<PAGE>
As filed with the Securities and Exchange Commission on February 12, 1997.
Registration Statement No. 333-______
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-----------------------
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------------
FLAGSTAR BANCORP, INC.
(Exact Name of Registrant as Specified in Its Charter)
---------------------
Michigan 6035 38-3150651
(State or Other (Primary Standard (I.R.S. Employer
Jurisdiction Industrial Identification Number)
of Incorporation or Classification Code Number)
Organization)
2600 Telegraph Road
Bloomfield Hills, Michigan 48302-0953
(810) 338-7700
(Address, Including Zip Code, and Telephone Number, Including Area Code, of
Registrant's Principal Executive Offices)
Thomas J. Hammond
Chairman of the Board and Chief Executive Officer
Flagstar Bancorp, Inc.
2600 Telegraph Road
Bloomfield Hills, Michigan 48302-0953
(810) 338-7700
(Name, Address, Including Zip Code, and Telephone Number, Including Area Code,
of Agent for Service)
Copies of communication to:
Matthew G. Ash, Esq. Lee Meyerson, Esq.
Edward B. Crosland, Jr., Esq. Andrew Schmolka, Esq.
Paul D. Borja, Esq. Simpson Thacher & Bartlett
Reinhart, Boerner, Van Deuren, Norris & 425 Lexington Avenue
Rieselbach, P.C. New York, NY 10017-3955
601 Pennsylvania Avenue, N.W., Suite (212) 455-3675 (Phone)
750, North (212) 455-2502 (Fax)
Washington, D.C. 20004-2601
(202) 393-3636 (Phone)
(202) 393-0796 (Fax)
Approximate date of commencement of proposed sale to the public: As
soon as practicable after the effective date of this Registration Statement.
If any of the securities being registered on this form are to be
offered on a delayed or continuous basis pursuant to Rule 415 under the
Securities Act of 1933, check the following box. [_]
If this Form is filed to register additional securities for an
offering pursuant to Rule 462(b) under the Securities Act, please check the
following box and list the Securities Act registration statement number of the
earlier effective registration statement for the same offering. [_]
If this Form is a post-effective amendment filed pursuant to Rule
462(c) under the Securities Act, check the following box and list the Securities
Act registration number of the earlier effective registration statement for the
same offering. [_]
If delivery of the prospectus is expected to be made pursuant to
Rule 434, please check the following box. [_]
CALCULATION OF REGISTRATION FEE
================================================================================
<TABLE>
<CAPTION>
Proposed
Maximum Proposed
Amount to Offering Maximum
Title of Each Class of be Price Aggregate Amount of
Securities to be Registered Per Offering Registration
Registered (1) Share (2) Price(2) Fee
- --------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Common Stock, Par Value
$.01 per share $176,000,000 $54,000
================================================================================
</TABLE>
(1) Includes ___________ shares which the Underwriters have the
option to purchase to cover over-allotments, if any.
(2) Estimated solely for purposes of calculating the Registration
Fee pursuant to Rule 457(o) under the Securities Act of 1933,
as amended.
------------
The Registrant hereby amends this Registration Statement on such date
or dates as may be necessary to delay its effective date until the
Registrant shall file a further amendment which specifically states that
this Registration Statement shall thereafter become effective in accordance
with section 8(a) of the Securities Act of 1933 or until the Registration
Statement shall become effective on such date as the Commission, acting
pursuant to said section 8(a), may determine.
- --------------------------------------------------------------------------------
<PAGE>
Subject to Completion, dated ________, 1997
PROSPECTUS 8,050,000 Shares
[COMPANY LOGO]
Common Stock
Of the shares of common stock, par value $0.01 per share (the "Common
Stock"), of Flagstar Bancorp, Inc. (the "Company") offered hereby (the
"Offering"), 2,200,000 shares are being issued and sold by the Company and
5,850,000 shares are being sold by members of the Hammond family (collectively,
the "Selling Stockholders"), who prior to the Offering own 100% of the Company.
The Selling Stockholders include Thomas J. Hammond, the Chairman of the Board
and Chief Executive Officer of the Company, and Mark T. Hammond, the Vice
Chairman and President of the Company. The Company was formerly known as FSSB
Holding Corporation and is the holding company and sole stockholder of Flagstar
Bank, FSB (the "Bank"), which was formerly known as First Security Savings Bank,
FSB. Following the consummation of the Offering, the Selling Stockholders will
own 5,400,000 shares of Common Stock representing 40.15% of the voting power of
the Company, assuming no exercise of the Underwriters' over-allotment option.
See "Selling Stockholders." The Company will not receive any of the proceeds
from the sale of the shares by the Selling Stockholders.
Prior to the Offering, there has been no public market for the Common
Stock. It is currently anticipated that the initial public offering price for
Common Stock will be between $_____ and $_____ per share. See "Underwriting" for
information relating to the factors to be considered in determining the public
offering price. The Company has applied to list the Common Stock for quotation
on the Nasdaq National Market under the symbol "FLGS." There can be no assurance
that such approval will be received or that an active public market will develop
for the Common Stock or, if developed, will be sustained following the Offering.
See "Market for the Common Stock."
At the request of the Company, the Underwriters have reserved up to
800,000 shares of Common Stock for sale at the initial public offering price to
certain employees and customers of the Company and its affiliates. See
"Underwriting."
-------------------
The shares of Common Stock offered hereby involve a degree of risk.
See "Risk Factors" beginning on page _______.
-------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION (THE "COMMISSION"), THE FEDERAL DEPOSIT INSURANCE
CORPORATION (THE "FDIC"), THE OFFICE OF THRIFT SUPERVISION (THE "OTS") OR ANY
STATE SECURITIES COMMISSION, NOR HAS THE COMMISSION, THE FDIC, THE OTS
OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF
THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
THE SHARES OF COMMON STOCK OFFERED HEREBY ARE NOT SAVINGS ACCOUNTS,
DEPOSITS OR OTHER OBLIGATIONS OF A BANK OR SAVINGS ASSOCIATION, AND
ARE NOT INSURED BY THE FDIC OR ANY OTHER GOVERNMENTAL AGENCY.
<TABLE>
<CAPTION>
===============================================================================================================================
Underwriting Proceeds to the Proceeds to Selling
Price to Public Discounts and Company (2) (3) Stockholders (3)
Commissions (1)
- -------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Per Share $ $ $ $
- -------------------------------------------------------------------------------------------------------------------------------
Total (4)...... $ $ $ $
===============================================================================================================================
</TABLE>
(1) The Company and the Selling Stockholders have agreed to indemnify the
Underwriters against certain liabilities, including liabilities under
the Securities Act of 1933. See "Underwriting."
(2) Before deducting offering expenses payable by the Company, estimated to
be $____________.
(3) Pursuant to an agreement among each of the Selling Stockholders and the
Company, the Company has agreed to pay 50% of the Underwriting Discounts
and Commissions in connection with the sale of shares of the Common
Stock in the Offering as well as all other fees and expenses incurred in
connection therewith. See "Selling Stockholders -- Selling Stockholder
Agreement."
(4) The Company and the Selling Stockholders have granted to the
Underwriters a 30-day option to purchase up to an additional 330,000 and
877,500 shares of Common Stock, respectively, on the same terms and
conditions as set forth above to cover over-allotments, if any. If all
such shares of Common Stock are purchased, the total Price to Public,
Underwriting Discounts and Commissions, Proceeds to the Company and
Proceeds to the Selling Stockholders will be $______, $______, $______
and $______, respectively. See "Underwriting."
---------------
The shares of Common Stock offered by this Prospectus are offered by the
Underwriters subject to prior sale, to withdrawal, cancellation or modification
of the offer without notice, to delivery to and acceptance by the Underwriters
and to certain further conditions. It is expected that delivery of certificates
for the shares of Common Stock will be made at the offices of Lehman Brothers
Inc., in New York, New York on or about ______, 1997.
---------------
Lehman Brothers
PaineWebber Incorporated
Roney & Co.
---------------
, 1997
Information contained herein is subject to completion or amendment. A
registration statement relating to these securities has been filed with the
Securities and Exchange Commission. These securities may not be sold nor may
offers to buy be accepted prior to the time the registration statement becomes
effective. This prospectus shall not constitute an offer to sell or the
solicitation of an offer to buy nor shall there be any sale of these securities
in any State in which such offer, solicitiation or sale would be unlawful prior
to registration or qualification under the securities laws of any such State.
<PAGE>
[MAP]
IN CONNECTION WITH THIS OFFERING, THE UNDERWRITERS MAY OVER-ALLOT OR
EFFECT TRANSACTIONS WHICH STABILIZE OR MAINTAIN THE MARKET PRICES OF THE
SECURITIES AT LEVELS ABOVE THOSE WHICH MIGHT OTHERWISE PREVAIL IN THE OPEN
MARKET. SUCH TRANSACTIONS MAY BE EFFECTED ON THE NASDAQ NATIONAL MARKET, THE
OVER-THE-COUNTER MARKET OR OTHERWISE. SUCH STABILIZING, IF COMMENCED, MAY BE
DISCONTINUED AT ANY TIME.
2
<PAGE>
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by, and should be
read in conjunction with the more detailed information, risk factors and
financial statements, including the related notes, appearing elsewhere in the
Prospectus. Unless otherwise indicated, all information in this Prospectus
assumes that the over-allotment option granted to the Underwriters has not been
exercised. Terms used but not defined herein are defined elsewhere in this
Prospectus.
The Company
The Company is a Michigan-based thrift holding company which is one
of the largest originators of conforming single-family mortgage loans in the
United States. Formerly known as FSSB Holding Corporation, the Company is
engaged, through its principal subsidiary, the Bank, in the business of
providing a full range of retail banking services in southern Michigan and in
originating, purchasing and servicing residential mortgage loans on a nationwide
basis. For 1996, the Company ranked third among thrifts in mortgage loan
originations, fourth in the United States in table-funded wholesale mortgage
loan production and fourteenth in total mortgage loan production as reported in
Inside Mortgage Finance, and was the largest privately-owned mortgage originator
in the United States. Prior to this Offering, all of the common stock of the
Company has been owned by the Hammond family, which includes Thomas J. Hammond,
the Chairman, Chief Executive Officer and founder of the Company, and Mark T.
Hammond, the Vice Chairman and President of the Company. At September 30, 1996,
the Company had consolidated total assets of $ 1.1 billion, net loans of $ 903.7
million, total deposits of $ 576.9 million and total stockholders' equity of
$72.8 million. For the nine months ended September 30 1996, the Company's net
earnings were $11.3 million and its return on average assets and return on
average equity were 1.37% and 23.30%, respectively.
The Company currently operates in both the retail banking and mortgage
banking segments, with most of the Company's revenue (net interest income and
non-interest income) and earnings before income taxes attributable to the
mortgage banking segment. The Company believes that its retail banking business
provide it with a strategic advantage because it affords the Company access to
funding sources for its mortgage origination business which would not otherwise
be available. These additional funding sources include low cost retail deposits,
FHLB advances and escrowed funds. The Company benefits as compared to mortgage
originators with no retail banking operations because it has access to a lower
cost of funds and is able to generate greater net interest income. See "The
Company" and "Business."
Retail Banking. Through the Bank (which was formerly known as First
Security Savings Bank, FSB), the Company provides a full range of retail banking
services to consumers and small businesses in southern Michigan. The Bank
operates a network of 15 branches located in counties in southern Michigan,
including Jackson County where it had the third largest market share with 19.8%
of total deposits in 1995. Beginning with the acquisition of Security Savings
Bank, F.S.B. ("Security Savings") and its seven branches in 1994, the Company
has focused on expanding its branch network in these markets in order to
increase its access to retail deposit funding sources. The Company believes that
this also provides a greater opportunity for cross-marketing of consumer banking
services to the Company's mortgage customers in Michigan and for taking
advantage of opportunities that the Company believes exist for community banks
in Michigan as a result of the substantial consolidation that has occurred in
the banking industry. See "Business."
Mortgage Banking. The Company originates residential mortgages through
28 loan centers located in Michigan (23), Ohio (4) and California (1). In
addition, the Company originates mortgage loans on a wholesale basis through a
network of approximately 1,800 independent mortgage brokers nationwide (who
originate such loans using the Company's underwriting systems and standards and
close such loans using funds advanced by the Company). The Company also
purchases mortgage loans on a regular basis from independent mortgage lenders,
commercial banks, savings and loan associations and other financial institutions
with whom the Company has established a correspondent relationship. See
"Business."
3
<PAGE>
During the nine months ended September 30, 1996 and the year ended
December 31, 1995, the Company's mortgage loan production totaled $5.3 billion
and $5.2 billion, respectively. Of these amounts, approximately $4.8 billion was
produced during the nine months ended September 30, 1996 through the Company's
wholesale and correspondent loan production network and $532.0 million was
produced through the Company's retail network ($4.6 billion and $632.7 million,
respectively, during 1995).
The Company sells a substantial portion of its loan production into the
secondary market, principally by securitizing pools of loans through programs
offered by government-sponsored enterprises such as the Federal National
Mortgage Association ("FNMA" or "Fannie Mae") and the Federal Home Loan Mortgage
Corporation ("FHLMC" or "Freddie Mac") and through sales to private investors.
In addition, the Company exchanges loans conforming to the underwriting criteria
of the Federal Housing Authority ("FHA") and the Department of Veterans Affairs
("VA"). Generally, the Company retains a portion of the servicing rights to the
loans that it sells, but also realizes additional income by selling servicing
rights on an individual and a bulk basis to other mortgage servicers. At
September 30, 1996 and December 31, 1995, the Company's loan servicing portfolio
totaled $6.9 billion and $6.8 billion, respectively (net of loans subserviced
for others), substantially all of which related to conventional loans.
The Company makes extensive use of advanced technology and automated
processes in order to enhance the competitiveness and reduce the cost of its
mortgage origination operations. The Company was one of the first mortgage
lenders to utilize video conferencing for loan production. In 1996, the Company
began full-scale operational use of automated underwriting system technologies,
including Fannie Mae's Desktop Underwriter(TM) and Freddie Mac's Loan
Prospector(TM) (of which the Company is currently one of the largest users), and
has combined the two technologies into its LIVE(SM) video conferencing and
underwriting system. The Company believes that the LIVE(SM) system permits a
loan underwriter to interview and complete a loan application and approve a loan
for a prospective borrower in one session during a live video conference,
provides it with a significant competitive edge in writing mortgage loans. The
Company also expects that during 1997, substantially all of its mortgage loan
production will be underwritten using automated systems, which it believes will
further reduce overhead, enhance customer service and facilitate conformity of
the Company's loan production with FHLMC and FNMA underwriting guidelines.
Business Strategy. The Company's strategy consists of the following key
elements:
* continue to expand the Company's branch network into the
demographically desirable communities adjacent to the Company's
current markets (such as Grand Rapids and Kalamazoo, Michigan)
in order to gain access to additional lower-cost retail funding
sources;
* cross-sell retail banking services to the Company's large
Michigan customer base of existing mortgage customers;
* benefit from economies of scale by increasing the size of its
loan servicing portfolio through the continued origination and
purchase of large volumes of mortgage loans on a diversified,
nationwide basis;
* use the additional capital received by the Company from this
Offering to retain more of its mortgage loan production volume
and mortgage servicing rights, thereby increasing net interest
income and servicing income;
* utilize advanced technology and automated processes throughout
the Company's business to improve customer service, reduce costs
of loan production and servicing and increase efficiencies; and
* utilize outsourcing of selected loan servicing and other
functions where cost-effective.
4
<PAGE>
Recent Operating Results. The Company's operations and profitability
have grown significantly over the past five years. Between year-end 1991 and
year-end 1995, the Company's net earnings grew from $3.1 million to $15.5
million, its annual residential mortgage loan production volume grew from $972.7
million to $5.2 billion and its servicing portfolio grew from $1.3 billion to
$6.8 billion (net of loans subserviced for others). For the three years ended
December 31, 1995, 1994 and 1993, the Company reported net earnings of $15.5
million, $16.1 million and $19.0 million, respectively, representing a return on
average equity of 29.42%, 35.78% and 69.56%, respectively, and a return on
average assets of 1.63%, 3.19% and 4.39%, respectively.
For the nine months ended September 30, 1996, the Company reported net
earnings of $11.3 million, compared to $10.7 million for the first nine months
of 1995. Excluding a one-time special assessment by the FDIC of $2.2 million,
after tax, to recapitalize the SAIF deposit insurance fund, the Company's net
earnings for the 1996 period would have been $13.5 million, representing an
increase of 26.2% from the comparable 1995 period. This increase was primarily
due to a 12.9% increase in net interest income, from $20.9 million in the 1995
period to $23.6 million in the 1996 period, an increase in net gain on loan
sales and sales of mortgage servicing rights, from $10.5 million in the 1995
period to $25.5 million in the 1996 period, a 142.9% increase. These increases
were partially offset by an increase in the provision for loan losses, from
$200,000 in the 1995 period to $1.1 million in the 1996 period, and a 59.2%
increase in non-interest expenses, from $29.2 million in the 1995 period to
$46.5 million in the 1996 period.
Historically, the Company has incurred minimal losses from its
residential mortgage loan production. Net charge-offs as a percentage of average
loans outstanding declined from 0.11% in 1991 to 0.00% in 1995, and rose
slightly during the first nine months of 1996 to 0.02%. Over this period,
non-performing assets as a percentage of total assets ranged from 1.68% in 1991
to a low of 0.42% in 1994 and increased to 3.37% at September 30, 1996 (3.16% at
year-end 1996). The 1996 increase resulted primarily from increased repurchases
of delinquent residential mortgage loans from secondary market investors.
Although the Company generally does not sell loans with recourse, it typically
is required to repurchase delinquent and defaulted loans which were not
underwritten strictly in compliance with the underwriting standards of secondary
market investors. As the volume of the Company's new loan production has
increased over the past several years, the level of loan delinquencies and
foreclosures has also increased, thereby increasing the number of loans
potentially subject to repurchase. In addition, during 1996 two of the largest
secondary market purchasers of loans implemented automated underwriting review
systems which enabled them to review delinquent loans on a much faster basis,
thereby accelerating the process of returning to the Company loans originated in
prior periods.
It has been the Company's experience that non-performing loans do not
necessarily result in an ultimate loss to the Company. Approximately 88% of the
Company's non-performing loans at September 30, 1996 were residential mortgage
loans (94% at December 31, 1995), which generally represent minimal risk of
ultimate loss because of low loan-to-value ratios, private mortgage insurance
for loans with over-80% loan-to-value ratios and insurance on certain loans from
the FHA and VA. In addition, the Company may also have the right to sell the
repurchased loan back to the broker or correspondent which originated it, or to
seek indemnity from the applicable mortgage insurance company in the case of
loans which are underwritten on a contract basis for the Company by such
insurers.
The Company anticipates that its level of loan repurchases and
non-performing assets may continue to be above historical levels during 1997 as
a result of the factors described above. As a result of several actions taken by
the Company during 1996, however, including a tightening of credit standards and
the implementation of automated underwriting systems (which do not permit
secondary market investors to require repurchase of loans absent material
misrepresentation), the Company anticipates that the level of loan repurchases
will decline over time.
5
<PAGE>
Management
The Company's senior management team consists of four individuals with
extensive experience in the financial services industry, particularly
residential mortgage loan origination. The Chairman, Chief Executive Officer and
founder, Thomas J. Hammond, has over 29 years of experience in various aspects
of residential lending and has been the Chief Executive Officer of the Bank
since its inception in 1987. Prior to organizing the Bank, Mr. Hammond
organized, owned and managed a series of financial services related companies,
including Hammond Mortgage Corporation, which was sold to Michigan National Bank
in 1981. The President, Mark T. Hammond, has worked in various positions at the
Bank for the past 10 years, including Senior Vice President of the Bank in
charge of secondary marketing and loan production and Executive Vice President
responsible for mortgage operations. Joan H. Anderson, who is Executive Vice
President in charge of mortgage loan servicing, collections and real estate
holdings, has 27 years of banking and mortgage-related experience and has
managed numerous aspects of the Bank's mortgage banking operations since joining
the Bank in 1987. Michael W. Carrie, who is Chief Financial Officer of the Bank,
has 11 years of experience in banking and mortgage lending, both with the Bank
and previously with a major regional federal savings bank.
Following the Offering, Mr. Thomas Hammond will continue to serve in his
present capacity under the terms of a three-year employment agreement to be
entered into with the Company and the Bank. To ensure continuity of senior
management following the Offering, the Company and the Bank will also enter into
employment agreements with each of the other three senior management officers,
each of the Senior Vice Presidents and certain other members of management for
terms of three years, two years and one year, respectively. See "Management."
6
<PAGE>
<TABLE>
<CAPTION>
The Offering
<S> <C>
Common Stock offered by the Company................................... 2,200,000 shares of Common Stock(1)
Common Stock offered by the Selling
Stockholders.......................................................... 5,850,000 shares of Common Stock(1)
Common Stock to be outstanding
immediately after the Offering........................................ 13,450,000 shares of Common Stock(2)
Use of Proceeds....................................................... Substantially all of the net proceeds received by the
Company from the shares it is selling in the Offering will
be contributed to the Bank to be used for general corporate
purposes and to provide additional capital to the Bank to
retain more servicing rights and to grow and expand its
banking operations through the acquisition or establishment
of new branches. The Company will receive none of the
proceeds from the sale of shares of Common Stock by the
Selling Stockholders. See "Use of Proceeds."
Nasdaq National Market Symbol......................................... FLGS
</TABLE>
- ------------------
(1) Excludes up to 330,000 shares and 877,500 shares of Common Stock that
the Underwriters have the option to purchase from the Company and the
Selling Stockholders, respectively, to cover over-allotments, if any.
See "Underwriting."
(2) Excludes shares issuable upon exercise of options to be issued to
employees of the Company. See "Management -- Certain Benefit Plans and
Arrangements -- Stock Option Plan."
Dividend Policy
The Company intends, subject to its capital needs, regulatory
restrictions and other factors that the Company's Board of Directors may deem
relevant, to declare and pay a quarterly dividend of $_____ per share of Common
Stock beginning in 1997. The declaration of dividends by the Company and the
amount thereof, however, will be at the discretion of the Company's Board of
Directors. See "Risk Factors -- Holding Company Structure; Ability to Pay
Dividends" and "Dividend Policy."
Risk Factors
See "Risk Factors" for a discussion of certain material factors that
should be considered in connection with an investment in the Common Stock
offered hereby.
7
<PAGE>
Summary Selected Consolidated Financial and Other Data
The following table presents summary selected consolidated financial and
other data as of and for the nine months ended September 30, 1996 and 1995 and
each of the five years in the period ended December 31, 1995. The information
set forth below should be read in conjunction with the Consolidated Financial
Statements and the Notes thereto and "Management's Discussion and Analysis of
Financial Condition and Results of Operations." The Consolidated Statements of
Financial Condition as of December 31, 1995 and 1994, and the Consolidated
Statements of Earnings for each of the three years in the period ended December
31, 1995, are included elsewhere in this Prospectus. The selected consolidated
financial and other data as of September 30, 1996 and for the nine months ended
September 30, 1996 and 1995 are unaudited and are derived from the Company's
internal consolidated financial statements which, in the opinion of management,
contain all adjustments (consisting only of normal recurring adjustments) which
are necessary for a fair presentation of the results for such periods. The
results of operations for the nine months ended September 30, 1996 are not
necessarily indicative of the results of operations to be obtained for the
entire year.
<TABLE>
<CAPTION>
At or for the Nine Months
Ended September 30, At or for the Years Ended December 31,
----------------------------- -------------------------------------------------------------------
1996 1995 1995 1994 1993 1992 1991
---- ---- ---- ---- ---- ---- ----
Summary of Operations: (In thousands, except per share amounts)
- ---------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Interest income.............. $ 57,679 $ 50,269 $ 71,304 $ 35,112 $ 29,760 $ 18,735 $ 11,928
Interest expense............. 34,121 29,401 41,443 14,486 12,052 9,227 7,385
----------- ------------ ---------- ---------- ------------ ------------ -----------
Net interest income.......... 23,558 20,868 29,861 20,626 17,708 9,508 4,543
Provision for losses......... 1,140 189 238 290 644 380 343
----------- ------------ ---------- ---------- ------------ ------------ -----------
Net interest income after
provision for losses..... 22,418 20,679 29,623 20,336 17,064 9,128 4,200
Non-interest income
Loan administration
income................ 11,110 10,498 14,248 13,261 7,786 2,340 4,058
Net gain on loan sales and
sales of mortgage
servicing rights...... 25,453 10,510 16,228 27,357 20,400 9,921 5,730
Other income.............. 5,271 4,567 6,512 2,114 5,468 6,162 7,371
----------- ------------ ---------- ---------- ------------ ------------ -----------
Total............. 41,834 25,575 36,988 42,732 33,654 18,423 17,159
----------- ------------ ---------- ---------- ------------ ------------ -----------
Non-interest expense
Compensation and
benefits.............. 18,514 11,497 19,665 18,609 7,984 5,184 10,925
Other expense............. 27,980 17,741 22,051 19,010 13,308 7,298 5,653
----------- ------------ ---------- ---------- ------------ ------------ -----------
Total............. 46,494 29,238 41,716 37,619 21,292 12,482 16,578
----------- ------------ ---------- ---------- ------------ ------------ -----------
Earnings before federal
income taxes............. 17,758 17,016 24,895 25,449 29,426 15,069 4,781
Provision for federal
income taxes............. 6,418 6,358 9,419 9,318 10,405 5,275 1,708
----------- ------------ ---------- ---------- ------------ ------------ -----------
Net earnings................. $ 11,340(1) $ 10,658 $ 15,476 $ 16,131 $ 19,021 $ 9,794 $ 3,073
=========== ============ ========== ========== ============ ============ ===========
Per Share Data:
- --------------
Earnings per share........... $ 1.01 $ 0.94 $ 1.37 $ 1.42 $ 1.65 $ 0.85 $ 0.27
Book value per share......... $ 6.47 $ 5.12 $ 5.55 $ 4.37 $ 3.05 $ 1.45 $ 0.67
Weighted average number of
shares outstanding...... 11,250 11,282 11,274 11,389 11,527 11,527 11,527
</TABLE>
(continued)
8
<PAGE>
<TABLE>
<CAPTION>
At September 30, At December 31,
------------------ ----------------------------------------------------------------
1996 1995 1994 1993 1992 1991
---- ---- ---- ---- ---- ----
Summary of Financial Condition: (In thousands)
- ------------------------------
<S> <C> <C> <C> <C> <C> <C>
Total assets............................ $ 1,069,534 $ 1,045,094 $ 723,150 $ 467,629 $ 304,758 $ 174,908
Loans receivable:
Mortgage loans available for sale.... 652,514 620,455 205,480 389,073 218,266 122,437
Loans held for investment............ 254,235 305,580 429,800 26,906 21,637 29,674
Less: Allowance for losses.......... (3,026) (2,102) (1,871) (901) (550) (345)
--------------- ----------- ---------- ----------- ---------- ----------
Total loans, net................ 903,723 923,933 633,409 415,078 239,353 151,766
Mortgage servicing rights............... 41,423 27,957 18,179 17,563 11,108 9,095
Deposits................................ 576,914 526,974 307,624 190,761 181,171 160,842
FHLB advances........................... 199,856 191,156 200,750 55,000 -- --
Stockholders' equity.................... 72,785 62,445 49,419 35,114 16,767 7,723
</TABLE>
9
<PAGE>
<TABLE>
<CAPTION>
At or for the Nine Months Ended
September 30, (7) At or for the Years Ended December 31,
----------------------------- ------------------------------------------------------------------
1996 1995 1995 1994 1993 1992 1991
---- ---- ---- ---- ---- ---- ----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C>
Performance Ratios:
- ------------------
Return on average assets..... 1.37%(1) 1.56% 1.63% 3.19% 4.39% 3.72% 2.83%
Return on average equity..... 23.30%(1) 27.95% 29.42% 35.78% 69.56% 84.78% 58.48%
Interest rate spread......... 2.15% 2.31% 2.36% 3.37% 3.39% 2.04% 3.26%
Net interest margin.......... 3.21% 3.37% 3.46% 4.63% 4.55% 3.92% 3.79%
Ratio of average interest
earning assets to average
interest bearing.......... 123.00% 122.00% 123.00% 139.00% 137.00% 158.00% 119.00%
liabilities................
Ratio of non-interest expense
to average assets......... 5.61%(2) 4.29% 4.39% 7.44% 4.92% 4.71% 11.76%
Efficiency ratio (3)......... 69.6% 60.9% 60.4% 58.3% 41.5% 44.7% 76.4%
Dividend payout ratio........ 8.82% 18.77% 12.92% 2.48% 4.21% 7.66% 22.78%
Asset Quality Data:
- ------------------
Net charge-offs to average
loans outstanding......... 0.02% 0.00% 0.00% 0.08% 0.08% 0.09% 0.11%
Non-performing assets to
total assets at end of period. 3.37% 0.81% 1.25% 0.42% 0.60% 0.94% 1.68%
Non-performing loans to total
loans at end of period.... 3.49% 0.76% 1.15% 0.27% 0.37% 0.85% 1.39%
Allowance for losses to total
loans at end of period.... 0.33% 0.22% 0.23% 0.29% 0.22% 0.23% 0.23%
Allowance for losses to
non-performing loans at end
of period................. 9.56% 29.17% 19.67% 107.59% 58.17% 26.84% 16.27%
Capital Ratios:
- --------------
Tangible Capital............. 5.27% 4.59% 5.19% 5.62% 7.41% 6.29% 4.30%
Core Capital................. 5.82% 5.25% 5.84% 6.77% 7.41% 6.29% 4.30%
Total Risk-based Capital..... 12.04% 9.33% 10.12% 12.23% 13.84% 10.54% 8.60%
Equity-to-assets............. 5.87% 5.59% 5.54% 8.91% 6.32% 5.14% 4.83%
Mortgage Origination and
- ------------------------
Servicing Data:
--------------
Mortgage loans originated or
purchased................. $ 5,283,843 $ 3,439,666 $ 5,195,605 $ 3,720,173 $ 6,220,415 $ 2,984,076 $ 972,737
Mortgage loans sold.......... $ 5,227,183 $ 3,101,256 $ 4,760,806 $ 3,551,319 $ 6,034,828 $ 2,888,564 $ 895,732
Mortgage loans serviced for
others.................... $6,946,080(4) $ 6,044,677(4) $ 6,788,530(4) $ 5,691,421 $ 6,198,311 $ 3,091,399 $1,310,654
Capitalized value of mortgage
servicing rights (5)...... 0.60% 0.38% 0.41%(6) 0.32% 0.28% 0.36% 0.69%
Other Data:
- ----------
Full-time equivalent
employees................. 1,179 1,109 1,142 869 971 584 322
Number of branches........... 15 12 13 9 1 1 1
Number of loan centers....... 28 28 29 30 24 14 13
Number of wholesale/
correspondent lending
centers................. 10 9 9 6 5 4 1
</TABLE>
(footnotes on following page)
10
<PAGE>
(1) Includes the special deposit insurance assessment imposed during the nine
months ended September 30, 1996 by the FDIC on all institutions whose
deposits were insured by the Savings Association Insurance Fund ("SAIF")
on March 31, 1995. See "Regulation and Supervision of the Bank -- Federal
Deposit Insurance." The Bank's assessment was $2.2 million, net of taxes.
If such assessment had not been imposed, the Company's net earnings would
have been approximately $13.5 million for the nine months ended September
30, 1996 and its return on average assets and return on average equity for
the period would have been 1.63% and 27.83%, respectively.
(2) Excluding the special SAIF assessment of $2.2 million, net of taxes,
incurred during the nine months ended September 30, 1996, mentioned in
footnote 1 above, such ratio would have been 5.20%.
(3) Computed as non-interest expense (excluding amortization of core deposit
premiums) divided by the sum of net interest income and non-interest
income. Excluding the special SAIF assessment of $2.2 million, net of
taxes, incurred during the nine months ended September 30, 1996, mentioned
in footnote 1 above, such ratio would have been 64.4% for the nine months
ended September 30, 1996.
(4) Amount excludes loans being subserviced for others, which is servicing of
loans subsequent to the sale of the related mortgage servicing rights but
prior to their delivery, of $2,128,721, $1,047,846 and $536,324 at
September 30, 1996 and 1995 and December 31, 1995, respectively. There was
no subservicing in prior years.
(5) Reflects percentage of book value of mortgage servicing rights to loans
serviced for others (excluding subservicing).
(6) Increase from prior year arises in part from the Company's adoption in May
1995 of Statement of Financial Accounting Standards No. 122, "Accounting
for Mortgage Servicing Rights," which required the capitalization of
mortgage servicing rights arising from loans originated by the Bank as
well as the continued capitalization of mortgage servicing rights
purchased from third parties.
(7) Ratios are annualized where applicable.
11
<PAGE>
Recent Developments
The following table presents selected financial data for the periods
indicated. The selected consolidated financial and other data as of and for the
year ended December 31, 1996 are unaudited and are derived from the Company's
internal consolidated financial statements which, in the opinion of management,
contain all adjustments (consisting only of normal recurring adjustments) which
are necessary for a fair presentation of the results for such periods. The
information set forth below should be read in conjunction with the Consolidated
Financial Statements and the Notes thereto and "Management's Discussion and
Analysis of Financial Condition and Results of Operations" included elsewhere in
this Prospectus.
<TABLE>
<CAPTION>
For the Years Ended December 31,
-----------------------------------------------
1996 1995
---- ----
(In thousands, except per share amounts)
<S> <C> <C>
Summary of Operations:
- ---------------------
Interest income........................................... $ 76,179 $ 71,304
Interest expense.......................................... 45,967 41,443
---------------- ----------------
Net interest income....................................... 30,212 29,861
Provision for losses...................................... 2,604 238
----------------- ----------------
Net interest income after provision for losses............ 27,608 29,623
Non-interest income
Loan administration income........................... 11,859 14,248
Net gain on loan sales and sales of mortgage
servicing rights............................... 39,640 16,228
Other income......................................... 7,034 6,512
---------------- ----------------
Total.......................................... 58,533 36,988
---------------- ----------------
Non-interest expense
Compensation and benefits............................ 25,553 19,665
Other expense........................................ 33,266 22,051
---------------- ----------------
Total.......................................... 58,819 41,716
---------------- ----------------
Earnings before federal income taxes...................... 27,322 24,895
Provision for federal income taxes........................ 10,299 9,419
---------------- ----------------
Net earnings.............................................. $ 17,023(1) $ 15,476
================ ================
Per Share Data:
- --------------
Earnings per share........................................ $ 1.51 $ 1.37
Book value per share...................................... $ 6.98 $ 5.55
Weighted average number of shares outstanding............. 11,250 11,274
</TABLE>
<TABLE>
<CAPTION>
At December 31,
-----------------------------------------------
1996 1995
---- ----
(In thousands)
<S> <C> <C>
Summary of Financial Condition:
- ------------------------------
Total assets.............................................. $ 1,297,390 $ 1,045,094
Loans receivable
Mortgage loans available for sale.................... 840,602 620,455
Loans held for investment............................ 273,734 305,580
Less: Allowance for losses.......................... (3,500) (2,102)
---------------- ----------------
Total loans, net............................... 1,110,836 923,933
Mortgage servicing rights................................. 30,064 27,957
Deposits ............................................... 624,485 526,974
FHLB advances............................................. 389,801 191,156
Total stockholders' equity................................ 78,468 62,445
</TABLE>
- -------------------------------
(1) Including the special SAIF assessment of $2.2 million, net of taxes
incurred in 1996.
12
<PAGE>
<TABLE>
<CAPTION>
At or for the Years Ended December 31,
-----------------------------------------------------
1996 1995
---- ----
(Dollars in thousands)
<S> <C> <C>
Performance Ratios:
- ------------------
Return on average assets........................................ 1.53% 1.63%
Return on average equity........................................ 24.68% 29.42%
Interest rate spread............................................ 2.17% 2.36%
Net interest margin............................................. 3.07% 3.46%
Ratio of average interest earning assets to average
interest bearing liabilities............................... 119.00% 123.00%
Ratio of non-interest expense to average assets................. 5.28% 4.39%
Efficiency ratio(1)............................................. 64.82% 60.4%
Dividend payout ratio........................................... 5.87% 12.92%
Asset Quality Data:
- ------------------
Net charge-offs to average loans outstanding.................... 0.13% 0.00%
Non-performing assets to total assets at end of period.......... 3.16% 1.25%
Non-performing loans to total loans at end of period............ 2.76% 1.15%
Allowance for losses to total loans at end of period............ 0.32% 0.23%
Allowance for losses to non-performing loans at end of period... 11.43% 19.67%
Bank Regulatory Capital Ratios:
- ------------------------------
Tangible capital................................................ 5.57% 5.19%
Core capital.................................................... 5.99% 5.84%
Total risk-based capital........................................ 10.89% 10.12%
Mortgage Origination and Servicing Data:
- ---------------------------------------
Mortgage loans originated or purchased.......................... $ 6,791,665 $ 5,195,605
Mortgage loans sold............................................. $ 6,581,941 $ 4,760,806
Mortgage loans serviced for others.............................. $ 4,801,581(2) $ 6,788,530(2)
Capitalized value of mortgage servicing rights.................. 0.63%(3) 0.41%(3)
</TABLE>
- --------------------------
(1) Excluding the special SAIF assessment of $2.2 million, net of taxes incurred
during 1996, such ratio would have been 60.99%.
(2) Amount excludes subservicing of $ 3,619,373 and $536,324 at December 31,
1996 and 1995, respectively.
(3) Reflects percentage of book value of mortgage servicing rights to loans
serviced for others (excluding subservicing).
Comparison of Results of Operations for the Years Ended December 31,
1996 and 1995. The Company's consolidated net earnings for the year ended
December 31, 1996 were $17.0 million, an increase of $1.5 million, or 9.7%, from
net earnings of $15.5 million for the year ended December 31, 1995. This
increase in net earnings was due primarily to an increase in non-interest income
and net interest income offset in part by an increase in non-interest expense
and the provision for losses. The Company's non-interest income increased $21.5
million, or 58.1%, to $58.5 million for 1996, from $37.0 million for 1995. The
majority of this increase in non-interest income resulted from increased sales
of mortgage servicing rights offset by decreased loan administration income.
Non-interest expense increased in part as a result of an increase in
compensation and benefits of $5.9 million, to $25.6 million for the year ended
December 31, 1996 from $19.7 million for the year ended December 31, 1995. Non-
interest expense also increased due to the special deposit insurance assessment
imposed as of September 30, 1996 by the FDIC on the deposits of all SAIF-insured
institutions. The Bank's assessment was $3.4 million, or $2.2 million, net of
tax. Without this special SAIF assessment the Company's net earnings would have
been $19.2 million for 1996, an increase of $3.7 million, or 23.9%, over net
earnings of $15.5 million for 1995.
13
<PAGE>
RISK FACTORS
In addition to the other information in this Prospectus, the
following factors should be carefully considered before investing in the Common
Stock offered hereby.
The discussion in this Prospectus contains certain forward-looking
statements that involve risks and uncertainties, such as statements of the
Company's plans, objectives, expectations and intentions. The cautionary
statements made in this Prospectus, including the risk factors discussed below,
should be read as being applicable to all related forward-looking statements
wherever they appear in this Prospectus. The Company's actual results could
differ materially from those discussed here. Factors that could cause or
contribute to such differences include those discussed below, as well as those
discussed elsewhere herein or in the documents incorporated by reference herein.
Interest Rate Fluctuations
Changes in interest rates can have a variety of effects on the
Company's business. In particular, changes in interest rates may impact the
volume of mortgage loan originations, the interest spread on mortgage loans held
for sale, the amount of gain or loss on the sale of mortgage loans and servicing
rights and the market value of the Company's servicing portfolio.
During periods of declining interest rates, such as occurred during
1993, the Company typically experiences an increase in mortgage loan
originations, particularly those due to the refinancing of existing mortgages.
An increase in, or stabilization of, interest rates for an extended period of
time would adversely affect refinancing demand which could have an adverse
effect on the Company's loan origination volume.
The Company's net interest income or loss is the difference between
the interest income it earns on the loans it originates or purchases as well as
on other interest-earning assets and the interest expense it pays on its
interest-bearing liabilities to fund such interest-earning assets. The Company
principally funds its interest-earning assets from deposits and borrowings from
the FHLB. The profitability of the Company's mortgage loan originations is in
part a function of the spread between long-term interest rates (the rates on the
loans the Company holds, whether for investment or for sale in the secondary
market) and short-term interest rates (the rates at which the Company funds such
mortgage loans). Since 1994, the Company's interest rate spread has declined
from 3.37% for the year ended December 31, 1994 to 2.15% for the nine months
ended September 30, 1996 in large part because of the decrease in the prevailing
spread between long-term and short-term interest rates. There can be no
assurance that future changes in interest rates will not further decrease this
spread, which may adversely affect the Company's level of net interest income.
In its retail banking operations, the Company is subject to interest
rate risk on loans held in its portfolio arising from mismatches (i.e., the
interest sensitivity gap) between the dollar amount of repricing or maturing
assets and liabilities, which is measured in terms of the ratio of the interest
rate sensitivity gap to total assets. More assets repricing or maturing than
liabilities over a given time frame is considered asset-sensitive and is
reflected as a positive gap, and more liabilities repricing or maturing than
assets over a given time frame is considered liability-sensitive and is
reflected as a negative gap. An asset-sensitive position (i.e., a positive gap)
will generally enhance earnings in a rising interest rate environment and will
negatively impact earnings in a falling interest rate environment. A
liability-sensitive position (i.e., a negative gap) will generally enhance
earnings in a falling interest rate environment and negatively impact earnings
in a falling interest rate environment. Fluctuations in interest rates are not
predictable or controllable. Although the Company has attempted to structure its
asset and liability management strategies to mitigate the impact on net interest
income of changes in market interest rates, there can be no assurance that a
sudden or significant change in prevailing interest rates will not have a
material adverse effect on the Company's operating results. See "Management's
Discussion and Analysis of Results of Operations and Financial Condition --
Asset/Liability Management -- Interest Rate Sensitivity Analysis."
In its mortgage banking operations, the Company is exposed to
interest rate risk from the time the interest rate on a mortgage loan
application is committed to by the Company through the time the Company sells or
commits to sell the mortgage loan. On a daily basis, the Company analyzes
various economic and market factors and, based
14
<PAGE>
upon these analyses, projects the amount of mortgage loans it expects to sell
for delivery at a future date. The actual amount of loans sold will be a
percentage of the number of mortgage loans on which the Company has issued
binding commitments (and thereby locked in the interest rate) but has not yet
closed ("pipeline loans") to actual closings. If interest rates change in an
unanticipated fashion, the actual percentage of pipeline loans that close may
differ from the projected percentage. The resultant mismatching of commitments
to fund mortgage loans and commitments to sell mortgage loans may have an
adverse effect on the results of operations in any such period. For instance, a
sudden increase in interest rates can cause a higher percentage of pipeline
loans to close than projected. To the degree that this is not anticipated, the
Company will not have made commitments to sell these additional pipeline loans
and may incur significant losses upon their sale as the market rate of interest
will be higher than the mortgage interest rate committed to by the Company on
such additional pipeline loans. To the extent that the hedging strategy utilized
by the Company is not successful, the Company's profitability may be adversely
affected. See "Business--Secondary Marketing."
The market value of, and earnings from, the Company's mortgage loan
servicing portfolio may be adversely affected by declines in interest rates. If
mortgage interest rates decline and mortgage loan prepayments therefore increase
due to refinancing activity, the income stream from the Company's current
mortgage loan servicing portfolio may decline. In that case, the Company may be
required to amortize the portfolio more quickly or reduce the carrying value of
its mortgage loan servicing portfolio, which would adversely affect the
Company's operating results and financial condition. See "Business -- Loan
Servicing."
Access to and Cost of Funding Sources
The Company's principal sources of funding for its operations have
been deposits placed with the Bank and, to a lesser extent, borrowings from the
Federal Home Loan Bank of Indianapolis (the "FHLB") and funds held in escrow for
mortgage loan servicing purposes. Historically, the Company's cost of funds
associated with deposits has generally been lower than its cost to borrow from
the FHLB. To the extent the Company is unable to fund its asset growth through
the maintenance and growth of its deposit base, it may have to rely to a greater
extent on borrowings from the FHLB or other sources. If the cost of non-deposit
funds are higher than the cost of deposits placed with the Bank, the Company's
net interest income and profitability would be adversely affected. At September
30, 1996, the Company had a $425.0 million line of credit with the FHLB, of
which, $199.9 million had been drawn and was outstanding.
There can be no assurance that the Company will be successful in
retaining access to funds at the level or cost necessary to continue
originations of single-family mortgage loans at their current volume and level
of profitability. To the extent that the Company is not successful in
maintaining the availability of its current funding sources, by retaining
existing deposits and attracting new deposits and by maintaining its line of
credit with the FHLB, it may have to curtail its origination of single-family
mortgage loans. A reduction in the Company's origination of single-family
mortgage loans could have a material effect on the Company's gain or loss on
mortgage loan sales and on the Company's retention or sale of the underlying
mortgage servicing rights. See "Management's Discussion and Analysis of Changes
in Financial Condition and Results of Operations -- Liquidity and Capital
Resources" and "Business -- Funding."
Access to Secondary Mortgage Market
The ability of the Company to continue the mortgage banking segment
of its operations, which generated a significant portion of the Company's
pre-tax earnings for the nine months ended September 30, 1996, and has
historically generated substantially all of the Company's earnings, is dependent
upon the Company's continued access to an active secondary market in which to
sell its single-family mortgage loans.
The Company currently sells substantially all of the mortgage loans
that it originates through its mortgage banking operations. The Company's
ability to readily sell mortgage loans is dependent upon the availability of an
active secondary market for single-family mortgage loans, which in turn depends
in part upon the continuation of programs currently offered by Fannie Mae,
Freddie Mac and other institutional and non-institutional investors. These
entities account for a substantial portion of the secondary market in
residential mortgage loans. Some of the largest
15
<PAGE>
participants in the secondary market, including Freddie Mac and Fannie Mae, are
government-sponsored enterprises whose activities are governed by federal law.
Any future changes in those laws could limit the activity of such government
sponsored enterprises or change the terms on which they acquire loans, which in
turn could adversely affect the Company's operations. The Company expects that
it will continue to remain eligible to participate in such programs but any
significant impairment of such eligibility could materially and adversely affect
its operations. Further, the criteria for loans to be accepted under such
programs may be changed from time to time by the sponsoring entity. The
profitability of participating in specific programs may vary depending on a
number of factors, including the administrative costs to the Company of
originating and purchasing qualifying loans.
There can be no assurance that the Company will continue to have
ready access to an active secondary market for the sale of its single-family
mortgage loans or that it can continue to originate the types of loans for which
such a market exists. Any significant change in the secondary market level of
activity or underwriting criteria of Fannie Mae, Freddie Mac or other
institutional or non-institutional investors could have a material adverse
effect on the Company's results of operations.
Loan Delinquencies and Defaults on Loans
The Company's profitability may be negatively impacted by economic
downturns as the frequency of loan defaults and the amount of loss on defaulted
loans tend to increase. From the time that the Company funds the mortgage loans
it originates to the time it sells such loans, generally 10 to 40 days, the
Company is at risk for any loan defaults. The Company's exposure to loss as a
result of loan delinquencies may continue even after the Company sells a loan.
Once the Company sells the mortgage loans it originates, the risk of loss from
loan defaults and foreclosure generally passes to the purchaser or insurer of
the loans. In connection with the sale, the Company typically makes certain
representations and warranties to the purchasers and insurers of loans. Such
representations and warranties generally relate to the origination and servicing
of loans in substantial conformance with the laws of the state of origination
and applicable investor guidelines. If a loan defaults and there has been a
breach of these representations and warranties, the Company becomes liable for
the unpaid principal and interest on the defaulted mortgage loan and may be
required to repurchase the loan. Historically, the impact of loans repurchased
by the Company as the result of such breaches of representations and warranties
has not been significant to the Company, although the Company repurchased $42.2
million of mortgage loans during the first nine months of 1996. However, the
number and amount of loans repurchased in the future could increase due to the
high volume of loans which the Company originates, acquires and sells. See
"Business -- Asset Quality."
The Company is also affected by loan delinquencies and defaults on
mortgage loans that it services. Under certain types of servicing contracts, the
servicer must advance all or part of the scheduled payments to the owner of the
loan, even when loan payments are delinquent. Also, to protect their liens on
mortgaged properties, owners of loans usually require the servicer to advance
mortgage and hazard insurance and tax payments on schedule even if sufficient
escrow funds are not available. The servicer will be reimbursed by the mortgage
owner or from liquidation proceeds for payments advanced that the servicer is
unable to recover from the mortgagor, although the timing of such reimbursement
is typically uncertain. In the interim, the servicer must absorb the cost of
funds advanced. Further, the servicer must bear the costs of attempting to
collect on delinquent and defaulted loans. The Company also foregoes servicing
income from the time a loan becomes delinquent until foreclosure when, if any
proceeds are available, such amounts may be recovered.
Loan Concentration
Historically, the Company's single-family mortgage loan portfolio has
been concentrated in certain geographical regions, particularly Michigan, based
upon the location of the property collateralizing the mortgage loan. Because
borrowers of single-family mortgage loans usually reside on the collateral
property, changes in economic and business conditions in the area in which the
property is located can affect the borrower and thus have an effect on the
performance of the loan. As of September 30, 1996, approximately 38.9% of the
Company's single-family mortgage loans held for investment (as measured by
unpaid principal balance) were collateralized by property located in Michigan.
As a result, unfavorable or worsened economic conditions in Michigan could have
a material adverse effect on the Company's financial condition and results of
operations. Although the Company continues to diversify its loan
16
<PAGE>
portfolio geographically to minimize this risk there can be no assurance that
the Company will be successful in this effort. See "Business -- Lending."
In addition to risks associated with a geographic concentration of
its loan portfolio, the Company's results of operations can be affected by the
Company's concentration of credit to particular borrowers. The Company currently
provides warehouse lines of credit ranging up to $5.0 million to certain
mortgage companies. At September 30, 1996, the Company had issued a total of
$71.6 million in such lines of credit, under which $21.9 million in borrowings
was outstanding. Repayment of such loans is primarily dependent upon the
successful operation of the business involved and therefore could be subject to
a greater extent to adverse conditions in the economy. The Company seeks to
minimize these risks by granting warehouse lines of credit generally to
borrowers with which the Company has had substantial favorable business
experience, by monitoring each credit drawdown for prompt repayment and by
requiring collateral with a value in excess of the amount of the outstanding
borrowings. At September 30, 1996, none of these loans were non-performing or
classified.
Seasonality of Business
The mortgage banking industry is generally subject to seasonal
trends. These trends reflect the general national pattern of sales and resales
of homes, although refinancings tend to be less seasonal and more closely
related to changes in interest rates. Sales and resales of homes typically peak
during the spring and summer seasons and decline to lower levels from
mid-November through February. In addition, delinquency rates typically rise in
the winter months, which results in higher servicing costs. See Note 18 of Notes
to the Consolidated Financial Statements.
Expansion of Retail Banking Branches
The Company intends to grow and expand its retail banking services
through the acquisition or establishment of additional Bank branches. This
expansion is expected to be in communities across lower Michigan. If the Company
is unable to generate a customer base within these communities because of
consumer loyalty to other financial institutions or for other reasons, the
Company will have incurred construction or building acquisition costs and
liabilities under lease agreements as well as related branch overhead expenses
without an appropriate return on its investment. See "Business -- Properties"
regarding the company's branch expansion plans.
Dependence on Key Personnel
The growth and development of the Company to date have been largely
dependent on certain key employees, the loss of whom could have a material
adverse effect. The key employees of the Company are Thomas J. Hammond, Chief
Executive Officer; Mark T. Hammond, President; Michael W. Carrie, Executive Vice
President, Treasurer and Chief Financial Officer; and Joan H. Anderson,
Executive Vice President. In connection with the Offering, the Company will
enter into employment agreements with such employees. The Company does not carry
"key person" life insurance on the lives of its officers. See "Management."
Competition
The Company competes in the retail banking business primarily with
commercial banks and thrift institutions, all of which have a substantial
presence in the same markets as the Company. Competitors for deposits include
thrift institutions, commercial banks, credit unions, full service and discount
broker dealers, and other investment alternatives, such as mutual funds, money
market funds, and savings bonds or other government securities. The Company and
its peers compete primarily on price at which products are offered and on
customer service, with the Company generally offering deposit rates above
prevailing market rates. See "Management, Discussion and Analysis of Changes in
Financial Condition and Results of Operations -- Financial Condition." In
addition, the Company offers extended hours in its branches to attract a retail
base of deposits.
The Company competes in the mortgage banking business for mortgage
originations with thrift institutions, banks, insurance companies, and mortgage
companies, many of which operate nationwide mortgage origination
17
<PAGE>
networks similar to that of the Company. Primary competitive factors include
service quality, relationships with builders, mortgage brokers, real estate
brokers and investors, technology, product and rates and fees. Many of the
Company's competitors are, or are affiliated with, organizations with
substantially larger asset and capital bases (including regional and multi-
national banks and bank holding companies). The Company has positioned itself
with a product mix that attracts business from mortgage companies, credit unions
and thrifts which may not have sufficient loan origination volume to obtain
preferential pricing directly in the secondary market.
Holding Company Structure; Ability to Pay Dividends
As a holding company without significant assets other than the
capital stock of the Bank, the Company's ability to pay dividends on the Common
Stock and to meet its other obligations is dependent upon the receipt of
dividends from the Bank on such capital stock. The declaration of dividends by
the Bank on all classes of its capital stock is subject to the discretion of the
Board of Directors of the Bank and to applicable regulatory limitations. At
September 30, 1996, the Bank estimates that it would have at least $8.7 million
available for the payment of dividends to the Company under current OTS
regulations without prior OTS approval. See "Dividend Policy."
Regulation, Possible Changes and Related Matters
The Bank, as a federally chartered savings bank, is subject to
extensive regulation, supervision and examination by the OTS and the FDIC. Such
regulation and supervision establishes a comprehensive framework of activities
in which a savings institution may engage and is intended primarily for the
protection of depositors and the SAIF, which is administered by the FDIC. In
addition, the Company, as a registered savings and loan holding company, is
subject to the regulation and supervision of the OTS. The regulatory structure
also gives the regulatory authorities extensive discretion in connection with
their supervisory and enforcement activities. Any change in such regulation,
whether by the OTS, the FDIC, the Board of Governors of the Federal Reserve
Board (the "Federal Reserve Board") or the U.S. Congress, could have a
significant impact on the Bank and its operations. See "Regulation."
The Company's lending activities, including its mortgage banking
operations, are subject to the rules and regulations of the FHA, VA, Fannie Mae,
Freddie Mac, the Government National Mortgage Association ("GNMA") and other
regulatory agencies with respect to originating, processing, underwriting,
selling, and servicing mortgage loans. In addition, there are other federal and
state statutes and regulations affecting such activities. These rules and
regulations, among other things, impose licensing obligations on the Bank,
prohibit discrimination and establish underwriting guidelines which include
provisions for inspections and appraisals, require credit reports on prospective
borrowers and fix maximum loan amounts. Moreover, lenders such as the Company
are required annually to submit audited financial statements to Fannie Mae,
Freddie Mac, and GNMA and to comply with each regulatory entity's own financial
requirements. The Company's business is also subject to examination by Fannie
Mae, Freddie Mac and GNMA to assure compliance with applicable regulations,
policies and procedures.
Mortgage loan origination activities are subject to the provisions of
various federal and state statutes including, among others, the Equal Credit
Opportunity Act, the Federal Truth-in-Lending Act, the Real Estate Settlement
Procedures Act, the Fair Housing Act, and the regulations promulgated
thereunder, which, among other provisions, prohibit discrimination, prohibit
unfair and deceptive trade practices, and require the disclosure of certain
basic information to mortgagors concerning credit terms and settlement costs,
and otherwise regulate terms and conditions of credit and the procedures by
which credit is offered and administered. Many of the aforementioned regulatory
requirements are designed to protect the interests of consumers, while others
protect the owners or insurers of mortgage loans. Failure to comply with these
requirements can lead to loss of approved status, termination of servicing
contracts without compensation to the services, demands for indemnification or
loan repurchases, class action lawsuits and administrative enforcement actions.
