SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
(Mark One)
[X] Annual report pursuant to section 13 or 15 (d) of the Securities Exchange
Act of 1934 (No Fee required)
For the fiscal year ended June 30, 1998
OR
[ ] Transition report pursuant to section 13 or 15(d) of the Securities
Exchange Act of 1934 (No Fee required)
For the transition period from to .
------------ ------------
Commission File No. 0-21885
Advance Financial Bancorp
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(Name of Small Business Issuer in Its Charter)
Delaware 55-0753533
- ---------------------------------------------- -------------------------
(State or Other Jurisdiction of Incorporation I.R.S. Employer
or Organization) Identification No.
1015 Commerce Street, Wellsburg, West Virginia 26070
- ---------------------------------------------- ---------
(Address of Principal Executive Offices (Zip Code)
Issuer's Telephone Number, Including Area Code: (304) 737-3531
--------------
Securities registered under to Section 12(b) of the Exchange Act: None
----
Securities registered under to Section 12(g) of the Exchange Act:
Common Stock, par value $0.10 per share
---------------------------------------
(Title of Class)
Check whether the issuer: (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Exchange Act during the past 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 .
--- ---
Check if there is no disclosure of delinquent filers in response to
Item 405 of Regulation S-B contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [ ]
State issuer's revenues for its most recent fiscal year. $8,968,000
The aggregate market value of the voting stock held by non-affiliates
of the registrant, based on the average bid and asked price of the registrant's
Common Stock on September 23, 1998 was $14.3 million.
As of September 23, 1998, there were issued and outstanding 1,030,648
shares of the registrant's Common Stock.
Transition Small Business Disclosure Format (check one):
YES NO X
--- ---
DOCUMENTS INCORPORATED BY REFERENCE
1. Portions of the Annual Report to Stockholders for the Fiscal Year ended
June 30, 1998. (Part II)
2. Portions of the Proxy Statement for the Annual Meeting of Stockholders for
the Fiscal Year ended June 30, 1998. (Part III)
<PAGE>
PART I
ADVANCE FINANCIAL BANCORP (THE "COMPANY") MAY FROM TIME TO TIME MAKE
WRITTEN OR ORAL "FORWARD-LOOKING STATEMENTS", INCLUDING STATEMENTS CONTAINED IN
THE COMPANY'S FILINGS WITH THE SECURITIES AND EXCHANGE COMMISSION (INCLUDING
THIS ANNUAL REPORT ON FORM 10-KSB AND THE EXHIBITS THERETO), IN ITS REPORTS TO
STOCKHOLDERS AND IN OTHER COMMUNICATIONS BY THE COMPANY, WHICH ARE MADE IN GOOD
FAITH BY THE COMPANY PURSUANT TO THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995.
THESE FORWARD-LOOKING STATEMENTS INVOLVE RISKS AND UNCERTAINTIES, SUCH
AS STATEMENTS OF THE COMPANY'S PLANS, OBJECTIVES, EXPECTATIONS, ESTIMATES AND
INTENTIONS, THAT ARE SUBJECT TO CHANGE BASED ON VARIOUS IMPORTANT FACTORS (SOME
OF WHICH ARE BEYOND THE COMPANY'S CONTROL). THE FOLLOWING FACTORS, AMONG OTHERS,
COULD CAUSE THE COMPANY'S FINANCIAL PERFORMANCE TO DIFFER MATERIALLY FROM THE
PLANS, OBJECTIVES, EXPECTATIONS, ESTIMATES AND INTENTIONS EXPRESSED IN SUCH
FORWARD-LOOKING STATEMENTS: THE STRENGTH OF THE UNITED STATES ECONOMY IN GENERAL
AND THE STRENGTH OF THE LOCAL ECONOMIES IN WHICH THE COMPANY CONDUCTS
OPERATIONS; THE EFFECTS OF, AND CHANGES IN, TRADE, MONETARY AND FISCAL POLICIES
AND LAWS, INCLUDING INTEREST RATE POLICIES OF THE BOARD OF GOVERNORS OF THE
FEDERAL RESERVE SYSTEM, INFLATION, INTEREST RATE, MARKET AND MONETARY
FLUCTUATIONS; THE TIMELY DEVELOPMENT OF AND ACCEPTANCE OF NEW PRODUCTS AND
SERVICES OF THE COMPANY AND THE PERCEIVED OVERALL VALUE OF THESE PRODUCTS AND
SERVICES BY USERS, INCLUDING THE FEATURES, PRICING AND QUALITY COMPARED TO
COMPETITORS' PRODUCTS AND SERVICES; THE WILLINGNESS OF USERS TO SUBSTITUTE
COMPETITORS' PRODUCTS AND SERVICES FOR THE COMPANY'S PRODUCTS AND SERVICES; THE
SUCCESS OF THE COMPANY IN GAINING REGULATORY APPROVAL OF ITS PRODUCTS AND
SERVICES, WHEN REQUIRED; THE IMPACT OF CHANGES IN FINANCIAL SERVICES' LAWS AND
REGULATIONS (INCLUDING LAWS CONCERNING TAXES, BANKING, SECURITIES AND
INSURANCE); TECHNOLOGICAL CHANGES, ACQUISITIONS; CHANGES IN CONSUMER SPENDING
AND SAVINGS HABITS; AND THE SUCCESS OF THE COMPANY AT MANAGING THE RISKS
INVOLVED IN THE FOREGOING.
THE COMPANY CAUTIONS THAT THE FOREGOING LIST OF IMPORTANT FACTORS IS
NOT EXCLUSIVE. THE COMPANY DOES NOT UNDERTAKE TO UPDATE ANY FORWARD- LOOKING
STATEMENT, WHETHER WRITTEN OR ORAL, THAT MAY BE MADE FROM TIME TO TIME BY OR ON
BEHALF OF THE COMPANY.
Item 1. Business
- -----------------
General
The Company is a Delaware corporation organized in September 1996 at
the direction of Advance Financial Savings Bank (the "Bank" or "Advance") to
acquire all of the capital stock that the Bank issued in its conversion from the
mutual to stock form of ownership (the "Conversion"). On December 31,
2
<PAGE>
1996, the Bank completed the Conversion and became a wholly owned subsidiary of
the Company. The Company is a unitary savings and loan holding company which,
under existing laws, generally is not restricted in the types of business
activities in which it may engage provided that the Bank retains a specified
amount of its assets in housing-related investments. The Company conducts no
significant business or operations of its own other than holding all of the
outstanding stock of the Bank and investing the Company's portion of the net
proceeds obtained in the conversion.
The Bank, chartered in 1935 under the name Advance Federal Savings and
Loan of West Virginia, is a federally chartered stock savings bank headquartered
in Wellsburg, West Virginia. The Bank is subject to examination and
comprehensive regulation by the Office of Thrift Supervision ("OTS") and its
deposits are federally insured by the Savings Association Insurance Fund
("SAIF"). The Bank is a member of and owns capital stock in the FHLB of
Pittsburgh, which is one of the 12 regional banks in the FHLB System.
The Bank operates a traditional savings bank business, attracting
deposit accounts from the general public and using those deposits, together with
other funds, primarily to originate and invest in loans secured by single-family
residential real estate.
Competition
The Bank is one of many financial institutions serving its market area
which consists of Brooke and Hancock counties of West Virginia and portions of
Jefferson County Ohio and Washington County, Pennsylvania. The competition for
deposit products comes from other insured financial institutions such as
commercial banks, thrift institutions, credit unions, and multi-state regional
banks in the Bank's market area. Deposit competition also includes a number of
insurance products sold by local agents and investment products such as mutual
funds and other securities sold by local and regional brokers. Loan competition
varies depending upon market conditions and comes from other insured financial
institutions such as commercial banks, thrift institutions, credit unions,
multi-state regional banks, and mortgage bankers.
3
<PAGE>
Lending Activities
Analysis of Loan Portfolio. Set forth below is selected data relating
to the composition of the Bank's loan portfolio by type of loan and type of
security on the dates indicated:
<TABLE>
<CAPTION>
June 30,
--------------------------------------------------------------------------
1998 1997
----------------------------------- ----------------------------
Amount Percent Amount Percent
---------- ------- --------- -------
(Dollars in Thousands)
<S> <C> <C> <C> <C>
Type of Loans:
Real Estate Loans:
Construction....................................... $ 5,017 4.98% $ 2,455 2.78%
One- to four-family(1) ............................ 59,359 58.91 57,746 65.32
Multi-family ...................................... 1,786 1.77 1,595 1.80
Non-residential.................................... 15,581 15.46 11,482 12.99
Consumer Loans:
Home improvement................................... 1,001 0.99 906 1.02
Automobile......................................... 7,659 7.60 7,419 8.39
Share.............................................. 1,297 1.29 1,270 1.44
Education.......................................... 42 0.04 89 .10
Other.............................................. 2,347 2.33 1,973 2.23
Commercial loans..................................... 6,676 6.63 3,478 3.93
-------- ------- ------ ------
Total loans..................................... 100,765 100.00% 88,413 100.00%
======= ======
Less:
Loans in process................................... (3,061) (1,761)
Deferred loan origination fees and costs........... (181) (216)
Allowance for loan losses.......................... (478) (368)
-------- ------
Total loans, net................................ $ 97,045 $86,068
======== ======
</TABLE>
- -------------------------------
(1) At June 30, 1998, includes $1,455,000 in loans held for sale.
4
<PAGE>
Loan Maturity Tables
The following table sets forth the estimated maturity of the Bank's
loan portfolio, including loans held for sale, at June 30, 1998. The table does
not include prepayments or scheduled principal repayments. All mortgage loans
are shown as maturing based on contractual maturities.
<TABLE>
<CAPTION>
Due after
Due within 1 through Due after
1 year 5 years 5 years Total
------ ------- ------- -----
(In Thousands)
<S> <C> <C> <C> <C>
One- to four-family real estate................... $ 4,907 $ 2,072 $ 52,380 $ 59,359
Multi-family real estate.......................... - 13 1,773 1,786
Non-residential real estate....................... - 927 14,654 15,581
Construction...................................... 1,513 352 3,152 5,017
Consumer.......................................... 858 9,989 1,499 12,346
Commercial........................................ 1,417 2,797 2,462 6,676
------ ------ ------- -----
Total Amount Due.................................. $ 8,695 $16,150 $ 75,920 $100,765
====== ====== ======= =======
</TABLE>
The following table sets forth the dollar amount of all loans due after
June 30, 1999, which have pre-determined interest rates and which have floating
or adjustable interest rates.
<TABLE>
<CAPTION>
Fixed Rates Adjustable Rates Total
----------- ---------------- -----
(In Thousands)
<S> <C> <C> <C>
One- to four-family real estate
mortgage........................... $ 18,559 $ 35,893 $ 54,452
Multi-family....................... 955 831 1,786
Non-residential real estate........ 8,210 7,371 15,581
Construction....................... 1,938 1,566 3,504
Consumer........................... - 11,488 11,488
Commercial......................... 3,069 2,190 5,259
------- ------- -------
Total.......................... $ 32,731 $ 59,339 $ 92,070
======== ======== ========
</TABLE>
One- to Four-Family Residential Loans. The Bank's primary lending
activity consists of the origination of one- to four-family residential mortgage
loans secured by property located in the Bank's primary market areas. The Bank's
one- to four-family residential loan portfolio also includes second mortgage
loans and home equity loans secured by second mortgages. The Bank generally
originates owner-occupied one- to four-family residential mortgage loans in
amounts up to 80% of the lesser of the appraised value or selling price of the
mortgaged property without requiring mortgage insurance. The Bank will originate
a mortgage loan in an amount up to 95% of the lesser of the appraised value or
selling price of a mortgaged property, however, mortgage insurance is required
for the amount in excess of 80% of such value. Non-owner-occupied residential
mortgage loans are originated up to 80% of the lesser of the appraised value or
selling price of the property. The Bank also originates construction permanent
loans on one- to four-family residences. The Bank retains most of the mortgage
loans that it originates. Adjustable-rate mortgage loans, which can adjust
annually or every three or five years over the life of the loan depending on the
type of the loan, can have maturities of up to 30 years. Fixed-rate loans can
have maturities of up to 30 years depending on the type of the loan.
For all adjustable-rate mortgage loans, the Bank requires the borrower
to qualify at the initial rate. The Bank's adjustable-rate mortgage loans
provide for periodic interest rate adjustments of plus or minus 1% to 2% with a
maximum adjustment over the term of the loan as set forth in the loan agreement
5
<PAGE>
and usually ranges from 6% to 7% above the initial interest rate depending on
the terms of the loan. Adjustable-rate mortgage loans reprice every year, every
three years or every five years, and provide for terms of up to 30 years with
most loans having terms of between 15 and 30 years. The Bank offers
adjustable-rate loans with initial interest rates set below the fully indexed
rate.
The Bank offers adjustable-rate mortgage loans indexed to the weekly
average of the one year U.S. Treasury bill. Interest rates charged on mortgage
loans are competitively priced based on market conditions and the Bank's cost of
funds. Generally, the Bank's standard underwriting guidelines for mortgage loans
conform to the Federal Home Loan Mortgage Corporation ("FHLMC") guidelines and
most of the Bank's loans are salable in the secondary market. It is the current
policy of the Bank to remain a portfolio lender for its adjustable rate loans.
Adjustable-rate mortgage loans decrease the risks associated with
changes in interest rates by more closely reflecting these changes, but involve
other risks because as interest rates increase, the underlying payments by the
borrower increase, thus increasing the potential for default. At the same time,
the marketability of the underlying collateral may be adversely affected by
higher interest rates. Upward adjustment of the contractual interest rate is
also limited by the adjustable-rate mortgage loan documents, thereby potentially
limiting their effectiveness during periods of rising interest rates. These
risks have not had an adverse effect on the Bank.
Non-residential Real Estate Loans. Non-residential real estate loans
consist of loans made for the purpose of purchasing or refinancing the
non-residential real estate used as collateral and includes loans secured by
mixed residential and commercial use property, professional office buildings,
churches and restaurants. Loans secured by non-residential property may be
originated in amounts up to 80% of the appraised value for a maximum term of 20
years. Non-residential lending entails significant additional risks when
compared with one- to four-family residential lending. For example,
non-residential loans typically involve larger loan balances to single borrowers
or groups of related borrowers, the payment experience on such loans typically
is dependent on the successful operation of the project and these risks can be
significantly impacted by the cash flow of the borrowers and supply and demand
conditions in the market for commercial office, retail and warehouse space.
Consumer Loans. The Bank offers consumer loans in order to provide a
wider range of financial services to its customers. Federal savings associations
are permitted to make secured and unsecured consumer loans up to 35% of their
assets. In addition, savings associations have lending authority above the 35%
limitation for certain consumer loans, such as home improvement, credit card,
education, savings account or passbook loans. The Bank originates automobile
loans with terms of up to 6 years for new automobiles and up to 5 years for used
automobiles. Most of these automobile loans are originated directly by the Bank.
The Bank originates automobile loans indirectly by purchasing such loans from
automobile dealers with whom the Bank provides floor plan financing. Indirect
automobile loans are underwritten by the Bank and a fee is remitted to the
automobile dealer upon the successful underwriting and closing of the loan. The
fee is rebated to the Bank, on a pro rata basis, if the loan is repaid within
the first six months. The Bank does not have recourse against the automobile
dealer in the event of a default by the borrower. Each indirect auto loan is
originated in accordance with its underwriting standards and procedures, which
are intended to assess the applicant's ability to repay the amounts due on the
loan and the adequacy of the financed vehicle as collateral.
Commercial Loans. Commercial loans, other than commercial real estate
loans, consist of, among other things, commercial lines of credit (which include
automobile floor plan lines of credit), commercial vehicle loans, and working
capital loans and are typically secured by residential or commercial property,
receivables or inventory, vehicles comprising the automobile floor plan, or some
6
<PAGE>
other form of collateral. Floor plan financing involves continuing financing for
an automobile dealer that is secured by automobiles physically located on the
dealer's lot. The Bank holds the title to the automobiles during the pendency of
the sale. Floor plan financing typically involves high loan origination volume
and repayment within 90 days of origination.
Construction Loans. The Bank makes construction loans primarily for the
construction of single-family dwellings. Approximately 90% of these loans were
made to persons who are constructing properties for the purpose of occupying
them. Such loans may also be made to builders to construct properties for sale.
Loans made to builders are generally "pure construction" loans which require the
payment of interest at fixed rates during the construction period and the
payment of the principal in full at the end of the construction period. Loans
made to individual property owners are either pure construction loans or
"construction-permanent" loans which generally provide for the payment of
interest only during a construction period, after which the loans convert to a
permanent loan at fixed or adjustable interest rates having terms similar to
other one- to four-family residential loans.
Construction loans made to builders who are building to resell have a
maximum loan-to-value ratio of 80% of the appraised value of the property.
Construction loans to individuals who intend to occupy the finished premises
generally have a maximum loan-to-value ratio of 80%.
Loan Approval Authority and Underwriting. The Bank has established
various lending limits for its officers and maintains a Loan Committee. A report
of all mortgage loans originated is presented to the Board of Directors monthly.
