<PAGE>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K/A
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the Fiscal Year Ended September 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number: 0-29492
HERITAGE BANCORP, INC.
----------------------
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C>
Delaware 58-2356162
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(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
201 W. Main Street, Laurens, South Carolina 29360
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (864)984-4581
---------------
Securities registered pursuant to Section 12(b) of the Act: None
---------------
Securities registered pursuant to Section 12(g) of the Act: Common Stock, par value $.01 per share
--------------------------------------
(Title of Class)
</TABLE>
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. X
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As of December 6, 1999, there were issued and outstanding 4,363,589 shares
of the registrant's common stock. The common stock is listed for trading on the
Nasdaq National Market under the symbol "HBSC." Based on the closing price on
December 16, 1999, the aggregate value of the Common Stock outstanding held by
the nonaffiliates of the registrant was $59,229,000. For purposes of this
disclosure, shares of common stock held by persons who hold more that 5% of the
outstanding common stock and common stock held by certain officers and directors
of the registrant have been excluded in that such persons may be deemed to be
"affiliates" as that term is defined under the rules and regulations promulgated
under the Securities Act of 1933, as amended.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of Definitive Proxy Statement for the 2000 Annual Meeting of
Stockholders to be held on February 2, 2000 (Part III).
<PAGE>
This report contains certain "forward-looking statements" concerning the
future operations of Heritage Bancorp, Inc. We have used forward-looking
statements to describe future plans and strategies, including our expectations
of our future financial results. Management's ability to predict results or the
effect of future plans or strategies is inherently uncertain. Factors which
could affect actual results include interest rate trends, the general economic
climate in our market area and the country as a whole, our ability to control
costs and expenses, competitive products and pricing, loan delinquency rates,
changes in federal and state regulation, and the impact of year 2000 issues.
These factors should be considered in evaluating the forward-looking statements
contained in this report and undue reliance should not be placed on such
statements.
PART I
Item 1. Business
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General
Heritage Bancorp, Inc. ("Company"), a Delaware corporation, was organized
in November 1997 for the purpose of becoming the holding company for Heritage
Federal Savings and Loan Association, which changed its name to Heritage Federal
Bank ("Bank") upon its conversion from a federal mutual savings and loan
association to a federal stock savings bank. The Bank's conversion was
completed on April 6, 1998 through the sale of 4,628,750 shares of common stock
by the Company at a price of $15.00 per share.
The Bank, chartered in 1948, is a federally chartered savings bank located
in Laurens, South Carolina. The Bank is regulated by the Office of Thrift
Supervision ("OTS"), its primary federal regulator, and by the Federal Deposit
Insurance Corporation ("FDIC"), the insurer of its deposits. The Bank's
deposits are insured by the FDIC's Savings Association Insurance Fund ("SAIF").
The Bank has been a member of the Federal Home Loan Bank ("FHLB") System since
1948.
The Bank is a community oriented financial institution that operates out of
four offices in the Upstate region of South Carolina. The Bank's principal
business is attracting deposits from the general public and using those funds to
originate residential mortgage loans. The Bank emphasizes the origination of
adjustable rate mortgage ("ARM") loans and generally holds its loans for long-
term investment purposes.
Market Area and Competition
The Company conducts operations out of its main office in Laurens, South
Carolina (in Laurens County) and three branch offices in Upstate South Carolina:
in Belton (in Anderson County), Ware Shoals (in Greenwood County) and
Simpsonville (in Greenville County). Most of the Company's depositors live in
the areas surrounding the Company's offices and most of the Company's loans are
made to persons in the counties in which its branches are located, as well as in
the Columbia, South Carolina metropolitan area.
Laurens County, with an estimated population of 62,000, is located to the
east of the Greenville-Spartanburg-Anderson metropolitan area. Although a rural
county, the completion of U.S. Interstate Routes I-26 and I-385 has provided
access to the larger population and employment centers of Columbia and
Greenville-Spartanburg-Anderson. The Company's Belton and Simpsonville branches
are within the Greenville-Spartanburg-Anderson metropolitan area, while the Ware
Shoals branch is in a rural area between Laurens and the city of Greenwood.
South Carolina's economy, historically dependent on the textile industry, has
expanded into a broad variety of employment sectors in recent years as the
textile industry has declined. The development of major transportation routes,
low cost of living and labor, and aggressive marketing by local and state
government have resulted in an increase in industrial development. As a result,
the Company's market areas have reported increases in population, households and
income in recent years.
The Bank faces intense competition in its primary market area for the
attraction of deposits (its primary source of lendable funds) and in the
origination of loans. Its most direct competition for deposits has historically
come from commercial banks, credit unions, other thrifts operating in its market
area, and other financial institutions, such as brokerage firms and insurance
companies. Particularly in times of high interest rates, the Bank has faced
additional significant competition for investors' funds from short-term money
market securities and other corporate and
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government securities. The Bank's competition for loans comes from commercial
banks, thrift institutions, credit unions and mortgage bankers. Such competition
for deposits and the origination of loans may limit the Bank's growth in the
future.
Lending Activities
General. At September 30, 1999, the Company's total loans receivable
portfolio amounted to $295.4 million, or 94.1% of total assets at that date.
The Company has traditionally concentrated its lending activities on mortgage
loans, with such loans amounting to $280.9 million, or 95.1% of total loans
receivable at September 30, 1999. At that date, $186.5 million, or 63.2%, of
the Company's total loans receivable had adjustable interest rates. In addition
to one-to four-family mortgage loans, the Company originates construction loans,
commercial real estate loans, home equity loans, savings account loans,
commercial business loans and consumer loans. All of the Company's mortgage
loan portfolio is secured by real estate, either as primary or secondary
collateral, located in North Carolina or South Carolina.
Loan Portfolio Analysis. The following table sets forth the composition of
the Company's loan portfolio (excluding loans held-for-sale) at the dates
indicated. The Company had no concentration of loans exceeding 10% of total
loans receivable other than as disclosed below.
<TABLE>
<CAPTION>
At September 30,
---------------------------------------------------------------------------------------------------
1999 1998 1997 1996 1995
---------------------------------------------------------------------------------------------------
Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent
---------- --------- -------- --------- ------- ------- ------- ------- ------- -------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Mortgage loans:
One- to four-family....... $186,525 63.1% $173,891 81.9% $180,609 90.0% $173,925 90.4% $167,092 90.2%
Builder construction...... 61,428 20.8 11,261 5.3 2,601 1.3 3,836 2.0 2,735 1.5
Commercial................ 32,981 11.2 14,484 6.8 8,136 4.0 6,450 3.3 7,573 4.1
-------- ----- -------- ----- -------- ----- -------- ----- -------- -----
Total mortgage loans.... 280,934 95.1 199,636 94.0 191,346 95.3 184,211 95.7 177,400 95.8
Savings account loans....... 1,127 0.4 1,077 0.5 1,419 0.7 1,146 0.6 1,439 0.8
Home equity loans........... 9,424 3.2 8,925 4.2 8,124 4.0 7,050 3.7 6,429 3.4
Commercial loans............ 3,679 1.2 2,785 1.3 -- -- -- -- -- --
Consumer loans.............. 187 0.1 -- -- -- -- -- -- -- --
-------- ----- -------- ----- -------- ----- -------- ----- -------- -----
Total loans receivable.. 295,351 100.0% 212,423 100.0% 200,889 100.0% 192,407 100.0% 185,268 100.0%
===== ===== ===== ===== =====
Less:
Undisbursed loan funds.... 41,608 14,514 6,989 8,375 5,995
Deferred loan origination
fees.................... 373 360 363 412 424
Allowance for loan losses. 1,356 760 874 670 590
-------- -------- -------- -------- --------
Loans receivable, net... $252,014 $196,789 $192,663 $182,950 $178,259
======== ======== ======== ======== ========
</TABLE>
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The following table sets forth certain information at September 30, 1999
regarding the dollar amount of loans maturing in the Company's portfolio based
on their contractual terms to maturity, but does not include scheduled payments
or potential prepayments. Demand loans, loans having no stated schedule of
repayments and no stated maturity, and overdrafts are reported as becoming due
within one year. Loan balances do not include undisbursed loan proceeds,
unearned discounts, unearned income and allowance for loans losses.
<TABLE>
<CAPTION>
After After After
One Year 3 Years 5 Years
Within Through Through Through Beyond
One Year 3 Years 5 Years 10 Years 10 Years Total
----------- ----------- ---------- ---------- ---------- -----
(In thousands)
<S> <C> <C> <C> <C> <C> <C>
Mortgage loans:
One- to four-family............ $ 131 $1,763 $2,926 $16,108 $165,597 $186,525
Builder construction........... 61,428 -- -- -- -- 61,428
Commercial..................... 3,897 2,699 1,915 3,451 21,019 32,981
Savings account loans.............. 1,127 -- -- -- -- 1,127
Home equity loans.................. 9,424 -- -- -- -- 9,424
Commercial loans................... 3,679 -- -- -- -- 3,679
Consumer loans..................... 187 -- -- -- -- 187
------- ------ ------ ------- -------- --------
Total.......................... $79,873 $4,462 $4,841 $19,559 $186,616 $295,351
======= ====== ====== ======= ======== ========
</TABLE>
The following table sets forth the dollar amount of all loans due after
September 30, 2000, which have fixed interest rates and have floating or
adjustable interest rates.
<TABLE>
<CAPTION>
Floating or
Fixed Adjustable
Rates Rates
----------- -------------
(In thousands)
<S> <C> <C>
Mortgage loans:
One- to four-family......................... $27,541 $158,853
Builder construction........................ -- --
Commercial.................................. 4,725 24,359
Savings account loan............................ -- --
Home equity loans............................... -- --
Commercial loans................................ -- --
Consumer loans.................................. -- --
------- --------
Total.................................... $32,266 $183,212
======= ========
</TABLE>
Scheduled contractual principal repayments of loans do not reflect the
actual life of such assets. The average life of a loan is substantially less
than its contractual term because of prepayments. In addition, due-on-sale
clauses on loans generally give the Company the right to declare loans
immediately due and payable in the event, among other things, that the borrower
sells the real property subject to the mortgage and the loan is not repaid. The
average life of a mortgage loan tends to increase, however, when current
mortgage loan market rates are substantially higher than rates on existing
mortgage loans and, conversely, tends to decrease when rates on existing
mortgage loans are substantially higher than current mortgage loan market rates.
One- to Four-Family Real Estate Loans. The Company has concentrated
its lending activities on the origination of loans secured by first mortgages on
one- to four-family residences located in South Carolina. The Company offers
ARM loans at rates and terms competitive with market conditions. At September
30, 1999, $158.9 million, or 85.2%, of the Company's one- to four-family real
estate loans were subject to periodic interest rate adjustments. Substantially
all of the Company's ARM loans are underwritten and documented in accordance
with
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guidelines established by Freddie Mac, even though the Company originates ARM
loans primarily for its own portfolio. The Company originates for its portfolio
ARM loans that provide for an interest rate that adjusts every year or that is
fixed for three or ten years and then adjusts every year after the initial
period. The Company's ARM loans generally provide for annual and lifetime
interest rate adjustment limits of 1% and 4%, respectively. The Company's ARM
loans adjust based on the National Median Cost of Funds Index. This index is a
lagging market index, which means that upward adjustments in this index may
occur more slowly than changes in the Company's cost of interest-bearing
liabilities, especially during periods of rapidly increasing interest rates. The
Company's ARM loans are typically based on a 30-year amortization schedule. The
initial rate on most of the Company's ARM loans is .75% to 1% below the fully
indexed rate for the loan.
The Company offers fixed-rate, one- to four-family mortgage loans with
maturities ranging from ten to 30 years. These loans are fully amortizing with
monthly payments sufficient to repay the total amount of the loan with interest
by the end of the loan term. Generally, they are underwritten and documented in
accordance with guidelines established by Freddie Mac. In recent years, as part
of its asset/liability management, the Company has retained for its portfolio
fixed-rate loans with terms of ten to 15 years. The Company determines whether
to sell or retain fixed-rate loans with terms of more than 15 years on a
case-by-case basis.
The Company also offers loans to individuals for the construction and
acquisition of their personal residence. Such loans are made on the same terms
as the Company's one- to four-family mortgage loans, but provide for the payment
of interest only during the construction phase, which is usually six months. At
the end of the construction phase, the loan converts to a permanent mortgage
loan.
The Company offers second mortgage loans, although these have become less
popular since the introduction of home equity lines of credit. The Company's
second mortgage loans have fixed interest rates and terms of up to ten years. At
September 30, 1999, the Company had $778,000 of second mortgage loans included
in its one- to four-family mortgage loans.
Borrower demand for ARM loans versus fixed-rate mortgage loans is a
function of the level of interest rates, the expectations of changes in the
level of interest rates and the difference between the initial interest rates
and fees charged for each type of loan. The relative amount of fixed-rate
mortgage loans and ARM loans that can be originated at any time is largely
determined by the demand for each in a competitive environment.
The retention of ARM loans in the Company's loan portfolio helps reduce the
Company's exposure to changes in interest rates. There are, however,
unquantifiable credit risks resulting from the potential of increased costs due
to changed rates to be paid by the borrower. It is possible that, during periods
of rising interest rates, the risk of default on ARM loans may increase as a
result of repricing and the increased payments required by the borrower. In
addition, although ARM loans allow the Company to increase the sensitivity of
its asset base to changes in the interest rates, the extent of this interest
sensitivity is limited by the annual and lifetime interest rate adjustment
limits. Because of these considerations and its use of a lagging market index,
the Company has no assurance that yields on ARM loans will be sufficient to
offset increases in the Company's cost of funds. The Company believes these
risks, which have not had a material adverse effect on the Company to date,
generally are less than the risks associated with holding fixed-rate loans in
portfolio during a rising interest rate environment.
The Company generally requires title insurance insuring the status of its
lien or an acceptable attorney's opinion on all loans where real estate is the
primary source of security. The Company also requires that fire and casualty
insurance (and, if appropriate, flood insurance) be maintained in an amount at
least equal to the outstanding loan balance.
The Company's one- to four-family residential mortgage loans typically do
not exceed 80% of the appraised value of the security property. Pursuant to its
underwriting guidelines, the Company can lend up to 95% of the appraised value
of the property securing a one- to four-family residential loan; however, the
Company generally requires private mortgage insurance on the portion of the
principal amount that exceeds 80% of the appraised value of the security
property.
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<PAGE>
Builder Construction Loans. The Company originates residential construction
loans to local home builders, generally with whom it has an established
relationship. The Company's construction loans to builders generally have fixed
interest rates and are for a term of one year. Such loans to builders are
typically made with a maximum loan to value ratio of 80%. These loans are made
either on a pre-sold or speculative (unsold) basis. However, the Company
generally limits the number of outstanding loans on unsold homes under
construction to individual builders, with the amount dependent on the financial
strength of the builder, the present exposure of the builder, the degree of loan
concentration and prior sales of homes in the development.
Prior to making a commitment to fund a construction loan, the Company
requires an appraisal of the property by a state-licensed and qualified
appraiser. The Company's staff or a paid inspector also reviews and inspects
each project prior to disbursement of funds during the term of the construction
loan. Loan proceeds are disbursed after inspection of the project based on
percentage of completion.
Construction lending affords the Company the opportunity to earn
higher interest rates with shorter terms to maturity relative to single-family
permanent mortgage lending. Construction lending, however, is generally
considered to involve a higher degree of risk than single-family permanent
mortgage lending because of the inherent difficulty in estimating both a
property's value at completion of the project and the estimated cost of the
project. The nature of these loans is such that they are generally more
difficult to evaluate and monitor. If the estimate of construction cost proves
to be inaccurate, the Company may be required to advance funds beyond the amount
originally committed to permit completion of the project. If the estimate of
value upon completion proves to be inaccurate, the Company may be confronted
with a project whose value is insufficient to assure full repayment. Projects
may also be jeopardized by disagreements between borrowers and builders and by
the failure of builders to pay subcontractors. Loans to builders to construct
homes for which no purchaser has been identified carry more risk because the
payoff for the loan is dependent on the builder's ability to sell the property
prior to the time that the construction loan is due.
The Company has attempted to minimize the foregoing risks by, among other
things, limiting its construction lending primarily to residential properties.
It is also the Company's general policy to obtain personal guarantees from
financially capable parties where the loan is made to a corporation or other
legal entity.
The Company this year began purchasing builder construction loans from
two mortgage companies. These loans are secured by residential properties with
maturities of one year or less and are made on either a pre-sold or speculative
basis. The properties securing these loans are located in various North and
South Carolina markets in which the Company buys other first mortgage loans.
These loans carry all of the greater risks inherent with construction lending as
mentioned above. In addition, brokered loans are generally considered to be
riskier than loans that the Company originates itself. To mitigate some of this
risk, the Company routinely conducts inspections of the properties under
construction.
At September 30, 1999, the largest amount of construction loans outstanding
to one builder was $4.2 million, all of which was for speculative construction.
Commercial Real Estate Loans. The Company originates mortgage loans for the
acquisition and refinancing of commercial real estate properties. The majority
of the Company's commercial real estate loans are secured by office buildings,
churches, retail shops and warehouses, all of which are located in South
Carolina. Occasionally, the Company makes land acquisition and development
loans. At September 30, 1999, the Company's largest commercial real estate loan
was $1.8 million and is collateralized by commercial and industrial sites at
Gaffney, South Carolina.
Most of the Company's commercial real estate loans have adjustable
interest rates and 15-year terms. The Company requires appraisals of all
properties securing commercial real estate loans. Appraisals are performed by an
independent appraiser designated by the Company and are reviewed by management.
Commercial real estate lending affords the Company an opportunity to
receive interest at rates higher than those generally available from one- to
four-family residential lending. However, loans secured by such properties
usually are greater in amount and are more difficult to evaluate and monitor,
and, therefore, involve a greater degree of risk than one- to four-family
residential mortgage loans. Because payments on loans secured by commercial
properties are often dependent on the successful operation and management of the
properties, repayment of such loans
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may be affected by adverse conditions in the real estate market or the
economy. The Company seeks to minimize these risks by limiting the maximum loan-
to-value ratio to 80% and strictly scrutinizing the financial condition of the
borrower, the cash flow of the project, the quality of the collateral and the
management of the property securing the loan. The Company also obtains loan
guarantees from financially capable parties based on a review of personal
financial statements.
Commercial Loans. The Company does not actively solicit commercial loans.
However, the Company may originate such loans on a limited basis, generally to
customers who are well known to the Company. Commercial loans are prime based,
variable rate loans and are collateralized by various business assets. The terms
for commercial loans vary with the business purpose of the loan and the normal
business cycle of the borrower. The Company also obtains personal guarantees
from financially capable parties when the loan is made to a corporation or other
legal entity.
Commercial lending affords the Company an opportunity to earn higher
interest rates as compared with residential lending. However, commercial lending
involves greater risk than residential mortgage and other real estate secured
lending. As collateral-based lending, real estate secured loans are made on
established loan-to-collateral values and the liquidation of the real estate is
considered as a primary source of repayment in case the borrower defaults.
Notwithstanding, business assets held as collateral for commercial loans in
default may be an insufficient source of repayment due to obsolescence,
illiquidity, uncollectibility, or shrinkage, among other reasons. Therefore, the
repayment of a commercial loan depends largely on the creditworthiness of the
borrower and the success of the borrower's business.
Savings Account Loans. The Company offers loans secured by savings
deposits. At September 30, 1999, loans collateralized by savings accounts
totalled $1.1 million, or 0.4% of total loans receivable. Generally, such loans
are made up to 90% of the account balance.
Home Equity Loans. The Company originates home equity loans in the form of
lines of credit. At September 30, 1999, the Company had $9.4 million of home
equity loans and unused commitments to extend credit under home equity loans of
$9.2 million. Most of these loans are made to existing customers. The Company's
home equity loans have variable interest rates tied to the prime lending rate as
published in The Wall Street Journal. The Company imposes a maximum loan-to-
value ratio of 90% after considering the unpaid balances of both the first and
second mortgage loans on the collateralized property.
The Company's home equity loans may have greater credit risk than one-to
four-family residential mortgage loans because they are secured by mortgages
subordinated to an existing first mortgage on the property, which, in most
cases, is held by the Company.
Consumer Loans. The Company originates consumer loans secured by
automobiles, boats and other consumer items, as well as unsecured loans for
personal use.
Loan Solicitation and Processing. The Company's lending activities are
subject to the written, non-discriminatory, underwriting standards and loan
origination procedures established by the Board of Directors and management.
Loan originations come from a number of sources. The customary sources of loan
originations are realtors, walk-in customers, referrals and existing customers.
The Company also uses two mortgage brokers to originate loans. For the year
ended September 30, 1999, the Company originated $18.2 million of loans, or
28.8% of total originations, through these brokers. All loans originated through
these mortgage brokers are underwritten by the Company pursuant to the Company's
underwriting guidelines.
All single-family residential mortgage loans up to $300,000 and all other
loans up to $200,000 must be approved by two members of the Loan Committee. All
loans in excess of such amounts but below $500,000 must be approved by a
committee consisting of the President, two Vice Presidents in charge of lending
operations and two outside Directors. All loans of $500,000 or more must be
approved by the Board of Directors.
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Loan Originations, Purchases and Sales. While the Company originates both
adjustable-rate and fixed-rate loans, its ability to generate each type of loan
depends upon relative customer demand for loans in its primary market area.
During the years ended September 30, 1999, 1998 and 1997, the Company originated
$63.3 million, $67.7 million and $45.1 million of loans, respectively. Of the
$63.3 million of loans originated in the year ended September 30, 1999, $45.7
million, or 72.2%, had adjustable rates of interest.
The Company purchases loans from two South Carolina based mortgage banking
companies. These mortgage loans consist of single family residential loans,
commercial mortgage loans, and builder construction mortgage loans. Except for
single family residential loans written to Freddie Mac guidelines, all loans are
underwritten by the Company. All of the properties securing these loans are
located in North and South Carolina. The Company anticipates that it will
continue to purchase loans from time to time to supplement its own originations.
The Company sells loans in order to manage the interest rate risk
associated with holding long-term, fixed-rate mortgages, to enable the Company
to offer a wide variety of mortgage products, and to earn origination fees and
premiums. In 1995, the Company established a relationship with another financial
institution pursuant to which the Company sells fixed-rate, one- to four-family
mortgage loans with terms in excess of 15 years. The Company currently does not
retain servicing rights on the loans that it sells.
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The following table sets forth total loans originated, purchased, sold and
repaid during the periods indicated.