In addition, certain states require that interest be paid to
mortgagors on funds deposited by them in escrow to cover mortgage-related
payments such as property taxes and insurance premiums. Federal legislation has
in the past been introduced that would, if enacted, revise current escrow
regulations and establish a uniform escrow calculation methodology in all
states. If such federal legislation were enacted or if other states enact
legislation relating to
18
<PAGE>
payment of, or increases in the rate of, interest on escrow balances, or if such
legislation were retroactively applied to loans in the Bank's servicing
portfolio, the Bank's earnings would be adversely affected.
In recent years, mortgage originators have been subject to class
action lawsuits which allege violations of federal and state laws and
regulations, including the propriety of collecting and paying various fees and
charges and the calculation of escrow amounts. Class action lawsuits may
continue to be filed in the future against mortgage originators generally. There
can be no assurance that the Company or the Bank will not be the subject of such
lawsuits in the future. In the event of an unfavorable court judgment in such
lawsuits, if any, the Company's results of operations could be adversely
affected. See "Business -- Legal Proceedings."
There are various other state and local laws and regulations
affecting the Company's operations. The Company is licensed in those states that
require licensing to originate, purchase and/or service mortgage loans.
Limitations of Stock Ownership
With certain limited exceptions, federal regulations prohibit a
person or company or a group of persons deemed to be "acting in concert" from,
directly or indirectly, acquiring more than 10% of any class of voting stock or
obtaining the ability to control in any manner the election of a majority of the
directors or otherwise direct the management or policies of a savings
institution, such as the Bank, without prior notice or application to and the
approval of the OTS. See "Regulation -- Regulation and Supervision of the
Company."
Concentration of Stock Ownership
Immediately following the Offering, the Selling Stockholders will own
40.15% of the outstanding shares of Common Stock, or approximately 32.8% if the
Underwriters exercise the over-allotment option in full. Accordingly, following
completion of the Offering, the Selling Stockholders will continue to hold, in
the aggregate, a significant ownership interest in the Company and therefore be
able to control or substantially influence the election of the Board of
Directors and thus be able to direct the Company's affairs, including decisions
regarding acquisitions and other business opportunities, the declaration of
dividends and the issuance of additional shares of Common Stock and other
securities, notwithstanding their ownership of less than a majority of the
outstanding shares of Common Stock.
Dilution
Purchasers of Common Stock in the Offering will experience immediate
and substantial dilution, and present stockholders will receive a substantial
increase in the book value of their shares of Common Stock. See "Dilution."
No Prior Public Market; Possible Stock Price Volatility
Prior to the Offering, there has been no public market for the Common
Stock. There can be no assurance that an active trading market will develop or
that purchasers of the Common Stock will be able to resell their Common Stock at
prices equal to or greater than the initial public offering price, which was
determined through negotiations between the Company and the representatives of
the Underwriters and may not reflect the market price of the Common Stock after
the Offering. The development of a public market having the desirable
characteristics of depth, liquidity and orderliness depends upon the presence in
the marketplace of a sufficient number of willing buyers and sellers at any
given time, over which none of the Company, the Bank or any market maker has any
control. Accordingly, there can be no assurance that an established and liquid
market for the Common Stock will develop or be maintained or that, assuming the
Company receives approval for quotation of the Common Stock on the Nasdaq
National Market, such quotations will be available. The market price of the
Common Stock could be subject to significant fluctuations in response to the
Company's operating results and other factors. In addition, the stock market in
recent years has experienced extreme price and volume fluctuations that often
have been unrelated or disproportionate to the operating performance of
individual companies. Such fluctuations, and general economic and market
conditions, may adversely affect the market price of the Common Stock. See
"Market for the Common Stock" and "Underwriting."
19
<PAGE>
Shares Eligible for Future Sale
If the Underwriters do not exercise the over-allotment option, then
the Company will have 13,450,000 shares of Common Stock outstanding immediately
following consummation of the Offering, of which 5,400,000 shares, representing
approximately 40.15% of the outstanding shares of Common Stock, will be owned by
the Selling Stockholders, and will have reserved an additional 1,345,000 of
Common Stock for issuance pursuant to employee stock option plans. Of the
then-outstanding shares, the 8,050,000 shares of Common Stock offered hereby
will be freely tradable by non-affiliates of the Company without restriction or
registration under the Securities Act of 1933, as amended (the "Securities
Act"). All of the remaining 5,400,000 shares of capital stock held by the
Selling Stockholders are "restricted securities" as that term is defined in Rule
144 promulgated under the Securities Act. None of such securities will be
eligible for sale under Rule 144 before _________, 1999; provided however that
holders thereof have registration rights which entitle them to require, under
certain circumstances, that the Company register their shares for sale to the
public at an earlier date. Further, the Company and the Selling Stockholders
have agreed not to sell any shares of such stock or any rights to acquire such
stock for a period of at least 180 days following the date of this Prospectus
without the consent of the Underwriters. See "Selling Stockholders" and
"Underwriting." Following this Offering, sales of substantial amounts of the
Common Stock in the public market, whether under Rule 144 or otherwise, or the
potential for such sales, could adversely affect the prevailing market prices
for the Company's Common Stock and impair the Company's ability to raise capital
through the sale of additional equity securities.
Anti-Takeover Provisions
The Articles of Incorporation and Bylaws of the Company and
applicable provisions of the Michigan Business Corporation Act, contain several
provisions that may make more difficult the acquisition of control of the
Company without the approval of the Board of Directors. Certain provisions of
the Articles of Incorporation, among other things, (i) authorize the issuance of
additional shares of Common Stock and serial preferred stock; (ii) classify the
Board of Directors into three classes, each of which will serve for staggered
three year periods; (iii) provide that a director of the Company may be removed
by the stockholders only for cause; (iv) provide that only the Board of
Directors or Chairman of the Board of the Company may call special meetings of
the stockholders; (v) provide that the stockholders may take action only at a
meeting of the stockholders; (vi) provide that the stockholders must comply with
certain advance notice procedures in order to nominate candidates for director
to the Board of Directors or to place stockholders' proposals on the agenda for
communication at stockholders meetings; and (vii) provide that the stockholders
may amend or repeal any of the foregoing provisions of the Articles of
Incorporation or Bylaws only by a vote of 80% of the stock entitled to vote
generally in the election of directors. In addition, the Company is subject to
various anti-takeover provisions under the Michigan Business Corporation Act.
See "Restrictions on Acquisition of the Company."
20
<PAGE>
THE COMPANY
The Company is a Michigan-based thrift holding company which is one
of the largest originators of conforming single-family mortgage loans in the
United States. Formerly known as FSSB Holding Corporation, the Company is
engaged, through its principal subsidiary, the Bank, in the business of
providing a full range of retail banking services in southern Michigan and in
originating, purchasing and servicing residential mortgage loans on a nationwide
basis. For 1996, The Company ranked third among thrifts in mortgage loan
originations, fourth in the United States in wholesale mortgage loan production
and fourteenth in total mortgage loan production, as reported in Inside Mortgage
---------------
Finance, and was the largest privately- owned mortgage originator in the United
- -------
States. Prior to this Offering, all of the common stock of the Company has been
owned by the Hammond family, which includes Thomas J. Hammond, the Chairman,
Chief Executive Officer and founder of the Company, and Mark T. Hammond, the
Vice Chairman and President of the Company. At September 30, 1996, the Company
had consolidated total assets of $ 1.1 billion, net loans of $ 903.7 million,
total deposits of $576.9 million and total stockholders' equity of $ 72.8
million.
The principal executive offices of the Company and the Bank are
located at 2600 Telegraph Road, Bloomfield Hills, Michigan, 48302 and their
telephone number is (810) 338-7700.
USE OF PROCEEDS
The net proceeds to the Company from the Offering (after deduction of
the underwriting discounts and commissions and estimated offering expenses) are
estimated to be approximately $____ million, assuming an initial public offering
price at the mid-point of the range set forth on the cover of this Prospectus
($___ per share) and assuming that the Underwriters' over-allotment option is
not exercised. The Company will not receive any of the proceeds from the sale of
Common Stock by the Selling Stockholders. Substantially all of the net proceeds
received by the Company from the shares of Common Stock it is selling in the
Offering will be contributed to the capital of the Bank to be used for general
corporate purposes and to provide additional capital to the Bank to support
growth in its businesses, including expansions in mortgage originations and in
its loan servicing portfolio and expansions in its banking operations through
the acquisition or establishment of new branches. See "Business -- Properties"
regarding the Company's branch expansion plans and "Business -- General."
DIVIDEND POLICY
The Company intends to declare and pay quarterly dividends on its
Common Stock. It is expected that the quarterly dividend payment will be $___
per share (a rate of $___ annually), with the initial dividend to be declared
and paid in 1997. The declaration and payment of dividends by the Company are
subject to the discretion of the Board of Directors and will depend upon levels
of indebtedness, future earnings, capital requirements, the operating and
financial condition of the Company and its subsidiaries, and general business
conditions, as well as other factors that the Board of Directors considers
relevant. As a holding company, the Company's principal source of funds for the
payment of dividends will be dividends received from the Bank, which are subject
to certain regulatory restrictions. See "Regulation."
MARKET FOR THE COMMON STOCK
The Company's outstanding shares of Common Stock are currently held
solely by the Selling Stockholders and, prior to the Offering, there has been no
market for its capital stock. The Company has applied to list the Common Stock
for quotation on the Nasdaq National Market under the symbol "FLGS." There can
be no assurance that such approval will be received. The Company will seek to
encourage and will assist at least two market makers to establish and maintain a
market in the Common Stock in order to fulfill the requirements for having the
Common Stock quoted on the Nasdaq National Market. However, there can be no
assurance that an active and liquid trading market for the Common Stock will
develop or, if developed, will be sustained following the Offering.
21
<PAGE>
CAPITALIZATION
The following table sets forth (a) the historical capitalization of the
Company at September 30, 1996 and (b) the adjusted capitalization of the Company
at September 30, 1996 after giving effect to the Offering. The net proceeds to
the Company from the Offering (after deduction of the underwriting discounts and
commissions and estimated offering expenses) are estimated to be approximately
$_____ million, assuming an initial public offering price at the mid-point of
the range set forth on the cover of this Prospectus ($_________) and assuming
that the Underwriters' over-allotment option is not exercised. The Company will
not receive any of the proceeds from the sale of Common Stock by the Selling
Stockholders. See "Selling Stockholders."
<TABLE>
<CAPTION> At September 30, 1996
-----------------------------------------
Historical As Adjusted
---------- -----------
(Dollars in thousands)
<S> <C> <C>
Long-term debt (1)...................................................... $ 13,500 $
------------ -------------
Stockholders' Equity:
Common Stock......................................................... 112 (2)
Preferred Stock...................................................... --
Additional paid-in capital........................................... 2,816 (3)
Retained earnings.................................................... 69,857
------------ -------------
Total stockholders' equity........................................ 72,785
------------ -------------
Total capitalization.................................... $ 86,285 $
============= =============
Ratio of equity to assets............................................... 6.81% %
Ratio of tangible equity to tangible assets............................. 6.27% %
Regulatory capital ratios of the Bank:
Tangible Capital..................................................... 5.27% %
Core Capital......................................................... 5.82% %
Total Risk-Based Capital(4).......................................... 12.04% %
Shares outstanding...................................................... 11,250,000
Book value per common share............................................. $ 6.47 $
Tangible book value per share........................................... $ 5.93 $
</TABLE>
- -----------------
(1) Reflects FHLB advances maturing more than one year from September 30,
1996.
(2) The Company has reserved 1,345,000 shares of its Common Stock for
issuance and to be available for grants under certain compensation
plans. See "Management."
(3) Offering expenses are expected to be approximately $____________
million.
(4) Reflects a risk-weighting of 50% for net proceeds from the Offering
because of an assumed investment in single-family mortgage loans.
22
<PAGE>
DILUTION
The net tangible book value of the Company's Common Stock as of
September 30, 1996 was approximately $__________ million or $_____ per share.
Net tangible book value per share represents the amount of total tangible
assets less total liabilities, divided by the number of shares of Common
Stock outstanding.
Dilution per share to new investors purchasing Common Stock in the
Offering represents the difference between the amount per share paid and the
net tangible book value per share of Common Stock immediately after the
Offering. Shares used in the computation of per share amounts below include
11,250,000 shares outstanding immediately prior to the Offering and
2,200,000 shares to be issued by the Company in the Offering. After giving
effect to the sale of 2,200,000 shares of Common Stock offered by the Company
hereby and assuming no exercise of the over-allotment option by the
Underwriters and an initial public offering price at the mid-point of the
range set forth on the cover of this Prospectus ($___________) (after
deducting the underwriting discount and estimated Offering expenses), the
pro forma net tangible book value of the Company as of September 30, 1996
would have been $__________ million or $_________ per share,representing an
immediate increase in net tangible book value of $_____________ per share of
existing stockholders and an immediate dilution of $___________ per
share to new investors purchasing shares at the estimated public offering
price. The following table illustrates this per share dilution.
<TABLE>
<CAPTION>
<S> <C> <C>
Estimated public offering price per share (1)......................................... $
Net tangible book value per share before the Offering (2)......................... $ $
Increase in net tangible book value per share
attributable to new investors................................................. -------
Pro forma net tangible book value per share after the Offering........................ $
-------
Dilution per share to new investors .................................................. $
=======
</TABLE>
________________
(1) Before deducting estimated underwriting discounts and commissions and
estimated expenses of the Offering payable by the Company.
(2) Includes mortgage servicing rights and excludes core deposit intangibles.
See Notes 3 and 15 of Notes to Consolidated Financial Statements.
The following table sets forth on a pro forma basis at September 30,
1996 the number of shares of Common Stock purchased from the Company (assuming
no exercise of the Underwriter's over-allotment option), the total consideration
paid to the Company and the average price per share paid by the existing
stockholders in 1987 and new investors purchasing shares of Common Stock in the
Offering, assuming a public offering price of $_____ per share.
<TABLE>
<CAPTION>
Shares Owned After
the Public Offering Total Consideration Average Price
------------------- -------------------
Number Percent Amount Percent Per Share
------ ------- ------ ------- ---------
<S> <C> <C> <C> <C> <C>
Existing stockholders % $ % $
New investors % $ % $
----------- ------ ----------- ------
Total 100.00% $ 100.00%
=========== ====== =========== ======
</TABLE>
23
<PAGE>
SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA
The following selected consolidated financial and other data as of
and for each of the five years in the period ended December 31, 1995 are derived
from the Company's audited consolidated financial statements. The information
set forth below should be read in conjunction with the Consolidated Financial
Statements and the Notes thereto and "Management's Discussion and Analysis of
Financial Condition and Results of Operations." The Consolidated Statements of
Financial Condition as of December 31, 1995 and 1994, and the Consolidated
Statements of Earnings for each of the three years in the period ended December
31, 1995, are included elsewhere in this Prospectus. The selected consolidated
financial and other data as of September 30, 1996 and for the nine months ended
September 30, 1996 and 1995 are derived from the Company's internal consolidated
financial statements which, in the opinion of management, contain all
adjustments (consisting only of normal recurring adjustments) which are
necessary for a fair presentation of the results for such periods. The results
of operations for the nine months ended September 30, 1996 are not necessarily
indicative of the results of operations to be obtained for the entire year.
<TABLE>
<CAPTION>
At or for the Nine Months
Ended September 30, At or for the Years Ended December 31,
------------------------------ -----------------------------------------------------------------
1996 1995 1995 1994 1993 1992
---- ---- ---- ---- ---- ----
Summary of Operations: (In thousands, except per share amounts)
- ---------------------
<S> <C> <C> <C> <C> <C> <C>
Interest income............ $ 57,679 $ 50,269 $ 71,304 $ 35,112 $ 29,760 $ 18,735
Interest expense........... 34,121 29,401 41,443 14,486 12,052 9,227
------------ ------------ ------------ ------------ ------------ ------------
Net interest income........ 23,558 20,868 29,861 20,626 17,708 9,508
Provision for losses....... 1,140 189 238 290 644 380
------------ ------------ ------------ ------------ ------------ ------------
Net interest income after
provision for losses.... 22,418 20,679 29,623 20,336 17,064 9,128
Non-interest income
Loan administration
income................ 11,110 10,498 14,248 13,261 7,786 2,340
Net gain on loan sales and
sales of mortgage
servicing rights...... 25,453 10,510 16,228 27,357 20,400 9,921
Other income.............. 5,271 4,567 6,512 2,114 5,468 6,162
------------ ------------ ------------ ------------ ------------ ------------
Total...................... 41,834 25,575 36,988 42,732 33,654 18,423
------------ ------------ ------------ ------------ ------------ ------------
Non-interest expense
Compensation and
benefits.............. 18,514 11,497 19,665 18,609 7,984 5,184
Other expense........... 27,980 17,741 22,051 19,010 13,308 7,298
------------ ------------ ------------ ------------ ------------ ------------
Total........... 46,494 29,238 41,716 37,619 21,292 12,482
------------ ------------ ------------ ------------ ------------ ------------
Earnings before federal
income taxes............ 17,758 17,016 24,895 25,449 29,426 15,069
Provision for federal income
taxes................... 6,418 6,358 9,419 9,318 10,405 5,275
------------ ------------ ------------ ----------- ------------ -----------
Net earnings............... $ 11,340(1) $ 10,658 $ 15,476 $ 16,131 $ 19,021 $ 9,794
============ ============ ============ =========== ============ ===========
Per Share Data:
- --------------
Earnings per share......... $ 1.01 $ 0.94 $ 1.37 $ 1.42 $ 1.65 $ 0.85
Book value per share....... $ 6.47 $ 5.12 $ 5.55 $ 4.37 $ 3.05 $ 1.45
Weighted average number of
shares outstanding...... 11,250 11,282 11,274 11,389 11,527 11,527
<CAPTION>
1991
----
<S> <C>
Summary of Operations:
- ---------------------
Interest income............ $ 11,928
Interest expense........... 7,385
------------
Net interest income........ 4,543
Provision for losses....... 343
------------
Net interest income after
provision for losses.... 4,200
Non-interest income
Loan administration
income................ 4,058
Net gain on loan sales and
sales of mortgage
servicing rights...... 5,730
Other income............... 7,371
------------
Total...................... 17,159
Non-interest expense
Compensation and
benefits.............. 10,925
Other expense........... 5,653
------------
Total........... 16,578
------------
Earnings before federal
income taxes............ 4,781
Provision for federal income
taxes................... 1,708
------------
Net earnings............... $ 3,073
============
Per Share Data:
- --------------
Earnings per share......... $ 0.27
Book value per share....... $ 0.67
Weighted average number of
shares outstanding...... 11,527
</TABLE>
(continued)
24
<PAGE>
<TABLE>
<CAPTION>
At September 30, At December 31,
-------------------------------------------------------------------
1996 1995 1994 1993 1992 1991
------------------ ---- ---- ---- ---- ----
Summary of Financial Condition: (In thousands)
- ------------------------------
<S> <C> <C> <C> <C> <C> <C>
Cash and cash equivalents.............. $ 29,374 $ 29,119 $ 25,656 $ 8,386 $ 38,016 $ 7,907
Loans receivable:
Mortgage loans available for sale... 652,514 620,455 205,480 389,073 218,266 122,437
Loans held for investment:
Mortgage loans................... 119,601 178,246 354,101 -- -- --
Commercial real estate loans..... 14,288 30,504 23,383 864 1,199 849
Commercial loans................. 26,268 8,566 7,546 6,167 239 --
Construction loans............... 60,960 48,933 25,499 19,864 20,181 28,795
Consumer loans................... 33,118 39,331 19,271 11 18 30
---------------- ------------- ------------ ----------- ----------- -----------
254,235 305,580 429,800 26,906 21,637 29,674
Less: Allowance for losses......... (3,026) (2,102) (1,871) (901) (550) (345)
---------------- ------------- ------------ ----------- ----------- -----------
Total loans, net................. 903,723 923,933 633,409 415,078 239,353 151,766
---------------- ------------- ------------ ----------- ----------- -----------
Mortgage servicing rights.............. 41,423 27,957 18,179 17,563 11,108 9,095
Other assets........................... 95,014 64,085 45,906 26,602 16,281 6,140
---------------- ------------- ------------ ----------- ----------- -----------
Total assets........... $ 1,069,534 $ 1,045,094 $ 723,150 $ 467,629 $ 304,758 $ 174,908
================ ============= ============ =========== =========== ===========
Deposits $ 576,914 $ 526,974 $ 307,624 $ 190,761 $ 181,171 $ 160,842
FHLB advances.......................... 199,856 191,156 200,750 55,000 -- --
Other liabilities...................... 219,979 264,519 165,357 186,754 106,820 6,343
---------------- ------------- ------------ ----------- ----------- -----------
Total liabilities................... 996,749 982,649 673,731 432,515 287,991 167,185
Stockholders' equity................ 72,785 62,445 49,419 35,114 16,767 7,723
---------------- ------------- ------------ ----------- ----------- -----------
Total liabilities and
stockholders' equity... $ 1,069,534 $ 1,045,094 $ 723,150 $ 467,629 $ 304,758 $ 174,908
================ ============= ============ =========== =========== ===========
</TABLE>
25
<PAGE>
<TABLE>
<CAPTION>
At or for the
Nine Months Ended
September 30, (7) At or for the Years Ended December 31,
--------------------------- ----------------------------------------------------
1996 1995 1995 1994 1993
---- ---- ---- ---- ----
Performance Ratios: (Dollars in thousands)
- ------------------
<S> <C> <C> <C> <C> <C>
Return on average assets......... 1.37%(1) 1.56% 1.63% 3.19% 4.39%
Return on average equity......... 23.30%(1) 27.95% 29.42% 35.78% 69.56%
Interest rate spread............. 2.15% 2.31% 2.36% 3.37% 3.39%
Net interest margin.............. 3.21% 3.37% 3.46% 4.63% 4.55%
Ratio of average interest earnings
assets to average interest
bearing liabilities........... 123.00% 122.00% 123.00% 139.00% 137.00%
Ratio of non-interest expense
to average assets............. 5.61%(2) 4.29% 4.39% 7.44% 4.92%
Efficiency ratio(3).............. 69.6% 60.9% 60.4% 58.3% 41.5%
Dividend payout ratio............ 8.82% 18.77% 12.92% 2.48% 4.21%
Asset Quality Data:
- ------------------
Net charge-offs to average loans
outstanding................... 0.02% 0.00% 0.00% 0.08% 0.08%
Non-performing assets to total
assets at end of period....... 3.37% 0.81% 1.25% 0.42% 0.60%
Non-performing loans to total
loans at end of period........ 3.49% 0.76% 1.15% 0.27% 0.37%
Allowance for losses to total
loans at end of period........ 0.33% 0.22% 0.23% 0.29% 0.22%
Allowance for losses to
non-performing loans at end
of period..................... 9.56% 29.17% 19.67% 107.59% 58.17%
Non-performing loans............. $ 31,651 $ 7,145 $ 10,686 $ 1,739 $ 1,549
Real estate owned................ $ 4,373 $ 1,538 $ 2,359 $ 1,271 $ 1,249
Capital Ratios:
- --------------
Tangible Capital................. 5.27% 4.59% 5.19% 5.62% 7.41%
Core Capital..................... 5.82% 5.25% 5.84% 6.77% 7.41%
Total Risk-based Capital......... 12.04% 9.33% 10.12% 12.23% 13.84%
Equity-to-assets................. 5.87% 5.59% 5.54% 8.91% 6.32%
Mortgage origination
- --------------------
and servicing data:
------------------
Loans originated or purchased:
Single-family mortgage loans:
Retail..................... $ 531,975 $ 452,647 $ 632,696 $ 705,723 $ 1,342,889
Wholesale.................. 4,417,693 2,987,019 4,562,909 3,014,450 4,877,526
Correspondent.............. 334,175 -- -- -- --
---------- ---------- ----------- ----------- -----------
Total.................... 5,283,843 3,439,666 $ 5,195,605 3,720,173 6,220,415
Other loans................... 104,438 120,636 162,137 94,671 33,780
---------- ---------- ----------- ----------- -----------
Total............... $5,388,281 $3,560,302 $ 5,357,742 $ 3,814,844 $ 6,254,195
========== ========== =========== =========== ===========
Mortgage loans sold.............. $5,227,183 $3,101,256 $ 4,760,806 $ 3,551,319 $ 6,034,828
Mortgage loans serviced
for others.................... $6,946,080(4) $6,044,677(4) $ 6,788,530(4) $ 5,691,421 $ 6,198,311
Capitalized value of mortgage
servicing rights(5)........... 0.60% 0.38% 0.41%(6) 0.32% 0.28%
Other Data:
- ----------
Full-time equivalent
employees..................... 1,179 1,109 1,142 869 971
Number of branches............... 15 12 13 9 1
Number of loan centers........... 28 28 29 30 24
Number of wholesale/
correspondent lending
centers....................... 10 9 9 6 5
</TABLE>
<TABLE>
<CAPTION>
At or for the Years Ended December 31,
-------------------------------------
1992 1991
---- ----
(Dollars in thousands)
Performance Ratios:
- ------------------
<S> <C> <C>
Return on average assets......... 3.72% 2.83%
Return on average equity......... 84.78% 58.48%
Interest rate spread............. 2.04% 3.26%
Net interest margin.............. 3.92% 3.79%
Ratio of average interest earning
assets to average interest
bearing liabilities........... 158.00% 119.00%
Ratio of non-interest expense
to average assets............. 4.71% 11.76%
Efficiency ratio(3).............. 44.7% 76.4%
Dividend payout ratio............ 7.66% 22.78%
Asset Quality Data:
- ------------------
Net charge-offs to average loans
outstanding................... 0.09% 0.11%
Non-performing assets to total
assets at end of period....... 0.94% 1.68%
Non-performing loans to total
loans at end of period........ 0.85% 1.39%
Allowance for losses to total
loans at end of period........ 0.23% 0.23%
Allowance for losses to
non-performing loans at end
of period..................... 26.84% 16.27%
Non-performing loans............. $ 2,049 $ 2,120
Real estate owned................ $ 802 $ 826
Capital Ratios:
- --------------
Tangible Capital................. 6.29% 4.30%
Core Capital..................... 6.29% 4.30%
Total Risk-based Capital......... 10.54% 8.60%
Equity-to-assets................. 5.14% 4.83%
Mortgage origination
- --------------------
and servicing data:
------------------
Loans originated or purchased:
Single-family mortgage loans:
Retail..................... $ 1,018,388 $ 437,455
Wholesale.................. 1,965,688 535,282
Correspondent.............. -- --
----------- -----------
Total.................... 2,984,076 972,737
Other loans................... 30,538 35,296
----------- -----------
Total............... $ 3,014,614 $ 1,008,033
=========== ===========
Mortgage loans sold.............. $ 2,888,564 $ 895,732
Mortgage loans serviced
for others.................... $ 3,091,399 $ 1,310,654
Capitalized value of mortgage
servicing rights(5)........... 0.36% 0.69%
Other Data:
- ----------
Full-time equivalent
employees..................... 584 322
Number of branches............... 1 1
Number of loan centers........... 14 13
Number of wholesale/
correspondent lending
centers....................... 4 1
</TABLE>
(footnotes on following page)
26
<PAGE>
- ------------------
(1) Includes the special deposit insurance assessment imposed during the nine
months ended September 30, 1996 by the FDIC on all institutions whose
deposits were insured by the SAIF on March 31, 1995. See "Regulation and
Supervision of the Bank -- Federal Deposit Insurance." The Bank's assessment
was $2.2 million, net of taxes. If such assessment had not been imposed, the
Company's net earnings would have been approximately $13.5 million for the
nine months ended September 30, 1996 and its return on average assets and
return on average equity for the period would have been 1.63% and 27.83%,
respectively.
(2) Excluding the special SAIF assessment of $2.2 million, net of taxes,
incurred during the nine months ended September 30, 1996, mentioned in
footnote 1 above, such ratio would have been 5.20%.
(3) Computed as non-interest expense (excluding amortization of core deposit
premiums) divided by the sum of net interest income and non-interest income.
Excluding the special SAIF assessment of $2.2 million, net of taxes,
incurred during the nine months ended September 30, 1996, mentioned in
footnote 1 above, such ratio would have been 64.4% for the nine months ended
September 30, 1996.
(4) Amount excludes loans being subserviced for others, which is servicing of
loans subsequent to the sale of the related mortgage servicing rights but
prior to their delivery, of $2,128,721, $1,047,846 and $536,324 at September
30, 1996 and 1995 and December 31, 1995, respectively. There was no
subservicing in prior years.
(5) Reflects percentage of book value of mortgage servicing rights to loans
serviced for others (excluding subservicing).
(6) Increase from prior year arises in part from the Company's adoption in May
1995 of Statement of Financial Accounting Standards No. 122, "Accounting for
Mortgage Servicing Rights," which required the capitalization of mortgage
servicing rights arising from loans originated by the Company as well as the
continued capitalization of rights purchased from third parties.
(7) Ratios are annualized where applicable.
27
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF CHANGES IN FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
General
The Company serves as the holding company of the Bank and its other
subsidiaries. The Company operates in two business segments, mortgage banking
and retail banking. The mortgage banking segment involves the origination and
purchase of single-family residential mortgage loans on a nationwide basis, the
sale of such loans, usually on a pooled and securitized basis, in the secondary
market, and the servicing of mortgage loans for investors as well as the
Company's own loan portfolio. The retail banking segment involves attracting
deposits from the general public and originating single-family residential
mortgage loans and consumer, commercial, commercial real estate and residential
construction loans, primarily through the Bank's branch network. A significant
portion of the deposits attracted by the Company through its branch network and
from wholesale sources are used to support the mortgage banking operations.
The tables below set forth certain information for the Company's
business segments for the periods shown. Prior to June 30, 1994, the Company did
not have material retail banking operations.
<TABLE>
<CAPTION>
Revenues
--------
Retail Mortgage
Banking Segment Banking Segment Combined
--------------- --------------- --------
(In thousands)
Nine months ended:
<S> <C> <C> <C>
September 30, 1996 $9,309 $56,083 $65,392
September 30, 1995 9,159 37,284 46,443
Year ended:
December 31, 1995 12,390 54,459 66,849
December 31, 1994 1,432 61,926 63,358
<CAPTION>
Earnings (Loss) Before Income Taxes
-----------------------------------
Retail Mortgage
Banking Segment Banking Segment Combined
--------------- --------------- --------
(In thousands)
Nine months ended:
<S> <C> <C> <C>
September 30, 1996 $1,164(1) $16,594 $17,758
September 30, 1995 3,104 13,912 17,016
Year ended:
December 31, 1995 3,549 21,346 24,895
December 31, 1994 (2,127)(2) 27,576 25,449
</TABLE>
28
<PAGE>
- --------------------
(1) The earnings before income taxes of the retail banking segment for the nine
months ended September 30, 1996 were adversely affected by the one-time SAIF
assessment of $3.4 million before taxes.
(2) The retail banking segment began with the acquisition of Security Savings
Bank on July 1, 1994. See "Business--Lending--Retail Banking Operations."
The Company's earnings are primarily dependent upon three revenue
sources: its net interest income, which is the difference between interest
earned on interest-earning assets (including loans held for sale in the
Company's mortgage banking operations as well as loans held for investment) and
interest paid on interest-bearing liabilities; fee income from servicing
mortgages held by investors; and gains realized on sales of mortgage loans and
mortgage servicing rights. These revenues are in turn significantly affected by
factors such as changes in prevailing interest rates and in the yield curve
(that is, the difference between prevailing short-term and long-term interest
rates), as well as changes in the volume of mortgage originations nationwide and
prepayments of outstanding mortgages.
Since 1993 there has been a gradual flattening of the yield curve
which has had the effect of reducing the Company's net interest spread. In order
to offset this change, the Company has pursued a strategy of expanding its
retail banking branch network in order to gain greater access to lower-cost
retail deposits and reduce its reliance on wholesale funding sources and other
borrowings. The Company does not use warehouse loans from commercial lending
sources.
In addition, changes in prevailing interest rates have had a
significant effect on the Company's loan production volume. The Company's loan
production volume more than doubled between 1992 and 1993 (from $3.0 billion to
$6.3 billion) principally as a result of the record level of refinancing
activity that occurred in 1993 following the sudden decline in interest rates.
Excluding the 1993 surge in refinancing activity, the Company's origination
volume has grown steadily and significantly each year, from $1.0 billion in 1991
to $5.4 billion in 1995 and $5.4 billion during the first nine months of 1996.
This in turn has contributed to the yearly growth in net interest income and
loan administration income, as well as the substantial gains on loan sales and
sales of mortgage servicing rights, that the Company has been able to recognize
during this period.
Results of Operations
Overview of Operating Results. Nine Months Ended September 30, 1996
Compared to the Nine Months Ended September 30,1995. Net earnings for the first
nine months of 1996 were $11.3 million ($1.01 per share), a 5.6% increase from
the $10.7 million ($0.94 per share) reported for the comparable period in 1995.
Excluding the effect of the one-time SAIF assessment of $2.2 million (after-tax)
in 1996, net earnings would have been $13.5 million ($1.20 per share), a 26.2%
increase over the 1995 period. The increase resulted from increases in net gains
on loan sales and sales of mortgage servicing rights (up $15.0 million, or
142.9%), and a $2.7 million, or 12.9%, increase in net interest income. The
increase in net interest income resulted from a slight increase in the ratio of
average interest-earning assets to interest-bearing liabilities reflecting
continued strong growth in the Company's loan production volume and an 18.5%
increase in average earning assets, offset in part by a decrease in the net
interest spread caused by a continued flattening of the yield curve. These
increases were offset by repurchases from secondary market investors; higher
compensation and benefits expenses, reflecting staff increases and merit raises
and an increase in general and administrative expenses resulting from increased
loan production levels and expansion of the Bank's branch network.
1995 Compared to 1994. Net earnings decreased by 3.7% to $15.5
million ($1.37 per share) in 1995 from $16.1 million ($1.42 per share) in 1994
as a result of a $11.2 million reduction in the level of gains on loan sales and
sales of mortgage servicing rights ($16.2 million in 1995 compared to $27.4
million in 1994) and an increase in other non-interest expenses of $3.1 million
(from $19.0 million in 1994 to $22.1 million in 1995), which more than offset a
substantial increase in net interest income (from $20.6 million to $29.9
million) and significant increases in loan administration income. The reduction
in part resulted from a $300.0 million decrease in the unpaid principal balance
of the mortgage loans underlying the mortgage servicing rights sold as well as
the sale of currently originated higher coupon mortgage servicing rights sold
during 1995. The Company's mortgage servicing rights increased significantly
29
<PAGE>
from $5.7 billion at December 31, 1994 to $6.8 billion at December 31, 1995,
reflecting a net retention of mortgage servicing rights of $1.1 billion, or
19.3%, as compared to a net reduction of mortgage servicing rights of $500
million, or 8.1%, for 1994.
1994 Compared to 1993. Net earnings decreased by 15.3% to $16.1
million ($1.42 per share) in 1994 from $19.0 million ($1.65 per share) in 1993.
Substantial increases in net interest income (16.4%), loan administration income
(70.5%) and gains on loan sales and sales of mortgage servicing rights (34.3%)
were offset by a $16.3 million (76.5%) increase in non-interest expense,
primarily as a result of the acquisition of Security Savings in 1994. In
addition, the Company increased its staffing levels during the course of 1993 to
handle the surge in loan production volume caused by the record levels of
refinancing activity that the mortgage industry experienced. The refinancing
activity returned to normal levels during 1994, but the Company was not able to
make corresponding reductions in its workforce until later in the year.
Net Interest Income. Nine Months Ended September 30, 1996 Compared to
the Nine Months Ended September 30, 1995. Net interest income increased $2.7
million, or 12.9%, to $23.6 million for the nine months ended September 30,
1996, from $20.9 million for the nine months ended September 30, 1995. This
increase was due primarily to a $153.0 million increase in average earning
assets between the comparable periods, offset in part by the related increase in
interest-bearing liabilities necessary to fund such growth. At the same time,
the Company's interest rate spread declined from 2.31% for the nine months ended
September 30, 1995 to 2.15% for the comparable 1996 period, which resulted in a
decrease in the Company's net yield on interest earning assets to 3.21% for the
nine months ended September 30, 1996 from 3.37% for the nine months ended
September 30, 1995. This decrease was caused by a slight compression in the
yield curve for interest earning assets priced off of 10-year and 15-year U. S.
treasury securities as compared to funding sources priced off of the one-year
treasury securities, which caused the decrease in the spreads achievable by the
Company.
1995 Compared to 1994. Net interest income for the year ended
December 31, 1995 increased $9.3 million, or 45.1%, to $29.9 million as compared
to $20.6 million for the year ended December 31, 1994. This increase was caused
primarily by substantial increases in earning assets. Average earning assets
were $864.0 million and $445.6 million for the years ended December 31, 1995 and
1994, respectively. The ratio of average interest-earning assets to average
interest-bearing liabilities decreased to 123% for the year ended December 31,
1995, as compared to 139% for the year ended December 31, 1994. Additionally, as
the Company increased its asset base, the ratio of non-interest bearing funding
sources to earning assets declined. At the same time average earning assets were
increasing, the Company's interest rate spread declined to 2.36% for 1995, from
3.37% for 1994. This decrease was caused by a decrease in the spreads achievable
between long term mortgage rates and the rates on short term funding sources
available to the Company. The net yield on interest-earning assets of the
Company decreased to 3.46% for the year ended December 31, 1995 from 4.63% for
the year ended December 31, 1994.
1994 Compared to 1993. Net interest income for the year ended
December 31, 1994 increased $2.9 million, or 16.4%, to $20.6 million as compared
to $17.7 million in net interest income for the year ended December 31, 1993.
This increase was caused primarily by an increase in earning assets, an increase
in the Company's interest rate spread and a higher ratio of interest-earning
assets to interest-bearing liabilities. Average earning assets increased $56.3
million, or 14.5%, from $389.3 million for 1993 to $445.6 million for 1994. The
interest rate spread decreased from 3.39% to 3.37% for the same period. The
ratio of average interest-earning assets to interest-bearing liabilities
increased to 139% for 1994 from 137% for 1993. The net yield on the Company's
interest-earning assets increased to 4.63% for 1994 from 4.55% for 1993.
Average Balances, Interest Rates and Yields. Net interest income is
affected by (i) the difference ("interest rate spread") between rates of
interest earned on interest-earning assets and rates of interest paid on
interest-bearing liabilities and (ii) the relative amounts of interest-bearing
liabilities and interest-earning assets. When the total of interest-earning
assets approximate or exceed interest-bearing liabilities, any positive interest
rate spread will generate net interest income. Financial institutions have
traditionally used interest rate spreads as a measure of net interest income.
Another indication of an institution's net interest income is its "net yield on
interest-earning assets" which is net interest income divided by average
interest-earning assets.
30
<PAGE>
The following table sets forth certain information relating to the
Company's consolidated average interest-earning assets and interest-bearing
liabilities and reflects the average yield on assets and average cost of
liabilities 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. During the periods
indicated, non-accruing loans, if any, are included in the net loan category.
Average balances are derived from month-end average balances. Management does
not believe that the use of month-end average balances instead of average daily
balances has caused any material difference in the information presented.
<TABLE>
<CAPTION>
For the Nine Months Ended September 30,
--------------------------------------------------------------------------------------------------
1996 1995
--------------------------------------------- --------------------------------------------
Average Average
------- -------
Average Balance Interest Yield/Cost Average Balance Interest Yield/Cost
--------------- -------- ---------- --------------- -------- ----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable, net.... $ 952,395 $ 56,430 7.90% $ 797,522 $ 48,926 8.18%
FHLB Stock............... 19,844 975 6.55% 16,006 926 7.71%
Other.................... 7,138 274 5.12% 12,818 417 4.34%
-------------- ------------ ------------- ---------
Total ................ 979,377 57,679 7.85% 826,346 50,269 8.11%
Non-interest-earning
assets............ 126,367 82,776
-------------- -------------
Total assets............. $1,105,744 $ 909,122
============== =============
Interest-bearing liabilities:
Deposits ................ $ 535,791 22,074 5.49% $ 418,076 17,254 5.50%
FHLB advances............ 243,564 11,226 6.15% 238,738 11,283 6.30%
Other.................... 18,837 821 5.81% 19,238 864 5.99%
-------------- ------------ ------------- ---------
Total interest-bearing
liabilities:...... 798,192 34,121 5.70% 676,052 29,401 5.80%
Non-interest-bearing
liabilities....... 242,673 182,226
-------------- -------------
Total liabilities.......... 1,040,865 858,278
Equity................... 64,879 50,844
-------------- -------------
Total liabilities and
equity................ $ 1,105,744 $ 909,122
============== =============
Net interest-earning
assets................ $ 181,185 $ 150,294
============== ------------ ============== ---------
Net interest income...... $ 23,558 $ 20,868
============ =========
Interest rate spread..... 2.15% 2.31%
========= =========
Net interest margin...... 3.21% 3.37%
========= =========
Ratio of average interest-
earning assets to interest-
bearing liabilities... 123% 122%
========= =========
</TABLE>
31
<PAGE>
<TABLE>
<CAPTION>
For the Years Ended December 31,
-------------------------------------------------------------------------------------------------------
1995 1994 1993
------------------------------------ ------------------------------- ------------------------------
Average Average Average Average Average Average
Balance Interest Yield/Cost Balance Interest Yield/Cost Balance Interest Yield/Cost
------- -------- ---------- ------- -------- ---------- ------- -------- ----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable, net.... $ 835,600 $ 69,543 8.32% $ 419,147 $ 33,533 8.00% $ 365,671 $ 28,499 7.79%
FHLB stock............... 16,304 1,285 7.88% 9,534 553 5.80% 4,052 291 7.18%
Other.................... 12,098 476 3.93% 16,871 1,026 6.08% 19,556 970 4.96%
----------- ----------- ---------- ---------- --------- --------
Total.................... 864,002 71,304 8.25% 445,552 35,112 7.88% 389,279 29,760 7.64%
Non-interest-earning
assets................ 85,686 60,254 43,571
----------- ---------- ---------
Total assets............. $ 949,688 $ 505,806 $ 432,850
=========== ========== =========
Interest-bearing liabilities:
Deposits................. $ 445,719 25,123 5.64% $ 203,263 9,037 4.45% $ 174,903 7,431 4.25%
FHLB advances............ 237,535 15,072 6.35% 83,912 3,726 4.44% 42,727 1,537 4.29%
Other.................... 19,703 1,248 6.33% 34,267 1,723 5.03% 65,916 3,084 4.68%
----------- ----------- ---------- ---------- --------- --------
Total interest-bearing
liabilities:.......... 702,957 41,443 5.89% 321,442 14,486 4.51% 283,546 12,052 4.25%
Non-interest-bearing
liabilities.......... 194,128 139,278 121,959
----------- ---------- ---------
Total Liabilities:......... 897,085 460,720 405,505
Equity................ 52,603 45,086 27,345
----------- ---------- ---------
Total Liabilities and
Equity............ $ 949,688 $ 505,806 $ 432,850
=========== ========== =========
Net interest-earning
assets................ $ 161,045 $ 124,110 $ 105,733
=========== ----------- ========== ---------- ========= ---------
Net interest income...... $ 29,861 $ 20,626 $ 17,708
=========== ========== =========
Interest rate spread..... 2.36% 3.37% 3.39%
======== ======== =======
Net interest margin...... 3.46% 4.63% 4.55%
======== ======== =======
Ratio of average interest-
earning assets to
interest-bearing
liabilities.............. 123% 139% 137%
======== ======== =======
</TABLE>
32
<PAGE>
Rate/Volume Analysis. The following table analyzes net interest
income in terms of changes in the volume of interest-earning assets and
interest-bearing liabilities and changes in yields and rates. The table reflects
the extent to which changes in the interest income and interest expense are
attributable to changes in volume (changes in volume multiplied by prior year
rate) and changes in rate (changes in rate multiplied by prior year volume).
Changes attributable to the combined impact of volume and rate have been
allocated proportionately to changes due to volume and changes due to rate.
<TABLE>
<CAPTION>
For The Nine Months
Ended September 30, For The Year Ended December 31,
-------------------------------------- ---------------------------------------
1996 vs. 1995 1995 vs. 1994
------------- -------------
Rate Volume Net Rate Volume Net
---- ------ --- ---- ------ ---
Interest Income: (In thousands)
- ----------------
<S> <C> <C> <C> <C> <C> <C>
Loans
receivable, net. $ (1,696) $ 9,200 $ 7,504 $ 1,351 $ 34,659 $ 36,010
FHLB stock...... (120) 195 75 136 437 573
Other........... 75 (244) (169) (362) (29) (391)
---------- ---------- --------- ---------- ---------- ----------
Total....... $ (1,741) $ 9,151 $ 7,410 $ 1,125 $ 35,067 $ 36,192
---------- ---------- --------- ---------- ---------- ----------
Interest Expense:
- ----------------
Deposits........ $ (30) $ 4,850 $ 4,820 $ 2,420 $ 13,666 $ 16,086
FHLB advances... (280) 223 (57) 1,636 9,710 11,346
Other........... (26) (17) (43) 277 (752) (475)
---------- ---------- --------- ---------- ---------- ----------
Total....... $ (336) $ 5,056 $ 4,720 $ 4,333 $ 22,624 $ 26,957
---------- ---------- --------- ---------- ---------- ----------
Net Change in
Net Interest
Income....... $ (1,405) $ 4,095 $ 2,690 $ (3,208) $ 12,443 $ 9,235
========== ========== ========= ========== ========== ==========
<CAPTION>
For The Year Ended December 31,
------------------------------
1994 vs. 1993
-------------
Rate Volume Net
---- ------ ---
Interest Income:
- ----------------
<S> <C> <C> <C>
Loans
receivable, net. $ 756 $ 4,278 $ 5,034
FHLB stock...... (30) 394 364
Other........... 218 (264) (46)
----------- ---------- ----------
Total....... $ 944 $ 4,408 $ 5,352
---------- ---------- ----------
Interest Expense:
- ----------------
Deposits........ $ 345 $ 1,261 $ 1,606
FHLB advances... 64 2,125 2,189
Other........... 230 (1,591) (1,361)
---------- ---------- ----------
Total....... $ 639 $ 1,795 $ 2,434
---------- ---------- ----------
Net Change in
Net Interest
Income....... $ 305 $ 2,613 $ 2,918
========== ========== ==========
</TABLE>
Provision for Losses. Nine Months Ended September 30, 1996 Compared
to Nine Months Ended September 30, 1995. The provision for losses increased to
$1.1 million for the nine months ended September 30, 1996 from $189,000 for the
nine months ended September 30, 1995. This increase was primarily due to an
increase in non-accrual loans to $31.7 million at September 30, 1996 from $7.1
million at September 30, 1995. During the first nine months of 1996, the Company
experienced a higher rate of loan repurchases due to factors such as the effects
of the high volume of loan originations and sales in the 1993-1996 period and
the increased scrutiny by the Company's primary loan investors resulting from
their adoption of revised underwriting criteria and automated review procedures.
Notwithstanding this increased level of repurchases, the Company's loss
experience has remained relatively stable through the period ending September
30, 1996, with net charge-offs during the first nine months of 1996 equal to
only 0.02% of average loans compared to 0.00% during 1995.
1995 Compared to 1994. The provision for losses decreased to $238,000
in 1995 from $290,000 in 1994. This decrease was not significant based on the
minimal amount of net charge-offs during 1995.
1994 Compared to 1993. The provision for losses decreased to $290,000
in 1994 from $644,000 in 1993. This decrease was primarily due to the
acquisition of Security Savings in 1994 and the allowance for losses of $1.0
million that resulted from the purchase. Based on the allowance subsequent to
the acquisition, management determined that a reduced provision for 1994 was
appropriate. Further, the allowance for 1994 was $970,000 larger than in 1993.
Non-Interest Income. Nine Months Ended September 30, 1996 Compared to
Nine Months Ended September 30, 1995. Non-interest income increased $16.2
million, or 63.3%, to $41.8 million for the nine months ended September 30,
1996, from $25.6 million for the nine months ended September 30, 1995. The
majority of this increase resulted from increased net gains on loan sales and
sales of mortgage servicing rights.
Decisions to sell mortgage servicing rights are influenced in part by
federal regulations and OTS supervision of the Bank. Such regulations, in part,
limit the amount of mortgage servicing rights that the Bank may consider for
33
<PAGE>
purposes of satisfying its minimum regulatory capital requirements. See
"Regulation -- Regulation and Supervision of the Bank." Thus, sales of mortgage
servicing rights may be undertaken for regulatory purposes. In addition, sales
may also be undertaken to take advantage of market prices that exceed the Bank's
internal valuation of such rights.
1995 Compared to 1994. For the year ended December 31, 1995,
non-interest income decreased $5.7 million, or 13.4%, to $37.0 million from
$42.7 million for the year ended December 31, 1994. The majority of the decrease
was attributable to a decrease in the net gains on mortgage loan sales and sales
of mortgage servicing rights, together with a slight decrease in the volume of
mortgage servicing rights sold.
1994 Compared to 1993. Non-interest income for the year ended
December 31, 1994 increased $9.0 million, or 26.7%, from $33.7 million for the
year ended December 31, 1993. The increase in non-interest income in 1994 as
compared to 1993 was due to an increase in 1994 in both loan administration
income and net gains on mortgage loan sales and sales of mortgage servicing
rights.
Loan Administration. Nine Months Ended September 30, 1996 Compared to
------------------------------------------------
the Nine Months Ended September 30, 1995. Loan administration income increased
- ----------------------------------------
$600,000 or 5.7%, to $11.1 million for the nine months ended September 30, 1996,
from $10.5 million for the nine months ended September 30, 1995. This increase
resulted primarily from an increase of $900 million in mortgage loans serviced.
At September 30, 1996, the unpaid principal balance of loans serviced for others
increased $900 million, or 15.0%, to $6.9 billion, from $6.0 billion at
September 30, 1995. At September 30, 1996 and September 30, 1995, the weighted
average servicing fee on loans serviced for others was 0.283% (i.e., 28.3 basis
points).
1995 Compared to 1994. For the year ended December 31, 1995, loan
---------------------
administration income increased $1.0 million, or 7.5%, to $14.3 million from
$13.3 million for the year ended December 31, 1994. This increase was
attributable to an increase in loans being serviced at December 31, 1995, of
$1.1 billion, or 19.3%, from $5.7 billion at December 31, 1994. The weighted
average fee on loans serviced for others (excluding subserviced loans) was
0.287% at December 31, 1995 and 1994.
1994 Compared to 1993. Loan administration income for the year ended
---------------------
December 31, 1994 increased $5.5 million, or 70.5%, from $7.8 million for the
year ended December 31, 1993. This increase resulted from an increase in the
average outstanding balance of mortgage loans serviced for others of
approximately $2.2 billion. The weighted average fee on loans serviced for
others (excluding subserviced loans) was 0.287% at December 31, 1994 and 0.282%
at December 31,1993.
Loans serviced for others excludes short-term subservicing, which is
the servicing of loans subsequent to the sale of the related mortgage servicing
rights but prior to their delivery to the purchaser. At September 30, 1996 and
December 31, 1995, the amount of servicing for others excluded subservicing of
$2.1 billion and $536.3 million, respectively. At December 31, 1994, the Company
was not engaged in any subservicing.
Net Gain on Loan Sales and Sales of Mortgage Servicing Rights.
September 30, 1996 Compared to September 30, 1995. For the nine months ended
- -------------------------------------------------
September 30, 1996, net gain on loan sales and sales of mortgage servicing
rights increased $15.0 million, or 142.9%, to $25.5 million, from $10.5 million
for the comparable 1995 period. This increase primarily resulted from the
increased amount of mortgage servicing rights sold. Specifically, this change
resulted from a $10.5 million increase in the gain on sale of mortgage servicing
rights and a $4.5 million increase on the gain on sale of loans. These higher
levels of gains are attributable to increases in the amount of mortgage
servicing rights and loans sold. For the nine month period ended September 30,
1995 versus the same period in 1996, the principal balance of the loans
underlying the mortgage servicing rights sold increased from $1.8 billion to
$3.5 billion. Over the same time period, the amount of loans sold grew from $3.1
billion to $5.2 billion.
1995 Compared to 1994. For the year ended December 31, 1995, net gain
---------------------
on loan sales and sales of mortgage servicing rights decreased $11.2 million, or
40.9%, to $16.2 million, from $27.4 million for 1994. This decrease was a
function of a $15.1 million decrease in the gain on sale of mortgage servicing
rights and a $3.9 million increase in the gain on sale of mortgage loans. The
decrease in the gain on sale of mortgage servicing rights was
34
<PAGE>
attributable to both a $300 million decrease in the principal balance of the
loans underlying the mortgage servicing rights sold from $2.6 billion to $2.3
billion as well as the sale of currently originated lower coupon mortgage
servicing rights during 1995. The increase in the gain on the mortgage loans
sold was principally the result of the increase in the volume of loans sold for
the year ended 1995 of $1.2 billion, from $3.6 billion in 1994 to $4.8 billion
in 1995.
1994 Compared to 1993. Net gain on loan sales and sales of mortgage
---------------------
servicing rights increased $7.0 million, or 34.3%, to $27.4 million during 1994
from $20.4 million for 1993. This growth was attributable to a $15.1 million
increase in the gain on sale of mortgage servicing rights offset by an $8.1
million decrease in the gain on sale of mortgage loans. The higher level of gain
on sale of mortgage servicing rights was primarily a function of a $1.4 billion
increase in the principal balance of the loans underlying the mortgage servicing
rights sold. The decrease on the gain on sale of mortgage loans was primarily
attributable to a $2.4 billion reduction in the amount of mortgage loans sold.
Mortgage servicing rights originated or acquired by the Company are
capitalized pursuant to Statement of Financial Accounting Standards ("SFAS") No.
122, "Accounting for Mortgage Servicing Rights," which the Company adopted in
May 1995. The value of mortgage servicing rights acquired are periodically
evaluated in relation to the estimated discounted net future servicing revenues.
See Note 3 of Notes to Consolidated Financial Statements. At September 30, 1996
and December 31, 1995 and 1994, the estimated fair value of the mortgage
servicing rights in excess of their stated book value was approximately $34.7
million, $42.4 million, and $54.1 million, respectively. See Note 7 of Notes to
Consolidated Financial Statements.
Other Fees and Charges. Nine Months Ended September 30, 1996 Compared
---------------------------------------------
to the Nine Months Ended September 30, 1995. For the nine months ended September
- -------------------------------------------
30, 1996, other fees and charges, which includes certain loan fees and charges,
deposit-related fees and escrow waiver fees, increased $0.7 million, or 15.2%,
to $5.3 million from $4.6 million for the nine months ended September 30, 1995.
This increase was a result of an overall increase in mortgage loan originations
in the nine months ended September 31, 1996 as compared to the same period in
1995.
1995 Compared to 1994. Other fees and charges increased $4.4 million,
---------------------
or 209.5%, to $6.5 million for 1995 from $2.1 million for 1994. This increase
was attributable to an increase in underwriting fees in 1995 as compared to 1994
and an overall increase in mortgage loan originations in 1995.
1994 Compared to 1993. For 1994, other fees and charges decreased
---------------------
$3.4 million, or 61.8%, to $2.1 million from $5.5 million for 1993. This
decrease principally was due to a reduction in escrow waiver fees in 1994 as
compared to 1993, and an overall decrease in mortgage loan originations in 1994.
35
<PAGE>
Non-Interest Expense. The following table sets forth components of
the Company's non-interest expense, prior to allocation of expenses related to
loan originations that are deferred pursuant to SFAS No. 91, "Accounting for
Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and
Initial Direct Costs of Leases." As required by SFAS No. 91, mortgage loan fees
and certain direct origination costs (principally compensation and benefits) are
capitalized and amortized rather than immediately expensed. Certain other
expenses associated with loan production, however, are not required to be
capitalized. These expense amounts are reflected on the Company's statement of
earnings net of the portion that must be capitalized under SFAS No. 91. However,
management believes that the analysis of non-interest expense on a "gross" basis
(i.e., prior to the deferral of capitalized loan origination costs) more clearly
reflects the changes in total overhead costs associated with increased loan
production. See Note 3 of Notes to Consolidated Financial Statements for further
information.
