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SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1995 Commission file number 0-16143
FIRST ESSEX BANCORP, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 04-2943217
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
71 Main Street, Andover, MA 01810
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (508) 475-4313
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.10 par value
(Title of class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K 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 stock of the registrant held by
non-affiliates of the registrant, based on the closing sale price on the NASDAQ
National Market System on March 1, 1996 was $66,689,969.
As of March 1, 1996, 6,023,567 shares of the registrant's common stock, $.10 par
value, were outstanding.
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<PAGE>
DOCUMENTS INCORPORATED BY REFERENCE
Selected information from the Registrant's 1996 Proxy Statement for the annual
meeting to be held May 2, 1996 to be filed with the Securities and Exchange
Commission, is incorporated by reference into Part III of this report
CAUTIONARY STATEMENT FOR PURPOSES OF THE
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
The Company desires to take advantage of the new "safe harbor" provisions of the
Private Securities Litigation Reform Act of 1995. This Report contains certain
"forward-looking statements" including statements concerning plans, objectives,
future events or performance, assumptions, and other statements which are other
than statements of historical fact. The Company wishes to caution readers that
the following important factors, among others, may have affected, and could in
the future affect, the Company's actual results and could cause the Company's
actual results for subsequent periods to differ materially from those expressed
in any forward-looking statement made by, or on behalf of, the Company herein:
(i) the effect of changes in laws and regulations, including federal and state
banking laws and regulations, with which the Company and the Bank must comply,
the cost of compliance either currently or in the future as applicable; (ii) the
effect of changes in accounting policies and practices, as may be adopted by the
regulatory agencies as well as by the Financial Accounting Standards Board, or
of changes in the organization, compensation and benefit plans; (iii) the effect
on the Company's competitive position within in its market area, increasing
consolidation within the banking industry, and increasing competition from
larger regional and out-of-state banking organizations as well as nonbank
providers of various financial services; (iv) the effect of unforeseen changes
in interest rates; and (v) the effect of changes in the business cycle and
downturns in the New England and national economy.
<PAGE>
TABLE OF CONTENTS
Part I
Item 1. Business 1
Item 2. Properties 9
Item 3. Legal Proceedings 10
Item 4. Submission of Matters to a Vote of Security Holders 10
Part II
Item 5. Market for the Registrant's Common Stock and Related
Security Holder Matters 10
Item 6. Selected Financial Data 12
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations 13
Item 8. Financial Statements and Supplementary Data 32
Item 9. Changes in and Disagreements with Accountants
and Financial Disclosure 60
Part III
Item 10. Directors and Executive Officers of the Registrant 60
Item 11. Executive Compensation 60
Item 12. Security Ownership of Certain Beneficial Owners
and Management 61
Item 13. Certain Relationships and Related Transactions 61
Part IV
Item 14. Exhibits, Financial Statement Schedules,
and Reports on Form 8-K 61
<PAGE>
PART I
ITEM 1. BUSINESS
GENERAL
First Essex Bancorp, Inc.
First Essex Bancorp, Inc. ("First Essex" or the "Company") is a Delaware
corporation whose primary activity is to act as the parent holding company for
First Essex Bank, FSB (the "Bank"). Until December 1, 1993, the business of
First Essex Bancorp, Inc. was conducted through two banking subsidiaries, First
Essex Savings Bank, a Massachusetts chartered savings bank and First Essex
Savings Bank of New Hampshire, a Guaranty Savings Bank. The New Hampshire bank
was owned through a second tier holding company, First Essex Bancorp of New
Hampshire, Inc., which was merged into First Essex Bancorp, Inc. on December 1,
1993.
First Essex Bank, FSB
The Bank was originally founded under a Massachusetts legislative charter issued
in 1847. On December 1, 1993, First Essex Savings Bank converted to a federal
savings bank with a charter issued by the Office of Thrift Supervision, (the
"OTS") under the name of First Essex Bank, FSB. On the same day First Essex
Savings Bank of New Hampshire was merged into First Essex Bank, FSB.
At December 31, 1995, the Bank had total assets of $808.8 million. The Bank is
principally engaged in the business of attracting deposits from the general
public and investing in residential mortgage, construction, commercial real
estate, commercial and consumer loans. The Bank also makes investments in
various investment securities to provide a source of interest and dividend
income. The Bank currently maintains ten full service banking offices at various
locations throughout its market area. The Bank's deposits are insured by the
Federal Deposit Insurance Corporation (the "FDIC").
MARKET AREA
First Essex's market area is centered in the Merrimack Valley, approximately 25
miles north of Boston and five miles south of New Hampshire, at the intersection
of two major highways: Interstate Route 93, the major north-south roadway
connecting Boston with the northern Boston suburban communities and New
Hampshire, and Interstate Route 495. The Bank's main office and two of its
branches are located in Lawrence, Massachusetts. Other branches are in the
surrounding communities of Andover, North Andover, Haverhill and Methuen,
Massachusetts and Londonderry, New Hampshire. First Essex also has loan centers
in Lowell and Wellesley, Massachusetts and in North Hampton, New Hampshire.
CURRENT MARKET CONDITIONS
The New England region, including those portions of northeastern Massachusetts
and southern New Hampshire that constitute First Essex's market area, continues
to recover from the severe economic difficulties of the last several years.
Although a recovery is evident, the growth rate has been modest.
Loan demand to finance new and existing home sales was stronger in 1995 than in
the last several years. The decline in interest rates over the last half of the
year spurred refinance activity in the one to four family market. The growth in
commercial loans to small and mid-size businesses in the area has also shown
strength, although the competition among lenders for these loans is intense.
First Essex was still able to grow loans while adhering to its credit quality
guidelines. Automobile sales continued to show their strength in 1995 and First
Essex has been able to participate in that growth through an indirect automobile
lending program that was begun early in 1994. The general improvement in
consumer confidence and the consumer's willingness to take on additional debt
has also resulted in growth in direct lending to consumers.
1
<PAGE>
REGULATION
General
The Office of Thrift Supervision is the primary regulator of the Company and the
Bank. The Bank's deposits are insured up to applicable limits by the Bank
Insurance Fund ("BIF") of the FDIC. The Company and the Bank must file reports
with the OTS concerning activities and financial condition, in addition to
obtaining regulatory approvals prior to entering into certain transactions such
as mergers with or acquisitions of other financial institutions. Periodic
examinations are conducted by the OTS to test the Company's and the Bank's
compliance with various regulatory requirements. The Bank is also a member of
the Federal Home Loan Bank ("FHLB") system, which provides a central credit
facility primarily for member institutions. The Company, as a savings and loan
holding company, is also required to file certain reports with, and otherwise
comply, with the rules and regulations of the OTS and of the Securities and
Exchange Commission ("SEC") under the federal securities laws.
Business Activities
The activities of federal savings institutions are governed by the Home Owners'
Loan Act, as amended (the "HOLA") and, in certain respects, the Federal Deposit
Insurance Act (the "FDI Act"). The HOLA and the FDI Act were amended by the
Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA").
FDICIA, among other things, requires that federal banking regulators intervene
promptly when a depository institution experiences financial difficulties,
mandates the establishment of a risk-based deposit insurance assessment system
and requires the imposition of numerous additional safety and soundness
operational standards and restrictions. FDICIA contains provisions affecting
numerous aspects of the operations of federal savings institutions and empowers
the OTS and the FDIC, among other agencies, to promulgate regulations
implementing its provision.
Qualified Thrift Lender Test
The HOLA requires saving institutions to meet a qualified thrift lender ("QTL")
test. Under the QTL test, as modified by FDICIA, a savings association is
required to maintain at least 65% of its "portfolio assets" (total assets less
(i) specified liquid assets up to 20% of total assets, (ii) intangibles,
including goodwill, and (iii) the value of property used to conduct the
association's business) in certain "qualified thrift investments" (primarily
residential mortgages and related investments, including certain mortgage-backed
securities) on a monthly basis in 9 out of every 12 months.
Limitation on Capital Distributions
OTS regulations impose limitations upon all capital distributions, other than
stock dividends, by savings institutions. The rule establishes three tiers of
institutions, which are based primarily on an institution's capital level. An
institution that meets or exceeds all fully phased-in capital requirements
before and after a proposed capital distribution ("Tier 1 Bank") and has not
been advised by the OTS that it is in need of more than normal supervision,
could, after prior notice but without the approval of the OTS, make capital
distributions during a calendar year equal to the greater of: (i) 100% of its
net income to date during the calendar year plus the amount that would reduce by
one-half its "surplus capital ratio" (the percentage by which its capital to
assets ratio exceeds the ratio of its fully phased-in capital requirements to
its assets) at the beginning of the calendar year; or (ii) 75% of its net income
for the previous four quarters. Any additional capital distributions would
require prior regulatory approval. In the event the Bank's capital fell below
its fully-phased in requirement or the OTS notified the Bank that it was in need
of more than normal supervision, the Bank's ability to make capital
distributions would be restricted. In addition, the OTS could prohibit any
proposed capital distribution by any institution if it determines that such
distribution would constitute an unsafe or unsound practice. Furthermore, under
the OTS prompt corrective action regulations, which took effect on December 19,
1992, the Bank generally would be prohibited from making any capital
distribution if, after the distribution, the Bank would have (i) a total
risk-based capital ratio of less than 8%, (ii) a Tier 1 risk-based capital ratio
of less than 4% or (iii) a leverage ratio of less than 3%. As of December 31,
1995, the Bank exceeds all fully-phased in capital requirements.
2
<PAGE>
Branching
The HOLA and OTS regulations permit savings institutions to branch nationwide
provided the institutions meet certain asset composition tests. The OTS
authority preempts any state law purporting to regulate branching by savings
institutions. As of December 31, 1995, the Bank would be permitted to engage in
such nationwide interstate branching.
Capital Requirements
The OTS capital regulations require savings institutions to meet three capital
standards: (1) 1.5% tangible capital standard; (2) 3% leverage (core capital)
ratio; and (3) 8% risk-based capital standard. Core capital is defined as common
stockholders' equity (including retained earnings), certain noncumulative
perpetual preferred stock and related surplus, minority interests in equity
accounts of consolidated subsidiaries less intangibles other than certain
qualifying supervisory intangible assets and certain purchased mortgage
servicing rights and supervisory goodwill. The OTS regulations also require
that, in meeting the leverage ratio, tangible and risk-based capital standards,
institutions must deduct investments in and loans to subsidiaries engaged in
activities not permissible for a national bank.
FDICIA requires that the OTS revise risk-based capital standards, with
appropriate transition rules, to ensure that they take account of interest rate
risk, concentration of risk and the risks of nontraditional activities. Under
OTS regulation effective January 1, 1994, a savings institution with interest
rate risk exposure above a specified percentage must deduct a specified interest
rate risk component when calculating total capital for purposes of determining
whether it meets OTS risk-based capital requirements. As of December 31, 1995,
the Bank exceeds all applicable capital requirements.
INSURANCE OF DEPOSIT ACCOUNTS
As required by FDICIA, in 1993, the FDIC established a risk-based assessment
system for insured depository institutions that takes into account the risks
attributable to different categories and concentrations of assets and
liabilities, the likely amounts of any loss, and the revenue needs of the
insurance fund.
Insurance of deposits may be terminated by the FDIC after notice and hearing,
upon finding by the FDIC that the savings institution has engaged in unsafe or
unsound practices, is in an unsafe or unsound condition to continue operations,
or has violated any applicable law, rule, regulation, order or condition imposed
by, or written agreement with, the FDIC. Additionally, if insurance termination
proceedings are initiated against a savings institution, the FDIC temporarily
may suspend insurance on new deposits received by an institution under certain
circumstances. Management is not aware of any activity or condition which could
result in a termination of its deposit insurance.
FEDERAL RESERVE SYSTEM
The Federal Reserve Board regulations require savings institutions to maintain
noninterest earning reserves against their transaction accounts (primarily NOW
and regular checking accounts). Because required reserves must be maintained in
the form of either vault cash, a noninterest bearing account at a Federal
Reserve Bank or a pass-through account as defined by the Federal Reserve Board,
the effect of this reserve requirement is to reduce the Bank's interest-earning
assets.
HOLDING COMPANY REGULATION
The Company is a nondiversified unitary savings and loan holding company within
the meaning of the HOLA. As such, the Company has registered with the OTS and is
subject to OTS regulations, examinations, supervision and reporting
requirements. As a unitary savings and loan holding company, the Company
generally will not be restricted under existing laws as to the types of business
activities in which it may engage, provided that the Bank continues to be a QTL.
The HOLA requires the Company to obtain regulatory approvals prior to entering
into certain transactions such as mergers with or acquisitions of other
institutions or holding companies.
3
<PAGE>
LENDING ACTIVITIES
General
At December 31, 1995, the loan portfolio, before deducting the allowance for
possible loan losses, was $500.1 million, representing 61.8% of total assets.
Loan originations increased in 1995 primarily due to the stabilization of the
New England residential real estate market and in the Massachusetts and New
Hampshire economies generally. The increase also reflects a stronger marketing
effort by the Bank in the commercial and consumer loan areas. First Essex
originates residential first mortgage loans, commercial real estate loans,
construction loans, consumer loans and commercial loans. See Item 7 -
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Financial Condition - Loan Origination."
The following table sets forth information concerning First Essex's loan
portfolio, including mortgage loans held for sale, at the dates indicated. The
balances shown in the table are net of unadvanced funds and unearned discounts
and fees. Required disclosure regarding maturity distribution is shown on pages
27 and 28.
<TABLE>
<CAPTION>
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Years Ended December 31,
1995 1994 1993 1992 1991
-------- -------- -------- -------- ------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Mortgage Loans:
Residential $235,204 47.0% $264,848 61.6% $203,574 70.1% $205,799 69.4% $268,436 72.1%
Commercial 53,504 10.7 25,786 6.0 28,755 9.9 38,134 12.9 45,776 12.3
Construction 14,210 2.8 15,527 3.6 14,482 5.0 7,194 2.4 6,246 1.7
--------- ---- --------- ---- --------- ----- --------- ---- --------- ----
Total mortgage loans 302,918 60.5 306,161 71.2 246,811 85.0 251,127 84.7 320,458 86.1
--------- ---- --------- ---- -------- ----- -------- ---- -------- ----
Commercial loans 66,737 13.4 55,377 12.9 15,416 5.3 8,602 2.9 11,663 3.1
--------- ---- --------- ---- --------- ----- --------- ---- --------- ----
Consumer loans:
Home equity 12,558 2.5 12,943 3.0 14,745 5.1 19,319 6.5 22,670 6.1
Automobile 76,590 15.3 34,906 8.1 2,435 0.8 5,182 1.7 1,212 0.3
Aircraft 14,478 2.9 522 0.1 --- 0.0 --- 0.0 --- 0.0
Other 26,770 5.4 19,902 4.7 11,100 3.8 12,404 4.2 16,061 4.4
--------------- ---------- ---- ---------- ----- --------- ---- --------- ----
Total consumer loans 130,396 26.1 68,273 15.9 28,280 9.7 36,905 12.4 39,943 10.8
--------- ---- --------- ---- --------- ----- --------- ---- --------- ----
Total loans $500,051 100.0% $429,811 100.0% $290,507 100.0% $296,634 100.0% $372,064 100.0%
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
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</TABLE>
Residential Mortgage Loans
The Bank has traditionally focused its lending activities on the origination of
residential first mortgage loans in its market area. In 1995 the Bank increased
its product array through the addition of several residential loan investors.
This action allowed the Bank to match the prior year's level of loans originated
while generating additional revenue in the form of fee income. At December 31,
1995, the residential mortgage loan portfolio was $235.2 million, representing
47.0% of the loan portfolio. Its residential first mortgage loan products
consist of six month, one-year and three-year adjustable-rate mortgages and
fixed-rate mortgages, having terms of 15 to 30 years.
4
<PAGE>
Commercial Real Estate Loans
The Bank also originates loans secured by commercial real estate, such as
manufacturing, retail, apartment and office buildings. At December 31, 1995,
First Essex's commercial real estate loan portfolio had an outstanding balance
of $53.5 million, representing 10.7% of First Essex's loan portfolio.
Generally, commercial real estate loans in the portfolio have been made to
finance the acquisition or retention of income producing properties. The current
policy of First Essex is to limit commercial real estate loans primarily to
properties in eastern Massachusetts and southern New Hampshire. In addition,
during 1995 the Bank purchased from another bank approximately $24.7 million of
commercial real estate loans, which consisted of 49 performing loans.
Commercial real estate loans generally reprice over periods ranging from six
months to five years based on a margin over a published prime rate or other
index.
Construction Loans
At December 31, 1995, the Bank's construction loan portfolio had an outstanding
balance of $14.2 million, representing 2.8% of the loan portfolio. At December
31, 1995, unadvanced commitments on construction loans totalled $10.5 million.
Construction loans are made to developers and builders for the construction of
single family properties. Construction loans have generally been made with
maturities of one year or less at a margin floating over the published prime,
subject to renewal or extension by the Bank. Additionally, loans are made to
qualified individuals for construction of single-family owner-occupied homes
that convert to permanent mortgages upon completion of construction.
Commercial Loans
At December 31, 1995, the portfolio of commercial loans totalled $66.7 million,
representing 13.4% of the loan portfolio.
The Bank offers various types of commercial loans, which are short term or have
adjustable rates at a margin above the prime rate, including secured and
unsecured demand loans, time loans, term loans, lines of credit and working
capital loans. Commercial loans are originated by the Bank's commercial lending
officers and supported by a credit, processing and documentation staff.
Consumer Loans
The portfolio of consumer loans, consisting of automobile loans, fully or
partially secured personal loans, boat loans, aircraft loans, second mortgage
loans and education loans, as well as unsecured personal loans, totalled $130.4
million at December 31, 1995, representing 26.1% of the loan portfolio.
Automobile loans include dealer indirect loans, as well as loans originated
directly in retail branches. The Bank offers a variable rate home equity line of
credit called "First Line Equity Credit". This product consists of a line of
credit, secured by a second mortgage on residential property, with a monthly
adjustable interest rate at a margin above a published prime rate.
Risks Associated with Commercial Real Estate, Commercial and Construction Loans
Commercial real estate and commercial lending involve significant additional
risks compared with one-to-four family residential mortgage lending, and
therefore typically account for a disproportionate share of delinquent loans and
real estate owned through foreclosure. Such lending generally involves larger
loan balances to single borrowers or groups of related borrowers than does
residential lending, and repayment of the loan depends in part on the underlying
business and financial condition of the borrower and is more susceptible to
adverse future developments. If the cash flow from income-producing property is
reduced (for example, because leases are not obtained or renewed), the
borrower's ability to repay the loan may be materially impaired. These risks can
be significantly affected by considerations of supply and demand in the market
for office, manufacturing and retail space and by general economic conditions.
As a result, commercial real estate and commercial loans are likely to be
subject, to a greater extent than residential property loans, to adverse
conditions in the economy generally, such as those prevailing at the present
time.
