SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
---------------------------
FORM 10-KSB
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the year ended December 31, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number: 0-28934
EMPIRE FEDERAL BANCORP, INC.
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(Exact name of small business issuer as specified in its charter)
Delaware 81-0512374
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(State or other jurisdiction of incorporation (I.R.S. Employer
or organization Identification No.)
123 South Main Street, Livingston, Montana 59047
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (406) 222-1981
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $0.01 per share
---------------------------------------
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. YES x NO
--- ---
Indicate by check mark whether disclosure of delinquent filers pursuant
to Item 405 of Regulation S-B is not contained herein, and will not be
contained, to the best of the Registrant's knowledge, in definitive proxy or
other information statements incorporated by reference in Part III of this
Form 10-KSB or any amendments to this Form 10-KSB. YES x NO
The aggregate market value of the voting stock held by nonaffiliates of
the Registrant, based on the closing sales price of the registrant's Common
Stock as quoted on the Nasdaq National Market System under the symbol "EFBC"
on March 6, 1998, was $45,361,750 (2,592,100 shares at $17.50 per share). It
is assumed for purposes of this calculation that none of the registrant's
officers, directors and 5% stockholders are affiliates.
The registrant's revenues for the year ended December 31, 1997 were
$8,567,729.
DOCUMENTS INCORPORATED BY REFERENCE
1. Portions of Annual Report to Stockholders for the year ended December
31, 1997 (Parts I and II)
2. Portions of the Proxy Statement for the Annual Meeting of Stockholders
(Part III)
Transitional Small Business Disclosure Format (check one) Yes No X
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PART I
Item 1. Business
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Empire Federal Bancorp, Inc. (the "Corporation"), a Delaware
corporation, was incorporated on September 20, 1996 for the purpose of
becoming the holding company for Empire Federal Bank ("Empire Federal" or the
"Bank") (the Corporation and Empire Federal shall at times be referred to as
the "Corporation") upon Empire Federal's conversion from a federal mutual
stock savings and loan association to a federal stock Bank ("Conversion"). The
Conversion was completed on January 23, 1997. At December 31, 1997, the
Corporation had total assets of $109.8 million, total deposits of $66.9
million and stockholders' equity of $40.6 million. The Corporation has not
engaged in any significant activity other than holding the stock of Empire
Federal. Accordingly, the information set forth in this report, including
financial statements and related data, relates primarily to Empire Federal.
Empire Federal was organized in 1923 as a Montana-chartered mutual
building and loan association under the name "Empire Building and Loan
Association." In 1970, the Bank converted to a federal charter and adopted the
name "Empire Federal Savings and Loan Association of Livingston." The Bank's
deposits are federally insured by the Federal Deposit Insurance Corporation
("FDIC") under the Savings Association Insurance Fund ("SAIF"). The Bank is a
member of the Federal Home Loan Bank ("FHLB") System.
The Bank is a community oriented financial institution which has
traditionally offered a variety of savings products to its retail customers
while concentrating its lending activities on the origination of loans secured
by one- to four- family residential dwellings. The Bank considers Gallatin,
Park and Sweet Grass counties in south-central Montana as its primary market
area. Lending activities also have included the origination of multi-family,
commercial real estate and home equity loans. The Bank's primary business has
been that of a traditional thrift institution, originating loans in its
primary market area for its portfolio. In addition, the Bank has maintained a
significant portion of its assets in investment and mortgage-backed
securities. Similar to its lending activities, the Bank's investment portfolio
has been weighted toward U.S. Government agency mortgage-backed securities
secured by one- to four- family residential properties. The portfolio also
includes U.S. Government agency securities. Investment securities, including
mortgage-backed securities and FHLB stock, totaled $58.3 million, or 53.1% of
total assets, at December 31, 1997. In addition to interest and dividend
income on loans and investments, the Bank receives other income from the sale
of insurance products through its wholly-owned subsidiary, Dime Service
Corporation.
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LOAN PORTFOLIO ANALYSIS. The following table sets forth the composition
of the Bank's loan portfolio as of the dates indicated. The Bank had no
concentration of loans of a given category exceeding 10% of total gross loans
other than as set forth below.
At December 31
-----------------------------------------
1997 1996
-----------------------------------------
Amount Percent Amount Percent
------ ------- ------ -------
(Dollars in Thousands)
One- to four-family........ $38,178 79.02% $35,287 80.50%
Multi-family............... 3,162 6.54 2,241 5.11
Commercial real estate..... 1,102 2.28 1,118 2.55
Consumer................... 3,095 6.41 2,321 5.30
Share loans................ 591 1.22 629 1.43
Construction............... 2,185 4.53 2,238 5.11
------- ------ ------- ------
Total.................... 48,313 100.00% 43,834 100.00%
====== ======
Less:
Loans in process........... 2,086 1,657
Deferred loan origination
fees and costs....... 314 274
Allowance for loan losses.. 200 200
------- -------
Total loans, net......... $45,713 $41,703
======= =======
Permanent Residential One- to Four-Family Mortgage Loans. The primary
lending activity of the Bank is the origination for portfolio of permanent
residential one- to four-family first mortgage loans. Management believes that
this policy of focusing on single-family residential mortgage loans has been
successful in contributing to interest income while keeping delinquencies and
losses to a minimum. At December 31, 1997, $38.2 million, or 79.02%, of the
Bank's total loan portfolio, before net items, consisted of permanent
residential one- to four-family mortgage loans, with an average balance of
$56,000.
The Bank presently originates for its portfolio fixed-rate mortgage
loans secured by one- to four rental properties with terms of up to 20 years
and up to 30 years for owner-occupied residential properties. At December 31,
1997, $36.1 million, or 74.70% of the total loans before net items were fixed
rate one- to four-family loans and $2.1 million, or 4.32%, were adjustable
rate mortgage ("ARM") loans. The Bank has offered two ARM loan products for
portfolio which adjust annually subject to a limitation on the annual increase
of 1.5% to 2.0% and an overall limitation of 5.0% or to a specific ceiling
rate. These ARM products utilize either the OTS Monthly Median Cost of Funds
Index or the Semi-Annual Cost of Funds Index ("COFI"). Loans based on COFI
constitute a majority of the Bank's ARM loans. The COFI is a lagging model
index which, together with the periodic and overall interest rate caps, may
cause the yield on such loans to adjust more slowly than the cost of
interest-bearing liabilities especially in a rapidly rising rate environment.
The Bank's ARM loans do not permit negative amortization of principal
and carry no prepayment restrictions. Borrower demand for ARM loans versus
fixed-rate mortgage loans is a function of the level of interest rates, the
expectations of changes in the level of interest rates and the difference
between the initial interest rates and fees charged for each type of loan. The
relative amount of fixed-rate mortgage loans and ARM loans that can be
originated at any time is largely determined by the demand for each in a
competitive environment.
ARM loans help reduce the Bank's exposure to changes in interest rates.
There are, however, unquantifiable credit risks resulting from the potential
of increased costs due to changed rates to be paid by the customer. It is
possible that during periods of rising interest rates the risk of default on
ARM loans may increase as a result of repricing with increased costs to the
borrower. Another consideration is that although ARM loans allow the Bank to
increase the
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sensitivity of its asset base to changes in the interest rates, the extent of
this interest sensitivity is limited by the periodic and lifetime interest
rate adjustment limits. Because of these considerations, the Bank has no
assurance that yields on ARM loans will be sufficient to offset increases in
the Bank's cost of funds.
The Bank's lending policies generally limit the maximum loan-to-value
ratio on mortgage loans secured by owner occupied properties to 80% of the
lesser of the appraised value or the purchase price, however, most loans have
loan-to-value ratios of 75% or less. Appraisals are obtained on all properties
and are made by independent fee appraisers approved by the Board of Directors.
The Bank offers fixed-rate, permanent owner-occupied one- to four-family
mortgage loans with terms of up to 30 years. Substantially all permanent one-
to four-family loans have original contractual terms to maturity of 20 to 25
years and are primarily made for loan amounts of less than $250,000. Such
loans generally are amortized monthly with principal and interest due each
month and customarily include "due-on-sale" clauses. The Bank enforces
due-on-sale clauses to the extent permitted under applicable laws.
Substantially all of the Bank's mortgage loan portfolio consists of
conventional loans. The Bank has not originated significant amounts of
mortgage loans on second residences.
The Bank also originates residential mortgage loans secured by non-owner
occupied rental properties within its primary market area. Generally, such
loans are made at higher interest rates than owner occupied residential
mortgage loans, with a loan-to-value ratio of 70%, and with a debt coverage
ratio of 1.25x.
The Bank requires title insurance on all real estate secured loans. The
Bank also requires that fire and extended coverage casualty insurance or
homeowners insurance (and, if appropriate, flood insurance) be maintained in
an amount at least equal to the outstanding loan balance.
Construction Loans. The Bank originates construction loans primarily to
prospective home owners for the construction of their single-family
residences. Construction loans generally convert to a permanent loan upon the
completion of construction. Construction loans generally begin to amortize as
permanent residential one- to four-family mortgage loans after the
construction period (typically six months) is completed, unless extended. At
December 31, 1997, construction loans amounted to $2.2 million, or 4.53%, of
the Bank's total loan portfolio, before net items. Construction loans have
rates and terms which generally match the non-construction loans then offered
by the Bank, except that during the construction phase, the borrower pays only
interest on the loan. The borrower is qualified at the interest rate for the
permanent loan. The Bank's construction loan agreements generally provide that
loan proceeds are disbursed in increments as construction progresses. The Bank
periodically reviews the progress of the underlying construction project.
Construction lending is generally limited to the Bank's primary lending areas
and is underwritten pursuant to the same general guidelines used for
originating permanent one- to four-family loans.
Construction financing is generally considered to involve a higher
degree of risk of loss than financing on improved, owner-occupied real estate
because of the uncertainties of construction and the possibility of costs
exceeding the initial estimates. The Bank has sought to minimize the risks
associated with permanent construction lending by limiting construction loans
to qualified owner occupied borrowers with construction performed by qualified
builders located primarily in the Bank's market area.
Multi-Family and Commercial Real Estate Lending. The Bank also
originates loans secured by multi-family and commercial real estate. At
December 31, 1997, the Bank's loan portfolio included $3.2 million in
multi-family loans and $1.1 million in commercial real estate loans.
Multi-family and commercial real estate lending affords the Bank an
opportunity to receive interest at rates higher than those generally available
from one- to four-family residential lending. However, loans secured by such
properties are generally greater in amount, more difficult to evaluate and
monitor and, therefore, involve a greater degree of risk than one- to
four-family residential mortgage loans. Because payments on loans secured by
commercial
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real estate and multi-family properties are often dependent on the successful
operation and management of the properties, repayment of such loans may be
influenced by adverse conditions in the real estate market or the
economy.
Multi-family and commercial real estate loans originated by the Bank are
predominately fixed-rate loans with terms to maturity of 15 to 20 years. The
Bank's commercial real estate portfolio consists of loans on a variety of
properties located in the Bank's primary market area, including office
buildings and churches. Multi-family loans generally are secured by small to
medium-sized apartment buildings. Appraisals on properties which secure
multi-family and commercial real estate loans are performed by an independent
appraiser engaged by the Bank before the loan is made. Underwriting of
commercial and multi-family loans includes a thorough analysis of the cash
flows generated by the real estate to support the debt service and the
financial resources, experience, and income level of the borrowers. The Bank
imposes a debt coverage ratio of 1.25x to ensure that the property securing
the loans will generate sufficient cash flow to adequately cover operating
expenses and debt service payments plus provide an acceptable return to the
investor. Operating statements on each multi-family and commercial real estate
loan are required and reviewed by management on an annual basis.
At December 31, 1997, the average loan balance of the Bank's
multi-family loans was $176,000. At December 31, 1997, the Bank had four
multi-family loans with one borrower with an aggregate balance of $1.1
million. All of the properties securing multi-family loans are located in the
Bank's primary market area with the exception of one participation loan on a
property located in California with a balance at December 31, 1997, of
$319,000. At December 31, 1997, one multi-family and commercial real estate
loan amounting to $54,000 was delinquent.
Consumer Lending. The Bank's consumer loan portfolio consists primarily
of home equity, home improvement, loans secured by deposits and, to a
substantially lesser extent, mobile home and automobile loans. At December 31,
1997, the Bank's consumer loans totalled approximately $3.7 million, or 7.63%,
of the Bank's gross loans of which $3.0 million, or 6.29%, consisted of home
equity and home improvement loans.
Consumer loans are made at fixed interest rates and for varying terms.
Home equity and home improvement loans are made for terms up to 15 years for
owner occupied residences. In the case of home equity loans, the Bank holds a
second mortgage behind its own or another financial institution's first
mortgage. When originating a home equity loan, the Bank accounts for both the
first and second mortgage liens and generally limits the loan-to-value ratio
to 80%.
Consumer loans entail greater risk than do residential mortgage loans,
particularly in the case of loans that are unsecured or secured by rapidly
depreciating assets such as automobiles and other vehicles. In such cases, any
repossessed collateral for a defaulted consumer loan may not provide an
adequate source of repayment of the outstanding loan balance as a result of
the greater likelihood of damage, loss or depreciation. The remaining
deficiency often does not warrant further substantial collection efforts
against the borrower beyond obtaining a deficiency judgment. In addition,
consumer loan collections are dependent on the borrower's continuing financial
stability, and thus are more likely to be adversely affected by job loss,
divorce, illness or personal bankruptcy. Furthermore, the application of
various federal and state laws, including federal and state bankruptcy and
insolvency laws, may limit the amount that can be recovered on such loans.
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<TABLE>
Maturity of Loan Portfolio. The following table sets forth the maturity of the Bank's loan
portfolio at December 31, 1997. The table does not include prepayments of scheduled principal repayments.
ARM loans are shown as maturing based on contractual maturities.
Consumer
1-4 Family Multi-family Commercial Construction and Share Total
---------- ------------ ---------- ------------ --------- -----
(In Thousands)
<S> <C> <C> <C> <C> <C> <C>
Amounts Due:
Within 3 months........ $ 33 $ - $ - $ - $ 164 $ 197
3 months to 1 year..... 3 - - 2,185 326 2,514
After 1 year:
1 to 3 years........... 199 95 35 - 204 533
3 to 5 years........... 360 226 38 - 385 1,009
5 to 10 years.......... 3,707 738 737 - 709 5,891
10 to 20 years......... 23,527 1,905 292 - 1,502 27,226
Over 20 years.......... 10,349 198 - - 396 10,943
------ ------ ------ ------ ------ --------
Total due after one year... 38,142 3,162 1,102 - 3,196 45,602
------ ------ ------ ------ ------ --------
Total amount due........... $38,178 $3,162 $1,102 $2,185 $3,686 48,313
======= ====== ====== ====== ======
Less:
Allowance for loan loss... 200
Loans in process.......... 2,086
Deferred loan fees........ 314
-------
Loans receivable, net.. $45,713
</TABLE>
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The following table sets forth the dollar amount of all loans due after
ecember 31, 1998, which have fixed interest rates and have floating or
adjustable interest rates.
Fixed- Floating- or
Rates Adjustable-Rates Total
----- ---------------- -----
(In Thousands)
One- to four-family ......... $36,054 $ 2,088 $38,142
Multi-family................. 1,727 1,435 3,162
Non-residential.............. 1,102 - 1,102
Construction................. - - -
Consumer and share........... 3,196 - 3,196
------- ------- -------
Total.................... $42,079 $3,523 $45,602
======= ======= =======
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Scheduled contractual principal repayments of loans as presented in the
preceding table do not reflect the actual life of such assets. The average
life of loans ordinarily is substantially less than their contractual terms
because of prepayments. In addition, due-on-sale clauses on loans generally
give the Bank the right to declare loans immediately due and payable in the
event, among other things, that the borrower sells the real property subject
to the mortgage and the loan is not repaid. The average life of mortgage loans
tends to increase, however, when current mortgage loan market rates are higher
than rates on existing mortgage loans and, conversely, decrease when rates on
existing mortgage loans are higher than current mortgage loan market rates.
Loan Solicitation and Processing. Loan customers are solicited through
advertising media and contacts with local real estate brokers. Upon receipt of
a loan application from a prospective borrower, a credit report and other data
are obtained to verify specific information relating to the loan applicant's
employment, income and credit standing. All of the Bank's lending is subject
to its written nondiscriminatory underwriting standards, loan origination
procedures and lending policies prescribed by the Bank's Board of Directors.
All loans must be approved by the Bank's Loan Committee, which consists
of any three members of the Board of Directors. Interest rates are subject to
change if the approved loan is not closed within the time of the commitment.
Because the Bank originates loans for its own portfolio, many of the loans do
not comply with all secondary market documentation criteria. This practice has
enabled the Bank to develop an expedited loan application and approval process
which management believes provides it with a competitive advantage in its
primary market area while continuing to maintain its underwriting standards.
Management of the Bank also believes its local decision-making capabilities is
an attractive quality to customers within its market area. The Bank's loan
approval process allows loans to be approved and closed in approximately four
weeks.
Loan Commitments. Loan commitments typically contain a termination date
of 30 days from the date of the commitment letter that is issued at the time
the loan is approved. The Bank had outstanding loan commitments of
approximately $979,000 at December 31, 1997, all of which were for fixed rate
loans.
Loan Originations, Sales and Purchases. During the year ended December
31, 1997, the Bank's total gross loan originations were $12.4 million.
The Bank has occasionally originated or participated in loans secured by
properties outside the State of Montana. These properties are primarily
located in California but also include loans secured by one- to four- family
properties in Massachusetts, New Mexico, Arizona and Colorado. At December 31,
1997, these loans amounted to $1.4 million and consisted of (i) $712,000 in
permanent residential one- to four-family mortgage loans, (ii) $396,000 in
multi-family loans, and (iii) a participation interest in a commercial real
estate loan for $319,000. The Bank has purchased loan participation interests
primarily during periods of reduced loan demand in its market area. At
December 31, 1997, the Bank had four participations in its primary market area
with a balance of $160,000. Any such purchases are made in conformance with
the Bank's underwriting standards. The Bank may decide to purchase additional
loans outside its market area in the future depending upon the demand for
mortgage credit in its market area, however, it has not purchased any
participation interests outside of its primary market area during the past
five years.
Historically, the Bank has been a portfolio lender, maintaining the
residential mortgage loans it originates in its portfolio rather than selling
them in the secondary market. The Bank currently intends to continue this
practice.
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The following table sets forth the Bank's originations and loan sales
and principal repayments during the periods indicated. Predominately all
mortgage loan originations during the periods indicated were fixed-rate loans.
Year Ended Six Months Year Ended
December 31, Ended December 31 June 30
------------ ----------------- ----------
1997 1996 1996
---- ---- ----
(In Thousands)
Total gross loans receivable
at beginning of period..... $43,834 $43,110 $40,124
------- ------- -------
Loans originated:
One- to four-family........ 5,876 2,636 7,411
Multi-family............... 1,312 - 225
Construction............... 3,047 2,096 2,631
Commercial................. 134 - 47
Consumer................... 2,004 463 2,069
------- ------- -------
Total loans originated... 12,373 5,195 12,383
Loans sold:
Whole loans................ - - -
Participations sold........ - - -
Total loans sold......... - - -
Loan principal repayments... (7,894) (4,471) (9,397)
-------- -------- -------
Net loan activity........... 4,479 724 2,986
------- ------- -------
Total gross loans receivable
at end of period.......... $48,313 $43,834 $43,110
======= ======= =======
Loan Origination and Other Fees. The Bank charges loan origination fees,
which are a percentage of the principal amount of the mortgage loan. The
amount of fees charged by the Bank is generally up to 1% for mortgage loans
and 2% for construction loans. The Bank generally does not charge fees for
home equity loans. Current accounting standards require that origination fees
received (net of certain loan origination costs) be deferred and amortized
into interest income over the contractual life of the loan. Net deferred fees
or costs associated with loans that are prepaid are recognized as income at
the time of prepayment. The Bank had $314,000 in net deferred loan fees at
December 31, 1997.
Non-Performing Assets and Delinquencies. When a mortgage loan borrower
fails to make a required loan payment when due, the Bank institutes collection
procedures. All loan payments are due on the contractual due date, however, a
loan is not considered delinquent and collection procedures are not instituted
until after the 30th day of the contractual due date. The Bank does not charge
its borrowers late penalty fees on payments made after the contractual due
date because the Bank charges daily interest on the outstanding loan balance.
The first notice is mailed to the borrower 30 days after the contractual due
date and, if necessary, a second written notice follows within 30 days
thereafter giving the borrower 15 days to respond and correct the delinquency.
Attempts to contact the borrower by telephone generally begin soon after the
first notice is mailed to the borrower. If a satisfactory response is not
obtained, continuous follow-up contacts are attempted until the loan has been
brought current or foreclosure is initiated. Attempts to interview the
borrower, preferably in person, are made to establish (i) the cause of the
delinquency, (ii)
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whether the cause is temporary, (iii) the attitude of the borrower toward the
debt, and (iv) a mutually satisfactory arrangement for curing the default.
After such attempts have been made by the Bank, or sooner if the
borrower is chronically delinquent and all reasonable means of obtaining
payment on time have been exhausted, foreclosure is initiated according to the
terms of the security instrument and applicable law. Interest income on loans
is then reduced by the full amount of accrued and uncollected interest.
When a consumer loan borrower fails to make a required payment on a
consumer loan by the payment due date, the Bank institutes the same collection
procedures as for its mortgage loan borrowers.
The Bank's Board of Directors is informed monthly as to the status of
all mortgage and consumer loans that are delinquent more than 30 days, the
status on all loans currently in foreclosure, and the status of all foreclosed
and repossessed property owned by the Bank.
At December 31, 1997 and 1996, the Bank did not have any nonaccrual
loans, accruing loans contractually past due 90 days or more as to principal
or interest payments, or troubled debt restructurings within the meaning of
SFAS No. 15. Loans amounting to $611,000 and $52,000 were past due, but still
accruing at December 31, 1997 and 1996, respectively. The increase in
delinquent loans is primarily related to one-to-four family mortgages located
in Gallatin County. Management does not expect any significant loss from these
delinquencies.
Real Estate Owned. The Bank had no real estate acquired through
foreclosure or in satisfaction of loans at December 31, 1997 or 1996.
Asset Classification. The OTS has adopted various regulations regarding
problem assets of savings institutions. The regulations require that each
insured institution review and classify its assets on a regular basis. In
addition, in connection with examinations of insured institutions, OTS
examiners have authority to identify problem assets and, if appropriate,
require them to be classified. There are three classifications for problem
assets: substandard, doubtful and loss. Substandard assets have one or more
defined weaknesses and are characterized by the distinct possibility that the
insured institution will sustain some loss if the deficiencies are not
corrected. Doubtful assets have the weaknesses of substandard assets with the
additional characteristic that the weaknesses may make collection or
liquidation in full on the basis of currently existing facts, conditions and
values questionable, and there is a high possibility of loss. An asset
classified as loss is considered uncollectible and of such little value that
continuance as an asset of the institution is not warranted. If an asset or
portion thereof is classified as loss, the insured institution establishes
specific allowances for loan losses for the full amount of the portion of the
asset. All or a portion of general loan loss allowances established to cover
possible losses related to assets classified substandard or doubtful may be
included in determining an institution's regulatory capital, while specific
valuation allowances for loan losses generally do not qualify as regulatory
capital. Assets that do not currently expose the insured institution to
sufficient risk to warrant classification in one of the aforementioned
categories but possess weaknesses are designated "special mention" and are
monitored by the Bank.
At December 31, 1997, the Bank had 2 substandard loans totaling
$80,000 and at December 31, 1996 had two substandard loans totaling $73,000.
Allowance for Loan Losses. The Bank has established a systematic
methodology for determining provisions for loan losses. The methodology is set
forth in a formal policy and considers the need for an overall general
valuation allowance as well as specific allowances for individual loans.
In originating loans, the Bank recognizes that losses will be
experienced and that the risk of loss will vary with, among other things, the
type of loan being made, the creditworthiness of the borrower over the term of
the loan,
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general economic conditions and, in the case of a secured loan, the quality of
the security for the loan. The Bank may increase its allowance for loan losses
by charging provisions for loan losses against the Bank's income.
The general valuation allowance is maintained to cover losses inherent
in the portfolio of performing loans. Management reviews the adequacy of the
allowance at least quarterly based on management's assessment of current
economic conditions, past loss and collection experience, and risk
characteristics of the loan portfolio. The amount of the allowance is based on
management's evaluation of the collectibility of the loan portfolio, credit
concentrations, trends in historical loss experience, specific impaired loans,
peer group comparisons and economic conditions. Allowances for impaired loans
are generally determined based on collateral values or the present value of
estimated cash flow. Specific valuation allowances may be established to
absorb losses on loans for which full collectibility may not be reasonably
assured. The amount of the allowance is based on the estimated value of the
collateral securing the loan and other analyses pertinent to each situation.
At December 31, 1997, the Bank had an allowance for loan losses of
$200,000, which management believed to be adequate to absorb losses inherent
in the portfolio at that date. Although management believes that it uses the
best information available to make such determinations in accordance with
GAAP, future adjustments to the allowance for loan losses may be necessary and
results of operations could be significantly and adversely affected if
circumstances differ substantially from the assumptions used in making the
determinations. Furthermore, there can be no assurance that regulators, in
reviewing the Bank's loan portfolio, will not request the Bank to increase
significantly its allowance for loan losses. In addition, because future
events affecting borrowers and collateral cannot be predicted with certainty,
there can be no assurance that the existing allowance for loan losses will
continue to be adequate or that substantial increases will not be necessary
should the quality of any loans deteriorate as a result of the factors
discussed above. Any material increase in the allowance for loan losses may
adversely affect the Bank's financial condition and results of operations.