<TABLE>
<CAPTION>
For the nine months ended
September 30, For the years ended December 31,
---------------------------------------- -------------------------------------------------
1996 1995 1995 1994 1993
---- ---- ---- ---- ----
(In thousands)
<S> <C> <C> <C> <C> <C>
Compensation and benefits.......... $ 30,327 $ 21,696 $ 30,809 $ 25,424 $ 21,643
Commissions........................ 9,339 7,972 11,102 9,340 13,698
Occupancy and equipment............ 8,687 6,605 8,873 7,339 4,599
Advertising........................ 654 477 597 1,110 2,738
Core deposit premium
amortization.................. 968 972 1,330 651 --
Federal deposit insurance
premiums...................... 4,184 788 1,122 803 579
Other.............................. 14,878 10,642 15,536 11,978 8,030
-------------- -------------- -------------- -------------- --------------
Subtotal...................... 69,037 49,152 69,369 56,645 51,287
Less: deferral of capitalized
loan origination costs........ (22,543) (19,914) (27,653) (19,026) (29,995)
-------------- ------------- -------------- ------------- --------------
Total......................... $ 46,494 $ 29,238 $ 41,716 $ 37,619 $ 21,292
============== ============= ============== ============= ==============
</TABLE>
Nine Months Ended September 30, 1996 Compared to the Nine
Months Ended September 30, 1995. Non-interest expense for the nine months ended
September 30, 1996, increased $17.3 million, or 59.2%, to $46.5 million, from
$29.2 million for the same period in 1995. The largest contributing factors to
this increase were higher compensation and benefits and general and
administrative expenses.
Compensation and benefits, excluding the capitalization of direct
loan origination costs, increased by $8.6 million, or 39.6%, to $30.3 million
for the nine months ended September 30, 1996 from $21.7 million for the nine
months ended September 30, 1995. The increase in compensation and benefits was
attributable to an increase in the number of full-time equivalent employees and
increased salaries of senior management and staff . The number of full-time
equivalent employees of the Company increased to 1,179 persons at September 30,
1996 from 1,142 persons at December 31, 1995.
Higher general and administrative expenses also contributed to the
increased non-interest expense for the nine months ended September 30, 1996 as
compared to the same period in 1995. The increase in general and administrative
expenses reflected a 56.0% increase in loan production and an increase in
overall activity because of increased mortgage loan production recorded during
the nine months ended September 30, 1996 of $5.3 billion compared to $3.4
billion for the nine months ended September 30, 1995. This increase in general
and administrative expenses was also a result of an increase in the number of
the Bank's branches from 12 at September 30, 1995 to 15 at September 30, 1996.
In addition, general and administrative expense for the nine month
period ended September 30, 1996, reflects the one-time special assessment
imposed by the FDIC pursuant to federal legislation adopted on such date. See
"Regulation -- Federal Deposit Insurance." Such assessment affected all thrifts,
including the Bank, whose
36
<PAGE>
deposits were insured by the SAIF administered by the FDIC and was imposed to
capitalize the SAIF to the same extent as the Bank Insurance Fund and thereby
eliminate the disparity in related premiums charged by the two Funds. Based upon
notice received from the FDIC, the Bank's special assessment totaled $3.4
million, or $2.2 million, net of tax. In 1997, subsequent to such assessment,
the Bank's annual premium expense for FDIC deposit insurance is expected to be
approximately 6.5 basis points (charged against the Bank's insurable deposit
base) as compared to 23 basis points prior to the assessment.
1995 Compared to 1994. Non-interest expense for the year ended
December 31, 1995 increased $4.1 million, or 10.9%, to $41.7 million from $37.6
million for the year ended 1994. This increase was primarily a result of
increased compensation and benefits and increased general and administrative
expenses. Compensation and benefits totaled $30.8 million, and $25.4 million for
the years ended December 31, 1995 and 1994 respectively. This increase was
primarily a result of an increase in the number of full-time equivalent
employees from 869 persons to 1,142 persons at December 31, 1994 and 1995,
respectively. Increased general and administrative expenses for 1995 were
attributable to an increase in the number of branches from 9 at December 31,
1994 to 13 at December 31, 1995. The increase in general and administrative
expenses corresponded to an increase in mortgage loan originations of $1.5
billion, or 40.5%, from $3.7 billion for 1994 to $5.2 billion for 1995.
1994 Compared to 1993. Non-interest expense for the year ended
December 31, 1994 increased $16.3 million, or 76.5%, over the $21.3 million of
such expense for the year ended December 31, 1993. This increase was partially a
result of increased compensation and benefits. Compensation and benefits
increased $3.8 million, or 17.6%, to $25.4 million for 1994 from $21.6 million
for 1993.
Non-interest expense also increased as a result of the Company's
acquisition of Security Savings on July 1, 1994, a $228 million thrift located
in Jackson, Michigan. Among the costs of acquisition was the continued
employment of approximately 100 former employees of Security Savings. In
addition, Security Savings also had a main office as well as a six-branch
network and the Company's retention of the main office and branches following
the acquisition contributed to the $2.7 million, or 58.7%, increase in occupancy
and equipment expense from 1993 to 1994.
Federal Income Taxes. Nine Months Ended September 30, 1996 Compared
to the Nine Months Ended September 30, 1995. Federal income tax expense for the
nine months ended September 30, 1996, remained unchanged from the same period in
1995. The Company's effective rate for the 1996 period was 36.0% versus 37.6%
for the 1995 period. See Note 10 of Notes of Consolidated Financial Statements.
1995 Compared to 1994. Federal income tax expense totaled $9.4
million and $9.3 million for the years ended December 31, 1995 and 1994,
respectively. The effective rate was 37.8% and 36.5% for 1995 and 1994,
respectively. The increase in effective rate was due to a higher amount of
non-deductible expenses. See Note 10 of Notes to Consolidated Financial
Statements.
1994 Compared to 1993. Federal income tax expense decreased for 1994
from $10.4 million for 1993 to $9.3 million for 1994. The effective rate for
these years increased to 36.5% from 35.4%. The effective rate increased as a
result of non-deductible expenses. See Note 10 of Notes to Consolidated
Financial Statements.
Financial Condition
1996 Activity. Assets. The Company's assets totaled $1.07 billion at
September 30, 1996, an increase of approximately $25.0 million, or 2.4%, as
compared to $1.05 billion at December 31, 1995. This increase was primarily due
to increases in mortgage loans held for sale, premises and equipment, mortgage
servicing rights, and other assets, offset in part by decreases in loans held
for investment.
Loans Receivable. Mortgage loans available for sale and mortgage
loans held for investment decreased, in the aggregate, $26.6 million from $798.7
million at December 31, 1995 to $772.1 million at September 30, 1996. Mortgage
loans available for sale increased $32.0 million, or 5.2%, to $652.5 million at
September 30, 1996, from $620.5 million at December 31, 1995.
37
<PAGE>
See "Business -- Lending." Loans held for investment decreased $51.4 million, or
16.8%, to $254.2 million at September 30, 1996, from $305.6 million at December
31, 1995. Loans held for investment include both loans originated for the
Company's own portfolio through the retail banking segment and loans with
characteristics that do not conform to underwriting standards for sale as
conforming loans in the secondary market. See "Business -- Lending."
Allowance for Losses. The allowance for losses totaled $3.0 million
at September 30, 1996, an increase of $900,000, or 42.9%, from $2.1 million at
December 31, 1995. The allowance for losses as a percentage of non-performing
loans was 9.56% and 19.67% at September 30, 1996 and December 31, 1995,
respectively. The Company's non-performing loans as a percentage of total loans
were 3.49% and 1.15% at September 30, 1996 and December 31, 1995, respectively.
These non-performing loans totaled $31.7 million, and $10.7 million at September
30, 1996 and December 31, 1995, respectively.
The increase in non-performing loans at September 30, 1996 resulted
in part from the repurchase of $42.2 million in mortgage loans from the
secondary market during the nine months ended September 30, 1996. Loan
repurchases are an ongoing part of the Company's operations since all loans sold
in the secondary market are generally subject to detailed underwriting reviews
by the ultimate purchaser. The increased provision for losses was made based
upon management's evaluation of the factors relating to the portfolio and
reflected consideration of the recent increase in loans repurchased from loan
investors. The significant increase in loan origination volume in the 1993-1996
period, combined with the adoption of revised underwriting criteria and
automated review procedures, have caused the increase in such repurchases.
Although the Company's historical charge-off experience has been minimal and
management believes that the allowance for losses is adequate, there can be no
assurance that the Company will not be required to increase significantly its
allowance for losses. See "Business - Asset Quality." Overall, losses are
generally mitigated by the relatively low loan-to-value ratios of the loans
originated, private mortgage insurance for loans with an 80% -or- greater loan-
to-value ratio and the ability of the Company to seek recoveries from
correspondent lenders and, in certain circumstances, contract underwriters. See
"Business -- Allowance for Losses."
FHLB Stock. Holdings of FHLB stock increased from $17.8 million at
December 31, 1995 to $20.5 million at September 30, 1996 as the Bank's total
mortgage loan portfolio has increased. As a member of the FHLB, the Bank is
required to hold shares of FHLB stock in an amount at least equal to 1% of the
aggregate unpaid principal balance of its home mortgage loans, home purchase
contracts and similar obligations at the beginning of each year, or 1/20th of
its FHLB advances, whichever is greater. See "Regulation -- Regulation and
Supervision of the Bank -- Federal Home Loan Bank System."
Premises and Equipment. Premises and equipment, net of accumulated
depreciation, totaled $21.0 million at September 30, 1996, an increase of $3.0
million, or 16.7%, from $18.0 million at December 31, 1995. This increase
reflects the Company's investment in technology, along with the expansion of the
retail deposit branch offices, and the increased national presence in the
mortgage acquisition area. See "Business -- Technology," "-- Lending" and "--
Retail Loan Production."
Mortgage Servicing Rights. Mortgage servicing rights totaled $41.4
million at September 30, 1996, an increase of $13.4 million, or 47.9%, from
$28.0 million at December 31, 1995. The increase at September 30, 1996 is
attributable to a $200 million servicing increase in the principal balance of
the loans underlying the mortgage servicing rights. Specifically, for the nine
month period ended September 30, 1996, $4.6 billion of loans underlying mortgage
servicing rights were originated and purchased, and $4.4 billion were reduced
through sales, prepayments, and amortization. In addition, because of sales of
servicing during the first nine months of 1996, the mortgage servicing portfolio
at September 30, 1996 contained a greater percentage of capitalized servicing
rights which are reflected as assets on the Company's statement of financial
condition (reflecting largely servicing rights originated after the adoption of
SFAS No. 122) than it did at December 31, 1995. See "Business -- Lending."
Other Assets. Other assets increased $21.5 million, or 103.4%, to
$42.3 million at September 30, 1996, from $20.8 million at December 31, 1995.
The majority of this increase was attributable to receivables recorded in
conjunction with a $700 million sale of mortgage servicing rights during
September 1996. Upon a sale of mortgage
38
<PAGE>
servicing rights, the Company receives a down payment from the purchaser
equivalent to approximately 20% of the total purchase price and records a
receivable account for the balance of the purchase price due. In connection with
the sale of mortgage servicing rights during the nine-month period ended
September 30, 1996, the Company recorded receivables of $24.3 million at
September 30, 1996. The balance due is paid upon transfer by the Bank of the
related mortgage loan servicing documents, usually within ninety days
thereafter. See "Business -- Loan Servicing."
Liabilities. The Company's total liabilities increased $14.1 million,
or 1.4%, to $996.8 million at September 30, 1996, from $982.7 million at
December 31, 1995. This increase was primarily attributable to increases in the
Bank's deposit portfolio as well as changes in the amount of escrows held on
mortgage loans, the amount of escrows held for investors and the amount of FHLB
advances, offset in part by a decrease in the amount of undisbursed payments on
loans serviced for others and the amount of liability for checks issued.
Deposits. Deposit accounts increased $49.9 million, or 9.5%, to
$576.9 million at September 30, 1996, from $527.0 million at December 31, 1995.
This increase reflects the Company's deposit growth strategy through its branch
network and its pricing strategy. Branch facilities have grown from 13 at
December 31, 1995 to 15 at September 30, 1996. The Company's aggressive pricing
strategy attracts one-year certificates of deposit and brokered funds. The
Company relies upon both its retail customer base and nationwide advertising of
its deposit rates to attract deposits through the pricing of deposits at up to
0.25% (i.e., 25 basis points) over the prevailing market rate. At September 30,
1996, the Company's certificates of deposit totaled $479.1 million, with an
average balance of $30,000 and a weighted average cost of 5.95%. Of such amount,
approximately $180.4 million were brokered deposits with a weighted average cost
of 5.85%. See "Business--Funding Sources."
FHLB Advances. FHLB advances increased $8.7 million, or 4.6%, to
$199.9 million at September 30, 1996, from $191.2 million at December 31, 1995.
The Company relies upon such advances as a source of funding for the origination
or purchase of loans for sale in the secondary market. See "Capitalization." The
outstanding balance of FHLB advances fluctuates from time to time depending upon
the Company's current inventory of loans held for sale (i.e., its "warehousing")
and the availability of lower cost funding from its retail deposit base and its
escrow accounts. See "-- Liquidity and Capital Resources."
Undisbursed Payments. Undisbursed payments on loans serviced for
others decreased $8.9 million, or 14.8%, to $51.1 million at September 30, 1996,
from $60.0 million at December 31, 1995. The month-end average amount of these
funds was $73.6 million and $49.6 million during 1996 and 1995, respectively.
These amounts represent payments received from borrowers for interest, principal
and related loan charges, which have not been remitted. These balances fluctuate
with the size of the servicing portfolio and increase during a time of high
payoff or refinance volume.
Escrow Accounts. The amount of funds in escrow accounts increased
$3.1 million, or 3.5%, to $92.0 million at September 30, 1996, from $88.9
million at December 31, 1995. The average of the month end balances in these
accounts was $83.8 million and $86.5 million during 1996 and 1995, respectively.
These accounts are maintained on behalf of mortgage customers and include funds
earmarked for real estate taxes, homeowner's insurance, and other insurance
product liabilities. These balances fluctuate with the size of the servicing for
others portfolio and also depend upon the scheduled payment dates for the
related expenses.
Liability for Checks Issued. The liability for checks issued
decreased $47.5 million, or 55.4%, to $38.3 million at September 30, 1996, from
$85.8 million at December 31, 1995. This liability reflects the outstanding
amount of checks the Company has written in conjunction with acquiring mortgage
loans. This account grows or contracts in conjunction with the amount of loans
that are in the Company's mortgage pipeline.
Federal Income Taxes Payable. Federal income taxes payable increased
$4.1 million, or 27.9%, to $18.8 million at September 30, 1996, from $14.7
million at December 31, 1995. This increase was primarily attributable to the
timing of payments and an increase in the net deferred tax liability. See Note
10 of Notes to the Consolidated Financial Statements.
39
<PAGE>
Other Liabilities. Other liabilities increased $5.3 million, or
41.1%, to $18.2 million at September 30, 1996, from $12.9 million at December
31, 1995. This liability primarily reflects amounts received in conjunction with
acquiring mortgage loans, but not yet applied. This account grows or contracts
in conjunction with the amount of loans that are in the Company's mortgage
pipeline.
1995 Activity. Assets. The Company's total assets at December 31,
1995 increased $326.8 million, or 45.2% from $723.2 million at December 31,
1994. This increase was primarily attributable to increases in mortgage loans
held for sale, premises and equipment, mortgage servicing rights, FHLB stock,
and other assets, offset in part by decreases in loans held for investment.
Loans Receivable. Mortgage loans available for sale and mortgage
loans held for investment increased, in the aggregate, from $559.6 million at
December 31, 1994 to $798.7 million at December 31, 1995. Mortgage loans
available for sale increased $415.0 million, or 201.9%, from $205.5 million at
December 31, 1994 to $620.5 million at December 31, 1995. See "Business--
Lending." Loans held for investment decreased $124.2 million, or 28.9%, to
$305.6 million at December 31, 1995, from $429.8 million at December 31, 1994.
This decrease was primarily attributable to the reclassification of
approximately $185.0 million in loans to the "mortgage loans available for sale"
category based upon accounting guidance released by the Financial Accounting
Standards Board as to the appropriate application of SFAS No. 115, "Accounting
for Certain Investments in Debt and Equity Securities." Such loans had
previously been classified as "loans held for investment." For further
information, see Note 4 of Notes to Consolidated Financial Statements.
Allowance for Losses. The allowance for losses increased $200,000, or
10.5% at December 31, 1995, from $1.9 million at December 31, 1994. The
allowance for losses as a percentage of non-performing loans was 19.67%, and
107.59% at December 31, 1995 and December 31, 1994, respectively. The Company's
non-performing loans as a percentage of total loans was 1.15% and 0.27% at
December 31, 1995 and December 31, 1994, respectively. These non-performing
loans totaled $10.7 million and $1.7 million at December 31, 1995 and December
31, 1994, respectively. The increase in allowance for losses resulted primarily
from the provisions for losses together with a minimal amount of net
charge-offs.
FHLB Stock. Holdings of FHLB stock increased from $12.8 million at
December 31, 1994 to $17.8 million at December 31, 1995, as a result of the
increase of the Bank's total mortgage loan portfolio.
Premises and Equipment. The amount of premises and equipment at
December 31, 1995 increased $3.5 million, or 24.1%, from $14.5 million at
December 31, 1994 to $18.0 million at December 31, 1995. This increase reflects
the Company's investment in technology, along with the expansion of the retail
deposit branch offices, and the increased national presence in the mortgage
acquisition area. See "Business -- Technology," "-- Lending" and "-- Retail Loan
Production."
Mortgage Servicing Rights. Mortgage servicing rights increased at
December 31, 1995 by $9.7 million, or 53.3%, from $18.2 million at December 31,
1994. The increase in such rights reflects the Company's adoption in 1995 of
SFAS No. 122, "Accounting for Mortgage Servicing Rights," which requires the
capitalization of both mortgage servicing rights associated with loans
originated by the Company as well as purchased mortgage servicing rights
("PMSRs") associated with loans acquired by the Company. Previously, the Company
was only required to capitalize PMSRs. See Note 3 of Notes to Consolidated
Financial Statements. The increase at December 31, 1995 was also attributable to
the increased volume of mortgage loan production since 1994, from $3.7 billion
during 1994 to $5.2 billion during 1995. See "Business -- Lending"
40
<PAGE>
Other Assets. Other assets increased $7.4 million, or 55.2%, at
December 31, 1995 from $13.4 million at December 31, 1994. The majority of this
increase was attributable to receivables recorded in conjunction with a $500
million sale of mortgage servicing rights during December 1995. Upon a sale of
mortgage servicing rights, the Company receives a down payment from the
purchaser equivalent to approximately 20% of the total purchase price and
records a receivable account for the balance of the purchase price due. In
connection with the sale of mortgage servicing rights during 1995, the Company
recorded receivables of $6.3 million at December 31, 1995.
Liabilities. Total liabilities at December 31, 1995 increased $309.0
million, or 45.9%, from $673.7 million at December 31, 1994 to $982.7 million.
This increase was primarily attributable to an increase in the Company's deposit
portfolio as well as changes in the amount of escrows held on mortgage loans,
the amount of undisbursed payments on loans serviced for others, the amount of
escrows held for investors, and the amount of liability for checks issued,
offset in part by a decrease in the amount of FHLB advances.
Deposits. Deposit accounts at December 31, 1995 increased by $219.4
million, or 71.3%, from $307.6 million at December 31, 1994. This increase
reflects the Company's deposit growth strategy through its branch network and
its pricing strategy. Branch facilities have grown from nine at December 31,
1994 to 13 at December 31, 1995. The Company relies upon both its retail
customer base and nationwide advertising of its deposit rates to attract
deposits through the pricing of deposits at up to 0.25% (i.e., 25 basis points)
over the prevailing market rate.
FHLB Advances. FHLB advances decreased $9.6 million, or 4.8%, from
$200.8 million at December 31, 1994, to $191.2 million at December 31, 1995. The
outstanding balance of FHLB advances fluctuates from time to time depending upon
the Company's current inventory of loans held for sale (i.e., its "warehousing")
and the availability of lower cost funding from its retail deposit base and its
escrow accounts. See "Liquidity and Capital Resources."
Undisbursed Payments. Undisbursed payments on loans serviced for
others increased $25.0 million, or 71.4%, to $60.0 million at December 31, 1995
from $35.0 million at December 31, 1994. The month-end average amount of these
funds was $49.6 million and $36.9 million during 1995 and 1994, respectively.
These balances fluctuate with the size of the servicing portfolio and increase
during a time of high payoff or refinance volume.
Escrow Accounts. The amount of funds held in escrow accounts
increased $11.5 million, or 14.1%, to $88.9 million at December 31, 1995 from
$77.9 million at December 31, 1994. The averages of the month-end balances in
these accounts were $86.5 million and $85.1 million during 1995 and 1994,
respectively.
Liability for Checks Issued. The liability for checks issued
increased $46.4 million, or 117.8%, to $85.8 million at December 31, 1995 from
$39.4 million at December 31, 1994. This increase was attributable to an
increased volume of loans in the Company's mortgage pipeline.
Federal Income Taxes Payable. Federal income taxes payable increased
$7.2 million, or 96.0%, at December 31 1995 from $7.5 million at December 31,
1994. This increase was primarily attributable to the timing of payments and the
increase in the net deferred tax liability. See Note 10 of Notes to the
Consolidated Financial Statements.
Other Liabilities. Other liabilities increased $8.2 million, or
174.5%, to $12.9 million at December 31, 1995, from $4.7 million at December 31,
1994. This liability primarily reflects amounts received in conjunction with
acquiring mortgage loans, but not yet applied. This account grows or contracts
in conjunction with the amount of loans that are in the Company's mortgage
pipeline.
Liquidity and Capital Resources
Liquidity. Liquidity refers to the ability or the financial
flexibility to manage future cash flows to meet the needs of depositors and
borrowers and fund operations on a timely and cost-effective basis. The Company
has no other significant business other than that of the Bank. The Company's
primary source of liquidity is dividends paid by the Bank. Management of the
Company believes that dividends that may be paid by the Bank to the Company
41
<PAGE>
following the Offering will provide sufficient funds for its operations and
liquidity needs; however, no assurance can be given that the Company will not
have a need for additional funds in the future. Further, the Bank will be
subject to certain regulatory limitations with respect to the payment of
dividends to the Company. See "Dividend Policy" and "Regulation -- Regulation
and Supervision of the Bank -- Dividend Restrictions."
The Bank is required by OTS regulations to maintain minimum levels of
liquid assets. This requirement, which may be changed at the direction of the
OTS depending upon economic conditions and deposit flows, is based upon a
percentage of deposits and short-term borrowings. The required minimum ratio is
currently 5.0%. While the Bank's liquidity ratio varies from time to time, the
Bank has generally maintained liquid assets substantially in excess of the
minimum requirements. The Bank's liquidity ratios were 8.6%, 11.4% and 42.4% at
September 30, 1996, December 31, 1995 and December 31, 1994, respectively.
A significant source of cash flow for the Company is the sale of
mortgage loans available for sale. Additionally, the Company receives funds from
net interest income, mortgage loan servicing fees, loan principal repayments,
advances from the FHLB, deposits from customers and cash generated from
operations. Mortgage loans sold during the nine months ended September 30, 1996,
totaled $5.2 billion, an increase of $2.1 billion, or 67.7%, from $3.1 billion
sold during the comparable 1995 period. This increase in mortgage loan sales was
directly attributable to the 53.6% increase in mortgage loan originations. The
Company sold 98.9% and 90.2% of its mortgage loan originations during the nine
months ended September 30, 1996 and 1995, respectively. Mortgage loans sold
during 1995 totaled $4.8 billion, compared to $3.5 billion and $6.0 billion
during 1994 and 1993, respectively. The fluctuation in this activity was
directly related to the amount of mortgage loan originations. The Company sold
91.6%, 95.4% and 97.0% of its mortgage loan originations during 1995, 1994 and
1993, respectively.
The Company typically uses FHLB advances to fund its daily
operational liquidity needs and to assist in funding loan originations. The Bank
will continue to use this source of funds unless a more stable source of funds
becomes available. FHLB advances are used because of their flexibility. These
funds are typically borrowed for 90-day terms with no prepayment penalty, of
which $199.9 million was outstanding at September 30, 1996. Such advances are
repaid with the proceeds from the sale of mortgage loans held for sale. The
Company currently has an authorized line of credit equal to $425.0 million. This
line is collateralized by non-delinquent mortgage loans. To the extent the
amount of retail deposits or customer escrow accounts can be increased, the
Company expects that they will eventually replace FHLB advances as a funding
source.
At September 30, 1996, the Company had outstanding rate-lock
commitments to lend $492.0 million for mortgage loans, along with outstanding
commitments to make other types of loans totaling $15.6 million. Because such
commitments may expire without being drawn upon, they do not necessarily
represent future cash commitments. Also, as of September 30, 1996, the Company
had outstanding commitments to sell $713.3 million of mortgage loans. These
commitments will be funded within 90 days. Total commercial and consumer unused
collateralized lines of credit totaled $79.3 million at September 30, 1996. Such
commitments include $71.5 million in warehouse lines of credit to various
mortgage companies, of which $21.9 million was drawn upon as of September 30,
1996.
Another source of liquidity is the anticipated net proceeds from the
Offering. Following the Offering, the Company will contribute substantially all
of the net proceeds of the Offering to the Bank. These funds are expected to be
used by the Bank for its banking activities. See "Use of Proceeds."
Capital Resources. At September 30, 1996, the Bank exceeded all
applicable regulatory minimum capital requirements. For a detailed discussion of
the regulatory capital requirements to which the Bank is subject, and for a
tabular presentation of compliance with such requirements, see "Regulation --
Regulation and Supervision of the Bank -- Capital Requirements" and Note 13 of
Notes to Financial Statements.
42
<PAGE>
Asset/Liability Management
The Company has sought to manage its exposure to changes in interest
rates by matching more closely the effective maturities or repricing
characteristics of the Company's interest-earning assets and interest-bearing
liabilities. The matching of the Company's assets and liabilities may be
analyzed by examining the extent to which its assets and liabilities are
interest rate sensitive and by monitoring the expected effects of interest rate
changes on its net interest income.
An asset or liability is interest rate sensitive within a specific
time period if it will mature or reprice within that time period. If the
Company's assets mature or reprice more quickly or to a greater extent than its
liabilities, the Company's net portfolio value and net interest income would
tend to increase during periods of rising interest rates but decrease during
periods of falling interest rates. If the Company's assets mature or reprice
more slowly or to a lesser extent than its liabilities, its net portfolio value
and net interest income would tend to decrease during periods of rising interest
rates but increase during periods of falling interest rates. Because the Company
sells a significant portion of its loan production in the secondary market, its
interest rate risk is somewhat mitigated. The Company has pursued certain
strategies designed to decrease the vulnerability of its earnings to material
and prolonged changes in interest rates in connection with its banking
operations.
As part of its overall interest rate risk policy, the Company has
focused on the development of a long-term deposit base to support its asset
growth as well as its ability to sell residential mortgage loans in the
secondary market while retaining both the mortgage servicing rights and the
generally non-interest bearing escrow accounts. In addition to its deposit base
and funds from the escrow accounts, the Company also uses FHLB advances as a
means to match efficiently maturities of funding sources with the expected
selling time of the related loans. Management believes that this approach to
loan originations allows the Company to respond to customer demand while
minimizing interest rate and credit risk without significantly increasing
operating expenses.
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
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 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 amount of interest rate sensitive assets. During a period of rising
interest rates, a negative gap would be expected to adversely affect net
interest income while a positive gap would be expected to result in an increase
in net interest income, while conversely during a period of declining interest
rates, a negative gap would be expected to result in an increase in net interest
income and a positive gap would be expected to adversely affect net interest
income. At September 30, 1996, the Company's cumulative one-year interest rate
gap position was a positive $14.3 million, or 1.55% of total assets. This is a
one-day position which is continually changing and is not necessarily indicative
of the Company's position at any other time. The Company's current one-year gap
is within the guidelines established by management and approved by the Board of
Directors. Management considers numerous factors when establishing these
guidelines, including current interest rate margins, capital levels, and any
guidelines provided by the OTS.
43
<PAGE>
Different types of assets and liabilities with the same or similar
maturities may react differently to changes in overall market rates or
conditions, and thus changes in interest rates may affect net interest income
positively or negatively even if an institution were perfectly matched in each
maturity category. Additionally, the gap analysis does not consider the many
factors accompanying interest rate moves. While the interest rate sensitivity
gap is a useful measurement and contributes toward effective asset and liability
management, it is difficult to predict the effect of changing interest rates
solely on that measure, without accounting for alterations in the maturity or
repricing characteristics of the balance sheet that occur during changes in
market interest rates. During periods of rising interest rates, the Company's
assets tend to have prepayments that are slower than those in an interest rate
sensitivity gap and would increase the negative gap position. Conversely, during
a period of falling interest rates, the Company's assets would tend to prepay
faster than originally expected thus decreasing the negative gap. In addition,
some of the Company's assets, such as adjustable rate mortgages, have caps on
the amount by which their interest rates can change in any single period, and
therefore may not reprice as quickly as liabilities in the same maturity
category.
The following table sets forth the amounts of interest-earning assets
and interest-bearing liabilities outstanding at September 30, 1996 which are
expected to mature or reprice in each of the time periods shown.
<TABLE>
<CAPTION>
Over one Over five
One year through through ten Over ten
or less five years years years Total
---------- ------------ ------------- ---------- -------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Interest-Earning Assets (1):
Mortgage loans held for
investment............................... $45,668 $13,276 $10,104 $29,779 $98,827
Mortgage loans held for
sale..................................... 187,019 58,358 42,701 364,436 652,514
Other mortgage loans........................ 17,748 -- -- -- 17,748
Construction loans....................... 60,960 -- -- -- 60,960
Commercial real estate 7,615 6,673 -- -- 14,288
loans..................................
Commercial loans......................... 21,148 5,120 -- -- 26,268
Consumer loans........................... 8,242 14,228 10,648 -- 33,118
FHLB stock.................................. 20,500 -- -- -- 20,500
Other investments........................... 405 500 -- -- 905
------------- ------------- ------------- ------------- -------------
Total.................................... 369,305 98,155 63,453 394,215 925,128
Interest-Bearing Liabilities (2):
Passbook savings............................ 52,511 -- -- -- 52,511
Savings certificates........................ 386,326 92,782 -- -- 479,108
Demand deposits............................. 45,295 -- -- -- 45,295
------------- ------------- ------------- ------------- -------------
Total deposits......................... 484,132 92,782 576,914
Other borrowings............................ 186,356 13,500 -- -- 199,856
------------- ------------- ------------- ------------- -------------
Total.................................... 670,488 106,282 -- -- 776,770
Off-Balance Sheet:
Commitments to sell loans................... 652,112 (85,325) (73,613) (493,175) --
Commitments to originate loans.............. (336,614) 39,147 37,480 259,988 --
------------- ------------- ------------- ------------- -------------
Total.................................... 315,498 (46,178) (36,133) (233,187) --
Interest sensitivity gap.................... $ 14,315 $ (54,305) $ 27,320 $ 161,028 $ 148,358
=============
Cumulative gap.............................. $ 14,315 $ (39,990) $ (12,670) $ 148,358
============= ============= ============= =============
Cumulative gap as a percentage of
total interest-earning assets............ 1.55% (4.32)% (1.37)% 16.04%
============== ============= ============= =============
</TABLE>
44
<PAGE>
- --------------
(1) Fixed-rate loans are distributed based on their contractual maturity
adjusted for projected or anticipated prepayments, and variable rate loans
are distributed based on the interest rate reset date and contractual
maturity adjusted for prepayments. Loan run-off and repricing assumes a
constant prepayment rate based on coupon rate and maturity.
(2) Passbook savings and demand deposits are presented in the earliest
repricing period since amounts in these accounts are subject to withdrawal
on demand. Savings certificates are distributed assuming no withdrawal
prior to maturity.
Effect of New Accounting Standards
In October 1995, the Financial Accounting Standards Board ("FASB")
issued SFAS No. 123, "Accounting for Stock-Based Compensation," which defines a
fair value based method of accounting for an employee stock option or similar
equity instrument and encourages adoption of that method for all employee stock
compensation plans. However, SFAS No. 123 also allows an entity to continue to
measure compensation cost for those plans using the intrinsic value based method
currently being followed and make pro forma disclosures of net earnings and
earnings per share under the fair value based method of accounting. This
statement is effective for financial statements with fiscal years beginning
after December 15, 1995, with earlier application encouraged. See "Management --
Stock Option and Incentive Plan." Implementation of SFAS No. 123 is not expected
to have a significant effect on the Company. See Note 20 of Notes to
Consolidated Financial Statements.
In June 1996, the FASB issued SFAS No. 125, "Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities." SFAS No.
125 requires that, after a transfer of financial assets, an entity recognize the
financial and servicing assets it controls and the liabilities it has incurred,
derecognize financial assets when control has been surrendered, and derecognize
liabilities when extinguished. SFAS No. 125 is intended to provide consistent
standards by which a company may distinguish transfers of financial assets that
are sales from transfers that are secured borrowings. SFAS No. 125 is effective
for transfers and servicing of financial assets and extinguishment of
liabilities occurring after December 31, 1996, and is to be applied
prospectively. Earlier or retroactive application is not permitted.
Implementation of SFAS No. 125 is not expected to have a significant effect on
the Company.
Impact of Inflation and Changing Prices
The Consolidated Financial Statements and Notes thereto presented
herein have been prepared in accordance with generally accepted accounting
principles, which require the measurement of financial position and operating
results in terms of historical dollars without considering the changes in the
relative purchasing power of money over time due to inflation. The impact of
inflation is reflected in the increased cost of the Company's operations. Unlike
most industrial companies, nearly all the assets and liabilities of the Company
are monetary in nature. As a result, interest rates have a greater impact on the
Company's performance than do the effects of general levels of inflation.
Interest rates do not necessarily move in the same direction or to the same
extent as the prices of goods and services.
Temporary Change in Tax Status
Both the Company and the Bank intend to elect to be treated for
federal income tax purposes as a single S corporation effective retroactive to
January 1, 1997. This type of election, including an election by a financial
institution such as the Bank, was not allowed prior to January 1, 1997. As a
result of the election, neither the Company nor the Bank will be subject to
federal income taxes on current earnings, although they may be subject to a
"built-in gains" tax at the highest marginal federal corporate tax rate for
sales of certain assets in excess of their cost bases. The Company does not
anticipate that this tax election will have a significant adverse effect on the
financial condition or results of operations of the Company. Because S
corporation treatment is only allowed if, among other things, such corporation
does not have more than 75 stockholders, and because the Company is expected to
have more than 75 stockholders as a result of the Offering, it is expected that
the S corporation election, if made, will be terminated upon consummation of the
Offering.
45
<PAGE>
BUSINESS
General
The Company is a Michigan-based thrift holding company which is one
of the largest originators of conforming single-family mortgage loans in the
United States. Formerly known as FSSB Holding Corporation, the Company engages,
through its principal subsidiary, the Bank, in the business of providing a full
range of retail banking services in southern Michigan and in originating,
purchasing and servicing residential mortgage loans on a nationwide basis. For
1996, the Company ranked third among thrifts in mortgage loan originations,
fourth in the United States among all lenders in wholesale mortgage loan
production and fourteenth in total mortgage loan production, as reported in
Inside Mortgage Finance, and was the largest privately-owned mortgage originator
- -----------------------
in the United States. Prior to this Offering, all of the Common Stock of the
Company has been owned by the Hammond family, which includes Thomas J. Hammond,
the Chairman, Chief Executive Officer and founder of the Company, and Mark T.
Hammond, the Vice Chairman and President of the Company. At September 30, 1996,
the Company had consolidated total assets of $ 1.1 billion, net loans of $ 903.7
million, total deposits of $ 576.9 million and total stockholders' equity of
$72.8 million. For the nine months ended September 30 1996, the Company's net
earnings were $11.3 million and its return on average assets and return on
average equity were 1.37% and 23.30%, respectively.
The Company currently operates in two segments, retail banking and
mortgage banking. The Company believes that its operations in the retail banking
business provide it with a strategic advantage in the mortgage origination
business because it affords the Company access to funding sources which would
not otherwise be available. These additional funding sources include low cost
retail deposits, FHLB advances and escrowed funds. The Company benefits as
compared to mortgage originators with no retail banking operations because it
has access to a lower cost of funds and is able to generate greater net interest
income. See "The Company."
The Company did not have any significant retail banking operations
prior to 1994. See "-- Retail Banking Operations." For further information, see
Note 17 of Notes to Consolidated Financial Statements.
Business Strategy
The Company's strategy consists of the following key elements:
. continue to expand the Company's branch network into
demographically desirable communities adjacent to the Company's
current markets (such as Grand Rapids and Kalamazoo, Michigan)
in order to gain access to additional lower-cost retail funding
sources;
. cross-sell retail banking services to the Company's large
Michigan customer base of present mortgage customers;
. benefit from economies of scale by increasing the size of the
loan servicing portfolio through the continued origination and
purchase of large volumes of mortgage loans on a diversified,
nationwide basis;
. use the additional capital received by the Company from this
Offering to retain more mortgage loan production volume and
mortgage servicing rights, thereby increasing net interest
income and servicing income;
. utilize advanced technology and automated processes throughout
the Company's business to improve customer service, reduce costs
of loan production and servicing and increase efficiencies; and
. outsource selected loan servicing and other functions where
cost-effective.
46
<PAGE>
Technology
The Company makes extensive use of advanced technology and automated
processes in order to enhance the competitiveness and reduce the cost of its
mortgage origination operations. The Company was one of the first mortgage
lenders to utilize video conferencing for loan production. In 1996, the Company
began full-scale operational use of automated underwriting system technologies,
including Fannie Mae's Desktop Underwriter/TM/ and Freddie Mac's Loan
Prospector/TM/ (of which the Company is currently one of the largest users), and
has combined the two technologies into its LIVE/SM/ video conferencing and
underwriting system. The Company believes that this system, which permits a loan
underwriter to interview and complete a loan application and approve a loan for
a prospective borrower in one session during a live video conference, will give
it a significant competitive edge in writing mortgage loans. The Company also
expects that during 1997, substantially all of its mortgage loan production will
be underwritten using automated systems, which it believes will further reduce
overhead, increase customer service and facilitate conformity with underwriting
guidelines.
Lending
The Company originates or acquires loans through its retail banking
operations or through the wholesale, correspondent and retail loan production
outlets of its mortgage banking operations. Loans are either held for investment
in the Company's portfolio or held available for sale in the secondary market.
Wholesale mortgage loan production involves the origination of loans by a
nationwide network of independent mortgage brokers with funding provided
directly by the Company (i.e., table funding) and the transfer of such loans to
the Company upon closing. Correspondent mortgage loan production occurs through
the purchase of loans by the Company from independent mortgage lenders,
commercial banks, savings and loan associations and other financial
intermediaries that originate loans in their own name using their own source of
funds. Retail mortgage loan production for mortgage banking operations occurs
through the Company's loan centers. For the nine months ended September 30,
1996, the Company's combined wholesale and correspondent loan production totaled
$4.8 billion and its retail loan production totaled $532.0 million.
In addition to mortgage loan production, the Company engages to a
limited extent in the origination of commercial, commercial real estate,
construction and consumer loans, primarily through its branches and loan
centers.
47
<PAGE>
The following table sets forth selected data relating to the
composition of the Company's loan portfolio by type of loan at the dates
indicated. This table includes mortgage loans available for sale and mortgage
loans held for investment. At September 30, 1996, the Company had no
concentrations of loans exceeding 10% of total loans that are not otherwise
disclosed below.
<TABLE>
<CAPTION>
At September 30, At December 31,
---------------------------- --------------------------------------------------------
1996 1995 1994
---------------------- ---------------------- --------------------
Amount % Amount % Amount %
------ --- ------ --- ------ ---
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Single-family.............. $ 746,772 83.05% $ 784,980 85.68% $ 554,087 87.92%
Construction............... 60,960 6.78% 48,933 5.34% 25,499 4.05%
Consumer loans............. 33,118 3.68% 39,331 4.29% 19,271 3.06%
Commercial real estate..... 14,288 1.59% 30,504 3.33% 23,383 3.71%
Commercial................. 26,268 2.92% 8,566 0.93% 7,546 1.20%
Other mortgage............. 17,747 1.98% 3,877 0.43% 453 0.06%
-------------- --------- -------------- --------- -------------- --------
Total................... 899,153 100.00% 916,191 100.00% 630,239 100.00%
====== ====== ======
Add (deduct):
Deferred loan fees......... 1,962 1,621 970
Premiums (discounts)....... 5,634 8,223 4,071
Allowance for losses....... (3,026) (2,102) (1,871)
------------- ------------- -------------
Total................... $ 903,723 $ 923,933 $ 633,409
============= ============== ==============
</TABLE>
<TABLE>
<CAPTION>
At December 31,
----------------------------------------------------------------------------------------
1993 1992 1991
--------------------- ---------------------- ---------------------
Amount % Amount % Amount %
------ --- ------ --- ------ ---
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Single-family.............. $ 384,819 93.36% $ 217,360 90.95% $ 122,211 80.46%
Construction............... 19,864 4.82% 20,181 8.44% 28,795 18.96%
Consumer loans............. 11 0.00% 18 0.01% 30 0.02%
Commercial real estate..... 864 0.21% 1,199 0.50% 849 0.56%
Commercial................. 6,167 1.50% 239 0.10% -- -- %
Other mortgage............. 478 0.11% -- -- % -- -- %
------------- --------- ------------- --------- ------------- -------
Total................... 412,203 100.00% 238,997 100.00% 151,885 100.00%
======= ======= =======
Add (deduct):
Deferred loan fees......... 1,243 680 367
Premiums/(discounts)....... 2,533 226 (141)
Allowance for losses....... (901) (550) (345)
------------- ------------- -------------
Total................... $ 415,078 $ 239,353 $ 151,766
============= ============= =============
</TABLE>
In its wholesale and correspondent lending, the Company competes
nationwide by offering a wide variety of mortgage products designed to respond
to consumer needs and tailored to address market competition. The Company
primarily originates conforming, fixed rate 30-year mortgage loans, which
collectively represented 62.8% of its total loan production for the nine month
period ended September 30, 1996, and 65.8% for the year ended December 31, 1995.
In addition, the Company offers other products, such as adjustable-rate, 5-year
and 7-year balloons and jumbo mortgages as well as loans under various FHA and
Veteran's Administration programs. Mortgage loans originated are primarily for
the purchase of single-family residences, although such loans are also
originated for refinancing of existing mortgages.
Approximately 78% of the mortgage loans originated during 1993 were
refinancings of outstanding mortgage loans. In 1994 and 1995, approximately 44%
and 36% of loans originated, respectively, were refinancings. For the nine
months ended September 30, 1996, approximately 46% of loans were refinancings.
The Company's loan production has, since 1992, increased each successive year,
after excluding the unusual level of refinancing in 1993 that occurred in
response to a low level of interest rates available to consumers over an
extended period of time. To achieve these increases, the Company has expanded
its wholesale loan production division from 18 employees in 1993 to 96 employees
at September 30, 1996.
In addition to single-family mortgage loans, the Company relies upon
its wholesale and correspondent loan production networks for the origination or
purchase of single-family residential construction and consumer loans. Its
retail loan production arises through its branches, which originate commercial,
consumer, commercial real estate and construction loans, and its loan centers,
which originate consumer and home equity loans.
48
<PAGE>
Set forth below is a table summarizing the Company's loan production
of single-family mortgage loans, which comprise the bulk of its loan production,
and other loans for the periods noted.
<TABLE>
<CAPTION>
For the Nine Months Ended
September 30, For the Years Ended December 31,
---------------------------- ---------------------------------------------------
1996 1995 1994 1993
---- ---- ---- ----
Single-family (In thousands)
<S> <C> <C> <C> <C>
Retail................................. $ 531,975 $ 632,696 $ 705,723 $ 1,342,889
Wholesale.............................. 4,417,693 4,562,909 3,014,450 4,877,526
Correspondent.......................... 334,175 -- -- --
---------------- ------------- ------------- -------------
Total single-family.................... 5,283,843 5,195,605 3,720,173 6,220,415
Construction................................ 62,890 101,532 63,383 33,400
Consumer.................................... 35,217 52,199 13,389 380
Commercial real estate...................... 5,065 6,725 10,319 --
Commercial.................................. 1,266 1,681 2,580 --
----------- ------------- ------------- -------------
Total originations..................... $ 5,388,281 $ 5,357,742 $ 3,814,844 $ 6,254,195
================ ============= ============= =============
</TABLE>
The following table sets forth the origination of single-family
mortgage loans for the periods presented by the nature of loan:
<TABLE>
<CAPTION>
For the Nine Months
Ended September 30, For the Years Ended December 31,
----------------------- -----------------------------------------------------
1996 1995 1994 1993
---- ---- ---- ----
<S> <C> <C> <C> <C>
Government (GNMA)..................... $ 307,806 $ 285,293 $ 222,794 $ 166,328
Conventional (FNMA and FHLMC)......... 4,879,252 4,831,108 3,426,620 5,831,993
Jumbo/Non-Conforming.................. 96,785 79,204 70,758 222,094
------------- ------------ ------------ ------------
Total Originations period.......... $ 5,283,843 $ 5,195,605 $ 3,720,172 $ 6,220,415
============= ============ ============ ============
</TABLE>
49
<PAGE>
The following table sets forth certain information at December 31,
1995 regarding the dollar amount of loans held for investment based on their
contractual terms to maturity, including scheduled repayments of principal. The
table does not include any estimate of prepayments which significantly shorten
the average life of all mortgage loans and may cause the Company's repayment
experience to differ from that shown below.
<TABLE>
<CAPTION>
Due after 1 through 5 Due after 5 years
Due by years after after December 31,
December 31, 1996 December 31, 1996 1996 Total
--------------------- ----------------------- ---------------------- ------------------
(In thousands)
<S> <C> <C> <C> <C>
Mortgage loans held for
investment................ $ 3,073 $ 15,362 $ 155,934 $ 174,369
Construction................. 48,933 -- -- 48,933
Consumer..................... 3,670 18,351 17,310 39,331
Commercial real estate....... 9,767 20,737 -- 30,504
Commercial................... 5,669 2,897 -- 8,566
Other mortgage............... 538 2,691 648 3,877
---------------- ---------------- ---------------- ----------------
Total ...................... $ 71,650 $ 60,638 $ 173,892 $ 305,580
================ ================ ================ ================
</TABLE>
The following table sets forth at December 31, 1995, the dollar
amount of all loans held for investment which are due one year or more after
December 31, 1996 which have predetermined interest rates and have floating or
adjustable interest rates.
<TABLE>
<CAPTION>
Predetermined Floating or
Rate Adjustable Rates
----------------- ------------------
(In thousands)
<S> <C> <C>
Mortgage loans held for investment.............. $ 89,219 $ 85,150
Construction.................................... 48,933 --
Consumer........................................ 20,699 18,632
Commercial real estate.......................... 22,448 8,056
Commercial...................................... 1,256 7,310
Other mortgage.................................. 3,877 --
----------- ------------
Total........................................ $ 186,432 $ 119,148
=========== ============
</TABLE>
Retail Banking Operations. The Company's retail banking operation
constitutes a growing part of its overall operations. The principal aspects of
retail banking include deposit-gathering and consumer, residential, and
commercial lending. The Company began to emphasize its retail banking operations
upon its acquisition in 1994 of Security Savings, a federal savings bank located
in Jackson, Michigan. Security Savings was a long standing community institution
which received its charter in 1936. At the time of acquisition, Security Savings
had $228.0 million in assets and six retail banking branches in southern
Michigan with deposits of $197.2 million.
Security Savings was merged into Flagstar Bank on February 1, 1996.
As of September 30, 1996, the Company's retail banking segment had expanded to
include 15 retail bank branches in southern Michigan with deposits of $339
million.
The Company generally has authority to originate and purchase loans
collateralized by real estate located throughout the United States. Consistent
with its emphasis on being a community-oriented financial institution, the
Company concentrates the lending activities of its retail banking operations in
the southern Michigan market areas of its branches.
The Company's loan originations for its retail banking operations are
derived from a number of sources, including referrals by realtors, depositors
and borrowers and advertising, as well as walk-in customers. The Company's
solicitation programs consist of advertisements in local media, in addition to
occasional participation in various community organizations and events. The
Company's loan personnel in its retail banking operations are salaried, and the
Company does not compensate these loan personnel on a commission basis for loans
originated. Loan applications are accepted at all of the Bank's branch offices.
Under applicable law, with certain limited exceptions, outstanding
loans and extensions of credit by a savings institution to a person at one time
shall not exceed 15% of the institution's unimpaired capital and surplus. Loans
and
50
<PAGE>
extensions of credit fully secured by readily marketable collateral may
compromise an additional 10% of unimpaired capital and surplus. Applicable law
additionally authorizes savings institutions to make loans to one borrower, for
any purpose, in an amount not to exceed $500,000 or in an amount not to exceed
the lesser of $30,000,000 or 30% of unimpaired capital and surplus to develop
residential housing, provided: (i) the purchase price of each single-family
dwelling in the development does not exceed $500,000; (ii) the savings
institution is and continues to be in compliance with its fully phased-in
regulatory capital requirements; (iii) the loans comply with applicable
loan-to-value requirements; (iv) the aggregate amount of loans made under this
authority does not exceed 150% of unimpaired capital and surplus; and (v) the
Director of OTS, by order, permits the savings institution to avail itself of
this higher limit. Under these limits, the Company's loans to one borrower were
limited to $10.4 million at September 30, 1996. At that date, the Company had no
lending relationships in excess of the loans-to-one-borrower limit.
Interest rates charged by the Company on loans are affected
principally by competitive factors, the demand for such loans and the supply of
funds available for lending purposes. These factors are, in turn, affected by
general economic conditions, monetary policies of the federal government,
including the Federal Reserve Board, legislative tax policies and government
budgetary matters.
Single-Family Mortgage Lending. The Company's retail banking
operation has historically focused on the origination of single-family,
residential real estate loans in its market area. At September 30, 1996,
single-family mortgage loans totaled approximately $119.6 million, or 47.0% of
the Company's loans held for investment.
The Company acquired a majority of its fixed rate single-family
mortgage loans held for investment through its 1994 acquisition of Security
Savings. In each case, such loans are secured by first mortgages on
single-family, owner-occupied residential real property located in the Company's
market area. At September 30, 1996, $69.4 million, or 58.0%, of the Company's
portfolio of mortgage loans held for investment consisted of fixed-rate mortgage
loans.
The Company also originates residential mortgage loans with
adjustable rates ("ARMs"). As of September 30, 1996, 42.0% of single-family
mortgage loans in the Company's portfolio of mortgage loans held for investment
carried adjustable rates. Such loans are primarily for terms of 30 years,
although the Company does occasionally originate ARMs for other terms, in each
case amortized on a monthly basis with principal and interest due each month.
The interest rates on these mortgages are adjusted once a year, with a maximum
adjustment of 2.0% per adjustment period and a maximum aggregate adjustment of
6.0% over the life of the loan. Rate adjustments on the Company's
adjustable-rate loans are indexed to a rate which adjusts annually based upon
changes in an index based on the weekly average yield on U.S. Treasury
securities adjusted to a constant comparable maturity of one year, as made
available by the Federal Reserve Board, and the adjusted interest rate is equal
to such Treasury rate plus 3.0%. The adjustable-rate mortgage loans offered by
the Company provide for initial rates of interest below the rates that would
prevail when the index used for repricing is applied.
The retention of adjustable-rate loans in the Company's portfolio
helps reduce the Company's exposure to increases in prevailing market interest
rates. However, there are unquantifiable credit risks resulting from potential
increases in costs to borrowers in the event of upward repricing of
adjustable-rate loans. It is possible that during periods of rising interest
rates, the risk of default on adjustable-rate loans may increase due to
increases in interest costs to borrowers. Further, although adjustable-rate
loans allow the Company to increase the sensitivity of its interest-earning
assets to changes in interest rates, the extent of this interest sensitivity is
limited by the initial fixed-rate period before the first adjustment and the
lifetime interest rate adjustment limitations. Accordingly, there can be no
assurance that yields on the Company's adjustable-rate loans will fully adjust
to compensate for increases in the Company's cost of funds.
Commercial and Commercial Real Estate Lending. The Company originates
commercial loans on a selected basis and in limited amounts for retention in its
portfolio. At September 30, 1996, the Company had $4.4 million in commercial
loans associated with its retail banking operations, which comprised 1.7% of its
loans held for investment and are primarily inventory and other business loans
to small businesses in the Company's southern Michigan market area.
51
<PAGE>
Also as part of the Company's retail banking operations the Company
makes commercial real estate loans in its southern Michigan market area. At
September 30, 1996, there were $14.3 million in commercial real estate loans
outstanding, which comprised 5.6% of total loans held for investment and 1.58%
of total loans. Such loans are generally made to small businesses in the
Company's southern Michigan market area.
Commercial real estate loans are generally underwritten in amounts of
up to 75% of the appraised value of the underlying property. Appraisals on
properties securing commercial real estate loans originated by the Company are
performed by an independent fee appraiser designated by the Company before the
loan is made. All appraisals for commercial real estate loans are reviewed by
the Company's management.
Underwriting procedures include an analysis of the property,
borrower, market and levels of risks. Underwriting procedures require
verification of the borrower's credit history, financial statements, references
and income projections for the property. All commercial real estate loans in
excess of $500,000 must be approved by the Company's Executive Loan Committee.
The Company's commercial real estate loans are secured by the property and, in
many circumstances, require the borrower to be personally liable for all or a
portion of the loan. The Company's lending policy requires that commercial real
estate properties securing loans be inspected at least annually. In addition,
the Company reviews updated financial information regarding the borrower on a
regular basis.
Commercial and commercial real estate loans generally present a
higher level of risk than do loans secured by one- to four-family residences.
This greater risk is due to several factors, including the concentration of
large amounts of principal in a limited number of loans and borrowers, the
effects of general economic conditions on commercial properties, and the
difficulty of evaluating and monitoring these types of loans. Furthermore, the
repayment of loans secured by commercial real estate is typically dependent upon
the successful operation of the related real estate project. If the cash flow
from the project is reduced (for example, if leases are not obtained or
renewed), the borrower's ability to repay the loan may be impaired.
Consumer Loans. Consumer loans originated by the Company include
passbook loans and home equity loans. Such loans are generally consumer loans
secured by personal property or home equity loans. At September 30, 1996, the
Company's consumer loans totaled $33.1 million, or 13.0%, of the Company's loans
held for investment of which $22.9 million were home equity loans.
Consumer loans tend to be originated at higher interest rates than
mortgage loans and for shorter terms. However, consumer loans generally involve
more risk than single-family mortgage loans. Repossessed collateral for a
defaulted loan may not provide an adequate source of repayment of the
outstanding loan balance as a result of damage, loss or depreciation, and the
remaining deficiency often does not warrant further substantial collection
efforts against the borrower. In addition, loan collections are dependent on the
borrower's continuing financial stability and thus are more likely to be
adversely affected by job loss, divorce, illness or personal bankruptcy.
Further, the application of various federal and state laws, including federal
and state bankruptcy and insolvency laws, may limit the amount which may be
recovered. In underwriting consumer loans, the Company considers the borrower's
credit history, an analysis of the borrower's income and ability to repay the
loan, and the value of the collateral.
Mortgage Banking Operations. The Company actively participates in the
mortgage banking market, ranking fourteenth in the United States in total
mortgage loan production for 1996. Mortgage banking generally involves the
origination or purchase of single-family mortgage loans for sale in the
secondary mortgage market. The secondary mortgage market and its evolution have
been significantly influenced by two government-sponsored enterprises, Fannie
Mae and Freddie Mac, and one government agency, GNMA (collectively, the
"Agencies"). Through these entities, the United States government provides
support and liquidity to the market for residential mortgage debt.
