U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-KSB
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended September 30, 1999
Commission File No.: 000-27997
WESTBOROUGH FINANCIAL SERVICES, INC.
(NAME OF SMALL BUSINESS ISSUER IN ITS CHARTER)
UNITED STATES APPLICATION PENDING
(STATE OR OTHER JURISDICTION OF (I.R.S.EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
100 E. MAIN STREET, WESTBOROUGH, MASSACHUSETTS 01581
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(508) 366-4111
(ISSUER'S TELEPHONE NUMBER)
Securities registered pursuant to section 12(b) of the Exchange Act:
Title of each class Name of Exchange on which registered:
COMMON STOCK, PAR VALUE $0.01 PER SHARE OTC BULLETIN BOARD
Check whether the issuer (1) has filed all reports required to be filed
by Section 13 or 15(d) of the Exchange Act during the past 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
___
Check if there is no disclosure of delinquent filers in response to
Item 405 of Regulation S-B is not contained in this form, and no disclosure will
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-KSB
or any amendment to this Form 10-KSB. [ X ]
The revenues for the issuer's fiscal year ended September 30, 1999 are
$11,853,000.
State the aggregate market value of the voting and non-voting common
equity held by non-affiliates computed by reference to the price at which the
common equity was sold, as of a specified date within the last 60 days. On
February 9, 2000: $-0-. As of February 9, 2000, no shares of common equity were
issued and outstanding.
State the number of shares outstanding of each of the issuer's classes
of common equity, as of the latest practicable date. The Company had no shares
outstanding as of February 9, 2000.
DOCUMENTS INCORPORATED BY REFERENCE
Transitional Small Business Disclosure Format (check one):
Yes No X
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<TABLE>
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TABLE OF CONTENTS
PAGE
<S> <C>
PART I
ITEM 1. BUSINESS...............................................................................1
ITEM 2. DESCRIPTION OF PROPERTY...............................................................39
ITEM 3. LEGAL PROCEEDINGS.....................................................................40
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS...................................40
PART II
ITEM 5. MARKET FOR THE COMPANY'S COMMON STOCK AND RELATED
STOCKHOLDER MATTERS...................................................................40
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS...................................................41
ITEM 7. FINANCIAL STATEMENTS..................................................................56
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE...................................................56
PART III
ITEM 9. DIRECTORS AND PRINCIPAL OFFICERS OF THE BANK..........................................56
ITEM 10. EXECUTIVE COMPENSATION................................................................59
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT............................................................................64
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS........................................64
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K......................................................64
SIGNATURES.......................................................................................................66
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PART I
ITEM 1. BUSINESS
GENERAL
Westborough Financial Services, Inc. (the "Company") is a
Massachusetts-chartered stock holding company for The Westborough Bank (referred
to herein in both stock and mutual form as the "Bank," formerly known as
Westborough Savings Bank), a Massachusetts-chartered stock savings bank which
conducts business from its main office located in Westborough, Massachusetts. In
accordance with the Plan of Reorganization from Mutual Savings Bank to Mutual
Holding Company and Stock Issuance Plan (the "Plan of Reorganization"), the Bank
intends to reorganize into a "two-tiered" mutual holding company structure (the
"Reorganization"). In connection with the Reorganization: (1) the Bank will form
Westborough Bancorp, MHC (the "MHC"), a Massachusetts-chartered mutual holding
company, which will be the majority owner of the Company; (2) the Bank will
convert from a Massachusetts-chartered mutual savings bank to a
Massachusetts-chartered stock savings bank and issue 100% of its capital stock
to the Company; and (3) the Company will issue shares of its common stock, $0.01
per share (the "Common Stock"), to the public at a price of $10.00 per share in
a subscription, community and syndicated offering (the "Offering"). It is
anticipated that up to 35% of the shares issued in the Reorganization, will be
sold to the public and 65% of the shares will be issued in the Reorganization.
The Company's sole business activity consists of the business of the Bank.
In the future, the Company will consider using some of the proceeds of
the Offering retained by it to expand its operations in its existing primary
market and other nearby areas by acquiring other financial institutions which
could be merged with the Bank or operated as separate subsidiaries. Presently,
there are no agreements or understandings for expansion of the Company's
operations. The Company's Common Stock will be traded on the Over the Counter
Bulletin Board under the symbol "WFSM." Unless otherwise disclosed, the
information presented in this Report on Form 10-KSB represents the activity of
the Bank and its subsidiaries for the fiscal year ended September 30, 1999.
The Bank is a community- and customer-oriented retail bank offering
traditional deposit products, residential and commercial real estate mortgage
loans and, to a lesser extent, consumer and commercial loans. The Bank operates
five full service banking offices located in the towns of Westborough,
Northborough and Shrewsbury, Massachusetts. The Bank also operates a non-public,
self-contained office at the "Willows," a retirement community located in
Westborough. Together, these offices serve the Bank's "primary market area"
consisting of Westborough, Northborough, Shrewsbury, Grafton, Southborough and
Hopkinton, Massachusetts.
At September 30, 1999, the Bank had total loans of $93.9 million, of
which $83.2 million, or 88.6%, were residential first mortgage loans. Of the
residential first mortgage loans outstanding at that date, 36.7% were
adjustable-rate mortgage loans and 63.3% were fixed-rate loans. The Bank retains
substantially all of the loans that it originates. The Bank also invests in
mortgage-backed and investment securities, consisting primarily of U.S.
government, government agency and corporate securities. The Company also invests
in long and short-term investment grade marketable securities and other liquid
investments. The Bank's investment portfolio equaled $64.5 million, or 36.9% of
its total assets at September 30, 1999.
<PAGE>
MARKET AREA
The Bank conducts its operations out of its main office in Westborough,
Massachusetts. It also operates four other full service branches in the towns of
Westborough, Northborough and Shrewsbury, Massachusetts and a non-public,
self-contained office at the "Willows," a retirement community in Westborough.
The Bank's deposits are gathered from the general public in these towns and the
surrounding communities. The Bank's lending activities are concentrated
primarily in the towns where it has offices, as well as in the town of Grafton,
Massachusetts. These towns are located in east central Massachusetts, near the
central Route 495 belt.
The Bank's market area has grown steadily to achieve a blend of
industry, office parks and residences. The town of Westborough is approximately
12 miles east of Worcester and 29 miles west of Boston, located at the junction
of major interstate highways constructed in the 1950s and 1960s. The convenient
access provided by Routes 20, 9, I-90 and I-495 has contributed to the diverse
economic base consisting of a retail and commercial section, and a high-tech
manufacturing section.
Among the largest employers in the Bank's market area are EMC, New
England Electric Systems, Massachusetts Electric Company, First Data Investors
and ASTRA Pharmaceutical. The Tufts University School of Veterinary Medicine
also is located in the Bank's market area.
Public transportation within the Bank's market area is expanding with
the addition of two new mass transit stations. The Massachusetts Bay
Transportation Authority is currently constructing a station in Grafton and has
plans to construct a station in Westborough in late 2000. These stations will
provide direct access to Worcester and Boston for residents in the Bank's market
area. Since 1980, the Bank's primary market area has experienced increases in
both population and households as individuals and families moved from urban
areas surrounding Boston to more outlying areas with lower cost and newer
housing stock.
The Bank's future growth opportunities will be influenced by the growth
and stability of the statewide and regional economies, other demographic
population trends and the competitive environment. The Bank believes that it has
developed lending products and marketing strategies to address the diverse
credit-related needs of the residents in its market area.
BUSINESS STRATEGY
Historically, the Bank's primary management strategy has been to offer
savings and certificate of deposit accounts and residential mortgage loans in
the market area of Westborough, Massachusetts and surrounding communities. At
September 30, 1999, 88.6% of the Bank's loan portfolio consisted of one- to
four-family residential first mortgage loans, with relatively few commercial
real estate or commercial loans in its portfolio. In recent years, the Bank has
adopted a growth-oriented strategy that has focused on expanding its product
lines and services, providing expanded delivery systems for its customers and
extending its branch network. The Bank believes that this business strategy is
best for its long-term success and viability, and complements its existing
commitment to high quality customer service. In connection with the Bank's
overall growth strategy, it seeks to:
o continue to focus on expanding its residential lending and
retail banking franchise, and increasing the number of
households served within its market area;
o expand its commercial banking products and services for small-
and medium-sized businesses, as a means to increase the yield
on its loan portfolio and to attract lower cost transaction
deposit accounts;
2
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o expand its branch network to increase its market share;
o increase the use of alternative delivery channels, such as
on-line and telephonic banking; and
o offer a variety of uninsured products and services as a means
to compete for an increased share of its customers' financial
service business.
In order to create a platform for the accomplishment of the Bank's
goals, the Bank has begun to make significant investments in its physical
infrastructure and human and technological resources. In particular, the Bank
intends to expand and renovate its main office. The estimated cost of the
expansion and renovation is approximately $2.5 million. Such investments have
been and, in the future, will be necessary to ensure that adequate resources are
in place to offer increased products and services. As a result, for a period of
time, the Bank expects operating expenses to increase and net income to be
adversely impacted. The Bank believes, however, that its long-term profitability
should improve as it realizes the benefits of diversified product lines and
market share growth.
Following the Reorganization, the Bank intends to apply proceeds from
the Offering to further the objectives of its growth-oriented strategy. The Bank
may also use proceeds from the offering to acquire
branch offices and make other acquisitions.
LENDING ACTIVITIES
GENERAL. The Bank originates loans through its offices located in
Westborough, Massachusetts and the surrounding communities. The principal
lending activities of the Bank are the origination of first mortgage loans for
the purpose of purchasing or refinancing owner-occupied, one-to four-family
residential properties. To a lesser extent, the Bank also originates commercial
real estate loans, consumer loans and commercial loans.
3
<PAGE>
The following table sets forth the composition of the Bank's loan
portfolio in dollar amounts and percentages at the dates indicated.
<TABLE>
<CAPTION>
AT SEPTEMBER 30,
----------------
1999 1998
---- ----
PERCENT PERCENT
OF OF
AMOUNT TOTAL AMOUNT TOTAL
------ ----- ------ -----
(IN THOUSANDS)
<S> <C> <C> <C> <C>
REAL ESTATE LOANS:
Fixed rate mortgage........................... $ 52,674 56.12% $ 47,239 55.81%
Variable rate mortgage........................ 30,485 32.48 27,384 32.36
Commercial.................................... 3,198 3.41 2,743 3.24
Home equity lines of credit.................. 3,598 3.83 3,918 4.63
---------- --------- ---------- ---------
Total real estate loans................... 89,955 95.84 81,284 96.04
---------- --------- ---------- ---------
CONSUMER LOANS:
Personal...................................... 571 0.61 858 1.01
Deposit secured .............................. 651 0.69 676 0.80
Home improvement.............................. 199 0.21 132 0.16
---------- --------- ---------- ---------
Total consumer loans...................... 1,421 1.51 1,666 1.97
---------- --------- ---------- ---------
COMMERCIAL LOANS:
Commercial lines of credit.................... 1,029 1.10 599 0.71
Commercial installment........................ 1,457 1.55 1,087 1.28
---------- --------- ---------- ---------
Total commercial loans.................... 2,486 2.65 1,686 1.99
---------- --------- ---------- ---------
Total loans....................................... 93,862 100.00% 84,636 100.00%
========= =========
ADJUSTED BY:
Unadvanced loan funds......................... (1,013) (1,570)
Net deferred loan origination
costs..................................... 122 109
Allowance for loan loss....................... (879) (827)
---------- ----------
Net loans................................. $ 92,092 $ 82,348
========== ==========
</TABLE>
<TABLE>
<CAPTION>
AT SEPTEMBER 30,
----------------
1997
----
PERCENT
OF
AMOUNT TOTAL
------ -----
(IN THOUSANDS)
<S> <C> <C>
REAL ESTATE LOANS:
Fixed rate mortgage........................... $ 29,450 40.64%
Variable rate mortgage........................ 33,812 46.66
Commercial.................................... 2,915 4.02
Home equity lines of credit.................. 3,859 5.33
---------- ---------
Total real estate loans................... 70,036 96.65
---------- ---------
CONSUMER LOANS:
Personal...................................... 1,069 1.48
Deposit secured .............................. 557 0.77
Home improvement.............................. 73 0.10
---------- ---------
Total consumer loans...................... 1,699 2.35
---------- ---------
COMMERCIAL LOANS:
Commercial lines of credit.................... 293 0.40
Commercial installment........................ 437 0.60
---------- ---------
Total commercial loans.................... 730 1.00
---------- ---------
Total loans....................................... 72,465 100.00%
=========
ADJUSTED BY:
Unadvanced loan funds......................... (1,177)
Net deferred loan origination
costs..................................... 78
Allowance for loan loss....................... (786)
----------
Net loans................................. $ 70,580
==========
</TABLE>
4
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RESIDENTIAL MORTGAGE LOANS. The Bank's primary lending emphasis is the
origination of first mortgage loans secured by one- to four-family properties
that serve as the primary or secondary residence of the owner. As of September
30, 1999, loans on one-to four-family residential properties accounted for
88.6% of the Bank's total loan portfolio.
Most of the Bank's loan originations are from existing or past
customers, members of the Bank's local communities or referrals from local real
estate agents, attorneys and builders. The Bank believes that its branch
network, particularly as it expands, is a significant source of new loan
generation. The Bank also has a call program to real estate agents in its market
area to develop referral relationships between agents and the Bank.
The Bank currently offers loans that conform to underwriting standards
specified by FannieMae ("conforming loans") and also originates nonconforming
loans, as described below. These loans may be fixed-rate one- to four-family
mortgage loans or adjustable-rate one- to four-family mortgage loans with
maturities of between 5 and 30 years. The non-conforming loans generally follow
FannieMae guidelines except that the loan amount exceeds FannieMae guidelines'
maximum limit of $240,000. The average size of the Bank's first mortgage loans
originated during the year ended September 30, 1999 and the year ended September
30, 1998 was $156,000 and $163,000, respectively. The average size of the Bank's
first mortgage loans was $104,178 at September 30, 1999. The Bank is an approved
seller/servicer for FannieMae. From time to time, the Bank has sold loans in the
secondary market although such sales have been infrequent. The loans that the
Bank sells are all fixed-rate mortgage loans with terms of 30 years. Such loans,
however, continue to be serviced by the Bank.
The Bank's originations of first mortgage loans amounted to $31.3
million in fiscal year 1999, $32.3 million in fiscal year 1998 and $25.9 million
in fiscal year 1997. A significant number of the Bank's first mortgage loan
originations have been the result of refinancing of its existing loans due to
the relatively low interest rate levels over the past three years.
The Bank offers a variety of Adjustable Rate Mortgages ("ARMs") and
fixed-rate one- to four-family mortgage loans with maximum loan-to-value ratios
that depend on the type of property and the size of loan involved. The
loan-to-value ratio is the loan amount divided by the appraised value of the
property. The loan-to-value ratio is a measure commonly used by financial
institutions to determine exposure to risk. The majority of the Bank's loans on
owner-occupied one- to four-family homes are originated with a loan-to-value
ratio of 80% or less. On occasion, under limited circumstances, the Bank has
made loans on owner-occupied one- to four-family homes with a loan-to-value
ratio of up to 95%. In such cases, the borrower is required to obtain mortgage
insurance.
The Bank currently offers fixed-rate mortgage loans with terms of 15,
20, 25 and 30 years secured by one- to four-family residences. The Bank prices
its interest rates on fixed-rate loans to be competitive in light of market
conditions.
The Bank currently offers a variety of ARM loans secured by one- to
four-family residential properties that initially adjust after one year, three
years, five years, seven years or ten years. After the initial adjustment
period, ARM loans adjust on an annual basis. The ARM loans that the Bank
currently originates have a maximum 30 year amortization period and are subject
to the same loan-to-value ratios applicable to fixed-rate mortgage loans
described above. The interest rates on ARM loans fluctuate based upon a spread
above the average yield on United States treasury securities and generally are
subject to a maximum increase of 2% per adjustment period and a limitation on
the aggregate adjustment of 6% over the life of the loan. The Bank originated
$11.1 million and $11.7 million of one- to four-family ARM loans in the years
ended
5
<PAGE>
September 30, 1999 and 1998, respectively. At September 30, 1999, 32.5% of the
Bank's total loans consisted of ARM loans.
The volume and types of ARM loans the Bank originates have been
affected by the level of market interest rates, competition, consumer
preferences and the availability of funds. During fiscal years 1998 and early
1999, the Bank experienced a decreased demand for ARM loans due to the continued
low interest rate environment. As the interest rates slowly increased, so did
the demand for ARM loans. Although the Bank will continue to offer ARM loans, it
cannot guarantee that it will be able to originate a sufficient volume of ARM
loans to increase or maintain the proportion that these loans bear to its total
loans.
The retention of ARM loans in the Bank's loan portfolio helps reduce
its exposure to increases in interest rates. However, ARM loans can pose credit
risks different from the risks inherent in fixed-rate loans, primarily because
as interest rates rise, the underlying payments of the borrower may rise. This
increases the potential for default.
The Bank's home equity credit line loans, which totaled $3.6 million,
or 3.8% of total loans at September 30, 1999, are fixed- and adjustable-rate
loans secured by a first or second mortgage on owner-occupied one- to
four-family residences located in the Bank's market area. Interest rates on home
equity credit lines are based upon the "prime rate" as published in the "Money
Rates" section of the Wall Street Journal (the "index") with a minimum monthly
principal payment of one-half of 1% of the outstanding principal balance of the
loan. The maximum credit line available is equal to the lesser of $100,000 and
80% of the Bank's appraisal of the property or 50% of the tax assessment on the
property, in each case less the first mortgage balance. Such loans also have a
maximum term of 15 years. The underwriting standards applicable to these loans
generally are the same as one- to four-family first mortgage loans, except that
the combined loan-to-value ratio, including the balance of the first mortgage,
cannot exceed 80% of the appraised value of the property.
In conjunction with the Bank's residential mortgage lending, the Bank
offers construction loans to the future occupants of single family homes. At
September 30, 1999, $2.9 million, or 3.1% of the Bank's total loan portfolio
consisted of gross residential construction loans. Unadvanced funds on these
loans amounted to $0.9 million at September 30, 1999, resulting in a net balance
of $2.0 million. These loans typically have a term of twelve months and are
structured to become permanent loans upon the completion of construction. All
such loans are secured by first liens on the property and are subject to a
maximum loan-to-value ratio of 80%, which is based upon the anticipated value of
the property. During the construction period, the interest rate for construction
loans to individuals is 50 basis points below the index. Loans involving
construction financing present a greater risk than loans for the purchase of
existing homes since collateral values and construction costs can only be
estimated at the time the loan is approved.
COMMERCIAL REAL ESTATE LOANS. Origination of loans secured by
commercial real estate is a growing area of lending for the Bank. At September
30, 1999, commercial real estate mortgage loans totaled $3.2 million, or 3.4% of
total loans. These loans are generally secured by office buildings,
condominiums, retail establishments and churches located within the Bank's
market area.
The Bank's commercial real estate loans are offered on a fixed- and
adjustable-rate basis. Typical terms for such loans provide for a maximum
seven-year repricing term with a 20 year amortization and a balloon payment in
five to seven years, and an interest rate based upon the index. Loans on
commercial properties are also subject to a maximum loan-to-value ratio of 80%
for the acquisition of the property and 75% for refinancing of the property.
6
<PAGE>
Pursuant to the Bank's underwriting standards, a number of factors are
considered before a commercial real estate loan is made. The Bank evaluates
qualifications and financial condition of the borrower, including credit
history, profitability and expertise, as well as the value and condition of the
underlying property. Factors that the Bank considers in evaluating the
underlying property include the net operating income of the mortgaged property
before debt service and depreciation, the debt service coverage ratio (the ratio
of operating income to debt service) and, as noted above, the ratio of the loan
amount to the appraised value of the property.
Loans secured by commercial real estate properties are generally larger
and involve a greater degree of credit risk than one- to four-family residential
mortgage loans. Such loans typically involve large balances to single borrowers
or groups of related borrowers. Because payments on loans secured by commercial
real estate properties are often dependent on the successful operation or
management of the properties, repayment of such loans may be subject to adverse
conditions in the real estate market or the economy. If the cash flow from the
project decreases, or if leases are not obtained or renewed, the borrower's
ability to repay the loan may be impaired.
The Bank's real estate loan portfolio also includes construction loans
to builders and developers of residential properties within the Bank's market
area. At September 30, 1999, $1.5 million, or 1.6% of the Bank's total loan
portfolio, consisted of gross commercial construction loans. Unadvanced funds on
these loans amounted to $0.1 at September 30, 1999, resulting in a net balance
of $1.3 million.
Construction loans to builders typically are in amounts equal to 70% of
the value of the property upon completion. Construction loans generally have
twelve month terms with a floating interest rate based upon the index. In
addition to securing the loan with the property under construction, the Bank
generally obtains personal guarantees from the borrower. The proceeds of such
loans are disbursed after certification by in-house personnel that specified
stages of construction have been completed.
Construction lending is generally considered to carry a higher level of
risk than permanent mortgage financing because of the uncertainty of the value
of the collateral upon completion. Repayment of such loans are also dependent
upon the successful completion of the project and can be adversely affected by
market conditions and other factors not within the control of the Bank or the
borrower. The Bank seeks to control such risks by tying the amount of the loan
advanced to the completion of construction and monitoring subcontractors to
ensure that loan proceeds are applied appropriately.
CONSUMER LOANS. At September 30, 1999, $1.4 million, or 1.5% of the
Bank's total loans, consisted of consumer loans such as personal, deposit
secured and fixed-rate home improvement loans. Consumer loans generally have
shorter terms to maturity, which reduces the Bank's exposure to changes in
interest rates. Consumer loans also carry higher rates of interest than do one-
to four-family residential mortgage loans. In addition, the Bank believes that
offering consumer loan products helps to expand and create stronger ties to the
Bank's existing customer base by increasing the number of customer relationships
and providing cross-marketing opportunities.
The Bank's personal loans consist of unsecured loans to individuals and
secured loans for the purchase of new and used automobiles. The Bank's unsecured
loans have a maximum term of 48 months. The terms of the Bank's automobile loans
generally are determined by the age and condition of the vehicle. At September
30, 1999, the Bank's personal loans totaled $0.6 million, or 0.6% of total
loans.
The Bank also makes loans secured by deposit accounts up to 90% of the
amount of the depositor's savings account balance. The rate for such loans is
2.0% higher than the rate paid on regular savings
7
<PAGE>
accounts and 3.0% higher than the rate paid on term deposits. Deposit secured
loans totaled $0.7 million, or 0.7% of total loans at September 30, 1999.
The Bank offers fixed-rate home improvement loans in amounts equal to
that available for home equity credit line loans as discussed above. These loans
are secured by owner-occupied one- to four-family residences for terms of up to
10 years. At September 30, 1999, these loans totaled $0.2 million, or 0.2% of
total loans. Interest rates on fixed-rate home improvement loans are
periodically set by the Bank's Loan Committee, consisting of the Bank's
President, Treasurer and Senior Loan Officer, after consultation with the Board
of Investment and are based on market conditions. The underwriting terms and
procedures applicable to these loans are substantially the same as for the
Bank's home equity credit line loans.
COMMERCIAL LOANS. The Bank recently has made a commitment to small
business lending by developing certain products and services for the small- and
medium-sized businesses located in the Bank's market area. Such services are
designed to give business owners borrowing opportunities for, among other
things, modernization, inventory, equipment, consolidation and working capital.
In addition, the Bank has tailored certain products and services, such as its
business checking accounts and treasury and tax loan service, to better serve
the needs of local businesses. The Bank also became an approved lender of the
Small Business Administration. At September 30, 1999, $2.5 million, or 2.7% of
the Bank's total loans, consisted of commercial loans. The Bank expects that
commercial loans will comprise a growing portion of its total loan portfolio in
the future.
Commercial loans generally are limited to terms of five years or less.
Substantially all commercial loans have variable interest rates tied to the
prime rate. Whenever possible, the Bank collateralizes these loans with a lien
on commercial real estate or, alternatively, with a lien on business assets and
equipment and the personal guarantees of the borrower's principal officers.
The Bank's commercial services are administered by the Bank's loan
department. Recently, the Bank hired an experienced commercial loan officer with
considerable commercial lending expertise, including 13 years of banking
experience in Massachusetts and personal ties to Westborough. The Bank also
intends to add additional qualified employees as market conditions warrant.
Commercial loans generally are considered to involve a higher degree of
risk than residential mortgage loans because the primary collateral may be in
the form of intangible assets and/or inventory subject to market obsolescence.
Commercial loans also may involve relatively large loan balances to single
borrowers or groups of related borrowers, with the repayment of such loans
typically dependent on the successful operation and income stream of the
borrower. Such risks can be significantly affected by economic conditions. In
addition, commercial lending ordinarily requires substantially greater oversight
efforts compared to residential real estate lending. To minimize these risks,
the Bank conducts periodic reviews of the commercial loan portfolio to ensure
adherence to underwriting standards and policy requirements.
ORIGINATION OF LOANS. The Bank's lending activities are conducted
through its main and branch offices. The Bank's ability to originate loans is
dependent upon the relative customer demand for fixed-rate or adjustable-rate
mortgage loans, which is affected by the current and expected future levels of
interest rates.
8
<PAGE>
The following table sets forth information with respect to
originations, sales of loans and principal payments for the periods indicated.
<TABLE>
<CAPTION>
FOR THE YEAR ENDED SEPTEMBER 30,
--------------------------------
1999 1998 1997
---- ---- ----
(IN THOUSANDS)
<S> <C> <C> <C>
LOANS, NET:
Balance outstanding at beginning of period ..... $ 82,348 $ 70,580 $ 65,243
ORIGINATIONS:
Mortgage loans:
Residential................................... 31,280 32,346 25,928
Commercial.................................... 1,583 476 3,217
Home equity lines of credit................... 3,198 3,397 3,187
-------- -------- --------
Total mortgage originations................. 36,061 36,219 32,332
Commercial loans................................ 1,987 1,438 865
Consumer loans ................................. 1,825 1,275 904
-------- -------- --------
Total originations.......................... 39,873 38,932 34,101
-------- -------- --------
LESS:
Principal repayments, unadvanced funds and
other, net: (30,077) (26,780) (28,548)
Sale of mortgage loans, principal balance....... - (269) (120)
Provision for loan losses....................... (45) (39) (96)
Net loan charge-offs............................ (7) (2) -
Transfers to foreclosed real estate............. - (74) -
-------- -------- --------
Total deductions............................ (30,129) (27,164) (28,764)
-------- -------- --------
Net loan activity............................... 9,744 11,768 5,337
-------- -------- --------
Loans, net, end of period .................... $ 92,092 $ 82,348 $ 70,580
======== ======== ========
</TABLE>
9
<PAGE>
LOAN COMMITMENTS. The Bank generally makes loan commitments to
borrowers not exceeding 30 days. At September 30, 1999, the Bank had $2.0
million in loan commitments outstanding, primarily for the origination of one-
to four-family residential real estate loans, commercial loans and commercial
real estate loans.
LOAN SOLICITATION. Loan originations are derived from a number of
sources, including the Bank's existing customers, referrals, realtors,
advertising and "walk-in" customers at the Bank's offices.
LOAN ADMINISTRATION. The Bank's lending policies provide that the
Bank's Loan Committee has authority to approve one- to four-family mortgage
loans in amounts up to $500,000. One-to four-family mortgage loans in excess of
$500,000 require the approval of the Bank's Board of Investment. The Bank's Loan
Committee may also approve Commercial/Industrial loans up to the value of
$500,000 and home equity lines of credit from $10,000 to $100,000. Loans above
these values are to be approved by the Bank's Board of Investment.
The following generally describes the Bank's current lending
procedures. Upon receipt of a completed loan application from a prospective
borrower, the Bank orders a credit report and verifies certain other
information. If necessary, the Bank obtains additional financial or credit
related information. The Bank requires an appraisal for all mortgage loans,
except for some loans made to refinance existing mortgage loans. Appraisals are
performed by licensed or certified third-party appraisal firms and are reviewed
by the Bank's lending department. The Bank requires title insurance on all
mortgage loans, except for home equity credit lines and fixed-rate home
improvement loans. For these loans, the Bank requires evidence of previous title
insurance. The Bank requires borrowers to obtain hazard insurance and may
require borrowers to obtain flood insurance prior to closing. For properties
with a private sewage disposal system, the Bank also requires evidence of
compliance with applicable law. Further, the Bank requires borrowers to advance
funds on a monthly basis together with each payment of principal and interest to
a mortgage escrow account from which the Bank makes disbursements for items such
as real estate taxes, flood insurance and private mortgage insurance premiums,
if required.
Interest rates charged by the Bank on all loans are primarily
determined by competitive loan rates offered in its market area and interest
rate costs of the source of funding for the loan. The Bank generally charges an
origination fee on new mortgage loans. The origination fees, net of direct
origination costs, are deferred and amortized into income over the life of the
loan. At September 30, 1999, the amount of net deferred loan origination costs
was $122,000.
