<PAGE> 1
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D.C. 20549
------------------------
FORM 10-Q
------------------------
X QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
- ---- OF 1934
For the quarter ended June 30, 1997
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
- ---- EXCHANGE ACT OF 1934
For the transition period from to
--------- ---------
Commission File Number 0-1100
--------------------------------
HAWTHORNE FINANCIAL CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 95-2085671
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification Number)
2381 ROSECRANS AVENUE, EL SEGUNDO, CA 90245
(Address of Principal Executive Offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE (310) 725-5000
----------------------
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 the number of shares outstanding of each of the issuer's
classes of common stock as of the latest practicable date: The Registrant had
3,039,907 shares of Common Stock, $0.01 par value per share outstanding, as of
July 31, 1997.
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<PAGE> 2
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
FORM 10-Q INDEX
FOR THE QUARTER ENDED JUNE 30, 1997
<TABLE>
<CAPTION>
PART I - FINANCIAL INFORMATION Page
----
<S> <C> <C>
ITEM 1. Financial Statements
Consolidated Statements of Financial Condition
at June 30, 1997 (Unaudited) and December 31, 1996 3
Consolidated Statements of Operations (Unaudited)
for the Three Months and Six Months Ended June 30, 1997 and 1996 4
Consolidated Statement of Stockholders' Equity (Unaudited)
for the Six Months Ended June 30, 1997 5
Consolidated Statements of Cash Flows (Unaudited)
for the Three Months and Six Months Ended June 30, 1997 and 1996 6
Notes to Consolidated Financial Statements (Unaudited) 8
ITEM 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 10
ITEM 3. Quantitative and Qualitative Disclosure About Market Risk 28
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings 29
ITEM 2. Changes in Securities 29
ITEM 3. Defaults upon Senior Securities 29
ITEM 4. Submission of Matters to a Vote of Security Holders 30
ITEM 5. Other Information 30
ITEM 6. Exhibits and Reports on Form 8-K 30
</TABLE>
FORWARD LOOKING STATEMENTS
When used in this Form 10-Q or future filings by the Company with the
Securities and Exchange Commission, in the Company's press releases or other
public or stockholder communications, or in oral statements made with the
approval of an authorized executive officer, the words or phrases "will likely
result", "are expected to", "will continue", "is anticipated", "estimate",
"project", "believe" or similar expressions are intended to identify
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. The Company wishes to caution readers that all
forward-looking statements are necessarily speculative and not to place undue
reliance on any such forward-looking statements, which speak only as of the date
made, and to advise readers that various risks and uncertainties, including
regional and national economic conditions, changes in levels of market interest
rates, credit risks of lending activities, and competitive and regulatory
factors, could affect the Company's financial performance and could cause the
Company's actual results for future periods to differ materially from those
anticipated or projected. The risks highlighted herein should not be assumed to
be the only things that could affect future performance of the Company.
The Company does not undertake, and specifically disclaims any
obligation, to publicly release the result of any revisions which may be made to
any forward-looking statements to reflect the occurrence of anticipated or
unanticipated events or circumstances after the date of such statements.
2
<PAGE> 3
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(DOLLARS ARE IN THOUSANDS)
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1997 1996
(UNAUDITED) (AUDITED)
------------ ----------
<S> <C> <C>
ASSETS
Cash and cash equivalents $ 17,005 $ 93,978
Investment securities available-for-sale, at market 75,470 38,371
Loans receivable (net of allowance for estimated credit losses
of $12,381 in 1997 and $13,515 in 1996) 727,434 672,401
Real estate owned (net of allowance for estimated losses
of $9,377 in 1997 and $11,871 in 1996) 16,772 20,140
Investment in capital stock of Federal Home Loan Bank - at cost 6,991 6,788
Office property and equipment - at cost, net 4,321 4,729
Accrued interest receivable 6,524 4,781
Deferred tax asset, net 5,870 4,243
Other assets 2,709 1,764
--------- ---------
$ 863,096 $ 847,195
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Deposits $ 754,390 $ 717,809
Short-term borrowings 40,000 50,000
Senior notes 12,475 12,307
Accounts payable and other liabilities 4,967 23,157
--------- ---------
811,832 803,273
Stockholders' equity
Preferred stock - $0.01 par value; authorized 10,000,000 shares
Cumulative preferred stock, Series A: liquidation preference,
$50 per share; authorized, 270 shares; outstanding, 270 shares -- --
Common stock - $0.01 par value; authorized, 20,000,000
shares; issued and outstanding, 3,039,907 shares in 1997 and
2,604,675 shares in 1996 30 26
Capital in excess of par value - cumulative preferred stock, series A 11,592 11,592
Capital in excess of par value - common stock 11,657 7,745
Unrealized gain (loss) on available-for-sale securities, net (283) (132)
Retained earnings 28,421 24,858
--------- ---------
51,417 44,089
Less
Treasury stock, at cost - 5,400 shares (48) (48)
Loan to Employee Stock Ownership Plan (105) (119)
--------- ---------
51,264 43,922
--------- ---------
$ 863,096 $ 847,195
========= =========
</TABLE>
3
<PAGE> 4
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(AMOUNTS ARE IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
---------------------- -----------------------
1997 1996 1997 1996
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Interest revenues
Loans, net of nonaccrual income $ 17,175 $ 13,988 $ 32,681 $ 27,721
Cash and investment securities 1,573 2,056 3,074 3,124
-------- -------- -------- --------
18,748 16,044 35,755 30,845
-------- -------- -------- --------
Interest costs
Deposits 9,386 9,294 18,278 18,232
Short-term borrowings 944 121 1,724 121
Senior notes 496 484 979 955
-------- -------- -------- --------
10,826 9,899 20,981 19,308
-------- -------- -------- --------
Net interest income 7,922 6,145 14,774 11,537
Provision for credit losses 1,500 2,489 3,000 3,689
-------- -------- -------- --------
Net interest income after provision for credit losses 6,422 3,656 11,774 7,848
Noninterest revenues
Operating 832 491 1,564 931
Other - 6,333 (13) 6,679
Noninterest expenses
Employee 2,543 2,215 5,310 4,470
Operating 1,121 1,309 2,305 2,407
Occupancy 743 715 1,495 1,425
SAIF premium and OTS assessment 483 595 855 1,180
Professional 354 498 705 949
Goodwill amortization - 12 - 24
-------- -------- -------- --------
Total operating costs 5,244 5,344 10,670 10,455
(Income) loss from real estate operations, net (479) 395 (499) (46)
-------- -------- -------- --------
Total noninterest expenses 4,765 5,739 10,171 10,409
-------- -------- -------- --------
Net earnings before income taxes 2,489 4,741 3,154 5,049
Income tax benefit 935 1,230 1,627 3,483
-------- -------- -------- --------
Net earnings $ 3,424 $ 5,971 $ 4,781 $ 8,532
======== ======== ======== ========
Net earnings available for Common (NOTE 3) $ 2,898 $ 5,523 $ 3,750 $ 7,658
======== ======== ======== ========
Net earnings per share (NOTE 3) $ 0.55 $ 1.07 $ 0.72 $ 1.49
======== ======== ======== ========
Weighted average shares (NOTE 3) 5,244 5,151 5,205 5,151
======== ======== ======== ========
</TABLE>
4
<PAGE> 5
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY (UNAUDITED)
(DOLLARS ARE IN THOUSANDS)
<TABLE>
<CAPTION>
ACCRUED
CHANGE IN DIVIDENDS DIVIDENDS
BALANCE AT EXERCISED UNREALIZED ON PAID ON
DECEMBER 31, STOCK GAINS NET PREFERRED PREFERRED
1996 OPTIONS (LOSSES) EARNINGS STOCK REPAYMENTS STOCK
-------- -------- --------- ---------- --------- ---------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
Common stock $ 26 $ - $ - $ - $ - $ - $ 4
Cumulative preferred stock, series A - - - - - - -
Capital in excess of par value
Common stock 7,745 251 - - - - 3,661
Cumulative preferred stock, series A 11,592 - - - - - -
Unrealized gain (loss) on
available-for-sale securities, net (132) - (151) - - - -
Retained earnings 24,858 - - 4,781 (1,218) - -
Treasury stock (48) - - - - - -
Loan to employee stock ownership plan (119) - - - - 14 -
-------- -------- -------- -------- -------- -------- --------
Total stockholders' equity $ 43,922 $ 251 $ (151) $ 4,781 $ (1,218) $ 14 $ 3,665
======== ======== ======== ======== ======== ======== ========
</TABLE>
<TABLE>
<CAPTION>
BALANCE AT
JUNE 30,
1997
--------
<S> <C>
Common stock $ 30
Cumulative preferred stock, series A -
Capital in excess of par value -
Common stock 11,657
Cumulative preferred stock, series A 11,592
Unrealized gain (loss) on -
available-for-sale securities, net (283)
Retained earnings 28,421
Treasury stock (48)
Loan to employee stock ownership plan (105)
--------
Total stockholders' equity $ 51,264
========
</TABLE>
5
<PAGE> 6
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(DOLLARS ARE IN THOUSANDS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------------- -------------------------
1997 1996 1997 1996
---------- ---------- --------- ----------
<S> <C> <C> <C> <C>
NET CASH FLOWS FROM OPERATING ACTIVITIES
Net earnings $ 3,424 $ 5,971 $ 4,781 $ 8,532
Adjustments
Provision (benefit) for income taxes (935) (1,230) (1,627) (3,483)
Provision for estimated credit losses on loans 1,500 2,489 3,000 3,689
Provision for estimated credit losses on real
estate owned - 1,011 - 1,711
Net gain on sale of deposits and facilities - (6,413) - (6,413)
Net recoveries from sales of real estate owned (443) (539) (467) (1,282)
Net loss (gain) from sale of other assets 10 (66) 9 (268)
Loan fee and discount accretion (918) (819) (1,823) (1,381)
Depreciation and amortization 459 412 904 772
FHLB dividends (94) (93) (204) (174)