Mortgage originators sell their loans directly to Fannie Mae and
Freddie Mac either as whole loans or, more typically, as pools of loans used to
collateralize mortgage-backed securities ("MBS") issued or guaranteed by these
entities. Similarly, the originators can issue MBS collateralized by pools of
loans that are guaranteed by GNMA. In order to arrange these sales or obtain
these guarantees, the originator must underwrite its loans to conform
("conforming loans") with standards established by Fannie Mae and Freddie Mac or
by the FHA or VA in the case of GNMA. All loans other than FHA and VA loans
("government loans") are considered conventional loans. Loans
52
<PAGE>
with principal balances exceeding Agency guidelines ("jumbo loans"), currently
those in excess of $214,600, are sold to private investors.
Mortgage bankers operate in a highly competitive market. The
underwriting guidelines and servicing requirements set by the participants in
the secondary markets are standardized. As a result, mortgage banking products
(i.e., mortgage loans and the servicing of these loans) have become difficult to
differentiate. Therefore, mortgage bankers compete primarily on the basis of
price or service, making effective cost management essential. Mortgage bankers
generally seek to develop cost efficiencies in one of two ways: economies of
scale or specialization. Large, full-service national or regional mortgage
bankers such as the Company have sought economies of scale through an emphasis
on wholesale originations and the introduction of automated processing systems.
The Company pursues its loan production strategy as part of its
mortgage banking operations through the Company's wholesale, correspondent and
retail loan production outlets and, to a limited extent, through direct
solicitation of commercial banks, savings associations and credit unions.
Wholesale Loan Production. Under its wholesale operations, the
Company funds mortgage loans originated by a network of approximately 1,800
independent mortgage brokers nationwide. Approximately 1,200 of these brokers
originate mortgage loans for the Company on a monthly basis and 1,800 originate
mortgage loans for the Company on a quarterly basis. This network is maintained
by the Company's approximately sixty regional account executives, who are
compensated through a salary and commission package. Many of the larger brokers
are provided with loan data entry software by the Company for the entry of loan
applicant data in a format familiar to the Company's underwriters and for
transmission to the Company's automated underwriting systems for review. All
loans originated through brokers are underwritten according to the Company's
standards.
The Company's underwriters or contract representatives review the
loan data provided by the loan applicant, including the review of appropriate
loan documentation, and request additional information as necessary from the
broker. To speed the information gathering phase of underwriting and thus the
loan approval process, the Company is utilizing an interview process referred to
as LIVE/SM/ underwriting, which involves an interview of the potential borrower
directly by a Company underwriter using its proprietary combination of computer
video technology and automated underwriting technology. To date, the Company
believes that approximately 20% of the applications generated by its wholesale
loan production network use the LIVE/SM/ technology. Loans originated by such
brokers are typically funded directly by the Company through table funding
arrangements. In most cases, the loan is closed in the broker's name and
thereafter transferred to the Company together with related mortgage servicing
rights for which the Company generally pays a servicing release premium which is
included in the loan price paid to the broker by the Company. Broker
participants in this program are prequalified on the basis of creditworthiness,
mortgage lending experience and reputation. Each broker is subject to annual and
ongoing reviews by the Company.
Correspondent Loan Production. In addition, the Company acquires
mortgage loans from mortgage lenders, commercial banks, savings and loan
associations and other financial intermediaries. Correspondents have a separate
approval process and higher net worth requirements than wholesale brokers and
use their own source of funds to close loans. The prices of such loan
acquisitions are separately negotiated. Warehouse lines of credit, obtained from
either the Company or other parties, may be used by the mortgage lenders to
finance their respective mortgage loan originations. At September 30, 1996, the
aggregate amount of warehouse lines of credit granted by the Company to its
correspondents was $71.6 million, of which $21.9 million was outstanding.
Independent lenders who obtain warehouse lines of credit from the Company are
not required by the terms of such lines to sell their loan production to the
Company. All loans acquired from correspondents are expected to satisfy the
Company's underwriting standards and may be subject to repurchase by the
correspondent in the event of default of the loan due to fraud or
misrepresentation in the origination process and for certain other reasons,
including the failure to satisfy underwriting requirements imposed by the
Company.
Retail Loan Production. The Company's retail loan production involves
the origination of loans through its branch network, which includes its branches
and its loan centers. The Company has 28 loan centers located in southern
Michigan, Ohio and California. These loan centers originate primarily
single-family mortgage loans and, to a lesser extent, construction and home
equity loans. Such loan centers generally provide the Company with a source
53
<PAGE>
of loan production at a lower cost per loan than loans acquired through brokers
or correspondents because the cost of operating such branches is more than
offset by cost savings through the Company's ability to avoid payment of the
servicing release premium for the related mortgage servicing rights. Managers of
loan centers and loan officers are compensated solely on a commission basis as
measured by loan production.
To encourage loan production, the Company allows managers of loan
centers to elect to operate their respective centers as "100% offices," subject
to approval by the Company. Such offices are treated for incentive compensation
purposes as free-standing operations where each office is responsible for its
own operating expenses. Each office is required to satisfy minimum loan
production levels. The manager receives compensation based on the offices
profitability. As of September 30, 1996, 14 loan centers were operated as 100%
offices.
Commercial Lending. Warehouse lines are granted under the Company's
correspondent lending program and are a major component of the Company's
commercial lending strategy. Warehouse lines of credit are used by
correspondents to fund loan production which for the most part are acquired by
the Company. At September 30, 1996 the aggregate amount of warehouse lines of
credit granted by the Company to its correspondents was $71.6 million of which
$21.9 million was outstanding. Correspondents have a separate approval process
and higher net worth requirements than wholesale brokers. All loans acquired
from correspondents are expected to satisfy the Company's underwriting standards
and may be subject to repurchases by the correspondent in the event of default
of the loan due to fraud or misrepresentation in the origination process and for
certain other reasons, including the failure to satisfy underwriting
requirements imposed by the Company.
Construction Lending. The Company also engages in construction
lending involving loans to individuals for construction of one- to- four-family
residential housing primarily located within the Company's southern Michigan
market area, with such loans converting to permanent financing upon completion
of construction. At September 30, 1996, the Company's portfolio of loans held
for investment included $61.0 million of net loans secured by properties under
construction, or 24.0% of loans held for investment. These loans may be
construction/permanent loans structured to become permanent loans upon the
completion of construction, or may be interim construction loans structured to
be repaid in full upon completion of construction and receipt of permanent
financing. All construction loans are secured by a first lien on the property
under construction. Loan proceeds are disbursed in increments as construction
progresses and as inspections warrant. Construction/permanent loans may have
adjustable or fixed interest rates and are underwritten in accordance with the
same terms and requirements as the Company's permanent mortgages, except the
loans generally provide for disbursement in stages during a construction period
of up to nine months, during which period the borrower is required to make
interest-only monthly payments. Monthly payments of principal and interest
commence one month from the date the loan is converted to permanent financing.
Borrowers must satisfy all credit requirements that would apply to the Company's
permanent mortgage loan financing prior to receiving construction financing for
the subject property.
Construction financing generally is considered to involve a higher
degree of risk of loss than long-term financing on improved, occupied real
estate. Risk of loss on a construction loan is largely dependent upon the
accuracy of the initial estimate of the property's value at completion of
construction or development and the estimated cost (including interest) of
construction. During the construction phase, a number of factors could result in
delays and cost overruns. If the estimate of construction costs proves to be
inaccurate, the Company may be required to advance funds beyond the amount
originally committed to permit completion of the development. If the estimate of
value proves to be inaccurate, the Company may be confronted, at or prior to the
maturity of the loan, with a project having value which is insufficient to
assure full repayment. The ability of the developer to sell developed lots or
completed dwelling units will depend on, among other things, demand, pricing,
availability of comparable properties and economic conditions. The Company has
sought to minimize this risk by limiting construction lending to qualified
borrowers in the Company's southern Michigan market area, by requiring the
involvement of qualified builders, and by limiting the aggregate amount of
outstanding construction loans.
54
<PAGE>
Secondary Marketing
The Company sells a significant portion of the mortgage loans that it
originates or purchases through its mortgage and retail banking operations while
retaining the servicing rights to such loans. During the nine months ended
September 30, 1996 and year ended December 31, 1995, the Company originated $5.3
billion and $5.2 billion in total mortgage loans, respectively, and sold $5.2
billion and $4.8 billion of mortgage loans, respectively, in the secondary
market. Mortgage loans are aggregated into pools and sold, or are sold as
individual mortgage loans, to investors principally at prices established at the
time of sale or under forward sales commitments. Conforming conventional
mortgage loans are generally pooled and exchanged under the purchase and
guarantee programs sponsored by Fannie Mae and Freddie Mac and GNMA for Fannie
Mae MBS, Freddie Mac MBS or GNMA MBS, respectively. A limited number of mortgage
loans (i.e. non-conforming loans) are sold to other institutional and
non-institutional investors. For the nine months ended September 30, 1996, a
significant portion of such loans were exchanged for Fannie Mae and Freddie Mac
securities. The remainder were sold to other institutional and non-institutional
investors.
The Company exchanges and sells mortgage loans on a non-recourse
basis. In connection with the Company's loan exchanges and sales, the Company
makes representations and warranties customary in the industry relating to,
among other things, compliance with laws, regulations and program standards, and
to accuracy of information. In the event of a breach of those Company
representations and warranties, the Company typically corrects such flaws. If
the flaws cannot be corrected, the Company may be required to repurchase such
loans. See "-- Allowance for Losses." In cases where loans are acquired from a
broker or correspondent and there have been material misrepresentations made to
the Company, the Company has the right to resell the flawed loan back to the
broker or correspondent. Otherwise, such loans are refinanced or the Company is
indemnified against loss on such loans by the broker. In addition, the Company
relies upon contract underwriters for a portion of its loan production, and
these underwriters must indemnify the Company for loans which are eventually
determined to have been flawed upon origination.
The following table sets forth the activity in the Company's mortgage
loans available for sale and its loans held for investment in its portfolio.
<TABLE>
<CAPTION>
For The Nine Months
Ended September 30, For The Years Ended December 31,
--------------------------- ------------------------------------------------------
1996 1995 1994 1993
---- ---- ---- ----
Available For Sale: (In thousands)
- ------------------
<S> <C> <C> <C> <C>
Beginning balance......................... $ 620,455 $ 205,480 $ 389,073 $ 218,266
Originations.............................. 5,283,843 5,195,605 3,624,487 6,220,415
Sales ................................... (5,227,183) (4,760,806) (3,551,319) (6,034,828)
Amortizations............................. (24,601) (204,935) (150,500) (14,780)
Transfer (to) from held for
investment........................... -- 185,111 (106,261) --
-------------- --------------- -------------- --------------
Ending balance............................ $ 652,514 $ 620,455 $ 205,480 $ 389,073
=============== =============== =============== ===============
Held for Investment:
- -------------------
Beginning balance......................... $ 305,580 $ 429,800 $ 26,906 $ 21,636
Originations.............................. 104,438 162,137 190,357 33,780
Amortizations............................. (155,783) (101,246) (40,627) (28,510)
Acquired through acquisition.............. -- -- 146,903 --
Transfer (to) from available for
sale................................. -- (185,111) 106,261 --
--------------- --------------- --------------- ---------------
Ending balance............................ $ 254,235 $ 305,580 $ 429,800 $ 26,906
=============== =============== =============== ===============
</TABLE>
55
<PAGE>
The Company assesses the interest rate risk associated with
outstanding commitments that it has extended to fund loans and hedges the
interest rate risk of these commitments based upon a number of factors,
including the remaining term of the commitment, the interest rate at which the
commitment was provided, current interest rates and interest rate volatility.
These factors are monitored on a daily basis, and the Company adjusts its
hedging on a daily basis as needed. The Company hedges its "available for sale"
mortgage loan portfolio and its interest rate risk inherent in its unfunded
mortgage commitments (its "mortgage pipeline") primarily through the use of
forward sale commitments. Under such commitments, the Company enters into
commitments with terms of not more than 90 days to sell these loans to Freddie
Mac and Fannie Mae. In addition, the Company occasionally establishes futures
positions in U.S. Treasury bonds under which the Company contracts to sell
notional principal contracts. At September 30, 1996, the Company did not have
any open futures positions. See "Management's Discussion and Analysis of Changes
in Financial Condition and Results of Operations -- Results of Operations -- Net
Gain on Loan Sales and Sales of Mortgage Servicing Rights."
Asset Quality
The Company is exposed to certain credit risks related to the value
of the collateral that secures loans held in its portfolio which include loans
held for investment and loans which are required to be repurchased from Fannie
Mae and Freddie Mac or other investors, and the ability of borrowers to repay
their loans during the term thereof. The Company has a Credit Committee, which
is comprised of senior officers of the Company, that closely monitors the loan
and real estate owned portfolios for potential problems on a continuing basis
and reports to the Board of Directors of the Company at regularly scheduled
meetings.
The Company also has established an Asset Classification Committee
comprised of senior management. This committee reviews the classification of
assets and reviews the allowance for losses. This committee reviews all assets
and periodically reports its findings directly to the Board of Directors of the
Company. The asset classification policy sets forth certain requirements with
respect to how to classify certain assets. The Company also has a Quality
Control Department, the function of which is to provide to the Board of
Directors of the Company an independent ongoing review and evaluation of the
quality of the process by which lending assets are generated.
Non-performing assets consist of non-accrual loans and real estate
owned. Loans are usually placed on non-accrual status when the loan is past due
90 days or more, or the ability of a borrower to repay principal and interest is
in doubt. Real estate acquired by the Company as a result of foreclosure is
classified as real estate owned until such time as it is sold. The Company
generally tries to sell the property at a price no less than its net book value,
but will consider discounts where appropriate to expedite the return of the
funds to an earning status. When such property is acquired, it is recorded at
its fair value less estimated costs of sale. Any required write-down of the loan
to its appraised fair market value upon foreclosure is charged against the
allowance for losses.
The Company establishes an allowance for loan losses based upon a
quarterly or more frequent evaluation by management of various factors including
the estimated market value of the underlying collateral, the growth and
composition of the loan portfolio, current delinquency trends and prevailing and
prospective economic conditions, including property values, employment and
occupancy rates, interest rates and other conditions that may affect borrowers'
abilities to comply with repayment terms. If actual losses exceed the amount of
the allowance for loan losses, earnings could be adversely affected. As the
Company's provision for loan losses is based on management's assessment of the
general risk inherent in the loan portfolio based on all relevant factors and
conditions, the allowance for loan losses represents general, rather than
specific, reserves.
56
<PAGE>
The following table sets forth information with respect to the
Company's non-performing assets at the dates indicated. No loans were recorded
as restructured loans within the meaning of SFAS No. 15 at the dates indicated.
The increase in the mortgage loan category is attributable in large part to the
Company's required repurchase of non-performing loans from Freddie Mac and
Fannie Mae but also resulted from the effects of a significant increase in loan
originations in the previous three years. See "Management's Discussion and
Analysis of Changes in Financial Condition and Results of Operation -- Financial
Condition -- Allowance for Losses."
<TABLE>
<CAPTION>
At
September 30, At December 31,
-----------------------------------------------------------------------
1996 1995 1994 1993 1992 1991
---------------- ---- ---- ---- ---- ------
(Dollars in thousands)
Loans accounted for on a
non-accrual basis:
<S> <C> <C> <C> <C> <C> <C>
Mortgage loans held for
investment...................... $ 27,761 $ 10,096 $ 1,477 $ 1,314 $ 1,179 $ 1,617
Construction...................... 3,259 -- 140 140 650 163
Commercial........................ 158 464 57 88 210 210
Consumer.......................... 473 126 65 7 10 130
----------- ----------- ----------- ------------- ------------- -----------
Total non-performing loans...... 31,651 10,686 1,739 1,549 2,049 2,120
Real estate owned..................... 4,373 2,359 1,271 1,249 802 826
----------- ----------- ----------- ------------- ------------- -----------
Total non-performing assets..... $ 36,024 $ 13,045 $ 3,010 $ 2,798 $ 2,851 $ 2,946
=========== =========== =========== ============= ============= ===========
</TABLE>
If non-accrual loans at December 31, 1995 had been current according
to their original terms and had been outstanding throughout 1995, or since
origination if originated during the year, interest income on these loans for
1995 would have been $862,000. Interest actually recognized on these loans
during 1995 was not significant.
At September 30, 1996, the Company did not have any loans which are
not currently classified as non-accrual, 90 days past due or restructured and
where known information about possible credit problems of borrowers caused
management to have serious concerns as to the ability of the borrowers to comply
with present loan repayment terms. At September 30, 1996, the Company had $3.9
million of impaired loans pursuant to SFAS No. 114, as amended by SFAS No. 118.
Historically, the Company has incurred minimal losses from its
residential mortgage loan production. Net charge-offs as a percentage of average
loans outstanding declined from 0.11% in 1991 to 0.00% in 1995, and rose
slightly during the first nine months of 1996 to 0.02%. Over this period non-
performing assets as a percentage of total assets ranged from 1.68% in 1991 to a
low of 0.42% in 1994 and increased to 3.37% at September 30, 1996. The 1996
increase resulted primarily from increased repurchases of delinquent residential
mortgage loans from secondary market investors. Although the Company generally
does not sell loans with recourse, it typically is required to repurchase
delinquent and defaulted loans which were not underwritten strictly in
compliance with the underwriting standards of secondary market investors. As the
volume of the Company's new loan production has increased over the past several
years, the level of loan delinquencies and foreclosures has also increased,
thereby increasing the number of loans potentially subject to repurchase. In
addition, during 1996 two of the largest secondary market purchasers of loans
implemented automated underwriting review systems which enabled them to review
delinquent loans on a much faster basis, thereby accelerating the process of
returning to the Company loans originated in prior periods.
It has been the Company's experience that non-performing loans do not
necessarily result in an ultimate loss to the Company. Approximately 88% of the
Company's non-performing loans at September 30, 1996 were residential mortgage
loans (94% at December 31, 1995), which generally represent minimal risk of
ultimate loss because of low loan-to-value ratios, private mortgage insurance
for loans with over-80% loan-to-value ratios and insurance on certain loans from
the FHA and VA. In addition, the Company may also have the right to sell the
repurchased loan back to the broker or correspondent which originated it, or to
seek indemnity from the applicable mortgage insurance company in the case of
loans which are underwritten on a contract basis for the Company by such
insurers.
The Company anticipates that its level of loan repurchases and
non-performing assets may continue to be above historical levels during 1997 as
a result of the factors described above. As a result of several actions taken by
the Company during 1996, however, including a tightening of credit standards and
the implementation of automated underwriting systems (which do not permit
secondary market investors to require repurchase of loans absent material
misrepresentation), the Company anticipates that the level of loan repurchases
will decline over time.
57
<PAGE>
The Company experienced an increase in its non-performing
construction loans from December 31, 1995 to September 30, 1996 from zero to $3
million. This increase was the result of a significant increase in the single
family residential construction loans originated in the period subsequent to
December 31, 1994. During the years ended December 31, 1994 and 1995 the
origination of such loans increased from $68.4 million to $101.5 million,
respectively. Approximately two-thirds of the non-performing construction loans
resulted from a particular construction lending program which was determined to
be problematic. The program has been discontinued and, with the exception of two
loans totaling approximately $450,000, all other loans originated under the
program have been paid off.
The Company's repossessed assets were $4.4 million at September 30,
1996, compared with $2.4 million and $1.3 million at December 31, 1995 and 1994,
respectively, representing an increase of 84.6% from December 31, 1994 to 1995,
and 83.3% from December 31, 1995 to September 30, 1996. Total non-accrual loans
increased from $1.7 million at December 31, 1994 to $10.7 million at December
31, 1995, of which single family loans increased from $1.5 million to $10.1
million over the respective dates. Each of these increases are consistent with
the Company's experience with non-performing loans and are generally the result
of the significantly higher loan origination volume in the period beginning in
1993 which has resulted in a higher dollar volume of non-performing loans,
defaults and subsequently repossessed assets. However, as a proportion of loans
originated, such is well within management's acceptable levels.
The Company's allowance for loan losses increased to $3.0 million at
September 30, 1996 from $2.1 million at December 31, 1995. The Company's ratio
of allowance for losses to non-accrual loans, however, declined to 9.56% at
September 30, 1996 from 19.67% at December 31, 1995. Because 87.7% of the
non-accrual loans at September 30, 1996 were single-family mortgages, the
allowance required is lower. Of the remaining 12.3% of non-accrual loans, 10.4%
is represented by $3.3 million of construction loans. Historically, the
Company's experience with loan losses on single family loans held in portfolio
or repurchased from investors has been low. The high collateral value, private
mortgage insurance and the ability to seek recoveries from the correspondent
lenders have resulted in a consistently low charge-off record and consequently
management believes that the allowance for losses is adequate to cover the
losses currently inherent in the loan portfolio. Future changes in economic
conditions or interest rates, however, could require additional reserves.
The Company's allowance for losses increased to $2.1 million at
December 31, 1995 from $1.9 million at December 31, 1994. The Company's ratio of
allowance for losses to non-accrual loans, however, declined to 19.67% at
December 31, 1995 from 107.6% at December 31, 1994.
58
<PAGE>
The following table sets forth an analysis of the Company's
consolidated allowance for losses and ratio of net charge-offs for the periods
indicated.
<TABLE>
<CAPTION>
For the Nine Months Ended
September 30, For the Years Ended December 31,
---------------------------- ---------------------------------------------------------------
1996 1995 1995 1994 1993 1992 1991
---- ---- ---- ---- ---- ---- ----
(In thousands)
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at beginning of period.... $ 2,102 $ 1,871 $ 1,871 $ 901 $ 550 $ 345 $ 175
Charge-offs, net of
recoveries....................... (216) 24 (7) (321) (293) (175) (173)
Provision......................... 1,140 189 238 290 644 380 343
Provision acquired in
acquisition.................. -- -- -- 1,001 -- -- --
----------- ----------- ----------- ----------- ----------- ----------- -----------
Balance at end of period.......... $ 3,026 $ 2,084 $ 2,102 $ 1,871 $ 901 $ 550 $ 345
=========== =========== =========== =========== =========== =========== ===========
Ratio of net charge-offs to average
loans outstanding during the
period....................... 0.02% 0.00% 0.00% 0.08% 0.08% 0.09% 0.11%
========== ========== ========== ========== ========== ========== ==========
</TABLE>
The following table sets forth the breakdown of the allowance for
losses by loan category at the dates indicated. Management believes that the
allowance can be allocated by category only on an approximate basis, and
therefore allocation of the allowance to each category is not necessarily
indicative of future losses and does not restrict the use of the allowance to
absorb losses in any category. The unallocated portion of the allowance
represents an amount that is not specifically allocable to one of the held for
investment loan portfolios. In addition to being utilizable for future losses in
the held for investment portfolio, such unallocated amount may be utilized for
the held for sale loan portfolio and for the potential losses arising from loans
serviced for others.
<TABLE>
<CAPTION>
At December 31,
--------------------------------------------------------------------------
At September 30, 1996 1995 1994 1993
---------------------- ---------------------- ---------------------- ----------------------
Percent of Percent of Percent of Percent of
Loans in Loans in Loans in Loans in
Each Each Each Each
Category to Category to Category to Category to
Amount Total Loans Amount Total Loans Amount Total Loans Amount Total Loans
------ ----------- ------ ----------- ------ ----------- ------ -----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Mortgage loans held
for investment...... $ 503 47.04% $ 326 58.33% $ 820 82.39% $ -- 0.00%
Construction............. 610 23.98% 367 16.01% 191 5.93% 149 73.83%
Consumer................. 331 13.03% 393 12.87% 193 4.48% -- 0.04%
Commercial............... 131 10.33% 43 2.81% 38 1.76% 31 22.92%
Commercial real estate... 143 5.62% 305 9.98% 234 5.44% 9 3.21%
Unallocated.............. 1,308 0.00% 668 0.00% 395 0.00% 712 --
-------- ----------- -------- ----------- -------- ----------- -------- -----------
Total allowance
for losses.......... $ 3,026 100.00% $ 2,102 100.00% $ 1,871 100.00% $ 901 100.00%
======== ========== ======== ========== ======== ========== ======== ========
</TABLE>
<TABLE>
<CAPTION>
1992 1991
-------------------------------- ------------------------------------
Percent of Loans Percent of Loans
in Each Category in Each Category
Amount to Total Loans Amount to Total Loans
------ ---------------- ------ ----------------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Mortgage loans held for investment...... $ -- 0.00% $ -- 0.00%
Construction............................ 96 93.27% 160 97.04%
Consumer................................ 2 0.08% 5 0.10%
Commercial.............................. 1 1.10% -- 0.00%
Commercial real estate.................. 181 5.55% 50 2.86%
Unallocated............................. 270 0.00% 130 0.00%
----------- ---------- ----------- ----------
Total allowance for losses.............. $ 550 100.00% $ 345 100.00%
=========== ========== =========== ==========
</TABLE>
59
<PAGE>
At September 30, 1996, the Company's percentage of allowance for
losses to loans for its mortgage loans held for investment and its construction,
consumer, commercial and commercial real estate loans held for investment were
0.42%, 1.00%,1.00%,0.50% and 1.00%, respectively.
Underwriting
The Company's mortgage loans are underwritten either in accordance
with applicable Fannie Mae, Freddie Mac and FHA/VA guidelines or with
requirements set by other investors.
All mortgage loans originated or acquired by the Company, whether
through its retail loan centers or through its wholesale or correspondent
networks, must satisfy the Company's underwriting standards. Further, all such
loans are underwritten by the Company, although the Company permits a few
originating correspondent lenders operating under the Company's delegated
underwriting program to perform initial underwriting reviews. The Company
employs an automated underwriting process on most loans that is based upon data
provided through the Company's initial loan data entry software and is available
from Fannie Mae through its Desktop Underwriter/TM/ software and from Freddie
Mac through its Loan Prospector/TM/ software. This process incorporates credit
scoring and an appraisal evaluation system, which in turn employs rules-based
and statistical technologies to evaluate the borrower, property and the sale of
the loan in the secondary market. This process is intended to reduce processing
and underwriting time, to improve overall loan approval productivity, to improve
credit quality and to reduce potential investor repurchase requests. Further,
approximately one-third of the Company's loans are underwritten on a contractual
basis by mortgage insurance companies, in their capacity as contract
underwriters, according to the Company's standards. The contract underwriter may
be required to repurchase loans that are determined to not be in compliance with
such underwriting criteria.
Loans underwritten directly by the Company are subject to a complete
review of all information prior to loan approval. This process involves the
transfer of loan data to the Company by wholesalers or correspondents using loan
data entry software provided by the Company plus certain other physical
documentation or through the physical transfer of loan files to the Company.
Further, the Company has introduced the use of video-based computer technology,
known as LIVE/SM/, to expedite the loan approval process by allowing its
underwriters to conduct face-to-face interviews with loan applicants using
personal computers with cameras mounted on them. These facilities are installed
and can be used on an as-needed or pre-scheduled basis in the offices of certain
mortgage brokers. See " -- Technology."
To a limited extent, the Company delegates underwriting authority to
select correspondent lenders who meet financial strength, delinquency,
underwriting and quality control standards. The lenders may be required to agree
to repurchase loans that later become delinquent or to indemnify the Company
from loss.
Quality Control
The Company maintains a quality control department that, among other
things, reviews compliance and quality assurance issues relating to loan
production and underwriting. For its production compliance process, the Company
randomly selects a statistical sample of, generally, at least 5% of all loans
closed each month. This review includes a credit scoring and re-underwriting of
such loans; ordering second appraisals on 10% of the sample; reverifying funds,
employment and final applications; and reordering credit reports on the entire
sample. In addition, a full underwriting review is conducted on loans that go
into default during the first twelve months from the date of origination.
Document and file reviews are also undertaken to ensure regulatory compliance.
The Company also monitors the performance of delegated underwriters
through quality assurance reports prepared by its quality control department,
FHA/VA reports and audits, reviews and audits by regulatory agencies, investor
reports and mortgage insurance company audits. Deficiencies in loans are
generally corrected; otherwise, the Company may exercise its option to require
that the loan be repurchased by the originating broker or correspondent, or the
Company may insist that the broker who originated the loan indemnify the Company
against any losses.
60
<PAGE>
Mortgage Loan Servicing
The Company derives a significant portion of its revenues from the
servicing of mortgage loans for others. For the nine months ended September 30,
1996 and the year ended December 31, 1995, the Company realized net servicing
fee revenue from its mortgage loan servicing operations of $11.1 million and
$14.3 million, respectively, which represented 26.6% and 38.6% of the Company's
non-interest income for the respective periods. Servicing arises in connection
with mortgage loans originated or purchased and then sold in the secondary
market with mortgage servicing rights retained.
Mortgage loan servicing includes collecting payments of principal and
interest from borrowers, remitting aggregate mortgage loan payments to
investors, accounting for principal and interest payments, holding escrow funds
for payment of mortgage related expenses such as taxes and insurance, making
advances to cover delinquent payments, inspecting the mortgaged premises as
required, contacting delinquent mortgagors, supervising foreclosures and
property dispositions in the event of unremedied defaults, and other
miscellaneous duties related to loan administration. The Company collects
servicing fees from monthly mortgage payments generally ranging from 0.25%
(i.e., 25 basis points) to 0.75% (i.e., 75 basis points) of the declining
principal balances of the loans per annum. At September 30, 1996 and December
31, 1995, the weighted average servicing fee earned on this portfolio was 0.283%
and 0.288%, respectively.
The Company originates and retains or purchases servicing rights for
mortgage loans nationwide. The broad geographic distribution of the Company's
servicing portfolio reflects the national scope of the Company's originations
and loan acquisitions. The Company actively monitors the geographic distribution
of its servicing portfolio to maintain a mix that it deems appropriate to
balance its risks and makes adjustments as it deems necessary. At September 30,
1996, the Company's servicing portfolio consisted of $6.7 million of FHA/VA
servicing and $6.9 billion of conventional servicing (excluding sub servicing).
Such amounts are in addition to loans serviced by the Company which are recorded
on its books as loans receivable (i.e., available for sale and held for
investment).
The value of the Company's mortgage servicing rights ("MSRs"), is
subject to prepayment risk in the event that declining interest rates provide
borrowers with refinancing opportunities. At September 30, 1996 and December 31,
1995, the amounts of the MSRs recorded on the Company's books were $41.4 million
and $28.0 million, respectively, and their estimated fair values were $76.1
million and $70.4 million, respectively. For further information, see Note 7 of
Notes to Consolidated Financial Statements. During the nine months ended
September 30, 1996, the Company sold MSRs for gains amounting to $21.1 million.
Also, the Company occasionally enters into forward sale commitments of its MSRs.
During the nine months ended September 30, 1996, the Company sold $1.4 billion
in MSRs to a single purchaser, pursuant to a $2.0 billion commitment entered
into on October 31, 1995. In June 1996, the Company entered into a separate
agreement with another purchaser for the sale of $2.0 billion to $3.0 billion in
MSRs. Such agreement has a term through June 1997 and provides that the MSRs
would be sold at the end of each quarter in which the underlying loans are
originated (i.e., sold on a "flow basis"). In December 1996, the Company entered
into another agreement to sell approximately $2.3 billion in mortgage servicing
rights. See Note 20 of Notes to Consolidated Financial Statements.
Gains on the sale of MSRs are affected by changes in interest rates
as well as the amount of MSRs capitalized at the time of the loan origination or
MSR acquisition. Purchasers of MSRs analyze a variety of factors, including
prepayment sensitivity, to assess the purchase price they are willing to pay.
Lower market interest rates prompt an increase in prepayments as consumers
refinance their mortgages at lower rates of interest. As prepayments increase,
the life of the servicing portfolio is reduced, decreasing the servicing fee
revenue that will be earned over the life of that portfolio and the price third
party purchasers are willing to pay. The fair value of servicing is also
influenced by the supply and demand of servicing available for purchase at any
point in time. Conversely, as interest rates rise, prepayments generally
decrease, resulting in an increase in the value of the servicing portfolio as
well as the gains on sales of MSRs.
61
<PAGE>
The following table sets forth information regarding the mortgage
loan servicing portfolio.
<TABLE>
<CAPTION>
For The Nine Months For the Years Ended December 31,
Ended September 30, --------------------------------------------
1996 1995 1994
--------------------------- ---- ----
(In thousands)
<S> <C> <C> <C>
Balance at beginning of period $ 6,788,530 $ 5,691,421 $ 6,198,311
Add: Servicing acquisitions
Originated 503,868 87,370 411,453
Acquisition(1) -- -- 49,350
Purchased 4,076,749 4,133,015 2,917,199
---------------- ---------------- ----------------
Total additions 4,580,617 4,220,385 3,378,002
---------------- ---------------- ----------------
Less:
Prepayments/Amortizations 882,917 851,188 1,307,610
Sales(2) 3,540,150 2,272,088 2,577,282
---------------- ---------------- ----------------
Total Reductions 4,423,067 3,123,276 3,884,892
---------------- ---------------- ----------------
Balance at end of period $ 6,946,080 $ 6,788,530 $ 5,691,421
================ ================ ================
Composition at end of period:
GNMA $ 6,715 $ 7,217 $ 7,785
Fannie Mae/Freddie Mac 6,803,432 6,638,435 5,600,413
Other Private 135,933 142,878 83,223
---------------- ---------------- ----------------
Subtotal 6,946,080 6,788,530 5,691,421
Subservicing on sold servicing
rights(3) 2,128,721 536,324 --
---------------- ---------------- ----------------
Total servicing for others $ 9,074,801 $ 7,324,854 $ 5,691,421
================ ================ ================
Loans receivable, net(4) $ 903,723 $ 923,933 $ 633,409
================ ================ ================
</TABLE>
- -------------------
(1) Reflects mortgage servicing rights acquired upon the acquisition of Security
Savings in 1994.
(2) The actual release or transfer of servicing does not necessarily take place
during the same period as the related sale of MSRs.
(3) Reflects mortgage servicing rights sold by the Company but as to which the
purchaser has not yet taken delivery. The Company's costs of subservicing
are generally equivalent to the fees charged by the Company for this
service.
(4) Represents loans which the Company also services, including loans available
for sale.
The Company originates and purchases MSRs nationwide. The broad
geographic distribution of the Company's MSR portfolio reflects the national
scope of the Company's mortgage loan originations and MSR acquisitions. The ten
largest states accounted for 81.6% of the total number of mortgage loans
serviced and 80.8% of the dollar value of the mortgage loans serviced, at
December 31, 1996, while the largest volume by state was Michigan with 43.9% and
38.9% of the mortgage loans serviced by number and value, respectively.
62
<PAGE>
The Company's mortgage servicing portfolio includes servicing for
adjustable rate, balloon payment and fixed rate fully amortizing loans. At
September 30, 1996, 10.0% of the mortgage servicing rights related to adjustable
rate loans, which had a weighted average coupon rate of 8.28%; 24.4% related to
fixed rate balloon payment loans, which had a weighted average coupon rate of
7.07%; and the remaining 64.6% related to fixed rate fully amortizing loans,
which had a weighted average coupon rate of 8.20%. At that date, the Company's
mortgage servicing portfolio had an aggregate weighted average coupon rate of
7.85%. The following table sets forth, as of September 30, 1996, the percentage
of fixed-rate, single-family mortgage loans being serviced for others by the
Company, by interest rate category.
<TABLE>
<CAPTION>
Coupon Range Percentage of Portfolio
------------ -----------------------
<S> <C>
Less than 7.00% 6.30%
7.00 - 8.00% 32.40%
8.01 - 9.00% 50.34%
9.01 - 10.00% 9.75%
10.01 - 11.00% 1.01%
11.01 - 12.00% 0.15%
12.01 & above 0.05%
--------
100.00%
========
</TABLE>
The following table sets forth information regarding the mortgage
loan servicing portfolio, broken down by state.
<TABLE>
<CAPTION>
At December 31, 1996
-----------------------------------------------------------------------------------------------
Number of Percentage of total Percentage of
mortgage loans number of mortgage total dollar
serviced loans serviced Amount amount
------------------ ----------------------- -------------- -------------------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Michigan...................... 24,842 43.87% $1,829,500 38.90%
California.................... 2,346 4.14% 334,500 7.11%
Ohio.......................... 4,210 7.43% 296,000 6.29%
Illinois...................... 2,887 5.10% 286,700 6.10%
Florida....................... 3,210 5.67% 232,600 4.95%
Texas......................... 2,872 5.07% 224,700 4.78%
Colorado...................... 1,946 3.44% 201,300 4.28%
Maryland...................... 1,449 2.56% 156,400 3.33%
Georgia....................... 1,547 2.73% 126,200 2.68%
Washington.................... 921 1.63% 112,900 2.40%
Virginia...................... 872 1.54% 97,600 2.08%
New York...................... 658 1.16% 68,200 1.45%
Oregon........................ 582 1.03% 63,500 1.35%
Minnesota..................... 849 1.50% 63,500 1.35%
Indiana....................... 815 1.44% 62,700 1.33%
Missouri...................... 794 1.40% 53,900 1.15%
New Jersey.................... 501 0.88% 53,100 1.13%
Utah.......................... 498 0.88% 50,000 1.06%
Wisconsin..................... 494 0.87% 39,300 0.84%
Tennessee..................... 567 1.00% 38,700 0.82%
Other......................... 3,767 6.66% 311,700 6.62%
------------ ------------ ---------- ---------
Total................... 56,627 100.00% $4,703,000 100.00%
============ ============ ========== =========
</TABLE>
63
<PAGE>
At September 30, 1996, the Company was servicing approximately 83,000
loans with an aggregate unpaid principal balance of $6.9 billion (excluding
subservicing). Of such loans, 2.09% were delinquent and an additional 0.68% were
in foreclosure. The following table presents certain information regarding the
number of delinquent single family mortgage loans as of the dates indicated.
<TABLE>
<CAPTION>
At December 31,
At September 30, ----------------------------------------------
1996 1995 1994 1993
------------------------ ---- ---- ----
<S> <C>
30 - 59 Days Past Due............ 1.61% 1.77% 0.81% 0.72%
60 - 89 Days Past Due............ 0.33% 0.24% 0.09% 0.04%
90 + days Past Due............... 0.15% 0.14% 0.02% 0.02%
Loans in foreclosure............. 0.68% 0.40% 0.23% 0.19%
----------- --------- --------- ---------
Total................. 2.77% 2.55% 1.15% 0.97%
=========== ========= ========= =========
</TABLE>
The Company is materially affected by loan delinquencies and defaults
on loans that it services for others. Under a portion of its servicing
contracts, the Company must forward all or part of the scheduled payments to the
owner of the loan, even when loan payments are delinquent. At September 30,
1996, the Company's delinquency rates on loans serviced for Freddie Mac and
Fannie Mae were 1.35% and 2.12%, respectively. Also, to protect their liens on
mortgage properties, owners of loans usually require a servicer to advance
scheduled mortgage and hazard insurance and tax payments even if sufficient
escrow funds are not available. The Company is generally reimbursed by the
mortgage owner or from liquidation proceeds for payments advanced that the
servicer is unable to recover from the mortgagor, although the timing of such
reimbursement is typically uncertain. In the interim, the Company absorbs the
cost of funds advanced during the time the advance is outstanding. Further, the
Company bears the costs of collection activities on delinquent and defaulted
loans.
Funding Sources
The Company funds its operations through its retail deposit base, the
funds available in escrow accounts held in connection with its mortgage loan
servicing operations, and FHLB advances. See "Liquidity and Capital Resources."
Following the Offering, the Company intends to continue to rely upon these
sources of funds, in addition to the net proceeds from the Offering to finance
its operations.
Deposits are a significant source of the Company's funds for lending,
investment activities and general operational purposes. In addition to deposits,
the Company derives funds from loan principal and interest repayments, sales of
loans, mortgage loan servicing income and sales of mortgage servicing rights.
The Company attracts deposits principally from its primary market
area in Michigan by offering a variety of deposit instruments, including
checking accounts, money market accounts, regular savings accounts and
certificates of deposit. Deposit terms vary according to the minimum balance
required and the interest rate. Maturities, terms, service fees and withdrawal
fees are established on a periodic basis. Management of the Company generally
reviews its deposit mix and pricing on a daily basis. In determining the
characteristics of its deposit accounts, the Company considers the rates offered
by competing institutions in the Company's market areas, the acquisition of
brokered funds, liquidity requirements, growth goals and federal regulations.
The Company competes for deposits with other institutions in its
market area and nationwide (through print advertisements and a commercial wire
service) by offering deposit instruments that are competitively priced and by
providing customer service through convenient and attractive offices,
knowledgeable and efficient staff and hours of service that meet customers'
needs. Most of the Company's depositors are Michigan residents.
Among deposits which the Company attracts and retains are brokered
deposits, which are pools of deposits purchased from a broker acting as an agent
for depositors seeking the highest certificate of deposit rates offered by
insured financial institutions. At September 30, 1996, the Company had $479.1
million in certificates of deposit, of which $180.4 million, or 37.7%, were
brokered deposits. Because brokered deposits are inherently interest-rate
64
<PAGE>
sensitive, the Company is subject to the risk of a significant outflow of funds
in the event of a sudden increase in interest rates. Further, the Company's net
earnings may be adversely affected by attempts by the Company to match interest
rates to stem any such outflow of funds. The Company believes that this risk is
appropriately mitigated by the availability of its $425 million FHLB line of
credit, as to which its maximum outstanding month-end balance for the nine
months ended September 30, 1996 was $318.0 million. Based upon the Company's
current cost of its funds, the Company does not believe that reliance on the
FHLB as a short-term replacement funding source would have a significant adverse
effect on its financial condition. For the nine months ended September 30, 1996,
the average cost of funds for the Company's deposits, including brokered
deposits, and its FHLB advances were 5.49% and 6.15%, respectively. Further, the
Company believes its reliance on brokered funds will diminish as the Company
develops its retail deposit base through its existing and future branch network.
The following table sets forth by account types the aggregate amount
and weighted average rate of the Company's deposits.
<TABLE>
<CAPTION>
At December 31,
At September 30, ---------------------------------------------------------------------------
1996 1995 1994 1993
--------------------- ------------------------ ---------------------- ---------------------
Weighted Weighted Weighted Weighted
Average Average Average Average
Amount Rate Amount Rate Amount Rate Amount Rate
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Transaction Accounts:
Non-interest
bearing deposits.... $ 12,627 --% $ 4,621 --% $ 12,818 --% $ 10,332 --%
Interest bearing
deposits............ 32,668 3.06% 63,391 3.05% 49,226 2.96% 1,211 2.70%
---------- ---------- ----------- ----------
Subtotal.......... 45,295 2.21% 68,012 2.84% 62,044 2.35% 11,543 0.28%
Savings accounts......... 52,511 4.15% 10,248 2.25% 9,744 2.25% 522 2.75%
Certificates of deposit.. 479,108 5.95% 448,714 6.27% $ 235,836 5.47% 178,696 4.13%
---------- ---------- ----------- ----------
Total deposits.... $ 576,914 5.50% $ 526,974 5.73% $ 307,624 4.74% $ 190,761 3.89%
========== ======= ========== ======= =========== ======= ========== =======
</TABLE>
The following table indicates the amount of the Company's
certificates of deposits by time remaining until maturity as of September 30,
1996.
<TABLE>
<CAPTION>
Maturity Period Certificates of Deposits
--------------- ------------------------
(In thousands)
<S> <C>
Three months or less...................... $ 78,426
Over three through six months............. 136,390
Over six through 12 months................ 171,510
Over 12 months............................ 92,782
--------------
Total...................................... $ 479,108
==============
</TABLE>
The Company considers all its certificates of deposit to be highly
interest-rate sensitive regardless of amount.
Deposits have historically been the primary source of funds for the
Company's lending and general operating activities. However, the Company also
utilizes the FHLB to provide both short-term and long-term borrowings and also
relies to a limited extent on short-term reverse repurchases of pools of
single-family mortgage loans for advance funding of securitized loans.
The Company's principal source of borrowings has been FHLB advances.
The Company is authorized to use advances from the FHLB to supplement its supply
of funds and to satisfy deposit withdrawal requirements. The Federal Home Loan
Company System functions as a twelve-bank central reserve bank providing credit
for savings institutions and certain other member financial institutions. As a
member of the FHLB System, the Company is required to own stock in the FHLB and
is authorized to apply for advances, which are made pursuant to several
different programs with their own interest rates and range of maturities.
Advances from the FHLB are secured by the Company's stock in the FHLB and a
portion of the Company's mortgage loan portfolio.
65
<PAGE>
The following table sets forth certain information regarding the
borrowings of the Company as of or for the period indicated.
<TABLE>
<CAPTION>
At or for the Nine Months At or for the Year Ended December 31,
Ended September 30, ------------------------------------------------
1996 1995 1994 1993
------------------------- ---- ---- ----
(Dollars in thousands)
<S> <C> <C> <C> <C>
FHLB Advances
Balance outstanding at period-end............. $ 199,856 $ 191,156 $ 200,750 $ 55,000
Maximum outstanding at any month-end.......... $ 318,000 $ 315,000 $ 200,750 $ 112,000
Monthly average balance................... $ 243,564 $ 237,535 $ 83,912 $ 42,727
Average interest rate..................... 6.15% 6.35% 4.44% 4.29%
</TABLE>
See Note 9 of Notes to Consolidated Financial Statements for
additional information.
Employees
As of September 30, 1996, the Company and its subsidiaries had 1,179
full-time equivalent employees, none of whom were represented by a collective
bargaining agreement. Management of the Company and the Bank considers their
relationship with such employees to be satisfactory.
Properties
The Company's principal executive offices are located at 2600
Telegraph Road, Bloomfield Hills, Michigan 48302 in leased facilities. At
September 30, 1996, the Company maintained 15 branches, 28 loan centers, ten
correspondent service centers, a mortgage loan servicing center, and three
corporate operations offices. Other than 7 of the branches and one of the loan
centers, the Company or the Bank leased their operating premises. See Note 6 of
Notes to Consolidated Financial Statements. In December 1996, the Company
entered into four agreements to acquire property to be used for future branch
locations in Michigan in connection with the Company's overall plan for
expansion of its retail banking operations. See "Business -- Business Strategy."
Subsidiary Activities
The Company conducts business through a number of wholly-owned
subsidiaries in addition to the Bank. The additional subsidiaries of the Company
include Douglas Insurance Agency, Inc. ("DIA"), FSSB Real Estate Development
Corporation ("REDC"), Mortgage Video Network, Inc. ("Video") and First Security
Investment Group, Inc. ("Investment"). Of the additional subsidiaries, DIA, REDC
and Investment are presently active. DIA acts as an agent for life insurance and
property and casualty insurance companies. REDC owns a single parcel of
undeveloped commercial real estate in northern Oakland County, Michigan which it
currently has a contract to sell. REDC does not conduct any other business.
The Bank, the Company's primary subsidiary, is a federally chartered,
stock savings bank headquartered in Bloomfield Hills, Michigan. See "Business."
The Bank owns five subsidiaries: FSSB Mortgage Corporation ("Mortgage"), Boston
Credit Corporation ("BCC"), Mortgage Affiliated Services, Inc. ("MAS"),
Mid-Michigan Service Corporation ("Mid-Michigan") and SSB Funding Corporation
("Funding"). Mortgage, BCC and Funding are currently inactive subsidiaries. MAS
provides appraisal and document preparation services, primarily in conjunction
with the Bank's loan closings. Mid-Michigan is engaged in the business of
leasing and sub-leasing commercial real estate. Mid-Michigan leases the premises
of the Bank's regional headquarters located in Jackson, Michigan from a third
party and subleases the premises to the Bank.
66
<PAGE>
Legal Proceedings
From time to time, the Company and its subsidiaries are parties to
various legal proceedings incident to its business. At September 30, 1996, there
were no legal proceedings which management anticipates would have a material
adverse effect on the Company.
67
<PAGE>
REGULATION
General
The Bank is chartered as a federal savings bank under the Home
Owners' Loan Act, as amended (the "HOLA"), which is implemented by regulations
adopted and administered by the OTS. As a federal savings bank, the Bank is
subject to regulation, supervision and regular examination by the OTS. Federal
banking laws and regulations control, among other things, the Bank's required
reserves, investments, loans, mergers and consolidations, payment of dividends
and other aspects of the Bank's operations. The deposits of the Bank are insured
by the SAIF administered by the FDIC to the maximum extent provided by law
($100,000 for each depositor). In addition, the FDIC has certain regulatory and
examination authority over OTS-regulated savings institutions and may recommend
enforcement actions against savings institutions to the OTS. The supervision and
regulation of the Bank is intended primarily for the protection of the deposit
insurance fund and the Bank's depositors rather than for holders of the
Company's stock or for the Company as the holder of the stock of the Bank.
As a savings and loan holding company, the Company is registered with
and is subject to OTS regulation and supervision under the HOLA. The Company
also is required to file certain reports with, and otherwise comply with the
rules and regulations of, the Commission under the federal securities laws.
The following discussion is intended to be a summary of certain
statutes, rules and regulations affecting the Bank and the Company. A number of
other statutes and regulations have an impact on their operations. The following
summary of applicable statutes and regulations does not purport to be complete
and is qualified in its entirety by reference to such statutes and regulations.
Regulation and Supervision of the Bank
Proposed Legislation. Legislation introduced in the United States
Congress in 1997 would, if enacted, require all federal savings institutions
(such as the Bank) to convert to a national bank or a state bank or savings bank
charter by January 1, 1998 and would require all savings and loan holding
companies (such as the Company) to become bank holding companies or "financial
services" holding companies. The two bills include limited grandfather
provisions for business activities of federal savings institutions that do not
conform to applicable banking regulations. Holding companies that were formerly
savings and loan holding companies would not be subject to any additional
activity restrictions so long as their subsidiaries continued to comply with
certain lending restrictions currently applicable to federal thrifts and were
not acquired by another company.
In addition, the Deposit Funds Insurance Act of 1996, enacted on
September 30, 1996, requires the Secretary of the Treasury to submit a report to
the Congress by March 31, 1997, providing a detailed analysis of the issues
related to and recommendations for a common charter for savings institutions and
banks. It can be anticipated that further legislation affecting the federal
thrift charter will be introduced simultaneously with or shortly after
submission of the Treasury report.
Based upon an analysis of the current provisions of the legislation
proposed to date, the management of the Company does not believe that the
enactment of such legislation would have a material adverse effect on its
financial condition or results of operations.
Business Activities. The Bank derives its lending and investment
powers from the HOLA and the regulations of the OTS thereunder. Under these laws
and regulations, the Bank may invest in mortgage loans secured by residential
and commercial real estate, commercial and consumer loans, certain types of
commercial paper and debt securities, and certain other assets. The Bank may
also establish service corporations that may engage in activities not otherwise
permissible for the Bank, including certain real estate equity investments and
securities and insurance brokerage. These investment powers are subject to
various limitations.
68
<PAGE>
Regulatory Capital and Reserve Requirements. The OTS has adopted
capital adequacy regulations that require savings institutions such as the Bank
to meet three minimum capital standards: a "core" capital requirement of 3% of
adjusted total assets, a "tangible" capital requirement of 1.5% of adjusted
total assets, and a "risk-based" capital requirement of 8% of total risk-based
capital to total risk-weighted assets. In addition, the OTS has adopted
regulations imposing certain restrictions on savings institutions that have a
total risk-based capital ratio of less than 8%, a ratio of Tier 1 capital to
risk-weighted assets of less than 4% or a ratio of Tier 1 capital to total
assets of less than 4% (or 3% if the institution is rated Composite 1 under the
CAMEL examination rating system). See "-- Prompt Corrective Regulatory Action."
Certain MSRs need not be deducted in computing core and tangible
capital. Generally, the lower of 90% of the fair market value of readily
marketable MSRs, or the current unamortized book value as determined under GAAP
may be included in core and tangible capital up to a maximum of 50% of core
capital computed before the deduction of any disallowed qualifying intangible
assets. At September 30, 1996, the Bank's core capital included $36.9 million of
core deposit intangibles and MSRs.
The risk-based capital requirement is measured against risk-weighted
assets, which equal the sum of each asset and the credit-equivalent amount of
each off-balance sheet item after being multiplied by an assigned risk weight,
which range from 0% to 100% as assigned by the OTS capital regulations based on
the risks the OTS believes are inherent in the type of asset. Comparable risk
weights are assigned to off-balance sheet assets.
The OTS risk-based capital regulation also includes an IRR component
that requires savings institutions with greater than normal IRR, when
determining compliance with the risk-based capital requirements, to maintain
additional total capital. The OTS has, however, indefinitely deferred
enforcement of its IRR requirements.
The table below sets forth the Bank's compliance with its regulatory
capital requirements at September 30, 1996.
<TABLE>
<CAPTION>
The Bank's Capital Excess
Capital Requirements Capital
--------------------- ---------------------- ---------------------
Amount Percent Amount Percent Amount Percent
--------------------- ---------------------- ---------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Tangible capital $ 55,446 5.27% $ 15,784 1.50% $ 39,662 3.77%
Core capital $ 61,574 5.82% $ 31,754 3.00% $ 29,820 2.82%
Total Risk-based
capital $ 74,923 12.04% $ 49,803 8.00% $ 25,120 4.04%
</TABLE>
Pursuant to regulations of the Federal Reserve Board, all
FDIC-insured depository institutions must maintain average daily reserves
against their transaction accounts. No reserves are required to be maintained on
the first $4.3 million of transaction accounts, and reserves equal to 3% must be
maintained on the next $52.0 million of transaction accounts, plus reserves
equal to 10% on the remainder. These percentages are subject to adjustment by
the Federal Reserve Board. 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, 1996, the Bank met
its reserve requirements.
Federal Deposit Insurance. The Bank is required to pay assessments
based on a percentage of its insured deposits to the FDIC for insurance of its
deposits by the SAIF.
Pursuant to the Federal Deposit Insurance Corporation Improvement Act
of 1991 ("FDICIA"), the FDIC established a risk-based assessment system for
determining the deposit insurance assessments to be paid by insured depository
institutions. The assessment rate depends on the capital category and
supervisory category to which an institution is assigned. For the first nine
months of 1996, the assessment rate for SAIF-insured institutions ranged
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from 0.23% of deposits for well-capitalized institutions in the highest
supervisory subgroup, to 0.31% of deposits for undercapitalized institutions in
the lowest supervisory subgroup. The Bank was a "well-capitalized" institution
as of September 30, 1996.
In late 1995, the FDIC amended the risk-based assessment schedule for
depository institutions with deposits insured by the Bank Insurance Fund
("BIF"), resulting in a dramatic reduction in FDIC assessments for BIF-insured
but not SAIF-insured institutions. In response to this assessment disparity, the
Deposit Funds Insurance Act of 1996 (the "1996 Act"), enacted on September 30,
1996, amended the Federal Deposit Insurance Act (the "FDI Act") in several ways
to recapitalize the SAIF and reduce the disparity between the assessment rates
for the BIF and the SAIF. The 1996 Act authorized the FDIC to impose a special
assessment on all institutions with SAIF-assessable deposits in the amount
necessary to recapitalize the SAIF to the required reserve ratio of 1.25%.
SAIF-insured institutions on November 27, 1996 paid a special assessment equal
to 65.7 basis points per $100 of each institution's SAIF-assessable deposits as
of March 31, 1995. The 1996 Act provides the amount of the special assessment
will be deductible for federal income tax purposes for the taxable year in which
the special assessment is paid. Based on the foregoing, the Bank recorded an
accrual for the special assessment of $3.4 million at September 30, 1996. Net of
related tax effects, this reduced reported earnings by $2.2 million for the
quarter ended September 30, 1996. In view of the recapitalization of the SAIF,
in December 1996 the FDIC reduced the assessment rate for SAIF-assessable
deposits for periods beginning on October 1, 1996. As a result, the insurance
assessment rates for SAIF-insured institutions, like the Bank, were set at 18 to
27 basis points for the last quarter of 1996 and zero to 27 basis points for the
first half of 1997.
The 1996 Act also provides that the FDIC cannot assess regular
insurance assessments for the SAIF or the BIF unless required to maintain or to
achieve the designated reserve ratio of 1.25%, except for such assessments on
those institutions that are not classified as "well-capitalized" or that have
been found to have "moderately severe" or "unsatisfactory" financial,
operational or compliance weaknesses. The Bank is classified as
"well-capitalized" and has not been found by the OTS to have such supervisory
weaknesses. Accordingly, assuming that the designated reserve ratio is
maintained by the SAIF after the collection of the special SAIF assessment, the
Bank, as long as it maintains its capital and supervisory status, will pay
substantially lower FDIC assessments compared to those paid by the Bank in
recent years.
