<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OF THE SECURITIES EXCHANGE ACT OF
1934 FOR THE QUARTER ENDED JUNE 30, 1998
SEC Exchange Act No. 000-23601
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Pathfinder Bancorp, Inc.
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(Exact name of bank as specified in its charter)
New York
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(State or jurisdiction of incorporation or organization)
16-1540137
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(I.R.S. Employer Identification Number)
214 W. 1st Street
Oswego, New York 13126
------------------------------------- --------
(Address of principal executive office) (Zip Code)
Bank's telephone number, including area code: (315) 343-0057
--------------
Not Applicable
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(Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the Bank (1) has filed all reports required
to be filed by Section 13 of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the Registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes No
---- ----
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date: There were 2,874,999
shares of the Company's common stock outstanding as of August 10, 1998.
<PAGE>
OSWEGO CITY SAVINGS BANK
INDEX
PART 1 FINANCIAL INFORMATION PAGE
Item 1. Financial Statements
. Consolidated Balance Sheets 1
. Consolidated Statements of Income 2
. Consolidated Statements of Shareholders' Equity 3
. Consolidated Statements of Cash Flows 4, 5
. Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial 7 - 15
Condition and Results of Operations
PART II OTHER INFORMATION 16
SIGNATURES
<PAGE>
PATHFINDER BANCORP, INC.
CONSOLIDATED STATEMENTS OF CONDITION
June 30, 1998 (unaudited) and December 31, 1997
<TABLE>
<CAPTION>
June 30, December 31,
1998 1997
---------- ------------
ASSETS
------
<S> <C> <C>
Cash and due from banks $4,520,170 $4,334,072
Federal funds sold 1,300,000 --
------------ ------------
Total cash and cash equivalents 5,820,170 4,334,072
Investment securities 47,037,418 56,821,317
Mortgage loans held-for-sale 6,657,825 1,547,354
Loans:
Real Estate 113,292,320 110,416,494
Consumer and other 11,099,895 10,763,277
------------ ------------
Total loans 124,392,215 121,179,771
Less: Allowance for loan losses 824,161 827,521
Unearned discounts and origination fees 240,103 314,322
------------ ------------
Loans Receivable, net 123,327,951 120,037,928
Premises and equipment 4,085,244 3,720,270
Accrued interest receivable 1,405,298 1,443,175
Other real estate 1,139,517 766,619
Intangible assets 3,446,998 3,604,876
Other assets 5,170,889 4,494,775
------------ ------------
$198,091,310 $196,770,386
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
- ------------------------------------
Deposits:
Interest bearing $148,146,979 $144,754,879
Non-interest bearing 9,251,951 7,644,262
------------ ------------
Total deposits 157,398,930 152,399,141
Borrowed funds 14,600,000 18,242,000
Note payable - ESPOP 402,226 430,126
Other liabilities 2,145,835 2,116,384
------------ ------------
Total liabilities 174,546,991 173,187,651
Shareholders' equity: (1)
Common stock, par value $.10 per share; authorized
9,900,000 shares; 2,874,999 shares issued
and outstanding 287,500 287,500
Additional paid in capital 7,568,675 7,643,084
Retained earnings 17,625,300 17,156,415
Unearned stock based compensation (1,634,326) (1,836,250)
Unearned ESOP shares (378,988) (411,050)
Accumulated other comprehensive income 874,482 743,036
Treasury stock, at cost; 43,625 shares (798,324) ---
------------ ------------
Total shareholders' equity 23,544,319 23,582,735
------------ ------------
$198,091,310 $196,770,386
============ ============
</TABLE>
(1) December 31, 1997 amounts reflect impact of reorganization for Pathfinder
Bancorp, Inc. and the retroactive effect of the 3 for 2 split declared on
January 13, 1998 and paid on February 5, 1998
The accompanying notes are an integral part of the financial statements
1
<PAGE>
PATHFINDER BANCORP, INC.
CONSOLIDATED STATEMENTS OF INCOME
For the three months and six months ended
June 30, 1998 and June 30, 1997
(unaudited)
<TABLE>
<CAPTION>
For the three months ended For the six months ended
--------------------------- ---------------------------
June 30, June 30, June 30, June 30,
1998 1997 1998 1997
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
INTEREST INCOME:
Loans $2,761,930 $2,448,881 $5,438,051 $4,898,913
Interest and dividends on investments:
U.S. Treasury and agencies 60,624 104,422 136,683 208,045
State and political subdivisions 88,001 93,472 178,999 182,191
Corporate 275,385 377,538 572,878 759,634
Marketable equity securities 23,716 16,470 49,285 21,820
Mortgage-backed 341,066 389,630 712,244 775,354
Federal funds sold and interest-bearing
deposits 25,269 68,752 37,375 125,760
---------- ---------- ---------- ----------
Total interest income 3,575,991 3,499,165 7,125,515 6,971,717
INTEREST EXPENSE:
Interest on deposits 1,541,859 1,572,159 3,070,725 3,141,541
Interest on borrowed funds 226,461 111,929 480,736 224,804
---------- ---------- ---------- ----------
Total interest expense 1,768,320 1,684,088 3,551,461 3,366,345
---------- ---------- ---------- ----------
Net interest income 1,807,671 1,815,077 3,574,054 3,605,372
Provision for loan losses 65,243 65,880 140,541 127,351
---------- ---------- ---------- ----------
Net interest income after provision for
loan losses 1,742,428 1,749,197 3,433,513 3,478,021
---------- ---------- ---------- ----------
OTHER INCOME:
Service charges on deposit accounts 127,278 128,130 239,232 250,632
Mortgage servicing fees 11,422 11,579 23,997 23,139
Net securities gains 41,206 172,053 270,045 172,053
Other charges, commission and fees 105,957 171,796 177,302 272,856
---------- ---------- ---------- ----------
Total other income 285,863 483,558 710,576 718,680
---------- ---------- ---------- ----------
OTHER EXPENSES:
Salaries and employee benefits (a) 743,349 610,420 1,526,665 1,229,020
Building occupancy 159,678 158,078 321,494 338,567
Data processing expenses 111,682 94,944 224,959 180,136
Professional and other services 197,870 152,288 318,368 263,312
Deposit insurance premiums 7,732 9,237 20,046 17,618
Amortization of intangible asset (b) 78,939 78,939 157,878 157,878
Other expenses 241,990 216,420 524,711 406,991
---------- ---------- ---------- ----------
Total other expenses 1,541,240 1,320,326 3,094,121 2,593,522
---------- ---------- ---------- ----------
Income before income taxes 487,051 912,429 1,049,968 1,603,179
Provision for income taxes (c) 135,614 270,515 304,490 465,965
---------- ---------- ---------- ----------
Net income $ 351,437 $ 641,914 $ 745,478 $1,137,214
---------- ---------- ---------- ----------
Other comprehensive income, net of tax:
Unrealized gains on securities: 87,118 379,632 160,067 35,751
Unrealized holding gains arising during
period
Less: reclassification adjustment for gains included
in net income (28,621)
---------- ---------- ---------- ----------
Comprehensive income $ 438,555 $1,021,546 $ 876,924 $1,172,965
========== ========== ========== ==========
Earnings per share - basic $ .13 $ .23 $ .27 $ .41
========== ========== ========== ==========
Earnings per share - diluted $ .12 $ .23 $ .26 $ .41
========== ========== ========== ==========
</TABLE>
(a) includes non-cash expenses for stock based compensation plans of $244,000
and $103,000 for the three month period ended June 30, 1998 and 1997,
respectively, and $478,000 and $204,000 for the six month period ended June
30, 1998 and 1997, respectively.
