<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1998
-------------
Commission file number 0-7818
-----------
INDEPENDENT BANK CORPORATION
(Exact name of registrant as specified in its charter)
Michigan 38-2032782
- -------------------------------------- -----------------------------------
(State or jurisdiction of (I.R.S. Employer Identification
Incorporation or Organization) Number)
230 West Main Street, P.O. Box 491, Ionia, Michigan 48846
- --------------------------------------------------------------------------------
(Address of principal executive offices)
(616) 527-9450
(Registrant's telephone number, including area code)
NONE
- --------------------------------------------------------------------------------
Former name, address and fiscal year, if changed since last report.
Indicate by check mark whether the registrant (1) has filed all documents
and reports required to be filed by Sections 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 the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Outstanding at August 12, 1998
- ------------------------------ ----------------------------------------------
Common stock, par value $1 7,018,900
<PAGE> 2
INDEPENDENT BANK CORPORATION AND SUBSIDIARIES
INDEX
-----
<TABLE>
<CAPTION>
Page
Number(s)
---------
<S> <C> <C>
PART I - Financial Information
Item 1. Consolidated Statements of Financial Condition
June 30, 1998 and December 31, 1997 2
Consolidated Statements of Operations
Three- and six-month periods ended June 30, 1998 and 1997 3
Consolidated Statements of Cash Flows
Six-month periods ended June 30, 1998 and 1997 4
Consolidated Statements of Shareholders' Equity
Six-month periods ended June 30, 1998 and 1997 5
Notes to Interim Consolidated Financial Statements
Three- and six-month periods ended June 30, 1998 and 1997 6-7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 8-17
Item 3. Quantitative and Qualitative Disclosures about Market Risk 17
PART II - Other Information
Item 4. Submission of Matters to a Vote of Security-Holders 18
Item 6. Exhibits & Reports on Form 8-K 18
</TABLE>
<PAGE> 3
Part I.
INDEPENDENT BANK CORPORATION AND SUBSIDIARIES
Consolidated Statements of Financial Condition
<TABLE>
<CAPTION>
June 30, December 31,
1998 1997
---------------- ---------------
Assets (unaudited)
---------------- ---------------
<S> <C> <C>
Cash and due from banks $ 33,899,000 $ 30,371,000
Securities available for sale 101,320,000 110,769,000
Securities held to maturity (Fair value of $20,881,000 at June
30,1998; $23,354,000 at December 31, 1997) 20,181,000 22,525,000
Federal Home Loan Bank stock, at cost 12,589,000 12,489,000
Loans held for sale 41,345,000 21,754,000
Loans
Commercial and agricultural 224,064,000 199,098,000
Real estate mortgage 422,386,000 416,689,000
Installment 133,702,000 128,391,000
---------------- ---------------
Total Loans 780,152,000 744,178,000
Allowance for loan losses (8,538,000) (7,670,000)
---------------- ---------------
Net Loans 771,614,000 736,508,000
Property and equipment, net 23,163,000 21,067,000
Accrued income and other assets 30,847,000 28,334,000
---------------- ---------------
Total Assets $ 1,034,958,000 $ 983,817,000
================ ===============
Liabilities and Shareholders' Equity
Deposits
Non-interest bearing $ 96,023,000 $ 88,546,000
Savings and NOW 356,600,000 339,594,000
Time 302,289,000 272,340,000
---------------- ---------------
Total Deposits 754,912,000 700,480,000
Federal funds purchased 30,500,000 28,000,000
Other borrowings 153,932,000 167,185,000
Guaranteed preferred beneficial interests in Company's subordinated
debentures 17,250,000 17,250,000
Accrued expenses and other liabilities 12,681,000 11,386,000
---------------- ---------------
Total Liabilities 969,275,000 924,301,000
---------------- ---------------
Shareholders' Equity
Preferred stock, no par value--200,000 shares authorized; none
outstanding
Common stock, $1.00 par value--14,000,000 shares authorized;
issued and outstanding: 7,018,900 shares at June 30, 1998
and 4,586,733 shares at December 31, 1997 7,019,000 4,587,000
Capital surplus 30,709,000 30,011,000
Retained earnings 26,402,000 23,243,000
Accumulated other comprehensive income 1,553,000 1,675,000
---------------- ---------------
Total Shareholders' Equity 65,683,000 59,516,000
---------------- ---------------
Total Liabilities and Shareholders' Equity $ 1,034,958,000 $ 983,817,000
================ ===============
</TABLE>
See notes to interim consolidated financial statements.
