<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
/ X / ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ______ to ______
------------------------------
COMMISSION FILE NUMBER 0 - 19300
NORTHERN STATES FINANCIAL CORPORATION
(Exact name of Registrant as specified in its charter)
Delaware 36-3449727
(State of incorporation) (I.R.S. Employer
Identification No.)
1601 North Lewis Avenue
Waukegan, Illinois 60085
(847) 244-6000
(Address, including zip code, and telephone number, including
area code, of principal executive office)
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Securities registered pursuant to Section 12(g) of the Act
Name of each exchange on
Title of each class which registered
--------------------------- ------------------------
Common Stock $.40 par value NASDAQ Small-Cap Market
Cover Page 1 of 2
Page 1 of 63 Pages
Exhibit Index Appears on Page 21
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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. [ X ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ X]
The aggregate market value of the voting shares held by nonaffiliates of
the Registrant is $69,751,065, as of March 19, 1999. Solely for the purpose of
this computation, it has been assumed that executive officers and directors of
the Registrant are "affiliates" and that the last price known to management was
a sale on March 19, 1999, of $23.00 per share.
4,455,435 shares of common stock were outstanding as of March 25, 1999.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of Parts II and IV are incorporated by reference from the
Registrant's 1998 Annual Report to Stockholders; and a portion of Part III is
incorporated by reference from the Registrant's Proxy Statement dated March 23,
1999, for the Annual Meeting of Stockholders to be held April 22, 1999.
Except for those portions of the 1998 Annual Report incorporated by
reference, the Annual Report is not deemed filed as part of this Report.
Cover Page 2 of 2
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INDEX
<TABLE>
<CAPTION>
PART I PAGE NO.
<S> <C> <C>
Item 1 Business 4
Item 2 Properties 14
Item 3 Legal Proceedings 14
Item 4 Submission of Matters to a Vote
of Security Holders 14
PART II
Item 5 Market for the Registrant's Common Stock
and Related Stockholder Matters 15
Item 6 Selected Financial Data 15
Item 7 Management's Discussion and Analysis
of Financial Condition and
Results of Operations 15
Item 7A Quantitative and Qualitative Disclosures
about Market Risk 15
Item 8 Financial Statements and Supplementary Data 16
Item 9 Changes in and Disagreements with
Accountants on Accounting
and Financial Disclosure 16
PART III
Item 10 Directors and Executive Officers of the
Registrant 17
Item 11 Executive Compensation 17
Item 12 Security Ownership of Certain Beneficial
Owners and Management 17
Item 13 Certain Relationships and Related
Transactions 17
PART IV
Item 14 Exhibits, Financial Statement Schedules
and Reports on Form 8-K 18
Signatures 19
</TABLE>
3
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PART I
Item 1. BUSINESS
THE COMPANY
OVERVIEW
Northern States Financial Corporation (the "Registrant" or the "Company")
is a bank holding company organized in 1984 under the laws of Delaware, for the
purpose of becoming the parent bank holding company of the Bank of Waukegan (the
"Bank"). In 1991, the Registrant acquired First Federal Bank, fsb ("First
Federal" or the "Thrift"). On December 17, 1997, the Company's Board of
Directors announced that it had approved the merger of its two wholly owned
subsidiaries, Bank of Waukegan and First Federal Bank, fsb. The merger became
effective April 21, 1998 with the Bank as the surviving entity in the merger.
The Registrant is registered under the Bank Holding Company Act of 1956, as
amended, and owns all the outstanding stock of the Bank. At December 31, 1998,
the Company had 450 registered stockholders of record, 4,453,400 shares of
Common Stock outstanding, and total consolidated assets of approximately $486
million. Aside from the stock of the Bank and cash, the Registrant has no other
substantial assets.
As a large, community-oriented, independent banking organization in the
Waukegan-Gurnee area in the State of Illinois, the Company is well positioned to
take advantage of the growth in Waukegan-Gurnee and its surrounding communities.
The Company has continuously served the community since 1919 when First Federal
was chartered; complemented by the Bank when it was chartered in 1962. The
Company's local management, coupled with its long record of service, has allowed
it to compete successfully in the banking market. The Company operates as a
traditional community bank with conveniently located branches and a professional
staff.
The Registrant and Bank have no material patents, licenses or franchises
except the corporate franchises and trademarks which permit them to engage in
banking and trust practices pursuant to law.
The following table shows loans and deposits of the Bank as of December 31,
1998 (in thousands of dollars):
LOANS DEPOSITS
-----------------------
$246,209 $355,756
The principal business of the Registrant, operating through the Bank,
consists of attracting deposits and securities sold under repurchase agreements
from the general public, making commercial loans, loans secured by residential
and commercial real estate and consumer loans, and operating a mortgage banking
and trust businesses.
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SUBSIDIARY OPERATIONS
The Bank of Waukegan was chartered as a state bank in 1962 and is located
in Waukegan, Illinois. Waukegan is located approximately 37 miles north of
Chicago, Illinois and has a population of approximately 70,000. At December 31,
1998 the Bank of Waukegan had total assets of approximately $485.7 million,
deposits of approximately $356.5 million and stockholder's equity of
approximately $64.55 million. The Bank has three banking offices located in
Waukegan, one office located in Antioch, Illinois, one office located in Gurnee,
Illinois, and one office located in Winthrop Harbor, Illinois.
The Bank provides services to individuals, businesses and local
governmental units in northeastern Illinois and southeastern Wisconsin.
The Bank's full service banking business includes the customary consumer
and commercial products and services which banks provide, including the
following: demand, savings, and time deposits, securities sold under repurchase
agreements and individual retirement accounts; commercial, consumer and real
estate lending, including installment loans, student loans, lines of credit and
overdraft checking; safe deposit operations; trust services; and a variety of
additional services tailored to the needs of individual customers, such as the
sale of traveler's checks, money orders, cashier's checks and foreign currency,
direct deposit, and other special services.
Commercial and consumer loans are made to corporations, partnerships and
individuals, primarily on a secured basis. Commercial lending focuses on
business, capital, construction, inventory and real estate. The installment loan
department of the Bank makes direct and indirect loans to consumers and
commercial customers. The mortgage division originates and services commercial
and residential mortgages.
The Bank's trust department acts as executor, administrator, trustee,
conservator, guardian, custodian and agent. At December 31, 1998, the Trust
Department had assets under management or custodial arrangements of
approximately $214 million. Its office is located in Waukegan, Illinois.
COMPANY OPERATING STRATEGY
Corporate policy, strategy and goals are established by the Board of
Directors of the Company. Pursuant to the Company's philosophy, operational and
administrative policies for the Bank are also established by the Company. Within
this framework, the Bank focuses on providing personalized services and quality
products to customers to meet the needs of the communities in which they
operate.
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As part of its community banking approach, the Company encourages the
officers of the Bank to actively participate in community organizations. In
addition, within credit and rate of return parameters, the Company attempts to
ensure that the Bank meets the credit needs of the community. In addition, the
Bank invests in local municipal securities.
LENDING ACTIVITIES
GENERAL - The Bank provides a range of commercial and retail lending services to
corporations, partnerships and individuals, including, but not limited to,
commercial business loans, commercial and residential real estate construction
and mortgage loans, consumer loans, revolving lines of credit and letters of
credit. The installment loan department makes direct and indirect loans to
consumers and commercial customers. The mortgage department originates and
services commercial and residential mortgages. The Bank's mortgage banking
operation takes and processes loan applications that are "table funded" by the
institution that ultimately funds and owns the loan.
The Bank aggressively markets its services to qualified borrowers in both
the commercial and consumer sectors. The Bank's commercial lending officers
actively solicit the business of new companies entering the surrounding market
as well as long-standing members of the business community. Through personalized
professional service and competitive pricing, the Bank has been successful in
attracting new commercial lending customers. At the same time, the Bank actively
advertises its consumer loan products and continually attempts to make its
lending officers more accessible.
COMMERCIAL LOANS - The Bank seeks new commercial loans in its market area and
much of the increase in these loans in recent years can be attributed to the
successful solicitation of new business. The Bank's areas of emphasis include,
but are not limited to, loans to manufacturers, building contractors,
developers, business services companies and retailers. The Bank provides a wide
range of commercial business loans, including lines of credit for working
capital purposes and term loans for the acquisition of equipment and other
purposes. Collateral for these loans generally includes accounts receivable,
inventory, equipment and real estate. Loans may be made on an unsecured basis
where warranted by the overall financial condition of the borrower. Terms of
commercial business loans generally range from one to five years. The majority
of the Bank's commercial business loans have floating interest rates or reprice
within one year. The primary repayment risk for commercial loans is the failure
of the business due to economic or financial factors. In most cases, the Bank
has collateralized these loans and/or taken personal guarantees to help assure
repayment.
The Bank regularly provides financing to developers who have demonstrated a
favorable record of performance for the construction of homes. Sales of these
homes have remained very strong in Lake County due to the growth in population.
MORTGAGE BANKING - The Bank conducts a mortgage origination operation through
its mortgage division. Since 1991, the Bank through the former Thrift began to
fund conforming long-term residential mortgage loans and selling them in the
secondary market with servicing retained. During 1998, the Bank's mortgage
banking operation began taking
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and processing loan applications that are "table funded" by the institution that
ultimately funds and owns the loan. These loans are sold without the Bank
retaining servicing. The Bank has a mortgage servicing portfolio of
approximately $60.3 million at December 31, 1998.
CONSUMER LENDING - The Bank's consumer lending department provides all types of
consumer loans including motor vehicle, home improvement, home equity, student
loans, unsecured loans and small personal credit lines.
TRUST DEPARTMENT - The Bank's trust department has been providing trust services
to the community for over 10 years. Currently, the Bank has over $214 million of
trust assets under management and provides a full complement of trust services
for individuals and corporations including land trust services.
To build on the trust department's mainstay of personal trust
administration, the trust department's focus is in two major areas: (i)
investment management for individuals and (ii) administration and investment
services for employee benefit plans.
COMPETITION
The Registrant and its subsidiary encounter significant competition in all
of their activities. The Chicago metropolitan area and suburban Lake County have
a high density of financial institutions, many of which are significantly larger
and have substantially greater financial resources than the Company and its
subsidiary, and all of which are competitors of the Company and its subsidiary
to varying degrees. The Registrant and its subsidiary are subject to competition
from various financial institutions, including state and national banks, state
and federal savings associations, credit unions, certain non-banking consumer
lenders, and other companies or firms, including brokerage houses and mortgage
brokers, that provide similar services in northeastern Illinois. In total, there
are 22 financial institutions which have offices located in the Waukegan-Gurnee
area, including the Bank. These financial institutions consist of 9 banks, 6
savings associations and 7 credit unions. The Bank also competes with money
funds and with insurance companies with respect to its individual retirement
accounts.
Competition may increase as a result of the continuing reduction in the
effective restrictions on the interstate operations of financial institutions.
The Registrant and its subsidiary face additional competition for deposits from
short-term money market mutual funds and other corporate and government
securities funds. Since the elimination of federal interest rate controls on
deposits, the competition from other financial institutions for deposits has
increased.
The primary factors influencing competition for deposits are interest
rates, service, and convenience of office locations. The Company competes for
loans principally through the range and quality of the services it provides,
interest rate and loan fee terms. The Company believes that its long-standing
presence in the community and personal service philosophy
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enhances its ability to compete favorably in attracting and retaining individual
and business customers. The Company actively solicits deposit-related clients
and competes for deposits by offering customers personal attention, professional
service and competitive interest rates.
EMPLOYEES
The Registrant and its subsidiary employed 119 full-time and 28 part-time
employees as of December 31, 1998. None of the Registrant's employees is
represented by any collective bargaining group. The Company offers a variety of
employee benefits and management considers its employee relations to be good.
GOVERNMENTAL MONETARY POLICY AND ECONOMIC CONDITIONS
The earnings and growth of the Company are affected not only by general
economic conditions, but also by the fiscal and monetary policies of the federal
government and its agencies. In particular, the Federal Reserve Board regulates
monetary and credit conditions and interest rates in order to influence general
economic conditions, primarily through open-market operations in U.S. Government
securities, varying the discount rate on bank borrowings, and setting reserve
requirements against bank deposits.
These policies have a significant influence on overall growth and
distribution of the Company's loans, investments and deposits, and affect
interest rates charged on loans and earned on investments or paid for deposits.
The monetary policies of the Federal Reserve Board are expected to continue
their substantial influence on the operating results of banks.
The general effect, if any, of such policies upon the future business and
earnings of the Company and its subsidiary cannot accurately be predicted.
SUPERVISION AND REGULATION
Financial institutions and their holding companies are extensively
regulated under federal and state laws. As a result, the business, financial
condition and prospects of the Company and the Bank can be materially affected
not only by management decisions and general economic conditions, but also by
applicable statutes and regulations and other regulatory pronouncements and
policies promulgated by regulatory agencies with jurisdiction over the Company
and the Bank, such as the Board of Governors of the Federal Reserve System
("FRB"), the Federal Deposit Insurance Corporation ("FDIC") and the Illinois
Office of Banks and Real Estate (the "Office"). Such statutes, regulations and
other pronouncements
8
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and policies are intended to protect depositors and the FDIC's deposit insurance
funds, not to protect stockholders.
The Company and the Bank are "affiliates" within the meaning of the Federal
Reserve Act so that the Bank is subject to certain restrictions with respect to
loans to the Company and certain other transactions with the Company or
involving its securities.
The Company is a bank holding company subject to the Bank Holding Company
Act of 1956, as amended (the "Act"), and to regulation by the FRB. The Act
limits the activities which may be engaged in by bank holding companies and
their nonbank subsidiaries, with certain exceptions, to those so closely related
to banking or managing or controlling banks as to be a proper incident thereto.
Also, under the Act and the FRB's regulations, a bank holding company, as well
as certain of its subsidiaries, are prohibited from engaging in certain tie-in
arrangements in connection with any extension of credit or provision of any
property or services.
The Act also prohibits bank holding companies from acquiring substantially
all the assets of or owning more than 5% of the voting shares of any bank or
nonbanking company, which is not already majority owned, without the prior
approval of the FRB. The Reigle-Neal Interstate Banking and Branching Efficiency
Act of 1994 (the "Interstate Act") permits an adequately capitalized and
adequately managed bank holding company to acquire, with FRB approval, a bank
located in a state other than the bank holding company's home state, without
regard to whether the transaction is permitted under any state law, except that
a host state may establish by statute the minimum age of its banks (up to a
maximum of 5 years) subject to acquisition by out-of-state bank holding
companies. The FRB may not approve the acquisition if the applicant bank holding
company, upon consummation, would control more that 10% of total U.S. insured
depository institution deposits or more than 30% of the host state's total
insured depository institution deposits. The Interstate Act also permits a bank,
with the approval of the appropriate Federal bank regulatory agency, to
establish a de novo branch in a state, other than the bank's home state, in
which the bank does not presently maintain a branch if the host state has
enacted a law that applies equally to all banks and expressly permits all
out-of-state banks to branch de novo into the host state. Banks having different
home states may, with approval of the appropriate Federal bank regulatory
agency, merge across state lines, unless the home state of a participating bank
has opted-out of the Interestate Act prior to June 1, 1997. In addition the
Interstate Act permits any bank subsidiary of a bank holding company to receive
deposits, renew time deposits, close loans, service loans and receive payments
on loans and other obligations as agent for a bank or thrift affiliate, whether
such affiliate is located in a different state or in the same state. Illinois
law allows the Bank to establish branches anywhere in the state.
The Illinois Bank Holding Company Act permits Illinois bank holding
companies to acquire control of banks in any state and permits bank holding
companies whose principal place of business is in another state to acquire
control of Illinois banks or bank holding companies upon satisfactory
application to the Office. In reviewing any such application, the Office will
review, among other things, compliance by the applicant with the requirements of
the Community Reinvestment Act (the "CRA") and other information designed to
determine such banks' abilities to meet community credit needs.
9
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The Financial Institutions Reform, Recovery and Enforcement Act of 1989
("FIRREA") amended the Act to authorize the FRB to allow bank holding companies
to acquire any savings association (whether healthy, failed or failing) and
removed "tandem operations" restrictions, which previously prohibited savings
associations from being operated in tandem with a bank holding company's other
subsidiaries. As a result, bank holding companies now have expanded
opportunities to acquire savings associations.
Under FIRREA, an insured depository institution which is commonly
controlled with another insured depository institution shall generally be liable
for any loss incurred, or reasonably anticipated to be incurred, by the FDIC in
connection with the default of such commonly controlled institution, or for any
assistance provided by the FDIC to such commonly controlled institution, which
is in danger of default. The term "default" is defined to mean the appointment
of a conservator or receiver for such institution. Such liability is
subordinated in right of payment to deposit liabilities, secured obligations,
any other general or senior liability and any obligation subordinated to
depositors and or other general creditors, other than obligations owed to any
affiliate of the depository institution (with certain exceptions) and any
obligations to stockholders in such capacity.
The Bank is subject to regulation by the FDIC, as well as by the Office.
Under the Illinois Banking Act (the "IBA"), the Bank is permitted to
declare and pay dividends in amounts up to the amount of its accumulated net
profits provided that it shall retain in its additional paid-in capital at least
one-tenth of its net profits since the date of the declaration of its most
recent previous dividend until such additions to additional paid-in capital, in
the aggregate, equal at least the paid-in capital of the Bank. In no event may
the Bank, while it continues its banking business, pay dividends in excess of
its net profits then on hand (after deductions for losses and bad debts).
Under the FDIC's risk-based insurance assessment system, each insured
depository institution is placed in one of nine risk categories based on its
level of capital and other relevant information. Each insured depository
institution's insurance assessment rate is then determined by the risk category
in which it has been classified by the FDIC. Under the assessment schedule
applicable for the second semi-annual assessment period of 1998 to BIF-insured
institutions (such as the Bank), assessment rates ranged from 0% to 0.27% of
deposits. In addition, the Bank is subject to "FICO assessments" to repay
obligations issued by a federally chartered corporation to provide financing for
resolving the thrift crises of the 1980s. The FICO assessment rate applicable to
BIF-assessable deposits is limited by law to 20% of the rate applicable to
SAIF-assessable deposits. Currently, the FICO assessment rate applicable to
BIF-assessable deposits is .0122%, and the rate applicable to SAIF-assessable
deposits is .0610%.
The Federal bank regulators have adopted risk-based capital guidelines
for bank holding companies and banks. The minimum ratio of qualifying total
capital to risk-weighted assets, including certain off-balance sheet items
(Total Capital Ratio), is 8%, and
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the minimum ratio of that portion of total capital that is comprised of common
stock, related additional paid-in capital, retained earnings, noncumulative
perpetual preferred stock, minority interests and, for bank holding companies, a
limited amount of qualifying cumulative perpetual preferred stock, less certain
intangibles including goodwill (Tier 1 capital), to risk-weighted assets is 4%.
The balance of total capital may consist of other preferred stock, certain other
instruments, and limited amounts of subordinated debt and the loan and lease
loss allowance.
The Federal Reserve Board risk-based capital standards contemplate that
evaluation of capital adequacy will take account of a wide range of other
factors, including overall interest rate exposure; liquidity, funding and market
risks; the quality and level of earnings; investment, loan portfolio, and other
concentrations of credit; certain risks arising from nontraditional activities;
the quality of loans and investments; the effectiveness of loan and investment
policies; and management's overall ability to monitor and control financial and
operating risks including the risks presented by concentrations of credit and
nontraditional activities.
In addition, the Federal Reserve has established minimum Leverage Ratio
(Tier 1 capital to quarterly average total assets) guidelines for bank holding
companies and banks. These guidelines provide for a minimum Leverage Ratio of 3%
for bank holding companies and banks that meet certain specified criteria,
including having the highest regulatory rating. All other banking organizations
are required to maintain a Leverage Ratio of at least 3% plus an additional
cushion of 100 to 200 basis points. The guidelines also provide that banking
organizations experiencing internal growth or making acquisitions will be
expected to maintain strong capital positions substantially above the minimum
supervisory levels without significant reliance on intangible assets.
Furthermore, the guidelines indicate that the Federal Reserve Board will
continue to consider a "Tangible Tier 1 Leverage Ratio" in evaluating proposals
for expansion or new activities. The Tangible Tier 1 Leverage Ratio is the ratio
of Tier 1 capital, less intangibles not deducted from Tier 1 capital, to
quarterly average total assets. As of December 31, 1998, the Federal Reserve had
not advised the Company of any specific minimum Tangible Tier 1 Leverage Ratio
applicable to it. At December 31, 1998, the Company had a Tangible Tier 1
Leverage Ratio of 13.69%.
The Federal Deposit Insurance Corporation Improvement Act of 1991
("FDICIA") substantially revised the bank regulatory and funding provisions of
the Federal Deposit Insurance Act and made revisions to several other federal
banking statutes. In general, FDICIA subjects depository institutions to
significantly increased regulation and supervision. Among other things, FDICIA
requires federal bank regulatory authorities to take "prompt corrective action"
with respect to depository institutions that do not meet minimum capital
requirements, and imposes certain restrictions upon depository institutions
which meet minimum capital requirements but are not "well capitalized" for
purposes of FDICIA. FDICIA and the regulations adopted under it establish five
capital categories as follows, with the category for any institution determined
by the lowest of any of these ratios:
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<TABLE>
<CAPTION>
TIER 1 TOTAL
LEVERAGE RATIO RISKED-BASED RATIO RISKED-BASED RATIO
<S> <C> <C> <C>
Well Capitalized 5% or above 6% or above 10% or above
Adequately
Capitalized 4% or above* 4% of above 8% or above
Undercapitalized Less than 4% Less than 4% Less than 8%
Significantly
Undercapitalized Less than 3% Less than 3% Less than 6%
RATIO OF
TANGIBLE EQUITY
TO TOTAL ASSETS
Critically Undercapitalized 2% or below
</TABLE>
*3% for banks with the highest CAMEL (supervisory) rating.
