<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
Annual Report Pursuant to Section 13 or 15(d)
Of The Securities Exchange Act of 1934 (Fee Required)
For the fiscal year ended December 31, 1998 Commission file number 33-20417
Capital Directions, Inc.
(Exact name of registrant as specified in its charter)
Michigan 38-2781737
-------- ----------
(State of other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
322 South Jefferson St., Mason, Michigan 48854-0130
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (517) 676-0500
Securities registered pursuant to Section 12 (b) of the act: NONE
Securities registered pursuant to Section 12 (g) of the act: NONE
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 of 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or such period that the registrant was required to file
such reports), and (2) has been subject to such filing requirements for the past
90 days. Yes X No
--- ---
Indicate by check mark if disclosure of delinquent filer pursuant to item 405 of
Registration S-K is not contained herein, and will not be contained, to the best
of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
The registrant estimates that as of March 23, 1999 the aggregate market value of
the voting stock held by non-affiliates of the registrant was approximately
$16,691,890. This is based on a market price of $35.75 per share for the
Registrant's stock as of that date.
As of March 23, 1999, the registrant had outstanding 596,122 shares of common
stock having a par value of $5 per share.
1
<PAGE> 2
DOCUMENTS INCORPORATED BY REFERENCE
Annual Report to Shareholders for the Year Ended December 31, 1998 (Form 10-K,
Part I, Part II, Part III, and Part IV)
Proxy Statement for the Annual Meeting of Shareholders to be held April 22, 1999
(Form 10-K, Part III)
PART I
Item 1. Business
Capital Directions, Inc. (the "Registrant") is a one-bank holding company
registered under the Bank Holding Company Act of 1956, as amended. The
Registrant was incorporated on August 11, 1987 and formed for the purpose of
enabling Mason State Bank (the "Bank") to form a one-bank holding company and
engage in any other related activity allowed. Mason State Bank was consolidated
with Mason Bank on July 22, 1988, thereby causing Mason State Bank to become a
wholly-owned subsidiary of the Registrant.
Mason State Bank purchased Lakeside Insurance Services, Inc. in 1994 to take
advantage of the expanded insurance powers granted to banks in 1994. Lakeside is
licensed in Michigan to sell life insurance and variable annuity contracts.
The Registrant has no substantial assets except the investments in Mason State
Bank. The Registrant and its primary subsidiary, Mason State Bank, operate in
the banking industry, which accounts for substantially all of their assets,
revenues and operating income. Further discussion of the operations of the
Registrant and its subsidiaries is discussed under "Management's Discussion and
Analysis of Financial Condition and Results of Operations" in the 1998 Annual
Report to the Shareholders, incorporated herein by reference. The Registrant's
primary competition is substantially the same as Mason State Bank's as discussed
below.
The Bank was organized in 1886 under the laws of Michigan and is subject to the
Michigan Banking Code of 1969. It is insured by the Bank Insurance Fund through
the Federal Deposit Insurance Corporation. The Bank is regulated by the Michigan
Financial Institutions Bureau and the Federal Deposit Insurance Corporation. The
Federal Reserve Board regulates the Registrant. The Bank's Principal office is
located at 322 South Jefferson Street, Mason, Michigan. It operates a branch at
661 North Cedar Street, Mason, Michigan and opened its second branch on October
1, 1998 at 810 W. Bellevue, Leslie, Michigan.
Banking services are provided to individuals, businesses, local state and
federal governmental units and institutional customers located in Mason and the
surrounding areas. Services include demand deposits, savings and time deposits,
collections, cash management, night depositories and personal, installment,
commercial and real estate loans. The Bank offers a credit card program
affiliated with the Visa and MasterCharge Inter-Bank charge card system.
The Bank maintains a correspondent relationship with several of the major banks
in the Detroit area and elsewhere, in order to provide for the clearance of
checks, the transfer of funds, and the periodic purchase and sale of Federal
funds, and participation in large loans which would be beyond the Bank's legal
lending limit if made by the Bank alone.
The Bank has full and part-time employees (40 full-time equivalents) and owns
its main office and Cedar Street office. The new facility in Leslie is operated
under a lease agreement. The Bank operates primarily within Ingham County.
Competing with the Bank in Ingham County are several other commercial banks and
financial institutions, some of which have significantly greater total resources
than the Bank.
2
<PAGE> 3
Item 1. Business-Statistical Disclosure
I. Distribution of Assets, Liabilities and Shareholders' Equity;
Interest Rates and Interest Differential
(A), (B) The following table sets forth average balances for major
categories of interest earning assets and interest bearing
liabilities, the interest earned (on a fully taxable
equivalent basis) or paid on such amounts, and average
interest rates earned or paid thereon.
3
<PAGE> 4
<TABLE>
<CAPTION>
1998 1997
----------------------------------- ----------------------------------
Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate
------- -------- ------ ------- -------- ------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
ASSETS
Loans, including fees(1) $ 69,172 $5,870 8.49% $ 54,870 $4,910 8.95%
Taxable investment
securities 10,095 662 6.56 12,893 878 6.81
Non-taxable investment
securities(2) 4,051 324 8.00 4,545 357 7.85
Federal funds sold 2,487 134 5.39 1,295 68 5.25
-------- ------ ------- ------
Total earning assets 85,805 6,990 8.15% 73,603 6,213 8.44%
Cash and due from 2,337 2,710
banks
Other assets, net 2,473 3,074
-------- -------
Total non-interest
earning assets 4,810 5,784
-------- -------
Total assets $ 90,615 $79,387
======== =======
LIABILITIES
Interest bearing
demand deposits $ 10,213 156 1.53% $ 9,299 182 1.96%
Savings deposits 17,592 522 2.97 16,586 487 2.94
Time deposits under
$100,000 20,923 1,218 5.82 21,133 1,213 5.74
Time deposits of
$100,000 or more 10,173 576 5.66 8,551 493 5.77
Other borrowings 10,816 653 6.04 3,501 219 6.26
-------- ------ ------- ------
Total interest bearing
liabilities 69,717 3,125 4.48% 59,070 2,594 4.39%
------ ------
Demand deposits 8,870 8,674
Other liabilities 1,381 1,743
Shareholders' equity 10,647 9,900
------ ------
Total non-interest
bearing liabilities and
equity 20,898 20,317
-------- -------
Total liabilities and
equity $ 90,615 $79,387
======== =======
Net interest income $3,865 $3,619
====== ======
Net yield on interest
earning assets(2) 4.50% 4.92%
==== =======
</TABLE>
(1) Average balances for loans include non-accrual loans. The
inclusion of non-accrual loans and fees does not have a material
effect on either the average balance or the average interest
rate.
(2) Interest on non-taxable investment securities is reflected on a
fully tax equivalent basis using an effective tax rate of 34% for
1998 and 1997.
4
<PAGE> 5
I. Distribution of Assets, Liabilities and Shareholders' Equity; Interest
Rates and Differential (continued)
(C) The following table summarizes the changes in interest income (on
a fully taxable equivalent basis) and interest expense resulting
from changes in volume and changes in rates:
<TABLE>
<CAPTION>
---------------------------------------------------------------------------------------------------------------------------
(IN THOUSANDS) 1998 COMPARED TO 1997 1997 COMPARED TO 1996
--------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
INTEREST INCOME VOLUME(1) RATE(1) TOTAL VOLUME(1) RATE(1) TOTAL
Loans $ 1,225 $ (265) $ 960 $ 480 $ 35 $ 515
Taxable investment
securities (185) (31) (216) (92) 31 (61)
Non-taxable investment
securities (2) (39) 6 (33) (44) 7 (37)
Federal funds sold 64 2 66 (45) (2) (47)
-------- ----- ----- ------ ----- -----
Total interest income 1,065 (288) 777 299 71 370
INTEREST EXPENSE
Interest bearing demand
deposits 17 (43) (26) (21) (17) (38)
Savings deposits 30 5 35 (15) 13 (2)
Time deposits under
$100,000 (12) 17 5 (14) 2 (12)
Time deposits of $100,000
or more 92 (9) 83 107 6 113
Other borrowings 442 (8) 434 88 2 90
-------- ----- ----- ------ ----- -----
Total interest expense 569 (38) 531 145 6 151
-------- ----- ----- ------ ----- -----
Net interest income $ 496 $(250) $ 246 $ 154 $ 65 $ 219
</TABLE>
(1) The change in interest due to both volume and rate has
been allocated to volume and rate in proportion to the
relationship of the absolute dollar amounts of the change
in each.
(2) Interest on tax-exempt investment securities is based on a fully
taxable equivalent basis.
II. Investment Portfolio
(A) A table of carrying values of the investment portfolio as of
December 31, 1998 and 1997 is set forth in Note 3 on page 14 of
the 1998 Annual Report to Shareholders. Such information is
incorporated herein by reference.
(B) The following table shows the relative maturities and weighted
yields of investment securities at December 31, 1998: (dollars
in thousands)
Held-To-Maturity
<TABLE>
<CAPTION>
1 Year or less 1 Year - 5 Years 5 Years - 10 Years After 10 Years
Amount Yield Amount Yield Amount Yield Amount Yield
------ ----- ------ ----- ------ ----- ------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
U.S. Government agencies(2) $ 713 6.87% $ 690 6.87% $ 0 0.0% $ 395 9.0%
State and political
subdivisions
Non-taxable (1) 1,265 6.31 1,124 7.77 1,090 8.46 999 8.94
------ ------ ------ ------
Total $1,978 6.51% $1,814 7.43% $1,090 8.46% $1,394 8.96%
====== ====== ====== ======
</TABLE>
5
<PAGE> 6
II. Investment Portfolio (continued)
Available-For Sale
<TABLE>
<CAPTION>
1 Year or less 1 Year - 5 Years
Amount Yield Amount Yield
------ ----- ------ -----
<S> <C> <C> <C> <C>
U.S. Government agencies (2) $ 959 6.57% $ 577 6.44%
State and political subdivisions
Taxable 509 6.08
Corporate securities (2) 1,349 6.75 1,926 6.59
----- -------
Total $2,308 6.68% $ 3,012 6.48%
====== =======
</TABLE>
(1) Weighted average yield adjusted to a taxable equivalent
basis using a federal income tax rate of 34 percent.
(2) Mortgage Backed securities and Corporate securities, as
reflected in the above schedules consider anticipated
prepayments and calls.
(C) The Registrant held no investment securities of a single issuer,
except U.S. Government Agency securities, in an amount greater than ten
percent of shareholders' equity as of December 31, 1998.
III. Loan Portfolio
(A) A table of loans outstanding as of December 31, 1998 and 1997 is
set forth in Note 4 on page 15 of the 1998 Annual Report to
Shareholders. Such information is incorporated herein by
reference.
The loan portfolio is systematically reviewed and the results
reported to the Board of Directors of the Registrant. The purpose
of these reviews is to assist in assuring proper loan
documentation, to provide for the early identification of
potential problem loans and to help ensure the adequacy of the
allowance for loan losses.
(B) The following table sets forth the remaining maturity of loans
outstanding (excluding real estate mortgages, installment and
lease financing) at December 31, 1998, according to scheduled
payments of principal (in thousands) and considering the banks
"rollover policy."(1)
<TABLE>
<CAPTION>
(In thousands)
1 Year 1 Year - After
or less 5 Years 5 Years Total
------- -------- -------- --------
<S> <C> <C> <C> <C>
Commercial and
Agricultural $ 2,739 $ 2,186 $ 622 $ 5,547
======= ======= ======== ========
</TABLE>
The following table sets forth commercial and agricultural loans
due after one year, which have predetermined interest rates and/or
adjustable interest rates at December 31, 1998.
