<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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 September 30, 1998
------------------------------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
---------------- ----------------
Commission file number 0-17137
--------------------------------------------
D&N Financial Corporation
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 38-2790646
- - ------------------------------ -----------------------------------
(State or jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
400 Quincy Street, Hancock, Michigan 49930
------------------------------------------
(Address of principal executive offices)
(906) 482-2700
----------------------------------------------------
(Registrant's telephone number, including area code)
-----------------------------------------------------
(Former name, former address and former fiscal year,
if changes since last report)
Indicate by check whether the registrant (1) has filed all reports 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 reports), and (2) has been subject to such filing requirements
for the past 90 days. Yes [ X ] No [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
Common Stock, $0.01 par value 9,165,011
----------------------------- ----------------------------------------
(Class) (Shares Outstanding of October 31, 1998)
================================================================================
<PAGE> 2
D&N FINANCIAL CORPORATION
INDEX
<TABLE>
<CAPTION>
Page No.
---------
<S> <C> <C>
PART I Consolidated statements of condition -
September 30, 1998 and December 31, 1997 3
Consolidated statements of income -
three months ended September 30, 1998 and 1997
nine months ended September 30, 1998 and 1997 4
Consolidated statements of cash flows
nine months ended September 30, 1998 and 1997 5
Notes to consolidated financial statements 6
Management's Discussion and Analysis of
Financial Condition and Results of Operations 9
PART II Other Information 18
</TABLE>
- 2 -
<PAGE> 3
D&N FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CONDITION
<TABLE>
<CAPTION>
September 30 December 31
1998 1997
-----------------------------------
(In thousands)
-----------------------------------
(Unaudited)
ASSETS
<S> <C> <C>
Cash and due from banks $ 18,991 $ 16,239
Federal funds sold 5,900 300
Interest-bearing deposits in other banks 40,854 3,958
-----------------------------------
Total cash and cash equivalents 65,745 20,497
Investment securities
(market value of $68,725,000 in 1998 and $56,594,000 in 1997) 68,703 56,524
Investment securities available for sale (at market value) 29,847 46,112
Mortgage-backed securities
(market value $54,827,000 in 1998 and $199,525,000 in 1997) 54,084 198,050
Mortgage-backed securities available for sale (at market value) 434,284 160,246
Loans receivable (including loans held for sale of $9,279,000 in 1998
and $5,275,000 in 1997) 1,310,492 1,311,508
Allowance for loan losses (10,890) (10,549)
------------------------------------
Net loans receivable 1,299,602 1,300,959
Other real estate owned, net 777 1,474
Federal income taxes 723 1,129
Office properties and equipment, net 18,986 16,621
Other assets 25,548 13,703
-----------------------------------
Total Assets $ 1,998,299 $ 1,815,315
===================================
LIABILITIES
Checking and NOW accounts 147,332 $ 119,412
Money market accounts 102,128 92,314
Savings deposits 225,287 163,119
Time deposits 746,568 667,204
Accrued interest 1,541 1,118
-----------------------------------
Total deposits 1,222,856 1,043,167
Securities sold under agreements to repurchase 18,275 149,092
FHLB advances and other borrowed money 578,018 470,431
Advance payments by borrowers and investors held in escrow 20,492 17,585
Other liabilities 17,964 8,239
------------------------------------
Total liabilities 1,857,605 1,688,514
PREFERRED STOCK OF SUBSIDIARY 28,719 28,719
STOCKHOLDERS' EQUITY
Preferred stock, $.01 par value per share (1,000,000 shares authorized;
none issued) -- --
Common stock, $.01 par value per share (shares authorized - 25,000,000;
shares outstanding - 9,197,224 in 1998 and 1997) 92 92
Additional paid-in capital 75,906 77,025
-----------------------------------
Total paid-in capital 75,998 77,117
Retained earnings - substantially restricted 32,317 21,042
Less: Cost of treasury stock (33,078 shares in 1998 and 98,129 in 1997) (423) (1,581)
Unrealized holding gains on debt securities available for sale,
net of tax 4,083 1,504
-----------------------------------
Total stockholders' equity 111,975 98,082
-----------------------------------
Total Liabilities and Stockholders' Equity $ 1,998,299 $ 1,815,315
===================================
</TABLE>
See Notes to Consolidated Financial Statements.
