UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K/A
CURRENT REPORT
Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
Date of Report (Date of earliest event reported): August 31, 1999
Commission File Number 0-20905
UNITED PAYORS & UNITED PROVIDERS, INC.
(Exact name of registrant as specified in its charter)
Delaware 51-0374698
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
2275 Research Boulevard, 6th Floor, Rockville, Maryland 20850
(Address of principal executive offices, Zip Code)
(301) 548-1000
(Registrant's phone number, including area code)
Not Applicable
----------------------------------
(Former name, former address and former fiscal year,
if changed since last report)
<PAGE>
The Form 8-K filed by the Registrant on September 15, 1999 is hereby
amended to include the information requested to be disclosed under Item 7 of the
Form 8-K.
ITEM 7. FINANCIAL STATEMENTS AND EXHIBITS
The following financial statements, pro forma financial information and
exhibits are filed as part of this report.
(a) Financial Statements of the Business Acquired.
(1) Quantum Financial Holdings, Inc. Consolidated Balance Sheets as of
December 31, 1998 and 1997.
(2) Quantum Financial Holdings, Inc. Consolidated Statements of Operations
for the Years Ended December 31, 1998, 1997 and 1996.
(3) Quantum Financial Holdings, Inc. Consolidated Statements of
Stockholders' Equity for the Years Ended December 31, 1998, 1997 and
1996.
(4) Quantum Financial Holdings, Inc. Consolidated Statements of Cash Flows
for the Years Ended December 31, 1998, 1997 and 1996.
(5) Notes to Financial Statements.
(6) Report of Independent Auditors.
(7) Quantum Financial Holdings, Inc. Unaudited June 30, 1999 Consolidated
Balance Sheet.
(8) Quantum Financial Holdings, Inc. Unaudited Consolidated Statements of
Operations for the Six Months Ended June 30, 1999 and 1998.
(9) Quantum Financial Holdings, Inc. Unaudited Consolidated Statements of
Cash Flows for the Six Months Ended June 30, 1999 and 1998.
(10) Notes to the Unaudited June 30, 1999 Consolidated Financial
Statements.
(b) Pro Forma Consolidated Financial Information
(1) Introduction.
(2) Unaudited Pro Forma Consolidated Balance Sheet as of June 30, 1999.
(3) Unaudited Pro Forma Consolidated Statements of Operations for the Six
Months Ended June 30, 1999.
(4) Unaudited Pro Forma Consolidated Statements of Operations for the Year
Ended December 31, 1998.
(5) Notes to Unaudited Pro Forma Consolidated Financial Statements.
1
<PAGE>
(c) Exhibits.
Exhibit No. Description
----------- -----------
10.16 Agreement and Plan Reorganization by and
between Quantum Financial Holdings, Inc.
and United Payors & United Providers, Inc.
dated as of October 16, 1998. (1)
10.17 First Amendment to Agreement and Plan of
Reorganization by and between Quantum
Financial Holdings, Inc. and United Payors
& United Providers, Inc. dated as of June
23, 1999. (1)
23.1 Consent of Independent Accountants (filed
herewith)
(1) Incorporated herein by reference into this document from the Exhibits to
the Form 8-K dated September 15, 1999.
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.
UNITED PAYORS & UNITED PROVIDERS, INC.
Date: November 10, 1999 By: /s/ EDUARDO V. FEITO
-------------------------------------
Eduardo V. Feito
Controller and Chief Accounting Officer
2
<PAGE>
(a) Financial Statements of the Business Acquired
QUANTUM FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1998 AND 1997
<TABLE>
<CAPTION>
<S> <C> <C>
ASSETS 1998 1997
------- -------
Cash and due from banks $ 1,675,733 $ 710,403
Federal funds sold 2,564,516 552,545
----------- -----------
Total cash and cash equivalents (Notes 1 and 9) 4,240,249 1,262,948
Investment securities held to maturity (Notes 1,
2 and 9) 982,373 1,101,325
Accrued interest receivable (Notes 3 and 9) 182,177 173,722
Secondary market funding receivable (Notes 1 and 9) 1,303,792 1,349,339
Loans receivable, net (Notes 1, 4, 8, 9 and 10) 19,010,528 18,920,839
Residential real estate owned (Note 1) 1,291,404 1,590,525
Commercial real estate owned (Notes 1 and 5) 121,891 1,339,514
Federal Home Loan Bank stock (Note 9) 169,100 169,100
Premises and equipment, net (Notes 1 and 6) 355,376 391,215
Other assets (Notes 1 and 17) 400,759 564,041
----------- -----------
Total assets $28,057,649 $26,862,568
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
- -----------
Savings and NOW deposits $ 6,430,445 $ 6,626,849
Other time deposits 18,670,882 17,025,051
----------- -----------
Total deposits (Notes 7 and 9) 25,101,327 23,651,900
Federal Home Loan Bank advances (Notes 8 and 9) 1,250,000 1,250,000
Accrued expenses 71,948 86,488
Other liabilities 58,949 25,311
Other borrowed money (Notes 8 and 9) -- 9,000
----------- -----------
Total liabilities 26,482,224 25,022,699
Commitments and contingencies (Notes 18, 21 and
22)
Stockholders' equity (Notes 1, 11, 12, 13 and 19)
- --------------------
Common stock, par value $.01 per share; 5,000,000
shares authorized, 106,924 shares
issued and outstanding 1,069 1,069
Additional paid-in capital 700,205 700,205
Retained earnings (Note 13) 892,511 1,165,955
------------ ----------
1,593,785 1,867,229
Deferred compensation (Note 11) (18,360) (27,360)
------------ ----------
Total stockholders' equity 1,575,425 1,839,869
------------ ----------
Total liabilities and stockholders' equity $ 28,057,649 $26,862,568
============ ===========
</TABLE>
The accompanying notes to financial statements are an integral part of these
statements.
3
<PAGE>
QUANTUM FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
DECEMBER 31, 1998, 1997 AND 1996
<TABLE>
<CAPTION>
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Interest Income
- ---------------
Interest and fees on loans
(Notes 1 and 4) $1,704,245 $1,818,210 $2,006,454
Interest on investment securities 226,088 118,079 106,921
Interest on federal funds sold 85,109 26,876 79,512
---------- ---------- ----------
Total interest income 2,015,442 1,963,165 2,192,887
Interest Expense
- ----------------
Interest on deposits 1,246,509 1,223,415 1,384,193
Other interest expense 70,466 50,876 14,772
--------- --------- ---------
Total interest expense 1,316,975 1,274,291 1,398,965
Net interest income 698,467 688,874 793,922
Provision for loan losses 252,212 41,675 143,674
--------- --------- ---------
Net interest income after provision
for loan losses 446,255 647,199 650,248
Other Income
- ------------
Fees on loans originated for others, net of
related commissions and payroll taxes
(Notes 1 and 14) 495,325 245,941 115,179
Other operating income (Notes 5 and 15) 136,942 374,556 272,559
--------- ---------- ---------
Total other income 632,267 620,497 387,738
General and Administrative Expenses
- -----------------------------------
Salaries, benefits and payroll taxes 592,697 461,208 533,014
Other operating expenses (Note 16) 714,439 783,808 936,692
--------- ---------- ----------
Total general and administrative expenses 1,307,136 1,245,016 1,469,706
--------- ---------- ----------
Income (loss) before income taxes (228,614) 22,680 (431,720)
Income tax expense (benefit)
(Notes 1 and 17) 44,830 4,290 (65,472)
--------- ---------- ----------
Net income (loss) $ (273,444) $ 18,390 $ (366,248)
========== =========== ==========
Basic and diluted earnings (loss) per
share (Note 1) $(2.56) $0.17 $(3.43)
====== ===== ======
Weighted avg. number of shares
outstanding 106,924 106,924 106,924
======= ======= =======
</TABLE>
The accompanying notes to financial statements are an integral part of these
statements
4
<PAGE>
QUANTUM FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1997, 1997 AND 1996
<TABLE>
<CAPTION>
Common Stock
-----------------
Additional
Paid-in Retained Deferred
Shares Par Value Capital Earnings Compensation
------ --------- ---------- ---------- ------------
<S> <C> <C> <C> <C> <C>
Balance, January 1, 1996 106,924 $ 1,069 $ 700,205 $1,513,813 $ (27,000)
Amortization of deferred
compensation (Note 11) - - - - 9,000
Net loss - - - (366,248) -
------- ---------- ---------- ----------- -----------
Balance, December 31, 1996 106,924 1,069 700,205 1,147,565 (18,000)
Amortization of deferred
compensation (Note 11) - - - - 9,000
Net income - - - 18,390 -
Purchase of shares for the
ESOP (Note 11) - - - - (18,360)
------- ---------- ---------- ---------- -----------
Balance, December 31, 1997 106,924 1,069 700,205 1,165,955 (27,360)
Amortization of deferred
compensation (Note 11) - - - - 9,000
Net loss - - - (273,444) -
Purchase of shares for the
ESOP (Note 11) - - - - -
------- ---------- ---------- ---------- -----------
Balance, December 31, 1998 106,924 $ 1,069 $700,205 $ 892,511 $ (18,360)
======= ============ =========== ========== ===========
</TABLE>
The accompanying notes are an integral part of these financial statements
5
<PAGE>
QUANTUM FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
<TABLE>
<CAPTION>
1998 1997 1996
----------- --------- ---------
<S> <C> <C> <C>
Cash Flows From Operating Activities
- ------------------------------------
Net income (loss) $(273,444) $ 18,390 $(366,248)
Adjustments to reconcile net income
(loss) to net cash provided by (used
in) operating activities:
- ------------------------------------
Provision for loan losses 252,212 41,675 143,674
