<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
Annual Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the Fiscal Year Ended December 31, 1996
Commission File Number 0-15540
FRONTIER FINANCIAL CORPORATION
(Exact Name of Registrant as Specified in its Charter)
Washington 91-1223535
- ------------------------------- -------------------------
(State or Other Jurisdiction of (IRS Employer Identification
Incorporation or Organization) Number)
332 S.W. Everett Mall Way
P. O. Box 2215
Everett, Washington 98203
(Address of Principal Executive Office) (Zip Code)
(206) 514-0719
(Registrant's Telephone Number, Including Area Code)
Securities Registered Pursuant to Section 12(g) of the Act:
Common Stock (No Par Value)
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K (S229.405 of this chapter) is not contained herein, and will
not be contained, to the best of the registrant's knowledge, in definitive proxy
or information statements incorporated by reference in Part III of this Form
10-K or any amendment to this Form 10-K. [X]
The aggregate market value of common stock held by nonaffiliates at December 31,
1996 was $174,258,626 based on the price at December 31, 1996.
The issuer has one class of common stock (no par value) with 6,836,876 shares
outstanding as of February 28, 1997.
Documents Incorporated by Reference
Portions of Annual Report to Shareholders for the year ended:
December 31, 1996..................Part II
1997 Proxy Statement...............Part III
<PAGE> 2
PART I
ITEM 1 - BUSINESS
Frontier Financial Corporation ("FFC" or "the Corporation") is a Washington
corporation which was incorporated in 1983 and is registered as a bank holding
company under the Bank Holding Company Act of 1956. As part of a plan of
reorganization consummated following the close of business September 30, 1983,
FFC acquired all of the stock of Frontier Bank (the Bank), issuing its common
stock in an exchange for the Bank's common stock on a share-for-share basis. FFC
has two subsidiaries; the Bank, which is engaged in a general banking business
and in businesses related to banking, and FFP, Inc., a nonbank corporation which
leases property and equipment to the Bank.
The Bank
The Bank is a state-chartered banking association with its principal office
located in Everett, Snohomish County, Washington. It was founded in September,
1978 by Robert J. Dickson and local business persons. The Bank is an "insured
bank" as defined in the Federal Deposit Insurance Act.
The Bank engages in general banking business, including the acceptance of
demand, time and savings deposits and the making of loans. As of December 31,
1996, the Bank conducted its business operations out of 18 offices located in
Snohomish, King and Skagit Counties, of which four offices are located in
Everett, one office each is located in Arlington, Snohomish, Smokey Point, Lake
Stevens, Marysville, Lynnwood, Mill Creek, Edmonds, Stanwood, Bothell,
Woodinville, Monroe, Lake City (Seattle), and Burlington.
Banking Services
The Bank provides a full range of consumer banking services including savings
accounts, checking accounts, installment and commercial lending, safe deposit
facilities, time deposits and other consumer and business related financial
services. In addition to consumer oriented activities, the Bank maintains a
strong commercial lending program, servicing businesses headquartered in the
Bank's principal market area. At the end of 1983, the Bank began to offer a
discount brokerage service to its customers. In September of 1984, the Bank
opened its Real Estate Division, offering a broad range of home, construction
and commercial long-term financing. The Trust Department opened for business in
March of 1985. This department offers a full array of trust services to its
customers. In May 1988, the Bank opened a Private Banking Office to give
personal service to upscale customers. In August 1989, the Bank acquired,
through a merger, three banking offices of Citizens Bank of Snohomish County,
and a real estate origination department. In January 1991, the Bank opened an
office in Mill Creek, providing a full range of consumer banking services.
In March 1991, the Bank opened an Insurance and Investment Center which markets
annuities, life insurance products, and mutual funds to Bank customers and the
general public. In July 1992, the Bank opened its Stanwood Office. In November
1992, the Bank acquired through merger, Edmonds National Bank, which had one
office. In July 1993, the Bank acquired through merger, The Bank of Northshore,
which had two offices located in Bothell and Woodinville, King County,
Washington. This merger marked the first time the Bank branched outside of
Snohomish County. In June 1995, the Bank opened an office in Monroe, providing a
full range of consumer banking services. In August 1996, the Bank opened the
Lake City Office, (North Seattle) and in December 1996 opened its first office
in Skagit county, in Burlington, named the Skagit County Office. In January
1997, the bank received approval for an office in Redmond, Washington, and this
branch will open during the second quarter of 1997.
-1-
<PAGE> 3
Employees
At December 31, 1996, the Bank had 302 full and part time employees. The Bank
considers its relations with employees to be very good.
Competition
All phases of the Bank's activities are highly competitive. The Bank competes
actively with national and state banks, mutual savings banks, savings and loan
associations, finance companies, credit unions, brokerage houses, and other
financial institutions operating in its service area. Some of these financial
institutions have greater resources than those of the Bank. On December 31,
1996, the Bank had total assets of $802.0 million and deposits of $670.8
million.
Supervision and Regulation
FFC, as a bank holding company, is subject to regulation under the Bank Holding
Company Act of 1956 (the Act), as amended, and is registered with the Board of
Governors of the Federal Reserve System. FFC is required to file quarterly
reports with the Federal Reserve, and is subject to their examination.
The Act requires prior approval of the Board of Governors before acquiring
substantially all the assets of, or direct or indirect ownership or control of,
more than 5% of the voting shares of any bank.
The Act also prohibits the acquisition by a bank holding company of the assets
or shares of a bank located outside the state in which the principal operations
of the banking subsidiaries are conducted unless such acquisition is
specifically authorized by the laws of the state in which the Bank to be
acquired is located. The Act does not place territorial restrictions on the
activities of nonbank subsidiaries of bank holding companies.
Under the Act, FFC is prohibited, with certain exceptions, from acquiring direct
or indirect ownership or control of more than 5% of the voting shares of any
company which is not a bank, and from engaging in any business other than
banking, except that FFC may engage in, and may own shares of companies engaged
in certain businesses determined by the Board of Governors to be so closely
related to banking so "as to be a proper incident thereto". Such related
businesses include, by determination of the Board of Governors, the making or
acquiring of loans or extensions of credit such as would be made by a mortgage,
finance, credit card or factoring company; leasing of personal property where
the leasing arrangements are functionally equivalent to extensions of credit;
and acting as an insurance agent or broker of insurance directly related to
extensions of credit of the Bank or other closely related businesses. The Act,
however, prohibits tie-in arrangements in connection with the extension of
credit or provision of services.
The Bank, as a state chartered bank, is subject to supervision, examination and
regulation by the State Supervisor of Banking and the Federal Deposit Insurance
Corporation (the FDIC). The deposits of the Bank are insured by the FDIC to the
extent provided by law.
Various requirements and restrictions under the laws of the United States and
the State of Washington affect the operations of the Bank. Federal regulations
include requirements to maintain reserves against deposits, restrictions on
interest which may be paid on business demand deposits, limitations on the
nature and the amount of loans which may be made and the interest that may be
charged thereon, restrictions relating to
-2-
<PAGE> 4
investments or other activities, limitations based on capital and surplus, and
limitations on payments of dividends. The approval of the Supervisor is required
to pay dividends which exceed the Bank's net profits for that year plus its
retained net profits for the preceding two years. Federal law also restricts the
amount which can be loaned to the Corporation or any of its nonbank subsidiaries
to 10% of the Bank's capital stock and surplus, and restricts the total of such
loans to 20% of the Bank's capital stock and surplus.
The Financial Institutions Reform, Recovery and Enforcement Act of 1989 (FIRREA)
became effective on August 9, 1989. Among other things, this far reaching
legislation: 1) phased in significant increases in the FDIC insurance premiums
by 1993; 2) created two deposit insurance pools within the FDIC, one to insure
commercial and savings bank deposits and the other to insure savings
associations deposits; 3) permitted bank holding companies to acquire healthy
savings associations; 4) permitted commercial banks that meet certain housing
related asset requirements to secure advances and other financial services from
their local Federal Home Loan Bank; 5) created the Resolution Trust Corporation
to pay the cost of resolving insolvent savings associations financed by the
taxpayers and the savings associations; 6) restructured the federal regulatory
agencies for savings associations; 7) required higher minimum capital levels for
savings associations; and 8) has greatly enhanced the regulator's enforcement
powers by removing procedural barriers, sharply increasing the civil and
criminal penalties for violating statutes and regulations, and providing
increased appropriations to the Justice Department to finance prosecutions for
crimes against depository institutions.
On December 19, 1991, the Federal Deposit Insurance Corporation Improvement Act
of 1991 (FDICIA) was enacted. FDICIA substantially revises the depository
institution regulatory and funding provisions in the Federal Deposit Insurance
Act and makes revisions to several other federal banking statutes. Among other
things, FDICIA requires the Federal Banking Regulators to take prompt corrective
action in respect to depository institutions that do not meet minimum capital
requirements. The FDICIA created regulations establishing five capital tiers:
"Well Capitalized"; "Adequately Capitalized"; "Under-Capitalized";
"Significantly Under-Capitalized"; and "Critically Under-Capitalized". Under the
regulations, a depository institution would be considered Well Capitalized if it
maintains a leverage ratio of at least five percent and a risk-based Tier I
capital ratio of at least six percent and a risk-based total capital ratio of at
least ten percent, and is not otherwise designated to be in troubled condition.
Also, a depository institution will be deemed Under-Capitalized if it fails to
meet any applicable minimum capital measure; Significantly Under-Capitalized if
it is significantly below such measure; and Critically Under-Capitalized if it
fails to meet a level of tangible equity of two percent of total assets. If a
depository institution is neither Well Capitalized nor Under-Capitalized, it
will be considered Adequately Capitalized. A depository institution may be
deemed to be in a capitalization category that is lower than is indicated by its
actual capital position if it receives an unsatisfactory examination rating.
The FDICIA generally prohibits a depository institution from making any capital
distribution, including the payment of dividends or payment of any management
fee to its holding company, if the depository institution would thereafter be
Under-Capitalized. Under-Capitalized depository institutions are subject to
restrictions on borrowing from the Federal Reserve System. In addition,
Under-Capitalized depository institutions are subject to growth limitations and
are required to submit capital restoration plans. A depository institution
holding company must guarantee the capital plan up to the amount equal to the
lesser of five percent of the depository institution's assets at the time it
becomes Under-Capitalized or the amount of the capital
-3-
<PAGE> 5
deficiency when the institution fails to comply with the plan. The Federal
Banking Agencies may not accept a capital plan without determining, among other
things, if the plan is based on realistic assumptions and is likely to succeed
in restoring the depository institution's capital. If a depository institution
fails to submit an acceptable plan, it is treated as if it is Significantly
Under-Capitalized.
Significantly Under-Capitalized depository institutions may be subject to a
number of requirements and restrictions, including orders to sell sufficient
voting stock to become Adequately Capitalized, requirements to reduce total
assets, and the cessation of receipt of deposits from correspondent banks.
Critically Under-Capitalized depository institutions are subject to employment
of a receiver or a conservator.
The FDICIA also required the FDIC to revise its risk-based capital guidelines by
June 19, 1993 to take into account interest rate risk, concentration of credit
risk, and risk associated with nontraditional activities. It also required the
guidelines to reflect the actual performance and expected risk of loss of
multi-family mortgages. These provisions affect the capital standing of all
institutions, and may result in a need for increased capital.
As of December 31, 1996, the Bank was Well Capitalized, and maintained a
leverage ratio of 9.95%, a risk-based Tier I capital ratio of 11.94%, and a
risk-based total capital ratio of 13.20%.
The Corporation's common stock is registered under Section 12(g) of the
Securities Exchange Act of 1934 and the Corporation is subject to the periodic
reporting and proxy solicitation requirements, as well as other requirements of
federal and state securities law.
Effect of Governmental Policies
The Bank is affected not only by general economic conditions, but also by the
monetary and fiscal policies of the United States Government and various
agencies, particularly the Federal Reserve System. In its role of implementing
its monetary policy, the Federal Reserve Board has the power to regulate the
national supply of bank credit through such methods as open market operations in
the United States Government securities markets, control of the discount rate on
member bank borrowings, and establishment of reserve requirements against bank
deposits. These means are used in varying combinations and have an influence
over the growth of bank loans, investments, and deposits. They may also affect
interest rates charged on loans or paid on deposits.
The nature and timing of future changes in monetary policies and their impact on
the Bank are not predictable. As a consequence of extensive regulation of
commercial banking activities in the United States, the Bank's business is
particularly susceptible to being affected by Federal legislation and
regulations which may have the effect of increasing the cost of doing business
or limiting permissible activities.
FFP, Inc.
On April 4, 1988, the Corporation formed a new subsidiary corporation called
FFP, Inc. The purpose of this corporation is to purchase and lease property and
equipment to the Bank. The reason for this approach was to preclude placing
nonearning assets on the books of the Bank or the Corporation.
-4-
<PAGE> 6
It is intended that future purchases of fixed assets will be made by FFP, Inc.
The assets of FFP, Inc. as of December 31, 1996 are the land and buildings of
the Bank's Drive-Up, Lynnwood, Stanwood, Administrative, Monroe, Smokey Point,
Snohomish, Seattle (Lake City), Woodinville and Redmond Offices. At this time,
it is not anticipated that FFP, Inc. will engage in any other type of business.
Washington Banking Company
In April 1996, the Corporation purchased 4.99% of the common stock of Whidbey
Island Bank, located approximately 15 miles west of Everett. Shortly thereafter,
the bank converted to the holding company structure and is now called Washington
Banking Company. Subsequent to the initial investment, the Corporation made
application to the Board of Governors of the Federal Reserve System to purchase
up to 10.0% ownership in the company. Approval was received, and the Corporation
has since purchased an additional .4% ownership, to total 5.4%. The bank has
eight offices, and is well managed.
-5-
<PAGE> 7
STATISTICAL DISCLOSURE INDEX
The schedules listed below set forth the statistical information relating to
Frontier Financial Corporation and subsidiaries (unless otherwise stated) in
accordance with Guide 3. This information should be read in conjunction with the
consolidated financial statements.
<TABLE>
<CAPTION>
Annual
Form 10-K Report
Page Page
--------- ------
<S> <C> <C>
I.Distribution of Assets, Liabilities
and Stockholders' Equity; Interest
Rates and Interest Differential:
A. Consolidated Average Balance
Sheets/Interest Income and
Expense/Rates 35
B. Changes in Net Interest Income
and Expense due to Rate and 36
Volume
II.Investment Portfolio:
A. Analysis of Investment Securities
at Year-end 7 10
B. Maturity Distribution of Investment
Securities 7 11
III.Loan Portfolio:
A. Types of Loans 8 12
B. Loan Maturities and Sensitivity to
Changes in Interest Rates 8 12, 31-32
C. Risk Elements 9
D. Credit Concentrations 14
IV.Summary of Loan Loss Experience:
A. Analysis 12
B. Allocation of Allowance for Possible
Loan Losses 13
V.Deposits:
Average Interest and Noninterest
Bearing Deposit Balances 35
VI.Return on Equity and Assets:
Selected Financial Ratios 14
VII.Short-term Borrowings 15
</TABLE>
-6-
<PAGE> 8
Analysis of Investment Securities
The Aggregate amortized recorded values of investment securities at December 31
are as follows:
<TABLE>
<CAPTION>
1996 1995 1994
(In thousands) Amortized Amortized Amortized
Cost Cost Cost
-------------------------------------
<S> <C> <C> <C>
U.S. Treasury $ 758 $ 2,759 $ 2,758
U.S. Agencies 45,824 48,591 39,588
Municipal Bonds 29,727 30,046 32,814
Corporate Bonds 40,578 51,567 55,869
Equities 9,270 7,542 7,083
Certificates of Deposit 4,775 3,050 0
-------------------------------------
Totals $130,932 $143,555 $138,112
=====================================
</TABLE>
Maturity Distribution of Investment Securities
The following table sets forth the maturities of investment securities at
December 31, 1996. Taxable equivalent values are used in calculating yields
assuming a tax rate of 35%.
<TABLE>
<CAPTION>
(In thousands) After 1 Yr After 5 Yrs Totals &
(Amortized cost used) Within But Within But Within After Weighted
1 Year/ 5 Years/ 10 Years/ 10 Years/ Average
Yield Yield Yield Yield Yield
----------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
U.S. Treasury $0 $506 $0 $252 $758
0.00% 7.71% 0.00% 7.16% 7.53%
U.S. Agencies 1,051 13,328 30,178 1,267 45,824
7.36% 5.83% 7.12% 8.23% 6.78%
Municipal Bonds 125 1,123 25,448 3,031 29,727
9.92% 10.04% 8.67% 9.20% 8.78%
Corporate Bonds 11,894 8,881 19,803 0 40,578
5.60% 7.68% 6.77% 0.00% 6.63%
Equities 9,270 0 0 0 9,270
7.60% 0.00% 0.00% 0.00% 7.60%
Certificates of Deposit 4,775 0 0 0 4,775
5.40% 0.00% 0.00% 0.00% 5.40%
----------------------------------------------------------------------------------
TOTALS $27,115 $23,838 $75,429 $4,550 $130,932
==================================================================================
6.34% 6.76% 7.55% 8.82% 7.20%
==================================================================================
</TABLE>
-7-
<PAGE> 9
Types of Loans
Major classifications of loans, net of deferred loan fees, at December 31 are as
follows:
<TABLE>
<CAPTION>
(In thousands) 1996 1995 1994 1993 1992
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Commercial $117,258 $126,914 $121,218 $118,871 $113,706
Real Estate Commercial 230,341 171,590 151,829 89,430 67,130
Real Estate Construction 131,148 94,393 99,278 71,355 67,425
Real Estate Mortgage 98,580 92,342 79,264 70,600 52,312
Installment 23,067 19,749 18,923 19,350 20,247
----------------------------------------------------------------
TOTAL $600,394 $504,988 $470,512 $369,606 $320,820
================================================================
</TABLE>
Loan Maturities and Sensitivity to Changes in Interest Rates
The following table shows the amounts and maturity analysis of loans outstanding
as of December 31, 1996. Also, the amounts are classified as to fixed and
variable rate sensitivity for amounts due after one year.
