<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period 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 Number 0-28312
FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.
(Exact name of registrant as specified in its charter)
Texas 71-0785261
- ---------------------------------------------- -------------------------
(State or other jurisdiction of incorporation (I.R.S. Employer
or organization) Identification Number)
200 West Stephenson
Harrison, Arkansas 72601
- ---------------------------------------- -------------------------
(Address of principal executive office) (Zip Code)
(Registrant's telephone number, including area code)
----------------------------------------------------
(870) 741-7641
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 the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date: As of November 10,
1998, there were issued and outstanding 4,575,260 shares of the Registrant's
Common Stock, par value $.01 per share.
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FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
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<S> <C>
Part I. Financial Information
Item 1. Consolidated Financial Statements
Consolidated Statements of Financial Condition
As of September 30, 1998 (unaudited) and December 31, 1997 1
Consolidated Statements of Income and Comprehensive Income for
the three and nine months ended September 30, 1998 (unaudited)
and 1997 (unaudited) 2
Consolidated Statement of Stockholders' Equity for the nine months
ended September 30, 1998 (unaudited) 3
Consolidated Statements of Cash Flows for the nine months
ended September 30, 1998 (unaudited) and 1997 (unaudited) 4
Notes to Unaudited Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations 9
Item 3. Quantitative and Qualitative Disclosures about Market Risk 15
Part II. Other Information
Item 1. Legal Proceedings 16
Item 2. Changes in Securities and Use of Proceeds 16
Item 3. Defaults Upon Senior Securities 16
Item 4. Submission of Matters to a Vote of Security Holders 16
Item 5. Other Information 16
Item 6. Exhibits and Reports on Form 8-K 16
Signatures 17
</TABLE>
<PAGE>
FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(In Thousands)
<TABLE>
<CAPTION>
September 30, December 31,
ASSETS 1998 1997
------------- ------------
(Unaudited)
<S> <C> <C>
Cash and cash equivalents .................................................. $ 7,660 $ 6,627
Investment securities - held to maturity ................................... 128,137 95,533
Federal Home Loan Bank stock ............................................... 3,856 3,603
Loans receivable, net ...................................................... 445,652 433,942
Accrued interest receivable ................................................ 4,494 4,134
Real estate acquired in settlement of loans, net ........................... 4,358 195
Office properties and equipment, net ....................................... 5,282 5,218
Prepaid expenses and other assets .......................................... 506 355
--------- ---------
TOTAL ASSETS .......................................................... $ 599,945 $ 549,607
--------- ---------
--------- ---------
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES:
Deposits ................................................................... $ 466,218 $ 450,874
Federal Home Loan Bank advances ............................................ 47,513 11,997
Advance payments by borrowers for
taxes and insurance ....................................................... 852 900
Other liabilities .......................................................... 2,212 2,952
--------- ---------
Total liabilities ..................................................... 516,795 466,723
--------- ---------
MINORITY INTEREST .......................................................... 1,012 --
--------- ---------
STOCKHOLDERS' EQUITY:
Preferred stock, no par value, 5,000,000 shares
authorized, none issued
Common stock, $.01 par value, 20,000,000 shares authorized, 5,153,751 shares
issued, 4,661,260 shares outstanding at September 30, 1998
and 4,896,063 at December 31, 1997 ....................................... 52 52
Additional paid-in capital ................................................. 50,389 50,237
Employee stock benefit plans ............................................... (5,330) (6,207)
Retained earnings-substantially restricted ................................. 46,427 42,982
--------- ---------
91,538 87,064
Treasury stock, at cost, 492,491 shares at
September 30, 1998 and 257,688 at
December 31, 1997 ........................................................ (9,400) (4,180)
--------- ---------
Total stockholders' equity ............................................ 82,138 82,884
--------- ---------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY ................................................ $ 599,945 $ 549,607
--------- ---------
--------- ---------
</TABLE>
See notes to unaudited consolidated financial statements.
1
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FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.
CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
(In Thousands)
(Unaudited)
<TABLE>
<CAPTION>
Three Months-Ended Nine Months Ended
September 30, September 30,
-------------------- -------------------
1998 1997 1998 1997
-------- -------- -------- --------
<S> <C> <C> <C> <C>
INTEREST INCOME:
Loans receivable .......................... $ 9,010 $ 8,458 $ 26,771 $ 25,089
Investment securities ..................... 2,011 1,569 5,656 4,567
Other ..................................... 31 199 117 333
-------- -------- -------- --------
Total interest income ................. 11,052 10,226 32,544 29,989
-------- -------- -------- --------
INTEREST EXPENSE:
Deposits .................................. 6,081 6,009 18,011 17,322
Other borrowings .......................... 464 144 1,087 235
-------- -------- -------- --------
Total interest expense ................ 6,545 6,153 19,098 17,557
-------- -------- -------- --------
NET INTEREST INCOME ......................... 4,507 4,073 13,446 12,432
PROVISION FOR LOAN LOSSES ................... -- -- 25 --
-------- -------- -------- --------
NET INTEREST INCOME AFTER
PROVISION FOR LOAN LOSSES .................. 4,507 4,073 13,421 12,432
-------- -------- -------- --------
NONINTEREST INCOME:
Gain on sales of investment securities .... -- -- -- 394
Deposit fee income ........................ 237 207 657 600
Other ..................................... 277 153 752 556
-------- -------- -------- --------
Total noninterest income .............. 514 360 1,409 1,550
-------- -------- -------- --------
NONINTEREST EXPENSES:
Salaries and employee benefits ............ 1,603 1,480 4,917 4,851
Net occupancy expense ..................... 226 205 650 594
Federal insurance premiums ................ 70 67 209 203
Provision for real estate losses .......... 8 -- 14 10
Data processing ........................... 207 192 653 603
Postage and supplies ...................... 90 77 299 265
Other ..................................... 379 353 1,174 990
-------- -------- -------- --------
Total noninterest expenses ............ 2,583 2,374 7,916 7,516
-------- -------- -------- --------
INCOME BEFORE INCOME TAXES .................. 2,438 2,059 6,914 6,466
INCOME TAX PROVISION ........................ 861 748 2,455 2,325
-------- -------- -------- --------
NET INCOME .................................. 1,577 1,311 4,459 4,141
OTHER COMPREHENSIVE INCOME,
NET OF TAX:
Unrealized holding gain on securities
arising during period .................. -- -- -- 58
Less: reclassification adjustment for gains
included in net income ................. -- -- -- (260)
-------- -------- -------- --------
COMPREHENSIVE INCOME ........................ $ 1,577 $ 1,311 $ 4,459 $ 3,939
-------- -------- -------- --------
-------- -------- -------- --------
EARNINGS PER SHARE:
Basic ..................................... $ 0.35 $ 0.29 $ 0.99 $ 0.92
-------- -------- -------- --------
-------- -------- -------- --------
Diluted ................................... $ 0.35 $ 0.29 $ 0.96 $ 0.91
-------- -------- -------- --------
-------- -------- -------- --------
</TABLE>
See notes to unaudited consolidated financial statements.
2
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FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998
(In Thousands)
(Unaudited)
<TABLE>
<CAPTION>
Employee
Additional Stock
Common Paid-In Benefit Retained Treasury
Stock Capital Plans Earnings Stock Total
--------- ----------- ---------- ----------- ---------- --------
<S> <C> <C> <C> <C> <C> <C>
Balance, January 1, 1998..... $ 52 $ 50,237 $ (6,207) $ 42,982 $ (4,180) $ 82,884
Net income .................. 4,459 4,459
Repayment of ESOP loan ...... 466 312 778
Common stock acquired for
employee stock benefit plan (434) (434)
Stock compensation expense .. 565 565
Shares released from
restricted stock trust .... 120 120
Purchase of treasury stock,
at cost ................... (5,220) (5,220)
(1,014) (1,014)
Dividends paid .............. -------- -------- -------- -------- -------- --------
Balance, September 30, 1998.. $ 52 $ 50,389 $ (5,330) $ 46,427 $ (9,400) $ 82,138
-------- -------- -------- -------- -------- --------
-------- -------- -------- -------- -------- --------
</TABLE>
See notes to unaudited consolidated financial statements.