- 3 -
<PAGE> 4
D&N FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30 September 30
1998 1997 1998 1997
-----------------------------------------------------
(In thousands, except per share)
-----------------------------------------------------
<S> <C> <C> <C> <C>
INTEREST INCOME:
Loans $ 26,375 $ 25,453 $ 80,035 $ 70,988
Mortgage-backed securities 7,763 4,631 19,955 13,692
Investments and deposits 1,450 2,058 4,513 6,090
-------------------------- ----------------------
TOTAL INTEREST INCOME 35,588 32,142 104,503 90,770
INTEREST EXPENSE:
Deposits 13,126 12,279 37,108 35,554
Securities sold under agreements to repurchase 1,162 1,296 4,469 3,202
FHLB advances and other borrowed money 8,128 6,051 23,230 16,354
-------------------------- ----------------------
TOTAL INTEREST EXPENSE 22,416 19,626 64,807 55,110
-------------------------- ----------------------
NET INTEREST INCOME 13,172 12,516 39,696 35,660
Provision for loan losses 650 300 1,725 900
-------------------------- ----------------------
NET INTEREST INCOME AFTER
PROVISION FOR LOAN LOSSES 12,522 12,216 37,971 34,760
NONINTEREST INCOME:
Loan administrative fees 388 460 1,356 1,497
Deposit related fees 1,163 1,102 3,291 2,941
Gain on sale of loans available for sale 854 642 2,885 862
Gain on sale of mortgage-backed securities available for sale 1,360 -- 1,360 539
Other income 153 145 1,096 463
-------------------------- -----------------------
TOTAL NONINTEREST INCOME 3,918 2,349 9,988 6,302
NONINTEREST EXPENSE:
Compensation and benefits 4,882 4,550 14,709 12,918
Occupancy 886 781 2,528 2,306
Other expense 3,516 2,768 9,969 8,468
-------------------------- ----------------------
GENERAL AND ADMINISTRATIVE EXPENSE 9,284 8,099 27,206 23,692
Other real estate owned, net 102 44 101 33
Federal deposit insurance premiums 165 160 652 495
-------------------------- ----------------------
TOTAL NONINTEREST EXPENSE 9,551 8,303 27,959 24,220
-------------------------- ----------------------
INCOME BEFORE INCOME TAX EXPENSE 6,889 6,262 20,000 16,842
Federal income tax expense 2,160 2,003 6,031 5,710
-------------------------- ----------------------
INCOME BEFORE PREFERRED STOCK DIVIDENDS 4,729 4,259 13,969 11,132
Preferred stock dividends of subsidiary 681 537 2,042 537
-------------------------- ----------------------
NET INCOME $ 4,048 $ 3,722 $ 11,927 $ 10,595
========================== ======================
Earnings per share:
BASIC $ 0.44 $ 0.41 $ 1.30 $ 1.17
========================== ======================
DILUTED $ 0.43 $ 0.40 $ 1.26 $ 1.13
========================== ======================
</TABLE>
See Notes to Consolidated Financial Statements.
- 4 -
<PAGE> 5
D&N FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
<TABLE>
<CAPTION>
Nine Months Ended
September 30
1998 1997
----------------------------------
(IN THOUSANDS)
<S> <C> <C>
OPERATING ACTIVITIES
Net Income $ 11,927 $ 10,595
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for loan losses 1,725 900
Depreciation and amortization of office properties and equipment 1,708 1,470
Amortization of net premiums (discounts) on purchased
loans and securities 5,109 (496)
Originations and purchases of loans held for sale (86,295) (32,238)
Proceeds from sales of loans held for sale 198,846 45,381
Gain on loans and mortgage-backed securities available for sale (1,360) (539)
Gain on sale of loan servicing rights (193) --
Amortization and writedowns of mortgage servicing rights 1,049 290
Other (4,508) 2,476
------------- ----------
Net cash provided by operating activities 128,008 27,839
INVESTING ACTIVITIES
Proceeds from sales of investment securities -- 20
Proceeds from maturities of investment securities 68,958 137,166
Purchases of investment securities to be held to maturity (65,338) (152,501)
Proceeds from sales of mortgage-backed securities 60,758 24,094
Principal collected on mortgage-backed securities 119,935 44,352
Purchases of mortgage-backed securities (222,942) (92,935)
Loans purchased (152,424) (159,797)
Net change in loans receivable (46,766) (100,571)
(Increase) decrease in other real estate owned 697 (243)
Sales of loan servicing rights 193 --
Purchases of office properties and equipment (4,057) (2,155)
------------- -----------
Net cash used by investing activities (240,986) (302,570)
FINANCING ACTIVITIES
Net change in time deposits 79,364 56,954
Net change in other deposits 99,902 11,668
Proceeds from notes payable, securities sold under agreements
to repurchase and other borrowed money 315,000 441,036
Payments on maturity of notes payable, securities sold under
agreements to repurchase and other borrowed money (338,334) (267,338)
Net change in advance payments by borrowers and investors
held in escrow 2,907 830
Common stock cash dividend (1,374) (411)
Proceeds from issuance of stock 735 569
Purchases of treasury stock/warrants (365) (2,995)
Proceeds from issuance of subsidiary preferred stock -- 28,719
Tax benefits on exercise of stock options (FAS 109) 391 --
------------ ------------
Net cash provided by financing activities 158,226 269,032
------------ ------------
INCREASE(DECREASE) IN CASH AND CASH EQUIVALENTS 45,248 (5,699)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 20,497 12,789
------------ ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 65,745 $ 7,090
============ ============
Noncash transactions:
Issuance of treasury stock on exercise of stock options $ 1,523 $ 1,145
============ ============
</TABLE>
See Notes to Consolidated Financial Statements.
- 5 -
<PAGE> 6
D&N FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1: BASIS OF PRESENTATION
The accompanying unaudited interim consolidated financial statements
have been prepared in accordance with generally accepted accounting
principles for interim financial information and with the instructions
to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not
include all of the information and footnotes required by generally
accepted accounting principles for complete financial statements. In
the opinion of management, all adjustments (consisting solely of normal
recurring accruals) considered necessary for a fair presentation have
been included. Operating results for interim periods are not
necessarily indicative of the results that may be expected for the full
year.