(b) represents the non-cash amortization of premium paid on deposits acquired
(c) includes the tax benefit associated with the realization of non-cash
expenses of $73,000 and $31,000 for the three month period ended June 30,
1998 and 1997, respectively, and $143,000 and $61,000 for the six month
period ended June 30, 1998 and 1997, respectively.
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<PAGE>
PATHFINDER BANCORP, INC.
STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
SIX MONTHS ENDED JUNE 30, 1998
(unaudited)
<TABLE>
<CAPTION>
Accum.
Common Stock Add't Unearned Other Unearned
--------------------- Paid in Retained Stock-Based Compr. ESOP Treasury
Shares Amount Capital Earnings Compensation Income Shares Stock
--------- -------- ---------- ----------- ------------ -------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1997 2,874,999 $287,500 $7,643,084 $17,156,415 $(1,836,250) $743,036 $(411,050) $ -
Net Income 745,478
Other comprehensive income,
net of tax Unrealized gains
on securities, net of
reclassification adjustment
Comprehensive income
ESOP shares earned 85,255 32,062
Treasury stock purchased (957,988)
Stock awards granted (159,664) 159,664
Stock based compensation earned 201,924
Change in unrealized net
appreciation on investment
securities
131,446
Dividends declared (276,593)
-------- ---------- ----------- ----------- -------- --------- ---------
Balance, June 30, 1998 2,874,999 $287,500 $7,568,675 $17,625,300 $(1,634,326) $874,482 $(378,988) $(798,324)
========= ======== ========== =========== =========== ======== ========= =========
<CAPTION>
Total
-----------
<S> <C>
Balance, December 31, 1997 $23,582,735
Net Income 745,478
Other comprehensive income,
net of tax Unrealized gains
on securities, net of
reclassification adjustment
Comprehensive income
ESOP shares earned 117,317
Treasury stock purchased (957,988)
Stock awards granted 0
Stock based compensation earned 201,924
Change in unrealized net
appreciation on investment
securities 131,446
Dividends declared (276,593)
-----------
Balance, June 30, 1998 $23,544,319
===========
</TABLE>
The accompanying notes are an integral part of the financial statements
-3-
<PAGE>
PATHFINDER BANCORP, INC.
STATEMENTS OF CASH FLOW
June 30, 1998 and June 30, 1997
(unaudited)
<TABLE>
<CAPTION>
June 30, June 30,
1998 1997
------------ -----------
<S> <C> <C>
OPERATING ACTIVITIES:
Net Income $ 745,478 $ 1,137,215
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for loan, investment and other real estate losses 140,541 127,351
Deferred compensation 97,532 80,706
ESOP and other stock-based compensation earned 319,241 45,689
Deferred income taxes -- (121,286)
Realized (gains) losses on investment securities (270,045) 12,009
Depreciation 106,325 126,281
Amortization of intangibles 157,878 157,878
Net amortization of premiums and discounts on
investment securities 25,526 39,096
Loss on other real estate sale 7,639 --
Decrease (increase) in interest receivable 37,877 (82,936)
Increase in other assets (595,931) (38,301)
Decrease in other liabilities (269,904) (180,113)
----------- -----------
Net cash used in operating activities 502,157 1,298,925
----------- -----------
INVESTING ACTIVITIES:
Purchase of investment securities available for sale (1,734,488) (4,280,146)
Proceeds from maturities and principle reductions of
investment securities held to maturity 2,770,000 200,000
Proceeds from maturities and principle reductions of
investment securities available for sale 8,769,864 3,761,487
Proceeds from sale of investment securities 420,129 547,187
Net increase in loans (9,074,670) (3,060,259)
Purchase of premises and equipment (471,299) (286,548)
Proceeds from sale of other real estate owned 339,096 441,278
Increase in surrender value of life insurance (80,184) (117,370)
Other investing activities (185,998) --
----------- -----------
Net cash used in investing activities 752,450 (2,789,707)
----------- -----------
</TABLE>
-4-
<PAGE>
STATEMENT OF CASH FLOWS
(continued)
June 30, June 30,
1998 1997
----------- ------------
FINANCING ACTIVITIES:
Net increase (decrease) in demand deposits,
NOW accounts savings accounts, money market
deposit accounts and escrow deposits $ 3,933,120 $ (50,811)
Net increase (decrease) in time deposits 1,066,669 (332,666)
Net (repayments of) proceeds from short term
borrowings (3,642,000) 440,000
Repayments of borrowings (27,900) (27,900)
Cash dividends (140,410) (223,898)
Treasury stock acquired (957,988) --
----------- -----------
Net cash (used in) provided by financing
activities 231,491 (195,275)
Decrease in cash and cash equivalents 1,486,098 (1,686,057)
Cash and cash equivalents at beginning of period 4,334,072 8,352,959
----------- -----------
Cash and cash equivalents at end of period $ 5,820,170 $ 6,666,902
=========== ===========
CASH PAID DURING THE PERIOD FOR:
Interest $ 3,641,226 $ 3,331,996
Income taxes 441,000 636,912
NON-CASH INVESTING ACTIVITY:
Transfer of loans to other real estate $ 533,635 $ 274,790
Unrealized holding gains arising during period 219,077 59,585
NON-CASH FINANCING ACTIVITY:
Dividends declared and unpaid $ 136,188 $ 134,167
Stock awards granted 159,664 --
The accompanying notes are an integral part of the financial statements