<TABLE>
<CAPTION>
Maturity
--------------------------------------------------
(In thousands) Within 1 - 5 After
1 Year Years 5 Years Total
--------------------------------------------------
<S> <C> <C> <C> <C>
Commercial $ 58,840 $ 51,122 $ 7,296 $117,258
Real Estate Commercial 30,281 188,733 11,327 230,341
Real Estate Construction 95,457 35,691 0 131,148
Real Estate Mortgage 21,670 74,127 2,783 98,580
Installment 6,238 9,819 7,010 23,067
--------------------------------------------------
TOTAL $212,486 $359,492 $ 28,416 $600,394
==================================================
</TABLE>
Loans maturing after one year with:
<TABLE>
<CAPTION>
1 - 5 After
Years 5 Years
----------------------
<S> <C> <C>
Fixed Rates $316,353 $ 11,935
Variable Rates 43,139 16,481
-------- --------
TOTAL $359,492 $ 28,416
======== ========
</TABLE>
It is not uncommon to rollover loans at the maturity period, provided that the
rate and terms of the loan conform to the current policy.
-8-
<PAGE> 10
Loan Administration
The Bank provides revolving lines of credit to many of its borrowers. Such lines
are approved by the Director's Loan Committee ("Loan Committee") or other
administrative level committee or person if the amount exceeds the lending units
authorized loan limit.
Credit Review personnel, under the direction of the Credit Administrator,
examine the loan portfolio regularly. Reports are made by the Senior
Vice-President/Credit Administrator to senior management and the Loan Committee,
and follow-up corrective action is monitored. Problem loan reports are prepared
for management review on a regular basis.
Certain problem loans are placed on a nonaccrual basis in conformance with
defined policy. The Loan Committee and other administrative personnel regularly
review information reports on classified and delinquent loans. Comparative
summaries of delinquent loans are also provided on a regular basis to senior
management and to the Board of Directors.
Management closely monitors the adequacy of the loan loss reserve and an
analysis is performed four times a year. The allowance is maintained at a level
deemed sufficient to meet potential losses.
The reviews, examinations and actions described above are in addition to the
periodic examinations by federal and state regulatory agencies, as well as the
Bank's internal audit department and the Bank's outside public accounting firm.
Risk Elements - Impaired Assets
Loans are placed in a nonaccrual status when, in the opinion of management, the
collection of additional interest is doubtful, or when the loan becomes ninety
(90) days past due in principal or interest. When a loan is placed on a
nonaccrual status, all interest previously accrued but not collected is reversed
and charged against interest income. Income on nonaccrual loans is then
recognized only to the extent cash is received and where the future collection
of principal is probable. Accruals are resumed only when the loan is brought
current, or when, in the opinion of management, the borrower has demonstrated
the ability to resume payments of principal and interest on a regular basis. As
a consequence, some of these loans are current in their payments at this time.
The dollar amount of loans placed in nonaccrual or past due 90 days or more as a
percentage of total loans was .60%, .87%, and .57% for year-end 1996, 1995 and
1994, respectively. These loans have a variety of situations, some of which may
lead to foreclosure or involve a bankruptcy case. Others may continue payment as
the borrower's financial situation improves. A very small amount represents
federally insured loans. The rise at year-end 1995 occurred primarily as a
result of two particular borrowers which, together, constituted $4.0 million, or
91% of total nonaccruing loans. Although these loans were adequately secured by
real estate, it was nonetheless felt prudent to place them in nonaccrual. At
year-end 1996, two particular borrowers comprise 72% of the totals, the majority
of which is real estate secured.
Management monitors these loans on a frequent basis and conducts aggressive
collection efforts, unless constraints are placed on the Bank by the bankruptcy
courts. These efforts are directed toward the best long-term results for the
Bank, and to the extent reasonable, to the borrower as well. If, in the
-9-
<PAGE> 11
opinion of management, it is felt, or if it can be determined, that full
collection of these loans or their payment streams will not occur, then they are
charged off against the loan loss reserve.
Loans past due 90 days or more and nonaccruing loans on which the accrual of
interest has been discontinued as of December 31st are as follows:
(In thousands)
<TABLE>
<CAPTION>
1996 1995 1994 1993 1992
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Commercial $ 478 $ 175 $ 866 $ 893 $ 1,068
Real Estate 3,144 4,228 1,736 721 1,028
Installment 4 14 59 21 19
--------------------------------------------------------------------
Total $ 3,626 $ 4,417 $ 2,661 $ 1,635 $ 2,115
====================================================================
Total Loans at end
of period $600,394 $504,988 $470,512 $369,606 $320,820
====================================================================
As a percent of
total loans 0.60% 0.87% 0.57% 0.44% 0.66%
====================================================================
</TABLE>
There are certain amounts of interest collected on the above loans and included
in income, and amounts that have not been accrued which are indicated in the
table below:
<TABLE>
<CAPTION>
(In thousands)
At December 31, 1996 1995 1994 1993 1992
- --------------- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Total interest income which
would have been recorded
during the period under
original terms of loans above $289 $501 $261 $203 $229
Portion of interest
income included in
net income for the
period $264 $378 $207 $ 98 $112
Commitments for additional
funds related to loans
above -0- -0- -0- -0- -0-
</TABLE>
Restructured loans are those loans that had problems in the past, and a
concession was made in the interest rate, principal amount, and/or the repayment
schedule has been modified to the extent that there has been tangible impairment
of value. These loans are monitored on a regular basis for performance.
-10-
<PAGE> 12
The recorded value of restructured loans at year-end for the last five years was
insignificant, and therefore not shown.
The Bank originates commercial, commercial real estate, residential mortgage and
installment loans primarily in Snohomish, north King and Skagit Counties. Loan
growth in 1996 was much stronger than in 1995. Total loans as of December 31,
1996 and 1995 were $600.4 and $505.0 million, respectively. The percent of the
growth in loans for year-end 1996 was 18.9%, or an addition of $95.4 million in
net loans during 1996.
The area's economy is diversified with trade, high-tech, military and service
industries. Military personnel assigned to the new Everett Naval facility began
arriving in the later part of 1995, and it is expected that continuing increases
in personnel will serve to further diversify and stabilize the local economy.
While management estimates that the loan portfolio is reasonably diversified,
the quality of the portfolio is significantly related to the strength and
stability of real estate values which are controlled by the local economy.
The Boeing Company continues to be one of the major employers in Snohomish
County. It would appear that concerns over the past (1994-1995) downsizing at
Boeing were somewhat mitigated by the increased diversification of the local
economy. Boeing is now showing significant net employment growth. However,
concern still persists regarding the employment stability of Boeing, and,
accordingly, management will continue to exercise caution in the execution of
the Bank's lending activities.
A concern on the national level is the continued negotiations on balancing the
federal budget and policies going forward. Changes in the monetary and fiscal
policies, as well as military base locations, may have adverse effects on the
credit and equity markets, which could affect consumer and business confidence
locally.
Other Real Estate Owned
As of December 31, 1996, the Bank had three parcels of other real estate owned
(OREO) on its books, which totaled $.4 million. One residential parcel is under
a contingent earnest money agreement to purchase. The remaining two parcels are
commercial land. No losses are expected on sales of OREO which are recorded at
the lower of cost or fair value, less estimated costs to sell. The current
levels are felt to be nominal, and no particular trends are noted at this time.
The table below shows the carrying value of OREO at December 31st:
<TABLE>
<CAPTION>
(In thousands) 1996 1995 1994 1993 1992
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Other Real Estate Owned $444 $590 $1,118 $683 $1,139
</TABLE>
-11-
<PAGE> 13
Summary of Loan Loss Experience
The following table provides an analysis of net losses by loan type for the last
five years at December 31st:
<TABLE>
<CAPTION>
(In thousands) 1996 1995 1994 1993 1992
- -------------- ---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Balance at beginning
of year $ 11,897 $ 10,410 $ 7,368 $ 5,906 $ 4,117
Provision charged to
operating expense 1,980 1,525 3,900 3,012 2,249
Deduct:
Loans charged-off:
Commercial (526) (1,250) (1,111) (1,886) (1,556)
Real Estate (1,333) (875) (879) (290) (390)
Installment (84) (87) (100) (93) (56)
-----------------------------------------------------------------
Total charged-off loans (1,943) (2,212) (2,090) (2,269) (2,002)
Less recoveries:
Commercial 752 1,245 613 500 222
Real Estate 535 901 557 151 157
Installment 47 28 62 68 53
-----------------------------------------------------------------
Total recoveries 1,334 2,174 1,232 719 432
Net charge-offs (609) (38) (858) (1,550) (1,570)
Allowance for possible loan
losses assumed in merger 1,110
-----------------------------------------------------------------
Balance at end of year $ 13,268 $ 11,897 $ 10,410 $ 7,368 $ 5,906
=================================================================
Net total loans at
end of period $ 600,394 $ 504,988 $ 470,512 $ 369,606 $ 320,820
Daily average loans $ 555,105 $ 485,430 $ 426,344 $ 338,029 $ 284,239
Ratio of net charged-off
loans during period to
average loans outstanding 0.11% 0.01% 0.20% 0.46% 0.55%
=================================================================
</TABLE>
-12-
<PAGE> 14
It is the policy of Frontier Financial Corporation and its subsidiary to
charge-off any loan or portion of a loan that is deemed uncollectible in the
ordinary course of business. The entire allowance for possible loan losses is
available to absorb such charge-offs.
In the opinion of management, if a loan represents a long-term liquidation
project, particularly when the liquidation is under the control of the
bankruptcy courts, a decision may be made to write off the asset. Many
charge-offs will ultimately have recoveries in full or a significant part, and
some are currently under repayment programs.
For fiscal year-end 1996, net loan losses were $609 thousand, or .11% of average
loans outstanding. Although somewhat larger than the negligible loan loss in
1995, it is well below 1994 and other years in recent history.
As indicated by the previous chart, the Bank has recovered a significant portion
of its charged-off loans for fiscal years 1996 and 1995. The chart also
indicates that the Bank's net charge-offs for fiscal years 1992 and 1993 were
substantially higher. The higher level for those fiscal years is primarily
attributed to loans acquired through acquisition.
Charged-off loans that continue to be actively pursued for collection as of
fiscal year-end 1996, total $2.9 million. While additional recoveries are
expected, the amounts and timing cannot be determined with certainty.
Based on certain characteristics of the portfolio, potential losses can be
anticipated for major loan categories. In the following table, the allowance for
possible loan losses at year-end, for the last five years, has been allocated
among major loan categories based primarily on their historical net charge-off
experience, along with consideration of factors such as quality, volume,
anticipated economic conditions, and other business considerations.
(In thousands, except percents)
<TABLE>
<CAPTION>
Loan Loan Loan Loan Loan
1996 Category 1995 Category 1994 Category 1993 Category 1992 Category
Reserve Percent Reserve Percent Reserve Percent Reserve Percent Reserve Percent
------- ------- ------- ------- ------- ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Commercial $ 7,960 19.5% $ 7,138 25.1% $ 6,246 25.8% $ 4,781 32.2% $ 4,370 35.3%
Real Estate 4,953 76.7% 4,283 71.0% 3,748 70.2% 2,425 62.6% 1,359 58.4%
Installment 355 3.8% 476 3.9% 416 4.0% 162 5.2% 177 6.3%
------------------------------------------------------------------------------------------------
TOTAL $13,268 100.0% $11,897 100.0% $10,410 100.0% $ 7,368 100.0% $ 5,906 100.0%
================================================================================================
</TABLE>
Historical net charge-offs are not necessarily accurate indicators of future
losses since net charge-offs vary from period to period due to economic
conditions and other factors that cannot be accurately predicted. Thus, an
evaluation based on historical loss experience of individual loan categories is
only one of many factors considered by management in evaluating the adequacy of
the overall allocation, and in determining the amount of the provision for
possible loan losses. Other factors are the continuing level of nonperforming
loans, credit concentrations, and uncertain economic conditions. At December 31,
1996, based on current economic conditions, the total of the allocation for
possible loan losses is, in management's opinion, adequate to provide for future
losses. However, a worsening of the economy in the Bank's market area could
negatively affect loan performance and underlying collateral values. The full
impact of such a trend on the condition of the Bank cannot be estimated.
-13-
<PAGE> 15
Credit Concentrations
At year-end 1996, 19.7% of the Bank's loan portfolio was in residential and
commercial construction and land development projects centered in Snohomish,
King and Skagit Counties. Management has established a Real Estate Review
Committee which meets periodically to monitor local economic conditions, and the
performance of borrowers in this industry. The chart below indicates the amount
of those loans, and as a percent of total loans for the period:
<TABLE>
<CAPTION>
At December 31,
(In thousands) 1996 1995 1994 1993 1992
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Construction $ 66,065 $ 50,675 $ 55,551 $ 38,324 $ 34,399
Land Development 52,186 33,946 38,582 28,835 29,012
------------------------------------------------------------
TOTAL $118,251 $ 84,621 $ 94,133 $ 67,159 $ 63,411
============================================================
Total Loans at end of period $600,394 $504,988 $470,512 $369,606 $320,820
============================================================
Construction and Land
Development loans as a
percent of total loans 19.7% 16.8% 20.0% 18.2% 19.8%
============================================================
</TABLE>
Deposits
For the average amount of deposits and rates paid on such deposits for years
ended December 31, 1996, 1995, and 1994 please refer to page 35 of Annual Report
to Shareholders.
Maturities of time certificates of deposit $100,000 and over at year end 1996,
are shown below:
<TABLE>
<CAPTION>
(In thousands)
<S> <C>
3 months or less $27,975
Over 3 months through 6 months 28,938
6 months through 12 months 30,530
Over 12 months 21,512
--------
TOTAL $108,955
========
</TABLE>
Significant Financial Ratios
Ratios for the years ended December 31, 1996, 1995 and 1994 are as follows:
<TABLE>
<CAPTION>
1996 1995 1994
---- ---- ----
<S> <C> <C> <C>
Return on Average Assets 1.94% 1.82% 1.69%
Return on Average Equity 20.01% 21.59% 22.21%
Cash dividends paid/dividend payout -0- -0- -0-
Average Equity to Average Assets 9.70% 8.45% 7.63%
</TABLE>
-14-
<PAGE> 16
Borrowings
<TABLE>
<CAPTION>
Short-Term Borrowings Weighted Weighted Weighted
(In thousands) Average Average Average
Interest Interest Interest
At December 31, 1996 Rate 1995 Rate 1994 Rate
----------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Year-end balance: $12,011 4.89% $ 7,596 5.51% $ 9,615 4.58%
Highest month end
balance during
the period: $12,390 $12,400 $34,000
------- ------- -------
</TABLE>
For information regarding average balances and yields, please refer to page 35
of 1996 Annual Report to Shareholders.
Long-Term Debt
For detailed information relating to long term debt, please refer to Note 9,
page 15, of 1996 Annual Report to Shareholders.
-15-
<PAGE> 17
ITEM 2 - PROPERTIES
The Bank's Evergreen Way Office (previously the Main Office) is a two story
building constructed in 1979, and owned by the Bank. This building has
approximately 13,000 square feet, and is fully utilized by the Bank.
The Bank's first branch, the Downtown Everett Office, opened in 1980 in rented
facilities at 2831 Wetmore Ave, was relocated in 1994 one block from its
previous location to 2831 Colby Ave, in downtown Everett. FFP, Inc. has entered
into a long term lease on the property which is subleased to the Bank. In this
same building, is the Bank's Trust Department, and Private Banking Office. The
Bank utilizes 12,000 square feet, which is all of the main floor of the
building.
The Bank owns the Arlington Office premises which consists of a single story
building with approximately 3,000 square feet. Contiguous to the Arlington
Office is a parcel of land on which five apartments are located. The Bank owns
these apartments. The Arlington Office was acquired through merger with The Bank
of Arlington in August, 1982. The Bank of Arlington had one office.
In September 1985, a drive-up facility was constructed at 2612 Wetmore Ave.,
Everett, to service the Bank's downtown community. This facility has
approximately 600 square feet, three drive-up lanes, and a card-access-control
merchant reception room. This property is owned by FFP, Inc.
FFP owns the Bank's Snohomish Office property in Snohomish, on which a new
permanent facility was completed in 1996. The new facility has 3,500 square feet
and is fully occupied by the Bank. Previously, this office was operating out of
a double-wide mobile facility, and there were eight apartments sharing the
property. The apartments have been removed to make way for the new branch
office. This office originally opened in April 1987.
FFP, Inc. owns the property in Lynnwood, which is rented by the Bank for its
Lynnwood Office. The office opened for business in June 1988, has approximately
3,200 square feet, and is fully utilized by the Bank.
The Bank acquired the Marysville Office by merger with Citizens Bank of
Snohomish County in August 1989. This building has approximately 5,000 square
feet, and is fully utilized by the Bank. On the same property are two buildings,
which are presently rented to other business concerns. The Bank owns the land
and the buildings.
The Smokey Point Office was added to the branch network by the same merger in
August 1989. This office was relocated within a few blocks of the original site
in June 1995. FFP owns the land and building and leases it to the Bank. The
office has 3,500 square feet and is fully utilized by the Bank.
The Bank acquired its Lake Stevens Office by the same merger. The Bank owns the
building, but leases the land from nonaffiliates. The building is a mobile
facility type construction, and has 1,800 square feet, which is fully utilized
by the Bank.
-16-
<PAGE> 18
The Bank's Mill Creek Office is located approximately five miles east of
Lynnwood, Washington. The office was opened in January 1991, and has 2,600
square feet, all being utilized by the Bank. The property and building are
leased from nonaffiliates.
In July 1992, the Bank opened its Stanwood Office in leased quarters. In 1994,
FFP constructed a new facility in the immediate area, on land purchased. The
building has 3,500 square feet, and is fully utilized by the Bank.
In November 1992, the Bank acquired its Edmonds Office by merger with Edmonds
National Bank. This building has approximately 11,300 square feet and is fully
utilized by the Bank. The land is being leased by the Bank from nonaffiliates,
but the Bank owns the building.
In May 1993, FFP completed construction of an Administration/Financial Center in
south Everett. This facility houses the Main Office of the Bank and the
Executive Offices of the Corporation. The three story building has approximately
42,100 square feet and is fully utilized by the Bank and Corporation. The
building houses all of the operation functions of the Bank, including the data
processing center and the real estate loan center.
In July 1993, the Bank acquired the Bothell Office through merger with The Bank
of Northshore. This office, previously the Main Office of the Bank of
Northshore, has approximately 1,800 square feet, and is fully utilized by the
Bank. Both the land and building are owned by the Bank.
The Bank acquired its Woodinville Office through the same merger. This office
has approximately 1,300 square feet, and is one of three suites in an office
building. The Bank is renting the office from nonaffiliates. FFP has purchased
land for construction of a new facility which is expected to be occupied in the
third quarter of 1997.
