U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-KSB
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended September 30, 1998
Commission File No.: 01-13465
FALMOUTH BANCORP, INC.
(Name of small business issuer in its charter)
Delaware 04-3337685
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
20 Davis Straits, Falmouth, Massachusetts 02540
(Address of principal executive offices)
(508) 548-3500
(Issuer's Telephone Number)
Securities registered pursuant to section 12(b) of the Exchange Act:
Title of each class Name of Exchange on which registered:
Common Stock, par value $0.01 American Stock Exchange
per share
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 is not 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. [X]
The revenues for the issuer's fiscal year ended September 30, 1998 are
$8,256,437
State the aggregate market value of the voting and non-voting common
equity held by non-affiliates computed by reference to the price at which
the common equity was sold, as of a specified date within the last 60 days.
On November 27, 1998: $19,031,908.
State the number of shares outstanding of each of the issuer's classes
of common equity, as of the latest practicable date. The Company had
1,338,341 shares outstanding as of December 19, 1998.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the definitive proxy statement pursuant to Regulation 14A,
which was delivered to the Commission for filing on December 18, 1998, and
the 1998 Annual Report to Stockholders for the fiscal year ended September
30, 1998, which has not previously been mailed to the Commission, are
incorporated by reference into Part II and III of this report.
Transitional Small Business Disclosure Format (check one):
Yes No X
----- -----
TABLE OF CONTENTS
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Page
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PART I
ITEM 1. BUSINESS 1
ITEM 2. DESCRIPTION OF PROPERTY 27
ITEM 3. LEGAL PROCEEDINGS 27
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 27
PART II
ITEM 5. MARKET FOR THE BANK'S COMMON STOCK
AND RELATED STOCKHOLDER MATTERS 27
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS 27
ITEM 7. FINANCIAL STATEMENTS 27
ITEM 8. CHANGES AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE 27
PART III
ITEM 9. DIRECTORS AND PRINCIPAL OFFICERS OF THE BANK 28
ITEM 10. EXECUTIVE COMPENSATION 28
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT 28
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS 28
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K 28
PART I
ITEM 1. BUSINESS
General
Falmouth Bancorp, Inc. (the "Company" or "Bancorp"), a Delaware
corporation, is the holding company for Falmouth Co-operative Bank (the
"Bank"), a Massachusetts-chartered stock co-operative bank. The Bank
converted to stock form on March 28, 1996, and issued 1,454,750 shares of
common stock at $10.00 per share (the "Conversion"). On October 14, 1997,
the Company acquired all of the capital stock of the Bank and stockholders
of the Bank became stockholders of the Company in a share for share exchange
pursuant to a plan of reorganization approved by the Bank's stockholders on
January 21, 1997 (the "Reorganization") whereby the Bank became the wholly-
owned subsidiary of the Company. At September 30, 1998, there were
1,401,784 shares outstanding. The Company's sole business activity is
ownership of the Bank. The Company also makes investments in long and short-
term marketable securities and other liquid investments. The Company's
Common Stock trades on the American Stock Exchange under the symbol "FCB."
Unless otherwise disclosed, the information presented in this Report on Form
10-KSB represents the activity of the Bank for fiscal 1997 and the period
prior to the Reorganization, and the consolidated activity of Falmouth
Bancorp, Inc. and subsidiaries thereafter.
The Bank had total assets of $105.8 million as of September 30, 1998.
The Bank conducts its business through an office located in Falmouth,
Massachusetts, where it was originally founded in 1925 as a Massachusetts
chartered mutual co-operative Bank, and two branches located in East
Falmouth and North Falmouth, Massachusetts. The Bank's deposits are
currently insured up to applicable limits by the Bank Insurance Fund of the
Federal Deposit Insurance Corporation ("FDIC") and the Share Insurance Fund
of the Co-operative Central Bank of Massachusetts.
The Bank's principal business consists of attracting deposits from the
general public and using these funds to originate mortgage loans secured by
one- to four-family residences located primarily in Falmouth, Massachusetts
and surrounding areas and to invest in United States Government and Agency
securities.
Business Strategy
The Bank's business strategy is to operate as a well-capitalized,
profitable and independent community bank dedicated to financing home
ownership and consumer needs in its market area and to provide quality
service to its customers. The Bank has implemented this strategy by: (i)
closely monitoring the needs of customers and providing quality service;
(ii) emphasizing consumer-oriented banking by originating residential
mortgage loans and consumer loans, and by offering checking accounts and
other financial services and products; (iii) focusing on expanding lending
activities to produce moderate increases in loan originations; (iv)
maintaining asset quality; (v) maintaining capital in excess of regulatory
requirements; and (vi) producing stable earnings.
The Bank serves its primary market area, the Massachusetts communities
of Falmouth and Mashpee located in the Cape Cod region of Massachusetts,
through its office in Falmouth, Massachusetts. In February, 1997, the Bank
opened a new branch located in East Falmouth and in August, 1997, the Bank
opened a branch in North Falmouth. In February 1998 and May 1998, the
North Falmouth and East Falmouth offices respectively, moved to improved
permanent facilities. The Bank competes with fifteen branches of financial
institutions (including national banks, savings banks, savings and loans and
credit unions) which are headquartered outside its market area. The Bank is
the only independent financial institution headquartered in Falmouth.
To a lesser extent, the Bank also makes commercial real estate loans
and consumer loans, including passbook loans, automobile, home equity and
other consumer loans. The Bank originates both fixed-rate and adjustable-
rate loans and emphasizes the origination of residential real estate
mortgage loans with adjustable interest rates, and makes other investments
which allow the Bank to more closely match the interest rate and maturities
of its assets and liabilities.
Market Area
The Bank considers its primary market area to be the communities of
Falmouth and Mashpee in Barnstable County, which is located in the Cape Cod
region of Massachusetts, approximately 72 miles south of Boston. The year-
round population of Barnstable County is over 200,000. The majority of the
Bank's lending has been in Falmouth and Mashpee. The Cape Cod region is a
major recreational resort/retirement community, with seasonal tourism being
the most significant economic activity. Falmouth's year-round population of
29,585 (1996 census) increases to a summer population of approximately
70,000. Visitors find accommodations in the many motels, hotels and inns in
the area. Falmouth has approximately 44 miles of ocean and lake shoreline.
There are nine harbors and inlets, some with docking and most with mooring
facilities. Two major harbors offer access, via ferry, to the island of
Martha's Vineyard with service to the island of Nantucket during the summer
months from Woods Hole. In addition to swimming, boating, fishing and other
forms of water recreation, Falmouth also has four public and two private
golf courses.
The major employers in the Falmouth area are the Woods Hole
Oceanographic Institute, with approximately 800 employees, Falmouth
Hospital, with 750 employees and Woods Hole, Martha's Vineyard and Nantucket
Steamship Authority, with 500 employees. Other major employers include
Marine Biological Laboratories and ORE International, Inc.
Employees
At September 30, 1998, the Bank employed 27 full-time and 5 part-time
employees.
Lending Activities
General. The principal lending activity of the Bank is the origination
of conventional mortgage loans for the purpose of purchasing or refinancing
owner-occupied, one- to four-family residential properties in its designated
community reinvestment area of the Massachusetts towns of Falmouth and
Mashpee. To a lesser extent, the Bank also originates consumer loans
including home equity and passbook loans and commercial loans. The Bank also
originates and retains in its loan portfolio adjustable-rate loans and
fixed-rate loans with maturities of up to 15 years. Historically, fixed-rate
loans with terms in excess of 15 years were sold in the secondary market.
Loan originations for the year ended September 30, 1998, achieved the
unprecedented level of $45.1 million and were primarily single family
residential loans. During this period, the Bank was ranked as one of the
largest producers of residential mortgage loans while achieving a greater
market share. The mortgage market in the Falmouth area was unusually
vigorous in both the purchase money and refinance categories during fiscal
1998 due to the decline in the general level of interest rates and, in
particular, rates on mortgage loans. The Bank is a qualified
seller/servicer for Federal National Mortgage Corporation ("FNMA") and was
servicing $4.1 million in loans for FNMA and $3.4 million with another
mortgage company at September 30, 1998. The Bank's five largest loans to
one borrower, outstanding as of September 30, 1998, ranged from $400,000 to
$1.04 million.
Loan Portfolio. The following table presents selected data relating to
the composition of the Bank's loan portfolio by type of loan on the dates
indicated.
<TABLE>
<CAPTION>
At September 30,
-------------------------------------------------------------------------------------------------
1998 1997 1996 1995 1994
----------------- ----------------- ----------------- ----------------- -----------------
Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ ------- ------ ------- ------ -------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Residential mortgage loans $69,967 87.56% $48,367 87.14% $33,993 82.57% $26,094 78.67% $22,029 78.33%
Commercial real estate loans 4,054 5.07 2,425 4.37 4,347 10.56 3,538 10.67 3,111 11.06
Consumer loans 566 .71 877 1.58 771 1.87 819 2.47 832 2.96
Home equity loans 3,897 4.88 2,756 4.96 1,683 4.09 1,890 5.70 2,150 7.65
Commercial loans 1,422 1.78 1,079 1.95 373 .91 830 2.49 -- --
------- ------ ------ ------ ------ ------ ------ ------ ------ ------
Total loans 79,906 100.00% 55,504 100.00% 41,167 100.00% 33,171 100.00% 28,122 100.00%
------- ====== ------ ====== ------ ====== ------ ====== ------ ======
Less:
Unearned income 45 97 143 121 101
Unadvanced principal 1,679 1,025 289 102 127
Allowance for loan losses 527 501 498 445 310
------- ------- ------- ------- -------
Loans, net $77,655 $53,881 $40,237 $32,503 $27,584
======= ======= ======= ======= =======
</TABLE>
One- to Four-Family Residential Real Estate Lending. The primary
emphasis of the Bank's lending activity is the origination of conventional
mortgage loans secured by one- to four-family residential dwellings located
in the Bank's primary market area. As of September 30, 1998, loans on one-
to four-family residential properties accounted for 87.6% of the Bank's loan
portfolio.
The Bank's mortgage loan originations are for terms of up to 30 years,
amortized on a monthly basis with interest and principal due each month.
Residential real estate loans often remain outstanding for significantly
shorter periods than their contractual terms as borrowers may refinance or
prepay loans at their option, without penalty. Conventional residential
mortgage loans granted by the Bank customarily contain "due-on-sale" clauses
which permits the Bank to accelerate the indebtedness of the loan upon
transfer of ownership of the mortgaged property.
The Bank makes conventional mortgage loans and it uses standard FNMA
documents to allow for the sale of loans in the secondary mortgage market.
The Bank's lending policies generally limit the maximum loan-to-value ratio
on mortgage loans secured by owner-occupied properties to 95% of the lesser
of the appraised value or purchase price of the property, with the condition
that private mortgage insurance is required on loans with a loan-to-value
ratio in excess of 80%.
The Bank, since the early 1980s, has offered adjustable-rate mortgage
loans with terms of up to 30 years. Adjustable-rate loans offered by the
Bank include loans which reprice every one, three and five years and provide
for an interest rate which is based on the interest rate paid on United
States Treasury securities of a corresponding term, plus a margin of 2.75%.
The Bank currently offers adjustable-rate loans with initial rates below
those which would prevail under the foregoing computations, based upon the
Bank's determination of market factors and competitive rates for adjustable-
rate loans in its market area. For adjustable-rate loans, borrowers are
qualified at the initial rate plus an anticipated upward adjustment of 200
basis points.
The Bank retains all adjustable-rate mortgages it originates. The
Bank's adjustable-rate mortgages include caps on increases or decreases of
2% per year, and 6% over the life of the loan (3% per adjustment, and 5%
over the life of the loan for three-year adjustable-rate loans). The
retention of adjustable-rate mortgage loans in the Bank's loan portfolio
helps reduce the Bank's exposure to increases in interest rates. However,
there are unquantifiable credit risks resulting from potential increased
costs to the borrower as a result of repricing of adjustable-rate mortgage
loans. It is possible that during periods of rising interest rates, the risk
of default on adjustable-rate mortgage loans may increase due to the upward
adjustment of interest cost to the borrower.
During the year ended September 30, 1998, the Bank originated $7.9
million in adjustable-rate mortgage loans and $30.4 million in fixed-rate
mortgage loans. Approximately 15.9% of all loan originations during fiscal
1998 were refinancings of loans already in the Bank's loan portfolio. At
September 30, 1998, the Bank's loan portfolio included $25.7 million in
adjustable-rate one- to four-family residential mortgage loans or 32.9% of
the Bank's total loan portfolio, and $43.0 million in fixed-rate one- to
four-family residential mortgage loans, or 55.0% of the Bank's total loan
portfolio.
The Bank engages in a limited amount of construction lending usually
for the construction of single family residences. Most are
construction/permanent loans structured to become permanent loans upon the
completion of construction. All construction loans are secured by first
liens on the property. Loan proceeds are disbursed as construction
progresses and inspections warrant. Loans involving construction financing
present a greater risk than loans for the purchase of existing homes, since
collateral values and construction costs can only be estimated at the time
the loan is approved. Due to the small amount of construction loans in the
Bank's portfolio, the risk in this area is limited.
Commercial Real Estate Loans. At September 30, 1998, the Bank's
commercial real estate loan portfolio totaled $4.1 million, or 5.07% of
total loans. The Bank's largest loan is a commercial loan with an
outstanding balance of $725,000 at September 30, 1998 secured by an office
complex located in Falmouth, Massachusetts.
Commercial real estate lending entails additional risks compared with
one- to four-family residential lending. For example, commercial real estate
loans typically involve large loan balances to single borrowers or groups of
related borrowers and the payment experience on such loans is typically
dependent on the successful operation of a real estate project and/or the
collateral value of the commercial real estate securing the loan. At
September 30, 1998, all of the Bank's commercial real estate loans were
performing.
Home Equity Loans. The Bank also originates home equity loans which
are loans secured by available equity based on the appraised value of one-
to four-family residential property. If the Bank currently holds the first
mortgage on the property securing the loan, home equity loans will be made
for up to 80% of the tax assessed or appraised value of the property (less
the amount of the first mortgage). If the Bank does not hold the first
mortgage, home equity loans are limited to 70% of the appraised value of the
property (less the amount of the first mortgage). Home equity loans have an
adjustable interest rate which ranges from 0% to 1% above the prime rate as
reported in The Wall Street Journal and have terms of ten years or less. At
September 30, 1998, the Bank had $8.4 million in home equity loans with
unused credit available to existing borrowers of $4.7 million.
Consumer Loans. The Bank's consumer loans consist of passbook loans,
and other consumer loans, including automobile loans. At September 30, 1998,
the consumer loan portfolio totaled $566,000 or 0.71% of total loans.
Consumer loans generally are offered for terms of up to five years at fixed
interest rates. Consumer loans do not exceed $15,000 individually.
Management expects to continue to promote consumer loans as part of its
strategy to provide a wide range of personal financial services to its
customers and as a means to increase the yield on the Bank's diversified
loan portfolio.
The Bank makes loans up to 90% of the amount of the depositor's
savings account balance. The interest rate on the loan is 4.0% higher than
the rate being paid on regular savings accounts and 3% higher than the rate
being paid on certificates of deposit. The Bank also makes other consumer
loans, which may or may not be secured. The terms of such loans usually
depend on the collateral. At September 30, 1998, the total amount of
passbook and other consumer loans was $444,000.
The Bank makes loans for automobiles, both new and used, directly to
the borrowers. The loans are generally limited to 80% of the purchase price
or the retail value listed by the National Automobile Dealers Book. The
terms of the loans are determined by the age and condition of the
collateral. Collision insurance policies are required on all these loans. At
September 30, 1998, the total amount of automobile loans was $122,000.
Consumer loans generally are originated at higher interest rates than
residential mortgage loans but also tend to have a higher credit risk than
residential loans due to the loan being unsecured or secured by rapidly
depreciable assets. Despite these risks, the Bank's level of consumer loan
delinquencies generally has been low. No assurance can be given, however,
that the Bank's delinquency rate on consumer loans will continue to remain
low in the future, or that the Bank will not incur future losses on these
activities.
Commercial Loans. In August 1994, the Bank hired a commercial loan
officer with over 18 years of experience in commercial lending in the
Falmouth market for the purpose of establishing a commercial lending program
for the Bank. The Bank is pursuing on a selective basis the origination of
commercial loans to meet the working capital and short-term financing needs
of established local businesses. Unless otherwise structured as a mortgage
on commercial real estate, such loans are generally be limited to terms of
five years or less. Substantially all such commercial loans have variable
interest rates tied to the prime rate as reported in The Wall Street
Journal. Whenever possible, the Bank collateralizes these loans with a lien
on commercial real estate, or alternatively, with a lien on business assets
and equipment and the personal guarantees from principals of the borrower.
Commercial loans do not presently comprise a significant portion of the
Bank's loan portfolio. At September 30, 1998 the Bank's commercial loan
portfolio totaled $1.4 million.
Commercial business loans generally are considered to involve a higher
degree of risk than residential mortgage loans because the collateral may be
in the form of intangible assets and/or inventory subject to market
obsolescence. Commercial loans also may involve relatively large loan
balances to single borrowers or groups of related borrowers, with the
repayment of such loans typically dependent on the successful operation and
income stream of the borrower. Such risks can be affected significantly by
economic conditions. In addition, commercial business lending generally
requires substantially greater oversight efforts compared to residential
real estate lending.
Loan Commitments. The Bank makes a 60-day loan commitment to
borrowers. At September 30,1998, the Bank had $4.5 million in loan
commitments outstanding, for the origination of one- to four-family
residential real estate loans.
Loan Solicitation Origination and Loan Fees. The Bank originates loans
through its main office located in Falmouth, Massachusetts and two branch
offices located in East and North Falmouth. Loan originations are derived
from a number of sources, including the Bank's existing customers,
referrals, realtors, advertising and "walk-in" customers at the Bank's
offices.
The Bank has one full-time residential loan originator who is
compensated by salary and commission. The originator meets with applicants
at their convenience and location and is in regular contact with real estate
brokers, attorneys, accountants, building contractors, developers and others
in the Bank's local market area. The Bank increased its advertising in
locally distributed newspapers and has utilized local radio advertising to
increase market share of residential loan originations.
Upon receipt of a loan application from a prospective borrower, a
credit report and verifications are ordered to verify specific information
relating to the loan applicant's employment, income and credit standing. For
all mortgage loans, an appraisal of real estate intended to secure the
proposed loan is obtained from an independent fee appraiser who has been
approved by the Bank's Board of Directors. Fire and casualty insurance are
required on all loans secured by improved real estate.
Insurance on other collateral is required unless waived by the loan
committee. The Board of Directors of the Bank has the responsibility and
authority for the general supervision over the loan policies of the Bank.
The Board has established written lending policies for the Bank. All
applications for residential and commercial real estate mortgages and
commercial business loans must be ratified by the Bank's Board of Directors.
In addition, certain designated officers of the Bank have limited authority
to approve consumer loans.
Interest rates charged by the Bank on all loans are primarily
determined by competitive loan rates offered in its market area and the Bank
generally charges an origination fee on new mortgage loans. The origination
fees, net of direct origination costs, are deferred and amortized into
income over the life of the loan. At September 30, 1998, the amount of
deferred loan origination fees was $288,000.
Loan Maturities. The following table sets forth certain information at
September 30, 1998 regarding the dollar amount of loans maturing in the
Bank's portfolio based on their contractual terms to maturity, including
scheduled repayments of principal. Demand loans, loans having no stated
schedule of repayments and no stated maturity, and overdrafts are reported
as due in one year or less.
<TABLE>
<CAPTION>
At September 30, 1998(1)
---------------------------------
Real Consumer Total
Estate and Other Loans
---------------------------------
(In thousands)
<S> <C> <C> <C>
Total loans scheduled to mature:
In one year or less $ 3,279 $ 1,855 $ 5,134
After one year through five years 2,980 898 3,878
Beyond five years 65,821 3,349 69,170
---------------------------------
Total $72,080 $ 6,102 $78,182
=================================
Loan balance by type scheduled to
mature after one year:
Fixed $43,437 $ 1,243 $44,680
Adjustable $25,364 $ 3,004 $28,368
- --------------------
<F1> Net of unearned income and unadvanced principal.
</TABLE>
Originations and Sales of Loans. The following table sets forth
information with respect to originations and sales of loans during the
periods indicated. In recent years, the Bank has been retaining more of
its fixed-rate residential loans in excess of 15-year term with the intent
of selling such loans service retained.
<TABLE>
<CAPTION>
Years Ended September 30,
--------------------------------------------------------
1998 1997 1996 1995 1994
----- ---- ---- ---- ----
(In thousands)
<S> <C> <C> <C> <C> <C>
Beginning balance(1) $ 54,382 $40,735 $32,948 $27,894 $29,233
--------------------------------------------------------
Mortgage loan originations(2) 41,356 18,712 13,090 8,722 6,214
Consumer loan originations 2,015 3,145 1,844 964 613
Commercial loan originations 1,752 1,710 1,321 1,127 -
Less:
Amortization and payoffs(3) (14,286) (9,920) (8,468) (5,310) (5,496)
Transfers to OREO - - - - -
--------------------------------------------------------
Net loans originated 30,837 13,647 7,787 5,503 1,331
--------------------------------------------------------
Total loans sold (7,037) - - (449) (2,670)
--------------------------------------------------------
Ending balance(1) $ 78,182 $54,382 $40,735 $32,948 $27,894
========================================================
- --------------------
<F1> Net of unearned income and unadvanced principal.
<F2> Includes residential and commercial real estate loans.
<F3> Includes unadvanced principal.
</TABLE>
Non-Performing Assets, Asset Classification and Allowances for Losses.
Loans are reviewed on a regular basis and are placed on a non-accrual status
when, in the opinion of management, the collection of principal and interest
are doubtful.
Real estate acquired by the Bank as a result of foreclosure is
classified as real estate owned until such time as it is sold. When such
property is acquired, it is recorded at the lower of the unpaid principal
balance or its fair value. Any required write-down of the loan to its fair
value is charged to the allowance for loan losses.
<TABLE>
<CAPTION>
At September 30,
-----------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Loans 30-89 days past due
(not included in non-
performing loans) $ 65 $290 $ 81 $ -- $ 62
Loans 30-89 days past due as a
percent of total loans .08% .53% .20% --% .22%
Non-performing loans:
(90 days past due) $ -- $ 30 $ 14 $ -- $ 322
OREO $ -- $ -- $ -- $ -- $ --
Total non-performing
assets $ -- $ 30 $ 14 $ -- $ 322
Non-performing loans as a
percent of total loans --% .06% .03% --% 1.15%
Non-performing assets as a
percent of total assets --% .03% .02% --% .43%
</TABLE>
During the year ended September 30, 1998, no gross interest income
would have been recorded on loans accounted for on a non-accrual basis if
the loans had been current throughout the period. No interest on such loans
was included in income during the respective periods. At September 30, 1998,
management was not aware of any loans not currently classified as non-
accrual, 90 days past due or restructured but which may be so classified in
the near future because of concerns over the borrower's ability to comply
with repayment terms.
Federal and state regulations require each banking institution to
classify its asset quality on a regular basis. In addition, in connection
with examinations of such banking institutions, federal and state examiners
have authority to identify problem assets and, if appropriate, classify
them. An asset is classified substandard if it is determined to be
inadequately protected by the current net worth and paying capacity of the
obligor or of the collateral pledged, if any. As a general rule, the Bank
will classify a loan as substandard if the Bank can no longer rely on the
borrower's income as the primary source for repayment of the indebtedness
and must look to secondary sources such as guarantors or collateral. An
asset is classified as doubtful if full collection is highly questionable or
improbable. An asset is classified as loss if it is considered
uncollectible, even if a partial recovery could be expected in the future.
