<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K
CURRENT REPORT
Pursuant to Section 13 or 15(d) of the Securities and Exchange Act of 1934
Date of Report (Date of earliest event reported): February 3, 1998
HIGHLAND BANCORP, INC.
----------------------
(Exact name of registrant as specified in its charter)
Delaware 95-4654552
- -------- ------------------------ ----------
(State or other (Commission file number) (IRS Employer
jurisdiction of incorporation) Identification No.)
601 South Glenoaks Boulevard, Burbank, California 91502
--------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (818) 848-4265
--------------
Not Applicable
-------------------------------------------------------------
(Former name or former address, if changed since last report)
Item 5. Other Events
On December 16, 1997 (the "Effective Date"), Highland Bancorp, Inc., a
Delaware corporation (the "Company") became the holding company of Highland
Federal Bank, a federally chartered savings bank (the "Bank"), in accordance
with the terms of a Plan of Reorganization and Agreement of Merger, dated
December 3, 1997 (the "Reorganization Agreement"), by and between the Company,
the Bank and Highland Federal Interim Savings Bank ("Interim"), an interim
federal savings bank formed for the sole purpose of effecting the reorganization
of the Bank into a holding company form of organization (the "Reorganization").
Pursuant to the Reorganization Agreement: (i) the Company was organized as a
wholly owned subsidiary of the Bank; (ii) Interim was organized as a wholly
owned subsidiary of the Company; and (iii) Interim was merged with and into the
Bank, with the Bank as the surviving corporation, and with the result that, by
operation of law, the Bank became a wholly owned subsidiary of the Company. On
the effective date of the Reorganization, each issued and outstanding share of
the common stock of the Bank (the "Bank Common Stock") was converted, by
operation of law, into one share of common stock of the Company (the "Company
Common Stock").
<PAGE>
Pursuant to the Reorganization Agreement, as of the Effective Date, the
Company assumed the Bank's 1994 Stock Option and Performance Share Award Plan
(the "Stock Option Plan"). Pursuant to the Stock Option Plan as assumed, the
Company will issue shares of Company Common Stock in lieu of shares of Bank
Common Stock upon the exercise of options or the grant of certain other awards
pursuant to the plan. The Company intends to file, concurrently with this
Current Report on Form 8-K, a registration statement on Form S-8 to register
under the Securities Act of 1933, as amended (the "Securities Act"), 263,700
shares of Company Common Stock issuable pursuant to the Stock Option Plan, and
such indeterminate number of shares of Company Common Stock as may become
available for issuance pursuant to the Stock Option Plan as a result of the
adjustment provisions thereof.
Item 7. Financial Statements and Exhibits
---------------------------------
a. Financial Statements of businesses acquired.
-------------------------------------------
Not applicable.
b. Pro forma financial information.
-------------------------------
Not applicable.
c. Exhibits.
<TABLE>
<CAPTION>
Exhibit No. Description
- ----------- -----------
<C> <S>
2.1 Plan of Reorganization and Agreement of Merger, filed as Exhibit A to the
Proxy Statement/Prospectus included in the Registration Statement on Form S-
4 filed by the Company with the Commission on October 28, 1997 (File No.
333-38911), and incorporated herein by reference.
4.1 Form of Stock Certificate, filed as Exhibit 4.1 to the Registration Statement on
Form S-4 filed by the Company with the Commission on October 28, 1997
(File No. 333-38911), and incorporated herein by reference.
99.1 Annual Report of the Bank on Form 10-K for the year ended December 31,
1996, as filed with the Office of Thrift Supervision (the "OTS").
99.2 Quarterly Report of the Bank on Form 10-Q for the quarter ended March 31,
1996, as filed with the OTS.
99.3 Proxy Statement, dated April 1, 1997, distributed to shareholders of the
Bank in connection with the Bank's Annual Meeting of Shareholders held on
April 23, 1997, as filed with the OTS.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Exhibit No. Description
- ----------- -----------
<C> <S>
99.4 Quarterly Report of the Bank on Form 10-Q for the quarter ended June 30,
1997, as filed with the OTS.
99.5 Quarterly Report of the Bank on Form 10-Q for the quarter ended
September 30, 1997, as filed with the OTS.
</TABLE>
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the Registrant has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized.
HIGHLAND BANCORP, INC.
Dated: February 3, 1998 By: /s/ Anthony L. Frey
-------------------------------
Anthony L. Frey
Executive Vice President
and Chief Financial Officer
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit No. Description
- ----------- -----------
<C> <S>
2.1 Plan of Reorganization and Agreement of Merger, filed as Exhibit A to
the Proxy Statement/Prospectus included in the Registration Statement on
Form S-4 filed by the Company with the Commission on October 28,
1997 (File No. 333-38911), and incorporated herein by reference.
4.1 Form of Stock Certificate, filed as Exhibit 4.1 to the Registration
Statement on Form S-4 filed by the Company with the Commission on
October 28, 1997 (File No. 333-38911), and incorporated herein by
reference.
99.1 Annual Report of the Bank on Form 10-K for the year ended December
31, 1996, as filed with the Office of Thrift Supervision (the "OTS").
99.2 Quarterly Report of the Bank on Form 10-Q for the quarter ended March
31, 1996, as filed with the OTS.
99.3 Proxy Statement, dated April 1, 1997, distributed to shareholders of the
Bank in connection with the Bank's Annual Meeting of Shareholders held
on April 23, 1997, as filed with the OTS.
99.4 Quarterly Report of the Bank on Form 10-Q for the quarter ended June
30, 1997, as filed with the OTS.
99.5 Quarterly Report of the Bank on Form 10-Q for the quarter ended
September 30, 1997, as filed with the OTS.
</TABLE>
<PAGE>
EXHIBIT 99.1
OFFICE OF THRIFT SUPERVISION
Washington, D.C. 20552
----------------------
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1996 OTS Docket No. 7184
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK
-------------------------------------------------
(Exact name of Registrant as specified in its Charter)
United States 95-2565606
------------------------------ --------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
601 South Glenoaks Boulevard, Burbank, California 91502
-------------------------------------------------- --------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (818) 848-4265
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $1.00 stated value
--------------------------------
(Title of Class)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.
---
As of March 17, 1997, the aggregate market value of the Common Stock held
by non-affiliates of the Registrant was $27,254,387. Shares of Common Stock held
by each executive officer and director and each person owning more than 5% of
the outstanding Common Stock of the Registrant have been excluded in that such
persons may be deemed to be affiliates of the Registrant. This determination of
affiliate status is not necessarily a conclusive determination for other
purposes. The number of shares of Common Stock of the Registrant outstanding as
of March 17, 1997 was 2,282,137.
The following documents are incorporated by reference herein:
------------------------------------------------------------
Portions of the Registrant's Proxy Statement for the Annual Meeting of
Stockholders to be held on April 23, 1997 are incorporated by reference into
Part III herein.
This Annual Report consists of a total of ___ pages.
The Exhibit Index appears on page ___.
<PAGE>
Discussions of certain matters contained in this Annual Report on Form 10-K
may constitute forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995 (the "Reform Act"), and as such may
involve risks and uncertainties. These forward-looking statements relate to,
among other things, expectations of the business environment in which the Bank
operates, projections of future performance, perceived opportunities in the
market and statements regarding the Bank's mission and vision. The Bank's actual
results, performance, or achievements may differ significantly from the results,
performance, or achievements expressed or implied in such forward-looking
statements. For discussion of the factors that might cause such a difference,
see "Item 1. Business -- Factors that May Affect Future Results."
PART I
ITEM 1. BUSINESS
GENERAL
Highland Federal Bank, a Federal Savings Bank (the "Bank"), is a federally
chartered and insured savings bank which was organized in 1968 as a federal
mutual savings and loan association and converted in 1982 to a federal stock
savings and loan association. In 1989, the Bank changed its name from Highland
Federal Savings and Loan Association to its present name, Highland Federal Bank,
a Federal Savings Bank.
The Bank provides financial services through eight offices located in
communities within Los Angeles County, California, including two offices in the
South Bay area and six offices spread out across the San Fernando Valley, San
Gabriel Valley, Northern Los Angeles and Santa Monica. See "Market Area and
Competition." The Bank's lending activity focuses on originating single and
multi-family residential mortgage loans, commercial real estate loans and
construction loans principally in Southern California. The Bank's lending and
investment activities are funded primarily through deposits derived from the
Bank's branch network and through borrowings from the Federal Home Loan Bank of
San Francisco. At December 31, 1996, the Bank had total consolidated assets of
$489.9 million, total consolidated deposits of $384.9 million and total
consolidated a shareholders' equity of $34.9 million.
The principal executive offices of the Bank are located at 601 South
Glenoaks Boulevard, Burbank, California 91502, and its telephone number at that
address is (818) 848-4265.
LENDING ACTIVITIES
Loan Portfolio and Origination
- ------------------------------
The Bank's lending strategy is to focus primarily on niches in real estate
lending in its market areas that management believes are currently not generally
targeted by traditional lenders. While niche lending markets generally entail
greater credit risks, management believes that borrowers in these markets are
also generally willing to pay the premium rates required to compensate the Bank
for the increased risk and higher costs associated with such loans. The Bank's
lending activities focus primarily on origination of single and multi-family
residential mortgage loans, commercial real estate loans and construction loans
principally in the Bank's market areas. The Bank's lending and investment
activities are funded primarily through deposits derived from the Bank's branch
network.
Loan Portfolio Composition. The Bank's loan portfolio consists primarily of
first trust deed loans secured by one- to four-family residential properties,
multi-family residential properties (five or more units) and commercial
properties. At the end of 1996, the Bank discontinued its lending operations
related to the originating of loans secured by one-to-four family residential
properties. At December 31, 1996, the Bank had total gross loans outstanding of
$385.0 million, which included $82.4 million of one- to four-family residential
mortgage loans, $180.9 million of multi-family mortgage loans, $116.4 million of
commercial real estate loans, $4.0 million of construction and land loans and
$1.2 million of consumer loans.
1
<PAGE>
The following table sets forth information concerning the composition
of the Bank's loan portfolio at the dates indicated:
<TABLE>
<CAPTION>
At December 31,
----------------------------------------------------------------------------------------------
1996 1995 1994 1993
---------------------- -------------------- -------------------- --------------------
Percent of Percent of Percent of Percent of
Total Total Total Total
Amount Loans Amount Loans Amount Loans Amount Loans
-------- ---------- -------- ---------- -------- ---------- -------- ----------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Real estate(1):
One- to four-family...... $ 82,436 21.42% $ 99,724 30.82% $ 96,742 33.98% $112,292 37.70%
Multi-family............. 180,940 47.00 127,073 39.27 92,931 32.64 98,892 33.21
Commercial............... 116,389 30.23 88,326 27.30 91,937 32.29 81,213 27.27
Construction and land.... 3,954(2) 1.03 7,543 2.33 2,316 0.81 4,491 1.51
Consumer................... 1,244 0.32 923 0.28 780 0.28 933 0.31
-------- ------ -------- ------ -------- ------ -------- ------
Total loans.............. 384,963 100.00% 323,589 100.00% 284,706 100.00% 297,821 100.00%
====== ====== ====== ======
Less:
Undisbursed loan funds..... 1,439 1,066 197 376
Deferred loan fees......... 2,303 2,473 2,654 2,906
Allowance for loan losses.. 7,676 7,056 8,832 5,142
-------- -------- -------- --------
Total loans, net........... $373,545 $312,994 $273,023 $289,397
======== ======== ======== ========
<CAPTION>
At December 31,
----------------------
1992
----------------------
Percent of
Total
Amount Loans
-------- ----------
(Dollars in Thousands)
<S> <C> <C>
Real estate(1):
One- to four-family...... $137,916 42.85%
Multi-family............. 102,892 31.96
Commercial............... 75,896 23.58
Construction and land.... 4,607 1.43
Consumer................... 572 0.18
-------- ------
Total loans.............. 321,883 100.00%
======
Less:
Undisbursed loan funds..... 57
Deferred loan fees......... 3,089
Allowance for loans losses. 3,053
--------
Total loans, net........... $315,684
========
</TABLE>
- ----------------------------
(1) Consists of loans receivable less participations and unamortized premiums
or discounts.
(2) Includes construction loans of $0, $650,000 and $1,605,000 for one- to
four-family, multi-family and commercial projects, respectively, at
December 31, 1996. The Bank had no construction loans prior to 1995.
Loan Maturity. The following table sets forth the final contractual
maturities of the Bank's gross loans at December 31, 1996:
<TABLE>
<CAPTION>
At December 31, 1996
----------------------------------------------------------------------------------------
More than More than More than More than
One Year 1 Year to 3 Year to 5 Year to 10 Year to More than
or Less 3 Years 5 Years 10 Years 20 Years 20 Years Total Loans
-------- --------- --------- --------- ---------- --------- -----------
(In thousands)
<S> <C> <C> <C> <C> <C> <C> <C>
Real estate:
One- to four-family.... $ 18 $ 9 $ 928 $ 4,012 $ 11,921 $ 65,548 $ 82,436
Multi-family........... 69 1,903 12,142 17,886 117,690 31,250 180,940
Commercial............. 1,081 2,360 4,993 23,687 69,147 15,121 116,389
Construction and land.. 912 1,391 279 1,372 -- -- 3,954
Consumer................... 1,054 8 -- -- 182 -- 1,244
------ ------ ------- ------- -------- -------- --------
Total amount due....... $3,134 $5,671 $18,342 $46,957 $198,940 $111,919 $384,963
====== ====== ======= ======= ======== ======== ========
</TABLE>
2
<PAGE>
The following table sets forth, as of December 31, 1996, the dollar amounts
of gross loans receivable that are contractually due after December 31, 1997 and
whether such loans have fixed or adjustable interest rates.
<TABLE>
<CAPTION>
Due after December 31, 1997
--------------------------------
Fixed(1) Adjustable Total
-------- ---------- --------
(In thousands)
<S> <C> <C> <C>
Real estate:
One- to four-family..................... $ 71,127 $ 11,291 $ 82,418
Multi-family............................ 61,544 119,327 180,871
Commercial.............................. 57,077 58,231 115,308
Construction and land................... 679 2,363 3,042
Consumer................................ 190 -- 190
-------- -------- --------
Total loans receivable................ $190,617 $191,212 $381,829
======== ======== ========
</TABLE>
(1) Includes fixed rate three-year rollover loans.
Loan Origination and Sale. Prior to 1994, substantially all of the Bank's
loan originations were generated on a retail basis through the Bank's branch
offices. In mid-1994, management of the Bank adopted a new loan origination
strategy and hired new loan officers, who rely on a network of loan brokers
operating throughout Southern California for sources of loan applications. The
loan officers operate primarily in certain of the Bank's branch offices and two
loan processing centers located in Orange County and San Diego County.
Management believes that the Bank's new loan origination strategy is not only a
more cost-effective means of originating loans, but also affords the Bank
improved access to potential loan transactions and greater geographic
diversification in Southern California in its loan portfolio. Management
believes that the Bank's lending specializations, service-oriented approach,
timely decision making process and competitive fee structure provide incentives
for brokers to do business with the Bank.
In late 1996, the Bank decided to cease origination of sub-prime loans
secured by one-to-four family residential properties. This decision was made
because the Bank believed that cost associated with the origination of such
loans were higher relative to the other lending areas of the Bank, and that
competition for such product was intensifying.
From time to time, the Bank may sell loans in order to achieve its
asset/liability objectives and generate fee income through retention of loan
servicing rights. During 1996, the Bank sold $12.5 million of single family
loans, designated as available for sale, and during 1995 the Bank sold $7.3
million of commercial real estate loans and during 1994 and 1993, the Bank sold,
in the aggregate, $5.0 million of Title I home improvement loans.
3
<PAGE>
The following table sets forth the Bank's loan originations by
category and purchases, sales and principal repayments of loans for the periods
indicated:
<TABLE>
<CAPTION>
At or For the Years Ended December 31,
---------------------------------------------------
1996 1995 1994 1993 1992
------- ------- ------- ------- -------
(In thousands)
<S> <C> <C> <C> <C> <C>
Beginning balance......................... $312,994 $273,023 $289,397 $315,684 $321,615
-------- -------- -------- -------- --------
Loans originated:
Real estate:
One- to four- family.................. 11,451 18,423 8,063 13,930 42,347
Multi-family.......................... 62,634 48,160 12,590 15,198 7,263
Commercial............................ 36,632 15,587 21,126 10,105 21,320
Construction and land................. 606 5,502 -- 732 466
Consumer................................ 1,149 1,352 3,740 1,458 646
-------- -------- -------- -------- --------
Total loans originated................ 112,472 89,024 45,519 41,423 72,042
Loans purchased........................... 7,690 -- -- 2,248 --
-------- -------- -------- -------- --------
Total................................. 120,162 89,024 45,519 43,671 72,042
-------- -------- -------- -------- --------
Less:
Principal repayments.................... 44,068 42,988 60,012 59,192 74,758
Sales of loans.......................... 12,527 7,257 3,053 1,990 --
Other net changes(1).................... 3,016 (1,192) (1,172) 8,776 3,215
-------- -------- -------- -------- --------
Total loans........................... $373,545 $312,994 $273,023 $289,397 $315,684
======== ======== ======== ======== ========
</TABLE>
- ------------------
(1) Other net changes includes changes in allowance for loan losses, deferred
loan fees, loans in process and unamortized premiums and discounts.
Loan Servicing. Loan servicing is centralized at the Bank's corporate
headquarters and handled through the Loan Administration Department. In addition
to servicing loans held by the Bank, the Loan Administration Department is
servicing $5.0 million of loans originated by the Bank but subsequently sold to
other institutions.
The Bank's loan servicing operations are intended to provide prompt
customer service and accurate and timely information for account follow-up,
financial reporting and management review. Following the funding of an approved
loan, all pertinent loan data is entered into the Bank's data processing system,
which provides monthly billing statements, tracks payment performance, and
effects agreed upon interest rate adjustments on loans. Regular loan service
efforts include payment processing and collection follow up, as well as tracking
the performance of additional borrower obligations with respect to the
maintenance of casualty insurance coverage, payment of property taxes and senior
liens, if any, and periodically requesting required information, including
current borrower and property financial and operating statements. When payments
are not received by their contractual due date, collection efforts begin on the
fifteenth day of delinquency with a telephone contact, and proceed to written
notices that begin with reminders of the borrower's payment obligation and
progress to an advice that a notice of default may be forthcoming. Accounts
delinquent more than 30 days are generally transferred to the Bank's Asset
Management Department which, following a review of the account and the
management approval, implements a collection or restructure plan or a
foreclosure or note sale strategy, and evaluates any potential loss exposure on
the asset. The Bank will generally send a notice of intention to foreclose after
30 days of delinquency.
4
<PAGE>
Underwriting Process. The lending activities of the Bank are guided by the
basic lending policies established by the Board of Directors. Each loan must
meet minimum underwriting criteria established in the Bank's lending policies
and must fit within the Bank's strategies for yield and portfolio enhancement.
In August 1994, the Board of Directors approved new credit underwriting policies
and procedures. Prior to these revisions, loans were originated primarily by
branch managers based primarily on the loan-to-collateral value ratio of the
proposed transaction. Management has revised the Bank's underwriting procedures
to require, among other things, a more thorough analysis of the borrower's
financial condition and the debt coverage ratio of income-producing properties
in various interest rate scenarios (utilizing a fully-indexed interest rate).
The revised policies also emphasize geographic and product diversification.
For all newly-originated loans, upon receipt of a completed loan
application from a prospective borrower, a credit report is ordered and, if
necessary, additional financial information is requested. An independent
appraisal is required on every property securing a Bank loan and additionally,
an internal field review appraisal is conducted for every loan involving more
than $700,000. In addition, the Appraisal Department conducts a review of
appraisals on selected loan files, which have constituted at least 50% of all
loans originated since June 1994. Also, for all multi-family residential and
commercial real estate loans, the responsible loan officer inspects the property
and, if the transaction involves a loan over $1.0 million, the property is
inspected by either the President, Chief Lending Officer or Chief Credit Officer
of the Bank. The Board reviews and approves annually the independent appraisers
used by the Bank and the Bank's appraisal policy.
Subject to the above standards, the Board of Directors has authorized the
following persons to approve new loans involving total liability of the borrower
(new loans plus old loans) of the following amounts: all income property loans
up to $1,000,000 require the approval of at least two members of the Loan
Committee (consisting of the President, Chief Lending Officer and Branch
Administrator), and all loans which bring the total aggregate indebtedness of a
borrower to an amount in excess of $1,000,000 require the additional approval of
at least two outside directors.
In September 1996, the Bank closed its single family lending operation
which produced subprime loans that the Bank held as available for sale. The Bank
decided to close this operation because loan volume generated by it was not
commensurate with its expenses and because competitive pressures were expected
to further reduce origination volumes in the future and adversely affect the
credit quality of available product.
The Bank sold $12.5 million of single family loans during 1996, and
determined at the end of 1996 that the remainder of the single family loans
would be classified as "held to maturity."
Multi-Family Residential Lending. The Bank originates loans secured by
multi-family residential properties (five units and greater). Pursuant to the
Bank's underwriting policies, a multi-family residential ARM loan may only be
made in an amount up to 75% of the appraised value of the underlying property in
a sale transaction and 70% on refinancings. In addition, the Bank generally
requires a minimum debt service ratio (the ratio of net earnings on a property
to debt service) of 1.15, based on the fully indexed loan rate. Substantially
all new originations since August 1994 were indexed to the 11th District Cost of
Funds Index ("COFI").
Loans secured by multi-family residential properties are generally larger
and involve a greater degree of risk than one- to four-family residential loans.
The liquidation value of commercial and multi-family properties may be adversely
affected by risks generally incident to interests in real property, including
changes or continued weakness in general or local economic conditions and/or
specific industry segments; declines in real estate values; declines in rental,
room or occupancy rates; increases in interest rates, real estate and personal
property tax rates and other operating expenses (including energy costs); the
availability of refinancing; changes in governmental rules, regulations and
fiscal policies, including rent control ordinances, environmental legislation,
taxation and other factors beyond the control of the borrower or the lender.
Because of this, the Bank considers the borrower's experience in owning and
managing similar properties and the Bank's lending experience with the borrower.
5
<PAGE>
Commercial Real Estate Lending. The Bank focuses on originating loans
secured by commercial real estate, such as retail centers, small office and
light industrial buildings and other mixed use commercial properties. The Bank
will, from time-to-time, make a loan secured by a special purpose property such
as a restaurant or motel. Pursuant to the Bank's underwriting policies,
commercial real estate loans may be made in amounts up to the lesser of 70% of
the appraised value of the property or the sales price. These loans may be made
with terms up to 30 years and are all indexed to COFI. The Bank's underwriting
standards and procedures are similar to those applicable to its multi-family
residential loans, whereby the Bank considers the net operating income of the
property and requires a debt service coverage ratio of at least 1.15, based on a
fully indexed rate.
Loans secured by commercial real estate properties involve the same
additional risks as discussed above with respect to multi-family residential
loans. Because of this, the Bank considers the borrower's experience in owning
and managing similar properties and the Bank's lending experience with the
borrower. The Bank's underwriting policies require that the borrower is able to
demonstrate strong management skills and the ability to maintain the property's
current income.
Construction and Rehabilitation Lending. On a limited basis, the Bank
originates loans for the development and rehabilitation of property in its
market areas. The Bank's construction loans primarily have been made to finance
the rehabilitation of apartment buildings and the constructing of one- to
four-family residential properties or released properties. These loans are
generally adjustable rate with maturities of 18 months or less. The Bank's
policies provide that construction loans may be made in amounts up to 75% of the
appraised value of the property. As of December 31, 1996, the Bank had $2.3
million of construction loans (less undisbursed loan funds of $1.3 million),
which amounted to 0.6% of the Bank's total loan portfolio. In addition to the
lending risks discussed above with respect to multi-family residential and
commercial real estate loans, construction loans also present risks associated
with the accuracy of the initial estimate of the property's value upon
completion and its actual value, as well as timely completion of construction
activities for the allotted costs. These risks can be affected by a variety of
factors, including the oversight of the project, localized costs for labor and
materials, and the weather.
Credit Administration
- ----------------------
The Chief Credit Officer, who heads the Credit Review Department, provides
independent oversight to the lending function. The Chief Credit Officer reports
to the President and has access to the Board of Directors through the Audit
Committee of the Board, including holding quarterly meetings with the Audit
Committee unaccompanied by other members of management.
Instituted late 1994, new lending policies contain detailed instructions
for each type of lending niche and collateral type utilized by the Bank,
including SFR loans, multi-family residential loans, commercial and mixed-use
property loans, construction loans, take-out commitment loans, leaseholds,
employee loans and participations. Underwriting criteria are set forth in the
Lending Policy Manual, taking into account the types of lending engaged in by
the Bank. In light of high levels of historic losses in certain lending
categories, the Bank's underwriting criteria have been revised to reduce the
levels of certain types of originations, including residential hotels near
Downtown Los Angeles, and special purpose commercial real estate loans. In
addition, the Chief Credit Officer and other members of management have
established new information systems which management believes have, among other
things, resulted in more timely identification of, and development of
dispositions plans for, problem assets.
Credit Review and Loan Closing Oversight. The Chief Credit Officer and the
Credit Review Department, monitor all loans for exceptions to loan policies by
reviewing each loan before approval is received and assigning a loan risk rating
to each proposed credit. Credit Review Department staff also monitor the
accuracy of loan risk ratings (as described below) on an ongoing basis by
reviewing the Bank's management information systems on existing loans.
6
<PAGE>
The Loan Closing Administration Department, in conjunction with the Credit
Review Department, monitors loans for exceptions to loan policies after approval
has been obtained but before funding. If documentation exceptions are noted, the
exceptions are required to be cured prior to funding. Loan Closing
Administration staff track and monitor all exceptions until resolved.
Asset Quality Ratings. The Bank's asset risk rating system is intended to
provide timely identification of potential loan problems in the portfolio and to
identify potential areas for modification in the Bank's lending policies and
procedures. The risk rating system assigns loans to six categories ranging from
"pass" to "loss." There are two designations in the "pass" category called
"pass" and "watch," which consist of credits found to be of acceptable risk.
Loans in this category are generally performing in accordance with their terms,
have significant net operating income and are protected by the paying capacity
of the borrower and/or by the value of the collateral. When a loan shows signs
of potential weaknesses that may affect repayment of the loan or the collateral,
the loan is reclassified "special mention." A loan which has further
deterioration and exhibits defined weaknesses in the borrower's capacity to
repay is reclassified "substandard." Loans that exhibit signs of questionable
repayment are classified "doubtful" and loans that show signs of partial or full
loss are subject to a specific loss allocation.
The Internal Asset Review Committee ("IARC") is responsible for reviewing
and approving asset classifications and the adequacy of the allowance for loan
losses. The IARC meets monthly and reports its findings and recommendations for
risk ratings of assets, potential problem assets and changes in ratings of
previously classified assets to the Board of Directors on a monthly basis. The
IARC consists of the Chief Credit Officer, Chief Executive Officer, Chief
Lending Officer, Chief Financial Officer and Senior Vice President for Loan
Administration.
The Chief Credit Officer reviews, on a periodic basis, various segments of
the loan portfolio and makes periodic reports to senior management, internal and
external auditors and regulatory agencies to facilitate an objective assessment
of the overall asset quality, risks and trends of asset categories. The Chief
Credit Officer also meets periodically with the Audit Committee of the Board in
order to provide an added degree of independence to his analyses and
recommendations.
Troubled Asset Management. All classified assets, special mention and
watch-list credits are generally reported to IARC monthly, through Asset
Classification Reports ("AC Reports"). These reports are prepared by the Loan
Administration and Internal Asset Review Departments and, in addition to
identifying problem loans, specify corrective strategies and dates for
accomplishing the strategies.
When evaluating the AC Reports, management determines if specific reserves
should be set up on impaired loans, depending on the nature of the problem and
the underlying collateral. If there is erosion in either the borrower's cash
flow or underlying collateral value, prompt action is taken to protect the
Bank's position. Such actions may include taking additional collateral,
obtaining further guaranties, declaring a default and accelerating the loan, and
such other legal remedies as may be available to the Bank pursuant to the loan
documents in order to take control of the collateral. The AC Reports are
summarized on the Troubled Asset Report, which is used to monitor the activity
of credits both in terms of changing loan balances and forecasting based on risk
ratings and dispositions. Furthermore, the Troubled Asset Report and AC Report
are provided to the IARC for review and analysis, and ultimately to the Board of
Directors in monthly Board packages.
Concentrations of Credit. Under federal law, the Bank's ability to make
aggregate loans to one borrower is limited to 15% of unimpaired capital and
surplus (as of December 31, 1996 this amount was $6.4 million) plus an
additional 10% of unimpaired capital and surplus if a loan is secured by
readily-marketable collateral (defined to include only certain financial
instruments and gold bullion), although management generally does not make loans
in excess of $2.0 million. The Bank's largest single loan was for approximately
$1.8 million at December 31, 1996. At December 31, 1996, the Bank had three
lending relationships which exceeded $2.0 million in aggregate indebtedness.
These lending relationships are comprised of a number of separate multi-family
residential loans to long-time borrowers of the Bank. All such loans were
performing and were not classified at December 31, 1996.
7
<PAGE>
Nonperforming Assets
- --------------------
The following table sets forth the amounts of nonaccrual loans, real
estate owned ("REO") and troubled debt restructurings ("TDRs") at the dates
indicated:
<TABLE>
<CAPTION>
At December 31,
---------------------------------------------------
1996 1995 1994 1993 1992
------- ------- ------- ------- -------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Nonaccrual loans:
Real estate:
One- to four- family.................. $ 474 $ 1,506 $ 1,964 $ 422 $ 396
Multi-family.......................... 1,320 2,181 4,826 4,918 5,167
Commercial............................ 1,653 1,496 2,248 4,212 682
Construction and land................. -- -- -- 459 695
Consumer................................ 8 36 -- -- --
------- ------- ------- ------- -------
Total................................. 3,455 5,219 9,038 10,011 6,940
REO $ 1,400 2,966 6,791 9,169 5,942
------- ------- ------- ------- -------
Total nonperforming assets $ 4,855 $ 8,185 $15,829 $19,180 $12,882
======= ======= ======= ======= =======
TDRs...................................... $ 7,428 $ 9,377 $ 8,877 $ 7,567 --
======= ======= ======= ======= =======
Allowance for loan losses as a percent
of gross loans receivable(1)............ 2.00% 2.18% 3.10% 1.73% 0.95%
Allowance for loan losses as a percent
of total nonperforming loans............ 222.24% 135.20% 97.72% 51.36% 43.99%
Nonperforming loans as a percent of
gross loans receivable(1)............... 0.90% 1.61% 3.17% 3.36% 2.16%
Nonperforming assets as a percent of
total assets............................ 0.99% 1.78% 3.41% 4.28% 3.03%
</TABLE>
- ------------------
(1) Gross loans receivable includes loans receivable less loan participations
and unamortized premiums and discounts.
Nonaccrual Loans. Loans are automatically placed on nonaccrual status
when principal or interest payments are past due greater than 90 days (no loans
past due greater than 90 days are still on accrual status). At December 31,
1996, the Bank had 25 loans on nonaccrual status (consisting of seven one- to
four- family residential loans, nine multi-family residential loans, seven
commercial real estate loans and two consumer loans), including one loan of
approximately $870,000 (a commercial real estate loan secured by a restaurant).
Interest income foregone by the Bank on nonaccrual loans compared to the
original terms of such loans during 1996 and 1995 totaled $692,000 and $1.3
million, respectively.
Real Estate Owned. The Bank's general policy is to initiate
foreclosure proceedings when loans are more than 30 days past due. Some loans
that are more than 30 days past due are never actually foreclosed upon,
however, because the borrower brings the account current before a formal notice
of default is filed. Assets classified as REO include properties upon which the
Bank has foreclosed on the borrower's real estate collateral or a deed has been
offered in lieu of foreclosure. At December 31, 1996, the Bank's REO portfolio
totaled $1.4 million, consisting of two SFR properties, two multi-family
residential properties and two commercial real estate properties. No properties
are valued at more than $500,000.
Troubled Debt Restructurings. A TDR is a loan on which the Bank has
reduced the rate of interest to a below-market rate or has forgiven all or part
of the interest income or part of the principal balance of the loan due to the
borrower's financial condition, including reduced cash flow, reduced
collateral value or other conditions that
8
<PAGE>
impair the borrower's ability to repay the loan according to the original terms.
At December 31, 1996, the Bank had 22 loans classified as TDRs. Interest income
foregone by the Bank on TDRs compared to the original terms of such loans during
1996 and 1995 totaled $268,000 and $138,000, respectively.
Classified Assets. The Internal Asset Review and Credit Review
Departments periodically review segments of the Bank's loan portfolio and assign
to each loan a classification according to the Bank's risk rating system.
Classified assets (consisting of net nonaccrual loans, net loans graded as
substandard or lower and REO) at December 31, 1996 and December 31, 1995 were
$15.7 million and $22.2 million, respectively. At December 31, 1996, classified
assets consisted of 69 loans and six REO properties. Four classified loans
totaling $3.5 million had net principal balances in excess of $500,000 at
December 31, 1996, and no REO properties exceeded $500,000 at such date.
Delinquent Loans. The following tables set forth loans delinquent
30-59 days and 60-89 days in the loan portfolio as of the dates indicated:
<TABLE>
<CAPTION>
At December 31, 1996 At December 31, 1995 At December 31, 1994
---------------------- ---------------------- ----------------------
30-59 Days 60-89 Days 30-59 Days 60-89 Days 30-59 Days 60-89 Days
Principal Principal Principal Principal Principal Principal
Balance Balance Balance Balance Balance Balance
of Loans of Loans of Loans of Loans of Loans of Loans
---------- ---------- ---------- ---------- ---------- ----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Real Estate:
One- to four- family $1,640 $1,779 $ 385 $ 30 $2,050 $ 409
Multi-family 2,069 1,577 1,104 802 846 2,858
Commercial 512 213 1,735 606 1,411 452
Construction and land -- -- -- -- 85 --
Consumer -- -- -- -- -- --
------ ------ ------ ------ ------ ------
Total $4,221 $3,569 $3,224 $1,438 $4,392 $3,719
====== ====== ====== ====== ====== ======
Delinquent loans to total loans(1) 1.10% 0.93% 1.00% 0.44% 1.54% 1.31%
</TABLE>
(1) Total loans includes loans receivable less loan participations and
unamortized premiums and discounts.
Allowance for Loan Losses. The allowance for loan losses is
established through a provision for loan losses based on management's evaluation
of the risks inherent in its loan portfolio and the general economy. The
allowance is increased by provisions charged against earnings and reduced by net
loan chargeoffs. Loans are charged off when they are deemed to be uncollectible,
or partially charged off when portions of a loan are deemed to be uncollectible.
Recoveries are generally recorded only when cash payments are received.
In determining the adequacy of the allowance, management initially
considers the allowances specifically allocated to individual impaired loans,
and next considers the level of general loss allowances deemed appropriate for
the balance of the portfolio based on factors including levels of problem loans,
general portfolio trends relative to asset and portfolio size, asset categories,
potential credit considerations, nonaccrual loan levels, historical loss
experience, risks associated with changes in economic and business conditions,
and other factors. In addition, various regulatory agencies, as an integral part
of their examination process, periodically review the Bank's allowance for loan
losses. Such agencies may require the Bank to make additional provisions for
loan losses based upon judgments which differ from those of management. In the
third quarter of 1996, the Bank increased its level of loss allowances as a
result of an examination performed by the Office of Thrift Supervision.
9
<PAGE>
The following table sets forth information regarding the Bank's allowance
for loan losses at the dates and for the periods indicated:
<TABLE>
<CAPTION>
At or For the Years Ended December 31,
-------------------------------------------
1996 1995 1994 1993 1992
------ ------ ------- ------ ------
(In thousands)
<S> <C> <C> <C> <C> <C>
Balance at beginning of period $7,056 $8,832 $ 5,142 $3,053 $1,754
Provision for loan losses 3,930 5,221 13,536 6,758 1,679
Chargeoffs:
Real estate loans:
One- to four-family............. 590 1,196 867 1,895 243
Multi-family.................... 1,925 4,936 7,278 2,031 --
Commercial...................... 785 1,616 1,229 338 --
Construction and land........... 21 164 472 405 137
Consumer.......................... 2 -- -- --
------ ------ ------- ------ ------
Total........................... 3,323 7,912 9,846 4,669 380
Recoveries.......................... 13 915 -- -- --
------ ------ ------- ------ ------
Balance at end of period............ $7,676 $7,056 $ 8,832 $5,142 $3,053
====== ====== ======= ====== ======
</TABLE>
The Bank made provisions for loan losses during 1993 and 1994 at
historically high levels and loan chargeoffs during these years exceeded the
allowance at the beginning of each such year, primarily due to the worsening of
economic conditions in the Bank's market areas and declines in real estate
values during these years. Beginning in the latter part of 1992 and accelerating
during 1993 and 1994, the economic recession in California and substantial
declines in real estate values generally in Los Angeles County adversely
affected the values of collateral securing the Bank's loans and the ability and
willingness of certain of the Bank's borrowers to maintain their properties and
repay their loans. As a result, the Bank began experiencing significantly higher
and accelerating levels of loan losses and costs associated with foreclosed
loans during each of 1993 and 1994 before declining in 1995 and 1996. However,
while nonaccrual loans increased from $3.9 million to $6.9 million to $10.0
million at the beginning of 1992, 1993 and 1994, respectively, the beginning
ratio of allowance for loan losses to nonaccrual loans during those years
remained stable at 44.8%, 44.0% and 51.4%, respectively. Nonaccrual loans
decreased from $9.0 million at the beginning of 1995 to $5.2 million at the
beginning of 1996, to $3.5 million at December 31, 1996, while the ratio of
allowance for loan losses to nonaccrual loans increased during 1996 from 135.2%
to 222.2% respectively.
Another factor which caused increased chargeoffs during 1994 included the
implementation by current management in mid-1994 of aggressive collection
policies and procedures. See "Credit Administration." Also, the earthquake in
Southern California in January 1994 caused material damage to certain properties
securing approximately $17.0 million in Bank loans, which resulted in additional
unanticipated direct chargeoffs and increased defaults during 1994.
The Bank's allowance for loan losses was $7.7 million at December 31, 1996.
The determination of this allowance requires the use of estimates and
assumptions regarding the risks inherent in individual loans and the loan
portfolio in its entirety. While management believes that these estimates and
assumptions are reasonable, there can be no assurances that they will not prove
incorrect in the future. The actual amount of future provisions that may be
required cannot be determined as of the date hereof, and such provisions may
exceed the amounts of past provisions.
10
<PAGE>
The following tables set forth the Bank's percent of allowance for loan
losses to total allowance for loan losses and the percent of loans to total
loans in each of the categories listed at the dates indicated.
<TABLE>
<CAPTION>
At December 31,
---------------------------------------------------------------------------------------------------------
1996 1995 1994
--------------------------------- --------------------------------- ---------------------------------
Percent of Percent of Percent of
Percent of Loans in Percent of Loans in Percent of Loans in
Allowance Each Allowance Each Allowance Each
to Total Category to to Total Category to to Total Category to
Amount Allowance Total Loans Amount Allowance Total Loans Amount Allowance Total Loans
------ ---------- ----------- ------ ---------- ----------- ------ ---------- -----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Real estate:
One- to four-
family.......... $ 958 12.48% 21.42% $1,411 20.00% 30.82% $1,637 18.53% 33.98%
Multi-family..... 4,686 61.05 47.00 3,443 48.80 39.27 5,306 60.08 32.64
Commercial....... 1,898 24.73 30.23 2,093 29.66 27.30 1,793 20.30 32.29
Construction and
land............ 134 1.74 1.03 92 1.30 2.33 84 0.95 0.81
Consumer........... -- -- 0.32 17 24 0.28 12 0.14 0.28
------ ------ ------ ------ ------ ------ ------ ------ ------
Total......... $7,676 100.00% 100.00% $7,056 100.00% 100.00% $8,832 100.00% 100.00%
====== ====== ====== ====== ====== ====== ====== ====== ======
<CAPTION>
At December 31,
---------------------------------------------------------------------
1993 1992
--------------------------------- ---------------------------------
Percent of Percent of
Percent of Loans in Percent of Loans in
Allowance Each Allowance Each
to Total Category to to Total Category to
Amount Allowance Total Loans Amount Allowance Total Loans
------ ---------- ----------- ------ ---------- -----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Real estate:
One- to four-
family.......... $ 849 16.51% 37.70% $1,269 41.57% 42.85%
Multi-family..... 2,139 41.60 33.21 951 31.15 31.96
Commercial....... 1,976 38.43 27.27 783 25.65 23.58
Construction and
land............ 165 3.21 1.51 50 1.63 1.43
Consumer........... 13 0.25 0.31 -- 0.18
------ ------ ------ ------ ------ ------
Total......... $5,142 100.00% 100.00% $3,053 100.00% 100.00%
====== ====== ====== ====== ====== ======
</TABLE>
Investment Activities
- ---------------------
Federally chartered savings institutions such as the Bank are authorized to
invest in various types of liquid assets, including U.S. Treasury obligations,
securities of various federal agencies, certificates of deposit of insured banks
and savings institutions, bankers' acceptances, repurchase agreements and
federal funds. Subject to various restrictions, federally chartered savings
institutions may also invest their assets in commercial paper, investment-grade
corporate debt securities and mutual funds whose assets conform to the
investments that a federally chartered savings institution is otherwise
authorized to make directly. Additionally, the Bank must maintain minimum levels
of investment as liquid assets under OTS regulations. See "Supervision and
Regulation--Federal Savings Institution Regulation--Liquidity." Historically,
the Bank has maintained liquid assets above the minimum OTS requirements and at
a level considered to be adequate to meet its normal daily activities.
