<PAGE> 1
UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR l5(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998.
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission File Number 000-24503
WASHINGTON BANKING COMPANY
(Exact name of small business issuer as specified in its charter)
Washington 91-1725825
- --------------------------------------------------------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
1421 S.W. Barlow Street
Oak Harbor, Washington 98277
(Address of principal executive offices) (Zip Code)
(360) 679-3121
(Issuer's telephone number, including area code)
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the issuer: (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 [ ]
The number of shares of the issuer's Common Stock outstanding at
October 31, 1998 was 4,189,050.
<PAGE> 2
TABLE OF CONTENTS
PART I -- FINANCIAL INFORMATION
<TABLE>
<CAPTION>
Page
----
<S> <C> <C>
Item 1. Financial statements
Consolidated Statements of Financial Condition - September 30, 1998
and December 31, 1997........................................................................... 3
Consolidated Statements of Income - three months and
nine months ended September 30, 1998 and 1997................................................... 4
Consolidated Statements of Shareholders' Equity -
nine months ended September 30, 1998............................................................ 5
Consolidated Statements of Cash Flows -
nine months ended September 30, 1998 and 1997................................................... 6
Notes to Condensed Consolidated financial statements............................................ 7
Item 2. Management Discussion and Analysis of Financial Condition
and Results of Operations.......................................................................... 10
Item 3. Interest Rate Sensitivity........................................................................... 17
PART II -- OTHER INFORMATION
Item 4. Submission of matters to a vote of Security Holders................................................. 20
Item 6. Exhibits and reports on Form 8-K.................................................................... 20
Signatures......................................................................................... 21
</TABLE>
<PAGE> 3
WASHINGTON BANKING COMPANY
AND SUBSIDIARY
Condensed Consolidated Statements of Financial Condition
September 30, 1998 and December 31, 1997
(Dollars in thousands, except per share data)
<TABLE>
<CAPTION>
SEPTEMBER 30 DECEMBER 31,
ASSETS 1998 1997
-------- --------
(UNAUDITED)
<S> <C> <C>
Cash and due from banks $ 9,825 6,263
Interest bearing deposits 10,656 --
Federal funds sold 9,550 1,750
-------- --------
Total cash and cash equivalents 30,031 8,013
-------- --------
Federal Home Loan Bank stock 722 682
Investment securities, available-for-sale 10,621 5,521
Investment securities, held-to-maturity 23,025 23,508
-------- --------
Total investment securities 34,368 29,711
-------- --------
Loans receivable, net 138,906 116,239
Premises and equipment, net 6,901 4,287
Other real estate owned -- 30
Deferred tax asset 343 370
Other assets 2,138 1,418
-------- --------
Total assets $212,687 160,068
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Deposits $182,514 146,394
Other liabilities 980 639
-------- --------
Total liabilities 183,494 147,033
-------- --------
Shareholders' Equity:
Preferred stock, no par value. Authorized 20,000 shares; no shares
issued or outstanding -- --
Common stock, no par value. Authorized 10,000,000 shares,
issued and outstanding 4,189,050 and 2,809,050 shares at
September 30, 1998 and December 31, 1997, respectively 17,836 2,943
Retained earnings 11,289 10,075
Accumulated comprehensive income, net 68 17
-------- --------
Total shareholders' equity 29,193 13,035
-------- --------
Total liabilities and shareholders' equity $212,687 160,068
======== ========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
<PAGE> 4
WASHINGTON BANKING COMPANY
AND SUBSIDIARY
Condensed Consolidated Statements of Income
Three and nine months ended September 30, 1998 and 1997
(unaudited)
(Dollars in thousands, except per share data)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
1998 1997 1998 1997
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Interest income:
Interest and fees on loans $ 3,354 2,753 9,429 7,287
Interest on taxable investment securities 286 256 816 786
Interest on tax-exempt investment securities 183 120 448 321
Other 303 30 402 83
---------- ---------- ---------- ----------
Total interest income 4,126 3,159 11,095 8,477
Interest expense 1,554 1,162 4,284 3,053
---------- ---------- ---------- ----------
Net interest income 2,572 1,997 6,811 5,424
Provision for loan losses 195 165 540 375
---------- ---------- ---------- ----------
Net interest income after provision
for loan losses 2,377 1,832 6,271 5,049
---------- ---------- ---------- ----------
Non-interest income:
Service charges on deposits 283 261 850 810
Other 265 148 608 346
---------- ---------- ---------- ----------
Total non-interest income 548 409 1,458 1,156
---------- ---------- ---------- ----------
Non-interest expense:
Salaries and benefits 788 562 2,100 1,555
Occupancy expense 402 278 1,033 791
Merchant credit card expense 135 111 322 251
Office supplies and printing 109 61 276 215
Insurance expense 99 77 271 191
Data processing 64 56 192 159
Consulting and professional fees 38 71 98 93
Other 460 275 1,307 839
---------- ---------- ---------- ----------
Total non-interest expense 2,095 1,491 5,599 4,094
---------- ---------- ---------- ----------
Income before income taxes 830 750 2,130 2,111
Provision for income taxes 217 195 581 718
---------- ---------- ---------- ----------
Net income $ 613 555 1,549 1,393
========== ========== ========== ==========
Net income per share, basic $ 0.15 0.20 0.47 0.50
========== ========== ========== ==========
Net income per share, diluted $ 0.14 0.18 0.44 0.46
========== ========== ========== ==========
Average number of shares outstanding, basic 4,189,050 2,816,300 3,304,828 2,811,619
Average number of shares outstanding, diluted 4,487,518 3,001,055 3,544,084 2,996,374
</TABLE>
See accompanying notes to condensed consolidated financial statements.