Loan fees deferred, net of costs 79,349 16,129 22,706
Amortization of deferred loan fees (95,912) (74,145) (60,994)
Depreciation 78,947 60,115 58,535
Decrease (increase) in accrued interest
receivable (8,455) 104,418 (28,613)
Origination of loans sold on secondary
market (20,438,649) (9,635,030) (4,379,883)
Proceeds from sale of loans on the
secondary market 20,484,196 8,808,454 4,382,851
(Gain) loss on sale of real estate
owned 60,742 41,364 (31,095)
Decrease (increase) in deferred income
tax assets 42,650 3,450 21,308
(Increase) decrease in other assets 120,632 157,944 (17,186)
Increase (decrease) in accrued expenses
and other liabilities 19,098 (41,238) (68,895)
Amortization of deferred compensation 9,000 9,000 9,000
Loss on employee advances - - 24,081
----------- --------- ---------
Net cash provided by (used in)
operating activities 330,366 (489,474) (290,759)
Cash Flows From Investing Activities
- ------------------------------------
Proceeds from maturing investment
securities 515,952 431,000 266,000
Purchases of investment securities (397,000 (612,138 (618,262)
Purchases of FHLB stock - - (4,100)
Decrease (increase) in loans, net (492,205) 1,537,433 1,296,963
Purchase of premises and equipment (36,108) (21,331) (81,688)
Proceeds from sale of real estate owned 1,671,298 9,504 64,419
Investment in foreclosed real estate (55,429) (61,076) (73,316)
----------- ---------- ----------
Net cash provided by (used in)
investing activities 1,206,508 1,283,392 850,016
Cash Flows From Financing Activities
- ------------------------------------
Increase (decrease) in deposits, net 1,449,427 (1,237,730) 342,922
Repayment of FHLB advances - - (1,550,000)
Advances from FHLB - 800,000 -
Debt repayment (9,000) (9,000) (9,000)
---------- ---------- ----------
Net cash provided by (used in)
financing activities 1,440,427 (446,730) (1,216,078)
--------- ---------- -----------
Increase (decrease) in cash and
cash equivalents 2,977,301 347,188 (656,821)
Cash and cash equivalents,
beginning of year 1,262,948 915,760 1,572,581
--------- --------- ---------
Cash and cash equivalents,
end of year $4,240,249 $1,262,948 $ 915,760
========== ========== ==========
Supplemental Disclosures
- ------------------------
Cash paid during the year for:
Interest $1,311,653 $1,276,377 $1,407,484
Income taxes, net of refund (75,316) (215,975) 30
Foreclosure on real estate 198,195 26,080 99,278
</TABLE>
The accompanying notes to financial statements are an integral part of these
statements.
6
<PAGE>
QUANTUM FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1998
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying consolidated financial statements include the accounts of
Quantum Financial Holdings, Inc., and its wholly owned subsidiary (together "the
Company"), Baltimore American Savings Bank, FSB ("the Bank"). All material
intercompany amounts have been eliminated.
Quantum Financial Holdings, Inc. and subsidiary follow generally accepted
accounting principles and reporting practices applicable to the savings and loan
industry. 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 and
disclosure of contingent assets and liabilities as of 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.
CURRENT OPERATING ENVIRONMENT
The Bank obtains deposits from the surrounding community and makes loans,
primarily secured by real estate. The Bank has been adversely affected by the
decline in certain areas of the Baltimore/Washington regional economy. As a
result, nonperforming assets were 14.15% and 16.29% as of December 31, 1998 and
1997, respectively. Such economic conditions will continue to place pressure on
the Bank's earnings ability, traditional funding sources, capital adequacy,
liquidity, levels of nonperforming assets and overall adequacy of the allowance
for loan losses.
In the opinion of management, the allowance for loan losses as of December
31, 1998 and 1997 is adequate. However, substantial risk and loss potential
continues to exist in the loan portfolio, primarily because of continued poor
economic conditions and a concentration of residential mortgage loans secured by
property located in declining neighborhoods in Baltimore City. Consequently,
high levels of nonperforming assets may continue in the foreseeable future.
These conditions in the loan portfolio have caused the Bank to foreclose on a
number of properties and have created significant nonperforming assets. As a
result of this, management has spent significant effort to minimize its losses
on these assets. Present management has expertise in the construction business,
and can perform improvements and get the properties in rental condition
inexpensively. Present management has also been successful in obtaining tenants
to rent some of these properties, with the rental income reducing the principal
balance on the debt until the Bank can find a buyer for the property. There is
no assurance that management will be able to continue this course of action with
its foreclosed properties, that management's philosophy of handling these assets
will not change, or that with a turnover of management, the new management will
have the skills necessary to continue this course of action. If any of the above
events should occur, additional loan loss reserves, or write-down of real estate
owned may be required, and the additional amounts may be significant. As long as
the level of nonperforming loans remains high, the results of operations of the
Bank will continue to be adversely affected.
7
<PAGE>
INTEREST RATE RISK
Net interest income is the foundation of the Bank's earnings, representing
the difference between total interest and fees earned on all loans, investments
and other interest earning assets, and the total interest paid on deposits and
borrowings. As of December 31, 1998, the Bank had 23.55% of its outstanding
loans which matured in one year or were variable rate loans which would reprice
within one year. Also, as of December 31, 1998, 26.06% of its deposits had fixed
rates which mature in greater than one year. As part of the Bank's management of
interest rate risk, it balances its variable rate deposits and loans with its
fixed rate loans and deposits.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include amounts due from depository institutions,
interest bearing deposits in other banks with original maturities of less than
three months and federal funds sold.
INVESTMENT SECURITIES
The Bank carries investment securities in accordance with Statement of
Financial Accounting Standards No. 115, "Accounting for Certain Investments in
Debt and Equity Securities" ("SFAS No. 115"). SFAS No. 115 requires institutions
to classify and account for debt and equity securities in one of three
categories, as follows: 1) debt securities that an institution has the positive
intent and ability to hold to maturity are classified as held-to-maturity and
reported at amortized cost; 2) debt and equity securities that are purchased and
held principally for the purpose of selling them in the near term are classified
as trading securities and reported at fair value, with unrealized gains and
losses included in earnings; and 3) debt and equity securities not classified as
either held-to-maturity or trading securities are classified as
available-for-sale and reported at fair value, with unrealized gains and losses
excluded from earnings and reported as a net amount in a separate component of
stockholders' equity, net of the related income tax effect. As of December 31,
1998 and 1997, all investment securities held by the Bank were classified as
held-to-maturity and recorded at amortized cost. Gains or losses on disposition
are based on the net proceeds and the adjusted carrying amount of the securities
sold, using the specific identification method.
LOANS AND ALLOWANCE FOR LOAN LOSSES
Loans are stated at the amount of unpaid principal, reduced by an allowance
for loan losses and deferred loan fees. Interest on loans is calculated by using
the simple interest method on daily balances of the principal amount
outstanding. The allowance for loan losses is established through a provision
for loan losses charged to expense. Loans are charged against the allowance for
loan losses when management believes that the principal is uncollectible. The
allowance is an amount that management believes will be adequate to absorb
possible losses on existing loans that may become uncollectible, based on
evaluations of the collectibility of loans and prior loan loss experience. The
evaluations take into consideration such factors as changes in the nature and
volume of the loan portfolio, portfolio quality, review of specific problem
loans and current economic conditions that may affect the borrower's ability to
pay. The allowance for loan losses is based on estimates, and ultimate losses
may vary from the current estimates. These estimates are reviewed periodically,
and as adjustments become necessary, they are reported in the periods in which
they become known. Accrual of interest is discontinued on a loan when management
believes, after considering economic and business conditions and collection
efforts, that the borrower's financial condition is such that the interest is
uncollectible.