2
<PAGE> 4
Consolidated Statements of Operations
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
1998 1997 1998 1997
-------------- ------------- ------------- ---------------
(unaudited) (unaudited)
---------------------------- -----------------------------
<S> <C> <C> <C> <C>
Interest Income
Interest and fees on loans $ 19,146,000 $ 16,001,000 $ 37,529,000 $ 30,764,000
Securities
Taxable 1,338,000 2,261,000 2,817,000 4,423,000
Tax-exempt 605,000 677,000 1,214,000 1,320,000
Other investments 252,000 216,000 499,000 494,000
------------- ------------- ------------- -------------
Total Interest Income 21,341,000 19,155,000 42,059,000 37,001,000
------------- ------------- ------------- -------------
Interest Expense
Deposits 6,112,000 5,496,000 11,951,000 11,050,000
Other borrowings 2,985,000 3,182,000 6,104,000 5,597,000
------------- ------------- ------------- -------------
Total Interest Expense 9,097,000 8,678,000 18,055,000 16,647,000
------------- ------------- ------------- -------------
Net Interest Income 12,244,000 10,477,000 24,004,000 20,354,000
Provision for loan losses 670,000 321,000 1,303,000 642,000
------------- ------------- ------------- -------------
Net Interest Income After
Provision for Loan Losses 11,574,000 10,156,000 22,701,000 19,712,000
------------- ------------- ------------- -------------
Non-interest Income
Service charges on deposit accounts 980,000 777,000 1,803,000 1,451,000
Net gains (losses) on asset sales
Real estate mortgage loans 1,048,000 408,000 1,955,000 836,000
Securities 7,000 (4,000) 144,000 74,000
Other income 1,336,000 745,000 2,097,000 1,301,000
------------- ------------- ------------- -------------
Total Non-interest Income 3,371,000 1,926,000 5,999,000 3,662,000
------------- ------------- ------------- -------------
Non-interest Expense
Salaries and employee benefits 6,430,000 5,018,000 12,341,000 9,679,000
Occupancy, net 752,000 672,000 1,451,000 1,346,000
Furniture and fixtures 670,000 559,000 1,249,000 1,048,000
Other expenses 3,517,000 2,756,000 6,659,000 5,220,000
------------- ------------- ------------- -------------
Total Non-interest Expense 11,369,000 9,005,000 21,700,000 17,293,000
------------- ------------- ------------- -------------
Income Before Federal Income Tax 3,576,000 3,077,000 7,000,000 6,081,000
Federal income tax expense 1,037,000 883,000 2,028,000 1,753,000
------------- ------------- ------------- -------------
Net Income $ 2,539,000 $ 2,194,000 $ 4,972,000 $ 4,328,000
============= ============= ============= =============
Net Income Per Share
Basic $ .36 $ .32 $ .71 $ .63
Diluted .36 .32 .71 .63
Dividends Per Common Share
Declared $ .130 $ .117 $ .260 $ .235
Paid .130 .117 .253 .227
</TABLE>
See notes to interim consolidated financial statements.
3
<PAGE> 5
INDEPENDENT BANK CORPORATION AND SUBSIDIARIES
Consolidated Statements of Cash Flows
<TABLE>
<CAPTION>
Six months ended
June 30,
1998 1997
--------------- ---------------
(unaudited)
-------------------------------
<S> <C> <C>
Net Income $ 4,972,000 $ 4,328,000
--------------- ------------
Adjustments to Reconcile Net Income
to Net Cash from Operating Activities
Proceeds from sales of loans held for sale 130,887,000 40,803,000
Disbursements for loans held for sale (148,523,000) (42,420,000)
Provision for loan losses 1,303,000 642,000
Deferred loan fees 114,000 247,000
Depreciation and amortization of premiums and accretion of
discounts on securities and loans 2,199,000 2,181,000
Net gains on sales of real estate mortgage loans (1,955,000) (74,000)
Net gains on sales of securities (144,000) (836,000)
(Increase) decrease in accrued income and other assets (961,000) 371,000
Increase in accrued expenses and other liabilities 1,573,000 1,551,000
--------------- ------------
Total Adjustments (15,507,000) 2,465,000
--------------- ------------
Net Cash from Operating Activities (10,535,000) 6,793,000
--------------- ------------
Cash Flow from Investing Activities
Proceeds from the sale of securities available for sale 4,882,000 26,570,000
Proceeds from the maturity of securities available for sale 3,622,000 2,537,000
Proceeds from the maturity of securities held to maturity 1,790,000 1,356,000
Principal payments received on securities available for sale 9,297,000 4,986,000
Principal payments received on securities held to maturity 941,000 323,000
Purchases of securities available for sale (8,973,000) (43,792,000)
Portfolio loans purchased (29,757,000)
Principal payments on portfolio loans purchased 9,096,000 1,151,000
Portfolio loans made to customers, net of principal payments received (45,590,000) (49,561,000)
Acquisition of business, less cash received 1,459,000
Acquisition of branches, less cash received 16,168,000
Capital expenditures (2,840,000) (2,798,000)
--------------- ------------
Net Cash from Investing Activities (10,148,000) (88,985,000)
--------------- ------------
Cash Flow from Financing Activities
Net increase (decrease) in total deposits 36,121,000 (4,982,000)
Net increase (decrease) in short-term borrowings (4,268,000) 25,166,000
Proceeds from Federal Home Loan Bank advances 35,515,000 61,000,000
Payments of Federal Home Loan Bank advances (41,000,000) (15,000,000)
Retirement of long-term debt (1,000,000) (1,000,000)
Dividends paid (1,762,000) (1,552,000)
Proceeds from issuance of common stock 605,000 329,000
--------------- ------------
Net Cash from Financing Activities 24,211,000 63,961,000
--------------- ------------
Net Increase (Decrease) in Cash and Cash Equivalents 3,528,000 (18,231,000)
Cash and Cash Equivalents at Beginning of Period 30,371,000 50,631,000
--------------- ------------
Cash and Cash Equivalents at End of Period $ 33,899,000 $ 32,400,000
=============== ============
Cash paid during the period for
Interest $ 17,792,000$ 17,070,000
Income taxes 2,900,000 1,773,000
Transfer of loans to other real estate 399,000 276,000
</TABLE>
See notes to interim consolidated financial statements
4
<PAGE> 6
INDEPENDENT BANK CORPORATION AND SUBSIDIARIES
Consolidated Statements of Shareholders' Equity
<TABLE>
<CAPTION>
Six months ended
June 30,
1998 1997
-------------- -------------
(unaudited)
-----------------------------
<S> <C> <C>
Balance at beginning of period $ 59,516,000 $ 51,836,000
Net income 4,972,000 4,328,000
Cash dividends declared (1,813,000) (1,606,000)
Issuance of common stock 3,130,000 952,000
Net change in unrealized gain on securities
available for sale, net of related tax effect (note 4) (122,000) (55,000)
------------- -------------
Balance at end of period $ 65,683,000 $ 55,455,000
============= =============
</TABLE>
See notes to interim consolidated financial statements.