The regulations also provide for a special mention designation, described as
assets which do not currently expose a banking institution to a sufficient
degree of risk to warrant classification but do possess credit deficiencies
or potential weaknesses deserving management's close attention. Assets
classified as substandard or doubtful require a banking institution to
establish general allowances for loan losses. If an asset or portion thereof
is classified loss, a banking institution must either establish specific
allowances for loan losses in the amount of the portion of the asset
classified loss, or charge off such amount. Examiners may disagree with a
banking institution's classifications and amounts reserved. If a banking
institution does not agree with an examiner's classification of an asset, it
may appeal this determination to the FDIC Regional Director. At September
30, 1998, the Bank had no assets classified as special mention or doubtful,
and $95,078 in assets designated as substandard and $4,517 classified as
loss.
In originating loans, the Bank recognizes that credit losses will
occur and that the risk of loss will vary with, among other things, the type
of loan being made, the creditworthiness of the borrower over the term of
the loan, general economic conditions and, in the case of a secured loan,
the quality of the security for the loan. It is management's policy to
maintain an adequate general allowance for loan losses based on, among other
things, the Bank's and the industry's historical loan loss experience,
evaluation of economic conditions and regular reviews of delinquencies and
loan portfolio quality. Further, after properties are acquired following
loan defaults, additional losses may occur with respect to such properties
while the Bank is holding them for sale. The Bank increases its allowances
for loan losses and losses on real estate owned by charging provisions for
possible losses against the Bank's income. Specific reserves also are
recognized against specific assets when warranted.
Results of recent examinations by bank regulators indicate that these
regulators may be applying more conservative criteria in evaluating real
estate market values, requiring significantly increased provisions for
potential loan losses. While Falmouth believes it has established its
existing allowances for loan losses in accordance with generally accepted
accounting principles, there can be no assurance that regulators, in
reviewing the Bank's loan portfolio, will not request the Bank to increase
its allowance for loan losses, thereby negatively affecting the Bank's
financial condition and earnings.
In December 1993, the banking regulatory agencies, including the FDIC,
adopted a policy statement regarding maintenance of an adequate allowance
for loan and lease losses and an effective loan review system. This policy
includes an arithmetic formula for checking the reasonableness of an
institution's allowance for loan loss estimate compared to the average loss
experience of the industry as a whole. Examiners will review an
institution's allowance for loan losses and compare it against the sum of
(i) 50% of the portfolio that is classified doubtful; (ii) 15% of the
portfolio that is classified as substandard; and (iii) for the portions of
the portfolio that have not been classified (including those loans
designated as special mention), estimated credit losses over the upcoming
twelve months given the facts and circumstances as of the evaluation date.
This amount is considered neither a "floor" nor a "safe harbor" of the level
of allowance for loan losses an institution should maintain, but examiners
will view a shortfall relative to the amount as an indication that they
should review management's policy on allocating these allowances to
determine whether it is reasonable based on all relevant factors.
The following table analyzes activity the Bank's allowance for loan
losses for the periods indicated.
<TABLE>
<CAPTION>
Year Ended September 30,
----------------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Average loans, net $69,258 $ 47,288 $ 36,387 $30,244 $28,283
Period-end total loans 78,182(1) 54,382 40,735 32,948 27,894
Allowance for loan losses at
beginning of period 501 498 445 310 277
Loans charged-off - - - - (2)
Recoveries - 3 2 135 26
Provision charged to operations 26 - 51 - 9
------------------------------------------------------------
Allowance for loan losses at
end of period $ 527 $ 501 $ 498 $ 445 $ 310
============================================================
Ratios:
Allowance for loan losses as
a percentage of period end total loans .68% .92% 1.22% 1.35% 1.11%
Allowance for loan losses as a
percentage of non-performing loans -% 1,670.00% 3,557.14% -% 96.27%
Net charge-offs to average loans,
net - - - - -
Net charge-offs to allowance for
loan losses - - - - -
- --------------------
<F1> Net of unearned income and unadvanced principle.
</TABLE>
The following table sets forth a breakdown of the allowance for loan
losses by loan category at the dates indicated. Management believes that the
allowance can be allocated by category only on an approximate basis. These
allocations are not necessarily indicative of future losses and do not
restrict the use of the allowance to absorb losses in any loan category.
<TABLE>
<CAPTION>
At September 30,
--------------------------------------------------------------------------------------------------------------
1998 1997 1996 1995 1994
--------------------- --------------------- --------------------- --------------------- ----------------------
Percent of Percent of Percent of Percent of Percent of
Loans in Each Loans in Each Loans in Each Loans in Each Loans in Each
Category to Category to Category to Category to Category to
Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans
------ ------------- ------ ------------- ------ ------------- ------ ------------- ------ -------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Real estate
mortgage:
Residential $315 87.28% $363 86.88% $428 82.57% $295 78.67% $188 78.33%
Commercial 113 5.19 64 4.46 32 10.56 96 10.67 103 11.06
Commercial loans,
other 44 1.82 38 1.98 8 0.91 32 2.49 - -
Consumer,
including home
equity loans 55 5.71 36 6.68 30 5.96 22 8.17 19 10.61
--------------------------------------------------------------------------------------------------------
Total allowance
for loan losses $527 100.00% $501 100.00% $498 100.00% $445 100.00% $310 100.00%
========================================================================================================
</TABLE>
Investment Activities
General. The Bank is required to maintain an amount of liquid assets
appropriate for its level of net withdrawals from savings accounts and
current borrowings. It has been generally the Bank's policy to maintain a
liquidity portfolio in excess of regulatory requirements. At September 30,
1998, the Bank's liquidity ratio was 28.34%. Liquidity levels may be
increased or decreased depending upon the yields on investment alternatives,
management's judgment as to the attractiveness of the yields then available
in relation to other opportunities, management's expectations of the level
of yield that will be available in the future and management's projections
as to the short-term demand for funds to be used in Falmouth's loan
origination and other activities.
Interest income from investments in various types of liquid assets
provides a significant source of revenue for the Bank. In the late 1980s,
the Bank maintained its conservative underwriting standards in an effort to
avoid asset quality problems and chose instead to invest excess liquidity in
its investment portfolio. The Bank's short-term investments include United
States Treasury securities and United States Agency securities, commercial
paper, bank certificates of deposits, equity securities, short-term
corporate debt securities and overnight federal funds. The balance of the
securities investments maintained by the Bank in excess of regulatory
requirements reflects management's historical objective of maintaining
liquidity at a level that assures the availability of adequate funds, taking
into account anticipated cash flows and available sources of credit, for
meeting withdrawal requests and loan commitments and making other
investments.
The Bank purchases securities through a primary dealer of United
States Government obligations or such other securities dealers authorized by
the Board of Directors and requires that the securities be delivered to the
safekeeping agent (First National Bank of Boston) before the funds are
transferred to the broker or dealer. The Bank purchases investment
securities pursuant to an investment policy established by the Board of
Directors.
All securities and investments are recorded on the books of the Bank
in accordance with generally accepted accounting principles. The Bank does
not purchase securities and investments for trading. Effective October 1,
1994, the Bank implemented SFAS 115. Available-for-sale securities are
reported at fair value with unrealized gains or losses reported as a
separate component of net worth. All purchases of securities and investments
conform to the Bank's interest rate risk policy.
The following table sets forth the scheduled maturities, average
yields, amortized cost and market value for the Bank's investment securities
at September 30, 1998.
<TABLE>
<CAPTION>
September 30, 1998
-----------------------------------------------------------------------------------------------------------
One Year or Less One to Five Years Five to Ten Years More than Ten Years Total Investment Portfolio
------------------ ------------------ ------------------ ------------------- --------------------------
Amortized Average Amortized Average Amortized Average Amortized Average Amortized Average Market
Cost Yield Cost Yield Cost Yield Cost Yield Cost Yield Amount
--------- ------- --------- ------- --------- ------- --------- ------- --------- ------- ------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
U.S. Government
Obligations $ 4,904 5.9% $ -- --% $ -- --% $ -- --% $ 4,904 5.9% $ 4,917
Mortgage-backed
Securities -- -- -- -- 475 7.6 2,239 7.5 2,714 7.5 2,796
Corporate Notes
and Bonds 6,427 7.4 3,943 6.7 -- -- -- -- 10,360 7.1 10,435
------- ------ ---- ------ ------- -------
Total $11,321 6.8% $3,943 6.7% $475 7.6% $2,239 7.5% 17,978 6.8% 18,148
======= ====== ==== ====== ======= =======
Marketable Equity
Securities 5,423 5.1 5,854
FHLB Stock 563 6.5 563
------- -------
Total Investment
Portfolio $23,964 6.4% $24,565
======= =======
</TABLE>
The following tables set forth information regarding the investment
portfolio at the dates indicated.
<TABLE>
<CAPTION>
September 30, 1998
-------------------------------------------------------------------
Available-for-Sale Held-to-Maturity
-------------------------------- --------------------------------
Amortized Market Amortized Market
Cost Value Percent(1) Cost Value Percent(2)
--------- ------ ---------- --------- ------ ----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Investment securities(3):
U.S. government obligations $ 3,705 $ 3,713 21.9% $1,200 $1,204 17.0%
Other bonds and obligations 4,997 5,053 29.9 5,362 5,382 76.0
Marketable equity securities 5,423 5,854 34.6 -- -- --
Mortgage-backed securities(4) 2,239 2,304 13.6 475 492 7.0
---------------------------------------------------------------
Total Investment Portfolio $16,364 $16,924 100.0% $7,037 $7,078 100.0%
===============================================================
<CAPTION>
September 30,
----------------------------------------------------------------
1998 1997 1996
------------------ ------------------- -----------------
Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ -------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Investment securities(3):
U.S. government obligations $ 4,913 20.5% $14,624 40.6% $25,486 55.9%
Other bonds and obligations 10,415 43.5 10,292 28.6 10,440 22.9
Marketable equity securities 5,854 24.4 7,670 21.3 6,764 14.9
Mortgage-backed securities(4) 2,779 11.6 3,411 9.5 2,863 6.3
-------------------------------------------------------------
Total Investment Portfolio $23,961 100.0% $35,997 100.0% $45,553 100.0%
=============================================================
- --------------------
<F1> As a percentage of market value.
<F2> As a percentage of amortized cost.
<F3> Includes $3.2 million invested in Bank Investment Fund One, a mutual
bond fund offered by the Co-operative Central Bank, a quasi-governmental
agency, and does not include interest-earning overnight deposits of
$5,581,233 or Federal Home Loan Bank Stock of $562,800.
<F4> Consists of collateralized mortgage obligations, GNMA and FHLMC
certificates.
</TABLE>
Deposit Activity and Other Sources of Funds
General. Deposits are the primary source of the Bank's funds for
lending and other investment purposes. In addition to deposits, the Bank
derives funds from principal repayments and interest payments on loans and
investments as well as other sources arising from operations in the
production of net earnings. Loan repayments and interest payments are a
relatively stable source of funds, while deposit inflows and outflows are
significantly influenced by general interest rates and money market
conditions. Borrowings may be used on a short-term basis to compensate for
reductions in the availability of funds from other sources, or on a longer
term basis for general business purposes.
Deposits. Deposits are attracted principally from within the Bank's
primary market area through the offering of a broad selection of deposit
instruments, including passbook savings, NOW accounts, demand deposits,
money market accounts and certificates of deposit. Deposit account terms
vary, with the principal differences being the minimum balance required, the
time periods the funds must remain on deposit and the interest rate.
The Bank's policies are designed primarily to attract deposits from
local residents and businesses rather than to solicit deposits from areas
outside its primary market. The Bank does not accept deposits from brokers
due to the volatility and rate sensitivity of such deposits. Interest rates
paid, maturity terms, service fees and withdrawal penalties are established
by the Bank on a periodic basis. Determination of rates and terms are
predicated upon funds acquisition and liquidity requirements, rates paid by
competitors, growth goals and federal regulations.
The following table sets forth the various types of deposit accounts
at the Bank and the balances in these accounts at the dates indicated.
<TABLE>
<CAPTION>
At September 30,
----------------------------------------------------------------------------------------------------------
1998 1997 1996 1995 1994
------------------ ------------------ ------------------ ------------------ ------------------
Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ ------- ------ ------- ------ -------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Savings deposits $16,583 20.3% $15,828 21.9% $13,986 21.1% $13,921 21.5% $16,092 24.2%
NOW accounts 6,601 8.1 6,983 9.7 5,674 8.5 5,562 8.6 5,261 7.9
Money market
deposits 11,056 13.6 9,111 12.6 7,770 11.7 8,441 13.0 10,268 15.5
--------------------------------------------------------------------------------------------------------
Total 34,240 42.0 31,922 44.2 27,430 41.3 27,924 43.1 31,621 47.6
--------------------------------------------------------------------------------------------------------
Demand deposits 5,335 6.5 3,136 4.4 947 1.4 701 1.1 141 0.2
Certificates of
deposit 41,944 51.5 37,133 51.4 38,066 57.3 36,157 55.8 34,666 52.2
--------------------------------------------------------------------------------------------------------
Total deposits $81,519 100.0% $72,191 100.0% $66,443 100.0% $64,782 100.0% $66,428 100.0%
========================================================================================================
</TABLE>
For more information on the Bank's deposit accounts, see Note 6 of
Notes to Financial Statements.
The following table indicates the amount of the Bank's certificates of
deposit of $100,000 or more by time remaining until maturity at September
30, 1998.
<TABLE>
<CAPTION>
Certificates
Maturity Period of Deposit
--------------------------------- --------------
(In thousands)
<S> <C>
Within three months $2,303
After three but within six months 1,630
After six but within 12 months 2,055
After 12 months 2,033
------
Total $8,021
======
</TABLE>
The following table sets forth the deposit activity of the Bank for
the periods indicated.
<TABLE>
<CAPTION>
Years Ended September 30,
----------------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
(In thousands)
<S> <C> <C> <C> <C> <C>
Deposits $306,283 $179,911 $153,704 $84,785 $70,679
Withdrawals 299,905 176,904 155,067 88,973 73,950
----------------------------------------------------------
Net increase (decrease)
before interest credited 6,378 3,007 (1,363) (4,188) (3,271)
Interest credited 2,950 2,740 2,786 2,542 2,128
----------------------------------------------------------
Net increase (decrease)
in deposits $ 9,328 $ 5,747 $ 1,423 $(1,646) $(1,143)
==========================================================
</TABLE>
Borrowings. Savings deposits historically have been the primary source
of funds for the Bank's lending and investment activities and for its
general business activities. The Bank is authorized, however, to use
advances from the FHLB of Boston to supplement its supply of lendable funds
and to meet deposit withdrawal requirements. Advances from the FHLB are
secured by the Bank's stock in the FHLB and a portion of the Bank's mortgage
loans. The Bank had $7.6 million of FHLB advances outstanding at September
30, 1998.
The FHLB of Boston functions as a central reserve bank providing
credit for savings institutions and certain other financial institutions. As
a member, the bank is required to own capital stock in the FHLB and is
authorized to apply for advances on the security of such stock and certain
of its home mortgages and other assets (principally, securities which are
obligations of, or guaranteed by the United States) provided certain
standards related to creditworthiness have been met.
Competition
The Bank experiences substantial competition both in attracting and
retaining savings deposits and in the making of mortgage and other loans.
Direct competition for savings deposits primarily comes from larger
commercial banks and other savings institutions located in or near the
Bank's primary market area which generally have significantly greater
financial and technological resources than the Bank. Additional significant
competition for savings deposits comes from credit unions, money market
funds and brokerage firms. The primary factors in competing for loans are
interest rates and loan origination fees and the range of services offered
by the various financial institutions. Competition for origination of real
estate loans normally comes from commercial banks, other thrift
institutions, mortgage bankers, mortgage brokers and insurance companies.
Management considers the Bank's competitors in its market area to consist of
15 branches of financial institutions headquartered outside of its market
area. The Bank is the only independent financial institution headquartered
in Falmouth.
Employees
At September 30, 1998, the Bank had 27 full-time and 5 part-time
employees. The Bank's employees are not represented by a collective
bargaining agreement, and the Bank considers its relationship with its
employees to be good.
FEDERAL AND STATE TAXATION
Federal Taxation
General. The following is intended only as a discussion of material
federal income tax matters and does not purport to be a comprehensive
description of the federal income tax rules applicable to the Bank or the
Registrant. The Bank's federal income tax return was last audited for the
tax year ended September 30, 1975. For federal income tax purposes, the
Company and the Bank, as members of the same affiliated group, file
consolidated income tax returns on a September 30 fiscal year basis using
the accrual method of accounting and are subject to federal income taxation
in the same manner as other corporations with some exceptions, including
particularly the Bank's tax reserve for bad debts, discussed below.
Bad Debt Reserves. The Bank, as a "small bank" (one with assets
having an adjusted tax basis of $500 million or less) is permitted to
maintain a reserve for bad debts with respect to "qualifying loans," which,
in general, are loans secured by certain interests in real property, and
to make, within specified formula limits, annual additions to the reserve
which are deductible for purposes of computing the Bank's taxable income.
Pursuant to the Small Business Job Protection Act of 1996, the Bank is now
recapturing (taking into income) over a multi-year period a portion of the
balance of its bad debt reserve as of September 30, 1996. See Note 9 to the
consolidated financial statements.
Distributions. To that the extent that the Bank makes "non-dividend
distributions" to the Company, such distributions will be considered to have
been made from the Bank's "base year reserve," i.e., its reserve as of
September 30, 1988, and then from the Bank's supplemental reserve for losses
on loans, to the extent thereof, and an amount based on the amount
distributed (but not in excess of the amount of such reserves) will be
included in the Bank's income. Non-dividend distributions include
distributions in excess of the Bank's current and accumulated earnings and
profits, as calculated for federal income tax purposes, distributions in
redemption of stock, and distributions in partial or complete liquidation.
Dividends paid out of the Bank's current or accumulated earnings and profits
will not be so included in the Bank's income.
The amount of additional taxable income created from a non-dividend
distribution is an amount that, when reduced by the tax attributable to the
income, is equal to the amount of the distribution. Thus, if the Bank makes
a non-dividend distribution to the Company, approximately one and one-half
times the amount of such distribution (but not in excess of the amount of
such reserves) would be includible in income, assuming a 34% federal
corporate income tax rate. The Bank does not intend to pay dividends that
would result in a recapture of any portion of its bad debt reserves.
Corporate Alternative Minimum Tax. The Code imposes a tax ("AMT") on
alternative minimum taxable income ("AMTI") at a rate of 20%. Only 90% of
AMTI can be offset by net operating loss carryovers of which the Bank
currently has none. AMTI is also adjusted by determining the tax treatment
of certain items in a manner that negates the deferral of income resulting
from the regular tax treatment of those items. Thus, the Bank's AMTI is
increased by an amount equal to 75% of the amount by which the Bank's
adjusted current earnings exceeds its AMTI (determined without regard to
this adjustment and prior to reduction for net operating losses). The Bank
does not expect to be subject to the AMT.
Elimination of Dividends; Dividends Received Deduction. The
Registrant may exclude from its income 100% of dividends received from the
Bank as a member of the same affiliated group of corporations.
State Taxation
Massachusetts Taxation. The Bank currently files a separate
Massachusetts excise tax return, based on net income. Prior to July, 1995,
the Bank was subject to an annual Massachusetts excise (income) tax equal to
12.54% of its pre-tax income. In 1995, legislation was enacted to reduce
the Massachusetts bank excise (income) tax rate and to allow Massachusetts-
based financial institutions to apportion income earned in other states.
Further, this legislation expands the applicability of the tax to non-bank
entities and out-of-state financial institutions. The Massachusetts excise
tax rate for co-operative banks is currently 11.32% of federal taxable
income, adjusted for certain items. It is anticipated that this rate will
be gradually reduced over the next few years so that the Bank's tax rate
will become 10.5% by March 31, 2000. Taxable income includes gross income
as defined under the Code, plus interest from bonds, notes and evidences of
indebtedness of any state, including Massachusetts, less deductions, but not
the credits, allowable under the provisions of the Code. No deductions,
however, are allowed for dividends received until July 1, 1999. In
addition, carryforwards and carrybacks of net operating losses are not
allowed.
The Bank's active subsidiary, Falmouth Securities Corporation, was
established solely for the purpose of acquiring and holding investments
which are permissible for banks to hold under Massachusetts law. Falmouth
Securities Corporation has qualified as a "security corporation" under
Massachusetts law, qualifying it to take advantage of the 1.32% income tax
rate on gross income applicable to companies that are so classified.
The Bank and the Company are not permitted to file a combined
Massachusetts excise tax return. The Company will be subject to
Massachusetts corporate excise tax, which is determined by two measures:
(1) the income measure, a tax of 9.5% on net income attributable to
Massachusetts; and (2) the non-income measure, a tax of $2.60 per $1,000
imposed on either (a) tangible property, if the corporation is a tangible
property corporation, or (b) net worth, if the corporation is an intangible
property corporation. Unlike the definition of net income for purposes of
the Bank's taxation, net operating loss carryovers and a 95% dividends
received deduction for intercompany dividends is permissible for
corporations.
For additional information regarding taxation, see Note 9 of the Notes
to Financial Statements.
Delaware Taxation. As a Delaware holding company not earning income
in Delaware, the Company is exempt from Delaware corporate income tax but is
required to file an annual report with and pay an annual franchise tax to
the State of Delaware.
REGULATION AND SUPERVISION
General
As a co-operative bank chartered by the Commonwealth of Massachusetts
whose deposits are insured by the BIF of the FDIC, the Bank is subject to
extensive regulation under state law with respect to many aspects of its
banking activities; this state regulation is administered by the Division of
Banks. In addition, the FDIC levies assessments or deposit insurance
premiums and is vested with authority to supervise the Bank and to exercise
a broad range of enforcement powers. Finally, the Bank is required to
maintain reserves against deposits according to a schedule established by
the Federal Reserve System. These laws and regulations have been
established primarily for the protection of depositors and the deposit
insurance fund, not the Company's stockholders.
The following references to the laws and regulations under which the
Bank is regulated are brief summaries thereof, do not purport to be complete
and are qualified in their entirety by reference to such laws and
regulations.
Federal Banking Regulations
Capital Requirements. Under FDIC regulations, insured state-chartered
banks that are not members of the Federal Reserve System ("state non-member
banks") are required to maintain minimum levels of capital. State non-
member banks must satisfy a leverage capital ratio of Tier 1 capital to
total assets of at least 3% if the FDIC determines that the institution is
not anticipating or experiencing significant growth and has well diversified
risk, including no undue interest rate risk exposure, excellent asset
quality, high liquidity, good earnings and is in general a strong banking
organization, rated composite 1 under the Uniform Financial Institutions
Ranking System (the CAMEL rating system) established by the Federal
Financial Institutions Examination Council. For all but the most highly
rated institutions meeting the conditions set forth above, the minimum
leverage capital ratio is 3% plus an additional "cushion" amount of at least
100 to 200 basis points. Tier 1 capital is the sum of common stockholders'
equity, noncumulative perpetual preferred stock (including any related
surplus) and minority investments in certain subsidiaries, less most
intangible assets. The FDIC and the federal banking regulators have
proposed amendments to their minimum capital regulations to provide that the
minimum leverage capital ratio for depository institutions, other than those
that have been assigned the highest composite rating of 1 under the Uniform
Financial Institutions Ratings System, will be 4% unless a higher leverage
capital ratio is warranted by the particular circumstances or risk profile
of the depository institution.
The FDIC has also adopted risk-based capital guidelines to which the
Bank is subject. The guidelines establish a systematic analytical framework
designed to make regulatory capital requirements sensitive to differences in
risk profiles among banking organizations. The FDIC guidelines require
state non-member banks to maintain certain levels of regulatory capital in
relation to regulatory risk-weighted assets. The ratio of such regulatory
capital to regulatory risk-weighted assets is referred to as the Bank's
"risk-based capital ratio." Risk-based capital ratios are determined by
allocating assets and specified off-balance sheet items to four risk-
weighted categories ranging from 0% to 100%, with higher levels of capital
being required for the categories perceived as representing greater risk.
