excess Servicing Fees 2,835 3,215
Originated Mortgage Servicing Rights 5,168 3,265
------ ------
Total $9,217 $8,039
====== ======
</TABLE>
DEPOSITS. Deposits decreased by $23.4 million, or 2%, to $1.5 billion
at September 30, 1998, from $1.6 billion at December 31, 1997, primarily
related to a decrease in traditional branch deposits. This decrease was
offset, in part, by increases in business and supermarket deposits, as well as
increases in outstanding mortgage settlement checks and principal and interest
escrows established pursuant to loan servicing agreements.
BORROWINGS. The Company's borrowings consist principally of advances
from the FHLB and securities sold under agreements to repurchase. FHLB
advances increased by $110.0 million, or 52%, to $323.0 million at September
30, 1998, from $213.0 million at December 31, 1997. Repurchase agreements
decreased by $70.0 million, or 28%, to $176.1 million at September 30, 1998,
from $246.1 million at December 31, 1997. The Company's borrowings are used to
fund lending and investment activities, withdrawals from deposit accounts, and
other disbursements which occur in the normal course of business. Dependent
upon the funding requirements and interest rate risk considerations, these
borrowings are hedged with off-balance-sheet financial instruments.
ACCRUED INTEREST PAYABLE, ACCRUED EXPENSES AND OTHER LIABILITIES
("OTHER LIABILITIES"). Other liabilities increased by $23.0 million, or 130%,
to $40.7 million at September 30, 1998, from $17.7 million at December 31,
1997, primarily related to an increase in accrued interest payable.
20
<PAGE> 21
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS-CONTINUED
REGULATORY CAPITAL REQUIREMENTS.
The following table sets forth the Bank's compliance with applicable regulatory
capital requirements at September 30, 1998:
<TABLE>
<CAPTION>
To Be Well
Minimum Capitalized
For Capital For Prompt
Adequacy Corrective Action
Actual Purposes Provisions
---------------------------------------------------------------------------------
Ratio Amount Ratio Amount Ratio Amount
---------------------------------------------------------------------------------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Stockholders' equity,
and ratio to OTS
total assets 7.9% $ 178,422
--------
Intangible assets (41,120)
Disallowed servicing assets (889)
Unrealized gain on
marketable
securities, net of tax (3,305)
--------
Tangible capital,
and ratio to OTS
adjusted total assets 6.0% $ 133,108 1.5% $33,301
-------- ======== ------ =======
Core capital,
and ratio to OTS
adjusted total assets 6.0% $ 133,108 4.0%(2) $88,803 5.0% $111,004
-------- ======== ------- ======= ------ ========
Core capital,
and ratio to OTS
risk-weighted assets 11.0% $ 133,108 6.0% $ 72,887
-------- -------- ------ ========
Allowance for loan losses 9,543
Allowed unrealized gain on
marketable securities 2,289
--------
Supplementary capital 11,832
--------
Total risk-based capital,
and ratio to OTS
risk-weighted assets (1) 11.9% $ 144,940 8.0% $97,182 10.0% $121,478
-------- ======== ------ ======= ------ ========
OTS total assets $2,265,399
==========
OTS adjusted total assets $2,220,085
==========
OTS risk-weighted assets $1,214,777
==========
</TABLE>
- -------------------------
(1) Does not reflect the interest rate risk component to the risk-based capital
requirement, the effective date of which has been postponed.
(2) Reflects the proposed increase from 3%.