10
<PAGE>
LOAN MATURITY AND REPRICING. The following table sets forth certain
information as of September 30, 1999 regarding the dollar amount of loans
maturing in the Bank's portfolio based on their contractual terms to maturity.
Demand loans having no stated schedule of repayments and no stated maturity, and
overdrafts are reported as due in one year or less. Adjustable and floating rate
loans are included in the period in which interest rates are next scheduled to
adjust rather than the period in which they contractually mature, and fixed-rate
loans are included in the period in which the final contractual repayment is
due.
<TABLE>
<CAPTION>
AT SEPTEMBER 30, 1999(1)
--------------------------------------------------------------------------------------
MORTGAGES COMMERCIAL HOME EQUITY LOANS
FIXED RATE VARIABLE RATE MORTGAGE LINES OF CONSUMER COMMERCIAL TOTAL
MORTGAGES MORTGAGES LOANS CREDIT LOANS LOANS LOANS
---------- ------------- ---------- ----------- ---------- ---------- --------
(IN THOUSANDS)
AMOUNTS DUE:
<S> <C> <C> <C> <C> <C> <C> <C>
Within one year................. $ 46 $ 9,975 $ 987 $3,453 $ 871 $1,039 $16,371
After one year:
One to three years.............. 1,549 10,722 503 45 432 334 13,585
Three to five years............. 623 2,835 98 5 118 508 4,187
Five to ten years............... 2,108 6,953 734 95 - 605 10,495
Ten to twenty years............. 45,777 - 876 - - - 46,653
Over twenty years............... 1,558 - - - - - 1,558
------- ------- -- --- ------ ----- ------ -------
Total amount due................ $51,661 $30,485 $3,198 $3,598 $1,421 $2,486 $92,849
======= ======= ====== ====== ====== ====== =======
LESS:
Net deferred loan origination
costs......................... $ 122
Allowance for loan losses....... (879)
-------
Loans, net.................... $92,092
=======
</TABLE>
___________________
(1) Does not include prepayments on scheduled principal amortizations.
The following table presents, as of September 30, 1999, the dollar amount
of all loans due after September 30, 2000, and whether such loans have fixed or
adjustable interest rates.
DUE AFTER SEPTEMBER 30, 2000
----------------------------------------------
FIXED ADJUSTABLE TOTAL
----------------------------------------------
(In thousands)
Fixed rate mortgages.......... $51,615 $ - $51,615
Variable rate mortgages....... - 20,510 20,510
Commercial mortgage loans..... 1,183 1,028 2,211
Home equity lines of credit... 145 - 145
Consumer loans................ 550 - 550
Commercial loans.............. 1,447 - 1,447
------- ------- -------
Total loans................ $54,940 $21,538 $76,478
======= ======= =======
11
<PAGE>
NON-PERFORMING ASSETS, ASSET CLASSIFICATION AND ALLOWANCES FOR LOSSES.
Management and the Loan Committee perform a monthly review of all delinquent
loans. One of the primary tools the Bank uses to manage and control problem
loans is the Bank's "Watch List." This list identifies all of the loans or
commitments that are considered to have characteristics that could result in
loss to the Bank if not properly supervised. The list is managed by the Loan
Committee which, together with the Board of Investment, meets periodically to
discuss the status of the loans on the Watch List and to add or delete loans
from the list. At September 30, 1999, the Bank had no loans more than 90 days
past due and had $0.3 million in assets classified as substandard. No assets
were classified as special mention, doubtful or loss.
The Bank had no non-performing assets at September 30, 1999 and $74,000 at
September 30, 1998.
The following table presents information regarding non-accrual mortgage
and consumer and other loans, accruing loans delinquent 90 days or more, and
foreclosed real estate as of the dates indicated. At September 30, 1999, 1998
and 1997, the Bank had no non-accrual loans.
AT SEPTEMBER 30,
-------------------------------
1999 1998 1997
--------- ---------- --------
(IN THOUSANDS)
Non-accrual first mortgage loans.............. $ - $ - $ -
Non-accrual consumer and other loans.......... - - -
Accruing loans delinquent 90 days or more..... - 55 -
----- ----- ----
Total non-performing and delinquent loans..... - 55 -
Foreclosed real estate, net................... - 74 19
----- ----- ----
Total non-performing assets and delinquent
loans..................................... $ - $ 129 $ 19
===== ===== ====
Non-performing and delinquent loans to total
loans...................................... -% 0.06% -%
Non-performing assets and delinquent loans
to total assets............................ -% 0.08% 0.01%
At September 30, 1999, the Bank was a7 loans in an aggregate amount of $1.0
million that were not currently classified as non-accrual or 90 days past due
but which may be so classified in the near future because of concerns over the
borrowers' ability to comply with repayment terms.
Loans are placed on non-accrual status when they are 90 days past due or,
in the opinion of management, the collection of principal and interest is
doubtful. When the Bank designates loans as non-accrual loans, it reverses
outstanding interest that it previously credited. The Bank may recognize income
in the period that it collects it when the ultimate collectibility of principal
is no longer in doubt. The Bank returns a non-accrual loan to accrual status
when none of its principal or interest is due and unpaid or when it otherwise
becomes well secured and in the process of collection.
Impaired loans generally are individually assessed to determine whether a
loan's carrying value is not in excess of the fair value of the collateral or
the present value of the loan's cash flows. Groups of smaller balance loans,
however, are collectively evaluated for impairment. Accordingly, the Bank does
not separately identify individual consumer loans for impairment disclosures.
The Bank had $0.0, $0.3 and $0.4 million loans classified as impaired at
September 30, 1999, 1998 and 1997, respectively. In addition at
12
<PAGE>
September 30, 1999, 1998 and 1997, the Bank had no loans classified as troubled
debt restructurings, as defined in Statement of Financial Accounting Standards
("SFAS") No. 15.
Foreclosed real estate consists of property the Bank acquired through
foreclosure or deed in lieu of foreclosure. Foreclosed real estate properties
are initially recorded at the lower of the investment in the loan or fair value.
Thereafter, the Bank carries foreclosed real estate at fair value less estimated
selling costs, net of a valuation allowance account established through
provisions charged to income, which result from the ongoing periodic valuations
of foreclosed real estate properties.
ALLOWANCE FOR LOAN LOSSES. The following table presents the activity in the
Bank's allowance for loan losses at or for the dates indicated.
AT OR FOR
THE YEAR ENDED SEPTEMBER 30,
---------------------------------
1999 1998 1997
---------- --------- ----------
(IN THOUSANDS)
Balance at beginning of period.......... $ 827 $ 786 $ 690
Provision for loan losses............... 45 39 96
Charge-offs:
Mortgage loans....................... - - -
Commercial loans..................... - - -
Consumer loans....................... (6) - (2)
------ ----- -----
Total charge-offs................. (6) - (2)
Recoveries.............................. 13 2 2
------ ----- -----
Balance at end of period................ $ 879 $ 827 $ 786
====== ====== =====
Net charge-offs for the period (7) (2) -
Ratio of net charge-offs to average
loans outstanding during the period.... (0.008)% (0.003)% -%
Allowance for loan losses as a
percent of total loans before the
allowance for loan losses.............. 0.95% 0.99% 1.10%
Allowance for loan losses as a
percent of non-performing loans........ - - -
The allowance for loan losses is a valuation account that reflects the
Bank's evaluation of the losses inherent in its loan portfolio. The Bank
maintains the allowance through provisions for loan losses that it charges to
income. The Bank charges losses on loans against the allowance for loan losses
when it believes the collection of loan principal is unlikely.
The Bank establishes the provision for loan losses after considering the
results of its review of delinquency and charge-off trends, the amount of the
allowance for loan losses in relation to the total loan balance, loan portfolio
growth by type of loan, generally accepted accounting principles and regulatory
guidance. The Bank has applied this process consistently, and the Bank has made
minimal changes in the methodology used.
13
<PAGE>
As part of the Bank's analysis, each month the Bank prepares an allowance
for loan loss worksheet. This worksheet categorizes the entire loan portfolio by
certain risk characteristics such as loan type, guarantees associated with a
group of loans and payment status. Loans with known potential losses are
categorized separately. The Bank assigns potential loss factors to the
categories on the basis of its assessment of each category's status and the
potential risk inherent in that type of lending. The Bank uses this worksheet,
together with loan portfolio balances and delinquency reports, to evaluate the
adequacy of the allowance for loan losses. Other key factors the Bank considers
in this process are national, state and local economic considerations, history
of loan loss experience for major credits, trends in charge-off recovery, past
and current trends in delinquency, trends in watch list activity, and trends in
loan concentration.
Although the Bank believes that it has established and maintains the
allowance for loan losses at adequate levels, future additions may be necessary
if economic and other conditions in the future differ substantially from the
current operating environment.
In addition, various regulatory agencies, as an integral part of their
examination process, periodically review the Bank's loan and foreclosed real
estate portfolios and the related allowance for loan losses and valuation
allowance for foreclosed real estate. These agencies, including the FDIC and the
Massachusetts Division of Banks, may require the Bank to increase the allowance
for loan losses or the valuation allowance for foreclosed real estate based on
their judgments of information available to them at the time of their
examination, thereby adversely affecting the Bank's results of operations.
14
<PAGE>
The following table presents the Bank's allocation of the allowance for
loan losses by loan category and the percentage of loans in each category to
total loans at the dates indicated.
<TABLE>
<CAPTION>
AT SEPTEMBER 30,
----------------------------------------------------------------------------
1999 1998 1997
----------------------- ----------------------- --------------------------
PERCENT OF PERCENT OF PERCENT OF
LOANS IN LOANS IN LOANS IN
CATEGORY TO CATEGORY TO CATEGORY TO
LOAN CATEGORY AMOUNT TOTAL LOANS AMOUNT TOTAL LOANS AMOUNT TOTAL LOANS
- ------------- ------- ------------- -------- ------------- -------- ---------------
(IN THOUSANDS)
Real estate - mortgage:
<S> <C> <C> <C> <C> <C> <C>
Residential(1)..................... $279 92.43% $309 92.80% $253 92.63%
Commercial......................... 176 3.41 184 3.24 289 4.02
Commercial......................... 60 2.65 103 1.99 39 1.00
Consumer........................... 149 1.51 24 1.97 27 2.35
Unallocated........................ 215 - 207 - 178 -
---- ------ ---- ------ ---- ------
Total allowance for loan losses.... $879 100.00% $827 100.00% $786 100.00%
==== ====== ==== ====== ==== ======
</TABLE>
__________________
(1) Includes home equity lines of credit and construction loans.
15
<PAGE>
INVESTMENT ACTIVITIES
The Board of Directors reviews and approves the Bank's investment policy on
an annual basis. The President and Treasurer, as authorized by the Board,
implement this policy. Management reports securities transactions to the Board
for review and approval on a monthly basis.
The Bank's investment policy is designed primarily to manage the interest
rate sensitivity of the Bank's assets and liabilities, to generate a favorable
return without incurring undue interest rate and credit risk, to complement the
Bank's lending activities and to provide and maintain liquidity within
established guidelines. In establishing the Bank's investment strategies, the
Bank considers its interest rate sensitivity, the types of securities to be
held, liquidity and other factors. Massachusetts-chartered savings banks have
authority to invest in various types of assets, including U.S. Treasury
obligations, securities of various federal agencies, mortgage-backed securities,
certain certificates of deposit of insured banks and savings institutions,
certain bankers' acceptances, repurchase agreements, loans of federal funds and,
subject to certain limits, corporate debt and equity securities, commercial
paper and mutual funds.
As part of the Bank's investment strategy, the Bank also engages in a
"covered call" program in which it writes options on securities it holds. The
sale of a covered call conveys the right, but not the obligation, to the buyer
to buy a particular security held by the Bank at a particular price up to a
certain expiration date. The sale is "covered" because the Bank holds the
security in its portfolio. Under this program, the Bank writes options only on
publicly traded securities it owns. However, the Bank is willing to have the
securities called if an option is written and exercised.
At September 30, 1999 and 1998, the Bank's liquidity ratio was 67.9% and
90.1%, respectively. For information regarding the carrying values, yields and
maturities of the Bank's investment securities and mortgage-backed securities,
see "Carrying Values, Yields and Maturities."
At September 30, 1999, the Bank's U.S. Government and federal agency
securities portfolio totaled $22.5 million. This portfolio consists primarily of
securities with maturities of one to five years. The Bank's agency debentures
are callable on a semi-annual basis following a holding period of twelve months.
The Bank generally does not purchase structured notes, and at September 30,
1999, there were no structured notes in the Bank's portfolio.
At September 30, 1999, the Bank's portfolio of all other bonds and debt
obligations totaled $19.9 million. The Bank's policy generally requires that
investment in corporate debt obligations be limited to corporate bonds with an
"A" rating or better by at least one nationally recognized rating service at the
time of purchase.
The fair market value of the Bank's marketable equity securities portfolio
totaled $8.6 million at September 30, 1999. These securities consisted of $5.5
million of common stock, $0.2 million of preferred stock and $2.9 million of
rated trust preferred securities issued by financial service corporations. Under
the Bank's investment policy, the aggregate amount of common stock that it may
purchase may not exceed 10% of its total investment portfolio. The Bank's policy
also has limitations against acquiring concentrations of such securities in any
one issuer or industry. The Bank purchases marketable equity securities as
growth investments that can provide the opportunity for capital appreciation
that is taxed on a more favorable basis than operating income. There can be no
assurance that investment in marketable equity securities will appreciate in
value and, therefore, such investments involve higher risk than U.S. Government
or federal agency securities. Aggregate purchases of marketable equity
securities totaled $8.2 million, $3.9 million and $276,000 for the years ended
September 30, 1999, 1998 and 1997. At September 30, 1999, pre-tax net unrealized
losses on marketable equity securities amounted to $6,000.
16
<PAGE>
Unless otherwise noted with respect to certain securities or required by
regulators or accounting standards, the Bank classifies securities available for
sale at the date of purchase. Available for sale securities are reported at fair
market value. The Bank currently has no securities classified as trading. During
fiscal year 1999, the Bank sold investment securities in the aggregate amount of
$11.5 million.
At September 30, 1999, the Bank's mortgage-backed securities, all of which
were classified as available for sale, totaled $12.0 million, or 6.8% of total
assets. The Bank generally purchases mortgage-backed securities as a means to
deploy excess liquidity at more favorable yields than other investment
alternatives. In addition, mortgage-backed securities generate positive interest
rate spreads with minimal administrative expense and lowers the Bank's overall
credit risk due to the fact that they are directly or indirectly insured or
guaranteed.
At September 30, 1999, the mortgage-backed securities portfolio had a
weighted average yield of 6.45% and a market value of $12.0 million. Purchases
of mortgage-backed securities may decline in the future if the Bank experiences
an increase in demand for one- to four-family mortgage loans. The Bank did not
sell any of its mortgage-backed securities during fiscal year 1999.
Mortgage-backed securities generally yield less than the loans that
underlie such securities because of the cost of payment guarantees or credit
enhancements that reduce credit risk. However, mortgage-backed securities are
more liquid than individual mortgage loans and may be used to collateralize the
Bank's borrowings. In general, mortgage-backed securities issued or guaranteed
by GNMA, FannieMae and FreddieMac are weighted at no more than 20% for
risk-based capital purposes, compared to the 50% risk-weighting assigned to most
non-securitized residential mortgage loans.
While mortgage-backed securities carry a reduced credit risk as compared to
whole loans, they remain subject to the risk of a fluctuating interest rate
environment. Along with other factors, such as the geographic distribution of
the underlying mortgage loans, changes in interest rates may alter the
prepayment rate of those mortgage loans and affect both the prepayment rates and
value of mortgage-backed securities.
During the year ended September 30, 1997, the Bank established a private
charitable foundation to provide grants to charitable organizations in the
Westborough area. The foundation is not a subsidiary of the Bank, but was funded
by a donation from the Bank of marketable equity securities. These securities
had a cost basis and fair value of $21,000 and $110,000, respectively, at the
date of transfer. Such securities had been classified as available for sale and,
accordingly, the transfer resulted in the Bank recognizing the unrealized
appreciation of the securities of $89,000 in its consolidated statement of
income.
The following table presents activity in the Bank's investment securities
portfolio (including Federal Home Loan Bank stock) for the periods indicated:
FOR THE YEAR ENDED SEPTEMBER 30,
----------------------------------
1999 1998 1997
----------------------------------
(IN THOUSANDS)
Beginning balance.......................... $ 60,107 $ 61,654 $ 62,743
Purchases............................... 26,868 20,880 12,517
Maturities.............................. (3,750) (1,250) (3,520)
Sales and calls......................... (11,491) (17,886) (7,653)
Principal repayments.................... (5,012) (4,214) (2,777)
Premium and discount amortization, net.. (79) (88) (93)
Charitable contributions in the form
of equity securities................. - - (110)
Recognition of expired options.......... 352 - -
Change in net unrealized gains.......... (2,538) 1,011 547
--------- -------- --------
Ending balance............................. $ 64,457 $ 60,107 $ 61,654
========= ======== ========
17
<PAGE>
The following table sets forth certain information regarding the amortized
cost and fair value of the Bank's securities 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)
Debt securities:
<S> <C> <C> <C> <C> <C> <C>
U.S. Government obligations....... $12,084 $12,178 $13,091 $13,579 $22,661 $22,867
Federal agency obligations........ 10,632 10,314 9,504 9,660 10,428 10,427
Banking and finance obligations... 6,501 6,433 5,534 5,624 4,539 4,564
Other bonds and obligations....... 13,649 13,469 13,412 13,762 10,518 10,588
------- ------- ------- ------- ------- -------
Total debt securities............. 42,866 42,394 41,541 42,625 48,146 48,446
------- ------- ------- -------
Mortgage-backed and
mortgage-related securities:
FHLMC............................ 1,189 1,195 2,079 2,139 3,233 3,234
FNMA............................. 5,597 5,506 4,021 4,063 2,912 2,889
GNMA............................. 2,719 2,714 4,185 4,192 4,044 4,077
Other............................ 2,608 2,538 1,190 1,219 306 307
------- ------- ------- ------ ------- -------
Total mortgage-backed and
mortgage-related securities.. 12,113 11,953 11,475 11,613 10,495 10,507
------- ------- ------- ------ ------- -------
Asset-backed securities ......... 630 626 - - 243 330
Marketable equity securities .... 8,640 8,634 4,433 5,107 1,168 1,654
Federal Home Loan Bank stock..... 850 850 762 762 717 717
------- ------- ------- ------- ------- -------
Total securities ............. $65,099 $64,457 $58,211 $60,107 $60,769 $61,654
======= ======= ======= ======= ======= =======
</TABLE>
18
<PAGE>
The following table sets forth the amortized cost and fair value of the
Bank's mortgage-backed and mortgage-related securities, all of which were
classified as available for sale at the dates indicated.
<TABLE>
<CAPTION>
AT SEPTEMBER 30,
--------------------------------------------------------------------------------------------
1999 1998 1997
--------------------------------------------------------------------------------------------
AMORTIZED PERCENT OF FAIR AMORTIZED PERCENT OF FAIR AMORTIZED PERCENT OF FAIR
COST TOTAL(1) VALUE COST TOTAL(1) VALUE COST TOTAL(1) VALUE
---------- ---------- ------- ---------- ---------- ------ --------- ---------- ------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Mortgage-backed and mortgage-
related securities:
FHLMC...................... $ 1,189 9.81% $ 1,195 $ 2,079 18.12% $ 2,139 $ 3,233 30.80% $ 3,234
FNMA....................... 5,597 46.21 5,506 4,021 35.04 4,063 2,912 27.75 2,889
GNMA ...................... 2,719 22.45 2,714 4,185 36.47 4,192 4,044 38.53 4,077
Other...................... 2,608 21.53 2,538 1,190 10.37 1,219 306 2.92 307
----- ------ ------- ------- ------ ------- ------- ------- -------
Total mortgage-backed
and mortgage-related
securities $12,113 100.00% $11,953 $11,475 100.00% $11,613 $10,495 100.00% $10,507
====== ====== ======= ======= ====== ======= ======= ====== =======
</TABLE>
- -----------------------
(1) Based on amortized cost.
19
<PAGE>
CARRYING VALUES, YIELDS AND MATURITIES. The table below presents
information regarding the carrying values, weighted average yields and
contractual maturities of the Bank's investment securities and mortgage-backed
securities at September 30, 1999. Mortgage-backed securities are presented by
issuer. Yields on tax exempt obligations were not computed on a tax equivalent
basis.
<TABLE>
<CAPTION>
AT SEPTEMBER 30, 1999
---------------------------------------------------------------------------
MORE THAN ONE YEAR MORE THAN FIVE YEARS
ONE YEAR OR LESS TO FIVE YEARS TO TEN YEARS
----------------------- ----------------------- -------------------------
WEIGHTED WEIGHTED WEIGHTED
CARRYING AVERAGE CARRYING AVERAGE CARRYING AVERAGE
AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD
----------- ---------- ----------- ---------- ----------- ------------
(IN THOUSANDS)
Debt securities:
<S> <C> <C> <C> <C> <C> <C>
U.S. Government obligations...... $ 3,523 6.89% $ 8,655 6.11% $ - -%
Federal agency obligations....... - - 3,715 6.26 6,599 6.49
Banking and finance obligations.. 1,003 7.00 3,716 6.37 1,714 6.91
Other bonds and obligations...... 2,619 7.44 7,415 6.10 1,608 5.74
------- ------- -------
Total debt securities.......... 7,145 7.11 23,501 6.17 9,921 6.44
------- ------- -------
Mortgage-backed and mortgage
related securities:
FHLMC............................ 369 6.61 - - - -
FNMA............................. 232 6.50 427 6.91 1,227 6.46
GNMA............................. - - - - - -
Other............................ - - - - - -
------- ------- -------
Total mortgage-backed
and mortgage-related
securities:.. 601 6.57 427 6.91 1,227 6.46
------- ------- -------
Asset-backed securities............ - - 626 5.45 - -
Marketable equity securities....... 8,634 4.26 - - - -
Federal Home Loan Bank stock....... 850 4.02 - - - -
------- ------- -------
Total securities............... $17,230 5.51% $24,554 6.16% $11,148 6.44%
======= ======= =======
</TABLE>
AT SEPTEMBER 30, 1999
--------------------------------------------
MORE THAN TEN YEARS TOTAL
---------------------- ---------------------
WEIGHTED WEIGHTED
CARRYING AVERAGE CARRYING AVERAGE
AMOUNT YIELD AMOUNT YIELD
---------- ---------- --------- ----------
(IN THOUSANDS)
Debt securities:
U.S. Government obligations...... $ - -% $12,178 6.34%
Federal agency obligations....... - - 10,314 6.41
Banking and finance obligations.. - - 6,433 6.61
Other bonds and obligations...... 1,827 5.91 13,469 6.29
------- -------
Total debt securities.......... 1,827 5.91 42,394 6.38
------- -------
Mortgage-backed and mortgage
related securities:
FHLMC............................ 826 6.61 1,195 6.61
FNMA............................. 3,620 6.39 5,506 6.45
GNMA............................. 2,714 6.16 2,714 6.16
Other............................ 2,538 6.67 2,538 6.67
------- ------
Total mortgage-backed
and mortgage-related
securities:.. 9,698 6.42 11,953 6.45
------- -------
Asset-backed securities............ - - 626 5.45
Marketable equity securities....... - - 8,634 4.26
Federal Home Loan Bank stock....... - - 850 4.02
------- -------
Total securities............... $11,525 6.34% $64,457 6.07%
======= =======
20
<PAGE>
DEPOSIT ACTIVITY AND OTHER SOURCES OF FUNDS
GENERAL. Deposits, scheduled amortization and prepayments of loan principal
and mortgage-backed securities, maturities and calls of investments securities
and funds provided by operations are the Bank's primary sources of funds for use
in lending, investing and for other general purposes. The Bank also utilizes
borrowed funds from the Federal Home Loan Bank of Boston to fund certain loans
in connection with the Bank's management of the interest rate sensitivity of its
assets and liabilities, as well as for other general purposes.
DEPOSITS. The Bank offers a variety of deposit accounts having a range of
interest rates and terms. The Bank currently offers regular savings deposits,
NOW accounts, personal and business demand accounts, money market accounts and
certificates of deposit. The Bank also offers Individual Retirement Accounts
("IRAs"). At September 30, 1999, deposits totaled $150.1 million.
Deposit flows are influenced significantly by general and local economic
conditions, changes in prevailing interest rates, pricing of deposits and
competition. The Bank's deposits are primarily obtained from areas surrounding
its offices, and the Bank relies primarily on paying competitive rates, service
and longstanding relationships with customers to attract and retain these
deposits. The Bank also has developed deposit products to attract and retain
individual and commercial depositors. One such product is a tiered-rate savings
account in which deposits over certain amounts earn interest at higher rates.
Other programs involve the introduction of commercial deposit products tailored
to small- and medium-sized businesses, such as the Bank's business and
commercial checking accounts. The Bank does not use brokers to obtain deposits.
When the Bank determines its deposit rates, it considers local competition,
U.S. Treasury securities offerings and the rates charged on other sources of
funds. Core deposits (defined as total savings accounts, NOW accounts, money
market accounts and demand accounts) represented 65.4% of total deposits on
September 30, 1999. At September 30, 1999, certificates of deposit with
remaining terms to maturity of less than one year amounted to $42.9 million. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Analysis of Net Interest Income" for information relating to the
average balances and costs of the Bank's deposit accounts for the years ended
September 30, 1999 and 1998.
The following table presents the Bank's deposit activity for the periods
indicated.
FOR THE YEAR ENDED SEPTEMBER 30,
------------------------------------
1999 1998 1997
---------- ------------- ----------
(IN THOUSANDS)
Beginning balance.......................... $135,962 $ 125,170 $120,282
Net deposits............................. 9,428 6,321 710
Interest credited on deposit accounts.... 4,721 4,471 4,178
-------- -------- --------
Ending balance............................. $150,111 $135,962 $125,170
======== ======== ========
Total increase in deposit accounts......... $ 14,149 $ 10,792 $ 4,888
Percentage increase........................ 10.41% 8.62% 4.06%
21
<PAGE>
At September 30, 1999, the Bank had $12.1 million in certificates of
deposit with balances of $100,000 and over maturing as follows:
WEIGHTED
AVERAGE
AMOUNT RATE
------------ ---------------
(IN THOUSANDS)
Maturity Period:
Three months or less......................... $ 2,383 4.77%
Over three months through six months......... 2,982 4.98
Over six months through 12 months............ 4,801 4.93
Over 12 months............................... 1,960 5.39
-------
Total.......................................... $12,126 4.99%
=======
The following table presents the distribution of the Bank's deposit
accounts at the dates indicated by dollar amount and percent of portfolio, and
the weighted average interest rate on each category of deposits.
<TABLE>
<CAPTION>
AT SEPTEMBER 30,
------------------------------------------------------------------------------------------------
1999 1998 1997
------------------------------------------------------------------------------------------------
WEIGHTED WEIGHTED WEIGHTED
PERCENT AVERAGE PERCENT AVERAGE PERCENT AVERAGE
OF TOTAL NOMINAL OF TOTAL NOMINAL OF TOTAL NOMINAL
AMOUNT DEPOSITS RATE AMOUNT DEPOSITS RATE AMOUNT DEPOSITS RATE
-------------------------------------------------------------------------------------------------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Non-interest bearing accounts.... $ 11,236 7.48% -% $ 8,592 6.32% -% $ 6,910 5.52% -%
NOW accounts...................... 13,132 8.75 0.50 15,221 11.19 0.50 11,310 9.04 1.01
Savings accounts:
Regular ........................ 29,985 19.98 2.53 28,239 20.77 2.60 31,001 24.77 2.60
Tiered-rate..................... 37,167 24.76 3.85 29,733 21.87 4.33 20,729 16.56 4.47
-------- ------ -------- ------ -------- ------
Total savings accounts ........ 67,152 44.74 3.26 57,972 42.64 3.49 51,730 41.33 3.35
Money market deposit accounts..... 6,619 4.41 2.17 7,218 5.31 2.95 9,003 7.19 2.95
-------- ------ -------- ------ -------- ------
Total non-certificate accounts 98,139 65.38 2.45 89,003 65.46 2.60 78,953 63.08 2.68
-------- ------ -------- ------ -------- ------
Certificates of deposit...........
Due within 1 year............... 42,905 28.58 4.89 37,005 27.22 5.06 37,119 29.65 5.24
Over 1 year through 3 years..... 9,043 6.02 5.20 9,954 7.32 5.45 9,094 7.27 5.40
Over 3 years.................... 24 0.02 4.88 - - - 4 - 5.50
-------- ------ -------- ------ -------- ------
Total certificate accounts 51,972 34.62 4.94 46,959 34.54 5.14 46,217 36.92 5.27
-------- ------ -------- ------ -------- ------
Total deposits .............. $150,111 100.00% 3.31% $135,962 100.00% 3.48% $125,170 100.00% 3.63%
-------- ------ -------- ------ -------- ------
</TABLE>
22
<PAGE>
BORROWINGS. The Bank borrows funds from the Federal Home Loan Bank of
Boston for use in connection with its management of the interest rate
sensitivity of its assets and liabilities, as well as for other general
purposes. These advances are collateralized by certain of the Bank's mortgage
loans and by its investment in the stock of the Federal Home Loan Bank. The
maximum amount that the Federal Home Loan Bank will advance to its members,
including the Bank, fluctuates from time to time in accordance with the Federal
Home Loan Bank's policies. At September 30, 1999, the Bank had $4.0 million in
outstanding advances from the Federal Home Loan Bank and had the capacity to
increase that amount to $7.0 million based on the Bank's available qualified
collateral. The Bank expects to continue to borrow from the Federal Home Loan
Bank of Boston.