-5-
<PAGE>
Oswego City Savings Bank
Notes to Financial Statements
(1) Basis of Presentation
---------------------
The accompanying unaudited financial statements were prepared in accordance
with the instructions for Form 10-Q and Regulation S-X and, therefore, do
not include information for footnotes necessary for a complete presentation
of financial position, results of operations, and cash flows in conformity
with generally accepted accounting principles. The following material under
the heading "Management's Discussion and Analysis of Financial Condition and
Results of Operations" is written with the presumption that the users of the
interim financial statements have read, or have access to, the Bank's latest
audited financial statements and notes thereto, together with Management's
Discussion and Analysis of Financial Condition and Results of Operations as
of December 31, 1997 and for the three year period then ended. Therefore,
only material changes in financial condition and results of operations are
discussed in the remainder of part 1.
All adjustments (consisting of only normal recurring accruals) which, in the
opinion of management, are necessary for a fair presentation of the
financial statements have been included in the results of operations for the
three months and six months ended June 30, 1998 and 1997.
Operating results for the three months and six months ended June 30, 1998
are not necessarily indicative of the results that may be expected for the
year ending December 31, 1998.
(2) Earnings per Share
- ----------------------
Earnings per share are based on the weighted average number of common shares
outstanding during the period. For purposes of computing earnings per share,
only Employee Stock Option Plan ("ESOP") shares that have been committed to
be released are considered outstanding.
Earnings per share have been computed based upon net income for the three
months ended June 30, 1998 and 1997, using 2,779,556 and 2,797,086, weighted
average common shares outstanding, respectively. Year-to-date earnings per
share have been computed based upon net income for the six months ended June
30, 1998 and 1997 using 2,781,098 and 2,795,642 weighted average common
shares.
(3) New Accounting Pronouncements
- ---------------------------------
Effective January 1, 1998, the Company adopted statement of Financial
Accounting Standards No. 130 "Reporting Comprehensive Income". This
pronouncement requires the Company to report the effects of unrealized
investment holding gains or losses on comprehensive income.
-6-
<PAGE>
Pathfinder Bancorp, Inc.
Management's Discussion and Analysis of
Financial Condition and Results of Operation
General
On December 30, 1997, Oswego City Savings Bank completed its reorganization into
the mid-tier holding company form of mutual holding company ownership.
Throughout the Management's Discussion and Analysis the term, "the Company",
refers to the consolidated entity of Pathfinder Bancorp, Inc. and Oswego City
Savings Bank or the Bank for the periods prior to December 30, 1997. At June 30,
1998, Pathfinder Bancorp, Inc.'s only business was the 100% ownership of Oswego
City Savings Bank.
The Company's net income is primarily dependent on its net interest income,
which is the difference between interest income earned on its investments in
mortgage loans, investment securities and other loans, and its cost of funds
consisting of interest paid on deposits and borrowed funds. The Company's net
income also is affected by its provision for loan losses, as well as by the
amount of non interest income, including income from fees and service charges,
net gains and losses on sales of securities, and non interest expense such as
employee compensation and benefits, deposit insurance premiums, occupancy and
equipment costs, data processing and income taxes. Earnings of the Company also
are affected significantly by general economic and competitive conditions,
particularly changes in market interest rates, government policies and actions
of regulatory authorities, which events are beyond the control of the Company.
In particular, the general level of market rates tends to be highly cyclical.
Proposed Merger
- ---------------
On September 5, 1997, the Board of Directors of the Company, in conjunction with
the Board of Trustees of Oswego County Savings Bank, a New York State chartered
mutual savings bank headquartered in Oswego, New York, announced the adoption of
a definitive merger agreement under which the banks will be combined. The
proposed transaction is subject to regulatory approval, as well as approval of
the shareholders of Pathfinder Bancorp, Inc.. On May 13, 1998, applications for
the merger were file with the Federal Deposit Insurance Corporation, the Federal
Reserve Bank, and the New York State Banking Department. As of June 30, 1998,
Oswego County Savings Bank had total assets of approximately $109.7 million,
deposits of $96.7 million and net worth of $11.3 million. Upon completion of the
proposed merger, the Company's total assets and deposits will increase
commensurately. Refer to the "Recent Events" for additional information
regarding the proposed merger.
