<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES AND EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES AND EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 0-8679
BAYLAKE CORP.
(Exact name of Registrant as specified in its charter)
Wisconsin 39-1268055
(State or other jurisdiction of (I.R.S. Employer
incorporated or organization) Identification No.)
217 North Fourth Avenue., Sturgeon Bay, WI 54235
(Address of principal executive offices) (Zip Code)
Registrant's Telephone number, including area code: (920)-743-5551
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock $5
Par Value
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K [ ]
As of March 24, 1999 3,699,387 shares of Common Stock were outstanding, and the
aggregate market value of the Common Stock (based upon the $34.00 reported bid
price on that date) held by non-affiliates (excludes a total of 354,285 shares
reported as beneficially owned by directors and executive officers -- does not
constitute an admission as to affiliate status) was approximately $113,733,468.
DOCUMENTS INCORPORATED BY REFERENCE
Part of Form 10-K Into Which
Document Portions of Documents are Incorporated
Proxy Statement for 1998 Annual Meeting Part III
of Shareholders
<PAGE> 2
ITEM 1. BUSINESS
General
Baylake Corp., a Wisconsin corporation organized in 1976, ("Baylake" or the
"Registrant"), is a registered bank holding company under the Federal Bank
Holding Company Act of 1956. Registrant was organized primarily to acquire and
hold the stock of Baylake Bank ("Bank"), and to enter into such other closely
related business activities as may be approved from time to time. On October 1,
1998, the Registrant acquired Evergreen Bank, N.A. ("Evergreen") and changed the
name to Baylake Bank, N.A. ("BLBNA"). No payments to the seller of Evergreen
have been made, but are contingently payable in May 1999 based on a formula set
forth in the stock purchase agreement. The formula requires a payment of the
lesser of $2 million, or the amount of recoveries of the allowance for loan
losses for loans classified as being of substandard quality on the acquisition
date and any other recoveries of items previously charged-off. The transaction
was accounted for using the purchase method of accounting. In the subsequent
discussion, Bank and BLBNA are referred to as the "Baylake Banks".
Baylake Bank
The Bank is a Wisconsin State Bank originally chartered in 1876. At December 31,
1998, the Bank had total assets of $500.9 million. It is a member of the Federal
Reserve System and its deposits are insured, subject to regulatory limits, by
the FDIC. It provides general banking and trust department services to
commercial, industrial and individual accounts in a five county area composed of
Door, Kewaunee, Manitowoc, Brown and Waupaca Counties. The Bank offers a full
range of financial services, including demand deposit accounts, various savings
account plans, certificates of deposit, individual retirement accounts, real
estate mortgage loans, consumer and business loans, agricultural loans, safe
deposit boxes, collection services, transfer agency services, a trust
department, insurance agency, discount brokerage, financial planning, conference
facilities and access to TYME Corporation's electronic funds transfer system.
The Bank maintains a number of divisions each headed by a vice president,
including a Retail Division, Commercial/Loan Division and Non-Bank Division to
facilitate the provision of customer services, and three supportive divisions,
the Administrative Division, Accounting Division and Operations Division.
The Bank has the following 100%-owned subsidiaries: Baylake Investments, Inc.,
Bank of Sturgeon Bay Building Corporation, Cornerstone Financial, Inc., Karsten
Resources, Inc. and Baylake Insurance Agency, Inc. Baylake Investments, Inc.
was formed to manage certain bank assets available for investment. Bank of
Sturgeon Bay Building Corporation owns the main office building, conference
center facilities and underlying property of the Bank. Cornerstone Financial,
Inc. manages Bank of Sturgeon Bay Building Corporation's conference center
facilities. Baylake Insurance Agency, Inc. offers various types of insurance
products to the general public as an independent agent. The Bank also owns a
49.6% interest in United Financial Services, Inc. ("UFS"), a data processing
services company. Unaffiliated third parties own a 50.4% interest in UFS. The
revenues generated by these subsidiaries and UFS amount in aggregate to less
than 5% of the Bank's total income.
The Bank offers short-term and long-term loans on a secured and unsecured basis
for business and personal purposes. They make real estate,
commercial/industrial, agricultural and consumer loans. The Bank focuses lending
activities on individuals and small businesses in its market area. Lending has
been exclusively within the industrial and consumer community within their
market areas. The Bank's market area consists of primarily Door County,
Wisconsin. Sturgeon Bay is the county seat and major industrial and retail area
of Door County. The Bank is the largest commercial bank in Door
<PAGE> 3
County. The Bank operates seven branch offices (one of which are seasonal) in
Door County, in addition to its main office in downtown Sturgeon Bay.
The resident population of Door County is approximately 27,250 (according to the
1990 census) with 9,250 living in the City of Sturgeon Bay. The major industries
of Door County include shipbuilding, tourism, metal products manufacturing,
electrical components manufacturing, and industrial oven fabrication. Most
industry is centered in the Sturgeon Bay area. The rest of Door County is
primarily involved in agriculture (mostly dairy farming and the production of
cherries and apples), and tourism. The tourist business of Door County is
seasonal, with the season beginning in early spring and continuing until late
fall. The seasonal nature of the tourist business imposes increased demands for
loans shortly before and during the tourist season and causes reduced deposits
shortly before and during the early part of the tourist season, although the
financial needs of those involved in the delivery of tourist related services is
a year around concern.
The Bank's market area consists also of Kewaunee County, Wisconsin and adjacent
portions of Manitowoc County. The Bank owns and operates three branch offices,
in addition to its main office in downtown Kewaunee. The resident population of
Kewaunee County is approximately 20,000 according to the 1990 census, with 2,750
people living in Kewaunee and 3,353 in Algoma. The Kewaunee County industrial
base is diverse with over half of the business associated with food and related
products, fabricated metals, and lumber and wood furniture and fixtures. Most
industry is centered in the Kewaunee and Algoma area. The rest of Kewaunee
County is primarily involved in agriculture (mainly dairy production). Tourism
also contributes to the local economy.
The Bank additionally has four locations in Brown County consisting of two
permanent locations located on the Northeast side of Green Bay, one leased
facility located on the Northwest side of Green Bay and one facility located in
Ledgeview on the Southeast side of Green Bay. The area offers a wide and
diversified manufacturing and service industry mix and is a leading area for
growth in Wisconsin.
The Bank's market area also consists of two locations in Waupaca County and is
located approximately 35 miles west of Green Bay. The major industries center
around the production of food and related products, lumber and wood furniture
and fixtures. Tourism also contributes to the local economy.
Baylake Bank, N.A.
BLBNA is a nationally chartered bank located in Poy Sippi, Wisconsin with
branches in Outagamie, Waupaca, and Green Lake Counties. At December 31, 1998,
BLBNA had total assets of $105.7 million. Prior to the acquisition, Evergreen
was under the active supervision of the Office of the Comptroller of the
Currency due to its designation of the bank as a "troubled and critically
under-capitalized" based on severe asset quality problems and significant
fraudulent activities by former bank employees and directors.
BLBNA provides general banking services to commercial, industrial and individual
accounts. BLBNA offers a full range of financial services, including demand
deposit accounts, various savings account plans, certificates of deposit
accounts, various retirement accounts, real estate mortgage loans, consumer and
business loans, agricultural loans, safe deposit boxes, and collection services.
Lending and Investments
The Baylake Banks offers short-term and long-term loans on a secured and
unsecured basis for business and personal purposes. They make real estate,
commercial/industrial, agricultural and consumer loans. The Baylake Banks focus
lending activities on individuals and small businesses in its market area.
Lending has been exclusively within the State of Wisconsin. The Bank
<PAGE> 4
does not conduct any substantial business with foreign obligors. The markets
served by the Baylake Banks include a wide variety of types of businesses;
therefore, the Registrant does not believe it is unduly exposed to the problems
in any particular industry group. However, any general weakness in the economy
of Door, Brown, Kewaunee, Waupaca, and Waushara County areas (as a result, for
example, of a decline in its manufacturing and tourism industries or otherwise)
could have a material effect on the business and operations of the Registrant.
The Baylake Bank's total outstanding loans as of December 31, 1998 amounted to
approximately $407.6 million, consisting of 79.7% residential, commercial,
agricultural and construction real estate loans, 14.8% commercial and industrial
loans, 3.8% installment and 1.7% agricultural loans.
The Registrant maintains a portfolio of other investments, primarily consisting
of U.S. Treasury securities, U.S. Government agency securities, mortgage-backed
securities, and obligations of states and their political subdivisions. The
Registrant attempts to balance its portfolio to manage interest rate risks,
maximize tax advantages and meet its liquidity needs while endeavoring to
maximize investment income.
Deposits
The Baylake Banks offers a broad range of depository products, including
non-interest bearing demand deposits, interest-bearing demand deposits, various
savings and money market accounts and certificates of deposit. Deposits at the
Bank are insured by the FDIC up to statutory limits. At December 31, 1998, the
Baylake Bank's total deposits amounted to $495.3 million, including interest
bearing deposits of $437.0 million and non-interest bearing deposits of $58.3
million.
Other Customer Services and Products
Other services and products offered by the Baylake Banks and subsidiaries
include safety deposit box services, personal and corporate trust services,
conference center facilities, an insurance agency and discount brokerage
services offering stocks, bonds, annuities, mutual funds and other investment
products.
Competition
The Baylake Banks competes with other financial institutions and businesses in
both attracting and retaining deposits and making loans. The Bank encounters
direct competition in its Door County market area from one other commercial bank
as well as from two savings and loans associations and one credit union which
maintain offices in Door County. The Bank encounters direct competition in its
Kewaunee County market area from four other commercial banks as well as one
savings and loan association and one credit union. In spite of such competition,
the Bank has maintained their position within the market areas, holding better
than half of all commercial bank deposits in the combined market area as of
December 31, 1998. BLBNA encounters direct competition in its market area from
various financial institutions. Although no assurance can be given that they
will continue to do so, the Baylake Banks have been able to maintain their
prominence in the market areas, even though certain competitors have
considerably more financial and other resources than do the Registrant.
Regulation and Supervision
The banking industry is highly regulated by both federal and state regulatory
authorities. Regulation includes, among other things, capital and reserve
requirements, dividend limitations, limitations on products and services
offered, geographical limits, consumer credit regulations, community
reinvestment requirements and restrictions on transactions with affiliated
parties. Financial institution regulation has been the subject of significant
<PAGE> 5
legislation in recent years, may be the subject of further significant
legislation in the future, and is not within the control of Baylake. This
regulation substantially affects the business and financial results of all
financial institutions and holding companies, including Baylake and its
subsidiaries. As an example, Baylake is subject to the capital and leverage
guidelines of the Federal Reserve Board, which require that Baylake's capital to
asset ratio meet certain minimum standards. For a discussion of the Federal
Reserve Board's guidelines and the Registrant's applicable ratios, see the
section entitled "Capital Resources" under Item 7, Management's Discussion and
Analysis of Financial Condition and Results of Operation.
The Bank is incorporated under the banking laws of Wisconsin, and its deposits
are insured by the FDIC. It is therefore subject to supervision and regulation
by the Wisconsin Commissioner of Banking (the "Commissioner"), the Federal
Reserve Bank ("FRB") and the FDIC. BLBNA is a national bank, subject to the
supervision and regulation of the Office of the Comptroller of the Currency
("OCC"). BLBNA deposits are insured by the FDIC. As a registered bank holding
company under the Bank Holding Company Act, Baylake is subject to review and
regulation by the FRB (their primary regulator). Baylake is also subject to
review and examination by the Commissioner under Wisconsin law.
In addition to general requirements that banks retain specified levels of
capital and otherwise conduct their business in a safe and sound manner,
Wisconsin law requires that dividends of Wisconsin banks declared and paid
without approval of the Commissioner be paid out of current earnings or, no more
than once within the immediate preceding two years, out of undivided profits in
the event there have been insufficient net profits. Any other dividends require
the prior written consent of the Commissioner. As a result of extraordinary
dividends declared to enable the purchase of Four Seasons, the Bank is required
to get written consent from the FRB prior to paying dividends. The Bank is in
compliance with all applicable capital requirements and may pay dividends to
Baylake, pending written approval.
Current federal law provides that adequately managed bank holding companies from
any state may acquire banks and bank holding companies located in any other
state, subject to certain conditions. Beginning on June 1, 1997, banks may
create interstate branching networks in states that do not "opt out" of
interstate branching. Prior to that date, banks could create interstate
branching networks in states that "opted in" to interstate branching early.
Wisconsin law generally permits establishment of full service bank branch
offices statewide.
Employees
At December 31, 1998, the Registrant and its subsidiary, had 229 full-time
equivalent employees.
<PAGE> 6
Statistical Information
The following statistical information is presented in accordance with the
Securities and Exchange Commission's Guide 3, "Statistical Disclosure by Bank
Holding Companies." Reference numbers relate to Guide 3.
I. DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY
INTEREST RATES AND INTEREST DIFFERENTIAL
A. Three-year comparison of Consolidated
Average Balance Sheet (in thousands)
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Assets
Cash and Due from Banks $ 11 917 $ 10 162 $ 9 168
Investment Securities:
U. S. Treasury 2 102 2 691 5 270
U. S. Government Agencies 67 824 58 687 50 384
State and Municipal Obligations 44 614 32 858 25 143
Other Securities 5 629 4 475 2 967
Market Adjustment on AFS Securities 2 298 927 52
-------- -------- --------
Total Investments $122 467 $ 99 638 $ 83 816
-------- -------- --------
Federal Funds Sold $ 6 657 $ 17 $ 943
Loans, Net of Unearned Income $333 484 $276 639 $233 473
Reserve for Loan Losses (5 833) (3 203) (2 792
-------- -------- --------
Net Loans $327 651 $273 436 $230 681
-------- -------- --------
Bank Premises and Equipment $ 14 434 $ 12 521 $ 9 925
Other Real Estate Owned $ 93 $ 38 $ 150
Other Assets $ 14 139 $ 12 441 $ 17 600
-------- -------- --------
Total Assets $497 358 $408 253 $352 283
======== ======== ========
Liabilities and Stockholders' Equity
Demand Deposits $ 46 586 $ 41 521 $ 37 229
NOW Account Deposits 41 734 38 898 36 593
Savings Deposits 109 778 88 544 88 046
Time Deposits 188 412 163 755 135 759
-------- -------- --------
Total Deposits $386 510 $332 718 $297 627
-------- -------- --------
Short Term Borrowings $ 57 205 $ 27 701 $ 9 949
Customer Repurchase Agreements $ 3 637 $ 1 800 $ 1 841
Long Term Debt $ 387 $ 377 423
Other Liabilities $ 6 247 $ 5 562 $ 4 500
-------- -------- --------
Total Liabilities $453 986 $368 158 $314 340
-------- -------- --------
Common Stock $ 18 475 $ 12 302 $ 12 286
Additional paid in capital 8 718 6 038 5 989
Retained Earnings 15 305 21 347 19 675
Net Unrealized Gains (Losses) on AFS Securities 1 496 609 42
Treasury Stock (622) (201) (49)
-------- -------- --------
Total Equity $ 43 372 $ 40 095 $ 37 943
-------- -------- --------
Total Liabilities and Stockholders' Equity $497 358 $408 253 $352 283
======== ======== ========
</TABLE>
<PAGE> 7
I. B. INTEREST RATES AND INTEREST DIFFERENTIAL
The tables below show for the periods indicated the daily average amount
outstanding for major categories of the interest-earning assets and
interest-bearing liabilities, the interest earned or paid and the average yields
thereon (in thousands of dollars).
<TABLE>
<CAPTION>
1998
Amount Interest Yield
------ -------- -----
Interest-earning assets:
<S> <C> <C> <C>
Loans, Net $333 484 9.04%
Less: non-accruing Loans (4 505)
--------
Loans $328 979 $ 30 161 9.17%
U.S. Treasury Securities 2 102 135 6.42%
U.S. Government Agencies 67 824 4 707 6.94%
State and Municipal Obligations 44 614 3 576 8.02%
Other Securities 3 964 260 6.56%
Federal Funds Sold 6 657 356 5.35%
Other Money Market Instruments 1 665 81 4.86%
-------- -------- -----
Total Interest Earning Assets (net of $455 805 $ 39 276 8.62%
non-accruing loans) ======== ======== =====
Interest-bearing liabilities:
NOW Accounts $ 41 734 $ 852 2.04%
Savings Accounts 109 778 4 077 3.71%
Time Deposits 188 412 10 826 5.75%
Short Term Borrowings 57 205 3 188 5.57%
Customer Repurchase Agreements 3 637 173 4.76%
Long Term Debt 348 32 9.20%
-------- -------- -----
Total Interest-bearing Liabilities $401 114 $ 19 148 4.77%
======== ======== =====
<CAPTION>
1997
Amount Interest Yield
------ -------- -----
Interest-earning assets:
<S> <C> <C> <C>
Loans, Net $276 639 9.22%
Less: non-accruing Loans (1 269)
--------
Loans $275 370 $ 25 496 9.26%
U.S. Treasury Securities 2 691 168 6.24%
U.S. Government Agencies 58 687 3 833 6.53%
State and Municipal Obligations 32 858 2 755 8.38%
Other Securities 2 026 132 6.52%
Federal Funds Sold 17 1 5.88%
Other Money Market Instruments 2 449 129 5.27%
-------- -------- -----
Total Interest Earning Assets (net of $374 098 $ 32 514 8.69%
non-accruing loans) ======== ======== =====
Interest-bearing liabilities:
NOW Accounts $ 38 898 $ 892 2.29%
Savings Accounts 88 544 2 770 3.13%
Time Deposits 163 755 9 279 5.67%
Short Term Borrowings 27 701 1 619 5.84%
Customer Repurchase Agreements 1 800 70 3.89%
Long Term Debt 377 32 8.49%
-------- -------- -----
Total Interest-bearing Liabilities $321 075 $ 14 662 4.57%
======== ======== =====
<CAPTION>
1996
Amount Interest Yield
------ -------- -----
Interest-earning assets:
<S> <C> <C> <C>
Loans, Net $233 473 9.15%
Less: non-accruing Loans (2 402)
--------
Loans $231 071 $ 21 367 9.25%
U.S. Treasury Securities 5 270 304 5.77%
U.S. Government Agencies 50 384 3 494 6.93%
State and Municipal Obligations 25 143 2 350 9.35%
Other Securities 569 34 5.98%
Federal Funds Sold 943 58 6.15%
Other Money Market Instruments 2 398 119 4.96%
-------- -------- -----
Total Interest Earning Assets (net of $315 778 $ 27 726 8.78%
non-accruing loans) ======== ======== =====
Interest-bearing liabilities:
NOW Accounts $ 36 593 $ 868 2.37%
Savings Accounts 88 046 2 858 3.25%
Time Deposits 135 759 7 644 5.63%
Short Term Borrowings 9 949 571 5.74%
Customer Repurchase Agreements 1 841 68 3.69%
Long Term Debt 423 37 8.75%
-------- -------- -----
Total Interest-bearing Liabilities $272 611 $ 12 046 4.42%
======== ======== =====
</TABLE>
<PAGE> 8
I. C. The following table sets forth for the periods indicated a summary of the
changes in interest earned and interest paid resulting from changes in volume
and changes in rates (in thousands).
<TABLE>
<CAPTION>
1998 COMPARED TO 1997 1997 COMPARED TO 1996
INCREASE (DECREASE) INCREASE (DECREASE)
DUE TO (1) DUE TO (1)
RATE/ RATE/
VOLUME RATE VOLUME VOLUME RATE VOLUME
------ ---- ------ ------ ---- ------
Interest earned on:
<S> <C> <C> <C> <C> <C> <C>
Loans $4 939 ($ 274) $4 665 4 099 $ 30 $ 4 129
U.S. Treasury
Securities (37) 4 (33) (155) 19 (136)
U.S. Government
Agencies 616 258 874 559 (220) 339
State and Municipal
Obligations 964 (143) 821 684 (279) 405
Other Securities 127 1 128 91 7 98
Federal Funds Sold 372 (17) 355 (56) (1) (57)
Other Money Market
Instruments (40) (8) (48) 3 7 10
------- ------- ------- ------- ------- -------
Total Interest
Earning Assets $6 941 ($ 179) $6 762 $5 225 ($ 437) $ 4 788
======= ======= ======= ======= ======= =======
Interest paid on:
NOW Accounts $ 61 ($ 101) ($ 40) $ 54 ($ 30) $ 24
Savings Accounts 726 581 1 307 16 (104) (88)
Time Deposits 1 407 140 1 547 1 581 54 1 635
Short Term
Borrowings 1 684 (115) 1 569 1 028 20 1 048
Customer Repurchase
Agreements 79 24 103 (2) 4 2
Long Term Debt (3) 3 0 (4) (1) (5)
------- ------- ------- ------- -------- -------
Total Interest-
Bearing
Liabilities $3 954 $ 532 $4 486 $2 673 ($ 57) $ 2 616
======= ======= ======= ======= ======== =======
</TABLE>
(1) When a change in interest is due both to rate changes and volume this
analysis has been made on a fifty-fifty basis.
<PAGE> 9
The table below shows the net interest earnings and the net yield on
interest-earning assets for the periods indicated (in thousands of dollars).
<TABLE>
<CAPTION>
1998 1997 1996
<S> <C> <C> <C>
Total Interest Income $ 39 276 $ 32 514 $ 27 726
Total Interest Expense 19 148 14 662 12 046
-------- -------- --------
Net Interest Earnings $ 20 128 $ 17 852 $ 15 680
======== ======== ========
Net Yield on Interest- 4.42% 4.77% 4.97%
earning Assets (excluding
non-accruing loans)
</TABLE>
Interest on tax exempt income, (i.e., interest earned on state and municipal
obligations) are figured on a federal tax-equivalent basis using a tax rate of
34%.
<PAGE> 10
II. INVESTMENT PORTFOLIO
A. The carrying value of investment securities for those held to maturity (at
amortized cost) and available for sale (fair market value) as of December 31,
1998, 1997 and 1996 are summarized as follows (in thousands of dollars)
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Available for Sale
U.S. Treasury and Other U.S.
government agencies $ 20 192 $ 31 453 $ 38 924
Mortgage-backed securities 54 981 34 337 31 426
Obligations of states and
political subdivisions 34 288 33 214 16 971
Other 3 075 3 958 369
-------- -------- --------
$112 536 $102 962 $ 87 690
Held to Maturity
Obligations of states and $ 15 510 $ 11 937 $ 10 511
political subdivisions
Other 0 0 937
-------- -------- --------
$ 15 510 $ 11 937 $ 11 448
Total $128 046 $114 899 $ 99 138
</TABLE>
The Registrant does not hold investment securities of any issuer (other than
securities of the U.S. Government or its agencies) whose book value exceeds ten
percent of its stockholders equity.