<PAGE> 5
WASHINGTON BANKING COMPANY
AND SUBSIDIARY
Condensed Consolidated Statements of Shareholders' Equity
September 30, 1998
(Amounts in thousands except per share data)
<TABLE>
<CAPTION>
ACCUMULATED
COMPREHENSIVE TOTAL
COMMON STOCK RETAINED INCOME, SHAREHOLDERS'
SHARES AMOUNT EARNINGS NET EQUITY
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Balances at December 31, 1997 2,809 $ 2,943 10,075 17 13,035
Cash dividend, $0.105 per share(unaudited) (335) (335)
Net income for the nine months ended
September 30, 1998 (unaudited) -- -- 1,549 -- 1,549
Unrealized gains/losses for the nine months
ended September 30, 1998 (unaudited) -- -- -- 51 51
Net offering proceeds (unaudited) 1,380 14,893 -- -- 14,893
-------- -------- -------- -------- --------
Balances at September 30, 1998 4,189 $ 17,836 11,289 68 29,193
======== ======== ======== ======== ========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
<PAGE> 6
WASHINGTON BANKING COMPANY
AND SUBSIDIARY
Condensed Consolidated Statements of Cash Flows
Nine months ended September 30, 1998 and 1997
(unaudited)
(Dollars in thousands, except per share data)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30
1998 1997
-------- --------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 1,549 1,393
Adjustments to reconcile net income to net cash
provided by operating activities:
Federal Home Loan Bank stock dividends (40) (23)
Deferred income tax benefit -- (74)
Amortization(accretion) of investment premiums(discounts), net (16) 28
Provision for loan losses 540 375
Depreciation of premises and equipment 297 232
Net increase in other assets (720) (350)
Net increase in other liabilities 341 409
-------- --------
Net cash provided by operating activities 1,951 1,990
-------- --------
Cash flows from investing activities:
Purchases of investment securities, available-for-sale (6,000) (500)
Maturities of investment securities, available-for-sale 1,000 1,500
Purchases of investment securities, held-to-maturity (5,630) (4,960)
Maturities of investment securities, held-to-maturity 6,107 3,050
Net increase in loans (23,207) (31,928)
Proceeds from the sale of real estate owned 30 --
Purchases of premises and equipment (2,911) (682)
Purchases of Federal Home Loan Bank stock -- (324)
-------- --------
Net cash used in investing activities (30,611) (33,844)
-------- --------
Cash flows from financing activities:
Net increase in deposits 36,120 42,201
Dividends paid on common stock (335) --
Proceeds from stock options exercised -- 110
Cash paid for common stock retired -- (200)
Proceeds from stock issued 14,893 --
-------- --------
Net cash provided by financing activities 50,678 42,111
-------- --------
Net increase in cash and cash equivalents 22,018 10,257
Cash and cash equivalents at beginning of period 8,013 5,955
-------- --------
Cash and cash equivalents at end of period $ 30,031 16,212
======== ========
Supplemental information:
Loans foreclosed and transferred to real estate owned -- 30
Cash paid for interest $ 4,220 2,965
Cash paid for taxes 645 774
======== ========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
<PAGE> 7
WASHINGTON BANKING COMPANY
AND SUBSIDIARY
Notes to Condensed Consolidated Financial Statements
Nine months ended September 30, 1998 and 1997
(unaudited)
(Dollars in thousands, except for share data)
(1) DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
DESCRIPTION OF BUSINESS
Washington Banking Company (WBC), a Washington State bank holding
company, was formed on April 30, 1996, Whidbey Island Bank (WIB or
Bank), the principal subsidiary of WBC, is a Washington State commercial
bank. The business of the Bank, which is focused in the northern area of
Western Washington, consists primarily of attracting deposits from the
general public and originating loans. Although WIB has a diversified
loan portfolio and its market area currently enjoys a stable economic
climate, a substantial portion of its borrowers' ability to repay their
loans is dependent upon the economic conditions affecting this area
related to the agricultural, forestry and manufacturing industries, and
the large military base presence in Oak Harbor, Washington.