<TABLE>
<CAPTION>
Years Ended September 30,
----------------------------------------------------
1999 1998 1997
---- ---- ----
(In thousands)
<S> <C> <C> <C>
Loans originated:
Mortgage loans:
One- to four-family....................................... $ 42,215 $ 43,458 $ 37,020
Builder construction...................................... 5,664 9,850 2,901
Commercial................................................ 10,699 6,274 1,958
Savings account loans........................................ 683 709 1,128
Home equity loans............................................ 3,788 3,793 2,139
Commercial loans............................................. ------- 3,664 --
Consumer loans............................................... 241 -- --
-------- -------- --------
Total loans originated.................................... 63,290 67,748 45,146
-------- -------- --------
Loans purchased:
Mortgage loans:
One- to four-family...................................... 16,644 3,311 2,975
Builder construction..................................... 60,503 6,008 --
Commercial............................................... 9,908 5,082 541
-------- -------- --------
Total loans purchased................................. 87,055 14,401 3,516
-------- -------- --------
Loans sold .................................................... (2,195) (1,224) (479)
Principal repayments........................................... (65,120) (69,301) (37,660)
Transfer to real estate owned.................................. (102) (281) (996)
Increase (decrease) in other items............................. (27,703) (7,408) 1,231
-------- -------- --------
Net increase (decrease) in loans $ 55,225 $ 3,935 $ 10,758
receivable, net............................................. ======== ======== ========
</TABLE>
Loan Commitments. The Company issues commitments for mortgage loans
conditioned upon the occurrence of certain events. Such commitments are made in
writing on specified terms and conditions and are honored for up to 30 days from
approval, depending on the type of transaction. At September 30, 1999, the
Company had loan commitments (excluding undisbursed portions of interim
construction loans of $41.6 million) of $2.3 million and unused lines of credit
of $9.2 million. See Notes 4 and 9 of Notes to the Consolidated Financial
Statements.
Loan Fees. In addition to interest earned on loans, the Company receives
income from fees in connection with loan originations, loan modifications, late
payments and for miscellaneous services related to its loans. Income from these
activities varies from period to period depending upon the volume and type of
loans made and competitive conditions.
The Company charges loan origination fees which are calculated as a
percentage of the amount borrowed or charged as a flat fee on the amount
borrowed, depending on the loan program. In accordance with applicable
accounting procedures, loan origination fees and discount points in excess of
loan origination costs are deferred and recognized over the contractual
remaining lives of the related loans on a level yield basis. Discounts and
premiums on loans purchased are accreted and amortized in the same manner. At
September 30, 1999, the Company had $373,000 of deferred loan fees. The Company
recognized $113,000, $123,000 and $151,000 of deferred loan fees during the
years ended September 30, 1999, 1998 and 1997, respectively, in connection with
loan refinancings, payoffs, sales and ongoing amortization of outstanding loans.
Nonperforming Assets and Delinquencies. When a borrower fails to make a
required payment on a loan, the Company attempts to cure the deficiency by
contacting the borrower and seeking the payment. A late notice is mailed 15 days
after a payment is due. In most cases, deficiencies are cured promptly. If a
delinquency continues, additional
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contact is made either through additional notices or other means and the Company
will attempt to work out a payment schedule. While the Company generally prefers
to work with borrowers to resolve such problems, the Company will institute
foreclosure or other proceedings, as necessary, to minimize any potential loss.
Loans are placed on nonaccrual status generally if, in the opinion of
management, principal or interest payments are not likely to be made in
accordance with the terms of the loan agreement, or when principal or interest
is past due more than 90 days. Interest accrued but not collected at the date
the loan is placed on nonaccrual status is reversed against income in the
current period. Loans may be reinstated to accrual status when payments are 90
days or less past due and, in the opinion of management, collection of the
remaining past due balances can be reasonably expected.
The Company's Board of Directors is informed on a monthly basis of the
amounts of loans delinquent more than 30, 60 and 90 days, all loans in
foreclosure and all foreclosed and repossessed property owned by the Company.
The following table sets forth information with respect to the Company's
nonperforming assets and restructured loans within the meaning of SFAS No. 15 at
the dates indicated.
<TABLE>
<CAPTION>
At September 30,
-------------------------------------------------------------------------
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Loans accounted for on a nonaccrual basis:
Mortgage loans:
One- to four-family....................... $ 554 $ 628 $ 444 $ 679 $ 867
Builder construction...................... 121 89 411 348 40
Commercial................................ -- 33 33 -- 28
Savings account loans........................ -- -- -- -- --
Home equity loans............................ -- 37 46 -- --
Commercial loans............................. -- -- -- -- --
Consumer loans............................... -- -- -- -- --
----- ----- ------ ------ ------
Total of non-accrual loans................ 675 787 934 1,027 935
Real estate owned............................ -- -- 410 86 104
----- ----- ------ ------ ------
Total non-performing assets............... $ 675 $ 787 $1,344 $1,113 $1,039
===== ===== ====== ====== ======
Restructured loans........................... $ 423 $ 396 $ 732 $ 769 $ 588
===== ===== ====== ====== ======
Nonaccrual loans as a percentage of
loans receivable, net........................ 0.27% 0.40% 0.48% 0.56% 0.52%
Nonaccrual loans as a percentage of
total assets................................. 0.22% 0.26% 0.38% 0.42% 0.40%
Non-performing assets as a percentage
of total assets.............................. 0.22% 0.26% 0.54% 0.45% 0.44%
</TABLE>
Interest income that would have been recorded for the year ended September 30,
1999 had nonaccruing loans been current in accordance with their original terms
amounted to $56,000. The amount of such interest included in interest income on
such loans for the year ended September 30, 1999 amounted to $26,000. Interest
income that would have been recorded for the year ended September 30, 1999 had
restructured loans been current in accordance with their original terms and the
amount of interest included in interest income on such loans for that period
were, in both cases, immaterial.
Real Estate Owned. Real estate acquired by the Company as a result of
foreclosure or by deed-in-lieu of foreclosure is classified as real estate owned
until sold. When property is acquired it is recorded at fair market value
-9-
<PAGE>
at the date of foreclosure. Subsequent to foreclosure, real estate owned is
carried at the lower of the foreclosed amount or fair value, less estimated
selling costs. At September 30, 1999, the Company had no real estate owned.
Restructured Loans. Under generally accepted accounting principles
("GAAP"), the Company is required to account for certain loan modifications or
restructuring as a "troubled debt restructuring." In general, the modification
or restructuring of a debt constitutes a troubled debt restructuring if the
Company for economic or legal reasons related to the borrower's financial
difficulties grants a concession to the borrower that the Company would not
otherwise consider. A debt restructuring or loan modification for a borrower
does not necessarily always constitute a troubled debt restructuring, however,
and a troubled debt restructuring does not necessarily result in a nonaccrual
loan. The Company had $423,000 of restructured loans as of September 30, 1999,
which consisted of four one- to four-family loans.
Asset Classification. The OTS has adopted various regulations regarding
problem assets of savings institutions. The regulations require that each
insured institution review and classify its assets on a regular basis. In
addition, in connection with examinations of insured institutions, OTS examiners
have authority to identify problem assets and, if appropriate, require them to
be classified. There are three classifications for problem assets:
substandard, doubtful and loss. Substandard assets have one or more defined
weaknesses and are characterized by the distinct possibility that the insured
institution will sustain some loss if the deficiencies are not corrected.
Doubtful assets have the weaknesses of substandard assets with the additional
characteristic that the weaknesses make collection or liquidation in full on the
basis of currently existing facts, conditions and values questionable, and there
is a high possibility of loss. An asset classified as loss is considered
uncollectible and of such little value that continuance as an asset of the
institution is not warranted. If an asset or portion thereof is classified as
loss, the insured institution establishes specific allowances for loan losses
for the full amount of the portion of the asset classified as loss. All or a
portion of general loan loss allowances established to cover possible losses
related to assets classified substandard or doubtful can be included in
determining an institution's regulatory capital, while specific valuation
allowances for loan losses generally do not qualify as regulatory capital.
Assets that do not currently expose the insured institution to sufficient risk
to warrant classification in one of the aforementioned categories but possess
weaknesses are designated "special mention" and monitored by the Company.
The following table sets forth the number and amount of classified loans by
loan category at September 30, 1999.
<TABLE>
<CAPTION>
Loss Doubtful Substandard
----------------------- ---------------------- --------------------------
Number Principal Number Principal Number Principal
of Loans Amount of Loans Amount of Loans Amount
-------- ------ -------- ------ --------- ------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Mortgage loans:
One- to four-family.................. -- $-- 2 $ 71 14 $484
Builder construction................. 1 10 2 102 1 8
Commercial loans..................... -- -- -- -- -- --
Savings account loans................... -- -- -- -- -- --
Home equity loans....................... -- -- -- -- -- --
Commercial loans........................ -- -- -- -- -- --
Consumer loans.......................... -- -- -- -- -- --
----- ----- ---- ---- ---- ----
Total............................. 1 $10 4 $173 15 $492
===== ===== ==== ==== ==== ====
</TABLE>
Allowance for Loan Losses. In originating loans, the Company recognizes
that losses will be experienced and that the risk of loss will vary with, among
other things, the type of loan being made, the creditworthiness of the borrower
over the term of the loan, general economic conditions and, in the case of a
secured loan, the quality of the security for the loan. The allowance method is
used in providing for loan losses. Accordingly, all loan losses are charged to
the allowance and all recoveries are credited to it. The allowance for loan
losses is established through a provision for loan losses charged to operations.
The provision for loan losses is based on management's periodic evaluation of
such factors as the delinquency status of loans, current economic conditions,
the net realizable value of the underlying collateral and prior loan loss
experience.
-10-
<PAGE>
At September 30, 1999, the Company had an allowance for loan losses of
$1,356,000. Although management believes that it uses the best information
available to establish the allowance for loan losses, future adjustments to the
allowance for loan losses may be necessary and results of operations could be
significantly and adversely affected if circumstances differ substantially from
the assumptions used in making the determinations. Furthermore, while the
Company believes it has established its existing allowance for loan losses in
accordance with GAAP, there can be no assurance that regulators, in reviewing
the Company's loan portfolio, will not request the Company to increase
significantly its allowance for loan losses. In addition, because future events
affecting borrowers and collateral cannot be predicted with certainty, there can
be no assurance that the existing allowance for loan losses is adequate or that
substantial increases will not be necessary should the quality of any loans
deteriorate as a result of the factors discussed above. Any material increase
in the allowance for loan losses may adversely affect the Company's financial
condition and results of operations.
-11-
<PAGE>
The following table sets forth an analysis of the Company's allowance for
loan losses.
<TABLE>
<CAPTION>
At or For the Year Ended September 30,
------------------------------------------------------------
1999 1998 1997 1996 1995
-------- -------- -------- -------- --------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Allowance at beginning of period............. $ 760 $ 874 $ 670 $ 590 $ 622
-------- -------- -------- -------- --------
Provision for loan losses (recovery of
allowance)................................ 596 (105) 337 (7) 47
-------- -------- -------- -------- --------
Recoveries:
Mortgage loans:
One- to four-family..................... -- -- -- -- --
Builder construction.................... -- -- -- -- --
Commercial.............................. -- -- -- 115 --
Savings account loans..................... -- -- -- -- --
Home equity loans......................... -- -- -- -- --
Commercial loans.......................... -- -- -- -- --
Consumer loans............................ -- -- -- -- --
-------- -------- -------- -------- --------
Total recoveries........................ -- -- -- 115 --
-------- -------- -------- -------- --------
Charge-offs:
Mortgage loans:
One- to four-family..................... -- -- -- 28 --
Builder construction.................... -- -- -- -- --
Commercial.............................. -- 9 133 -- 79
Savings account loans..................... -- -- -- -- --
Home equity loans......................... -- -- -- -- --
Commercial loans.......................... -- -- -- -- --
Consumer loans............................ -- -- -- -- --
-------- -------- -------- -------- --------
Total charge-offs....................... -- 9 133 28 79
-------- -------- -------- -------- --------
Net charge-offs......................... -- 9 133 (87) 79
-------- -------- -------- -------- --------
Balance at end of period................ $ 1,356 $ 760 $ 874 $ 670 $ 590
======== ======== ======== ======== ========
Allowance for loan losses as a
percentage of total loans outstanding
at end of the period....................... 0.46% 0.36% 0.44% 0.35% 0.32%
Net charge-offs (recoveries) as a
percentage of average loans
outstanding during the period.............. -- 0.01% 0.07% (0.05)% 0.05%
Allowance for loan losses as a
percentage of nonperforming loans
at end of period........................... 200.89% 96.57% 93.58% 65.24% 63.10%
</TABLE>
-12-
<PAGE>
The following table sets forth the breakdown of the allowance for loan losses
by loan category at the dates indicated. Management believes that the allowance
can be allocated by category only on an approximate basis. The allocation of the
allowance to each category is not necessarily indicative of future losses and
does not restrict the use of the allowance to absorb losses in any other
category.
<TABLE>
<CAPTION>
At September 30,
--------------------------------------------------------------------------------------------------
1999 1998 1997 1996
----------------------- ----------------------- ----------------------- -----------------------
Percent Percent Percent Percent
of Loans of Loans of Loans of Loans
in Category in Category in Category in Category
to Total to Total to Total to Total
Amount Loans Amount Loans Amount Loans Amount Loans
---------- ----------- ---------- ----------- ---------- ----------- ---------- -----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Mortgage loans:
One- to four-family........ $ 218 63.1% $ 298 81.9% $ 398 90.0% $ 340 90.4%
Builder construction....... 739 20.8 151 5.3 134 1.3 108 2.0
Commercial................. 316 11.2 228 6.8 334 4.0 218 3.3
Savings account loans........ 0 0.4 -- 0.5 -- 0.7 -- 0.6
Home equity loans............ 5 3.2 8 4.2 8 4.0 4 3.7
Commercial loans............. 74 1.2 75 1.3 -- -- -- --
Consumer loans............... 4 0.1 -- -- -- -- -- --
---------- ------ ---------- ------ ---------- ------ ---------- ------
Total allowance
for loan losses........ $ 1,356 100.0% $ 760 100.0% $ 874 100.0% $ 670 100.0%
========== ====== ========== ====== ========== ====== ========== ======
<CAPTION>
At September 30,
-----------------------
1995
-----------------------
Percent
of Loans
in Category
to Total
Amount Loans
---------- -----------
(Dollars in thousands)
<S> <C> <C>
Mortgage loans:
One- to four-family........ $ 434 90.2%
Builder construction....... 57 1.5
Commercial................. 86 4.1
Savings account loans........ -- 0.8
Home equity loans............ 13 3.4
Commercial loans............. -- --
Consumer loans............... -- --
---------- ------
Total allowance
for loan losses........ $ 590 100.0%
========== ======
</TABLE>
Investment Activities
The Bank is permitted under federal law to invest in various types of
liquid assets, including U.S. Government obligations, securities of various
federal agencies and of state and municipal governments, deposits at the FHLB-
Atlanta, certificates of deposit of federally insured institutions, certain
bankers' acceptances and federal funds. Subject to various restrictions, the
Bank may also invest a portion of its assets in commercial paper and corporate
debt securities. Savings institutions like the Bank are also required to
maintain an investment in FHLB stock. The Bank is required under federal
regulations to maintain a minimum amount of liquid assets.
SFAS No. 115, "Accounting for Certain Investments in Debt and Equity
Securities," requires that investments be categorized as "held to maturity,"
"trading securities" or "available for sale," based on management's intent as to
the ultimate disposition of each security. SFAS No. 115 allows debt securities
to be classified as "held to maturity" and reported in financial statements at
amortized cost only if the reporting entity has the positive intent and ability
to hold those securities to maturity. Securities that might be sold in response
to changes in market interest rates, changes in the security's prepayment risk,
increases in loan demand, or other similar factors cannot be classified as "held
to maturity." Debt and equity securities held for current resale are classified
as "trading securities." Such securities are reported at fair value, and
unrealized gains and losses on such securities would be included in earnings.
The Company does not currently use or maintain a trading account. Debt and
equity securities not classified as either "held to maturity" or "trading
securities" are classified as "available for sale." Such securities are reported
at fair value, and unrealized gains and losses on such securities are excluded
from earnings and reported as a net amount in a separate component of equity.
The Company's investment policies limit investments to obligations of the
U.S. Treasury and U.S. Government agencies, Federal Funds and overnight deposits
and mortgage-backed securities, such as those issued by Fannie Mae and Freddie
Mac. The Company's investment policy does not permit engaging directly in
hedging activities or purchasing high risk mortgage derivative products.
Investments are made based on certain considerations, which include the interest
rate, yield, settlement date and maturity of the investment, the Company's
liquidity position, and anticipated cash needs and sources (which, in turn,
include outstanding commitments, upcoming maturities, estimated deposits and
anticipated loan amortization and repayments). The effect that the proposed
investment would have on the Company's credit and interest rate risk and risk-
based capital is also considered.
The Company purchases investment securities to provide for necessary
liquidity for day-to-day operations. The Company also purchases investment
securities when investable funds exceed loan demand. In recent years, the
-13-
<PAGE>
Company's investment securities purchases have been limited to U.S. Treasury and
U.S. Government agency obligations.
The following table sets forth the amortized cost and fair value of the
Company's securities, by accounting classification and by type of security, at
the dates indicated.
<TABLE>
<CAPTION>
At September 30,
--------------------------------------------------------------------------
1999 1998 1997
---------------------- ---------------------- ----------------------
Amortized Fair Amortized Fair Amortized Fair
Cost Value Cost Value Cost Value
--------- --------- --------- --------- --------- ---------
(In thousands)
<S> <C> <C> <C> <C> <C> <C>
Available for sale:
Investment securities:
U.S. Treasury obligations......... $ 500 $ 500 $ 1,506 $ 1,515 $ 2,010 $ 2,008
U.S. Government agency
obligations.................... 21,999 21,757 2,000 2,009 3,996 3,976
Freddie Mac common stock............. 57 3,549 57 3,374 57 2,406
--------- --------- --------- --------- --------- ---------
Total available for sale....... 22,556 25,806 3,563 6,898 6,063 8,390
--------- --------- --------- --------- --------- ---------
Held to maturity:
Investment securities:
U.S. Government agency
obligations.................... 3,499 3,480 17,112 17,208 15,988 15,954
Mortgage-backed securities:
Fannie Mae........................ 328 325 553 554 788 781
Freddie Mac....................... -- -- 1,142 1,137 5,877 5,854
Ginnie Mae........................ 9,819 9,900 -- -- -- --
--------- --------- --------- --------- --------- ---------
Total held to maturity......... 13,646 13,705 18,807 18,899 22,653 22,589
--------- --------- --------- --------- --------- ---------
Total................ $ 36,202 $ 39,511 $ 22,370 $ 25,797 $ 28,716 $ 30,979
========= ========= ========= ========= ========= =========
</TABLE>
-14-
<PAGE>
The following table sets forth certain information regarding the carrying
value, weighted average yields and maturities or periods to repricing of the
Company's debt securities and mortgage-backed securities at September 30, 1999.
U.S. Treasury obligations and certain U.S. Government agency obligations are
exempt from state taxation. Their yields, however, have not been computed on a
tax equivalent basis for purposes of the table.
<TABLE>
<CAPTION>
Less Than One Year One to Five Years Five Years or More
---------------------- ---------------------- ----------------------
Weighted Weighted Weighted
Amortized Average Amortized Average Amortized Average
Cost Yield Cost Yield Cost Yield
--------- --------- --------- --------- --------- ---------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Available for sale:
Investment securities:
U.S. Treasury obligations....... $ 500 7.50% $ -- --% $ -- --%
U.S. Government agency
obligations.................. -- -- 20,999 5.96 1,000 7.33
--------- --------- ---------
Total available for sale..... 500 7.50 20,999 5.96 1,000 --
--------- --------- ---------
Held to maturity:
Investment securities:
U.S. Government agency
obligations.................. -- -- 3,499 6.10 -- --
Mortgage-backed securities:
Fannie Mae...................... -- -- 328 5.53 -- --
Ginnie Mae...................... -- -- -- -- 9,819 7.50
--------- --------- ---------
Total held to maturity....... -- -- 3,827 6.05 9,819 7.50
--------- --------- ---------
Total........................ $ 500 7.50% $ 24,826 5.75% $ 10,819 7.48%
========= ========= =========
</TABLE>
Deposit Activities and Other Sources of Funds
General. Deposits are the major external source of funds for the Company's
lending and other investment activities. In addition, the Company also generates
funds internally from loan principal repayments and prepayments and maturing
investment and mortgage-backed securities. Scheduled loan repayments are a
relatively stable source of funds, while deposit inflows and outflows and loan
prepayments are influenced significantly by general interest rates and money
market conditions. Borrowings from the FHLB-Atlanta may be used to compensate
for reductions in the availability of funds from other sources. Presently, the
Company has no other borrowing arrangements.
Deposit Accounts. A substantial number of the Company's depositors reside
in South Carolina. The Company's deposit products include NOW accounts, money
market accounts, regular passbook savings and term certificate accounts. Deposit
account terms vary with the principal difference being the minimum balance
deposit, early withdrawal penalties and the interest rate. The Company reviews
its deposit mix and pricing weekly. The Company does not utilize brokered
deposits, nor has it aggressively sought jumbo certificates of deposit. To
attract larger deposits, from time to time the Company has paid bonus rates on
large deposits.
The Company believes it is competitive in the interest rates it offers on
its deposit products. The Company does not seek to pay the highest deposit rates
but competitive rates. The Company determines the rates paid based on a number
of conditions, including rates paid by competitors, the Company's interest rate
spread, loan demand and deposit balances.
-15-
<PAGE>
The following table indicates the amount of the Company's jumbo certificate
accounts by time remaining until maturity as of September 30, 1999. Jumbo
certificate accounts have principal balances of $100,000 or more.
Jumbo
Certificate
Maturity Period Accounts
--------------- --------------
(In thousands)
Three months or less.................................... $17,657
Over three months through six months.................... 15,731
Over six months through 12 months....................... 12,979
Over 12 months.......................................... 15,145
-------
Total............................................. $61,512
=======
The following table sets forth the balances (inclusive of interest
credited) and changes in dollar amounts of deposits in the various types of
accounts offered by the Company between the dates indicated.