5
<PAGE> 7
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
1. In the opinion of management of the Registrant, the accompanying unaudited
consolidated financial statements contain all the adjustments (consisting only
of normal recurring accruals) necessary to present fairly the consolidated
financial condition of the Registrant as of June 30, 1998 and December 31, 1997,
and the results of operations for the six-month periods ended June 30, 1998 and
1997.
2. Management's assessment of the allowance for loan losses is based on an
evaluation of the loan portfolio, recent loss experience, current economic
conditions and other pertinent factors. Loans on non-accrual status, past due
more than 90 days, or restructured amounted to $7,113,000 at June 30, 1998, and
$5,386,000 at December 31, 1997. (See Management's Discussion and Analysis of
Financial Condition and Results of Operations).
3. The provision for income taxes represents federal income tax expense
calculated using annualized rates on taxable income generated during the
respective periods.
4. The Registrant adopted Statement of Financial Accounting Standards, No. 130,
"Reporting Comprehensive Income", (SFAS #130) effective January 1, 1998. SFAS
#130 establishes standards for reporting and displaying comprehensive income and
its components, including but not limited to unrealized gains and losses on
securities available for sale. Prior period amounts have been reclassified in
the financial statements.
Comprehensive income for the six-month periods ending June 30 follows:
<TABLE>
<CAPTION>
1998 1997
------------- -------------
(unaudited)
---------------------------
<S> <C> <C>
Net income $ 4,972,000 $ 4,328,000
Net change in unrealized gain on securities available
for sale, net of related tax effect (122,000) (55,000)
------------ ------------
Comprehensive income $ 4,850,000 $ 4,273,000
============ ============
</TABLE>
5. The Financial Accounting Standards Board adopted Statement of Financial
Accounting Standards, No. 131, "Disclosures about Segments of an Enterprise and
Related Information", (SFAS #131) in June 1997. SFAS 131 establishes standards
for the way public entities report information about operating segments in their
financial statements. This statement is effective for annual reporting for 1998
calendar year entities. Although this statement applies to interim financial
statements, interim reporting is not required in the initial year of
application.
6
<PAGE> 8
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS (continued)
(unaudited)
6. A reconciliation of basic and diluted earnings per share for the six-month
periods ending, June 30 follows:
<TABLE>
<CAPTION>
1998 1997
------------- -------------
(unaudited)
---------------------------
<S> <C> <C>
Basic earnings per share
Net income $ 4,972,000 $ 4,328,000
============ ============
Shares outstanding 6,960,000 6,817,000
============ ============
Per share amount $ .71 $ .63
============ ============
Diluted earnings per share
Net income $ 4,972,000 $ 4,328,000
============ ============
Shares outstanding 6,960,000 6,817,000
Effect of dilutive securities - stock options 87,000 79,000
------------ ------------
7,047,000 6,896,000
============ ============
Per share amount $ .71 $ .63
============ ============
</TABLE>
7. The results of operations for the six-month period ended June 30, 1998, are
not necessarily indicative of the results to be expected for the full year.
7
<PAGE> 9
Item 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Management's discussion and analysis of financial condition and results of
operations contains forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. Actual results could differ materially
from those projected in such forward-looking statements.
The following section presents additional information that may be necessary to
assess the financial condition and results of operations of the Registrant and
its subsidiary banks (the "Banks"). This section should be read in conjunction
with the consolidated financial statements contained elsewhere in this report as
well as the Registrant's 1997 Annual Report on Form 10-K.
FINANCIAL CONDITION
SUMMARY Assets totaled $1,035.0 million at June 30, 1998. The $51.2 million
increase from $983.8 million at December 31, 1997, principally reflects
increases in total loans as well as loans held for sale. (See "Non-interest
income.") The increase in total assets was funded with a $54.4 million increase
in deposits and a $6.2 million increase in shareholders' equity.
Loans, excluding loans held for sale ("Portfolio Loans") totaled $780.2 million
at June 30, 1998. An increase in commercial and agricultural loans account for
the majority of the $36.0 million increase in Portfolio Loans during the
six-month period. The increase in commercial and agricultural loans may be
partially attributed to customer dislocation subsequent to the acquisition of
competing banks by larger regional banking holding companies.