An insured depository institution may be deemed to be in a capital category
that is lower than is indicated by its capital ratios if it receives an
unsatisfactory rating by its examiners with respect to its assets, management,
earnings or liquidity.
Under FDICIA, a bank that is not well capitalized is generally prohibited
from accepting or renewing brokered deposits and offering interest rates on
deposits significantly higher than the prevailing rate in its normal market area
or nationally (depending upon where the deposits are solicited); in addition,
"pass through" insurance coverage may not be available for certain employee
benefit accounts.
FDICIA generally prohibits a depository institution from making any capital
distribution (including payment of a dividend) or paying any management fee to
its holding company if the depository institution would thereafter be
undercapitalized. Undercapitalized depository institutions are subject to
limitations on growth and are required to submit a capital restoration plan,
which must be guaranteed by the institution's parent company. Institutions that
fail to submit an acceptable plan, or that are significantly undercapitalized,
are subject to a host of more drastic regulatory restrictions and measures.
The Bank is considered "well capitalized" according to FDICIA guidelines.
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Federal and state statutes and regulations provide financial institution
regulatory agencies with great flexibility to undertake enforcement action
against an institution that fails to comply with regulatory requirements,
particularly capital requirements. Possible enforcement actions range from the
imposition of a capital plan and capital directive to, in the most severe cases,
place the institution into conservatorship or receivership or the termination of
deposit insurance.
FDICIA directs that each federal banking agency prescribe standards for
depository institutions or depository institutions' holding companies relating
to internal controls, information systems, internal audit systems, loan
documentation, credit underwriting, interest rate exposure, asset growth,
compensation, a maximum ratio of classified assets to capital, minimum earnings
sufficient to absorb losses and other standards as they deem appropriate. Many
regulations implementing these directives have been adopted by the agencies
As a member of the FRB, the Bank is subject to regulations requiring
depository institutions to maintain reserves against a specified percentage of
transaction accounts (primarily NOW and regular checking). Reserves are
maintained in the form of vault cash or non-interest bearing deposits with the
FRB. The FRB regulations generally require 3% reserves on the first $47.8
million of transaction accounts; however, the first $4 million of these
otherwise reservable balances (subject to adjustments by the FRB) are exempted
from the 3% reserve requirement. Net transaction balances over $47.8 million are
subject to a reserve requirement of $1,434,000 plus 10% of the amount of the net
transaction balances over $47.8 million. The Bank is in compliance with the
forgoing requirements.
Under the Community Reinvestment Act ("CRA"), a financial institution has a
continuing and affirmative obligation, consistent with the safe and sound
operation of such institution, to serve the "convenience and needs" of the
communities in which they are chartered to do business, including low and
moderate income neighborhoods. The CRA does not establish specific lending
requirements or programs for financial institutions nor does it limit an
institution's discretion to develop the types of products and services that it
believes are best suited to its particular community as long as they are
consistent with the CRA. The CRA requires each federal banking agency, in
connection with its examination of a financial institution, to assess and assign
one of four ratings to the institution's record of meeting the credit needs of
its community and to take such record into account in its evaluation of certain
applications by the institution, including applications for charters, branches
and other deposit facilities, relocations, mergers, consolidations and
acquisitions of assets or assumptions of liabilities. The CRA also requires that
all institutions make public disclosure of their CRA ratings.
BUSINESS-STATISTICAL DISCLOSURE
The information set forth under the caption "Management's Discussion and
Analysis of Financial Condition and the Results of Operations" on Pages 10
through 28 of the 1998 Annual Report to Stockholders (filed as Exhibit 13, pages
22 through 40 of this report) is incorporated herein by reference.
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ITEM 2. PROPERTIES
The Bank conducts its operations through its main office and five branches.
The Company's office is located in the main office of the Bank. All of such
offices are owned by the Bank and are located in Lake County, Illinois. The Bank
believes that its current facilities are adequate for the conduct of its
business.
The following table sets forth information relating to each of such
offices:
Main Office: Trust Department:
1601 North Lewis Avenue 1601 North Lewis Avenue
Waukegan, Illinois 60085 Waukegan, Illinois 60085
Branches:
3233 Grand Avenue 40220 N. Route 59
Waukegan, Illinois 60085 Antioch, Illinois 60002
216 Madison Street 700 N. Sheridan Road
Waukegan, Illinois 60085 Winthrop Harbor, Illinois 60096
5384 Grand Avenue
Gurnee, Illinois 60031
ITEM 3. LEGAL PROCEEDINGS
Due to the nature of their business, the Registrant and its subsidiary are
often subject to various legal actions. These legal actions, whether pending or
threatened, arise through the normal course of business and are not considered
unusual or material.
Currently, no material legal procedures are pending which involve the
Registrant or the Bank.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable
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PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY
AND RELATED STOCKHOLDER MATTERS
The information set forth under the captions "Stock Market Information";
"Price Summary"; and "Cash Dividends" on Page 50 of the 1998 Annual Report to
Stockholders (filed as Exhibit 13, page 62 of this report) is incorporated
herein by reference.
ITEM 6. SELECTED FINANCIAL DATA
The information set forth under the caption "Selected Consolidated
Financial Data" on Page 10 of the 1998 Annual Report to Stockholders (filed as
Exhibit 13, page 22 of this report) is incorporated herein by reference.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The information set forth under the caption "Management's Discussion and
Analysis of Financial Condition and Results of Operations" on Pages 10 through
28 of the 1998 Annual Report to Stockholders (filed as Exhibit 13, pages 22
through 40 of this report) is incorporated herein by reference.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK
The information set forth under the caption "Quantitative and Qualitative
Disclosures about Market Risk" on Pages 29 through 31 of the 1998 Annual Report
to Stockholders (filed as Exhibit 13, pages 41 through 43 of this report) is
incorporated herein by reference.
15
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements of the Registrant and the Independent
Auditors' Report as set forth on the following pages of the 1998 Annual Report
to Stockholders (filed as Exhibit 13, to this report) are incorporated herein by
reference:
<TABLE>
<CAPTION>
Annual Report
to Stockholders
Page
---------------
<S> <C>
Independent Auditors' Report 31
Consolidated Balance Sheets as of
December 31, 1998 and 1997 32
Consolidated Statements of Income for the
Years ended December 31, 1998, 1997 and 1996 33
Consolidated Statements of Cash Flows for the
Years ended December 31, 1998, 1997 and 1996 34
Consolidated Statements of Stockholders'
Equity for the Years ended
December 31, 1998, 1997 and 1996 35
Consolidated Statements of Comprehensive
Income for the Years ended
December 31, 1998, 1997 and 1996 35
Notes to the Consolidated Financial Statements 36
Parent Company Only Financial Statements 48
</TABLE>
The portions of the 1998 Annual Report to Stockholders which are not
specifically incorporated by reference as a part of this Form 10-K are not
deemed to be a part of this report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
None
16
<PAGE>
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
DIRECTORS - The information with respect to Directors of the Registrant set
forth under the caption "Directors and Executive Management" on pages 2 and 3 of
the Registrant's Proxy Statement, dated March 23, 1999, relating to the April
22, 1999 Annual Meeting of Stockholders is incorporated herein by reference.
EXECUTIVE OFFICERS - The Company's only executive officers are Mr. Fred Abdula,
the President of the Company, and Mr. Kenneth W. Balza, who was the Vice
President and Treasurer of the Company at December 31, 1998 and retired from
this position in January, 1999. The information with respect to Mr. Abdula and
Mr. Balza is set forth under the caption "Directors and Executive Management" on
pages 2 and 3 of the Registrant's Proxy Statement, dated March 23, 1999,
relating to the April 22, 1999 Annual Meeting of Stockholders and is
incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information set forth under the caption "Executive Compensation" and
"Summary Compensation Table" on page 5 of the Registrant's Proxy Statement,
dated March 23, 1999, relating to the April 22, 1999 Annual Meeting of
Stockholders is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT
The information set forth under the caption "Security Ownership of Certain
Beneficial Owners and Management" on pages 4 and 5 of the Registrant's Proxy
Statement, dated March 23, 1999, relating to the April 22, 1999 Annual Meeting
of Stockholders is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information set forth under the caption "Compensation Committee
Interlocks and Insider Participation" on page 9 of the Registrant's Proxy
Statement, dated March 23, 1999, relating to the April 22, 1999 Annual Meeting
of Stockholders is incorporated herein by reference.
17
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) 1. FINANCIAL STATEMENTS
All financial statements of the Registrant are incorporated herein by
reference as set forth under Item 8, Part II of this report on Form
10-K.
2. FINANCIAL STATEMENT SCHEDULES Not applicable
3. EXHIBITS (Numbered in accordance with Item 601 of Regulation S-K)
The following exhibits are filed as part of this report:
3-A Articles of Incorporation of the Company, as amended to date.
(Filed with Registrant's annual report on Form 10-K for the
year ended December 31, 1994 Commission File 0-19300 and
incorporated here by reference.)
3-B Bylaws of the Company, as amended to date. (Filed with
Registrant's annual report on Form 10-K for the year ended
December 31, 1994 Commission File 0-19300 and incorporated
here by reference.)
10 1992 Northern States Omnibus Incentive Plan. (Filed with
Registrant's annual report on Form 10-K for the year ended
December 31, 1994 Commission File 0-19300 and incorporated
here by reference.)
11 Statement of Computation of per share earnings. Contained in
Notes 1 and 14 to the consolidated financial statements, pages
37 and 47, 1998 Annual Report to Stockholders (filed as
Exhibit 13 pages 49 and 59 to this report) is incorporated by
reference.
13 Copy of the Company's Annual Report to Stockholders for the
year ended December 31, 1998. This exhibit, except for
portions thereof that have been specifically incorporated by
reference into this report, is furnished for the information
of the Commission and shall not be deemed "filed" as part
hereof.
21 List of Subsidiaries.
(b) REPORTS ON FORM 8-K
No reports on Form 8-K were filed during the fourth quarter of the
year ended December 31, 1998.
(c) Exhibit List and Index
18
<PAGE>
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 hereunto duly authorized, on this 26th day of
March 1999.
NORTHERN STATES FINANCIAL CORPORATION
(Registrant)
Fred Abdula,
Chairman of the Board
and President
/s/ Fred Abdula (Principal Executive Officer)
----------------------------
Thomas M. Nemeth,
Vice President and Treasurer
(Principal Financial Officer and
/s/ Thomas M. Nemeth Principal Accounting Officer)
----------------------------
19
<PAGE>
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. Each director of
the Registrant, whose signature appears below, hereby appoints Fred Abdula and
Thomas M. Nemeth and each of them severally, as his attorney-in-fact, to sign in
his name and on his behalf, as a director of the Registrant, and to file with
the Commission any and all Amendments to this Report on Form 10-K, on this 26th
day of March 1999.
Fred Abdula, Director /s/ Fred Abdula
----------------------------
Kenneth W. Balza, Director /s/ Kenneth W. Balza
----------------------------
Jack H. Blumberg, Director /s/ Jack H. Blumberg
----------------------------
Frank Furlan, Director /s/ FRANK FURLAN
----------------------------
Harry S. Gaples, Director /s/ Harry S. Gaples
----------------------------
Laurance A. Guthrie, Director /s/ Laurance A. Guthrie
----------------------------
James A. Hollensteiner, Director /s/ James A. Hollensteiner
----------------------------
Raymond M. Mota, Director /s/ Raymond M. Mota
----------------------------
Helen Rumsa, Director /s/ Helen Rumsa
----------------------------
Frank Ryskiewicz, Director /s/ Frank Ryskiewicz
----------------------------
Henry G. Tewes, Director /s/ Henry G. Tewes
----------------------------
Arthur J. Wagner, Director /s/ Arthur J. Wagner
----------------------------
20
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION AND SUBSIDIARIES
FORM 10-K
FOR THE YEAR ENDED DECEMBER 31, 1998
EXHIBIT INDEX
Exhibits Page(s)
- -------- -------
3-A Articles of Incorporation of the Company, as
amended to date. (Filed with Registrant's annual
report on Form 10-K for the year ended December 31,
1994 Commission File 0-19300 and incorporated here
by reference.)
3-B Bylaws of the Company, as amended to date. (Filed
with Registrant's annual report on Form 10-K for
the year ended December 31, 1994 Commission File
0-19300 and incorporated here by reference.)
10 1992 Northern States Omnibus Incentive Plan. (Filed
with Registrant's annual report on Form 10-K for
the year ended December 31, 1994 Commission File
0-19300 and incorporated here by reference.)
11 Statement of Computation of per share earnings.
Contained in Notes 1 and 14 to the consolidated
financial statements, pages 37 and 47, 1998 Annual
Report to Stockholders (filed as Exhibit 13 to this
report) is incorporated by reference. 49 and 59
13 Copy of the Company's Annual Report to Stockholders
for the year ended December 31, 1998. This exhibit,
except for portions thereof that have been
specifically incorporated by reference into this
Report, is furnished for the information of the
Commission and shall not be deemed "filed" as part
hereof. 22
21 List of Subsidiaries. 63
21
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
The Company and its subsidiary are subject to regulation by numerous
agencies including the Federal Reserve Board, the Federal Deposit Insurance
Corporation and the Illinois Office of Banks and Real Estate. Among other
things, these agencies limit the activities in which the Company and the Bank
may engage, the investments and loans which the Bank funds, and the reserves
against deposits which the Bank must maintain.
The statements contained in this management's discussion and analysis that
are not historical facts are forward-looking statements subject to the safe
harbor created by the Private Securities Litigation Reform Act of 1995.
Forward-looking statements, which are based on certain assumptions and describe
future plans, strategies and expectations of the Company, are identifiable by
the use of the words "believe", "expect", "intend", "estimate" or similar
expressions. The Company cautions readers of this Annual Report that a number of
important factors could cause the Company's actual results in 1999 and beyond to
differ materially from those expressed in any such forward-looking statements.
TABLE 1 ANALYSIS OF AVERAGE BALANCES, TAX EQUIVALENT YIELDS AND RATES
<TABLE>
<CAPTION>
($ 000's)
For the Years Ended December 31, 1998 1997 1996
- ------------------------------- ---------------------------- ------------------------- ----------------------------
Average Average Average
Balance Interest Rate Balance Interest Rate Balance Interest Rate
------- -------- ---- ------- -------- ---- ------- -------- ----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
ASSETS
Loans (1) (2) (3) $242,020 $ 21,903 9.05% $241,019 $ 22,343 9.27% $233,167 $ 22,296 9.56%
Taxable securities (5) 167,117 10,263 6.16 132,128 8,411 6.34 124,271 7,663 6.12
Securities exempt from
federal income taxes (2) (5) 19,552 1,543 8.18 21,301 1,741 8.38 22,058 1,799 8.36
Interest bearing deposits
in financial institutions 428 25 5.84 617 35 5.67 504 28 5.56
Federal funds sold 21,157 1,135 5.36 17,437 965 5.53 13,844 742 5.36
------- ------ ---- ------- ------ ---- ------- ------ ----
Interest earning assets 450,274 34,869 7.76 412,502 33,495 8.12 393,844 32,528 8.25
Noninterest earning assets 20,823 22,344 25,818
------- ------ ---- ------- ------ ---- ------- ------ ----
Average assets (4) $471,097 $434,846 $ 419,662
-------- -------- ---------
-------- -------- ---------
Liabilities and
stockholders' equity
NOW deposits $ 39,310 1,157 2.94 $ 37,672 1,120 2.97 $ 39,474 1,177 2.98
Money market deposits 42,400 1,656 3.91 41,945 1,672 3.99 44,272 1,792 4.05
Savings deposits 44,067 1,311 2.98 44,458 1,322 2.97 46,828 1,395 2.98
Time deposits 188,365 10,413 5.53 171,149 9,714 5.68 155,378 8,720 5.61
Other borrowings 45,582 2,359 5.18 35,082 1,787 5.09 35,006 1,724 4.92
------- ------ ---- ------- ------ ---- ------- ------ ----
Interest bearing liabilities 359,724 16,896 4.70 330,306 15,615 4.73 320,958 14,808 4.61
------- ------ ---- ------- ------ ---- ------- ------ ----
Demand deposits and
other noninterest
bearing liabilities 48,754 47,453 46,580
Stockholders' equity 62,619 57,087 52,124
------ ------ ------
Average liabilities and
stockholders' equity $471,097 $434,846 $ 419,662
-------- -------- ---------
-------- -------- ---------
Net interest income $ 17,973 $ 17,880 $ 17,720
-------- -------- ---------
-------- -------- ---------
Net yield on interest
earning assets 3.99% 4.33% 4.50%
----- ----- -----
----- ----- -----
Interest-bearing liabilities
to earning assets ratio 79.89% 80.07% 81.40%
----- ----- -----
----- ----- -----
</TABLE>
(1) - Interest income on loans includes loan origination and other fees of $475
for 1998, $492 for 1997 and $443 for 1996. Average loans include direct
lease financing.
(2) - Tax-exempt income is reflected on a fully tax equivalent basis utilizing a
34% rate.
(3) - Non-accrual loans are included in average loans.
(4) - Average balances are derived from the average daily balances.
(5) - Rate information was calculated based on the average amortized cost for
securities. The 1998, 1997, and 1996, average balance information includes
an average valuation allowance for taxable securities of $397, $(526) and
$(985). The 1998, 1997 and 1996 average balance information includes an
average valuation allowance of $682, $530, and $540 for tax-exempt
securities.
NSFC ANNUAL 11 REPORT 1998
23
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
NET INTEREST INCOME
Table 1 shows a comparison of net interest income and average volumes,
together with effective yields earned on such assets and rates paid on such
funds. The results shown reflect the excess of interest earned on assets over
the interest paid for funds.
Interest income is the primary source of revenue for the Company. It
comprised 92.1% of the Company's total revenues in 1998, 92.4% in 1997 and 90.7%
in 1996.
Net interest income is the difference between interest income earned on
average interest earning assets, such as loans and securities, and interest
expense on average interest bearing liabilities, such as deposits and other
borrowings. In Table 1, interest income on non-taxable securities and loans has
been adjusted to be fully tax equivalent so as to be comparable with rates
earned and paid elsewhere. In addition, rates earned on securities are
calculated based upon the average amortized cost of the related securities.
Several factors affect net interest income, of which one factor is changes
in interest rates, which are generally indicated by the changes in the prime
lending rate. The prime rate was stable at 8.50% during the first three quarters
of 1998 and declined during the fourth quarter to 7.75%. The average weighted
prime lending rate in 1998 was 8.36%, a decrease of 8 basis points from 8.44% in
1997, and was 8.27% in 1996. Average rates earned on taxable securities in 1998
declined 18 basis points to 6.16% from 1997 levels after increasing 22 basis
points in 1997 from 1996. Rates on federal funds sold in 1998 declined 17 basis
points from 1997 after increasing 17 basis points in 1997 from 1996.
Another major factor affecting the net interest margin is rates earned on
loans. Table 1 shows that rates earned on average loans in 1998 decreased to
9.05% in 1998 from 9.27% in 1997 after declining in 1997 from 9.56% in 1996. The
yields on loans during 1998 decreased 22 basis points from 1997 in part as a
consequence of the 8 basis points decline of the average prime lending rate in
1998. Another factor impacting the overall decline in loan rates was competitive
pressures, which have caused our loan rates to decline and increased the
Company's portfolio of fixed rate loans. It is expected that competitive
pressures will continue to affect loan pricing in 1999. Loan rates in 1997
declined 29 basis points from 1996, primarily as a result of competition.
The average earning asset ratio is another important factor affecting net
interest income. The average earning asset ratio is the percentage of average
assets that earn interest income to total average assets and an increase in this
ratio has a positive effect on net interest income. This percentage has
increased for the Company during 1998 to 95.58% compared to 94.86% in 1997 and
93.85% in 1996.
As indicated in Table 1, the Company's net interest income rose in 1998 to
$17,973,000. Net interest income increased $93,000 in 1998 from 1997. During
1997 net interest income increased $160,000 from 1996. A significant reason for
the 1998 increase was that interest earning assets increased $37.8 million while
interest bearing liabilities only increased $29.4 million. This is further
evidenced in Table 2, which shows that the 1998 increase in net interest income
is primarily attributable to changes due to volume.
Another factor that influenced net interest income in 1998 was the decrease
in the interest rate spread. The interest rate spread is the yield earned on
assets less the rates paid on liabilities. The interest rate spread decreased to
3.06% in 1998 as compared to 3.39% in 1997 and 3.64 % in 1996.
The Company's average deposit and other borrowing rates were 4.70% in 1998,
a slight decrease from 4.73% in 1997, which had increased from 4.61% in 1996.
The rates earned on average earning assets during 1998 decreased to 7.76% from
8.12% in 1997, which had declined from 8.25% in 1996. The rates on average
earning assets decreased during both years primarily due to competitive
pressures on loan rates.
Another factor influencing net interest income is the "interest bearing
liabilities to earning assets ratio", as shown in Table 1, which indicates
how many cents of each dollar of earning assets are funded by an interest
bearing liability. As Table 1 indicates, this relationship has declined to
79.89% in 1998 from 80.07% in 1997, which was lower than 1996's percentage of
81.40%. The decline in this ratio has a positive impact on net interest
income.
The mix of assets and liabilities also affects net interest income. Average
loans as a percentage of average earning assets declined to 53.8% in 1998 as
compared to 58.4% in 1997 and 59.2% in 1996. As loans as a percentage of earning
assets declines a larger percentage of earning assets consists of securities,
which normally earn lower yields than loans.
In 1998, total average interest bearing deposits increased $18.9 million
from 1997 levels while average other borrowings, which consists primarily of
repurchase agreement products and term advances from the Federal Home Loan Bank,
increased $10.5 million. The 1998 increase in average interest bearing deposits
was primarily in time deposits, which increased $17.2 million, while lower cost
savings, NOW and money market deposits increased only $1.7 million. The growth
in higher costing interest bearing liabilities, such as time deposits and other
borrowings, during both 1998 and 1997 has impacted net interest income
negatively.
