SECURITIES AND EXCHANGE COMMISSION
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Washington, DC 20549
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FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended 3/31/98
--------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ___ to
Commission file number 0-16143
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FIRST ESSEX BANCORP, INC.
-------------------------
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C>
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)
</TABLE>
Registrant's telephone number, including area code: (978) 681-7500
--------------
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
---
The number of shares outstanding of each of the registrant's classes of common
stock as of March 31, 1998:
<TABLE>
<S> <C>
Title of Class Shares Outstanding
---------------------------- ------------------
Common Stock, $.10 par value 7,534,721
</TABLE>
<PAGE>
CAUTIONARY STATEMENT FOR PURPOSES OF THE
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
The Company desires to take advantage of the "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 its wholly owned
banking subsidiary, First Essex Bank, FSB, must comply, and the associated costs
of compliance with such laws and regulations, 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 Company's organization,
compensation and benefit plans; (iii) the effect on the Company's competitive
position within its market area of the increasing consolidation within the
banking and financial services industries, including increased 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 local, regional and national economies.
2
<PAGE>
FIRST ESSEX BANCORP, INC.
INDEX
PART I - FINANCIAL INFORMATION
<TABLE>
<CAPTION>
Page
<S> <C>
ITEM 1. Financial Statements (unaudited)
Consolidated Balance Sheets as of March 31, 1998
and December 31, 1997 4
Consolidated Statements of Operations for the
three months ended March 31, 1998 and 1997 5
Consolidated Statements of Stockholders' Equity
for the year ended December 31, 1997
and the three months ended March 31, 1998 6
Consolidated Statements of Cash Flows for the
three months ended March 31, 1998 and 1997 7
Note to the Consolidated Financial Statements 8
ITEM 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 9-18
ITEM 3. Quantitative and Qualitative Disclosure
About Market Risk 19
PART II - OTHER INFORMATION
ITEM 4. Submission of Matters to a Vote of Security Holders 20
ITEM 6. Exhibits and Reports on Form 8-K 20
</TABLE>
3
<PAGE>
ITEM 1. FINANCIAL STATEMENTS
FIRST ESSEX BANCORP, INC.
Consolidated Balance Sheets
(unaudited)
<TABLE>
<CAPTION>
March 31, December 31,
1998 1997
ASSETS ---- ----
(Dollars in thousands)
<S> <C> <C>
Cash and cash equivalents $53,694 $22,542
Investment securities available-for-sale 284,097 211,903
Investment securities held-to-maturity
(fair value $181,124,000 and $180,743,000) 179,197 178,999
Stock in Savings Bank Life Insurance Company 1,194 1,194
Stock in Federal Home Loan Bank of Boston 19,985 19,803
Mortgage loans held-for-sale 15,380 11,807
Loans receivable, less allowance for possible loan losses of
$10,593,000 and $10,570,000 684,829 696,338
Foreclosed property 1,522 891
Bank premises and equipment 10,064 10,545
Accrued interest receivable 8,304 8,084
Goodwill 10,794 10,991
Other assets 24,242 24,362
---------- ----------
Total assets $1,293,302 $1,197,459
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Depositors' accounts $760,216 $744,322
Borrowed funds 418,790 343,557
Mortgagors' escrow accounts 1,550 561
Other liabilities 21,614 17,954
---------- ----------
Total liabilities 1,202,170 1,106,394
---------- ----------
STOCKHOLDERS' EQUITY
Serial preferred stock: $.10 par value per share; 5,000,000
shares authorized, no shares issued or outstanding
Common stock, $.10 par value per share; 25,000,000 shares
authorized, 9.631.221 and 9.522.424 shares issued 963 952
Additional paid-in-capital 76,161 75,303
Retained earnings 31,328 29,685
Treasury stock, at cost, 2,096,500 and 1,986,000 shares (18,334) (15,842)
Accumulated other comprehensive income 1,014 967
---------- ----------
Total stockholders' equity 91,132 91,065
---------- ----------
Total liabilities and stockholders' equity $1,293,302 $1,197,459
========== ==========
</TABLE>
4
<PAGE>
FIRST ESSEX BANCORP, INC.