5
<PAGE>
Construction loans are, in general, subject to the same risks as commercial real
estate loans, but involve additional risks as well. Such additional risks are
due to uncertainties inherent in estimating construction costs, delays arising
from labor problems, shortages of material, uncertain marketability of a
complete project and other unpredictable contingencies that make it relatively
difficult to determine accurately the total loan funds required to complete a
project or the value of the completed project. Construction loan funds are
advanced on the security of the project under construction, which is of
uncertain value prior to the completion of construction. When a construction
project encounters cost overruns, marketing or other problems, it may become
necessary, in order to sustain the project and to preserve collateral values,
for the lender to advance additional funds and to extend the maturity of its
loan. In a declining market, there is no assurance that this strategy will
successfully enable the lender to recover outstanding loan amounts and interest
due. Moreover, foreclosing on such properties results in administrative expense
and substantial delays in recovery of outstanding loan amounts and provides no
assurance that the lender will recover all monies due to it, either by
developing the property, subject to regulatory limitations and to the attendant
risks of development, or by selling the property to another developer.
Residential Loan Servicing and Purchase and Sale of Loans
The Bank has a general policy of writing residential mortgage loans to meet the
requirements for sale in the secondary market. From time to time, the Bank sells
residential mortgage loans and residential loan servicing. Such loan sales
represent a potential source of liquidity to meet lending demand and deposit
flows. See Item 7 - "Management's Discussion and Analysis of Financial Condition
and Results of Operations - Asset/Liability Management."
At December 31, 1995, the Bank's loan servicing portfolio totalled $74.3
million.
NON-PERFORMING ASSETS
General
Non-performing assets consist of non-accruing and restructured loans (including
loans impaired under the Statement of Financial Accounting Standards ("SFAS")
No. 114, "Accounting by Creditors for Impairment of a Loan,"), other real estate
owned and other foreclosed property. In 1995, the Bank experienced a reduction
in the level of non-performing assets, and a corresponding reduction in the
level in the allowance for possible loan losses. For further information
regarding the impairment of loans see "Provision for Possible Loan Losses"
included in Item 7 - "Management's Discussion and Analysis of Financial
Condition and Results of Operations".
Non-Accruing Loans
It is the practice of the Bank to discontinue accrual of interest on all loans
for which payment of interest or principal is 90 days or more past due and such
other loans where collection of interest and principal is doubtful. All
previously accrued but uncollected interest is reversed against current period
interest income when a loan is placed on non-accrual status. At December 31,
1995, the Bank's non-accruing loans totalled $3.4 million. For further
information regarding the Bank's non-accruing loans, see Item 7 - "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
Financial Condition - Non-Performing Assets."
Restructured Loans
These are loans on which concessions have been made in light of the debtor's
financial difficulty with the objective of maximizing recovery and with respect
to which the renegotiated payment terms are being met. At December 31, 1995, the
Bank had restructured loans with principal balances of $1.0 million outstanding.
For further information regarding restructured loans, see Item 7 - "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
Non-Performing Assets."
6
<PAGE>
Foreclosed Property
Foreclosed property at December 31, 1995 totalled $1.8 million, compared to $3.0
million at December 31, 1994. Such properties were acquired through foreclosure.
There are no current commitments to expend additional funds in connection with
properties included in foreclosed property. However, the Bank may invest
additional funds in order to attempt to preserve their values and minimize
potential losses. There can be no assurance that the Bank's plans for the
disposition of these properties will be successful.
For further information regarding the Bank's foreclosed property, see Item 7 -
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Financial Condition - Non-Performing Assets."
INVESTMENT ACTIVITIES
The Bank maintains an investment portfolio to provide a source of interest and
dividend income and a potential source of liquidity to meet lending demand and
deposit flows. In addition, management believes that the investment portfolio
provides opportunities to increase the interest rate sensitivity of interest
earning assets. At December 31, 1995, the investment portfolio, consisting of
short-term investments, investment securities, mortgage-backed securities, stock
in the Federal Home Loan Bank of Boston and stock of the Savings Bank Life
Insurance Company of Massachusetts, was $275.9 million, or 34.1% of total
assets.
Interest and dividend income on the investment portfolio generated 32.3% of
total interest and dividend income for the year ended December 31, 1995. See
Item 7 - "Management's Discussion and Analysis of Financial Condition and
Results of Operations - Financial Condition - Investments" for further
information regarding the investment portfolio.
The Bank's investment strategy seeks to enhance liquidity and seeks to realize
current income while preserving principal. The Bank will generally invest only
in government or corporate bonds or securities issued in the United States and
will only purchase bonds which are rated A or higher.
DEPOSITS
The Bank offers a range of deposit accounts including regular passbook savings,
NOW, money market and demand deposit accounts. First Essex offers a number of
relationship products which allow customers to combine balances in checking and
savings accounts in order to avoid service and maintenance fees, and obtain free
banking services. It also includes discounts on installment loans and bonus
rates on certificates of deposit. The Bank also offers 60-day to 5 year term
deposit certificates. Interest rates on these certificates vary according to the
term selected and are based upon several indices, including the rates on
government securities with similar maturities. From time to time, the Bank
promotes various types of accounts with the intention of changing the maturity
schedule of its liabilities.
In February of 1995, the Bank opened its tenth banking center at 71 Main Street
in Andover, Massachusetts.
The Bank offers its retail banking customers a wide range of deposit services
and the convenience of drive-up ATMs. The Bank is a member of the NYCE(TM),
EXCHANGE(TM), TX(TM) and CIRRUS(TM) networks. These networks allow the Bank's
depositors access to their accounts through ATMs at the Bank, other banks and
locations nationwide and worldwide.
7
<PAGE>
COMPETITION
The Bank faces competition both in originating loans and in attracting deposits.
Competition in originating loans comes from a variety of sources, including, but
not limited to, other thrift institutions, commercial banks, mortgage companies,
insurance companies and consumer and commercial finance companies. The Bank
competes for loans principally on the basis of interest rates and loan fees, the
types of loans originated and the quality of services provided to borrowers. In
attracting deposits, the primary competitors are other thrift institutions,
commercial banks, mutual funds and credit unions. The ability to attract and
retain deposits depends on the ability to provide investment opportunities that
satisfy the requirements of investors with respect to rate of return, liquidity,
risk and other factors. The Bank competes for deposits on the basis of interest
rates and by offering convenient branch locations, extended business hours and
an automated teller network.
EMPLOYEES
At December 31, 1995, the Bank had 256 employees, of whom 38 were part-time.
None of the employees of the Bank are represented by a collective bargaining
group and management considers its relations with its employees to be good.
8
<PAGE>
ITEM 2. PROPERTIES
The following table sets forth certain information relating to properties owned
or used in banking activities at December 31, 1995.
<TABLE>
<CAPTION>
Owned Lease Renewal Total Office
First Essex Bank, FSB or Leased Expiration Date Option Through Space in Square Feet
- --------------------- --------- --------------- -------------- --------------------
<S> <C> <C> <C> <C>
Main Office (1):
296 Essex Street
Lawrence, MA Owned N/A N/A 32,000
Operations Center:
900 Chelmsford Street
Lowell, MA Leased May 12, 2000 May 11, 2010 31,478
Mortgage Origination Offices:
70 Walnut St.
Wellesley, MA Leased April 30, 1996 October 31, 1996 138
216 Lafayette Rd.
North Hampton, NH Leased October 31, 1996 N/A 1,064
Branch Offices (2):
71 Main Street (3)
Andover, MA Leased January 31, 2005 January 31, 2015 12,859
460 So. Union St.
Lawrence, MA Leased February 28, 2009 February 28, 2029 3,500
555 Broadway
Lawrence, MA Owned N/A N/A 2,000
211 No. Main St. (4)
Andover, MA Leased April 30, 1997 April 30, 2007 5,159
125 Merrimack St.
Methuen, MA Owned N/A N/A 3,000
15 Burnham Rd.
Methuen, MA Leased June 30, 2000 June 30, 2015 3,700
555 Chickering Rd
No. Andover, MA Leased March 31, 2002 March 31, 2012 3,000
750 Main St.
Haverhill, MA Owned N/A N/A 3,100
24 Orchard View Drive
Londonderry, NH Leased November 30, 1998 November 30, 2003 3,130
<FN>
(1) Includes two contiguous buildings at 284 Essex Street and 286-288 Essex
Street which were acquired in 1972 and 1980, respectively, as well as an
adjacent parking lot at 7 Lawrence Street which was acquired in 1981. In
addition, the Bank has a lease for 7,000 square feet of space at 276 Essex
Street, the building adjoining 284 Essex Street. The lease expires May 31, 1996
at which time there is an option to renew for an additional five years.
(2) Does not include lease of space at 2800 Lafayette Blvd., Portsmouth, New
Hampshire. The lease term expires December 31, 1997 and can be renewed for an
additional period of five years. However, in September 1994, $261,000,
representing the net present value of future minimum lease payments was
recognized as expense in connection with the decision to close the branch
office.
(3) In February 1995, the address of the principal executive offices moved to 71
Main Street, Andover, Massachusetts, which also serves as the corporate
headquarters for First Essex Bancorp, Inc.
(4) Includes two separate leases of 592 and 668 square feet utilized for
consumer loan origination purposes. The lease terms expire May 31, 1997, at
which time there is an option for renewal for an additional two years.
</FN>
</TABLE>
Management believes that the Company's existing facilities are adequate for the
conduct of its business.
9
<PAGE>
ITEM 3. LEGAL PROCEEDINGS
The Company is involved in various legal proceedings incident to its business,
none of which is believed by management to be material to the financial
condition or operations of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of security holders during the fourth
quarter of 1995.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND
RELATED SECURITY HOLDER MATTERS
First Essex Bancorp, Inc. common stock is traded over-the-counter on the
National Market System of the National Association of Securities Dealers, Inc.
Automated Quotation System (NASDAQ) under the symbol FESX.
At December 31, 1995, there were 6,023,267 shares outstanding and approximately
1,256 shareholders of record. This does not reflect the number of persons or
entities who hold their stock in nominee or street name through various
brokerage firms.
The price information regarding the Company's common stock in the following
table is based on high and low closing sales prices on NASDAQ.
- -----------------------------------------------------------------------------
Dividend
Price Per Share Declared
HIGH LOW per Share
----- ---- ---------
1995
First Quarter $8.750 $7.625 $.08
Second Quarter 8.750 8.000 .08
Third Quarter 11.000 8.125 .12
Fourth Quarter 12.000 10.375 .12
1994
First Quarter $9.250 $6.625 $.06
Second Quarter 9.875 6.750 .06
Third Quarter 10.500 9.000 .08
Fourth Quarter 9.000 6.875 .08
- ------------------------------------------------------------------------------
The only funds available to the Company for the payment of dividends are cash
and cash equivalents held at the holding company level, dividends from the Bank
and borrowings. In addition, bank regulatory authorities generally restrict the
amounts available for the payment of dividends by the Bank to First Essex to the
net profit of the Bank for that year, see Item 1 - "Business - Regulation -
Limitation on Capital Distributions". The Federal Reserve Act also restricts the
Bank in lending or advancing funds to First Essex unless such loans are
collateralized by specific obligations, and limits collateralized loans to 10%
of the Bank's capital stock and surplus.
10
<PAGE>
The Bank is prohibited from paying cash dividends, to the extent that any such
payment would reduce its capital below required regulatory capital levels or
would impair the liquidation account established in connection with its
conversion from mutual to stock form. See note 13 to the consolidated financial
statements included in response to Item 8 - "Financial Statements and
Supplementary Data" of this report for further discussion.
The payment of dividends by the Bank could carry significant adverse tax
consequences. To the extent that distributions by the Bank to the holding
company exceeds the Bank's current and accumulated earnings and profits (as
computed for federal income tax purposes for taxable years beginning after
December 31, 1951), those distributions would be treated for tax purposes as
first being made out of the Bank's bad debt reserve. In that case, the Bank
would have federal taxable income equal to approximately one and one-half times
the amount of the actual shareholder distribution that is treated as made out of
the Bank's bad debt reserves.
11
<PAGE>
ITEM 6. SELECTED FINANCIAL DATA
<TABLE>
<CAPTION>
At December 31,
1995 1994 1993 1992 1991
------ ------ ------ ------ -----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Balance Sheet Data:
Total assets $808,792 $806,872 $645,873 $506,913 $510,709
Loans receivable 493,499 422,574 282,760 284,875 353,760
Investment securities (1) 275,900 346,943 329,823 186,232 116,944
Foreclosed property 1,756 3,038 6,360 12,125 15,847
Deposits 491,469 456,878 398,233 412,218 449,032
Borrowed funds 245,569 279,948 185,001 40,000 9,417
Stockholders' equity 60,172 54,757 50,749 44,619 43,103
<CAPTION>
Years Ended December 31,
1995 1994 1993 1992 1991
------ ------ ------ ------ -----
(Dollars in thousands, except per share data)
<S> <C> <C> <C> <C> <C>
Operating Data:
Interest and
dividend income $60,914 $45,057 $ 36,183 $ 37,831 $ 45,347
Interest Expense 37,081 22,707 16,654 19,240 30,675
-------- -------- -------- --------- --------
Net interest income 23,833 22,350 19,529 18,591 14,672
Provision for loan losses 770 --- --- --- 10,952
Net gain (loss) on sales
of securities (13) --- --- 613 247
Gain on sale of mortgage loans
and mortgage servicing rights 1,431 260 730 234 316
Net gain (loss) on sales of
foreclosed property 6 141 895 943 (169)
Other income 2,290 2,301 2,465 2,252 1,897
Noninterest expenses 19,250 19,331 19,290 21,522 23,251
Income tax
expense (benefit) 75 (805) (2,621) 13 ---
---------- -------- --------- ---------- -------
Net earnings (loss) before
extraordinary item 7,452 6,526 6,950 1,098 (17,240)
Extraordinary item (2) --- --- --- --- 800
---------- ---------- ---------- ---------- -----------
Net income (loss) $ 7,452 $ 6,526 $ 6,950 $ 1,098 $(16,440)
======== ======== ======== ======== =========
Per Share Data:
Earnings (loss)
per share $ 1.22 $ 1.08 $ 1.15 $ .18 $ (2.73)
Dividends declared .40 .28 .11 .00 .00
Book value at
end of period 9.99 9.10 8.44 7.42 7.17
Selected Financial Ratios:
Return on average assets 0.91% 0.94% 1.24% 0.22% (3.08)%
Return on average equity 12.79 12.42 14.83 2.50 (31.13)
Average equity as a
percentage of average assets 7.09 7.56 8.34 8.94 9.88
Weighted average interest
rate spread 2.56 3.02 3.29 3.57 2.48
Net yield on average
earning assets 2.99 3.33 3.60 3.96 2.90
<FN>
(1) Investment securities include short term investments, U.S. government and
agency obligations, mortgage-backed securities, other bonds and obligations,
stock in the Federal Home Loan Bank of Boston and stock in the Savings Bank Life
Insurance Company.
(2) On December 31, 1991 the Company recorded the estimated value of its shares
in the Savings Bank Life Insurance Company.
</FN>
</TABLE>
12
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
General
The results of operations of the Company consist primarily of the results of
operations of the Bank which is the Company's sole subsidiary. Pretax income for
1995 rose $1.8 million or 32% over 1994. The improvement was in large part due
to the 18.6% increase in average earning assets combined with decreased levels
of nonperforming assets. See Item 1. "Business - Current Market
Conditions/Recent Operating Results."
Net income for the year ended December 31, 1995 totalled $7.5 million (or $1.22
per share) compared to $6.5 million (or $1.08 per share) for the same period in
1994. The increase in net income is mainly due to increases in net interest
income and noninterest income of $1.5 million and $1.1 million, respectively,
offset by an increase in the provision for possible loan losses of $770,000 and
a reduction in tax benefits when compared to the $805,000 recognized in 1994.
13
<PAGE>
Analysis of Average Yields Earned and Rates Paid
The following table presents an analysis of average yields earned and rates paid
for the years indicated:
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------------------------------
Years Ended December 31,
1995 1994 1993
---------------- ---------------- --------------
Interest Average Interest Average Interest Average
Average Earned/ Yield/ Average Earned/ Yield/ Average Earned/ Yield/
Balance Paid Rate Balance Paid Rate Balance Paid Rate
------- ---------- ------- ------- ------- ------- ------- ------- -------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Assets
Earning Assets
Short-term investments $ 6,735 $ 342 5.08% $2,457 $ 107 4.35% $ 11,398 $ 307 2.69%
Investment securities 316,501 19,354 6.11 343,303 18,114 5.28 243,940 12,982 5.32
Mortgage loans (1) 318,418 26,024 8.17 256,960 20,399 7.94 243,536 19,342 7.94
Consumer and commercial loans (1) 154,651 15,194 9.82 68,962 6,437 9.33 43,429 3,552 8.18
------- ------- ------- ------ -------- --------
Total loans 473,069 41,218 8.71 325,922 26,836 8.23 286,965 22,894 7.98
-------- ------- ------- ------ -------- --------
Total earning assets 796,305 60,914 7.65 671,682 45,057 6.71 542,303 36,183 6.67
-------- ------- ------- ------ -------- --------
Allowance for possible loan losses (6,447) (7,332) (9,826)
-------- ------- --------
Total earning assets less allowance
for possible loan losses 789,858 664,350 532,477
Other Assets 31,889 30,760 29,496
--------- -------- --------
Total Assets $821,747 $695,110 $561,973
========= ========= --------
Liabilities and Stockholders' Equity
NOW accounts $ 28,664 325 1.13% $ 30,086 354 1.18% $ 29,186 463 1.59%
Money market accounts 79,593 1,586 1.99 105,181 2,210 2.10 119,000 3,036 2.55
Savings accounts 51,069 816 1.60 58,514 780 1.33 62,072 1,090 1.76
Time deposits 294,473 17,117 5.81 203,500 9,080 4.46 174,285 7,941 4.56
-------- ------- -------- ------ -------- -------
Total interest bearing
deposits 453,799 19,844 4.37 397,281 12,424 3.13 384,543 12,530 3.26
Borrowed funds 274,956 17,237 6.27 218,553 10,283 4.71 108,616 4,124 3.80
-------- ------- -------- ------- -------- --------
Total interest bearing deposits
and borrowed funds 728,755 37,081 5.09 615,834 22,707 3.69 493,159 16,654 3.38
------- ------- --------
Demand deposits 23,550 15,982 12,238
Other liabilities 11,195 10,745 9,713
--------- ------- -------
Total liabilities 763,500 642,561 515,110
Stockholders equity 58,247 52,549 46,863
--------- ------- -------
Total liabilities and
stockholders' equity $821,747 $695,110 $561,973
========= -------- ========
Net interest income $23,833 $22,350 $ 19,529
--------- -------- --------
Weighted average rate spread 2.56% 3.02% 3.29%
----- ----- -----
Net yield on earning assets (2) 2.99% 3.33% 3.60%
===== ===== -----
<FN>
(1) Loans on a non-accrual status are included in the average balance.