Deposits totaled $754.9 million and $700.5 million at June 30, 1998 and December
31, 1997, respectively. The increase in deposits principally reflects the
purchase of two offices from Great Lakes National Bank during the most recent
quarter as well as an increase in brokered certificates of deposit (Brokered
CDs"). (See "Acquisitions" and "Deposits and borrowings.") During the six-month
period, federal funds purchased and other borrowings declined by $2.5 million
and $13.3 million, respectively.
SECURITIES The Banks maintain diversified securities portfolios that include
obligations of the U.S. Treasury and government-sponsored agencies as well as
securities issued by states and political subdivisions, corporate notes and
mortgage-backed securities. Management continually evaluates the Banks'
asset/liability management needs and attempts to maintain a portfolio structure
that provides sufficient liquidity and cash flow. (See "Asset/liability
management.")
8
<PAGE> 10
SECURITIES
<TABLE>
<CAPTION>
Unrealized
----------------------------
Amortized Fair
Cost Gains Losses Value
-------------- -------------- ------------- -------------
<S> <C> <C> <C> <C>
(in thousands)
Securities available for sale
June 30, 1998 $ 98,969 $2,448 $97 $101,320
December 31, 1997 108,231 2,775 237 110,769
Securities held to maturity
June 30, 1998 $ 20,181 $ 709 $ 9 $ 20,881
December 31, 1997 22,525 838 9 23,354
</TABLE>
The sale of securities available for sale is dependent upon Management's
assessment of reinvestment opportunities and the Banks' asset/liability
management needs. As a result of such ongoing evaluations, the Banks sold
securities with an aggregate market value of approximately $4.9 million during
the six-month period ended June 30, 1998, compared to $26.4 million during the
comparable period in 1997.
SALES OF SECURITIES AVAILABLE FOR SALE
<TABLE>
<CAPTION>
Three months ended Six months ended
June 30, June 30,
1998 1997 1998 1997
---------------- --------------- ---------------- ----------------
<S> <C> <C> <C> <C>
Proceeds $516,000 $15,514,000 $4,882,000 $26,422,000
============== =============== =============== ===============
Gross gains $ 7,000 $ 27,000 $144,000 $114,000
Gross losses (31,000) (40,000)
-------------- --------------- --------------- ---------------
Net Gains (losses) $ 7,000 $ (4,000) $ 144,000 $ 74,000
============== =============== =============== ===============
</TABLE>
ASSET QUALITY Management believes that the Registrant's decentralized structure
provides important advantages in serving the credit needs of the Banks'
principal lending markets. Although the Management and Board of Directors of
each Bank retain authority and responsibility for credit decisions, each of the
Banks has adopted uniform underwriting standards. Further, the Registrant's loan
committee and the centralization of commercial loan credit services as well as
loan review functions promote compliance with such established underwriting
standards. The centralization of retail loan services also provides for
consistent service quality and facilitates compliance with consumer protection
laws and regulations.
In addition to the communities served by the Banks' branch networks, principal
lending markets include nearby communities and metropolitan areas. Subject to
established underwriting criteria, the Banks also participate in commercial
lending transactions with certain non-affiliated banks and purchase real estate
mortgage loans from third-party originators.
Non-performing loans totaled $7,113,000 at June 30, 1998, compared to $5,386,000
at December 31, 1997. Residential real estate mortgage loans account for
approximately $900,000 of the $1,727,000 increase in non-performing loans. The
increase in non-performing loans also reflect a FmHA guaranteed loan totaling
$232,000 and other commercial credits secured by real estate.
9
<PAGE> 11
Management does not believe that the increase in non-performing loans will
result in a material increase in credit losses.
NON-PERFORMING ASSETS
<TABLE>
<CAPTION>
June 30, December 31,
1998 1997
-------------- ----------------
<S> <C> <C>
Non-accrual loans $5,177,000 $3,298,000
Loans 90 days or more past due and
still accruing interest 1,765,000 1,904,000
Restructured loans 171,000 184,000
-------------- ----------------
Total non-performing loans 7,113,000 5,386,000
Other real estate 302,000 331,000
-------------- ----------------
Total non-performing assets $7,415,000 $5,717,000
============== ================
As a percent of Portfolio Loans
Non-performing loans 0.91 % 0.72 %
Non-performing assets 0.95 0.77
Allowance for loan losses as a percent of
Portfolio Loans 1.09 1.03
Allowance for loan losses as a percent of
non-performing loans 120 142
</TABLE>
Impaired loans totaled approximately $3,700,000 at June 30, 1998. At that same
date, certain impaired loans with a balance of approximately $600,000, had
specific allocations of the allowance for loan losses calculated in accordance
with Statement of Financial Accounting Standards #114 totaling approximately
$200,000. The Banks' average investment in impaired loans was approximately
$3,500,000, for the six-month period ending June 30, 1998. Cash receipts on
impaired loans on non-accrual status are generally applied to the principal
balance. Interest recognized on impaired loans for that six-month period was
approximately $57,000.
Loans charged against the allowance for loan losses, net of recoveries, were
equal to .12% of average loans during the six months ended June 30, 1998,
compared to .16% during the comparable period of 1997.