Year 2000
- ---------
The Year 2000 issue is the result of computer programs being written using two
digits rather than four to define the applicable year. The Company's computer
programs that have date sensitive software may recognize a date using "00" as
the year 1900 rather than the year 2000. Left unresolved, the year 2000 issue
could result in a system failure or miscalculations causing disruptions of
operations including, but not limited to, a temporary inability to process
transactions, calculate interest, or engage in similar normal business
activities. In early 1997, the Company formed a Year 2000 committee to address
the issues surrounding the problem. The committee has adopted a policy statement
and plan of action to identify, correct, test, and implement solutions to ensure
that the Company's systems are ready to process in the year 2000 and beyond. The
policy statement comprises three phases: the assessment phase, the renovation
phase, and the validation phase. During 1997, the Company completed its
assessment phase and has identified its computer and electronic software systems
that will require modification or replacement. The committee has determined that
the required changes are minimal, and that such changes will resolve the
Company's Year 2000 computer systems issues. The committee has segregated the
issues between those that affect
-7-
<PAGE>
information technology ("IT") and those that do not ("non-IT"). Testing for non-
IT systems is 90% complete at June 30, 1998. Testing and implementation of
solutions for IT will continue commence in September 1998 with a goal to be
fully tested by December 31, 1998. The Company will utilize both internal and
external resources to program, replace, and test the software for Year 2000
modifications. The Company is also communicating with its third party data
processing vendors, as well as its significant suppliers and commercial
customers, to determine the Company's exposure should any of these parties fail
to resolve their own significant Year 2000 issues. The committee is evaluating
the risk from these third parties and, where appropriate, will establish action
plans to reduce or eliminate the risk. In some cases, the Company will rely on
third party information which may be inaccurate and unverifiable. Should third
party entities, including Federal and State governments and agencies fail to
resolve their own Year 2000 issues, an adverse effect on the Company could
result. The committee is also responsible for the creation and maintenance of a
contingency plan for all mission critical system application functions by which
the company would operate if remedial action is insufficient. The expected
completion date of the contingency plan is December 31, 1998. The costs of the
remedial actions and the date on which the Company plans to complete the Year
2000 modifications, are based on management's best estimates and assumptions
including the continued availability of third party services, their modification
plans, and other factors. Costs related to the Year 2000 issue will be expensed
as they are incurred, except for the cost, if any for new hardware or software
that is purchased which will be capitalized. To date, the Company has not
maintained an accounting of costs incurred separate from normal upgrades of
equipment and costs of personnel. The Company, beginning July 1, 1998 will
maintain a separate accounting of costs incurred and use such information to
project costs for completion of all remedial action. To date, the cost
attributable solely to Year 2000 compliance has not been significant. The
Company expects the total cost of completing the project to have no material
affect on the Company's results of operations and financial condition, however,
the Company will continue to assess the costs incurred and the expectations of
future costs arising from the issue.
This Quarterly Report contains certain "forward-looking statements" within the
meaning of the Private Securities Litigation Reform Act of 1995. Such statements
are subject to certain risks and uncertainties, including, among other things,
changes in economic conditions in the Company's market area, changes in policies
by regulatory agencies, fluctuations in interest rates, demand for loans in the
Company's market areas and competition, that could cause actual results to
differ materially from historical earnings and those presently anticipated or
projected. The Company wishes to caution readers not to place undue reliance on
any such forward-looking statements, which speak only as of the date made. The
Company wishes to advise readers that the factors listed above could affect the
Company's financial performance and could cause the Company's actual results for
future periods to differ materially from any opinions or statements expressed
with respect to future periods in any current statements.
The Company does not undertake, and specifically declines any obligation, to
publicly release the result of any revisions which may be made to any forward-
looking statements to reflect events or circumstances after the date of such
statements or to reflect the occurrence of anticipated or unanticipated events.
For other matters affecting the Company, Including events which may affect the
Company's operations and financial performance, see "Recent Events".
The following discussion reviews the financial condition at June 30, 1998 and
the results of operations of the Company for the three months and six months
ended June 30, 1998.
Financial Condition
Assets
- ------
Total assets increased approximately $1.3 million, or .7%, to $198.1 million at
June 30, 1998 from $196.8 million at December 31, 1997. The relatively stable
level of assets reflects the lack of significant growth and
-8-
<PAGE>
economic development in the Company's market area. For the six months ended June
30, 1998, loans receivable increased $3.2 million, or 2.7%, to $124.4 million
from $121.2 at December 31, 1997. Mortgage loans held-for-sale increased
approximately $5.1 million to $6.7 million from $1.5 million at December 31,
1997. Loan originations were funded from the re-deployment of maturing short
term investments, excess liquidity, and certain borrowings to fund the demand
for the Company's loan products, principally, one to four family mortgage loans
and commercial real estate loans. Additionally the Company has continued to
originate mortgage loans underwritten to conform to the standards of the Federal
National Mortgage Association for the purpose of securitizing and selling such
loans into the secondary market. In July 1998 the Company securitized and sold
$5.6 million of the loans held for sale. The proceeds from the sale were used to
pay down a $3.0 million term loan used to help fund the originations, with the
remainder placed into short-term investments for use in new originations.
Investment securities decreased by approximately $9.9 million, or 17.2%, to
$47.0 million at June 30, 1998, from $56.8 million at December 31, 1997. The
decrease in investment securities is primarily the result of utilizing maturing
investment securities to fund loan originations. The increase in total assets
was also impacted by a $1.3 million increase in federal funds sold, and a $1.2
million increase in non-earning assets. The increase in other assets is
principally due to increases in premises and equipment of $365,000, other real
estate owned of $373,000, and other assets of $676,000.
Liabilities
- -----------
Total liabilities increased by $1.4 million, to $174.5 million at June 30, 1998
from $173.2 million at December 31, 1997. The increase is primarily attributable
to a $5.0 million, or 3.3% increase in deposits, partially offset by a reduction
in borrowed funds of $3.6 million, or 20.0%. The increased deposit levels
consist mainly of inflows into the Company's passbook savings accounts and non-
interest bearing checking accounts and interest credited on existing interest-
bearing accounts. The increases in these categories are primarily the result of
deposits received in association with commercial lending activities and
increased penetration within the existing retail customer base. The reduction in
borrowed funds is attributable to the repayment of the Company's overnight
credit line facility. The borrowed funds are part of a strategy to leverage the
Company's capital and provide incremental income through the use of wholesale
deposits.
Liquidity and Capital Resources
- -------------------------------
Shareholders' equity decreased $38,000 to $23.5 million at June 30, 1998 from
$23.6 million at December 31, 1997. The decrease in shareholder's equity is
primarily the result of the acquisition of 34,900 shares of treasury stock to
fund the Company's Management Retention Plan for a total cost of approximately
$798,000, combined with dividends declared of $277,000. Partially offsetting the
decreases in shareholder's equity were increases resulting from net income
totaling $745,000, ESOP and other stock-based compensation earned of $160,000,
and net unrealized holding gains on investment securities arising during the
period totaling $131,000.