Qualified Thrift Lender Test. The HOLA and OTS regulations require
all savings institutions to meet a Qualified Thrift Lender ("QTL") test. Under
the HOLA's QTL test, a savings institution is required to maintain at least 65%
of its "portfolio assets" in certain "Qualified Thrift Investments" in at least
nine months of the most recent 12-month period. Under OTS implementing
regulations, portfolio assets are defined as total assets less intangibles,
property used by a savings institution in its business and liquidity investments
in an amount not exceeding 20% of assets. Qualified Thrift Investments consist
of (i) loans, equity positions or securities related to domestic, residential
real estate or manufactured housing and (ii) 50% of the dollar amount of
residential mortgage loans subject to sale under certain conditions. In
addition, subject to a 20% of portfolio assets limit, savings institutions are
able to treat as Qualified Thrift Investments 200% of their investments in loans
to finance "starter homes" and loans for construction, development or
improvement of housing and community service facilities or for financing small
business in "credit needy" areas.
A savings institution that fails the QTL test must either operate
under certain restrictions on its activities or convert to a bank charter. An
initial failure to qualify as a QTL results in a number of sanctions, including
the imposition of certain operating restrictions and a restriction on obtaining
additional advances from its Federal Home Loan Bank. If a savings institution
does not requalify under the QTL test within the three-year period after it
fails the QTL test, it would be required to terminate any activity not
permissible for a national bank and repay as promptly as possible any
outstanding advances from its Federal Home Loan Bank. In addition, the holding
company of such an institution, such as the Company, would similarly be required
to register as a bank holding company with the Federal Reserve Board. See "--
Regulation and Supervision of the Company." At September 30, 1996, the Bank
qualified as a QTL.
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Legislation enacted into law on September 30, 1996 made certain
amendments to the HOLA that significantly liberalize the QTL test. First, the
new law permits loans to small businesses, student loans and credit card loans
to be counted as Qualified Thrift Investments without percentage limits. The
current 10% limit on all other loans to households is eliminated by the new law,
and such loans may now be counted toward the QTL test within the 20% of
portfolio assets limit. Second, the statute amends the QTL test to provide that
a savings institution may be considered a QTL either (i) by satisfying the
HOLA's QTL requirements or (ii) by qualifying as a "domestic building and loan
association" as defined under the Internal Revenue Code of 1986, as amended (the
"Code"). In order for a savings institution to be defined as a domestic building
and loan association under the Code, at least 60% of its total assets must
consist of: (a) cash; (b) obligations of the United States, a state or a
political subdivision thereof or obligations of a corporation that is an
instrumentality of any of the foregoing, except for certain obligations the
interest on which is excludable from gross income; (c) obligations of a
state-chartered deposit insurance corporation; (d) loans secured by deposits in
the institution; (e) loans secured by, or for the improvement of, residential
real property or real property used for church purposes; (f) loans secured by,
or for the improvement of, urban real property qualifying under specified
federal government programs; (g) loans secured by an interest in educational,
health or welfare institutions or facilities; (h) property acquired through the
liquidation of defaulted loans described in clauses (e), (f) or (g); (i)
educational loans; (j) property used by the institution in the conduct of its
business and (k) most interests in Real Estate Mortgage Investment Conduits
("REMICs").
Standards for Safety and Soundness. The FDI Act, as amended by FDICIA
and the Riegle Community Development and Regulatory Improvement Act of 1994,
requires the OTS, together with the other federal bank regulatory agencies, to
prescribe standards, by regulation or guideline, relating to internal controls,
information systems and internal audit systems, loan documentation, credit
underwriting, interest rate risk exposure, asset growth, asset quality,
earnings, stock valuation, and compensation, fees and benefits and such other
operational and managerial standards as the agencies deem appropriate. The OTS
and the federal bank regulatory agencies adopted, effective August 9, 1995, a
set of guidelines prescribing safety and soundness standards pursuant to the
statute. The safety and soundness guidelines establish general standards
relating to internal controls and information systems, internal audit systems,
loan documentation, credit underwriting, interest rate exposure, asset growth,
and compensation, fees and benefits. In general, the guidelines require, among
other things, appropriate systems and practices to identify and manage the risks
and exposures specified in the guidelines. The guidelines prohibit excessive
compensation as an unsafe and unsound practice and describe compensation as
excessive when the amounts paid are unreasonable or disproportionate to the
services performed by an executive officer, employee, director or principal
stockholder.
In addition, on July 10, 1995, the OTS and the federal bank
regulatory agencies proposed guidelines for asset quality and earnings
standards. Under the proposed standards, a savings institution would be required
to maintain systems, commensurate with its size and the nature and scope of its
operations, to identify problem assets and prevent deterioration in those assets
as well as to evaluate and monitor earnings and ensure that earnings are
sufficient to maintain adequate capital and reserves. Management believes that
the asset quality and earnings standards, in the form proposed by banking
agencies, would not have a material effect on the operations of the Bank.
Prompt Corrective Regulatory Action. Under FDICIA, the federal
banking regulators are required to take prompt corrective action in respect of
depository institutions that do not meet certain minimum capital requirements,
including a leverage limit and a risk-based capital requirement. All
institutions, regardless of their capital levels, are restricted from making any
capital distribution or paying any management fees that would cause the
institution to become undercapitalized. As required by FDICIA, banking
regulators, including the OTS, have issued regulations that classify insured
depository institutions by capital levels and provide that the applicable agency
will take various prompt corrective actions to resolve the problems of any
institution that fails to satisfy the capital standards.
Limitations on Capital Distributions. OTS regulations currently
impose limitations upon capital distributions by savings institutions, such as
cash dividends, payments to repurchase or otherwise acquire its shares, payments
to stockholders of another institution in a cash-out merger and other
distributions charged against capital. A savings institution must give notice to
the OTS at least 30 days before payment of a proposed capital distribution, and
capital distributions in excess of specified earnings or by certain institutions
are subject to approval by the OTS.
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A savings institution that has capital in excess of all regulatory capital
requirements before and after a proposed capital distribution and that is not
otherwise restricted in making capital distributions, may, after prior notice
but without the approval of the OTS, make capital distributions during a
calendar year equal to the greater of (a) 100% of its net earnings to date
during the calendar year plus the amount that would reduce by one-half its
"surplus capital ratio" (the excess capital over its fully phased-in capital
requirements) at the beginning of the calendar year, or (b) 75% of its net
earnings for the previous four quarters. Any additional capital distributions
would require prior OTS approval.
The OTS has proposed regulations that would simplify the existing
procedures governing capital distributions by savings institutions. Under the
proposed regulations, the approval of the OTS would be required only for capital
distributions by an institution that is deemed to be in troubled condition or
that is undercapitalized or would be undercapitalized after the capital
distribution. A savings institution would be able to make a capital distribution
without notice to or approval of the OTS if it is not held by a savings and loan
holding company, is not deemed to be in troubled condition, has received either
of the two highest composite supervisory ratings and would continue to be
adequately capitalized after such distribution. Notice would have to be given to
the OTS by any institution that is held by a savings and loan holding company or
that had received a composite supervisory rating below the highest two composite
supervisory ratings. An institution's capital rating would be determined under
the prompt corrective action regulations. See "-- Prompt Corrective Regulatory
Action."
In addition to the foregoing, earnings of the Bank appropriated to
bad debt reserves and deducted for federal income tax purposes are not available
for payment of dividends or other distributions to the Company without payment
of taxes at the then current tax rate by the Bank on the amount of earnings
removed from the reserves for such distributions.
Real Estate Lending Standards. Under joint regulations of the federal
banking agencies, including the OTS, savings institutions must adopt and
maintain written policies that establish appropriate limits and standards for
extensions of credit that are secured by liens or interests 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. An institution's real estate lending policy 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 depository
institutions to establish internal loan-to-value limits for real estate loans
that are not in excess of the loan-to-value limits specified in the Interagency
Guidelines for the various types of real estate loans. The Interagency
Guidelines state that it may be appropriate in individual cases to originate or
purchase loans with loan-to-value ratios in excess of the supervisory
loan-to-value limits.
Mortgage and Consumer Lending. The Bank is subject to many federal
consumer protection statutes and regulations including, but not limited to, the
following:
The Truth in Lending Act ("TILA"). TILA is designed to ensure that
credit terms are disclosed in a meaningful way so that consumers may compare
credit terms more readily and knowledgeably. As a result of TILA, all creditors
must use the same credit terminology and expressions of rates, the annual
percentage rate, the finance charge, the amount financed, the total of payments,
and the payment schedule.
Under certain circumstances involving extensions of credit secured by
the borrower's principal dwelling, TILA and Regulation Z thereunder provide a
right of rescission. The regulatory agencies are authorized to order creditors
to make monetary and other adjustments to the accounts of consumers in cases
where an annual percentage rate or finance charge is inaccurately disclosed.
Generally, the agencies order restitution when such disclosure errors resulted
from a clear and consistent pattern or practice of violation or gross negligence
or a willful violation that was intended to mislead the person to whom the
credit was extended. However, the agencies are not precluded from ordering
restitution for isolated disclosure errors. TILA also provides for statutory
damages of twice the finance charge, with a minimum of $200 and a maximum of
$2,000 for closed end loans secured by real property or a
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dwelling. If successful, the borrower is entitled to reasonable attorneys' fees
and the costs of bringing the action. TILA also provides for class actions for
actual damages and for statutory damages of the lesser of $500,000 or 1% of the
creditor's net worth, plus court costs and attorneys' fees.
The Bank attempts in good faith to comply with TILA and Regulation Z
thereunder. The requirements are complex, however, and even inadvertent
non-compliance could result in civil liability or the extension of the
rescission period for a mortgage loan for up to three years from the date the
loan was made. During the past several years, numerous individual claims and
purported consumer class action claims were commenced against a number of
financial institutions, their subsidiaries and other mortgage lending
institutions, seeking civil statutory and actual damages and rescission under
TILA, as well as remedies for alleged violations of various state unfair trade
practices acts and restitution or unjust enrichment in connection with certain
mortgage loan transactions. The Bank has experienced no material problems in
this area and believes that its compliance program should continue to prevent
any such problem from arising, although there can be no assurance to that
effect.
The Real Estate Settlement Procedures Act ("RESPA"). RESPA requires
lenders to provide borrowers with disclosures regarding the nature and cost of
real estate settlements. Also, RESPA prohibits certain abusive practices, such
as kickbacks, and places limitations on the amount of money that a lender may
require a borrower to place in an escrow account. HUD's Regulation X, which
implements RESPA, also establishes escrow accounting procedures and mandates the
use of aggregate accounting for determining the maximum dollar amount that may
be collected in connection with escrow accounts. RESPA is applicable to all
federally related mortgage loans, which includes all loans made by the Bank.
Section 8 of RESPA prohibits any person from giving or receiving a
fee or a thing of value (payments, commissions, fees, gifts or special
privileges) for a referral of settlement business. Such "kickbacks" include
payments in excess of the reasonable value of goods provided or services
rendered. Violations of Section 8 of RESPA may result in imposition of the
following penalties: (i) civil liability equal to three times the amount of any
charge paid for the settlement services; (ii) the possibility that court costs
and attorneys' fees can be recovered; and (iii) a fine of not more than $10,000
or imprisonment for not more than one year, or both.
The Bank attempts in good faith to comply with the requirements of
RESPA and its implementing regulations. The requirements are complex, however,
and even inadvertent non-compliance could result in civil or criminal liability.
During the past several years, numerous individual claims and purported consumer
class action claims were commenced against a number of financial institutions,
their subsidiaries, and other mortgage lending institutions alleging violations
of RESPA's escrow account rules and seeking civil damages, court costs and
attorneys' fees. The Bank has experienced no material problems in this area and
believes that its compliance program should continue to prevent any such problem
from arising, although there can be no assurance to that effect.
Federal Non-Discrimination and Related Statutes. As a federal savings
institution, the Bank is governed by various federal statutes and related
regulations intended to prevent discrimination on the basis of race or gender or
other prohibited characteristics, to ensure that such lenders are meeting the
credit needs of all segments of the population of its market (or "assessment")
areas or to collect information to assist in the enforcement of such
requirements. Such laws as The Fair Housing Act, The Equal Credit Opportunity
Act, The Home Mortgage Disclosure Act and the Community Reinvestment Act all
govern the manner in which the Bank may engage in the mortgage lending business.
In addition, each provides for various administrative, civil and, in limited
circumstances, criminal enforcement procedures, which may also include suits by
aggrieved persons seeking actual and/or punitive damages.
The Bank attempts in good faith to comply with the provisions of
these statutes and their implementing regulations, however, the provisions are
complex and even inadvertent non-compliance could result in liability to the
Bank. The Bank currently has a staff of 40 persons in the consumer compliance
area, including many with extensive experience and/or training, and has devoted
significant resources to attempt to assure that the lending activities continue
to demonstrate material compliance with all applicable statutes, regulations and
rules. During the past several years numerous individual claims, purported class
actions and federal enforcement proceedings have been
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commenced against a number of financial institutions alleging that one or more
of these provisions have been violated. While the Bank has incurred no material
detriment as a result of these actions, there can be no assurance that one or
more aspects of its lending program will not be found to have been in violation
of these statutes.
Transactions with Affiliates. The Bank is subject to restrictions
imposed by federal law on extensions of credit to, and certain other
transactions with, the Company and other affiliates, and on investments in the
stock or other securities thereof. Such restrictions prevent the Company and
such other affiliates from borrowing from the Bank unless the loans are secured
by specified collateral, and require such transactions to have terms comparable
to terms of arms-length transactions with third persons. Further, such secured
loans and other transactions and investments by the Bank are generally limited
in amount as to the Company and as to any other affiliate to 10% of the Bank's
capital and surplus and as to the Company and all other affiliates to an
aggregate of 20% of the Bank's capital and surplus. These regulations and
restrictions may limit the Company's ability to obtain funds from the Bank for
its cash needs, including funds for acquisitions and for payment of dividends,
interest and operating expenses. The Bank's ability to extend credit to its
directors, executive officers, and 10% stockholders, as well as to entities
controlled by such persons, is governed by the requirements of Sections 22(g)
and 22(h) of the Federal Reserve Act and Regulation O of the Federal Reserve
Board thereunder.
Liquidity Requirements. The Bank is required by OTS regulation to
maintain an average daily balance of liquid assets (cash, certain time deposits,
bankers' acceptances, highly rated corporate debt and commercial paper,
securities of certain mutual funds, and specified United Sates government, state
or federal agency obligations) equal to the monthly average of not less than a
specified percentage (currently 5%) of its net withdrawable savings deposits
plus short-term borrowings. The average daily liquidity ratio of the Bank for
the month ended September 30, 1996 was 8.6%. The Bank is also required to
maintain average daily balances of short-term liquid assets at a specified
percentage (currently 1%) of the total of its net withdrawable savings accounts
and borrowings payable in one year or less. The Bank was in compliance with the
1% requirement at September 30, 1996. Monetary penalties may be imposed for
failure to meet liquidity requirements.
Branching. Subject to certain limitations, the HOLA and the OTS
regulations currently permit federally chartered savings institutions such as
the Bank to establish branches in any state of the United States. The authority
to establish such branches is available (a) in states that expressly authorize
branches of savings institutions located in another state or (b) to a federal
savings institution that qualifies as a "domestic building and loan association"
under the Code. See "-- Qualified Thrift Lender Test." The authority for a
federal savings institution to establish an interstate branch network would
facilitate a geographic diversification of the institution's activities. This
authority under the HOLA and the OTS regulations preempts any state law
purporting to regulate branching by federal savings institutions. However,
recently proposed federal legislation could, if enacted, restrict the Bank's
ability to open branches in states other than Michigan.
Federal Home Loan Bank System. The Federal Home Loan Bank System
consists of 12 district 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 institutions. 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. The Bank was in compliance with this
requirement, with an investment in FHLB stock at September 30, 1996 of $20.5
million. Long-term FHLB advances may only be made for the purpose of providing
funds for residential housing finance. At September 30, 1996, the Bank had total
advances of $199.9 million outstanding from the FHLB.
Savings and Checking Accounts and Public Accommodations.
Bank Secrecy Act ("BSA") and Money Laundering Laws. The BSA requires
every financial institution within the United States to file a Currency
Transaction Report with the Internal Revenue Service for each transaction in
currency of more than $10,000 not exempted by the U.S. Treasury Department. The
reports must be filed within 15
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days of the transaction. A "transaction in currency" is defined by the
regulations to include any transaction "involving the physical transfer of
currency from one person to another."
Under the FDI Act, a receiver or conservator may be appointed for an
insured depository institution on the receipt of written notice from the
Attorney General that an insured depository institution has been found guilty of
a criminal money laundering offense or criminal offense under the BSA. The FDIC
may also take action to terminate the deposit insurance of an institution
convicted of criminal violations of the BSA and money laundering offense. Any
person who willfully causes a violation of the BSA's record-keeping requirements
for insured institutions is subject to the imposition of up to a $50,000 civil
money penalty, in addition to any other applicable penalties.
The Bank has instituted a policy against money laundering that is
communicated by top management to its employees. The policy includes safeguards
to prevent money laundering, including, but not limited to, regular education
programs to teach employees the requirements of the federal money laundering
laws and to make them aware of the innovative and ever-changing techniques
employed by money launderers.
Electronic Fund Transfer Act (the "EFTA"). The EFTA provides a basic
framework establishing the rights, liabilities and responsibilities of
participants in "electronic fund transfer systems", defined to include automated
teller machine transfers, telephone bill-payment services, point-of-sale
terminal transfers, and preauthorized transfers from or to a consumer's account
(e.g., direct deposit of social security payments). Its primary objective is to
protect the rights of individuals using these systems. The EFTA limits a
consumer's liability for certain unauthorized electronic fund transfers and
requires certain error resolution procedures.
Unless an error is resolved in accordance with the error-resolution
procedures specified in the EFTA, the institution may be liable for civil
damages. The statutory damages the institution would have to pay in a successful
individual action are actual damages and statutory damages between $100 and
$1,000, as determined by the court, plus court costs and attorneys' fees. In a
successful class action, the institution would have to pay actual damages and
statutory damages up to the lesser of $500,000 or 1% of the institution's net
worth, plus court-costs and reasonable attorneys' fees. The EFTA also sets forth
provisions for criminal liability for certain EFTA violations. Penalties under
these provisions run from a $5,000 fine and one year's imprisonment for
knowingly and willfully failing to comply with the EFTA, to a $10,000 fine and
10 years imprisonment for fraudulent use of a debit card.
The Expedited Funds Availability Act (the "Expedited Funds Act"). The
Expedited Funds Act seeks to insure prompt availability of funds deposited into
a customer's account and to expedite the return of checks. The Expedited Funds
Act is implemented by the Federal Reserve Bank's Regulation CC. The Expedited
Funds Act and Regulation CC include specific detailed provisions requiring a
financial institution to: (i) make funds available to its customers within
specified time frames; (ii) ensure that interest accrues on funds in
interest-bearing transaction accounts not later than the day the financial
institution receives credit; and (iii) disclose the financial institution's
funds-availability policies to its customers. In addition to administrative
enforcement, there is civil liability for violations of the Expedited Funds Act.
Any depository institution that fails to comply with any requirements of the
Expedited Funds Act or regulation with respect to any person other than another
depository institution is liable to such person in an amount equal to the sum of
actual damages, such additional amount as the court may allow (with a minimum of
$100 and a maximum of $1,000 in an individual action and, in a class action, a
maximum of the lesser of $500,000 or 1% of the net worth of the depository
institution), plus court costs and attorneys' fees in the case of any successful
action.
The Truth In Savings Act (the "TISA"). The TISA is principally a
disclosure law, the purpose of which is to encourage comparative shopping for
deposit products. The common denominator used by the TISA to facilitate
comparison shopping of interest payable on deposit accounts is the Annual
Percentage Yield (the "APY"). TISA is implemented by Regulation DD. The TISA and
Regulation DD thereunder require depository institutions to pay interest on the
full amount of the principal in the account for each day, under either the
"daily balance method" or the "average daily balance method." No other balance
calculation methods are permitted by the TISA. In addition to administrative
enforcement, TISA violations carry civil liability. Any depository institution
that fails to comply with any requirement of the TISA with respect to any person
who is an account holder is liable to such person in an amount
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equal to the sum of actual damages, such additional amount as the court may
allow (with a minimum of $100 and a maximum of $1,000 in an individual action
and, in a class action, a maximum of the lesser of $500,000 or 1% of the net
worth of the depository institution), plus court costs and attorneys' fees in
the case of any successful action.
The Americans with Disabilities Act (the "ADA"). The ADA, enacted
into law in 1990, prohibits private employers, state and local governments,
employment agencies and labor unions from discriminating against qualified
individuals with disabilities in connection with job application procedures,
hiring, firing, advancement, compensation, job training and other terms,
conditions and privileges of employment. An individual with a disability is a
person who: (i) has a physical or mental impairment that substantially limits
one or more major activities; (ii) has a record of such an impairment; or (iii)
is regarded as having such an impairment.
Anyone who has been discriminated against on the basis of a
disability in relation to employment may file an action with the United States
Equal Employment Opportunity Commission and may be entitled to remedies that
include rehiring, promotion, reinstatement, back pay or remuneration or
reasonable accommodation including reassignment. Such individuals may also be
entitled to damages intended to compensate for institutions that are engaged in
a pattern or practice of discrimination. At the U.S. Attorney General's request,
the court may impose civil penalties of $50,000 for a first violation and
$100,000 for any subsequent violation or certain other remedies.
The Bank attempts in good faith to assure compliance with the
requirements of the consumer protection statutes to which it is subject, as well
as the regulations that implement the statutory provisions. The requirements are
complex, however, and even inadvertent non-compliance could result in civil and,
in some cases, criminal liability. Based on the Bank's history of claims under
the consumer protection statutes and regulations to which it is subject,
management does not believe that claims are likely to be asserted that will have
a material adverse effect on the Bank's or the Company's financial condition,
results of operations or liquidity.
Regulation and Supervision of the Company
The Company is a savings and loan holding company under the HOLA and,
as such, is subject to OTS regulation, supervision and examination. In addition,
the OTS has enforcement authority over the Company and its non-savings
institution subsidiaries and may restrict or prohibit activities that are
determined to represent a serious risk to the safety, soundness or stability of
the Bank or any other subsidiary savings institution.
Under the HOLA, a savings and loan holding company may not (i)
acquire, with certain exceptions, more than 5% of a non-subsidiary savings
institution or a non-subsidiary savings and loan holding company; or (ii)
acquire or retain control of a depository institution that is not insured by the
FDIC.
As a unitary savings and loan holding company, the Company generally
is not subject to any restriction as to the types of business activities in
which it may engage, provided that the Bank continues to satisfy the QTL test.
See "-- Regulation and Supervision of the Bank -- Qualified Thrift Lender Test."
Upon any non-supervisory acquisition by the Company of another savings
institution that is held as a separate subsidiary, the Company would become a
multiple savings and loan holding company and would be subject to limitations on
the types of business activities in which it could engage. The HOLA limits the
activities of a multiple savings and loan holding company and its non-insured
institution subsidiaries primarily to activities permissible for bank holding
companies under the Bank Holding Company Act, subject to the prior approval of
the OTS, and to other activities authorized by OTS regulation. In addition, the
acquisition of any additional savings institution in any state other than
Michigan could only be made under limited circumstances related to state law.
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MANAGEMENT
Executive Officers and Directors
Effective January 1997, the Board of Directors of the Company
consists of the same individuals who serve as directors of the Bank. The Board
of Directors of the Company is divided into three classes. Directors of the
Company each serve for three year terms or until their successors are elected
and qualified, with one-third of the directors being elected at each annual
meeting of shareholders. The term of each director of the Company expires at the
same time as such person's term as a director of the Bank.
The executive officers of the Company also serve as executive
officers of the Bank. Since the formation of the Company, none of the Company's
executive officers or directors have received compensation from the Company in
their capacity as such.
The following table sets forth the name, age and position with the
Company of each person who is an executive officer or director of the Company
and also sets forth the expiration of each director's term.
<TABLE>
<CAPTION>
Director Term
Name Age/1/ Position with the Company to Expire
---- --- ------------------------- ---------
<S> <C> <C> <C>
Thomas J. Hammond 53 Chairman and 1999
Chief Executive Officer
Mark T. Hammond 31 Vice Chairman and 1998
President
Joan H. Anderson 46 Director and 1999
Executive Vice President
Mary Kay McGuire 40 Director, Senior Vice 1997
President and Secretary
Ronald I. Nichols, Sr. 62 Director 1997
James D. Coleman 49 Director 1997
Charles Bazzy 67 Director 1998
William B. Bortels 62 Director 1998
Harry S. Ellman 49 Director 1999
Executive Officer Who is Not a Director:
---------------------------------------
Michael W. Carrie 42 Executive Vice President, Chief N/A
Financial Officer and Treasurer
</TABLE>
- ----------------
/1/ As of December 31, 1996
Thomas J. Hammond has served as Chairman of the Board of Directors
and Chief Executive Officer of the Company since its formation in 1993 and
served as President from 1993 to January 1997. He has served as Chairman of the
Board of Directors and Chief Executive Officer of the Bank since the Bank's
formation in 1987 and served as President of the Bank from 1987 to September
1995. Mr. Hammond has over 29 years of experience in the mortgage lending
industry. After earning a BSBA and an MBA in finance, Mr. Hammond began his
career as a Staff Financial Analyst for Ford Motor Company in 1966. Prior to
founding the Bank in 1987, Mr. Hammond formed and managed a series of companies
in the financial services industry, including Hammond Mortgage Corporation,
Seller's & Homeowner's Uniform Receipt of Equity, Inc. and First Security
Mortgage Corporation (formerly known as Oak Hills Mortgage Corporation) dating
back to 1969. Mr. Hammond founded Hammond Mortgage Corporation, a residential
mortgage brokerage firm, in 1969. This company did business nationwide and
operated branches in eight different
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states and was one of the country's largest FHA mortgage lenders prior to being
sold to Michigan National Bank in 1981. It eventually became known as
Independence One and is now part of Norwest Mortgage, Inc. Mr. Hammond is the
father of Mark T. Hammond, the Vice Chairman and President of the Company and
the Bank.
Mark T. Hammond has been Vice-Chairman of the Board of Directors and
President of the Company since January 1997. Previously, Mr. Hammond served as
the Company's Vice President from its formation in 1993 through April 1994 and
then as its Executive Vice President from April 1994 through January 1997. He
has also served as President of the Bank since September 1995. He has served as
a member of the Bank's Board of Directors since 1991 and as its Vice Chairman
since 1993. He has also served as Executive Vice President of the Bank from 1991
to September 1995 in charge of mortgage operations, wholesale lending and
construction lending. From 1989 to 1991, he served as the Bank's Senior Vice
President in charge of secondary marketing and mortgage production. Mr. Hammond
was a loan officer in 1987 for the Bank, worked part-time in the financial
services industry from 1982 to 1986 and is a graduate of Wharton Business
School. Mr. Hammond was responsible for the national expansion of the Bank's
loan production offices and has played a lead role in the development and
implementation of new technology for the Bank. Mr. Hammond recently served on
one of Fannie Mae's regional advisory councils. Mr. Hammond is the son of Thomas
J. Hammond, the Chairman and Chief Executive Officer of the Company and the
Bank.
Joan H. Anderson has been Executive Vice President of the Company
since 1994. She has been a Director of the Company since January 1997 and a
Director of the Bank since 1987. She also serves as the Bank's Executive Vice
President in charge of mortgage loan servicing, collections and real estate
holdings, a position she has occupied since 1988. Ms. Anderson served as a
Senior Vice President of the Bank from 1987 to 1988. Prior to that time, she
held various positions with mortgage lending companies owned by Thomas J.
Hammond and has worked in the financial services industry since 1970.
Mary Kay McGuire has been Secretary of the Company since its
formation in 1993 and has been a Senior Vice President of the Company since
1994. She has been a Director of the Company since January 1997 and a Director
of the Bank since September 1987. She has also served as the Bank's Secretary
since its formation in 1987, and Senior Vice President of the Bank in charge of
human resources, purchasing and facilities management since 1988 and advertising
since 1996. She also served as a Vice President of the Bank from 1987 to 1988.
Prior to that time, Ms. McGuire served with Mr. Thomas Hammond since 1977 and
has worked in the financial services industry since 1974.
Ronald I. Nichols, Sr. has served as a Director of the Company since
its formation in 1993 and as a Director of the Bank since 1988. He has been
President of Nichols Sales Associates, Inc. located in Bloomfield Hills,
Michigan since 1969.
Dr. James D. Coleman has been a Director of the Company since its
formation in 1993 and a Director of the Bank since its formation in 1987. He has
served as Director of Emergency Services of Emergicare Physicians since 1979,
which provides emergency room staffing for Oakwood Hospital on a contract basis.
He also serves as Vice-Chief of the Foundation Board of Directors of Oakwood
Hospital located in Dearborn, Michigan.
Charles Bazzy has served as a Director of the Company since its
formation in 1993 and as a Director of the Bank since 1988. He has been a
manufacturer's sales representative for and principal of Charles Bazzy &
Associates located in Bloomfield Hills, Michigan. Prior to 1988, he was a
planning and development manager for Ford Motor Company and was with Ford Motor
Company for 33 years.
William B. Bortels has been a Director of the Company since January
1997 and a Director of the Bank since 1991. He has been a self-employed
single-family home builder in Brighton, Michigan since 1964.
Harry S. Ellman has served as a Director of the Company since January
1997 and a Director of the Bank since 1990. He has been a title insurance agent
and attorney with Fidelity Title Co. located in Bingham Farms, Michigan since
1987. He is also a member of the State Bar of Michigan, the Building Industry
Association of
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Southeast Michigan and is a past chairman of the Income Producing Committee of
the Mortgage Bankers' Association.
Executive Officer of the Company Who is Not a Director
Michael W. Carrie has served as Treasurer of the Company since its
inception in 1993 and its Executive Vice President and Chief Financial Officer
since January 1997. He has also served as Chief Financial Officer of the Bank
since 1993, and as its Executive Vice President in charge of financial planning,
financial accounting, cash management, investor reporting, regulatory
accounting, loan funding and information services since 1995. From 1993 to 1995
he served as Senior Vice President of the Bank. From 1985 until 1993, he served
as Vice President and Manager of Financial Analysis of a major regional federal
savings bank. From July 1994 to February 1996, Mr. Carrie also served as a
director of Security Savings after its acquisition by the Company.
Key Employees of the Bank
The Bank has fourteen Senior Vice Presidents or First Vice
Presidents, many of which have been with the Bank since its formation in 1987.
The Senior Vice Presidents in charge of treasury management, administration,
risk management and underwriting previously worked for Hammond Mortgage Company,
Thomas Hammond's prior company, during the 1970's. Only one senior officer has
resigned from the Bank in the last ten years.
Committees of the Board of Directors
The Board of Directors of the Company generally meet on a monthly
basis, as needed. Directors of the Company are also directors of the Bank and
therefore generally supervise operations of both the Company and the Bank
through monthly meetings of the Bank's Board of Directors. The Board of
Directors of the Bank holds regular monthly meetings and special meetings as
needed. During the year ended December 31, 1995, the Company's and the Bank's
Boards met 10 times and 12 times, respectively. No director attended fewer than
75% in the aggregate of the total number of such Board meetings held while such
director was a member during the year ended December 31, 1995 and the total
number of meetings held by committees on which such director served during such
year.
The Company's full Board of Directors acts as a nominating committee
for the annual selection of its nominees for election as directors of the
Company. While the Board of Directors will consider nominees recommended by
stockholders, it has not actively solicited recommendations from the Company's
stockholders for nominees nor, subject to the procedural requirements set forth
in the Company's Restated Articles and Bylaws, established any procedures for
this purpose. The Company's Board of Directors met once in its capacity as the
nominating committee during 1995.
The Bank's full Board of Directors acts as a compensation committee
for both the Company and the Bank and met twelve times in this capacity during
1995 to examine the performance and approve the compensation of the officers.
The Bank's Audit Committee consists of directors Coleman (Chairman),
Bazzy and Bortels and performs the functions of the Company's and the Bank's
respective audit committees. The Audit Committee is responsible for reviewing
the Company's and the Bank's auditing programs, overseeing the quarterly
regulatory reporting process, overseeing internal compliance audits as
necessary, receiving and reviewing the results of each external audit, reviewing
management's response to auditors' recommendations, and reviewing management's
reports on cases of financial misconduct by employees, officers or directors.
The Audit Committee met four times in 1995.
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<PAGE>
Executive Compensation
Summary Compensation Table. The following table sets forth the cash
and noncash compensation for each of the last three years awarded to or earned
by certain executive officers of the Company for services rendered in all
capacities to the Company and its subsidiaries.
<TABLE>
<CAPTION>
Other Annual All Other
Name and Principal Position Year Salary Bonus Compensation(1) Compensation
------------------------------------------------- --------- ---------------- -------------- ------------------ ------------------
<S> <C> <C> <C> <C> <C>
Thomas J. Hammond 1996 $ 1,000,000 $ 793,580 -- $ 49,300(4)
Chairman of the Board and Chief Executive 1995 529,600 737,102 -- 56,340(5)
Officer 1994 529,600 616,301 -- 43,580(6)
Mark T. Hammond(2) 1996 $ 405,002 $ 12,600 -- $ 23,418(4)
Vice Chairman of the Board and President 1995 298,369 12,779 -- 32,180(5)
1994 276,694 17,450 -- 23,683(6)
Michael W. Carrie(3) 1996 $ 204,314 $ 8,568 -- $ 11,700(4)
Executive Vice President and Treasurer 1995 160,640 8,042 -- 18,900(5)
1994 147,577 5,143 -- 8,477(6)
Joan H. Anderson 1996 $ 149,450 $ 10,080 -- $ 27,300(4)
Executive Vice President and Director 1995 137,169 10,989 -- 23,978(5)
1994 120,738 27,450 -- 20,988(6)
</TABLE>
- --------------------------
(1) Executive officers of the Company receive certain perquisites and other
personal benefits. In each case, the amount of such benefits received by
each executive officer in each of the years 1996, 1995 and 1994 did not
exceed $50,000 or 10% of such executive officer's salary and bonus.
(2) Mark T. Hammond was elected President of the Company and the Bank in
September 1995.
(3) Michael W. Carrie joined the Company and the Bank in January 1993 as Chief
Financial Officer. He assumed his current position as Executive Vice
President in November 1995.
(4) Includes payments to Thomas J. Hammond, Mark T. Hammond, Michael W. Carrie
and Joan H. Anderson of $13,200, $14,400, $0 and $14,400, respectively,
for Board fees, $4,500, $3,219, $4,500 and $4,500, respectively, in 401(k)
contributions, and $31,600, $5,799, $7,200 and $8,400, respectively, in
term life insurance premium equivalent payments.
(5) Includes payments to Thomas J. Hammond, Mark T. Hammond, Michael W. Carrie
and Joan H. Anderson of $25,200, $25,200, $9,600 and $15,600,
respectively, for Board fees, $4,500, $3,500, $4,500 and $2,378,
respectively, in 401(k) contributions and $26,640, $3,791, $4,800 and
$6,000, respectively, in term life insurance premium equivalent payments
for such persons.
(6) Includes payments to Thomas J. Hammond, Mark T. Hammond, Michael W. Carrie
and Joan H. Anderson of $17,400, $17,400, $4,000 and $13,400,
respectively, for Board fees, $4,500, $4,500, $2,077 and $3,988,
respectively, in 401(k) contributions, and $21,680, $1,783, $2,400 and
$3,600, respectively, in term life insurance premium equivalent payments.
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<PAGE>
Director Compensation
Directors of the Company presently do not receive compensation in
their capacities as such. However, they would receive compensation in connection
with the proposed Stock Option Plan. See "--Certain Benefit Plans and Agreements
- -- Stock Option Plan." Directors of the Bank receive fees of $1,200 for each
meeting attended. During 1995, directors' fees for each director of the Bank
totaled $14,400 plus a $1,200 bonus. The directors do not receive any additional
compensation for serving on committees.
Certain Benefit Plans and Agreements
In connection with the Offering and subject to its successful
completion, the Boards of Directors of the Company and the Bank have approved
various incentive or other plans and several employment agreements.
Basis for Awards of Benefits and Compensation. The Company's and the
Bank's Board of Directors have evaluated and approved the terms of the
employment agreements and other benefits described below. In their review of the
benefits and compensation of the executive officers and the terms of the
employment agreements and severance agreements, the Boards of Directors
considered a number of factors, including the experience, tenure and ability of
the executive officers, their performance during their tenure and the various
legal and regulatory requirements regarding the levels of compensation which may
be paid to employees of savings associations.
Stock Option Plan (the "Option Plan). The 1997 Employees and
Directors Stock Option Plan would be effective upon the successful completion of
the Offering. The purpose of the Option Plan is to provide an additional
incentive to directors and employees by facilitating their purchase of Common
Stock. The Option Plan will have a term of 10 years from the date of its
approval by the Company's stockholders, after which no awards may be made.
Pursuant to the Option Plan, a number of shares equal to 10% of the shares of
Common Stock that are to be outstanding following the Offering, would be
reserved for future issuance by the Company, in the form of newly issued or
treasury shares or shares held in a grantor trust, upon exercise of stock
options ("Options"). Options are collectively referred to herein as "Awards." If
Awards should expire, become unexercisable or be forfeited for any reason
without having been exercised or having become vested in full, the shares of
Common Stock subject to such Awards would, unless the Option Plan shall have
been terminated, be available for the grant of additional Awards under the
Option Plan.
The Option Plan will be administered by a committee of at least three
directors of the Company who are designated by the Board of Directors (the
"Option Committee"). The Option Committee will select the employees to whom
Awards are to be granted, the number of shares to be subject to such Awards, and
the terms and conditions of such Awards (provided that any discretion exercised
by the Option Committee must be consistent with the terms of the Option Plan).
It is intended that Options granted under the Option Plan will
constitute both incentive stock options ("ISOs") and non-incentive stock options
("non-ISOs"). ISOs are options that comply with certain restrictions pursuant to
Section 422 of the Code and thereby provide favorable tax treatment to
recipients, although they do not result in tax deductions to the Company unless
participants fail to comply with Section 422 of the Code. Non-ISOs are stock
options that fail to qualify as ISOs, either at the time of grant or upon
exercise.
The exercise price for ISOs may not be less than 100% of the fair
market value of the shares on the date of the grant. Non-ISOs may be granted
with any exercise price, although a recipient will recognize taxable income upon
the receipt of a non-ISO with an exercise price that is substantially less than
its fair market value. The Plan permits the Option Committee to impose transfer
restrictions, such as a right of first refusal, on the Common Stock that
optionees may purchase.
No Option will be exercisable earlier than six months following the
Offering or later than ten years from the date it is granted unless a shorter
period is provided by the Option Committee; provided, however, that in the case
of any employee who owns more than 10% of the outstanding Common Stock at the
time an ISO is granted, the option
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<PAGE>
price for the ISO shall not be less than 110% of the fair market value of the
shares on the date of the grant and the ISO shall not be exercisable after the
expiration of five years from the date it is granted.
An otherwise unexpired Option shall, unless otherwise determined by
the Option Committee, cease to be exercisable upon (i) an employee's termination
of employment for "just cause" (as defined in the Option Plan), (ii) the date an
employee terminates service for a reason other death, or disability, (iii) the
date one year after an employee terminates service due to disability, or (iv)
the date two years after termination of such service due to the employee's
death. Options granted to non-employee directors will automatically expire one
year after termination of service on the Board of Directors (two years in the
event of death).
The Company will receive no monetary consideration for the granting
of Awards under the Option Plan and will receive no monetary consideration other
than the Option exercise price for each share issued to optionees upon the
exercise of Options. The Option exercise price may be paid in cash or Common
Stock. The exercise of Options will be subject to such terms and conditions
established by the Option Committee as are set forth in a written agreement
between the Option Committee and the optionee (to be entered into at the time an
Award is granted). No Award is assignable or transferable except by will or the
laws of descent and distribution, although, limited transfers, principally to
immediate family members, would be permitted if a pending change in the law is
approved.
Employee Stock Purchase Plan. The Flagstar Bancorp, Inc. 1997
Employee Stock Acquisition Plan ("Purchase Plan") would be effective upon the
successful completion of the Offering. The purpose of the Purchase Plan is to
encourage broad-based ownership by employees of the Company and, as a result, to
provide an incentive for employees at all levels to contribute to the
profitability and success of the Company. The Purchase Plan enables the Company
to offer a convenient means in the future for the employees who might not
otherwise own Common Stock to purchase and hold the Common Stock, and through
the partial refund feature of the Purchase Plan, to provide a meaningful
inducement to participate.
The Purchase Plan will be administered by the Option Committee of the
Board of Directors. All employees of the Company, its subsidiaries or affiliates
who work 20 hours per week or more with at least 6 months of continuous
employment and all directors will be eligible to participate. Directors who are
not employees would also be eligible to participate.
Under the Purchase Plan, eligible participants would be free to
purchase from any third party and on the open market shares of the Common Stock
and, upon providing evidence of the purchase to the company, the employees would
receive a payment from the Company equal to 15% of the full price of the shares.
No employee would receive such reimbursement for total purchases in any one year
in excess of 7% of the employee's gross income from the Company in the prior
calendar year; non-employee directors would be limited to purchases of 150
shares per year. Costs related to the purchase and sale of such shares will be
borne by the individuals. Participants in the Purchase Plan will be asked to
sign a statement acknowledging that they are aware of the condition of the Plan
that the shares so purchased may not be sold for a period of one year.
Participants will be entitled, with respect to Common Stock acquired
under the Purchase Plan, to the same rights and distributions as are other
holders of the Common Stock. The Purchase Plan has not been designed to comply
with the requirements of Section 423 of the Code with respect to "employee stock
purchase plans." As a result, participants in the Purchase Plan will be taxed
for federal income tax purposes in the year the refund is received by them.
Costs incurred by the Company pursuant to the Purchase Plan are expected to be
deductible as an expense by the Company.
Incentive Compensation Plan. The Flagstar Bancorp, Inc. 1997
Incentive Compensation Plan is to be effective upon the successful completion of
the Offering. The Incentive Compensation Plan is unfunded and benefits are
payable only in the form of cash from the Bank's general assets. The purposes of
the Incentive Compensation Plan are to attract and retain the best available
personnel for positions of substantial responsibility with the Bank and to
provide additional incentives to employees of the Bank in the event the Bank
achieves certain financial performance goals indicative of its profitability and
stability in comparison to other institutions of a similar size.
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<PAGE>
The Incentive Compensation Plan will be administered by a committee
(the "Incentive Compensation Committee") consisting of the Bank's Compensation
Committee. The Incentive Compensation Committee will decide, from year to year,
which employees of the Bank will be eligible to participate in the Incentive
Compensation Plan and the size of the bonus pool. The plan year of the Incentive
Compensation Plan corresponds to the Bank's fiscal year. Directors who are not
employees may not participate in the Incentive Compensation Plan.
A mathematical formula set forth in the Incentive Compensation Plan
determines the incentive compensation that participant may receive in the
aggregate. Each employee who is eligible to receive a bonus at the end of a plan
year will receive a bonus equal to a specified percentage of his or her base
salary. However, the Incentive Compensation Committee may, in its discretion, by
resolution adopted before the first day of any plan year, change said
percentage. The aggregate amount of bonuses payable for any plan year will be
proportionately reduced to the extent that the payment would cause the Bank to
cease to be a "well-capitalized" institution.
For 1997, the Incentive Compensation Plan provides for bonuses to be
tied to net earnings and the volume of loan originations in comparison to those
for 1996.
Deferred Compensation Plan. The 1997 Deferred Compensation Plan
("Plan"), to be effective upon the successful completion of the Offering, is a
simple vehicle to permit employees and directors to defer the current receipt of
income until such time as the funds or assets are distributed in the future,
presumably at a time when the individual will be able to take advantage of a
decreased income tax bracket. Employees may elect to defer up to 25 percent of
annual compensation, directors may defer their entire compensation. Funds
deferred remain the property of the Bank and subject to the claims of the
creditors of the Bank in the event of default. However, the funds are placed in
a trust with an independent trustee; the individual participants may direct that
their deferred amounts be invested in stock of the Company purchased on the open
market. Upon withdrawal, the participant has the option of receiving the stock
or the proceeds of its sale at then market price; all withdrawals from the Plan
trust would be then taxable as ordinary income.
Thrift Plan. The Bank maintains a defined contribution plan, which is
designed to qualify under Sections 401(a) and 401(k) of the Code (the "Thrift
Plan") An employee is eligible to participate in the Thrift Plan on or after
having attained age 21 and having worked one year from the date of hire (or
during a calendar year). The Thrift Plan permits each participant to make
before-tax contributions, through regular salary reduction, in amounts ranging
up to 6% of the participant's annual salary, not to exceed $9,000 in total
annual contributions. The Bank makes matching contributions up to 3% of each
eligible participant's monthly salary. Participants are at all times 100% vested
in their entire account balances under the Thrift Plan attributed to their
contributions, and vest 100% after seven years as to the Bank's contribution.
Benefits are paid at the time of a participant's death, retirement, disability,
termination of employment, and, under limited circumstances, may be withdrawn
prior to the participant's termination of service. Account balances are paid
upon the participant's election, in either a lump sum or in installments.
Contributions are not taxable to participating employees until such funds are
distributed to them. The earnings attributable to a participant's account
accumulate tax free until they are distributed to the participant or his or her
beneficiary. The Thrift Plan is intended to comply with all the rights and
protection afforded employees pursuant to the Employee Retirement Income
Security Act of 1974, as amended. The Bank has amended the Thrift Plan to
provide all participants in the Thrift Plan with a one-time opportunity to
purchase the Common Stock in the Offering through their respective accounts in
the Thrift Plan. See "Underwriting."
Employment Agreements. The Company and the Bank intend to enter into
separate employment agreements pursuant to which Thomas J. Hammond would serve
as Chief Executive Officer of the Company and the Bank and Mark T. Hammond would
serve as President of the Company and the Bank. In such capacities, Messrs.
Hammond and Hammond are responsible for overseeing all operations of the Company
and the Bank, and for implementing the policies adopted by the Boards of
Directors. In addition, the Company and the Bank intend to enter into separate
employment agreements with Mr. Carrie in his capacity as Executive Vice
President and Chief Financial Officer and Ms. Anderson in her capacity as
Executive Vice President, and with fourteen other persons in their respective
capacities as Senior Vice President or First Vice President of the Bank. All
such employment agreements
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<PAGE>
are referred to herein collectively as "Employment Agreements" and all persons
who will enter into such Employment Agreements are referred to herein as
"Employees."
The Boards of Directors of the Company and the Bank each believe that
the Employment Agreements assure fair treatment of the Employees in relation to
their career with the Company and the Bank by providing them with a limited form
of financial security while committing such persons to future employment with
the Company and the Bank for the term of their respective agreements. In the
event that any Employee prevails over the Company or the Bank in a legal dispute
as to an Employment Agreement, he or she will be reimbursed for his or her legal
and other expenses.
The Employment Agreements will become effective upon successful
completion of the Offering. The terms of the agreements will be three years for
Messrs. Hammond, Hammond and Carrie and Ms. Anderson, two years for senior vice
presidents of the Company and the Bank, and one year for first vice presidents
of the Company and the Bank. Each agreement will provide for an annual base
salary equal to the Employee's existing base salary rate in effect on the date
of the completion of the Offering. On each anniversary date from the date of
commencement of the Employment Agreements, the term of the Employee's employment
under the Employment Agreements will be extended for an additional one-year
period beyond the then effective expiration date, upon a determination by the
Board of Directors that the performance of the Employee has met the required
performance standards and that such Employment Agreements should be extended.
The Employment Agreements provide the Employee with a salary review by the Board
of Directors not less often than annually, as well as with inclusion in any
discretionary bonus plans, retirement and medical plans, customary fringe
benefits, vacation and sick leave.
The Employment Agreements will terminate upon the Employee's death or
disability, and are terminable by the Company or the Bank for "just cause" as
defined in the Employment Agreements. In the event of termination for just
cause, no severance benefits are available. If the Company or the Bank
terminates the Employee without just cause, the Employee will be entitled to a
continuation of his or her salary and benefits from the date of termination
through the remaining term of such Employee's Employment Agreement, plus an
additional 12-month period, and, at the Employee's election, either cash in an
amount equal to the cost to the Employee of obtaining health, life, disability,
and other benefits which the Employee would have been eligible to participate in
through the Employment Agreement's expiration date or continued participation in
such benefits plans through the agreement's expiration date, provided the
Employee continued to qualify for participation therein. If the Employment
Agreements are terminated due to the Employee's "disability" (as defined in the
Employment Agreements), the Employee will be entitled to a continuation of his
or her salary and benefits for up to 180 days following such termination. In the
event of the Employee's death during the term of the Employment Agreement, his
or her estate will be entitled to receive his or her salary through the last day
of the calendar month in which the Employee's death occurred. The Employee is
able to terminate voluntarily his or her Employment Agreement by providing 90
days' written notice to the Boards of Directors of the Bank and the Company, in
which case the Employee is entitled to receive only his compensation, vested
rights and benefits up to the date of termination.
The Employment Agreements contain provisions stating that in the
event of the Employee's involuntary termination of employment in connection
with, or within one year after, any change in control of the Bank or the
Company, other than for "just cause," the Employee will be paid within 10 days
of such termination an amount equal to the difference between (i) 2.99 times his
or her "base amount," as defined in Section 280G(b)(3) of the Code, and (ii) the
sum of any other parachute payments, as defined under Section 280G(b)(2) of the
Code, that the Employee receives on account of the change in control. "Control"
generally refers to the acquisition, by any person or entity, of the ownership
or power to vote more than 25% of the Bank's or Company's voting stock, the
control of the election of a majority of the Bank's or the Company's directors,
or the exercise of a controlling influence over the management or policies of
the Bank or the Company. In addition, under the Employment Agreements, a change
in control occurs when, during any consecutive two-year period, directors of the
Company or the Bank at the beginning of such period cease to constitute at least
a majority of the Board of Directors of the Company or the Bank. The amount
determined using the forgoing formula would also be paid (i) in the event of an
Employee's voluntary termination of employment within 30 days following a change
in control, or (ii) in the event of the Employee's voluntary termination of
employment within one year following a change in control, upon the occurrence,
or within 90 days thereafter, of certain specified events following the change
in control, which have not been consented to in writing by the Employee,
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including (i) the requirement that the Employee perform his or her principal
executive functions more than 30 miles from his or her primary office, (ii) a
reduction in the Employee's base compensation as then in effect, (iii) the
failure of the Company or the Bank to increase the Employee's salary or to pay
the Employee discretionary bonuses, (iv) the failure of the Company or the Bank
to continue to provide the Employee with compensation and benefits, including
material vacation, fringe benefits, stock option and retirement plans, (v) the
assignment to the Employee of duties and responsibilities which are other than
those normally associated with his or her position with the Bank and the
Company, (vi) a material reduction in the Employee's authority and
responsibility, and (vii) in the case of an employee who is also a director, the
failure to re-elect the Employee to the Company's or the Bank's Board of
Directors. The Employment Agreements with the Bank provide that within five
business days of a change in control, the Bank shall fund, or cause to be
funded, a trust in the amount of 2.99 times the Employee's "base amount," that
will be used to pay the Employee amounts owed to him upon termination, other
than for just cause, within one year of the change in control. The aggregate
payments that would be made to Messrs. Thomas J. Hammond, Mark T. Hammond and
Carrie and Ms. Anderson, assuming termination of employment under the foregoing
circumstances at January 1, 1997, would be approximately $3.0 million, $851,000,
$476,000 and $438,000, respectively. These provisions may have an anti-takeover
effect by making it more expensive for a potential acquirer to obtain control of
the Company. For more information regarding anti-takeover matters, see
"Description of Capital Stock."
Whole Life Insurance Policy. The Bank also pays the premiums of
variable whole life insurance policies which are available to all officers of
the Company and the Bank. The beneficiary of each such policy is the estate of
the officer, except that the Bank is the beneficiary to the extent of all
premiums paid by the Bank for such policy.
Transactions with Management
The Company, through the Bank, offers loans to its directors,
officers and employees. These loans currently are made in the ordinary course of
business with the same collateral, interest rates and underwriting criteria as
those of comparable transactions prevailing at the time and do not involve more
than the normal risk of collectibility or present other unfavorable features.
Under federal law, the Bank's loans to directors and executive officers are
required to be made on substantially the same terms, including interest rates,
as those prevailing for comparable transactions and must not involve more than
the normal risk of repayment or present other unfavorable features. At September
30, 1996, all of the Bank's loans to directors and executive officers satisfied
these requirements.
Security Ownership of Certain Beneficial Owners
As of the date hereof, outstanding capital stock of the Company
consists of 11,250,000 shares of the Common Stock, which entitles the holder
thereof to one vote per share on each matter on which the stockholders of the
Company are entitled to vote.
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The following table sets forth information, as of the date of this
Prospectus, regarding persons who own more than 5% of the Common Stock.
<TABLE>
<CAPTION>
Shares of Common Stock Owned Before Common Stock Percentage Owned
Name of Beneficial Owner Offering Before Offering
- ---------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Thomas J. Hammond 7,257,066(1) 64.51%
Janet G. Hammond 7,257,066(1) 64.51%
Mark T. Hammond 1,330,978(2) 11.83%
Catherine H. Rondeau 1,330,978(2) 11.83%
Carrie C. Langdon 1,330,978(2) 11.83%
</TABLE>
- ---------------------------
(1) Mr. Hammond and Mrs. Hammond, who are husband and wife, each disclaim
beneficial ownership of all the shares of Common Stock held by the other.
In accordance with Rule 13d-3 under the Securities Exchange Act of 1934, a
person is deemed to be the beneficial owner, for purposes of this table,
of any shares of the Common Stock if he or she has or shares voting or
investment power with respect to such security, or has a right to acquire
beneficial ownership at any time within 60 days from the Record Date. As
used herein, "voting power" is the power to vote or direct the voting of
shares and "investment power" is the power to dispose or direct the
disposition of shares.
(2) Mark T. Hammond, Catherine H. Rondeau and Carrie C. Langdon are the
children of Thomas and Janet Hammond.
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Security Ownership of Management
The following table sets forth information, as of the most recent
practicable date, regarding each class of equity securities of the Company or
the Bank beneficially owned by their directors and certain of the executive
officers and by all of the directors and executive officers of the Company and
the Bank as a group.
<TABLE>
<CAPTION>
Shares of Common Stock Owned Before the Percentage of Total Common Stock Owned
Name of Beneficial Owner Offering Before the Offering
- ------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Thomas J. Hammond 7,257,066(1)(2) 64.51%
Mark T. Hammond 1,330,978(2) 11.83%
Michael W. Carrie -- *
Joan H. Anderson -- *
Mary Kay McGuire -- *
Harry S. Ellman -- *
Ronald I. Nichols, Sr. -- *
James D. Coleman -- *
William B. Bortels -- *
Charles Bazzy -- *
Directors and Executive Officers
as a Group (10 persons) 8,588,044 76.34%
</TABLE>
- ---------------------
* Less than 1%
(1) Includes 1,325,919 shares of Common Stock held by Mr. Hammond's wife,
Janet G. Hammond, and as to which Mr. Hammond disclaims beneficial
ownership. For the definition of "beneficial ownership," see the table
above.
(2) Includes shares held directly or by trust.
Liability of Directors; Indemnification.
The Company's Restated Articles of Incorporation contain a provision,
authorized by the Michigan Business Corporations Act ("MBCA"), designed to
eliminate in certain circumstances the personal liability of directors for
monetary damages to the Company or its stockholders for breach of their
fiduciary duty as directors. This provision, however, does not limit the
liability of any director who breached his duty of loyalty to the Company or its
stockholders, failed to act in good faith, obtained an improper personal benefit
or paid a dividend or approved a stock repurchase or redemption that was
prohibited under Michigan law. This provision will not limit or eliminate the
rights of the Company or any stockholder to seek an injunction or any other
nonmonetary relief in the event of a breach of a director's duty of care. In
addition, this provision applies only to claims against a director arising out
of his role as a director and does not relieve a director from liability
unrelated to his fiduciary duty of care or from a violation of statutory law
such as certain liabilities imposed on a director under the federal securities
laws.