Under the FDIC's risk-weighting system, cash and securities backed by the
full faith and credit of the U.S. government are given a 0% risk weight.
Mortgage-backed securities that qualify under the Secondary Mortgage
Enhancement Act, including those issued, or fully guaranteed as to principal
and interest, by the FNMA or the Federal Home Loan Mortgage Corporation
("FHLMC"), are assigned a 20% risk weight. Single-family first mortgages
not more than 90 days past due with loan-to-value ratios under 80%, multi-
family mortgages (maximum 36 dwelling units) with loan-to-value ratios under
80% and average annual occupancy rates over 80%, and certain qualifying
loans for the construction of one- to four-family residences pre-sold to
home purchasers, are assigned a risk weight of 50%. Consumer loans and
commercial real estate loans, repossessed assets and assets more than 90
days past due, as well as all other assets not specifically categorized, are
assigned a risk weight of 100%. The FDIC and the other federal banking
regulators adopted, effective October 1, 1998, an amendment to their risk-
based capital guidelines that permits insured depository institutions to
include in supplementary capital up to 45% of the pretax net unrealized
holding gains on certain available-for-sale equity securities, as such gain
are computed under the guidelines.
State non-member banks must maintain a minimum ratio of qualifying
total capital to risk-weighted assets of at least 8%, of which at least one-
half must be Tier 1 capital. Qualifying total capital consists of Tier 1
capital plus Tier 2 or supplementary capital items, which include allowances
for loan losses in an amount of up to 1.25% of risk-weighted assets,
cumulative preferred stock, preferred stock with a maturity of over 20
years, and certain other capital instruments. The includable amount of Tier
2 capital cannot exceed the amount of the institution's Tier 1 capital.
Qualifying total capital is further reduced by the amount of the bank's
investments in banking and finance subsidiaries that are not consolidated
for regulatory capital purposes, reciprocal cross-holdings of capital
securities issued by other banks and certain other deductions.
The Federal Deposit Insurance Corporation Improvement Act ("FDICIA")
required each federal banking agency to revise its risk-based capital
standards for insured institutions to ensure that those standards take
adequate account of interest-rate risk ("IRR"), concentration of credit
risk, and the risk of nontraditional activities, as well as to reflect the
actual performance and expected risk of loss on multi-family residential
loans. In August 1995, the FDIC, along with the other federal banking
agencies, adopted a regulation providing that the agencies will take account
of the exposure of a bank's capital and economic value to the risks of
changes in interest rates in assessing a bank's capital adequacy. According
to the agencies, applicable considerations include the quality of the bank's
interest rate risk management process, the overall financial condition of
the bank, and the level of other risks at the bank for which capital is
needed. Institutions with significant interest rate risk may be required to
hold additional capital. The agencies also issued a joint policy statement
providing guidance on interest rate risk management, including a discussion
of the critical factors affecting the agencies' evaluation of interest rate
risk in connection with capital adequacy. The agencies have determined not
to proceed with a previously issued proposal to develop a supervisory
framework for measuring interest rate risk and to require an explicit
capital component for interest rate risk.
The following table shows the Bank's leverage capital ratio, its Tier
1 risk-based capital ratio, and its total risk-based capital ratio, at
September 30, 1998. The Bank exceeded the minimum capital adequacy
requirements at September 30, 1998.
<TABLE>
<CAPTION>
At September 30, 1998
-----------------------------------------------------
Capital Percent of Capital Percent of
Amount Assets(1) Requirement Assets(1)
------- ---------- ----------- ----------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Tier 1 leverage capital $14,104 13.62% $4,143 4.00%
Tier 1 risk-based capital 14,104 22.47% 2,511 4.00%
Total risk-based capital 14,631 23.31% 5,022 8.00%
- --------------------
<F1> For purposes of calculating the Tier 1 leverage capital ratio, assets
include adjusted total average assets. In calculating Tier 1 risk -
based capital and total risk-based capital ratio, assets include total
risk-weighted assets.
</TABLE>
Enforcement
The FDIC has extensive enforcement authority over insured co-operative
banks, including the Bank. This enforcement authority includes, among other
things, the ability to assess civil money penalties, to issue cease and
desist orders and to remove directors and officers. In general, these
enforcement actions may be initiated in response to violations of laws and
regulations and to unsafe or unsound practices.
The FDIC has authority under federal law to appoint a conservator or
receiver for an insured bank under certain circumstances. The FDIC is
required, with certain exceptions, to appoint a receiver or conservator for
an insured state bank if that bank was "critically undercapitalized" on
average during the calendar quarter beginning 270 days after the date on
which the bank became "critically undercapitalized." For this purpose,
"critically undercapitalized" means having a ratio of tangible capital to
total assets of less than 2%. The FDIC may also appoint a conservator or
receiver for a state bank on the basis of the institution's financial
condition or upon the occurrence of certain events, including: (i)
insolvency (whereby the assets of the bank are less than its liabilities to
depositors and others); (ii) substantial dissipation of assets or earnings
through violations of law or unsafe or unsound practices; (iii) existence of
an unsafe or unsound condition to transact business; (iv) likelihood that
the bank will be unable to meet the demands of its depositors or to pay its
obligations in the normal course of business; and (v) insufficient capital,
or the incurring or likely incurring of losses that will deplete
substantially all of the institution's capital with no reasonable prospect
of replenishment of capital without federal assistance.
Deposit Insurance
The FDIC has adopted a risk-based deposit insurance assessment system.
The FDIC assigns an institution to one of three capital categories based on
the institution's financial information, as of the reporting period ending
seven months before the assessment period, consisting of (1) well
capitalized, (2) adequately capitalized or (3) undercapitalized, and one of
three supervisory subcategories within each capital group. The supervisory
subgroup to which an institution is assigned is based on a supervisory
evaluation provided to the FDIC by the institution's primary federal
regulator and information that the FDIC determines to be relevant to the
institution's financial condition and the risk posed to the deposit
insurance funds. An institution's assessment rate depends on the capital
category and supervisory category to which it is assigned. Assessment rates
for BIF deposits currently range from 0 basis points to 27 basis points.
The Bank's assessment rate is currently 0 basis points. The FDIC is
authorized to raise the assessment rates in certain circumstances, including
to maintain or achieve the designated reserve ratio of 1.25%, which
requirement the BIF currently meets. The FDIC has exercised its authority
to raise rates in the past and may raise insurance premiums in the future.
If such action is taken by the FDIC, it could have an adverse effect on the
earnings of the Bank. In addition, recent legislation requires BIF-insured
institutions like the Bank to assist in the payment of FICO bonds.
Under the Deposit Insurance Funds Act of 1996 (the "Funds Act"), the
assessment base for the payments on the FICO bonds was expanded to add,
beginning January 1, 1997, the deposits of BIF-insured institutions, such as
the Bank. Until December 31, 1999, or such earlier date on which the last
savings association ceases to exist, the rate of assessment for BIF-
assessable deposits shall be one-fifth of the rate imposed on SAIF-
assessable deposits. The annual rate of assessments for the payments on the
FICO bonds for the semi-annual period beginning on July 1, 1997 was 0.0126%
for BIF-assessable deposits and 0.0630% for SAIF-assessable deposits. For
the semi-annual period beginning July 1, 1998, the rates of assessment for
the FICO bonds is 0.0122% for BIF-assessable deposits and 0.0610 for SAIF-
assessable deposits.
Under the Federal Deposit Insurance Act (the "FDI Act"), 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 Division.
The management of the Bank does not know of any practice, condition or
violation that might lead to termination of deposit insurance.
Transactions with Affiliates and Insiders
Transactions between state non-member banks and any affiliate are
governed by Sections 23A and 23B of the Federal Reserve Act. An affiliate
of a bank is any company or entity which controls, is controlled by or is
under common control with the bank. Currently, a subsidiary of a bank that
is not also a depository institution is not treated as an affiliate of the
bank for purposes of Sections 23A and 23B, but the FRB has proposed treating
any subsidiary of a bank that is engaged in activities not permissible for
bank holding companies under the BHCA as an affiliate for purposes of
Sections 23A and 23B. Generally, Section 23A (i) limits the extent to which
the bank or its subsidiaries may engage in "covered transactions" with any
one affiliate to an amount equal to 10% of such bank's capital and surplus,
and contains an aggregate limit on all such transactions with all affiliates
to an amount equal to 20% of such capital and surplus and (ii) requires that
all such transactions be on terms that are consistent with safe and sound
banking practices. The term "covered transaction" includes the making of
loans, purchase of assets, issuance of guarantees and similar other types of
transactions. In addition, most extensions of credit by a bank to any of
its affiliates must be secured by collateral in amounts ranging from 100% to
130% of the loan amounts, depending on the type of collateral. Section 23B
requires that any covered transaction, and certain other transactions,
including the bank's sale of assets and purchase of services from an
affiliate must be on terms that are substantially the same, or at least as
favorable, to the institution as those that would prevail in a comparable
transaction with a non-affiliate.
Banks are also subject to the restrictions contained in Section 22(h)
of the Federal Reserve Act and the FRB's Regulation O thereunder on loans to
executive officers, directors and principal stockholders. Under Section
22(h), loans to a director, an executive officer or a holder of more than
10% of the shares of a bank, as well as certain affiliated interests of such
persons, may not exceed, together with all other outstanding loans to such
person and affiliated interests, the loans-to-one-borrower limit applicable
to national banks (generally 15% of an institution's unimpaired capital and
surplus) and all loans to all such persons in the aggregate may not exceed
an institution's unimpaired capital and unimpaired surplus. Regulation O
also prohibits the making of loans in an amount greater than the lesser of
$25,000 or 5% of capital and surplus but in any event over $500,000, to a
director, executive officer and greater than 10% stockholder of a bank, and
the respective affiliates of such a person, unless such loans are approved
in advance by a majority of the board of directors of the bank, with any
"interested" director not participating in the voting. Further, the FRB
pursuant to Regulation O requires that loans to directors, executive
officers and principal stockholders (a) be made on terms substantially the
same as those that are offered in comparable transactions to persons not
affiliated with the bank and (b) follow credit underwriting procedures not
less stringent than those prevailing for comparable transactions with
persons not affiliated with the bank. Regulation O also prohibits a
depository institution from paying, with certain exceptions, an overdraft of
any of the executive officers or directors of the institution or any of its
affiliates unless the overdraft is paid pursuant to written pre-authorized
extension of interest-bearing extension of credit or transfer of funds from
another account at the bank.
State chartered non-member banks are further subject to the
requirements and restrictions against certain tying arrangements and on
extensions of credit involving correspondent banks. Specifically, a
depository institution is prohibited from extending credit to or offering
any other service, or fixing or varying the consideration for such extension
of credit or service, on the condition that the customer obtain some
additional service from the institution or certain of its affiliates or not
obtain services of a competitor of the institution, subject to certain
exceptions. In addition, a depository institution with a correspondent
banking relationship with another depository institution is prohibited from
extending credit to the executive officers, directors, and holders of more
than 10% of the stock of the other depository institution, unless such
extension of credit is on substantially the same terms as those prevailing
at the time for comparable transactions with other persons and does not
involve more than the normal risk of repayment or present other unfavorable
features.
Real Estate Lending Policies
Under FDIC regulations which became effective March 19, 1993, state-
chartered nonmember banks must adopt and maintain written policies that
establish appropriate limits and standards for extensions of credit that are
secured by liens or interest in real estate or are made for the purpose of
financing permanent improvements to real estate. These policies must
establish loan portfolio diversification standards, prudent underwriting
standards, including loan-to-value limits, that are clear and measurable,
loan administration procedures and documentation, approval and reporting
requirements. The real estate lending policies must reflect consideration
of the Interagency Guidelines for Real Estate Lending Policies (the
"Interagency Guidelines") that have been adopted by the federal bank
regulators.
The Interagency Guidelines, among other things, call upon a depository
institution to establish internal loan-to-value limits for real estate loans
that are not in excess of the following supervisory limits: (i) for loans
secured by raw land, the supervisory loan-to-value limit is 65% of the value
of the collateral; (ii) for land development loans (i.e., loans for the
purpose of improving unimproved property prior to the erection of
structures), the supervisory limit is 75%; (iii) for loans for the
construction of commercial, multi-family or other nonresidential property,
the supervisory limit is 80%; (iv) for loans for the construction of one- to
four-family properties, the supervisory limit is 85%; and (v) for loans
secured by other improved property (e.g., farmland, completed commercial
property and other income-producing property including non-owner-occupied,
one- to four-family property), the limit is 85%. Although no supervisory
loan-to-value limit has been established for owner-occupied, one- to four-
family and home equity loans, the Interagency Guidelines state that for any
such loan with a loan-to-value ratio that equals or exceeds 90% at
origination, an institution should require appropriate credit enhancement in
the form of either mortgage insurance or readily marketable collateral.
Standards for Safety and Soundness
Under FDICIA, each federal banking agency is required to prescribe, by
regulation, safety and soundness standards for institutions under its
authority. The federal banking agencies, including the FDIC, have adopted
standards covering internal controls, information systems and internal audit
systems, loan documentation, credit underwriting, interest rate exposure,
asset growth, employee compensation, fees, and benefits, asset quality and
earnings sufficiency. These standards are in the form of broad guidelines
for performance that generally leave to each institution the methods for
achieving the objectives. The Bank believes it meets the FDIC's safety and
soundness standards.
Federal Home Loan Bank System
The Bank is a member of the FHLB System, which consists of 12 regional
Federal Home Loan Banks subject to supervision and regulation by the Federal
Housing Finance Board ("FHFB"). The Federal Home Loan Banks provide a
central credit facility primarily for member institution. As a member of
the FHLB, the Bank is required to acquire and hold shares of capital stock
in the FHLB in an amount at least equal to 1% of the aggregate unpaid
principal of its home mortgage loans, home purchase contracts, and similar
obligations at the beginning of each year, or 1/20 of its advances
(borrowings) from the FHLB, whichever is greater. Falmouth was in
compliance with this requirement with an investment in FHLB of Boston stock
at September 30, 1998, of $562,800.
The FHLB of Boston serves as a reserve or central bank for its member
institutions within its assigned region. It is funded primarily from
proceeds derived from the sale of consolidated obligations of the FHLB
System. It offers policies and procedures established by the FHFB and the
Board of Directors of the FHLB of Boston. Long-term advances may only be
made for the purpose of providing funds for residential housing finance.
Federal Reserve System
Pursuant to regulations of the FRB, a bank must maintain average daily
reserves equal to 3.0% on the first $47.8 million of net transaction
accounts, above an exempt amount of $4.7 million, plus 10% on the remainder.
This percentage is subject to adjustment by the FRB. Because required
reserves must be maintained in the form of vault cash or in a non-interest
bearing account at a Federal Reserve Bank, the effect of the reserve
requirement is to reduce the amount of the institution's interest-earning
assets. As of September 30, 1998, the Bank met its reserve requirements.
Massachusetts Banking Laws and Supervision
Massachusetts co-operative banks such as the Bank are also regulated
and supervised by the Division of Banks. The Division of Banks is required
to regularly examine each state-chartered bank. The approval of the
Division of Banks is required to establish or close branches, to merge with
another bank, to form a bank holding company, to issue stock or to undertake
many other activities. Any Massachusetts bank that does not operate in
accordance with the regulations, policies and directives of the Division of
Banks is subject to sanctions. The Division of Banks may under certain
circumstances suspend or remove directors or officers of a bank who have
violated the law, conducted a bank's business in a manner which is unsafe,
unsound or contrary to the depositors' interests, or been negligent in the
performance of their duties.
All Massachusetts-chartered co-operative banks are required to be
members of the Co-operative Central Bank and are subject to its assessments.
The Co-operative Central Bank maintains the Share Insurance Fund, a private
deposit insurer, which insures all deposits in member banks in excess of
FDIC deposit insurance limits. In addition, the Co-operative Central Bank
acts as a source of liquidity to its members in supplying them with low-cost
funds, and purchasing certain qualifying obligations from them.
Major changes in Massachusetts law in 1982 and 1983 substantially
expanded the powers of co-operative banks. Their powers were made virtually
identical to those of state-chartered commercial banks. The powers which
Massachusetts-chartered co-operative banks can exercise under these laws are
summarized below.
Lending Activities. A wide variety of mortgage loans may be made.
Fixed-rate loans, adjustable-rate loans, variable-rate loans, participation
loans, graduated payment loans, construction loans, condominium and co-
operative loans, second mortgage loans and other types of loans may be made
in accordance with applicable regulations. Mortgage loans may be made on
real estate in Massachusetts or in another New England state if the bank
making the loan has an office there or under certain other circumstances.
In addition, certain mortgage loans may be made on improved real estate
located anywhere in the United States. Commercial loans may be made to
corporations and other commercial enterprises with or without security.
With certain exceptions, such loans may be made without geographic
limitations. Consumer and personal loans may be made with or without
security and without geographic limitations. Loans to individual borrowers
generally will be limited to 20% of the total of the Bank's capital accounts
and stockholders' equity.
Investments Authorized. Massachusetts-chartered co-operative banks
have broad investment powers under Massachusetts law, including so-called
"leeway" authority for investments that are not otherwise specifically
authorized. The investment powers authorized under Massachusetts law are
restricted by federal law to permit only investments of the kinds that would
be permitted for national banks. The Bank has authority to invest in all of
the classes of loans and investments that are permitted by its existing loan
and investment policies.
Payment of Dividends. A co-operative bank only may pay dividends on
its capital stock if such payment would not impair the bank's capital stock
and surplus account. No dividends may be paid to stockholders of a bank if
such dividends would reduce stockholders' equity of the bank below the
amount of the liquidation account required by Massachusetts conversion
regulations.
Branches. With the approval of the Division of Banks, bank branches
may be established in any city or town in Massachusetts. In addition, co-
operative banks may operate automated teller machines at any of their
offices or, with the approval of the Division of Banks, anywhere in
Massachusetts. Sharing of ATMs or "networking" is also permitted with the
approval of the Division of Banks. Massachusetts chartered co-operative
banks may also operate ATMs outside of Massachusetts if permitted to do so
by the law of the jurisdiction in which the ATM is located.
Interstate Acquisitions. In 1996, the Massachusetts legislature
passed a new interstate banking statute in anticipation of the June 1, 1997
effective date of the federal interstate banking law. Pursuant to this
statute, an out-of-state bank may (subject to various regulatory approvals
and to reciprocity in its home state) establish and maintain bank branches
in Massachusetts by (i) merging with a Massachusetts bank that has been in
existence for at least three years, (ii) acquiring a branch or branches of a
Massachusetts bank without acquiring the entire bank, or (iii) opening such
branches de novo. Massachusetts banks' ability to exercise similar
interstate banking powers in other states depends upon the laws of the other
states. For example, according to the law of the bordering state of New
Hampshire, out-of-state banks may acquire New Hampshire banks by merger, but
may not establish de novo branches in New Hampshire.
Other Powers. Massachusetts-chartered co-operative banks may also
lease machinery and equipment, act as trustee or custodian for tax qualified
retirement plans, establish trust departments and act as professional
trustee or fiduciary, provide payroll services for their customers, issue or
participate with others in the issuance of mortgage-backed securities and
establish mortgage banking companies and discount securities brokerage
operations. Some of these activities require the prior approval of the
Division of Banks.
Regulation of Holding Company
Federal Regulation. The Company is subject to examination, regulation
and periodic reporting under the BHCA, as administered by the FRB. The FRB
has adopted capital adequacy guidelines for bank holding companies on a
consolidated basis substantially similar to those of the FDIC for the Bank.
The Company is required to obtain the prior approval of the FRB and
the Massachusetts Board of Bank Incorporation ("BBI") to acquire all, or
substantially all, of the assets or any bank of bank holding company. Prior
FRB and BBI approval would be required for the Company to acquire direct or
indirect ownership or control of any voting securities of any bank or bank
holding company if, after giving effect to such acquisition, it would,
directly or indirectly, own or control more than 5% of any class of voting
shares of such bank or bank holding company.
Bancorp will be required to give the FRB prior written notice of any
purchase or redemption of its outstanding equity securities if the gross
consideration for the purchase or redemption, when combined with the net
consideration paid for all such purchases or redemptions during the
preceding 12 months, is equal to 10% or more of Bancorp's consolidated net
worth. The FRB may disapprove such a purchase or redemption if it determines
that the proposal would constitute an unsafe and unsound practice, or would
violate any law, regulation, FRB order or directive, or any condition
imposed by, or written agreement with, the FRB. Such notice and approval is
not required for a bank holding company that would be treated as "well
capitalized" under applicable regulations of the FRB, that has received a
composite "1" or "2" rating at its most recent bank holding company
inspection by the FRB, and that is not the subject of any unresolved
supervisory issues.
The status of Bancorp as a registered bank holding company under the
BHCA will not exempt it from certain federal and state laws and regulations
applicable to corporations generally, including, without limitation, certain
provisions of the federal securities laws.
In addition, a bank holding company is prohibited generally from
engaging in, or acquiring 5% or more of any class of voting securities of
any company engaged in, non-banking activities. One of the principal
exceptions to this prohibition is for activities found by the FRB to be so
closely related to banking or managing or controlling banks as to be a
proper incident thereto. Some of the principal activities that the FRB has
determined by regulation to be so closely related to banking as to be a
proper incident thereto are: (i) making or servicing loans; (ii) performing
certain data processing services; (iii) providing discount brokerage
services; (iv) acting as fiduciary, investment or financial advisor; (v)
leasing personal or real property; (vi) making investments in corporations
or projects designed primarily to promote community welfare; and (vii)
acquiring a savings and loan association.
Under FIRREA, depository institutions are liable to the FDIC for
losses suffered or anticipated by the FDIC in connection with the default of
a commonly controlled depository institution or any assistance provided by
the FDIC to such an institution in danger of default. This law would have
potential applicability if Bancorp ever acquired as a separate subsidiary a
depository institution in addition to the Bank. There are no current plans
for such an acquisition.
Subsidiary banks of a bank holding company are subject to certain
quantitative and qualitative restrictions imposed by the Federal Reserve Act
on any extension of credit to, or purchase of assets from, or letter of
credit on behalf of, the bank holding company or its subsidiaries, and on
the investment in or acceptance of stocks or securities of such holding
company or its subsidiaries as collateral for loans. In addition,
provisions of the Federal Reserve Act and FRB regulations limit the amounts
of, and establish required procedures and credit standards with respect to,
loans and other extensions of credit to officers, directors and principal
stockholders of the Bank, Bancorp, any subsidiary of Bancorp and related
interests of such persons. Moreover, subsidiaries of bank holding companies
are prohibited from engaging in certain tie-in arrangements (with the
holding company or any of its subsidiaries) in connection with any extension
of credit, lease or sale of property or furnishing of services. See
"Regulation and Supervision - Transactions with Affiliates and Insiders."
Federal Securities Laws
The Company's Common Stock is registered with the SEC under Section
12(b) of the Securities Exchange Act of 1934 (the "Exchange Act"). The
Company is subject to the information, proxy solicitation, insider trading
restrictions and other requirements under the Exchange Act.
ITEM 2. DESCRIPTION OF PROPERTY.
The following table sets forth certain information at September 30,
1998 regarding Falmouth's office facilities, and certain other information
relating to the properties at that date.
<TABLE>
<CAPTION>
Year Completed or Square Net Book Value
Acquired Footage at September 30, 1998
----------------- ------- ---------------------
<S> <C> <C> <C>
Main Office:
20 Davis Straits 1978 10,696 $275,550
Falmouth, MA 02540
Branch Offices:
North Falmouth, MA 1998 1,706 850,404
78 County Rd.
N. Falmouth, MA 02556
East Falmouth, MA 1998 2,380 602,915
397 E. Falmouth Hwy
E. Falmouth, MA 02536
</TABLE>
At September 30, 1998, the net book value of Falmouth's computer
equipment and other furniture, fixtures and equipment at its office totaled
$379,475. For more information, see Note 5 of Notes to Financial
Statements.
ITEM 3. LEGAL PROCEEDINGS.