In 1994, FFP purchased property for the Bank's Monroe office. This office opened
in June 1995. The building has 3,500 square feet, and is fully utilized by the
Bank.
In May 1996, FFP purchased property for the Bank's Lake City Office, located in
North Seattle. The property has 5,000 square feet, is two story construction,
and was previously a branch office of a larger regional bank which had to divest
itself of the office as a condition to merger. This office opened for business
in August 1996.
Also in May 1996, the Bank entered into a lease agreement, with nonaffiliates,
for the Bank's Skagit County Office, located in Burlington. This office has
1,600 square feet, and is fully utilized by the Bank.
This office opened for business in December 1996.
In June 1996, FFP purchased property for the Bank's Redmond Office, located in
Redmond, which is approximately 15 miles east of Seattle. The office has 5,000
square feet, and will be fully utilized by the Bank. This office was also
purchased from a larger regional bank which had to divest itself of the office
as a condition to merger.
As of December 31, 1996, the Bank had eighteen branch offices, including the
Main Office.
-17-
<PAGE> 19
ITEM 3 - LEGAL PROCEEDINGS
There are no material legal proceedings.
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to security holders during the fourth
quarter of 1996.
PART II
ITEM 5 - MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
Please see 1996 Annual Report to Shareholders, page 34.
ITEM 6 - SELECTED FINANCIAL DATA
(In thousands, except per share data)
FINANCIAL HIGHLIGHTS
<TABLE>
<CAPTION>
% Change
AT YEAR-END 1996 1995 1994 1993 1992 1995-1996
--------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Total assets $803,619 $735,183 $642,568 $558,043 $486,656 9.3%
Net loans 587,126 493,091 460,102 362,238 314,914 19.1%
Deposits 670,516 641,218 539,603 506,538 448,818 4.6%
Long-term debt 100 136 565 737 1,414 -26.5%
Investment securities 131,130 144,976 136,326 151,509 89,062 -9.6%
Shareholders' equity 80,317 65,353 50,459 41,167 33,257 22.9%
FOR THE YEAR
Interest income 68,000 63,086 52,945 44,324 40,251 7.8%
Interest expense 30,100 29,347 20,639 17,782 18,938 2.6%
Securities gains(losses) 0 (4) (355) 0 45 NM
Provision for loan losses 1,980 1,525 3,900 3,012 2,249 29.8%
Net income 14,617 12,615 10,360 7,746 5,647 15.9%
Earnings per share $2.15 $1.87 $1.54 $1.16 $0.85 15.0%
Return on Average
Assets 1.94% 1.82% 1.69% 1.50% 1.36%
Equity 20.01% 21.59% 22.21% 20.59% 19.39%
Avg. equity/avg. assets 9.70% 8.45% 7.63% 7.28% 7.00%
</TABLE>
NM=Not Meaningful
ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Please see 1996 Annual Report to Shareholders, pages 26 through 36.
-18-
<PAGE> 20
ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
Annual
Form Report to
10-K Shareholders
Page Page
-------------------------
<S> <C> <C>
Report of Independent Public Accountants 23
Report of Management 1
Consolidated Balance Sheet at
December 31, 1996 and 1995 3
Consolidated Statement of Income for the Years
Ended December 31, 1996, 1995 and 1994 4
Consolidated Statement of Cash Flows for the
Years Ended December 31, 1996, 1995 and 1994 5
Consolidated Statement of Changes in
Shareholders' Equity 6
Condensed Balance Sheet (Parent Only) at
December 31, 1996 and 1995 23
Condensed Statement of Income (Parent Only) for the
Years Ended December 31, 1996, 1995 and 1994 24
Condensed Statement of Cash Flows (Parent Only)
for Years Ended December 31, 1996, 1995 and 1994 25
Notes to Consolidated Financial Statements 7-25
</TABLE>
ITEM 9 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
-19-
<PAGE> 21
PART III
ITEM 10 - DIRECTORS AND EXECUTIVE OFFICERS OF FRONTIER FINANCIAL CORPORATION
Please see pages 2 thru 6 of 1997 Proxy Statement.
ITEM 11 - EXECUTIVE COMPENSATION
Please see pages 5 thru 8 1997 Proxy Statement.
ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Please see page 4 of 1997 Proxy Statement.
ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Please see page 7 of 1997 Proxy Statement; and, Note 13, page 20 of 1996
Annual Report to Shareholders; and, Page 22 of this Form 10-K report.
-20-
<PAGE> 22
PART IV
ITEM 14 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of the report:
1. Financial Statements.
Financial statements required by Item 8 of this report are incorporated
by reference, from the Annual Report to Shareholders, attached hereto as
an exhibit.
2. Financial Statement Schedules.
Additional financial statement schedules filed with this report are
included in Item 14(d) and are as follows:
Schedule I - Amounts Receivable from Certain Persons
Schedules other than those listed above are omitted because of
the absence of the condition under which they are required or
because the information called for is included in the financial
statements or notes thereto.
3. Exhibits.
(3) Articles of Incorporation and By-Laws are incorporated herein by
reference to Exhibits 3(a) and 3(b) to Registration on Form
S-14, File No. 2-82420.
(11) Statement Regarding Computation of Earnings Per Share.
(13) Annual Report to Shareholders for the year ended December 31,
1996. (Pages 1 to 36).
(21) Subsidiaries of Registrant is incorporated by reference from
Part I, page 1 thru 5 of this report.
(27) Financial Data Schedule (This exhibit is included only
in the electronic EDGAR filing version of this Form 10-K. The
Financial Data Schedule is not a separate financial statement,
but a schedule that summarizes certain standard financial
information extracted directly from the financial statements in
this filing.)
(b) Reports on Form 8-K:
No Form 8-K's were filed, nor required to be filed for any event during
the fourth quarter ended December 31, 1996.
(c) Exhibits - See list of exhibits set forth above at Item 14 (a)3.
(d) Financial Statement Schedules:
Schedules required to be filed in response to this portion of Item 14
are listed above in Item 14 (a)1 and 2. The report of independent public
accountants covering these items is included on page 23 of this Form
10-K.
-21-
<PAGE> 23
SCHEDULE I
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
AMOUNTS RECEIVABLE FROM CERTAIN PERSONS
(In thousands)
<TABLE>
<CAPTION>
Balance at
Year Ended Balance at Deductions December 31
December 31 January 1 Additions Collections Write-offs all current
----------- --------- --------- ----------- ---------- -----------
<S> <C> <C> <C> <C> <C>
1996
----
Eight $8,552 $3,218 ($5,268) $0 $6,502
Directors
and Three
Officers
1995
----
Nine $10,044 $4,123 ($5,615) $0 $8,552
Directors
and Three
Officers
1994
----
Eight $5,969 $7,695 ($3,620) $0 $10,044
Directors
and Three
Officers
</TABLE>
-22-
<PAGE> 24
[MOSS-ADAMS LLP LETTERHEAD]
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Shareholders
Frontier Financial Corporation
We have audited the consolidated financial statements and related financial
statement schedule of Frontier Financial Corporation and subsidiaries listed in
item 14(a)1 and 2 of the Annual Report on Form 10-K of Frontier Financial
Corporation for the year ended December 31, 1996. These financial statements
are the responsibility of the Corporation's management. Our responsibility is
to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free from
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Frontier Financial
Corporation and subsidiaries as of December 31, 1996 and 1995, and the results
of their operations and their cash flows for each of the three years in the
period ended December 31, 1996, in conformity with generally accepted
accounting principles. In our opinion, the financial statement schedule
referred to above, when considered in relation to the basic financial
statements taken as a whole, presents fairly the information required to be
included therein.
/s/ MOSS ADAMS LLP
Everett, Washington
January 21, 1997
-23-
<PAGE> 25
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
FRONTIER FINANCIAL CORPORATION
March 19, 1997 /s/ Robert J. Dickson
- ---------------- ------------------------------------------
Date Robert J. Dickson
President & Chief Executive Officer
March 19, 1997 /s/ James F. Felicetty
- ---------------- ------------------------------------------
Date James F. Felicetty
Secretary/Treasurer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated:
March 19, 1997 /s/ Robert J. Dickson
- ---------------- ------------------------------------------
Robert J. Dickson, Director
March 19, 1997 /s/ David A. Dujardin
- ---------------- ------------------------------------------
David A. Dujardin
March 19, 1997 /s/ Edward D. Hansen
- ---------------- ------------------------------------------
Edward D. Hansen, Director
March 19, 1997 /s/ William H. Lucas
- ---------------- ------------------------------------------
William H. Lucas, Director
March 19, 1997 /s/ James H. Mulligan
- ---------------- ------------------------------------------
James H. Mulligan, Director
March 19, 1997 /s/ Edward J. Novack
- ---------------- ------------------------------------------
Edward J. Novack, Secretary of the Board
March 19, 1997 /s/ J. Donald Regan
- ---------------- ------------------------------------------
J. Donald Regan, Director
March 19, 1997 /s/ Roger L. Rice
- ---------------- ------------------------------------------
Roger L. Rice, Director
March 19, 1997 /s/ Roy A. Robinson
- ---------------- ------------------------------------------
Roy A. Robinson, Director
March 19, 1997 /s/ William J. Robinson
- ---------------- ------------------------------------------
William J. Robinson, Chairman of the Board
March 19, 1997 /s/ Edward C. Rubatino
- ---------------- ------------------------------------------
Edward C. Rubatino, Director
-24-
<PAGE> 26
Exhibit Index
(3) Articles of Incorporation and By-Laws are incorporated herein by
reference to Exhibits 3(a) and 3(b) to Registration on Form
S-14, File No. 2-82420.
(11) Statement Regarding Computation of Earnings Per Share.
(13) Annual Report to Shareholders for the year ended December 31,
1996. (Pages 1 to 36)
(21) Subsidiaries of Registrant is incorporated by reference from
Part I, page 1 thru 5 of this report.
(27) Financial Data Schedule (This exhibit is included only
in the electronic EDGAR filing version of this Form 10-K. The
Financial Data Schedule is not a separate financial statement,
but a schedule that summarizes certain standard financial
information extracted directly from the financial statements in
this filing.)
-25-
<PAGE> 1
EXHIBIT 11
FRONTIER FINANCIAL CORPORATION
COMPUTATION OF EARNINGS PER SHARE
<TABLE>
<CAPTION>
Year Ended December 31,
-----------------------------------------
1996 1995 1994
<S> <C> <C> <C>
Net Income $14,616,844 $12,614,926 $10,360,273
=========================================
Computation of average shares
outstanding:
Shares outstanding at
beginning of year 6,322,255 4,196,435 3,799,477
Additional shares deemed
outstanding because of
stock dividends 443,628 441,495 820,595
Shares issued pursuant
to stock splits 2,100,650 2,093,986
Shares issued during
the year times average
time outstanding during
the year 33,642 9,987 7,637
-----------------------------------------
Average Shares Outstanding 6,799,525 6,748,567 6,721,695
=========================================
Primary Earnings Per Share $ 2.15 $ 1.87 $ 1.54
=========================================
</TABLE>
The effect of stock options outstanding has a dilutive effect of less than 3% of
total outstanding shares, and is therefore not shown.
-25-
<PAGE> 1
EXHIBIT 13
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
REPORT OF MANAGEMENT
The management of Frontier Financial Corporation and its subsidiaries has
prepared and is responsible for the integrity and fairness of the financial
statements and other financial information included in this annual report. The
financial statements are prepared in accordance with generally accepted
accounting principles and prevailing practices of the banking industry and, when
appropriate, include amounts based on management's best estimates and judgment.
Management has established and is responsible for maintaining an internal
control environment designed to provide reasonable assurance that transactions
are properly authorized, assets are safeguarded and financial records are
reliably maintained. The internal control environment includes: an effective
financial accounting structure; a comprehensive internal audit function; an
independent Audit Committee of the Board of Directors; and extensive financial
and operating policies and procedures. The Corporation's management also fosters
an ethical climate supported by a code of conduct along with appropriate
selection and training of personnel.
The Audit Committee of the Board of Directors, composed solely of outside
directors, meets periodically with management, the independent accountants and
the internal auditors to ensure that each is properly discharging its
responsibilities with regard to the financial statements and internal accounting
controls. The independent accountants have full and free access to the Audit
Committee and meets with it to discuss auditing and financial reporting matters.
The Corporation's financial statements are audited by Moss Adams LLP, the
Corporation's independent auditors. Their audits were conducted in accordance
with generally accepted auditing standards and include a consideration of the
internal control structure, tests of accounting records and other audit
procedures necessary to allow the auditors to express their opinion on the
fairness of the financial statements.
Management recognizes that there are inherent limitations in the effectiveness
of any internal control environment. However, management believes that, as of
December 31, 1996, the Corporation's internal control environment provided
reasonable assurance as to the integrity and reliability of the financial
statements and related financial information.
Management is responsible for compliance with the federal and state laws and
regulations concerning restrictions and loans to insiders designated by the FDIC
as safety and soundness laws and regulations.
Management assessed the Corporation's compliance with the designated laws and
regulations relating to safety and soundness. Based on this assessment,
management believes that the Corporation complied, in all significant respects,
with the designated laws and regulations related to safety and soundness for the
year ended December 31, 1996.
/s/ Robert J. Dickson /s/ James F. Felicetty
ROBERT J. DICKSON JAMES F. FELICETTY
President and Chief Executive Officer Secretary/Treasurer
PAGE ONE
<PAGE> 2
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
REPORT OF MOSS ADAMS LLP, INDEPENDENT AUDITORS
To the Board of Directors and Shareholders
Frontier Financial Corporation
We have audited the accompanying consolidated balance sheet of Frontier
Financial Corporation and subsidiaries as of December 31, 1996 and 1995, and the
related consolidated statements of income, changes in shareholders' equity, and
cash flows for each of the three years in the period ended December 31, 1996.
These financial statements are the responsibility of the Corporation's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Frontier Financial
Corporation and subsidiaries as of December 31, 1996 and 1995, and the results
of their operations and their cash flows for each of the three years in the
period ended December 31, 1996, in conformity with generally accepted accounting
principles.
Everett, Washington
January 21, 1997
/s/ MOSS ADAMS
PAGE TWO
<PAGE> 3
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
In Thousands
<TABLE>
<CAPTION>
December 31,
ASSETS -----------------------
1996 1995
---------- ---------
<S> <C> <C>
Cash and due from banks $35,105 $19,708
Federal funds sold 25,050 55,930
Investment securities
Available for sale, at fair value 96,628 102,300
Held to maturity (Fair value 1996: $35,574; 1995: $43,889) 34,502 42,676
---------- ---------
Total investment securities 131,130 144,976
Loans 600,394 504,988
Less allowance for loan losses (13,268) (11,897)
---------- ---------
Net loans 587,126 493,091
Premises and equipment, net 14,202 11,758
Other real estate owned 444 590
Other assets 10,562 9,130
---------- ---------
TOTAL ASSETS $803,619 $735,183
========== =========
LIABILITIES
Deposits
Noninterest bearing accounts $82,275 $83,281
Interest bearing accounts 588,241 557,937
---------- ---------
Total deposits 670,516 641,218
Federal funds purchased and securities sold
under agreements to repurchase 12,011 7,596
Other liabilities 5,675 5,880
Federal Home Loan Bank advances 35,000 15,000
Long-term debt 100 136
---------- ---------
TOTAL LIABILITIES 723,302 669,830
---------- ---------
COMMITMENTS
SHAREHOLDERS' EQUITY
Common stock, no par value;
20,000,000 shares authorized;
6,830,666 and 6,322,255 shares issued
and outstanding in 1996 and 1995 57,191 44,084
Retained earnings 22,997 20,336
Unrealized gains on available for
sale securities, net of tax effect 129 933
---------- ---------
TOTAL SHAREHOLDERS' EQUITY 80,317 65,353
---------- ---------
TOTAL LIABILITIES AND
SHAREHOLDERS' EQUITY $803,619 $735,183
========== =========
</TABLE>
The accompanying notes are an integral part of these financial statements.
PAGE THREE
<PAGE> 4
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF INCOME
In Thousands, except for per share amounts
<TABLE>
<CAPTION>
Year Ended December 31,
------------------------------------
1996 1995 1994
--------- --------- ---------
<S> <C> <C> <C>
INTEREST INCOME
Interest and fees on loans $57,545 $52,146 $43,595
Interest on federal funds sold 1,331 2,194 52
Interest on investment securities
taxable 7,350 6,781 7,237
exempt from federal income tax 1,774 1,965 2,061
--------- --------- ---------
Total interest income 68,000 63,086 52,945
--------- --------- ---------
INTEREST EXPENSE
Interest on deposits 28,078 27,855 18,764
Interest on FHLB advances 1,470 1,297 1,255
Interest on federal funds purchased
and securities sold under
agreements to repurchase 538 175 538
Interest on long-term debt 14 20 82
--------- --------- ---------
Total interest expense 30,100 29,347 20,639
--------- --------- ---------
Net Interest Income 37,900 33,739 32,306
PROVISION FOR LOAN LOSSES (1,980) (1,525) (3,900)
--------- --------- ---------
Net interest income after
provision for loan losses 35,920 32,214 28,406
--------- --------- ---------
OTHER INCOME
Service charges 1,562 1,578 1,574
Securities losses --- (4) (355)
Other 2,146 1,843 1,691
--------- --------- ---------
Total other income 3,708 3,417 2,910
--------- --------- ---------
OTHER EXPENSE
Salaries 7,868 7,109 6,792
Employee benefits 3,225 2,868 2,533
Occupancy 2,535 2,494 2,316
FDIC insurance premium 2 633 1,110
State business taxes 872 859 719
Losses recognized on other
real estate owned --- --- 5
Other 3,429 3,201 3,176
--------- --------- ---------
Total other expense 17,931 17,164 16,651
--------- --------- ---------
INCOME BEFORE INCOME TAX 21,697 18,467 14,665
PROVISION FOR INCOME TAX (7,080) (5,852) (4,305)
--------- --------- ---------
NET INCOME $14,617 $12,615 $10,360
========= ========= =========
PER SHARE OF COMMON STOCK $2.15 $1.87 $1.54
========= ========= =========
</TABLE>
The accompanying notes are an integral part of these financial statements.