NOTE 2: EARNINGS PER SHARE
The Company adopted Statement of Financial Accounting Standards
("SFAS") 128, "Earnings per Share", for the year ended December 31,
1997. The earnings per share for three month and nine month periods
ended September 30, 1997, have been restated to comply with this
standard.
Basic earnings per share is calculated by dividing net income by the
average number of shares outstanding during the applicable period.
The company had stock options which are considered to be potentially
dilutive to common stock. Diluted earnings per share is calculated by
dividing net income by the average number of shares outstanding during
the applicable period adjusted for these potentially dilutive options.
The following table sets forth the computation of per share earnings as
provided in SFAS 128, and illustrates the dilutive effect of options
outstanding.
<TABLE>
<CAPTION>
Nine months ended
September 30, 1998 September 30, 1997
---------------------------- ---------------------------
Earnings Earnings
Shares per share Shares per share
------ --------- ------ ---------
(In thousands, except per share earnings)
<S> <C> <C> <C> <C>
Basic EPS 9,163 $ 0.44 9,032 $ 0.41
Net dilutive effect of stock
options outstanding 319 (0.01) 272 (0.01)
-------- --------- -------- --------
Diluted EPS 9,482 $ 0.43 9,304 $ 0.40
======== ========= ======== ========
</TABLE>
- 6 -
<PAGE> 7
<TABLE>
<CAPTION>
Nine months ended
September 30, 1998 September 30, 1997
------------------------- --------------------------
Earnings Earnings
Shares per share Shares per share
------------------------- --------------------------
( In thousands, except per share earnings)
<S> <C> <C> <C> <C>
Basic EPS 9,141 $ 1.30 9,095 $ 1.17
Net dilutive effect of stock
options outstanding 349 (0.04) 326 (0.04)
-------- -------- ------ ---------
Diluted EPS 9,490 $ 1.26 9,421 $ 1.13
======== ======== ====== =========
</TABLE>
NOTE 3: ALLOWANCE FOR LOAN LOSSES
The allowance for possible losses on loans is maintained at a level
believed adequate by management to absorb potential losses from
impaired loans as well as losses from the remainder of the portfolio.
Management's determination of the level of the allowance is based upon
evaluation of the portfolio, past experience, current economic
conditions, size and composition of the portfolio, collateral location
and values, cash flow positions, industry concentrations,
delinquencies, and other relevant factors. The allowance is increased
by a provision for losses charged against income.
Changes in the allowance for loan losses are summarized as follows:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1998 1997 1998 1997
-------------------------- -------------------------
(In thousands)
<S> <C> <C> <C> <C>
Balance at beginning of period $ 10,733 $ 10,978 $ 10,549 $ 11,042
Charge-offs:
Mortgage loans 92 172 192 237
Consumer loans 498 351 1,474 1,117
-----------------------------------------------------------
Total 590 523 1,666 1,354
Recoveries:
Consumer loans 97 95 282 262
-----------------------------------------------------------
Total 97 95 282 262
-----------------------------------------------------------
Net charge-offs 493 428 1,384 1,092
Provision charged to operations 650 300 1,725 900
-----------------------------------------------------------
Balance at end of period $ 10,890 $ 10,850 $ 10,890 $ 10,850
===========================================================
</TABLE>
- 7 -
<PAGE> 8
NOTE 4: COMPREHENSIVE INCOME
The Bank adopted Statement of Financial Accounting Standards ("SFAS")
No. 130, "Reporting Comprehensive Income", as of January 1, 1998. SFAS
No. 130 established standards for reporting and display of
comprehensive income and its components. Total Comprehensive Income for
the three month and nine month periods ended September 30, 1998 and
1997 was as follows:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1998 1997 1998 1997
------------------------ ------------------------
(In thousands) (In thousands)
<S> <C> <C> <C> <C>
Net income $ 4,048 $ 3,722 $ 11,927 $ 10,595
Other comprehensive income:
Cumulative effect, transition adjustment for
the adoption of FAS 133, net of tax 2,432 -- 2,432 --
Unrealized holding gains and losses
on debt securities available for sale,
net of tax 180 157 147 (204)
--------- ------- --------- --------
Total accumulated other comprehensive
income 2,612 157 2,579 (204)
--------- ------- --------- --------
Total Comprehensive Income $ 6,660 $ 3,879 $ 14,506 $ 10,391
========= ======= ========= ========
</TABLE>
NOTE 6: ADOPTION OF FAS 133
The Company has elected to adopt Financial Accounting Standards No. 133 ("FAS
133"), Accounting for Derivative Instruments and Hedging Activities, on July 1,
1998, which constitutes early adoption. In accordance with the transition
provision of FAS 133, the Company reclassified $163.4 million of
held-to-maturity securities as "available-for-sale", so that those securities
would be eligible as hedged items in potential future fair-value and cash-flow
hedge transactions. This reclassification resulted in a net-of-tax
cumulative-effect-type adjustment of approximately $2.4 million in other
comprehensive income. Under the provision of FAS 133, such reclassification does
not call into question the Company's intent to hold current or future debt
securities to their maturity.
-8-
<PAGE> 9
D&N FINANCIAL CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis provides information regarding
D&N Financial Corporation's ("D&N or the Company") financial condition
and results of operations for the three month and nine month periods
ended September 30, 1998 and 1997. Ratios for the periods are stated
on an annualized basis. Results of operations for three month and nine
month periods ended September 30, 1998 are not necessarily indicative
of results which may be expected for the entire year. This discussion
and analysis should be read in conjunction with the consolidated
financial statements and the notes thereto appearing elsewhere in this
Form 10-Q.