BASIS OF PRESENTATION
The accompanying consolidated financial statements include the accounts
of Washington Banking Company and its wholly-owned subsidiary, Whidbey
Island Bank (Company). The accompanying consolidated financial
statements have been prepared, without audit, pursuant to the rules and
regulations of the Securities and Exchange Commission. Accordingly, they
do not include all of the information and footnotes required by
generally accepted accounting principles for complete financial
statements. These condensed consolidated financial statements should be
read in conjunction with the Bank's December 1997 audited consolidated
financial statements and notes thereto included in the Company's recent
Registration Statement on Form SB-1 filed with the Securities and
Exchange Commission. In the opinion of management, all adjustments
(consisting of normal recurring adjustments) considered necessary for a
fair presentation have been included. Operating results for the nine
months ended September 30, 1998 are not necessarily indicative of the
results that may be expected for the year ended December 31, 1998.
1
<PAGE> 8
WASHINGTON BANKING COMPANY
AND SUBSIDIARY
Notes to Condensed Consolidated Financial Statements
Nine months ended September 30, 1998 and 1997
(unaudited)
(Dollars in thousands, except for share data)
(2) STOCKHOLDERS' EQUITY
STOCK OFFERING
Effective June 23, 1998, the Company sold 1,380,000 shares of its common
stock at a subscription price of $12 per share resulting in net proceeds
to the Company of approximately $14,893.
(3) EARNINGS PER SHARE
The following illustrates the reconciliation of the numerators and
denominators of the basic and diluted EPS computations:
<TABLE>
<CAPTION>
THREE MONTHS ENDED SEPTEMBER 30, 1998
--------------------------------------
WEIGHTED PER SHARE
INCOME AVERAGE SHARES AMOUNT
--------- -------------- ---------
<S> <C> <C> <C>
BASIC EPS
Income available to common shareholders $ 613 4,189,050 0.15
Effect of dilutive securities; stock options 298,468 --
--------- --------- ----
DILUTED EPS $ 613 4,487,518 0.14
========= ========= ====
</TABLE>
<TABLE>
<CAPTION>
THREE MONTHS ENDED SEPTEMBER 30, 1997
--------------------------------------
WEIGHTED PER SHARE
INCOME AVERAGE SHARES AMOUNT
--------- -------------- ---------
<S> <C> <C> <C>
BASIC EPS
Income available to common shareholders $ 555 2,816,300 0.20
Effect of dilutive securities; stock options -- 184,755 --
--------- --------- ----
DILUTED EPS $ 555 3,001,055 0.18
========= ========= ====
</TABLE>
2
<PAGE> 9
WASHINGTON BANKING COMPANY
AND SUBSIDIARY
Notes to Condensed Consolidated Financial Statements
Nine months ended September 30, 1998 and 1997
(unaudited)
(Dollars in thousands, except for share data)
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30, 1998
--------------------------------------
WEIGHTED PER SHARE
INCOME AVERAGE SHARES AMOUNT
--------- -------------- ---------
<S> <C> <C> <C>
BASIC EPS
Income available to common shareholders $ 1,549 3,304,828 0.47
Effect of dilutive securities; stock options -- 239,256 --
--------- --------- ----
DILUTED EPS $ 1,549 3,544,084 0.44
========= ========= ====
</TABLE>
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30, 1997
--------------------------------------
WEIGHTED PER SHARE
INCOME AVERAGE SHARES AMOUNT
--------- -------------- ---------
<S> <C> <C> <C>
BASIC EPS
Income available to common shareholders $ 1,393 2,811,619 0.50
Effect of dilutive securities; stock options -- 184,755 --
--------- --------- ----
DILUTED EPS $ 1,393 2,996,374 0.46
========= ========= ====
</TABLE>
(4) COMPREHENSIVE INCOME
In June 1997, the FASB issued Statement of Financial Accounting
Standards No. 130 "Reporting Comprehensive Income" ("SFAS No. 130").
This statement provides standards for reporting comprehensive, or all
inclusive, income. In the Company's case, based on current operations,
it would include as an addition or deduction to reported net income, the
change in the unrealized gain or loss on investments. This statement
will not affect reported net income of the Company. The Company adopted
SFAS No. 130 effective January 1, 1998 and has reported comprehensive
income for the three and nine months ended September 30, 1998 and 1997.
Effective January 1, 1998, the Company implemented SFAS No. 130,
Reporting Comprehensive Income. Comprehensive income for the three and
nine months ended September 30, 1998 and 1997 was $661 and $1,600,
respectively, and $563 and $1,397, respectively. Total comprehensive
income for the three and nine months ended September 30, 1998 and 1997
consisted of net income and the change in the unrealized gain on
investments.