ALLOWANCE FOR LOAN LOSSES
<TABLE>
<CAPTION>
Six months ended
June 30,
1998 1997
-------------- -------------
<S> <C> <C>
Balance at beginning of period $7,670,000 $6,960,000
Additions (deduction)
Provision charged to operating expense 1,303,000 642,000
Recoveries credited to allowance 329,000 353,000
Loans charged against the allowance (764,000) (855,000)
-------------- -------------
Balance at end of period $8,538,000 $7,100,000
============== =============
Net loans charged against the allowance to
average Portfolio Loans (annualized) 0.12% 0.16%
</TABLE>
10
<PAGE> 12
Management's assessment of the allowance for loan losses is based on the
composition of the loan portfolio, an evaluation of specific credits, historical
loss experience as well as the level of non-performing and impaired loans. (See
"Provision for loan losses.") Not withstanding the increase in non-performing
loans, the unallocated portion of the allowance increased to 61% of the total
allowance for loan losses, compared to 55% at December 31, 1997.
ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES
<TABLE>
<CAPTION>
June 30, 1998 December 31, 1997
-------------------------------- -------------------------------
Percent of Percent of
Allowance Loans to Allowance Loans to
Amount Total Loans Amount Total Loans
------------- --------------- ------------ ---------------
<S> <C> <C> <C> <C>
Commercial and
agricultural $2,260,000 28.7% $2,200,000 26.8%
Real estate mortgage 344,000 54.1 322,000 56.0
Installment 762,000 17.2 892,000 17.2
Unallocated 5,172,000 4,256,000
============= =============== ============ ===============
Total $8,538,000 100.0% $7,670,000 100.0%
============= =============== ============ ===============
</TABLE>
DEPOSITS AND BORROWINGS The Banks' competitive position within many of the
markets served by the branch networks limits the ability to materially increase
deposits without adversely impacting the weighted-average cost of core deposits.
Accordingly, Management employs pricing tactics that are intended to enhance the
value of core deposits and the Banks' have implemented funding strategies that
incorporate other borrowings, principally advances from the Federal Home Loan
Bank (the "FHLB"), to finance a portion of the Portfolio Loans. To diversify the
Banks' funding sources, the Banks also employ Brokered CDs. The use of such
alternate sources of funds is also an integral part of the Banks'
asset/liability management efforts.
Other borrowed funds declined to $153.9 million at June 30, 1998, from $167.2
million at December 31, 1997. The decrease in other borrowed funds reflects the
purchase of two offices from Great Lakes National Bank as well as an increase in
Brokered CDs. Brokered CDs totaled $28.9 million and $14.4 million at June 30,
1998 and December 31, 1997, respectively.
FHLB ADVANCES
<TABLE>
<CAPTION>
June 30, 1998 December 31, 1997
------------------------------- ---------------------------------
Average Average Average Average
Amount Maturity Rate Amount Maturity Rate
------ -------- ---- ------ -------- ----
<S> <C> <C> <C> <C> <C> <C>
Fixed rate $82,785 1.1 years 5.89% $78,954 1.3 years 5.98%
Variable rate 67,169 1.4 years 5.68 67,000 1.0 years 5.74
</TABLE>
LIQUIDITY AND CAPITAL RESOURCES Effective management of the Registrant's capital
resources is critical to Management's mission to create value for the
Registrant's shareholders. To profitably deploy capital within existing markets,
the Banks have implemented balance sheet management strategies that combine
effective loan origination efforts with disciplined funding strategies. (See
"Asset/liability management."). Although the Banks' balance sheet management
strategies provide
11
<PAGE> 13
profitable opportunities to leverage the balance sheet, Management believes that
its acquisition strategy may provide greater value to the Registrant's
shareholders.
The Registrant's cost of capital is also an important factor in creating
shareholder value. Accordingly, the Registrant's capital structure includes
unsecured debt and Preferred Securities.
CAPITALIZATION
<TABLE>
<CAPTION>
June 30, December 31,
1998 1997
------------------ ----------------
<S> <C> <C>
Unsecured debt $11,000,000 $12,000,000
Preferred Securities 17,250,000 17,250,000
Shareholders' Equity
Preferred stock, no par value
Common Stock, par value $1.00 per share 7,019,000 4,587,000
Capital surplus 30,709,000 30,011,000
Retained earnings 26,402,000 23,243,000
Accumulated other comprehensive income 1,553,000 1,675,000
---------- ----------
Total shareholders' equity 65,683,000 59,516,000
---------- ----------
Total capitalization $93,933,000 $88,766,000
========== ==========
</TABLE>
Shareholders' equity totaled $65.7 million at June 30, 1998. In addition to the
retention of earnings, the $6.2 million increase from $59.5 million at December
31, 1997, reflects the issuance of common stock in conjunction with the purchase
of First Home Financial, Inc. ("FHF"). Shares of common stock have also been
issued pursuant to equity-based incentive compensation plans. (See
"Acquisitions.") Shareholders' equity was equal to 6.35% of total assets at June
30, 1998, compared to 6.05% at December 31, 1997.