The President and Senior Vice President of the Bank each have the authority to
approve applications for mortgage loans up to $100,000, consumer loans up to
$40,000 for secured loans and up to $10,000 for unsecured loans. Six other
officers have authority to approve secured credit applications in varying
amounts up to $35,000.
The Loan Committee considers all applications for commercial loans up
to $250,000, whether secured or unsecured, and all consumer loans in amounts
above the lending limit established above. All loans in excess of those limits
set for the Loan Committee require the consideration and approval of the entire
Board of Directors.
Upon receipt of a completed loan application from a prospective
borrower, a credit report is generally ordered, income and certain other
information is verified and, if necessary, additional financial information is
requested. An appraisal from a licensed fee appraiser of the real estate
intended to be used as security for the proposed loan is obtained. For
construction/permanent loans, funds advanced during the construction phase are
held in a loan-in-process account and disbursed based upon various stages of
completion in accordance with the results of inspection reports that are based
upon physical inspection of the construction by a loan officer. For real estate
loans, each title is reviewed by the attorney for the Bank to determine that
title is clear. Historically, the Bank has not required title insurance except
in those instances where the attorney has seen a need for title insurance.
Borrowers must also obtain fire and casualty insurance (for loans on property
located in a flood zone, flood insurance is required) prior to the closing of
the loan. The Bank is named as mortgagee/loss payee of this insurance.
Loan Commitments. The Bank issues written commitments to prospective
borrowers on all approved mortgage loans which generally expire within 30 days
of the date of issuance. The Bank charges no commitment fees or points to secure
commitments. A customer may lock in a fixed rate for 30 days by depositing a
nonrefundable fee with the Bank. In some instances, after a review of the rate,
terms, and circumstances, commitments may be renewed or extended beyond the 30
day limit. At June 30, 1998, the Bank had $3,515,000 of outstanding commitments
to originate loans and $2,971,000 in undisbursed funds related to construction
loans.
7
<PAGE>
Loans to One Borrower. SAIF-insured savings bank are subject to certain
lending limitations to a single borrower or group of borrowers. Under current
law, the Bank's lending limits equals an amount equal to 15% of unimpaired
capital and unimpaired surplus on an unsecured basis and an additional amount
equal to 10% of unimpaired capital and unimpaired surplus if the loan is secured
by readily marketable collateral. Savings associations are authorized to make
loans to one borrower, for any purpose, in an amount up to $500,000. The Bank's
maximum loan-to-one borrower limit was approximately $2,300,000 million at June
30, 1998. At June 30, 1998, the aggregate loans outstanding of the Bank's three
largest borrowers have outstanding balances of between $1,067,000 and
$1,609,000, and were secured by property in the Bank's market area. These loans
were performing in accordance with their contractual terms and were within the
Bank's lending limit.
Non-Performing and Problem Assets
Loan Delinquencies. The Bank's collection procedures provide that when
a mortgage loan is 30 days past due, a delinquent notice is sent to the borrower
and a late charge is imposed in accordance with the mortgage or Deed of Trust
agreement. If payment is still delinquent after 90 days, the borrower will
receive a notice of default establishing a date by which the borrower must bring
the account current or foreclosure proceedings will be instituted. Late charges
are also imposed in accordance with the mortgage or Deed of Trust agreement. If
the delinquency continues, similar subsequent efforts are made to eliminate the
delinquency. If the loan continues in a delinquent status for 90 days past due
and no repayment plan is in effect, the account is turned over to an attorney
for foreclosure. Management meets regularly to determine when foreclosure
proceedings should be initiated and the borrower is notified when foreclosure
has been commenced.
Loans are reviewed on a monthly basis and are placed on non-accrual
status when considered doubtful of collection by management. Generally, loans
past due 90 days or more as to principal or interest and, in the opinion of
management, are not adequately secured to insure the collection of the entire
outstanding balance of the loan including accrued interest are placed on
non-accrual status. Interest accrued and unpaid at the time a loan is placed on
non-accrual status is charged against interest income. Subsequent cash payments
are generally applied to interest income unless, in the opinion of management,
the collection of principal and interest is doubtful. In those cases, subsequent
cash payments would be applied to principal.
8
<PAGE>
Non-Performing Assets. The following table sets forth information
regarding non-accrual loans, real estate owned, and certain other repossessed
assets and loans. As of the dates indicated, the Bank had no loans categorized
as troubled debt restructuring within the meaning of SFAS 15.
<TABLE>
<CAPTION>
At June 30,
-------------------------
1998 1997
------ ------
(Dollars in Thousands)
<S> <C> <C>
Loans accounted for on a non-accrual basis:
Mortgage loans:
One- to four-family................................. $ 185 $ 76
Multi-family........................................ - -
Non-residential..................................... - 77
Construction........................................ - -
Consumer.............................................. 2 2
Commercial............................................ 96 -
----- -----
Total non-accrual loans........................... 283 155
----- -----
Accruing loans greater than 90 days past due:
Mortgage loans:
One- to four-family............................... - 26
Multi-family...................................... - --
Commercial........................................ - --
Construction...................................... - --
Consumer.............................................. 169 268
Commercial............................................ - 159
----- -----
Total accruing loans greater than 90 days past due.... 169 453
----- -----
Total non-performing loans............................ 452 608
Real estate acquired in settlement of loans........... 76 -
Other non-performing assets........................... 13 -
----- -----
Total non-performing assets........................... $ 541 $ 608
===== =====
Total non-performing loans to total loans............. 0.46% .70%
===== =====
Total non-performing loans to total assets............ 0.40% 0.58%
===== =====
Total non-performing assets to total assets........... 0.47% 0.58%
===== =====
</TABLE>
Interest income that would have been recorded on loans accounted for on
a non-accrual basis under the original terms of such loans was $26,000 for the
year ended June 30, 1998 and $11,000 was collected and included in the Bank's
interest income from non-accrual loans for the year ended June 30, 1998.
Classified Assets. OTS regulations provide for a classification system
for problem assets of insured institutions. Under this classification system,
problem assets of insured institutions are classified as "substandard,"
"doubtful," or "loss." An asset is considered substandard if it is inadequately
protected by the current net worth and paying capacity of the obligor or of the
collateral pledged, if any. Substandard assets include those characterized by
the "distinct possibility" that the insured institution will sustain "some loss"
if the deficiencies are not corrected. Assets classified as doubtful have all of
the weaknesses inherent in those classified as substandard, with the added
characteristic that the weaknesses present make "collection or liquidation in
full," on the basis of currently existing facts, conditions, and values, "highly
questionable and improbable." Assets classified as loss are those considered
"uncollectible" and of such little value that their continuance as assets
without the establishment of a
9
<PAGE>
specific loss reserve is not warranted. Assets may be designated "special
mention" because of potential weakness that does not currently warrant
classification in one of the aforementioned categories.
When an insured institution classifies problem assets as either
substandard or doubtful, it may establish general allowances for loan losses in
an amount deemed prudent by management. General allowances represent loss
allowances which have been established to recognize the inherent risk associated
with lending activities, but which, unlike specific allowances, have not been
allocated to particular problem assets. When an insured institution classifies
problem assets as loss, it is required either to establish a specific allowance
for losses equal to 100% of that portion of the asset so classified or to charge
off such amount. An institution's determination as to the classification of its
assets and the amount of its valuation allowances is subject to review by the
OTS, which may order the establishment of additional general or specific loss
allowances. A portion of general loss allowances established to cover possible
losses related to assets classified as 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.
In accordance with its classification of assets policy, the Bank
regularly reviews the problem assets in its portfolio to determine whether any
assets require classification in accordance with applicable regulations. On the
basis of management's review of its assets, at June 30, 1998, the Bank had
classified $227,000 of assets as substandard, $131,000 of assets as doubtful,
$49,000 of assets as loss, and $555,000 of assets as special mention.
Real Estate Acquired in Settlement of Loans. Real estate acquired by
the Bank as a result of foreclosure or by deed in lieu of foreclosure is
classified as real estate owned until it is sold. When property is acquired, it
is recorded at the fair value at the date of foreclosure less estimated costs of
disposition.
Allowances for Loan Losses. It is management's policy to provide for
losses on unidentified loans in its loan portfolio. A provision for loan losses
is charged to operations based on management's evaluation of the losses that may
be incurred in the Bank's loan portfolio. Such evaluation, which includes a
review of all loans of which full collectibility of interest and principal may
not be reasonably assured, considers 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, any
existing guarantees, past performance of the loan, available documentation for
the loan, legal impediments to collection, financial condition of the borrower,
and current economic conditions.
Management will continue to review the entire loan portfolio to
determine the extent, if any, to which further additional loss provisions may be
deemed necessary. There can be no assurance that the allowance for losses will
be adequate to cover losses which may in fact be realized in the future and that
additional provisions for losses will not be required.
10
<PAGE>
The following table sets forth information with respect to the Bank's
allowance for loan losses at the dates indicated:
<TABLE>
<CAPTION>
Year Ended June 30,
-----------------------------
1998 1997
--------- -------
(Dollars in Thousands)
<S> <C> <C>
Total loans outstanding................................................ $100,765 $88,413
======= ======
Average loans outstanding.............................................. $ 93,708 $83,694
======= ======
Allowance balance (at beginning of period)............................. $ 368 $ 325
Provision:
Mortgages............................................................ 178 31
Consumer............................................................. 40 10
Commercial........................................................... 36 10
Charge-offs:
Mortgages............................................................ (6) (1)
Consumer............................................................. (34) (18)
Commercial........................................................... (118) --
Recoveries:
Mortgages............................................................ -- 3
Consumer............................................................. 14 5
Commercial........................................................... - 3
------- -------
Allowance balance (at end of period)................................... $ 478 $ 368
======= =======
Allowance for loan losses as a percent of total loans outstanding...... 0.47 % 0.42 %
Net loans charged off as a percent of average loans outstanding........ (0.19)% (0.02)%
</TABLE>
11
<PAGE>
Analysis of the Allowance for Loan Losses
The following table sets forth the allocation of the allowance by
category, which management believes can be allocated only on an approximate
basis. The allocation of the allowance to each category is not necessarily
indicative of future loss and does not restrict the use of the allowance to
absorb losses in any category.
<TABLE>
<CAPTION>
June 30,
---------------------------------------------------------------
1998 1997
------------------------------- -----------------------------
Percent of Percent of
Loans in Loans in
Each Each
Category Category
to Total to Total
Amount Loans Amount Loans
------ ----- ------ -----
(Dollars in Thousands)
<S> <C> <C> <C> <C>
Mortgages:
One- to four-family................. $ 128 58.91% $ 83 65.32%
Multi-family........................ 11 1.77 8 1.80
Non-residential .................... 89 15.46 65 12.99
Construction........................ -- 4.98 -- 2.78
Consumer............................ 102 12.25 82 13.18
Commercial.......................... 148 6.63 130 3.93
------- ---- ------ -------
Total............................ $ 478 100.00% $ 368 100.00%
======= ====== ====== ======
</TABLE>
Investment Activities and Mortgage-Backed Securities
General. The Bank is required under federal regulations to maintain a
minimum amount of liquid assets which may be invested in specified short term
securities and certain other investments. The Bank has maintained a liquidity
portfolio in excess of regulatory requirements. Liquidity 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 future yield levels,
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. The Bank classifies
its investments as securities available for sale or investments securities held
to maturity in accordance with SFAS No. 115. At June 30, 1998, the Bank's
investment portfolio policy allowed investments in instruments such as U.S.
Treasury obligations, U.S. federal agency or federally sponsored agency
obligations, municipal obligations, mortgage-backed securities, banker's
acceptances, certificates of deposit, federal funds, including FHLB overnight
and term deposits (up to six months), as well as investment grade corporate
bonds, commercial paper and the mortgage derivative products described below.
The Board of Directors may authorize additional investments.
The Bank's securities available for sale and investment securities held
to maturity portfolios at June 30, 1998 did not contain securities of any issuer
with an aggregate book value in excess of 10% of the Bank's equity, excluding
those issued by the United States Government or its agencies.
12
<PAGE>
Mortgage-Backed Securities. To supplement lending activities, the Bank
has invested in residential mortgage-backed securities. Mortgage-backed
securities can serve as collateral for borrowings and, through repayments, as a
source of liquidity. Mortgage-backed securities represent a participation
interest in a pool of single-family or other type of mortgages, the principal
and interest payments on which are passed from the mortgage originators, through
intermediaries (generally quasi-governmental agencies) that pool and repackage
the participation interests in the form of securities, to investors such as the
Bank. Such quasi-governmental agencies, which guarantee the payment of principal
and interest to investors, primarily include Federal Home Loan Mortgage
Corporation ("FHLMC"), Government National Mortgage Association ("GNMA"), and
Federal National Mortgage Association ("FNMA").
The Bank's mortgage-backed securities were classified as held to
maturity at June 30, 1998 and were all issued by GNMA or FHLMC, representing
participating interests in direct pass-through pools of long-term mortgage loans
originated and serviced by the issuers of the securities. Expected maturities
will differ from contractual maturities due to scheduled repayments and because
borrowers may have the right to call or prepay obligations with or without
prepayment penalties.
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 are within a range and have varying maturities. The
underlying pool of mortgages can be composed of either fixed-rate or
adjustable-rate mortgage loans. Mortgage-backed securities are generally
referred to as mortgage participation certificates or pass-through certificates.
As a result, the interest rate risk characteristics of the underlying pool of
mortgages (i.e., fixed-rate or adjustable-rate), as well as prepayment risk, are
passed on to the certificate holder. The life of a mortgage-backed pass-through
security is equal to the life of the underlying mortgages. Mortgage-backed
securities issued by FHLMC and GNMA make up a majority of the pass-through
certificates market.
Investment Activities
Investment Portfolio. The following table sets forth the carrying value
of the Bank's securities at the dates indicated.
<TABLE>
<CAPTION>
At June 30,
-------------------------
1998 1997
------- -------
(Dollars in Thousands)
<S> <C> <C>
U.S. Treasury and other U.S. Government agency securities........ $ 1,746 $ 7,844
Securities available for sale.................................... 264 55
Mortgage-backed securities....................................... 339 367
Interest-bearing deposits in other financial institutions........ 7,749 5,888
FHLB Stock....................................................... 622 577
------ -------
Total.......................................................... $10,720 $14,731
====== ======
</TABLE>
13
<PAGE>
The following table sets forth information regarding the scheduled
maturities, carrying values, market value and weighted average yields for the
Bank's investment securities portfolio at June 30, 1998. The following table
does not take into consideration the effects of scheduled repayments or the
effects of possible prepayments.
<TABLE>
<CAPTION>
At June 30, 1998
------------------------------------------------------------------------------------------------------
Less than 1 to Over 5 to Over 10 Total
1 year 5 years 10 years years Securities
----------------- ----------------- ---------------- ----------------- -------------------------
Carrying Average Carrying Average Carrying Average Carrying Average Carrying Market
Value Yield Value Yield Value Yield Value Yield Value Yield Value
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
U.S. Treasury and other
U.S. Government
agency securities...........$ 245 5.88% $ 1,001 6.63% $ 500 6.75% $ - -% $ 1,746 6.56% $ 1,753
Securities available for
sale........................ 249 1.98 - - 15 11.16 - - 264 2.48 264
Mortgage-backed
securities.................. - - - - - - 339 9.42 339 9.42 364
Interest-bearing deposits
in other financial
institutions................ 7,749 6.11 - - - - - - 7,749 6.11 7,749
FHLB stock (1)................ 622 6.50 - - - - - - 622 6.50 622
------ ------ ----- ---- ------ ------
Total.......................$ 8,865 6.02% $ 1,001 6.63% $ 515 6.88% $ 339 9.42% $10,720 6.22% $10,752
====== ===== ====== ====== ===== ====== ==== ===== ====== ===== ======
</TABLE>
- ----------------------------
(1) Recorded at cost.
14
<PAGE>
Sources of Funds
General. Deposits are the major external source of the Bank's funds for
lending and other investment purposes. The Bank derives funds from amortization
and prepayment of loans and, to a much lesser extent, maturities of investment
securities, borrowings, mortgage-backed securities and operations. Scheduled
loan principal repayments are a relatively stable source of funds, while deposit
inflows and outflows and loan prepayments are significantly influenced by
general interest rates and market conditions.
Deposits. Consumer and commercial deposits are attracted principally
from within the Bank's primary market area through the offering of a selection
of deposit instruments including regular savings accounts, money market
accounts, and term certificate accounts. Deposit account terms vary according to
the minimum balance required, the time period the funds must remain on deposit,
and the interest rate, among other factors. At June 30, 1998, the Bank had no
brokered accounts.
Time Deposits. The following table indicates the amount of the Bank's
time deposits of $100,000 or more by time remaining until maturity as of June
30, 1998.
Maturity Period Time Deposits
--------------- -------------
(Dollar in Thousands)
Within three months.......................... $ 1,371
More than three through six months........... 1,281
More than six through nine months............ 2,730
Over nine months............................. 4,380
------
Total............................... $ 9,762
======
Borrowings
The Bank may obtain advances from the FHLB of Pittsburgh to supplement
its supply of lendable funds. Advances from the FHLB of Pittsburgh are typically
secured by a pledge of the Bank's stock in the FHLB of Pittsburgh and a portion
of the Bank's first mortgage loans and certain other assets. Each FHLB credit
program has its own interest rate, which may be fixed or variable, and range of
maturities. The Bank, if the need arises, may also access the Federal Reserve
Bank discount window to supplement its supply of lendable funds and to meet
deposit withdrawal requirements.