Goodwill amortization - 12 - 24
(Increase) decrease in:
Accrued interest receivable (1,822) (235) (1,742) (663)
Other assets 1,329 182 (1,011) (1,145)
Decrease in other liabilities (491) (47) (15,856) (2)
Other, net (2) (44) (42) (118)
--------- --------- --------- ---------
Net cash provided (used) by operating activities 2,017 591 (14,078) (201)
--------- --------- --------- ---------
NET CASH FLOWS FROM INVESTING ACTIVITIES
Investment securities
Purchases (553) (14,516) (40,553) (104,482)
Maturities 795 70,797 795 128,729
Sales proceeds 2,414 - 2,414 -
Mortgage-backed securities
Principal amortization - - - 33
Loans
New loans funded (55,354) (73,654) (99,345) (109,480)
Construction disbursements (29,159) (11,855) (47,109) (21,615)
Payoffs 51,787 17,708 80,981 30,386
Sales proceeds - 36,030 - 68,750
Principal amortization 3,648 3,342 7,984 7,488
Other, net (4,481) (4,662) (6,743) (1,533)
Real estate owned
Sale proceeds 10,211 6,748 15,939 17,577
Capitalized costs (1,636) (2,472) (3,892) (5,306)
Other, net - (1) - (1)
Office property and equipment
Sales proceeds 4 1,829 4 4,551
Additions (104) (140) (215) (180)
--------- --------- --------- ---------
Net cash (used) provided by investing activities (22,428) 29,154 (89,740) 14,917
========= ========= ========= =========
</TABLE>
6
<PAGE> 7
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(DOLLARS ARE IN THOUSANDS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------------ -------------------------
1997 1996 1997 1996
---------- --------- --------- ----------
<S> <C> <C> <C> <C>
NET CASH FLOWS FROM FINANCING ACTIVITIES
Cash received from sale of deposits $ - $(178,884) $ - $(178,884)
Other deposit activity, net 46,276 92,273 36,580 109,130
Net change in borrowings (25,000) 75,000 (10,000) 75,000
Net proceeds from exercise of options 109 - 251 -
Collection of ESOP loan 7 - 14 6
--------- --------- --------- ---------
Net cash provided (used) by financing activities 21,392 (11,611) 26,845 5,252
--------- --------- --------- ---------
INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS 981 18,134 (76,973) 19,968
CASH AND CASH EQUIVALENTS
AT BEGINNING OF PERIOD 16,024 15,849 93,978 14,015
--------- --------- --------- ---------
CASH AND CASH EQUIVALENTS
AT END OF PERIOD $ 17,005 $ 33,983 $ 17,005 $ 33,983
========= ========= ========= =========
SUPPLEMENTAL DISCLOSURES OF
CASH FLOW INFORMATION
Cash paid during the period for
Interest $ 11,129 $ 10,193 $ 20,932 $ 18,890
Income taxes 45 - 174 -
Non-cash investing and financing activities
Real estate acquired in settlement of loans 6,827 6,404 13,546 10,050
Loans originated to finance sales of real estate owned 355 4,252 2,547 11,730
Net change in unrealized gains (losses) on
available-for-sale securities 546 (80) (151) (140)
Loan activity
Total commitments and permanent fundings $ 114,476 $ 103,606 $ 188,555 $ 167,676
Less:
Change in undisbursed funds on construction
commitments (15,255) (7,559) (17,213) (18,012)
Loans originated to finance sales of real estate owned (355) (4,252) (2,547) (11,730)
Non-cash portion of refinanced loans - - (6,300) -
Undisbursed portion of new lines of credit (14,353) (5,482) (16,041) (6,839)
--------- --------- --------- ---------
Net construction disbursements and loans funded $ 84,513 $ 86,313 $ 146,454 $ 131,095
========= ========= ========= =========
</TABLE>
7
<PAGE> 8
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
JUNE 30, 1997
NOTE 1 - SUMMARY OF ACCOUNTING POLICIES
The consolidated financial statements include the accounts of Hawthorne
Financial Corporation and its wholly-owned subsidiary, Hawthorne Savings, F.S.B.
("Bank"), collectively referred to as the "Company". All material intercompany
transactions and accounts have been eliminated.
In the opinion of management, the unaudited consolidated financial
statements contain all adjustments (consisting solely of normal recurring
accruals) necessary to present fairly the Company's financial position as of
June 30, 1997, and December 31, 1996, and the results of its operations and its
cash flows for the three and six months ended June 30, 1997 and 1996. Certain
information and note disclosures normally included in financial statements
prepared in accordance with Generally Accepted Accounting Principles ("GAAP")
have been condensed or omitted pursuant to the rules and regulations of the
Securities and Exchange Commission ("SEC"). Operating results for the three and
six months ended June 30, 1997, are not necessarily indicative of the results
that may be expected for any other interim period or the full year ending
December 31, 1997.
These unaudited consolidated financial statements should be read in
conjunction with the audited consolidated financial statements and notes thereto
included in the Company's Annual Report on Form 10-K for the year ended December
31, 1996.
NOTE 2 - RECLASSIFICATION
Certain amounts in the 1996 consolidated financial statements have been
reclassified, where practicable, to conform with classifications in 1997.
8
<PAGE> 9
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
JUNE 30, 1997
(amounts are in thousands, except for book value and per share data)
NOTE 3 - BOOK VALUE AND EARNINGS PER SHARE
The table below sets forth the Company's book value and earnings per
share calculations for the three and six month periods ended June 30, 1997,
using the Modified Treasury Stock Method as prescribed under GAAP. All other
calculations shown, using alternate methods, are for informational purposes
only. In the table below, (1) Warrants refers to the warrants issued by the
Company in December 1995, which have an exercise price of $2.25 per share and
can be exercised beginning three years from the issue date and for a period of
ten years from the issue date, and (2) Preferred Stock refers to the Cumulative
Preferred Stock Series A issued by the Company in December 1995, which carries
an annual dividend equal to 18% of the liquidation preference of the Preferred
Stock, permits dividends thereon to be paid, under certain circumstances, in
equivalent value of the Company's common stock and had an initial dividend
payment in June 1997.
<TABLE>
<CAPTION>
THREE MONTHS ENDED JUNE 30, 1997 SIX MONTHS ENDED JUNE 30, 1997
--------------------------------------- -------------------------------------------
MODIFIED MODIFIED
TREASURY ACTUAL SHARES, TREASURY ACTUAL SHARES,
STOCK ACTUAL WARRANTS, STOCK ACTUAL WARRANTS,
METHOD SHARES AND OPTIONS METHOD SHARES AND OPTIONS
--------- ----------- ------------ ---------- ------------ -------------
<S> <C> <C> <C> <C> <C> <C>
AVERAGE SHARES OUTSTANDING
Common 2,767 2,767 2,767 2,692 2,692 2,692
Warrants 2,376 -- 2,376 2,376 -- 2,376
Options 655 -- 655 661 -- 661
Less Treasury shares (2) (554) -- -- (524) -- --
-------- -------- -------- -------- ------------ --------
Total 5,244 2,767 5,798 5,205 2,692 5,729
======== ======== ======== ======== ============ ========
Stockholders' Equity
Common $ 39,671 $ 39,671 $ 39,671 $ 39,671 $ 39,671 $ 39,671
Warrants 5,346 -- 5,346 5,346 -- 5,346
Options 3,443 -- 3,443 3,443 -- 3,443
Less Treasury shares (2) (5,781) -- -- (5,258) -- --
-------- -------- -------- -------- ------------ --------
Total $ 42,679 $ 39,671 $ 48,460 $ 43,202 $ 39,671 $ 48,460
======== ======== ======== ======== ============ ========
Net Earnings
Net earnings for the period $ 3,424 $ 4,781
Partial reduction in interest expense (1) 85 187
Preferred stock dividends (611) (1,218)
--------- --------
Adjusted earnings available
for Common $ 2,898 $ 3,750
======== ========
Book value per share $ 8.14 $ 14.34 $ 8.36 $ 8.30 $ 14.74 $ 8.46
======== ======== ======== ======== ============ ========
Earnings per share $ 0.55 $ 1.02 $ 0.49 $ 0.72 $ 1.32 $ 0.62
======== ======== ======== ======== ============ ========
</TABLE>
- --------------------
(1) Under the Modified Treasury Stock Method, it is assumed that the
Company will use proceeds from the proforma exercise of the
Warrants and Options to acquire 20% of the actual shares
currently outstanding (Treasury shares) and use any remaining
assumed proceeds to reduce the outstanding balance of the
Company's Senior Notes. The partial reduction in interest expense
of $85,000 and $187,000 for the three and six months ended June
30, 1997, respectively, represents the proforma reduction in
interest expense as a result of the proforma reduction in the
outstanding balance of Senior Notes.
(2) Treasury shares were assumed to be repurchased at the average
closing stock price for the respective periods.
In February 1997, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards ("SFAS") No. 128 "Earnings
Per Share" which specified the computation, presentation, and disclosure
requirements for earnings per share ("EPS") for entities with publicly held
common stock or potential common stock. The objective of SFAS No. 128 is to
simplify the computation of EPS and to make the U.S. standard for computing EPS
more compatible with the standards of other countries. SFAS No. 128 eliminated
both the "primary" and "fully diluted" EPS and required the computation and
disclosure of "basic" EPS and "diluted" EPS. SFAS No. 128 is effective for
financial statements for both interim and annual periods ending after December
15, 1997. The Company's analysis of SFAS No. 128 concluded that it would have
no impact on the EPS disclosures contained above.
9
<PAGE> 10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
For the quarter ended June 30, 1997, the Company earned $3.4 million, or
$0.55 per share, compared with net earnings of $6.0 million or $1.07 per share
for the same period in 1996. The second quarter of 1996 included a pretax gain
of $6.4 million from the sale of the Company's San Diego deposit franchise.
For the first six months of 1997, the Company earned $4.8 million, or
$0.72 per share, as compared with net earnings of $8.5 million, or $1.49 per
share for the same period in 1996. The 1996 results included a pretax gain of
$6.4 million on the sale of the Company's San Diego deposit franchise. Per share
results for both periods are calculated using the Modified Treasury Stock
Method.