<TABLE>
<CAPTION>
(In thousands)
Fixed Adjustable
Rate Rate Total
------- -------- -------
<S> <C> <C> <C>
Due after one but within five
years $ 1,052 $ 1,134 $ 2,186
Due after five years 274 348 622
------- -------- -------
Total $ 1,326 $ 1,482 $ 2,808
======= ======== =======
</TABLE>
6
<PAGE> 7
III. Loan Portfolio (continued)
(1) The "rollover policy" is to generally write terms of these
loans for a shorter time then the expected payments. The
purpose of this is to re-evaluate the term and credit of the
respective borrower. We estimate that this happens on
approximately 80% of these borrowings and is reflected as such
in this schedule.
(C). Risk Elements
(1). Nonaccrual, Past Due, Impaired and Restructured Loans.
A table and discussion of nonaccrual, past due,
impaired and restructured loans for the years ended
December 31, 1998 and 1997 is in "Management's
Discussion and Analysis of Financial Condition and
Results of Operations" on pages 2, 3, and 4 under
Provision and allowance for loans losses, Note 1 under
"Loans" and "Allowance for Loan Losses" on page 12 and
in Note 5 on page 15 in the 1998 Annual Report to the
Shareholders. Such information is incorporated herein
by reference.
Gross interest income that would have been recorded in
1998 on such loans if the loans had been current in
accordance with their original terms and outstanding
throughout the period or since origination was $5,172.
No income was included in interest income on these
loans in 1998.
(2). Potential Problem Loans
There are no material loans that are current as to
which management has serious doubts as to the ability
of the borrower to comply with the loan repayment
terms, or which are expected to need adjustments in
their repayment terms, or which are believed to
require additional provisions for loan losses.
(3). Foreign Outstandings
There were no foreign outstandings as of December 31,
1998 and 1997.
(4). Loan Concentrations
There were no concentrations of loans exceeding 10% of
total loans that have not been already disclosed as a
category at December 31, 1998.
(D). Other Interest Bearing Assets
As of December 31, 1998, there were no other interest
bearing assets that would be required to be disclosed under
Item III, Parts (C) (1) or (C) (2) of the loan portfolio
listing if such assets were loans.
7
<PAGE> 8
IV. Summary of Loan Loss Experience
(A). The following table sets forth loan allowance balances and
summarizes changes in the allowance for loan losses for each
of the two years ended December 31.
<TABLE>
<CAPTION>
Analysis of the Allowance For Loan Losses
(Dollars in thousands) 1998 1997
---- ----
<S> <C> <C>
Balance, beginning of period $ 1,035 $ 1,020
------- --------
Loans charged-off
Commercial and agricultural 0 7
Real estate-construction 0 0
Real estate-mortgages 0 0
Lease financing 0 0
Installment and others 30 19
-------- --------
Total 30 26
Recoveries of loans charged-off
Commercial and agricultural 3 6
Real estate-construction 0 0
Real estate-mortgages 0 0
Lease financing 0 0
Installment and others 26 35
-------- --------
Total 29 41
Net charge-offs (recoveries) 1 (15)
Additions charged (credited)
to operations (23) 0
-------- --------
Balance at end of period $ 1,011 $ 1,035
======== ========
Average gross loans outstanding $ 69,172 $54,870
======== =======
Ratio of net charge-offs(recoveries)
during the period to average gross
loans outstanding during the
period 0.00% -0.03%
</TABLE>
Further discussion of the provision and allowance for loan losses as
well as non-performing and impaired loans is presented in "Management's
Discussion and Analysis of Financial Condition and Results of
Operations" on pages 2, 3, and 4, Note 1 on page 12 and Note 5 on page
15 in the 1998 Annual Report to the Shareholders, incorporated herein
by reference.
8
<PAGE> 9
IV. Summary of Loan Loss Experience (continued)
(B) The following table presents an allocation for loan losses
to the various loan categories at December 31:
<TABLE>
<CAPTION>
1998 1997
% of % of
(Dollars n thousands) Allowance Loans to Allowance Loans to
Amount Total Loans Amount Total Loans
------- ---------- ------- --------
<S> <C> <C> <C> <C>
Commercial and agricultural $ 81 6.77% $ 74 6.92%
Real estate-mortgages 491 89.12 4 87.21
Installment and other 45 4.11 7 5.87
Unallocated 394 N/A 950 N/A
------- --------- ------- --------
Total $ 1,011 100.00% $ 1,035 100.00%
======= ========= ======= ========
</TABLE>
Mason State Bank is committed to the maintenance of an allowance
for loan losses in amounts sufficient to absorb loan and lease
losses inherent in the loan portfolio. To assure the adequacy of
balances and the resulting provision allocations, measurements
against historical performance and current analyses of asset
quality are undertaken on a periodic basis with consideration for
qualitative factors. These evaluations support the budgeted
allowance provisions and the traditional philosophy of accounting
for losses as they are recognized.
On a predetermined basis, a Loan Loss Allowance Model (LLAM) is
completed quarterly for the Bank. The results of the LLAM provide
a consistent, conservative management tool for quantifying the
amount of risk in the loan portfolio. This LLAM computes a
suggested allowance balance to be compared to the actual allowance
for loan losses. The difference between the suggested and actual
allowance is monitored and maintained at an amount considered
reasonable to provide for potential losses inherent in the
portfolio.
To determine the suggested allowance balance, two tests are
applied to the various loan categories. The test with the most
conservative (greatest) allowance allocation is selected for each
category. The two tests are then combined with a separate
qualitative factor spread against all loan categories.
The first test includes establishment of a minimum allocation
percentage for each loan (primarily commercial) based upon its
loan grade. The second test involves computing the actual loss
experience over the last five years for each of the loan
categories (primarily consumer and residential real estate loans).
The factor applied to the current outstanding loan balances of
these loan categories is equal to at least the five-year average
of net charge-offs to average loans for the appropriate loan
portfolio.
When economic conditions or other factors warrant, a qualitative
factor is applied against all loan categories. Management declared
that such a factor be instituted for 1998 given the unprecedented
seven year expansion of the United States economy and the
expection of a reversal of this trend in the near future. The
factor applied to the current outstanding of all loan balances is
equal to the seven year average of net charge-offs to average
loans for the seven year period prior to the start of the current
economic expansion (years 1985 through 1991).
The allowance allocations above were deemed by management to be
amounts reasonably necessary to provide for the inherent losses in
the various loan categories as of December 31, 1998 and 1997.
9
<PAGE> 10
V. Deposits
The following table sets forth average deposit balances and the
weighted average rate paid for each of the two years ended December 31:
<TABLE>
<CAPTION>
1998 1997
(Dollars in thousands) Average Average
Balance Rate Balance Rate
------- ---- ------- ----
<S> <C> <C>
Non interest-bearing demand deposits $ 8,870 $ 8,674
Interest-bearing demand deposits 10,213 1.53% 9,299 1.96%
Savings deposits 17,592 2.97 16,586 2.94
Time deposits under $100,000 20,923 5.82 21,133 5.74
Time deposits of $100,000 or more 10,173 5.66 8,551 5.77
------- -------
Total $67,771 3.65% $64,243 3.70%
======= =======
</TABLE>
The following table summarizes time deposits in amounts of $100,000 or
more by time remaining until maturity as of December 31, 1998:
<TABLE>
<CAPTION>
(In thousands)
<S> <C>
Three months or less $ 6,988
Over three months through six months 2,003
Over six months through one year 562
Over one year 1,724
--------
Total $ 11,277
========
</TABLE>
As of December 31, 1998 the registrant had no foreign deposits.
VI. Return on Equity and Assets
The following table presents the ratios for the year ended December 31:
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Net income to average total assets 1.47% 1.56%
Net income to average shareholders' equity 12.53 12.47
Cash dividend payout ratio per share 42.63 33.65
Average shareholders' equity to average total assets 11.75 12.47
</TABLE>
VII. Short Term Borrowings - Not applicable
Item 2. Properties
The Bank owns the land on which the Bank's main office is located. The
land measures 85' by 170' and bears the municipal address of 322 South
Jefferson Street, Mason, Michigan. The permanent building, also owned
by Mason State Bank, has approximately 6,800 square feet including
banking facilities, storage and personnel lounge areas. This brick
structure was built in the mid 1800's and has gone through several
remodelings, the last one being in 1986 and is in good general
condition. A parking area with spaces to accommodate 20 vehicles
occupies part of the property; part is occupied by two drive-in banking
stations.
The Bank also owns the land used as a Branch office. The land measures
368' by 297' and bears the municipal address of 661 North Cedar Street,
Mason, Michigan. The permanent building, built in the 1960's, also
owned by Mason State Bank, measures approximately 2,400 square feet,
including banking facilities, storage and personnel lounge areas. This
building is also in good condition. A parking area with spaces to
accommodate 24 vehicles occupies part of the property; part is occupied
by 4 drive-in banking stations.
10
<PAGE> 11
Item 2. Properties (continued)
In October 1998, the Bank established an in-store branch located within
the Felpausch Food Center, 810 Bellevue Street, Leslie, Michigan. The
Bank entered into a lease arrangement and occupies 709 square feet of
the southeast corner of the store. Prior to occupancy, this space was
renovated to provide full service banking accommodations. Customer
parking is readily available and maintained by Felpausch Food Center.
The Registrant operates its business at the same address as Mason State
Bank's main office. As of March 19, 1999, the Registrant owned no
properties.
Item 3. Legal Proceedings
There are no material pending legal proceedings to which the Registrant
or its subsidiaries is a party or to which any of its property is
subject, except for proceedings which arise in the ordinary course of
business. In the opinion of management, pending legal proceedings will
not have a material effect on the consolidated financial statements of
the Registrant or its subsidiaries.
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable
Additional Item - Executive Officers
Executive officers of the Registrant are appointed annually by the
Board of Directors at the meeting of Directors following the Annual
Meeting of Shareholders. There are no family relationships among these
officers and/or Directors of the Registrant or any arrangement or
understanding between any officer and any other person pursuant to
which the officer was elected.
The following sets forth certain information with respect to the
Registrant's Executive Officers and Directors as of December 31, 1998.
<TABLE>
<CAPTION>
Position With First Elected as an
Name (Age) Registrant Officer of the Registrant
---------- ---------- -------------------------
<S> <C> <C>
George A. Sullivan (66) Chairman 1988
Gerald W. Ambrose (49) Vice Chairman 1994
Timothy P. Gaylord (44) President and C.E.O. 1995
Douglas W. Dancer (58) Secretary 1990
</TABLE>
Mr. Sullivan is a Director of the registrant and Chairman of the Board
of Directors of Mason State Bank.
Mr. Ambrose is a Director of the registrant and Vice Chairman of the
Board of Directors of Mason State Bank.
Mr. Gaylord is a Director of the registrant and President and Chief
Executive Officer of Mason State Bank.
Mr. Dancer is a Director of the registrant and Secretary of the Board
of Directors of Mason State Bank.
11
<PAGE> 12
PART II
I. The information required by this item appears in the Capital
Directions, Inc. Annual Report to Shareholders for the year ended
December 31, 1998, and is incorporated herein by reference, as
follows:
<TABLE>
<CAPTION>
Pages in 1998
Annual Report
-------------
<S> <C> <C>
Item 5. Market for Registrant's Common Equity and
Related Stockholder Matters 1
Item 6. Selected Financial Data 1
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operation 2 - 7
Item 7a. Quantitative and Qualitative Disclosures About
Market Risk Not required as
registrant meets
requirements to be
a small business filer
Item 8. Financial Statements and Supplementary Data 8 - 23
Item 9. Changes in and Disagreements With Accountants on
Accounting and Financial Disclosure None
</TABLE>
Part III
The information required by this item is included in the Capital
Directions, Inc. 1999 Proxy Statement, dated March 29, 1999, and is
incorporated herein by reference, as follows:
<TABLE>
<CAPTION>
Page in 1999
Proxy Statement
---------------
<S> <C> <C>
Item 10. Directors and Executive Officers of the Registrant 3 - 4
(In addition, reference is made to additional item -
Executive Officers under Part I, Item 4 of this Form
10-K report on page 11)
Item 11. Executive Compensation 4 - 6
Item 12. Security Ownership of Certain Beneficial Owners
and Management 2 - 3
Item 13. Certain Relationships and Related Transactions 6 - 7
</TABLE>
The information appearing in the Corporation's Proxy
Statement and in Note 4 on page 15 of the Notes to
Consolidated Financial Statements of the 1998 Annual Report
to Shareholders is incorporated by reference in response to
this item.