Consolidated Statement of Operations
(unaudited)
<TABLE>
<CAPTION>
Three Months Ended March 31,
1998 1997
---- ----
(Dollars in thousands, except per share amount)
<S> <C> <C>
Interest and dividend income:
Interest on mortgage loans $9,247 $9,528
Interest on other loans 6,272 5,615
Interest and dividends on investment securities available-for-sale 3,988 3,383
Interest and dividends on investment securities held-to-maturity 3,409 2,395
Interest on short-term investments 174 149
Interest on other earning assets 260 --
---------- ----------
Total interest and dividend income 23,350 21,070
---------- ----------
Interest expense
Interest on depositors' accounts 8,072 7,319
Interest on borrowed funds 5,507 4,594
---------- ----------
Total interest expense 13,579 11,913
---------- ----------
Net interest income 9,771 9,157
Provision from possible loan losses 435 510
---------- ----------
Net interest income after provision
for possible loan losses 9,336 8,647
Noninterest income
Net gain on sales of mortgage loans and mortgage servicing rights 282 362
Net gain on sale of investment securities 17 52
Loan fees 123 180
Other fee income 568 609
---------- ----------
Total non-interest income 990 1,203
Noninterest expense
Salaries and employee benefits 2,852 2,866
Buildings and equipment 996 1,076
Professional services 198 401
Information processing 509 372
Insurance 63 91
Expenses, gain and losses on
and write-downs of, foreclosed property 141 206
Other 853 955
Amortization of goodwill 196 197
---------- ----------
Total noninterest expenses 5,808 6,164
---------- ----------
Income before provision for income taxes 4,518 3,686
Provision for income taxes 1,820 1,539
---------- ----------
Net income $2,698 $2,147
========== ==========
Earnings per share-Basic $0.36 $0.29
========== ==========
Earnings per share-Diluted $0.34 $0.28
========== ==========
Dividends declared per share $0.14 $0.12
========== ==========
Weighted average number of shares-basic 7,550,568 7,451,000
========== ==========
Weighted average number of shares-diluted 7,878,053 7,706,249
========== ==========
</TABLE>
5
<PAGE>
FIRST ESSEX BANCORP, INC.
Consolidated Statements of Stockholders' Equity
Year Ended December 31, 1997
And The Three Months Ended March 31, 1998
-----------------------------------------
(unaudited)
-----------
<TABLE>
<CAPTION>
Components of Stockholders' Equity
-------------------------------------------
Accumulated
Other
Comprehensive Common Paid In Retained Treasury Comprehensive
Income Stock Capital Earnings Stock Income (Loss) Total
-------------- ------ ------- -------- -------- -------------- -----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1996 $941 $74,408 $23,727 ($15,842) ($93) $83,141
Comprehensive income:
Net income $9,713 -- -- 9,713 -- -- 9,713
Other comprehensive income:
-Unrealized securities gains,
net of $672 of tax expense,
arising during the period 1,060
-------
Total other comprehensive income 1,060 1,060 1,060
-------
Total comprehensive income $10,773
=======
Cash dividends declared -- -- (3,755) -- -- (3,755)
Stock options exercised 11 895 -- -- -- 906
---- ------- ------- -------- ------ -------
Balance at December 31, 1997 952 75,303 29,685 (15,842) 967 91,065
Comprehensive income:
Net income $2,698 -- -- 2,698 -- -- 2,698
Other comprehensive income:
-Unrealized securities gains,
net of $31 of tax expense,
arising during the period 47
-------
Total other comprehensive income 47 47 47
-------
Total comprehensive income $2,745
=======
Cash dividends declared -- -- (1,055) -- -- (1,055)
Stock options exercised 11 858 869
Treasury stock purchase -- -- -- (2,492) -- (2,492)
---- ------- ------- -------- ------ -------
$963 $76,161 $31,328 ($18,334) $1,014 $91,132
Balance at March 31, 1998 ==== ======= ======= ======== ====== =======
</TABLE>
6
<PAGE>
FIRST ESSEX BANCORP, INC
Consolidated Statements of Cash Flows
(unaudited)
<TABLE>
<CAPTION>
Three Months Ended March 31,
1998 1997
------ ------
(Dollars in thousands)
<S> <C> <C>
Cash flows from operating activities
Net income $2,698 $2,147
Adjustments to reconcile net income to net cash provided by operating activities
Provision for possible loan losses 435 510
Provision for depreciation and amortization 489 515
Gain on sales of foreclosed property (39) (24)
Write-down of foreclosed property -- 35
Amortization of goodwill 196 198
Amortization of investment securities discounts and premiums, net 448 136
Deferred income taxes -- 1,539
Proceeds from sales of mortgage loans and mortgage servicing rights 26,026 18,286
Mortgage loans originated for sale (29,320) (16,025)
Realized gains on the sale of investment securities (17) (52)
Realized gains on the sale of mortgage loans and mortgage servicing rights, net (282) (362)
Increase in accrued interest receivable (220) (1,320)
(Increase) decrease in other assets 120 (41)
Increase (decrease) in other liabilities 3,660 (1,984)
------- -------
Net cash provided by operating activities 4,194 3,558
Cash flows from investing activities
Proceeds from sales of available-for-sale securities 1,217 933
Proceeds from maturities and principal payments of available-for-sale securities 16,256 11,181
Proceeds from maturities and principal payments of held-to-maturity securities 21,586 4,246
Purchases of available-for-sale securities (89,963) (69,861)
Purchases of held-to-maturity securities (21,892) (34,878)
Purchases of Federal Home Loan Bank stock (182) (1,343)
Loans (originated and purchased), net of principal collected 9,832 (11,690)
Proceeds from sales of foreclosed property 674 2,207
Purchases of bank premises and equipment (8) (544)
------- -------
Net cash used in investing activities (62,480) (99,749)
Cash flows from financing activities
Net increase in demand deposits, NOW accounts and savings accounts 16,766 14,116
Net increase (decrease) in term deposits (872) 660
Net increase in borrowed funds with maturities of three months or less 969 81,436
Proceeds from borrowed funds with maturities in excess of three months 146,000 27,000
Repayments of borrowed funds with maturities in excess of three months (71,736) (44,130)
Increase (decrease) in mortgagors' escrow accounts 989 1,131
Dividends paid (1,055) (897)
Stock options exercised 869 453
Stock repurchased (2,492) --
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Net cash provided by financing activities 89,438 79,769
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Net decrease in cash and cash equivalents 31,152 (16,422)
Cash and cash equivalents at beginning of period 22,542 38,078
------- -------
Cash and cash equivalents at end of period $53,694 $21,656
======= =======
Supplemental disclosure of cash flow information:
Interest paid during the year $13,118 $10,829
Income taxes paid during the year 560 --
Supplemental schedule of noncash financing and investing activities:
Real estate acquired through, or deeds in lieu of, foreclosure 513 1,279
</TABLE>
7
<PAGE>
FIRST ESSEX BANCORP, INC.