<PAGE> 11
II. B. The following table shows the maturities of investment securities as of
December 31, 1998 and weighted average yields of investment securities (in
thousands). The weighted average yields by maturity range was computed by
annualizing the purchase yield income on the securities within such maturity
range.
<TABLE>
<CAPTION>
One Year Over 1 Year
or less Within 5 Years
Amount Yield Amount Yield
------ ----- ------ -----
<S> <C> <C> <C> <C>
U.S. Treasury and other U.S.
Government agencies $1 517 6.33% $15 719 6.65%
Mortgage-backed securities 3 007 6.21% 28 242 6.27%
Obligations of states and
political subdivisions 2 782 9.18% 13 471 7.37%
Other 1 933 4.63% 0.00%
------- ---- ------ ----
Total $ 9 239 6.79% $57 432 6.63%
<CAPTION>
Over 5 Years
Within 10 Years Over 10 Years
Amount Yield Amount Yield
------ ----- ------ -----
<S> <C> <C> <C> <C>
U.S. Treasury and other U.S.
Government agencies $ 2 956 7.42% $ 0.00 0.00%
Mortgage-backed securities 18 605 6.14% 5 127 6.93%
Obligations of states and
political subdivisions 12 782 7.79% 20 763 7.94%
Other 0.00% 1 142 5.80%
------- ---- ------- ----
Total $34 343 6.86% $27 032 7.66%
<CAPTION>
Total
Amount Yield
------ -----
<S> <C> <C>
U.S. Treasury and other U.S.
Government agencies $ 20 192 6.74%
Mortgage-backed securities 54 981 6.28%
Obligations of states and
political subdivisions 49 798 7.82%
Other 3 075 5.06%
-------- ----
Total $128 046 6.92%
</TABLE>
Weighted average yield on state and political subdivisions has been computed on
a fully taxable equivalent basis using a tax rate of 34%.
<PAGE> 12
III. LOAN PORTFOLIO
A. Types of Loans
The following table sets forth the comparison of the loan portfolio at December
31st of each of the past five years (in thousands of dollars).
<TABLE>
<CAPTION>
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Loans secured primarily
By real estate:
Secured by 1 to 4 family
residential properties $136 564 $100 555 $ 83 538 $ 62 271 $ 52 873
14 760
Real estate-construction 9 553 11 365 6 378 5 881
Other real estate loans 178 846 118 103 104 391 83 461 69 702
Loans to farmers 6 810 6 314 5 883 5 771 6 103
Commercial and Industrial 60 495 40 624 40 777 40 287 42 157
Loans
Loans to individuals for
Household, family and
other personal
expenditures 15 914 13 480 15 233 12 522 16 603
All other loans 245 140 240 193 152
-------- -------- -------- -------- --------
Total gross loans $408 427 $293 976 $261 427 $210 883 $193 471
Less:
Unearned Income (779) (538) (573) (653) (798)
-------- -------- -------- -------- --------
Net Loans $407 648 $293 438 $260 854 $210 230 $192 673
======== ======== ======== ======== ========
</TABLE>
<PAGE> 13
2. As of December 31, 1998, there existed potential problem loans totaling
$1,019,247 which are not now disclosed within the category "Risk Element".
The following table indicates management's assessment of potential loss at year
end 1998.
<TABLE>
<CAPTION>
Loans in category Loss factor Loan loss potential
----------------- ----------- -------------------
<S> <C> <C> <C>
$ 923 271 10% $ 92 327
16 475 25% 4 119
67 110 50% 33 555
7 515 75% 5 636
$ 4 876 100% 4 876
---------- ---- ---------
Totals $1 019 247 $ 140 513
</TABLE>
Commercial loans comprised $957,146 or 93.9% of the total loans categorized as
problem loans. The other types of loans comprising this amount were consumer
loans totaling $62,101 or 6.1%.
3. The Bank's loan portfolio is diversified by types of borrowers and industry
groups within the Door, Brown, Kewaunee, Waushara, Outagamie, Green Lake and
Waupaca county market area. Significant loan concentrations are considered to
exist for a financial entity when such amounts are loaned to borrowers engaged
in similar activities as would cause them to be similarly impacted by economic
or other conditions. At December 31, 1998, there existed the following industry
group concentrations in the Registrant's loans which exceed 10% of total loans:
Tourism related loans:
Lodging Business $51.5 million or 12.6%
Total tourism loans $51.5 million or 12.6%
<PAGE> 14
III. LOAN PORTFOLIO
B. Maturity and Sensitivities of Loans to Changes in Interest Rates
The following table shows the amount of loans outstanding (in thousands) as of
December 31, 1998 which, based on remaining schedule repayments of principal,
are due in the periods indicated. Also, the amounts due after one year are
classified according to the sensitivity to change in interest rates.
<TABLE>
<CAPTION>
Maturing
------------------------------
After One
Within But Within After
One Year Five Years Five Years Total
-------- ---------- ---------- --------
<S> <C> <C> <C> <C>
Loans secured primarily by real estate:
Secured by 1 to 4 family
Residential property $ 25 443 $ 65 503 $ 45 618 $136 564
Real estate - construction 5 354 4 163 36 9 553
Other real estate loans 50 944 85 418 42 484 178 846
Loans to farmers 3 484 2 404 922 6 810
Commercial and industrial loans 18 259 21 866 20 370 60 495
Loans to individuals for household,
family and other personal expenditures 4 661 10 971 282 15 914
All other loans 245 0 0 245
-------- -------- -------- --------
Total gross loans $108 390 $190 325 $109 712 $408 427
======== ======== ======== ========
</TABLE>
<TABLE>
<CAPTION>
Interest Sensitivity
--------------------
Fixed Variable
Rate Rate
----- --------
<S> <C> <C>
Due after one year $165 876 $134 161
</TABLE>
C. Risk Elements
1. The following table shows at December 31, the aggregate amounts of loans (in
thousands) which are non-accrual, troubled with debt restructurings and accruing
loans past due 90 days or more as to principal or interest payments.
<TABLE>
<CAPTION>
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Non-accrual loans $11 060 $ 1 720 $ 3 677 $ 846 $ 1 536
Troubled debt restructurings 3 028 2 930 1 000 648 815
Loans past due 90 days or more 0 0 0 0 0
------- ------- ------- ------- -------
Total $14 088 $ 4 650 $ 4 677 $ 1 494 $ 2 351
======= ======= ======= ======= =======
</TABLE>
<PAGE> 15
If the non-accrual loans had been current throughout their terms, interest
income would have been approximately $431,000; $202,000; $472,000; $74,000; and
$117,000 for 1998, 1997, 1996, 1995 and 1994 respectively. Interest income which
is recorded only as received, amounted to $216,000; $180,000; $154,000; $34,000;
and $58,000 for 1998, 1997, 1996, 1995 and 1994 respectively for these
non-accrual loans.
Loans are placed on non-accrual status when they are contractually past due 90
days or more as to interest or principal payments. Additionally, whenever
management becomes aware of facts or circumstances that may adversely impact the
collectibility of principal or interest on loans, it is the practice of
management to place such loans on a non-accrual status immediately rather than
waiting until the loans become 90 days past due. When interest accruals are
discontinued, interest credited to income is reversed. If collectibility is in
doubt, cash receipts on nonaccrual loans are used to reduce principal rather
than recorded as interest income.
<PAGE> 16
IV. SUMMARY OF LOAN LOSS EXPERIENCE
A. The following table summarizes the daily average loan balances at the end of
each period; changes in allowance for possible loan losses arising from loans
charged off and recoveries on loans previously charged off, by loan category;
and addition to the allowance which have been charged to operating expenses (in
thousands).
<TABLE>
<CAPTION>
December 31
-----------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Daily average amount of loans $333,484 $276 639 $233 473 $201 839 $187 945
======== ======== ======== ======== ========
Balance of allowance for $ 3 881 $ 2 893 $ 2 617 $ 2 534 $ 2 434
possible loan losses
at beginning of period
Loans Charged Off:
Real estate - mortgage 355 1 99 ---- ----
Real estate - construction ---- ---- ---- ---- ----
Loans to farmers ---- ---- ---- ---- ----
Commercial/Industrial Loans 376 199 82 158 238
Consumer Loans 114 121 105 50 32
Lease financing/other loans ---- ---- ---- ---- ----
-------- -------- -------- -------- --------
Total loans charged off $ 845 $ 321 $ 286 $ 208 $ 270
======== ======== ======== ======== ========
Recoveries of loans previously
charged off:
Real estate - mortgage 148 1 ---- ---- ----
Real estate - construction ---- ---- ---- ---- ----
Loans to farmers ---- ---- ---- ---- ----
Commercial/Industrial Loans 186 151 16 33 62
Consumer loans 43 42 26 8 48
Lease financing/other loans ---- ---- ---- ---- ----
-------- -------- -------- -------- --------
Total loan recoveries $ 377 $ 194 $ 42 $ 41 $ 110
-------- -------- -------- -------- --------
Net loans charged off $ 468 $ 127 $ 244 $ 167 $ 160
-------- -------- -------- -------- --------
Additions to allowance for
Loan losses charged to $ 1 135 $ 1 115 $ 400 $ 250 $ 260
-------- -------- -------- -------- --------
Operating expense
Allowance to related assets
acquired $ 6 487 $ - $ 120 $ - $ -
-------- --------- --------- -------- --------
Allowance for loan losses at end of period $ 11 035 $ 3 881 $ 2 893 $ 2 617 $ 2 534
======== ======== ========= ======== ========
Ratio of net charge offs
during period to average .14% .05% .10% .08% .09%
Loans outstanding
</TABLE>
The factors which influence management's judgment in determining the additions
to the loan valuation reserve are as follows:
1. An evaluation of potential losses in the current loan portfolio,
including the
<PAGE> 17
evaluation of impaired loans under SFAS 114.
2. The ratio of loan valuation reserves to the total loans should
approximate 1.35% according to Baylake management.
3. The reserve margin as evaluated with various loss weightings to the
loan portfolio should provide a margin of .50% as related to total
loans.
4. The percentage of recoveries of loans previously charged off in
relation to (1) above.
5. The relationship of charged off loans to total loans experience.
6. The economic stability within the market area and its impact on the
loan portfolio.
<PAGE> 18
B. Allocation of Allowance for Loan Losses
For each period ended December 31, the loan valuation reserve has been allocated
to the following categories in amounts deemed reasonably necessary to provide
for the possibility of losses being incurred within each category. The table
also sets forth the percentage of loans in each category to total loans (in
thousands).
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
Amount Amount Amount
------ Percent ------ Percent ------ Percent
of Loans of Loans of Loans
in Each in Each in Each
Category Category Category
to Total to Total to Total
Loans Loans Loans
-------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Real estate - mortgage $6 635 77.3% $1 900 74.4% $1 143 71.9%
Real estate -
construction 100 2.3% 50 5.0% 50 4.3%
Loans to farmers 75 1.7% 20 2.1% 20 2.3%
Commercial/industrial 3 750 14.8% 1 520 13.9% 1 300 15.7%
Consumer 425 3.9% 371 4.6% 360 5.8%
Not allocated 50 20 20
------- ---- ------ ----- ------ ----
Total $11 035 100% $3 881 100% $2 893 100%
======= ==== ====== ==== ====== ====
<CAPTION>
1995 1994
---- ----
Amount Amount
------ Percent ------ Percent
of Loans of Loans
in Each in Each
Category Category
to Total to Total
Loans Loans
-------- --------
<S> <C> <C> <C> <C>
Real estate - mortgage $1 000 69.1% $ 974 63.4%
Real estate -
construction 50 3.0% 50 3.0%
Loans to farmers 20 2.7% 20 3.2%
Commercial/industrial 1 190 19.2% 1 133 21.8%
Consumer 337 6.0% 337 8.6%
Not allocated 20 20
------ ---- ------ ----
Total $2 617 100% $2 534 100%
====== ==== ====== ====
</TABLE>
<PAGE> 19
V. DEPOSITS
The average deposits are summarized below for the periods indicated (in
thousands).
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
----------------------
1998 1997 1996
---- ---- ----
BALANCE YIELD BALANCE YIELD BALANCE YIELD
<S> <C> <C> <C> <C> <C> <C>
Non-interest bearing demand
deposits $ 46 586 0.00% $ 41 521 0.00% $ 37 229 0.00%
Interest bearing demand
deposits 41 734 2.04% 38 898 2.29% 36 593 2.37%
Savings deposits 109 778 3.71% 88 544 3.13% 88 046 3.25%
Time deposits (Excluding time
certificates of deposit of
$100,000 or more) 144 772 5.86% 130 084 5.63% 116 375 5.57%
Time Certificates of Deposit
of $100,000 or more 43 640 5.38% 33 671 5.80% 19 384 5.99%
-------- -------- --------
Total Deposits $386 510 4.08% $332 718 3.89% $297 627 3.82%
======== ======== ========
</TABLE>
Maturities of time certificates of deposit of $100,000 or more outstanding at
December 31 are summarized as follows (in thousands).
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<C> <C> <C> <C>
3 months or less $ 9 778 $ 15 801 $ 6 411
Over 3 months thru 6 months 17 183 7 078 5 376
6 months thru 12 months 12 629 7 621 5 737
Over 12 months 8 127 1 833 2 349
-------- -------- --------
Total $ 47 717 $ 32 333 $ 19 873
======== ======== ========
</TABLE>
<PAGE> 20
VI. RETURN ON EQUITY AND ASSETS
The ratio of consolidated net income to average stockholders' equity and to
average total assets and other ratios are as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
----------------------
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Percentage of Consolidated net income to:
Average total assets (return on assets) 1.21% 1.29% 1.34%
Average Stockholders' Equity (return
on equity) 13.87% 13.14% 12.39%
Percent of dividends declared per
common share to net income per common
share (dividend pay-out ratio) 52.44% 56.74% 48.44%
Percent of average stockholders' equity
to average total assets (equity to
assets ratio) 8.72% 9.82% 10.77%
</TABLE>
<PAGE> 21
VII. Short-Term Borrowings
A. The following table shows outstanding amounts of short-term borrowings,
together with the weighted average interest rates thereon, at December 31, of
each of the past three years (in thousands of dollars).
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
Amount Rate Amount Rate Amount Rate
<S> <C> <C> <C> <C> <C> <C>
Federal Funds purchased $ - 0.00% $18 373 7.07% $21 975 6.11%
Federal Home Loan Bank borrowings 53 000 5.26% 36 000 5.88% -
Securities Sold under agreements
to repurchase 3 758 4.19% 2 276 5.07% 1 845 3.55%
------- ----- ------- ----- ------- -----
$56 758 5.19% $56 649 6.23% $23 820 5.91%
======= ===== ======= ===== ======= =====
</TABLE>
B. The following table shows the maximum amounts outstanding of short term
borrowings at any month-end during each reported period (in thousands of
dollars).
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Federal funds purchased $38 392 $18 373 $30 016
Federal Home Loan Bank borrowings 36 000 36 000
Securities sold under agreements to
repurchase 2 925 2 276 2 272
</TABLE>
<PAGE> 22
C. The following table shows for the periods indicated the daily average amount
outstanding for the categories of short-term borrowings, the interest paid and
the weighted average rates thereon (in thousands of dollars).
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
Average Average Average
Amount Int. Rate Amount Int. Rate Amount Int. Rate
------ ---- ------- ------ ---- ------- ------ ---- ------
Short-term
borrowings:
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Federal funds $15 107 $ 898 5.94% $20 944 $1 233 5.89% $9 950 $571 5.74%
purchased
Federal Home Loan Bank 42 098 2 290 5.44% 6 756 386 5.71%
borrowings
Securities sold
under agreements to
repurchase 3 637 173 4.76% 1 800 70 3.89% 1 841 68 3.69%
------- ------ ----- ------- ------ ----- ------ ---- -----
Total short-term
borrowings $60 842 $3 361 5.52% $29 501 $1 689 5.73% $11 790 $639 5.42%
======= ====== ===== ======= ====== ===== ======= ==== =====
</TABLE>
<PAGE> 23
VIII. Long Term Debt
A. The following table shows outstanding amounts of long term debt, together
with the weighted average interest rates thereon, at December 31, of each of
the past three years (in thousands of dollars). Long term debt consists of a
land contract requiring annual principal payments of $53,000 plus interest
calculated at prime + 1/4% and a supplier contract for $14,000 with a five
year term and payments monthly.
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
Amount Rate Amount Rate Amount Rate
<S> <C> <C> <C> <C> <C> <C>
Land contract payable $ 317 8.75% $ 369 8.50% 422 8.75%
Other 75 5.85% 14 4.50% - 0.00%
------ ----- ------ ----- ------ -----
$ 392 8.20% $ 383 8.35% $ 422 8.75%
====== ===== ====== ===== ====== =====
</TABLE>
B. The following table shows the maximum amounts outstanding of long term debt
at any month-end during each reported period (in thousands of dollars).
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Land contract payable $ 317 $ 369 $ 422
14
Other $ 89
</TABLE>
C. The following table shows for the periods indicated the daily average amount
outstanding for the categories of long term debt, the interest paid and the
weighted average rates thereon (in thousands of dollars).
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
Average Average Average
Amount Int. Rate Amount Int. Rate Amount Int. Rate
------ ---- -------- ------ ---- ------- ------ ---- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Long term debt:
Land contract payable $ 317 $ 27 8.54% $ 369 $ 31 8.50% $ 423 $ 37 8.75%
</TABLE>
<PAGE> 24
ITEM 2. PROPERTIES
Registrant directly owns no real properties of any kind. However, Bank owns
seventeen branches and leases the main office building from its subsidiary the
Bank of Sturgeon Bay Building Corporation.
The main office building located in Sturgeon Bay serves as headquarters for
Registrant as well as the main banking office of Bank. The main office also
accommodates the expanded business of the Bank, primarily an insurance agency
and financial services. The eighteen branches owned or leased by Bank are
conveniently located throughout the market area served by Bank, including the
counties of Door, Kewaunee, Brown, Manitowoc, and Waupaca. All properties are in
good condition and considered adequate for present and near term requirements.
BLBNA leases and operates three branch offices in Green Lake, Outagamie and
Waupaca Counties, in addition to its main office in downtown Poy Sippi.
ITEM 3. LEGAL PROCEEDINGS
Registrant and BLBNA are presently involved in two legal actions which may have
a significant impact. The first action is a foreclosure by BLBNA on delinquent
loans in which the defendant has counterclaimed against the bank under a lender
liability complaint. The amount of potential loss may exceed $500,000 if the
liability claim is successful. The second action is a claim of fraud brought by
the shareholders of Evergreen of Wisconsin, Inc.("Evergreen"), the former owner
of BLBNA against the former president of Evergreen. BLBNA is included as a party
defendant due to the former president's position as president of BLBNA. The
amount of potential loss may exceed $500,000 if the claim is successful.
Management intends to defend these claims vigorously.
Registrant, in conjunction with the acquisition of BLBNA, is subject to various
other lawsuits, claims, and counterclaims. Such matters are subject to the
resolution of many uncertainties, and accordingly, outcomes are not predictable
with assurance. Although the Registrant believes that amounts provided in its
financial statements are adequate in light of the probable and estimable
liabilities, there can be no assurances that the amounts required to discharge
alleged liabilities from these matters will not have a material adverse affect
on its financial condition, results of operations or cash flows. Any amounts of
costs that may be incurred in excess of those amounts provided as of December
31, 1998, cannot be determined.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of security holders during the fourth
quarter of fiscal year 1998.
EXECUTIVE OFFICERS OF THE REGISTRANT
<PAGE> 25
The following is a list of names of executive officers of the Registrant and
position within the Registrant.
<TABLE>
<S> <C>
Thomas L. Herlache Chairman, President, CEO and
Director of Baylake Corp.
Richard A. Braun Vice Chairman, Executive Vice
President and Director of Baylake
Corp.
Paul C. Wickmann Vice President
Daniel F. Maggle Secretary
Steven D. Jennerjohn Treasurer
Robert M. Zubella Vice President
</TABLE>
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED SECURITY HOLDER
MATTERS
Historically, trading in shares of Baylake Corp. Common Stock has been limited.
Since mid-1993, Baylake Common Stock has been listed on the OTC Bulletin Board
(Trading symbol: BYLKBB), an electronic interdealer quotation system providing
real-time quotations on over 4,000 eligible securities. Previously, Baylake
Common Stock was listed on the NASDAQ Pink Sheets. Trading in Baylake Common
Stock has been conducted principally by certain brokerage and investment firms
with offices in Door County, Wisconsin which have provided price quotations, and
have assisted individual holders of Baylake Common Stock who wish to sell their
shares. In addition, since May 1993, prices for Baylake Common Stock have
generally been reported daily in The Milwaukee Journal Sentinel based on
information provided by a local brokerage firm.
The following table summarizes high and low bid prices and cash dividends paid
for the Baylake Common Stock for the periods indicated. Bid prices are computed
from those obtained from two brokerage firms, and, since May 1993 from bid
prices reported in The Milwaukee Journal Sentinel. The reported high and low
prices represent interdealer bid prices, without retail mark-up, mark-downs or
commission, and may not necessarily represent actual transactions. Prices and
dividends per share quoted have been adjusted for a 3 for 2 stock dividend paid
on May 15, 1998.
<TABLE>
<CAPTION>
Calendar High Low Cash
period dividends
per share
<C> <C> <C> <C> <C>
1997 1st Quarter $17.91 $16.00 $0.160
2nd Quarter $17.50 $15.83 $0.160
3rd Quarter $19.00 $16.67 $0.160
4th Quarter $20.00 $17.67 $0.333
1998 1st Quarter $23.33 $18.83 $0.170
2nd Quarter $26.00 $21.00 $0.170
3rd Quarter $29.50 $25.00 $0.170
4th Quarter $34.00 $27.00 $0.350
</TABLE>
<PAGE> 26
Baylake had approximately 1,584 shareholders of record at March 22, 1999.
Baylake paid a special dividend of $.167 per share cash dividend in December
1997 and $.17 per share cash dividend in December 1998.