The investment policy of the Bank, as established by the Board of
Directors, attempts to provide for and maintain liquidity, generate a favorable
return on investments without incurring undue interest rate and credit risk, and
complement the Bank's lending activities. Specifically, the Bank's policies
generally limit investments to government and federal agency-backed securities
and other non-government guaranteed securities, including corporate debt
obligations, that are investment grade. The Bank's policies provide the
authority to invest in mortgage-backed securities guaranteed by the U.S.
government and agencies thereof. The Bank's policies provide that all investment
11
<PAGE>
purchases between $3.0 million and $10.0 million must be approved by two
officers of the Investment Committee (either the President, Chief Financial
Officer or Chief Lending Officer) while all investment purchases exceeding $10.0
million require the approval of two officers of the Investment Committee and two
outside directors of the Asset/Liability Committee and must be ratified by the
Board of Directors. At December 31, 1996, the Bank had no federal funds sold and
had short-term investments consisting of $23.0 million in money market mutual
funds.
At December 31, 1996, the Bank had $3.0 million in U.S. Treasury and agency
securities. The Bank's mortgage-backed security ("MBS") portfolio consists of
seasoned fixed-rate and balloon MBSs, longer term fixed-rate securities and
adjustable-rate securities. At December 31, 1996, all of the Bank's MBSs were
insured or guaranteed by either the Federal National Mortgage Association or
Federal Home Loan Mortgage Corporaton, including a cost basis of $34.4 million
in MBSs available for sale. Investments in MBSs involve a risk that actual
prepayments will be greater than estimated prepayments over the life of the
security, which may require adjustments to the amortization of any premium or
accretion of any discount relating to such instruments thereby reducing the net
yield on such securities. There is also reinvestment risk associated with the
cash flows from such securities. In addition, the market value of such
securities may be adversely affected by changes in interest rates.
The following tables set forth the carrying values and estimated fair
values of the Bank's investment portfolio at the dates indicated.
<TABLE>
<CAPTION>
At December 31, 1996 At December 31, 1995 At December 31, 1994
--------------------- --------------------- ---------------------
Amortized Estimated Amortized Estimated Amortized Estimated
cost fair value cost fair value cost fair value
--------- ---------- --------- ---------- --------- ----------
(In thousands)
<S> <C> <C> <C> <C> <C> <C>
Securities available for sale:
U.S. Treasury and agency securities...... $ 2,982 $ 2,968 $ 2,972 $ 2,960 $ 6,922 $ 6,426
Mortgage-backed securities............... 34,431 34,070 41,438 40,914 34,948 33,243
------- ------- ------- ------- ------- -------
Total debt securities.................. 37,413 37,038 44,410 43,874 41,870 39,669
Equity securities (money market funds)... 23,000 23,000 3,000 3,000 11,000 11,000
------- ------- ------- ------- ------- -------
Total.................................. $60,413 $60,038 $47,410 $46,874 $52,870 $50,669
======= ======= ======= ======= ======= =======
<CAPTION>
At December 31, 1996 At December 31, 1995 At December 31, 1994
--------------------- --------------------- ---------------------
Amortized Estimated Amortized Estimated Amortized Estimated
cost fair value cost fair value cost fair value
--------- ---------- --------- ---------- --------- ----------
(In thousands)
<S> <C> <C> <C> <C> <C> <C>
Securities held to maturity:
U.S. Treasury and agency securities..... $ -- $ -- $ -- $ -- $ 1,000 $ 970
Mortgage-backed securities.............. 17,969 17,493 20,787 20,558 97,370 90,719
------- ------- ------- ------- ------- -------
Total................................. $17,969 $17,493 $20,787 $20,558 $98,370 $91,689
======= ======= ======= ======= ======= =======
</TABLE>
12
<PAGE>
The contractual maturities of debt securities held to maturity and
available for sale at December 31, 1996 were as follows:
<TABLE>
<CAPTION>
Held to maturity Available for sale
---------------------- ----------------------
Amortized Estimated Amortized Estimated
cost fair value cost fair value
--------- ---------- --------- ----------
(In thousands)
<S> <C> <C> <C> <C>
Due from one year to five years.. $ -- $ -- $21,438 $21,041
Due from five to ten years....... -- -- 3,417 3,389
Due after ten years.............. 17,969 17,493 12,558 12,608
------- ------- ------- -------
$17,969 $17,493 $37,413 $37,038
======= ======= ======= =======
</TABLE>
SOURCES OF FUNDS
General
- -------
Deposits, loan repayments and prepayments, proceeds from the sales of
loans, cash flows generated from operations and FHLB advances are the primary
sources of the Bank's funds for use in lending, investing and for other general
purposes.
Deposits
- --------
The Bank offers a variety of deposit accounts with a range of interest
rates and terms. The Bank's deposits consist of checking accounts, money market
accounts, passbook accounts and certificates of deposit. For 1996, certificates
of deposit constituted 78.1% of total deposits. The flow of deposits is
influenced significantly by general economic conditions, changes in money market
rates, prevailing interest rates and competition. The Bank's deposits are
obtained predominantly from the areas in which its branch offices are located.
The Bank relies primarily on customer service, aggressive marketing and
cross-selling to customers and prospects to attract and retain these deposits.
However, market interest rates and products, and rates offered by competing
financial institutions significantly affect the Bank's ability to grow and
retain deposits. See Note G of the Notes to Consolidated Financial Statements
for a discussion of the type of deposits accounts offered by the Bank. The Bank
does not currently accept brokered deposits.
The following table represents the deposit activity of the Bank for the
periods indicated:
<TABLE>
<CAPTION>
For the Years Ended December 31,
1996 1995 1994
-------- -------- -------
(In thousands)
<S> <C> <C> <C>
Net deposits (withdrawals)..................... $(11,846) $(16,506) $14,555
Interest credited on deposit accounts.......... 18,068 18,539 14,184
-------- -------- -------
Total increase (decrease) in deposit accounts.. $ 6,222 $ 2,033 $28,739
======== ======== =======
</TABLE>
13
<PAGE>
At December 31, 1996, the Bank had $56.2 million in certificate accounts
in amounts of $100,000 or more, consisting of 483 accounts, maturing as follows:
<TABLE>
<CAPTION>
Weighted
Average
Maturity Period Amount Rate
------------------------------- -------- --------
(Dollars in thousands)
<S> <C> <C>
Three months or less........... $ 8,252 5.39%
Over three through six months.. 10,443 5.45
Over six through 12 months..... 22,435 5.64
Over 12 months................. 15,104 6.04
------- ----
Total................. $56,234 5.67%
======= ====
</TABLE>
The following table sets forth the distribution of the Bank's average
deposit accounts for the periods indicated and the weighted average interest
rates on each category of deposits presented.
<TABLE>
<CAPTION>
For the Years Ended December 31,
-------------------------------------------------------------------------------------------------
1996 1995 1994
---------------------------------- ---------------------------- -------------------------------
Percent of Percent of Percent of
Total Weighted Total Weighted Total Weighted
Average Average Average Average Average Average Average Average Average
Balance Deposits Rate Balance Deposits Rate Balance Deposits Rate
--------- ---------- -------- ------- ---------- -------- ------- ---------- --------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Money market savings accounts. $ 23,281 6.21% 2.92% $ 25,874 6.80% 3.01% $ 45,575 12.83% 3.04%
Passbook accounts............. 32,222 8.59 2.65 38,168 10.03 3.34 51,622 14.53 3.74
NOW accounts.................. 24,453 6.52 1.42 24,847 6.53 1.94 24,662 6.94 2.11
Noninterest-bearing accounts.. 9,143 2.43 -- 6,727 1.77 -- 5,142 1.45 --
-------- ------ -------- ------ -------- ------
Total....................... 89,099 23.75 2.16 95,616 25.13 2.65 127,001 35.75 3.02
Certificate accounts:
Less than six months........ 6,907 1.84 3.49 3,164 0.83 3.73 7,905 2.22 2.09
Over six through 12 months.. 83,074 22.15 5.00 138,355 36.35 5.57 78,819 22.18 4.39
Over 12 through 24 months... 100,613 26.82 6.19 41,598 10.93 5.41 37,194 10.47 4.92
Over 24 months.............. 28,138 7.50 6.30 32,132 8.44 5.84 33,350 9.39 6.11
IRA/KEOGH................... 67,305 17.94 5.60 69,742 18.32 5.81 71,028 19.99 4.80
-------- ------ -------- ------ -------- ------
Total certificate
accounts.................. 286,037 76.25 5.66 284,991 74.87 5.61 228,296 64.25 4.53
-------- ------ -------- ------ -------- ------
Total average deposits..... $375,136 100.00% 4.82% $380,607 100.00% 4.87% $355,297 100.00% 3.99%
======== ====== ======== ====== ======== ======
</TABLE>
The following table presents, by various rate categories, the amount of
certificate accounts outstanding at the dates indicated and the periods to
maturity of the certificate accounts outstanding at December 31, 1996.
<TABLE>
<CAPTION>
Period to Maturity from December 31, 1996 At December 31,
--------------------------------------------------------------------- ------------------------
Two to
Less than One to Three Three to Four to
One Year Two Years Years Four Years Five Years 1996 1995 1994
--------- --------- ------ ---------- ---------- -------- -------- ---------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Certificate accounts:
0 to 4.00%............. $ 10 $ -- $ -- $ -- $ -- $ 10 $ 1,998 $ 14,592
4.01 to 6.00%.......... 200,811 42,954 2,421 469 278 246,933 186,168 222,752
6.01 to 8.00%.......... 32,408 16,256 2,776 904 1,254 53,598 97,311 33,677
Over 8.00%............. -- -- -- -- -- -- -- 320
-------- ------- ------ ------ ------ -------- -------- --------
Total............... $233,229 $59,210 $5,197 $1,373 $1,532 $300,541 $285,477 $271,341
======== ======= ====== ====== ====== ======== ======== ========
</TABLE>
14
<PAGE>
Borrowings
- ----------
From time to time, the Bank has obtained advances from the FHLB as an
alternative to deposit funds and may make greater use of such funds in the
future as part of its operating strategy. These advances are collateralized
primarily by certain of the Bank's mortgage loans and MBSs and secondarily by
the Bank's investment in capital stock of the FHLB. Such advances are made
pursuant to several different credit programs, each of which has its own
interest rate and range of maturities. The maximum amount that FHLB will advance
to member institutions, including the Bank, fluctuates from time to time in
accordance with the policies of the OTS and the FHLB. During 1996, the Bank
increased its borrowings by a net of $23.0 million. At December 31, 1996, the
Bank had $62.5 million in outstanding advances from the FHLB and no other
borrowings. Of these borrowings, $24.5 million mature in 1997, $30.0 million
mature in 1998 and $8.0 million mature in 1999. The interest rates payable by
the Bank on its borrowings at December 31, 1996 range from 5.51% to 8.29%.
The following table sets forth certain information regarding the Bank's
borrowed funds at the dates and for the periods indicated:
<TABLE>
<CAPTION>
At or For the Years Ended December 31,
--------------------------------------
1996 1995 l994
--------- --------- ---------
(Dollars in thousands)
<S> <C> <C> <C>
FHLB advances:
Average balance outstanding.......... $39,563 $51,734 $70,437
Maximum amount outstanding at any
month-end during the period......... $62,500 $61,500 $79,700
Balance outstanding at end of period. $62,500 $39,500 $61,500
Weighted average interest rate
during the period................... 5.96% 5.44% 5.13%
Weighted average interest rate at
end of period....................... 6.19% 5.70% 5.30%
</TABLE>
SUPERVISION AND REGULATION
General
- -------
The Bank is subject to extensive regulation, examination and supervision by
the OTS, as its chartering agency, and by the FDIC, as the insurer of its
deposits. The Bank is a member of the Federal Home Loan Bank System and its
deposit accounts are insured up to applicable limits by the SAIF fund of the
FDIC. The Bank is required to file reports with the OTS and the FDIC concerning
its activities and financial condition, in addition to obtaining regulatory
approvals prior to entering into certain transactions such as mergers with, or
acquisitions of, other financial institutions. There are periodic examinations
by the OTS and the FDIC to test the Bank's compliance with various regulatory
requirements. These types of regulation and supervision establish a
comprehensive framework of activities in which an institution such as the Bank
may engage, and is intended primarily for the protection of the insurance fund
and depositors. This structure also gives the regulatory authorities extensive
discretion in connection with their supervisory and enforcement activities and
examination policies, including policies with respect to the classification of
assets and the establishment of adequate loan loss reserves for regulatory
purposes. Any change in such policies, whether by the OTS, the FDIC or the
Congress, could have a material adverse impact on the Bank and its operations.
Any change in the regulatory structure or the statutes or regulations
applicable to the Bank, whether by the OTS, the FDIC or the Congress, could have
a material impact on the Bank and its operations. Congress is expected to
consider in 1997 the elimination of the federal thrift charter and the
abolishment of the OTS. The results of such consideration, including possible
enactment of legislation, is uncertain. Therefore, the Bank is unable to
determine the extent to which the results of such consideration or possible
legislation, if enacted, would affect its business.
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Certain of the regulatory requirements applicable to the Bank are referred
to below or elsewhere herein. The descriptions of statutory provisions and
regulations applicable to savings institutions set forth herein do not purport
to be complete descriptions of such statutes and regulations or their actual or
potential effects on the Bank, and are qualified in their entirety by reference
to such statutes and regulations.
Federal Savings Institution Regulation
- --------------------------------------
Business Activities. The activities of federal savings institutions are
governed by the Home Owners' Loan Act, as amended (the "HOLA") and, in certain
respects, the Federal Deposit Insurance Act ("FDI Act"), and the regulations
issued by the various federal banking agencies to implement these statutes.
These laws and regulations delineate the nature and extent of the activities in
which federal savings institutions such as the Bank may engage. In particular,
many types of lending authority for federal savings institutions, e.g.,
commercial, non-residential real property loans and consumer loans, are limited
to a specified percentage of the institution's capital or assets.
Loans to One Borrower. Under the HOLA, savings institutions are generally
subject to the national bank limit on loans to one borrower. Generally, this
limit is 15% of the Bank's unimpaired capital and surplus (as of December 31,
1996 this amount was $6.4 million) plus an additional 10% of unimpaired capital
and surplus, if such loan is secured by readily-marketable collateral, which is
defined to include certain financial instruments and gold bullion, although
management generally does not make loans in excess of $2.0 million. At December
31, 1996, the Bank's largest aggregate amount of loans to one borrower was $2.4
million and the second largest borrower had an aggregate balance of $2.3
million.
QTL Test. The HOLA requires savings institutions to meet a QTL test. Under
the QTL test, a savings institution is required to maintain at least 65% of its
"portfolio assets" (total assets less: (i) specified liquid assets up to 20% of
total assets; (ii) intangibles, including goodwill; and (iii) the value of
property used to conduct business) in certain "qualified thrift investments"
(primarily residential mortgages and related investments, including certain
mortgage-backed and related securities) in at least nine months out of each 12-
month period. A savings institution that fails the QTL test must either convert
to a bank charter or operate under certain restrictions. As of December 31,
1996, the Bank maintained 73.2% of its portfolio assets in qualified thrift
investments and, therefore, met the QTL test. Recent legislation has expanded
the extent to which education loans, credit card loans and small business loans
may be considered as "qualified thrift investments."
Nonresidential Real Estate Loans. OTS regulations impose limitations on the
Bank's ability to make loans secured by nonresidential real estate, which
includes commercial real estate but does not include multi-family residential
real estate. Under the OTS regulations, an institution such as the Bank would be
limited to holding loans on the security of nonresidential real estate to a
maximum of 400% of total capital. In the case of the Bank, 400% of total capital
equaled $140.4 million at December 31, 1996. As of such date, the Bank held
$120.0 million in nonresidential real estate loans. The Bank may in the future
sell or participate out new or existing loans in this category in order to
maintain compliance with the limit. The OTS regulations permit lending in excess
of the prescribed limit if the OTS finds that such lending "will not present a
significant risk to the safe and sound operation of the association and is
consistent with prudent operating practices." There can be no assurance that the
OTS would make such a finding in the case of the Bank.
Limitation on Capital Distributions. OTS regulations impose limitations on
all capital distributions by savings institutions, such as cash dividends,
payments to repurchase or otherwise acquire shares, payments to shareholders of
another institution in a cash-out merger and other distributions charged against
capital. The rule establishes three tiers of institutions, which are based
primarily on an institution's capital level. An institution that exceeds all
fully phased-in regulatory capital requirements before and after a proposed
capital distribution and has not been advised by the OTS that it is in need of
more than normal supervision, could, after prior notice to, but without the
approval of the OTS, make capital distributions during a calendar year equal to
the greater of: (i) 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 (ii) 75% of its
16
<PAGE>
net earnings for the previous four quarters. Any additional capital
distributions would require prior OTS approval. In the event an institution's
capital fell below its capital requirements or the OTS notified it that it was
in need of more than normal supervision, the institution's ability to make
capital distributions could be restricted. In addition, the OTS could prohibit a
proposed capital distribution by any institution, which would otherwise be
permitted by the regulation, if the OTS determines that such distribution would
constitute an unsafe or unsound practice.
Liquidity. The Bank is required to maintain an average daily balance of
specified liquid assets equal to a monthly average of not less than a specified
percentage (currently 5%) of its net withdrawable deposit accounts plus short-
term borrowings. OTS regulations also require each savings institution to
maintain an average daily balance of short-term liquid assets at a specified
percentage (currently 1%) of the total of its net withdrawable deposit accounts
and borrowings payable in one year or less. Monetary penalties may be imposed
for failure to meet these liquidity requirements. The Bank's average liquidity
ratio for December 31, 1996 was 11.11%, which exceeded the then applicable
requirements.
Assessments. Savings institutions are required by regulation to pay
assessments to the OTS to fund the agency's operations. The general assessment,
paid on a semi-annual basis, is computed upon the savings institution's total
assets, including consolidated subsidiaries, as reported in the Bank's latest
quarterly Thrift Financial Report. The assessments paid by the Bank for the
years ended December 31, 1996 and 1995 totaled $105,100 and $134,500,
respectively.
Branching. OTS regulations permit federally chartered savings institutions
to branch nationwide under certain conditions. Generally, federal savings
institutions may establish interstate networks and geographically diversify
their loan portfolios and lines of business. The OTS authority preempts any
state law purporting to regulate branching by federal savings institutions.
Transactions with Related Parties. The Bank's authority to engage in
transactions with related parties or "affiliates" (i.e., any company that
controls or is under common control with an institution) is limited by Sections
23A and 23B of the Federal Reserve Act ("FRA"). Section 23A limits the aggregate
amount of covered transactions with any individual affiliate to 10% of the
capital and surplus of the savings institution and also limits the aggregate
amount of transactions with all affiliates to 20% of the savings institution's
capital and surplus. Certain transactions with affiliates are required to be
secured by collateral in an amount and of a type described in Section 23A and
the purchase of low quality assets from affiliates is generally prohibited.
Section 23B generally requires that certain transactions with affiliates,
including loans and asset purchases, must be on terms and under circumstances,
including credit standards, that are substantially the same or at least as
favorable to the institution as those prevailing at the time for comparable
transactions with non-affiliates companies. Notwithstanding Sections 23A and
23B, savings institutions are prohibited from lending to any affiliate that is
engaged in activities that are not permissible for bank holding companies under
Section 4(c) of the Bank Holding Company Act ("BHC Act"). Further, no savings
institution may purchase the securities of any affiliate other than a
subsidiary.
The Bank's authority to extend credit to executive officers, directors and
10% shareholders, as well as entities controlled by such persons, is currently
governed by Sections 22(g) and 22(h) of the FRA, and Regulation O thereunder.
Among other things, these regulations require that such loans to be made on
terms and conditions substantially the same as those offered to unaffiliated
individuals and not involve more than the normal risk of repayment. Regulation O
also places individual and aggregate limits on the amount of loans the Bank may
make to such persons based, in part, on the Bank's capital position, and
requires certain board approval procedures be followed. The OTS regulations,
with certain minor variances, apply Regulation O to savings institutions.
Enforcement. Under the FDI Act, the OTS has primary enforcement
responsibility over savings institutions and has the authority to bring action
against all "institution-affiliated parties," including shareholders, and any
attorneys, appraisers and accountants who knowingly or recklessly participate in
wrongful action likely to have an adverse effect on an insured institution.
Formal enforcement action may range from the issuance of a capital directive or
cease and desist order to removal of officers or directors, receivership,
conservatorship or termination of deposit
17
<PAGE>
insurance. Civil penalties cover a wide range of violations and can amount to
$25,000 per day, or $1 million per day in especially egregious cases. Under the
FDI Act, the FDIC has the authority to recommend to the Director of the OTS that
enforcement action be taken with respect to a particular savings institution. If
action is not taken by the Director, the FDIC has authority to take such action
under certain circumstances. Federal and state law also establish criminal
penalties for certain violations.
Standards for Safety and Soundness. The FDI Act requires each federal
banking agency to prescribe for all insured depository institutions standards
relating to, among other things, internal controls, information systems and
audit systems, loan documentation, credit underwriting, interest rate risk
exposure, asset growth, compensation, fees and benefits and such other
operational and managerial standards as the agency deems appropriate. The
federal bank regulatory agencies have adopted final regulations and Interagency
Guidelines Establishing Standards for Safety and Soundness ("Guidelines") to
implement these safety and soundness standards. The Guidelines set forth the
safety and soundness standards that the agencies use to identify and address
problems at insured depository institutions before capital becomes impaired. The
Guidelines address internal controls and information systems; internal audit
system; credit underwriting; loan documentation; interest rate risk exposure;
asset growth; asset quality; earnings; and compensation, fees and benefits. If
the appropriate federal banking agency determines that an institution fails to
meet any standard prescribed by the Guidelines, the agency may require the
institution to submit to the agency an acceptable plan to achieve compliance
with the standard, as required by the FDI Act. The final regulation establishes
deadlines for the submission and review of such safety and soundness compliance
plans.
Capital Requirements. The OTS capital regulations require savings
institutions to meet three capital standards: a 1.5% tangible capital standard,
a 3% leverage (core capital) ratio and an 8% risk-based capital standard. Core
capital is defined as common shareholders' equity (including retained earnings),
certain noncumulative perpetual preferred stock and related surplus, minority
interests in equity accounts of consolidated subsidiaries less intangibles other
than certain purchased mortgage servicing rights ("PMSRs") and credit card
relationships. The OTS regulations also require that, in meeting the leverage
ratio, tangible and risk-based capital standards, institutions generally must
deduct investments in and loans to subsidiaries engaged in activities not
permissible for a national bank. In addition, the OTS prompt corrective action
regulation provides that a savings institution that has a leverage capital ratio
of less than 4% (3% for institutions receiving the highest CAMEL examination
rating) will be deemed to be "undercapitalized" and may be subject to certain
restrictions. See "Supervision and Regulation--Prompt Corrective Regulatory
Action."
The risk-based capital standard for savings institutions requires the
maintenance of total capital (which is defined as core capital and supplementary
capital) to risk-weighted assets of 8%. In determining the amount of risk-
weighted assets, all assets, including certain off-balance sheet assets, are
multiplied by a risk-weight of 0% to 100%, as assigned by the OTS capital
regulation based on the risks OTS believes are inherent in the type of asset.
The components of supplementary capital currently include cumulative preferred
stock, long-term perpetual preferred stock, mandatory convertible securities,
subordinated debt and intermediate preferred stock and, within specified limits,
the allowance for loan and lease losses. Overall, the amount of supplementary
capital included as part of total capital cannot exceed 100% of core capital.
The OTS has incorporated an interest rate risk component in its regulatory
capital rule. The final interest rate risk rule also adjusts the risk-weighting
for certain mortgage derivative securities. Under the revised rule, savings
institutions with "above normal" interest rate risk exposure would be subject to
a deduction from total capital for purposes of calculating their risk-based
capital requirements. An institution's interest rate risk is measured by the
decline in net portfolio value of its assets (i.e., the difference between
incoming and outgoing discounted cash flows from assets, liabilities and off-
balance sheet contracts) that would result from a hypothetical 200-basis point
increase or decrease in market interest rates divided by the estimated economic
value of the bank's assets, as calculated in accordance with guidelines set
forth by the OTS. An institution whose measured interest rate risk exposure
exceeds 2% must deduct an interest rate component in calculating its total
capital under the risk-based capital rule. The interest rate risk component is
an amount equal to one-half of the difference between an institution's measured
interest
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<PAGE>
rate risk and 2%, multiplied by the estimated economic value of the bank's
assets. That dollar amount is deducted from total capital in calculating
compliance with the risk-based capital requirement. Under the rule, there is a
lag between the reporting date of an institution's financial data and the
effective date for the new capital requirement based on that data. An
institution with assets of less than $300 million and risk-based capital ratios
in excess of 12% is not subject to the interest rate risk component, unless the
OTS determines otherwise. The rule also provides that the Director of the OTS
may waive or defer a bank's interest rate risk component on a case-by-case
basis. The OTS has postponed indefinitely the date that the component will first
be deducted from an institution's total capital to provide it with an
opportunity to review the interest rate risk approaches taken by the other
federal banking agencies.
According to an Interest Rate Risk Exposure Report prepared by the OTS
utilizing the above-described interest rate risk simulation model, as of
December 31, 1996, the Bank's sensitivity to rising interest rates was deemed to
require additional capital. In an immediate and sustained 200 basis point
increase in market interest rates, the change in the Bank's ratio of NPV to the
present value of its assets was estimated to be a negative 2.54% as of such
date. According to the OTS Exposure Report, the interest rate risk component was
$1.4 million at June 30, 1996, $1.7 million at September 30, 1996 and $1.5
million at December 31, 1996. Under the pending OTS capital deduction policy,
the Bank would be permitted to deduct the lowest of these three components or
$1.4 million. If the Bank had been required to deduct this amount from its risk-
based capital at December 31, 1995, its risk-based capital ratio would have been
reduced from 11.3% to 10.9%. See "Supervision and Regulation--Prompt Corrective
Regulatory Action." At December 31, 1996, the Bank met each of its capital
requirements, in each case on a fully phased-in basis.
Prompt Corrective Regulatory Action
- -----------------------------------
Provisions of the FDI Act enacted in 1991 require each federal banking
agency, including the OTS, to take prompt corrective action to resolve the
problems of insured depository institutions, including but not limited to those
that fall below one or more prescribed minimum capital ratios. The FDI Act
requires each federal banking agency to promulgate regulations defining the
following five categories in which an insured depository institution will be
placed, based on the level of its capital ratios: well capitalized, adequately
capitalized, undercapitalized, significantly undercapitalized and critically
undercapitalized.
In September 1992, the federal banking agencies, including the OTS, issued
uniform final regulations implementing the prompt corrective action provisions
of the FDI Act. Under such regulations, an insured depository institution will
be classified in the following categories:
. "well capitalized" if it (i) has total risk-based capital of 10% or
greater, Tier 1 risk-based capital of 6% or greater and a leverage ratio of
5% or greater and (ii) is not subject to an order, written agreement,
capital directive or prompt corrective action directive to meet and
maintain a specific capital level for any capital measure;
. "adequately capitalized" if it has total risk-based capital of 8% or
greater, Tier 1 risk-based capital of 4% or greater and a leverage ratio of
4% or greater (or a leverage ratio of 3% or greater if the institution is
rated composite 1 under the applicable regulatory rating system in its most
recent report of examination);
. "undercapitalized" if it has total risk-based capital that is less than 8%,
Tier 1 risk-based capital that is less than 4% or a leverage ratio that is
less than 4% (or a leverage ratio that is less than 3% if the institution
is rated composite 1 under the applicable regulatory rating system in its
most recent report of examination);
. "significantly undercapitalized" if it has total risk-based capital that is
less than 6%, Tier 1 risk-based capital that is less than 3% or a leverage
ratio that is less than 3%; and
. "critically undercapitalized" if it has a ratio of tangible equity to total
assets that is equal to or less than 2%.
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<PAGE>
An institution that, based upon its capital levels, is classified as "well
capitalized," "adequately capitalized" or "undercapitalized" may be treated as
though it were in the next lower capital category if the appropriate federal
banking agency, after notice and opportunity for hearing, determines that an
unsafe or unsound condition or an unsafe or unsound practice warrants such
treatment. At each successive lower capital category, an insured depository
institution is subject to more restrictions. The federal banking agencies,
however, may not treat an institution as "critically undercapitalized" unless
its capital ratio actually warrants such treatment.
The law prohibits insured depository institutions from paying management
fees to any controlling persons or, with certain limited exceptions, making
capital distributions if after such transaction the institution would be
undercapitalized. If an insured depository institution is undercapitalized, it
will be closely monitored by the appropriate federal banking agency, subject to
asset growth restrictions and required to obtain prior regulatory approval for
acquisitions, branching and engaging in new lines of business. Any
undercapitalized depository institution must submit an acceptable capital
restoration plan to the appropriate federal banking agency within 45 days after
becoming undercapitalized. The appropriate federal banking agency cannot accept
a capital plan unless, among other things, it determines that the plan (i)
specifies the steps the institution will take to become adequately capitalized,
(ii) is based on realistic assumptions and (iii) is likely to succeed in
restoring the depository institution's capital. In addition, each company
controlling an undercapitalized depository institution must guarantee that the
institution will comply with the capital plan until the depository institution
has been adequately capitalized on an average basis during each of four
consecutive calendar quarters and must otherwise provide adequate assurances of
performance. The aggregate liability of such guarantee is limited to the lesser
of (a) an amount equal to 5% of the depository institution's total assets at the
time the institution became undercapitalized or (b) the amount which is
necessary to bring the institution into compliance with all capital standards
applicable to such institution as of the time the institution fails to comply
with its capital restoration plan. Finally, the appropriate federal banking
agency may impose any of the additional restrictions or sanctions that it may
impose on significantly undercapitalized institutions if it determines that such
action will further the purpose of the prompt correction action provisions.
An insured depository institution that is significantly undercapitalized,
or is undercapitalized and fails to submit, or in a material respect to
implement, an acceptable capital restoration plan, is subject to additional
restrictions and sanctions. These include, among other things: (i) a forced sale
of voting shares to raise capital, or, if grounds exist for appointment of a
receiver or conservator, a forced merger; (ii) restrictions on transactions with
affiliates; (iii) further limitations on interest rates paid on deposits; (iv)
further restrictions on growth or required shrinkaqe; (v) modification or
termination of specified activities; (vi) replacement of directors or senior
executive officers; (vii) prohibitions on the receipt of deposits from
correspondent institutions; (viii) restrictions on capital distributions by the
holding companies of such institutions; (ix) required divestiture of
subsidiaries by the institution; or (x) other restrictions as determined by the
appropriate federal banking agency. Although the appropriate federal banking
agency has discretion to determine which of the foregoing restrictions or
sanctions it will seek to impose, it is required to force a sale of voting
shares or merger, impose restrictions on affiliate transactions and impose
restrictions on rates paid on deposits unless it determines that such actions
would not further the purpose of the prompt corrective action provisions. In
addition, without the prior written approval of the appropriate federal banking
agency, a significantly undercapitalized institution may not pay any bonus to
its senior executive officers or provide compensation to any of them at a rate
that exceeds such officer's average rate of base compensation during the 12
calendar months preceding the month in which the institution became
undercapitalized.
Further restrictions and sanctions are required to be imposed on insured
depository institutions that are critically undercapitalized. For example, a
critically undercapitalized institution generally would be prohibited from
engaging in any material transaction other than in the ordinary course of
business without prior regulatory approval and could not, with certain
exceptions, make any payment of principal or interest on its subordinated debt
beginning 60 days after becoming critically undercapitalized. Most importantly,
however, except under limited circumstances, the appropriate federal banking
agency, not later than 90 days after an insured depository institution becomes
critically undercapitalized, is required to appoint a conservator or receiver
for the institution. The board of directors of an insured depository institution
would not be liable to the institution's shareholders or creditors for
consenting in good faith to the appointment of a receiver or conservator or to
an acquisition or merger as required by the regulator.
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<PAGE>
As of December 31, 1996, the Bank's ratio of total capital to risk-weighted
assets was 11.3%, its ratio of Tier 1 capital to risk-weighted assets was 10.1%
and its ratio of Tier 1 capital to adjusted total assets was 7.2%. Under the
prompt corrective action categories discussed above, the Bank is considered to
be well capitalized as of December 31, 1996.
Insured depository institutions, such as the Bank, and their institution-
affiliated parties may be subject to potential enforcement actions for unsafe or
unsound practices in conducting their businesses or for violations of law, rules
or regulations, including a failure to meet regulatory capital requirements.
Depending on the severity of the unsafe or unsound practice or violation,
enforcement actions may include a requirement that the Bank file a capital
restoration plan, a requirement that the Bank take additional actions to comply
with the capital restoration plan, the issuance of a cease and desist order, the
issuance of a capital directive, the imposition of civil money penalties on the
Bank and certain affiliated parties, the imposition of such operating
restrictions as the OTS deems appropriate at the time, such other actions by the
OTS as it may be authorized or required to take under applicable statutes and
regulations and, under certain circumstances, the appointment of a conservator
or receiver for the Bank. In the event of a liquidation of the Bank, the
interests of the holders of the Common Stock will be subordinate to the
interests of, among others, creditors of the Bank, including depositors.
Historically, with few exceptions, equity holders of financial institutions such
as the Bank have not obtained any recovery for their investment following the
appointment of a conservator or a receiver. See "Supervision and Regulation--
Federal Savings Institution Regulation--Enforcement."
Insurance of Deposit Accounts
- -----------------------------
Deposits of the Bank are presently insured by the SAIF. Both the SAIF and
the BIF (the deposit insurance fund that covers most commercial bank deposits)
are statutorily required to be capitalized to a ratio of 1.25% of insured
reserve deposits. Until recently, members of the SAIF and BIF were paying
average deposit insurance premiums of between 24 and 25 basis points. The BIF
met the required reserve in 1995, whereas the SAIF was not expected to meet or
exceed the required level until 2002 at the earliest. This situation was
primarily due to greater levels of prior losses in the thrift industry and the
statutory requirement that SAIF members make payments on bonds issued in the
late 1980s by the Financing Corporation ("FICO") to recapitalize the predecessor
to the SAIF.
In view of the early satisfaction by the BIF of the target 1.25% ratio, the
FDIC ultimately adopted a new assessment rate schedule of between 0 and 27 basis
points, under which 92% of BIF members paid an annual premium of only $2,000.
With respect to SAIF member institutions, the FDIC adopted a final rule
retaining the previously existing assessment rate schedule applicable to SAIF
member institutions of 23 to 31 basis points. As long as the premium
differential continued, it could have had adverse consequences for SAIF members,
including reduced earnings and an impaired ability to raise funds in the capital
markets. In addition, SAIF members, such as the Bank, could have been placed at
a substantial competitive disadvantage to BIF members with respect to pricing of
loans and deposits and the ability to achieve lower operating costs.
On September 30, 1996, the President signed into law the Deposit Insurance
Funds Act of 1996 (the "Funds Act") which, among other things, imposed a special
one-time assessment on SAIF-member institutions, including the Bank, to
recapitalize the SAIF. As required by the Funds Act, the FDIC imposed a special
assessment of 65.7 basis points on SAIF assessable deposits held as of March 31,
1995, payable November 27, 1996 (the "SAIF Special Assessment"). The SAIF
Special Assessment was recognized by the Bank as an expense in the quarter ended
September 30, 1996 and is generally tax deductible. The SAIF Special Assessment
recorded by the Bank amounted to $2.5 million on a pre-tax basis and $1.7
million on an after-tax basis.
The Funds Act also spreads the obligations for payment of the FICO bonds
across all SAIF and BIF members. Beginning on January 1, 1997, BIF deposits will
be assessed for FICO payment of 1.3 basis points, while SAIF deposits will pay
6.48 basis points. Full pro rate sharing of the FICO payments between BIF and
SAIF
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<PAGE>
members will occur on the earlier of January 1, 2000 or the date the BIF and
SAIF are merged. The Funds Act specifies that the BIF and SAIF will be merged on
January 1, 1999, provided no savings associations remain as of that time.
As a result of the Funds Act, the FDIC recently voted to effectively lower
SAIF assessment to between 0 and 27 basis points as of January 1, 1997, a range
comparable with that of BIF members. However, SAIF members will continue to
make the FICO payments described above. The FDIC also lowered the SAIF
assessment schedule for the fourth quarter of 1996 to between 18 and 27 basis
points. Management cannot predict the level of FDIC insurance assessments on an
on-going basis, whether the savings association charter will be eliminated or
whether the BIF and SAIF will eventually be merged.
The Bank's assessment rate for the nine months ended September 30, 1996 was
26 basis points and the premium paid for this period was $0.8 million. A
significant increase in SAIF insurance premiums would likely have an adverse
effect on the operating expenses and results of operations of the Bank.
Under FDI Act, insurance of deposits may be terminated by the FDIC upon a
finding that the institution has engaged in unsafe or unsound practices, is in
an unsafe or unsound condition to continue operations or has violated any
applicable law, regulation, rule, order or condition imposed by the FDIC or OTS.
Management of the Bank does not know of any practices, condition or violation
that might lead to termination of deposit insurance.
THRIFT RECHARTERING LEGISLATION
- -------------------------------
The Funds Act provides that the BIF and SAIF will merge on January 1, 1999
if there are no more savings associations as of that date. That legislation also
requires that the Department of Treasury submit a report to Congress by March
31, 1999 that makes recommendations regarding a common financial institutions
charter, including whether the separate charters for thrifts and banks should
be abolished. Various proposals to eliminate the federal thrift charter, create
a uniform financial institutions charter and abolish the OTS were introduced in
the 104th Congress. It is likely that legislation will be introduced in the
105th Congress addressing the elimination of the savings association charter.
However, the Bank is unable to predict whether such legislation would be enacted
and, if so, the extent to which the legislation would restrict or disrupt its
operations.
FEDERAL HOME LOAN BANK SYSTEM
- -----------------------------
The Bank is a member of the Federal Home Loan Bank System consisting of 12
regional Federal Home Loan Banks, which each provide a central credit facility,
primarily for member institutions. The Bank, as a member of the FHLB, is
required to acquire and hold shares of capital stock in the FHLB in an amount at
least equal to 1% of the aggregate principal amount of its unpaid residential
mortgage loans and similar obligations at the beginning of each year, or 5% 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 December
31, 1996, of $3.1 million. FHLB advances must be secured by specified types of
collateral and all long-term advances may only be obtained for the purpose of
providing funds for residential housing finance.
The regional Federal Home Loan Banks are required to provide funds for the
resolution of insolvent thrifts and contribute funds for affordable housing
programs. These requirements could reduce the amount of dividends that these
institutions pay to their members and could also result in higher rates of
interest on FHLB advances. For the years ended December 31, 1996, 1995 and 1994,
dividends from the FHLB to the Bank amounted to approximately $177,000, $170,000
and $84,000, respectively. If dividends were reduced, or interest on future
FHLB advances increased, the Bank's income would likely also be reduced.