3
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FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands)
(Unaudited)
<TABLE>
<CAPTION>
Nine Months Ended September 30,
-------------------------------
1998 1997
-------------- ---------------
<S> <C> <C>
OPERATING ACTIVITIES:
Net income ................................................................................. $ 4,459 $ 4,141
Adjustments to reconcile net income
to net cash provided by operating activities:
Provision for loan losses ................................................................. 25 --
Provision for real estate losses .......................................................... 14 10
Deferred tax provision .................................................................... 285 30
Gain on sale of real estate owned ......................................................... (3) (150)
Loss on sale of real estate owned ......................................................... 61 --
Gain on sale of investment securities ..................................................... -- (394)
Proceeds from sales of mortgage loans
originated to sell ....................................................................... 13,311 1,234
Gain on sale of mortgage loans
originated to sell ....................................................................... (168) (18)
Depreciation .............................................................................. 379 345
Real estate owned depreciation ............................................................ 83 --
Accretion of deferred loan fees ........................................................... (598) (456)
Stock compensation expense ................................................................ 1,343 1,606
Other .................................................................................... 12 --
Changes in operating assets & liabilities:
Accrued interest receivable ............................................................ (360) (337)
Prepaid expenses & other assets ........................................................ (151) 424
Other liabilities ...................................................................... 479 514
-------- --------
Net cash provided by operating activities ............................................ 19,171 6,949
-------- --------
INVESTING ACTIVITIES:
Purchases of investment securities-held to
maturity ................................................................................. (86,716) (36,152)
Proceeds from sale of investment securities -
available for sale ....................................................................... -- 406
Proceeds from maturities of investment
securities-held to maturity .............................................................. 53,859 32,050
Loan originations, net of repayments ...................................................... (27,958) (28,476)
Proceeds from sales of real estate owned .................................................. 359 63
Purchases of office properties and equipment .............................................. (443) (1,917)
-------- --------
Net cash used by investing activities .................................................. (60,899) (34,026)
-------- --------
</TABLE>
(Continued)
4
<PAGE>
FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands)
(Unaudited)
<TABLE>
<CAPTION>
Nine Months Ended September 30,
-------------------------------
1998 1997
--------------- ---------------
<S> <C> <C>
FINANCING ACTIVITIES:
Net increase in deposits ...................... 15,344 28,176
Net increase in advances from FHLB ............ 35,516 10,000
Net decrease in advance payments
by borrowers for taxes & insurance ......... (48) (12)
Purchase of treasury stock .................... (5,220) --
Common stock acquired for employee stock
benefit plan ............................... (1,817) (1,816)
Dividends paid ................................ (1,014) (783)
-------- --------
Net cash provided by financing activities .. 42,761 35,565
-------- --------
Net increase in cash and cash equivalents ....... 1,033 8,488
CASH AND CASH EQUIVALENTS:
Beginning of period ........................... 6,627 6,819
-------- --------
End of period ................................. $ 7,660 $ 15,307
-------- --------
-------- --------
SUPPLEMENTAL DISCLOSURES OF
CASH FLOW INFORMATION:
Cash paid for:
Interest .................................... $ 18,933 $ 17,348
-------- --------
-------- --------
Income taxes ................................ $ 2,044 $ 2,133
-------- --------
-------- --------
SUPPLEMENTAL SCHEDULE OF NONCASH
INVESTING ACTIVITIES:
Real estate acquired in settlement of loans .. $ 3,679 $ 110
-------- --------
-------- --------
Loans to facilitate sales of real estate owned $ 121 $ --
-------- --------
-------- --------
</TABLE>
(Concluded)
See notes to unaudited consolidated financial statements.
5
<PAGE>
FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - Basis of Presentation
First Federal Bancshares of Arkansas, Inc. (the "Corporation") was incorporated
under Texas law in January 1996 by First Federal Bank of Arkansas, FA (the
"Bank") in connection with the conversion of the Bank from a federally chartered
mutual savings and loan association to a federally chartered stock savings and
loan association, the issuance of the Bank's stock to the Corporation, and the
offer and sale of the Corporation's common stock by the Corporation (the
"Conversion"). Upon consummation of the Conversion on May 3, 1996, the
Corporation became the unitary holding company for the Bank.
The accompanying unaudited consolidated financial statements of the Corporation
have been prepared in accordance with instructions to Form 10-Q and Article 10
of Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. However, such information reflects all adjustments
(consisting solely of normal recurring adjustments) which are, in the opinion of
management, necessary for a fair statement of results for the interim periods.