Interest rates paid on deposits and charged for loans during 1998 remained
comparable with other local financial institutions. Management has lowered time
deposits rates during 1998
NSFC ANNUAL 12 REPORT 1998
24
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
NET INTEREST INCOME (CONTINUED)
by over 100 basis points as general interest rates have declined. The Bank's
time deposits remain competitive despite the lower rates. Management expects
that the Bank's net interest spread will improve as time deposits mature and
reprice at lower rates. In spite of the many non-bank investment products
available to our customers today, as well as from other financial institutions,
the Company is pleased in its ability to maintain the level of interest bearing
liabilities.
As Table 1 indicates, the average balances of other borrowings increased
$10.5 million in 1998 from 1997. Approximately $7.2 million of this increase was
in securities sold under repurchase agreements (repurchase agreements), which
the Company continues to offer as an alternative to certificates of deposit. A
repurchase agreement is not subject to FDIC insurance and is not subject to
reserve requirements, and therefore is less costly to the Company. A repurchase
agreement also gives the customer added security for the borrowing in the form
of an investment security pledged by the Company. Management expects to continue
to offer repurchase agreements as an alternative to certificates of deposit in
the future. The remaining $3.3 million increase in the average balance of the
other borrowings consists of a $5 million term advance from the Federal Home
Loan Bank which the Bank entered into on April 30, 1998, which raised the total
advances to $10 million at year-end. Funds provided by these advances have been
used to purchase U.S. Government agency securities that have call provisions on
the same date that the advances are due to be repaid.
Many other factors beyond Management's control can have a significant
impact on changes in net interest income from one period to another. Examples of
such factors are: (1) credit demands by customers; (2) fiscal and debt
management policy of federal and state governments; (3) monetary policy of the
Federal Reserve Board; and (4) changes in regulations.
The components of the changes in net interest income are shown in Table 2.
Table 2 allocates changes in net interest income between amounts attributable to
changes in rate and changes in volume for the various categories of interest
earning assets and interest bearing liabilities.
TABLE 2 ANALYSIS OF CHANGES IN INTEREST INCOME AND EXPENSE
<TABLE>
<CAPTION>
($ 000's)
For the Year Ended December 31 1998 Compared to 1997 1997 Compared to 1996
- ------------------------------ ----------------------------------- -------------------------------------
Increase (Decrease) Increase (Decrease)
Change Change Change Change
Total Due To Due To Total Due To Due To
Change Volume Rate Change Volume Rate
------ ------ ---- ------ ------ ----
<S> <C> <C> <C> <C> <C> <C>
INTEREST INCOME
Loans $ (440) $ 92 $(532) $ 47 $ 737 $(690)
Taxable securities 1,852 2,103 (251) 748 463 285
Securities exempt from
federal income taxes (198) (156) (42) (58) (63) 5
Interest-bearing deposits
in financial institutions (10) (11) 1 7 6 1
Federal funds sold 170 200 (30) 223 198 25
------- ------- ----- ----- ------- -----
Total interest income 1,374 2,228 (854) 967 1,341 (374)
------- ------- ----- ----- ------- -----
INTEREST EXPENSE
NOW deposits 37 48 (11) (57) (54) (3)
Money market deposits (16) 18 (34) (120) (93) (27)
Savings deposits (11) (12) 1 (73) (70) (3)
Time deposits 699 957 (258) 994 894 100
Other borrowings 572 543 29 63 4 59
------- ------- ----- ----- ------- -----
Total interest expense 1,281 1,554 (273) 807 681 126
------- ------- ----- ----- ------- -----
NET INTEREST INCOME $ 93 $ 674 $(581) $ 160 $ 660 $(500)
------- ------- ----- ----- ------- -----
------- ------- ----- ----- ------- -----
</TABLE>
Volume/rate variances are allocated to the volume variance and the rate variance
on an absolute basis. Tax-exempt income is reflected on a fully tax equivalent
basis utilizing a 34% rate.
NSFC ANNUAL 13 REPORT 1998
25
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
TABLE 3 SECURITIES
<TABLE>
<CAPTION>
($ 000's)
December 31, 1998 1997 1996
- ------------ ----------------- ----------------- -----------------
% of Total % of Total % of Total
Securities available for sale Amount Portfolio Amount Portfolio Amount Portfolio
------ --------- ------ --------- ------ ---------
<S> <C> <C> <C> <C> <C> <C>
U.S. Treasury $ 13,109 6.53% $ 14,031 7.77% $ 16,114 10.76%
U.S. Government agencies and corporations 152,440 75.89 128,872 71.33 89,604 59.84
States and political subdivisions 23,428 11.67 22,408 12.40 25,482 17.02
Mortgage-backed securities 9,728 4.84 13,123 7.26 16,430 10.97
Equity securities 2,156 1.07 2,238 1.24 2,120 1.41
-------- ------ -------- ------ -------- ------
Total securities available for sale $200,861 100.00% $180,672 100.00% $149,750 100.00%
-------- ------ -------- ------ -------- ------
-------- ------ -------- ------ -------- ------
</TABLE>
As of December 31, 1998, the Company held no securities of a single issuer,
other than the U.S. Treasury and U.S. Government agencies and corporations,
including the Federal Home Loan Bank (FHLB), the Federal Home Loan Mortgage
Corporation (FHLMC), the Government National Mortgage Association (GNMA), the
Federal National Mortgage Association (FNMA), the Federal Farm Credit Bank
(FFCB), and the Student Loan Marketing Association (SLMA), that exceeded 10% of
consolidated stockholders' equity. Although the Company holds securities issued
by municipalities within the state of Illinois which in the aggregate exceed 10%
of consolidated stockholders' equity, none of the holdings from individual
municipal issuers exceed this threshold.
The Company also holds local municipal bonds which, although not rated, are
considered low risk investments.
The carrying value of interest bearing balances with banks and federal funds
sold consisted of the following at December 31, 1998:
<TABLE>
<S> <C>
First USA Bank, Dallas $ 9,000
LaSalle National Bank, Chicago 3,100
Harris Bank, Chicago 538
Bank of America, Illinois 145
Federal Home Loan Bank, Chicago 100
-------
$12,883
-------
-------
</TABLE>
SECURITIES
All securities of the Company at December 31, 1998 are classified as
available for sale. The Company classifies its securities as available for sale
to provide flexibility in the event that it may be necessary to sell securities
to raise cash for liquidity purposes or to adjust the portfolio for interest
rate risk or income tax purposes.
The securities portfolio increased $20.2 million at year-end 1998 from
1997, after an increase of $30.9 million at year-end 1997 from 1996. However,
average securities, as shown in Table 1, increased in 1998 from 1997 by $33.2
million. The increase was the result of increased average interest bearing
liabilities, of which the excess, after being used to increase our loans, was
invested in securities. Holdings of U.S. Treasury securities declined $.9
million at December 31, 1998 compared to December 31, 1997. U.S. Government
agency issues increased by $23.5 million, to $152.4 million, at December 31,
1998, from $128.9 million at December 31, 1997. The increase in U.S. Government
agency issues is the result of the Company investing in higher yielding agency
issues, that may have call provisions, in order to maximize yields on the
Company's investment portfolio while helping to minimize state income taxes. As
can be seen in Table 3, U.S. Government agency securities increased to 75.9% of
the total portfolio at year-end 1998, from 71.3% in 1997 and 59.8% in 1996.
Another reason for the growth in U.S. Government agency securities is that
the Company attempts to keep at least half its portfolio in U.S. Treasury and
U.S. Government agency issues, as indicated for all periods reported in Table 3.
This allows the Company to better manage its exposure to changing interest
rates, while minimizing credit risk within the portfolio. U.S. Treasury and U.S.
Government agency issues comprised over 82% of the total portfolio at December
31, 1998.
NSFC ANNUAL 14 REPORT 1998
26
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
SECURITIES (CONTINUED)
Holdings of securities issued by states and political subdivisions, of
which over 90% are tax-exempt, increased by $1.0 million to $23.4 million at
December 31, 1998. According to the federal tax law, a bank is not allowed an
interest deduction for the cost of deposits or borrowings used to fund most
tax-exempt issues acquired after August 7, 1986. The Company has been able to
purchase "bank qualified" tax-exempt issues from local taxing bodies to offset
the runoff in this portfolio. The Company will continue to buy bonds of local
tax-exempt entities, in an effort to support the local community, consistent
with the investment standards contained in the investment policy.
The Company, at December 31, 1998 has 4.84% of its securities portfolio
invested in mortgage-backed securities. Mortgage-backed securities balances at
December 31, 1998 were $9.7 million, a decrease of $3.4 million from the
previous year, which reflects principal reductions. These principal reductions
are made to the mortgage-backed securities as scheduled principal payments are
made by borrowers on the mortgages that underlie these securities.
The Company's equity securities totaled $2.2 million at December 31, 1998
and consisted of SLMA and FHLB stock.
Efforts by the Company to maintain appropriate liquidity include periodic
adjustments to the securities portfolio as management considers necessary,
typically accomplished through the maturity schedule of investments purchased.
The maturity distribution and average yields, on a fully tax equivalent
basis, of the securities portfolio at December 31, 1998 is shown in Table 4.
TABLE 4 SECURITIES MATURITY SCHEDULE & YIELDS
<TABLE>
<CAPTION>
Greater than 1 yr. Greater than 5 yrs.
Securities available for sale Less than or and less than or and less than or Greater
($ 000's) equal to 1 yr. equal to 5 yrs. equal to 10 yrs. than 10 yrs. Totals
- ----------------------------- ----------------- ----------------- ------------------ ----------------- -------------------
As of December 31, 1998 Balance Yield Balance Yield Balance Yield Balance Yield Balance Yield
- ----------------------------- -------- ------ --------- ----- --------- ------ -------- ------ --------- ------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
U.S. Treasury $ 9,078 5.58% $ 4,031 5.54% $ 0 0.00% $ 0 0.00% $ 13,109 5.57%
U.S. Government agencies
and corporations 7,507 5.45 106,290 5.94 38,643 5.97 0 0.00 152,440 5.92
States and political
subdivisions (1) 3,343 7.80 14,328 7.75 5,757 7.57 0 0.00 23,428 7.71
Mortgage-backed securities (2) 332 5.37 1,399 6.19 1,080 7.05 6,917 6.67 9,728 6.60
Equity securities 1,417 6.81 739 5.36 0 0.00 0 0.00 2,156 6.31
------- ---- -------- ---- ------- ---- ------ ---- -------- ----
Total $21,677 5.95% $126,787 6.13% $45,480 6.20% $6,917 6.67% $200,861 6.15%
------- ---- -------- ---- ------- ---- ------ ---- -------- ----
------- ---- -------- ---- ------- ---- ------ ---- -------- ----
</TABLE>
(1) - The yield is reflected on a fully tax equivalent basis utilizing a 34%
tax rate.
(2) - Mortgage-backed securities reflect the contractual maturity of the
related instrument.
NSFC ANNUAL 15 REPORT 1998
27
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
TABLE 5 LOAN PORTFOLIO
<TABLE>
<CAPTION>
($ 000's)
December 31, 1998 1997 1996 1995 1994
- -------------------------------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Commercial $ 64,043 $ 54,701 $ 50,762 $ 53,886 $ 50,495
Real estate-construction 17,328 26,768 26,905 23,720 21,815
Real estate-mortgage 141,241 138,134 133,566 126,268 122,856
Home equity 15,579 14,722 12,986 11,673 9,974
Installment 8,530 8,544 9,203 10,903 13,069
--------- --------- --------- --------- ---------
Total loans 246,721 242,869 233,422 226,450 218,209
Unearned income (99) (154) (240) (370) (592)
Deferred loan fees (413) (491) (529) (701) (829)
--------- --------- --------- --------- ---------
Loans, net of unearned income
and deferred loan fees 246,209 242,224 232,653 225,379 216,788
Allowance for loan losses (5,433) (5,430) (4,839) (4,514) (3,965)
--------- --------- --------- --------- ---------
Loans, net $ 240,776 $ 236,794 $ 227,814 $ 220,865 $ 212,823
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
</TABLE>
The Company has no foreign loans outstanding at December 31, 1998.
LOAN PORTFOLIO
Loan growth slowed during 1998 as competition by financial institutions for
loans continued. As shown in Table 5, gross loans increased $3,852,000 or 1.6%
at year end 1998, following an increase of $9,447,000 or 4.0% in 1997. Table 1
shows that average loans in 1998 were $242,020,000, an increase of only
$1,001,000 or .4% over the average loans in 1997.
Commercial loans increased $9.3 million to $64 million as of December 31,
1998 after increasing $3.9 million in 1997. The growth in commercial loans in
both years reflects the strong local economy.
The real estate construction lending portfolio declined $9.4 million during
1998, with balances at December 31, 1998 of $17.3 million compared to $26.7
million for 1997. The reason for the decline is the completion, during 1998, of
two projects to construct condominium complexes with the Bank receiving
principal reductions of over $9 million. The Company has developed an expertise
in construction lending and has developed a portfolio of construction and
constructionrelated loans. The construction portfolio consists of loans to
residential builders, housing developers, and developers of commercial building
projects. The Company recognizes that successful construction lending is
dependent upon the successful completion of construction contracts and good
management of the construction company. Construction loans are generally made on
properties which are under sold contracts. Loans are secured by first lien
positions on the real estate and have loan to value ratios between 50% - 75% of
appraised value. These loans are usually processed through a title company
construction escrow. Terms generally range from six months to three years. The
Company attempts to minimize the risk of construction lending by granting
credit to established customers and restricting these loans to our market area.
The mortgage loan portfolio increased by $3,107,000 at December 31, 1998 as
compared to 1997, as shown in Table 5. A large percentage of the mortgages
booked were commercial related mortgages that had initially been short term
commercial loans or construction loans in which the related projects were
completed and transferred to mortgage loans. These commercial mortgages were
primarily made at fixed rates with call features after five years.
Home equity loans are a product that allows consumers to use the equity in
their homes to finance purchases and to get an interest deduction on their tax
return. The interest deduction has made this product an attractive alternative
to traditional consumer financing and is a product that the Company expects to
grow in the future. The home equity portfolio continued to grow during 1998 with
balances of approximately $15.6 million at December 31, 1998, an increase of
5.8% from December 31, 1997, which had increased 13.4% from 1996.
The Thrift had historically operated a mortgage banking operation whereby
mortgage loans were originated and sold, primarily to the Federal Home Loan
Mortgage Corporation (FHLMC), the Federal National Mortgage Association (FNMA)
and the Illinois Housing Development Authority (IHDA). The Bank has continued
this mortgage banking operation since
NSFC ANNUAL 16 REPORT 1998
28
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
LOAN PORTFOLIO (CONTINUED)
the Thrift was merged into the Bank in 1998. In addition, during the second half
of 1998, the Bank expanded the mortgage banking operation, which now also takes
and processes loan applications that are "table funded" by the institution
that ultimately will fund and own the loan, with the Bank receiving a fee. These
loans are sold without the Bank retaining servicing. During 1998, $28.5 million
in loans were originated by the Bank for sale on the secondary market, of which
$24.2 were sold. An additional $16.5 million in loans were processed through
"table funding" arrangements during 1998.
Mortgage loans originated and held for sale in the secondary market are
carried at the lower of cost, net of loan fees collected, or estimated market
value in the aggregate. The sale generally occurs approximately three days after
funding. Loans held for sale on December 31, 1998 and 1997 were approximately
$5,799,000 and $1,338,000 and are classified as real estate mortgage loans.
The Bank still services mortgage loans funded and sold previous to its
mortgage banking operations expansion in 1998, which generates additional fee
income. The unpaid principal balances of these loans at December 31, 1998 and
1997 were $60.3 million and $64.9 million.
Installment loans totaled $8.5 million at year-end 1998 and remained
unchanged from 1997 levels after decreasing $.7 million during 1997 from 1996.
Management has maintained installment loan levels despite lower cost financing
alternatives to purchase consumer goods.
The Company has a small direct lease financing portfolio, which decreased
in 1998 to $987,000. While the Company does not presently solicit leasing
business, the Company does occasionally make leases to provide customers with
financial alternatives.
Table 5 shows the year end balance of loans outstanding by loan purpose
for each of the last five years.
MATURITY OF LOANS
Table 6 highlights the maturity distribution of the Company's loan
portfolio, excluding mortgage, home equity and installment loans.
The short-term sensitivity of the portfolio to interest rate changes is
reflected in the fact that approximately 48.8% of the loans scheduled to
mature or subject to rate change occur within one year. Of the remaining
loans maturing beyond one year, 55.6% of that total are loans subject to
immediate repricing.
TABLE 6 LOAN MATURITY SCHEDULE
<TABLE>
<CAPTION>
Greater than
($ 000's) Less than or 1 yr. and less than Greater than
As of December 31, 1998 equal to 1 yr. or equal to 5 yrs. 5 yrs. Total
- ----------------------- -------------- -------------------- ------------- ----------
<S> <C> <C> <C> <C>
Commercial $24,985 $31,568 $ 7,490 $ 64,043
Real estate-construction 14,679 2,527 122 17,328
-------------- -------------------- ------------- ----------
Total $39,664 $34,095 $ 7,612 $ 81,371
-------------- -------------------- ------------- ----------
-------------- -------------------- ------------- ----------
Percent of total 48.75% 41.90% 9.35% 100.00%
-------------- -------------------- ------------- ----------
-------------- -------------------- ------------- ----------
Commercial and construction loans maturing after one year:
Fixed rate $18,507
Variable rate 23,200
--------------
Total $41,707
--------------
--------------
</TABLE>
Real estate-construction loans reflect the contractual maturity of the related
note. Due to anticipated roll-overs of real estate-construction notes,
management estimates that the loans will actually mature between one and five
years based upon the related types of construction. Loans that mature within
one year are considered to be variable rate loans as they can be repriced upon
maturity.
NSFC ANNUAL 17 REPORT 1998
29
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
NON-PERFORMING ASSETS
Non-performing assets consist of non-performing loans and other real estate
owned. Non-performing loans, which include impaired loans, are: (1) loans
accounted for on a non-interest accrual basis; (2) accruing loans
contractually past due ninety days or more as to interest or principal
payment; and (3) loans with terms that have been renegotiated to provide a
reduction or deferral of interest or principal because of a deterioration in
the financial condition of the borrower. Total nonperforming loans at December
31, 1998 were $4,117,000, increasing from $1,006,000 at December 31, 1997.
Impaired loans are included in non-performing loans and totaled $3,515,000
and $754,000 at December 31, 1998 and December 31, 1997. The Bank considers a
loan impaired if full principal or interest payments are not anticipated.
Impaired loans are carried at the present value of expected cash flows
discounted at the loan's effective interest rate or at the fair value of the
collateral, if the loan is collateral dependent. At December 31, 1998,
approximately 10% of the allowance for loan losses is specifically allocated for
impaired loans. Interest income recognized on impaired loans in 1998 was
$84,000, which was all cash basis income, compared to $36,000 and $587,000 of
income recognized on impaired loans in 1997 and 1996.
Other real estate owned includes assets acquired through loan foreclosure
and repossession. The carrying value of other real estate owned is reviewed by
management at least quarterly to assure the reasonableness of its carrying
value, which is lower of cost (fair value at date of foreclosure) or fair value
less estimated selling costs. Other real estate owned declined slightly to
$2,497,000 at December 31, 1998 from $2,555,000 at December 31, 1997.
Loans are placed in nonaccrual status when they are 90 days past due,
unless they are fully secured and in the process of collection. At December 31,
1998, the Company had $313,000 in loans that were 90 days past due and still
accruing interest.
As illustrated in Table 7, total non-performing assets during 1998
increased $3,053,000 from the 1997 levels. Loans on nonaccrual status
increased $2,801,000 in 1998 to $3,804,000, from $1,003,000 in 1997. Loans 90
days or more past due and still accruing increased by $310,000 in 1998. The
majority of the increase in non-performing assets is a result of one credit
in the amount of $3,010,000 that became 90 days past due during 1998 and was
placed on nonaccrual status. This credit is secured by a 57,000 square foot
office building located in Northbrook, Illinois. During the third quarter of
1998 the Bank became the mortgagee in possession and began managing the
building and collecting the rents. Foreclosure proceedings have been
instituted and the Bank expects to have title to the building in the first
quarter of 1999 when the loan will be transferred to other real estate owned.
Management is actively seeking to sell the building and has potential buyers
for the building.
Management continues to be conservative in placing loans on nonaccrual
status. This conservative approach is used to eliminate any unearned interest
income which would inflate the Company's earnings. Management will continue its
emphasis on the collection of on all nonperforming loans, including the
collection of unpaid interest.
No loans secured by real estate were foreclosed upon and transferred to
other real estate owned during 1998. Other real estate owned decreased $58
thousand at December 31, 1998 from December 31, 1997. During 1998, the Company
was able to liquidate a portion of its other real estate owned, realizing sale
proceeds of $46 thousand with losses of $2 thousand on the sale.
On December 31, 1998, one piece of property accounted for approximately
69.8% of the total of other real estate owned. The property was acquired by the
Bank through the receipt of a deed in lieu of foreclosure in 1987. The parcel
consists of approximately 525,000 square feet of land situated on Lake Michigan
in Waukegan.
During 1994, a purchase agreement for the property, along with some
neighboring parcels, was negotiated for an amount that satisfies the current
carrying value. The option agreement provides for the sale of the property and
provides for a fee to be paid to the Bank for the agreement and any 6 month
extensions of the agreement. During 1998, all option and extension fees have
been received by the Bank at the appropriate time and the agreement remains in
force. Conditions necessary to finalize the purchase include approvals from the
City of Waukegan and favorable legislative action by the State of Illinois
Senate and House of Representatives. It is still uncertain as to when the state
legislature will consider such approval of the required legislation.