Further, there can be no assurance that the impact of recent or future
legislation on the FHLBs will not also cause a decrease in the value of the FHLB
stock held by the Bank.
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FEDERAL RESERVE SYSTEM
- ----------------------
The Federal Reserve Board regulations require savings institutions to
maintain non-interest-earning reserves against their transaction accounts
(primarily NOW and regular checking accounts). The Federal Reserve Board
regulations generally require that reserves be maintained against aggregate
transaction accounts as follows: for accounts aggregating $54.0 million or less
(subject to adjustment by the Federal Reserve Board) the reserve requirement is
3%: and for accounts greater than $54.0 million, the reserve requirement is $1.6
million plus 10% (subject to adjustment by the Federal Reserve Board between 8%
and 14%) against that portion of total transaction accounts in excess of $54.0
million. The first $4.2 million of otherwise reservable balances (subject to
adjustments by the Federal Reserve Board) are exempted from the reserve
requirements. The Bank is in compliance with the foregoing requirements. Because
required reserves must be maintained in the form of either vault cash, a
noninterest-bearing account at a Federal Reserve Bank or a pass-through account
as defined by the Federal Reserve Board, the effect of this reserve requirement
is to reduce the Bank's interest-earning assets. Federal Home Loan Bank System
members are also authorized to borrow from the Federal Reserve "discount
window," but Federal Reserve Board regulations require institutions to exhaust
all Federal Home Loan Bank sources before borrowing from a Federal Reserve Bank.
COMMUNITY REINVESTMENT ACT DEVELOPMENTS
- ---------------------------------------
The Bank is subject to certain fair lending requirements and reporting
obligations involving home mortgage lending operations and Community
Reinvestment Act ("CRA") activities. The CRA generally requires the federal
banking agencies to evaluate the record of financial institutions in meeting the
credit needs of their local communities, including low and moderate income
neighborhoods. In addition to substantial penalties and corrective measures that
may be required for a violation of certain fair lending laws, the federal
banking agencies may take compliance with such laws and CRA into account when
regulating and supervising other activities. On May 4, 1995, the federal bank
regulatory agencies, including OTS, issued final regulations which changed the
manner in which they measure an institution's compliance with its CRA
obligations. The final regulations adopt a performance-based evaluation system
which bases CRA ratings on an institution's actual lending, service and
investment performance rather than the extent to which the institution conducts
needs assessments, documents community outreach or complies with other
procedural requirements.
In addition, under the final regulations, an institution's size and
business strategy will determine the type of CRA examination that it will
receive. Large, retail-oriented institutions will be examined using a
performance-based lending, investment and service test. Small institutions will
be examined using a streamlined approach. Wholesale and limited purpose
institutions will be examined under a community development test. All
institutions have the option of being evaluated under a strategic plan
formulated with community input and pre-approved by the applicable bank
regulatory agency.
MARKET AREA AND COMPETITION
The Bank faces substantial competition for its deposits, fee services and
loans throughout its market areas from commercial banks, other savings and loan
institutions, thrift and loan associations, credit unions, insurance companies,
real estate financing conduits, money market and mutual funds and other
investment alternatives. The Bank faces competition throughout its market areas
from local institutions, which have a large presence in the Bank's market areas,
as well as out-of-state financial institutions which have offices in the Bank's
market areas. Many of these institutions may enjoy a competitive advantage over
the Bank in terms of prior business relationships with potential borrowers or
customers; more accessible branch office locations; the ability to offer a
broader range of services; more favorable pricing alternatives or higher
interest rates on deposits; and a lower operating cost structure.
In order to compete with these other institutions with respect to deposits
and fee services, the Bank relies principally upon local promotional activities,
personal relationships established by officers, directors and employees of the
Bank and specialized services tailored to meet the individual needs of the
Bank's customers. In addition, at
23
<PAGE>
those four branches which serve communities with large Hispanic populations and
the one branch which serves a large Asian population, the Bank provides
bilingual employees.
The following table sets forth the locations, transaction deposits and
other information relating to the Bank's branches as of December 31, 1996:
<TABLE>
<CAPTION>
AT DECEMBER 31, 1996
---------------------- ----------- -----------------------------
TRANSACTION
DATE BRANCH DEPOSITS NUMBER OF
BRANCH NAME OPENED (IN THOUSANDS) ACCOUNTS
---------------------- ----------- -------------- ----------
<S> <C> <C> <C>
Highland Park......... 1/6/69 $ 16,129 5,494
San Gabriel........... 12/1/74 9,898 2,002
Atwater............... 8/1/79 9,851 2,803
Palos Verdes.......... 1/1/81 10,489 1,634
Burbank............... 3/1/82 8,941 1,972
Long Beach Lakewood... 10/1/84 3,166 995(3)
Duarte................ 7/1/80 5,373 2,383(2)
Long Beach Marina..... 9/1/84 3,431 834(3)
Warner Center......... 1/1/87 4,146 980
Torrance.............. 2/1/88 4,390 1,197
Santa Monica.......... 4/1/89 9,081 1,762
------------- ---------
$ 84,895 22,056
</TABLE>
_____________________________
(1) Transaction deposits include Passbook Accounts, Now Accounts, and Money
Market Accounts.
(2) Branch sold February 21, 1997.
(3) Branch sold March 27, 1997.
In the lending area, the Bank focuses on niche market segments that
management believes are currently not aggressively targeted by traditional
lenders. Niche lending markets targeted by management include real estate loans
secured by multi-family residential and commercial properties. Competitors in
these lending areas have included thrift and loan associations, real estate
financing conduits, smaller insurance companies and, to a lesser extent, banks
and other savings and loan institutions. In addition, due to the Bank's loan
origination strategy involving the accessing of loan applications through
independent loan brokers, the Bank encounters competition with other potential
lenders for the services of loan brokers. Management believes that the Bank's
lending specializations, service-oriented approach and timely decision making
process provide incentives for brokers to do business with the Bank. Due to the
Bank's niche lending strategy, if one or more larger traditional lenders elects,
either directly or indirectly through a subsidiary, to pursue aggressively the
origination of the types of niche loans that the Bank currently targets, the
Bank could be exposed to significant declines in its loan originations. Such a
development would have a significant adverse effect on the Bank's ability to
increase or even maintain the level of its loan portfolio which would, in turn,
have significant adverse effects on the Bank's results of operations.
EMPLOYEES
At December 31, 1996, the Bank had 120 full-time equivalent employees. None
of the Bank's employees are covered by a collective bargaining agreement.
Management believes its employees relations are satisfactory.
SUBSIDIARY ACTIVITIES
The Bank has two subsidiaries, HFS Corporation and HI-FED Insurance Agency.
HFS Corporation, a wholly-owned subsidiary of the Bank, acts as the trustee for
deeds of trust on behalf of the Bank. At December 31,
24
<PAGE>
1996, the assets of HFS Corporation totaled $225,000.
HI-FED Insurance Agency acts as the Bank's representative for placing fire
insurance coverage for the Bank's mortgage loans in the event the borrower is
unable or unwilling to provide their own insurance. At December 31, 1996, the
total assets of HI-FED Insurance were $308,000 and its operations were not
material to the consolidated financial condition or consolidated results of
operations of the Bank.
FACTORS THAT MAY AFFECT FUTURE RESULTS
The following is a discussion of certain factors that may affect the Bank's
financial condition and results and operations, and should be considered in
evaluating the Bank.
Economic Conditions and Geographic Concentration. The Bank's operations are
------------------------------------------------
concentrated primarily in Southern California. As a result of this geographic
concentration, the Bank's results depend largely upon economic conditions in
Southern California and Los Angeles in particular, which have been relatively
volatile over the past several years. While the Southern California economy
recently has exhibited positive economic and employment trends, there is no
assurance that such trends will continue. A deterioration in economic conditions
could have material adverse impact on the quality of the Bank's loan portfolio
and the demand for its products and services.
Interest Rates. The Bank anticipates that interest rate levels will
--------------
increase somewhat during 1997 relative to 1996. Accordingly, because the Bank
has a one-year interest rate sensitivity "gap" which is liability sensitive, the
Bank anticipates that its net interest margin may decrease somewhat in 1997
relative to 1996. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Management of Interest Rate Risk." If
interest rates vary substantially from present levels, however, the Bank's
results may differ materially from the results currently anticipated. Changes in
interest rates will influence net interest income, the growth of loans,
investments and deposits, and affect the rates received on loans and investment
securities and paid on deposits.
Government Regulation and Monetary Policy. The banking industry is subject
-----------------------------------------
to extensive federal and state supervision and regulation. Significant new laws
or changes in, or repeals of, existing laws may cause the Bank's results to
differ materially. Further, federal monetary policy, particularly as implemented
through the Federal Reserve System, significantly affects credit conditions for
the Bank, primarily through open market operations in United States government
securities, the discount rate for bank borrowings and bank reserve requirements,
and a material change in these conditions would be likely to have a material
impact on the Bank's results.
Competition. The banking and financial services business in the Bank's
-----------
market areas are highly competitive. The increasingly competitive environment is
a result primarily of changes in regulation, technology and product delivery
systems, and the accelerating pace of consolidation among financial services
providers. The results of the Bank may differ if circumstances affecting the
nature or level of competition change.
Credit Quality. A significant source of risk arises from the possibility
--------------
that losses will be sustained because borrowers, guarantors and related parties
may fail to perform in accordance with the terms of their loans. The Bank has
adopted underwriting and credit monitoring procedures and credit policies,
including the establishment and review of the allowance for credit losses, that
management believes are appropriate to minimize this risk by assessing the
likelihood of nonperformance, tracking loan performance and diversifying the
Bank's credit portfolio. Such policies and procedures, however, may not prevent
unexpected losses that could materially adversely affect the Bank's results.
Other Risks. From time to time, the Bank details other risks with respect
-----------
to its business and or financial results in its filings with the OTS.
25
<PAGE>
ITEM 2. PROPERTIES
The Bank conducts its business through an administrative and full-service
office located in Burbank, Calfornia and ten other full service offices. The
Bank believes that its current facilities are adequate to meet the present and
immediately foreseeable needs of the Bank. The following table presents certain
information concerning the Bank's leased and owned properties:
<TABLE>
<CAPTION>
ORIGINAL YEAR
LEASED OR LEASED OR DATE OF LEASE
LOCATION OWNED ACQUIRED EXPIRATION(1)
-------------------- --------- ------------- --------------
<S> <C> <C> <C>
Corporate Office/Burbank Owned June 1985 -
601 S. Glenoaks Boulevard
Burbank, CA 91502
Atwater Owned August 1979 -
3355 Glendale Boulevard
Los Angeles, CA 90039
Highland Park Leased January 1969 September 2001
6301 North Figueroa Street
Los Angeles, CA 90042
Palos Verdes Leased May 1990 August 2000
20 Miraleste Plaza
Palos Verdes, CA 90274
San Gabriel Owned December 1976 -
835 E. Las Tunas Drive
San Gabriel, CA 91776
Santa Monica Leased April 1989 January 1999
1101 Montana Avenue
Santa Monica, CA 90403
Torrance Leased February 1988 October 1997
25345 Crenshaw Boulevard
Torrance, CA 90505
Warner Center Leased April 1992 November 2007
5939 Canoga Avenue
Woodland Hills, CA 91367
</TABLE>
________________________
(1) Lease expiration dates do not take into account available options to renew.
ITEM 3. LEGAL PROCEEDINGS
During the ordinary course of its business,the Bank is involved in various
legal proceedings and litigation. While no assurance can be given as to the
likelihood of an unfavorable outcome of any such litigation or the estimated
amount of potential loss, if any, based upon currently available information,
the Bank does not believe that the outcome of such litigation will have a
material adverse effect upon the operations or financial condition of the Bank.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
26
<PAGE>
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Common Stock began to trade on the Nasdaq Small-Cap Market on October
16, 1995 under the symbol "HBNK" and on the Nasdaq National Market on December
29, 1995. Sandler O'Neill & Partners, L.P. acts as a market maker in the Common
Stock on the Nasdaq National Market. Prior to the commencement of trading on
the Small-Cap Market, the Common Stock was eligible for quotation on the OTC
Bulletin Board of Nasdaq, although the Bank is not aware of any securities
broker who acted as a market maker with respect to the Common Stock during such
time. The Bank is aware of one securities broker who executed infrequent trades
in the Common Stock prior to the trading of the Common Stock on the Small-Cap
Market. Based on information provided to the Bank by such securities broker,
there were less 15,000 shares traded during 1994 at prices between $11.00 and
$15.50 per share and less than 2,000 shares traded during the six months ended
June 30, 1995 at prices between $10.00 and 12.00 per share. The high and low
sales prices for trades in the Common Stock on the Small-Cap Market, from the
commencement of trading on October 16, 1995 until November 6, 1995, were $13.75
and $10.75, respectively, and the high and low sales prices for trades on the
National Market during the fourth quarter of 1995 were $15.50 and $14.375,
respectively. The high and low sales prices by quarter for trades on the
National Market during 1996 are set forth in the table below. The closing
sales price of the Common Stock was $17.00 per share at December 31, 1996.
<TABLE>
<CAPTION>
1996
-------------------
High Low
---- ---
<S> <C> <C>
First Quarter $17.00 $14.50
Second Quarter $17.00 $16.00
Third Quarter $16.25 $14.25
Fourth Quarter $17.50 $14.25
</TABLE>
The Bank paid a cash dividend of $.50 per share of Common Stock in each of
June 1992, December 1992 and December 1993, and a cash dividend of $.40 per
share of Common Stock in June 1993. The Bank paid no dividends during 1994,
1995 or 1996. As federally chartered and insured financial institution, the
Bank is subject to restrictions on the ability to pay cash dividends. See
"Item 1 Business--Supervision and Regulation--Federal Savings Institution
Regulation--Limitation on Capital Distributions." As of March 17, 1997, there
were 645 stockholders of record of the Common Stock.
27
<PAGE>
ITEM 6. SUMMARY SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA
The following tables present selected consolidated financial and other data
of the Bank as of and for each of the years in the five years ended December 31,
1996. The information below should be read in conjunction with, and is qualified
in its entirety by, the more detailed information included elsewhere in this
Annual Report, including the Bank's Consolidated Financial Statements and notes
thereto.
<TABLE>
<CAPTION>
AT OR FOR THE YEARS ENDED DECEMBER 31,
-----------------------------------------------------------------------
1996 1995 1994 1993 1992
----------- ------------ ------------ ------------ ----------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
SELECTED FINANCIAL CONDITION DATA:
Total assets............................................... $ 489,902 $ 459,961 $ 463,753 $ 488,369 $ 425,786
Securities available for sale(1)........................... 60,038 46,874 50,669 -- --
Securities held to maturity(1)............................. 17,969 20,787 98,370 110,008 56,746
Loans receivable, net(2)................................... 373,545 312,994 273,023 289,397 315,684
Deposits................................................... 384,921 378,699 376,666 347,927 355,589
FHLB advances.............................................. 62,500 39,500 61,500 65,425 35,465
Shareholders' equity(3).................................... 34,863 34,091 20,962 28,801 28,276
Book value per share....................................... 15.18 14.85 18.97 26.06 25.59
Loans originated and purchased during period............... 120,162 89,024 45,519 43,671 72,042
SELECTED OPERATING DATA:
Interest income............................................ $ 39,638 $ 38,699 $ 37,476 $ 40,907 $ 44,368
Interest expense........................................... 20,426 21,387 17,801 17,611 20,524
----------- ------------ ------------ ------------ ----------
Net interest income...................................... 19,212 17,312 19,675 23,296 23,844
Provision for loan losses.................................. 3,930 5,221 13,536 6,758 1,679
----------- ------------ ------------ ------------ ----------
Net interest income after provision for loan losses...... 15,282 12,091 6,139 16,538 22,165
Noninterest income......................................... 2,167 1,579 979 1,169 1,024
Noninterest expense:
General and administrative expense....................... 15,694 12,960 13,685 14,611 13,086
Other noninterest expense................................ 928 2,306 3,173 1,140 1,034
----------- ------------ ------------ ------------ ----------
Total noninterest expense............................... 16,622 15,266 16,858 15,751 14,120
----------- ------------ ------------ ------------ ----------
Earnings (loss) before income tax expense
(benefit) and cumulative effect of change
in accounting principle................................. 827 (1,596) (9,740) 1,956 9,069
Income tax expense (benefit)............................... 162 (617) (3,355) 846 4,212
Cumulative effect of change in accounting principle........ -- -- -- 409 --
----------- ------------ ------------ ------------ ----------
Net earnings (loss)...................................... $ 665 $ (979) $ (6,385) $ 1,519 $ 4,857
=========== ============ ============ ============ ==========
Net earnings (loss) per share before cumulative effect
of change in accounting principle........................ $ 0.29 $ (0.86) $ (5.78) $ 1.00 $ 4.40
=========== ============ ============ ============ ==========
Cash dividends per share................................... -- -- -- $ 0.90 $ 1.00
=========== ============ ============ ============ ==========
</TABLE>
28
<PAGE>
<TABLE>
<CAPTION>
AT OR FOR THE YEARS ENDED DECEMBER 31,
1996 1995 1994 1993 1992
-------- -------- --------- ------- -------
<S> <C> <C> <C> <C> <C>
SELECTED FINANCIAL RATIOS AND OTHER DATA (4):
PERFORMANCE RATIOS:
Return on average assets..................................... 0.15% (0.21)% (1.40)% 0.36% 1.18%
Return on average equity..................................... 1.93 (4.41) (24.33) 5.19 18.11
Average equity to average assets............................. 7.56 4.76 5.74 6.85 6.50
Interest rate spread (5)..................................... 4.45 4.16 4.75 5.71 6.06
Net interest margin (6)...................................... 4.60 4.11 4.71 5.84 6.18
General and administrative expense to average assets (7)..... 3.43 2.82 2.99 3.42 3.17
REGULATORY CAPITAL RATIOS (8):
Tangible capital............................................. 7.2 % 7.5 % 4.8 % 6.4 % 6.6 %
Leverage capital............................................. 7.2 7.5 4.8 6.4 6.6
Risk-based capital........................................... 11.3 13.6 8.2 10.5 11.1
ASSET QUALITY RATIOS:
Nonperforming loans (9) as a percent of gross loans (10)..... 0.90% 1.61% 3.17% 3.36% 2.16%
Nonperforming assets(11) as a percent of total assets........ 0.99 1.78 3.41 4.28 3.03
Allowance for loan losses as a percent of total assets....... 2.00 2.18 3.10 1.73 0.95
Allowance for loan losses as a percent of total
nonperforming loans (12).................................. 222.24 135.20 97.72 51.36 43.99
Classified assets as a percent of shareholder's equity
and allowance for loan losses............................. 36.87 53.82 107.55 88.74 69.50
NUMBER OF FULL-SERVICE CUSTOMER FACILITIES..................... 11 11 11 11 11
</TABLE>
_____________________
(1) The Bank adopted Statement of Financial Accounting Standards ("SFAS") No.
115, "Accounting for Certain Investments in Debt and Equity Securities," as
of January 1, 1994. Prior to the adoption of SFAS No. 115, the Bank did not
report separately its securities held to maturity. Therefore, for purposes
of this presentation, all securities have been reported at December 31,
1993 and 1992 as held to maturity securities.
(2) The allowance for loan losses at December 31, 1996, 1995, 1994, 1993, and
1992 was $7.7 million, $7.1 million, $8.8 million, $5.1 million and
$3.1 million, respectively.
(3) Shareholders' equity amounts at December 31, 1996, 1995 and 1994 are net of
unrealized holding losses on securities available for sale of $247,000,
$354,000 and $1,453,000, respectively, pursuant to SFAS No. 115.
(4) Regulatory capital ratios and asset quality ratios are end-of-period
ratios. With the exception of end-of-period ratios, all ratios are based on
average daily balances during 1996 and 1995 and average monthly balances
during 1994, 1993 and 1992 and are annualized where appropriate.
(5) Represents the difference between the weighted average yield on interest-
earning assets and the weighted average cost of interest-bearing
liabilities.
(6) Represents net interest income as a percent of average interest-earning
assets.
(7) Excludes net cost of operation of REO and losses on sale of investments.
(8) For definitions and further information relating to the Bank's regulatory
capital requirements, see "Supervision and Regulation--Federal Savings
Institution Regulation--Capital Requirements."
(9) Nonperforming loans consist of nonaccrual loans. It is the Bank's policy to
cease accruing interest on all loans 90 days or more past due.
(10) Gross loans receivable excludes participation loan balances and unamortized
discounts.
(11) Nonperforming assets consist of nonperforming loans and REO.
29
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following presents management's discussion and analysis of the
consolidated financial condition and results of operations of the Bank as of and
for the years ended December 31, 1996, 1995, and 1994. The discussion should
be read in conjunction with the Bank's Consolidated Financial Statements and
notes thereto apearing elsewhere herein.
Discussions of certain matters under this caption constitute
"forward-looking statements" under the Reform Act which involve risks and
uncertainties. The Bank's actual results may differ significantly from the
results discussed in such forward-looking statements. Factors that might cause
such a difference include but are not limited to economic conditions,
competition in the geographic and business areas in which the Bank conducts its
operations, fluctuations in interest rates, credit quality and government
regulation. For additional information concerning these factors, see "Item 1.
Business - Factors That May Affect Future Results."
RESULTS OF OPERATIONS
OVERVIEW
- --------
The Bank's principal business involves the origination of loans primarily
secured by income-producing real estate, located predominately in Southern
California. While such lending has provided the Bank with interest-earning
assets with generally higher yields compared with those of most banks and
savings institutions, the Bank has also incurred generally higher loan
origination and servicing costs and provisions for credit losses and REO expense
than such institutions. The Bank operates in the State of California, with most
activity in Southern California, which over the past several years has
experienced both a recession and a significant decline in property values. These
factors contributed to higher levels of non-performing assets and associated
costs (including provisions for loan losses ands REO expense) over the past
three years. The Bank recorded net losses of $6.4 million, $1.0 million in 1994
and 1995, respectively, and recorded net earnings of $.7 million in 1996.
The Bank achieved net earnings of $.7 million in 1996, compared with a net
loss of $1.0 million in 1995, despite non-recurring charges of $2.5 million for
the SAIF special assessment and $.5 million for pension-related costs in 1996.
The improved net earnings in 1996 were principally attributable to an
improvement in the Bank's net interest margin to 4.60% for 1996 from 4.11% in
1995 and to a reduction in provisions for loan losses and REO expense in 1996
relative to 1995. Provisions for loan losses and REO expense in 1996 were $3.9
million and $.9 million, respectively, compared with $5.2 million and $2.3
million, respectively, for 1995. The Bank incurred a net loss of $1.0 million in
1995, compared with a net loss of $6.4 million in 1994. The lower net loss in
1995 was principally attributable to a decline in the provision for loan losses
to $5.2 million in 1995 compared with $13.5 million in 1994.
30
<PAGE>
The changes in the Bank's principal income and expense items are
highlighted in the following table of condensed statements of operations:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
(DOLLARS IN THOUSANDS)
---------------------------------------------------------------------------------------
INCREASE INCREASE
1996 1995 (DECREASE) 1995 1994 (DECREASE)
----------- ---------- ------------- ---------- ------------ --------------
<S> <C> <C> <C> <C> <C> <C>
Statement of Operations Data
Total interest income................... $ 39,638 $ 38,699 $ 939 $ 38,699 $ 37,476 $ 1,223
Total interest expense.................. 20,426 21,387 (961) 21,387 17,801 3,586
----------- ---------- ------------- ---------- ------------ --------------
Net interest income (loss).............. 19,212 17,312 1,900 17,312 19,675 (2,363)
Provision for loan losses............... 3,930 5,221 (1,291) 5,221 13,536 (8,315)
Total noninterest income (loss)......... 2,167 1,579 588 1,579 979 600
Total General & Administrative
Expense................................. 15,694 12,960 2,734 12,960 13,685 (725)
Total Net Cost of Operation of Real
Estate Acquired through Foreclosure..... 928 2,306 (1,378) 2,306 3,173 (867)
----------- ---------- ------------- ---------- ------------ --------------
Income (loss) before income taxes....... 827 (1,596) 2,423 (1,596) (9,740) 8,144
Provision (benefit) for income taxes.... 162 (617) 779 (617) (3,355) 2,738
----------- ---------- ------------- ---------- ------------ --------------
Net Income (loss).................. $ 665 $ (979) $ 1,644 $ (979) $ (6,385) $ 5,406
=========== ========== ============= ========== ============ ==============
</TABLE>
31
<PAGE>
NEW INTEREST INCOME
The following table sets forth condensed average balance sheet information
relating to the Bank for the periods indicated together with interest income and
yields earned on average interest bearing assets and interest expense and rates
paid on average bearing liabilities. Management does not believe that the use of
average monthly balances instead of average daily balances has caused any
material difference in the information presented.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------------------------------------------------------
1996 1995
------------------------------------------------------------------------------
AVERAGE AVERAGE
AVERAGE YIELD/ AVERAGE YIELD/
BALANCE INTEREST(1) COST BALANCE INTEREST(1) COST
----------- --------------- --------- ----------- --------------- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
ASSETS:
Loans(2).......................................... $ 341,890 $ 35,251 10.31% $ 286,979 $ 30,223 10.53%
Mortgage related securities(3).................... 57,599 3,379 5.87 123,120 7,781 6.32
Investments....................................... 18,379 1,008 5.48 11,451 695 6.07
Other assets(4)................................... -- -- -- 0 0 0
--------- -------- --------- --------
Total interest earnings assets................ 417,868 39,638 9.49 421,550 38,699 9.18
Noninterest-earning assets........................ 39,385 38,587
--------- ---------
Total Assets.................................. 457,253 460,137
========= =========
LIABILITIES AND SHAREHOLDERS'
EQUITY:
Money market savings accounts..................... $ 23,281 680 2.92 $ 25,874 779 3.01
Passbook accounts................................. 32,222 853 2.65 38,168 1,276 3.34
NOW accounts...................................... 24,453 347 1.42 24,847 482 1.94
Certificate accounts.............................. 286,037 16,188 5.66 284,991 16,002 5.61
FHLB advances and other
borrowings...................................... 39,563 2,358 5.96 52,379 2,848 5.44
--------- -------- --------- --------
Total interest-bearing
liabilities................................. 405,556 $ 20,426 5.04 426,259 $ 21,387 5.02
Noninterest-bearing liabilities................... 17,143 11,961
Shareholders' Equity.............................. 34,554 21,917
--------- ---------
Total Liabilities and
Shareholders' Equity........................ $ 457,253 $ 460,137
========= =========
Net interest income............................... $ 19,212 $ 17,312
======== ========
Interest rate spread(5)........................... 4.45% 4.16%
Net interest margin(6)............................ 4.60% 4.11%
Ratio of interest-earning assets to
interest-bearing liabilities.................... 103.04% 98.90%
<CAPTION>
1994
---------------------------------------
AVERAGE
AVERAGE YIELD/
BALANCE INTEREST(1) COST
---------- ------------- ---------
<S> <C> <C> <C>
ASSETS:
Loans(2).......................................... $ 277,618 $ 29,598 10.66%
Mortgage related securities(3).................... 114,735 6,305 5,50
Investments....................................... 20,337 1,145 5.63
Other assets(4)................................... 4,750 428 9.01
-------- --------
Total interest earnings assets................ 417,440 37,476 8.98
Noninterest-earning assets........................ 39,867
--------
Total Assets.................................. 457,307
========
LIABILITIES AND SHAREHOLDERS'
EQUITY:
Money market savings accounts..................... 45,575 1,387 3.04
Passbook accounts................................. 51,622 1,932 3.74
NOW accounts...................................... 24,662 520 2.11
Certificate accounts.............................. 228,296 10,345 4.53
FHLB advances and other
borrowings...................................... 70,437 3,617 5.14
-------- --------
Total interest-bearing
liabilities................................. 420,592 $ 17,801 4.23
Noninterest-bearing liabilities................... 10,464
Shareholders' Equity.............................. 26,251
--------
Total Liabilities and
Shareholders' Equity........................ $457,307
========
Net interest income............................... $ 19,675
========
Interest rate spread(5)........................... 4.75%
Net interest margin(6)............................ 4.71%
Ratio of interest-earning assets to
interest-bearing liabilities.................... 99.25%
</TABLE>
_________________
(1) Includes loan fees of $696,000, $570,000 and $569,000 for the years ended
December 31, 1996, 1995 and 1994, respectively.
(2) Loans include nonaccrual loans.
(3) Includes securities available for sale and unamortized discounts and
premiums.
(4) Represents note receivable related to the Burbank office building. See
"Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations--Comparison of Operating Results for the Years Ended
December 31, 1995 and 1994" and "Item 1. Business--Properties."
(5) Interest rate spread represents the difference between the yields on
interest-earning assets and rates paid on interest-bearing liabilities.
(6) Net interest margin represents net interest income divided by average
interest-earning assets.
32
<PAGE>
The Bank's primary source of revenue is net interest income. The Bank's net
interest income is affected by (i) the difference between the yields received on
interest earning assets, such as loans, mortgage-backed securities and other
investments, and interest rates paid on interest bearing liabilities (referred
to as the "interest rate spread"), which consist of deposits and borrowings, and
(ii) the relative amounts of interest earning assets and interest bearing
liabilities. When interest earning assets equal or exceed interest bearing
liabilities, any positive interest rate spread will generate net interest
income; if interest bearing liabilities exceed interest earning assets, the Bank
may incur a decline in net interest income even when the interest rate spread is
positive. For 1996, the Bank's ratio of interest earning assets to interest
bearing liabilities was 103.04%.
The following table represents the extent to which changes in interest
rates and changes in the volume of interest-earning assets and interest-bearing
liabilities have affected the Bank's interest income and expense during the
periods indicated. Information is provided for each major component of
interest-earning assets and interest-bearing liabilities with respect to: (i)
changes attributable to changes in volume (changes in volume multiplied by prior
rate); (ii) changes attributable to rate (changes in rate multiplied by prior
volume); and (iii) the net change. The changes attributable to both volume and
rate have been allocated proportionately to the change due to volume and the
change due to rate.
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED
DECEMBER 31, 1996 DECEMBER 31, 1995
COMPARED TO YEAR COMPARED TO YEAR
ENDED DECEMBER 31, 1995 ENDED DECEMBER 31, 1994
INCREASE (DECREASE) DUE TO INCREASE (DECREASE) DUE TO
---------------------------------- --------------------------------
(IN THOUSANDS) (IN THOUSANDS)
---------------------------------- --------------------------------
VOLUME RATE NET VOLUME RATE NET
---------- --------- --------- ------------ --------- ---------
<S> <C> <C> <C> <C> <C> <C>
INTEREST INCOME:
Loans..................................................... $ 5,674 $ (646) $ 5,028 $ 989 $ (364) $ 625
Mortgage-related securities............................... (3,879) (523) (4,402) 483 993 1,476
Investments............................................... 386 (73) 313 (533) 83 (450)
Other assets(1)........................................... -- -- -- (214) (214) (428)
------- -------- ------- ------- -------- --------
Total interest income on interest-earning
assets.................................................. 2,181 (1,242) 939 725 498 1,233
------- -------- ------- ------- -------- --------
INTEREST EXPENSE:
Deposits.................................................. (390) (81) (471) 1,011 3,344 4,355
FHLB Advances and other borrowings........................ (745) 255 (490) (1,007) 238 (769)
------- -------- ------- ------- -------- --------
Total interest expense on interest-bearing
liabilities............................................. (1,135) 174 (961) 4 3,582 3,586
------- -------- ------- ------- -------- --------
Increase (decrease) in net interest income................ $ 3,316 $ (1,416) $ 1,900 $ 721 $ (3,084) $ (2,363
======= ======== ======= ======= ======== ========
</TABLE>
_____________________
(1) Includes interest on note receivable related to the Burbank office
building. See "Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations--Comparison of Operating Results for
the Years Ended December 31, 1995 and 1994" and Item 1. Business--
Properties."
Net interest income totaled $19.2 million in 1996 compared with $17.3
million in 1995. Interest income for 1996 was $39.6 million, compared to $38.7
million for 1995, an increase of $939,000. This increase was primarily the
result of and increase in the average volume of loans receivable, which
increased by $54.9 million during 1996 compared to 1995, resulting in an
increase in interest income of $5.7 million offset by a decrease in the average
volume of mortgage-backed securities of $65.5 million during 1996 compared to
1995, resulting in a decrease in interest income of $3.9 million. The increase
in volume of loans receivable was offset in part by a decrease in the average
yield on loans receivable, which declined to 10.31% over this period from
10.53%, while the average yield on mortgage-backed securities decreased to 5.87%
over the period from 6.32%. The decrease in the average yield on loans
receivable was
33
<PAGE>
due principally to lower rates on adjustable-rate loans originated in 1996
compared to rates on the Bank's existing fixed-rate portfolio, while the
decrease in the average yield on the mortgage-backed securities portfolio was
due primarily to the repricing of adjustable rate securities (specifically
securities tied to the one-year constant treasury index) within the
mortgage-backed securities portfolio. Further, interest income on the Bank's
investment portfolio (primarily money market funds) for 1996 increased by
$313,000 compared to 1995. New loan originations and purchases during 1996
increased to $120.2 million, compared to $89.0 million in 1995, as loans, the
highest yielding asset, increased as a percentage of total interest earning
assets to 81.82% during 1996 from 68.08% during 1995. This change, combined with
a general decline in levels of nonaccrual loans helped to increase the average
yield on interest-earning assets to 9.49% for 1996 compared to 9.18% for 1995.
The cost of interest-bearing liabilities increased only slightly to 5.04% during
1996 compared to 5.02% during 1995. resulting in an increase in the Bank's
annualized net interest margin to 4.60% for 1996 from 4.11% for 1995.
Interest expense for 1996 was $20.4 million, compared to $21.4 million for
1995, a decrease of $961,000 or 4.5%. This decrease was due primarily to
decreased volumes of interest-bearing liabilities during 1996 compared to 1995.
The average interest rate paid on average interest-bearing deposits decreased to
4.94% for 1996 from 4.96% for 1995, as the average volume on interest-bearing
deposits also decreased by $7.9 million to $366.0 million during 1996 from
$373.9 million during 1995. In addition, the average volume of FHLB borrowings
declined by $12.8 million, contributing to a decrease in interest expense on
such borrowings to $2.4 million for 1996 from $2.8 million for 1995. For further
information on funding sources, see "Item I. Business--Sources of Funds."
Net interest income totaled $17.3 million in 1995 compared with $19.7
million in 1994. Interest income for 1995 was $38.7 million, compared to $37.5
million for 1994, an increase of $1.2 million. This increase was primarily the
result of an increase in the average yield on mortgage-backed securities and an
increase in average volume of loans. The average yield on mortgage-backed
securities increased to 6.32% for 1995 from 5.50% for 1994. This increase in
yield was due primarily to the repricing of adjustable-rate securities
(specifically securities tied to the one-year constant maturity treasury index)
within the mortgage-backed security portfolio. The average volume of loans
receivable increased by $9.4 million during 1995 compared to 1994. In addition,
the average volume of mortgage-backed securities increased by $8.4 million
during 1995 compared to 1994. These increases were offset in part by a decrease
in average yield on loans receivable, which declined to 10.53% over this period
from 10.66%. This decrease in average yield on loans receivable was due to lower
rates on adjustable-rate loans originated in 1995 compared to rates on the
Bank's existing fixed-rate loan portfolio. Although new loan originations during
1995 increased to $89.0 million, compared to $45.5 million in 1994, loans, the
highest yielding asset, increased only slightly as a percentage of total
interest-earning assets to 68.08% during 1995 from 66.50% during 1994. This
increase was offset by the more rapid repricing of interest-bearing liabilities
during 1995, and resulted in a decline in the Bank's annualized net interest
margin to 4.11% for 1995 from 4.71% for 1994.
Interest expense for 1995 was $21.4 million, compared to $17.8 million for
1994, an increase of $3.6 million or 20.2%. This increase was due primarily to
increased interest rates generally during 1995 compared to 1994. The average
interest rate paid on average interest-bearing deposits increased to 4.96% for
1995 from 4.05% for 1994. In addition, the average volume of interest-bearing
liabilities also increased by $5.7 million to $426.3 million during 1995 from
$420.6 million during 1994. This volume increase was due almost entirely to an
increase of $56.7 million in the average volume of certificate accounts
resulting from management's marketing efforts to attract new retail customers
through certificate account deposit products. Consistent with this strategy,
average FHLB borrowings declined by $18.1 million. For further information on
funding sources, see "Item 1. Business--Sources of Funds."
Nonperforming assets consist of nonaccrual loans and REO. Nonaccrual loans
reduce the overall yield on the Bank's loan portfolio (and therefore, the Bank's
actual interest rate spread and net interest margin) since the outstanding
principal balances are included in the average balances of loans when
calculating the yield on the portfolio, even though interest is not accrued on
these loans. In addition, REO is not an interest-earning asset, which adversely
impacts the ratio of the Bank's interest earning assets to interest bearing
liabilities. Any income related to REO is included in the net cost of operations
of REO rather than interest income. Also, nonaccrual loans and REO have a cost
to carry, as those assets are funded by interest-bearing liabilities.
34
<PAGE>
Nonperforming assets have declined in the last three fiscal years to $4.9
million at December 31, 1996 from $8.2 million at December 31, 1995 and $15.8
million at December 31, 1994. Management expects that the Bank's net interest
income in future periods would benefit from decreases in nonperforming assets
and would be adversely affected if the levels of nonperforming assets increases.
In addition, net interest income may be adversely affected by certain shifts in
the relative holdings of various types of interest earning assets. In this
regard, at year-end 1996, the Bank was holding increased levels of liquidity for
funding of branch sales anticipated to close in first quarter of 1997. Because
such liquid assets generally carry lower yields than the average
interest-earning assets, management expects that the Bank's net interest margin
will be adversely affected by such extra liquidity until the funding of the
anticipated branch sales.
PROVISION FOR LOAN LOSSES
The Bank maintains an allowance for loan losses in order to provide for
estimated, probable losses associated with its loan portfolio. The provision for
loan losses is charged against income and is applied to the allowance for loan
losses.
Management periodically assesses the adequacy of the allowance for loan
losses by reference to many factors which may be weighted differently at
different times depending upon prevailing conditions. These factors include
general portfolio trends relative to asset and portfolio size, asset categories,
potential credit, concentrations, nonaccrual loan levels, historical loss
experience, and risks associated with changes in economic and business
conditions.
The bank's provisions for loan losses were $3.9 million, $5.2 million and
$13.5 million for the years ended December 31, 1996, 1995, and 1994,
respectively. The Bank's reduced provision for 1996 compared with 1995 reflects
improvements in asset quality during 1996 in addition to improvements in the
economic climate in Southern California. Nonaccrual loans declined to $3.5
million at December 31, 1996 from $5.2 million at December 31, 1995. In
addition, classified assets declined to $15.7 million at December 13, 1996 from
$22.2 million at December 31, 1995, although aggregate delinquent loans and
loans past due 30-89 days increased slightly to $11.2 million and $7.8 million,
respectively, at December 31, 1996 from $9.9 million and $4.7 million,
respectively, at December 31, 1995. The Bank's reduced provision for 1995
reflects improvements in asset quality during 1995. Nonaccrual loans declined to
$5.2 million at December 31, 1995 from $9.0 million at December 31, 1994. In
addition, classified assets declined to $22.2 million at December 31, 1995 from
$32.0 million at December 31, 1994, and aggregate delinquent loans and loans
past due 30-89 days declined to $9.9 million and $4.7 million, respectively, at
December 31, 1995 from $17.1 million and $8.1 million, respectively, at December
31, 1994. While management believes that the current allowance for loan losses
is adequate to absorb the known and inherent risks in the loan portfolio, no
assurances can be given that economic conditions which may adversely affect the
Bank's market areas or other circumstances will not result in increases in
problem loans and future loan losses, which losses may not be covered completely
by the current allowance to may require provisions for loan losses in excess of
past provisions, which would have an adverse effect on the Bank's financial
condition and results of operations. See "Item 1. Business--Nonperforming
Assets."
NONINTEREST INCOME
Noninterest income for 1996 increased by $.6 million to $2.2 million from
$1.6 million for 1995. This increase was due principally a $441,000 increase in
gains on sale of mortgage loans during the 1996 period and to moderate increases
in service charges and collection fees. Noninterest income for 1995 increased by
$.6 million to $1.6 million from $1.0 million for 1994. This increase was due in
part to a $9,000 gain on sale of investments during the 1995 period compared to
a net loss of $216,000 during the 1994 period and moderate increases in service
charge income and collections.