12
<PAGE> 13
Part IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on
Form 8-K
(a). The following documents are filed as part of this report:
1. The following consolidated financial statements of
Capital Directions, Inc. included in the 1998 Annual
Report to Shareholders for the year ended December 31,
1998, are incorporated herein by reference in Item 8:
<TABLE>
<CAPTION>
Page in 1998
Annual Report
-------------
<S> <C>
Consolidated balance sheets -
December 31, 1998 and 1997 8
Consolidated statements of income for the years
ended December 31, 1998, 1997, and 1996 9
Consolidated statements of cash flows for the years
ended December 31, 1998, 1997, and 1996 10
Consolidated statements of changes in shareholders'
equity for the years ended December 31, 1998,
1997, and 1996 11
Notes to consolidated financial statements 12 - 23
Report of Independent Auditors 7
</TABLE>
2. Financial Statement Schedules
Not applicable
3. Exhibits
(3a) Articles of Incorporation and (3b) Bylaws (previously
filed as Exhibits included in Capital Directions, Inc.
Registration Statement Amendment No. 1 to Form S-4, No. 1
to Form S-4, No. 33-20417, Dated March 17, 1988).
(10) Material Contracts
(a) Incentive Compensation Plans (previously
filed as Exhibits included in Capital
Directions, Inc.'s 1988 10-K reported dated
March 29, 1989 and the 1993 10-K report dated
March 29, 1994).
(b) Directors Deferred Compensation Plans
(previously filed as Exhibits included in
Capital Directions, Inc.'s 1988 10-K report
dated March 29, 1989).
(c) Supplementary Executive Retirement Plan
(previously filed as Exhibits included in
Capital Directions, Inc.'s 1988 10-K report
dated March 29, 1989).
(13) Annual Report to Shareholders for the year ended
December 31, 1998 (filed herewith).
(22) Subsidiaries of registrant (previously filed as
Exhibits included in Capital Directions, Inc.'s
1988 10-K report dated March 29, 1989).
13
<PAGE> 14
Part IV - Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(Continued)
(23) Consents of experts. Consent of Crowe, Chizek and
Company LLP.
(27) Financial Data Schedule for EDGAR filer.
(b). Reports on Form 8-K
No reports of Form 8-K were filed during the last quarter of
the year covered by this report.
14
<PAGE> 15
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized, on March 23, 1999.
CAPITAL DIRECTIONS, INC.
/s/ Timothy P. Gaylord Timothy P. Gaylord
- -------------------------- (President and Chief Executive Officer)
/s/ Lois A. Toth Lois A. Toth
- -------------------------- (Treasurer)
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been duly signed by the following persons in the capacities
indicated on March 23, 1999.
/s/ George A. Sullivan George A. Sullivan
- -------------------------- Chairman of Board of Directors
/s/ Gerald W. Ambrose Gerald W. Ambrose
- -------------------------- Vice Chairman of Board of Directors
/s/ Douglas W. Dancer Douglas W. Dancer
- -------------------------- Secretary of Board of Directors
/s/ Timothy P. Gaylord Timothy P. Gaylord
- -------------------------- President and Chief Executive Officer
/s/ Marvin B. Oesterle Marvin B. Oesterle
- -------------------------- Director
/s/ Paula Johnson Paula Johnson
- -------------------------- Director
15
<PAGE> 16
Index to Exhibits
The following exhibits are filed or incorporated by reference as part of this
report:
3(A) Articles of Incorporation of the Registrant as currently in effect and any
amendments thereto (Incorporated herein by reference to exhibit 3(A) of
the Registrants' Form S-4 Registration Statement dated March 17, 1988 No.
33-20417).
3(B) Bylaws of the Registrant as currently in effect and any amendments thereto
(Incorporated herein by reference to exhibit 3(B) of the Registrants' Form
S-4 Registration Statement dated March 17, 1988 No. 33-20417).
10(A) Incentive Compensation Plans (Incorporated herein by reference to exhibit
10(A) to Registrants' Report on Form 10-K for the year ended December 31,
1988 and December 31, 1988 and December 31, 1993 [1988 and 1993 10-K
Report]).
10(B) Directors Deferred Compensation Plan (Incorporated herein by reference to
exhibit 10(B) to Registrants' Report on Form 10-K for the year ended
December 31, 1988 [1988 10-K Report]).
10(C) Supplementary Executive Retirement Plan (Incorporated herein by reference
to exhibit 10(C) to Registrants' Report on Form 10-K for the year ended
December 31, 1988 [1988 10-K Report]).
13 Annual Report to Shareholders for the year ended December 31, 1998 (filed
herewith).
22 List of Subsidiaries (Incorporated herein by reference to exhibit 22 to
Registrants' Report on Form 10-K for the year ended December 31, 1988
[1988 10-K Report]).
23 Consents of experts. Consent of Crowe, Chizek and Company LLP.
27 Financial Data Schedule for EDGAR filer.
16
<PAGE> 1
EXHIBIT 13
A MESSAGE FROM THE PRESIDENT AND CEO
[GRAPHIC OF PRESIDENT AND CEO]
Timothy P. Gaylord
President and CEO
Capital Directions, Inc.
and Mason State Bank
It's my pleasure to report another excellent year for Capital Directions, Inc.
Nineteen ninety-eight is the ninth consecutive year the Corporation reports
increased earnings. Net income of $1,334,000 grew 8% over 1997 and represents
the highest earnings in corporate history. Basic earnings per share were $2.24
in 1998 compared with $2.08 in 1997. Return on total assets (ROA) of 1.47% is
off slightly from 1997 levels, but represents strong performance when coupled
with a 25% growth in assets. Return on average shareholders' equity (ROE) of
12.53% improved over 1997 as a result of improved leverage of capital and
increased earnings. The objective to grow the Bank has been extremely successful
in 1998. Our strategy concentrated on entering new markets, expanding market
share, and enhancing current products.
Mason State Bank opened a new location in Leslie, Michigan approximately 10
miles south of Mason. The new facility is a state-of-the-art in-store branch
located in the Leslie Felpausch Food Center. The branch offers full service and
provides a high level of convenience for our clients.
The greater Lansing economy has been extremely strong in 1998. This has
stimulated the demand for new construction and mortgage lending. An aggressive
approach to expand market share in mortgage lending has resulted in closing
$40,000,000 in mortgages in 1998. Our Personal Bankers do not subscribe to the
old adage of "Banker's Hours". They take appointments when and where it's
convenient for the client.
We continue to develop new sources of fee income and service enhancement. The
Bank entered into an agreement with a local insurance agency and the AutoOwners
Insurance Group to provide the benefit of group insurance rates for our clients.
This benefit has allowed the Bank to differentiate its product from our
competitors and enhance customer loyalty. Our investment in the Michigan
Banker's Title Company of Mid Michigan, LLC continues to exceed expectations and
complements our mortgage lending activity.
The overall loan portfolio remains strong. The Bank recorded $400 of net loan
charge-offs in 1998. This is the first year the Bank has experienced net loan
charge-offs in a six year period. Mason State Bank continues to adhere to strict
underwriting standards.
Mason State Bank is recognized for consistent earnings improvement, excellent
asset quality, and a strong capital base by investment analysts and bank rating
services. The Bank operates at an efficiency ratio of 56.17%, which compares
favorably with statewide peer of 62.96%.
Capital Directions, Inc. continues to strive to improve shareholder value over
time. During 1998 dividends declared increased by 37%. An investment in Capital
Directions utilizing the dividend reinvestment program in 1993 would have
returned an annually compounded rate of return of 27.59%. As the following chart
illustrates an investment in Capital Directions has provided excellent returns
over time.
We look for 1999 to be another record year. Preparation for the Year 2000 is
almost complete and our new location is well on its way to meeting our plan
objectives. The industry continues to change and through the dedication and
planning of our directors, management, and staff we are able to consistently
improve our performance.
Thank you for your support in 1998.
Sincerely,
/s/ Timothy Gaylord
Timothy Gaylord
CONTENTS
Selected financial data .............................................. 1
Market for common stock and related security holder matters .......... 1
Management's discussion and analysis of financial condition and
results of operations ................................................ 2-7
Report of independent auditors ....................................... 7
Capital Directions, Inc. consolidated balance sheets ................. 8
Capital Directions, Inc. consolidated statements of income ........... 9
Capital Directions, Inc. consolidated statements of cash flows ....... 10
Capital Directions, Inc. consolidated statements of changes in
shareholders' equity ................................................. 11
Notes to consolidated financial statements ........................... 12-23
Management, officers, and directors .................................. 24
1998 highlights ...................................................... 24-25
STOCK PERFORMANCE
CAPITAL
DIRECTIONS, INC.
Shareholders taking advantage of the
dividend reinvestment
program experienced
an overall annual
compounded rate of return of 27.59% since December of 1993.
12/31/93 $10,000
12/31/98 $37,963
<PAGE> 2
SHAREHOLDER RETURNS 1992-1998
<TABLE>
<CAPTION>
1992 1993 1994 1995 1996 1997 1998
<S> <C> <C> <C> <C> <C> <C> <C>
Net Income
(In Thousands) $835 $869 $930 $1,050 $1,136 $1,235 $1,334
Return On Equity 13.10% 12.62% 12.48% 12.71% 12.67% 12.47% 12.53%
Return On Assets 1.10% 1.14% 1.24% 1.40% 1.49% 1.56% 1.47%
Book Value Per Share $11.14 $12.17 $12.86 $14.45 $15.80 $17.17 $18.48
(Retroactively adjusted
for stock splits)
Stockholders' Equity to
Total Assets 8.47% 9.52% 10.05% 11.04% 11.91% 12.78% 10.97%
</TABLE>
STOCK & SHAREHOLDER INFORMATION
STOCK TRANSFER AGENT AND REGISTRAR
American Stock Transfer and Trust Company
40 Wall Street, 46th Floor
New York, New York 10005
AUTOMATIC DIVIDEND REINVESTMENT AND STOCK PURCHASE PLAN
Participating Capital Directions, Inc. shareholders take the opportunity to
reinvest the cash dividends paid on their shares to purchase additional shares
of Capital Directions, Inc. common stock. Participants may also purchase
additional shares through cash payment without paying fees or commissions.
DIRECT DEPOSIT
The Corporation continues to provide convenient services to meet your needs. For
quick transfer and availability, your cash dividends may be deposited directly
into your Mason State Bank checking, savings, or money market account. To learn
more about the Automatic Dividend Reinvestment and Stock Purchase Plan, or to
initiate direct deposit of your cash dividends, please contact Kimberly A.
Dockter, CPS, Executive Secretary, at (517) 676-0500.
THE 1-YEAR
ANNUALIZED
RETURN ON CAPITAL
DIRECTIONS, INC. STOCK WAS 6.63%
THE 5-YEAR
ANNUALIZED
RETURN ON CAPITAL
DIRECTIONS, INC. STOCK WAS 27.59%
ANNUAL MEETING OF SHAREHOLDERS
The annual meeting for the year ended December 31, 1998 will be held at the
Ingham County Community Building, 700 East Ash Street, Mason, Michigan on
Thursday, April 22, 1999 at 5:30 p.m.