The Bank maintained core and risk-based regulatory capital ratios of
7.21% and 11.67%, respectively, at June 30, 1997, which are in excess of the
regulatory minimums which define a "well capitalized" institution. Total assets
at June 30, 1997 were $863 million, as compared with $847 million at December
31, 1996.
Pretax earnings from the Company's core operations continued to increase
during the second quarter of 1997. Pretax core earnings are earnings after loan
loss provisions and before interest on parent company indebtedness, income
taxes, real estate operations and nonrecurring items. For the three-month period
ended June 30, 1997, pretax core earnings were $2.5 million compared with a
pretax core loss of $0.7 million during the second quarter of 1996. For the
six-months ended June 30, 1997, pretax core earnings were $3.8 million, as
compared to a pretax core loss of $0.7 million for the first six months of 1996.
During the June 1997 quarter, the Company's net interest margin was
3.79% on average interest-earning assets of $837.0 million as compared with a
net interest margin of 3.15% on average interest-earning assets of $781.0
million during the June 1996 quarter. For the six months ended June 30, 1997 and
1996, respectively, the Company's net interest margin and average
interest-earning assets were 3.62% and $815.6 million, and 3.04% and $758.5
million, respectively. For each period, net interest margin excludes interest on
parent company indebtedness.
Recurring noninterest revenues, which consist of loan extension,
modification, prepayment and exit fees and deposit-related service fees,
increased during 1997 as compared to 1996, reaching $0.8 million for the quarter
ended June 30, 1997, as compared with $0.5 million for the quarter ended June
30, 1996. For the six months ended June 30, 1997 and 1996, recurring noninterest
revenues were $1.6 million and $0.9 million, respectively.
During the three and six month periods ended June 30, 1997, real estate
operations produced net revenues of $0.5 million, attributable to net recoveries
from sales of foreclosed properties. During the three and six month periods
ended June 30, 1996, real estate operations produced a net cost of $0.4 million
and a break-even result, respectively. Real estate operations included
provisions of $1.0 million and $1.7 million for the three and six month periods
ended June 30, 1996, respectively.
During the second quarter of 1997, the Company increased its deferred
tax asset to $5.9 million by recording additional income tax benefits of $0.9
million. By comparison, the Company recorded income tax benefits of $1.2 million
for the same period in 1996.
10
<PAGE> 11
OPERATING RESULTS
INTEREST MARGIN
The Company's net interest income, or the difference between the
interest earned on loans and investment securities and the cost of deposits and
borrowings, is affected by several factors, including (1) the level of, and the
relationship between, the dollar amount of interest-earning assets and
interest-bearing liabilities, (2) the maturity of the Company's adjustable-rate
and fixed-rate loans and short-term investment securities and its deposits and
borrowings, (3) the relationship between market interest rates and local deposit
rates offered by competing institutions, and (4) the magnitude of the Company's
nonperforming assets.
The following tables set forth the Company's average balance sheet, and
the related weighted average yields and costs on average interest-earning assets
(inclusive of nonaccrual loans) and interest-bearing liabilities, for the three
and six months ended June 30, 1997 and 1996. In the table, interest revenues
are net of interest associated with nonaccrual loans (dollars are in thousands).
<TABLE>
<CAPTION>
THREE MONTHS ENDED
------------------------------------------------------------------------
JUNE 30, 1997 JUNE 30, 1996
---------------------------------- --------------------------------
AVERAGE REVENUES/ YIELD/ AVERAGE REVENUES/ YIELD/
BALANCE COSTS COST BALANCE COSTS COST
-------- ---------- ------- --------- ---------- --------
<S> <C> <C> <C> <C> <C> <C>
ASSETS
Interest-earning assets
Loans (1) (2) $733,239 $ 17,175 9.37% $629,533 $ 13,988 8.89%
Cash and cash equivalents 19,399 255 5.26% 108,557 1,402 5.17%
Investment securities 77,402 1,224 6.33% 36,347 561 6.17%
Investment in capital stock of
Federal Home Loan Bank 6,948 94 5.41% 6,519 93 5.71%
-------- -------- ------- --------
Total interest-earning assets 836,988 18,748 8.96% 780,956 16,044 8.22%
-------- ---- -------- -----
Noninterest-earning assets 23,022 30,266
-------- --------
Total assets $860,010 $811,222
======== =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest-bearing liabilities
Deposits $726,201 9,386 5.18% $742,520 9,294 5.03%
Short-term borrowings 62,365 944 6.07% 8,333 121 5.84%
Senior notes 12,446 496 15.94% 12,165 484 15.91%
-------- ------- -------- --------
Total interest-bearing liabilities 801,012 10,826 5.42% 763,018 9,899 5.22%
------- ------ -------- ------
Noninterest-bearing liabilities 11,694 5,871
Stockholders' equity 47,304 42,333
-------- ---------
Total liabilities & stockholders' equity $860,010 $811,222
======== =========
Net interest income $ 7,922 $ 6,145
======== =======
Interest rate spread 3.54% 3.00%
======= =======
Net interest margin 3.79% 3.15%
======= =======
</TABLE>
- ---------------------
(1) Includes nonaccrual loans of $19.9 million and $21.8 million for
the three months ended June 30, 1997 and June 30, 1996,
respectively.
(2) Includes amortization of loan fees and discounts of $0.9 million
and $0.8 million for the three months ended June 30, 1997 and
1996, respectively.
<TABLE>
<CAPTION>
SIX MONTHS ENDED
------------------------------------------------------------------------
JUNE 30, 1997 JUNE 30, 1996
---------------------------------- --------------------------------
AVERAGE REVENUES/ YIELD/ AVERAGE REVENUES/ YIELD/
BALANCE COSTS COST BALANCE COSTS COST
-------- ---------- ------- --------- ---------- --------
<S> <C> <C> <C> <C> <C> <C>
ASSETS
Interest-earning assets
Loans (1) (2) $708,458 $ 32,681 9.23% $642,080 $ 27,721 8.63%
Cash and cash equivalents 38,956 989 5.08% 82,688 2,162 5.23%
Investment securities 61,303 1,881 6.14% 27,256 788 5.78%
Investment in capital stock of
Federal Home Loan Bank 6,898 204 5.91% 6,463 174 5.38%
-------- -------- ------- --------
Total interest-earning assets 815,615 35,755 8.77% 758,487 30,845 8.13%
-------- ---- -------- -----
Noninterest-earning assets 29,616 31,659
-------- --------
Total assets $845,231 $790,146
======== =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest-bearing liabilities
Deposits $716,031 18,278 5.15% $725,205 18,232 5.06%
Short-term borrowings 57,150 1,724 6.08% 4,120 121 5.91%
Senior notes 12,395 979 15.93% 12,091 955 15.88%
-------- ------- -------- --------
Total interest-bearing liabilities 785,576 20,981 5.40% 741,416 19,308 5.24%
------- ------ -------- ------
Noninterest-bearing liabilities 14,302 7,176
Stockholders' equity 45,353 41,554
-------- ---------
Total liabilities & stockholders' equity $845,231 $790,146
======== =========
Net interest income $ 14,774 $11,537
======== =======
Interest rate spread 3.37% 2.89%
======= =======
Net interest margin 3.62% 3.04%
======= =======
</TABLE>
- ---------------------
(1) Includes nonaccrual loans of $24.4 million and $23.8 million for
the six months ended June 30, 1997 and June 30, 1996,
respectively.
(2) Includes amortization of loan fees and discounts of $1.8 million
and $1.4 million for the six months ended June 30, 1997 and 1996,
respectively.
11
<PAGE> 12
The tables below summarize the components of the changes in the
Company's interest revenues and costs for the three and six months ended June
30, 1997 and 1996 (dollars are in thousands).
<TABLE>
<CAPTION>
THREE MONTHS ENDED JUNE 30, 1997 AND 1996
INCREASE (DECREASE) DUE TO CHANGE IN
------------------------------------------
RATE AND NET
VOLUME RATE VOLUME(1) CHANGE
------ ---- --------- ------
<S> <C> <C> <C> <C>
INTEREST REVENUES
Loans(2) $ 2,304 $758 $125 $ 3,187
Cash and cash equivalents (1,151) 25 (21) (1,147)
Investment securities 633 14 16 663
Investment in capital stock of
Federal Home Loan Bank 6 (5) - 1
------- ---- ---- -------
1,792 792 120 2,704
------- ---- ---- -------
INTEREST COSTS
Deposits (204) 303 (7) 92
Short-term borrowings 785 5 33 823
Senior notes 11 1 - 12
------- ---- ---- -------
592 309 26 927
------- ---- ---- -------
NET INTEREST INCOME $ 1,200 $483 $ 94 $ 1,777
======= ==== ==== =======
</TABLE>
- ------------------------
(1) Calculated by multiplying change in rate by change in volume.
(2) Interest on loans is net of interest on nonaccrual loans and includes
amortization of loan fees and discounts.
<TABLE>
<CAPTION>
Six Months Ended June 30, 1997 and 1996
Increase (Decrease) Due to Change In
----------------------------------------------
Rate and Net
Volume Rate Volume (1) Change
-------- -------- ---------- -------
<S> <C> <C> <C> <C>
Interest Revenues
Loans (2) $ 2,865 $ 1,899 $ 196 $ 4,960
Cash and cash equivalents (1,143) (63) 33 (1,173)
Investment securities 985 48 60 1,093
Investment in capital stock of
Federal Home Loan Bank 12 17 1 30
------- ------- ------- -------
2,719 1,901 290 4,910
------- ------- ------- -------
Interest Costs
Deposits (229) 280 (5) 46
Short-term borrowings 1,548 4 51 1,603
Senior notes 19 5 - 24
------- ------- ------- -------
1,338 289 46 1,673
------- ------- ------- -------
Net Interest Income $ 1,381 $ 1,612 $ 244 $ 3,237
======= ======= ======= =======
</TABLE>
- ----------------------
(1) Calculated by multiplying change in rate by change in volume.
(2) Interest on loans is net of interest on nonaccrual loans and
includes amortization of loan fees and discounts.