PAGE FOUR
<PAGE> 5
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
In Thousands Year Ended December 31,
------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES 1996 1995 1994
--------- --------- ---------
<S> <C> <C> <C>
Net Income $14,617 $12,615 $10,360
Adjustments to reconcile net income to net
cash provided by operating activities
Depreciation and amortization 1,404 959 1,044
Provision for loan losses 1,980 1,525 3,900
Provision for losses on other real estate owned --- --- 5
Deferred taxes (842) (398) (769)
Increase (decrease) in income taxes payable 2 177 (1,158)
Decrease in interest receivable (135) (409) (309)
Increase (decrease) in interest payable (223) 1,611 707
Proceeds from sales of mortgage loans 20,711 17,241 17,045
Origination of mortgage loans held for sale (20,884) (17,512) (16,050)
Dividend income from Federal Home Loan Bank (654) (427) (327)
Gain on sale of available for sale securities --- 4 355
Other operating activities (451) (160) 439
--------- --------- ---------
Net cash provided by operating activities 15,525 15,226 15,242
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Net cash flows from federal funds sold 30,880 (54,810) (1,120)
Proceeds from sales of available for sale securities --- 87 10,782
Proceeds from maturities of available for sale
and held to maturity securities 42,026 19,577 12,153
Purchase of investment securities available for sale (11,013) --- ---
Purchase of investment securities held to maturity (16,554) (24,165) (9,230)
Net cash flows from loan activities (97,663) (35,587) (101,951)
Purchases of premises and equipment (1,359) (450) (1,669)
Proceeds from the sale of other real estate owned 305 1,423 566
Cash invested in other real estate owned (281) (101) (178)
Other investing activities (478) --- ---
--------- --------- ---------
Net cash used by investing activities (54,137) (94,026) (90,647)
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Net change in demand deposit accounts 16,021 (43,205) (39,912)
Net change in certificates of deposit 13,635 144,820 72,976
Net change in federal funds purchased 4,415 (2,019) 3,575
Advances from the Federal Home Loan Bank 55,000 --- 45,000
Repayments to the Federal Home Loan Bank (35,000) (22,500) (7,500)
Principal payments on long term-debt (36) (812) (172)
Other financing activities (26) 143 79
--------- --------- ---------
Net cash provided by financing activities 54,009 76,427 74,046
--------- --------- ---------
INCREASE (DECREASE) IN CASH AND DUE FROM BANKS 15,397 (2,373) (1,359)
CASH AND DUE FROM BANKS AT BEGINNING OF YEAR 19,708 22,081 23,440
--------- --------- ---------
CASH AND DUE FROM BANKS AT END OF YEAR $35,105 $19,708 $22,081
========= ========= =========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the year for interest $30,323 $27,736 $19,932
Cash paid during the year for income taxes $7,920 $6,073 $5,554
========= ========= =========
</TABLE>
SUPPLEMENTAL INFORMATION ABOUT NONCASH INVESTING AND FINANCING ACTIVITIES
Other real estate acquired in settlement of loans in 1995 and 1994 was $883
thousand, and $187 thousand, respectively.
Sales of other real estate financed by the Bank in 1996 and 1995 were $570
thousand, and $90 thousand, respectively.
The accompanying notes are an integral part of these financial statements.
PAGE FIVE
<PAGE> 6
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
In Thousands, except number of shares
<TABLE>
<CAPTION>
Common Stock Net Unrealized
-------------------------- Retained Gains (Losses)
Shares Amount Earnings On Securities Total
---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Balance, December 31, 1993 3,799,477 $34,678 $6,489 --- $41,167
Adoption of SFAS No. 115 $1,143 1,143
Net income for 1994 --- --- 10,360 --- 10,360
Stock options exercised 16,100 96 --- --- 96
Stock dividend 380,295 9,128 (9,128) --- ---
Fractional shares purchased, (net) 563 15 --- --- 15
Unrealized losses on available
for sale securities, net of tax
effect --- --- --- (2,322) (2,322)
---------- ---------- ---------- ---------- ----------
Balance, December 31, 1994 4,196,435 43,917 7,721 (1,179) 50,459
Net income for 1995 --- --- 12,615 --- 12,615
Stock options exercised 24,821 159 --- --- 159
Three-for-two split 2,100,651 --- --- --- ---
Fractional shares purchased, (net) 348 8 --- --- 8
Unrealized gains on transfer from
held to maturity to available
for sale, net of tax effect --- --- --- 237 237
Unrealized gains on available
for sale securities, net of tax
effect --- --- --- 1,875 1,875
---------- ---------- ---------- ---------- ----------
Balance, December 31, 1995 6,322,255 44,084 20,336 933 65,353
Net income for 1996 --- --- 14,617 --- 14,617
Stock options exercised 31,283 160 --- --- 160
Stock dividend 442,831 11,956 (11,956) --- ---
Fractional shares purchased, (net) 797 20 --- --- 20
Stock exchange for Washington
Banking Company stock 33,500 971 --- --- 971
Unrealized losses on available
for sale securities, net of tax
effect --- --- --- (804) (804)
---------- ---------- ---------- ---------- ----------
Balance, December 31, 1996 6,830,666 $57,191 $22,997 $129 $80,317
========== ========== ========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
PAGE SIX
<PAGE> 7
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
NOTE ONE - BASIS OF PRESENTATION, NATURE OF OPERATIONS AND SUMMARY OF
SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION - The consolidated financial statements include the
accounts of Frontier Financial Corporation (the Corporation or FFC), a bank
holding company, and its wholly-owned subsidiaries, Frontier Bank (the Bank),
and FFP, Incorporated (FFP). FFP owns certain real property which is leased to
the Bank for use in its operations. Significant intercompany account balances
and transactions have been eliminated. Assets held by the Bank in an agency or
fiduciary capacity are not included in the accompanying financial statements.
NATURE OF OPERATIONS - The Corporation is primarily engaged in providing a full
range of banking and mortgage services to individual and corporate customers
through the Bank. The Bank also provides other services such as trust services
and insurance and financial service brokerage activities. The Corporation is
subject to competition from other financial institutions. The Corporation is
also subject to regulation by certain federal and state agencies and undergoes
periodic examinations by those regulatory authorities.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
INVESTMENT SECURITIES - Investments in equity and debt securities are classified
into one of three categories: 1) held to maturity, 2) available for sale, or 3)
trading. Investment securities are categorized as held to maturity when the
Corporation has the positive intent and ability to hold those securities to
maturity. Securities which are held to maturity are stated at cost, adjusted for
amortization of premiums and accretion of discounts which are recognized as
adjustments to interest income. Investment securities categorized as available
for sale are generally held for investment purposes (to maturity), although
unanticipated future events may result in the sale of some securities. Available
for sale securities are recorded at fair value, with the net unrealized gain or
loss included as a separate component of shareholders' equity net of the related
tax effect. Realized gains or losses on dispositions are based on the net
proceeds and the adjusted carrying amount of securities sold, using the specific
identification method.
The Corporation did not have any investment securities categorized as trading
securities at December 31, 1996 and 1995.
LOANS AND RELATED INCOME - On January 1, 1995 the Corporation adopted Statement
of Financial Accounting Standards (SFAS) No. 114, "Accounting by Creditors for
Impairment of a Loan." Under this Statement, a loan is impaired when, based on
current information and events, it is probable that a creditor will be unable to
collect all amounts due according to the contractual terms of the loan
agreement. Concurrently, the Corporation adopted SFAS No. 118, "Accounting by
Creditors for Impairment of a Loan-Income Recognition and Disclosures." This
Statement amends SFAS No. 114 to require information about certain impaired
loans and their related income recognition. The adoption of these statements did
not have a material effect on the Corporation's financial condition and results
of operations. Loans are stated at the principal balance outstanding, adjusted
for unearned discounts, the net of unamortized nonrefundable fees and related
direct loan origination costs, and direct charge-offs. Interest income is
accrued as earned.
PAGE SEVEN
<PAGE> 8
NOTE ONE - Continued
Net deferred fees and costs are generally amortized into interest income as an
adjustment to the loan yield. Expenses deferred (principally personnel expense)
and recognized in the yield adjustment result in a reduction in noninterest
expense.
Nonrefundable fees related to lending activities other than direct loan
origination or purchase are recognized as credit related fees and included in
noninterest income during the period the related service is provided. These fees
include agency, standby letter of credit, loan commitment, and loan servicing
fees.
A loan is considered impaired when management determines it is probable that all
contractual amounts of principal and interest will not be paid as scheduled in
the loan agreement. These loans include nonaccruing loans past due 90 days or
more, loans restructured in the current year, and other loans that management
considers to be impaired.
Loans are placed on nonaccrual status when, in the opinion of management, the
collection of additional interest is doubtful or when the loan becomes 90 or
more days past due. When a loan is placed on nonaccrual status, all interest
previously accrued, but not collected, is reversed and charged against interest
income. Income on nonaccrual loans is then recognized only to the extent cash is
received and where the future collection of principal is probable. Accruals are
resumed only when the loan is brought current, or when, in the opinion of
management, the borrower has demonstrated the ability to resume payments of
principal and interest. Interest income on restructured loans is recognized
pursuant to the terms of the new loan agreement. Interest income on other
impaired loans is monitored and based upon the terms of the underlying loan
agreement. However, the recorded net investment in impaired loans, including
accrued interest, is limited to the present value of the expected cash flows of
the impaired loan or the observable fair market value of the loan or the fair
market value of the loan's collateral.
ALLOWANCE FOR LOAN LOSSES - The allowance for loan losses is maintained at a
level management believes is adequate to provide for potential loan, loan
commitment and standby letter of credit losses. The allowance is based on a
continuing review of loans, loan commitments and standby letters of credit which
includes consideration of actual loss experience, changes in the size and
character of the portfolio, identification of individual problem situations
which may affect the borrower's ability to repay, and evaluations of the
prevailing and anticipated economic conditions.
Material estimates that are particularly susceptible to significant change,
relate to the determination of the allowance for loan losses and the valuation
of real estate acquired in connection with foreclosures or in satisfaction of
loans. In connection with the determination of the allowance for loan losses and
the valuation of foreclosed assets held for sale, management obtains independent
appraisals for significant properties.
Management believes the allowance for loan losses and the valuation of
foreclosed assets held for sale are adequate. While management uses available
information to recognize losses on loans and foreclosed assets held for sale,
changes in economic conditions necessitate revision of these estimates in future
years. In addition, various regulatory agencies, as an integral part of their
examination processes, periodically review the Corporation's allowance for loan
losses and valuation of foreclosed assets held for sale. Such agencies may
require the Corporation to recognize additional losses based on their judgment
using information available to them at the time of their examination.
PAGE EIGHT
<PAGE> 9
NOTE ONE - Continued
LOANS HELD FOR SALE - Mortgage loans originated and designated as held for sale
are carried at the lower of cost or estimated fair value, as determined by
quoted market prices, in aggregate. Net unrealized losses are recognized in a
valuation allowance by charges to income. Gains or losses on the sale of such
loans are based on the specific identification method.
PREMISES AND EQUIPMENT - Premises and equipment are shown at cost and
depreciated using the straight-line and accelerated methods. Depreciation
expense is computed over the following estimated useful lives:
Premises: 7 to 39 1/2 years
Furniture, fixtures and equipment: 3 to 7 years
OTHER REAL ESTATE OWNED - Other real estate owned consists principally of
properties acquired through foreclosure and is stated at the lower of cost or
estimated market value. Losses arising from the acquisition of property, in full
or partial satisfaction of loans, are charged to the allowance for loan losses.
Subsequent to the transfer to foreclosed assets held for sale, these assets
continue to be recorded at the lower of cost or fair value (less estimated costs
to sell), based on periodic evaluations. Generally, legal and professional fees
associated with foreclosures are expensed as incurred. Costs incurred to improve
property prior to sale are capitalized, however, in no event are recorded costs
allowed to exceed fair value. Subsequent gains, losses, or expenses recognized
on the sale of these properties are included in noninterest income or expense.
INCOME TAX - The Corporation reports income and expenses using the accrual
method of accounting and files a consolidated tax return. Deferred tax assets
and liabilities are reflected at currently enacted income tax rates applicable
to the period in which the deferred tax assets or liabilities are expected to be
realized or settled. As changes in tax laws or rates are enacted, deferred tax
assets and liabilities are adjusted through the provision for income taxes.
Deferred taxes result from temporary differences in recognition of certain
income and expense amounts between the Bank's financial statements and its tax
returns.
RETIREMENT PLANS - The Corporation has a profit sharing and salary deferral plan
and a money purchase pension plan which covers eligible employees. The
Corporation's contributions to the plans were $1.3 million in 1996, $1.2 million
in 1995, and $1.1 million in 1994. Contributions to the profit sharing plan are
discretionary while contributions to the money purchase pension plan are
currently 5% of employees eligible salaries. Both plans are funded during the
period in which they are committed by the Board of Directors.
ADVERTISING COSTS - The Bank expenses advertising costs as they are incurred and
are not considered to be material.
FINANCIAL INSTRUMENTS - In the ordinary course of business the Bank has entered
into off-balance sheet financial instruments consisting of commitments to extend
credit, commitments under credit card arrangements, commercial letters of
credit, and standby letters of credit. Such financial instruments are recorded
in the financial statements when they are funded or related fees are incurred or
received.
STOCK OPTION PLANS - The Corporation recognizes the financial effects of stock
options in accordance with Accounting Principles Board Opinion No. 25
"Accounting for Stock Issued to Employees" (APB 25). Stock options are issued at
a price equal to the fair value of the Corporation's stock as of the grant date.
Under APB 25 options issued in this manner do not result in the recognition of
employee compensation in the Corporation's financial statements.
PAGE NINE
<PAGE> 10
NOTE ONE - Continued
INCOME PER SHARE - Income per share has been calculated on the basis of the
weighted average number of shares outstanding during the period after giving
retroactive effect to stock dividends and stock splits. The dilutive effect of
common stock options is not material.
CASH EQUIVALENTS - For purposes of reporting cash flows, cash and cash
equivalents include cash on hand, and amounts due from banks. Cash and cash
equivalents have an original maturity of three months or less.
USE OF ESTIMATES - The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the amounts reported in the financial statements and
accompanying notes.
RECLASSIFICATIONS - Certain amounts in prior years' financial statements have
been reclassified to conform to the 1996 presentation.
NOTE TWO - INVESTMENTS
Investments in federal funds sold are made with major banks which are approved
by the Board of Directors. The Bank has an investment policy that permits
holding securities rated only in one of the four highest rating categories by a
nationally recognized credit rating organization.
The aggregate amortized cost and fair values of investment securities at
December 31 are as follows:
In Thousands
- ------------
<TABLE>
<CAPTION>
1996 Gross Gross
- ---- Amortized Unrealized Unrealized Fair
Available for sale Cost Gains Losses Value
----------- ------------ ----------- -----------
<S> <C> <C> <C> <C>
U.S. Treasury $758 $30 --- $788
U.S. Agencies 45,824 187 ($308) 45,703
Corporate bonds 40,578 491 (202) 40,867
Equities 9,270 --- --- 9,270
----------- ------------ ----------- -----------
96,430 708 (510) 96,628
----------- ------------ ----------- -----------
Held to maturity
State and municipal bonds 29,727 1,106 (34) 30,799
Certificates of deposit 4,775 --- --- 4,775
----------- ------------ ----------- -----------
34,502 1,106 (34) 35,574
----------- ------------ ----------- -----------
Total Securities $130,932 $1,814 ($544) $132,202
=========== ============ =========== ===========
1995
- ----
Available for sale
U.S. Treasury $2,759 $96 --- $2,855
U.S. Agencies 46,381 552 ($246) 46,687
Corporate bonds 44,197 1,144 (125) 45,216
Equities 7,542 --- --- 7,542
----------- ------------ ----------- -----------
100,879 1,792 (371) 102,300
----------- ------------ ----------- -----------
Held to maturity
U.S. Agencies 2,210 19 (12) 2,217
State and municipal bonds 30,046 1,289 (55) 31,280
Corporate bonds 7,370 9 (37) 7,342
Certificates of deposit 3,050 --- --- 3,050
----------- ------------ ----------- -----------
42,676 1,317 (104) 43,889
----------- ------------ ----------- -----------
Total Securities $143,555 $3,109 ($475) $146,189
=========== ============ =========== ===========
</TABLE>
PAGE TEN
<PAGE> 11
NOTE TWO - INVESTMENT SECURITIES (Continued)
Contractual maturities of investment securities as of December 31, 1996 are
shown below. Expected maturities will differ from contractual maturities because
issuers may have the right to call or prepay obligations with or without call or
prepayment penalties.
<TABLE>
<CAPTION>
In Thousands Available for Sale Held to Maturity
- ------------ Amortized Fair Amortized Fair
Maturity Cost Value Cost Value
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Less than one year $22,215 $22,206 $4,900 $4,901
One to five years 22,716 23,048 1,122 1,169
Five to ten years 49,980 49,818 25,449 26,378
Over ten years 1,519 1,556 3,031 3,126
--------- --------- --------- ---------
$96,430 $96,628 $34,502 $35,574
========= ========= ========= =========
</TABLE>
Proceeds from sales of available for sale securities in 1995 were $87 thousand
and $10.8 million in 1994. Gross gains were $35 thousand in 1994. Gross losses
were $4 thousand and $390 thousand in 1995 and 1994, respectively.
Investments in state and political subdivisions represent purchases of municipal
bonds, with localities principally in western Washington. Investments in
corporate bonds are made in companies located and doing business throughout the
United States. Approximately 13% and 16% of the investments in corporate bonds
at December 31, 1996 and 1995, respectively, consisted of investments in
companies doing business in the financial services industry.
Investment securities, with a book value of $27.2 million and $18.7 million with
fair values of $27.1 million and $18.8 million in 1996 and 1995, respectively,
were pledged to secure public deposits and securities sold under agreements to
repurchase as required by law.
NOTE THREE - LOANS
The Bank originates commercial, real estate mortgage, construction and land
development, and installment loans primarily in Snohomish, Skagit and north King
Counties. Although the Bank has a diversified loan portfolio, local economic
conditions may affect borrowers' ability to meet the stated repayment terms.
Collateral for each loan is based on a credit evaluation of the customer, and
such collateral may, depending on the loan, include accounts receivable,
inventory, equipment, real estate or other collateral. Loans are originated at
both fixed and variable interest rates.