The Bank has adopted Statement of Financial Accounting Standards (SFAS) No.
114, "Accounting by Creditors for Impairment of a Loan," and SFAS No. 118,
"Accounting by Creditors for Impairment of a Loan -- Income Recognition and
Disclosure," (see Note 4). The Bank evaluates loans to determine if impaired.
SFAS No. 114 requires that certain impaired loans be measured based on the
present value of expected future cash flows discounted
8
<PAGE>
at the loan's original effective interest rate. As a practical expedient,
impairment may be measured based on the loan's observable market price or the
fair value of the collateral if the loan is collateral dependent. When the
measure of the impaired loan is less than the recorded investment in the loan,
the impairment is recorded through a valuation allowance.
In the ordinary course of business, the Bank has entered into off-balance
sheet financial instruments consisting of commitments to extend credit,
commitments under lines of credit and stand-by letters of credit. Such financial
instruments are recorded in the financial statements when they are funded or
related fees are incurred or received.
SECONDARY MARKET FUNDING RECEIVABLE
Secondary Market Funding Receivable consists of residential mortgage loans
originated for the secondary market, under previously arranged purchase
agreements. As of December 31, 1998 and 1997, secondary market receivables are
carried at the lower of cost or market value. The pre-established purchase
prices are at least equal to cost. Secondary market funding receivables are
typically collected within thirty (30) days of closing.
REAL ESTATE OWNED
Real estate owned includes real estate on which the Bank has completed
foreclosure proceedings. All foreclosed assets are held for sale. The Bank
actively tries to dispose of the real estate held for sale, and expects to
dispose of the property as soon as possible.
Foreclosed assets held for sale are carried at the lower of cost or fair
value less estimated selling costs. Cost is defined as the fair value of the
assets foreclosed at the time of foreclosure, plus costs incurred subsequent to
foreclosure, which are required to bring the property to its most marketable
condition. During the holding period, management generally operates foreclosed
property as rental properties. Valuations are periodically performed by
management with the adjustment to the carrying value being charged to earnings
in the period of the adjustment. Foreclosed assets are usually not depreciated.
FEDERAL HOME LOAN BANK STOCK
Federal Home Loan Bank (FHLB) stock consists of the Bank's required
investment in FHLB common stock under the terms of its charter. The stock is
carried at cost, which approximates market.
LOAN AND FEE INCOME
Interest on loans is accrued and credited to income based upon the
principal outstanding. Loan fees, net of direct and incremental origination
costs, are deferred over the life of the related loans and amortized using the
effective interest rate method.
DEPRECIATION
Bank premises and equipment are stated at cost less accumulated
depreciation computed using the straight-line method over the estimated useful
lives of the assets. Building and improvements are depreciated over 19-40 years.
Furniture and equipment are depreciated over 3-7 years.
INCOME TAXES
Deferred income taxes are provided for income and expense items recognized
in different periods for financial
9
<PAGE>
reporting purposes than for purposes of computing current income taxes payable.
These temporary differences relate primarily to the provision for loan losses,
deferred loan fees, depreciation and net operating loss carryforwards.
Deferred income tax assets and liabilities are adjusted annually to reflect
the effect, at current statutory tax rates, of the differences in income and
expense recognition for book and tax purposes.
EARNINGS (LOSS) PER SHARE
Earnings (loss) per share are based upon the weighted average number of
common shares outstanding during the periods. Options to purchase shares of
common stock were outstanding during the periods presented, but were not
considered to be dilutive securities because the options' exercise price was
greater than the average fair value price of the common shares.
NOTE 2 - INVESTMENT SECURITIES HELD TO MATURITY
As of December 31, 1998 and 1997, investment securities held to maturity
consisted of:
<TABLE>
<CAPTION>
1998
-------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
Interest bearing deposits
in other banks $591,000 $ -- $ -- $ 591,000
Corporate debt obligations 75,051 1,288 -- 76,176
U.S. Government obligations 316,322 3,194 -- 319,516
-------- -------- -------- -----------
$982,373 $ 4,482 $ -- $ 986,692
========== ======== ======== ===========
</TABLE>
<TABLE>
<CAPTION>
1997
-----------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
Interest bearing deposits
in other banks $591,000 $ -- $ -- $ 591,000
Corporate debt obligations 100,068 1,022 237 100,853
U.S. Government obligations 410,257 2,146 1,142 411,261
---------- ---------- --------- ----------
$1,101,325 $ 3,168 $ 1,379 $1,103,114
========== ========== ========= ==========
</TABLE>
As of December 31, 1998, investment securities mature in the following
periods:
<TABLE>
<CAPTION>
Amortized
Cost Fair Value
---------- ----------
<S> <C> <C>
Due in one year or less $ 737,486 $738,655
Due in one-to-five years 244,887 248,037
---------- ----------
$ 982,373 $986,692
========== ==========
</TABLE>
10
<PAGE>
NOTE 3 - ACCRUED INTEREST RECEIVABLE
As of December 31, 1998 and 1997, accrued interest receivable consisted of:
<TABLE>
<CAPTION>
1998 1997
---------- --------
<S> <C> <C>
Loans $169,111 $156,640
Investment securities 10,667 15,327
Interest-bearing deposits in
other banks 2,399 1,755
-------- --------
$182,177 $173,722
======== ========
</TABLE>
NOTE 4 - LOANS RECEIVABLE
Commercial, commercial real estate, and construction loans are
collateralized by real estate, equipment and receivables, and the loan-to-value
ratios generally do not exceed 80% at origination. Residential real estate
mortgage loans are collateralized by the related property, and the loan-to-value
ratios generally do not exceed 80% at origination. Any residential real estate
mortgage loan exceeding a loan-to-value ratio of 80% requires private mortgage
insurance. The Bank also grants unsecured loans to qualified borrowers meeting
the underwriting standards established by the Board of Directors.
As of December 31, 1998 and 1997, loans receivable consisted of:
<TABLE>
<CAPTION>
1998 1997
----------- -----------
<S> <C> <C>
Mortgage loans secured by
one-to-four family residences $15,204,263 $15,419,628
Mortgage loans secured by second
mortgages on residences 212,907 336,801
Commercial real estate 1,597,997 684,546
Consumer 483,672 673,024
Residential construction 1,934,922 1,981,373
Commercial 280,317 349,467
----------- -----------
19,714,078 19,444,840
Less: Allowance for loan losses (566,253) (370,142)
Deferred loan fees (137,297) (153,859)
------------ ------------
$19,010,528 $18,920,839
</TABLE>
The Bank's real estate loans are primarily secured by real estate in the
Baltimore/ Washington metropolitan area.
As of December 31, 1998 and 1997, the Bank's recorded investment in
impaired loans was $1,842,010 and $1,317,224, respectively. Valuation allowances
of $218,000 were established in 1998 by a provision for loan losses. There have
been no loans charged off against these allowances at December 31, 1998. There
was no valuation allowance for the impaired loans at December 31, 1997 because
the value of the collateral was greater than the carrying value of the loans.
The average recorded investment in impaired loans during the years ended
December 31, 1998 and 1997 was $1,629,826 and $1,298,553, respectively.
Interest payments received on impaired loans are recorded as interest
income unless collection of the remaining recorded investment is doubtful at
which time payments received are recorded as reductions of principal.
There were loans in process of $257,660 and $331,065 as of December 31,
1998 and 1997, respectively.
11
<PAGE>
Activity in the allowance for loan losses was summarized as follows:
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
Balance, beginning of year $ 370,142 $ 366,662 $ 447,226
Provision charged to operations 252,212 41,675 143,674
Loans charged off and write-down of REO (97,712) (48,270) (251,734)
Recoveries 41,611 10,075 27,496
--------- --------- ---------
Balance, end of year $ 566,253 $ 370,142 $ 366,662
========= ========= =========
</TABLE>
The Bank had $2,154,662 and $1,267,955 of loans as of December 31, 1998 and
1997, respectively, for which accrual of interest had been discontinued. If all
loans were accruing interest, interest income would have been $151,604, $97,448
and $43,362 higher in the years ended December 31, 1998, 1997 and 1996,
respectively. Actual interest income recognized on these loans was $50,430,
$92,671 and $27,664, respectively.
The continuing softness of the economy and the real estate market will
continue to affect some borrower's ability to comply with the terms of their
loan agreements. Under these circumstances, increases in nonperforming assets,
credit losses and/or provisions for loan losses may occur.