(5) SUBSEQUENT EVENT
On October 15, 1998, the Board of Directors declared a cash dividend of
$0.035 per share payable on November 16, 1998 to shareholders of record
on October 30, 1998.
3
<PAGE> 10
MANAGEMENT DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
Washington Banking Company
This discussion should be read in conjunction with the consolidated
financial statements of Washington Banking Company (Company) and notes presented
elsewhere in this report.
This discussion contains certain forward-looking statements within the
meaning of the federal securities laws. Actual results and the timing of certain
events could differ materially from those projected in the forward-looking
statements due to a number of factors.
OVERVIEW
The Bank began operations in 1961, with its headquarters at Coupeville,
Washington, located on Whidbey Island. The Company was formed as a bank holding
company in April of 1996 and currently holds all of the issued and outstanding
Common Stock of the Bank. Currently, the Company and the Bank are Headquartered
in Oak Harbor. The Company's only significant business activity has been to hold
the Common Stock of the Bank and invest its available funds in accounts at the
Bank.
The Company's objective is to continue, over the next several years, to
expand its geographical presence outside of Whidbey Island, while solidifying
its market position on the Island. Currently, the geographical expansion is
expected to be concentrated in the Burlington / Mt. Vernon area of the Skagit
Valley, the Anacortes area to the north of Whidbey Island, and in other areas of
Skagit County and in the Bellingham area of Whatcom County. Additional
geographic expansion areas will be considered if experienced managers and
lending officers with a long-standing presence in the area and extensive
relationships are available and requisite customer demand exists. In pursuit of
its growth strategy, in the first and second quarter, respectively, of 1998, the
Company opened a full-service branch in Anacortes and a grocery store branch on
Camano Island to complement its existing Camano Island branch. On October 1,
1998, it also opened a full-service branch in Freeland, Washington which is
located in the southern part of Whidbey Island. The Company expects to relocate
the Bellingham office to a larger office by the end of the first quarter of
1999. In addition, in the first and second quarters of 1999, the Company expects
to open grocery store and/or mini branch locations in the Mount Vernon and
Bellingham areas and other areas complementing its existing branch structure.
Such expansion activity can be expected to require the expenditures of
substantial sums to purchase or lease real property and equipment and hire
experienced personnel. New branch offices are often not profitable for at least
the first eighteen months after opening and management expects that any earnings
will be negatively affected as the Company pursues its growth strategy.
The Company's results of operations are dependent to a large degree on
net interest income. Interest income and cost of funds are affected
significantly by general economic conditions, particularly changes in market
interest rates, and by government policies and the actions of regulatory
authorities. The Company also generated noninterest income primarily through
service charges and fees and other sources including merchant credit card
account fees. The Company's noninterest expenses consist primarily of
compensation and employee expense, and occupancy expense.
<PAGE> 11
FINANCIAL CONDITION
Total assets increased to $212.7 million at September 30, 1998 from
$160.1 million at December 31, 1997, an increase of 32.9%. Of the $52.6 million
increase in total assets from December 31, 1997, $14.9 million were funds
related to the stock offering, which closed June 26, 1998. Net loans totaled
$138.9 million at September 30, 1998, an increase of 19.5% from December 31,
1997. Deposits were $182.5 million at September 30, 1998, an increase of 24.7%
from December 31, 1997.
The Company's allowance for loan losses at September 30, 1998 was $1.7
million, or 1.20% of total loans, compared to $1.3 million, or 1.10% of total
loans, at December 31, 1997. Nonperforming assets were $1.1 million at September
30, 1998, or 0.52% of total assets, compared to $1.2 million, or 0.74% of total
assets, at December 31, 1997.
RESULTS OF OPERATIONS
Net income for the third quarter of 1998 was $613,000, or $0.14 per
diluted share, compared to $555,000, or $0.18 per diluted share, for the third
quarter of 1997, an increase in net income of 10.5%. Net income for the nine
months ended September 30, 1998 was $1,549,000, or $0.44 per diluted share,
compared with $1,393,000, or $0.46 per diluted share for the same period in
1997, an increase in net income of 11.2%. The increase in net income was
primarily due to increased net interest income resulting from continued loan
growth and increased noninterest income mostly from increased merchant credit
card account fees. These increases were partially offset by increased expenses
due principally to growth and expansion.
NET INTEREST INCOME
Net interest income for the third quarter of 1998 increased to $2.6
million, or 28.8%, from $2.0 million in the third quarter of 1997. For the first
nine months of 1998, net interest income increased to $6.8 million, or 25.6%,
from $5.4 million for the same period in 1997. The increase in net interest
income is largely due to the overall growth of the Company.