(2) Net interest income before provision for possible loan losses divided by
average interest earning assets.
</FN>
- ---------------------------------------------------------------------------------------------------------------------------------
</TABLE>
14
<PAGE>
Rate/Volume Analysis
The following table presents, for the periods indicated, the changes in interest
and dividend income and the changes in interest expense attributable to changes
in interest rates and changes in the volume of interest earning assets and
interest bearing liabilities. The change attributable to both volume and rate
has been allocated proportionally to the two categories.
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------------------------------
Years ended December 31,
1995 Compared to 1994 1994 Compared to 1993
------------------------- -----------------------
Increase (Decrease) Increase (Decrease)
Due to Due to
------------------ -------------------
Volume Rate Total Volume Rate Total
------ ---- ----- ------ ---- -----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest and dividend income:
Mortgage loans $ 5,007 $ 618 $ 5,625 $1,066 $ (9) $1,057
Consumer and commercial loans 8,402 355 8,757 2,326 559 2,885
Investment securities (1,197) 2,437 1,240 5,242 (110) 5,132
Federal funds sold and short-term investments 214 21 235 (936) 736 (200)
------- ------ ------- --------- - ----- --------
Total interest and dividend income 12,426 3,431 15,857 7,698 1,176 8,874
-------- ------- ------- --------- ------- -------
Interest expense:
Savings deposits (595) (22) (617) (373) (872) (1,245)
Time deposits 4,792 3,245 8,037 1,300 (161) 1,139
Borrowed funds 3,039 3,915 6,954 4,982 1,177 6,159
-------- ------ ------- -------- ------- -------
Total interest expense 7,236 7,138 14,374 5,909 144 6,053
------- -------- ------- -------- ------ -------
Net interest and dividend income $ 5,190 $(3,707) $ 1,483 $ 1,789 $1,032 $ 2,821
======= ======== ======== ======== ======= =======
- --------------------------------------------------------------------------------------------------------------------------------
</TABLE>
Net Interest Income
Net interest income increased by $1.5 million to $23.8 million for the year
ended December 31, 1995, representing a 6.6% increase from $22.3 million in
1994. The increase in net interest income is primarily due to the $124.6 million
increase (18.6%) in average earning assets offset by a 0.34% decrease in the net
yield on average earning assets. The decrease in net yield is attributable to
the rising interest cost of borrowed funds and interest bearing deposits.
Net interest income increased by $2.8 million to $22.3 million for the year
ended December 31, 1994, representing a 14.5% increase from $19.5 million in
1993. The increase in net interest income is primarily due to the $129.4 million
increase (23.8%) in earning assets offset by a .27% decrease in the net yield on
average earning assets. The decrease in net yield is attributable to the rising
interest cost of borrowed funds.
Interest and Dividend Income
Interest and dividend income increased by $15.9 million (35.2%) to $60.9 million
for the year ended December 31, 1995 from $45.1 million in 1994. This increase
was primarily due to the increase in average earning assets. Average earning
assets increased from $671.7 million in 1994 to $796.3 million in 1995, an 18.6%
increase. The average weighted yield on loans rose .48% from the 1994 yield of
8.23% to 8.71% in 1995. The average weighted yield on investment securities rose
from the 1994 yield of 5.28% to 6.11% in 1995.
Interest and dividend income increased by $8.9 million (24.5%) to $45.1 million
for the year ended December 31, 1994 from $36.2 million in 1993. This increase
was primarily due to the increase in average earning assets. Average earning
assets increased from $542.3 million in 1993 to $671.7 million in 1994, a 23.8%
15
<PAGE>
increase. The average weighted yield on loans rose .25% from the 1993 yield of
7.98% to 8.23% in 1994, reflecting the rising interest rate environment during
1994. The average weighted yield on investment securities declined slightly from
the 1993 yield of 5.32% to 5.28% in 1994.
Interest Expense
Interest expense increased by $14.4 million (63.3%) to $37.1 million for the
year ended December 31, 1995 from $22.7 million in 1994. The main reason for the
increase was an increase of $112.9 million (18.3%) in interest bearing
liabilities utilized to support asset growth. The remainder was primarily due to
the 1.4% increase in the cost of funds. The total weighted cost of funds
increased from a level of 3.69% in 1994 to 5.09% in 1995.
Interest expense increased by $6.0 million (36.4%) to $22.7 million for the year
ended December 31, 1994 from $16.7 million in 1993. The main reason for the
increase was an increase of $122.7 million (24.9%) in interest bearing
liabilities utilized to support asset growth. The remainder was primarily due to
the .31% increase in the cost of funds, principally from the increase of
borrowed funds. The total weighted cost of funds increased from a level of 3.38%
in 1993 to 3.69% in 1994.
Provision for Possible Loan Losses
Beginning in 1995, the Company adopted SFAS No. 114, as amended by SFAS No. 118,
"Accounting by Creditors for Impairment of a Loan" ("SFAS No. 114"). Under SFAS
No. 114, the Company considers a loan impaired if it is ninety days or more past
due as to principal and interest, or if management's credit risk assessment
determines that it is probable that principal and interest will not be collected
as contractually scheduled. In addition, loans which are restructured at market
rates and comparable to loans with similar risks are considered impaired only in
the year of the restructuring, so long as they continue to perform according to
the restructured terms. Excluded from the impaired category, but otherwise
considered non-accruing loans, are small balance homogeneous loans which are
ninety days or more past due. Small balance homogeneous loans include
residential mortgage loans, residential construction loans to individuals
(excluding builder construction loans) and consumer loans. The Company evaluates
a loan's level of impairment by measuring the net present value of the expected
future cash flows using the loan's original effective interest rate, or at the
fair value of the collateral if the loan is collateral dependent. When the
difference between the net present value of the impaired loan (or fair value of
the collateral if the loan is collateral dependent) is lower than the recorded
investment of the loan, the difference is provided to expense with a resulting
valuation allowance.
Possible losses on loans are provided for under the accrual method of
accounting. Assessing the adequacy of the allowance for possible loan losses
involves substantial uncertainties and is based upon management's evaluation of
the amount required to meet estimated losses inherent in the loan portfolio
after weighing various factors. Among the factors management may consider are
the quality of specific loans, risk characteristics of the loan portfolio
generally, the level of non-accruing loans, current economic conditions, trends
in delinquencies and charge-offs and collateral values of the underlying
security. Ultimate losses may vary significantly from the current estimates.
Losses on loans, including impaired loans, are charged against the allowance
when management believes the collectability of principal is doubtful.
Provisions for possible loan losses totalled $770,000 for the year ended
December 31, 1995. Included in that amount was $356,000 of provisions for
possible losses related to loans impaired under SFAS No. 114. There were no
provisions for possible loan losses for the years 1994 and 1993. Provisions
result from management's continuing internal review of the loan portfolio as
well as its judgment as to the adequacy of the reserves in light of the
condition of the regional real estate market and the economy generally. As a
result of increased loans, there is an expectation that the Bank will continue
to find it necessary to make provisions for possible loan losses in the future.
See "Financial Condition - Non-Performing Assets."
16
<PAGE>
The Bank's total allowance for possible loan losses was $6.6 million or 194.3%
of non-accruing loans at December 31, 1995 compared to $7.2 million or 99.0% at
December 31, 1994 and $7.7 million or 70.0% at December 31, 1993.
Noninterest Income
Noninterest income consists of net gains or losses from sales of securities, net
gains from sales of loans and loan servicing rights, fee and other noninterest
income.
Noninterest income increased to $3.7 million for the year ended December 31,
1995 compared to $2.6 million in 1994. The primary reason for the increase from
1994 to 1995 was increased gains from sales of loans and loan servicing rights,
which rose by $1.2 million from the gain of $260,000 in 1994 to the gain of $1.4
million in 1995. Loan fees also increased by $84,000 from $393,000 in 1994 to
$477,000 in 1995.
Noninterest income decreased to $2.6 million for the year ended December 31,
1994 compared to $3.2 million in 1993. The primary reason for the decrease from
1993 to 1994 was decreased gains from sales of loans which fell by $470,000 from
the gain of $730,000 in 1993 to the gain of $260,000 in 1994. Loan fees also
decreased by $251,000 from $644,000 in 1993 to $393,000 in 1994.
Noninterest Expenses
Noninterest expenses increased by $54,000 (0.3%) to $19.2 million for the year
ended December 31, 1995 compared to $19.2 million in 1994. This increase is
primarily due to a $1.3 million increase in salary and employee benefits, and
building and equipment costs, offset by a decrease of $1.2 million in foreclosed
property expenses.
Noninterest expenses increased by $0.8 million (4.3%) to $19.2 million for the
year ended December 31, 1994 compared to $18.4 million in 1993. This increase is
primarily due to a $1.3 million increase in salary and employee benefits, offset
by decreases in various foreclosed property expenses.
Salaries and employee benefits increased by $855,000 (10.5%) to $9.0 million for
the year ended December 31, 1995 from $8.1 million in 1994 and $6.8 million in
1993. The increases for both years were primarily due to costs associated with
increases in personnel of 6% in 1995 and 10% in 1994 to support business growth.
Building and equipment costs increased $456,000 to $3.3 million for 1995
compared to $2.8 million in 1994 and $2.6 million in 1993. The increase in 1995
was due in part to costs associated with the opening of our new branch in
Andover, Massachusetts as well as the consolidation of our operations from
multiple low technology sites to a single high technology site in Lowell,
Massachusetts.
Expenses associated with foreclosed property totalled $784,000 for the year
ended December 31, 1995 compared to $2.0 million in 1994. These expenses include
$361,000 of additional write-downs of the carrying values of properties during
1995 compared to $1.1 million in 1994. Other expenses associated with the
ownership of foreclosed property totalled $423,000 in 1995 compared to $934,000
in 1994. While the regional economy and real estate market continues to recover
from the difficulties of the past several years, there is no assurance that the
Bank will not experience further write-downs in the carrying values of
foreclosed property.
17
<PAGE>
Expenses associated with foreclosed property totalled $2.0 million for the year
ended December 31, 1994 compared to $3.0 million in 1993. These expenses include
$1.1 million of additional write-downs of the carrying values of properties
during 1994 compared to $1.4 million in 1993. Other expenses associated with the
ownership of foreclosed property totalled $934,000 in 1994 compared to $1.1
million in 1993.
Other operating expenses increased by $83,000 (.02%) to $6.2 million for the
year ended December 31, 1995. During 1995 the FDIC lowered its deposit insurance
rates which resulted in a $363,000 reduction in deposit insurance expense. This
was offset by an overall 8.5% increase in other operating expenses. Other
operating expenses for 1994 and 1993 remained flat at $6.1 million
During 1994 the Company closed two branch offices at an estimated cost of
$537,000, which was offset by a recovery of $420,000 from the opening of a
branch office previously abandoned.
Income Taxes
The net provision for income taxes amounted to $75,000 in 1995 compared to a
benefit of $805,000 recorded in 1994. The amounts recorded in each year were
based on management's quarterly review of the realizability of the deferred tax
asset, and reflects management's analysis of future taxable income. Management
has valued the deferred tax asset in accordance with regulatory guidelines which
provide for a one year income outlook and which results in a valuation reserve
of $4.2 million at December 31, 1995. The Company has achieved three consecutive
years of profitability and has a favorable future earnings outlook. There has
also been a significant decline in nonperforming assets. To the extent the
Company utilized an income outlook beyond the one year regulatory guideline,
there could have been a significant tax benefit recorded in 1995.
18
<PAGE>
FINANCIAL CONDITION
Total assets amounted to $808.8 million at December 31, 1995, an increase of
$1.9 million or .24% from $806.9 million at December 31, 1994. During 1995 there
was an increase of $70.2 million in loans and a decrease of $71.0 million in
investment and mortgage-backed securities.
Loans
At December 31, 1995, the loan portfolio, excluding the allowance for possible
loan losses, was $500.1 million, representing 61.8% of total assets, compared to
$429.8 million or 53.3% of total assets at December 31, 1994. See Item 1 -
"Business - Lending Activities - General" for a table setting forth the
composition of the loan portfolio of the Bank at the end of each of the past
five years.
Loan Origination
The following table summarizes the activity for loan originations for the three
years ended December 31, 1995:
- -------------------------------------------------------------------------------
1995 1994 1993
---- ---- ----
(Dollars in thousands)
Residential $ 91,700 $109,100 $101,900
Commercial Real Estate 15,800 14,700 3,800
Construction 42,800 43,600 31,800
-------- -------- --------
Total 150,300 167,400 137,500
Commercial 32,100 51,300 9,000
-------- -------- --------
Aircraft 15,700 700 --
Automobile 64,000 37,400 --
Other Consumer 14,600 15,000 9,400
-------- -------- --------
Total 94,300 53,100 9,400
Total Loan Originations $276,700 $271,800 $155,900
======== ======== ========
- -------------------------------------------------------------------------------
The increases in loan originations are primarily attributable to stabilization
in the New England commercial real estate market and an increase in consumer
borrowing demand in the Massachusetts and New Hampshire economies generally.
During 1994 the Bank initiated an indirect automobile lending program which
resulted in $64.0 million and $37.4 million of originations for the years ending
December 31, 1995 and 1994, respectively. Originations of aircraft loans, a new
lending activity for the Bank, totalled $15.7 million in 1995 compared to
$700,000 in 1994.
Non-Performing Assets
Non-performing assets consist of non-accruing and restructured loans (including
loans impaired under SFAS No. 114), and foreclosed property. Non-performing
assets totalled $6.2 million at December 31, 1995, compared to $10.3 million at
December 31, 1994 and $17.4 million at December 31, 1993. See Item 1 - "Business
- - Current Market Conditions."
The Bank's practice is to discontinue the accrual of interest on all loans
(including loans impaired under SFAS No. 114) for which payment of interest or
principal is ninety days or more past due or for such other loans as considered
necessary by management if collection of interest and principal is doubtful.
When a loan is placed on non-accrual status, all previously accrued but
uncollected interest is reversed against current period interest income.
19
<PAGE>
At December 31, 1995, the principal balance of restructured loans was $1.0
million. There were no restructured loans outstanding in 1994 and 1993.
If the non-accruing and restructured loans at December 31, 1995 and 1994 had
been current in accordance with their original terms, the amount of interest
income that would have been recorded is $389,000 and $754,000, respectively. The
amount of interest collected and recorded as income in 1995 on these loans was
$511,000. The amount of interest collected on these loans in 1994 was $576,000
of which $116,000 was recorded as income.
Foreclosed property at December 31, 1995 totalled $1.8 million compared to $3.0
million at December 31, 1994 and consists mainly of real estate collateral from
loans which were foreclosed.
At December 31, 1995, the recorded investment in loans that are considered to be
impaired under SFAS No. 114 totalled $1.9 million of which $663,000 had a
related allowance for possible loan losses of $272,000. The remaining $1.2
million of impaired loans did not require a related allowance for possible loan
losses. The average recorded investment in impaired loans during 1995 was
approximately $1.4 million.
Interest income recognized on impaired loans, using the cash basis of
accounting, amounted to approximately $166,000 for the year ended December 31,
1995.
The following table shows the composition of non-performing assets for the five
years ended December 31, 1995.
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------
1995 1994 1993 1992 1991
---- ---- ---- ---- ----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Non-accruing loans:
Real estate $ 2,559 $ 6,548 $ 9,743 $15,816 $30,374
Other 814 776 1,325 1,974 2,768
------- ------- ------- ------- -------
Total non-accruing loans 3,373 7,324 11,068 17,790 33,142
Restructured loans 1,043 -- -- 4,447 4,325
Foreclosed property 1,756 3,038 6,360 12,125 15,847
------- ------- ------- ------- -------
Total non-performing assets $ 6,172 $10,362 $17,428 $34,362 $53,314
======= ======= ======= ======= =======
Percentage of non-performing
to total assets 0.76% 1.28% 2.70% 6.78% 10.44%
Percentage of allowance for
possible loan losses
to non-accruing loans 194.3% 98.82% 70.00% 66.10% 55.20%
- -----------------------------------------------------------------------------------------------
</TABLE>
The following table summarizes the activity of foreclosed property during the
year ended December 31, 1995:
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------
Other
Residential Construction Commercial Repossessed
Real Estate Real Estate Real Estate Assets Total
----------- ------------ ----------- ------------ -----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Balance at beginning of year $ 558 $ 822 $1,615 $ 43 $3,038
Transfer from loans 982 --- 55 1,619 2,656
Write-downs (61) (14) (286) --- (361)
Sales (1,073) (768) (233) (1,503) (3,577)
------- -------- -------- ------- -------
Balance at end of year $ 406 $ 40 $1,151 $ 159 $1,756
======= ======== ======= ======= ======
- ------------------------------------------------------------------------------------------------------------------
</TABLE>
20
<PAGE>
Allowance for Possible Loan Losses
The following table summarizes the activity in the allowance for possible loan
losses for the five years ended December 31, 1995:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------
1995 1994 1993 1992 1991
---- ---- ---- ---- ----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Balance at beginning of year $7,237 $ 7,747 $11,759 $18,304 $17,601
Provision for possible loan losses 770 ---- ---- ---- 10,952
Charge offs:
Mortgage (1,448) (1,703) (4,081) (5,323) (7,893)
Construction (96) (5) ---- (652) (1,179)
Commercial (230) (248) (1,023) (788) (3,035)
Consumer (711) (155) (467) (583) (792)
------- --------- --------- --------- ---------
Total Charge-offs (2,485) (2,111) (5,571) ( 7,346) (12,899)
------- --------- --------- -------- --------
Recoveries:
Mortgage 234 535 649 479 922
Construction 279 240 2 7 44
Commercial 431 727 815 240 1,661
Consumer 86 99 93 75 23
------- --------- ---------- ---------- --------
Total recoveries 1,030 1,601 1,559 801 2,650
Net Charge-offs (1,455) (510) (4,012) ( 6,545) (10,249)
--------- ------ --------- -------- --------
Balance at end of year $6,552 $7,237 $ 7,747 $11,759 $18,304
======= ======= ======== ======== =======
Ratio of net charge-offs to
average loans outstanding 0.30% 0.16% 1.40% 1.98% 2.54%
- --------------------------------------------------------------------------------------------------------------------------
</TABLE>
The following table summarizes the allocation of the allowance for possible loan
losses for the five years ended December 31, 1995:
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------------------------------------
1995 1994 1993 1992 1991
---------- ---------- ---------- ---------- -------
Loan Loan Loan Loan Loan
Category Category Category Category Category
as a % of as a % of as a % of as a % of as a % of
Total Total Total Total Total
Amount Loan Amount Loan Amount Loan Amount Loan Amount Loan
Loan Category Allocated Portfolio Allocated Portfolio Allocated Portfolio Allocated Portfolio Allocated Portfolio
- ------------- --------- --------- --------- --------- --------- --------- --------- --------- --------- ---------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Real Estate:
Residential $2,848 47% $ 4,835 62% $ 1,070 70% $ 3,232 70% $ 5,607 72%
Commercial 1,059 11 1,032 6 2,602 10 3,873 13 6,342 12
Construction 381 3 170 4 2,297 5 2,294 2 2,939 2
----- ------ ----- ------ -------- ------ -------- ------ -------- -----
Total Real Estate 4,288 61 6,037 72 5,969 85 9,399 85 14,888 86
Commercial 758 13 482 13 1,389 5 1,597 3 2,145 3
Consumer 1,506 26 718 15 389 10 763 12 1,271 11
------ ----- ------ ------ -------- ------ -------- ----- -------- -----
Totals $6,552 100% $7,237 100% $7,747 100% $11,759 100% $18,304 100%
------ ---- ------ ---- ------ ---- ------- ---- ------- ----
<FN>
Notwithstanding the foregoing allocations, the entire allowance for possible
loan losses is available to absorb charge-offs in any category of loans.