<TABLE>
<CAPTION>
At September 30,
----------------------------------------------------------------------------------------------
1999 1998 1997
---------------------------------- ---------------------------------- ----------------------
Increase Increase
Amount Percent (Decrease) Amount Percent (Decrease) Amount Percent
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Passbook accounts.................... $ 9,589 4.6% $ (357) $ 9,946 4.8% $ (1,477) $ 11,423 5.3%
NOW and money market accounts........ 14,761 7.2 11,306 3,455 1.7 (317) 3,772 1.7
Fixed-rate certificate accounts
which mature in the year ending:
Within 1 year..................... 137,618 66.7 4,417 133,201 64.6 (15,658) 148,859 69.1
After 1 year, but within 2 years.. 41,039 19.9 (12,751) 53,790 26.1 12,506 41,284 19.2
After 2 years, but within 5 years. 3,375 1.6 (2,337) 5,712 2.8 (4,362) 10,074 4.7
---------- ------ ---------- ---------- ------ ---------- ---------- ------
Total....................... $ 206,382 100.0% $ 278 $ 206,104 100.0% $ (9,308) $ 215,412 100.0%
========== ====== ========== ========== ====== ========== ========== ======
</TABLE>
The following table sets forth the amount of time deposits in the Company
categorized by rates at the dates indicated.
<TABLE>
<CAPTION>
At September 30,
------------------------------
1999 1998 1997
-------- -------- --------
(Dollars in thousands)
<S> <C> <C> <C>
2.01 - 3.00%............................ $ 1,131 $ -- $ --
3.01 - 4.00%............................ 347 5,198 5,575
4.01 - 5.00%............................ 70,718 2,338 1,218
5.01 - 6.00%............................ 96,210 137,246 95,528
6.01 - 7.00%............................ 12,693 46,895 92,245
7.01 - 8.00%............................ 933 1,026 5,651
-------- -------- --------
Total.......................... $182,032 $192,703 $200,217
======== ======== ========
</TABLE>
-16-
<PAGE>
The following table sets forth the amount of time deposits in the Company
categorized by maturities at September 30, 1999.
<TABLE>
<CAPTION>
Amount Due
------------------------------------------------------------------------------------
Less Than 1 - 2 2 - 3 3 - 4 After
One Year Years Years Years 4 Years Total
--------- --------- --------- --------- --------- ---------
(In thousands)
<S> <C> <C> <C> <C> <C> <C>
2.01 - 3.00%.............. $ 1,131 $ -- $ -- $ -- $ -- $ 1,131
3.01 - 4.00%.............. 347 -- -- -- -- 347
4.01 - 5.00%.............. 51,467 18,025 830 284 112 70,718
5.01 - 6.00%.............. 72,821 21,833 1,303 130 123 96,210
6.01 - 7.00%.............. 10,919 1,181 593 -- -- 12,693
7.01 - 8.00%.............. 933 -- -- -- -- 933
--------- --------- --------- --------- --------- ---------
Total................ $ 137,618 $ 41,039 $ 2,726 $ 414 $ 235 $ 182,032
========= ========= ========= ========= ========= =========
</TABLE>
The following table sets forth the deposit activity of the Company for the
periods indicated.
<TABLE>
<CAPTION>
Year Ended September 30,
--------------------------------
1999 1998 1997
-------- -------- --------
(In thousands)
<S> <C> <C> <C>
Beginning balance................................ $206,104 $215,412 $209,730
-------- -------- --------
Net deposits (withdrawals) before
interest credited............................. (8,730) (18,893) (3,430)
Interest credited................................ 9,008 9,585 9,112
-------- -------- --------
Net increase (decrease) in deposits.............. 278 (9,308) 5,682
-------- -------- --------
Ending balance................................... $206,382 $206,104 $215,412
======== ======== ========
</TABLE>
Borrowings. The Bank has the ability to use advances from the FHLB-Atlanta
to supplement its supply of lendable funds and to meet deposit withdrawal
requirements. The FHLB-Atlanta functions as a central reserve bank providing
credit for savings associations and certain other member financial institutions.
As a member of the FHLB-Atlanta, the Bank is required to own capital stock in
the FHLB-Atlanta and is authorized to apply for advances on the security of such
stock and certain of its mortgage loans and other assets (principally securities
that are obligations of, or guaranteed by, the U.S. Government or agencies
thereof), provided certain creditworthiness standards have been met. Advances
are made pursuant to several different credit programs. Each credit program has
its own interest rate and range of maturities. Depending on the program,
limitations on the amount of advances are based on the financial condition of
the member institution and the adequacy of collateral pledged to secure the
credit.
See Note 7 of Notes to the Consolidated Financial Statements for further
information on the Bank's borrowings.
Subsidiary Activities
The only subsidiary of the Company is the Bank. Under OTS regulations, the
Bank generally may invest up to 3% of its assets in service corporations,
provided that at least one-half of investment in excess of 1% is used primarily
for community, inner-city and community development projects. The Bank does not
have any subsidiaries.
Personnel
As of September 30, 1999, the Company had 37 full-time and 4 part-time
employees, none of whom is represented by a collective bargaining unit. The
Company believes its relationship with its employees is good.
REGULATION AND SUPERVISION
-17-
<PAGE>
General
As a savings and loan holding company, the Company is required by federal
law to file reports with, and otherwise comply with, the rules and regulations
of the OTS. The Bank is subject to extensive regulation, examination and
supervision by the OTS, as its primary federal regulator, and the FDIC, as the
deposit insurer. The Bank is a member of the FHLB-Atlanta and its deposit
accounts are insured up to applicable limits by the SAIF managed by the FDIC.
The Bank must file reports with the OTS and the FDIC concerning its activities
and financial condition in addition to obtaining regulatory approvals prior to
entering into certain transactions such as mergers with, or acquisitions of,
other savings institutions. The OTS and/or the FDIC conduct periodic
examinations to test the Bank's safety and soundness and compliance with various
regulatory requirements. This regulation and supervision establishes a
comprehensive framework of activities in which an institution can engage and is
intended primarily for the protection of the insurance fund and depositors. The
regulatory structure also gives the regulatory authorities extensive discretion
in connection with their supervisory and enforcement activities and examination
policies, including policies with respect to the classification of assets and
the establishment of adequate loan loss reserves for regulatory purposes. Any
change in such regulatory requirements and policies, whether by the OTS, the
FDIC or the Congress, could have a material adverse impact on the Company, the
Bank and their operations. Certain of the regulatory requirements applicable to
the Bank and to the Company are referred to below or elsewhere herein. The
description of statutory provisions and regulations applicable to savings
institutions and their holding companies set forth in this report does not
purport to be a complete description of such statutes and regulations and their
effects on the Company and the Bank.
Holding Company Regulation
The Company is a nondiversified unitary savings and loan holding company
within the meaning of federal law. As a unitary savings and loan holding
company, the Company generally is not restricted under existing laws as to the
types of business activities in which it may engage, provided that the Bank
continues to be a qualified thrift lender. See "Regulation and Supervision--QTL
Test." Upon any non-supervisory acquisition by the Company of another savings
institution or savings bank that meets the qualified thrift lender test and is
deemed to be a savings institution by the OTS, the Company would become a
multiple savings and loan holding company (if the acquired institution is held
as a separate subsidiary) and generally would be limited to activities
permissible for bank holding companies under Section 4(c)(8) of the Bank Holding
Company Act, subject to the prior approval of the OTS, and certain activities
authorized by OTS regulation.
A savings and loan holding company is prohibited from, directly or
indirectly, acquiring more than 5% of the voting stock of another savings
institution or savings and loan holding company, without prior written approval
of the OTS and from acquiring or retaining control of a depository institution
that is not insured by the FDIC. In evaluating applications by holding companies
to acquire savings institutions, the OTS considers the financial and managerial
resources and future prospects of the Bank and institution involved, the effect
of the acquisition on the risk to the deposit insurance funds, the convenience
and needs of the community and competitive factors.
The OTS may not approve any acquisition that would result in a multiple
savings and loan holding company controlling savings institutions in more than
one state, subject to two exceptions: (1) the approval of interstate supervisory
acquisitions by savings and loan holding companies and (2) the acquisition of a
savings institution in another state if the laws of the state of the target
savings institution specifically permit such acquisitions. The states vary in
the extent to which they permit interstate savings and loan holding company
acquisitions.
Although savings and loan holding companies are not subject to specific
capital requirements or specific restrictions on the payment of dividends or
other capital distributions, federal regulations do prescribe such restrictions
on subsidiary savings institutions as described below. The Bank must notify the
OTS 30 days before declaring any dividend to the Company. In addition, the
financial impact of a holding company on its subsidiary institution is a matter
that is evaluated by the OTS and the agency has authority to order cessation of
activities or divestiture of subsidiaries deemed to pose a threat to the safety
and soundness of the institution.
-18-
<PAGE>
Prior approval of the OTS is necessary before a "change in control" occurs
in a savings and loan holding company such as the Company. A "change in control"
may occur upon a person or entity's acquisition (alone or acting in concert) of
10% or more of the Company's stock.
Federal Savings Institution Regulation
Business Activities. The activities of federal savings institutions are
governed by federal law and regulations. These laws and regulations delineate
the nature and extent of the activities in which federal associations may
engage. In particular, many types of lending authority for federal associations,
e.g., commercial, non-residential real property loans and consumer loans, are
limited to a specified percentage of the institution's capital or assets. In
addition, certain activities, such as mergers and acquisitions, and branching,
are subject to the pri or approval of the OTS.
Capital Requirements. The OTS capital regulations require savings
institutions to meet three minimum capital standards: a 1.5% tangible capital
ratio, a 4% (3% for institutions receiving the highest rating on the CAMELS
financial institution examination rating system) leverage ratio and an 8% risk-
based capital ratio. In addition, the prompt corrective action standards
discussed below also establish, in effect, a minimum 2% tangible capital
standard, a 4% leverage ratio (3% for institutions receiving the highest rating
on the CAMELS financial institution rating system), and, together with the risk-
based capital standard itself, a 4% Tier I risk-based capital standard. The OTS
regulations also require that, in meeting the tangible, leverage and risk-based
capital standards, institutions generally must deduct investments in and loans
to subsidiaries engaged in activities as principal that are not permissible for
a national bank.
The risk-based capital standard for savings institutions requires the
maintenance of Tier I (core) and total capital (which is defined as core capital
and supplementary capital) to risk-weighted assets of at least 4% and 8%,
respectively. In determining the amount of risk-weighted assets, all assets,
including certain off-balance sheet assets, are multiplied by a risk-weight
factor of 0% to 100%, assigned by the OTS capital regulation based on the risks
believed inherent in the type of asset. Tier I (core) capital is defined as
common stockholders' equity (including retained earnings), certain noncumulative
perpetual preferred stock and related surplus, and minority interests in equity
accounts of consolidated subsidiaries less intangibles other than certain
mortgage servicing rights and credit card relationships. The components of
supplementary capital currently include cumulative preferred stock, long-term
perpetual preferred stock, mandatory convertible securities, subordinated debt
and intermediate preferred stock, the allowance for loan and lease losses
limited to a maximum of 1.25% of risk-weighted assets and up to 45% of
unrealized gains on available-for-sale equity securities with readily
determinable fair values. Overall, the amount of supplementary capital included
as part of total capital cannot exceed 100% of core capital.
The capital regulations also incorporate an interest rate risk component.
Savings institutions with "above normal" interest rate risk exposure are subject
to a deduction from total capital for purposes of calculating their risk-based
capital requirements. For the present time, the OTS has deferred implementation
of the interest rate risk component. At September 30, 1999, the Bank met each of
its mandated capital requirements.
-19-
<PAGE>
The following table presents the Bank's capital position at September 30,
1999.
<TABLE>
<CAPTION>
Capital
Excess --------------------------
Actual Required (Deficiency) Actual Required
Capital Capital Amount Percent Percent
----------- ----------- ----------- ----------- -----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Tangible............. $ 63,404 $ 4,675 $ 58,729 20.3% 1.5%
Core (Leverage)...... 63,404 9,350 54,054 20.3 3.0
Risk-based........... 64,749 14,598 50,151 35.5 8.0
</TABLE>
Prompt Corrective Regulatory Action. The OTS is required to take certain
supervisory actions against undercapitalized institutions, the severity of which
depends upon the institution's degree of undercapitalization. Generally, a
savings institution that has a ratio of total capital to risk-weighted assets of
less than 8%, a ratio of Tier I (core) capital to risk-weighted assets of less
than 4%, or a ratio of core capital to total assets of less than 4% (3% or less
for institutions with the highest examination rating) is considered to be
"undercapitalized." A savings institution that has a total risk-based capital
ratio less than 6%, a Tier I capital ratio of less than 3% or a leverage ratio
that is less than 3% is considered to be "significantly undercapitalized" and a
savings institution that has a tangible capital to assets ratio equal to or less
than 2% is deemed to be "critically undercapitalized." Subject to a narrow
exception, the OTS is required to appoint a receiver or conservator for an
institution that is "critically undercapitalized." The regulation also provides
that a capital restoration plan must be filed with the OTS within 45 days of the
date a savings institution receives notice that it is "undercapitalized,"
"significantly undercapitalized" or "critically undercapitalized." Compliance
with the plan must be guaranteed by any parent holding company in an amount of
up to the lesser of 5% of the institution's assets or the amount which would
bring the institution into compliance with all capital standards. In addition,
numerous mandatory supervisory actions become immediately applicable to an
undercapitalized institution, including, but not limited to, increased
monitoring by regulators and restrictions on growth, capital distributions and
expansion. The OTS also could take any one of a number of discretionary
supervisory actions, including the issuance of a capital directive and the
replacement of senior executive officers and directors.
Insurance of Deposit Accounts. Deposits of the Bank presently are insured
by the SAIF. The FDIC maintains a risk-based assessment system by which
institutions are assigned to one of three categories based on their
capitalization and one of three subcategories based on examination ratings and
other supervisory information. An institution's assessment rate depends upon the
categories to which it is assigned. Assessment rates for SAIF member
institutions are determined semiannually by the FDIC and currently range from
zero basis points for the healthiest institutions to 27 basis points for the
riskiest.
In addition to the assessment for deposit insurance, institutions are
required to make payments on bonds issued in the late 1980s by the Financing
Corporation ("FICO") to recapitalize the predecessor to the SAIF. During 1999,
FICO payments for SAIF members, including the Bank, approximated 6.10 basis
points, while Bank Insurance Fund ("BIF") members paid 1.22 basis points. By
law, there will be equal sharing of FICO payments between SAIF and BIF members
beginning on January 1, 2000.
The FDIC has authority to increase insurance assessments. A significant
increase in SAIF insurance premiums would likely have an adverse effect on the
operating expenses and results of operations of the Bank. Management cannot
predict what insurance assessment rates will be in the future.
Insurance of deposits may be terminated by the FDIC upon a finding that the
institution has engaged in unsafe or unsound practices, is in an unsafe or
unsound condition to continue operations or has violated any applicable law,
regulation, rule, order or condition imposed by the FDIC or the OTS. The
management of the Bank does not know of any practice, condition or violation
that might lead to its termination of deposit insurance.
Loans to One Borrower. Federal law provides that savings institutions are
generally subject to the limits on loans to one borrower applicable to national
banks. A savings institution may not make a loan or extend credit to a
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<PAGE>
single or related group of borrowers in excess of 15% of its unimpaired capital
and surplus. An additional amount may be lent, equal to 10% of unimpaired
capital and surplus, if secured by specified readily-marketable collateral. At
September 30, 1999, the Bank's limit on loans to one borrower was $9.7 million,
and the Bank's largest aggregate outstanding balance of loans to one borrower
was $6 million.
QTL Test. Federal law requires savings institutions to meet a qualified
thrift lender test. Under the test, a savings association is required to either
qualify as a "domestic building and loan association" under the Internal Revenue
Code or maintain at least 65% of its "portfolio assets" (total assets less: (1)
specified liquid assets up to 20% of total assets; (2) intangibles, including
goodwill; and (3) the value of property used to conduct business) in certain
"qualified thrift investments" (primarily residential mortgages and related
investments, including certain mortgage-backed securities) in at least nine
months out of each 12 month period.
A savings institution that fails the qualified thrift lender test is
subject to certain operating restrictions and may be required to convert to a
bank charter. As of September 30, 1999, the Bank met the qualified thrift lender
test. Recent legislation has expanded the extent to which education loans,
credit card loans and small business loans may be considered "qualified thrift
investments."
Limitation on Capital Distributions. OTS regulations impose limitations
upon all capital distributions by a savings institution, including cash
dividends, payments to repurchase its shares and payments to shareholders of
another institution in a cash-out merger. The rule effective in 1998 established
three tiers of institutions based primarily on an institution's capital level.
An institution that exceeded all capital requirements before and after a
proposed capital distribution ("Tier I Bank") and had not been advised by the
OTS that it was in need of more than normal supervision, could, after prior
notice but without obtaining approval of the OTS, make capital distributions
during the calendar year equal to the greater of (1) 100% of its net earnings to
date during the calendar year plus the amount that would reduce by one-half the
excess capital over its capital requirements at the beginning of the calendar
year or (2) 75% of its net income for the previous four quarters. Any additional
capital distributions required prior regulatory approval. At June 30, 1999, the
Bank was a Tier I Bank. Effective April 1, 1999, the OTS's capital distribution
regulation changed. Under the new regulation, an application to and the prior
approval of the OTS will be required prior to any capital distribution if the
institution does not meet the criteria for "expedited treatment" of applications
under OTS regulations (i.e., generally, safety and soundness, compliance and
Community Reinvestment Act examination ratings in the two top categories), the
total capital distributions for the calendar year exceed net income for that
year plus the amount of retained net income for the preceding two years, the
institution would be undercapitalized following the distribution or the
distribution would otherwise be contrary to a statute, regulation or agreement
with OTS. If an application is not required, the institution must still provide
prior notice to OTS of the capital distribution. In the event the Bank's capital
fell below its regulatory requirements or the OTS notified it that it was in
need of more than normal supervision, the Bank's ability to make capital
distributions could be restricted. In addition, the OTS could prohibit a
proposed capital distribution by any institution, which would otherwise be
permitted by the regulation, if the OTS determines that such distribution would
constitute an unsafe or unsound practice.
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 of its net withdrawable deposit accounts plus short-term borrowings.
This liquidity requirement is currently 4%, but may be changed from time to time
by the OTS to any amount within the range of 4% to 10%. Monetary penalties may
be imposed for failure to meet these liquidity requirements. The Bank has never
been subject to monetary penalties for failure to meet its liquidity
requirements.
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<PAGE>
Assessments. Savings institutions are required to pay assessments to the
OTS to fund the agency's operations. The general assessments, paid on a semi-
annual basis, are computed upon the savings institution's total assets,
including consolidated subsidiaries, as reported in the Bank's latest quarterly
thrift financial report.
Transactions with Related Parties. The Bank's authority to engage in
transactions with "affiliates" (e.g., any company that controls or is under
common control with an institution, including the Bank and its non-savings
institution subsidiaries) is limited by federal law. The aggregate amount of
covered transactions with any individual affiliate is limited to 10% of the
capital and surplus of the savings institution. The aggregate amount of covered
transactions with all affiliates is limited 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 federal law. The
purchase of low quality assets from affiliates is generally prohibited. The
transactions with affiliates must be on terms and under circumstances that are
at least as favorable to the institution as those prevailing at the time for
comparable transactions with non-affiliated companies. In addition, savings
institutions are prohibited from lending to any affiliate that is engaged in
activities that are not permissible for bank holding companies and 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 ("insiders"), as well as entities such persons control, is also
governed by federal law. Such loans are required to be made on terms
substantially the same as those offered to unaffiliated individuals and not
involve more than the normal risk of repayment. Recent legislation created an
exception for loans made pursuant to a benefit or compensation program that is
widely available to all employees of the institution and does not give
preference to insiders over other employees. The law limits both the individual
and aggregate amount of loans the Bank may make to insiders based, in part, on
the Bank's capital position and requires certain board approval procedures to be
followed.
Enforcement. The OTS has primary enforcement responsibility over savings
institutions and has the authority to bring actions against the institution and
all institution-affiliated parties, including stockholders, 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 and/or directors to institution of
receivership, conservatorship or termination of deposit insurance. Civil
penalties cover a wide range of violations and can amount to $25,000 per day, or
even $1 million per day in especially egregious cases. 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 law also establishes criminal penalties for certain
violations.
Standards for Safety and Soundness. The federal banking agencies have
adopted Interagency Guidelines prescribing Standards for Safety and Soundness.
The guidelines set forth the safety and soundness standards that the federal
banking agencies use to identify and address problems at insured depository
institutions before capital becomes impaired. If the OTS determines that a
savings institution fails to meet any standard prescribed by the guidelines, the
OTS may require the institution to submit an acceptable plan to achieve
compliance with the standard.
Federal Home Loan Bank System
The Bank is a member of the FHLB System, which consists of 12 regional
FHLBs. The FHLB-Atlanta provides a central credit facility primarily for member
institutions. The Bank, as a member of the FHLB-Atlanta, is required to acquire
and hold shares of capital stock in the FHLB-Atlanta in an amount at least equal
to 1.0% of the aggregate principal amount of its unpaid residential mortgage
loans and similar obligations at the beginning of each year, or 1/20 of its
advances (borrowings) from the FHLB-Atlanta, whichever is greater. The Bank was
in compliance with this requirement with an investment in FHLB-Atlanta stock at
September 30, 1999, of $1.7 million. FHLB-Atlanta 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 FHLBs are required to provide funds for the resolution of insolvent
thrifts and to contribute funds for affordable housing programs. These
requirements could reduce the amount of dividends that the FHLBs pay to their
members and could also result in the FHLBs imposing a higher rate of interest on
advances to their members.
-22-
<PAGE>
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 regulations generally provide
that reserves be maintained against aggregate transaction accounts as follows:
for accounts aggregating $46.5 million or less (subject to adjustment by the
Federal Reserve Board), the reserve requirement is 3%; and for accounts
aggregating greater than $46.5 million, the reserve requirement is $1.395
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 $46.5
million. The first $4.9 million of otherwise reservable balances (subject to
adjustments by the Federal Reserve Board) are exempted from the reserve
requirements. The Bank complies with the foregoing requirements.
TAXATION
Federal Taxation
General. The Company and the Bank report their income on a fiscal year,
consolidated basis and the accrual method of accounting, and are subject to
federal income taxation in the same manner as other corporations with some
exceptions, including particularly the Bank's reserve for bad debts discussed
below. The following discussion of tax matters is intended only as a summary and
does not purport to be a comprehensive description of the tax rules applicable
to the Company or the Bank. For its 1999 taxable year, the Company is subject to
a maximum federal income tax rate of 34%.