21
<PAGE> 22
Commonwealth Bancorp, Inc. and Subsidiaries
Average Balance Report
(in thousands)
<TABLE>
<CAPTION>
Quarter Ended September 30,
----------------------------------- --------------------------------
1998 1997
----------------------------------- --------------------------------
Average Average
Average Yield / Average Yield /
Balance Interest Cost(e) Balance Interest Cost(e)
------- -------- ------- ------- -------- -------
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable (a):
Mortgage loans $1,078,937 $19,400 7.13% $967,601 $17,951 7.36%
Consumer loans 226,593 5,246 9.19% 179,067 4,020 8.91%
Commercial loans 122,190 2,700 8.77% 106,838 2,303 8.55%
------------ --------- --------- ------------ --------- ---------
Total loans receivable 1,427,720 27,346 7.60% 1,253,506 24,274 7.68%
------------ --------- --------- ------------ --------- ---------
Mortgage-backed securities 675,567 11,517 6.76% 798,389 13,861 6.89%
Investment securities 36,904 497 5.34% 62,068 966 6.17%
Other earning assets (b) 19,918 511 10.18% 13,386 436 12.92%
------------ --------- --------- ------------ --------- ---------
Total interest-earning assets 2,160,109 39,871 7.32% 2,127,349 39,537 7.37%
Non-interest-earning assets 155,511 --------- --------- 146,584 --------- ---------
------------ ------------
Total assets $2,315,620 $2,273,933
============ ============
Interest-bearing liabilities
Deposits:
Demand deposits (c) $635,151 3,879 2.42% $571,529 3,501 2.43%
Savings deposits 226,937 1,273 2.23% 243,061 1,365 2.23%
Certificates of deposit 703,258 9,675 5.46% 723,233 10,076 5.53%
------------ --------- --------- ------------ --------- ---------
Total deposits 1,565,346 14,827 3.76% 1,537,823 14,942 3.86%
------------ --------- --------- ------------ --------- ---------
Notes payable and other borrowings
Repurchase agreements 195,233 2,921 5.94% 247,923 3,661 5.86%
FHLB Advances 301,489 4,321 5.69% 229,337 3,310 5.73%
------------ --------- --------- ------------ --------- ---------
Total borrowings 496,722 7,242 5.78% 477,260 6,971 5.79%
------------ --------- --------- ------------ --------- ---------
Total interest-bearing liabilities(d) 2,062,068 22,069 4.25% 2,015,083 21,913 4.31%
Non-interest-bearing liabilities 57,991 --------- --------- 41,213 --------- ---------
------------ ------------
Total liabilities 2,120,059 2,056,296
Shareholders' equity 195,561 217,637
------------ ------------
Total liabilities and equity $2,315,620 $2,273,933
============ ============
Net interest-earning assets $98,041 $112,266
============ ============
Net interest income/
interest rate spread $17,802 3.07% $17,624 3.06%
========= ========= ========= =========
Net interest margin 3.27% 3.29%
========= =========
Ratio of average interest-
earning assets to average
interest-bearing liabilities 104.75% 105.57%
========= =========
<CAPTION>
Nine Months Ended September 30,
----------------------------------- --------------------------------
1998 1997
----------------------------------- --------------------------------
Average Average
Average Yield / Average Yield /
Balance Interest Cost(e) Balance Interest Cost(e)
------- -------- ------- ------- -------- -------
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable (a):
Mortgage loans $1,058,170 $57,372 7.25% $914,276 $51,382 7.51%
Consumer loans 212,977 14,273 8.96% 173,820 11,615 8.93%
Commercial loans 120,030 7,611 8.48% 102,897 6,381 8.29%
----------- --------- --------- ----------- --------- ---------
Total loans receivable $1,391,177 79,256 7.62% 1,190,993 69,378 7.79%
----------- --------- --------- ----------- --------- ---------
Mortgage-backed securities 716,142 36,537 6.82% 803,065 41,928 6.98%
Investment securities 45,464 1,849 5.44% 68,628 3,214 6.26%
Other earning assets (b) 28,871 1,969 9.12% 23,691 1,590 8.97%
----------- --------- --------- ----------- --------- ---------
Total interest-earning assets 2,181,654 119,611 7.33% 2,086,377 116,110 7.44%
Non-interest-earning assets 155,625 --------- --------- 142,690
----------- ----------- --------- ---------
Total assets $2,337,279 $2,229,067
=========== ===========
Interest-bearing liabilities
Deposits:
Demand deposits (c) $618,886 11,221 2.42% $547,735 10,033 2.45%
Savings deposits 229,070 3,816 2.23% 250,355 4,181 2.23%
Certificates of deposit 722,376 29,683 5.49% 719,223 29,154 5.42%
----------- --------- --------- ----------- --------- ---------