FORWARD LOOKING STATEMENTS
When used in this Form 10-K or future filings by the Company with the
Securities and Exchange Commission, in the Company's press releases or
other public or shareholder communications, or in oral statements made
with the approval of an authorized executive officer, the words or
phrases "would be", "will allow", "intends to", "will likely result",
"are expected to", "will continue", "is anticipated", "estimate",
"project", or similar expressions are intended to identity
"forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995.
The Company wishes to caution readers not to place undue reliance on
any such forward-looking statements, which speak only as of the date
made, and to advise readers that various factors, including regional
and national economic conditions, substantial changes in levels of
market interest rates, credit and other risks of lending and
investment activities and competitive and regulatory factors, could
affect the Company's financial performance and could cause the
Company's actual results for future periods to differ materially from
those anticipated or projected.
The Company does not undertake, and specifically disclaim any
obligation, to update any forward-looking statements to reflect
occurrences or unanticipated events or circumstances after the date of
such statements.
- 9 -
<PAGE> 10
RESULTS OF OPERATIONS
NET INCOME
The Company recorded net income for the quarter ended September 30,
1998 of $4.0 million, compared to net income of $3.7 million in the
third quarter of 1997. Return on assets and return on equity were
0.84% and 14.99%, respectively, during the quarter ended September 30,
1998, compared to 0.90% and 16.29%, respectively, during the quarter
ended September 30, 1997. The increase in net income was primarily due
to increases in net interest income of $656,000, increased gain on
sale of mortgage-backed securities available for sale of $1.4 million
and increased income on sale of loans available for sale of $212,000.
These increases in income were partially offset by an increase in the
provision for loans losses of $350,000 and increased operating
expenses of $1.2 million.
For the nine months ended September 30, 1998, the Company recorded net
income of $11.9 million, compared to net income of $10.6 million for
the nine months ended September 30, 1997. Return on assets and return
on equity were 0.85% and 15.28%, respectively, during the nine months
ended September 30, 1998, compared to 0.95% and 16.62%, respectively,
during the nine months ended September 30, 1997. The increase in net
income was primarily due to increases in net interest income of $4.0
million, increased gain on sale of loans available for sale of $2.0
million, increased gain on sale of mortgage-backed securities
available for sale of $821,000 and increased other income of $633,000.
These increases in income were partially offset by an increase in the
provision for loan losses of $825,000 and increased operating expenses
of $3.5 million.
NET INTEREST INCOME
Net interest income, or the difference between interest earned on
interest earning assets such as loans and investment securities and
interest paid on sources of funds such as deposits and borrowings, is
a significant component of the Company's earnings. Net interest income
is affected by changes in both the balance of and the rates on
interest earning assets and interest bearing liabilities and the
amount of interest earning assets funded with non-interest or
low-interest bearing funds.
Net interest income increased $656,000 to $13.2 million for the
quarter ended September 30, 1998 compared to $12.5 million for the
quarter ended September 30, 1997. The increase was due to increased
volume in D&N's loan portfolio and increased volume in the mortgage
backed securities portfolio. These improvements were partially offset
by increases in interest paid on deposits, FHLB advances and other
borrowings, as the Company utilized the increased deposits and
borrowings to fund loan demand.
Similarly, net interest income increased $4.0 million to $39.7 million
for the nine months ended September 30, 1998 from $35.7 million for
the nine months ended September 30, 1997. The same factors that
explained the third quarter comparison were present during the
year-to-date comparative periods.
- 10 -
<PAGE> 11
PROVISION FOR LOAN LOSSES
A provision for loan losses is charged to income based on the size and
quality of the loan portfolio measured against prevailing economic
conditions. This process is accomplished through a formal review
analysis. The provision is recorded in amounts sufficient to maintain
the allowance for possible loan losses at a level in excess of that
expected by management to be required to cover specific exposure in
the portfolio.
The Company recorded a $650,000 provision for loan losses during the
quarter ended September 30, 1998 and $300,000 during the quarter ended
September 30, 1997. For each of the first nine month periods in 1998
and 1997, the Company's provision for loan losses was approximately
$1.7 million, and $900,000, respectively.
NONINTEREST INCOME
Total noninterest income increased to $3.9 million during the third
quarter of 1998, from $2.3 million recorded during the third quarter of
1997. The majority of this increase was due to an increase in gain on
sale of mortgage-backed securities available for sale of $1.4 million
and increased gain on sale of loans of $212,000, along with increases
in deposit related fees and increased revenue from the sale of
insurance products and annuity contracts through the Bank's subsidiary,
Quincy Insurance Agency, Incorporated.
For the nine months ended September 30, 1998, total noninterest income
increased to $10.0 million from $6.3 million recorded during the nine
months ended September 30, 1997. The majority of this increase was due
to a $2.0 million increase in gain on sale of loans available for sale.
Gain on sale of mortgage-backed securities available for sale also
increased $821,000 for the period. Other increases were in deposit
related fees of $350,000 and increased other income of $633,000,
reflecting a sale of mortgage servicing rights and a recovery on a
previously written-off investment.