15
<PAGE>
The following table sets forth information concerning borrowings during
the periods indicated.
Year Ended June 30,
-------------------
1998 1997
---- ----
(Dollars In Thousands)
FHLB advances:
Ending Balance................................. $10,000 $7,747
Average Balance during year ................... 9,716 7,329
Maximum month-end balance during the year...... 11,727 8,267
Average interest rate during the year.......... 5.20% 5.43%
Weighted average rate at year end.............. 5.32% 5.73%
Employees
At June 30, 1998 the Bank had 49 full-time and 2 part-time employees.
None of the Bank's employees are represented by a collective bargaining group.
The Bank believes that its relationship with its employees is good.
Regulation
Set forth below is a brief description of certain laws which related to
the regulation of the Company and the Bank. The description does not purport to
be complete and is qualified in its entirety by reference to applicable laws and
regulations.
Company Regulation
General. The Company is a unitary savings and loan holding company
subject to regulatory oversight by the OTS. As such, the Company is required to
register and file reports with the OTS and is subject to regulation and
examination by the OTS. In addition, the OTS has enforcement authority over the
Company and its non-savings association subsidiaries, should such subsidiaries
be formed, which also permits the OTS to restrict or prohibit activities that
are determined to be a serious risk to the subsidiary savings association. This
regulation and oversight is intended primarily for the protection of the
depositors of the Bank and not for the benefit of stockholders of the Company.
Qualified Thrift Lender Test. As a unitary savings and loan holding
company, the Company generally is not subject to activity restrictions, provided
the Bank satisfies the Qualified Thrift Lender ("QTL") test. If the Company
acquires control of another savings association as a separate subsidiary, it
would become a multiple savings and loan holding company, and the activities of
the Company and any of its subsidiaries (other than the Bank or any other
SAIF-insured savings association) would become subject to restrictions
applicable to bank holding companies unless such other associations each also
qualify as a QTL and were acquired in a supervisory acquisition. See "-
Regulation of the Bank Qualified Thrift Lender Test."
16
<PAGE>
Regulation of the Bank
General. As a federally chartered, SAIF-insured savings association,
the Bank is subject to extensive regulation by the OTS and the FDIC. Lending
activities and other investments must comply with various federal statutory and
regulatory requirements. The Bank is also subject to certain reserve
requirements promulgated by the Federal Reserve Board.
The OTS, in conjunction with the FDIC, regularly examines the Bank and
prepares reports for the consideration of the Bank's Board of Directors on any
deficiencies that are found in the Bank's operations. The Bank's relationship
with its depositors and borrowers is also regulated to a great extent by federal
and state law, especially in such matters as the ownership of savings 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 savings institutions. This regulation and supervision
establishes a comprehensive framework of activities in which an institution can
engage and is intended primarily for the protection of the SAIF and depositors.
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.
Under separate proposed legislation, Congress is considering the
elimination of the federal thrift charter and the separate federal regulation of
thrifts. As a result, the Bank might have to convert to a different financial
institution charter and be regulated under federal law as a bank, including
being subject to the more restrictive activity limitations imposed on national
banks. The Bank cannot predict the impact of its conversion to, or regulation
as, a bank until the legislation requiring such change is enacted.
Insurance of Deposit Accounts. The Bank's deposit accounts are insured
by the SAIF to a maximum of $100,000 for each insured member (as defined by law
and regulation). Insurance of deposits may be terminated by the FDIC upon a
finding that the institution has engaged in unsafe or unsound practices, is in
an unsafe or unsound condition to continue operations, or has violated any
applicable law, regulation, rule, order or condition imposed by the FDIC or the
institution's primary regulator.
As a member of the SAIF, the Bank paid an insurance premium to the FDIC
equal to a minimum of 0.23% of its total deposits. The FDIC also maintains
another insurance fund, the Bank Insurance Fund ("BIF"), which primarily insures
commercial bank deposits. In 1996, the annual insurance premium for most BIF
members was lowered to $2,000. The lower insurance premiums for BIF members
placed SAIF members at a competitive disadvantage to BIF members.
Effective September 30, 1996, federal law was revised to mandate a
one-time special assessment on SAIF members such as the Bank of approximately
.657% of deposits held on March 31, 1995. Beginning January 1, 1997, the deposit
insurance assessment for most SAIF members was reduced to .064% of deposits on
an annual basis through the end of 1999. During this same period, BIF members
will be assessed approximately .013% of deposits. After 1999, assessments for
BIF and SAIF members
17
<PAGE>
should be the same. It is expected that these continuing assessments for both
SAIF and BIF members will be used to repay outstanding Financing Corporation
bond obligations. As a result of these changes, beginning January 1, 1997, the
rate of deposit insurance assessed the Bank declined by approximately 70%.
Regulatory Capital Requirements. OTS capital regulations require
savings institutions to meet three capital standards: (1) tangible capital equal
to 1.5% of total adjusted assets, (2) a leverage ratio (core capital) equal to
at least 3% of total adjusted assets, and (3) a risk-based capital requirement
equal to 8.0% of total risk-weighted assets.
Dividend and Other Capital Distribution Limitations. OTS regulations
require the Bank to give the OTS 30 days advance notice of any proposed
declaration of dividends to the Company, and the OTS has the authority under its
supervisory powers to prohibit the payment of dividends to the Company.
OTS regulations impose limitations upon all capital distributions by
savings institutions, such as cash dividends, payments to repurchase or
otherwise acquire its shares, payments to shareholders of another institution in
a cash-out merger and other distributions charged against capital. The rule
establishes three tiers of institutions, based primarily on an institution's
capital level. An institution that exceeds all fully phased-in capital
requirements before and after a proposed capital distribution ("Tier 1
institution") and has not been advised by the OTS that it is in need of more
than the normal supervision can, after prior notice but without the approval of
the OTS, make capital distributions during a calendar year equal to the greater
of (i) 100% of its net income to date during the calendar year plus the amount
that would reduce by one-half its "surplus capital ratio" (the excess capital
over its fully phased-in capital requirements) at the beginning of the calendar
year, or (ii) 75% of its net income over the most recent four quarter period.
Any additional capital distributions require prior regulatory approval. As of
June 30, 1998, the Bank was a Tier 1 institution. In the event the Bank's
capital fell below its fully phased-in requirement or the OTS notified it that
it was in need of more than normal supervision, the Bank's ability to make
capital distributions could be restricted. In addition, the OTS could prohibit a
proposed capital distribution by any institution, which would otherwise be
permitted by the regulation, if the OTS determines that such distribution would
constitute an unsafe or unsound practice.
Qualified Thrift Lender Test. Savings institutions must meet a QTL
test. If the Bank maintains an appropriate level of Qualified Thrift Investments
(primarily residential mortgages and related investments, including certain
mortgage-related securities) ("QTIs") and otherwise qualifies as a QTL, it will
continue to enjoy full borrowing privileges from the FHLB of Pittsburgh. The
required percentage of QTIs is 65% of portfolio assets (defined as all assets
minus intangible assets, property used by the institution in conducting its
business and liquid assets equal to 10% of total assets). Certain assets are
subject to a percentage limitation of 20% of portfolio assets. In addition,
savings associations may include shares of stock of the FHLBs, FNMA and FHLMC as
qualifying QTIs. An association must be in compliance with the QTL test on a
monthly basis in nine out of every 12 months. As of June 30, 1998, the Bank was
in compliance with its QTL requirement with 75% of its assets invested in QTIs.
Federal Home Loan Bank System. The Bank is a member of the FHLB of
Pittsburgh, which is one of 12 regional FHLBs that administers the home
financing credit function of savings associations. Each FHLB serves as a reserve
or central bank for its members within its assigned region. It is funded
primarily from proceeds derived from the sale of consolidated obligations of the
FHLB System. It makes loans to members (i.e., advances) in accordance with
policies and procedures established by the Board of Directors of the FHLB.
18
<PAGE>
As a member, the Bank is required to purchase and maintain stock in the
FHLB of Pittsburgh in an amount equal to at least 1% of its aggregate unpaid
residential mortgage loans, home purchase contracts or similar obligations or 5%
of its outstanding borrowings to the FHLB of Pittsburgh, at the beginning of
each year.
Liquidity Requirements. All savings associations are required to
maintain an average daily balance of liquid assets equal to a certain percentage
of the sum of its average daily balance of net withdrawable deposit accounts and
borrowings payable in one year or less. The liquidity requirement may vary from
time to time (between 4% and 10%) depending upon economic conditions and savings
flows of all savings associations. At June 30, 1998, the Bank's required liquid
asset ratio was 10.8%.
Federal Reserve System. The Federal Reserve Board requires all
depository institutions to maintain non-interest bearing reserves at specified
levels against their transaction accounts (primarily checking, NOW, and Super
NOW checking accounts) and non-personal time deposits. The balances maintained
to meet the reserve requirements imposed by the Federal Reserve Board may be
used to satisfy the liquidity requirements that are imposed by the OTS. At June
30, 1998, the Bank was in compliance with these Federal Reserve Board
requirements.
Item 2. Description of Property
- -------------------------------
(a) Properties.
The Bank operates from its main office and two branch office.
Year Leased
Location Leased or Owned or Acquired
- -------- --------------- -----------
1015 Commerce Street Owned 1984
Wellsburg, West Virginia
OFFICES:
1409 Main Street Leased (1) 1996
Follansbee, West Virginia
805 Main Street
Wintersville, Ohio Leased (2) 1997
- -----------------------
(1) The Bank holds a 40 year lease on the land upon which its branch office is
located. The Bank owns the branch building. In addition, the Bank owns
property at 901 Main Street, Follansbee, West Virginia, which was formerly
a branch office.
(2) The Wintersville office opened June 8, 1998. The Bank holds a ten year
lease (with two five year renewal options) on the land upon which its
branch office is located. The Bank owns the branch building.
19
<PAGE>
(b) Investment Policies.
See "Item 1. Business" above for a general description of the Bank's
investment policies and any regulatory or Board of Directors' percentage of
assets limitations regarding certain investments. The Bank's investments are
primarily acquired to produce income, and to a lesser extent, possible capital
gain.
(1) Investments in Real Estate or Interests in Real Estate. See "Item
1. Business - Lending Activities and - Regulation of the Bank," and "Item 2.
Description of Property."
(2) Investments in Real Estate Mortgages. See "Item 1. Business -
Lending Activities and - Regulation of the Bank."
(3) Investments in Securities of or Interests in Persons Primarily
Engaged in Real Estate Activities. See "Item 1. Business - Lending Activities
and - Regulation of the Bank."
(c) Description of Real Estate and Operating Data.
Not Applicable.
Item 3. Legal Proceedings
- -------------------------
There are various claims and lawsuits in which the Company or the Bank
are periodically involved, such as claims to enforce liens, condemnation
proceedings on properties in which the Bank holds security interests, claims
involving the making and servicing of real property loans, and other issues
incident to the Bank's business. In the opinion of management, no material loss
is expected from any of such pending claims or lawsuits.
Item 4. Submission of Matters to a Vote of Security Holders
- -------------------------------------------------------------
No matter was submitted to a vote of security holders during the fourth
quarter of the fiscal year.
PART II
Item 5. Market for Common Equity and Related Stockholder Matters
- ------------------------------------------------------------------
The information contained under the section captioned "Stock Market
Information" of the Company's Annual Report to stockholders for the fiscal year
ended June 30, 1998 (the "Annual Report") is incorporated herein by reference.
Item 6. Management's Discussion and Analysis or Plan of Operation
- -------------------------------------------------------------------
The information contained in the section captioned "Management's
Discussion and Analysis of Financial Condition and Results of Operations" in the
Annual Report is incorporated herein by reference.
Item 7. Financial Statements
- ------------------------------
The Registrant's financial statements listed under Item 13 are
incorporated herein by reference.
20
<PAGE>
Item 8. Changes in and Disagreements with Accountants On Accounting and
Financial Disclosure.
- --------------------------------------------------------------------------------
Not Applicable.
PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons: Compliance
with Section 16(a) of the Exchange Act.
- --------------------------------------------------------------------------------
The information contained under the sections captioned "Section 16(a)
Beneficial Ownership Reporting Compliance" and "I - Information with Respect to
Nominees for Director, Directors Continuing in Office, and Executive Officers -
Election of Directors" and " - Biographical Information" in the "Proxy
Statement" is incorporated herein by reference.
Item 10. Executive Compensation
- --------------------------------
The information contained in the section captioned "Director and
Executive Officer Compensation" in the Proxy Statement is incorporated herein by
reference.
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 first chart in the section captioned "I -
Information with Respect to Nominees for Director, Directors
Continuing in Office, and Executive Officers" in the Proxy
Statement.
(b) Security Ownership of Management
Information required by this item is incorporated herein by
reference to the first chart in the section captioned "I -
Information with Respect to Nominees for Director, Directors
Continuing in Office, and Executive Officers" in the Proxy
Statement.
(c) Management of the Registrant knows of no arrangements,
including any pledge by any person of securities of the
Registrant, 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" in the Proxy Statement.
Item 13. Exhibits, List, and Reports on Form 8-K
- ------------------------------------------------
(a) Listed below are all financial statements and exhibits filed as
part of this report.
1. The consolidated balance sheets of Advance Financial
Bancorp and Subsidiary as of June 30, 1998 and 1997
and the related consolidated statements of income,
21
<PAGE>
changes in stockholders' equity and cash flows for each of
the years in the two year period ended June 30, 1998,
together with the related notes and the independent
auditors' report of S. R. Snodgrass, A.C. independent
certified public accountants.
2. Schedules omitted as they are not applicable.
3. The following exhibits are included in this Report or
incorporated herein by reference:
(a) List of Exhibits:
<TABLE>
<CAPTION>
<S> <C>
3(i) Certificate of Incorporation of Advance Financial Bancorp *
3(ii) Bylaws of Advance Financial Bancorp ***
4(i) Specimen Stock Certificate *
4(ii) Shareholder Rights Plan **
10 Employment Agreement between the Bank and Stephen M.
Gagliardi ***
10.1 1998 Stock Option Plan ****
10.2 Restricted Stock Plan and Trust Agreement ****
13 Portions of the 1998 Annual Report to Stockholders
21 Subsidiaries of the Registrant (See "Item 1- Description of
Business)
27 Financial Data Schedule (electronic filing only)
</TABLE>
- ---------------------
* Incorporated by reference to the registration statement on Form S-1 (File
No. 333-13021) declared effective by the SEC on November 12, 1996.
** Incorporated by reference to the Form 8-K (File No. 0-21885) filed with the
SEC on July 17, 1997.
*** Incorporated by reference to the June 30, 1997 Form 10KSB filed with the
SEC on September 24, 1997.
**** Incorporated by reference to the Proxy Statement for the Special Meeting of
Stockholders on January 20, 1998 and filed with the SEC on December 12,
1997.
(b) None.
22
<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 as of
September 28, 1998.
ADVANCE FINANCIAL BANCORP
By: /s/Stephen M. Gagliardi
-----------------------------------------------
Stephen M. Gagliardi
President, Chief Executive Officer and Director
(Duly Authorized Representative)
Pursuant to the requirement 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 indicated as of September 28, 1998.
/s/Stephen M.Gagliardi /s/George H. Johnson
- ----------------------------------------------- ---------------------------
Stephen M. Gagliardi George H. Johnson
President, Chief Executive Officer and Director Director
(Principal Executive Officer)
/s/John R. Sperlazza
---------------------------
John R. Sperlazza
Director
/s/Steven D. Martino /s/William E. Watson
- ----------------------------------------------- ---------------------------
Steven D. Martino William E. Watson
Vice President Director
/s/Gary Young /s/James R. Murphy
- ----------------------------------------------- ---------------------------
Gary Young James R. Murphy
Director Director
/s/William B.Chesson
- -----------------------------------------------
William B. Chesson
Director
EXHIBIT 13
<PAGE>
- --------------------------------------------------------------------------------
Advance Financial Bancorp
Corporate Profile
Advance Financial Bancorp (the "Company") is a Delaware corporation
organized in September 1996 at the direction of Advance Financial Savings Bank
(the "Bank") to acquire all of the capital stock that the Bank issued in its
conversion from the mutual to stock form of ownership (the "Conversion"). On
December 31, 1996, the Bank completed the Conversion and became a wholly owned
subsidiary of the Company. The Company is a unitary savings and loan holding
company which, under existing laws, generally is not restricted in the types of
business activities in which it may engage provided that the Bank retains a
specified amount of its assets in housing-related investments. The Company
conducts no significant business or operations of its own other than holding all
of the outstanding stock of the Bank and investing the Company's portion of the
net proceeds obtained in the conversion.
The Bank chartered in 1935 under the name Advance Federal Savings and
Loan of West Virginia, is a federally chartered stock savings bank headquartered
in Wellsburg, West Virginia. The Bank is subject to examination and
comprehensive regulation by the Office of Thrift Supervision and its deposits
are federally insured by the Savings Association Insurance Fund. The Bank is a
member of and owns capital stock in the FHLB of Pittsburgh, which is one of the
12 regional banks in the FHLB System.