Bad Debt Reserves. For fiscal years beginning prior to December 31, 1995,
thrift institutions which qualified under certain definitional tests and other
conditions of the Internal Revenue Code were permitted to use certain favorable
provisions to calculate their deductions from taxable income for annual
additions to their bad debt reserve. A reserve could be established for bad
debts on qualifying real property loans (generally secured by interests in real
property improved or to be improved) under (i) the percentage of taxable income
method or (ii) the experience method. The reserve for nonqualifying loans was
computed using the experience method.
Congress repealed the reserve method of accounting for bad debts for tax
years beginning after 1995 and required savings institutions to recapture (i.e.,
take into income) certain portions of their accumulated bad debt reserves.
Thrift institutions eligible to be treated as "small banks" (assets of $500
million or less) are allowed to use the experience method applicable to such
institutions, while thrift institutions that are treated as large banks (assets
exceeding $500 million) are required to use only the specific charge-off method.
Thus, the percentage of taxable income method of accounting for bad debts is no
longer available for any financial institution.
A thrift institution required to change its method of computing reserves
for bad debts will treat such change as a change in method of accounting,
initiated by the taxpayer, and having been made with the consent of the Internal
Revenue Service. Any Section 481(a) adjustment required to be taken into income
with respect to such change generally will be taken into income ratably over a
six-taxable year period, beginning with the first taxable year beginning after
1995, subject to a 2-year suspension if the "residential loan requirement" is
satisfied.
Under the residential loan requirement provision, the required recapture
will be suspended for each of two successive taxable years, beginning with the
Bank's 1996 taxable year, in which the Bank originates a minimum of certain
residential loans based upon the average of the principal amounts of such loans
made by the Bank during its six taxable years preceding its current taxable
year.
Distributions. If the Bank makes "non-dividend distributions" to the
Company, such distributions will be considered to have been made from the Bank's
unrecaptured tax bad debt reserves (including the balance of its reserves as of
December 31, 1987) to the extent thereof, and then from the Bank's supplemental
reserve for losses on loans, to the extent thereof, and an amount based on the
amount distributed (but not in excess of the amount of such reserves) will be
included in the Bank's income. Non-dividend distributions include distributions
in excess of the Bank's current and accumulated earnings and profits, as
calculated for federal income tax purposes, distributions in redemption of
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<PAGE>
stock, and distributions in partial or complete liquidation. Dividends paid out
of the Bank's current or accumulated earnings and profits will not be so
included in its income.
The amount of additional taxable income triggered by a non-dividend is an
amount that, when reduced by the tax attributable to the income, is equal to the
amount of the distribution. Thus, if the Bank makes a non-dividend distribution
to the Company, approximately one and one-half times the amount of such
distribution (but not in excess of the amount of such reserves) would be
includable in income for federal income tax purposes, assuming a 35% federal
corporate income tax rate. The Bank does not intend to pay dividends that would
result in a recapture of any portion of its bad debt reserves.
State Taxation
Delaware. As a Delaware holding company not earning income in Delaware, the
Company is exempted from Delaware corporate income tax, but is required to file
an annual report with and pay an annual franchise tax to the State of Delaware.
South Carolina. The provisions of South Carolina tax law mirror the
Internal Revenue Code, with certain modifications, as it relates to savings and
loans and banks. The Bank is subject to South Carolina income tax at the rate of
6%. This rate of tax is imposed on savings banks in lieu of the general state
business corporation income tax. The Bank's state income tax returns have not
been audited within the last five years.
For additional information regarding taxation, see Note 8 of Notes to
Consolidated Financial Statements contained in this report.
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<PAGE>
Item 2. Properties
- -------------------
At September 30, 1999, the net book value of the Company's properties
(including land and buildings), fixtures, furniture and equipment was $4.0
million. The following table sets forth certain information regarding the
Company's offices at September 30, 1999, all of which are owned.
<TABLE>
<CAPTION>
Year Approximate
Location Opened Square Footage Deposits
- --------- -------- -------------- -------------
(In thousands)
<S> <C> <C> <C>
Main Office 1995(1) 24,500 $97,413
201 West Main Street
Laurens, SC 29360
Belton Office 1962 1,800 62,139
208 Anderson Street
Belton, SC 29627
Ware Shoals Office 1968 1,444 21,618
81 North Greenwood Avenue
Ware Shoals, SC 29692
Simpsonville Office 1977 3,668 25,212
514 North Main Street
Simpsonville, SC 29681
</TABLE>
___________________________
(1) The Bank occupied a smaller facility at the same location from 1955 to 1995.
Item 3. Legal Proceedings
- --------------------------
Periodically, there have been various claims and lawsuits involving the
Bank, such as claims to enforce liens, condemnation proceedings on properties in
which the Bank holds security interests, claims involving the making and
servicing of real property loans and other issues incident to the Bank's
business. Neither the Company nor the Bank is a party to any pending legal
proceedings that it believes would have a material adverse effect on the
financial condition or operations of the Company.
Item 4. Submission of Matters to a Vote of Security Holders
- ------------------------------------------------------------
No matters were submitted to a vote of security holders during the fourth
quarter of the fiscal year ended September 30, 1999.
-25-
<PAGE>
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
- -----------------------------------------------------------------------------
The Company's common stock has been listed on the Nasdaq National Market
since the Company's initial public offering on April 7, 1998. According to the
records of the Company's transfer agent, the Company had approximately 1,300
stockholders of record as of December 6, 1999. This number does not reflect
stockholders who hold their shares in "street name." The following table sets
forth the high and low sale price of the Company's common stock and dividends
paid in each fiscal quarter since the Company's initial public offering.
High Low Dividend
-------- ------- --------
Fiscal 1999:
Fourth Quarter............. $17.500 $16.750 0.15
Third Quarter.............. $22.875 $16.250 4.00
Second Quarter............. $22.500 $20.000 0.15
First Quarter.............. $21.375 $12.500 --
High Low Dividend
-------- ------- --------
Fiscal 1998:
Fourth Quarter............. $20.000 $16.125 0.15
Third Quarter.............. $22.375 $19.000 --
Item 6. Selected Financial Data
- -------------------------------
<TABLE>
<CAPTION>
At September 30,
-----------------------------------------------------------------------
1999 1998 1997 1996 1995
----------- ----------- ----------- ----------- -----------
(In thousands)
<S> <C> <C> <C> <C> <C>
Selected Balance Sheet Data:
Total assets................................ $ 313,717 $ 304,921 $ 247,499 $ 244,659 $ 233,780
Investment securities....................... 29,305 24,010 24,378 37,892 29,823
Mortgage-backed securities.................. 10,147 1,695 6,665 9,726 11,989
Loans receivable, net....................... 252,014 196,789 192,663 182,950 178,259
Loans held for sale......................... 777 849 1,045 -- --
Deposit accounts............................ 206,382 206,104 215,412 209,730 201,473
FHLB advances............................... 30,000 -- -- 5,000 5,000
Total equity................................ 74,582 95,330 29,235 26,740 25,692
</TABLE>
-26-
<PAGE>
<TABLE>
<CAPTION>
For the Years Ended September 30,
--------------------------------------------------------------------
1999 1998 1997 1996 1995
-------- -------- -------- -------- --------
(In thousands, except per share data)
<S> <C> <C> <C> <C> <C>
Selected Operating Data:
Interest income............................ $ 21,588 $ 19,880 $ 17,773 $ 16,974 $ 16,164
Interest expense........................... 11,000 12,010 12,230 12,212 10,431
-------- -------- -------- -------- --------
Net interest income........................ 10,588 7,870 5,543 4,762 5,733
Provision for loan losses (recovery of
allowance).............................. 596 (105) 337 (7) 47
-------- -------- -------- -------- --------
Net interest income after provision for
loan losses............................. 9,992 7,975 5,206 4,769 5,686
-------- -------- -------- -------- --------
Other income............................... 212 246 202 227 218
Other operating expenses................... 5,817 (1) 2,857 2,362 3,877 (2) 2,379
-------- -------- -------- -------- --------
Income before income taxes................. 4,387 5,364 3,046 1,119 3,525
Provision for income taxes................. 2,031 1,929 1,094 360 1,546
-------- -------- -------- -------- --------
Net income................................. $ 2,356 $ 3,435 $ 1,952 $ 759 $ 1,979
======== ======== ======== ======== ========
Per Share Data:
Basic earnings (3)....................... $ 0.56 $ 0.53 N/A N/A N/A
Diluted earnings (3)..................... $ 0.56 $ 0.53 N/A N/A N/A
Cash dividends declared.................. $ 0.30 $ 0.15 N/A N/A N/A
Cash distribution........................ $ 4.00 N/A N/A N/A N/A
</TABLE>
__________________________
(1) Includes a $1.9 million compensation charge related to the $4.00 per share
cash distribution.
(2) Includes one-time SAIF assessment of $1.2 million.
(3) As the Company's initial public offering closed on April 6, 1998, earnings
per share for all fiscal years prior to September 30, 1998 are not
presented. Earnings per share for the year ended September 30, 1998 have
been calculated based on net income and average outstanding shares for the
period April 1, 1998 through September 30, 1998.
-27-
<PAGE>
<TABLE>
<CAPTION>
At or For the Years Ended September 30,
---------------------------------------------------
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Selected Financial Ratios:
Performance Ratios:
Return on average assets (1)....................... 0.79% 1.22% 0.80% 0.32% 0.87%
Return on average equity (2)....................... 2.64 6.82 6.93 2.87 8.08
Average equity as a percent of average
assets.......................................... 29.71 17.97 11.49 10.99 10.79
Interest rate spread (3)........................... 2.07 1.96 1.76 1.51 2.09
Net interest margin (4)............................ 3.62 2.89 2.33 2.04 2.59
Average interest-earning assets to
average interest-bearing liabilities............ 1.41 1.21 1.11 1.10 1.10
Other operating expenses as a
percent of average total assets................. 1.94 1.02 0.96 1.61 1.05
Dividend payout ratio (5).......................... 53.6 -- -- -- --
Capital Ratios:
Tangible........................................... 20.3 19.4 11.3 10.6 10.8
Core............................................... 20.3 19.4 11.3 10.6 10.8
Risk-based......................................... 35.5 40.8 23.3 22.2 23.1
Asset Quality Ratios:
Nonperforming loans as a percent of
loans receivable, net (6)....................... 0.27 0.40 0.48 0.56 0.52
Nonperforming assets as a percent of
total assets (7)................................ 0.22 0.26 0.54 0.45 0.44
Allowance for loan losses as a percent
of gross loans receivable....................... 0.46 0.36 0.44 0.35 0.32
Allowance for loan losses as a percent
of nonperforming loans.......................... 200.89 96.57 93.58 65.24 63.10
Net charge-offs as a percent of
average outstanding loans....................... -- 0.01 0.07 (0.05) 0.05
</TABLE>
_______________________
(1) Net income divided by average total assets.
(2) Net income divided by average total equity.
(3) Difference between weighted average yield on interest-earning assets and
weighted average cost of interest-bearing liabilities.
(4) Net interest income as a percentage of average interest-earning assets.
(5) Dividends declared per share divided by net income per share.
(6) Nonperforming loans consist of loans accounted for on a nonaccrual basis.
(7) Nonperforming assets consist of nonperforming loans and real estate
acquired in settlement of loans, but exclude restructured loans.
Item 7. Management's Discussion and Analysis of Financial Condition and
- -------------------------------------------------------------------------
Results of Operations
- ---------------------
General
Management's discussion and analysis of financial condition and
results of operations is intended to assist in understanding the financial
condition and results of operations of the Company. The information contained in
this section should be read in conjunction with the Consolidated Financial
Statements and accompanying Notes thereto contained elsewhere in this report.
-28-
<PAGE>
Operating Strategy
The Company's business consists principally of attracting retail deposits
from the general public and using these funds to originate mortgage loans
secured by one- to four-family residences located in South Carolina. The Company
also originates commercial real estate loans, home equity loans, builder
construction loans, commercial loans and consumer loans. The Company intends to
continue to fund its assets primarily with retail deposits, although FHLB-
Atlanta advances are used as a supplemental source of funds.
The Company's profitability depends primarily on its net interest income,
which is the difference between the income it receives on its loan and
investment portfolio and its cost of funds, which consists of interest paid on
deposits and borrowings. Net interest income is also affected by 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. The level of
other operating income and expenses also affects the Company's profitability.
Other operating income includes service charges and fees, gain on sale of
mortgage loans and gain on sale of investments. Other operating expenses
primarily include compensation and benefits, occupancy and equipment expenses,
deposit insurance premiums and data processing expenses. The Company's results
of operations also are affected significantly by general economic and
competitive conditions, particularly changes in market interest rates,
government legislation and regulation and monetary and fiscal policies.
The Company's business strategy is to operate as a well capitalized,
profitable and independent financial institution dedicated to financing home
ownership and providing quality customer service. In this fiscal year, the
Company sought to reallocate its mortgage lending portfolio loans by increasing
its originations of builder construction and commercial real estate loans for
the purpose of increasing overall loan yield and size of the loan portfolio. As
these types of loans generally present more risk than one- to four-family
mortgage loans, the Company has increased its allowance for loan loss. The
Company believes that its current mortgage loan portfolio is now balanced to
yield an attractive return with acceptable risk and intends to maintain the
composition of the portfolio at its approximate current levels. To manage
interest risk, the Company will continue to place emphasis on origination of
adjustable-rate loans and fixed-rate loans with a maturity of less than fifteen
years. While the Company continues to rely heavily on certificates of deposit as
its primary source of funds, in fiscal 1999 a greater emphasis was placed on
attracting transaction accounts. Consequently, the higher cost of funds
generally associated with certificates of deposit has been mitigated by growth
in lower cost checking and money market accounts. A lower cost of funds
contributes to a higher interest rate spread and increased profitability.
However, any future inability to attract and retain lower cost deposits, as well
as changes in market interest rates, could lower the Company's interest rate
spread and reduce its profitability.
Comparison of Financial Condition at September 30, 1999 and 1998
Total assets increased $8.8 million, or 2.9%, to $313.7 million from $304.9
million at September 30, 1998. Loans receivable increased $55.2 million, or
28.1%, to $252.0 million from $196.8 million. Builder construction and
commercial mortgage loans increased by $68.7 million, or 266.7%. One- to four-
family mortgage loans increased $12.6 million or 7.3%. Mortgage-backed
securities increased to $10.1 million from $1.7 million. Mortgage-backed
securities in the amount of $10.0 million were purchased with FHLB advances.
Investment securities increased to $29.3 million from $24.0 million. Growth in
brokered loans resulted in a decrease in loan origination fees. Cash and cash
equivalents decreased $60.4 million, or 81.7%, to $13.5 million from $73.9
million as the Company used cash during the 1999 fiscal year to fund loan
growth, pay a $4.00 per share distribution on June 22, 1999, and purchase
investment securities.
Total liabilities increased $29.5 million, or 14.1%, from $209.6 million to
$239.1 million. Deposit accounts increased $278,000, from $206.1 million to
$206.4 million. During fiscal 1999, the Company borrowed $30 million in FHLB
advances to help fund loan growth and to purchase mortgage-backed securities.
Total equity decreased $20.7 million, or 21.8%, from $95.3 million to $74.6
million. The decrease is primarily the result of the Company's payment of the
cash distribution and the repurchase of shares of its stock.
-29-
<PAGE>
Comparison of Operating Results for the Years Ended September 30, 1999 and 1998
Net Income. Net income decreased $1.1 million, or 31.4%, to $2.4 million
for the year ended September 30, 1999 from $3.4 million for the year ended
September 30, 1998. The decrease in net income was primarily the result of an
increase in employee compensation and benefit expense and an increase in data
processing fees. The Company paid a cash distribution to stockholders of $4.00 a
share on June 22, 1999 that resulted in a one-time charge of $1.9 million to
employee compensation and benefit expense.
Net Interest Income. Net interest income increased $2.7 million, or 34.5%,
from fiscal year 1998 to fiscal year 1999, due to an increase in the average
balance of interest-earning assets, primarily growth in the loan portfolio, and
a decrease in interest expense of $1.0 million, or 8.4%.
Total interest income increased $1.7 million, or 8.6%, from fiscal 1998 to
fiscal 1999. Interest income on loans receivable increased $2.0 million as a
result of an increase of $24.9 million, or 12.8%, in the average balance of
loans. Yield on the average balance of loans receivable was essentially
unchanged. The growth in interest income on loans was partially offset by a
reduction in interest income on mortgage-backed securities, as the Company
reduced the average balance of these investments. The average balance of
interest-earning assets increased to $292.7 million in 1999 from $272.2 million
in 1998. The increase in the average balance was due to an increase in the
average balance of loans receivable partially offset by a decrease in interest-
bearing overnight funds. The yield on the Company's interest-earning assets
increased to 7.37% from 7.30% as a result of market trends and the investment of
lower yielding overnight funds into higher yielding loans.
Total interest expense decreased $1.0 million, or 8.4%, from fiscal 1998 to
fiscal 1999. The average balance of interest-bearing liabilities decreased $17.4
million, or 7.7%, while the average rate paid decreased to 5.30% from 5.34%.
Interest paid on passbook, NOW and money market accounts increased a total of
$104,000 primarily because of an increase in the average balance and rate of
such accounts. Interest paid on certificates of deposit decreased $1.3 million
because of a decrease in the average balance of such accounts. This was
partially offset by an increase in the average rate paid on certificates of
deposit to 5.55% from 5.53%. Interest paid on FHLB advances was $203,000 for
fiscal 1999 compared to no interest paid in fiscal 1998.
Provision for Loan Losses. Provisions for loan losses are charged to
operations to bring the total allowance for loan losses to a level considered by
management to be adequate to provide for estimated losses based on management's
evaluation of such factors as the delinquency status of loans, current economic
conditions, the net realizable value of the underlying collateral and prior loan
loss experience. The provision for loan losses was $596,000 in fiscal year 1999
compared with a net recovery of $105,000 in fiscal 1998. At September 30, 1999,
the Company's allowance for loan losses totaled $1.4 million, which equaled
0.54% of total loans. Although management uses the best information available,
future adjustments to the allowance may be necessary due to changes in economic,
operating, regulatory and other conditions that may be beyond the Company's
control. While the Company maintains its allowance for loan losses at a level
which it considers to be adequate to provide for estimated losses, there can be
no assurance that further additions will not be made to the allowance for loan
losses or that actual losses will not exceed the estimated amounts.
Other Income. Other income decreased $34,000, or 13.8%, to $212,000 for
fiscal 1999 from $246,000 for fiscal 1998. Substantially all of the Company's
other income is derived from service charges and fees. Service charges and fees
totaled $188,000 in fiscal 1999 compared with $228,000 in fiscal 1998. Growth in
brokered loans resulted in a decrease in loan origination fees. Gain on sale of
mortgage loans increased to $43,000 in fiscal 1999 from $18,000 in fiscal 1998
as a result of an increase in loan sales in 1999. The Company had a loss of
$20,000 on sale of investments in fiscal 1999 compared to no loss on sale of
investments in fiscal 1998.
Other Operating Expenses. Other operating expenses were $5.8 million in
fiscal 1999 compared to $2.9 million in fiscal 1998. Employee compensation and
benefits expense increased $2.4 million, or 138.5%, primarily as a result of a
$4.00 a share cash distribution on June 22, 1999 to stockholders of record that
resulted in a one-time charge of $1.9 million to employee compensation and
benefit expense. The increase is also the result of compensation expenses
associated with the Management Recognition and Development Plan and normal
payroll growth.
-30-
<PAGE>
Income Taxes. The provision for income taxes increased to $2.0 million for
fiscal 1999 from $1.9 million for fiscal 1998. Although income before income
taxes decreased for fiscal 1999, a portion of the cash distribution charge to
compensation expense was not deductible for income tax purposes.
Comparison of Operating Results for the Years Ended September 30, 1998 and 1997
Net Income. Net income increased $1.5 million, or 76.0%, to $3.4 million
for the year ended September 30, 1998 from $2.0 million for the year ended
September 30, 1997. The increase was primarily the result of an increase in
interest income, a decrease in interest expense on FHLB borrowings, a recovery
of loan losses and a decline in deposit insurance premiums. This was offset by
an increase in employee compensation and real estate operations expense.
Net Interest Income. Net interest income increased $2.3 million, or 42.0%,
to $7.9 million for fiscal 1998 from $5.5 million for fiscal 1997. The Company's
interest rate spread increased 20 basis points to 1.96% for fiscal 1998 from
1.76% for fiscal 1997 as the Company experienced a 17 basis point decrease in
the yield on its interest-earning assets and a 37 basis point decrease in the
cost of its interest-bearing liabilities.
Total interest income increased $2.1 million, or 11.9%, from fiscal 1997 to
fiscal 1998. Interest income on loans receivable increased $756,000 largely as a
result of an increase of $5.5 million, or 2.9%, in the average balance of loans
and a 16 basis point increase in the yield on loans receivable for the year
ended September 30, 1998. The growth in interest income on loans was partially
offset by a reduction in interest income on mortgage-backed securities, as the
Company reduced the average balance and yield of these investments. The average
balance of interest-earning assets increased to $272.2 million in 1998 from
$237.9 million in 1997. The increase in the average balance was due in part to
funds received from the proceeds of the initial public offering and an increase
in the average balance of loans receivable. The yield on the Company's interest-
earning assets decreased to 7.30% from 7.47% as a result of market trends and
the investment of the offering proceeds in lower yielding, short term
investments.
Total interest expense decreased $220,000, or 1.8%, from fiscal 1997 to
fiscal 1998. The average balance of interest-bearing liabilities increased $10.6
million, or 4.96%, while the average rate paid decreased to 5.34% from 5.71%.
Interest paid on passbook, NOW and money market accounts decreased a total of
$35,000 primarily because of a decrease in the average balance and rate of such
accounts. Interest paid on certificates of deposit increased $41,000 because of
an increase in the average balance of such accounts. This was partially offset
by a decrease in the average rate paid on certificates of deposit to 5.53% from
5.91%. Interest paid on FHLB advances decreased $226,000 as a result of no
borrowings in the year ended September 30, 1998.
Provision for Loan Losses. The provision for loan losses was a net recovery
of $105,000 in fiscal year 1998 compared with a provision of $337,000 in fiscal
1997. This recovery came as the result of a loan previously classified as a loss
being paid off. Additionally, the Company added $10,000 to the allowance for
loan losses to provide for estimated losses on specific problem loans. It was
not necessary for the Company to add to the allowance for loan losses based on
its re-evaluation of the risks inherent in the loan portfolio because upon
analysis current reserves proved adequate. At September 30, 1998, the Company's
allowance for loan losses totalled $760,000 which equaled 0.36% of total loans.