NONINTEREST EXPENSE
Noninterest expense consists of REO expense and general administrative
expense. Noninterest expense for 1996 increased by $1.3 million to $16.6 million
from $15.3 million for 1995. Net cost of operations of REO
35
<PAGE>
(comprised of provisions for REO losses, losses (gains) on sale of REO and
certain administrative expenses, including appraisal, evaluation and legal
expenses, inspection fees and net operating expenses) declined to $928,000
during 1996 from $2.3 million during 1995 principally due to lower levels of REO
activity in 1996. However, general and administrative expenses increases during
1996 to $15.7 million from $13.0 million for 1995, reflecting payment of the
SAIF special assessment of $2.5 million in the third quarter of 1996 and to a
$500,000 expense associated with a change in the assumptions related to the
Bank's defined benefit pension plan. As a result, the ratio of general and
administrative expenses to average assets increased to 3.43% during 1996,
compared to 2.82% during 1995. Excluding the effects of the SAIF special
assessment and additional pension expense, the Bank's ratio of general and
administrative expense to average assets in 1996 would have been 2.77%.
Noninterest expense for 1995 declined by $1.6 million from $16.9 million for
1994. Net cost of operation of REO (comprised of provisions for REO losses,
losses (gain) on sale of REO and certain administrative expenses, including
appraisal, evaluation and legal expenses, inspection fees and net operating
expenses) declined to $2.3 million during 1995 from $3.2 million during 1994
principally due to lower levels of REO activity in 1996. In addition, general
and administrative expense declined during 1995 to $13.0 million from $13.7
million for 1994, reflecting reductions in legal fees, advertising expenses and
outside services. As a result, the ratio of general and administrative expenses
to average assets declined to 2.82% during 1995, compared to 2.99% during 1994.
The Bank has taken steps to reduce future general and administrative
expenses by, among other things, entering into agreements during the fourth
quarter of 1996 to sell three of the Bank's retail branches, with deposits of
approximately $60 million. These sales close during the first quarter of 1997.
INCOME TAXES
The provision (benefit) for income taxes for 1996, 1995, and 1994 was $.2
million, ($.6) million and ($3.4), respectively. The Bank's combined, effective
federal and state income tax rates for 1996, 1995 and 1994 were 19.6%, (38.7%)
and (34.4%), respectively. The Bank's statutory federal and state income tax
rates for 1996, 1995 and 1994 were approximately 41% in each year. The effective
income tax rates differ from the statutory income tax rates in each year
principally due either to the provision of an allowance (in 1995 and 1994) for
state deferred income tax benefits on the recognition of such benefits (in
1996). The Bank had valuation reserves for state deferred income tax benefits of
$1.3 million, $1.0 million and $1.0 million at December 31, 1996, 1995, and
1994, respectively. Utilization of the valuation reserve may result in lower
than expected effective income tax rates in future periods.
FINANCIAL CONDITION
COMPARISON OF FINANCIAL CONDITION FOR THE YEARS ENDED DECEMBER 31, 1996 AND 1995
- --------------------------------------------------------------------------------
Total assets at December 31, 1996 were $490.0 million, compared to $460.0
million at December 31, 1995. The Bank's cash and cash equivalents decreased to
$10.7 million at December 31, 1996 from $49.8 million at December 31, 1995,
primarily due to increased uses of cash to fund mortgage loans. Loans receivable
increased $60.6 million during 1996 as a result of increased efforts by the Bank
to expand its lending markets within Southern California.
Total liabilities at December 31, 1996 were $455.0 million, compared to
$425.9 million at December 31, 1995. This increase was due primarily to an
increase in FHLB advances from $39.5 million at December 31, 1995 to $62.5
million at December 31, 1996 in addition to an increase in deposits of $6.2
million over this period. Shareholders' equity at December 31, 1996 was $34.9
million, compared to $34.1 million at December 31, 1995.
COMPARISON OF FINANCIAL CONDITION FOR THE YEARS ENDED DECEMBER 31, 1995 AND 1994
- --------------------------------------------------------------------------------
Total assets at December 31, 1995 were $460.0 million, compared to $463.8
million at December 31, 1994. The Bank's mortgage-backed securities portfolio
decreased by $70.6 million to $61.7 million at December 31, 1995 from $130.6
million at December 31, 1994. In December 1995, the Bank sold $45.2 million of
mortgage-backed securities, after transferring $65.4 million of such securities
from the held-to-maturity category to the available-for-sale
36
<PAGE>
category, as permitted under the Financial Accounting Standards Board's Special
report on implementation of SFAS No. 115 "Accounting for Certain Investments in
Debt and Equity Securities." The decrease in mortgage-backed securities was
offset by an increase in loans receivable of $40.0 million, an increase in cash
and cash equivalents of $43.0 million and an increase in net office property and
equipment of $5.2 million during 1995. During the first quarter of 1995, the
Board of Directors and management concluded that the Bank's Burbank, California
office building (the "Burbank Building"), on which the Bank received title from
the previous borrowers in August 1994, was better retained as an office facility
for the Bank. The Bank moved its administrative and loan personnel to that
location in February 1996. As a result of the decision to undertake such move,
the Bank reclassified $5.1 million of real estate held for sale at December 31,
1994 to office property and equipment as of March 31, 1995.
Total liabilities at December 31, 1995 were $425.9 million, compared to
$442.8 million at December 31, 1994. This decrease was due primarily to a
decrease in FHLB advances from $61.5 million at December 31, 1994 to $39.5
million at December 31, 1995, offset in part by an increase in deposits of $2.0
million over this period. Shareholders' equity at December 31, 1995 was $34.1
million, compared to $21.0 million at December 31, 1994, primarily as a result
of the Bank raising $13.0 million, net of expenses, in a rights offering to
shareholders and standby purchasers in the fourth quarter of 1995 and a
reduction in net unrealized holding losses on securities available for sale of
$1.1 million.
LIQUIDITY
- ---------
The maintenance of an appropriate level of liquid resources to meet not
only regulatory requirements but also to provide the liquidity necessary to fund
the institution's business activities and obligations is an important element in
the successful management of the Bank. Federal regulations currently require
that, for each calendar month, savings institutions maintain an average daily
balance of cash and cash equivalents, and certain marketable securities which
are not committed, equal to 5% of net withdrawable accounts and borrowings due
in one year or less. Under FIRREA, the percentage of assets which must
constitute liquid assets will be determined by the OTS, but may be set at no
less than 4% and no more than 10% of the obligations of the institution on
withdrawable accounts and borrowings due in one year or less. At December 31,
1996, the Bank's liquidity ratio was 11.1% compared to 7.2% and 11.1% at
December 31, 1995 and 1994, respectively. The Bank's liquidity ratio may vary
from time to time, depending upon savings flows, future loan fundings, operating
needs and general economic conditions.
New loan originations and purchases totaled $120.2 million for 1996,
compared to $89.0 million for 1995 and $45.5 million in 1994. Although the
Bank's new loan originations increased, the Bank believes that increased
competition from other financial institutions may affect reduced the Bank's
ability to attract a more significant level of new loan originations. The Bank
received cash repayments and prepayments of approximately $44.1 million during
1996, compared to $43.0 million for 1995 and $60.0 million in 1994. Such
payments, together with an increase of $6.2 million in deposits and $23.0
million in net cash inflows from FHLB advances and cash flow from operations,
were sufficient to fund all of the Bank's lending activities during 1996.
The Bank is permitted to borrow from the FHLB, in addition to other
sources, both to meet short-term liquidity requirements and for longer term
needs. During 1996, the Bank repaid $29.5 million of maturing FHLB advances,
compared to net repayments of $22.0 million during 1995. At December 31, 1996,
the Bank's outstanding borrowings from the FHLB totaled $62.5 million, compared
to $39.5 million at December 31, 1995. See "Item 1, Business - Funding Sources".
The Bank's liquidity potential is supported by additional borrowing
capacity available to it from the FHLB. The Bank is currently authorized to
borrow up to 35% of its assets from the FHLB ($171.2 million at December 31,
1996). FHLB advances are collateralized by pledges of qualifying real estate
loan collateral. At December 31, 1996, the Bank had $62.5 million of FHLB
advances outstanding. The bank also has available a $5 million unsecured line of
credit with an unaffiliated Bank, all of which was available at December 31,
1996.
37
<PAGE>
MANAGEMENT OF INTEREST RATE RISK
- --------------------------------
The principal objectives of the Bank's interest rate risk management
function are to evaluate the interest rate risk included in certain balance
sheet accounts and in the balance sheet as a whole, determine the level of risk
appropriate given the Bank's business focus,operating environment, capital and
liquidity requirements and performance objectives, and manage such risk
consistent with Board approved guidelines. Through such management , the Bank
seeks to reduce the vulnerability of its operations to changes in interest
rates. The Bank monitors its interest rate risk as such risk relates to its
operating strategies. The Bank's Board of Directors has established an
Asset/Liability Committee, whose members include the Chairman of the Board, two
other outside directors and the Bank's President and Chief Financial Officer,
and which meets quarterly, include reviewing the Bank's asset/liability policies
and interest rate risk position and reporting trends to the Board of Directors
on a quarterly basis. The extent of movements in interest rates is an
uncertainty which could have a negative impact on the earnings of the Bank.
The Bank's current loan portfolio consists of approximately $125 million of
mortgage loans, or 32% of the total loan portfolio, that are intermediate or
long-term loans with fixed rates. Such loans do bear interest rates which vary
with market interest rates or the Bank's cost of funds. In addition, the loan
portfolio includes approximately $69 million, or 18%, of fixed rate, three-year
rollover loans (loans which the interest reprices every three years to either a
prevailing mortgage rate or a rate tied to COFI). Currently these loans have a
weighted interest rate margin of 387 basis points. Such loans could represent a
source of risk to the Bank if interest rates were to increase significantly over
a short period. However, the Bank believes that certain contractual features,
such as generally higher interest rates than those of other lenders, provide
some protection from the effects of rate increases. Conversely, if rates were to
decline significantly over a short period, the Bank has other features such as
prepayment penalties on many of these loans which provide some protection.
The Bank's remaining loan portfolio consists of approximately $191 million,
or 50%, of adjustable rate mortgage loans, of which substantially all are
mortgages with interest rates that vary based on COFI, a lagging market index.
At December 31, 1996, these loans had a weighted interest rate margin of 448
basis points, and feature interest rate floors of 9.2% and interest rate
ceilings of 14.2%. These loans generally have annual caps of 200 basis points
and lifetime caps of 500 basis points. Accordingly, interest rates and the
resulting cost of funds increases in a rapidly rising interest rate environment
could exceed the caps levels on these loans and have a negative impact in the
Bank's net interest income. However, during a declining rate environment, the
Bank benefits primarily due to the effect of the lagging market index, which
results in interest income declining at a slower rate than interest expense.
Since August 1994, the Bank has utilized the following strategies to manage
interest rate risk: (i) originating only adjustable-rate new loans for the
portfolio, (ii) purchasing principally adjustable-rate mortgage-backed and
investment securities and (iii) attempting to reduce the overall interest rate
sensitivity of liabilities by emphasizing core and longer-term deposits.
Gap 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
time period if it will mature to 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
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 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, therefore, a negative gap would theoretically tend to adversely
affect net interest income, while a positive gap would tend to result in an
increase in net interest income. Conversely, during a period of falling interest
rates, a negative gap position would theoretically tend to result in an increase
in net interest income while a positive gap would tend to affect net interest
income adversely.
38
<PAGE>
The following table sets forth the amounts of interest-earning assets and
interest-bearing liabilities outstanding at December 31, 1996 which are
anticipated by the Bank, based upon certain assumptions, to reprice or mature in
each of the future time periods shown. Except as stated below, the amount of
assets and liabilities shown which reprice or mature during a particular period
were determined in accordance with the earlier of term to repricing or the
contractual maturity of the asset or liability. The table is intended to provide
an approximation of the projected repricing of assets and liabilities at
December 31,1996, on the basis of contractual maturities, anticipated
prepayments, and scheduled rate adjustments within a three-month period and
subsequent selected time intervals. The loan amounts in the table reflect
principal balances expected to be redeployed and/or repriced as a result of
contractual amortization and anticipated prepayments of adjustable-rate loans
and fixed-rate loans, and as a result of contractual rate adjustments on
adjustable-rate loans. For loans on residential properties, adjustable-rate
loans and fixed-rate loans are projected to prepay at rates between 10% and 20%
annually. Mortgage-backed securities are projected to prepay at rates between 6%
and 35% annually, with an average annual prepayment rate of 16%. Savings account
deposits, such as money market savings accounts, passbook accounts and
negotiable order of withdrawal ("NOW") accounts, are all assumed to reprice
immediately, and so are allocated to the shortest period (three months or less)
for purposes of the table.
<TABLE>
<CAPTION>
MORE THAN MORE MORE
3 MONTHS THAN THAN 1 MORE
3 MONTHS TO 6 MONTHS YEAR TO THAN NONINTEREST
OR LESS 6 MONTHS TO 1 YEAR 5 YEARS 5 YEARS SENSITIVE TOTAL
---------- ----------- ----------- --------- --------- ------------- ---------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
ASSETS:
Cash and cash equivalents....................... $ 253 $ -- $ -- $ -- $ -- $ 10,461 $ 10,714
Investment securities, net...................... 28,574 5,400 11,803 23,636 8,594 -- 78,007
Loans receivable................................ 59,008 60,874 95,689 132,652 36,740 -- 384,963
Noninterest earning assets less allowance
for loan losses, deferred loan fees and
loans in process.............................. -- -- -- -- -- 16,218 16,218
--------- --------- --------- -------- ------- --------- ---------
Total Assets.................................. 87,835 66,274 107,492 156,288 45,334 26,679 489,902
LIABILITIES AND SHAREHOLDERS' EQUITY:
Money market savings accounts................... 22,118 -- -- -- -- -- 22,118
Passbook accounts............................... 29,224 -- -- -- -- -- 29,224
NOW accounts.................................... 23,779 -- -- -- -- 9,259 33,038
Certificate accounts............................ 81,071 53,070 99,057 67,343 -- -- 300,541
FHLB advances................................... -- 6,500 18,000 38,000 -- -- 62,500
Noninterest-bearing liabilities................. -- -- -- -- -- 7,618 7,618
Shareholders' Equity............................ -- -- -- -- -- 34,863 34,863
--------- --------- --------- -------- ------- --------- ---------
Total Liabilities and Shareholders'
Equity........................................ 156,192 59,570 117,057 105,343 -- 51,740 $ 489,902
--------- --------- --------- -------- ------- --------- =========
Interest rate sensitivity gap................... $ (68,357) $ 6,704 $ (9,565) $ 50,945 $45,334 $ (25,061)
========= ========= ========= ======== ======= =========
Cumulative interest rate sensitivity gap........ $ (68,357) $ (61,653) $ (71,218) $(20,273) $25,061 --
========= ========= ========= ======== ======= =========
Interest rate sensitivity gap as a percent of
total assets.................................. (13.95)% 1.37% (1.95)% 10.40% 9.25% (5.12)%
========= ========= ========= ======== ======= =========
Cumulative interest rate sensitivity gap as a
percent of total assets......................... (13.95)% (12.58)% (14.53)% (4.14)% 5.12% --
--------- --------- --------- -------- ------- ---------
</TABLE>
Certain shortcomings are inherent in the method of analysis presented in
the foregoing table. For example, money market, passbook and NOW account deposit
liabilities, most of which are allocated to the shortest period in the table
(three months or less), are not expected in most scenarios to actually reprice
within this time frame.
39
<PAGE>
In addition, although certain assets and liabilities are assumed to have
similar maturities or periods to repricing, they may actually react in different
degrees to changes in market interest rates. Also, the interest rates on certain
types of assets and liabilities may fluctuate in advance of changes in market
interest rates, while interest rates on other types may lag behind changes in
market rates. Additionally, certain assets, such as adjustable-rate loans, have
features which restrict the degree of changes in interest rates both on a short-
term basis and over the life of the asset. Most of the Bank's adjustable-rate
loans may not adjust downward below their initial rate (the "floor interest
rate"), with increases generally limited to maximum adjustments of 2% per year
and 5% for the life of the loan. Further, in the event of a significant change
in interest rates, prepayment and early withdrawal levels would likely deviate
materially from those assumed in calculating the table. Finally, the ability of
many borrowers to service their adjustable-rate loans may decrease in the event
of a significant interest rate increase.
Net Portfolio Value. The Bank's interest rate sensitivity is monitored by
management through the use of an externally generated model prepared by outside
consultants to the Bank, with input from the Bank, which estimates the change in
net portfolio value over a range of interest rate scenarios. NPV is the present
value of expected cash flows from assets, liabilities and off-balance sheet
contracts. The NPV Ratio, in any interest rate scenario, is defined as the NPV
in that same scenario divided by the market value of assets in the same
scenario. The Sensitivity Measure is the decline in the NPV Ratio, in basis
points, caused by a 2% increase or decrease in rates, whichever produces a
larger decline. The higher an institution's Sensitivity Measure, the greater is
considered to be its exposure to interest rate risk. The OTS also produces a
similar analysis using its own model, based upon data submitted on the Bank's
quarterly Thrift Financial Reports. See "Item 1. Business--Regulation--Federal
Savings Institution Regulation--Capital Requirements" for a discussion of the
impact on the Bank's risk-based capital of a pending OTS capital deduction
policy.
As of December 31, 1996, the Bank's Sensitivity Measure, as measured by the
OTS, was negative 206 basis points. As of the same date, the Sensitivity Measure
as measured by the Bank was negative 306 basis points. The Bank compares the
results from the OTS and from its internally generated results and provides the
Board of Directors with a comparison to determine if there is any additional
risk.
As in the case with the gap table, certain shortcomings are inherent in the
methodology used in the above interest rate-risk measurements. Modeling changes
in NPV requires the making of certain assumptions which may tend to oversimplify
the manner in which actual yields and costs respond to changes in market
interest rates. First, the models assume that the composition of the Bank's
interest sensitive assets and liabilities existing at the beginning of a period
remains constant over the period being measured. Second, the models assume that
a particular change in interest rates is reflected uniformly across the yield
curve regardless of the duration to maturity or repricing of specific assets and
liabilities. Third, the model does not take into account the Bank's business or
strategic plans. Accordingly, although the NPV measurements and net interest
income models provide an indication of the Bank's interest rate risk exposure at
a particular point in time, such measurements are not intended to and do not
provide a precise forecast of the effect of changes in market interest rates on
the Bank's net interest income and will differ from actual results.
CAPITAL RESOURCES
- -----------------
At December 31, 1996, the Bank exceeded all of its regulatory capital
requirements and was considered "well capitalized". The following table sets
forth the Bank's regulatory capital ratios at December 31, 1996 and December 31,
1995 (see also Note Q of the Notes to Consolidated Financial Statements):
<TABLE>
<CAPTION>
DECEMBER 31, 1996 DECEMBER 31, 1995 MINIMUM REQUIREMENT
----------------- ----------------- -------------------
<S> <C> <C> <C>
Tangible Capital 7.2% 7.5% 1.5%
Leverage Capital 7.2% 7.5% 3.0%
Risk-based Capital 11.3% 13.6% 8.0%
</TABLE>
40
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Bank's consolidated financial statements begin on page F-1 of this
report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
On March 3, 1997, the Bank dismissed Grant Thornton LLP ("Grant") as its
independent accountants. The reports of Grant on the financial statements of the
Bank for fiscal years ending December 31, 1996 and 1995 did not contain an
adverse opinion, or a disclaimer of opinion, and were not qualified or modified
as to uncertainty, audit scope or accounting principles. The authority to
change independent accountants was provided by the Audit Committee of the Board
of Directors of the Bank at their meeting of February 19, 1997.
In connection with its audits for the two most recent fiscal years, and
through March 3, 1997, there have been no disagreements with Grant on any matter
of accounting principles or practices, financial statement disclosure, or
auditing scope or procedure. The Bank requested that Grant furnish a letter
addressed to the Office of Thrift Supervision stating that it agrees with the
above statements. A copy of such letter, dated March 5, 1997, has been filed as
Exhibit 16 to the Bank's Current Report on Form 8-K filed March 7, 1997.
On March 3, 1997, the Bank engaged the firm of KPMG Peat Marwick LLP
as its independent accountants for the fiscal year ended December 31, 1997.
41
<PAGE>
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information concerning the Bank's directors and executive officers is
incorporated herein by reference from the section entitled "ELECTION OF
DIRECTORS" of the Bank's definitive Proxy Statement to be filed pursuant to
Regulation 14A within 120 days after the end of the last fiscal year.
ITEM 11. EXECUTIVE COMPENSATION
Information concerning executive compensation is incorporation herein by
reference from the section entitled "EXECUTIVE COMPENSATION" of the Bank's
definitive Proxy Statement to be filed pursuant to Regulation 14A within 120
days after the end of the last fiscal year.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information concerning the security ownership of certain beneficial owners
and management is incorporated by reference from the sections entitled "SECURITY
OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT" in the Bank's definitive
Proxy Statement to be filed pursuant to Regulation 14A within 120 days after the
end of the last fiscal year.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
None.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) The following documents are included in this report at the page
numbers indicated.
<TABLE>
<CAPTION>
1. Financial Statements and Schedules Page No.
---------------------------------- -------
<S> <C>
Report of Independent Certified Public Accountants F-2
Consolidated Statements of Financial Condition as of
December 31, 1996 and December 31, 1995 F-3
Consolidated Statements of Operations for the Years
ended December 31, 1996, 1995 and 1994 F-4
Consolidated Statements of Shareholders' Equity for the
Years ended December 31, 1996, 1995 and 1994 F-5
Consolidated Statements of Cash Flows for the Years ended
December 31, 1996, 1995 and 1994 F-6
Notes to Consolidated Financial Statements F-7
</TABLE>
42
<PAGE>
2. All financial statement schedules are omitted because of the
absence of the conditions under which they are required to be
provided or because the required information is included in the
financial statements listed above and/or related notes.
3. Exhibits
--------
(i) Executive Compensation Plans and Arrangements:
---------------------------------------------
The following is a summary of the Bank's executive
compensation plans and arrangements which are required to be
filed as exhibits to this Report on Form 10-K:
Exhibit
Number Description of Exhibit
- ------ ----------------------
10.1 Profit Sharing Plan of the Bank, filed as Exhibit 10.3 to the Annual
Report on Form 10-K of the Bank for the fiscal year ended December 31,
1986 and incorporated herein by reference.
10.2 Retirement Agreement between the Bank and Ben Karmelich, dated June
19, 1986, filed as Exhibit 10.4 to the Annual Report on Form 10-K of
the Bank for the fiscal year ended December 31, 1986 and incorporated
herein by reference.
10.3 Retirement Agreement between the Bank and James B. Johnston, dated
June 19, 1986 filed as Exhibit 10.5 to the Annual Report on Form 10-K
of the Bank for the fiscal year ended December 31, 1986 and
incorporated herein by reference.
10.5 Amendment No.1 to the Retirement Agreement between the Bank and Ben
Karmelich, dated March 16, 1988, filed as Exhibit 10.7 to the Annual
Report on Form 10-K of the Bank for the fiscal year ended December 31,
1988 and incorporated herein by reference.
10.6 Amendment No. 1 to the Retirement Agreement between the Bank and
James B. Johnston, dated March 16, 1988, filed as Exhibit 10.8 to the
Annual Report on Form 10-K of the Bank for the fiscal year ended
December 31, 1988 and incorporated herein by reference.
10.9 Amended and Restated Retirement Agreement between the Bank and Kelly
A. Andrews, dated January 19, 1994, filed as Exhibit 10.9 to the
Annual Report on Form 10-K of the Bank for the fiscal year ended
December 31, 1994 and incorporated herein by reference.
10.11 1994 Stock Option and Performance Share Award Plan, filed as Exhibit
10.11 to the Annual Report on Form 10-K of the Bank for the fiscal
year ended December 31, 1994 and incorporated herein by reference.
10.14 Form of Change of Control Employment Agreement between the Bank and
each of Stephen N. Rippe, Gary P. Warren, Anthony L. Frey and Ellen B.
Geiger, filed as Exhibit 10.14 to the Bank's Registration Statement on
Form OC (on Form S-1) originally filed with the OTS on September 8,
1995 and incorporated herein by reference.
10.16 Form of Stock Option Agreement between the Bank and each of Stephen N.
Rippe, Gary P. Warren, Anthony L. Frey and Ellen B. Geiger, filed as
Exhibit 10.16 to the Annual Report on Form 10-K of the Bank for the
fiscal year ended December 31, 1995 and incorporated herein by
reference.
43
<PAGE>
(ii) Exhibit Index:
-------------
Exhibit
Number Description of Exhibit
- ------ ----------------------
3.1 Federal Stock Charter of the Bank, filed as Exhibit 3.1 to the Annual
Report on Form 10-K of the Bank for the fiscal year ended December 31,
1989 and incorporated herein by reference.
3.1.1 Amendment to Federal Stock Charter of the Bank dated February 20,
1996, filed as Exhibit 3.1.1 to the Annual Report on Form 10-K of the
Bank for the fiscal year ended December 31, 1995 and incorporated
herein by reference.
3.2 Amended and Restated Bylaws of the Bank, filed as Exhibit 3.2 to the
Annual Report on Form 10-K of the Bank for the fiscal year ended
December 31, 1995 and incorporated herein by reference.
4.0 Specimen Certificate for the Common Stock of the Bank, filed as
Exhibit 4.0 to the Annual Report on Form 10-K of the Bank for the
fiscal year ended December 31, 1986 and incorporated herein by
reference.
10.1 Profit Sharing Plan of the Bank, filed as Exhibit 10.3 to the Annual
Report on Form 10-K of the Bank for the fiscal year ended December 31,
1986 and incorporated herein by reference.
10.2 Retirement Agreement between the Bank and Ben Karmelich, dated June
19, 1986, filed as Exhibit 10.4 to the Annual Report on Form 10-K of
the Bank for the fiscal year ended December 31, 1986 and incorporated
herein by reference.
10.3 Retirement Agreement between the Bank and James B. Johnston, dated
June 19, 1986 filed as Exhibit 10.5 to the Annual Report on Form 10-K
of the Bank for the fiscal year ended December 31, 1986 and
incorporated herein by reference.
10.4 RESERVED
10.5 Amendment No. 1 to the Retirement Agreement between the Bank and Ben
Karmelich, dated March 16, 1988, filed as Exhibit 10.7 to the Annual
Report on Form 10-K of the Bank for the fiscal year ended December 31,
1988 and incorporated herein by reference.
10.6 Amendment No. 1 to the Retirement Agreement between the Bank and James
B. Johnston, dated March 16, 1988, filed as Exhibit 10.8 to the Annual
Report on Form 10-K of the Bank for the fiscal year ended December 31,
1988 and incorporated herein by reference.
10.7 RESERVED
10.8 RESERVED
10.9 Amended and Restated Retirement Agreement between the Bank and Kelly
A. Andrews, dated January 19, 1994, filed as Exhibit 10.9 to the
Annual Report on Form 10-K of the Bank for the fiscal year ended
December 31, 1994 and incorporated herein by reference.
10.10 Lease between the Bank and York Square Building Bank, dated September
1, 1981, filed as Exhibit 10.8 to the Annual Report on Form 10-K of
the Bank for the fiscal year ended December 31, 1986 and incorporated
herein by reference.
10.11 1994 Stock Option and Performance Share Award Plan, filed as Exhibit
10.11 to the Annual Report on Form 10-K of the Bank for the fiscal
year ended December 31, 1994 and incorporated herein by reference.
10.12 RESERVED
10.13 RESERVED
10.14 Form of Change of Control Employment Agreement between the Bank and
each of Stephen N. Rippe, Gary P. Warren, Anthony L. Frey and Ellen B.
Geiger, filed as Exhibit 10.14 to the Bank's Registration Statement on
Form OC (on Form S-1) originally filed with the OTS on September 8,
1995 and incorporated herein by reference.
10.15 Form of Indemnification Agreement between the Bank and Members of the
Board of Directors, filed as Exhibit 10.15 to the Bank's Registration
Statement on Form OC (on Form S-1) originally filed with the OTS on
September 8, 1995 and incorporated herein by reference.
10.16 Form of Stock Option Agreement between the Bank and each of Stephen N.
Rippe, Garry P. Warren, Anthony L. Frey and Ellen B. Geiger, filed as
Exhibit 10.16 to the Annual Report on Form
44
<PAGE>
10-K of the Bank for the fiscal year ended December 31, 1995 and
incorporated herein by reference.
16.0 Letter of Grant Thornton LLP, dated March 5, 1997, filed as Exhibit
16 to the Current Report on Form 8-K of the Bank filed March 7, 1997
and incorporated herein by reference.
(b) Reports on Form 8-K
-------------------
None.
(c) Exhibits Required by Item 601 of Regulation S-K
-----------------------------------------------
See item 14(a)(3)(i) above.
(d) Additional Financial Statements
-------------------------------
Not applicable.
45
<PAGE>
C O N T E N T S
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of Independent Certified Public Accountants................... F-2
Consolidated Financial Statements
Consolidated Statements of Financial Condition.................. F-3
Consolidated Statements of Operations........................... F-4
Consolidated Statement of Shareholders' Equity.................. F-5
Consolidated Statements of Cash Flows........................... F-6
Notes to Consolidated Financial Statements...................... F-8
</TABLE>
F-1
<PAGE>
[LETTERHEAD OF GRANT THORNTON]
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
--------------------------------------------------
Board of Directors
Highland Federal Bank
We have audited the accompanying consolidated statements of financial condition
of Highland Federal Bank and Subsidiaries (the "Bank") as of December 31, 1996
and 1995, and the related consolidated statements of operations, shareholders'
equity, and cash flows for each of the years in the three-year period ended
December 31, 1996. These financial statements are the responsibility of the
Bank'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 reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Highland
Federal Bank and Subsidiaries as of December 31, 1996 and 1995, and the
consolidated results of their operations and their consolidated cash flows
for each of the years in the three-year period ended December 31, 1996, in
conformity with generally accepted accounting principles.
/S/ GRANT THORNTON LLP
Los Angeles, California
January 28, 1997
F-2
<PAGE>
<PAGE>
HIGHLAND FEDERAL, BANK AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------------
ASSETS 1996 1995
------ ---------- ----------
<S> <C> <C>
Cash and cash equivalents.................................................... $ 10,714 $ 49,766
Securities available-for-sale................................................ 60,038 46,874
Securities held-to-maturity.................................................. 17,969 20,787
Loans receivable, net........................................................ 373,545 312,994
Real estate acquired through foreclosure..................................... 1,400 2,966
Federal Home Loan Bank stock--at cost........................................ 3,125 3,307
Accrued interest receivable.................................................. 3,404 3,062
Premises and equipment, net.................................................. 8,311 8,022
Deferred income taxes, net................................................... 4,463 4,498
Other assets................................................................. 6,933 7,685
--------- ---------
$ 489,902 $ 459,961
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
------------------------------------
Liabilities
Deposits................................................................ $ 384,921 $ 378,699
FHLB advances........................................................... 62,500 39,500
Accounts payable and other liabilities.................................. 7,417 4,357
Income taxes payable.................................................... 201 3,314
--------- ---------
Total liabilities.................................................. 455,039 452,870
Commitments and contingencies................................................ -- --
Shareholders' equity--partially restricted
Preferred stock--1,000,000 shares authorized, no shares issued.......... -- --
Common Stock--authorized, 8,000,000 shares of $1 stated value;
issued and outstanding 2,295,983 shares in 1996 and 1995............. 2,296 2,296
Additional paid-in capital.............................................. 13,430 13,430
Retained earnings....................................................... 19,384 18,719
Net unrealized holding loss on securities available for sale, net
of tax of $127 and $182 in 1996 and 1995, respectively............... (247) (354)
---------- ----------
Total shareholders' equity......................................... 34,863 34,091
---------- ----------
$ 489,902 $ 459,961
========== ==========
</TABLE>
The accompanying notes are an integral part of these statements.
F-3
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31,
(DOLLAR AMOUNT IN THOUSANDS EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
1996 1995 1994
---------- ---------- -----------
<S> <C> <C> <C>
Interest income
Loans.................................................................... $ 35,251 $ 30,223 $ 29,598
Mortgage-backed securities............................................... 3,379 7,781 6,305
Other securities......................................................... 1,008 695 1,146
Assets under contractual agreement....................................... -- -- 427
---------- ---------- -----------
Total interest income............................................... 39,638 38,699 37,476
Interest expense
Deposits................................................................. 18,068 18,539 14,184
FHLB advances and other borrowings....................................... 2,358 2,848 3,617
---------- ---------- -----------
Total interest expense.............................................. 20,426 21,387 17,801
---------- ---------- -----------
Net interest income................................................. 19,212 17,312 19,675
Provision for losses on loans................................................. 3,930 5,221 13,536
---------- ---------- -----------
Net interest income after provision for losses on loans............. 15,282 12,091 6,139
Noninterest income
Gain on sale of loans.................................................... 441 86 150
Net gain (loss) on sale of securities.................................... 15 9 (216)
Other.................................................................... 1,711 1,484 1,045
---------- ---------- -----------
Total noninterest income............................................ 2,167 1,579 979
Noninterest expense
Compensation and benefits................................................ $ 6,556 $ 6,472 $ 6,232
Occupancy and equipment.................................................. 2,175 2,100 2,278
FDIC deposit insurance premium........................................... 1,003 1,087 902
FDIC deposit insurance premium--special assessment....................... 2,548 -- --
Service bureau and related equipment rental.............................. 730 640 617
Other.................................................................... 2,682 2,661 3,656
---------- ---------- -----------
Total general and administrative expenses........................... 15,694 12,960 13,685
Net cost of operation of real estate acquired through foreclosure............. 928 2,306 3,173
---------- ---------- -----------
Total noninterest expense........................................... 16,622 15,266 16,858
---------- ---------- -----------
Earnings (loss) before income taxes................................. 827 (1,596) (9,740)
Income tax expense (benefit).................................................. 162 (617) (3,355)
---------- ---------- -----------
NET EARNINGS (LOSS)................................................. $ 665 $ (979) $ (6,385)
========== ========== ===========
NET EARNINGS (LOSS) PER SHARE....................................... $ 0.29 $ (0.86) $ (5.78)
========== ========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-4
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1996, 1995 AND 1994
(DOLLAR AMOUNTS IN THOUSANDS)
<TABLE>
<CAPTION> NET UNREALIZED
HOLDING LOSS ON
ADDITIONAL SECURITIES
CAPITAL PAID-IN RETAINED AVAILABLE FOR SALE
STOCK CAPITAL EARNINGS NET OF TAX
------- ---------- -------- -----------------
<S> <C> <C> <C> <C>
Balance at January 1, 1994 ................................. $ 1,105 $ 1,612 $ 26,083 $ --
Net loss ................................................... -- -- (6,385) --
Net unrealized holding loss on securities available for
sale, net of tax ...................................... -- -- -- (1,453)
------- ---------- -------- --------
Balance at December 31, 1994 ............................... 1,105 1,612 19,698 (1,453)
Stock offering ............................................. 1,191 11,818 -- --
Net loss ................................................... -- -- (979) --
Change in net unrealized holding loss on securities
available for sale, net of tax ........................ -- -- -- 1,099
------- ---------- -------- --------
Balance at December 31, 1995 ............................... 2,296 13,430 18,719 (354)
Net earnings ............................................... -- -- 665 --
Change in net unrealized holding loss on securities
available for sale, net of tax ........................ -- -- -- 107
------- ---------- -------- --------
Balance at December 31, 1996 $ 2,296 $13,430 $ 19,384 $ (247)
======= ========= ========= ========
</TABLE>
The accompanying notes are an integral part of this statement.
F-5
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31,
(DOLLARS AMOUNTS IN THOUSANDS)
<TABLE>
<CAPTION> 1996 1995 1994
--------- --------- --------
<S> <C> <C> <C>
Increase (decrease) in cash and cash equivalents
Cash flows from operating activities:
Net earnings (loss) ..................................................... $ 665 $ (979) $ (6,386)
Adjustments to reconcile net (loss) earnings to net cash provided
by operating activities:
Net (gain) loss on sale of real estate acquired through
foreclosure ...................................................... (330) 296 580
Deferred income taxes (benefit) .................................... (19) (5,524) 2,503
Amortization of premiums (discounts) on securities ................. 312 1,030 1,037
Depreciation ....................................................... 665 727 850
Increase (decrease) in FHLB stock ................................. 182 785 (706)
Deferred direct loan origination costs ............................. (169) (182) (251)
Provision for real estate held for sale ............................ -- -- 2,215
Provision for losses on loans ...................................... 3,930 5,221 13,536
Provision for losses on real estate acquired through foreclosure ... 264 669 1,092
Increase (decrease) in accrued interest receivable ................ (342) 406 53
Decrease (increase) in recoverable income taxes .................... -- 7,211 (5,753)
Decrease (increase) in other assets ................................ 752 (2,288) (140)
Increase in accounts payable and other liabilities ................. 3,060 193 541
(Decrease) increase in income taxes payable ........................ (3,113) 3,314 --
--------- --------- --------
Net cash provided by operating activities........................ 5,857 10,879 9,171
Cash flows from investing activities:
Purchases of securities ................................................. (86,652) (32,332) (99,040)
Sales and maturities of securities ...................................... 76,155 114,345 57,519
Purchases of premises and equipment ..................................... (954) (770) (397)
Proceeds from the sale of real estate acquired through
foreclosure ........................................................ 6,872 19,788 12,192
Proceeds from the sale of loans ......................................... 12,086 7,171 2,935
Purchases of loans ...................................................... (7,690) -- --
Net increase in loans receivable ........................................ (73,948) (69,109) (11,329)
--------- --------- --------
Net cash provided by (used in) investing activities (74,131) 39,093 (38,120)
</TABLE>
F-6
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS--CONTINUED
YEAR ENDED DECEMBER 31,
(DOLLAR AMOUNTS IN THOUSANDS)
<TABLE>
<CAPTION>
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
Cash flows from financing activities:
Net decrease in NOW, money market, and passbok accounts.................... $ (8,861) $ (12,154) $ (25,340)
Net decrease in certificates of deposit with maturities of three
months or less........................................................... (290) (7,077) (22,593)
Proceeds from sales of certificates of deposit with months
maturities of over three................................................. 53,369 52,497 91,173
Payments for maturing certificates of deposit held for over three
months................................................................... (37,996) (31,234) (14,502)
Net borrowings (repayments) of FHLB advances............................... 23,000 (22,000) (3,925)
Proceeds from stock offering............................................... -- 13,009 --
Cash dividends paid........................................................ -- -- (552)
-------- --------- ---------
Net cash (used in) provided by financing activities................... 29,222 (6,959) 24,261
-------- --------- ---------
Increase (decrease) in cash and cash equivalents...................... (39,052) 43,013 (4,688)
Cash and cash equivalents at begining of year................................... 49,766 6,753 11,441
-------- --------- ---------
Cash and cash equivalents at end of year........................................ $ 10,714 $ 49,766 $ 6,753
======== ========= =========
Supplemental disclosures of cash flow information:
Interest paid.............................................................. $ 19,983 $ 21,435 $ 17,861
======== ========= =========
Income taxes paid.......................................................... $ 695 $ 1,592 $ 534
======== ========= =========
Supplemental disclosure of noncash investing and financing activities:
Acquisition of real estate in settlement of loans.......................... $ 5,240 $ 15,667 $ 15,927
======== ========= =========
Loans made in conjunction with real estate sales........................... $ 3,625 $ 6,416 $ 6,919
======== ========= =========
</TABLE>
The accompanying notes are an integral part of these statements.
F-7
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1995 AND 1994
NOTE A--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Highland Federal Bank is a federally chartered savings bank primarily
engaged in the business of attracting deposits from the general public and using
such deposits, together with borrowings and other funds, to make mortgage loans
secured by residential and other real estate. Bank revenues are derived
principally from interest on real estate loans, and investments and other fees.
The major expense of the Bank is interest paid on deposits and borrowings. Bank
operations and net interest income are affected by general economic conditions
and by the monetary and fiscal policies of the federal government. Lending
activities are affected by the demand for mortgage and other types of financing
which is, in turn, affected primarily by interest rates and other factors
affecting the supply of housing and the availability of funds. Deposit flows and
cost of funds are influenced by interest rates on competing investments and by
general market interest rates.