The results of operations for the three and nine months ended September 30, 1998
are not necessarily indicative of the results to be expected for the year ending
December 31, 1998. The unaudited consolidated financial statements and notes
thereto should be read in conjunction with the audited financial statements and
notes thereto for the year ended December 31, 1997, contained in the
Corporation's 1997 Annual Report to Stockholders.
Note 2 - Principles of Consolidation
The accompanying consolidated financial statements include the accounts of the
Corporation and the Bank. All significant intercompany items have been
eliminated.
Note 3 - Recently Issued Accounting Standards
The Corporation has adopted Financial Accounting Standards Board Statement of
Financial Accounting Standards No. 130, Reporting Comprehensive Income ("SFAS
130") for the quarter ended March 31, 1998. This statement requires that all
items that are required to be recognized under accounting standards as
components of comprehensive income be reported in a financial statement that is
displayed with the same prominence as other financial statements. This statement
does not require a specific format for that financial statement but requires
that an enterprise display an amount representing total comprehensive income for
the period in that financial statement. The Corporation has presented the
components of other comprehensive income and total comprehensive income below
the total for net income in the consolidated statements of income and
comprehensive income. SFAS 130 also requires that an enterprise (a) classify
items of other comprehensive income by their nature in a financial statement and
(b) display the accumulated balance of other comprehensive income separately
from retained earnings and additional paid-in capital in the equity
6
<PAGE>
section of the statement of financial condition. SFAS 130 requires restatement
of all periods presented.
Note 4 - Earnings per Share
The weighted average number of common shares used to calculate earnings per
share for the three and nine months ended September 30, 1998 and 1997 were as
follows:
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
---------------------- ---------------------
1998 1997 1998 1997
---------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
Basic weighted-average shares . 4,465,271 4,532,143 4,526,007 4,521,820
Effect of dilutive securities-
stock options ................. 62,085 45,714 112,726 12,642
--------- --------- --------- ---------
Diluted weighted-average shares 4,527,356 4,577,857 4,638,733 4,534,462
</TABLE>
Note 5 - Declaration of Dividends
At their meeting on August 26, 1998, the Board of Directors declared a $.07
(seven cent) per share cash dividend on the common stock of the Corporation. The
cash dividend was paid on September 24, 1998 to the stockholders of record at
the close of business on September 10, 1998.
Note 6 - Investment Securities
Investment securities consisted of the following (in thousands):
<TABLE>
<CAPTION>
September 30, 1998
-------------------
Amortized Fair
Held to Maturity Cost Value
---------- --------
<S> <C> <C>
U. S. Government and
Agency obligations ..... $128,110 $129,451
Mortgage-backed securities
-FHLMC ................. 27 28
-------- --------
Total ................. $128,137 $129,479
-------- --------
-------- --------
</TABLE>
7
<PAGE>
Note 7 - Loans Receivable
Loans receivable consisted of the following (in thousands):
<TABLE>
<CAPTION>
September 30, 1998
------------------
<S> <C>
First mortgage loans:
One- to four- family residences . $ 375,973
Other properties ................ 20,987
Construction .................... 21,557
Less:
Unearned discounts ............. (291)
Undisbursed loan funds ......... (8,681)
Deferred loan fees, net ........ (3,254)
---------
Total first mortgage loans .... 406,291
Consumer and other loans:
Commercial ...................... 8,682
Automobile ...................... 10,303
Consumer ........................ 3,730
Home equity and second mortgage . 13,459
Savings ......................... 1,651
Other ........................... 2,126
Add deferred loan costs ......... 164
---------
Total consumer and other loans 40,115
Allowance for loan losses ........ (754)
---------
Loans receivable, net ........ $ 445,652
---------
---------
</TABLE>
Non-accrual loans at September 30, 1998 were $1.0 million. All loans 90 days or
more past due are recorded as non-accrual.
A summary of the activity in the allowances for loan and real estate losses is
as follows (in thousands):
<TABLE>
<CAPTION>
Loans Real Estate
-------- -----------
<S> <C> <C>
Balance at December 31, 1997 ... $ 1,196 $--
Provisions for estimated losses 25 14
Recoveries .................... 3 --
Losses charged off ............ (470) (14)
------- ----
Balance at September 30, 1998 .. $ 754 $--
------- ----
------- ----
</TABLE>
8
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MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Financial Condition
At September 30, 1998, the Corporation's assets amounted to $599.9
million as compared to $549.6 million at December 31, 1997. The $50.3 million or
9.2% increase was primarily due to an increase of $32.6 million or 34.1% in
investment securities - held to maturity, a $11.7 million or 2.7% increase in
loans receivable, and a $4.2 million increase in real estate acquired in
settlement of loans, net.