NOTE 5 - COMMERCIAL REAL ESTATE OWNED
Prior to June 18, 1992, the Bank was a participant in a commercial loan
secured by certain commercial real estate known as the Sheridan Station Shopping
Center (Sheridan Station). The Bank owned a 61% interest in the loan and United
Savings Bank (United), the lead lender, owned the remaining 39% interest.
On July 30, 1990, United was declared insolvent by the Office of Thrift
Supervision and its assets, including its 39% interest in Sheridan Station, were
turned over to the Resolution Trust Corporation (RTC) for disposition. On June
18, 1992, the RTC and the Bank foreclosed on the property as a result of the
borrowers' failure to pay in accordance with the applicable loan agreement. At
that time, the Bank took its proportional 61% interest in Sheridan Station. On
June 25, 1993, the Bank acquired the RTC's 39% interest in Sheridan Station for
$174,890. As a result of this transaction, the Bank became the sole owner of the
property.
On June 1, 1998, Sheridan Station was sold to CKC, LLC for $1,200,000. In
order to facilitate the sale, the Bank loaned CKC, LLC $1,125,000 which was
guaranteed by the three members of the LLC. The Bank recognized a loss of
$25,373 on this sale. The loan to CKC, LLC bears interest at 8 1/4% and has a
20-year amortization with a balloon payment for the remaining principal due on
May 1, 2001. At December 31, 1998, the loan principal had been reduced to
$1,113,669 and all required principal and interest payments had been made by the
borrower.
Prior to the sale, the center generated 1998 operating income of $78,908
and operating expenses $54,772 for pretax income of $24,136, which is included
as other operating income in the accompanying consolidated statement of
operations for the year ended December 31, 1998. During 1997, the center
generated operating income of $253,531 and operating expenses of $101,887 for
pretax income of $151,644. During 1996, the center generated operating income of
$215,341 and operating expenses of $101,130 for a pretax profit of $114,211.
12
<PAGE>
NOTE 6 - PREMISES AND EQUIPMENT
As of December 31, 1998 and 1997, premises and equipment consisted of:
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
Land $ 58,878 $ 58,878
Buildings and improvements 406,092 402,097
Furniture and equipment 396,257 364,144
-------- --------
861,227 825,119
Less: accumulated depreciation 505,851 433,904
-------- --------
$355,376 $391,215
</TABLE>
Depreciation expense was $78,947, $60,115 and $58,535 for the years ended
December 31, 1998, 1997 and 1996, respectively.
NOTE 7 - DEPOSITS
The aggregate amount of short-term jumbo CDs, each with a minimum
denomination of $100,000, was approximately $1,966,737 and $2,045,722 in 1998
and 1997, respectively.
At December 31, 1998, the scheduled maturities of CDs are as follows:
<TABLE>
<CAPTION>
<S> <C> <C>
1999 $12,128,785
2000 2,711,598
2001 2,353,314
2002 226,545
2003 and thereafter 1,250,640
------------
$18,670,882
</TABLE>
NOTE 8 - BORROWED MONEY
The Bank maintains an available line of credit with the Federal Home Loan
Bank of Atlanta (FHLB) of $3,000,000. Under the terms of this line, the Bank has
granted the FHLB a blanket lien on all residential mortgages. As of December 31,
1998 and 1997, advances under this agreement were $1,250,000 and $1,250,000,
respectively. The advances outstanding as of December 31, 1998 mature on January
4, 1999. The loan had an effective interest rate of 5.64%, 6.50% and 6.95%,
respectively, during the years ended December 31, 1998, 1997 and 1996.
Other borrowed money consisted of a note payable to a bank in connection
with the employee stock ownership plan which bore interest at 90% of the Bank's
prime rate and was payable in annual installments of $9,000 per year through
July 29, 1998.
NOTE 9 - FINANCIAL INSTRUMENTS
The Company is a party to financial instruments with off-balance sheet risk
in the normal course of business to meet the financing needs of its customers.
13
<PAGE>
The estimated fair values of the Company's financial instruments were as
follows as of December 31, 1998 and 1997:
<TABLE>
<CAPTION>
1998 1997
------------------------------------------------
Carrying Carrying
Amount Fair Value Amount Fair Value
<S> <C> <C> <C> <C>
Financial assets:
Cash and cash equivalents $ 4,240,249 $ 4,240,249 $ 1,262,948 $ 1,262,948
Investment securities held
to maturity 982,373 986,692 1,101,325 1,103,114
Secondary market funding
receivable 1,303,792 1,303,792 1,349,339 1,349,339
Loans receivable 19,714,078 19,977,581 19,444,840 19,272,634
Federal Home Loan Bank
stock 169,100 169,100 169,100 169,100
Accrued interest receivable 182,177 182,177 173,722 173,722
Financial liabilities:
Deposits 25,101,327 25,352,482 23,651,900 23,811,012
Federal Home Loan Bank
Advances 1,250,000 1,250,000 1,250,000 1,250,000
Other borrowed money -- -- 9,000 9,000
</TABLE>
The following methods and assumptions were used by the Company in
estimating fair values of financial instruments as disclosed:
CASH AND CASH EQUIVALENTS - The carrying amounts of cash and cash
equivalents approximate their fair value.
INVESTMENT SECURITIES HELD-TO-MATURITY - Fair values for investment
securities are based on quoted market prices.
LOANS RECEIVABLE - For variable-rate loans that reprice frequently and
have no significant change in credit risk, fair values are based on carrying
values. Fair values for real estate and commercial loans are estimated using
discounted cash flow analyses, using interest rates currently being offered for
loans with similar terms to borrowers of similar credit quality. Fair values for
impaired loans are estimated using discounted cash flow analyses or underlying
collateral values, where applicable.
SECONDARY MARKET FUNDING RECEIVABLE - Carrying amount of secondary market
funding receivables approximates their fair value, due to their pre-sell
arrangements.
DEPOSITS - The fair values disclosed for demand deposits are, by
definition, equal to the amount payable on demand at the reporting date (that
is, their carrying amounts). The carrying amounts of variable-rate, fixed-term
money market accounts and variable-rate certificates of deposit (CDs)
approximate their fair values at the reporting date. The fair values of fixed
rate certificates of deposit are estimated using cash flow analyses, using
interest rates currently being offered.
BORROWED MONEY - The carrying amounts of advances from the Federal Home
Loan Bank and other borrowed money approximate their fair values.
OTHER - The carrying amounts of accrued interest receivable approximates
fair value.
NOTE 10 - RELATED PARTY TRANSACTIONS
In the normal course of business, loans are made to officers, directors
and shareholders of the Company and their related interests. These loans are
consistent with sound banking practices, are within regulatory lending
limitations and do not involve more than normal risk of collectibility.
14
<PAGE>
The following table summarizes the transactions in these loans for the
years ended December 31, 1998, 1997 and 1996, respectively.
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
Balance, beginning of year $ 441,838 $ 564,405 $ 649,993
New loans 149,849 157,995 --
Repayments (109,392) (280,562) (85,588)
--------- --------- ---------
Balance, end of year $ 482,295 $ 441,838 $ 564,405
========= ========= ==========
</TABLE>
NOTE 11 - EMPLOYEE STOCK OWNERSHIP PLAN
The Company has established an employee stock ownership plan. Under the
plan, the Company makes annual contributions to a trust for the benefit of
eligible employees, in the form of either cash or common shares of the Company.
The amount of the annual contribution is discretionary, except that it must be
sufficient to enable the trust to meet its current obligations. The Bank's cash
contribution for the years ended December 31, 1998, 1997 and 1996 was $9,000,
$9,000 and $12,489, respectively.
In 1988, the trust borrowed $90,000 to purchase 11,250 shares of the
Company's common stock at a price of $8.00 per share. The outstanding balance of
the loan was recorded in the accompanying consolidated balance sheets as a
liability of the Company with a like amount of deferred compensation being
recorded as a reduction in stockholders' equity. The final loan installment was
paid in 1998.
In 1997, the Company advanced funds to the employee stock ownership plan
to purchase 1,836 shares of its common stock at a price of $10 per share from
existing stockholders. This loan to the plan in the amount of $18,360 has been
recorded as a reduction in stockholders equity.
NOTE 12 - STOCK OPTION PLAN
Pursuant to a fixed stock option plan established in 1989, 11,287 shares
of common stock are reserved for issuance upon the exercise of options granted
to officers, employees and directors of the Company. Under the plan, options are
granted on a discretionary basis by a committee of the Board of Directors. The
option price, established at the time of grant by the committee, cannot be less
than the market price of the shares at the date of the grant.
Options expire ten years from the date of the grant.