The following table sets forth an analysis of the Bank's allowance for
loan losses for the periods indicated.
Six
Year Ended Months Ended Year Ended
December 31, December 31, June 30
----------- ------------ -------
1997 1996 1996
---- ---- ----
(Dollars in Thousands)
Total loans outstanding
before net items ......... $48,313 $43,834 $43,110
------- ------- -------
Allowance balance at
beginning of year.......... 200 200 145
------- ------- -------
Provision
One-to-four family........ 19 0 55
Consumer.................. 1 0 0
------- ------- -------
Total....................... 20 0 55
Net charge-offs
One-to-four family........ (19) 0 0
Consumer.................. (1) 0 0
------- ------- -------
Total....................... (20) 0 0
------- ------- -------
Allowance balance at end
of year................... $ 200 $ 200 $ 200
======= ======== =======
Allowance for loan losses
as a percent of total
loans outstanding......... 0.41% 0.46% 0.46%
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The following table sets forth the breakdown of the allowance for loan losses
by loan category at the dates indicated. The portion of the allowance to each
loan category does not necessarily represent the total available for losses
within that category since the total allowance applies to the entire loan
portfolio. The allocation of the allowance to each category is not necessarily
indicative of future losses and does not restrict the use of the allowance to
absorb losses in any other category.
December 31
-------------------------------------------
1997 1996
------------------- -------------------
% of % of
Loans Loans
in Each in Each
Category Category
to Total to Total
Amount Loans Amount Loans
------ -------- ------ --------
(Dollars in Thousands)
One- to four-family.. $120 79.02% $120 80.50%
Commercial real
estate............. 40 2.28 40 5.11
Multi-family......... 25 6.54 25 2.55
Construction......... -- 4.53 - 5.11
Consumer and share... 15 7.63 15 6.73
---- ------ ---- ------
Total allowance.... $200 100.00% $200 100.00%
==== ====== ==== ======
Investment Activities
The Bank is permitted under federal law to invest in various types of
liquid assets, including U.S. Treasury obligations, securities of various
federal agencies and of state and municipal governments, deposits at the
FHLB-Seattle, certificates of deposit of federally insured institutions,
certain bankers' acceptances and federal funds. Subject to various
restrictions, the Bank may also invest a portion of its assets in commercial
paper and corporate debt securities. The Bank is also required to maintain an
investment in FHLB stock as a condition of membership in the FHLB-Seattle.
The Bank is required under federal regulations to maintain a minimum
amount of liquid assets. At December 31, 1997, the Bank's regulatory liquidity
of 25.3% was significantly in excess of the 4% required by OTS regulations.
The securities in the Bank's investment portfolio provide it with liquidity
for funding loan originations and enables the Bank to improve the match
between the maturities and repricing of its interest-rate sensitive assets and
liabilities. See "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS -- Liquidity and Capital Resources" contained in the
Company's Annual Report to Stockholders incorporated herein by reference.
The President of the Bank determines appropriate investments in
accordance with the Board of Directors' approved investment policies and
procedures. The Bank's policies generally limit investments to U.S. Government
and agency securities and mortgage-backed securities issued and guaranteed by
FHLMC, FNMA and Government National Mortgage Association ("GNMA"). The Bank's
policies provide that investment purchases be ratified at monthly Board of
Directors meetings. Investments are made based on certain considerations,
which include the interest rate, yield, settlement date and maturity of the
investment, the Bank's liquidity position, and anticipated cash needs and
sources (which in turn include outstanding commitments, upcoming maturities,
estimated deposits and anticipated loan amortization and repayments). The
effect that the proposed investment would have on the Bank's credit and
interest rate risk, and risk-based capital is also given consideration during
the evaluation.
10
<PAGE>
<PAGE>
At December 31, 1997, the Bank's investment and mortgage-backed
securities portfolio totaled $57.1 million and consisted principally of U.S.
Government and agency obligations and U.S. Government and agency
mortgage-backed securities. At December 31, 1997, the Bank had investment
securities available-for-sale with an estimated market value of $7.9 million,
which includes stock in the FHLMC and two mutual funds, the assets of which
consisted of ARM loans and U.S. Government and agency securities. The FHLMC
common stock at December 31, 1997, had an amortized cost of $55,000 and an
estimated market value of $2.0 million. The market value of the FHLMC common
stock has increased significantly since its purchase in the mid-1980's. From
time to time, investment levels may be increased or decreased depending upon
the yields on investment alternatives and upon management's judgment as to the
attractiveness of the yields then available in relation to other opportunities
and its expectation of the level of yield that will be available in the
future, as well as management's projections as to the short-term demand for
funds to be used in the Bank's loan origination and other activities.
U.S. Government and Agency Obligations. At December 31, 1997, the
Bank's portfolio of U.S. Government and agency obligations had a carrying
value of $7.0 million with maturity dates between 1998 and 2011. At December
31, 1997, the interest rates on these obligations ranged from 5.19% to 7.52%.
The Bank's investment securities include structured notes in the form of
step-up bonds and bonds that are subject to call. The form of structured notes
in which the Bank has invested provides for periodic adjustments in coupon
rates on specified dates or call prior to maturity. The Bank purchases these
bonds as part of its investment strategy and will only consider bonds issued
by a governmental agency with maturities of no longer than 15 years.
Management of the Bank acknowledges the uncertainty that these instruments may
be called before maturity with the initial higher coupon offered by these
bonds. Management of the Bank realizes that step-up bonds, or bonds subject to
call, are not as liquid an investment as traditional agency bonds and thus
involve more risk than other investments in the Bank's portfolio. However, as
the Bank intends to hold the instruments until their maturity or call,
management does not consider this as an obstacle to purchasing these
instruments. At December 31, 1997, the Bank had $750,000 in step-up bonds.
Mortgage-Backed Securities. The Bank purchases mortgage-backed
securities in order to: (i) generate positive interest rate spreads on large
principal balances with minimal administrative expense; (ii) lower the credit
risk of the Bank as a result of the guarantees provided by FHLMC, FNMA, and
GNMA; (iii) enable the Bank to use mortgage-backed securities as collateral
for financing; and (iv) invest excess funds during periods of reduced loan
demand. Included in the Bank's mortgage-backed securities portfolio are real
estate mortgage investment conduits ("REMICs"), which mature between 2008 and
2023 and have interest rates based primarily on the rate paid on U.S. Treasury
securities and the COFI. At December 31, 1997, net mortgage-backed securities
totaled $47.6 million, or 43.39%, of total assets. At December 31, 1997, $13.7
million of the mortgage-backed securities had adjustable rates of interest and
$33.9 million had fixed rates. The mortgage-backed securities portfolio had
coupon rates ranging from 5.5% to 13.5% and had a weighted average yield of
6.57% during the year ended December 31, 1997. At December 31, 1997, the
amortized cost of the Bank's mortgage-backed securities held to maturity was
$19.1 million.
Mortgage-backed securities (which also are known as mortgage
participation certificates or pass-through certificates) typically represent a
participation interest in a pool of single-family or multi-family mortgages.
The principal and interest payments on these mortgages are passed from the
mortgage originators, through intermediaries (generally U.S. Government
agencies and government sponsored enterprises) that pool and resell the
participation interests in the form of securities, to investors such as the
Bank. Such U.S. Government agencies and government sponsored enterprises,
which guarantee the payment of principal and interest to investors, primarily
include the FHLMC, FNMA and the GNMA. Mortgage-backed securities typically
are issued with stated principal amounts, and the securities are backed by
pools of mortgages that have loans with interest rates that fall within a
specific range and have varying maturities. Mortgage-backed securities
generally yield less than the loans that underlie such securities because of
the cost of payment guarantees and credit enhancements. In addition,
mortgage-backed securities are usually more liquid than individual mortgage
loans and may be used to collateralize certain liabilities and obligations
11
<PAGE>
<PAGE>
of the Bank. These types of securities also permit the Bank to optimize its
regulatory capital because they have low risk weighting.
REMICs are generally classified as derivative financial instruments
because they are created by redirecting the cash flows from the pool of
mortgages or mortgage-backed securities underlying these securities to create
two or more classes (or tranches) with different maturity or risk
characteristics designed to meet a variety of investor needs and preferences.
Management believes these securities may represent attractive alternatives
relative to other investments due to the wide variety of maturity, repayment
and interest rate options available. Investment practices of the Bank prohibit
the purchase of high risk REMICs. The Bank held REMICs with a net carrying
value of $13.0 million at December 31, 1997. REMICs may be sponsored by
private issuers, such as mortgage bankers or money center banks, or by U.S.
Government agencies and government sponsored entities. At December 31, 1997,
the Bank did not own any privately issued REMICs.
Thrift Bulletin Number 52 ("TB-52"), the OTS Policy Statement on
securities portfolio policies and unsuitable investment practices, requires
that institutions classify mortgage derivative products acquired, including
REMICs and certain tranches of CMOs, as "high-risk mortgage securities" if
such products exhibit greater price volatility than a benchmark fixed-rate
30-year mortgage-backed pass-through security. Institutions may only hold
high-risk mortgage securities to reduce interest-rate risk in accordance with
safe and sound practices and must also follow certain prudent safeguards in
the purchase and retention of such securities. At December 31, 1997, the Bank
did not have any securities that would be identified under TB-52 as "high-risk
mortgage securities." The Bank also evaluates its mortgage-backed securities
portfolio annually for compliance with applicable regulatory requirements,
including testing for identification of high risk investments pursuant to
Federal Financial Institutions Examination Council standards.
Derivatives also include "off balance sheet" financial products whose
value is dependent on the value of an underlying financial asset, such as a
stock, bond, foreign currency, or a reference rate or index. Such derivatives
include "forwards," "futures," "options" or "swaps." The Bank's investment
policy does not permit investment in such "off balance sheet" derivative
instruments.
Of the Bank's $47.6 million mortgage-backed securities portfolio at
December 31, 1997, $11.4 million had contractual maturities within six years
and $36.2 million had contractual maturities over six years. The actual
maturity of a mortgage-backed security may be less than its stated maturity
due to prepayments of the underlying mortgages. Prepayments that are faster
than anticipated may shorten the life of the security and may result in a loss
of any premiums paid and thereby reduce the net yield on such securities.
Although prepayments of underlying mortgages depend on many factors, including
the type of mortgages, the coupon rate, the age of mortgages, the geographical
location of the underlying real estate collateralizing the mortgages and
general levels of market interest rates, the difference between the interest
rates on the underlying mortgages and the prevailing mortgage interest rates
generally is the most significant determinant of the rate of prepayments.
During periods of declining mortgage interest rates, if the coupon rate of the
underlying mortgages exceeds the prevailing market interest rates offered for
mortgage loans, refinancing generally increases and accelerates the prepayment
of the underlying mortgages and the related security. Under such
circumstances, the Bank may be subject to reinvestment risk because, to the
extent that the Bank's mortgage-backed securities amortize or prepay faster
than anticipated, the Bank may not be able to reinvest the proceeds of such
repayments and prepayments at a comparable rate. In contrast to
mortgage-backed securities in which cash flow is received (and hence,
prepayment risk is shared) pro rata by all securities holders, the cash flow
from the mortgages or mortgage-backed securities underlying REMICs are
segmented and paid in accordance with a predetermined priority to investors
holding various tranches of such securities or obligations. A particular
tranche of REMICs may therefore carry prepayment risk that differs from that
of both the underlying collateral and other tranches.
12
<PAGE>
<PAGE>
The following table sets forth information regarding the Bank's
mortgage-backed securities (including REMICs) activity for the periods
indicated.
Six Months
Year Ended December 31, Ended December 31,
----------------------- ------------------
1997 1996
---- ----
(In Thousands)
Beginning balance................. $35,566 $35,188
------- -------
Mortgage-backed securities
purchased....................... 19,996 2,802
Amortization of premiums and
discounts....................... (15) 8
Principal repayments and
change in fair market value..... (7,906) (2,432)
------- -------
Ending balance.................. $47,641 $35,566
======= =======
The following table sets forth the composition of the Bank's
mortgage-backed securities portfolio at the dates indicated.
At December 31
---------------------------------------------
1997 1996
------------------- -----------------
Percent Percent
Amount of Total Amount of Total
------ -------- ------ --------
(Dollars in Thousands)
Mortgage-backed securities:
REMIC..................$12,956 27.19% $ 1,871 5.26%
GNMA................... 5,302 11.13 2,716 7.64
FNMA................... 14,448 30.33 11,966 33.64
FHLMC.................. 14,935 31.35 19,013 53.46
-------- ------ ------- ------
Total................$47,641 100.00% $35,566 100.00%
======= ====== ======= ======
13
<PAGE>
<PAGE>
The following table sets forth the contractual maturities of the Bank's
mortgage-backed securities portfolio as of December 31, 1997:
Contractual Maturities Due in Year(s) Ended December 31,
--------------------------------------------------------
2001 2004 2014
to to and
1998 1999 2000 2003 2013 Thereafter Total
---- ---- ---- ---- ---- ---------- -----
(In Thousands)
Mortgage-backed
securities.....$2,237 $2,995 $3,629 $2,563 $12,602 $23,615 $47,641
====== ====== ====== ====== ======= ======= =======
The following table sets forth the carrying value of the Bank's
investment securities portfolio, short-term investments and FHLB stock at the
dates indicated. At December 31, 1997, the market value of the Bank's
investment securities held to maturity portfolio was $1.5 million and
securities available for sale portfolio was $7.9 million.
At December 31,
-----------------
1997 1996
---- ----
(In Thousands)
Investment securities held
to maturity:
U.S. Government securities..... $ - $ -
U.S. agency securities......... 1,500 2,699
------- -------
Total held-to-maturity
securities ................ 1,500 2,699
Securities available-for-sale
(1 and 2)..................... 7,911 1,690
Interest-bearing deposits....... 1,825 29,824
FHLB stock...................... 1,261 1,169
------- -------
Total........................ $12,497 $35,382
======= =======
(1) Includes FHLMC common stock and mutual funds.
(2) Excludes mortgaged-backed securities.
14
<PAGE>
<PAGE>
<TABLE>
The following table sets forth certain information regarding the carrying values, weighted average
yields and maturities of the Bank's held-to-maturity and available-for-sale investment securities
portfolios as of December 31, 1997.
More Than More Than
One Year One to Five to More Than Total
or Less Five Years Ten Years Ten Years Investment Securities
---------------- ---------------- ---------------- ---------------- ------------------------
Carrying Average Carrying Average Carrying Average Carrying Average Carrying Average Market
Value Yield Value Yield Value Yield Value Yield Value Yield Value
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <c. <C> <C> <C> <C> <C>
U.S. agency
obliga-
tions......$ 250 5.19% $ 250 6.48%$ 500 6.00% $500 6.63% $1,500 6.15% $1,499
Securities
available-
for-sale... 2,364(1) - 500 7.05 5,047 6.99 - - 7,911 7.00 7,911
----- ---- ----- ---- ------ ------
Total......$2,614 $750 $5,547 $500 $9,411 $9,410
====== ==== ====== ==== ====== ======
(1) Consists of FHLMC common stock and mutual funds.
</TABLE>
15
<PAGE>
<PAGE>
Deposit Activities and Other Sources of Funds
General. Deposits and loan repayments are the major sources of the
Bank's funds for lending and other investment purposes. Scheduled loan
repayments are a relatively stable source of funds, while deposit inflows and
outflows and loan prepayments are influenced significantly by general interest
rates and money market conditions. Borrowings through the FHLB-Seattle may be
used on a short-term basis to compensate for reductions in the availability of
funds from other sources. At December 31, 1997, the Bank had no other
borrowing arrangements.
Deposit Accounts. Substantially all of the Bank's depositors are
residents of south-central Montana. Deposits are attracted from within the
Bank's market area through the offering of a broad selection of deposit
instruments, including NOW accounts, money market accounts, regular savings
accounts, certificates of deposit and retirement savings plans. Deposit
account terms vary, according to the minimum balance required, the time
periods the funds must remain on deposit and the interest rate, among other
factors. In determining the terms of its deposit accounts, the Bank considers
current market interest rates, profitability to the Bank, matching deposit and
loan products and its customer preferences and concerns. The Bank reviews its
deposit mix and pricing weekly.
The following table sets forth certain information concerning the Bank's
time deposits and other interest-bearing deposits at December 31, 1997.
Weighted Percen-
Average tage of
Interest Original Minimum Total
Rate Term Checking and Savings Deposits Amount Balance Deposits
- -------- ---- ----------------------------- ------- ------- --------
(In Thousands)
2.55% None NOW accounts $200 $10,137 15.17%
3.25% None Regular savings 5 13,572 20.30
3.50% None Money market accounts 1,000 4,702 7.03
Certificates of deposit:
5.08% 1-3 months Fixed term, fixed rate 500 1,000 1.50
5.27% 4-6 months Fixed term, fixed rate 500 6,484 9.70
5.46% 7-12 months Fixed term, fixed rate 500 10,243 15.32
5.64% 13-24 months Fixed term, fixed rate 500 7,779 11.63
5.95% 25-36 months Fixed term, fixed rate 500 7,109 10.63
6.22% 37-48 months Fixed term, fixed rate 500 1,036 1.55
6.45% 49-120 months Fixed term, fixed rate 500 3,986 5.96
5.53% Various Jumbo certificates 100,000 811 1.21
------- ------
66,859 100.00%
Accrued interest on deposits 100
-------
4.55% Total $66,959
=======
16
<PAGE>
<PAGE>
The following table indicates the amount of the Bank's certificates of
deposit of $100,000 or more by time remaining until maturity as of December
31, 1997.
Maturity Period Amount
--------------- ------
(In Thousands)
Three months or less....... $ 821
Over three through six
months .................. 207
Over six through 12 months. 1,078
Over 12 months............. 448
------
Total................. $2,554
======
Time Deposits by Rates
The following table sets forth the time deposits in the Bank classified
by rates at December 31, 1997.
Amount
------
(In Thousands)
3.00 - 5.00%........ 756
5.01 - 7.00%........ 35,639
7.01 - 8.00%........ 2,053
------
Total..................... 38,448
======
The following table sets forth the amount and maturities of time
deposits at December 31, 1997.
Amount Due
----------------------------------------------------------
After
December 31, December 31, December 31, December 31,
1998 1999 2000 2000 Total
------------ ------------ ------------ ------------ -----
(In Thousands)
Time deposits.. $27,137 $5,451 $3,858 $2,002 $38,448
======= ====== ====== ======
Accrued
interest on
certificate
accounts...... 100
-------
Total....... $38,548
=======
Savings Activities
The following table sets forth the deposit activities of the Bank for
the periods indicated.
Year Ended Year Ended
December 31, December 31,
------------ ------------
1997 1996
---- ----
(In Thousands)
Net decrease before interest
credited...................... $(3,876) $(5,404)
Interest credited.............. 3,037 3,245
----- ------
Net decrease in savings
deposits...................... $ (839) $(2,159)
======== ========
17
<PAGE>
<PAGE>
Borrowings
While savings deposits are the primary source of funds for the Bank's
lending and investment activities and for its general business purposes, the
Bank also relies upon advances from the FHLB-Seattle to supplement its supply
of lendable funds, to meet deposit withdrawal requirements and to fund the
purchase of investment and mortgage-backed securities. At December 31, 1997,
the Bank did not have any borrowings from the FHLB-Seattle, but was eligible
to borrow up to approximately $22 million.
The FHLB-Seattle functions as a central reserve bank providing credit
for savings and loan associations and certain other member financial
institutions. As a member, the Bank is required to own capital stock in the
FHLB-Seattle and is authorized to apply for advances on the security of such
stock and certain of its mortgage loans and other assets (principally
securities which are obligations of, or guaranteed by, the United States
government) provided certain creditworthiness standards have been met.
Advances are made pursuant to several different credit programs. Each credit
program has its own interest rate and range of maturities. Depending on the
program, limitations on the amount of advances are based on the financial
condition of the member institution and the adequacy of collateral pledged to
secure the credit.
The following table sets forth information concerning only short-term
borrowings (those maturing within one year or less) the Bank had during the
periods indicated.
Year Ended Six Months Ended
December 31, December 31,
------------ -------------
1997 1996
---- ----
(Dollars in Thousands)
Short-term FHLB advances:
Average balance outstanding............. $ - $ 227
Maximum amount outstanding at any
month-end during the period........... 1,000 1,500
Weighted average interest rate
during the period..................... 5.78% 5.83%
Total short-term borrowings at
end of period........................... - -
18
<PAGE>
<PAGE>
Subsidiary Activities
Federal savings associations generally may invest up to 3% of their
assets in service corporations, provided that at least one-half of any amount
in excess of 1% is used primarily for community, inner-city and community
development projects. The Bank's investment in its service corporation, (Dime
Service Corporation), did not exceed these limits at December 31, 1997.
Dime Service Corporation is a wholly owned subsidiary of the Bank. It
was established in 1985 to purchase and operate an insurance agency business.
In 1992 and 1993, Dime Service Corporation purchased the insurance business of
two local insurance agencies. Dime Service Corporation presently engages in
full service property and casualty insurance activities under the name "Dime
Insurance Agency." At December 31, 1997, the Bank's investment in Dime Service
Corporation was $365,000. Dime Service Corporation had total assets of
approximately $589,000 at December 31, 1997, and net income of approximately
$39,000 for the year ended December 31, 1997. See "MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS" contained in
Company's Annual Report to Stockholders incorporated herein by reference.
REGULATION
General
The Bank is subject to extensive regulation, examination and supervision
by the OTS as its chartering agency, and the FDIC, as the insurer of its
deposits. The activities of federal savings institutions are governed by the
Home Owners' Loan Act of 1933, as amended ("HOLA") and, in certain respects,
the Federal Deposit Insurance Act ("FDIA"), and the regulations issued by the
OTS and the FDIC to implement these statutes. These laws and regulations
delineate the nature and extent of the activities in which federal savings
associations may engage. Lending activities and other investments must comply
with various statutory and regulatory capital requirements. In addition, the
Bank's relationship with its depositors and borrowers is also regulated to a
great extent, especially in such matters as the ownership of deposit accounts
and the form and content of the Bank's mortgage documents. The Bank must file
reports with the OTS and the FDIC concerning its activities and financial
condition in addition to obtaining regulatory approvals prior to entering into
certain transactions such as mergers with, or acquisitions of, other financial
institutions. There are periodic examinations by the OTS and the FDIC to
review the Bank's compliance with various regulatory requirements. The
regulatory structure also gives the regulatory authorities extensive
discretion in connection with their supervisory and enforcement activities and
examination policies, including policies with respect to the classification of
assets and the establishment of adequate loan loss reserves for regulatory
purposes. Any change in such policies, whether by the OTS, the FDIC or
Congress, could have a material adverse impact on the Corporation, the Bank
and their operations. The Corporation, as a savings and loan holding company,
is also required to file certain reports with, and otherwise comply with the
rules and regulations of, the OTS.
Federal Regulation of Banks
Office of Thrift Supervision. The OTS is an office in the Department of
the Treasury subject to the general oversight of the Secretary of the
Treasury. The OTS generally possesses the supervisory and regulatory duties
and responsibilities formerly vested in the Federal Home Loan Bank Board.
Among other functions, the OTS issues and enforces regulations affecting
federally insured savings associations and regularly examines these
institutions.
Federal Home Loan Bank System. The FHLB System, consisting of 12 FHLBs,
is under the jurisdiction of the Federal Housing Finance Board ("FHFB"). The
designated duties of the FHFB are to: supervise the FHLBs; ensure that the
FHLBs carry out their housing finance mission; ensure that the FHLBs remain
adequately capitalized and able to raise funds in the capital markets; and
ensure that the FHLBs operate in a safe and sound manner.
19
<PAGE>
<PAGE>
The Bank, as a member of the FHLB-Seattle, is required to acquire and
hold shares of capital stock in the FHLB-Seattle in an amount equal to the
greater of (i) 1.0% of the aggregate outstanding principal amount of
residential mortgage loans, home purchase contracts and similar obligations at
the beginning of each year, or (ii) 1/20 of its advances (borrowings) from the
FHLB-Seattle. The Bank is in compliance with this requirement with an
investment in FHLB-Seattle stock of $1.3 million at December 31, 1997.
Among other benefits, the FHLB provides a central credit facility
primarily for member institutions. It is funded primarily from proceeds
derived from the sale of consolidated obligations of the FHLB System. It makes
advances to members in accordance with policies and procedures established by
the FHLB and the Board of Directors of the FHLB-Seattle.
Federal Deposit Insurance Corporation. The FDIC is an independent
federal agency that insures the deposits, up to prescribed statutory limits,
of depository institutions. The FDIC currently maintains two separate
insurance funds: the BIF and the SAIF. As insurer of deposits, the FDIC has
examination, supervisory and enforcement authority over all savings
associations.
The Bank's accounts are insured by the SAIF up to the maximum extent
permitted by law. The Bank pays deposit insurance premiums to the FDIC based
on a risk-based assessment system established by the FDIC for all SAIF-member
institutions. Under applicable regulations, institutions are assigned to one
of three capital groups that are based solely on the level of an institution's
capital -- "well capitalized," "adequately capitalized," and
"undercapitalized" -- which are defined in the same manner as the regulations
establishing the prompt corrective action system, as discussed below. These
three groups are then divided into three subgroups which reflect varying
levels of supervisory concern, from those which are considered to be healthy
to those which are considered to be of substantial supervisory concern. The
Bank's assessments for the year ended December 31, 1997, were $78,000.