The loans receivable increase resulted from the continued origination of
loans during the nine months ended September 30, 1998. Originations for the nine
month period ended September 30, 1998 consisted of $83.2 million in one- to
four- family residential loans, $600,000 in multi-family residential loans,
$15.0 million in commercial loans, $19.8 million in construction loans and $21.6
million in consumer installment loans, of which $7.4 million consisted of home
equity loans and $7.7 million consisted of automobile loans. At September 30,
1998, the Bank had outstanding loan commitments of $6.4 million, unused lines of
credit of $3.9 million, and the undisbursed portion of construction loans of
$8.7 million. Real estate acquired in settlement of loans increased $4.2 million
primarily due to the Bank accepting a deed in lieu of foreclosure on a
commercial real estate loan, as discussed below.
Liabilities increased $50.1 million or 10.7% to $516.8 million at
September 30, 1998 compared to $466.7 million at December 31, 1997. The increase
in liabilities was primarily due to an increase of $15.3 million or 3.4% in
deposits and a $35.5 million or 296.0% increase in advances from the Federal
Home Loan Bank ("FHLB") of Dallas. The increases in deposits and advances from
the FHLB of Dallas were used to fund the net loan increase and to purchase
additional investment securities. Stockholders' equity amounted to $82.1 million
or 13.7% of total assets at September 30, 1998 compared to $82.9 million or
15.1% of total assets at December 31, 1997. The decrease in stockholders' equity
was primarily due to the purchase of treasury stock totaling $5.2 million. In
addition, during the nine months ended September 30, 1998 cash dividends
aggregating $1.0 million were paid. Such decreases in stockholders' equity were
partially offset by net income in the amount of $4.5 million for the nine months
ended September 30, 1998.
Non-performing assets, consisting of non-accruing loans and repossessed
assets, amounted to $5.4 million or .90% of total assets at September 30, 1998,
compared to $5.2 million or .94% of total assets at December 31, 1997. The Bank
reclassified a previously reported non-accrual commercial real estate loan to
real estate acquired in settlement of loans in the first quarter of 1998. The
majority ownership of a partnership, which owns and operates this commercial
real estate property, was consolidated with the Bank's financial position and
operations during the quarter ended September 30, 1998. Such property has a
carrying value at September 30, 1998 of $4.0 million. As a result of such
consolidation, the Bank's real estate acquired in settlement of loans increased
$1.0 million reflecting the minority interest ownership. The property is
currently operated by a management company and is being marketed for
disposition.
9
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Results of Operations for the Three Months Ended September 30, 1998 and 1997
General. The Corporation reported net income of $1.6 million during the
three months ended September 30, 1998 compared to net income of $1.3 million for
the same period in 1997. The increase of $266,000 in net income in the 1998
period compared to the same period in 1997 was primarily due to increases in net
interest income and noninterest income which were partially offset by an
increase in noninterest expense. Net interest income rose from $4.1 million for
the three months ended September 30, 1997 to $4.5 million for the same period in
1998. Net interest income is determined by the Corporation's interest rate
spread (i.e., the difference between the yields earned on its interest-earning
assets and the rates paid on its interest-bearing liabilities) and the relative
amounts of interest-earning assets and interest-bearing liabilities. The
Corporation's interest rate spread and net interest margin increased to 2.54%
and 3.18%, respectively, for the 1998 three month period compared to 2.34% and
3.07%, respectively, for the 1997 three month period. The ratio of
interest-earning assets to interest-bearing liabilities was 114.0% for the 1998
three month period compared to 115.8% for the 1997 three month period. These and
other significant fluctuations in operations are discussed below.
Interest Income. Interest income amounted to $11.0 million for the three
months ended September 30, 1998 compared to $10.2 million for the same period in
1997. The increase of $826,000 or 8.1% was primarily due to an increase in the
average balance of loans receivable and investment securities. The increase in
the average balance of loans receivable was due to portfolio growth. The average
balance and rate earned on investment securities increased due to the purchase
of longer-term investments at rates higher than the average yield earned on such
assets in portfolio. Such increases were partially offset by a decline in the
average balance of other interest-earning assets, primarily overnight
interest-bearing cash accounts.