HOW TO ORDER FORM 10-K
The Corporation's 1998 Annual Report on Form 10-K, as filed with the Securities
and Exchange Commission, can be found on the Internet. It is also available,
without charge, to shareholders upon request. Send requests to Lois A. Toth,
Treasurer, Capital Directions, Inc., P.O. Box 130, Mason, MI 48854-0130 or call
(517) 676-0500.
<PAGE> 3
SELECTED FINANCIAL DATA
(In thousands, except per share data)
<TABLE>
<CAPTION>
SUMMARY OF OPERATIONS
1998 1997 1996 1995 1994
- ---------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Interest and dividend income.......................... $ 6,880 $ 6,092 $ 5,709 $ 5,740 $ 5,262
Interest expense...................................... 3,125 2,594 2,443 2,441 2,135
- ---------------------------------------------------------------------------------------------------------------------------
Net interest income................................... 3,755 3,498 3,266 3,299 3,127
Provision for loan losses............................. (23) -- -- 193 25
Non interest income................................... 565 568 783 1,046 735
Non interest expense.................................. 2,461 2,340 2,479 2,714 2,580
- ---------------------------------------------------------------------------------------------------------------------------
Income before income tax expense...................... 1,882 1,726 1,570 1,438 1,257
Income tax expense.................................... 548 491 434 388 327
- ---------------------------------------------------------------------------------------------------------------------------
Net income............................................ $ 1,334 $ 1,235 $ 1,136 $ 1,050 $ 930
===========================================================================================================================
PER SHARE(1)
Average shares outstanding............................ 595,064 594,926 594,856 594,856 594,856
Basic earnings(2)..................................... $ 2.24 $ 2.08 $ 1.91 $ 1.77 $ 1.56
Diluted earnings(2)................................... 2.22 2.07 1.90 1.76 1.56
Dividends declared.................................... 0.96 0.70 0.57 0.52 0.50
Book value............................................ 18.48 17.17 15.80 14.45 12.86
RATIOS BASED ON NET INCOME
Net income to average shareholders' equity............ 12.53% 12.47% 12.67% 12.71% 12.48%
Net income to average assets.......................... 1.47 1.56 1.49 1.40 1.24
BALANCE SHEET
Assets................................................ $ 100,229 $ 79,957 $ 78,920 $ 77,835 $ 76,112
Net loans............................................. 80,904 60,299 50,772 48,689 50,550
Short-term investments................................ 626 188 2,800 6,050 800
Securities............................................ 12,383 14,118 19,497 16,055 17,713
Deposits.............................................. 72,389 64,421 66,509 66,208 66,880
Long-term Federal Home Loan Bank borrowings........... 15,593 3,670 1,913 1,880 430
Shareholders' equity.................................. 10,997 10,216 9,397 8,594 7,648
</TABLE>
1 A 2-for-1 stock split was declared on the common stock November 3, 1997
and paid December 1, 1997. Earnings, dividends, book value and price
per share figures have been restated to give retroactive effect to this
split.
2 Restated to reflect adoption of SFAS No. 128 on December 31, 1997.
MARKET FOR COMMON STOCK AND RELATED SECURITY HOLDER MATTERS
Capital Directions, Inc. stock is not listed on any exchange. Its shares are
traded through the local brokers of Everen Securities, Morgan Stanley Dean
Witter, and Roney & Co. Management has not verified the accuracy of their bid
reporting, nor will the price be reflective if the stock was listed on an active
exchange. At December 31, 1998, there were approximately 421 holders of the
Company's common stock. Dividends are declared on a quarterly basis with a total
of $568,000 declared in 1998 and $415,000 in 1997.
<TABLE>
<CAPTION>
1ST 2ND 3RD 4TH
QUARTER QUARTER QUARTER QUARTER
<S> <C> <C> <C> <C>
1998
High................................................................ $ 33.00 $ 33.00 $ 33.38 $ 31.25
Low................................................................. 25.00 31.25 28.00 30.00
Dividend per share declared......................................... 0.19 0.23 0.27 0.27
1997
High................................................................ $ 21.88 $ 22.07 $ 24.25 $ 30.00
Low................................................................. 20.75 20.75 21.50 21.50
Dividend per share declared......................................... 0.16 0.17 0.18 0.19
</TABLE>
A 2-for-1 stock split was declared on the common stock November 3, 1997 and paid
December 1, 1997. Earnings, dividends, book value and price per share figures
have been restated to give retroactive effect to this split.
1
<PAGE> 4
MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
The following discussion and analysis provides additional information concerning
the consolidated financial condition and results of operations for Capital
Directions, Inc. and its wholly owned subsidiaries. It should be read in
conjunction with the consolidated financial statements and supplemental data
contained elsewhere in this report.
Capital Directions, Inc., a one-bank holding company, commenced operations on
July 22, 1988. This was facilitated by the acquisition of 100% of the
outstanding shares of Mason State Bank in an exchange of common stock.
The Corporation is not aware of any market or institutional trends, events, or
circumstances that will have or are reasonably likely to have a material effect
on liquidity, capital resources, or operations except as discussed herein. Also,
the Corporation is not aware of any current recommendations by regulatory
authorities that will have such effect if implemented.
PERFORMANCE SUMMARY
In 1998, Capital Directions, Inc. and its subsidiaries reported record net
earnings of $1,334,000. This is an increase of 8.02% over the previous year.
Basic earnings per share were $2.24 in 1998 compared to $2.08 in 1997. In 1998,
return on average assets decreased to 1.47% from 1.56% in 1997. This decrease is
attributable to the rapid growth in the total assets of the Corporation. Return
on shareholders' equity was 12.53%, up from 12.47% in 1997. As of December 31,
1998 the leveraged capital ratio, which excludes the net unrealized gain or loss
on securities available for sale, was 11.2%, down from 12.6% the prior year but
well in excess of the minimum required by regulatory authorities of 4.0%.
The following table provides a summary of the factors impacting net income in
1998 compared to the same components in 1997:
<TABLE>
<CAPTION>
(In thousands)
<S> <C>
1997 Net income.............................. $ 1,235
Increase (decrease) in net income:
Interest income............................. 788
Interest expense............................ (531)
Provision for loan losses................... 23
Non interest income......................... (3)
Non interest expense........................ (121)
Income taxes................................ (57)
-----------
1998 NET INCOME $ 1,334
===========
</TABLE>
In 1997, net income for the Corporation was $1,235,000, which was an increase of
8.71% over net earnings of $1,136,000 for 1996. Basic earnings per share
increased to $2.08 in 1997 compared to $1.91 in 1996. The 1997 return on average
assets increased to 1.56% from 1.49% in 1996. Return on average shareholders'
equity was 12.47% down from 12.67% in 1996.
The leveraged capital ratio for the year ending December 31, 1997 was 12.6%, up
from 12.1% the prior year.
The operations of our Holding Corporation did not materially affect the
consolidated financial results for 1998, 1997, or 1996.
NET INTEREST INCOME
The largest segment of the Corporation's operating income is net interest
income. Net interest income is determined by adding interest and certain fees
from earning assets, then subtracting the interest paid on deposits and other
funding sources. This may be impacted by changes in volume and mix of earning
assets, funding sources, deposits, interest rates, loan demand, and other market
factors.
Net interest income for 1998, on a fully taxable equivalent basis, was
$3,865,000, an increase of $246,000 over 1997. For 1997, net interest income, on
a fully taxable equivalent basis, increased $219,000 over 1996. Average balances
and rates on major categories of interest earning assets and interest bearing
liabilities appear in Table 1 on the following page. The effect on net interest
income from changes in average balances ("volume") and yields, and rates
("rate") are quantified in Table 2 on the following page. As shown, net interest
income improved in 1998 and 1997 generally due to volume increases in earning
assets.
Yields on assets were lower and rates on funding were slightly higher in 1998
than 1997, reflecting a decreasing interest rate environment, with customers
moving to higher priced deposit products. Average yields on earning assets
decreased to 8.15% in 1998 from 8.44% in 1997. Interest bearing liability rates
increased to 4.48% in 1998 from 4.39% in 1997. Despite an increase in net
interest income related primarily to an increase of 16.58% in average earning
assets, net interest margin decreased by 42 basis points primarily related to a
29 basis point decline in the average rate on earning assets.
PROVISION AND ALLOWANCE FOR LOAN LOSSES
Provision for losses on loans is charged to operations based on management's
evaluation of potential losses in the portfolio. Provision is based upon regular
review of the level and trend of non-performing assets; loans 90 days past due,
but not considered non-performing; charge-offs and recoveries; the mix of loans
in the portfolio; and anticipated economic conditions. Based on positive trends
in the Bank's portfolio in 1998 related to such factors, the provision for loan
losses was ($23,000) in 1998. No provision was recorded in 1997 when a net
recovery of $15,000 was achieved.
Net charge-offs for 1998 totaled less than $500. This was preceded by five
consecutive years of net recoveries. Excellent loan portfolio performance
indicates a continued strong mid-Michigan business climate
2
<PAGE> 5
MANAGEMENT'S DISCUSSION & ANALYSIS... (continued)
and reflects attention to underwriting standards as well as consistent
monitoring of the portfolio. Mason State Bank management rates the overall
quality of the loan portfolio as good and concludes the $1,011,000 allowance or
1.23% allowance to total loans appropriate to cover inherent losses in the
portfolio at year-end 1998.
Non-performing loans are defined as all loans which are accounted for as
non-accrual; loans 90 days or more past due and still accruing interest; or
loans which have been renegotiated due to the borrowers' inability to comply
with the original terms. As of December 31, 1998, non-performing loans totaled
$373,000 or .46% of total loans. This represents an increase of $164,000
<TABLE>
<CAPTION>
TABLE 1 1998 1997 1996
-------------------------------- -------------------------------- -------------------------------
(Dollars in INTEREST AVERAGE INTEREST AVERAGE INTEREST AVERAGE
thousands) AVERAGE INCOME/ YIELD/ AVERAGE INCOME/ YIELD/ AVERAGE INCOME/ YIELD/
BALANCE EXPENSE* RATE* BALANCE EXPENSE* RATE* BALANCE EXPENSE* RATE*
------- -------- ----- ------- -------- ----- ------- -------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Loans...... $ 69,172 $ 5,870 8.49% $ 54,870 $ 4,910 8.95% $ 49,507 $ 4,395 8.88%
Other
earning
assets..... 16,633 1,120 6.73 18,733 1,303 6.96 21,521 1,448 6.73
---------- -------- --------- -------- ---------- --------
Total
earning
assets..... 85,805 6,990 8.15 73,603 6,213 8.44 71,028 5,843 8.23
Other
Assets..... 4,810 5,784 5,084
---------- --------- ----------
TOTAL...... $ 90,615 $ 79,387 $ 76,112
========== ========= ==========
Interest
bearing
liabilities $ 69,717 $ 3,125 4.48% $ 59,070 $ 2,594 4.39% $ 57,578 $ 2,443 4.24%
-------- ------- -------
Non
interest
bearing
liabilities
and
equity..... 20,898 20,317 18,534
---------- --------- ----------
TOTAL...... $ 90,615 $ 79,387 $ 76,112
========== ========= ==========
Net
interest
income..... $ 3,865 $ 3,619 $ 3,400
======== ======== ========
Net
interest
margin on
earning
assets..... 4.50% 4.92% 4.79%
</TABLE>
*Fully taxable equivalent basis.