The following table presents certain information regarding the Bank's
borrowed funds at or for the periods ended on the dates indicated.
<TABLE>
<CAPTION>
AT OR FOR THE
YEAR ENDED SEPTEMBER 30,
------------------------
1999 1998 1997
---- ---- ----
(IN THOUSANDS)
<S> <C> <C> <C>
Federal Home Loan Bank advances:
Average balance outstanding........................... $ 3,198 $ 33 $ 2,330
Maximum amount outstanding at any
month-end during the period....................... $ 4,000 $ 2,000 $ 3,000
Balance outstanding at end of period.................. $ 4,000 $ 2,000 $ -
Weighted average interest rate
during the period................................. 5.22% 6.06% 6.05%
Weighted average interest rate at 5.09% 5.29% -%
end of period.....................................
</TABLE>
23
<PAGE>
COMPETITION
The Bank faces intense competition both in making loans and attracting
deposits. Central Massachusetts has a high concentration of financial
institutions, many of which are branches of large money centers and regional
banks which have resulted from the consolidation of the banking industry in
Massachusetts and surrounding states. Some of these competitors have greater
resources than the Bank does and may offer services that the Bank does not
provide.
The Bank's competition for loans comes principally from commercial
banks, savings institutions, mortgage banking firms, credit unions, finance
companies, mutual funds, insurance companies and brokerage and investment
banking firms. The Bank's most direct competition for deposits has historically
come from commercial banks, savings banks, savings and loan associations and
credit unions. The Bank faces additional competition for deposits from
short-term money market funds and other corporate and government securities
funds and from brokerage firms and insurance companies.
EMPLOYEES
At September 30, 1999, the Bank had 50 full-time and 29 part-time
employees. None of the Bank's employees is represented by a collective
bargaining agreement. Management of the Bank believes that it enjoys excellent
relations with its personnel.
SUBSIDIARY ACTIVITIES
ELI WHITNEY SECURITY CORPORATION. Eli Whitney Security Corporation is a
wholly-owned subsidiary of the Bank. Eli Whitney was established in 1995 as a
Massachusetts security corporation for the purpose of buying, selling and
holding investment securities on its own behalf and not as a broker. The income
earned on Eli Whitney's investment securities is subject to a significantly
lower rate of state tax than that assessed on income earned on investment
securities maintained by the Bank. At September 30, 1999, Eli Whitney had total
assets of $11.8 million, virtually all of which were in investment securities.
ONE HUNDREDTH SECURITY CORPORATION. One Hundredth Security Corporation
is a wholly-owned subsidiary of the Bank established in 1993. One Hundredth is
also a Massachusetts security corporation that was formed for the purpose of
buying, selling and holding investment securities on its own behalf and not as a
broker. The income earned on One Hundredth's investment securities is subject to
a significantly lower rate of state tax than that assessed on income earned on
investment securities maintained by the Bank. At September 30, 1999, One
Hundredth had total assets of $19.0 million, virtually all of which were in
investment securities.
THE HUNDREDTH CORPORATION. The Hundredth Corporation is a wholly-owned
subsidiary of the Bank. The Hundredth Corporation was established in 1991
primarily for the disposal of interests in real or personal property acquired by
the Bank through foreclosure, deed in lieu of foreclosure or otherwise. At
September 30, 1999, The Hundredth Corporation had total assets of $75,200.
24
<PAGE>
FEDERAL AND STATE TAXATION
FEDERAL TAXATION
GENERAL. The following discussion is intended only as a summary and
does not purport to be a comprehensive description of the tax rules applicable
to the Bank, the MHC or the Company. For federal income tax purposes, the Bank
reports income on the basis of a taxable year ending September 30, using the
accrual method of accounting, and the Bank is generally subject to federal
income taxation in the same manner as other corporations. Following the
Reorganization, the Bank and the Company will constitute an affiliated group of
corporations and, therefore, will be eligible to report their income on a
consolidated basis. Because the MHC will own less than 80% of the common stock
of the Company, it will not be a member of such affiliated group and will report
its income on a separate return. The Bank is not currently under audit by the
Internal Revenue Service ("IRS"), but its September 30, 1994 return was audited
in 1996.
BAD DEBT RESERVES. The Bank, as a "small bank" (one with assets having
an adjusted tax basis of $500 million or less) is permitted to maintain a
reserve for bad debts and to make, within specified formula limits, annual
additions to the reserve which are deductible for purposes of computing its
taxable income. Pursuant to the Small Business Job Protection Act of 1996, the
Bank is now recapturing (taking into income) over a multi-year period a portion
of the balance of its bad debt reserve as of September 30, 1996.
DISTRIBUTIONS. To the extent that the Bank makes "non-dividend
distributions" to stockholders, such distributions will be considered to result
in distributions from its unrecaptured tax bad debt reserve. "Base year
reserve," i.e., the Bank's reserve as of September 30, 1988, to the extent
thereof and then from its supplemental reserve for losses on loans, and an
amount based on the amount distributed will be included in the Bank's taxable
income. Non-dividend distributions include distributions in excess of the Bank's
current and accumulated earnings and profits, distributions in redemption of
stock and distributions in partial or complete liquidation. Dividends paid out
of the Bank's current or accumulated earnings and profits will not be included
in its income.
The amount of additional taxable income created from a non-dividend
distribution is equal to the lesser of the Bank's base year reserve and
supplemental reserve for losses on loans or an amount that, when reduced by the
tax attributable to the income, is equal to the amount of the distribution.
Thus, in certain situations, approximately one and one-half times the
non-dividend distribution would be includible in gross income for federal income
tax purposes, assuming a 34% federal corporate income tax rate. The Bank does
not intend to pay dividends that would result in the recapture of any portion of
its bad debt reserves.
CORPORATE ALTERNATIVE MINIMUM TAX. The Internal Revenue Code of 1986,
as amended, imposes a tax ("AMT") on alternative minimum taxable income ("AMTI")
at a rate of 20%. Only 90% of AMTI can be offset by net operating loss
carryovers of which the Bank currently has none. AMTI is also adjusted by
determining the tax treatment of certain items in a manner that negates the
deferral of income resulting from the regular tax treatment of those items. The
Bank has not been subject to AMT during the past five years.
ELIMINATION OF DIVIDENDS; DIVIDENDS RECEIVED DEDUCTION. The Company may
exclude from its income 100% of dividends received from the Bank as a member of
the same affiliated group of corporations. Because, following the
Reorganization, the MHC will not be a member of such affiliated group, it will
not qualify for such 100% dividends exclusion, but will be entitled to deduct
80% of the dividends it receives from the Company so long as it owns more than
20% of the Company's common stock.
25
<PAGE>
STATE TAXATION
The Bank files Massachusetts Savings Institution income tax returns.
Generally, the income of savings institutions in Massachusetts, which is
calculated based on federal taxable income, subject to certain adjustments, is
subject to Massachusetts tax. The Bank is not currently under audit with respect
to its Massachusetts income tax returns and its state tax returns have not been
audited for the past five years.
The Company will be required to file a Massachusetts income tax return
and will generally be subject to a state income tax rate that is the same tax
rate as the tax rate for savings institutions in Massachusetts. However, if the
Company meets certain requirements, it may be eligible to elect to be taxed as a
Massachusetts Security Corporation, which would allow the Company to be taxed at
a rate that is currently lower than income tax rates for savings institutions in
Massachusetts.
26
<PAGE>
REGULATION
GENERAL
The Bank is a Massachusetts-chartered savings bank, and its deposit
accounts are insured up to applicable limits by the Bank Insurance Fund ("BIF")
of the FDIC and by the Depositors Insurance Fund. The Bank is subject to
extensive regulation, examination and supervision by the Commonwealth of
Massachusetts Division of Banks (the "Division") as its primary corporate
regulator, and by the FDIC as the deposit insurer. The Bank must file reports
with the Division and the FDIC concerning its activities and financial
condition, and it must obtain regulatory approval prior to entering into certain
transactions, such as mergers with, or acquisitions of, other depository
institutions and opening or acquiring branch offices. The Division and the FDIC
conduct periodic examinations to assess the Bank's compliance with various
regulatory requirements. This regulation and supervision establishes a
comprehensive framework of activities in which a savings bank can engage and is
intended primarily for the protection of the deposit 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.
The MHC and the Company, as bank holding companies controlling the
Bank, will be subject to the Bank Holding Company Act of 1956, as amended (the
"BHCA"), and the rules and regulations of the Federal Reserve Board (the "FRB")
under the BHCA and to the provisions of the Massachusetts General Laws
applicable to savings banks and other depository institutions and their holding
companies (the "Massachusetts banking laws") and the regulations of the Division
under the Massachusetts banking laws applicable to bank holding companies. The
MHC and the Company will be required to file reports with, and otherwise comply
with, the rules and regulations of the FRB and the Division. The Company will be
required to file certain reports with, and otherwise comply with, the rules and
regulations of the Securities and Exchange Commission under the federal
securities laws.
Any change in such laws and regulations, whether by the Division, the
FDIC or the FRB, or through legislation, could have a material adverse impact on
the MHC, the Company and the Bank, and their operations and stockholders.
Certain of the laws and regulations applicable to the MHC, the Company
and the Bank are summarized below or elsewhere in this document. These summaries
do not purport to be complete and are qualified in their entirety by reference
to such laws and regulations.
MASSACHUSETTS BANKING REGULATION
ACTIVITY POWERS. The Bank derives its lending, investment and other
activity powers primarily from the applicable provisions of the Massachusetts
banking laws and its related regulations. Under these laws and regulations,
savings banks, including the Bank, generally may, invest in (a) real estate
mortgages; (b) consumer and commercial loans; (c) specific types of debt
securities, including certain corporate debt securities and obligations of
federal, state and local governments and agencies; (d) certain types of
corporate equity securities; and (e) certain other assets.
A savings bank may also invest pursuant to a "leeway" power that
permits investments not otherwise permitted by the Massachusetts banking laws.
"Leeway" investments must comply with a number of limitations on the individual
and aggregate amounts of "leeway" investments. A savings bank may also exercise
trust powers upon approval of the Division. Massachusetts savings banks may also
exercise any
27
<PAGE>
power and engage in any activity permissible for national banks in accordance
with regulations adopted by the Division with respect to such power or activity.
The exercise of these lending, investment and activity powers are limited by
federal law and the related regulations. See "-Federal Banking Regulation
- -Activity Restrictions on State-Chartered Banks" below.
COMMUNITY REINVESTMENT ACT. The Bank is also subject to provisions of
the Massachusetts banking laws that, like the provisions of the federal
Community Reinvestment Act ("CRA"), impose continuing and affirmative
obligations upon a banking institution organized in Massachusetts to serve the
credit needs of its local communities ("Massachusetts CRA"). The obligations of
the Massachusetts CRA are similar to those imposed by the CRA, with the
exception of the assigned exam ratings. Massachusetts banking law provides for
an additional exam rating of "high satisfactory" in addition to the federal CRA
ratings of "outstanding," "satisfactory," "needs to improve" and "substantial
noncompliance." The Division has adopted regulations to implement the
Massachusetts CRA that are based on the CRA. See "Federal Banking Regulation -
Community Reinvestment Act." The Division is required to consider a bank's
Massachusetts CRA rating when reviewing the bank's application to engage in
certain transactions, including mergers, asset purchases and the establishment
of branch offices or automated teller machines, and provides that such
assessment may serve as a basis for the denial of any such application. The
Massachusetts CRA requires the Division to assess a bank's compliance with the
Massachusetts CRA and to make such assessment available to the public. The
Bank's most recent Massachusetts CRA rating, received by letter, dated March 22,
1999, from the Division was a rating of "Satisfactory."
LOANS-TO-ONE-BORROWER LIMITATIONS. With specified exceptions, the total
obligations of a single borrower to a Massachusetts-chartered savings bank may
not exceed 20% of the savings bank's surplus account. A savings bank may lend
additional amounts up to 100% of the bank's surplus account if secured by
collateral meeting the requirements of the Massachusetts banking laws. The Bank
currently complies with applicable loans-to-one-borrower limitations.
LOANS TO A BANK'S INSIDERS. Provisions of the Massachusetts banking
laws prohibit a savings bank from making a loan or otherwise extending credit to
any of its officers and directors or trustees and prohibits any such officer,
director or trustee from borrowing, otherwise becoming indebted, or becoming
liable for a loan or other extension of credit by such bank to any other person
except for any of the following loans after approval by a majority of the all of
the members of the bank's Board of Investment, excluding any member involved in
such loan or extension of credit: (a) loan or extension of credit, secured or
unsecured, to an officer of the bank in an amount not exceeding $20,000; (b)
loan or extension of credit intended or secured for educational purposes to an
officer of the bank in an amount not exceeding $75,000; (c) loan or extension of
credit secured by a mortgage on residential real estate to be occupied in whole
or in part by the officer to whom the loan or extension of credit is made, in an
amount not exceeding $275,000; or (d) loan or extension of credit to a director
or trustee of the bank who is not also an officer of the bank in an amount
permissible under the bank's loan-to-one borrower limit. See "Massachusetts
Banking Regulation - Loans-to-One Borrower Limitations" above. No such loan may
be granted with an interest rate or on other terms that are preferential in
comparison to loans granted to persons not affiliated with the savings bank.
DIVIDENDS. Under the Massachusetts banking laws, a stock savings bank
may, subject to several limitations, declare and pay a dividend on its capital
stock, which is the bank's common stock and any preferred stock, out of the
bank's net profits. A dividend may not be declared, credited or paid by a stock
savings bank so long as there is any impairment of capital stock. No dividend
may be declared on the bank's common stock for any period other than for which
dividends are declared upon preferred stock, except as authorized by the
Commissioner of Banks (the "Commissioner"). The approval of the Commissioner is
also required for a stock savings bank to declare a dividend, if the total of
all dividends declared by the savings bank in any calendar year shall exceed the
total of its net profits for that year combined with its retained net
28
<PAGE>
profits of the preceding two years, less any required transfer to surplus or a
fund for the retirement of any preferred stock.
In addition, Federal law also may limit the amount of dividends that
may be paid by the Bank. See " - Federal Banking Regulation - Prompt Corrective
Action" below.
EXAMINATION AND ENFORCEMENT. The Division is required to periodically
examine savings banks at least once every calendar year or at least once each 18
month period if the savings bank qualifies as well capitalized under the prompt
corrective action provisions of the Federal Deposit Insurance Act. See "-Federal
Banking Regulation - Prompt Corrective Action" below. The Division may also
examine a savings bank whenever the Division deems an examination expedient. If
the Division finds, after an inquiry, that any trustee, director or officer of a
savings bank has, among other things, violated any law related to such bank or
has conducted the business of such bank in an unsafe or unsound manner, the
Division may take various actions that could result in the suspension or removal
of such person as an officer, director or trustee of the savings bank. If the
Division determines that, among other things, a savings bank has violated its
charter or any Massachusetts law or is conducting its business in an unsafe or
unsound manner or is in an unsafe or unsound condition to transact its banking
business, the Division may take possession of the property and business of the
savings bank and may, if the facts warrant, initiate the liquidation of the
bank.
FEDERAL BANKING REGULATION
CAPITAL REQUIREMENTS. FDIC regulations require BIF-insured banks, such
as the Bank, to maintain minimum levels of capital. The FDIC regulations define
two tiers, or classes, of capital.
Tier 1 capital is comprised of the sum of common stockholders' equity
(excluding the unrealized appreciation or depreciation, net of tax, from
available-for-sale securities), non-cumulative perpetual preferred stock
(including any related surplus) and minority interests in consolidated
subsidiaries, minus all intangible assets (other than qualifying servicing
rights), and any net unrealized loss on marketable equity securities.
The components of Tier 2 capital currently include cumulative perpetual
preferred stock, certain perpetual preferred stock for which the dividend rate
may be reset periodically, mandatory convertible securities, subordinated debt,
intermediate preferred stock and allowance for possible loan losses. Allowance
for possible loan losses includible in Tier 2 capital is limited to a maximum of
1.25% of risk-weighted assets. Overall, the amount of Tier 2 capital that may be
included in total capital cannot exceed 100% of Tier 1 capital.
The FDIC regulations establish a minimum leverage capital requirement
for banks in the strongest financial and managerial condition, with a rating of
1 (the highest examination rating of the FDIC for banks) under the Uniform
Financial Institutions Rating System, of not less than a ratio of 3.0% of Tier 1
capital to total assets. For all other banks, the minimum leverage capital
requirement is 4.0%, unless a higher leverage capital ratio is warranted by the
particular circumstances or risk profile of the depository institution.
The FDIC regulations also require that savings banks meet a risk-based
capital standard. The risk- based capital standard requires the maintenance of a
ratio of total capital (which is defined as the sum of Tier 1 capital and Tier 2
capital) to risk-weighted assets of at least 8% and a ratio of Tier 1 capital to
risk- weighted assets of at least 4%. In determining the amount of risk-weighted
assets, all assets, plus certain off balance sheet items, are multiplied by a
risk-weight of 0% to 100%, based on the risks the FDIC believes are inherent in
the type of asset or item.
29
<PAGE>
The federal banking agencies, including the FDIC, have also adopted
regulations to require an assessment of an institution's exposure to declines in
the economic value of a bank's capital due to changes in interest rates when
assessing the bank's capital adequacy. Under such a risk assessment, examiners
will evaluate a bank's capital for interest rate risk on a case-by-case basis,
with consideration of both quantitative and qualitative factors. According to
the agencies, applicable considerations include the quality of the bank's
interest rate risk management process, the overall financial condition of the
bank and the level of other risks at the bank for which capital is needed.
Institutions with significant interest rate risk may be required to hold
additional capital. The agencies also issued a joint policy statement providing
guidance on interest rate risk management, including a discussion of the
critical factors affecting the agencies' evaluation of interest rate risk in
connection with capital adequacy.
The following table shows the Bank's leverage ratio, its Tier 1
risk-based capital ratio and its total risk-based capital ratio at September 30,
1999:
<TABLE>
<CAPTION>
AS OF SEPTEMBER 30, 1999
------------------------
CAPITAL PERCENT OF CAPITAL PERCENT OF
AMOUNT ASSETS(1) REQUIREMENTS ASSETS
------ --------- ------------ ------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Regulatory Tier 1
leverage capital.......... $ 19,674 11.40% $ 6,906 4.00%
Tier 1 risk-based capital $ 19,674 20.24% $ 3,888 4.00%
Total risk-based capital $ 20,553 21.15% $ 7,776 8.00%
</TABLE>
- ---------------------------
(1) For purposes of calculating Regulatory Tier 1 leverage capital, assets
are based on adjusted total leverage assets. In calculating Tier 1
risk-based capital and total risk-based capital, assets are based on
total risk-weighted assets.
As the table shows, the Bank exceeded the minimum capital adequacy
requirements at the date indicated.
ACTIVITY RESTRICTIONS ON STATE-CHARTERED BANKS. Section 24 of the
Federal Deposit Insurance Act, as amended (the "FDIA"), which was added by the
Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"),
generally limits the activities and investments of state-chartered FDIC insured
banks and their subsidiaries to those permissible for federally-chartered
national banks and their subsidiaries, unless such activities and investments
are specifically exempted by Section 24 or consented to by the FDIC.
Section 24 provides an exception for investments by a bank in common
and preferred stocks listed on a national securities exchange or the shares of
registered investment companies if: (a) the bank held such types of investments
during the 14-month period from September 30, 1990 through November 26, 1991;
(b) the state in which the bank is chartered permitted such investments as of
September 30, 1991; and (c) the bank notifies the FDIC and obtains approval from
the FDIC to make or retain such investments. Upon receiving such FDIC approval,
an institution's investment in such equity securities will be subject to an
aggregate limit up to the amount of its Tier 1 capital. The Bank received
approval from the FDIC to retain and acquire such equity investments subject to
a maximum permissible investment equal to the lesser of 100% of the Bank's Tier
1 capital or the maximum permissible amount specified by the Massachusetts
banking laws. Section 24 also provides an exception for majority owned
subsidiaries of a bank, but Section 24 limits the activities of such
subsidiaries to those permissible for a national bank, permissible under Section
24 of the FDIA and the FDIC regulations issued pursuant thereto, or as approved
by the FDIC.
Before making a new investment or engaging in a new activity not
permissible for a national bank or otherwise permissible under Section 24 of the
FDIC regulations thereunder, an insured bank must seek approval from the FDIC to
make such investment or engage in such activity. The FDIC will not approve the
30
<PAGE>
activity unless the bank meets its minimum capital requirements and the FDIC
determines that the activity does not present a significant risk to the FDIC
insurance funds.
ENFORCEMENT. The FDIC has extensive enforcement authority over insured
savings banks, including the Bank. This enforcement authority includes, among
other things, the ability to assess civil money penalties, to issue cease and
desist orders and to remove directors and officers. In general, these
enforcement actions may be initiated in response to violations of laws and
regulations and to unsafe or unsound practices.
The FDIC is required, with certain exceptions, to appoint a receiver or
conservator for an insured state bank if that bank is "critically
undercapitalized." For this purpose, "critically undercapitalized" means having
a ratio of tangible capital to total assets of less than 2%. The FDIC may also
appoint a conservator or receiver for a state bank on the basis of the
institution's financial condition or upon the occurrence of certain events,
including: (a) insolvency (whereby the assets of the bank are less than its
liabilities to depositors and others); (b) substantial dissipation of assets or
earnings through violations of law or unsafe or unsound practices; (c) existence
of an unsafe or unsound condition to transact business; (d) likelihood that the
bank will be unable to meet the demands of its depositors or to pay its
obligations in the normal course of business; and (e) insufficient capital or
the incurring or likely incurring of losses that will deplete substantially all
of the institution's capital with no reasonable prospect of replenishment of
capital without federal assistance.
DEPOSIT INSURANCE. Pursuant to FDICIA, the FDIC established a system
for setting deposit insurance premiums based upon the risks a particular bank or
savings association posed to its deposit insurance funds. Under the risk-based
deposit insurance assessment system, the FDIC assigns an institution to one of
three capital categories based on the institution's financial information, as of
the reporting period ending six months before the assessment period. The three
capital categories are (1) well capitalized, (2) adequately capitalized and (3)
undercapitalized. The FDIC also assigns an institution to one of three
supervisory subcategories within each capital group. With respect to the capital
ratios, institutions are classified as well capitalized, adequately capitalized
or undercapitalized using ratios that are substantially similar to the prompt
corrective action capital ratios discussed below. The FDIC also assigns an
institution to supervisory subgroup based on a supervisory evaluation provided
to the FDIC by the institution's primary federal regulator and information that
the FDIC determines to be relevant to the institution's financial condition and
the risk posed to the deposit insurance funds (which may include, if applicable,
information provided by the institution's state supervisor).
An institution's assessment rate depends on the capital category and
supervisory category to which it is assigned. Under the final risk-based
assessment system, there are nine assessment risk classifications (i.e.,
combinations of capital groups and supervisory subgroups) to which different
assessment rates are applied. Assessment rates for deposit insurance currently
range from 0 basis points to 27 basis points. The capital and supervisory
subgroup to which an institution is assigned by the FDIC is confidential and may
not be disclosed. A bank's rate of deposit insurance assessments will depend
upon the category and subcategory to which the bank is assigned by the FDIC. Any
increase in insurance assessments could have an adverse effect on the earnings
of insured institutions, including the Bank.
Under the Deposit Insurance Funds Act of 1996 (the "Funds Act"), the
assessment base for the payments on the bonds (the "FICO bonds") issued in the
late 1980's by the Financing Corporation to recapitalize the now defunct Federal
Savings and Loan Insurance Corporation was expanded to include, beginning
January 1, 1997, the deposits of BIF-insured institutions, such as the Bank.
Until December 31, 1999, or such earlier date on which the last savings
association ceases to exist, the rate of assessment for BIF-assessable deposits
will be one-fifth of the rate imposed on deposits insured by the Savings
Association Insurance Fund (the "SAIF"). The annual rate of assessments for the
payments on the FICO bonds for the
31
<PAGE>
quarterly period beginning on January 1, 1999 was 0.0122% for BIF-assessable
deposits and 0.0610% for SAIF-assessable deposits.
Under the FDIA, the FDIC may terminate the insurance of an
institution's deposits 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. The Bank's management does not know of any
practice, condition or violation that might lead to termination of deposit
insurance.
TRANSACTIONS WITH AFFILIATES OF THE BANK. Transactions between an
insured bank, such as the Bank, and any of its affiliates are governed by
Sections 23A and 23B of the Federal Reserve Act. An affiliate of a bank is any
company or entity that controls, is controlled by or is under common control
with the bank. Currently, a subsidiary of a bank that is not also a depository
institution is not treated as an affiliate of the bank for purposes of Sections
23A and 23B, but the FRB has proposed treating any subsidiary of a bank that is
engaged in activities not permissible for bank holding companies under the BHCA,
as an affiliate for purposes of Sections 23A and 23B. Sections 23A and 23B (1)
limit the extent to which the bank or its subsidiaries may engage in "covered
transactions" with any one affiliate to an amount equal to 10% of such bank's
capital stock and surplus, and limit all such transactions with all affiliates
to an amount equal to 20% of such capital stock and surplus, and (2) require
that all such transactions be on terms that are consistent with safe and sound
banking practices. The term "covered transaction" includes the making of loans,
purchase of assets, issuance of guarantees and other similar types of
transactions. Further, most loans by a bank to any of its affiliates must be
secured by collateral in amounts ranging from 100 to 130 percent of the loan
amounts. In addition, any covered transaction by a bank with an affiliate and
any purchase of assets or services by a bank from an affiliate must be on terms
that are substantially the same, or at least as favorable, to the bank as those
that would be provided to a non-affiliate.
PROHIBITIONS AGAINST TYING ARRANGEMENTS. Banks are subject to the
prohibitions of 12 U.S.C. ss. 1972 on certain tying arrangements. A depository
institution is prohibited, subject to certain exceptions, from extending credit
to or offering any other service, or fixing or varying the consideration for
such extension of credit or service, on the condition that the customer obtain
some additional service from the institution or certain of its affiliates or not
obtain services of a competitor of the institution.
UNIFORM REAL ESTATE LENDING STANDARDS. Pursuant to FDICIA, the federal
banking agencies adopted uniform regulations prescribing standards for
extensions of credit that are secured by liens on interests in real estate or
made for the purpose of financing the construction of a building or other
improvements to real estate. Under the joint regulations adopted by the federal
banking agencies, all insured depository institutions must adopt and maintain
written policies that establish appropriate limits and standards for extensions
of credit that are secured by liens or interests in real estate or are made for
the purpose of financing permanent improvements to real estate. These policies
must establish loan portfolio diversification standards, prudent underwriting
standards (including loan-to-value limits) that are clear and measurable, loan
administration procedures, and documentation, approval and reporting
requirements. The real estate lending policies must reflect consideration of the
Interagency Guidelines for Real Estate Lending Policies that have been adopted
by the federal bank regulators.
The Interagency Guidelines, among other things, require a depository
institution to establish internal loan-to-value limits for real estate loans
that are not in excess of the following supervisory limits:
o for loans secured by raw land, the supervisory loan-to-value
limit is 65% of the value of the collateral;
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<PAGE>
o for land development loans (i.e., loans for the purpose of
improving unimproved property prior to the erection of
structures), the supervisory limit is 75%;
o for loans for the construction of commercial, multifamily or
other non-residential property, the supervisory limit is 80%;
o for loans for the construction of one- to four-family
properties, the supervisory limit is 85%; and
o for loans secured by other improved property (e.g., farmland,
completed commercial property and other income producing
property including non-owner occupied, one- to four-family
property), the limit is 85%.
Although no supervisory loan-to-value limit has been established for
owner-occupied, one-to four-family and home equity loans, the Interagency
Guidelines state that for any such loan with a loan-to-value ratio that equals
or exceeds 90% at origination, an institution should require appropriate credit
enhancement in the form of either mortgage insurance or readily marketable
collateral.
COMMUNITY REINVESTMENT ACT. Under the Community Reinvestment Act, any
insured depository institution, including the Bank, has a continuing and
affirmative obligation consistent with its safe and sound operation to help meet
the credit needs of its entire community, including low- and moderate-income
neighborhoods. The CRA does not establish specific lending requirements or
programs for financial institutions nor does it limit an institution's
discretion to develop the types of products and services that it believes are
best suited to its particular community. The CRA requires the FDIC, in
connection with its examination of a savings bank, to assess the depository
institution's record of meeting the credit needs of its community and to take
such record into account in its evaluation of certain applications by such
institution, including applications for additional branches and acquisitions.