</FN>
- -----------------------------------------------------------------------------------------------------------------------------
</TABLE>
21
<PAGE>
Investments
At December 31, 1995, the Company's investment portfolio, consisting of
short-term investments, investment securities, mortgage-backed securities,
Federal Home Loan Bank ("FHLB") stock and Savings Bank Life Insurance Company of
Massachusetts stock, totalled $275.9 million or 34.1% of assets, compared to
$346.9 million or 43.0% of assets at December 31, 1994. The portfolio included
U.S. government and agency obligations having a book value of $17.1 million and
a fair value of $17.1 million and mortgage-backed securities with a book value
of $209.8 million and a fair value of $207.3 million. Interest and dividend
income on the Company's investment portfolio generated 32.3% of total interest
and dividend income for the year ended December 31, 1995. During 1995 the
investment portfolio decreased by $71.0 million.
To identify and control risks associated with the investment portfolio, the
Company has established policies and procedures, which include stop loss limits
and stress testing on a periodic basis.
The Company does not have any investments in off balance sheet financial
instruments, except as noted in footnote 9 to the consolidated financial
statements included in response to Item 8 - "Financial Statements and
Supplementary Data" of this report.
The following table sets forth the composition of the investment portfolio for
the years indicated:
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------------
1995 1994 1993
-------------- -------------- ------------
(Dollars in thousands)
<S> <C> <C> <C>
Short-term investments:
Interest bearing deposits $ 5,086 $ 217 $ 24
Federal funds sold 4,500 2,500 3,550
--------- --------- ---------
Total short-term investments 9,586 2,717 3,574
Investment securities held-to-maturity:
U.S. government & agency obligations 17,080 54,271 38,887
Mortgage backed securities 118,018 209,747 218,384
Other bonds and obligations --- 31,039 22,133
--------- --------- ---------
Total investment securities held-to-maturity 135,098 295,057 279,404
Investment securities available-for-sale:
Mortgage-backed securities 91,781 35,200 36,401
Other bonds and obligations 23,372 --- ---
------- -------- -------
Total investment securities available for sale 115,153 35,200 36,401
Stock in Federal Home Loan Bank of Boston 14,869 12,775 9,250
Stock in Savings Bank Life Insurance Company 1,194 1,194 1,194
--------- --------- ----------
Total investments $275,900 $346,943 $329,823
======== ======== ========
Percent of total assets 34.1% 43.0% 51.1%
<FN>
For further information regarding the Company's investment portfolio,
including information regarding amortized cost and fair value as of December 31,
1995, see notes 1, 2 and 18 to the Company's consolidated financial statements
included in response to Item 8 hereof.
</FN>
- ---------------------------------------------------------------------------------------------------------------
</TABLE>
22
<PAGE>
Set forth below is a breakdown of yields and scheduled maturities for the
amortized cost of indicated investment securities at December 31, 1995.
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------------
U.S. Other
government bonds Mortgage-
and agency and backed
obligations obligations securities Total
(Dollars in thousands)
<S> <C> <C> <C> <C>
Due in 1 year or less:
Amount $17,080 $3,810 2,841 $23,731
Yield 6.05% 6.71% 6.28% 6.18%
Due from 1 to 2 years:
Amount --- 1,406 21,728 23,134
Yield --- 6.79% 4.86% 4.97%
Due from 2 to 3 years:
Amount --- 3,311 13,159 16,470
Yield --- 5.46% 4.88% 5.00%
Due from 3 to 5 years:
Amount --- 14,914 --- 14,914
Yield --- 5.62% --- 5.62%
Due from 5 to 10 years:
Amount --- 158 11,254 11,412
Yield --- 6.80% 5.05% 5.08%
Due after 10 years:
Amount --- --- 161,267 161,267
Yield --- --- 6.51% 6.51%
----------- ----------- --------- ---------
Total
Amount $17,080 $23,599 $210,249 $250,928
Yield 6.05% 5.85% 6.15% 6.12%
- ------------------------------------------------------------------------------------------------------------------------
</TABLE>
23
<PAGE>
Deposits
Deposits have historically been the Bank's primary source of funds for lending
and investment activities. Deposit flows vary significantly and are influenced
by prevailing interest rates, market conditions, economic conditions and
competition. At December 31, 1995 the Bank had total deposits of $491.5 million,
representing a net increase of $34.6 million compared to $456.9 million at
December 31, 1994. During 1995, the Bank aggressively marketed time deposits
resulting in increases of $45.6 million in time deposits, offset by a decrease
of $11.0 million in other deposits.
While deposit flows are by nature unpredictable, management attempts to manage
its deposits through selective pricing. Because of the uncertainty of market
conditions, it is not possible for the Bank to predict how aggressively it will
compete for deposits in the future or the likely effect of any such decision on
deposit levels, interest expense and net interest income. Strategies are
currently in place to aggressively market more stable deposit sources in such
accounts as NOW and Regular Checking.
The following table sets forth the composition of average deposits and rates for
the years indicated with respect to categories exceeding 10% of total average
deposits:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
1995 1994 1993
------ ------ -----
Weighted Weighted Weighted
Average Average Average
Interest Interest Interest
Amount Rate Amount Rate Amount Rate
------ -------- ------ --------- ------ --------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
NOW $ 28,664 1.13% $ 30,086 1.18% $ 29,186 1.59%
Money market accounts 79,593 1.99 105,181 2.10 119,000 2.55
Savings and notice accounts 51,069 1.60 58,514 1.33 62,072 1.76
Time deposits 294,473 5.81 203,500 4.46 174,285 4.56
------- -------- --------
Total interest bearing deposits 453,799 4.37 397,281 3.13 384,543 3.26
Demand deposits 23,550 15,982 12,238
--------- --------- --------
Total deposits $477,349 $413,263 $396,781
======== ======== ========
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
At December 31, 1995, 1994, and 1993, outstanding certificates of deposits in
denominations of $100,000 and over had maturities as follows:
- -------------------------------------------------------------------------------
Remaining Term to Maturity 1995 1994 1993
- -------------------------- --------- ----- -----
(Dollars in thousands)
Three months or less $ 3,265 $ 2,821 $ 3,973
Three to six months 8,324 2,596 2,728
Six to twelve months 10,549 3,195 2,369
Over twelve months 2,067 11,246 4,144
-------- -------- --------
Total $24,205 $19,858 $13,214
======= ======= =======
- ------------------------------------------------------------------------------
24
<PAGE>
Borrowed Funds
The Bank is a member of the Federal Home Loan Bank ("FHLB") and is entitled to
borrow from the FHLB by pledging certain assets. The Bank also utilizes short
term repurchase agreements, generally with maturities less than three months, as
an additional source of funds. Repurchase agreements are secured by U.S.
government and agency securities. Borrowings are an alternative source of funds
compared to deposits and totalled $245.6 million at December 31, 1995 compared
to $279.9 million and $185.0 million at December 31, 1994 and 1993,
respectively. The decrease in borrowings in 1995 from 1994 was a result of an
increase in deposit accounts. The increase in borrowings in 1994 was used to
fund loan growth.
The following table summarizes the maximum and average amounts of short-term
borrowings outstanding during 1995, 1994 and 1993 together with the weighted
average interest rates thereon.
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------------------
For the Year Ended December 31, 1995 At December 31, 1995
------------------------------------ --------------------------
Maximum Average Weighted Weighted
Amount Amount Average Amount Average
Outstanding Outstanding Interest Rate Outstanding Int. Rate
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
FHLB Borrowings $285,372 $263,298 6.22% $219,673 6.10%
Repurchase Agreements 27,019 8,432 5.50 25,896 5.72
<CAPTION>
For the Year Ended December 31, 1994 At December 31, 1994
------------------------------------ --------------------------
Maximum Average Weighted Weighted
Amount Amount Average Amount Average
Outstanding Outstanding Interest Rate Outstanding Int. Rate
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
FHLB Borrowings $255,489 $207,067 4.66% $225,017 6.10%
Repurchase Agreements 55,131 11,399 5.47 54,931 5.94
<CAPTION>
For the Year Ended December 31, 1993 At December 31, 1993
------------------------------------ --------------------------
Maximum Average Weighted Weighted
Amount Amount Average Amount Average
Outstanding Outstanding Interest Rate Outstanding Int. Rate
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
FHLB Borrowings $185,001 $108,722 3.80% $185,001 3.82%
- ----------------------------------------------------------------------------------------------------------------------------
</TABLE>
25
<PAGE>
ASSET/LIABILITY MANAGEMENT
The Bank's asset/liability management strategy is designed to increase net
interest income and provide adequate earnings in expected future interest rate
environments. As part of this strategy, a balance is sought between the
repricing characteristics of its' earning assets and funding sources while
maximizing the spread between interest income and expense. The Bank adjusts the
level of its liquid assets and the mix of its loans and investments based on
management's judgment as to the quality of specific investment opportunities and
the relative attractiveness of their maturities and yields.
In order to achieve a better repricing balance between its assets and
liabilities, the Bank continued to originate and hold in portfolio adjustable
rate residential mortgage loans. The Bank has a general policy of writing
substantially all newly originated fixed rate residential loans to meet the
requirements for sale in the secondary market. During 1995 the Bank originated
$91.7 million of residential mortgages. Of that amount, $78.7 million was sold.
The Bank's commercial real estate, construction, consumer, and commercial
business lending programs also provide opportunities to better match the
interest rate sensitivity of its loan portfolio and liabilities due to the
adjustable rate or short term repricing characteristics of these types of loans.
Total loans grew by $70.2 million during the year.
During 1995 investments declined by $71.0 million due to maturities,
amortization and prepayments. Most of this cash was redeployed to fund the
growth in the loan portfolio.
The Bank offers competitive rates for longer term deposits. The rising interest
rate environment early in 1995 made these types of investments more attractive
to consumers and led to an increase in deposits of $34.6 million over the course
of the year. Some of this growth was at the expense of lower yielding money
market and savings deposits.
It is management's opinion that interest rates will continue to exhibit
volatility. With this in mind, the Bank will continue to follow a strategy which
seeks to achieve a balance in the repricing characteristics of its assets and
liabilities and provide adequate earnings in all plausible interest rate
environments.
26
<PAGE>
The following table sets forth the maturity and repricing information relating
to interest sensitive assets and liabilities at December 31, 1995. Fixed-rate
mortgage loans and mortgage-backed investments are shown in the table in the
time period corresponding to computed principal amortization based on their
respective contractual maturity. Short term investments, adjustable-rate loans,
investment securities and adjustable mortgage-backed investments are allocated
to the period in which the rates would be next adjusted. The table reflects an
"expected" prepayment assumption on residential loans and mortgage-backed
investments. This prepayment assumption was derived from both past experience
and a market consensus of prepayment speeds for similar types of loans and
mortgage-backed investments. Since regular savings accounts and NOW accounts are
not subject to contractual interest rate adjustments, such accounts have been
included in the other deposits category and are assumed to reprice within 1-3
years. The Bank believes these deposits are less interest rate sensitive over
long periods of time.
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------------
December 31, 1995
1-180 181-365 1-3 3-5 5+
Days Days Years Years Years Total
----- ------- ----- ----- ----- -----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Short-term investments $ 9,586 $ --- $ --- $ --- $ --- $ 9,586
Investment securities 54,130 184 999 --- 1,201 56,514
Mortgage-backed securities 89,573 69,316 32,301 3,842 14,768 209,800
Loans held for sale 5,821 --- --- --- --- 5,821
Fixed rate loans 27,512 20,342 50,257 50,985 111,876 260,972
Adjustable rate loans 95,484 53,489 22,540 48,036 13,709 233,258
--------- -------- -------- ------- ------- -------
Total rate sensitive assets 282,106 143,331 106,097 102,863 141,554 775,951
-------- ------- -------- ------- ------- -------
Interest-bearing liabilities:
Money market deposit accounts 73,730 --- --- --- --- 73,730
Certificates of deposit 103,767 69,242 70,850 24,658 38,182 306,699
Other deposits --- --- 80,649 --- --- 80,649
Borrowed funds 111,996 37,000 96,493 --- 80 245,569
-------- -------- ------- -------- ------- --------
Total rate sensitive liabilities 289,493 106,242 247,992 24,658 38,262 706,647
-------- ------- ------- -------- ------- --------
Excess (deficiency) of
interest sensitive assets
over interest sensitive
liabilities $ (7,387) $37,089 $(141,895) $ 78,205 $103,292 $ 69,304
========= ======= ========== ======== ========= ========
Cumulative excess
(deficiency) of interest
sensitive assets over
interest sensitive
liabilities $ (7,387) $29,702 $(112,193) $(33,988 $ 69,304
========= ======= ========== ======== =========
Cumulative excess
(deficiency)
percentage of
total assets (0.91)% 3.67% (13.87)% (4.20)% 8.57%
- ----------------------------------------------------------------------------------------------------------------
</TABLE>
27
<PAGE>
The following table reflects the scheduled maturities of selected loans at
December 31, 1995:
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------
One
One Through Over
Year Five Five
or Less Years Years Total
(Dollars in thousands)
<S> <C> <C> <C> <C>
Construction loans $14,210 $ --- $ --- $14,210
Commercial loans 14,640 52,097 --- 66,737
-------- ------- -------- --------
Total $28,850 $52,097 $ --- $80,947
======= ======= ======== =======
<CAPTION>
A summary of the above categories of loans due after one year as to the rate
variability follows (dollars in thousands):
<S> <C>
With predetermined rates $21,471
With floating or adjustable rates 30,626
Total maturing or repricing after one year $52,097
=======
- ----------------------------------------------------------------------------------------------------------
</TABLE>
LIQUIDITY AND CAPITAL RESOURCES
The Bank's principal sources of liquidity are customer deposits, borrowings from
the FHLB, repurchase agreements, scheduled amortization and prepayments of loan
principal, cash flow from operations, maturities of various investments and loan
sales.
Management believes it is prudent to maintain an investment portfolio that not
only provides a source of income, but also provides a potential source of
liquidity to meet lending demand and deposit flows. The Bank adjusts the level
of its liquid assets and the mix of its loans and investments based upon
managements's judgment as to the quality of specific investment opportunities
and the relative attractiveness of their maturities and yields. At December 31,
1995, short-term investments, bonds and obligations, and mortgage-backed
investments totalled $275.9 million, 23% of which either matures or is estimated
to be prepaid within one year. At December 31, 1994, short term investments,
bonds and obligations, and mortgage backed investments totalled $346.9 million,
73% of which matured within one year.
At December 31, 1995, the Bank had total outstanding borrowings of $245.6
million, 61% of which matures within one year. In 1994 the Bank had outstanding
borrowings of $279.9 million, 74% of which matured in one year.
At December 31, 1995, the Bank had outstanding commitments to loan funds under
mortgage, construction and commercial loans and home equity lines of credit,
amounting to $56.0 million, compared to $52.9 million in 1994. Management
believes the sources of liquidity previously discussed are sufficient to meet
its commitments.
Net cash provided by operating activities totalled $5.9 million in 1995 compared
to $13.8 million in 1994. Net income was $7.5 million compared to a net income
of $6.5 million for the respective periods. Included in these amounts were
non-cash write-downs of foreclosed properties of $361,000 in 1995 and $1.0
million in 1994. The provision for possible loan losses recorded in 1995 was
$770,000. There was no provision for possible loan losses recorded for 1994. Net
28
<PAGE>
cash provided by operating activities totalled $13.8 million in 1994 compared to
$9.9 million in 1993. Net income was $6.5 million compared to a net income of
$7.0 million for the respective periods. Included in these amounts were non-cash
write-downs of foreclosed properties of $1.0 million in 1994 and $1.4 million in
1993. No provision for possible loan losses was recorded in 1994 or 1993.
Net cash provided by investing activities totalled $5.8 million for the year
ended December 31, 1995 compared to net cash used of $162.7 million in 1994 and
$157.2 million in 1993. The 1995 decrease in net cash used by investing
activities over 1994 was primarily attributable to a reduction in the purchase
of investment securities. The 1994 increase in net cash used by investing
activities over 1993 was primarily attributable to increased loan originations.
Net cash used in financing activities totalled $3.0 million for the year ended
December 31, 1995 compared to net cash provided of $152.4 million for the
comparable period in 1994 and $130.4 million in 1993. Net cash used to decrease
borrowed funds (net of repayments) totalled $34.4 million in 1995, compared to
$94.9 million (net of repayments) of cash provided in 1994. Net cash provided by
deposits totalled $34.6 million in 1995 compared to of $58.6 million in 1994.
Net cash of $2.2 million was used to pay dividends in 1995.
The Bank is in compliance with and exceeds Federal regulatory capital
requirements. The standards are 3% core capital, and 8% risk-adjusted capital on
December 31, 1995.
IMPACT OF INFLATION
The financial statements and related data presented herein have been prepared in
accordance with generally accepted accounting principles which require
measurement of financial position and operating results in terms of historical
dollars without considering changes in the relative purchasing power of money
over time due to inflation.
An important concept in understanding the effect of inflation on financial
institutions is the distinction between monetary and non-monetary items. In a
stable environment, monetary items are those assets and liabilities which are or
will be converted into a fixed amount of dollars regardless of changes in
prices. Examples of monetary items include cash, investment securities, loans,
deposits and borrowings. Non-monetary items are those assets and liabilities
which gain or lose general purchasing power as a result of the relationships
between specific prices for the items and price change levels. Examples of
non-monetary items include premises and equipment and real estate in
foreclosure. In the recent environment in the New England region, where real
estate values have dramatically decreased, the deflationary impact of changing
prices of real estate securing loans significantly affects a financial
institution's performance. Additionally, interest rates do not necessarily move
in the same direction, or in the same magnitude, as the prices of goods and
services as measured by the consumer price index. In a volatile interest rate
environment, liquidity and the management of the maturity structure of assets
and liabilities are critical in maintaining acceptable profitability levels.