PAGE ELEVEN
<PAGE> 12
NOTE THREE - LOANS (Continued)
Major classifications of loans at December 31 are as follows:
<TABLE>
<CAPTION>
In Thousands 1996 1995
- ------------ ---------- ----------
<S> <C> <C>
Commercial $117,551 $127,239
Real estate commercial 231,379 172,327
Real estate construction 133,582 96,639
Real estate mortgage 99,099 92,711
Installment 23,077 19,758
---------- ----------
604,688 508,674
Less deferred loan fees (4,294) (3,686)
---------- ----------
$600,394 $504,988
========== ==========
</TABLE>
Contractual maturities of loans as of December 31, 1996 are shown below.
Expected maturities will differ from contractual maturities because borrowers
may have the right to prepay loans with or without prepayment penalties.
<TABLE>
<CAPTION>
In Thousands Within 1-5 After
- ------------ 1 Year Years 5 Years Total
--------- --------- -------- ---------
<S> <C> <C> <C> <C>
Commercial $58,840 $51,122 $7,296 $117,258
Real estate commercial 30,281 188,733 11,327 230,341
Real estate construction 95,457 35,691 --- 131,148
Real estate mortgage 21,670 74,127 2,783 98,580
Installment 6,238 9,819 7,010 23,067
--------- --------- -------- ---------
$212,486 $359,492 $28,416 $600,394
========= ========= ======== =========
</TABLE>
<TABLE>
<CAPTION>
Loans maturing after 1-5 After
one year with: Years 5 Years
----------- ----------
<S> <C> <C>
Fixed rates $316,353 $11,935
Variable rates 43,139 16,481
----------- ----------
$359,492 $28,416
=========== ==========
</TABLE>
PAGE TWELVE
<PAGE> 13
NOTE THREE - LOANS (Continued)
LOAN LOSS RESERVE
Changes in the allowance for loan losses are summarized below:
<TABLE>
<CAPTION>
In Thousands 1996 1995 1994
- ------------ -------- -------- --------
<S> <C> <C> <C>
Balance at the beginning of year $11,897 $10,410 $7,368
Provision charged to operating expense 1,980 1,525 3,900
Deduct
Loans charged-off (1,943) (2,212) (2,090)
Less recoveries 1,334 2,174 1,232
-------- -------- --------
Net charged-off loans (609) (38) (858)
-------- -------- --------
Balance at the end of year $13,268 $11,897 $10,410
======== ======== ========
</TABLE>
The Bank had loans amounting to $3.6 million at December 31, 1996 and $4.4
million at December 31, 1995 that were specifically classified as impaired with
an average balance of $3.7 million and $3.5 million, respectively. The allowance
for loan losses related to these loans was approximately $662 thousand in 1996
and $1.5 million in 1995. Interest collected on these loans in cash and included
in income amounted to $264 thousand in 1996 and $378 thousand in 1995. If
interest on these loans had been accrued, such income would have approximated
$289 thousand in 1996 and $501 thousand in 1995. At December 31, 1996 there were
no commitments to lend additional funds to borrowers whose loans were classified
as impaired.
The effects of troubled debt restructurings are not considered material to the
Corporation's financial position and results of operations.
OTHER REAL ESTATE OWNED
From time-to-time management has written-off various parcels of other real
estate owned due to unresolved issues relating to permitting, zoning and
wetlands. Management is attempting to work through the above mentioned issues to
be able to effectively market these properties. Contingent gains could be
realized should the above issues be favorably resolved.
NOTE FOUR - PREMISES AND EQUIPMENT
Premises and equipment at December 31 are comprised of the following:
<TABLE>
<CAPTION>
In Thousands 1996 1995
- ------------ -------- --------
<S> <C> <C>
Premises $10,106 $9,001
Furniture, fixtures and equipment 5,144 5,193
Land 4,510 3,811
Construction in progress 254 13
-------- --------
20,014 18,018
Less accumulated depreciation (5,812) (6,260)
-------- --------
$14,202 $11,758
======== ========
</TABLE>
Depreciation expense on premises and equipment totaled $954 thousand in 1996,
$881 thousand in 1995 and $952 thousand in 1994.
PAGE THIRTEEN
<PAGE> 14
NOTE FIVE - INTEREST BEARING DEPOSITS
The major classifications of interest bearing deposits at December 31 are as
follows:
<TABLE>
<CAPTION>
In Thousands 1996 1995
- ------------ ----------- ----------
<S> <C> <C>
Money market and NOW accounts $81,010 $69,945
Savings 147,000 141,396
Time deposits, $100,000 and over 108,955 91,701
Other time deposits 251,276 254,895
----------- ----------
$588,241 $557,937
=========== ==========
</TABLE>
The total remaining maturity schedule for time deposits is as follows:
<TABLE>
<CAPTION>
In Thousands
- ------------
<S> <C>
Year ending December 31, 1997 $273,837
1998 42,873
1999 15,162
2000 17,470
2001 9,023
Thereafter 1,866
----------
$360,231
==========
</TABLE>
NOTE SIX - CREDIT ARRANGEMENTS
The Bank is a member of the Federal Home Loan Bank (FHLB) of Seattle. As a
member, the Bank has a committed line of credit up to 14% of total assets.
At December 31, 1996, committed lines of credit agreements totaling
approximately $26 million were available to the Bank from unaffiliated banks.
Such lines generally provide for interest at the lending bank's federal funds
rate or other money market rates. There were no borrowings outstanding or
compensating balance requirements under these credit arrangements at December
31, 1996 and 1995.
In addition, at December 31, 1996 the Bank has a committed line of credit up to
$4.6 million from the Federal Reserve Bank (FRB). Borrowings generally provide
for interest at rates as published by the FRB and are secured by U.S. Treasury
and Agency securities. There were no borrowings outstanding at December 31, 1996
and 1995.
NOTE SEVEN - FEDERAL HOME LOAN BANK (FHLB) ADVANCES
At December 31, 1996, FHLB advances were scheduled to mature as follows:
<TABLE>
<CAPTION>
Interest
In Thousands Amount Rates
- ------------ ----------- ---------------
<C> <C>
Within one year $5,000 4.7%
Two to three years 5,000 5.4%
Four to five years 25,000 4.98 - 5.8%
-----------
$35,000
===========
</TABLE>
PAGE FOURTEEN
<PAGE> 15
NOTE SEVEN - FEDERAL HOME LOAN BANK (FHLB) ADVANCES (Continued)
Advances from FHLB are collateralized by qualifying first mortgage loans and
government agency securities as described in the Advances, Security and Deposit
Agreement with the FHLB.
The maximum outstanding and average outstanding balances and average interest
rates on advances from the FHLB were as follows for the year ended December 31:
<TABLE>
<CAPTION>
In Thousands 1996 1995
- ------------ ---- ----
<S> <C> <C>
Maximum outstanding at any month-end $40,000 $37,500
Average outstanding 26,544 22,541
Weighted average interest rates:
Annual 5.54% 5.75%
End of Year 5.12% 5.30%
</TABLE>
NOTE EIGHT - SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
The Bank has sold certain securities of the U.S. Government and its agencies and
other approved investments under agreements to repurchase. The securities
underlying the agreements were held by a safekeeping agent under control by the
Bank.
Securities sold under agreement to repurchase were $9.5 million in 1996 and $4.7
million in 1995. The average daily balance of outstanding agreements during the
period was $7.5 million in 1996 and $1.4 million 1995 with maximum outstanding
agreements at any month-end of $9.9 million and $5.7 million, respectively.
NOTE NINE - LONG-TERM DEBT
At December 31, long-term debt was as follows:
<TABLE>
<CAPTION>
In Thousands 1996 1995
- ------------ ---- ----
<S> <C> <C>
Mortgage note, due in monthly installments of
$3 thousand, including interest at 7.5% per
annum. The principal remaining any time after
December 1996 is due upon demand. Collater-
alized by a deed of trust. $100 $136
==== ====
</TABLE>
PAGE FIFTEEN
<PAGE> 16
NOTE TEN - INCOME TAX
The components of the provision for income tax are as follows:
<TABLE>
<CAPTION>
In Thousands 1996 1995 1994
- ------------ -------- -------- --------
<S> <C> <C> <C>
Current $7,922 $6,250 $5,074
Deferred (842) (398) (769)
-------- -------- --------
$7,080 $5,852 $4,305
======== ======== ========
</TABLE>
Deferred taxes result from temporary differences in recognition of income and
expense which are reported in different periods for financial reporting purposes
and for income tax purposes. The sources of the differences and the resulting
deferred income tax provision are as follows:
<TABLE>
<CAPTION>
In Thousands 1996 1995 1994
- ------------ -------- -------- --------
<S> <C> <C> <C>
Loan fees ($230) ($49) $510
Provision for loan losses (687) (596) (1,095)
Other items net 75 247 (184)
-------- -------- --------
($842) ($398) ($769)
======== ======== ========
</TABLE>
The following table shows the nature and components of the Corporation's net
deferred tax assets, established at an estimated tax rate of 35% at December 31:
In Thousands
- ------------
<TABLE>
<CAPTION>
DEFERRED TAX ASSETS 1996 1995
-------- --------
<S> <C> <C>
Allowance for possible loan losses,
in excess of tax reserves $4,644 $3,952
Other deferred tax assets 862 769
-------- --------
Total deferred tax assets 5,506 4,721
-------- --------
DEFERRED TAX LIABILITIES
Other deferred tax liabilities (1,095) (1,152)
-------- --------
Total deferred tax liabilities (1,095) (1,152)
-------- --------
Net deferred tax assets $4,411 $3,569
======== ========
</TABLE>
The Corporation believes, based upon the available information, that all
deferred assets will be realized in the normal course of operations.
Accordingly, these assets have not been reduced by a valuation allowance.
PAGE SIXTEEN
<PAGE> 17
NOTE TEN - INCOME TAX (Continued)
A reconciliation of the effective income tax rate with the federal statutory tax
rate is as follows:
<TABLE>
<CAPTION>
In Thousands 1996 1995 1994
- ------------ --------------------- --------------------- ---------------------
Amount Rate Amount Rate Amount Rate
--------- --------- --------- -------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Income tax provision
at statutory rate $7,662 35% $6,502 35% $4,986 34%
Effect of nontaxable
interest income (536) -3% (574) -3% (624) -4%
Other (46) --- (76) --- (57) ---
--------- --------- --------- -------- --------- ---------
$7,080 32% $5,852 32% $4,305 30%
========= ========= ========= ======== ========= =========
</TABLE>
NOTE ELEVEN - SHAREHOLDERS' EQUITY AND REGULATORY MATTERS
On January 15, 1997, the Board of Directors declared a 7% stock dividend,
payable March 17, 1997, to shareholders of record as of January 15, 1997.
The Corporation and Bank are subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory and possible additional
discretionary actions by regulators that, if undertaken, could have a direct
material effect on the Corporation's financial statements. Under capital
adequacy guidelines in the regulatory framework for prompt corrective action,
the Corporation must meet specific capital adequacy guidelines that involve
quantitative measures of each entity's assets, liabilities, and certain
off-balance sheet items as calculated under regulatory accounting practices.
Capital amounts and classifications are also subject to qualitative judgments by
the regulators about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require maintenance of minimum amounts and ratios (set forth in the table) of
total and Tier I capital (as defined in the regulations) to risk weighted
assets, and of Tier I capital to average assets. Management believes, as of
December 31, 1996 and 1995 that the Corporation and Bank meet capital adequacy
requirements to which they are subject.
As of December 11, 1996, the most recent notification from the Bank's primary
regulator, the Bank was categorized as well capitalized under the regulatory
framework for prompt corrective action. To be categorized as well capitalized,
the Bank must maintain minimum total risk-based, Tier I risk-based, and Tier I
leverage ratios as set forth in the table. There are no conditions or events
since that notification that management believes have changed this category.
PAGE SEVENTEEN
<PAGE> 18
NOTE ELEVEN - SHAREHOLDERS' EQUITY AND REGULATORY MATTERS (Continued)
<TABLE>
<CAPTION>
To Be Well
Capitalized Under
In Thousands Prompt Corrective For Capital
- ------------ Actual Action Provisions Adequacy Purposes
------ ----------------- -----------------
1996 Amount Ratio Amount Ratio Amount Ratio
- ---- ------ ----- ------ ----- ------ -----
<S> <C> <C> <C> <C> <C> <C>
Total Capital (to risk
weighted assets)
Consolidated $88,145 13.40% $65,774 10.00% $52,619 8.00%
Frontier Bank 86,645 13.20% 65,665 10.00% 52,532 8.00%
Tier I Capital (to risk
weighted assets)
Consolidated 79,861 12.14% 39,464 6.00% 26,310 4.00%
Frontier Bank 78,375 11.94% 39,399 6.00% 26,266 4.00%
Tier I Capital (to
average assets)
Consolidated 79,861 10.13% 39,452 5.00% 31,561 4.00%
Frontier Bank 78,375 9.95% 39,372 5.00% 31,497 4.00%
1995
- ----
Total Capital (to risk
weighted assets)
Consolidated $71,348 12.33% $57,872 10.00% $46,298 8.00%
Frontier Bank 70,923 12.30% 57,664 10.00% 46,131 8.00%
Tier I Capital (to risk
weighted assets)
Consolidated 64,056 11.07% 34,723 6.00% 23,149 4.00%
Frontier Bank 63,555 11.02% 34,598 6.00% 23,066 4.00%
Tier I Capital (to
average assets)
Consolidated 64,056 8.81% 36,354 5.00% 29,083 4.00%
Frontier Bank 63,555 8.75% 36,318 5.00% 29,054 4.00%
</TABLE>
Under federal regulations, the Bank is limited, unless previously approved, as
to the amount it may loan to the holding company and other affiliates to 10% of
its capital stock and surplus (approximately $3.4 million at both December 31,
1996 and 1995).
Under State of Washington regulations, dividends declared by the Bank to be paid
to the holding company in any one calendar year may not, without regulatory
approval, exceed its net income for that year combined with its retained net
income for the preceding two years (approximately $38.8 million at December 31,
1996).
PAGE EIGHTEEN
<PAGE> 19
NOTE ELEVEN - SHAREHOLDERS' EQUITY AND REGULATORY MATTERS (Continued)
Federal Reserve Board regulations require maintenance of certain minimum reserve
balances on deposit with the Federal Reserve Bank. The average amount of such
balances was $5.8 million in 1996 and $4.7 million in 1995.
NOTE TWELVE - EMPLOYEE STOCK OPTION PLAN
In 1992, the shareholders of the Corporation approved an Incentive Stock Option
Plan (the Plan) to promote the best interest of the Corporation, its
subsidiaries and its shareholders, by providing an incentive to those key
employees who contribute to the operating success of the Corporation.
The maximum number of shares that may be issued under the Plan is ten percent
(10%) of the authorized common stock of the Corporation. Options issued and
outstanding are adjusted to reflect any future common stock dividends, splits,
recaptilization or reorganization. The Board of Directors make available
sufficient shares for each option granted, subject to the remaining number of
shares available.
Options are granted at the then fair market value and vest in six months.
Options expire ten years from the date of grant, and are subject to certain
restrictions and limitations.
Proforma information regarding net income and earnings per share is required by
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation." The proforma information recognizes, as compensation, the
estimated present value of stock options granted using an option valuation model
known as the Black-Scholes model. Proforma earnings per share amounts reflect an
adjustment as if the present value of the options were recognized as
compensation for the period measured.
There are some variables and assumptions used in the model. For the periods 1996
and 1995, the risk-free interest rate is 6.35% and 5.50%; the dividend yield
rate is 0.00% as the Corporation pays no cash dividends; the price volatility is
11.87% and 10.38%; and the weighted average expected life of the options has
been measured at 7 years.
Management believes that the variables and assumptions used in the options
pricing model are highly subjective and represent only one estimate of possible
value. The fair value of options granted that are recognized in proforma
earnings is shown below:
In Thousands, except for per share amounts
- ------------------------------------------
<TABLE>
<CAPTION>
Proforma disclosures 1996 1995
--------- ---------
<S> <C> <C>
Net income as reported $14,617 $12,615
Additional compensation for
fair value of stock options 140 120
--------- ---------
Proforma net income $14,477 $12,495
========= =========
Proforma earnings per share $2.13 $1.85
========= =========
</TABLE>
PAGE NINETEEN
<PAGE> 20
NOTE TWELVE - EMPLOYEE STOCK OPTION PLAN (Continued)
Stock option transactions were:
<TABLE>
<CAPTION>
Weighted
Shares of Common Stock Average of
---------------------------- Exercisable Price
Available for Under of Shares
Option/Award Plan Under Plan
------------ ------------ ------------
<S> <C> <C> <C>
Balance, January 1, 1995 825,405 114,815 $9.63
Authorized 1,000,000 --- ---
Granted (54,975) 54,975 29.00
Three-for-two stock split (12,876) 12,876 ---
Exercised --- (24,821) 6.39
Forfeited 404 (404) N/M
------------ ------------ ------------
Balance, December 31, 1995 1,757,958 157,441 11.30
Authorized --- --- ---
Granted (12,624) 12,624 31.00
7% stock dividend (10,687) 10,687 ---
Exercised --- (31,283) 5.11
Forfeited 813 (813) N/M
------------ ------------ ------------
Balance, December 31, 1996 1,735,460 148,656 $11.30
============ ============ ============
</TABLE>
The following table summarizes information concerning currently outstanding and
exercisable options:
<TABLE>
<CAPTION>
Options Outstanding
---------------------- Options Exercisable
Weighted -------------------
Average Weighted Weighted
Range of Remaining Average Average
Exercise Number Contractual Exercise Number Exercise
Prices Outstanding Life Price Exercisable Price
-------- ----------- ---------- ----------- ----------- ---------
<S> <C> <C> <C> <C> <C>
$ 1-10 72,189 2.24 $6.03 72,189 $6.03
10-20 37,743 4.51 12.04 37,743 12.04
20-30 26,100 5.95 24.83 26,100 24.83
30-40 12,624 7.00 31.00 --- ---
</TABLE>
NOTE THIRTEEN - RELATED PARTY TRANSACTIONS
Loans to directors, executive officers and their affiliates are subject to
regulatory limitations. Such loans had aggregate balances and activity during
1996, 1995 and 1994 as follows and were within regulatory limitations:
<TABLE>
<CAPTION>
In Thousands 1996 1995 1994
- ------------ --------- --------- ---------
<S> <C> <C> <C>
Balance at beginning of year $8,552 $10,044 $5,969
New loans or advances 3,218 4,123 7,695
Repayments (5,268) (5,615) (3,620)
--------- --------- ---------
Balance at end of year $6,502 $8,552 $10,044
========= ========= =========
</TABLE>
PAGE TWENTY
<PAGE> 21
NOTE FOURTEEN - COMMITMENTS AND CONTINGENT LIABILITIES
The Bank leases various branch offices under agreements which expire between
1997 and 2014. The agreements contain various renewal options and require the
Bank to maintain the properties.