The Company's primary sources of funds are deposits, amortization and prepayment
of loans and maturities of investment securities and other short-term
investments, earnings and funds provided from operations, and borrowings. While
scheduled principal repayments on loans are a relatively predictable source of
funds, deposit flows and loan prepayments are greatly influenced by general
interest rates, economic conditions, and competition. The Company manages the
pricing of deposits to maintain a desired deposit balance. In addition, the
Company invests excess funds in short-term interest-bearing instruments and
other assets, which provide liquidity to meet lending requirements. For
additional information about cash flows from the Company's operating, financing,
and investing activities, see Statements of Cash Flows included in the Financial
Statements. The Company adjusts its liquidity levels in order to meet funding
needs of deposit outflows, payment of real estate taxes on mortgage loans and
loan commitments. The Company also adjusts liquidity as appropriate to meet its
assets and liability management objectives.
-9-
<PAGE>
Management of Market Risk - Interest Rate Risk
- ------------------------------------------------
The Company's most significant form of market risk is interest rate risk, as the
majority of the Company's assets and liabilities are sensitive to changes in
interest rates. The Company's mortgage loan portfolio, consisting primarily of
loans on residential real property located in Oswego County, is subject to risks
associated with the local economy. The Company's interest rate risk management
program focuses primarily on evaluating and managing the composition of the
Company's assets and liabilities in the context of various interest rate
scenarios. Factors beyond management's control, such as market interest rates
and competition, also have an impact on interest income and interest expense.
The extent to which such assets and liabilities are "interest rate sensitive"
can be measured by an institution's interest rate sensitivity "gap". An asset or
liability is said to be interest rate sensitive within a specific time period if
it will mature or reprice within that time period. The interest rate sensitivity
gap is defined as the difference between the amount of interest-earning assets
maturing or repricing within a specific time period and that 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. A gap 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 tend to adversely affect net interest income while a positive
gap would tend to positively affect net interest income. Conversely, during a
period of falling interest rates, a negative gap would tend to positively affect
net interest income while a positive gap would tend to adversely affect net
interest income.
The Company does not maintain in its portfolio fixed interest rate loans with
terms exceeding 20 years. In addition, ARM loans are originated with terms that
provide that the interest rate on such loans cannot adjust below the initial
rate. Generally, the Company's tends to fund longer term loans and mortgage-
backed securities with shorter term time deposits, repurchase agreements, and
advances. The impact of this asset/liability mix creates an inherent risk to
earnings in a rising interest rate environment. In a rising interest rate
environment, the Company's cost of shorter term deposits may rise faster than
its earnings on longer term loans and investments. Additionally, the prepayment
of principal on real estate loans and mortgage-backed securities tends to
decrease as rates rise, providing less available funds to invest in the higher
rate environment. Conversely, as interest rates decrease the prepayment of
principal on real-estate loans and mortgage-backed securities tends to increase,
causing the Company to invest funds in a lower rate environment. The potential
impact on earnings from this mismatch, is mitigated to a large extent by the
size and stability of the Company's savings accounts. Savings accounts have
traditionally provided a source of relatively low cost funding that have
demonstrated historically a low sensitivity to interest rate changes. The
Company generally matches a percentage of these, which are deemed core, against
longer term loans and investments. In addition, the Company has sought to extend
the terms of its time deposits. In this regard, the Company has on occasion
offered certificates of deposits with three and four year terms which allow
depositors to make a one-time election, at any time during the term of the
certificate of deposit, to adjust the rate of the certificate of deposit to the
then prevailing rate for a certificate of deposit with the same term. The
Company has further sought to reduce the term of a portion of its rate sensitive
assets by originating one year ARM loans, five year/one year ARM loans (mortgage
loans which are fixed rate for the first five years and adjustable annually
thereafter), and by maintaining a relatively short term investment securities
(original maturities of three to five years) portfolio with staggered
maturities. The Company manages its interest rate sensitivity by monitoring
(through simulation and net present value techniques) the impact on it's GAP
position, net interest income, and the market value of portfolio equity to
changes in interest rates on its current and forecast mix of assets and
liabilities. The Company has an Asset-Liability Management Committee which is
responsible for reviewing the Company's assets and liability policies, setting
prices and terms on rate-sensitive products, and monitoring and measuring the
impact of interest rate changes on the Company's earnings. The Committee meets
monthly on a formal basis and reports to the Board of Directors on interest rate
risks and trends, as well as liquidity and capital ratios and requirements. The
Company does not have a targeted gap range, rather the Board of Directors has
set parameters of percentage change by which net interest margin and the market
value of portfolio equity are affected by changing interest rates. The Board and
management deem these measures to be a more significant and realistic means of
-10-
<PAGE>
measuring interest rate risk.
At June 30, 1998, the total interest bearing liabilities maturing or repricing
within one year exceeded total interest-earning assets maturing or repricing in
the same period by $5.0 million, representing a cumulative one-year gap ratio of
a negative 2.52%. Simulation and net present value analysis demonstrate
percentage changes to net interest income and net portfolio value of a negative
8.58% and a negative 19.27%, respectively, in an upward 200 basis point parallel
shift in the yield curve.
Results of Operations
- ---------------------
The Company had net income of approximately $351,000, and $642,000 for the three
months ended June 30, 1998, and 1997, respectively. Net income for the six
months ended June 30, 1998 and 1997 amounted to $745,000 and $1.1 million,
respectively. The decrease in net income for the three months ended June 30,
1998, resulted primarily from an increase in operating expenses of $221,000, or
16.7%, as well as a decrease in non-interest income of $197,000, or 40.7%. Net
interest income after provision for loan losses for the quarter ended June 30,
1998 remained relatively stable over the prior year quarter, decreasing .4%, or
$7,000.