Management continues to emphasize the early identification of loan related
problems. Management is not currently aware of any other significant loan, group
of loans, or segment of the loan portfolio not included in the discussion above
as to which there are serious doubts as to the ability of the borrower( s) to
comply with the present loan payment terms. There were no other interest earning
assets at December 31, 1998 that would be required to be disclosed as
non-performing if such assets were loans.
NSFC ANNUAL 18 REPORT 1998
30
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
TABLE 7 NON-PERFORMING ASSETS
<TABLE>
<CAPTION>
($ 000's)
December 31, 1998 1997 1996 1995 1994
- ------------ ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C>
LOANS
Non-accrual status $ 3,804 $ 1,003 $ 1,108 $ 5,692 $ 4,912
90 days or more past due, still accruing 313 3 58 1,653 2,179
------- ------- ------- -------- -------
Total non-performing loans 4,117 1,006 1,166 7,345 7,091
Other real estate owned 2,497 2,555 2,846 2,311 2,728
------- ------- ------- -------- -------
Total non-performing assets $ 6,614 $ 3,561 $ 4,012 $ 9,656 $ 9,819
------- ------- ------- -------- -------
------- ------- ------- -------- -------
Non-performing loans as a percentage
of total loans, net of unearned
income and deferred loan fees 1.67% 0.42% 0.50% 3.24% 3.27%
Non-performing assets as a
percentage of total assets 1.36 0.78 0.94 2.25 2.39
Non-performing loans as a percentage
of the allowance for loan losses 75.78 18.53 24.10 161.74 178.84
</TABLE>
Loans are placed in non-accrual status when they are 90 days past due, unless
they are fully secured and in the process of collection. Impaired Loans - At
December 31, 1998, 1997 and 1996 impaired loans totaled $3,515, $754 and $828
and are included in nonaccrual loans. Potential Problem Loans - At December 31,
1998 there were no other loans classified as problem loans that are not included
above. Other Problem Assets - At December 31, 1998, there were no other
classified assets other than the loans and other real estate owned shown above.
PROVISION FOR LOAN LOSSES
A provision is credited to an allowance for loan losses, which is
maintained at a level considered by management to be adequate to absorb future
loan losses. The adequacy of the loan loss allowance is analyzed at least
quarterly. Factors considered in assessing the adequacy of the allowance
include: changes in the type and volume of the loan portfolio; review of the
larger credits within the Bank; historical loss experience; current economic
trends and conditions; review of the present value of expected cash flows and
fair value of collateral on impaired loans; loan growth; and other factors
management deems appropriate.
As mentioned previously, management discounts impaired loans based on
expected cash flows or collateral values. A portion of the allowance for loan
losses is then allocated to each impaired loan with a calculated collateral
shortage.
Management during 1998 lowered the loan loss provision to $10,000 from
$480,000 in 1997, which was decreased from $1,190,000 in 1996. Throughout the
year, management determines the level of provision necessary to maintain an
adequate allowance based upon current conditions and outstanding loan volumes.
If the level of non-performing assets does not increase significantly during
1999 and the allowance for loan losses remains adequate, management does not
expect to increase the loan loss provision for 1999.
As shown in Table 8, during 1998 the loan loss provision of $10,000 less
net charge-offs of $7,000 increased the allowance for loan losses to $5,433,000.
As a result, the allowance for loan losses was 2.2% of gross loans outstanding
at December 31, 1998.
Table 8 also indicates the types of loans charged-off and recovered for the
five years from 1994 through 1998 as well as each year's provision.
Because management is not certain as to the full collectibility of the
non-performing loans, potential loss exposure has been provided in the
Company's allocation of the allowance for loan losses. As illustrated in Table
9, the unallocated portion of the allowance, the portion of the allowance that
is not specifically reserved for any particular type of loan, was 38.14% of the
total allowance at December 31, 1998 which is a change from 49.76% of the total
allowance at December 31, 1997.
Based upon management's analysis, the allowance for loan losses at December
31, 1998, is adequate to cover future possible loan losses.
NSFC ANNUAL 19 REPORT 1998
31
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
TABLE 8 ANALYSIS OF THE ALLOWANCE FOR LOAN LOSSES
<TABLE>
<CAPTION>
($ 000's)
Years Ended December 31, 1998 1997 1996 1995 1994
- ------------------------ ------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C>
Balance at the beginning of year $ 5,430 $ 4,839 $ 4,514 $ 3,965 $ 3,764
------- ------- ------- ------- -------
Charge-offs:
Commercial 0 86 288 145 687
Real estate-construction 0 0 523 334 22
Real estate-mortgage 0 38 125 458 496
Home equity 0 0 20 15 0
Installment 73 85 185 57 110
------- ------- ------- ------- -------
Total charge-offs 73 209 1,141 1,009 1,315
------- ------- ------- ------- -------
Recoveries:
Commercial 25 33 183 18 9
Real estate-construction 0 0 50 0 0
Real estate-mortgage 0 206 0 0 0
Home equity 0 0 15 0 0
Installment 41 81 28 60 67
------- ------- ------- ------- -------
Total recoveries 66 320 276 78 76
------- ------- ------- ------- -------
Net charge-offs (recoveries) 7 (111) 865 931 1,239
------- ------- ------- ------- -------
Additions charged to operations 10 480 1,190 1,480 1,440
------- ------- ------- ------- -------
Balance at end of year $ 5,433 $ 5,430 $ 4,839 $ 4,514 $ 3,965
------- ------- ------- ------- -------
------- ------- ------- ------- -------
Allowance as a % of total loans, net of
unearned income and deferred loan fees 2.21% 2.24% 2.08% 2.00% 1.83%
------- ------- ------- ------- -------
Net charge-offs (recoveries) during the year
to average loans outstanding during the
year 0.00% -0.05% 0.37% 0.42% 0.58%
------- ------- ------- ------- -------
------- ------- ------- ------- -------
</TABLE>
In addition to management's assessment, loans are examined periodically by
federal and state banking authorities.
TABLE 9 ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES
<TABLE>
<CAPTION>
($ 000's)
December 31, 1998 1997 1996
- ------------ ----------------------- ----------------------- ---------------------
Percent of Percent of Percent of
loans in each loans in each loans in each
category to category to category to
Amount total loans Amount total loans Amount total loans
-------- ----------- ------ ----------- ------ -----------
<S> <C> <C> <C> <C> <C> <C>
Commercial $ 1,312 25.96% $ 1,335 22.52% $ 947 21.75%
Real estate-construction 1,511 7.02 389 11.02 184 11.53
Real estate-mortgage 480 57.25 931 56.88 796 57.22
Home equity 16 6.31 15 6.06 13 5.56
Installment 42 3.46 58 3.52 45 3.94
Unallocated 2,072 NA 2,702 NA 2,854 NA
------- ------ ------- ------ ------- ------
Total $ 5,433 100.00% $ 5,430 100.00% $ 4,839 100.00%
------- ------ ------- ------ ------- ------
------- ------ ------- ------ ------- ------
</TABLE>
<TABLE>
<CAPTION>
1995 1994
----------------------- ---------------------
Percent of Percent of
loans in each loans in each
category to category to
Amount total loans Amount total loans
------- ----------- ------ -----------
<S> <C> <C> <C> <C>
Commercial $ 1,741 23.80% $ 1,468 23.14%
Real estate-construction 727 10.47 168 10.00
Real estate-mortgage 632 55.76 803 56.30
Home equity 12 5.16 10 4.57
Installment 87 4.81 116 5.99
Unallocated 1,315 NA 1,400 NA
------- ------ ------- ------
Total $ 4,514 100.00% $ 3,965 100.00%
------- ------ ------- ------
------- ------ ------- ------
</TABLE>
NSFC ANNUAL 20 REPORT 1998
32
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
NONINTEREST INCOME
Noninterest income increased by $248,000 or 9.2% during 1998 following a
decline of $552,000 or 17.0% during 1997.
Service fees on deposits declined by $173,000 in 1998. The major portion of
this decline was the result of decreased overdraft fee income, which fell
$103,000 from 1997, as average customer demand deposit balances increased in
1998. Service charges assessed to deposit accounts, which generally increase as
account balances decrease, declined $70,000 in 1998 as average account balances
increased from 1997.
Trust income increased $40,000 or 6.4% in 1998 from the same period in 1997
due to additional trust business.
There were no debt security sales during 1998, 1997 and 1996. The Company
did sell one mutual fund in 1996 resulting in a gain of $5,000.
Gains on sales of loans increased $162,000 during 1998 as compared to 1997.
Volume of mortgage loans originated, funded and then sold on the secondary
market increased during 1998 with $24.2 million in loans sold in 1998 as
compared to $10.7 million sold in 1997. Much of the increase in the volume of
loan sales is the result of the Bank expanding its mortgage banking operation
and actively pursuing this line of business during the second half of 1998.
Other operating income increased $219,000 or 35% in 1998. The increase is
attributable primarily to booking $319,000 in mortgage banking fee income during
the second half of 1998. During 1998, $16.5 million in "table funded" mortgage
loans were processed by the Bank. The $319,000 consists of the fees earned by
the Bank on these "table funded" loans as well as fees for appraisals and credit
bureau costs from borrowers of both "table funded" loans and loans originated
and funded by the Bank and sold on the secondary mortgage market. Gains on the
sale of other real estate owned, a component of other operating income, were
$142,000 in 1997 compared to a $2,000 loss during 1998.
Comparing 1997 to 1996, noninterest income declined by $552,000. Service
fees on deposits declined by $93,000 in 1997. The major portion of this decline
was the result of decreased overdraft fee income and service charges assessed on
deposits accounts, which fell $31,000 from 1996 as average customer demand
deposit balances increased in 1997. Service charge income from automated teller
machines (ATMs) decreased $37,000 due to a change in the treatment for credits
received when non-customers use our ATMs.
Income from trust activities in 1997 increased $102,000 or 19.5% from the
same period in 1996 due to increases in the trust fee schedule and additional
trust business.
Gains on sales of loans declined $38,000 during 1997 as compared to 1996.
Volume of loan sales during 1997 remained stable with $10.7 million in loans
sold in 1997 as compared to $10.8 million sold in 1996. The decline in gains was
the result of competitive pressures which caused the Company to narrow its
profit margin on sales of loans in order to maintain sales volume.
Other operating income declined $518,000 or 45.3% in 1997. The decrease is
attributable to the Company booking $163,000 less in gains from sales of other
real estate owned during 1997 than in 1996. Other operating income also declined
during 1997 due to the one-time collection during 1996 of back interest and fees
on a loan in excess of the amount charged off of $131,000.
Prior to September 1, 1998, the Company monitored operating segments in
banking and trust. As of September 1, 1998, management also began monitoring
mortgage banking as an operating segment. The Company adopted Statement of
Financial Accounting Standards No. 131 in 1998 and has disclosed selected
operating segment information in the notes to the Consolidated Financial
Statements.
NONINTEREST EXPENSES
In 1998, total noninterest expenses increased by $491,000 to $9,623,000, an
increase of 5.38%. Over the last three years total other expenses averaged
$9,709,000 as the Company emphasized control of operating expenses. As a percent
of average assets, noninterest expense was 2.0% in 1998 compared to 2.1% in 1997
and 2.5% in 1996.
The efficiency ratio, noninterest expenses divided by the sum of net
interest income and noninterest income, is frequently used as an indicator as
to how well a financial institution manages its noninterest expenses. A
decreasing ratio is an indication of improving performance. The Company's
efficiency ratio was 47.6% in 1998, 46.1% in 1997 and 51.6% in 1996. Compared to
its bank holding company peers, the Company's ability to control overhead
expenses is one of its operating strengths.
Salaries and other employee expenses increased $389,000 in 1998, which was
a 7.2% increase over 1997. Salaries for noncommissioned staff increased $200,000
during 1998, or 4.7%, increasing due to yearly pay raises and the addition of
four clerical employees to the mortgage banking operation staff, which was
expanded during the second half of 1998. Commissions paid to loan originators in
the mortgage banking operation were $189,000 during 1998 and are based on a
percentage of the gain on loans originated, funded and sold
NSFC ANNUAL 21 REPORT 1998
33
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
NONINTEREST EXPENSES (CONTINUED)
on the secondary market and a percentage of the fees earned on "table funded"
loans.
Occupancy expenses increased $67,000, or 5.7%, during 1998 as compared to
the same period in 1997. During 1998, building and equipment maintenance costs
increased $25,000 partially as a result of equipment updates as part of the
Company's efforts to address Year 2000 issues. Building and equipment
expenditures of $1,338,000 were made during 1998 and depreciation expense
increased $22,000 as a result. Building salaries increased during 1998 by
$18,000 as additional building staff was added due to the purchase of a new
branch.
During 1998, the Bank purchased and installed $216,000 of new computer
equipment as part of the Company's efforts to address Year 2000 issues. In
addition, during the fourth quarter of 1998, the Bank purchased a branch office
in the neighboring community of Winthrop Harbor, Illinois, from another
financial institution for $1,000,000 and opened the branch there in November,
1998. The Bank did not purchase any assets or liabilities other than the branch
building as part of this transaction.
With the merging of the Thrift into the Bank, the Bank had two branches
within two city blocks of one another. The Bank closed the smaller of the
branches during 1998, and the Bank entered into a sales contract with a party
who wished to purchase the branch and utilize it for a purpose other than
banking. The sale was completed during January, 1999, with a gain on the sale
of $74,000. The result of these developments is that the Bank operates six
branch locations while expanding its geographic presence.
Data processing expense decreased $16,000 or 3.1% during 1998 as compared
to the same period in 1997, due to decreased processing expenses resulting from
the merger of the Thrift into the Bank.
FDIC deposit insurance expense increased in 1998 by $14,000 as compared to
1997. This increase is a result of increases in deposits during 1998.
Other real estate owned expenses decreased $64,000 during 1998 compared to
the previous year as property taxes on the other real estate owned portfolio
declined due to decreases in the assessed valuation of the other real estate
owned. The slightly smaller real estate owned portfolio that amounted to
$2,497,000 at December 31, 1998 as compared to $2,555,000 at December 31, 1997
also contributed to lower real estate owned expenses.
During 1998, other operating expenses increased $101,000 or 5.6% from 1997.
Legal expenses increased $153,000 during 1998 resulting from the merger between
the two subsidiaries, the five-for-one stock split, the purchase of a branch
office and the closing of another branch office. Expenses related to loans and
to couriers increased $79,000 and $18,000 during 1998 resulting from the
increased mortgage banking volume. Expenses from charged off checking accounts,
bad checks and teller differences declined $74,000 during 1998. Expenses
relating to correspondent bank accounts were $43,000 less during 1998 as
accounts were consolidated as a result of the merger of the two subsidiaries.
Directors fees also declined $30,000 during 1998 due to the combination of the
two subsidiaries.
In 1997, total noninterest expenses declined by $1,240,000 to $9,132,000, a
decrease of 11.96% from 1996. Salaries and other employee expenses decreased
$70,000 in 1997. The Company continued to experience staff reductions during
1997 due to increased efficiencies. No layoffs of staff occurred during 1997,
but as employees left or retired their responsibilities were closely examined by
management and delegated to others if possible.
Occupancy expenses declined $117,000 or 9% during 1997 as compared to the
same period in 1996. A majority of this reduction is a result of decreases in
the accrual for property taxes which declined $81,000 during 1997. Management
was able to successfully protest and significantly decrease the assessed
valuation of the Company's real property.
Data processing expense decreased $31,000 or 5.7% during 1997 as
compared to the same period in 1996. The Company changed its treatment for
credits received for non-customer use of Company owned ATMs, which amounted
to increased fees of $37,000 and were applied against data processing expense.
FDIC deposit insurance expense fell significantly in 1997 by $745,000 or
91.2% as compared to 1996. During 1996, the Thrift booked a $603,000 one-time
FDIC expense due to legislation requiring recapitalization of the FDIC Savings
Association Insurance Fund (SAIF).
Other real estate owned expenses decreased $83,000 or 37.2% during 1997
compared to the previous year due to decreased balances held in other real
estate owned at December 31, 1997, which declined $291,000 from December 31,
1996.
Other operating expenses for 1997 declined by $194,000 as compared to 1996.
Auditing expenses declined $35,000 from 1996 to 1997 as the internal audit staff
took on some of the audit functions that previously were performed by the
outside auditors. Loan and collection expenses declined $32,000 in 1997
resulting from the decrease in non-performing loans. Printing expenses declined
$32,000 as the Company's loan and customer service areas continued to automate
so that forms are printed internally by laser printers as needed, reducing
inventories of forms. Business development expenses declined $34,000 during 1997
as greater use of joint advertising of Bank and Thrift products occurred.
Expenses relating to correspondent bank accounts were $18,000 less in 1997 as
higher balances were maintained and earnings credit allowances were greater,
thus reducing this expense.
NSFC ANNUAL 22 REPORT 1998
34
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
YEAR 2000
The Company, in compliance with the Federal Financial Institutions
Examination Council's (FFIEC) guidelines, has established a "Year 2000 Action
Plan" in order to deal with risks associated with the new millennium,
especially in the area of data processing. As part of the "Year 2000 Action
Plan", the Company's Board of Directors is regularly updated as to the Company's
ability to deal with the Year 2000 risks.
The "Year 2000 Policy and Action Plan" includes the five basic steps or
phases recommended by the FFIEC: awareness, assessment, renovation, validation
(testing) and implementation. At this time, the Company has completed the
awareness and assessment phases of its action plan, and is well underway towards
completing the renovation and testing phases. It had been determined during
1997 that both the Company's item processing system and its teller platform
system were not Year 2000 compliant and during 1998 the Company purchased and
installed new hardware and software for both systems in order to bring them up
to Year 2000 standards. The combined cost of these projects was $216,000.
Management anticipates the Company will incur $50,000 of additional Year 2000
costs in 1999.
The major risk to the Company is that its data systems will inaccurately
calculate date related accrual of interest on loans and deposits because of the
Year 2000. This would impact customer confidence and Company earnings. Another
risk to the Company is that its loan customers' businesses will be impaired by
the Year 2000 in such a way that payments will not be made in a timely fashion.
During the fourth quarter of 1998, the Company substantially completed a risk
assessment of its entire loan portfolio rating each loan customer as to how
susceptible the customer's business may be to Year 2000 risks. Those loan
customers which were assessed as having a medium to high Year 2000 risk have
been contacted to make them aware of possible problems caused by the Year 2000
and to request information as to the borrower's state of preparedness to Year
2000 issues. Information provided by our customers will allow the Company to
better determine external risks caused by the Year 2000. The Company continues
to monitor and work with these borrowers.
The Company has instituted a customer awareness program in which
information has been mailed to customers which discusses the Year 2000 problem
in general and discloses the Bank's state of preparedness for the Year 2000.
Efforts to communicate the Bank's preparedness to customers are expected to
continue during 1999 in order to steady customer fears regarding this issue.
A majority of the Company's data processing is performed by an outside
bank data processing service bureau which has assured the Company that their
core products are fully Year 2000 compliant. Our data processing service bureau
has provided a "Test Bank" environment in order for tests to be conducted by
users to make sure that the system will handle Year 2000 processing. The Bank
belongs to a data processing users group that is jointly testing service bureau
compliance for the Year 2000.
The Company has developed and is refining contingency plans to deal with
possible Year 2000 problems. Some strategies are to print, on December 31, 1999,
subsidiary trials of loan and deposit applications which would provide balances
and accrued interest figures on individual accounts in the event that
difficulties occur on January 1, 2000. Another contingency strategy is to print,
on December 31, 1999, customer loan and deposit account statements in order to
preserve individual account histories if a situation develops. Using these
strategies as a focal point, methods of recalculating interest and adjusting
customer records are being developed in the event that Year 2000 problems result
despite our implementations and testing to avoid them.
Although management is confident that the Company has identified all
necessary upgrades to its equipment, and budgeted accordingly, no assurance can
be made that Year 2000 compliance can be achieved without additional
unanticipated expenditures. It is not possible at this time to quantify the
estimated future costs due to business disruption caused by vendors, suppliers,
customers or even the possible loss of electric power or telephone service;
however, such costs could be substantial. As a result of the Year 2000 project,
the Company has not had any material delay regarding its information systems
projects.
FEDERAL AND STATE INCOME TAXES
For the years ended December 31, 1998, 1997 and 1996, the Company's
provision for federal and state taxes as a percentage of pretax earnings were
31.2%, 31.4% and 29.6%.
The actual tax rates differ from the statutory rates because the pretax
earnings include significant amounts of interest on United States Government
securities, which are nontaxable for state income tax purposes and qualified
interest on loans to local political subdivisions and on qualified state and
local political subdivision securities, which are nontaxable for federal income
tax purposes.