The Bank operates a traditional savings bank business, attracting
deposit accounts from the general public and using those deposits, together with
other funds, primarily to originate and invest in loans secured by single-family
residential real estate.
Stock Market Information
The Company's common stock has been traded on the Nasdaq SmallCap
Market under the trading symbol of "AFBC" since it commenced trading in January
1997. The following table reflects high and low bid quotations as published by
NASDAQ. The quotations reflect inter-dealer prices, without retail mark-up,
mark-down, or commission, and may not represent actual transactions.
Dividends
Date High ($) Low ($) Declared ($)
---- -------- ------- ------------
January 1, 1997 - March 31, 1997 14.50 12.25 .08
April 1, 1997 to June 30, 1997 15.13 13.50 .08
July 1, 1997 to September 30, 1997 16.75 14.88 .08
October 1, 1997 to December 31, 1997 17.88 16.50 .08
January 1, 1998 to March 31, 1998 20.88 17.38 .08
April 1, 1998 to June 30, 1998 19.50 17.88 .08
The number of shareholders of record of common stock as of the record
date of August 31, 1998, was approximately 469. This does not reflect the number
of persons or entities who held stock in nominee or "street" name through
various brokerage firms. At September 1, 1998, there were 1,084,450 shares
outstanding. The Company's ability to pay dividends to stockholders is dependent
upon the dividends it receives from the Bank. The Bank may not declare or pay a
cash dividend on any of its stock if the effect thereof would cause the Bank's
regulatory capital to be reduced below (1) the amount required for the
liquidation account established in connection with the Conversion, or (2) the
regulatory capital requirements imposed by the OTS.
Selected Financial Ratios and Other Data
For the Years Ended
June 30,
-----------------------
1998 (%) 1997 (%)
-------- --------
Return on average assets
(net income divided by average total assets)...... 0.78 0.56
Return on average equity
(net income divided by average equity)............ 5.34 4.61
Average equity to average assets ratio
(average equity divided by average total assets).. 14.61 12.03
Equity to assets at period end...................... 13.07 15.42
Net interest rate spread............................ 3.30 3.19
Dividends payout ratio.............................. 37.65 32.65
Net yield on average interest-earnings assets....... 3.98 3.69
Non-performing loans to total assets................ 0.47 0.58
Non-performing loans to total loans................ 0.46 0.70
Allowance for loan losses to non-performing assets.. 88.19 60.53
12
<PAGE>
- -------------------------------------------------------------------------------
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
General
The Company results from operations consist primarily of interest
income from the investing of funds from the proceeds generated by the sale of
common stock and expense incurred in the maintaining of the investment
portfolio. The Bank's results of operations are primarily dependent on its net
interest income, which is the difference between the interest income earned on
its assets, primarily loans and investments, and the interest expense on its
liabilities, primarily deposits and borrowings. Net interest income may be
affected significantly by general economic and competitive conditions and
policies of regulatory agencies, particularly those with respect to market
interest rates. The results of operations are also influenced by the level of
non-interest expenses, such as employee salaries and benefits and other income,
such as loan-related fees and fees on deposit-related services.
Asset/Liability Management
The Bank's net interest income is sensitive to changes in interest
rates, as the rates paid on interest-bearing liabilities generally change faster
than the rates earned on interest-earning assets. As a result, net interest
income will frequently decline in periods of rising interest rates and increase
in periods of decreasing interest rates.
To mitigate the impact of changing interest rates on net interest
income, the Bank manages interest rate sensitivity and asset/liability products
through an asset/liability management committee (the "Committee"). The
asset/liability management committee meets as necessary to determine the rates
of interest for loans and deposits. Rates on deposits are primarily based on the
Bank's need for funds and on a review of rates offered by other financial
institutions in the Bank's market areas. Interest rates on loans are primarily
based on the interest rates offered by other financial institutions in the
Bank's primary market areas as well as the Bank's cost of funds.
In an effort to reduce interest rate risk and protect itself from the
negative effects of rapid or prolonged changes in interest rates, the Bank has
instituted certain asset and liability management measures, including
underwriting long-term fixed rate loans that are saleable in the secondary
market, offering longer term deposit products and diversifying the loan
portfolio into shorter term consumer and commercial business loans. In addition,
since the mid-1980s, the Bank has primarily originated one year, three year and
five year adjustable-rate mortgage loans.
The Committee manages the interest rate sensitivity of the Bank through
the determination and adjustment of asset/liability composition and pricing
strategies. The Committee then monitors the impact of the interest rate risk and
earnings consequences of such strategies for consistency with the Bank's
liquidity needs, growth, and capital adequacy. The Bank's principal strategy is
to reduce the interest rate sensitivity of interest earning assets and attempt
to match the maturities of interest earning assets with interest bearing
liabilities, while allowing for a mismatch in an attempt to increase net
interest income.
Net Portfolio Value
The Bank computes amounts by which the net present value of cash flow
from assets, liabilities and off balance sheet items ("net portfolio value" or
"NPV") would change in the event of a range of assumed changes in market
interest rates. These computations estimate the effect on the Bank's from
instantaneous and permanent 1% to 4% (100 to 400 basis points) increases and
decreases in market interest rates.
13
<PAGE>
- --------------------------------------------------------------------------------
Based upon OTS assumptions, the following table presents the Bank's NPV at June
30, 1997.
Changes in Rates NPV Ratio(1) Change(2)
---------------- ------------ ---------
+400 bp 9.61% (306)bp
+300 bp 10.98 (170)bp
+200 bp 11.98 (69)bp
+100 bp 12.57 (10)bp
0 bp 12.67 -
-100 bp 12.82 14 bp
-200 bp 13.03 36 bp
-300 bp 13.49 82 bp
-400 bp 13.93 126 bp
- -----------------------
(1) Calculated as the estimated NPV divided by present value of total assets.
(2) Calculated as the excess (deficiency) of the NPV ratio assuming the
indicated change in interest rates over the estimated NPV ratio assuming no
change in interest rates.
These calculations indicate that the Bank's net portfolio value could
be adversely affected by increases in interest rates but could be favorably
affected by decreases in interest rates. In addition, the Bank would be deemed
to have more than a normal level of interest rate risk under applicable
regulatory capital requirements.
Computations of prospective effects of hypothetical interest rate
changes are based on numerous assumptions, including relative levels of market
interest rates, prepayments and deposit run-offs and should not be relied upon
as indicative of actual results. Certain shortcomings are inherent in such
computations. Although certain assets and liabilities may have similar maturity
or periods of repricing they may react at different times and in different
degrees to changes in the market interest rates. The interest rates on certain
types of assets and liabilities may fluctuate in advance of changes in market
interest rates, while rates on other types of assets and liabilities may lag
behind changes in market interest rates. Certain assets, such as adjustable rate
mortgages, generally have features which restrict changes in interest rates on a
short term basis and over the life of the asset. In the event of a change in
interest rates, prepayments and early withdrawal levels could deviate
significantly from those assumed in making calculations set forth above.
Additionally, an increased credit risk may result as the ability of many
borrowers to service their debt may decrease in the event of an interest rate
increase.
14
<PAGE>
- --------------------------------------------------------------------------------
Average Balance Sheet
The following table sets forth certain information relating to the
Company's average balance sheet and reflects the average yield on assets and
average cost of liabilities for the periods indicated and the average yields
earned and rates paid. Such yields and costs are derived by dividing income or
expense by the average 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
average balances has caused any material differences in the information
presented.
<TABLE>
<CAPTION>
Year Ended June 30, At June 30,
------------------------------------------------------------------- --------------------
1998 1997 1998
-------------------------------- --------------------------------- --------------------
Average Average Average Average Average
Balance Interest Yield/Cost Balance Interest Yield/Cost Balance Yield/Cost
------- -------- ---------- ------- -------- ---------- ------- ----------
(Dollars in Thousands)
Interest-earning assets:
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Loans receivable(1).................... 93,708 $7,737 8.26% $83,694 $6,769 8.09% $ 97,523 8.21%
Investment securities(2)............... 9,376 640 6.83% 11,040 702 6.36% 10,381 5.99%
Mortgage-backed securities............. 357 33 9.24% 426 39 9.15% 339 9.42%
------- ------- ------ ------- ------ ------ -------- ------
Total interest-earning assets......... 103,441 8,410 8.13% 95,160 7,510 7.89% 108,243 8.00%
------- ------- ------ ------ ----- ------ ------- ------
Non-interest-earning assets............. 5,192 3,545 5,942
------- ------- -------
Total assets.......................... $108,633 $98,705 $114,185
======= ====== =======
Interest-bearing liabilities:
Interest-bearing demand deposits...... $ 15,739 559 3.55% $12,303 390 3.17% $ 17,414 3.16%
Certificates of Deposit............... 48,808 2,814 5.77% 49,101 2,704 5.51% 54,100 5.78%
Savings deposits...................... 14,589 414 2.84% 16,308 506 3.10% 14,878 2.81%
Short-term borrowings................. 9,716 505 5.20% 7,329 398 5.43% 10,000 5.32%
------- ------- ------ ------ ------ ------ ------ ------
Total interest-bearing liabilities... 88,852 4,292 4.83% 85,041 3,998 4.70% 96,392 4.80%
------- ------- ------ ------ ----- ------ ------ ------
Noninterest-bearings liabilities....... 3,907 1,786 2,865
------- ----- -------
Total liabilities...................... 92,759 86,827 99,257
------- ------ -------
Retained earnings....................... 15,874 11,878 14,928
------- ------ -------
Total liabilities and retained earnings $108,633 $98,705 $114,185
======= ====== =======
Net interest income..................... $ 4,118 $3,512
====== =====
Interest rate spread(3)................. 3.30% 3.19% 3.20%
====== ====== ======
Net yield on interest-earning assets(4). 3.98% 3.69% 3.73%
====== ====== ======
Ratio of average interest-earning assets
to average interest-bearing liabilities 116.42% 111.90% 112.29%
====== ====== ======
</TABLE>
- -----------------
(1) Average balances include non-accrual loans.
(2) Includes interest-bearing deposits in other financial institutions and FHLB
stock.
(3) Interest-rate spread represents the difference between the average yield on
interest-earning assets and the average cost of interest-bearing
liabilities.
(4) Net yield on interest-earning assets represents net interest income as a
percentage of average interest-earning assets.
15
<PAGE>
- --------------------------------------------------------------------------------
Rate/Volume Analysis
The table below sets forth certain information regarding changes in
interest income and interest expense of the Company for the periods indicated.
For each category of interest-earning assets and interest-bearing liabilities,
information is provided on changes attributable to (i) changes in volume
(changes in average volume multiplied by old rate) and (ii) changes in rates
(changes in rate multiplied by old average volume). Increases and decreases due
to both rate and volume, which cannot be segregated, have been allocated
proportionately to the change due to volume and the change due to rate.
<TABLE>
<CAPTION>
Year Ended June 30,
-----------------------------------
1998 vs. 1997
-----------------------------------
Increase (Decrease)
Due to
-----------------------------------
Volume Rate Net
------ ------ ------
(Dollars in Thousands)
<S> <C> <C> <C>
Interest income:
Loans receivable........................ $810 $158 $968
Mortgage-backed securities.............. (6) - (6)
Investment securities................... (106) 44 (62)
--- --- --
Total interest-earning assets.......... 698 202 900
--- --- ---
Interest expense:
Interest-bearing demand deposits........ 109 60 169
Certificates of Deposit................. (16) 126 110
Savings deposits........................ (53) (39) (92)
Short-term borrowings................... 130 (23) 107
--- --- ---
Total interest-bearing liabilities..... 170 124 294
--- ---- ---
Net change in interest income............ $528 $ 78 $606
=== === ===
</TABLE>
16
<PAGE>
- --------------------------------------------------------------------------------
Comparison of Financial Condition
The Company had total assets of $114,185,000 at June 30, 1998, an
increase of $9,622,000 or 9.2% from $104,563,000 at June 30, 1997. The increase
in assets was primarily attributable to a strong growth in loans, as well as the
expansion of its market with the addition of the new Wintersville, Ohio branch.
Total cash and cash equivalents increased by $2,292,000 to $9,084,000 at June
30, 1998 from $6,792,000 at June 30, 1997 as management is in the process of
evaluating investment opportunities. Management maintains a level of cash
equivalents which is desirable for meeting normal cash flow requirements of its
customers for the funding of loans and repayment of deposits. Investment
securities decreased $5,889,000, from $7,899,000 at June 30, 1997 to $2,010,000
at June 30, 1998. This decrease resulted from the maturity of $7,100,000 of U.S.
Government and Agency securities classified as the held to maturity, while
management opted to replace only $1,000,000 with similar type securities. Net
loans receivable increased 10,977,000 or 12.7%, from $86,068,000 at June 30,
1997 to $97,045,000 at June 30, 1998. The net increase was primarily
attributable to increases in non-residential mortgages of $4,099,000, commercial
loans of $3,198,000, construction mortgages of $2,563,000, and 1-4 family
mortgages of $1,613,000. Such increases primarily reflected the economic health
of the Bank's market area and the competitive pricing of the Bank's loan
product. The funding of the loan growth was mainly provided by the runoff of
investment securities, an increase in deposits of $8,482,000, and an increase in
FHLB borrowings of $2,253,000. Net office properties and equipment increased
$2,027,000 or 98.6% from $2,056,000 at June 30, 1997 to $4,083,000 at June 30,
1998. This increase is directly related to the purchase of equipment and the
preparation of facilities for the new Wintersville, Ohio branch which opened in
June 1998.
Deposits increased by $8,483,000 or 10.6%, to $88,552,000 at June 30,
1998 from $80,069,000 at June 30, 1997. This increase represents increases in
certificates of deposits of $5,540,000 primarily accumulated with the opening of
the new Wintersville office. Furthermore, there was an increase of $2,953,000
due to a new money market product for balances greater than $10,000 which is
being offered at a preferential rate. To support business development, the
Company obtained funding through additional advances from the FHLB of $2,253,000
or 29.1%, to $10,000,000 at June 30, 1998 from $7,747,000 at June 30, 1997. FHLB
borrowings have staggering maturities which range from one to ten years.
Stockholders' equity decreased $1,197,000 or 7.4%, to $14,928,000 at
June 30, 1998 compared to $16,125,000 at June 30, 1997. This decrease was the
result of purchasing Company stock of $1,001,000 for treasury and $894,000 for
funding the Restricted Stock Plan. The treasury stock was acquired with excess
funds and the future use of such shares is being evaluated by management.
Partially offsetting this decline was an increase of net retained income of
$532,000 and recognition of shares in the Restricted Stock Plan and the Employee
Stock Ownership Plan amounting to $172,000. Through June 30, 1998, the Company
initiated the payment of dividends of $.32 per share, while maintaining capital
ratios well in excess of regulatory guidelines. Future dividend policies will be
determined by the Board of Directors in light of the earnings and financial
condition of the Company, including applicable governmental regulations and
policies.
Comparison of the Results of Operations for the Years Ended June 30, 1998 and
1997
Net Income. Net income for the year ended June 30, 1998 increased $300,000 or
54.7%, to $848,000 from $548,000 for the same period ended 1997 primarily due to
an increase on net interest income of $607,000 coupled a decrease in FDIC
insurance of $525,000 and offset with increases in the compensation and
benefits, provision for loan losses and taxes of $330,000, $202,000,and
$200,000, respectively.
Net Interest Income. The Company's net interest income increased $607,000 or
17.3% to $4,118,000 for the year ended June 30, 1998, due to an increase of
$900,000 or 12.0% in interest income, which totaled $8,410,000 for 1998 as
compared to $7,5 1 0,000 for 1997. The increase in interest income more than
offset the $293,000 or 7.3% increase in interest expense. The interest rate
spread increased from 3.19% for the year ended June 30, 1997 to 3.30% for the
same period ended June 30, 1998.
17
<PAGE>
- --------------------------------------------------------------------------------
Interest Income. The increase in interest income resulted primarily from an
increase in earnings on loans of $968,000 or 14.3%, due to an increase in the
average principal balances of $10,014,000 or 12.0%, from $83,694,000 for the
year ended June 30, 1997 to $93,708,000 for the same period ended June 30, 1998.
This increase was partially reduced by a decline of $62,000 in interest income
on investment securities as the average volume of investments decreased
$1,664,000 or 15.1%. As previously discussed, investment maturities were used to
support the growing loan volume. Furthermore, the yield on interest-earning
assets increased 24 basis points from 7.89% for the year ended June 30, 1997 to
8.13% for the same period ended June 30, 1998 primarily due to maturing of lower
yielding investments.
Total interest expense increased from $3,998,000 for the year ended
June 30, 1997 to $4,292,000 for the same period ended June 30, 1998. The
increased expense was primarily due to an increase in average volume of
interest-bearing demand deposits of $3,436,000 and a corresponding 38 basis
point increase on the cost of these deposits. As noted above, this was
predicated upon the effects of a full year of a new money market product for
balances greater than $10,000 being offered at a preferential rate coupled with
a reduction in the average volume of savings deposits of $1,719,000 as customers
preferred the higher yielding deposit instrument. Also, the average volume of
FHLB advances increased from $7,329,000 as of June 30, 1997 to $9,716,000 for
June 30, 1998 in an effort to meet the demand of an increasing loan environment.