<TABLE>
<CAPTION>
TABLE 2 1998 COMPARED TO 1997 1997 COMPARED TO 1996
(In thousands) VOLUME RATE TOTAL VOLUME RATE TOTAL
------ ---- ----- ------ ---- -----
<S> <C> <C> <C> <C> <C> <C>
Change due to:
Earning assets*.................................. $ 1,065 $ (288) $ 777 $ 299 $ 71 $ 370
Interest bearing liabilities..................... 569 (38) 531 145 6 151
--------- -------- ------- ---------- -------- -------
TOTAL NET INTEREST INCOME......................... $ 496 $ (250) $ 246 $ 154 $ 65 $ 219
========= ======== ======= ========== ======== =======
</TABLE>
*Fully taxable equivalent basis.
3
<PAGE> 6
MANAGEMENT'S DISCUSSION & ANALYSIS... (continued)
in non-performing loans from 1997 levels. Non-performing loans totaled .34% of
total loans in 1997. This was a slight increase of $37,000 from the 1996 levels.
<TABLE>
<CAPTION>
DECEMBER 31, 1998 1997
---------- ----------
<S> <C> <C>
Non-accrual.................... $ 243,000 $ 48,000
90 days or more past due....... 130,000 161,000
Renegotiated................... -- --
---------- ----------
TOTAL $ 373,000 $ 209,000
========== ==========
</TABLE>
A loan is considered impaired when full collection of principal and interest is
not expected under the original terms of the loan. There were no impaired loans
in the portfolio at December 31, 1998, 1997, or 1996.
NON INTEREST INCOME
Non interest income decreased slightly by $3,000 from the previous year.
Investment commission fees as well as surcharges on foreign ATM transactions
increased in 1998. These increases were offset by an increase in net losses on
securities of $13,000 in 1998, a result of securities called prior to maturity.
The change in non interest income from 1997 to 1996 was a decline of $215,000.
This was largely the result of the closing of operations in December 1996 of
Monex Investment Corporation. Excluding Monex, the $32,000 decrease in non
interest income was primarily the result of decreased service charge income and
decreased gains on the sale of loans.
NON INTEREST EXPENSE
Non interest expense increased $121,000 during 1998. This increase is a result
of several factors, including increased salary and benefit costs, as well as
data processing costs. In addition, premises and equipment costs increased in
1998 as a result of the completion of our new branch in Leslie, Michigan that
opened in October 1998. Non interest expense decreased by $139,000 from 1996 to
1997. Excluding the expenses related to Monex in 1996, non interest expenses
increased $83,000. These increases were related to decreased salary and benefit
costs, which were offset by, increased director expenses, marketing expenses,
and shareholder related expenses.
INCOME TAX EXPENSE
The 1998 provision for income tax was $548,000, up from $491,000 in 1997. The
1997 provision was up $57,000 from the $434,000 provision in 1996. This figure
reflects a higher taxable income in 1998 and 1997.
LIQUIDITY AND INTEREST RATE SENSITIVITY MANAGEMENT
The primary objective of asset/liability management is to assure adequate
liquidity and net interest income by maintaining appropriate maturities and
balances between interest sensitive earning assets and interest bearing
liabilities. Liquidity management insures sufficient funds are maintained to
meet the cash withdrawal requirements of depositors and the credit demands of
borrowers.
Sources of liquidity include: federal funds sold, investment security maturities
and pay downs. The Bank maintained an average balance of $2,487,000 in federal
funds sold in 1998. The Bank is a member of the Federal Home Loan Bank system
for several reasons: access to an alternative funding source, lower costs for
credit services, and an alternative tool to manage interest rate risk.
Throughout 1996, 1997, and 1998 the Bank used this source of funding (see Note
8) to directly offset loans of like terms and conditions.
Other sources of liquidity include: internally generated cash flow, repayments
and maturities of loans, other borrowings, and growth in core deposits.
At December 31, 1998 the securities available for sale were valued at
$5,320,000. It is not anticipated that management will use these funds due to
the optional sources that may be available in 1999.
Interest rate sensitivity management seeks to maximize net interest margins
through periods of changing interest rates. The Bank develops strategies to
assure that desired levels of interest sensitive assets and interest bearing
liabilities mature or reprice within selected time frames. Strategies include
the use of variable rate loan products as well as managing deposit accounts and
maturities in the investment portfolio. The chart on the following page, using
recommended regulatory standards, reflects "the rate sensitive position" or the
difference between loans and investments, and liabilities that mature or reprice
within the next year and beyond. The financial industry has generally referred
to this difference as the "GAP" and its handling as "GAP Management." At
year-end 1998, the percentage of rate sensitive assets to rate sensitive
liabilities within the one-year time horizon was 86%.
The chart on the following page shows the Bank's GAP position as of December 31,
1998. The Bank has a liability sensitive position within one year of
approximately $5,532,000, which indicates higher net interest income may be
earned if rates decrease during the period. Due to the limitations of GAP
analysis, modeling is also used to enhance measurement and control.
CAPITAL RESOURCES
The adequacy of the Corporation's capital is reviewed regularly to ensure that
sufficient capital is available to meet current and future funding needs and
comply with regulatory requirements.
Shareholders' equity, excluding the net unrealized gain on securities available
for sale, increased $767,000 or 7.53% to $10,955,000 at year-end 1998, which
represented 10.93% of total assets. At December 31, 1997, the similar ratio of
shareholders' equity to total assets was 12.74%. Dividends declared per common
share increased by 37.14% to $ .96 in 1998 compared to $.70 in 1997. The
Corporation has a strong capital position that will meet our needs in 1999.
Regulators established "risk-based" capital guidelines
4
<PAGE> 7
MANAGEMENT'S DISCUSSION & ANALYSIS... (continued)
that became effective December 31, 1990. Under the guidelines, minimum capital
levels, which may include all or a portion of the allowance for loan losses, are
based on the perceived risk in asset categories and certain off-balance-sheet
items, such as loan commitments and standby letters of credit. On December 31,
1998, the Bank has a "risk-based" total capital to asset ratio of 17.68%. The
ratio exceeds the requirements established by regulatory agencies as shown at
right.
<TABLE>
<CAPTION>
CAPITAL DECEMBER 31, 1998
(Dollars in thousands) RISK-BASED LEVERAGE
---------- ----------
<S> <C> <C>
Actual amount.................. $ 11,718 $ 10,887
Actual percentage.............. 17.7% 11.2%
Required amount................ $ 5,303 $ 3,898
Required percent............... 8.0% 4.0%
EXCESS AMOUNT $ 6,415 $ 6,989
</TABLE>
GAP MEASUREMENT
(Dollars in thousands)
<TABLE>
<CAPTION>
0-30 31-90 2ND 3RD 4TH ANNUAL 1-3 3-5 OVER 5
DAYS DAYS QUARTER QUARTER QUARTER TOTAL YEARS YEARS YEARS TOTAL
---- ---- ------- ------- ------- ----- ----- ----- ------ -----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
ASSETS
Loans.......... $ 12,972 $ 4,536 $ 4,691 $ 3,986 $ 2,448 $ 28,633 $ 10,173 $ 13,256 $35,992 $88,054
Loan
repayment offset -- -- -- -- -- -- -- -- -- -6,139
Allowance
for loan
losses.......... -- -- -- -- -- -- -- -- -- -1,011
Federal
funds sold..... 600 -- -- -- -- 600 -- -- -- 600
Investments(1)... 1,912 158 2,700 200 1,191 6,161 3,168 1,384 3,070 13,783
Mortgage-
backed
repayments..... -- -- -- -- -- -- -- -- -- -1,400
Other
non-earning assets -- -- -- -- -- -- -- -- -- 6,342
--------- -------- --------- --------- --------- -------- --------- --------- --------- ---------
TOTAL $ 15,484 $ 4,694 $ 7,391 $ 4,186 $ 3,639 $ 35,394 $ 13,341 $ 14,640 $ 39,062 $ 100,229
========= ======== ========= ========= ========= ======== ========= ========= ========= =========
LIABILITIES
Non interest
bearing deposits $ 383 $ 755 $ 1,241 $ 1,138 $ 1,138 $ 4,655 $ 2,586 $ 2,586 $ 461 $ 10,288
Interest
bearing
deposits....... 8,271 10,150 7,764 5,165 4,189 35,539 13,400 7,102 6,060 62,101
Long-term FHLB
borrowings..... 23 65 500 -- 144 732 1,936 11,977 948 15,593
Other
liabilities.... -- -- -- -- -- -- -- -- -- 1,250
Capital........ -- -- -- -- -- -- -- -- -- 10,997
--------- -------- --------- --------- --------- -------- --------- --------- --------- ---------
TOTAL $ 8,677 $ 10,970 $ 9,505 $ 6,303 $ 5,471 $ 40,926 $ 17,922 $ 21,665 $ 7,469 $ 100,229
========= ======== ========= ========= ========= ======== ========= ========= ========= =========
GAP............ $ 6,807 $- 6,276 $ - 2,114 $ - 2,117 $ - 1,832 $- 5,532 $ - 4,581 $ - 7,025 $ 31,593
Cumulative GAP. $ 6,807 $ 531 $ - 1,583 $ - 3,700 $ - 5,532 $- 5,532 $ -10,113 $ -17,138 $ 14,455
GAP ratio...... 178% 43% 78% 66% 67% 86% 74% 68% 523%
</TABLE>
(1) Maturities reflect probable prepayments and calls.
5
<PAGE> 8
MANAGEMENT'S DISCUSSION & ANALYSIS... (continued)
Federal and State banking laws and regulations place certain restrictions on the
amount of dividends and loans that a bank could pay its parent Corporation. Of
the $11,718,000 in risk-based capital, $6,415,000 is available for dividends to
the parent Corporation in 1999 (before considering 1999 net income and any
changes in risk-based assets). The remaining $5,303,000 is restricted based on
the minimum risk-based capital requirements now in effect.
IMPACT OF INFLATION AND CHANGING PRICES
The majority of assets and liabilities of the Corporation are monetary in nature
and therefore the Corporation differs greatly from most commercial and
industrial companies that have significant investments in fixed assets and
inventories. However, inflation does have an important impact on the growth of
assets in the banking industry and the resulting need to increase equity capital
at higher than normal rates in order to maintain an appropriate equity to assets
ratio. Inflation significantly affects other expenses, which tend to rise during
periods of general inflation.
Management believes the most significant impact on financial results is the
Corporation's ability to react to changes in interest rates. Management seeks to
maintain an essentially balanced position between interest sensitive assets and
liabilities and actively manage the amount of securities available for sale in
order to protect against the effects of wide interest rate fluctuations on net
income and shareholders' equity.
IMPACT OF YEAR 2000 COMPLIANCE
The approach of the Year 2000 presents potential problems to businesses that
utilize computer systems in their daily operations. Some computer systems may
not be able to properly interpret dates after December 31, 1999, as they may use
only two digits to indicate the year. Thus, a date using "00" as the year may be
recognized as the year 1900 rather than the year 2000.
Addressing the potential problem related to the year 2000 has been a top
priority at Capital Directions, Inc. since 1997. At that time, a Year 2000 Plan
was developed and a committee, consisting of officers and employees was formed
which meets on a regular basis and provides regular reports to the Board of
Directors on the status of the Bank's implementation.
As outlined in the Plan, the scope of the Year 2000 project includes the
compliance of all operating systems and hardware on all platforms in the areas
of both information and non-information technology. The phases of this project
include the assessment phase where we identify all software and hardware systems
we anticipate running as of the Year 2000; the renovation phases where all
systems affected by the Year 2000 issue are changed either through code
enhancements, upgrades, or replacements; the validation phase where all changes
made in the renovation phase and systems certified as Year 2000 compliant are
tested to ensure compliance; and finally, the implementation phase where we
continue to monitor the progress of certified systems through business use.