Among other things, the current CRA regulations replace the prior
process-based assessment factors with a new evaluation system that rates an
institution based on its actual performance in meeting community needs. In
particular, the current evaluation system focuses on three tests: (1) a lending
test, to evaluate the institution's record of making loans in its service areas;
(2) an investment test, to evaluate the institution's record of investing in
community development projects, affordable housing, and programs benefitting low
or moderate income individuals and businesses; and (3) a service test, to
evaluate the institution's delivery of services through its branches, ATMs and
other offices.
For a small bank, which is a bank with less than $250 million in assets
in the year prior to the CRA examination, such as the Bank, the CRA assessment
will be based on: (a) the bank's loan-to-deposit ratio; (b) the percentage of
the bank's loans and any other appropriate lending related activities located in
the bank's assessment areas; (c) the bank's record of lending to, and other
appropriate lending related activities for borrowers of different income levels
and businesses and farms of different sizes; (d) the geographic distribution of
the bank's loans; and (e) the bank's record in acting in response to written
complaints about the bank's performance in helping to meet the credit needs of
its assessment areas.
The CRA requires the FDIC to provide a written evaluation of an
institution's CRA performance utilizing a four-tiered descriptive rating system
and requires public disclosure of an institution's CRA rating. The Bank received
a "Satisfactory" rating in its CRA examination conducted by the FDIC on March 1,
1999.
SAFETY AND SOUNDNESS STANDARDS. Pursuant to the requirements of FDICIA,
as amended by the Riegle Community Development and Regulatory Improvement Act of
1994, each federal banking agency, including
33
<PAGE>
the FDIC, has adopted guidelines establishing general standards relating to
internal controls, information and internal audit systems, loan documentation,
credit underwriting, interest rate exposure, asset growth, asset quality,
earnings, and compensation, fees and benefits. In general, the guidelines
require, among other things, appropriate systems and practices to identify and
manage the risks and exposures specified in the guidelines. The guidelines
prohibit excessive compensation as an unsafe and unsound practice and describe
compensation as excessive when the amounts paid are unreasonable or
disproportionate to the services performed by an executive officer, employee,
director or principal stockholder.
In addition, the FDIC adopted regulations to require a bank that is
given notice by the FDIC that it is not satisfying any of such safety and
soundness standards to submit a compliance plan to the FDIC. If, after being so
notified, a bank fails to submit an acceptable compliance plan or fails in any
material respect to implement an accepted compliance plan, the FDIC may issue an
order directing corrective and other actions of the types to which a
significantly undercapitalized institution is subject under the "prompt
corrective action" provisions of FDICIA. If a bank fails to comply with such an
order, the FDIC may seek to enforce such an order in judicial proceedings and to
impose civil monetary penalties.
PROMPT CORRECTIVE ACTION. FDICIA also established a system of prompt
corrective action to resolve the problems of undercapitalized institutions. The
FDIC, as well as the other federal banking regulators, adopted regulations
governing the supervisory actions that may be taken against undercapitalized
institutions. The regulations establish five categories, consisting of "well
capitalized," "adequately capitalized," "undercapitalized," "significantly
undercapitalized" and "critically undercapitalized." The FDIC's regulations
define the five capital categories as follows. Generally, an institution will be
treated as "well capitalized" if its ratio of total capital to risk-weighted
assets is at least 10%, its ratio of Tier 1 capital to risk- weighted assets is
at least 6%, its ratio of Tier 1 capital to total assets is at least 5%, and it
is not subject to any order or directive by the FDIC to meet a specific capital
level. An institution will be treated as "adequately capitalized" if its ratio
of total capital to risk-weighted assets is at least 8%, its ratio of Tier 1
capital to risk-weighted assets is at least 4%, and its ratio of Tier 1 capital
to total assets is at least 4% (3% if the bank receives the highest rating under
the Uniform Financial Institutions Rating System) and it is not a
well-capitalized institution. An institution that has total risk-based capital
of less than 8%, Tier 1 risk- based-capital of less than 4% or a leverage ratio
that is less than 4% (or less than 3% if the institution is rated a composite
"1" under the Uniform Financial Institutions Rating System) would be considered
to be "undercapitalized." An institution that has total risk-based capital of
less than 6%, Tier 1 capital of less than 3% or a leverage ratio that is less
than 3% would be considered to be "significantly undercapitalized," and an
institution that has a tangible capital to assets ratio equal to or less than 2%
would be deemed to be "critically undercapitalized."
The severity of the action authorized or required to be taken under the
prompt corrective action regulations increases as a bank's capital decreases
within the three undercapitalized categories. All banks are prohibited from
paying dividends or other capital distributions or paying management fees to any
controlling person if, following such distribution, the bank would be
undercapitalized. The FDIC is required to monitor closely the condition of an
undercapitalized bank and to restrict the growth of its assets. An
undercapitalized bank is required to file a capital restoration plan within 45
days of the date the bank receives notice that it is within any of the three
undercapitalized categories, and the plan must be guaranteed by any parent
holding company. The aggregate liability of a parent holding company is limited
to the lesser of: (a) an amount equal to the five percent of the bank's total
assets at the time it became "undercapitalized," and (b) the amount that is
necessary (or would have been necessary) to bring the bank into compliance with
all capital standards applicable with respect to such bank as of the time it
fails to comply with the plan. If a bank fails to submit an acceptable plan, it
is treated as if it were "significantly undercapitalized." Banks that are
significantly or critically undercapitalized are subject to a wider range of
regulatory requirements and restrictions.
34
<PAGE>
The FDIC has a broad range of grounds under which it may appoint a
receiver or conservator for an insured depositary bank. If one or more grounds
exist for appointing a conservator or receiver for a bank, the FDIC may require
the bank to issue additional debt or stock, sell assets, be acquired by a
depository bank holding company or combine with another depository bank. Under
FDICIA, the FDIC is required to appoint a receiver or a conservator for a
critically undercapitalized bank within 90 days after the bank becomes
critically undercapitalized or to take such other action that would better
achieve the purposes of the prompt corrective action provisions. Such
alternative action can be renewed for successive 90-day periods. However, if the
bank continues to be critically undercapitalized on average during the quarter
that begins 270 days after it first became critically undercapitalized, a
receiver must be appointed, unless the FDIC makes certain findings that the bank
is viable.
LOANS TO A BANK'S INSIDERS. A bank's loans to its executive officers,
directors, any owner of 10% or more of its stock (each, an "insider") and any of
certain entities affiliated with any such person (an insider's related interest)
are subject to the conditions and limitations imposed by Section 22(h) of the
Federal Reserve Act and the FRB's Regulation O thereunder. Under these
restrictions, the aggregate amount of the loans to any insider and the insider's
related interests may not exceed the loans-to-one-borrower limit applicable to
national banks, which is comparable to the loans-to-one-borrower limit
applicable to the Bank's loans. See "Massachusetts Banking Regulation -
Loans-to-One Borrower Limitations." All loans by a bank to all insiders and
insiders' related interests in the aggregate may not exceed the bank's
unimpaired capital and unimpaired surplus. With certain exceptions, loans to an
executive officer, other than loans for the education of the officer's children
and certain loans secured by the officer's residence, may not exceed the lesser
of (1) $100,000 or (2) the greater of $25,000 or 2.5% of the bank's capital and
unimpaired surplus. Regulation O also requires that any proposed loan to an
insider or a related interest of that insider be approved in advance by a
majority of the Board of Directors of the bank, with any interested director not
participating in the voting, if such loan, when aggregated with any existing
loans to that insider and the insider's related interests, would exceed either
(1) $500,000 or (2) the greater of $25,000 or 5% of the bank's unimpaired
capital and surplus. Generally, such loans must be made on substantially the
same terms as, and follow credit underwriting procedures that are not less
stringent than, those that are prevailing at the time for comparable
transactions with other persons. An exception is made for extensions of credit
made pursuant to a benefit or compensation plan of a bank that is widely
available to employees of the bank and that does not give any preference to
insiders of the bank over other employees of the bank.
In addition, provisions of the BHCA prohibit extensions of credit to a
bank's insiders and their related interests by any other institution that has a
correspondent banking relationship with the bank, unless such extension of
credit is on substantially the same terms as those prevailing at the time for
comparable transactions with other persons and does not involve more than the
normal risk of repayment or present other unfavorable features.
FEDERAL RESERVE SYSTEM
Under FRB regulations, the Bank is required to maintain
noninterest-earning reserves against its transaction accounts (primarily NOW and
regular checking accounts). The FRB regulations generally require that reserves
of 3% must be maintained against aggregate transaction accounts of $46.5 million
or less (subject to adjustment by the FRB) and an initial reserve of $1.4
million plus 10% (subject to adjustment by the FRB 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
FRB) are exempted from the reserve requirements. The Bank is in compliance with
the foregoing requirements. Because required reserves must be maintained in the
form of either vault cash, a noninterest-bearing account at a Federal Reserve
Bank or a pass-through account as defined by the FRB, the effect of this reserve
requirement is to reduce the Bank's interest-earning assets.
35
<PAGE>
HOLDING COMPANY REGULATION
FEDERAL REGULATION. After the Reorganization, the MHC and the Company
will be governed as bank holding companies. Bank holding companies are subject
to examination, regulation and periodic reporting under the BHCA, as
administered by the FRB. The FRB has adopted capital adequacy guidelines for
bank holding companies on a consolidated basis substantially similar to those of
the FDIC for the Bank. As of September 30, 1999, the Company's total capital and
Tier 1 capital ratios for the MHC and the Company would, on a pro forma basis,
exceed these minimum capital requirements.
Regulations of the FRB provide that a bank holding company must serve
as a source of strength to any of its subsidiary banks and must not conduct its
activities in an unsafe or unsound manner. Under the prompt corrective action
provisions of FDICIA, a bank holding company parent of an undercapitalized
subsidiary bank would be directed to guarantee, within limitations, the capital
restoration plan that is required of such an undercapitalized bank. See " -
Federal Banking Regulation - Prompt Corrective Action" above. If the
undercapitalized bank fails to file an acceptable capital restoration plan or
fails to implement an accepted plan, the FRB may prohibit the bank holding
company parent of the undercapitalized bank from paying any dividend or making
any other form of capital distribution without the prior approval of the FRB.
As bank holding companies, the MHC and the Company will be required to
obtain the prior approval of the FRB to acquire all, or substantially all, of
the assets of any bank or bank holding company. Prior FRB approval will be
required for the MHC or the Company to acquire direct or indirect ownership or
control of any voting securities of any bank or bank holding company if, after
giving effect to such acquisition, it would, directly or indirectly, own or
control more than 5% of any class of voting shares of such bank or bank holding
company.
A bank holding company is required to give the FRB prior written notice
of any purchase or redemption of its outstanding equity securities if the gross
consideration for the purchase or redemption, when combined with the net
consideration paid for all such purchases or redemptions during the preceding 12
months will be equal to 10% or more of the company's consolidated net worth. The
FRB may disapprove such a purchase or redemption if it determines that the
proposal would constitute an unsafe and unsound practice, or would violate any
law, regulation, FRB order or directive, or any condition imposed by, or written
agreement with, the FRB. Such notice and approval is not required for a bank
holding company that would be treated as "well capitalized" under applicable
regulations of the FRB, that has received a composite "1" or "2" rating at its
most recent bank holding company inspection by the FRB, and that is not the
subject of any unresolved supervisory issues.
In addition, a bank holding company, which does not qualify as a
financial holding company under the Gramm-Leach-Bliley Act (the "GLBA"), is
generally prohibited from engaging in, or acquiring direct or indirect control
of any company engaged in non-banking activities. One of the principal
exceptions to this prohibition is for activities found by the FRB to be so
closely related to banking or managing or controlling banks as to be a proper
incident thereto. Some of the principal activities that the FRB has determined
by regulation to be so closely related to banking as to be a proper incident
thereto are: (a) making or servicing loans; (b) performing certain data
processing services; (c) providing discount brokerage services; (d) acting as
fiduciary, investment or financial advisor; (e) leasing personal or real
property; (f) making investments in corporations or projects designed primarily
to promote community welfare; and (g) acquiring a savings and loan association.
Bank holding companies that do qualify as a financial holding company under the
GLBA may engage in activities that are financial in nature or incidental
thereto. Bank holding companies may qualify to become a financial holding
company if each of its depository institution subsidiaries is "well
capitalized," "well managed," has at least a "satisfactory" CRA rating at its
most recent examination and the
36
<PAGE>
bank holding company has filed a certification with the FRB that it elects to
become a financial holding company.
Under the Federal Deposit Insurance Act, depository institutions are
liable to the FDIC for losses suffered or anticipated by the FDIC in connection
with the default of a commonly controlled depository institution or any
assistance provided by the FDIC to such an institution in danger of default.
This law would have potential applicability if the MHC or the Company ever
acquired as a separate subsidiary a depository institution in addition to the
Bank.
MASSACHUSETTS REGULATION. Under the Massachusetts banking laws, a
company owning or controlling two or more banking institutions, including a
savings bank, is regulated as a bank holding company. The term "company" is
defined by the Massachusetts banking laws similarly to the definition of
"company" under the BHCA. Each Massachusetts bank holding company must: (a)
obtain the approval of the Massachusetts Board of Bank Incorporation before
engaging in certain transactions, such as the acquisition of more than 5% of the
voting stock of another banking institution; and (b) must register, and file
certain reports, with the Division and is subject to examination by the
Division. The MHC or the Company will become a Massachusetts bank holding
company if they acquire a second banking institution and hold and operate it
separately from the Bank.
ACQUISITION OF THE COMPANY
Under federal law, no person may acquire control of the Company or the
Bank without first obtaining, as summarized below, approval of such acquisition
of control by the FRB and the Division.
FEDERAL RESTRICTIONS. Under the federal Change in Bank Control Act, any
person (including a company), or group acting in concert, seeking to acquire 10%
or more of the outstanding shares of the Company's common stock will be required
to submit prior notice to the FRB, unless the FRB has found that the acquisition
of such shares will not result in a change in control of the Company. Under the
BHCA, the FRB has 60 days within which to act on such notices, taking into
consideration certain factors, including the financial and managerial resources
of the acquiror, the convenience and needs of the communities served by the
Company and the Bank, and the antitrust effects of the acquisition. Under the
BHCA, any company would be required to obtain prior approval from the FRB before
it may obtain "control," within the meaning of the BHCA, of the Company. The
term "control" is defined generally under the BHCA to mean the ownership or
power to vote 25% more of any class of voting securities of an institution or
the ability to control in any manner the election of a majority of the
institution's directors.
MASSACHUSETTS RESTRICTIONS. Under the Massachusetts banking laws, the
prior approval of the Division is required before any person may acquire a
Massachusetts bank holding company, such as the Company. For this purpose, the
term "person" is defined broadly to mean a natural person or a corporation,
company, partnership or other form of organized entity. The term "acquire" is
defined differently for an existing bank holding company and for other companies
or persons. A bank holding company will be treated as "acquiring" a
Massachusetts bank holding company if the bank holding company acquires more
than 5% of any class of the voting shares of the bank holding company. Any other
person will be treated as "acquiring" a Massachusetts bank holding company if it
acquires ownership or control of more than 25% of any class of the voting shares
of the bank holding company.
DIVIDEND WAIVERS BY THE MHC
Certain mutual holding companies have waived the receipt of dividends
declared by its savings institution subsidiary. Any such dividend waiver by the
MHC will be subject to the following restrictions:
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<PAGE>
MASSACHUSETTS RESTRICTIONS. Under applicable Massachusetts regulations,
a mutual holding company may not waive any dividends to be paid by any of its
subsidiary institutions if any shares of the stock to which the waiver would
apply is held by an insider (any officer, director, or corporator of the mutual
holding company or a subsidiary banking institution) or a stock benefit plan of
the mutual holding company unless prior written notice of the waiver has been
given to the Division and the Division does not object to the waiver. The
Division may not object to a dividend waiver notice if: (a) the waiver would not
be detrimental to the safe and sound operation of the subsidiary banking
institution, and (b) the board of trustees of the mutual holding company
expressly determines, as evidenced by a resolution of the board of trustees,
that such waiver is consistent with the trustees' fiduciary duties to the mutual
members of the mutual holding company.
FEDERAL RESTRICTIONS. In connection with its approval of the
Reorganization, it is expected that the FRB will impose certain conditions on
the waiver by the MHC of dividends paid on the Common Stock by the Company. In
particular, the FRB is expected to require that the MHC obtain the prior
approval of the FRB before the MHC may waive any dividends from the Company. As
of the date hereof, the Bank is not aware that the FRB has given its approval to
any waiver of dividends by any mutual holding company that has requested such
approval.
The Bank also expects that the terms of the FRB approval of the
Reorganization will require that the amount of any dividends waived by the MHC
will not be available for payment to its public stockholders of the Company
(i.e., stockholders except for the MHC) and that such amount will be excluded
from the Company's capital for purposes of calculating dividends payable to the
public stockholders. Moreover, the Bank is required to maintain the cumulative
amount of dividends waived by the MHC in a restricted capital account that would
be added to the liquidation account established in the Reorganization. This
amount would not be available for distribution to public stockholders. The
restricted capital account and liquidation account amounts would not be
reflected in the Bank's financial statements, but would be considered as a
notational or memorandum account of the Bank. These accounts would be maintained
in accordance with the laws, rules, regulations and policies of the Division and
the Plan of Reorganization. The Plan of Reorganization also provides that if the
MHC converts to stock form in the future (commonly referred to as a second-step
conversion), any waived dividends would reduce the percentage of the converted
company's shares of common stock issued to public stockholders in connection
with any such transaction.
The MHC does not expect initially to waive dividends declared by the
Company. If the MHC decides that it is in its best interest to waive a
particular dividend to be paid by the Company and the FRB approves such waiver,
then the Company would pay such dividend only to its public stockholders. The
amount of the dividend waived by the MHC would be treated in the manner
described above. The MHC's decision as to whether or not to waive a particular
dividend will depend on a number of factors, including the MHC's capital needs,
the investment alternatives available to the MHC as compared to those available
to the Company, and the possibility of regulatory approvals. The Bank cannot
guarantee: (1) that after the reorganization, the MHC will waive dividends paid
by the Company; (2) that if the application is made to waive a dividend, that
the FRB will approve such dividend waiver request; or (3) what conditions might
be imposed by the FRB on any dividend waiver.
FEDERAL SECURITIES LAWS
The Common Stock to be issued in the Offering is registered with the
SEC under the Exchange Act. The Company is subject to the information, proxy
solicitation, insider trading restrictions and other requirements of the SEC
under the Exchange Act.
38
<PAGE>
ITEM 2. DESCRIPTION OF PROPERTY
The Bank currently conducts its business through its executive and
administrative offices and its six retail banking offices, five of which are
full service branches. As of September 30, 1999, the properties and leasehold
improvements owned by us had an aggregate net book value of $1.7 million.
<TABLE>
<CAPTION>
ORIGINAL DATE DEPOSITS
LEASED OR LEASED OR DATE OF LEASE AT SEPTEMBER
LOCATION OWNED ACQUIRED EXPIRATION 30, 1999
-------- ----- -------- ---------- --------
(In thousands)
<S> <C> <C> <C> <C>
MAIN OFFICE:
100 E. Main Street Owned 06/10/75 -- $57,903
Westborough, MA
BRANCH OFFICES:
33 W. Main Street Owned 05/01/54 -- $32,212
Westborough, MA
53 W. Main Street Owned 07/01/81 -- $40,275
Northborough, MA
19 Maple Avenue Leased 12/01/95 11/30/00 $12,500
Shrewsbury, MA
Shaw's Supermarket Leased 05/01/99 04/30/04 $863
Shrewsbury, MA
OTHER OFFICES:
The Willows(1) Leased 08/01/87 07/31/00 $6,358
One Lyman Street
Westborough, MA
Operations Center Leased 01/01/98 12/31/99 --
176 E. Main Street
Westborough, MA
</TABLE>
- ------------------
(1) This office provides limited retail banking services to the residents
of the Willows. It is not open to the general public and maintains
restricted operating hours.
39
<PAGE>
ITEM 3. LEGAL PROCEEDINGS
Although the Bank and the Company, from time to time, are involved in
various legal proceedings in the normal course of business, there are no
material legal proceedings to which the Bank or the Company, its directors or
its officers is a party or to which any of its property is subject as of the
date of this Form 10- KSB.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR THE COMPANY'S COMMON STOCK AND RELATED
STOCKHOLDER MATTERS
Prior to the Reorganization and the Offering, the Bank was a mutual
savings bank and, therefore, no trading market for common stock existed as of
the fiscal year ended September 30, 1999. Upon consummation of the
Reorganization and the Offering, the Company's Common Stock will begin trading
on the over-the-counter market with quotations available through the OTC
Bulletin Board under the symbol "WFSM." The price of the common stock to be sold
in the Offering is $10.00 per share.
The Company has not paid a dividend. The Board of Directors may
consider the payment of cash dividends, dependent upon the results of operations
and financial condition of the Company, tax considerations, industry standards,
economic considerations, regulatory restrictions, general business factors and
other conditions. The Company's ability to pay dividends is dependent upon the
dividend payments it receives from the Bank which are subject to regulations and
the Bank's continued compliance with all regulatory capital requirements.
40
<PAGE>
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA OF THE BANK
The selected consolidated financial and other data of the Bank set
forth below is derived in part from, and should be read in conjunction with, the
Consolidated Financial Statements of the Bank and Notes thereto.
<TABLE>
<CAPTION>
AT SEPTEMBER 30,
----------------
1999 1998 1997
---- ---- ----
(IN THOUSANDS)
<S> <C> <C> <C>
SELECTED FINANCIAL DATA:
Total assets............................................. $ 174,594 $ 158,523 $ 143,896
Loans, net(1)............................................ 92,092 82,348 70,580
Investment securities(2)................................. 64,457 60,107 61,654
Total deposits........................................... 150,111 135,962 125,170
Federal Home Loan Bank advances.......................... 4,000 2,000 -
Total surplus............................................ 19,281 19,367 17,447
Allowance for loan losses................................ 879 827 786
Non-accrual loans........................................ - - -
Non-performing assets.................................... - 74 19
</TABLE>
<TABLE>
<CAPTION>
FOR THE YEAR ENDED
SEPTEMBER 30,
-------------
1999 1998 1997
---- ---- ----
(IN THOUSANDS)
<S> <C> <C> <C>
SELECTED OPERATING DATA:
Interest and dividend income............................. $ 10,606 $ 9,933 $ 9,461
Total interest expense................................... 4,976 4,557 4,426
-------- ------- -------
Net interest income...................................... 5,630 5,376 5,035
Provision for loan losses................................ 45 39 96
-------- ------- -------
Net interest income,
after provision for loan losses....................... 5,585 5,337 4,939
Total other income....................................... 1,247 383 608
Total operating expense.................................. 4,663 3,657 3,563
-------- ------- -------
Income before income taxes............................... 2,169 2,063 1,984
Provision for income taxes............................... 696 750 676
-------- ------- -------
Net income............................................... $ 1,473 $ 1,313 $ 1,308
======== ======= =======
</TABLE>
(footnotes on next page)
41
<PAGE>
<TABLE>
<CAPTION>
AT OR FOR THE YEAR ENDED SEPTEMBER 30,
--------------------------------------
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
SELECTED FINANCIAL RATIOS AND OTHER DATA(3)
PERFORMANCE RATIOS:
Return on average assets............................... 0.89% 0.88% 0.93%
Return on average equity............................... 7.56% 7.25% 8.06%
Average equity to average assets....................... 11.73% 12.16% 11.58%
Equity to total assets at end of period................ 11.04% 12.22% 12.12%
Average interest rate spread........................... 3.01% 3.20% 3.24%
Net interest margin(4)................................. 3.54% 3.76% 3.74%
Average interest-earning assets to average
interest-bearing liabilities........................ 117.12% 117.84% 115.60%
Total operating expense to average
assets.............................................. 2.81% 2.46% 2.54%
Efficiency ratio(5).................................... 67.81% 63.50% 63.14%
REGULATORY CAPITAL RATIOS:
Regulatory tier 1 leverage capital..................... 11.40% 12.00% 11.90%
Tier 1 risk-based capital.............................. 20.24% 21.80% 22.90%
Total risk-based capital............................... 21.15% 22.70% 24.00%
ASSET QUALITY RATIOS:
Non-performing loans as a percent
of loans............................................ - - -
Non-performing assets as a percent
of total assets..................................... - 0.05% 0.01%
Allowance for loan losses as a percent
of total loans before the allowance for loan
losses.............................................. 0.95% 0.99% 1.10%
NUMBER OF:
Full-service offices(6)................................ 5 4 4
Full-time equivalent employees......................... 59 53 51
</TABLE>
- -------------------------
(1) Loans are shown net of deferred loan costs (fees), allowance for loan loss
and unadvanced loan funds.
(2) Includes Federal Home Loan Bank of Boston stock.
(3) Asset Quality Ratios and Regulatory Capital Ratios are end of period
ratios.
(4) Net interest margin represents net interest income as a percentage of
average interest-earning assets.
(5) The efficiency ratio represents the ratio of operating expenses divided by
the sum of net interest income and other income.
(6) The number of full-service offices shown does not include the Bank's
branch at the Willows or the Operations Center.
42
<PAGE>
GENERAL
The Bank's results of operations depend primarily on net interest
income. Net interest income is the difference between the interest income the
Bank earns on its interest-earning assets, primarily mortgage loans,
mortgage-backed securities and investment securities, and the interest it pays
on its interest-bearing liabilities, primarily certificates of deposit and
savings accounts. The Bank's results of operations are also affected by its
provision for loan losses, other income and operating expense. Operating expense
consists primarily of salaries and employee benefits, occupancy expenses and
other general and administrative expenses. Other income consists mainly of
service fees and charges, income from writing covered call options and gains on
sales of securities.
The Bank's results of operations may also be affected significantly by
general and local economic and competitive conditions, particularly those with
respect to changes in market interest rates, government policies and actions of
regulatory authorities. Future changes in applicable law, regulations or
government policies may materially impact the Bank. Additionally, the Bank's
lending activity is concentrated in loans secured by real estate located in
Westborough, Northborough, Shrewsbury and Grafton, Massachusetts. Accordingly,
the Bank's results of operations are affected by regional market and economic
conditions.
MARKET RISK ANALYSIS
MANAGEMENT OF INTEREST RATE RISK. As a financial institution, a primary
component of market risk is interest rate volatility. Fluctuations in interest
rates will ultimately impact both the Bank's level of income and expense
recorded on a large portion of its assets and liabilities. Fluctuations in
interest rates will also affect the market value of all interest-earning assets,
other than those which possess a short term to maturity.
During fiscal year 1999, the Bank operated under a "flat yield curve"
in a declining interest rate environment. A flat yield curve environment
features little difference in interest rates offered on short-term and long-term
investments. In that environment, the Bank experienced both increased interest
rate competition related to loan originations and above-average prepayment rates
related to mortgage loans and mortgage-backed securities, both of which
adversely impact long-term profitability. The flat yield curve environment
during fiscal year 1999 reduced the Bank's interest rate spread to 3.01%
compared to 3.20% the prior year.
Due to the nature of the Bank's operations, it is not subject to
foreign currency exchange or commodity price risk. On the other hand, the Bank's
real estate loan portfolio, concentrated in the towns of Westborough,
Northborough, Shrewsbury and Grafton, Massachusetts, is subject to risks
associated with the
local economy.
The primary objective of the Bank's interest rate management strategy
is to optimize the Bank's economic value and net income under likely market rate
scenarios. To achieve this objective the Bank has developed policies and
procedures to assist senior management in evaluating and maintaining acceptable
levels of interest rate risk, liquidity risk and capital. In particular, the
Bank seeks to coordinate asset and liability decisions so that, under changing
interest rate scenarios, earnings will remain within an acceptable range.
Historically, the Bank's lending activities have emphasized one- to
four-family residential mortgage loans, and the Bank's primary source of funds
has been deposits. In recent years, the Bank has attempted to employ certain
strategies to manage the interest rate risk inherent in this asset/liability
mix, including: (a) investing in securities with relatively short maturities or
call dates; (b) maintaining through tiered-rate savings accounts and other
programs a concentration of less interest rate sensitive "core deposits;" (c)
43
<PAGE>
emphasizing the origination and retention of adjustable-rate one- to four-family
loans; (d) emphasizing the origination of commercial loans with short-term
maturities; and (e) borrowing funds from the Federal Home Loan Bank of Boston,
which may be used to originate fixed-rate loans with matching maturities.
The Bank believes that the frequent repricing of its adjustable-rate
mortgage loans and adjustable-rate securities, which reduces the exposure to
interest rate fluctuations, will stabilize the Bank's net interest margin.
Although the Bank has emphasized the origination of variable-rate mortgage
products, the prevailing low interest rate environment has resulted in the
increased demand for fixed-rate first mortgage loans. The result has been an
increase in the proportion of fixed-rate loans in the Bank's portfolio. This may
have an adverse impact on the Bank's net interest income, particularly in a
rising interest rate environment.