Although the Bank and the Company, from time to time, are involved in
various legal proceedings in the normal course of business, there are no
material legal proceedings to which the Bank or the Company, its directors
or its officers is a party or to which any of its property is subject as of
the date of this Form 10-KSB.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR THE BANK'S COMMON STOCK AND RELATED STOCKHOLDER
MATTERS
The following information included in the Falmouth Bancorp, Inc. 1998
Annual Report to Stockholders (the "Annual Report") is incorporated herein
by reference: "Market for the Bank's Common Stock."
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following information included in the Falmouth Bancorp, Inc. 1998
Annual Report to Stockholders (the "Annual Report") is incorporated herein
by reference: "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and "Financial Highlights" on pages 3 through 18
of the Annual Report.
ITEM 7. FINANCIAL STATEMENTS
The following information included in the Annual Report is
incorporated herein by reference: "Financial Statements and Notes to
Financial Statements."
ITEM 8. CHANGES AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 9. DIRECTORS AND PRINCIPAL OFFICERS OF THE BANK
The following information included in the Company's 1998 Proxy
Statement for the 1999 Annual Meeting of Stockholders ("Proxy Statement") is
incorporated herein by reference: "Election of Directors," "Nominees and
Continuing Directors," "Executive Officers," and "Section 16(a) Beneficial
Ownership Reporting Compliance."
ITEM 10. EXECUTIVE COMPENSATION
The following information included in the Proxy Statement is
incorporated herein by reference: "Proposal 1 - Election of Directors -
Directors' Compensation," "- Compensation Table," "- Certain Employee
Benefit Plans and Employment Agreements" and "- Transactions with Certain
Related Persons."
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following information included in the Proxy Statement is
incorporated herein by reference:
"Stock Ownership of Management" and "Security Ownership of Certain
Beneficial Owners."
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The following information included in the Proxy Statement is
incorporated herein by reference:
"Transactions with Certain Related Persons."
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) (1) The following financial statements included in the 1998
Annual Report are incorporated herein by reference:
Balance Sheets - At September 30, 1998 and 1997;
Statements of Income - Years Ended September 30, 1998,
1997 and 1996;
Statements of Changes in Stockholders' Equity - Years
Ended September 30, 1998, 1997 and 1996;
Statements of Cash Flows - Years Ended September 30,
1998, 1997 and 1996; and
Notes to Financial Statements - Years Ended September
30, 1998, 1997 and 1996
(b) Exhibits. The following exhibits are either filed as part of
this report or are incorporated herein by reference:
3.1 Certificate of Incorporation of Falmouth Bancorp, Inc.(1)
3.2 By-laws of Falmouth Bancorp, Inc.(1)
4.3 Specimen Stock Certificate of Falmouth Bancorp, Inc.(1).
10.1 1997 Stock Option Plan for Outside Directors, Officers and Employees
of Falmouth Bancorp, Inc.(1)
10.2 1997 Recognition and Retention Plan for Outside Directors, Officers
and Employees of Falmouth Bancorp, Inc.(1)
10.3 Agreement and Plan of Reorganization by and among Falmouth Co-
operative Bank and Falmouth Bancorp, Inc., dated November 25, 1997(1)
10.4 Employment Agreement by and between Falmouth Co-operative Bank and
Santo Pasqualucci.(1)
10.5 Employment Agreement by and between Falmouth Co-operative Bank and
George Young.(1)
10.6 Falmouth Co-operative Bank Employee Stock Ownership Plan.(1)
10.7 Falmouth Bancorp, Inc. Employee Stock Ownership Trust.(1)
13 Annual Report to Stockholders for the Year Ended September 30, 1998.
21 Subsidiaries of the Registrant.(2)
23.1 Consent of Shatswell, MacLeod & Company, P.C.
27 Financial Data Schedule.*
[FN]
- --------------------
<F1> Incorporated herein by reference Registration Statement on Form S-4
(Registration No. 333-16931), as filed with the Securities and
Exchange Commission on November 27, 1996.
<F2> Incorporated herein by reference Registration Statement on Form 10-KSB
for the year ended September 30, 1997, as filed with the Securities
and Exchange Commission on December 29, 1997.
<F*> Filed in electronic format only.
</FN>
a. Reports on Form 8-K.
None.
This Form 10-KSB contains certain forward looking statements
consisting of estimates with respect to the financial condition, results of
operations and business of the Bank and the Company that are subject to
various factors which could cause actual results to differ materially from
these estimates. These factors include: changes in general, economic and
market conditions, or the development of an adverse interest rate
environment that adversely affects the interest rate spread or other income
anticipated from the Bank's or the Company's operations and investments.
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
FALMOUTH BANCORP, INC.
By: /s/ Santo P. Pasqualucci
-------------------------------------
President and Chief Executive Officer
In accordance with the Exchange Act, this report has been signed below
by the following persons on behalf of the registrant and in the capacities
and on the dates indicated.
Name Title Date
---- ----- ----
/s/ Santo P. Pasqualucci Director, President and Chief December 15, 1998
- -------------------------- Executive Officer
Santo P. Pasqualucci (Principal executive officer)
/s/ George E. Young, III Vice President and Chief December 15, 1998
- -------------------------- Financial Officer (Principal
George E. Young, III financial officer)
/s/ John W. Holland, Jr. Director December 15, 1998
- --------------------------
John W. Holland, Jr.
/s/ James A. Keefe Director December 15, 1998
- --------------------------
James A. Keefe
/s/ Gardner L. Lewis Director December 15, 1998
- --------------------------
Gardner L. Lewis
/s/ John J. Lynch, Jr. Director December 15, 1998
- --------------------------
John J. Lynch, Jr.
/s/ Ronald L. McLane Director December 15, 1998
- --------------------------
Ronald L. McLane
/s/ Eileen C. Miskell Director December 15, 1998
- --------------------------
Eileen C. Miskell
/s/ Robert H. Moore Director December 15, 1998
- --------------------------
Robert H. Moore
/s/ Walter A. Murphy Director December 15, 1998
- --------------------------
Walter A. Murphy
/s/ William E. Newton Director December 15, 1998
- --------------------------
William E. Newton
/s/ Armand Ortins Director December 15, 1998
- --------------------------
Armand Ortins
EXHIBIT 13
1998 ANNUAL REPORT
FALMOUTH BANCORP, INC.
[LOGO]
http://www.falmouthbank.com
1998 ANNUAL REPORT
===============================================================================
TABLE OF CONTENTS
-----------------
Company Profile 1
President's Message 2
Financial Highlights 3
Management's Discussion and Analysis of Financial Condition and
Results of Operations 5
Market for the Company's Common Stock 18
Consolidated Financial Statements 19
FORWARD LOOKING STATEMENTS
This Annual Report to Stockholders contains certain forward looking
statements consisting of estimates with respect to the financial condition,
results of operations and business of the Company and the Bank that are
subject to various factors which could cause actual results to differ
materially from these estimates. These factors include: changes in
general, economic and market conditions, or the development of an adverse
interest rate environment that adversely affects the interest rate spread or
other income anticipated from the Bank's operations and investments; and the
factors described under "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Year 2000."
COMPANY PROFILE
---------------
Falmouth Bancorp, Inc. (the "Company" or "Bancorp") was incorporated
for the purpose of becoming the holding company for Falmouth Co-operative
Bank (the "Bank"), a Massachusetts-chartered stock co-operative bank. The
Bank converted to stock form on March 28, 1996, and issued 1,454,750 shares
of common stock, par value $.10 per share.
On October 14, 1997, the Company acquired all of the capital stock of
the Bank and stockholders of the Bank became stockholders of the Company in
a share for share exchange pursuant to a plan of reorganization approved by
the Bank's stockholders on January 21, 1997 (the "Reorganization"). At
September 30, 1998 there were 1,401,784 shares outstanding.
The Company had total assets of $112.8 million as of September 30,
1998. The Bank conducts its business through an office located in Falmouth,
Massachusetts, where it was originally founded in 1925 as a Massachusetts
chartered mutual co-operative Bank, and two branches located in East
Falmouth and North Falmouth, Massachusetts. The Bank's deposits are
currently insured up to applicable limits by the Bank Insurance Fund of the
Federal Deposit Insurance Corporation and the Share Insurance Fund of the
Co-operative Central Bank of Massachusetts.
The Bank considers its primary market area to be the communities of
Falmouth and Mashpee in Barnstable County, Massachusetts.
The Bank's business strategy is to operate as a well-capitalized,
profitable and independent community bank dedicated to financing home
ownership, and consumer and small business needs in its market area and to
provide quality service to its customers. The Bank has implemented this
strategy by: (i) closely monitoring the needs of customers and providing
quality service; (ii) emphasizing consumer-oriented banking by originating
residential mortgage loans and consumer loans, and by offering checking
accounts and other financial services and products; (iii) focusing on
expanding the volume of the Bank's existing lending activities to produce
moderate increases in loan originations; (iv) maintaining asset quality
through conservative underwriting standards; (v) maintaining capital in
excess of regulatory requirements; and (vi) producing stable earnings.
Falmouth Bancorp, Inc. is headquartered in Falmouth, Massachusetts.
The Company's stock trades on the American Stock Exchange under the symbol
"FCB."
PRESIDENT'S MESSAGE
-------------------
We are pleased to report that Falmouth Bancorp, Inc. produced a record
year of earnings performance of $.86 per share basic, an increase of 56%
over the prior year, and a record growth in deposits of 13% to $81.5
million.
Net income for the fiscal year ended September 30, 1998 was $1.2
million or $.86 per share basic and $.84 per share diluted as compared to
$752,000 or $.55 per share (basic and diluted) for the prior year. The
increase of $433,000 or 58% in net income was primarily the result of a
$601,000 increase in net interest and dividend income and an $806,000
increase in other income. Net interest income continues to be a source of
strength for the Bank powered by an increase of $947,000 in interest and
dividend income primarily due to the continued growth in our loan portfolio.
On September 30, 1998, 92% of the loan portfolio was predominantly single
family residential real estate loans. Net loans were 69% of total assets,
or $77.7 million, at September 30, 1998 as compared to 56% of total assets,
or $53.9 million, at September 30, 1997. Loan production for fiscal 1998
was at an unprecedented level which positioned the Bank as the largest
orginator of residential loans in the Falmouth market. Quality loan
production continues to override quantity of loan considerations.
There were several key developments for the Company during the fiscal
year ended September 30, 1998. Loan originations, primarily residential,
were driven up with a sharp rise to an unprecedented level of $53.2 million.
The market for loan originations was extraordinarily active during the
spring and summer months of 1998. Origination activity was fueled by
purchased loans as well as the demand for refinances as interest rates
trended lower.
As stock market prices continued to improve during this period,
unrealized net gains on our equity investments appreciated to the level of
49% above cost. The net gain on sales of equities for fiscal 1998 was
$821,000.
In fiscal 1998, the Company made further progress in addressing its
capital ratio issue. The Company's capital ratio was 19.6% at September 30,
1998 as compared to 23.6% at September 30, 1997, a reduction of four
percentage points. The improved capital ratio was primarily the result of
$9.3 million growth in deposits and a larger market share. The Bank's
liability base was also leveraged with $8.1 million in Federal Home Loan
Bank advances. The capital ratio was further improved as a result of the
Company's stock repurchase program and the increase in quarterly cash
dividends from $0.05 per common share to $0.06 per common share which
commenced on March 6, 1998 and represented a 20% increase. The Board of
Directors is committed to addressing the capital ratio issue as we continue
to move forward.
Throughout the year, our Year 2000 Steering Committee identified and
defined potential problem areas, developed overall strategies, replaced
hardware and software where necessary, and accommodated two on-site
regulatory visitations. Most recent reports indicate that hands on testing,
both in-house and with third party servicers, has gone smoothly. We
anticipate that all testing will be complete, specific contingency plans
will be in place and the Bank and its third party servicers will be year
2000 compliant by March 1999.
Our personal brand of individualized service is the cornerstone of our
"community bank" tradition. We recognize the need to nurture this tradition
and embrace the wisdom of implementing technology to increase productivity
and meet the challenging needs of an expanding customer base.
We thank our Board of Directors for their wisdom and guidance and our
employees for their dedication to service and excellence, and to our
customers and shareholders for their continued commitment to and confidence
in Falmouth Bancorp, Inc.
Sincerely,
/s/ Santo P. Pasqualucci
Santo P. Pasqualucci
President & Chief Executive Officer
FINANCIAL HIGHLIGHTS
--------------------
The selected consolidated financial and other data of the Company and
the Bank set forth below is derived in part from and should be read in
conjunction with the Consolidated Financial Statements of the Company and
Notes thereto.
<TABLE>
<CAPTION>
At September 30,
------------------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Selected Financial Condition Data:
Total amount of:
Assets $ 112,793 $ 96,391 $90,516 $73,679 $74,666
Loans, net 77,655 53,881 40,237 32,503 27,584
Investment securities(1) 24,524 36,402 45,553 35,576 38,992
Deposits 81,519 72,191 66,439 65,061 66,696
Stockholder's equity (2) 22,241 22,806 21,914 8,435 7,847
<CAPTION>
Year Ended September 30,
------------------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
(Dollars in thousands, except per share data)
<S> <C> <C> <C> <C> <C>
Selected Operating Data:
Interest and dividend income $ 7,206 $ 6,259 $ 5,576 $ 4,815 $ 4,629
Interest expense on deposits and
borrowings 3,140 2,794 2,833 2,487 2,137
------------------------------------------------------------
Net interest and dividend income 4,066 3,465 2,743 2,328 2,492
Provision for loan losses 26 --- 51 --- 9
------------------------------------------------------------
Net interest income after provision
for loan losses 4,040 3,465 2,692 2,328 2,483
------------------------------------------------------------
Other income:
Gain on sales of investment
securities, net 840 112 2 16 16
Other 211 133 123 99 214
------------------------------------------------------------
Total other income 1,051 245 125 115 230
------------------------------------------------------------
Operating expenses 3,177 2,527 1,888 1,793 1,615
------------------------------------------------------------
Income before income taxes 1,914 1,183 929 650 1,098
Income taxes 729 431 359 211 447
------------------------------------------------------------
Net income $ 1,185 $ 752 $ 570 $ 439 $ 651
============================================================
Per Share Data:
Earnings per share - basic $ .86 $ .55 ---(3) --- ---
Earnings per share - diluted .84 .55 ---(3) --- ---
Dividend payout ratio 26.74% 36.36% --- --- ---
Weighted average number of common
shares outstanding 1,375,057 1,371,829 --- --- ---
- --------------------
<F1> Effective October 1, 1994, the Bank adopted Statement of Financial
Accounting Standards No. 115 ("SFAS No. 115") which requires the
classification of the Bank's investment securities as "trading
securities," "held-to-maturity" or "available-for-sale." See Note 3 to
the Financial Statements for a breakdown of the investment securities
under SFAS No. 115 at September 30, 1998 and 1997.
<F2> Includes unrealized gain on available-for-sale securities of $324,000,
$416,000, $144,000, and $149,000 net of tax, at September 30, 1998,
1997, 1996 and 1995 respectively.
<F3> Because of the Bank's conversion in mid 1996 from mutual form to stock
ownership, a presentation of earnings per share for fiscal 1996 would
not be meaningful.
</TABLE>
<TABLE>
<CAPTION>
At or for the Year Ended September 30,
--------------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Interest rate spread information:(1)
Average during period 3.13% 2.85% 2.59% 2.95% 3.21%
End of period 2.85 2.81 2.73 2.97 3.12
Net interest margin(2) 4.10 3.90 3.40 3.33 3.49
Return on average assets 1.14 0.83 0.69 0.61 0.88
Return on average equity 5.11 3.37 3.51 5.48 8.52
Asset Quality Ratios:
Non-performing loans as a percent of
total loans -- .06 .03 -- 1.15
Non-performing assets as a percent of
total assets -- .03 .02 -- .43
Allowance for possible loan losses as a percent
of non-performing loans -- 1,670.00 3,557.14 -- 96.27
Capital Ratios
Average equity to average assets 22.19 24.35 19.56 11.06 10.36
Regulatory Tier 1 leverage capital ratio 19.59 23.64 24.27 11.52 10.55
- --------------------
<F1> Interest rate spread represents the difference between weighted
average yield on interest-earning assets and the weighted average cost
of interest-bearing liabilities.
<F2> Net interest margin represents net interest income divided by average
interest-earning assets.
</TABLE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------------------------------------------
General
Falmouth Bancorp, Inc. (the "Company" or "Bancorp"), a Delaware
corporation, is the holding company for Falmouth Co-operative Bank (the
"Bank" or "Falmouth"), a Massachusetts-chartered stock co-operative bank.
The Bank converted to stock form on March 28, 1996, and issued 1,454,750
shares of common stock, par value $.10, at $10.00 per share (the
"Conversion"). On October 14, 1997, the Company acquired all of the capital
stock of the Bank and stockholders of the Bank became stockholders of the
Company in a share for share exchange pursuant to a plan of reorganization
approved by the Bank's stockholders on January 21, 1997 (the
"Reorganization"). At September 30, 1998 there were 1,401,784 shares
outstanding. The Company's sole business activity is ownership of the Bank.
The Company also makes investments in long and short-term marketable
securities and other liquid investments. The financial data presented in
this 1998 Annual Report consists of the activity of the Bank prior to the
Reorganization for the fiscal year 1997 and the fiscal year 1998, from
October 1, 1997 through October 13, 1997; and the consolidated activity of
Falmouth Bancorp, Inc. and subsidiaries thereafter. It has been deemed
reasonable to compare the financial condition and operating results of the
Company for the year ended September 30, 1998 to that of the Bank for the
year ended September 30, 1997.
The business of the Bank consists of attracting deposits from the
general public and using these funds to originate mortgage loans secured by
one- to four-family residences located primarily in Falmouth, Massachusetts
and surrounding areas and to invest in investment securities. To a lesser
extent, the Bank engages in various forms of consumer and home equity
lending. The Bank's profitability depends primarily on its net interest
income, which is the difference between the interest income it earns on its
loans and investment portfolio and its cost of funds, which consists mainly
of interest paid on deposits and other borrowings. Net interest income is
affected by the relative amounts of interest-earning assets and interest-
bearing liabilities and the interest rates earned or paid on these balances.
When interest-earning assets approximate or exceed interest-bearing
liabilities, any positive interest rate spread will generate net interest
income.
The Bank's profitability is also affected by the level of noninterest
income and expense. Noninterest expense or operating expenses consist of
salaries and benefits, deposit insurance premiums paid to the Federal
Deposit Insurance Corporation ("FDIC"), occupancy related expenses and other
operating expenses.
The operations of the Bank, and banking institutions in general, are
influenced significantly by general economic conditions and related monetary
and fiscal policies of financial institutions' regulatory agencies. Deposit
flows and the cost of funds are influenced by interest rates on competing
investments and general market interest rates. Lending activities are
affected by the demand for financing real estate and other types of loans,
which, in turn, are affected by the interest rates at which such financing
may be offered and other factors affecting loan demand and the availability
of funds.
Business Strategy
The Bank's business strategy is to operate as a well-capitalized,
profitable and independent community bank dedicated to financing home
ownership and consumer needs in its market area and to provide quality
service to its customers. The Bank has implemented this strategy by: (i)
closely monitoring the needs of customers and providing quality service;
(ii) emphasizing consumer-oriented banking by originating residential
mortgage loans and consumer loans, and by offering checking accounts and
other financial services and products; (iii) focusing on expanding lending
activities to produce moderate increases in loan originations; (iv)
maintaining asset quality; (v) maintaining capital in excess of regulatory
requirements; and (vi) producing stable earnings.
Comparison of Financial Condition at September 30, 1998 and 1997
The Company's total assets increased by $16.4 million or 17.0% for the
year ended September 30, 1998 from $96.4 million at September 30, 1997 to
$112.8 million at September 30, 1998. Total net loans were $77.7 million or
95.3% of total deposits at September 30, 1998 as compared to $53.9 million
or 74.6% of total deposits at September 30, 1997, representing an increase
of $23.8 million. Investment securities were $24.5 million or 21.7% of
total assets at September 30, 1998 as compared to $36.4 million or 37.8% of
total assets at September 30, 1997. The proceeds from maturing securities
were, in part, allocated to fund an increased volume of loan production,
with the balance redeployed into short-term securities investments. Total
deposits were $81.5 million at September 30, 1998 as compared to $72.2
million at September 30, 1997, a 12.9% increase. Total deposits increased
by $9.3 million for the year ended September 30, 1998. Stockholders' equity
was $22.2 million at September 30, 1998 as compared to $22.8 million at
September 30, 1997, a decrease of $564,000. Stockholders' equity reported
at September 30, 1998 included an unrealized gain in available-for-sale
securities of $324,000 and retained earnings of $10.2 million. The ratio of
stockholders' equity to total assets was 19.7% at September 30, 1998 and the
book value per share of common stock was $15.87. Basic earnings per share
of common stock for the fiscal year ended September 30, 1998 was $0.86, as
compared to $0.55 for the prior year.
Comparison of Financial Condition at September 30, 1997 and 1996
The Bank's total assets increased by $5.9 million or 6.5% for the year
ended September 30, 1997 from $90.5 million at September 30, 1996 to $96.4
million at September 30, 1997. Total net loans were $53.9 million or 74.6%
of total deposits at September 30, 1997 as compared to $40.2 million or
60.6% of total deposits at September 30, 1996, representing an increase of
$13.7 million. Investment securities were $36.4 million or 37.8% of total
assets at September 30, 1997 as compared to $45.9 million or 50.7% of total
assets at September 30, 1996. The proceeds from maturing securities were in
part allocated to fund an increased volume of loan production, with the
balance redeployed into short-term securities investments. Total deposits
were $72.2 million at September 30, 1997 as compared to $66.4 million at
September 30, 1996, an 8.7% increase. Total deposits increased by $5.7
million for the year ended September 30, 1997. Stockholders' equity was $22.8
million at September 30, 1997 as compared to $21.9 million at September 30,
1996, an increase of $891,000. Stockholders' equity reported at September
30, 1997 included an unrealized gain in available-for-sale securities of
$416,000 and retained earnings of $9.3 million. The ratio of stockholders'
equity to total assets was 23.6% at September 30, 1997 and the book value per
share of common stock was $15.68. Basic and diluted earnings per share of
common stock for the fiscal year ended September 30, 1997 was $.55.
Comparison of Operating Results at September 30, 1998 and 1997
Net Income. The Company's net income for the twelve months ended
September 30, 1998 was $1.2 million as compared to $752,000 for the twelve
months ended September 30, 1997. The $433,000 increase in net income was
primarily the result of a $947,000 increase in interest and dividend income,
partially offset by a $346,000 increase in interest expense on deposits and
borrowed funds. Favorable market conditions during the year provided the
opportunity for gains on the sale of investment securities of $840,000.
These gains were used, in part, to offset an increase of $650,000 in other
expenses and an increase of $298,000 in income taxes.
The return on average assets ("ROA") for the twelve months ended
September 30, 1998 was 1.14%, an increase of 31 basis points, or 37.4%, as
compared to .83% for the same period in the prior year. The primary reason
for the increase in the return on average assets was the deployment of
proceeds from maturing securities into an increased volume of residential
and commercial loan originations during the year ended September 30, 1998.
The return on average equity ("ROE") for the twelve months ended September
30, 1998 was 5.11%, an increase of 174 basis points, or 51.6%, as compared
to 3.37% for the same period in the prior year.
Net Interest and Dividend Income. Net interest and dividend income
for the twelve months ended September 30, 1998 was $4.1 million as compared
to $3.5 million for the twelve months ended September 30, 1997. The
$601,000 increase in net interest and dividend income was primarily the
result of the increase in interest income on loans. The net interest margin
for the twelve months ended September 30, 1998 was 4.10%, an increase of 20
basis points, or 5.1%, as compared to 3.90% for the twelve months ended
September 30, 1997.