Capital Directions expects to spend approximately $35,000 associated with the
Year 2000; 20% of this amount is attributed to software and hardware upgrades,
and 80% attributed to salaries. To date, 80% of the update costs have been
expensed. The Corporation's earnings have been adequate to handle Year 2000
expenditures with no delay to other capital expenditures. It is difficult to
predict exact expenses associated with the Year 2000 issue and additional funds
may be needed for unknown expenses that may occur.
We have successfully concluded the assessment phase of the project and fully
expect the renovation of all systems to be complete by the first quarter of
1999. The validation of systems began in June of 1998 and is targeted for
completion by June 1999. Our overall target for all phases of this project is no
later than the third quarter of 1999; however, 90% of our mission critical
systems were compliant by the end of 1998.
The core processing system software is key to the continued operations of
Capital Directions, Inc. The third-party provider of this system was certified
as compliant at the time we entered into an agreement with them. While this
system is certified as compliant, we have continued to perform numerous
validation tests utilizing test dates in the Year 2000, including leap year. All
testing will be complete by April 1999. The mainframe operating system software
Year 2000 upgrade was installed prior to year-end 1998. Testing will be complete
by the first quarter of 1999. We consider our PC-based loan document processing
software to be key to loan processing. We purchased the Year 2000 upgrade for
this software prior to year-end 1998; testing to be completed by the first
quarter 1999.
PC and network inventories were completed in July 1998. Testing of both hardware
and software was completed at that time. Non-compliant PCs were either upgraded
or replaced and have been retested. Word processing and spreadsheet software
found to be non-compliant were brought into compliance in 1998. The network was
upgraded to a certified Year 2000 compliant version and was tested prior to
year-end 1998. We fully expect compliance of all PC-based hardware and software
by first quarter of 1999.
Included in the assessment phase of all operating systems was the inventorying
of all environmental, non-information technology systems - those systems with
embedded chips. The third-party vendors to those systems have all been contacted
and to date, no Year 2000 concerns have arisen.
6
<PAGE> 9
MANAGEMENT'S DISCUSSION & ANALYSIS... (continued)
In conjunction with the implementation of the Plan noted above, all information
and non-information systems (hardware, software, and environmental) vendors have
been assigned risk factors based on the current validation status of their
service or product, their responsiveness to Year 2000 issues, company history,
and financial strength. All vendors in this analysis have been found to be "on
target" with their plans and at the present time we have no known material
concerns to report.
All customers that have a borrowing or deposit relationship in excess of
$250,000 have also been interviewed and an evaluation of their Year 2000
preparedness has been completed. Most material customers are progressing
satisfactory with their Year 2000 plans. The Corporation does not expect to
experience credit deterioration due to the Year 2000 issue. The Corporation may
face a liquidity risk if the public perceives liquidity risk involved with the
Year 2000 and withdraws funds from the banking system. The Corporation has
established lines of credit to handle this uncertainty.
Despite careful planning, we recognize there may be circumstances beyond our
control that may prohibit us from operating "as usual" after December 31, 1999.
As such, for each mission critical system within the Corporation we have
developed contingency plans. These contingency plans will provide us with
directions should any of these systems fail after the Year 2000. Contingency
plans will continue to be revised as testing of each system is completed and
implementation takes place.
REPORT OF INDEPENDENT AUDITORS
[LOGO CROWE CHIZEK]
Board of Directors and Shareholders
Capital Directions, Inc.
Mason, Michigan
We have audited the accompanying consolidated balance sheets of Capital
Directions, Inc. as of December 31, 1998 and 1997 and the related consolidated
statements of income, changes in shareholders' equity and cash flows for the
years ended December 31, 1998, 1997 and 1996. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with the generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Capital Directions,
Inc. as of December 31, 1998 and 1997, and the results of its operations and its
cash flows for the years ended December 31, 1998, 1997 and 1996 in conformity
with generally accepted accounting principles.
/s/ Crowe, Chizek and Company LLP
-----------------------------------
Crowe, Chizek and Company LLP
Grand Rapids, Michigan
February 4, 1999
7
<PAGE> 10
CAPITAL DIRECTIONS, INC. CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
(In thousands, except share data) DECEMBER 31, 1998 1997
<S> <C> <C>
ASSETS
Cash and non interest bearing deposits.......................................................... $ 2,695 $ 2,000
Interest bearing deposits....................................................................... 26 188
Federal funds sold.............................................................................. 600 --
--------- ----------
Total cash and cash equivalents......................................................... 3,321 2,188
Securities available for sale................................................................... 5,320 6,271
Securities held to maturity (fair value of $6,484 in 1998 and $7,705 in 1997)................... 6,276 7,483
Federal Home Loan Bank (FHLB) stock............................................................. 787 364
Total loans..................................................................................... 81,915 61,334
Less allowance for loan losses.................................................................. (1,011) (1,035)
--------- ----------
Net loans............................................................................... 80,904 60,299
Premises and equipment, net..................................................................... 784 618
Accrued interest receivable..................................................................... 509 544
Other assets.................................................................................... 2,328 2,190
--------- ----------
TOTAL ASSETS $ 100,229 $ 79,957
========= ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES
Deposits
Non interest bearing.......................................................................... $ 10,288 $ 8,322
Interest bearing.............................................................................. 62,101 56,099
--------- ----------
Total deposits.......................................................................... 72,389 64,421
Accrued interest payable....................................................................... 232 193
Other liabilities.............................................................................. 1,018 1,007
Federal funds purchased........................................................................ -- 450
Long-term FHLB borrowings...................................................................... 15,593 3,670
--------- ----------
Total liabilities....................................................................... 89,232 69,741
SHAREHOLDERS' EQUITY
Common stock: $5 par value, 1,300,000 shares authorized;
595,123 and 595,056 shares outstanding in 1998 and 1997........................................ 2,976 2,975
Additional paid-in capital..................................................................... 2,561 2,561
Retained earnings.............................................................................. 5,418 4,652
Net unrealized gain on securities available for sale, net of tax of $22 in 1998
and $14 in 1997................................................................................ 42 28
--------- ----------
Total shareholders' equity.............................................................. 10,997 10,216
--------- ----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 100,229 $ 79,957
========= ==========
</TABLE>
See accompanying notes to consolidated financial statements.
8
<PAGE> 11
CAPITAL DIRECTIONS, INC. CONSOLIDATED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
(In thousands, except per share data) YEARS ENDED DECEMBER 31, 1998 1997 1996
<S> <C> <C> <C>
INTEREST AND DIVIDEND INCOME
Loans, including fees............................................................ $ 5,870 $ 4,910 $ 4,395
Federal funds sold............................................................... 134 68 115
Securities: Taxable - available for sale......................................... 422 552 621
Taxable - held to maturity........................................... 188 295 269
Tax exempt - held to maturity........................................ 214 236 260
Dividends on FHLB stock.......................................................... 45 29 29
Other interest income............................................................ 7 2 20
--------- --------- ----------
TOTAL INTEREST AND DIVIDEND INCOME 6,880 6,092 5,709
INTEREST EXPENSE
Deposits......................................................................... 2,472 2,375 2,314
Federal funds purchased.......................................................... 1 12 1
Long-term FHLB borrowings........................................................ 652 207 128
--------- --------- ----------
TOTAL INTEREST EXPENSE 3,125 2,594 2,443
--------- --------- ----------
NET INTEREST INCOME............................................................... 3,755 3,498 3,266
Provision for loan losses......................................................... (23) -- --
--------- --------- ----------
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 3,778 3,498 3,266
NON INTEREST INCOME
Service charges on deposits...................................................... 260 260 271
Merchant charge card fees........................................................ 23 27 25
Net gain (loss) on securities.................................................... (18) (5) 6
Net gain on sales of loans....................................................... 3 7 37
Investment commission fees....................................................... 47 14 197
Other income..................................................................... 250 265 247
--------- --------- ----------
TOTAL NON INTEREST INCOME 565 568 783
NON INTEREST EXPENSE
Salaries and wages............................................................... 1,101 1,048 1,175
Pension and other employee benefits.............................................. 325 314 269
Net occupancy expense of premises................................................ 144 139 155
Equipment rentals, depreciation, and maintenance................................. 162 194 208
Other operating expense.......................................................... 729 645 672
--------- --------- ----------
TOTAL NON INTEREST EXPENSE 2,461 2,340 2,479
--------- --------- ----------
INCOME BEFORE INCOME TAX EXPENSE.................................................. 1,882 1,726 1,570
Income tax expense............................................................... 548 491 434
--------- --------- ----------
NET INCOME $ 1,334 $ 1,235 $ 1,136
========= ========= ==========
BASIC EARNINGS PER COMMON SHARE $ 2.24 $ 2.08 $ 1.91
========= ========= ==========
DILUTED EARNINGS PER COMMON SHARE $ 2.22 $ 2.07 $ 1.90
========= ========= ==========
</TABLE>
See accompanying notes to consolidated financial statements.