Pursuant to the Deposit Insurance Funds Act of 1996 ("DIF Act"), which
was enacted on September 30, 1996, the FDIC imposed a special one-time
assessment on each depository institution with SAIF-assessable deposits so
that the SAIF may achieve its designated reserve ratio. Beginning January 1,
1997, the assessment schedule for SAIF members is the same as that for BIF
members. In addition, beginning January 1, 1997, SAIF members will be charged
an assessment of 0.064% of SAIF-assessable deposits for the purpose of paying
interest on the obligations issued by the Financing Corporation ("FICO") in
the 1980s to help fund the thrift industry cleanup. BIF-assessable deposits
will be charged an assessment to help pay interest on the FICO bonds at a rate
of approximately 0.013% until the earlier of December 31, 1999 or the date
upon which the last savings association ceases to exist, after which time the
assessment will be the same for all insured deposits.
The DIF Act provides for the merger of the BIF and the SAIF into the
Deposit Insurance Fund on January 1, 1999, but only if no insured depository
institution is a savings association on that date. The DIF contemplates the
development of a common charter for all federally chartered depository
institutions and the abolition of separate charters for national banks and
federal savings associations. It is not known what form the common charter may
take and what effect, if any, the adoption of a new charter would have on the
operation of the Bank.
The FDIC may terminate the deposit insurance of any insured depository
institution if it determines after a hearing that the institution has engaged
or is engaging in unsafe or unsound practices, is in an unsafe or unsound
condition to continue operations, or has violated any applicable law,
regulation, order or any condition imposed by an agreement with the FDIC. It
also may suspend deposit insurance temporarily during the hearing process for
the permanent termination of insurance, if the institution has no tangible
capital. If insurance of accounts is terminated, the accounts at the
institution at the time of termination, less subsequent withdrawals, shall
continue to be insured for a period of six months to two years, as determined
by the FDIC. Management is aware of no existing circumstances that could
result in termination of the deposit insurance of the Bank.
20
<PAGE>
<PAGE>
Liquidity Requirements. Under OTS regulations, each savings institution
is required to maintain an average daily balance of liquid assets (cash,
certain time deposits and savings accounts, bankers' acceptances, and
specified U.S. Government, state or federal agency obligations and certain
other investments) equal to a monthly average of not less than a specified
percentage (currently 4.0%) of its net withdrawable accounts plus short-term
borrowings. Monetary penalties may be imposed for failure to meet liquidity
requirements.
Prompt Corrective Action. Each federal banking agency is required by law
to implement a system of prompt corrective action for institutions that it
regulates. The federal banking agencies have promulgated substantially similar
regulations to implement this system of prompt corrective action. Under the
regulations, an institution shall be deemed to be (i) "well capitalized" if it
has a total risk-based capital ratio of 10.0% or more, has a Tier I risk-based
capital ratio of 6.0% or more, has a leverage ratio of 5.0% or more and is not
subject to specified requirements to meet and maintain a specific capital
level for any capital measure; (ii) "adequately capitalized" if it has a total
risk-based capital ratio of 8.0% or more, a Tier I risk-based capital ratio of
4.0% or more and a leverage ratio of 4.0% or more (3.0% under certain
circumstances) and does not meet the definition of "well capitalized;" (iii)
"undercapitalized" if it has a total risk-based capital ratio that is less
than 8.0%, a Tier I risk-based capital ratio that is less than 4.0% or a
leverage ratio that is less than 4.0% (3.0% under certain circumstances); (iv)
"significantly undercapitalized" if it has a total risk-based capital ratio
that is less than 6.0%, a Tier I risk-based capital ratio that is less than
3.0% or a leverage ratio that is less than 3.0%; and (v) "critically
undercapitalized" if it has a ratio of tangible equity to total assets that is
equal to or less than 2.0%.
A federal banking agency may, after notice and an opportunity for a
hearing, reclassify a well capitalized institution as adequately capitalized
and may require an adequately capitalized institution or an undercapitalized
institution to comply with supervisory actions as if it were in the next lower
category if the institution is in an unsafe or unsound condition or has
received in its most recent examination, and has not corrected, a less than
satisfactory rating for asset quality, management, earnings or liquidity. The
OTS may not, however, reclassify a significantly undercapitalized institution
as critically undercapitalized.
An institution generally must file a written capital restoration plan
that meets specified requirements, as well as a performance guaranty by each
company that controls the institution, with the appropriate federal banking
agency within 45 days of the date that the institution receives notice or is
deemed to have notice that it is undercapitalized, significantly
undercapitalized or critically undercapitalized. Immediately upon becoming
undercapitalized, an institution shall become subject to various mandatory and
discretionary restrictions on its operations.
At December 31, 1997, the Bank was categorized as "well capitalized"
under the prompt corrective action regulations of the OTS.
Standards for Safety and Soundness. The federal banking regulatory
agencies are required, by regulation, to establish standards for all insured
depository institutions relating to: (i) internal controls, information
systems and internal audit systems; (ii) loan documentation; (iii) credit
underwriting; (iv) interest rate risk exposure; (v) asset growth; and (vi)
compensation, fees and benefits. The federal banking agencies have adopted
final regulations and Interagency Guidelines Prescribing Standards for Safety
and Soundness ("Guidelines") to implement safety and soundness standards. The
Guidelines set forth the safety and soundness standards that the federal
banking agencies use to identify and address problems at insured depository
institutions before capital becomes impaired. The agencies also proposed asset
quality and earnings standards which, if adopted in final, would be added to
the Guidelines. Under the final regulations, if the OTS determines that the
Bank fails to meet any standard prescribed by the Guidelines, the agency may
require the Bank to submit to the agency an acceptable plan to achieve
compliance with the standard. The final regulations establish deadlines for
the submission and review of such safety and soundness compliance plans.
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Qualified Thrift Lender Test. All savings associations are required to
meet a qualified thrift lender ("QTL") to avoid certain operating
restrictions. savings institution that fails to become or remain a QTL shall
either become a national bank or be subject to the following restrictions on
its operations: (i) the association may not make any new investment or engage
in activities that would not be permissible for national banks; (ii) the
association may not establish any new branch office where a national bank
located in the savings institution's home state would not be able to establish
a branch office; (iii) the association shall be ineligible to obtain new
advances from any FHLB; and (iv) the payment of dividends by the association
shall be subject to the rules regarding the statutory and regulatory dividend
restrictions applicable to national banks. Also, beginning three years after
the date on which the savings institution ceases to be a QTL, the savings
institution would be prohibited from retaining any investment or engaging in
any activity not permissible for a national bank and would be required to
repay any outstanding advances to any FHLB. In addition, within one year of
the date on which a savings association controlled by a company ceases to be a
QTL, the company must register as a bank holding company and become subject to
the rules applicable to such companies. A savings institution may requalify as
a QTL if it thereafter complies with the QTL test.
Currently, the QTL test requires that either an institution qualifies as
a domestic building and loan association under the Internal Revenue Code
("Code") or that 65% of an institution's "portfolio assets" (as defined)
consist of certain housing and consumer-related assets on a monthly average
basis in nine out of every 12 months. Assets that qualify without limit for
inclusion as part of the 65% requirement are loans made to purchase,
refinance, construct, improve or repair domestic residential housing and
manufactured housing; home equity loans; mortgage-backed securities (where the
mortgages are secured by domestic residential housing or manufactured
housing); FHLB stock; direct or indirect obligations of the FDIC; and loans
for educational purposes, loan to small businesses and loan made through
credit cards. In addition, the following assets, among others, may be included
in meeting the test subject to an overall limit of 20% of the savings
institution's portfolio assets: 50% of residential mortgage loans originated
and sold within 90 days of origination; 100% of consumer loans; and stock
issued by the FHLMC or the FNMA. Portfolio assets consist of total assets
minus the sum of (i) goodwill and other intangible assets, (ii) property used
by the savings institution to conduct its business, and (iii) liquid assets up
to 20% of the institution's total assets. At December 31, 1997, the Bank's
qualified thrift investments significantly exceeded 65% of its portfolio
assets as required by regulation.
Capital Requirements. Under OTS regulations a savings association must
satisfy three minimum capital requirements: core capital, tangible capital
and risk-based capital. Savings associations must meet all of the standards
in order to comply with the capital requirements. The Corporation is not
subject to any minimum capital requirements.
OTS capital regulations establish a 3% core capital or leverage ratio
(defined as the ratio of core capital to adjusted total assets). Core capital
is defined to include common stockholders' equity, noncumulative perpetual
preferred stock and any related surplus, and minority interests in equity
accounts of consolidated subsidiaries, less (i) any intangible assets, except
for certain qualifying intangible assets; (ii) certain mortgage servicing
rights; and (iii) equity and debt investments in subsidiaries that are not
"includable subsidiaries," which is defined as subsidiaries engaged solely in
activities not impermissible for a national bank, engaged in activities
impermissible for a national bank but only as an agent for its customers, or
engaged solely in mortgage-banking activities. In calculating adjusted total
assets, adjustments are made to total assets to give effect to the exclusion
of certain assets from capital and to account appropriately for the
investments in and assets of both includable and nonincludable subsidiaries.
Institutions that fail to meet the core capital requirement would be required
to file with the OTS a capital plan that details the steps they will take to
reach compliance. In addition, the OTS's prompt corrective action regulation
provides that a savings institution that has a leverage ratio of less than 4%
(3% for institutions receiving the highest CAMEL examination rating) will be
deemed to be "undercapitalized" and may be subject to certain restrictions.
See "-- Federal Regulation of Banks -- Prompt Corrective Action."
As required by federal law, the OTS has proposed a rule revising its
minimum core capital requirement to be no less stringent than that imposed on
national banks. The OTS has proposed that only those savings associations
rated
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a composite one (the highest rating) under the CAMEL rating system for savings
associations will be permitted to operate at or near the regulatory minimum
leverage ratio of 3%. All other savings associations will be required to
maintain a minimum leverage ratio of 4% to 5%. The OTS will assess each
individual savings association through the supervisory process on a
case-by-case basis to determine the applicable requirement. No assurance can
be given as to the final form of any such regulation, the date of its
effectiveness or the requirement applicable to the Bank.
Savings associations also must maintain "tangible capital" not less than
1.5% of the Bank's adjusted total assets. "Tangible capital" is defined,
generally, as core capital minus any "intangible assets" other than purchased
mortgage servicing rights.
Each savings institution must maintain total risk-based capital equal to
at least 8% of risk-weighted assets. Total risk-based capital consists of the
sum of core and supplementary capital, provided that supplementary capital
cannot exceed core capital, as previously defined. Supplementary capital
includes (i) permanent capital instruments such as cumulative perpetual
preferred stock, perpetual subordinated debt and mandatory convertible
subordinated debt, (ii) maturing capital instruments such as subordinated
debt, intermediate-term preferred stock and mandatory convertible subordinated
debt, and (iii) general valuation loan and lease loss allowances up to 1.25%
of risk-weighted assets.
The risk-based capital regulation assigns each balance sheet asset held
by a savings institution to one of four risk categories based on the amount of
credit risk associated with that particular class of assets. Assets not
included for purposes of calculating capital are not included in calculating
risk-weighted assets. The categories range from 0% for cash and securities
that are backed by the full faith and credit of the U.S. Government to 100%
for repossessed assets or assets more than 90 days past due. Qualifying
residential mortgage loans (including multi-family mortgage loans) are
assigned a 50% risk weight. Consumer, commercial, home equity and residential
construction loans are assigned a 100% risk weight, as are nonqualifying
residential mortgage loans and that portion of land loans and nonresidential
construction loans that do not exceed an 80% loan-to-value ratio. The book
value of assets in each category is multiplied by the weighting factor (from
0% to 100%) assigned to that category. These products are then totalled to
arrive at total risk-weighted assets. Off-balance sheet items are included in
risk-weighted assets by converting them to an approximate balance sheet
"credit equivalent amount" based on a conversion schedule. These credit
equivalent amounts are then assigned to risk categories in the same manner as
balance sheet assets and included as risk-weighted assets.
The OTS has incorporated an interest rate risk component into its
regulatory capital rule. Under the rule, savings associations with "above
normal" interest rate risk exposure would be subject to a deduction from total
capital for purposes of calculating their risk-based capital requirements. A
savings association's interest rate risk is measured by the decline in the net
portfolio value of its assets (i.e., the difference between incoming and
outgoing discounted cash flows from assets, liabilities and off-balance sheet
contracts) that would result from a hypothetical 200 basis point increase or
decrease in market interest rates divided by the estimated economic value of
the association's assets, as calculated in accordance with guidelines set
forth by the OTS. A savings association whose measured interest rate risk
exposure exceeds 2% must deduct an interest rate risk component in calculating
its total capital under the risk-based capital rule. The interest rate risk
component is an amount equal to one-half of the difference between the
institution's measured interest rate risk and 2%, multiplied by the estimated
economic value of the association's assets. That dollar amount is deducted
from an association's total capital in calculating compliance with its
risk-based capital requirement. Under the rule, there is a two quarter lag
between the reporting date of an institution's financial data and the
effective date for the new capital requirement based on that data. The rule
also provides that the Director of the OTS may waive or defer an association's
interest rate risk component on a case-by-case basis. Under certain
circumstances, a savings association may request an adjustment to its interest
rate risk component if it believes that the OTS-calculated interest rate risk
component overstates its interest rate risk exposure. In addition, certain
"well-capitalized" institutions may obtain authorization to use their own
interest rate risk model to calculate their interest rate risk component in
lieu of the OTS-calculated amount. The OTS has postponed the date that the
component will first be deducted from an
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institution's total capital until savings associations become familiar with
the process for requesting an adjustment to its interest rate risk component.
At December 31, 1997, Empire Federal's core capital of approximately
$26.2 million, or 24.5% of adjusted total assets, was $23.0 million in excess
of the OTS requirement of $3.2 million, or 3% of adjusted total assets. As of
such date, the Bank's tangible capital of approximately $26.2 million, or
24.5% of adjusted total assets, was $24.6 million in excess of the OTS
requirement of $1.6 million, or 1.5% of adjusted total assets. Finally, at
December 31, 1997, the Bank had risk-based capital of approximately $26.4
million or 65.3% of total risk-weighted assets, which was $23.2 million in
excess of the OTS risk-based capital requirement of $3.2 million or 8% of
risk-weighted assets.
Limitations on Capital Distributions. OTS regulations impose uniform
limitations on the ability of all savings associations to engage in various
distributions of capital such as dividends, stock repurchases and cash-out
mergers. In addition, OTS regulations require the Bank to give the OTS 30
days' advance notice of any proposed declaration of dividends, and the OTS has
the authority under its supervisory powers to prohibit the payment of
dividends. The regulation utilizes a three-tiered approach which permits
various levels of distributions based primarily upon a savings association's
capital level.
A Tier 1 savings association has capital in excess of its fully
phased-in capital requirement (both before and after the proposed capital
distribution). A Tier 1 savings association may make (without application but
upon prior notice to, and no objection made by, the OTS) capital distributions
during a calendar year up to 100% of its net income to date during the
calendar year plus one-half its surplus capital ratio (i.e., the amount of
capital in excess of its fully phased-in requirement) at the beginning of the
calendar year or the amount authorized for a Tier 2 association. Capital
distributions in excess of such amount require advance notice to the OTS. A
Tier 2 savings association has capital equal to or in excess of its minimum
capital requirement but below its fully phased-in capital requirement (both
before and after the proposed capital distribution). Such an association may
make (without application) capital distributions up to an amount equal to 75%
of its net income during the previous four quarters depending on how close the
association is to meeting its fully phased-in capital requirement. Capital
distributions exceeding this amount require prior OTS approval. Tier 3
associations are savings associations with capital below the minimum capital
requirement (either before or after the proposed capital distribution). Tier 3
associations may not make any capital distributions without prior approval
from the OTS.
The Bank is currently meeting the criteria to be designated a Tier 1
association and, consequently, could at its option (after prior notice to, and
no objection made by, the OTS) distribute up to 100% of its net income during
the calendar year plus 50% of its surplus capital ratio at the beginning of
the calendar year less any distributions previously paid during the year.
Loans to One Borrower. Under the HOLA, savings institutions are
generally subject to the national bank limit on loans to one borrower.
Generally, this limit is 15% of the Bank's unimpaired capital and surplus,
plus an additional 10% of unimpaired capital and surplus, if such loan is
secured by readily-marketable collateral, which is defined to include certain
financial instruments and bullion. The OTS by regulation has amended the loans
to one borrower rule to permit savings associations meeting certain
requirements, including capital requirements, to extend loans to one borrower
in additional amounts under circumstances limited essentially to loans to
develop or complete residential housing units. At December 31, 1997, the
Bank's limit on loans to one borrower was $4.0 million. At December 31, 1997,
the Bank's largest aggregate amount of loans to one borrower was $2.2 million,
all of which were performing according to their original terms.
Activities of Associations and Their Subsidiaries. When a savings
association establishes or acquires a subsidiary or elects to conduct any new
activity through a subsidiary that the association controls, the savings
association must notify the FDIC and the OTS 30 days in advance and provide
the information each agency may, by
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regulation, require. Savings associations also must conduct the activities of
subsidiaries in accordance with existing regulations and orders.
The OTS may determine that the continuation by a savings association of
its ownership control of, or its relationship to, the subsidiary constitutes a
serious risk to the safety, soundness or stability of the association or is
inconsistent with sound banking practices or with the purposes of the FDIA.
Based upon that determination, the FDIC or the OTS has the authority to order
the savings association to divest itself of control of the subsidiary. The
FDIC also may determine by regulation or order that any specific activity
poses a serious threat to the SAIF. If so, it may require that no SAIF member
engage in that activity directly.
Transactions with Affiliates. Savings associations must comply with
Sections 23A and 23B of the Federal Reserve Act ("Sections 23A and 23B")
relative to transactions with affiliates in the same manner and to the same
extent as if the savings association were a Federal Reserve member bank. A
savings and loan holding company, its subsidiaries and any other company under
common control are considered affiliates of the subsidiary savings association
under the HOLA. Generally, Sections 23A and 23B: (i) limit the extent to which
the insured association or its subsidiaries may engage in certain covered
transactions with an affiliate to an amount equal to 10% of such institution's
capital and surplus and place an aggregate limit on all such transactions with
affiliates to an amount equal to 20% of such capital and surplus, and (ii)
require that all such transactions be on terms substantially the same, or at
least as favorable to the institution or subsidiary, as those provided to a
non-affiliate. The term "covered transaction" includes the making of loans,
the purchase of assets, the issuance of a guaranty and similar types of
transactions.
Three additional rules apply to savings associations: (i) a savings
association may not make any loan or other extension of credit to an affiliate
unless that affiliate is engaged only in activities permissible for bank
holding companies; (ii) a savings association may not purchase or invest in
securities issued by an affiliate (other than securities of a subsidiary); and
(iii) the OTS may, for reasons of safety and soundness, impose more stringent
restrictions on savings associations but may not exempt transactions from or
otherwise abridge Section 23A or 23B. Exemptions from Section 23A or 23B may
be granted only by the Federal Reserve Board, as is currently the case with
respect to all FDIC-insured banks. The Bank has not been significantly
affected by the rules regarding transactions with affiliates.
The Bank's authority to extend credit to executive officers, directors
and 10% shareholders, as well as entities controlled by such persons, is
currently governed by Sections 22(g) and 22(h) of the Federal Reserve Act, and
Regulation O thereunder. Among other things, these regulations require that
such loans be made on terms and conditions substantially the same as those
offered to unaffiliated individuals and not involve more than the normal risk
of repayment. Regulation O also places individual and aggregate limits on the
amount of loans the Bank may make to such persons based, in part, on the
Bank's capital position, and requires certain board approval procedures to be
followed. The OTS regulations, with certain minor variances, apply Regulation
O to savings institutions.
Community Reinvestment Act. Under the Community Reinvestment Act
("CRA"), a federal statute, all federally-insured financial institutions have
a continuing and affirmative obligation consistent with safe and sound
operations to help meet all the credit needs of its delineated community. The
CRA does not establish specific lending requirements or programs nor does it
limit an institution's discretion to develop the types of products and
services that it believes are best suited to meet all the credit needs of its
delineated community. The CRA requires the federal banking agencies, in
connection with regulatory examinations, to assess an institution's record of
meeting the credit needs of its delineated community and to take such record
into account in evaluating certain regulatory applications filed by an
institution. The CRA requires public disclosure of an institution's CRA
rating. The Bank received a "satisfactory" rating as a result of its latest
evaluation.
Regulatory and Criminal Enforcement Provisions. Under the FDIA, the OTS
has primary enforcement responsibility over savings institutions and has the
authority to bring action against all "institution-affiliated parties,"
including stockholders, and any attorneys, appraisers and accountants who
knowingly or recklessly participate in
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wrongful action likely to have an adverse effect on an insured institution.
Formal enforcement action may range from the issuance of a capital directive
or cease and desist order to removal of officers or directors, receivership,
conservatorship or termination of deposit insurance. Civil penalties cover a
wide range of violations and can amount to $25,000 per day, or $1.0 million
per day in especially egregious cases. Under the FDIA, the FDIC has the
authority to recommend to the Director of the OTS that enforcement action be
taken with respect to a particular savings institution. If action is not taken
by the Director, the FDIC has authority to take such action under certain
circumstances. Federal law also establishes criminal penalties for certain
violations.
Savings and Loan Holding Company Regulations
General. The Corporation is a savings and loan holding company within
the meaning of HOLA. As such, the Corporation is registered with the OTS and
is subject to OTS regulations, examinations, supervision and reporting
requirements. The Corporation is also subject to the information, proxy
solicitation, insider trading restrictions, and other requirements of the
Securities Exchange Act of 1934, as amended ("Exchange Act").
Holding Company Acquisitions. The HOLA and OTS regulations issued
thereunder generally prohibit a savings and loan holding company, without
prior OTS approval, from acquiring more than 5% of the voting stock of any
other savings association or savings and loan holding company or controlling
the assets thereof. They also prohibit, among other things, any director or
officer of a savings and loan holding company, or any individual who owns or
controls more than 25 percent of the voting shares of such holding company,
from acquiring control of any savings association not a subsidiary of such
savings and loan holding company, unless the acquisition is approved by the
OTS.
Holding Company Activities. As a unitary savings and loan holding
company, the Corporation generally is not subject to activity restrictions. If
the Corporation acquires control of another savings association as a separate
subsidiary, it would become a multiple savings and loan holding company. There
generally are more restrictions on the activities of a multiple savings and
loan holding company than a unitary savings and loan holding company.
Specifically, if either federally insured subsidiary savings association fails
to meet the QTL test, the activities of the Corporation and any of its
subsidiaries (other than the Corporation or other federally insured subsidiary
savings associations) would thereafter be subject to further restrictions. The
HOLA provides that, among other things, no multiple savings and loan holding
company or subsidiary thereof which is not an insured association shall
commence or continue for more than two years after becoming a multiple savings
and loan association holding company or subsidiary thereof, any business
activity other than: (i) furnishing or performing management services for a
subsidiary insured institution, (ii) conducting an insurance agency or escrow
business, (iii) holding, managing, or liquidating assets owned by or acquired
from a subsidiary insured institution, (iv) holding or managing properties
used or occupied by a subsidiary insured institution, (v) acting as trustee
under deeds of trust, (vi) those activities previously directly authorized by
regulation as of March 5, 1987 to be engaged in by multiple holding companies
or (vii) those activities authorized by the Federal Reserve Board as
permissible for bank holding companies, unless the OTS by regulation,
prohibits or limits such activities for savings and loan holding companies.
Those activities described in (vii) above also must be approved by the OTS
prior to being engaged in by a multiple holding company.
Qualified Thrift Lender Test. The HOLA requires that any savings and
loan holding company that controls a savings association that fails the
qualified thrift lender test, as explained under "-- Federal Regulation of
Banks -- Qualified Thrift Lender Test," must, within one year after the date
on which the association ceases to be a qualified thrift lender, register as
and be deemed a bank holding company subject to all applicable laws and
regulations.
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TAXATION
Federal Taxation
General. The Corporation and the Bank report their income on a calendar
year basis using the accrual method of accounting and are subject to federal
income taxation in the same manner as other corporations with some exceptions,
including particularly the Bank's reserve for bad debts discussed below. The
following discussion of tax matters is intended only as a summary and does not
purport to be a comprehensive description of the tax rules applicable to the
Bank or the Corporation.
Tax Bad Debt Reserves. For taxable years beginning prior to January 1,
1996, savings institutions such as the Bank which met certain definitional
tests primarily relating to their assets and the nature of their business
("qualifying thrifts") were permitted to establish a reserve for bad debts and
to make annual additions thereto, which additions may, within specified
formula limits, have been deducted in arriving at their taxable income. The
Bank's deduction with respect to "qualifying loans," which are generally loans
secured by certain interests in real property, may have been computed using an
amount based on the Bank's actual loss experience, or a percentage equal to 8%
of the Bank's taxable income, computed with certain modifications and reduced
by the amount of any permitted additions to the nonqualifying reserve. The
Bank's deduction with respect to nonqualifying loans was computed under the
experience method, which essentially allows a deduction based on the Bank's
actual loss experience over a period of several years. Each year the Bank
selected the most favorable way to calculate the deduction attributable to an
addition to the tax bad debt reserve.