The following table summarizes the activity of the stock option plan:
<TABLE>
<CAPTION>
1998 1997 1996
------ ----- -----
<S> <C> <C> <C>
Options outstanding, beginning of year 7,700 8,000 4,500
Options granted exercise price of $8.50 a share -- -- 3,500
Options exercised -- -- --
Options canceled -- (300) --
------ ------ ------
Options outstanding and exercisable, end of year 7,700 7,700 8,000
====== ====== ======
</TABLE>
The weighted average remaining contractual life and weighted average
exercise price of outstanding and exercisable options at December 31, 1998 is
6.05 years and $9.06, respectively.
15
<PAGE>
Beginning in 1996, the fair value of each option grant is estimated on
the date of grant using the Black-Scholes option pricing model with the
following assumptions:
Annual rate of quarterly dividends 0%
Expected volatility 0%
Risk-free interest rate 4.81%
The Company applies Accounting Principles Board Opinion No. 25 and
related interpretations in accounting for its plan. Had compensation cost for
the Company's stock option plan been determined based on the fair value at the
grant date for the award under that plan in 1996 consistent with the method
under Statement of Financial Accounting Standards No. 123, the Company's net
loss and loss per share would have increased to the pro forma amounts indicated
below:
<TABLE>
<CAPTION>
Loss per
Net Loss Share
<S> <C> <C>
As reported $(336,248) $ (3.43)
Pro forma (378,568) (3.54)
</TABLE>
NOTE 13 - RETAINED EARNINGS
Upon its conversion to a stock institution, the Bank set aside its
retained earnings totaling $829,965, for future payments to savings account
holders in the event of future liquidation. In the event of future liquidation,
a person who held an account as of December 31, 1987, and remains an account
holder through the liquidation date, will receive a distribution from this
reserve. The amount of the reserve is reduced proportionately as eligible
accounts are closed. As of December 31, 1998, approximately $51,189 remained set
aside.
NOTE 14 - FEES ON LOANS ORIGINATED FOR OTHERS
Fees on loans originated for others consisted of:
<TABLE>
<CAPTION>
1998 1997 1996
--------- -------- ---------
<S> <C> <C> <C>
Fee income $ 895,911 $ 367,269 $ 154,728
Less: Commissions paid to
Bank employees (373,231) (112,452) (36,574)
Related payroll taxes (27,355) (8,876) (2,975)
--------- --------- ---------
$ 495,325 $ 245,941 $ 115,179
========= ========= =========
</TABLE>
NOTE 15 - OTHER OPERATING INCOME
Other operating income consisted of:
<TABLE>
<CAPTION>
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Customer service fees $ 99,313 $222,912 $127,253
Net earnings from operation of
commercial real estate owned 24,136 151,644 114,211
Profit on sale of portfolio loans 13,493 -- --
Gain on sale of real estate owned -- -- 31,095
-------- -------- --------
$136,942 $374,556 $272,559
======== ======== ========
</TABLE>
16
<PAGE>
NOTE 16 - OTHER OPERATING EXPENSES
Other operating expenses consisted of:
<TABLE>
<CAPTION>
1998 1997 1996
--------- -------- --------
<S> <C> <C> <C>
Professional fees $ 74,112 $ 96,481 $208,408
Insurance expense 51,961 62,917 231,171
Data processing 61,034 28,696 59,551
Supplies, postage and office expense 122,939 63,735 116,069
Occupancy expense 64,993 124,952 84,638
Provision for loss on real estate owned 60,742 41,364 --
Other 278,658 365,663 236,855
-------- -------- --------
$714,439 $783,808 $936,692
======== ======== ========
</TABLE>
The Economic Growth and Regulatory Paperwork Reduction Act of 1996 was
signed into law on September 30, 1996. One major provision of the act was that
institutions such as the Bank, with deposits insured by the Federal Deposit
Insurance Corporation's Savings Association Insurance Fund (SAIF), were assessed
a one time charge to recapitalize the SAIF. Subsequent regulations established
the amount of this assessment at .675% of the institution's insured deposits as
of March 31, 1995. The law also provided that the assessment would be deductible
for tax purposes in the year it was paid. The Bank paid its one-time assessment
in the amount of $138,941 in November 1996, which was charged to insurance
expense.
NOTE 17 - INCOME TAXES
The income tax expense (benefit) in the accompanying consolidated
statements of operations consists of:
<TABLE>
<CAPTION>
1998 1997 1996
-------- --------- ---------
<S> <C> <C> <C>
Current:
Federal $ -- $ (9,852) $(85,519)
State 2,180 10,692 (1,261)
Deferred:
Federal 34,920 2,825 16,591
State 7,730 625 4,717
-------- -------- --------
$ 44,830 $ 4,290 $(65,472)
======== ======== =========
</TABLE>
The reconciliation of the statutory tax to the effective tax is as
follows:
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- ----------
<S> <C> <C> <C>
Statutory tax $ (77,729) $ 7,711 $(146,785)
State tax, net of federal benefit 6,540 7,469 2,281
Net operating loss limitations 25,254 (3,150) 94,038
Temporary differences not likely 90,765 -- --
to reverse
Other -- (7,740) (15,006)
--------- --------- ---------
$ 44,830 $ 4,290 $ (65,472)
========= ========= =========
</TABLE>
17
<PAGE>
Deferred income taxes reflect the net tax effects of temporary
differences between the financial statement and tax basis of assets and
liabilities. The significant components of the Company's deferred tax assets and
liabilities as of December 31, 1998 and 1997 were as follows:
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
Deferred tax assets:
Reserve for loan losses $119,094 $ 51,970
Deferred loan fees and costs 18,769 68,511
Net operating losses 58,305 126,988
Depreciation 213,175 -
Other 6,786 8,903
-------- --------
Total deferred tax assets 416,129 256,372
Deferred tax liabilities:
Depreciation - (65,972)
---------- ---------
Net deferred tax asset 416,129 190,400
Valuation allowance 300,229 31,850
-------- --------
$115,900 $158,550
========== ========
</TABLE>
As of December 31, 1998, the Company's deferred tax asset has been
reduced by a valuation allowance. The Company has not recorded the effect of tax
benefits from loss carryforwards which approximate $165,500 at December 31,
1998. Unused tax basis net operating loss carryforwards total approximately
$580,000 at December 31, 1998. These carryforwards will expire in 2013.
Retained earnings at December 31, 1998 and 1997, include approximately
$293,000 for which no deferred income tax liability has been recognized. This
amount represents an allocation of income to bad-debt deductions for tax
purposes only. Reduction of amounts so allocated for purposes other than tax
bad-debt losses or adjustments arising from carryback of net operating losses
would create income for tax purposes only, which would be subject to the then
current corporate income tax rate. The unrecorded deferred income tax liability
on the above amount is approximately $113,000.
NOTE 18 - COMMITMENTS AND CONTINGENCIES
LENDING ACTIVITY
In the normal course of business, the Bank makes various commitments and
incurs certain contingent liabilities that are not presented in the accompanying
consolidated financial statements. The commitments and contingent liabilities
include various guarantees, commitments to extend credit and standby letters of
credit. As of December 31, 1998, the Bank had undisbursed loan commitments other
than construction loans in process, stand-by letters of credit and commitments
under lines of credit as follows:
Undisbursed loan commitments $221,850
Stand-by letters of credit 18,673
Commitments under lines of credit 539,111
--------
$779,634
========
18
<PAGE>
EMPLOYMENT CONTRACTS
Effective February 13, 1996, the Company entered into an employment
agreement with its President. The agreement, which expires February 12, 1999,
provides for a base salary and annual discretionary bonuses to be determined by
the Board of Directors. This agreement also provides for a payment of
approximately three times the President's base pay in the event his employment
is terminated within twenty-four months of a change in control of the Company's
ownership.
LITIGATION
The Company is involved in litigation arising from the normal course of
operations. Management, after consultation with legal counsel, believes that the
ultimate liability, if any, arising from these claims will not be material to
the consolidated results of operations or financial position of the Company.
NOTE 19 - REGULATORY MATTERS
The Bank is subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory, and possibly additional
discretionary, actions by regulators that, if undertaken, could have a direct
material effect on the Bank's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, the Bank
must meet specific capital guidelines that involve quantitative measures of the
Bank's assets, liabilities, and certain off-balance-sheet items as calculated
under regulatory accounting practices. The Bank's capital amounts and
classification are also subject to qualitative judgments by the regulators about
components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital
adequacy require the Bank to maintain minimum amounts and ratios (set forth in
the table below) of total and Tier I capital (as defined in the regulations) to
risk-weighted assets (as defined). Management believes, as of December 31, 1998,
that the Bank meets all capital adequacy requirements to which it is subject.