NONINTEREST EXPENSE
Total noninterest expense increased $1.3 million to $9.6 million during
the quarter ended September 30, 1998, from $8.3 million during the
prior year quarter. Compensation and benefits increased $332,000
reflecting staffing levels to handle increased loan volumes and
incentives paid on those increased volumes. Other expense increased
$748,000 with the greatest increases being marketing, office
administration, data processing and ATM expenses.
For the nine months ended September 30, 1998, total noninterest expense
increased $3.8 million to $28.0 million, compared to $24.2 million
recorded during the nine months ended September 30, 1997. The factors
contributing to the year-to-date period were essentially the same as
those for the quarterly period.
-11-
<PAGE> 12
FINANCIAL CONDITION
Total assets at September 30, 1998 were $2.0 billion, an increase of
$183.0 million from December 31, 1997. Earning assets represented
approximately 98% of total assets as of September 30, 1998,
substantially the same as at year-end 1997.
CASH, DEPOSITS AND INVESTMENT SECURITIES
Cash, deposits and investment securities were $164.3 million at
September 30, 1998, up $41.2 million from December 31, 1997. This
increase was due to increases in interest-bearing deposits in other
banks of $36.9 million, federal funds sold of $5.6 million, cash and
due from banks of $2.8 million, increased holdings of Federal Home
Loan Bank stock of $5.4 million and quarter-end holdings of commercial
paper of $35.0 million. These increases were partially offset by net
decreases in U.S. Treasury and Government securities of $45.0 million.
MORTGAGE-BACKED SECURITIES
Mortgage-backed securities increased $130.1 million to $488.4 million
at September 30, 1998 compared to $358.3 million at December 31, 1997.
During the period, the Company purchased $223.8 million of government
agency collateralized mortgage obligations, with a weighted yield of
6.35% and a weighted average life of 4.2 years. The Company also
securitized 15 and 30 year fixed-rate mortgage loans with FNMA, adding
$83.8 million to D&N's mortgage-backed securities portfolio. Sales of
mortgage-backed securities during the period totaled $60.4 million,
realizing a gain on sale of approximately $1.4 million. The entire
mortgage-backed securities portfolio experienced repayments and
amortization of $121.1 million, plus a net increase of $4.0 million in
market value recognized through stockholders' equity on
mortgage-backed securities available for sale.
Of the above-mentioned increase in market value, $2.4 million was a
transition adjustment, due to early adoption of FAS 133, Accounting
for Derivative Instruments and Hedging Activities. D&N reclassified
$163.4 million of held-to-maturity securities as "available-for-sale",
so that those securities would be eligible as hedged items in
potential future fair-value and cash-flow hedge transactions. (See
also - New Accounting Standard).
NET LOANS RECEIVABLE
Net loans receivable decreased $1.4 million during the period to $1.3
billion at September 30, 1998. Loan originations of $619.0 million and
purchases of $151.2 million were less than repayments of $492.8
million and sales (including securitizations) of $278.8 million. Loan
originations and purchases during the nine months ended September 30,
1998 were $272.7 million for consumer loans, while residential
mortgage loans and commercial loans were $395.4 million and $102.1
million, respectively.
- 12 -
<PAGE> 13
NONPERFORMING ASSETS AND RISK ELEMENTS
The following table sets forth the amounts and categories of
risk elements in the Bank's loan portfolio.
<TABLE>
<CAPTION>
September 30, December 31,
1998 1997
------------------------------
(Dollars in thousands)
<S> <C> <C>
Nonaccruing loans $ 8,673 $ 3,162
Accruing loans delinquent more than 90 days 43 274
------------------------------
Total nonperforming loans 8,716 3,436
OREO and other repossessed assets 1,202 1,864
------------------------------
Total nonperforming assets $ 9,918 $ 5,300
==============================
Nonperforming loans as a percentage of total loans 0.67% 0.26%
==============================
Nonperforming assets as a percentage of total assets 0.50% 0.29%
==============================
Allowance for loan losses as a
percentage of nonperforming loans 124.94% 307.01%
==============================
Allowance for loan and OREO losses as a percentage
of nonperforming assets 109.80% 199.04%
==============================
</TABLE>
Nonperforming assets, before allowances for loans and OREO losses,
increased $4.6 million during the period, primarily as three
commercial real estate loans were downgraded.
MORTGAGE SERVICING RIGHTS (MSRs)
The Company's net investment in MSRs increased during the
period to $5.0 million at September 30, 1998. The following table
details activity in the portfolio for the periods indicated.
<TABLE>
<CAPTION>
Nine Months Year
Ended Ended
September 30, 1997 December 31,1998
---------------------------------------
(Dollars in thousands)
<S> <C> <C>
Balance at beginning of period $ 2,136 $ 1,443
Additions:
Capitalized servicing 4,092 1,236
-------- --------
Total 4,092 1,236
Reductions:
Scheduled amortization 382 321
Additional amortization due
to changes in prepayment
assumptions 582 222
Sale of servicing 243 --
-------- --------
Total 1,207 543
-------- --------
Balance at end of period $ 5,021 $ 2,136
======== ========
Fair market value $ 5,344 $ 2,389
======== ========
==================================
</TABLE>
- 13 -
<PAGE> 14
DEPOSITS
Deposits increased $179.7 million during the period to $1.2 billion at
September 30, 1998. A significant portion of this increase was due to
an acquisition in the third quarter of seven bank offices from First
of America Bank NA of Kalamazoo, Michigan, with approximately $72.2
million in deposits. Including these balances, certificates of deposit
increased $79.4 million, savings deposits increased $62.2 million,
checking and NOW accounts increased $27.9 million and money market
accounts increased $9.8 million. The Company's cost of deposits
decreased to 4.58% at September 30, 1998, compared to 4.74% at
December 31, 1997, reflecting general decreases in market rates of
interest.