The total future minimum rental commitment through 2001 and thereafter is as
follows:
In Thousands
- ------------
<TABLE>
<S> <C>
Year ending December 31, 1997 $353
1998 314
1999 289
2000 256
2001 239
Thereafter 2,996
---------
$4,447
=========
</TABLE>
Rental expense charged to operations was $383 thousand in 1996, $380 thousand in
1995 and $244 thousand in 1994.
The Bank is a party to financial instruments with off-balance sheet risk in the
normal course of business to meet financing needs of its customers. These
financial instruments include commitments to extend credit, standby letters of
credit and financial guarantees. Those instruments involve, to varying degrees,
elements of credit and interest-rate risk in excess of the amount recognized in
the balance sheet. The contract amount of those instruments reflect the extent
of the Bank's involvement in particular classes of financial instruments.
The Bank's exposure to credit loss in the event of nonperformance by the other
party to the financial instrument for commitments to extend credit, standby
letters of credit, and financial guarantees written is represented by the
contractual amount of those instruments. The Bank uses the same credit policies
in making commitments and conditional obligations as it does for
on-balance-sheet instruments.
Commitments to Extend Credit and Financial Guarantees - Commitments to extend
credit are agreements to lend to a customer as long as there is no violation of
any condition established in the contract. Commitments generally have fixed
expiration dates or other termination clauses and may require payment of a fee.
Since many of the commitments are expected to expire without being drawn upon,
the total commitment amounts do not necessarily represent future cash
requirements. The Bank's experience has been that approximately 49 percent of
loan commitments are drawn upon by customers. While approximately 100 percent of
commercial letters of credit are utilized, a significant portion of such
utilization is on an immediate payment basis. The Bank evaluates each customer's
creditworthiness on a case-by-case basis. The amount of collateral obtained, if
it is deemed necessary by the Bank upon extension of credit, is based on
management's credit evaluation of the borrower. Collateral held varies but may
include accounts receivable, inventory, property, plant, and equipment, and
income-producing commercial properties.
PAGE TWENTY-ONE
<PAGE> 22
NOTE FOURTEEN - COMMITMENTS AND CONTINGENT LIABILITIES (Continued)
Standby letters of credit and financial guarantees written are conditional
commitments issued by the Bank to guarantee the performance of a customer to a
third party. Those guarantees are primarily issued to support public and private
borrowing arrangements, bond financing, and similar transactions. The Bank
underwrites its standby letters of credit using its policies and procedures
applicable to loans in general. Standby letters of credit are made on an
unsecured and collateralized basis.
The Bank has not been required to perform on any financial guarantees during the
past two years. The Bank has not incurred any significant losses on its
commitments in 1996 or 1995.
NOTE FIFTEEN - FAIR VALUE OF FINANCIAL INSTRUMENTS
The following disclosure of the estimated fair value of financial instruments is
made in accordance with the requirements of SFAS No. 107, "Disclosures About
Fair Value of Financial Instruments." The estimated fair value amounts have been
determined by the Bank using available market information and appropriate
valuation methodologies. However, considerable judgment is necessary to
interpret market data in the development of the estimates of fair value. The use
of different market assumptions and/or estimation methodologies may have a
material effect on the estimated fair value amounts. The following methods and
assumptions were used to estimate the fair value of each class of financial
instruments for which it is practicable to estimate that value:
Cash equivalents and federal funds sold - For those short-term instruments, the
carrying amount is a reasonable estimate of fair value.
Investment securities - For investment securities fair values are based on
quoted market prices or dealer quotes, if available. If a quoted market price is
not available, fair value is estimated using quoted market prices for similar
securities.
Loans - The fair value of loans generally is estimated by discounting the future
cash flows using the current rates at which similar loans would be made to
borrowers with similar credit ratings and for the same remaining maturities. For
certain homogeneous categories of loans, such as Small Business Administration
guaranteed loans, fair value is estimated using the quoted market prices for
securities backed by similar loans, adjusted for differences in loan
characteristics.
Deposits and federal funds purchased - The fair value of demand deposits,
savings accounts, certain money market deposits, and federal funds purchased, is
the amount payable on demand at the reporting date. The fair value of
fixed-maturity certificates of deposit is estimated by discounting the future
cash flows using the rates currently offered for deposits of similar remaining
maturities.
FHLB advances and long-term debt - Fair value is determined by discounting
future cash flows using rates currently available to the Bank for debt with
similar terms and remaining maturities.
Off-Balance sheet financial instruments - Commitments to extend credit and
letters of credit represent the principal categories of off-balance sheet
financial instruments (see Note 14). The fair value of these commitments is not
material since they are for a short period of time and subject to customary
credit terms.
PAGE TWENTY-TWO
<PAGE> 23
NOTE FIFTEEN - FAIR VALUE OF FINANCIAL INSTRUMENTS (Continued)
<TABLE>
<CAPTION>
In Thousands 1996 1995
- ------------ ------------------------ ------------------------
Carrying Fair Carrying Fair
Assets Value Value Value Value
--------- --------- -------- --------
<S> <C> <C> <C> <C>
Cash and due from banks $35,105 $35,105 $19,708 $19,708
Investment securities
Available for sale 96,628 96,628 102,300 102,300
Held to maturity 34,502 35,574 42,676 43,889
Federal funds sold 25,050 25,050 55,930 55,930
Net loans 587,126 592,320 493,091 499,076
Liabilities
Noninterest bearing deposits 82,275 82,275 83,281 83,281
Interest bearing deposits 588,241 589,443 557,937 561,032
Federal funds purchased
and securities sold under
agreements to repurchase 12,011 12,011 7,596 7,596
FHLB Advances 35,000 34,807 15,000 14,934
Long-term debt 100 100 136 136
</TABLE>
A summary of the notional amount of the Bank's financial instruments with
off-balance sheet risk at December 31, 1996 follows:
<TABLE>
<CAPTION>
Amount
---------
<S> <C>
Commitments to extent credit $93,898
Credit card arrangements 4,401
Commercial letters of credit ---
Standby letters of credit 3,304
</TABLE>
NOTE SIXTEEN -- PARENT COMPANY (ONLY) FINANCIAL INFORMATION
Condensed balance sheets at December 31:
<TABLE>
<CAPTION>
In Thousands 1996 1995
- ------------ --------- ---------
<S> <C> <C>
Cash $220 $138
Investment in subsidiaries
Bank 78,475 64,489
Nonbank 157 104
Investment in Washington Banking
Company 971 ---
Premises, net --- 70
Other assets 494 552
--------- ---------
$80,317 $65,353
========= =========
Other liabilities --- ---
Shareholders' equity $80,317 $65,353
--------- ---------
$80,317 $65,353
========= =========
</TABLE>
PAGE TWENTY-THREE
<PAGE> 24
NOTE SIXTEEN - PARENT COMPANY (ONLY) FINANCIAL INFORMATION
Condensed statements of income for the years ended December 31:
<TABLE>
<CAPTION>
In Thousands 1996 1995 1994
- ------------ ------- ------- -------
<S> <C> <C> <C>
Income
Dividend from Bank $100 $210 $145
Other dividends 18 --- ---
Rental 1 54 105
Interest 4 2 3
------- ------- -------
Total Income 123 266 253
------- ------- -------
Expenses
Interest --- 13 59
Personnel 97 89 83
Depreciation and amortization 77 81 108
Other 203 184 148
------- ------- -------
Total Expenses 377 367 398
------- ------- -------
Loss before equity in undistributed income
of subsidiaries and benefit equivalent to
income taxes (254) (101) (145)
Benefit equivalent to income taxes 97 79 67
------- ------- -------
Loss before equity in undistributed income
of subsidiaries (157) (22) (78)
Equity in undistributed
income of subsidiaries 14,774 12,637 10,438
------- ------- -------
Net income $14,617 $12,615 $10,360
======= ======= =======
</TABLE>
PAGE TWENTY-FOUR
<PAGE> 25
NOTE SIXTEEN - PARENT COMPANY (ONLY) FINANCIAL INFORMATION
Condensed statements of cash flows for the years ended December 31:
<TABLE>
<CAPTION>
In Thousands 1996 1995 1994
---------- ---------- ----------
<S> <C> <C> <C>
Cash flows from operating activities
Net income $14,617 $12,615 $10,360
Adjustments to reconcile net income to net cash
provided by operating activities
Equity in undistributed income
of subsidiaries (14,874) (12,847) (10,583)
Depreciation and amortization 77 81 108
Other operating activities (18) (12) (23)
---------- ---------- ----------
Net cash flows from operating activities (198) (163) (138)
---------- ---------- ----------
Cash flows from investing activities
Dividends received 100 210 145
---------- ---------- ----------
Net cash flows from investing activities 100 210 145
---------- ---------- ----------
Cash flows from financing activities
Sales of common stock 180 167 111
Principal payments of long-term debt -- (84) (172)
Other financing activities -- (5) --
---------- ---------- ----------
Net cash flows from financing activities 180 78 (61)
---------- ---------- ----------
Increase (decrease) in cash 82 125 (54)
Cash at beginning of year 138 13 67
---------- ---------- ----------
Cash at end of year $220 $138 13
========== ========== ==========
</TABLE>
NOTE SEVENTEEN - NEW ACCOUNTING PRONOUNCEMENTS
The Financial Accounting Standards Board has issued SFAS No. 125, "Accounting
for Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities" in June 1996. The standard becomes effective January 1, 1997 except
for certain requirements for which the required effective date has been deferred
until January 1, 1998. The standard establishes criteria for distinguishing
between sales and secured borrowings of financial assets. Management believes
that provisions of SFAS No. 125 will not have a material effect on its financial
condition or reported results of operation.
In December 1996, the Financial Accounting Standards Board issued statement No.
127, "Deferral of the Effective Date of Certain Provisions of FASB No. 125",
which defers certain requirements of SFAS No. 125 to 1998.
PAGE TWENTY-FIVE
<PAGE> 26
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
OVERVIEW OF REPORTED RESULTS
The Corporation completed the most profitable year since opening, and the
eighteenth consecutive year of increased net income. Net income for 1996 was
$14.6 million, up 15.9% from 1995. Net income in 1995 was $12.6 million, or up
21.8% as compared to 1994 net income of $10.4 million, which was up 33.7%
compared to 1993 income of $7.7 million. Highlights of 1996 include the
continuation of double-digit growth in net income accented by excellent expense
control, outstanding asset quality, and a strong allowance for credit losses.
Capital increased 23% and earnings per share increased 16% to $2.15. Earnings
per share have been adjusted to reflect the 7% stock dividend paid in 1996.
The Corporation continues to pursue opportunities for growth and diversification
by making an investment of 5.4% in the common stock of Whidbey Island Bank,
which has eight offices. The bank converted to the holding company structure in
1996, and is now a subsidiary of Washington Banking Company. Whidbey is a very
well run organization with an attractive franchise area.
Return on average assets (ROA) was 1.94% in 1996; 1.82% for 1995; and 1.69% for
1994. Return on average equity (ROE) for 1996 was 20.01%; in 1995 was 21.59%;
and 22.21% for 1994.
REGIONAL ECONOMY
The Bank's lending and other activities are concentrated in Snohomish County,
Washington, but also includes the northern part of King County, by having
branches located in Bothell and Woodinville, Washington, and a third in the Lake
City area in north Seattle. In November 1996, the Corporation opened an office
in Skagit County, located in Burlington, Washington. Skagit County is the
contiguous county north of Snohomish County. The major city in Snohomish County
is Everett, and the major city in King County is Seattle, the largest city in
the state. These three counties would be considered the market or service area
of the Corporation.
The financial performance of the Corporation is directly influenced by economic
conditions in its service area. In recent years leading up to 1996, Washington's
growth moderated due to employment cutbacks in aerospace manufacturing, however,
renewed economic strength and momentum were evident in the fourth quarter of
1995 and in 1996.
Washington State, and more specifically, the north Puget Sound region, has been
an attractive area to high-tech, bio-tech and aerospace firms. The reasons for
this attraction are three-fold: 1) the region maintains a very close proximity
to some of the leading research institutions in the nation at the Fred
Hutchinson Cancer Research Center and the University of Washington, 2) the
world's largest airplane manufacturer has its main manufacturing facility in
Everett, and 3) available land.
Expanded export markets combined with continued new product development by
Boeing and high technology companies, especially Microsoft, continue to fuel an
improving economy.
The Boeing company has its 747, 767 and 777 assembly plant in Everett, and other
assembly and support plants throughout the Puget Sound area. After adding some
13,000 workers in 1996, Boeing continues to search for additional personnel. The
Puget Sound Business Journal estimated that more than 70,000 migrants are
expected to relocate to Washington in 1997-1998, many of which hope to land a
job with Boeing. The report went on to say that Boeing is currently in the midst
of its largest volume increase ever, and has revised its production rates upward
six times since 1995. Boeing's overall production rate is projected to climb to
more than 350 planes for 1997, which is up from 215 for 1996.
What impact this increased volume will have on the local economy is somewhat
unclear given that a majority of support companies had reduced production lines
and employment due to the past slowdowns.
Microsoft, the world's largest software company and located in Redmond,
Washington (east of Seattle), is also becoming a big factor in the economic
index. One study indicates that Microsoft directly or indirectly accounted for
$2.2 billion of the total Gross State Product, which totaled more than $148
billion. Additionally, the study says that nine out of ten Microsoft employees
live and spend their money in King County. With 9,000 employees that could mean
$1.2 billion. It is estimated that Microsoft filled the gap created several
years ago when Boeing orders fell sharply. The Bank currently has a branch
application approved for Redmond, and estimates an opening date in the second
quarter of 1997.
PAGE TWENTY-SIX
<PAGE> 27
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial
Condition and Results of Operations - Continued
The forecast for Snohomish County, and Everett, appears bright. The aircraft
carrier Abraham Lincoln arrived at the Everett Home Port in December 1996, and
will eventually be home for an eleven-ship task force. A study performed on the
impact of this Home Port on the Washington economy, shows that in 1996, military
salaries, direct and indirect multipliers and procurement will total $387.6
million. That number is estimated to grow to $411.2 million through 1998.
While the forecast appears bright for a stable economic environment, management
continues to be cautiously optimistic regarding the level of future earnings.
FINANCIAL REVIEW/BALANCE SHEET
The Corporation manages its balance sheet to meet the needs of its business
strategy, which adapts to the changing economic environment, and business and
competitive factors.
Based on the balances at year-end 1996, assets increased $68.4 million, or 9.3%;
increased $92.6 million in 1995, or 14.4%; and increased $84.5 million, or 15.2%
in 1994. Average earning assets as a percent of total average assets (see page
35), were 95.7%, or $720.5 million in 1996; 95.6%, or $661.1 million in 1995;
and 94.1%, or $575.1 million in 1994. Local economic conditions were the largest
factor contributing to the growth in earning assets from 1994 through 1996.
Loans increased $95.4 million, or 18.9% in 1996, increasing substantially over
the 1995 growth of $34.5 million, or 7.3%. This compares to loan growth of
$100.9 million, or 27.3% in 1994. In 1996, the investment portfolio decreased
$13.8 million, or 9.6%. In 1995, it increased $8.6 million to $145.0 million, or
6.3%, and decreased in 1994 versus 1993, by $15.2 million, or 10.0%. The reason
for the decline in 1996 was to shift funds from maturing investments into the
loan portfolio. The earning asset with the largest increase for the year was
real estate commercial loans, which increased $58.8 million, or 34.2%.
Management attributes this increase to improving local economic conditions and
the ability to be very competitive in this type of lending. In 1995, federal
funds sold had the largest increase, which reflects the decrease in loan demand
during that period. In 1994, loan demand was strong, and it was necessary to
shift cash flows and additional borrowings from the Federal Home Loan Bank of
Seattle (FHLB) into loans.
The primary source of funds for earning assets are deposits and borrowings.
Total deposits were up $29.3 million, or 4.6% in 1996; $101.6 million, or 18.8%
in 1995; and increased $33.1 million, or 6.5% in 1994. Money Market and NOW
accounts were up $11.1 million, or 15.8% for the year, which is a change in the
trend for these type of deposits. In 1995, these balances were down $.7 million,
or 1.0%; and down $6.8 million, or 8.8% in 1994. Savings accounts were up $5.7
million, or 4.0% in 1996, also reversing a previous downward trend. In 1995,
these deposits were down $54.0 million or 27.6%; and down $32.0 million, or
14.1% in 1994. Time certificates of deposit (cd's) increased $13.6 million, or
3.9% in 1996, which growth is substantially below that of 1995, when cd's
increased $144.8 million, or 71.8%; and increased $73.0 million in 1994, or
56.7%. A slowing of the growth in deposits in 1996, (as compared to the growth
of loans) was planned by management, reversing the slower growth in 1995 of the
loan portfolio.
The 1996 results of operations include the following contributing factors, which
are discussed more fully in the following pages of the financial review.
1. Net income increased $2.0 million in 1996, or 15.9%;
2. Loan quality is excellent;
3. The reserve for loan losses is strong at 2.21% of total loans;
4. Average capital to average assets increased from 8.45% in 1995 to
9.70% in 1996.
NET INTEREST INCOME
Net interest income is the Corporation's principal source of revenue and is
comprised of interest income on earning assets, less interest expense on
interest bearing liabilities. The net interest margin is net interest income
expressed as a percent of average earning assets and represents the difference
between the yield on earning assets and the composite interest rate paid on all
sources of funds.
Net interest income is adjusted to a taxable equivalent basis to present income
earned on taxable and tax-exempt assets on a comparable basis. References to net
interest income and net interest margin in this discussion represent taxable
equivalent amounts using a tax rate of 35%.