Dividends on Baylake Common Stock have historically been paid in cash on a
quarterly basis in March, June, September and January, and Baylake expects to
continue this practice for the immediate future. The holders of Baylake Common
Stock are entitled to receive such dividends when and as declared by Baylake's
Board of Directors. The ability of Baylake to pay dividends is dependent upon
receipt by Baylake of dividends from the Bank, which is subject to regulatory
restrictions. Such restrictions, which govern state chartered banks, generally
limit the payment of dividends on bank stock to the bank's undivided profits
after all payments of all necessary expenses, provided that the bank's surplus
equals or exceeds its capital. In determining the payment of cash dividends, the
Board of Directors of Baylake considers the earnings, capital and debt servicing
requirements, financial ratio guidelines issued by the FRB and other banking
regulators, financial conditions of Baylake and the Bank, and other relevant
factors. Baylake maintains a dividend reinvestment plan which enables
participating shareholders to elect to purchase shares of Baylake Common Stock
in lieu of receiving cash dividends. Such shares may be newly issued securities
or acquired in the market, and will be purchased on behalf of participating
shareholders at their then fair market value.
ITEM 6. SELECTED FINANCIAL DATA
Year Ended December 31
<TABLE>
<CAPTION>
1998 1997 1996 1995 1994
<S> <C> <C> <C> <C> <C>
Interest Income $38,061 $31,577 $26,926 $24,487 $21,445
Interest Expense $19,148 $14,662 $12,046 $10,131 $ 7,556
Net Interest $18,913 $16,915 $14,880 $14,356 $13,889
Income
Provision for $ 1,135 $ 1,115 $ 400 $ 250 $ 260
Loan Losses
Other Income $ 4,377 $ 4,068 $ 3,451 $ 2,581 $ 2,320
Other Expense $13,891 $12,571 $11,289 $ 9,894 $ 9,689
Income before $ 8,264 $ 7,297 $ 6,642 $ 6,793 $ 6,260
Income taxes
Net Income $ 6,017 $ 5,270 $ 4,703 $ 4,644 $ 4,430
Earnings per
share:
</TABLE>
<PAGE> 27
<TABLE>
<S> <C> <C> <C> <C> <C>
Basic
earnings
per share $ 1.64 $ 1.43 $ 1.28 $ 1.26 $ 1.21
Diluted $ 1.61 $ 1.43 $ 1.27 $ 1.25 $ 1.21
Dividends per $ .94 $ .81 $ .62 $ .76 $ .68
share
Total assets
(000's) $607,438 $450,062 $395,356 $309,428 $287,107
</TABLE>
<PAGE> 28
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
General
The following sets forth management's discussion and analysis of the
consolidated financial condition and results of operations of the Baylake Corp.
("Baylake" or the "Registrant"), which may not be otherwise apparent from the
consolidated financial statements included in this report. This discussion and
analysis should be read in conjunction with those financial statements, related
notes, the selected financial data and the statistical information presented
elsewhere in this report for a more complete understanding of the following
discussion and analysis.
This discussion and analysis of financial condition and results of operations,
and other sections of this report, contain forward-looking statements that are
based on the current expectations of management. Words such as "anticipates,"
"believes," "estimates," "expects," "forecasts," "intends," "is likely,"
"plans," "projects," and other such words are intended to identify such
forward-looking statements. The statements contained herein and such future
statements involve or may involve certain assumptions, risks and uncertainties,
many of which are beyond the control of the Registrant, that could materially
differ from what may be expressed or forecasted in such forward-looking
statements. In addition to the assumptions and other factors referenced
specifically in connection with such statements, the following factors could
impact the business and financial prospects of the relationships; demand for
products and services; the degree of competition by traditional and
non-traditional competitors; changes in banking regulations; changes in tax
laws; changes in prices; the impact of technological advances; governmental and
regulatory policy changes; trends in customer behavior as well as their ability
to repay loans; and changes in the national economy.
On July 1, 1996, the Registrant consummated its acquisition of Four Seasons of
Wis, Inc. ("Four Seasons"), in a cash transaction totaling $13.875 million. The
acquisition was accounted for using the purchase method of accounting, therefore
it would affect future operations.
On October 1, 1998, the Registrant acquired Evergreen Bank, N.A. and changed its
name to Baylake Bank, N.A. No payments to the former shareholder have been made,
but are contingently payable in May 1999 based on a formula set forth in the
stock purchase agreement. The acquisition was accounted for using the purchase
method of accounting, therefore it would affect future operations. See Note 13
of Notes to Consolidated Financial Statements for additional details on this
transaction.
All per share information has been restated to reflect the 3-for-2 stock
dividend paid on May 15, 1998, to shareholders of record May 1, 1998.
<PAGE> 29
Results of Operations
Net income in 1998 was $6,0 million, a 14.2% increase from the $5.3 million in
1997. Net income for 1997 showed a 12.1% increase over the 1996 earnings. Basic
operating earnings per share increased to $1.64 per share in 1998 compared with
$1.43 in 1997, an increase of 14.7%. Basic operating earnings per share in 1997
showed a 11.8% increase over 1996 results of $1.28 per share. On a diluted
operated earnings per share basis, the Registrant recorded $1.61 per share in
1998, compared to $1.43 and $1.27 per share in 1997 and 1996, respectively.
Net income for 1998 includes amortization expense of $327,000 of goodwill
related to the purchase of Four Seasons and $72,000 related to the acquisition
of BLBNA. This expense reduced after-tax net income in 1998 by $399,000 or
earnings per share by $.11. Net income for 1997 reflected amortization expense
of $326,000 related to goodwill, thereby reducing after-tax earnings per share
by $.09.
In spite of an interest rate environment affected by a flattening yield curve
and increased competition, net interest income improved. Net interest income for
1998 improved $2.0 million or 11.8% over 1997 levels. Net interest income for
1997 improved $2.0 million or 13.7% over 1996 levels. Interest income increased
by 20.8% while interest expense increased 30.6%.
Other income increased $309,000 or 7.6%. The primary factors increasing other
income were an increase in loan servicing fees, gains on sales of loans, and
fees for other services to customers offset by a decrease in securities gains.
Non-interest expense increased $1.3 million or 10.5% over 1997 levels. Factors
contributing to the increase were increased personnel expenses, equipment
expense and other operating expenses.
For 1998, return on average assets declined to 1.21% compared with 1.29% in 1997
and 1.34% in 1996. This ratio declined as a result of the various factors
discussed above combined with an average asset growth rate of 21.8% in 1998.
Return on average stockholders' equity in 1998 showed an increase of 13.87%
compared to 13.14% in 1997 and 12.39% in 1996. The increase in 1998 compared to
1997 occurred as a result of increased net income, a lower average capital to
average asset ratio and the factors described above.
Cash dividends declared in 1998 increased 6.2% to $.86 per share compared with
$.81 in 1997. This compares to an increase of 30.7% in 1997 dividends as
compared to 1996.
Net Interest Income
Net interest income is the largest component of the Registrant's operating
income (net interest income plus other non-interest income)
<PAGE> 30
accounting for 82.1% of 1998 total operating income, as compared to 81.4% in
1997 and 82.0% in 1996. Net interest income represents the difference between
interest earned on loans, investments and other earning assets offset by the
interest expense attributable to the deposits and the borrowings that fund them.
Interest fluctuations together with changes in the volume and types of earning
assets and interest-bearing liabilities combine to affect total net interest
income. This analysis discusses net interest income on a tax-equivalent basis in
order to provide comparability among the various types of interest earned.
Tax-exempt interest income is adjusted to a level that reflects such income as
if it were fully taxable.
Net interest income on a tax-equivalent basis reached $20.1 million in 1998, an
increase of 12.7% from $17.9 million in 1997 (and $15.7 million in 1996). The
improvement in 1998 net interest income of $2.2 million was due in part to an
increase in the volume of net average earning assets of $1.7 million. In spite
of this, average earning assets increased 21.8% offset by an increase of 24.9%
in average interest-bearing liabilities. The benefit from an increase in earning
assets and non-interest bearing deposits were offset, in part, by an increase in
interest-bearing liabilities, a decline in the yield on earning assets and an
increase in the cost of interest paying liabilities. As a result, interest
income increased 20.8% while interest expense for 1998 increased 30.6%.
Average loans outstanding grew from $276.6 million in 1997 to $333.5 million in
1998, an increase of 20.6% of which, approximately $22.3 million is attributable
to the BLBNA purchase. The increase in loan volume also was a significant
contributing factor to the increase in interest income. Average loans
outstanding increased from $233.5 million $276.6 in 1996 to $276.6 million in
1997, an increase of 18.5%. The mix of average loans to average total assets
increased slightly from 66.3% in 1996 to 67.7% in 1997 and declined slightly to
67.1% in 1998. The relationship of greater loan composition in the asset mix has
provided a source of higher yielding assets, which has contributed to an
increase in net interest income.
Interest rate spread is the difference between the tax-equivalent rate earned on
average earning assets and the rate paid on average interest-bearing
liabilities. The interest rate spread decreased 27 basis points in 1998 to 3.85%
from 4.12% in 1997, as the average yield on earning assets decreased 7 basis
points while the average rate paid on interest-bearing liabilities increased 20
basis points over the same period. The decrease in interest rate spread followed
a decline of 24 basis points in 1997 compared to a spread of 4.36% in 1996. The
decrease in the Registrant's earning assets yield reflects a declining rate
environment which impacted rates on the variable priced loans in the last
quarter of 1998 and increased competition. Increased investment interest income
resulting from an increased investment portfolio combined with higher yields on
the investment portfolio have offset some of the decline in interest rate
spread. Yields on interest-paying liabilities increased 20 basis points.
Increased competition for retail deposits and new product offerings increased
<PAGE> 31
yields on interest bearing deposits by 19 basis points from 4.44% in 1997 to
4.63% in 1998. Additionally, as a result of an effort intended to increase
interest-earning assets and thus reduce the percentage of equity to total assets
(known as leveraging), Bank was able to acquire additional funding, primarily
from the Federal Home Loan Bank ("FHLB") of Chicago. This effort increased the
percentage of short-term borrowings as a percentage of interest-bearing
liabilities to 14.35% in 1998 compared to 8.6% in 1997. Although yields on these
borrowings decreased 27 basis points in 1998 compared to 1997, their higher
rates (as compared to rates paid on deposits) and the higher percentage of
borrowings to interest-bearing liabilities contributed to an overall increase in
the yields paid on interest-bearing liabilities.
Net interest margin is tax-equivalent net interest income expressed as a
percentage of average earning assets. The net interest margin exceeds the
interest rate spread because of the use of non-interest bearing sources of funds
to fund a portion of earning assets. As a result, the level of funds available
without interest cost (demand deposits and equity capital) is an important
factor affecting an increasing net interest margin.
The net interest margin for 1998 was 4.42% compared to 4.77% in 1997. The
decline in net interest margin was primarily the result of the 27 basis point
decline in the interest rate spread. The impact from competition as it relates
to the commercial loan portfolio and costs related to new product offerings had
a negative affect on the change in net interest margin. The free funds ratio, or
the level of non-interest bearing funds that support earning assets, declined to
19.7% from 21.4% in 1997, which contributed to the reduction in net interest
margin.
The net interest margin for 1997 was 4.77% compared to 4.97% in 1996 as interest
rate spread declined during that period. The decrease in 1997 occurred primarily
as the result of the 24 basis point decline in the interest rate spread offset
by an increase in the average earning assets to average asset ratio. Increased
competition especially as it relates to the commercial loan portfolio had a
negative affect on net interest margin.
The ratio of average earning assets to average total assets measures
management's ability to employ overall assets for the production of interest
income. This ratio was 91.7% in 1997 compared with 91.6% in 1996 and 89.6% in
1996. The ratio remained stable in 1998 as a result of efforts to increase
interest earning assets using such sources as FHLB for funding increased loan
demand. This was offset by increased non-accrual loans, primarily the result of
the BLBNA acquisition.
Competition in the financial services industry will also affect net interest
margin. Spreads will be a focus of management's attention, as the Registrant
constantly seeks to attract lower cost core deposits, service the needs of the
customer, and provide attractively priced products. Competition for high quality
assets will also affect asset yields. Net interest income is vital to the
Registrant's earnings
<PAGE> 32
performance, since net interest income is the largest component of operating
income. Growth in net interest income primarily is the result of growth in the
level of earning asset volumes and changes in asset mix. Interest rate spread
management through asset and liability pricing and increased levels of
non-interest-bearing sources of funds also aid in improving net interest income.
Management will continue its focus on maintaining an appropriate mix of quality
earning assets as well as seeking to achieve appropriate growth in volumes.
Changes in the levels of market interest rates also affect net income, but are
less directly under the control of the Registrant. Although a stable rate
environment has been experienced, management believes that a gradual increase in
interest rates will not adversely affect the earning capacity of the Registrant.
Past experience has shown that, although the Registrant remains in a short-term
negative interest rate sensitivity gap, deposits tend not to be repriced as
quickly as loans in a rising rate scenario and are repriced more frequently in a
falling interest rate environment. More discussion on this subject is referenced
in the section titled "Interest Rate Sensitivity".
Provision for Loan Losses
Provision for loan losses in 1998 at $1,135,000 compares to a provision of
$1,115,000 for 1997 and $400,000 for 1996. Net charge-offs in 1998 were $468,000
compared with net charge-offs of $127,000 in 1997 and $244,000 in 1996. Net
charge-offs of $166,000 occurred as a result of BLBNA results. Net charge-offs
as a percentage of average loans is a key measure of asset quality. Net
charge-offs to average loans were .14% in 1998 compared with .05% in 1997 and
.10% in 1996. The provision was increased as a result of higher average loan
growth experienced compared to an allowance for loan loss levels that has
declined in recent years. Additional provisions of $300,000 were made as a
result of review of the BLBNA loan portfolio. Entry into new markets has allowed
management the opportunity to re-evaluate the methodology used in providing
adequate provision for potential loan losses. Management's determination of the
provision for loan is based on several factors. Factors considered include
evaluation of the loan portfolio, current domestic conditions, loan volume, loan
growth, loan portfolio composition, levels of non-performing loans, trends in
past due loans, and the evaluation of various problem loans for loss potential.
Net charge-offs to average loans remain comparatively low in spite of above
average loan growth due to higher underwriting standards and improved collection
efforts.
The Registrant's charge-off level for 1999 will continue to be affected as a
result of the purchase of BLBNA. The Registrant anticipates charge-off levels in
1999 to be higher than 1998 and generally higher than recent historical
charge-off levels, although the Registrant believes adequate coverage exists as
a result of the Allowance for Possible Loan Losses acquired as a result of the
BLBNA acquisition.
Non-Interest Income
<PAGE> 33
Total non-interest income for 1998, excluding securities transactions, was
$601,000 more than 1997, a 15.9% increase. In 1997, total non-interest income
was $363,000 more than 1996, a 10.6% increase. Trust service fees, loan
servicing fees, gains from sales of loans and service charges continue to be the
primary components of non-interest income.
Trust fees decreased $40,000 or 8.2% in 1998 compared to 1997, primarily as a
result of a reduction in trust estate business. This compared to a decrease of
$120,000 or 19.6% in 1997 compared to 1996, primarily for the same reasons as
listed above.
Loan servicing fees increased $115,000 or 15.7% to $846,000 in 1998. This
followed an increase of $57,000 or 8.5% increase to $731,000 in 1997. The
increase in 1998 occurred as a result of increased servicing income due to a
larger portfolio of commercial loan business sold on the secondary market and
serviced by Registrant.
Gains on sales on loans in the secondary market increased $215,000 to $893,000
in 1998 primarily as a result of increased gains from sales of mortgage loans.
Increased mortgage loan business amounted to $17.3 million of loans sold in
1998.
Service charges on deposit accounts showed an increase of $230,000 or 26.0% over
1997 results accounting for the improvement in fee income generated for other
services to customers. $52,000 of the increase stemmed from the operations of
BLBNA.
Included in 1998 other income are recoveries of $100,000 related to the BLBNA
operation, providing the increase to other income as related to 1997 results.
Non-Interest Expense
Non-interest expense in 1998 increased $1.3 million or 10.5% compared to 1997
results primarily as a result of increased personnel, equipment, data
processing, and other operating expense. This followed a $1.3 million or 11.4%
increase in 1997 as compared to 1996.
Salaries and employee benefits expense is the largest component of non-interest
expense and totaled $7.8 million in 1998, an increase of $769,000 or 11.0% as
compared to 1997 results. The increase in 1998 primarily resulted from
additional staffing increases (including the addition of BLBNA), increased
benefit costs, and normal salary increases. Salary and employee benefits expense
in 1997 totaled $7.0 million, an increase of $733,000 or 11.7% as compared to
1996 results. The 1997 increase resulted primarily from additional staffing
increases, increased benefit costs, and normal salary increases.
Bonuses arising from the Registrant's Pay-for-Performance Program amounted to
$205,000 in 1998 compared to $390,000 in 1997, a decrease of 47.4%. This program
is designed to reward various divisions if
<PAGE> 34
certain goals are met in achieving improvement in income and reaching certain
levels of performance on return on equity. As a result of certain goals on
return on equity not being achieved, the bonus payout was less, therefore bonus
expense decreased.
The Registrant's 401(k) profit sharing plan covering all employees who qualify
as to age and length of service increased $55,000 or 13.0% over 1997 levels.
Expenses in the same category were up $46,000 or 12.2% over 1996 levels.
The number of full-time equivalent employees increased to 229 in 1998 from 190
in 1997, an increase of 20.5%. 25 full time equivalent employees were added in
1998 as a result of the BLBNA acquisition. Employee levels in 1997 increased to
199 from 185 in 1996, an increase of 2.7%. Other than resulting from the BLBNA
acquisition, these increases occurred primarily in the Green Bay market with
emphasis on additional personnel for sales and calling programs in that
particular market. As the Registrant expands to take advantage of business
opportunities and the related revenues, management will continue its efforts to
control salaries and employee benefits expense, although increases in these
expenses are likely to occur in future years.
Net occupancy expense for 1998 showed an increase of $1,000 as compared to 1997.
This increase followed an increase of $298,000 or 34.3% in 1997. The only
addition in 1998 occurred as a result of opening a branch in Ledgeview offset by
a reduction in expenses related to maintenance and repairs. The 1997 expense
increase resulted from expansion costs in the development of the Green Bay
region and two new branches completed in 1997 for the Door County market area
(Egg Harbor and West Side locations) resulting in additional depreciation
expense, real estate tax expense, and other occupancy costs.
Equipment expense increased $156,000 or 18.0% compared to 1997. This followed an
increase of $5,000 or .6% in 1997. The increase resulted from depreciation
expense from past capital expenditures for equipment which were made to enhance
the Registrant's technological capabilities. $98,000 of the increase occurred as
a result of the BLBNA acquisition.
Data processing expense in 1998 increased $57,000 or 8.9% due to volume
increases, conversion expense, and technology enhancements. This followed an
increase of $94,000 or 17.2% in 1997 compared to 1996. Management estimates that
data processing expense should show relatively flat increases with only
adjustments related to any volume increase incurred by Registrant.
Other real estate expenses are netted against income received in the
determination of net other real estate owned expense (income). As a result, the
Registrant has shown varied results. Other real estate owned expenses showed a
net loss of $15,000 in 1998 as a result of various operating expenses occurring
on property held at year end. Other real estate owned expenses showed a net loss
of $30,000 in 1997 as a result of a loss on sale of approximately $17,000 on a
commercial property disposed of in 1997 along with various operating costs
<PAGE> 35
expensed during 1997. Other real estate owned showed net income of $188,000 in
1996 a result of gains on sale of approximately $96,000 taken on three
commercial properties disposed of in 1996. Additionally, a gain of $155,000 was
recognized as a result of sales proceeds from the disposal of additional lot
sales of Idlewild Valley, a former subsidiary of the Bank whose value was
written off in 1988.
Other operating expenses in 1998 increased $352,000 or 12.3%. Included in 1998
expenses were amortization of goodwill related to the Four Seasons acquisition
of $327,000 (the same as in 1997) and amortization of $72,000 related to the
BLBNA acquisition. This compares to a decrease of $66,000 or 2.3% in 1997
compared to 1996.
Supplies expense shows an increase of $58,000, or 17.9% in 1998 as compared to
1997. $28,000 of the increase occurred as a result of BLBNA operations.
Payments to regulatory agencies increased $60,000 to $101,000 for 1998. $59,000
of the increase occurred as a result of BLBNA. For the Bank, these charges
related to a debt service assessment related to Financing Corporation (FICO). A
risk classification rating of 1A (rating assigned to well-capitalized
institutions) allowed Bank to experience no Federal Deposit Insurance
Corporation (FDIC) assessments in 1998. BLBNA has been assigned a risk
classification rating of 3B (rating assigned to troubled and critically under
capitalized institutions) therefore in addition to a FICO assessment, BLBNA also
receives a FDIC assessment.
Other items comprising other operating expense shows an increase of $162,000 or
a 7.5% increase in 1998 compared to 1997. Additional marketing and advertising
expense of $95,000 account for much of this increase, as entry into newer
markets contributed to more extensive and costlier media advertising expense.
Director fees and other related costs show an increase of $40,000 in 1998 due to
additional regional boards established in the year for purposes of keeping
involvement in the communities served by Bank, thereby allowing various levels
of decision-making to be made in the regions formed. The overhead ratio ratio,
which is computed by subtracting non-interest income from non-interest expense
and dividing by average total assets was 1.91% for 1998 compared to 2.08% for
1997 and 2.22% for 1996. Registrant continues its commitment to deliver quality
service and products for its customer base.
Income Taxes
Income tax expense for the Registrant in 1998 was $2.2 million, an increase of
$220,000 or 10.9% compared to 1997. This followed an increase of $88,000 or 4.5%
in 1997 compared to 1996. The higher tax expense in 1998 and 1997 reflected the
Registrant's increase in before tax earnings offset by an increase in tax-exempt
interest income.
The Registrant's effective tax rate (income tax expense divided by income before
taxes) was 27.2% in 1998 compared with 27.8% in 1997 and
<PAGE> 36
29.2% in 1996. Of the 27.2% effective tax rate for 1998 the federal effective
tax rate was 27.0% while the Wisconsin state effective tax rate was .2%.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. A valuation allowance has
been recognized to offset the related deferred tax assets due to the uncertainty
of realizing tax benefits of a portion of loan loss and mortgage servicing
differences.
Income taxes are provided for the tax effects of transactions reported in the
financial statements and consists of taxes currently due plus deferred taxes
related primarily to differences between the basis of the allowance for loan
losses, deferred loan origination fees, deferred compensation, mortgage loan
servicing, market value adjustments of securities, and depreciation for
financial and income tax reporting in accordance with SFAS 109. The deferred tax
assets and liabilities represent the future tax return consequences of those
differences, which will either be taxable or deductible when the assets and
liabilities are recovered or settled.