Note to Consolidated Financial Statements
1. Basis of Presentation
The accompanying consolidated financial statements are unaudited and include the
accounts of First Essex Bancorp, Inc. (the "Company") and its subsidiary, First
Essex Bank, FSB. These financial statements reflect, in management's opinion,
all adjustments (consisting of normal recurring adjustments) necessary for a
fair presentation of the Company's financial position and the results of its
operations and cash flows for the periods presented. These financial statements
should be read in conjunction with the financial statements and notes thereto
included in the Company's 1997 Form 10-K.
8
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FIRST ESSEX BANCORP, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS
March 31, 1998
General
First Essex Bancorp, Inc., (the "Company"), is a Delaware corporation whose
primary activity is to act as the parent holding company for First Essex Bank,
FSB (the "Bank").
The Company's net earnings depend to a large extent upon its net interest
income, which is the difference between interest and dividend income earned on
its loans and investments and interest expense paid on its deposits and borrowed
funds. The Company's net earnings also depend upon its provision for possible
loan loss, non-interest income, non-interest expense and income tax expense.
Interest and dividend income and interest expense are significantly affected by
general economic conditions. These economic conditions, together with conditions
in the local real estate markets, affect the levels of non-performing assets and
provisions for possible loan losses.
Results of Operations
General
Net income for the three month ended March 31, 1998 was $2.7 million compared to
$2.1 million for same period in 1997, or a 25.7% increase. Net interest income
totaled $9.8 million for the quarter compared to $9.2 million for the same
period in 1997. Higher net interest income of $614,000 combined with decreases
in non-interest expense and in the provision for loan losses totaling $431
thousand, offset by a decrease of $213 thousand in non-interest income,
accounted for the $832 thousand increase (22.6%) in pretax income.
9
<PAGE>
Analysis of Average Yields Earned and Rates Paid
The following table presents an analysis of average yields earned and rates paid
for the periods indicated:
<TABLE>
<CAPTION>
For the Three Months Ended March 31,
1998 1997
------------------------------ --------------------------
Interest Average Interest Average
Average Earned/ Yield/ Average Earned/ Yield/
Balance Paid Rate Balance Paid Rate
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Assets
Earnings assets
Short-term investments $13,215 $174 5.27% $14,504 $149 4.11%
Investment securities 453,963 7,397 6.52 362,154 5,778 6.38
Other earning assets 17,300 260 6.01
Total loans(1) 719,211 15,519 8.63 703,463 15,143 8.61
---------- ------ ---------- ------
Total earning assets 1,203,689 23,350 7.76 1,080,121 21,070 7.80
Allowance for possible loan losses (10,583) (9,898)
---------- ----------
Total earning assets less allowance
for possible loan losses 1,193,106 1,070,223
Other assets 55,252 56,656
---------- ----------
Total assets $1,248,358 $1,126,879
========== ==========
Liabilities and Stockholders' Equity
Deposits
NOW accounts $42,960 $146 1.36% $41,623 $129 1.24%
Money Market accounts 66,704 429 2.57 84,746 444 2.10
Savings accounts 164,489 1,549 3.77 89,482 626 2.80
Time deposits 414,108 5,948 5.75 428,971 6,120 5.71
---------- ------ ---------- ------
Total interest bearing deposits 688,261 8,072 4.69 644,822 7,319 4.54
Borrowed funds 388,213 5,507 5.67 322,243 4,594 5.70
---------- ------ ---------- ------
Total interest bearing deposits and
borrowed funds 1,076,474 13,579 5.05 967,065 11,913 4.93
---------- ------ ---------- ------
Demand deposits 59,495 59,716
Other liabilities 20,785 16,709
---------- ----------
Total liabilities 1,156,754 1,043,490
Stockholders' equity 91,604 83,389
---------- ----------
Total liabilities and
stockholders' equity $1,248,358 $1,126,879
========== ==========
Net interest income $9,771 $9,157
====== ======
Weighted average interest
rate spread 2.71% 2.88%
====== ======
Net yield on average
earning assets(2) 3.25% 3.39%
====== ======
Return on average assets 0.89% 0.76%
====== ======
Return on average equity 11.76% 10.30%
====== ======
</TABLE>
(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 earning assets.
10
<PAGE>
Net Interest Income
Net interest income increased by $614,000 to $9.8 million for the three months
ended March 31, 1998. This represents an increase of 6.7% from $9.2 million when
compared to the same period in 1997.