PAGE TWENTY-SEVEN
<PAGE> 28
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial
Condition and Results of Operations - Continued
The cost of funds and asset yields for the Corporation during the last three
years reflect the level of general interest rates, but more so the competitive
nature of the financial services industry. For the year 1996, the average yield
on earning assets dropped 12 basis points, and the average cost of interest
bearing liabilities dropped 22 basis points. In 1995, the yield on average
earning assets was up 31 basis points and the average cost of interest bearing
liabilities increased 107 basis points. In 1994, the yield on average assets
dropped 1 basis point, while the average cost of interest bearing liabilities
dropped 12 basis points. The slight decline in 1994 in interest bearing
liabilities was in spite of the Corporation increasing rates paid on deposit
accounts fourteen times. 1995 was a difficult year for the interest rate spread
due to less than dynamic loan demand and paying deposit rates consistent with
prudent liquidity management. In 1996, rates leveled out and were subject to
liquidity adjustments and competitive factors. The net interest margin, was
5.40% in 1996; 5.26% in 1995; and 5.80% in 1994 (see "Liquidity" and "Interest
Rate Risk" in this section). As noted on page 36 of this report, it was the
growth, or volume, which contributed mostly to the increased net interest
earnings of the Corporation for all three years. The following is a more
detailed discussion of the factors comprising net interest income.
Net interest income is impacted primarily by changes in the volume and mix of
earning assets and funding sources, market rates and asset quality. Tables 1 and
2 of this report present an analysis of the changes in net interest income.
Table 1 (Average Balances) indicates the changes in the average balance of
accounts, and Table 2 (Rate/Volume Analysis) indicates the causes of the changes
in net interest income; whether by changes in the average balance (Volume) or
changes in interest (Rate).
Table 1 indicates that net interest income totaled $38.9 million, an increase of
$4.1 million, or 11.8% in 1996. In 1995, net interest income totaled $34.8
million, an increase of 4.2%, and $33.4 million in 1994, an increase of $6.0
million, or 21.9%. Table 2 indicates that of the $4.1 million increase in net
interest income, there was an increase in interest income of $4.9 million and an
increase in interest expense of $.8 million, which leaves a net increase in net
interest income of $4.1 million. Using the tables in the same fashion, Table 1
indicates that net interest income for 1995 totaled $34.8 million, which was
$1.4 million over 1994. Table 2 indicates there was an increase in interest
income of $10.1 million and an increase in interest expense of $8.7 million,
which leaves an increase in net interest income of $1.4 million.
LOAN PORTFOLIO
Average loans grew $69.7 million, or 14.4% in 1996; $59.1 million, or 13.9% in
1995, and $88.3 million, or 26.1% in 1994. In 1996, average real estate
commercial loans again had the largest dollar growth by increasing $48.4
million, or 30.1%. This was followed by real estate construction loans, which
increased by $19.5 million, or 21.5%. For 1995, real estate commercial loans had
the largest growth of $43.5 million, or 37.2%. This was followed by real estate
residential loans which increased $15.7 million, or 20.9% for the year. In 1994,
real estate commercial loans also had the largest growth at $41.0 million, or
53.8%, and real estate construction loans had the second largest growth at $27.8
million, or 41.9%.
The yield on loans continued to ease in 1996, dropping from a 1995 average of
10.74% to 10.37%. The yield in 1995 increased 51 basis points, however, during
the last two quarters of 1995, they trended lower due to lack of demand.
Management estimates loan rates have leveled off for the time being. At December
31, 1996, 74% of the portfolio was fixed rate and 26% variable rate. At year-end
1995, 63% of the portfolio was fixed rate and 37% was variable rate. At year-end
1994, 62% was fixed rate, and 38% was variable rate. Management has recognized
that the number of fixed rate loans in the portfolio increased significantly in
1996. While it would be desirable to have more variable rate loans if general
interest rates were to increase, it should be recognized that many of the fixed
rate loans are real estate construction loans that have short (less than one
year) maturities. For more information on repricing of assets and liabilities,
please see the section "Interest Rate Risk" later in this report.
Interest and fee income from loans increased $5.4 million, or 10.4% in 1996;
increased $8.6 million, or 19.6% in 1995, and $8.4 million, or 23.7% in 1994.
The earnings on the $69.7 million increase in the 1996 average balance of loans,
resulted in increased income of $7.5 million, while a decrease in interest rates
decreased interest income by $2.1 million. The earnings on the $59.1 million
increase in 1995 average balances of loans, resulted in increased income of $6.0
million, while an increase in interest rates increased income by $2.8 million.
The earnings on the $88.3 million increase in 1994 average balances of loans
resulted in increased income of $9.5 million, and a decrease in interest rates
reduced interest income by $1.2 million. Loan fee income totaled $4.5 million in
1996, $3.9 million in 1995, and $4.0 million in 1994.
The Bank has a VISA card department which began issuing cards to both consumers
and businesses in 1993. At year-end 1996, the department had $5.6 million in
credit lines and outstanding balances of $1.2 million, an increase of 33.3% over
1995. At year-end 1995, the department had $4.0 million in credit lines, and $.9
million in active balances, and $3.1 million in credit lines and $.7 million in
active balances in 1994. In 1996, the Bank successfully launched a debit card
program.
In 1997, management expects loan demand to remain consistent with the growth
rate in 1996.
PAGE TWENTY-EIGHT
<PAGE> 29
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial
Condition and Results of Operations - Continued
LOAN LOSS PROVISION
The provision for loan losses increased $455 thousand, or 29.8% in 1996;
decreased $2.4 million, or 60.9% in 1995, and increased $.9 million in 1994, or
33.3%. In 1996, the growth of the reserves set aside for loan losses was
consistent with the growth in total loans. The small growth of the loan
portfolio in 1995 and continued loan quality did not require as large a
contribution in 1995 as compared to prior years.
The allowance for loan losses was 2.21% of total loans in 1996, 2.36% of total
loans at year-end 1995, and 2.21% of total loans at year-end 1994. This ratio
changes when 1) loans are charged-off to the reserve; 2) a provision is charged
to expense and added to the reserve; 3) when prior loans charged-off are
recovered, or 4) when total loans increase or decrease. At year-end 1996,
management considered the reserve to be adequate. Please refer to Note 3, page
13 of this report for details regarding changes in the level of the allowance.
The allowance for loan losses as a percent of impaired loans was 379% at
year-end 1996, 270% for year-end 1995, and 391% for year-end 1994. Management
evaluates the adequacy of the allowance for loan losses based upon a number of
factors and estimates its allowance for loan losses in relation to the entire
portfolio's estimated losses over the life of the portfolio. Accordingly, the
ratio of the allowance for loan losses to impaired loans may vary greatly
because the timing of certain events described in the previous paragraph cannot
be controlled.
INVESTMENTS
Total interest income from investments, including federal funds sold, decreased
$542 thousand in 1996; increased $1.5 million in 1995, and increased $.5 million
in 1994. The decrease in average balances of $10.2 million in 1996, decreased
income by $630 thousand, while an increase in rates increased interest income by
$88 thousand. The increase in average investment balances of $26.9 million in
1995, contributed $.9 million to income, while rate changes accounted for an
increase of $.6 million to income. The increase of $6.2 million in the 1994
average balance of investments contributed $2.2 million to income, while rate
changes accounted for a decrease of $1.7 million in income.
There were no securities losses in 1996; no significant securities losses in
1995, and losses of $355 thousand in 1994. The 1994 losses were taken as part of
management efforts to improve the value, while reducing the volatility of the
portfolio.
INTEREST EXPENSE
Total interest expense in 1996 increased $753 thousand, or 2.6%; increased $8.7
million in 1995, or 42.2%, and increased $2.9 million in 1994, or 16.1%. The
increase of $39.5 million in the 1996 average balances of interest bearing
liabilities, contributed $2.5 million to interest expense, while decreased
interest rates decreased interest expense by $1.7 million. The increase of $65.5
million in the 1995 average balance of interest bearing liabilities contributed
$4.9 million to expense, while an increase in average rate accounted for an
increase of $3.8 million in interest expense. The increase of $78.8 million in
the 1994 average balance of interest bearing liabilities contributed $4.4
million to expense, while a decrease in average rate accounted for a decrease of
$1.6 million in interest expense.
In 1996, increases in the average balance of interest bearing core deposits
(Money Market and NOW accounts) increased interest expense by $220 thousand,
while increased short-term borrowings and long-term debt increased interest
expense by $550 thousand. In 1995, increases in the average balances and rates
on interest bearing core deposits increased interest expense by $9.1 million,
and short-term borrowings and long-term debt decreased interest expense by $403
thousand. In 1994, increases in the average balances of interest bearing core
deposits (netted down by lower rates) increased interest expense by $1.1
million, and increased short-term borrowings and long-term debt increased
interest expense by $1.7 million.
OTHER NONINTEREST INCOME
Noninterest income totaled $3.7 million, up $286 thousand, or 8.4% in 1996;
totaled $3.4 million in 1995, up $507 thousand, or 17.4%; and totaled $2.9
million, down $ 1.5 million, or 33.6% in 1994. In a developing flat-to-downward
trend, service charges decreased $16 thousand, or 1.0% in 1996; increased a
slight $4 thousand in 1995, or .2%, and had a small growth of $43 thousand, or
2.8% in 1994. Deposits have grown at a substantially higher rate than service
charges, but growth in accounts most susceptible to service charges has remained
somewhat flat. Also, management estimates that more customers are maintaining
higher balances to avoid service charges. The number of accounts susceptible to
service charges increased 535 in 1996, or 2.8%; decreased 237 accounts in 1995,
or 1.2%, and increased 106 accounts in 1994, or .6%.
PAGE TWENTY-NINE
<PAGE> 30
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial
Condition and Results of Operations - Continued
Other income increased $291 thousand in 1996, or 8.5%; increased $152 thousand,
or 9.0% in 1995, and decreased $1.5 million in 1994 (excluding securities
gains/(losses). The increase in 1996 was due to an increase in trust department
fees of $151 thousand and an increase in non-recurring income of $189 thousand
on the sale of other real estate owned. The increase in 1995 is due to
non-recurring income of $157 thousand on the sale of other real estate owned,
and interest of $98 thousand on amended tax returns. In 1996, insurance and
financial services fees increased $50 thousand, or 58.8% for the year. Broker
loan fees, (secondary market loan origination fees) increased only $5 thousand.
In 1995, insurance and financial services income was down $118 thousand, or
58.1% for the year, along with a decrease of $142 thousand, or 45.0% in broker
loan fees. Gains on the sale of mortgage loans accounted for a $1.0 million
decrease in other income in 1994. Income from this same source again dropped in
1995 to $174 thousand from $316 thousand in 1994, or 44.9%. The reason for this
large decline is due to high long-term interest rates in 1994 which all but
halted the mortgage loan and refinance business. Although 1995 brought with it
lower interest rates, it was not until the fourth quarter of 1995 that the
Corporation began experiencing a slight increase in fee income from those
activities.
As previously stated, trust department income increased $151 thousand, or 26.7%
in 1996. In 1995, income increased $116 thousand, or 25.8% to $565 thousand, and
increased $10 thousand, or 2.3% in 1994. The market value of trust assets
managed at year-end 1996 was $119.5 million, up $12.6 million, or 11.8%. In 1995
assets increased to $106.9 million, up $34.2 million, or 47.0%, and at year-end
1994 was $72.7 million, up $6.4 million, or 9.7%.
OTHER NONINTEREST EXPENSE
Total noninterest expenses increased $767 thousand to $17.9 million, or 4.5% in
1996; increased $513 thousand, or 3.1% in 1995, and decreased $125 thousand, or
.7% in 1994.
Salaries and employee benefits increased $1.1 million, or 11.2% in 1996;
increased $.7 million or 7.0% in 1995, and increased $.8 million, or 8.9% in
1994. The increase in salaries, only, for 1996 was $.8 million, or 10.7% over
1995. This increase was attributable to an increase in staff of 7.5%, and the
remainder is attributable to merit raises. The increase in salaries of 4.7% in
1995 was attributable to an increase in staff. The increase in salaries of 8.8%
in 1994 was due to the Bank of Northshore personnel being on the payroll for a
full year in 1994, and merit increases.
Employee benefits increased $357 thousand in 1996. This increase is due, for the
most part, to an increase in the profit sharing contributions of $252 thousand.
Employee benefits increased $335 thousand, or 13.2% for 1995. This increase was
attributable to an increase of $160 thousand, or 11.9% in profit sharing
contributions, and an increase of $41 thousand, or 7.2% in social security
taxes. In 1994, employee benefits increased $215 thousand to $2.5 million, or
9.3%. The major component of this increase was an increase in the profit sharing
contribution of $262 thousand, or 31.3% from 1993. These increases are a
function of increased profits of the Corporation.
Occupancy expense was up $41 thousand, or 1.6% in 1996 to $2.5 million. In 1995,
this expense was $2.5 million up $178 thousand, or 7.7%, and $2.3 million in
1994, down $51 thousand, or 2.1% over 1993. In 1996, approximately 38% of
occupancy expense is depreciation. The increase in 1996 was due to an increase
in facilities. The increase in 1995 was due to office rental costs which
increased $146 thousand to $389 thousand, or 60.1%.
Other expense decreased $390 thousand in 1996, or 8.3%. Although state and local
taxes increased $239 thousand, FDIC insurance premiums dropped to $2 thousand in
1996, compared with premiums of $633 thousand paid in 1995. Additionally, FDIC
insurance premiums for 1995 were down $477 thousand or 43.0% due to the Bank
Insurance Fund reaching its congressionally mandated level. FDIC insurance
premium increases in prior years were the result of increases imposed by the
Financial Institutions Reform and Recovery Act of 1989, and higher deposit
balances. Other expense, increased $25 thousand, or .8% in 1995 to $3.2 million,
reflecting the continued emphasis on maintaining low overhead costs, and
decreased by $513 thousand, or 13.9%, in 1994 for the same reason.
Many banks and bank holding companies use a computation called the "efficiency
ratio" to measure overhead and costs. This ratio is then compared to others in
the industry. The ratio is arrived at by dividing total other noninterest
expense by the sum of net interest income and other noninterest income. The
lower the number, the more efficient the organization. The Corporation's
efficiency ratio for 1996 was 43.1%; 46.2% in 1995; and 47.3% in 1994. The
Corporation's ratio is considered excellent for the industry.
PAGE THIRTY
<PAGE> 31
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial
Condition and Results of Operations - Continued
ASSET AND LIABILITY MANAGEMENT
Assets and liabilities are managed to maximize long-term shareholder returns by
optimizing net interest income within the constraints of maintaining high credit
quality, conservative interest rate risk policies and prudent levels of leverage
and liquidity. The Asset and Liability Committee meets monthly to monitor the
composition of the balance sheet, to assess current and projected interest rate
trends and to formulate strategies consistent with established objectives for
liquidity, interest rate risk and capital adequacy.
LIQUIDITY
The objective of liquidity management is to ensure the availability of
sufficient cash flows to meet all financial commitments and to capitalize on
opportunities for profitable business expansion. Cash flows from operations
contribute significantly. As indicated on page 5 of this report, net income for
1996 contributed $14.6 million to liquidity. In 1995, net income from operations
contributed $12.6 million. Borrowing represents an important and manageable
source of liquidity based on the Corporation's ability to raise new funds and
renew maturing liabilities in a variety of markets. Liquidity is also obtained
by maintaining assets that are readily convertible to cash at minimal cost
through maturities and sales.
Deposits generated through the Corporation's branch network is the most
important source of liquidity. In 1996, core deposits (Money Market, NOW and
savings accounts) funded $16.0 million of the growth in assets. Whereas, net
borrowings from the Federal Home Loan Bank of Seattle (FHLB) funded $20.0
million of the growth. Additional funds of $13.6 million came from cd's, and
$4.4 million came from federal funds purchased and securities sold under
agreements to repurchase.
Funding sources were somewhat different in 1995. Core deposits were running off,
federal funds purchased and the FHLB were repaid, so all funding of assets came
from increased cd balances of $144.8 million.
In 1996, maturing securities totaled $42.0 million, and represent a highly
accessible source of liquidity. Net maturities provided $14.5 million in
liquidity, with $27.6 million of the total $42.0 million in maturities being
reinvested in the portfolio. In 1995, maturing securities provided $19.6 million
in liquidity, and $24.2 million was reinvested in the portfolio.
Over the last three years, the financing of investment activities has changed.
In 1993, core deposits (demand, Money Market and NOW accounts) provided most of
the funding at $81.7 million. The changes in the financing methods in 1994 and
1995 were planned by management. During this time, funding was provided by time
cd's which financed $73.0 million and $144.8 million respectively. In 1994, FHLB
net borrowings of $37.5 million were also necessary to fund growth, whereas
$22.5 million of those borrowings were repaid with excess liquidity in 1995. It
is the Corporation's intention to continue this type of funding in the future.
In addition to deposit acquisition and borrowings as a source of liquidity,
maturing loans and investments with maturities of less than one year and
overnight federal funds purchased are considered to be available for liquidity
needs.
The charts below indicate the maturity schedule for earning assets as of
December 31, 1996 and 1995:
MATURITY SCHEDULE FOR INVESTMENTS AND LOANS
(Amortized cost used for investments)
<TABLE>
<CAPTION>
Percent
In Thousands Total Total of Total
- ------------ 0-1 1-5 After Carrying Fair Fair
December 31, 1996 Year Years 5 Years Cost Value Value
--------- --------- --------- --------- --------- --------
<S> <C> <C> <C> <C> <C> <C>
Investments $27,115 $23,839 $79,979 $130,933 $132,203 17.6%
Loans 212,486 359,492 28,416 600,394 592,320 79.0%
Federal Funds sold 25,050 -- -- 25,050 25,050 3.4%
--------- --------- --------- --------- --------- --------
Total $264,651 $383,331 $108,395 $756,377 $749,573 100.0%
========= ========= ========= ========= ========= ========
</TABLE>
PAGE THIRTY-ONE
<PAGE> 32
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial
Condition and Results of Operations - Continued
MATURITY SCHEDULE FOR INVESTMENTS AND LOANS
(Amortized cost used for investments)
<TABLE>
<CAPTION>
Percent
In Thousands Total Total of Total
- ------------ 0-1 1-5 After Carrying Fair Fair
December 31, 1995 Year Years 5 Years Cost Value Value
--------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Investments $28,275 $36,713 $78,567 $143,555 $146,189 20.5%
Loans 169,727 310,947 24,314 504,988 510,973 71.7%
Federal Funds sold 55,930 -- -- 55,930 55,930 7.8%
--------- --------- --------- --------- --------- ---------
Total $253,932 $347,660 $102,881 $704,473 $713,092 100.0%
========= ========= ========= ========= ========= =========
</TABLE>
As indicated in the chart, $264.7 million in aggregate loans, investments and
federal funds sold were available liquidity at year-end 1996, or 35.0% of
carrying value. At year-end 1995, $253.9 million in aggregate loans, investments
and federal funds sold were available, or 36.0% of carrying value. At year-end
1994, $186.3 million in aggregate loans, investments and federal funds sold were
available, or 30.6% of carrying value. Some of the other sources of liquidity
are additional borrowings from the FHLB, or participation in the Treasury
Department's short-term note program, borrowings at the Federal Reserve Bank, or
borrowings from correspondent banks (see Note 6).