Balance Sheet Analysis
Loans
Total loans outstanding grew to $407.6 million at December 31, 1998, a 39.1%
increase from the end of 1997. BLBNA accounted for $76.6 million of the loans at
December 31 or 26.2% of the increase. This follows a 12.5% increase at December
31, 1997 over 1996 year end.
The commercial, financial, and agricultural loan classification primarily
consists of commercial loans to small business. Loans of this type are in a
broad range of industries and include service, retail, wholesale, and
manufacturing concerns. Agricultural loans are made principally to farmers
engaged in dairy, cherry and apple production. Borrowers are primarily
concentrated in Door, Brown, Waupaca, Waushara and Kewaunee counties, Wisconsin.
The credit risk related to commercial loans made by the Registrant's
subsidiaries is largely influenced by general economic conditions (especially
those applicable to the Door County market area) and the resulting impact on a
borrower's operations.
Commercial loans and commercial real estate loans (including construction loans)
totaled $255.7 million at year end 1998 and comprised 62.4% of the loan
portfolio compared with 61.2% of the portfolio at the end of 1997. Loans in
these classifications grew $75.9 million or 42.2% during 1998. BLBNA loans in
the acquired through acquisition accounted for $37.2 million or 20.7% of the
increase.
<PAGE> 37
The following tables set forth loan composition (net of unearned income) at
December 31 (in thousands of dollars):
<TABLE>
<CAPTION>
1998 1997 1996
Amount % of Total Amount % of Total Amount % of Total
<S> <C> <C> <C> <C> <C> <C>
Real estate- $136 225 34% $100 352 34% $ 83 334 32%
resident
Real estate-
construction $ 9 553 2% $ 14 760 5% $ 11 365 4%
Real estate- $178 406 43% $117 768 40% $104 136 40%
commercial/
agricultural
Commercial/
agricultural $ 67 550 17% $ 47 078 16% $ 46 786 18%
Consumer/
Installment $ 15 914 4% $ 13 480 5% $ 15 233 6%
Total loans
(net of unearned $407 648 $293 438 $260 854
income)
</TABLE>
<TABLE>
<CAPTION>
1995 1994
Amount % of Total Amount % of Total
<S> <C> <C> <C> <C>
Real estate- $ 62 059 29% $ 52 474 27%
residential
Real estate- $ 6 378 3% $ 5 881 3%
construction
Real estate- $ 83 177 40% $ 69 303 36%
estate-commercial/
agricultural
Commercial/
agricultural $ 46 094 22% $ 48 412 25%
Consumer/Installment $ 12 522 6% $ 16 603 9%
Total Loans,
(net of unearned $210 230 $192 673
income)
</TABLE>
Real estate loans (including construction loans) secured by non-residential real
estate properties involve borrower characteristics similar to those for
commercial loans. Because of their similarities, they are combined with
commercial loans for purposes of analysis and discussion.
An active credit risk management process is used for commercial loans to ensure
that sound and consistent credit decisions are made. Credit risk is controlled
in part by detailed underwriting procedures, comprehensive loan administration,
and periodic review of borrowers' outstanding loans and commitments. Borrower
relationships are formally reviewed on an ongoing basis. Further analyses by
customer, industry,
<PAGE> 38
and location are performed to monitor trends, financial performance and
concentrations.
The Registrant's loan portfolio is diversified by types of borrowers and
industry groups within the market areas served. Significant loan concentrations
are considered to exist for a financial entity when such amounts are loans to a
multiple of borrowers engaged in similar activities which cause them to be
similarly impacted by economic or other conditions. At December 31, 1998, there
existed the following industry group concentrations in the Registrant's loans
which exceeded 10% of total loans:
Tourism related loans:
<TABLE>
<S> <C>
Lodging business $51.5 million or 12.6%
Total tourism loans $51.5 million or 12.6%
</TABLE>
The Registrant has a significant loan concentration because of tourism based
loans. The Registrant must serve the credit needs of its market, with one of the
key industries being tourism. Being a community bank, however, the Registrant
must also meet the other needs of its market area. For that reason the
Registrant realizes that the economic conditions of its market area directly
impact the Registrant's performance levels. Any general weakness in the Door,
Brown, Kewaunee, Waupaca, or Waushara County areas could have a material effect
on the business and operations of the Registrant, although management believes
that it is not unduly exposed to problems in any particular industry group.
Real estate residential mortgage loans totaled $136.2 million at the end of 1998
and comprised 33.6% of the loan portfolio at the end of 1998. Loans grew $37.3
million or 37.1% during 1998. BLBNA accounts for $36.1 million in loans in this
category. Residential real estate loans consist of conventional home mortgages,
adjustable indexed interest rate mortgage loans, home equity loans, and
secondary home mortgages. Loans are primarily for properties with the market
areas served by the Registrant. Residential real estate loans generally contain
a limit for the maximum loans to collateral value of 75% to 80%. Private
mortgage insurance may be required when the loan to value exceeds these limits.
Residential real estate loans are written normally with a one, two, or three
year balloon feature.
In 1997, the Registrant offered adjustable indexed interest mortgage loans based
upon market demands. At year end 1998, those loans totaled $39.2 million
dollars. Adjustable indexed interest rate mortgage loans contain an interest
rate adjustment provision tied to the weekly average yield on U.S. Treasury
securities adjusted to a constant maturity of one year, plus an additional
mark-up of 2.75% (the "index") which varies with the mortgage loan product.
Interest rates on indexed mortgage loans are adjusted, up or down, on
predetermined dates fixed by contract, in relation to and based on the index or
<PAGE> 39
market interest rates as of a predetermined time prior to the adjustment date.
Adjustable indexed interest rate mortgage loans have an initial period, ranging
from one or three years, during which the interest rate is fixed, with
adjustments permitted thereafter, subject to annual and lifetime interest rate
caps which vary with the product. Annual limits on interest rate increases are
2% while aggregate lifetime interest rate increases over the term of the loan
are currently at 6% above the original mortgage loan interest rate.
The Registrant also participates in a secondary fixed mortgage program under the
Federal Home Loan Mortgage Corporation ("FHLMC") guidelines. These loans are
sold on the secondary market and the Registrant retains servicing rights. At
December 31, 1998, these loans totaled $35.8 million.
Additionally in the last quarter of 1997, Registrant offered fixed rate
mortgages through participation in secondary fixed rate mortgage programs under
private investors. These loans are sold on the secondary market with servicing
rights sold retained by buyer.
Installment loans to individuals totaled $15.9 million or 3.9% of the total loan
portfolio at December 31, 1998 compared to $13.5 million or 4.6% at end of 1997.
BLBNA accounted for $3.6 million of these loans at December 31, 1998.
Installment loans include short-term installment loans, direct and indirect
automobile loans, recreational vehicle loans, credit card loans, and other
personal loans. Individual borrowers may be required to provide related
collateral or a satisfactory endorsement or guaranty from another party,
depending upon the specific type of loan and the creditworthiness of the
borrower. Loans are made to individual borrowers located in the market areas
served by the Registrant. Credit risks for loans of this type are generally
influenced by general economic conditions (especially in the market areas
served), the characteristics of individual borrowers and the nature of the loan
collateral. Credit risk is primarily controlled by reviewing the
creditworthiness of the borrowers as well as taking the appropriate collateral
and guaranty positions on such loans.
Critical factors in the overall management of credit quality are sound loan
underwriting and administration, systematic monitoring of existing loans and
commitments, effective loan review on an ongoing basis, adequate allowance for
possible loan losses, and conservative non-accrual and charge-off policies.
Allowance for Possible Loan Losses
At December 31, 1998, the allowance for possible loan losses ("APLL") of $11.0
million represented 2.71% of total loans, up from 1.32% at December 31, 1997.
APLL of $6.5 million was acquired as a result of the BLBNA acquisition. Loans
grew at a rate of 39.1% (BLBNA accounts for 26.2% of growth) from December 31,
1997 to year-end 1998, while the
<PAGE> 40
allowance grew at a higher rate. Net charge-offs increased in 1998 as compared
to 1997. As loans have grown in the Bank's portfolio, management did not believe
there existed any trends indicating any undue portfolio risk. There exists
potential asset quality problems in the loan portfolio acquired in the BLBNA
purchase although management believes sufficient reserves have been provided in
the APLL acquired in the BLBNA purchase to absorb potential losses in the loan
portfolio. In the three months since the purchase of BLBNA, management has
undergone extensive efforts to identify and evaluate potential problem loans
stemming from the BLBNA acquisition. As an integral part of their examination
process on BLBNA since the acquisition, various regulatory agencies have also
done a review on these loans. Although no assurance can be given, management
feels that the majority of these loans have been identified. Ongoing efforts are
being made to collect these loans and involve the legal process where necessary
to minimize risk of further deterioration of these loans for full
collectibility.
At December 31, 1997, the allowance for possible loan losses of $3.9 million
represented 1.32% of total loans compared with 1.11% at the end of 1996.
Commercial, agricultural and other loan net charge-offs represented 40.6% of the
total net charge-offs as compared with 37.8% of total net charge-offs in 1997.
Real estate mortgage loan net charge-offs represented 44.2% of total net
charge-offs in 1998 as compared to none in 1997. Installment loan net
charge-offs represented 15.2% of total net-charge-offs as compared with 62.2% in
1997. In the commercial loan sector, four loans totaling $205,000 accounted for
the net charge-offs. One real estate residential loan of $157,000 accounted for
the real estate loan net charge-offs. The majority of charge-offs from
installment credits occurred as a result of automobile loans. $43,000 of
net-chargeoffs occurred. Credit card loans showed net charge-offs of $28,000 in
1998 compared with net charge-offs of $19,000 in 1997. Although the Bank has
experienced higher interest returns on approximately $1.1 million in credit card
balances, credit card loans are inherently risky in nature. The Bank continues
to work with the credit card issuer to solicit quality loan accounts based on
designated criteria and actively pursue collection efforts in a more timely
fashion. Loans charged-off are subject to continuous review and specific efforts
are taken to achieve maximum recovery of principal and accrued interest.
Management regularly reviews the adequacy of the allowance for possible loan
losses to ensure that the allowance is sufficient to absorb potential losses
arising from the credit granting process. Factors considered include the levels
of non-performing loans, other real estate, trends in past due loans, loan
portfolio growth, changes in loan portfolio composition, historical net
charge-offs, present and prospective financial condition of borrowers, general
and local economic conditions, specific industry conditions, other factors which
could affect potential credit losses such as Year 2000 issues related to
borrowers, and other regulatory or legal issues that could affect the
Registrant's loss potential.
<PAGE> 41
Management believes that the balance of the allowance for possible loan losses
as of December 31, 1998 is sufficient to absorb potential loan losses.
Non-Performing Loans, Potential Problem Loans and Other Real Estate
Management remains committed to a philosophy that encourages early
identification of non-accrual and problem loans. The philosophy is embodied
through the monitoring and reviewing of credit policies and procedures to ensure
that all problem loans are identified quickly and the risk of loss is minimized.
Non-performing loans remain a leading indicator of future loan loss potential.
Non-performing loans are defined as non-accrual loans, guaranteed loans 90 days
or more past due but still accruing, and restructured loans. Additionally,
whenever management becomes aware of facts or circumstances that may adversely
impact on the collectibility of principal or interest on loans, it is the
practice of management to place such loans on non-accrual status immediately
rather than waiting until the loans become 90 days past due. Previously accrued
interest and uncollected interest on such loans is reversed and income is
recorded only to the extent that interest payments are subsequently received on
a cash basis and a determination has been made that the loan's principal is
collectible. If the collectibility of principal is doubtful, payments received
are applied to loan principal.
Restructuring loans involve the granting of some concession to the borrower
involving a loan modification, such as payment schedule or interest rate
changes.
Non-performing loans at December 31, 1998 were $14.1 million compared to $4.7
million at December 31, 1997. Non-accrual loans represent $11.1 million of the
total of non-performing loans, of which $9.6 million was acquired with the BLBNA
acquisition. Real estate non-accrual loans account for $6.9 million of the total
(of which $2.9 million was residential real estate), while commercial and
industrial non-accruals account for $3.9 million. With the exception of $3.3
million in three commercial loans that are unsecured, management believes
collateral is sufficient in the event of default. Troubled debt restructured
loans represent $3.0 million of non-performing loans at December 31, 1998
compared to $2.9 million at December 31, 1997. Approximately $1.9 million of
this total consists of one commercial real estate credit which has been granted
various concessions and had experienced past cashflow problems. This credit was
current at December 31, 1998. Management believes that collateral is sufficient
in those loans classified as troubled debt in event of default. As a result the
ratio of non-performing loans to total loans at the end of 1998 was 3.5%
compared to 1.6% at 1997 year end. The Registrant's APLL
<PAGE> 42
was 78.3% of total non-performing loans at December 31, 1998 compared to 83.3%
at year end 1997.
Potential problem loans are performing loans in which there is doubt that the
borrower will be able to comply with loan repayment terms. Management's decision
to place loans in this category does not necessarily mean that the Registrant
expects to take losses on such loans, but that management needs to be more
vigilant in its efforts to oversee the loan and recognize that a higher degree
of risk is associated with these nonperforming loans. At December 31, 1998,
potential problem loans amounted to a total of $1.0 million compared to a total
of $696,000 at year end 1997. $916,000 of the problem loans stem from two
commercial credits who are experiencing cashflow concerns. Various commercial
loans totaling $42,000 and consumer loans totaling $62,000 make up the remaining
totals. With the exceptions noted above, potential problem loans are not
concentrated in a particular industry but rather cover a diverse range of
businesses.
The placement of performing loans in the potential problem loan category
indicated management's willingness to more closely monitor the financial
condition of the borrower and collateral positions of the Registrant or will
strengthen the loans with additional collateral if significant losses from
credits are expected in this category.
Other real estate owned which represents property to which the Registrant has
acquired through foreclosure or in satisfaction of debt, consisted of two
properties totaling $566,000 at year-end 1998. This compared to no real estate
property at year-end 1997. Management actively seeks to ensure that properties
held are administered to minimize any risk of loss.
Net cost of operation of other real estate for 1998, 1997, and 1996 consists of
the following (in thousands of dollars):
<TABLE>
<CAPTION>
1998 1997 1996
<S> <C> <C> <C>
Loss on disposition of properties $15 $30 $ 102
and other costs
Gains on disposition of properties (290)
and expense recoveries
Net (gains) losses $15 $30 $(188)
</TABLE>
Investment Portfolio
The investment portfolio is intended to provide the Registrant with adequate
liquidity, flexibility in asset/liability management and, lastly, its earning
potential.
Investment securities are classified as held to maturity or available for sale.
The Registrant has determined at year end 1998 that all of
<PAGE> 43
its taxable issues, including U.S. Treasury, U.S. Agency securities and
municipal bond securities purchased in 1998 were to be classified as available
for sale. In addition, Bank had determined that its non-taxable local municipals
were classified as available for sale. In the case of the Baylake Bank's
non-taxable issues and municipal bond investments purchased prior to 1996, they
were determined to be held to maturity. This determination was made because the
Bank wanted to retain the municipal bond issues due to their higher after-tax
yields, and local non-taxable issues due to their lessened marketability. Held
to maturity securities are those securities the Registrant has both the intent
and ability to hold until maturity. Under this classification, securities are
stated at cost, adjusted for amortization of premiums and accretion of discounts
which are recognized as adjustments to interest income. Gains or losses on
disposition are based on the net proceeds and the adjusted carrying amount of
the securities sold, using the specific identification method. At December 31,
1998, securities held to maturity had an aggregate market value of approximately
$15.8 million compared with amortized cost of $15.5 million.
Investment securities classified as available for sale are those securities
which the Registrant has determined might be sold to manage interest rates or in
response to changes in interest rates or other economic factors. While the
Registrant has no current intention of selling those securities, they may not be
held to maturity. Investment securities available for sale at December 31, 1998
and 1997 are carried at market value. Adjustments up or down to market value at
December 31, 1998 and 1997 are recorded as a separate component of equity, net
of tax. Premium amortization and discount accretion are recognized as
adjustments to interest income. Realized gains or losses on disposition are
based on the net proceeds and the adjusted carrying amount of the securities
sold using the specific identification method. At December 31, 1998, securities
available for sale had a market and carrying value of $112.5 million. The
reserve for market adjustment of securities, net of tax, and reflected in the
stockholders' equity section stood at $1.8 million at December 31, 1998.
At December 31, 1998 and 1997, the Registrant's investment portfolio did not
contain, other than U.S. treasury and federal agencies, securities of any single
issuer that were payable from and secured by the same source of revenue of
taxing authority where the aggregate book value of such securities exceed 10% of
stockholders' equity.
Investment securities averaged $122.5 million in 1998 compared with $99.6
million in 1997. The average balance of securities increased primarily as a
result of the additional funding created from the leveraging strategy employed
by the Registrant in the latter part of 1997 and first half of 1998. In 1998,
taxable securities comprised approximately 63.6% of the total average
investments compared to 67.0% in 1997. Tax-exempt securities on average for 1998
accounted for 36.4% of the total average investments compared to 33.0% in 1997.
Deposits
<PAGE> 44
Average total deposits for 1998 were $386.5 million, an increase of 16.2% over
1997. BLBNA average deposits accounted for $22.9 million, or 6.9% of the
increase in 1998. This follows a 11.8% increase in 1997 over 1996.
Non-interest bearing demand deposits in 1998 averaged $46.6 million, (BLBNA
accounts for $809,000 or 2.0% of the growth), up 12.2% from $41.5 million
recorded in 1997. This $5.4 million increase is partially attributable to
improvement in the seasonal increases in these funds throughout the year along
with an emphasis of attracting new customer relationships and selling more
services to existing customers. December 31, 1998 non-interest bearing demand
deposits were $58.3 million compared with $44.2 million at year end 1997.
Interest bearing deposits generally consist of interest-bearing checking,
savings deposits, money market accounts, individual retirement accounts ("IRAs")
and certificates of deposit ("CDs"). In 1998 interest bearing deposits averaged
$339.9 million, an increase of 16.7% (BLBNA accounts for $22.0 million or 7.6%
of the growth). Within the category of interest bearing deposits, savings
deposits (including money market accounts) increased $21.2 million or 24.0%
(BLBNA accounts for $2.8 million or 3.1% of the growth). During the same period,
time deposits (including CDs and IRAs) grew an average of $18.4 million or 14.1%
(BLBNA accounts for $16.9 million or 13.0% of the growth). Average time deposits
over $100,000 increased by $6.3 million or 18.7% (BLBNA accounts for $2.4
million or 7.1% of the growth). Time deposits greater than $100,000 were priced
within the framework of Registrant's rate structure and did not materially
increase the average rates on deposit liabilities. Increased competition for
consumer deposits and customer awareness of interest rates continues to limit
the Registrant's core deposit growth in these types of deposit.
Emphasis will be placed on generating additional core deposits in 1999 through
competitive pricing of deposit products and through the branch delivery systems
that have already been established. The Registrant will also attempt to attract
and retain core deposit accounts through new product offerings and customer
service.
Short Term Borrowings
Short-term borrowings consist of federal funds purchased, securities under
agreements to repurchase, and borrowings from the Federal Home Loan Bank.
Average 1998 short-term borrowings were $60.8 million compared to $29.5 million
during 1997. The increase of $31.3 million or 106.2% occurred as a result of
higher than expected loan demand, increased investment balances, and the
Registrant's effort to more effectively leverage capital.
Average short-term borrowings increased $17.8 million or 150.2% in 1997 from
1996 as a result of capital leveraging opportunities and higher loan demand.
<PAGE> 45
Federal funds are purchased from money center banks and correspondent banks at
prevailing overnight interest rates. Securities are sold to bank customers under
repurchase agreements at prevailing market rates. Borrowings with the Federal
Home Loan Bank are secured by one to four family residential mortgages and
eligible investment securities allowing the Registrant to use it for additional
funding purposes. The balances in Federal Home Loan Bank loans showed the most
fluctuation as an additional $35.3 million in average balances were borrowed
during the course of 1998.
Long Term Debt
The largest component of long-term debt of $392,000 consists of a land contract
requiring annual payments of $53,000 plus calculated at prime + 1/4%. The land
contract is for debt used for the purchase of one of the properties in the Green
Bay region for branch location.
Liquidity
Liquidity refers to the ability of the Registrant, and its subsidiary Baylake
Banks to generate adequate amounts of cash to meet its needs for cash. The
Registrant and the Baylake Banks have different liquidity considerations.
The Baylake Banks meets their cash flow needs by having funding sources
available to them to satisfy the credit needs of customers as well as having
available funds to satisfy deposit withdrawal requests. Liquidity at the Baylake
Banks is derived from deposit growth, maturing loans, the maturity of the
investment portfolio, access to other funding sources, marketability of certain
of their assets and strong capital positions.
Maturing investments have been a primary source of liquidity at the Baylake
Banks. This changed in 1998, as the Registrant implemented a capital leveraging
strategy. As part of this strategy, $66.7 million in investments were purchased
in 1998. This resulted in net cash of $35.1 million used in investing activities
for 1998. At December 31, 1998, the carrying or book value of investment
securities maturing within one year amounted to $9.2 million or 7.2% of the
total investment securities portfolio. This compares to a 18.6% level for
investment securities with one year or less maturities as of December 31, 1997.
Within the investing activities of the cashflow statement, sales and maturities
of investment securities during 1998 totaled $31.6 million. At the end of 1998,
the investment portfolio contained $75.2 million of U.S. Treasury and federal
agency backed securities representing 58.7% of the total investment portfolio.
These securities tend to be highly marketable and had a market value above
amortized cost at year end 1998 amounting to $2.4 million.
Deposit growth is another source of liquidity for the Baylake Banks. As a
financing activity reflected in 1998 Consolidated Statements of
<PAGE> 46
Cash Flows, deposits provided $56.1 million in cash inflow during 1998. The
Registrant's overall average deposit base grew $149.3 million or 43.2% during
1998 (BLBNA provided $94.0 million or 27.25 of this growth). Deposit growth,
especially core deposits, is the most stable source of liquidity for the Bank.
Federal funds sold averaged $6.7 million (BLBNA provided $2.0 million) in 1998
compared to $17,000 in 1997. Funds provided from the maturity of these assets
typically are used as funding sources for seasonal loan growth, which typically
have higher yields. Short-term and liquid by nature, federal funds sold
generally provide a yield lower than other earning assets. The Bank has a
strategy of maintaining a sufficient level of liquidity to accommodate
fluctuations in funding sources and will at times take advantage of specific
opportunities to temporarily invest excess funds at narrower than normal rate
spreads while still generating additional interest revenue. At December 31,
1998, the banks had $26.1 million in federal funds sold.