CAPITAL RATIOS
<TABLE>
<CAPTION>
June 30, 1998 December 31, 1997
------------------- ----------------------
<S> <C> <C>
Equity capital 6.35% 6.05%
Average shareholders equity to average assets(1) 6.36 5.95
Tier 1 leverage (tangible equity capital) 6.10 6.02
Tier 1 risk-based capital 8.67 8.76
Total risk-based capital 9.85 9.91
</TABLE>
(1) Based on year to date average balances for the respective periods
ASSET/LIABILITY MANAGEMENT Interest rate risk is created by differences in the
pricing characteristics of the Banks' assets and liabilities. Options embedded
in certain financial instruments, including caps on adjustable-rate loans as
well as borrowers' rights to prepay fixed-rate loans also create interest rate
risk. Management employs simulation analyses to evaluate potential changes in
the Banks' net interest income and market value of portfolio equity that result
from changes in interest rates. Such analyses further anticipate the changes in
the rate of prepayment on certain assets and premature withdrawals of
certificates of deposits that will accompany changes in interest rates. At June
30, 1998, each of the Banks was within established parameters for interest-rate
risk.
12
<PAGE> 14
The asset/liability management efforts of the Registrant and the Banks are
further intended to identify and evaluate opportunities to structure the balance
sheet in a manner that is consistent with Management's mission to maintain
profitable financial leverage within established risk parameters.
Accordingly, Management's evaluation of business opportunities and alternate
strategies carefully consider the likely impact on the Banks' risk profile as
well as the anticipated contribution to earnings. The marginal cost of funds is
a principal consideration in the implementation of the Bank's balance sheet
management strategies, but such evaluations further consider interest rate and
liquidity risk as well as other pertinent factors.
Management has determined that the retention of certain real estate mortgage
loans, generally 15- and 30-year fixed rate obligations, is inconsistent with
its goal to maintain profitable leverage or the Banks' interest-rate risk
profiles. Accordingly, the majority of such loans are sold to mitigate exposure
to changes in interest rates. Adjustable-rate and balloon real estate mortgage
loans may often be profitably funded within established risk parameters. The
retention of such loans has been a principal focus of the Banks' balance sheet
management strategies. (See "Non-interest income.")
Derivative financial instruments are employed to reduce the cost of alternate
funding sources and manage the Banks' exposure to changes in interest rates. At
June 30, 1998 and December 31, 1997, the Company employed interest rate swaps,
caps and collars with a notional amount of $46.0 million and $38.0 million,
respectively.
DERIVATIVE FINANCIAL INSTRUMENTS
<TABLE>
<CAPTION>
NOTIONAL AVERAGE CAP FLOOR FIXED ANNUAL AMORTIZED FAIR
TYPE AMOUNT MATURITY STRIKE STRIKE PAY COST COST VALUE
- ---------------------- -------------- -------------- ----------- ---------- ---------- ----------- ---------------- ----------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest rate caps $27,000 1.8 years 6.70% .26% $126 $25
Interest rate collars 10,000 2.2 6.42 5.71% (39)
Interest rate swaps 9,000 3.2 5.77% (24)
</TABLE>
RESULTS OF OPERATIONS
SUMMARY Net income totaled $2,539,000 and $2,194,000 during the three months
ended June 30, 1998 and 1997, respectively. During the six-month periods of 1998
and 1997, net income totaled $4,972,000 and 4,328,000, respectively. The
double-digit increases in earnings during these periods are principally the
result of increases in net interest income and non-interest income that were
partially offset by increases in non-interest expense, the provision for loan
losses and federal income tax expense.
13
<PAGE> 15
Key performance ratios for the six-month periods ended June 30, 1998 and 1997,
are set forth below.
KEY PERFORMANCE RATIOS
<TABLE>
<CAPTION>
Three months Six months
ended June 30, ended June 30,
1998 1997 1998 1997
--------------------- ------------------------
<S> <C> <C> <C> <C>
Net income to
Average assets 1.02% 0.94% 1.01% 0.96%
Average equity 15.78 16.32 15.92 16.30
Earnings per common share
Basic $.36 $ .32 $.71 $.63
Diluted .36 .32 .71 .63
Cash basis income to(A)
Average tangible assets 1.18% 1.10% 1.17% 1.12%
Average tangible equity 25.04 27.81 24.99 28.04
Cash basis income per share(A)
Basic $.41 $ .37 $.81 $.73
Diluted .41 .36 .80 .72
</TABLE>
(A) Cash basis financial data exclude intangible assets and the related
amortization expense
NET INTEREST INCOME Tax equivalent net interest income totaled $12,593,000 and
$24,705,000 during the three- and six-month periods ended June 30, 1998,
respectively. Increases in tax equivalent net interest income from $10,826,000
and $21,041,000 during the comparable periods of 1997 are principally the result
of increases in average earning assets as well as an increase in loan fees.
NET INTEREST INCOME AND SELECTED RATIOS
<TABLE>
<CAPTION>
Three months Six months
ended June 30, ended June 30,
1998 1997 1998 1997
----------- ------------ ----------- ------------
<S> <C> <C> <C> <C>
Average earning assets (in thousands) $929,651 $863,009 $921,536 $841,505
Tax equivalent net interest income 12,593 10,826 24,705 21,041
As a percent of average earning assets
Tax equivalent interest income 9.35 % 9.06 % 9.32 % 9.03 %
Interest expense 3.92 4.03 3.95 3.99
Tax equivalent net interest income 5.43 5.03 5.37 5.04
Average earning assets as a
percent of average assets 92.99 % 92.65 % 93.05 % 92.52 %
Free-funds ratio 10.58 % 7.71 % 10.20 % 7.67 %
</TABLE>
14
<PAGE> 16
Increases in average earning assets during both the three- and six-month periods
principally reflect implementation of the Banks' balance sheet management
strategies. (See "Liquidity and capital resources.") Deployment of cash proceeds
from the purchase of branch facilities in December of 1996 also contributed to
the increase average earning assets.