Other Income. Other income increased $44,000, or 21.8%, to $246,000 for
fiscal 1998 from $202,000 for fiscal 1997. Service charges and fees totalled
$228,000 in fiscal 1998 compared with $206,000 in fiscal 1997. Gain on sale of
mortgage loans increased to $18,000 in fiscal 1998 from $6,000 in fiscal 1997 as
a result of an increase in loan sales in 1998. The Company had no sale of
investments in fiscal 1998 resulting in no gains or losses compared to a loss of
$13,000 in fiscal 1997.
Other Operating Expenses. Other operating expenses were $2.9 million in
fiscal 1998 compared to $2.4 million in fiscal 1997. Employee compensation and
benefits expense increased $263,000, or 18.1%, as a result of normal wage
increases and new costs associated with the implementation of the Employee Stock
Ownership Plan. Expense from real estate operations was $69,000 in fiscal year
1998 compared with income of $167,000 in fiscal 1997 as a result of gains on
sales of real estate owned.
-31-
<PAGE>
Income Taxes. The provision for income taxes increased to $2.0 million for
fiscal 1998 from $1.1 million for fiscal 1997. The income tax provision was
higher in fiscal 1998 because of higher taxable income.
Average Balances, Interest and Average Yields/Costs
The following table sets forth certain information for the periods
indicated regarding average balances of assets and liabilities as well as the
total dollar amounts of interest income from average interest-earning assets and
interest expense on average interest-bearing liabilities and average yields and
costs. Such yields and costs for the periods indicated are derived by dividing
income or expense by the average balances of assets or liabilities,
respectively, for the periods presented.
<TABLE>
<CAPTION>
For the Years Ended September 30,
-------------------------------------------------------------------------
1999 1998
-------------------------------------------------------------------------
Interest Average Interest Average
Average and Yield/ Average and Yield/
Balance Dividends Cost Balance Dividends Cost
-------- --------- ------ -------- --------- ------
(Dollars In thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable, net (1)........................ $220,162 $17,834 8.10% $195,232 $15,790 8.09%
Mortgage-backed securities....................... 1,424 105 7.36 4,268 208 4.87
Investment securities (2)........................ 23,163 1,225 5.29 27,104 1,442 5.32
FHLB stock....................................... 1,883 142 7.53 2,042 149 7.31
Federal funds sold and overnight
deposits...................................... 46,109 2,282 4.95 43,546 2,291 5.26
-------- --------- ------ -------- ---------- -----
Total interest-earning assets................. 292,741 21,588 7.37 272,192 19,880 7.30
--------- ------ ---------- -----
Noninterest-earning assets.......................... 7,452 8,219
-------- --------
Total average assets.......................... $300,193 $280,411
======== ========
Interest-bearing liabilities (3):
Passbook accounts................................ $ 9,921 297 3.00 $ 11,025 304 2.27
NOW and money market accounts.................... 9,699 201 2.07 3,966 90 2.76
Certificates of deposit.......................... 185,585 10,299 5.55 209,893 11,616 5.53
-------- --------- ------ -------- ---------- -----
Total deposits................................ 205,205 10,797 5.26 224,884 12,010 5.34
FHLB advances.................................... 2,329 203 -- -- -- --
-------- --------- ------ -------- ---------- -----
Total interest-bearing liabilities............ 207,534 11,000 5.30 224,884 12,010 5.34
--------- ------ ---------- -----
Noninterest-bearing liabilities..................... 3,471 5,125
-------- --------
Total average liabilities..................... 211,005 230,009
-------- --------
Average equity...................................... 89,188 50,402
-------- --------
Total average liabilities and
equity........................................ $300,193 $280,411
======== ========
Net interest income................................. $10,588 $ 7,870
======= =======
Interest rate spread................................ 2.07% 1.96%
==== ====
Net interest margin................................. 3.62% 2.89%
==== ====
Ratio of average interest-earning
assets to average interest-bearing
liabilities...................................... 1.41x 1.21x
<CAPTION>
For The Years Ended September 30,
--------------------------------
1997
--------------------------------
Interest Average
Average And Yield/
Balance Dividends Cost
-------- --------- -------
<S> <C> <C> <C>
Interest-earning assets:
Loans receivable, net (1)................ $189,689 $15,034 7.93%
Mortgage-backed securities............... 8,401 450 5.36
Investment securities (2)................ 32,397 1,856 5.73
FHLB stock............................... 2,042 148 7.25
Federal funds sold and overnight
deposits.............................. 5,335 285 5.34
-------- ------- ----
Total interest-earning assets......... 237,864 17,773 7.47
------- ----
Noninterest-earning assets.................. 7,315
--------
Total average assets.................. $245,179
========
Interest-bearing liabilities (3):
Passbook accounts........................ $ 11,561 340 2.94
NOW and money market accounts............ 3,751 89 2.37
Certificates of deposit.................. 195,853 11,575 5.91
-------- ------- ----
Total deposits........................ 211,165 12,004 5.68
FHLB advances............................ 3,082 226 7.33
-------- ------- ----
Total interest-bearing liabilities.... 214,247 12,230 5.71
------- ----
Noninterest-bearing liabilities............. 2,759
--------
Total average liabilities............. 217,006
--------
Average equity.............................. 28,173
--------
Total average liabilities and
equity................................ $245,179
========
Net interest income......................... $ 5,543
=======
Interest rate spread........................ 1.76%
====
Net interest margin......................... 2.33%
====
Ratio of average interest-earning
assets to average interest-bearing
liabilities.............................. 1.11x
</TABLE>
____________________
(1) Loans receivable, net includes loans held-for-sale and nonaccrual loans.
Interest on loans receivable does not include interest on nonaccrual loans.
(2) Yield information does not give affect to changes in fair value that are
reflected as a component of equity.
(3) Does not include escrow balances.
-32-
<PAGE>
Rate/Volume Analysis
The following table sets forth the effects of changing rates and volumes on
the interest income and interest expense of the Company. Information is provided
with respect: (i) to effects attributable to changes in volume (changes in
volume multiplied by prior rate); and (ii) to effects attributable to changes in
rate (changes in rate multiplied by prior volume). The net change attributable
to the combined impact of volume and rate has been allocated proportionately to
the change due to volume and the change due to rate.
<TABLE>
<CAPTION>
1999 Compared to 1998 1998 Compared to 1997
----------------------------------- -------------------------------------
Increase (Decrease) Increase (Decrease)
Due to Due to
------------------- ---------------------
Rate Volume Net Rate Volume Net
------ ------- ------- ----- ------- --------
(In thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable, net (1).................. $ 20 $ 2,024 $ 2,044 $ 309 $ 447 $ 756
Mortgage-backed securities................. 344 (447) (103) (38) (204) (242)
Investment securities...................... (8) (209) (217) (126) (288) (414)
FHLB stock................................. 5 (12) (7) 1 -- 1
Federal funds sold and overnight
deposits................................ 1,206 (1,215) (9) (4) 2,010 2,006
------ ------ ------- ----- ------- --------
Total net change in income on interest-
earning assets............................. 1,567 141 1,708 142 1,965 2,107
------ ------ ------- ----- ------- --------
Interest-bearing liabilities:
Passbook accounts.......................... 35 (42) (7) (20) (16) (36)
NOW and money market accounts.............. (7) 118 111 (4) 5 1
Certificates of deposit.................... 42 (1,359) (1,317) (355) 396 41
------ ------ ------- ----- ------- --------
Total average deposits.................. 70 (1,283) (1,213) (379) 385 6
FHLB advances.............................. -- 203 203 -- (226) (226)
------ ------ ------- ----- ------- --------
Total net change in expense on interest-
bearing liabilities........................ 70 (1,080) (1,010) (379) 159 (220)
------ ------ ------- ----- ------- --------
Net change in net interest income............. $1,497 $1,221 $2,718 $ 521 $1,806 $2,327
====== ====== ====== ===== ======= ========
</TABLE>
__________________________
(1) Does not include interest on nonaccrual loans.
Asset and Liability Management
Quantitative Aspects of Market Risk. The Company does not maintain a
trading account for any class of financial instrument nor does the Company
engage in hedging activities or purchase high-risk derivative instruments.
Furthermore, the Company is not subject to foreign currency exchange rate risk
or commodity price risk. For information regarding the sensitivity to interest
rate risk of the Company's interest-earning assets and interest-bearing
liabilities, see the tables under "Lending Activities--Maturity of Loan
Portfolio," "--Investment Activities" and "--Deposit Activities and Other
Sources of Funds."
Qualitative Aspects of Market Risk. The Company's principal financial
objective is to achieve long-term profitability while reducing its exposure to
fluctuating market interest rates. The Company has sought to reduce the exposure
of its earnings to changes in market interest rates by attempting to manage the
mismatch between asset and liability maturities and interest rates. The
principal element in achieving this objective is to increase the interest-rate
sensitivity of the Company's interest-earning assets by retaining for its
portfolio loans with interest rates subject to periodic adjustment to market
conditions and selling fixed-rate one-to-four-family mortgage loans with terms
over 15
-33-
<PAGE>
years. In addition, the Company maintains an investment portfolio of U.S.
Treasury and U.S. Government agency obligations with contractual maturities of
between one and five years. The Company relies on retail deposits as its primary
source of funds. Management believes retail deposits, compared to brokered
deposits, reduce the effects of interest rate fluctuations because they
generally represent a more stable source of funds.
The Company uses interest rate sensitivity analysis to measure its interest
rate risk by computing changes in NPV (net portfolio value) of its cash flows
from assets, liabilities and off-balance sheet items in the event of a range of
assumed changes in market interest rates. NPV represents the market value of
portfolio equity and is equal to the market value of assets minus the market
value of liabilities, with adjustments made for off-balance sheet items. This
analysis assesses the risk of loss in market risk sensitive instruments in the
event of a sudden and sustained 100 to 400 basis point increase or decrease in
market interest rates with no effect given to any steps that management might
take to counter the effect of that interest rate movement. Using data compiled
by the FHLB, the Company receives a report which measures interest rate risk by
modeling the change in NPV over a variety of interest rate scenarios.
The following table is provided by the FHLB and sets forth the change in
the Company's NPV at September 30, 1999, based on FHLB assumptions, that would
occur in the event of an immediate change in interest rates, with no effect
given to any steps that management might take to counteract that change.
Basis Point ("bp") Estimated Change in
Change in Rates Net Portfolio Value
------------------ -------------------
(In thousands)
+300 (14,340)
+200 (8,538)
+100 (3,796)
0 --
(100) 3,184
(200) 5,734
(300) 7,431
The above table illustrates, for example, that an instantaneous 200 basis
point increase in market interest rates at September 30, 1999 would reduce the
Company's NPV by approximately $8.5 million, or 12.4%, at that date.
-34-
<PAGE>
The following table prepared with information supplied by the FHLB presents
the Company's financial instruments that are sensitive to changes in interest
rates, categorized by expected maturity.
<TABLE>
<CAPTION>
After 3
Within One Year Years to Beyond 5
1 Year to 3 Years 5 Years Years Total
------------ ----------- --------- --------- -----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable................................ $ 92,142 $107,430 $19,432 $35,142 $254,146
Mortgage-backed securities...................... 328 9,819 -- -- 10,147
Investment securities........................... -- -- 29,305 -- 29,305
FHLB stock...................................... 1,690 -- -- -- 1,690
Federal funds sold and
overnight deposits........................... 11,185 -- -- -- 11,185
-------- -------- ------- ------- --------
Total interest-earning assets................ $105,345 $117,249 $48,737 $35,142 $306,473
======== ======== ======= ======= ========
Interest-bearing liabilities:
Passbook accounts............................... $ 853 $ 3,253 $ 1,614 $ 3,869 $ 9,589
NOW and money market accounts................... 5,387 6,410 1,071 1,893 14,761
Certificates of deposit......................... 50,388 130,995 649 -- 182,032
-------- -------- ------- ------- --------
Total deposits............................... 56,628 140,658 3,334 5,762 206,382
FHLB advances...................................... 24,000 -- -- 6,000 30,000
-------- -------- ------- ------- --------
Total interest-bearing liabilities........... $ 80,628 $140,658 $ 3,334 $11,762 $236,382
======== ======== ======= ======= ========
Interest sensitivity gap per period................ 24,717 (23,409) 45,403 23,380 70,091
Cumulative interest sensitivity gap................ 24,717 1,308 46,711 70,091
Percentage of cumulative gap to
total earning assets............................ 8.1% 0.4% 15.2% 22.9%
Cumulative ratio of interest sensitive
assets to interest sensitive liabilities........ 1.31% 0.83% 14.62% 2.99%
</TABLE>
Certain assumptions utilized by the FHLB in assessing the interest rate
risk of savings associations within its region were utilized in preparing the
preceding tables. These assumptions relate to interest rates, loan prepayment
rates, deposit decay rates, and the market values of certain assets under
differing interest rate scenarios, among others.
As with any method of measuring interest rate risk, certain shortcomings
are inherent in the method of analysis presented in the foregoing tables. For
example, although certain assets and liabilities may have similar maturities or
periods to repricing, they may 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 ARM loans, have features which restrict
changes in interest rates on a short-term basis and over the life of the asset.
Further, in the event of a change in interest rates, expected rates of
prepayments on loans and early withdrawals from certificates could deviate
significantly from those assumed in calculating the table.
Liquidity and Capital Resources
The Company's primary sources of funds are customer deposits, proceeds from
principal and interest payments on and the sale of loans, maturing securities
and FHLB advances. While maturities and scheduled amortization of loans are a
predictable source of funds, deposit flows and mortgage prepayments are greatly
influenced by general interest rates, economic conditions and competition.
The Company must maintain an adequate level of liquidity to ensure the
availability of sufficient funds to fund loan originations and deposit
withdrawals, to satisfy other financial commitments and to take advantage of
investment opportunities. The Company generally maintains sufficient cash and
short-term investments to meet short-term liquidity
-35-
<PAGE>
needs. At September 30, 1999, cash and cash equivalents totalled $13.5 million,
or 4.3% of total assets, and investment securities classified as available-for-
sale totalled $25.8 million. At September 30, 1999, the Company also maintained
a credit facility of $47.1 million with the FHLB-Atlanta. The Company has not
drawn on this credit facility.
OTS regulations require savings institutions to maintain an average daily
balance of liquid assets (cash and eligible investments) equal to at least 4.0%
of the average daily balance of its net withdrawable deposits and short-term
borrowings. The Company's actual liquidity ratio at September 30, 1999 was
23.85%.
The Company's primary investing activity is the origination of one- to
four-family mortgage loans. During the years ended September 30, 1999, 1998 and
1997, the Company originated $42.2 million, $43.5 million and $37.0 million of
such loans, respectively. At September 30, 1999, the Company had loan
commitments totalling $2.3 million, unused lines of credit of $9.2 million and
undisbursed loans in process totalling $41.6 million. The Company anticipates
that it will have sufficient funds available to meet current loan commitments.
Certificates of deposit that are scheduled to mature in less than one year from
September 30, 1999 totalled $137.6 million. Historically, the Company has been
able to retain a significant amount of its deposits as they mature.
OTS regulations require the Bank to maintain specific amounts of regulatory
capital. As of September 30, 1999, the Bank complied with all regulatory capital
requirements as of that date with tangible, core and risk-based capital ratios
of 20.3%, 20.3% and 35.5%, respectively.
Year 2000 Issues
As the year 2000 approaches, the Bank's information and data processing
system has been assessed to insure appropriate operation after December 31,
1999. Many such systems in use worldwide may not be able to interpret dates
after December 31, 1999 properly because such systems allow only two digits to
indicate the year in a date. Programmers initially used a two-digit dating
system that has become integrated into applications and hardware which could
cause systems to function improperly or fail on January 1, 2000. The problem
could reside in computer programs, computer hardware, or electronic devices that
reference dates in the course of their functions. Also, the Bank has considered
the potential problems that Year 2000 could pose for third party service
providers.
Year 2000 risk is present in virtually all of the Bank's normal operating
activities. To confront these risks, the Bank has developed a Year 2000 Plan,
which has been reviewed by senior management and the Board of Directors. The
plan contains a review of Bank systems that could be affected by Year 2000
problems along with an assessment of the potential impact that Year 2000 system
problems could pose to the Bank's normal operation. Management categorized Year
2000 potential risks as critical, important, or noncritical. Critical issues
were those that would cause the Bank to lose its data communication and data
processing capability and thus render normal operations virtually impossible.
Noncritical issues were those that would pose an inconvenience but could be
readily remediated through a manual or alternate processing system. Important
issues were those that would cause some disruption to administrative or
management functions but would cause no immediate operational problems and could
be handled easily in a non-automated manner.
Management has determined the more critical aspects of the Bank's
operations that could be affected are the Bank's interaction with its data
processing provider and the proper operation of its internal computer system.
While other areas of concern, such as payroll and accounting services and
mortgage escrow and tax services could pose some inconvenience and delays in
normal operations, problems in those areas would be noncritical and could be
readily corrected.
The Bank has requested and received Year 2000 readiness certifications from
third party service providers whose services have been deemed critical to Bank
operations. For critical systems, contingency plans have been developed that
make provisions for alternate and/or manual processing. These plans are being
prepared for four possible scenarios ranging from minor system anomalies to
complete system dysfunctionality. The worst case scenario would be the inability
to use the internal computer system, the inability to communicate with the data
processing provider, and the data processing provider's dysfunctionality.
Management feels that its preparation exceeds what is necessary for the most
reasonably likely worst case scenario.
-36-
<PAGE>
The Office of Thrift Supervision has conducted three independent audits of
the Bank's Year 2000 progress. As a part of their regulatory oversight of all
thrift institutions, the OTS conducted a final interview audit in November 1999.
The Bank's primary data processing provider is FiServ. FiServ has developed
a Year 2000 Plan and provides the Bank with periodic updates. FiServ completed
all program maintenance associated with its Year 2000 Plan in November 1998, and
has certified that its data processing systems are Year 2000 compliant. FiServ's
Year 2000 activities are also monitored by the OTS. The Bank began testing its
software and hardware interfaces in conjunction with FiServ's system in
November, 1998, and concluded that further testing would be beneficial. That
testing was begun in January, 1999 with successful off-line testing of the
software and hardware interfaces. A new accounts software upgrade was completed
and tested in February, 1999, and a final successful online testing with FiServ
was performed in April, 1999. By September, 1999, hardware was added to upgrade
data processing report reception, and climate control in the main office. All
data processing systems critical to the Bank's operation have now been
successfully tested.
The Bank has utilized third party consultants to analyze its hardware and
local area network needs to upgrade the Bank's software interfaces.
FiServ is also monitoring the Year 2000 status of third party vendors
providing data exchange functions relating to the Bank. FiServ has developed a
comprehensive list of these vendors for its clients and evaluated the vendors as
to the critical nature of their functions relating to the Bank. Testing has been
completed on vendors considered most critical with tests on important but
noncritical vendors continuing.
The Bank has identified only one significant commercial borrower with Year
2000 exposure. The Company requested, received, and reviewed the borrower's
certification of compliance. Most of the Company's loans are borrower owned,
single-family residences and involve minimal Year 2000 risk to the Bank.
With successful testing having been completed in the most critical areas of
operations, the Company continues to focus attention on employee and customer
awareness of Year 2000 issues and contingency planning. Employee training and
customer awareness plans have been implemented concentrating on readiness and
employee/customer interaction. Contingency plans were successfully tested in
July 1999 to provide for the possibility of FiServ's dysfunctionality or the
Bank's inability to communicate with FiServ and continue to be monitored.
The external costs associated with the Bank's Year 2000 compliance are
expected to be less than $50,000. The Bank does not track internal costs as
these are related to normal payroll costs. At this time, it is not possible to
make a reasonable estimate of the costs to the Company if the Bank or any
critical third party provider failed to complete Year 2000 measures as
scheduled. However, those costs would likely have a material impact on the
Company.
Impact of Accounting Pronouncements and Regulatory Policies
See Note 1 to the Consolidated Financial Statements for a discussion of the
anticipated impact of recently issued accounting statements.
Effect of Inflation and Changing Prices
The financial statements and related financial data presented herein have
been prepared in accordance with GAAP, which require the measurement of
financial position and operating results be in terms of historical dollars
without considering the change in the relative purchasing power of money over
time due to inflation. The primary impact of inflation is reflected in the
increased cost of the Company's operations. Unlike most industrial companies,
virtually all the assets and liabilities of a financial institution are monetary
in nature. As a result, interest rates generally have a more significant impact
on a financial institution's performance than do general levels of inflation.
Interest rates do not necessarily move in the same direction or to the same
extent as the prices of goods and services.
Item 7a. Quantitative and Qualitative Disclosures About Market Risk
- --------------------------------------------------------------------
-37-
<PAGE>
For a discussion of the Company's market risk, see "Asset and Liability
Management" under Item 7 of this Form 10-K.
Item 8. Financial Statements and Supplementary Data
- -----------------------------------------------------
The financial statements listed in the index to Consolidated Financial
Statement at Item 14 of this Form 10-K are incorporated by reference into this
Item 8 of Part II of this Form 10-K.
Item 9. Changes in and Disagreements with Accountants on Accounting and
- -------------------------------------------------------------------------
Financial Disclosure
- --------------------
Not applicable.
PART III
Item 10. Directors and Executive Officers of the Registrant
- ------------------------------------------------------------
Executive Officers
The following table sets forth certain information regarding the executive
officers of the Company.
Name Age (1) Position
- ---- ------- --------
J. Edward Wells........... 60 Chairman of the Board, President,
Chief Executive Officer and Secretary
Edwin I. Shealy........... 52 Chief Financial Officer and Treasurer
The following table sets forth certain information regarding the executive
officers of the Bank.
Name Age (1) Position
- ---- ------- ------------
J. Edward Wells......... 60 President, Chief Executive Officer and
Director
Edwin I. Shealy......... 52 Chief Financial Officer and Treasurer
James H. Wasson, Jr..... 55 Vice President and Secretary
John M. Swofford........ 54 Vice President
Will B. Ferguson........ 42 Vice President
______________________
(1) As of September 30, 1999.
J. Edward Wells is the President and Chief Executive Officer of the Bank,
positions he has held since 1972. Mr. Wells joined the Bank in 1967.
Edwin I. Shealy is the Chief Financial Officer and Treasurer of the Bank,
positions he has held since 1990.
James H. Wasson, Jr. is Secretary and Vice President of the Bank
responsible for mortgage lending, positions he has held since 1977. Mr. Wasson
has been employed by the Bank since 1968.