The scheduled maturity of loans can provide a source of additional liquidity.
The banks have $108.4 million of loans maturing within one year, or 26.8% of
total loans.
Within the classification of short-term borrowings at year-end 1998, federal
funds purchased and securities sold under agreements to repurchase totaled $3.8
million compared with $20.6 million at the end of 1997. Federal funds are
purchased from various upstream correspondent banks while securities sold under
agreements to repurchase are obtained from a base of business customers.
Borrowings from Federal Home Loan Bank are another source of funds. They totaled
$53.0 million at year-end 1998.
The Baylake Banks' liquidity resources were sufficient in 1998 to fund the
growth in loans and investments, increase the volume of interest earning assets
and meet other cash needs when necessary.
Management expects that deposit growth will continue to be the primary funding
source of the Bank's liquidity on a long-term basis, along with a stable
earnings base, the resulting cash generated by operating activities, and a
strong capital position. Although federal funds purchased and borrowings from
the Federal Home Loan Bank provided funds in 1998, management expects deposit
growth to be a reliable funding source in the future as a result of branch
expansion efforts and marketing efforts to attract and retain core deposits.
Shorter-term liquidity needs will mainly be derived from growth in short-term
borrowings, maturing federal funds sold and portfolio investments, loan
maturities and access to other funding sources.
The Registrant's (rather than of Baylake banks') primary sources of funds are
dividends and interest, and proceeds from the issuance of equity. The Registrant
manages its liquidity position in order to provide funds necessary to pay
dividends to its shareholders. Dividends received from Bank totaled $10.3
million in 1998 and will continue to be the Registrant's main source of
long-term liquidity.
<PAGE> 47
The dividends from the Bank were sufficient to pay cash dividends to the
Registrant's shareholders of $3.1 million in 1998.
Management believes that, in the current economic environment, the Registrant's
and the Baylake Banks' liquidity position are adequate. To management's
knowledge, there are no known trends nor any known demands, commitments, events
or uncertainties that will result or are reasonably likely to result in a
material increase or decrease in the Baylake Banks' or the Registrant's
liquidity.
Interest Rate Sensitivity
Interest rate risk is the exposure to a bank's earnings and capital arising from
changes in future interest rates. All banks assume interest rate risk as an
integral part of normal banking operations. Management of interest rate risk
includes four components: policy statements, risk limits, risk measurement and
reporting procedures. A primary objective of asset/liability management is the
control and monitoring of interest rate risk. The Registrant's banks use an
Asset/Liability Committee ("ALCO") to manage risks associated with changing
interest rates, changing asset and liability mixes, and their impact on
earnings. The sensitivity of net interest income to market rate changes is
evaluated monthly by the ALCO committee.
Interest rate sensitivity analysis can be performed in several different ways.
The traditional method of measuring interest sensitivity is called "gap"
analysis. The mismatch between asset and liability repricing characteristics in
specific time intervals is referred to as "interest rate sensitivity gap." If
more liabilities than assets reprice in a given time interval a liability gap
position exists. In general, liability sensitive gap positions in a declining
interest rate environment increase net interest income. Alternatively asset
sensitive positions, where assets reprice more quickly than liabilities,
negatively impact the net interest income in a declining rate environment. In
the event of an increasing rate environment, opposite results would occur in
that a liability sensitivity gap position would decrease net interest income and
an asset sensitivity gap position would increase net interest income. The
sensitivity of net interest income to changing interest rates can be reduced by
matching the repricing characteristics of assets and liabilities.
The following table entitled "Asset and Liability Maturity Repricing Schedule"
indicates that the Registrant is liability sensitive, although management
believes that a range of plus or minus 15% within a one year pricing schedule is
acceptable. The analysis considers money market index accounts and 40% of NOW
accounts to be rate sensitive within three months. Regular savings, money market
deposit accounts and 60% of NOW accounts are considered to be rate sensitive
within one to five years. While these accounts are contractually short-term in
nature, it is the Registrant's experience that repricing occurs over a longer
period of time. The Registrant views its savings and NOW accounts to be core
deposits and relatively non-price sensitive, as it believes it could make
repricing adjustments for these types of
<PAGE> 48
accounts in small increments without a material decrease in balances. All other
earning categories include loans and investments as well as other paying
liability categories such as time deposits are scheduled according to their
contractual maturities.
For the time frame within three months as of December 31, 1998, rate sensitive
liabilities exceeded rate sensitive assets by $10.3 million, or a ratio of rate
sensitive assets to rate sensitive liabilities of 94.4%. For the next time frame
of four to six months, rate sensitive liabilities exceeded rate sensitive assets
by $31.4 million, or a ratio of rate sensitive assets to rate sensitive
liabilities of 54.7%. For all assets and liabilities priced within a one year
time frame, the cumulative ratio of rate sensitive assets to rate sensitive
liabilities was 72.0%, which is outside the range of plus or minus 15% deemed
acceptable by management. When the Registrant requires funds beyond its ability
to generate them internally, it can borrow from a number of sources, including
the Federal Home Loan Bank of Chicago and other correspondent banks.
Management continually reviews its interest risk position through the committee
processes. Managements' philosophy is to maintain relatively matched rate
sensitive asset and liability position within the range described above, in
order to provide earnings stability in the event of significant interest rate
changes.
ASSET AND LIABILITY MATURITY REPRICING SCHEDULE
<TABLE>
<CAPTION>
Seven One
Within Four to to year to Over
three six twelve five five
months months months years years Total
<S> <C> <C> <C> <C> <C> <C>
Earning assets
Investment securities 4,922 1,739 2,907 57,495 63,993 130,696
Federal Funds Sold 26,106 26,106
Loans and leases:
Variable rate 109,611 2,286 37,480 149,377
Fixed rate 32,327 34,341 29,100 143,449 10,746 249,963
------- ------- ------- ------- ------ -------
Total loans and leases 141,938 36,627 29,100 180,929 10,746 399,340
------- ------- ------- ------- ------ -------
Total earning assets 172,966 38,006 32,007 238,424 74,739 556,142
------- ------- ------- ------- ------ -------
Interest bearing
liabilities
NOW accounts 21,990 32,984 54,974
Savings deposits 69,181 52,380 10,514 132,075
Time deposits 58,236 59,437 71,791 60,460 249,924
Borrowed funds 33,886 10,000 13,000 264 57,150
------- ------- ------- ------- -------
Total interest
bearing liabilities 183,293 69,437 84,791 146,088 10,514 494,123
------- ------- ------- ------- ------ -------
Interest sensitivity
(within periods) (10,327) (31,431) (52,784) 92,336 64,225 62,019
Cumulative interest
sensitivity GAP (10,327) (41,758) (94,542) (2,206) 62,019
Ratio of cumulative
interest rate
sensitivity GAP to
rate sensitive assets (1.86)% (7.51)% (17.00)% (.40)% 11.15%
Ratio of rate
sensitive asset to
rate sensitive 94.37% 54.73% 37.75% 163.21%
</TABLE>
<PAGE> 49
<TABLE>
<S> <C> <C> <C> <C> <C> <C>
liabilities
Cumulative ratio of 94.37% 83.48% 71.99% 99.54% 112.55%
rate sensitive assets
to rate sensitive
liabilities
</TABLE>
Capital Resources
Stockholders' equity at December 31, 1998 increased $3.4 million or 8.2% to
$45.3 million, compared with $41.9 million at 1997 year end. This increase
includes a positive change of $490,000 to capital in 1998 due to the impact of
STATEMENT OF FINANCIAL ACCOUNTING STANDARDS NO. 115. Without the effect of this
net change, stockholders' equity would have increased $2.9 million or 7.2% for
1998 over 1997, which compares to an increase of $1.9 million or 5.0% for 1997
over 1996. With the SFAS 115 adjustment included in 1997 capital, capital
increased $2.6 million or 6.7% compared to 1996 year end.
The Registrant's capital base (before SFAS 115 change) increased primarily due
to the retention of earnings. Although not used for a portion of 1998, the
Registrant's dividend reinvestment plan typically provides capital improvement,
as the holders of approximately 28% of Registrant's Common Stock participate in
the plan. The dividend reinvestment plan although suspended during early 1998
was reinstated for the March 1998 dividend for those shareholders who elected to
participate.
Cash dividends paid in 1998 were $.94 per share compared with $.81 in 1997,
including a special dividend of $.17 paid in December 1998 and 1997. The
Registrant provided a 20.3% increase in normal dividends per share in 1998 over
1997 as a result of above average earnings and strong capital position.
In 1997, the Registrant's Board of Directors authorized management to repurchase
up to 7,000 shares of the Registrant's common stock each calendar quarter in the
market. The shares repurchased would be used to fill its needs for the dividend
reinvestment program, any future benefit plans, and the Registrant's stock
purchase plan. Shares repurchased are held as treasury stock and, accordingly,
are accounted for as a reduction of stockholders' equity. The Registrant
purchased 10,500 shares (adjusted for stock dividend) of its common shares in
1998.
<PAGE> 50
The adequacy of the Registrant's capital is regularly reviewed to ensure that
sufficient capital is available for current and future needs and is in
compliance with regulatory guidelines. The assessment of overall capital
adequacy depends upon a variety of factors, including asset quality, liquidity,
stability of earnings, changing competitive forces, economic conditions in
markets served and strength of management. Management is confident that because
of current capital levels and projected earnings levels, capital levels are more
than adequate to meet the ongoing and future concerns of the Registrant.
The Federal Reserve Board has established capital adequacy rules which take into
account risk attributable to balance sheet assets and off-balance sheet
activities. All banks and bank holding companies must meet a minimum total
risk-based capital ratio of 8%. Of the 8% required, at least half must be
comprised of core capital elements defined as Tier 1 capital. The federal
banking agencies also have adopted leverage capital guidelines which banking
organizations must meet. Under these guidelines, the most highly rated banking
organizations must meet a leverage ratio of at least 3% Tier 1 capital to
assets, while lower rated banking organizations must maintain a ratio of at
least 4% to 5%. Failure to meet minimum capital requirements can initiate
certain mandatory -and possible additional discretionary- actions by regulators
that, if undertaken, could have a direct material effect on the consolidated
financial statements.
At December 31, 1998 and 1997, the Registrant was categorized as adequately and
well capitalized, respectively, under the regulatory framework for prompt
corrective action. There are no conditions or events since that notification
that management believes have changed the Registrant's category.
To be well capitalized under the regulatory framework, the Tier 1 capital ratio
must meet or exceed 6%, the total capital ratio must meet or exceed 10% and the
leverage ratio must meet or exceed 5%.
The following table presents the Registrant's capital ratios as of December 31
for each of the following two years.
Registrant's Ratios:
Risk-Based Capital Ratios
<TABLE>
<CAPTION>
December 31, Ratio December 31, Ratio
1998 (000's) 1997 (000's)
<S> <C> <C> <C> <C>
Average stockholders equity to average $ 43,372 8.72% $ 40,095 9.82%
assets
Stockholders equity to total assets $ 45,272 7.45% $ 41,855 9.30%
Total Tier 1 Capital $ 35,100 7.97% $ 36,102 11.31%
Total Tier 2 Capital $ 40,603 9.22% $ 39,983 12.52%
Risk-adjusted Assets (including $440,241 $319,260
off-balance sheet
</TABLE>
<PAGE> 51
<TABLE>
<S> <C> <C> <C> <C>
items)
Tier 1 Leverage Ratio $ 35,100 6.02% $ 36,102 8.86%
Regulatory Requirements:
Tier 1 capital to risk-weighted assets 4.00% 4.00%
Total Tier 1 and Tier 2 capital to 8.00% 8.00%
risk-weighted assets
Tier 1 leverage ratio 4.00% 4.00%
</TABLE>
Management believes that a strong capital position is necessary to take
advantages of opportunities for profitable expansion of product and market
share, and to provide depositor and investor confidence. The Registrant's
capital level is strong, but also must be maintained at an appropriate level to
provide the opportunity for a superior return on the capital employed.
Management actively reviews capital strategies for the Registrant to ensure that
capital levels are appropriate based on the perceived business risks, further
growth opportunities, industry standards, and regulatory requirements.
Year 2000
The year 2000 issue relates to systems designed to use two digits rather than
four to define the particular year. The banks computer equipment, software and
devices with imbedded technology that are time sensitive may recognize date
using "00" as the year 1900 rather than the Year 2000 ("Y2K"). This could result
in a system failure or miscalculations causing disruptions of operations,
including, among other things, a temporary inability to process transactions
such as the accrual of interest, erroneous billings, or other normal business
activities.
Year 2000 issues have been addressed relating to banks' "mission critical" and
other related systems, both internal and external, affected by the Y2K problem
of identifying the two digit definition for the year 2000.
The Registrant commenced significant initiatives in the fall of 1997 to correct
actual and potential Y2K problems to ensure that its computer based equipment
and interactive systems will function properly with respect to recognition and
processing of dates commencing as of January 1, 2000 and subsequent dates
thereafter. For disclosure purposes, the phrase "computer equipment and
software" primarily includes: systems that are commonly thought of as
information technology ("IT") systems, including primary data processing,
information storage and retrieval, general accounting, calculating, as well as
financial debit and credit transaction activity. It also includes secondary
systems and equipment affected by computer based activity within the control of
the banks such as direct communications networks (telephone and telefax), remote
communications (security and sensor devices), and physical support equipment
(HVAC, electrical, and general utilities).
<PAGE> 52
Pursuant to its planning, assessment, and remediation initiatives, the
Registrant has established a pro-active plan for Y2K preparation and is
presently compliant with respect to established governmental and commercial
standards for Year 2000 readiness. The Registrant has completed Y2K
identification and assessment goals, and implemented substantial evaluation,
testing, and remediation activities as of December 31, 1998 which were expressly
directed toward accomplishment of Y2K readiness within established government
and commercial standards.
During the last quarter of 1998, the Registrant has completed the following Year
2000 related activities. The Registrant has met all industry and regulatory
requirements concerning the identification of Y2K sensitive systems and
equipment, as well as associated hardware, software, and related physical,
mechanical, and interactive devices sensitive to Y2K performance criteria. The
Registrant has utilized both internal and external resources in confirming Y2K
standards or, in the alternative, in verifying remediation requirements to avoid
controllable deterioration of performance as a result of external Y2K impact. As
a result of efforts, the Registrant believes that, as of March 31, 1999, it will
have completed 90% of all required regulatory initiatives with respect to Year
2000 readiness. The completed and remaining efforts determined by regulatory
guidelines affecting Y2K readiness can be identified as follows:
<TABLE>
<CAPTION>
Year 2000 Initiative Complete Performance Date % completed
<S> <C> <C>
Initial IT system identification and assessment 6/30/98 100%
Remediation and testing regarding Central Processing 12/21/98 100%
System issues
Remediation and testing regarding Division System 12/31/98 100%
issues
Remediation and testing regarding Branch Delivery 6/30/99 100%
systems
Upgrades to Y2K ready telephone/communications systems 6/30/99 90%
Identification, assessment, remediation and testing 6/30/98 100%
regarding desktop and individual system issues
Identification and assessment regarding Non-IT System 1/31/99 100%
issues
Remediation and testing regarding Non-IT System issues 6/30/99 90%
</TABLE>
In addition to internal assessment, testing and remediation efforts, the
Registrant has completed a pro-active customer information program addressing
two disparate, but significant Year 2000 concerns about Y2K effects, and
potentially adverse impact from Y2K customer impact. The Registrant has
completed detailed analysis of potential adverse Y2K effects and reviewed both
customer awareness and potential detrimental effects with respect to
Registrant's performance. The Registrant has determined that less 2% of
outstanding loans are likely to adversely affect Baylake Banks' financial
performance. As of January 1, 1999,
<PAGE> 53
all loans which potentially may be adversely affected have been identified and
factored into existing loan loss reserves to account for potential addition
risks associated with Y2K failures. The Registrant has also received and
responded to customer inquiries and requests for information about Year 2000
preparations and has responded with detailed information regarding its
preparations and Y2K compliance to avoid any negative customer response
concerning adverse Y2K impact.
Part of the Registrant's Year 2000 preparations also includes contacts with its
principal vendors and service providers, including the federal banking
regulatory system and the Federal Reserve System. To date, the Registrant is not
aware of any identified concerns of any bank customer with respect to their
ability to meet Y2K compliance requirements.
The Registrant estimates that the cost of Year 2000 identification, assessment,
remediation and testing efforts, as well as currently anticipated costs to be
incurred by the Registrant will not exceed $200,000. Such amount represents
approximately 10% of the Registrant's total actual and anticipated IT
expenditures for 1998 through 1999. As of March 1, 1999, the Registrant had
incurred costs of approximately $100,000 related to Year 2000 issues. These
amounts relate to analysis, repair, or replacement of existing hardware or
software, upgrades of existing software, or evaluation of information received
from significant customers, vendors, or other service providers.
The Registrant has completed a formal contingency plan recognizing the most
likely worst case scenarios. The Plan sets forth specific responsibility and
accountability affecting identification of Y2K related failures and processes
for responding. With respect to mission critical systems, including core
information and data processing activities, the Plan establishes information
backup and retrieval procedures and identifies alternative delivery sources,
including existing disaster recovery preparations, to continue limited business
activities. With respect to mission non-critical systems, including non-critical
technical systems, communications, and support equipment, the Plan allows for
minor business interruption regarding inconvenience or time delays in continuing
Registrant's activities. Finally, the Plan addresses in detail plans for
resumption of business activity upon the occurrence of any interruption.
Accounting Developments
Effective December 31, 1997, the Registrant adopted SFAS No. 128, "Earnings per
Share". The statement specifies the computation, presentation, and disclosure
requirements for earnings per share for entities with publicly held common
stock. All reported prior period earnings per share information has been
restated with SFAS No. 128.
In June 1997, the Financial Accounting Standards Board ("FASB") issued SFAS No.
130, "Reporting Comprehensive Income." This statement establishes standards for
reporting and display of comprehensive income in a full set of general purpose
financial statements. The Registrant adopted this statement as of January 1,
1998.
<PAGE> 54
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related information." This statement requires certain related
disclosures about products and services, geographic areas, and major customers.
The segment and other information disclosures are required for the year ended
December 31, 1998.
Item 7 A. Quantitative and Qualitative Disclosure about Market Risk.
The Registrant's financial performance is impacted by interest rate risk and
credit risk, among other factors. Registrant does not use derivatives to
mitigate its interest rate risk, or credit risk. Registrant instead puts
reliance on loan review and the provision of an adequate loan loss reserve as
explained in "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
Interest rate risk is the exposure to a bank's earnings and capital arising from
changes in future interest rates. This risk is evaluated quarterly the
Registrant's Asset/Liability Committee ("ALCO"). Their responsibility involves
the management of risks associated with changing interest rates, changing mix
involving assets and liabilities, and the subsequent impact on earnings. The
ALCO committee operates under the advisory policy guidelines on interest rate
sensitivity approved by the Board of Directors. The sensitivity of net interest
income to market rate changes is evaluated regularly by the Registrant to
determine the effectiveness of interest rate risk management.
In order to limit exposure to interest rate risk, the Registrant has developed
strategies to manage its liquidity, shorten the effective maturities of certain
interest-earning assets, and increase the effective maturities of certain
interest-bearing liabilities. Registrant has focused on the establishment of
adjustable rate mortgages ("ARM's") in its residential lending product line; the
concerted efforts made to attract and sell core deposit products through the use
of Registrant's branching and delivery systems and marketing efforts; and the
use of other available sources of funding to provide longer term funding
possibilities.
Interest rate sensitivity analysis is used to measure the Registrant's interest
rate risk by computing changes in the Registrant's pretax income calculated
using flat rates over a 12 month period. The resulting income is then compared
to a future earnings simulation based on a +/- 100 basis point parallel rate
shock. The difference in income calculated represents the Registrant's earnings
sensitivity to a +/- 100 basis point parallel rate shock. The table below
illustrates these amounts at December 31, 1998, which are within the limits
established by the Registrant:
<TABLE>
<CAPTION>
HYPOTHETICAL CHANGE IN IMPACT TO 1999
INTEREST RATES PRETAX NET INCOME
<S> <C>
</TABLE>
<PAGE> 55
<TABLE>
<C> <C>
100 basis point shock up (5.1%)
100 basis point shock down 2.8%
</TABLE>
These results are based solely on immediate and sustained parallel changes in
market rates and do not reflect the earnings sensitivity that may arise from
such factors as the change in spread between key market rates and the shape of
the yield curve. The above results also are considered to be conservative
estimates due to the fact that no management action is factored into the
analysis to deal with potential income variances.
Another component of interest rate risk, fair value at risk, is determined by
the Registrant through the technique of simulating the fair value of equity in
changing rate environments. This involves determining the present value of all
contractual asset and liability cash flows based on market rates of interest
provided by independent broker quotations and other public sources. The net
result of all balance sheet items determines the fair value of equity. The fair
value of equity resulting from the current flat rate scenario is compared to the
fair value of equity using discount rates +/- 100 basis points from flat rates
to determine the fair value of equity at risk. Currently, fair value of equity
at risk is less than 6.0% of the market value of the Registrant as of December
31, 1998.
Part II - Other Information
Item 8. Other Information
Bank has begun construction of a full-service branch facility in the city of
Waupaca with costs of construction estimated to be $716,000. Completion of this
project is expected in the early third quarter of 1999. Bank purchased land in
the city of Luxemburg located in Kewaunee County, Wisconsin in January 1999. No
plans have been made at present on this purchase. BLBNA has purchased a facility
in Berlin for $200,000 in February 1999. This facility was previously occupied
and leased by BLBNA.
Registrant has committed to repurchase all of the preferred stock of BLBNA at
par value of $3,160,000 on March 31, 1999 with an interest rate of 7% to be paid
in addition on the shares held during the first quarter 1999. Interest expense
will amount to $55,300.
On March 15, 1999, BLBNA was dissolved and merged into Bank.
Registrant filed a registration statement for purposes of creating the "Baylake
Corp. Stock Purchase Plan". This registration became effective on December 17,
1998 and will be used by eligible employees and directors to purchase shares of
the Registrant, thereby creating additional liquidity in the Common Stock of the
Registrant.
Item 9. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
<PAGE> 56
The Registrant's Consolidated Financial Statements and notes to related
statements thereto are set forth on the following pages.
Item 10. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
<PAGE> 57
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Shareholders and Board of Directors
Baylake Corp.