RECENT ACCOUNTING DEVELOPMENTS
Statement of Financial Accounting Standards ("SFAS") No. 109, "Accounting for
Income Taxes" became effective for the Company in 1993 and requires a balance
sheet approach in accounting for the effects of income taxes. A tax provision of
$75,000 was recorded in 1995 compared to a benefit of $805,000 recorded in 1994.
There was no cumulative effect of this change in accounting principle as of
January 1, 1993 on the accompanying consolidated financial statements.
As of December 31, 1993, the Company adopted SFAS No. 115, entitled "Accounting
for Certain Debt and Equity Securities." SFAS No. 115 establishes standards of
financial accounting and reporting for investments in equity securities that
have readily determinable fair values and all investments in debt securities.
29
<PAGE>
The effect of implementing SFAS No. 115 was that certain investment securities
were designated as available-for-sale and adjustments related to unrealized
gains and losses with respect thereto were reflected in stockholders' equity, at
December 31, 1993.
At December 31, 1995 the Bank reassessed its classification of investment
securities held-to-maturity and reclassified $82.3 million of investment
securities available-for-sale as allowed by the special report of implementation
of SFAS No. 115. This reclassification does not call into question the Company's
intent to hold its remaining investment securities classified as
held-to-maturity.
In May, 1993 the Financial Accounting Standards Board (FASB) issued SFAS No.
114, "Accounting by Creditors for Impairment of a Loan," as amended by SFAS No.
118 ("SFAS No. 114, as amended"), which requires that impaired loans, as
defined, be measured based on the present value of expected future cash flows
discounted at the loan's effective interest rate or, as a practical expedient,
at the loan's observable market price or the fair value of the collateral if the
loan is collateral-dependent. This pronouncement amends SFAS No. 5, "Accounting
for Contingencies," to clarify that a creditor should evaluate the
collectability of both contractual interest and contractual principal of all
receivables when assessing the need for a loss accrual. This pronouncement also
amends SFAS No. 15, "Accounting by Debtors and Creditors for Troubled Debt
Restructuring," to require that a creditor measure all loans that are
restructured in a troubled debt restructuring involving a modification of terms
in accordance with this statement.
This pronouncement applies to financial statements for fiscal years beginning
after December 15, 1994, although earlier application was encouraged. SFAS No.
114, as amended, is applicable to all loans (including troubled debt
restructurings), uncollateralized as well as collateralized, except large groups
of smaller-balance homogeneous loans that are collectively evaluated for
impairment, loans that are measured at fair value or the lower of cost or fair
value, leases as defined by SFAS No. 13 and debt securities as defined in SFAS
No. 115. The adoption of this accounting change did not have a material effect
on the financial position or results of operations of the Company.
In October 1994, the FASB issued SFAS No. 119, "Disclosure about Derivative
Financial Instruments and Fair Value of Financial Instruments." The Statement is
effective for financial statements issued for fiscal years ending after December
15, 1994. Derivative financial instruments, as defined by SFAS No. 119, include
futures, forwards, swaps, or option contracts, or other financial instruments
with similar characteristics. The Company did not have any such instruments as
of December 31, 1995 or 1994, except as noted in footnote 9 to the consolidated
financial statements included in response to Item 8 - "Financial Statements and
Supplementary Data" of this report.
In March 1995, the FASB issued SFAS No. 121, "Accounting for Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of", which is to
become effective for fiscal years beginning after December 15, 1995. SFAS No.
121 requires that long-lived assets and certain identifiable intangibles to be
held and used by an entity be reviewed for impairment whenever events or changes
in circumstances indicate that the carrying amount of an asset may not be
recoverable. The statement also requires that certain long-lived assets and
identifiable intangibles to be disposed of be reported at the lower of the
carrying amount or fair value less cost to sell. Management anticipates that the
application of the new statement will not have a significant impact on the
results of operations or financial condition.
30
<PAGE>
In May 1995, the FASB issued SFAS No. 122, "Accounting for Mortgage Servicing
Rights", which is to become effective for fiscal years beginning after December
15, 1995. SFAS No. 122 requires that a mortgage banking enterprise recognize as
separate assets rights to service mortgage loans for others regardless of the
manner in which the servicing rights are acquired. In addition, capitalized
mortgage servicing rights are required to be assessed for impairment based on
the fair value of those rights. The impact of this statement depends on the
volume of mortgage loans originated and sold, and servicing rights retained. The
current practice of the Company is to sell most of the mortgage loans it
originates with servicing released. Therefore, management believes the adoption
of this statement will not have a material effect on the financial position or
results of operations of the Company.
In December, 1995, the FASB issued SFAS No. 123, "Stock-Based Compensation",
which is to become effective for fiscal years beginning after December 15, 1995.
SFAS No. 123 requires employee stock-based compensation be either recorded or
disclosed at its fair value. Management will continue to account for employee
stock-based compensation under Accounting Principles Board Opinion No. 25 and
will not adopt the new accounting provisions for employee stock-based
compensation under SFAS No. 123, but will include the additional required
disclosures in the 1996 consolidated financial statements.
31
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Stockholders of
FIRST ESSEX BANCORP, INC.:
We have audited the accompanying consolidated balance sheets of First Essex
Bancorp, Inc. and subsidiaries (the "Company") as of December 31, 1995 and 1994,
and the related consolidated statements of operations, stockholders' equity and
cash flows for each of the three years in the period ended December 31, 1995.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the consolidated financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of First Essex Bancorp, Inc. and
subsidiaries at December 31, 1995 and 1994, and the results of their operations
and their cash flows for each of the three years in the period ended December
31, 1995, in conformity with generally accepted accounting principles.
As explained in Note 1 to the financial statements, the Company prospectively
adopted, effective January 1, 1993, Statement of Financial Accounting Standards
No. 109, "Accounting for Income Taxes," and adopted Statement of Financial
Accounting Standards No. 115, "Accounting for Certain Investments in Debt and
Equity Securities," as of December 31, 1993.
ARTHUR ANDERSEN LLP
Boston, Massachusetts
January 17, 1996
32
<PAGE>
FIRST ESSEX BANCORP, INC.
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
December 31,
------------
1995 1994
---- ----
(Dollars in thousands)
ASSETS
<S> <C> <C>
Cash and cash equivalents $ 27,308 $ 18,714
Investment securities available-for-sale (Note 2) 115,153 35,200
Investment securities held-to-maturity
(fair value $133,651,000 and $284,341,000) (Note 2) 135,098 295,057
Stock in Savings Bank Life Insurance Company 1,194 1,194
Stock in Federal Home Loan Bank of Boston (Note 6) 14,869 12,775
Mortgage loans held-for-sale 5,821 2,930
Loans receivable, less allowance for possible loan losses of
$6,552,000 and $7,237,000 (Note 3) 487,678 419,644
Foreclosed property, net of valuation reserve of
$1,316,000 and $1,934,000 1,756 3,038
Bank premises and equipment (Note 4) 10,047 8,347
Accrued interest receivable 4,466 4,537
Other assets 5,402 5,436
--------- ---------
Total assets $ 808,792 $ 806,872
========= =========
<CAPTION>
LIABILITIES AND STOCKHOLDERS' EQUITY
<S> <C> <C>
LIABILITIES
Depositors' accounts (Note 5) $ 491,469 $ 456,878
Borrowed funds (Note 6) 245,569 279,948
Mortgagors' escrow accounts 718 1,804
Other liabilities 10,864 13,485
--------- ---------
Total liabilities 748,620 752,115
--------- ---------
COMMITMENTS AND CONTINGENCIES (Note 9)
STOCKHOLDERS' EQUITY (Note 13)
Serial preferred stock $.10 par value per share; 5,000,000 shares
authorized, no shares issued
Common stock $.10 par value per share; 25,000,000 shares
authorized, 8,009,267 and 8,006,500 shares issued 801 801
Additional paid-in-capital 58,208 58,192
Retained earnings 17,682 12,638
Treasury stock, at cost, 1,986,000 shares (15,842) (15,842)
Valuation allowance for unrealized losses on
investment securities available-for-sale (Note 1) (677) (1,032)
--------- ---------
Total stockholders' equity 60,172 54,757
--------- ---------
Total liabilities and stockholders' equity $ 808,792 $ 806,872
========= =========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
33
<PAGE>
FIRST ESSEX BANCORP, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Year ended December 31,
-----------------------
1995 1994 1993
---- ---- ----
(Dollars in thousands, except per share amounts)
<S> <C> <C> <C>
Interest and dividend income:
Interest on mortgage loans $ 26,024 $ 20,399 $ 19,342
Interest on other loans 15,194 6,437 3,552
Interest and dividends on investment securities 5,192 5,325 5,971
Interest on mortgage-backed securities 14,216 12,794 7,044
Interest on federal funds sold 288 102 274
----------- ----------- -----------
Total interest and dividend income 60,914 45,057 36,183
----------- ----------- -----------
Interest expense:
Interest on depositors' accounts 19,844 12,424 12,530
Interest on borrowed funds 17,237 10,283 4,124
----------- ----------- -----------
Total interest expense 37,081 22,707 16,654
----------- ----------- -----------
Net interest income 23,833 22,350 19,529
Provision for possible loan losses (Note 3) 770 -- --
----------- ----------- -----------
Net interest income after provision
for possible loan losses 23,063 22,350 19,529
----------- ----------- -----------
Noninterest income:
Net gain on sales of mortgage loans
and mortgage servicing rights 1,431 260 730
Net loss on sales of investment securities (13) -- --
Loan fees 477 393 644
Other fee income 1,759 1,862 1,791
Other 54 46 30
----------- ----------- -----------
Total noninterest income 3,708 2,561 3,195
----------- ----------- -----------
Noninterest expense:
Salaries and employee benefits 8,995 8,140 6,755
Building and equipment 3,256 2,800 2,580
Professional services 1,135 1,179 1,241
Data processing 1,233 966 843
Insurance 690 1,146 1,289
Expenses, gains and losses on,
and write-downs of, foreclosed property 784 2,007 2,959
Other 3,151 2,835 2,728
Retail branch write-offs -- 117 --
----------- ----------- -----------
Total noninterest expense 19,244 19,190 18,395
----------- ----------- -----------
Income before provision (benefit) for income taxes 7,527 5,721 4,329
Provision (benefit) for income taxes (Note 7) 75 (805) (2,621)
----------- ----------- -----------
Net income $ 7,452 $ 6,526 $ 6,950
=========== =========== ===========
Earnings per share (Note 1) $ 1.22 $ 1.08 $ 1.15
=========== =========== ===========
Average common and equivalent shares outstanding 6,104,579 6,063,942 6,020,701
=========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
34
<PAGE>
FIRST ESSEX BANCORP, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
Years ended December 31, 1995, 1994 and 1993
--------------------------------------------
Valuation Allowance
For Unrealized Losses
Additional On Investment Securities
Common Paid-in Retained Treasury Available-
Stock Capital Earnings Stock For-Sale Total
------ ---------- -------- -------- ------------------------ -----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1992 $ 800 $ 58,152 $ 1,509 $(15,842) $ -- $ 44,619
Net income -- -- 6,950 -- -- 6,950
Cash dividends declared -- -- (662) -- -- (662)
Valuation allowance for
unrealized losses on
investment securities
available-for-sale -- -- -- -- (158) (158)
-------- -------- -------- -------- -------- --------
Balance at December 31, 1993 800 58,152 7,797 (15,842) (158) 50,749
Net income -- -- 6,526 -- -- 6,526
Cash dividends declared -- -- (1,685) -- -- (1,685)
Stock options exercised 1 40 -- -- -- 41
Change in valuation allowance
for unrealized losses on
investment securities
available-for-sale -- -- -- -- (874) (874)
-------- -------- -------- -------- -------- --------
Balance at December 31, 1994 801 58,192 12,638 (15,842) (1,032) 54,757
Net income -- -- 7,452 -- -- 7,452
Cash dividends declared -- -- (2,408) -- -- (2,408)
Stock options exercised -- 16 -- -- -- 16
Change in valuation allowance
for unrealized losses on
investment securities
available-for-sale -- -- -- -- 355 355
-------- -------- -------- -------- -------- --------
Balance at December 31, 1995 $ 801 $ 58,208 $ 17,682 $(15,842) $ (677) $ 60,172
======== ======== ======== ======== ======== ========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
35
<PAGE>
FIRST ESSEX BANCORP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Year ended December 31,
1995 1994 1993
---- ---- ----
(Dollars in thousands)
<S> <C> <C> <C>
Cash flows from operating activities:
Net income $ 7,452 $ 6,526 $ 6,950
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for possible loan losses 770 -- --
Provision for depreciation and amortization 1,603 1,411 1,216
Gain on sale of foreclosed property (81) (141) (896)
Write-down of foreclosed property 361 1,023 1,423
Amortization of investment securities discounts and premiums, net 1,398 2,257 2,667
Deferred income taxes 55 (825) (2,621)
Proceeds from sales of mortgage loans and servicing rights 80,135 39,883 36,610
Mortgage loans originated for sale (81,595) (37,275) (37,096)
Realized investment securities loss 13 -- --
Realized gains on mortgage loan sales and mortgage servicing rights, net (1,431) (260) (730)
Decrease (increase) in accrued interest receivable 71 (803) 77
Decrease (increase) in other assets 34 (1,106) 568
Increase (decrease) in other liabilities (2,917) 3,063 1,762
--------- --------- ---------
Net cash provided by operating activities 5,868 13,753 9,930
--------- --------- ---------
Cash flows from investing activities:
Proceeds from sales of available-for-sale securities 28,292 9,237 --
Proceeds from maturities and principal payments of available-for-sale securities 2,688 3,320 1,692
Proceeds from maturities and principal payments of held-to-maturity securities 78,687 90,301 84,604
Purchases of available-for-sale securities (2,412) (12,122) (20,006)
Purchases of held-to-maturity securities (2,094) (111,729) (231,396)
Loans originated and purchased, net of principal collected (99,765) (144,611) 120
Proceeds from sales of foreclosed property 3,658 5,155 8,104
Receipts for foreclosed property -- 245 302
Purchases of bank premises and equipment (3,303) (2,491) (584)
--------- --------- ---------
Net cash provided by (used in) investing activities 5,751 (162,695) (157,164)
--------- --------- ---------
Cash flows from financing activities:
Net decrease in demand deposits, NOW accounts and savings accounts (11,029) (24,689) (6,963)
Net increase (decrease) of term deposits 45,620 83,334 (7,022)
Net increase (decrease) in borrowed funds with maturities of three months or less 7,544 13,001 (40,000)
Proceeds from borrowed funds with maturities in excess of three months 221,297 458,028 287,105
Repayments of borrowed funds with maturities in excess of three months (263,220) (376,082) (102,104)
Increase (decrease) in mortgagors' escrow accounts (1,086) 356 52
Dividends paid (2,167) (1,565) (662)
Stock options exercised 16 41 --
--------- --------- ---------
Net cash (used in) provided by financing activities (3,025) 152,424 130,406
--------- --------- ---------
Net increase (decrease) in cash and cash equivalents 8,594 3,482 (16,828)
Cash and cash equivalents at beginning of the year 18,714 15,232 32,060
--------- --------- ---------
Cash and cash equivalents at end of the year $ 27,308 $ 18,714 $ 15,232
========= ========= =========
Supplemental disclosures of cash flow information:
Interest paid during the year $ 37,032 $ 21,974 $ 16,346
Income taxes paid during the year -- -- --
Supplemental schedule of noncash financing and investing activities:
Real estate acquired through, or deeds in lieu of, foreclosure $ 2,656 $ 2,961 $ 4,388
Held-to-maturity securities reclassified to available-for-sale $ 82,262 -- --
Securitized loans transferred to investments available-for-sale $ 28,305 -- --
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
36
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of First Essex
Bancorp, Inc. ("the Company"), and its principal subsidiary, First Essex Bank,
FSB ("the Bank"). The 1993 financial statements also include amounts of First
Essex Bancorp of New Hampshire, Inc., which was merged into First Essex Bancorp,
Inc on December 1, 1993. All significant intercompany balances have been
eliminated in consolidation.
USE OF ESTIMATES IN PREPARATION OF FINANCIAL STATEMENTS
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosures of
contingent assets and liabilities as of the date of the financial statements and
the reported amounts of income and expenses during the reporting periods.
Operating results in the future could vary from the amounts derived from
management's estimates and assumptions.
INVESTMENT SECURITIES
In May 1993, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards ("SFAS") No. 115, "Accounting for Certain
Investments in Debt and Equity Securities". Under this statement, investments in
debt securities may be classified as held-to-maturity and measured at amortized
cost only if the Company has the positive intent and ability to hold such
securities to maturity. Investments in debt securities that are not classified
as held-to-maturity and equity securities that have readily determinable fair
values are classified as trading securities or available-for-sale securities.
Trading securities are investments purchased and held principally for the
purpose of selling in the near term; available-for-sale securities are
investments not classified as trading or held-to-maturity. Unrealized holding
gains and losses for trading securities are included in earnings; unrealized
holding gains and losses for available-for-sale securities are reported in a
separate component of stockholders' equity. Effective December 31, 1993, the
Company adopted SFAS No. 115 which resulted in a decrease to stockholders'
equity of $158,000.
At December 31, 1995 the Bank made a one time reassessment of its classification
of investment securities held-to-maturity and reclassified $82.3 million to
investment securities available-for-sale, with an unrealized loss of $1.1
million, as allowed by the special report of implementation of SFAS No. 115.
This reclassification does not call into question the Company's intent to hold
its remaining investment securities classified as held-to-maturity.
Dividend and interest income, including amortization of premiums and discounts,
is included in earnings for all categories of investment securities. Discounts
and premiums related to debt securities are amortized using a method that
approximates the level-yield method, adjusted for estimated prepayments in the
case of mortgage-backed securities.
37
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
In October 1994, the FASB issued SFAS No. 119, "Disclosure about Derivative
Financial Instruments and Fair Value of Financial Instruments". The statement is
effective for financial statements issued for fiscal years ending after December
15, 1994. Derivative Financial Instruments, as defined by SFAS No. 119, include
futures, forwards, swaps or option contracts, or other financial instruments
with similar characteristics. The Company did not have any such instruments as
of December 31, 1995 and 1994, except as noted in Note 9.
LOANS RECEIVABLE
Real estate mortgage loans and other loans are stated at the amount of unpaid
principal, net of the allowance for possible loan losses, unearned discounts and
unearned net loan origination fees. Loan origination fees, discounts and certain
direct loan origination costs are deferred and amortized as an adjustment to the
related loan yield over the contractual life of the loan. When loans are sold or
fully repaid, the unamortized fees, discounts and costs are recognized in
income.
Interest on loans is included in income as earned based upon interest rates
applied to unpaid principal. Interest is not accrued on loans 90 days or greater
past due or on other loans when management believes collection is doubtful. When
a loan is placed on nonaccrual status, all interest previously accrued is
reversed against current-period interest income.