In addition, the actual amount of time before mortgage loans and
mortgage-backed securities are repaid can be significantly impacted by changes
in mortgage prepayment rates and market interest rates. Mortgage prepayment
rates will vary due to a number of factors, including the regional economy in
the area where the underlying mortgages were originated, seasonal factors,
demographic variables and the assumability of the underlying mortgages. However,
the major factors affecting prepayment rates are prevailing interest rates,
related mortgage refinancing opportunities and competition. The Bank monitors
interest rate sensitivity so that it can make adjustments to its asset and
liability mix on a timely basis.
GAP ANALYSIS. The matching of assets and liabilities may be analyzed by
examining the extent to which such assets and liabilities are "interest rate
sensitive" and by monitoring a bank's interest rate sensitivity "gap." An asset
or liability is deemed to be interest rate sensitive within a specific time
period if it will mature or reprice within that time period. The interest rate
sensitivity gap is defined as the difference between the amount of
interest-earning assets maturing or repricing within a specific time period and
the amount of interest-bearing liabilities maturing or repricing within that
same time period. At September 30, 1999, the Bank's cumulative one year gap
position, the difference between the amount of interest-earning assets maturing
or repricing within one year, and interest-bearing liabilities maturing or
repricing within one year, was a negative 16.6% of total assets. A gap is
considered positive when the amount of interest rate sensitive assets exceeds
the amount of interest rate sensitive liabilities. A gap is considered negative
when the amount of interest rate sensitive liabilities exceeds the amount of
interest rate sensitive assets. Accordingly, during a period of rising interest
rates, an institution with a negative gap position generally would not be in as
favorable a position, compared to an institution with a positive gap, to invest
in higher yielding assets. The resulting yield on the institution's assets
generally would increase at a slower rate than the increase in its cost of
interest-bearing liabilities. Conversely, during a period of falling interest
rates, an institution with a negative gap would tend to experience a repricing
of its assets at a slower rate than its interest-bearing liabilities which,
consequently, would generally result in its net interest income growing at a
faster rate than an institution with a positive gap position.
The following table sets forth the amortized cost of interest-earning
assets and interest-bearing liabilities outstanding at September 30, 1999, which
are anticipated by the Bank, based upon certain assumptions, to reprice or
mature in each of the future time periods shown. Except as stated below, the
amount of assets and liabilities shown which reprice or mature during a
particular period were determined in accordance with the earlier term to
repricing/call date or the contractual maturity of the asset or liability. The
table sets forth an approximation of the projected repricing of assets and
liabilities at September 30, 1999, on the basis of contractual maturities,
anticipated prepayments and scheduled rate adjustments within in a three month
period and subsequent projected time intervals. The loan amounts in the table
reflect principal balances expected to be redeployed and/or repriced as a result
of contractual amortization and as a result of contractual rate adjustments on
adjustable-rate loans.
44
<PAGE>
GAP TABLE
<TABLE>
<CAPTION>
AMOUNTS MATURING OR REPRICING AS OF SEPTEMBER 30, 1999
------------------------------------------------------
LESS THAN 3 6 MONTHS TO
MONTHS 3 TO 6 MONTHS 1 YEAR 1 TO 3 YEARS 3 TO 5 YEARS
------ ------------- ------ ------------ ------------
<S> <C> <C> <C> <C> <C>
INTEREST-EARNING ASSETS(1)...............
Short-term investments (2)........... $ 6,561 $ - $ - $ - $ -
Investment securities(3)............. 10,991 1,510 5,871 17,063 11,295
Mortgage and asset-backed securities - - 601 427 626
Loans(4)............................. 7,135 2,811 6,540 13,600 4,326
-------- -------- -------- -------- --------
Total interest-earning assets..... $ 24,687 $ 4,321 $ 13,012 $ 31,090 $ 16,247
======== ======== ======== ======== ========
INTEREST-BEARING LIABILITIES
NOW accounts(5)...................... $ 1,313 $ 1,313 $ 1,313 $ 1,314 $ -
Regular and other savings accounts(5) 6,715 6,715 6,715 6,716 -
Money market deposit accounts(5)..... 662 662 662 662 -
Certificate of deposit accounts...... 17,506 9,390 16,009 9,043 24
Federal Home Loan Bank borrowings(6) - - - 2,000 -
Mortgage escrow deposits............. 231 - - - -
-------- -------- -------- -------- --------
Total interest-bearing liabilities $ 26,427 $ 18,080 $ 24,699 $ 19,735 $ 24
======== ======== ======== ========= ========
Interest sensitivity gap................. $ (1,740) $(13,759) $(11,687) $ 11,355 $ 16,223
Cumulative interest sensitivity gap...... $ (1,740) $(15,499) $(27,186) $(15,831) $ 392
Cumulative interest sensitivity gap as a
percent of total assets.............. (1.00)% (8.88)% (15.57)% (9.07)% 0.22%
Cumulative interest sensitivity gap as a
percent of total interest-earning
assets................................... (1.06)% (9.45)% (16.58)% (9.65)% 0.24%
Cumulative interest sensitivity gap as a
percent of total interest-bearing
liabilities.......................... (1.22)% (10.83)% (19.00)% (11.06)% 0.27%
</TABLE>
<TABLE>
<CAPTION>
5 TO 10 YEARS 10 YEARS TOTAL
------------- -------- -----
<S> <C> <C> <C>
INTEREST-EARNING ASSETS(1)...............
Short-term investments (2)........... $ - $ - $ 6,561
Investment securities(3)............. 3,322 1,827 51,879
Mortgage and asset-backed securities 1,227 9,697 12,578
Loans(4)............................. 10,284 48,275 92,971
-------- -------- ---------
Total interest-earning assets..... $ 14,833 $ 59,799 $ 163,989
======== ======== =========
INTEREST-BEARING LIABILITIES
NOW accounts(5)...................... $ - $ 7,879 $ 13,132
Regular and other savings accounts(5) - 40,291 67,152
Money market deposit accounts(5)..... - 3,971 6,619
Certificate of deposit accounts...... - - 51,972
Federal Home Loan Bank borrowings(6) 2,000 - 4,000
Mortgage escrow deposits............. - - 231
-------- -------- ---------
Total interest-bearing liabilities $ 2,000 $ 52,141 $ 143,106
======== ======== =========
Interest sensitivity gap................. $ 12,833 $ 7,658 $ 20,833
Cumulative interest sensitivity gap...... $ 13,225 $ 20,883
Cumulative interest sensitivity gap as a
percent of total assets.............. 7.57% 11.96%
Cumulative interest sensitivity gap as a
percent of total interest-earning
assets................................ 8.06% 12.73%
Cumulative interest sensitivity gap as a
percent of total interest-bearing
liabilities.......................... 9.24% 14.59%
</TABLE>
- ---------------------------
(1) Interest-earning assets are included in the period in which the balances
are expected to be redeployed and/or repriced as a result of anticipated
prepayments, scheduled rate adjustments, call dates and contractual
maturities.
(2) Short-term investments include federal funds, Bank Investment Fund and
interest-earning amounts in the Federal Home Loan Bank of Boston.
(3) Investment securities are at market value. Common stock and stock in the
Federal Home Loan Bank are included in the less than 3 months column.
(4) Loans are principal balances, net of deferred loan costs and unadvanced
funds.
(5) 60% of NOW, regular and other savings and money market deposit accounts
are included in the over ten year period and the remaining allocated
evenly within the four intervals up to and including one to three years.
(6) Federal Home Loan Bank borrowings are categorized by contractual maturity
date.
45
<PAGE>
Certain shortcomings are inherent in the method of analysis presented
in the gap table. For example, although certain assets and liabilities may have
similar maturities or periods to reprice, 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 adjustable-rate loans have features
which restrict changes in interest rates both on a short-term basis and over the
life of the asset. Further, in the event of changes in interest rates,
prepayment and early withdrawal levels would likely deviate significantly from
those assumed in calculating the table. Finally, the ability of many borrowers
to service their adjustable-rate loans may decrease in the event of an interest
rate increase.
ANALYSIS OF NET INTEREST INCOME. Net interest income represents the
difference between the interest income the Bank earns on its interest-earning
assets, such as mortgage loans, mortgage-backed securities and investment
securities, and the expense the Bank pays on its interest-bearing liabilities,
such as deposits and borrowings. Net interest income depends on the Bank's
volume of interest-earning assets and interest-bearing liabilities and the
interest rates the Bank earned or paid on them.
The following table sets forth certain information relating to the
Bank's financial condition and net interest income at and for the years ended
September 30, 1999, 1998 and 1997, and reflects the average yield on assets and
average cost of liabilities for the periods indicated. Such yields and costs are
derived by dividing income or expense by the average balance of assets or
liabilities, respectively, for the periods shown. Average balances are derived
from average daily balances. The yields include fees which are considered
adjustments to yields.
46
<PAGE>
<TABLE>
<CAPTION>
FOR THE YEARS ENDED SEPTEMBER 30,
---------------------------------
1999 1998
---- ----
AVERAGE AVERAGE
AVERAGE YIELD/ BALANCE YIELD/
BALANCE INTEREST COST AVERAGE INTEREST COST
------- -------- ---- ------- -------- ----
<S> <C> <C> <C> <C> <C> <C>
ASSETS: (IN THOUSANDS)
INTEREST-EARNING ASSETS:
Short-term investments(1)........ $ 9,138 $ 425 4.65% $ 5,358 $ 306 5.71%
Investment securities(2)......... 62,894 3,759 5.98 61,307 3,743 6.11
Loans(3)......................... 86,887 6,422 7.39 76,357 5,884 7.71
--------- -------- --------- -------
Total interest-earning assets.. 158,919 10,606 6.67 143,022 $ 9,933 6.95
Noninterest-earning assets....... 7,193 5,857
--------- ---------
Total assets................... $ 166,112 $ 148,879
========= =========
LIABILITIES AND EQUITY:
INTEREST-BEARING LIABILITIES:
NOW accounts..................... $ 13,270 $ 67 0.50% $ 11,743 $ 73 0.62%
Savings accounts (4)............. 63,320 2,100 3.32 55,403 1,848 3.34
Money market deposit accounts.... 6,814 181 2.66 8,082 238 2.94
Certificate of deposit accounts.. 49,091 2,461 5.01 46,105 2,396 5.20
--------- -------- --------- -------
Total interest-bearing deposits 132,495 4,809 3.63 121,333 4,555 3.75
Borrowed funds................... 3,198 167 5.22 33 2 6.06
--------- -------- --------- -------
Total interest-bearing
liabilities.................. 135,693 4,976 3.66 121,366 4,557 3.75
Noninterest-bearing deposits..... 10,123 8,480
Other noninterest-bearing
liabilities.................... 804 923
--------- ---------
Total noninterest-bearing
liabilities.................. 10,927 9,403
Total liabilities................ 146,620 130,769
Total surplus.................... 19,492 18,110
--------- ---------
Total liabilities and surplus ... $ 166,112 $ 148,879
========= =========
Net interest income................. $ 5,630 $ 5,376
======= =======
Net interest rate spread(5)......... 3.01% 3.20%
====== ======
Net interest margin(6).............. 3.54% 3.76%
====== ======
Ratio of interest-earning assets to
interest-bearing liabilities..... 117.12% 117.84%
====== ======
</TABLE>
FOR THE YEAR ENDED SEPTEMBER 30,
--------------------------------
1997
----
AVERAGE
AVERAGE YIELD/
BALANCE INTEREST COST
------- -------- ----
ASSETS: (IN THOUSANDS)
INTEREST-EARNING ASSETS:
Short-term investments(1)........ $ 4,762 $ 266 5.59%
Investment securities(2)......... 62,091 3,953 6.37
Loans(3)......................... 67,618 5,242 7.75
--------- -------
Total interest-earning assets.. 134,471 $ 9,461 7.04
Noninterest-earning assets....... 5,701
---------
Total assets................... $ 140,172
=========
LIABILITIES AND EQUITY:
INTEREST-BEARING LIABILITIES:
NOW accounts..................... $ 10,575 $ 108 1.02%
Savings accounts (4)............. 46,959 1,457 3.10
Money market deposit accounts.... 9,973 294 2.95
Certificate of deposit accounts.. 46,484 2,426 5.22
--------- -------
Total interest-bearing deposits 113,991 4,285 3.76
Borrowed funds................... 2,330 141 6.05
--------- -------
Total interest-bearing
liabilities.................. 116,321 4,426 3.80
Noninterest-bearing deposits..... 6,590
Other noninterest-bearing
liabilities.................... 1,027
---------
Total noninterest-bearing
liabilities.................. 7,617
Total liabilities................ 123,938
Total surplus.................... 16,234
---------
Total liabilities and surplus ... $ 140,172
=========
Net interest income................. $ 5,035
=======
Net interest rate spread(5)......... 3.24%
======
Net interest margin(6).............. 3.74%
======
Ratio of interest-earning assets to
interest-bearing liabilities..... 115.60%
======
- -------------------------
(1) Short-term investments includes federal funds sold.
(2) All investment securities are considered available for sale.
(3) Loans are net of deferred loan origination costs (fees), allowance for loan
losses and unadvanced funds.
(4) Savings accounts include the balance in mortgagors' escrow accounts.
(5) Net interest rate spread represents the difference between the weighted
average yield on interest-earning assets and the weighted average cost of
interest-bearing liabilities.
(6) Net interest margin represents net interest income as a percentage of
average interest-earning assets.
47
<PAGE>
RATE/VOLUME ANALYSIS. The following table presents the extent to which
changes in interest rates and changes in the volume of interest-earning assets
and interest-bearing liabilities have affected the Bank's interest income and
interest expense during the periods indicated. Information is provided in each
category with respect to: (1) changes attributable to changes in volume (changes
in volume multiplied by prior rate); (2) changes attributable to changes in rate
(changes in rate multiplied by prior volume); and (3) the net change. The
changes attributable to the combined impact of volume and rate have been
allocated proportionately to the changes due to volume and the changes due to
rate.
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
1999 YEAR ENDED SEPTEMBER 30, 1998
COMPARED TO YEAR ENDED COMPARED TO YEAR ENDED
SEPTEMBER 30, 1998 SEPTEMBER 30, 1997
INCREASE/(DECREASE) INCREASE/(DECREASE
------------------- ------------------
DUE TO DUE TO
------ ------
VOLUME RATE NET VOLUME RATE NET
------ ---- --- ------ ---- ---
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Short-term investments (1)......... $ 184 $ (65) $ 119 $ 34 $ 6 $ 40
Investment securities (2).......... 96 (80) 16 (50) (160) (210)
Loans (3).......................... 789 (251) 538 669 (27) 642
------- ----- ------ ----- ----- -----
Total interest-earning assets... 1,069 (396) 673 653 (181) 472
------- ----- ------ ----- ----- -----
Interest-bearing liabilities:
NOW accounts....................... 9 (15) (6) 11 (46) (35)
Savings accounts (4)............... 263 (11) 252 273 118 391
Money market deposit
accounts........................... (35) (22) (57) (55) (1) (56)
Certificate of deposit accounts.... 154 (89) 65 (21) (9) (30)
------- ----- ------ ----- ----- -----
Total interest-bearing
deposits........................ 391 (137) 254 208 62 270
Borrowed funds..................... 165 - 165 (139) - (139)
------- ----- ------ ----- ----- -----
Total interest-bearing
liabilities..................... 556 (137) 419 69 62 131
------- ----- ------ ----- ----- -----
Net change in net interest
income................................ $ 513 $(259) $ 254 $ 584 $ (243) $ 341
======= ===== ====== ===== ===== =====
</TABLE>
- ----------------------------
(1) Short-term investments includes federal funds sold.
(2) All investment securities are considered available for sale.
(3) Loans are net of deferred loan origination costs (fees), allowance for loan
losses and unadvanced loan funds.
(4) Savings accounts include the balance in mortgagors' escrow accounts.
48
<PAGE>
COMPARISON OF FINANCIAL CONDITION AT SEPTEMBER 30, 1999 AND SEPTEMBER 30, 1998
The Bank's total assets increased by $16.1 million, or 10.1%, to $174.6
million September 30, 1999 from $158.5 million at September 30, 1998. Net loans
during this period increased by $9.7 million, or 11.8%, to $92.1 million at
September 30, 1999, from $82.3 million at September 30, 1998. The loan increase
was primarily due to increased loan originations for loans secured by real
estate. Investments increased by $4.4 million to $64.5 million at September 30,
1999 from $60.1 million at September 30, 1998. This increase was mainly
attributable to an increase in equity investments in preferred and common
stocks. At September 30, 1999, an investment in life insurance utilized to
finance a deferred compensation plan for Bank trustees increased by $2.2
million.
Total deposits increased by $14.1 million, or 10.4%, to $150.1 million
at September 30, 1999 from $136.0 million at September 30, 1998. Most of this
increase was attributable to increases in short-term, interest-bearing
tiered-rate and certificate of deposit accounts. Total surplus declined by
$86,000 to $19.3 million at September 30, 1999 from $19.4 million at September
30, 1998 as a result of net income of $1.5 million for the year ending September
30, 1999, which was more than countered by a decline of $1.6 million in the
value of investments considered available for sale. Rising market interest rates
during this period contributed to the decline in the value of the Bank's
interest-sensitive investments.
COMPARISON OF FINANCIAL CONDITION AT SEPTEMBER 30, 1998 AND SEPTEMBER 30, 1997
The Bank's total assets increased by $14.6 million, or 10.2%, to $158.5
million at September 30, 1998 from $143.9 million at September 30, 1997. The
Bank's asset growth reflected a $11.8 million increase in net loans due to
increased origination of fixed-rate loans and commencement of the Bank's
emphasis on commercial and commercial real estate lending during 1998. Net loans
were $82.3 million, or 51.9% of total assets, at September 30, 1998 as compared
to $70.6 million, or 49.1% of total assets, at September 30, 1997. The increase
in loans was funded through an increase in deposits. Securities held by the Bank
decreased by $1.6 million, or 2.6%, to $59.3 million at September 30, 1998 from
$60.9 million at September 30, 1997. Total deposits increased by $10.8 million,
or 8.6%, to $136.0 million at September 30, 1998 from $125.2 million at
September 30, 1997. Deposits increased due to increases in NOW, demand deposit
and tiered-rate savings accounts. Total advances from the Federal Home Loan Bank
of Boston were $2.0 million at September 30, 1998 compared to none at September
30, 1997. Total equity increased by $1.9 million, or 11.0%, to $19.4 million at
September 30, 1998 from $17.5 million at September 30, 1997 as a result of net
income of $1.3 million and an increase in the net unrealized gain on securities
available for sale of $600,000.
COMPARISON OF OPERATING RESULTS FOR THE TWELVE MONTHS ENDED SEPTEMBER 30, 1999
AND SEPTEMBER 30, 1998
NET INCOME. The Bank's net income for the twelve months ended September
30, 1999 increased $160,000, or 12.2%, to $1.5 million as compared to $1.3
million for the twelve months ended September 30, 1998. This increase was a
result of increases in interest income of $673,000, other income of $864,000 and
a decline in the provision for income taxes of $54,000. These amounts were
offset by increases in operating expenses of $1.0 million and interest expenses
of $419,000. The Bank's return on average assets for the year ended September
30, 1999 was 0.89% compared to 0.88% for the year ended September 30, 1998.
INTEREST AND DIVIDEND INCOME. Interest and dividend income increased by
$673,000, or 6.8%, to $10.6 million for the year ended September 30, 1999 from
$9.9 million for the year ended September 30, 1998. The increase in interest and
dividend income was mainly the result of a higher average volume of
interest-earning assets reduced, to a lesser extent, by a decline in the average
rate earned on earning assets. The average volume of interest-earning assets for
the year ended September 30, 1999 was $158.9 million
49
<PAGE>
earning a rate of 6.67% as compared to $143.0 million earning a rate of 6.95%
for the year ended September 30, 1998. The Bank experienced continued growth in
real estate lending and invested additional cash flows into stocks and
short-term investments. The average balance of loans for the year ended
September 30, 1999 was $86.9 million, earning 7.39% for the year. This compares
to an average balance of loans for the year ended September 30, 1998 of $76.4
million, earning 7.71% for the year. The average balance of investment
securities for the year ended September 30, 1999 was $62.9 million, earning
5.98% for the year. This compares to an average balance of investments for the
year ended September 30, 1998 of $61.3 million, earning 6.11% for the year.
Finally, the average balance of short-term investments for the year ended
September 30, 1999 was $9.1 million, earning 4.65% for the year. This compares
to an average balance of short-term investments for the year ended September 30,
1998 of $5.4 million, earning 5.71% for the year.
INTEREST EXPENSE. Interest expense increased by $419,000, or 9.2%, to
$5.0 million for the year ended September 30, 1999 from $4.6 million for the
year ended September 30, 1998. Interest expense increased due to a higher volume
of interest-bearing liabilities, offset, to a lesser extent, by a declining
average rate of interest paid on such interest-bearing liabilities. The average
volume of interest-bearing liabilities was $135.7 million with a cost of 3.66%
for the year ended September 30, 1999 as compared to $121.4 million with a cost
of 3.75% for the year ended September 30, 1998. The average volume of borrowed
funds from the Federal Home Loan Bank of Boston increased during the year ended
September 30, 1999 to $3.2 million, up from an average balance of $33,000 for
the year ended September 30, 1998. The average volume of interest-bearing
deposits increased to $132.5 million with a cost of 3.63% for the year ended
September 30, 1999 as compared to $121.3 million with a cost of 3.75% for the
year ended September 30, 1998.
NET INTEREST INCOME. The Bank's net interest and dividend income
increased by $254,000 for the year ended September 30, 1999, or 4.7%, to $5.6
million from $5.4 million for the year ended September 30, 1998. The increase is
attributed to the combination of an increase in interest and dividend income of
$673,000 and an increase in interest expense of $419,000. The Bank's net
interest rate spread declined to 3.01% for the year ended September 30, 1999
from 3.20% for the comparative year ended September 30, 1998.
While the average yield on interest-earning assets declined to 6.67%
for the year ended September 30, 1999 as compared to 6.95% for the year ended
September 30, 1998, the average volume of interest-earning assets increased to
$158.9 million for the year ended September 30, 1999 as compared to $143.0
million for the year ended September 30, 1998. The average cost of
interest-bearing liabilities declined to 3.66% for the year ended September 30,
1999, from 3.75% for the year ended September 30, 1998, while the average volume
of interest-bearing liabilities increased to $135.7 million for the year ended
September 30, 1999 as compared to $121.4 million for the year ended September
30, 1998.
PROVISION FOR LOAN LOSSES. The Bank's provision for loan losses
increased by $6,000 to $45,000 for the year ended September 30, 1999 as compared
to $39,000 for the year ended September 30, 1998. This moderate increase
reflects the Bank's continued loan portfolio growth, including commercial and
commercial real estate loans. The Bank continues to have a low level of
non-performing loans. However, as the Bank expands its commercial lending
activities, increases in the provision are likely.
OTHER INCOME. Other income consists primarily of fee income for bank
services, gains and losses from the sale of securities and income from the
writing of options to buy common stock held in the Bank's stock portfolio. Total
other income increased 226% to $1.2 million for the year ended September 30,
1999 from $383,000 for the comparative year ended September 30, 1998. The
primary reason for the increase in other income was security gains and income
from the writing of options to buy common stock held in the Bank's portfolio.
Gains from the sale of securities increased to $558,000 for the year ended
September 30, 1999, as compared to $90,000 for the year ended September 30,
1998. For the year ended September 30,
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1999, income from options increased by $352,000, from $0 for the year ended
September 30, 1998. Income from customer deposit and loan fees, plus income from
the sale of non-insured investment products through FISCO Equity, Inc.,
increased to $337,000 for the year ended September 30, 1999, as compared to
$293,000 for the year ended September 30, 1998.
OPERATING EXPENSE. For the twelve months ended September 30, 1999,
operating expenses increased $1.0 million, or 27.5%, to $4.7 million from $3.7
million for the twelve months ended September 30, 1998. The increase was
primarily due to $554,000 increase in salary and benefits, reflecting the recent
opening of a new supermarket branch, senior management bonuses, additional staff
in marketing and commercial services, retail staff incentive payments and
general increases in salary based upon merit. Also, occupancy and equipment,
data processing, marketing, promotion, supplies and other expenses increased as
a result of the Bank's recent opening of its supermarket branch. Additional
board and committee meetings, mostly associated with strategic planning issues
and meetings concerning the formation of a mutual holding company, plus the
payment of a yearly retainer fee during the most recent year, increased the
level of trustee fees expense.
INCOME TAXES. The provision for income taxes declined by $54,000 to
$696,000 for the year ended September 30, 1999 as compared to $750,000 for the
year ended September 30, 1998, resulting in an effective tax rate of 32.1% and
36.4% for the years ended September 30, 1999 and 1998, respectively. The lower
effective tax rate is a result of a slight increase from 1998 to 1999 in state
taxes, net of the federal tax benefit, and a larger increase in the dividends
received deduction. The Bank utilizes security investment subsidiaries to
substantially reduce state income taxes.
COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED SEPTEMBER 30, 1998 AND
SEPTEMBER 30, 1997
NET INCOME. The Bank's net income remained stable at $1.3 million for
the years ended September 30, 1998 and 1997. The return on average assets and
the return on average equity for the year ended September 30, 1998 were 0.88%
and 7.25%, respectively, compared to 0.93% and 8.06% for the year ended
September 30, 1997.
INTEREST AND DIVIDEND INCOME. Total interest and dividend income
increased by $472,000, or 5.0%, to $9.9 million for the year ended September 30,
1998 from $9.5 million for the year ended September 30, 1997. The increase in
interest and dividend income was primarily a result of a higher volume of loan
originations. While the average balance of loans increased $8.7 million during
this period, the average rate for those loans declined to 7.71%, from 7.75%.
INTEREST EXPENSE. Total interest expense increased by $131,000, or
3.0%, to $4.6 million for the year ended September 30, 1998 from $4.4 million
for the year ended September 30, 1997. Interest expense on deposits increased
$270,000, or 6.3%, from $4.3 million for the year ended September 30, 1997 to
$4.6 million for the year ended September 30, 1998. Interest expense on advances
from the Federal Home Loan Bank declined by $139,000 from $141,000 for year
ended September 30, 1997 compared to $2,000 for year ended September 30, 1998
based on a lower average balance during the period. The overall increase in
interest expenses of $131,000 was primarily due to a higher average balance of
interest-bearing liabilities. Average balances of savings accounts increased by
$8.4 million for the year ended September 30, 1998 compared to the year ended
September 30, 1997.
NET INTEREST INCOME. Net interest income for the year ended September
30, 1998 was $5.4 million as compared to $5.0 million for the year ended
September 30, 1997. The $341,000, or 6.8%, increase can be attributed mainly to
an increased balance of interest-earning assets, resulting from a greater volume
of loan originations, offset by an increased balance of interest-bearing
deposits. The average yield on
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interest-earning assets decreased 9 basis points to 6.95% for the year ended
September 30, 1998 from 7.04% for the year ended September 30, 1997, while the
average cost of interest-bearing liabilities decreased by 5 basis points to
3.75% for the year ended September 30, 1998 from 3.80% for the year ended
September 30, 1997.
The Bank's net interest rate spread, which reflects the difference
between the weighted average yield on interest-earning assets and the weighted
average cost of interest-bearing liabilities, declined 4 basis points to 3.20%
for the year ended September 30, 1998 compared to 3.24% for the year ended
September 30, 1997. The average balance of loans on real estate increased by
$8.1 million for the year ended September 30, 1998 compared to the year ended
September 30, 1997. The average balance of commercial loans increased by
$733,000 for the year ended September 30, 1998 compared to the year ended
September 30, 1997. However, due to customer refinancing of existing adjustable-
and fixed-rate loans from higher rates to lower rates, coupled with a declining
interest rate environment for new loans, the overall rate earned on the Bank's
loan portfolio declined to 7.71% for the year ended September 30, 1998 compared
to 7.75% for the year ended September 30, 1997. The average balance of savings
accounts increased by $8.4 million for the year ended September 30, 1998
compared to the year ended September 30, 1997.
PROVISION FOR LOAN LOSSES. The allowance for loan losses is maintained
through the provision for loan losses which is a charge to operations. The
provision for loan losses was $39,000 for the year ended September 30, 1998 as
compared to $96,000 for the year ended September 30, 1997. At September 30,
1998, the balance of the allowance for loan losses was $827,000, or 0.99% of
total loans before the allowance for loan losses. During the year ended
September 30, 1998, there were no charge-offs against the allowance for loan
losses. At September 30, 1997, the balance of the allowance for loan losses was
$786,000, or 1.10% of total loans before the allowance for loan losses. During
the year ended September 30, 1997, there was $2,000 in charge-offs against the
allowance for loan losses and $2,000 in recoveries of previously charged-off
loans.