The Company's Restated Articles of Incorporation and Restated Bylaws
also provide that the Company shall indemnify all directors and officers of the
Company to the full extent permitted by the MBCA. Under the provisions of the
MBCA, any director or officer who, in his capacity as such, is made or
threatened to be made a party to any suit
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or proceeding, may be indemnified if the Board determines such director or
officer acted in good faith and in a manner he reasonably believed to be in or
not opposed to the best interests of the Company or its stockholders.
Officers and directors are covered within specified monetary limits
by insurance against certain losses arising from claims made by reason of their
being directors or officers of the Company or of the Company's subsidiaries and
the Company's officers and directors are indemnified against such losses by
reason of their being or having been directors or officers of another
corporation, partnership, joint venture, trust or other enterprise at the
Company's or its subsidiaries' request.
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SELLING STOCKHOLDERS
The Selling Stockholders consist of Thomas J. Hammond, his wife Janet
G. Hammond, and their children Mark T. Hammond, Catherine H. Rondeau and Carrie
C. Langdon. The Selling Stockholders own all of the outstanding Common Stock of
the Company as of the date of this Prospectus and have, collectively, owned all
of the outstanding shares of Common Stock of the Company since its formation.
As of the date hereof, outstanding Common Stock of the Company
consisted of 11,250,000 shares. The following table sets forth information, as
of the date of this Prospectus, regarding the ownership of the Company's Common
Stock by the Selling Stockholders, the stock which they will respectively
beneficially own following the Offering (assuming that the over-allotment
options are not exercised) and their current respective positions with the
Company or the Bank, if any.
<TABLE>
<CAPTION>
Shares of Common Common Stock Shares of Common Shares of Common Common Stock Percent
Stock Owned Before Percent Owned Stock Stock Owned After the Owned After the
Name of Beneficial Owner the Offering(3) Before the Offering Offered Hereby Offering Offering(4)
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Thomas J. Hammond(1) 5,931,147 52.72% 3,084,195 2,846,952 21.17%
Janet G. Hammond 1,325,919 11.79% 689,478 636,441 4.73%
Mark T. Hammond(2) 1,330,978 11.83% 692,109 638,869 4.75%
Catherine H. Rondeau 1,330,978 11.83% 692,109 638,869 4.75%
Carrie C. Langdon 1,330,978 11.83% 692,109 638,869 4.75%
------------- ------------ ------------- ------------- -------------
11,250,000 100.00% 5,850,000 5,400,000 40.15%
============= ============ ============= ============= ============
</TABLE>
- ---------------------
(1) Thomas J. Hammond is Chairman and Chief Executive Officer of the Company
and the Bank.
(2) Mark T. Hammond is Vice Chairman and President of the Company and the
Bank.
(3) Except as otherwise disclosed above, includes shares owned directly by
directors and executive officers of the Company as well as shares held by
their spouses and children and by trusts as to which certain directors and
executive officers are trustees.
(4) Reflects 13,450,000 shares of Common Stock to be outstanding following the
Offering, assuming that the over-allotment options are not exercised.
Certain Arrangements Concerning the Selling Stockholders
The following summary of certain material provisions of the
Underwriting Agreement and the Selling Stockholders Agreement does not purport
to be complete and is qualified in its entirety by reference to the Underwriting
Agreement and the Selling Stockholders Agreement, respectively, each of which is
an exhibit to the Registration Statement of which this Prospectus forms a part.
Pursuant to the underwriting agreement (the "Underwriting
Agreement"), the form of which is filed as an exhibit to the Registration
Statement of which this Prospectus forms a part, among the Company, the Bank,
the Selling Stockholders and each of the underwriters named under the caption
"Underwriting" herein (the "Underwriters"), for whom Lehman Brothers Inc.,
PaineWebber Incorporated and Roney & Co. are acting as representatives (the
"Representatives"), each Selling Stockholder has agreed to sell 52.0% of their
respective shares of Common Stock (or such additional amount as may be necessary
to satisfy a proportionate amount of the Underwriters' over-allotment options)
in conjunction with the Company's sale of newly issued shares pursuant to the
Offering (the "Offered Common Stock"). In consideration of the obligations
assumed by the Selling Stockholders, the Company has
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agreed in the Underwriting Agreement and the Selling Stockholders Agreement that
the expenses of the Offering in excess of one half of the Underwriters' fee with
respect to all Common Stock to be sold in the Offering will be paid by the
Company. The Selling Stockholders have also agreed not to offer, sell or
otherwise dispose of any of the remainng shares of Common Stock which they hold
for a period of 180 days following the date of this Prospectus without the prior
written consent of Lehman Brothers Inc. on behalf of the Representatives. See
"Underwriting."
Pursuant to the Selling Stockholders Agreement, the Company is
obligated, at any time beginning one year after the completion of the Offering,
upon the demand of the holder(s) of a majority of the shares of Common Stock
then held by the Selling Stockholders, to file and use its best efforts to cause
to become effective promptly, a registration statement under the Securities Act
with respect to shares of Common Stock then held by such Selling Stockholders.
The Company is also obligated to take action to keep such registration statement
effective (subject to occasional periods of suspension of such effectiveness as
necessary) until the first to occur of (i) the date on which all shares of
Common Stock registered thereunder have been sold or (ii) the date on which such
registration under the Securities Act is no longer required to sell such shares
without restriction.
In connection with the Selling Stockholders Agreement, each of the
Selling Stockholders and the Company have made certain representations and
warranties.
DESCRIPTION OF CAPITAL STOCK
General
The Company is authorized to issue 40,000,000 shares of the Common
Stock and 10,000,000 shares of serial preferred stock, par value $0.01 per
share. Prior to the Offering, 11,250,000 shares of the Common Stock have been
issued and are outstanding and none of the serial preferred stock has been
issued. The Company currently expects to issue 2,200,000 additional shares of
Common Stock in the Offering (or 2,530,000 additional shares if the Underwriters
exercise their over-allotment option) and no shares of serial preferred stock.
The Company has reserved for future issuance under the Option Plan an amount of
authorized but unissued shares of Common Stock equal to 10.0% of the shares
outstanding after the Offering.
The capital stock of the Company will represent nonwithdrawable
capital, will not be an account of an insurable type, and will not be insured by
the FDIC.
Common Stock
Voting Rights. Each share of the Common Stock will have the same
relative rights and will be identical in all respects with every other share of
the Common Stock. The holders of the Common Stock will possess exclusive voting
rights in the Company, except to the extent that shares of serial preferred
stock issued in the future may have voting rights, if any. Each holder of shares
of the Common Stock will be entitled to one vote for each share held of record
on all matters submitted to a vote of holders of shares of the Common Stock
except to the extent voting rights may be diminished as discussed in
"Restrictions on Acquisition of the Company."
Dividends. The Company may pay dividends on its capital stock if, as
and when declared by the Board of Directors, subject to compliance with
limitations imposed by law. See "Dividend Policy." The holders of Common Stock
will be entitled to receive and share equally in such dividends as may be
declared by the Board of Directors out of funds legally available therefor. If
the Company issues serial preferred stock, the holders thereof may have a
priority over the holders of the Common Stock with respect to the receipt of
dividends.
Liquidation. In the event of any liquidation, dissolution or winding
up of the Company, each holder of its Common Stock would be entitled to receive,
after payment or provision for payment of all debts and liabilities of the
Company, a pro rata portion of all assets of the Company. If any serial
preferred stock is issued, the holders thereof may have a priority over the
holders of the Common Stock in the distribution of the Company's assets in a
liquidation or dissolution of the Company.
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Restrictions on Acquisition of the Common Stock. See "Restrictions on
the Acquisition of the Company and the Bank" and "Certain Anti-Takeover
Provisions in the Restated Articles of Incorporation and Restated Bylaws" for
discussions of the limitations on the acquisition of shares of the Common Stock.
Other Characteristics. Holders of the Common Stock will not have
preemptive rights with respect to any additional shares of the Common Stock
which may be issued in the future. The Common Stock is not subject to call for
redemption. Upon payment of the Public Offering Price for the Common Stock, all
such stock will be duly authorized, fully paid and non-assessable.
Transfer Agent and Registrar. ____________________________will act as
transfer agent and registrar for the Common Stock.
Issuance of Additional Shares. Except as may be allowed or required
under the Company's Stock Option Plan or Employee Stock Purchase Plan, the
Company has no present plans, proposals, arrangements or understandings to issue
additional shares of authorized Common Stock or serial preferred stock. In the
future, the authorized but unissued and unreserved shares of Common Stock will
be available for general corporate purposes, including but not limited to,
possible issuance as stock dividends, in connection with mergers or
acquisitions, under a cash dividend reinvestment or stock purchase plan, in a
public or private offering, or pursuant to future employee benefit plans.
Normally, no stockholder approval would be required for the issuance of these
additional shares, although certain transactions or employee benefit plans may
otherwise be required to be approved by the Company's stockholders.
Serial Preferred Stock
None of the authorized shares of serial preferred stock of the
Company will be issued in or outstanding following the Offering and the Board of
Directors has no present plans, proposals, arrangements or understandings to
issue such shares. The Board of Directors of the Company is authorized to issue
serial preferred stock and to fix and state voting powers, designations,
preferences or other special rights of such shares and the qualification,
limitations and restrictions thereof, subject to no prior stockholder approval.
If and when issued, the serial preferred stock is likely to rank prior to the
Common Stock as to dividend rights, liquidation preferences or both, and may
have full or limited voting rights. The Board of Directors, without the approval
of the holders of the Common Stock, may issue serial preferred stock with voting
and Offering rights which could adversely affect the voting power of the holders
of the Common Stock.
RESTRICTIONS ON ACQUISITION OF THE COMPANY AND THE BANK
Change in Bank Control Act and Savings Institution Holding Company Provisions of
Home Owners' Loan Act
Federal laws and regulations contain a number of provisions which
affect the acquisition of insured institutions such as the Bank, and a savings
institution holding company such as the Company. The Change in Bank Control Act
provides that no person, acting directly or indirectly or through or in concert
with one or more persons, may acquire control of a savings association unless
the OTS has been given 60 days' prior written notice and the OTS does not issue
a notice disapproving the proposed acquisition. In addition, certain provisions
of the Home Owners' Loan Act provide that no company may acquire control of a
savings association holding company without the prior approval of the OTS.
Pursuant to applicable regulations, control of a savings association
or its holding company is conclusively deemed to have been acquired by, among
other things, the acquisition of more than 25% of any class of voting stock of a
savings association or its holding company or the ability to control the
election of a majority of the directors of either entity. Moreover, control is
presumed to have been acquired, subject to rebuttal, upon the acquisition of
more than 10% of any class of voting stock, or more than 25% of any class of
stock, of a savings association or its holding company, where one or more
enumerated "control factors" are also present in the acquisition. The OTS may
prohibit an acquisition of control if it finds, among other things, that (i) the
acquisition would result in a monopoly or substantially lessen competition, (ii)
the financial condition of the acquiring person might jeopardize the financial
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stability of the savings association, or (iii) the competence, experience, or
integrity of the acquiring person indicates that it would not be in the interest
of the depositors or the public to permit the acquisition of control by such
person.
Michigan Anti-Takeover Statutes
Michigan has enacted several statutes which impose restrictions on
acquisition of the Company. Chapter 7A of the Michigan Business Corporation Act
(the "MBCA") is applicable to certain corporations organized under the laws of
Michigan including the Company. Subject to certain exceptions, Chapter 7A
provides that a corporation shall not engage in any business combination with
any "interested stockholder" unless an advisory statement is given by the board
of directors and the combination is approved by a vote of at least 90% of the
votes of each class of stock entitled to vote, and at least two-thirds of the
votes of each class of stock entitled to vote other than the voting shares owned
by the interested stockholder. However, these statutory requirements do not
apply if, prior to the date that an interested stockholder first becomes an
interested stockholder, the board of directors by resolution approves or exempts
such business combinations generally or a particular combination from the
requirements of the MBCA. Furthermore, the voting requirement does not apply to
a business combination if: (a) specified fair price criteria are met, as
described below; (b) the consideration to be given to the stockholders is in
cash or in the form the interested stockholder paid for shares of the same class
or series; and (c) between the time the interested stockholder becomes an
interested stockholder and before the consummation of a business combination the
following conditions are met: (1) any preferred stock dividends are declared and
paid on their regular date; (2) the annual dividend rate of stock other than
preferred stock is not reduced and is raised if necessary to reflect any
transaction which reduces the number of outstanding shares; (3) the interested
stockholder does not receive any financial assistance or tax advantage from the
corporation other than proportionally as a stockholder; (4) the interested
stockholder does not become the beneficial owner of any additional shares of the
corporation; and (5) at least five years have elapsed. An "interested
stockholder" is generally defined to mean any person that: (a) is the owner of
10% or more of the outstanding voting stock of such corporation, or (b) is an
affiliate of a corporation and was the owner of 10% or more of the outstanding
voting stock of the corporation at any time within two years immediately prior
to the relevant date.
Chapter 7A's fair price criteria include the following: (a) the
aggregate amount of the cash and market value of the noncash consideration to be
received by the holders of common stock is at least as much as the higher of (1)
the highest price the interested stockholder paid for stock of the same class or
series within the two-year period immediately prior to the announcement date of
the combination proposal, and (2) the market value of stock of the same class or
series on the announcement date or on the determination date; and (b) the
aggregate amount of the cash and market value of the noncash consideration to be
received by holders of stock other than common stock is at least as much as the
highest of (1) the highest price the interested stockholder paid for the same
class or series within the two-year period immediately prior to the announcement
date of the combination proposal, (2) the highest preferential amount per share
to which the holders of such stock are entitled in the event of any liquidation,
dissolution, or winding up of the corporation, and (3) the market value of stock
of the same class or series on the announcement date or on the determination
date.
Under certain circumstances, Chapter 7A may make it more difficult
for an "interested stockholder" to effect various business combinations with a
corporation for a five-year period, although the stockholders may elect that the
Company not be governed by this section, upon the affirmative vote of 90% of the
outstanding voting shares and two thirds of the shares not owned by the
interested stockholder. The Company's stockholders have taken no action to
exclude the Company from restrictions imposed under Chapter 7A of the MBCA and
the Restated Articles of Incorporation include these provisions by reference. It
is anticipated that the provisions of Chapter 7A may encourage companies
interested in acquiring the Company to negotiate in advance with the Board of
Directors.
Chapter 7B of the MBCA is also applicable to certain corporations
organized under the laws of Michigan including the Company. Subject to certain
exceptions, Chapter 7B provides that once a person proposes to make or makes a
"control share acquisition" and delivers an acquiring person statement to the
corporation, the stockholders must vote on whether the control shares may
exercise voting rights. Such rights are granted only by resolution approved by
both (a) a majority of the votes cast by holders entitled to vote and a majority
of any class entitled to vote, and (b) a majority of the votes cast and a
majority of any class entitled to vote excluding the interested shares. "Control
shares" means shares which, if voted, would have voting power when added
together with all other shares a
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person either owns or directs the exercise, within the following ranges: (a) at
least 20% but less than 33 1/3% of all voting power; (b) at least 33 1/3% but
less than a majority of all voting power; or (c) a majority of all voting power.
An acquisition of shares is not considered a control share acquisition under
certain circumstances, including where the acquisition is part of a merger or
share exchange if the corporation is a party to the agreement of merger or share
exchange.
If authorized by the corporation's articles of incorporation or
bylaws (i) control shares acquired in a control share acquisition with respect
to which no acquiring person statement has been filed may be redeemed by the
corporation at any time more than 60 days after the end of the control share
acquisition at "fair value;" and (ii) control shares acquired in a control share
acquisition which are not accorded full voting rights may be redeemed by the
corporation at "fair value." Unless provided otherwise in the corporation's
articles of incorporation or bylaws, in the event that control shares acquired
in a control share acquisition are accorded full voting rights and the acquiring
person has acquired a majority of all voting power of the corporation, the
shareholders of the corporation, other than the acquiring person, have
dissenters' rights.
Under certain circumstances, Chapter 7B may make it more difficult
for an "acquiring person" to exercise control over a corporation due to the
limitations placed on that person's ability to vote the control shares, although
the corporation may, before any such control share acquisition, elect not to be
governed by this chapter by adopting an amendment to the corporation's articles
of incorporation or bylaws. The Company's Restated Articles of Incorporation and
Restated Bylaws do not exclude the Company from the provisions of Chapter 7B of
the MBCA and the Restated Articles of Incorporation incorporate its current
provisions by reference. The Company's Restated Articles of Incorporation also
include provisions authorizing a forced redemption of control shares under
certain circumstances as specified by Chapter 7B. It is anticipated that the
provisions of Chapter 7B may encourage acquiring persons interested in obtaining
control over the Company to negotiate in advance with the Board of Directors.
Section 1368 of the MBCA, which is applicable to corporations
organized under the laws of Michigan including the Company, prohibits a
corporation from purchasing, either directly or indirectly, any of its shares
that are listed on a national securities exchange from any person who holds at
least 3% of its shares unless one of the following conditions is met: (a) the
corporation makes an equivalent offer to all other holders of the same shares;
(b) the purchase is authorized in advance by the stockholders entitled to vote
thereon; (c) the purchase meets the requirements of the articles of
incorporation for such a purchase; (d) the shares are beneficially owned by the
person for at least two years prior to the purchase date; (e) the purchase is
made on the open market; (f) the purchase price is not more than the average
market price of the shares during the 30 business days prior to the purchase
date; or (g) the purchase is otherwise authorized by the MBCA. Under certain
circumstances, Section 368 prevents a stockholder from selling his shares back
to the corporation at a premium within two years of that stockholder's purchase
of the shares unless one of the other conditions is met. However, the
stockholders may approve such a purchase by the corporation or the corporation
may include in its articles of incorporation lesser requirements for such a
transaction. The Company's Restated Articles of Incorporation do not contain any
provisions exempting the Company from the provisions of Section 368 of the MBCA.
It is anticipated that the provisions of Section 368 may discourage persons from
obtaining quantities of the Company's stock for the sole purpose of eliciting a
premium from the Company in a resale of those shares.
CERTAIN ANTI-TAKEOVER PROVISIONS IN THE RESTATED
ARTICLES OF INCORPORATION AND RESTATED BYLAWS
The following discussion is a general summary of certain provisions
of the Restated Articles of Incorporation ("Restated Articles") and Restated
Bylaws of the Company which may be deemed to have an "anti-takeover" effect. The
description of these provisions is necessarily general and reference should be
made in each case to the Restated Articles and Restated Bylaws of the Company,
which are incorporated herein by reference.
In addition to discouraging a takeover attempt which a majority of
the stockholders of the Company might determine to be in their best interest or
in which the stockholders of the Company might receive a premium over the
current market prices for their shares, the effect of these provisions may
render the removal of management more
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difficult. It is thus possible that incumbent officers and directors might be
able to retain their positions (at least until their term of office expires)
even though a majority of the stockholders desire a change.
Classified Board of Directors
Article IX of the Restated Articles provides that the Board of
Directors is to be divided into three classes which shall be as nearly equal in
number as possible. Under Article IX, the directors in each class serve for
terms of three years and until their respective successors are elected and
qualified, with approximately one-third of the directors elected each year.
Article X provides that a director may be removed only by the affirmative vote
of the holders of at least 80% of the outstanding shares entitled to vote and
only for cause.
A classified Board of Directors could make it more difficult for
stockholders to change a majority, whereas a majority of a non-classified board
could be changed in one year. In the absence of the provisions of the Restated
Articles classifying the Board, all of the directors would be elected each year.
Management of the Company believes that the staggered election of
directors tends to promote continuity of management because only one-third of
the Board of Directors are subject to election each year. Staggered terms help
to ensure that, at any one time, approximately two-thirds of the Board will be
comprised of persons who have at least one year's experience as directors of the
Company. In addition, the use of staggered terms moderates the pace of changes
in the Board of Directors by extending the minimum time required to elect a
majority of directors from one to two years.
Availability of Serial Preferred Stock
The Company's Restated Articles authorize the issuance of up to
10,000,000 shares of serial preferred stock, which may be issued with rights and
preferences that could impede an acquisition. This preferred stock, none of
which has yet been issued by the Company, together with authorized but unissued
shares of common stock (the Restated Articles authorize the issuance of up to
40,000,000 shares of the Common Stock), could also represent additional capital
stock required to be purchased by the acquirer.
Advance Notice Requirement for Nominations
Article VII of the Company's Restated Articles provides that any
stockholder desiring to make a nomination for the election of directors or a
proposal for new business at a meeting of stockholders must submit written
notice to the Secretary of the Company not fewer than 30 or more than 60 days in
advance of the meeting. Management believes that it is in the best interests of
the Company and its stockholders to provide sufficient time to enable management
to disclose to stockholders information about a dissident slate of nominations
for directors. This advance notice requirement may also give management time to
solicit its own proxies in an attempt to defeat any dissident slate of
nominations should management determine that doing so is in the best interest of
stockholders generally. Similarly, adequate advance notice of stockholder
proposals will give management time to study such proposals and to determine
whether to recommend to the stockholders that such proposals be adopted.
Size of Board of Directors; Filling of Vacancies
Article IX of the Company's Restated Articles provide that the number
of directors of the Company (exclusive of directors, if any, to be elected by
the holders of any to-be-issued shares of preferred stock of the Company) should
not be fewer than 7 or more than 11 as shall be provided from time to time in
accordance with the Company's Restated Bylaws. Additionally, the power to
determine the number of directors within these numerical limitations and the
power to fill vacancies, whether occurring by reason of an increase in the
number of directors or by resignation, is vested in the Company's Board of
Directors. The overall effect of such provisions may be to prevent a person or
entity from immediately acquiring control of the Company through an increase in
the number of the Company's directors and election of his, or its nominees to
fill the newly created vacancies.
94
<PAGE>
Amendment of Bylaws
Article XVI of the Company's Restated Articles provides that the
Company's Bylaws may be amended by the affirmative vote of either two-thirds of
the Company's Board of Directors or the holders of at least 80% of the
outstanding shares of the Company's stock entitled to vote generally in the
election of directors. Absent this provision, Michigan law provides that a
corporation's bylaws may be amended by the holders of a majority of the voting
power of the corporation present and entitled to vote at a duly held meeting.
The Company's Restated Bylaws contain numerous provisions concerning its
governance, such as fixing the number of directors and determining the number of
directors constituting a quorum. By reducing the ability of a potential
corporate raider to make changes in the Company's Bylaws and to reduce the
authority of the Board or Directors or impede its ability to manage the Company,
this provision of the Restated Articles could have the effect of discouraging a
tender offer or other takeover attempt where the ability to make fundamental
changes through bylaw amendments is an important element of the takeover
strategy of the acquirer.
Amendment of Articles
Article XVII of the Company's Restated Articles provides that
specified provisions contained in the Restated Articles may not be repealed or
amended except by an affirmative vote of at least 80% of the outstanding shares
of the Company's stock entitled to vote generally in the election of directors;
provided, however, that such provisions may be repealed or amended upon a
majority of stockholder vote if first approved by a majority of the continuing
Directors, as defined in Article XVII. This requirement exceeds the majority
vote of stockholders present and entitled to vote that it would otherwise be
required by Michigan law for the repeal or amendment of a provision of the
Restated Articles. The specific provisions for which an 80% vote is required by
Article XVII are (i) Article VI providing for cumulative voting in the election
of directors; (ii) Article VII requiring written notice to the Company of
nominations for the election of directors and new business proposals, quorum
requirements and the calling of special meetings; (iii) Article VIII eliminating
the power of stockholders to act by written consent without a meeting; (iv)
Article IX governing the number of the Company's Board of Directors, the filling
of vacancies on the Board of Directors and classified terms of the Board of
Directors; (v) Article X governing the removal of directors; (vi) Article XI
providing for the indemnification of directors, officers, employees and agents
of the Company; (vii) Article XII pertaining to the elimination of the liability
of the directors to the Company and its stockholders for monetary damages, with
certain exceptions, for breach of fiduciary duty; (viii) Article XIV providing
for the applicability to the Company of Section 7A of the MBCA, which restricts
business combinations involving the Company and "interested stockholders;" (ix)
Article XV providing for the applicability to the Company of Section 7B of the
MBCA, which eliminates voting rights of persons who hold 20%, 33-1/3% and a
majority of all outstanding shares of Common Stock unless stockholder approval
is received at each such level; and (x) Article XVI and Article XVIII governing
the required stockholder vote for amending the Restated Bylaws and Restated
Articles of the Company. See "Restrictions on Acquisition of the Company and the
Bank -- Michigan Anti-Takeover Statutes."
Benefit Plans
In addition to the provisions of the Company's Restated Articles and
Restated Bylaws described above, certain benefit plans of the Company and the
Bank contain provisions that also may discourage hostile takeover attempts which
the Boards of Directors of the Company and the Bank might conclude are not in
the best interests of the Company, the Bank or the Company's stockholders. For a
description of the benefit plans and the provisions of such plans relating to
changes in control of the Company or the Bank, see "Management -- Certain
Benefit Plans and Agreements."
The Purpose and Effect of the Anti-Takeover Provisions in the Company's Restated
Articles and Restated Bylaws
The Boards of Directors of the Company and the Bank believe that the
provisions described above reduce the Company's vulnerability to takeover
attempts and certain other transactions which have not been negotiated with and
approved by its Board of Directors. These provisions also assist the Company and
the Bank in the orderly deployment of the net proceeds of the Offering into
productive assets during the initial period after the Offering. The Boards of
95
<PAGE>
Directors of the Company and the Bank believe these provisions are in the best
interests of the Bank and of the Company and its stockholders. In the judgment
of the Boards of Directors of the Company and the Bank, the Company's Board is
in the best position to consider all relevant factors and to negotiate for what
is in the best interests of the stockholders and the Company's other
constituents. Accordingly, the Boards of Directors of the Company and the Bank
believe that it is in the best interests of the Company and its stockholders to
encourage potential acquirers to negotiate directly with the Company's Board of
Directors and that these provisions encourage such negotiations and discourage
nonnegotiated takeover attempts. It is also the view of the Board of Directors
that these provisions should not discourage persons from proposing a merger or
other transaction at prices reflective of the true value of the Company and
which is in the best interests of all stockholders.
Attempts to acquire control of financial institutions and their
holding companies have recently become increasingly common. Takeover attempts
which have not been negotiated with and approved by the Board of Directors
present to stockholders the risk of a takeover on terms which may be less
favorable than might otherwise be available. A transaction which is negotiated
and approved by the Board of Directors, on the other hand, can be carefully
planned and undertaken at an opportune time in order to obtain maximum value for
the Company and stockholders, with due consideration given to matters such as
the management and business of the acquiring corporation and maximum strategic
development of the Company's assets.
An unsolicited takeover proposal can seriously disrupt the business
and management of a corporation and cause great expense. Although a tender offer
or other takeover attempt may be made at a price substantially above then
current market prices, such offers are sometimes made for less than all the
outstanding shares of a target company. As a result, stockholders may be
presented with the alternative of partially liquidating their investment at a
time that may be disadvantageous, or retaining their investment in an enterprise
which is under different management and whose objectives may not be similar to
those of the remaining stockholders. The concentration of control that could
result from a tender offer or other takeover attempt could also deprive the
Company's remaining stockholders of the benefits of having the Common Stock
quoted on the Nasdaq National Market and of certain protective provisions of the
Securities Exchange Act of 1934, as amended (the "Exchange Act").
Despite the belief of the Company as to the benefits to stockholders
of these provisions of the Company's Restated Articles and Restated Bylaws,
these provisions may also have the effect of discouraging a future takeover
attempt which would not be approved by the Company's Board of Directors, but
pursuant to which the stockholders may receive a substantial premium for their
shares over then current market prices. As a result, stockholders who might
desire to participate in such a transaction may not have any opportunity to do
so. Such provisions will also render the removal of the Company's Board of
Directors and management more difficult and may tend to stabilize the Company's
stock price, thus limiting gains which might otherwise be reflected in price
increases due to a potential merger or acquisition. The Board of Directors,
however, has concluded that the potential benefits of these provisions outweigh
the possible disadvantages. Pursuant to applicable law, at any annual or special
meeting of its stockholders, the Company may adopt additional provisions to its
Restated Articles regarding the acquisition of its equity securities that would
be permitted to a Michigan corporation. The Company does not presently intend to
propose the adoption of further restrictions on the acquisition of the Company's
equity securities.
96
<PAGE>
UNDERWRITING
Under the terms of, and subject to the conditions contained in, the
Underwriting Agreement, the Underwriters have severally agreed to purchase from
the Company and the Selling Stockholders, and the Company and the Selling
Stockholders have agreed to sell to each Underwriter, the aggregate number of
shares of Common Stock set forth opposite the name of each such Underwriter
below:
Number
Underwriters of Shares
---------
Lehman Brothers Inc..........................
PaineWebber Incorporated.....................
Roney & Co...................................
---------
Total................................... 8,050,000
=========
The Company and the Selling Stockholders have been advised by the
Representatives that the Underwriters propose to offer the shares to the public
at the initial public offering price set forth on the cover page of this
Prospectus, and to certain dealers at such price less a selling concession not
in excess of $_____ per share. The Underwriters may allow, and such dealers may
re-allow, a concession not in excess of $______ per share to certain other
Underwriters or to certain other brokers or dealers. After the initial offering
to the public, the offering price and other selling terms may be changed by the
Representatives.
The Underwriting Agreement provides that the obligations of the
several Underwriters to pay for and accept delivery of the shares of Common
Stock offered hereby are subject to certain conditions and that if any of the
above shares of Common Stock are purchased by the Underwriters pursuant to the
Underwriting Agreement, all the shares of Common Stock agreed to be purchased by
the Underwriters must be so purchased.
At the request of the Company, the Underwriters initially have
reserved up to 800,000 shares of Common Stock for sale at the initial public
offering price to certain employees and customers of the Company and its
affiliates who have expressed an interest in purchasing such shares. The number
of shares of Common Stock available for sale to the general public will be
reduced to the extent such persons purchase such reserved shares. Any such
reserved shares which are not so purchased will be offered by the Underwriters
to the general public on the same basis as other shares offered thereby.
The Company and the Bank (subject to certain restrictions), jointly
and severally, and the Selling Stockholders, jointly and severally, have agreed
in the Underwriting Agreement to indemnify the Underwriters against certain
liabilities, including liabilities under the Securities Act, and to contribute
to payments that the Underwriters may be required to make in respect thereof.
The Company and the Selling Stockholders have granted to the
Underwriters a 30-day option to purchase up to an additional 330,000 and 877,500
shares of Common Stock, respectively, on the same terms and conditions as set
forth above to cover over-allotments, if any. To the extent that such option is
exercised, each Underwriter will be committed, subject to certain conditions, to
purchase a number of the additional shares of Common Stock proportionate to such
Underwriter's initial commitment as indicated in the preceding table.
97
<PAGE>
The Representatives of the Underwriters have informed the Company
that the Underwriters do not intend to confirm sales to any accounts over which
they exercise discretionary authority.
The Selling Stockholders, who presently own 100% of the outstanding
shares of Common Stock, have agreed not to offer, sell or otherwise dispose of
their remaining shares held after the Offering, with certain limited exceptions,
for a period of 180 days after the date of this Prospectus without the prior
written consent of Lehman Brothers Inc. on behalf of the Representatives. Except
for Common Stock to be sold in this Offering and except for the Common Stock
that may be issued pursuant to the Option Plan (see "Management--Certain Benefit
Plans and Agreements--Stock Option Plan"), the Company has agreed not to offer,
sell, contract to sell or otherwise issue any Common Stock or other capital
stock prior to the expiration of 180 days from the date of this Prospectus
without the prior written consent of Lehman Brothers Inc. on behalf of the
Representatives.
Prior to this Offering, there has been no public market for the
Common Stock. The initial public offering price will be negotiated among the
Company, the Selling Stockholders and the Representatives. Among the factors to
be considered in determining the initial public offering price of the Common
Stock, in addition to the prevailing market conditions, are the Company's
historical performance, capital structure, estimates of the business potential
and earnings prospects of the Company, an assessment of the Company's
management, consideration of the above factors in relation to the market values
of the companies in related businesses and other factors deemed relevant. The
initial public offering price set forth on the cover page of this Prospectus
should not, however, be considered an indication of the actual value of the
Common Stock. Such price will be subject to change as a result of market
conditions and other factors. There can be no assurance that an active trading
market will develop for the Common Stock or that the Common Stock will trade in
the public market subsequent to the Offering at or above the initial public
offering price.
LEGAL MATTERS
The validity of the Common Stock offered hereby and certain other
legal matters will be passed upon for the Company by Reinhart, Boerner, Van
Deuren, Norris & Rieselbach, P.C., Washington, D.C. Certain legal matters
relating to Michigan law will be passed upon for the Company by Albert J.
Gladner, Esq., First Vice President and General Counsel of the Bank. Certain
legal matters will be passed upon for the Underwriters by Simpson Thacher &
Bartlett (a partnership which includes professional corporations), New York, New
York.
EXPERTS
The consolidated financial statements of the Company as of December
31, 1995 and 1994 and for each of the three years in the period ended December
31, 1995 included in this Prospectus have been audited by Grant Thornton LLP,
independent certified public accountants, and have been so included in reliance
upon the report of such firm given upon their authority as experts in accounting
and auditing.
98
<PAGE>
AVAILABLE INFORMATION
The Company has filed with the Commission a Registration Statement on
Form S-1 under the Securities Act with respect to the Common Stock offered
hereby (together with all amendments, exhibits, schedules and supplements
thereto, the "Registration Statement"). This Prospectus, which forms a part of
the Registration Statement, does not contain all the information set forth in
the Registration Statement, certain parts of which have been omitted in
accordance with the rules and regulations of the Commission. For further
information with respect to the Company and the Common Stock offered hereby,
reference is made to the Registration Statement. Statements contained in this
Prospectus as to the contents of any contract, agreement or other document are
not necessarily complete, and, in each instance, reference is made to the copy
of the document filed as an exhibit to the Registration Statement. The
Registration Statement may be inspected and copied at the public reference
facilities maintained by the Commission at Room 1024, 450 Fifth Street, N.W.,
Washington, D.C. 20549; and at the Commission's regional offices at Suite 1400,
Northwest Atrium Center, 500 West Madison Street, Chicago, Illinois 60661, and 7
World Trade Center (13th Floor), New York, New York 10048. Copies of such
material can also be obtained from the Commission at prescribed rates through
its Public Reference Section at 450 Fifth Street, N.W., Washington, D.C. 20549.
The Commission maintains a World Wide Web site on the Internet that contains
reports, proxy and information statements and other information regarding
registrants that file electronically with the Commission. The address of such
site is "http://www.sec.gov."
The Company is not currently subject to the informational
requirements of the Exchange Act. As a result of the Offering, the Company will
become subject to the informational requirements of the Exchange Act. The
Company will fulfill its obligations with respect to such requirements by filing
periodic reports and other information with the Commission. In addition, the
Company intends to furnish to its stockholders annual reports containing
consolidated financial statements examined by an independent public accounting
firm.
99
<PAGE>
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
Page
----
<S> <C>
Report of Independent Certified Public Accountants...................................................................F-2
Consolidated Statements of Financial Condition as of September 30, 1996 (unaudited) and
December 31, 1995 and 1994.....................................................................................F-3
Consolidated Statements of Earnings for the Nine Months Ended September 30,
1996 (unaudited) and September 30, 1995 (unaudited) and for the Years
Ended December 31, 1995, 1994 and 1993.........................................................................F-4
Consolidated Statements of Stockholders' Equity for the Nine Months Ended September 30, 1996
(unaudited) and for the Years Ended December 31, 1995, 1994 and 1993...........................................F-5
Consolidated Statements of Cash Flows for the Nine Months Ended September 30,
1996 (unaudited) and September 30, 1995 (unaudited) and for the Years
Ended December 31, 1995, 1994 and 1993.........................................................................F-6
Notes to Consolidated Financial Statements...........................................................................F-8
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
Flagstar Bancorp, Inc.
We have audited the accompanying consolidated statements of financial condition
of Flagstar Bancorp, Inc. and Subsidiaries as of December 31, 1995 and 1994, and
the related consolidated statements of earnings, stockholders equity and cash
flows for each of the three years in the period ended December 31, 1995. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
a 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 financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Flagstar Bancorp, Inc. and Subsidiaries as of December 31, 1995 and 1994, and
the results of their consolidated operations and their consolidated cash flows
for each of the three years in the period ended December 31, 1995, in conformity
with generally accepted accounting principles.
As described in notes 3 and 7, in May 1995, the Company adopted Statement of
Financial Accounting Standards No. 122, "Accounting for Certain Mortgage
Servicing Rights".
/s/ Grant Thornton LLP
Detroit, Michigan
March 27, 1996 (except for note 20,
as to which the date is January 16, 1997)
F-2
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(IN THOUSANDS EXCEPT SHARE DATA)
________________________________________________________________________________
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
---------------------
ASSETS 1996 1995 1994
---------- ---------- --------
(UNAUDITED)
<S> <C> <C> <C>
Cash and cash equivalents $ 29,374 $ 29,119 $ 25,656
Loans receivable
Mortgage loans held for sale 652,514 620,455 205,480
Loans held for investment 254,235 305,580 429,800
Less allowance for losses (3,026) (2,102) (1,871)
---------- ---------- --------
903,723 923,933 633,409
Federal Home Loan Bank stock 20,500 17,800 12,766
Other investments 905 818 873
---------- ---------- --------
Total earning assets 925,128 942,551 647,048
Accrued interest receivable 5,979 4,307 3,093
Repossessed assets 4,373 2,359 1,271
Premises and equipment 20,958 17,958 14,502
Mortgage servicing rights 41,423 27,957 18,179
Other assets 42,299 20,843 13,401
---------- ---------- --------
Total assets $1,069,534 $1,045,094 $723,150
========== ========== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Deposit accounts $ 576,914 $ 526,974 $307,624
Federal Home Loan Bank advances 199,856 191,156 200,750
---------- ---------- --------
Total interest bearing liabilities 776,770 718,130 508,374
Accrued interest payable 1,605 2,215 961
Undisbursed payments on loans serviced for others 51,138 60,012 34,989
Escrow accounts 91,992 88,863 77,870
Liability for checks issued 38,267 85,849 39,353
Federal income taxes payable 18,773 14,655 7,490
Other liabilities 18,204 12,925 4,694
---------- ---------- --------
Total liabilities 996,749 982,649 673,731
Commitments and Contingencies (Notes 4, 6, 7, 12 and 16) - - -
STOCKHOLDERS' EQUITY
Common stock - $0.01 par value, 40,000,000 shares authorized
11,250,000 shares issued and outstanding at September 30,
1996 and December 31, 1995 and 11,302,872 shares issued
and outstanding at December 31, 1994 112 112 113
Additional paid in capital 2,816 2,816 2,829
Retained earnings 69,857 59,517 46,477
---------- ---------- --------
Total stockholders' equity 72,785 62,445 49,419
---------- ---------- --------
Total liabilities and stockholders' equity $1,069,534 $1,045,094 $723,150
========== ========== ========
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
F-3
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(IN THOUSANDS EXCEPT PER SHARE DATA)
_______________________________________________________________________________
<TABLE>
<CAPTION>
FOR THE NINE MONTHS FOR THE YEARS ENDED
ENDED SEPTEMBER 30, DECEMBER 31,
------------------- -------------------------------
(UNAUDITED)
1996 1995 1995 1994 1993
------- ------- ---------- ------- -------
<S> <C> <C> <C> <C> <C>
INTEREST INCOME
Loans $56,430 $48,926 $69,543 $33,533 $28,499
Other 1,249 1,343 1,761 1,579 1,261
------- ------- ------- ------- -------
57,679 50,269 71,304 35,112 29,760
INTEREST EXPENSE
Deposits 22,074 17,254 25,123 9,037 7,431
FHLB advances 11,226 11,283 15,072 3,726 1,537
Other 821 864 1,248 1,723 3,084
------- ------- ------- ------- -------
34,121 29,401 41,443 14,486 12,052
------- ------- ------- ------- -------
Net interest income 23,558 20,868 29,861 20,626 17,708
Provision for losses 1,140 189 238 290 644
------- ------- ------- ------- -------
Net interest income after provision for losses 22,418 20,679 29,623 20,336 17,064
NON-INTEREST INCOME
Loan administration 11,110 10,498 14,248 13,261 7,786
Net gain on loan sales and sales of
mortgage servicing rights 25,453 10,510 16,228 27,357 20,400
Other fees and charges 5,271 4,567 6,512 2,114 5,468
------- ------- ------- ------- -------
41,834 25,575 36,988 42,732 33,654
------- ------- ------- ------- -------
NON-INTEREST EXPENSE
Compensation and benefits 18,514 11,497 19,665 18,609 7,984
Occupancy and equipment 8,712 6,698 9,062 7,340 4,607
General and administrative 19,268 11,043 12,989 11,670 8,701
------- ------- ------- ------- -------
46,494 29,238 41,716 37,619 21,292
------- ------- ------- ------- -------
Earnings before federal income taxes 17,758 17,016 24,895 25,449 29,426
Provision for federal income taxes 6,418 6,358 9,419 9,318 10,405
------- ------- ------- ------- -------
NET EARNINGS $11,340 $10,658 $15,476 $16,131 $19,021
======= ======= ======= ======= =======
Earnings per common share $ 1.01 $ 0.94 $ 1.37 $ 1.42 $ 1.65
======= ======= ======= ======= =======
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
F-4
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS EXCEPT PER SHARE DATA)
________________________________________________________________________________
<TABLE>
<CAPTION>
ADDITIONAL TOTAL
COMMON PAID IN UNREALIZED RETAINED STOCKHOLDERS'
STOCK CAPITAL GAINS EARNINGS EQUITY
------- -------- ----------- --------- --------------
<S> <C> <C> <C> <C> <C>
Balance at January 1, 1993 $115 $2,885 $ - $13,767 $16,767
Net earnings - - - 19,021 19,021
Unrealized gains on marketable
securities - - 126 - 126
Dividends paid ($0.07 per share) - - - (800) (800)
---- ------ ------ ------- -------
Balance at December 31, 1993 115 2,885 126 31,988 35,114
Net earnings - - - 16,131 16,131
Sale of marketable securities - - (126) - (126)
Stock repurchase (2) (56) - (1,242) (1,300)
Dividend paid ($0.04 per share) - - - (400) (400)
---- ------ ----- ------- -------
Balance at December 31, 1994 113 2,829 - 46,477 49,419
Net earnings - - - 15,476 15,476
Stock repurchase (1) (13) - (436) (450)
Dividend paid ($0.18 per share) - - - (2,000) (2,000)
---- ------ ----- ------- -------
Balance at December 31, 1995 112 2,816 - 59,517 62,445
Net earnings (unaudited) - - - 11,340 11,340
Dividends paid ($0.09 per share)
(unaudited) - - - (1,000) (1,000)
---- ------ ----- ------- -------
Balance at September 30, 1996
(unaudited) $112 $2,816 $ - $69,857 $72,785
==== ====== ===== ======= =======
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
F-5
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
________________________________________________________________________________
<TABLE>
<CAPTION>
FOR THE NINE MONTHS FOR THE YEARS ENDED
ENDED SEPTEMBER 30, DECEMBER 31,
------------------------ --------------------------------
1996 1995 1995 1994 1993
----------- ---------- ---------- ---------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
OPERATING ACTIVITIES
Net earnings $ 11,340 $ 10,658 $ 15,476 $ 16,131 $ 19,021
Adjustments to reconcile net earnings to net cash
(used in) provided by operating activities
Provision for losses 1,140 189 238 290 644
Depreciation and amortization 12,381 7,271 11,072 9,022 5,944
Net (gain) loss on the sale of assets 18 (42) (19) (250) 182
Gain on sales of mortgage servicing rights (21,158) (10,744) (13,356) (28,489) (13,385)
Provision for deferred federal income taxes 692 1,993 3,415 2,813 4,481
(Increase) decrease in loans held for sale (35,201) (311,456) (300,999) 78,942 (171,677)
Increase in accrued interest receivable (1,672) (2,320) (1,214) (1,027) (477)
Increase in other assets (22,430) (15,584) (8,896) (670) (1,370)
Increase (decrease) in accrued interest
payable (610) 940 1,254 343 (173)
Increase (decrease) in liability for checks issued (47,582) 42,462 46,496 (7,421) 7,524
Increase (decrease) in federal taxes payable 3,426 4,620 3,750 1,628 (2,309)
Increase (decrease) in other liabilities 5,280 12,484 8,326 (722) 2,583
Increase (decrease) in unrealized gains - - - (126) 126
--------- --------- --------- -------- --------
Net cash (used in) provided by
operating activities (94,376) (259,529) (234,457) 70,464 (148,886)
INVESTING ACTIVITIES
Cash used to acquire Security Savings Bank,
FSB, (Security), net of cash received - - - (23,869) -
Principal repayments from assets acquired
from Security - - - 3,251 -
Proceeds from the disposition of assets acquired
from Security - - - 74,300 -
Net decrease in liabilities acquired from Security - - - (2,918) -
Principal repayment from other investments 13 31 32 - -
Maturity of other investments 400 - - - -
Purchase of other investments (500) - - - -
Originations of loans held for investment, net of
principal repayments 51,345 1,893 7,989 (161,065) (6,081)
Principal repayments from mortgage-backed securities - - - 163 1,869
Proceeds from the sale of mortgage-backed securities - - - 5,176 -
Purchase of Federal Home Loan Bank Stock (2,700) (5,034) (5,034) (2,438) (6,930)
Proceeds from the disposition of repossessed assets 920 544 675 1,796 492
Net (increase) decrease in real estate held for
investment - - - 5 (15)
Acquisitions of premises and equipment (6,255) (4,578) (6,632) (6,591) (4,353)
Proceeds from the disposition of premises and
equipment - - - 37 37
Increase in mortgage servicing rights (50,861) (20,515) (31,106) (15,616) (15,578)
Proceeds from the sale of mortgage servicing rights 50,374 22,179 29,040 38,183 17,896
--------- --------- -------- -------- --------
Net cash provided by (used in)
investing activities 42,736 (5,480) (5,036) (89,586) (12,663)
</TABLE>
F-6
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS - CONTINUED
(IN THOUSANDS)
________________________________________________________________________________
<TABLE>
<CAPTION>
FOR THE NINE MONTHS FOR THE YEARS ENDED
ENDED SEPTEMBER 30, DECEMBER 31,
------------------------ --------------------------------
1996 1995 1995 1994 1993
----------- ---------- ---------- ---------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
FINANCING ACTIVITIES
Net increase (decrease) in deposit accounts $ 49,940 $ 223,522 $ 218,984 $ (80,478) $ 9,590
Net (decrease) increase in Federal Home Loan
Bank advances 8,700 24,250 (9,594) 140,750 55,000
Net receipt (disbursement) of payments of loans
serviced for other (8,874) 20,368 25,023 (22,213) 31,231
Net receipt of escrow payments 3,129 7,535 10,993 33 36,598
Stock repurchase - (450) (450) (1,300) -
Dividends paid to stockholders (1,000) (2,000) (2,000) (400) (800)
--------- ---------- ---------- --------- ---------
Net cash provided by financing activities 51,895 273,225 242,956 36,392 131,619
--------- ---------- ---------- --------- ---------
Net increase (decrease) in cash and cash equivalents 255 8,216 3,463 17,270 (29,630)
Beginning cash and cash equivalents 29,119 25,656 25,656 8,386 38,016
--------- ---------- ---------- --------- ---------
Ending cash and cash equivalents $ 29,374 $ 33,872 $ 29,119 $ 25,656 $ 8,386
========= ========== ========== ========= =========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Loans held for sale transferred to loans held for
investment $ - $ - $ - $106,261 $ -
========= ========== ========== ========= =========
Loans held for investment transferred to loans held
for sale $ - $ - $ 185,111 $ - $ -
========= ========== ========== ========= =========
Loans receivable transferred to repossessed assets $ 3,142 $ 752 $ 1,781 $ 1,367 $ 1,585
========= ========== ========== ========= =========
Total interest payments made on deposits and
other borrowings $ 34,731 $ 28,742 $ 40,189 $ 14,139 $ 12,226
========= ========== ========= ========= =========
Federal income taxes paid $ 2,300 $ - $ 2,500 $ 6,280 $ 8,300
========= ========== ========= ========= =========
SUPPLEMENTAL SCHEDULE OF ACQUISITIONS:
Flagstar Bank, FSB acquired Security Savings Bank, FSB, in Jackson, Michigan, at
the close of business June 30, 1994 (Note 15).
Security Savings Bank Acquisition
Cash paid for common stock $ 25,729
Fair value of assets acquired, including $77,538
which were subsequently disposed $ 225,934
Fair value of liabilities acquired, including $2,918
which were subsequently repaid 209,241
----------
Fair value of net assets acquired 16,693
---------
Core deposit premium $ 9,036
=========
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS.
F-7
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
________________________________________________________________________________
NOTE 1 - NATURE OF BUSINESS
Flagstar Bancorp, Inc. and Subsidiaries (formerly FSSB Holding Corporation)
("Holding"), formed October 28, 1993 in Michigan, is a non-diversified, unitary
thrift holding company. Holding provides retail banking services in southern
Michigan and mortgage lending services nationwide.
NOTE 2 - CORPORATE STRUCTURE
The following is a listing of the subsidiaries of Holding:
Flagstar Bank, FSB ("Flagstar") (formerly First Security Savings Bank, FSB) is
a federally chartered stock savings bank and a member of the Federal Home Loan
Bank System ("FHLB"). Holding acquired the stock of Flagstar on December 21,
1993.
Security Savings Bank, FSB ("Security") is a federally chartered stock savings
bank and a member of the Federal Home Loan Bank System ("FHLB"). Flagstar
acquired the stock of Security on June 30, 1994. This acquisition was
accounted for using the purchase method of accounting. For regulatory
reporting purposes, Flagstar and Security (the "Banks") filed a consolidated
Thrift Financial Report ("TFR").
Security owned two subsidiaries, Mid Michigan Service Corporation ("MMSC") and
SSB Funding Corporation ("Funding"). MMSC is a Michigan corporation utilized
to lease Security's main office facility and Funding is a finance subsidiary,
which is currently inactive.
On February 1, 1996, Security was merged with and into Flagstar Bank, FSB.
The consolidation took place to take advantage of name recognition and
operating efficiencies.
Flagstar owns two other subsidiaries, Boston Credit Corporation ("BCC") and
Mortgage Affiliated Services, Inc. ("MAS"). BCC is currently inactive and MAS
is an appraisal and document preparation company.
Holding owns five other subsidiaries, FSSB Real Estate Development Corporation
("REDC"), Douglas Insurance Agency ("DIA"), FSSB Mortgage Corporation
("Mortgage"), Mortgage Video Network, Inc. ("Video"), and First Security
Investment Group, Inc. ("Investment") whose results of operations are not
significant. During the first quarter of 1996, FSSB Mortgage Corporation was
made a part of Flagstar Bank. This organizational change did not have a
significant impact on the operations of Holding.
NOTE 3 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The following summarizes the significant accounting policies of Holding and
subsidiaries (the "Holding Group", or the "Group") applied in the preparation of
the accompanying consolidated financial statements.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Holding Group.
All significant intercompany balances and transactions have been eliminated.
F-8
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 3 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The accompanying consolidated financial statements and information as of
September 30, 1996 and for the nine months ended September 30, 1996 and 1995 are
unaudited, and include all adjustments (consisting of only normal recurring
adjustments), that are necessary, in the opinion of management, for a fair
presentation.
STATEMENT OF CASH FLOWS
For purposes of the statements of cash flows, the Group considers its investment
in overnight deposits to be cash equivalents.
LOANS RECEIVABLE
The Group originates loans which are designated to be held for investment or
sale during the origination process. Mortgage loans held for sale are carried
at the lower of aggregate cost or estimated market value. Management
periodically reviews the portfolio and makes necessary adjustments for market
value. Net unrealized losses are recognized in a valuation allowance by charges
to earnings. Gains or losses recognized upon the sale of loans are determined
using the specific identification method. Mortgage loans held for investment
are carried at amortized cost. The Group has both the intent and the ability to
hold all mortgage loans held for investment for the foreseeable future.
ALLOWANCE FOR LOSSES
Provision is made for expected loan losses to reduce the recorded balances of
loans receivable to their estimated net realizable value. Such provision is
based on management's estimate of net realizable value considering the current
and anticipated operating or sales environment. These estimates of collateral
value are particularly susceptible to market changes that could result in
adjustments to the results of earnings in the future. Recovery of the carrying
value of such loans or the underlying collateral is dependent to a great extent
on economic, operating and other conditions that may be beyond the Group's
control.
The Group adopted Statement of Financial Accounting Standards ("SFAS") No. 114
(as amended by SFAS No. 118), "Accounting by Creditors for Impairment of a
Loan", effective January 1, 1995, which addresses the accounting by creditors
for the impairment of certain loans. The provisions of SFAS 114 do not apply to
large groups of smaller-balance homogeneous loans that are collectively
evaluated for impairment and loans that are measured at fair value or at the
lower of cost or fair value. The adoption had no effect on the recorded
allowance for losses as no loans have been identified as impaired. A loan is
identified as impaired when it is probable, in the opinion of management, that
interest and principal may not be collected according to the contractual terms
of the loan agreement. Loan impairment is measured by estimating the expected
future cash flows and discounting them at the respective effective interest rate
or by valuing the underlying collateral.
F-9
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 3 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
LOAN ORIGINATION FEES, COMMITMENT FEES AND RELATED COSTS
Loan fees received are accounted for in accordance with SFAS No. 91, "Accounting
for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans
and Initial Direct Costs of Leases". Mortgage loan fees and certain direct
origination costs are capitalized. On loans held for sale, the net fee or cost
is recognized at the time the loan is sold. For mortgage loans held for
investment, the deferred amount is accounted for as an adjustment to interest
income using a method that approximates the interest method.
REPOSSESSED ASSETS
Repossessed assets include one-to-four family residential property, commercial
property, and one-to-four family homes under construction. At the date of
foreclosure, real estate properties acquired in settlement of loans are recorded
at the lower of cost or net realizable value. Valuations are periodically
performed by management, and a charge to earnings is made if the carrying value
of a property exceeds its estimated fair value. Costs of holding repossessed
assets, principally taxes and legal fees, are expensed as incurred.
FEDERAL INCOME TAXES
The Group accounts for income taxes on the asset and liability method. Deferred
tax assets and liabilities are recorded based on the difference between the tax
bases of assets and liabilities and their carrying amounts for financial
reporting purposes. Current taxes are measured by applying the provisions of
enacted tax laws to taxable income to determine the amount of taxes receivable
or payable. (See Note 20).
PREMISES AND EQUIPMENT
Premises and equipment are stated at cost less accumulated depreciation. Land
is carried at historical cost. Depreciation is calculated on the straight-line
method over the estimated useful lives of the assets as follows:
Office buildings - 31 years
Computer hardware and software - 3 to 5 years
Furniture, fixtures and equipment - 5 to 7 years
Automobiles - 3 years
During March 1995, the FASB issued SFAS No. 121, "Accounting for the Impairment
of Long-Lived Assets and for Long-Lived Assets to be Disposed Of". This
Statement requires that long-lived assets and goodwill related to those assets
to be held and used by an entity and certain identifiable intangibles be
reviewed for impairment whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be recoverable. The Group adopted
SFAS No. 121 effective January 1, 1996. Adoption of this Statement did not have
an impact on the financial condition or results of operations of the Group.
MORTGAGE SERVICING RIGHTS
Mortgage servicing rights ("MSR") represent the cost of acquiring the right to
service mortgage loans. These costs are initially capitalized and subsequently
amortized in proportion to, and over the period of, the estimated net loan
servicing income.
F-10
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 3 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
MORTGAGE SERVICING RIGHTS (CONTINUED)
In May 1995, the Group adopted SFAS No. 122, "Accounting for Mortgage Servicing
Rights". This requires the capitalization of a mortgage servicing asset for
every origination whether it be originated or purchased. SFAS No. 122 also
dictates prescribed rules for the amortization, periodic valuation, and the
required valuation adjustment. Prior to adoption, a value was capitalized for
purchased mortgage servicing rights. This capitalization was in accordance with
SFAS Statement of Financial Accounting Standards No. 65, "Accounting for Certain
Mortgage Banking Practices".