John M. Swofford is a Vice President of the Bank and manager of the Bank's
Laurens branch, positions he has held since 1988. From 1976 to 1988, Mr.
Swofford served as the manager of the Bank's Simpsonville branch.
Will B. Ferguson is a Vice President of the Bank, a position he has held
since 1995. Mr. Ferguson has been employed by the Bank since 1984.
-38-
<PAGE>
The information contained under the section captioned "Proposal 1 --
Election of Directors" contained in the Company's Proxy Statement is
incorporated herein by reference. Reference is made to the cover page of this
report for information regarding compliance with Section 16(a) of the Exchange
Act.
Item 11. Executive Compensation
- --------------------------------
The information contained under the sections captioned "Executive
Compensation" and "Directors' Compensation" in the Proxy Statement is
incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management
- ------------------------------------------------------------------------
(a) Security Ownership of Certain Beneficial Owners
Information required by this item is incorporated herein by reference
to the section captioned "Stock Ownership" in the Proxy Statement.
(b) Security Ownership of Management
The information required by this item is incorporated herein by
reference to the section captioned "Stock Ownership" in the Proxy
Statement.
(c) Changes in Control
The Company is not aware of any arrangements, including any pledge by
any person of securities of the Company, the operation of which may at
a subsequent date result in a change in control of the Company.
Item 13. Certain Relationships and Related Transactions
- --------------------------------------------------------
The information set forth under the section captioned "Transactions with
Management" in the Proxy Statement is incorporated herein by reference.
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
- ---------------------------------------------------------------------------
(a) The following documents are filed as part of this report:
1. Financial Statements
Page
----
Independent Auditors' Report................................... F-1
Consolidated Balance Sheets as of September 30, 1999 and 1998.. F-2
Consolidated Statements of Income for the Years Ended
September 30, 1999, 1998 and 1997............................ F-3
Consolidated Statements of Stockholders' Equity
for the Years Ended September 30, 1999, 1998 and 1997........ F-4
Consolidated Statements of Cash Flows for the Years Ended
September 30, 1999, 1998 and 1997............................ F-5
Notes to Consolidated Financial Statements..................... F-7
2. Financial Statement Schedules
All schedules have been omitted as the required information is either
inapplicable or included in the Consolidated Financial Statements or
related Notes contained in the Annual Report.
-39-
<PAGE>
3. Exhibits
The exhibits listed below are filed as part of this Annual Report on Form
10-K or are incorporated by reference herein.
3.1 Certificate of Incorporation of Heritage Bancorp, Inc.
(incorporated by reference to Exhibit 3.1 to the Company's
Registration Statement on Form S-1 (File No. 333-41857))
3.2 Bylaws of Heritage Bancorp, Inc. (incorporated by reference to
Exhibit 3.2 to the Company's Registration Statement on Form S-1
(File No. 333-41857))
10.1 Employment Agreement with J. Edward Wells (incorporated by
reference to the Company's Form 10-K for the year ended
September 30, 1998)
10.2 Form of Severance Agreement for Executive Officers (incorporated
by reference to the Company's Form 10-K for the year ended
September 30, 1998)
10.3 Heritage Federal Bank Employee Severance Compensation Plan
(incorporated by reference to the Company's Form 10-K for the
year ended September 30, 1998)
10.4 Heritage Bancorp, Inc. 1998 Stock Option Plan (incorporated by
reference to the Company's Registration Statement on Form S-8
(File No. 333-77303))
10.5 Heritage Bancorp, Inc. Management Recognition and Development
Plan (incorporated by reference to the Company's Registration
Statement on Form S-8 (File No. 333-77303))
21 Subsidiaries of the Registrant
23 Consent of Independent Auditors
27 Financial Data Schedule
(b) Reports on Form 8-K
No Reports on Form 8-K were filed during the quarter ended September 30,
1999.
-40-
<PAGE>
Deloitte & Touche LLP
1200 NationsBank Plaza
7 North Laurens Street
Greenville, South Carolina 29601
telephone: (864) 240-5700
facsimile: (864) 235-8563
INDEPENDENT AUDITORS' REPORT
Board of Directors
Heritage Bancorp, Inc.:
We have audited the accompanying consolidated balance sheets of Heritage
Bancorp, Inc. and its subsidiary (the "Company") as of September 30, 1999 and
1998, and the related consolidated statements of income, stockholders' equity
and cash flows for each of the three years in the period ended September 30,
1999. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
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, such consolidated financial statements present fairly, in all
material respects, the financial position of the Company at September 30, 1999
and 1998, and the results of its operations and its cash flows for each of the
three years in the period ended September 30, 1999 in conformity with generally
accepted accounting principles.
/s/ Deloitte & Touche LLP
November 5, 1999
Greenville, South Carolina
F-1
<PAGE>
HERITAGE BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 1999 AND 1998
(In Thousands of Dollars)
- --------------------------------------------------------------------------------
<TABLE>
<S> <C> <C>
ASSETS 1999 1998
Cash $ 2,341 $ 1,917
Federal funds sold and overnight interest-bearing deposits 11,185 72,003
-------- --------
Total cash and cash equivalents 13,526 73,920
Investment securities (Note 2):
Held-to-maturity - at amortized cost (fair value: 1999 - $3,480; 1998 - $17,208) 3,499 17,112
Available-for-sale - at fair value (amortized cost: 1999 - $22,556; 1998 - $3,563) 25,806 6,898
Mortgage-backed securities - held to maturity - at amortized cost (fair value:
1999 - $10,225; 1998 - $1,691) (Note 3) 10,147 1,695
Loans receivable - net (Notes 4 and 7) 252,014 196,789
Loans held-for-sale - at lower of cost or market (market value: 1999 - $788;
1998 - $869) 777 849
Office properties and equipment - net (Note 5) 4,033 4,103
Federal Home Loan Bank Stock - at cost (Note 7) 1,690 2,042
Accrued interest receivable 1,948 1,335
Other assets 277 178
-------- --------
TOTAL $313,717 $304,921
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES:
Deposit accounts (Note 6) $206,382 $206,104
Advances from FHLB (Note 7) 30,000 -
Accrued interest on deposit accounts 446 359
Other liabilities (Note 8) 2,307 3,128
-------- --------
Total liabilities 239,135 209,591
-------- --------
COMMITMENTS AND CONTINGENCIES (Note 9)
STOCKHOLDERS' EQUITY:
Common stock of $0.01 par value per share. Authorized 10,000,000 shares,
issued 4,628,750 shares and outstanding 4,426,770 shares and 4,628,750 at
September 30, 1999 and 1998, respectively 46 46
Additional paid-in capital 51,214 67,987
Retained income - substantially restricted (Notes 8 and 12) 31,700 30,565
Unallocated ESOP shares (Note 10) (4,164) (5,369)
Unearned MRDP shares (Note 11) (2,600) -
Treasury stock (Note 12) (3,661) -
Accumulated other comprehensive income 2,047 2,101
-------- --------
Total stockholders' equity 74,582 95,330
-------- --------
TOTAL $313,717 $304,921
======== ========
</TABLE>
See notes to consolidated financial statements.
F-2
<PAGE>
HERITAGE BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
YEARS ENDED SEPTEMBER 30, 1999, 1998 AND 1997
(In Thousands of Dollars, Except Per Share Data)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Years Ended September 30,
---------------------------------------
1999 1998 1997
<S> <C> <C> <C>
INTEREST INCOME:
Loans $ 17,833 $ 15,790 $ 15,034
Investment securities and other 3,650 3,882 2,289
Mortgage-backed securities 105 208 450
---------- ---------- --------
Total interest income 21,588 19,880 17,773
---------- ---------- --------
INTEREST EXPENSE:
Deposits (Note 6) 10,797 12,010 12,004
Federal Home Loan Bank borrowings 203 - 226
---------- ---------- --------
Total interest expense 11,000 12,010 12,230
---------- ---------- --------
NET INTEREST INCOME 10,588 7,870 5,543
PROVISION FOR LOAN LOSSES (RECOVERY OF
ALLOWANCE) (Note 4) 596 (105) 337
---------- ---------- --------
NET INTEREST INCOME AFTER PROVISION FOR
LOAN LOSSES 9,992 7,975 5,206
---------- ---------- --------
OTHER INCOME:
Service charges and fees 188 228 205
Gain on sale of mortgage loans held-for-sale 43 18 6
Loss on sale of investments available-for-sale (20) - (13)
Other income, net 1 - 4
---------- ---------- --------
Total other income 212 246 202
---------- ---------- --------
OTHER OPERATING EXPENSES:
Employee compensation and benefits (Note 10 and 11) 4,086 1,713 1,450
Deposit insurance premiums 148 124 234
Occupancy and equipment expense 427 413 397
Data processing - service bureau fees 202 134 132
Office supplies, postage, printing, etc. 116 101 81
Professional fees 280 82 56
Advertising and promotions 50 26 24
Loss (income) from real estate operations
(8) 69 (167)
Other 516 195 155
---------- ---------- --------
Total other operating expenses 5,817 2,857 2,362
---------- ---------- --------
INCOME BEFORE INCOME TAXES 4,387 5,364 3,046
PROVISION FOR INCOME TAXES (Note 8) 2,031 1,929 1,094
---------- ---------- --------
NET INCOME $ 2,356 $ 3,435 $ 1,952
========== ========== ========
PER SHARE DATA (Note 1):
Basic earnings per share $ 0.56 $ 0.53 N/A
========== ==========
Weighted average shares outstanding - basic 4,179,576 4,264,627
========== ==========
Earnings per share assuming dilution $ 0.56 $ 0.53 N/A
========== ==========
Weighted average shares outstanding - assuming dilution 4,246,523 4,264,627
========== ==========
</TABLE>
See notes to consolidated financial statements.
F-3
<PAGE>
HERITAGE BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED SEPTEMBER 30, 1999, 1998 AND 1997
(In Thousands of Dollars)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Additional Unallocated Unearned
Common Stock Paid-In ESOP MRDP Retained Treasury
------------------
Shares Amount Capital Shares Shares Income Stock
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE, SEPTEMBER 30, 1996 $ 25,817
--------
Comprehensive income:
Net income 1,952
Net unrealized gain on available-for-sale
securities, net of reclassification
adjustment -
--------
Total comprehensive income 1,952
--------
BALANCE, SEPTEMBER 30, 1997 27,769
--------
Comprehensive income:
Net income 3,435
Net unrealized gain on available-for-sale
securities, net of reclassification
adjustment -
--------
Total comprehensive income 3,435
--------
Net proceeds of common stock issued 4,629 $ 46 $ 67,930 $ (5,555) -
Shares released from ESOP - - 57 186 -
Dividends declared - - - - (639)
------- ------ -------- -------- --------
BALANCE, SEPTEMBER 30, 1998 4,629 46 67,987 (5,369) 30,565
Comprehensive income:
Net income - - - - 2,356
Net unrealized loss on available-for-sale
securities, net of reclassification
adjustment - - - - -
--------
Total comprehensive income - - - - 2,356
--------
Shares released from ESOP - - 291 1,205 -
Dividends on common stock - - - - (1,221)
Common stock repurchased (387) - - - - $ (7,479)
Issuance of treasury stock to MRDP 185 - (346) - $(3,472) - 3,818
Vesting of MRDP shares - - - - 283 - -
Cash distribution - - (16,718) - 589 - -
------- ------ -------- -------- ------- -------- --------
BALANCE, SEPTEMBER 30, 1999 4,427 $ 46 $ 51,214 $ (4,164) $(2,600) $ 31,700 $ (3,661)
======= ====== ======== ======== ======= ======== ========
<CAPTION>
Accumulated
Other
Comprehensive
Income Total
<S> <C> <C>
BALANCE, SEPTEMBER 30, 1996 $ 923 $ 26,740
Comprehensive income:
Net income - 1,952
Net unrealized gain on available-for-sale
securities, net of reclassification
adjustment 543 543
-------- --------
Total comprehensive income 543 2,495
-------- --------
BALANCE, SEPTEMBER 30, 1997 1,466 29,235
-------- --------
Comprehensive income:
Net income - 3,435
Net unrealized gain on available-for-sale
securities, net of reclassification
adjustment 635 635
-------- --------
Total comprehensive income 635 4,070
-------- --------
Net proceeds of common stock issued - 62,421
Shares released from ESOP - 243
Dividends declared - (639)
-------- --------
BALANCE, SEPTEMBER 30, 1998 2,101 95,330
-------- --------
Comprehensive income:
Net income - 2,356
Net unrealized loss on available-for-sale
securities, net of reclassification
adjustment (54) (54)
-------- --------
Total comprehensive income (54) 2,302
-------- --------
Shares released from ESOP - 1,496
Dividends on common stock - (1,221)
Common stock repurchased - (7,479)
Issuance of treasury stock to MRDP - -
Vesting of MRDP shares - 283
Cash distribution - (16,129)
-------- --------
BALANCE, SEPTEMBER 30, 1999 $ 2,047 $ 74,582
======== ========
</TABLE>
See notes to consolidated financial statements.
F-4
<PAGE>
HERITAGE BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED SEPTEMBER 30, 1999, 1998 AND 1997
(In Thousands of Dollars)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Years Ended September 30,
-------------------------------------
1999 1998 1997
<S> <C> <C> <C>
OPERATING ACTIVITIES:
Net income $ 2,356 $ 3,435 $ 1,952
Adjustments to reconcile net income to net cash provided by
operating activities:
Deferred income taxes (481) (72) 528
Release of ESOP shares 1,496 243 -
Vesting of MRDP shares 283 - -
Loss on sale of available-for-sale securities 20 - 13
(Accretion) amortization of premium on investment and
mortgage-backed securities - (7) 30
Gain on sale of loans held-for-sale (44) (18) (6)
Amortization of net deferred income (113) (123) (151)
Provision for loan losses (recovery of allowance) 596 (105) 337
Proceeds from the sale of loans held-for-sale 2,239 1,243 485
Purchase of loans held-for-sale - - (1,051)
Originations of loans held-for-sale (2,252) (1,225) (486)
Principal repayments on loans held-for-sale 149 195 7
Depreciation on office properties and equipment 276 276 280
Gain on sale of property (6) - -
Provision for losses on real estate acquired in settlement of loans - 28 15
Loss (gain) on sales of real estate acquired in settlement of loans (7) 34 (191)
(Increase) decrease in accrued interest receivable and other assets (659) (99) 199
Decrease in accrued interest payable and other liabilities (275) (359) (1,184)
--------- --------- ---------
Net cash provided by operating activities 3,578 3,446 777
--------- --------- ---------
INVESTING ACTIVITIES:
Proceeds from maturities and calls of available-for-sale investment
securities 2,000 4,000 8,100
Proceeds from maturities and calls of held-to-maturity investment
securities 13,615 16,000 8,500
Proceeds from the sale of available-for-sale investment securities 2,980 - 1,737
Purchases of available-for-sale investment securities (24,000) (1,500) (500)
Purchases of held-to-maturity investment securities - (17,114) (3,492)
Purchases of mortgage-backed securities (9,927) - -
Principal repayments on mortgage-backed securities 1,480 4,965 3,049
Purchase of loans receivable (87,055) (14,401) (2,465)
Net (increase) decrease in loans 31,224 10,223 (8,424)
Proceeds from sale of FHLB stock 352 - -
Proceeds from sales of real estate acquired in settlement of loans 109 1,080 986
Capitalized costs of real estate acquired in settlement of loans - (450) (138)
Proceeds from sale of office properties and equipment 10 - -
Acquisition of office properties and equipment (209) (101) (28)
--------- --------- ---------
Net cash provided by (used in) investing activities (69,421) 2,702 7,325
--------- --------- ---------
</TABLE>
F-5
<PAGE>
HERITAGE BANCORP, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED SEPTEMBER 30, 1999, 1998 AND 1997
(In Thousands of Dollars)
- -------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Years Ended September 30,
----------------------------------
1999 1998 1997
<S> <C> <C> <C>
FINANCING ACTIVITIES:
Net (decrease) increase in deposits $ 278 $(9,308) $ 5,682
Net proceeds from sale of common stock - 62,421 -
Principal repayments on Federal Home Loan Bank borrowings - - (5,000)
Advances from Federal Home Loan Bank 30,000 - -
Purchase of treasury stock (7,479) - -
Cash distribution to stockholders (16,129) - -
Dividend payment (1,221) - -
-------- -------- -------
Net cash provided by financing activities 5,449 53,113 682
-------- -------- -------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (60,394) 59,261 8,784
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 73,920 14,659 5,875
-------- -------- -------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 13,526 $ 73,920 $14,659
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the year for:
Interest $ 10,913 $ 11,988 $12,250
-------- -------- -------
Income taxes $ 2,191 $ 1,815 $ 553
-------- -------- -------
SUPPLEMENTAL DISCLOSURE OF NON-CASH TRANSACTIONS:
Transfers from loans to real estate acquired in settlement of loans $ 102 $ 281 $ 996
-------- -------- -------
Increase (decrease) in net unrealized gain on available-for-sale
investment securities $ (54) $ 635 $ 543
-------- -------- -------
Sale of common stock to ESOP $ - $ 5,555 N/A
-------- -------- -------
Transfer of common stock from treasury stock to MRDP Plan $ 3,818 $ - $ -
-------- -------- -------
</TABLE>
See notes to consolidated financial statements.
F-6
<PAGE>
HERITAGE BANCORP, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED SEPTEMBER 30, 1999, 1998 AND 1997
- -------------------------------------------------------------------------------
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation and Conversion to Capital Stock Form of Ownership -
Heritage Bancorp, Inc. (the "Corporation") was incorporated under Delaware
law in November 1997 by Heritage Federal Savings and Loan Association (the
"Association") in connection with the conversion of the Association from a
federally chartered mutual savings and loan association to a federally
chartered stock savings and loan association, the issuance of the
Association's stock to the Corporation and the offer and sale of the
Corporation's common stock by the Corporation (the "Conversion").
On April 7, 1998, the Corporation issued approximately 4.6 million shares
of common stock for proceeds of approximately $69.4 million (net of costs
of $1.4 million). The Association issued all of its outstanding capital
stock to the Corporation in exchange for one-half of the net proceeds from
the sale of the Corporation's stock. The Corporation accounted for the
purchase of the Association in a manner similar to a pooling of interest
whereby assets and liabilities of the Association maintain their
historical cost basis in the consolidated company.
In April 1998, the Association changed its name to Heritage Federal Bank
(the "Bank").
Principles of Consolidation - The accompanying consolidated financial
statements include the accounts of the Corporation and its wholly owned
subsidiary, the Bank (collectively referred to herein as the "Company").
All significant intercompany balances and transfers have been eliminated
in consolidation. The following is a description of the significant
accounting policies which the Company follows in preparing and presenting
its consolidated statements.
Basis of Accounting - The accounting and reporting policies of the Company
conform to generally accepted accounting principles and, additionally, the
Bank conforms to reporting practices generally followed within the savings
and loan industry.
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. Material estimates that are particularly susceptible to
change relate to the determination of the allowance for loan losses and
the valuation of real estate owned.
Cash and Cash Equivalents - For purposes of reporting cash flows, cash and
cash equivalents includes cash on hand, federal funds sold, overnight
interest-bearing deposits and amounts due from depository institutions.
F-7
<PAGE>
Investment and Mortgage-Backed Securities - Debt securities that the
Company has the positive intent and ability to hold to maturity are
classified as "held-to-maturity" securities and reported at amortized
cost. Debt and equity securities that are bought and held principally for
the purpose of selling in the near term are classified as "trading"
securities and reported at fair value with unrealized gains and losses
included in earnings. Debt and equity securities not classified as either
held-to-maturity or trading securities are classified as
"available-for-sale" securities and reported at fair value with unrealized
gains and losses excluded from earnings and reported, net of taxes, as a
separate component of equity. No securities have been classified as
trading securities.
Realized gains and losses on investment securities are recognized at the
time of sale based upon the specific identification method.
Loans - Loans receivable that management has the intent and ability to
hold for the foreseeable future or until maturity or pay-off are reported
at their outstanding principal amounts, adjusted for any charge-offs,
allowance for loan losses and any deferred fees or costs on originated
loans and unamortized premiums or discounts on purchased loans.
Discounts and premiums on purchased residential real estate loans are
amortized to income using the interest method over the remaining period to
contractual maturity, adjusted for anticipated prepayments.
Loan origination fees and certain direct origination costs are capitalized
and recognized as an adjustment of the yield of the related loan.
Nonaccrual loans are those loans on which the accrual of interest has
ceased. Loans are placed on nonaccrual status if, generally, in the
opinion of management, principal or interest is not likely to be paid in
accordance with the terms of the loan agreement, or when principal or
interest is past due more than 90 days. Interest accrued but not collected
at the date a loan is placed on nonaccrual status is reversed against
interest income in the current period. Interest income on nonaccrual loans
is recognized only to the extent received in cash.
Restructured loans are those for which concessions, such as the reduction
of interest rates or deferral of interest or principal payments, have been
granted due to a deterioration in the borrowers' financial condition. The
difference between interest that would have been recognized under the
original terms of nonaccrual and renegotiated loans and interest actually
recognized on such loans was not a material amount for the years ended
September 30, 1999, 1998 and 1997.
Allowances for Losses - The Company maintains allowances for loan losses.
Provisions for losses are charged to income when, in the opinion of
management, losses are probable.
The allowance for loan losses is based upon management's evaluation of the
loan portfolio. The evaluation considers such factors as the delinquency
status of loans, current economic conditions, the fair value of the
underlying collateral and prior loan loss experience.
Recovery of the carrying value of loans is dependent to some extent on
future economic, operating and other conditions that may be beyond the
Company's control. Unanticipated future adverse changes in such conditions
could result in material adjustments to allowances (and future results of
operations).
F-8
<PAGE>
Loans Held-for-Sale - Loans intended for sale in the secondary market are
stated at the lower of cost or estimated market value as determined by
outstanding commitments from investors, or current investor market yield
requirements, calculated on an aggregate basis. Net unrealized losses are
recognized in a valuation allowance by charges against income.
Office Properties and Equipment - Office properties and equipment are
stated at cost less accumulated depreciation. Depreciation is computed
over the estimated useful lives of the related assets using straight-line
and accelerated methods.
Real Estate Acquired in Settlement of Loans - Real estate acquired in
settlement of loans initially is stated at fair value at the date of
foreclosure, thereby establishing a new cost basis. Valuations are
performed periodically by management and allowances for losses are
established when the cost of real estate acquired in settlement of loans
exceeds fair value less estimated costs to sell. Revenues, expenses and
additions to the valuation allowance related to real estate acquired in
settlement of loans are charged to operations.