Interest and Dividend Income. Total interest and dividend income for
the twelve months ended September 30, 1998 was $7.2 million, an increase of
$947,000 as compared to $6.3 million for the twelve months ended September
30, 1997. The increase in interest and dividend income was due primarily to
a $1.5 million increase in interest income and fees on loans and a $593,000
decrease in interest and dividends on securities and short-term investments.
The increases in interest income on loans was, for the most part, the result
of an increase in the volume of loans originated and held.
Interest Expense. Interest expense for the twelve months ended
September 30, 1998 was $3.1 million, an increase of $346,000 as compared to
$2.8 million for the twelve months ended September 30, 1997. The increase in
interest expense was due to the increase in deposit accounts of $9.3 million
and the increase in FHLB advances of $7.6 million.
Provision for Loan Losses. The provision for loan losses for the
twelve months ended September 30, 1998 was $26,000 compared to zero for the
twelve months ended September 30, 1997. The increase in the amount of the
provision for loan losses was the result of the Bank's efforts to maintain
adequate reserves due to the increase in net loans.
Noninterest Income. Noninterest income or other income for the twelve
months ended September 30, 1998 was $1.1 million as compared to $245,000 for
the twelve months ended September 30, 1997. The $806,000 increase was due
to marked increases in income from service charges and other fee income, as
well as an increase of $728,000 in gains on sales of investment securities.
Noninterest Expense. Noninterest expense or other expenses for the
twelve months ended September 30, 1998 was $3.2 million as compared to $2.5
million for the twelve months ended September 30, 1997. The $650,000
increase was primarily due to an increase in salaries and employee benefits
of $118,000, an increase in legal and professional fees of $53,000 and an
increase in other non-interest expenses of $153,000. During the fourth
quarter, a one-time writedown of $327,000 was made to leasehold improvements
due to the relocation of the East Falmouth branch office. The writedown was
offset with gains taken from the sales of equity securities during the same
period. It is expected that the non-interest expenses will increase
modestly during fiscal 1999 as the Bank continues to expand operations.
Income Tax Expense. Income tax expense increased $298,000, or 69.1%,
to $729,000 for the fiscal year ended September 30, 1998 from $431,000 for
the year ended September 30, 1997. This increase is primarily due to the
increase of $731,000 in income before taxes. See Note 9 to the consolidated
financial statements for discussion of income taxes.
Comparison of Operating Results at September 30, 1997 and 1996
Net Income. The Bank's net income for the twelve months ended
September 30, 1997 was $752,000 as compared to $570,000 for the twelve
months ended September 30, 1996. The $182,000 increase in net income was
primarily the result of a $683,000 increase in interest and dividend income
a $39,000 decrease in interest expense on deposits and borrowed funds.
There was a $639,000 increase in other expenses and a $72,000 increase in
income taxes. The return on average assets for the twelve months ended
September 30, 1997 was 0.83%, an increase of 14 basis points as compared to
0.69% for the same period of the prior year. The primary reason for the
increase in the return on average assets was the deployment of proceeds from
maturing securities into an increased volume of residential and commercial
loan originations during the year ended September 30, 1997.
Net Interest and Dividend Income. Net interest and dividend income
for the twelve months ended September 30, 1997 was $3.5 million as compared
to $2.7 million for the twelve months ended September 30, 1996. The
$722,000 increase in net interest and dividend income was primarily the
result of the increase in interest income on loans. The net interest margin
for the twelve months ended September 30, 1997 was 3.90%, an increase of 50
basis points as compared to 3.40% for the twelve months ended September 30,
1996.
Interest and Dividend Income. Total interest and dividend income for
the twelve months ended September 30, 1997 was $6.3 million, an increase of
$683,000 as compared to $5.6 million for the twelve months ended September
30, 1996. The increase in interest and dividend income was due primarily to
an $810,000 increase in interest income on loans and a $127,000 decrease in
interest and dividends on securities and short-term investments. The
increases in interest income on loans was, for the most part, the result of
an increase in the volume of loans originated and held.
Interest Expense. Interest expense for the twelve months ended
September 30, 1997 was $2.8 million, a decrease of $39,000 as compared to
$2.8 million for the twelve months ended September 30, 1996. The decrease in
interest expense was due primarily to lower interest rates paid on
certificates of deposit accounts during the period.
Provision for Loan Losses. The provision for loan losses for the
twelve months ended September 30, 1997 was zero compared to $51,000 for the
twelve months ended September 30, 1996. The decrease in the amount of the
provision for loan losses was in response to the Bank's current high level
of reserves and its historical record of few charge-offs.
Noninterest Income. Noninterest income or other income for the twelve
months ended September 30, 1997 was $245,000 as compared to $125,000 for the
twelve months ended September 30, 1996. The $120,000 increase was due to
modest increases in income from service charges and other fee income, as
well as an increase of $110,000 in gains on sales of investment securities.
Noninterest Expense. Noninterest expense or other expenses for the
twelve months ended September 30, 1997 was $2.5 million as compared to $1.9
million for the twelve months ended September 30, 1996. The $639,000
increase was primarily due to an increase in salaries and employee benefits
of $223,000, an increase in legal and professional fees of $141,000 and an
increase in other operating expenses of $175,000.
Liquidity and Capital Resources
The Bank's primary sources of funds consist of deposits, repayment and
prepayment of loans and mortgaged-backed securities, maturities of
investments and interest-bearing deposits, other borrowed funds, and funds
provided from operations. 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 liquidity resources principally to fund existing and
future loan commitments, to fund net deposit outflows, to invest in other
interest-earning assets, to maintain liquidity, and to meet operating
expenses. Management believes that loan repayments and other sources of
funds will be adequate to meet the Bank's liquidity needs for fiscal year
1999.
The Bank is required to maintain adequate levels of liquid assets.
This guideline, which may be varied depending upon economic conditions and
deposit flows, is based upon a percentage of deposits and short-term
borrowings. The Bank has historically maintained a level of liquid assets in
excess of regulatory requirements. The Bank's liquidity ratio at September
30, 1998 was 28.34%.
A major portion of the Bank's liquidity consists of short-term U.S.
Government obligations. The level of these assets is dependent on the Bank's
operating, investing, lending and financing activities during any given
period. At September 30, 1998, net cash and short term assets totaled $24.4
million.
The primary investing activities of the Bank include origination of
loans and the purchase of investment securities. During the year ended
September 30, 1998, purchases of investment securities and mortgage-backed
securities totaled $9.6 million, while loan originations totaled $45.1
million. These investments were funded primarily from loan repayments of
$24.6 million, investment security maturities of $12.2 million and borrowed
funds from the FHLB of Boston.
Liquidity management is both a daily and long-term function of
management. If the Bank requires funds beyond its ability to generate them
internally, the Bank believes that it could borrow additional funds from the
FHLB of Boston. At September 30, 1998, the Bank had $7.6 million in
outstanding advances from the FHLB of Boston.
At September 30, 1998, the Bank had $4.5 million in outstanding
commitments to originate loans. The Bank anticipates that it will have
sufficient funds available to meet its current loan origination commitments.
Certificates of deposit which are scheduled to mature in one year or less
totaled $33.9 million at September 30, 1998. Based on historical experience,
management believes that a significant portion of such deposits will remain
with the Bank.
At September 30, 1998, the Bank exceeded all of its regulatory capital
requirements.
Impact of Inflation and Changing Prices
The financial statements and related data presented herein have been
prepared in accordance with generally accepted accounting principles, which
require the measurement of financial position and results of operations in
terms of historical dollars without considering changes in the relative
purchasing power of money over time because of inflation. Unlike most
industrial companies, virtually all of the assets and liabilities of the
Bank are monetary in nature. As a result, interest rates have a more
significant impact on the Bank's performance than the effects of general
levels of inflation. Interest rates do not necessarily move in the same
direction or in the same magnitude as the prices of goods and services.
Year 2000
The following is a "Year 2000 Readiness Disclosure" made in accordance
with the Federal Year 2000 Information and Readiness Disclosure Act. Pub.
L. No. 105-271. The "Year 2000 Problem" centers on the inability of many
computer systems to recognize the year 2000. Many existing computer
programs and systems were originally programmed with six digit dates that
provided only two digits to identify the calendar year, without considering
the upcoming change in the century. With the impending millennium, these
programs and computers may recognize "00" as the year 1900 rather than the
year 2000. Like most financial service providers, the Bank and its
operations may be significantly affected by the Year 2000 Problem due to the
nature of financial information. Software, hardware, and equipment both
within and outside the Bank's direct control and with whom the Bank
electronically or operationally interfaces (e.g. third party vendors
providing data processing, information system management, maintenance of
computer systems, and credit bureau information) are likely to be affected.
Furthermore, if computer systems are not adequately changed to identify the
year 2000, many computer applications could fail or create erroneous
results. As a result, many calculations which rely on the date field
information, such as interest, payment or due dates, pensions, personnel
benefits, and investments). It can also affect record keeping, such as
inventory, maintenance, file retention and other operating functions, will
generate results which could be significantly misstated, and the Bank could
experience a temporary inability to process transactions, send invoices or
engage in similar normal business activities.
In addition, non-information technology systems, such as equipment
like telephones, copiers and elevators may also contain embedded technology
which controls its operation and which may be effected by the "Year 2000
Problem." When the year 2000 arrives, systems, including some of those with
embedded chips, may not work properly because of the way they store date
information. Thus, even non-information technology systems may affect the
normal operations of the Company and the Bank upon the arrival of the year
2000.
Under certain circumstances, failure to adequately address the "Year
2000 Problem" could adversely affect the viability of the Bank's suppliers
and creditors and the creditworthiness of its borrowers. Thus, if not
adequately addressed, the "Year 2000 Problem" could result in a significant
adverse impact on the Bank's products, services and competitive condition.
The Bank, through its Year 2000 Steering Committee, has created a Year
2000 Plan which includes five phases of review, testing and implementation.
These phases of Awareness, Assessment, Renovation, Validation and
Implementation are well under way or have been substantially completed. The
Steering Committee adopted its formal Year 2000 Plan in March 1998. This
Plan has been followed, reviewed and updated as progress has been made on
Year 2000 issues. In June 1998, the Bank adopted its Year 2000 Test Plan.
The goal of the Test Plan is to provide testing guidance on all critical
applications. It is necessary to provide reasonable assurance that the
applications identified will function normally in the next millennium.
Testing time and resources have been, and will continue to be, allocated to
successfully complete the entire testing project. It is anticipated that
this phase of the Year 2000 readiness plan will require the most extensive
application of Bank resources.
The Awareness Phase -- where problems have been defined and overall
strategies developed, has been completed.
The Assessment Phase -- where the Steering Committee assesses the size
and complexity of the problems, identifying all systems that will be
affected by the Year 2000 date change has been completed.
The Renovation Phase -- where the Bank undertakes hardware and
software changes to systems it controls and obtains vendor certifications of
Year 2000 readiness. The Steering Committee will continue to follow
critical vendor readiness programs as they develop and change. Hardware
within the Bank has been upgraded or replaced, where necessary. Critical
vendors, such as the Bank's on-line service provider, check clearing and
statement rendering servicer, and in-house general ledger software
providers, have been identified and currently have their testing plans well
underway.
The Validation Phase -- which includes testing and verification of
changes to systems, and the coordination with outside parties has been
completed in all areas, except with the on-line service provider and the in-
house general ledger software. A test bank has been established in both
cases, for testing. Transaction scripts have been developed to be posted to
the test banks. The test scripts consist of an extensive list of
transaction types which will fully test the application of the applicable
software. Each test script will be re-posted on each critical date
recognized, such as 9/9/1999, 1/1/2000 and, 2/29/2000.
The Implementation Phase -- provides for the times for full
certification of Year 2000 readiness on each application. A predetermined
date for compliance or replacement, known as the "drop dead date" has been
determined and reviewed regularly by the Steering Committee and at least
quarterly by the full Board of Directors. These dates may be changed
slightly as applications are reviewed; but ultimately, each application must
be compliant or be replaced.
The Bank's on-line service provider will provide on-line access to its
test bank beginning November 2, 1998 and at varying intervals going forward.
We expect to have completed testing and reviewing, with the on-line service
provider no later than March 30, 1999. The Bank has begun testing its
general ledger software and expects the validation phase to be completed by
December 31, 1998. All other applications are in the implementation phase
and are deemed by the Steering Committee to be substantially compliant.
To date, the costs for Year 2000 readiness have not been considered
material. All time spent on internal preparations has been completed by
existing officer and staff personnel during the normal work day with some
extended hours. Hardware and software upgrades and replacements have been
completed within predetermined budget estimates and have not been extensive
or excessive. Additional costs for Year 2000 preparedness are expected to
be within budget and not materially affect the profitability of the Bank or
the Company.
The costs of the project and the date on which the Bank plans to
complete the year 2000 modifications are based on management's best
estimates, which were derived utilizing numerous assumptions of future
events including the continued availability of certain resources, third
party modification plans and other factors. However, there can be no
guarantee that these estimates will be achieved and actual results could
differ materially from those plans. Specific factors that might cause such
material differences include, but are not limited to, the availability and
cost of personnel trained in this area, the ability to locate and correct
all relevant computer codes, and similar uncertainties.
The Bank's Contingency Plan -- in connection with the year 2000 --
was adopted by the Board of Directors at their regularly scheduled meeting
on July 21, 1998. Organizational planning provides for the establishment of
a continuity project work group and the assignment of roles and
responsibilities. It assesses the potential impact of mission critical
system failures on the core business process. The plan evaluates options
and provides guidance for selecting reasonable contingency strategies and
the remediation of contingency plans and Year 2000 issues.
There has been limited litigation filed against corporations regarding
the "Year 2000 Problem" and such corporations' compliance efforts. To date,
no such litigation has resulted in a decided case imposing liability on the
corporate entity. Nonetheless, the law in this area will likely continue to
develop well into the new millennium. Should the Company experience a Year
2000 failure, exposure of the Company could be significant and material,
unless there is legislative action to limit such liability. Legislation has
been introduced in several jurisdictions regarding the Year 2000 Problem.
However, no assurance can be given that legislation will be enacted in
jurisdictions where the Company does business that will have the effect of
limiting any potential liability.
The Bank and Company believe that they are substantially compliant at
this time. The Board of Directors, officers, employees and the public, in
general, are being kept informed of the issues regarding the year 2000.
With the support of the Directors and senior management, the Committee has
mailed letters to business relationships informing them of the Bank's
commitment to year 2000 issues and requesting information regarding theirs.
Newsletters, stuffers and other means of communications have been utilized
to increase awareness and obtain information.
Impact of New Accounting Standards
In June of 1997, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards No. 130, "Reporting
Comprehensive Income" ("SFAS 130"). Accounting principles generally require
all recognized revenue, expenses, gains and losses to be included in net
income. Various FASB statements, however, require companies to report
certain changes in assets and liabilities as a separate component of the
equity section of the balance sheet such as unrealized gains and losses on
available for sale securities. This such item, along with net income, is a
component of comprehensive income. SFAS 130 is effective for fiscal years
beginning after December 15, 1997, and is not expected to have a material
impact on the Company.
In June of 1997, the FASB issued Statement of Financial Accounting
Standards No. 131, "Disclosures about Segments of an Enterprise and Related
Information," ("SFAS 131"). SFAS 131 is effective for financial statements
for periods beginning after December 15, 1997 and is not expected to have a
material effect on the Company. SFAS 131 establishes standards for the way
that public companies report information about operating segments in annual
financial statements and selected information about operating segments in
interim financial reports issued to shareholders. It also establishes
standards for related disclosures about products and services, geographic
areas and major customers. Generally, financial information is required to
be reported on the basis that it is used internally for evaluating segment
performance and deciding how to allocate resources to segments.
SFAS 131 also requires companies to report information about the way
that the operating segments were determined, the product and services
provided by the operating segments, differences between the measurements
used in reporting segment information and those used by the company in its
general purpose financial statements, and changes in the measurement of
segment amounts from period to period.
In February 1998, the FASB issued SFAS No. 132, "Employers' Disclosure
about Pensions and Other Postretirement Benefits" ("SFAS 132") which amends
the disclosure requirements of Statements No. 87, "Employers' Accounting for
Pensions" ("SFAS 87"), No. 88, "Employers' Accounting for Settlements and
Curtailments of Defined Benefit Pension Plans and for Termination Benefits"
("SFAS 88"), and No. 106, "Employers' Accounting Postretirement Benefits
Other Than Pensions" ("SFAS 106").
This Statement standardizes the disclosure requirements of SFAS No. 87
and No. 106 to the extent practicable and recommends a parallel format for
presenting information about pensions and other postretirement benefits.
SFAS No. 132 only addresses disclosure and does not change any of the
measurement of recognition provisions provided for in SFAS No. 87, No. 88,
or No. 106. SFAS 132 is effective for fiscal years beginning after December
15, 1997 and is not expected to have a material impact on the Company.
In June 1998, the FASB issued Statement 133, "Accounting for
Derivative Instruments and Hedging Activities" ("SFAS 133"). SFAS 133
standardizes the accounting for derivative instruments, including certain
derivative instruments imbedded in other contracts. Under the standard,
entities are required to carry all derivative instruments in the statement
of financial position at fair value. The gain or loss due to changes in fair
value is recognized in earnings or as other comprehensive income in the
statement of shareholders' equity, depending on the type of instrument and
whether or not it is considered a hedge. SFAS 133 is effective for all
fiscal quarters of all fiscal years beginning after June 15, 1999. The
Company has not yet determined the impact this new statement may have on its
future financial condition or its results of operations.
In October 1998, the FASB issued SFAS No. 134, "Accounting for
Mortgage-Backed Securities Retained after the Securitization of Mortgage
Loans Held for Sale by a Mortgage Banking Enterprise, an amendment of FASB
Statement No. 65" ("SFAS 134"). SFAS 134 amends Statement No. 65,
"Accounting for Certain Mortgage Banking Activities" to conform the
subsequent accounting for securities retained after the securitization of
mortgage loans by a mortgage banking enterprise with the subsequent
accounting for securities retained after the securitization of other types
of assets by a nonmortgage banking enterprise. SFAS 134 is effective for
the first quarter beginning after December 15, 1998 and is not expected to
have a material impact on the Company.
Asset/Liability Management
A principal operating objective of the Bank is to produce stable
earnings by achieving a favorable interest rate spread that can be sustained
during fluctuations in prevailing interest rates. Since the Bank's principal
interest-earning assets have longer terms to maturity than its primary
source of funds, i.e., deposit liabilities, increases in general interest
rates will generally result in an increase in the Bank's cost of funds
before the yield on its asset portfolio adjusts upwards. Banking
institutions generally have sought to reduce their exposure to adverse
changes in interest rates by attempting to achieve a closer match between
the periods in which their interest-bearing liabilities and interest-earning
assets can be expected to reprice through the origination of adjustable-rate
mortgages and loans with shorter terms and the purchase of other shorter
term interest-earning assets.
The term "interest rate sensitivity" refers to those assets and
liabilities which mature and reprice periodically in response to
fluctuations in market rates and yields. Thrift institutions historically
have operated in a mismatched position with interest- sensitive liabilities
exceeding interest-sensitive assets in the short-term time periods. As
noted above, one of the principal goals of the Bank's asset/liability
program is to more closely match the interest rate sensitivity
characteristics of the asset and liability portfolios.
In order to properly manage interest rate risk, the Bank's Board of
Directors has an Executive Committee to monitor the difference between the
Bank's maturing and repricing assets and liabilities and to develop and
implement strategies to decrease the "negative gap" between the two. The
primary responsibilities of the committee are to assess the Bank's
asset/liability mix, recommend strategies to the Board of Directors that
will enhance income while managing the Bank's vulnerability to changes in
interest rates and report to the Board of Directors the results of the
strategies used.
Since the mid 1980s, the Bank has stressed the origination of
adjustable-rate residential mortgage loans and adjustable-rate home equity
loans. Historically, the Bank did not retain fixed rate loans with terms in
excess of 15 years in its portfolio. Beginning in March, 1995, the Bank
retained a portion of its fixed rate loans with terms in excess of 15 years
in the portfolio. At September 30, 1998, the Bank's loan portfolio included
$25.7 million of adjustable-rate mortgages and $3.7 million of adjustable-
rate home equity loans which together represent 37.6% of the Bank's total
loans.
In order to increase the interest rate sensitivity of its assets, the
Bank has also maintained a consistent level of investment securities and
other assets of maturities of three years or less. At September 30, 1998,
the Bank had $14.5 million of investment securities maturing within one year
or less and $3.9 million of investment securities maturing over one through
five years.
In the future, in managing its interest rate sensitivity, the Bank
intends to continue to stress the origination of adjustable-rate mortgages
and loans with shorter maturities and the maintenance of a consistent level
of short-term securities.
Interest Rate Sensitivity Analysis
The matching of assets and liabilities may be analyzed by examining
the extent to which such assets and liabilities are "interest rate
sensitive" and by monitoring an institution's amount of interest rate
sensitivity "gap." Generally, during a period of rising interest rates, a
negative gap would adversely affect net interest income while a positive gap
would result in an increase in net interest income, while conversely during
a period of falling interest rates, a negative gap would result in an
increase in net interest income and a positive interest rate sensitivity
"gap." An asset or liability is said to be interest rate sensitive within a
specific period if it will mature or reprice within that period. The
interest rate sensitivity gap is defined as the difference between the
amount of interest-earning assets maturing or repricing within a specific
time period and the amount of interest-bearing liabilities maturing or
repricing within that time period. A gap is considered positive when the
amount of interest rate sensitive assets exceeds the amount of interest rate
sensitive liabilities, and is considered negative when the amount of
interest rate sensitive liabilities exceeds the gap would negatively affect
net interest income.
The following table sets forth the amounts of interest-earning assets
and interest-bearing liabilities outstanding at September 30, 1998 which are
expected to mature or reprice in each of the time periods shown. The
investment securities and mortgage backed securities in the following table
are presented at amortized cost.
<TABLE>
<CAPTION>
At September 30, 1998
-----------------------------------------------------------
Over One Over Five
One Year Through Through Over Ten
or Less Five Years Ten Years Years Total
-------- ---------- --------- -------- -----
(In thousands)
<S> <C> <C> <C> <C> <C>
Interest-earning assets
Investment securities $ 14,508 $ 3,943 $ -- $ -- $ 18,451
Mortgage-backed securities -- -- 475 2,239 2,714
Other interest-earning assets 3,954 3,194 -- -- 7,148
Adjustable rate 1-4 family loans 15,209 13,521 671 -- 29,401
Fixed rate 1-4 family loans 13 505 4,353 38,163 43,034
Commercial real estate loans 2,082 671 466 300 3,519
Consumer and commercial loans 1,291 937 -- -- 2,228
-----------------------------------------------------------
Total $ 37,057 $ 22,771 $ 5,965 $ 40,702 $106,495
===========================================================
Interest-bearing liabilities
Certificates of deposit $ 33,866 $ 8,062 $ -- $ 16 $ 41,944
Money market accounts 11,056 -- -- -- 11,056
NOW accounts 6,601 -- -- -- 6,601
Passbook accounts 16,583 -- -- -- 16,583
Repurchase Agreements 1,081 -- -- -- 1,081
FHLB Advances 3,168 1,848 2,583 -- 7,599
-----------------------------------------------------------
Total $ 72,355 $ 9,910 $ 2,583 $ 16 $ 84,864
===========================================================
Interest sensitivity gap (35,298) 12,861 3,382 40,686 21,631
Cumulative interest sensitivity gap (35,298) (22,437) (19,055) 21,631
Ratio of cumulative gap to
total assets (31.29%) (19.89%) (16.89%) 19.18%
</TABLE>
Management believes the current one-year gap of negative 31.29%
presents a risk to net interest income should a sustained increase occur in
the current level of interest rates. If interest rates increase, the Bank's
negative one-year gap should cause the net interest margin to decrease. A
conservative rate-gap policy provides a stable net interest income margin.