9
<PAGE> 12
CAPITAL DIRECTIONS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
(In thousands) YEARS ENDED DECEMBER 31, 1998 1997 1996
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income....................................................................... $ 1,334 $ 1,235 $ 1,136
Adjustments to reconcile net income to net cash
from operating activities
Depreciation.................................................................... 120 120 114
Provision for loan losses....................................................... (23) -- --
Net amortization/(accretion) on securities...................................... (14) 52 83
Loans originated for sale....................................................... (1,051) -- (288)
Proceeds from sales of loans originated for sale................................ 1,053 -- 290
Net (gain) loss on securities................................................... 18 5 (6)
Net gain on sales of loans originated for sale.................................. (2) -- (2)
Net gain on sales of non-residential loans...................................... (1) (7) (35)
Changes in assets and liabilities: Accrued interest receivable.................. 35 (42) (9)
Accrued interest payable..................... 39 (2) (12)
Other assets................................. (146) (82) 65
Other liabilities............................ (36) 77 (49)
--------- --------- ----------
NET CASH FROM OPERATING ACTIVITIES 1,326 1,356 1,287
CASH FLOWS FROM INVESTING ACTIVITIES
Securities available for sale: Purchases....................................... (6,437) (1,446) (4,328)
Maturities, calls, and principal payments....... 7,408 3,548 2,382
Sales .......................................... -- 1,674 --
Securities held to maturity: Purchases....................................... (1,246) (180) (4,236)
Maturities, calls, and principal payments....... 2,451 1,719 2,535
Purchase of FHLB stock........................................................... (423) -- --
Cash management funds, net sales................................................. -- -- 138
Proceeds from sales of non-residential loans..................................... 68 188 1,099
Net change in loans.............................................................. (20,649) (9,708) (3,147)
Premises and equipment expenditures.............................................. (286) (171) (32)
--------- --------- ----------
NET CASH FROM INVESTING ACTIVITIES (19,114) (4,376) (5,589)
CASH FLOWS FROM FINANCING ACTIVITIES
Net change in deposits........................................................... 7,968 (2,088) 301
Net change in federal funds purchased............................................ (450) 450 --
Proceeds from long-term FHLB borrowings.......................................... 12,150 2,000 262
Repayment of long-term FHLB borrowings........................................... (227) (243) (229)
Proceeds from shares issued upon exercise of stock options....................... 1 3 --
Dividends paid................................................................... (521) (391) (330)
--------- --------- ----------
NET CASH FROM FINANCING ACTIVITIES 18,921 (269) 4
--------- --------- ----------
Net change in cash and cash equivalents........................................... 1,133 (3,289) (4,298)
Cash and cash equivalents at beginning of year.................................... 2,188 5,477 9,775
--------- --------- ----------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 3,321 $ 2,188 $ 5,477
========= ========= ==========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the year for: Interest.......................................... $ 3,086 $ 2,596 $ 2,455
Income taxes - federal............................ 571 524 529
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE> 13
CAPITAL DIRECTIONS, INC. CONSOLIDATED STATEMENTS OF CHANGES IN
SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
(In thousands, except share and per share data) NET
UNREALIZED
GAIN ON
SECURITIES TOTAL
ADDITIONAL AVAILABLE SHARE-
COMMON PAID-IN RETAINED FOR SALE, HOLDERS'
YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996 STOCK CAPITAL EARNINGS NET OF TAX EQUITY
-------- ---------- -------- ---------- --------
<S> <C> <C> <C> <C> <C>
BALANCES, JANUARY 1, 1996 $ 1,487 $ 2,559 $ 4,522 $ 26 $ 8,594
Net income for the year ....................... -- -- 1,136 -- 1,136
Other comprehensive income, net:
Net change in unrealized gain on securities
available for sale, net of tax of $4 ......... -- -- -- 6 6
--------
Comprehensive income .......................... 1,142
Cash dividends ($.57 per share) ............... -- -- (339) -- (339)
-------- -------- -------- -------- --------
BALANCES, DECEMBER 31, 1996 1,487 2,559 5,319 32 9,397
Net income for the year ....................... -- -- 1,235 -- 1,235
Other comprehensive income, net:
Net change in unrealized gain on securities
available for sale, net of tax of ($3) ....... -- -- -- (4) (4)
--------
Comprehensive income .......................... 1,231
Issuance of 100 shares of common stock
upon exercise of stock options ............... 1 2 -- -- 3
Issuance of 297,528 shares of common stock
for two-for-one stock split .................. 1,487 -- (1,487) -- --
Cash dividends ($.70 per share) ............... -- -- (415) -- (415)
-------- -------- -------- -------- --------
BALANCES, DECEMBER 31, 1997 2,975 2,561 4,652 28 10,216
Net income for the year ....................... -- -- 1,334 -- 1,334
Other comprehensive income, net:
Net change in unrealized gain on securities
available for sale, net of tax of $8 ......... -- -- -- 14 14
--------
Comprehensive income .......................... 1,348
Issuance of 67 shares of common stock
upon exercise of stock options ............... 1 -- -- -- 1
Cash dividends ($.955 per share) .............. (568) (568)
-------- -------- -------- -------- --------
BALANCES, DECEMBER 31, 1998 $ 2,976 $ 2,561 $ 5,418 $ 42 $ 10,997
======== ======== ======== ======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
11
<PAGE> 14
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (DECEMBER 31, 1998, 1997, AND 1996)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF REPORTING:
Capital Directions, Inc. (the "Company") is a holding company whose wholly-owned
subsidiaries include Mason State Bank (the "Bank") and Monex Financial Services,
Inc. ("Monex"). Lakeside Insurance Agency is a wholly-owned subsidiary of the
Bank. The accounting policies of the Company and its subsidiaries conform with
generally accepted accounting principles and prevailing practices within the
banking and securities industry. The accrual basis of accounting is followed for
all major items in the preparation of the consolidated financial statements. All
material intercompany balances and transactions are eliminated in consolidation.
NATURE OF OPERATIONS AND LINES OF BUSINESS:
The Company and its subsidiaries provide a broad range of banking and financial
services in the banking industry. Substantially all revenues and services are
derived from banking products and services. The Bank operates predominantly in
Central Michigan as a commercial bank. The Bank's primary services include
accepting retail deposits and making residential, consumer, and commercial
loans.
CONCENTRATION OF CREDIT RISK:
The Company grants loans to and accepts deposits from customers located
primarily in its delineated community. The Company also invests in securities
issued by local governmental units.
USE OF ESTIMATES:
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
based on available information. These estimates and assumptions affect the
amounts reported in the financial statements and the disclosures provided.
Actual results could differ from those estimates. The allowance for loan losses
and fair values of securities and other financial instruments are particularly
susceptible to change in the near term.
SECURITIES:
Securities are classified as held to maturity and carried at amortized cost when
management has the positive intent and ability to hold them to maturity.
Securities are classified as available for sale when they might be sold prior to
maturity due to changes in interest rates, prepayment risks, yield and
availability of alternative investments, liquidity needs, or other factors.
Securities classified as available for sale are reported at their fair value and
the unrealized holding gain or loss is reported, net of related income tax
effects, as a separate component of other comprehensive income and shareholders'
equity, until realized. Securities are written down to fair value when a decline
in fair value is not temporary.
Gains and losses resulting from the sale of securities are computed by the
specific identification method. Premium amortization is deducted from, and
discount accretion is added to, interest income from securities using the
level-yield method.
LOANS HELD FOR SALE:
Loans held for sale are reported at the lower of cost or market value in the
aggregate.
LOANS:
Loans are reported at the principal balance outstanding, net of deferred loan
fees and costs, the allowance for loan losses, and charge-offs. Interest income
is reported on the interest method and includes amortization of net deferred
loan fees and costs over the loan term.
When full loan repayment is in doubt, interest income is not reported. Payments
received on such loans are reported as principal reductions.
ALLOWANCE FOR LOAN LOSSES:
Because some loans may not be repaid in full, an allowance for loan losses is
recorded. Increases to the allowance are recorded by a provision for loan losses
charged to expense. Estimating the risk of the loss and amount of loss on any
loan is necessarily subjective. Accordingly, the allowance is maintained by
management at a level considered adequate to cover losses that are currently
anticipated based on its regular review of nonperforming assets, as well as
loans 90 days or more past due but not considered nonperforming, charge-offs and
recoveries, growth and portfolio mix of loans, general economic conditions, and
other factors and estimates which are subject to change over time. While
management may periodically allocate portions of the allowance for specific
problem loan situations, the whole allowance is available for any loan
charge-offs that occur. A loan is charged-off against the allowance by
management as a loss when deemed uncollectible, although collection efforts may
continue and future recoveries may occur.
Loan impairment is reported when full payment under the loan terms is not
expected. Impairment is evaluated in total for smaller-balance loans of similar
nature such as residential mortgage, consumer, and credit card loans, and on an
individual loan basis for other loans. If a loan is impaired, a portion of the
allowance is allocated so that the loan is reported, net, at the present value
of estimated future cash flows using the loan's existing rate or at the fair
value of the collateral if repayment is expected solely from collateral. Loans
totaling $75,000 or more are evaluated for impairment when payments are delayed,
typically 90 days or more, or when it is probable that all principal and
interest will not be collected according to the original terms of the loan.
12
<PAGE> 15
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
PREMISES AND EQUIPMENT:
Asset cost is reported net of accumulated depreciation. Depreciation expense is
calculated on both accelerated and straight-line methods over asset useful
lives. These assets are reviewed for impairment when events indicate the
carrying amount may not be recoverable.
OTHER REAL ESTATE:
Real estate acquired in settlement of loans is initially reported at estimated
fair value at acquisition. After acquisition, a valuation allowance reduces the
reported amount to the lower of the initial amount or fair value less costs to
sell. Expenses, gains and losses on disposition, and changes in the valuation
allowance are reported in other operating expense. There were no properties held
as other real estate at December 31, 1998 and 1997.
STOCK OPTIONS:
No expense for stock options is recorded, as the grant price approximates the
market price of the stock at the date of grant. Proforma disclosures in a
separate note shows the effect on net income and earnings per common share had
the options' fair value been recorded using an option pricing model.
INCOME TAXES:
Income tax expense is the sum of the current year income tax due or refundable
and the change in deferred tax assets and liabilities. Deferred tax assets and
liabilities are computed based on the expected future tax consequences of
temporary differences between the carrying amounts and tax bases of assets and
liabilities, using enacted tax rates. A valuation allowance, if needed, reduces
deferred tax assets to the amount expected to be realized.
FAIR VALUES OF FINANCIAL INSTRUMENTS:
Fair values of financial instruments are estimated using relevant market
information and other assumptions, as more fully disclosed in a separate note.
Fair value estimates involve uncertainties and matters of significant judgment
regarding interest rates, credit risk, prepayments, and other factors,
especially in the absence of broad markets for particular items. Changes in
assumptions or in market conditions could significantly affect the estimates.
CASH FLOW REPORTING:
Cash and cash equivalents are defined to include cash on hand, non interest
bearing deposits in other institutions, short-term interest bearing deposits in
other institutions, and federal funds sold. Customer loan and deposit
transactions, cash management funds, long-term interest bearing deposits made
with other financial institutions, and short-term borrowings with an original
maturity of 90 days or less are reported on a net cash flow basis.
EARNINGS AND DIVIDENDS PER COMMON SHARE:
Basic earnings per common share is based on net income divided by the weighted
average number of common shares outstanding during the period. Diluted earnings
per common share shows the dilutive effect of any additional potential common
shares. Earnings and dividends per common share are restated for all stock
splits and stock dividends, including the December 1, 1997 two-for-one stock
split.
COMPREHENSIVE INCOME:
Comprehensive income consists of net income and other comprehensive income.
Other comprehensive income includes unrealized gains and losses on securities
available for sale, net of tax, which are also recognized as a separate
component of shareholders' equity. The accounting standard that requires
reporting comprehensive income first applies for 1998, with prior information
restated to be comparable.
NEW ACCOUNTING PRONOUNCEMENTS:
Beginning January 1, 2000, a new accounting standard will require all
derivatives to be recorded at fair value. Unless designated as hedges, changes
in these fair values will be recorded in the income statement. Fair value
changes involving hedges will generally be recorded by offsetting gains and
losses on the hedge and on the hedged item, even if the fair value of the hedged
item is not otherwise recorded. This is not expected to have a material effect
but the effect will depend on derivative holdings when this standard applies.
Mortgage loans originated in mortgage banking are converted into securities on
occasion. A new accounting standard for 1999 will allow classifying these
securities as available for sale, trading, or held to maturity, instead of the
current requirement to classify as trading. This is not expected to have a
material effect but the effect will vary depending on the level and designation
of securitizations as well as on market price movements.
RECLASSIFICATIONS:
Certain amounts in the 1997 and 1996 financial statements have been reclassified
to conform with the 1998 presentation.
NOTE 2 - RESTRICTIONS ON CASH AND NON INTEREST BEARING DEPOSITS
To satisfy legal reserve and clearing requirements, non interest bearing
balances are required to be maintained as deposits with the Federal Reserve or
as cash on hand. The total required reserve and clearing balances were $424,000
and $402,000 at year-end 1998 and 1997, respectively.
13
<PAGE> 16
NOTE 3 - SECURITIES
Year-end securities were as follows:
<TABLE>
<CAPTION>
(In thousands) GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------- --------- ---------- -------
<S> <C> <C> <C> <C>
AVAILABLE FOR SALE
1998
Obligations of U.S. Government agencies ........ $ 1,520 $ 16 $ -- $ 1,536
Obligations of states and political subdivisions 501 8 -- 509
Corporate securities ........................... 3,235 40 -- 3,275
------- ------- ------- -------
$ 5,256 $ 64 $ -- $ 5,320
======= ======= ======= =======
1997
Obligations of U.S. Government agencies ........ $ 3,490 $ 22 $ (15) $ 3,497
Corporate securities ........................... 2,739 35 -- 2,774
------- ------- ------- -------
$ 6,229 $ 57 $ (15) $ 6,271
======= ======= ======= =======
HELD TO MATURITY
1998
Obligations of U.S. Government agencies ........ $ 1,798 $ 49 $ -- $ 1,847
Obligations of states and political subdivisions 4,478 159 -- 4,637
------- ------- ------- -------
$ 6,276 $ 208 $ -- $ 6,484
======= ======= ======= =======
1997
Obligations of U.S. Government agencies ........ $ 2,908 $ 71 $ -- $ 2,979
Obligations of states and political subdivisions 4,539 151 -- 4,690
Collateralized mortgage obligations ............ 36 -- -- 36
------- ------- ------- -------
$ 7,483 $ 222 $ -- $ 7,705
======= ======= ======= =======
</TABLE>
The amortized cost and fair values of securities at year-end 1998 by contractual
maturity, are shown below. Expected maturities may differ from contractual
maturities because borrowers may have the right to call or prepay obligations
with or without call or prepayment penalties. Securities not due at a single
maturity date are shown separately.