For the first six months of 1997, the Company's net interest income
increased by $3.2 million over the same period in 1996 and, expressed as a
percentage of average interest-earning assets for the same six-month periods,
the Company's net interest margin increased to 3.62% from 3.04%. The higher net
interest income realized during the first half of 1997 reflects net loan growth,
which accounted for virtually all of the Company's earning asset growth
period-over-period, and an increase in the yield on the Company's total loan
portfolio, which was attributable to the higher yields associated with the
Company's new loan production since mid-1996.
PROVISIONS FOR ESTIMATED CREDIT LOSSES ON LOANS
For the three and six months ended June 30, 1997, the Company recorded
loan loss provisions of $1.5 million and $3.0 million, respectively, compared
with loan loss provisions of $2.5 million and $3.7 million recorded during the
three and six months ended June 30, 1996, respectively. The provisions recorded
during the first half of 1997 were sufficient to leave largely unchanged the
Company's general loan loss reserves at June 30, 1997 as compared to their level
at June 30, 1996, after giving effect to (1) the substantial reduction in
nonperforming and classified assets at June 30, 1997 as compared to June 30,
1996, and (2) transfers to specific reserves (and, in certain instances,
charge-offs of such reserves) for new loan delinquencies and property
acquisitions through foreclosure.
12
<PAGE> 13
NONINTEREST REVENUES
The table below sets forth information concerning the Company's
non-interest revenues for the periods indicated (dollars are in thousands).
<TABLE>
<CAPTION>
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
-------------------------------- ---------------------------------
1997 1996 CHANGE 1997 1996 CHANGE
------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
OPERATING
Other loan and escrow fees $ 654 $ 333 $ 321 $ 1,120 $ 601 $ 519
Other revenues 178 158 20 444 330 114
------- ------- ------- ------- ------- -------
$ 832 $ 491 $ 341 $ 1,564 $ 931 $ 633
======= ======= ======= ======= ======= =======
OTHER
Disposition of deposits and
premises $ - $ 6,413 $(6,413) $ - $ 6,452 $(6,452)
Other, net - (80) 80 (13) 227 (240)
------- ------- ------- ------- ------- -------
$ - $ 6,333 $(6,333) $ (13) $ 6,679 $(6,692)
======= ======= ======= ======= ======= =======
</TABLE>
Loan-related fee revenues, which include prepayment, extension,
modification, escrow and exit fees collected from customers, increased in 1997
as compared with 1996 primarily because of a higher level of loan repayments for
which borrowers paid the Company a prepayment penalty. During the second quarter
of 1996, the Company sold its entire San Diego deposit franchise and related
branch offices, realizing a pretax gain thereon of $6.4 million. Also during the
1996 second quarter, the Company sold $68.9 million of loans, realizing a gain
thereon of $0.2 million.
NONINTEREST EXPENSES - OPERATING COSTS
The table below details the Company's operating costs for the periods
indicated (dollars are in thousands).
<TABLE>
<CAPTION>
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
------------------------------------ -----------------------------------
1997 1996 CHANGE 1997 1996 CHANGE
-------- -------- --------- -------- -------- ---------
<S> <C> <C> <C> <C> <C> <C>
Employee $ 2,543 $ 2,215 $ 328 $ 5,310 $ 4,470 $ 840
Operating 1,121 1,309 (188) 2,305 2,407 (102)
Occupancy 743 715 28 1,495 1,425 70
SAIF insurance premium
and OTS assessment 483 595 (112) 855 1,180 (325)
Professional 354 498 (144) 705 949 (244)
Goodwill - 12 (12) - 24 (24)
-------- -------- -------- -------- -------- --------
$ 5,244 $ 5,344 $ (100) $ 10,670 $ 10,455 $ 215
======== ======== ======== ======== ======== ========
</TABLE>
During the last half of 1996 and continuing into the first quarter of
1997, the Company added numerous experienced professionals to further complement
its cadre of lending personnel in response to an increasing demand for the
Company's loan products and services. Accordingly, employee-related costs for
the first half of 1997 were nearly 20% higher than such costs for the comparable
period in 1996. SAIF insurance premiums declined from approximately $0.29 to
$0.24 subsequent to the September 1996 SAIF recapitalization legislated by the
U.S. Congress, and the balance of the Company's insured deposits declined
immediately following the sale of its San Diego deposit franchise, both of which
contributed to a nearly 27% decline in SAIF premiums during the first half of
1997 as compared with the same period in 1996.
13
<PAGE> 14
NONINTEREST EXPENSES - REAL ESTATE OPERATIONS
The table below sets forth the revenues and costs attributable to the
Company's real estate owned for the periods indicated. The compensatory and
legal costs directly associated with the Company's property management and
disposal operations are included in the table above in NONINTEREST EXPENSES -
OPERATING COSTS (dollars are in thousands).
<TABLE>
<CAPTION>
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
---------------------------------- ---------------------------------
1997 1996 CHANGE 1997 1996 CHANGE
-------- -------- -------- -------- -------- -------
<S> <C> <C> <C> <C> <C> <C>
EXPENSES ASSOCIATED WITH
REAL ESTATE OWNED
Property taxes $ 21 $ 47 $ 26 $ 42 $ 130 $ 88
Repairs, maintenance
and renovation 17 57 40 31 98 67
Insurance 36 41 5 79 119 40
------- ------- ------- ------- ------- -------
74 145 71 152 347 195
NET RECOVERIES FROM SALE
OF PROPERTIES (443) (538) (95) (467) (1,282) (815)
PROPERTY OPERATIONS, NET (110) (223) (113) (184) (822) (638)
PROVISION FOR ESTIMATED LOSSES
ON REAL ESTATE OWNED - 1,011 1,011 - 1,711 1,711
------- ------- ------- ------- ------- -------
(INCOME) LOSS FROM REAL
ESTATE OPERATIONS, NET $ (479) $ 395 $ 874 $ (499) $ (46) $ 453
======= ======= ======= ======= ======= =======
</TABLE>
The costs included in the table above (and, therefore, excluded from
operating costs (see NONINTEREST EXPENSES -- OPERATING COSTS), reflect holding
costs directly attributable to the portfolio of real estate owned.
Net recoveries from property sales represent the difference between the
proceeds received from property disposal and the carrying value of such
properties upon disposal. During the six months ended June 30, 1997 and June 30,
1996, the Company sold 81 properties generating net cash proceeds of $15.9
million and sold 103 properties generating net cash proceeds of $17.6 million,
respectively.
Property operations principally include the net operating income
(collected rental revenues less operating expenses and certain renovation costs)
from foreclosed apartment buildings or receipt, following foreclosure, of
similar funds held by receivers during the period the original loan was in
default. The decline in income from this source during 1997 was a result of a
decline in the number of apartment buildings held by the Company.
INCOME TAXES
The Company recorded an income tax benefit of $0.9 million and $1.2
million for the three months ended June 30, 1997 and 1996, respectively, and
$1.6 million and $3.5 million for the six months ended June 30, 1997 and 1996,
respectively. At June 30, 1997, the Company had approximately $10.3 million of
accumulated income tax benefits, consisting primarily of net operating loss
carryforwards and future tax deductions which had not been recognized for
financial statement purposes and are available to be utilized to shield future
earnings from income taxes, both for financial reporting and income tax
reporting purposes. The recognition of these accumulated income tax benefits is
subject to limitations under GAAP and for regulatory capital purposes. The
primary factor affecting the timing and magnitude of recognition of these
accumulated income tax benefits is the current and future profitability of the
Company. Additionally, no more than 10% of the Bank's regulatory capital can be
represented by a deferred tax asset created pursuant to anticipated future
utilization of an institution's income tax benefits. Should the Company cease to
be profitable, or should the Company record substantial operating losses in the
future, all or a portion of the deferred tax asset established to date may need
to be reversed. Management believes that the Company's income tax accounting
practices fully comport with GAAP and have been and are appropriate in the
circumstances.
14
<PAGE> 15
FINANCIAL CONDITION, CAPITAL RESOURCES & LIQUIDITY AND ASSET QUALITY
ASSETS
CASH AND CASH EQUIVALENTS
Cash and cash equivalents consist of cash on hand, deposits at
correspondent banks and Federal funds sold. The Company maintains balances at
correspondent banks to cover daily inclearings, wire activities and other
charges. Cash and cash equivalents at June 30, 1997, were $17.0 million, a
decrease from $94.0 million at December 31, 1996. This decrease in cash balances
from year end resulted from the deployment of excess cash on hand at December
31, 1996 into securities and loans.
INVESTMENT SECURITIES
Investment securities totaled $75.5 million at June 30, 1997, an
increase of $37.1 million over the year end 1996 balance of $38.4 million. This
increase was due to the first quarter 1997 purchase of $40.0 million in U.S.
Government Agency callable bonds. Partially offsetting this increase in
investment securities was the June liquidation of $2.4 million in U.S. Treasury
notes, which represented the remaining prefunded interest on the Senior Notes.
This liquidation was possible because in June 1997 the holders of the Company's
Senior Notes agreed to release the Company from its requirement to maintain the
balance of prefunded interest on the Senior Notes. The proceeds of this sale
were contributed to the Bank's Tier 1 capital.
The cost basis and estimated fair value of investment securities
available-for-sale are summarized as follows (dollars are in thousands):
<TABLE>
<CAPTION>
JUNE 30, 1997
---------------------------------------------
GROSS UNREALIZED ESTIMATED
AMORTIZED ------------------- FAIR
COST GAINS LOSSES VALUE
--------- -------- -------- -------
<S> <C> <C> <C> <C>
U.S. Government $35,200 $ -- $ 103 $35,097
U.S. Government agency 40,000 -- 181 39,819
Bond fund 553 1 -- 554
------- ------- ------- -------
$ 75,753 $1 $ 284 $75,470
======= ======= ======= =======
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, 1996
-------------------------------------------------
GROSS UNREALIZED ESTIMATED
AMORTIZED --------------------- FAIR
COST GAINS LOSSES VALUE
----------- --------- --------- -----------
<S> <C> <C> <C> <C>
U.S. Government $ 38,503 $ - $ 132 $ 38,371
=========== ========= ========= ===========
</TABLE>
15
<PAGE> 16
The cost basis and estimated fair value of investment securities
available-for-sale at June 30, 1997, are summarized by contractual maturity as
follows (dollars are in thousands):
<TABLE>
<CAPTION>
ESTIMATED
FAIR
COST BASIS VALUE YIELD
---------- ------- -----
<S> <C> <C> <C>
Due in less than one year $ 553 $ 554 5.87%
Due in one year through five years 35,200 35,097 5.62%
Due in more than five years 40,000 39,819 7.00%
------- -------
$75,753 $75,470 6.35%
======= =======
</TABLE>
LOANS
GENERAL
The two tables that follow set forth the composition of the Company's
loan portfolio, and the percentage of composition by type of security,
delineated by the year of origination and in total, as of the dates indicated
(dollars are in thousands).