Interest Expense. Interest expense increased $392,000 or 6.4% to $6.5
million for the three months ended September 30, 1998 compared to $6.1 million
for the same period in 1997. Such increase was primarily due to an increase in
the average balance of deposits as well as an increase in the average balance of
FHLB of Dallas advances. Such increases were offset by a decrease in the average
yield paid on both deposit accounts and FHLB of Dallas advances.
Noninterest Income. Noninterest income amounted to $514,000 for the
three months ended September 30, 1998 compared to $360,000 for the same period
in 1997. The increase of $154,000 or 42.8% was due primarily to both an increase
of $50,000 in gain on loan sales in the secondary mortgage market and income of
$35,000 recognized in the 1998 three month period related to the operation of
real estate owned.
Noninterest Expense. Noninterest expenses increased $209,000 or 8.8%
between the 1998 and 1997 three month periods ended September 30. Such increase
in the 1998 three month period was primarily due to an increase of $123,000 in
compensation expense resulting from normal salary
10
<PAGE>
and merit increases as well as an increase in personnel due primarily to the
Bank's branch expansions.
Income Taxes. Income taxes amounted to $861,000 and $748,000 for the
three months ended September 30, 1998 and 1997, respectively, resulting in
effective tax rates of 35.3% and 36.3%, respectively.
Results of Operations for the Nine Months Ended September 30, 1998 and 1997
General. The Corporation reported net income of $4.5 million during the
nine months ended September 30, 1998 compared to $4.1 million for the same
period in 1997. The increase of $318,000 or 7.7% in net income in the 1998
period compared to the same period in 1997 was due to an increase in net
interest income which was partially offset by an increase in noninterest
expenses and a reduction in noninterest income. Net interest income increased by
$1.0 million or 8.2% from $12.4 million to $13.4 million for the nine month
periods ended September 30, 1997 and 1998, respectively. The Corporation's net
interest margin remained relatively unchanged at 3.22% and the interest rate
spread increased to 2.55% for the 1998 nine month period compared to 3.23% and
2.48%, respectively, for the 1997 nine month period.
Interest Income. Interest income amounted to $32.5 million for the nine
months ended September 30, 1998 compared to $30.0 million for the same period in
1997. The increase of $2.5 million or 8.5% was primarily due to an increase in
the average balance of loans receivable and investment securities. The average
balance of loans receivable increased as a result of continued loan demand and
portfolio growth. Such increase was partially offset by a decline in the average
yield earned on such assets due primarily to the origination of loans at market
interest rates which are currently lower than the average yield of the Bank's
loan portfolio. The average balance of investment securities increased due to
additional purchases of investment securities. The average balance and rate
earned on investment securities increased due to the purchase of longer-term
investments at rates higher than the average yield earned on such assets in
portfolio. Such increases were partially offset by a decline in the average
balance of other interest-earning assets, primarily overnight interest-bearing
cash accounts.
Interest Expense. Interest expense increased $1.5 million or 8.8% to
$19.1 million for the nine months ended September 30, 1998 compared to $17.6
million for the same period in 1997. Such increase was primarily due to an
increase in the average balance of deposits as well as an increase in the
average balance of FHLB of Dallas advances. Such increases were offset by a
decrease in the average yield paid on both deposit accounts and FHLB of Dallas
advances.
Noninterest Income. Noninterest income amounted to $1.4 million for the
nine months ended September 30, 1998 compared to $1.5 million for the same
period in 1997. The decrease of $141,000 or 9.1% was due primarily to a gain of
$394,000 recognized in 1997 on the sale of Federal Home Loan Mortgage
Corporation stock and to the recognition in 1997 of $145,000 on previously
deferred profit on the sale of real estate owned. There were no similar gains in
the 1998 nine month
11
<PAGE>
period. The decrease in noninterest income for the nine months ended September
30, 1998 compared to the nine months ended September 30, 1997 was partially
offset by an increase of $150,000 from $18,000 to $168,000 in gain on the sale
of mortgage loans in the secondary mortgage market. In addition, income of
$112,000 from operations of real estate owned was recognized in the nine month
period ended September 30, 1998.