Interest and Dividend Income
Interest and dividend income increased by $2.3 million (10.8%) to $23.4 million,
the three month period ended March 31, 1998, from $21.1 million in the same
period in 1997. The changes relate to volume increases in earning assets
primarily related to the acquisition of Finest and the Company's decision to
more fully leverage capital by enlarging its investment portfolio, funded by
increased borrowings.
Interest Expense
Interest expense increased by $1.7 million (14.0%) to $13.6 million, for the
three period ended March 31, 1998 when compared to the same period in 1997.
These increases were primarily attributable to volume increases associated with
the additional borrowings to fund the growth in the Company's investment
portfolio.
Provision for Possible Loan Losses
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 nonaccruing loans, current economic conditions, trends
in delinquencies and chargeoffs 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.
The provisions for possible loan losses totaled $435 thousand for the three
month period ended March 31, 1998. The provision for possible loan losses
totaled $510 thousand for the comparable three month period in 1997, all of
which related to impaired loans as defined in SFAS 114 "Accounting by Creditors
for Impairment of a loan " as amended SFAS No. 118. Provisions result from
management's continuing 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 and other markets, and the economy in general. 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 NonPerforming Assets."
Non-Interest Income
Non-interest income consists of net gains from the sales of mortgage loans and
mortgage loan servicing rights and gains on the sale of investment securities,
together with fee and other non-interest income.
Non-interest income decreased by $213 thousand (17.7%) to $990 thousand for the
three months ended March 31, 1998 compared to the $1.2 million for the same
period in 1997. The decrease in non-interest income for the three months ended
March 31, 1998 is attributable to decreases of $98 thousand in fees collected on
loans and deposit accounts, an $80 thousand decrease in the gain on sales of
loans and mortgage servicing rights and a $35 thousand reduction in the gain on
the sale of investment securities, when compared to the same period in 1997.
11
<PAGE>
Non-Interest Expense
Non-interest expense decreased to $5.8 million for the three months ended March
31, 1998, compared to $6.2 million the same period in 1997. The $356 thousand
decrease (5.8%) was spread throughout the components of non-interest expense.
Income Tax Expense
The provision for income taxes increased to $1.8 million for the three month
period ended March 31, 1998 from $1.5 million for the three month period ended
March 31, 1997 reflecting the increased amount of pretax income for the
comparable period.
Earnings Per Share
In 1997, the Company adopted the provisions of SFAS No. 128, "Earnings per
Share", which requires the dual presentation of basic and diluted earnings per
share (EPS) on the face of the statement of operations together with a
reconciliation of the numerators and denominators of the basic and diluted EPS
computations. The following table provides this reconciliation for the periods
ended March 31, 1998 and 1997:
<TABLE>
<CAPTION>
March 31,
1998 1997
---- ----
<S> <C> <C>
Net income available to common shareholders $2,698 $2,147
Basic EPS:
Basic common stock outstanding 7,551 7,451
===== =====
Basic EPS $0.36 $0.29
===== =====
Diluted EPS:
Basic common stock outstanding 7,551 7,451
Plus: common stock from options 327 255
----- -----
Dilutive common stock outstanding 7,878 7,706
===== =====
Diluted EPS $0.34 $0.28
===== =====
</TABLE>
Note: Stock share amounts and dollar amounts in thousands with the
exception of per share amounts.
12
<PAGE>
Financial Condition
Total assets amounted to $1,293.3 million at March 31, 1998, an increase of
$95.8 million or 8.0% from $1,197.5 million at December 31, 1997.
Loans
At March 31, 1998, the loan portfolio, including mortgage loans held for sale,
and before consideration of the allowance for possible loan losses, was $710.8
million, representing 55% of total assets, compared to $718.7 million or 60% of
total assets at December 31, 1997.
The following table sets forth information concerning the Company's loan
portfolio at the dates indicated. The balances shown in the table are net of
unadvanced funds and unearned discounts and fees.
- -------------------------------------------------------------------------------
<TABLE>
<CAPTION>
March 31, 1998 December 31, 1997
----------------------- ------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Real Estate:
Residential $255,634 36.0% $274,865 38.2%
Commercial 83,314 11.7 83,077 11.6
Construction 31,415 4.4 31,851 4.4
-------- ----- -------- -----
Total Real Estate Loans 370,363 52.1 389,793 54.2
-------- ----- -------- -----
Owner occupied Commercial Real Estate 54,691 7.7 52,335 7.3
Commercial loans 68,939 9.7 67,018 9.3
Aircraft loans 44,308 6.2 41,220 5.8
Consumer loans
Home Equity Home Improvement &
Second Mortgage 57,915 8.2 59,897 8.3
Automobile 110,170 15.5 103,551 14.4
Other 4,416 0.6 4,901 0.7
-------- ----- -------- -----
Total consumer loans 172,501 24.3 168,349 23.4
Total loans $710,802 100.0% $718,715 100.0%
======== ===== ======== =====
</TABLE>
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13
<PAGE>
Allowance for Possible Loan Losses
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 nonaccruing loans, current economic conditions, trends
in delinquencies and chargeoffs 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. (See
"Non-Performing Assets" for a discussion of the Company's impaired loans.)