NSFC ANNUAL 23 REPORT 1998
35
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
TABLE 10 MATURITY OR REPRICING OF ASSETS AND LIABILITIES
<TABLE>
<CAPTION>
----------------------SUBJECT TO REPRICING WITHIN ------------------------------
($ 000)s IMMEDIATE 91 DAYS 181 DAYS 1 - 3 3 - 5 5 - 10
DECEMBER 31, 1998 BALANCES TO 90 DAYS TO 180 DAYS TO 365 DAYS YEARS YEARS YEARS
-------- ---------- ----------- ----------- ----- ----- ------
<S> <C> <C> <C> <C> <C> <C> <C>
ASSETS:
Interest bearing deposits
in financial institutions $ 283 $ 183 $ 0 $ 0 $ 100 $ 0 $ 0
Federal funds sold 12,600 12,600 0 0 0 0 0
Securities:
U.S. Treasury 13,109 0 3,020 6,058 4,031 0 0
U.S. Government agencies
and corporations 152,440 7,003 0 504 22,427 83,863 38,643
States & political subdivisions 23,428 506 589 2,248 10,554 3,774 5,757
Equity securities 2,156 1,417 0 0 0 739 0
Mortgage-backed securities (1) 9,728 3,306 719 1,676 0 1,400 2,627
Loans:
Commercial 64,043 40,091 1,707 4,115 7,428 8,417 2,285
Real estate - construction 17,328 14,370 1,084 1,389 349 14 122
Real estate - mortgage 141,241 37,247 4,489 7,191 28,270 39,892 24,152
Home equity 15,579 15,579 0 0 0 0 0
Installment, net of unearned
income 8,431 4,001 560 897 1,915 946 112
Direct lease financing 987 479 50 136 199 123 0
--------- --------- -------- -------- -------- --------- --------
TOTAL INTEREST EARNING ASSETS $ 461,353 $ 136,782 $ 12,218 $ 24,214 $ 75,273 $ 139,168 $ 73,698
--------- --------- -------- -------- -------- --------- --------
--------- --------- -------- -------- -------- --------- --------
Liabilities:
NOW accounts $ 39,180 $ 39,180 $ 0 $ 0 $ 0 $ 0 $ 0
Money market accounts 41,003 41,003 0 0 0 0 0
Savings 45,333 45,333 0 0 0 0 0
Time deposits, $100,000 and over 98,338 46,299 18,864 27,647 5,528 0 0
Time deposits, under $100,000 87,827 33,525 19,491 19,715 15,043 47 6
Federal Home Loan Bank term
advances 10,000 0 5,000 0 0 0 5,000
Other interest-bearing
liabilities 47,990 26,781 2,100 13,109 6,000 0 0
--------- --------- -------- -------- -------- --------- --------
TOTAL INTEREST BEARING
LIABILITIES $ 369,671 $ 232,121 $ 45,455 $ 60,471 $ 26,571 $ 47 $ 5,006
--------- --------- -------- -------- -------- --------- --------
--------- --------- -------- -------- -------- --------- --------
EXCESS INTEREST EARNING
ASSETS (LIABILITIES) $ (95,339) $ (33,237) $ (36,257) $ 48,702 $ 139,121 $ 68,692
CUMULATIVE EXCESS INTEREST EARNING
ASSETS (LIABILITIES) (95,339) (128,576) (164,833) (116,131) 22,990 91,682
CUMULATIVE INTEREST RATE SENSITIVITY RATIO(2) 0.59 0.54 0.51 0.68 1.06 1.25
</TABLE>
(1) Mortgage-backed securities reflect the time horizon when these financial
instruments are subject to rate change or repricing.
(2) Interest earning assets divided by interest bearing liabilities.
This table does not necessarily indicate the impact of general interest
rate movements on the Company's net interest income because the repricing
of certain assets and liabilities is discretionary and is subject to
competition and other pressures. As a result, assets and liabilities
indicated as repricing within the same period may in fact reprice at
different times and at different rate levels.
TABLE 11 TIME DEPOSITS $100.00 AND OVER MATURITY SCHEDULE
<TABLE>
<CAPTION>
Greater than Greater than
($ 000's) Less than or 3 mos. & less than 6 mos. & less than Greater than
As of December 31, 1998 equal to 3 mos. or equal to 6 mos. or equal to 12 mos. 12 mos. Total
- ---------------------------------- --------------- -------------------- ------------------- ------------- --------
<S> <C> <C> <C> <C> <C>
Time deposits, $100,000 and over:
Retail deposits ............... $13,474 $ 7,803 $ 7,533 $ 4,391 $33,201
Corporate deposits ............ 7,103 2,423 1,521 937 11,984
Public fund deposits .......... 25,722 8,638 18,593 200 53,153
--------------- -------------------- ------------------- ------------- --------
Total ......................... $46,299 $18,864 $27,647 $ 5,528 $98,338
--------------- -------------------- ------------------- ------------- --------
--------------- -------------------- ------------------- ------------- --------
</TABLE>
The Company has no foreign banking offices or deposits.
NSFC ANNUAL 24 REPORT 1998
36
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
LIQUIDITY AND INTEREST RATE SENSITIVITY ANALYSIS
The primary functions of asset/liability management are to assure adequate
liquidity and maintain an appropriate balance between interest sensitive
earning assets and interest bearing liabilities.
The matching of assets and liabilities may be analyzed by examining the
extent to which such assets and liabilities are "interest rate sensitive" and by
monitoring an institution's interest rate sensitivity "gap." An asset or
liability is said to be interest rate sensitive within a specific time period if
it will mature or reprice within that time period. The interest rate sensitivity
gap is defined as the difference between the amount of interest earning assets
maturing or repricing within a specific time period and the amount of interest
bearing liabilities maturing or repricing within that time period. A gap is
considered positive when the amount of interest rate sensitive assets exceeds
the amount of interest rate sensitive liabilities.
A gap is considered negative when the amount of interest rate sensitive
liabilities exceeds the amount of interest rate sensitive assets. During a
period of rising interest rates, a negative gap would tend to adversely affect
net interest income while a positive gap would tend to result in an increase in
net interest income. During a period of falling interest rates, a negative gap
would tend to result in an increase in net interest income while a positive gap
would tend to adversely affect net interest income. The Company's gap position
is illustrated in Table 10.
Liquidity management involves the ability to meet the cash flow
requirements of customers who may be either depositors wanting to withdraw funds
or borrowers knowing that sufficient funds will be available to meet their
credit needs.
In addition to federal funds sold and interest bearing deposits in banks,
marketable securities, particularly those of shorter maturities, are a principal
source of asset liquidity. The Company classifies all of its securities as
available for sale which increases its flexibility in that the Company can sell
any of its unpledged securities to meet liquidity requirements. Securities
available for sale amounted to $200,861,000 at December 31, 1998, representing
the entire the securities portfolio. Securities at December 31, 1998 in the
amount of $141,158,000 were pledged to secure public deposits and repurchase
agreements.
During 1998, the Company received an additional term advance from the
Federal Home Loan Bank in the amount of $5,000,000, bringing the total of
Federal Home Loan Bank term advances up to $10,000,000. The funds provided by
these advances have been used to purchase U.S. Government agency securities that
have call provisions on the same dates as the advances are due to be repaid.
Rate sensitivity varies with different types of interest earning assets
and interest bearing liabilities. Federal funds sold on which the rate varies
daily and loans tied to the prime rate differ considerably from long-term
securities and fixed rate loans. Time deposits over $100,000 are more rate
sensitive than savings accounts. Management has portrayed savings accounts as
immediately repriceable in Table 10, because of management's ability to change
the savings interest rate.
Table 11 illustrates the maturity schedule as of December 31, 1998 of the
time deposits $100,000 and over portfolio. As shown, 5.6% of the time deposits
$100,000 and over mature after a year which differs only slightly from 5.5% at
December 31, 1997.
The Company historically has a high level of time deposits over $100,000
and securities sold under repurchase agreements and other short term borrowings.
As of December 31, 1998, time deposits over $100,000 and repurchase agreements
were 35.4% of total interest bearing liabilities, a slight decrease from 36.7%
in 1997, and were primarily from existing local public depositors. Being located
the county seat, the Company accepts time deposits over $100,000 from various
government agencies.
At December 31, 1998 approximately 47.3% of the Company's loan and lease
portfolio floats with the prime rate or is repriceable within 90 days, a
decrease from 51.4% at December 31, 1997. This shift to fixed rate loans is a
result of customer demand and competitive pressures. The effect of this shift to
fixed rate loans is a lengthening of loan maturities which increases the Bank's
negative gap position.
As the Table 10 shows, the Company is liability sensitive through the three
year time horizon by $116.1 million. This is a change from last year, where the
Company was liability sensitive through the three year time horizon by $65.5
million. Although management has attempted during the past year to reduce its
liability sensitive gap position, its efforts continued to be restricted by
competitive pressures in the area of commercial and commercial real estate
loans, which have increased the level of fixed rate loans with intermediate term
balloon maturities. The Company has increased the maturity time horizon on its
securities by purchasing intermediate term U.S. Government agency securities
that have call provisions in order to maximize yields on its securities
portfolio. Securities carried at $104.7 million have call options allowing the
issuers to redeem the securities prior to the contractual maturity date.
Customer preferences and competitive pressures make it difficult for management
to reduce the liability gap position.
To insure the ability to meet its funding needs, including any unexpected
strain on liquidity, the Company has $25 million in federal funds lines of
credit from two independent banks. In addition, the Company has the ability to
borrow funds, if necessary, directly from the Federal Reserve Bank and the
Federal Home Loan Bank approximating $12 million.
NSFC ANNUAL 25 REPORT 1998
37
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
SECURITIES SOLD UNDER REPURCHASE AGREEMENTS AND OTHER SHORT-TERM BORROWINGS
Securities sold under repurchase agreements (repurchase agreements) and
other short-term borrowings during 1998 have continued to be an alternative to
certificates of deposit as a source of funds. At December 31, 1998, the Company
had $47,990,000 of repurchase agreements. Most municipalities, other public
entities and some other organizations require that their funds are insured or
collateralized as a matter of their policies. Commercial depositors also find
the collateralization of repurchase agreements attractive as an alternative to
certificates of deposits. Repurchase agreements provide a source of funds and
do not increase the Company's reserve requirements with the Federal Reserve Bank
or create an expense relating to FDIC insurance. Repurchase agreements
consequently are less costly to the Company. Management expects to continue to
offer repurchase agreements as an alternative to certificates of deposit in the
future.
The Company experienced a $9.5 million increase in its repurchase
agreements and short term borrowings at year end 1998. Average repurchase
agreements during 1998 were $36.2 million compared to $34.2 million during 1997
and $35.0 million during 1996. This data attests to the popularity and the
stability of repurchase agreements to the Company.
Table 12 provides information as to balances and interest rates pertaining
to securities sold under repurchase agreements and other short-term borrowings.
TABLE 12 SECURITIES SOLD UNDER REPURCHASE AGREEMENTS AND OTHER SHORT-TERM
BORROWINGS
<TABLE>
<CAPTION>
($ 000's)
At or for the Year Ended December 31, 1998 1997 1996
- ------------------------------------- -------- -------- -------
<S> <C> <C> <C>
Balance at end of year $47,990 $38,504 $36,758
Weighted average interest rate at end of year 4.91% 5.29% 4.93%
Maximum amount outstanding $47,990 $39,995 $44,135
Average amount outstanding 36,155 34,176 35,006
Weighted average interest rate 5.11% 5.07% 4.92%
</TABLE>
CAPITAL RESOURCES
Capital provides the foundation for future growth. Regulatory agencies have
developed minimum guidelines by which the adequacy of a financial institution's
capital may be evaluated.
Northern States' capital ratios exceed these minimum guidelines, both in
terms of Tier I capital (stockholders' equity of the Company less intangible
assets), and in terms of Tier II capital (Tier I capital plus qualifying
long-term debt and the allowance for loan losses). The portion of the allowance
for loan losses qualifying as Tier II capital is limited to 1.25% of risk
weighted assets. The effect of the unrealized gains (losses) on securities
available for sale is excluded from the capital ratio calculations.
Regulatory capital guidelines require that the amount of capital increase
with the amount of risk inherent in a company's balance sheet and off-balance
sheet exposure. Capital requirements in order for the Company to be considered
well capitalized are that Tier I capital to average assets must be 5.00% and
Tier I capital to risk weighted assets must be 6.00%. The requirements are that
Tier II capital must be 10.00% of risk adjusted assets in order for the Company
to be considered well capitalized.
All of the Company's capital ratios exceed the level required under
regulatory guidelines as shown in Table 14.
NSFC ANNUAL 26 REPORT 1998
38
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
TABLE 13 CAPITAL STANDARDS
<TABLE>
<CAPTION>
($ 000's) As of December 31, 1998
QUALIFYING FOR TIER I CAPITAL:
<S> <C>
Common stock $ 1,781
Additional paid-in capital 11,336
Retained earnings 51,358
Less - Intangible assets (118)
--------
TOTAL QUALIFYING TIER I CAPITAL $ 64,357
--------
--------
</TABLE>
<TABLE>
<CAPTION>
($ 000's) As of December 31, 1998
QUALIFYING FOR TIER II CAPITAL:
<S> <C>
Total Qualifying Tier I Capital $ 64,357
Allowance for loan losses 3,907
--------
Total Qualifying TIER II Capital $ 68,264
--------
--------
TOTAL ASSETS $484,880
--------
--------
</TABLE>
<TABLE>
<CAPTION>
($ 000's) As of December 31, 1998
RISK-BASED ASSETS TOTAL RISK-BASED
<S> <C> <C>
Zero percent risk $ 16,907 $ 0
Twenty percent risk 207,526 41,505
Fifty percent risk 90,517 45,259
One hundred percent risk (1) 225,792 225,792
-------- --------
TOTAL RISK-WEIGHTED ASSETS $540,742 $312,556
-------- --------
-------- --------
</TABLE>
<TABLE>
<CAPTION>
($ 000's) As of December 31, 1998
CAPITAL REQUIREMENTS $ %
<S> <C> <C>
TIER I CAPITAL TO AVERAGE ASSETS:
REQUIRED $23,501 5.00%
ACTUAL 64,357 13.69
RISK-BASED CAPITAL:
Tier I:
REQUIRED $18,753 6.00%
ACTUAL 64,357 20.59
Tier II:
REQUIRED $31,256 10.00%
ACTUAL 68,264 21.84
</TABLE>
(1) Includes off-balance-sheet items
CASH FLOWS
Cash flows from operating activities were below accrual basis net income by
$4.0 million in 1998. In 1997 cash flows from operating income exceeded net
income by $1.8 million and in 1996 cash flows from operating income exceeded net
income by $6.2 million. Management expects ongoing operating activities to
continue to be a primary source of cash flow for the Company.
Deposits increased $7.8 million in 1998. The Company experienced growth in
its time deposits over $100,000 from existing local public depositors.
Demand-noninterest bearing deposits also grew during 1998 by $2.7 million.
Deposits help the Company to maintain an adequate level of cash for the
Company's activities. While competition for deposits is expected to remain keen
and future deposit growth cannot be predicted with any certainty, the Company
plans to continue to actively seek profitable new deposit business.
Securities available for sale increased $20.2 million during 1998 and
provide increased interest income revenues to the Company. The increase in
securities available for sale came from operating activities, an additional term
advance of $5.0 million from the Federal Home Loan Bank and increases to
deposits.
To insure the ability to meet its funding needs, including any unexpected
strain on liquidity, the Company has $25 million in federal funds lines of
credit from two independent banks. In addition, the Company has the ability to
borrow funds, if necessary, directly from the Federal Reserve Bank and the
Federal Home Loan Bank approxi-
NSFC ANNUAL 27 REPORT 1998
39
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
CASH FLOWS (CONTINUED)
mating $12 million.
The Company has term advances of $10 million from the Federal Home Loan
Bank which have been used to purchase U.S. Government agency securities that
have call provisions on the same dates as the advances are due to be repaid.
Interest earned on the U.S. Government agency securities is used to service the
debt to the Federal Home Loan Bank. The Company has no other notes payable or
similar debt on its balance sheet.
Equity capital is in excess of regulatory requirements, as determined on
both risk-based and leverage ratio criteria. Cash dividends as a percentage of
net income have ranged from 36.6% in 1998 to 30.4% in 1997 and 29.6% in 1996.
During 1998 the Company paid out $1,338,000 for purchases of property
and equipment. An expenditures of $1,000,000 was made to purchase the branch
office building located in Winthrop Harbor, Illinois. $216,000 was expended
to update data processing equipment as part of the Bank's efforts to address
Year 2000 issues. The majority of the balance of the 1998 expenditures were
for equipment for the new Winthrop Harbor branch. Expenditures during 1997
for building and equipment totaled $217,000, of which $64,000 was for
telephone equipment, $76,000 for office remodeling and $77,000 for updating
data processing equipment. During 1996 major purchases were a $61,000 outlay
for new telephone equipment and $49,000 used to purchase two new ATMs.
RECENT ACCOUNTING PRONOUNCEMENTS
Statement of Financial Accounting Standards (SFAS) No. 133, "Accounting for
Derivative Instruments and Hedging Activities", was issued by the Financial
Accounting Standards Board (FASB) in 1998 and is effective for the Company on
January 1, 2000. It requires that all derivatives are recorded at fair value in
the balance sheet, with changes to fair value charged or credited to income. If
derivatives are documented and effective as hedges, the change in derivative
fair value will be offset by an equal change in the fair value of the hedged
item. Since the Company has no derivative or hedging activities, adoption of
Statement 133 will have no material impact on the Company's consolidated
financial statements.
SFAS No., 134, "Accounting for Mortgage-Backed Securities Retained after
the Securitization of Mortgage Loans Held for Sale by a Mortgage Banking
Enterprise", will be effective for fiscal years beginning after December 15,
1998. The statement allows mortgage loans that are securitized to be classified
as trading, available for sale, or in certain circumstances, held to maturity.
Currently, these must be classified as trading. Since the Company has not
securitized mortgage loans, Statement 134 is not expected to affect the Company.
American Institute of Certified Public Accountants Statement of Position
(SOP) 98-1, effective in 1999, sets the accounting requirement to capitalize
costs incurred to develop or obtain software that is to be used solely to meet
internal needs. Costs to capitalize are those direct costs incurred after the
preliminary project stage, up to the date when all testing has been completed
and the software is substantially ready for use. All training costs, research
and development costs, costs incurred to convert data, and all other general and
administrative costs are expensed as incurred. The capitalized cost of internal
use software is to be amortized over its useful life and reviewed for impairment
using the criteria in Statement No. 121. SOP 98-1 is not expected to have a
material impact on the Company.
SOP 98-5, effective in 1999, requires all start up, preopening and
organization costs to be expense as incurred. Any such costs previously
capitalized for financial reporting purposes must be written off to income at
the start of the year. SOP 98-5 is not expected to have a material impact on the
Company.
NSFC ANNUAL 28 REPORT 1998
40
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's primary market risk exposure is interest rate risk and, to a
lesser extent, liquidity risk. Interestrate risk ("IRR") is the exposure of a
banking organization's financial condition to adverse movements in interest
rates. Accepting this risk can be an important source of profitability and
stockholder value, however excessive levels of IRR can pose a significant threat
to the Company's earnings and capital base. Accordingly, effective risk
management that maintains IRR at prudent levels is essential to the Company's
safety and soundness.
Evaluating a financial institution's exposure to changes in interest rates
includes assessing both the adequacy of the management process used to control
IRR and the organization's quantitative level of exposure. When assessing the
IRR management process, the Company seeks to ensure that appropriate policies,
procedures, management information systems and internal controls are in place to
maintain IRR at prudent levels with consistency and continuity. Evaluating the
quantitative level of IRR exposure requires the Company to assess the existing
and potential future effects of changes in interest rates on its consolidated
financial condition, including capital adequacy, earnings, liquidity, and, where
appropriate, asset quality.
The Federal Reserve Board, together with the Office of the Comptroller of
the Currency and the Federal Deposit Insurance Corporation, adopted a Joint
Agency Policy Statement on Interest Rate Risk, effective June 26, 1996. The
policy statement provides guidance to examiners and bankers on sound practices
for managing interest rate risk, which will form the basis for ongoing
evaluation of the adequacy of interest rate risk management at supervised
institutions. The policy statement also outlines fundamental elements of sound
management that have been identified in prior Federal Reserve guidance and
discusses the importance of these elements in the context of managing interest
rate risk. Specifically, the guidance emphasizes the need for active board of
directors and senior management oversight and a comprehensive risk management
process that effectively identifies, measures, and controls interest rate risk.
Several techniques might be used by an institution to minimize interest rate
risk. One approach used by the Company is to periodically analyze its assets and
liabilities and make future financing and investment decisions based on payment
streams, interest rates, contractual maturities, and estimated sensitivity to
actual or potential changes in market interest rates. Such activities fall under
the broad definition of asset/liability management. The Company's primary
asset/liability management technique is the measurement of the Company's
asset/liability gap, that is, the difference between the cash flow amounts of
interest-sensitive assets and liabilities that will be repriced during a given
period. Another tool used by management is to shock the balance sheet by
decreasing rates 2% and increasing rates 2% using computer simulation models to
show the effect of rate changes on the fair value of the Company.
Several ways an institution can manage interest rate risk include: selling
existing assets or repaying certain liabilities; matching repricing periods for
new assets and liabilities, for example by shortening terms of new loans or
investments. Financial institutions are also subject to prepayment risk in
falling rate environments. For example, mortgage loans and other financial
assets may be prepaid by a debtor so that the debtor may refund its obligations
at new, lower rates. Prepayments of assets carrying higher rates reduce the
Company's interest income and overall asset yields. A large portion of an
institution's liabilities may be short term or due on demand, while most of its
assets may be invested in long-term loans or investments. Accordingly, the
Company seeks to have in place sources of cash to meet short-term demands. These
funds can be obtained by increasing deposits, borrowing, or selling assets.
Table 14, provides information about the Company's financial instruments
that are sensitive to changes in interest rates as of December 31, 1998 and 1997
based on the information and assumptions set forth in the notes. The Company
believes that the assumptions utilized are reasonable. The Company had no
derivative financial instruments, or trading portfolio, as of December 31, 1998
and 1997. The expected maturity date values for loans receivable,
mortgage-backed securities, and investment securities were calculated by
adjusting the instrument's contractual maturity date for expectations of
prepayments, as set forth in the notes. Expected maturity for interest bearing
core deposits such as NOW, money market and savings accounts are assumed to be
5% each year. With respect to the Company's adjustable rate instruments,
expected maturity date values were measured by adjusting the instrument's
contractual maturity date for expectations of prepayments, as set forth in the
notes. From a risk management perspective, however, the Company believes that
repricing dates, as opposed to expected maturity dates, may be a more relevant
in analyzing the value of such instruments. Similarly, 52.1% of the Company's
investment securities portfolio is comprised of callable securities. Company
borrowings consist of securities sold under repurchase agreements and Federal
Home Loan Bank term advances and were tabulated by contractual maturity dates
without regard to any conversion or repricing dates.