The accounting and reporting policies of the Bank conform to generally
accepted accounting principles and the prevailing practices within the savings
and loan industry. A summary of the significant accounting policies consistently
applied in the preparation of the accompanying consolidated financial statements
follows:
1. PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Highland
Federal Bank and its wholly-owned subsidiaries, H.F.S. Corporation and Hi-Fed
Insurance Agency (collectively referred to as the "Bank"). The subsidiaries are
engaged in trustee and insurance related services. All significant intercompany
balances and transactions have been eliminated in consolidation.
2. CASH AND CASH EQUIVALENTS
For purposes of reporting cash flows, cash and cash equivalents include
cash, federal funds sold, time certificates of deposit and other deposits with
maturities of three months or less. Generally, federal funds are sold for a one
a day period.
3. SECURITIES
Securities include U.S. government obligations, corporate securities and
other debt securities. The Bank classifies its securities in two categories:
available-for-sale and held-to-maturity. Available-for-sale securities are
measured at fair value, with net unrealized gains and losses reported as a
separate component of shareholders' equity. Held-to-maturity securities are
carried at cost, adjusted for premiums or discounts which are amortized or
accreted and recognized in interest income using the interest method over the
period to maturity. Held-to-maturity securities are classified as such because
the Bank has the ability and management has the intent to hold them to maturity.
Premiums or discounts on mortgage-backed securities are amortized over the
remaining contractual maturity, adjusted for anticipated prepayments. The
amortized cost or carrying value of the specific security sold is used
to compute the gain or loss on the sale of securities.
4. LOANS RECEIVABLE AND ALLOWANCE FOR LOAN LOSSES
The Bank conducts its lending business primarily in the state of
California. Loans are concentrated in residential, multi-family and commercial
real estate. Loans receivable are stated at unpaid principal balances, less
allowance for loan losses and net deferred loan origination fees. The Bank has
no loans held for sale at December 31, 1996 or 1995.
F-8
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
DECEMBER 31, 1996, 1995 AND 1994
The Bank maintains an allowance for loan losses at a level considered by
management adequate to cover probable losses on loans. The allowance for loan
losses is increased by charges to income and decreased by charge-offs (net of
recoveries). Management's periodic evaluation of the adequacy of the allowance
is based on the Bank's past loan loss experience, known and inherent risks in
the portfolio, adverse situations that may affect the borrower's ability to
repay, estimated value of any underlying collateral, and current and prospective
economic conditions. Although management uses the best information available to
make these estimates, future adjustments to the allowance may be necessary due
to economic, operating, regulatory and other conditions that may be beyond the
Bank's control. In addition, various regulatory agencies, as an intergral part
of their examination process, periodically review the Bank's allowance for loan
losses, such agencies may require the Bank to recognize additions to the
allowance based on judgments different from those of management.
Uncollectible interest on loans that are contractually past due is charged
off or an allowance is established based on management's periodic evaluation.
The allowance is established by a charge to interest income equal to all
interest previously accrued, and income is subsequently recognized only to the
extent cash payments are received until, in management's judgment the borrower's
ability to make periodic interest and principal payments is back to normal, in
which case the loan is returned to accrual status.
The Bank adopted, effective January 1, 1995, Statement of Financial
Accounting Standards (SFAS) No. 114, as amended by SFAS No. 118, "Accounting by
Creditors for Impairment of a Loan," which address the accounting by creditors
for impairment of certain loans. These statements require that impaired loans be
measured based on the present value of expected future cash flows discounted at
the loan's effective interest rate or, as a practical expedient, at the loan's
observable market price or the fair value of the collateral for the loan. Loans
are considered impaired when it is deemed probable that the Bank will be unable
to collect all amounts due (both principal and interest) according to the
contractual terms of the loan agreement. The Bank selects the measurement method
for determining impairment on a loan-by-loan basis, except that collateral-
dependent loans for which foreclosure is probable are measured at the fair value
of the collateral. Additionally, as prescribed by the statements, the Bank
measures impairment of a restructured loan by discounting the total expected
cash flows using the loan's effective rate of interest in the original loan
agreement. The adoption of these statements did not have a material effect on
the Bank's financial statements.
5. LOAN ORIGINATION AND COMMITMENT FEES
The Bank recognizes loan origination fees as an adjustment of the loan's
yield over the life of the loan by the interest method, which results in a
constant rate of return. Certain direct costs of originating the loan are
recognized over the life of the loan as a reduction of the yield rather than as
an expense when incurred.
Generally, loan commitment fees are deferred and recognized as an
adjustment of yield by the interest method over the related loan life or, if the
commitment expires unexercised, recognized in income upon expiration of the
commitment.
6. REAL ESTATE ACQUIRED THROUGH FORECLOSURE
The Bank records real estate acquired through foreclosure at the lesser of
the outstanding loan amount or fair value at the time of foreclosure. Required
developmental costs associated with foreclosed property under construction are
capitalized and considered in determining the fair value of the property.
Operating expenses of such properties, net of related income, and gains and
losses on their disposition are included in noninterest expense.
F-9
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996, 1995 AND 1994
7. PREMISES AND EQUIPMENT
Premises and equipment are carried at cost, less accumulated depreciation
and amortization. Depreciation is provided for in amounts sufficient to relate
the cost of depreciable assets to operations over their estimated service lives
on a straight-line basis. Leasehold improvements are amortized over the life of
the lease or the service lives of the improvements, whichever is shorter.
The Bank adopted, effective January 1, 1996, Statement of Financial
Accounting Standards (SFAS) No. 121. "Accounting for Long-Lived Assets and Long-
Lived Assets to Be Disposed Of," which addresses the impairment for long-lived
assets, certain identifiable intangibles and goodwill related to those assets to
be held and used and for long-live assets and certain identifiable intangibles
to be disposed of. This SFAS requires that long-lived assets and certain
identifiable intangibles to be held and used by an entity be reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. This SFAS also requires that
long-lived assets and certain identifiable intangibles to be disposed of be
reported at the lower of carrying amount or fair value less cost to sell. The
effect of adopting this statement did not have a material effect on the Bank's
financial statements.
8. EARNINGS (LOSS) PER SHARE
Earnings (loss) per share of capital stock has been calculated on the basis
of the weighted average number of shares outstanding during the period. Fully
diluted earnings per share has not been presented as the dilutive effect of
common stock equivalents for outstanding stock options is less than three
percent. The weighted-average number of common shares outstanding during 1996,
1995 and 1994 was 2,295,983, 1,138,262 and 1,104,761, respectively.
9. INCOME TAXES
Provisions for income taxes are based on amounts reported in the statements
of income. Deferred taxes are computed on the liability method of accounting for
income taxes as prescribed by SFAS No. 109, "Accounting for Income Taxes." Under
SFAS No. 109, deferred income taxes are recognized for the tax consequences of
temporary differences by applying enacted statutory tax rates applicable to
future years to differences between the financial statement carrying amounts and
the tax bases of existing assets and liabilities. The effect on deferred taxes
from a change in tax rates is recognized in income in the period that includes
the enactment date.
10. FAIR VALUES OF FINANCIAL INSTRUMENTS
The financial statements include various estimated fair value information.
Such information, which pertains to the Bank's financial instruments, does not
purport to represent the aggregate net fair value of the Bank. Fair values have
been estimated using data that management considered best available, as
generally provided in the Bank's Regulatory Reports, and estimation
methodologies deemed suitable for the pertinent category of financial
instrument. Further, the fair value estimates are based on various assumptions,
methodologies and subjective considerations, which vary widely among different
financial institutions and which are subject to change. The carrying amounts are
the amounts at which the financial instruments are reported in the financial
statements.
Changes in the assumptions or methodologies used to estimate fair value
may materially affect the estimated amounts. Also, management is concerned that
there may not be reasonable comparability between institutions due to the wide
range of permitted assumptions and methodologies in the absence of active
markets. This lack of uniformity gives rise to a high degree of subjectivity in
estimating financial instruments fair values.
F-10
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996, 1995 AND 1994
11. USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
12. CURRENT ACCOUNTING PRONOUNCEMENTS
Stock-Based Compensation
Statement of Financial Accounting Standard (SFAS) No. 123, "Accounting for
Stock-Based Compensation" was issued by the Financial Accounting Standards Board
(FASB) in October 1995, and is effective for transactions entered into after
December 15, 1995. SFAS No. 123 provides for companies to recognize compensation
expense associated with stock-based compensation plans over the anticipated
service period based on the fair value of the award at the date of grant.
However, SFAS No. 12 allows for companies to continue to measure compensation
costs as prescribed by APB Opinion (APB) No. 25, "Accounting for Stock Issued to
Employees." The Bank has elected to continue its current policy, which is to
account for stock-based compensation plans under APB No. 25.
Mortgage Servicing Rights
Statement of Financial Accounting Standard (SFAS) No. 122, "Accounting for
Mortgage Servicing Rights," issued by the FASB in May 1995 and is effective for
sales or securitizations of mortgage loans with servicing rights retained in
fiscal years beginning after December 15, 1995. SFAS No. 122 requires companies
that sell or securitize mortgage loans with servicing rights retained to
allocate the total cost of the mortgage loans to the mortgage servicing rights
and the loans based upon their relative fair values. SFAS No. 122 further
requires that capitalized mortgage servicing rights be evaluated for impairment
based upon the fair value of these rights. In 1996 the Bank did not sell or
securitize loans with servicing rights retained, and does not anticipate that
the implementation of SFAS No. 122 will have a material effect in its financial
statements.
In June 1996, the FASB issued SFAS No. 125, "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities." This
statement provides accounting and reporting standards for transfers of financial
assets and servicing of financial assets and extinguishments of liabilities.
Those standards are based on consistent application of a financial-components
approach that focuses on control. Under that approach, after a transfer of
financial assets, an entity recognizes the financial assets 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. The Bank will adopt this statement as of January 1, 1997 and has
made no assessment of the potential impact SFAS No. 125 at this time.
13. RECLASSIFICATIONS
Certain accounts in the 1995 and 1994 financial statements have been
reclassified to conform with the classifications in 1996.
F-11
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996, 1995 AND 1994
NOTE B--SECURITIES
The amortized cost, gross unrealized gains and losses, and estimated fair
value of the Bank's available-for-sale and held-to-maturity securities as of
December 31, 1996 and 1995 are as follows (in thousands):
<TABLE>
<CAPTION>
1996
-----------------------------------------------
GROSS UNREALIZED
----------------
AMORTIZED ESTIMATED
COST GAINS LOSSES FAIR VALUE
--------- ----- ------ ----------
<S> <C> <C> <C> <C>
Securities available for sale
U.S. Treasury and agency securities......... $ 2,982 $ - $ 14 $ 2,968
Mortgage-backed securities.................. 34,431 64 425 34,070
Equity securities (money market funds)...... 23,000 -- -- 23,000
--------- ----- ------ ----------
$60,413 $ 64 $ 439 $ 60,038
========= ===== ====== ==========
<CAPTION>
1996
-----------------------------------------------
GROSS UNREALIZED
----------------
AMORTIZED ESTIMATED
COST GAINS LOSSES FAIR VALUE
--------- ----- ------ ----------
<S> <C> <C> <C> <C>
Securities held to maturity
Mortgage-backed securities.................. $17,969 $ -- $ 476 $ 17,493
========= ===== ====== ==========
<CAPTION>
1995
-----------------------------------------------
GROSS UNREALIZED
----------------
AMORTIZED ESTIMATED
COST GAINS LOSSES FAIR VALUE
--------- ----- ------ ----------
<S> <C> <C> <C> <C>
Securities available for sale
U.S. Treasury and agency securities......... $ 2,972 $ - $ 12 $ 2,960
Mortgage-backed securities.................. 41,438 76 600 40,914
Equity securities (money market funds)...... 3,000 -- -- 3,000
--------- ----- ------ ----------
47,410 $ 76 $ 612 $ 46,874
========= ===== ====== ==========
<CAPTION>
1995
-----------------------------------------------
GROSS UNREALIZED
----------------
AMORTIZED ESTIMATED
COST GAINS LOSSES FAIR VALUE
--------- ----- ------ ----------
<S> <C> <C> <C> <C>
Securities held to maturity
Mortgage-backed securities.................. $20,787 $ - $ 229 $ 20,558
========= ===== ====== ==========
</TABLE>
The weighted average yields of U.S. Treasury and equity securities earned
during 1996, 1995 and 1994 were 5.5%, 6.1% and 5.6%, respectively. The weighted
average yield of mortgage-backed securities was 5.9%, 6.6%, 5.5% and during
1996, 1995 and 1994, respectively.
Proceeds and realized gains and losses on sales of securities available for
sale for the years ending December 31 are summarized as follows (in thousands):
<TABLE>
<CAPTION>
PROCEEDS GAINS LOSSES
-------- ----- ------
<S> <C> <C> <C>
1996.......................................... $ 63,645 $ 15 $ --
1995.......................................... 103,960 341 332
1994.......................................... 25,458 -- 216
</TABLE>
F-12
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996, 1995 AND 1994
The contractual maturities of securities held to maturity and available for
sale at December 31, 1996 were as follows (in thousands):
<TABLE>
<CAPTION>
HELD TO MATURITY AVAILABLE FOR SALE
---------------------- ---------------------
AMORTIZED AMORTIZED
COST FAIR VALUE COST FAIR VALUE
--------- ---------- --------- ----------
<S> <C> <C> <C> <C>
Due in less than one year.................... $ $ $ 26,586 $ 26,578
Due from one year to five years.............. -- -- 17,852 17,463
Due from five to ten years................... -- -- 3,417 3,389
Due after ten years.......................... 17,969 17,493 12,558 12,608
--------- ---------- --------- ----------
$ 17,969 $ 17,493 $ 60,413 $ 60,038
========= ========== ========= ==========
</TABLE>
Expected maturities will differ from contractual maturities because
borrowers may have the right to call or prepay obligations with or without call
or prepayment penalties.
NOTE C--LOANS RECEIVABLE
Loans receivable are summarized as follows (in thousands):
<TABLE>
<CAPTION>
1996 1995
-------- --------
<S> <C> <C>
Conventional trust deed loans collateralized by real estate
1-4 Family residential properties......................................... $ 82,436 $ 99,724
Multifamily............................................................... 180,940 127,073
Commercial................................................................ 116,389 88,326
Construction and land..................................................... 3,954 7,543
Consumer loans.............................................................. 1,244 923
-------- --------
384,963 323,589
Less:
Loans in process.......................................................... 1,439 1,066
Deferred origination fees................................................. 2,303 2,473
Allowance for loan losses................................................. 7,676 7,056
-------- --------
$373,545 $312,994
======== ========
Weighted average yield on loans for the year................................ 10.31% 10.53%
======== ========
</TABLE>
The Bank serviced loans for others in the approximate amounts of $5.0
million and $5.8 million at December 31, 1996 and 1995, respectively.
Transactions in the allowance for loan losses for the years ended December
31 are summarized as follows (in thousands):
<TABLE>
<CAPTION>
1996 1995 1994
-------- -------- --------
<S> <C> <C> <C>
Allowance for loan losses at beginning of year........... $ 7,056 $ 8,832 $ 5,142
Provision for losses .................................... 3,930 5,221 13,536
Losses charged against the allowance..................... (3,323) (7,912) (9,846)
Recoveries............................................... 13 915 --
-------- -------- --------
Allowance for loan losses at end of year................. $ 7,676 $ 7,056 $ 8,832
======== ======== ========
</TABLE>
F-13
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996, 1995 AND 1994
The Bank had impaired loans of $12.2 million and $15.7 million at December
31, 1996 and 1995, respectively. The average recorded investment in impaired
loans during 1996 and 1995 was $14.5 million and $17.9 million, respectively.
The total allowance for loan losses related to impaired loans was $2.6 million
and $2.1 million at December 31, 1996 and 1995, respectively. Interest income
recognized on impaired loans of $861,000 and $1.0 million was recognized for
cash payments received in 1996 and 1995, respectively.
NOTE D--NONACCRUAL AND RENEGOTIATED LOANS
When the payment of principal or interest on a loan is delinquent for 90
days, or earlier in some cases, the loan is placed on nonaccrual status, unless
the loan is in the process of collection and the underlying collateral fully
supports the carrying value of the loan. If the decision is made to continue
accruing interest on the loan, periodic reviews are made to confirm the accruing
status of the loan. When a loan is placed on nonaccrual status, interest accrued
during the current year prior to the judgment of uncollectibility is charged to
operations. Interest accrued during prior periods is charged to the allowance
for loan losses.
Generally, any payments received on nonaccrual loans are applied first to
outstanding loan amounts and next to the recovery of charged-off loan amounts.
Any excess is treated as recovery of lost interest.
The amounts below approximate the balance of loans which have been placed
on nonaccrual status and the interest that would have been earned had the loans
been performing (in thousands):
<TABLE>
<CAPTION>
PRINCIPAL DELINQUENT
DECEMBER 31, BALANCE INTEREST
------------ ---------- ------------
<S> <C> <C>
1996..................................... $3,455 $692
1995..................................... 5,220 788
1994..................................... 9,038 895
</TABLE>
Renegotiated loans for which interest has been reduced totaled or suspended
totaled approximately $7.4 million, $9.4 million, and $8.5 million at December
31, 1996, 1995 and 1994, respectively. Interest income that would have been
recorded under the original terms of such loans and the interest income actually
recognized for the years ended December 31 are summarized as follows(in
thousands):
<TABLE>
<CAPTION>
1996 1995 1994
------ ------ ------
<S> <C> <C> <C>
Interest income that would have been recorded.............. $887 $796 $1,033
Interest income recognized................................. (626) (567) (851)
------ ------ ------
Interest income foregone................................... $261 $220 $ 182
====== ====== ======
</TABLE>
NOTE E--REAL ESTATE ACQUIRED THROUGH FORECLOSURE
Real estate acquired through foreclosure for years ended December 31 is as
follows (in thousands):
<TABLE>
<CAPTION>
1996 1995 1994
------ ------ ------
<S> <C> <C> <C>
Real estate acquired through foreclosure................... $1,400 $2,966 $8,022
Less allowance for losses.................................. -- -- (1,231)
------ ------ ------
$1,400 $2,966 $6,791
====== ====== ======
</TABLE>
F-14
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996, 1995 AND 1994
An analysis of activity in real estate acquired through foreclosure for the
years ended December 31 is summarized as follows (in thousands):
<TABLE>
<CAPTION>
1996 1995 1994
------- ------- -------
<S> <C> <C> <C>
Balance at beginning of year, net....... $ 2,966 $ 6,791 $ 9,170
Additions............................... 5,240 15,667 15,927
Disposals............................... (6,806) (19,492) (18,306
------- ------- -------
Balance at end of year, net............. $ 1,400 $ 2,966 $ 6,791
======= ======= =======
</TABLE>
NOTE F--PREMISES AND EQUIPMENT
Premises and equipment consist of the following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1996 1995
------ ------
<S> <C> <C>
Office buildings................................. $6,682 $6,420
Leasehold improvements........................... 1,623 1,262
Furniture, fixtures, equipment and vehicles...... 1,647 2,919
------ ------
9,952 10,601
Less accumulated depreciation and amortization... 3,577 4,515
------ ------
6,375 6,086
Land............................................. 1,936 1,936
------ ------
$8,311 $8,022
====== ======
</TABLE>
NOTE G--DEPOSITS
Deposits by interest rate and general description are summarized as follows
(in thousands):
<TABLE>
<CAPTION>
DECEMBER 31, 1996 DECEMBER 31, 1995
--------------------- ---------------------
PERCENT PERCENT
OF TOTAL OF TOTAL
AMOUNT DEPOSITS AMOUNT DEPOSITS
-------- -------- -------- ---------
<S> <C> <C> <C> <C>
2.00% NOW accounts.............................. $ 33,038 8.58% $ 32,855 8.68%
2.00%--3.00% Passbook accounts.................. 29,224 7.59 35,817 9.46
2.00%--5.50% Money Market Checking and Savings.. 22,118 5.75 24,550 6.48
Certificates with rates of:
0%--4.00%.................................... 10 -- 1,998 .53
4.01%--6.00%................................. 246,933 64.15 186,168 49.16
6.01% and over............................... 53,598 13.93 97,311 25.69
-------- -------- -------- ---------
$384,921 100.00% $378,699 100.00%
======== ======== ======== =========
</TABLE>
The weighted average interest rate on all deposits was 4.82%, 4.87% and
3.99% at December 31, 1996, 1995 and 1994, respectively.
As of December 31, 1996, certificate accounts are scheduled to mature as
follows (in thousands):
<TABLE>
<CAPTION>
YEAR OF
MATURITY AMOUNTS
-------- -----------
<S> <C>
1997.............................................. $233,229
1998.............................................. 59,210
1999.............................................. 5,197
Thereafter........................................ 2,905
-----------
$300,541
===========
</TABLE>
F-15
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996, 1995 AND 1994
The aggregate amount of jumbo certificates of deposit with a balance
greater than $100,000 was $56.2 million and $46.4 million at December 31, 1996
and 1995, respectively. Jumbo certificates had average balances of $106.4
million and $116.3 million at December 31, 1996 and 1995, respectively.
The amount of interest expense per deposit category for the years ended
December 31 is as follows (in thousands):
<TABLE>
<CAPTION>
1996 1995 1994
------- ------- -------
<S> <C> <C> <C>
NOW accounts................................. $ 347 $ 482 $ 520
Money market checking and savings accounts... 680 779 1,387
Passbook accounts............................ 853 1,276 1,932
Certificates $100 and more................... 138 241 517
Market rate certificates..................... 16,050 15,761 9,828
------- ------- -------
$18,068 $18,539 $14,184
======= ======= =======
</TABLE>
NOTE H--FHLB ADVANCES
FHLB advances represent secured obligations with the Federal Home Loan Bank
("FHLB"), at various rates and terms.
Pursuant to collateral agreements with the FHLB, advances are secured by
Highland Federal's mortgage loans and mortgage-backed securities. Bank assets
with a carrying value of $294.1 million and $43.5 million, have been pledged to
secure these advances at December 31, 1996 and 1995, respectively. Advances at
December 31, 1996 have the following maturity dates: $24.5 million in 1997,
$30.0 million in 1998 and $8.0 million in 1999. Interest rates range from 5.51%
to 8.29%.
The following table approximates the maximum month-end balance outstanding,
average daily balance outstanding, average rates paid during the year, and the
average rates on the balance at December 31 for FHLB advances (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------
1996 1995 1994
------- ------- -------
<S> <C> <C> <C>
Maximum month-end balance..................... $62,500 $61,500 $79,700
Average daily balance......................... 39,563 $51,734 $70,437
Average rates paid............................ 5.96% 5.44% 5.13%
Average rates on balance at year end.......... 6.19% 5.70% 5.30%
Balance at year-end........................... $62,500 $39,500 $61,500
</TABLE>
NOTE I--INCOME TAXES
Significant components of the Bank's deferred tax assets and liabilities as
of December 31, are approximated as follows (in thousands):
F-16
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996, 1995 AND 1994
<TABLE>
<CAPTION>
1996 1995 1994
--------- --------- ---------
<S> <C> <C> <C>
Deferred tax assets:
Depreciation........................................................... $ 143 $ 107 $ 89
Book over tax reserve for loan losses.................................. 3,511 3,231 4,038
Deferred compensation.................................................. 1,765 1,014 930
Installment sale....................................................... 249 249 250
Reserve for losses--building........................................... 1,003 1,003 955
Nonaccrual interest.................................................... 89 357 407
Unrealized loss on securities.......................................... 170 182 748
Real estate owned--reserves............................................ -- 558 613
Discount to facilitate sale of real estate owned....................... 239 251 450
Net operating loss carryforward........................................ 467 297 286
Alternative minimum tax credit carryforward............................ -- -- 426
Other.................................................................. 51 57 60
--------- --------- ---------
Deferred tax asset.................................................. 7,687 7,306 9,252
Valuation reserve...................................................... (1,334) (1,012) (995)
--------- --------- ---------
Total deferred tax assets........................................... $ 6,353 $ 6,294 $ 8,257
========= ========= =========
Deferred tax liabilities:
Accrued interest....................................................... $ 115 $ 128 $ 143
State franchise tax.................................................... 220 215 215
Tax over book depreciation............................................. -- -- --
Tax over book deferred loan fees....................................... 287 301 412
Loan origination costs deferred for book............................... -- --
FHLB dividends......................................................... 965 885 811
Mark to market for investment securities............................... 303 267 7,136
--------- --------- ---------
Total deferred tax liabilities...................................... 1,890 1,796 8,717
--------- --------- ---------
Net deferred tax (liability) asset.................................. $ 4,463 $ 4,498 $ (460)
========= ========= =========
A summary of the provision for income tax expense (benefits) for the year ended December 31 is as follows (in thousands):
<CAPTION>
1996 1995 1994
--------- --------- ---------
<S> <C> <C> <C>
Current taxes
Federal................................................................ $ 987 $ 4,904 $(6,680)
State.................................................................. 2 2 2
--------- --------- ---------
989 4,906 (6,678)
--------- --------- ---------
Deferred taxes:
Federal................................................................ (748) (5,570) 3,361
State.................................................................. (79) 47 (38)
--------- --------- ---------
(827) (5,523) 3,323
--------- --------- ---------
$ 162 $ (617) $(3,355)
========= ========= =========
</TABLE>
F-17
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996, 1995 AND 1994
A reconciliation of the federal statutory income tax rate to the effective
income tax rate for the year ended December 31 is as follows:
<TABLE>
<CAPTION>
1996 1995 1994
------ ------ ------
<S> <C> <C> <C>
Statutory federal tax rate........... 34.0% (34.0)% (34.0)%
Officers' life insurance............. 18.4 -- --
Exempt interest income............... (27.3) -- --
State tax credit..................... (10.9) -- --
Other................................ 5.4 (4.7) (.4)
------ ------ ------
19.6% (38.7)% (34.4)%
====== ====== ======
</TABLE>
At December 31, 1996, approximately $4,202,000 of accumulated retained
earnings have qualified as tax bad debt deductions for which no provision for
federal income taxes has been made. If in the future these amounts are used for
any purpose other than to absorb loan losses, including distributions in
liquidation, a tax liability will be imposed at the current corporate rate. It
is not contemplated that such amounts will be used in any manner which will
create a federal income tax liability.
At December 31, 1996, the Bank has California net operating loss
carryforwards in the amount of approximately $4,139,000, which begin expiring
in the year 2000.
NOTE J--FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK
The Bank is a party to financial instruments with off-balance-sheet risk in
the normal course of business to meet the financing needs of its customers and
to reduce its own exposure to fluctuations in interest rates. These financial
instruments include commitments to extend credit, including unfunded lines of
credit. Those instruments involve, to varying degrees, elements of credit and
interest rate risk in excess of the amount recognized in the statement of
financial condition. The contractual amounts of those instruments reflect the
extent of involvement the Bank has in particular classes of financial
instruments.
NOTE K--COMMITMENTS AND CONTINGENCIES
The Bank's exposure to credit loss in the event of nonperformance by the
other party to the financial instrument for commitments to extend credit is
represented by the contractual amount of those instruments as the Bank uses the
same lending policies for these instruments as it does for the loan portfolio.
The Bank has outstanding commitments to fund loans of approximately $7.6 million
and $6.3 million at December 31, 1996 and 1995, respectively. These commitments
expire within approximately 90 days and provide for variable rates of interest
for the 1995 commitments and for fixed rates of interest for the 1994
commitments. The Bank also has unfunded construction loan commitments in the
amount of approximately $1.3 million and $1.1 million at December 31, 1996 and
1995, respectively.
Commitments
The Bank leases its branch operation premises under various operating
leases and certain automobiles. The leases expire at varying periods through the
year 2007. At December 31, 1995, the minimum rental commitments under all
noncancellable leases with initial or remaining terms of more than one year are
approximated as follows (in thousands):
F-18
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996, 1995 AND 1994
<TABLE>
<CAPTION>
YEAR AMOUNT
---- ------
<S> <C>
1997................................................ $ 621
1998................................................ 460
1999................................................ 334
2000................................................ 305
2001................................................ 227
Thereafter.......................................... 804
------
Total minimum payments required................ $2,751
======
</TABLE>
Included in occupancy and equipment expense for 1996, 1995 and 1994 are
rental expenses for premises and equipment of approximately $875,000, $1,056,000
and $1,057,000, respectively. Included in other expenses for 1996, 1995 and 1994
are auto lease expenses of approximately $23,000, $26,000 and $29,000,
respectively. Office leases provide for certain cost-of-living increases and
require the Bank to pay for property taxes, insurance and maintenance expenses.
Contingencies
The Bank is also involved in certain other litigation concerning various
transactions entered into during the normal course of business. Management does
not believe that the settlement of such litigation will have a material effect
upon the accompanying consolidated financial statements.
NOTE M--OTHER NONINTEREST INCOME
Components of the Bank's other noninterest income for the years ended
December 31 are as follows (in thousands):
<TABLE>
<CAPTION>
1996 1995 1994
------ ------ ------
<S> <C> <C> <C>
Late charges and collection fees..................... $ 192 $ 227 $ 270
Retail branch fees (including ATM)................... 1,105 571 404
Dividends on FHLB Stock.............................. 177 170 199
Other................................................ 237 516 172
------ ------ ------
Total noninterest income........................ $1,711 $1,484 $1,045
====== ====== ======
</TABLE>
NOTE N--EMPLOYEES' PROFIT-SHARING AND RETIREMENT PLANS
As of January 1, 1995, the Bank converted its noncontributory employee
profit sharing retirement plan to a contributory plan. Under the new plan, the
first 6% or less of a participant's compensation contributed is matched at 50%
by the Bank. All employees of the Bank who have completed one year of service
and have reached 21 years of age can participate in the plan. Under the previous
plan, contributions were discretionary, and were determined annually by the
Bank's Board of Directors based on the Bank's net earnings. The contributions
charged against operating results were approximately $69,000, $66,000 and $0 for
the years ended December 31, 1996, 1995 and 1994, respectively.
The Bank also funds a Supplemental Executive Retirement Plan ("SERP") and a
Split Dollar Insurance Program ("SDIP") for the benefit of certain employees and
former employees of the Bank who were employed by the Bank in 1986 and before.
The SERP calls for a defined benefit to be paid to certain employees and
former employees, while the SDIP provides a benefit to certain employees and
former employees based upon the values of specific insurance policies less Bank
funding costs. As of December 31, 1996 and 1995 the Bank had recorded
liabilities of $3.9 million and $2.2 million, respectively. The total related
compensation cost was approximately $1,009,000, $174,000, and $296,000 for the
years ended December 31, 1996, 1995 and 1994, respectively.
F-19
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996, 1995 AND 1994
NOTE O--STOCK OPTIONS
During 1994, the Bank adopted a Stock Option and Performance Share Award
Plan (the "Plan"), which provides for the grant of options and performance share
awards to key employees as designated by the Board of Directors and for the
automatic grant of stock options to non-employee directors. The Plan is
accounted for in accordance with Accounting Principles Board Opinion No. 25. The
aggregate number of common stock outstanding and available for issuance pursuant
to the exercise of options or the grant of awards is 300,000 shares.
The fair value of each option grant is estimated on the date of grant using
the minimum value method with the following weighted-average assumptions used
for grants in 1996: risk-free interest rate of 6.7% through 6.9%; expected lives
ranging from three to five years, and no dividend payments.
A summary of the status of the Bank's fixed stock option plan as of
December 31, 1996 and 1995, and changes for each of the years in the three-month
period ended December 31, 1996 is presented below:
<TABLE>
<CAPTION>
WEIGHTED
SHARES AVERAGE PRICE
-------- -------------
<S> <C> <C>
Outstanding at January 1, 1994............... -- $ --
Stock options granted........................ 42,500 16.00
--------
Outstanding at December 31, 1994............. 42,500 16.00
Stock options canceled....................... (25,000) 16.00
Stock options granted........................ 69,000 13.65
--------
Outstanding at December 31, 1995............. 86,500 14.13
Stock options granted........................ 46,000 16.38
--------
Outstanding at December 31, 1996............. 132,500 14.91
========
</TABLE>
The following information applied to options outstanding at December 31,
1996:
<TABLE>
<S> <C>
Number outstanding.............................. 132,500
Range of exercise prices........................ $12.00 to $16.37
Weighted-average exercise price................. $14.91
</TABLE>
In August 1995, amendments were made to reprice 25,000 certain options from
$16 per share to the price of $12.
No compensation cost has been recognized for the Plan. Had compensation
cost been recognized based upon the fair value of the options at the grant date
consistent with the methodology specified in SFAS No. 123, the Bank's net
earnings and net earnings per share at December 31, 1996 would have been (in
thousands, except per share amounts):
<TABLE>
<CAPTION>
1996 1995
----- --------
<S> <C> <C>
Net earnings (loss) as reported........................... $ 665 $ (979)
Net earnings (loss) pro forma............................. $ 588 $(1,182)
Earnings (loss) per share as reported..................... $0.29 $ (0.86)
Earnings (loss) per share pro forma....................... $0.26 $ (1.04)
</TABLE>
F-20
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996, 1995 AND 1994
NOTE P--OTHER NONINTEREST EXPENSE
Components of the Bank's other noninterest expense for the year ended
December 31 are as follows (in thousands):
<TABLE>
<CAPTION>
1996 1995 1994
------ ------ ------
<S> <C> <C> <C>
Legal fees................................ $ 416 $ 410 $ 831
Advertising............................... 124 94 291
Stationery and printing................... 264 235 238
Telephone expense......................... 168 158 147
Insurance expense......................... 315 349 403
Audit and accounting...................... 299 239 216
Other..................................... 1,096 1,176 1,530
------ ------ ------
Total other noninterest expense...... $2,682 $2,661 $3,656
====== ====== ======
</TABLE>
NOTE Q--REGULATORY CAPITAL REQUIREMENTS
The Bank is subject to various regulatory capital requirements administered
by the federal banking agencies. Failure to meet minimum capital requirements
can initiate certain mandatory (and possibly additional discretionary) actions
by regulators that, if undertaken, could have a direct material effect on the
Bank's financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Bank must meet specific
capital guidelines that involve quantitative measures of the Bank's assets,
liabilities, and certain off-balance-sheet items as calculated under regulatory
accounting practices. The Bank's capital amounts and classification is also
subject to qualitative judgments by the regulators about components, risk
weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios (set fourth in the table
below) of total and Tier I capital (as defined in the regulations) to risk-
weighted assets (as defined), and of Tier I capital (as defined) to average
assets (as defined). Management believes that, as of December 31, 1996, the Bank
meets all capital adequacy requirements to which it is subject.
As of December 31, 1996, the most recent notification from the Office of
Thrift Supervision categorized the Bank as well capitalized under the regulatory
framework for prompt corrective actions. To be categorized as well capitalized
the Bank must maintain minimum total risk-based, Tier I risk-based and Tier
leveraged ratios as set forth in the following table. There are no conditions or
events since that notification that management believes have changed the
institution's category.
The Bank's actual capital amounts and ratios are also presented in the
table (in thousands). The was no deduction from capital for interest-rate risk
in 1996 and 1995.
<TABLE>
<CAPTION>
TO BE WELL
CAPITALIZED
UNDER PROMPT
FOR CAPITAL CORRECTIVE
ACTUAL ADEQUACY PURPOSES ACTION PROVISIONS
------------------ ------------------ ------------------
AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT
------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
As of December 31, 1996:
Risk-Based Capital.................... $39,111 11.27% $27,774 8.0% $34,718 10.0%
Tier I Capital Risk-Based Capital..... 35,110 10.12% 13,887 4.0% 20,831 6.0%
Leverage Capital...................... 35,110 7.17% 19,556 4.0% 24,457 5.0%
Tangible Capital...................... 35,110 7.17% 7,337 1.5% 7,337 1.5%
</TABLE>
F-21
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996, 1995 AND 1994
NOTE R--DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practicable to estimate
that value:
Cash and Cash Equivalents
The carrying amount is a reasonable estimate of fair value.
Securities
The fair values of securities is based on quoted market prices or dealer
quotes.
Loans Receivable
For certain homogeneous categories of loans, such as some residential
mortgages and other consumer loans, fair value is estimated using the quoted
market prices for securities backed by similar loans, adjusted for differences
in loan characteristics. The fair value of other types of loans is estimated by
discounting the future cash flows using the current rates at which similar loans
would be made to borrowers with similar credit ratings and for the same
remaining maturities.
Deposit Liabilities
The fair value of demand deposits, savings accounts, and certain money
market deposits is the amount payable on demand at the reporting date. The fair
value of fixed-maturity certificates of deposit is estimated using the rates
currently offered for deposits of similar remaining maturities.
FHLB Advances
Rates currently available to the Bank for debt with similar terms and
remaining maturities are used to estimate fair value of existing debt.
Accrued interest receivable and payable
The carrying amount approximates fair value because of the short maturity
of these items.
The estimated fair values of the Bank's financial instruments are as
follows (in thousands):
<TABLE>
<CAPTION>
1996 1995
----------------------- -----------------------
CARRYING CARRYING
AMOUNT FAIR VALUE AMOUNT FAIR VALUE
-------- ---------- -------- ----------
<S> <C> <C> <C> <C>
Financial assets:
Cash and cash equivalents.................... $ 10,714 $ 10,714 $ 49,766 $ 49,766
Securities available for sale................ 60,038 60,038 46,874 46,874
Securities held to maturity.................. 17,969 17,493 20,787 20,558
Loans receivable............................. 381,221 380,569 320,050 314,571
Less: allowance for loan losses.............. (7,676) -- (7,056) --
-------- -------- -------- --------
Net loans receivable.............................. 373,545 380,569 312,994 314,571
-------- -------- -------- --------
Accrued interest receivable.................. 3,404 3,404 3,062 3,062
Financial liabilities:
Deposits..................................... 384,921 386,676 378,699 $381,297
FHLB advances................................ 62,500 62,798 39,500 40,101
Accrued interest payable..................... 51 51 90 90
</TABLE>
F-22
<PAGE>
HIGHLAND FEDERAL BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996, 1995 AND 1994
NOTE S--SUBSEQUENT EVENTS
The Bank has entered into two definitive agreements with two separate
financial institutions for the sale of three branches. The sales are expected
to close during the first quarter of 1997. One definitive agreement for the sale
of two branches is pending regulatory approval. The branch sales are a result of
the Bank's strategy of reducing the costs associated with its retail branches.
NOTE T--QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED
-------------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
1996 1996 1996 1996
---------- ---------- ------------- -------------
(IN THOUSANDS, EXCEPT PER SHARE INFORMATION)
<S> <C> <C> <C> <C>
Year ended December 31, 1996
Net interest income.......................................... $ 4,507 $ 5,147 $ 4,696 $ 4,862
Total noninterest income..................................... 519 602 503 543
Provision for losses on loans................................ 501 1,030 1,429 970
Net cost of operation of real estate acquired
through foreclosure........................................ 470 464 40 (46)
General and administrative expenses.......................... 3,169 3,528 6,075 2,922
Income tax expenses (benefit)................................ 285 238 (768) 407
Net earnings (loss)............................................ 601 489 (1,577) 1,152
Net earnings (loss) per share.................................. $ 0.26 $ 0.21 $ (0.69) $ 0.51
Closing prices for common stock:
High......................................................... $ 17.00 $ 17.00 $ 16.25 $ 17.50
Low.......................................................... $ 14.50 $ 16.00 $ 14.25 $ 14.25
</TABLE>
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED
-------------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
1995 1995 1995 1995
---------- ---------- ------------- -------------
(IN THOUSANDS, EXCEPT PER SHARE INFORMATION)
<S> <C> <C> <C> <C>
Year ended December 31, 1995
Net interest income.......................................... $ 4,428 $ 4,334 $ 4,420 $ 4,130
Total noninterest income..................................... 231 575 374 399
Provision for losses on loans................................ 3,175 1,138 838 70
Net cost of operation of real estate acquired
through foreclosure........................................ 344 250 611 1,101
General and administrative expenses.......................... 3,219 3,341 3,114 3,286
Income tax expenses (benefit)................................ (718) 48 60 (7)
Net earnings (loss)............................................ (1,360) 131 171 79
Net earnings (loss) per share.................................. $ (1.23) $ 0.12 $ 0.16 $ 0.06
Closing prices for common stock:
High......................................................... N/A N/A N/A $ 15.50
Low.......................................................... N/A N/A N/A $ 11.00
</TABLE>
F-23
<PAGE>
INDEX TO EXHIBITS
Exhibit
Number Description of Exhibit Page No
- ------ ---------------------- -------
3.1 Federal Stock Charter of the Bank, filed as Exhibit
3.1 to the Annual Report on Form 10-K of the Bank
for the fiscal year ended December 31, 1989 and
incorporated herein by reference.