Fair values are based primarily on independent appraisals of market value.
Recovery of estimated fair value is dependent to a great extent on
economic, operating and other conditions that may be beyond the Company's
control. Accordingly, these estimates are particularly susceptible to
changes that could result in a material adjustment in the near term.
Advertising Costs - The Company expenses advertising costs as incurred.
Income Taxes - Provisions for income taxes are based on amounts reported
in the statements of income (after exclusion of nontaxable income such as
interest on municipal securities) and include changes in deferred income
taxes. Deferred tax assets and liabilities are reflected at currently
enacted income tax rates applicable to the period in which the deferred
tax assets or liabilities are expected to be realized or settled. As
changes in tax laws or rates are enacted, deferred tax assets and
liabilities are adjusted through the provision for income taxes.
Earnings Per Share - As the Company's initial public offering ("IPO")
closed on April 7, 1998, earnings per share for the year ended September
30, 1997 is not presented. Additionally, for the year ended September 30,
1998, earnings per share has been calculated based only on net income and
average outstanding shares for the period April 1, 1998 through September
30, 1998 (the period subsequent to the IPO).
Basic earnings per share is computed by dividing net income by the
weighted average number of shares of common stock outstanding during the
year adjusted for the weighted average number of unallocated shares held
by the Employee Stock Ownership Plan ("ESOP"). Diluted earnings per share
reflects the effect on weighted average shares outstanding of the number
of additional shares outstanding if dilutive stock options (Note 11) were
converted into common stock using the treasury stock method.
A reconciliation of the weighted average shares outstanding for the years
ended September 30, 1999 and 1998 follows:
1999 1998
--------- ---------
Basic shares 4,179,576 4,264,627
Dilutive impact of stock options 66,947 --
--------- ---------
Diluted shares 4,246,523 4,264,627
========= =========
F-9
<PAGE>
Recently Issued Accounting Standards - The Financial Accounting Standards
Board ("FASB") recently issued four new accounting standards that will
affect accounting, reporting and disclosure of financial information by
the Company. Adoption of these standards is not expected to have a
material impact on the financial condition or results of operations. The
following is a summary of the standards and their required implementation
dates:
. SFAS No. 130, Reporting Comprehensive Income - This statement
establishes standards for reporting and disclosure of comprehensive
income and its components (revenues, expenses, gains and losses).
This statement requires that all items that are required to be
recognized under accounting standards as components of comprehensive
income (including, for example, unrealized holding gains and losses
on available-for-sale securities) be reported in a financial
statement similar to the statement of income and retained income. The
accumulated balance of other comprehensive income is disclosed
separately from retained income in the equity section of the balance
sheet. The Company adopted this statement for the fiscal year ended
September 30, 1999.
. SFAS No. 131, Disclosures About Segments of an Enterprise and Related
Information - This statement establishes standards for the way public
business enterprises report information about operating segments and
establishes standards for related disclosures about products and
services, geographic areas and major customers. Operating segments
are components of an enterprise about which separate financial
information is available that is evaluated regularly by the chief
operating decision maker in deciding how to allocate resources and in
assessing performance. Information required to be disclosed includes
segment profit or loss, certain specific revenue and expense items,
segment assets and certain other information. The Company adopted
this statement for the fiscal year ended September 30, 1999. As a
community-oriented financial institution, substantially all of the
Company's operations involve the delivery of loan and deposit
products to customers. Management makes operating decisions and
assesses performance based on an ongoing review of these community
banking operations, which constitute the Company's only operating
segment for financial reporting purposes under SFAS No. 131.
. SFAS No. 133, Accounting for Derivative Instruments and Hedging
Activities- This statement establishes accounting and reporting
standards for derivative instruments, including certain derivative
instruments embedded in other contracts (collectively referred to as
derivatives) and for hedging activities. The new standard requires
that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those
instruments at fair value. SFAS No. 137 delayed the implementation
date for this standard and, as a result, it will become effective for
the Company for the fiscal year beginning October 1, 2000. The
Company is in the process of evaluating the effect of SFAS No. 133 on
its financial position and results of operations, and therefore is
unable to estimate the effect of the adoption.
Reclassifications - Certain 1998 and 1997 amounts have been reclassified
to conform with the 1999 presentation.
F-10
<PAGE>
2. INVESTMENT SECURITIES
Investment securities at September 30, 1999 and 1998 are summarized as
follows (in thousands of dollars):
<TABLE>
<CAPTION>
Gross Gross
Amortized Unrealized Unrealized Fair
September 30, 1999 Cost Gains Losses Value
<S> <C> <C> <C> <C>
Held-to-maturity - U.S. Government
Agency obligations $ 3,499 $ - $ 19 $ 3,480
--------- --------- --------- ---------
Available-for-sale:
U.S. Treasury obligations $ 500 $ - $ - $ 500
U.S. Government Agency obligations 21,999 - 242 21,757
FHLMC common stock 57 3,492 - 3,549
--------- --------- --------- ---------
Total $ 22,556 $ 3,492 $ 242 $ 25,806
========= ========= ========= =========
<CAPTION>
Gross Gross
Amortized Unrealized Unrealized Fair
September 30, 1998 Cost Gains Losses Value
<S> <C> <C> <C> <C>
Held-to-maturity - U.S. Government
Agency obligations $ 17,112 $ 96 $ - $ 17,208
--------- --------- --------- ---------
Available-for-sale:
U.S. Treasury obligations $ 1,506 $ 9 $ - $ 1,515
U.S. Government Agency obligations 2,000 9 - 2,009
FHLMC common stock 57 3,317 - 3,374
--------- --------- --------- ---------
Total $ 3,563 $ 3,335 $ - $ 6,898
========= ========= ========= =========
</TABLE>
The amortized cost and fair value of debt securities at September 30, 1999,
by contractual maturity, follow (in thousands of dollars):
<TABLE>
<CAPTION>
Available-for-Sale Held-to-Maturity
-------------------------- -----------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
<S> <C> <C> <C> <C>
Due in one year or less $ 500 $ 500 $ - $ -
Due after one year through five years 20,999 20,767 3,499 3,480
Due after five years through ten years 1,000 990 - -
--------- --------- --------- ---------
Total $ 22,499 $ 22,257 $ 3,499 $ 3,480
========= ========= ========= =========
</TABLE>
There were no gross realized gains on sales of available-for-sale
securities in fiscal 1999, 1998 and 1997. Gross realized losses on sales of
available-for-sale investment securities were $20,000 in fiscal 1999, none
in fiscal 1998 and $13,000 in fiscal 1997.
F-11
<PAGE>
Investment securities totaling $900,000 at September 30, 1999 were pledged
as collateral for public deposits.
3. MORTGAGE-BACKED SECURITIES
Fixed rate mortgage-backed securities are classified as held-to-maturity
investments and consist of the following types of investments (in thousands
of dollars):
<TABLE>
<CAPTION>
Amortized Fair Amortized Fair
September 30, 1999 Cost Value Cost Value
<S> <C> <C> <C> <C>
FNMA $ 328 $ - $ 3 $ 325
GNMA 9,819 81 - 9,900
--------- --------- --------- ---------
Total $ 10,147 $ 81 $ 3 $ 10,225
========= ========= ========= =========
September 30, 1998
FNMA $ 553 $ 3 $ 2 $ 554
FHLMC 1,142 - 5 1,137
--------- --------- --------- ---------
Total $ 1,695 $ 3 $ 7 $ 1,691
========= ========= ========= =========
</TABLE>
The amortized cost and fair value of mortgage-backed securities by
contractual maturity, was as follows at September 30, 1999 (in thousands of
dollars):
<TABLE>
<CAPTION>
Amortized Fair
Cost Value
<S> <C> <C>
Due in one year or less $ - $ -
Due after one year through five years 328 325
Due after five year through ten years - -
Due after ten years 9,819 9,900
--------- ---------
Total $ 10,147 $ 10,225
========= =========
</TABLE>
F-12
<PAGE>
4. LOANS RECEIVABLE
Loans receivable consist of the following (in thousands of dollars):
<TABLE>
<CAPTION>
September 30,
-----------------------------
1999 1998
<S> <C> <C>
Mortgage loans:
Residential (1-4 family) $ 186,525 $ 173,891
Builder construction loans 61,428 11,261
Commercial loans 32,981 14,484
Savings account loans 1,127 1,077
Home equity loans 9,424 8,925
Commercial loans 3,679 2,785
Consumer loans 187 -
--------- ---------
Total loans 295,351 212,423
Less:
Undisbursed portion of loans in process (41,608) (14,514)
Deferred loan origination fees (373) (360)
Allowance for loan losses (1,356) (760)
--------- ---------
Total $ 252,014 $ 196,789
========= =========
Weighted average interest rate of loans 8.01% 8.02%
========= =========
</TABLE>
Subsequent to August 9, 1989, the Bank may not make loans to one borrower
in excess of 15% of unimpaired capital under regulations of the Office of
Thrift Supervision ("OTS"). At September 30, 1999, the Company had loans
outstanding to individual borrowers ranging up to $6 million and was in
compliance with this regulation.
The Bank periodically sells mortgage loans in the secondary market.
Generally such loans are sold without recourse and servicing is retained.
Servicing loans for others consists of collecting mortgage payments,
maintaining escrow accounts, disbursing payments to investors and
foreclosure processing. Loan servicing income is recorded on the accrual
basis and includes servicing fees received from investors as well as
certain charges collected from borrowers, such as late payment fees. At
September 30, 1999, 1998 and 1997, the Bank serviced loans for others with
total balances outstanding of $3.0 million, $4.1 million and $5.4 million,
respectively, and held borrowers' escrow balances in the amounts of
$26,000, $32,000 and $41,000, respectively.
The following is a reconciliation of the allowance for loan losses for the
years ended September 30, 1999, 1998 and 1997 (in thousands of dollars):
<TABLE>
<CAPTION>
Years Ended
September 30,
-----------------------------------
1999 1998 1997
<S> <C> <C> <C>
Balance at beginning of year $ 760 $ 874 $ 670
Provision for losses (recovery of allowance) 596 (105) 337
Write-offs - (9) (133)
Recoveries - - -
------- ------- -------
Balance at end of year $ 1,356 $ 760 $ 874
======= ======= =======
</TABLE>
F-13
<PAGE>
The total principal amount of impaired loans recognized in conformity with
FASB Statement No. 114, as amended by FASB Statement No. 118, was
immaterial at September 30, 1999 and 1998.
Directors and officers of the Company are customers of the institution in
the ordinary course of business. Deposits and loans of directors and
officers have terms consistent with those offered to other customers. At
September 30, 1999 and 1998, loans to officers or directors of the Company
totaled approximately $477,000 and $503,000, respectively.
5. OFFICE PROPERTIES AND EQUIPMENT
Office properties and equipment are summarized as follows (in thousands of
dollars):
September 30,
--------------------
1999 1998
Land $ 233 $ 237
Land improvements 271 271
Office buildings 3,592 3,457
Furniture, fixtures and equipment 1,329 1,254
Total 5,425 5,219
Less accumulated depreciation (1,392) (1,116)
-------- --------
Office properties and equipment - net $ 4,033 $ 4,103
======== ========
6. DEPOSIT ACCOUNTS
Deposit accounts are as follows (in thousands of dollars):
September 30,
--------------------
1999 1998
Account Type
Passbook Accounts (1999 - 1.94%; 1998 - 2.7%) $ 9,589 $ 9,946
-------- --------
NOW Accounts (1999 - .76%; 1998 - 2.1%) 5,290 2,627
-------- --------
Money Market Deposit Accounts (1999 - 4.24%;
1998 - 3.0%) 9,471 828
-------- --------
Certificates of Deposit:
2.01-3.00% 1,131 -
3.01-4.00% 347 5,198
4.01-5.00% 70,718 2,338
5.01-6.00% 96,210 137,246
6.01-7.00% 12,693 46,895
7.01-8.00% 933 1,026
-------- --------
Total certificates of deposit 182,032 192,703
-------- --------
Total $206,382 $206,104
======== ========
Weighted average rate:
Savings certificates 5.28% 5.82%
All deposit accounts 4.95% 5.62%
F-14
<PAGE>
At September 30, 1999, deposit accounts with balances of $100,000 and
greater totaled approximately $61.5 million. Deposits in excess of $100,000
are not federally insured. The Company does not accept brokered deposits.
Maturities of certificates of deposits (in thousands of dollars):
Year Ended September 30, 1999
Maturing:
Within 1 year $ 137,618
After 1 but within 2 years 41,039
After 2 but within 3 years 2,726
After 3 but within 4 years 414
After 4 but within 5 years 235
---------
Total $ 182,032
=========
Interest expense by type of deposit is summarized as follows (in thousands
of dollars):
Years Ended September 30,
-----------------------------------
1999 1998 1997
Demand accounts:
Passbook $ 201 $ 304 $ 340
NOW and Money Market Accounts 297 90 89
Certificate accounts 10,299 11,616 11,575
--------- --------- ---------
Total $ 10,797 $ 12,010 $ 12,004
========= ========= =========
7. SHORT-TERM AND LONG-TERM BORROWING ARRANGEMENTS WITH FEDERAL HOME LOAN BANK
OF ATLANTA
The following table summarizes information regarding short-term Federal
Home Loan Bank of Atlanta ("FHLB") advances (in thousands):
<TABLE>
<CAPTION>
Years Ended September 30,
-----------------------------------
1999 1998 1997
<S> <C> <C> <C>
Balance $ 10,000 $ 0 $ 0
Weighted average interest rate 5.75% 0.00% 0.00%
Maximum amount outstanding at any month-end 10,000 0 5,000
Average amount outstanding during the year 833 0 3,082
Weighted average interest rate during the year 5.39% 0.00% 7.33%
</TABLE>
F-15
<PAGE>
The following table summarizes information regarding long-term FHLB
advances at September 30, 1999; there were no long-term FHLB advances at
September 30, 1998 (in thousands):
Maturity Date Amount Rate
August 9, 2009 $ 14,000,000 4.950%
August 13, 2009 $ 6,000,000 6.385%
The long-term FHLB advances listed above have conversion provisions which
allow the FHLB to request that the advance be converted into a three month
LIBOR-based floating rate advance. The $14 million advance could be
converted on a quarterly basis beginning on February 7, 2000. The $6
million advance could be converted on August 13, 2004.
The Company pledged as collateral for these borrowings its FHLB stock and
has entered into blanket collateral agreements with the FHLB whereby the
Company maintains, free of other encumbrances, qualifying mortgages (as
defined) with unpaid principal balances, when discounted at 75% of the
unpaid principal balances, of at least 100% of total advances.
Additionally, the Company may borrow under various line of credit programs
with the FHLB. Any amounts advanced to the Company under these programs are
secured by the Company's investment securities and bear interest at an
adjustable rate with interest payable monthly. At September 30, 1999 and
1998, the Company had no amounts outstanding with the FHLB under these
lines of credit.
8. INCOME TAXES
The tax effects of significant items comprising the Company's net deferred
tax liability as of September 30, 1999 and 1998 are as follows (in
thousands of dollars):
<TABLE>
<CAPTION>
September 30,
-------------------------
1999 1998
<S> <C> <C>
Deferred tax assets:
Allowance for loan losses $ 473 $ 260
Deferred loan fees 141 23
Difference between book and tax compensation under the ESOP 73 34
Difference between book and tax compensation under the MRDP Plan 83 -
Other - 62
------ ------
Total 770 379
------ ------
Deferred tax liabilities:
Difference between book and tax basis of Federal Home Loan
Bank stock 264 336
Unrealized gain on investments available-for-sale 1,203 1,234
Difference between book and tax basis of fixed assets 78 44
Recapture of tax basis bad debt reserve arising after December 31, 1987 158 214
Other 4 -
------ ------
Total 1,707 1,828
------ ------
Net deferred tax liability $ 937 $1,449
====== ======
</TABLE>
F-16
<PAGE>
The net deferred tax liability at September 30, 1999 and 1998 is included
in "other liabilities" in the balance sheet.
The provision for income taxes is summarized as follows (in thousands of
dollars):
Years Ended September 30,
--------------------------------
1999 1998 1997
Current provision:
Federal $ 2,289 $ 1,842 $ 553
State 223 159 13
------- ------- -------
Total current 2,512 2,001 566
------- ------- -------
Deferred (benefit) provision:
Federal (404) (61) 443
State (77) (11) 85
------- ------- -------
Total deferred (481) (72) 528
------- ------- -------
Total provision for income taxes $ 2,031 $ 1,929 $ 1,094
======= ======= =======
No valuation allowance on deferred tax assets has been established as
management believes that the existing deductible temporary differences will
reverse during periods in which the Bank generates net taxable income.
In years ended September 30, 1996 and prior, the Bank was allowed under the
Internal Revenue Code to deduct, subject to certain conditions, an annual
addition to a reserve for bad debts ("reserve method") in determining
taxable income. Legislation enacted in August 1996 repealed the reserve
method effective for the Bank beginning with the fiscal year ended
September 30, 1997.
Deferred income taxes have been provided on differences between the bad
debt reserve for tax purposes determined under the formerly used reserve
method and the loan loss allowance for financial accounting purposes only
to the extent of differences arising subsequent to December 31, 1987. Under
the legislation previously mentioned, the Bank was required to recapture
the post-1987 tax bad debt reserve of approximately $834,000 into expense
over a six-year period beginning with the fiscal year ended September 30,
1998. Since a deferred tax liability has been provided on this difference,
the recapture will have no impact on equity or results of operations.
Retained earnings as of September 30, 1999 includes approximately $4.9
million representing reserve method bad debt reserves originating prior to
December 31, 1987 for which no deferred income taxes are required to be
provided. These reserves may be included in taxable income if the Bank pays
dividends in excess of its accumulated earnings and profits (as defined by
the Internal Revenue Code) or in the event of a distribution in partial or
complete liquidation of the Bank.
F-17
<PAGE>
Income taxes differed from amounts computed by applying the statutory
federal rate of 34% to income before income taxes as follows (in thousands
of dollars):
<TABLE>
<CAPTION>
Years Ended September 30,
-------------------------------------
1999 1998 1997
<S> <C> <C> <C>
Tax at statutory federal income tax rate (34%) $ 1,492 $ 1,824 $ 1,036
Increase (decrease) resulting from:
State income taxes 97 98 66
ESOP compensation not deductible for tax 383 - -
MRDP Plan compensation not deductible for tax 22 - -
Other - net 37 7 (8)
------- ------- -------
Total $ 2,031 $ 1,929 $ 1,094
------- ------- -------
Effective rate 46.3% 36.0% 35.9%
</TABLE>
9. COMMITMENTS AND CONTINGENCIES
Loan Commitments - Loan commitments are agreements to lend to a customer as
long as there is no violation of any condition established in the contract.
Commitments extend over various periods of time with the majority of such
commitments disbursed within a ninety day period. Commitments generally have
fixed expiration dates or other termination clauses and may require payments
of fees. Commitments to extend credit at fixed rates exposes the Company to
some degree of interest rate risk. The Company evaluates each customer's
creditworthiness on a case-by-case basis. The type or amount of collateral
obtained varies and is based on management's credit evaluation of the
potential borrower. At September 30, 1999, the Company had loan commitments,
excluding undisbursed portions of interim construction loans, of approximately
$2.3 million.
At September 30, 1999, the Company had approved home equity lines of credit
approximating $18.6 million, of which approximately $9.4 million was in use
and approximately $9.2 million was available for use.
The Company leases various property and equipment. The effect of these leases
on the financial position or results of operations is insignificant.
The Company has no additional financial instruments with off-balance sheet
risk.
Potential Impact of Changes in Interest Rates - The Company's profitability
depends to a large extent on its net interest income, which is the difference
between interest income from loans and investments and interest expense on
deposits. Like most financial institutions, the Company's short-term interest
income and interest expense are significantly affected by changes in market
interest rates and other economic factors beyond its control. The Company's
interest earning assets consist primarily of long-term, fixed rate and
adjustable rate mortgage loans and investments which adjust more slowly to
changes in interest rates than its interest bearing liabilities which are
deposits. Accordingly, the Company's earnings could be affected adversely
during periods of rising interest rates.
Litigation - The Company is involved in legal actions in the normal course of
business. Management, based on advice of counsel, does not expect any material
losses from current litigation.
Concentrations of Credit Risk - The Company's business activity is principally
with customers located in South Carolina. Except for residential loans in the
Company's market area, the Company has no other significant concentrations of
credit risk.
F-18
<PAGE>
Employment and Severance Agreement - Both the Corporation and the Bank
have entered into an employment agreement with J. Edward Wells, Chief
Executive Officer. The employment agreement establishes the duties and
compensation of Mr. Wells and has been executed in order to ensure a
stable and competent management base. The employment agreement provides
for an initial term of three years. The Board of Directors may agree after
conducting a performance evaluation of the executive, to extend an
employment agreement on each anniversary date for an additional year. The
employment agreement generally provides for the continued payment of
specified compensation and benefits for the remaining term of the
agreement after Mr. Wells is terminated, unless the termination is for
"cause" as defined in the employment agreement. Additionally, the
employment agreements provide for severance payments if employment is
terminated following a change in control in the amount of 2.99 times the
average annual compensation paid during the five years immediately
preceding the change in control to the respective executive.
Severance Agreements - The Bank and the Corporation have entered into
severance agreements with four senior officers ("officers") (none of whom
have entered into employment agreements) with an initial term of two
years. The Board of Directors may agree after conducting a performance
evaluation of the officers, to extend an employment agreement on each
anniversary date for an additional year. The severance agreements provide
for severance payments in the amount of 2 times annual salary during the
12-month period preceding the change in control in connection with
termination or other specified actions in the event of a change in control
of the Company.
Employee Severance Compensation Plan ("Severance Plan") - In general, all
employees (except for executives and officers who have entered into
separate employment or severance agreements) are eligible to participate
in the Severance Plan. Under the Severance Plan, employees terminated
within 12 months of a change in control are entitled to a severance
benefit up to 52 weeks of their current compensation based upon length of
service.
10. BENEFIT PLANS
401(k) Plan - The Company provides retirement benefits by means of a
401(k) plan for substantially all employees over the age of twenty-one who
have completed six months of employment. Under the plan, employees may
defer from 1% to 10% of their compensation to be contributed to the plan.
The Company is allowed to make discretionary contributions, subject to
certain limitations. Participants are 100% vested upon participation in
the plan.