As a result of the decrease in net income between the comparative periods,
return on average assets and return on average shareholders' equity were .71%
and 6.06%, respectively, for the three months ended June 30, 1998 compared to
1.34% and 11.86% for the second quarter of 1997.
Interest Income
- ---------------
Interest income totaled $3.6 million for the quarter ended June 30, 1998, as
compared to $3.5 million for the quarter ended June 30, 1997, an increase of
$77,000, or 2.2%. The increase resulted primarily from an increase of $4.3
million in average interest-earning assets, partially offset by a decrease in
the yield on average interest-earning assets to 7.98% for the three months ended
June 30, 1998 from 8.00% in the prior year period.
Interest income totaled $7.2 million for the six months ended June 30, 1998, as
compared to $7.0 million for the same period in 1997, an increase of $217,000,
or 3.1%. The increase resulted primarily from an increase of $4.7 million in
average interest-earning assets as well as an increase in the yield on average
interest-earning assets to 8.04% from 8.00%.
Interest income on loans receivable totaled $2.8 million and $2.4 million for
the three months ended June 30, 1998 and 1997, respectively. The $313,000, or
12.8%, increase resulted primarily from an increase in the average balance of
loans receivable of $17.9 million, partially offset by a decrease in the average
yield on loans receivable to 8.58% from 8.84%. For the six months ended June
30, 1998 and 1997, interest income on loans receivable increased $539,000, or
11.0%, to $5.5 million from $4.9 million. Average loans receivable increased
$16.0 million while the yield on average loans receivable decreased to 8.59%
from 8.86% for the six months ended June 30, 1998 compared to the same period in
1997. The increase in the average balance in loans receivable was primarily due
to the origination of 15 and 30 year term one-to-four family fixed rate mortgage
loans held for sale to the secondary market and one-to-four family adjustable
rate mortgage loans retained in the Company's portfolio. The origination of
mortgage loans held for sale into the secondary market is part of a new program
begun by the Company in the fourth quarter of 1997. The origination of
adjustable rate mortgage loans is primarily comprised of "5/1 ARMS" which have
interest rates which are fixed for the first five years and are adjustable
annually thereafter, and amortize over 30 years. To a lesser degree, the Company
also experienced an increase in the origination of commercial real estate and
business loans. The decrease in the yield on average loans receivable was
attributable to the lower rates charged on mortgage loans held for sale, the
initial rates charged on 5/1 ARMS, and the downward repricing of the one year
adjustable rate mortgage portfolio caused by the relatively lower interest rate
-11-
<PAGE>
environment.
Interest income on the mortgage-backed securities portfolio decreased by
$48,000, or 12.3%, to $341,000 for the three months ended June 30, 1998, from
$389,000 for the three months ended June 30, 1997. The decrease in interest
income on mortgage-backed securities resulted generally from a decrease in the
average balance on mortgage-backed securities of $2.4 million and a decrease in
the average yield on mortgage-backed securities to 6.58% from 6.75%. For the six
months ended June 30, 1998 and 1997, interest income on mortgage-backed
securities was $712,000 and $775,000, respectively, a decrease of $63,000, or
8.1%. The decrease in interest income resulted primarily from a decrease of
$1.3 million, or 5.7%, in the average balance of mortgage-backed securities and
a reduction in the average yield on mortgage-backed securities to 6.59% from
6.76%. The decrease in the average balance of mortgage-backed securities
resulted from the scheduled amortization and prepayments of principal on the
underlying mortgage loans. The cash flow from the mortgage-backed securities
portfolio was utilized to fund the origination of loans by the Company. The
decrease in the average yield on mortgage-backed securities was the result of
prepayments being more predominant on the higher coupon collateral than on those
mortgage loans with lower fixed rates.
Interest income on investment securities, on a tax equivalent basis, decreased
$144,000, or 24.3%, for the three months ended June 30, 1998 to $448,000 from
$592,000 for the same period in 1997. The decrease resulted primarily from a
decrease in the average balance of investment securities of $8.3 million, as
well as, a decrease in the average yield on investment securities to 6.45% from
6.57% for the quarters ended June 30, 1998 and 1997, respectively. The decrease
in the average balance of investment securities resulted primarily from the
reinvestment of funds from maturing and called securities into loan
originations. The average yield on investment securities declined as higher
coupon securities purchased three to five years ago were either called due to
the lower interest rate environment or matured.
For the six months ended June 30, 1998, interest income on investment securities
decreased $170,000, or 14.5%, to $1.0 million compared to $1.2 million for the
same period in 1997. The decrease resulted primarily from a decrease in the
average balance of investment securities of $6.5 million, partially offset by an
increase in yield on average investments, on a tax equivalent basis, to 6.81%
from 6.52%.
Interest income on interest-earning deposits decreased $44,000, or 63.8%, to
$25,000 from $69,000 for the three months ended June 30, 1998 and 1997,
respectively. The decrease was primarily the result of a decrease of $3.1
million in the average balance of interest-earning deposits, as well as a
reduction in the average yield on interest-earning deposits to 5.15% from 5.48%.
For the six months ended June 30, 1998 and 1997, interest income on interest-
earning deposits decreased $89,000, or 70.6%, to $37,000 compared to $126,000
for the same period in 1997. The decrease in interest income on interest-
earning deposits was primarily the result of a $3.3 million decrease in the
average balance of interest-earning deposits and a decrease in the average yield
on interest-earning deposits to 5.07% from 5.33%. The decrease in the average
balance on interest-earning deposits was primarily due to loan demand exceeding
deposit inflows and a strategy to maintain lower levels of federal funds sold
due to the availability of borrowings and a shortening in the maturity structure
of the investment portfolio. The decrease in the average yield on interest-
earning deposits was principally due the decrease in the federal funds rate
brought about by the general reduction in interest rates.
Interest Expense
- ----------------
Interest expense for the quarter ended June 30, 1998 increased by approximately
$84,000, or 5.0%, to 1.8 million when compared to the same quarter for 1997.