3.1.1 Amendment to Federal Stock Charter of the Bank dated
February 20, 1996, filed as Exhibit 3.1.1 to the
Annual Report on Form 10-K of the Bank for the
fiscal year ended December 31, 1995 and
incorporated herein by reference.
3.2 Amended and Restated Bylaws of the Bank, filed
as Exhibit 3.2 to the Annual Report on Form 10-K
of the Bank for the fiscal year ended December 31,
1995 and incorporated herein by reference.
4.0 Specimen Certificate for the Common Stock of the
Bank, filed as Exhibit 4.0 to the Annual Report on
Form 10-K of the Bank for the fiscal year ended
December 31, 1986 and incorporated herein by
reference.
10.1 Profit Sharing Plan of the Bank, filed as Exhibit
10.3 to the Annual Report on Form 10-K of the Bank
for the fiscal year ended December 31, 1986 and
incorporated herein by reference.
10.2 Retirement Agreement between the Bank and Ben
Karmelich, dated June 19, 1986, filed as Exhibit
10.4 to the Annual Report on Form 10-K of the Bank
for the fiscal year ended December 31, 1986 and
incorporated herein by reference.
10.3 Retirement Agreement between the Bank and James B.
Johnston, dated June 19, 1986, filed as Exhibit
10.5 to the Annual Report on Form 10-K of the Bank
for the fiscal year ended December 31, 1986 and
incorporated herein by reference.
10.4 RESERVED
10.5 Amendment No. 1 to the Retirement Agreement between
the Bank and Ben Karmelich, dated March 16, 1988,
filed as Exhibit 10.7 to the Annual Report on Form
10-K of the Bank for the fiscal year ended
December 31, 1988 and incorporated herein by
reference.
10.6 Amendment No. 1 to the Retirement Agreement between
the Bank and James B. Johnston, dated March 16,
1988, filed as Exhibit 10.8 to the Annual Report
on Form 10-K of the Bank for the fiscal year ended
December 31, 1988 and incorporated herein by
reference.
10.7 RESERVED
10.8 RESERVED
10.9 Amended and Restated Retirement Agreement between
the Bank and Kelly A. Andrews, dated January 19,
1994, filed as Exhibit 10.9 to the Annual Report
on Form 10-K of the Bank for the fiscal year ended
December 31, 1994 and incorporated herein by
reference.
10.10 Lease between the Bank and York Square Building
Bank, dated September 1, 1981, filed as Exhibit
10.8 to the Annual Report on Form 10-K of the Bank
for the fiscal year ended December 31, 1986 and
incorporated herein by reference.
10.11 1994 Stock Option and Performance Share Award
Plan, filed as Exhibit 10.11 to the Annual Report
on Form 10-K of the fiscal year ended December 31,
1994 and incorporated herein by reference.
10.12 RESERVED
10.13 RESERVED
<PAGE>
10.14 Form of Change of Control Employment Agreement between
the Bank and each of Stephen N. Rippe, Gary P. Warren,
Anthony L. Frey and Ellen B. Geiger, filed as Exhibit
10.14 to the Bank's Registration Statement on Form OC
(on Form S-1) originally filed with the OTS on
September 8, 1995 and incorporated herein by reference.
10.15 Form of Indemnification Agreement between the Bank and
Members of the Board of Directors, filed as Exhibit
10.15 to the Bank's Registration Statement on Form OC
(on Form S-1) originally filed with the OTS on
September 8, 1995 and incorporated herein by reference.
10.16 Form of Stock Option Agreement between the Bank and
each of Stephen N. Rippe, Garry P. Warren, Anthony L.
Frey and Ellen B. Geiger, filed as Exhibit 10.16 to the
Annual Report on Form 10-K of the Bank for the fiscal
year ended December 31, 1995 and incorporated herein by
reference.
16.0 Letter of Grant Thornton LLP, dated March 5, 1997,
filed as Exhibit 16 to the Current Report on Form 8-K
of the Bank filed March 7, 1997 and incorporated herein
by reference.
<PAGE>
Pursuant to the requirements of Sections 563d.1 and 563g.18 of Title 12 of
the Code of Federal Regulations and Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK
BY: /s/ Stephen N. Rippe
-------------------------
Stephen N. Rippe
President
DATE: March 17, 1997
-------------------------
<PAGE>
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ Richard J. Cross Chairman of the Board, and Director March 17, 1997
- ------------------ -----------------
Richard J. Cross
/s/ Woodrow DeWitt Director 3-17-97
- ------------------ -----------------
Woodrow DeWitt
/s/ William G. Dyess Director 3-17-97
- ------------------ -----------------
William G. Dyess
/s/ Anthony L. Frey Executive Vice President, Secretary, 3-17-97
- ------------------ -----------------
Anthony L. Frey Chief Financial Officer, and
Principal Accounting Officer
/s/ Ben Karmelich Director 3-17-97
- ------------------ -----------------
Ben Karmelich
/s/ Richard O. Oxford Director 3-17-97
- ------------------ -----------------
Richard O. Oxford
/s/ George Piercy Director 3-17-97
- ------------------ -----------------
George Piercy
/s/ Stephen N. Rippe President, 3-17-97
- ------------------ -----------------
Stephen N. Rippe Chief Executive Officer,
and Director
/s/ Shirley E. Simmons Vice Chairman of the Board, 3-17-97
- ------------------ -----------------
Shirley E. Simmons and Director
<PAGE>
Exhibit 99.2
OFFICE OF THRIFT SUPERVISION
Washington, D.C. 20552
-------------------------
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended March 31, 1997 OTS No. 7184
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______________ to ________________
Commission file number ___________________________________________
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK
(Exact name of Registrant as specified in its charter)
United States 95-2565606
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
601 South Glenoaks Boulevard
Burbank, California 91502
(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code: (818) 848-4265
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days. Yes X No .
--- ---
At March 31, 1997, 2,282,137 shares of the Registrant's common stock were
outstanding.
<PAGE>
PART 1. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK & SUBSIDIARIES
Consolidated Statements of Financial Condition
(Dollar amounts in thousands except share data)
<TABLE>
<CAPTION>
March 31, December 31,
1997 1996
----------- -------------
(unaudited)
<S> <C> <C>
ASSETS
Cash and cash equivalents $7,343 $10,714
Investment securities:
Securities, available for sale 41,720 60,038
Securities, held to maturity 17,394 17,969
Loans receivable, net 382,784 373,545
Real estate acquired through foreclosure 1,561 1,400
Accrued interest receivable:
Securities and cash equivalents 223 184
Loans receivable 3,288 3,220
Deferred income taxes, net 4,171 4,463
Federal Home Loan Bank stock - at cost 4,375 3,125
Premises and equipment, net 7,988 8,311
Other assets 9,345 6,933
----------- ------------
Total Assets $480,192 $489,902
=========== ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Savings accounts $348,982 $384,921
Advances from the FHLB 87,500 62,500
Accounts payable and other liabilities 7,885 7,417
Income taxes payable - 201
----------- ------------
Total Liabilities 444,367 455,039
Shareholders' equity
Preferred stock - 1,000,000 shares authorized,
no shares issued - -
Capital stock - authorized 8,000,000 shares of
$1 stated value; issued and outstanding,
2,282,137 shares 2,282 2,296
Additional paid-in capital 13,259 13,430
Retained earnings 20,675 19,384
----------- ------------
36,216 35,110
Net unrealized loss on securities available for sale (391) (247)
----------- ------------
Total shareholders' equity 35,825 34,863
----------- ------------
Total Liabilities and Shareholders' Equity $480,192 $489,902
=========== ============
</TABLE>
2
<PAGE>
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK & SUBSIDIARIES
Consolidated Statements of Operations
(Dollar amount in thousands except per share data)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended
March 31,
----------------------------
1997 1996
--------- ---------
<S> <C> <C>
Interest income
Loans $9,505 $8,144
Investments 422 492
Mortgage-backed securities 744 907
--------- ---------
Total interest income 10,671 9,543
Interest expense
Deposits 4,622 4,553
FHLB advances and other borrowings 1,019 483
--------- ---------
Total interest expense 5,641 5,036
--------- ---------
Net interest income 5,030 4,507
Provision for losses on loans 1,800 501
--------- ---------
Net interest income after provision
for losses on loans 3,230 4,006
Noninterest income
Gain on the sale of branches 1,100 -
Other 465 519
--------- ---------
Total noninterest income 1,565 519
General & Administrative expenses
Compensation and benefits 1,656 1,465
Occupancy and equipment 429 606
FDIC insurance premium 42 284
Service bureau and related equipment rental 168 179
Other 543 635
--------- ---------
Total general & administrative expenses 2,838 3,169
Net cost of operation of real estate
acquired through foreclosure 101 470
--------- ---------
Total noninterest expense 2,939 3,639
--------- ---------
Earnings before income taxes 1,856 886
Income taxes 565 285
--------- ---------
NET EARNINGS $1,291 $601
========= =========
Primary earnings per share $0.55 $0.26
========= =========
Weighted average shares outstanding 2,329,664 2,295,983
========= =========
</TABLE>
3
<PAGE>
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK & SUBSIDIARIES
Consolidated Statements of Cash Flows
(Unaudited)
<TABLE>
<CAPTION>
Three months ended
March 31,
1997 1996
- --------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Net cash flows from operating activities:
Net earnings $1,291 $601
Adjustments to reconcile net earnings to net cash provided by operating activities:
Amortization of premiums/discounts on investment securities 87 41
Deferred income taxes (benefit) (292) 34
Gain (loss) on sale of real estate acquired through foreclosure, net - (9)
Deferred direct loan origination fees and costs, net 323 154
Amortization of net deferred direct loan origination fees and costs (380) (175)
Provision for losses on loans 1,800 501
Provision for losses on real estate acquired through foreclosure 70 28
Increase in accrued interest receivable (107) (98)
Depreciation 155 189
Decrease (increase) in other assets (2,412) 1,167
(Decrease) increase in income taxes payable (201) (2,315)
Increase (decrease) in accounts payable and other liabilities 468 (1,661)
- --------------------------------------------------------------------------------------------------------------------------------
Net cash provided (used) by operating activities 802 (1,543)
Cash flows from investing activities:
Purchase of investment securities (27,654) (9,000)
Proceeds from sales of investment securities available for sale 43,500 6,630
(Increase) decrease in FHLB stock (1,250) 567
Net increase loans receivable (9,562) (12,205)
Proceeds from the sale of real estate acquired through foreclosure 1,564 1,629
Purchases of loans - (4,656)
(Purchases) sales of premises and equipment, net 168 (804)
- --------------------------------------------------------------------------------------------------------------------------------
Net cash (used in) provided by investing activities 6,766 (17,839)
Cash flows from financing activities:
Decrease in deposits from sale of branches (59,465) -
Net increase in NOW, money market, and passbook accounts 4,908 912
Net increase (decrease) in certificates of deposit with maturities of three months or less (210) 149
Proceeds from sales of certificates of deposit with maturities of over three months 23,386 12,542
Payments for maturing certificates of deposit held for over three months (4,558) (22,534)
Net (repayments) borrowings from the FHLB 25,000 (9,000)
- --------------------------------------------------------------------------------------------------------------------------------
Net cash used in financing activities (10,939) (17,931)
Decrease in cash and cash equivalents (3,371) (37,313)
Cash and cash equivalents at beginning of year 10,714 49,766
- --------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at March 31, $7,343 $12,453
- --------------------------------------------------------------------------------------------------------------------------------
Supplemental disclosures of cash flow information:
Interest paid $5,346 $5,036
Income taxes paid $400 $2,600
- --------------------------------------------------------------------------------------------------------------------------------
Supplemental disclosure of noncash investing and financing activities:
Acquisition of real estate in settlement of loans $1,680 $2,135
Loans made in conjunction with real estate sales $891 $680
</TABLE>
4
<PAGE>
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BAND & SUBSIDIARIES
NOTES TO UNAUDITED FINANCIAL STATEMENTS
MARCH 31, 1997
NOTE A - BASIS OF PRESENTATION
The interim financial statements included herein have been prepared by Highland
Federal Bank, a Federal Savings Bank (the "Bank" or "Highland"), without audit,
pursuant to the rules and regulations of the Securities Exchange Act of 1934,
as amended. Certain information normally included in financial statements
prepared in accordance with generally accepted accounting principles has been
condensed or omitted pursuant to such rules and regulations. In the opinion of
management, the unaudited financial statement and notes thereto, reflect all
adjustments, including normal recurring adjustments, necessary for a fair
presentation of the financial position and the results of operations and cash
flows for the interim periods presented. The financial position at March 31,
1997, and the results of operations for the three months ended March 31, 1997
are not necessarily indicative of the results of operations that may be expected
for the year ending December 31, 1997. These unaudited financial statements have
been prepared in accordance with generally accepted accounting principles on a
basis consistent with the Bank's audited financial statements, and these interim
financial statements should be read in conjunction with the Bank's audited
financial statements.
NOTE B - EARNINGS PER SHARE
Earnings per share are calculated on the basis of weighted average number of
shares and common stock equivalents outstanding during the period. For the
three months ended March 31, 1997, 2,329,664 weighted average shares and
common stock equivalents were outstanding, including 47,527 common stock
equivalents related to stock options, and for the three months ended March
31, 1996, 2,295,983 weighted average shares were outstanding.
5
<PAGE>
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK & SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS
Overview
The Bank reported net earnings for the three months ended March 31, 1997 of $1.3
million, or $0.55 per share, compared to net earnings of $.6 million, or $0.26
per share, for the three months ended March 31, 1996. Net earnings for the three
months ended March 31, 1997, included $1.8 million in provisions for losses on
loans, an increase of $1.3 million from the first quarter of 1996. Net earnings
for the three months ended March 31, 1997 also included a one-time gain of $1.1
million from the sale of three retail branches with deposits totaling
approximately $59.5 million.
The Bank expects to realize significant ongoing savings of general and
administrative expense as a result of the branch sales which are expected to
more than offset increases in interest expense from the use of higher cost
borrowings and deposits to replace the deposits sold.
The Bank experienced a decrease in general and administrative expenses from $3.2
million in the first quarter of 1996 to $2.8 million in the first quarter of
1997. This did not include any significant savings attributable to the branch
sales, since they closed late in the first quarter. The net cost of REO
operations decreased to $101,000 for the three months ended March 31, 1997
compared to $470,000 for the like period in 1996. The ratio of noninterest
expense to average assets decreased from 3.24% in the first quarter of 1996 to
2.40% in the first quarter of 1997.
Net Interest Income
Net interest income varies based upon the difference (referred to as the
"interest rate spread") between (i) the yield on the Bank's loan portfolio,
mortgage backed securities, investments, and other interest-earning assets and
(ii) the rate paid by the Bank on its deposits, borrowings and other
interest-bearing liabilities, as well as the relative amounts or volumes of the
Bank's interest-earning assets and interest-bearing liabilities.
The following table indicates the extent to which changes in interest rates and
changes in volume of interest-earning assets and interest-bearing liabilities
have affected the Bank's total interest income and expense during the periods
indicated. Information is provided for each major component of interest-earning
assets and interest-bearing liabilities with respect to: (i) changes
attributable to changes in volume (changes in volume multiplied by prior rate);
(ii) changes attributable to rate (changes in rate multiplied by prior volume);
and (iii) the net change. The changes attributable to both volume and rate have
been allocated proportionately to the change due to volume and the change due to
rate.
<PAGE>
<TABLE>
<CAPTION>
Three Months Ended
March 31, 1997
Compared to Three Months
Ended March 31, 1996
Increased (Decrease) due to
-------------------------------------------
(In thousands)
-------------------------------------------
Volume Rate Net
----------- ------------ ------------
<S> <C> <C> <C>
Interest Income:
Loans $ 1,518 $ (157) $ 1,361
Mortgage-related securities (140) (23) (163)
Investments (86) 16 (70)
----------- ------------ ------------
Total interest income on interest-earning
assets 1,292 (164) 1,128
----------- ------------ ------------
Interest Expense:
Deposits 130 (61) 69
FHLB Advances and other borrowings 479 57 536
----------- ------------ ------------
Total interest expense on interest-bearing
liabilities 609 (4) 605
----------- ------------ ------------
Change in net interest income $ 683 $ (160) $ 523
=========== ============ ============
</TABLE>
Net interest income for the three months ended March 31, 1997 was $5.0 million
compared with $4.5 million for the like period in 1996. This increase is
primarily attributable to an increase in the volume of loans, offset in part by
an increase in the volume of interest-bearing liabilities and a decrease in the
yield earned on average earning assets, caused principally by the more rapid
prepayment of higher yielding loans and lower than portfolio average rates on
new loan originations.
The Bank's net interest margin (net interest income divided by average
interest-earning assets) was 4.36% for the first quarter of 1997 compared with
4.37% for the first quarter of 1996 while the ratio of average interest-earning
assets to average interest-bearing liabilities decreased to 102.6% for the first
quarter of 1997 from 103.0% for the first quarter of 1996. This decrease is
attributable to an increase in other assets, principally a result of daily
fluctuations in deposit inclearing receivable accounts.
Provision for Loan Losses
For the three months ended March 31, 1997, Highland's provision for loan losses
totaled $1.8 million compared to $.5 million for the comparable period in 1996.
The increased provision during the first quarter of 1997 resulted principally
from the Bank's decision to increase it's level of general loan loss allowances.
The Bank chose to increase it's level of general loan loss allowances in
response to increased loan delinquencies and non-accrual loans and to continued
chargeoffs and identification of new specific loan loss allowances, principally
attributable to the portion of the loan portfolio originated before 1993. At
March 31, 1997, Highland's nonperforming assets, consisting of nonaccrual loans
and REO, totaled $9.2 million, compared to $4.9 million at December 31, 1996 and
$8.8 million at March 31, 1996. Highland's allowance for loan losses as a
percentage of nonaccrual loans was 116.8% at March 31, 1997, compared to 222.2%
at December 31, 1996 and 129.0% at March 31, 1996.
7
<PAGE>
The $4.4 million net increase in nonperforming assets during the first quarter
of 1997 consisted of $6.3 million in assets that became nonperforming during the
quarter offset by $1.9 million in nonperforming asset dispositions and removals.
The $6.3 million of new nonperforming assets consisted of 4 nonaccrual loans
secured by single family properties totaling $2.3 million, 9 nonaccrual loans
secured by multifamily properties totaling $3.1 million, and 7 loans secured by
commercial properties totaling $.9 million.
Management of the Bank monitors the current and projected status of its
nonperforming and troubled assets on a continuous basis. Thus, while the
increase in nonperforming assets for the first quarter of 1997 is significant,
it is not outside of the Bank's parameters for short-term, periodic fluctuations
in nonperforming assets. The increase also follows a pattern experienced by the
Bank for the last three years of increased nonperforming assets during the first
quarter of the year.
The following table sets forth information regarding the Bank's allowance for
loan losses at the dates and the periods indicated (in thousands):
<TABLE>
<CAPTION>
For the three For the year
months ended ended
3/31/97 12/31/96
------------- ------------
<S> <C> <C>
Balance at beginning of period $ 7,676 $ 7,056
Provisions for loss 1,800 3,930
Chargeoffs:
Real estate loans:
One-to-four family 20 590
Multi-family 346 1,925
Commercial 173 785
Construction and land - 21
Consumer - 2
------------- ------------
Total 539 3,323
Recoveries - 13
------------- ------------
Balance at end of period $ 8,937 $ 7,676
============= ============
</TABLE>
While management believes that the allowance for loan losses at March 31, 1997,
was adequate to absorb the known and inherent risks in the loan portfolio, no
assurances can be given that future economic conditions which may adversely
affect the Bank's market areas or other circumstances will not result in
increases in problem loans and future loans losses, which may not be covered
completely by the current allowances or may require provisions for loan losses
in excess of past provisions, which would have an adverse effect on the Bank's
financial condition and results of operations.
8
<PAGE>
The following table sets forth information regarding nonperforming assets and
certain ratios at the dates indicated (in thousands):
<TABLE>
<CAPTION>
As of As of
3/31/97 12/31/96
--------------- ----------------
<S> <C> <C>
Nonaccrual loans:
Real Estate:
One-to-four family $2,625 $474
Multi-family 3,627 1,320
Commercial 1,399 1,653
Consumer 0 8
--------------- ----------------
Total 7,651 3,455
REO 1,561 1,400
=============== ================
Total Nonperforming assets $9,212 $4,855
Troubled debt restructurings $6,282 $7,428
=============== ================
Allowance for loan losses as a
percentage of gross loans receivable 2.27% 2.00%
Allowance for loan losses as a
percentage of total nonaccrual loans 116.81% 222.24%
Nonaccrual loans as a percentage of
gross loans receivable 1.94% 0.90%
Nonperforming assets as a percentage of
total assets 1.92% 0.99%
</TABLE>
Noninterest Income
Noninterest income for the three months ended March 31, 1997 was $1.6 million
compared to $.5 million for the like period in 1996. This increase was primarily
a result of the $1.1 million gain reported by the Bank from the sale of three
retail branches.
Noninterest Expense
Noninterest expense for the three months ended March 31, 1997 was $2.9 million
compared to $3.6 million for the like period in 1996. The ratio of noninterest
expense to average assets decreased to 2.40% for the three months ended March
31, 1997, from 3.24% for the same period in 1996. Included in the decrease in
noninterest expense was a reduction in the net cost of operation of REO which
declined to $101,000 for the three months ended March 31, 1997 compared to
$470,000 for the like period in 1996.
The ratio of general and administrative expense to average assets for the three
months ended March 31, 1997 was 2.32% compared with 2.81% for the like period of
1996. The decrease in general and administrative expense for the three month
period in 1997 was due primarily to decreases in office occupancy and FDIC
insurance premiums compared to the like period in 1996.
<PAGE>
Income taxes
For the three months ended March 31, 1997, the Bank recorded income taxes of
$565,000 compared to income taxes of $285,000 for the three months ended March
31, 1996. Changes in the levels of recorded income taxes are related to changes
in the levels of the Bank's earnings before income taxes and to the reduction in
valuation allowances related to deferred state income tax benefits not
recognized in prior years.
FINANCIAL CONDITION
Comparison of Financial Condition for the Three Months Ended March 31, 1997 and
the Year Ended December 31, 1996
Total assets at March 31, 1997 were $480.2 million, compared to $489.9 million
at December 31, 1996. The Bank's investment securities decreased to $59.1
million at March 31, 1997 from $78.0 million at December 31, 1996, primarily due
to increased uses of cash and investments to partially fund the sale of three
retail branches. Loans receivable increased $9.2 million during the three months
ended March 31, 1997 as a result of $22.4 million of new loan originations which
offset amortization and prepayment of loans. Total liabilities at March 31, 1997
were $444.4 million compared to $455.0 million at December 31, 1996. This
decrease was due to a net decrease in deposits of $35.9 million due to the sale
of three retail branches with deposits of approximately $59.5 million, offset by
an increase in FHLB advances of $25.0 million. Shareholders' equity increased
for the three months ended March 31, 1997 to $35.8 million, compared to $34.9
million at December 31, 1996.
Liquidity and Capital
At March 31, 1997, the Bank's liquidity ratio was 5.21%. At March 31, 1997, the
Bank was well-capitalized for regulatory capital purposes. The following table
sets forth the Bank's regulatory capital ratios at March 31, 1997 and December
31, 1996:
<TABLE>
<CAPTION>
To Be "Well
Capitalized"
Under Prompt
Corrective
March 31, 1997 December 31, 1996 Action Provisions
-------------- ----------------- -----------------
<S> <C> <C> <C>
Tangible Capital 7.54% 7.17% 1.5%
Leverage Capital 7.54% 7.17% 5.0%
Risk-based Capital 11.53% 11.27% 10.0%
</TABLE>
This report contains forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995 relating to expectations
regarding future interest expense increases and general and administrative
expense savings, and levels of nonperforming assets which are subject to risks
and uncertainties that could cause certain results, performance, or achievements
to differ materially. Factors that might cause certain results to differ include
the future interest-rate environment, the timing of general and administrative
expense savings and future expenditures, the overall growth rate of the Bank,
and other factors as set forth in the Bank's Annual Report on Form 10K.
<PAGE>
PART II. OTHER INFORMATION
ITEMS 1-5.
Item 1. Not applicable
Item 2. Not applicable
Item 3. Not applicable
Item 4. (a) On April 23, 1997, the Bank held its Annual Meeting of
Shareholders.
(b) Shareholders voted on the following matters:
(i) The election of Woodrow DeWitt as director for a term to
expire in 2000:
Votes For Against Abstain
-----------------------------------------------------
1,797,472 4,010 500
(ii) The election of Richard Oxford as director for a term to
expire in 2000:
Votes For Against Abstain
-----------------------------------------------------
1,791,722 9,760 500
(iii) The election of Shirley Simmons as director for a term to
expire in 2000:
Votes For Against Abstain
-----------------------------------------------------
1,791,722 9,760 500
(iiii) The ratification of KPMG Peat Marwick LLP as independent
public accountants for the Bank for 1997:
Votes For Against Abstain
-----------------------------------------------------
1,798,392 200 2,150
Item 5. Not applicable
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) None
(b) A Report on Form 8-K was filed on March 7, 1997, announcing a change
in the Bank's independent auditors. There were no disagreements
between the Bank and the previous independent auditors. No financial
statements were filed as part of that report.
12
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934 and Part
563d of the Rules and Regulations of the Office of Thrift Supervision, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK
---------------------------------------------
(Registrant)
DATED: May 13, 1997 /s/ STEPHEN N. RIPPE
--------------------------------
Stephen N. Rippe, President and
Chief Executive Officer
DATED: May 13, 1997 /s/ ANTHONY L. FREY
--------------------------------
Anthony L. Frey,
Principal Financial Officer
13
<PAGE>
Exhibit 99.3
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK
601 South Glenoaks Boulevard
Burbank, California 91502
NOTICE OF ANNUAL MEETING OF STOCKHOLDERS
April 23, 1997
TO EACH STOCKHOLDER OF HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK:
NOTICE IS HEREBY GIVEN that the 1997 Annual Meeting of Stockholders (the
"Meeting") of Highland Federal Bank, a Federal Savings Bank (the "Bank"), will
be held at 10:00 a.m. on Wednesday, April 23, 1997 at the Red Lion Hotel at 100
West Glenoaks Boulevard, Glendale, California 91203, for the following purposes,
all as set forth in the attached Proxy Statement:
(1) To elect three directors to serve until the election of directors in
2000 and until their respective successors are elected and have
qualified. The nominees of the Board of Directors are Woodrow W.
DeWitt, Richard 0. Oxford and Shirley E. Simmons, each of whom is
currently a director of the Bank;
(2) To consider and act on the ratification of KPMG Peat Marwick LLP as
independent public accountants for the Bank for 1997; and
(3) To transact such other business as may properly come before the
Meeting or any adjournment thereof.
The Board of Directors has fixed the close of business on March 17, 1997 as
the record date for the determination of stockholders entitled to receive notice
of and to vote at the Meeting and any and all adjournments thereof.
Pursuant to the Bank's Bylaws, the Board of Directors shall act as a
nominating committee for selecting management nominees for election as
directors. The Board of Directors will consider nominees recommended by
stockholders, if such recommendations are made in writing and are delivered to
the Secretary of the Bank, provided, however, that if the Board of Directors
makes nominations for election of directors at an annual meeting of
stockholders, no nominations for directors except those made by the Board of
Directors shall be voted upon at such annual meeting unless nominations by
stockholders are made in writing and delivered to the Secretary of the Bank at
least five days prior to the date of the annual meeting.
ALL STOCKHOLDERS ARE CORDIALLY INVITED TO ATTEND THE MEETING IN
PERSON, HOWEVER, WHETHER OR NOT YOU EXPECT TO ATTEND, YOU ARE URGED TO
READ THE ATTACHED PROXY STATEMENT AND THEN COMPLETE, SIGN AND DATE THE
ENCLOSED PROXY CARD AND RETURN IT IN THE ENCLOSED POSTAGE-PREPAID ENVELOPE
AS PROMPTLY AS POSSIBLE. IF YOU RECEIVED MORE THAN ONE PROXY CARD BECAUSE
YOU OWN SHARES REGISTERED IN DIFFERENT NAMES OR AT DIFFERENT ADDRESSES, EACH
PROXY CARD SHOULD BE SEPARATELY COMPLETED AND RETURNED. IF YOU ATTEND THE
MEETING AND WISH TO VOTE IN PERSON, YOU MAY WITHDRAW YOUR PROXY. THE PROXY
MAY BE REVOKED AT ANY TIME PRIOR TO ITS EXERCISE.
<PAGE>
IN ORDER TO FACILITATE THE PROVIDING OF ADEQUATE ACCOMMODATIONS, PLEASE
INDICATE ON THE PROXY WHETHER OR NOT YOU EXPECT TO ATTEND THE MEETING.
By Order of the Board of Directors
/s/ Anthony L. Frey
Anthony L. Frey
Executive Vice President, Chief Financial Officer
and Corporate Secretary
Dated: April 1, 1997
2
<PAGE>
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK
601 South Glenoaks Boulevard
Burbank, California 91502
-------------------
PROXY STATEMENT
-------------------
ANNUAL MEETING OF STOCKHOLDERS
To Be Held on April 23, 1997
This proxy statement is furnished to stockholders of Highland Federal
Bank, a Federal Savings Bank (the "Bank"), in connection with the solicitation
by the Board of Directors of the Bank of proxies for use at the Bank's Annual
Meeting of Stockholders (the "Meeting") to be held at 10:00 a.m. on Wednesday,
April 23, 1997, and at any and all adjournments thereof, for the purposes set
forth in the foregoing notice of the Meeting.
The Proxy Statement and the enclosed form of proxy are first being
mailed to stockholders on or about April 1, 1997.
YOUR VOTE IS IMPORTANT. PLEASE COMPLETE, DATE AND SIGN THE ENCLOSED PROXY CARD
AND MAIL IT PROMPTLY IN THE RETURN ENVELOPE PROVIDED.
The date of this Proxy Statement is April 1, 1997.
<PAGE>
INTRODUCTION
Matters to be Considered
At the Meeting, the stockholders of the Bank will vote upon (i) the
election of three directors; (ii) the ratification of the selection of KPMG Peat
Marwick LLP as the Bank's independent public accountants for 1997; (iii) such
other business as may properly come before the Meeting or any adjournment
thereof. The Board of Directors does not know of any matter to be brought before
the Meeting other than those described in this Proxy Statement.
Voting Rights and Votes Required
The Board of Directors has fixed March 17, 1997 as the date (the "Record
Date") for the determination of stockholders entitled to notice of, and to vote
at, the Meeting. At the close of business on the Record Date, there were
outstanding and entitled to vote 2,282,137 shares of common stock, stated value
$1.00 per share, of the Bank (the "Common Stock").
A majority of the outstanding shares of Common Stock must be represented in
person or by proxy at the Meeting in order to constitute a quorum for the
transaction of business. Except as set forth below, the holder of record of each
Common Share entitled to vote at the Meeting will have one vote for each share
so held on each matter to be presented at the Meeting.
In the election of directors, a stockholder may cumulate his votes for the
candidates in nomination. Each Common Share will be entitled to the number of
votes equal to the number of directors to be elected, and a stockholder may cast
all his votes for a single candidate or may distribute his votes among two or
more candidates in such manner as the stockholder deems appropriate. The
candidates receiving the highest number of votes will be elected as directors of
the Bank. Discretionary authority to cumulate votes is hereby solicited by the
Board, and the return of an executed proxy confers such authority.
The affirmative vote of the holders of a majority of the Common Stock
present and properly voting at the Meeting will be required to approve the
ratification of the selection of KPMG Peat Marwick LLP as independent public
accountants.
For the purpose of determining whether a proposal described herein has
received the necessary votes to be approved, (i) with regard to the election of
directors and ratification of the selection of KPMG Peat Marwick LLP as the
Bank's independent public accountants, neither abstentions nor broker non-votes
will be included in the vote totals, with the result that abstentions and broker
non-votes will have no effect.
In the event that the votes necessary to approve any of the foregoing
proposals have not been obtained by the date of the Meeting, the Chairman of the
Meeting may, in his discretion, adjourn the Meeting from time to time to permit
the solicitation of additional proxies by the Board of Directors.
Solicitation and Voting of Proxies
In connection with the solicitation by the Board of Directors of proxies
for use at the Meeting, the Board of Directors has designated Richard J. Cross
and Stephen N. Rippe as proxies. Common Stock represented by all properly
executed proxies will be voted at the Meeting in accordance with the
instructions
2
<PAGE>
specified thereon. If no instructions are specified, Common Stock represented by
any properly executed proxy will be voted FOR the election of each of the
nominees listed below under "Election of Directors," and FOR the ratification
of the selection of KPMG Peat Marwick LLP as independent public accountants for
the Bank. If, with respect to the election of directors, a stockholder withholds
authority to vote for any of the nominees listed below, the votes of such
stockholder will be cumulated by the named proxies and will be allocated in
favor of the nominee(s) for which authority to vote has not been withheld in
such manner as the named proxies in their discretion determine. The Board of
Directors is not aware of any other matters that will come before the Meeting
other than as described above.
A stockholder may revoke his or her proxy at any time prior to its exercise
by filing with the Secretary of the Bank an instrument of revocation or a valid
proxy bearing a later date, or by attending the Meeting and requesting that such
proxy be revoked. Attendance at the Meeting will not, in itself, constitute
revocation of a previously granted proxy.
The expense of this solicitation will be paid by the Bank. To the extent
necessary to assure sufficient representation at the Meeting, proxies may be
solicited by any appropriate means by directors, officers and other employees of
the Bank, who will receive no additional compensation therefor. The Bank will
reimburse persons holding Common Stock in their names or the names of their
nominees but not owning such Common Stock beneficially (such as brokerage
houses, banks and other fiduciaries) for the expense of forwarding soliciting
material to their principals.
3
<PAGE>
SECURITY OWNERSHIP OF MANAGEMENT
The following table sets forth the beneficial ownership of the Common Stock
as of March 17, 1997 by each director and executive officer and by all directors
and executive officers of the Bank as a group. Except as noted, all such shares
are beneficially owned solely by such individual or jointly with such
individual's spouse.
<TABLE>
<CAPTION>
Name of Beneficial Owner Amount Beneficially Owned Percent of Class
- ------------------------ ------------------------- ----------------
<S> <C> <C>
Richard J. Cross................. 12,500(1)(2) *
Woodrow W. DeWitt................ 44,720(1) 2.0%
William G. Dyess................. 13,500(1)(3) *
Anthony L. Frey.................. 5,000(4) *
Ellen B. Geiger.................. 8,867(5) *
Ben Karmelich.................... 2,802(1) *
Richard 0. Oxford................ 12,025(1) *
George Piercy.................... 43,220(l) 1.9%
Stephen N. Rippe................. 22,167(6) *
Shirley E. Simmons............... 6,008(1) *
Garry P. Warren.................. 8,400(7) *
All directors and executive
officers as a group
(11 persons).................... 179,209(8) 7.9%
</TABLE>
- ----------------
* Less than l%.
(1) Includes 2,500 shares which may be acquired within 60 days upon exercise of
outstanding options.
(2) Does not include 3,000 shares owned by Mr. Cross's wife, as to which Mr.
Cross disclaims beneficial ownership.
(3) Does not include 1,600 shares owned by Mr. Dyess's wife as to which Mr.
Dyess disclaims beneficial ownership.
(4) Consists of 5,000 shares which may be acquired within 60 days upon exercise
of outstanding options.
(5) Includes 7,200 shares which may be acquired within 60 days upon exercise of
outstanding options.
(6) Includes 12,000 shares which may be acquired within 60 days upon exercise of
outstanding options.
(7) Consists of 8,400 shares which may be acquired within 60 days upon exercise
of outstanding options.
(8) Includes a total of 50,100 shares which may be acquired within 60 days upon
exercise of outstanding options.
4
<PAGE>
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
Management knows of no person who, as of March 17, 1997, beneficially owned
in excess of five percent (5%) of the outstanding Common Stock of the Bank,
except for the stockholders identified in the following table:
<TABLE>
<CAPTION>
Common Stock Beneficially Owned
at March 17, 1997
----------------------------------
Number of Shares Percent of Class
----------------------------------
<S> <C> <C>
Wellington Management Company, LLP (1) 321,433 14.1%
75 State Street
Boston, Massachusetts 02109
Keefe Managers, Inc. (2) 151,900 6.7%
375 Park Avenue
New York, New York 10152
John Hancock Advisors, Inc. (3) 194,667 8.5%
101 Huntington Avenue
Boston, Massachusetts 02199
Tidal Insurance Limited (4) 145,833 6.4%
11901 Olive Boulevard
St. Louis, Missouri 63141
Deltec Asset Management Corporation(5) 141,200 6.2%
535 Madison Avenue
New York, New York 10022
</TABLE>
- ---------------
(1) Based on a Schedule 13G filed by Wellington Management Company, LLP.
(2) Based on a Schedule 13G filed by Keefe Managers, Inc.
(3) Based on a Schedule 13G filed by John Hancock Advisors, Inc.
(4) Based on a Schedule 13D filed by Tidal Insurance Limited. Tidal Insurance
Limited is an affiliate of First Banks, Inc., a registered bank holding
company. The voting stock of First Banks, Inc. is owned by various trusts
which were created by and are administered for the benefit of Mr. James F.
Dierberg and members of his immediate family. Accordingly, Mr. Dierberg
controls management and the policies of First Banks, Inc. and the election
of its directors.
(5) Based on a Schedule 13G filed by Deltec Asset Management Corporation.
5
<PAGE>
ELECTION OF DIRECTORS
The Board of Directors consists of eight members, and is divided into three
classes designated as Class I (consisting of two members), Class II and Class
III (each consisting of three members). The members of Class I, whose term of
office expires in 1999, are Stephen N. Rippe and George Piercy. The members of
Class II, whose term of office expires in 1997, are Woodrow W. DeWitt, Richard
O. Oxford and Shirley Simmons. The members of Class III, whose term of office
expires in 1998, are Richard J. Cross, William G. Dyess and Ben Karmelich. Each
director's term of office expires at the Annual Meeting of Stockholders in the
year in which his or her term expires and when his or her successor is elected
and has qualified.
Nominees for Election
The Bank's Bylaws provide that the Board of Directors shall act as a
nominating committee for selecting management nominees for election as
directors. The Board of Directors will consider nominees recommended by
stockholders, if such recommendations are made in writing and are delivered to
the Secretary of the Bank. The Bylaws also provide, however, that if the Board
of Directors makes nominations for election as directors at an annual meeting of
stockholders, no nominations for directors except those made by the Board of
Directors shall be voted upon at such annual meeting unless other nominations by
stockholders are made in writing and delivered to the Secretary at least five
days prior to the date of the annual meeting.
The nominees of the Board of Directors for election as directors at the
Meeting are Woodrow W. DeWitt, Richard 0. Oxford and Shirley E. Simmons. Unless
otherwise indicated on a proxy, each proxy will be voted for the election of
such individuals to serve until the annual meeting of stockholders to be held in
2000 and until their successors are elected and have qualified. Each of such
nominees is an incumbent director and has consented to being named as a nominee
for election of directors in this Proxy Statement and to serving as a director
if elected.
Although the Board of Directors does not know of any reason why any nominee
will be unavailable for election, in the event any nominee should be unavailable
at the time of the Meeting, the proxies may be voted for a substitute nominee
selected by the Board of Directors.
THE BOARD OF DIRECTORS HAS APPROVED THE ELECTION OF THE NOMINEES NAMED
ABOVE AND RECOMMENDS THAT STOCKHOLDERS VOTE FOR EACH OF THEM AS A
DIRECTOR OF THE BANK.
6
<PAGE>
The following sets forth, as of March 17, 1997, certain information concerning
each of the individuals nominated for election as a director (Class II) at the
Meeting:
<TABLE>
<CAPTION>
Name and Age Position with the Bank Principal Occupation and Business Experience
------------ ---------------------- ---------------------------------------------------------------------------
<S> <C> <C>
Woodrow W. DeWitt (81) Director Director of the Bank since 1968. Chairman of the Board of DeWitt Transfer &
Storage since 1955.