The value of the mortgage servicing rights are periodically evaluated in
relation to the estimated discounted net future servicing revenues. The
portfolio is aggregated into stratifications based on loan term and type, and
note rate. Estimates of remaining loan lives and prepayment rates are
incorporated into this analysis. Changes in these estimates could materially
change the estimated fair value and any valuation allowance. Valuation
adjustments are recorded when the fair value of the servicing asset is less than
the amortized book value on a stratum basis. Any valuation adjustment is
recorded as an offset to the asset.
EARNINGS PER SHARE
Earnings per share is calculated by dividing net earnings by the weighted
average number of common shares outstanding.
After giving effect to the stock split referred to in Note 20, the weighted
average shares outstanding for computing earnings per share was 11,250,000 and
11,282,150 for the nine month periods ended September 30, 1996 and 1995,
respectively, and 11,274,047, 11,388,617, and 11,527,387 for the years ended
December 31, 1995, 1994 and 1993, respectively.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect reported amounts of assets and liabilities and the 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 those estimates.
The financial condition of a financial services company, and to some extent, its
operating performance, is dependent to a significant degree upon estimates and
appraisals of value, evaluations of creditworthiness and assumptions about
future events and economic conditions. Recent history has demonstrated that
these estimates, appraisals, evaluations and assumptions are subject to rapid
change, and that such changes can materially affect the reported financial
condition of a financial services company and its financial performance, and may
result in restrictions on an institution's ability to continue to operate in its
customary manner.
RECLASSIFICATIONS
Certain amounts within the accompanying consolidated financial statements and
the related notes have been reclassified to conform to the 1996 presentation.
F-11
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 3 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
RECENTLY ISSUED ACCOUNTING STANDARDS
In October 1995, the FASB issued SFAS No. 123, "Accounting for Stock-Based
Compensation." This statement defines a fair value based method of accounting
for an employee stock option or similar equity instrument and encourages
adoption of that method for all employee stock compensation plans. However, it
also allows an entity to continue to measure compensation cost for those plans
using the intrinsic value based method currently being followed and make pro
forma disclosures of net earnings and earnings per share under the fair value
based method of accounting. This statement is effective for financial
statements with fiscal years beginning after December 15, 1995, with earlier
application encouraged. At September 30, 1996, the Group had no stock-based
compensation plans. (See Note 20).
In June 1996, the FASB issued SFAS No. 125, "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities". This
statement requires that, after a transfer of financial assets, an entity
recognizes the financial and servicing assets it controls and the liabilities it
has incurred, derecognizes financial assets when control has been surrendered,
and derecognizes liabilities when extinguished. This statement provides
consistent standards for distinguishing transfers of financial assets that are
sales from transfers that are secured borrowings. This statement is effective
for transfers and servicing of financial assets and extinguishment of
liabilities occurring after December 31, 1996, and is to be applied
prospectively. Earlier or retroactive application is not permitted.
Implementation of this pronouncement should have no material effect on the
consolidated financial statements.
NOTE 4 - LOANS RECEIVABLE
The loan portfolio is summarized as follows (in thousands):
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
--------------- --------------------------
1996 1995 1994
--------------- ------------ ------------
<S> <C> <C> <C>
Held for sale - mortgage loans $652,514 $620,455 $205,480
Held for investment
Mortgage loans 119,601 178,246 354,101
Commercial real estate loans 14,288 30,504 23,383
Commercial loans 26,268 8,566 7,546
Construction loans 60,960 48,933 25,499
Consumer loans 33,118 39,331 19,271
-------- -------- --------
254,235 305,580 429,800
-------- -------- --------
906,749 926,035 635,280
Less allowance for losses (3,026) (2,102) (1,871)
-------- -------- --------
Total $903,723 $923,933 $633,409
======== ======== ========
</TABLE>
F-12
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 4 - LOANS RECEIVABLE (CONTINUED)
In 1994, the Group classified a number of loans as held for investment in a
manner similar to Statement of Financial Accounting Standards No. 115 ("SFAS
115"), "Accounting for Certain Investments in Debt and Equity Securities". In
1995, the Financial Accounting Standards Board released the "Guide to
Implementation of Statement 115" (the "Guide"). Upon review of the Guide, the
Group reassessed the prior classifications and reclassified approximately $185.0
million of mortgage loans to held for sale from held for investment.
Activity in the allowance for losses is summarized as follows (in thousands):
<TABLE>
<CAPTION>
FOR THE NINE MONTHS FOR THE YEARS ENDED
ENDED SEPTEMBER 30, DECEMBER 31,
------------------- -------------------------------------
1996 1995 1995 1994 1993
------- ---------- ---------- --------- ----------
<S> <C> <C> <C> <C> <C>
Balance, beginning of period $2,102 $1,871 $1,871 $ 901 $ 550
Allowance for losses of Security
at date of acquisition - - - 1,001 -
Provision charged to earnings 1,140 189 238 290 644
Charge-offs, net of recoveries (216) 24 (7) (321) (293)
------ ------ ------ ------ -----
Balance, end of period $3,026 $2,084 $2,102 $1,871 $ 901
====== ====== ====== ====== =====
</TABLE>
The Group has no commitments to make additional advances on restructured or
other nonperforming loans. Loans on which interest accruals have been
discontinued totaled approximately $10.7 million at December 31, 1995, $1.7
million at December 31, 1994 and $1.5 million at December 31, 1993. Interest
that would have been accrued on such loans totaled approximately $862,000,
$245,000 and $286,000 at December 31, 1995, 1994, and 1993, respectively. At
September 30, 1996 and 1995 loans on which interest accruals have been
discontinued totaled approximately $31.7 million and $7.1 million, respectively.
Interest that would have been accrued on such loans totaled approximately $2.8
million and $593,000 at September 30, 1996 and 1995, respectively.
At September 30, 1996 the recorded investment in impaired loans pursuant to SFAS
No. 114, totalled $3.9 million and the average outstanding balance for the nine
months ended September 30, 1996 was $2.6 million. No allowance for losses was
required on these loans because the measured values of the loans exceeded the
recorded investments in the loans. Interest income recognized on impaired loans
during the nine months ended September 30, 1996, was not material. At December
31, 1995, the Group had no recorded investment in impaired loans.
F-13
<PAGE>
PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
____________________________________________________________________________
NOTE 5 - REPOSSESSED ASSETS
Repossessed assets include the following (in thousands):
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
--------------- ------------------------
1996 1995 1994
--------------- ----------- -----------
<S> <C> <C> <C>
One-to-four family $ 4,193 $ 2,179 $ 947
Commercial properties 180 180 180
One-to-four family construction - - 144
-------- ------- -------
Repossessed assets, net $ 4,373 $ 2,359 $ 1,271
======== ======= =======
</TABLE>
NOTE 6 - PREMISES AND EQUIPMENT
Premises and equipment balances are as follows (in thousands):
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
-------------- ---------------------
1996 1995 1994
-------------- -------- --------
<S> <C> <C> <C>
Land $ 3,330 $ 3,330 $ 3,191
Office buildings 2,327 2,312 2,152
Computer hardware and software 14,675 10,941 6,722
Furniture, fixtures and equipment 10,818 8,460 6,588
Automobiles 604 568 500
-------- ------- -------
31,754 25,611 19,153
Less accumulated depreciation (10,796) (7,653) ( 4,651)
--------- -------- -------
Premises and equipment, net $ 20,958 $17,958 $14,502
========= ======== =======
</TABLE>
Depreciation expense amounted to approximately $3.2 million and $2.2 million for
the nine month periods ended September 30, 1996 and 1995 and approximately $3.1
million, $2.1 million, and $1.3 million for the years ended December 31, 1995,
1994 and 1993, respectively.
The Group maintains 15 deposit branches, 28 loan centers, nine correspondent
service centers, a loan servicing center, and three corporate operation centers.
Seven of the deposit branches and one of the loan production facilities are
owned by the Group. Lease rental expense totaled approximately $3.0 million and
$2.4 million for the nine months ended September 30, 1996 and 1995 and $3.3
million, $3.1 million and $2.2 million for the years ended 1995, 1994 and 1993,
respectively. The following outlines the Group's minimum contractual lease
obligations as of December 31, 1995 (in thousands):
<TABLE>
<S> <C>
1996 $2,223
1997 2,565
1998 1,578
1999 1,174
2000 957
------
Total $8,497
======
</TABLE>
F-14
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 7 - MORTGAGE SERVICING RIGHTS
Not included in the accompanying consolidated financial statements are mortgage
loans serviced for others. The unpaid principal balances of these loans,
including subservicing of $2.1 billion at September 30, 1996, $536.3 million at
December 31, 1995 and none at December 31, 1994, are summarized as follows (in
thousands):
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
------------- ----------------------
Mortgage loans serviced for: 1996 1995 1994
------------- ---------- ----------
<S> <C> <C> <C>
FHLMC and FNMA $6,803,432 $6,638,435 $5,600,413
MSHDA 42,661 31,055 26,532
GNMA 6,715 7,217 7,785
Other investors 2,221,993 648,147 56,691
---------- ---------- ----------
$9,074,801 $7,324,854 $5,691,421
========== ========== ==========
</TABLE>
Custodial accounts maintained in connection with the above mortgage servicing
rights were approximately $143.1 million at September 30, 1996 and $131.4
million and $108.2 million at December 31, 1995 and 1994, respectively. These
amounts include payments for principal, interest, taxes, and insurance collected
on behalf of the individual investor.
As discussed in Note 3, the Group adopted SFAS 122 in May 1995. The effect of
the adoption was to increase earnings by approximately $1.5 million before taxes
for 1995 or $0.12 per share.
The following is an analysis of the changes in the mortgage servicing rights (in
thousands):
<TABLE>
<CAPTION>
FOR THE NINE MONTHS FOR THE YEARS ENDED
ENDED SEPTEMBER 30, DECEMBER 31,
------------------- ----------------------------
1996 1995 1995 1994 1993
--------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Balance, beginning of period $ 27,957 $ 18,179 $ 18,179 $17,563 $11,108
Additions 50,861 20,515 31,106 15,616 15,578
Sales (29,218) (11,434) (15,684) (9,475) (4,528)
Amortization (8,177) (4,040) (5,644) (5,525) (4,595)
-------- -------- -------- ------- -------
Balance, end of period $ 41,423 $ 23,220 $ 27,957 $18,179 $17,563
======== ======== ======== ======= =======
</TABLE>
At December 31, 1995 and 1994, the estimated fair value of the mortgage loan
servicing portfolio was approximately $70.4 and $72.3 million, respectively.
The estimated fair value at September 30, 1996 was approximately $76.1 million.
The estimated fair value in excess of book value was approximately $34.7 million
at September 30, 1996 and $42.4 million and $54.1 million at December 31, 1995
and 1994, respectively.
F-15
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 7 - MORTGAGE SERVICING RIGHTS (CONTINUED)
During October 1995, Flagstar committed to sell $2.0 billion of mortgage
servicing rights to a large national bank during 1996. The commitment required
quarterly installment sales of new production mortgage servicing rights. The
first installment was made in December 1995.
During 1996, Flagstar committed to sell $2.0 to $3.0 billion of mortgage
servicing rights during 1996 and 1997 to a major mortgage servicing company.
The commitment requires quarterly installment sales of new production mortgage
servicing rights. Flagstar has fulfilled $700 million of this commitment, and
all of the October 1995 commitment, as of September 30, 1996.
NOTE 8 - DEPOSIT ACCOUNTS
The deposit accounts are as follows (in thousands):
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
------------- ------------------
1996 1995 1994
------------- ------------------
AMOUNT AMOUNT AMOUNT
------ ------ ------
<S> <C> <C> <C>
Demand, NOW and
money market
accounts $ 45,295 $ 68,012 $ 62,044
Savings accounts 52,511 10,248 9,744
Certificate of deposit 479,108 448,714 235,836
-------- -------- -------
Total deposit accounts $576,914 $526,974 $307,624
======== ======== ========
</TABLE>
Noninterest-bearing deposits included in the demand, NOW and money market
accounts balances at December 31, 1995 and 1994 were approximately $4.6 million
and $12.8 million, respectively and $12.6 million at September 30, 1996.
The aggregate amount of certificates of deposit with a minimum denomination of
$100,000 was approximately $223.4 million and $66.2 million at December 31, 1995
and 1994, respectively and $210.6 million at September 30, 1996.
The following indicates the scheduled maturities of the Bank's certificates of
deposit as of September 30, 1996:
<TABLE>
<CAPTION>
SEPTEMBER 30,
1996
-------------
<S> <C>
Three months or less $ 78,426
Over three through six months 136,390
Over six through twelve months 171,510
One to two years 56,653
Thereafter 36,129
--------
Total $479,108
========
</TABLE>
F-16
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 8 - DEPOSIT ACCOUNTS (CONTINUED)
Interest expense on deposit accounts is summarized as follows (in thousands):
<TABLE>
<CAPTION>
FOR THE NINE MONTHS FOR THE YEARS ENDED
ENDED SEPTEMBER 30, DECEMBER 31,
------------------- -------------------------
1996 1995 1995 1994 1993
------- ---------- ------- -------- ------
<S> <C> <C> <C> <C> <C>
Demand, NOW and money
market accounts $ 1,778 $ 1,326 $ 1,824 $ 773 $ 60
Passbook savings 282 171 228 127 20
Certificates of deposit 20,014 15,757 23,071 8,137 7,351
------- -------- ------- -------- ------
Total $22,074 $ 17,254 $25,123 $ 9,037 $7,431
======= ======== ======= ======== ======
</TABLE>
NOTE 9 - FHLB ADVANCES
The following indicates certain information related to the FHLB advances
(in thousands):
<TABLE>
<CAPTION>
FOR THE NINE FOR THE YEARS ENDED
MONTHS ENDED DECEMBER 31,
----------------------------
SEPTEMBER 30,
-------------
1996 1995 1994 1993
------------- -------- -------- --------
<S> <C> <C> <C> <C>
Maximum outstanding at any month end $318,000 $315,000 $200,750 $112,000
Average monthly balance 243,564 237,535 83,912 42,727
Average interest rate 6.15% 6.39% 4.44% 4.29%
</TABLE>
Flagstar has the authority and approval from the FHLB to utilize a total of $425
million in collateralized borrowings. Advances at December 31, 1995 matured
during 1996. Advances at September 30, 1996 principally mature during 1996 and
1997. Pursuant to collateral agreements with the FHLB, advances are
collateralized by non-delinquent single-family residential mortgage loans.
NOTE 10 - FEDERAL INCOME TAXES
Components of the provision for federal income taxes consists of the following
(in thousands):
<TABLE>
<CAPTION>
FOR THE NINE MONTHS FOR THE YEARS ENDED
ENDED SEPTEMBER 30, DECEMBER 31,
------------------- -----------------------
1996 1995 1995 1994 1993
------- -------- ------ ------ -------
<S> <C> <C> <C> <C> <C>
Current provision $5,726 $4,365 $6,004 $6,505 $ 5,924
Deferred provision 692 1,993 3,415 2,813 4,481
------ ------ ------ ------ -------
$6,418 $6,358 $9,419 $9,318 $10,405
====== ====== ====== ====== =======
</TABLE>
F-17
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 10 - FEDERAL INCOME TAXES (CONTINUED)
The Group's effective tax rates differ from the statutory federal tax rates.
The following is a summary of such differences (in thousands):
<TABLE>
<CAPTION>
FOR THE NINE
MONTHS ENDED FOR THE YEARS
SEPTEMBER 30, ENDED DECEMBER 31,
--------------- -----------------------
1996 1995 1995 1994 1993
------ ------ ------ ------ -------
<S> <C> <C> <C> <C> <C>
Provision at statutory federal income
tax rate $6,218 $5,956 $8,713 $8,907 $10,300
Increase (decrease) resulting from:
Amortization of deposit premium 340 340 450 225 -
Other, net (140) 62 256 186 105
------ ------ ------ ------ -------
Provision at effective federal income
tax rate $6,418 $6,358 $9,419 $9,318 $10,405
====== ====== ====== ====== =======
</TABLE>
The details of the net tax liability are as follows (in thousands):
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
------------- --------------------
1996 1995 1994
------------- -------- -------
<S> <C> <C> <C>
Deferred tax assets:
Mark-to-market adjustments on earning assets $ 3,435 $ 1,031 $ 426
Interest not accrued 980 255 37
Other 541 9 307
-------- -------- -------
Total 4,956 1,295 770
-------- -------- -------
Deferred tax liabilities:
Deferred fees (608) (567) (495)
Bad debt reserves (1,026) (1,246) (662)
Mortgage loan servicing rights (14,498) (9,724) (5,993)
Purchase accounting valuation adjustments (751) (835) (1,120)
Premises and equipment (649) (463) (507)
Other (330) (674) (792)
-------- -------- -------
Total (17,862) (13,509) (9,569)
-------- -------- -------
Net deferred tax liability (12,906) (12,214) (8,799)
Currently (payable)/receivable (5,867) (2,441) 1,309
-------- -------- -------
Net tax liability $(18,773) $(14,655) $(7,490)
======== ======== =======
</TABLE>
F-18
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 10 - FEDERAL INCOME TAXES (CONTINUED)
Holding files a consolidated federal income tax return on a calendar year basis.
Through its tax year ended December 31, 1995, Flagstar has determined its
deduction for bad debts based on the reserve method in lieu of the specific
charge-off method. Under the reserve method, Flagstar has established and
maintained a reserve for bad debts against which actual loan losses are charged.
As a qualifying thrift institution, Flagstar has calculated its addition to its
bad debt reserve under either, (1) the "percentage of taxable income" method or
(2) the "experience" method. Flagstar used the percentage of taxable income
method in determining its bad debt reserve addition for its 1995, 1994 and 1993
tax years.
During August 1996, the President signed the Small Business Job Protection Act
of 1996 ("the Jobs Act") which contains certain provisions that require all
savings banks and thrifts to account for bad debts for income tax reporting
purposes in the same manner as banks. The effect on a large thrift such as
Flagstar is that it must change its tax method of accounting for determining its
allowable bad debt deduction from the reserve method to the specific charge-off
method. Consequently, the bad debt deduction based on a percentage of taxable
income or the experience method is no longer allowed for years beginning after
December 31, 1995.
The bad debt reserves maintained for tax purposes and accumulated after 1987 are
subject to recapture as part of the change. Base year reserves (generally pre-
1988 bad debt reserves) will not be recaptured unless Flagstar, or a successor
institution, liquidates, redeems shares or pays a dividend in excess of earnings
and profits. The recapture will generally be taken into account ratably over
six years beginning with the 1996 tax year. Flagstar may defer the recapture up
to an additional two years if it meets certain residential lending requirements
during tax years beginning before January 1, 1998.
Income taxes have been provided for the temporary difference between the
allowance for losses and the increase in the bad debt reserve maintained for tax
purposes since the 1987 base year. The cumulative amount of this difference at
December 31, 1995 was approximately $3.5 million for Flagstar. As a result of
the Jobs Act, the cumulative difference of $3.5 million will be recaptured.
Management believes that Flagstar has met the conditions to defer the recapture
of the reserve during 1996. The Jobs Act had no effect on the base year
reserves of Flagstar. Consequently, Flagstar has not provided deferred taxes of
approximately $1.4 million on the balance of its tax bad debt reserves as of the
1987 base year.
NOTE 11- EMPLOYEE BENEFITS
The Group maintains a 401(k) plan for its employees. Under the plan, eligible
employees may contribute up to 6% of their compensation up to a maximum of
$9,000 annually. The Group currently provides a matching contribution up to 3%
of an employee's annual compensation. The Group's contributions vest at a rate
such that an employee is fully vested after seven years of service. The Groups
contributions to the plan for the years ended December 31, 1995, 1994 and 1993
were approximately $493,000, $371,000 and $301,000, respectively. The Group's
contributions to the plan for the nine months ended September 30, 1996 and 1995
were $452,000 and $361,000, respectively. The Group may also make discretionary
contributions to the plan; however, none have been made.
F-19
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 12 - CONTINGENCIES
The Group is involved in certain lawsuits incidental to its operations.
Management, after review with its legal counsel, is of the opinion that
settlement of such litigation will not have a material effect on the Group's
financial condition.
NOTE 13 - REGULATORY MATTERS
The Financial Institutions Reform Recovery and Enforcement Act of 1989
("FIRREA"), which instituted major reforms in the operation and supervision of
the savings and loan industry, contains provisions for capital standards. These
standards require savings institutions to have a minimum regulatory tangible
capital (as defined in the regulation) equal to 1.50% of adjusted total assets
and a minimum 3.00% core capital (as defined) of adjusted total assets.
Additionally, savings institutions are required to meet a total risk-based
capital requirement of 8.00%.
The Bank is also subject to the provisions of the Federal Deposit Insurance
Corporation Improvement Act of 1991 ("FDICIA"). FDICIA includes significant
changes to the legal and regulatory environment for insured depository
institutions, including reductions in insurance coverage for certain kinds of
deposits, increased supervision by the Federal regulatory agencies, increased
reporting requirements for insured institutions, and new regulations concerning
reporting on internal controls, accounting and operations.
FDICIA's prompt corrective action regulations define specific capital categories
based on an institutions' capital ratios. The capital categories, in declining
order, are "well" capitalized, "adequately capitalized", "undercapitalized",
"significantly undercapitalized", and "critically undercapitalized."
Institutions categorized as "undercapitalized" or worse are subject to certain
restrictions, including the requirement to file a capital plan with OTS, and
increased supervisory monitoring, among other things. Other restrictions may be
imposed on the institution either by the OTS or by the FDIC, including
requirements to raise additional capital, sell assets, or sell the entire
institution.
The following chart delineates the categories as defined in the FDICIA
legislation:
<TABLE>
<CAPTION>
TIER 1 TOTAL
RISK- RISKED-
CORE BASED BASED
CAPITAL CAPITAL CAPITAL
------- ------- -------
<S> <C> <C> <C>
"Well capitalized" 5.0% 6.0% 10.0%
"Adequately capitalized" 4.0% 4.0% 8.0%
"Undercapitalized" Less than 4.0% Less than 4.0% Less than 8.0%
"Significantly undercapitalized" Less than 3.0% Less than 3.0% Less than 6.0%
</TABLE>
F-20
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 13 - REGULATORY MATTERS (CONTINUED)
At September 30, 1996, Flagstar's consolidated Core, Tier 1 risk-based, and
Total risk-based capital ratios were 5.8%, 11.6% and 12.0%, respectively. These
ratios place Flagstar in the "well capitalized" category. The following is a
calculation of Flagstar's consolidated regulatory capital (in thousands) at
September 30, 1996:
<TABLE>
<CAPTION>
TIER 1 TOTAL
RISK- RISK-
GAAP BASED TANGIBLE CORE BASED
CAPITAL CAPITAL CAPITAL CAPITAL CAPITAL
------- ------- -------- ------- -------
<S> <C> <C> <C> <C> <C>
GAAP capital, as reported $72,211 $ 72,211 $72,211 $72,211 $72,211
Nonallowance assets:
Core deposit premium (6,128)
Other assets (10,637) (10,637) (314)
Additional capital items:
General valuation allowance 3,026
-------- ------- ------- -------
Regulatory capital $ 72,211 55,446 61,574 74,923
========
Minimum capital requirement % 1.50% 3.00% 8.00%
Minimum capital requirement $ 15,784 31,754 49,803
------- ------- -------
Regulatory capital - excess $39,662 $29,820 $25,120
======= ======= =======
</TABLE>
At December 31, 1995, Flagstar's consolidated Core, Tier 1 risk-based, and Total
risk-based capital ratios were 5.8%, 9.8% and 10.1%, respectively. These ratios
place Flagstar in the "well capitalized" category. The following is a
calculation of Flagstar's consolidated regulatory capital (in thousands) at
December 31, 1995:
<TABLE>
<CAPTION>
TIER 1 TOTAL
RISK- RISK-
GAAP BASED TANGIBLE CORE BASED
CAPITAL CAPITAL CAPITAL CAPITAL CAPITAL
------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C>
GAAP capital, as reported $61,003 $61,003 $61,003 $61,003 $61,003
Nonallowance assets:
Core deposit premium (7,095)
Other assets (306)
Additional capital items:
General valuation allowance 2,102
------- ------- ------- -------
Regulatory capital $61,003 53,908 61,003 62,799
=======
Minimum capital requirement % 1.50% 3.00% 8.00%
Minimum capital requirement $ 15,566 31,346 49,655
------- ------- -------
Regulatory capital - excess $38,342 $29,657 $13,144
======= ======= =======
</TABLE>
F-21
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 13 - REGULATORY MATTERS (CONTINUED)
The OTS risk-based capital regulation also includes an interest rate risk (IRR)
component that requires savings institutions with greater than normal IRR, when
determining compliance with the risk-based capital requirements, to maintain
additional total capital. The OTS has, however, indefinitely deferred
enforcement of its IRR requirements. Under the regulation, a savings
institution's IRR is measured in terms of the sensitivity of its "net portfolio
value" to changes in interest rates. A savings institution is considered to
have a "normal" level of IRR exposure if the decline in its net portfolio value
after an immediate 200 basis point increase or decrease in market interest rates
is less than 2% of the current estimated economic value of its assets. If the
OTS determines in the future to enforce the regulation's IRR requirements, a
savings institution with a greater than normal IRR would be required to deduct
from total capital, for purposes of calculating its risk-based capital
requirement, an amount equal to one half the difference between the
institution's measured IRR and 2%, multiplied by the economic value of the
institution's total assets. Management does not believe that this regulation,
when enforced, will have a material impact on Flagstar.
The United States Congress has passed legislation that resulted in an assessment
on all Savings Association Insurance Fund ("SAIF") insured deposits in order to
recapitalize the SAIF Fund. This one-time assessment amounted to approximately
66 basis points on SAIF assessable deposits held as of March 31, 1995. The
assessment was payable no later than November 30, 1996 and amounted to
approximately $3.4 million for Flagstar. Such amount was charged to earnings at
September 30, 1996.
NOTE 14 - CONCENTRATIONS OF CREDIT
Properties collateralizing loans receivable are geographically disbursed
throughout the United States. As of September 30, 1996, approximately 39% of
these properties are located in Michigan (measured by principal balance), and
another 44% are located in the states of California, Colorado, Ohio, Florida,
Illinois, Texas, Maryland, Washington, Virginia and Georgia. No other state
contains more than 2% of the properties collateralizing these loans.
NOTE 15 - CORPORATE ACQUISITION
Flagstar entered into a definitive agreement on November 16, 1993 to acquire all
of the outstanding stock of Security Savings Bank, FSB of Jackson, Michigan for
$35 per share or approximately $25.9 million. As part of this agreement,
Security maintained its corporate identity and became an operating subsidiary of
Flagstar. The completion of this acquisition was finalized on June 30, 1994, at
the close of business. Had Security been a part of Holding for all of 1994,
Holding's earnings would have been reduced by $581,000 or $0.05 per share.
In conjunction with Flagstar's acquisition of Security, a deposit premium was
capitalized in the amount of $9.0 million or 4.67%. This premium, which is
included in other assets, is being amortized over seven years on a straight-line
method. The premium, net of amortization, totals $6.1 million at September 30,
1996, $7.1 million at December 31, 1995 and $8.4 million at December 31, 1994.
Amortization of the deposit premium amounted to approximately $970,000 for each
of the nine month periods ended September 30, 1996 and 1995 and $1.3 million and
$650,000 for the years ended December 31, 1995 and 1994, respectively.
The Group did not complete any significant acquisitions during the year end
December 31, 1995 or the nine month period ended September 30, 1996.
F-22
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 16 - FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107 issued by the Financial Accounting Standards Board, "Disclosures
about Fair Value of Financial Instruments", requires the disclosure of fair
value information about financial instruments, whether or not recognized in the
statement of financial condition, where it is practicable to estimate that
value. In cases where quoted market prices are not available, fair values are
based on estimates using present value or other valuation techniques. Because
assumptions used in these valuation techniques are inherently subjective in
nature, the estimated fair values cannot always be substantiated by comparison
to independent market quotes and, in many cases, the estimated fair values could
not necessarily be realized in an immediate sale or settlement of the
instrument.
The fair value estimates presented herein are based on relevant information
available to management as of September 30, 1996, December 31, 1995, and 1994.
Management is not aware of any factors that would significantly affect these
estimated fair value amounts. As these reporting requirements exclude certain
financial instruments and all non-financial instruments, the aggregate fair
value amounts presented herein do not represent management's estimate of the
underlying value of the Group. Additionally, such amounts exclude intangible
asset values such as the value of core deposit intangibles.
The following methods and assumptions were used by the Group to estimate the
fair value of each class of financial instruments and certain non-financial
instruments for which it is practicable to estimate that value:
Cash and cash equivalents: The carrying amount of cash and cash equivalents
approximates fair value.
Loans receivable: This portfolio consists of single family mortgage loans held
for sale and investment, collateralized commercial lines of credit, commercial
real estate loans, builder development project loans, consumer credit
obligations, and single family home construction loans. Mortgage loans held for
sale and investment are valued using fair values attributable to similar
mortgage loans. The fair value of the other loans are valued based on the fair
value of obligations with similar credit characteristics.
Other investments: The carrying amount of other investments approximates fair
value.
Federal Home Loan Bank stock: No secondary market exists for Federal Home Loan
Bank (FHLB) stock. The stock is bought and sold at par by the FHLB. The
recorded value, therefore, is the fair value. The amount of stock required to
be purchased is based on total assets and is determined annually.
Deposit Accounts: The fair value of demand deposits and savings accounts
approximates the carrying amount. The fair value of fixed-maturity certificates
of deposit is estimated using the rates currently offered for deposits with
similar remaining maturities.
Federal Home Loan Bank Advances: Rates currently available to the Group for
debt with similar terms and remaining maturities are used to estimate the fair
value of the existing debt.
F-23
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 16 - FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
Mortgage Servicing Rights: See Note 3 for a description of the method used to
value the mortgage servicing rights.
Financial instruments with off-balance-sheet risk: The fair value of financial
futures contracts, forward delivery contracts and fixed rate commitments to
extend credit are based on current market prices.
The following tables set forth the fair value of the Group's financial
instruments:
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
--------------------------------------------
1996 1995 1994
-------------------- -------------------
CARRYING FAIR CARRYING FAIR CARRYING FAIR
VALUE VALUE VALUE VALUE VALUE VALUE
--------- -------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Financial instruments:
Assets:
Cash and cash equivalents $ 29,374 $ 29,374 $ 29,119 $ 29,119 $ 25,656 $ 25,656
Mortgage loans held for
sale 652,514 660,590 620,455 621,585 205,480 205,841
Loans held for investment 254,235 256,397 305,580 308,702 429,800 420,723
Other investments 905 905 818 818 873 873
Federal Home Loan
Bank stock 20,500 20,500 17,800 17,800 12,766 12,766
Liabilities:
Deposits:
Demand deposits and
savings accounts (97,806) (97,806) (78,260) (78,260) (71,788) (71,788)
Certificates of deposit (479,108) (479,140) (448,714) (451,500) (235,836) (232,200)
FHLB advances (199,856) (199,631) (191,156) (190,800) (200,750) (200,400)
Off-balance sheet items:
Financial futures - - - - - -
Forward delivery contracts - (3,480) - (9,366) - 440
Commitments to extend
credit - 2,940 - 1,789 - 192
Non-financial instruments:
Unrealized gains on mortgage
servicing rights (see Note 7) - 34,700 - 42,400 - 54,100
</TABLE>
F-24
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 16 - FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
The Group enters into certain financial instruments with off-balance-sheet risk
in the ordinary course of business to reduce its exposure to changes in interest
rates. The Group utilizes only traditional financial instruments for this
purpose and does not enter into instruments such as leveraged derivatives or
structured notes. The financial instruments used for hedging interest rate risk
include financial futures contracts and forward delivery contracts. A hedge is
an attempt to reduce risk by creating a relationship whereby any losses on the
hedged asset or liability are expected to be counterbalanced in whole or part by
gains on the hedging financial instrument. Thus, market risk resulting from a
particular off-balance-sheet instrument is normally offset by other on or off-
balance-sheet transactions. The Group seeks to manage credit risk by limiting
the total amount of arrangements outstanding, both by counterparty and in the
aggregate, by monitoring the size and maturity structure of the financial
instruments, by assessing the creditworthiness of the counterparty, and by
applying uniform credit standards for all activities with credit risk.
FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK
Notional principal amounts indicated in the following table represent the extent
of the Group's involvement in particular classes of financial instruments and
generally exceed the expected future cash requirements relating to the
instruments.
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
------------- ------------------
1996 1995 1994
------------- -------- --------
(IN MILLIONS)
<S> <C> <C> <C>
Financial futures contracts $ - $ - $ 20
Forward delivery contracts 713 511 134
Commitments to extend credit 587 489 176
</TABLE>
All of the Group's financial instruments with off-balance sheet risk expire
within one year.
Financial Futures Contracts: At December 31, 1994 there were Treasury futures
contracts outstanding with notional principal amounts totalling $20 million.
There were no Treasury futures contracts outstanding at December 31, 1995 or
September 30, 1996. Gains or losses on futures transactions are recorded on the
specific identification method in response to adjustments in the fair market
value of the instruments. During 1995, 1994 and 1993, the Group recorded losses
on financial futures amounting to approximately $1.3 million, $.4 million and
$1.1 million, respectively. For the nine month periods ended September 30, 1996
and 1995, the Group recorded losses on financial futures amounting to
approximately $.2 million and $1.3 million, respectively.
F-25
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 16 - FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK (CONTINUED)
Forward Delivery Contracts: Forward delivery contracts are entered into to sell
single family mortgage loans:
FORWARD DELIVERY CONTRACTS
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
------------- -----------------------
1996 1995 1994
------------- ----------- ----------
(IN MILLIONS)
<S> <C> <C> <C>
Types
Fixed $ 614 $ 470 $ 120
Balloon 71 30 13
Variable 28 11 1
----- ----- -----
$ 713 $ 511 $ 134
===== ===== =====
</TABLE>
Substantially all forward delivery contracts are entered into with the FHLMC,
FNMA or GNMA.
Commitments to Extend Credit: The Group's exposure to credit loss for
commitments to extend credit is represented by the contractual amount of those
agreements. The Group uses the same credit policies in making funding
commitments as it does for on-balance-sheet instruments. These commitments
generally have fixed expiration dates or other termination clauses. Because
commitments may expire without being drawn upon, the total contract amounts do
not necessarily represent future cash requirements.
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
------------- -------------------
1996 1995 1994
------------- --------- ---------
(IN MILLIONS)
<S> <C> <C> <C>
Single family $ 492 $ 409 $ 130
Other 95 80 46
----- ----- -----
Total $ 587 $ 489 $ 176
===== ===== =====
Fixed $ 556 $ 459 $ 129
Variable 31 30 47
----- ----- -----
Total $ 587 $ 489 $ 176
===== ===== =====
</TABLE>
F-26
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 17 - SEGMENT INFORMATION
The Company operates in two industry segments. The two industry segments are
mortgage banking and retail banking. Following is a presentation of financial
information by business segment for the period indicated.
<TABLE>
<CAPTION>
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1996
---------------------------------------------------
RETAIL MORTGAGE
BANKING BANKING
SEGMENT SEGMENT ELIMINATIONS COMBINED
------------ ----------- ------------ --------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Revenues $ 9,309 $ 56,083 $ - $ 65,392
Earnings before income taxes 1,164 16,594 - 17,758
Depreciation and amortization
of intangibles 1,106 11,275 - 12,381
Capital expenditures 110 6,145 - 6,255
Identifiable assets 358,677 886,653 (175,796) 1,069,534
Intersegment income (expense) 12,306 (12,306) - -
</TABLE>
<TABLE>
<CAPTION>
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1995
---------------------------------------------------
RETAIL MORTGAGE
BANKING BANKING
SEGMENT SEGMENT ELIMINATIONS COMBINED
------------ ----------- ------------ --------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Revenues $ 9,159 $ 37,284 $ - $ 46,443
Earnings before income taxes 3,104 13,912 - 17,016
Depreciation and amortization
of intangibles 1,230 6,041 - 7,271
Capital expenditures 1,187 3,391 - 4,578
Identifiable assets 396,495 777,695 (104,657) 1,069,533
Intersegment income (expense) (5,494) 5,494 - -
</TABLE>
F-27
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
______________________________________________________________________________
NOTE 17 - SEGMENT INFORMATION (CONTINUED)
<TABLE>
<CAPTION>
FOR THE YEAR ENDED DECEMBER 31, 1995
-----------------------------------------------
RETAIL MORTGAGE
BANKING BANKING
SEGMENT SEGMENT ELIMINATIONS COMBINED
--------- ---------- ------------ --------
<S> <C> <C> <C> <C>
Revenues $ 12,390 $ 54,459 $ - $ 66,849
Earnings before income taxes 3,549 21,346 - 24,895
Depreciation and amortization
of intangibles 1,728 9,344 - 11,072
Capital expenditures 1,665 4,967 - 6,632
Identifiable assets 307,620 782,802 (45,328) 1,045,094
Loans transferred to (from) (185,111) 185,111 - -
Intersegment income (expense) (4,153) 4,153 - -
</TABLE>
<TABLE>
<CAPTION>
FOR THE YEAR ENDED DECEMBER 31, 1994
-----------------------------------------------
RETAIL MORTGAGE
BANKING BANKING
SEGMENT SEGMENT ELIMINATIONS COMBINED
--------- --------- ------------ --------
<S> <C> <C> <C> <C>
Revenues $ 1,432 $ 61,926 $ - $ 63,358
Earnings (loss) before income taxes (2,127) 27,576 - 25,449
Depreciation and amortization
of intangibles 746 8,276 - 9,022
Capital expenditures 664 5,927 - 6,591
Identifiable assets 416,023 480,511 (173,384) 723,150
Loans transferred to (from) 106,261 (106,261) - -
Intersegment income (expense) (2,358) 2,358 - -
</TABLE>
Revenues are comprised of net interest income (before the provision for credit
losses) and non-interest income. Non-interest expenses are fully allocated to
each segment. The intersegment income (expense) consists of interest expense
incurred or charged by the mortgage banking segment on intersegment borrowing.
The retail banking segment was not material in 1993.
F-28
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
_______________________________________________________________________________
NOTE 18 - QUARTERLY FINANCIAL DATA (UNAUDITED)
The following table represents summarized data for the first three quarters in
fiscal 1996 and each of the quarters in fiscal 1995 and 1994 (in thousands
except earnings (loss) per share data).
<TABLE>
<CAPTION>
1996 1995 1994
-------------------------- ---------------------------------- -------------------------------------
THIRD SECOND FIRST FOURTH THIRD SECOND FIRST FOURTH THIRD SECOND FIRST
QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER
------- ------- ------- ------- ------- ------- ------- --------- -------- ------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest income $18,603 $19,558 $19,518 $21,035 $19,879 $16,762 $13,628 $12,285 $10,463 $ 6,060 $ 6,304
Interest expense 10,579 11,820 11,722 12,042 12,206 9,739 7,456 5,846 4,414 1,961 2,265
------- ------- ------- ------- ------- ------- ------- ------- ------- ------- -------
Net interest income 8,024 7,738 7,796 8,993 7,673 7,023 6,172 6,439 6,049 4,099 4,039
Provision for losses 488 344 308 49 20 4 165 279 - 11 -
------- ------- ------- ------- ------- ------- ------- ------- ------- ------- -------
Net interest income after
provision for losses 7,536 7,394 7,488 8,944 7,653 7,019 6,007 6,160 6,049 4,088 4,039
Non-interest income 8,936 24,514 8,384 11,413 10,197 8,046 7,332 3,091 2,979 22,775 13,887
Non-interest expense 19,460 14,554 12,480 12,478 10,637 9,069 9,532 10,290 10,064 8,673 8,592
------- ------- ------- ------- ------- ------- ------- ------- ------- ------- -------
Earnings (loss) before
income taxes (2,988) 17,354 3,392 7,879 7,213 5,996 3,807 (1,039) (1,036) 18,190 9,334
Provision for federal
income taxes (949) 6,225 1,142 3,061 2,682 2,221 1,455 253 (377) 6,380 3,062
------- ------- ------- ------- ------- ------- ------- ------- ------- ------- -------
Net earnings (loss) $(2,039) $11,129 $ 2,250 $ 4,818 $ 4,531 $ 3,775 $ 2,352 $(1,292) $ (659) $11,810 $6,272
======= ======= ======= ======= ======= ======= ======= ======= ======= ======= =======
Earnings (loss) per share $ (0.18) $ 0.99 $ 0.20 $ 0.43 $ 0.40 $ 0.33 $ 0.21 $ (0.11) $(0.06) $ 1.04 $ 0.55
======= ======= ======= ======= ======= ======= ======= ======= ======= ======= =======
</TABLE>
F-29
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
_______________________________________________________________________________
NOTE 19 - HOLDING COMPANY ONLY FINANCIAL STATEMENTS
The following are unconsolidated financial statements for Holding. These
condensed financial statements should be read in conjunction with the
Consolidated Financial Statements and Notes thereto.
HOLDING COMPANY
CONDENSED STATEMENTS OF FINANCIAL POSITION
(IN THOUSANDS)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
------------------------
1996 1995 1994
------------ ----------- ----------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
Cash and cash equivalents $ 110 $ 44 $ 42
Investment in subsidiaries 72,622 62,326 49,322
Other assets 53 76 55
------- ------- -------
Total assets $72,785 $62,446 $49,419
======= ======= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Other liabilities $ - $ 1 $ -
------- ------- -------
Total liabilities - 1 -
STOCKHOLDERS' EQUITY
Common stock 2,928 2,928 2,942
Retained earnings 69,857 59,517 46,477
------- ------- -------
Total stockholders' equity 72,785 62,445 49,419
------- ------- -------
Total liabilities and stockholders' equity $72,785 $62,446 $49,419
======= ======= =======
</TABLE>
F-30
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 19 - HOLDING COMPANY ONLY FINANCIAL STATEMENTS (CONTINUED)
HOLDING COMPANY
CONDENSED STATEMENTS OF EARNINGS
<TABLE>
<CAPTION>
FOR THE NINE
MONTHS ENDED FOR THE YEARS ENDED
SEPTEMBER 30, DECEMBER 31,
---------------- --------------------------
1996 1995 1995 1994 1993
------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C>
Income
Dividends from subsidiaries $ 1,000 $ 2,000 $ 2,450 $ 1,700 $ 800
Expenses
General and administrative 6 10 13 18 -
------- ------- ------- ------- -------
Earnings before undistributed
earnings of subsidiaries 994 1,990 2,437 1,682 800
Equity in undistributed
earnings of subsidiaries 10,346 8,668 13,039 14,449 18,221
------- ------- ------- ------- -------
Net earnings $11,340 $10,658 $15,476 $16,131 $19,021
======= ======= ======= ======= =======
</TABLE>
F-31
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 19 - HOLDING COMPANY ONLY FINANCIAL STATEMENTS (CONTINUED)
HOLDING COMPANY
CONDENSED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
FOR THE NINE
MONTHS ENDED FOR THE YEARS ENDED
SEPTEMBER 30, DECEMBER 31,
---------------------- -------------------------------
1996 1995 1995 1994 1993
--------- --------- -------- --------- ----------
<S> <C> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING
ACTIVITIES
Net earnings $ 11,340 $ 10,658 $ 15,476 $ 16,131 $ 19,021
Adjustments to reconcile
net earnings to net cash
provided by operating
activities
Equity in undistributed
earnings (10,296) (8,208) (13,004) (14,208) (18,347)
Change in other assets 23 (52) (21) (55) -
Change in other liabilities (1) 10 1 - -
Change in unrealized gains - - - (126) 126
--------- --------- -------- --------- ----------
Net cash provided by
operating activities 1,066 2,408 2,452 1,742 800
CASH FLOWS FROM FINANCING
ACTIVITIES
Dividends paid (1,000) (2,000) (2,000) (400) (800)
Stock repurchase - (450) (450) (1,300) -
--------- --------- -------- --------- ----------
Net cash used by
financing activities (1,000) (2,450) (2,450) (1,700) (800)
Net increase (decrease) in cash
and cash equivalents 66 (42) 2 42 -
Cash and cash equivalents at
beginning of period 44 42 42 - -
--------- --------- -------- --------- ----------
Cash and cash equivalents at
end of period $ 110 $ - $ 44 $ 42 $ -
========= ========= ======== ========= ==========
</TABLE>
F-32
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 20 - SUBSEQUENT EVENTS
NAME CHANGE
In January 1997, the Group changed its name from FSSB Holding Corporation to
Flagstar Bancorp, Inc.
STOCK SPLIT
In January 1997, the Group increased its common shares authorized to 40,000,000
and split its issued and outstanding shares 38.4246 to one. All share and per
share information in the financial statements have been retroactively restated
to give effect to the stock split.
STOCK OFFERING
In conjunction with the stock split, the Group intends to file a registration
statement in February 1997 with the Securities and Exchange Commission to offer
8,050,000 shares of common stock to the public; including 5,850,000 shares being
sold by the shareholders of the Group.
STOCK OPTION AND PURCHASE PLANS, AND OTHER COMPENSATION PLANS
In January 1997, the Company's Board of Directors adopted resolutions to
implement various stock option and purchase plans and deferred and incentive
compensation plans effective upon the successful completion of the common stock
offering.
The purpose of the Stock Option Plan ("Option Plan") is to provide an additional
incentive to directors and employees by facilitating their purchase of Common
Stock. The Option Plan will have a term of 10 years from the date of its
approval by the Company stockholders, after which no awards may be made, unless
the plan is earlier terminated by the Board of Directors of the Company.
Pursuant to the Option Plan, a number of shares equal to 10% of the shares of
Common Stock (1,345,000 shares) that are to be outstanding following the
Offering would be reserved for future issuance by the Company.
It is intended that options granted under the Option Plan will constitute both
incentive stock options ("ISOs") and non-incentive stock options ("non-ISOs").
ISOs are options that comply with certain restrictions pursuant the Internal
Revenue Code of 1986, as amended (the "Code") and thereby provide favorable tax
treatment to recipients, although they do not generally result in tax deductions
to the Company. Non-ISO's are stock options that fail to qualify as ISO, either
at the time of grant or upon exercise.
The exercise price for ISOs may not be less than 100% of the fair market value
of the shares on the date of the grant. Non-ISOs may be granted with any
exercise price, although a recipient will recognize taxable income upon the
receipt of a non-ISO with an exercise price that is substantially less than its
fair market value.
F-33
<PAGE>
FLAGSTAR BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
________________________________________________________________________________
NOTE 20 - SUBSEQUENT EVENTS (CONTINUED)
STOCK OPTION AND PURCHASE PLANS, AND OTHER COMPENSATION PLANS (CONTINUED)
The initial grant of stock options under the Option Plan is expected to take
place on the date of the Option Plan's receipt of stockholder approval. It is
anticipated that the Company will account for the Option Plan in accordance with
the provisions of APB No. 25, "Accounting for Stock issued to Employees" and
adopt the disclosure requirements of SFAS No. 123.
Under the Employee Stock Purchase Plan ("Purchase Plan") eligible participants,
upon providing evidence of a purchase of the Company's common shares from any
third party and on the open market, would receive a payment from the Company
equal to 15% of the full price of the shares. Persons who own 5% or more of the
outstanding Common Stock are not eligible to purchase shares under the Purchase
Plan. The Purchase Plan includes limitations on the maximum reimbursement to a
participant during a year. The Purchase Plan has not been designed to comply
with the requirements of the Internal Revenue Code with respect to employee
stock purchase plans.
The Incentive Compensation Plan ("Incentive Plan") is unfunded and benefits are
payable only in the form of cash from the Bank's general assets. The Incentive
Plan is administered by a committee which decides from year to year which
employees of the Company will be eligible to participate in the Incentive Plan
and the size of the bonus pool.
The Deferred Compensation Plan allows employees to defer up to 25% of their
annual compensation and directors to defer all of their compensation. Funds
deferred remain the property of the Company and are placed in a trust.
Participants may direct that their deferred amounts be invested in stock of the
Company. Upon withdrawal, the participant has the option of receiving the stock
or the proceeds of its sale at the market price at the time of withdrawal.
SALE OF MORTGAGE SERVICING RIGHTS
During December 1996, Flagstar sold certain mortgage servicing rights. The
sales price was approximately $34.9 million for which a gain of approximately
$11.2 million was recorded.
FEDERAL INCOME TAX STATUS
Effective for taxable years beginning after December 31, 1996, the Jobs Act
significantly amended Subchapter S of the Internal Revenue Code of 1986 to allow
banks and bank holding companies to elect to be treated as S corporations for
federal income tax purposes. Prior to January 1, 1997, the Holding Group has
been taxed as a regular corporation. The Holding Group intends to elect to be
treated as a single S corporation for federal income tax purposes effective
January 1, 1997. If the election is made, earnings of the Holding Group,
subsequent to December 31, 1996, would be included in the taxable income of the
stockholders. However, certain earnings of the Holding Group subsequent to
December 31, 1996 may continue to be taxable to the Holding Group. In any event,
it is expected that the S corporation election, if any, will be terminated upon
consumation of the offering in favor of regular corporation tax treatment.
F-34
<PAGE>
No person is authorized in connection with any offering made hereby
to give any information or to make any representation other than as contained in
this Prospectus, and if given or made, such information or representation must
not be relied upon as having been authorized by the Company or by any
Underwriter. This Prospectus does not constitute an offer to sell or a
solicitation of any offer to buy any security other than the shares of Common
Stock offered hereby, nor does it constitute an offer to sell or a solicitation
of an offer to buy any of the securities offered hereby to any persons in any
jurisdiction in which it is unlawful to make such an offer or solicitation to
such person. Neither the delivery of this Prospectus nor any sale made hereunder
shall under any circumstance create any implication that the information
contained herein is correct as of any date subsequent to the date hereof.
- ----------------------------------------------------------------
TABLE OF CONTENTS
Page
----
Prospectus Summary 3
Risk Factors 14
Use of Proceeds 21
Dividend Policy 21
Market for the Common Stock 21
Capitalization 22
Dilution 23
Selected Consolidated Financial and Other Data 24
Management's Discussion and Analysis of Changes
In Financial Condition and Results Of Operations 28
Business 46
Regulation 68
Management 77
Selling Stockholders 89
Description Of Capital Stock 90
Restrictions On Acquisition Of The Company And The Bank 91
Certain Anti-Takeover Provisions In The Restated
Articles Of Incorporation And Restated Bylaws 93
Underwriting 97
Legal Matters 98
Experts 98
Available Information 99
Index To Consolidated Financial Statements F-1
Until ________, 1997 (25 days after commencement of the Offering),
all dealers effecting transactions in the Common Stock, whether or not
participating in this distribution, may be required to deliver a Prospectus.
This delivery requirement is in addition to the obligation of dealers to deliver
a Prospectus when acting as Underwriters and with respect to their unsold
allotments or subscriptions.
8,050,000 Shares
[Company logo]
Common Stock
-------------------
PROSPECTUS
, 1997
-------------------
LEHMAN BROTHERS
PAINEWEBBER INCORPORATED
RONEY & CO.
<PAGE>
PART II. INFORMATION NOT REQUIRED IN PROSPECTUS
Item 13. Other Expenses of Issuance and Distribution.
The following table sets forth the expenses in connection with the
sale and distribution of the securities being registered hereby, other than
underwriting discounts and commissions. All such expenses are to be paid by the
Registrant.
<TABLE>
<S> <C>
SEC registration fee ........................ 54,000
NASD filing fee ............................. 20,000*
Nasdaq listing fee .......................... 53,000*
Blue Sky filing fees and expenses ........... 10,000*
Accounting fees and expenses ................ 250,000*
Legal fees and expenses ..................... 500,000*
Printing, postage and mailing ............... 650,000*
Stock transfer agent fees and certificates .. 10,000*
Other ....................................... 253,000*
--------
Total $1,800,000
==========
</TABLE>
__________________
* Estimated
Item 14. Indemnification of Directors and Officers.
The Company's Restated Articles of Incorporation contain a provision,
authorized by the Michigan Business Corporation Act ("MBCA"), designed to
eliminate in certain circumstances the personal liability of directors for
monetary damages to the Company or its stockholders for breach of their
fiduciary duty as directors. This provision, however, does not limit the
liability of any director who breached his or her duty of loyalty to the Company
or its stockholders, failed to act in good faith, obtained an improper personal
benefit or paid a dividend or approved a stock repurchase or redemption that was
prohibited under Michigan law. This provision will not limit or eliminate the
rights of the Company or any stockholder to seek an injunction or any other
nonmonetary relief in the event of a breach of a director's duty of care. In
addition, this provision applies only to claims against a director arising out
of his or her role as a director and does not relieve a director from liability
unrelated to his or her fiduciary duty of care or from a violation of statutory
law such as certain liabilities imposed on a director under the federal
securities laws.
The Company's Restated Articles of Incorporation and Restated Bylaws
also provide that the Company shall indemnify all directors and officers of the
Company to the full extent permitted by the MBCA. Under the provisions of the
MBCA, any director or officer who, in his or her capacity as such, is made or
threatened to be made a party to any suit or proceeding, may be indemnified if
the Board determines such director or officer acted in good faith and in a
manner he or she reasonably believed to be in or not opposed to the best
interests of the Company or its stockholders.
Officers and directors are covered within specified monetary limits by
insurance against certain losses arising from claims made by reason of their
being directors or officers of the Company or of the Company's subsidiaries and
the Company's officers and directors are indemnified against such losses by
reason of their being or having been directors or officers of another
corporation, partnership, joint venture, trust or other enterprise at the
Company's or its subsidiaries' request.
Item 15. Recent Sales of Unregistered Securities.
None.
II-1
<PAGE>
Item 16. Exhibits and Financial Statement Schedules.
The following is the list of exhibits filed as part of this Registration
Statement and also serves as the Exhibit Schedules:
<TABLE>
<CAPTION>
Exhibit Number Description Page
-------------- ----------- ----
<S> <C> <C>
1.1 Underwriting Agreement ...................... *
1.2 Custody Agreement ........................... *
1.3 Selling Stockholders' Power of Attorney ..... *
3.1 Restated Articles of Incorporation of the
Registrant ..................................
3.2 By-Laws of the Registrant ...................
4 Form of Stock Certificate ...................
5 Opinion of Reinhart, Boerner, Van Deuren,
Norris & Rieselbach, P.C.
regarding legality of securities being
registered...................................
10.1 Form of Employment Agreements between the
Company and Thomas J. Hammond, Mark T. *
Hammond, Joan H. Anderson and Michael W.
Carrie.......................................
10.2 Flagstar Bancorp, Inc. 1997 Employees and
Directors Stock Option Plan.................. *
10.3 Flagstar Bancorp, Inc. 1997 Employee Stock
Acquisition Plan............................. *
10.4 Flagstar Bancorp, Inc. 1997 Incentive
Compensation Plan............................ *
10.5 Flagstar Bancorp, Inc. 1997 Deferred
Compensation Plan............................ *
21 Subsidiaries of the Registrant...............
23.1 Consent of Grant Thornton LLP................
23.2 Consent of Reinhart, Boerner, Van Deuren,
Norris & Rieselbach, P.C (contained in
Exhibit 5)...................................
23.3 Consent of Albert J. Gladner, Esq............
24 Powers of Attorney (see the signature page
of this Registration Statement)..............
27 Financial Data Schedule (SEC Use Only).......
</TABLE>
- ------------------
* To be filed by amendment.
Item 17. Undertakings.
The undersigned Registrant hereby undertakes as follows:
(a) To provide to the Underwriters at the closing specified in the
Underwriting Agreement, certificates in such denominations and registered in
such names as required by the Underwriters to permit prompt delivery to each
purchaser.
(b) For purposes of determining any liability under the Securities
Act of 1933, the information omitted from the form of prospectus filed as part
of this Registration Statement in reliance upon Rule 430A and contained in a
form of prospectus filed by the Registrant pursuant to Rule 424(b)(1) or (4) or
497(h) under the Securities Act shall be deemed to be part of this Registration
Statement as of the time it was declared effective.
II-2
<PAGE>
(c) For the purpose of determining any liability under the
Securities Act of 1933, each post-effective amendment that contains a form of
prospectus shall be deemed to be a new Registration Statement relating to the
securities offered therein, and the offering of such securities at that time
shall be deemed to be the initial bona fide offering thereof.