The allowance for possible loan losses is based on management's estimate of the
amount required to reflect the risks in the loan portfolio, based on
circumstances and conditions known or anticipated at each reporting date. There
are inherent uncertainties with respect to the final outcome of the Bank's loans
and nonperforming loans. Because of these inherent uncertainties, actual losses
may differ from the amounts reflected in these consolidated financial
statements. Factors considered in evaluating the adequacy of the allowance
include previous loss experience, current economic conditions and their effect
on borrowers, the performance of individual loans in relation to contract terms,
and estimated fair values of underlying collateral. Losses are charged against
the allowance when management believes the collectability of principal is
doubtful.
Key elements of the above estimates, including assumptions used in independent
appraisals, are dependent upon the economic conditions prevailing at the time of
the estimates. Accordingly, uncertainty exists as to the final outcome of
certain of the valuation judgments as a result of economic conditions in the
region. The inherent uncertainties in the assumptions relative to projected
sales prices or rental rates may result in the ultimate realization of amounts
on certain loans that are significantly different from the amounts reflected in
these consolidated financial statements.
Effective January 1, 1995, the Company adopted SFAS No. 114, "Accounting by
Creditors for Impairment of a Loan" as amended by SFAS No. 118 ("SFAS No. 114").
This standard requires that impaired loans be measured based on the present
value of expected future cash flows discounted at each loan's effective interest
rate or, as a practical expedient, at each loan's observable market price or the
fair value of the collateral if the loan is collateral dependent. The statement
also changes the accounting for in-substance foreclosures and troubled debt
restructurings. This statement is applied prospectively with any adjustment
reflected in the provision for possible loan losses. The adoption of this
statement did not have a material effect on the financial position or results of
operations of the Company.
38
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
Mortgage loans held-for-sale are carried at the lower of aggregate cost or fair
value. Gains and losses on sales of mortgage loans are recognized at the time of
sale and are adjusted when the interest rate charged to the borrower and the
interest rate paid to the purchaser, after considering a normal servicing fee
(in the case of mortgage-backed securities, a guarantee fee), differ. The
resulting deferred premium on the sale of mortgage loans is amortized using a
method that approximates the level-yield method over the remaining life of the
related loans, adjusted for estimated prepayments. Actual prepayment experience
is reviewed periodically, and when necessary, the deferred premium on sales of
mortgage loans is adjusted accordingly.
In May 1995, the FASB issued SFAS No. 122, "Accounting for Mortgage Servicing
Rights", which is to become effective for fiscal years beginning after December
15, 1995. SFAS No. 122 requires an enterprise involved in mortgage banking
activities to recognize, as separate assets, rights to service mortgage loans
for others regardless of the manner in which the servicing rights are acquired.
In addition, capitalized mortgage servicing rights are required to be assessed
for impairment based on the fair value of those rights. The impact of this
statement depends on the volume of mortgage loans originated and sold, and
servicing rights retained. The current practice of the Company is to sell most
of the mortgage loans it originates with servicing released. Therefore,
management believes the adoption of this statement will not have a material
effect on the financial position or results of operations of the Company.
FORECLOSED PROPERTY
Collateral acquired through foreclosure is recorded at the lower of cost or fair
value, less estimated costs to sell, at the time of acquisition. A valuation
allowance is established for the estimated costs to sell and is charged to
expense. Subsequent changes in the fair value of other real estate owned are
reflected in the valuation allowance and charged or credited to expense. Net
operating income or expense related to foreclosed property is included in
noninterest expense in the accompanying consolidated statements of operations.
Because of current market conditions, there are inherent uncertainties in the
assumptions with respect to the estimated fair value of other real estate owned.
Because of these inherent uncertainties, the amount ultimately realized on other
real estate owned may differ from the amounts reflected in the consolidated
financial statements.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents consist of cash on hand, amounts due from banks,
interest-bearing deposits, federal funds sold and investments with original
maturities of less than three months. Cash and cash equivalents are recorded at
cost which approximates fair value.
BANK PREMISES AND EQUIPMENT
Real estate held for banking purposes, leasehold improvements and furniture and
fixtures are stated at cost, less accumulated depreciation and amortization.
Depreciation is computed principally on the straight-line method over estimated
service lives. Amortization of leasehold improvements is computed on the
straight-line method over the shorter of the estimated useful lives of the
assets or the related lease term. Expenditures for maintenance, repairs and
renewals of minor items are charged to expense as incurred.
39
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
INCOME TAXES
Effective January 1, 1993, the Company adopted SFAS No. 109, "Accounting for
Income Taxes," which recognizes income taxes under the liability method. Under
this method, deferred tax assets and liabilities are established for the
temporary differences between the accounting bases and the tax bases of the
Company's assets and liabilities at enacted tax rates expected to be in effect
when the amounts related to such temporary differences are realized or settled.
The Company's deferred tax asset is reviewed quarterly and adjustments are
recognized in the benefit for income taxes based on management's judgments
relating to realizability. There was no cumulative effect of this change in
accounting principle as of January 1, 1993 on the accompanying consolidated
financial statements.
EARNINGS PER SHARE
Earnings per common share are calculated using the weighted average number of
common shares and common stock equivalents outstanding.
RECLASSIFICATIONS
Certain reclassifications have been made to the 1994 and 1993 consolidated
financial statements to conform to the 1995 presentation.
RECENT ACCOUNTING PRONOUNCEMENTS
In March 1995, the FASB issued SFAS No. 121, "Accounting for Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of", which is to
become effective for fiscal years beginning after December 15, 1995. SFAS No.
121 requires that long-lived assets and certain identifiable intangibles to be
held and used by an entity be reviewed for impairment whenever events or changes
in circumstances indicate that the carrying amount of an asset may not be
recoverable. The statement also requires that certain long-lived assets and
identifiable intangibles to be disposed of be reported at the lower of the
carrying amount or fair value less cost to sell. Management is currently
evaluating the Company's fixed assets and anticipates that the application of
the new statement will not have a significant impact on the results of
operations or financial condition.
40
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
2. INVESTMENT SECURITIES
Investment securities at December 31, 1995 and 1994 follow:
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------------------------
1995 1994
---- ----
(Dollars in thousands)
Amortized Unrealized Fair Amortized Unrealized Fair
Cost Gain Loss Value Cost Gain Loss Value
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Investment securities held-to-maturity:
U.S. government and
agency obligations $ 17,080 $ 42 $ --- $ 17,122 $ 54,271 $ 39 $ (611) $ 53,699
Mortgage-backed securities 118,018 95 (1,584) 116,529 209,747 83 (10,071) 199,759
Other bonds and obligations --- --- --- --- 31,039 95 (251) 30,883
------- ------- -------- -------- ------- ----- ---------- ---------
135,098 137 (1,584) 133,651 295,057 217 (10,933) 284,341
Investment securities available-for-sale:
Mortgage-backed securities 92,231 870 (1,320) 91,781 36,232 214 (1,246) 35,200
Other bonds and obligations 23,599 32 (259) 23,372 --- --- --- ---
------- ------- ------- ------- -------- -------- -------- ---------
115,830 902 (1,579) 115,153 36,232 214 (1,246) 35,200
Total investment securities $250,928 $1,039 $(3,163) $248,804 $331,289 $ 431 $(12,179) $319,541
======== ====== ======== ======== ======== ====== ========= ========
- ----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
At December 31, 1995 and 1994, U.S. government obligations and mortgage-backed
securities with amortized cost of $41,269,000 and $65,136,000, respectively, and
fair value of $40,965,000 and $61,995,000, respectively, were pledged to
collateralize certain deposit accounts and repurchase agreements.
The amortized cost of mortgage-backed securities available-for-sale at December
31, 1995 includes $54.1 million of collateralized mortgage obligations. There
were no collateralized mortgage obligations included in mortgage-backed
securities held-to-maturity.
For the year ended December 31, 1995, there were realized gross losses of
$13,000 from the sale of investment securities. There were no gains or losses
from the sale of investment securities in 1994. No investment securities were
sold in 1993.
The following table shows the maturity distribution of the amortized cost of the
Company's investment securities at December 31, 1995:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------------
Less than Greater than
1 year 1-5 Years 5-10 Years 10 Years Total
------ --------- ---------- ---------- -----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Investment securities held-to-maturity:
U.S. government and
agency obligations $17,080 $ --- $ --- $ --- $ 17,080
Mortgage-backed securities (1) 758 621 34 116,605 118,018
Investment securities available-for-sale:
Mortgage-backed securities (1) 2,083 34,266 11,220 44,662 92,231
Other bonds and obligations 3,810 19,631 158 --- 23,599
---------
$250,928
<FN>
(1) Maturities of mortgage-backed securities are based on contractual maturities
but may differ because in most instances the issuers have the right to prepay
the obligations.
</FN>
- --------------------------------------------------------------------------------------------------------------------------------
</TABLE>
41
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
The following table shows the maturity distribution of the fair value of the
Company's investment securities at December 31, 1995:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------------
Less than Greater than
1 year 1-5 Years 5-10 Years 10 Years Total
------ --------- ---------- ---------- -----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Investment securities held-to-maturity:
U.S. government and
agency obligations $17,122 $ --- $ --- $ --- $ 17,122
Mortgage-backed securities (1) 758 613 36 115,122 116,529
Investment securities available-for-sale:
Mortgage-backed securities (1) 2,084 33,727 11,057 44,913 91,781
Other bonds and obligations 3,816 19,394 162 --- 23,372
---------
$248,804
<FN>
(1) Maturities of mortgage-backed securities are based on contractual
maturities, but may differ because in most instances the issuers have the right
to prepay the obligations.
</FN>
- -------------------------------------------------------------------------------------------------------------------------------
</TABLE>
3. LOANS RECEIVABLE
Major classifications of loans receivable at December 31, 1995 and 1994 follow:
- -----------------------------------------------------------------------------
1995 1994
------------ -----------
(Dollars in thousands)
Commercial $ 66,737 $ 55,377
Real Estate:
Residential 229,383 261,918
Commercial 53,504 25,786
Construction 14,210 15,527
-------- --------
Total Real Estate 297,097 303,231
-------- --------
Home equity 12,558 12,943
Automobile 76,590 34,906
Aircraft 14,478 522
Other Consumer 26,770 19,902
-------- --------
Total loans 494,230 426,881
Less:
Allowance for possible loan losses 6,552 7,237
-------- --------
Loans receivable $487,678 $419,644
======== ========
- ------------------------------------------------------------------------------
The Company's lending activities are conducted principally in eastern
Massachusetts and southern New Hampshire. The Company originates single family
and multifamily residential loans, commercial real estate loans, commercial
loans, aircraft loans, automobile loans and a variety of consumer loans. In
addition, the Company originates loans for the construction of residential
homes, multifamily properties, commercial real estate properties and land
development. Most loans originated by the Company are collateralized by real
estate. The ability and willingness of the single family residential and
consumer borrowers' to honor their repayment commitments is generally dependent
on the level of overall economic activity within the geographic areas and real
estate values. The ability and willingness of commercial real estate, commercial
and construction loan borrowers to honor their repayment commitments is
generally dependent on the health of the real estate economic sector in the
borrowers' geographic areas and the general economy.
42
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
During 1995, the Company purchased 54 performing commercial and commercial real
estate loans from another institution with a principal value of approximately
$26 million. The loans were acquired on a nonrecourse basis.
A summary of changes in the allowance for possible loan losses for the years
ended December 31, 1995, 1994 and 1993 follows:
- ------------------------------------------------------------------------
1995 1994 1993
---- ---- ----
(Dollars in thousands)
Balance at beginning of year $ 7,237 $ 7,747 $ 11,759
Provision for possible loan losses 770 -- --
Charge-offs (2,485) (2,111) (5,571)
Recoveries 1,030 1,601 1,559
-------- -------- --------
Balance at end of year $ 6,552 $ 7,237 $ 7,747
======== ======== ========
- ------------------------------------------------------------------------
At December 31, 1995 and 1994, there were approximately $3,373,000 and
$7,324,000, respectively, of non-accruing loans. Under SFAS No. 114, the Company
considers a loan impaired if it is ninety days or more past due as to principal
and interest, or if management's credit risk assessment determines that it is
probable that principal and interest will not be collected as contractually
scheduled. In addition, loans which are restructured at market rates and
comparable to loans with similar risks are considered impaired only in the year
of the restructuring, so long as they continue to perform according to the
restructured terms. Excluded from the impaired category, but otherwise
considered non-accruing loans, are small balance homogeneous loans which are
ninety days or more past due. Small balance homogeneous loans include
residential mortgage loans, residential construction loans to individuals
(excluding builder construction loans) and consumer loans. The Company evaluates
a loan's level of impairment by measuring the net present value of the expected
future cash flows using the loan's original effective interest rate, or at the
fair value of the collateral if the loan is collateral dependent. When the
difference between the net present value of the impaired loan (or fair value of
the collateral if the loan is collateral dependent) is lower than the recorded
investment of the loan, the difference is provided to expense with a resulting
valuation allowance. At December 31, 1995, the recorded investment in loans that
are considered to be impaired under SFAS No. 114 totalled $1.9 million of which
$663,000 had a related allowance for possible loan losses of $273,000. The
remaining $1.2 million of impaired loans did not require a related allowance for
possible loan losses. Of the $1.9 million of loans considered to be impaired
under SFAS No. 114, $1,043,000 are restructured and are not included in the
$3,373,000 of non-accruing loans discussed above. The average recorded
investment in impaired loans during 1995 was approximately $1.4 million.
At December 31, 1995, the principal balance of outstanding restructured loans
totalled $1,043,000. At December 31, 1994 and 1993, there were no restructured
loans outstanding. The amount of additional interest that would have been earned
had the nonaccrual and restructured loans performed in accordance with original
terms and conditions was $389,000, $754,000 and $856,000 for the years ended
December 31, 1995, 1994 and 1993, respectively.
Interest income recognized on impaired loans, using the cash basis of income
recognition, amounted to approximately $166,000 for the year ended December 31,
1995.
43
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
The maximum amount of aggregate loans to directors, executive officers and
principal stockholders for the year ended December 31, 1995 was less than 5% of
stockholders' equity.
At December 31, 1995 and 1994, the Bank was servicing loans sold to the Federal
National Mortgage Association, Federal Home Loan Mortgage Corporation,
Massachusetts Home Finance Agency and various other banks and institutions on a
nonrecourse basis (except as discussed in Note 9), in the amount of $74,330,000
and $109,523,000, respectively. The amount of loans sold and serviced for others
is not included in loans receivable.
4. BANK PREMISES AND EQUIPMENT
A summary of bank premises and equipment at December 31, 1995 and 1994 follows:
- ------------------------------------------------------------------------------
Estimated Useful
1995 1994 Life
---- ---- ---------
(Dollars in thousands)
Land $ 674 $ 674
Buildings 5,804 5,791 20 to 30 years
Leasehold improvements 5,672 2,664 1 to 14 years
Furniture and fixtures 9,586 7,465 3 to 10 years
Construction in process 271 2,067
------- -------
22,007 18,661
Less accumulated depreciation
and amortization 11,960 10,314
------- -------
$10,047 $ 8,347
======= =======
Depreciation expense was $1,603,000, $1,411,000 and $1,216,000 for 1995, 1994
and 1993, respectively.
- ------------------------------------------------------------------------------
44
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
5. DEPOSITORS' ACCOUNTS
A summary of depositors' accounts at December 31, 1995 and 1994 follows:
- -----------------------------------------------------------------------------
1995 1994
---- ----
(Dollars in thousands)
Personal and business checking
accounts (noninterest-bearing) 30,391 $ 19,171
NOW accounts 31,288 30,076
Money market accounts 73,730 92,230
Savings accounts 49,361 54,322
Time deposits 306,699 261,079
-------- --------
$491,469 $456,878
======== ========
The following is a summary of original maturities of time deposits as of
December 31, 1995:
(Dollars in thousands)
1996 $120,295
1997 80,764
Thereafter 105,640
$306,699
The following table shows the remaining maturities of certificates of deposits
with balances in excess of $100,000 at December 31, 1995:
(Dollars in thousands)
Three months or less $ 3,265
Over 3 months and less than 6 months 8,324
Over 6 months and less than 12 months 10,549
12 months and over 2,067
-------
$24,205
- ------------------------------------------------------------------------------
45
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
6. BORROWED FUNDS
Borrowed funds at December 31, 1995 and 1994 are summarized below:
- ------------------------------------------------------------------------------
1995 1994
---- ----
(Dollars in thousands)
Due during 1995, interest rates from 3.98% to 6.98% $ -- $152,997
Due during 1996, interest rates from 4.84% to 6.98% 123,100 70,600
Due during 1997, interest at 6.24% 35,000 --
Due during 1998, interest rates from 5.82% to 6.42% 58,597 --
Due during 2000, interest rates from 5.29% to 5.97% 2,896 1,420
Due during 2005, interest at 6.08% 80 --
Repurchase agreements 25,896 54,931
-------- --------
$245,569 $279,948
======== ========
- ------------------------------------------------------------------------------
Total lines of credit available under both short-term and long-term borrowings
from the FHLB are dependent upon the amount of FHLB stock owned and other assets
available as collateral with the total credit available being $297,380,000, of
which $77,707,000 was unused at December 31, 1995. The advances from the FHLB
are secured by all FHLB stock (book value of $14,869,000 and $12,775,000 at
December 31, 1995 and 1994) and a pledge of certain assets as collateral.
Repurchase agreements outstanding at December 31, 1995 mature in three months or
less with interest rates of 4.50% to 5.875% and are secured by certain U.S.
government and agency securities.
The following table summarizes the maximum and average amounts of short-term
borrowings outstanding during 1995 and 1994 together with the weighted average
interest rates thereon.