Federal legislation repealed the reserve method of accounting for bad
debt reserves for tax years beginning after December 31, 1995. As a result,
savings associations are no longer able to calculate their deduction for bad
debts using the percentage-of-taxable-income method. Instead, savings
associations are required to compute their deduction based on specific
charge-offs during the taxable year or, if the savings association or its
controlled group had assets of less than $500 million, based on actual loss
experience over a period of years. This legislation also requires savings
associations to recapture into income over a six-year period their post-1987
additions to their bad debt tax reserves, thereby generating additional tax
liability. At December 31, 1997, the Bank's post-1987 reserves were a
negligible amount of approximately $1,000. The recapture may be suspended for
up to two years if, during those years, the institution satisfies a
residential loan requirement. The Bank met the residential loan requirement
for the taxable year ending December 31, 1997
Under prior law, if the Bank failed to satisfy the qualifying thrift
definitional tests in any taxable year, it would be unable to make additions
to its bad debt reserve. Instead, the Bank would be required to deduct bad
debts as they occur and would additionally be required to recapture its bad
debt reserve deductions ratably over a multi-year period. At December 31,
1997, the Bank's total bad debt reserve for tax purposes was approximately
$3.3 million. Among other things, the qualifying thrift definitional tests
required the Bank to hold at least 60% of its assets as "qualifying assets."
Qualifying assets generally include cash, obligations of the United States or
any agency or instrumentality thereof, certain obligations of a state or
political subdivision thereof, loans secured by interests in improved
residential real property or by savings accounts, student loans and property
used by the Bank in the conduct of its banking business. Under current law, a
savings association will not be required to recapture its pre-1988 bad debt
reserves if it ceases to meet the qualifying thrift definitional tests.
Distributions. To the extent that the Bank makes "nondividend
distributions" to the Corporation that are considered as made: (i) from the
reserve for losses on qualifying real property loans, to the extent the
reserve for such losses exceeds the amount that would have been allowed under
the experience method; or (ii) from the supplemental reserve for losses on
loans ("Excess Distributions"), then an amount based on the amount distributed
will be included in the Bank's taxable income. Nondividend distributions
include distributions in excess of the Bank's current and accumulated earnings
and profits, distributions in redemption of stock, and distributions in
partial or complete
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liquidation. However, dividends paid out of the Bank's current or accumulated
earnings and profits, as calculated for federal income tax purposes, will not
be considered to result in a distribution from the Bank's bad debt reserve.
Thus, any dividends to the Corporation that would reduce amounts appropriated
to the Bank's bad debt reserve and deducted for federal income tax purposes
would create a tax liability for the Bank. The amount of additional taxable
income attributable to an Excess Distribution is an amount that, when reduced
by the tax attributable to the income, is equal to the amount of the
distribution. Thus, if, the Bank makes a "nondividend distribution," then
approximately one and one-half times the amount so used would be includable in
gross income for federal income tax purposes, assuming a 35% corporate income
tax rate (exclusive of state and local taxes). See "REGULATION -- Federal
Regulation of Banks -- Limitations on Capital Distributions" for limits on the
payment of dividends by the Bank. The Bank does not intend to pay dividends
that would result in a recapture of any portion of its tax bad debt reserve.
Corporate Alternative Minimum Tax. The Code imposes a tax on alternative
minimum taxable income ("AMTI") at a rate of 20%. The excess of the tax bad
debt reserve deduction using the percentage of taxable income method over the
deduction that would have been allowable under the experience method is
treated as a preference item for purposes of computing the AMTI. In addition,
only 90% of AMTI can be offset by net operating loss carryovers. AMTI is
increased by an amount equal to 75% of the amount by which the Bank's adjusted
current earnings exceeds its AMTI (determined without regard to this
preference and prior to reduction for net operating losses). For taxable years
beginning after December 31, 1986, and before January 1, 1996, an
environmental tax of .12% of the excess of AMTI (with certain modification)
over $2.0 million is imposed on corporations, including the Bank, whether or
not an Alternative Minimum Tax ("AMT") is paid.
Dividends-Received Deduction and Other Matters. The Corporation may
exclude from its income 100% of dividends received from the Bank as a member
of the same affiliated group of corporations. The corporate dividends-received
deduction is generally 70% in the case of dividends received from unaffiliated
corporations with which the Corporation and the Bank will not file a
consolidated tax return, except that if the Corporation or the Bank owns more
than 20% of the stock of a corporation distributing a dividend, then 80% of
any dividends received may be deducted.
Audits. There have not been any IRS audits of the Bank's federal
income tax returns during the past five years.
State Taxation
The Company is subject to the Montana Corporation License Tax, which is
imposed at the rate of 6.75% of Montana taxable income. There have not been
any audits of the Company's state tax returns during the past five years.
Competition
The Bank operates in an extremely competitive market for the attraction
of savings deposits (its primary source of lendable funds) and in the
origination of loans. Historically, its most direct competition for savings
deposits has come from commercial banks, thrift institutions and credit unions
operating in its market area. Some of these commercial banks are subsidiaries
of large regional holding companies having vastly greater resources than the
Bank at their disposal. At December 31, 1997, there were 15 commercial banks
(including branch offices), two thrift institutions (in addition to the Bank)
and two credit unions in Park, Gallatin and Sweet Grass Counties. Particularly
in times of high market interest rates, the Bank has faced competition for
investors' funds from short-term money market securities and corporate and
U.S. Government securities. The Bank competes for loan originations with
mortgage bankers, thrift institutions, credit unions and commercial banks.
Such competition for deposits and loans may limit the Bank's future growth and
earnings prospects.
28
<PAGE>
<PAGE>
Personnel
As of December 31, 1997, the Bank had 34 full-time employees (12 of
which are employed by the Service Corporation) and six part-time employees,
none of whom were represented by a collective bargaining unit. The Bank
believes its relationship with its employees is good.
Item 2. Description of Property
- --------------------------------
The Bank has three offices. The main office is located at 123 South Main
Street, Livingston, Montana 59047. The main office was opened in 1923 and the
present square footage is approximately 15,000 feet. Beginning in September
1995, the Bank subleased part of this building to the Human Resource
Development Counsel, District IX. The Bank purchased the building effective
July 1, 1997, which was approved by the OTS, for $750,000. The sellers
accepted a 10-year 9% note as payment. The net book value of the property and
equipment, including land previously owned, is $965,000.
The Bank has branch offices located at 101 McLeod Street, Big Timber,
Montana 59011 and at 5 West Mendenhall Street, Bozeman, Montana 59715. The Big
Timber branch office consists of approximately 2,000 square feet, was opened
in 1980 in connection with the merger of the Big Timber Building and Loan
Association, and relocated to its current facility in 1984. At December 31,
1997, the net book value of the property and equipment was $180,000. The
Bozeman branch office consists of approximately 7,000 square feet, was opened
in 1958 in connection with the merger with Pioneer Building and Loan
Association and relocated to its current facility in 1971. At December 31,
1997, the net book value of the property and equipment was $829,000. The net
book value of the Bank's premises and equipment at December 31, 1997 was $2.1
million.
The Bank's subsidiary, Dime Service Corporation, leases offices in
Livingston and Big Timber, Montana. The Livingston office is 2,500 square
feet and the Big Timber office is 365 square feet. There are no written
lease agreements for these two offices.
For nearly two years the Bank has been investigating and addressing
potential Year 2000 problems. In the course of this process the Bank has
examined its computer systems, phone systems, mailing and fax capabilities,
office environmental systems, and servicer relationships related to daily
business processing, ATM processing, ACH processing, check processing, wire
transfers processing, travelers check processing, and all other relevant
out-based services. The general plan for addressing Year 2000 problems has
been examined and found satisfactory by the OTS, and the Bank is currently on
schedule with respect to implementation of that plan. As of January 1998 all
areas of potential impact directly addressable by the Bank appear to be Year
2000 compliant, except the teller system as discussed below. Areas to be
addressed by servicers are either fully compliant or on schedule for full
compliance by December 1998. The Bank's plan for full Year 2000 compliance is
scheduled to be complete by the end of 1998.
The primary negative impact of the potential Year 2000 problem lies in
the Bank's present Olivetti-America 8-window teller hardware/software system
now in use in all three offices. This system has known Year 2000 problems as
well as other inadequacies relevant to current needs on the working teller
line. The Bank is developing a plan for replacement of the existing teller
system with a PC-based teller system working internally at each office with a
Local Area Network (LAN) and tied together to the central office and our
primary servicer by a Wide Area Network (WAN). This conversion will not only
solve the potential Year 2000 problem in the teller system, but will also
position the Bank to take maximum advantage of current technology in banking
as it enters the 21st Century. The estimated cost of conversion and
re-training and implementation of the new PC-based system is approximately
$200,000 based on information currently available, and the estimated timetable
for conversion is that it will be in process or complete by the end of 1998.
Most of the estimated cost will be for the new teller system and will be
depreciated over five years.
29
<PAGE>
<PAGE>
Item 3. Legal Proceedings
- --------------------------
From time to time, the Bank is involved in routine legal proceedings
occurring in the ordinary course of business. At December 31, 1997, the Bank
was not a party to any legal proceedings that management of the Bank believed
would be materially adverse to the financial condition, results of operations,
cash flows or capital ratios of the Bank.
Item 4. Submission of Matters to a Vote of Security Holders
- ------------------------------------------------------------
No matters were submitted to a vote of security holders during the
fourth quarter of the fiscal year ended December 31, 1997.
Item 5. Market for the Registrant's Common Equity and Related Stockholder
Matters
- --------------------------------------------------------------------------
The information contained under the section captioned "Stock Market
Information" in the Company's Annual Report to Stockholders for the year ended
December 31, 1997 (the "Annual Report"), is incorporated herein by reference.
Item 6. Management's Discussion and Analysis of Plan of Operation
- ------------------------------------------------------------------
The required information is contained in section captioned "Management's
Discussion and Analysis of Financial Condition and Results of Operations" in
the Annual Report and is incorporated herein by reference.
Item 7. Financial Statements
- -----------------------------
The Company's consolidated financial statements required herein are
contained in the Annual Report and are incorporated herein by reference.
Item 8. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
- ------------------------------------------------------------------------
No changes in or disagreements with the Corporation's independent
accountants on accounting and financial disclosure has occurred during the
past 24 months.
PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons;
Compliance with Section 16(b) of the Exchange Act
- ----------------------------------------------------------------------
The information contained under the sections captioned "Voting
Securities and Security Ownership of Certain Beneficial Owners and
Management," "Proposal I- Electing Directors" and "Compliance with Section
16(a) of the Exchange Act" in the Company's definitive proxy statement for the
Company's Annual Meeting of Stockholders (the "Proxy Statement") is
incorporated herein by reference.
Item 10. Executive Compensation
- --------------------------------
The information contained under the section captioned "Director and
Executive Officer Compensation" in the Proxy Statement is incorporated herein
by reference.
30
<PAGE>
<PAGE>
Item 11. Security Ownership of Certain Beneficial Owners and Management
- ------------------------------------------------------------------------
(a) Security Ownership of Certain Beneficial Owners
Information required by this item is incorporated herein by
reference to the section captioned "Voting Securities and Security
Ownership of Certain Beneficial Owners and Management" in the
Proxy Statement.
(b) Security Ownership of Management
Information required by this item is incorporated herein by
reference to the section captioned "Proposal I - Electing
Directors" in the Proxy Statement.
(c) Management of the Company knows of no arrangements, including any
pledge by any person of securities of the Company, the operation
of which may at a subsequent date result in a change in control of
the Registrant.
Item 12. Certain Relationships and Related Transactions
- --------------------------------------------------------
The information required by this item is incorporated herein by
reference to the section captioned "Certain Relationships and Related
Transactions" and "Voting Securities and Principal Holders Thereof" in the
Proxy Statement.
Item 13. Exhibits, List and Reports on Form 8-K
- -------------------------------------------------
(a) Exhibits
3.1 Certificate of Incorporation of Empire Federal Bancorp, Inc. (1)
3.2 Bylaws of Empire Federal Bancorp, Inc. (1)
10.1 Employment Agreement with Beverly D. Harris (3)
10.2 Employment Agreement with Ernest A. Sandberg (3)
10.3 Employee Stock Ownership Plan (1)
10.4 Management Recognition and Development Plan (2)
10.5 Stock Option Plan (2)
11 Statement regarding computation of earning per share (see Note 1
to the Notes to Consolidated Financial Statements in the Company's
Annual Report)
13 Annual Report to Stockholders for the year ended December 31, 1997
21 Subsidiaries of the Registrant
23 Consent of Independent Auditors
27 Financial Data Schedule
- ---------------------------
(1) Incorporated by reference to the Corporation's Registration Statement on
Form SB-1, File No. 333-12653.
(2) Incorporated by reference to the Registrant's Annual Meeting Proxy
Statement dated March 16, 1998.
(3) Incorporated by reference to the Registrant's Annual Report on Form 10-KSB
for the fiscal year ended December 31, 1996.
(b) Report on Form 8-K
No Forms 8-K were filed during the quarter ended December 31,
1997.
31
<PAGE>
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
EMPIRE FEDERAL BANCORP, INC.
Date: March 25, 1998 By:s/s Beverly D. Harris
-------------------- ---------------------
Beverly D. Harris
President and Chief
Executive Officer
(Duly Authorized Representative)
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
By:s/s Beverly D. Harris March 25, 1998
--------------------------------------- ------------------------
Beverly D. Harris
President and Chief Executive Officer
(Principal Executive Officer)
By:s/s Ernest A. Sandberg March 25, 1998
--------------------------------------- ------------------------
Ernest A. Sandberg
Principal Financial and Accounting Officer
By: Walter J. Peterson Jr. March 25, 1998
--------------------------------------- ------------------------
Walter J. Peterson Jr.
Chairman of the Board
By:s/s John R. Boe March 25, 1998
--------------------------------------- ------------------------
John R. Boe
Director
By:s/s Edwin H. Doig March 25, 1998
--------------------------------------- ------------------------
Edwin H. Doig
Director
By:
---------------------------------------- -------------------------
Sanroe J. Kaisler Jr.
Director
By:
--------------------------------------- --------------------------
Walter R. Sales
Director
<PAGE>
<PAGE>
Exhibit 13
Annual Report to Stockholders for the year ended December 31, 1997
<PAGE>
<PAGE>
1997 ANNUAL REPORT
EMPIRE FEDERAL BANCORP, INC.
<PAGE>
<PAGE>
TABLE OF CONTENTS
Page
----
Letter to Stockholders........................... 1
Selected Consolidated Financial Information...... 2
Management's Discussion and Analysis of
Financial Condition and Results of Operations.... 5
Independent Auditors' Report..................... 18
Consolidated Financial Statements................ 19
Notes to Consolidated Financial Statements....... 23
Common Stock Information......................... 48
Directors and Officers........................... 49
Corporate Information............................ 50
-----------
BUSINESS OF THE COMPANY
Empire Federal Bancorp, Inc. (the Corporation) is a savings and loan
holding company headquartered in Livingston, Montana. Its principal
subsidiary is Empire Federal Savings Bank (the Bank) which operates three
branches in south-central Montana. The Corporation was incorporated on
September 20, 1996, for the purpose of becoming the holding company for the
Bank, upon its conversion from a federal mutual savings and loan association
to a federal stock association. As part of the conversion process the
association's name was changed from "Empire Federal Savings and Loan
Association" to "Empire Federal Savings Bank". The sale of stock by the
Corporation was completed and the conversion process finished on January 23,
1997. The financial and other information contained in this Annual Report are
presented as if the conversion had been completed on December 31, 1996. On
December 31, 1997, the Corporation had total assets of $109.8 million, total
deposits of $66.9 million, and stockholders' equity of $40.6 million. The
Corporation's principal activity is holding the stock of the Bank.
Accordingly, the information set forth in this report, including the
consolidated financial statements and related notes, relates primarily to the
Bank.
The Bank was organized under the statutes of the State of Montana as
Empire Federal Building and Loan Association, and was authorized to begin
business on May 25, 1923. The Association was granted membership in the
Federal Home Loan Bank System on March 3, 1933, and obtained insurance of
accounts from the Federal Savings and Loan Insurance Corporation on August 12,
1937. At a meeting held August 11, 1952, members of the Association voted a
name change to Empire Savings and Loan Association to keep in step with modern
terminology for the business. On January 5, 1959, the Association merged with
the Pioneer Building and Loan Association of Bozeman and continued the
services of the Pioneer to the Bozeman community. On June 25, 1970, the
state-chartered Association converted to a federal charter and changed its
name to Empire Federal Savings and Loan Association. September 30, 1980,
Empire Federal Savings merged with the Big Timber Building and Loan
Association and opened its doors to business in Big Timber.
In 1985 the Bank formed a service Corporation, Dime Service Corporation
purchased the book of insurance of United Agencies in Livingston, and began
operation as Dime Insurance Agency, an independent insurance agency, with
offices in Livingston and Big Timber, Montana.
The Bank is a community oriented financial institution which obtains
funds primarily through savings and checking deposits from the general public,
from repayment of loans, and from borrowings and retained earnings. These
funds are used primarily to make first lien loans to borrowers for the
purchase of new and existing homes, or for the construction of homes. The
Bank also makes home equity loans for a wide variety of purposes, finances
other types of real estate, and invests in obligations of the U. S. government
and its agencies.
<PAGE>
<PAGE>
[Letterhead of Empire Federal Bancorp, Inc.]
To Our Shareholders:
We are pleased to provide you the 1997 Annual Report of Empire Federal
Bancorp, Inc.
Our net earnings for the year ended December 31, 1997, were $1,586,000 or $.67
per share. This compares to net earnings of $490,000 for the year ended
December 31, 1996. The increase comes mainly from the investment of the
proceeds from the sale of our stock. In addition, 1996 earnings were reduced
by a one-time charge of $451,000 ($268,000 on an after-tax basis) imposed by
the Federal Deposit Insurance Corporation to recapitilize the Savings
Associations Insurance Fund. Our return on average assets for 1997 was 1.43%.
During the 1997 we paid three quarterly cash dividends to shareholders,
totalling $533,000 or $.225 per share.
Our residential loan portfolio increased by $4 million in 1997, as lower
interest rates allowed more consumers to enter the housing market. As we
strive to grow our loan portfolio, we would welcome referrals of your friends
and acquaintances in our south-central Montana service area who have need of
real-estate mortgage financing. At December 31, 1997, we had no non-accrual
loans or troubled debt restructuring. We also had no real estate acquired
through foreclosure.
Total assets decreased during the year from $115.9 million to $109.8 million.
This decrease resulted primarily from the return of $7.0 million in stock
oversubscription funds held on deposit on December 31, 1996, awaiting the
completion of our conversion in January 1997. Savings deposits also decreased
during the year by $839,000 to $66.9 million.
Our net worth at year-end was $40.6 million which is significantly in excess
of all regulatory requirements. Net book value per share was $15.66 on
December 31, 1997.
During the year we systematically addressed potential year 2000 problems and
are confident that we have remedies which will bring us into full compliance
by the end of 1998. Our major effort and expense will be in replacing our
existing teller system. Our present teller equipment is old, and our teller
software is not year 2000 compliant.
We want to thank our employees and directors for their extra efforts during
our conversion and our first year as a public company. Thank you, too, to our
stockholders and customers for their continued support.
We look forward to seeing you at our Annual Meeting to be held at 12:30 P.M.
Mountain Daylight Time on April 28, 1998, at our home office building in
Livingston, Montana.
/s/Beverly D. Harris /s/Ernest A. Sandberg
Beverly D. Harris Ernest A. Sandberg
President and Chief Executive Officer Treasurer and Corporate Secretary
1
<PAGE>
<PAGE>
SELECTED CONSOLIDATED FINANCIAL INFORMATION
The following tables set forth certain information concerning the
consolidated financial position and results of operation of the Corporation at
the dates and for the periods indicated. This information is qualified in its
entirety by reference to the detailed information and Consolidated Financial
Statements and Notes thereto appearing elsewhere in this Annual Report. The
Corporation changed its fiscal year end from June 30 to December 31 in
connection with the Conversion.
At December 31, At June 30,
--------------- -----------------------------
1997 1996 1996 1995 1994 1993
---- ---- ---- ---- ---- ----
(In Thousands)
SELECTED FINANCIAL
CONDITION DATA:
Total assets........... $109,801 $115,874 $86,810 $85,495 $86,143 $83,107
Cash and interest-
bearing deposits...... 2,904 30,990 2,499 2,196 2,098 1,892
Investment and
mortgage-backed
securities available-
for-sale.............. 36,496 13,768 13,877 1,192 1,081 --
Investment and
mortgage-backed
securities held-to-
maturity.............. 20,556 26,188 25,196 39,441 38,805 38,010
Loans receivable, net.. 45,714 41,704 41,882 39,432 41,387 40,347
Deposits............... 66,859 67,698 68,548 67,064 68,336 65,234
Advances from FHLB..... -- -- 1,500 1,751 2,189 4,106
Total equity,
substantially
restricted............ 40,598 39,610 15,876 15,500 14,475 12,792
Year Six Months
Ended Ended
December 31, Year Ended June 30,
--------------- -----------------------------
1997 1996 1996 1995 1994 1993
---- ---- ---- ---- ---- ----
(In Thousands)
SELECTED OPERATING DATA:
Interest income........ $7,709 $3,230 $6,304 $6,305 $6,272 $6,664
Interest expense....... 3,118 1,626 3,310 2,938 2,641 2,955
------ ------ ------ ------ ------ ------
Net interest income.. 4,591 1,604 2,994 3,367 3,631 3,709
Provision for loan
losses................ 20 -- 55 -- -- 82
------ ------ ------ ------ ------ ------
Net interest income
after provision for
loan losses.......... 4,571 1,604 2,939 3,367 3,631 3,627
------ ------ ------ ------ ------ ------
Non-interest income:
Insurance commission
income.............. 652 336 688 691 589 461
Customer service
charges............. 188 86 145 130 149 141
Other income........... 19 17 45 36 37 25
------ ------ ------ ------ ------ ------
Total non-interest
income............. 859 439 878 857 775 627
(table continued on following page)
2
PAGE
<PAGE>
Year Six Months
Ended Ended
December 31, Year Ended June 30,
--------------- -----------------------------
1997 1996 1996 1995 1994 1993
---- ---- ---- ---- ---- ----
(In Thousands)
Non-interest expense:
Compensation and
benefits............. 1,621 807 1,615 1,542 1,385 1,134
Occupancy and
equipment............ 363 171 340 264 268 262
Deposit insurance
premiums............. 78 56 185 226 177 139
SAIF special
assessment........... -- 451 -- -- -- --
Other general and
administrative....... 750 355 646 651 674 542
Provision for losses
on real estate owned. -- -- -- -- -- 61
------ ------ ------ ------ ------ ------
Total non-interest
expense........... 2,812 1,840 2,786 2,683 2,504 2,138
------ ------ ------ ------ ------ ------
Income before
income taxes....... 2,618 203 1,031 1,541 1,902 2,116
Income tax expense...... 1,032 61 399 589 713 857
------ ------ ------ ------ ------ ------
Income before
cumulative effect of
change in accounting
principle............ 1,586 142 632 952 1,189 1,259
Cumulative effect of
change in accounting
for income taxes..... -- -- -- -- 56 --
------ ------ ------ ------ ------ ------
Net income.......... $1,586 $ 142 $ 632 $ 952 $1,245 $1,259
====== ====== ====== ====== ====== ======
At or For
At or For the Six
The Year Months
Ended Ended
December December
31, 31, At or for the Year Ended June 30,
-------- -------- ---------------------------------
1997 1996 1996 1995 1994 1993
---- ---- ---- ---- ---- ----
SELECTED FINANCIAL
RATIOS(1):
Performance Ratios:
Return on average
assets (net income
divided by average
assets)(2)........... 1.43% 0.32% 0.72% 1.12% 1.47% 1.55%
Return on average
equity (net income
divided by average
equity)(2)........... 3.95 1.74 3.99 6.33 9.13 10.25
Dividend payout
ratio (dividends
declared per share
divided by net
income per share).... 33.58 -- -- -- -- --
Average interest-
earning assets
to average
interest-bearing
liabilities......... 155.55 121.86 119.33 118.48 117.34 118.34
Net interest
income after
provision for
loan losses to
total non-
interest
expense(2).......... 162.55 87.21 105.49 125.49 145.02 169.63
Interest rate
spread.............. 2.66 2.90 2.80 3.33 3.87 3.96
Net yield on
average
interest-earning
assets.............. 4.28 3.72 3.57 3.97 4.43 4.63
Efficiency ratio
(non-interest
expense divided
by the sum of net
interest income
and non-interest
income)(1).......... 51.59 90.05 71.95 63.52 56.83 49.32
(table continued on, and footnotes on, following page)
3
<PAGE>
<PAGE>
At or For
At or For the Six
The Year Months
Ended Ended
December December
31, 31, At or for the Year Ended June 30,
-------- -------- ---------------------------------
1997 1996 1996 1995 1994 1993
---- ---- ---- ---- ---- ----
Equity Ratios:
Average equity
to average assets
(average equity
divided by
average total
assets)............ 36.32 18.19 18.11 17.07 16.08 15.16
Equity to assets
at year end........ 36.97 34.18 18.29 18.13 16.80 15.39
Asset Quality Ratios:
Non-performing
assets to total
assets............. -- -- -- -- 0.02 0.62
Non-performing
loans to
total assets....... -- -- -- -- 0.02 0.06
Non-performing
loans to net
loans.............. -- -- -- -- 0.04 0.13
Allowance for
loan losses,
real estate
owned and other
repossessed
assets to
non-performing
assets............. * * * * 966.67 117.57
Allowance for
loan losses
to total loans
outstanding........ 0.41 0.46 0.46 0.36 0.34 0.35
At December 31, At June 30,
--------------- -----------------------------
1997 1996 1996 1995 1994 1993
---- ---- ---- ---- ---- ----
OTHER DATA:
Number of:
Real estate loans
outstanding........ 714 731 744 765 824 853
Deposit accounts.... 10,368 10,598 10,632 10,623 10,692 10,540
Full-service
offices............ 3 3 3 3 3 3
* Not meaningful.
(1) Annualized, where appropriate, for the six months ended December 31,
1996.