OTHER INCOME. Other income was $383,000 for the year ended September
30, 1998 compared to $608,000 for the year ended September 30, 1997. The
$225,000, or 37.0% decrease, was primarily the result of a $247,000 decrease in
the net gain on sale and disposition of securities offset by moderate increases
in customer service fees and loan fees due to higher volume. This decrease is
attributable, in part, to the establishment by the Bank of a private charitable
foundation which the Bank funded by a donation of marketable equity securities
with a fair value of $110,000 at the date of transfer. The Bank anticipates
increases to other income as it continues to expand the volume of its deposit
and lending relationships. It is also the Bank's goal to increase its level of
other income by continually considering additional sources of revenue, including
expanding the offering of various uninsured investment products, including
fixed-rate and variable annuities and mutual funds, through relationships with
third party broker-dealers and/or money managers and affiliations with insurance
agencies.
OPERATING EXPENSE. Operating expense for the year ended September 30,
1998 remained relatively stable at $3.7 million when compared to the year ended
September 30, 1997 in which operating expense totaled $3.6 million. While the
amounts of operating expense were comparable, the 1998 period includes increased
occupancy and equipment expenses of $88,000 associated with the Bank's leased
operations department space and equipment depreciation. Annual operating
expenses are also expected to increase in future periods due to future branch,
product and service expansion, and the increased cost of operating as a mutual
holding company.
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IMPACT OF NEW ACCOUNTING STANDARDS
ACCOUNTING FOR STOCK-BASED COMPENSATION. In October 1995, the Financial
Accounting Standards Board ("FASB") issued a Statement of Financial Accounting
Standards ("SFAS") No. 123, "Accounting for Stock-Based Compensation." This
Statement encourages all entities to adopt a fair value based method of
accounting for employee stock compensation plans, whereby compensation cost is
measured at the grant date based on the value of the award and is recognized
over the service period, which is usually the vesting period. However, it also
allows an entity to continue to measure compensation cost for those plans using
the intrinsic value based method of accounting prescribed by Accounting
Principle Board Opinion No. 25, "Accounting for Stock Issued to Employees,"
whereby compensation cost is the excess, if any, of the quoted market price of
the stock at the grant date (or other measurement date) over the amount an
employee must pay to acquire the stock. Entities electing to remain with the
accounting in Opinion No. 25 must make pro forma disclosures of net income and
earnings per share, as if the fair value based method of accounting had been
applied.
The accounting requirements of this Statement are generally effective
for transactions entered into in fiscal years that begin after December 15,
1995. The disclosure requirements of this Statement are generally effective for
financial statements for fiscal years beginning after December 15, 1995. It is
anticipated that the Bank will adopt Opinion No. 25 for accounting treatment of
stock options and make the pro forma disclosures required by this Statement.
EARNINGS PER SHARE. In February 1997, the FASB issued SFAS No. 128,
"Earnings Per Share." This statement establishes standards for computing and
presenting earnings per share and applies to entities with publicly held common
stock or potential common stock. This Statement simplifies the standards for
computing earnings per share previously found in Accounting Principles Board
Opinion No. 14, "Earnings per Share," and makes them comparable to international
earnings per share standards. It replaces the presentation of primary earnings
per share with a presentation of basic earnings per share. It also requires dual
presentation of basic and diluted earnings per share on the face of the income
statement for all entities with complex capital structures and requires a
reconciliation of the numerator and denominator of the basic earnings per share
computation to the numerator and denominator of the diluted earnings per share
computation. This Statement is effective for financial statements issued for
periods ending after December 15, 1997, including interim periods; earlier
application is not permitted.
DISCLOSURE OF INFORMATION ABOUT CAPITAL STRUCTURE. In February 1997,
the FASB issued SFAS No. 129, "Disclosure of Information about Capital
Structure" which establishes standards for disclosing information about an
entity's capital structure. This Statement continues the previous disclosure
requirements found in Accounting Principle Board Opinions. No. 10, "Omnibus
Opinion - 1996," and No. 15, "Earnings Per Share," and FASB Statement No. 47,
"Disclosure of Long-Term Obligations" and eliminates the exemption of nonpublic
entities from certain disclosure requirements of Opinion No. 15. Additionally,
this Statement consolidates capital disclosure requirements for ease of
retrieval and greater visibility to nonpublic entities. This Statement is
effective for financial statements for periods ending after December 15, 1997
and is not expected to have a material impact on us.
DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION. In
June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information" which establishes standards for the way that
public business enterprises report selected information about operating segments
in annual financial statements. This Statement requires that those enterprises
report selected information about operating segments in interim financial
reports issued to shareholders. This Statement supersedes FASB Statement No. 14,
"Financial Reporting for Segments of a Business Enterprise." 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
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assessing performance. This Statement is effective for financial statements for
periods beginning after December 15, 1997 and is not expected to have a material
impact on us.
EMPLOYER'S DISCLOSURES ABOUT PENSIONS AND OTHER POSTRETIREMENT
BENEFITS. In February 1998, the FASB issued SFAS No. 132, "Employer's
Disclosures about Pensions and Other Postretirement Benefits," effective for
fiscal years beginning after December 15, 1997. The Statement revises employers'
disclosures about pension and other postretirement plans. It does not change the
measurement or recognition of those plans. The Statement standardizes the
disclosure requirements for pensions and other postretirement benefits to the
extent practical, requires additional information on changes in the benefits
obligations and fair values of plan assets that will facilitate financial
analysis, and eliminates certain disclosures that were previously required by
generally accepted accounting principles. The Bank will adopt these disclosure
requirements beginning in the year ending September 30, 1999, and it is not
expected to have a material impact on us.
ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES. In June
1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and
Hedging Activities," which was amended by SFAS No. 137, is effective for all
fiscal quarters of all fiscal years beginning after June 15, 2000. This
Statement standardizes the accounting for derivative instruments, including
certain derivative instruments embedded in other contracts, by requiring that an
entity recognize those items as assets or liabilities in the balance sheet and
measure them at fair value. If certain conditions are met, an entity may elect
to designate a derivative as follows: a hedge of the exposure or changes in the
fair value of a recognized asset or liability, or of an unrecognized firm
commitment that are attributable to a particular risk. A hedge of the exposure
to variability in the cash flows of a recognized asset or liability, or of a
forecasted transaction, that is attributable to a particular risk. Or, a hedge
of the foreign currency exposure of an unrecognized firm commitment, an
available-for-sale security, a forecasted transaction, or a net investment in a
foreign operation. This Statement generally provides for matching the timing of
the recognition of the gain or loss of the hedging instrument with the
recognition of the changes in the fair value of the item being hedged. Depending
on the type of hedge, such recognition will be in either net income or other
comprehensive income. For a derivative not designated as a hedging instrument,
changes in fair value are recognized in net income in the period of change.
Adoption of this Statement by us will require that changes in fair value of
covered call options be recognized in net income. Currently, such changes are
included in a separate component of surplus. The Bank will adopt SFAS No. 133
commencing October 1, 2000.
LIQUIDITY AND CAPITAL RESOURCES
The term "liquidity" refers to the Bank's ability to generate adequate
amounts of cash to fund loan originations, deposit withdrawals and operating
expenses. The Bank's primary sources of funds are deposits, scheduled
amortization and prepayments of loan principal and mortgage-backed securities,
maturities and calls of investment securities and funds provided by the Bank's
operations. The Bank also has expanded its use of borrowings from the Federal
Home Loan Bank of Boston as part of its management of interest rate risk. At
September 30, 1999, the Bank had $4.0 million in outstanding borrowings.
Loan repayments and maturing investment securities are a relatively
predictable source of funds. However, deposit flows, calls of investment
securities and prepayments of loans and mortgage-backed securities are strongly
influenced by interest rates, general and local economic conditions and
competition in the marketplace. These factors reduce the predictability of the
timing of these sources of funds.
The Bank's primary investing activities are the origination of one- to
four-family real estate and other loans, the purchase of mortgage-backed
securities and the purchase of investment securities. During the years ended
September 30, 1999, 1998 and 1997, the Bank originated loans of $39.9 million,
$38.9 million
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and $34.1 million, respectively. Purchases of mortgage-backed securities were
$6.4 million, $6.4 million and $1.4 million for the years ended September 30,
1999, 1998 and 1997, respectively. Purchases of investment securities were $20.4
million, $14.5 million and $11.1 million for the years ended September 30, 1999,
1998 and 1997, respectively.
These investing activities were funded by deposit growth, principal
payments on mortgage loans and mortgage-backed securities, calls and maturities
on investment securities, Federal Home Loan Bank borrowings and funds provided
by the Bank's operating activities. Principal repayments on loans and
mortgage-backed securities totaled $35.1, $31.0 million and $31.3 million for
the years ended September 30, 1999, 1998 and 1997, respectively. Maturities of
investment securities totaled $3.8 million, $1.3 million and $3.5 million during
the years ended September 30, 1999, 1998 and 1997, respectively. Sales and calls
of investment securities provided cash flows of $12.0 million, $18.0 million and
$8.0 million during the years ended September 30, 1999, 1998 and 1997,
respectively.
At September 30, 1999, the Bank had loan commitments to borrowers of
$2.0 million, and available home equity lines of credit of $5.4 million. The
Bank had no commitments to purchase mortgage-backed securities at September 30,
1999. Total deposits increased $14.2 million, $10.8 million and $4.9 million
during the years ended September 30, 1999, 1998 and 1997, respectively. Deposit
flows are affected by the level of interest rates, the interest rates and
products offered by competitors and other factors. Certificate of deposit
accounts scheduled to mature within one year were $42.9 million at September 30,
1999. Based on the Bank's deposit retention experience and current pricing
strategy, the Bank anticipates that a significant portion of these certificates
of deposit will remain with the Bank. The Bank is committed to maintaining a
strong liquidity position; therefore, it monitors its liquidity position on a
daily basis. The Bank also periodically reviews liquidity information prepared
by the FDIC, Depositors Insurance Fund and other available reports that compare
the Bank's liquidity with banks in its peer group. The Bank anticipates that it
will have sufficient funds to meet its current funding commitments.
In May 1999, the Bank expanded its retail banking franchise by opening
an additional branch location in the town of Shrewsbury. This branch is located
in the Shaw's supermarket, and start-up costs were approximately $300,000. In
the first half of 2000, the Bank also plans to begin an expansion of its
facilities by constructing an addition to its existing executive office. The
construction expenses for this addition are expected to total approximately $2.5
million. The Bank anticipates that it will have sufficient funds to meet these
planned capital expenditures throughout 2000.
At September 30, 1999, the Bank exceeded each of the applicable
regulatory capital requirements. The Bank's leverage (tier 1) capital was
approximately $19.7 million, or 11.4%. In order to be classified as
"well-capitalized" by the FDIC, the Bank was required to have leverage (tier 1)
capital of $8.6 million, or 5.0%. To be classified as a well-capitalized bank by
the FDIC, the Bank must also have a risk-based total capital ratio of 10.0%. At
September 30, 1999, the Bank had a risk-based total capital ratio of 21.2%. See
"Regulation" for a discussion of the regulatory capital requirements applicable
to the Bank.
Other than with respect to the capital expenditures that are to be made
in connection with the Bank's executive office as noted above, the Bank does not
anticipate any material capital expenditures. Further, the Bank does not have
any balloon or other payments due on any long-term obligations or any
off-balance sheet items other than the commitments and unused lines of credit
noted above.
FINANCIAL SERVICES MODERNIZATION LEGISLATION
On November 12, 1999, President Clinton signed into law the
Gramm-Leach-Bliley Act, federal legislation intended to modernize the financial
services industry by establishing a comprehensive framework
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to permit affiliations among commercial banks, insurance companies, securities
firms and other financial service providers. Generally, the Act: (a) repeals the
historical restrictions and eliminates many federal and state law barriers to
affiliations among banks, securities firms, insurance companies and other
financial service providers; (b) provides a uniform framework for the functional
regulation of the activities of banks, savings institutions and their holding
companies; (c) broadens the activities that may be conducted by national banks,
banking subsidiaries of bank holding companies and their financial subsidiaries;
(d) provides an enhanced framework for protecting the privacy of consumer
information; (e) adopts a number of provisions related to the capitalization,
membership, corporate governance and other measures designed to modernize the
Federal Home Loan Bank system; (f) modifies the laws governing the
implementation of the Community Reinvestment Act and (g) addresses a variety of
other legal and regulatory issues affecting both day-to-day operations and
long-term activities of financial institutions.
Bank holding companies will be permitted to engage in a wider variety
of financial activities than permitted under prior law, particularly with
respect to insurance and securities activities. In addition, in a change from
prior law, bank holding companies will be in a position to be owned, controlled
or acquired by any company engaged in financially-related activities.
The Bank does not believe that the Act will have a material adverse
effect on its operations in the near-term. However, to the extent that the Act
permits banks, securities firms and insurance companies to affiliate, the
financial services industry may experience further consolidation. This could
result in a growing number of larger financial institutions that offer a wider
variety of financial services than the Bank currently offers and that can
aggressively compete in the markets it currently serves.
YEAR 2000
Based on a review of the Bank's business since January 1, 2000, the
Bank has not experienced any material effects of the Year 2000 problem. Although
the Bank has not been informed of any material risks associated with the Year
2000 problem from third parties, there can be no assurance that the Bank will
not be impacted in the future. The Bank will continuously monitor its business
applications and maintain contact with its third party vendors and key business
partners to resolve any year 2000 problems that may arise in the future.
Monitoring and managing the Year 2000 project has resulted in direct
and indirect costs to the Bank. The Bank currently estimates that the total
costs will be approximately $65,000 and does not believe that such costs will
have a material effect on results of operations. Both direct and indirect costs
of addressing the Year 2000 problem have been charged to earnings as incurred.
IMPACT OF INFLATION AND CHANGING PRICES
The Consolidated Financial Statements and accompanying Notes have been
prepared in accordance with generally accepted accounting principles ("GAAP").
GAAP generally requires the measurement of financial position and operating
results in terms of historical dollars without consideration for changes in the
relative purchasing power of money over time due to inflation. The impact of
inflation is reflected in the increased cost of the Bank's operations. Unlike
industrial companies, the Bank's assets and liabilities are primarily monetary
in nature. As a result, changes in market interest rates have a greater impact
on performance than do the effects of inflation.
ITEM 7. FINANCIAL STATEMENTS
The Consolidated Financial Statements of Westborough Savings Bank and
its subsidiaries are included in pages F-1 through F-33 of this report.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
None.
PART III
ITEM 9. DIRECTORS AND PRINCIPAL OFFICERS OF THE BANK AND THE
COMPANY
MANAGEMENT
The Company and the Bank each have 16 directors. Each director belongs
to one of three groups with staggered three-year terms of office. Six directors
are in Group One and have terms expiring in 2000.
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Five directors are in Group Two and have terms expiring in 2001. Five directors
are in Group Three and have terms expiring in 2002. At each of the Company's
annual stockholder meetings, the stockholders will elect directors to fill the
seats of the directors whose terms are expiring in that year and any vacant
seats. The Company, as the Bank's sole stockholder, will elect the Bank's
directors.
DIRECTORS
The following table sets forth certain information regarding the Board
of Directors of the Bank and the Company.
<TABLE>
<CAPTION>
POSITIONS AT THE BANK BANK TRUSTEE TERM
NAME AGE AND THE COMPANY SINCE EXPIRES
---- --- --------------- ----- -------
<S> <C> <C> <C> <C>
Nelson P. Ball 68 Director 1980 2001
Edward S. Bilzerian 67 Director 1993 2002
David E. Carlstrom 66 Director 1976 2000
John L. Casagrande 53 Senior Vice President, Treasurer and Director 1994 2000
William W. Cotting, Jr. 53 Director 1988 2000
Robert G. Daniel 71 Director 1969 2001
Earl W. Hutt 72 Director 1988 2001
Walter A. Kinell, Jr. 71 Chairman of the Board of Directors 1967 2000
Robert A. Klugman 48 Director 1991 2000
Roger B. Leland 70 Director 1974 2001
Joseph F. MacDonough 54 President, Chief Executive Officer and Director 1982 2001
Paul F. McGrath 53 Director 1993 2002
Charlotte C. Spinney 63 Director 1991 2002
Phyllis A. Stone 56 Director 1999 2002
James E. Tashjian 58 Director 1973 2002
Daniel G. Tear 73 Director 1985 2000
</TABLE>
BIOGRAPHICAL INFORMATION
The business experience of each of the Bank's directors is as follows:
NELSON P. BALL is the owner of Ball Financial Services, Co., located in
Westborough, Massachusetts. He has served as a financial services advisor for
over 20 years and is a member of the National Association of Securities Dealers,
Inc.
EDWARD S. BILZERIAN is President of Bilzerian Consulting Group, Inc., a
privately held company located in Worcester, Massachusetts, specializing in
small business turnarounds. He has been self-employed for over ten years.
DAVID E. CARLSTROM has served as President of Carlstrom Pressed Metal
Co., Inc. for over 25 years. Carlstrom Pressed Metal is located in Westborough,
Massachusetts.
JOHN L. CASAGRANDE has served as the Senior Vice President and
Treasurer of the Bank since 1993. He joined the Bank after having been employed
as a senior bank officer and certified public accountant for over 15 years at
various times by several financial institutions (including mutual and stock
institutions) and the accounting firm of Peat Marwick.
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WILLIAM W. COTTING, JR. has been an attorney in private practice for
over 20 years. His practice is located in Northborough, Massachusetts.
ROBERT G. DANIEL was employed in various capacities, including
President and Treasurer, at Carlson Daniel Insurance Agency, Inc., located in
Westborough, Massachusetts from 1958 to 1994. Mr. Daniel sold insurance from
1994 to 1996 for Allied American Agency following its acquisition of Carlson
Daniel. Mr. Daniel currently serves as President and Treasurer of Westborough
Insurance Agency, Inc., a non-active corporation used as a vehicle for payments
from Allied American as negotiated in connection with the acquisition of Carlson
Daniel.
EARL H. HUTT has served as an investment advisor and portfolio manager
for private industry for over 20 years.
WALTER A. KINELL, JR. has been Chairman of the Board since 1994. Mr.
Kinell joined the Bank in 1949 as an assistant treasurer, became President and
Chief Executive Officer in 1969 and retired from this position in 1994.
ROBERT A. KLUGMAN, M.D. has practiced general medicine in Westborough,
Massachusetts for over 20 years.
ROGER B. LELAND has practiced estate, tax and real estate law at Leland
Law Associates for over 30 years. During that time, he also served as an
insurance broker, selling life and casualty insurance products, through Leland
Insurance Agency, Inc. Leland Law Associates and Leland Insurance Agency are
located in Northborough, Massachusetts.
JOSEPH F. MACDONOUGH has served as President and Chief Executive
Officer of the Bank since 1994. He joined the Bank in 1981 and served as Vice
President and Treasurer until his appointment as President. Mr. MacDonough
serves on the Board of Trustees of the Savings Bank Employees' Retirement
Association and is a certified public accountant.
PAUL F. MCGRATH is a certified public accountant and has served as
President of Mottle McGrath Braney & Flynn, P.C. for over five years. Mottle
McGrath is a certified public accounting firm, located in Worcester,
Massachusetts, that provides accounting, tax and business advisory services
throughout central New England.
CHARLOTTE C. SPINNEY is a retired social studies teacher. She taught at
Westborough High School for 41 years and, during that time, she created the
curriculum for the community service component of the school's Sociology course.
PHYLLIS A. STONE has served as Vice President and Treasurer of Comey
Oil Co., Inc., located in Westborough, Massachusetts, for the past three years.
Prior to her appointment as Vice President, she served in various other
capacities within Comey Oil for over 30 years. She is past Treasurer of the
Regatta Point Community Sailing Inc. of Worcester, Massachusetts.
JAMES E. TASHJIAN is a partner in the law firm of Tashjian, Simsarian &
Wickstrom, located in Westborough, Massachusetts. He has engaged in the general
practice of law for over 30 years.
DANIEL G. TEAR has served as a consultant to businesses in the area of
management psychology for the past 30 years.
58
<PAGE>
EXECUTIVE OFFICERS WHO ARE NOT DIRECTORS
In addition to Messrs. Casagrande and MacDonough, the Company and the
Bank have the following executive officers:
VICKIE A. BOUVIER has worked for the Bank since 1976 and has been the
Vice President, Operations Officer since 1994.
ALEXANDER P. TAUTKAS is currently the Vice President and Senior Loan
Officer of the Bank, an office which he has held since 1997. He is responsible
in this capacity for the Bank's loan portfolio. He has been employed by the Bank
in various positions since 1977.
MARGARET I. DUQUETTE has worked for the Bank as its Director of Human
Resources since 1997. Prior to 1997, she held the position of Director of Human
Resources at Bay State Savings Bank in Worcester, Massachusetts where she worked
for 19 years.
SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Section 16(a) of the Exchange Act requires that the Company's
directors, executive officers, and any person holding more than ten percent of
the Company's Common Stock file with the SEC reports of ownership changes, and
that such individuals furnish the Company with copies of the reports.
Based solely on its review of the copies of such forms received by it,
or written representations from certain reporting persons, the Company believes
that all of the Company's executive officers and directors complied with all
Section 16(a) filing requirements applicable to them.
ITEM 10. EXECUTIVE COMPENSATION
DIRECTOR COMPENSATION
The Bank pays a fee of $200 to each of its non-management trustees for
attendance at each board meeting and each meeting of a committee of which they
are members, with the Chairman of each committee receiving a fee of $225. The
Bank paid fees totaling approximately $124,000 to its non-employee trustees for
the year ended September 30, 1999. In addition to the meeting fees, for fiscal
quarter ended September 30, 1999, the Bank paid an aggregate retainer fee of
$7,500 to non-management trustees. Going forward, the Bank currently plans to
pay, for fiscal year ending September 30, 2000, such retainer fee to
non-management trustees in advance. In the aggregate, the annual retainer fee
would amount to $30,000.
The Bank anticipates that the directors will be eligible to participate
in the stock option and management recognition plans expected to be implemented
following the completion of the Reorganization.
EXECUTIVE COMPENSATION
COMPENSATION DECISIONS. Decisions regarding the compensation of the
Company's executives will be determined by the members of the Compensation
Committee. However, because directors employed by the Company who are appointed
to serve on the Compensation Committee will not be permitted to make decisions
with respect to the compensation and benefits payable to executives of Company,
no interlocks will exist between members of the Compensation Committee and the
employees of the Company.
59
<PAGE>
CASH COMPENSATION. The following table sets forth the cash compensation
paid by the Bank for services rendered in all capacities during the fiscal year
ended September 30, 1999 to the Chief Executive Officer of the Bank and all
other executive officers of the Bank who received compensation in excess of
$100,000 (each, a "Named Executive Officer") during such fiscal year.
<TABLE>
<CAPTION>
LONG TERM
ANNUAL COMPENSATION COMPENSATION
------------------- ------------
NAME AND OTHER ANNUAL ALL OTHER
PRINCIPAL POSITION YEAR SALARY ($) BONUS ($) COMPENSATION ($)(1 LTIP PAYOUTS($) COMPENSATION(2)
------------------ ---- ---------- --------- ------------------ --------------- ---------------
<S> <C> <C> <C> <C> <C> <C>
Joseph F. MacDonough
President and Chief
Executive Officer 1999 $ 156,437 $ 29,371 - - $ 38,405
John L. Casagrande
Senior Vice President
and Treasurer 1999 $ 87,331 $ 19,931 - - 18,092
</TABLE>
- ------------------
(1) The Bank provides Mr. MacDonough with certain non-cash benefits and
perquisites, such as the use of an automobile, club membership dues and
certain other personal benefits, the aggregate value of which did not
exceed the lesser of $50,000 or 10% of the total annual salary and annual
bonus reported for him in the Summary Compensation Table.
(2) Includes the dollar value of the benefit to Mr. MacDonough and Mr.
Casagrande of the premiums paid by the Bank under their split dollar life
insurance arrangements and contributions on behalf of the Bank's 401(k)
plan. The full amount of the premiums paid by the Bank under the split
dollar life insurance arrangement will be refunded to it from the proceeds
of the split dollar life insurance policy.
EMPLOYMENT AGREEMENTS
Effective upon the Reorganization, the Company intends to enter into
separate employment agreements with Messrs. MacDonough and Casagrande to secure
their services as President and Chief Executive Officer, and Senior Vice
President and Treasurer, respectively. The employment agreements will provide
for an initial term of three years in the case of Mr. MacDonough, and two years
in the case of Mr. Casagrande. Commencing on the first anniversary of the
effective date of each agreement, and continuing on each anniversary date
thereafter, the employment agreements may be extended, after review by the
Compensation Committee of the Board of the executive's performance, for an
additional one-year period, so that the remaining term will be three years in
the case of Mr. MacDonough, and two years in the case of Mr. Casagrande. The
current base salaries for Mr. MacDonough and Mr. Casagrande are $180,000 and
$100,000, respectively. The employment agreements provide for each executive's
base salary to be reviewed annually by the Board, and it is anticipated that
each executive's base salary will be adjusted based on his job performance and
the overall performance of the Company and the Bank. In addition to base salary,
each employment agreement provides for participation in stock, retirement, and
welfare benefit plans and eligibility for fringe benefits applicable to
executive personnel. Mr. MacDonough's agreement provides for the reimbursement
of his ordinary and necessary business expenses, which specifically include
travel and entertainment expenses, expenses related to the use of an automobile,
and fees for membership in clubs and organizations that he and the Company agree
are for business purposes. Mr. Casagrande's agreement provides for the
reimbursement of his ordinary and necessary business expenses, which
specifically include certain travel and entertainment expenses.
The Company may terminate each executive's employment at any time with
or without cause, and each executive may resign at any time provided he provides
30 days prior written notice and fully cooperates in the transition of his
duties. In the event an executive's employment is terminated without cause
during the term of the employment agreement, the executive will be entitled to
severance benefits. These severance benefits include a lump sum payment equal to
the present value of the base salary and bonus payments that
60
<PAGE>
would have been made to the executive for the remaining term of his employment
agreement, assuming the executive would have been awarded a bonus for each year
remaining in the agreement term equal to the highest annual bonus paid to him in
the preceding three year period and paid his base salary during the remaining
agreement term at the annual rate in effect as of the termination. In addition,
the executive will be entitled to continue his participation in the group life,
health, dental, accidental death and long-term disability plans sponsored by the
Bank for the remaining term of his employment agreement. The same severance
benefits will be payable if the executive resigns during the term of the
employment agreement following: failure of the Board to reappoint the executive
to the position provided for in his employment agreement; failure of the Company
to vest in the executive the duties set forth in the agreement, if not cured;
and the Company's material breach of the agreement. The employment agreements
also provide certain uninsured benefits in the event the executive's employment
terminates because of death or disability.
Under his employment agreement, Mr. MacDonough agrees that for the
three year period following his termination of employment, he will not take a
position with any competitor that would require him to work within a 50 mile
radius of the headquarters of the Company or the Bank. Mr. Casagrande agrees
under his employment agreement that for a period of two years following his
termination of employment he will not take a position with any competitor that
would require him to work within a 30 mile radius of the headquarters of the
Company or the Bank.
CHANGE IN CONTROL PROVISIONS. In the event Mr. MacDonough or Mr.
Casagrande resigns for any reason or is terminated without cause following a
change in control of the Company or the Bank, he will be entitled to certain
severance benefits. These severance benefits include a lump sum payment equal to
the present value of the base salary and bonus payments that would have been
made to the executive for the remaining term of his employment agreement,
assuming the executive would have been awarded a bonus for each year remaining
in the agreement term equal to the highest annual bonus paid to him in the
preceding three year period and paid his base salary during the remaining
agreement term at the annual rate in effect as of the termination. However, in
no event will the amount of this lump sum payment be less than 2.99 multiplied
by the executive's average annual compensation for the preceding five years. In
addition, the executive will be entitled to continue his participation in the
group life, health, dental, accidental death and long-term disability plans
sponsored by the Bank for the remaining term of his employment agreement. A
second-step conversion will not trigger additional benefits or accelerate
benefits under the employment agreements or under any other arrangement.
If the Company or the Bank experiences a change in ownership, a change
in effective ownership or control or a change in the ownership of a substantial
portion of their assets as contemplated by section 280G of the Internal Revenue
Code ("Code"), a portion of any severance payments under the employment
agreements might constitute an "excess parachute payment" under current federal
tax laws. Any excess parachute payment would be subject to a 20% federal excise
tax payable by the executive. Neither the Bank nor the Company could claim a
federal income tax deduction for an excess parachute payment. The employment
agreements require the Company to indemnify each executive against the financial
effects of the excise tax.
61
<PAGE>
BENEFIT PLANS
PENSION PLANS. The Bank maintains a tax-qualified pension plan that
covers substantially all employees who have attained age 21 and have at least
one year of service. The following table shows the estimated aggregate benefits
payable under the pension plan upon retirement at age 65 with various years of
service and average compensation combinations.