The increase in interest expense for the period was the result of a $4.7 million
increase in the average balance on interest-bearing liabilities, as well as an
increase on the average cost of interest-bearing liabilities to 4.32% from
4.24%. For the six months ended June 30, 1998, interest expense increased
$186,000, or 5.5%, to $3.6 million from $3.4 million for the same period in
1997. The increase in interest expense for the period was the result of a $4.5
million increase in the average balance on interest-bearing liabilities, as well
as an increase on the average cost of interest-
-12-
<PAGE>
bearing liabilities to 4.36% from 4.24%. The increase in the average balance and
average cost on interest-bearing liabilities was principally the result of the
use of borrowed funds. For the six months ended June 30, 1998 the average
balance of borrowed funds was $16.5 million and the average cost of the borrowed
funds was 5.84%. For the same period in 1997 the average balance of borrowed
funds $7.9 million and the average of the borrowings was 5.70%. The borrowed
funds are comprised of repurchase agreements and term borrowing from the Federal
Home Loan Bank of New York. The borrowings are being utilized to help fund the
growth in the Company's loan portfolio and for the purchase of mortgage-backed
and investment securities.
Net Interest Income
- -------------------
Net interest income totaled $1.8 million for the three months ended June 30,
1998 and 1997. Net interest income for the quarter ended June 30, 1998
decreased $7,000, or .4% compared to the same period in the prior year. The
relatively small decline in net interest income for the quarter ended June 30,
1998 occurred despite a sharp decline in long and intermediate term interest
rates which resulted in a compression of the Company's net interest rate spread.
The yield on the 30 year and 2 year treasury bonds declined by 112 basis points
and 56 basis points, respectively from June 30, 1997 to June 30, 1998,
demonstrating a flattening of the yield curve. In such an interest rate
environment, the Company's yield on earning assets will tend to decrease faster
than the cost of interest bearing liabilities. This is evident in the reduction
of net interest rate spread to 3.65% for the quarter ended June 30, 1998 from
3.76% at the end of the prior year period. Volume increases, particularly in
real estate loans, partially offset the decline in net interest rate spread.
For the six months ended June 30, 1998 and 1997, respectively, net interest
income was $3.64 million and $3.61 million, an increase of $31,00, or .9%. The
ratio of average interest earning assets to average interest-bearing liabilities
remained at 109.86% for the six months ended June 30, 1998 and 1997, while the
net interest rate spread fell to 3.67% from 3.76% when comparing the six months
ended June 30, 1998 to the same period in 1997.
Provision for Loan Losses
- -------------------------
The Company maintains an allowance for loan losses based upon a quarterly
evaluation of known and inherent risks in the loan portfolio, which includes a
review of the balances and composition of the loan portfolio as well as
analyzing the level of delinquencies in each segment of the loan portfolio.
Loan loss provisions are based upon management's estimate of the fair value of
the collateral and the Company's actual loss experience, as well as standards
applied by the FDIC. The Company established a provision for possible loan
losses for the three months ended June 30, 1998 of $65,000 as compared to a
provision of $66,000 for the three months ended June 30, 1997. For the six
months ended June 30, 1998 and 1997, the provision for possible loan losses was
$141,000 and $127,000, respectively. The Company's ratio of allowance for loan
losses to total loans receivable at June 30, 1998 was .63%.
Non-interest Income
- -------------------
Non-interest income consists of servicing income, fee income and gain (loss) on
sales of investment securities and other operating income. Non-interest income
decreased approximately $198,000, or 40.9%, to $286,000 for the three months
ended June 30, 1998 as compared to $484,000 for the prior year period. This
decrease is primarily attributable to a decrease of $131,000, or 76.1%, in net
securities gains, and a $66,000, or 38.3%, decrease in fees derived from
commissions on investment services and the cash surrender value of life
insurance policies. The decrease in net securities gains results from a lower
mark to market recognition of unrealized market value appreciation in the
Company's investment in the IIMF mutual fund. The decline in commissions on
investment services results from a lower value of transactions in the Company's
investment services unit for the quarter ended June 30, 1998 when compared to
the same period in 1997.
-13-
<PAGE>
Non-interest income decreased approximately $8,000, or 1.1%, to $711,000 for the
six months ended June 30, 1998 when compared to $719,000 for the same period in
1997. This decrease is primarily comprised of a decrease of $96,000 in other
commissions and fees and an $11,000, or, 4.5% decrease in service charges on
deposit accounts, partially offset by a $98,000 increase in net securities
gains. The reduction in other commissions and fees is principally caused by
lower commissions from the Company's investment services unit of $45,000,
reduced increases of $37,000 in the Company's cash surrender value on life
insurance policies, and a recovery from prior period of approximately $28,000.
The reduction of service charges on deposit accounts is primarily attributable
to lower volumes of returned non-sufficient checks. The net securities gains
are derived from the recognition of unrealized market value appreciation of the
Company's investment in a mutual fund and the sale of two general obligation
municipal bonds.
Non-interest Expense
- ---------------------
Non-interest expense increased $221,000, or 16.7% to $1.5 million for the three
months ended June 30, 1998, as compared to the same period in 1997. This
increase was primarily attributable to a $133,000, or 21.8%, increase in
compensation and employee benefits, a $47,000, or 30.6% increase in professional
services, a $17,000 increase in data processing costs, and a $26,000 increase in
other expenses. The increase in salaries and employee benefits is principally
due to the amortization of stock based compensation plans which resulted in
expense recognition for the quarter of $154,000. The increase in professional
services primarily results from increased real estate appraisal fees and costs
associated with the finalization of the formation of the mid-tier holding
company. The increase in data processing expenses and other expenses is
principally due to technological upgrades to expand mainframe capacity and the
installation of a wide area network. These upgrades are essential in order for
the Company to enhance its competitiveness and prepare for the assimilation of
Oswego County Savings Ban's operation as a result of the impending merger.