Net interest margin (net interest income divided by average interest
earning assets) decreased to 5.67% in the third quarter of 1998 from 5.97% in
the third quarter of 1997. The decrease in net interest margin in the third
quarter of 1998 is primarily due to decreased yields on interest earning assets
and increased costs on interest bearing liabilities. Average interest earning
assets increased to $163.7 million at September 30, 1998, compared to $123.7
million at September 30, 1997, a growth of $40.0 million, or 32.4%, while the
average yield on interest earning assets decreased to 9.16%, compared with 9.26%
in the third quarter of the prior year. The decrease in yields on interest
earning assets was caused by a decline in yields on loans to 9.89% at September
30, 1998, compared to 10.18% at September 30, 1997. Average interest bearing
liabilities increased to $135.9 million at September 30, 1998 compared to $98.4
million at September 30, 1997, a growth of $37.5 million, or 38.1%, while the
average cost of interest bearing liabilities increased to 4.20% compared with
4.13% for the same period in 1997. The increase in cost on interest bearing
liabilities was caused by an increase in yields on time deposits to 5.68% at
September 30, 1998, compared to 5.62% at September 30, 1997.
<PAGE> 12
NONINTEREST INCOME AND EXPENSE
Noninterest income increased $139,000, or 34.0%, in the third quarter of
1998, and $302,000, or 26.1%, for the first nine months of 1998, compared with
the same periods in 1997.
Noninterest expense increased $604,000, or 40.5%, in the third quarter
of 1998 and $1,505,000, or 36.8%, in the first nine months of 1998 compared with
the same periods in 1997, as the Company pursued its strategy of aggressive
growth through branching and product expansion. Two major components of
noninterest expense, employee compensation and occupancy, increased 40.2% and
44.6%, respectively, for the quarter compared with 1997 and 35.0% and 30.6%,
respectively, for the first nine months of 1998 compared with the same period in
1997. These increases reflect the Company's growth on Whidbey and Camano Islands
and in Anacortes, Burlington and Bellingham in Northwestern Washington. Total
noninterest expense was 71.6% and 72.4% of total revenues (the sum of net
interest income plus noninterest income less non recurring gains) for the third
quarter and first nine months of 1998, respectively, and 66.5% and 66.0% for the
same periods in 1997, respectively.
INCOME TAXES
For the third quarter and first nine months of 1998, the Company
recorded income tax provisions of $217,000 and $581,000, respectively. The
overall effective tax rate has decreased in 1998 as compared to 1997 due to the
increase in interest income on tax-exempt investment securities.
<PAGE> 13
LENDING ACTIVITIES
The Company originates a wide variety of loans including commercial
business loans and consumer loans.
Loan Portfolio
The following table sets forth at the dates indicated the Company's loan
portfolio composition by type of loan:
<TABLE>
<CAPTION>
(amounts in thousands) 30-Sep 31-Dec
1998 1997
Balance % of Total Balance % of Total
<S> <C> <C> <C> <C>
Commercial $ 59,992 42.6% $ 48,242 41.0%
Real Estate Mortgages:
One to four family residential 15,576 11.1% 14,258 12.1%
5 or more family residential &
commercial 12,857 9.1% 8,711 7.4%
-------- --------
Total Real Estate Mortgages 28,433 20.2% 22,969 19.5%
Real Estate Construction 13,596 9.7% 12,646 10.8%
Consumer 38,612 27.5% 33,721 28.7%
-------- --------
Subtotal 140,633 100.0% 117,578 100.0%
Less: Allowance for Loan Losses (1,693) (1,296)
Less: deferred loan fees and other (34) (43)
-------- --------
Total Loans $138,906 $116,239
======== ========
</TABLE>
Total loans increased to $ 140.6 million at September 30, 1998,
representing a 19.6% increase from year-end 1997.
<PAGE> 14
NONPERFORMING ASSETS
The following table sets forth at the dates indicated an analysis of the
composition of the Company's nonperforming assets:
<TABLE>
(amounts in thousands) September 30, December 31,
1998 1997
------------- ------------
<S> <C> <C>
Nonaccrual Loans $ 543 $ 498
Restructured Loans 572 653
------ ------
Total 1,115 1,151
Non-Performing Loans
Real Estate Owned 0 30
------- ------
Total 1,115 1,181
Non-Performing
Assets
======= ======
Accruing loans past $ 85 $ 0
due > 90 days
Potential Problem 150 11
Loans
Allowance for loan 1,693 1,296
losses
Nonperforming loans 0.79% 0.98%
to loans
Allowance for loan 1.20% 1.10%
losses to loans
Allow. Loan losses to 151.84% 112.60%
nonperforming loans
Nonperforming assets 0.52% 0.74%
to total assets
</TABLE>
Nonperforming loans decreased to $1.1 million, or 0.79% of total loans,
at September 30, 1998 from $1.2 million at December 31, 1997.