The average cost on interest-bearing liabilities increased slightly from 4.70%
for the year ended June 30, 1997 to 4.83% for the same period ending June 30,
1998.
Provision for loan losses. The provision for loan losses increased from $51,000
as of June 30, 1997 to $253,000 as of June 30,1998 primarily in response to the
growth of the loan portfolio over the past year. Specifically, the Bank's market
area has generated significant growth in the commercial real estate and
commercial loan segments. The level of funding the for provision has increased
$202,000, or 393.3%, and is a reflection of the overall loan demand and is not
an indication of any decline in the quality of the loan portfolio. Although
there is no historical loan loss experience for this segment, management's
evaluation of the loan portfolio and the direction of the market's growth in
this area provided a foundation for increasing its provision for loan losses.
Total loans charged off during the year ended June 30, 1998 totaled $158,000,
with approximately $118,000 or 74.7% relating to one commercial relationship.
Management continually evaluates the adequacy of the allowance for loan losses
which encompasses the overall risk characteristics of the various portfolio
segments, past experience with losses, the impact of economic conditions on
borrowers, and other relevant factors. While asset quality has slightly declined
during this period, management believes that the underlying collateral
supporting such loans provides adequate coverage. The Company maintains a
desirable level in it loan loss provisions based upon the Company's review of
the market, loan portfolio, and overall assessment of the adequacy of the
valuation allowance. There can be no assurances, however, that additional
provisions will not be required in future periods.
Noninterest income. Noninterest income increased by $177,000 or 46.5%, from
$381,000 for the year ended June 30, 1997 to $558,000 for the same period ended
June 30, 1998. Service charges on deposit accounts increased $41,000 or 17.8%,
due to the increase in the volume and number of deposit accounts. In addition,
there was an increase in the gain on sale of loans of $146,000 to $176,000 for
the twelve months ended June 30, 1998 from $30,000 for the same period ended
1997. This was derived from the sale of $6,857,000 of fixed rate mortgage loans.
Noninterest expense. Noninterest expense increased $82,000 or 2.7%, from
$2,972,000 for the year ended June 30, 1997 to $3,054,000 for the same period
ended June 30, 1998. Compensation and benefits increased $330,000 or 32.2%, due
to the hiring of new employees to further diversify the Bank's operations to
meet continually changing customer demands coupled with an increase of $144,000
and $68,000 attributable to the Employee Stock Ownership Plan and Restricted
Stock Plan, respectively. Professional fees increased by $89,000 from $127,000
for the year ended June 30, 1997 to $216,000 for the same period ended 1998 due
to an increase in services for compliance with regulatory requirements and
employee benefit plans. Data processing expense increased $3 1,000 due to both
volume of transactions and an increase in third party costs. Other expense
increased $109,000 or 20.6% as $34,000 was recognized with the adoption of the
Directors' Restricted Stock Plan, and additional increases of $18,000 to ATM
expense for replacement of ATM cards to Debit cards and $17,000 to consumer card
expense associated with the implementation of merchant and credit card programs,
respectively. There were also numerous smaller dollar expenses
18
<PAGE>
- --------------------------------------------------------------------------------
relating to the opening of the new Wintersville, Ohio branch. Offsetting these
increases to noninterest expense is the reduction of deposit insurance premiums
for a one time charge of $470,000 in federal insurance premiums. On September
30, 1996, the President signed into law legislation which included the
recapitalization of the Savings Association Insurance Fund ("SAIF") of the
Federal Deposit Insurance Corporation by a one time charge to SAIF-insured
institutions of 65.7 basis points per one hundred dollars of insurable deposits.
Income Taxes. Income tax expense increased $200,000 or 62.5%, from $321,000 for
the year ended June 30, 1997 to $521,000 for the year ended June 30, 1998, due
to the 57.6% increase in income before income taxes. The effective rate on taxes
as of the year ended June 30, 1998 was 38.0% compared to 36.9% from the same
period ended June 30, 1997.
Liquidity and Capital Resources
The primary sources of funds are deposits, repayment of loans and
mortgage-backed securities, maturities of investments and interest-bearing
deposits, funds provided from operations and advances from the FHLB of
Pittsburgh. While scheduled repayments of loans and mortgage-backed securities
and maturities of investment securities are predictable sources of funds,
deposit flows and loan prepayments are greatly influenced by the general level
of interest rates, economic conditions, and competition. The Bank uses its
resources primarily to fund existing and future loan commitments, maturing
certificates of deposit and demand deposit withdrawals, investments in other
interest-earning assets, maintenance of necessary liquidity, and to meet
operating expenses.
Net cash used for operating activities for the year ended June 30, 1998
was $139,000 as compared to $2,109,000 for the same period ended 1997. This
decrease was primarily the result of an increase in the net origination of loans
held for sale of $2,685,000 and gain on sale of loans of $145,000. These
decreases to net cash used for operating activities were partially offset by an
increases of $300,000 and $202,000 in net income and the provision for loan
losses, respectively.
Net cash used for investing activities for the year ended June 30, 1998
declined $5,322,000 to $6,053,000 from $11,375,000 for the year ended June 30,
1997. This decrease was primarily attributable to a $4,708,000 increase in
proceeds from maturities and repayments of securities coupled with a decrease of
$4,063,000 in purchases of securities. A portion of these funds were used for
the and purchase of equipment and the preparation of facilities for the new
Wintersville branch of $2,061,000, as well as the net funding of loans of
$1,125,000.
Net cash provided from our financing activities for the year ended June
30, 1998 decreased $3,559,000 to $8,483,000 from $12,042,000 for the same period
ended 1997. This decrease consisted of a decline of $9,449,000 from proceeds
from the prior year stock offering and the net decline of $1,118,000 from
advances from the FHLB. Also contributing to this decline was the purchase of
stock for treasury and for benefit plans of $1,001,000 and $894,000,
respectively. Offsetting these net uses of cash was the net increase in deposits
of $9,184,000 due to the new Wintersville branch and the influx of deposits from
a higher yielding money market product.
Liquidity may be adversely affected by unexpected deposit outflows,
excessive interest rates paid by competitors, adverse publicity relating to the
savings and loan industry and similar matters. Further, the disparity in
insurance premiums as described herein could result in the Savings Bank losing
deposits to the Bank Insurance Fund ("BIF") members who have lower costs of
funds and therefore are able to pay higher rates of interest on deposits.
Management monitors projected liquidity needs and determines the level
desirable, based in part on the Bank's commitments to make loans and
management's assessment of the Bank's ability to generate funds.
19
<PAGE>
- --------------------------------------------------------------------------------
Impact of Inflation and Changing Prices
The consolidated financial statements and the accompanying notes
presented elsewhere in this document, have been prepared in accordance with
generally accepted accounting principles, which 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 and
due to inflation. The impact of inflation is reflected in the increased cost of
our operations. As a result, interest rates have a greater impact on our
performance than do the effects of 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.
Year 2000 Evaluation
Rapid and accurate data processing is essential to the Bank's
operations. Many computer programs that can only distinguish the final two
digits of the year entered (a common programming practice in prior years) are
expected to read entries for the year 2000 as the year 1900 or as zero and
incorrectly attempt to compute payment, interest, delinquency and other data.
The Bank has been evaluating both information technology (computer systems) and
non-information technology systems (e.g., vault timers, electronic door lock and
elevator controls). Based upon such evaluations, management has determined that
the Bank has year 2000 risk in three areas: (1) Bank's own computers, (2)
Computers of others used by the Bank's borrowers, and (3) Computers of others
who provide the Bank with data processing.
Bank's own computers. The Bank expects to spend approximately $50,000
through June 30, 1999 to upgrade its computer system. This upgrade is expected
to eliminate the year 2000 risk. The Bank does not expect to have material costs
to address this risk area after June 30, 1999. At June 30, 1998, none of the
estimated $50,000 had been expensed. The Bank expects, though there is no
assurance, to be year 2000 compliant in this risk area be December 31, 1998.
Computers of others used by our borrowers. The Bank has evaluated most
of their borrowers and does not believe that the year 2000 problem should, on an
aggregate basis, impact their ability to make payments to the Bank. The Bank
believes that most of their residential borrowers are not dependent on their
home computers for income and that none of their commercial borrowers are so
large that a year 2000 problem would render them unable to collect revenue or
rent and, in turn, continue to make loan payments to the Bank. The Bank does
expect any material costs to address this risk area and believes they are year
2000 compliant in this risk area.
Computers of others who provide us with data processing. This risk is
primarily focused on one third party service bureau that provides virtually all
of the Bank's data processing. This service bureau is not year 2000 compliant
but has advised the Bank that it expects to be compliant before the year 2000.
If this problem is not solved before the year 2000, the Bank would likely
experience significant delays, mistakes or failures. These delays, mistakes or
failures could have a significant impact on our financial condition and results
of operations.
Contingency Plan. The Bank is monitoring their service bureau to
evaluate whether its data processing system will fail and is being provided with
periodic updates on the status of testing and upgrades being made by the service
bureau. If the Bank service bureau fails, the Bank will attempt to locate an
alternative service bureau that is year 2000 compliant. If the Bank is
unsuccessful, the Bank will enter deposit and loan transactions by hand in their
general ledger and compute loan payments and deposit balances and interest with
its existing computer system. If this labor intensive approach is necessary,
management and employees will become much less efficient. However, the Bank
believes that they would be able to operate in this manner indefinitely, until
their existing service bureau, or their replacement, is able to again provide
data processing services. If very few financial institution service bureaus were
operating in the year 2000, the Bank's replacement costs, assuming the Bank
could negotiate an agreement, could be material.
20
<PAGE>
SNODGRASS
Certified Public Accountants and Consultants
[LOGO]
Report of Independent Auditors
Board of Directors and Stockholders
Advance Financial Bancorp
We have audited the accompanying consolidated balance sheet of Advance Financial
Bancorp and subsidiary as of June 30, 1998 and 1997, and the related
consolidated statements of income, stockholders' equity, and cash flows for the
years then ended. These 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 Advance Financial
Bancorp and subsidiary as of June 30, 1998 and 1997, and the results of their
operations and their cash flows for the years then ended in conformity with
generally accepted accounting principles.
/s/S.R. Snodgrass, A.C.
Steubenville, Ohio
July 21, 1998
21
<PAGE>
ADVANCE FINANCIAL BANCORP
CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
June 30,
1998 1997
------------- -------------
<S> <C> <C>
ASSETS
Cash and cash equivalents:
Cash and amounts due from banks $ 1,334,831 $ 903,981
Interest-bearing deposits with other institutions 7,749,362 5,888,439
------------- -------------
Total cash and cash equivalents 9,084,193 6,792,420
------------- -------------
Investment securities:
Securities held to maturity (market value of $1,753,325
and $7,831,187) 1,745,667 7,844,305
Securities available for sale 264,020 55,051
------------- -------------
Total investment securities 2,009,687 7,899,356
------------- -------------
Mortgage-backed securities held to maturity (market value of
$364,031 and $394,743) 339,362 367,553
Loans held for sale 1,454,700 -
Loans receivable (net of allowance for loan losses of
$477,654 and $367,779) 95,590,197 86,067,848
Premises and equipment, net 4,082,857 2,055,651
Federal Home Loan Bank stock, at cost 622,200 576,700
Accrued interest receivable 617,980 655,667
Other assets 384,237 148,184
------------- -------------
TOTAL ASSETS $ 114,185,413 $ 104,563,379
============= =============
LIABILITIES
Deposits $ 88,551,543 $ 80,069,078
Advances from Federal Home Loan Bank 10,000,000 7,747,449
Advance payments by borrowers for taxes and insurance 193,346 186,738
Accrued interest payable and other liabilities 512,402 435,069
------------- -------------
TOTAL LIABILITIES 99,257,291 88,438,334
------------- -------------
COMMITMENTS AND CONTINGENCIES (NOTE 17)
STOCKHOLDERS' EQUITY
Preferred stock, $.10 par value; authorized 500,000 shares; none issued - -
Common stock, $.10 par value, 2,000,000 shares authorized;
1,084,450 shares issued and outstanding at June 30, 1998 108,445 108,445
Additional paid in capital 10,288,928 10,221,528
Retained earnings - substantially restricted 7,130,056 6,597,836
Unallocated shares held by Employee Stock Ownership Plan (ESOP) (715,158) (796,195)
Unallocated shares held by Restricted Stock Plan (RSP) (869,636) -
Treasury stock (53,802 shares at cost) (1,000,863) -
Net unrealized loss on securities (13,650) (6,569)
------------- -------------
TOTAL STOCKHOLDERS' EQUITY 14,928,122 16,125,045
------------- -------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 114,185,413 $ 104,563,379
============= =============
</TABLE>
See accompanying notes to the consolidated financial statements.
22
<PAGE>
ADVANCE FINANCIAL BANCORP
CONSOLIDATED STATEMENT OF INCOME
<TABLE>
<CAPTION>
Year Ended June 30,
1998 1997
---------- ----------
<S> <C> <C>
INTEREST AND DIVIDEND INCOME
Loans $7,736,893 $6,769,293
Investment securities 303,709 350,885
Interest-bearing deposits with other institutions 298,513 315,346
Mortgage-backed securities 33,087 38,611
Federal Home Loan Bank stock 37,972 35,732
---------- ----------
Total interest and dividend income 8,410,174 7,509,867
---------- ----------
INTEREST EXPENSE
Deposits 3,786,395 3,600,068
Advances from Federal Home Loan Bank 505,356 398,368
---------- ----------
Total interest expense 4,291,751 3,998,436
---------- ----------
NET INTEREST INCOME 4,118,423 3,511,431
Provision for loan losses 253,606 51,414
---------- ----------
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 3,864,817 3,460,017
---------- ----------
NONINTEREST INCOME
Service charges on deposit accounts 268,941 228,239
Gain on sale of loans 175,678 30,420
Gain on sale of real estate - 25,363
Other income 113,398 96,849
---------- ----------
Total noninterest income 558,017 380,871
---------- ----------
NONINTEREST EXPENSE
Compensation and employee benefits 1,357,826 1,027,355
Occupancy and equipment 373,455 348,597
Deposit insurance premiums 52,538 577,226
Professional fees 215,805 126,603
Advertising 121,155 99,404
Data processing 295,323 264,432
Other operating expenses 637,725 528,623
---------- ----------
Total noninterest expense 3,053,827 2,972,240
---------- ----------
Income before income taxes 1,369,007 868,648
Income taxes 520,797 320,510
---------- ----------
NET INCOME $ 848,210 $ 548,138
========== ==========
EARNINGS PER SHARE (from December 31, 1996, conversion date):
Basic $ .85 $ .49
Diluted $ .85 $ .49
</TABLE>
See accompanying notes to the consolidated financial statements.
23
<PAGE>
ADVANCE FINANCIAL BANCORP
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
Net
Retained Unrealized
Additional Earnings Unallocated Unallocated Gain/(Loss) Total
Common Paid In Substantially Shares Held Shares Held Treasury on Stockholders'
Stock Capital Restricted By ESOP By RSP Stock Securities Equity
-------- ----------- ---------- --------- --------- ----------- -------- -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance, June 30, 1996 $ - $ - $6,209,329 $ - $ - $ - $(9,450) $ 6,199,879
Net income 548,138 548,138
Sale of common stock 108,445 10,207,689 (867,560) 9,448,574
Release of earned
ESOP shares 13,839 71,365 85,204
Net unrealized
gain on securities 2,881 2,881
Cash dividends
declared
($.16 per share) (159,631) (159,631)
-------- ----------- ---------- --------- --------- ----------- -------- -----------
Balance, June 30, 1997 108,445 10,221,528 6,597,836 (796,195) - - (6,569) 16,125,045
Net income 848,210 848,210
Purchase of
treasury stock (1,000,863) (1,000,863)
Purchase of
stock for RSP (893,587) (893,587)
Accrued compensation
expense for RSP 67,583 67,583
RSP forfeited shares (43,632) (43,632)
Release of earned
ESOP shares 67,400 81,037 148,437
Net unrealized
loss on securities (7,081) (7,081)
Cash dividends declared
($.32 per share) (315,990) (315,990)
-------- ----------- ---------- --------- --------- ----------- -------- -----------
Balance, June 30, 1998 $108,445 $10,288,928 $7,130,056 $(715,158) $(869,636) $(1,000,863) $(13,650) $14,928,122
======== =========== ========== ========= ========= =========== ======== ===========
</TABLE>
See accompanying notes to the consolidated financial statements.