Total deposits 1,570,332 44,720 3.81% 1,517,313 43,368 3.82%
----------- --------- --------- ----------- --------- ---------
Notes payable and other borrowings
Repurchase agreements 215,404 9,652 5.99% 237,104 10,466 5.90%
FHLB Advances 288,846 12,227 5.66% 210,458 8,890 5.65%
----------- --------- --------- ----------- --------- ---------
Total borrowings 504,250 21,879 5.80% 447,562 19,356 5.78%
----------- --------- --------- ----------- --------- ---------
Total interest-bearing liabilities (d) 2,074,582 66,599 4.29% 1,964,875 62,724 4.27%
Non-interest-bearing liabililities 55,235 --------- --------- 45,821 --------- ---------
----------- -----------
Total liabilities 2,129,817 2,010,696
Shareholders' equity 207,462 218,371
----------- -----------
Total liabilities and equity $2,337,279 $2,229,067
=========== ===========
Net interest-earning assets $107,072 $121,502
=========== ===========
Net interest income/
interest rate spread $53,012 3.04% $53,386 3.17%
========= ========= ========= =========
Net interest margin 3.25% 3.42%
========= =========
Ratio of average interest-
earning assets to average
interest-bearing liabilities 105.16% 106.18%
========= =========
</TABLE>
(a) The average balance of loans receivable includes nonperforming loans,
interest on which is recognized on a cash basis, and mortgage loans
held for sale.
(b) Includes FHLB stock, money market accounts, FHLB deposits and
interest-earning bank deposits.
(c) Includes checking and money market accounts.
(d) Includes interest expense associated with interest rate swaps and interest
rate caps.
(e) Annualized
22
<PAGE> 23
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS-CONTINUED
COMPARISON OF RESULTS OF OPERATIONS FOR THE QUARTER AND NINE MONTHS ENDED
SEPTEMBER 30, 1998 AND 1997.
GENERAL. Net income was $2.7 million, or $0.19 per common share on a
diluted basis, for the third quarter of 1998, compared to $4.0 million, or
$0.25 per common share, for the third quarter of 1997. For the nine months
ended September 30, 1998, net income was $8.0 million, or $0.53 per common
share on a diluted basis, compared to $12.4 million, or $0.76 per common share,
for the nine months ended September 30, 1997.
The decrease in net income for the third quarter and first nine months
of 1998, relative to the comparable periods in 1997, was primarily due to
increases in operating expenses and provision for loan losses, offset, in part,
by higher noninterest income and net interest income. The financial results
for the third quarter and first nine months of 1997 and 1998 included a number
of items which affected the comparability of reported results between periods.
Among the larger items were:
- Downward valuation adjustments of $0.5 million (after-tax) and $2.4
million (after-tax) in the third quarter and first nine months of
1998, respectively, relating to an equity investment in a mortgage
servicing partnership; and
- A $1.0 million (after-tax) nonrecurring net gain in the first
quarter of 1997 relating to the sale of the Company's previous
headquarters building and a branch property.
NET INTEREST INCOME. Net interest income was $17.8 million in the
third quarter of 1998, compared to $17.6 million in the third quarter of 1997.
For the first nine months of 1998, net interest income was $53.0 million,
versus $53.4 million for the comparable period in 1997.
Average interest-earning assets totaled $2.2 billion for both the
third quarter and nine months ended September 30, 1998. This compared to $2.1
billion for both the third quarter and nine months ended September 30, 1997.
The slight increases in interest-earning assets were due primarily to increases
in the Company's loan portfolio. Compared to the third quarter of 1997,
average mortgage loans increased 12% to $1,078.9 million, average consumer
loans increased 27% to $226.6 million, and average commercial loans increased
14% to $122.2 million in the third quarter of 1998. Average loans represented
91% of average deposits in the third quarter of 1998, compared to 82% in the
third quarter of 1997. Relative to the first nine months of 1997, average
mortgage loans increased 16% to $1,058.2 million, average consumer loans
increased 23% to $213.0 million, and average commercial loans increased 17% to
$120.0 million for the first nine months of 1998. Average loans represented
89% of average deposits for the first nine months of 1998, compared to 78% for
the first nine months of 1997.