Real estate owned (REO) decreased $30,000 to $0 at September 30, 1998
from $30,000 at December 31, 1997.
PROVISIONS AND ALLOWANCE FOR LOAN LOSSES
The Company recorded a $195,000 provision for loan losses for the third
quarter of 1998, compared with $165,000 for the same period a year ago. There
were $28,000 in net loan charge-offs during the third quarter of 1998, compared
to $41,000 in net charge-offs for the same period in 1997. The Allowance for
Loan Losses increased to $1.7 million at September 30, 1998 from $1.1 million at
September 30, 1997, or 1.20% of total outstanding loans and 151.84% of
nonperforming loans at the end of the third quarter 1998 as compared to 0.98% of
total loans and 130.69% of nonperforming loans at September 30, 1997.
For the nine months ended September 30, 1998, the provision for loan
losses was $540,000 compared to $375,000 for the same period in 1997. Net
charge-offs for the first nine months of 1998 totaled $143,000 compared to
$68,000 for the same period of 1997.
<PAGE> 15
The Allowance for Loan Losses is maintained at a level considered by
management, based on management's assessment of risk and the quality of the
loan portfolio, to be adequate to absorb anticipated loan losses; consideration
also was given to the Allowance for Loan Loss levels maintained by the Company's
national peer group.
The following table sets forth at the dates indicated the changes in the
Company's allowance for loan losses:
<TABLE>
<CAPTION>
(amounts in thousands)
Three months Three months
ended ended
September 30, September 30,
1998 1997
------------- -------------
<S> <C> <C>
Balance at $1,526 $ 979
beginning of
period
Charge-offs:
Commercial 0 0
Real Estate 0 (11)
Consumer and
Other (49) (33)
------ ------
Total
Charge-offs (49) (44)
Recoveries:
Commercial 1 0
Real Estate 0 0
Consumer 20 3
------ ------
Total
Recoveries 21 3
------ ------
Net
Charge-Offs (28) (41)
Provision for
loan losses 195 165
------ ------
Balance at
end of period $1,693 $1,103
====== ======
</TABLE>
<TABLE>
<CAPTION>
Nine months Nine months
ended ended
September 30, September 30,
1998 1997
------------- -------------
<S> <C> <C>
Balance at $1,296 $ 796
beginning of
period
Charge-offs:
Commercial (52) 0
Real Estate 0 (11)
Consumer and
Other (114) (67)
------- ------
Total
Charge-offs (166) (78)
Recoveries:
Commercial 1 0
Real Estate 0 0
Consumer 22 10
------- ------
Total
Recoveries 23 10
------- ------
Net (143) (68)
Charge-Offs
Provision for
loan losses 540 375
------- ------
Balance at
end of period $1,693 $1,103
======= ======
</TABLE>
<PAGE> 16
LIQUIDITY AND SOURCES OF FUNDS
The Company's sources of funds are customer deposits, cash and demand
balances due from other banks, federal funds sold, short-term investments and
investment securities available for sale. These funds, together with loan
repayments, are used to make loans and to fund continuing operations. In
addition, at September 30, 1998, the Company had unused lines of credit with the
Federal Home Loan Bank of Seattle (FHLB) of $31.9 million and unused lines of
credit with financial institutions in the amount of $11.0 million, with no
advances on these lines of credit as of September 30, 1998.
Total deposits increased 23.8% to $182.5 million at September 30, 1998
from $147.4 million at September 30, 1997. The Company, by policy, has not
accepted brokered deposits. It has made a concerted effort to attract deposits
in the market area it serves through competitive pricing and delivery of quality
service. In addition, the Company has been able to retain a significant amount
of its deposits as they mature.
Management anticipates that the Company will rely primarily upon
customer deposits, loan repayments and current earnings to provide liquidity,
and will use such funds primarily to make loans and to purchase securities,
primarily issued by the federal government and state and local governments.
<PAGE> 17
CAPITAL
The Company's shareholders' equity increased to $29.2 million at
September 30, 1998 from $13.0 million at December 31, 1997. At September 30,
1998, shareholders' equity was 13.73% of total assets compared to 8.14% of total
assets at December 31, 1997. The increase in this ratio is a result of
additional earnings and net proceeds of approximately $15 million from the
Company's initial public offering in June, 1998.
Banking regulations require bank holding companies and banks to maintain
a minimum "leverage" ratio of core capital to adjusted average total assets of
at least 3%. At September 30, 1998, the Company's leverage ratio was 11.93%,
compared with 8.08% at December 31, 1997. In addition, banking regulators have
adopted risk-based capital guidelines, under which risk percentages are assigned
to various categories of assets and off-balance sheet items to calculate a
risk-adjusted capital ratio. Tier I capital generally consists of common
shareholders' equity (which does not include unrealized gains and losses on
securities), less goodwill and certain identifiable intangible assets, while
Tier II capital includes the allowance for loan losses and subordinated debt
both subject to certain limitations. Regulatory minimum risk-based capital
guidelines require Tier I capital of 4% of risk-adjusted assets and total
capital (combined Tier I and Tier II) of 8%. The Company's Tier I and total
capital ratios were 15.43% and 16.52%, respectively, at September 30, 1998,
compared with 10.67% and 11.63%, respectively, at December 31, 1997.