Sturgeon Bay, Wisconsin
We have audited the accompanying consolidated balance sheets of Baylake
Corp. and subsidiaries as of December 31, 1998 and 1997, and the related
consolidated statements of income, changes in stockholder equity, and cash flows
for each of the three years in the period ended December 31, 1998. These
financial statements are the responsibility of the company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present
fairly the consolidated financial position of Baylake Corp. and subsidiaries at
December 31, 1998 and 1997, and the results of its operations and cash flows for
each of the three years in the period ended December 31, 1998, in conformity
with generally accepted accounting principles.
SMITH & GESTELAND, LLP
Madison, Wisconsin
January 26, 1999 SMITH & GESTELAND, LLP
<PAGE> 58
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
CONSOLIDATED BALANCE SHEETS
December 31
<TABLE>
<CAPTION>
1998 1997
-------------- -------------
(Thousands of dollars)
ASSETS
<S> <C> <C>
Cash and due from banks $ 17,560 $ 15,065
Federal funds sold 26,106
Investment securities available for sale (at market) 112,536 102,962
Investment securities held to maturity (market value
$ 15,765 and $12,382) 15,510 11,937
Loans held for sale 1,273 437
Loans 407,648 293,001
Less: Allowance for loan losses 11,035 3,881
------------- ------------
Loans, net of allowance for loan losses 396,613 289,120
Bank premises and equipment 15,627 13,493
Federal Home Loan Bank stock (at cost) 2,650 4,633
Accrued interest receivable 3,913 3,267
Income taxes receivable 1,459 191
Deferred income taxes 520 567
Goodwill 8,326 4,412
Other assets 5,345 3,978
============= ============
Total assets $ 607,438 $ 450,062
============= ============
</TABLE>
The accompanying notes are an integral part of the financial statements.
2
<PAGE> 59
<TABLE>
<CAPTION>
1998 1997
--------- ---------
(Thousands of dollars)
LIABILITIES
Domestic deposits
<S> <C> <C>
Noninterest bearing $ 58,311 $ 44,216
Interest bearing
NOW 54,974 40,721
Savings 132,075 96,382
Time, $100,000 and over 47,717 32,333
Other time 202,207 132,324
--------- ---------
Total interest bearing 436,973 301,760
--------- ---------
Total deposits 495,284 345,976
Short-term borrowings
Federal funds purchased, repurchase agreements,
and Federal Home Loan Bank loans 56,758 56,649
Long-term debt 392 383
Accrued expenses and other liabilities 5,911 4,588
Dividends payable 661 611
--------- ---------
Total liabilities 559,006 408,207
--------- ---------
Preferred stockholder equity in a subsidiary company 3,160
--------- ---------
STOCKHOLDER EQUITY
Common stock $5 par value - authorized 10,000,000 shares; issued
3,694,546 shares in 1998; 2,460,481 shares in 1997; outstanding -
3,671,387 shares in 1998; 2,444,537 shares in 1997 18,473 12,302
Additional paid-in capital 6,229 6,038
Retained earnings 19,394 22,618
Treasury stock (625) (414)
Accumulated other comprehensive income
Net unrealized gain on securities available for sale, net of
tax of $975 in 1998 and $702 in 1997 1,801 1,311
--------- ---------
Total stockholder equity 45,272 41,855
--------- ---------
Total liabilities and stockholder equity $ 607,438 $ 450,062
========= =========
</TABLE>
3
<PAGE> 60
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
CONSOLIDATED STATEMENTS OF INCOME
For the Years Ended December 31
<TABLE>
<CAPTION>
1998 1997 1996
---------- ---------- ----------
(Amounts in thousands
except per share data)
Interest income
<S> <C> <C> <C>
Interest and fees on loans $ 30,161 $ 25,496 $ 21,367
Interest on investment securities
Taxable 5,204 4,258 3,950
Exempt from federal income taxes 2,340 1,818 1,550
Other interest income 356 5 59
---------- ---------- ----------
Total interest income 38,061 31,577 26,926
---------- ---------- ----------
Interest expense
Interest on deposits 15,755 12,941 11,370
Interest on short-term borrowings 3,361 1,689 639
Interest on long-term debt 32 32 37
---------- ---------- ----------
Total interest expense 19,148 14,662 12,046
---------- ---------- ----------
Net interest income 18,913 16,915 14,880
Provision for loan losses 1,135 1,115 400
---------- ---------- ----------
Net interest income after provision for loan losses 17,778 15,800 14,480
---------- ---------- ----------
Other income
Fees from fiduciary activities 451 491 611
Fees from loan servicing 846 731 674
Fees for other services to customers 1,562 1,343 1,237
Gains from sales of loans 893 678 212
Securities gains, net 292 38
Other income 625 533 679
---------- ---------- ----------
Total other income 4,377 4,068 3,451
---------- ---------- ----------
Other expenses
Salaries and employee benefits 7,772 7,003 6,270
Occupancy expense 1,169 1,168 870
Equipment expense 1,023 867 862
Data processing and courier 699 642 548
Operation of other real estate 15 30 (188)
Other operating expenses 3,213 2,861 2,927
---------- ---------- ----------
Total other expenses 13,891 12,571 11,289
---------- ---------- ----------
Income before income taxes 8,264 7,297 6,642
Income tax expense 2,247 2,027 1,939
========== ========== ==========
NET INCOME $ 6,017 $ 5,270 $ 4,703
========== ========== ==========
Basic earnings per common share $1.64 $1.43 $1.28
Diluted earnings per common share $1.61 $1.43 $1.27
</TABLE>
The accompanying notes are an integral part of the financial statements.
4
<PAGE> 61
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER EQUITY
For the Years Ended December 31
<TABLE>
<CAPTION>
Accumulated
Common Stock Additional Other
------------------------ Paid-in Comprehensive Retained Treasury Total
Shares Amount Capital Income Earnings Stock Equity
----------- ---------- ----------- ---------------- ---------- --------- ----------
(Amounts in thousands except for shares)
1996
----
<S> <C> <C> <C> <C> <C> <C> <C>
Balance - January 1, 1996 2,454,881 $ 12,274 $ 5,954 $ 176 $ 17,920 $ (49) $ 36,275
----------
Net income for the year 4,703 4,703
Net changes in unrealized gain on
securities available for
sale, net of $232 deferred taxes 428 428
----------
Comprehensive income 5,131
----------
Stock options exercised 5,600 28 50 78
Tax benefit from exercise of stock
options 34 34
Cash dividends declared (2,284) (2,284)
---------- --------- -------- --------- --------- ------ ----------
Balance - December 31, 1996 2,460,481 12,302 6,038 604 20,339 (49) 39,234
1997
----
Net income for the year 5,270 5,270
Net changes in unrealized gain on
securities available for sale,
net of $393 deferred taxes 707 707
----------
Comprehensive income 5,977
----------
Treasury stock acquired (365) (365)
Cash dividends declared (2,991) (2,991)
---------- --------- -------- --------- --------- ------ ----------
Balance - December 31, 1997 2,460,481 12,302 6,038 1,311 22,618 (414) 41,855
1998
----
Net income for the year 6,017 6,017
Net changes in unrealized gain on
securities available for sale, net
of $273 deferred taxes 490 490
----------
Comprehensive income 6,507
----------
Stock options exercised 13,500 68 76 144
Treasury stock acquired (211) (211)
Stock dividend - 50% 1,220,565 6,103 (6,103)
Tax benefit from exercise of
stock options 115 115
Cash dividends declared (3,138) (3,138)
---------- --------- -------- --------- --------- ------ ----------
3,694,546 $ 18,473 $ 6,229 $ 1,801 $ 19,394 $ (625) $ 45,272
========= ======== ========= ========= ====== ==========
Less treasury stock 23,159
==========
3,671,387
==========
</TABLE>
The accompanying notes are an integral part of the financial statements.
5
<PAGE> 62
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31
<TABLE>
<CAPTION>
1998 1997 1996
----------- ----------- -----------
(Thousands of dollars)
CASH FLOWS FROM OPERATING ACTIVITIES:
Interest received from:
<S> <C> <C> <C>
Loans $ 29,901 $ 25,200 $ 21,253
Investments 7,777 5,866 5,456
Fees and service charges 4,004 3,424 3,323
Interest paid to depositors (16,173) (12,616) (11,473)
Interest paid to others (3,336) (1,558) (676)
Cash paid to suppliers and employees (12,077) (11,461) (10,278)
Income taxes paid (2,595) (2,254) (2,013)
----------- ----------- -----------
Net cash provided by operating activities 7,501 6,601 5,592
----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from sale of investments 8,928 4,214
Principal payments received on investments 31,636 22,460 19,155
Purchase of investments (66,749) (50,299) (15,158)
Proceeds from sale of other real estate owned 195 93 954
Loans made to customers in excess of principal collected (33,120) (32,146) (39,237)
Capital expenditures (1,941) (2,673) (3,953)
Purchase of annuity (630) (114)
Cash paid for acquisition net of cash and federal
funds sold acquired (890)
Cash and federal funds received in acquisition 12,459
----------- ----------- -----------
Net cash used in investing activities (58,180) (53,637) (35,029)
----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase in demand deposits, NOW accounts,
and savings accounts 44,495 2,213 9,647
Net increase in short-term borrowings 184 32,810 22,313
Net increase in time deposits 11,604 16,599 3,676
Payments on long-term debt (67) (39) (53)
Proceeds from issuance of stock 259 78
Stock reacquired (211) (365)
Dividends paid (3,090) (2,970) (2,258)
----------- ----------- -----------
Net cash provided by financing activities 53,174 48,248 33,403
----------- ----------- -----------
Net increase in cash and due from banks 2,495 1,212 3,966
Cash and due from banks, beginning 15,065 13,853 9,887
=========== =========== ===========
Cash and due from banks, ending $ 17,560 $ 15,065 $ 13,853
=========== =========== ===========
</TABLE>
The accompanying notes are an integral part of the financial statements.
6
<PAGE> 63
<TABLE>
<CAPTION>
1998 1997 1996
----------- ----------- -----------
(Thousands of dollars)
Reconciliation of net income to net cash provided by operating activities:
<S> <C> <C> <C>
Net income $ 6,017 $ 5,270 $ 4,703
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 1,417 1,293 957
Provision for losses on loans and real
estate owned 1,135 1,115 400
Amortization of premium on investments 176 190 283
Accretion of discount on investments (414) (281) (242)
Cash surrender value increase (82) (87) (63)
Gain on sale of investment securities (292) (38)
Gain on sale of loans and other assets (897) (618) (460)
Proceeds from sale of loans held for sale 25,684 15,808 8,023
Origination of loans held for sale (24,791) (15,130) (7,811)
Equity in income of service center (66) (54) (28)
Deferred compensation (6) 24 77
Deferred income taxes (68) (255) (95)
Changes in assets and liabilities:
Interest receivable (106) (384) (175)
Prepaids and other assets 26 (450) 133
Unearned income (38) (35) (82)
Interest payable (361) 487 (103)
Taxes receivable (280) 28 21
Other liabilities 155 (28) 92
----------- ----------- -----------
Net cash provided by operating activities $ 7,501 $ 6,601 $ 5,592
=========== =========== ===========
SCHEDULE OF NONCASH INVESTING AND
FINANCING ACTIVITIES:
Loans issued to facilitate the sale of assets $ $ 530 $
Acquisition of property in lieu of foreclosure 126 786
Dividends reinvested in common stock 518 815
Net liabilities and preferred stock assumed in
acquisition, excluding cash and federal funds
received 16,771
</TABLE>
7
<PAGE> 64
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - INFORMATION ABOUT THE COMPANY AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES
The consolidated financial statements of Baylake Corp. (the
company) include the accounts of the company, its wholly-owned
subsidiaries, Baylake Bank, Baylake Bank, N.A., and Kewaunee County
Banc-Shares, Inc., and their wholly-owned subsidiaries; Bank of
Sturgeon Bay Building Corporation, Cornerstone Financial, Inc.,
Baylake Investments, Inc., Baylake Insurance Agency, Inc., Karsten
Resources, Inc., and Lufter Insurance Agency, Inc. All significant
intercompany items and transactions have been eliminated.
Baylake Bank owns a 49% interest in United Financial Services,
Inc., (UFS) a data processing service. The investment in this
entity is carried under the equity method of accounting and the pro
rata share of its income (loss) is included in other revenue.
Amounts paid to UFS, for data processing services for the banks
were $627,000, $599,000, and $531,000, in 1998, 1997, and 1996,
respectively. At December 31, 1998 and 1997, Baylake Bank had loans
of $642,000 and $696,000, respectively, to UFS.
The company's subsidiary banks make commercial, mortgage, and
installment loans to customers substantially all of whom are
located in Door, Brown, Kewaunee, Waushara, Outagamie, Green Lake
and Waupaca Counties of Wisconsin. Although the banks have a
diversified portfolio, a substantial portion of their debtors'
ability to honor their contracts is dependent upon the economic
condition of the local industrial businesses, and commercial,
agricultural and tourism industries.
The preparation of financial statements in conformity with
generally accepted accounting principles requires management to
make estimates and assumptions that affect the amounts reported in
the financial statements and accompanying notes. Actual results
could differ from those estimates.
For comparability, certain 1997 and 1996 amounts have been
reclassified to conform with classification adopted in 1998.
Investment securities classified as held to maturity are those
securities which the bank has both the intent and the ability to
hold until maturity. Under this classification, securities are
stated at cost, adjusted for amortization of premiums and accretion
of discounts which are recognized as adjustments to interest
income. Gains or losses on disposition are based on the net
proceeds and the adjusted carrying amount of the securities sold,
using the specific identification method.
8
<PAGE> 65
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - INFORMATION ABOUT THE COMPANY AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (continued)
Investment securities classified as available for sale are those
securities which the bank has determined might be sold to manage
interest rate risk or in response to changes in interest rates or
other economic factors. While the company has no current intention
of selling these securities, they may not be held to maturity.
Investment securities available for sale are carried at market
value. Adjustments up or down to market value are recorded as a
separate component of equity, net of tax. Premium amortization and
discount accretion are recognized as adjustments to interest
income. Realized gains or losses on disposition are based on the
net proceeds and the adjusted carrying amount of the securities
sold, using the specific identification method.
Loans are stated at face value, net of deferred loan origination
fees (net of costs) and the allowance for loan losses. Interest on
loans is calculated using the simple interest method on daily
balances of the principal amount outstanding or an amortized
method.
Loan origination fees and related costs are deferred and the net
deferred revenue is amortized over the term of the loans using the
effective interest rate method.
The allowance for loan losses is maintained at a level believed
adequate by management to absorb potential losses in the loan
portfolio. Management's determination of the adequacy of the
allowance is based on an evaluation of the portfolio, past loan
loss experience, current domestic and international economic
conditions, volume, growth and composition of the loan portfolio,
and other relevant factors. The allowance is increased by
provisions for loan losses charged against income.
The accrual of interest income is discontinued when a loan becomes
90 days past due as to principal or interest. When interest
accruals are discontinued, interest credited to income is reversed.
If collectibility is in doubt, cash receipts on nonaccrual loans
are used to reduce principal rather than recorded as interest
income.
Depreciable assets are stated at cost less accumulated
depreciation. Depreciation is charged to operating expense over the
estimated useful lives of the assets, using the straight-line and
accelerated methods.
Mortgage servicing rights of $221,000, $191,000, and $143,000 were
capitalized and $77,000, $19,000, and $9,000 were amortized during
1998, 1997, and 1996, respectively. The amount of impairment was
not material.
9
<PAGE> 66
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - INFORMATION ABOUT THE COMPANY AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (continued)
Other real estate, which is included in other assets, comprises
properties acquired through a foreclosure proceeding or acceptance
of a deed in lieu of foreclosure. These properties are carried at
the lower of cost or fair value, minus estimated costs to sell,
based on appraised value at the date acquired. Loan losses arising
from the acquisition of such property are charged against the
allowance for loan losses. An allowance for losses on other real
estate is maintained for subsequent valuation adjustments on a
specific property basis.
The company applies APB Opinion No. 25, "Accounting for Stock
Issued to Employees" (APB No. 25) and related interpretations in
accounting for its stock-based compensation plans. In 1995, the
FASB issued Statement of Financial Accounting Standards ("SFAS")
No. 123, "Accounting for Stock-Based Compensation" which is
effective for fiscal years beginning after December 15, 1995. Under
SFAS No. 123, companies may elect to recognize stock-based
compensation expense based on the fair value of the awards or
continue to account for stock-based compensation under APB No. 25.
The company has elected to continue to apply the provisions of APB
No. 25 with the disclosure requirements of SFAS No. 123 in Note 19.
Income taxes are provided for the tax effects of transactions
reported in the financial statements and consist of taxes currently
due plus deferred taxes related primarily to differences between
the basis of the allowance for loan losses, deferred loan
origination fees, deferred compensation, mortgage loan servicing,
market value adjustments of securities, and depreciation for
financial and income tax reporting. The deferred tax assets and
liabilities represent the future tax return consequences of those
differences, which will either be taxable or deductible when the
assets and liabilities are recovered or settled.
The company and its subsidiaries file a consolidated federal income
tax return. The subsidiaries provide for income taxes on a
separate-return basis, and remit to the company amounts determined
to be currently payable, if any.
Earnings per share are based on the weighted average number of
shares outstanding during each year.
For purposes of the statement of cash flows, the company considers
cash and due from banks as cash and cash equivalents.
10
<PAGE> 67
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - INFORMATION ABOUT THE COMPANY AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (continued)
Effective January 1, 1997, the company adopted SFAS No. 125,
"Accounting for Transfers and Servicing of Financial Assets and
Extinguishment of Liabilities." SFAS No. 125 requires that after a
transfer of financial assets, an entity must recognize the
financial and servicing assets controlled and liabilities incurred
and derecognize financial assets and liabilities in which control
is surrendered or when debt is extinguished. The impact on the
company's consolidated financial position and results of operations
was not material.
In December 1996, the FASB issued SFAS No. 127, "Deferral of the
Effective Date of Certain Provisions of FASB Statement No. 125."
SFAS No. 127 deferred the effective date of SFAS No. 125 related to
transfers of financial assets occurring after December 31, 1997,
specifically, such transfers involving repurchase agreements,
securities lending, and similar transactions. The company will
adopt SFAS No. 127 as required. The adoption of SFAS No. 127 is not
expected to have a material impact on the company's consolidated
statement of position or results of operations.
Effective December 31, 1997, the company adopted SFAS No. 128,
"Earnings Per Share." The statement specifies the computation,
presentation, and disclosure requirements for earnings per share
for entities with publicly held common stock. All reported prior
period earnings per share information has been restated in
accordance with SFAS No. 128.
In June 1997, the FASB issued SFAS No. 130, "Reporting
Comprehensive Income." This statement establishes standards for
reporting and display of comprehensive income in a full set of
general-purpose financial statements. The company adopted this
statement as of January 1, 1998.
In June 1997, the FASB issued SFAS No. 131, "Disclosures about
Segments of an Enterprise and Related Information." This statement
requires certain disclosures about an entity's operating segments
in annual and interim financial reports. It also requires certain
related disclosures about products and services, geographic areas,
and major customers. The segment and other information disclosures
are required for the year ended December 31, 1998.
11
<PAGE> 68
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 2 - RESTRICTIONS ON CASH AND DUE FROM BANKS
The company's subsidiary banks are required to maintain average
reserve balances by the Federal Reserve Bank. The average amount of
those reserve balances for the year ended December 31, 1998, was
approximately $4,514,000.
NOTE 3 - INVESTMENT SECURITIES
The amortized cost and estimated market values of investments are
as follows:
<TABLE>
<CAPTION>
December 31, 1998
--------------------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
------------- ------------- ------------- ------------
(Thousands of dollars)
Available For Sale
------------------
<S> <C> <C> <C>
U.S. Treasury and other U.S.
government agencies $ 19,280 $ 912 $ $ 20,192
Obligations of states and
political subdivisions 32,802 1,486 34,288
Mortgage-backed securities 54,603 510 132 54,981
Other 3,075 3,075
------------ ---------- -------- --------------
$ 109,760 $ 2,908 $ 132 $ 112,536
============= ========== ======== =============
Held to Maturity
----------------
Obligations of states and
political subdivisions $ 15,510 $ 255 $ $ 15,765
------------ ---------- -------- --------------
$ 15,510 $ 255 $ $ 15,765
============= ========== ======== =============
</TABLE>
12
<PAGE> 69
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 3 - INVESTMENT SECURITIES (continued)
<TABLE>
<CAPTION>
December 31, 1997
--------------------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
------------- ------------- ------------- ------------
(Thousands of dollars)
Available For Sale
------------------
<S> <C> <C> <C> <C>
U.S. Treasury and other U.S.
government agencies $ 30,604 $ 850 $ 1 $ 31,453
Obligations of states and
political subdivisions 32,250 965 1 33,214
Mortgage-backed securities 34,137 289 89 34,337
Other 3,958 3,958
------------ --------- ------- ------------
$ 100,949 $ 2,104 $ 91 $ 102,962
============= ========== ======= =============
Held to Maturity
----------------
Obligations of states and
political subdivisions $ 11,937 $ 445 $ $ 12,382
------------ --------- ------- ------------
$ 11,937 $ 445 $ $ 12,382
============= ========== ======= =============
</TABLE>
Results of sales of securities were as follows:
<TABLE>
<CAPTION>
Available for Sale
------------------------------------------
1998 1997 1996
----------- ----------- -----------
(Thousands of dollars)
<S> <C> <C> <C>
Proceeds $ None $ 8,928 $ 4,214
Realized gains 307 40
Realized losses 15 2
</TABLE>
13
<PAGE> 70
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 3 - INVESTMENT SECURITIES (continued)
The amortized cost and estimated market value of investments at
December 31, 1998, by contractual maturity, are shown below.
Expected maturities will differ from contractual maturities because
borrowers may have the right to call or prepay obligations with or
without call or prepayment penalties.
<TABLE>
<CAPTION>
Available for Sale Held to Maturity
----------------------------- ----------------------------
Estimated
Amortized Market Amortized Estimated
Cost Value Cost Value
------------ ------------ ------------ ------------
(Thousands of dollars)
<S> <C> <C> <C> <C>
Due in one year or less $ 3,672 $ 3,682 $ 2,550 $ 2,594
Due after one year through
five years 18,520 19,302 9,888 10,094
Due after five years through
ten years 13,442 14,152 1,586 1,591
Due after ten years 19,523 20,419 1,486 1,486
------------ ------------ ----------- -----------
55,157 57,555 15,510 15,765
Mortgage-backed securities 54,603 54,981
------------ ------------ ----------- -----------
$ 109,760 $ 112,536 $ 15,510 $ 15,765
============ ============ =========== ===========
</TABLE>
Securities pledged to secure public and trust deposits and borrowed
funds had a carrying value of $52,494,000 and $8,181,000 at
December 31, 1998 and 1997, respectively.