Total expense under the retirement plan for the years ended September 30,
1999, 1998 and 1997 was approximately $28,000, $67,000 and $151,000,
respectively.
The Company provides no other post-employment benefits.
Employee Stock Ownership Plan ("ESOP") - The ESOP is a noncontributory
retirement plan adopted by the Company effective January 1, 1997 that
includes all employees who meet minimum eligibility requirements. The ESOP
acquired 370,000 shares of the Corporation's common stock in the
Conversion at a price of $15 per share with proceeds of a loan from the
Corporation in the amount of approximately $5.6 million. The Bank makes
periodic cash contributions to the ESOP in an amount sufficient for the
ESOP to make the scheduled payments under the note payable to the
Corporation. In connection with the cash distribution (discussed in Note
12), the ESOP received approximately $1.4 million on its shares of the
Company's common stock. The ESOP used these funds to prepay a portion of
the ESOP's debt obligation to the Company resulting in a charge of
approximately $1.2 million of compensation expense and the release of
additional share to the plan participants.
F-19
<PAGE>
The note payable has a term of 15 years, bears interest at 8.5% and
requires a level quarterly payment of principal and interest of
approximately $124,000. The note is collateralized by the shares of common
stock held by the ESOP. As the note is repaid, shares are released from
collateral based on the proportion of the payment in relation to total
payments required to be made on the loan. The shares released from
collateral are then allocated to participants based upon compensation.
Compensation expense is determined by multiplying the per share market
price of the Corporation's stock at the time the shares are committed to
be released by the number of shares to be released. Any difference between
the value of the released shares at market and cost is recorded as an
addition or deduction to additional paid-in capital. The Company
recognized approximately $1.5 million, including cash distribution, and
$243,000 in compensation expense in the years ended September 30, 1999 and
1998, respectively, related to the ESOP.
The cost of the unallocated shares is reflected as a reduction of equity.
Unallocated shares are considered neither outstanding shares for
computation of basic earnings per share nor potentially dilutive
securities for computation of diluted earnings per share. Dividends on
unallocated ESOP shares are reflected as a reduction in the note payable
(and the Bank's contribution reduced accordingly).
Shares released or committed to be released for allocation during the year
ended September 30, 1999 and 1998 totaled 80,371 and 12,342, respectively.
Shares remaining not released or committed to be released for allocation
at September 30, 1999 and 1998 totaled 277,587 and 357,958 and had a
market value of approximately $4.7 million and $6.2 million, respectively,
based on the trading market price of the Company's stock at that date.
11. STOCK COMPENSATION PLANS
Management Recognition and Development Plan - On April 15, 1999, 185,150
shares of restricted stock were awarded to participants in the Heritage
Bancorp, Inc. Management Recognition and Development Plan ("MRDP") that
was approved at the Company's Annual Meeting of Stockholders on February
3, 1999. The restricted stock awards vest over a five-year period. The
185,150 shares of stock were issued from treasury stock on the date of the
grant. The Company recorded the stock award at the market value on the
date of grant ($18.75 per share) as unearned MRDP shares in stockholders'
equity and will amortize the unearned MRDP shares to compensation expense
over the vesting period.
As a result of the payment of the cash distribution (see Note 12),
approximately $741,000 was paid on unvested shares included in the
Company's MRDP and such payment was accounted for as compensation expense.
Unearned MRDP shares were reduced (with a corresponding charge to
additional paid-in capital) to reflect the reduction in the value of the
shares held by the Plan.
Stock Option Plan - On April 15, 1999, the Company adopted the 1998
Heritage Bancorp, Inc. Stock Option Plan ("SOP"), which allows the
granting to management and directors the option to purchase common stock
of the Corporation ("options") aggregating to 416,588 shares. On April 15,
1999, the 416,588 options were granted to employees and non-employee
directors. The exercise price equaled the fair market value of the shares
on the date of grant; therefore, no compensation expense was recorded. The
non-employee director options vest immediately and the employee options
vest 50% on date of grant and 50% one year from date of grant. Each option
has a term of 10 years.
F-20
<PAGE>
A summary of stock option activity under the SOP is detailed as follows:
<TABLE>
<CAPTION>
Weighted
Average
Exercise
Shares Price
<S> <C> <C>
Outstanding, October 1, 1998 -
Granted 416,588 $ 15.10
Forfeited -
-------
Outstanding, September 30, 1999 416,588 $ 15.10
-------
Exercisable at September 30, 1999 291,594
-------
</TABLE>
The following table summarized information about stock options outstanding
at September 30, 1999:
Weighted
Average
Remaining
Contractual
Exercise Number Life in
Price Outstanding Years
$15.10 416,588 9.5
In connection with the cash distribution (see Note 12), the exercise price
of all options was adjusted in accordance with FASB Emerging Issues Task
Force Issue No. 90-9 "Changes to Fixed Employee Stock Option Plans as a
Result of Equity Restructuring." The weighted average reduction in
exercise price was $3.65 per share.
F-21
<PAGE>
The Company accounts for stock option awards using the intrinsic value
method and has recognized no compensation expense for the year ended
September 30, 1999. SFAS 123, Accounting for Stock-Based Compensation,
permits the use of the intrinsic value method; however, requires the
Company to disclose the pro forma net income and earnings per share as if
the stock based compensation had been accounted for using the fair value
method. Had the compensation costs for the Company's stock option plan
been determined based on the fair value method, the Company's net income
and earnings per share would have been reduced to the pro form amounts
indicated below (in thousands except per share data):
Amount
Net income:
As reported $ 2,356
Pro forma $ 1,623
Basic earnings per share:
As reported $ 0.56
Pro forma $ 0.39
Diluted earnings per share:
As reported $ 0.56
Pro forma $ 0.38
Weighted average fair value of an
option share granted during the year $ 3.93
The fair value of stock options granted by the Company was estimated
through the use of the Black-Scholes option pricing model applying the
following assumptions:
Risk-free interest rate 5.05%
Expected option life 5 years
Expected volatility 25%
Expected dividend yield 2%
12. EQUITY
Liquidation Account - At the time of Conversion, the Bank established a
liquidation account totaling approximately $29.8 million for the benefit
of eligible account holders as of June 30, 1996 and December 31, 1997 who
continue to maintain their accounts at the Bank after the Conversion. The
liquidation account will be reduced annually to the extent that eligible
account holders have reduced their qualifying deposits. Subsequent
increases will not restore an eligible account holder's interest in the
liquidation account. In the event of a complete liquidation of the Bank,
each eligible account holder will be entitled to receive a distribution
from the liquidation account in an amount proportionate to the current
adjusted qualifying balances for accounts then held before any
distribution may be made to the Corporation with respect to the Bank's
capital stock.
Dividends - The Corporation's sources of income and funds for dividends to
its stockholders are earnings on its investments and dividends from the
Bank. The Corporation is not subject to any regulatory restrictions on the
payment of dividends to its stockholders. However, the Bank's primary
regulator, the Office of Thrift Supervision ("OTS"), has regulations that
impose certain restrictions on payment of dividends to the Corporation.
F-22
<PAGE>
Current regulations of the OTS allow the Bank (based upon its current
capital level and supervisory status assigned by the OTS) to pay a
dividend of up to 100% of net income to date during the calendar year,
plus 50% of its surplus capital existing at the beginning of the calendar
year. Supervisory approval is not required, but 30 days prior notice to
the OTS is required. Any capital distribution in excess of this amount
would require supervisory approval. Capital distributions are further
restricted should the Bank's capital level fall below the full phased-in
capital requirements of the OTS. In no case will the Bank be allowed to
make a capital distribution in excess of the balance of the liquidation
account. The Bank declared dividends to the Corporation amounting to $1.3
million and $694,000 in the years ended September 30,1999 and 1998,
respectively.
Distributions - On June 22, 1999 the Corporation paid a cash distribution
of $16.1 million, or $4.00 per share, to its stockholders. The
distribution has been accounted for as a return of capital and reflected
in the Company's financial records as a reduction of additional paid-in
capital.
Share Repurchases - OTS regulations also place restrictions for a
three-year period after the conversion on the Corporation with respect to
repurchases of its common stock. Generally, the Corporation is not allowed
to repurchase stock in the first year after Conversion, and is allowed to
repurchase 5% of its outstanding shares in each of the next two years
after Conversion. However, in the year ended September 30, 1999, the OTS
approved two stock repurchase programs which allow the Corporation to
purchase up to 416,588 shares of its common stock. During the year ended
September 30, 1999, the Corporation purchased 387,130 shares of its common
stock under these repurchase programs. Restrictions apply, unless the OTS
approves a waiver for benefit plans.
Regulatory Capital Requirements - The Corporation is not subject to any
regulatory capital requirements. However, the Bank is subject to various
regulatory capital requirements administered by the federal financial
institution regulatory 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 also are 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. Under regulations
of the OTS, the Company must satisfy certain minimum capital requirements,
including a leverage capital requirement (expressed as a ratio of core or
Tier I capital to adjusted total assets) and risk-based capital
requirements (expressed as a ratio of core or Tier I capital and total
capital to total risk-weighted assets). As an OTS regulated institution,
the Bank also is subject to a minimum tangible capital requirement
(expressed as a ratio of tangible capital to adjusted total assets). In
measuring compliance with all three capital standards, institutions must
deduct from their capital (with several exceptions primarily for mortgage
banking subsidiaries and insured depository institution subsidiaries)
their investments in, and advances to, subsidiaries engaged (as principal)
in activities not permissible for national banks, and certain other
adjustments. Management believes, as of September 30, 1999, that the Bank
meets all capital adequacy requirements to which it is subject.
F-23
<PAGE>
As of September 30, 1999 and 1998, the most recent respective
notifications from the OTS classified the Bank as well capitalized under
the regulatory framework for prompt corrective action. To be categorized
as well capitalized, the Bank must maintain minimum total risk-based, Tier
I risk-based, and Tier I leverage ratios as set forth in the table below.
Management believes that there are no conditions or events that would have
changed the Bank's category since the most recent notification.
The following is a reconciliation of the Bank's equity reported in the
financial statements under generally accepted accounting principles to OTS
regulatory capital requirements (in thousands of dollars):
<TABLE>
<CAPTION>
Tangible Core Risk-Based
Capital Capital Capital
<S> <C> <C> <C>
September 30, 1999
Total equity of the Bank $ 65,451 $ 65,451 $ 65,451
General allowance for loan losses - - 1,345
Net unrealized gain on available-for-sale securities (2,047) (2,047) (2,047)
-------- -------- --------
Regulatory Capital $ 63,404 $ 63,404 $ 64,749
======== ======== ========
September 30, 1998
Total equity of the Bank $ 60,878 $ 60,878 $ 60,878
General allowance for loan losses - - 750
Net unrealized gain on available-for-sale securities (2,101) (2,101) (2,101)
-------- -------- --------
Regulatory Capital $ 58,777 $ 58,777 $ 59,527
======== ======== ========
</TABLE>
The Bank's actual and required capital amounts and ratios are summarized
as follows (in thousands of dollars):
<TABLE>
<CAPTION>
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
---------------- ------------------------ -------------------
Amount Ratio Amount Ratio Amount Ratio
<S> <C> <C> <C> <C> <C> <C>
September 30, 1999
Tangible Capital (to adjusted-total assets) $63,404 20.3% $ 4,675 1.5% No Requirement
Tier I Capital (to adjusted-total assets) $63,404 20.3% $ 9,350 3.0% $15,583 5.0%
Tier I Capital (to risk-weighted assets) $63,404 34.7% No Requirement $10,949 6.0%
Total Capital (to risk-weighted assets) $64,749 35.5% $14,598 8.0% $18,248 10.0%
September 30, 1998
Tangible Capital (to adjusted-total assets) $58,777 19.4% $ 4,541 1.5% No Requirement
Tier I Capital (to adjusted-total assets) $58,777 19.4% $ 9,083 3.0% $15,138 5.0%
Tier I Capital (to risk-weighted assets) $58,777 40.3% No Requirement $ 8,760 6.0%
Total Capital (to risk-weighted assets) $59,527 40.8% $11,681 8.0% $14,601 10.0%
</TABLE>
F-24
<PAGE>
13. FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107, Disclosures About Fair Value of Financial Instruments,
requires disclosure of fair value information regarding financial
instruments, whether or not recognized in the balance sheet, for which it
is practicable to estimate a value. The stated and estimated fair value
amounts of the Company's financial instruments, as of September 30, 1999
and 1998, are summarized below (in thousands of dollars):
<TABLE>
<CAPTION>
1999 1998
----------------------------- ---------------------------
Stated Estimated Stated Estimated
Assets Amount Fair Value Amount Fair Value
<S> <C> <C> <C> <C>
Cash and cash equivalents $ 13,526 $ 13,526 $ 73,920 $ 73,920
Mortgage-backed securities 10,147 10,225 1,695 1,691
Investment securities 29,305 29,286 24,010 24,106
Loans receivable, net 252,014 262,096 196,789 201,342
Loans held-for-sale 777 788 849 869
Federal Home Loan Bank stock 1,690 1,690 2,042 2,042
Accrued interest receivable 1,948 1,948 1,335 1,335
--------- --------- --------- ---------
$ 309,407 $ 319,559 $ 300,640 $ 305,305
========= ========= ========= =========
<CAPTION>
Liabilities
Interest bearing demand deposits $ 9,589 $ 9,589 $ 9,946 $ 9,946
Money market accounts 9,471 9,471 828 828
NOW accounts 5,290 5,290 2,627 2,627
Certificates of deposit 182,032 181,113 192,703 194,174
FHLB Advances 30,000 29,645 - -
Accrued interest payable 446 446 359 359
--------- --------- --------- ---------
$ 236,828 $235,554 $ 206,463 $ 207,934
========= ========= ========= =========
</TABLE>
The Company had off-balance sheet financial commitments, which include
commitments to originate loans, undisbursed portions of interim
construction loans and unused lines of credit (see Note 10). Since these
commitments are based on current rates, the commitment amount is
considered to be a reasonable estimate of fair value.
Estimated fair values were determined using the following methods and
assumptions:
Cash and Cash Equivalents - Cash and cash equivalents have maturities of
three months or less and, accordingly, the carrying amounts of such
instruments are deemed to be reasonable estimates of fair value.
Mortgage-Backed Securities and Investment Securities - Fair values are
based on quoted market prices where available. If quoted market prices are
not available, fair values are based on quoted market prices of comparable
instruments.
F-25
<PAGE>
Loans Receivable, Net - Fair values for loans are estimated by segregating
the portfolio by type of loan and discounting scheduled cash flows using
current market interest rates for loans with similar terms, reduced by an
estimate of credit losses inherent in the portfolio.
Loans Held-for-Sale - Loans held-for-sale are valued at the lower of cost
or market as determined by outstanding commitments from investors or
current investor yield requirements calculated on an aggregate loan basis.
Federal Home Loan Bank Stock - Investment in stock of the FHLB is required
by law for every federally insured savings institution. No ready market
exists for this stock and it has no quoted market value. However,
redemption of this stock has historically been at par value. Accordingly,
the carrying amount is deemed to be a reasonable estimate of fair value.
Deposits - As required by SFAS No. 107, fair values for demand deposits,
money market accounts and savings accounts are the amounts payable on
demand as of the reporting date (i.e., their stated amounts). The fair
value of certificates of deposit is estimated by discounting the
contractual cash flows using current market interest rates for accounts
with similar maturities.
FHLB Advances - Fair values for FHLB advances are estimated using a
discounted cash flow technique that applies interest rates currently being
offered on advances to a schedule of aggregate expected monthly maturities
of FHLB advances.
Accrued Interest Receivable and Payable - The stated amounts of accrued
interest receivable and payable approximate the fair value.
Limitations - Fair value estimates are made at a specific point in time,
based on relevant market information and information about the financial
instrument. These estimates do not reflect any premium or discount that
could result from offering for sale at one time the Company's entire
holdings of a particular financial instrument. Because no market exists
for a significant portion of the Company's financial instruments, fair
value estimates are based on judgments regarding future expected loss
experience, current economic conditions, risk characteristics of various
financial instruments and other factors. These estimates are subjective in
nature and involve uncertainties and matters of significant judgment and
therefore cannot be determined with precision. Changes in assumptions
could significantly affect the estimates.
Fair value estimates are based on existing on-and-off balance sheet
financial instruments without attempting to estimate the value of
anticipated future business and the value of assets and liabilities that
are not considered financial instruments. For example, a significant asset
not considered a financial asset is premises and equipment. In addition,
tax ramifications related to the realization of the unrealized gains and
losses can have a significant effect on fair value estimates and have not
been considered in any of the estimates.
F-26
<PAGE>
14. CONDENSED PARENT COMPANY FINANCIAL STATEMENTS
The following condensed balance sheets, as of September 30, 1999 and 1998
and condensed statements of income and cash flows for the year ended
September 30, 1999 and the period from April 6, 1998 (date of
incorporation) to September 30, 1998 for Heritage Bancorp, Inc. should be
read in conjunction with the consolidated financial statements and the
notes thereto (in thousands of dollars):
<TABLE>
<CAPTION>
BALANCE SHEET September 30,
-------------------------------
1999 1998
<S> <C> <C>
Assets
Cash and cash equivalents $ 5,230 $28,953
Investment in subsidiary 65,450 60,933
Note receivable 3,969 5,453
Other assets 13 773
------- -------
Total $74,662 $96,112
------- -------
Liabilities and Shareholders' Equity
Dividend payable $ - $ 694
Income taxes payable 80 88
Shareholders' equity 74,582 95,330
------- -------
Total $74,662 $96,112
======= =======
</TABLE>
<TABLE>
<CAPTION>
For the Period
from April 6,
Year Ended 1998 to
September 30, September 30,
STATEMENT OF INCOME 1999 1998
<S> <C> <C>
Interest income $ 1,354 $ 724
Dividend income from bank 1,327 694
------- -------
Total income 2,681 1,418
------- -------
Other operating expenses 341 -
Provision for income taxes 522 273
Equity in undistributed earnings of subsidiary (538) (1,115)
------- -------
Net income $ 2,356 $ 2,260
======= =======
</TABLE>
F-27
<PAGE>
<TABLE>
<CAPTION>
For the Period
from April 6,
Year Ended 1998 to
September 30, September 30,
STATEMENT OF CASH FLOWS 1999 1998
<S> <C> <C>
Operating activities:
Net income $ 2,356 $ 2,260
Adjustments to reconcile net income to
cash provided by operating activities:
Equity in undistributed earnings of subsidiary (538) (1,115)
Increase (decrease) in other assets 760 (773)
(Decrease) increase in income taxes payable (63) 88
-------- --------
Net cash provided by operating activities 2,515 460
-------- --------
Investing activities:
Investment in subsidiary (2,254) (34,029)
Principal payments on ESOP loan receivable 1,484 101
-------- --------
Net cash used in investing activities (770) (33,928)
-------- --------
Financing activities:
Net proceeds from sale of common stock - 62,421
Purchase of treasury stock (7,479) -
Payment of cash distribution (16,129) -
Payment of cash dividends (1,860) -
-------- --------
Net cash (used in) provided by financing activities (25,468) 62,421
-------- --------
Net (decrease) increase in cash and cash equivalents (23,723) 28,953
Cash and cash equivalents at beginning of period 28,953 -
-------- --------
Cash and cash equivalents at end of period $ 5,230 $ 28,953
======== ========
</TABLE>
F-28
<PAGE>
15. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
Summarized unaudited quarterly operating results for the years ended
September 30, 1999 and 1998 are as follows (in thousands, except per share
data):
<TABLE>
<CAPTION>
First Second Third Fourth
September 30, 1999 Quarter Quarter Quarter Quarter
<S> <C> <C> <C> <C>
Interest income $ 5,370 $ 5,280 $ 5,322 $ 5,616
Interest expense 2,870 2,693 2,625 2,812
------- ------- ------- -------
Net interest income 2,500 2,587 2,697 2,804
Provision for loan losses (recovery of allowance) 75 - 382 139
------- ------- ------- -------
Net interest income after provision for loan losses 2,425 2,587 2,315 2,665
Other income 65 60 41 46
Other expense 977 1,004 2,855/(2)/ 981
------- ------- ------- -------
Income before income taxes 1,513 1,643 (499) 1,730
Provision for income taxes 548 569 269 645
------- ------- ------- -------
Net income (loss) $ 965 $ 1,074 $ (768) $ 1,085
------- ------- ------- -------
Basic earnings per share $ 0.23 $ 0.26 $ (0.18) $ 0.26
Diluted earnings per share $ 0.23 $ 0.26 $ (0.18) $ 0.26
<CAPTION>
First Second Third Fourth
September 30, 1998 Quarter Quarter Quarter Quarter
<S> <C> <C> <C> <C>
Interest income $ 4,512 $ 4,794 $ 5,223 $ 5,351
Interest expense 3,118 3,178 2,826 2,888
------- ------- ------- -------
Net interest income 1,394 1,616 2,397 2,463
Provision for loan losses (recovery of allowance) - (115) - 10
------- ------- ------- -------
Net interest income after losses (recovery or allowance) 1,394 1,731 2,397 2,453
Other income 48 57 81 60
Other expense 588 777 714 778
------- ------- ------- -------
Income before income taxes 854 1,011 1,764 1,735
Provision for income taxes 330 360 655 584
------- ------- ------- -------
Net income $ 524 $ 651 $ 1,109 $ 1,151
Basic earnings per share /(1)/ $ - $ - $ 0.26 $ 0.27
Diluted earnings per share /(1)/ $ - $ - $ 0.26 $ 0.27
</TABLE>
(1) Heritage Bancorp, Inc.'s initial public offering closed on April 6,
1999. For purposes of earnings per share calculations for the third
quarter, shares issued on April 6, 1999 have been assumed to be
outstanding as of April 1, 1999.
(2) Includes a $1.9 million compensation charge related to the cash
distribution of $4.00 per share.
F-29
<PAGE>
SIGNATURES
Pursuant to the requirements of section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
HERITAGE BANCORP, INC.
Date: March 30, 2000 By: /s/ Edwin I. Shealy
-----------------------------
Edwin I. Shealy
Chief Financial Officer
(Principal Financial and
Accounting Officer)
<PAGE>
EXHIBIT 23
CONSENT OF INDEPENDENT AUDITORS
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in Registration Statement No.
333-77303 of Heritage Bancorp, Inc. on Form S-8 of our report dated November 5,
1999 appearing in this amended Form 10-K of Heritage Bancorp, Inc. for the year
ended September 30, 1999.
DELOITTE & TOUCHE LLP
Greenville, South Carolina
March 30, 2000