BORROWINGS
Total borrowings decreased $23.2 million during the period to $596.3
million at September 30, 1998. The Company's cost of borrowings was
5.83% at September 30, 1998, compared to 5.94% at December 31, 1997.
CAPITAL
According to federal regulations, the Bank must meet certain minimum
capital ratios. As the following table indicates, the Bank's capital
ratios at September 30, 1998 exceeded these requirements.
<TABLE>
<CAPTION>
Tier 1
Tangible Core Risk-based Risk-based
Capital Capital Capital Capital
--------- ---------- ---------- ----------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Actual capital $ 124,657 $ 124,657 $ 134,403 $ 124,657
Required capital 29,980 59,960 96,387 48,463
---------- ---------- ---------- ----------
Excess capital $ 94,677 $ 64,697 $ 38,016 $ 76,463
========== ========== ========== ==========
Actual ratio 6.24% 6.24% 11.16% 10.35%
========== ========== =========== ==========
Required ratio 1.50% 3.00% 8.00% 4.00%
========== ========== ========== ==========
</TABLE>
Consolidated stockholders' equity was $112.0 million at September 30,
1998 and represents 5.60% of consolidated assets.
LIQUIDITY
Liquidity is the ability to meet financial obligations when due.
Regulatory authorities require that thrift institutions maintain
liquidity consisting of cash, U.S. Government Securities and other
specified assets, equal to at least 4% of net withdrawable accounts
and to borrowings payable in one year or less. For September 1998, the
Bank's average liquidity ratio was
- 14 -
<PAGE> 15
29.2%. At September 30, 1998, unused borrowing capacity as measured by
the Bank's inventory of readily available but unpledged collateral was
approximately $321 million. The Company considers its current
liquidity and other funding sources sufficient to fund its outstanding
loan commitments and scheduled liability maturities.
REGULATORY INSURANCE
The deposits of savings associations, such as D&N Bank, are presently
insured by the SAIF ("Savings Association Insurance Fund"), which
together with the BIF ("Bank Insurance Fund"), are the two insurance
funds administered by the FDIC. The assessment for SAIF insured
institutions is 6.1 cents per $100 of deposits while BIF insured
institutions pay 1.2 cents per $100 of deposits until the year 2000,
when the assessment is expected to be imposed at the same rate on all
FDIC insured institutions.
NEW ACCOUNTING STANDARD
In June 1998, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 133, Accounting for
Derivative Instruments and Hedging Activities (FAS 133). FAS 133 is
effective for all fiscal quarters of all fiscal years beginning after
June 15, 1999; the Company has elected to adopt FAS 133 early on July
1, 1998. FAS 133 requires that all derivative instruments be recorded
on the balance sheet at fair value. Changes in the fair value of
derivatives are recorded each period in current earnings or other
comprehensive income, depending on whether a derivative is designated
as part of a hedge transaction and, if it is, depending on the type of
hedge transaction. For fair-value hedge transactions in which the
Company is hedging changes in an asset's, liability's, or firm
commitment's fair value, changes in the fair value of the derivative
instrument will generally be offset in the income statement by changes
in the hedging item's fair value. For cash-flow hedge transactions in
which the Company is hedging the variability of cash flows related to
a variable-rate asset, liability, or a forecasted transaction, changes
in the fair value of the derivative instrument will be reported in
other comprehensive income. The gains and losses on the derivative
instrument that are reported in other comprehensive income will be
reclassified as earnings in the periods in which earnings are impacted
by the variability of the cash flows of the hedged item. The
ineffective portion of all hedges will be recognized in current-period
earnings.
The Company reclassified $163.4 million of held-to-maturity securities
as "available-for-sale" so that those securities will be eligible as
hedged items in potential future fair-value and cash-flow hedge
transactions. The reclassification resulted in a net-of-tax
cumulative-effect-type transition adjustment of $2.4 million recorded
in other comprehensive income. Under the provisions of FAS 133, such
reclassification will not call into question the Company's intent to
hold current or future debt securities to their maturity.
-15-
<PAGE> 16
YEAR 2000 COMPLIANCE
Overview
D&N Bank's Year 2000 Compliance Program is progressing on schedule.
The project is Bank inclusive addressing computer hardware, software
procedures, vendors, large borrowers and facilities. This project
began in October 1996 and is scheduled for completion by June 1999.
To date all at risk computer hardware has been tested and replaced if
not compliant. Thirty eight computer based applications were
identified as having Year 2000 issues. Nine of those applications have
been updated and are compliant. Three applications representing a
large threat to business continuation (Deposit Account Processing,
Installment Loan Account Processing and General Ledger) have been
certified Year 2000 compliant. The last significant at risk system
(Mortgage Loan Processing) is provided to D&N Bank by a major national
service bureau. This system is being tested by the Mortgage Bankers
Association to confirm compliance. This testing is expected to be
concluded and the system compliant by the end of the first quarter of
1999. The remaining application systems are being tested and
contingency plans have been developed to mitigate business operational
risk.