NOTE 4 - LOANS
Major classifications of loans are as follows:
<TABLE>
<CAPTION>
December 31, December 31,
1998 1997
----------------- -----------------
(Thousands of dollars)
<S> <C> <C>
Commercial, financial, and agricultural $ 246,396 $ 165,181
Real estate - construction 9,553 14,760
Real estate - mortgage 136,564 100,118
Installment 15,914 13,480
-------------- -------------
408,247 293,539
Less: Deferred loan origination
fees, net of costs (779) (538)
-------------- -------------
Net loans $ 407,648 $ 293,001
============== =============
</TABLE>
14
<PAGE> 71
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4 - LOANS (continued)
Loans having a carrying value of $20,511,000 are pledged as
collateral for borrowings from the Federal Home Loan Bank at
December 31, 1998.
Certain directors and officers of the company and the subsidiary
banks, including their immediate families, companies in which they
are principal owners, and trusts in which they are involved, were
loan customers of the subsidiaries during 1998 and 1997. Such loans
were made in the ordinary course of business at normal credit
terms, including interest rate and collateralization, and do not
represent more than a normal risk of collection. The aggregate
dollar amount of these loans was $10,983,000 and $8,471,000 at
December 31, 1998 and 1997, respectively. During 1998, $20,120,000
of new loans were made and repayments totaled $17,608,000.
Loans on which the accrual of interest has been discontinued or
reduced amounted to $11,060,000 and $1,720,000 at December 31, 1998
and 1997, respectively. If these loans had been current throughout
their terms, interest income for the nonaccrual period would have
approximated $431,000 and $202,000 for 1998 and 1997, respectively.
Interest income which has been recorded amounted to $216,000 and
$180,000 for 1998 and 1997, respectively, for these nonaccrual
loans.
Changes in the allowance for loan losses were as follows:
<TABLE>
<CAPTION>
1998 1997 1996
------------ ----------- -----------
(Thousands of dollars)
<S> <C> <C> <C>
Balance at beginning of year $ 3,881 $ 2,893 $ 2,617
Allowance related to assets acquired 6,487 120
Provision charged to operations 1,135 1,115 400
Recoveries 377 194 42
Loans charged off (845) (321) (286)
------------ ----------- -----------
Balance at end of year $ 11,035 $ 3,881 $ 2,893
============ =========== ===========
</TABLE>
The provision for credit losses charged to expense is based upon
the banks' credit loss experience and an evaluation of potential
losses in the current loan portfolio, including the evaluation of
impaired loans under SFAS 114. The level of the allowance at the
bank acquired by the company in 1998 was also influenced by unusual
factors affecting that bank prior to the acquisition. See Note 13.
A loan is considered to be impaired when, based upon current
information and events, it is probable that the bank will be unable
to collect all amounts due according to the contractual terms of
the loan.
15
<PAGE> 72
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4 - LOANS (continued)
The following is a summary of activity in investment in loans that
have declined in value and related interest income and allowance for credit
losses accounts:
<TABLE>
<CAPTION>
1998 1997
------------- -----------
(Thousands of dollars)
<S> <C> <C>
Impaired loans at December 31 $ 16,287 $ 8,582
Impaired loans at December 31 allowed for $ 11,148 $ 2,760
Average impaired loans during the period $ 13,779 $ 3,119
Interest income recognized while loans impaired $ 485 $ 350
Interest income using a cash-basis method $ 332 $ 358
Allowance as of January 1 $ 258 $ 259
Allowance related to assets acquired 5,369
Additions during the year 282 255
Recoveries of amounts previously allowed for (1,057) (256)
------------- -----------
Balance at December 31 $ 4,852 $ 258
============= ===========
</TABLE>
NOTE 5 - BANK PREMISES AND EQUIPMENT
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------ ------------
(Thousands of dollars)
<S> <C> <C> <C>
Land $ 3,232 $ 2,339 $ 2,004
Buildings and improvements 12,143 11,484 10,158
Equipment 7,330 5,825 6,302
------------ ------------ ------------
22,705 19,648 18,464
Less accumulated depreciation 7,078 6,155 6,110
------------ ------------ ------------
$ 15,627 $ 13,493 $ 12,354
============ ============ ============
Depreciation expense $ 1,013 $ 961 $ 807
============ ============ ============
</TABLE>
16
<PAGE> 73
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6 - OTHER REAL ESTATE
Other real estate ($795,000 in 1998, $229,000 in 1997, and $339,000
in 1996, net of an allowance for other real estate losses of
$229,000 in 1998, $229,000 in 1997, and $229,000 in 1996) is
included in other assets.
Net cost of operation of other real estate is summarized below:
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- ----------
(Thousands of dollars)
<S> <C> <C> <C>
Loss on disposition of properties
and other costs $ 15 $ 30 $ 102
Gain on disposition of properties
and expense recoveries (290)
-------- -------- --------
Net (gains) losses $ 15 $ 30 $ (188)
======== ======== ========
</TABLE>
Changes in the allowance for losses on other real estate were as
follows:
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- ---------
(Thousands of dollars)
<S> <C> <C> <C>
Balance at beginning of year $ 229 $ 229 $ 378
Amounts related to properties disposed (149)
--------- --------- ---------
Balance at end of year $ 229 $ 229 $ 229
========= ========= =========
</TABLE>
NOTE 7 - TIME DEPOSITS
At December 31,1998, the scheduled maturities of certificates of
deposit were as follows:
<TABLE>
<CAPTION>
(Thousands of dollars)
<S> <C>
1999 $ 187,810
2000 40,323
2001 16,517
2002 5,088
2003 151
2004 35
-------------
$ 249,924
=============
</TABLE>
17
<PAGE> 74
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 8 - SHORT-TERM BORROWINGS
Short-term borrowings consisted of the following at December 31:
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------ ------------
(Thousands of dollars)
<S> <C> <C> <C>
Federal funds purchased $ $ 18,373 $ 21,975
Federal Home Loan Bank Loan 53,000 36,000
Securities sold under agreements
to repurchase 3,758 2,276 1,865
------------ ------------ ------------
$ 56,758 $ 56,649 $ 23,840
============ ============ ============
</TABLE>
The average outstanding balance of total short-term borrowings
amounted to $60,843,000 in 1998 and $29,500,000 in 1997. The
weighted-average interest rate on these borrowings was 5.5% for
1998 and 5.7% for 1997. The average outstanding balance is
determined on a daily average basis and the weighted-average
interest rate is calculated by dividing the actual interest paid on
all short-term borrowings by the average balance for the year.
The maximum amount outstanding at any month end was $77,317,000
during 1998 and $56,649,000 during 1997.
NOTE 9 - LONG-TERM DEBT
Long-term debt consists of the following at December 31,
<TABLE>
<CAPTION>
1998 1997
--------- --------
(Thousands of dollars)
<S> <C> <C>
Land contract requiring annual
principal payments of $53,000
plus interest calculated at
prime +1/4% $ 317 $ 369
Other 75 14
--------- --------
$ 392 $ 383
========= ========
</TABLE>
NOTE 10 - PREFERRED STOCKHOLDER EQUITY IN A SUBSIDIARY COMPANY
Preferred stockholder equity in a subsidiary company represents 316
shares of 8%, non-cumulative, non-voting preferred stock in Baylake
Bank N.A., a subsidiary of the company which was acquired during
1998. See Note 21 regarding the redemption of these shares.
18
<PAGE> 75
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 11 - DIVIDENDS AND CAPITAL RESTRICTIONS
Cash dividends per share to shareholders were $.94, $.81, and $.62
in 1998, 1997, and 1996, respectively, after adjustment for stock
dividends.
As of December 31, 1998, undistributed earnings of the
subsidiaries, included in consolidated retained earnings, available
for distribution to the company as dividends without prior approval
of regulatory authorities was $5,618,000. Baylake Bank, N.A. may
not pay any dividends without prior approval of regulatory
authorities.
Federal banking regulatory agencies have established capital
adequacy rules which take into account risk attributable to balance
sheet assets and off-balance sheet activities. All banks and bank
holding companies must meet a minimum total risk-based capital
ratio of 8%. Of the 8% required, at least half must be comprised of
core capital elements defined as Tier 1 capital. The federal
banking agencies also have adopted leverage capital guidelines
which banking organizations must meet. Under these guidelines, the
most highly rated banking organizations must meet a leverage ratio
of at least 3% Tier 1 capital to total assets, while lower rated
banking organizations must maintain a ratio of at least 4% to 5%.
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 consolidated financial statements.
At December 31, 1998 and 1997, the corporation was categorized as
adequately capitalized and well capitalized, respectively, under
the regulatory framework for prompt corrective action. There are no
conditions or events since that notification that management
believes have changed the corporation's category.
To be well capitalized under the regulatory framework, the Tier 1
capital ratio must meet or exceed 6%, the total capital ratio must
meet or exceed 10% and the leverage ratio must meet or exceed 5%.
The corporation's risk-based capital and leverage ratios are as
follows (amounts in thousands):
<TABLE>
<CAPTION>
Risk-Based Capital Ratios
------------------------------------------------------
December 31, 1998 December 31, 1997
------------------------- --------------------------
Amount Ratio Amount Ratio
------------- ------- ------------ ---------
<S> <C> <C> <C> <C>
Tier 1 capital
Baylake Corp. $ 35,100 8.0% $ 36,102 11.3%
Minimum requirement 17,610 4.0% 12,770 4.0%
Total capital
Baylake Corp. 40,603 9.2% 39,983 12.5%
Minimum requirement 35,220 8.0% 25,541 8.0%
</TABLE>
19
<PAGE> 76
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 11 - DIVIDENDS AND CAPITAL RESTRICTIONS (continued)
<TABLE>
<CAPTION>
Leverage Ratios
------------------------------------------------------
December 31, 1998 December 31, 1997
------------------------- --------------------------
Amount Ratio Amount Ratio
------------- ------- ------------ ---------
<S> <C> <C> <C> <C>
Tier 1 capital to average total assets
Baylake Corp. $ 35,100 6.0% $ 36,102 8.9%
Minimum requirement 23,321 4.0% 16,301 4.0%
</TABLE>
NOTE 12 - FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK
The bank is 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, standby letters of credit, and financial
guarantees.
The bank's exposure to credit loss in the event of nonperformance
by the other party to the financial instrument for commitments to
extend credit and standby letters of credit and financial
guarantees written is represented by the contract or notional
amount of those instruments. The bank uses the same credit policies
in making commitments and conditional obligations as it does for
on-balance-sheet instruments.
<TABLE>
<CAPTION>
Contract or
Notional Amount
------------------------------
1998 1997
------------- ------------
(Thousands of dollars)
<S> <C> <C>
Financial instruments whose contract amounts represent credit risk:
Commitments to extend credit $ 120,835 $ 82,121
Standby letters of credit and
financial guarantees written 2,012 1,610
</TABLE>
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. Commitments generally have fixed expiration dates or
other termination clauses and may require payment of a fee. Since
many of the commitments are expected to expire without being drawn
upon, the total commitment amounts do not necessarily represent
future cash requirements. The bank evaluates each customer's
creditworthiness on a case-by-case basis. The amount of collateral
obtained, if deemed necessary by the bank upon extension of credit,
is based on management's credit evaluation of the counter-party.
Collateral held varies but may include accounts receivable,
inventory, property, plant, and equipment, and income-producing
commercial properties.
20
<PAGE> 77
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 12 - FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK (continued)
Standby letters of credit and financial guarantees written are
conditional commitments issued by the bank to guarantee the
performance of a customer to a third party. Those guarantees are
primarily issued to support private borrowing arrangements. The
guarantees expire in decreasing amounts through 2008, with the
majority expiring within one year. The credit risk involved in
issuing letters of credit is essentially the same as that involved
in extending loan facilities to customers. The bank does not
require collateral as support for the commitments. Collateral is
obtained based on loan policies upon use of a commitment by a
customer.
NOTE 13 - ACQUISITIONS
On October 1, 1998, Baylake Corp. acquired Evergreen Bank, N.A.
("Evergreen") and changed its name to Baylake Bank, N.A. Prior to
the acquisition, Evergreen was under the active supervision of the
Office of the Comptroller of the Currency due to its designation of
the bank as a "troubled institution" and "critically under
capitalized" based on severe asset quality problems and significant
fraudulent activities by former bank employees and directors. Prior
to its acquisition by the company, Evergreen was the victim of
substantial fraud by former Evergreen insiders. Evergreen's
regulators had discovered extensive financial irregularities at
Evergreen which resulted from unauthorized and/or improper
transactions effected by former members of Evergreen management.
As part of the acquisition, Baylake Corp. was required to
contribute $7 million of capital to the bank. No payments to the
seller of Evergreen have been made, but are contingently payable in
May 1999 based on a formula set forth in the stock purchase
agreement. The formula requires a payment of the lesser of $2
million, or the amount of recoveries of the allowance for loan
losses for loans classified as being of substandard quality on the
acquisition date and any other recoveries of items previously
charged-off. The contingent payments are not accrued at December
31, 1998, since the amount, if any, is not estimable.
The acquisition was accounted for using the purchase method of
accounting. Under the purchase method, net assets purchased are
recorded at their fair market values on the date of acquisition.
Any excess of the purchase price over the value of the net assets
is recorded as goodwill. The goodwill recorded on the bank is the
result of assumption of liabilities having a market value in excess
of market value of assets received. Any payments made in the future
to the former shareholder of the bank may affect the goodwill
recorded. Goodwill will be amortized on a straight-line basis over
15 years.
21
<PAGE> 78
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 13 - ACQUISITIONS (continued)
On July 1, 1996, the company acquired all of the common stock of
Four Seasons of Wis., Inc. (Four Seasons) for a cash price of
$13,875,000. Subsequent to the purchase, Four Seasons was
liquidated and the net assets were contributed to Baylake Bank.
Four Seasons was a one-bank bank holding company with two locations
in Waupaca County, Wisconsin. The acquisition was accounted for
under the purchase method of accounting. The excess of the purchase
price over the fair value of the net identifiable assets acquired
of $4,900,000 has been recorded as goodwill and is being amortized
on a straight-line basis over 15 years.
The following unaudited proforma financial information presents the
combined results of operations of the company and Evergreen as if
the acquisition had occurred as of the beginning of each of the
periods presented.
<TABLE>
<CAPTION>
1998 1997
------------ ------------
(Thousands of dollars except
earnings per common share)
<S> <C> <C>
Total revenue $ 52,265 $ 44,087
Net interest income 21,398 20,719
Net income 5,525 (2,629)
Earnings per common share $1.51 ($1.07)
</TABLE>
Net income above include write-offs and write-downs of
approximately $2,500,000 in 1998 and $8,600,000 in 1997, and bond
recoveries of $2,050,000 in 1998, due to the fraudulent activities
of Evergreen's previous management. Information is substantially
affected by the fraudulent activity which occurred at Evergreen
prior to its acquisition by the company. Because the company would
have replaced that previous management had it acquired Evergreen at
an earlier date, the company believes that actual results would
have been substantially different than shown.
NOTE 14 - PENSION PLAN
The subsidiaries have 401(k) Profit Sharing Plans covering all
employees who qualify as to age and length of service. The employer
contributions paid and expensed under all plans for 1998, 1997, and
1996, totaled $478,000, $423,000, and $377,000, respectively.
Certain officers and directors of the company and its subsidiaries
are covered by nonqualified deferred compensation plans. Payments
to be made under these plans are accrued over the anticipated years
of service of the individuals covered. Amounts charged to expense
were $141,000 in 1998, $142,000 in 1997, and $136,000 in 1996.
22
<PAGE> 79
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 15 - INCOME TAX EXPENSE
The taxes applicable to income before income taxes were as follows:
<TABLE>
<CAPTION>
1998 1997 1996
----------- ----------- -----------
(Thousands of dollars)
<S> <C> <C> <C>
Taxes currently payable
Federal $ 2,306 $ 2,076 $ 1,798
State 17 169 238
----------- ----------- -----------
2,323 2,245 2,036
----------- ----------- -----------
Deferred income taxes
Federal (72) (188) (84)
State (4) (30) (13)
----------- ----------- -----------
(76) (218) (97)
----------- ----------- -----------
$ 2,247 $ 2,027 $ 1,939
=========== =========== ===========
</TABLE>
Income tax expense associated with net realized securities gains
was $0, $115,000, and $15,000, for 1998, 1997, and 1996,
respectively.
The provision for income taxes differs from the amount of income
tax determined by applying the statutory federal income tax rate to
pretax income as a result of the following differences:
<TABLE>
<CAPTION>
1998 1997 1996
----------- ----------- -----------
(Thousands of dollars)
<S> <C> <C> <C>
Income tax based on statutory rate $ 2,809 $ 2,481 $ 2,258
State income taxes net of federal tax
benefit 3 92 144
----------- ----------- -----------
2,812 2,573 2,402
Effect of tax-exempt interest income (686) (536) (466)
Other 121 (10) 3
----------- ----------- -----------
Provision based on effective tax rates $ 2,247 $ 2,027 $ 1,939
=========== =========== ===========
</TABLE>
23
<PAGE> 80
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 15 - INCOME TAX EXPENSE (continued)
Deferred income taxes reflect the net tax effects of temporary
differences between the carrying amounts of assets and liabilities
for financial reporting purposes and the amounts used for income
tax purposes. A valuation allowance has been recognized to offset
the related deferred tax assets due to the uncertainty of realizing
tax benefits of a portion of loan loss and mortgage servicing
differences. The following is a summary of the significant
components of the company's deferred tax assets and liabilities as
of December 31, 1998 and 1997:
<TABLE>
<CAPTION>
1998 1997
----------- -----------
(Thousands of dollars)
<S> <C> <C>
Deferred tax assets
Allowance for loan losses $ 1,332 $ 1,076
Deferred loan origination fees 193 209
Deferred compensation 629 606
Mortgage loan servicing 390 461
Nonaccrual loans 92 137
Accrued vacation pay 62 57
Other 13 18
Investments acquired in merger 113 180
----------- -----------
Gross deferred tax assets 2,824 2,744
Valuation allowance for deferred tax assets (550) (550)
----------- -----------
Net deferred tax assets 2,274 2,194
----------- -----------
Deferred tax liabilities
Bank premises and equipment 718 864
Market value adjustment on securities
available for sale 975 702
Other 61 61
----------- -----------
Total deferred tax liabilities 1,754 1,627
----------- -----------
Net deferred asset $ 520 $ 567
=========== ===========
</TABLE>
24
<PAGE> 81
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 16 - EARNINGS AND DIVIDENDS PER SHARE
Earnings and dividends per share are based on the weighted average
number of shares outstanding for the year, restated for the 50%
stock dividend paid in May 1998. A reconciliation of the basic and
diluted earnings per share amounts is as follows:
<TABLE>
<CAPTION>
1998 1997 1996
------------- ------------- -------------
<S> <C> <C> <C>
Basic weighted average number of
common shares outstanding 3,661,608 2,452,688 2,457,925
Additional common dilutive stock
option shares 307,450 25,200 63,200
------------- ------------- -------------
Diluted weighted average number
of common shares outstanding 3,969,058 2,477,888 2,521,125
============= ============= =============
Additional common stock option
shares that have not been
included due to their
antidilutive effect 150,000 72,000
</TABLE>
There is no difference between basic and diluted income available
to common stockholders.
See Note 19 for information on additional stock options issued
subsequent to year end. These shares would not have changed
materially the calculation of the number of common shares or
potential common shares outstanding at the end of the period if the
transaction had occurred before December 31, 1998.
NOTE 17 - OTHER INCOME
Other income is comprised of no amounts which are individually
greater than 1% of total interest income and total other income.
25
<PAGE> 82
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 18 - OTHER OPERATING EXPENSES
<TABLE>
<CAPTION>
1998 1997 1996
----------- ----------- -----------
(Thousands of dollars)
<S> <C> <C> <C>
Supplies and printing $ 382 $ 324 $ 387
Goodwill amortization 399 327 144
Other (individually, less than 1% of total
income and total other income 2,432 2,210 2,396
----------- ----------- -----------
$ 3,213 $ 2,861 $ 2,927
=========== =========== ===========
</TABLE>
NOTE 19 - STOCK OPTION PLAN
The company has a non-qualified stock option plan under which
certain officers and key salaried employees may purchase shares of
the company's stock at an established exercise price. Unless
earlier terminated, these options will expire ten years from the
date of grant. The options become exercisable 20% per year,
commencing one year from date of grant.
Activity in the plan is summarized as follows:
<TABLE>
<CAPTION>
Weighted
Average
Number Option Price Exercise
of Shares Per Share Price
----------- ---------------- -----------
<S> <C> <C> <C>
Shares under option at December 31, 1995 154,200 $ 9.33 - 23.00 $ 17.50
Options granted 57,000 17.83 17.83
Options exercised (8,400) 9.33 9.33
--------- ---------------- ----------
Shares under option at December 31, 1996 202,800 9.33 - 23.00 17.93
Options granted 60,000 17.91 17.91
--------- ---------------- ----------
Shares under option at December 31, 1997 262,800 9.33 - 23.00 17.93
Options granted 60,000 19.50 19.50
Options exercised (15,350) 9.33 9.33
--------- ---------------- ----------
Shares under option at December 31, 1998 307,450 $ 9.33 - 23.00 $ 18.66
========= ================ ==========
</TABLE>
In January 1999, options to purchase an additional 63,000 shares
were granted. The exercise price was established at 100% of the
fair market value of the stock on the date of grant, or $30.50 per
share.
26
<PAGE> 83
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 19 - STOCK OPTION PLAN (continued)
The options outstanding at December 31, 1998, were:
<TABLE>
<CAPTION>
Weighted
Weighted-Average Average
Number of Shares Exercise Price Remaining
Price ------------------------------- ------------------------------ Life
Range Outstanding Exercisable Outstanding Exercisable (In Years)
--------- -------------- -------------- -------------- ------------- -------------
<S> <C> <C> <C> <C> <C>
$ 9.33 22,450 22,450 $ 9.33 $ 9.33 4.3
17.83 57,000 22,800 17.83 17.83 7.0
17.91 60,000 12,000 17.91 17.91 8.0
19.00 54,000 43,200 19.00 19.00 5.0
19.50 60,000 19.50 19.50 9.0
23.00 54,000 32,400 23.00 23.00 6.0
--------- ---------- ---------- ---------- -----
307,450 132,850 $ 18.66 $ 18.04 6.9
========= ========== ========== ========== =====
</TABLE>
Options exercisable at December 31, 1997 and 1996, were 93,000 and
49,800, respectively. The weighted average exercise price for
options exercisable at December 31, 1997 and 1996, was $17.93 and
$16.49, respectively.