Accordingly, management emphasizes a structured schedule of investments
spread by term to maturity with greater emphasis on maturities of one year
or less. The preceding table utilized no assumptions or adjustments
regarding prepayment of loans and decay rates based upon Falmouth's actual
experience. Accordingly, it is possible that the actual interest rate
sensitivity of the Bank's assets and liabilities could vary significantly
from the information set forth in the table due to market and other factors.
Certain shortcomings are inherent in the method of analysis presented
in the preceding table. Although certain assets and liabilities may have
similar maturity or periods of repricing, they may react 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 would likely deviate significantly from those assumed in
calculating the table. 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. Virtually all of the adjustable-rate
loans in the Bank's portfolio contain conditions which restrict the periodic
change in interest rate.
Average Balances, Interest and Average Yields
The following tables set forth certain information relating to the
Bank'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 for the periods indicated. Such yields and costs are
derived by dividing income or expense by the average monthly balance of
assets or liabilities, respectively, for the periods presented. Average
balances are derived from monthly balances. Management does not believe that
the use of monthly balances instead of daily balances has caused any
material difference in the information presented. Interest earned on loan
portfolios is net of reserves for uncollected interest.
<TABLE>
<CAPTION>
Year Ended September 30,
-----------------------------------------------------------------------------------
1998 1997 1996
--------------------------- -------------------------- --------------------------
Average Average Average
Average Yield/ Average Yield/ Average Yield/
Balance Interest Cost Balance Interest Cost Balance Interest Cost
------- -------- ------- ------- -------- ------- ------- -------- -------
(In thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Assets:
Interest-earning assets:
Loans, net:
Mortgages $ 64,202 $4,861 7.57% $43,301 $3,417 7.89% $32,693 $2,573 7.87%
Consumer and other 5,056 455 9.00 3,987 359 9.00 3,694 393 10.64
----------------- ---------------- ----------------
Total loans, net 69,258 5,316 7.68 47,288 3,776 7.99 36,387 2,966 8.15
Investments 21,812 1,438 6.59 34,120 2,085 6.11 37,086 2,154 5.81
Other earning assets 8,107 452 5.58 7,372 398 5.40 7,203 456 6.33
----------------- ---------------- ----------------
Total interest-earning assets 99,177 7,206 7.26 88,780 6,259 7.05 80,676 5,576 6.91
------ ------ ------
Cash and due from banks 2,256 1,161 1,080
Other assets 2,969 1,417 1,387
-------- ------- -------
Total assets $104,402 $91,358 $83,143
======== ======= =======
Liabilities:
Interest-bearing liabilities:
Savings deposits $ 15,571 $ 385 2.47% $14,118 $ 360 2.55% $13,829 $ 366 2.65%
NOW 7,013 66 0.94 5,690 54 0.95 5,972 73 1.22
Money market deposits 9,746 299 3.07 8,303 254 3.06 8,081 259 3.21
Certificates of deposit 39,794 2,195 5.52 37,603 2,060 5.48 37,198 2,100 5.65
Borrowed money 3,881 195 5.02 785 66 8.41 429 35 8.16
----------------- ---------------- ----------------
Total interest-bearing liabilities 76,005 3,140 4.13 66,499 2,794 4.20 65,509 2,833 4.32%
------ ------ ------
Non-interest bearing liabilities 5,225 2,617 1,375
-------- ------- -------
Total liabilities 81,230 69,116 66,884
Stockholders' equity 23,172 22,242 16,259
-------- ------- -------
Total liabilities and stockholders'
equity $104,402 $91,358 $83,143
======== ======= =======
Net interest and dividend income $4,066 $3,465 $2,743
====== ====== ======
Interest rate spread 3.13% 2.85% 2.59%
Net interest margin 4.10% 3.90% 3.40%
Ratio of average interest-earning
assets to average interest-bearing
liabilities 130.49% 133.51% 123.15%
</TABLE>
Rate/Volume Analysis
The following table sets forth certain information regarding changes
in interest income and interest expense of the Bank for the periods
indicated. For each category of interest-earning asset and interest-bearing
liability, information is provided on changes attributable to: (i) changes
in volume (changes in volume multiplied by old rate); and (ii) changes in
rates (change in rate multiplied by old volume). Changes in rate-volume
(changes in rate multiplied by the changes in volume) are allocated between
changes in rate and changes in volume.
<TABLE>
<CAPTION>
Year Ended September 30,
-------------------------------------------------------
1998 vs. 1997 1997 vs. 1996
Increase (Decrease) Increase (Decrease)
Due To Due to
-------------------------- -------------------------
Volume Rate Total Volume Rate Total
------ ---- ----- ------ ---- -----
(In thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans $1,687 $(147) $1,540 $ 869 $ (59) $ 810
Investments and other
earning assets (734) 141 (593) (167) 40 (127)
-------------------------------------------------------
Total interest-earning assets 953 (6) 947 702 (19) 683
-------------------------------------------------------
Interest-bearing liabilities:
Savings deposits 36 (11) 25 8 (14) (6)
NOW 13 (1) 12 (3) (16) (19)
Money market deposits 44 1 45 7 (12) (5)
Certificates of deposit 120 15 135 23 (63) (40)
Borrowed money 156 (27) 129 29 2 31
-------------------------------------------------------
Total interest-bearing liabilities 369 (23) 346 64 (103) (39)
-------------------------------------------------------
Net change in net interest $ 584 $ 17 $ 601 $ 638 $ 84 $ 722
=======================================================
</TABLE>
MARKET FOR THE COMPANY'S COMMON STOCK
-------------------------------------
Falmouth Bancorp, Inc.'s common stock is traded on the American Stock
Exchange and quoted under the symbol "FCB." The table below shows the high
and low sales price during the periods indicated. The Bank's common stock
began trading on March 28, 1996, the date of the Conversion and initial
public offering. The Bank's common stock traded as Company common stock
when the Reorganization became effective in October 1997, subsequent to the
end of the Bank's 1997 fiscal year.
At September 30, 1998, the last trading date in the Company's fiscal
year, the Company's common stock closed at $16.25. At December 8, 1998,
there were 1,401,784 shares of the Company's common stock outstanding, which
were held of record by approximately 639 stockholders, not including persons
or entities who hold the stock in nominee or "street" name through various
brokerage firms.
On November 17, 1998, the Board of Directors of the Company declared a
quarterly cash dividend of $0.07 per share of common stock, which was paid
on December 21, 1998 to stockholders of record on December 8, 1998.
The Board of Directors considers paying dividends, dependant on the
results of operations and financial condition of the Company, tax
considerations, industry standards, economic conditions, regulatory
restrictions and other factors. There are significant regulatory
limitations on the Company's ability to pay dividends depending on the
dividends it receives from its subsidiary, Falmouth Co-operative Bank, which
are subject to regulations and the Bank's continued compliance with all
regulatory capital requirements and the overall health of the institution.
<TABLE>
<CAPTION>
Price Range
------------------
Quarter Ended High Low Dividends
- ----------------------------------------- ---- --- ---------
<S> <C> <C> <C>
Fiscal year ended September 30, 1998:
First Quarter ended December 31, 1997 22-5/8 19-1/4 .05
Second Quarter ended March 31, 1998 24 19 .06
Third Quarter ended June 30, 1998 23-1/8 19 .06
Fourth Quarter ended September 30, 1998 20-7/8 16 .06
Fiscal year ended September 30, 1997:
First Quarter ended December 31, 1996 $14-1/8 $12 $.05
Second Quarter ended March 31, 1997 15-5/8 13-1/8 .05
Third Quarter ended June 30, 1997 16-1/2 13-1/8 .05
Fourth Quarter ended September 30, 1997 21-1/2 16-1/4 .05
</TABLE>
[FORM OF LETTERHEAD OF SHATSWELL, MACLEOD & COMPANY, P.C.]
The Board of Directors
Falmouth Bancorp, Inc.
Falmouth, Massachusetts
INDEPENDENT AUDITORS' REPORT
----------------------------
We have audited the accompanying consolidated balance sheets of Falmouth
Bancorp, Inc. and Subsidiaries as of September 30, 1998 and 1997 and the
related consolidated statements of income, changes in stockholders' equity
and cash flows for each of the years in the three-year period ended
September 30, 1998. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the consolidated financial
statements are free of material misstatement. An audit includes examining,
on a test basis, evidence supporting the amounts and disclosures in the
consolidated financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as
well as evaluating the overall consolidated 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 consolidated financial
position of Falmouth Bancorp, Inc. and Subsidiaries as of September 30, 1998
and 1997, and the consolidated results of their operations and their cash
flows for each of the years in the three-year period ended September 30,
1998, in conformity with generally accepted accounting principles.
/s/ SHATSWELL, MacLEOD & COMPANY, P.C.
SHATSWELL, MacLEOD & COMPANY, P.C.
West Peabody, Massachusetts
October 23, 1998
FALMOUTH BANCORP, INC. AND SUBSIDIARIES
---------------------------------------
CONSOLIDATED BALANCE SHEETS
---------------------------
September 30, 1998 and 1997
---------------------------
<TABLE>
<CAPTION>
1998 1997
---- ----
ASSETS
- ------
<S> <C> <C>
Cash and due from banks $ 1,705,345 $ 2,563,517
Federal funds sold 5,581,233 1,352,403
----------------------------
Total cash and cash equivalents 7,286,578 3,915,920
Investments in available-for-sale securities (at fair value) 16,923,523 25,481,370
Investments in held-to-maturity securities (fair values of $7,078,556
as of September 30, 1998 and $10,558,749 as of September 30, 1997) 7,037,287 10,515,369
Federal Home Loan Bank stock, at cost 562,800 405,200
Loans, net 77,654,939 53,881,171
Premises and equipment 2,108,344 999,707
Accrued interest receivable 631,590 614,289
Cooperative Central Bank Reserve Fund Deposit 395,395 285,680
Other assets 192,170 292,478
----------------------------
Total assets $112,792,626 $96,391,184
============================
LIABILITIES AND STOCKHOLDERS' EQUITY
- ------------------------------------
Demand deposits $ 5,334,868 $ 3,136,116
Savings and NOW deposits 34,239,783 31,922,355
Time deposits 41,944,116 37,132,618
----------------------------
Total deposits 81,518,767 72,191,089
Securities sold under agreements to repurchase 1,080,554
Advances from Federal Home Loan Bank of Boston 7,599,000
Other liabilities 352,815 652,656
Employee Stock Ownership Plan loan 741,923
----------------------------
Total liabilities 90,551,136 73,585,668
----------------------------
Stockholders' equity:
Preferred stock, par value $.01 per share in 1998 and $.10 per share in 1997,
authorized 500,000 shares; none issued
Common stock, par value $.01 per share in 1998 and $.10 per share in 1997,
authorized 2,500,000 shares; issued 1,454,750 shares as of September 30,
1998 and 1997; outstanding 1,401,784 shares as of September 30, 1998
and 1,454,750 shares as of September 30, 1997 14,547 145,475
Paid-in capital 13,899,014 13,651,570
Retained earnings 10,204,737 9,334,011
Unallocated Employee Stock Ownership Plan shares (654,038) (741,923)
Treasury stock (52,966 shares) (952,668)
Unearned compensation (594,417)
Net unrealized holding gain on available-for-sale securities 324,315 416,383
----------------------------
Total stockholders' equity 22,241,490 22,805,516
----------------------------
Total liabilities and stockholders' equity $112,792,626 $96,391,184
============================
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
FALMOUTH BANCORP, INC. AND SUBSIDIARIES
---------------------------------------
CONSOLIDATED STATEMENTS OF INCOME
---------------------------------
Years Ended September 30, 1998, 1997 and 1996
---------------------------------------------
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Interest and dividend income:
Interest and fees on loans $5,316,011 $3,775,916 $2,966,330
Interest and dividends on securities:
Taxable 1,316,020 1,901,373 1,984,622
Dividends on marketable equity securities 152,341 183,353 169,728
Dividends on Cooperative Bank Investment and Liquidity Funds 198,015 241,095 282,891
Other interest 223,391 157,115 172,261
----------------------------------------
Total interest and dividend income 7,205,778 6,258,852 5,575,832
----------------------------------------
Interest expense:
Interest on deposits 2,944,707 2,728,402 2,797,827
Interest on securities sold under agreements to repurchase 24,100
Interest on FHLB advances 148,138
Interest on other borrowings 22,556 65,576 35,060
----------------------------------------
Total interest expense 3,139,501 2,793,978 2,832,887
----------------------------------------
Net interest and dividend income 4,066,277 3,464,874 2,742,945
Provision for loan losses 26,000 51,000
----------------------------------------
Net interest income after provision for loan losses 4,040,277 3,464,874 2,691,945
----------------------------------------
Other income:
Service charges on deposit accounts 73,667 54,412 53,094
Securities gains, net 840,208 112,035 2,338
Other income 136,784 78,678 69,908
----------------------------------------
Total other income 1,050,659 245,125 125,340
----------------------------------------
Other expense:
Salaries and employee benefits 1,535,625 1,418,021 1,195,141
Occupancy expense 199,759 109,101 61,253
Equipment expense 142,429 98,327 71,054
Writedown on impairment of long lived assets 327,307
Deposit insurance expense 8,984 6,307 7,666
Data processing expense 207,061 150,838 111,410
Director's fees 57,950 57,000 57,100
Legal and professional fees 251,734 199,344 58,485
Other expenses 445,711 488,076 326,355
----------------------------------------
Total other expense 3,176,560 2,527,014 1,888,464
----------------------------------------
Income before income taxes 1,914,376 1,182,985 928,821
Income taxes 729,300 430,900 358,600
----------------------------------------
Net income $1,185,076 $ 752,085 $ 570,221
========================================
Earnings per common share $ .86 $ .55
=========================
Earnings per common share, assuming dilution $ .84 $ .55
=========================
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
FALMOUTH BANCORP, INC. AND SUBSIDIARIES
---------------------------------------
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
----------------------------------------------------------
Years Ended September 30, 1998, 1997 and 1996
---------------------------------------------
<TABLE>
<CAPTION>
Unallocated Net
Employee Unrealized
Stock Holding
Ownership Gain on
Common Paid-in Retained Plan Treasury Unearned Available-for-
Stock Capital Earnings Surplus Shares Stock Compensation Sale Securities Total
------ ------- -------- ------- ----------- -------- ------------ --------------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Balance, September
30, 1995 $ $ $ $ 8,286,070 $ $ $ $149,216 $ 8,435,286
Transfer of surplus
to retained
earnings 8,286,070 (8,286,070)
Issuance of common
stock 145,475 13,598,174 13,743,649
Employee Stock
Ownership Plan loan (872,850) (872,850)
ESOP shares released 43,642 43,642
Net income 570,221 570,221
Net change in
unrealized holding
gain on available-
for-sale securities (5,531) (5,531)
------------------------------------------------------------------------------------------------------------
Balance, September
30, 1996 145,475 13,598,174 8,856,291 (829,208) 143,685 21,914,417
Employee Stock
Ownership Plan 41,103 41,103
Adjustment of costs
incurred on
issuance of
common stock 12,293 12,293
ESOP shares released 87,285 87,285
Net income 752,085 752,085
Dividends declared
($.20 per share) (274,365) (274,365)
Net change in
unrealized holding
gain on available-
for-sale securities 272,698 272,698
------------------------------------------------------------------------------------------------------------
Balance, September
30, 1997 145,475 13,651,570 9,334,011 (741,923) 416,383 22,805,516
Employee Stock
Ownership Plan 94,566 94,566
ESOP shares released 87,885 87,885
Purchase of shares
for recognition and
retention plan(RRP) (751,433) (751,433)
Recognition and
retention plan 158,760 158,760
Distribution of RRP
shares (157,016) 157,016
Tax benefit from
RRP 20,206 20,206
Formation of the
Holding Company,
change in par value (130,928) 130,928
Purchase of
treasury stock (952,668) (952,668)
Net income 1,185,076 1,185,076
Dividends declared
($.23 per share) (314,350) (314,350)
Net change in
unrealized holding
gain on available-
for-sale securities (92,068) (92,068)
------------------------------------------------------------------------------------------------------------
Balance, September
30, 1998 $ 14,547 $13,899,014 $10,204,737 $ $(654,038) $(952,668) $(594,417) $324,315 $22,241,490
============================================================================================================
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
FALMOUTH BANCORP, INC. AND SUBSIDIARIES
---------------------------------------
CONSOLIDATED STATEMENTS OF CASH FLOWS
-------------------------------------
Years Ended September 30, 1998, 1997 and 1996
---------------------------------------------
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Cash flows from operating activities:
Net income $ 1,185,076 $ 752,085 $ 570,221
Adjustments to reconcile net income to net cash
provided by operating activities:
Recognition and retention plan (RRP) 158,760
Disposal of fixed assets 21,840
Writedown on impairment of long lived assets 327,307
Loss on sale of equipment 5,245
Loss on trade-in of equipment 8,869
Provision for loan losses 26,000 51,000
(Accretion) amortization of investment securities, net 24,417 (129,033) (51,206)
Change in unearned income (51,047) (46,627) 22,246
Gain on sales of investment securities, net (840,208) (112,035) (2,338)
Deferred tax (benefit) expense (118,872) 49,904 (6,432)
Depreciation and amortization 170,714 93,381 55,908
(Increase) decrease in accrued interest receivable (17,301) 132,312 (226,808)
(Increase) decrease in other assets 100,308 (180,305) 273,079
Increase (decrease) in other liabilities (106,691) 89,937 164,489
--------------------------------------------
Net cash provided by operating activities 872,577 671,459 850,159
--------------------------------------------
Cash flows from investing activities:
Purchases of available-for-sale securities (7,426,624) (15,406,219) (24,655,599)
Proceeds from sales of available-for-sale securities 9,886,752 2,810,711 237,841
Proceeds from maturities of available-for-sale securities 6,827,890 9,425,805 22,300,000
Purchases of held-to-maturity securities (2,000,000) (6,330,000) (17,564,866)
Proceeds from maturities of held-to-maturity securities 5,417,562 18,753,311 10,750,416
Purchase of Federal Home Loan Bank stock (157,600) (104,300) (20,800)
Increase in deposit with Cooperative Central Bank Reserve
Fund (109,715)
Net increase in loans (23,748,721) (13,597,698) (7,807,190)
Capital expenditures (1,626,772) (588,867) (50,722)
Proceeds from sale of equipment 6,000
--------------------------------------------
Net cash used in investing activities (12,931,228) (5,037,257) (16,810,920)
--------------------------------------------
Cash flows from financing activities:
Dividends paid (314,350) (274,365)
Employee Stock Ownership Plan 94,566 41,103
Payment of Employee Stock Ownership Plan loan (741,923)
Adjustment of costs incurred on issuance of common stock 12,293
Proceeds from issuance of common stock 14,547,500
Costs related to issuance of common stock (803,851)
Purchase of treasury stock (952,668)
Unallocated ESOP shares released 87,885
Purchase of company shares for RRP Trust (751,433)
Net increase (decrease) in demand deposits, NOW and
savings accounts 4,516,180 6,680,674 (534,255)
Net increase (decrease) in time deposits 4,811,498 (933,185) 1,908,951
Net increase in securities sold under agreements to repurchase 1,080,554
Proceeds from Federal Home Loan Bank advances 8,148,000
Repayments of Federal Home Loan Bank advances (549,000)
--------------------------------------------
Net cash provided by financing activities 15,429,309 5,526,520 15,118,345
--------------------------------------------
Increase (decrease) in cash and cash equivalents 3,370,658 1,160,722 (842,416)
Cash and cash equivalents at beginning of period 3,915,920 2,755,198 3,597,614
--------------------------------------------
Cash and cash equivalents at end of period $ 7,286,578 $ 3,915,920 $ 2,755,198
============================================
Supplemental disclosures:
Interest paid $ 3,139,501 $ 2,859,554 $ 2,832,887
Income taxes paid 859,664 472,023 229,000
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
FALMOUTH BANCORP, INC. AND SUBSIDIARIES
---------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
------------------------------------------
Years Ended September 30, 1998, 1997 and 1996
---------------------------------------------
NOTE 1 - NATURE OF OPERATIONS
- -----------------------------
On March 28, 1996, the Falmouth Co-Operative Bank (the "Bank") converted
from a Massachusetts chartered mutual cooperative bank to a Massachusetts-
chartered capital stock cooperative bank. The Bank issued 1,454,750 shares
of common stock through a public offering which provided net proceeds of
$13,743,649 after conversion costs of $803,851.
Falmouth Bancorp, Inc. (the "Company"), a Delaware corporation was organized
by the Bank on November 25, 1996 to be a bank holding company with the Bank
as its wholly-owned subsidiary.
On October 14, 1997, the Company acquired all of the capital stock of the
Bank and stockholders of the Bank became stockholders of the Company in a
share for share exchange pursuant to a plan of reorganization approved by
the Bank's stockholders on January 21, 1997.
The Bank was organized in 1925 and is headquartered in Falmouth,
Massachusetts. The Bank is engaged principally in the business of attracting
deposits from the general public and investing those deposits in
residential, real estate, consumer and small business loans.
NOTE 2 - ACCOUNTING POLICIES
- ----------------------------
The accounting and reporting policies of the Company conform to generally
accepted accounting principles and predominant practices within the savings
institution industry. The consolidated financial statements were prepared
using the accrual method of accounting. The significant accounting policies
are summarized below to assist the reader in better understanding the
consolidated financial statements and other data contained herein.
PERVASIVENESS OF ESTIMATES:
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ
from the estimates.
BASIS OF PRESENTATION:
The consolidated financial statements include the accounts of the
Company, the RRP Trust, the Company's wholly-owned subsidiary the Bank
and the Bank's wholly-owned subsidiary, Falmouth Securities
Corporation. All significant intercompany accounts and transactions
have been eliminated in the consolidation.
The RRP Trust was formed on October 21, 1997 in connection with the
Bank's 1997 Recognition and Retention Plan for Outside Directors,
officers and employees of Falmouth Bancorp, Inc. (the "RRP"). The
Company contributes to the RRP Trust from time to time. The RRP Trust
invests the assets of the Trust in shares of the Company.
The Trustees of the RRP Trust and also directors of the Company. The
RRP is administered by the compensation committee of the Board of
Directors of the Company which consists of certain non-employee
members of the Board of Directors of the Company.
Falmouth Securities Corporation, an active security corporation, was
established solely for the purpose of acquiring and holding
investments which are permissible for banks to hold under
Massachusetts law.
CASH AND CASH EQUIVALENTS:
For purposes of reporting cash flows, cash and cash equivalents
include cash on hand, cash items, due from banks and federal funds
sold.
SECURITIES:
Investments in debt securities are adjusted for amortization of
premiums and accretion of discounts computed on the straight-line
method which has substantially the same effect as using the interest
method. Gains or losses on sales of investment securities are computed
on a specific identification basis.
The Company classifies debt and equity securities into one of three
categories: held-to-maturity, available-for-sale, or trading. This
security classification may be modified after acquisition only under
certain specified conditions. In general, securities may be classified
as held-to-maturity only if the Company has the positive intent and
ability to hold them to maturity. Trading securities are defined as
those bought and held principally for the purpose of selling them in
the near term. All other securities must be classified as available-
for-sale.
-- Held-to-maturity securities are measured at amortized cost
on the balance sheet. Unrealized holding gains and losses
are not included in earnings or in a separate component of
capital. They are merely disclosed in the notes to the
consolidated financial statements.
-- Available-for-sale securities are carried at fair value on
the balance sheet. Unrealized holding gains and losses are
not included in earnings, but are reported as a net amount
(less expected tax) in a separate component of capital
until realized.
-- Trading securities are carried at fair value on the
balance sheet. Unrealized holding gains and losses for
trading securities are included in earnings.
LOANS:
Loans receivable that management has the intent and ability to hold
until maturity or payoff, are reported at their outstanding principal
balances reduced by amounts due to borrowers on unadvanced loans, any
charge-offs, the allowance for loan losses and any deferred fees,
costs on originated loans or unamortized premiums or discounts on
purchased loans.
Interest on loans is recognized on a simple interest basis.