The following table summarizes the activity in the allowance for possible loan
losses (including amounts established for impaired loans) for the three months
ended March 31, 1998.
<TABLE>
<CAPTION>
(Dollars in thousands)
<S> <C>
Balance at December 31, 1997 10,570
Provision for possible loan losses 435
Charge-offs
Mortgage 227
Owner occupied commercial real estate --
Construction --
Commercial 136
Consumer 552
--------
Total charge-offs 915
--------
Recoveries
Mortgage 312
Owner occupied commercial real estate --
Construction 7
Commercial 61
Consumer 123
--------
Total recoveries 503
--------
Net charge-offs 412
--------
Balance at March 31, 1998 10,593
========
Total loans at end of period $710,802
Average loans for the period 719,211
Allowance to loans ratio 1.49%
Net charge-offs to average loans ratio 0.23%
</TABLE>
- --------------------------------------------------------------------------------
14
<PAGE>
Non-Performing Assets
Non-performing assets consist of non-accruing loans (including loans impaired
under SFAS No. 114), and foreclosed property. Non-performing assets totaled $7.0
million at March 31, 1998 and $6.4 million at December 31, 1997.
The Bank's policy 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 90 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 the current period interest income.
Restructured loans are loans (1) on which concessions have been made in light of
the debtor's financial difficulty with the objective of maximizing recovery and
(2) with respect to which the renegotiated payment terms continue to be met.
Interest income recognized on impaired loans (including restructured loans),
using the cash basis of income recognition, amounted to approximately $39
thousand for the three months ended March 31, 1998, compared to $47 thousand for
the same period in 1997. The average recorded investment of impaired loans for
the three months ended March 31, 1998 was $2.8 million, compared to $2.4 million
for the same period in 1997, and $2.6 million for the twelve month period ended
December 31, 1997.
Foreclosed property consists mainly of real estate collateral from loans which
were foreclosed.
The following table indicates the recorded investment of non-performing assets
and the related valuation allowance for impaired loans.
- -------------------------------------------------------------------------------
<TABLE>
<CAPTION>
March 31, 1998 December 31, 1997
Impaired Loan Impaired Loan
Recorded Valuation Recorded Valuation
Investment Allowance Investment Allowance
---------- --------- ---------- ---------
<S> <C> <C> <C> <C>
Non-accruing Loans
Impaired Loans
Requiring a valuation allowance $1,710 $591 $1,577 $590
Not requiring a valuation allowance 179 -- 309 --
------ ------ ------ -----
1,889 591 1,886 590
Restructured Loans 872 420 905 420
------ ------ ------ -----
Total impaired 2,761 $1,011 2,791 1,010
====== =====
Residential Mortgage 1,705 1,525
Other 965 1,228
------ ------
Total non-accruing 5,431 5,544
Foreclosed property, net 1,522 891
------ ------
Total non-performing assets $6,953 $6,435
====== ======
Percentage of non-performing assets
to total assets 0.54% 0.54%
Percentage of allowance for possible
loan losses to non-accruing loans 195.0% 190.7%
</TABLE>
The valuation allowance for impaired loans is included in the allowance for
possible loan losses on the balance sheet.
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15
<PAGE>
Investments
At March 31, 1998, the investment portfolio, consisting of short-term
investments, investment securities, mortgage-backed securities, Federal Home
Loan Bank ("FHLB") stock and stock in the Savings Bank Life Insurance Company of
Massachusetts, totaled $484.5 million or 37.5% of total assets, compared to
$411.9 million or 34.4% of total assets at December 31, 1997. The investment
portfolio was increased to more fully leverage the capital of the Company, and
thereby produce a higher return funded by increased borrowings. Interest and
dividend income on the investment portfolio generated 32.4% of total interest
and dividend income for the three months ended March 31, 1998 compared to 28.1%
for the comparable period in 1997.
To identify and control market 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.
Deposits
Deposits are the 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 March 31, 1998
the Bank had total deposits of $760.2 million representing a net increase of
$15.9 million compared to total deposits of $744.3 million at December 31, 1997.
This increase is attributable to an increase of $18.0 million in savings and
term deposits due primarily to promotional activities to increase savings
product volumes. This was offset by a reduction of $2.1 million in all other
deposit products.
While deposit flows are by nature unpredictable, the Bank attempts to manage its
deposits through selective pricing. Due to the uncertainty of market conditions,
it is not possible for the Bank to predict how aggressively it will compete for
deposits in future quarters 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
Savings accounts.
Borrowed Funds
The Bank is a member of the FHLB and is entitled to borrow from the FHLB by
pledging certain assets. The Bank also utilizes short term repurchase agreements
with maturities less than three months, as an additional source of funds.
Repurchase agreements are secured by U.S. government and agency securities.
These borrowings are an alternative source of funds compared to deposits and
increased from $343.6 million at December 31, 1997 to $418.8 million at March
31, 1998 to augment the asset growth of the Company.