In October, 1995, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 123 (SFAS 123),
"Accounting for Stock-Based Compensation." This standard
establishes financial accounting and reporting standards for
stock-based employee compensation plans.
SFAS 123 defines a fair value based method of accounting for
employee stock option or similar equity instruments. Under the fair
value based method, compensation cost is measured at the grant date
based on the fair value of the award using an option-pricing model
that takes into account the stock price at the grant date, the
exercise price, the expected life of the option, the volatility of
the underlying stock, expected dividends and the risk-free interest
rate over the expected life of the option. The resulting
compensation cost is recognized over the service period, which is
usually the vesting period.
Compensation cost can also be measured and accounted for using the
intrinsic value based method of accounting prescribed in Accounting
Principles Board Opinion No. 25 (APB 25), "Accounting for Stock
Issued to Employees." Under the intrinsic value based method,
compensation cost is the excess, if any, of the quoted market price
of the stock at grant date or other measurement date over the
amount paid to acquire the stock.
27
<PAGE> 84
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 19 - STOCK OPTION PLAN (continued)
The largest difference between SFAS 123 and APB 25 as it relates to
the company is the amount of compensation cost attributable to the
company's stock option plan. Under APB 25 no compensation cost is
recognized for the stock option plan because the exercise price is
equal to the quoted market price at the date of grant and therefore
there is no intrinsic value. SFAS 123 compensation cost would equal
the calculated fair value of the options granted.
As permitted by SFAS 123, the company continues to measure
compensation cost for the stock option plan using the accounting
method prescribed by APB 25.
Had compensation cost for the company's options granted after
January 1, 1995, been determined according to SFAS 123, the
company's net income and earnings per share would have been reduced
to the following proforma amounts:
<TABLE>
<CAPTION>
1998 1997 1996
----------- ----------- -----------
(Thousands of dollars)
<S> <C> <C> <C>
Net income
As reported $ 6,017 $ 5,270 $ 4,703
Proforma 5,708 5,140 4,631
Basic earnings per common share
As reported 1.64 1.43 1.28
Proforma 1.56 1.40 1.25
Diluted earnings per common share
As reported 1.61 1.43 1.27
Proforma 1.52 1.39 1.25
</TABLE>
The fair value of each option grant was estimated as of the date of
grant using the Black-Scholes option pricing model. The resulting
compensation cost was amortized over the vesting period.
The grant date fair values and assumptions used to determine such
values are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
----------- --------- ---------
<S> <C> <C> <C>
Weighted average grant date fair
value $ 14.77 $ 7.34 $ 4.35
Assumptions:
Risk-free interest rates 4.70% 5.60% 6.20%
Expected volatility 33.56% 19.84% 9.16%
Expected term (in years) 8.00 8.00 8.00
Expected dividend yield 2.32% 3.42% 3.59%
</TABLE>
28
<PAGE> 85
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 20 - DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL
INSTRUMENTS
Provided below is the information required by Statement of
Financial Accounting Standards No. 107, "Disclosures about Fair
Value of Financial Instruments" (SFAS 107). These amounts represent
estimates of fair values at a point in time. Significant estimates
regarding economic conditions, loss experience, risk
characteristics associated with particular financial instruments
and other factors were used for the purposes of this disclosure.
These estimates are subjective in nature and involve matters of
judgment. Therefore, they cannot be determined with precision.
Changes in the assumptions could have a material impact on the
amounts estimated.
Many of the company's financial instruments lack an available
trading market. Furthermore, most of the financial instruments are
intended to be held to maturity. Therefore, it is not probable that
the fair values shown will be realized in a current transaction.
The estimated fair values disclosed do not reflect the value of
assets and liabilities that are not considered financial
instruments. In addition, the significant value of long-term
relationships with depositors and other customers are not
reflected.
A. CASH AND DUE FROM BANKS
These instruments are, by definition, short-term and do not
present any unanticipated credit issues. Therefore, the
carrying amount is a reasonable estimate of fair value.
B. INVESTMENT SECURITIES
The estimated fair values of securities are provided in Note 3
to the financial statements. These are based on quoted market
prices, when available. If a quoted market price is not
available, fair value is estimated using quoted market prices
for similar securities.
29
<PAGE> 86
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 20 - DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL
INSTRUMENTS (continued)
C. LOANS
The carrying amount (total outstandings excluding unearned
income and reserve for loan losses) and estimated fair value
of loans outstanding at December 31, 1998, are $407,648,000
and $407,116,000, and for December 31, 1997, are $293,001,000
and $292,683,000. In order to determine the fair values for
loans, the loan portfolio was segmented based on loan type,
credit quality and repricing characteristics. For certain
variable rate loans with no significant credit concerns and
frequent repricings, estimated fair values are based on the
carrying values. The fair values of other loans are estimated
using discounted cash flow analyses. The discount rates used
in these analyses are generally based on origination rates for
similar loans of comparable credit quality. However, where
appropriate, adjustments have been made to more accurately
reflect market rates. Maturity estimates are based on
historical experience with prepayments and current economic
and lending conditions.
D. DEPOSITS
The carrying amount and estimated fair value of deposits
outstanding at December 31, 1998, are $495,284,000, and
$497,087,000, and for December 31, 1997, are $345,976,000 and
$345,989,000. Under SFAS 107, the fair value of deposits with
no stated maturity is equal to the amount payable on demand.
Therefore, the fair value estimates for these products do not
reflect the benefits that the company receives from the
low-cost, long-term funding they provide. These benefits are
significant. The estimated fair values of fixed rate time
deposits are based on discounted cash flow analyses. The
discount rates used in these analyses are based on market
rates currently offered for deposits of similar remaining
maturities. Because of the repricing characteristics and the
competitive nature of the company's rates offered on variable
rate time deposits, carrying amount is a reasonable estimate
of the fair value.
E. SHORT-TERM BORROWINGS
Short-term borrowings reprice frequently and therefore the
carrying amount is a reasonable estimate of fair value.
30
<PAGE> 87
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 20 - DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL
INSTRUMENTS (continued)
F. COMMITMENTS TO EXTEND CREDIT, STANDBY LETTERS OF CREDIT, AND
LETTERS OF CREDIT
Pricing of these financial instruments is based on the credit
quality and relationship, fees, interest rates, probability of
funding, and compensating balance and other covenants or
requirements. Loan commitments generally have fixed expiration
dates, are variable rate and contain termination and other
clauses which provide for relief from funding in the event
that there is a significant deterioration in the credit
quality of the customer. Many loan commitments are expected
to, and typically do, expire without being drawn upon. The
carrying amounts are reasonable estimates of the fair value of
these financial instruments. Carrying amounts are comprised of
the unamortized fee income and, where necessary, reserves for
any expected credit losses from these financial instruments.
NOTE 21 - COMMITMENTS AND CONTINGENCIES
The company has committed to repurchase all of the preferred stock
of Baylake Bank N.A., at par value of $3,160,000, during 1999.
The company has made commitments for the purchases of land and
construction of branch facilities totaling $1,116,000.
Baylake Bank N.A. has commenced litigation against Kansas Bankers
Surety Company (KBS) to recover additional amounts under a fidelity
bond issued by KBS for losses it suffered as a result of fraudulent
activities by the former bank's president and other officers. KBS
has counterclaimed for return of $2,050,000 it paid to the bank on
previous claims alleging that the payment was the result of
misrepresentation by the bank or "mutual mistake". The bank intends
to vigorously prosecute its case and defend the counterclaim.
Also, in conjunction with the acquisition of Evergreen, the company
is subject to various other lawsuits, claims, and counterclaims.
Such matters are subject to the resolution of many uncertainties,
and accordingly, outcomes are not predictable with assurance.
Although the company believes that amounts provided in its
financial statements are adequate in light of the probable and
estimable liabilities, there can be no assurances that the amounts
required to discharge alleged liabilities from these matters will
not have a material adverse affect on its financial condition,
results of operations or cash flows. Any amounts of costs that may
be incurred in excess of those amounts provided as of December 31,
1998, cannot be determined.
31
<PAGE> 88
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 22 - CONDENSED FINANCIAL INFORMATION - PARENT
COMPANY ONLY
<TABLE>
<CAPTION>
BAYLAKE CORP.
(Parent Company Only)
CONDENSED BALANCE SHEETS
December 31
1998 1997
------------ ------------
(Thousands of dollars)
ASSETS
<S> <C> <C>
Cash in bank $ 127 $ 38
Dividend receivable 661 811
Receivable from subsidiary 131 10
Investment in subsidiaries 45,019 41,607
----------- -----------
Total assets $ 45,938 $ 42,466
=========== ===========
LIABILITIES AND STOCKHOLDER
EQUITY
Liabilities
Dividends payable $ 661 $ 611
Accrued expense 5
----------- -----------
Total liabilities 666 611
Stockholder equity 45,272 41,855
----------- -----------
Total liabilities and stockholder equity $ 45,938 $ 42,466
=========== ===========
</TABLE>
32
<PAGE> 89
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 22 - CONDENSED FINANCIAL INFORMATION - PARENT
COMPANY ONLY (continued)
<TABLE>
<CAPTION>
BAYLAKE CORP.
(Parent Company Only)
CONDENSED STATEMENTS OF INCOME
For the Years Ended December 31
1998 1997 1996
------------- ----------- ------------
(Thousands of dollars)
Income
<S> <C> <C> <C>
Dividends from subsidiaries $ 10,139 $ 3,191 $ 14,284
Interest income 6 9 47
------------ ---------- -----------
Total income 10,145 3,200 14,331
------------ ---------- -----------
Expenses
Other 64 45 40
Income taxes (benefit) (15) (12) 2
------------ ---------- -----------
Total expenses 49 33 42
------------ ---------- -----------
Income before equity in
undistributed net income
of subsidiaries 10,096 3,167 14,289
Equity in undistributed net income
of subsidiaries (4,079) 2,103 (9,586)
------------ ---------- -----------
NET INCOME $ 6,017 $ 5,270 $ 4,703
============ ========== ===========
</TABLE>
33
<PAGE> 90
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 22 - CONDENSED FINANCIAL INFORMATION - PARENT
COMPANY ONLY (continued)
<TABLE>
<CAPTION>
BAYLAKE CORP.
(Parent Company Only)
CONDENSED STATEMENT OF CASH FLOWS
For the Years Ended December 31
1998 1997 1996
----------- ---------- -----------
(Thousands of dollars)
CASH FLOWS FROM OPERATING ACTIVITIES:
<S> <C> <C> <C>
Cash paid to suppliers $ (59) $ (48) $ (40)
Interest received 6 9 47
Dividends received 10,289 2,970 13,694
Income taxes (paid) received 10 36 (17)
---------- --------- ----------
Net cash provided by operating activities 10,246 2,967 13,684
---------- --------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of subsidiary (7,000) (13,875)
---------- --------- ----------
Net cash used in investing activities (7,000) (13,875)
---------- --------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Dividends paid (3,089) (2,970) (2,258)
Issuance of stock 143 84
Repurchase of stock (211) (365)
---------- --------- ----------
Net cash provided by financing activities (3,157) (3,335) (2,174)
---------- --------- ----------
Net increase (decrease) in cash 89 (368) (2,365)
Cash and due from banks, beginning 38 406 2,771
---------- --------- ----------
Cash and due from banks, ending $ 127 $ 38 $ 406
========== ========= ==========
Reconciliation of net income to net cash provided by operating
activities:
Net income $ 6,017 $ 5,270 $ 4,703
Adjustments to reconcile net income to net
cash provided by operating activities:
Undistributed earnings of subsidiary 4,081 (2,103) 9,586
Change in receivable from subsidiary (7) 24
Change in dividends receivable 150 (221) (590)
Change in accrued expenses 5 (3) (15)
---------- --------- ----------
Net cash provided by operating activities $ 10,246 $ 2,967 $ 13,684
========== ========= ==========
SUPPLEMENTAL SCHEDULE OF NONCASH
FINANCING ACTIVITIES:
Dividends reinvested in common stock $ 518 $ 391 $ 815
</TABLE>
34
<PAGE> 91
BAYLAKE CORP. AND SUBSIDIARIES
Sturgeon Bay, Wisconsin
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 23 - BUSINESS SEGMENTS
The company has two business segments for which discrete financial
information is available: banking and non-banking.
Banking provides commercial, mortgage, and consumer lending,
deposit services, trust services, and other traditional bank
services. These services are provided primarily through branch
banks, and ATMs.
Non-banking includes insurance agency services and conference
facilities through two of the company's wholly-owned subsidiaries.
<TABLE>
<CAPTION>
1998
------------------------------------------------------------------
Intercompany
Banking Non-Banking Amounts Totals
------------ --------------- ---------------- -------------
(Amounts in thousands)
<S> <C> <C> <C> <C>
Interest revenue $ 38,061 $ 20 $ (20) $ 38,061
Interest expense 19,168 (20) 19,148
Provision for loan losses 1,135 1,135
Noninterest revenue 4,249 128 4,377
Noninterest expenses 13,780 111 13,891
Income taxes 2,231 16 2,247
Net income 5,996 21 6,017
Total assets 607,410 502 (474) 607,438
</TABLE>
<TABLE>
<CAPTION>
1997
------------------------------------------------------------------
Intercompany
Banking Non-Banking Amounts Total
------------ --------------- --------------- -------------
(Amounts in thousands)
<S> <C> <C> <C> <C>
Interest revenue $ 31,577 $ 15 $ (15) $ 31,577
Interest expense 14,677 (15) 14,662
Provision for loans losses 1,115 1,115
Noninterest revenue 3,920 148 4,068
Noninterest expense 112,458 113 112,571
Income taxes 2,007 20 2,027
Net income 5,240 30 5,270
Total assets 450,025 488 (451) 450,062
</TABLE>
35
<PAGE> 92
PART III
The following items are incorporated by reference to the Registrant's Proxy
Statement to be filed pursuant to Regulation 14A for its 1999 Annual Meeting of
Shareholders (the "1999" Proxy Statement").
Item 11. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information in response to this item is incorporated herein by reference to
"Baylake Corp. - Management" and "Election of Directors" and "Compliance with
Section 16(a) of the Exchange Act" under "Matters to be Considered at the
Baylake Annual Meeting" in the 1999 Proxy Statement.
Item 12. EXECUTIVE COMPENSATION
Information in response to this item is incorporated herein by reference to
"Director Fees and Benefits", "Executive Compensation", "Board of
Directors/Compensation Committee Report on Management Compensation",
"Compensation Committee Interlocks and Insider Participation" and "Performance
Graph" under "Matters to be Considered at the Baylake Annual Meeting" in the
1998 Proxy Statement.
Item 13. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information in response to this item is incorporated herein by reference to
"Matters to be Considered at the Baylake Annual Meeting - Ownership of Baylake
Common" in the 1999 Proxy Statement.
Item 14. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information in response to this item is incorporated herein by reference to
"Matters to be Considered at Baylake Annual Meeting - Election of certain
directors whose terms will expire."
<PAGE> 93
CONSENT OF SMITH & GESTELAND
We consent to incorporation by reference in the registration statement
on Form S-8 of Baylake Corp. of our report dated January 26, 1999 relating to
the consolidated balance sheets of Baylake and its subsidiaries as of December
31, 1998 and 1997, and the related consolidated statements of income, changes in
stockholder equity and cash flows for each of the years ended December 31, 1998,
1997, and 1996, which report appears in Baylake's Annual Report on Form 10-K for
the year ended December 31, 1998.
Madison, Wisconsin
March 28, 1999 SMITH & GESTELAND, LLP
<PAGE> 94
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
BAYLAKE CORP.
By: Steven D. Jennerjohn
----------------------------------
Steven D. Jennerjohn
Treasurer
Date: March 16, 1999
----------------------------------
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS that each person whose signature appears below
constitutes and appoints Thomas L. Herlache, Steven D. Jennerjohn and Daniel F.
Maggle, and each of them, his true lawful attorneys-in-fact and agents, with
full power of substitution and resubstitution for him and his name, place and
stead, in any and all capacities, to sign any and all amendments (including
post-effective amendments) to this report, and to file the same, with all
exhibits thereto, and other documents in connection therewith, the Securities
and Exchange Commission and any state securities commission, granting unto said
attorneys-in-fact and agents, and each of them, full power and authority to do
and perform each and every act and thing requisite and necessary to be done in
and about the premises, as fully to all intents and purposes as he might or
could do in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents or any of them, or their or his substitutes, may
lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities and Exchange Act of 1934, this
reports has been signed by the following persons in the capacities and on these
dates indicated.*
<TABLE>
<S> <C>
Thomas L. Herlache L. George Evenson
-------------------------------------------- ----------------------------
Thomas L. Herlache L. George Evenson, Director
President, Chief Executive Officer and
Director (Principal Executive Officer)
Steven D. Jennerjohn
-------------------------------------------- ----------------------------
Steven D. Jennerjohn Glenn Miller, Director
Treasurer
(Principal Financial and Accounting Officer)
Ruth Nelson
-------------------------------------------- ----------------------------
Ronald D. Berg, Director Ruth Nelson, Director
Marie Bertschinger
-------------------------------------------- ----------------------------
Marie Bertschinger, Director William C. Parsons, Director
George Delveaux, Jr. Richard A. Braun
-------------------------------------------- ----------------------------
George Delveaux, Jr., Director Richard A. Braun, Director
John W. Bunda Joseph Morgan
-------------------------------------------- ----------------------------
John W. Bunda, Director Joseph Morgan, Director
John D. Collins
-------------------------------------------- ----------------------------
John D. Collins, Director Paul J. Sturm, Director
</TABLE>
*Each of the above signatures is affixed as of March 16, 1999.
<PAGE> 95
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) See "Table of Contents" immediately following Item 9.
(b) See the following "Exhibit Index".
(c) No reports on Form 8-K.
BAYLAKE CORP.
(the "Registrant")
EXHIBIT INDEX
TO
1998 ANNUAL REPORT ON FORM 10-K
<TABLE>
<CAPTION>
Exhibit Incorporated Herein Filed
Number Description By Reference Herewith
------- ----------- ------------------- --------
<S> <C> <C> <C>
2.1 Agreement and Plan of Acquisition dated
March 13, 1996 between the Registrant
and Four Seasons of Wis Corp.
2.2 Agreement and Plan of Reorganization Exhibit 2.1 to Registrant's Annual
dated as of February 18, 1994 among the Report on Form 10-K for the year
Registrant, Kewaunee Acquisition Corp. ended December 31, 1993 ("1993
("KAC") and Kewaunee County Banc-Shares, 10-K")
Inc. ("KCB")
2.3 Merger Agreement dated as of March 30, Exhibit 2.2 to 1993 10-K
1994 among the Registrant, KAC and KCB
2.4 Merger Agreement dated as of October 1,
1998 among the Registrant, M&I and
Evergreen
3.1 Articles of Incorporation, as amended Exhibit 3.1 to 1993 10-K
3.2 Bylaws, as amended Exhibit 3.2 to 1993 10-K
10.1** Registrant's 1993 Stock Option Plan Exhibit A to Registrant's Proxy
Statement for 1993 Annual Meeting
of Shareholders
10.2** Registrant's Pay-for-Performance (bonus) Description thereof under "Board
Program of Directors/Compensation
Committee Report on Management
Compensation" in Registrant's
Proxy Statement for the 1994
Annual Meeting of Shareholders
10.3** Registrant's Deferred Compensation Exhibit 10.3 to 1993 10-K
Agreement with Thomas L. Herlache
10.4** Registrant's Agreement for Early Exhibit 10.4 to 1993 10-K
Retirement with Ronald D. Berg
10.5** Deferred Compensation and Salary Exhibit 10.4 to the Registrant's
Continuation Agreement with Richard A. Registration Statement on Form S-
Braun 4, No. 33-81184
10.6 Registrant's Stock Purchase Plan filed
on December 17, 1998
21 List of Subsidiaries X
23 Consent of Smith & Gesteland X
24 Power of Attorney (contained on the X
Signature Page)
27 Financial Data Schedule X
</TABLE>
* Excluding schedules and exhibits, which are identified in such document.
The Registrant agrees to furnish supplementally a copy of any omitted
schedule or exhibit to the Commission upon request.
** Designated management contracts or compensatory plans or arrangements
filed as exhibits.
<PAGE> 1
BAYLAKE CORP. EXHIBIT 21
LIST OF SUBSIDIARIES
Baylake Bank
Baylake Bank N.A.
Bank of Sturgeon Bay Building Corp.
Baylake Insurance
Baylake Investments, Inc.
Cornerstone Financial, Inc.
Kewaunee County Banc-Shares, Inc.
<TABLE> <S> <C>
<ARTICLE> 9
<CIK> 0000275119
<NAME> BAYLAKE CORP.
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 17,560
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 26,106
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 112,536
<INVESTMENTS-CARRYING> 15,510
<INVESTMENTS-MARKET> 15,765
<LOANS> 407,648
<ALLOWANCE> 11,035
<TOTAL-ASSETS> 607,438
<DEPOSITS> 495,384
<SHORT-TERM> 56,758
<LIABILITIES-OTHER> 9,732
<LONG-TERM> 392
0
0
<COMMON> 18,473
<OTHER-SE> 26,799
<TOTAL-LIABILITIES-AND-EQUITY> 607,438
<INTEREST-LOAN> 30,161
<INTEREST-INVEST> 7,544
<INTEREST-OTHER> 356
<INTEREST-TOTAL> 38,061
<INTEREST-DEPOSIT> 15,755
<INTEREST-EXPENSE> 19,148
<INTEREST-INCOME-NET> 18,913
<LOAN-LOSSES> 1,135
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 13,891
<INCOME-PRETAX> 8,264
<INCOME-PRE-EXTRAORDINARY> 8,264
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 6,017
<EPS-PRIMARY> 1.64
<EPS-DILUTED> 1.61
<YIELD-ACTUAL> 8.62
<LOANS-NON> 11,060
<LOANS-PAST> 0
<LOANS-TROUBLED> 3,008
<LOANS-PROBLEM> 1,019
<ALLOWANCE-OPEN> 3,881
<CHARGE-OFFS> 845
<RECOVERIES> 377
<ALLOWANCE-CLOSE> 11,035
<ALLOWANCE-DOMESTIC> 11,035
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