During 1992, the Federal Deposit Insurance Corporation (the "FDIC")
published the qualifications necessary to be classified as a "well-capitalized"
bank, primarily for assignment of FDIC insurance premium rates beginning in
1993. To qualify as "well-capitalized," banks must have a Tier I risk-adjusted
capital ratio of at least 6%, a total risk-adjusted capital ratio of at least
10%, and a leverage ratio of at least 5%. Whidbey Island Bank qualified as
"well-capitalized" at September 30,1998.
INTEREST RATE SENSITIVITY
A number of measures are used to monitor and manage interest rate risk,
including income simulations and interest sensitivity (gap) analysis. An income
simulation model is the primary tool used to assess the direction and magnitude
of changes in net interest income resulting from changes in interest rates. Key
assumptions in the model include prepayment speeds on mortgage related assets,
cash flows and maturities of other investment securities, loan and deposit
volumes and pricing. These assumptions are inherently uncertain and, as a
result, the model cannot precisely estimate net interest income or precisely
predict the impact of higher or lower interest rates on net interest income.
Actual results will differ from simulated results due to timing, magnitude and
frequency of interest rate changes, changes in market conditions and management
strategies, among other factors. At September 30, 1998, based on the measures
used to monitor and manage interest rate risk, there has not been a material
change in the Company's interest rate risk since December 31, 1997. For
additional information, refer to the Company's Prospectus dated June 23, 1998.
<PAGE> 18
YEAR 2000 ISSUE
The Company's State of Readiness
The Company, like all financial institutions, is faced with the challenges
that the year 2000 brings. The Year 2000 issue relates to the inability of many
computer systems to recognize dates for the year 2000 and beyond. Computers
programmed with a two-digit field for identifying the year interpret "98" as
"1998", but may interpret "00" as "1900" rather than "2000", resulting in
incorrect calculations in date sensitive programs. In order to meet these
challenges, the Company is going through a multi-phase program to assure a
state of readiness for Year 2000.
Awareness Phase
The Company began working on Year 2000 readiness in early 1997. The
Board of Directors formed a readiness team in consultation with senior
management. This team has the responsibility for identifying all systems,
application software and supporting equipment for information and
non-information technology that might have an impact on the Company from a
Year 2000 perspective. The initial portion of this phase was completed
February, 1998 and the team continues to monitor on an ongoing basis
systems, software and equipment as the Company makes purchases or changes
in these areas to assure identification of all Year 2000 issues.
Assessment/Renovation Phase
The readiness team began initial assessment of our systems in early
1997. The Company does not have in-house programs and relies upon third
party vendors to provide software applications used. The team identified
the Company's service providers and software/hardware vendors through the
awareness phase and contacted them to determine their approach to the Year
2000 issue and to receive commitment dates for the delivery of their
readiness plans and/or compliant releases of software packages. In
addition, large customers have been contacted and their compliance with
Year 2000 issues reviewed to assure their preparedness. Tracking and
monitoring the progress of these providers, vendors and large customers is
coordinated by the team and regularly reported to the Company's Board of
Directors.
The team completed the assessment portion of this phase February
1998, but continues to monitor new or any changes in providers or vendors.
The renovation portion of this phase is still in process. The team has
prioritized providers and vendors using a "business critical" methodology.
The Company is in the process of testing all systems, software and
hardware that have been deemed "business critical".
Validation Phase
The Company's most critical third party vendors are those that
provide the main frame software and hardware. These vendors have
successfully completed their Year 2000 internal testing. Our Company has
chosen to test the software and hardware via group testing. Software and
hardware from other third party vendors is being tested internally with
oversight by members of the team. Internal testing includes creation of a
test environment specifically dedicated to Year 2000 testing. This
environment allows simulation of the Year 2000 change in each of our
critical systems by rolling dates forward to validate vendor testing prior
to the actual Year 2000 date change. We expect to complete this testing by
April 1999. The Company has scheduled an independent, external audit to
evaluate the testing and overall readiness on Year 2000 issues for late
1998.