16
<PAGE>
Regulatory Capital Requirements
The Bank is subject to various regulatory capital requirements administered by
the federal banking agencies. Failure to meet minimum capital requirements can
initiate certain mandatory, and possibly additional discretionary, actions by
regulators that, if undertaken, could have a direct material effect on the
Bank's financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Bank must meet specific
capital guidelines that involve quantitative measures of the Bank's assets,
liabilities, and certain off-balance-sheet items as calculated under regulatory
accounting practices. The Bank's capital amounts and classification are also
subject to qualitative judgments by the regulators about components, risk
weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios (set forth in the
following table) of total and Tier I capital (as defined in the regulations) to
risk-weighted assets (as defined), and of Tier I capital (as defined) to average
assets (as defined). Management believes, as of March 31, 1998, that the Bank
meets all capital adequacy requirements to which it is subject.
The most recent notification from the Office of Thrift Supervision ("OTS")
categorized the Bank as well capitalized under the regulatory framework for
prompt corrective action. To be categorized as well capitalized the Bank must
maintain minimum total risk-based, Tier I risk-based, Tier I leverage ratios as
set forth in the table. There are no conditions or events since that
notification that management believes have changed the institution's category.
The Bank's actual capital amounts and ratios are also presented in the table. As
of March 31, 1998, the OTS did not deem it necessary for an interest-rate risk
component to be deducted from capital in determining risk-based capital
requirements.
The Bank 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.
The following table displays the Bank's capital calculations as defined under
prompt corrective action for the periods indicated:
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
To Be Well
For Capital Capitalized Under Prompt
Actual Actual Adequacy Purposes: Corrective Action Provision:
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
<S> <C> <C> <C> <C> <C> <C>
March 31, 1998 (unaudited)
Tangible Capital (to Adjusted Assets) $75,221 5.86% $19,249 >/= 1.50% n/a
Tier 1 (Core) Capital (to Adjusted Assets) 75,221 5.86 38,498 3.00 $64,164 >/= 5.00%
Tier 1 (Core) (to Risk Weighted Assets) 75,221 10.39 28,970 4.00 43,455 6.00
Total Risk Based Capital
(to Risk Weighted Assets) 84,281 11.64 57,940 8.00 72,424 10.00
December 31, 1997
Tangible Capital (to Adjusted Assets) $72,319 6.09 $17,822 >/= 1.50% n/a
Tier 1 (Core) Capital (to Adjusted Assets) 72,319 6.09 35,644 3.00 $59,408 >/= 5.00%
Tier 1 Capital (to Risk Weighted Assets) 72,319 10.20 28,372 4.00 42,559 6.00
Total Risk Based Capital
(to Risk Weighted Assets) 81,194 11.45 56,744 8.00 70,931 10.00
</TABLE>
17
<PAGE>
Year 2000
The Company began in mid 1997 to address the issues inherent in the impending
change of century, otherwise known as "Year 2000". The potential problem with
year 2000, which is common to most corporations, concerns the inability of
information systems, primarily computer software programs, to properly recognize
and process date sensitive information for the year 2000 and beyond. The Company
has organized a bank-wide project team empowered to address and resolve all Year
2000 issues, using a comprehensive project plan. Awareness and assessment phases
have been completed. Renovation, testing and implementation phases are in
process.
The majority of the Company's principal software applications are provided by
third party vendors. These vendors service numerous financial institution
customers all of whom have the same, or similar, Year 2000 issues. These vendors
have brought, or are currently working to bring, their software programs into
compliance. Anticipated spending by the Company for compliance maintenance and
modification will be expensed as incurred, while the cost of new hardware or
software will be capitalized, and depreciated or amortized over the useful life
of the asset acquired. Management does not believe the changes by it or its
third party vendors will have a material effect on the ongoing results of
operations.
Comprehensive Income
The Company adopted the provisions of Statement of Financial Accounting
Standards ("SFAS") No. 130, "Reporting Comprehensive Income" which requires the
display of comprehensive income and its components. The Company has chosen, as
permitted by SFAS No. 130, to disclose comprehensive income, which is comprised
of net income and unrealized gains or losses on securities classified as
available-for-sale, in the Consolidated Statements of Stockholders' Equity. All
prior year data has been restated to conform to the
SFAS No. 130 requirements.
Recent Accounting Developments
In June 1997, the FASB issued SFAS No. 131, "Disclosures About Segments of an
Enterprise and Related Information". This pronouncement, if applicable, is
effective for the Company's 1998 financial statements. SFAS No. 131 requires
additional disclosures regarding segments of an enterprise, if any, that are
used by the enterprise for making operating decisions and assessing performance.
Management continues to evaluate the applicability of this statement to the
Company.
18
<PAGE>
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Market Risk
Market risk is the risk of loss in a financial instrument arising from adverse
changes in market rates/prices such as interest rates, foreign currency exchange
rates, commodity prices, and equity prices. The Company's primary market risk
exposure is interest rate risk. The ongoing monitoring and management of this
risk is an important component of the Company's asset/liability management
process which is governed by policies established by the Board of Directors that
are reiewed and approved annually. The Board of Directors delegates
responsibility for carrying out the asset/liability management policies to the
Asset/Liability Committee (ALCO). In this capacity, ALCO develops guidelines and
strategies impacting the Company's asset/liability related activities based upon
estimated market risk sensitivity, policy limits and overall market interest
rate levels/trends.