Richard O. Oxford (59) Director Director of the Bank since 1991. President and Chief Executive Officer of Dial
Industries, Inc. (a manufacturer of housewares) since 1978. Associate,
McKinsey & Co. (international management consulting firm) from 1965 to 1968.
In 1993, Arroyo Seco Enterprises, a partnership of which Mr. Oxford was
General Partner, filed for bankruptcy under Chapter 11 of the Bankruptcy Code.
This bankruptcy was discharged in 1995.
Shirley E. Simmons (62) Vice Chairman of the Vice Chairman of the Board of Directors of the Bank since 1995 and a Director
Board of Directors since 1991. Retired since 1991. Various executive positions with Security
Pacific National Bank from 1958 to 1991, most recently as Regional Vice
President (1988 to 1991).
</TABLE>
The following sets forth, as of March 17, 1997, certain information
concerning each of the Bank's Class I directors:
<TABLE>
<CAPTION>
Name and Age Position with the Bank Principal Occupation and Business Experience
------------ ---------------------- ---------------------------------------------------------------------------
<S> <C> <C>
George Piercy (78) Director Vice Chairman of the Board of Directors of the Bank from 1993 to 1995 and a
Director since 1968. Chairman of the Board of Directors from 1982 to 1993.
President of Highland Auto and Truck Supply (manufacturer of military truck
parts and accessories) since 1949.
Stephen N. Rippe (50) President, President of the Bank since April 1994 and Executive Vice President from
Chief Executive February to April 1994. Director of the Bank since February 1994. Chief
Officer and Director Operating Officer of Imperial Thrift and Loan Association from 1991 to 1994.
Various executive positions with Security Pacific National Bank from 1971 to
1989, including President of Security Pacific Bank Nevada from 1987 to 1989
and Regional Manager for business banking from 1984 to 1987.
</TABLE>
7
<PAGE>
The following sets forth, as of March 17, 1997, certain information
concerning each of the Bank's Class III directors:
<TABLE>
<CAPTION>
Name and Age Position with the Bank Principal Occupation and Business Experience
- ---------------------- -------------------------- --------------------------------------------------------------------------
<S> <C> <C>
Richard J. Cross (67) Chairman of the Chairman of the Board of Directors of the Bank since 1993; Vice Chairman of
Board of Directors the Board of Directors from 1992 to 1993 and a Director since 1990.
Managing Partner of Cross Investment Company (an investment and consulting
company) since 1971 and Professor of Management and Finance at Woodbury
University since 1985. Twenty-seven years' commercial banking experience,
including various executive positions with Lloyds Bank from 1962 to 1981,
most recently as Executive Vice President.
William G. Dyess (71) Director Director of the Bank since 1968. An independent real estate appraiser since
1955.
Ben Karmelich (71) Director President and Chief Executive Officer of the Bank from its inception in
1968 through 1994; Director since 1980. Retired since 1994.
</TABLE>
The following sets forth, as of March 17, 1997, certain information
concerning each of the Bank's executive officers, other than Mr. Rippe.
<TABLE>
<CAPTION>
Name and Age Position with the Bank Principal Occupation and Business Experience
- ---------------------- -------------------------- --------------------------------------------------------------------------
<S> <C> <C>
Anthony L. Frey (43) Executive Vice President, Executive Vice President, Chief Financial Officer and Secretary of the Bank
Chief Financial Officer since January 1997. Senior Vice President, Chief Financial Officer and
and Secretary Secretary from May 1996 to January 1997. Various executive positions with
Imperial Thrift and Loan Association from August 1994 to May 1996, most
recently as Senior Vice President and Chief Financial Officer. Senior Vice
President and Controller of Home Fed Bank from 1984 to 1994. Various
positions with KPMG Peat Marwick LLP from 1979 to 1984. Mr. Frey is a
Certified Public Accountant.
Ellen B. Geiger (44) Executive Vice President Executive Vice President and Branch Administrator since January 1997,
and Branch Administrator Senior Vice President and Branch Administrator of the Bank from July 1995
to January 1997. Founder and President of Geiger/Kochakji & Associates
(banking industry consultants) from 1991 to 1995. Various executive
positions with Security Pacific National Bank from 1979 to 1991, most
recently as Senior Vice President and Branch Administrator.
</TABLE>
8
<PAGE>
<TABLE>
<CAPTION>
<S> <C> <C>
Garry P. Warren (46) Executive Vice President Executive Vice President and Chief Lending Officer of the Bank since
and Chief Lending Officer January 1997. Senior Vice President and Chief Lending Officer of the Bank
from May 1994 to January 1997. Southern California Regional Manager of
Imperial Thrift and Loan Association from 1993 to 1994. Vice President of
Pacific First Mortgage from 1990 to 1992. Senior Director of Grubb and Ellis,
Mortgage Banking Division, from 1987 to 1990. Senior Vice President of
American Savings from 1983 to 1987. Vice President and Manager for Citicorp
from 1981 to 1983.
</TABLE>
Information Regarding the Board of Directors and its Committees
The Board of Directors has established, in addition to certain other
committees, an Audit and Examination Committee and a Personnel/Compensation
Committee.
The Audit and Examination Committee, currently comprised of Ms. Simmons
(chairman of the Committee) and the five other directors who are not employees
of the Bank, reviews the examinations of the Bank conducted by the Office of
Thrift Supervision ("OTS"), meets with the Bank's independent auditors to
receive their evaluation of the condition of the Bank and the adequacy of its
internal controls and procedures, reviews the annual audit of the Bank,
considers the adequacy of auditing procedures, recommends appointment of the
Bank's independent auditors and reviews proposed and actual fees for both audit
and non-audit accounting services. This committee also reviews reimbursement of
expenses incurred by officers. The Audit and Examination Committee held five
meetings in 1996.
The Personnel/Compensation Committee, currently comprised of Mr. Oxford
(chairman of the Committee), Mr. Cross, Mr. Piercy and Ms. Simmons, reviews
recommendations from management concerning the policies governing the setting
of salaries and bonuses of all employees, sets the compensation of the executive
officers, is responsible for the administration of the Option Plan, makes all
awards of options and shares pursuant to the Option Plan, and has responsibility
for designing and submitting to the Board policies and plans with respect to
long-term and incentive compensation programs. The Personnel/Compensation
Committee held three meetings in 1996.
During 1996, the Board of Directors held 13 meetings. Each director
attended at least 75% of the aggregate meetings of the Board of Directors and
the committees of which he or she was a member.
During 1996, each director, other than directors who were also employees of
the Bank, was paid directors' fees of $1,600 per month through August 1997 and
$2,000 per month thereafter. Mr. Cross (Chairman of the Board) receives
additional fees of $417 per month as compensation for that position. Ms. Simmons
(Chairman of the Audit Committee) receives additional fees of $208 per month as
compensation for that position. Pursuant to this arrangement, the Bank paid
$213,241 in aggregate compensation to directors during 1996. Each director who
has reached the age of 72 and has served as a director for at least 18 years or
was a director on August 19, 1985, or who becomes unable to continue to serve as
a director for reasons of ill health, may be designated a "director emeritus" by
the Board of Directors. Each director emeritus would be entitled to continue to
receive a monthly fee equal to the fee he or she received immediately prior to
becoming a director emeritus and the continuation of certain benefits. The Bank
does not presently have any directors emeritus.
9
<PAGE>
Prior to July 1992, each of Messrs. DeWitt, Dyess and Piercy had retirement
agreements with the Bank that provided for certain retirement benefits in the
event of the retirement or death of such director, payable in annual
installments over 15 years. Such benefits would have been not less than $6,400
annually in the event of retirement or death occurring after June 19, 1992 and
not more than $9,600 annually in the event of retirement or death occurring
after June 19, 1996. Effective July 1992, each of such directors elected to
receive, commencing in 1992 and in lieu of such retirement benefits, 15 annual
payments of $6,400.
Upon Mr. Karmelich's retirement as President of the Bank on April 27, 1994,
Mr. Karmelich became entitled, pursuant to a retirement agreement with the Bank,
to annual retirement benefits of $92,040 annually beginning on July 1, 1996 and,
beginning on October 1, 1997, will include an additional $38,040 annually and an
additional $8,620 annually beginning on January 2, 1999. Such benefits will be
funded by a whole life insurance policy on the life of Mr. Karmelich owned by a
trust, of which Mr. Karmelich is a beneficiary. The amount of the premiums paid
by the Bank on such policy in 1996 was $80,187.
EXECUTIVE COMPENSATION
Set forth below is certain information concerning the compensation of (i)
Stephen N. Rippe, the Bank's Chief Executive Officer, (ii) Anthony L. Frey, the
Bank's Executive Vice President, Chief Financial Officer and Secretary, (iii)
Garry P. Warren, the Bank's Executive Vice President and Chief Lending Officer,
and (iv) Ellen B. Geiger, the Bank's Executive Vice President and Branch
Administrator (collectively, the "named executive officers"), for each of the
last three fiscal years of the Bank or such lesser period that such individual
has been employed by the Bank. No other executive officer of the Bank received
salary and bonus at a rate in excess of $100,000 during 1996.
<TABLE>
<CAPTION>
Name and Principal Long-Term All Other
Positions Annual Compensation Compensation Compensation
- ----------------------- ------------------------------ -------------- --------------
Year Salary Bonus Options # (1)
--------- --------- ------- --------------
<S> <C> <C> <C> <C> <C>
Stephen N. Rippe 1996 $181,539 $50,000 10,000 $ 7,648(5)
President and 1995 170,000 50,000 20,000 3,531(2)
Chief Executive Officer 1994 165,664 ---- 10,000 ----
Anthony L. Frey 1996 $ 88,805(3) ---- 20,000 $ 2,657(6)
Executive Vice President,
Chief Financial Officer
and Secretary
Gary P. Warren 1996 $146,019 $35,000 6,000 $ 5,838(7)
Executive Vice President 1995 120,000 35,000 14,000 1,523(2)
and Chief Lending Officer 1994 72,923 ---- 7,000 ----
Ellen B. Geiger 1996 $108,308 $ ---- 12,000 $ 1,592(8)
Executive Vice President
and Branch Administrator 1995 40,154(4) ---- 6,000 ----
</TABLE>
- ----------------------------------------
(footnotes appear on the following page)
10
<PAGE>
(1) Consists of the number of shares of stock underlying stock options granted
during the periods indicated plus, for Messrs. Rippe and Warren, the number
of stock options repriced during 1995.
(2) Consists of the amount of contributions credited under the Highland Federal
Bank Profit Sharing Plan, which was amended and restated into the 401(k)
Profit Sharing Plan effective January 1, 1995. See "401(k) Profit Sharing
Plan and Trust" below.
(3) Mr. Frey was first employed by the Bank in May 1996. Mr. Frey's annual
salary at December 31, 1996 was $130,000 per year.
(4) Ms. Geiger's salary indicated for 1995 is based on an annual rate of
$100,000 paid since her start date in July 1995.
(5) Consists of a $4,500 contribution to the Bank's 401(k) Plan, a $1,369
imputed life insurance payment and $1,879 in personal use of a Bank
automobile.
(6) Consists of a $298 imputed life insurance payment and $2,359 in personal use
of a Bank automobile.
(7) Consists of a $3,487 contribution to the Bank's 401(k) Plan, a $999 imputed
life insurance payment and $1,352 in personal use of a Bank automobile.
(8) Consists of a $242 contribution to the Bank's 401(k) Plan, a $746 imputed
life insurance payment and $1,593 in personal use of a Bank automobile.
401(k) Profit Sharing Plan and Trust
The Bank previously maintained the Highland Federal Bank Profit Sharing
Plan (the "Profit Sharing Plan") for the benefit of its eligible employees and
their beneficiaries, originally effective January 1, 1982. Effective January 1,
1995, the Bank's Board of Directors approved the amendment and restatement of
the Profit Sharing Plan into the 401(k) Profit Sharing Plan (the "401(k) Plan").
The 401(k) Plan is a profit sharing plan with a 401(k) feature. The purpose of
the 401(k) Plan is to encourage participants to adopt a regular savings program
to defer part of their pretax compensation to provide additional security for
their retirement. The Bank, through its Board of Directors, appoints one or more
administrators to administer the 401(k) Plan. The Internal Revenue Service has
determined that the 401(k) Plan is a qualified plan within the meaning of
Section 401(a) of the Code.
All employees of the Bank who are at least 21 years of age and who have
completed at least one (1) year of service with the Bank are eligible to
participate in the 401(k) Plan. Under the terms of the 401(k) Plan, participants
can contribute to the 401(k) Plan by way of payroll deductions, from 2% up to
15% of their pretax compensation annually, subject to certain legal limitations.
The 401(k) Plan provides that the Board of Directors will determine on an annual
basis whether to make a discretionary matching contribution and/or discretionary
employer contribution on behalf of eligible participants. Any matching
contributions made to the 401(k) Plan will be allocated among the accounts of
all eligible participants based on the amount of each participant's contribution
to the 401(k) Plan and compensation for the period for which the matching
contribution is made. During 1996, the Bank contributed $69,000 to the 401(k)
Plan.
Current tax law limits the amount of deductible contributions to 15% of the
total amount of compensation paid during the plan year to 401(k) Plan
participants, which limit applies to 401(k) contributions by 401(k) Plan
participants, matching contributions by the Bank and any discretionary employer
contributions and forfeitures allocated to the accounts of participants under
the 401(k) Plan. A participant is always 100% vested in his or her own 401(k)
contribution, but only becomes 100% vested in discretionary matching
contributions and employer contributions upon attainment of the normal
retirement age of 65 or upon a participant's total and permanent disability
while employed by the Bank, the death of a participant or the termination or
complete discontinuance of contributions to the 401(k) Plan by the Bank. If a
participant terminates employment with the Bank for any other reason, then the
interest he or she has in discretionary matching contributions and employer
contributions will depend on the participant's years of service with the Bank. A
participant vests 20% for each year of service, beginning on his or her date of
hire.
11
<PAGE>
1994 Stock Option and Performance Share Award Plan
Stock Options for Key Employees
The Bank's 1994 Stock Option and Performance Share Award Plan, which is
administered by the Personnel/Compensation Committee of the Board of Directors
(the "Committee"), provides for (i) the grant of stock options ("Options") and
performance share awards ("Awards") to such key employees as are designated by
the Committee, and (ii) the automatic grant of stock options to non-employee
directors ("Directors' Options"). The Option Plan provides for the grant of
Options that qualify as "incentive stock options" ("ISOs") under the Internal
Revenue Code and Options that do not so qualify, which are referred to as
"nonqualified stock options" ("NQSOs").
The aggregate number of shares of Common Stock available for issuance
pursuant to the exercise of Options or the grant of Awards is currently 300,000,
subject to such adjustment as may be necessary to reflect changes in the number
or kind of shares of stock or other securities of the Bank. The purchase price
of the shares issued pursuant to each Option must be paid in cash, or if the
Committee so determines and if at the time the Bank's Charter and the rules of
the OTS so provide, (i) by surrender of Common Stock held by the employee or a
combination of cash and shares, or (ii) by a promissory note or a combination of
cash and a promissory note. Each Option is exercisable on such date or dates and
during such periods as is determined by the Committee at the time of grant,
provided that no ISO will be exercisable after the expiration of 10 years after
the grant date.
Upon termination of employment with the Bank, an employee optionee (or such
employee's personal representative) will have a limited period of time within
which to exercise Options held on the date of termination, after which time such
Options will expire. If employment terminates by reason of death, all Options
held by the participant on the date of death will become immediately vested and
exercisable. If employment terminates for any other reason, all Options not
vested will be forfeited by the employee unless the Committee otherwise decides.
If termination of employment is by reason of death or permanent and total
disability, all exercisable Options must be exercised within 12 months after
termination, after which they will expire. If termination is by reason of
disability that is not permanent and total, any outstanding and exercisable
NQSOs must be exercised within 12 months after termination, and outstanding and
exercisable ISOs must be exercised within three months after termination. If
termination is by reason other than death or disability, such period will end
three months after termination for all exercisable Options. In all cases,
however, such period will end no later that the fixed expiration date of
outstanding Options.
In the event that the Bank enters into an agreement to dispose of all or
substantially all of its assets or if the Bank's stockholders dispose or agree
to become obligated to dispose of 50% or more of the outstanding shares of
Common Stock (an "Acceleration Event"), then each outstanding Option will be
exercisable during the 30 days immediately preceding such Acceleration Event;
provided, however, that no Acceleration Event will be deemed to occur in the
event that (i) the terms of the agreements pursuant to which such transaction is
occurring require as a condition to the consummation thereof that each Option
will either be assumed by a successor corporation or be replaced with a
comparable option to purchase shares of capital stock of a successor
corporation, and (ii) the transaction is approved by a majority of the directors
who have been in office for more than 12 months prior to the scheduled
consummation of the transaction. Upon consummation of the Acceleration Event,
all outstanding Options, whether or not so accelerated, will terminate and cease
to be exercisable, unless assumed by the successor corporation.
12
<PAGE>
The following table sets forth certain information concerning Options
granted to the Bank's named executive officers during 1996. The Bank also
granted during 1996 and 1995 an aggregate of 4,000 and 8,000 options,
respectively, to employees who are not named executive officers at exercise
prices of $16.38 and $15.00 per share, respectively.
Option Grants During Fiscal Year Ended December 31, 1996
<TABLE>
<CAPTION>
Potential Realizable Value
at Assumed Annual Rates of
Stock Price Appreciation for
Individual Grant Option Term
---------------------------------------------------- ---------------------------
Number of Percent of
Shares of Total Options
Stock Granted to
Underlying Employees in Exercise Expiration
Name Options Fiscal Year Price Date 5% 10%
- ---------------- ------------ --------------- -------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
Stephen N. Rippe 10,000 21.7% $ 16.38 06/13/06 $ 102,900 $ 260,900
Anthony L. Frey 20,000 43.5% 16.38 06/13/06 205,800 521,800
Garry P. Warren 6,000 13.0% 16.38 06/13/06 61,740 156,540
Ellen B. Geiger 6,000 13.0% 16.38 06/13/06 61,740 156,540
</TABLE>
The following table sets forth the number and value of stock options held
by the Bank's named executive officers at December 31, 1996. No stock options
granted to the named executive officers were exercised during 1996.
Fiscal Year-End Option Value Table
<TABLE>
<CAPTION>
Value of Unexercised
Number of Unexercised In-the-Money Options
Options at Year-End at Year-End (1)
Name Exercisable/Unexercisable Exercisable/Unexercisable
- ----------------------- --------------------------- ---------------------------
<S> <C> <C>
Stephen N. Rippe 12,000/18,000 $ 54,000/$22,250
Anthony L. Frey 5,000/15,000 3,125/9,375
Garry P. Warren 8,400/11,600 37,800/48,700
Ellen B. Geiger 7,200/10,800 32,400/13,350
</TABLE>
- -------------------------
(1) The fair market value of the Bank's common stock at the close of trading
on December 31, 1996 was $17.00 per share.
13
<PAGE>
Stock Options for Non-Employee Directors
Messrs. Karmelich, DeWitt, Oxford, Cross, Dyess and Piercy and Ms. Simmons
are the current Non-Employee Directors of the Bank. Each Director who was a Non-
Employee Director as of April 27, 1994 was granted Directors' Options (all
NQSOs) to purchase 2,500 shares of Common Stock at a price of $16.00 per share.
On the day following Mr. Karmelich's retirement as an employee of the Bank
(April 28, 1994), Mr. Karmelich also received Directors' Options to purchase
2,500 shares at $16.00 per share. Each person who is newly elected to the Board
of Directors after the adoption of the Option Plan and who is not an employee of
the Bank at the time of such election will also receive Directors' Options to
purchase 2,500 shares at a price equal to the fair market value of the Common
Stock on the date of such election, subject to the maximum amount of aggregate
options issuable to all participants under the Option Plan. On March 31 of each
year commencing on March 31, 1997, each Non-Employee Director who has not
received Directors' Options during the preceding three years will be granted
additional Directors' Options to purchase 2,500 shares at a price equal to the
fair market value of the Common Stock on that date, subject also to the maximum
amount of aggregate options issuable under the Option Plan. In the event that
insufficient shares are available for issuance, the number of options issued
will be reduced proportionately.
Each Directors' Option has a term of five years from the date granted, is
not exercisable within six months after the date of grant and is exercisable
only if, on the date of exercise, such director has been a Non-Employee Director
for at least three years. However, in the event of the termination of a Non-
Employee Director by reason of death and such individual has not yet fulfilled
this three-year service requirement on the date of death, all Directors' Options
granted to such Non-Employee Director will nevertheless become immediately
exercisable and remain exercisable until the first anniversary of the date of
death. Each Directors' Option is exercisable in the manner applicable to Options
granted to key employees, and unvested Directors' Options will become
exercisable upon the occurrence of an Acceleration Event.
Performance Share Awards
The Committee has the discretion to award to such key employees as it may
designate the right to receive shares of Common Stock ("Performance Shares") in
an amount and upon such terms and conditions to be determined by the Committee,
which shares will not to be issued unless and until the Bank meets certain
performance criteria to be established by the Committee at or prior to the grant
of each such Award.
Each Award is required to be confirmed by a written agreement executed by
the Bank and the key employee. If, or to the extent that, applicable performance
criteria have been satisfied, certificates evidencing the Performance Shares
will be delivered to the employee. Subject to such exceptions as may be
determined by the Committee either at the time of the Award or at any time
thereafter, if an employee's continuous employment with the Bank or any of its
affiliates terminates for any reason, all outstanding Awards to such employee
will be forfeited. If an Acceleration Event occurs during the term of an Award,
all Performance Shares subject to such Award will be issued, unless (i) the
terms of the agreements pursuant to which such transaction is occurring require
as a condition to its consummation that each Award will either be assumed by a
successor corporation or be replaced with a comparable award of shares of
capital stock of the successor corporation, and (ii) the transaction is approved
by a majority of the directors who have been in office for more than 12 months
prior to the scheduled consummation of the transaction. To date, no Performance
Shares have been awarded.
14
<PAGE>
Other Provisions
The Option Plan and all grants of Options and Awards under the Option Plan
are subject to such rules, regulations, orders and policies (collectively,
"Directives") of the OTS as may be promulgated from time to time. In the event
that the Committee or the Board of Directors determines that a Directive
requires that the terms of any outstanding Option or Award be modified, the
Committee or the Board of Directors will have the right to modify the terms of
any outstanding Option or Award without the consent of the affected participants
and irrespective of whether such modification is consistent with the terms of
the Option Plan or adverse to such participants.
The Option Plan may be amended from time to time by the Board of Directors
in accordance with the requirements set forth in the Option Plan and subject to
the limitations imposed by law. However, the Option Plan may not be amended to
increase the aggregate number of shares of Common Stock issuable pursuant to the
Option Plan or increase in any material manner the benefits to Non-Employee
Directors without the approval of the holders of a majority of the issued and
outstanding shares of Common Stock. The Board of Directors may at any time
terminate the Option Plan, but such termination will not adversely affect any
rights or obligations with respect to any Options or Awards previously granted
under the Option Plan.
Federal Income Tax Consequences
The rules governing the tax treatment of options and stock acquired upon
the exercise of options are quite technical. Therefore, the description of tax
consequences set forth below is necessarily general in nature and does not
purport to be complete. Moreover, statutory provisions are subject to change, as
are their interpretations, and their application may vary in individual
circumstances. Finally, the tax consequences under applicable state and local
income tax laws may not be the same as under the federal income tax laws.
ISOs granted pursuant to the Option Plan are intended to qualify as
"Incentive Stock Options" within the meaning of Section 422A of the Internal
Revenue Code of 1986, as amended (the "Code"). If the Participant makes no
disposition of the shares acquired pursuant to exercise of an ISO within one
year after the transfer of shares to such Participant and within two years from
grant of the option, such Participant will realize no taxable income as a result
of the grant or exercise of such option; any gain or loss that is subsequently
realized may be treated as long-term capital gain or loss, as the case may be.
Under these circumstances, the Bank will not be entitled to a deduction for
federal income tax purposes with respect to either the issuance of such ISOs or
the transfer of shares upon their exercise. Under current law, long-term capital
gain is generally subject to the same rate of tax as ordinary income.
If shares subject to ISOs are disposed of prior to the expiration of the
above time periods, the Participant will recognize ordinary income in the year
in which the disqualifying disposition occurs, the amount of which will
generally be the lesser of (i) the excess of the market value of the shares on
the date of exercise over the option price, or (ii) the gain recognized on such
disposition. Such amount will ordinarily be deductible by the Bank for federal
income tax purposes in the same year, provided that the Bank satisfies certain
federal income tax withholding requirements. In addition, the excess, if any, of
the amount realized on a disqualifying disposition over the market value of the
shares on the date of exercise will be treated as capital gain.
15
<PAGE>
A Participant who acquires shares by exercise of a NQSOs generally realizes
as taxable ordinary income, at the time of exercise, the difference between the
exercise price and the fair market value of the shares on the date of exercise.
Unless an election under Section 83(b) of the Code is timely filed, however, a
Participant who is subject to suit under Section 16(b) of the Securities
Exchange Act of 1934 with respect to sales of shares acquired upon the exercise
of a NQSO recognizes as taxable ordinary income, at the time he is no longer
subject to such suit, the difference between the exercise price and the fair
market value of the shares at such time. Such amount will ordinarily be
deductible by the Bank in the same year, provided that the Bank satisfies
certain federal income tax withholding requirements.
Executive Officer Change of Control Agreements
In 1995, the Bank entered into a Change of Control Employment Agreement
with each of Messrs. Rippe and Warren, Ms. Geiger, and three other officers of
the Bank, and in May 1996, the Bank entered into a Change of Control Agreement
with Mr. Frey. Such agreement provides that if a change of control of the Bank
(defined to include a merger, consolidation or asset transfer where the Bank is
not the surviving entity and the acquisition by a person or group of more than
50% of the outstanding shares of the Bank) occurs during the employment of the
individual and the individual's position is subsequently eliminated or
materially altered or the individual resigns his or her employment for good
reason (defined to include a reduction in salary levels or benefits, material
diminution in title or responsibilities or a job relocation of more than 50
miles), the individual will be entitled to a lump sum payment equal to his or
her salary for a specified period. In the case of Mr. Rippe, such period is two
and one-half years and in the case of Mr. Warren, Mr. Frey and Ms. Geiger, such
period is one and one-half years.
PERSONNEL/COMPENSATION COMMITTEE REPORT
ON EXECUTIVE COMPENSATION
The following Personnel/Compensation Committee Report on Executive
Compensation and the performance graph in the next section shall not be deemed
to be "soliciting material" or to be "filed" with the OTS or subject to
Regulations 14A or 14C of the Securities and Exchange Commission (as applied by
the OTS) or to the liabilities of Section 18 of the Securities Exchange Act of
1934, as amended (the "Exchange Act"), and shall not be deemed incorporated by
reference into any filing under the Securities Act of 1933 or the Exchange Act,
notwithstanding any general incorporation by reference of this Proxy Statement
into any other document.
The Report
- ----------
The Personnel/Compensation Committee of the Board of Directors (the
"Committee") is composed of four directors who are not also employees of the
Bank. The Committee establishes the overall compensation and employee benefits
of the Bank and the specific compensation of the Bank's executive officers. It
is a goal of the Committee to implement executive officer compensation programs
that further the business objectives of the Bank and that attract, retain and
motivate the best qualified executive officers.
The Bank's executive compensation policies and specific executive
compensation programs are adopted and administered in accordance with the
principal goal of maximizing return on stockholders' equity. The Committee
believes that this performance goal and the long-term interests of the Bank's
stockholders generally are best achieved by attracting and retaining management
of high quality, and that
16
<PAGE>
such management will require commensurate compensation. The Committee believes
that the Bank's executive officer compensation policies are consistent with this
policy.
None of the Bank's executive officers has a written employment agreement or
other formal assurance of continued employment by the Bank (see "EXECUTIVE
COMPENSATION -- Executive Officer Change of Control Agreements"). As a result,
each of the executive officer's compensation is determined each year by the
Committee, based on factors that the Committee deems appropriate. As indicated
below, the overall financial performance of the Bank is a factor considered by
the Committee in setting compensation levels for executive officers.
Annual compensation levels for each executive officer, including the Chief
Executive Officer, are determined by the Committee based primarily on its review
and analysis of the following factors: (i) the responsibilities of the position,
(ii) the performance of the individual and his or her general experience and
qualifications, (iii) the overall financial performance (including return on
equity, earnings per share, problem asset levels, levels of general and
administrative expense and loan and deposit production) for the Bank for the
previous year and the contributions to such performance measures by the
individual or his or her department, (iv) the officer's total compensation
during the previous year, (v) advice rendered to the Committee by the Bank's
independent compensation consultant regarding compensation levels paid by
comparable financial institutions, and (vi) the officer's length of service with
the Bank. In addition, the Committee receives the recommendations of the Chief
Executive Officer with respect to the compensation of other executive officers,
which the Committee reviews in light of the above factors. The Committee
believes, based on advice from the Bank's consultants and a review of relevant
compensation surveys, that the base compensation of the executive officers is
competitive with financial institutions of similar size and with comparable
operating results.
In addition to the above criteria applicable to executive officers
generally, the Chief Executive Officer's incentive compensation for 1996 was
based in large part on his progress in satisfying certain criteria established
and agreed to by the Committee. Such criteria related to the Bank's performance
in the areas of return on equity, nonperforming asset levels, cost management,
results in meeting the Bank's strategic business plan (including his
contribution to the Bank's successful recapitalization in November 1995),
leadership (including developing an effective senior management team),
regulatory compliance and safety and soundness of the Bank.
While the Committee establishes salary and bonus levels based on the above
described criteria, the Committee also believes that encouraging equity
ownership by executive officers further aligns the interests of the officers
with the performance objectives of the Bank's stockholders and enhances the
Bank's ability to attract and retain highly qualified personnel on a basis
competitive with industry practices. Stock options granted by the Bank pursuant
to the 1994 Stock Option and Performance Share Award Plan help achieve this
objective, and provide additional compensation to the officers to the extent
that the price of the Common Stock increases over fair market value on the date
of grant. Stock options have been granted to each of the named executive
officers and to two other officers of the Bank. Likewise, performance share
awards under the Option Plan, which have not yet been issued, can constitute
additional compensation if specified operating results are achieved by the Bank
over the term of the award. Through the Option Plan, there will be an additional
direct relationship between the Bank's performance and benefits to executive
officer Option Plan participants.
17
<PAGE>
Significant actions that were taken in 1996 included (i) establishing the
conditions to the earning of performance awards under the Option Plan; (ii)
formalizing bonus plans for executive officers; and (iii) conducting a top-down
review of the Bank's compensation practices. In 1997, the Committee expects to
take the following significant actions: (i) establishing criteria for periodic
grants of stock options to management based upon Bank returns on equity and (ii)
refining the criteria related to cash bonus plans for executive officers.
Richard O. Oxford, Chairman
Richard J. Cross
George Piercy
Shirley Simmons
18
<PAGE>
PERFORMANCE GRAPH
Set forth below is a graph that compares the yearly percentage change in
the cumulative total stockholder return on the Bank's Common Stock with (i) the
cumulative total return of the issuers included in the Nasdaq Composite Index,
as reported to the Bank by Media General Financial Services ("Media General"),
and (ii) a published index based on the cumulative total return for a group of
23 California-based Savings and loan institutions selected by Media General, as
reported to the Bank by Media General (the "Peer Group" index), in each case
assuming the reinvestment of dividends.
Prior to the commencement of trading in the Common Stock on the Nasdaq
Small-Cap Market on October 16, 1995 (and the subsequent listing of the stock
on the Nasdaq National Market in December 1995), there was no established public
trading market for the Common Stock, and only infrequent trades executed by a
securities broker. Information for the Common Stock for purposes of the
performance graph for periods prior to the listing of the Common Stock on the
Nasdaq Small-Cap Market are based on the average bid and ask prices for the
Common Stock as reported to the Bank by J. Alexander Securities, Los Angeles,
California, as of the date of the last transaction of which such firm is aware
during each such year. Thus, the prices used by the Bank in determining the
five-year cumulative return for the Common Stock prior to the listing of the
Common Stock with Nasdaq may not represent actual transactions.
Comparison of Five-Year Cumulative Total Return Among
Highland Federal Bank, Nasdaq Composite Index and Peer Group Index
[LINE GRAPH APPEARS HERE]
19
<PAGE>
RATIFICATION OF INDEPENDENT PUBLIC ACCOUNTANTS
The Audit and Examination Committee of the Board of Directors has selected
KPMG Peat Marwick LLP as the independent public accountants to audit the
consolidated financial statements of the Bank and its subsidiaries for 1996. A
member of such firm is expected to be present at the Meeting, will have an
opportunity to make a statement if so desired, and will be available to respond
to appropriate questions.
If the stockholders of the Bank do not ratify the selection of KPMG Peat
Marwick LLP, or if such firm should decline to act or otherwise become incapable
of acting, or if its employment is discontinued, the Board of Directors or the
Audit and Examination Committee will appoint other independent public
accountants.
Ratification of the selection of KPMG Peat Marwick LLP as the Bank's
independent public accounts will require the affirmative vote of a majority of
the Common Stock present and properly voting at the Meeting.
THE BOARD OF DIRECTORS RECOMMENDS A VOTE FOR THE PROPOSAL TO RATIFY THE
SELECTION OF KPMG PEAT MARWICK LLP AS THE BANK'S INDEPENDENT PUBLIC ACCOUNTANTS.
20
<PAGE>
COMPLIANCE WITH SECTION 16(a) OF THE
SECURITIES EXCHANGE ACT OF 1934
Based solely upon a review of copies of Forms 3 and 4 and amendments
thereto furnished to the Bank during 1996 pursuant to Rule 16a-3(e) under the
Securities Exchange Act of 1934, as amended, to the Bank's knowledge, all
Section 16(a) filing requirements applicable to its officers and directors were
complied with during 1996.
STOCKHOLDER PROPOSALS
Stockholder proposals to be presented at the 1998 Annual Meeting of
Stockholders must be received at the Bank's executive offices at 601 South
Glenoaks Blvd., Suite 200, Burbank, California 91502, addressed to the attention
of the Secretary, by December 2, 1997 in order to be considered for inclusion
in the Proxy Statement and form of proxy relating to such meeting.
ANNUAL REPORT
The Annual Report of the Bank for the year ended December 31, 1996 is
being mailed to the stockholders of the Bank with this Proxy Statement. The
Annual Report contains the Bank's Annual Report for the year ended December 31,
1996, including the financial statements and the financial statement schedules
and management's discussion and analysis of such financial statements and the
report thereon of Grant Thornton LLP.
21
<PAGE>
REVOCABLE PROXY
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK
THIS PROXY IS SOLICITED BY THE BOARD OF DIRECTORS
The undersigned stockholder of Highland Federal Bank, a Federal Savings
Bank (the "Bank") hereby appoints Richard J. Cross and Stephen N. Rippe and each
of them, with full power of substitution, proxies of the undersigned with
authorization to represent and vote all shares of Common Stock, stated value
$1.00 per share, of the Bank held of record by the undersigned, as directed
below and in their discretion on all other matters which may properly come
before the Annual Meeting of Stockholders to be held on April 23, 1997, and at
any adjournment or adjournments thereof, as if the undersigned were present and
voting at the Meeting.
The shares represented by this proxy, when duly executed and returned, will
be voted as directed herein by the undersigned. Where no direction is given,
such shares will be voted "FOR" the election of all nominees for director and
"FOR" ratification of KPMG Peat Marwick LLP as independent public accountants.
1. Election of Directors: To elect the following three directors to serve
until the election of Directors in 2000 and until their respective successors
are elected and have qualified: Andrew W. Dewitt, Richard O. Oxford and Shirley
E. Simmons.
[_] FOR all nominees [_] WITHHOLD AUTHORITY [_] WITHHOLD AUTHORITY
listed above. to vote for nominees to vote for the following
listed. nominee only (write the
name of the nominee
below.)
2. Approval of Independent Auditors. To ratify the selection of KPMG Peat
Marwick LLP as the Bank's independent public accountants for 1997.
[_] FOR [_] AGAINST [_] ABSTAIN
This proxy is continued on the reverse side.
Please sign on the reverse side and return promptly.
<PAGE>
3. Other Business. To transact such other business as may properly come before
the Meeting and at any and all adjournments thereof. The Board of Directors at
present knows of no other business to be presented by or on behalf of the Bank
or the Board of Directors at the Meeting.
The proxies are authorized to vote as recommended by the Board of Directors upon
such other business as may properly come before the Meeting. The undersigned
hereby acknowledges receipt of the accompanying Notice of Meeting and Proxy
Statement.
Date: , 1997
--------------------------
Signed:
------------------------------
-------------------------------------
(Please sign your name (or names) as
it appears on the label affixed
hereon. When signing in a fiduciary
or representative capacity or as a
corporate officer, please indicate
and state such capacity, title or
office.)
<PAGE>
Exhibit 99.4
OFFICE OF THRIFT SUPERVISION
Washington, D.C. 20552
-----------------
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1997 OTS No. 7184
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ___________________ to _________________
Commission file number_________________________________________________
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK
(Exact name of Registrant as specified in its charter)
United States 95-2565606
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
601 South Glenoaks Boulevard
Burbank, California 91502
(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code: (818) 848-4265
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
--- ---.
At June 30,1997, 2,300,137 shares of the Registrant's common stock were
outstanding.