<TABLE>
<CAPTION>
JUNE 30, 1997 DECEMBER 31, 1996
---------------------- ---------------------
BALANCE PERCENT BALANCE PERCENT
---------- --------- --------- ----------
<S> <C> <C> <C> <C>
PERMANENT LOANS
Single family (1-4 units)
Estate(1) $133,193 16.4% $107,891 14.6%
Conventional 167,196 20.6 170,038 23.0
Project concentrations 53,729 6.6 61,268 8.3
Multi-family (five or more units) 226,805 28.0 220,707 29.6
Commercial real estate 83,218 10.3 60,388 8.2
Land 15,814 2.0 14,513 2.0
Residential Construction
Single family 83,048 10.2 56,306 7.6
Tract development 37,073 4.6 33,791 4.6
Other 10,421 1.3 15,684 2.1
--------------------- ---------------------
Gross Loans Receivable 810,497 100.0% 740,586 100.0%
============ ============
LESS
Participants' share (3,757) (1,413)
Undisbursed loan funds (59,169) (46,646)
Deferred loan fees and (7,756) (6,611)
credits, net
Allowance for estimated losses (12,381) (13,515)
--------- ---------
Net Loans Receivable $ 727,434 $ 672,401
========= =========
</TABLE>
- --------------------
(1) Generally defined as individual loans with principal balances of more than
$1.0 million.
16
<PAGE> 17
<TABLE>
<CAPTION>
JUNE 30, 1997
-------------------------------------
POST-1994 PRE-1995 TOTAL
----------- ----------- ----------
<S> <C> <C> <C>
PERMANENT
Single family (1-4 units)
Estate $133,193 $ - $133,193
Conventional 35,785 131,411 167,196
Project concentrations 1,839 51,890 53,729
Multi-family (five or more units) 111,325 115,480 226,805
Commercial real estate 76,098 7,120 83,218
Land 14,978 836 15,814
RESIDENTIAL CONSTRUCTION
Single family (1-4) 83,048 - 83,048
Tract development 37,073 - 37,073
OTHER 10,421 - 10,421
-------- -------- --------
GROSS LOANS RECEIVABLE $503,760 $306,737 $810,497
======== ======== ========
</TABLE>
The Company's loan portfolio is almost exclusively concentrated in
Southern California real estate. At June 30, 1997, 43.6% of the Company's loan
portfolio consisted of permanent loans secured by single family residences,
28.0% consisted of permanent loans secured by multi-family residential
properties, and 27.1% consisted of loans to finance commercial properties, the
acquisition of land and construction.
The table below sets forth the approximate composition of the Company's
new loan commitments for the periods indicated (dollars are in thousands).
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED FOR THE SIX MONTHS ENDED
JUNE 30, 1997 JUNE 30, 1997
------------------------- -----------------------
TYPE OF SECURITY AMOUNT % AMOUNT %
- -------------------------------------- ----------- --------- --------- -----------
Single family (1-4 units)
<S> <C> <C> <C> <C>
Estate (1) $ 11,300 9.9% $ 31,200 16.5%
Conventional 4,400 3.8 7,700 4.1
Project concentrations 12,500 10.9 21,900 11.6
Multi-family (five or more units) (2) 35,900 31.4 55,900 29.6
Commercial (3) 44,400 38.8 64,300 34.2
Other 6,000 5.2 7,600 4.0
-------- ------ -------- ------
$114,500 100.0% $188,600 100.0%
======== ====== ======== ======
</TABLE>
- -----------------------
(1) For the three and six months ended June 30, 1997, this includes
unfunded commitments under lines of credit of $1.5 million and
$3.2 million, respectively.
(2) Includes $0.4 million and $2.3 million of financings provided in
connection with sales of previously foreclosed properties for the
three and six month periods ended June 30, 1997, respectively.
(3) For the three months ended June 30, 1997, includes unfunded
commitments under lines of credit of $12.9 million.
17
<PAGE> 18
ASSET QUALITY
NONACCRUAL, PAST DUE AND RESTRUCTURED LOANS
The Company places loans on nonaccrual status when (1) they become one
or more payments delinquent or (2) management believes that, with respect to
performing loans, continued collection of principal and interest from the
borrower is not reasonably assured.
The following table provides information regarding the Company's
nonaccrual loans as of the dates indicated.
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31, JUNE 30,
1997 1996 1996
------- -------- --------
<S> <C> <C> <C>
Loans past due 90 days or more $11,874 $16,643 $12,888
Loans past due 30-89 days 4,721 10,082 6,560
Other nonaccrual loans 183 1,898 3,128
------- ------- -------
Total nonaccrual loans (1) $16,778 $28,623 $22,576
======= ======= =======
Reserves to loans past due 90 days or more 104.3% 81.2% 122.3%
Reserves to total nonaccrual loans 73.8% 47.2% 69.8%
</TABLE>
- -------------------
(1) Includes $1.1 million, $5.6 million and $5.0 million of troubled
debt restructured loans ("TDRs") at June 30, 1997, December 31, 1996 and June
30, 1996 respectively. Excludes $27.3 million, $33.5 million and $28.1 million
of TDRs which were performing in accordance with their modified terms.
Total nonaccrual loans were $16.8 million at June 30, 1997 compared
with $28.6 million at December 31, 1996 and $22.6 million at June 30, 1996.
Included in total loans past due 90 days or more at June 30, 1997, December 31,
1996 and June 30, 1996, are $6.6 million, $10.9 million and $12.9 million,
respectively, of loans originated prior to 1995. This reduction in pre-1995
nonperforming loans is consistent with the Company's current and improving
asset migration measures.
The thrift industry is exposed to economic trends and fluctuations in
real estate values. In recent periods, those trends have been recessionary in
nature, particularly in Southern California. Accordingly, the trends have
adversely affected both the delinquencies being experienced by institutions such
as the Company and the ability of such institutions to recoup principal and
accrued interest through acquisition and sale of the underlying collateral. No
assurances can be given that such trends will not continue in future periods,
creating increasing downward pressure on the earnings and capital of thrift
institutions.
18
<PAGE> 19
CLASSIFIED ASSETS
The table below sets forth the composition of the Company's classified
assets at the dates indicated. Classified assets include owned properties,
nonaccrual loans and performing loans which have been adversely classified
pursuant to OTS regulations and guidelines ("Performing/Classified" loans)
(dollars are in thousands).
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31, JUNE 30,
1997 1996 1996
-------- -------- ---------
<S> <C> <C> <C>
NONPERFORMING ASSETS
Properties, net of reserves $ 16,772 $ 20,140 $ 22,404
Nonperforming Loans (1) 11,874 16,643 12,888
-------- -------- --------
GROSS NONPERFORMING ASSETS 28,646 36,783 35,292
OTHER CLASSIFIED LOANS
Other Delinquent Loans (2) 4,721 10,082 6,560
Performing Loans Classified Loss,
Doubtful and Substandard (3) 41,319 46,987 66,957
-------- -------- --------
GROSS CLASSIFIED ASSETS $ 74,686 $ 93,852 $108,809
======== ======== ========
GROSS CLASSIFIED LOANS (4) (5) (7) $ 57,914 $ 73,712 $ 86,405
======== ======== ========
LOANS RECEIVABLE (6) $739,815 $685,916 $660,067
======== ======== ========
RESERVES ON LOANS
Specific $ 2,119 $ 2,185 $ 5,650
General 10,262 11,330 10,112
-------- -------- --------
$ 12,381 $ 13,515 $ 15,762
======== ======== ========
TOTAL RESERVES TO LOANS RECEIVABLE 1.7% 2.0% 2.4%
TOTAL RESERVES TO CLASSIFIED LOANS 21.4% 18.3% 18.2%
TOTAL RESERVES TO NONPERFORMING LOANS 104.3% 81.2% 122.3%
GROSS NONPERFORMING ASSETS TO TOTAL ASSETS 3.3% 4.3% 4.7%
GROSS CLASSIFIED ASSETS TO BANK CORE CAPITAL AND
GENERAL LOAN LOSS RESERVES 103.2% 147.4% 171.1%
</TABLE>
__________________
(1) Loans 90 days or more past due. All such loans are on nonaccrual
status.
(2) Loans 30 to 89 days past due. All such loans are on nonaccrual
status.
(3) Includes $0.2 million, $1.9 million and $3.1 million of
performing loans on nonaccrual status at June 30, 1997, December
31, 1996 and June 30, 1996, respectively.
(4) Includes $16.8 million, $28.6 million and $22.6 million of
nonaccrual loans at June 30, 1997, December 31, 1996 and June
30, 1996, respectively.
(5) At June 30, 1997, included $40.6 million of loans originated
prior to 1995.
(6) Net loans receivable are exclusive of the allowance for loan
losses.
(7) The Company has identified no potential problem loans that are
not already included above.
The carrying value of nonperforming assets (i.e., real estate owned and
loans 90 days or more past due) decreased to $28.6 million, or 3.3% of total
assets, at June 30, 1997, from $36.8 million, or 4.3% of total assets, at
December 31, 1996, and $35.3 million, or 4.7% of total assets, at June 30, 1996.
The carrying value of nonperforming assets peaked at $151.2 million in December
1993.
19
<PAGE> 20
The table below sets forth the Company's gross classified loan portfolio
as of June 30, 1997 (dollars are in thousands).