As of December 31, 1998, the most recent notification from the Office of
Thrift Supervision (OTS) categorized the Bank as adequately capitalized under
the regulatory framework for prompt corrective action. To be categorized as
adequately capitalized the Bank must maintain minimum total risk-based, Tier I
risk-based, and Tier I leverage ratios as set forth in the table. The Bank holds
seven foreclosed residential properties with a carrying value of $946,529 which
will have been held for five years in April and May 1999, depending upon the
property. Under OTS regulations, these properties would not be included in
capital at that time and the Bank would not be adequately capitalized. However,
on March 29, 1999, the OTS granted an extension of the holding period for
inclusion of these properties in capital until March 31, 2000.
The Bank's actual capital amounts and ratios are also presented in the
table.
<TABLE>
<CAPTION>
To be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
------------------- ------------------ -------------------
Amount Ratio Amount Ratio Amount Ratio
---------- ----- ---------- ----- ---------- -----
<S> <C> <C> <C> <C> <C> <C>
As of December 31, 1998:
- ------------------------
Total Capital (to Risk Weighted Assets) $1,549,629 9.02% $1,374,480 8% $1,718,100 10%
Tier I Capital (to Risk Weighted Assets) 1,547,064 9.00% 687,240 4% 1,030,860 6%
Tier I Capital (to Average Assets) 1,547,064 5.54% 1,116,025 4% 1,395,032 5%
As of December 31, 1997
- -----------------------
Total Capital (to Risk Weighted Assets) 1,825,952 10.04% 1,454,800 8% 1,818,500 10%
Tier I Capital (to Risk Weighted Assets) 1,811,017 9.96% 727,400 4% 1,091,100 6%
Tier I Capital (to Average Assets) 1,811,017 6.79% 1,067,005 4% 1,333,757 5%
</TABLE>
19
<PAGE>
NOTE 20 - ACCOUNTING PRONOUNCEMENTS WITH FUTURE EFFECTIVE DATES
Statement of Financial Accounting Standards No. 133, Accounting for
Derivative Instruments and Hedging Activities, was issued by the Financial
Accounting Standards Board in June 1998. This statement, which is effective for
all fiscal quarters of fiscal years beginning after June 15, 1999, requires that
all derivative financial instruments be recognized as either assets or
liabilities in the statement of financial condition and be measured at fair
value. Changes in fair value of derivatives are to be recorded in earnings or as
a component of other comprehensive income depending upon the nature of the
associated hedge. For derivatives not designated as hedging instruments, gains
and losses are to be recognized in earnings in the period of change. In
management's opinion, implementation of this statement will not have a material
effect on the Bank's financial condition or results of operations.
NOTE 21 - CONTINGENCY RELATED TO THE YEAR 2000 ISSUE
Like most financial institutions, the Company's principal subsidiary
relies extensively on computers in conducting its business. It has been widely
reported that many computer programs currently in use were designed without
adequately considering the impact of the upcoming change in century on their
date codes. If these design flaws are not corrected, these computer applications
may malfunction in the year 2000. The Bank generally relies on outside vendors
for its most critical data processing services. These vendors have advised the
Bank that they are actively addressing the year 2000 issue and do not expect
that any required solutions will require material additional investments by the
Bank.
NOTE 22 - POTENTIAL ACQUISITION
On October 16, 1998, the Company entered into an agreement to be acquired
by United Payors & United Providers, Inc. ("UP&UP"), a Delaware corporation
specializing in contracting with health care providers that agree to provide
services to its payor clients on a discounted basis. Under the Articles of
Merger, the Company would be merged with a wholly-owned subsidiary of Up & Up
with the Company being the surviving entity. This transaction would be accounted
for utilizing the purchase method of accounting with the purchase adjustments
pushed down to the Company's books resulting in the recording of the Company's
assets and liabilities at fair value as of the acquisition date. Stockholders of
the Company would receive a per share cash purchase price based on an aggregate
purchase price of $2,500,000 less the aggregate dollar amount to be paid to
holders of outstanding options to purchase the Company's common stock. This
agreement was subject to a number of conditions including the affirmative vote
of at least two-thirds of the Company's stockholders and approval by the Office
of Thrift Supervision, and would terminate under certain circumstances if the
acquisition is not consummated by June 30, 1999. A special stockholders meeting
was held on March 19, 1999, at which time the Company received the necessary
affirmative vote of its stockholders.
NOTE 23 - SUBSEQUENT EVENT
On August 31, 1999, UP&UP completed the acquisition of the Company under
the terms and conditions described above.
20
<PAGE>
INDEPENDENT AUDITOR'S REPORT
To the Stockholders of
Quantum Financial Holdings, Inc.
We have audited the accompanying consolidated balance sheets of Quantum
Financial Holdings, Inc. and subsidiary as of December 31, 1998 and 1997, and
the related consolidated statements of operations, changes in stockholders'
equity and cash flows for the three years ended December 31, 1998. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audit.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Quantum
Financial Holdings, Inc. and subsidiary as of December 31, 1998 and 1997, and
the results of their operations and their cash flows for the three years ended
December 31, 1998, in conformity with generally accepted accounting principles.
Wooden & Benson
March 4, 1999, except for the third paragraph of Note 19
and Note 22, as to which the date is March 29, 1999 and Note
23 as to which the date is November 5,1999
Baltimore, Maryland
21
<PAGE>
QUANTUM FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
UNAUDITED CONSOLIDATED BALANCE SHEET
JUNE 30, 1999
<TABLE>
<CAPTION>
June 30,
1999
-----------
<S> <C>
ASSETS
Cash and due from banks $ 691,766
Federal funds sold 3,951,884
-----------
Total cash and cash equivalents 4,643,650
Investment securities held to maturity 983,050
Accrued interest receivable 112,979
Secondary market funding receivable 1,206,542
Loans receivable 18,077,724
Residential real estate owned 1,544,420
Commercial real estate owned 121,891
Federal Home Loan Bank stock 146,700
Premises and equipment 341,579
Other assets 660,880
-----------
Total assets $27,839,415
===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Savings and NOW deposits $ 6,722,241
Other time deposits 19,412,076
------------
Total deposits 26,134,317
Accrued expenses and other liabilities 331,772
------------
Total liabilities 26,466,089
Commitments and contingencies
Stockholders' equity
Common stock, par value $.01 per
share; 5,000,000 shares authorized,
106,924 shares issued and
outstanding 1,069
Additional paid-in capital 700,205
Retained earnings 690,412
Deferred compensation (18,360)
-------------
Total stockholders' equity 1,373,326
-------------
Total liabilities and stockholders'
equity $ 27,839,415
============
</TABLE>
The accompanying notes are an integral part of these financial statements
22
<PAGE>
QUANTUM FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
UNAUDITED CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 1998
<TABLE>
<CAPTION>
June 30, June 30,
1999 1998
---------- -----------
<S> <C> <C>
Interest Income
Interest and fees on loans $ 762,660 $ 850,915
Interest on investment securities 74,462 130,665
Interest on federal funds sold 100,369 26,559
---------- ----------
Total interest income 937,491 1,008,139
Interest Expense
Interest on deposits 651,440 621,600
Other interest expense 2,398 35,905
---------- ----------
Total interest expense 653,838 657,505
Net interest income 283,653 350,634
Provision for loan losses 2,259 15,748
---------- ----------
Net interest income after provision
for loan losses 281,394 334,886
Other Income
Fees on loans originated for others, net of
related commissions and payroll taxes 211,003 263,424
Other operating income 43,343 130,290
---------- ----------
Total other income 254,346 393,714
General and Administrative Expenses
Salaries, benefits and payroll taxes 343,151 270,647
Other operating expenses 361,004 381,552
---------- ----------
Total general and administrative expenses 704,155 652,199
---------- ----------
Income (loss) before income taxes (168,415) 76,401
Income tax expense (benefit) 33,683 36,047
---------- ----------
Net income (loss) $ (202,098) $ 40,354
========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
23
<PAGE>
QUANTUM FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 1998
<TABLE>
<CAPTION>
June 30, June 30,
1999 1998
------------- -------------
<S> <C> <C>
Cash Flows From Operating Activities
- ------------------------------------
Net income (loss) $ (202,098) $ 40,354
Adjustments to reconcile net income
(loss) to net cash provided by (used in)
operating activities:
- -------------------------------------------
Provision for loan losses 2,259 15,748
Loan fees deferred, net of costs 10,628 57,803
Amortization of deferred loan fees (16,186) (36,387)
Depreciation 43,664 33,674
Decrease in accrued interest receivable 69,198 26,728
Origination of loans sold on secondary
market (9,065,662) (9,955,962)
Proceeds from sale of loans on the
secondary market 9,162,911 10,370,889
Loss on sale of real estate owned -- 26,656
Decrease (increase) in other assets (260,121) 171,173
Increase in accrued expenses
and other liabilities 200,875 9,244
------------ ------------
Net cash provided by (used in) operating
activities (54,532) 759,920
Cash Flows From Investing Activities
- ------------------------------------
Proceeds from maturing investment
securities 99,000 82,000
Purchases of investment securities (100,000) --
Redemption of FHLB stock 22,400 --
Decrease (increase) in loans, net 714,465 (1,997,551)
Purchase of premises and equipment (60,922) (30,058)
Proceeds from sale of real estate owned -- 1,207,889
------------ ------------
Net cash provided by (used in) investing
activities 674,943 (737,720)
Cash Flows From Financing Activities
- ------------------------------------
Increase in deposits, net 1,032,990 1,702,421
Repayment of FHLB advances (1,250,000) --
------------ ------------
Net cash provided by (used in) financing
activities (217,010) 1,702,421
------------ ------------
Increase in cash and cash equivalents 403,401 1,724,621
Cash and cash equivalents, beginning
of period 4,240,249 1,262,948
------------ ------------
Cash and cash equivalents, end of period $ 4,643,650 $ 2,987,569
============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements
24
<PAGE>
QUANTUM FINANCIAL HOLDINGS, INC. AND SUBSIDIARY
NOTES TO FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying consolidated financial statements include the accounts of
Quantum Financial Holdings, Inc., and its wholly-owned subsidiary (together "the
Company"), Baltimore American Savings Bank, FSB ("the Bank"). All material
intercompany amounts have been eliminated.