Interest Rate Risk
Interest rate risk represents the sensitivity of earnings to changes in market
interest rates. As interest rates change the interest income and expense streams
associated with the Company's financial instruments also changes thereby
impacting net interest income (NII), the primary component of the Company's
earnings. ALCO utilizes the results of a detailed and dynamic simulation model
to quantify the estimated exposure of NII to to sustained interest rate changes.
While ALCO routinely monitors simulated NII sensitivity over a rolling two-year
horizon, it also utilizes additional tools to monitor potential longer-term
interest rate risk. There have been no material changes in the interest rate
risk reported at the conclusion of the Company's December 31, 1997 year end.
Liquidity and Capital Resources
The Bank's principal sources of liquidity are customer deposits, borrowings from
the FHLB, 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
management's judgment as to the quality of specific investment opportunities and
the relative attractiveness of their maturities and yields.
Net cash provided from operating activities totaled $4.2 million for the three
months ended March 31, 1998 compared to $3.6 million that was provided by
operating activities for the same period in 1997. The change is primarily
related to the growth in other liabilities that was experienced during the first
three months of 1998 compared to the prior period.
Net cash used for investing activities totaled $62.5 million for the three
months ended March 31, 1998 compared to net cash used of $99.7 million for the
comparable period in 1997. The increase in investing activities primarily
reflects the increased level of the investment portfolio offset by the reduced
level of loan originations during the first three months of 1998 compared to a
year ago.
Net cash provided by financing activities totaled $89.4 million for the three
months ended March 31, 1998, compared to net cash provided of $79.8 million for
the comparable period in 1997. The change primarily reflects the increased level
of borrowed funds.
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 equipment and real estate. 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.
19
<PAGE>
FIRST ESSEX BANCORP, INC.
PART II - OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders
The Annual Meeting of Shareholders of the registrant was held on May 7, 1998.
All nominees of the Board of Directors of the registrant were re-elected for a
three-year term. Votes were cast as follows:
1. Election of Three Class II Directors
<TABLE>
<CAPTION>
Nominee For Withheld
------- --- --------
<S> <C> <C>
Augustine J. Fabiani 6,550,121 86,461
Walter W. Topham 6,551,221 85,361
Leonard A. Wilson 6,548,000 88,582
</TABLE>
Item 6. Exhibits and Reports on Form 8-K
<TABLE>
<S> <C>
(a) 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 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.
(10) Material Contracts
*10.1- The First Essex Bancorp, Inc. 1987 Stock Option Plan incorporated herein by
reference to Appendix B to the prospectus included in the Company's Registration
Statement on Form S-8, Registration No. 33-21292, filed on April 15, 1988;
10.2- The Shareholder Rights Agreement 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- Executive Salary Continuation Agreement between First Essex Bancorp, Inc., First
Essex Bank, FSB and Leonard A. Wilson incorporated herein by reference to
Exhibit 10.15 to the Company's Annual Report on Form 10-K for fiscal year ended
December 31, 1988;
*10.4- Amended and Restated Employment Agreement dated as of October 9, 1997 between
Leonard A. Wilson and First Essex Bancorp, Inc., incorporated herein by
reference to Exhibit 10.4 to the Company's Quarterly Report on Form 10-Q for the
quarter ended September 30, 1997.
*10.5- Amended and Restated Employment Agreement dated as of October 9, 1997 between
Leonard A. Wilson and First Essex Bank, FSB, incorporated herein by reference to
Exhibit 10.5 to the Company's Quarterly Report on Form 10-Q for the quarter
ended September 30, 1997.
*10.6- Amended and Restated Employment Agreement dated as of October 9, 1997 between
David W. Dailey and First Essex Bancorp, Inc., incorporated herein by reference
to Exhibit 10.6 to the Company's Quarterly Report on Form 10-Q for the quarter
ended September 30, 1997.
*10.7- Amended and Restated Employment Agreement dated as of October 9, 1997 between
David W. Dailey and First Essex Bank, FSB, incorporated herein by reference to
Exhibit 10.7 to the Company's Quarterly Report on Form 10-Q for the quarter
ended September 30, 1997.
*10.8- Amended and Restated Employment Agreement dated as of October 9, 1997 between
Brian W. Thompson and First Essex Bancorp, Inc., incorporated herein by
reference to Exhibit 10.8 to the Company's Quarterly Report on Form 10-Q for the
quarter ended September 30, 1997.
*10.9- Amended and Restated Employment Agreement dated as of October 9, 1997 between
Brian W. Thompson and First Essex Bank, FSB, incorporated herein by reference to
Exhibit 10.9 to the Company's Quarterly Report on Form 10-Q for the quarter
ended September 30, 1997.
*10.10- Special Termination Agreement dated January 1, 1994 and restated as of October
9, 1997 between Leonard A. Wilson and First Essex Bancorp, Inc. incorporated by
reference to Exhibit 10.10 to the Company's Quarterly report on Form 10-Q for
the quarter ended September 30, 1997.
*10.11- Special Termination Agreement dated January 1, 1994 and restated as of October
9, 1997 between David W. Dailey and First Essex Bancorp, Inc. incorporated by
reference to Exhibit 10.11 to the Company's Quarterly report on Form 10-Q for
the quarter ended September 30, 1997.