Table 15, provides information about the current fair value of the
Company's balance sheet. The effects of interest rate shocks of decreasing
rates 2% and increasing rates 2% on the fair value of the Company's balance
sheet are also shown. The Company's negative gap causes the fair value of the
Company's balance sheet to increase by $21.5 million if interest rates
immediately dropped 2%. The rate shock of increasing interest rates 2% would
cause the fair value of the balance sheet to decline $20.1 million.
NSFC ANNUAL 29 REPORT 1998
41
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
TABLE 14 - EXPECTED MATURITY DATES OF ON BALANCE SHEET ITEMS
<TABLE>
<CAPTION>
($ 000's) ----------------------------Maturing in-------------------------------
As of December 31, 1998 1 Year 2 Years 3 Years 4 Years 5 Years Thereafter
- ------------------------------------------------ --------- --------- --------- --------- --------- ----------
<S> <C> <C> <C> <C> <C> <C>
INTEREST EARNING ASSETS:
Loans (1) (2)
Fixed rate $ 23,539 $ 12,282 $ 18,001 $ 24,140 $ 21,407 $ 30,352
Average interest rate 8.48% 8.62% 8.82% 8.44% 8.50% 7.11%
Adjustable rate 38,072 15,448 10,279 13,027 6,446 33,728
Average interest rate 8.41% 8.44% 8.25% 8.15% 8.42% 8.20%
Securities
Fixed rate 20,677 12,225 24,787 36,620 53,155 47,027
Average interest rate 5.95% 6.64% 6.33% 6.14% 5.92% 6.23%
Adjustable rate 1,000 0 0 0 0 5,370
Average interest rate 6.15% 0.00% 0.00% 0.00% 0.00% 6.52%
Interest-bearing deposits and federal funds sold
Fixed rate 0 100 0 0 0 0
Average interest rate 0.00% 7.41% 0.00% 0.00% 0.00% 0.00%
Adjustable rate 12,783 0 0 0 0 0
Average interest rate 4.59% 0.00% 0.00% 0.00% 0.00% 0.00%
Direct lease financing
Fixed rate 665 99 100 123 0 0
Average interest rate 8.13% 8.02% 6.58% 7.44% 0.00% 0.00%
--------- --------- --------- --------- --------- ----------
Total $ 96,736 $ 40,154 $ 53,167 $ 73,910 $ 81,008 $116,477
--------- --------- --------- --------- --------- ----------
--------- --------- --------- --------- --------- ----------
INTEREST BEARING LIABILITIES:
Interest bearing deposits (3)
Balances $171,816 $ 20,469 $ 11,729 $ 5,428 $ 5,112 $ 97,127
Average interest rate 5.00% 5.03% 4.46% 3.08% 3.06% 3.06%
Borrowings
Balances 46,990 6,000 0 0 0 5,000
Average interest rate 5.00% 4.99% 0.00% 0.00% 0.00% 4.75%
--------- --------- --------- --------- --------- ----------
Total $218,806 $ 26,469 $ 11,729 $ 5,428 $ 5,112 $102,127
--------- --------- --------- --------- --------- ----------
--------- --------- --------- --------- --------- ----------
</TABLE>
<TABLE>
<CAPTION>
Totals Fair Value
--------- -----------
<S> <C> <C>
INTEREST EARNING ASSETS:
Loans (1) (2)
Fixed rate $129,721 $135,604
Average interest rate 8.22%
Adjustable rate 117,000 121,062
Average interest rate 8.31%
Securities
Fixed rate 194,491 194,491
Average interest rate 6.14%
Adjustable rate 6,370 6,370
Average interest rate 6.46%
Interest-bearing deposits and federal funds sold
Fixed rate 100 100
Average interest rate 7.41%
Adjustable rate 12,783 12,783
Average interest rate 4.59%
Direct lease financing
Fixed rate 987 1,001
Average interest rate 7.87%
--------- -----------
Total $461,452 $471,411
--------- -----------
--------- -----------
INTEREST BEARING LIABILITIES:
Interest bearing deposits (3)
Balances $311,681 $312,896
Average interest rate 4.31%
Borrowings
Balances 57,990 56,472
Average interest rate 4.98%
--------- -----------
Total $369,671 $369,368
--------- -----------
--------- -----------
</TABLE>
<TABLE>
<CAPTION>
($ 000's) -------------------------------------------Maturing in----------------
As of December 31, 1997 1 Year 2 Years 3 Years 4 Years 5 Years Thereafter
- ----------------------- ------ ------- ------- ------- ------- ----------
INTEREST EARNING ASSETS:
<S> <C> <C> <C> <C> <C> <C>
Loans (1) (2)
Fixed rate $ 17,753 $ 10,862 $ 15,771 $ 24,867 $ 16,685 $ 20,776
Average interest rate 8.88% 8.93% 8.98% 9.03% 8.98% 7.86%
Adjustable rate 55,486 12,365 13,052 9,012 13,816 32,424
Average interest rate 9.17% 9.27% 9.21% 8.98% 9.29% 9.27%
Securities
Fixed rate 24,446 19,081 43,344 33,821 33,324 19,625
Average interest rate 6.01% 6.30% 6.50% 6.47% 6.55% 7.33%
Adjustable rate 0 0 0 0 0 7,031
Average interest rate 0.00% 0.00% 0.00% 0.00% 0.00% 6.76%
Interest bearing deposits
and federal funds sold
Fixed rate 0 0 100 0 0 0
Average interest rate 0.00% 0.00% 7.30% 0.00% 0.00% 0.00%
Adjustable rate 11,306 0 0 0 0 0
Average interest rate 5.57% 0.00% 0.00% 0.00% 0.00% 0.00%
Direct lease financing
Fixed rate 749 202 67 149 107 0
Average interest rate 7.74% 7.80% 8.74% 7.30% 7.14% 0.00%
-------- -------- -------- -------- -------- --------
Total $109,740 $ 42,510 $ 72,334 $ 67,849 $ 63,932 $ 79,856
-------- -------- -------- -------- -------- --------
-------- -------- -------- -------- -------- --------
INTEREST BEARING LIABILITIES:
Interest bearing deposits (3)
Balances $167,753 $ 25,613 $ 10,958 $ 5,128 $ 4,859 $ 92,251
Average interest rate 5.60% 5.46% 4.80% 3.35% 3.34% 3.34%
Borrowings
Balances 37,504 6,000 0 0 0 0
Average interest rate 5.27% 5.92% 0.00% 0.00% 0.00% 0.00%
--------- -------- --------- --------- ---------- ---------
Total $205,257 $ 31,613 $ 10,958 $ 5,128 $ 4,859 $ 92,251
--------- -------- --------- --------- ---------- ---------
--------- -------- --------- --------- ---------- ---------
</TABLE>
<TABLE>
<CAPTION>
Totals Fair Value
------ ----------
<S> <C> <C>
INTEREST EARNING ASSETS:>
Loans (1) (2)
Fixed rate $106,714 $107,151
Average interest rate 8.75%
Adjustable rate 136,155 136,155
Average interest rate 9.21%
Securities
Fixed rate
Average interest rate 173,641 173,641
Adjustable rate 6.51%
Average interest rate 7,031 7,031
Interest bearing deposits 6.76%
and federal funds sold
Fixed rate 100 100
Average interest rate 7.30%
Adjustable rate 11,306 11,306
Average interest rate 5.57%
Direct lease financing
Fixed rate 1,274 1,274
Average interest rate 7.70%
-------- --------
Total $436,221 $436,658
-------- --------
-------- --------
INTEREST BEARING LIABILITIES:
Interest bearing deposits (3)
Balances $306,562 $306,958
Average interest rate 4.80%
Borrowings
Balances 43,504 43,519
Average interest rate 5.36%
-------- --------
Total $350,056 $350,477
-------- --------
-------- --------
</TABLE>
(1) Does not include net deferred loan fees, unearned income or the allowance
for loan losses.
(2) For fixed rate loans amortization is based on aggregate payments due.
(3) For NOW, money market and savings deposits assumed 5% maturity each year.
NSFC ANNUAL 30 REPORT 1998
42
<PAGE>
INDEPENDENT AUDITORS' REPORT
TABLE 15 - EFFECT OF INTEREST SHOCKS ON FINANCIAL INSTRUMENTS
<TABLE>
<CAPTION>
Fair Value at December 31, 1998
-------------------------------
Down 2% Current Up 2%
-------- ------- -----
<S> <C> <C> <C>
ASSETS
Cash and cash equivalents $ 27,960 $ 27,959 $ 27,958
Interest bearing deposits in financial institutions - maturities over 90 days 101 100 99
Securities available for sale 213,608 200,861 189,199
Loans 259,503 250,721 242,283
Direct lease financing 1,017 1,001 987
Other assets 15,238 15,238 15,238
-------- -------- --------
Total assets $517,427 $495,880 $475,764
-------- -------- --------
-------- -------- --------
FINANCIAL LIABILITIES:
Deposits $363,356 $356,971 $350,093
Securities sold under repurchase agreements and other short-term borrowings 47,994 47,990 47,986
Federal Home Loan Bank term advances 9,039 8,482 8,005
Other liabilities 7,062 7,062 7,062
-------- -------- --------
Total liabilities 427,451 420,505 413,146
-------- -------- --------
Total equity 89,976 75,375 62,618
-------- -------- --------
Total liabilities and equity $517,427 $495,880 $475,764
-------- -------- --------
-------- -------- --------
</TABLE>
STATEMENT OF MANAGEMENT RESPONSIBILITY
Northern States Financial Corporation's management is responsible for the
accompanying consolidated financial statements which have been prepared in
conformity with generally accepted accounting principles. They are based on our
best estimates and judgments. Financial information elsewhere in this annual
report is consistent with the data presented in these statements.
We acknowledge the integrity and objectivity of published financial data.
To this end, we maintain an accounting system and related internal controls
which we believe are sufficient in all material respects to provide reasonable
assurance that financial records are reliable for preparing financial statements
and that assets are safeguarded from loss or unauthorized use.
Our independent auditing firm, Crowe, Chizek and Company LLP, provides an
objective review as to management's discharge of its responsibilities insofar as
they relate to the fairness of reported operating results and the financial
condition of the Company. This firm obtains and maintains an understanding of
our accounting and financial controls and employs such testing and verification
procedures as it deems necessary to arrive at an opinion on the fairness of the
consolidated financial statements.
The Board of Directors pursues its responsibilities for the accompanying
consolidated financial statements through its Audit Committee. The Committee
meets periodically with Northern States Financial Corporation's internal auditor
and/or independent auditors to review and approve the scope and timing of the
internal and external audits and the findings there-from. The Committee
recommends to the Board of Directors the engagement of the independent auditors
and the auditors have direct access to the Audit Committee.
/s/ Fred Abdula
FRED ABDULA
Chairman of the Board &
Chief Executive Officer
/s/ Thomas M. Nemeth
THOMAS M. NEMETH
Vice President & Treasurer
INDEPENDENT AUDITORS' REPORT
Board of Directors and Stockholders
Northern States Financial Corporation
Waukegan, Illinois
We have audited the accompanying consolidated balance sheets of NORTHERN
STATES FINANCIAL CORPORATION as of December 31, 1998 and 1997 and the related
consolidated statements of income, cash flows, stockholders' equity, and
comprehensive income for each of the three years in the period ended December
31, 1998. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based upon 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 NORTHERN
STATES FINANCIAL CORPORATION as of December 31, 1998 and 1997, and the results
of its operations and its cash flows for each of the three years in the period
ended December 31, 1998 in conformity with generally accepted accounting
principles.
CROWE, CHIZEK AND COMPANY LLP
Oak Brook, Illinois
February 19,1999
NSFC ANNUAL 31 REPORT 1998
43
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
($ 000's)
December 31, 1998 1997
- ------------ ---- ----
<S> <C> <C>
ASSETS
Cash and due from banks $ 15,176 $ 14,200
Interest-bearing deposits in financial institutions - maturities less than 90 days 183 106
Federal funds sold 12,600 11,200
--------- ---------
Total cash and cash equivalents 27,959 25,506
Interest-bearing deposits in financial institutions - maturities over 90 days 100 100
Securities available for sale 200,861 180,672
Loans 246,209 242,224
Less: Allowance for loan losses (5,433) (5,430)
--------- ---------
Loans, net 240,776 236,794
Direct lease financing 987 1,274
Office buildings and equipment, net 6,647 5,899
Other real estate owned, net of allowance for losses of $552 and $544 2,497 2,555
Accrued interest receivable 4,408 4,308
Other assets 1,686 1,878
--------- ---------
Total assets $ 485,921 $ 458,986
--------- ---------
--------- ---------
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Deposits
Demand - noninterest bearing $ 44,075 $ 41,388
NOW accounts 39,180 36,455
Money market accounts 41,003 38,790
Savings 45,333 43,923
Time, $100,000 and over 98,338 93,469
Time, under $100,000 87,827 93,925
--------- ---------
Total deposits 355,756 347,950
Securities sold under repurchase agreements and other short-term borrowings 47,990 38,504
Federal Home Loan Bank term advance 10,000 5,000
Advances from borrowers for taxes and insurance 992 1,166
Accrued interest payable and other liabilities 6,070 6,171
--------- ---------
Total liabilities 420,808 398,791
STOCKHOLDERS' EQUITY
Common stock 1,781 1,779
Additional paid-in capital 11,336 11,222
Retained earnings 51,358 46,725
Accumulated other comprehensive income, net 638 469
--------- ---------
Total stockholders' equity 65,113 60,195
--------- ---------
Total liabilities and stockholders' equity $ 485,921 $ 458,986
--------- ---------
--------- ---------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
NSFC ANNUAL 32 REPORT 1998
44
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
($ 000's, except per share data)
Years Ended December 31, 1998 1997 1996
- ------------------------ ---- ---- ----
<S> <C> <C> <C>
Interest income
Loans (including fee income) $21,765 $22,199 $22,050
Securities
Taxable 10,263 8,411 7,663
Exempt from federal income tax 1,018 1,149 1,188
Interest-bearing deposits in financial institutions 25 35 28
Federal funds sold 1,135 965 742
------- ------- -------
Total interest income 34,206 32,759 31,671
------- ------- -------
Interest expense
Time deposits 10,413 9,714 8,720
Other deposits 4,124 4,114 4,364
Other borrowings 2,359 1,787 1,724
------- ------- -------
Total interest expense 16,896 15,615 14,808
------- ------- -------
Net interest income 17,310 17,144 16,863
Provision for loan losses 10 480 1,190
------- ------- -------
Net interest income after provision for loan losses 17,300 16,664 15,673
------- ------- -------
Noninterest income
Service fees on deposits 1,091 1,264 1,357
Trust income 665 625 523
Net security gains 0 0 5
Net gains on sales of loans 334 172 210
Other operating income 845 626 1,144
------- ------- -------
Total noninterest income 2,935 2,687 3,239
------- ------- -------
Noninterest expenses
Salaries and employee benefits 5,796 5,407 5,477
Occupancy and equipment, net 1,251 1,184 1,301
Data processing 495 511 542
FDIC deposit insurance 86 72 817
Other real estate owned 76 140 223
Other operating expenses 1,919 1,818 2,012
------- ------- -------
Total noninterest expenses 9,623 9,132 10,372
------- ------- -------
Income before income taxes 10,612 10,219 8,540
Provision for income taxes 3,308 3,209 2,529
------- ------- -------
Net income $ 7,304 $ 7,010 $ 6,011
------- ------- -------
------- ------- -------
Basic earnings per share $ 1.64 $ 1.58 $ 1.35
Diluted earnings per share $ 1.64 $ 1.57 $ 1.35
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
NSFC ANNUAL 33 REPORT 1998
45
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
($ 000's)
Years Ended December 31, 1998 1997 1996
- ------------------------ ---- ---- ----
<S> <C> <C> <C>
Cash flows from operating activities
Net income $7,304 $7,010 $6,011
Adjustments to reconcile net income to cash from operating activities:
Depreciation 590 568 546
Provision for loan losses 10 480 1,190
Provision for losses on other real estate owned 10 21 22
Deferred loan fees (78) (38) (172)
Net gains on sales of securities 0 0 (5)
Net change in loans held for sale (4,267) (349) 2,863
Net gains on sales of loans (334) (172) (210)
Net (gains) losses on sales of other real estate owned 2 (142) (305)
Amortization of mortgage servicing rights 65 36 15
Net change in interest receivable (100) (353) 411
Net change in interest payable 260 1,192 342
Net change in other assets 128 742 1,218
Net change in other liabilities (268) (205) 290
------ ------ ------
Net cash from operating activities 3,322 8,790 12,216
------ ------ ------
Cash flows from investing activities
Proceeds from sales of securities available for sale 0 0 2,675
Proceeds from maturities of securities available for sale 173,014 90,148 90,571
Purchases of securities available for sale (192,926) (120,273) (83,959)
Change in loans made to customers 547 (9,151) (17,847)
Property and equipment expenditures (1,338) (217) (209)
Net change in direct lease financing 287 (275) (377)
Proceeds from sales of other real estate owned 46 586 2,180
------ ------ ------
Net cash from investing activities (20,370) (39,182) (6,966)
------ ------ ------
Cash flows from financing activities
Net increase (decrease) in:
Deposits 7,806 19,155 1,240
Securities sold under repurchase agreements
and other short-term borrowings 9,486 1,746 (6,520)
Advances from borrowers for taxes and insurance (174) 145 (260)
Federal Home Loan Bank term advance 5,000 5,000 0
Net proceeds from exercise of stock options 54 4 77
Dividends paid (2,671) (2,134) (1,779)
------ ------ ------
Net cash from financing activities 19,501 23,916 (7,242)
------ ------ ------
Net change in cash and cash equivalents 2,453 (6,476) (1,992)
Cash and cash equivalents at beginning of year 25,506 31,982 33,974
------- ------- -------
Cash and cash equivalents at end of year $27,959 $25,506 $31,982
------- ------- -------
------- ------- -------
Supplemental disclosures
Cash paid during the year for
Interest $16,636 $14,423 $14,466
Income taxes 3,234 3,089 2,335
Noncash investing activities
Transfers made from loans to other real estate owned 0 174 2,432
Transfers made from tax-exempt loans to
securities available for sale, at fair value 0 0 4,700
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
NSFC ANNUAL 34 REPORT 1998
46
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
Accumulated Other Total
($ 000's, except per share data) Common Additional Retained Comprehensive Stockholders'
Years Ended December 31, 1998, 1997 and 1996 Stock Paid-In Capital Earnings Income, Net Equity
- -------------------------------------------- ------ --------------- -------- ------------------ -------------
<S> <C> <C> <C> <C> <C>
Balance, January 1, 1996 $ 1,775 $ 11,123 $ 37,617 $ 490 $ 51,005
Net income 6,011 6,011
Cash dividends ($.40 per share) (1,779) (1,779)
Exercise of stock options on 9,210
shares of common stock 4 73 77
Tax benefit from the exercise of stock options 20 20
Unrealized net loss on securities
available for sale (499) (499)
--------- -------- -------- -------- -------
Balance, December 31, 1996 1,779 11,216 41,849 (9) 54,835
Net income 7,010 7,010
Cash dividends ($.48 per share) (2,134) (2,134)
Exercise of stock options on 500
shares of common stock 4 4
Tax benefit from the exercise of stock options 2 2
Unrealized net gain on securities
available for sale 478 478
--------- -------- -------- -------- -------
Balance, December 31, 1997 1,779 11,222 46,725 469 60,195
Net income 7,304 7,304
Cash dividends ($.60 per share) (2,671) (2,671)
Exercise of stock options on 6,535
shares of common stock 2 52 54
Tax benefit from the exercise of stock options 62 62
Unrealized net gain on securities
available for sale 169 169
--------- -------- -------- -------- -------
Balance, December 31, 1998 $ 1,781 $ 11,336 $ 51,358 $ 638 $65,113
--------- -------- -------- -------- -------
--------- -------- -------- -------- -------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
<TABLE>
<CAPTION>
($ 000's)
Years ended December 31, 1998 1997 1996
- ------------------------ ---- ---- ----
<S> <C> <C> <C>
Net Income $ 7,304 $ 7,010 $ 6,011
Other Comprehensive Income:
Unrealized net gains (losses) arising during
year on securities available for sale, net of tax 169 478 (499)
------- ------- -------
Comprehensive Income $ 7,473 $ 7,488 $ 5,512
------- ------- -------
------- ------- -------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
NSFC ANNUAL 35 REPORT 1998
47
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998, 1997 & 1996
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation: The consolidated financial statements include
the accounts of Northern States Financial Corporation ("Company") and its wholly
owned subsidiary, Bank of Waukegan ("Bank" or "Subsidiary"). All significant
intercompany transactions and balances have been eliminated in consolidation.
During 1998, the Company received approval from all applicable regulatory
agencies to merge First Federal Bank, fsb (the "Thrift") into the Bank. The
merger was completed in 1998 and was accounted for as an internal
reorganization. Accordingly, the notes to the consolidated financial statements
where Bank-only information is presented have been restated to reflect the
internal reorganization as if it had occurred on January 1, 1996.
Nature of Operations: The Company's and the Bank's revenues, operating
income, and assets are primarily from the banking industry. Loan customers are
mainly located in Lake County, Illinois and surrounding areas, and include a
wide range of individuals, businesses, and other organizations. A major portion
of loans are secured by various forms of collateral, including real estate,
business assets, consumer property and other items.
Use of Estimates: To prepare financial statements in conformity with
generally accepted accounting principles, management makes estimates and
assumptions based on available information. These estimates and assumptions
affect the amounts reported in the financial statements and the disclosures
provided, and future results could differ. The collectibility of loans, fair
values of financial instruments, and status of contingencies are particularly
subject to change.
Cash Flow Reporting: Cash and cash equivalents are defined as cash and due
from banks, federal funds sold, and interest-bearing deposits in financial
institutions with original maturities under 90 days. Net cash flows are reported
for customer loan and deposit transactions, securities sold under agreements to
repurchase and other short-term borrowings, and interest bearing deposits in
financial institutions with maturities over 90 days.