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------------------------------------
For the Year Ended December 31, 1995 At December 31, 1995
------------------------------------ --------------------------
Maximum Average Weighted Weighted
Amount Amount Average Amount Average
Outstanding Outstanding Interest Rate Outstanding Int. Rate
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
FHLB Borrowings $285,372 $263,298 6.22% $219,673 6.10%
Repurchase Agreements 27,019 8,432 5.50 25,896 5.72
<CAPTION>
For the Year Ended December 31, 1994 At December 31, 1994
------------------------------------ --------------------------
Maximum Average Weighted Weighted
Amount Amount Average Amount Average
Outstanding Outstanding Interest Rate Outstanding Int. Rate
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
FHLB Borrowings $255,489 $207,067 4.66% $225,017 6.10%
Repurchase Agreements 55,131 11,399 5.47 54,931 5.94
- -----------------------------------------------------------------------------------------------------------------------------
</TABLE>
46
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
7. INCOME TAXES
The provision (benefit) for income taxes for each of the three years in the
period ended December 31, 1995 consists of the following:
- ------------------------------------------------------------------------------
1995 1994 1993
---- ---- ----
(Dollars in thousands)
Current $ 20 $ 20 $ --
Deferred 55 (825) (2,621)
------- ------- -------
$ 75 $ (805) $(2,621)
======= ======= =======
- ------------------------------------------------------------------------------
The difference between the total expected provision for income taxes computed by
applying the statutory federal income tax rate to income before provision
(benefit) for income taxes and the recorded provision (benefit) for income taxes
for the three years in the period ended December 31, 1995 follows:
- -------------------------------------------------------------------------------
1995 1994 1993
---- ---- ----
(Dollars in thousands)
Provision at
statutory rate $ 2,559 $ 1,945 $ 1,472
State taxes, net of
federal benefit 903 20 358
Tax-exempt interest income -- -- (6)
Dividend received deduction (10) (10) --
Change in valuation allowance (3,312) (2,770) (4,445)
Other, net (65) 10 --
------- ------- -------
Provision (benefit) for
income taxes $ 75 $ (805) $(2,621)
======= ======= =======
- -----------------------------------------------------------------------------
47
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
The components of the net deferred tax asset at December 31, 1995 and 1994
follow (dollars in thousands):
- ------------------------------------------------------------------------------
1995 1994
---- ----
(dollars in thousands)
Allowance for possible loan losses $ (2,227) $ (3,060)
Deferred tax loan loss reserve 2,548 (3,359)
Depreciation (789) (489)
Deferred loan fees (142) (266)
Deferred compensation (262) (309)
Net operating loss carryforwards (4,647) (1,824)
Limited partnership investments 525 614
Foreclosed property write-downs (851) (910)
Contributions (133) (123)
General business credits (490) (300)
AMT credits (291) (291)
Charge-off remaining lease payments (77) (142)
Unrealized loss on available-for-sale securities (230) (433)
State income taxes (202) (1,116)
Other, net (347) 814
-------- --------
(7,615) (11,194)
Valuation reserve 4,185 7,653
-------- --------
Net deferred tax asset included in other assets $ (3,430) $ (3,541)
======== ========
- ------------------------------------------------------------------------------
The change in the valuation allowance for the years ended December 31, 1995 and
1994 follows (dollars in thousands):
- ------------------------------------------------------------------------------
1995 1994
---- ----
(dollars in thousands)
Balance at January 1 $ 7,653 $10,105
Decrease due to change in estimate of
future taxable earnings (3,468) (2,452)
------- -------
Balance at December 31 $ 4,185 $ 7,653
======== =======
- -------------------------------------------------------------------------------
A valuation allowance is provided when it is more likely than not that some
portion of the net deferred tax asset will not be realized. The Company has
established a valuation allowance for the portion of the net deferred tax asset
in excess of the amount expected to be realized from estimated taxable income
for 1996.
At December 31, 1995, tax loss carryforwards, for tax return purposes, of
approximately $13,667,000 are available to be carried forward to future periods
and, if unused, will expire between 2006 and 2010.
For federal income tax purposes, the Bank is allowed a bad debt deduction
limited generally to 8% of taxable income, as defined, and subject to certain
limitations based on aggregate loans and savings account balances at the end of
year. If amounts that qualify as deductions for federal income tax purposes
exceed amounts that would qualify for a deduction based on the Bank's loss
experience, a federal tax provision will be required on such excess if such
amounts are used for purposes other than bad debt deductions. As of December 31,
1995, the Bank's bad debt reserves maintained for federal tax purposes did not
exceed amounts that qualify for a deduction under the experience method.
48
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
8. PENSION BENEFITS
The Company has a defined benefit pension plan covering most employees.
Employees are eligible to participate upon the attainment of age 21 and the
completion of one year of service. Benefits are based primarily on years of
service and employees' final average pay.
Contributions by the Company are consistent with the funding requirements of
federal law and regulations. Pension plan assets consist primarily of mutual
funds, bonds and government securities.
The weighted average discount rate was 7.0% in 1995 and 8.5% in 1994. The rate
of increase in future compensation levels used in determining the actuarial
present value of the projected benefit obligation was 4.0% in 1995 and 1994. The
expected long-term rate of return on assets was 8.0% in 1995 and 7.5% in 1994.
The following table sets forth the plan's funded status and amounts recognized
in the Company's consolidated financial statements at December 31, 1995 and
1994:
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------
1995 1994
---- ----
(Dollars in thousands)
<S> <C> <C>
Actuarial present value of benefit obligation:
Accumulated benefit obligation, including vested
benefits of $3,064,000 and $2,934,000 $ 3,168 $ 2,994
======= =======
Projected benefit obligation for service rendered to date 4,236 4,096
Plan assets at fair value 4,705 4,312
------- -------
Excess of plan assets over projected benefit obligation 469 216
Unrecognized net gain from past experience different
from that assumed and effects of changes in assumptions (1,252) (821)
Unrecognized net asset at transition amortized
over approximately 15 years 83 89
------- -------
Accrued pension cost included in other liabilities at December 31 $ (700) $ (516)
======= =======
<CAPTION>
Net pension cost for the years ended December 31, 1995, 1994 and 1993 included
the following components:
1995 1994 1993
---- ---- ----
(Dollars in thousands)
<S> <C> <C> <C>
Service cost - benefits earned during the year $ 283 $ 282 $ 196
Interest cost on projected benefit obligation 290 265 266
Actual return on plan assets (811) (270) (638)
Net amortization and deferral 422 (124) 267
----- ----- -----
Net pension cost $ 184 $ 153 $ 91
===== ===== =====
- ------------------------------------------------------------------------------------------
</TABLE>
The Company has no material postretirement or postemployment benefit
arrangements other than pension benefits with its employees and, therefore, is
not impacted by Statements of Financial Accounting Standards No. 106 and No. 112
issued in December 1990 and November 1992, respectively, regarding such
benefits.
49
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
9. COMMITMENTS AND CONTINGENCIES
FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK
The Company is a party to financial instruments with off-balance sheet risk in
the normal course of business to meet the financing needs of its customers.
These financial instruments, held for purposes other than trading, include
commitments to originate loans, standby letters of credit, recourse arrangements
on sold assets, unadvanced portions of construction loans, and forward
commitments. The instruments involve, to varying degrees, elements of credit and
interest rate risk in excess of the amount recognized in the accompanying
consolidated balance sheets. The contract or notional amounts of these
instruments reflect the extent of involvement the Company has in particular
classes of financial instruments.
The Company's exposure to credit loss in the event of nonperformance by the
other party to the financial instrument for loan commitments, standby letters of
credit and recourse arrangements is represented by the contractual amount of
those instruments. The Company uses the same credit policies in making
commitments and conditional obligations as it does for on-balance sheet
instruments. For forward commitments, the contract or notional amounts do not
represent exposure to credit loss. The Company controls the credit risk of its
forward commitments through credit approvals, limits and monitoring procedures.
Financial instruments with off-balance sheet risk at December 31, 1995 and 1994
follow:
- ------------------------------------------------------------------------------
Contract
Amount
--------
1995 1994
---- ----
(Dollars in thousands)
Commitments to originate loans $24,104 $24,861
Unused lines, commercial and
standby letters of credit 21,430 18,688
Loans sold with recourse 2,758 3,051
Unadvanced portions of
construction loans 10,495 9,330
Forward commitments 5,821 5,530
- ------------------------------------------------------------------------------
Commitments to originate loans are agreements to lend to customers provided
there are no violations of any conditions established in the contracts.
Commitments generally have fixed expiration dates or other termination clauses
and may require payment of a fee. Since many of the commitments are expected to
expire without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The Company evaluates each customer's
creditworthiness on a case-by-case basis. The amount of collateral obtained, if
deemed necessary by the Company upon extension of credit, is based upon
management's credit evaluation of the borrower.
Standby letters of credit are conditional commitments issued by the Company to
guarantee the performance by a customer to a third party. The credit risk
involved in issuing letters of credit is essentially the same as that involved
in extending loan facilities to customers.
50
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
LEASE COMMITMENTS
The Company has operating leases on nine of its facilities. Most of the leases
have renewal options. Total rent expense under these leases for 1995, 1994 and
1993 was $661,000, $386,000 and $371,000, respectively.
The following is a schedule of future minimum lease payments for operating
leases (dollars in thousands):
- ----------------------------------------------------------------------------
Year ending December 31,
1996 $ 644
1997 604
1998 583
1999 479
2000 367
Thereafter 1,389
-----
Total future minimum lease payments $4,066
- -----------------------------------------------------------------------------
EMPLOYMENT AND TERMINATION AGREEMENTS
The Company and the Bank entered into employment agreements with two executive
officers effective January 1, 1994. One agreement has an original term of three
years and the other agreement has an original term of two years. Each may be
extended annually for an additional year by vote of the Boards of Directors. The
employment agreements generally provide for the continued payment of specified
compensation and benefits to each executive officer for specified periods after
termination, unless the termination is for "cause" as defined in the employment
agreement. The Board of Directors voted to extend each employment agreement for
an additional year during 1995.
In addition, the Company, the Bank and the officers, referred to above, have
entered into special termination agreements that provide for the payment, under
certain circumstances, of a lump-sum amount upon termination following a "change
of control" which is generally defined to mean a person or group acquiring
ownership of 25% or more of the outstanding common stock of the Company, or
certain other events resulting in a change in control of the Company. The
lump-sum amounts are based on three times one of the executive officer's base
annual compensation and two times the other executive officer's base annual
compensation as defined in the agreements and would be in lieu of any benefits
under the officers' employment agreements, but in addition to amounts payable
pursuant to other benefit plans. Five other senior officers have similar
termination agreements effective following a "change of control." The lump-sum
amount for one senior officer is equivalent to two times the officer's base
annual compensation. The lump-sum amounts for the other four senior officers are
equivalent to each respective officer's base annual compensation.
LEGAL PROCEEDINGS
The Company is involved in various legal proceedings incidental to its business,
none of which is believed by management, based on discussion with legal counsel,
to be material to the financial condition or operations of the Company.
51
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
10. MANAGEMENT INCENTIVE COMPENSATION PLAN
The Company has a Management Incentive Compensation Plan (the "Incentive Plan")
as a means of recognizing achievement on the part of individual officers and
management as a whole. In 1995 and 1994 the Company awarded $117,000 and
$130,000, respectively, for bonuses in connection with the Incentive Plan. No
such bonuses were awarded in connection with the Incentive Plan in 1993.
11. STOCK OPTION PLAN
In 1988, the Company adopted a stock option plan as a performance incentive for
its directors, officers, employees and other key persons (the "Stock Option
Plan"). Options granted under the Stock Option Plan have an exercise price per
share equal to at least the fair market value of a share of the Company's common
stock on the date the option is granted and expire no later than 10 years after
the date of grant. The Company has reserved 800,000 shares for issuance pursuant
to options granted under the Stock Option Plan. Both "Incentive Stock Options"
and "Non-qualified Stock Options" may be granted pursuant to the Stock Option
Plan. As of December 31, 1995, options to purchase 421,733 shares were
outstanding at exercise prices ranging from $5.25 to $11.375 per share.
In December 1995, the FASB issued SFAS No. 123, "Stock-Based Compensation",
which is to become effective for fiscal years beginning after December 15, 1995.
SFAS No. 123 requires employee stock-based compensation to be either recorded or
disclosed at its fair value. Management will continue to account for employee
stock-based compensation under Accounting Principles Board Opinion No. 25 and
will not adopt the new accounting provisions for employee stock-based
compensation under SFAS No. 123 and will include the additional required
disclosures in the 1996 consolidated financial statements.
The following summarizes the Stock Option Plan activity for the three years
ended December 31, 1995, 1994 and 1993:
- ------------------------------------------------------------------------------
1995 1994 1993
---- ---- ----
Outstanding at beginning of year 28,000 242,500 149,500
Granted 10,000 195,000 125,000
Expired 13,500) (3,000) (32,000)
Exercised (2,767) (6,500) --
-------- -------- --------
Outstanding at end of year 421,733 428,000 242,500
======== ======== ========
Exercisable at end of year 233,470 139,000 114,200
======== ======== ========
- ------------------------------------------------------------------------------
12. EMPLOYEES' STOCK OWNERSHIP and 401(k) PLANS
The Company established an Employees' Stock Ownership Plan (the "ESOP") in 1986
for eligible employees. The ESOP was funded by Company contributions made in
cash or common stock. Benefits were paid in shares of common stock or in cash.
Employees had the right to receive benefits in shares.
During 1994, the Company established a 401(k) plan (the "Plan") covering most of
its employees and merged the ESOP into the Plan. All eligible employee benefits
in the ESOP became 100% vested at the time of the merger.
Under the Plan, an eligible employee ("participant") may make contributions up
to 15% of their compensation, with certain limitations. The Company may elect to
make basic matching contributions. During 1995 and 1994, the Company made basic
52
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
matching contributions equal to 50% of the first 4% of each participant's
compensation, or a maximum of 2%. Basic matching contributions for 1995 and 1994
amounted to $98,000 and $53,000, respectively. The Plan also provides for
discretionary supplemental matching contributions. These contributions are
allocated to participants in the same manner described above. Supplemental
matching contributions to the Plan for 1995 and 1994 amounted to $38,000 and
$25,000, respectively.
13. STOCKHOLDERS' EQUITY
At the time of conversion to stock form, the Bank established a liquidation
account in the amount of $41,426,000. In accordance with Massachusetts statutes,
the liquidation account is maintained for the benefit of Eligible Account
Holders who continue to maintain their accounts in the Bank after the
conversion. The liquidation account is reduced annually to the extent that
Eligible Account Holders have reduced their qualifying deposits. Subsequent
increases will not restore an Eligible Account Holder's interest in the
liquidation account. In the event of a complete liquidation, each Eligible
Account Holder is entitled to receive a distribution from the liquidation
account in a proportionate amount to the current adjusted qualifying balances
for the account then held. The balance in the liquidation account was $5,796,000
at December 31, 1995.
53
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
CAPITAL REQUIREMENTS
As a federal savings institution regulated by the Office of Thrift Supervision
("the OTS"), the Bank is required to meet certain minimum regulatory capital
requirements: tangible capital, total capital, core/leverage capital, Tier 1
risk-based capital and total risk-based capital. In addition, under the Prompt
Corrective Action provisions of the Federal Deposit Insurance Corporation
Improvement Act of 1991 (FDICIA), the Bank's capital position may be classified
in one of five different capital categories ranging from critically
under-capitalized to well-capitalized. As of December 31, 1995, the Bank met all
of the minimum regulatory capital requirements and satisfied the requirements of
the well-capitalized capital category under FDICIA. The Bank's core/leverage,
Tier 1 risk-based and total risk-based capital, together with related regulatory
minimum requirements, are summarized below. The Bank's total capital, tangible
capital and tangible equity ratios were equal to the core/leverage capital
ratio.
The Company may not declare or pay cash dividends on its shares of common stock
if the effect thereof would cause stockholders' equity to be reduced below
applicable capital maintenance requirements or if such declaration and payment
would otherwise violate regulatory requirements.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------
Core/ Tier 1 Total
Leverag Risk-based Risk-based
Capita Capital Capital
(Dollars in thousands)
<S> <C> <C> <C>
Stockholders' Equity $ 60,172 $ 60,172 $ 60,172
Unrealized loss on investment securities
available-for-sale not included in regulatory capital 677 677 677
General Valuation Allowance -- -- 5,925
-------- -------- --------
Regulatory Capital Measure $ 60,849 $ 60,849 $ 66,774
======== ======== ========
Total Assets $808,792 $808,792 $808,792
Adjusted Assets $808,792 $ -- $ --
Risk-based Assets (unaudited) -- 473,396 473,396
Capital Ratio (unaudited) 7.52% 12.85% 14.11%
Regulatory minimum requirement 3.00% 4.00% 8.00%
- --------------------------------------------------------------------------------------------------------
</TABLE>
54
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
14. CONDENSED PARENT COMPANY FINANCIAL STATEMENTS - FIRST ESSEX BANCORP, INC.
Condensed financial statements of First Essex Bancorp, Inc. as of December 31,
1995 and 1994, and for the years ended December 31, 1995, 1994 and 1993 follow:
1995 1994
---- ----
(Dollars in thousands)
Balance Sheets
Assets
Cash and cash equivalents $ 5,928 $ 1,033
Investment securities held-to-maturity --- 3,879
Investment in First Essex Bank, FSB 55,550 50,910
Other assets 1 2
--------- ---------
Total assets $61,479 $55,824
======= =======
Liabilities and stockholders' equity
Other liabilities $ 1,307 $ 1,067
Stockholders' equity 60,172 54,757
------- --------
Total liabilities and stockholders' equity $61,479 $55,824
======= =======
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------
1995 1994 1993
---- ---- ----
(Dollars in thousands)
<S> <C> <C> <C>
Statements of Operations
Income
Interest on investments $ 221 $ 87 $ 9
Distributed income of First Essex Bank, FSB 3,000 3,000 3,200
------- ------- -------
Total income 3,221 3,087 3,209
------- ------- -------
Expenses
Operating expenses 7 45 55
------- ------- -------
Income before provision (benefit) for income taxes and equity in
undistributed net income of First Essex Bank, FSB 3,214 3,042 3,154
Provision (benefit) for income taxes 75 (805) (2,621)
------- ------- -------
3,139 3,847 5,775
Equity in undistributed net income of First Essex Bank, FSB 4,313 2,679 1,175
------- ------- -------
Net income $ 7,452 $ 6,526 $ 6,950
======= ======= =======
- ---------------------------------------------------------------------------------------------------
</TABLE>
55
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------
1995 1994 1993
---- ---- ----
(Dollars in thousands)
<S> <C> <C> <C>
Statements of Cash Flows
Cash flows from operating activities
Net income $ 7,452 $ 6,526 $ 6,950
Adjustments to reconcile net income
to net cash provided by (used in) operating activities:
Equity in income of First Essex Bank, FSB (7,313) (5,679) (4,374)
Deferred income taxes 55 (825) (2,621)
Accretion of investment
securities discounts (165) (71) (12)
Decrease in other assets 1 6 68
Increase (decrease) in other liabilities (28) 19 73
------- ------- -------
Net cash provided by (used in) operating activities 2 (24) 84
------- ------- -------
Cash flows from investing activities
Purchases of investment securities (2,253) (8,810) (1,970)
Maturities of investment securities 6,297 6,984 --
Dividends received from First Essex Bank, FSB 3,000 3,000 3,200
Investment in First Essex Bancorp of
New Hampshire, Inc. -- -- (500)
------- ------- -------
Net cash provided by investing activities 7,044 1,174 730
------- ------- -------
Cash flows from financing activities
Stock options exercised 16 41 --
Dividends paid (2,167) (1,565) (662)
------- ------- -------
Net cash used in financing activities (2,151) (1,524) (662)
------- ------- -------
Net increase (decrease) in cash and cash equivalents 4,895 (374) 152
Cash and cash equivalents at beginning of year 1,033 1,407 1,255
------- ------- -------
Cash and cash equivalents at end of year $ 5,928 $ 1,033 $ 1,407
======= ======= =======
- --------------------------------------------------------------------------------------------------
</TABLE>
15. RESTRICTIONS ON SUBSIDIARY BANK LOANS, ADVANCES AND DIVIDENDS
The Federal Reserve Act restricts the Bank with respect to lending or advancing
funds to the Company unless such loans are collateralized by specific
obligations and limits collateralized loans to 10% of the Bank capital stock and
surplus. At December 31, 1995, no amounts were available to be transferred from
the Bank to the Company in the form of loans or advances. In addition, under the
OTS prompt corrective action regulations, which took effect on December 19,
1992, the Bank generally would be prohibited from making any capital
distribution if, after the distribution, the Bank would have (i) a total
risk-based capital ratio of less than 8%, (ii) a Tier 1 risk-based capital ratio
of less than 3% or (iii) a leverage ratio of less than 3%.