INTEREST RATE RISK
Interest rate risk refers to the exposure of earnings and capital arising from
changes in interest rates. Management's objectives are to control interest rate
risk and to ensure predictable and consistent growth of earnings and capital.
Interest rate risk management focuses on fluctuations in net interest income
identified through computer simulations to evaluate volatility under varying
interest rate, spread and volume assumptions. The risk is quantified and
compared against tolerance levels.
In 1995, the Corporation began the process of selecting a model to measure this
risk. During 1996, the model was chosen and interface with the mainframe
established. Preliminary simulation tests are now being performed, and the model
should be fully operational in 1997.
Meanwhile, the Corporation continues to utilize the "gap" theory for measurement
of interest rate sensitivity, the previous method used before interest rate
risk. This analysis provides a general measure of interest rate risk but does
not address complexities such as prepayment risk, interest rate dynamics,
interperiod sensitivities, interest rate floors and ceiling imposed on financial
instruments, and customers' responses to interest rate changes.
Interest rate sensitivity is closely related to liquidity because each is
directly affected by the maturity of assets and liabilities. Management
considers any asset or liability which matures, or is subject to repricing
within one year, to be interest-sensitive, although continual monitoring is also
performed for other time intervals. The difference between interest-sensitive
assets and liabilities for a defined period of time is known as the
interest-sensitive "gap" and may be either positive or negative. If positive,
more assets reprice before liabilities; if negative, the reverse is true. In
theory, if the gap is positive, a decrease in general interest rates might have
an adverse impact on earnings as interest income decreases faster than interest
expense. This assumes that management adjusts rates equally as general interest
rates fall. Conversely, an increase in interest rates would increase net
interest income as interest income increases faster than interest expense.
However, the exact impact of the gap on future income is uncertain both in
timing and amount because interest rates for the Corporation's assets and
liabilities can change rapidly as a result of market conditions and customer
patterns.
Management does not use interest rate risk management products such as interest
rate swaps, hedges, or derivatives, nor does management intend to use such
products in the future.
The Corporation's interest rate sensitive positions at December 31, 1996 and
1995 are shown in the following tables:
PAGE THIRTY-TWO
<PAGE> 33
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial
Condition and Results of Operations - Continued
REPRICING CHARACTERISTICS OF EARNING ASSETS AND INTEREST BEARING LIABILITIES
(Amortized cost used for investments)
<TABLE>
<CAPTION>
In Millions Total Non
- ----------- 0-3 4-12 within one 1-5 5-10 Over interest
December 31, 1996 Months Months Year Years Years 10 Years Sensitive Total
- ----------------- --------- --------- --------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Earning assets
Investment securities $18 $9 $27 $24 $75 $5 -- $131
Loans (1) 191 92 283 306 7 -- $4 600
Federal funds sold 25 -- 25 -- -- -- -- 25
--------- --------- --------- --------- --------- --------- --------- ---------
Total earning assets $234 $101 $335 $330 $82 $5 $4 $756
========= ========= ========= ========= ========= ========= ========= =========
Interest bearing liabilities
Money market & NOW $82 -- $82 -- -- -- -- $82
Savings deposits 147 -- 147 -- -- -- -- 147
Time deposits 89 $184 273 $84 $2 -- -- 359
--------- --------- --------- --------- --------- --------- --------- ---------
Total interest bearing deposits 318 184 502 84 2 -- -- 588
Other 17 -- 17 30 -- -- -- 47
--------- --------- --------- --------- --------- --------- --------- ---------
Total interest bearing liabilities $335 $184 $519 $114 $2 -- -- $635
========= ========= ========= ========= ========= ========= ========= =========
Incremental gap ($101) ($83) ($184) $216 $80 $5 $4 $121
Cumulative gap ($101) ($184) ($184) $32 $112 $117 $121 $121
Gap as a percent of
total earning assets -13.4% -24.3% -24.3% 4.2% 14.8% 15.5% 16.0%
========= ========= ========= ========= ========= ========= =========
</TABLE>
<TABLE>
<CAPTION>
In Millions Total Non
- ----------- 0-3 4-12 within one 1-5 5-10 Over interest
December 31, 1995 Months Months Year Years Years 10 Years Sensitive Total
- ----------------- --------- --------- --------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Earning assets
Investment securities $12 $16 $28 $37 $65 $14 -- $144
Loans (1) 201 54 255 243 3 $4 505
Federal funds sold 56 -- 56 -- -- -- -- 56
--------- --------- --------- --------- --------- --------- --------- ---------
Total earning assets $269 $70 $339 $280 $68 $14 $4 $705
========= ========= ========= ========= ========= ========= ========= =========
Interest bearing liabilities
Money market & NOW $70 -- $70 -- -- -- -- $70
Savings deposits 141 -- 141 -- -- -- -- 141
Time deposits 89 $158 247 $98 $2 -- -- 347
--------- --------- --------- --------- --------- --------- --------- ---------
Total interest bearing deposits 300 158 458 98 2 -- -- 558
Other 8 -- 8 10 5 -- -- 23
--------- --------- --------- --------- --------- --------- --------- ---------
Total interest bearing liabilities $308 $158 $466 $108 $7 -- -- $581
========= ========= ========= ========= ========= ========= ========= =========
Incremental gap ($39) ($88) ($127) $172 $61 $14 $4 $124
Cumulative gap ($39) ($127) ($127) $45 $106 $120 $124 $124
Gap as a percent of
total earning assets -5.5% -18.0% -18.0% 6.4% 15.0% 17.0% 17.6%
========= ========= ========= ========= ========= ========= =========
</TABLE>
(1) Includes nonaccruing loans.
PAGE THIRTY-THREE
<PAGE> 34
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial
Condition and Results of Operations - Continued
For many years, the gap of the Corporation has been negative, with
rate-sensitive liabilities exceeding rate-sensitive assets in a one-year
horizon. This would suggest that a decrease in general interest rates would
improve net interest earnings. At year-end 1994, the net interest margin of the
Corporation was 5.46%; 5.03% in 1995, and 5.17% in 1996. General interest rates
increased rapidly in 1994, decreased in 1995, and stayed generally the same in
1996. The negative gap of (28.2%) in 1994 increased to a negative (18.0%) in
1995, and declined to (24.3%) in 1996, or the gap became more liability
sensitive. Since interest rates remained about the same, it is difficult to say
that the gap was of any help during the period. Management determines the
repricing on assets and liabilities depending on the options available to
maximize profit while maintaining liquidity. The gap reflects management's
ability to change rates, not necessarily that rates must change. At this time,
management considers the current rate risk position within acceptable levels.
CAPITAL
Consolidated capital of the Corporation for financial statement purposes,
increased $15.0 million in 1996, or 22.9% to $80.3 million; increased $14.9
million in 1995 to $65.4 million, or 29.5%, and increased $9.3 million in 1994
to $50.5 million, or up 22.6%. In 1996, $1 million of the capital increase was
attributable to the investment in Washington Banking Company, a decrease of $.8
million was attributable to the change in fair market value of the AFS
portfolio, and the remainder was almost all due to net profits of the Bank. In
1995, $2.1 million of the increase was attributable to the increase in the
market value of the AFS securities. Almost all of the remainder of the increase
was the retained earnings of the Bank. In 1994 a loss of $1.2 million in the AFS
securities reduced the growth in capital to $9.3 million. In 1993, $6.7 million
of the increase in capital came from retained earnings, the remainder of $1.2
million was attributable to the merger with The Bank of Northshore. Please see
Note 11 of this report for other information of shareholder's equity, dividends
and capital requirements.
MARKET FOR FRONTIER FINANCIAL CORPORATION'S COMMON STOCK
AND RELATED SHAREHOLDER MATTERS
Trading in Frontier Financial Corporation's common stock has not been extensive,
but has been increasing each year. In 1996, based on shares outstanding at
year-end, private trades and transfers totaled approximately 11%. In 1995,
private trades and transfers totaled approximately 7%, and in 1994 totaled
approximately 6%. The Corporation's common stock is not listed on any exchange,
or the National Association of Securities Dealers' Automated Quotation System
(NASDAQ). During 1996, the market price of common stock ranged from $27.00 to
$35.00 per share (prices have been adjusted for the stock dividend paid in
1996).
At December 31, 1996, the total number of shareholders of record of Frontier
Financial Corporation's common stock was 3,017, and there were 6,830,666 shares
outstanding. At December 31, 1995, the total number of shareholders of record of
Frontier Financial Corporation's common stock was 2,609, and there were
6,322,255 shares outstanding.
Management has established an objective to maximize the rate of internal capital
growth as the means of maintaining capital adequacy. The Corporation has not
paid cash dividends in the past. However, the Bank, or the Corporation, has paid
a stock dividend each year since 1981, except for 1995, when a 3-for-2 split was
declared. Management believes that distributing the profits of the Corporation
by issuing stock accomplishes much more than a cash dividend. The amount of cash
that could be distributed to shareholders would be far less than the liquidation
value of a stock dividend, and cash dividends reduce capital which is needed to
fund the continued growth of the Bank. Annually, the Board of Directors reviews
various methods to distribute the earnings of the Corporation to the
shareholders, including cash dividends.
PAGE THIRTY-FOUR
<PAGE> 35
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
AVERAGE BALANCES AND TAX-EQUIVALENT NET INTEREST MARGIN - Table 1
<TABLE>
<CAPTION>
Year Ended December 31,
In Thousands 1996 1995(1) 1994(1)
- ------------ ------------------------------ --------------------------------- ---------------------------------
Average Average Average
Interest Rates Interest Rates Interest Rates
Average Income/ Earned/ Average Income/ Earned/ Average Income/ Earned/
Balance Expense Paid Balance Expense Paid Balance Expense Paid
-------- ------ ----- -------- ------ ----- -------- ------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
INTEREST EARNING ASSETS
Taxable investments $110,391 $7,349 6.66% $106,320 $6,781 6.38% $114,861 $ 7,237 6.30%
Nontaxable investments(2) 30,405 2,730 8.98% 31,872 2,977 9.34% 32,672 3,123 9.56%
-------- ------ ----- -------- ------ ----- -------- ------- -----
Total 140,796 10,079 7.16% 138,192 9,758 7.06% 147,533 10,360 7.02%
Federal funds sold 24,625 1,331 5.41% 37,477 2,194 5.85% 1,256 52 4.14%
Loans(3)
Installment 21,180 2,072 9.78% 19,193 1,916 9.98% 19,430 1,819 9.36%
Commercial(2) 120,370 12,339 10.25% 124,356 13,218 10.63% 120,359 11,673 9.70%
Real estate
Commercial 208,816 20,568 9.85% 160,466 16,345 10.19% 117,087 11,219 9.58%
Construction 109,983 13,194 12.00% 90,506 11,501 12.71% 92,867 10,599 11.41%
Residential 94,756 9,408 9.93% 90,909 9,175 10.09% 76,601 8,292 10.83%
-------- ------ ----- -------- ------ ----- -------- ------- -----
Total 555,105 57,581 10.37% 485,430 52,155 10.74% 426,344 43,602 10.23%
Total earning assets/total
interest income 720,526 $68,991 9.58% 661,099 $64,107 9.70% 575,133 $54,014 9.39%
-------- ------ ===== ------- ------ ===== -------- ------- =====
Reserve for loan losses (12,509) (12,467) (8,688)
Cash and due from banks 22,258 20,885 24,380
Other assets 22,551 21,810 20,485
-------- -------- --------
TOTAL ASSETS $752,826 $691,327 $611,310
======== ======== ========
INTEREST BEARING LIABILITIE
Money Market &
NOW accounts $71,712 $2,133 2.97% $68,511 $2,159 3.15% $75,865 $2,000 2.64%
Savings accounts 144,629 5,813 4.02% 151,798 6,349 4.18% 224,657 8,606 3.83%
Other time deposits 338,542 20,132 5.95% 306,724 19,350 6.31% 151,240 8,158 5.39%
-------- ------ ----- ------- ------ ----- -------- ------- -----
Total interest bearing
deposits 554,883 28,078 5.06% 527,033 27,858 5.29% 451,762 18,764 4.15%
Short-term borrowings 11,018 539 4.89% 3,173 175 5.51% 11,753 538 4.58%
Long-term debt 26,679 1,483 5.56% 22,848 1,297 5.68% 24,077 1,337 5.55%
-------- ------ ----- ------- ------ ----- -------- ------- -----
Total interest bearing
liabilities/total
interest expense 592,580 30,100 5.08% 553,054 29,330 5.30% 487,592 20,639 4.23%
-------- ------ ===== ------- ------ ===== -------- ------- -----
Noninterest bearing
deposits 80,131 73,001 72,102
Other liabilities 7,062 6,832 4,975
Shareholders' equity 73,053 58,440 46,641
-------- ------- --------
TOTAL LIABILITIES
AND CAPITAL $752,826 $691,327 $611,310
======== ======= ========
NET INTEREST INCOME $38,891 $34,777 $33,375
======= ======= =======
NET YIELD ON INTEREST
EARNING ASSETS 5.40% 5.26% 5.80%
===== ===== =====
</TABLE>
(1) Prior period data restated to conform to current presentation.
(2) Includes amounts to convert nontaxable amounts to a fully taxable equivalent
basis at a 35% tax rate.
(3) Includes nonaccruing loans.
PAGE THIRTY-FIVE
<PAGE> 36
FRONTIER FINANCIAL CORPORATION AND SUBSIDIARIES
RATE/VOLUME ANALYSIS OF CHANGES IN NET INTEREST INCOME - Table 2
<TABLE>
<CAPTION>
1996 versus 1995 1995 versus 1994 1994 versus 1993
Year ended December 31, Increase (Decrease) Due Increase (Decrease) Due Increase (Decrease) Due
In Thousands to Change in to Change in to Change in
- ---------------------- -------------------------------- -------------------------------- ---------------------------------
Total Total Total
Average Average Increase Average Average Increase Average Average Increase
Volume Rate (Decrease) Volume Rate (Decrease) Volume Rate (Decrease)
------- ------- --------- ------- ------- ---------- ------- ------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
INTEREST INCOME
Taxable investments $260 $308 $568 ($538) $82 ($456) $2,184 ($1,442) $742
Nontaxable investments (137) (110) (247) (77) (69) (146) 968 (293) 675
------ ------ ------ ------ ----- ------ ------ ------- ------
Total 123 198 321 (615) 13 (602) 3,152 (1,735) 1,417
Federal funds sold (753) (110) (863) 1,492 650 2,142 (953) 14 (939)
Loans
Installment 199 (43) 156 (22) 119 97 (39) (54) (93)
Commercial (424) (455) (879) 388 1,157 1,545 718 (92) 626
Real estate
Commercial 4,926 (703) 4,223 4,168 835 5,003 4,170 (696) 3,474
Construction 2,475 (782) 1,693 (291) 1,379 1,088 3,435 (1,662) 1,773
Residential 388 (155) 233 1,554 (734) 820 1,269 1,318 2,587
------ ------ ------ ------ ----- ------ ------ ------- ------
Total 7,564 (2,138) 5,426 5,797 2,756 8,553 9,553 (1,186) 8,367
TOTAL INTEREST
INCOME 6,934 (2,050) 4,884 6,674 3,419 10,093 11,752 (2,907) 8,845
------ ------ ------ ------ ----- ------ ------ ------- ------
INTEREST EXPENSE
Money Market &
NOW accounts 101 (127) (26) (194) 353 159 (98) (247) (345)
Savings accounts (300) (236) (536) (2,791) 534 (2,257) 1,398 (594) 804
Other time deposits 2,007 (1,225) 782 8,387 2,805 11,192 807 (131) 676
------ ------ ------ ------ ----- ------
Total interest 2,107 (972) 1,135
bearing deposits 1,808 (1,588) 220 5,402 3,692 9,094
281 222 503
Short-term borrowings 432 (68) 364 (393) 30 (363) 2,032 (813) 1,219
Long-term debt 217 (31) 186 (68) 28 (40) ------ ------- ------
TOTAL INTEREST
EXPENSE 2,457 (1,687) 770 4,941 3,750 8,691 4,420 (1,563) 2,857
------ ------ ------ ------ ----- ------ ------ ------- ------
CHANGE IN NET
INTEREST INCOME $4,477 ($363) $4,114 $1,733 ($331) $1,402 $7,332 ($1,344) $5,988
====== ====== ====== ====== ===== ====== ====== ======= ======
</TABLE>
PAGE THIRTY-SIX
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM FRONTIER
FINANCIAL CORPORATION AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH 10-K
405
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<CASH> 35,105
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 25,050
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 96,628
<INVESTMENTS-CARRYING> 34,502
<INVESTMENTS-MARKET> 35,574
<LOANS> 600,394
<ALLOWANCE> (13,268)
<TOTAL-ASSETS> 803,619
<DEPOSITS> 670,516
<SHORT-TERM> 12,011
<LIABILITIES-OTHER> 5,675
<LONG-TERM> 35,100
0
0
<COMMON> 57,191
<OTHER-SE> 23,126
<TOTAL-LIABILITIES-AND-EQUITY> 803,619
<INTEREST-LOAN> 57,545
<INTEREST-INVEST> 10,455
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 68,000
<INTEREST-DEPOSIT> 28,078
<INTEREST-EXPENSE> 30,100
<INTEREST-INCOME-NET> 37,900
<LOAN-LOSSES> (1,980)
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 17,931
<INCOME-PRETAX> 21,697
<INCOME-PRE-EXTRAORDINARY> 14,617
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 14,617
<EPS-PRIMARY> 2.15
<EPS-DILUTED> 2.15
<YIELD-ACTUAL> 5.40
<LOANS-NON> 3,626
<LOANS-PAST> 0
<LOANS-TROUBLED> 121
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 11,898
<CHARGE-OFFS> 1,944
<RECOVERIES> 1,334
<ALLOWANCE-CLOSE> 13,268
<ALLOWANCE-DOMESTIC> 13,268
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