The net interest margin was 3.27% in the third quarter of 1998,
generally in line with 3.29% in the third quarter of 1997. For the nine months
ended September 30, 1998, the net interest margin was 3.25%, down somewhat from
3.42% in the comparable 1997 period. The decrease was primarily attributable
to a 0.11% reduction in the yield on interest-earning assets for the first nine
months of 1998, relative to the comparable period in 1997, which, in turn, was
primarily attributable to lower market interest rates.
PROVISION FOR LOAN LOSSES. Provision for loan losses totaled $1.0
million and $2.5 million in the third quarter and nine months ended September
30, 1998, respectively. This compared to $0.3 million and $0.9 million,
respectively, in the third quarter and nine months ended September 30, 1997.
At September 30, 1998, the allowance for credit losses totaled $9.5 million, or
0.69% of loans, compared to $9.1 million, or 0.74%, at September 30, 1997, and
$9.0 million, or 0.71%, at December 31, 1997.
NONINTEREST INCOME. Noninterest income totaled $6.5 million in the
third quarter of 1998, compared to $5.7 million in the third quarter of 1997.
The increase reflected a $1.0 million increase in the net gain on sale of
mortgage loans and a $0.3 million increase in the net gain on sale of
securities. The increase in the net gain on sale of mortgage loans was
attributable to sharply higher mortgage origination volume, which totaled
$232.4 million in the third quarter of 1998, versus $151.7 million in the third
quarter of 1997. These increases were partially offset by a $0.8 million
decrease in servicing fees, which was primarily attributable to an increase in
the amortization of mortgage servicing rights due to prepayments in the
mortgage servicing portfolio and a $0.2 million gain on the sale of mortgage
servicing rights in the third quarter of 1997.
23
<PAGE> 24
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS-CONTINUED
Noninterest income was $19.9 million for the first nine months of
1998, compared to $15.0 million for the same 1997 period. The increase
reflected a $4.2 million increase in the net gain on sale of mortgage loans and
a $1.2 million increase in deposit fees. The increase in the net gain on sale
of mortgage loans was attributable to sharply higher mortgage origination
volume, which totaled $797.1 million for the first nine months of 1998, versus
$421.9 million for the first nine months of 1997. The increase in deposit fees
was primarily attributable to growth in supermarket banking, expansion of
Commonwealth's commercial banking activities, and increased ATM fees. Also
contributing to the increase in noninterest income for the first nine months of
1998 was a $1.2 million increase in the net gain on the sale of securities, a
$0.6 million increase in the cash surrender value of an investment in an
insurance product, and a $0.4 million reversal of a deferred tax liability.
These increases were partially offset by the effect of a $1.5 million net gain
on the sale of the Company's previous headquarters building and the sale of a
branch property in the first quarter of 1997, and a $1.1 million decrease in
servicing fees in the first nine months of 1998. The decrease in servicing
fees was primarily attributable to the same factors responsible for the
decrease in the third quarter of 1998.
NONINTEREST EXPENSE. Noninterest expense was $19.2 million in the
third quarter of 1998, compared to $17.0 million in the third quarter of 1997.
The increase was primarily attributable to a $0.8 million valuation adjustment
in the third quarter of 1998 relating to an equity investment in a mortgage
servicing partnership which is experiencing significant prepayments in its
mortgage servicing portfolio. The increase was also attributable to higher
commission expenses relating to growth in mortgage originations, as well as an
increase in expenses relating to supermarket banking and commercial banking.
Noninterest expense was $58.4 million for the nine months ended
September 30, 1998, compared to $48.9 million for the same period in 1997. In
addition to the above factors for the third quarter, the increase was primarily
attributable to a $2.7 million valuation adjustment in the second quarter of
1998 relating to an equity investment in a mortgage servicing partnership.
Also reflected in the increase is a $0.8 million one-time charge in the second
quarter of 1998 related to a policy change in accounting for compensation
expense. The increase in noninterest expense was also due to the $0.4 million
reversal of the Bank's pension liability, and the $0.4 million reversal of a
liability relating to a contract with the Company's data processing provider
during the second quarter of 1997, as well as a $0.2 million refund of prior
year FDIC premiums received in the first quarter of 1997. Partially offsetting
these increases was a $0.4 million decrease in the amortization of intangible
assets.