*10.12- Special Termination Agreement dated January 1, 1994 and restated as of October
9, 1997 between Brian W. Thompson and First Essex Bancorp, Inc. incorporated by
reference to Exhibit 10.12 to the Company's Quarterly report on Form 10-Q for
the quarter ended September 30, 1997.
*10.13- Form of Special Termination Agreement between First Essex Bancorp, Inc., First
Essex Bank, FSB, and each of John M. DiGaetano, Wayne C. Golon, David L. Savoie
and William F. Burke incorporated herein by reference to Exhibit 10.13 to the
Company's Quarterly Report on Form 10-Q for the quarter ended September 30,
1997.
20
<PAGE>
*10.14- First Essex Bancorp, Inc. Senior Management Incentive Compensation Plan
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;
*10.15- Common Stock Option Plan for Brian W. Thompson incorporated herein by reference
to Form S-8, Registration No. 333-22183, filed on February 21, 1997;
*10.16- First Essex Bancorp, Inc. 1997 Stock Incentive Plan incorporated herein by
reference to Form S-8, Registration No. 333-35057, filed on September 5, 1997.
(27) Financial Data Schedules
</TABLE>
* Management contract or compensatory plan
(b) Reports on Form 8-K
An Item 5 Form 8-K reporting a Purchase and Assumption
Agreement with CFX Bank, a subsidiary of CFX Corporation, for
the acquisition of five branch offices was filed on April 9,
1998.
21
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
FIRST ESSEX BANCORP, INC.
---------------------------------
(Registrant)
Date: May 14, 1998 By /s/ Thomas P. Coursey
---------------------
Thomas P. Coursey
Senior Vice President
and Principal Accounting Officer
22
<TABLE> <S> <C>
<ARTICLE> 9
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> MAR-31-1998
<CASH> 30,530
<INT-BEARING-DEPOSITS> 182
<FED-FUNDS-SOLD> 22,982
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 284,097
<INVESTMENTS-CARRYING> 200,376
<INVESTMENTS-MARKET> 202,303
<LOANS> 710,802
<ALLOWANCE> 10,593
<TOTAL-ASSETS> 1,293,302
<DEPOSITS> 760,216
<SHORT-TERM> 245,782
<LIABILITIES-OTHER> 23,164
<LONG-TERM> 173,008
963
0
<COMMON> 0
<OTHER-SE> 90,169
<TOTAL-LIABILITIES-AND-EQUITY> 1,293,302
<INTEREST-LOAN> 15,519
<INTEREST-INVEST> 7,397
<INTEREST-OTHER> 434
<INTEREST-TOTAL> 23,350
<INTEREST-DEPOSIT> 8,072
<INTEREST-EXPENSE> 5,507
<INTEREST-INCOME-NET> 9,771
<LOAN-LOSSES> 435
<SECURITIES-GAINS> 17
<EXPENSE-OTHER> 5,808
<INCOME-PRETAX> 4,518
<INCOME-PRE-EXTRAORDINARY> 4,518
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,698
<EPS-PRIMARY> 0.36
<EPS-DILUTED> 0.34
<YIELD-ACTUAL> 3.25
<LOANS-NON> 4,559
<LOANS-PAST> 0
<LOANS-TROUBLED> 872
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 10,570
<CHARGE-OFFS> 915
<RECOVERIES> 503
<ALLOWANCE-CLOSE> 10,593
<ALLOWANCE-DOMESTIC> 10,593
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 9
<S> <C>
<RESTATED>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> MAR-31-1997
<CASH> 18,415
<INT-BEARING-DEPOSITS> 3,241
<FED-FUNDS-SOLD> 1,300
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 230,704
<INVESTMENTS-CARRYING> 134,980
<INVESTMENTS-MARKET> 134,265
<LOANS> 702,123
<ALLOWANCE> 10,126
<TOTAL-ASSETS> 1,146,854
<DEPOSITS> 705,729
<SHORT-TERM> 339,264
<LIABILITIES-OTHER> 18,036
<LONG-TERM> 0
947
0
<COMMON> 0
<OTHER-SE> 82,876
<TOTAL-LIABILITIES-AND-EQUITY> 1,146,854
<INTEREST-LOAN> 15,133
<INTEREST-INVEST> 5,927
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 21,070
<INTEREST-DEPOSIT> 7,319
<INTEREST-EXPENSE> 11,913
<INTEREST-INCOME-NET> 8,647
<LOAN-LOSSES> 510
<SECURITIES-GAINS> 52
<EXPENSE-OTHER> 6,164
<INCOME-PRETAX> 3,686
<INCOME-PRE-EXTRAORDINARY> 3,686
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 2,147
<EPS-PRIMARY> 0.29
<EPS-DILUTED> 0.28
<YIELD-ACTUAL> 3.39
<LOANS-NON> 6,135
<LOANS-PAST> 0
<LOANS-TROUBLED> 963
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 10,538
<CHARGE-OFFS> 1,165
<RECOVERIES> 243
<ALLOWANCE-CLOSE> 10,126
<ALLOWANCE-DOMESTIC> 10,126
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