56
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
16. QUARTERLY DATA (UNAUDITED)
A summary of quarterly financial data for the years ended December 31, 1995 and
1994 follows:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------
Year Ended December 31, 1995
----------------------------
Fourth Third Second First
Quarter Quarter Quarter Quarter
------- ------- ------- -------
(Dollars in thousands, except per share amounts)
<S> <C> <C> <C> <C>
Interest and dividend income $15,501 $15,491 $15,342 $14,580
Interest expense 9,411 9,625 9,336 8,709
------ ------ ------ ------
Net interest income 6,090 5,866 6,006 5,871
Provision for possible loan losses 232 209 200 129
------ ------ ------ ------
Net interest income after
provision for possible loan losses 5,858 5,657 5,806 5,742
Noninterest income 1,178 1,082 865 583
Noninterest expense (1) 5,264 4,236 4,880 4,864
------ ------ ------ ------
Income before income taxes 1,772 2,503 1,791 1,461
Provision for income taxes 45 10 19 1
------ ------ ------ ------
Net income $1,727 $2,493 $1,772 $1,460
====== ====== ====== ======
Earnings per share $ .28 $ .41 $ .29 $ .24
====== ====== ===== ======
<FN>
(1) The third quarter reduction in noninterest expense reflects a
decrease of approximately $250,000 of deposit insurance expense, as
well as a reduction of approximately $360,000 in the net cost of
foreclosed property.
</FN>
</TABLE>
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------
Year Ended December 31, 1994
----------------------------
Fourth Third Second First
Quarter Quarter Quarter Quarter
------- ------- ------- -------
(Dollars in thousands, except per share amounts)
<S> <C> <C> <C> <C>
Interest and dividend income $13,542 $12,099 $10,144 $9,272
Interest expense 7,420 6,062 4,838 4,387
------ ------ ------ -----
Net interest income 6,122 6,037 5,306 4,885
Provision for possible loan losses --- --- --- ---
------ ------ ------ -----
Net interest income after
provision for possible loan losses 6,122 6,037 5,306 4,885
Noninterest income 598 675 638 650
Noninterest expense 4,965 5,208 4,266 4,751
------ ------ ------ -----
Income before income taxes 1,755 1,504 1,678 784
(Benefit) provision for income taxes (1) (608) 1 (74) (124)
------ ------ ------ ------
Net income $2,363 $1,503 $1,752 $ 908
======= ======= ======= ======
Earnings per share $ .39 $ .25 $ .29 $ .15
======= ======= ====== ======
<FN>
(1) The benefit for income taxes recorded in 1994 was based on management's
quarterly review of the realizability of the deferred tax asset. The benefit
recognized during the year reflects management's analysis of future taxable
income.
</FN>
- ---------------------------------------------------------------------------------------------------------
</TABLE>
57
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
17. PREFERRED STOCK
The Company's Board of Directors has authorized a series of 100,000 shares of
preferred stock designated as Series A Junior Participating Cumulative Preferred
Stock, par value $0.10 per share ("Series A Stock") and has declared a dividend
distribution of one Preferred Stock Purchase Right (the "Right") for each
outstanding share of the Company's common stock.
Pursuant to the Company's Shareholder Rights Plan, each Right entitles the
holder to purchase from the Company a unit consisting of one one-hundredth of a
share of Series A Stock, par value $0.10 per share, at an initial cash exercise
price of $28 per unit, subject to adjustment. The Rights are not exercisable and
remain attached to all outstanding shares of the Company's common stock until
the earliest of (i) ten days following a public announcement that a person or
group of affiliated or associated persons (an "Acquiring Person") has acquired
beneficial ownership of 20% or more of the outstanding shares of the Company's
common stock (the date of said announcement being referred to as the "Stock
Acquisition Date"), (ii) ten business days following the commencement of a
tender offer or exchange offer that would result in a person or group becoming
an Acquiring Person or (iii) the declaration by the Company's Board of Directors
that a person is an "Adverse Person," as such term is defined in the Company's
Shareholder Rights Plan.
In the event that a Stock Acquisition Date occurs or the Board determined that a
person is an Adverse Person, each holder of a Right will be entitled to receive,
upon exercise, that number of units of Series A Stock having a fair value of two
times the exercise price of the Right. In the event that, at any time following
the Stock Acquisition Date, (i) the Company is acquired in a merger or other
business combination transaction or (ii) 50% or more of the Company's assets or
earning power is sold, each holder of a Right shall thereafter have the right to
receive, upon exercise, common stock of the acquiring company having a fair
value equal to two times the exercise price of the Right. The holders of Series
A Stock would be entitled to preferred rights with respect to dividends, voting
and liquidation.
18. FAIR VALUE OF FINANCIAL INSTRUMENTS
CASH AND CASH EQUIVALENTS
Cash and cash equivalents consist of cash on hand, amounts due from banks,
interest-bearing deposits, federal funds sold and investments with original
maturities of less than three months. Cash and cash equivalents are recorded at
cost which approximates fair value.
INVESTMENT SECURITIES
Fair values for investment securities, excluding Federal Home Loan Bank (FHLB)
and Savings Bank Life Insurance (SBLI) stock, are based on quoted market prices,
where available. If quoted market prices are not available, fair values are
based on quoted market prices of comparable instruments. The carrying values of
FHLB and SBLI stock approximates fair value.
LOANS RECEIVABLE
For variable rate loans that reprice frequently and with no significant change
in credit risk, fair values are based on carrying values. The fair values for
certain mortgage loans (e.g., one-to-four family residential) are based on
quoted market prices of similar loans sold in conjunction with securitization
transactions, adjusted for differences in loan characteristics. The fair values
of other loans (e.g., commercial real estate and rental property mortgage loans,
58
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
commercial, industrial loans, and consumer loans) are estimated using a
discounted cash flow analysis, using interest rates currently being offered for
loans with similar terms to borrowers of similar credit quality. The carrying
amount of mortgage loans held-for-sale and accrued interest approximates its
fair value. As of December 31, 1995 and 1994, mortgage loans held-for-sale
totalled $5,821,000 and $2,930,000, respectively.
DEPOSITORS' ACCOUNTS
The fair values disclosed for certain deposits (e.g., interest and
noninterest-bearing checking, passbook savings, and certain types of money
market accounts) are, by definition, equal to the amount payable on demand at
the reporting date (i.e., their carrying amounts). Fair values for fixed-rate
certificates of deposit are estimated using a discounted cash flow calculation
that applies interest rates currently being offered on a schedule of aggregated
expected monthly maturities on time deposits. The carrying amount of accrued
interest payable approximates its fair value.
BORROWED FUNDS
The carrying amounts of borrowings within ninety days approximate their fair
values. Fair values of other borrowings are estimated using discounted cash flow
analyses based on the Company's current borrowing rates for similar types of
borrowing arrangements. The carrying value for repurchase agreements
approximates fair value due to the short term nature of these instruments.
OFF BALANCE-SHEET INSTRUMENTS
The fair values of the Company's off-balance-sheet instruments (lending
commitments and letters of credit) are based on fees currently charged to enter
into similar agreements, taking into account the remaining terms of the
agreement and the counterparties' credit standing.
At December 31, 1995, the estimated fair value of off-balance sheet financial
instruments, consisting primarily of loan commitments, were not material.
ASSUMPTIONS
Fair value estimates are made at a specific point in time, based on relevant
market information about specific financial instruments. These estimates do not
reflect any premium or discount that could result from offering for sale at one
time the Company's entire holdings of a particular financial instrument. Because
no market exists for a significant portion of the Company's financial
instruments, fair value estimates are based on judgments regarding future
expected loss experience, current economic conditions, risk characteristics of
various financial instruments, and other factors. These estimates are subjective
in nature and involve uncertainties and matters of significant judgment and,
therefore, cannot be determined with precision. Changes in assumptions could
significantly affect the estimates.
59
<PAGE>
FIRST ESSEX BANCORP, INC.
NOTES to CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1995
The estimated fair values of the Company's financial instruments follow:
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------
December 31, 1995 December 31, 1994
----------------- -----------------
Carrying Fair Carrying Fair
Amount Value Amount Value
(Dollars in thousands)
<S> <C> <C> <C> <C>
Financial assets:
Cash and cash equivalents $ 27,308 $ 27,308 $ 18,714 $ 18,714
Investment securities available-for-sale 115,153 115,153 35,200 35,200
Investment securities held-to-maturity 135,098 133,651 295,057 284,341
Stock in Federal Home Loan Bank
of Boston and Savings Bank Life
Insurance Company 16,063 16,063 13,969 13,969
Loans receivable, net 487,678 491,847 419,644 417,145
Mortgage loans held-for-sale 5,821 5,821 2,930 2,930
Accrued interest receivable 4,466 4,466 4,537 4,537
Financial liabilities:
Demand, savings and time deposits 491,469 486,196 456,878 451,851
Borrowed funds 245,569 244,514 279,948 277,382
- ------------------------------------------------------------------------------------------
</TABLE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
There were no changes in, or disagreements with, accountants on accounting and
financial disclosures.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item appears under the headings "Information
Regarding Directors and Nominees" and "Executive Officers" of the Company's
definitive Proxy Statement dated April 1, 1996 for the Annual Meeting of
Stockholders to be held May 2, 1996 filed with the Securities and Exchange
Commission (the "Proxy Statement"), and is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item appears in the Proxy Statement under the
headings "Summary Compensation Table," "Stock Options Granted in 1995," "Long
Term Incentive Plan Awards Granted in 1995," " Aggregate Option/SAR Exercises in
Last Fiscal Year, and FY-End Option/SAR Value," "Pension Plan," "Executive
Salary Continuation Agreement," "Employment Contracts, Termination of Employment
and Change in Control Arrangements," "Compensation/Nominating Committee
Interlocks and Insider Participation" and "Compensation/Nominating Committee
Report on Executive Compensation" and is incorporated herein by reference.
60
<PAGE>
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item appears in the Proxy Statement under the
headings "Principal and Management Stockholders", "Information Regarding
Directors and Nominees" and is incorporated herein
by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item appears in the Proxy Statement under the
heading "Certain Transactions with Management and Others" and is incorporated
herein by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) (1) Index of Financial Statements: The following financial statements
appear in response to Item 8 of this Report.
Reports of Independent Public Accountants
Consolidated Balance Sheets as of December 31, 1995 and 1994
Consolidated Statements of Operations for the Years Ended December 31,
1995, 1994 and 1993 Consolidated Statements of Stockholders Equity for
the Years Ended December 31, 1995, 1994 and 1993 Consolidated Statements
of Cash Flows for the Years Ended December 31, 1995, 1994 and 1993 Notes
to Consolidated Financial Statements
(a) (2) Index of Financial Statement Schedules: The following financial
statement schedules appear in response to Item 8 of this Report or as
part of this Item 14:
Schedule I - Indebtedness to Related Parties. The information
required by this Schedule is not material and is therefore omitted.
Schedule II - Guarantees of Securities of other Issuers. Not
applicable.
(b) Reports on Form 8-K:
No reports on Form 8-K were filed by First Essex during the fiscal
quarter ended December 31, 1995.
(c) Exhibits:
(3) Articles of Incorporation and By-laws:
3.1 The Restated Certificate of Incorporation of the Company is
incorporated herein by reference to Exhibit 3.1 to Amendment No. 1 to
the Company's Registration Statement on Form S-1, Registration No.
33-10966, filed with the Securities and Exchange Commission on April
17, 1987 ("Amendment No. 1 to the Form S-1");
3.2 The Amended and Restated By-laws of the Company are incorporated
herein by reference to Exhibit 4.1 of the Company's current report on
Form 8-K filed on December 28, 1992.
61
<PAGE>
(10)Material Contracts:
10.1 - The First Essex Bancorp, Inc. 1987 Stock Option Plan is incorporated
herein by reference to Appendix B to the prospectus included in the
Company's Registration Statement on Form S-8, registration number
33-21292, filed on April 15, 1988;
10.2 - The Shareholder Rights Agreement is incorporated herein by reference
to the exhibit to the Company's Current Report on Form 8-K filed on
October 12, 1989, as amended by the Amendment to the Shareholder
Rights Plan, incorporated herein by reference to Exhibit 28.2 to the
Company's Current Report on Form 8-K filed on February 12, 1990;
10.3 - Amended and Restated Employment Agreement between First Essex
Bancorp, Inc., First Essex Bank, FSB and Leonard A. Wilson is
incorporated herein by reference to Exhibit 10.3 to the Company's
Annual Report on Form 10-K for the fiscal year ended December 31,
1994;
10.4 - Amended and Restated Employment Agreement between First Essex
Bancorp, Inc., First Essex Bank, FSB and David W. Dailey is
incorporated herein by reference to Exhibit 10.4 to the Company's
Annual Report on Form 10-K for the year ended December 31, 1994.
10.5 - Special Termination Agreement between First Essex Bancorp, Inc.,
First Essex Bank, FSB and Leonard A. Wilson is incorporated herein by
reference to Exhibit 10.5 to the Company's Annual Report on Form 10-K
for the fiscal year ended December 31, 1993;
10.6 - Special Termination Agreement between First Essex Bancorp, Inc.,
First Essex Bank, FSB and David W. Dailey is incorporated herein by
reference to Exhibit 10.6 to the Company's Annual Report on Form 10-K
for the fiscal year ended December 31, 1993;
10.7 - Executive Salary Continuation Agreement between First Essex Bancorp,
Inc., First Essex Bank, FSB and Leonard A. Wilson is incorporated
herein by reference to Exhibit 10.15 to the Company's Annual Report on
Form 10-K for the fiscal year ended December 31, 1988;
10.8 - Form of Special Termination Agreement between First Essex Bancorp,
Inc, First Essex Bank, FSB and each of John M. DiGaetano, David L.
Savoie, Sametta A. Glass and William F. Burke (at one year terms) and
Wayne C. Golon (at a 2 year term) is incorporated by reference to
Exhibit 10.8 to the Company's annual report on Form 10-K for the
fiscal year ended December 31, 1993
10.9 - First Essex Bancorp, Inc. Senior Management Incentive Compensation
Plan is incorporated herein by reference to Exhibit 10.9 to the
Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 1994.
(12) Statements Regarding Computation of Ratios: Not applicable, as First
Essex does not have any debt securities registered under Section 12 of
the Securities Exchange Act of 1934.
(22) Subsidiaries of Registrant: A list of subsidiaries of the Company is
incorporated by reference to Exhibit 22 to the Company's annual report
on Form 10-K for the fiscal year ended December 31, 1993.
(23) Consent of Experts and Counsel: Consent of Arthur Andersen LLP is
attached hereto as Exhibit 23.
62
<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, thereunto duly authorized.
FIRST ESSEX BANCORP, INC.
Date: March 21, 1996
by /s/Leonard A. Wilson
Leonard A. Wilson
President and Chief Executive Officer
63
<PAGE>
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed by the following people on behalf of the registrant in the
capacities and on the dates indicated.
/s/Leonard A. Wilson President, Chief Executive Officer and Director
Leonard A. Wilson (Principal Executive Officer) March 21, 1996
/s/David W. Dailey Executive Vice President, (Principal Financial
David W. Dailey and Accounting Officer) March 21, 1996
/s/Thomas S. Barenboim Director March 21, 1996
Thomas S. Barenboim
/s/Augustine J. Fabiani Director March 21, 1996
Augustine J. Fabiani
/s/William L. Lane Director March 21, 1996
William L. Lane
/s/Frank J. Leone, Jr. Director March 21, 1996
Frank J. Leone, Jr.
Director March 21, 1996
Robert H. Pangione
/s/Walter W. Topham Director March 21, 1996
Walter W. Topham
/s/Robert H. Watkinson Director March 21, 1996
Robert H. Watkinson
64
Exhibit No. 23
CONSENT OF CERTIFIED PUBLIC ACCOUNTNATS
As independent public accountants, we hereby consent to the incorporation of
our report on First Essex Bancorp, Inc. dated january 17, 1996, included in this
Form 10-K, into the Company's previously filed Registration Statements on Form
S-8 (File Nos. 33-21292 and 33-81198).
ARTHUR ANDERSEN LLP
/s/Arthur Andersen LLP
Boston, Massachusetts
March 22, 1996
<TABLE> <S> <C>
<ARTICLE> 9
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1995
<PERIOD-END> DEC-31-1995
<CASH> 22,222
<INT-BEARING-DEPOSITS> 5,086
<FED-FUNDS-SOLD> 4,500
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 115,153
<INVESTMENTS-CARRYING> 250,251
<INVESTMENTS-MARKET> 248,804
<LOANS> 500,051
<ALLOWANCE> 6,552
<TOTAL-ASSETS> 808,792
<DEPOSITS> 491,469
<SHORT-TERM> 111,996
<LIABILITIES-OTHER> 11,582
<LONG-TERM> 133,573
<COMMON> 801
0
0
<OTHER-SE> 59,371
<TOTAL-LIABILITIES-AND-EQUITY> 808,792
<INTEREST-LOAN> 41,218
<INTEREST-INVEST> 19,408
<INTEREST-OTHER> 288
<INTEREST-TOTAL> 60,914
<INTEREST-DEPOSIT> 19,844
<INTEREST-EXPENSE> 37,081
<INTEREST-INCOME-NET> 23,833
<LOAN-LOSSES> 770
<SECURITIES-GAINS> (13)
<EXPENSE-OTHER> 19,244
<INCOME-PRETAX> 7,527
<INCOME-PRE-EXTRAORDINARY> 7,452
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 7,452
<EPS-PRIMARY> 1.22
<EPS-DILUTED> 1.22
<YIELD-ACTUAL> 2.99
<LOANS-NON> 3,373
<LOANS-PAST> 0
<LOANS-TROUBLED> 1,043
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 7,237
<CHARGE-OFFS> 2,485
<RECOVERIES> 1,030
<ALLOWANCE-CLOSE> 6,552
<ALLOWANCE-DOMESTIC> 6,552
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