(2) Includes special SAIF assessment of $451,000 at or for the six months
ended December 31, 1996.
4
<PAGE>
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
General
Management's discussion and analysis of financial condition and results
of operations is intended to assist in understanding the financial condition
and results of operations of the Corporation. The information contained in
this section should be read in conjunction with the Consolidated Financial
Statements and accompanying Notes thereto contained herein.
Operating Strategy
The business of the Bank consists principally of attracting deposits
from the general public and using such deposits to originate mortgage loans
secured primarily by one- to four-family residences. The Bank also invests in
interest-bearing deposits, investment grade federal agency securities and
mortgage-backed securities. The Bank plans to continue to fund its assets
primarily with deposits, although FHLB advances have been used as a
supplemental source of funds.
The Bank's profitability depends primarily on its net interest income,
which is the difference between the income it receives on its loan and
investment portfolio and its cost of funds, which consists of interest paid on
deposits. Net interest income is also affected by the relative amounts of
interest-earning assets and interest-bearing liabilities. When
interest-earning assets equal or exceed interest-bearing liabilities, any
positive interest rate spread will generate net interest income. The Bank's
profitability is also affected by the level of other income and expenses.
Other income consists of service charges on NOW accounts and other fees,
proceeds from the sale of available-for-sale securities, and insurance
commissions. Other expenses include compensation and employee benefits,
occupancy expenses, deposit insurance premiums, equipment and data servicing
expenses, professional fees and other operating costs. The Bank's results of
operations are also significantly affected by general economic and competitive
conditions, particularly changes in market interest rates, government
legislation and policies concerning monetary and fiscal affairs, housing and
financial institutions and the attendant actions of the regulatory
authorities.
The Bank's strategy is to operate as a conservative, well-capitalized,
profitable institution dedicated to financing home ownership and other
consumer needs and to provide quality service to all customers. The Bank
believes that it has successfully implemented its strategy by (i) maintaining
strong capital levels, (ii) maintaining effective control over operating
expenses to attempt to achieve profitability under differing interest rate
scenarios, (iii) emphasizing local loan originations, and (iv) emphasizing
high-quality customer service with a competitive fee structure.
Year 2000 Issues
For nearly two years the Bank has been investigating and addressing
potential Year 2000 problems. In the course of this process the Bank has
examined its computer systems, phone systems, mailing and fax capabilities,
office environmental systems, and servicer relationships related to daily
business processing, ATM processing, ACH processing, check processing, wire
transfers processing, travelers check processing, and all other relevant
out-based services. The general plan for addressing Year 2000 problems has
been examined and found satisfactory by the OTS, and the Bank is currently on
schedule with respect to implementation of that plan. As of January 1998 all
areas of potential impact directly addressable by the Bank appear to be Year
2000 compliant, except the teller system as discussed below. Areas to be
addressed by servicers are either fully compliant or on schedule for full
compliance by December 1998. The Bank's plan for full Year 2000 compliance is
scheduled to be complete by the end of 1998.
The primary negative impact of the potential Year 2000 problem lies in
the Bank's present Olivetti-America 8-window teller hardware/software system
now in use in all three offices. This system has known Year 2000 problems as
well as other inadequacies relevant to current needs on the working teller
line. The Bank is developing a plan for replacement of the existing
5
<PAGE>
<PAGE>
teller system with a PC-based teller system working internally at each office
with a Local Area Network (LAN) and tied together to the central office and
our primary servicer by a Wide Area Network (WAN). This conversion will not
only solve the potential Year 2000 problem in the teller system, but will also
position the Bank to take maximum advantage of current technology in banking
as it enters the 21st Century. The estimated cost of conversion and
re-training and implementation of the new PC-based system is approximately
$200,000 based on information currently available, and the estimated timetable
for conversion is that it will be in process or complete by the end of 1998.
Most of the estimated cost will be for the new teller system and will be
depreciated over five years.
Financial Condition
Consolidated assets decreased by approximately $6.1 million, or 5.2%,
from $115.9 million at December 31, 1996, to $109.8 million at December 31,
1997. This decrease was primarily attributable to the refund of $7.0 million
of excess subscription funds from the sale of the Company's common stock in
January 1997.
The comparison of the consolidated balance sheet was not materially
affected by market conditions between December 31, 1996, and December 31,
1997. The investment of the net proceeds from the sale of common stock during
the year ended December 31, 1997, resulted in significant changes in
interest-bearing deposits and investment and mortgage-backed securities
available-for-sale. Interest-bearing deposits at the FHLB decreased from
$29.8 million at December 31, 1996, to $1.8 million at December 31, 1997,
primarily as the result of the net reinvestment of $23.1 million of the stock
sales proceeds in mortgage-backed securities and U.S. Government agency bonds.
The FHLB deposit also decreased because of the refund of excess stock
subscription funds. Investment and mortgage-backed securities
held-to-maturity decreased $5.6 million from $26.2 million at December 31,
1996, to $20.6 million at December 31, 1997, as the result of payments and
maturities. Net loans increased by $4.0 million, or 9.6%, and consisted
primarily of permanent and construction loans of 1-4 dwelling units and
multi-family units.
Premises and equipment increased from $1.3 million at December 31, 1996,
to $2.1 million at December 31, 1997, primarily as the result of the purchase
of the main office building in Livingston for $750,000. The main office
building had been leased from the Bank's President, the wife of the Bank's
Executive Vice President and their brother. Other borrowings also increased
$698,000 at December 31, 1997, as compared to December 31, 1996, as a result
of this transaction.
Deposits decreased by $839,000 or 1.24% to $66.9 million at December 31,
1997, from $67.7 million at December 31, 1996. Stock oversubscriptions at
December 31, 1996, amounted to $7.0 million and were refunded to subscribers
as part of the $8.5 million payment made in January 1997.
Stockholders' equity increased from $39.6 million at December 31, 1996,
to $40.6 million at December 31, 1997. The increase is the result of net
income of $1.6 million, the release of ESOP shares in the amount of $204,000
and an increase of $534,000 related to the increase in market value of
securities available-for-sale. In addition, during the third quarter of 1997
the Management Recognition and Development Plan ("MRP") purchased, through a
trust funded by the Company, 50,000 shares for a total cost of $802,000.
Allocation of shares under the MRP will be made in 1998. Shareholders' equity
also decreased by the payments of $533,000 in dividends.
Asset Quality
At December 31, 1997 and 1996, the Bank did not have any nonaccrual
loans or troubled debt restructuring. At December 31, 1997, the Bank had
eleven loans delinquent over 30 days amounting to $611,000 of which two loans
amounting to $31,000 were delinquent over 90 days. The Bank has no real
estate acquired through foreclosure.
6
<PAGE>
<PAGE>
Results of Operations
The operating results of the Bank depend primarily on its net interest
income. The Bank's net interest income is determined by its interest rate
spread, which is the difference between the yields earned on its
interest-earning assets and the rates paid on its interest-bearing liabilities
and the degree of mismatch in the maturity and repricing characteristics of
its interest-earning assets and interest-bearing liabilities. The Bank's net
earnings are also affected by the establishment of provisions for loan losses
and the level of its other non-interest income, including insurance commission
income and deposit service charges, as well as its other expenses and income
tax provisions.
Comparison of Results of Operations for the Year Ended December 31, 1997 and
1996
Net Income. Net income increased by $1.1 million, or 223.81%, to $1.6
million for the year ended December 31, 1997, from $490,000 for the same
period in 1996 This increase can be attributed to several factors: In
September 1996 the FDIC imposed a special assessment intended to recapitalize
the SAIF, which lowered 1996 income. The Bank's assessment was $451,000 on a
pre-tax basis ($268,000 on an after-tax basis). In addition, interest income
increased by $1.3 million for the year ended December 31, 1997 as compared to
the same period in 1996 from the investment of approximately $23.1 million in
net proceeds from the sale of stock, and an increase in net loans of $4
million. Net income for the year ended December 31, 1997, also increased
because of the reduced cost of interest-bearing deposits and a reduction in
deposit insurance premiums.
Net Interest Income. Net interest income increased $1.4 million, or
45.34%, to $4.6 million for the year ended December 31, 1997, from $3.2
million for the same period in 1996. The increase in net interest income
primarily reflected an increase in the volume of average interest earning
assets attributed to the $23.1 million of net proceeds from the sale of stock.
Interest Income. Total interest income increased by $1.3 million, or
20.11%, to $7.7 million for the year ended December 31, 1997, from $6.4
million for the same period in 1996. The increase was primarily attributable
to the net investment of $23.1 million in investments and mortgage-backed
securities available-for-sale with stated rates ranging from 5.5% to 7.52% and
maturities ranging from 1998 to 2024. These investments represent a majority
of the proceeds from the sale of stock, most of which were received in late
December 1996.
Interest income on loans increased $156,000, or 4.38%, from $3.5 million
for the year ended December 31, 1997, to $3.7 million for the same period in
1997. The increase is attributable to the increase in the average balance of
loans outstanding from $41.4 million for the period ended December 31, 1996,
to $44.1 million for the same period in 1997. This increase in volume was
offset by a decrease in average yield from 8.62% for the year ended December
31, 1996, to 8.44% for the same period in 1997.
Interest Expense. Total interest expense was $3.1 million for the year
ended December 31, 1997, as compared to $3.3 million for the same period in
1996. The $141,000, or 4.33%, decrease was the result of a $185,000 decrease
in interest on deposits offset by an increase of $44,000 in other interest
expense.
The decline in deposit interest is caused by a reduction of $1.8 million
in average outstanding deposits for the year ended December 31, 1996, from
$68.9 million to $67.1 million for the same period in 1997. In addition to
the decline in average deposits, the average cost of deposits for the year
ended December 31, 1996, was 4.65% and for the same period in 1997, the
average cost declined to 4.49%.
7
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<PAGE>
Other interest expense of $53,000 for the year ended December 31, 1996,
related primarily to short-term borrowings from the FHLB. There were only
nominal borrowings from the FHLB during the year ended December 31, 1997;
however, during this period, $63,000 in interest was paid to stock subscribers
on stock issuance date of January 23, 1997. Also included in other interest
expense for 1997 is $32,000 related to the debt associated with the purchase
of the main office building in July 1997.
Provision for Loan Losses. The provision for loan losses was $20,000
for the year ended December 31, 1997, as compared to a $55,000 provision in
the same period in 1996. During the year ended December 31, 1997, the Bank
charged off $20,000 of mortgage loans. Management's analysis of the loan
portfolio determined that the reserve would be restored to $200,000. At the
end of both years, the level of reserves was deemed to be adequate by
management. Loan loss reserves as a percentage of loans was .41% at December
31, 1997, and .46% at December 31, 1996. Management's periodic evaluation of
the adequacy of the allowance is based on factors such as the Bank's past loan
loss experience, known and inherent risks in the portfolio, adverse situations
that may affect the borrower's ability to repay, estimated value of any
underlying collateral, current and prospective economic conditions, peer group
comparisons, and independent appraisals. In addition, various regulatory
agencies, as an integral part of their examination process, periodically
review the Bank's allowance for loan losses. Such agencies may require the
Bank to provide additions to the allowance based upon judgments different from
management. Assessment of the adequacy of the allowance for credit losses
involves subjective judgments regarding future events, and thus, there can be
no assurance that additional provisions for credit losses will not be required
in future periods. Although management uses the best information available,
future adjustments to the allowance may be necessary due to economic,
operating, regulatory and other conditions that may be beyond the Bank's
control. Any increase or decrease in the provision for loan losses has a
corresponding negative or positive effect on net income.
Non-Interest Income. Non-interest income increased $3,000 for the year
ended December 31, 1997, as compared to the same period in 1996 primarily as
the result of a $25,000 increase in customer service charges. This increase
was partially offset by a decrease in commissions and profit sharing
contingencies from insurance companies of $14,000.
Insurance commissions received from Dime Insurance are the largest
component of non-interest income. Insurance commissions of $652,000 and
$666,000 were received for the years ended December 31, 1997, and 1996,
respectively. The decrease in commission income resulted primarily from
increased competition and reduced premiums and commissions from key companies
represented by Dime.
Non-Interest Expense. Total non-interest expense decreased $343,000 for
the year ended December 31, 1997, compared to the same period in 1996. This
net change was the result of several factors:
. On September 30, 1996, the FDIC imposed a one-time special
assessment to all thrift institutions intended to
recapitalize the SAIF. The Bank's assessment was $451,000.
. Compensation and benefits, while remaining relatively stable
for the years ending December 31, 1997, and 1996, did
include a $204,000 charge for 1997 related to the newly
adopted ESOP. For the same period in 1996, a bonus accrual
of $139,000 and a pension accrual of $71,000 was recorded.
For the year ending December 31, 1997, no provision for the
pension was made because of the fully funded status of the
plan. The bonus paid in 1997 was $68,000.
. Deposit insurance premiums decreased by $71,000, or 47.63%,
from $150,000 for the year ended December 31, 1996, to
$78,000 for the same period in 1997 because of the
recapitalization of SAIF in 1996.
. Other non-interest expense increased $94,000, or 16.98%,
from the year ended December 31, 1996, to the same period in
1997. The increase includes a $28,000 increase in
accounting expense caused by the additional audit
8
<PAGE>
<PAGE>
required for the change in fiscal year, increased
advertising and stationery costs of $23,000 and investor
relations and legal costs of $78,000 associated with being a
public company. Dime Insurance expenses declined
approximately $20,000 in 1997, partially offsetting the
increase.
Income Taxes. Income taxes increased $716,000 from the year period
ended December 31, 1996, as compared to the same period in 1997 as the result
of the increase in income before income taxes. The effective combined federal
and state tax rate was 39.43% and 39.20% for the year ended December 31, 1997,
and 1996, respectively.
Comparison of Results of Operations for the Six Months Ended December 31, 1996
and 1995
Net Income. Net income declined by $147,000, or 51.0%, to $142,000 for
the six months ended December 31, 1996 from $289,000 for the same period in
1995. The primary cause for this significant decline was a one-time special
assessment to recapitalize the SAIF. This special assessment was $451,000,
with an after-tax effect of $268,000. Offsetting this decrease in net income
in 1996 were increases in interest income from mortgage loans and interest
bearing deposits.
Net Interest Income. Net interest income increased $150,000, or 10.33%,
to $1.6 million for the six months ended December 31, 1996 from $1.5 million
for the same period in 1995. The increase in net interest income primarily
reflected a 10 basis point increase in the interest rate spread to 2.90% for
the six month period ended December 31, 1996 from 2.80% for the comparative
period in 1995 and a $3.0 million increase in the average balance of interest
earning assets.
Interest Income. Total interest income increased by $108,000, or 3.46%,
to $3.2 million for the six months ended December 31, 1996 from $3.1 million
for the same period in 1995. The increase was primarily attributable to the
increase in the average balance of loans receivable from $39.8 million for the
six months ended December 31, 1995 to $41.7 million for the same period in
1996 coupled with an increase in the average yield from 8.40% to 8.62% for the
same periods. The average balance of mortgage backed securities declined for
the six month periods from $38.2 million to $35.5 million due to maturities.
This decline in the average balance of mortgage backed securities was the
primary cause of the decline in the related interest income from $1.3 million
to $1.2 for the six month periods.
Interest income from interest-bearing deposits at the FHLB increased
$51,000 for the six month period ended December 31, 1996 to $101,000 from
$50,000 for the same period in 1995, primarily because of the receipt of $27.7
million related to the conversion and sale of stock.
Interest Expense. Total interest expense was $1.6 million for both six
month periods ending December 31, 1996 and 1995. Average outstanding deposits
increased by $1.4 million during the six month period ended December 31, 1996
compared to the same period in 1995. During the same comparable period, the
average cost of deposits dropped from 4.69% to 4.59%. Interest expense on
FHLB deposits was $49,000 for the six months ended December 31, 1995 as
compared to $7,000 for the comparative period in 1996. This decrease was the
result of all FHLB advances maturing in July and September, 1996.
Provision for Loan Losses. No provision for loan losses was recorded
for either the six months ended December 31, 1996 or 1995. At the end of both
periods, the level of loan loss reserves was deemed to be adequate by
management. Loan loss reserves as a percentage of loans was 0.46% at December
31, 1996 and 1995.
Non-Interest Income. Non-interest income decreased $9,000 for the six
months ended December 31, 1996 as compared to the same period in 1995
primarily as the result of a $16,000 decrease in commission income and a
$10,000 decrease in other income. These decreases were partially offset by an
increase in customer service charges of $17,000.
9
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<PAGE>
Insurance commissions received from Dime Insurance, a wholly owned
subsidiary of the Bank, are the largest component of non-interest income.
Insurance commissions of $336,000 and $352,000 were received for the six
months ended December 31, 1996 and 1995, respectively.
Non-Interest Expense. Total non-interest expense increased $387,000, or
26.6%, for the six months ended December 31, 1996 compared to the six months
ended December 31, 1995. This increase was primarily the result of the
$451,000 special FDIC insurance assessment. This increase was partially
offset by a decrease of $36,000 in other FDIC insurance premiums for the
comparable periods. Compensation and benefits decreased by $23,000 for the
six months ended December 31, 1996 as compared with the same period in 1995
primarily as the result of the fully funded status of the pension plan for
1996. Other non-interest expense items remained relatively stable.
Included in non-interest expense are direct costs (compensation and
benefits, occupancy and equipment and other expense) attributable to the
operations of Dime Insurance. Such direct costs totaled $305,000 and $339,000
for the six months ended December 31, 1996 and 1995, respectively.
Income Taxes. Income taxes declined $98,000 from the six month period
ended December 31, 1995 as compared to the same period 1996 as the result of
the decline in income before income taxes. The effective combined federal and
state tax rate was 30.25% and 35.61% for the six months ended December 31,
1996 and 1995, respectively.
Comparison of Results of Operations for the Years Ended June 30, 1996 and 1995
Net Income. Net income decreased $320,000, or 33.6%, to $632,000 for
fiscal 1996 from $952,000 for fiscal 1995. The decline in income was
primarily attributable to an increase in the Bank's cost of funds from 4.10%
during the year ended June 30, 1995 to 4.71% for the year ended June 30, 1996.
The average balance of interest-bearing liabilities decreased slightly during
this period from $71.6 million during fiscal 1995 to $70.3 million during
fiscal 1996.
Net Interest Income. Net interest income decreased $373,000, or 11.7%,
to $2.9 million for 1996 from $3.4 million for 1995. The decrease in net
interest income primarily reflected a 53 basis point decrease in the interest
rate spread to 2.80% for fiscal 1996 from 3.33% for fiscal 1995.
Interest Income. Total interest income was $6.3 million for both fiscal
1996 and 1995. Interest income from loans receivable increased $33,000, or
9.6%. The increase was primarily attributable to the increase in the average
balance of loans receivable from $40.1 million during fiscal 1995 to $40.8
million during fiscal 1996 as loan originations increased to $12.4 million
during fiscal 1996 compared to loan originations of $4.5 million during fiscal
1995. The increase in the average balance of loans receivable in fiscal 1996
resulted primarily from an increase in construction loans and consumer loans,
particularly home equity loans, as the economy of the Bank's primary market
area improved from fiscal 1995. The increase in interest income was partially
offset by the decline in the average yield on loans receivable from 8.51%
during fiscal 1995 to 8.44% during fiscal 1996.
Interest income from mortgage-backed securities was $2.5 million during
both periods. The average balance of mortgage-backed securities declined from
$38.1 million during fiscal 1995 to $37.1 million during fiscal 1996 as
principal repayments exceeded purchases. This decline was offset, however, by
an increase in the yield on mortgage-backed securities from 6.65% during
fiscal 1995 to 6.78% during fiscal 1996.
Interest Expense. Interest expense on deposits increased $421,000 to
$3.2 million for 1996 from $2.8 million for 1995. The increase is primarily
attributable to an increase in the average cost of deposits which increased
from 4.05% during fiscal 1995 to 4.68% during fiscal 1996 which more than
offset the decline in the average balance of deposits. The increase in the
cost of deposits was primarily attributable to an increase in rates paid on
certificates of deposit to meet local competition.
10
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<PAGE>
The Bank utilized FHLB advances to purchase mortgage-backed securities
and to provide an additional source of funds for its lending activities.
During this period the average balance of short-term borrowings decreased $1.1
million from $2.7 million during fiscal 1995 to $1.6 million during 1996 as
traditional deposits were utilized to fund lending activities and
mortgage-backed securities purchases. As a result, the cost of FHLB advances
decreased 34.1% from $145,000 during fiscal 1995 to $95,000 during fiscal
1996.
Provision for Loan Losses. The provision for loan losses for 1996 was
$55,000 compared to no provision for 1995. The increase in the provision for
loan losses resulted primarily from the increased size of the loan portfolio;
particularly with respect to construction and consumer loans which involve
greater risk than residential mortgage loans, and management's desire to
increase its allowance for loan losses as a percentage of loans receivable to
levels comparable with its peers in the Pacific Northwest. At June 30, 1996,
the allowance represented 0.46% of loans receivable as compared to 0.36% of
loans receivable at June 30, 1995.
Non-Interest Income. Non-interest income increased $21,000, or 2.6%, in
fiscal 1996 as compared to fiscal 1995 primarily as the result of a $15,000,
or 12.4%, increase in customer service charges.
Insurance commissions that the Bank receives from Dime Insurance, are
the largest component of its non-interest income. The Bank received income
from insurance commissions of $688,000 and $691,000 during fiscal 1996 and
1995, respectively.
Non-Interest Expense. Total non-interest expense increased $103,000, or
3.8%, for 1996 compared to 1995. This increase was primarily the result of a
$72,000, or 4.7%, increase in compensation and benefits and a $76,000, or
28.7%, increase in occupancy and equipment expense caused primarily by
additional depreciation expense on new equipment and furniture related to the
remodeling of the Bozeman branch, repairs to an elevator and other maintenance
costs. Data processing expenses increased $20,000, or 23.1%. Other
non-interest expense items remained relatively stable.
Included in non-interest expense are direct costs (compensation and
benefits, occupancy and equipment, and other expenses) attributable to the
operations of Dime Insurance. Such direct costs totalled $638,000 and
$617,000 for the fiscal years ended June 30, 1996 and 1995, respectively.
Income Taxes. Income taxes declined $189,000 from 1995 to 1996 as a
result of the decline in income before income taxes. The effective combined
Federal and state tax rate was 38.74% during 1996 and 38.21% during 1995.
11
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<PAGE>
<TABLE>
Average Balances, Interest and Average Yields/Cost
The following tables set forth certain information for the periods indicated regarding average
balances of assets and liabilities as well as the total dollar amounts of interest income from average
interest-earning assets and interest expense on average interest-bearing liabilities and average yields
and costs. Such yields and costs for the periods indicated are derived by dividing income or expense by
the average monthly balance of assets or liabilities, respectively, for the periods presented. Average
balances are derived from month-end balances. Management does not believe that the use of month-end
balances instead of daily balances has caused any material difference in the information presented.
Year Ended Six Months Ended
At December 31, December 31, December 31,
--------------------------- -----------------------------
1997 1997 1996
--------------- --------------------------- -----------------------------
Yield/ Average Yield/ Average Yield/
Cost Balance Interest Cost Balance Interest Cost(4)
---- ------- -------- ------ ------- -------- -------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable.......... 8.08% $ 44,120 $3,722 8.44% $41,677 $1,796 8.62%
Mortgage-backed
securities................ 6.89 44,780 2,942 6.57 35,526 1,170 6.59
Investment securities..... 5.63 10,444 592 5.67 4,462 104 4.67
Other interest-earning
assets(1)................ 6.43 7,806 453 5.80 4,523 160 7.07
----- -------- ------ ----- ------- ------ -----
Total interest-earning
assets................. 7.30 107,150 7,709 7.19 86,188 3,230 7.50
Non-interest-earning
assets.................... 3,394 3,466
-------- -------
Total assets.............. $110,544 $89,654
======== =======
Interest-bearing liabilities:
NOW accounts.............. 2.55 10,356 262 2.53 $ 9,824 136 2.78
Money market accounts..... 3.50 4,681 169 3.61 5,120 93 3.63
Regular savings........... 3.25 13,790 452 3.28 15,130 240 3.18
Certificates of deposit... 5.67 38,477 2,138 5.56 40,425 1,150 5.76
----- -------- ------ ----- ------- ------ -----
Total deposits.......... 4.55 67,304 3,021 4.49 70,499 1,619 4.59
Other liabilities......... 9.00 1,579 97 6.14 227 7 5.83
----- -------- ------ ----- ------- ------ -----
Total interest-
bearing liabilities... 4.59 68,883 3,118 4.53 70,726 1,626 4.60
----- ----- ------ -----
Non-interest-bearing
liabilities............... 1,376 2,618
-------- -------
Total liabilities.......... 70,259 73,344
Retained earnings.......... 40,285 16,310
-------- -------
Total liabilities and
retained earnings......... $110,544 $89,654
======== =======
Net interest income........ $ 4,591 $1,604
========= ======
Interest rate spread(2) ... 2.71% 2.66% 2.90%
==== ==== ====
Net yield on interest-
earning assets(3)........ 4.28% 3.72%
==== ====
Ratio of average
interest-earning assets
to average interest-
bearing liabilities...... 155.55% 121.86%
====== ======
(1) Includes interest-bearing deposits in other financial institutions and dividends on FHLB stock.
(2) Interest-rate spread represents the difference between the average yield on interest-earning assets
and the average cost of interest-bearing liabilities.
(3) Net yield on interest-earning assets represents net interest income as a percentage of average
interest-earning assets.
(4) Annualized.