Project Status
D&N Bank began this project with an identification and assessment of
all potential exposures to Year 2000 related problems both internal
and external to the Bank. One major development precipitated by this
project has been the establishment and installment of a standard suite
of Office Automation Software products supported by a standard
hardware platform. As a result all PC's within the Bank have been
identified, evaluated as to use and if necessary upgraded to be
compatible with date storage and processing beyond December 31, 1999.
Other hardware upgrades have been and will continue to be made as
software upgrades require larger/faster PC's to accommodate upgraded
software.
All newly acquired software is being tested for Year 2000 compliance
before acceptance. Software testing has been done to verify date
changes for 1999 to 2000, the identification of leap year where
required along with numerous projections from 1999 to 2xxx using day,
month and year increments.
Manual procedures have been reviewed and scheduled for change where
date specific actions occur along with form changes necessary to
properly record dates in the new millennium.
Large commercial borrowers have been reviewed for their Year 2000
readiness and their progress is being monitored for corrective action,
their business continuation and ability to repay their loans. New loan
customers are also being assessed for Year 2000 risk.
The building facilities owned and leased by the Bank have been
reviewed for Year 2000 associated issues such as device controllers
used for HVAC, elevators, alarms, vaults, etc.
Where necessary corrective actions have been taken.
- 16 -
<PAGE> 17
Costs
The Bank's total Year 2000 estimated project cost, which is based upon
currently available information, included expenses for the review and
testing of third parties including governmental entities. However,
there can be no guarantee that the hardware, software and systems of
such third parties will be without unfavorable Year 2000 issues and
therefore not present a material adverse impact upon the Bank.
Year 2000 compliance costs incurred during fiscal 1998 totaled
$26,000, the majority of which related to external consulting. This
figure does not include the implicit costs associated with the
reallocation of internal staff hours to Year 2000 project related
efforts. At this time, management currently estimates Year 2000
compliance costs not to exceed $100,000. This estimate does not
include normal ongoing costs for computer hardware, software,
terminals and related devices that would be replaced in the next year
even without the presence of the Year 2000 issue in conjunction with
the Bank's ongoing programs for updating its delivery infrastructure.
The aforementioned Year 2000 project cost estimate may change as the
Bank progresses in its Year 2000 programs and obtains additional
information associated with and conducts further testing concerning
third parties. At this time no significant projects have been delayed
as the result of the Banks Year 2000 effort.
- 17 -
<PAGE> 18
D&N FINANCIAL CORPORATION
PART II - OTHER INFORMATION
ITEM 1: LEGAL PROCEEDINGS
None
ITEM 2: CHANGES IN SECURITIES
None
ITEM 3: DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5: OTHER INFORMATION
None
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K
(a) The following exhibits are included herein:
(27) Financial Data Schedule
(99) Additional exhibits
I. Interest rate/volume analysis:
quarter ended 9/30/98 vs.
quarter ended 9/30/97
nine months ended 9/30/98 vs.
nine months ended 9/30/97
(b) Reports on Form 8-K:
No reports on Form 8-K have been
filed during the quarter ended
September 30, 1998.
- 18 -
<PAGE> 19
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.
D&N FINANCIAL CORPORATION
/s/ George J. Butvilas
---------------------------------------
George J. Butvilas, President and
Chief Executive Officer
/s/ Kenneth R. Janson
---------------------------------------
Kenneth R. Janson,
Executive Vice President/Chief
Financial Officer and Treasurer
Date: November 13, 1998
------------------------
<PAGE> 20
Index to Exhibits
EX - (99)I Operating Margin and Rate Volume Analysis
EX - 27 Financial Data Schedule
<PAGE> 1
EXHIBIT (99)I
OPERATING MARGIN AND RATE VOLUME ANALYSIS
D&N FINANCIAL CORPORATION
<TABLE>
<CAPTION>
Average balance Average rate Interest
------------------------------------------------------------------------------
Operating margin for September 30, September 30, September 30,
Quarter ended 1998 1997 1998 1997 1998 1997
-----------------------------------------------------------------------------------------------------------------------------
(Dollars in thousands)
Interest-earning assets:
<S> <C> <C> <C> <C> <C> <C>
Loans receivable $1,309,757 $1,226,453 8.01% 8.26% $ 26,375 $ 25,453
Mortgage-backed securities 472,452 258,813 6.57% 7.16% 7,763 4,631
Investments 92,582 130,255 6.21% 6.26% 1,450 2,058
---------- ---------- ---- ---- ---------- ----------
1,874,791 1,615,521 7.56% 7.92% 35,588 32,142