Securities: Securities are classified as held to maturity and carried at
amortized cost when management has the positive intent and ability to hold them
to maturity. Securities are classified as available for sale when they might be
sold before maturity. Securities available for sale are carried at fair value,
with unrealized holding gains and losses reported separately as other
comprehensive income, net of tax. Other securities, such as Federal Home Loan
Bank stock and Federal Reserve Bank stock, are carried at cost. Securities are
written down to fair value when a decline in fair value is not temporary.
Gains and losses on sales are determined using the amortized cost of the
specific security sold. Interest income includes amortization of purchase
premiums and discounts.
Loans Held for Sale: Loans held for sale are reported at the lower of cost
or market value in the aggregate.
Loans: Loans are reported at the principal balance outstanding, net of
deferred loan fees and costs and the allowance for loan losses. Interest income
is reported on the interest method and includes amortization of net deferred
loan fees and costs over the loan term.
Interest income is not reported when full loan repayment is in doubt,
typically when payments are past due over 90 days. Payments received on such
loans are reported as principal reductions.
Allowance for Loan Losses: Because some loans may not be repaid in full, an
allowance for loan losses is recorded. Increases to the allowance are recorded
by a provision for loan losses charged to expense. Estimating the risk of loss
and the amount of loss on any loan is necessarily subjective. Accordingly, the
allowance is maintained by management at a level considered adequate to cover
possible losses that are currently anticipated based on past loss experience,
general economic conditions, information about specific borrower situations,
including their financial position and collateral values, and other factors and
estimates which are subject to change over time. While management may
periodically allocate portions of the allowance for specific problem loan
situations, the whole allowance is available for any loan charge-offs that
occur. A loan is charged-off by management as a loss when deemed uncollectible,
although collection efforts continue and future recoveries may occur.
While management uses available information to recognize losses on loans,
future additions to the allowance may be necessary based on changes in economic
conditions. In addition, various regulatory agencies, as an integral part of
their examination process, periodically review the Bank's allowance for loan
losses. Such agencies may require the Bank to provide additions to the allowance
based on their judgements at the time of their examinations.
Loans are considered impaired if full principal or interest payments are
not anticipated. Impaired loans are carried at the present value of expected
cash flows discounted at the loan's effective interest rate or at fair value of
the collateral if the loan is collateral dependent. A portion of the allowance
for loan losses is allocated to impaired loans.
Smaller-balance homogeneous loans are evaluated for impairment in total.
Such loans include residential first mortgage loans secured by one-to-four
family residences, residential construction loans, and automobile, home equity
and second mortgage loans. Commercial loans and mortgage loans secured by other
properties are evaluated individually for impairment. All loans in nonaccrual
status and other selected watch list loans are considered impaired. Impaired
loans or portions thereof
NSFC ANNUAL 36 REPORT 1998
48
<PAGE>
(TABLE AMOUNTS IN THOUSANDS OF DOLLARS, EXCEPT PER SHARE DATA) NORTHERN STATES
FINANCIAL CORPORATION
NOTE 1 (CONTINUED)
are charged off when deemed uncollectible.
Increases or decreases in the carrying value of impaired loans are reported
as reductions or increases to the provision of loan losses.
Office Buildings and Equipment: Asset cost is reported net of accumulated
depreciation. Depreciation expense is calculated on the straight-line method
over asset useful lives.
Other Real Estate: Real estate acquired in settlement of loans is initially
reported at estimated fair value at acquisition. After acquisition, a valuation
allowance reduces the reported amount to the lower of the initial amount or fair
value less costs to sell. Expenses, gains and losses on disposition, and changes
in the valuation allowance are reported in net loss on other real estate.
Servicing Rights: The Company has not purchased rights to service loans for
others. Servicing rights represent the allocated value of servicing rights
retained on loans sold. Servicing rights are expensed in proportion to, and over
the period of, estimated net servicing revenues. Impairment is evaluated based
on the fair value of the rights, using groupings of the underlying loans as to
interest rates. Any impairment of a grouping is reported as a valuation
allowance.
Goodwill: Goodwill is the excess of purchase price over identified net
assets in business acquisitions. Goodwill is expensed on the straight-line
method over 25 years. Goodwill is assessed for impairment based on estimated
undiscounted cash flows, and written down if necessary.
Long-term Assets: These assets are reviewed for impairment when events
indicate their carrying amount may not be recoverable from future undiscounted
cash flows. If impaired, the assets are recorded at discounted amounts.
Repurchase Agreements: Substantially all repurchase agreement liabilities
represent amounts advanced by various customers. Securities are pledged to cover
these liabilities, which are not covered by federal deposit insurance.
Employee Benefits: A profit sharing plan covers substantially all
employees. Contributions are expensed annually and are made at the discretion of
the Board of Directors. Contributions totaled $259,000, $260,000 and $255,000 in
1998, 1997 and 1996. The plan allows employees to make voluntary contributions,
although such contributions are not matched by the Company.
Stock Compensation: Expense for employee compensation under stock option
plans is based on Accounting Principles Board Opinion 25, with expense reported
only if options are granted below the common stock market price at grant date.
Pro forma disclosures of net income and earnings per share are provided as if
the fair value method of SFAS No. 123 were used for stock-based compensation
instruments awarded after January 1, 1995.
Income Taxes: Income tax expense is the sum of the current year income tax
due or refundable and the change in deferred tax assets and liabilities.
Deferred tax assets and liabilities are the expected future tax consequences of
temporary differences between the carrying amounts and tax bases of assets and
liabilities, computed using enacted tax rates. A valuation allowance, if needed,
reduces deferred tax assets to the amount expected to be realized.
Fair Values of Financial Instruments: Fair values of financial instruments
are estimated using relevant market information and other assumptions, as more
fully disclosed separately. Fair value estimates involve uncertainties and
matters of significant judgment regarding interest rates, credit risk,
prepayments, and other factors, especially in the absence of broad markets for
particular items. Changes in assumptions or in market conditions could
significantly affect the estimates. The fair value estimates of existing on and
off-balance sheet financial instruments does not include the value of
anticipated future business or the values of assets and liabilities not
considered financial instruments.
Earnings Per Share: Basic earnings per share is based on weighted-average
common shares outstanding. Diluted earnings per share further assumes the
issuance of any dilutive potential common shares related to outstanding stock
options.
Comprehensive Income: Comprehensive income consists of net income and other
comprehensive income. Other comprehensive income consists of unrealized gains
and losses on securities available for sale, net of tax, which are also
recognized as separate components of equity. The accounting standard that
requires reporting comprehensive income first applies for 1998, with prior
information restated to be comparable.
Future Accounting Changes: Beginning January 1, 2000, a new accounting
standard will require all derivatives to be recorded at fair value. Unless
designated as hedges, changes in these fair values will be recorded in the
income statement. Fair value changes involving hedges will generally be recorded
by offsetting gains and losses on the hedge and on the hedged item, even if the
fair value of the hedged item is not otherwise recorded. This is not expected to
have a material effect on the Company but the effect will depend on derivative
holdings when this standard applies.
Operating Segments: Internal financial information is primarily reported
and aggregated in three lines of business, banking, trust and mortgage banking.
NSFC ANNUAL 37 REPORT 1998
49
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998, 1997 & 1996
NOTE 2 SECURITIES
Year end securities available for sale were as follows:
<TABLE>
<CAPTION>
Amortized Gross Unrealized Fair
December 31, 1998 Cost Gains Losses Value
- ----------------- ----------- ------- ---------- ---------
<S> <C> <C> <C> <C>
U.S. Treasury $ 13,022 $ 87 $ 0 $ 13,109
U.S. Government agencies and corporations 152,558 208 (326) 152,440
States and political subdivisions 22,693 737 (2) 23,428
Mortgage-backed securities 9,622 106 0 9,728
Equity securities 1,925 242 (11) 2,156
-------- ------ ----- --------
Total $199,820 $1,380 $(339) $200,861
-------- ------ ----- --------
-------- ------ ----- --------
</TABLE>
<TABLE>
<CAPTION>
Amortized Gross Unrealized Fair
December 31, 1997 Cost Gains Losses Value
- ----------------- ----------- ------- ---------- ---------
<S> <C> <C> <C> <C>
U.S. Treasury $ 14,017 $ 15 $ (1) $ 14,031
U.S. Government agencies and corporations 129,077 45 (250) 128,872
States and political subdivisions 21,712 720 (24) 22,408
Mortgage-backed securities 13,033 137 (47) 13,123
Equity securities 2,069 196 (27) 2,238
-------- ------ ----- --------
Total $179,908 $1,113 $(349) $180,672
-------- ------ ----- --------
-------- ------ ----- --------
</TABLE>
Contractual maturities of debt securities available for sale at year-end 1998
were as follows. Securities not due at a single maturity date, primarily
mortgage-backed securities, are shown separately.
<TABLE>
<CAPTION>
Amortized Fair
-----------------------
Cost Value
-----------------------
<S> <C> <C>
Due in one year or less $ 19,836 $ 19,928
Due after one year through five years 124,202 124,649
Due after five years through ten years 44,235 44,400
-------- --------
188,273 188,977
Mortgage-backed securities 9,622 9,728
Equity securities 1,925 2,156
-------- --------
Total $199,820 $200,861
-------- --------
-------- --------
</TABLE>
The mortgage pools are issued and guaranteed by the Federal Home Loan
Mortgage Corporation (FHLMC), the Government National Mortgage Association
(GNMA) or the Federal National Mortgage Association (FNMA). Agency securities
with call options totaled $104,748,000 and $77,088,000 at December 31, 1998 and
1997. As of December 31, 1998, the Company held two structured notes with
aggregate amortized cost and fair value of $1,499,000.
There were no sales of debt securities during 1998, 1997 and 1996. Proceeds
from sales of equity securities in 1996 totaled $2,675,000 with a resulting gain
of of $5,000. During 1998, 1997 and 1996, the Federal Home Loan Bank of Chicago
(FHLB) redeemed 1,441, 220 and 250 shares of its stock with proceeds of
$144,000, $22,000 and $25,000 and with no resulting gain or loss.
Securities carried at $141,158,000 and $122,419,000 at year-end 1998 and
1997 were pledged to secure public deposits, repurchase agreements and for other
purposes as required or permitted by law.
NSFC ANNUAL 38 REPORT 1998
50
<PAGE>
(TABLE AMOUNTS IN THOUSANDS OF DOLLARS, EXCEPT PER SHARE DATA) NORTHERN STATES
FINANCIAL CORPORATION
NOTE 2 SECURITIES (CONTINUED)
As of December 31, 1998, the Company had no securities of a single issuer,
other than the U.S. Treasury and U.S. Government agencies and corporations,
including the FHLB, FHLMC, FNMA, GNMA, the Federal Farm Credit Bank (FFCB), and
the Student Loan Marketing Association (SLMA), that exceeded 10% of consolidated
stockholders' equity. Although the Company holds securities issued by
municipalities with-in the state of Illinois which in aggregate exceed 10% of
consolidated stockholders' equity, none of the holdings from individual
municipal issuers exceeded this threshold. Interest-bearing balances with banks
and federal funds sold consisted of the following at December 31, 1998:
<TABLE>
<CAPTION>
<S> <C>
First USA Bank, Dallas $ 9,000
LaSalle National Bank, Chicago 3,100
Harris Bank, Chicago 538
Bank of America, Illinois 145
Federal Home Loan Bank, Chicago 100
-------
Total $12,883
-------
-------
</TABLE>
NOTE 3 LOANS
<TABLE>
<CAPTION>
Year-end loans were as follows: 1998 1997
- ------------------------------- --------- ----------
<S> <C> <C>
Commercial $ 64,043 $ 54,701
Real estate - construction 17,328 26,768
Real estate - mortgage 141,241 138,134
Home Equity 15,579 14,722
Installment 8,530 8,544
--------- ----------
Total loans 246,721 242,869
Less:
Unearned income (99) (154)
Deferred loan fees (413) (491)
--------- ----------
Loans, net of unearned income and deferred loan fees 246,209 242,224
Allowance for loan losses (5,433) (5,430)
--------- ----------
Total loans, net $ 240,776 $ 236,794
--------- ----------
--------- ----------
</TABLE>
Impaired loans and nonaccrual were as follows:
<TABLE>
<CAPTION>
1998 1997 1996
------ ------ ------
<S> <C> <C> <C>
Year-end impaired loans with no allowance for loan losses allocated $ 0 $ 0 $ 0
Year-end impaired loans with allowance for loan losses allocated 3,515 754 828
Amount of allowance allocated for impaired loans 544 125 146
Year-end nonaccrual loans, including impaired loans 3,804 1,003 1,108
Average of impaired loans during the year 1,695 776 2,620
Interest income recognized during impairment 84 36 587
Cash-basis interest income recognized on impaired loans 84 36 218
</TABLE>
Related party loans were as follows:
<TABLE>
<CAPTION>
1998
------
<S> <C>
Total loans at beginning of year $ 509
New loans 428
Repayments (208)
Other changes (294)
------
Total loans at end of year $ 435
------
------
</TABLE>
Real estate loans with a carrying value of $20,596,000 and $24,807,000 were
pledged to secure public deposits at December 31, 1998 and 1997.
Loans held for sale at year-end 1998 and 1997 were $5,799,000 and
$1,338,000 and are classified as real estate mortgage loans.
NSFC ANNUAL 39 REPORT 1998
51
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998, 1997 & 1996
NOTE 4 ALLOWANCES FOR LOAN AND OTHER REAL ESTATE OWNED LOSSES
Activity in the allowance for loan losses for the year ended December 31,
follows:
<TABLE>
<CAPTION>
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Balance at beginning of year $ 5,430 $ 4,839 $ 4,514
Provision charged to operating expense 10 480 1,190
Loans charged off (73) (209) (1,141)
Recoveries on loans previously charged-off 66 320 276
-------- -------- --------
Balance at end of year $ 5,433 $ 5,430 $ 4,839
-------- -------- --------
-------- -------- --------
</TABLE>
Activity in the allowance for other real estate owned losses for the year
ended December 31, follows:
<TABLE>
<CAPTION>
1998 1997 1996
------ ------ ------
<S> <C> <C> <C>
Balance at beginning of year $ 544 $ 532 $ 510
Provision charged to operating expense 10 21 22
Losses on other real estate owned (2) (9) 0
------ ------ ------
Balance at end of year $ 552 $ 544 $ 532
------ ------ ------
------ ------ ------
</TABLE>
NOTE 5 OFFICE BUILDINGS AND EQUIPMENT
Office buildings and equipment consisted of the following at December 31,
1998 and 1997:
<TABLE>
<CAPTION>
1998 1997
--------- --------
<S> <C> <C>
Land $ 1,413 $ 1,300
Office buildings and improvements 8,340 7,428
Furniture and equipment 3,918 3,622
--------- --------
Total cost 13,671 12,350
Accumulated depreciation (7,024) (6,451)
--------- --------
Net book value $ 6,647 $ 5,899
--------- --------
--------- --------
</TABLE>
Depreciation expense amounted to $590,000 in 1998, $568,000 in 1997 and $546,000
in 1996.
NOTE 6 LOAN SERVICING
Mortgage loans serviced for others are not reported as assets. These loans
totalled $60,288,000 and $64,924,000 at year-end 1998 and 1997. Related escrow
deposit balances were $566,000 and $639,000 at year-end 1998 and 1997.
Activity for capitalized mortgage servicing rights was as follows for 1998,
1997 and 1996:
<TABLE>
<CAPTION>
1998 1997 1996
------ ------ ------
<S> <C> <C> <C>
Beginning of year $ 120 $ 80 $ 0
Additions 140 76 95
Amortized to expense (65) (36) (15)
------ ------ ------
End of year $ 195 $ 120 $ 80
------ ------ ------
------ ------ ------
</TABLE>
NSFC ANNUAL 40 REPORT 1998
52
<PAGE>
(TABLE AMOUNTS IN THOUSANDS OF DOLLARS, EXCEPT PER SHARE DATA) NORTHERN STATES
FINANCIAL CORPORATION
NOTE 7 DEPOSITS
At year-end 1998, stated maturities of time deposits were:
<TABLE>
<S> <C>
1999 $ 165,540
2000 14,507
2001 6,065
2002 and thereafter 53
---------
$ 186,165
---------
---------
</TABLE>
Related party deposits at year-end 1998 and 1997 totaled $11,738,000 and
$10,229,000.
NOTE 8 BORROWINGS
Securities sold under repurchase agreements and other short-term borrowings
are financing arrangements. Physical control is maintained for all other
securities sold under repurchase agreements. Information concerning securities
sold under repurchase agreements is summarized as follows:
<TABLE>
<CAPTION>
- ------------------------------------------------------------------
1998 1997
- ------------------------------------------------------------------
<S> <C> <C>
Average daily balance during the year $36,155 $34,176
Average interest rate during the year 5.11% 5.07%
Maximum month end balance during the year $47,990 $38,504
</TABLE>
Securities sold under repurchase agreements with directors of the Company
and related interests totalled $21,343,000 at December 31, 1998 and have a
weighted remaining maturity of 7 months.
The Company had fixed rate advances from the FHLB at December 31, 1998 and
1997 as follows:
<TABLE>
<CAPTION>
1998 1997
- --------------------------------------------------------
Maturity Date Interest Rate Balance Balance
- --------------------------------------------------------
<S> <C> <C> <C>
April 30, 1999 5.90% $5,000 $5,000
February 11, 2008 4.75% 5,000
</TABLE>
The Bank maintains a collateral pledge agreement with the FHLB covering
secured advances whereby the Bank agrees to retain first mortgage loans with
unpaid principal balances aggregating no less than 167% of the outstanding
secured advance from the FHLB.
NSFC ANNUAL 41 REPORT 1998
53
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998, 1997 & 1996
NOTE 9 INCOME TAXES
A summary of federal and state income taxes on operations follows:
<TABLE>
<CAPTION>
- ---------------------------------------------------------------
1998 1997 1996
- ---------------------------------------------------------------
<S> <C> <C> <C>
Current payable:
Federal $3,130 $2,940 $2,184
State 87 262 151
Deferred income tax 91 7 194
------ ------ ------
Provision for income taxes $3,308 $3,209 $2,529
------ ------ ------
------ ------ ------
</TABLE>
The components of deferred tax assets and liabilities at December 31, 1998
and 1997 follows:
<TABLE>
<CAPTION>
1998 1997
-------- -------
<S> <C> <C>
Deferred tax assets:
Allowance for loan and other real estate losses $1,929 $1,922
Deferred loan fees 0 25
Deferred compensation and directors' fees 182 182
Taxable income on nonperforming loans not recorded for book purposes 0 5
------- -------
Gross deferred tax assets 2,111 2,134
Deferred tax liabilities:
Accumulated depreciation (567) (586)
Federal Home Loan Bank stock dividend (37) (37)
Unrealized net gain on securities available for sale (403) (295)
Deferred loan fees (34) 0
Mortgage servicing rights (75) (65)
Other items (90) (47)
------- -------
Gross deferred tax liabilities (1,206) (1,030)
------- -------
Net deferred tax asset $ 905 $ 1,104
------- -------
------- -------
</TABLE>
No valuation allowance is required for deferred tax assets.
The provision for income taxes differs from that computed at the statutory
federal corporate tax rate as follows:
<TABLE>
<CAPTION>
1998 1997 1996
------- -------- -------
<S> <C> <C> <C>
Income tax calculated at statutory rate (34%) $ 3,608 $ 3,474 $ 2,904
Add (subtract) tax effect of:
Tax-exempt income, net of disallowed interest expense (380) (431) (503)
State income tax, net of federal tax benefit 71 156 120
Other items, net 9 10 8
------- ------- -------
Provision for income taxes $ 3,308 $ 3,209 $ 2,529
------- ------- -------
------- ------- -------
</TABLE>
Prior to being merged with the Bank in 1998, the Thrift qualified under
provisions of the Internal Revenue Code which permitted it to deduct from
taxable income a provision for bad debts which differs from the provision
charged to income in the financial statements. Tax legislation passed in 1996
now requires all thrift institutions to deduct a provision for bad debts for tax
purposes based on actual loss experience and recapture the excess bad reserve
accumulated in tax years after 1987. These provisions carry forward to the Bank
after the merger of the Thrift into the Bank. The
NSFC ANNUAL 42 REPORT 1998
54
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
NOTE 9 INCOME TAXES (CONTINUED)
related amount of deferred tax liability which must be recaptured is not
material. Retained earnings at December 31, 1998 includes approximately
$3,269,000 for which no provision for federal income taxes has been made. If, in
the future, this portion of retained earnings is used for any purpose other than
to absorb bad debt losses, federal income taxes would be imposed at the then
prevailing rates, resulting in approximately $1,266,000 of deferred tax
liability.
(TABLE AMOUNTS IN THOUSANDS OF DOLLARS, EXCEPT PER SHARE DATA) NORTHERN STATES
FINANCIAL CORPORATION
NOTE 10 - OMNIBUS INCENTIVE PLANS
Information about option grants follows:
<TABLE>
<CAPTION>
Number Weighted-average
of options exercise price
---------- ----------------
<S> <C> <C>
Outstanding, beginning of 1996 35,100 $ 8.33
Exercised in 1996 (9,210) 8.33
------
Outstanding, end of 1996 25,890 8.32
Exercised in 1997 (500) 8.40
------
Outstanding, end of 1997 25,390 8.32
Exercised in 1998 (6,535) 8.32
------
Outstanding, end of 1998 18,855 8.32
------
------
</TABLE>
The 1992, Omnibus Incentive Plan (the "Plan") authorizes the issuance of up
to 375,000 shares of the Company's common stock, including granting of
non-qualified stock options, restricted stock and stock appreciation rights.
Statement of Financial Accounting Standards No. 123, which became effective
for 1996, requires pro forma disclosures for companies that do not adopt its
fair value accounting method for stock-based employee compensation. The Company
has not granted any stock options since January 1, 1995. Stock options are used
to reward directors and employees and provide them with an additional equity
interest. Options are issued for 10 year periods and are fully vested when
granted.