PROVISION FOR INCOME TAXES. Provision for income taxes was $1.4
million, or 34% of income before income taxes in the third quarter of 1998,
compared to $2.0 million, or 33%, in the third quarter of 1997. For the first
nine months of 1998, provision for income taxes was $3.9 million, or 33% of
income before income taxes, compared to $6.4 million, or 34%, in the first nine
months of 1997.
24
<PAGE> 25
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS-CONTINUED
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Commonwealth utilizes income simulation models to measure the
estimated effects on net interest income under multiple interest rate
scenarios, including parallel increases and decreases in interest rates
amounting to 100, 200, and 300 basis points. Each scenario is modeled for a
change in net interest income over a two year period and reflects unique
prepayment and repricing assumptions. Similar simulation models are prepared
to analyze the Company's net asset value, which is the present value of the
cash flows generated by the Company's assets minus the present value of the
cash flows generated by the Company's liabilities, plus or minus the net cash
flows produced by mortgage servicing rights and off-balance sheet contracts.
At September 30, 1998, the Company's income simulation model indicates net
interest income would decrease by 1.49% over a two year period if interest
rates increased by 200 basis points. The model projects that net interest
income would decrease by 9.66 % over a two year period if rates decreased by
200 basis points. The anticipated changes in the level of net interest income
and net asset value over the various scenarios were within limits approved by
the Company's Board of Directors.
Management believes that the assumptions utilized to evaluate the
vulnerability of the Company's operations to changes in interest rates
approximate actual experience and considers them to be reasonable. However, the
interest rate sensitivity of the Company's assets and liabilities could vary
substantially if different assumptions were used.
Since there are limitations inherent in any methodology used to
estimate the exposure to changes in market interest rates, this analysis is not
intended to be a forecast of the actual effect of a change in market interest
rates on the Company. The net interest income simulation does not include the
decrease in earnings from an increase in amortization of mortgage servicing
rights that may be caused by higher prepayments when rates decline. The market
value of portfolio equity is significantly impacted by the estimated effect of
prepayments on the value of loans, mortgage-backed securities, and mortgage
servicing rights as rates decline. This analysis is based on the Company's
assets, liabilities, mortgage servicing rights, and off-balance-sheet
instruments at September 30, 1998, and does not contemplate any actions the
Company might undertake in response to changes in market interest rates, such
as the creation of additional servicing value by refinancing the mortgage loan
portfolio. This action could minimize the decrease in market value of
portfolio equity in the downward rate scenarios.
25
<PAGE> 26
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
There are no material legal proceedings to which the Company or any of
its subsidiaries is a party, or to which any of their property is subject,
other than proceedings routine to the business of the Company and its
subsidiaries.
Item 2. Changes in Securities
Not applicable.
Item 3. Defaults Upon Senior Securities
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable.
Item 5. Other Information
Not applicable.
Item 6. Exhibits and Reports on Form 8-K.
a) Not applicable.
b) On July 22, 1998, the Company filed a Current Report on Form 8-K to
report under Item 5, its earnings for the second quarter of 1998. On October
23, 1998, the Company filed a Current Report on Form 8-K to report under Item
5, its earnings for the third quarter of 1998. On October 30, 1998, the
Company filed a Current Report on Form 8-K to report under Item 5, the
completion of its previously announced stock repurchase program.
26
<PAGE> 27
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Company has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
COMMONWEALTH BANCORP, INC.
<TABLE>
<S> <C>
DATE: November 11, 1998 /s/ Charles H. Meacham
-----------------------------------------
Charles H. Meacham
Chairman and Chief Executive Officer
(Principal Executive Officer)
DATE: November 11, 1998 /s/ Charles M. Johnston
-----------------------------------------
Charles M. Johnston
Senior Vice President and Chief Financial Officer
(Principal Financial and Accounting Officer)
</TABLE>
27
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<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 44,687
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0
0
<COMMON> 65,483
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