Loan origination, commitment fees and certain direct origination costs
are 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.
Cash receipts of interest income on impaired loans is credited to
principal to the extent necessary to eliminate doubt as to the
collectibility of the net carrying amount of the loan. Some or all of
the cash receipts of interest income on impaired loans is recognized
as interest income if the remaining net carrying amount of the loan is
deemed to be fully collectible. When recognition of interest income on
an impaired loan on a cash basis is appropriate, the amount of income
that is recognized is limited to that which would have been accrued on
the net carrying amount of the loan at the contractual interest rate.
Any cash interest payments received in excess of the limit and not
applied to reduce the net carrying amount of the loan are recorded as
recoveries of charge-offs until the charge-offs are fully recovered.
ALLOWANCE FOR LOAN LOSSES:
The allowance is increased by provisions charged to current operations
and is decreased by loan losses, net of recoveries. The provision for
loan losses is based on management's evaluation of current and
anticipated economic conditions, changes in the character and size of
the loan portfolio and other indicators.
As of October 1, 1995, the Company adopted Statement of Financial
Accounting Standards No. 114, "Accounting by Creditors for Impairment
of a Loan," as amended by SFAS No. 118. According to SFAS No. 114 a
loan is impaired when, based on current information and events, it is
probable that a creditor will be unable to collect all amounts due
according to the contractual terms of the loan agreement. The
Statement requires that impaired loans be measured on a loan by loan
basis by either the present value of expected future cash flows
discounted at the loan's effective interest rate, the loan's
observable market price, or the fair value of the collateral if the
loan is collateral dependent.
The Statement is applicable to all loans, except large groups of
smaller balance homogeneous loans that are collectively evaluated for
impairment, loans that are measured at fair value or at the lower of
cost or fair value, leases, and convertible or nonconvertible
debentures and bonds and other debt securities. The Company considers
its residential real estate loans and consumer loans that are not
individually significant to be large groups of smaller balance
homogeneous loans.
Factors considered by management in determining impairment include
payment status, net worth and collateral value. An insignificant
payment delay or an insignificant shortfall in payment does not in
itself result in the review of a loan for impairment. The Company
applies SFAS No. 114 on a loan-by-loan basis. The Company does not
apply SFAS No. 114 to aggregations of loans that have risk
characteristics in common with other impaired loans. Interest on a
loan is not generally accrued when the loan becomes ninety or more
days overdue. The Company may place a loan on nonaccrual status but
not classify it as impaired, if (i) it is probable that the Company
will collect all amounts due in accordance with the contractual terms
of the loan or (ii) the loan is an individually insignificant
residential mortgage loan or consumer loan. Impaired loans are
charged-off when management believes that the collectibility of the
loan's principal is remote.
The financial statement impact of adopting the provisions of this
Statement was not material.
PREMISES AND EQUIPMENT:
Premises and equipment are stated at cost, less accumulated
depreciation and amortization. Cost and related allowances for
depreciation and amortization of premises and equipment retired or
otherwise disposed of are removed from the respective accounts with
any gain or loss included in income or expense. Depreciation and
amortization are calculated principally on the straight-line method
over the estimated useful lives of the assets.
OTHER REAL ESTATE OWNED AND IN-SUBSTANCE FORECLOSURES:
Other real estate owned includes properties acquired through
foreclosure and properties classified as in-substance foreclosures in
accordance with Financial Accounting Standards Board Statement No. 15,
"Accounting by Debtors and Creditors for Troubled Debt Restructuring."
These properties are carried at the lower of cost or estimated fair
value less estimated costs to sell. Any write-down from cost to
estimated fair value, required at the time of foreclosure or
classification as in-substance foreclosure, is charged to the
allowance for possible loan losses. Expenses incurred in connection
with maintaining these assets, subsequent write-downs and gains or
losses recognized upon sale are included in other expense.
Beginning in 1995, in accordance with Statement of Financial
Accounting Standards No. 114, "Accounting by Creditors for Impairment
of a Loan," the Company classifies loans as in-substance repossessed
or foreclosed if the Company receives physical possession of the
debtor's assets regardless of whether formal foreclosure proceedings
take place.
COOPERATIVE CENTRAL BANK RESERVE FUND DEPOSIT:
The Reserve Fund was established for liquidity purposes and consists
of deposits required of all insured cooperative banks in
Massachusetts. The Fund is used by the Central Bank to advance funds
to member banks, but such advances generally are not made until
Federal Home Loan Bank and commercial bank sources of borrowings have
been exhausted. The Company has not borrowed funds from the Central
Bank since rejoining the Federal Home Loan Bank on January 2, 1975.
INCOME TAXES:
The Company recognizes income taxes under the asset and liability
method. Under this method, deferred tax assets and liabilities are
established for the temporary differences between the accounting basis
and the tax basis of the Company 's assets and liabilities at enacted
tax rates expected to be in effect when the amounts related to such
temporary differences are realized or settled.
RETIREMENT PLAN:
The compensation cost of an employee's pension benefit is recognized
on the net periodic pension cost method over the employee's
approximate service period. The aggregate cost method is used for
funding purposes.
FAIR VALUES OF FINANCIAL INSTRUMENTS:
Statement of Financial Accounting Standards No. 107, "Disclosures
About Fair Value of Financial Instruments," requires that the Company
disclose estimated fair value for its financial instruments. Fair
value methods and assumptions used by the Company in estimating its
fair value disclosures are as follows:
Cash and cash equivalents: The carrying amounts reported in the
balance sheet for cash and federal funds sold approximate those
assets' fair values.
Securities (including mortgage-backed securities): Fair values for
securities are based on quoted market prices, where available. If
quoted market prices are not available, fair values are based on
quoted market prices of comparable instruments.
Loans receivable: For variable-rate loans that reprice frequently and
with no significant change in credit risk, fair values are based on
carrying values. The fair values for other loans are estimated using
discounted cash flow analyses, using interest rates currently being
offered for loans with similar terms to borrowers of similar credit
quality. The carrying amount of accrued interest approximates its fair
value.
Accrued interest receivable and Cooperative Central Bank Reserve Fund
Deposit: The carrying amounts of accrued interest receivable and
Cooperative Central Bank Reserve Fund Deposit approximate their fair
values.
Deposit liabilities: The fair values disclosed for demand deposits
(e.g., interest and non-interest checking, passbook savings and money
market accounts) are, by definition, equal to the amount payable on
demand at the reporting date (i.e., their carrying amounts). Fair
values for fixed-rate certificates of deposit are estimated using a
discounted cash flow calculation that applies interest rates currently
being offered on certificates to a schedule of aggregated expected
monthly maturities on time deposits.
Securities sold under agreements to repurchase: The carrying amount
reported on the balance sheet for securities sold under agreement to
repurchase approximates those liabilities' fair values.
Federal Home Loan Bank Advances: Fair values for FHLB advances are
estimated using a discounted cash flow technique that applies interest
rates currently being offered on advances to a schedule of aggregated
expected monthly maturities on FHLB advances.
Employee Stock Ownership Plan loan: The fair value of the Employee
Stock Ownership Plan loan was estimated using a discounted cash flow
calculation that applies current interest rates.
Off-balance sheet instruments: The fair value of commitments to
originate loans is estimated using the fees currently charged to enter
similar agreements, taking into account the remaining terms of the
agreements and the present creditworthiness of the counterparties. For
fixed-rate loan commitments and the unadvanced portion of loans, fair
value also considers the difference between current levels of interest
rates and the committed rates. The fair value of letters of credit is
based on fees currently charged for similar agreements or on the
estimated cost to terminate them or otherwise settle the obligation
with the counterparties at the reporting date.
STOCK BASED COMPENSATION:
In accordance with SFAS No. 123, entities can recognize stock-based
compensation expense in the basic financial statements using either
(i) the intrinsic value approach set forth in APB Opinion No. 25 or
(ii) the fair value method in SFAS No. 123. Entries electing to follow
the provisions of APB Opinion No. 25 must make pro forma disclosure of
net income and earnings per share, as if the fair value method of
accounting defined in SFAS No. 123 had been applied. Management
measures stock-based compensation costs in accordance with APB Opinion
No. 25 and has made the pro forma disclosure requirements of SFAS
No. 123 for the years ended September 30, 1998 and 1997.
EARNINGS PER SHARE:
In the year ended September 30, 1998, the Company adopted Statement of
Financial Accounting Standards No. 128 (SFAS No. 128) "Earnings per
Share" (EPS) issued by the Financial Accounting Standards Board. SFAS
No. 128 required restatement of all prior-period EPS presented that
was not in accordance with SFAS No. 128. This statement simplifies the
standards for computing earnings per share. It replaces the
presentation of primary EPS with a presentation of Basic EPS which
excludes dilution and is computed by dividing income available to
common stockholders by the weighted-average number of common shares
outstanding for the period. Diluted EPS, if applicable, reflects the
potential dilution that could occur if securities or other contracts
to issue common stock were exercised or converted into common stock or
resulted in the issuance of common stock that then shared in the
earnings of the entity. The adoption of SFAS No. 128 had no material
effect on the Company's 1998 financial statements.
Because of the Bank's conversion in mid 1996 from mutual form to stock
ownership, a presentation of earnings per share for fiscal 1996 would
not be meaningful.
NOTE 3 - INVESTMENTS IN SECURITIES
- ----------------------------------
Debt and equity securities have been classified in the consolidated balance
sheets according to management's intent. The carrying amount of securities
and their approximate fair values are as follows as of September 30:
<TABLE>
<CAPTION>
Gross Gross
Amortized Unrealized Unrealized
Cost Holding Holding Fair
Basis Gains Losses Value
--------- ---------- ---------- -----
<S> <C> <C> <C> <C>
Available-for-sale:
September 30, 1998:
Debt securities issued by the U.S. Treasury
and other U.S. government corporations
and agencies $ 3,704,394 $ 8,396 $ $ 3,712,790
Other debt securities 4,997,163 55,559 5,052,722
Mortgage-backed securities 2,239,113 64,766 2,303,879
Marketable equity securities 5,423,430 780,691 349,989 5,854,132
------------------------------------------------------
$16,364,100 $909,412 $349,989 $16,923,523
======================================================
September 30, 1997:
Debt securities issued by the U.S. Treasury
and other U.S. government corporations
and agencies $11,485,860 $ 44,890 $ 1,290 $11,529,460
Other debt securities 3,447,578 20,920 3,468,498
Mortgage-backed securities 2,755,018 58,551 2,813,569
Marketable equity securities 7,087,351 825,351 242,859 7,669,843
------------------------------------------------------
$24,775,807 $949,712 $244,149 $25,481,370
======================================================
Held-to-maturity:
September 30, 1998:
Debt securities issued by the U.S. Treasury
and other U.S. government corporations
and agencies $ 1,199,929 $ 3,931 $ $ 1,203,860
Other debt securities 5,362,298 20,264 5,382,562
Mortgage-backed securities 475,060 17,074 492,134
------------------------------------------------------
$ 7,037,287 $ 41,269 $ $ 7,078,556
======================================================
September 30, 1997:
Debt securities issued by the U.S. Treasury
and other U.S. government corporations
and agencies $ 3,094,510 $ 9,526 $ $ 3,104,036
Other debt securities 6,823,853 10,089 107 6,833,835
Mortgage-backed securities 597,006 23,872 620,878
------------------------------------------------------
$10,515,369 $ 43,487 $ 107 $10,558,749
======================================================
</TABLE>
The scheduled maturities of held-to-maturity securities and available-for-
sale securities (other than equity securities) were as follows as of
September 30, 1998:
<TABLE>
<CAPTION>
Available-for-sale Held-to-maturity
securities: securities:
-------------------------- ------------------------
Amortized Amortized
Cost Fair Cost Fair
Basis Value Basis Value
--------- ----- --------- -----
<S> <C> <C> <C> <C>
Debt securities other than mortgage-backed securities:
Due within one year $ 6,092,009 $ 6,110,940 $5,228,439 $5,245,960
Due after one year through five years 2,609,548 2,654,572 1,333,788 1,340,462
Mortgage-backed securities 2,239,113 2,303,879 475,060 492,134
------------------------------------------------------
$10,940,670 $11,069,391 $7,037,287 $7,078,556
======================================================
</TABLE>
For the year ended September 30, 1998, proceeds from sales of securities
available-for-sale amounted to $9,886,752. Gross realized gains and gross
realized losses on those sales amounted to $898,379 and $58,171,
respectively. For the year ended September 30, 1997, proceeds from sales of
securities available-for-sale amounted to $2,810,711. Gross realized gains
and gross realized losses on those sales amounted to $155,042 and $43,007,
respectively. For the year ended September 30, 1996, proceeds from sales of
securities available-for-sale amounted to $237,841. Gross realized gains and
gross realized losses on those sales amounted to $24,775 and $22,437,
respectively.
The aggregate carrying amount and fair value of securities of issuers which
exceeded 10% of stockholders' equity were as follows as of September 30,
1998:
<TABLE>
<CAPTION>
Amortized
Cost Fair
Issuer Basis Value
- --------------------------------- --------- -----
<S> <C> <C>
Co-operative Bank Investment Fund $3,194,124 $3,059,023
========================
</TABLE>
NOTE 4 - LOANS
- --------------
Loans consisted of the following as of September 30:
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Commercial, financial and agricultural $ 1,422,493 $ 1,079,024
Real estate - construction and land development 2,588,234 451,410
Real estate - residential 67,997,194 48,016,182
Real estate - commercial 5,653,489 4,291,104
Consumer 566,418 641,387
--------------------------
78,227,828 54,479,107
Unearned income (45,452) (96,499)
Allowance for loan losses (527,437) (501,437)
--------------------------
Loans, net $77,654,939 $53,881,171
==========================
</TABLE>
Certain directors and executive officers of the Company were customers of
the Company during the year ended September 30, 1998. Total loans to such
persons and their companies amounted to $238,205 as of September 30, 1998.
During the year ended September 30, 1998, total payments amounted to
$194,904 and principal advances were $188,175.
Changes in the allowance for loan losses were as follows for the years ended
September 30:
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Balance at beginning of period $501,437 $498,223 $445,216
Provision for loan losses 26,000 51,000
Recoveries of loans previously charged off 3,259 2,007
Loans charged off (45)
--------------------------------
Balance at end of period $527,437 $501,437 $498,223
================================
</TABLE>
As of September 30, 1998 and 1997 there were no loans that met the
definition of an impaired loan in Statement of Financial Accounting
Standards No. 114. There was no investment in impaired loans or related
interest-income recognized on impaired loans during the years ended
September 30, 1998 and 1997.
Statement of Financial Accounting Standards No. 122, "Accounting for
Mortgage Servicing Rights," (SFAS No. 122), became effective for the Company
on October 1, 1996. SFAS No. 122 was superseded by Statement of Financial
Accounting Standards No. 125, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities," (SFAS No. 125)
effective for transfers and servicing occurring after December 31, 1996. In
the fiscal years ending September 30, 1998 and 1997 the Company sold
mortgage loans totaling approximately $7,037,000 and $0, respectively and
retained the servicing rights. The fair value of those rights under SFAS No.
122 and SFAS No. 125 is not material and has not been recognized in the
consolidated financial statements for the years ended September 30, 1998 and
1997.
NOTE 5 - PREMISES AND EQUIPMENT
- -------------------------------
The following is a summary of premises and equipment as of September 30:
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Bank building $2,114,769 $ 986,215
Furniture and equipment 736,319 627,214
Vehicle 21,000 25,071
-------------------------
2,872,088 1,638,500
Accumulated depreciation and amortization (763,744) (638,793)
-------------------------
$2,108,344 $ 999,707
=========================
</TABLE>
During 1998 the Company determined that the carrying amounts of the
leasehold improvements and equipment at a former branch office are probably
not recoverable and that the assets are impaired as defined by SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to Be Disposed of." The impairment loss was $327,307 and is reflected
in the 1998 consolidated statements of income. The Company closed this
branch office in 1998. The lease expires on February 4, 2001. See Note 14.
NOTE 6 - DEPOSITS
- -----------------
The aggregate amount of time deposit accounts (including CDs), each with a
minimum denomination of $100,000, was approximately $8,020,846 and
$4,356,835 as of September 30, 1998 and 1997, respectively.
For time deposits as of September 30, 1998, the aggregate amount of
maturities for each of the following five years ended September 30 and
thereafter are as follows:
<TABLE>
(in thousands)
<S> <C>
1999 $33,865
2000 5,011
2001 2,974
2002 78
2003 0
Thereafter 16
-------
$41,944
=======
</TABLE>
NOTE 7 - SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
- -------------------------------------------------------
The securities sold under agreements to repurchase as of September 30, 1998
are securities sold on a short term basis by the Company that have been
accounted not as sales but as borrowings. The securities consisted of U.S.
Treasury Notes. The securities were held in the Company 's safekeeping
account at BankBoston under the control of the Company and pledged to the
purchasers of the securities. The purchasers have agreed to sell to the
Company substantially identical securities at the maturity of the
agreements.
Information concerning securities sold under agreements to repurchase is
summarized as follows for the year ended September 30, 1998:
<TABLE>
<S> <C>
Average balance during the year $ 537,663
Average interest rate during the year 4.48%
Maximum month-end balance during the year $1,080,554
Securities underlying the agreements at year-end:
Carrying amount $1,500,513
Estimated fair value 1,505,150
</TABLE>
NOTE 8 - ADVANCES FROM FEDERAL HOME LOAN BANK OF BOSTON
- -------------------------------------------------------
Advances consist of funds borrowed from the Federal Home Loan Bank of
Boston.
Maturities of advances from the Federal Home Loan Bank of Boston for the
five fiscal years ending after
September 30, 1998 and thereafter are summarized as follows:
<TABLE>
<CAPTION>
INTEREST RATE AMOUNT
------------- ------
<S> <C> <C>
1999 5.57% to 5.94% $3,167,710
2000 5.64% to 5.94% 579,329
2001 5.79% to 5.94% 584,014
2002 5.94% to 5.94% 89,772
2003 5.86% to 5.94% 595,290
Thereafter 4.99% to 5.94% 2,582,885
----------
$7,599,000
==========
</TABLE>
Advances are secured by the Company's stock in that institution, its
residential real estate mortgage portfolio and the remaining U.S. government
and agencies obligation not otherwise pledged.
NOTE 9 - INCOME TAXES
- ---------------------
The components of income tax expense are as follows for the years ended
September 30:
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Current:
Federal $ 599,930 $334,704 $241,168
State 248,242 146,100 111,000
-----------------------------------
848,172 480,804 352,168
-----------------------------------
Deferred:
Federal (88,378) (5,717) 9,154
State (30,494) (1,973) 3,710
-----------------------------------
(118,872) (7,690) 12,864
-----------------------------------
729,300 473,114 365,032
Changes in valuation allowance (42,214) (6,432)
-----------------------------------
Total income tax expense $729,300 $430,900 $358,600
===================================
</TABLE>
The tax effects of each type of item that gives rise to deferred taxes are
as follows as of September 30:
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Deferred tax assets:
Allowance for loan losses $ 139,566 $ 112,640
Deferred income 119,362 71,960
Reserve for contingencies 7,775 46,692
Other 1,553
Employee benefit plan 22,269
Impairment loss on leasehold improvements and equipment 133,967
-----------------------
422,939 232,845
-----------------------
Deferred tax liabilities:
Unrealized gain on securities (235,108) (289,179)
Excess depreciation (98,829) (95,903)
Deferred loan costs (99,334) (31,038)
-----------------------
(433,271) (416,120)
-----------------------
Net deferred tax liability $ (10,332) $(183,275)
=======================
</TABLE>
Deferred tax assets as of September 30, 1998 and 1997 have not been reduced
by a valuation allowance because management believes that it is more likely
than not that the full amount of deferred tax assets will be realized.
The reasons for the differences between the tax at the statutory federal
income rate and the effective tax rate are summarized as follows for the
years ended September 30:
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Tax at statutory rate of 34% 34.0% 34.0% 34.0%
Increase (decrease) resulting from:
State taxes, net of federal tax benefit 7.5 8.0 7.2
Utilization (provision) of deferred tax asset valuation reserve (3.6) (.7)
Dividend received deduction (1.5) (3.2) (3.6)
Other, net (1.9) 1.2 1.7
------------------------
Income tax provision 38.1% 36.4% 38.6%
========================
</TABLE>
As part of the Adoption Tax Credit within the Minimum Wage Bill that was
enacted into law on August 20, 1996 the Section 593 tax additions to the
reserve for bad debts was repealed, effective for taxable years beginning
after December 31, 1995. Thus, the Company was allowed a tax deduction for
bad debts under the experience method only starting with the year beginning
October 1, 1996.
As part of this legislation the Company will have to recapture in taxable
income the excess of the tax reserve for bad debts at September 30, 1996
over the tax reserve at April 30, 1988. The recapture amount is $238,709
resulting in Federal and Massachusetts income taxes of approximately $98,000
which will be paid over a six year period starting with the tax year
beginning October 1, 1998. This tax has been provided for in past years and
will not result in any charge to earnings.
In prior years, the Company was allowed a special tax-basis bad debt
deduction under certain provisions of the Internal Revenue Code. As a
result, retained earnings of the Company as of September 30, 1998 includes
approximately $1,639,418 for which federal and state income taxes have not
been provided. Under the provisions of recent federal income tax
legislation, if the Company no longer qualifies as a bank as defined in
certain provisions of the Internal Revenue Code, this amount will be subject
to recapture in taxable income ratably over six (6) years, subject to a
combined federal and state tax rate of approximately 41% based on the
effective tax rates of the Company in prior years.
NOTE 10 - EMPLOYEE RETIREMENT, PENSION PLANS AND BENEFITS
- ---------------------------------------------------------
Retirement Plan
- ---------------
The Company is a participant in the Cooperative Banks Employee Retirement
Association Defined Contribution and Defined Benefit Plans (a multi-employer
plan). The plans provide benefits to substantially all of the Company's
employees. Benefits under the defined contribution plan are based on a
percentage of employee contributions while benefits under the defined
benefit plan are based primarily on years of service and employees'
compensation. The Company's funding policy for the defined benefit plan is
to fund amounts required by applicable regulations and which are tax
deductible. Amounts charged to retirement fund expense for the years ending
September 30, 1998, 1997 and 1996 totaled $102,799, $103,310 and $93,870,
respectively.
Employee Stock Ownership Plan
- -----------------------------
Effective March 1996 the Bank adopted the Falmouth Co-Operative Bank
Employee Stock Ownership Plan (ESOP).
On March 26, 1996 the ESOP borrowed $872,850 from Bridgewater Savings Bank
("the old debt") to purchase 87,285 shares of the stock of Falmouth Co-
Operative Bank. In the year ended September 30, 1998 the old debt was paid
off and replaced by an inter-company loan by the Company to the ESOP. The
loan is secured by a pledge of the stock purchased. The Company will make
annual contributions to the ESOP in amounts determined by the Board of
Directors. Dividends received by the ESOP may be credited to participants'
accounts or may be used to repay the ESOP's debt.
Any shares of the Company purchased by the ESOP are subject to the
accounting specified by the American Institute of CPA's Statement of
Position 93-6. Under the statement, as any shares are released from
collateral, the Company will report compensation expense equal to the
current market price of the shares and the shares will be outstanding for
earnings-per-share computations. Also, as the shares are released, the
related dividends will be recorded as a reduction of retained earnings and
dividends on the allocated shares will be recorded as a reduction of debt
and accrued interest.
The shares purchased by the ESOP are pledged as collateral for its debt. As
the debt is repaid, shares are released from collateral and allocated to
active employees, based on the proportion of debt service paid in the year.
The old debt of the ESOP was recorded as debt of the Company. The inter-
company loan is eliminated in consolidation. The shares pledged as
collateral are reported as unearned ESOP shares in the balance sheet. The
ESOP shares were as follows as of September 30:
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Allocated shares 13,092 4,364
Committed to be released shares 8,728 8,728
Unreleased shares 65,465 74,193
-------------------------
87,285 87,285
=========================
Fair value of unreleased shares $1,063,806 $1,548,779
</TABLE>
For the old ESOP debt, the interest rate per annum was 8.15%. Interest
expense on the old debt was $22,556, $65,576 and $35,060 for the years ended
September 30, 1998, 1997 and 1996, respectively.