<TABLE>
<CAPTION>
CLASSIFIED LOANS
-----------------------------------------------
OTHER PERFORMING
NON-PERFORMING DELINQUENCIES LOANS TOTAL
-------------- -------------- ----------- ------
<S> <C> <C> <C> <C>
Single family (1-4 units)
Estate $ 5,048 $ 1,014 $ 887 $ 6,949
Conventional 3,410 1,513 5,566 10,489
Project concentrations 2,265 1,693 13,369 17,327
Multi-family (five or more units) 1,108 501 13,230 14,839
Commercial real estate - - 2,569 2,569
Land 43 - - 43
Residential construction
Single Family - - 476 476
Tract development - - 1,792 1,792
Other collateralized loans - - 3,430 3,430
------- ------- ------- -------
Gross Loans Receivable $11,874 $ 4,721 $41,319 $57,914
======= ======= ======= =======
</TABLE>
At June 30, 1997, the Company's nonaccrual loans of $16.8 million
consisted of $6.8 of loan principal originated since 1994, or 1.3% of the $503.8
million of such loan principal outstanding at quarter-end. The remaining $10.0
million of nonaccrual loans at quarter-end were represented by loans originated
prior to 1995 (with most emanating from 1991 and prior), and represented 3.3% of
the $306.7 million of such loan principal outstanding at June 30, 1997. All of
the Company's foreclosed properties had their genesis with loans made prior to
1995.
The discussion below summarizes the classified assets composition
within each of the Company's principal loan portfolios.
ESTATE
At June 30, 1997, 5.2% (measured in dollars) of the Company's Estate
loan portfolio was classified. Within this group of classified loan principal,
3 loans ($5.0 million) were delinquent three or more payments, 1 loan ($1.0
million) was one payment delinquent and 1 loan ($0.9 million) was performing in
accordance with its original terms and was classified Substandard. Subsequent
to June 30, 1997, for loans three or more payments delinquent, the collateral
for one loan ($2.3 million) was acquired via foreclosure and the delinquency
associated with one loan ($0.9 million) was cured via cash payments by the
borrower with no modification of terms. Also subsequent to June 30, 1997, the
delinquency associated with the loan one payment delinquent at that date was
cured via cash payment by the borrower with no modification of terms.
CONVENTIONAL
Conventional single family homes consist of delinquent and
performing/classified loans secured by single family homes which are not part of
an integrated development nor included with Estate loans. At June 30, 1997, 6.3%
(measured in dollars) of the Company's conventional single family loan portfolio
was classified. Within this group of classified loan principal, 17 loans ($3.4
million) were delinquent three or more payments, 12 loans ($1.5 million) were
delinquent one or two payments, and 25 loans ($5.6 million) were performing,
generally in accordance with their original terms and were classified
Substandard. In addition, the Company owned 7 homes previously acquired through
foreclosure with a net carrying value of $0.9 million.
PROJECT CONCENTRATIONS
Prior to 1994, the Company made permanent loans to a large number of
purchasers of individual units from developers in for-sale housing developments
with respect to which the Company financed construction. A majority of these
permanent "takeout" loans were originated during the period 1988 through 1992
and were made on terms that fell outside the parameters normally associated with
conforming or conventional single family home loans. Historically, the
performance of this portfolio has been extremely poor.
At June 30, 1997, 32.2% (measured in dollars) of the Company's project
concentration loan portfolio was classified. Within this group of classified
loan principal, 18 loans ($2.3 million) were delinquent three or more payments,
12 loans ($1.7 million) were delinquent one or two payments, and 94 loans
($13.4 million) were performing, generally in accordance with their original
terms and were classified Substandard. In addition, the Company owned 127 units
previously acquired through foreclosure with a net carrying value of $5.9
million (or approximately $46,000 per unit).
APARTMENT BUILDINGS
At June 30, 1997, 6.5% (measured in dollars) of the Company's
apartment-secured loan portfolio was classified. Within this group of loan
principal, 2 loans ($1.1 million) were delinquent three or more payments, 1
loan ($0.5 million) was delinquent one payment, and 18 loans ($13.2 million)
were performing generally in accordance with their original terms and were
classified Substandard. In addition, the Company owned 6 buildings previously
acquired through foreclosure with a net carrying value of $1.9 million.
COMMERCIAL REAL ESTATE
At June 30, 1997, none of the Company's commercial real estate-secured
loan portfolio was delinquent and 1 loan ($2.6 million) was performing in
accordance with its original terms and was classified Substandard.
20
<PAGE> 21
CREDIT LOSSES
The Company maintains reserves against specific assets in those
instances in which it believes that full recovery of the Company's gross
investment is unlikely. As of June 30, 1997, the Company had established
specific reserves based upon current indications of property values and the
costs associated with their respective disposition. In addition, management
establishes general valuation allowances ("GVAs") against its loan and property
portfolios when sufficient information does not exist to support establishing
specific reserves. The loss factors utilized to establish general reserves are
based upon (1) estimated migration levels for similar loans and risk levels
against the estimated loss content of the collateral securing the loan, or (2)
estimates of current liquidation values for collateral securing performing loans
for a representative sampling of each portfolio segment.
The table below sets forth the amounts and percentages of general and
specific reserves for the Company's loan and property portfolios as of June 30,
1997 (dollars are in thousands).
<TABLE>
<CAPTION>
LOANS
-------------------------
PERFORMING DELINQUENT PROPERTIES TOTAL
---------- ---------- ---------- -------
<S> <C> <C> <C> <C>
Specific reserves $ 678 $ 1,441 $ 8,965 $11,084
General reserves 9,703 559 412 10,674
------- ------- ------- -------
Total reserves for estimated losses $10,381 $ 2,000 $ 9,377 $21,758
======= ======= ======= =======
</TABLE>
The table below summarizes the activity of the Company's reserves for
the periods indicated (dollars are in thousands).
21
<PAGE> 22
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
---------------------------- -------------------------
1997 1996 1997 1996
----------- ------------ ------------ ------------
<S> <C> <C> <C> <C>
LOANS
Average loans outstanding $ 728,252 $ 634,631 $ 708,425 $ 642,080
========= ========= ========= =========
Reserve balance at beginning of period $ 13,657 $ 15,353 $ 13,515 $ 15,193
Provision for estimated losses 1,500 2,489 3,000 3,689
Charge-offs:
Permanent loans
Single family (1-4 units) (1,943) (1,060) (2,356) (1,728)
Multi-family (five or more units) (341) (786) (856) (1,368)
Land - - (150) -
Other (11) - (11) -
--------- --------- --------- ---------
Net charge-offs (2,295) (1,846) (3,373) (3,096)
Transfer to property and other reserves (481) (234) (761) (24)
--------- --------- --------- ---------
Balance at end of period $ 12,381 $ 15,762 $ 12,381 $ 15,762
========= ========= ========= =========
Ratio of net charge-offs to average loans
outstanding during the period 0.32% 0.29% 0.48% 0.48%
REAL ESTATE OWNED
Reserve balance at beginning of period $ 9,659 $ 12,317 $ 11,871 $ 15,724
Provision for estimated losses - 1,011 - 1,711
Transfers from loan reserves 481 234 761 24
Charge-offs (763) (1,653) (3,255) (5,550)
--------- --------- --------- ---------
Balance at end of period $ 9,377 $ 11,909 $ 9,377 $ 11,909
========= ========= ========= =========
</TABLE>
Because the Company's loan portfolio is not homogeneous, but rather
consists of discreet segments with different collateral and borrower risk
characteristics, management separately measures reserve adequacy, and
establishes and maintains reserves for credit losses, for each identifiable
segment of this portfolio. Based on the reduced level of nonperforming assets at
June 30, 1997, particularly in the Company's pre 1995 loan portfolio on which
the Company has realized all of its most significant credit losses, the Company
would expect charge-offs for all categories of loans to be moderate in future
periods. However, no assurances can be made that this will occur. The table
below summarizes credit loss reserves at the dates indicated (dollars are in
thousands).
<TABLE>
<CAPTION>
JUNE 30, 1997 DECEMBER 31, 1996
-------------------- ----------------------
% OF % OF
BALANCE ASSET TYPE BALANCE ASSET TYPE
---------- ---------- ------- -----------
<S> <C> <C> <C> <C>
PERMANENT
Single family (1-4 units)
Estate $ 876 0.7% $ 279 0.3%
Conventional 1,655 1.0% 1,702 1.0%
Project concentrations 3,803 7.1% 4,495 7.3%
Multi-family (five or more units) 3,350 1.5% 5,216 2.4%
Commercial real estate 1,469 1.8% 1,150 1.9%
Land 84 0.6% 167 1.2%
RESIDENTIAL CONSTRUCTION
Single family 336 0.4% 168 0.3%
Tract development 375 1.0% 338 1.0%
OTHER 433 4.2% - -
------- -------
$12,381 1.5% $13,515 1.8%
======= =======
</TABLE>
22
<PAGE> 23
REAL ESTATE OWNED
Real estate acquired in satisfaction of loans is transferred from loans
to properties at estimated fair values, less any estimated disposal costs. The
difference between the fair value of the real estate collateral and the loan
balance at the time of transfer is recorded as a loan charge-off. Any subsequent
declines in the fair value of the properties after the date of transfer are
recorded through the establishment of, or additions to, specific reserves.
Recoveries and losses from the disposition of properties are also included in
REAL ESTATE OPERATIONS.
The table below summarizes the composition of the Company's real estate
owned at the dates indicated (dollars are in thousands).
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31, JUNE 30,
1997 1996 1996
---------- ---------- ----------
<S> <C> <C> <C>
SINGLE FAMILY (1-4 Units)
Conventional $ 933 $ 2,660 $ 4,065
Project concentrations 7,936 7,117 5,596
MULTI-FAMILY (FIVE OR MORE UNITS) 2,071 3,215 6,539
COMMERCIAL REAL ESTATE - 346 346
LAND 2,357 2,517 3,286
RESIDENTIAL CONSTRUCTION
(TRACT DEVELOPMENTS) 12,852 16,156 14,481
------- -------- --------
GROSS INVESTMENT (1) 26,149 32,011 34,313
ALLOWANCE FOR ESTIMATED LOSSES (9,377) (11,871) (11,909)
------- -------- --------
NET INVESTMENT $16,772 $ 20,140 $ 22,404
======== ======== ========
</TABLE>
- -----------------------------------
(1) Fair value of collateral at foreclosure, plus post-foreclosure
capitalized costs.