---------- ---------- ---- ---- ---------- ----------
Interest-bearing liabilities:
Deposits 1,126,946 1,023,886 4.62% 4.76% 13,126 12,279
Borrowings
Securities sold w/repo 81,505 91,119 5.58% 5.57% 1,162 1,296
Notes payable 537,677 390,927 5.82% 5.88% 7,993 5,871
Other borrowed money 5,453 7,815 9.90% 9.21% 135 180
---------- ---------- ---- ---- ---------- ----------
Subtotal - Borrowings 624 ,635 489,861 5.82% 5.87% 9,290 7,347
---------- ---------- ---- ---- ---------- ----------
1,751,581 1,513,747 5.05% 5.12% 22,416 19,626
---------- ---------- ---- ---- ---------- ----------
Interest rate spread 2.51% 2.80%
==== ====
Excess average earning assets $ 123,210 $ 101,774
========== ==========
Net interest margin 2.84% 3.13% $ 13,172 $ 12,516
==== ==== ========== ==========
<CAPTION>
Variance due to:
-------------------------------------
Operating margin for Increase
Quarter ended (Decrease) Volume Rate
-----------------------------------------------------------------------------------
Interest-earning assets:
<S> <C> <C> <C>
Loans receivable $ 922 $ 1,722 ($ 800)
Mortgage-backed securities 3,132 3,539 (407)
Investments (608) (591) (17)
---------- ---------- ------
3,446 4,670 1,224)
---------- ---------- ------
Interest-bearing liabilities:
Deposits 847 1,208 (361)
Borrowings
Securities sold w/repo (134) (137) 3
Notes payable 2,122 2,182 (60)
Other borrowed money (45) (58) 13
---------- ---------- -------
Subtotal - Borrowings 1,943 1,987 (44)
---------- ---------- -------
2,790 3,195 (405)
---------- ---------- -------
Interest rate spread
Excess average earning assets
Net interest margin $ 656 $ 1,475 ($ 819)
========== ========== =======
<CAPTION>
Average balance Average rate Interest
---------------------------------------------------------------------------
Operating margin for September 30, September 30, September 30,
Year to date 1998 1997 1998 1997 1998 1997
---------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable $1,328,196 $1,145,964 8.03% 8.26% $80,035 $ 70,988
Mortgage-backed securities 395,180 254,305 6.73% 7.18% 19,955 13,692
Investment 92,743 130,107 6.50% 6.25% 4,513 6,090
---------- ---------- ---- ---- ------- ----------
1,816,119 1,530,376 7.67% 7.91% 104,503 90,770
---------- ---------- ---- ---- ------- ----------
Interest-bearing liabilities:
Deposits 1,069,997 1,004,148 4.64% 4.73% 37,108 35,554
Borrowings
Securities sold w/repo 105,865 76,433 5.57% 5.52% 4,469 3,202
Notes payable 514,578 360,820 5.83% 5.77% 22,767 15,789
Other borrowed money 6,610 8,073 9.34% 9.33% 463 565
---------- ---------- ---- ---- ------- ----------
Subtotal - Borrowings 627 ,053 445,326 5.83% 5.79% 27,699 19,556
---------- ---------- ---- ---- ------- ----------
1,697,050 1,449,474 5.08% 5.06% 64,807 55,110
---------- ---------- ---- ---- ------- ----------
Interest rate spread 2.59% 2.85%
==== ====
Excess average earning assets $ 119,069 $ 80,902
========== ==========
Net interest margin 2.93% 3.12% $39,696 $ 35,660
==== ==== ======= ==========
<CAPTION>
Variance due to:
----------------------------------------
Operating margin for Increase
Year to date (Decrease) Volume Rate
- - ----------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Interest-earning assets:
Loans receivable $ 9,047 $11,048 ($2,001)
Mortgage-backed securities 6,263 7,161 (898)
Investment (1,577) (1,815) 238
--------- ------- -------
13,733 16,394 (2,661)
--------- ------- -------
Interest-bearing liabilities:
Deposits 1,554 2,295 (741)
Borrowings
Securities sold w/repo 1,267 1,242 25
Notes payable 6,978 6,801 177
Other borrowed money (102) (102) 0
--------- ------- -------
Subtotal - Borrowings 8,143 7,941 202
--------- ------- -------
9,697 10,236 (539)
--------- ------- -------
Interest rate spread
Excess average earning assets
Net interest margin $ 4,036 $ 6,158 ($2,122)
========= ======= =======
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JUL-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 18,991
<INT-BEARING-DEPOSITS> 40,854
<FED-FUNDS-SOLD> 5,900
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 464,131
<INVESTMENTS-CARRYING> 122,787
<INVESTMENTS-MARKET> 123,552
<LOANS> 1,310,492
<ALLOWANCE> 10,890
<TOTAL-ASSETS> 1,998,299
<DEPOSITS> 1,222,856
<SHORT-TERM> 18,275
<LIABILITIES-OTHER> 38,456
<LONG-TERM> 578,018
0
28,719
<COMMON> 75,998
<OTHER-SE> 35,977
<TOTAL-LIABILITIES-AND-EQUITY> 1,998,299
<INTEREST-LOAN> 26,375
<INTEREST-INVEST> 9,213
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 35,588
<INTEREST-DEPOSIT> 13,126
<INTEREST-EXPENSE> 22,416
<INTEREST-INCOME-NET> 13,172
<LOAN-LOSSES> 650
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 9,551
<INCOME-PRETAX> 6,208
<INCOME-PRE-EXTRAORDINARY> 4,048
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 4,048
<EPS-PRIMARY> 0.44
<EPS-DILUTED> 0.43
<YIELD-ACTUAL> 2.84
<LOANS-NON> 8,673
<LOANS-PAST> 43
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 8,848
<ALLOWANCE-OPEN> 10,733
<CHARGE-OFFS> 590
<RECOVERIES> 97
<ALLOWANCE-CLOSE> 10,890
<ALLOWANCE-DOMESTIC> 10,890
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