<PAGE>
PART 1. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK & SUBSIDIARIES
Consolidated Statements of Financial Condition
(Dollar amounts in thousands except share data)
<TABLE>
<CAPTION>
June 30, December 31,
1997 1996
--------------- ---------------
(unaudited)
<S> <C> <C>
ASSETS
Cash and cash equivalents $8,567 $10,714
Investment securities:
Securities, available for sale 54,701 60,038
Securities, held to maturity 16,752 17,969
Loans receivable, net 393,242 373,545
Real estate acquired through foreclosure 1,997 1,400
Accrued interest receivable:
Securities and cash equivalents 306 184
Loans receivable 3,281 3,220
Deferred Income taxes, net 5,549 4,463
Federal Home Loan Bank stock - at cost 4,625 3,125
Premises and equipment, net 7,987 8,311
Other assets 7,374 6,933
--------------- ---------------
Total Assets $504,381 $489,902
=============== ===============
LIABILITIES AND SHAREHOLDERS' EQUITY
Savings accounts $367,557 $384,921
Advances from the FHLB 92,500 62,500
Accounts payable and other liabilities 6,628 7,417
Income taxes payable - 201
--------------- ---------------
Total Liabilities 466,685 455,039
Shareholders' equity
Preferred stock - 1,000,000 shares authorized,
no shares issued -- --
Capital stock - authorized 8,000,000 shares of
$1 stated value; issued and outstanding,
2,300,137 shares 2,300 2,296
Additional paid-in capital 13,624 13,430
Retained earnings 22,028 19,384
--------------- ---------------
37,952 35,110
Net unrealized loss on securities available for sale (256) (247)
--------------- ---------------
Total shareholders' equity 37,696 34,863
--------------- ---------------
Total Liabilities and Shareholders' Equity $504,381 $489,902
=============== ===============
</TABLE>
2
<PAGE>
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK & SUBSIDIARIES
Consolidated Statements of Operations
(Dollar amount in thousands except per share data)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
---------------------------- ----------------------------
1997 1996 1997 1996
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Interest income
Loans $ 9,768 $ 8,990 $ 19,273 $ 17,136
Investments 245 114 667 605
Mortgage-backed securities 743 821 1,487 1,728
---------- ---------- ---------- ----------
Total interest income 10,756 9,925 21,427 19,469
Interest expense
Deposits 4,424 4,344 9,046 8,897
FHLB advances and other borrowings 1,354 434 2,373 917
---------- ---------- ---------- ----------
Total interest expense 5,778 4,778 11,419 9,814
---------- ---------- ---------- ----------
Net interest income 4,978 5,147 10,008 9,655
Provision for losses on loans 924 1,030 2,724 1,531
---------- ---------- ---------- ----------
Net interest income after provision
for losses on loans 4,054 4,117 7,284 8,124
Noninterest income
Gain on the sale of branches - - 1,100 -
Other 425 601 890 1,121
---------- ---------- ---------- ----------
Total noninterest income 425 601 1,990 1,121
General & Administrative expenses
Compensation and benefits 1,372 1,741 3,028 3,196
Occupancy and equipment 323 581 752 1,186
FDIC insurance premium 91 267 133 571
Service bureau and related equipment rental 156 221 324 400
Other 582 697 1,125 1,344
---------- ---------- ---------- ----------
Total general & administrative expenses 2,524 3,527 5,362 6,697
Net cost of operation of real estate
acquired through foreclosure 33 464 134 934
---------- ---------- ---------- ----------
Total noninterest expense 2,557 3,991 5,496 7,631
---------- ---------- ---------- ----------
Earnings before income taxes 1,922 727 3,778 1,614
Income taxes 569 238 1,134 523
---------- ---------- ---------- ----------
NET EARNINGS $ 1,353 $ 489 $ 2,644 $ 1,091
========== ========== ========== ==========
Primary earnings per share $ 0.58 $ 0.21 $ 1.13 $ 0.48
========== ========== ========== ==========
Weighted average shares outstanding 2,351,954 2,295,983 2,346,777 2,295,983
========== ========== ========== ==========
</TABLE>
3
<PAGE>
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK & SUBSIDIARIES
Consolidated Statements of Cash Flows
(Unaudited)
<TABLE>
<CAPTION>
Six months ended
June 30,
1997 1996
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Net cash flows from operating activities:
Net earnings $ 2,644 $ 1,091
Adjustments to reconcile net earnings to net cash provided by operating activities:
Gain on the sale of loans -- 40
Amortization of premiums/discounts on investment securities 176 257
Deferred Income taxes (benefit) 1,086 (149)
Gain (loss) on sale of real estate acquired through foreclosure, net 138 52
Deferred direct loan origination fees and costs, net 606 254
Amortization of net deferred direct loan origination fees and costs (740) (508)
Provision for losses on loans 2,724 1,531
Provision for losses on real estate acquired through foreclosure 120 80
Increase in accrued interest receivable (183) (108)
Depreciation 365 371
Decrease (increase) in other assets (441) 513
Decrease in income taxes payable (201) (2,685)
Increase (decrease) in accounts payable and other liabilities (789) 674
- -----------------------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 5,505 1,413
Cash flows from investing activities:
Purchase of investment securities (50,354) (37,000)
Proceeds from sales of investment securities available for sale 56,732 48,670
(Increase) decrease In FHLB stock (1,500) 390
Net increase loans receivable (27,760) (34,678)
Proceeds from the sale of real estate acquired through foreclosure 3,216 2,659
Purchases of loans (396) (4,656)
Proceeds from the sale of loans -- 2,990
(Purchases) sales of premises and equipment, net (41) (881)
- -----------------------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (20,103) (22,506)
Cash flows from financing activities:
Decrease in deposits from sale of branches (59,465) --
Net (decrease) increase in NOW, money market, and passbook accounts 5,770 (4,749)
Net increase (decrease) in certificates of deposit with maturities of three months or less (1,155) (48)
Proceeds from sales of certificates of deposit with maturities of over three months 57,559 28,044
Payments for maturing certificates of deposit held for over three months (20,073) (34,757)
Purchase of outstanding common stock (185) --
Net (repayments) borrowings from the FHLB 30,000 (6,000)
- -----------------------------------------------------------------------------------------------------------------------------------
Net cash provided by (used in) financing activities 12,451 (17,510)
Decrease in cash and cash equivalents (2,147) (38,603)
Cash and cash equivalents at beginning of year 10,714 49,766
- -----------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at June 30, $ 8,567 $ 11,163
- -----------------------------------------------------------------------------------------------------------------------------------
Supplemental disclosures of cash flow information:
Interest paid $ 11,387 $ 9,814
Income taxes paid $ 2,417 $ 3,210
- -----------------------------------------------------------------------------------------------------------------------------------
Supplemental disclosure of noncash investing and financing activities:
Acquisition of real estate in settlement of loans $ 4,931 $ 3,332
Loans made in conjunction with real estate sales $ 1,004 $ 1.039
</TABLE>
4
<PAGE>
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK & SUBSIDIARIES
NOTES TO UNAUDITED FINANCIAL STATEMENTS
June 30, 1997
NOTE A - BASIS OF PRESENTATION
The interim financial statements included herein have been prepared by Highland
Federal Bank, a Federal Savings Bank (the "Bank" or "Highland"), without audit,
pursuant to the rules and regulations of the Securities Exchange Act of 1934, as
amended. Certain information normally included in financial statements prepared
in accordance with generally accepted accounting principles has been condensed
or omitted pursuant to such rules and regulations. In the opinion of management,
the unaudited financial statement and notes thereto, reflect all adjustments,
including normal recurring adjustments, necessary for a fair presentation of the
financial position and the results of operations and cash flows for the interim
periods presented. The financial position at June 30, 1997, and the results of
operations for the three and six months ended June 30, 1997 are not necessarily
indicative of the results of operations that may be expected for the year ending
December 31, 1997. These unaudited financial statements have been prepared in
accordance with generally accepted accounting principles on a basis consistent
with the Bank's audited financial statements, and these interim financial
statements should be read in conjunction with the Bank's audited financial
statements.
NOTE B - EARNINGS PER SHARE
Earnings per share are calculated on the basis of weighted average number of
shares and common stock equivalents outstanding during the period. For the three
months ended June 30, 1997, 2,351,954 weighted average shares and common stock
equivalents were outstanding, including 51,817 common stock equivalents related
to employee stock options, and for the six months ended June 30, 1997, 2,346,777
weighted average shares were outstanding, including 46,640 common stock
equivalents related to employee stock options. For the three and six months
ended June 30, 1996, 2,295,983 weighted average shares were outstanding. Fully
diluted earnings per share have not been reported in these interim financial
statements as the dilutive effect of common stock equivalents for outstanding
stock options is less than 3%.
NOTE C - SUBSEQUENT EVENTS
The Bank has entered into a definitive agreement for the sale of one of its
retail branches with deposits totaling approximately $40 million to another
financial institution. This sale, which is subject to regulatory approval and
other conditions, is expected to close in the third quarter of 1997 and is
expected to produce a one-time gain on the sale of approximately $800,000. The
Bank does not anticipate selling any of its real estate loans in connection with
this branch sale, funding for which is expected to come from liquid assets and
Federal Home Loan Bank advances.
During the second quarter of 1997, the Board of Directors of Highland authorized
management to undertake the formation of a holding company for the Bank.
Management is currently in the preliminary stages of evaluating and planning
this holding company formation. Although management has not yet completed this
evaluation and planning, it believes that the holding company structure will
facilitate possible capital management strategies and may provide a vehicle
5
<PAGE>
for the repurchase of stock without the adverse tax consequences associated with
stock repurchases by a thrift.
6
<PAGE>
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK & SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS
Overview
The Bank reported net earnings for the three and six months ended June 30, 1997
of $1.4 million, or $0.58 per share, and $2.6 million, or $1.13 per share,
respectively, compared to net earnings of $489,000, or $0.21 per share, for the
three months ended June 30, 1996, and $1.1 million, or $0.48 per share, for the
six months ended June 30, 1996. Net earnings for the six months ended June 30,
1997, included $2.7 million in provisions for losses on loans, an increase of
$1.2 million from the first six months of 1996. Net earnings for the six months
ended June 30, 1997, also included a one-time gain of $1.1 million from the sale
of three retail branches with deposits totaling approximately $59.5 million.
The Bank experienced a decrease in general and administrative expenses from $6.7
million in the first six months of 1996 to $5.4 million in the comparable period
in 1997. These significant savings are attributable to the sale of the three
retail branches in the first quarter of 1997 and the Bank's continuing cost
control efforts.
The net cost of REO operations decreased to $134,000 for the six months ended
June 30, 1997 compared to $934,000 for the like period in 1996. The ratio of
noninterest expense to average assets decreased from 3.64% in the first six
months of 1996 to 2.08% in the first six months of 1997.
The Bank has entered into a definitive agreement for the sale of one of its
retail branches with deposits totaling approximately $40 million to another
financial institution. This sale, which is subject to regulatory approval and
other customary conditions, is expected to close in the third quarter of 1997
and is expected to produce a one-time gain on the sale of approximately
$800,000.
Net Interest Income
Net interest income varies based upon the difference (referred to as the
"interest rate spread") between (i) the yield on the Bank's loan portfolio,
mortgage backed securities, investments, and other interest-earning assets and
(ii) the rate paid by the Bank on its deposits, borrowings and other interest-
bearing liabilities, as well as the relative amounts or volumes of the Bank's
interest-earning assets and interest-bearing liabilities.
The following table indicates the extent to which changes in interest rates and
changes in volume of interest-earning assets and interest-bearing liabilities
have affected the Bank's total interest income and expense during the periods
indicated. Information is provided for each major component of interest-earning
assets and interest-bearing liabilities with respect to: (i) changes
attributable to
<PAGE>
changes in volume (changes in volume multiplied by prior rate); (ii) changes
attributable to rate (changes in rate multiplied by prior volume); and (iii) the
net change. The changes attributable to both volume and rate have been allocated
proportionately to the change due to volume and the change due to rate.
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, 1997 June 30, 1997
Compared to Three Months Compared to Six Months
Ended June 30, 1996 Ended June 30, 1996
Increase (Decrease) due to Increase (Decrease) due to
--------------------------------- ---------------------------------
(In thousands) (In thousands)
--------------------------------- ---------------------------------
Volume Rate Net Volume Rate Net
-------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Interest Income:
Loans $ 1,303 $ (525) $ 778 $ 2,823 $ (686) $ 2,137
Mortgage-related securities 118 13 131 17 45 62
Investments (85) 7 (78) (220) (21) (241)
-------- -------- -------- -------- -------- --------
Total interest income on
interest-earning assets 1,336 (505) 831 2,620 (662) 1,958
-------- -------- -------- -------- -------- --------
Interest Expense:
Deposits (83) 163 80 54 95 149
FHLB Advances and other
borrowings 843 77 920 1,330 126 1,456
-------- -------- -------- -------- -------- --------
Total interest expense on
interest-bearing liabilities 760 240 1,000 1,384 221 1,605
-------- -------- -------- -------- -------- --------
Change in net interest income $ 576 $ (745) $ (169) $ 1,236 $ (883) $ 353
======== ======== ======== ======== ======== ========
</TABLE>
Net interest income for the three months ended June 30, 1997, was $5.0 million
compared to $5.1 million for the like period in 1996. This decrease is primarily
attributable to a decrease in the Bank's net interest margin to 4.40% for the
second quarter of 1997 compared with 4.62% for the second quarter of 1996 which
was principally attributable to the decrease in the ratio of average
interest-earning assets to average interest-bearing liabilities to 102.8% for
the second quarter of 1997 from 103.4% for the second quarter of 1996.
Net interest income for the six months ended June 30, 1997, was $10.0 million
compared to $9.7 million for the six months ended June 30, 1996, This $0.3
million increase is primarily attributable to an increase in the Bank's average
loan portfolio to $379.1 million for the first six months of 1997 compared with
an average loan portfolio of $325.1 million for the first six months of 1996,
partially offset by a decrease in the Bank's net interest margin to 4.37% for
the first six months of 1997 compared with 4.76% for the first half of 1996.
This decrease in the net interest margin is primarily attributable to the
decrease in the ratio of average interest-earning assets to average
interest-bearing liabilities to 102.9% for the first half of 1997 from 103.3%
for the first half of 1996.
Provision for Loan Losses
For the three months ended June 30, 1997, Highland's provision for loan losses
totaled $0.9 million compared to $1.0 million for the comparable period in 1996.
For the six months ended June 30, 1997, provisions for loan losses totaled $2.7
million compared with $1.5 million for the like period in 1996. The increased
provision during the first six months of 1997 resulted principally from the
Bank's decision to increase it's level of general loan loss allowances. The Bank
chose to increase
<PAGE>
it's level of general loan loss allowances in response to increased loan
delinquencies and nonaccrual loans and to continued chargeoffs and
identification of new specific loan loss allowances, principally attributable to
the portion of the loan portfolio originated before 1993. At June 30, 1997,
Highland's nonperforming assets, consisting of nonaccrual loans and REO, totaled
$10.6 million, compared to $7.9 million at June 30, 1996. Highland's allowance
for loan losses as a percentage of nonaccrual loans was 100.0% at June 30, 1997,
compared to 145.1% at June 30, 1996.
The following table sets forth information regarding Bank's allowance for loan
losses at the dates and the periods indicated (in thousands):
<TABLE>
<CAPTION>
For the six For the year
months ended ended
6/30/97 12/31/96
---------------- ----------------
<S> <C> <C>
Balance at beginning of period $7,676 $7,056
Provision for loss 2,724 3,930
Chargeoffs:
Real estate loans:
One-to-four family 259 590
Multi-family 1,118 1,925
Commercial 454 785
Construction and land - 21
Consumer - 2
--------------- ----------------
TOTAL 1,831 3,323
Recoveries - 13
--------------- ----------------
Balance at end of period $8,569 $7,676
=============== ================
</TABLE>
While management believes that the allowance for loan losses at June 30, 1997,
was adequate to absorb the known and inherent risks in the loan portfolio, no
assurances can be given that future economic conditions which may adversely
affect the Bank's market areas or other circumstances will not result in
increases in problem loans and future loan losses, which may not be covered
completely by the current allowance or may require provisions for loan losses in
excess of past provisions, which would have an adverse effect on the Bank's
financial condition and results of operations.
The following table sets forth information regarding nonperforming assets and
certain ratios at the dates indicated (in thousands):
<TABLE>
<CAPTION>
As of As of
6/30/97 12/31/96
------------- ------------
<S> <C> <C>
Nonaccrual loans:
Real Estate:
One-to four family $2,829 $474
multi-family 3,496 1,320
commercial 2,244 1,653
consumer 0 8
------------- ------------
Total 8,569 3,455
REO 1,997 1,400
------------- ------------
Total Nonperforming assets $10,566 $4,855
------------- ------------
Troubled debt restructurings $5,015 $7,428
============= ============
Allowance for loan losses as a
</TABLE>
9
<PAGE>
<TABLE>
<S> <C> <C>
percentage
of gross loans receivable 2.12% 2.00%
Allowance for loan losses as a
percentage
of total nonaccrual loans 100.00% 222.24%
Nonaccrual loans as a percentage of
gross loans receivable 2.12% 0.90%
Nonperforming assets as a percentage
of total assets 2.09% 0.99%
</TABLE>
Noninterest Income
Noninterest income for the three months ended June 30, 1997, was $425,000
compared to $601,000 for the three months ended June 30, 1996. This
decrease was primarily a result of gains reported by the Bank from the
sale of approximately $3 million of mortgage loans in the second quarter
of 1996. Noninterest income for the six months ended June 30, 1997, was
$2.7 million compared to $1.5 million for the same period in 1996. This
increase was primarily a result of the $1.1 million gain reported by the
Bank from the sale of three retail branches.
Noninterest Expense
Noninterest expense for the three and six months ended June 30, 1997 was
$2.6 million and $5.5 million, respectively, compared to $4.0 million and
$7.6 million for the like periods in 1996. As a result, the ratio of
noninterest expense to average assets decreased to 2.24% for the six
months ended June 30, 1997, from 3.43% for the same period in 1996. The
decrease in noninterest expense for the six month period in 1997 was a
result of a decrease in general and administrative expenses of $1.3
million, or 20%, and a decrease of $0.8 million in the net cost of
operation of REO, which decreased to $134,000 for the six months ended
June 30, 1997, from $934,000 for the same period in 1996.
The ratio of general and administrative expense to average assets for the
three and six months ended June 30, 1997, was 2.06% and 2.18%,
respectively, compared with 3.21% and 3.01% for the like periods of 1996.
The decrease in general and administrative expense for the six month
period in 1997 was due primarily to decreases in branch office occupancy
and FDIC insurance premiums compared to the like period in 1996.
Income taxes
For the three and six months ended June 30, 1997, the Bank recorded income
taxes of $0.6 million and $1.1 million, respectively, compared to $0.2
million and $0.5 million for the like periods in 1996. Changes in the
levels of recorded income taxes are related to changes in the levels of
the Bank's earnings before income taxes and to the reduction in valuation
allowances related to deferred state income tax benefits not recognized in
prior years.
FINANCIAL CONDITION
Comparison of Financial Condition as of June 30, 1997 and as of December
31, 1996
Total assets at June 30, 1997 were $504.4 million, compared to $489.9
million at December 31, 1996. The Bank's cash and investment securities
decreased to $80.0 million at June 30, 1997
<PAGE>
from $88.7 million at December 31, 1996, primarily due to increased uses of cash
and investments to partially fund the sale of three retail branches. Loans
receivable increased $19.7 million during the six months ended June 30, 1997 as
a result of $46.4 million of new loan originations which offset amortization and
prepayment of loans. Total liabilities at June 30, 1997 were $466.7 million
compared to $455.0 million at December 31, 1996. This increase was due to a net
increase in FHLB advances of $30.0 million, offset by a net decrease in deposits
of $17.4 million due to the sale of three retail branches with deposits of
approximately $59.5 million. Shareholders' equity increased for the six months
ended June 30, 1997 to $37.7 million, compared to $34.9 million at December 31,
1996.
Liquidity and Capital
At June 30, 1997, the Bank's liquidity ratio was 7.67%. At June 30, 1997, the
Bank was well-capitalized for regulatory capital purposes. The following table
sets forth the Bank's regulatory capital ratios at June 30, 1997 and December
31, 1996:
<TABLE>
<CAPTION>
To Be "Well
Capitalized"
Under Prompt
Corrective
June 30, 1997 December 31, 1996 Action Provisions
------------- ----------------- -----------------
<S> <C> <C> <C>
Tangible Capital 7.52% 7.17% 1.5%
Leverage Capital 7.52% 7.17% 5.0%
Risk-based Capital 11.53% 11.27% 10.0%
</TABLE>
This report contains forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995 relating to, among other
things, expectations regarding future branch sale gains, future general and
administrative expense savings, future levels of nonperforming assets, and the
timing of dispositions of nonperforming assets which are subject to risks and
uncertainties that could cause actual results, performance, or achievements to
differ materially. Factors that could cause actual results to differ include the
execution and timing of the closure of the branch sale, the timing of general
and administrative expense savings and future expenditures, levels of sales of
real estate owned and of new nonaccrual loans, and other factors as set forth in
the Bank's Annual Report on Form 10K.
PART II. OTHER INFORMATION
ITEMS 1-5.
Item 1. Not applicable
Item 2. Not applicable
Item 3. Not applicable
Item 4. Not applicable
<PAGE>
Item 5. Not applicable
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) None
(b) Reports on Form 8-K
None
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934 and
Part 563d of the Rules and Regulations of the Office of Thrift
Supervision, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK
---------------------------------------------
(Registrant)
DATED: August 7, 1997 /s/ STEPHEN N. RIPPE
------------------------------
Stephen N. Rippe, President and
Chief Executive Officer
DATED: August 7, 1997 /s/ ANTHONY L. FREY
------------------------------
Anthony L. Frey,
Principal Financial Officer
<PAGE>
Exhibit 99.5
OFFICE OF THRIFT SUPERVISION
WASHINGTON, D.C. 20552
------------------
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1997 OTS No. 7184
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from_____________ to ________________
Commission file number__________________________________________
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK
(Exact name of Registrant as specified in its charter)
United States 95-2565606
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
601 South Glenoaks Boulevard
Burbank, California 91502
(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code: (818) 848-4265
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days. Yes X No .
--- ---
At September 30, 1997, 2,300,137 shares of the Registrant's common stock were
outstanding.
<PAGE>
PART 1. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK & SUBSIDIARIES
Consolidated Statements of Financial Condition
(Dollar amounts in thousands except per share data)
<TABLE>
<CAPTION>
September 30, December 31,
1997 1996
---------------- ----------------
<S> <C> <C>
ASSETS
Cash and cash equivalents $10,778 $10,714
Investment securities:
Securities, available for sale 48,437 60,038
Securities, held to maturity 16,077 17,969
Loans receivable, net 407,497 373,545
Real estate acquired through foreclosure 2,462 1,400
Accrued interest receivable:
Securities and cash equivalents 282 184
Loans receivable 3,429 3,220
Income Taxes receivable 1,579 -
Deferred income taxes, net 3,451 4,463
Federal Home Loan Bank stock - at cost 6,150 3,125
Premises and equipment, net 8,034 8,311
Other assets 7,814 6,933
---------------- ----------------
Total Assets $515,990 $489,902
================ ================
LIABILITIES AND SHAREHOLDERS' EQUITY
Savings accounts $345,662 $384,921
Advances from the FHLB 123,000 62,500
Accounts payable and other liabilities 7,507 7,417
Income taxes payable 264 201
---------------- ----------------
Total Liabilities 476,433 455,039
Shareholders' equity
Preferred stock - 1,000,000 shares authorized,
no shares issued - -
Capital stock - authorized 8,000,000 shares of
$1 stated value; issued and outstanding,
2,300,137 and 2,295,983 shares in 1997 and 1996,
respectively 2,300 2,296
Additional paid-in capital 13,624 13,430
Retained earnings 23,767 19,384
---------------- ----------------
39,691 35,110
Net unrealized loss on securities available for sale (134) (247)
---------------- ----------------
Total shareholders' equity 39,557 34,863
---------------- ----------------
Total Liabilities and Shareholders' Equity $515,990 $489,902
================ ================
</TABLE>
2
<PAGE>
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK & SUBSIDIARIES
Consolidated Statements of Operations
(Dollar amount in thousands except per share data)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------------- -----------------------------
1997 1996 1997 1996
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Interest income
Loans $10,051 $8,911 $29,324 $26,047
Investments 524 138 1,191 743
Mortgage-backed securities 783 827 2,270 2,555
------------ ------------ ------------ ------------
Total interest income 11,358 9,876 32,785 29,345
Interest expense
Deposits 4,808 4,602 13,854 13,499
FHLB advances and other borrowings 1,587 579 3,960 1,496
------------ ------------ ------------ ------------
Total interest expense 6,395 5,181 17,814 14,995
------------ ------------ ------------ ------------
Net interest income 4,963 4,695 14,971 14,350
Provision for losses on loans 1,230 1,429 3,954 2,960
------------ ------------ ------------ ------------
Net interest income after provision
for losses on loans 3,733 3,266 11,017 11,390
Noninterest income
Gain on the sale of loans 5 403 5 443
Gain on the sale of mortgage related securities -- -- 20 --
Gain on the sale of branches 914 -- 2,014 --
Other 387 101 1,257 1,181
------------ ------------ ------------ ------------
Total noninterest income 1,306 504 3,296 1,624
General & Administrative expenses
Compensation and benefits 1,258 1,959 4,286 5,154
Occupancy and equipment 382 530 1,134 1,716
FDIC insurance premium 81 240 214 811
FDIC insurance premium - special assessment -- 2,548 -- 2,548
Service bureau and related equipment rental 125 146 449 546
Other 463 652 1,588 1,996
------------ ------------ ------------ ------------
Total general and administrative expenses 2,309 6,075 7,671 12,771
Net cost of operation of real estate
acquired through foreclosure 246 40 380 974
------------ ------------ ------------ ------------
Total noninterest expense 2,555 6,115 8,051 13,745
------------ ------------ ------------ ------------
Earnings (loss) before income taxes (benefit) 2,484 (2,345) 6,262 (731)
Income taxes (benefit) 745 (768) 1,879 (245)
------------ ------------ ------------ ------------
NET EARNINGS (LOSS) $1,739 ($1,577) $4,383 (486)
============ ============ ============ ============
Earnings (loss) per share $0.73 ($0.69) $1.86 ($0.21)
============ ============ ============ ============
Weighted average shares outstanding 2,385,523 2,295,983 2,357,933 2,295,983
============ ============ ============ ============
</TABLE>
3
<PAGE>
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK & SUBSIDIARIES
Consolidated Statements of Cash Flows
<TABLE>
<CAPTION>
Nine months ended
September 30,
1997 1996
- -------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Net cash flows from operating activities:
Net earnings $4,383 ($486)
Adjustments to reconcile net earnings to net cash provided by operating activities:
Gain on the sale of loans 5 443
Amortization of premiums/discounts on investment securities 227 218
Deferred income taxes (benefit) 1,012 (305)
Gain on sale of real estate acquired through foreclosure, net 124 202
Deferred direct loan origination fees and costs, net 959 751
Amortization of net deferred direct loan origination fees and costs (1,182) (1,502)
Provision for losses on loans 3,954 2,960
Provision for losses on real estate acquired through foreclosure 260 181
Increase in accrued interest receivable (307) (215)
Depreciation 523 540
Decrease (increase) in other assets (881) 486
Increase in income taxes payable 63 -
Increase in accounts payable and other liabilities 90 8,667
- -------------------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 9,230 11,940
Cash flows from investing activities:
Purchase of investment securities (77,354) (55,653)
Proceeds from sales of investment securities available for sale 90,620 54,577
(Increase) decrease in FHLB stock (3,025) 347
Net increase loans receivable (45,482) (57,341)
Proceeds from the sale of real estate acquired through foreclosure 4,869 4,808
Purchases of loans (396) (7,690)
Proceeds from the sale of loans 792 12,526
Purchases of premises and equipment, net (246) (931)
- -------------------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (30,222) (49,357)
Cash flows from financing activities:
Decrease in deposits from sale of branches (101,843) -
Net (decrease) increase in NOW, money market, and passbook accounts 3,118 (9,147)
Net decrease in certificates of deposit with maturities of three months or less (1,504) (272)
Proceeds from sales of certificates of deposit with maturities of over three months 88,414 61,012
Payments for maturing certificates of deposit held for over three months (27,444) (51,101)
Purchase of outstanding common stock (185) -
Net borrowings from the FHLB 60,500 4,000
- -------------------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 21,056 4,492
Increase (decrease) in cash and cash equivalents 64 (32,925)
Cash and cash equivalents at beginning of year 10,714 49,766
- -------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at September 30, $10,778 $16,841
- -------------------------------------------------------------------------------------------------------------------------------
Supplemental disclosures of cash flow information:
Interest paid $17,298 $14,995
Income taxes paid $2,442 $3,295
- -------------------------------------------------------------------------------------------------------------------------------
Supplemental disclosure of noncash investing and financing activities:
Acquisition of real estate in settlement of loans $ 8,093 $4,309
Loans made in conjunction with real estate sales $ 1,860 $2,351
</TABLE>
4
<PAGE>
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK & SUBSIDIARIES
NOTES TO UNAUDITED FINANCIAL STATEMENTS
September 30, 1997
NOTE A - BASIS OF PRESENTATION
The interim financial statements included herein have been prepared by Highland
Federal Bank, a Federal Savings Bank (the "Bank" or "Highland"), without audit,
pursuant to the rules and regulations of the Securities Exchange Act of 1934, as
amended. Certain information normally included in financial statements prepared
in accordance with generally accepted accounting principles has been condensed
or omitted pursuant to such rules and regulations. In the opinion of management,
the unaudited financial statements and notes thereto, reflect all adjustments,
including normal recurring adjustments, necessary for a fair presentation of the
financial position and the results of operations and cash flows for the interim
periods presented. The financial position at September 30, 1997, and the results
of operations for the three and nine months ended September 30, 1997, are not
necessarily indicative of the results of operations that may be expected for the
year ending December 31, 1997. These unaudited financial statements have been
prepared in accordance with generally accepted accounting principles on a basis
consistent with the Bank's audited financial statements, and these interim
financial statements should be read in conjunction with the Bank's audited
financial statements.
NOTE B - EARNINGS PER SHARE
Earnings per share are calculated on the basis of weighted average number of
shares and common stock equivalents outstanding during the period. For the three
months ended September 30, 1997, 2,385,523 weighted average shares and common
stock equivalents were outstanding, including 85,386 common stock equivalents
related to employee stock options, and for the nine months ended September 30,
1997, 2,357,933 weighted average shares were outstanding, including 57,796
common stock equivalents related to employee stock options. For the three and
nine months ended September 30, 1996, 2,295,983 weighted average shares were
outstanding. Fully diluted earnings per share have not been reported in these
interim financial statements as the dilutive effect of common stock equivalents
for outstanding stock options is less than 3%.
NOTE C - SUBSEQUENT EVENTS
On October 17, 1997, the Bank filed the necessary application and proxy
materials with the Office of Thrift Supervision related to the formation of a
holding company for the Bank. The formation of the holding company, Highland
Bancorp, Inc., is subject to regulatory approval and shareholder approval. A
special meeting of shareholders has been scheduled for December 11, 1997, to
approve the reorganization of the Bank into a holding company form of
organization.
5
<PAGE>
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK & SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS
Overview
The Bank reported net earnings for the three and nine months ended September 30,
1997, of $1.7 million, or $0.73 per share, and $4.4 million, or $1.86 per share,
respectively, compared to a net loss of $1.6 million, or $0.69 per share, for
the three months ended September 30, 1996, and a net loss of $0.5 million, or
$0.21 per share, for the nine months ended September 30, 1996. Net earnings for
the three months ended September 30, 1997, included a one-time gain of $0.9
million from the sale of a retail branch with deposits totaling approximately
$42.4 million. Net earnings for the nine months ended September 30, 1997,
included a one-time gain of $2.0 million from the sale of four retail branches
with deposits totaling approximately $101.8 million. The net loss for the three
and nine months ended September 30, 1996, was principally attributable to (1) a
one-time deposit insurance charge to the Bank for the recapitalization of the
Savings Association Insurance Fund ("SAIF") of the Federal Deposit Insurance
Corporation ("FDIC") and (2) a one-time adjustment to the Bank's compensation
expense related to the Bank's defined benefit pension plan.
The Bank experienced a decrease in general and administrative expenses from $9.8
million in the first nine months of 1996 (excluding the SAIF Special Assessment
and nonrecurring pension expense) to $7.7 million in the comparable period in
1997. These savings are attributable to the sale of the three retail branches in
the first quarter of 1997 and the Bank's continuing cost control efforts.
The net cost of REO operations decreased to $380,000 for the nine months ended
September 30, 1997, compared to $974,000 for the like period in 1996. The ratio
of noninterest expense to average assets decreased from 4.07% in the first nine
months of 1996 to 2.14% in the first nine months of 1997.
Net Interest Income
Net interest income varies based upon the difference (referred to as the
"interest rate spread") between (i) the yield on the Bank's loan portfolio,
mortgage backed securities, investments, and other interest-earning assets and
(ii) the rate paid by the Bank on its deposits, borrowings and other
interest-bearing liabilities, as well as the relative amounts or volumes of the
Bank's interest-earning assets and interest-bearing liabilities.
The following table indicates the extent to which changes in interest rates and
changes in volume of interest-earning assets and interest-bearing liabilities
have affected the Bank's total interest income and expense during the periods
indicated. Information is provided for each major component of interest-earning
assets and interest-bearing liabilities with respect to: (i) changes
attributable to changes in volume (changes in volume multiplied by prior rate);
(ii) changes attributable to rate (changes in rate multiplied by prior volume);
and (iii) the net change. The changes attributable to
<PAGE>
both volume and rate have been allocated proportionately to the change due to
volume and the change due to rate.
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, 1997 September 30, 1997
Compared to Three Months Compared to Nine Months
Ended September 30, 1996 Ended September 30, 1996
Increase (Decrease) due to Increase (Decrease) due to
----------------------------------- ------------------------------------
(In thousands) (In thousands)
----------------------------------- ------------------------------------
Volume Rate Net Volume Rate Net
---------- --------- --------- ---------- --------- ----------
<S> <C> <C> <C> <C> <C> <C>
Interest Income:
Loans $ 1,672 $ (532) $ 1,140 $ 3,910 $ (633) $ 3,277
Mortgage-related securities 146 240 386 352 96 448
Investments (166) 122 (44) (300) 15 (285)
---------- -------- --------- --------- -------- ----------
Total interest income on interest-earning
assets 1,652 (170) 1,482 3,962 (522) 3,440
---------- -------- --------- --------- -------- ----------
Interest Expense:
Deposits 80 126 206 58 297 355
FHLB Advances and other borrowings 1,060 (52) 1,008 2,337 127 2,464
---------- -------- --------- --------- -------- ----------
Total interest expense on interest-bearing
liabilities 1,140 74 1,214 2,395 424 2,819
---------- -------- --------- --------- -------- ----------
Change in net interest income $ 512 $ (244) $ 268 $ 1,567 $ (946) $ 621
========== ======== ========= ========= ======== ==========
</TABLE>
Net interest income for the three months ended September 30, 1997, was $5.0
million compared to $4.7 million for the like period in 1996. For the first nine
months of 1997 net interest income was $15.0 million, compared with $14.4
million for the like period of 1996. The Bank's net interest margins for the
quarter and nine months ended September 30, 1997, were 4.10% and 4.26%,
respectively, compared with net interest margins of 4.61% and 4.66% for the like
respective periods of 1996. The decrease in the net interest margin in the first
nine months of 1997, compared with those of the first nine months of 1996, is
attributable principally to increased funding costs and higher levels of
liquidity related to the Bank's sale of four retail deposit branches, the
origination of loans at generally lower rates than the average for the loan
portfolio, and the effects of generally higher interest rates in 1997 than those
prevailing during the same period in 1996.
Provision and Allowance for Loan Losses
For the three months ended September 30, 1997, Highland's provision for loan
losses totaled $1.2 million compared to $1.4 million for the comparable period
in 1996. For the nine months ended September 30, 1997, provision for loan losses
totaled $4.0 million compared with $3.0 million for the like period in 1996. At
September 30, 1997, Highland's nonperforming assets, consisting of nonaccrual
loans and REO, totaled $7.9 million, compared to $7.7 million at September 30,
1996. Highland's allowance for loan losses as a percentage of nonaccrual loans
was 154.1% at September 30, 1997, compared to 129.9% at September 30, 1996.
<PAGE>
The following table sets forth information regarding the Bank's allowance for
loan losses at the dates and the periods indicated (in thousands):
<TABLE>
<CAPTION>
For the nine For the year
months ended ended
9/30/97 12/31/96
---------------- ----------------
<S> <C> <C>
Balance at beginning of period $7,676 $7,056
Provision for loss 3,954 3,930
Chargeoffs:
Real estate loans:
One-to-four family 399 590
Multi-family 2,033 1,925
Commercial 845 785
Construction and land 13 21
Consumer 25 2
---------------- ----------------
Total 3,315 3,323
Recoveries - 13
---------------- ----------------
Balance at end of period $8,315 $7,676
================ ================
</TABLE>
While management believes that the allowances for loan losses at September 30,
1997, was adequate to absorb the known and inherent risks in the loan portfolio,
no assurances can be given that future economic conditions which may adversely
affect the Bank's market areas or other circumstances will not result in
increases in problem loans and future loan losses, which may not be covered
completely by the current allowance or may require provisions for loan losses in
excess of past provisions, which would have an adverse effect on the Bank's
financial condition and results of operations.
The following table sets forth information regarding nonperforming assets and
certain ratios at the dates indicated (in thousands):
<TABLE>
<CAPTION>
As of As of
9/30/97 12/31/96
--------------- ----------------
<S> <C> <C>
Nonaccrual loans:
Real Estate:
One-to-four family $2,187 $474
Multi-family 2,096 1,320
Commercial 1,072 1,653
Consumer 41 8
--------------- ----------------
Total 5,396 3,455
REO 2,462 1,400
--------------- ----------------
Total Nonperforming assets $7,858 $4,855
=============== ================
Troubled debt restructurings $5,151 $7,428
=============== ================
Allowance for loan losses as a percentage
of gross loans receivable 1.99% 2.00%
Allowance for loan losses as a percentage
of total nonaccrual loans 154.10% 222.24%
Nonaccrual loans as a percentage of
gross loans receivable 1.29% 0.90%
Nonperforming assets as a percentage
of total assets 1.52% 0.99%
</TABLE>
<PAGE>
NONINTEREST INCOME
Noninterest income for the three months ended September 30, 1997, was $1.3
million, including a $0.9 million branch sale gain, compared to $504,000 for the
like quarter of 1996. Noninterest income for the nine months ended September 30,
1997, was $3.3 million, including a $2.0 million branch sale gain, compared to
$1.6 million for the same period in 1996. These decreases in noninterest income
(excluding the branch sale gain) were due primarily to gains reported by the
Bank from the sale of approximately $13 million of mortgage loans in the first
nine months of 1996.
NONINTEREST EXPENSE
Noninterest expense for the three and nine months ended September 30, 1997, was
$2.6 million and $8.1 million, respectively, compared to $6.1 million and $13.7
million for the like respective periods in 1996. The ratio of noninterest
expense to average assets decreased to 2.14% for the nine months ended September
30, 1997, from 4.07% for the same period in 1996, which included the SAIF
Special Assessment and nonrecurring pension expense.
The ratio of general and administrative expense to average assets for the three
and nine months ended September 30, 1997, was 1.78% and 2.04%, respectively,
compared with 5.31% and 3.78% for the like respective periods of 1996, which
included the $2.5 million SAIF Special Assessment and $.5 million nonrecurring
pension expense. Excluding these amounts, the ratio of general and
administrative expense to average assets for the quarter and nine months ended
September 30, 1996, would have been 2.65% and 2.88%, respectively. The decrease
in general and administrative expense for the nine month period in 1997 was due
primarily to decreases in branch office occupancy as a result of the sale of
three branches in the first quarter of 1997 and decreases in FDIC insurance
premiums compared to the like period in 1996.
INCOME TAXES
For the three and nine months ended September 30, 1997, the Bank recorded income
taxes of $0.7 million and $1.9 million, respectively, compared to income tax
benefit of $0.8 million and $0.2 million for the like periods in 1996. Changes
in the levels of recorded income taxes are related to changes in the levels of
the Bank's earnings (loss) before income taxes and to the reduction in valuation
allowances related to deferred state income tax benefits not recognized in prior
years.
FINANCIAL CONDITION
Comparison of Financial Condition as of September 30, 1997 and as of
December 31, 1996
Total assets at September 30, 1997, were $516.0 million, compared to $489.9
million at December 31, 1996. The Bank's cash and investment securities
decreased to $75.3 million at September 30, 1997, from $88.7 million at December
31, 1996, primarily due to increased uses of cash and investments to partially
fund the sale of four retail branches. Loans receivable increased $34.0 million
during the nine months ended September 30, 1997 as a result of $76.6 million of
new loan originations which offset amortization and prepayment of loans. Total
liabilities at September 30, 1997 were $476.4 million compared to $455.0 million
at December 31, 1996. This increase was due to a net increase in FHLB advances
of $60.5 million, offset by a
<PAGE>
net decrease in deposits of $39.2 million due to the sale of four retail
branches with deposits of approximately $101.9 million. Shareholders' equity
increased for the nine months ended September 30, 1997, to $39.6 million,
compared to $34.9 million at December 31, 1996.
LIQUIDITY AND CAPITAL
At September 30, 1997, the Bank's liquidity ratio was 6.10%. At September 30,
1997, the Bank was well-capitalized for regulatory capital purposes. The
following table sets forth the Bank's regulatory capital ratios at September 30,
1997, and December 31, 1996:
<TABLE>
<CAPTION>
To Be "Well
Capitalized"
Under Prompt
Corrective
September 30, 1997 December 31, 1996 Action Provisions
------------------ ----------------- -----------------
<S> <C> <C> <C>
Tangible Capital 7.69% 7.17% 1.5%
Leverage Capital 7.69% 7.17% 5.0%
Risk-based Capital 11.77% 11.27% 10.0%
</TABLE>
This report contains forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995 relating to, among other
things, expectations regarding future general and administrative expense
savings, future levels of nonperforming assets, and the timing of dispositions
of nonperforming assets which are subject to risks and uncertainties that could
cause actual results, performance, or achievements to differ materially. Factors
that could cause actual results to differ include the timing of general and
administrative expense savings and future expenditures, levels of sales of real
estate owned and of new nonaccrual loans, and other factors as set forth in the
Bank's Annual Report on Form 10K.
PART II. OTHER INFORMATION
ITEMS 1-5.
Item 1. Not applicable
Item 2. Not applicable
Item 3. Not applicable
Item 4. Not applicable
Item 5. Not applicable
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) None
(b) Reports on Form 8-K
None
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934 and Part
563d of the Rules and Regulations of the Office of Thrift Supervision, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
HIGHLAND FEDERAL BANK, A FEDERAL SAVINGS BANK
---------------------------------------------
(Registrant)
DATED: November 11, 1997 /s/ STEPHEN N. RIPPE
-------------------------------
Stephen N, Rippe, President and
Chief Executive Officer
DATED: November 11, 1997 /s/ ANTHONY L. FREY
-------------------------------
Anthony L. Frey,
Principal Financial Officer