NOTE 2 - UNAUDITED INFORMATION
The consolidated financial statements for the nine months ended
September 30, 1999 and 1998 have not been audited but, in the opinion of
management, include all adjustments (consisting only of normal recurring
accruals) necessary to present fairly the information set forth therein. The
results of operations for the nine months ended September 30, 1999 are not
necessarily indicative of the results to be expected for the full year or in the
future.
NOTE 3 -REGULATORY MATTERS
As of December 31, 1998, the most recent notification from the Office
of Thrift Supervision (OTS) categorized the Bank as adequately capitalized under
the regulatory framework for prompt corrective action. To be categorized as
adequately capitalized the Bank must maintain minimum total risk-based, Tier I
risk-based, and Tier I leverage ratios. As of June 30, 1999, the Bank holds
seven foreclosed residential properties with a carrying value of $946,529
which have been held for five years. Under OTS regulations, these
properties would not be included in capital and the Bank would not be
adequately capitalized. However, on March 29, 1999, the OTS granted an extension
of the holding period for inclusion of these properties in capital until March
31, 2000.
NOTE 4 - SUBSEQUENT EVENT - ACQUISITION
On August 31, 1999, United Payors & United Providers, Inc. acquired the
Company for a purchase price of approximately $2.5 million in cash.
25
<PAGE>
(b) Pro Forma Consolidated Financial Information
UNITED PAYORS & UNITED PROVIDERS, INC.
PRO FORMA CONSOLIDATED INFORMATION
(Unaudited)
1. INTRODUCTION
The following unaudited pro forma consolidated financial statements are
based on the historical consolidated financial statements of United Payors &
United Providers, Inc. (the "Company") and the historical consolidated results
of operations of Quantum Financial Holdings, Inc. and its subsidiary, Baltimore
American Savings Bank, FSB ("Quantum"). The unaudited pro forma adjustments are
based upon available information and certain assumptions that management of the
Company believes are reasonable. These pro forma financial statements have been
prepared to illustrate the effects of the consummation of the acquisition of
Quantum by the Company. The pro forma financial information and accompanying
notes thereto should be read in conjunction with the historical consolidated
financial statements of the Company included in the Company's Annual Report on
Form 10-K and other information contained in this Form 8-K/A, including the
historical consolidated financial statements of Quantum.
The unaudited Pro Forma Consolidated Balance Sheet as of June 30, 1999
presents, on a pro forma basis, the consolidated balance sheet of the Company
and Quantum assuming that the acquisition of Quantum had been consummated on
June 30, 1999.
The Unaudited Pro Forma Consolidated Statement of Operations for the six
months ended June 30, 1999 presents, on a pro forma basis, the consolidated
results of operations of the Company and Quantum assuming that the acquisition
of Quantum had been consummated on January 1, 1999.
The Unaudited Pro Forma Consolidated Statement of Operations for the year
ended December 31, 1998 presents, on a pro forma basis, the
consolidated results of operations of the Company and Quantum assuming that
the acquisition of Quantum had been consummated on January 1, 1998.
The unaudited pro forma condensed financial statements do not purport to be
indicative of what the Company's consolidated financial position or consolidated
results of operations would actually have been had the acquisition been
completed on such dates, or to project the Company's consolidated financial
position for any future period or the Company's consolidated results of
operations for any future period.
26
<PAGE>
ITEM 7. Financial Statements and Exhibits
(b) Pro Forma Consolidated Financial Information
UNITED PAYORS & UNITED PROVIDERS, INC.
UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
AS OF JUNE 30, 1999
<TABLE>
<CAPTION>
United Payors Quantum
ASSETS & United Financial Pro Forma Pro Forma
Providers Holidngs, Inc. Adjustments Consolidated
------------ -------------- ------------ ------------
<S> <C> <C> <C> <C>
HEALTH CARE SERVICES
Current Assets
Cash and cash equivalents $39,821,549 $ -- $(3,016,055) (a) $ 36,805,494
Short-term investments 5,973,865 -- -- 5,973,865
Accounts receivable 25,441,723 -- -- 25,441,723
Other current assets 2,649,858 -- -- 2,649,858
------------ ----------- ----------- -----------
Total current assets 73,886,995 -- (3,016,055) 70,870,940
------------ ----------- ----------- -----------
Fixed assets, net 4,383,474 -- -- 4,383,474
Advances to contracting providers, net 31,714,530 -- -- 31,714,530
Intangible and other assets, net 42,740,962 -- -- 42,740,962
------------ ----------- ----------- ------------
Total assets HEALTH CARE SERVICES 152,725,961 -- (3,016,055) 149,709,906
------------ ----------- ----------- -----------
FINANCIAL SERVICES
Cash and cash equivalents -- 4,643,650 -- 4,643,650
Investment securities -- 1,129,750 -- 1,129,750
Secondary market funding receivable -- 1,206,542 -- 1,206,542
Loans receivable, net -- 18,077,724 (2,200,000) (b) 15,877,724
Real estate owned, net -- 1,666,311 (1,150,000) (c) 516,311
Intangible and other assets -- 1,115,438 6,761,585 (d) 7,877,023
-------------- ------------- ------------- -------------
Total assets - FINANCIAL SERVICES -- 27,839,415 3,411,585 31,251,000
-------------- ------------- ------------- -------------
Total assets $ 152,725,961 $27,839,415 $ 395,530 $180,960,906
============== ============= ============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
HEALTH CARE SERVICES
Current liabilities:
Accounts payable and accrued
expenses $ 9,783,512 $ -- $ -- $ 9,783,512
Income and other taxes payable 2,224,557 -- -- 2,224,557
Notes payable and capital leases,
current portion 5,521,195 -- -- 5,521,195
------------- ------------ ------------- ------------
Total current liabilities 17,529,264 -- -- 17,529,264
------------- ------------ ------------- ------------
Non-current accrued expenses 1,003,333 -- -- 1,003,333
Notes payable and capital leases,
less current portion 14,522,738 -- -- 14,522,738
------------- ------------- ------------- -------------
Total liabilities -
HEALTH CARE SERVICES 33,055,335 -- -- 33,055,335
------------- ------------- ------------- -------------
FINANCIAL SERVICES
Savings and NOW deposits -- 6,722,241 -- 6,722,241
Other time deposits -- 19,412,076 -- 19,412,076
------------- ------------- ------------- -------------
Total deposits -- 26,134,317 -- 26,134,317
------------- ------------- ------------- -------------
Other liabilities -- 331,772 1,768,856 (e) 2,100,628
------------- ------------- ------------- -------------
Total liabilities -
FINANCIAL SERVICES -- 26,466,089 1,768,856 28,234,945
-------------- ------------- ------------- -------------
Total liabilities 33,055,335 26,466,089 1,768,856 61,290,280
------------- ------------- ------------- -------------
Stockholders' equity:
Convertible preferred stock,
$0.01 par value, 5,000,000 shares
authorized, none issued and
outstanding
Common stock, $0.01 par value,
35,000,000 shares authorized,
19,025,031 shares issued at
June 30, 1999 190,250 1,069 (1,069) (f) 190,250
Additional paid-in capital 63,485,962 700,205 (700,205)(f) 63,485,962
Retained earnings 56,596,364 690,412 (690,412)(f) 56,596,364
Deferred compensation (601,950) (18,360) 18,360 (f) (601,950)
------------- ------------- ------------- -------------
Total stockholders' equity 119,670,626 1,373,326 (1,373,326) 119,670,626
------------- ------------- ------------- -------------
Total liabilities and
stockholders' equity $ 152,725,961 $ 27,839,415 $ 395,530 $ 180,960,906
============= ============= ============== ===============
</TABLE>
See accmpnaying notes
27
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE SIX MONTHS ENDED JUNE 30, 1999
<TABLE>
<CAPTION>
United Payors Quantum
& United Financial Pro Forma Pro Forma
Providers Holidngs, Inc. Adjustments Combined
------------ -------------- ------------ -------------