Noninterest Expense. Noninterest expenses increased $400,000 or 5.3% to
$7.9 million compared to $7.5 million for the nine months ended September 30,
1998 and September 30, 1997, respectively. This increase was primarily due to
increased costs associated with the Corporation's employee stock ownership plan
as a result of an increase in the Corporation's quarterly average stock price,
occupancy costs due to branch expansions, salaries and benefits due to normal
salary and merit increases as well as increased personnel as a result of the
Bank's branch expansions, an increase in data processing costs and a loss on
disposition of real estate held for investment. Such increases were partially
offset by a decrease in costs related to the management recognition and
retention plan. Such costs amounted to $566,000 compared to $1.0 million for the
nine month period ended September 30, 1998 and 1997, respectively, resulting in
a $434,000 decrease. This decrease was due to the cost recognition, in the
second quarter of 1997, of an immediate 20% vesting after the plan was approved
by the Corporation's shareholders. Quarters after the second quarter of 1997
bear an equal cost of the plan assuming no changed circumstances or assumptions.
Income Taxes. Income taxes amounted to $2.5 million and $2.3 million for
the nine months ended September 30, 1998 and September 30, 1997, respectively,
resulting in effective tax rates of 35.5% and 36.0%, respectively.
Liquidity and Capital Resources
The Corporation's liquidity, represented by cash and cash equivalents,
is a product of its operating, investing and financing activities. The
Corporation's primary sources of funds are deposits, amortization, prepayments
and maturities of outstanding loans, maturities of investment securities and
other short-term investments and funds provided from operations. While scheduled
loan amortization, maturing investment securities and short-term investments are
relatively predictable sources of funds, deposit flows and loan prepayments are
greatly influenced by general interest rates, economic conditions and
competition. The Corporation manages the pricing of its deposits to maintain a
steady deposit balance. In addition, the Corporation invests excess funds in
overnight deposits and other short-term interest-earning assets which provide
liquidity to meet lending requirements. The Corporation has generally been able
to generate enough cash through the retail deposit market, its traditional
funding source, to offset the cash utilized in investing activities. As an
additional source of funds, the Bank has borrowed from the FHLB of Dallas. At
September 30, 1998, the Bank had outstanding advances from the FHLB of Dallas in
the amount of $47.5 million. Such advances were used in the Bank's normal
operations and investing activities.
As of September 30, 1998, the Bank's regulatory capital was in excess of
all applicable regulatory capital adequacy requirements. At September 30, 1998,
the Bank's tangible, core and
12
<PAGE>
risk-based capital ratios amounted to 11.7%, 11.7% and 22.3%, respectively,
compared to regulatory requirements of 1.5%, 3.0% and 8.0%, respectively.
Impact of Inflation and Changing Prices
The financial statements and related financial data presented herein
have been prepared in accordance with instructions to Form 10-Q, which require
the measurement of financial position and operating results in terms of
historical dollars, without considering changes in relative purchasing power
over time due to inflation.
Unlike most industrial companies, virtually all of the Bank's assets and
liabilities are monetary in nature. As a result, interest rates generally have a
more significant impact on a financial institution's performance than does the
effect of inflation.
The Year 2000 Issue
The Year 2000 issue is the result of computer programs being written
using two digits rather than four digits to define the applicable year. Computer
programs that have time-sensitive coding may recognize a date using "00" as the
year 1900 rather than the Year 2000. Systems that do not properly recognize such
information could result in a system failure or generation of erroneous data.
The Bank has developed a plan intended to ensure that its computer
systems and software will function properly with respect to dates in the Year
2000 and thereafter. The Year 2000 Project consists of various phases including
an awareness phase, assessment phase, renovation phase, testing phase and
implementation phase. To date the awareness and assessment phases are
substantially complete. In the assessment phase, hardware, software, third-party
vendors, customers, and non-technological systems that could be affected by the
century rollover were identified. In this assessment, various systems were
identified as mission-critical. The primary focus of the renovation and testing
phases is on these mission-critical systems.
The majority of the Bank's data processing is performed by a third party
service bureau. Processing by the servicer includes account processing for all
deposit and loan accounts. Based on information from the servicer, it is
believed that the servicer is substantially complete with remediation of its
systems. The Bank is currently testing the servicer's system in accordance with
an established schedule. Testing of the servicer's system commenced on November
3, 1998 and is expected to be completed at the end of January, 1999. This
testing is being performed by Bank personnel.