12
</TABLE>
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<TABLE>
Rate/Volume Analysis
The following table sets forth the effects of changing rates and volumes on net interest income of
the Savings Bank. Information is provided with respect to (i) effects on net interest income
attributable to changes in volume (changes in volume multiplied by prior rate); (ii) effects on net
interest income attributable to changes in rate (changes in rate multiplied by prior volume); (iii)
changes in rate/volume (change in rate multiplied by change in volume); and (iv) the net change (the sum
of the prior columns).
Six Months Ended
Year Ended December 31, December 31, 1996 Compared
1997, Compared to Year to Six Months Ended
Ended December 31, 1996 December 31, 1995
Increase (Decrease) Increase (Decrease)
Due to Due to
------------------------------ ------------------------------
Rate/ Rate/
Volume Rate Volume Net Volume Rate Volume Net
------ ---- ------ --- ------ ---- ------ ---
(In Thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable............ $ 206 $ (46) $ (4) $ 156 $ 79 $ 44 $ 2 $125
Mortgage-backed securities.. 614 (82) (20) 512 (89) -- 2 (87)
Investment securities....... 299 40 64 403 40 (22) (9) 9
Other interest-earning
assets..................... 316 (36) (60) 220 141 (33) (47) 61
------ ------ ------ ------ ----- ---- ---- ----
Total interest-earning
assets................ 1,435 (124) (20) 1,291 171 (11) (52) 108
------ ------ ------ ------ ----- ---- ---- ----
Interest expense:
Savings accounts............ (101) (82) (2) (185) 34 (34) -- --
Other liabilities........... 42 1 1 44 (42) -- -- (42)
------ ------ ------ ------ ----- ---- ---- ----
Total interest-bearing
liabilities............ (59) (81) (1) (141) (8) (34) -- (42)
------ ------ ------ ------ ----- ---- ---- ----
Net change in net interest
income...................... $1,494 $ (43) $ (19) $1,432 $ 179 $ 23 $(52) $150
====== ====== ====== ====== ===== ==== ==== ====
13
</TABLE>
13
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<PAGE>
Asset and Liability Management and Interest Rate Risk
General. The ability to maximize net interest income depends largely
upon achieving a positive interest rate spread that can be sustained during
fluctuations in prevailing interest rates. Interest rate sensitivity is a
measure of the difference between amounts of interest-earning assets and
interest-bearing liabilities which either reprice or mature within a given
period of time. The difference, or the interest rate repricing "gap,"
provides an indication of the extent to which an institution's interest rate
spread will be affected by changes in interest rates. A gap is considered
positive when the amount of interest-rate sensitive assets exceeds the amount
of interest-rate sensitive liabilities, and is considered negative when the
amount of interest-rate sensitive liabilities exceeds the amount of
interest-rate sensitive assets. Generally, during a period of rising interest
rates, a negative gap within shorter maturities would result in a decrease in
net interest income. Conversely, during a period of falling interest rates, a
negative gap within shorter maturities would result in an increase in net
interest income.
The Bank has perceived its market niche to be that of a traditional
thrift lender that originates fixed rateresidential loans for its portfolio
and purchases fixed rate U.S. Government and agency investment securities and
mortgage-backed securities to supplement its lending activities. The Bank
uses its capital position to absorb the adverse consequences of the increased
interest rate risk associated with this strategy. As an integral part of this
strategy, the Bank has historically concentrated its lending activity on the
origination of long-term, fixed-rate, residential one- to four-family mortgage
loans and commercial real estate and multi-family loans. As of December 31,
1997, 92.71% of the Bank's total loans, were fixed rate loans and 70.56% of
its investments and mortgage-backed securities had fixed interest rates.
The mismatch between maturities and interest rate sensitivities of
balance sheet items results in interest rate risk. The Bank has a high level
of interest rate risk as a result of its policies to make fixed-rate,
residential one- to four-family real estate loans and to purchase fixed rate
investment and mortgage-backed securities, which are longer term in nature
than the short-term characteristics of its liabilities for customer deposit
accounts. Because of its capital position, the Bank has accepted the above
average interest rate risk associated with fixed-rate loans and fixed-rate
investment and mortgage-backed securities in an effort to maximize yield. See
"-- Liquidity and Capital Resources."
Interest Rate Sensitivity of Net Portfolio Value
The following table is provided to the Bank by the OTS and illustrates
the change in NPV at December 31, 1997 based on OTS assumptions. No effect
has been given to any steps that management of the Bank may take to counter
the effect of the interest rate movements presented in the table.
Net Portfolio as %
Basis of Portfolio Value
Point ("bp") Net Portfolio Value of Assets
Change ------------------------------- --------------------
in Rates $ Amount $ Change % Change NPV Ratio Change
------------ -------- -------- -------- --------- -------
(Dollars in Thousands)
400 bp $21,628 $ (9,040) (29)% 21.34% (611)bp
300 bp 24,065 (6,603) (22)% 23.11 (433)bp
200 bp 26,657 (4,011) (13)% 24.91 (254)bp
100 bp 28,859 (1,809) ( 6)% 26.34 (110)bp
0 30,668 -- -- 27.44 --
(100)bp 31,713 1,045 3% 28.01 57 bp
(200)bp 32,136 1,468 5% 28.16 72 bp
(300)bp 32,732 2,064 7% 28.42 98 bp
(400)bp 33,686 3,018 10% 28.88 144 bp
14
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<PAGE>
Under the OTS interest rate risk capital rule (implementation of which
has been postponed), those institutions with greater than "normal" levels of
interest rate risk will be subject to an interest rate risk component in
calculating their risk-based capital ratio. An institution with a "normal"
level of interest rate risk is defined as one whose "Measured Interest Rate
Risk" is less than 2.0%.
The following table is provided by the OTS and is based on the
calculations in the previous table.
December 31, December 31,
1997 1996
------------ ------------
RISK MEASURES: 200 BP RATE SHOCK
Pre-Shock NPV Ratio: NPV as % of PV
of Assets.................................. 27.44% 20.21%
Exposure Measure: Post-Shock NPV Ratio..... 24.91 19.09
Sensitivity Measure: Change in NPV Ratio... (254)bp (112)bp
As with any method of measuring interest rate risk, certain shortcomings
are inherent in the method of analysis presented in the foregoing table. For
example, although certain assets and liabilities may have similar maturities
or periods to repricing, they may react in different degrees to changes in
market interest rates. Also, the interest rates on certain types of assets
and liabilities may fluctuate in advance of changes in market interest rates,
while interest rates on other types may lag behind changes in market rates.
Additionally, certain assets, such as substantially all of the Bank's ARM
loans, have features that restrict changes in interest rates on a short-term
basis (1.5% to 2.0% per adjustment period) and over the life of the asset
(generally 5% over the life). Furthermore, in the event of a change in
interest rates, expected rates of prepayments on loans and early withdrawals
from certificates could likely deviate significantly from those assumed in
calculating the table. Therefore, the data presented in the table should not
be relied upon as indicative of actual results.
Liquidity and Capital Resources
The Bank's primary sources of funds are proceeds from principal and
interest payments on loans, maturing securities and certificates of deposit.
The proceeds from the sale of available-for-sale securities and FHLB advances
are additional sources of liquidity. While maturities and scheduled
amortization of loans are a predictable source of funds, deposit flows and
mortgage prepayments are greatly influenced by general interest rates,
economic conditions and competition.
The primary investing activity of the Bank is the origination of one- to
four-family mortgage loans. During the year ended December 31, 1997, the Bank
originated mortgage loans in the amounts of $12.3 million. During this
period, the Bank purchased mortgage-backed securities of $20.0 million. The
Bank also invests in investment grade federal agency securities.
The Bank must maintain an adequate level of liquidity to ensure the
availability of sufficient funds to support loan growth and deposit
withdrawals, to satisfy financial commitments and to take advantage of
investment opportunities. During the year ended December 31, 1997, and the
six months ended December 31, 1996, and the fiscal year ended June 30, 1996,
the Bank used its sources of funds primarily to fund loan commitments and to
pay deposit withdrawals.
The Bank uses cash flows generated from operating, investing and
financing activities to meet its liquidity requirements. See Consolidated
Statements of Cash Flows included as part of the Consolidated Financial
Statements.
Like most thrift institutions, deposits, particularly certificates of
deposit, have been the primary source of external funds for the Bank. By
offering interest rates that are competitive with or at a slight premium to
the average
15
<PAGE>
<PAGE>
rate paid by local competitors, the Bank has had limited success in
lengthening the maturity of its certificate of deposit portfolio. At December
31, 1997, certificates of deposit amounted to $38.4 million, or 57.5% of total
deposits, including $11.3 million which were scheduled to mature in more than
one year after December 31, 1997. At December 31, 1997, $27.1 million of
certificates of deposit were scheduled to mature within one year.
Historically, the Bank has been able to retain a significant amount of
maturing deposits. Management of the Bank believes it has adequate resources
to fund all loan commitments by deposits and, if necessary, FHLB-Seattle
advances and that it can adjust the offering rates of savings certificates to
retain deposits in changing interest rate environments.
The OTS requires a savings institution to maintain an average daily
balance of liquid assets (cash and eligible investments) equal to at least
4.0% of the average daily balance of its net withdrawable deposits and
short-term borrowings.. OTS recently eliminated short term ratios. The
Bank's liquidity ratio at December 31, 1997, was 23.56%. The Bank
consistently maintains liquidity levels in excess of regulatory requirements,
and believes this is an appropriate strategy for proper asset and liability
management.
The Bank is required to maintain specific amounts of capital pursuant to
OTS requirements. As of December 31, 1997, the Bank was in compliance with
all regulatory capital requirements which were effective as of such date with
tangible, core and risk-based capital ratios of 24.5%, 24.5% and 65.3%,
respectively. For a detailed discussion of regulatory capital requirements
and a numerical presentation of the Bank's capital levels relative to
regulatory requirements, see Note 12 of Notes to the Consolidated Financial
Statements.
Impact of New Accounting Pronouncements and Regulatory Policies
Accounting for Stock-Based Compensation. In October 1995, SFAS No. 123
was issued which establishes financial accounting and reporting standards for
stock-based employee compensation plans. SFAS No. 123 encourages all entities
to adopt a new method of accounting to measure compensation cost of all
employee stock compensation plans based on the estimated fair value of the
award at the date it is granted. Companies are, however, allowed to continue
to measure compensation cost for those plans using the intrinsic value based
method of accounting, which generally does not result in compensation expense
only when the exercise price is less than the fair value of the underlying
stock at the date of grant. Companies that elect to remain with the intrinsic
value method are required to disclose in a footnote to the financial
statements pro forma net income and, if presented, earnings per share, as if
the fair value method had been adopted. The accounting requirements of SFAS
No. 123 were effective for transactions entered into by the Corporation
beginning July 1, 1996. At December 31, 1997, the Corporation had not granted
any options.
Accounting for Transfers and Servicing of Financial Assets and
Extinguishment of Liabilities. SFAS No. 125 provides guidance on accounting
for transfers and servicing of financial assets, recognition and measurement
of servicing assets and liabilities, financial assets subject to prepayment,
secured borrowings and collateral, and extinguishment of liabilities. SFAS
No. 125 generally requires that the Bank recognize as separate assets the
rights to service mortgage loans for others, whether the servicing rights are
acquired through purchases or loan originations. Servicing rights are
initially recorded at fair value based upon the present value of estimated
future cash flows. Subsequently, the servicing rights are assessed for
impairment, which is recognized in the statement of income in the period the
impairment occurs. For purposes of performing the impairment evaluation, the
related portfolio must be stratified on the basis of certain risk
characteristics including loan type and note rate. SFAS No. 125 also
specifies that financial assets subject to prepayment, including loans that
can be contractually prepaid or otherwise settled in such a way that the
holder would not recover substantially all of its recorded investment, be
measured like debt securities available-for-sale or trading securities under
SFAS No. 115, as amended by SFAS No. 125. The Bank adopted the provisions of
SFAS No. 125 on January 1, 1997, and adoption did not have a material effect
on the financial position or results of operations of the Bank.
Reporting Comprehensive Income. In June 1997, SFAS No. 130, "Reporting
Comprehensive Income" was issued and is effective January 1, 1998, with all
prior periods presented. SFAS No. 130 establishes standards for the reporting
and display of comprehensive income and its components in a full set of
financial statements. All items
16
<PAGE>
<PAGE>
required to be recognized under accounting standards as components of
comprehensive income are to be reported in a financial statement that is
displayed as prominently as other financial statements. SFAS No. 130 also
requires the classification of items of other comprehensive income by their
nature in a financial statement and the display of other comprehensivie income
separately from retained earnings and paid-in capital in the stockholders'
equity section of the statement of financial conditition. The Bank's only
significant elements of comprehensive income is the unrealized gains and
lossess on available-for-sale securities.
Effect of Inflation and Changing Prices
The Consolidated Financial Statements and related financial data
presented herein have been prepared in accordance with GAAP, which generally
require the measurement of financial position and operating results in terms
of historical dollars, without considering the change in the relative
purchasing power of money over time due to inflation. The primary impact of
inflation is reflected in the increased cost of the Bank's operations. Unlike
most industrial companies, virtually all the assets and liabilities of a
financial institution are monetary in nature. As a result, interest rates
generally have a more significant impact on a financial institution's
performance than do general levels of inflation. Interest rates do not
necessarily move in the same direction or to the same extent as the prices of
goods and services.
17
<PAGE>
<PAGE>
[Letterhead of KPMG Peat Marwick]
Independent Auditors' Report
----------------------------
The Board of Directors and Stockholders
Empire Federal Bancorp, Inc.:
We have audited the accompanying consolidated balance sheets of Empire Federal
Bancorp, Inc. and subsidiaries as of December 31, 1997 and 1996, and the
related consolidated statements of income, stockholders' equity and cash flows
for the year ended December 31, 1997, six months ended December 31, 1996 and
the year ended June 30, 1996. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Empire
Federal Bancorp, Inc. and subsidiaries as of December 31, 1997 and 1996, and
the results of their operations and their cash flows for the year ended
December 31, 1997, six months ended December 31, 1996 and the year ended June
30, 1996, in conformity with generally accepted accounting principles.
/s/KPMG Peat Marwick LLP
Billings, Montana
February 20, 1998
18
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
December 31, 1997 and 1996
Assets 1997 1996
------ ---- ----
Cash and due from banks $ 1,078,823 1,165,164
Interest-bearing deposits 1,825,208 29,824,391
-------------- -----------
Cash and cash equivalents 2,904,031 30,989,555
Investment and mortgage-backed securities
available-for-sale 36,495,581 13,767,773
Investment and mortgage-backed securities
held-to-maturity (estimated market value of
$20,802,559 and $26,385,527 at December 31,
1997 and 1996, respectively) 20,556,479 26,187,821
Loans receivable, net 45,713,508 41,703,590
Stock in Federal Home Loan Bank of Seattle,
at cost 1,261,100 1,168,800
Accrued interest receivable 427,496 330,927
Income tax receivable -- 40,000
Premises and equipment, net 2,051,238 1,321,640
Prepaid expenses and other assets 391,470 363,651
-------------- -----------
Total assets $ 109,800,903 115,873,757
============== ===========
Liabilities and Stockholders' Equity
------------------------------------
Liabilities:
Deposits $ 66,859,092 67,697,866
Stock over subscription -- 6,987,070
Notepayable 698,136 --
Advances from borrowers for taxes
and insurance 208,258 169,872
Accrued expenses and other liabilities 451,362 470,794
Accrued conversion costs -- 504,145
Current taxes payable 63,243 --
Deferred income taxes 922,424 434,373
-------------- -----------
Total liabilities 69,202,515 76,264,120
Stockholders' equity:
Preferred stock, par value $.01 per
share, 250,000 shares authorized,
none issued and outstanding -- --
Common stock, par value $.01 per
share, 4,000,000 shares authorized,
2,592,100 issued 25,921 25,921
Additional paid-in capital 25,208,225 25,142,356
Unearned ESOP compensation (1,935,430) (2,073,680)
MRDP shares acquired (801,875) --
Retained earnings, substantially
restricted 16,815,367 15,762,582
Unrealized gain on securities
available-for-sale, net 1,286,180 752,458
-------------- -----------
Total stockholders' equity 40,598,388 39,609,637
-------------- -----------
Commitments and contingencies
Total liabilities and
stockholders' equity $ 109,800,903 115,873,757
============== ===========
See accompanying notes to consolidated financial statements.
19
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Consolidated Statements of Income
Year Ended December 31, 1997, Six Months
Ended December 31, 1996 and Year Ended June 30, 1996
Six Months
Year Ended Ended Year
December 31, December 31, Ended
1997 1996 June 30, 1996
------------ ------------ -------------
Interest income:
Loans receivable $ 3,721,737 1,796,344 3,440,793
Mortgage-backed securities 2,941,460 1,170,112 2,516,854
Investment securities 591,839 104,077 214,363
Other 453,697 159,780 131,543
----------- --------- ---------
Total interest income 7,708,733 3,230,313 6,303,553
----------- --------- ---------
Interest expense:
Passbook accounts 451,004 240,485 476,408
NOW accounts 430,904 229,349 412,096
Certificates of deposit 2,138,715 1,149,333 2,325,755
Advances from Federal Home
Loan Bank 2,268 6,610 95,444
Note payable and other 95,306 -- --
----------- --------- ---------
Total interest expense 3,118,197 1,625,777 3,309,703
----------- --------- ---------
Net interest income 4,590,536 1,604,536 2,993,850
Provision for loan losses 20,306 -- 55,000
----------- --------- ---------
Net interest income
after provision
for loan losses 4,570,230 1,604,536 2,938,850
Non-interest income:
Insurance commission income 651,913 336,298 688,166
Customer service charges 187,728 86,125 145,456
Other 19,355 16,347 45,100
----------- --------- ---------
Total non-interest income 858,996 438,770 878,722
Non-interest expense:
Compensation and benefits 1,620,664 806,607 1,614,601
Occupancy and equipment 362,942 171,166 340,114
Special assessment by the SAIF -- 450,728 --
Deposit insurance premiums 78,338 56,220 185,287
Data processing services 102,384 48,643 105,986
Other 647,297 306,540 540,427
----------- --------- ---------
Total non-interest expense 2,811,625 1,839,904 2,786,415
----------- --------- ---------
Income before income taxes 2,617,601 203,402 1,031,157
Income taxes 1,032,000 61,522 399,480
----------- --------- ---------
Net income $ 1,585,601 141,880 631,677
=========== ========= =========
Net income per share $ .67
==========
See accompanying notes to consolidated financial statements.
20
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Consolidated Statements of Stockholders' Equity
Year Ended December 31, 1997, Six Months
Ended December 31, 1996 and Year Ended June 30, 1996
<PAGE>
<TABLE>
Unrealized
gain on
Unearned securities Total
Additional ESOP MRDP available- stock-
Common paid-in compen- shares Retained for-sale, holders'
stock capital sation acquired earnings Net equity
------ --------- --------- -------- -------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
Balances at
June 30, 1995 $ -- -- -- -- 14,989,025 510,934 15,499,959
Net income -- -- -- -- 631,677 -- 631,677
Decrease in
unrealized
gain on
securities
available-
for-sale -- -- -- -- -- (255,237) (255,237)
------- ---------- ---------- -------- ---------- --------- ----------
Balances at
June 30, 1996 -- -- -- -- 15,620,702 255,697 15,876,399
Net proceeds from
issuance of
common stock 25,921 25,142,356 (2,073,680) -- -- -- 23,094,597
Net income -- -- -- -- 141,880 -- 141,880
Increase in
unrealized
gain on
securities
available-
for-sale -- -- -- -- -- 496,761 496,761
------- ---------- ---------- -------- ---------- --------- ----------
Balances at
December 31,
1996 25,921 25,142,356 (2,073,680) -- 15,762,582 752,458 39,609,637
Repurchase of
50,000 common
shares for MRDP -- -- -- (801,875) -- -- (801,875)
ESOP shares
committed to be
released -- 65,869 138,250 -- -- -- 204,119
Net income -- -- -- -- 1,585,601 -- 1,585,601
Cash dividends
declared ($.225
per share) -- -- -- -- (532,816) -- (532,816)
Increase in
unrealized
gain on
securities
available-
for-sale -- -- -- -- -- 533,722 533,722
------- ---------- ---------- -------- ---------- --------- ----------
Balances at
December 31,
1997 $25,921 25,208,225 (1,935,430) (801,875) 16,815,367 1,286,180 40,598,388
======= ========== ========= ======= ========== ========= ==========
See accompanying notes to consolidated financial statements.
21
</TABLE>
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
Year Ended December 31, 1997, Six Months
Ended December 31, 1996 and Year Ended June 30, 1996
Six Months Year
Year Ended Ended Ended
December 31, December 31, June 30,
1997 1996 1996
------------ ------------ ----------
Cash flows from operating activities:
Net income $ 1,585,601 141,880 631,677
Adjustments to reconcile net income
to net cash provided by operating
activities:
Provision for loan losses 20,306 -- 55,000
Depreciation 169,640 103,101 199,309
Loss on retirement of premises
and equipment, net -- -- 17,430
Amortization of premiums and
discounts on loans and
mortgage-backed securities, net 16,395 (6,553) 30,239
Stock dividends reinvested in
Federal Home Loan Bank stock (92,300) (45,500) (79,200)
ESOP shares committed to be
released 204,119 -- --
Decrease (increase) in accrued
interest receivable (96,569) (2,933) 34,733
Decrease (increase) in income tax
receivable 40,000 25,817 (65,817)
Decrease (increase) in prepaid
expenses and other assets (27,819) 93,860 163,646
Increase (decrease) in accrued
expenses and other liabilities (19,432) 21,734 (131,634)
Increase (decrease) in income
taxes payable 63,243 -- (46,177)
Increase (decrease) in deferred
income taxes 50,716 (50,115) 48,007
----------- ---------- ----------
Net cash provided by
operating activities 1,913,900 281,291 857,213
----------- ---------- ----------
Cash flows from investing activities:
Net change in loans receivable (4,030,224) 179,744 (2,504,609)
Purchases of investment securities
held-to-maturity -- (449,750) (3,998,800)
Purchases of mortgage-backed
securities available-for-sale (19,996,123) -- --
Purchases of investment securities
available-for-sale (10,866,995) -- --
Proceeds from maturities or called
investment securities
available-for-sale 5,390,000 -- --
Proceeds from matured or called
investment securities
held-to-maturity 1,200,000 250,000 3,997,500
Purchases of mortgage-backed
securities held-to-maturity -- (4,245,465) (5,704,272)
Principal payments on mortgage-
backed securities held-to-maturity 4,421,975 3,460,059 4,535,653
Principal payments on mortgage-
backed securities available-for-sale 3,709,339 857,284 2,313,580
Purchases of premises and equipment (149,238) (42,188) (393,480)
----------- ---------- ----------
Net cash provided by (used
in) investing activities (20,321,266) 9,684 (1,754,428)
----------- ---------- ----------
Cash flows from financing activities:
Net change in deposits (838,774) (849,936) 1,484,080
Proceeds from advances from Federal
Home Loan Bank 1,300,000 -- 1,500,000
Repayment of advances from
Federal Home Loan Bank (1,300,000) (1,500,000) (1,750,926)
Payments on note payable (51,864) -- --
Net change in advances from borrowers
for taxes and insurance 38,386 (36,004) (33,137)
Sale of common stock, net of
offering costs -- 23,094,597 --
Proceeds from (repayments of) stock
over subscription (6,987,070) 6,987,070 --
Payments of dividends (532,816) -- --
Increase (decrease) in accrued
offering costs (504,145) 504,145 --
Purchase of stock for MRDP (801,875) -- --
----------- ---------- ----------
Net cash provided by (used
in) financing activities (9,678,158) 28,199,872 1,200,017
----------- ---------- ----------
Net increase (decrease) in cash
and cash equivalents (28,085,524) 28,490,847 302,802
Cash and cash equivalents,
beginning of year 30,989,555 2,498,708 2,195,906
----------- ---------- ----------
Cash and cash equivalents, end of
year $ 2,904,031 30,989,555 2,498,708
=========== ========== ==========
Cash paid during the year for:
Interest $ 3,117,000 1,606,600 3,395,000
Income taxes 878,000 86,000 462,000
=========== ========== ==========
See accompanying notes to consolidated financial statements.
22
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(1) Summary of Significant Accounting Policies
------------------------------------------
(a) General
-------
The accompanying consolidated financial statements include the accounts of
Empire Federal Bancorp, Inc. (the Holding Company) and its wholly-owned
subsidiary, Empire Federal Savings Bank (Empire). The consolidated financial
statements also include Dime Service Corporation (Dime), a wholly-owned
subsidiary of Empire. The Holding Company, Empire and Dime are herein
referred to collectively as "the Company." All significant intercompany
balances and transactions have been eliminated in consolidation.
Empire provides services to customers in south central Montana through a main
office and two branches in three separate communities. Empire offers a
variety of deposit products to its customers while concentrating its lending
activities on real estate loans. These real estate lending activities focus
primarily on the origination of loans secured by one- to four-family
residential real estate but also include the origination of multi-family,
commercial real estate and home equity loans. Empire is subject to
competition from other financial service providers and is also subject to the
regulations of certain federal and state agencies and undergoes periodic
examinations by those regulatory authorities.
Dime was formed in December 1985 to conduct business as an insurance agency.
(b) Basis of Presentation
---------------------
The consolidated financial statements have been prepared in conformity with
generally accepted accounting principles. In preparing the consolidated
financial statements, management is required to make estimates and assumptions
that affect the reported amounts of assets and liabilities as of the date of
the balance sheet and income and expenses for the period. Actual results
could differ significantly from those estimates.
Material estimates that are particularly susceptible to significant change in
the near-term relate to the determination of the allowance for loan losses.