At year-end 1998, options outstanding and exercisable had a weighted
average exercise price of $8.32 and a weighted average remaining option life of
3 years.
A Committee of the Board of Directors at its discretion may grant stock
appreciation rights under the Plan. A stock appreciation right entitles the
holder to receive from the Company an amount of cash equal to the excess, if
any, of the fair market value of the Company's common stock which is the subject
of such grant over the grant price. As of December 31, 1998 and 1997, 14,990 and
16,240 stock appreciation rights were outstanding at the grant price of $8.32
per share. The Company's expense was $25,000, $114,000 and $70,000 in 1998, 1997
and 1996. The stock appreciation rights will expire during 2002.
NSFC ANNUAL 43 REPORT 1998
55
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998, 1997 & 1996
NOTE 11 - COMMITMENTS, OFF-BALANCE SHEET RISK, AND CONTINGENCIES
There are various contingent liabilities that are not reflected in the
financial statements, including claims and legal actions arising in the ordinary
course of business. In the opinion of management, after consultation with legal
counsel, the ultimate disposition of these matters is not expected to have a
material effect on the consolidated financial condition or results of operations
of the Company.
At year-end 1998 and 1997, reserves of $3,165,000 and $2,735,000 were
required as deposits with the Federal Reserve Bank or as cash on hand. These
reserves do not earn interest. Some financial instruments are used in the normal
course of business to meet the financing needs of customers and to reduce
exposure to interest rate changes. These financial instruments include
commitments to extend credit, standby letters of credit, and financial
guarantees. These involve, to varying degrees, credit and interest-rate risk in
excess of the amount reported in the financial statements.
Exposure to credit loss if the other party does not perform is represented
by the contractual amount for commitments to extend credit, standby letters of
credit, and financial guarantees written. The same credit policies are used for
commitments and conditional obligations as are used for loans. Collateral or
other security is normally required to support financial instruments with credit
risk.
Commitments to extend credit are agreements to lend to a customer as long
as there is no violation of any condition established in the commitment.
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 used, the commitments do not necessarily represent future
cash requirements. Standby letters of credit and financial guarantees written
are conditional commitments to guarantee a customer's performance to a third
party.
A summary of the notional or contractual amounts of financial instruments
with off-balance-sheet risk at year-end follows:
<TABLE>
<CAPTION>
1998 1997
------- -------
<S> <C> <C>
Unused lines of credit and
commitments to make loans:
Fixed rate $19,999 $20,388
Variable rate 60,009 54,339
------- -------
Total $80,008 $74,727
------- -------
------- -------
Standby letters of credit $ 6,598 $ 6,891
</TABLE>
Commitments to make loans at a fixed rate have interest rates ranging primarily
from 6.00% to 9.00%.
NSFC ANNUAL 44 REPORT 1998
56
<PAGE>
(TABLE AMOUNTS IN THOUSANDS OF DOLLARS, EXCEPT PER SHARE DATA) NORTHERN STATES
FINANCIAL CORPORATION
NOTE 12 - FAIR VALUES OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate fair values for
financial instruments. Securities fair values are based on quoted market prices
or, if no quotes are available, on the rate and term of the security and or
information about the issuer. For loans or deposits and securities sold under
repurchase agreements, the fair value is estimated by discounted cash flow
analysis using current market rates for the estimated life and credit risk. Fair
values for impaired loans are estimated using discounted cash flow analysis or
underlying collateral values, where applicable. Fair value of loans held for
sale is based on market estimates. The fair value of off-balance-sheet items is
based on the fees or cost that would currently be charged to enter or terminate
such arrangements, and the fair value is not material.
The estimated year-end fair values of financial instruments were:
<TABLE>
<CAPTION>
Carrying Value Estimated
1998 Fair Value
- ---- ------------------------
<S> <C> <C>
Financial assets:
Cash and cash equivalents $ 27,959 $ 27,959
Interest-bearing deposits in financial institutions - maturities over 90 days 100 100
Securities available for sale 200,861 200,861
Loans, net 240,776 250,721
Direct lease financing 987 1,001
Accrued interest receivable 4,408 4,408
Financial liabilities:
Deposits $(355,756) $(356,971)
Securities sold under repurchase agreements and other short-term borrowings (47,990) (47,990)
Federal Home Loan Bank term advances (10,000) 8,482
Advances from borrowers for taxes and insurance (992) (992)
Accrued interest payable (3,951) (3,951)
</TABLE>
<TABLE>
<CAPTION>
Carrying Value Estimated
1997 Fair Value
- ---- ------------------------
<S> <C> <C>
Financial assets:
Cash and cash equivalents $ 25,506 $ 25,506
Interest-bearing deposits in financial institutions - maturities over 90 days 100 100
Securities available for sale 180,672 180,672
Loans, net 236,794 237,321
Direct lease financing 1,274 1,274
Accrued interest receivable 4,308 4,308
Financial liabilities:
Deposits $(347,950) $(348,346)
Securities sold under repurchase agreements and other short-term borrowings (38,504) (38,519)
Federal Home Loan Bank term advances (5,000) (5,000)
Advances from borrowers for taxes and insurance (1,166) (1,166)
Accrued interest payable (3,691) (3,691)
</TABLE>
NSFC ANNUAL 45 REPORT 1998
57
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998, 1997 & 1996
NOTE 13 - REGULATORY MATTERS
The Company and Bank are subject to regulatory capital requirements
administered by federal banking agencies. Capital adequacy guidelines and prompt
corrective action regulations involve quantitative measures of assets,
liabilities, and certain off-balance sheet items calculated under regulatory
accounting practices. Capital amounts and classifications are also subject to
qualitative judgments by regulators about components, risk weighting, and other
factors, and the regulators can lower classifications in certain cases. Failure
to meet various capital requirements can initiate regulatory action that could
have a direct material effect on the financial statements. The prompt corrective
action regulations provide five classifications, including well capitalized,
adequately capitalized, undercapitalized, significantly undercapitalized and
critically undercapitalized,although these terms are not used to represent
overall financial condition. If adequately capitalized, regulatory approval is
required to accept brokered deposits. If undercapitalized, capital distributions
are limited, as is asset growth and expansion, and plans for capital restoration
are required.
Actual capital levels and minimum required levels were as follows at
December 31, 1998 and 1997. The Bank's 1997 information has been restated to
reflect the 1998 merger of the Thrift into the Bank.
<TABLE>
<CAPTION>
Minimum Required to
Minimum Required be Well Capitalized
For Capital Under Prompt Corrective
Actual Adequacy Purposes Action Regulations
Amount Ratio Amount Ratio Amount Ratio
------------------ --------------------- ------------------------
<S> <C> <C> <C> <C> <C> <C>
1998
Total Capital
(to risk weighted assets)
Consolidated $68,264 21.84% $25,004 8.00% $31,256 10.00%
Bank 67,755 21.69 24,993 8.00 31,241 10.00
Tier I Capital
(to risk weighted assets)
Consolidated 64,357 20.59 12,502 4.00 18,753 6.00
Bank 63,850 20.44 12,496 4.00 18,745 6.00
Tier I Capital
(to average assets)
Consolidated 64,357 13.69 18,801 4.00 23,501 5.00
Bank 63,850 13.59 18,795 4.00 23,493 5.00
1997
Total Capital
(to risk weighted assets)
Consolidated $63,249 21.65% $23,376 8.00% $29,220 10.00%
Bank 62,773 21.49 23,365 8.00 29,206 10.00
Tier I Capital
(to risk weighted assets)
Consolidated 59,597 20.40 11,688 4.00 17,532 6.00
Bank 59,122 20.24 11,682 4.00 17,524 6.00
Tier I Capital
(to average assets)
Consolidated 59,597 13.71 17,394 4.00 21,742 5.00
Bank 59,122 13.60 17,388 4.00 21,735 5.00
</TABLE>
NSFC ANNUAL 46 REPORT 1998
58
<PAGE>
(TABLE AMOUNTS IN THOUSANDS OF DOLLARS, EXCEPT PER SHARE DATA) NORTHERN STATES
FINANCIAL CORPORATION
NOTE 13 - REGULATORY MATTERS
The Company and Bank at year end 1998 and 1997 were categorized as well
capitalized. Management knows of no circumstances or events which would change
these categorizations. The Company's primary source of funds to pay dividends to
shareholders is the dividends it receives from the Bank. The Bank is subject to
certain restrictions on the amount of dividends that it may declare without
regulatory approval. At December 31, 1998, $9,637,000 of the Bank's retained
earnings was available for dividend declaration without prior regulatory
approval.
NOTE 14 - EARNINGS PER SHARE AND CAPITAL MATTERS
Net income was utilized to calculate both basic and diluted earnings per
share for all years presented. Information regarding weighted average shares
utilized in computing basic and diluted earnings per share is as follows
(restated for the five-for-one stock split in 1998):
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
Average outstanding common shares 4,449,996 4,446,450 4,444,565
Effect of stock options 9,987 9,055 7,320
--------- --------- ---------
Average outstanding shares for
diluted earnings per share 4,459,983 4,455,505 4,451,885
--------- --------- ---------
--------- --------- ---------
</TABLE>
On April 23, 1998, the Company's stockholders approved an amendment to the
Company's certificate of incorporation to increase the authorized common shares
and effect a five-for-one stock split through a reduction in the common stock
par value. All prior period earnings per share and dividends per share
information has been restated to reflect the five-for-one stock split.
Information related to stockholders' equity at December 31, 1998 and 1997 was as
follows:
<TABLE>
<CAPTION>
1998 1997
--------- ---------
<S> <C> <C>
Par value per share $ 0.40 $ 2.00
Authorized shares 6,500,000 1,750,000
Issued and outstanding shares 4,453,400 889,373
</TABLE>
NSFC ANNUAL 47 REPORT 1998
59
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998, 1997 & 1996
NOTE 15 - PARENT COMPANY CONDENSED FINANCIAL STATEMENTS
Following are condensed parent company financial statements. The 1997 and
1996 information has been restated to reflect the 1998 merger of the Thrift into
the Bank.
Condensed Balance Sheets
<TABLE>
<CAPTION>
December 31, 1998 1997
- ------------ ---- ----
<S> <C> <C>
Assets
Cash on deposit at subsidiary bank - noninterest bearing $ 775 $ 874
Interest-bearing deposits in unaffiliated bank 38 36
------- -------
Total cash and cash equivalents 813 910
Investment in wholly-owned subsidiary Equity in underlying book value of
Bank of Waukegan 64,488 59,591
Goodwill, net 118 129
------- -------
Total investment in subsidiary 64,606 59,720
Other assets 51 108
------- -------
Total assets $65,470 $60,738
------- -------
------- -------
Liabilities and Stockholders' Equity
Accounts payable and other liabilities $ 357 $ 543
Stockholders' equity 65,113 60,195
------- -------
Total liabilities and stockholders' equity $65,470 $60,738
------- -------
------- -------
</TABLE>
Condensed Statements of Income
<TABLE>
<CAPTION>
Years ended December 31, 1998 1997 1996
- ------------------------ ---- ---- ----
<S> <C> <C> <C>
Operating income
Dividends from Bank $2,677 $2,124 $1,745
Interest income 2 1 1
------ ------ ------
Total operating income 2,679 2,125 1,746
Operating expenses 160 218 214
------ ------ ------
Income before income taxes and equity in undistributed earnings of Bank 2,519 1,907 1,532
Income tax benefit 57 80 78
------ ------ ------
Income before equity in undistributed earnings of Bank 2,576 1,987 1,610
Equity in undistributed earnings of Bank 4,728 5,023 4,401
------ ------ ------
Net income $7,304 $7,010 $6,011
------ ------ ------
------ ------ ------
</TABLE>
<PAGE>
Condensed Statements of Cash Flows
<TABLE>
<CAPTION>
Years ended December 31, 1998 1997 1996
- ------------------------ ---- ---- ----
<S> <C> <C> <C>
Cash flows from operating activities
Net income $ 7,304 $ 7,010 $ 6,011
Adjustments to reconcile net income to net cash from operating activities
Equity in undistributed earnings of Bank (4,728) (5,023) (4,401)
Goodwill amortization 11 11 10
(Increase) decrease in other assets 77 311 (149)
Increase (decrease) in other liabilities (144) (111) 208
------- ------- -------
Net cash from operating activities 2,520 2,198 1,679
Cash flows from financing activities
Exercise of stock options 54 4 77
Dividends paid (2,671) (2,134) (1,779)
------- ------- -------
Net cash from financing activities (2,617) (2,130) (1,702)
------- ------- -------
Increase (decrease) in cash and cash equivalents (97) 68 (23)
Cash and cash equivalents at beginning of year 910 842 865
------- ------- -------
Cash and cash equivalents at end of year $ 813 $ 910 $ 842
------- ------- -------
------- ------- -------
</TABLE>
NSFC ANNUAL 48 REPORT 1998
60
<PAGE>
(TABLE AMOUNTS IN THOUSANDS OF DOLLARS, EXCEPT PER SHARE DATA) NORTHERN
STATES FINANCIAL CORPORATION
NOTE 16 - OTHER COMPREHENSIVE INCOME
Other comprehensive income components and related taxes were as follows:
<TABLE>
<CAPTION>
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Unrealized holding gains (losses) on securities available for sale $277 $ 797 $ (833)
Less reclassification adjustments for gains later recognized in income 0 0 (5)
---- ----- -----
Net unrealized gains (losses) 277 797 (838)
Tax effect (108) (319) 339
------ ------ --------
Other comprehensive income (loss) $ 169 $ 478 $ (499)
------ ------ --------
------ ------ --------
</TABLE>
NOTE 17 - SEGMENT INFORMATION
The operating segments are determined by the products and services offered,
primarily distinguished between banking, mortgage banking and trust operations.
Loans, investments, and deposits provide the revenues in the banking operation,
servicing fees and loan sales provide the revenues in mortgage banking, and
trust fees provide the revenues in trust operations. All operations are
domestic.
Management began evaluating mortgage banking as a separate segment in
August, 1998. The accounting policies used are the same as those described in
the summary of significant accounting policies. Mortgage banking and trust
segment performance is evaluated using fee income net of direct expenses.
Income taxes are not allocated to these segments, and selected indirect
expenses are allocated. There are no transactions among segments.
Substantially all assets are related to the banking segment. Neither mortgage
banking nor trust pre-tax net revenues exceeded 10% of total pre-tax income
for 1998, 1997 or 1996.
Information reported internally for performance assessment follows.
<TABLE>
<CAPTION>
1998 Other Total
Banking Segments Segments
------- -------- --------
<S> <C> <C> <C>
Net interest income $ 17,310 $ 0 $ 17,310
Provision for loan losses 10 0 10
Other revenue 1,833 1,102 2,935
Other expenses 8,656 967 9,623
-------- ----- --------
Segment profit $ 10,477 $ 135 $ 10,612
-------- ----- --------
-------- ----- --------
1997
Other Total
Banking Segments Segments
------- -------- --------
Net interest income $ 17,144 $ 0 $ 17,144
Provision for loan losses 480 0 480
Other revenue 2,062 625 2,687
Other expenses 8,668 464 9,132
-------- ----- --------
Segment profit $ 10,058 $ 161 $ 10,219
-------- ----- --------
-------- ----- --------
1996
Other Total
Banking Segments Segments
-------- -------- --------
Net interest income $ 16,863 $ 0 $ 16,863
Provision for loan losses 1,190 0 1,190
Other revenue 2,716 523 3,239
Other expenses 9,848 524 10,372
-------- ----- --------
Segment profit $8,541 $ (1) $ 8,540
-------- ----- --------
-------- ----- --------
</TABLE>
NSFC ANNUAL 49 REPORT 1998
61
<PAGE>
NORTHERN STATES FINANCIAL CORPORATION
STOCKHOLDER INFORMATION
Annual Meeting: All stockholders are invited to attend our annual meeting,
which will be held at 4:30 P.M., on Thursday, April 22, 1999 in the lobby of the
Bank of Waukegan, 1601 N. Lewis Avenue, Waukegan, Illinois 60085.
We look forward to meeting all stockholders and welcome your questions at
the annual meeting. Any stockholders unable to attend this year's meeting are
invited to send questions and comments in writing to Fred Abdula, Chairman of
the Board and Chief Executive Officer, at Northern States Financial Corporation.
Form 10-K: Stockholders who wish to obtain a copy at no charge of Northern
States Financial Corporation's Form 10-K for the fiscal year ended December 31,
1998, as filed with the Securities and Exchange Commission, may do so by writing
Thomas M. Nemeth, Vice President & Treasurer, at Northern States Financial
Corporation.
For Further Information: Stockholders and prospective investors are welcome
to call or write Northern States Financial Corporation with questions or
requests for additional information. Please direct inquiries to:
Thomas M. Nemeth
Vice President & Treasurer
Northern States Financial Corporation
1601 N. Lewis Avenue
Waukegan, Illinois 60085
(847) 244-6000 ext. 269
Transfer Agent, Registrar & Dividend Disbursements: Stockholders with a
change of address or related inquiries should contact:
Firstar Bank Milwaukee, NA
Investors Services Unit
1555 N. Rivercenter Dr., Suite 301
Milwaukee, Wisconsin 53212
(800) 637-7549
Quarterly Calendar: The Company operates on a fiscal year ending December
31. Quarterly results are announced within 45 days after the end of each
quarter, and audited results are announced within 90 days after year end.
Semi-annual Dividend Dates: Dividends are expected to be announced and paid
on the following schedule during 1999:
Half Record Date Payment Date
---- ----------- ------------
First May 17 June 1
Second November 15 December 1
Stock Market Information: The common stock of Northern States Financial
Corporation is traded on the National Association of Securities Dealers
Automated Quotation System (NASDAQ Small-Cap Market) under the ticker symbol
NSFC. Stock price quotations are published daily in the Chicago Tribune and
Chicago Sun-Times newspapers and, when traded, in The Wall Street Journal. The
stock is commonly listed as NthStat.
As of December 31, 1998 there were 6,500,000 common shares authorized;
4,453,400 common shares were outstand-ing, held by approximately 450 registered
stockholders.
As of February 28, 1999, the following securities firms indi-cated they
were maintaining an inventory of Northern States Financial Corporation common
stock and are acting as mar-ket makers:
Herzog, Heine, Geduld, Inc.
Miami, Florida
(800) 966-7022 or (305) 932-5880
Howe Barnes Investments, Inc.
Chicago, Illinois
(800) 800-4693 or (312) 655-2946
Knight Securities, Inc.
Jersey City, New Jersey
(888) 302-9197 or (212) 336-8861
Price Summary: The following schedule details our stock's quarter ending
bid and ask price restated to reflect the five-for- one stock-split which
occured in May of 1998.
<TABLE>
<CAPTION>
1998 1997
--------- ----------
BID ASK BID ASK
--- --- --- ---
Quarter Ended:
<S> <C> <C> <C> <C>
March 31 $32 $33 5/8 $17 5/8 $18 5/8
June 30 34 1/2 34 3/4 17 3/8 18 3/8
September 30 27 1/4 27 5/8 19 20
December 31 24 5/8 25 23 3/8 26 1/8
</TABLE>
<TABLE>
<CAPTION>
1999
----
BID ASK
--- ---
<S> <C> <C>
For the First Quarter:
(through March 1, 1999) $ 22 1/2 $ 22 3/4
</TABLE>
Cash Dividends: Northern States Financial Corporation pays semi-annual cash
dividends in June and December. Uninterrupted cash dividends have been paid
since the Company's formation in 1984 and have been increased each year since
then. The table below shows semi-annual cash div-idends per share for the past
seven years. Dividends have been restated to reflect the five-for-one stock
split which occurred in May of 1998.
<TABLE>
<CAPTION>
June 1 December 1 Total
<S> <C> <C> <C>
1994 $ .14 $ .15 $ .29
1995 .16 .17 .33
1996 .19 .21 .40
1997 .23 .25 .48
1998 .28 .32 .60
</TABLE>
Independent Auditors
Crowe, Chizek and Company LLP
Oak Brook, Illinois
NSFC ANNUAL 50 REPORT 1998
62
<PAGE>
EXHIBIT 21.
SUBSIDIARIES OF NORTHERN STATES FINANCIAL CORPORATION
Bank of Waukegan
1601 N. Lewis Avenue
Waukegan, Illinois 60085
State of Incorporation - Illinois
A Wholly-Owned Subsidiary of
Northern States Financial Corporation
63
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 15,176
<INT-BEARING-DEPOSITS> 283
<FED-FUNDS-SOLD> 12,600
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 200,861
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 247,196
<ALLOWANCE> 5,433
<TOTAL-ASSETS> 485,921
<DEPOSITS> 355,756
<SHORT-TERM> 47,990
<LIABILITIES-OTHER> 7,062
<LONG-TERM> 10,000
0
0
<COMMON> 1,781
<OTHER-SE> 63,332
<TOTAL-LIABILITIES-AND-EQUITY> 485,921
<INTEREST-LOAN> 21,765
<INTEREST-INVEST> 11,281
<INTEREST-OTHER> 1,160
<INTEREST-TOTAL> 34,206
<INTEREST-DEPOSIT> 14,537
<INTEREST-EXPENSE> 16,896
<INTEREST-INCOME-NET> 17,310
<LOAN-LOSSES> 10
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 9,623
<INCOME-PRETAX> 10,612
<INCOME-PRE-EXTRAORDINARY> 10,612
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 7,304
<EPS-PRIMARY> 1.64
<EPS-DILUTED> 1.64
<YIELD-ACTUAL> 3.99
<LOANS-NON> 3,804
<LOANS-PAST> 313
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 5,430
<CHARGE-OFFS> 73
<RECOVERIES> 66
<ALLOWANCE-CLOSE> 5,433
<ALLOWANCE-DOMESTIC> 3,361
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 2,072
</TABLE>