Tax equivalent net interest income was equal to 5.43% and 5.37% of average
earning assets during the three- and six-month periods in 1998, respectively.
The increases from the comparable periods of 1997 were principally the result of
an increase in loan fees. Such fees totaled $1,656,000 and $974,000 during the
three months ended June 30, 1998 and 1997, respectively. During the six-month
periods, loan fees totaled $2,907,000 in 1998 and $1,754,000 in 1997.
Increases in Portfolio Loans as a percent of average earning assets also
contributed to the increase in tax equivalent net interest income as a percent
of average earning assets. Portfolio Loans comprised 81% of earning assets
during the both the three- and six-month periods in 1998 compared to 75% during
the comparable periods in 1997.
PROVISION FOR LOAN LOSSES The provision for loan losses was $670,000 and
$1,303,000 during the three- and six-month periods ended June 30, 1998,
respectively. The increases in the provision from $321,000 and $642,000 during
the comparable periods in 1997 principally reflect the increase in total loans.
(See "Asset quality.")
NON-INTEREST INCOME Non-interest income totaled $3,371,000 and $5,999,000 during
the three- and six-month periods ended June 30, 1998, respectively. The
increases from $1,926,000 and $3,662,000 during the comparable periods of 1997
principally reflect increases in net gains on the sale of real estate mortgage
loans. The revenues associated with deposit account promotions and the Banks'
title insurance agency contributed to the increase in non-interest income during
both periods. The purchase of FHF also contributed to the increase in
non-interest income during the three months ended June 30, 1998. (See
"Acquisitions.")
<TABLE>
<CAPTION>
Three months ended Six months ended
June 30, June 30,
1998 1997 1998 1997
---------------------------------- -----------------------------------
<S> <C> <C> <C> <C>
Real estate mortgage loans
originated $131,295,000 $65,284,000 $250,125,000 $109,535,000
Real estate mortgage loan sales 71,418,000 21,490,000 128,932,000 39,967,000
Real estate mortgage loan
servicing rights sold 8,117,000 4,449,000 35,490,000 9,606,000
Net gains on the sale of real
estate mortgage loans 1,048,000 408,000 1,955,000 836,000
Net gains as a percent of real
estate mortgage loans sold 1.47% 1.90% 1.52% 2.09%
</TABLE>
Net gains on the sale of real estate mortgage loans totaled $1,048,000 and
$1,955,000 during the three- and six-month periods in 1998, respectively. The
increases from $408,000 and $836,000 during the comparable periods of 1997 are
largely the result of an increase in loans sold. A
15
<PAGE> 17
$95,000 gain relating to a bulk sale of servicing rights also contributed to the
increase in net gains during the six-month period in 1998. The decline in net
gains as a percent of loans sold may be largely attributed to a decrease in the
portion of loans sold that have been underwritten pursuant to government
guarantees.
The Banks capitalized approximately $756,000 and $197,000 of related servicing
rights during the six-month periods ended June 30, 1998 and 1997, respectively.
Amortization of capitalized servicing rights for those periods was $152,000 and
$56,000, respectively. The fair value of capitalized servicing rights
approximated the book value of $1,079,000 at June 30, 1998, and therefore, no
valuation allowance was considered necessary. The capitalized servicing rights
relate to approximately $222.0 million of loans sold and serviced at June 30,
1998.
The volume of loans sold is dependent upon the Banks' ability to originate real
estate mortgage loans as well as the demand for fixed-rate obligations and other
loans that the Banks cannot profitably fund within established interest-rate
risk parameters. (See "Asset/liability management.") Net gains on real estate
mortgage loans are also dependent upon economic and competitive factors as well
as the Banks' ability to effectively manage exposure to changes in interest
rates.
NON-INTEREST EXPENSE Non-interest expense totaled $11,369,000 and $21,700,000
during the three- and six-month periods in 1998, respectively. Costs associated
with the origination of real estate mortgage loans and the Banks' title
insurance agency account for the majority of the increase from $9,005,000 and
$17,293,000 during the comparable periods of 1997. Marketing costs related with
certain promotions contributed to the increase in non-interest expense during
both the three- and six-month periods and the acquisition of FHF. also
contributed to the increase in non-interest expense during the most recent
three-month period.
ACQUISITIONS
On April 17, 1998, the Registrant purchased the outstanding capital stock of
First Home Financial, Inc. ("FHF"), an originator of manufactured home loans.
FHF operates as a subsidiary of one the Banks and Management expects that the
majority of the loans originated by FHF will be sold to non-affiliated banks and
finance companies.
Aggregate consideration consisted of 69,000 shares of common stock with an
aggregate value of $1,783,000. The transaction has been accounted for as a
purchase. Goodwill totaled approximately $2.0 million and is being amortized
over 15 years. The consolidated results of operation include FHF's revenues and
expenses, including the amortization of goodwill, totaling $384,000 and
$289,000, respectively.