Management believes that the allowance for loan losses is adequate, however,
future additions to the allowance may be necessary based on changes in factors
affecting the borrowers' ability to repay. In addition, various regulatory
agencies, as an integral part of their examination process, periodically
review the allowance for loan losses. Such agencies may require Empire to
recognize additions to the allowance based on their judgments about
information available to them at the time of their examination.
23 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(c) Conversion to Stock Ownership
-----------------------------
The Holding Company was incorporated in September 1996 to acquire and hold all
of the outstanding capital stock of Empire as a part of Empire's conversion
from a federally-chartered mutual savings and loan association to a
federally-chartered capital stock savings bank. In connection with the
conversion, which was consummated on January 23, 1997, the Company issued and
sold 2,592,100 shares of common stock (par value $.01 per share) at a price of
$10 per share for net offering proceeds of $25,168,277 after conversion and
offering expenses of $752,723. Net cash offering proceeds were $23,094,597
which reflects stock issued to the Employee Stock Ownership Plan (ESOP). The
Holding Company used $9,501,000 of the net cash proceeds to purchase the newly
issued capital stock of Empire. Since, among other things, the offering
proceeds and all required regulatory approvals to consummate the conversion
were received prior to December 31, 1996, the conversion has been accounted
for as being effective as of December 31, 1996, with the net offering proceeds
shown on the statement of stockholders' equity as proceeds from the sale of
common stock and the stock over subscription proceeds recorded as a liability.
The over subscription proceeds and accrued interest due on all subscription
proceeds were refunded on January 23, 1997.
(d) Cash Equivalents
----------------
For purposes of the statements of cash flows, the Company considers all cash,
due from banks and interest-bearing deposits with banks with original
maturities of three months or less to be cash equivalents.
(e) Investment Securities
---------------------
Investment securities are classified and accounted for as follows:
Trading Securities - Debt and equity securities bought and held
principally for the purpose of selling them in the near term are
classified as trading securities and are reported at fair value, with
unrealized gains and losses included in earnings.
Securities Held-to-Maturity - Debt securities for which the Company has
the positive intent and ability to hold to maturity are classified as
held-to-maturity and are reported at amortized cost.
Securities Available-for-Sale - Securities not classified as either
held-to-maturity or trading securities are classified as
available-for-sale. Available-for-sale securities are stated at fair
value, with net unrealized gains and losses excluded from earnings and
reported (net of deferred taxes) as a separate component of stockholders'
equity.
24 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The Company has never acquired any securities classified as trading
securities.
Declines in the fair value of available-for-sale or held-to-maturity
securities below carrying value that are other than temporary are charged to
expense as realized losses and the related carrying value reduced to fair
value.
The amortized cost of debt securities is adjusted for amortization of premium
and accretion of discount using the interest method over the term of each
security. The cost of investments sold is determined by specific
identification.
(f) Mortgage-Backed Securities
--------------------------
Mortgage-backed securities represent participating interests in pools of first
mortgage loans originated and serviced by issuers of the securities. These
securities are carried at unpaid principal balances, adjusted for unamortized
premiums and unearned discounts. Premiums and discounts are amortized using
the interest method over the remaining period to contractual maturity,
adjusted for anticipated prepayments. The cost of mortgage-backed securities
sold is determined by specific identification. The mortgage-backed securities
are classified as held-to-maturity or available-for-sale as defined in
"Investment Securities" above.
(g) Loans Receivable
----------------
Loans receivable are stated at unpaid principal balances, less unearned
discounts and net deferred loan origination fees. Interest on loans is
credited to income as earned. Interest receivable is accrued only if deemed
collectible. Discounts on purchased loans are amortized using the level-yield
method over the remaining period to contractual maturity, adjusted for
anticipated prepayments.
The allowance for loan losses is increased by charges to income and decreased
by charge-offs (net of recoveries). Management's periodic evaluation of the
adequacy of the allowance is based on factors such as past loan loss
experience, known and inherent risks in the portfolio, adverse situations that
may affect the borrower's ability to repay, the estimated value of any
underlying collateral, current and prospective economic conditions, and
independent appraisals.
Accrued interest on loans that are contractually ninety days or more past due
is generally charged off against income. Interest is subsequently recognized
only to the extent cash payments are received until, in management's judgment,
the borrower's ability to make periodic interest and principal payments is
reasonably assured, in which case the loan is returned to accrual status.
25 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The Company also provides an allowance for losses on specific loans which are
deemed to be impaired. Groups of small-balance homogeneous loans (generally
residential real estate and consumer loans) are evaluated for impairment
collectively. A loan is considered impaired when, based upon current
information and events, it is probable that the Company will be unable to
collect, on a timely basis, all principal and interest according to the
contractual terms of the loan's original agreement. When a specific loan is
determined to be impaired, the allowance for loan losses is increased through
a charge to expense for the amount of the impairment. The amount of the
impairment is measured using cash flows discounted at the loan's effective
interest rate, except when it is determined that the sole source of repayment
for the loan is the operation or liquidation of the underlying collateral. In
such cases, the current value of the collateral, reduced by anticipated
selling costs, will be used in place of discounted cash flows. The Company
uses the cash basis of income recognition on impaired loans.
The Company's existing policies for evaluating the adequacy of the allowance
for loan losses and policies for discontinuing the accrual of interest on
loans are used to establish the basis for determining whether a loan is
impaired. At December 31, 1997 and 1996, no loans were classified as
non-accrual or impaired.
(h) Loan Origination Fees and Related Costs
---------------------------------------
Loan origination fees and certain direct loan origination costs are deferred
and the net fee or cost is recognized in interest income using the level-yield
method over the contractual life of the loans.
(i) Stock in Federal Home Loan Bank
-------------------------------
Member institutions of the Federal Home Loan Bank (FHLB) System are required
to hold common stock of its district FHLB according to predetermined formulas.
(j) Premises and Equipment
----------------------
Premises and equipment are carried at cost less accumulated depreciation.
Depreciation is provided over the estimated useful lives, which range from 3
to 50 years, of the respective assets on straight-line and accelerated
methods. Leasehold improvements are amortized on the straight-line method
over their estimated useful life or lease term, whichever is less.
26 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(k) Income Taxes
------------
Deferred tax assets and liabilities are recognized for the estimated future
consequences attributable to differences between the financial statement
carrying amounts of assets and liabilities and their respective tax bases.
The effect on deferred tax assets and liabilities of a change in tax rates is
recognized in income in the period that includes the enactment date.
(l) Net Income Per Share
--------------------
In February 1997, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 128, "Earnings Per
Share." SFAS No. 128 replaces the presentation of primary earnings per share
(EPS) with a presentation of basic and diluted EPS on the face of the income
statement for all entities with complex capital structures. SFAS No. 128 also
requires a reconciliation of the numerator and denominator of the basic and
diluted EPS computation.
Basic EPS excludes dilution and is computed by dividing net income available
to common stockholders by the weighted-average number of common shares
outstanding during the period. Additionally, ESOP shares which are
unallocated and not yet committed to be released (unallocated) and unvested
MRDP shares issued are excluded from the weighted-average common shares
outstanding calculation. At December 31, 1997, there were 13,825 committed to
be released ESOP shares. There were no vested MRDP shares. The
weighted-average common shares outstanding for the year ended December 31,
1997 was 2,376,277, which is net of weighted-average unallocated ESOP shares.
Diluted EPS reflects the potential dilution that could occur if securities or
other contracts to issue common stock were exercised or resulted in the
issuance of common stock that would share in the earnings of the entity.
Dilutive potential common shares are added to the weighted-average shares used
to compute basic EPS. The Company had no potential common shares at December
31, 1997 and therefore, basic and diluted EPS are the same for this period.
Net income per share was not calculated for the six months ended December 31,
1996 or the year ended June 30, 1996 as no shares were outstanding during
these periods [see note 1(a)].
27 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(m) Impairment of Long-Lived Assets
-------------------------------
Long-lived assets and certain identifiable intangibles are reviewed for
impairment whenever events or circumstances indicate that the carrying amount
of an asset may not be recoverable. An impairment loss is recognized if the
sum of the expected future cash flows is less than the carrying amount of the
asset. No assets were identified as impaired as of December 31, 1997 and
1996.
(n) Stock-Based Compensation to Employees
-------------------------------------
Compensation cost for stock-based compensation to employees is measured at the
grant date using the intrinsic value method. Under the intrinsic value
method, compensation cost is the excess of the market price of the stock at
the grant date over the amount an employee must pay to ultimately acquire the
stock and is recognized over any related service period.
(o) New Accounting Pronouncements
-----------------------------
In June 1996, the FASB issued SFAS No. 125, "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities." SFAS No.
125 provides guidance on accounting for transfers and servicing of financial
assets, recognition and measurement of servicing assets and liabilities,
financial assets subject to prepayment, secured borrowings and collateral,
and extinguishment of liabilities. SFAS No. 125 generally requires that the
Company recognize as separate assets the rights to service mortgage loans for
others, whether the servicing rights are acquired through purchases or loan
originations. SFAS No. 125 also specifies that financial assets subject to
prepayment, including loans that can be contractually prepaid or otherwise
settled in such a way that the holder would not recover substantially all of
its recorded investment, be measured like debt securities available-for-sale
or trading securities under SFAS No. 115. The Company adopted the provisions
of SFAS No. 125 on January 1, 1997 and adoption did not have a material impact
on the Company's consolidated financial position or results of operations.
28 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(2) Change in Fiscal Year
---------------------
In connection with the conversion to stock ownership, the Company changed its
reporting period from a fiscal year ended June 30 to a calendar year end.
Accordingly, results of operations for the transition period ended December
31, 1996 cover a six-month period. The following statements of income present
financial data for the six months ended December 31, 1997 and the comparable
six month period of the prior year. These statements are for comparative
purposes only.
Six Months Ended December 31,
-----------------------------
1997 1996
-------------- -------------
(unaudited)
Interest income:
Loans receivable $ 1,894,382 1,796,344
Mortgage-backed securities 1,564,350 1,170,112
Investment securities 261,414 104,077
Other 184,980 159,780
---------- ---------
Total interest income 3,905,126 3,230,313
---------- ---------
Interest expense:
Passbook accounts 223,174 240,485
NOW accounts 230,424 229,349
Certificates of deposit 1,082,759 1,149,333
Advances from Federal Home Loan Bank 1,085 6,610
Notes payable and other 32,136 --
---------- ---------
Total interest expense 1,569,578 1,625,777
---------- ---------
Net interest income 2,335,548 1,604,536
Provision for loan losses 411 --
---------- ---------
Net interest income after
provision for loan losses 2,335,137 1,604,536
Non-interest income:
Insurance commission income 343,342 336,298
Customer service charges 102,624 86,125
Other 10,652 16,347
---------- ---------
Total non-interest income 456,618 438,770
Non-interest expense:
Compensation and benefits 865,703 806,607
Occupancy and equipment 268,919 171,166
Special assessment by the SAIF -- 450,728
Deposit insurance premiums 38,280 56,220
Data processing services 66,350 48,643
Other 256,354 306,540
---------- ---------
Total non-interest expense 1,495,606 1,839,904
---------- ---------
Income before income taxes 1,296,149 203,402
Income taxes 506,045 61,522
---------- ---------
Net income $ 790,104 141,880
========== =========
29 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(3) Investment and Mortgage-Backed Securities Available-For-Sale
------------------------------------------------------------
The amortized cost, unrealized gains and losses, and estimated fair values of
investment and mortgage-backed securities available-for-sale are at December
31 are as follows:
1997
-------------------------------------------------
Gross Gross Estimated
Amortized unrealized unrealized fair
cost gains losses value
---------- ---------- ---------- ---------
United States Government
and agency obligations $ 5,489,495 57,955 (300) 5,547,150
FHLMC common stock 55,291 1,957,709 -- 2,013,000
Mutual funds 350,000 2,177 (749) 351,428
----------- ----------- ----------- -----------
5,894,786 2,017,841 (1,049) 7,911,578
Mortgage-backed
securities:
GNMA certificates 3,099,757 20,116 -- 3,119,873
FHLMC certificates 7,074,842 7,793 (53,610) 7,029,025
FNMA certificates 7,268,364 95,183 (18,432) 7,345,115
REMIC certificates 11,049,340 63,253 (22,603) 11,089,990
----------- ----------- ----------- -----------
28,492,303 186,345 (94,645) 28,584,003
----------- ----------- ----------- -----------
$ 34,387,089 2,204,186 (95,694) 36,495,581
============ =========== =========== ===========
1996
-------------------------------------------------
Gross Gross Estimated
Amortized unrealized unrealized fair
cost gains losses value
---------- ---------- ---------- ---------
FHLMC common and
preferred stock $ 67,791 1,269,274 -- 1,337,065
Mutual funds 350,000 4,597 (1,499) 353,098
----------- ----------- ----------- -----------
417,791 1,273,871 (1,499) 1,690,163
Mortgage-backed
securities:
FHLMC certificates 9,956,294 21,779 (108,175) 9,869,898
FNMA certificates 2,256,253 -- (48,541) 2,207,712
----------- ----------- ----------- -----------
$12,212,547 21,779 (156,716) 12,077,610
----------- ----------- ----------- -----------
$12,630,338 1,295,650 (158,215) 13,767,773
=========== =========== =========== ===========
The REMICs consist of ten certificates which are backed by the FNMA or the
FHLMC.
30 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
There were no sales of investment securities available-for-sale during the
year ended December 31, 1997, six months ended December 31, 1996 and year
ended June 30, 1996.
Maturities of securities available-for-sale by contractual maturity at
December 31, 1997 are shown below. Maturities of securities do not reflect
repricing opportunities present in many adjustable rate securities, nor do
they reflect expected shorter maturities based upon early prepayments of
principal.
Estimated
Amortized fair
cost value
--------- ---------
Due within one year $ 4,690,606 4,693,719
Due after one year through five years 7,939,262 7,938,463
Due after five years through ten years 2,030,994 2,050,258
Due after ten years 19,320,936 19,448,713
---------- ----------
33,981,798 34,131,153
Equity securities 405,291 2,364,428
---------- ----------
$34,387,089 36,495,581
=========== ==========
(4) Investment and Mortgage-Backed Securities Held-to-Maturity
----------------------------------------------------------
The amortized cost, unrealized gains and losses, and estimated fair values of
investment and mortgage-backed securities held-to-maturity at December 31 are
summarized as follows:
1997
-------------------------------------------------
Gross Gross Estimated
Amortized unrealized unrealized fair
cost gains losses value
---------- ---------- ---------- ---------
United States
Government and
agency obligations $ 1,500,000 800 (1,650) 1,499,150
Other 200 -- -- 200
----------- ----------- ----------- -----------
1,500,200 800 (1,650) 1,499,350
Mortgage-backed
securities:
FHLMC certificates 7,906,441 117,352 (23,663) 8,000,130
FNMA certificates 7,102,309 98,543 -- 7,200,852
GNMA certificates 2,182,036 67,364 -- 2,249,400
REMIC certificates 1,865,493 13,934 (26,600) 1,852,827
----------- ----------- ----------- -----------
19,056,279 297,193 (50,263) 19,303,209
----------- ----------- ----------- -----------
$20,556,479 297,993 (51,913) 20,802,559
=========== =========== =========== ===========
31 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
1996
-------------------------------------------------
Gross Gross Estimated
Amortized unrealized unrealized fair
cost gains losses value
---------- ---------- ---------- ---------
United States
Government and
agency obligations $ 2,698,550 4,850 (24,606) 2,678,794
Other 200 200
----------- ----------- ----------- -----------
2,698,750 4,850 (24,606) 2,678,994
Mortgage-backed
securities:
FHLMC certificates 10,475,150 139,724 (27,258) 10,587,616
FNMA certificates 8,446,004 96,052 (23,783) 8,518,273
GNMA certificates 2,702,424 61,496 (259) 2,763,661
REMIC certificates 1,865,493 27,090 (55,600) 1,836,983
----------- ----------- ----------- -----------
23,489,071 324,362 (106,900) 23,706,533
----------- ----------- ----------- -----------
$26,187,821 329,212 (131,506) 26,385,527
=========== =========== =========== ===========
The REMICs consist of two certificates which are backed by the FNMA and the
FHLMC.
Maturities of securities held-to-maturity by contractual maturity at December
31, 1997 are shown below. Maturities of securities do not reflect repricing
opportunities present in many adjustable rate securities, nor do they reflect
expected shorter maturities based upon early prepayments of principal.
Estimated
Amortized fair
cost value
--------- ----------
Due within one year $ 1,315,848 948,883
Due after one year through five years 3,413,732 3,818,481
Due after five years through ten years 3,837,372 3,921,657
Due after ten years 11,989,527 12,113,538
----------- ----------
$20,556,479 20,802,559
=========== ==========
There were no sales of investment securities held-to-maturity during the year
ended December 31,1997, six months ended December 31, 1996 and the year ended
June 30, 1996.
The Company has not entered into any interest rate swaps, options or future
contracts. Included in U.S. Government agency obligations are investments in
structured notes which have contractual step-up interest rates which have an
amortized cost of $750,000 and a market value of $750,800 at December 31,
1997. All of the U.S. Government and agency obligations at December 31, 1997
and 1996 have call features.
32
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(5) Loans Receivable, Net
---------------------
Loans receivable, net at December 31 are summarized as follows:
1997 1996
---- ----
First mortgage loans:
One to four family $ 38,177,958 35,287,132
Multi-family 3,162,272 2,241,000
Commercial real estate 1,101,694 1,118,000
Construction loans 2,184,900 2,238,000
Loans to depositors,
secured by savings 590,673 629,115
Other consumer loans 3,095,275 2,321,511
----------- -----------
48,312,772 43,834,758
Less:
Unearned discounts (2,781) (4,138)
Undisbursed portion
of mortgage loans (2,085,461) (1,657,105)
Allowance for loan losses (200,000) (200,000)
Net deferred loan
origination fees (311,022) (269,925)
----------- -----------
$45,713,508 41,703,590
=========== ===========
Loans receivable include approximately $3,500,000 and $4,200,000 in adjustable
rate mortgages at December 31, 1997 and 1996, respectively.
Real estate loans serviced for others totaled approximately $100,000 and
$105,000 at December 31, 1997 and 1996, respectively.
A summary of activity in the allowance for loan losses follows:
Six Months Year
Year Ended Ended Ended
December 31, December 31, June 30,
1997 1996 1996
------------ ----------- ----------
Balance at beginning of
period $200,000 200,000 145,000
Provision charged to
expense 20,306 -- 55,000
Losses charged against
the allowance (20,306) -- --
-------- -------- --------
Balance at end of period $200,000 200,000 200,000
======== ======== ========
33 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(6) Accrued Interest Receivable
---------------------------
Accrued interest receivable at December 31 is summarized as follows:
1997 1996
---- ----
Loans receivable $214,447 205,857
Mortgage-backed securities 107,612 83,138
Investment securities and
interest-bearing deposits 105,437 41,932
-------- -------
$427,496 330,927
======== =======
(7) Premises and Equipment
----------------------
Premises and equipment at December 31 is summarized as follows:
1997 1996
---- ----
Buildings and leasehold
improvements $1,677,181 2,164,215
Land and improvements 526,265 428,784
Furniture, fixtures and
equipment 1,081,345 1,027,520
---------- ----------
3,284,791 3,620,519
Accumulated depreciation (1,233,553) (2,298,879)
---------- ----------
$2,051,238 1,321,640
=========== ==========
The Company was a party to a long-term lease agreement with an officer and
related individuals (lessor) for the Livingston, Montana main office. The
lease expired in 1997 at which time the Company negotiated with the lessor to
purchase the building. The purchase of the building, at a cost of $750,000,
was financed with a $722,000 note payable (see note 9). Total lease expense
under this agreement was $5,028 for the year ended December 31, 1997, $5,028
for the six months ended December 31, 1996 and $10,056 for the years ended
June 30, 1996 and 1995.
34 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP,INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(8) Deposits
--------
Deposits at December 31 are summarized as follows:
Weighted
average
rate at
December
31, 1997 1996
--------------- ------------------
1997 Amount % Amount %
------------ ------ ----- ------ ----
Passbook accounts 3.25% $13,572,343 20.3% 14,521,391 21.5%
NOW accounts 2.85% 14,838,604 22.2 14,629,406 21.6
----------- ----- ----------- -----
28,410,947 42.5 29,150,797 43.1
----------- ----- ----------- -----
Certificates
of deposit: 3.01 to 4.00% 593 -- 204,962 .3
4.01 to 5.00 755,165 1.1 7,285,980 10.7
5.01 to 6.00 33,766,470 50.5 25,318,501 37.4
6.01 to 7.00 1,872,483 2.8 3,532,724 5.9
7.01 to 8.00 2,053,434 3.1 2,084,713 2.4
8.01 to 9.00 -- -- 120,189 .2
Total certificates 5.67% 38,448,145 57.5 38,547,069 56.9
of deposit ----------- ----- ----------- -----
4.55% $66,859,092 100.0% 67,697,866 100.0%
=========== ===== =========== ======
Scheduled maturities of certificates of deposit at December 31, 1997 are as
follows:
1998 $ 27,137,240
1999 5,451,146
2000 3,858,259
2001 879,297
2002 451,246
2003 and thereafter 670,957
-------------
$ 38,448,145
=============
Certificates of deposit of $100,000 or more are approximately $2,554,000 and
$2,871,000 at December 31, 1997 and 1996, respectively. Amounts in excess of
$100,000 are not insured by a federal agency.
Accrued interest payable on deposits (included in accrued expenses and other
liabilities) was approximately $100,000 and $98,500 at December 31, 1997 and
1996, respectively.
35 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP,INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(9) Note Payable
------------
During 1997, the Company entered into an agreement with an officer of the
Company and related individuals to purchase the Livingston, Montana main
office building. The purchase was financed with a long-term note. The note
is being paid in quarterly principal payments of $28,000 plus interest at 9%.
The note is secured by the building.
(10) Income Taxes
------------
Income tax expense for the year ended December 31, 1997, six months ended
December 31, 1996 and year ended June 30, 1996 is summarized as follows:
Federal State Total
------- ----- -----
December 31, 1997:
Current $ 809,755 171,529 981,284
Deferred 41,814 8,902 50,716
--------- -------- ---------
$ 851,569 180,431 1,032,000
========= ======== =========
December 31, 1996:
Current $ 89,108 22,529 111,637
Deferred (41,316) (8,799) (50,115)
--------- -------- --------
$ 47,792 13,730 61,522
========= ======== ========
June 30, 1996:
Current $ 290,714 60,759 351,473
Deferred 41,212 6,795 48,007
--------- ------- --------
$ 331,926 67,554 399,480
========= ======= ========
36 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP,INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Income tax expense for the year ended December 31, 1997, six months ended
December 31, 1996 and the year ended June 30, 1996 differs from "expected"
income tax expense (computed by applying the Federal corporate income tax rate
of 34% to income before income taxes) as follows:
Six Months
Year Ended Ended Year
December 31, December 31, Ended
1997 1996 June 30, 1996
------------ ------------ -------------
Computed "expected" tax
expense $ 889,984 69,157 350,593
Increase (decrease)
resulting from:
State taxes, net of
Federal income tax
benefit 119,084 9,062 48,887
Other 22,932 (16,697) --
---------- --------- ---------
$1,032,000 61,522 399,480
========== ========= =========
Temporary differences between the financial statement carrying amounts the tax
bases of assets and liabilities that give rise to significant portions of
deferred tax assets and liabilities at December 31 are as follows:
1997 1996
---- ----
Deferred tax assets:
Loans:
Allowance for loan losses $ 76,910 76,910
Loan origination fees
deferred for financial
reporting purposes 120,673 105,391
Deferred compensation accrual 43,319 38,995
Other, net -- 29,110
-------- --------
Gross deferred tax assets 240,902 250,406
-------- --------
Deferred tax liabilities:
Stock in Federal Home Loan Bank
of Seattle, principally due
to dividends not recognized
for tax purposes (329,444) (293,950)
Prepaid insurance premium (4,075) (5,852)
Unrealized gains on securities
available-for-sale (822,312) (384,977)
Other, net (7,495) --
--------- --------
Gross deferred tax
liabilities (1,163,326) (684,779)
--------- --------
Net deferred tax
liability $ (922,424) (434,373)
========= ========
37 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP,INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
In assessing the realizability of deferred tax assets, management considers
whether it is more likely than not that some portion or all of the deferred
tax assets will not be realized. The ultimate realization of deferred tax
assets is dependent upon the existence of, or generation of, taxable income in
the periods which those temporary differences are deductible. Management
considers the scheduled reversal of deferred tax liabilities, taxes paid in
carryback years, projected future taxable income, and tax planning strategies
in making this assessment. Based upon the level of historical taxable income
and estimates of future taxable income over the periods which the deferred tax
assets are deductible, at December 31, 1997 and 1996, management believes it
is more likely than not that the Company will realize the benefits of these
deductible differences.
Retained earnings at December 31, 1997 includes approximately $3,320,000 for
which no provision for Federal income tax has been made. This amount
represents the base year tax bad debt reserve at December 31, 1986. This
amount is treated as a permanent difference and deferred taxes are not
recognized unless it appears that this reserve will be reduced and thereby
result in taxable income in the foreseeable future. The Company is not
currently contemplating any changes in its business or operations which would
result in a recapture of this Federal bad debt reserve into taxable income.
(11) Employee Benefit Plans
----------------------
Retirement Plan. The Company has a noncontributory multi-employer trustee
defined benefit pension plan. Actuarially determined pension costs are funded
as required by the trustee. Information related to the Company's portion of
the actuarial present value of benefits is not available. Consulting
actuaries to the plan have indicated the plan reached the ERISA full funding
limitation during 1997 and 1996. Contributions to the plan were $2,471,
$2,000 and $108,000 for the year ended December 31, 1997, six months ended
December 31, 1996 and year ended June 30, 1996, respectively.