The Costs to Address the Company's Year 2000 Issues
The Company's Board of Directors has allocated financial and human resources
adequate to address the Year 2000 issues. Since early 1997 approximately
$46,000 have been spent on Year 2000 related issues. The majority of
these costs have been spent on managing the Year 2000 project and educating
employees and customers of the Company. Remaining estimated costs for
completion of the Year 2000 readiness project are estimated at approximately
$104,000. These costs will be for completion of the phases in process under
direction of the readiness team. Costs related to renovating and testing will
be expensed in the period incurred. Actual costs for replacing equipment and
software can not be established until the renovation and testing phases are
fully completed. Thus far these costs and costs related to fixing Year 2000
issues have been minimal and future costs are not anticipated to be material.
The Risks of the Company's Year 2000 Issues
The Company has taken steps to mitigate the risks associated with Year 2000
issues by testing software and hardware and following the progress of vendors,
service providers and large customers. The most reasonably likely worst case
scenario would be that testing of software and hardware reveals the need for
additional Year 2000 expenditures. Management believes that should this
scenario occur, that impact of such expenditures would not be material to the
Company's financial position and results of operations. The Company is
dependent upon the Federal Government and energy and communication providers.
If any one of these providers were unable to function normally, it would have a
negative impact on the Company's day to day operations. Although management
believes that it has addressed the major areas with respect to the Year 2000,
there can be no assurances that the Company will not be impacted by Year 2000
complications.
The Company's Contingency Plans
The Company's Year 2000 Contingency Plan was written in early 1998. The Plan is
in the process of revision with information generated from working through the
phases. The anticipated completion date of this revision is December 31, 1998.
The Plan will address critical and non-critical issues. The Plan will prescribe
alternate processes should critical issues fail. Such processes will be
augmented by the Company's existing disaster recovery plan, which enables it to
function under unusual circumstances. For each non-critical issue it will
detail how the job can be accomplished through other means. In addition, the
Plan includes management's preparations to accommodate the liquidity needs of
the Company during the fourth quarter of 1999.
<PAGE> 19
PART II - OTHER
PART II - OTHER INFORMATION
<PAGE> 20
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The annual meeting of shareholders was held at Oak Harbor, Washington on
September 24, 1998 at 7:00 PM. 3,357,187 shares of common stock were represented
in person or by proxy at the meeting. This represented 80.19% of the 4,189,050
shares held by shareholders as of August 14, 1998 and entitled to vote at the
meeting. The following two issues came before the shareholders for vote:
Election of directors to serve on the Board of Directors until the
Annual Meeting of Shareholders in the year 2001, or until their
successors are duly elected and qualified - Four of the ten director
positions had expired and were open for election. The nominees for these
positions were Michal D. Cann, Orlan Dean, Marlen L. Knutson and Larry
Scodeller. All four were elected with the following vote totals:
<TABLE>
<CAPTION>
FOR AGAINST ABSTAIN
<S> <C> <C> <C>
Michal D. Cann 3,335,829 -0- 21,358
Orlan Dean 3,334,929 -0- 22,258
Marlen L. Knutson 3,328,329 -0- 28,858
Larry Scodeller 3,330,329 -0- 26,858
</TABLE>
The other six directors that continued in office are: Karl C.
Krieg, III, Jay T. Lien, Robert O. Olson, Anthony B. Pickering,
Alvin J. Sherman, Edward J. Wallgren.
Approval of the 1998 Stock Option and Restricted Award Plan - The Plan
was approved with the following vote totals:
<TABLE>
<CAPTION>
FOR AGAINST ABSTAIN BROKER NON-VOTES
<S> <C> <C> <C>
2,328,074 191,932 116,970 720,211
</TABLE>
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit 27 - Financial Data Schedule
(b) No reports on Form 8-K were filed during the quarter ended September 30,
1998.
<PAGE> 21
SIGNATURES
Pursuant to the requirements 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.
WASHINGTON BANKING COMPANY
Date November 13, 1998 By /s/ Michal D. Cann
Michal D. Cann
President and
Chief Executive Officer
Date November 13, 1998 By /s/ Phyllis Hawkins
Phyllis Hawkins
Senior Vice President and
Chief Financial Officer
<TABLE> <S> <C>
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<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JUN-30-1998
<PERIOD-END> SEP-30-1998
<CASH> 9,825
<INT-BEARING-DEPOSITS> 10,656
<FED-FUNDS-SOLD> 9,550
<TRADING-ASSETS> 722
<INVESTMENTS-HELD-FOR-SALE> 10,621
<INVESTMENTS-CARRYING> 23,025
<INVESTMENTS-MARKET> 23,775
<LOANS> 140,599
<ALLOWANCE> 1,693
<TOTAL-ASSETS> 212,687
<DEPOSITS> 182,514
<SHORT-TERM> 0
<LIABILITIES-OTHER> 980
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0
0
<COMMON> 17,836
<OTHER-SE> 11,357
<TOTAL-LIABILITIES-AND-EQUITY> 212,687
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<INTEREST-TOTAL> 4,126
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</TABLE>