The Bank utilizes various third party software systems that interface
with the servicer's system that are deemed to be mission-critical. Approximately
50% of these software packages currently utilized by the Bank are not Year 2000
compliant, but upgrades or replacement systems are currently available or will
be available by December 31, 1998. These upgrades or replacements for Year 2000
will also upgrade the systems to a Windows operating system. The majority of the
other third party
13
<PAGE>
software systems will be converted to a Windows operating environment as well.
These upgrades or replacements are scheduled to be installed during the first
quarter of 1999. The testing of these systems is scheduled to be conducted as
the software is replaced and should also be completed in the first quarter of
1999.
Approximately 85% of the computers within the Bank are not Year 2000
compliant. These computers will be replaced beginning in the fourth quarter of
1998 with completion scheduled in the second quarter of 1999. Installation of a
wide area network and conversion to a Windows operating environment will be
implemented along with the conversion of the computers. Testing of the computers
and the network is scheduled to be conducted as the hardware and the network are
installed and should be completed in the second quarter of 1999.
The software and hardware that are being replaced are part of a
scheduled plan to upgrade the Bank's systems to a Windows operating environment.
Therefore, the Bank is not accelerating the replacement due to Year 2000 issues
and all costs associated with the replacement of systems are considered costs
incurred in the ordinary course of business.
The failure to correct a Year 2000 problem of a mission-critical system
could result in an interruption in, or a failure of, certain normal business
activities or operations. Such failures could materially and adversely affect
the Corporation's results of operation, liquidity, and financial condition. Due
to the general uncertainty inherent in the Year 2000 problem, resulting in part
from the uncertainty of third-party suppliers, including power companies and
telephone companies, the Corporation is unable to determine at this time whether
the consequences of Year 2000 failures will have a material impact on the
Corporation's result of operations, liquidity or financial condition. The Year
2000 Project is anticipated to significantly reduce the uncertainty about the
Year 2000 problem and, in particular, about the Year 2000 readiness of the
Bank's data processing servicer. The Corporation believes that, based on the
data processing servicer's Year 2000 efforts and the completion of the Year 2000
Project by the Bank, the probability of significant interruptions of normal
operations should be reduced.
Contingency plans for Year 2000 issues relating to mission-critical
systems are being addressed by the Bank. The Bank currently has a business
resumption recovery plan that addresses various contingencies within the Bank
including the servicer's computer system being inoperable as well as other
mission-critical systems. Contingency planning for year 2000 is ongoing as
systems are replaced and additional information becomes available regarding Year
2000 issues.
Forward-Looking Statements
This Form 10-Q contains certain forward-looking statements and
information relating to the Corporation that are based on the beliefs of
management as well as assumptions made by and information currently available to
management. In addition, in those and other portions of this document, the words
"anticipate," "believe," "estimate," "except," "intend," "should" and similar
expressions, or the negative thereof, as they relate to the Corporation or the
Corporation's
14
<PAGE>
management, are intended to identify forward-looking statements. Such statements
reflect the current views of the Corporation with respect to future looking
events and are subject to certain risks, uncertainties and assumptions. Should
one or more of these risks or uncertainties materialize or should underlying
assumptions prove incorrect, actual results may very from those described herein
as anticipated, believed, estimated, expected or intended. The Corporation does
not intend to update these forward-looking statements.
QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK
For a discussion of the Corporation's asset and liability management
policies as well as the potential impact of interest rate changes upon the
market value of the Bank's portfolio equity, see "Management's Discussion and
Analysis of Financial Condition and Results of Operations" in the Corporation's
1997 Annual Report to Stockholders. There has been no material change in the
Corporation's asset and liability position or the market value of the Bank's
portfolio equity since December 31, 1997.
15
<PAGE>
FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.
Part II
Item 1. Legal Proceedings
Neither the Corporation nor the Bank is involved in any pending
legal proceedings other than non-material legal proceedings
occurring in the ordinary course of business.
Item 2. Changes in Securities and Use of Proceeds
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
None.
Item 6. Exhibits and Reports on Form 8-K
None.
16
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
FIRST FEDERAL BANCSHARES OF ARKANSAS, INC.
Date: November 12, 1998 By: /s/Larry J. Brandt
--------------------------------
Larry J. Brandt
President
Date: November 12, 1998
By: /s/Tommy W. Richardson
--------------------------------
Tommy W. Richardson
Chief Financial Officer
17
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