Employee Stock Ownership Plan (ESOP). As part of the conversion discussed in
note 1(b), an ESOP was established covering substantially all employees. The
ESOP borrowed $2,073,680 from the Holding Company and used the funds to
purchase 207,368 shares of the common stock of the Company issued in the
offering. The loan is intended to be repaid by the ESOP over a period of 15
years principally from the Company's contributions to the ESOP and dividends
on unallocated ESOP shares. The costs of the shares acquired by the ESOP is
considered unearned compensation and, as such, is recorded as a reduction of
the Company's stockholders' equity. Shares purchased by the ESOP are held in
a suspense account for allocation among participants as the loan is repaid.
Contributions to the ESOP and shares released from the suspense account are
allocated among participants on the basis of compensation in the year of
allocation. Benefits will vest upon the completion of five years of service.
Forfeitures are reallocated to remaining plan participants and may reduce the
Company's contributions. Benefits may be payable upon retirement, death,
disability, or separation from service.
38 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP,INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Compensation expense is recorded equal to the fair value of shares held by the
ESOP which are deemed committed to be released. Shares are committed to be
released on a straight-line basis over 15 years, which is the basis for the
annual allocation of ESOP shares to participants. For the year ended December
31, 1997, ESOP principal and interest payments of approximately $296,000 were
funded by Empire and Dime contributions of approximately $249,000 to the ESOP.
The remainder of the ESOP debt service was funded by dividends on ESOP shares.
At December 31, 1997, 13,825 shares were committed to be released to
participant accounts and the fair value of the remaining shares to be released
in future years was approximately $3,246,000. Compensation expense relating
to the ESOP shares was $204,119 for the year ended December 31, 1997. No
compensation expense was recorded during 1996.
Employment Contracts. The Company entered into three-year employment
contracts with two senior officers that provide severance up to three times
average annual compensation following a change in control of the Company.
Option Plan During 1997, the Company adopted an option plan for the issuance
of up to 259,210 shares of common stock through option grants to employees,
officers and directors of the Company. The options will vest over a five year
period following the date of the grant of the option. No options were granted
under this plan during 1997. During January 1998, the Company granted 217,984
shares under this plan.
Management Recognition and Development Plan (MRDP). During July 1997, the
Company adopted a management recognition plan which would grant up to 103,684
of common shares to employees, officers and directors of the Company. The
shares granted will vest over a five year period following the date of grant.
During the year ended December 31, 1997, the Company purchased 50,000 shares
for issuance under the MRDP, however, no shares were granted under the MRDP
through December 31, 1997. During January 1998, the Company granted 77,763
shares under this plan.
(12) Regulatory Capital
------------------
Empire is required to meet three capital requirements: a tangible capital
requirement equal to not less than 1.5% of tangible assets (as defined in the
regulations); a core capital requirement, comprised of tangible capital
adjusted for supervisory goodwill and other defined factors equal to not less
than 3.0% of tangible assets; and a risk-based capital requirement equal to at
least 8.0% of all risk-weighted assets. For risk-weighting, selected assets
are given a risk assignment of 0% to 100%. Empire's total risk-weighted
assets at December 31, 1997 and 1996 were $40,452,000 and $38,313,000,
respectively.
39 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP,INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The following table presents, as of December 31, the extent to which Empire
exceeds, in dollars and percent, the minimum capital requirements:
Regulatory Capital
----------------------------------
1997
----------------------------------
Actual Requirement Excess
------ ----------- ------
Tangible capital:
Dollar amount $ 26,238,000 1,607,000 24,631,000
Percent of tangible assets 24.5% 1.5% 23.0%
Core capital:
Dollar amount $ 26,238,000 3,213,000 23,025,000
Percent of adjusted
tangible assets 24.5% 3.0% 21.5%
Risk-based capital:
Dollar amount $ 26,415,000 3,236,000 23,179,000
Percent of risk-weighted
assets 65.3% 8.0% 57.3%
Regulatory Capital
----------------------------------
1996
----------------------------------
Actual Requirement Excess
------ ----------- ------
Tangible capital:
Dollar amount $ 24,888,000 1,718,000 23,170,000
Percent of tangible assets 21.7% 1.5% 20.2%
Core capital:
Dollar amount $ 24,888,000 3,437,000 21,451,000
Percent of adjusted
tangible assets 21.7% 3.0% 18.7%
Risk-based capital:
Dollar amount $ 25,066,000 3,065,000 22,001,000
Percent of risk-weighted
assets 65.4% 8.0% 57.4%
Failure to comply with applicable regulatory capital requirements can result
in capital directives from the director of the Office of Thrift Supervision
(OTS), restrictions on growth and other limitations on a savings bank's
operations.
40 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP,INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Consolidated stockholders' equity differs from Empire's tangible, core, and
risk-based capital at December 31 as a result of the following (dollars
rounded to thousands):
1997 1996
---- ----
Consolidated stockholders' equity $ 40,598,000 39,610,000
Holding Company net assets (12,708,000) --
Net proceeds from issuance of stock -- (23,095,000)
Stock issued by Empire in conversion -- 9,501,000
------------- -----------
Empire capital 27,889,000 26,016,000
Non-includable assets of Dime (365,000) (376,000)
Unrealized gains on certain available-
for-sale securities (1,286,000) (752,000)
------------- -----------
Tangible and core capital 26,238,000 24,888,000
Allowance for loan losses 200,000 200,000
Assets required to be deducted (23,000) (22,000)
------------- -----------
Risk-based capital $ 26,415,000 25,066,000
============= ===========
In accordance with OTS regulations, at the time of conversion, Empire
restricted a portion of retained earnings by establishing a liquidation
account. The liquidation account will be maintained for the benefit of
eligible holders who continue to maintain their accounts in Empire after the
conversion. The liquidation account will be reduced annually to the extent
that eligible account holders have reduced their qualifying deposits.
Subsequent increases will not restore an eligible account holder's interest in
the liquidation account. In the event of a complete liquidation of Empire,
and only in such an event, each account holder will be entitled to receive a
distribution from the liquidation account in an amount proportionate to the
adjusted qualifying account balances then held.
In addition, savings banks that before and after proposed dividend
distributions meet or exceed their fully phased-in capital requirements, may
make capital distributions with prior notice to the OTS during any calendar
year up to 100% of year-to-date net income plus 50% of the amount in excess of
their fully phased-in capital requirements as of the beginning of the calendar
year. However, the OTS may impose greater restrictions if an institution is
deemed to be in need of more than normal supervision. Empire currently
exceeds its fully phased-in capital requirements and has been assessed as
"well-capitalized" under the regulatory guidelines.
41 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP,INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(13) Financial Instruments With Off-Balance-Sheet Risk
-------------------------------------------------
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.
These financial instruments include commitments to extend credit and involve,
to varying degrees, elements of credit risk.
The Company's exposure to credit loss in the event of nonperformance by the
other party to the financial instrument for commitments to extend credit is
represented by the contractual amount of those instruments. The Company uses
the same credit policies in making commitments and conditional obligations as
it does for on-balance-sheet instruments.
Financial instruments outstanding at December 31, 1997 whose contract amounts
represent credit risk are fixed-rate commitments to extend credit totaling
approximately $979,000. These commitments generally contain a termination
date of 30 days from date the commitment is approved.
(14) Financial Instruments With Concentration of Credit Risk
-------------------------------------------------------
At December 31, 1997, approximately $1,400,000 of the Company's loans
receivable are secured by real property located outside of the Company's trade
area of three counties in south central Montana. Of this amount,
approximately $900,000 are secured by properties located in Southern
California.
(15) Fair Value of Financial Instruments
-----------------------------------
The Company is required to disclose the fair value for financial instruments,
whether recognized or not recognized on the statement of financial condition.
A financial instrument is defined as cash, evidence of an ownership interest
in an entity, or a contract that both imposes a contractual obligation on one
entity to deliver cash or another financial instrument to a second entity.
Quoted market prices are used for fair value when available, but do not exist
for some of the Company's financial instruments, primarily loans and time
deposits. The fair value of these instruments has been derived from the OTS
Net Portfolio Value Model (OTS Model). The OTS Model primarily employs the
static discounted cash flow method which estimates the fair value of loans
and time deposits by discounting the cash flows the instruments are expected
to generate by the yields currently available to investors on instruments of
comparable risk and duration. Therefore, to calculate present value, the OTS
Model makes assumptions about the size and timing of expected cash flows and
appropriate discount rates. Different assumptions could materially change
these instruments' estimated values.
42 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP,INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The following assumptions and methods were used by the Company in estimating
the fair value of its financial instruments:
Financial Assets. Due to the liquid nature of the instruments, the carrying
value of cash and cash equivalents and interest-bearing deposits approximates
fair value. For all investment and mortgage-backed securities, the fair value
is based upon quoted market prices. The fair value of loans receivable was
obtained from the OTS Model. The fair value of accrued interest receivable
approximates book value as the Company expects contractual receipt in the
short-term. The fair value of FHLB stock approximates redemption value.
Financial Liabilities. The fair value of NOW and demand accounts and non-term
savings deposits approximates book values as these deposits are payable on
demand. The fair value of time deposits was obtained from the OTS Model. The
fair value of notes payable was obtained from the OTS Model. The fair value
of accrued interest payable approximates book value as the Company expects
payment in the short-term.
Off-Balance Sheet. Commitments made to extend credit represent commitments
for loan originations, the majority of which are contracted for immediate sale
and therefore no fair value adjustment is necessary.
Limitations. Fair value estimates are made at a specific point in time, based
on relevant market information and information about the financial instrument.
These estimates do not reflect any premium or discount that could result from
offering for sale at one time the Company's entire holdings of a particular
instrument. Because no market exists for a significant portion of the
Company's financial instruments, fair value estimates are based on judgments
regarding comparable market interest rates, future expected loss experience,
current economic conditions, risk characteristics of various financial
instruments, and other factors. These estimates are subjective in nature and
involve uncertainties and matters of significant judgment and therefore cannot
be determined with precision. Changes in assumptions could significantly
affect the estimates.
Fair value estimates are based on existing on-and off-balance sheet financial
instruments without attempting to estimate the value of anticipated future
business and the value of assets and liabilities that are not considered
financial instruments. Significant assets and liabilities that are not
considered financial instruments include deferred tax assets and premises and
equipment. In addition, the tax effect of the difference between the fair
value and carrying value of financial instruments can have a significant
effect on fair value estimates and have not been considered in the estimates
presented herein.
43 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP,INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The approximate book value and fair value of the Company's financial
instruments as of December 31, are as follows:
1997 1996
--------------------------- ---------------------------
Carrying Value Fair Value Carrying Value Fair Value
-------------- ---------- -------------- ----------
Financial Assets:
Cash and cash
equivalents $ 1,079,000 1,079,000 1,165,000 1,165,000
Interest-bearing
deposits 1,825,000 1,825,000 29,824,000 29,824,000
Investment and
mortgage-backed
securities
available-for-
sale 36,496,000 36,496,000 13,768,000 13,768,000
Investment and
mortgage-backed
securities held-
to-maturity 20,556,000 20,803,000 26,188,000 26,386,000
Loans receivable,
net 45,714,000 47,044,000 41,704,000 42,035,000
Stock in Federal
Home Loan Bank
of Seattle 1,261,000 1,261,000 1,169,000 1,169,000
Accrued interest
receivable 427,000 427,000 331,000 331,000
Financial Liabilities:
Deposits 66,859,000 66,906,000 67,698,000 67,728,000
Note payable 698,000 818,000 -- --
Accrued interest
payable 100,000 100,000 98,500 98,500
Off-Balance Sheet:
Commitments to extend
credit (notional
amount) 979,000 979,000 80,000 80,000
(16) Other Non-Interest Expense
--------------------------
Included in other non-interest expense are advertising expenses of $96,346,
$30,850 and $53,983 for the year ended December 31, 1997, six months ended
December 31, 1996 and the year ended June 30, 1996, respectively.
44 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(17) Holding Company Information (Condensed)
---------------------------------------
The summarized financial information for Empire Federal Bancorp, Inc. is
presented below.
Condensed Balance Sheets:
December 31,
-----------------------
Assets 1997 1996
------- ---- ----
Cash $ 265,541 7,884,812
Loan to Empire 12,500,000 13,200,000
Investment in Empire 27,888,637 26,016,040
Other assets -- 36,000
----------- ----------
Total assets $ 40,654,178 47,136,852
=========== ==========
Liabilities and Stockholders' Equity
------------------------------------
Stock over subscription $ -- 6,987,070
Accrued offering costs -- 504,145
Other liabilities 55,790 36,000
------------ ----------
Total liabilities 55,790 7,527,215
------------ ----------
Stockholders' equity:
Common stock 25,921 25,921
Additional paid-in capital 25,208,225 25,142,356
Unearned ESOP compensation (1,935,430) (2,073,680)
MRDP shares acquired (801,875) --
Retained earnings 16,815,367 15,762,580
Unrealized gain on securities
available-for-sale 1,286,180 752,458
------------ ----------
Total stockholders' equity 40,598,388 39,609,637
------------ ----------
Total liabilities and stockholders'
equity $ 40,654,178 47,136,852
=========== ==========
45 (Continued)
<PAGE>
<PAGE>
EMPIRE FEDERAL BANCORP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Condensed Statements of Income:
Six
Year ended months ended
December 31, December 31,
1997 1996
------------ ------------
Interest income - loan to Empire $ 688,457 --
Interest expense - over subscription (63,170) --
Compensation expense - ESOP shares (65,869) --
Operating expenses (80,702) --
----------- -----------
Income before equity in
undistributed earnings of
subsidiary and income taxes 478,716 --
Equity in undistributed earnings of
subsidiary 1,316,885 --
----------- -----------
Income before income taxes 1,795,601 --
Income taxes 210,000 --
----------- -----------
Net income $ 1,585,601 --
=========== ===========
Condensed Statements of Cash Flows:
Six
Year ended months ended
December 31, December 31,
1997 1996
------------ ------------
Cash flows from operating
activities:
Net income $ 1,585,601 --
Adjustments to reconcile net
income to net cash provided by
operating activities:
Equity in undistributed earnings
of subsidiary (1,316,885) --
Increase in other liabilities 33,800 --
ESOP compensation 204,119 --
---------- -----------
Net cash provided by operating
activities 506,635 --
---------- -----------
Cash flows from investing activities:
Loan to Empire -- (13,200,000)
Principal payments from loan to Empire 700,000 --
Investment in Empire common stock -- (9,501,000)
---------- -----------
Net cash provided by
(used in) investing activities 700,000 (22,701,000)
---------- -----------
46 (Continued)
<PAGE>
<PAGE>
Cash flows from financing activities:
Sale of common stock, net of offering
costs -- 23,094,597
Proceeds from (repayment of) stock over
subscription (6,987,070) 6,987,070
Cash dividends paid (532,816) --
Purchase of stock for MRDP (801,875) --
Increase (decrease) in accrued
offering costs (504,145) 504,145
---------- ----------
Net cash provided by (used in)
financing activities (8,825,906) 30,585,812
---------- ----------
Net increase (decrease) in cash (7,619,271) 7,884,812
Cash at beginning of year 7,884,812 --
---------- ----------
Cash at end of year $ 265,541 7,884,812
========== ==========
47
<PAGE>
<PAGE>
COMMON STOCK INFORMATION
The common stock of the Corporation is traded in the over-the counter
market as reported on the Nasdaq National Market under the symbol "EFBC." As
of March 6, 1998, there were approximately 446 stockholders of record. The
Corporation estimates that, as of March 6, 1998, there were approximately
1,171 beneficial owners holding stock in nominee or "street" name.
The Corporation presently pays quarterly cash dividends on the common
stock, subject to the discretion of the Board of Directors. Dividend payments
by the Corporation depend primarily on the ability of the Bank to pay
dividends to the Corporation. Under OTS regulations, the dollar amount of
dividends a federal savings association may pay depends upon the association's
capital surplus position and recent net income. Generally, if an association
satisfies its regulatory capital requirements, it may make dividend payments
up to the limits prescribed in the OTS regulations. However, institutions
that have converted to the stock form of ownership may not declare or pay a
dividend on, or repurchase any of, its common stock if the effect thereof
would cause the regulatory capital of the institution to be reduced below the
amount required for the liquidation account which was established in
accordance with OTS regulations and the Bank's Plan of Conversion. In
addition, earnings of the Bank appropriated to bad debt reserves and deducted
for federal income tax purposes are not available for payment of cash
dividends without payment of taxes at the then current tax rate by the Bank on
the amount removed from the reserves for such distributions. The Bank does
not contemplate any distribution that would limit the Bank's bad debt
deduction or create federal tax liabilities.
The stock prices shown below reflect the initial public offering ("IPO")
price and the high and low prices by quarter from January 23, 1997, the date
the Corporation's Common Stock began trading on the Nasdaq National Market,
through the quarter ended December 31, 1997.
Market Price Cash
-------------- Dividends Paid
High Low Per Share
---- --- ---------
IPO.................................... $10.00 $ -- $ --
March 31, 1997......................... 13.25 12.75 --
April 1, 1997 - June 30, 1997.......... 14.75 12.50 .075
July 1, 1997 - September 30, 1997...... 17.75 14.33 .075
October 1, 1997 - December 31, 1997.... 18.25 15.38 .075
48
<PAGE>
<PAGE>
DIRECTORS AND OFFICERS
OF
EMPIRE FEDERAL BANCORP, INC. AND EMPIRE FEDERAL SAVINGS BANK
Directors:
Beverly D. Harris Edwin H. Doig
President and Chief Executive Officer Retired Registered Pharmacist
of the Corporation and the Savings Bank Former owner and manager of
Livingston Drug.
Ernest A. Sandberg Sanroe J. Kaisler,Jr.
Treasurer, Chief Financial Officer Retired insurance broker and
and Secretary of the Corporation former partner and majority
and Executive Vice President stockholder of Waite &
and Secretary of the Savings Bank. Company, an insurance company.
Walter J. Peterson, Jr. Walter R. Sales
Chairman of the Board of the Corporation, Retired rancher and former
Vice President of Dime Service Corporation, Montana Legislator.
Empire Federal Savings Bank's wholly-owned
subsidiary.
John R. Boe
Retired teacher and vice principal of
local junior high school in Big Timber,
and member of Board of Directors of
Pioneer Medical Center.
Officers:
Beverly D. Harris Ernest A. Sandberg
President and Chief Executive Officer Treasurer, Chief Financial
of the Corporation and the Savings Officer and Secretary of the
Bank. Corporation and Executive
Vice President and Secretary
of the Savings Bank.
49
<PAGE>
<PAGE>
CORPORATE INFORMATION
Corporate Headquarters Transfer Agent
123 South Main Street Registrar and Transfer Co.
Livingston, Montana Cranford, New Jersey
Independent Auditors Common Stock
KPMG Peat Marwick LLP Traded Over-the-Counter/
Billings, Montana National Market System
Nasdaq Symbol: EFBC
General Counsel
10-KSB Information
Huppert and Swindlehurst, P.C.
Livingston, Montana A copy of the Form 10-KSB will
be furnished without charge to
stockholders of record upon
written request to the
Secretary, Empire Federal
Special Securities Counsel Bancorp, Inc., 123 South
Main Street, Livingston,
Breyer & Aguggia Montana 59047.
Washington, DC
---------------------------
Annual Meeting
The Annual Meeting of Stockholders will be held on Tuesday, April 28,
1998, at 12:30 p.m., Mountain Daylight Time, at the Corporation's main office
located at 123 South Main Street, Livingston, Montana.
50
<PAGE>
<PAGE>
Exhibit 21
Subsidiaries of the Registrant
Parent
- ------
Empire Federal Bancorp, Inc.
Percentage Jurisdiction or
Subsidiaries(a) of Ownership State of Incorporation
- --------------- ------------ ----------------------
Empire Federal Bank 100% United States
The Dime Service Corporation (b) 100% Montana
- -----------------------
(a) The operation of the Corporation's wholly owned subsidiaries are
included in the Corporation's Financial Statements contained in Item 7
of this Report.
(b) The Dime Service Corporation is the wholly owned subsidiary of Empire
Federal Bank.
<PAGE>
<PAGE>
Exhibit 23
Consent of Independent Auditors
<PAGE>
<PAGE>
[KPMG Peat Marwick LLP Letterhead]
Independent Accountants' Consent
--------------------------------
The Board of Directors and Stockholders
Empire Federal Bancorp, Inc.
We consent to incorporation by reference in the registration statement (No.
333-48511) on Form S-8 of Empire Federal Bancorp, Inc., of our report dated
February 20, 1998 relating to the consolidated balance sheets of Empire
Federal Bancorp, Inc. and subsidiaries as of December 31, 1997 and 1996 and
the related consolidated statements of income, stockholders' equity, and cash
flows for the year ended December 31, 1997, the six months ended December 31,
1996 and the year ended June 30, 1996, which report appears in the December
31, 1997 annual report on Form 10-KSB of Empire Federal Bancorp, Inc.
/s/KPMG Peat Marwick LLP
Billings, Montana
March 25, 1998
<PAGE>
<PAGE>
Exhibit 27
Financial Data Schedule
This schedule contains financial information extracted from the consolidated
financial statements of Empire Federal Bancorp, Inc. for the year ended
December 31, 1997, and is qualified in its entirety by reference to such
financial statements.
Financial Data as of
or for the year
Item Number ended December 31, 1997 Item Description
- ----------- ----------------------- ----------------
9-03(1) 1,078,823 Cash and due from the Banks
9-03(2) 1,825,208 Interest-bearing deposits
9-03(3) - Federal funds sold - purchased
securities for resale
9-03(4) - Trading-account assets
9-03(6) 36,495,581 Investment and mortgage-backed
securities held for sale
9-03(6) 20,556,479 Investment and mortgage-backed
securities held to maturity -
carrying value
9-03(6) 20,802,559 Investment and mortgage-backed
securities held to
maturity - market value
9-03(7) 45,913,508 Loans
9-03(7)(2) 200,000 Allowance for losses
9-03(11) 109,800,903 Total assets
9-03(12) 66,859,092 Deposits
9-03)13) - Short-term borrowings
9-03(15) 1,645,287 Other liabilities
9-03(16) 698,136 Long-term debt
9-03(19) - Preferred stock - mandatory
redemption
9-03(20) - Preferred stock - no mandatory
redemption
9-03(21) 25,921 Common stocks
9-03(22) 40,572,467 Other stockholders' equity
9-03(23) 109,800,903 Total Liabilities and stockholders'
equity
9-04(1) 3,721,737 Interest and fees on loans
9-04(2) 3,533,299 Interest and dividends on
investments
9-04(4) 453,697 Other interest income
9-04(5) 7,708,733 Total interest income
9-04(6) 3,020,623 Interest on deposits
9-04(9) 3,118,197 Total interest expense
9-04(10) 4,590,536 Net interest income
9-04(11) 20,306 Provision for loan losses
9-04(13)(h) - Investment securities gains/(losses)
9-04(14) 2,811,625 Other expenses
9-04(15) 2,617,601 Income/loss before income tax
9-04(17) 1,585,601 Income/loss before extraordinary
items
9-04(18) - Extraordinary items, less tax
9-04(19) - Cumulative change in accounting
principles
9-04(20) 1,585,601 Net income or loss
9-04(21) .67 Earnings per share - primary
9-04(21) .67 Earnings per share - fully diluted
I.B.5 4.28 Net yield - interest earning assets
- actual
III.C.1.(a) - Loans on non-accrual
III.C.1.(b) 31,000 Accruing loans past due 90 days
or more
III.C..2.(c) - Troubled debt restructuring
III.C.2 80,000 Potential problem loans
IV.A.1 200,000 Allowance for loan loss-beginning
of period
IV.A.2 20,306 Total chargeoffs
IV.A.3 - Total recoveries
IV.A.4 200,000 Allowance for loan loss - end of
period
IV.B.1 200,000 Loan loss allowance to allocated to
domestic loans
IV.B.2 - Loan loss allowance to foreign
loans
IV.B.3 - Loan loss allowance - unallocated
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 9
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> DEC-31-1998
<CASH> 2092487
<INT-BEARING-DEPOSITS> 3061310
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 39865809
<INVESTMENTS-CARRYING> 10497993
<INVESTMENTS-MARKET> 10582975
<LOANS> 49719156
<ALLOWANCE> 220000
<TOTAL-ASSETS> 109201171
<DEPOSITS> 66412597
<SHORT-TERM> 2000000
<LIABILITIES-OTHER> 1840007
<LONG-TERM> 2647443
0
0
<COMMON> 25921
<OTHER-SE> 36275203
<TOTAL-LIABILITIES-AND-EQUITY> 109201171
<INTEREST-LOAN> 4077146
<INTEREST-INVEST> 3342113
<INTEREST-OTHER> 246146
<INTEREST-TOTAL> 7665405
<INTEREST-DEPOSIT> 2940459
<INTEREST-EXPENSE> 3036184
<INTEREST-INCOME-NET> 4629221
<LOAN-LOSSES> 20000
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 3335481
<INCOME-PRETAX> 2146121
<INCOME-PRE-EXTRAORDINARY> 2146121
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1244598
<EPS-PRIMARY> .56
<EPS-DILUTED> .56
<YIELD-ACTUAL> 4.50
<LOANS-NON> 0
<LOANS-PAST> 0
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 12000
<ALLOWANCE-OPEN> 200000
<CHARGE-OFFS> 0
<RECOVERIES> 0
<ALLOWANCE-CLOSE> 220000
<ALLOWANCE-DOMESTIC> 220000
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