<TABLE>
<CAPTION>
YEARS OF SERVICE
AVERAGE ----------------
COMPENSATION 10 15 20 25 30 35
- ------------ -- -- -- -- -- --
<S> <C> <C> <C> <C> <C> <C>
$ 100,000 $ 16,516 $ 24,774 $ 33,032 $ 41,290 $ 41,290 $ 41,290
$ 125,000 $ 21,141 $ 31.712 $ 42,282 $ 52,853 $ 52,853 $ 52,853
$ 150,000 $ 25,766 $ 38,649 $ 51,532 $ 64,415 $ 64,415 $ 64,415
$ 160,000 $ 27,616 $ 41,424 $ 55,232 $ 69,040 $ 69,040 $ 69,040
$ 175,000 $ 27,616 $ 41,424 $ 55,232 $ 69,040 $ 69,040 $ 69,040
$ 200,000 $ 27,616 $ 41,424 $ 55,232 $ 69,040 $ 69,040 $ 69,040
$ 300,000 $ 27,616 $ 41,424 $ 55,232 $ 69,040 $ 69,040 $ 69,040
$ 400,000 $ 27,616 $ 41,424 $ 55,232 $ 69,040 $ 69,040 $ 69,040
</TABLE>
The benefits shown in the preceding table are annual benefits payable
in the form of a single life annuity and are not subject to any deduction for
Social Security benefits or other offset amounts. At September 30, 1999, Mr.
MacDonough's and Mr. Casagrande's average compensation and estimated years of
service were $152,217 and 21.9 years of service and $93,406 and 5.75 years of
service, respectively.
Mr. MacDonough and Mr. Casagrande are entitled to supplemental
retirement benefits under an Executive Supplemental Compensation Agreement each
has entered into with the Bank. Under each agreement, the executive is entitled
to an annual retirement benefit, payable at age 65 in the form of a single life
annuity, equal to 70% of his benefit computation base in the case of Mr.
MacDonough and 50.4% of his benefit computation base in the case of Mr.
Casagrande, but reduced by the sum of: 2% multiplied by the executive's annual
primary Social Security benefit multiplied by his years of service, plus his
annual retirement benefit under any tax-qualified pension plan, plus the annual
annuity payable to the executive under his Split Dollar Agreement. Under the
agreements, the executive's benefit computation base is his average annual
compensation during the 12 consecutive calendar quarters in which his
compensation is the highest.
401(K) PLAN. The Bank maintains a tax-qualified 401(k) defined
contribution plan for employees who have attained age 21 and have at least one
year of service. Eligible employees may take pre-tax contributions to the plan
through salary reduction elections from 1% to 15% of annual compensation,
subject to limitations of the Internal Revenue Code (for 1999, the annual limit
was $10,000). The Bank makes a matching contribution to the plan equal to 25% of
the first four percent of annual compensation contributed to the plan on a
pre-tax basis by the eligible employee.
This plan has an individual account for each participant's
contributions and allows each participant to direct the investment of his or her
account. As of the completion of the reorganization, one permitted investment
will be the Company's common stock. The plan itself is not an eligible account
holder. However, participants who are eligible account holders may use their
subscription rights to purchase stock for their plan accounts in the initial
offering. This plan will purchase common stock for other participants from the
Company in the initial offering, to the extent that shares are available to
investors who are not eligible
62
<PAGE>
account holders, and in open market transactions. Participants will direct the
voting of shares purchased for their plan accounts.
EMPLOYEE STOCK OWNERSHIP PLAN. This plan is a tax-qualified plan that
covers substantially all employees of the Bank and the Company who have at least
one year of service and have attained age 21 and will take effect at the
completion of the Reorganization.
The Company intends to lend this plan enough money to purchase 8% of
the shares issued to investors other than the MHC. The plan will purchase these
shares from the Company to the extent that shares are available after filling
the subscriptions of eligible account holders. Otherwise, the plan will purchase
these shares in private transactions or on the open market after completion of
the Reorganization to the extent that shares are available for purchase on
reasonable terms. If this plan cannot purchase the shares that it wants directly
from the Company in the offering, there is no assurance that it will purchase
shares after the Reorganization, or that such purchases will occur during any
particular time period or at any particular price.
Although contributions to this plan will be discretionary, the Bank
intends to contribute enough money each year to make the required principal and
interest payments on the loan from the Company. It is expected that this loan
will be for a term of at least 10 years and will call for level annual payments
of principal and interest. The plan will initially pledge the shares it
purchases as collateral for the loan and hold them in a suspense account.
The plan will not distribute the pledged shares right away. Instead, it
will release a portion of the pledged shares annually. The plan will allocate
the shares released each year among the accounts of participants in proportion
to their base salary for the year. For example, if a participant's base salary
for a year represents 1% of the total base salaries of all participants for the
year, the plan would allocate to that participant 1% of the shares released for
the year. Participants direct the voting of shares allocated to their accounts.
Shares in the suspense account will usually be voted in a way that mirrors the
votes which participants cast for shares in their individual accounts.
This plan may purchase additional shares in the future, and may do so
using borrowed funds, cash dividends, periodic employer contributions or other
cash flow.
BENEFIT RESTORATION PLAN. Effective as of the Reorganization, the
Company intends to adopt a benefit restoration plan for Mr. MacDonough. This
plan is designed to provide Mr. MacDonough with the benefits that would
otherwise be earned by him as a participant in the 401(k) plan and the employee
stock ownership plan if such benefits were not limited by certain provisions of
the Internal Revenue Code. For example, the amount of annual compensation that
may be counted in determining Mr. MacDonough's annual allocation of shares under
the employee stock ownership plan and annual allocation of employer matching
contributions under the 401(k) plan is restricted to $160,000, as adjusted for
cost-of-living increases from time to time by IRS regulation. The benefit
restoration plan provides for a benefit equal in value to the allocations under
the employee stock ownership plan and the 401(k) that would have been made on
Mr. MacDonough's behalf but for these IRS limits, including employer matching
contributions that would have been made under the 401(k) plan if Mr. MacDonough
had elected to make pre-tax contributions to the 401(k) plan up to the maximum
percentage of salary permitted under the terms of the plan and the annual IRS
limit on pre-tax contributions did not apply ($10,000 in 1999).
Under the benefit restoration plan, a bookkeeping account will be
established for Mr. MacDonough which will be credited with a number of "stock
units" equal to the number of shares that could not be allocated on his behalf
under the employee stock ownership plan each year because of the IRS limits. The
value of this supplemental employee stock ownership plan bookkeeping account at
any time is equal to the
63
<PAGE>
number of stock units credited to the account multiplied by the current fair
market value per share. A bookkeeping account also will be established for Mr.
MacDonough which will be credited each year with an amount equal to the employer
matching contributions that could not be allocated to his account under the
401(k) plan because of the IRS limits. Each year, this supplemental employer
matching contribution bookkeeping account will be credited with hypothetical
investment earnings as if the amount credited to the account were invested
either in 30-year Treasury securities or in other investment funds selected by
the Compensation Committee.
Unless a different time or form of distribution is elected by Mr.
MacDonough within the 30 day period following the effective date of the plan,
the value of his supplemental employee stock ownership plan and employer
matching contribution bookkeeping accounts will be paid to him in one lump sum
cash payment as soon as possible following the end of the calendar year in which
his employment terminates. The benefit restoration plan is an unfunded plan, and
benefits payable thereunder will be paid from the general assets of the Company.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT
PRINCIPAL STOCKHOLDERS OF THE COMPANY
Not applicable. As of the date of this report, the Company has issued
no shares of its common stock.
SECURITY OWNERSHIP OF MANAGEMENT
Not applicable. As of the date of this report, the Company has issued
no shares of its common stock.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The Bank does not make loans to its executive officers or employees.
However, the Bank does make loans to its trustees/directors. These loans bear
interest at the same rate as loans offered to non-trustee/director borrowers and
have the same underwriting terms that apply to non-trustee/director
borrowers.
The Bank retains the law firm of Tashjian, Simsarian & Wickstrom. Mr.
James Tashjian, a director of the Company and the Bank, and a trustee of the
MHC, has been a partner of Tashjian, Simsarian & Wickstrom since 1995. For 1999,
the firm received approximately $73,813 from borrowers of the Bank to review
loan documentation.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS. The following exhibits are either filed as part of this
report or are incorporated herein by reference:
2.1 Plan of Reorganization from Mutual Savings Bank to Mutual
Holding Company and Stock Issuance Plan of Westborough
Savings Bank*
3.1 Articles of Organization of Westborough Financial Services,
Inc.*
3.2 Bylaws of Westborough Financial Services, Inc.*
3.3 Articles of Organization of The Westborough Bank*
3.4 Bylaws of The Westborough Bank*
64
<PAGE>
3.5 Charter of Westborough Bancorp, MHC*
3.6 Bylaws of Westborough Bancorp, MHC*
4.1 Articles of Organization of Westborough Financial Services,
Inc. (See Exhibit 3.1)
4.2 Bylaws of Westborough Financial Services, Inc. (See Exhibit
3.2)
4.3 Form of Stock Certificate of Westborough Financial Services,
Inc.*
10.1(a) Form of Employee Stock Ownership Plan of Westborough
Financial Services, Inc.*
10.1(b) Form of ESOP Trust Agreement*
10.2 Form of Executive Employment Agreement, by and between
Joseph F. MacDonough and Westborough Financial Services,
Inc.*
10.3 Form of Executive Employment Agreement, by and between John
L. Casagrande and Westborough Financial Services, Inc.*
21.1 Subsidiaries of the Registrant*
27.1 Financial Data Schedule (only filed in electronic format)
- ------------------------
* Incorporated herein by reference to Registration Statement on Form SB-2
(Registration No. 333- 80075), as filed with the Securities and
Exchange Commission on June 4, 1999, as amended.
(b) REPORTS ON FORM 8-K.
None.
This Form 10-KSB contains certain forward looking statements consisting
of estimates with respect to the financial condition, results of operations and
business of the Bank and the Company that are subject to various factors which
could cause actual results to differ materially from these estimates. These
factors include: changes in general, economic and market conditions, or the
development of an adverse interest rate environment that adversely affects the
interest rate spread or other income anticipated from the Bank's or the
Company's operations and investments.
65
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
WESTBOROUGH FINANCIAL SERVICES, INC.
By:
/s/ Joseph F. Macdonough
- -------------------------------------
PRESIDENT AND CHIEF EXECUTIVE OFFICER
In accordance with the Exchange Act, this report has been signed below
by the following persons on behalf of the registrant and in the capacities and
on the dates indicated.
<TABLE>
<CAPTION>
NAME TITLE DATE
---- ----- ----
<S> <C> <C>
/s/ Walter A. Kinell, Jr. Chairman of the Board of February 7, 2000
- ---------------------------- Directors
Walter A. Kinell, Jr.
/s/ Joseph F. MacDonough President, Chief Executive February 7, 2000
- ------------------------ Officer and Director
Joseph F. MacDonough
/s/ Nelson P. Ball Director February 7, 2000
- ----------------------------
Nelson P. Ball
/s/ Edward S. Bilzerian Director February 7, 2000
- ----------------------------
Edward S. Bilzerian
/s/ David E. Carlstrom Director February 7, 2000
- ----------------------------
David E. Carlstrom
/s/ John L. Casagrande Senior Vice President, February 7, 2000
- ---------------------------- Treasurer and Director
John L. Casagrande
/s/ William W. Cotting, Jr. Director February 7, 2000
- ---------------------------
William W. Cotting, Jr.
/s/ Robert G. Daniel Director February 7, 2000
- ----------------------------
Robert G. Daniel
/s/ Earl W. Hutt Director February 7, 2000
- ----------------------------
Earl W. Hutt
/s/ Robert A. Klugman Director February 7, 2000
- ----------------------------
Robert A. Klugman
/s/ Roger B. Leland Director February 7, 2000
- ----------------------------
Roger B. Leland
/s/ Paul F. McGrath Director February 7, 2000
- ----------------------------
Paul F. McGrath
</TABLE>
66
<PAGE>
<TABLE>
<CAPTION>
Name Title Date
---- ----- ----
<S> <C> <C>
/s/ Charlotte C. Spinney Director February 7, 2000
- ----------------------------
Charlotte C. Spinney
/s/ Phyllis A. Stone Director February 7, 2000
- ----------------------------
Phyllis A. Stone
/s/ James E. Tashjian Director February 7, 2000
- ----------------------------
James E. Tashjian
/s/ Daniel G. Tear Director February 7, 2000
- ----------------------------
Daniel G. Tear
</TABLE>
67
<PAGE>
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
WESTBOROUGH SAVINGS BANK
Report of the Audit Committee 1
Independent Auditors' Report 2
Consolidated Balance Sheets as of September 30, 1999
and 1998 3
Consolidated Statements of Income for the Years Ended
September 30, 1999, 1998 and 1997 4
Consolidated Statements of Changes in Surplus for the
Years Ended September 30, 1999, 1998 and 1997 5
Consolidated Statements of Cash Flows for the
Years Ended September 30, 1999, 1998 and 1997 6-7
Notes to Consolidated Financial Statements 8-33
<PAGE>
REPORT OF THE AUDIT COMMITTEE
Westborough, Massachusetts, ____________________ , 2000
To the Board of Trustees of
WESTBOROUGH SAVINGS BANK, WESTBOROUGH, MASSACHUSETTS
Under the requirements of General Laws, Chapter 168, Section 25,
we have caused an audit to be made of the consolidated financial statements of
the Bank in accordance with generally accepted auditing standards. The nature,
extent and results of the audit are set forth in the accompanying independent
auditors' report, and we hereby indicate our acceptance of the report.
----------------------------------------
)
----------------------------------------)
)
----------------------------------------)
)Audit
----------------------------------------)Committee
)
----------------------------------------)
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Audit Committee
Westborough Savings Bank
Westborough, Massachusetts
We have audited the accompanying consolidated balance sheets of Westborough
Savings Bank and subsidiaries as of September 30, 1999 and 1998, and the related
consolidated statements of income, changes in surplus and cash flows for each of
the years in the three-year period ended September 30, 1999. These consolidated
financial statements are the responsibility of the Bank's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Westborough Savings
Bank and subsidiaries as of September 30, 1999 and 1998, and the results of
their operations and their cash flows for each of the years in the three-year
period ended September 30, 1999, in conformity with generally accepted
accounting principles.
Wolf & Company, P.C.
Boston, Massachusetts
November 9, 1999
2
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 1999 AND 1998
(IN THOUSANDS)
<TABLE>
<CAPTION>
ASSETS
1999 1998
-------------- --------------
<S> <C> <C>
Cash and due from banks $ 4,157 $ 2,698
Federal funds sold 4,632 6,659
Short-term investments 1,929 3,084
-------------- --------------
Total cash and cash equivalents 10,718 12,441
Securities available for sale 63,607 59,345
Federal Home Loan Bank stock, at cost 850 762
Loans, net 92,092 82,348
Foreclosed real estate, net - 74
Banking premises and equipment, net 1,724 1,522
Accrued interest receivable 1,130 1,116
Deferred income taxes 833 -
Cash surrender value of life insurance 2,906 704
Other assets 734 211
-------------- --------------
$ 174,594 $ 158,523
============== ==============
</TABLE>
<TABLE>
<CAPTION>
LIABILITIES AND SURPLUS
<S> <C> <C>
Deposits $ 150,111 $ 135,962
Federal Home Loan Bank advances 4,000 2,000
Mortgagors' escrow accounts 231 218
Accrued taxes and expenses 865 960
Other liabilities 106 16
-------------- --------------
Total liabilities 155,313 139,156
-------------- --------------
Commitments and contingencies
Surplus 19,680 18,207
Accumulated other comprehensive income (loss) (399) 1,160
-------------- --------------
Total surplus 19,281 19,367
-------------- --------------
$ 174,594 $ 158,523
============== ==============
</TABLE>
See accompanying notes to consolidated financial statements.
3
<PAGE>
4
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS)
<TABLE>
<CAPTION>
Years Ended September 30,
-------------------------------------------
1999 1998 1997
------------ ----------- ------------
<S> <C> <C> <C>
Interest and dividend income:
Interest and fees on loans $ 6,422 $ 5,884 $ 5,242
Interest and dividends on investment securities:
Taxable interest 3,338 3,580 3,822
Non-taxable interest 59 11 -
Dividends 362 152 131
Interest on federal funds sold 240 228 219
Interest on short-term investments 185 78 47
-------- -------- --------
Total interest and dividend income 10,606 9,933 9,461
-------- -------- --------
Interest expense:
Interest expense on deposits 4,809 4,555 4,285
Interest expense on borrowings 167 2 141
-------- -------- --------
Total interest expense 4,976 4,557 4,426
-------- -------- --------
Net interest income 5,630 5,376 5,035
Provision for loan losses 45 39 96
-------- -------- --------
Net interest income, after provision
for loan losses 5,585 5,337 4,939
-------- -------- --------
Other income:
Customer service fees 277 259 242
Loan fees 17 20 14
Income from covered call options 352 - -
Gain on sales and dispositions of securities, net 558 90 337
Miscellaneous 43 14 15
-------- -------- --------
Total other income 1,247 383 608
-------- -------- --------
Operating expenses:
Salaries and employee benefits 2,549 1,995 1,963
Occupancy and equipment expenses 664 519 431
Data processing expenses 239 183 153
Marketing 221 144 162
Contributions 18 19 124
Professional fees 81 89 86
Other general and administrative expenses 891 708 644
-------- -------- --------
Total operating expenses 4,663 3,657 3,563
-------- -------- --------
Income before income taxes 2,169 2,063 1,984
Provision for income taxes 696 750 676
-------- -------- --------
Net income $ 1,473 $ 1,313 $ 1,308
======== ======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
4
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SURPLUS
YEARS ENDED SEPTEMBER 30, 1999, 1998, AND 1997
(IN THOUSANDS)
<TABLE>
<CAPTION>
Accumulated
Other
Comprehensive Total
Surplus Income (Loss) Surplus
------------- ----------------- -------------
<S> <C> <C> <C>
Balance at September 30, 1996 $15,586 $ 203 $15,789
--------
Comprehensive income:
Net income 1,308 - 1,308
Change in net unrealized gain on securities
available for sale, after reclassification
adjustment and tax effects - 350 350
--------
Total comprehensive income 1,658
-------- -------- --------
Balance at September 30, 1997 16,894 553 17,447
--------
Comprehensive income:
Net income 1,313 - 1,313
Change in net unrealized gain on securities
available for sale, after reclassification
adjustment and tax effects - 607 607
--------
Total comprehensive income 1,920
-------- -------- --------
Balance at September 30, 1998 18,207 1,160 19,367
--------
Comprehensive income (loss):
Net income 1,473 - 1,473
Change in net unrealized gain (loss) on securities
available for sale, after reclassification
adjustment and tax effects - (1,559) (1,559)
--------
Total comprehensive loss (86)
-------- -------- --------
Balance at September 30, 1999 $19,680 $ (399) $19,281
======== ======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
5
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
Years Ended September 30,
------------------------------------------
1999 1998 1997
---------- ------------- -------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income $ 1,473 $ 1,313 $ 1,308
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for loan losses 45 39 96
Charitable contribution in the form of equity
securities - - 110
Credit for losses on foreclosed real estate - (22) -
Amortization of premiums on securities 79 88 93
Amortization of net deferred loan costs (13) (31) (9)
Depreciation and amortization expense 294 228 206
Gain on sales and dispositions of securities, net (558) (90) (337)
Recognition of expired covered call options (352) - -
Loans originated for sale - (269) (120)
Proceeds from loan sales - 269 120
Decrease (increase) in accrued interest receivable (14) 54 (72)
Deferred income tax provision (benefit) (27) 59 (37)
Other, net (355) (411) (54)
-------- --------- --------
Net cash provided by operating activities 572 1,227 1,304
-------- --------- --------
Cash flows from investing activities:
Proceeds from sales and calls of securities available
for sale 12,049 17,976 7,990
Proceeds from maturities of securities available for sale 3,750 1,250 3,520
Purchase of securities available for sale (26,780) (20,835) (12,442)
Principal payments received on mortgage and
asset-backed securities 5,012 4,214 2,777
Purchase of Federal Home Loan Bank stock (88) (45) (75)
Loans originated, net of principal payments (9,776) (11,850) (5,424)
Proceeds from sales of foreclosed real estate 74 57 164
Capitalized costs associated with foreclosed real
estate - (16) (39)
Purchase of banking premises and equipment (496) (277) (285)
Purchase of life insurance policies (2,202) - -
-------- --------- --------
Net cash used by investing activities (18,457) (9,526) (3,814)
-------- --------- --------
</TABLE>
(continued)
See accompanying notes to consolidated financial statements.
6
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONCLUDED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
Years Ended September 30,
--------------------------------------------
1999 1998 1997
------------- ------------ -------------
<S> <C> <C> <C>
Cash flows from financing activities:
Net increase in deposits 14,149 10,792 4,888
Proceeds from Federal Home Loan Bank advances 2,000 2,000 -
Repayment of Federal Home Loan Bank advances - - (3,000)
Net increase in mortgagors' escrow accounts 13 38 43
--------- --------- --------
Net cash provided by financing activities 16,162 12,830 1,931
--------- --------- --------
Net change in cash and cash equivalents (1,723) 4,531 (579)
Cash and cash equivalents at beginning of period 12,441 7,910 8,489
--------- --------- --------
Cash and cash equivalents at end of period $ 10,718 $ 12,441 $ 7,910
========= ========= ========
Supplemental cash flow information:
Interest paid on deposits $ 4,808 $ 4,556 $ 4,284
Interest paid on Federal Home Loan Bank
advances 169 - 132
Income taxes paid 720 835 656
Transfer from loans to foreclosed
real estate - 74 -
</TABLE>
See accompanying notes to consolidated financial statements.
7
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED SEPTEMBER 30, 1999, 1998 AND 1997
(DOLLARS IN THOUSANDS)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF CONSOLIDATION AND PRESENTATION
The consolidated financial statements include the accounts of
Westborough Savings Bank (the "Bank") and its wholly-owned subsidiaries,
The Hundredth Corporation, which owns foreclosed real estate and the One
Hundredth Security Corporation and Eli Whitney Security Corporation,
which are Massachusetts security corporations. All significant
intercompany balances and transactions have been eliminated in
consolidation.
USE OF ESTIMATES
In preparing consolidated financial statements in conformity with
generally accepted accounting principles, management is required to make
estimates and assumptions that affect the reported amounts of assets and
liabilities as of the date of the consolidated balance sheet and
reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates. The determination of
the allowance for losses on loans is a material estimate that is
particularly susceptible to significant change in the near term.
BUSINESS
The Bank provides a variety of financial services to individuals and
small businesses through its offices in Westborough, Northborough and
Shrewsbury, Massachusetts. Its primary deposit products are checking,
savings and term certificate accounts and its primary lending products
are residential mortgage loans.
RECLASSIFICATIONS
Certain amounts have been reclassified in the 1998 and 1997 consolidated
financial statements to conform to the 1999 presentation.
CASH EQUIVALENTS
Cash equivalents include amounts due from banks, federal funds sold on a
daily basis and short-term investments.
8
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
SECURITIES AVAILABLE FOR SALE
Investments classified as "available for sale" are reflected on the
consolidated balance sheet at fair value, with unrealized gains and
losses excluded from earnings and reported in accumulated other
comprehensive income (loss).
Purchase premiums and discounts are recognized in interest income using
the interest method over the terms of the investments. Declines in the
value of investments that are deemed to be other than temporary are
reflected in earnings when identified. Gains and losses on disposition
of investments are computed by the specific identification method.
LOANS
The Bank grants mortgage, commercial and consumer loans to its
customers. A substantial portion of the loan portfolio consists of
mortgage loans in Westborough and the surrounding communities. The
ability of the Bank's debtors to honor their contracts is dependent upon
the local economy and the local real estate market.
Loans that management has the intent and ability to hold for the
foreseeable future or until maturity or pay-off generally are reported
at their outstanding unpaid principal balances adjusted for the
allowance for loan losses and deferred costs on originated loans.
Interest income is accrued on the unpaid principal balance. Net loan
origination costs are deferred and recognized as an adjustment of the
related loan yield using the interest method.
The accrual of interest on mortgage and commercial loans is discontinued
when in the judgment of management the collection of principal or
interest is doubtful.
All interest accrued but not collected for loans that are placed on
nonaccrual or charged off is reversed against interest income. The
interest on these loans is accounted for on the cash-basis until
qualifying for return to accrual. Loans are returned to accrual status
when all the principal and interest amounts contractually due are
brought current and future payments are reasonably assured.
9
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is established as losses are estimated to
have occurred through a provision for loan losses charged to earnings.
Loan losses are charged against the allowance when management believes
the uncollectibility of a loan balance is confirmed. Subsequent
recoveries, if any, are credited to the allowance.
The allowance for loan losses is evaluated on a regular basis by
management and is based upon management's periodic review of the
collectibility of the loans in light of historical experience, the
nature and volume of the loan portfolio, adverse situations that may
affect the borrower's ability to repay, estimated value of any
underlying collateral and prevailing economic conditions. This
evaluation is inherently subjective as it requires estimates that are
susceptible to significant revision as more information becomes
available.
A loan is considered impaired when, based on current information and
events, it is probable that the Bank will be unable to collect the
scheduled payments of principal or interest when due according to the
contractual terms of the loan agreement. Impairment is measured on a
loan by loan basis by either the present value of expected future cash
flows discounted at the loan's effective interest rate, the loan's
obtainable market price, or the fair value of the collateral if the loan
is collateral dependent. Substantially all of the Bank's loans which
have been identified as impaired have been measured by the fair value of
existing collateral.
Large groups of smaller balance homogeneous loans are collectively
evaluated for impairment. Accordingly, the Bank does not separately
identify individual consumer loans for impairment disclosures.
FORECLOSED REAL ESTATE
Assets acquired through, or in lieu of, loan foreclosure are held for
sale and are initially recorded at the lower of the investment in the
loan or fair value, less estimated cost to sell, at the date of
foreclosure, establishing a new cost basis. Subsequent to foreclosure,
valuations are periodically performed by management and the assets are
carried at the lower of carrying amount or fair value, less cost to
sell. Revenue and expenses from operations and changes in the valuation
allowance are included in net expenses from foreclosed assets.
10
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
BANKING PREMISES AND EQUIPMENT
Land is carried at cost. Buildings, leasehold improvements and equipment
are stated at cost, less accumulated depreciation and amortization,
computed on the straight-line method over the estimated useful lives of
the assets.
It is general practice to charge the cost of maintenance and repairs to
earnings when incurred; major expenditures for betterments are
capitalized and amortized.
TRANSFERS OF FINANCIAL ASSETS
Transfers of financial assets are accounted for as sales, when control
over the assets has been surrendered. Control over transferred assets is
deemed to be surrendered when (1) the assets have been isolated from the
Bank, (2) the transferee obtains the right (free of conditions that
constrain it from taking advantage of that right) to pledge or exchange
the transferred assets, and (3) the Bank does not maintain effective
control over the transferred assets through an agreement to repurchase
them before their maturity.
RETIREMENT PLAN
The Bank accounts for pension benefits on the net periodic pension cost
method for financial reporting purposes. This method recognizes the
compensation cost of an employee's pension benefit over the employee's
approximate service period. Pension costs are funded in the year of
accrual using the aggregate cost method.
ADVERTISING COSTS
All advertising costs are expensed as incurred.
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 accordingly through the provision for income taxes. The
Bank's base amount of its federal income tax reserve for loan losses
that arose before 1987 is a permanent difference for which there is no
recognition of a deferred tax liability. However, the allowance for loan
losses maintained for financial reporting purposes is treated as a
temporary difference with allowable recognition of a related deferred
tax asset, if it is deemed realizable.
11
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
COMPREHENSIVE INCOME
The Bank adopted Statement of Financial Accounting Standards ("SFAS")
No. 130, "Reporting Comprehensive Income," as of October 1, 1998.
Accounting principles generally require that recognized revenue,
expenses, gains and losses be included in net income. Although certain
changes in assets and liabilities, such as unrealized gains and losses
on securities available for sale are reported as a separate component of
the surplus section of the consolidated balance sheet, such items, along
with net income, are components of comprehensive income. The adoption of
SFAS No. 130 had no effect on the Bank's net income or surplus.
The components of the change in accumulated other comprehensive income
(loss) and related tax effects are as follows:
Years Ended September 30,
------------------------------
1999 1998 1997
------- -------- ---------
Change in net unrealized holding gains
(losses) on securities available for sale $(1,980) $ 1,101 $ 884
Reclassification adjustment for gains
realized in income (558) (90) (337)
------- ------- -------
(2,538) 1,011 547
Tax effect 979 (404) (197)
------- ------- -------
Net-of-tax amount $(1,559) $ 607 $ 350
======= ======= =======
12
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONCLUDED)
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," which, as amended by SFAS No. 137, is effective for all
fiscal quarters of all fiscal years beginning after June 15, 2000. This
Statement standardizes the accounting for derivative instruments,
including certain derivative instruments embedded in other contracts, by
requiring that an entity recognize those items as assets or liabilities
in the balance sheet and measure them at fair value. If certain
conditions are met, an entity may elect to designate a derivative as
follows: a hedge of the exposure to changes in the fair value of a
recognized asset or liability, or of an unrecognized firm commitment
that are attributable to a particular risk. A hedge of the exposure to
variability in the cash flows of a recognized asset or liability, or of
a forecasted transaction, that is attributable to a particular risk. Or,
a hedge of the foreign currency exposure of an unrecognized firm
commitment, an available-for-sale security, a forecasted transaction, or
a net investment in a foreign operation. This Statement generally
provides for matching the timing of the recognition of the gain or loss
on the hedging instrument with the recognition of the changes in the
fair value of the item being hedged. Depending on the type of hedge,
such recognition will be in either net income or other comprehensive
income. For a derivative not designated as a hedging instrument, changes
in fair value are recognized in net income in the period of change.