Because the Company's property portfolio is not homogeneous, but rather
consists of discreet segments with different collateral and borrower risk
characteristics, management separately measures reserve adequacy, and
establishes and maintains reserves for credit losses, for each identifiable
segment of this portfolio. The table below summarizes credit loss reserves at
the dates indicated (dollars are in thousands).
<TABLE>
<CAPTION>
JUNE 30, 1997 DECEMBER 31, 1996
---------------------- ----------------------
% OF % OF
PROPERTIES ASSET TYPE PROPERTIES ASSET TYPE
--------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
PERMANENT
Single family (1-4 units)
Conventional $ 48 5.1% $ 343 12.9%
Project concentrations 2,007 25.3% 2,233 31.4%
Multi-family (five or more units) 145 7.0% 547 17.0%
Commercial real estate - - 106 30.6%
Land 1,081 45.9% 1,242 49.3%
RESIDENTIAL CONSTRUCTION
Tract development 6,096 47.4% 7,400 45.8%
------- -------
$ 9,377 35.9% $11,871 37.1%
======= =======
</TABLE>
OFFICE PROPERTY AND EQUIPMENT
At June 30, 1997, the Company's office property and equipment of $4.3
million was down from $4.7 million at December 31, 1996. The decrease was
primarily due to normal depreciation.
23
<PAGE> 24
LIABILITIES
GENERAL
The Company derives funds principally from deposits and, to a lesser
extent, from borrowings from the FHLB. In addition, recurring cash flows are
generated from loan repayments and payoffs and, since late 1993, from sales of
foreclosed properties. In addition to the Company's recurring sources of funds,
the Company has generated funds by identifying certain of its securities and
seasoned real estate loans as available-for-sale, and selling such assets in the
open market.
DEPOSITS
Total deposits at June 30, 1997, were $754.4 million, an increase from
$717.8 million at December 31, 1996.
The table below summarizes the balances, weighted average interest rates
("WAIR") and weighted average remaining maturities in months ("WARM") for the
Company's deposits at the dates indicated (dollars are in thousands).
<TABLE>
<CAPTION>
JUNE 30, 1997 DECEMBER 31, 1996
------------------------------- -----------------------------------
DESCRIPTION BALANCE WAIR WARM BALANCE WAIR WARM
- ------------------------- -------- ------ -------- ---------- ------- --------
<S> <C> <C> <C> <C> <C>
Transaction accounts $ 83,848 2.04% - $ 70,560 1.34% -
Certificates of deposit
7 day maturities 52,638 4.51% - 58,212 4.44% -
Less than 6 months 84,688 5.42% 3 58,121 5.29% 3
6 months to 1 year 357,145 5.80% 6 345,938 5.57% 5
1 year to 2 years 153,553 5.70% 11 148,886 5.80% 14
Greater than 2 years 22,518 5.60% 13 36,092 5.86% 13
-------- ------ -------- -----
Total $754,390 5.22% 6 $717,809 5.10% 6
======== ====== ======== =====
</TABLE>
BORROWINGS
A primary alternative funding source for the Company is a credit line
through the FHLB with a maximum advance of up to 35% of total assets (of which
25% may be secured by mortgage collateral and 10% may be secured by securities).
The FHLB system functions as a source of credit to savings institutions which
are members of a Federal Home Loan Bank System. Advances are typically secured
by the Company's mortgage loans and the capital stock of the FHLB owned by the
Company. Subject to the FHLB of San Francisco's advance policies and
requirements, these advances can be requested for any business purpose in which
the Company is authorized to engage. In granting advances, the FHLB considers a
member's creditworthiness and other relevant factors.
At June 30, 1997, the Company had one FHLB advance outstanding totaling
$40.0 million with an original and remaining term of one year. This advance is
securitized by mortgage collateral and has a rate of 5.95%.
SENIOR NOTES
The Company has Senior Notes, which have a face amount of $13.5 million,
and an amortized book value of $12.5 million at June 30, 1997. The Senior Notes
carry an annual stated interest rate of 12.0% and have an annual effective rate
of approximately 16.5%, after the recording of original issue discount ("OID")
of $1.5 million. The OID is accreted using the constant yield method over the
five year term of the Senior Notes. Interest which is required to be paid
semi-annually at the stated interest rate was prefunded for three years out of
the proceeds of the Company's recapitalization in December 1995. In June 1997,
the investors agreed to release the Company from its requirement to maintain
this prefunded interest. In the future, interest payments will be made through
dividends received from the Bank.
24
<PAGE> 25
STOCKHOLDERS' EQUITY
The Company's capital structure is comprised of common stockholders'
equity and an aggregate of $27 million in high-cost Senior Notes bearing an
annual interest rate of 12% and Cumulative Preferred Stock Series A ("Series A
Preferred") with an annual dividend rate of 18%.
In full satisfaction of the accrued but unpaid dividends on the Series A
Preferred Stock from issuance through June 15, 1997, the Company issued
approximately 390,000 shares of its Common Stock.
25
<PAGE> 26
The following table summarizes the regulatory capital requirements under
the Home Owners Loan Act ("HOLA") for the Bank at June 30, 1997. As indicated in
the table, the Bank's capital levels exceed all three of the currently
applicable minimum HOLA capital requirements (dollars are in thousands).
<TABLE>
<CAPTION>
TANGIBLE CAPITAL (2) CORE CAPITAL (2) RISK-BASED CAPITAL
------------------- ------------------- -------------------------
BALANCE % BALANCE % BALANCE %
-------- ------- ---------- ------ ---------- -----------
<S> <C> <C> <C> <C>
Stockholders' equity(3) $ 61,841 $ 61,841 $ 61,841
Adjustments
General valuation allowances - - 7,491
Unrealized (gains) losses, net 283 283 283
--------- ------ -------- ----- -------- ---------
Regulatory capital 62,124 7.21% 62,124 7.21% 69,615 11.67%
Required minimum 12,924 1.50% 25,847 3.00% 47,724 8.00%
--------- ------ -------- ----- -------- ---------
Excess capital $ 49,200 5.71% $ 36,277 4.21% $ 21,891 3.67%
========= ====== ======== ===== ======== =========
Adjusted assets (1) $861,568 $861,568 $596,546
======== ======== =======
</TABLE>
- -------------------
(1) The term "adjusted assets" refers to the term "adjusted total
assets" as defined in 12 C.F.R. Section 567.1(a) for purposes of
tangible and core capital requirements, and for purposes of
risk-based capital requirements, refers to the term
"risk-weighted assets" as defined in 12 C.F.R. Section
567.1(bb).
(2) The tangible and core capital ratios were 6.27% at December 31,
1996.
(3) Reflects a capital contribution of $2.4 million from the parent
company.
As of June 30, 1997, the most recent notification from the OTS
categorized the Bank as well capitalized under the regulatory framework for
prompt corrective action. There are no conditions or events since that
notification that management believes have changed the institution's category.
The Bank's actual capital amounts and ratios and the capital amounts and ratios
required in order for an institution to be well capitalized and adequately
capitalized are presented in the table below (dollars are in thousands).
<TABLE>
<CAPTION>
TO BE CATEGORIZED AS TO BE CATEGORIZED AS
ADEQUATELY CAPITALIZED WELL CAPITALIZED
UNDER PROMPT CORRECTIVE UNDER PROMPT CORRECTIVE
ACTUAL ACTION PROVISIONS ACTION PROVISIONS
---------------------- -------------------- ----------------------
AMOUNT RATIOS AMOUNT RATIOS AMOUNT RATIOS
-------- -------- ------- ------ -------- --------
<S> <C> <C> <C> <C> <C> <C>
AS OF JUNE 30, 1997
Total Capital
(to Risk Weighted Assets) $69,615 11.67% $47,724 8.00% $59,655 10.00%
Tier 1 Capital
(to Risk Weighted Assets) 62,124 10.41% 23,862 4.00% 35,793 6.00%
Tier 1 Capital
(to Average Assets) 62,124 7.35% 33,809 4.00% 42,262 5.00%
AS OF DECEMBER 31, 1996
Total Capital
(to Risk Weighted Assets) $59,560 11.11% $42,879 8.00% $53,599 10.00%
Tier 1 Capital
(to Risk Weighted Assets) 52,803 9.85% 21,439 4.00% 32,159 6.00%
Tier 1 Capital
(to Average Assets) 52,803 6.55% 32,269 4.00% 40,336 5.00%
</TABLE>
The OTS has authority, after an opportunity for a hearing, to downgrade
an institution from "well-capitalized" to "adequately capitalized" or to subject
an "adequately capitalized" or "undercapitalized" institution to the supervisory
actions applicable to the next lower category, if the OTS deems such action to
be appropriate as a result of supervisory concerns.
26
<PAGE> 27
CAPITAL RESOURCES AND LIQUIDITY
The Company's liquidity position refers to the extent to which the
Company's funding sources are sufficient to meet its current and long-term cash
requirements. Federal regulations currently require a savings institution to
maintain a monthly average daily balance of liquid and short-term liquid assets
equal to at least 5.0% and 1.0%, respectively, of the average daily balance of
its net withdrawable accounts and short-term borrowings during the preceding
calendar month. The Bank had liquidity and short-term liquidity ratios of 7.85%
and 3.36%, respectively, as of June 30, 1997, and 11.05% and 6.49%,
respectively, as of December 31, 1996.
The Company's current primary funding resources are deposit accounts,
principal payments on loans, proceeds from sales of real estate owned, advances
from the FHLB and cash flows from operations. Other possible sources of
liquidity available to the Company include reverse repurchase transactions
involving the Company's investment securities, whole loan sales, commercial bank
lines of credit, and direct access, under certain conditions, to borrowings from
the Federal Reserve System. The cash needs of the Company are principally for
the payment of interest on and withdrawals of deposit accounts, the funding of
loans, operating costs and expenses, and holding and refurbishment costs on
foreclosed real estate.