24
<PAGE>
ADVANCE FINANCIAL BANCORP
CONSOLIDATED STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
Year Ended June 30,
1998 1997
------------ ------------
<S> <C> <C>
OPERATING ACTIVITIES
Net income $ 848,210 $ 548,138
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation, amortization and accretion, net 111,943 151,942
Provision for loan losses 253,606 51,414
Gain on sale of real estate - (25,363)
Gain on sale of loans (175,678) (30,420)
Origination of loans held for sale (8,136,349) (2,805,769)
Proceeds from the sale of loans 6,857,327 4,211,323
Decrease (increase) in accrued interest receivable 37,687 (134,480)
Increase in accrued interest payable 10,029 10,797
Other, net 10,612 131,191
------------ ------------
Net cash provided by (used for) operating activities (182,613) 2,108,773
------------ ------------
INVESTING ACTIVITIES
Investment securities held to maturity:
Purchases (1,000,000) (5,294,498)
Maturities and repayments 7,100,000 2,250,000
Investment securities available for sale:
Purchases (231,875) -
Maturities and repayments 11,555 12,280
Mortgage-backed securities held to maturity:
Maturities and repayments 28,210 169,191
Purchases of Federal Home Loan Bank Stock (45,500) (17,200)
Net increase in loans (9,703,390) (8,578,129)
Purchases of premises and equipment (2,211,714) (150,747)
Proceeds from sale of premises and equipment - 72,863
Proceeds from sale of other real estate - 161,355
------------ -----------
Net cash used for investing activities (6,052,714) (11,374,885)
------------ -----------
FINANCING ACTIVITIES
Net increase (decrease) in deposits 8,482,465 (701,568)
Net increase in short term advances from Federal Home Loan Bank - 404,813
Proceeds from advances from Federal Home Loan Bank 7,000,000 3,000,000
Repayment of advances from Federal Home Loan Bank (4,747,449) (33,816)
Net change in advances for taxes and insurance 6,608 3,761
Proceeds from sale of common stock - 9,448,574
Purchase of treasury stock (1,000,863) -
Purchase of RSP stock (893,587) -
Cash dividends paid (320,074) (79,815)
------------ -----------
Net cash provided by financing activities 8,527,100 12,041,949
------------ -----------
Increase in cash and cash equivalents 2,291,773 2,775,837
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 6,792,420 4,016,583
----------- -----------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 9,084,193 $ 6,792,420
========== ==========
</TABLE>
See accompanying notes to the consolidated financial statements.
25
<PAGE>
ADVANCE FINANCIAL BANCORP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of significant accounting and reporting policies applied in the
presentation of the accompanying financial statements follows:
Nature of Operations and Basis of Presentation
- ----------------------------------------------
In December 1996, Advance Financial Bancorp (the "Company") was formed as part
of a corporate reorganization completed in connection with the mutual - to -
stock conversion of Advance Financial Savings Bank, f.s.b. (the "Bank"). As a
result of this transaction, the Bank and its wholly-owned service corporation
subsidiary, Advance Financial Service Corporation of West Virginia became
wholly-owned subsidiaries of the Company. The Company and its subsidiaries
derive substantially all their income from banking and bank-related services
which include interest earnings on residential real estate, commercial real
estate, and consumer loan financing, as well as interest earnings on investment
securities, interest-bearing deposits with other financial institutions, and
charges for deposit services to its customers. The Bank is a federally chartered
stock savings bank located in Wellsburg, WV. The Company and the Bank are
subject to regulation and supervision by the Office of Thrift Supervision.
The consolidated financial statements include the accounts of the Company and
its wholly-owned subsidiary, the Bank, and its wholly-owned subsidiary, Advance
Financial Service Corporation of West Virginia. All material intercompany
balances and transactions have been eliminated in consolidation. The Company's
fiscal year end for financial reporting is June 30. For regulatory and income
tax reporting purposes, the Company reports on a December 31 calendar year
basis.
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 revenues and expenses for the period. Actual results could
differ significantly from those estimates. The major accounting policies and
practices are summarized below.
Investment Securities Including Mortgage-Backed Securities
- ----------------------------------------------------------
Debt securities, including mortgage-backed securities acquired with the intent
and ability to hold to maturity are stated at cost and adjusted for amortization
of premium and accretion of discount, which are computed using a level yield
method and are recognized as adjustments of interest income. Certain other
equity securities have been classified as available for sale. Unrealized holding
gains and losses on available for sale securities are reported as a separate
component of retained earnings, net of tax, until realized. Realized securities
gains and losses are computed using the specific identification method. Interest
and dividends on investment securities are recognized as income when earned.
Investment Securities Including Mortgage-Backed Securities (Continued)
- ----------------------------------------------------------------------
Common stock of the Federal Home Loan Bank (the "FHLB") represents ownership in
an institution which is wholly-owned by other financial institutions. This
equity security is accounted for at cost and reported separately on the
accompanying balance sheet.
Loans Held for Sale
- -------------------
Mortgage loans originated and held for sale in the secondary market are carried
at the lower of cost or market value determined on an aggregate basis. Net
unrealized losses are recognized in a valuation allowance through charges to
income. Gains and losses on the sale of loans held for sale are determined using
the specific identification method. At June 30, 1998, the cost of loans held for
sale approximated market value. At June 30, 1997, there were no loans held for
sale.
Loans
- -----
Loans are stated at unpaid principal balances, less loans in process, net
deferred loan fees, and the allowance for loan losses. Interest on loans is
credited to income as earned on an accrual basis. Loan origination and
commitment fees and certain direct loan origination costs are being deferred and
the net amount amortized as an adjustment of the related loan's yield. The
Company is amortizing these amounts over the contractual life of the related
loans using the interest method.
The accrual of interest is generally discontinued when the contractual payment
of principal and interest has become 90 days past due or management has serious
doubts about further collectibility of principal or interest, even though the
loan is currently performing. A loan may remain on accrual status if it is in
the process of collection and is either guaranteed or well secured. When a loan
is placed on nonaccrual status unpaid interest is charged against income.
Interest received on nonaccrual loans is either applied to principal or reported
as interest income, according to management's judgment as to the collectibility
of principal.
Allowance for Loan Losses
- -------------------------
The allowance for loan losses represents the amount which management estimates
is adequate to provide for potential losses in its loan portfolio. The allowance
method is used in providing for loan losses. Accordingly, all loan losses are
charged to the allowance and all recoveries are credited to it. The allowance
for loan losses is established through a provision for loan losses charged to
operations. The provision for loan losses is based on management's periodic
evaluation of individual loans, economic factors, past loan loss experience,
changes in the composition and volume of the portfolio, and other relevant
factors. The estimates used in determining the adequacy of the allowance for
loan losses, including the amounts and timing of future cash flows expected on
impaired loans, are particularly susceptible to changes in the near term.
A loan is considered impaired when it is probable that the borrower will not
repay the loan according to the original contractual terms of the loan
agreement. Management has determined that first mortgage loans on one-to-four
family properties and all consumer loans represent large groups of
smaller-balance, homogeneous loans that are to be collectively evaluated.
Management considers an insignificant delay, which is defined as less than 90
days by the Company, will not cause a loan to classified as impaired. A loan is
not impaired during a period of delay in payment if the Company expects to
collect all amounts due including interest accrued at the contractual interest
rate during the period of delay. All loans identified as impaired are evaluated
independently by management. The Company estimates credit losses on impaired
loans based on the present value of expected cash flows or the fair value of the
underlying collateral if the loan repayment is expected to come from the sale or
operation of said collateral. Impaired loans, or portions thereof, are
charged-off when it is determined that a realized loss has occurred. Until such
time, an allowance for loan losses is maintained for estimated losses. Cash
receipts on impaired loans are applied first to accrued interest receivable,
unless otherwise required by the loan terms, except when an impaired loan is
also a nonaccrual loan, in which case the portion of the receipts related to
interest is recognized as income.
Real Estate Acquired in Settlement of Loans
- -------------------------------------------
Real estate acquired in settlement of loans is classified separately on the
balance sheet at the lower of the recorded investment in the property or its
fair value minus estimated costs of sale. Prior to foreclosure, the value of the
underlying collateral is written down by a charge to the allowance for loan
losses, if necessary. Any subsequent write-downs are charged against operating
expenses. Operating expenses of such properties, net of related income and
losses on their disposition are included in other expenses.
Premises and Equipment
- ----------------------
Land is carried at cost; buildings and equipment are stated at cost, less
accumulated depreciation. The provision for depreciation is computed primarily
by the straight-line method based upon the estimated useful lives of the assets
which range from five to forty years. Expenditures for maintenance and repairs
are charged against income as incurred. Costs of major additions and
improvements are capitalized.
26
<PAGE>
Income Taxes
- ------------
Deferred tax assets and liabilities are reflected at currently enacted income
tax rates applicable to the period in which the deferred tax assets or
liabilities are expected to be realized or settled. As changes in tax laws or
rates are enacted, deferred tax assets and liabilities are adjusted through the
provision for income taxes. Deferred income tax expenses or benefits are based
on the changes in the deferred tax asset or liability from period to period. The
Company and its subsidiary file a consolidated income tax return.
Earnings Per Share
- ------------------
In 1997, the Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 128, "Earnings Per Share." Statement No. 128 replaced
the previously reported primary and fully diluted earnings per share with basic
and diluted earnings per share. Unlike primary earnings per share, basic
earnings per share excludes any dilutive effects of options, warrants, and
convertible securities. Diluted earnings per share is very similar to the
previously reported fully diluted earnings per share. All earnings per share
amounts for all periods have been presented, and where necessary, restated to
conform to the Statement 128 requirements.
There were no convertible securities which would effect the numerator in
calculating basic and diluted earnings per share; therefore, net income as
presented on the Consolidated Statement of Income for 1998 and net income since
inception, December 31, 1996, of $492,662 for 1997 will be used as the
numerator. The following table sets forth a reconciliation of the denominator of
the basic and diluted earnings per share computation.
1998 1997
--------- ---------
Denominator:
Denominator for basic
earnings per share
weighted-average shares 1,001,108 998,392
Effect of dilutive securities:
Employee stock options 423 -
--------- ---------
Dilutive potential common shares 423 -
--------- ---------
Denominator for diluted
earnings per share - adjusted
weighted-average average
assumed conversion 1,001,531 998,392
========= =========
Reclassification of Comparative Amounts
- ---------------------------------------
Certain comparative account balances for prior periods have been reclassified to
conform to the current period classifications. Such reclassifications did not
effect net income.
Cash Flow Information
- ---------------------
The Company has defined cash and cash equivalents as cash on hand, amounts due
from depository institutions, and overnight deposits with the Federal Home Loan
Bank.
Cash payments for interest for the fiscal years ended June 30, 1998 and 1997
were $4,281,722 and $3,987,639 respectively. Cash payments for income taxes for
the fiscal years ended June 30, 1998 and 1997 were $533,795 and $316,279
respectively.
Recent Accounting Pronouncements
- --------------------------------
In July 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income."
Statement No. 130 is effective for fiscal years beginning after December 15,
1997. This statement establishes standards for reporting and presentation of
comprehensive income and its components (revenues, expenses, gains and losses)
in a full set of general purpose financial statements. It requires that all
items that are required to be recognized under accounting standards as
components of comprehensive income be reported in a financial statement that is
presented with the same prominence as other financial statements. Statement No.
130 requires that companies (i) classify items of other comprehensive income by
their nature in a financial statement and (ii) display the accumulated balance
of other comprehensive income separately from retained earnings and additional
paid-in capital in the equity section of the statement of financial condition.
Reclassification of financial statements for earlier periods provided for
comprehensive purposes is required.
In June 1997, the Financial Accounting Standards Board issued Statement No. 131,
"Disclosures about Segments of an Enterprise and Related Information." This
statement establishes standards for the way public companies report information
about operating segments in annual financial statements and requires that those
enterprises report selected information about segments in interim financial
reports issued to stockholders. It also establishes standards for related
disclosures about products and services, geographic areas, and major customers.
The statement defines an operating segment as a component of an enterprise that
generate revenue and incurs expense, whose operating results are reviewed by the
chief operating decision maker in the determination of resource allocation and
performance, and for which discrete financial information is available. This
statement is effective for fiscal years beginning after December 15, 1997,
however, it does not require disclosure in interim reporting in the year of
initial application.
In January 1998, Statement of Financial Accounting Standards No.132, "Employers'
Disclosure About Pensions and Other Post-Retirement Benefits," was issued. This
standard will require certain footnote disclosure requirements related primarily
to defined benefit pension and other retiree benefits. Implementation of this
standard is required for fiscal years beginning after December 15, 1997.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities." The statement provides accounting and reporting
standards for derivative instruments, including certain derivative instruments
embedded in other contracts, by requiring the recognition of those items as
assets or liabilities in the statement of financial position, recorded at fair
value. Statement No. 133, precludes a held-to-maturity security from being
designated as a hedged item, however, at the date of initial application of this
statement, an entity is permitted to transfer any held-to-maturity security into
the available-for-sale or trading categories. The unrealized holding gain or
loss on such transferred securities shall be reported consistent with the
requirements of Statement No. 115, "Accounting for Certain Investments in Debt
and Equity Securities." Such transfers do not raise an issue regarding an
entity's intent to hold other debt securities to maturity in the future. This
statement applies prospectively for all fiscal quarters of all years beginning
after June 15, 1999. Earlier adoption is permitted for any fiscal quarter that
begins after the issue date of this statement.
2. INVESTMENT SECURITIES
The amortized cost and estimated market value of investments are as
follows:
<TABLE>
<CAPTION>
Held-to-maturity
1998
------------------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------------- -------------- ---------- ----------
<S> <C> <C> <C> <C> <C>
U.S. Government and Agency Obligations $ 1,745,667 $ 8,344 $ (686) $1,753,325
---------------- -------------- ---------- ----------
1997
------------------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------------- -------------- ---------- ----------
U.S. Government and Agency Obligations $ 7,844,305 $ 7,058 $ (20,176) $7,831,187
================ ============== ========== ==========
</TABLE>
27
<PAGE>
<TABLE>
<CAPTION>
Available-for-sale
1998
------------------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------------- -------------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Common stocks $ 231,875 $ -- $ (11,250) $ 220,625
Money Fund Securities 52,827 -- (9,432) 43,395
---------------- -------------- ---------- ----------
$ 284,702 $ -- $ (20,682) $ 264,020
================ ============== ========== ==========
1997
------------------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---------------- -------------- ---------- ----------
Money Fund Securities $ 65,004 $ -- $ (9,953) $ 55,051
================ ============== ========== ==========
</TABLE>
The amortized cost and estimated market value of debt securities at June 30,
1998, by contractual maturity, are shown below. Expected maturities will differ
from contractual maturities because borrowers may have the right to call or
repay obligations with or without call or repayment penalties.
Held-to-Maturity
-------------------------------
Estimated
Amortized Market
Cost Value
---------- ----------
One year or less $ 249,684 $ 250,742
After one through five years 995,983 1,003,269
After five through ten years 500,000 499,314
After ten years - -
---------- ----------
Total $1,745,667 $1,753,325
========== ==========
3. MORTGAGE-BACKED SECURITIES
The amortized cost and estimated market value of mortgage-backed
securities are as follows:
<TABLE>
<CAPTION>
1998
----------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
-------- -------- ----------- --------
<S> <C> <C> <C> <C>
Government National Mortgage Association $174,659 $ 10,875 $ -- $185,534
Federal Home Loan Mortgage Corporation 164,703 13,794 -- 178,497
-------- -------- ----------- --------
Total $339,362 $ 24,669 $ -- $364,031
======== ======== =========== ========
1997
-----------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
-------- -------- ----------- --------
Government National Mortgage Association $200,028 $ 11,642 $ -- $211,670
Federal Home Loan Mortgage Corporation 167,525 15,548 -- 183,073
-------- -------- ----------- --------
Total $367,553 $ 27,190 $ -- $394,743
======== ======== =========== ========
</TABLE>
Mortgage-backed securities provide for periodic, generally monthly payments of
principal and interest and have contractual maturities ranging from eighteen to
twenty-two years at June 30, 1998. However, due to expected repayment terms
being significantly less than the underlying mortgage loan pool contractual
maturities, the estimated lives of these securities could be significantly
shorter.
4. LOANS RECEIVABLE
Loans receivable are comprised of the following at June 30:
1998 1997
----------- -----------
Mortgage loans:
1 - 4 family $57,904,667 $57,746,390
Multi-family 1,786,427 1,594,720
Non-residential 15,581,130 11,482,213
Construction 5,017,202 2,454,581
----------- -----------
80,289,426 73,277,904
----------- -----------
Consumer loans:
Home improvement 1,000,801 905,589
Automobile 7,659,017 7,419,412
Share loans 1,296,684 1,269,491
Other 2,389,041 2,062,398
----------- -----------
12,345,543 11,656,890
----------- -----------
Commercial loans 6,675,780 3,478,025
----------- -----------
Less:
Loans in process 3,061,801 1,760,797
Net deferred loan fees 181,097 216,395
Allowance for loan losses 477,654 367,779
----------- -----------
3,720,552 2,344,971
----------- -----------
Total $95,590,197 $86,067,848
=========== ===========
Real estate loans serviced for Freddie Mac, which are not included in the
consolidated balance sheet, totaled $10,972,452 and $4,290,803 at June 30, 1998
and 1997, respectively.
In the normal course of business, loans are extended to directors, executive
officers and their associates. In management's opinion, all of these loans are
on substantially the same terms and conditions as loans to other individuals and
businesses of comparable creditworthiness. A summary of loan activity for those
directors, executive officers, and their associates with loan balances in excess
of $60,000 for the year ended June 30, 1998 is as follows:
Balance Amount Balance
1997 Addition Collected 1998
---- -------- --------- ---------
$780,885 $546,972 $358,398 $969,459
The Company's primary business activity is with customers located within its
local trade area. Residential, consumer, and commercial loans are granted. The
Company also selectively funds loans originated outside of its trade area
provided such loans meet its credit policy guidelines. Although the Company has
a diversified loan portfolio, at June 30, 1998 and 1997, loans outstanding to
individuals and businesses are dependent upon the local economic conditions in
its immediate trade area.