Annual contributions to the plan are discretionary. Contributions to the
ESOP Plan by the Bank or Company were $87,885, $87,285 and $78,702 for the
years ended September 30, 1998, 1997 and 1996, respectively and ESOP
compensation expense was $182,511, $128,389, and $43,642, respectively.
Stock Option Plan
- -----------------
On November 19, 1996, the Bank adopted the 1997 Stock Option Plan for
Outside Directors, Officers, and Employees of the Bank. The plan was
approved by shareholders effective as of January 21, 1997. The Board of
Directors formed an Option Committee to administer the plan. A total of
145,475 shares were made available for issuance under the plan.
Stock Options Granted to Eligible Directors
- -------------------------------------------
The price, at which an option granted to an eligible director may be
exercised, is the fair market value of a share on the date on which the
option is granted. Such options expire ten years after the grant date. The
options are not exercisable in the first year after grant. In the second
through fifth year after the grant, the options are exercisable on a pro
rata basis up to 80% of the grant by the fifth year. After the fifth year,
100% of the grant not previously exercised may be exercised.
Stock Options Granted to Eligible Employees
- -------------------------------------------
An option granted to an eligible employee must be designated as either an
Incentive Stock Option or a Non-Qualifying Stock Option. The price at which
an option may be exercised is determined by the Committee, it its
discretion; provided, however, that the exercise price shall not be less
than the fair market value of a share on the grant date. These options may
be exercised in periods specified by the Committee in the option agreement.
The Company applies APB Opinion 25 and related Interpretations in accounting
for its plan. Accordingly, no compensation cost has been recognized for its
stock option plan. Had compensation cost for the Company's stock-based
compensation plan been determined based on the fair value at the grant dates
for awards under those plans consistent with the method of FASB Statement
123, the Company's net income and earnings per share for the years ended
September 30 would have been reduced to the pro forma amounts indicated
below:
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C> <C>
Net income As reported $1,185,076 $752,085
Pro forma $1,113,695 $716,394
Earnings per share - Basic As reported $.86 $.55
Pro forma $.81 $.52
Earnings per share - Diluted As reported $.84 $.55
Pro forma $.79 $.52
</TABLE>
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option-pricing model with the following weighted-average
assumptions used for grants in the years ended September 30, 1998 and 1997:
dividend yield of 2 percent for both years; expected volatility of 19
percent for both years, risk-free interest rate of 5.8 and 7 percent,
respectively; and expected lives of 8 years for both years.
A summary of the status of the Company's stock option plan as of September
30, 1998 and 1997 and changes during the years ending on those dates is
presented below:
<TABLE>
<CAPTION>
1998 1997
------------------------- -------------------------
Options Shares Exercise Price Shares Exercise Price
- -------------------------------- ------ -------------- ------ --------------
<S> <C> <C> <C> <C>
Outstanding at beginning of year 109,125 $13.375 0
Granted 666 19.625 109,125 $13.375
Correction of prior grant (666) 13.375
Exercised 0 0
Forfeited (1,500) 13.375 0
------- -------
Outstanding at end of year 107,625 $13.414 109,125 $13.375
======= =======
Options exercisable at year-end 21,525 0
Weighted-average fair value of
options granted during the year $5.69 $4.36
</TABLE>
The following table summarizes information about stock options outstanding
as of September 30, 1998:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
- ---------------------------------------------------- --------------------------------
Number Weighted-Average Number
Outstanding Remaining Exercisable
as of 09/30/98 Contractual Life Exercise Price as of 09/30/98 Exercise Price
- -------------- ---------------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
106,959 8.5 years $13.375 21,392 $13.375
666 8.5 years $19.625 133 $19.625
------- ------
107,625 8.5 years $13.414 21,525 $13.414
======= ======
</TABLE>
Recognition and Retention Plan
- ------------------------------
On November 19, 1996, the Bank adopted the 1997 Recognition and Retention
Plan for Outside Directors, Officers and Employees of Falmouth Co-operative
Bank (the RRP). The Company subsequently adopted and assumed sponsorship of
the RRP and appointed a compensation committee to administer it. The Company
established the RRP Trust and contributes, or causes to be contributed, to
the RRP Trust, from time to time, such amounts of money or property as
determined by the Compensation Committee. In no event shall the assets of
the RRP Trust be used to purchase more than 58,190 shares of Company common
stock. In its discretion, the Compensation Committee may grant awards of
restricted stock to officers and employees. Each award will become vested
and distributable at a rate of 20% on each anniversary date of the grant and
fully vested on the date of the award holder's death or disability. Stock
subject to awards is held in the RRP Trust until the award is vested. An
individual to whom an award is granted is entitled to exercise voting rights
and receive cash dividends with respect to stock subject to awards granted
to him/her whether or not vested. The Compensation Committee exercises
voting rights with respect to the shares in the RRP Trust that have not been
allocated as directed by the individuals eligible to participate. On April
15, 1997, 39,000 shares were awarded, with vesting beginning as of February
1, 1997. Compensation expense amounted to $67,816 and $100,000 for the years
ending September 30, 1998 and 1997, respectively. Compensation expense is
based on the fair value of the common stock on the grant date. As of
September 30, 1998, the RRP Trust had purchased a total of 39,000 shares,
and 7,802 vested shares had been distributed to eligible participants.
NOTE 11 - REGULATORY MATTERS
- ----------------------------
The Company and the Bank are subject to various regulatory capital
requirements administered by the federal banking agencies. Failure to meet
minimum capital requirements can initiate certain mandatory - and possibly
additional discretionary - actions by regulators that, if undertaken, could
have a direct material effect on the Company'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 their assets, liabilities
and certain off-balance-sheet items as calculated under regulatory
accounting practices. Their capital amounts and classification are also
subject to qualitative judgments by the regulators about components, risk
weightings and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Company and the Bank to maintain minimum amounts and ratios (set
forth in the table below) of total and Tier 1 capital (as defined in the
regulations) to risk-weighted assets (as defined), and of Tier 1 capital (as
defined) to average assets (as defined). Management believes, as of
September 30, 1998, that the Company and the Bank meet all capital adequacy
requirements to which they are subject.
As of September 30, 1998 the most recent notification from the Federal
Deposit Insurance Corporation categorized the Bank as well capitalized under
the regulatory framework for prompt corrective action. To be categorized as
well capitalized the Bank must maintain minimum total risk-based, Tier 1
risk-based and Tier 1 leverage ratios as set forth in the table. There are
no conditions or events since that notification that management believes
have changed the Bank's category.
The Company's and the Bank's actual capital amounts and ratios are also
presented in the table.
<TABLE>
<CAPTION>
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes: Action Provisions:
----------------- ------------------ ------------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
(Dollar amounts in thousands)
<S> <C> <C> <C> <C> <C> <C>
As of September 30, 1998:
Total Capital (to Risk Weighted Assets):
Consolidated $22,444 32.91% $5,456 >=8.0% N/A
Falmouth Co-Operative Bank 14,631 23.31 5,022 >=8.0 $6,278 >=10.0%
Tier 1 Capital (to Risk Weighted Assets):
Consolidated 21,917 32.13 2,726 >=4.0 N/A
Falmouth Co-Operative Bank 14,104 22.47 2,511 >=4.0 3,767 >=6.0
Tier 1 Capital (to Average Assets):
Consolidated 21,917 19.59 4,475 >=4.0 N/A
Falmouth Co-Operative Bank 14,104 13.62 4,143 >=4.0 5,178 >=5.0
As of September 30, 1997:
Total Capital (to Risk Weighted Assets) 22,891 42.28 4,331 >=8.0 5,414 >=10.0
Tier 1 Capital (to Risk Weighted Assets) 22,390 41.36 2,166 >=4.0 3,248 >=6.0
Tier 1 Capital (to Average Assets) 22,390 23.64 3,789 >=4.0 4,736 >=5.0
</TABLE>
The ability of the Company to pay dividends on its common stock is
restricted by Massachusetts banking law. No dividends may be paid if such
dividends would reduce stockholders' equity of the Company below the amount
of the liquidation account required by Massachusetts conversion regulations
and described in Note 17. In addition, the Company may not pay dividends in
excess of current earnings for three years following the conversion of the
Company from mutual to stock form.
NOTE 12 - FINANCIAL INSTRUMENTS
- -------------------------------
The Company is 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 originate loans. The
instruments involve, to varying degrees, elements of credit risk in excess
of the amount recognized in the balance sheets. The contract amounts of
those 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 loan commitments is represented
by the contractual amounts of those instruments. The Company uses the same
credit policies in making commitments and conditional obligations as it does
for on-balance sheet instruments.
Commitments to originate loans are agreements to lend to a customer provided
there is no violation of any condition established in the contract.
Commitments generally have fixed expiration dates or 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 borrower.
Collateral held varies, but may include secured interests in mortgages,
accounts receivable, inventory, property, plant and equipment and income-
producing properties.
The estimated fair values of the Company 's financial instruments, all of
which are held or issued for purposes other than trading, are as follows as
of September 30:
<TABLE>
<CAPTION>
1998 1997
-------------------------- --------------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
-------- ----- -------- -----
<S> <C> <C> <C> <C>
Financial assets:
Cash and cash equivalents $ 7,286,578 $ 7,286,578 $ 3,915,920 $ 3,915,920
Available-for-sale securities 16,923,523 16,923,523 25,481,370 25,481,370
Held-to-maturity securities 7,037,287 7,078,556 10,515,369 10,558,749
Federal Home Loan Bank stock 562,800 562,800 405,200 405,200
Loans 77,654,939 79,454,000 53,881,171 54,260,000
Accrued interest receivable 631,590 631,590 614,289 614,289
Cooperative Central Bank Reserve Fund
Deposit 395,395 395,395 285,680 285,680
Financial liabilities:
Deposits 81,518,767 81,619,000 72,191,089 72,226,000
Federal Home Loan Bank advances 7,599,000 7,652,000
Securities sold under agreements to repurchase 1,080,554 1,080,554
Employee Stock Ownership Plan loan 741,923 738,519
</TABLE>
The carrying amounts of financial instruments shown in the above table are
included in the balance sheet under the indicated captions. Accounting
policies related to financial instruments are described in Note 2.
Notional amounts of financial instrument liabilities with off-balance sheet
credit risk are as follows as of
September 30:
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Commitments to originate loans $ 4,509,100 $1,788,200
Unadvanced funds on construction loans 2,538,054 1,024,942
Unadvanced funds on home equity lines of credit 4,746,808 3,832,129
Unadvanced funds on commercial lines of credit 824,316 688,116
Unadvanced funds on overdraft lines of credit 85,914 56,632
Standby letters of credit 24,000
--------------------------
$12,728,192 $7,390,019
==========================
</TABLE>
There is no material difference between the notional amount and the
estimated fair value of the off-balance sheet liabilities.
The Company has no derivative financial instruments subject to the
provisions of SFAS No. 119 "Disclosure About Derivative Financial
Instruments and Fair Value of Financial Instruments."
NOTE 13 - EMPLOYMENT AGREEMENTS
- -------------------------------
The Company has employment agreements with its President and Chief Executive
Officer and its Vice President and Treasurer. The employment agreements
generally provide for the continued payment of specified compensation and
benefits for specified periods after termination, unless the termination is
for "cause" as defined in the employment agreements. The employment
agreements provide for the payment, under certain circumstances, of lump-sum
amounts upon termination following a "change in control" as defined in the
Agreements. The employment agreements also provide for lump-sum payments in
the event of the officers' voluntary termination of employment on the
occurrence of certain specified events.
NOTE 14 - COMMITMENTS AND CONTINGENT LIABILITIES
- ------------------------------------------------
The Company is obligated under certain agreements issued during the normal
course of business which are not reflected in the accompanying consolidated
financial statements.
The Company is obligated under a lease agreement covering office space for
its former East Falmouth branch (See Note 5). This agreement is considered
to be an operating lease. The total minimum rental payments due in future
periods under this agreement is as follows as of September 30, 1998:
<TABLE>
<S> <C>
1999 $20,000
2000 20,000
2001 6,667
-------
Total minimum lease payments $46,667
=======
</TABLE>
NOTE 15 - SIGNIFICANT GROUP CONCENTRATIONS OF CREDIT RISK
- ---------------------------------------------------------
Most of the Company's business activity is with customers located within the
state. There are no concentrations of credit to borrowers that have similar
economic characteristics. The majority of the Company's loan portfolio is
comprised of loans collateralized by real estate located in the state of
Massachusetts.
NOTE 16 - EARNINGS PER SHARE (EPS)
- ----------------------------------
Reconciliation of the numerators and the denominators of the basic and
diluted per share computations for net income are as follows:
<TABLE>
<CAPTION>
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ---------
<S> <C> <C> <C>
Year ended September 30, 1998
Basic EPS
Net income and income available to common stockholders $1,185,076 1,375,057 $0.86
Effect of dilutive securities options 36,085
--------------------------
Diluted EPS
Income available to common stockholders and assumed
conversions $1,185,076 1,411,142 $0.84
=======================================
Year ended September 30, 1997 - As restated
Basic EPS
Net income and income available to common stockholders $ 752,085 1,376,193 $0.55
Effect of dilutive securities options 3,636
--------------------------
Diluted EPS
Income available to common stockholders and assumed
conversions $ 752,085 1,379,829 $0.55
=======================================
</TABLE>
NOTE 17 - LIQUIDATION ACCOUNT
- -----------------------------
At the time of conversion to stock form, the Bank established a liquidation
account in an amount equal to the Bank's net worth as of the date of the
latest financial statements included in the final Offering Circular used in
connection with the Conversion. In accordance with Massachusetts statutes,
the liquidation account is maintained for the benefit of Eligible Account
Holders who continue to maintain their accounts in the Bank after the
conversion. The liquidation account is 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, each Eligible
Account Holder is entitled to receive a distribution from the liquidation
account in a proportionate amount to the current adjusted qualifying
balances for the account then held. The balance in the liquidation account
was $1,654,902 as of September 30, 1998.
NOTE 18 - RECLASSIFICATION
- --------------------------
Certain amounts in the prior years have been reclassified to be consistent
with the current year's statement presentation.
NOTE 19 - PARENT COMPANY ONLY FINANCIAL STATEMENTS
- --------------------------------------------------
The following financial statements are presented for Falmouth Bancorp, Inc.
(Parent Company) and should be read in conjunction with the consolidated
financial statements.
FALMOUTH BANCORP, INC.
----------------------
(Parent Company Only)
BALANCE SHEET
-------------
September 30, 1998
------------------
<TABLE>
ASSETS
- ------
<S> <C>
Cash and due from banks $ 36,397
Federal funds sold 1,238,179
-----------
Cash and cash equivalents 1,274,576
Investment in Falmouth Co-Operative Bank 15,163,049
Investments in available-for-sale securities 4,480,245
Investments in held-to-maturity securities 1,207,113
Accrued interest receivable 54,908
Other assets 66,761
Prepaid expenses 14,007
-----------
Total assets $22,260,659
===========
LIABILITIES AND STOCKHOLDERS' EQUITY
- ------------------------------------
Accrued expenses $ 16,591
Other liabilities 2,578
-----------
Total liabilities 19,169
-----------
Stockholders' equity:
Preferred stock, par value $.01 per share; authorized 500,000 shares; none issued
Common stock, par value $.01 per share; authorized 2,500,000 shares;
issued 1,454,750 shares; outstanding, 1,401,784 shares 14,547
Paid-in capital 23,233,025
Unallocated Employee Stock Ownership Plan shares (654,038)
Retained earnings 870,726
Treasury stock (52,966 shares) (952,668)
Unearned compensation (594,417)
Net unrealized holding gain on available-for-sale securities 324,315
-----------
Total stockholders' equity 22,241,490
-----------
Total liabilities and stockholders' equity $22,260,659
===========
</TABLE>
FALMOUTH BANCORP, INC.
----------------------
(Parent Company Only)
STATEMENT OF INCOME
-------------------
Year Ended September 30, 1998
-----------------------------
<TABLE>
<S> <C>
Interest and dividend income:
Interest on taxable investment securities $ 283,474
Interest on loan from subsidiary 33,215
Dividends on Cooperative Bank Investment Fund 178,491
Other interest 20,490
----------
Total interest and dividend income 515,670
----------
Expenses:
Legal and professional fees 66,710
Securities losses, net 53,482
Other expense 30,899
----------
Total expenses 151,091
----------
Income before income tax benefit and equity in undistributed
net income of subsidiary 364,579
Income taxes 149,247
----------
Income before equity in undistributed net income of
subsidiary 215,332
Equity in undistributed net income of subsidiary:
Falmouth Co-Operative Bank 969,744
----------
Net income $1,185,076
==========
</TABLE>
FALMOUTH BANCORP, INC.
----------------------
(Parent Company Only)
STATEMENT OF CASH FLOWS
-----------------------
Year Ended September 30, 1998
-----------------------------
<TABLE>
<S> <C>
Cash flows from operating activities:
Net income $1,185,076
Adjustments to reconcile net income to net cash provided
by operating activities:
Amortization net of accretion 25,485
Undistributed net income of subsidiary (969,744)
Increase in accrued expenses 16,591
Losses on sales of available-for-sale securities 53,482
Increase in prepaid expenses (14,007)
Decrease in interest receivable 13,657
Decrease in other assets (19,613)
Increase in other liabilities 2,578
----------
Net cash provided by operating activities 293,505
----------
Cash flows from investing activities:
Purchases of available-for-sale securities (2,541,391)
Proceeds from sales of available-for-sale securities 3,984,951
Proceeds from maturities of available-for-sale securities 1,000,000
Proceeds from maturities of held-to-maturity securities 1,200,000
Loan granted to ESOP (741,923)
----------
Net cash provided by investing activities 2,901,637
----------
Cash flows from financing activities:
Purchase of stock for RRP (751,433)
Purchases of treasury stock (952,668)
Cash received from subsidiary on reorganization 10,000
Dividends paid (314,350)
Unallocated ESOP shares released 87,885
----------
Net cash used in financing activities (1,920,566)
----------
Net increase in cash and cash equivalents 1,274,576
Cash and cash equivalents at beginning of year 0
----------
Cash and cash equivalents at end of year $1,274,576
==========
Supplemental disclosure:
Securities received from subsidiary on reorganization $9,389,377
</TABLE>
Directors and Officers of Falmouth Bancorp, Inc. and Falmouth Co-operative Bank
Directors
Walter A. Murphy
Chairman of the Board
Retired President, Falmouth Co-operative Bank
Santo P. Pasqualucci
President and Chief Executive Officer
John W. Holland, Jr.
Attorney at Law
James A. Keefe
Principal, Falmouth Ford
Gardner L. Lewis
Retired, Former Owner, The Pancake Man Family Restaurant
John J. Lynch, Jr.
President, Paul Peters Insurance Agency
Ronald L. McLane
Retired building contractor
Eileen C. Miskell, CPA
CPA, Principal and Treasurer, Wood Lumber Company
Robert H. Moore
Agent, Paul Peters Insurance Agency
William E. Newton
Principal, C. H. Newton Builders, Inc.
Armand Ortins
Retired, Former Owner, Ortins Photo Supply
Executive Officers
Santo P. Pasqualucci
President and Chief Executive Officer
George E. Young, III
Vice President, Chief Financial Officer and
Treasurer
Jeanne E. Alves
Secretary
Ronald Garcia
Vice President/Senior Loan Officer
Sharon L. Shoner
Vice President/Audit/Compliance Officer
Corporate Information
Transfer Agent and Registrar
Inquiries regarding stockholder administration and services should be
directed to:
Registrar and Transfer Company
10 Commerce Drive
Cranford, New Jersey 07016-3572
(800) 368-5948
Independent Auditors
Shatswell, MacLeod & Co., P.C.
83 Pine Street
West Peabody, MA 01960-3635
(978) 535-0206
Special Legal Counsel
Thacher Proffitt & Wood
1700 Pennsylvania Avenue, N.W., Suite 800
Washington, D.C. 20006
(202) 347-8400
Stock Information
The Company's Common Stock trades on the American Stock Exchange under the
symbol "FCB." Prices for the stock are reported in the American Stock
Exchange Composite Transactions section of The Wall Street Journal and other
major newspapers as "FalmthBcp."
Investor Relations
Inquiries regarding Falmouth Co-operative Bank and Falmouth Bancorp, Inc.
should be directed to:
Santo P. Pasqualucci
Falmouth Co-operative Bank
20 Davis Straits, P.O. Box 567
Falmouth, MA 02541
(508) 548-3500
Annual Meeting of Stockholders
The Company's Annual Meeting of Stockholders will be held at 3:00 p.m.
Eastern Standard time on Tuesday, January 19, 1999, at the Quality Inn, 921
Jones Road, Falmouth, Massachusetts. Holders of common stock as of December
8, 1998 will be eligible to vote.
FALMOUTH BANCORP, INC.
20 Davis Straits, Falmouth, Massachusetts 02540
508-548-3500
EXHIBIT 23.1
[Letterhead of Shatswell, MacLeod & Company, P.C.]
CONSENT OF INDEPENDENT ACCOUNTANTS
We consent to the incorporation by reference in the registration statement
(No. 333-44837) Form S-8 of Falmouth Bancorp, Inc. of our report dated
October 23, 1998 relating to the consolidated balance sheets of Falmouth
Bancorp, Inc. and Subsidiaries as of September 30, 1998 and 1997, and the
related consolidated statements of income, changes in stockholders' equity
and cash flows for each of the years in the three-year period ended
September 30, 1998, which report is incorporated by reference in the
September 30, 1998 annual report on Form 10-KSB of Falmouth Bancorp, Inc.
/s/ Shatswell, MacLeod & Company, P.C.
SHATSWELL, MacLEOD & COMPANY, P.C.
West Peabody, Massachusetts
December 28, 1998
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
This schedule contains summary financial information extracted from the
consolidated Balance Sheet as of September 30, 1998 and the consolidated
statement of income for the year ended September 30, 1998 for the Company
and is qualified in its entirety by reference to such financial statements.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> SEP-30-1998
<PERIOD-END> SEP-30-1998
<CASH> 1,705,345
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 5,581,233
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 16,923,523
<INVESTMENTS-CARRYING> 7,037,287
<INVESTMENTS-MARKET> 7,078,556
<LOANS> 77,654,939
<ALLOWANCE> 527,437
<TOTAL-ASSETS> 112,792,626
<DEPOSITS> 81,518,767
<SHORT-TERM> 4,248,064
<LIABILITIES-OTHER> 52,815
<LONG-TERM> 4,431,290
0
0
<COMMON> 14,547
<OTHER-SE> 22,226,943
<TOTAL-LIABILITIES-AND-EQUITY> 112,792,626
<INTEREST-LOAN> 5,316,011
<INTEREST-INVEST> 1,666,376
<INTEREST-OTHER> 223,391
<INTEREST-TOTAL> 7,205,778
<INTEREST-DEPOSIT> 2,944,707
<INTEREST-EXPENSE> 3,139,501
<INTEREST-INCOME-NET> 4,066,277
<LOAN-LOSSES> 26,000
<SECURITIES-GAINS> 840,208
<EXPENSE-OTHER> 3,176,560
<INCOME-PRETAX> 1,914,376
<INCOME-PRE-EXTRAORDINARY> 1,914,376
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,185,076
<EPS-PRIMARY> .86
<EPS-DILUTED> .84
<YIELD-ACTUAL> 7.26
<LOANS-NON> 0
<LOANS-PAST> 0
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 501,437
<CHARGE-OFFS> 0
<RECOVERIES> 0
<ALLOWANCE-CLOSE> 527,437
<ALLOWANCE-DOMESTIC> 527,437
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 78,463
</TABLE>