Insofar as indemnification for liabilities arising under the
Securities Act of 1933 may be permitted to directors, officers and controlling
persons of the Registrant pursuant to the foregoing provisions, or otherwise,
the Registrant has been advised that in the opinion of the Securities and
Exchange Commission such indemnification is against public policy as expressed
in the Act and is, therefore, unenforceable. In the event that a claim for
indemnification against such liabilities (other than the payment by the
Registrant of expenses incurred or paid by a director, officer or controlling
person of the Registrant in the successful defense of any action, suit or
proceeding) is asserted by such director, officer or controlling person in
connection with the securities being registered, the Registrant will, unless in
the opinion of its counsel the matter has been settled by controlling precedent,
submit to a court of appropriate jurisdiction the question whether such
indemnification by it is against public policy as expressed in the Act and will
be governed by the final adjudication of such issue.
II-3
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the
registrant has duly caused this Registration Statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Bloomfield
Hills, State of Michigan, on the 12th day of February, 1997.
FLAGSTAR BANCORP, INC.
By /s/ Thomas J. Hammond
------------------------------------
Thomas J. Hammond,
Chief Executive Officer
(Duly Authorized Representative)
Each person whose signature appears below hereby appoints Thomas J.
Hammond, his or her true and lawful attorney-in-fact, with power to act and with
full power of substitution, in any and all capacities, to sign any or all
amendments (including post-effective amendments) to the Registration Statement
and file the same with all exhibits thereto, and other documents in connection
therewith, with the Securities and Exchange Commission, granting unto said
attorney-in-fact and agent full power and authority to do and perform each and
every act and thing requisite and necessary to be done in and about the
premises, as fully to all intents and purposes as he or she might or could do in
person, hereby ratifying and confirming all that said attorneys-in-fact and
agents, or their substitutes, may lawfully cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed by the following persons on behalf of the
Registrant in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
- --------- ----- ----
<S> <C> <C>
/s/ Thomas J. Hammond Chairman of the Board and Chief February 12, 1997
- -------------------------- Executive Officer
Thomas J. Hammond (Principal Executive Officer)
/s/ Michael W. Carrie Executive Vice President and February 12, 1997
- -------------------------- Treasurer (Principal Financial
Michael W. Carrie and Accounting Officer)
/s/ Mark T. Hammond Chairman of the Board and February 12, 1997
- -------------------------- President
Mark T. Hammond
/s/ Joan H. Anderson Director and Executive Vice February 12, 1997
- -------------------------- President
Joan H. Anderson
/s/ Mary Kay McGuire Director, Senior Vice President February 12, 1997
- -------------------------- and Secretary
Mary Kay McGuire
/s/ Ronald I. Nichols, Sr. Director February 12, 1997
- --------------------------
Ronald I. Nichols, Sr.
/s/ James D. Coleman Director February 12, 1997
- --------------------------
James D. Coleman
/s/ Charles Bazzy Director February 12, 1997
- --------------------------
Charles Bazzy
/s/ Harry S. Ellman Director February 12, 1997
- --------------------------
Harry S. Ellman
/s/ William B. Bortels Director February 12, 1997
- --------------------------
William B. Bortels
</TABLE>
II-4
<PAGE>
Exhibit 3.1
RESTATED ARTICLES OF INCORPORATION
OF
FLAGSTAR BANCORP, INC.
Flagstar Bancorp, Inc., a corporation organized and existing under the
laws of the State of Michigan (the "Corporation"), hereby certifies as follows:
1. The name of the Corporation is Flagstar Bancorp, Inc. The
Corporation was originally incorporated under the name "FSSB Holding
Corporation", and the date of filing of its original Articles of Incorporation
was October 28, 1993.
2. These Restated Articles of Incorporation were duly adopted by the
Board of Directors of the Corporation in accordance with Section 642 of the
Michigan Business Corporation Act.
3. These Restated Articles of Incorporation only restate and
integrate and do not further amend the provisions of the Articles of
Incorporation of the Corporation as heretofore amended or supplemented, and
there is no material discrepancy between those provisions and the provisions of
these Restated Articles of Incorporation.
4. The Articles of Incorporation of the Corporation are hereby
restated to read as follows:
ARTICLE I
Name
The name of the corporation is Flagstar Bancorp, Inc. (herein the
"Corporation").
ARTICLE II
Purpose
The purpose for which the Corporation is formed is to engage in any
activity within the purposes for which corporations may be formed under the
Michigan Business Corporation Act.
ARTICLE III
Capital Stock
The aggregate number of shares of all classes of capital stock which
the Corporation has authority to issue is 50,000,000, of which 40,000,000 are to
be shares of common stock, $.01 par value per share, and of which 10,000,000 are
to be shares of serial preferred stock, $.01 par value per share. The shares
may be issued by the Corporation from time to time as approved by the board of
directors of the Corporation without the approval of the shareholders except as
otherwise provided in this Article III or the rules of a national securities
exchange if applicable. The consideration for the issuance of the shares shall
be paid to or received by the Corporation in full before their issuance and
shall not be less than the par value per share. The consideration for the
issuance of the shares shall be cash, services rendered, personal property
(tangible or intangible), real property, leases of real property or any
combination of the foregoing. In the absence of actual fraud in the
transaction, the judgment of the board of directors as to the value of such
consideration shall be conclusive. Upon payment of such consideration such
shares shall be deemed to be fully paid and nonassessable. In the case of a
stock dividend, the part of the surplus of the Corporation which is transferred
to stated capital upon the issuance of shares as a stock dividend shall be
deemed to be the consideration for their issuance.
<PAGE>
A description of the different classes and series (if any) of the
Corporation's capital stock, and a statement of the relative powers,
designations, preferences and rights of the shares of each class and series (if
any) of capital stock, and the qualifications, limitations or restrictions
thereof, are as follows:
A. Common Stock. Except as otherwise required by law or provided in these
------------
Articles of Incorporation or in the resolutions of the board of directors
creating any class of preferred stock, the holders of the common stock shall
exclusively possess all voting power. Each holder of shares of common stock
shall be entitled to one vote for each share held by such holder, except as
otherwise expressly set forth in these Articles of Incorporation.
Whenever there shall have been paid, or declared and set aside for payment,
to the holders of the outstanding shares of any class of stock having preference
over the common stock as to the payment of dividends, the full amount of
dividends and sinking fund or retirement fund or other retirement payments, if
any, to which such holders are respectively entitled in preference to the common
stock, then dividends may be paid on the common stock, and on any class or
series of stock entitled to participate therewith as to dividends, out of any
assets legally available for the payment of dividends, but only when and as
declared by the board of directors.
In the event of any liquidation, dissolution or winding up of the
Corporation, after there shall have been paid, or declared and set aside for
payment, to the holders of the outstanding shares of any class having preference
over the common stock in any such event, the full preferential amounts to which
they are respectively entitled, the holders of the common stock and of any class
or series of stock entitled to participate therewith, in whole or in part, as to
distribution of assets shall be entitled, after payment or provision for payment
of all debts and liabilities of the Corporation, to receive the remaining assets
of the Corporation available for distribution, in cash or in kind.
Each share of common stock shall have the same relative powers, preferences
and rights as, and shall be identical in all respects with, all the other shares
of common stock of the Corporation, except as otherwise expressly set forth in
these Articles of Incorporation.
B. Serial Preferred Stock. Except as otherwise provided in these Articles
-----------------------
of Incorporation, the board of directors of the Corporation is authorized, by
resolution or resolutions from time to time adopted, to provide for the issuance
of shares of preferred stock in one or more series and to fix and state the
powers, designations preferences and relative, participating, optional or other
special rights of the shares of each such series, and the qualifications,
limitations or restrictions thereof, including, but not limited to,
determination of any of the following:
(1) the distinctive serial designation for each series and the number of
shares constituting such series;
(2) the dividend rates or the amount of dividends to be paid on the shares
of such series, if any, whether dividends shall be cumulative and, if
so, from which date or dates, the payment date or dates for dividends,
and the participating or other special rights, if any, with respect to
dividends;
(3) the voting rights, full or limited, if any, of the shares of such
series;
(4) whether the shares of such series shall be redeemable and, if so, the
price or prices at which, and the terms and conditions upon which such
shares may be redeemed;
(5) the amount or amounts payable upon the shares of such series in the
event of voluntary or involuntary liquidation, dissolution or winding
up of the Corporation;
(6) whether the shares of such series shall be entitled to the benefits of
a sinking or retirement fund to be applied to the purchase or
redemption of such shares, and, if so entitled, the amount of such
fund and the manner of its application, including the price or prices
at which such shares may be redeemed or purchased through the
application of such fund;
2
<PAGE>
(7) whether the shares of such series shall be convertible into, or
exchangeable for, shares of any other class or classes or any other
series of the same or any other class or classes of stock of the
Corporation and, if so convertible or exchangeable, the conversion
price or prices, or the rate or rates of exchange, and the adjustments
thereof, if any, at which such conversion or exchange may be made, and
any other terms and conditions of such conversion or exchange;
(8) the subscription or purchase price and form of consideration for which
the shares of such series shall be issued;
(9) whether the shares of such series which are redeemed or converted
shall have the status of authorized but unissued shares of serial
preferred stock and whether such shares may be reissued as shares of
the same or any other series of serial preferred stock; and
(10) any other designations, preferences, limitations or rights that are
now or hereafter permitted by applicable law and are not inconsistent
with the provisions of these Articles of Incorporation.
Each share of each series of serial preferred stock shall have the same
relative powers, preferences and rights as, and shall be identical in all
respects with, all the other shares of the Corporation of the same series,
except as otherwise expressly set forth in these Articles of Incorporation.
ARTICLE IV
Registered Office
The address of the registered office of the Corporation is 2600 Telegraph
Road, Bloomfield Hills, Michigan 48302. The name of the Corporation's
registered agent at such address is Albert J. Gladner.
ARTICLE V
Preemptive Rights
No shareholder of the Corporation shall have, as a matter of right, the
preemptive right to purchase or subscribe for shares of any class, now or
hereafter authorized, or to purchase or subscribe for other securities or
obligations convertible into or exchangeable for such shares or which by
warrants or otherwise entitle the holders thereof to subscribe for or purchase
any such shares.
ARTICLE VI
Repurchase of Shares
The Corporation may from time to time, pursuant to authorization by the
board of directors of the Corporation and without action by the shareholders,
purchase or otherwise acquire shares of any class, bonds, debentures, notes,
scrip, warrants, obligations, evidences of indebtedness, or other securities of
the Corporation in such manner, upon such terms, and in such amounts as the
board of directors shall determine; subject, however, to such limitations or
restrictions, if any, as are contained in the express terms of any class of
shares of the Corporation outstanding at the time of the purchase or acquisition
in question or as are imposed by law.
ARTICLE VII
Voting for Directors
There shall be no cumulative voting by shareholders of any class or series
in the election of directors of the Corporation.
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ARTICLE VIII
Notice for Nominations and Proposals
A. Nominations for the election of directors and proposals for any new
business to be taken up at any annual or special meeting of shareholders may be
made by the board of directors of the Corporation or by any shareholder of the
Corporation entitled to vote generally in the election of directors. In order
for a shareholder of the Corporation to make any such nominations and/or
proposals, he shall give notice thereof in writing, delivered or mailed by first
class United States mail, postage prepaid, to the secretary of the Corporation
not fewer than 30 days nor more than 60 days prior to the date of any such
meeting; provided, however, that if notice or public disclosure of the meeting
is effected fewer than 40 days before the date of the meeting, such written
notice shall be delivered or mailed, as prescribed, to the secretary of the
Corporation not later than the close of business on the 10th day following the
day on which notice of the meeting was mailed to shareholders. Each such notice
given by a shareholder with respect to nominations for the election of directors
shall set forth (1) the name, age, business address and, if known, residence
address of each nominee proposed in such notice; (2) the principal occupation or
employment of each such nominee; (3) the number of shares of stock of the
Corporation which are beneficially owned by each such nominee; (4) such other
information as would be required to be included in a proxy statement soliciting
proxies for the election of the proposed nominee pursuant to Regulation 14A of
the Securities Exchange Act of 1934, as amended, including, without limitation,
such person's written consent to being named in the proxy statement as a nominee
and to serving as a director, if elected; and (5) as to the shareholder giving
such notice, (a) his name and address as they appear on the Corporation's books
and (b) the class and number of shares of the Corporation which are beneficially
owned by such shareholder. In addition, the shareholder making such nomination
shall promptly provide any other information reasonably requested by the
Corporation.
B. Each such notice given by a shareholder to the Secretary with respect
to business proposals to be brought before a meeting shall set forth in writing
as to each matter: (i) a brief description of the business desired to be
brought before the meeting and the reasons for conducting such business at the
meeting; (ii) the name and address, as they appear on the Corporation's books,
of the shareholder proposing such business; (iii) the class and number of shares
of the Corporation which are beneficially owned by the shareholder; and (iv) any
material interest of the shareholder in such business. Notwithstanding anything
in these Articles of Incorporation to the contrary, no new business shall be
conducted at the meeting except in accordance with the procedures set forth in
this Article VIII.
C. The chairman of the annual or special meeting of shareholders may, if
the facts warrant, determine and declare to such meeting that a nomination or
proposal was not made in accordance with the foregoing procedure, and, if he
should so determine, he shall so declare to the meeting and the defective
nomination or proposal shall be disregarded and laid over for action at the next
succeeding special or annual meeting of the shareholders taking place 30 days or
more thereafter. This provision shall not require the holding of any adjourned
or special meeting of shareholders for the purpose of considering such defective
nomination or proposal.
ARTICLE IX
Action by Written Consent of Shareholders
Notwithstanding any other provision of these Articles of Incorporation or
the bylaws of the Corporation, no action required to be taken or that may be
taken at any annual or special meeting of shareholders of the Corporation may be
taken without a meeting, and the power of shareholders to consent in writing,
without a meeting, to the taking of any action is specifically denied.
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ARTICLE X
Directors
A. Number; Vacancies. The number of directors of the Corporation shall be
-----------------
such number, not less than seven nor more than eleven (exclusive of directors,
if any, to be elected by holders of preferred stock of the Corporation, voting
separately as a class), as shall be set forth from time to time in the bylaws.
Vacancies in the board of directors of the Corporation, however caused, and
newly created directorships shall be filled by the affirmative vote of a
majority of the directors then in office, whether or not a quorum, and any
director so chosen shall hold office for a term expiring at the annual meeting
of shareholders at which the term of the class to which the director has been
chosen expires and when the director's successor is elected.
B. Classified Board. The board of directors of the Corporation shall be
----------------
divided into three classes, which shall be designated Class I, Class II and
Class III. Such classes shall be as nearly equal in number as the then total
number of directors constituting the entire board of directors shall permit,
with the terms of office of all members of one class expiring each year.
Subject to the provisions of this Article X, should the number of directors not
be equally divisible by three, the excess director or directors shall be
assigned to Classes I or II as follows: (i) if there shall be an excess of one
directorship over a number equally divisible by three, such extra directorship
shall be classified in Class III; and (ii) if there be an excess of two
directorships over a number equally divisible by three, one shall be classified
in Class III and the other in Class II. At the first annual meeting of
shareholders, directors assigned to Class I shall be elected to hold office for
a term expiring at the next succeeding annual meeting, directors assigned to
Class II shall be elected to hold office for a term expiring at the second
succeeding annual meeting, and directors assigned to Class III shall be elected
to hold office for a term expiring at the third succeeding annual meeting. At
each annual meeting of shareholders following the initial meeting, the
successors to the class of directors whose terms expire at such meeting shall be
elected to hold office for a term expiring at the third succeeding annual
meeting. Notwithstanding the foregoing, the director whose term shall expire at
any annual meeting shall continue to serve until such time as his successor
shall have been duly elected and shall have qualified unless his position on the
board of directors shall have been abolished by action taken to reduce the size
of the board of directors prior to said meeting.
Should the number of directors of the Corporation be reduced the
directorship(s) eliminated shall be allocated among classes as appropriate so
that the number of directors in each class is as specified in the immediately
preceding paragraph. The board of directors shall designate, by the name of the
incumbent(s), the position(s) to be abolished. Notwithstanding the foregoing,
no decrease in the number of directors shall have the effect of shortening the
term of any incumbent director. Should the number of directors of the
Corporation be increased, the additional directorships shall be allocated among
classes as appropriate so that the number of directors in each class is as
specified in the immediately preceding paragraph.
Whenever the holders of any one or more series of preferred stock of the
Corporation shall have the right, voting separately as a class, to elect one or
more directors of the Corporation, the board of directors shall consist of said
directors so elected in addition to the number of directors fixed as provided in
this Article X. Notwithstanding the foregoing, and except as otherwise may be
required by law or by the terms and provisions of the preferred stock of the
Corporation, whenever the holders of any one or more series of preferred stock
of the Corporation shall have the right, voting separately as a class, to elect
one or more directors of the Corporation, the terms of the director or directors
elected by such holders shall expire at the next succeeding annual meeting of
shareholders.
ARTICLE XI
Removal of Directors
Notwithstanding any other provision of these Articles of Incorporation or
the bylaws of the Corporation, any director or the entire board of directors of
the Corporation may be removed at any time by the affirmative vote
5
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of the holders of at least 80 percent of the outstanding shares of capital stock
of the Corporation entitled to vote generally in the election of directors
(considered for this purpose as one class) cast at a meeting of the shareholders
called for that purpose. If less than the entire board of directors is to be
removed, no one of the directors may be removed if the votes cast against his or
her removal would be sufficient to elect him or her if then cumulatively voted
at any election of the entire board of directors, or, if there are classes of
directors, at an election of the class of directors of which he or she is a
part. Notwithstanding the foregoing, whenever the holders of any one or more
series of preferred stock of the Corporation shall have the right, voting
separately as a class, to elect one or more directors of the Corporation, the
preceding provisions of this Article XI shall not apply with respect to the
director or directors elected by such holders of preferred stock.
ARTICLE XII
Indemnification
The Corporation shall, to the fullest extent now or hereafter permitted by
the Michigan Business Corporation Act and other applicable law, indemnify any
director, officer, employee or agent of the Corporation who was or is a party to
or threatened to be made a party to any threatened, pending, or completed
action, suit or proceeding, whether civil, criminal, administrative or
investigative and whether formal or informal, including any action by or in the
right of the Corporation, by reason of the fact that such person is or was a
director, officer, employee or agent of the Corporation, or of a subsidiary of
the Corporation, or is or was serving at the request of the Corporation as a
director, officer, partner, trustee, employee or agent of another corporation
partnership, joint venture, trust or other enterprise, whether for profit or
not, against expenses (including attorneys' fees and disbursements), judgments,
penalties, fines and amounts paid in settlement actually and reasonably incurred
by such person in connection with such action, suit or proceeding. At the
discretion of the board of directors, any indemnification hereunder may include
payment by the Corporation of expenses incurred in defending an action, suit or
proceeding in advance of the final disposition of such action, suit or
proceeding if all of the following conditions apply: (a) the person furnishes
the Corporation a written affirmation of his good faith belief that he has met
the applicable standard of conduct set forth in Sections 561 and 562 of the
Michigan Business Corporation Act, (b) the person furnishes the Corporation a
written undertaking to repay the advance if it is ultimately determined that he
did not meet the applicable standard of conduct, and (c) the board of directors
makes a determination that the facts then known to the board would not preclude
indemnification under the Michigan Business Corporation Act. The
indemnification provided for herein shall continue as to a person who has ceased
to be a director, officer, employee or agent of the Corporation. Any
indemnification of a person who was entitled to indemnification after such
person ceased to be a director, officer, employee or agent of the Corporation
shall inure to the benefit of the heirs, personal representatives and
administrators of such person. The indemnification provided by this Article XII
shall not be deemed exclusive of any other rights to which any person may be
entitled under any contract, bylaw, vote of shareholders or disinterested
directors or otherwise, both as to action in an official capacity and as to
action in another capacity while holding office, except to the extent that such
indemnification may be contrary to law. The Corporation may purchase and
maintain insurance to protect itself and any present or former director,
officer, employee or agent or any person who is or was serving at the request of
the Corporation as a director, officer, trustee, employee or agent of another
corporation, partnership, joint venture, trust or other enterprise against
liability asserted against him and incurred by him in any such capacity, whether
or not the Corporation would have the power to indemnify such person against
liability under the Michigan Business Corporation Act.
ARTICLE XIII
Limitation of Directors' Liability
A director of the Corporation shall not be personally liable to the
Corporation or its shareholders for monetary damages for breach of fiduciary
duty as a director, except: (i) for any breach of the director's duty of
loyalty to the Corporation or its shareholders, (ii) for acts or omissions that
are not in good faith or that involve
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intentional misconduct or a knowing violation of law, (iii) for a violation of
Section 551(1) of the Michigan Business Corporation Act, or (iv) for any
transaction from which the director derived any improper personal benefit. If
the Michigan Business Corporation Act or other Michigan law is amended or
enacted after the date of filing of these Articles of Incorporation to further
eliminate or limit the personal liability of directors, then the liability of a
director of the Corporation shall be eliminated or limited to the fullest extent
permitted by the Michigan Business Corporation Act or other Michigan law, as so
amended. Any repeal or modification of this Section XIII by the shareholders of
the Corporation shall not adversely affect any right or protection of a director
of the Corporation existing at the time of such repeal or modification.
ARTICLE XIV
Compromise, Arrangement or Plan of Reorganization
When a compromise or arrangement or a plan of reorganization of the
Corporation is proposed between the Corporation and its creditors or any class
of them or between the Corporation and its shareholders or any class of them, a
court of equity jurisdiction within the State of Michigan, on application of
this Corporation or of a creditor or shareholder thereof, or on application of a
receiver appointed for the Corporation, may order a meeting of the creditors or
class of creditors or of the shareholders or class of shareholders to be
affected by the proposed compromise or arrangement or reorganization, to be
summoned in such manner as the court directs. If a majority in number
representing 3/4 in value of the creditors or class of creditors, or of the
shareholders or class of shareholders to be affected by the proposed compromise
or arrangement or reorganization, agree to a compromise or arrangement or
reorganization of the Corporation as a consequence of the compromise or
arrangement, the compromise or arrangement and the reorganization, if sanctioned
by the court to which the application has been made, shall be binding on all the
creditors or class of creditors, or on all the shareholders or class of
shareholders and also on the Corporation.
ARTICLE XV
Applicability of Chapter 7A of the
Michigan Business Corporation Act
The Corporation shall be governed by Chapter 7A of the Michigan Business
Corporation Act, MCL 450.1775 et seq. If the Michigan Business Corporation Act
-- ----
is amended following the date of filing of the Restated Articles of
Incorporation of the Corporation to repeal Chapter 7A, the Corporation shall be
governed following the date of such repeal by the provisions of Chapter 7A as in
effect on the date of filing of the Restated Articles of Incorporation.
ARTICLE XVI
Applicability of Chapter 7B of the
Michigan Business Corporation Act
The Corporation shall be governed by the provisions of Chapter 7B of the
Michigan Business Corporation Act, MCL 450.1790 et seq. If the Michigan
-- ---
Business Corporation Act is amended following the date of filing of the Restated
Articles of Incorporation of the Corporation to repeal Chapter 7B, the
Corporation shall be governed following the date of such repeal by the
provisions of Chapter 7B as in effect on the date of filing of the Restated
Articles of Incorporation. The Corporation shall have the authority, to the
extent and under the conditions provided in Section 799(1) and (2) of the
Michigan Business Corporation Act to redeem "control shares" acquired in a
"control share acquisition", as such terms are defined in Chapter 7B.
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<PAGE>
ARTICLE XVII
Amendment of Bylaws
In furtherance and not in limitation of the powers conferred by statute,
the board of directors of the Corporation is expressly authorized to adopt,
repeal, alter, amend and rescind the bylaws of the Corporation by a vote of two-
thirds of the board of directors. The bylaws also may be adopted, repealed,
altered, amended or rescinded by the shareholders of the Corporation by the
affirmative vote of the holders of at least 80 percent of the outstanding shares
of capital stock of the Corporation entitled to vote generally in the election
of directors (considered for this purpose as one class) cast at a meeting of the
shareholders called for that purpose (provided that notice of such proposed
adoption, repeal, alteration, amendment or rescission is included in the notice
of such meeting).
ARTICLE XVIII
Amendment of Articles of Incorporation
The Corporation reserves the right to repeal, alter, amend or rescind any
provision contained in these Articles of Incorporation in the manner now or
hereafter prescribed by law, and all rights conferred on shareholders herein are
granted subject to this reservation. Notwithstanding the foregoing, the
provisions set forth in Articles VII, VIII, IX, X, XI, XII, XIV, XV, XVI, XVII
and this Article XVIII may not repealed, altered, amended or rescinded in any
respect unless the same is approved by the affirmative vote of the holders of
not less than 80 percent of the outstanding shares of capital stock of the
Corporation entitled to vote generally in the election of directors (considered
for this purpose as a single class) cast at a meeting of the shareholders called
for that purpose (provided that notice of such proposed repeal, alteration,
amendment or rescission is included in the notice of such meeting); provided
that such repeal, alteration, amendment or rescission may be made by the
affirmative vote of the holders of a majority of the outstanding shares of
capital stock of the Corporation entitled to vote generally in the election of
directors (considered for this purpose as a single class) if the same is first
approved by the vote of the greater of (a) two-thirds of the board of directors
or (b) a majority of the Continuing Directors, as defined below. The term
"Continuing Director" shall mean, for purposes of this Article XVIII, any member
of the board of directors of the Corporation who is both (i) unaffiliated with
any person or entity that proposes a business combination between any affiliate
of such person or entity and the Corporation or any direct or indirect
subsidiary thereof and (ii) was a member of the board of directors before such a
business combination was proposed to the Corporation, and any successor of a
Continuing Director who is recommended to succeed a Continuing Director by a
majority of the Continuing Directors then on the board of directors.
IN WITNESS WHEREOF, the Corporation has caused these Restated Articles of
Incorporation to be signed by its President and attested by its Secretary, this
7th day of February, 1997.
FLAGSTAR BANCORP, INC.
/s/ Thomas J. Hammond
----------------------------
Thomas J. Hammond
President
ATTEST:
/s/ Mary Kay McGuire
- -------------------------
Mary Kay McGuire
Secretary
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Exhibit 3.2
BYLAWS
OF
FLAGSTAR BANCORP, INC.
ARTICLE I
Principal Executive Office
The principal executive office of Flagstar Bancorp, Inc. (the
"Corporation") shall be at 2600 Telegraph Road, Bloomfield Hills, Michigan
48302. The Corporation may also have offices at such other places within or
without the State of Michigan as the board of directors shall from time to time
determine.
ARTICLE II
Shareholders
SECTION 1. Place of Meetings. All annual and special meetings of
-----------------
shareholders shall be held at the principal executive office of the Corporation
or at such other place within or without the State of Michigan as the board of
directors may determine and as designated in the notice of such meeting.
SECTION 2. Annual Meeting. A meeting of the shareholders of the
--------------
Corporation for the election of directors and for the transaction of any other
business of the Corporation shall be held annually on the first Monday in March,
if not a legal holiday, and if a legal holiday, then on the next following which
is not a legal holiday, at noon. If the annual meeting is not held on the day
designated therefor, the meeting shall be held on such other date and at such
time as the board of directors shall determine.
SECTION 3. Special Meetings. Special meetings of the shareholders for any
----------------
purpose or purposes may be called at any time by the chief executive officer of
the Corporation or by the chairman of the board, the president or the secretary
of the Corporation at the direction of the board of directors.
SECTION 4. Conduct of Meetings. Annual and special meetings shall be
-------------------
conducted in accordance with these Bylaws or as otherwise prescribed by the
board of directors. The chairman or the chief executive officer of the
Corporation shall preside at such meetings.
SECTION 5. Notice of Meeting. Written notice stating the place, day and
-----------------
hour of the meeting and the purpose or purposes for which the meeting is called
shall be mailed by the secretary or the officer performing his duties, not less
than ten (10) days nor more than 60 days before the meeting to each shareholder
of record entitled to vote at such meeting. If mailed, such notice shall be
deemed to be delivered when deposited in the United States mail, addressed to
the shareholder at his address as it appears on the stock transfer books or
records of the Corporation as of the record date prescribed in Section 6, with
postage thereon prepaid. If a shareholder be present at a meeting, or in
writing waive notice thereof before or after the meeting, notice of the meeting
to such shareholder shall be unnecessary. When any shareholders' meeting,
either annual or special, is adjourned for 30 days or more, notice of the
adjourned meeting shall be given as in the case of an original meeting. It
shall not be necessary to give any notice of the time and place of any meeting
adjourned for less than 30 days or of the business to be transacted at such
adjourned meeting, other than an announcement at the meeting at which such
adjournment is taken.
SECTION 6. Fixing of Record Date. For the purpose of determining
---------------------
shareholders entitled to notice of or to vote at any meeting of shareholders, or
any adjournment thereof, or shareholders entitled to receive payment of any
dividend, or in order to make a determination of shareholders for any other
proper purpose, the board of
<PAGE>
directors shall fix in advance a date as the record date for any such
determination of shareholders. Such date in any case shall be not more
than 60 days, and in case of a meeting of shareholders, not less than
ten (10) days prior to the date on which the particular action, requiring such
determination of shareholders, is to be taken. When a determination of
shareholders entitled to vote at any meeting of shareholders has been made as
provided in this section, such determination shall apply to any adjournment
thereof.
SECTION 7. Voting Lists. The officer or agent having charge of the stock
------------
transfer books for shares of the Corporation shall make, at least ten (10) days
before each meeting of shareholders, a complete record of the shareholders
entitled to vote at such meeting or any adjournment thereof, with the address of
and the number of shares held by each. The record shall be produced and kept
open at the time and place of the meeting and shall be subject to the inspection
of any shareholder of the Corporation during the whole time of the meeting. The
record of shareholders shall be prima facie evidence as to who are the
shareholders entitled to examine such record or transfer books or to vote at any
meeting of shareholders.
SECTION 8. Quorum. A majority of the outstanding shares of the
------
Corporation entitled to vote, represented in person or by proxy, shall
constitute a quorum at a meeting of shareholders. If less than a majority of
the outstanding shares are represented at a meeting, a majority of the shares so
represented may adjourn the meeting from time to time without further notice.
At such adjourned meeting at which a quorum shall be present or represented, any
business may be transacted which might have been transacted at the meeting as
originally notified. The shareholders present at a duly organized meeting may
continue to transact business until adjournment, notwithstanding the withdrawal
of enough shareholders to leave less than a quorum.
SECTION 9. Proxies. At all meetings of shareholders, a shareholder may
-------
vote by proxy executed in writing by the shareholder or by his duly authorized
attorney in fact. Proxies solicited on behalf of the management shall be voted
as directed by the shareholder or, in the absence of such direction, as
determined by a majority of the board of directors. No proxy shall be valid
after three (3) years from the date of its execution unless otherwise provided
in the proxy.
SECTION 10. Voting. At each election of directors every shareholder
------
entitled to vote at such election shall be entitled to one vote for each share
of stock held. Unless otherwise provided by the Corporation's Articles of
Incorporation, by statute, or by these Bylaws, a majority of those votes cast by
shareholders at a lawful meeting shall be sufficient to pass on a transaction or
matter, except in the election of directors, which election shall be determined
by a plurality of the votes of the shares present in person or by proxy at the
meeting and entitled to vote on the election of directors.
SECTION 11. Voting of Shares in the Name of Two or More Persons. When
---------------------------------------------------
ownership of stock stands in the name of two or more persons, in the absence of
written directions to the Corporation to the contrary, at any meeting of the
shareholders of the Corporation any one or more of such shareholders may cast,
in person or by proxy, all votes to which such ownership is entitled. In the
event an attempt is made to cast conflicting votes, in person or by proxy, by
the several persons in whose name shares of stock stand, the vote or votes to
which these persons are entitled shall be cast as directed by a majority of
those holding such stock and present in person or by proxy at such meeting, but
no votes shall be cast for such stock if a majority cannot agree.
SECTION 12. Voting of Shares by Certain Holders. Shares standing in the
-----------------------------------
name of another corporation may be voted by any officer, agent or proxy as the
bylaws of such corporation may prescribe, or, in the absence of such provision,
as the board of directors of such corporation may determine. Shares held by an
administrator, executor, guardian or conservator may be voted by him, either in
person or by proxy, without a transfer of such shares into his name. Shares
standing in the name of a trustee may be voted by him, either in person or by
proxy, but no trustee shall be entitled to vote shares held by him without a
transfer of such shares into his name. Shares standing in the name of a
receiver may be voted by such receiver, and shares held by or under the control
of a receiver may be voted by such receiver without the transfer thereof into
his name if authority to do so is contained in an appropriate order of the court
or other public authority by which such receiver was appointed.
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A shareholder whose shares are pledged shall be entitled to vote such
shares until the shares have been transferred into the name of the pledgee and
thereafter the pledgee shall be entitled to vote the shares so transferred.
Neither treasury shares of its own stock held by the Corporation, nor
shares held by another corporation, if a majority of the shares entitled to vote
for the election of directors of such other corporation are held by the
Corporation, shall be voted at any meeting or counted in determining the total
number of outstanding shares at any given time for purposes of any meeting.
SECTION 13. Inspectors of Election. In advance of any meeting of
----------------------
shareholders, the board of directors may appoint any persons, other than
nominees for office, as inspectors of election to act at such meeting or any
adjournment thereof. The number of inspectors shall be either one or three. If
the board of directors so appoints either one or three inspectors, that
appointment shall not be altered at the meeting. If inspectors of election are
not so appointed, the chairman of the board may make such appointment at the
meeting. In case any person appointed as inspector fails to appear or fails or
refuses to act, the vacancy may be filled by appointment in advance of the
meeting or at the meeting by the chairman of the board or the president.
Unless otherwise prescribed by applicable law, the duties of such
inspectors shall include: determining the number of shares of stock and the
voting power of each share, the shares of stock represented at the meeting, the
existence of a quorum, the authenticity, validity and effect of proxies;
receiving votes, ballots or consents; hearing and determining all challenges and
questions in any way arising in connection with the right to vote; counting and
tabulating all votes or consents; determining the result; and such acts as may
be proper to conduct the election or vote with fairness to all shareholders.
SECTION 14. Nominating Committee. The board of directors or a committee
--------------------
appointed by the board of directors shall act as a nominating committee for
selecting the management nominees for election as directors. Except in the case
of a nominee substituted as a result of the death or other incapacity of a
management nominee, the nominating committee shall deliver written nominations
to the secretary at least 20 days prior to the date of the annual meeting.
Provided such committee makes such nominations, no nominations for directors
except those made by the nominating committee shall be voted upon at the annual
meeting unless other nominations by shareholders are made in writing and
delivered to the secretary of the Corporation in accordance with the provisions
of the Corporation's Articles of Incorporation.
SECTION 15. New Business. Any new business to be taken up at the annual
------------
meeting shall be stated in writing and filed with the secretary of the
Corporation in accordance with the provisions of the Corporation's Articles of
Incorporation. This provision shall not prevent the consideration and approval
or disapproval at the annual meeting of reports of officers, directors and
committees, but in connection with such reports no new business shall be acted
upon at such annual meeting unless stated and filed as provided in the
Corporation's Articles of Incorporation.
ARTICLE III
Board of Directors
SECTION 1. General Powers. The business and affairs of the Corporation
--------------
shall be under the direction of its board of directors. The chairman shall
preside at all meetings of the board of directors.
SECTION 2. Number, Term and Election. The board of directors shall
-------------------------
consist of nine (9) members and shall be divided into three classes as nearly
equal in number as possible. The members of each class shall be elected for a
term of three (3) years and until their successors are elected or qualified.
The board of directors shall be classified in accordance with the provisions of
the Corporation's Articles of Incorporation.
3
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SECTION 3. Regular Meetings. A regular meeting of the board of directors
----------------
shall be held at such time and place as shall be determined by resolution of the
board of directors without other notice than such resolution.
SECTION 4. Special Meetings. Special meetings of the board of directors
----------------
may be called by or at the request of the chairman, the chief executive officer
or one-third of the directors. The person calling the special meetings of the
board of directors may fix any place as the place for holding any special
meeting of the board of directors called by such persons.
Members of the board of directors may participate in special meetings by
means of conference telephone or similar communications equipment by which all
persons participating in the meeting can hear each other. Such participation
shall constitute presence in person.
SECTION 5. Notice. Written notice of any special meeting shall be given
------
to each director at least 24 hours previous thereto. Any director may waive
notice of any meeting by a writing filed with the secretary. The attendance of
a director at a meeting shall constitute a waiver of notice of such meeting,
except where a director attends a meeting for the express purpose of objecting
to the transaction of any business because the meeting is not lawfully called or
convened. Neither the business to be transacted at, nor the purpose of, any
meeting of the board of directors need be specified in the notice or waiver of
notice of such meeting.
SECTION 6. Quorum. A majority of the number of directors fixed by Section
------
2 of this Article III shall constitute a quorum for the transaction of business
at any meeting of the board of directors, but if less than such majority is
present at a meeting, a majority of the directors present may adjourn the
meeting from time to time. Notice of any adjourned meeting shall be given in
the same manner as prescribed by Section 5 of this Article III.
SECTION 7. Manner of Acting. The act of the majority of the directors
----------------
present at a meeting at which a quorum is present shall be the act of the board
of directors, unless a greater number is prescribed by these Bylaws, the
Corporation's Articles of Incorporation, or the Michigan Business Corporation
Act.
SECTION 8. Action Without a Meeting. Any action required or permitted to
------------------------
be taken by the board of directors at a meeting may be taken without a meeting
if a consent in writing, setting forth the action so taken, shall be signed by
all of the directors.
SECTION 9. Resignation. Any director may resign at any time by sending a
-----------
written notice of such resignation to the home office of the Corporation
addressed to the chairman of the board or the president. Unless otherwise
specified therein such resignation shall take effect upon receipt thereof by the
chairman of the board or the president.
SECTION 10. Vacancies. Any vacancy occurring in the board of directors
---------
shall be filled in accordance with the provisions of the Corporation's Articles
of Incorporation. Any directorship to be filled by reason of an increase in the
number of directors may be filled by the affirmative vote of a majority of the
directors then in office or by election at an annual meeting or at a special
meeting of the shareholders held for that purpose. The term of such director
shall be in accordance with the provisions of the Corporation's Articles of
Incorporation.
SECTION 11. Compensation. Directors, as such, may receive such
------------
compensation for service on the board of directors as the board may determine.
Members of either standing or special committees may be allowed such
compensation as the board of directors may determine.
SECTION 12. Removal of Directors. Any director or the entire board of
--------------------
directors may be removed only in accordance with the provisions of the
Corporation's Articles of Incorporation.
4
<PAGE>
ARTICLE IV
Committees of the Board of Directors
The board of directors may, by resolution passed by a majority of the whole
board, designate one or more committees, as they may determine to be necessary
or appropriate for the conduct of the business of the Corporation, and may
prescribe the duties, constitution and procedures thereof. Each committee shall
consist of one or more directors of the Corporation appointed by a majority of
the whole board. The board may designate one or more directors as alternate
members of any committee, who may replace any absent or disqualified member at
any meeting of the committee.
The board shall have power at any time to change the members of, to fill
vacancies in, and to discharge any committee of the board. Any member of any
such committee may resign at any time by giving notice to the Corporation;
provided, however, that notice to the board, the chairman of the board, the
chief executive officer, the chairman of such committee, or the secretary shall
be deemed to constitute notice to the Corporation. Such resignation shall take
effect upon receipt of such notice or at any later time specified therein; and,
unless otherwise specified therein, acceptance of such resignation shall not be
necessary to make it effective. Any member of any such committee may be removed
at any time, either with or without cause, by the affirmative vote of a majority
of the authorized number of directors at any meeting of the board called for
that purpose.
ARTICLE V
Officers
SECTION 1. Positions. The officers of the Corporation shall be a
---------
president, one or more vice presidents, a secretary and a treasurer, each of
whom shall be elected by the board of directors. The board of directors may
also designate the chairman of the board as an officer. The board of directors
may designate one or more vice presidents as senior executive vice president,
executive vice president, first vice president, senior vice president or
assistant vice president. The board of directors may also elect or authorize
the appointment of such other officers as the business of the Corporation may
require. The officers shall have such authority and perform such duties as the
board of directors may from time to time authorize or determine. In the absence
of action by the board of directors, the officers shall have such powers and
duties as generally pertain to their respective offices.
SECTION 2. Election and Term of Office. The officers of the Corporation
---------------------------
shall be elected annually by the board of directors at the first meeting of the
board of directors held after each annual meeting of the shareholders. If the
election of officers is not held at such meeting, such election shall be held as
soon thereafter as possible. Each officer shall hold office until his successor
shall have been duly elected and qualified or until his death or until he shall
resign or shall have been removed in the manner hereinafter provided. Election
or appointment of an officer, employee or agent shall not of itself create
contract rights. The board of directors may authorize the Corporation to enter
into an employment contract with any officer in accordance with state law; but
no such contract shall impair the right of the board of directors to remove any
officer at any time in accordance with Section 3 of this Article V.
SECTION 3. Vacancies. A vacancy in any office because of death,
---------
resignation, removal, disqualification or otherwise, may be filled by the board
of directors for the unexpired portion of the term.
SECTION 4. Remuneration. The remuneration of the officers shall be fixed
------------
from time to time by the board of directors.
5
<PAGE>
ARTICLE VI
Contracts, Loans, Checks and Deposits
SECTION 1. Contracts. To the extent permitted by applicable law, and
---------
except as otherwise prescribed by the Corporation's Articles of Incorporation or
these Bylaws with respect to certificates for shares, the board of directors or
the executive committee may authorize any officer, employee, or agent of the
Corporation to enter into any contract or execute and deliver any instrument in
the name of and on behalf of the Corporation. Such authority may be general or
confined to specific instances.
SECTION 2. Loans. No loans shall be contracted on behalf of the
-----
Corporation and no evidence of indebtedness shall be issued in its name unless
authorized by the board of directors. Such authority may be general or confined
to specific instances.
SECTION 3. Checks, Drafts, Etc. All checks, drafts or other orders for
--------------------
the payment of money, notes or other evidences of indebtedness issued in the
name of the Corporation shall be signed by one or more officers, employees or
agents of the Corporation in such manner, including in facsimile form, as shall
from time to time be determined by resolution of the board of directors.
SECTION 4. Deposits. All funds of the Corporation not otherwise employed
--------
shall be deposited from time to time to the credit of the Corporation in any of
its duly authorized depositories as the board of directors may select.
ARTICLE VII
Certificates for Shares and Their Transfer
SECTION 1. Certificates for Shares. The shares of the Corporation shall
-----------------------
be represented by certificates signed by the chairman of the board, a vice-
chairman of the board, the president or a vice president and by any other
officer of the Corporation, and may be sealed with the seal of the Corporation
or a facsimile thereof. Any or all of the signatures upon a certificate may be
facsimiles if the certificate is countersigned by a transfer agent, or
registered by a registrar, other than the Corporation itself or an employee of
the Corporation. If any officer who has signed or whose facsimile signature has
been placed upon such certificate shall have ceased to be such officer before
the certificate is issued, it may be issued by the Corporation with the same
effect as if he were such officer at the date of its issue.
SECTION 2. Form of Share Certificates. All certificates representing
--------------------------
shares issued by the Corporation shall set forth upon the face or back that the
Corporation will furnish to any shareholder upon request and without charge a
full statement of the designations, preferences, limitations, and relative
rights of the shares of each class authorized to be issued, the variations in
the relative rights, preferences and limitations between the shares of each such
series so far as the same have been fixed and determined, and the authority of
the board of directors to designate and prescribe the relative rights,
preferences and limitations of subsequent series.
Each certificate representing shares shall state upon its face: That the
Corporation is organized under the laws of the State of Michigan; the name of
the person to whom issued; and the number and class of shares, and the
designation of the series, if any, which such certificate represents. Other
matters in regard to the form of the certificates shall be determined by the
board of directors.
SECTION 3. Payment for Shares. No certificate shall be issued for any
------------------
share until such share is fully paid.
SECTION 4. Form of Payment for Shares. The consideration for the issuance
--------------------------
of shares shall be paid in accordance with the provisions of the Corporation's
Articles of Incorporation.
6
<PAGE>
SECTION 5. Transfer of Shares. Transfer of shares of capital stock of the
------------------
Corporation shall be made only on its stock transfer books. Authority for such
transfer shall be given only the holder of record thereof or by his legal
representative, who shall furnish proper evidence of such authority, or by his
attorney thereunto authorized by power of attorney duly executed and filed with
the Corporation. Such transfer shall be made only on surrender for cancellation
of the certificate for such shares. The person in whose name shares of capital
stock stand on the books of the Corporation shall be deemed by the Corporation
to be the owner thereof for all purposes.
SECTION 6. Lost Certificates. The board of directors may direct a new
-----------------
certificate to be issued in place of any certificate theretofore issued by the
Corporation alleged to have been lost, stolen, or destroyed, upon the making of
an affidavit of that fact by the person claiming the certificate of stock to be
lost, stolen, or destroyed. When authorizing such issue of a new certificate,
the board of directors may, in its discretion and as a condition precedent to
the issuance thereof, require the owner of such lost, stolen, or destroyed
certificate, or his legal representative, to give the Corporation a bond in such
sum as it may direct as indemnity against any claim that may be made against the
Corporation with respect to the certificate alleged to have been lost, stolen,
or destroyed.
ARTICLE VIII
Fiscal Year
The fiscal year of the Corporation shall end on the last day of December of
each year or on such other date as shall be fixed from time to time by
resolution of the board of directors.
ARTICLE IX
Dividends
Subject to the provisions of the Corporation's Articles of Incorporation
and applicable law, the board of directors may declare dividends upon the stock
of the Corporation at any regular or special meeting. Dividends may be paid in
cash, in property or in the Corporation's own stock.
ARTICLE X
Corporation Seal
The corporate seal of the Corporation shall be in such form as the board of
directors shall prescribe.
ARTICLE XI
Amendments
In accordance with the Corporation's Articles of Incorporation, these
Bylaws may be repealed, altered, amended or rescinded by the shareholders of the
Corporation by the affirmative vote of at least 80 percent of the outstanding
shares of capital stock of the Corporation entitled to vote generally in the
election of directors (considered for this purpose as one class) cast at a
meeting of the shareholders called for that purpose (provided that notice of
such proposed repeal, alteration, amendment or rescission is included in the
notice of such meeting). In addition, the board of directors may repeal, alter,
amend or rescind these Bylaws by vote of two-thirds of the board of directors at
a legal meeting held in accordance with the provisions of these Bylaws.
7
<PAGE>
Exhibit 4
FLAGSTAR BANCORP, INC.
Number SHARES
--------- -------
ORGANIZED UNDER THE LAWS OF THE STATE OF MICHIGAN
COMMON STOCK CUSIP
$.01 PAR VALUE --------
THIS CERTIFIES THAT_____________________________________________________________
is the owner of _____________ fully paid and nonassessable shares of the common
stock of FLAGSTAR BANCORP, INC. (the "Corporation"), a corporation formed under
the laws of the State of Michigan.
The shares represented by this Certificate are transferable only on the
books of the Corporation by the holder of record thereof, in person or by his or
her duly authorized attorney or legal representative, upon surrender of this
Certificate properly endorsed.
The capital stock evidenced by this Certificate is not an account of an
insurable type and is not insured by the Savings Association Insurance Fund
administered by the Federal Deposit Insurance Corporation. This Certificate is
not valid until countersigned and registered by the Corporation's Transfer Agent
and Registrar.
IN WITNESS WHEREOF, the Corporation has caused this Certificate to be executed
by the facsimile signatures of its duly authorized officers.
DATED:
------------------
By: By:
--------------------- --------------------------
Mary Kay McGuire Mark T. Hammond
Corporate Secretary President
<PAGE>
FLAGSTAR BANCORP, INC.
The shares represented by this Certificate are issued subject to all the
provisions of the Articles of Incorporation and Bylaws of the Corporation as
from time to time amended (copies of which are on file at the principal
executive offices of the Corporation), to all of which the holder by acceptance
hereof assents.
The Corporation will furnish to any stockholder upon request and without
charge a full statement of the powers, designations, preferences and relative,
participating, optional or other special rights of each authorized class of
stock or series thereof and the qualifications, limitations or restrictions of
such preferences and/or rights, to the extent that the same have been fixed, and
of the authority of the board of directors to designate the same with respect
to other series. Such request may be made in writing to the Secretary of the
Corporation.
The following abbreviations, when used in the inscription on the face of
this Certificate, shall be construed as though they were written out in full
according to applicable laws or regulations;
<TABLE>
<S> <C> <C> <C>
TEN COM - as tenants in common UNIF GIFT MIN ACT -- ..........Custodian..........
TEN ENT - as tenants by the entireties (Cust) (Minor)
JT TEN - as joint tenants with right of under Uniform Gifts to Minors
survivorship and not as Act .........................
tenants in common (State)
UNIF TRANS MIN ACT -- ..........Custodian..........
(Cust) (Minor)
under Uniform Transfers to
Minors Act ..................
(State)
</TABLE>
Additional abbreviations may also be used though not in the above list.
For value received, ____________________________________________________
hereby sell, assign and transfer unto
PLEASE INSERT SOCIAL SECURITY OR OTHER IDENTIFYING NUMBER OF ASSIGNEE __________
________________________________________________________________________________
(PLEASE PRINT OR TYPEWRITE NAME AND ADDRESS, INCLUDING ZIP CODE, OF ASSIGNEE)
________________________________________________________________________________
________________________________________________________________________________
________________ Shares of the common stock evidenced by this Certificate, and
do hereby irrevocably constitute and appoint ___________________________________
Attorney, to transfer the said shares on the books of the Corporation, with full
power of substitution in the premises.
Dated __________________________ _______________________________
Signature
_______________________________
Signature
NOTICE: THE SIGNATURE(S) TO THIS ASSIGNMENT MUST
CORRESPOND WITH THE NAME OF THE STOCKHOLDER(S) AS
WRITTEN UPON THE FACE OF THE CERTIFICATE IN EVERY
PARTICULAR, WITHOUT ALTERATION OR ENLARGEMENT OR
ANY CHANGE WHATEVER.
SIGNATURE(S) GUARANTEED: ________________________________________________
The signature(s) should be guaranteed by an
eligible guarantor institution (banks, stock-
brokers, savings and loan associations and
credit unions with membership in an approved
signature guarantee medallion program), pursuant
to SEC Rule 17Ad-15.
<PAGE>
Exhibit 5
[LETTERHEAD OF REINHART, BOERNER, VAN DEUREN, NORRIS & RIESELBACH, P.C.]
February 12, 1997
Board of Directors
Flagstar Bancorp, Inc.
2600 Telegraph Road
Bloomfield Hills, Michigan 48302-0953
Ladies and Gentlemen: Re: Registration Statement on Form S-1
You have requested our opinion as special counsel to Flagstar Bancorp,
Inc. (the "Company") in connection with the Registration Statement on Form S-1
to be filed with the Securities and Exchange Commission under the Securities Act
of 1933, as amended (the "Registration Statement"). The Registration Statement
relates to the initial public offering by the Company of its shares of common
stock (the "Common Stock").
In rendering this opinion, we understand that the Common Stock will be
offered and sold in the manner described in the Prospectus, which is a part of
the Registration Statement. We have examined such records and documents and
made such examination as we have deemed relevant in connection with this
opinion.
Based upon the foregoing, it is our opinion that the shares of Common
Stock will, when issued and sold as contemplated by the Registration Statement,
be legally issued, fully paid and nonassessable.
We hereby consent to the filing of this opinion as an exhibit to the
Registration Statement and to the reference to us in the Prospectus under the
heading "Legal Matters."
Very truly yours,
REINHART, BOERNER, VAN DEUREN,
NORRIS & RIESELBACH, P.C.
BY: /s/ Matthew G. Ash
-------------------
Matthew G. Ash
<PAGE>
EXHIBIT 21
----------
Subsidiaries of the Registrant
Parent
- ------
Flagstar Bancorp, Inc.
<TABLE>
<CAPTION>
State or Other
Jurisdiction of Percentage
Subsidiaries Incorporation Ownership
- ------------ ------------- ---------
<S> <C> <C>
Flagstar Bank, FSB United States 100%
Douglas Insurance Agency, Inc. Michigan 100%
FSSB Real Estate Development Corporation Michigan 100%
Mortgage Video Network, Inc. Michigan 100%
First Security Investment Group, Inc. Michigan 100%
Subsidiaries of Flagstar Bank, FSB
- ----------------------------------
FSSB Mortgage Corporation Michigan 100%
Boston Credit Corporation Michigan 100%
Mortgage Affiliated Services, Inc. Michigan 100%
Mid-Michigan Service Corporation Michigan 100%
SSB Funding Corporation Michigan 100%
</TABLE>
<PAGE>
Exhibit 23.1
Consent of Independent Certified Public Accountants
We have issued our report dated March 27, 1996 (except for note 20, as to which
the date is January 16, 1997), accompanying the consolidated financial
statements of Flagstar Bancorp, Inc. contained in the Registration Statement and
Prospectus. We consent to the use of the aforementioned report in the
Registration Statement and Prospectus, and to the use of our name as it appears
under the caption "Experts".
/s/ Grant Thornton LLP
Detroit, Michigan
February 12, 1997
<PAGE>
Exhibit 23.3
February 12, 1997
Board of Directors
Flagstar Bancorp, Inc.
2600 Telegraph Road
Bloomfield Hills, Michigan 48302-0968
Ladies and Gentlemen:
I hereby consent to the reference to the undersigned in the
Prospectus, which is a part of the Registration Statement on Form S-1, under the
heading "Legal Matters."
Very truly yours,
/s/ Albert J. Gladner
---------------------------
Albert J. Gladner
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<LEGEND>
This schedule contains summary financial information extracted from Flagstar
Bancorp, Inc. and Subsidiaries as of and for the Nine months ended September 30,
1996 and the year ended December 31, 1995 and is qualified in its entirety by
reference to such financial statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C> <C>
<PERIOD-TYPE> 9-MOS 12-MOS
<FISCAL-YEAR-END> DEC-31-1996 DEC-31-1995
<PERIOD-START> JAN-01-1996 JAN-01-1995
<PERIOD-END> SEP-30-1996 DEC-31-1995
<CASH> 29,374 29,119
<INT-BEARING-DEPOSITS> 0 0
<FED-FUNDS-SOLD> 0 0
<TRADING-ASSETS> 0 0
<INVESTMENTS-HELD-FOR-SALE> 0 0
<INVESTMENTS-CARRYING> 0 0
<INVESTMENTS-MARKET> 0 0
<LOANS> 906,749 926,035
<ALLOWANCE> 3,026 2,102
<TOTAL-ASSETS> 1,069,534 1,045,094
<DEPOSITS> 576,914 526,974
<SHORT-TERM> 199,856 191,156
<LIABILITIES-OTHER> 219,979 264,519
<LONG-TERM> 0 0
0 0
0 0
<COMMON> 112 112
<OTHER-SE> 72,673 62,333
<TOTAL-LIABILITIES-AND-EQUITY> 1,069,534 1,045,094
<INTEREST-LOAN> 56,430 69,543
<INTEREST-INVEST> 0 0
<INTEREST-OTHER> 1,249 1,761
<INTEREST-TOTAL> 57,679 71,304
<INTEREST-DEPOSIT> 22,074 25,123
<INTEREST-EXPENSE> 12,047 16,320
<INTEREST-INCOME-NET> 23,558 29,861
<LOAN-LOSSES> 1,140 238
<SECURITIES-GAINS> 0 0
<EXPENSE-OTHER> 46,494 41,716
<INCOME-PRETAX> 17,758 24,895
<INCOME-PRE-EXTRAORDINARY> 11,340 15,476
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> 11,340 15,476
<EPS-PRIMARY> 1.01 1.37
<EPS-DILUTED> 1.01 1.37
<YIELD-ACTUAL> .032 .035
<LOANS-NON> 31,651 10,686
<LOANS-PAST> 0 0
<LOANS-TROUBLED> 0 0
<LOANS-PROBLEM> 0 0
<ALLOWANCE-OPEN> 2,102 1,871
<CHARGE-OFFS> 216 7
<RECOVERIES> 0 0
<ALLOWANCE-CLOSE> 3,026 2,102
<ALLOWANCE-DOMESTIC> 1,718 1,434
<ALLOWANCE-FOREIGN> 0 0
<ALLOWANCE-UNALLOCATED> 1,308 668
</TABLE>