For the six months ended June 30, 1998, non-interest expense increased $501,000,
or 19.3%, to $3.1 million from $2.6 million for the six months ended June 30,
1997. This increase was primarily attributable to a $298,000, or 24.2%,
increase in compensation and employee benefits, a $55,000, or 20.9% increase in
professional services, a $45,000 increase in data processing costs, and a
$162,000 increase in other expenses, partially offset by expense reductions of
$17,000 in occupancy expense. The principal causes of these increases are the
same as those attributable to the second quarter explanations which are outlined
above. The amount of expense recognition associated with the Company's stock
based compensation plans amounted to $305,000 for the first half of 1998.
The Company's efforts to prepare its data processing systems for the impact of
the Year 2000 were not a significant component of expense in the first half of
1998 and are not expected to materially impact earning in the future. For
further information regarding the Company's efforts and costs associated with
the Year 2000 issue, see "General - Year 200".
Income Taxes
- ------------
Income taxes decreased approximately $135,000, or 49.9%, for the quarter ended
June 30, 1998 as compared to the same period in the prior year. This decrease
was directly attributable to a $425,000 decrease in the Company's pretax income.
For the six months ended June 30, 1998 and 1997, income tax expense was $305,000
and $466,000, respectively.
-14-
<PAGE>
Recent Events
Reorganization
- --------------
On January 14, 1997, the Board of Directors adopted an Agreement and Plan of
Reorganization to reorganize the Bank and its existing mutual holding company
into a two-tier mutual holding company structure (the "Reorganization") with the
establishment of a Delaware chartered corporation as the stock holding company
parent of the Bank. Upon completion of the Reorganization, Pathfinder Bancorp,
MHC, the Bank's existing mutual holding company, will own a majority of the
common stock of the new stock holding company (Pathfinder Bancorp, Inc., which
will own 100% of the common stock of Oswego City Savings Bank). On December 30,
1997, the Reorganization was implemented pursuant to the Agreement and Plan of
Reorganization approved by the Bank's stockholders and regulatory authorities.
Pursuant to the Reorganization, each share of Bank common stock held by existing
stockholders of the Bank was exchanged for a share of common stock of Pathfinder
Bancorp, Inc.. The Reorganization of the Bank was structured as a tax-free
reorganization and accounted for in a manner similar to a pooling of interests.
Pending Merger
- --------------
On May 14, 1998, the Company announced the filing of regulatory applications in
connection with the merger of Oswego County Savings into Oswego City Savings
Bank. As part of the merger, the Company will offer common stock in a
subscription offering to account holders of Oswego County Savings Bank as of
December 31, 1996 (eligible account holders) and others in accordance with a
Stock issuance Plan jointly adopted by the Company and Oswego County Savings
Bank. It was further announced that the boards of the two institutions have
agreed that commensurate with the merger, Oswego City Savings Bank will change
its name to Pathfinder Bank.
Stock Split
- -----------
On January 13, 1998, the Board of Directors of Pathfinder Bancorp, Inc. declared
a three for two stock split in the form of a dividend on the holdings company's
outstanding common stock. The stock split was paid on February 5, 1998 to
shareholders of record as of January 26, 1998. The stock split has been applied
retroactively to the financial statements presented in this report.
-15-
<PAGE>
Part II - Other Information
---------------------------
Legal Proceedings
- -----------------
From time to time, the Bank is involved as a plaintiff or defendant in various
legal actions incident to its business. None of these actions individually or
in the aggregate is believed to be material to the financial condition of the
Bank.
Changes in Securities
- ---------------------
On January 13, 1998 the Board of Directors of Pathfinder Bancorp, Inc. declared
a three-for-two stock split in the form of a dividend on the Bank's outstanding
common stock. The stock split was paid on February 5, 1998 to shareholders of
record January 26, 1998.
Defaults upon Senior Securities
- -------------------------------
Not applicable
Submission of Matters to a Vote of Security Holders
- ---------------------------------------------------
None
Other Information
- -----------------
On June 8, 1998, the Board of Directors declared a $.05 cash dividend to
shareholders of record as of June 30, 1998, payable on July 15, 1998.
Exhibits and Reports
- --------------------
None
-16-
<PAGE>
SIGNATURES
Under the requirements of the Securities Exchange Act of 1934, the Bank has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.
PathFinder Bancorp Inc
------------------------
/s/ Chris C. Gagas
-------------------------------------------
Date: August 11, 1998 Chris C. Gagas
---------------- Chairman, President, Chief Executive Officer
/s/ Thomas W. Schneider
-------------------------------------------
Date: August 11, 1998 Thomas W. Schneider
---------------- Vice President, Chief Financial Officer
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> JUN-30-1998
<CASH> 4,520
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 1,300
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 44,759
<INVESTMENTS-CARRYING> 2,278
<INVESTMENTS-MARKET> 2,299
<LOANS> 129,986
<ALLOWANCE> 824
<TOTAL-ASSETS> 198,091
<DEPOSITS> 157,399
<SHORT-TERM> 14,600
<LIABILITIES-OTHER> 2,146
<LONG-TERM> 402
288
0
<COMMON> 0
<OTHER-SE> 23,256
<TOTAL-LIABILITIES-AND-EQUITY> 198,091
<INTEREST-LOAN> 5,438
<INTEREST-INVEST> 1,650
<INTEREST-OTHER> 37
<INTEREST-TOTAL> 7,126
<INTEREST-DEPOSIT> 3,071
<INTEREST-EXPENSE> 3,551
<INTEREST-INCOME-NET> 3,574
<LOAN-LOSSES> 141
<SECURITIES-GAINS> 270
<EXPENSE-OTHER> 3,094
<INCOME-PRETAX> 1,050
<INCOME-PRE-EXTRAORDINARY> 1,050
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 746
<EPS-PRIMARY> .27
<EPS-DILUTED> .26
<YIELD-ACTUAL> 0
<LOANS-NON> 1,431
<LOANS-PAST> 0
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 828
<CHARGE-OFFS> 154
<RECOVERIES> 10
<ALLOWANCE-CLOSE> 824
<ALLOWANCE-DOMESTIC> 0
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 824
</TABLE>