Nonaccural loans totaled $282,971 and $156,796 at June 30, 1998 and 1997,
respectively, which in management's opinion did not meet the definition of
impaired. Interest income on loans would have been increased by $15,259 and
$6,788 respectively, if these loans had performed in accordance with their
original terms.
5. ALLOWANCE FOR LOAN LOSSES
Activity in the allowance for loan losses for the years ended June 30 is
summarized as follows:
1998 1997
-------- --------
Balance, beginning of period $367,779 $324,983
Add:
Provisions charged to operations 253,606 51,414
Loan recoveries 14,280 11,738
-------- --------
Total 635,665 388,135
Less loans charged off 158,011 20,356
-------- --------
Balance, end of period $477,654 $367,779
======== ========
6. PREMISES AND EQUIPMENT, NET
Premises and equipment are summarized by major classification as
follows:
1998 1997
---------- ----------
Land $ 303,857 $ 303,857
Buildings and improvements 3,376,313 1,756,592
Furniture, fixtures, and equipment 1,622,477 1,096,204
---------- ----------
Total 5,302,647 3,156,653
Less accumulated depreciation 1,219,790 1,101,002
---------- ----------
Premises and equipment, net $4,082,857 $2,055,651
========== ==========
Depreciation charged to operations a mounted to $184,508 and $151,365 for the
years ended June 30, 1998 and 1997 resp ectively.
28
<PAGE>
7. FEDERAL HOME LOAN BANK STOCK
The Bank is a member of the Federal Home Loan Bank System. As a member, the Bank
maintains an investment in the capital stock of the Federal Home Loan Bank of
Pittsburgh, at cost, in an amount not less than the greater of 1% of its
outstanding home loans or 5% of its outstanding borrowings to the Federal Home
Loan Bank of Pittsburgh as calculated at December 31 of each year.
8. ACCRUED INTEREST RECEIVABLE
Accrued interest receivable consists of the following:
1998 1997
-------- --------
Investment securities $ 33,741 $144,419
Mortgage-backed securities 6,436 6,667
Loans receivable 577,803 504,581
-------- --------
Total $617,980 $655,667
======== ========
9. DEPOSITS
Deposit accounts are summarized as follows:
<TABLE>
<CAPTION>
1998 1997
------------------------ --------------------------
Percent of Percent of
Amount Portfolio Amount Portfolio
------ --------- ------ ---------
<S> <C> <C> <C> <C>
Non-interest-bearing $ 2,159,434 2.4% $ 1,816,038 2.3%
----------- ----- ----------- -----
Savings accounts 14,877,841 16.8 15,943,723 19.9
NOW accounts 8,135,315 9.2 7,423,520 9.3
Money market accounts 9,278,592 10.5 6,325,727 7.9
----------- ----- ----------- -----
32,291,748 36.5 29,692,970 37.1
----------- ----- ----------- -----
Time certificates of deposit:
2.00 - 4.00% 1,675,183 1.9 2,265,733 2.8
4.01 - 6.00% 32,688,606 36.9 35,780,250 44.7
6.01 - 8.00% 19,736,572 22.3 10,514,087 13.1
----------- ----- ----------- -----
54,100,361 61.1 48,560,070 60.6
----------- ----- ----------- -----
Total $88,551,543 100.0% $80,069,078 100.0%
=========== ===== =========== =====
</TABLE>
The scheduled maturities of time certificates of deposit at June 30,
1998 are as follows:
Amount
------
Within one year $34,553,470
Beyond one year but within two years 12,012,931
Beyond two years but within three years 4,051,823
Beyond three years but within five years 2,202,207
Beyond five years 1,279,930
-----------
Total $54,100,361
===========
The Company had time certificates with a minimum denomination of $100,000 in the
amount of approximately $9,762,016 and $7,724,255 at June 30, 1998 and 1997
respectively. Deposits in excess of $100,000 are not Federally insured. The
Company does not have any brokered deposits.
Interest expense by deposit category for the years ended June 30 is as
follows:
1998 1997
---------- ----------
Passbooks $ 414,293 $ 506,312
NOW and Money Market Deposit accounts 558,786 389,745
Savings certificates 2,813,316 2,704,011
---------- ----------
$3,786,395 $3,600,068
========== ==========
10. ADVANCES FROM FEDERAL HOME LOAN BANK
Advances from the Federal Home Loan Bank consists of the following:
<TABLE>
<CAPTION>
Principal Interest Interest
Due Due Rate 1998 1997
--------- -------- -------- ---------- -----------
<S> <C> <C> <C> <C> <C>
Open-Repo Plus 10-22-1997 Monthly Variable $ - $ 1,000,000
Advance 12-01-1997 Monthly 5.67% - 2,000,000
Advance 05-21-1998 Monthly 5.43% - 1,000,000
Advance 03-25-2002 Monthly 5.51% 3,000,000 3,000,000
Advance 11-13-2002 Monthly 6.51% - 747,449
Advance 11-04-2002 Monthly 5.37% 5,000,000 -
Advance 01-23-2008 Monthly 4.88% 1,000,000 -
Advance 01-23-2008 Monthly 4.94% 1,000,000 -
----------- ----------
$10,000,000 $7,747,449
=========== ==========
</TABLE>
These borrowings are subject to the terms and conditions of the Advances,
Collateral Pledge and Security Agreement between the Federal Home Loan Bank of
Pittsburgh and the Bank.
In addition, the Bank entered into a "RepoPlus" Advance credit arrangement which
is renewable annually and incurs no service charges. During 1998, the Bank had a
borrowing limit of approximately $10 million with a variable rate of interest,
based upon the FHLB's cost of funds. All borrowings from the FHLB are secured by
a blanket lien on qualified collateral, defined principally as investment
securities and mortgage loans which are owned by the Bank free and clear of any
liens or encumbrances.
11. INCOME TAXES
The components of income tax expense for the years ended June 30 are
summarized as follows:
1998 1997
-------- --------
Currently payable:
Federal $435,077 $286,711
State 66,422 35,961
-------- --------
501,499 322,672
Deferred 19,298 (2,162)
-------- --------
Total $520,797 $320,510
======== ========
The following temporary differences gave rise to deferred tax asset and
liabilities:
1998 1997
-------- --------
Deferred tax assets
Allowance for loan losses $162,402 $125,045
Loan origination fees, net 32,820 45,278
Net unrealized loss on securities 7,032 3,384
Other, net 11,110 18,025
-------- --------
Deferred tax assets 213,364 191,732
-------- --------
Deferred tax liabilities
Premise and equipment depreciation 211,607 199,522
Tax reserve for loan losses 110,162 110,162
Other, net 25,197 -
-------- --------
Deferred tax liabilities 346,966 309,684
-------- --------
Net deferred tax liabilities $133,602 $117,952
======== ========
On August 20, 1996, the Small Business Job Protection Act (the "Act") was signed
into law. The Act eliminated the percentage of taxable income bad debt deduction
for thrift institutions for tax years beginning after December 31, 1995. The Act
provides that bad debt reserves accumulated prior to 1988 be exempt from
recapture. Bad debt reserves accumulated after 1987 are subject to recapture.
The recapture tax will be paid in six equal installments beginning with the 1998
tax year. At December 31, 1995, the Bank had $324,005 in bad debt reserves in
excess of the base year. Subject to prevailing corporate tax rates, the Bank
owes $110,162 in federal income taxes which is reflected as a deferred tax
liability.
29
<PAGE>
The reconciliation between the actual provision for income taxes and the amount
of income taxes which would have been provided at statutory rates for the years
ended June 30 is as follows:
<TABLE>
<CAPTION>
1998 1997
------------------- -------------------
Amount Percent Amount Percent
-------- ------- -------- -------
<S> <C> <C> <C> <C>
Provision at statutory rate $465,331 34.0% $295,340 34.0%
State income tax expense, net of federal
tax benefit 43,839 3.2 23,734 2.7
Tax exempt interest (6,294) (.5) (8,007) (.9)
Other, net 17,921 1.3 9,443 1.1
-------- ---- -------- ----
Actual expense and effective rate $520,797 38.0% $320,510 36.9%
======== ==== ======== ====
</TABLE>
12. RETIREMENT PLAN
The Company has a profit-sharing plan with a 401(k) feature. The 401(k) allows
employees to make contributions to the plan up to 12% of their annual
compensation. The Company will match 50% of the employees' voluntary
contributions up to 3% of the employee's compensation. Additional employer
contributions are made at the discretion of the Board of Directors. The plan
covers substantially all employees with more than one year's service. The
Company's contributions for the benefit of covered employees amounted to $37,019
and $20,111 for the years ended June 30, 1998 and 1997 respectively.
13. RESTRICTED STOCK PLAN (RSP)
In 1998, the Board of Directors adopted a RSP for certain officers and employees
which was approved by stockholders at a special meeting held on January 20,
1998. The objective of this Plan is to enable the Company and the Bank to retain
its corporate officers, key employees, and directors who have the experience and
ability necessary to manage these entities. Directors, officers, and key
employees who are selected by members of a Board appointed committee are
eligible to receive benefits under the RSP. The non-employee directors of the
Company and the Bank serve as trustees for the RSP, which has the responsibility
to invest all funds contributed by the Bank to the Trust created for the RSP.
On February 23, 1998, the Trust purchased with funds contributed by the Bank,
43,378 shares of the common stock of the Company, of which 15,180 shares were
issued to directors, 23,844 shares were issued to officers, and 4,354 shares
remained unissued as of June 30, 1998. Directors, officers, and key employees
who terminate their association with the Company shall forfeit the right to any
shares which were awarded but not earned.
The Company granted a total of 26,024 and 13,000 shares of common stock on
January 20, 1998 and March 3, 1998, respectively of which 5,205 and 2,600
shares, respectively, became immediately vested under the plan with the
remaining shares vesting over a four year period beginning January 20, 1998 and
March 3, 1998, respectively. A total of 7,805 shares were vested as of June 30,
1998. The RSP shares purchased initially will be excluded from stockholder's
equity. The Company recognizes compensation expense in the amount of fair value
of the common stock at the grant date, pro rata over the years during which the
shares are payable and recorded as an addition to the stockholders' equity. Net
compensation expense attributable to the RSP's amounted to $67,583 for the year
ended June 30, 1998.
14. EMPLOYEE STOCK OWNERSHIP PLAN (ESOP)
During the year ended June 30, 1997, the Bank adopted an ESOP for the benefit of
officers and employees who have met certain eligibility requirements related to
age and length of service. An ESOP trust was created, and acquired 86,756 shares
of common stock in the Company's initial public offering, using proceeds of a
loan obtained from the Company, which bears interest at the Wall Street Journal
prime rate, adjusted quarterly. The loan, which is secured by the shares of
stock purchased, calls for quarterly interest over a ten year period and annual
principal payments of $86,756.
The Bank makes quarterly contributions to the trust to allow the trust to make
the required loan payments to the Company. Shares are released from collateral
based upon the proportion of annual principle payments made on the loan each
year and allocated to qualified employees. As shares are released from
collateral, the Bank reports compensation expense based upon the amounts
contributed or committed to be contributed each year and the shares become
outstanding for earnings per share computations. Dividends paid on allocated
ESOP shares are recorded as a reduction in retained earnings. Dividends paid on
unallocated shares are added to participant accounts and reported as
compensation. Compensation expense for the ESOP was $148,437 and $85,204 for the
years ended June 30, 1998 and 1997, respectively.
The following table represents the components of the ESOP shares:
1998 1997
---- ----
Allocated shares 11,549 2,226
Shares released for allocation 4,338 4,910
Shares distributed (1,015) -
Unreleased shares 70,869 79,620
------ ------
Total ESOP share 85,741 86,756
====== ======
Fair value of unreleased shares $1,293,350 $1,174,395
========== ==========
15. STOCK OPTION PLAN
In December 1997, the Board of Directors adopted a Stock Option Plan for the
directors, officers, and employees which was approved by stockholders at a
special meeting held on January 20, 1998. An aggregate of 108,445 shares of
authorized but unissued common stock of the Company were reserved for future
issuance under the plan. The stock options typically have expiration terms of
ten years subject to certain extensions and early terminations. The per share
exercise price of a stock option shall be, at a minimum, equal to the fair value
of a share of common stock on the date the option is granted. Proceeds from the
exercise of the stock options are credited to common stock for the aggregate par
value and the excess is credited to additional paid-in capital.
On January 20, 1998, qualified stock options were granted for the purchase of
65,061 shares exercisable at the market price of $18.75 per share at a rate of
one fourth per year beginning January 20, 1998. All options expire ten years
from the date of grant. At June 30, 1998, the initial stock options granted
remain outstanding with none being exercised.
Effective July 1, 1996, the Company adopted Statement of Financial Accounting
Standards Statement No. 123, "Accounting for Stock-Based Compensation." This
statement encourages, but does not require the Company to recognize compensation
expense for all awards of equity instruments issued. The statement establishes a
fair value based method of accounting for stock-based compensation plans. The
standard applies to all transactions in which an entity acquires goods or
services by issuing equity instruments or by incurring liabilities in amounts
based on the price of the entity's common stock or other equity instruments.
Statement No. 123 permits companies to continue to account for such transactions
under Accounting Principles Board No. 25, "Accounting for Stock Issued to
Employees," but requires disclosure in a note to the financial statements pro
forma net income and earnings per share as if the Company had applied the new
method of accounting.
30
<PAGE>
Under Accounting Principles Board Opinion 25, no compensation expense has been
recognized with respect to the options granted under the stock option plans. Had
compensation expense been determined on the basis of fair value pursuant to
Statement No. 123, net income and earnings per share would have been reduced as
follows:
1998
----------
Net Income:
As reported $ 848,210
==========
Pro forma $ 601,588
==========
Basic Earnings Per Share:
As reported $ .85
==========
Pro forma $ .60
==========
Diluted Earnings Per Share:
As reported $ .85
==========
Pro forma $ .60
==========
The following table presents share data related to the stock option
plans:
1998
------
Outstanding, beginning -
Granted 65,061
Exercised -
Forfeited -
------
Outstanding, ending (at $18.75 per share) 65,061
======
Dividend Equivalent Rights may be granted concurrently with any option granted.
These rights provide that upon the payment of a dividend on the Common Stock,
the holder of such Options shall receive payment of compensation in an amount
equivalent to the dividend payable as if such Options had been exercised and
such Common Stock held as of the dividend date. Dividend Equivalent Rights were
granted concurrently with respect to the stock options granted in 1998.
Compensation expense resulting from Dividend Equivalent Rights was $5,205 for
the year ended June 30, 1998.
16. PREFERRED SHARE PURCHASE RIGHTS PLAN
In July 1997, the Board of Directors adopted a Preferred Share Purchase Rights
Plan and correspondingly issued one Preferred Share Purchase Right ("a Right")
for each share of common stock of the Company. Each Right entitles the
registered holder to purchase from the Company one one-hundredth of a share of
the Company's Junior Participating Preferred Stock, Series A ("Preferred
Shares"), at a price of $37.00 per one one-hundredth of a Preferred Share. The
Rights will not be exercisable or separable from the common shares until ten
business days after a person or group acquire 15% or more or tenders for 50% or
more of the Company's outstanding common shares. The Plan also provides that if
any person or group becomes an "Acquiring Person," each Right, other than Rights
beneficially owned by the Acquiring Person (which will thereafter be void), will
entitle its holder to receive upon exercise that number of common shares having
a market value of two times the exercise price of the Right. In the event the
Company is acquired in a merger or other business combination transaction, each
Right will entitle its holder to receive upon exercise of the Right, at the
Right's then current exercise price, that number of the acquiring company's
common shares having a market value of two times the exercise price of the
Right. The Company is entitled to redeem the Rights at a price of one cent per
Right at any time prior to them becoming exercisable, and the Rights expire on
July 17, 2007. The Plan is designed to protect the interest of the Company's
shareholders against certain coercive tactics sometimes employed in takeover
attempts.
17. COMMITMENTS AND CONTINGENT LIABILITIES
Loan Commitments
- ----------------
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. These
instruments involve, to varying degrees, elements of credit risk in excess of
the amount recognized in the statement of financial condition. The contract
amounts of these instruments reflect the extent of involvement the Company has
in particular classes of financial instruments.
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. No losses are anticipated by management
as a result of these commitments.
The following represents financial instruments whose contract amounts represent
credit risk at June 30:
1998 1997
----------- ----------
Commitments to originate loans
Fixed rate $1,875,700 $ 347,670
Variable rate $1,639,200 $ 517,892
Loans in process $3,061,801 $1,760,797
Unused lines of credit $5,951,178 $4,788,369
Letters of credit $ 48,214 $ -
The range of interest rates on fixed rate loan commitments was 7.125% to 9.625%
at June 30, 1998.
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally expire within 30 days or have other termination clauses and may
require payment of a fee. Since many of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The Company evaluates each customer's
creditworthiness on a case-by-case basis. The amount of collateral obtained, if
deemed necessary by the Company upon extension of credit, is based on
management's credit evaluation of the counter party. Collateral held consists
primarily of single-family residences and income-producing commercial
properties.