<S> <C> <C> <C> <C>
Revenue
Provider network revenue $ 21,277,709 $ -- $ -- $ 21,277,709
Medical management
outsourcing services 5,876,190 -- -- 5,876,190
------------ -------------- ------------ -------------
Total revenue 27,153,899 -- -- 27,153,899
------------- -------------- ------------ -------------
Operating expenses:
Direct contract expenses 12,982,056 -- -- 12,982,056
General and administrative 2,509,554 -- -- 2,509,554
Depreciation and amortization 1,032,673 -- -- 1,032,673
------------ -------------- ------------- ------------
Total operating expenses: 16,524,283 -- -- 16,524,283
----------- -------------- ------------- ------------
Other income, net of interest expense 213,877 -- (120,642) (g) 93,235
------------ -------------- ------------ -------------
Income before income taxes -
HEALTH CARE SERVICES 10,843,493 -- (120,642) 10,722,851
------------ -------------- ------------- -------------
FINANCIAL SERVICES
Interest income -- 937,491 -- 937,491
Interest expense -- 653,838 -- 653,838
------------ -------------- ------------- -------------
Net interest income -- 283,653 -- 283,653
Provision for loan losses -- 2,259 -- 2,259
------------ -------------- ------------- -------------
Net interest income
after provision for loan losses -- 281,394 -- 281,394
------------ ------------- ------------ -------------
Other income -- 254,346 -- 254,346
------------ ------------- ------------ -------------
General and administrative expenses -- 704,155 -- 704,155
------------ -------------- ------------ --------------
Amortization of goodwill -- -- 99,459 (h) 99,459
------------ -------------- ------------ -------------
Income (loss) before
income taxes -
FINANCIAL SERVICES -- (168,415) (99,459) (267,874)
------------ -------------- ------------- --------------
TOTAL COMPANY
Income (loss) before
income taxes 10,843,493 (168,415) (220,101) 10,454,977
Income tax provision
(benefit) 4,337,000 33,683 (188,683) (i) 4,182,000
------------ -------------- ------------ -------------
Net income (loss) $ 6,506,493 $ (202,098) $ (31,418) $ 6,272,977
============ ============== ============= =============
Net income per share - basic $ 0.35 $ 0.34
============ ============= ============= =============
Weighted average shares
outstanding - basic 18,534,000 18,534,000
============ ============
Net income per share
- diluted $ 0.34 $ 0.33
============ =============
Weighted average shares
outstanding - diluted 19,237,000 19,237,000
============ =============
</TABLE>
See accompanying notes
28
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, 1998
<TABLE>
<CAPTION>
United Payors Quantum
& United Financial Pro Forma Pro Forma
Providers Holidngs, Inc. Adjustments Combined
------------ -------------- ------------ -------------
<S> <C> <C> <C> <C>
Revenue
Provider network revenue $ 57,951,926 $ -- $ -- $ 57,951,926
Medical management
outsourcing services 20,497,393 -- -- 20,497,393
------------ -------------- ------------ -------------
Total revenue 78,449,319 -- -- 78,449,319
------------- -------------- ------------ -------------
Operating expenses:
Direct contract expenses 33,524,429 -- -- 33,524,429
General and administrative 8,364,594 -- -- 8,364,594
Depreciation and amortization 4,028,416 -- -- 4,028,416
------------ -------------- ------------- -------------
Total operating expenses: 45,917,439 -- -- 45,917,439
----------- -------------- ------------- -------------
Other income, net of interest expense 729,270 -- (241,284) (g) 487,986
------------ -------------- ------------ -------------
Income before income taxes -
HEALTH CARE SERVICES 33,261,150 -- (241,284) 33,019,866
------------ -------------- ------------- -------------
FINANCIAL SERVICES
Interest income -- 2,015,442 -- 2,015,442
Interest expense -- 1,316,975 -- 1,316,975
------------ -------------- ------------- -------------
Net interest income -- 698,467 -- 698,467
Provision for loan losses -- 252,212 -- 252,212
------------ -------------- ------------- -------------
Net interest income
after provision for loan losses -- 446,255 -- 446,255
------------ ------------- ------------ -------------
Other income -- 632,267 -- 632,267
------------ ------------- ------------ -------------
General and administrative expenses -- 1,307,136 -- 1,307,136
------------ -------------- ------------ -------------
Amortization of goodwill -- -- (198,918) (h) 198,918
------------ -------------- ------------ -------------
Income (loss) before
income taxes -
FINANCIAL SERVICES -- (228,614) (198,918) (427,532)
------------ -------------- ------------- --------------
TOTAL COMPANY
Income (loss) before
income taxes 33,261,150 (228,614) (440,202) 32,592,334
Income tax provision
(benefit) 13,682,000 44,830 (319,830) (i) 13,407,000
------------ -------------- ------------ -------------
Net income (loss) $ 19,579,150 $ (273,444) $ (120,372) $ 19,185,334
============ ============== ============= =============
Net income per share - basic $ 1.15 $ 1.12
============ ============= ============= =============
Weighted average shares
outstanding - basic 17,065,000 17,065,000
============ ============
Net income per share
- diluted $ 1.09 $ 1.07
============ =============
Weighted average shares
outstanding - diluted 17,981,000 17,981,000
============ =============
</TABLE>
See accompanying notes
29
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(a) Adjustment reflects the payment of the purchase price and acquisition
expenses.
(b) Adjustment reflects the write down of loans receivable (see Note 1 below).
(c) Adjustment reflects the write down of real estate owned (see Note 1 below).
(d) Adjustment reflects the following:
<TABLE>
<CAPTION>
<S> <C>
Write-off of Quantum deferred taxes at June 30, 1999 $ (102,579)
Provision for the disposal of fixed assets of Quantum (160,000)
Write-off of various unrealizable assets (450,000)
Excess of cash paid ($3,016,055) and liabilities
assumed ($2,951,489) over fair value of assets acquired 5,967,544
Deferred taxes on differences between the fair value
and the tax bases of assets and liabilities acquired 1,506,800
-----------
</TABLE>
$ 6,761,585
(e) Adjustment reflects the accrual of costs related to the acquisition
including severance and transition costs of certain Quantum employees,
acquisition costs, the estimated costs of disposal of loans and real estate
owned, and the deferral of interest expense on over market rates
certificates of deposits.
(f) Adjustment to eliminate the capital and retained earnings of Quantum over 20
years.
(g) Adjustment to reflect the reduction of interest income as a result of
payment of the purchase price and acquisition costs.
(h) Adjustment to reflect the amortization of goodwill arising from the
acquisition of Quantum.
(i) Adjustment to reflect income tax effect of adjustments relating to the
acquisition and to reflect the inclusion of the taxable loss of Quantum in
the Company's consolidated income tax provision.
Note 1- In determining the fair value of the loans receivable and real estate
owned new management has taken a divergent valuation approach of these assets
from that of prior management. New management has undertaken a disposition
program for the assets and has valued the assets at values which it believes
reflect the amounts that will be realized upon the disposition of the assets.
30
<PAGE>
Exhibit 23.1
CONSENT OF INDEPENDENT ACCOUNTANTS
We consent to the incorporation by reference in the registration statements
of United Payors & United Providers, Inc. on Form S-8 (File No. 333-48321 and
333-48323) of our report dated March 4, 1999 except for the third paragraph of
Note 19 and Note 22, as to which the date is March 29, 1999 and Note 23 as to
which the date is November 5, 1999, on our audits of the consolidated financial
statements of Quantum Financial Holdings, Inc. and Subsidiary as of December 31,
1998 and 1997 and for the years ended December 31, 1998, 1997 and 1996, which
report is included in the United Payors & United Providers, Inc. Report on Form
8-K/A.
/s/ Wooden & Benson
---------------------
Wooden & Benson
Baltimore, MD
November 5, 1999
31
<PAGE>