On June 12, 1998, one of the Banks purchased the real and personal property and
assumed the deposit liabilities associated with two offices of Great Lakes
National Bank. On that date, such deposits totaled $18.3 million and the Bank
recorded an intangible asset of $1.3 million which is being amortized over 10
years.
16
<PAGE> 18
STATEMENT OF FINANCIAL ACCOUNTING STANDARDS
The Financial Accounting Standards Board adopted Statement of Financial
Accounting Standards, No. 133, "Accounting for Derivative Instruments and
Hedging Activities", ("SFAS #133") in June 1998.
SFAS #133 requires companies to record derivatives on the balance sheet as
assets and liabilities measured at fair value. The accounting for increases and
decreases in the value of those derivatives will depend upon the use of those
derivatives and whether or not it qualifies for hedge accounting..
This statement is effective for all fiscal quarters of fiscal years beginning
after June 15, 1999 with earlier application allowed and is to be applied
prospectively. Management has not yet evaluated the impact of the implementation
of this statement.
Item 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
No material changes in the market risk faced by the Registrant has occurred
since December 31, 1997.
17
<PAGE> 19
Item 4. Submission of Matters to a Vote of Security-Holders
The Registrant's Annual Meeting of Shareholders was held on April 21,
1998. As described in the Registrant's proxy statement, dated March 13,
1998, matters to be considered at that meeting were:
(1) Election of two incumbent nominees to the board of directors
Both nominees were nominated to serve three-year terms expiring
in 2001. Tabulation in the election of directors is set forth
below.
<TABLE>
<CAPTION>
Broker Non-Votes
Nominee Votes FOR Votes AGAINST and Abstentions
------- --------- ------------- ---------------
<S> <C> <C> <C>
Charles A. Palmer 5,961,894 0 25,332
Charles C. Van Loan 5,965,850 0 21,377
</TABLE>
Directors whose term of office as a director continued after
the meeting were Robert J. Leppink, Arch V. Wright, Jr., Keith
E. Bazaire, Terry L. Haske, and Thomas F. Kohn.
Item 6. Exhibits & Reports on Form 8-K
(a) Exhibit Number & Description
11. Computation of Earnings per share
27. Financial Data Schedule
(b) Reports on Form 8-K
During the quarter ended June 30, 1998, there were no reports filed on
Form 8-K.
18
<PAGE> 20
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Date August 12, 1998 By s/William R. Kohls
-------------------------- ---------------------------------------
William R. Kohls, Principal Financial
Officer
Date August 12, 1998 By s/James J. Twarozynski
-------------------------- ----------------------------------------
James J. Twarozynski, Principal
Accounting Officer
19
<PAGE> 21
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit No. Description
- ----------- -----------
<S> <C>
11 Computation of Earnings Per Share
27 Financial Data Schedule
</TABLE>
<PAGE> 1
A reconciliation of basic and diluted earnings per share for the
six-month periods ending, June 30 follows:
<TABLE>
<CAPTION>
1998 1997
------------ ------------
(unaudited)
--------------------------
<S> <C> <C>
Basic earnings per share
Net income $ 4,972,000 $ 4,328,000
============ ============
Shares outstanding 6,960,000 6,817,000
============ ============
Per share amount $ .71 $ .63
============ ============
Diluted earnings per share
Net income $ 4,972,000 $ 4,328,000
============ ============
Shares outstanding 6,960,000 6,817,000
Effect of dilutive securities - stock options 87,000 79,000
------------ ------------
7,047,000 6,896,000
============ ============
Per share amount $ .71 $ .63
============ ============
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> JUN-30-1998
<CASH> 33,899
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 101,320
<INVESTMENTS-CARRYING> 20,181
<INVESTMENTS-MARKET> 20,881
<LOANS> 780,152
<ALLOWANCE> 8,538
<TOTAL-ASSETS> 1,034,958
<DEPOSITS> 754,912
<SHORT-TERM> 185,814
<LIABILITIES-OTHER> 12,681
<LONG-TERM> 21,250
0
0
<COMMON> 7,019
<OTHER-SE> 58,664
<TOTAL-LIABILITIES-AND-EQUITY> 1,034,958
<INTEREST-LOAN> 37,529
<INTEREST-INVEST> 4,031
<INTEREST-OTHER> 499
<INTEREST-TOTAL> 42,059
<INTEREST-DEPOSIT> 11,951
<INTEREST-EXPENSE> 18,055
<INTEREST-INCOME-NET> 24,004
<LOAN-LOSSES> 1,303
<SECURITIES-GAINS> 144
<EXPENSE-OTHER> 21,700
<INCOME-PRETAX> 7,000
<INCOME-PRE-EXTRAORDINARY> 7,000
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 4,972
<EPS-PRIMARY> 0.71
<EPS-DILUTED> 0.71
<YIELD-ACTUAL> 5.37
<LOANS-NON> 5,177
<LOANS-PAST> 1,765
<LOANS-TROUBLED> 171
<LOANS-PROBLEM> 3,700
<ALLOWANCE-OPEN> 7,670
<CHARGE-OFFS> 764
<RECOVERIES> 329
<ALLOWANCE-CLOSE> 8,538
<ALLOWANCE-DOMESTIC> 3,366
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 5,172
</TABLE>