Lease Commitments
- -----------------
The future lease commitments as of June 30, 1998 for all noncancellable
equipment and land leases follows:
Fiscal Year
Ending June 30, Amount
--------------- -----------
1999 $ 83,956
2000 66,000
2001 67,800
2002 70,600
2003 72,600
2004 and thereafter 1,900,300
----------
$2,261,256
==========
Litigation
- ----------
The Company is involved in litigation arising in the normal course of business.
Management believes that liabilities, if any, arising from these proceedings
will not have a material adverse effect on the consolidated financial position,
operating results, or liquidity.
31
<PAGE>
18. CONVERSION AND REORGANIZATION
In September 1996, the Board of Directors of the Bank adopted the Plan of
Conversion pursuant to which the Bank proposed to convert from a federally
chartered mutual savings bank to a federally chartered stock savings bank and
concurrently formed a Bank Holding Company.
As part of the conversion process, the Company was organized in September 1996
at the direction of the Board of Directors of the Bank for the purpose of
acquiring all of the capital stock to be issued by the Bank in the Conversion.
The Company became a bank holding company with its only significant assets being
all of the outstanding capital stock of the Bank, which was acquired on December
31, 1996 by exchanging $4,724,287 of the proceeds received in the public
offering for all of the common stock of the Bank, and a percentage of the
conversion proceeds permitted to be retained. From the proceeds of the
Conversion, $108,445 was allocated to common stock, and $10,207,689, which is
net of $528,366 conversion costs, was allocated to additional paid-in capital.
In accordance with regulations, at the time that the Bank converted from a
mutual savings bank to a stock savings bank, a portion of retained earnings was
restricted by establishing a liquidation account. The liquidation account will
be maintained for the benefit of eligible account holders who continue to
maintain their accounts at the Bank after 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 the Bank each account holder will be entitled to receive
a distribution from the liquidation account in an amount proportionate to the
current adjusted qualifying balances for accounts then held.
19. SAVINGS ASSOCIATION INSURANCE FUND RECAPITALIZATION
On September 30, 1996, the President signed into law legislation which included,
among other things, recapitalization of the Savings Association Insurance Fund
("SAIF") of the Federal Deposit Insurance Corporation ("FDIC") by a one time
charge to SAIF-insured institutions of 65.7 basis points per one hundred dollars
of insurable deposits. The gross effect to the Bank amounted to $469,908, which
is reflected in the consolidated financial statement of income for the year
ended June 30, 1997.
20. FAIR VALUE DISCLOSURE OF FINANCIAL INSTRUMENTS
The estimated carrying amounts and fair values are as follows:
<TABLE>
<CAPTION>
1998 1997
---------------------------- ---------------------------
Estimated Estimated
Carrying Fair Carrying Fair
Amount Value Amount Value
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Financial assets:
Cash and cash equivalents $ 9,084,193 $ 9,084,193 $ 6,792,420 $ 6,792,420
Securities held to maturity 1,745,667 1,753,325 7,844,305 7,831,187
Securities available-for-sale 264,020 264,020 55,051 55,051
Mortgage-backed securities
held to maturity 339,362 364,031 367,553 394,743
Loans receivable 95,590,197 96,816,000 86,067,848 86,726,000
Federal Home Loan Bank Stock 622,200 622,200 576,700 576,700
Accrued interest receivable 617,980 617,980 655,667 655,667
Loans held for sale 1,454,700 1,454,700 - -
------------ ------------ ------------ ------------
Total $109,718,319 $110,976,449 $102,359,544 $103,031,768
============ ============ ============ ============
Financial liabilities:
Deposits $ 88,551,543 $ 88,954,000 $ 80,069,078 $ 80,091,000
Advances from Federal
Home Loan Bank 10,000,000 9,992,000 7,747,449 7,699,000
Advance payment by borrowers
for taxes and insurance 193,346 193,346 186,738 186,738
Accrued interest payable 46,713 46,713 36,684 36,684
------------ ------------ ------------ ------------
Total $ 98,791,602 $ 99,186,059 $ 88,039,949 $ 88,013,422
============ ============ ============ ============
</TABLE>
Financial instruments are defined as cash, evidence of ownership interest in an
entity, or a contract which creates an obligation or right to receive or deliver
cash or another financial instrument from/to a second entity on potentially
favorable or unfavorable terms.
Fair value is defined as the amount at which a financial instrument could be
exchanged in a current transaction between willing parties other than in a
forced or liquidation sale. If a quoted market price is available for a
financial instrument, the estimated fair value would be calculated based upon
the market price per trading unit of the instrument.
If no readily available market exists, the fair value estimates for financial
instruments should be based upon management's judgment regarding current
economic conditions, interest rate risk, expected cash flows, future estimated
losses, and other factors as determined through various option pricing formulas
or simulation modeling. As many of these assumptions result from judgments made
by management based upon estimates which are inherently uncertain, the resulting
estimated fair values may not be indicative of the amount realizable in the sale
of a particular financial instrument. In addition, changes in assumptions on
which the estimated fair values are based may have a significant impact on the
resulting estimated fair values.
As certain assets such as deferred tax assets and premises and equipment are not
considered financial instruments, the estimated fair value of financial
instruments would not represent the full value of the Company.
The Company employed simulation modeling in determining the estimated fair value
of financial instruments for which quoted market prices were not available based
upon the following assumptions:
Cash and Cash Equivalents, Federal Home Loan Bank Stock, Accrued Interest
- --------------------------------------------------------------------------------
Receivable, Accrued Interest Payable, and Advance Payment by Borrowers for Taxes
- --------------------------------------------------------------------------------
and Insurance
- -------------
The fair value is equal to the current carrying value.
Investment Securities, Mortgage-backed Securities, and Loans Held for Sale
- --------------------------------------------------------------------------
The fair value of investment securities, mortgage-backed securities and loans
held for sale is equal to the available quoted market price. If no quoted market
price is available, fair value is estimated using the quoted market price for
similar securities.
Loans, Deposits, and Advances from Federal Home Loan Bank
- ---------------------------------------------------------
The fair value of loans is estimated by discounting the future cash flows using
a simulation model which estimates future cash flows and employs discount rates
that consider reinvestment opportunities, operating expenses, non-interest
income, credit quality, and prepayment risk. Demand, savings, and money market
deposit accounts are valued at the amount payable on demand as of year end. Fair
values for time deposits and advances from Federal Home Loan Bank are estimated
using a discounted cash flow calculation and applies contractual costs currently
being offered in the existing portfolio to current market rates being offered
for deposits and notes of similar remaining maturities.
Commitments to Extend Credit
- ----------------------------
These financial instruments are generally not subject to sale and estimated fair
values are not readily available. The carrying value, represented by the net
deferred fee arising from the unrecognized commitment, and the fair value,
determined by discounting the remaining contractual fee over the term of the
commitment using fees currently charged to enter into similar agreements with
similar credit risk, are not considered material for disclosure. The contractual
amounts of unfunded commitments are presented in Note 17.
32
<PAGE>
21. CAPITAL REQUIREMENTS
The Company, on a consolidated basis and the Bank are subject to various
regulatory capital requirements administered by the federal regulatory agencies.
Failure to meet minimum capital requirements can initiate certain mandatory, and
possibly additional discretionary actions by the regulators that, if undertaken,
could have a direct material effect on the entity's financial statements. Under
capital adequacy guidelines and the regulatory framework for prompt corrective
action, the Company and the Bank must meet specific capital guidelines that
involve quantitative measures of the entities' assets, liabilities, and certain
off-balance sheet items as calculated under regulatory accounting practices. The
Company's and the Bank's capital amounts and classification are also subject to
qualitative judgments by the regulators about components, risk-weighting, and
other factors.
Quantitative measures established by the regulation to ensure capital adequacy
require the Company and the Bank to maintain minimum amounts and ratios of Total
and Tier I capital (as defined in the regulations) to risk-weighted assets, and
of tangible and core capital (as defined in the regulations) to adjusted assets
(as defined). Management believes as of June 30, 1998 that the Company and the
Bank meet all capital adequacy requirements to which they are subject.
As of June 30, 1998, the most recent notification from the Company's and Bank's
primary regulatory authorities have categorized the entity as well capitalized
under the regulatory framework for prompt corrective action. To be categorized
as well capitalized, the Company must maintain minimum tangible, core, and
risk-based ratios. There have been no conditions or events since that
notification that management believes have changed the Company's or the Bank's
category.
The following table reconciles the Company's and Bank's capital under generally
accepted accounting principles to regulatory capital:
<TABLE>
<CAPTION>
Company Bank
----------------------------- ----------------------------
June 30, June 30,
1998 1997 1998 1997
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Total equity $ 14,928,122 $ 16,125,045 $ 12,804,649 $ 11,924,194
Unrealized loss on securities (7,032) (3,384) (3,207) (3,384)
------------ ------------ ------------ ------------
Tier I, core, and tangible capital 14,921,090 16,121,661 12,801,442 11,920,810
Allowance for loan losses 477,654 367,779 477,654 367,779
------------ ------------ ------------ ------------
Risk-based capital $ 15,398,744 $ 16,489,440 $ 13,279,096 $ 12,288,589
============ ============ ============ ============
</TABLE>
The Company's actual capital amounts and ratios were as follows:
<TABLE>
<CAPTION>
June 30,
--------------------------------------------------
1998 1997
------------------------ -------------------------
Amount Ratio Amount Ratio
----------- ------- ----------- -------
<S> <C> <C> <C> <C>
Total Capital to Risk-Weighted Assets
-------------------------------------
Actual $15,398,744 19.25% $16,489,440 25.75%
For Capital Adequacy Purposes 6,398,080 8.00 5,123,547 8.00
To be "Well Capitalized" 7,967,600 10.00 6,404,434 10.00
Tier I Capital to Risk-Weighted Assets
--------------------------------------
Actual $14,921,090 18.66% $16,121,661 25.17%
For Capital Adequacy Purposes 3,199,040 4.00 2,561,774 4.00
To be "Well Capitalized" 4,798,560 6.00 3,842,660 6.00
Core Capital to Adjusted Assets
-------------------------------
Actual $14,921,090 12.94% $16,121,661 15.39%
For Capital Adequacy Purposes 4,612,000 4.00 4,189,636 4.00
To be "Well Capitalized" 5,765,000 5.00 5,237,045 5.00
Tangible Capital to Adjusted Assets
-----------------------------------
Actual $14,921,090 12.94% $16,121,661 15.39%
For Capital Adequacy Purposes 1,729,500 1.50 1,571,113 1.50
To be "Well Capitalized" N/A N/A N/A N/A
</TABLE>
Prior to the enactment of The Small Business Job Protection Act discussed in
Note 11, the Bank accumulated approximately $1,004,932 of retained earnings at
December 31, 1997, which amount represents allocations of income to bad debt
deductions for tax purposes only. Since this amount represents the accumulated
bad debt reserves prior to 1988, no provision for federal income tax has been
made for such amount. If any portion of this amount is used other than to absorb
loan losses (which is not anticipated), the amount will be subject to federal
income tax at the current corporate rate.
The Bank's actual capital amounts and ratios were as follows:
<TABLE>
<CAPTION>
June 30,
--------------------------------------------------
1998 1997
------------------------ -------------------------
Amount Ratio Amount Ratio
----------- ------- ----------- -------
<S> <C> <C> <C> <C>
Total Capital to Risk-Weighted Assets
-------------------------------------
Actual $13,279,096 17.30% $12,288,589 19.19%
For Capital Adequacy Purposes 6,139,760 8.00 5,122,800 8.00
To be "Well Capitalized" 7,674,700 10.00 6,403,500 10.00
Tier I Capital to Risk-Weighted Assets
--------------------------------------
Actual $12,801,442 16.68% $11,920,810 18.62%
For Capital Adequacy Purposes 3,069,880 4.00 2,561,400 4.00
To be "Well Capitalized" 4,604,820 6.00 3,842,100 6.00
Core Capital to Adjusted Assets
-------------------------------
Actual $12,801,442 11.12% $11,920,810 11.38%
For Capital Adequacy Purposes 4,602,840 4.00 4,189,280 4.00
To be "Well Capitalized" 5,753,550 5.00 5,236,600 5.00
Tangible Capital to Adjusted Assets
-----------------------------------
Actual $12,801,442 11.12% $11,920,810 11.38%
For Capital Adequacy Purposes 1,726,065 1.50 1,570,980 1.50
To be "Well Capitalized" N/A N/A N/A N/A
</TABLE>
33
<PAGE>
22. PARENT COMPANY
Effective December 31, 1996 active operations of Advance Financial Bancorp were
initiated with the approval of the stock conversion of the Bank and
correspondent purchase of all the stock of the wholly-owned subsidiary savings
bank by the Company which coincided with the initial public offering of the
Company stock. The condensed financial statements of Advance Financial Bancorp
are as follows:
CONDENSED BALANCE SHEET
June 30,
1998 1997
----------- -----------
ASSETS
Cash $ 300 $ -
Deposits with subsidiary bank 2,819,809 4,247,712
Investment in subsidiary bank 12,089,491 11,127,999
Securities available for sale 220,625 -
Loan receivable from ESOP 715,158 796,195
Other assets 43,136 35,838
----------- -----------
TOTAL ASSETS $15,888,519 $16,207,744
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Restricted stock plan payable $ 869,634 $ -
Other liabilities 90,763 82,699
Stockholders' equity 14,928,122 16,125,045
----------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $15,888,519 $16,207,744
=========== ===========
CONDENSED STATEMENT OF INCOME
<TABLE>
<CAPTION>
Period Ended
December 31,1996
Year Ended To
June 30, 1998 June 30, 1997
------------- -------------
<S> <C> <C>
INCOME
- ------
Interest income - loans $ 64,468 $ 35,133
Interest income - investments 16,550 -
-------- --------
Total interest income 81,018 35,133
-------- --------
OPERATING EXPENSES 131,706 67,686
- ------------------ -------- --------
Loss before equity in undistributed earnings of subsidiary (50,688) (32,553)
Equity in undistributed earnings of subsidiary 877,871 511,217
-------- --------
Income before income taxes 827,183 478,664
Income tax benefit 21,027 13,998
-------- --------
NET INCOME $848,210 $492,662
======== ========
</TABLE>
<PAGE>
CONDENSED STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
Period Ended
December 31, 1996
Year Ended To
June 30, 1998 June 30, 1997
------------- -------------
<S> <C> <C>
OPERATING ACTIVITIES
Net income $ 848,210 $ 492,662
Adjustments to reconcile net income to net cash
provided by operating activities
Undistributed net income of subsidiary (877,871) (511,217)
Other, net 73,833 (15,728)
----------- -----------
Net cash provided by (used for) operating activities 44,172 (34,283)
----------- -----------
INVESTING ACTIVITIES
Purchase securities available for sale (231,875) -
ESOP loan repayments 81,037 71,365
----------- -----------
Net cash provided by (used for) investing activities (150,838) 71,365
----------- -----------
FINANCING ACTIVITIES
Net proceeds from sales of common stock - 4,290,445
Purchase of Treasury Stock (1,000,863) -
Cash dividends paid (320,074) (79,815)
----------- -----------
Net cash provided by (used for) financing activities (1,320,937) 4,210,630
----------- -----------
Increase (decrease) in cash and cash equivalents (1,427,603) 4,247,712
CASH AND CASH EQUIVALENTS - BEGINNING OF PERIOD 4,247,712 -
----------- -----------
CASH AND CASH EQUIVALENTS - END OF PERIOD $ 2,820,109 $ 4,247,712
=========== ===========
</TABLE>
34
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION DERIVED FROM THE
ANNUAL REPORT ON FORM 10-KSB AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL INFORMATION.
</LEGEND>
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> JUN-30-1997
<PERIOD-END> JUN-30-1998
<CASH> 1,335
<INT-BEARING-DEPOSITS> 7,749
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 264
<INVESTMENTS-CARRYING> 2,085
<INVESTMENTS-MARKET> 2,117
<LOANS> 97,523
<ALLOWANCE> 418
<TOTAL-ASSETS> 114,185
<DEPOSITS> 88,552
<SHORT-TERM> 0
<LIABILITIES-OTHER> 705
<LONG-TERM> 10,000
0
0
<COMMON> 108
<OTHER-SE> 14,820
<TOTAL-LIABILITIES-AND-EQUITY> 114,185
<INTEREST-LOAN> 7,737
<INTEREST-INVEST> 370
<INTEREST-OTHER> 303
<INTEREST-TOTAL> 8,410
<INTEREST-DEPOSIT> 3,786
<INTEREST-EXPENSE> 506
<INTEREST-INCOME-NET> 4,118
<LOAN-LOSSES> 254
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 3,054
<INCOME-PRETAX> 1,367
<INCOME-PRE-EXTRAORDINARY> 1,369
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 848
<EPS-PRIMARY> .85
<EPS-DILUTED> .85
<YIELD-ACTUAL> 3.48
<LOANS-NON> 284
<LOANS-PAST> 169
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 368
<CHARGE-OFFS> 157
<RECOVERIES> 13
<ALLOWANCE-CLOSE> 418
<ALLOWANCE-DOMESTIC> 478
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