INTEREST RATE RISK MANAGEMENT
The objective of interest rate risk management is to stabilize the
Company's net interest income ("NII") while limiting the change in its net
portfolio value ("NPV") from interest rate fluctuations. The Company seeks to
achieve this objective by matching its interest sensitive assets and
liabilities, and maintaining the maturity and repricing of these assets and
liabilities at appropriate levels given the interest rate environment. When the
amount of rate sensitive liabilities exceeds rate sensitive assets, net interest
income will generally be negatively impacted during a rising rate environment.
The speed and velocity of the repricing of assets and liabilities will also
contribute to the effects on net interest income.
The Company utilizes two methods for measuring interest rate risk. Gap
analysis is the first method, with a focus on measuring absolute dollar amounts
subject to repricing within certain periods of time, particularly the one-year
maturity horizon.
In addition to utilizing gap analysis in measuring interest rate risk,
the Company performs periodic interest rate simulations. These simulations
provide the Company with an estimate of both the dollar amount and percentage
change in NII under various interest rate scenarios. All assets and liabilities
are subjected to tests of up to 400 basis points in increases and decreases in
interest rates. Under each interest rate scenario, the Company projects its net
interest income and the NPV of its current balance sheet. From these results,
the Company can then develop alternatives to dealing with the tolerance
thresholds.
A principal mechanism used by the Company in the past for interest rate
risk management was the origination of adjustable rate mortgages tied to the
11th District Cost of Funds Index ("11th DCOFI"). The basic premise was that the
Company's actual cost of funds would parallel the 11th DCOFI and, as such, the
interest rate spread would generate the desired operating results. Almost all of
the Company's loan originations are comprised of adjustable rate mortgage loans.
Adjustable rate mortgages represented approximately 75% of the Company's loan
portfolio at June 30, 1997. The Company currently originates loans tied to
multiple indices including London Interbank Offered Rate ("LIBOR"), Constant
Maturity Treasury ("CMT"), national prime rate, and 11th DCOFI.
ARMs tied to 11th DCOFI are slower in responding to current interest
rate environments than other types of variable rate loans because the index is a
compilation of the average rates paid by member institutions of the 11th
District of the FHLB. This index typically lags market rate changes in both
directions. If interest rates on deposit accounts increase due to market
conditions and competition, it may be anticipated that the Company will, absent
offsetting factors, experience a decline in its net interest margin. A
contributing factor would be the lag in upward pricing of the ARMs tied to the
11th DCOFI. However, the lag inherent in the 11th DCOFI will also cause the ARMs
to remain at a higher rate for a longer period after interest rates on deposits
begin to decline. The 11th DCOFI lag
27
<PAGE> 28
during a falling interest rate environment should benefit, in the short-term,
the Company's net interest margin, but the actual dynamics of prepayments and
the fact that ARMs reprice at various intervals may alter this expected benefit.
The following table sets forth information concerning sensitivity of the
Company's interest-earning assets and interest-bearing liabilities as of June
30, 1997 (dollars are in thousands). Such assets and liabilities are classified
by the earlier of maturity or repricing date.
<TABLE>
<CAPTION>
OVER THREE OVER SIX OVER ONE
THREE THROUGH THROUGH YEAR OVER
MONTHS SIX TWELVE THROUGH FIVE
OR LESS MONTHS MONTHS FIVE YEARS YEARS TOTAL
----------- ----------- ----------- ------------ ---------- -----------
<S> <C> <C> <C> <C> <C> <C>
INTEREST-EARNING ASSETS
Cash and cash equivalents (1) $ 8,259 $ -- $ -- $ -- $ -- $ 8,259
Investments and FHLB Stock 6,991 -- -- 35,651 39,819 82,461
Loans (2) 353,714 186,798 52,712 40,731 113,616 747,571
--------- --------- --------- --------- --------- ---------
Total interest-earning assets $ 368,964 $ 186,798 $ 52,712 $ 76,382 $ 153,435 $ 838,291
========= ========= ========= ========= ========= =========
INTEREST-BEARING LIABILITIES
Deposits
Transaction accounts $ 83,848 $ -- $ -- $ -- $ -- $ 83,848
Certificates of deposit 200,234 184,056 200,511 85,741 -- 670,542
FHLB advances -- -- 40,000 -- -- 40,000
Senior Notes -- -- -- 12,475 -- 12,475
--------- --------- --------- --------- --------- ---------
Total interest-bearing liabilities $ 284,082 $ 184,056 $ 240,511 $ 98,216 $ -- $ 806,865
========= ========= ========= ========= ========= =========
Interest rate sensitivity gap $ 84,882 $ 2,742 $(187,799) $ (21,834) $ 153,435 $ 31,426
Cumulative interest rate
sensitivity gap 84,882 87,624 (100,175) (122,009) 31,426 31,426
Cumulative interest rate
sensitivity gap as a percentage
of total interest-earning assets 23.0% 46.9% -190.0% -159.7% 20.5% 3.7%
</TABLE>
- ------------------------
(1) Excludes noninterest-earning cash balances.
(2) Loans include $16.8 million of nonaccrual loans.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
28
<PAGE> 29
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings
On September 6, 1996, the Company and the Bank were named as
defendants in a class action lawsuit entitled Stanley D. Mosler and
Eileen C. Mosler vs. Hawthorne Savings and Loan Association,
Hawthorne Financial Corporation, et. al., filed in the Superior Court
of the State of California as Case No. BC154729 (the "Action"). The
plaintiffs had previously filed an individual action alleging the
same matters contained in the class action complaint. The individual
action was scheduled for trial in July 1997, but was taken off
calendar pending a ruling in the class action. Plaintiffs contend
they were entitled to a notice of availability of foreclosure
counseling, which they allege they did not receive, before the Bank
foreclosed. Plaintiffs contend that the alleged failure to provide
counseling notices and the underbidding by the Bank of the loan
amount at foreclosure resulted in damages to the purported class in
an amount in excess of $40 million. The Company has been named and
alleged to have liability based upon its relationship as trustee on
the Deed of Trust securing the Bank's loans. The Company and the Bank
filed responsive pleadings to the Action alleging that the complaint
is defective on its face and that the plaintiffs are not proper
representatives of the purported class. The court granted the Company
and Bank's motion and dismissed the plaintiffs' case. The plaintiffs
have appealed. The Appellate Court heard oral argument in July, 1997
and will render their opinion in the near future.
As previously reported, the Bank is a defendant in an action entitled
Takaki vs. Hawthorne Savings and Loan Association, filed in the
Superior Court of the State of California, Los Angeles, as Case No.
YC021815. The plaintiffs were owners of real property which they sold
in early 1992 to a third party. The Bank provided escrow services in
connection with the transaction. A substantial portion of the
consideration paid to the plaintiffs took the form of a deed of trust
secured by another property then owned by an affiliate of the
purchaser. The value of the collateral securing this deed of trust
ultimately proved to be inadequate. The plaintiffs alleged that the
Bank knew, or should have known, that the security for the
plaintiffs' loan was inadequate and should have so advised them. In
late June 1997, a trial jury found for the plaintiffs and awarded
compensatory and punitive damages totaling $9.1 million. In late July
1997, the trial judge reduced the combined award to $3.2 million. If
the plaintiffs do not accept the judge's decision on or before August
25, 1997, a new jury trial will be conducted solely on the issue of
damages. Should the plaintiffs accept the judge's decision, the Bank
will appeal the jury's finding and the damage award to the Court of
Appeals, based upon its view that the law in California is
unambiguous that there is no duty which attaches to escrow providers
to advise parties to an escrow. In such event, the Bank believes that
its position will ultimately be upheld on appeal and, accordingly,
that no amounts will be paid by the Bank to the plaintiffs in this
matter. There can be no assurances that this will be the case,
however.
The Company is involved in a variety of other litigation matters
which, for the most part, arise out of matters and events which were
alleged to have occurred prior to 1994. Many of these lawsuits either
allege construction defects or allege improper servicing of the loan.
In the opinion of management, none of these cases will have a
material adverse effect on the Bank's or the Company's financial
condition or operations.
ITEM 2. Changes in Securities - None
ITEM 3. Defaults upon Senior Securities - None
29
<PAGE> 30
ITEM 4. Submission of Matters to a Vote of Security Holders
At the Annual Meeting of Stockholders of the Company held on May 21,
1997, the following nine nominees were elected for a one year term by
the margins indicated.
<TABLE>
<CAPTION>
NUMBER OF SHARES
---------------------
DIRECTOR FOR WITHHELD
-------- --------- --------
<S> <C> <C>
Marilyn Garton Amato 2,466,136 4,694
Scott A. Braly 2,466,486 4,344
Timothy R. Chrisman 2,466,486 4,344
R. Michael Hall 2,466,436 4,394
Charles S. Jacobs 2,466,206 4,624
Anthony W. Liberati 2,466,486 4,344
Harry F. Radcliffe 2,466,256 4,574
Howard Ritt 2,465,486 5,344
Robert C. Troost 2,466,436 4,394
</TABLE>
ITEM 5. Other Information - None
ITEM 6. Exhibits and Reports on Form 8-K
1. Reports on Form 8-K
The Company filed a Form 8-K on April 29, 1997, announcing
financial results for the first quarter ended March 31, 1997.
The Company filed a Form 8-K on June 12, 1997, disclosing
certain information regarding amendments to the Certificate of
Designations and Preferences of the Cumulative Preferred
Stock, Series A.
2. Other required exhibits - None
30
<PAGE> 31
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.
HAWTHORNE FINANCIAL CORPORATION
Dated August 14, 1997 /s/ NORMAN A. MORALES
------------------------------
Norman A. Morales
Executive Vice President and
Chief Financial Officer
Dated August 14, 1997 /s/ JESSICA VLACO
------------------------------
Jessica Vlaco
Senior Vice President and
Principal Accounting Officer
31
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> APR-01-1997
<PERIOD-END> JUN-30-1997
<CASH> 9,505
<INT-BEARING-DEPOSITS> 750,312
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0
11,592
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</TABLE>