Adoption of this Statement by the Bank will require that changes in fair
value of covered call options be recognized in net income. Currently,
such changes are included as a component of surplus. The Bank will adopt
SFAS No. 133 commencing October 1, 2000.
2. SHORT-TERM INVESTMENTS
Short-term investments consist of funds invested in money market funds.
The fair value at September 30, 1999 and 1998 approximates the carrying
value and the funds are available on a daily basis.
13
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
3. SECURITIES AVAILABLE FOR SALE
The amortized cost and estimated fair value of securities available for
sale, at September 30, 1999 and 1998, with gross unrealized gains and
losses, is as follows:
<TABLE>
<CAPTION>
September 30,1999
---------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
-------------- ------------- -------------- -------------
<S> <C> <C> <C> <C>
U.S. Government obligations $ 12,084 $ 102 $ 8 $ 12,178
Federal agency obligations 10,632 - 318 10,314
Banking and finance obligations 6,501 4 72 6,433
Mortgage-backed securities 12,113 17 177 11,953
Asset-backed securities 630 - 4 626
Other bonds and obligations 13,649 23 203 13,469
--------- -------- ------- ---------
Total debt securities 55,609 146 782 54,973
Marketable equity securities 8,640 1,005 1,011 8,634
--------- -------- ------- --------
Total securities
available for sale $ 64,249 $ 1,151 $ 1,793 $ 63,607
========= ======== ======= ========
</TABLE>
14
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
SECURITIES AVAILABLE FOR SALE (CONTINUED)
<TABLE>
<CAPTION>
September 30, 1998
----------------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
-------------- -------------- ------------- ------------
<S> <C> <C> <C> <C>
U.S. Government obligations $13,091 $ 488 $ -- $13,579
Federal agency obligations 9,504 156 -- 9,660
Banking and finance obligations 5,534 90 -- 5,624
Mortgage-backed securities 11,475 150 12 11,613
Other bonds and obligations 13,412 350 -- 13,762
------- ------- ------- -------
Total debt securities 53,016 1,234 12 54,238
Marketable equity securities 4,433 935 261 5,107
------- ------- ------- -------
Total securities
available for sale $57,449 $ 2,169 $ 273 $59,345
======= ======= ======= =======
</TABLE>
During the year ended September 30, 1997, the Bank established a private
charitable foundation (the "Foundation") to provide grants to charitable
organizations in the Westborough area. The Foundation is not a
subsidiary of the Bank. The Foundation was funded by a donation from the
Bank of marketable equity securities with a cost basis and fair value of
$21 and $110, respectively, at the date of transfer. Such securities had
been classified as available for sale and, accordingly, the transfer
resulted in the Bank recognizing the unrealized appreciation of the
securities of $89 in the consolidated statement of income.
Proceeds from sales and calls of investment securities amounted to
$12,049, $17,976 and $7,990 for the years ended September 30, 1999, 1998
and 1997, respectively. Gross realized gains amounted to $573, $122 and
$252, respectively. Gross realized losses amounted to $15, $32 and $4,
respectively.
At September 30, 1999, the Bank has pledged U.S. Government obligations
with an amortized cost of $498 and a fair value of $500 as collateral
against the Bank's treasury, tax and loan account.
15
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
SECURITIES AVAILABLE FOR SALE (CONCLUDED)
The amortized cost and estimated fair value of debt securities by
contractual maturity are shown below. Expected maturities will differ
from contractual maturities because issuers may have the right to call
or prepay obligations with or without call or prepayment penalties.
<TABLE>
<CAPTION>
September 30, 1999 September 30,1998
------------------------------- -----------------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
-------------- ------------- -------------- -------------
<S> <C> <C> <C> <C>
Within 1 year $ 7,122 $ 7,145 $ 9,520 $ 9,572
Over 1 year through 5 years 23,521 23,501 30,005 30,987
Over 5 years through 10 years 10,357 9,921 2,016 2,066
Over 10 years 1,866 1,827 -- --
------- ------- ------- -------
42,866 42,394 41,541 42,625
Mortgage and asset-backed securities 12,743 12,579 11,475 11,613
------- ------- ------- -------
$55,609 $54,973 $53,016 $54,238
======= ======= ======= =======
</TABLE>
16
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
4. LOANS
A summary of the balances of loans follows:
September 30,
----------------------------
1999 1998
------------- ------------
Mortgage loans on real estate:
Fixed rate $ 52,674 $ 47,239
Variable rate 30,485 27,384
Commercial 3,198 2,743
Home equity lines-of-credit 3,598 3,918
-------- --------
Total mortgage loans 89,955 81,284
-------- --------
Personal loans 571 858
Deposit secured loans 651 676
Home improvement loans 199 132
Commercial lines-of-credit 1,029 599
Commercial installment 1,457 1,087
-------- --------
Total other loans 3,907 3,352
-------- --------
Total loans 93,862 84,636
Due to borrowers on incomplete loans (1,013) (1,570)
Net deferred loan costs 122 109
Allowance for loan losses (879) (827)
-------- --------
Loans, net $ 92,092 $ 82,348
======== ========
An analysis of the allowance for loan losses follows:
Years Ended September 30,
-----------------------------------
1999 1998 1997
--------- ---------- ----------
Balance at beginning of period $ 827 $ 786 $ 690
Provision for loan losses 45 39 96
Charge-offs (6) -- (2)
Recoveries 13 2 2
----- ----- -----
Balance at end of period $ 879 $ 827 $ 786
===== ===== =====
17
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
LOANS (CONCLUDED)
The Bank has sold mortgage loans in the secondary mortgage market and
has retained the servicing responsibility and receives fees for the
services provided. Total loans serviced for others at September 30, 1999
and 1998 amounted to $997 and $1,402, respectively. Total loans sold
during the years ended September 30, 1999, 1998 and 1997 amounted to $0,
$269 and $120, respectively. Mortgage loans serviced for others are not
included in the accompanying consolidated balance sheets.
The following is a summary of impaired loans:
September 30,
------------------------
1999 1998
---------- ----------
Total impaired loans (no valuation allowance) $ - $269
========== ==========
No additional funds are committed to be advanced in connection with
impaired loans.
Years Ended September 30,
----------------------------------
1999 1998 1997
-------- --------- ---------
Average balance of impaired loans $ - $283 $423
======== ========= =========
Interest income recognized on impaired
loans on the accrual method $ - $19 $28
======== ========= =========
18
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
5. FORECLOSED REAL ESTATE
Foreclosed real estate consists of real estate acquired in settlement of
loans as follows:
September 30,
----------------------
1999 1998
-------- ----------
Real estate acquired in settlement of loans $ - $ 74
Participation loan-land development 23 22
Less allowance for losses on foreclosed real estate (23) (22)
------ -------
Foreclosed real estate, net $ - $ 74
====== =======
6. BANKING PREMISES AND EQUIPMENT
A summary of the cost and accumulated depreciation and amortization of
banking premises and equipment and their estimated useful lives follows:
September 30,
------------------------ Estimated
1999 1998 Useful Lives
---------- ----------- ----------------
Banking premises:
Land $ 222 $ 222
Buildings 1,158 1,206 10 - 50 years
Leasehold improvements 256 126 5 years
Equipment 2,174 2,041 4 - 25 years
---------- -----------
3,810 3,595
Less accumulated depreciation
and amortization (2,086) (2,073)
---------- -----------
$1,724 $1,522
========== ===========
Depreciation and amortization expense for the years ended September 30,
1999, 1998 and 1997 amounted to $294, $228 and $206, respectively.
19
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
7. DEPOSITS
A summary of deposit balances, by type, is as follows:
September 30,
------------------------
1999 1998
-------- ----------
Non-interest bearing accounts $ 11,236 $ 8,592
NOW accounts 13,132 15,221
Regular and other savings accounts 67,152 57,972
Money market deposit accounts 6,619 7,218
-------- --------
Total non-certificate accounts 98,139 89,003
-------- --------
Six-month money market certificates 8,197 8,624
Other term deposit certificates 43,775 38,335
-------- --------
Total certificate accounts 51,972 46,959
-------- --------
Total deposits $150,111 $135,962
======== ========
Certificate accounts greater than $100 amounted to approximately $12,126
and $9,535 at September 30, 1999 and 1998, respectively.
A summary of certificates, by maturity, is as follows:
September 30, 1999 September 30, 1998
------------------------- ----------------------
Weighted Weighted
Average Average
Amount Rate Amount Rate
---------- ------------ ---------- ---------
Within 1 year $ 42,905 4.89% $ 37,005 5.06%
Over 1 year through 3 years 9,043 5.20 9,954 5.45
Over 3 years 24 4.88 - -
---------- ----------
$ 51,972 4.94% $ 46,959 5.14%
========== ==========
20
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
8. FEDERAL HOME LOAN BANK ADVANCES
Federal Home Loan Bank advances, secured by a blanket lien on qualified
collateral, are as follows:
Weighted
Maturing During Average
the Year Ending Interest September 30,
---------------------------
September 30, Rate 1999 1998
- -------------------- ------------- ------- --------
2001 5.29% $ 2,000 $ 2,000
2009 4.88% 2,000 -
------- -------
$ 4,000 $ 2,000
======= =======
The Bank also has an available line of credit with the Federal Home Loan
Bank of Boston ("FHLB") at an interest rate the adjusts daily.
Borrowings under the line are limited to 2% of the Bank's total assets.
All borrowings from the Federal Home Loan Bank of Boston are secured by
a blanket lien on qualified collateral, defined principally as 75% of
the carrying value of first mortgage loans on owner-occupied residential
property and 90% of the market value of U.S. Government and federal
agency securities. As of September 30, 1999 and 1998, there were no
advances outstanding on the line of credit.
21
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
9. INCOME TAXES
Allocation of federal and state income taxes between current and
deferred portions is as follows:
<TABLE>
<CAPTION>
Years Ended September 30,
--------------------------------------
1999 1998 1997
---------- ---------- ----------
<S> <C> <C> <C>
Current income tax provision:
Federal $ 661 $ 661 $ 631
State 62 30 82
---------- ---------- ----------
723 691 713
---------- ---------- ----------
Deferred income tax provision (benefit):
Federal (20) 44 (28)
State (7) 15 (9)
---------- ---------- ----------
(27) 59 (37)
---------- ---------- ----------
Total provision for income taxes $ 696 $ 750 $ 676
========== ========== ==========
</TABLE>
The reasons for the differences between the statutory corporate federal
income tax rate and the effective tax rates are summarized as follows:
Years Ended September 30,
-----------------------------------
1999 1998 1997
---------- --------- -------
Statutory rate 34.0% 34.0% 34.0%
Increase (decrease) resulting from:
State taxes, net of federal tax benefit 1.7 1.4 2.4
Dividends received deduction (3.9) (1.2) (1.0)
Contribution of appreciated stock - - (1.5)
Other, net 0.3 2.2 0.2
------- ------- --------
Effective tax rates 32.1% 36.4% 34.1%
======= ======= ========
22
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
INCOME TAXES (CONTINUED)
The components of the net deferred tax asset (liability) are as follows:
September 30,
------------------------
1999 1998
---------- ----------
Deferred tax asset:
Federal $787 $565
State 239 195
---------- ----------
1,026 760
---------- ----------
Deferred tax liability:
Federal (146) (746)
State (47) (187)
---------- ----------
(193) (933)
---------- ----------
Net deferred tax asset (liability) $833 $(173)
========== ==========
The tax effects of each type of income and expense item that give rise
to deferred taxes are:
<TABLE>
<CAPTION>
September 30,
-------------------
1999 1998
---------- -------
<S> <C> <C>
Employee benefit plans $346 $ 346
Allowance for loan losses 420 397
Net unrealized (gain) loss on securities available for sale 243 (736)
Depreciation and amortization (116) (125)
Net deferred loan costs (50) (45)
Other, net (10) (10)
----- -------
Net deferred tax asset (liability) $833 $ (173)
===== =======
</TABLE>
23
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
INCOME TAXES (CONCLUDED)
A summary of the change in the net deferred tax asset (liability) is as
follows:
<TABLE>
<CAPTION>
Years Ended September 30,
--------------------------------------
1999 1998 1997
---------- ---------- ----------
<S> <C> <C> <C>
Balance at beginning of year $ (173) $ 290 $ 450
Deferred tax (provision) benefit 27 (59) 37
Deferred tax effect on net unrealized (gain) loss
on securities available for sale 979 (404) (197)
------ ------ -----
Balance at end of year $ 833 $ (173) $ 290
====== ======= ======
</TABLE>
There was no valuation reserve as of September 30, 1999 and 1998.
The federal income tax reserve for loan losses at the Bank's base year
amounted to approximately $2,420. If any portion of the reserve is used
for purposes other than to absorb loan losses, approximately 150% of the
amount actually used (limited to the amount of the reserve) would be
subject to taxation in the fiscal year in which used. As the Bank
intends to use the reserve to only absorb loan losses, a deferred income
tax liability of approximately $990 has not been provided.
10. MINIMUM REGULATORY CAPITAL REQUIREMENTS
The Bank is subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet minimum
capital requirements can initiate certain mandatory, and possibly
additional discretionary actions by regulators that, if undertaken,
could have a direct material effect on the Bank's consolidated 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 are also subject to qualitative judgments by the
regulators about components, risk weightings, and other factors.
24
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
MINIMUM REGULATORY CAPITAL REQUIREMENTS (CONCLUDED)
Quantitative measures established by regulation to ensure capital
adequacy require the Bank to maintain minimum amounts and ratios (set
forth in the table to follow) of total and Tier 1 capital (as defined)
to risk-weighted assets (as defined). Management believes, as of
September 30, 1999, that the Bank meets all capital adequacy
requirements to which it is subject.
The most recent notification from the Federal Deposit Insurance
Corporation categorized 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 1
risk-based, and Tier 1 leverage ratios as set forth in the following
table. There are no conditions or events since that notification that
management believes have changed the Bank's category.
The Bank's actual and minimum required capital amounts and ratios as of
September 30, 1999 and 1998 are as follows:
<TABLE>
<CAPTION>
Minimum
To Be Well
Minimum Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
--------------------------- --------------------------- ---------------------------
Amount Ratio Amount Ratio Amount Ratio
------------ ----------- ------------ ------------ ------------ ------------
SEPTEMBER 30, 1999:
<S> <C> <C> <C> <C> <C> <C>
Total capital (to risk $ 20,553 21.15% $ 7,776 8.00% $ 9,720 10.00%
weighted assets)
Tier 1 capital (to risk 19,674 20.24 3,888 4.00 5,832 6.00
weighted assets)
Tier 1 capital (to average 19,674 11.40 6,906 4.00 8,633 5.00
assets)
</TABLE>
<TABLE>
<CAPTION>
Minimum
To Be Well
Minimum Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
--------------------------- -------------------------- --------------------------
Amount Ratio Amount Ratio Amount Ratio
------------ ----------- ----------- ----------- ----------- -----------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
SEPTEMBER 30, 1998:
Total capital (to risk
weighted assets) $ 19,034 22.70% $ 6,697 8.00% $ 8,372 10.00%
Tier 1 capital (to risk
weighted assets) 18,207 21.80 3,349 4.00 5,023 6.00
Tier 1 capital (to average
assets) 18,207 12.00 6,082 4.00 7,603 5.00
</TABLE>
25
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
11. EMPLOYEE BENEFIT PLANS
PENSION PLAN
The Bank provides pension benefits for eligible employees through a
defined benefit pension plan. Substantially all employees participate in
the retirement plan on a non-contributing basis, and are fully vested
after three years of service. Information pertaining to the activity in
the plan is as follows:
<TABLE>
<CAPTION>
Plan Years Ended October 31,
-------------------------------------
1999 1998
-------------- -------------
(Projected) (Actual)
<S> <C> <C>
Change in benefit obligation:
Benefit obligation at beginning of year $ 1,951 $ 1,727
Service cost 149 136
Interest cost 132 125
Actuarial loss (gain) (230) 13
Benefits paid (18) (50)
-------- --------
Benefit obligation at end of year 1,984 1,951
-------- --------
Change in plan assets:
Fair value of plan assets at beginning of year 1,808 1,594
Actual return on plan assets 352 132
Employer contribution 146 132
Benefits paid (18) (50)
-------- --------
Fair value of plan assets at end of year 2,288 1,808
-------- --------
Funded status 304 (143)
Unrecognized net actuarial gain (805) (384)
Transition liability 34 37
-------- --------
Accrued pension cost $ (467) $ (490)
======== ========
</TABLE>
26
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
EMPLOYEE BENEFIT PLANS (CONTINUED)
PENSION PLAN (CONCLUDED)
The components of net periodic pension cost are as follows:
Plan Years Ended October 31,
---------------------------------------------
1999 1998 1997
-------------- ------------ -----------
(Projected) (Actual) (Actual)
Service cost $ 149 $ 136 $ 108
Interest cost 132 125 119
Expected return on plan assets (145) (127) (115)
Transition obligation 3 3 3
Recognized net actuarial gain (19) (20) (20)
----- ----- -----
$ 120 $ 117 $ 95
===== ===== =====
Total pension expense for the years ended September 30, 1999, 1998 and
1997 amounted to $131, $105 and $110, respectively.
For the plan years ended October 31, 1999 and 1998, actuarial
assumptions used in accounting were as follows:
1999 1998
----------- ---------
(Projected) (Actual)
Discount rate on benefit obligations 6.75% 7.25%
Expected long-term rate of return on plan assets 8.00 8.00
Annual salary increases 5.50 6.00
INCENTIVE COMPENSATION PLAN
Management and employees of the Bank participate in an annual incentive
compensation plan which is based on a percentage of the Bank's annual
net profits (as defined) and other factors and objectives set forth and
administered by the Board of Investment. Incentive compensation expense
for the years ended September 30, 1999, 1998 and 1997 amounted to $158,
$113 and $128, respectively.
27
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
EMPLOYEE BENEFIT PLANS (CONCLUDED)
401(K) PLAN
The Bank has a 401(k) Plan whereby each employee reaching the age of 21
and having completed at least 1,000 hours of service in a twelve-month
period, beginning with date of employment, automatically becomes a
participant in the Plan. Employees may contribute up to 15% of their
compensation subject to certain limits based on federal tax laws. The
Bank makes matching contributions equal to 25% of the first 4% of an
employee's compensation contributed to the Plan. All participants are
fully vested. For the years ended September 30, 1999, 1998 and 1997,
expense attributable to the Plan amounted to $13, $12 and $10,
respectively.
SUPPLEMENTAL RETIREMENT PLANS
The Bank provides supplemental retirement benefits to certain executive
officers and trustees. In connection with the supplemental retirement
plans, the Bank has purchased life insurance contracts and has entered
into split-dollar life insurance agreements with certain participants.
12. COMMITMENTS AND CONTINGENCIES
In the normal course of business, there are outstanding commitments and
contingencies which are not reflected in the accompanying consolidated
balance sheets.
LOAN COMMITMENTS
The Bank is a party to financial instruments with off-balance sheet risk
in the normal course of business to meet the financing needs of its
customers. These financial instruments include commitments to extend
credit, which involve elements of credit and interest rate risk in
excess of the amount recognized in the accompanying consolidated balance
sheets. The contract amount of these instruments reflects the extent of
involvement the Bank has in these particular classes of financial
instruments.
The Bank's exposure to credit loss is represented by the contractual
amount of the instruments. The Bank uses the same credit policies in
making commitments as it does for on-balance sheet instruments.
28
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
COMMITMENTS AND CONTINGENCIES (CONTINUED)
LOAN COMMITMENTS (CONCLUDED)
At September 30, 1999 and 1998, financial instruments whose contract
amounts represent credit risk consist of:
1999 1998
----------- -----------
Commitments to grant residential mortgage loans $1,619 $2,787
Commitments to grant construction loans 350 1,182
Commitments to grant commercial mortgage loans -- 450
Unadvanced funds on home equity
lines-of-credit 5,437 5,362
Unadvanced funds on commercial
lines-of-credit 1,393 736
Commitments to extend credit are agreements to lend to a customer as
long as there is no violation of any condition established in the
contract. Unadvanced funds on lines-of-credit have fixed expiration
dates and may expire without being drawn upon. Therefore, the total
commitment amount does not necessarily represent future cash
requirements. The Bank evaluates each customer's creditworthiness on a
case-by-case basis. Except for commercial lines-of-credit, these
financial instruments are secured by mortgage liens on real estate.
OPERATING LEASE COMMITMENTS
Pursuant to the terms of noncancelable lease agreements in effect at
September 30, 1999, pertaining to banking premises and equipment, future
minimum rent commitments are as follows:
Years Ending
September 30,
-----------------
2000 $ 96
2001 55
2002 50
2003 50
2004 25
-----------
$ 276
===========
29
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
COMMITMENTS AND CONTINGENCIES (CONCLUDED)
OPERATING LEASE COMMITMENTS (CONCLUDED)
The leases contain options to extend for periods from two to ten years.
The cost of such rentals is not included above. Total rent expense for
years ended September 30, 1999, 1998 and 1997 amounted to $120, $73 and
$44, respectively.
CONTINGENCIES
Various legal claims may arise from time to time and, in the opinion of
management, these claims will have no material effect on the Bank's
consolidated financial statements.
13. RELATED PARTY TRANSACTIONS
In the ordinary course of business, the Bank has granted loans to its
Trustees. At September 30, 1999 and 1998, the amount of such loans,
which exceeded $60,000 in the aggregate to each related party, was
approximately $0 and $382, respectively. Such loans are made in the
ordinary course of business at the Bank's normal credit terms, including
interest rate and collateral requirements, and do not represent more
than a normal risk of collection.
14. FAIR VALUE OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards No. 107, "Disclosures about
Fair Value of Financial Instruments" requires disclosure of estimated
fair values of all financial instruments where it is practicable to
estimate such values. In cases where quoted market prices are not
available, fair values are based on estimates using present value or
other valuation techniques. Those techniques are significantly affected
by the assumptions used, including the discount rate and estimates of
future cash flows. Accordingly, the derived fair value estimates cannot
be substantiated by comparison to independent markets and, in many
cases, could not be realized in immediate settlement of the instrument.
SFAS No. 107 excludes certain financial instruments and all nonfinancial
instruments from its disclosure requirements. Accordingly, the aggregate
fair value amounts presented do not represent the underlying value of
the Bank.
The following methods and assumptions were used by the Bank in
estimating fair value disclosures for financial instruments:
CASH AND CASH EQUIVALENTS: The carrying amounts of cash and due
from banks, federal funds sold and short-term investments
approximate fair value.
30
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
SECURITIES AVAILABLE FOR SALE: Fair values for securities
available for sale 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.
FEDERAL HOME LOAN BANK STOCK: The carrying amount approximates
fair value.
LOANS: For variable-rate loans that reprice frequently and with no
significant change in credit risk, fair values are based on
carrying values. Fair values for other types of loans are
estimated using discounted cash flow analyses, using interest
rates currently being offered for loans with similar terms to
borrowers of similar credit quality. Fair values for
non-performing loans are estimated using discounted cash flow
analyses or underlying collateral values, where applicable.
DEPOSITS: The fair values for non-certificate accounts are, by
definition, equal to the amount payable on demand at the reporting
date (i.e., their carrying amounts). Fair values for certificate
accounts are estimated using a discounted cash flow calculation
that applies interest rates currently being offered on
certificates to a schedule of aggregated expected monthly
maturities on time deposits.
FEDERAL HOME LOAN BANK ADVANCES: The fair value is based upon the
Bank's current incremental borrowing rate for a similar advance.
ACCRUED INTEREST: The carrying amounts of accrued interest
approximate fair value.
OFF-BALANCE SHEET INSTRUMENTS: Fair values for off-balance sheet
lending com-mitments are based on fees currently charged to enter
into similar agreements, taking into account the remaining terms
of the agreements and the counterparties' credit standing. The
estimated fair value of off-balance sheet financial instruments at
September 30, 1999 and 1998, was immaterial.
31
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(DOLLARS IN THOUSANDS)
FAIR VALUE OF FINANCIAL INSTRUMENTS (CONCLUDED)
The carrying amounts and related estimated fair values of the Bank's
financial instruments are as follows:
<TABLE>
<CAPTION>
September 30,
---------------------------------------------------------
1999 1998
--------------------------- ---------------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
------------- ------------- ------------ -------------
<S> <C> <C> <C> <C>
Financial assets:
Cash and Cash equivalents $ 10,718 $ 10,718 $ 12,441 $ 12,441
Securities available for sale 63,607 63,607 59,345 59,345
Federal Home Loan Bank stock 850 850 762 762
Loans, net 92,092 90,482 82,348 84,714
Accrued interest receivable 1,130 1,130 1,116 1,116
Financial liabilities:
Deposits 150,111 150,196 135,962 135,954
Federal Home Loan
Bank advances 4,000 3,800 2,000 2,000
</TABLE>
15. REORGANIZATION
On March 15, 1999, the Board of Trustees of Westborough Savings Bank
voted to reorganize from a Massachusetts chartered mutual savings bank
into a mutual holding company. Westborough Bancorp, MHC, will own more
than half of an intermediate stock holding company, Westborough
Financial Services, Inc. ("WFSI"), and the remaining shares will be sold
in a public offering. WFSI will own 100% of Westborough Savings Bank.
As part of the Reorganization, the Bank will establish a liquidation
account for the benefit of eligible and supplemental eligible account
holders. The liquidation account will be reduced annually to the extent
that such account holders have reduced their qualifying deposits as of
each anniversary date. Subsequent increases will not restore an account
holder's interest in the liquidation account. In the event of a complete
liquidation, each eligible account holder will be entitled to receive
balances for accounts held by them.
In addition, the Company/Bank intends to establish an Employees' Stock
Ownership Plan, a Stock Option Plan, a Management Recognition Plan, and
enter into employment agreements with certain officers.
32
<PAGE>
WESTBOROUGH SAVINGS BANK AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONCLUDED)
(DOLLARS IN THOUSANDS)
REORGANIZATION (CONCLUDED)
Subsequent to the Reorganization, the Company and the Bank may not
declare or pay dividends on, and the Company may not purchase any of its
shares of, its common stock if the effect thereof would cause
stockholders' equity to be reduced below applicable regulatory capital
maintenance requirements or if such declaration, payment or repurchase
would otherwise violate regulatory requirements.
Reorganization costs have been deferred and will be deducted from the
proceeds of the shares sold. If the Reorganization is not completed, all
costs will be expensed. As of September 30, 1999, reorganization costs
in the amount of approximately $432 have been deferred and are included
in other assets.
33
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
This schedule contains summary financial information extracted from the
consolidated balance sheets and the statements of income of Westborough
Financial Services, Inc. and is qualified in its entirety by reference to such
financial statements.
</LEGEND>
<CIK> 0001087843
<NAME> WESTBOROUGH FINANCIAL SERVICES, INC.
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> SEP-30-1999
<PERIOD-START> OCT-01-1998
<PERIOD-END> SEP-30-1999
<CASH> 4,157
<INT-BEARING-DEPOSITS> 373
<FED-FUNDS-SOLD> 4,632
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 64,457
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 92,971
<ALLOWANCE> (879)
<TOTAL-ASSETS> 174,594
<DEPOSITS> 150,111
<SHORT-TERM> 0
<LIABILITIES-OTHER> 106
<LONG-TERM> 4,000
0
0
<COMMON> 0
<OTHER-SE> 19,281
<TOTAL-LIABILITIES-AND-EQUITY> 174,594
<INTEREST-LOAN> 6,422
<INTEREST-INVEST> 3,759
<INTEREST-OTHER> 425
<INTEREST-TOTAL> 10,606
<INTEREST-DEPOSIT> 4,809
<INTEREST-EXPENSE> 4,976
<INTEREST-INCOME-NET> 5,630
<LOAN-LOSSES> 45
<SECURITIES-GAINS> 558
<EXPENSE-OTHER> 4,663
<INCOME-PRETAX> 2,169
<INCOME-PRE-EXTRAORDINARY> 2,169
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,473
<EPS-BASIC> 0
<EPS-DILUTED> 0
<YIELD-ACTUAL> 6.67
<LOANS-NON> 0
<LOANS-PAST> 0
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 949
<ALLOWANCE-OPEN> 827
<CHARGE-OFFS> (6)
<RECOVERIES> 13
<ALLOWANCE-CLOSE> 879
<ALLOWANCE-DOMESTIC> 664
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 215
</TABLE>