<TABLE>
<CAPTION>
(In thousands) AVAILABLE FOR SALE HELD TO MATURITY
-------------------- --------------------
AMORTIZED FAIR AMORTIZED FAIR
COST VALUE COST VALUE
--------- ------ --------- ------
<S> <C> <C> <C> <C>
Due in one year or less ..................... $1,840 $1,850 $1,265 $1,270
Due from one to five years .................. 2,395 2,435 1,124 1,155
Due from five to ten years .................. -- -- 1,090 1,144
Due after ten years ......................... -- -- 999 1,068
------ ------ ------ ------
$4,235 $4,285 $4,478 $4,637
U.S. Government mortgage-backed securities
Fixed rate ................................. 572 577 1,485 1,520
Variable rate .............................. 449 458 313 327
------ ------ ------ ------
TOTALS $5,256 $5,320 $6,276 $6,484
====== ====== ====== ======
</TABLE>
During 1998 and 1997 there were no sales or purchases of mutual funds. Net sales
of mutual funds were $138,000 in 1996. No gains or losses were realized on
mutual fund sales in 1998, 1997, or 1996.
There were no sales of securities in 1998. Net losses on calls of securities
totaled $18,000 in 1998. During 1997, $1,674,000 of securities classified as
available for sale were sold at a gross gain of $29,000 and a gross loss of
$2,000. Net losses on calls of securities totaled $32,000 in 1997. In 1996,
$324,000 of securities classified as held to maturity were sold under the safe
harbor provision rules of SFAS No. 115. Gross gains of $6,000 were realized on
these sales. For purposes of the Consolidated Statements of Cash Flows, these
sales have been included as part of the maturities of securities held to
maturity.
Securities with a carrying value of approximately $1,927,000 and $1,863,000 at
year-end 1998 and 1997 were pledged to secure public deposits, and for other
purposes as required or permitted by law. Additional securities are pledged as
collateral to secure FHLB borrowings as disclosed in a separate note.
14
<PAGE> 17
NOTE 4 - LOANS
Year-end loans were as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997
------- -------
<S> <C> <C>
Commercial and agricultural . $ 5,547 $ 4,241
Real estate mortgage ........ 73,000 53,492
Installment ................. 3,368 3,601
------- -------
TOTAL $81,915 $61,334
======= =======
</TABLE>
Certain directors, executive officers, and principal shareholders of the
Company, including associates of such persons, were loan customers of the
Company. A summary of activity related to these loans follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997
----- -----
<S> <C> <C>
Balance, January 1 .......... $ 609 $ 590
New loans ................... 419 100
Repayments .................. (398) (73)
Other changes, net .......... -- (8)
----- -----
BALANCE, DECEMBER 31 $ 630 $ 609
===== =====
</TABLE>
Other changes include adjustments for loans applicable to one reporting period
that are excludable from the other reporting period.
NOTE 5 - ALLOWANCE FOR LOAN LOSSES
Activity in the allowance for loan losses was as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Balance, beginning of period ..... $ 1,035 $ 1,020 $ 995
Loans charged-off ................ (30) (26) (68)
Recoveries ....................... 29 41 93
Provision for loan losses ........ (23) -- --
------- ------- -------
BALANCE, END OF PERIOD $ 1,011 $ 1,035 $ 1,020
======= ======= =======
</TABLE>
During 1998, 1997, and 1996, the Company had no loans which were considered
impaired.
NOTE 6 - PREMISES AND EQUIPMENT, NET
Year-end premises and equipment were as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997
------- -------
<S> <C> <C>
Land ............................. $ 86 $ 86
Buildings and improvements ....... 1,062 914
Furniture and equipment .......... 2,369 2,237
------- -------
TOTAL COST 3,517 3,237
Less accumulated depreciation .... (2,733) (2,619)
------- -------
PREMISES AND EQUIPMENT, NET $ 784 $ 618
======= =======
</TABLE>
15
<PAGE> 18
NOTE 7 - INTEREST BEARING DEPOSITS
Year-end interest bearing deposits were as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997
------- -------
<S> <C> <C>
Interest bearing demand .............. $11,934 $ 9,976
Savings .............................. 18,201 16,008
Time
In denominations less than $100,000 . 20,689 20,837
In denominations of $100,000 or more 11,277 9,278
------- -------
TOTAL $62,101 $56,099
======= =======
</TABLE>
At year-end 1998, stated maturities of time deposits were as follows:
(In thousands)
<TABLE>
<S> <C>
1999.......... $ 21,278
2000.......... 5,279
2001.......... 2,698
2002.......... 2,256
2003.......... 455
--------
TOTAL $ 31,966
========
</TABLE>
Related party deposits totaled approximately $1,283,000 and $267,000 at year-end
1998 and 1997.
NOTE 8 - LONG-TERM FEDERAL HOME LOAN BANK (FHLB) BORROWINGS
At year-end, advances from the Federal Home Loan Bank were as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997
------- -------
<S> <C> <C>
Maturities May 1999 through January 2003, primarily fixed rate
at rates from 5.67% to 6.72%, averaging 6.41% in 1998 and 6.39% in 1997 $ 3,443 $ 3,670
Maturities January 2003 through November 2008, primarily fixed rate
at rates from 4.86% to 6.02%, averaging 5.66% ......................... 12,150 --
------- -------
TOTAL $15,593 $ 3,670
======= =======
</TABLE>
Each advance has a prepayment penalty which is determined based upon the lost
cash flow to the FHLB. In addition to FHLB stock, the advances were
collateralized by approximately $58,082,000 of first mortgage loans and
securities under a blanket lien arrangement at year-end 1998 and approximately
$4,588,000 of securities at year-end 1997.
At year-end 1998, scheduled principal reductions on these advances were:
(In thousands)
<TABLE>
<S> <C>
1999............. $ 732
2000............. 1,222
2001............. 714
2002............. 723
2003............. 11,254
Thereafter....... 948
--------
TOTAL $ 15,593
========
</TABLE>
16
<PAGE> 19
NOTE 9 - BENEFIT PLANS
A retirement and savings plan has been established for all full-time employees.
Annual matching contributions are made based on a percentage of participants'
compensation plus a discretionary amount determined by the Board of Directors.
The expense for the plan was approximately $43,000 in 1998, 1997, and 1996.
An incentive compensation plan is also maintained for certain employees and is
based upon key performance factors. The expense for the plan was approximately
$47,000 in 1998, $42,000 in 1997, and $37,000 in 1996.
An incentive stock option plan was approved in 1994 to provide officers and
other key employees an opportunity to acquire a proprietary interest in the
Company with an incentive to their continued employment and efforts to promote
the Company's success. Under the plan, up to 40,000 unauthorized and newly
issued shares of common stock may be issued upon exercise of stock options
granted under the plan. The plan provides for stock options to be granted at
prices that approximate the fair value of the stock at the respective dates of
grant. Accordingly, no compensation cost for stock options was recognized in
1998, 1997, and 1996. The vesting of stock options does not start until two
years from the date of grant. After two years, the options will vest evenly over
a three year period. The plan terminates on May 20, 2003. All shares and per
share amounts have been restated for stock splits.
A summary of activity in the plan is as follows:
<TABLE>
<CAPTION>
WEIGHTED WEIGHTED
AVERAGE AVERAGE
AVAILABLE OPTIONS EXERCISE GRANT DATE
FOR GRANT OUTSTANDING PRICE FAIR VALUE
--------- ----------- -------- ----------
<S> <C> <C> <C> <C>
Balance at January 1, 1996 ....... 36,000 4,000 $12.75
Granted .......................... (4,000) 4,000 18.00 $ 1.70
------ ------ ------
Balance December 31, 1996 ........ 32,000 8,000 15.38
Granted .......................... (4,000) 4,000 21.88 2.17
Exercised ........................ -- (200) 12.75
Forfeited ........................ 400 (400) 12.75
------ ------ ------
Balance December 31, 1997 ........ 28,400 11,400 17.80
Granted .......................... (4,400) 4,400 32.00 3.21
Exercised ........................ -- (67) 18.00
Cancelled ........................ 66 (66) 18.00
Forfeited ........................ 867 (867) 24.19
------ ------ ------
BALANCE DECEMBER 31, 1998 24,933 14,800 $21.64
====== ====== ======
</TABLE>
For the options outstanding at December 31, 1998, the range of exercise prices
was $12.75 to $32.00 per share with a weighted average remaining contractual
life of 7.8 years. At December 31, 1998 and 1997, 3,466 and 1,133 options were
exercisable at a weighted average price of $14.57 and $12.75 per share,
respectively. No options were exercisable at December 31, 1996.
Had compensation cost for stock options been measured using FASB Statement No.
123, net income and earnings per share would have been the pro forma amounts
indicated below. The pro forma effect may increase in the future if more options
are granted.
<TABLE>
<CAPTION>
(In thousands, except per share data) 1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Net income as reported ............... $ 1,334 $ 1,235 $ 1,136
Pro forma net income ................. 1,327 1,231 1,134
Basic earnings per share as reported . 2.24 2.08 1.91
Pro forma basic earnings per share ... 2.23 2.07 1.91
Diluted earnings per share as reported 2.22 2.07 1.90
Pro forma diluted earnings per share . 2.21 2.06 1.90
</TABLE>
17
<PAGE> 20
NOTE 9 - BENEFIT PLANS (CONTINUED)
The pro forma effects are computed using option pricing models, using the
following weighted average assumptions as of the grant date.
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Risk-free interest rate ....... 5.47% 6.17% 5.23%
Expected option life .......... 5 YEARS 5 years 5 years
Expected stock price volatility 7.57% 7.57% 7.57%
Dividend yield ................ 3.56% 4.19% 3.55%
</TABLE>
A deferred compensation plan has been adopted to provide retirement benefits to
the directors, at their option, in lieu of annual directors' fees. The present
value of future benefits are accrued annually over the period of active service
of each participant. The expense for the plan was $104,000 in 1998, $85,000 in
1997, and $105,000 in 1996. Insurance on the lives of the participants has also
been purchased with the Bank as owner and beneficiary of the policies.
NOTE 10 - OTHER OPERATING EXPENSE
Other operating expense consists of:
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Supplies ............... $ 54 $ 53 $ 51
State taxes ............ 65 66 68
Deferred compensation .. 104 85 105
Other expense .......... 506 441 448
---- ---- ----
TOTAL $729 $645 $672
==== ==== ====
</TABLE>
NOTE 11 - INCOME TAX
Income tax expense consists of:
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
----- ----- -----
<S> <C> <C> <C>
Taxes currently payable . $ 602 $ 517 $ 477
Deferred benefit ........ (54) (26) (43)
----- ----- -----
TOTAL $ 548 $ 491 $ 434
===== ===== =====
</TABLE>
Year-end deferred tax assets and liabilities consist of:
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
----- ----- -----
<S> <C> <C> <C>
Deferred tax assets
Allowance for loan losses ........................... $ 222 $ 230 $ 230
Deferred compensation ............................... 301 299 273
Deferred loan fees .................................. 2 5 7
Other ............................................... 2 3 4
----- ----- -----
527 537 514
Deferred tax liabilities
Fixed assets ........................................ (37) (37) (40)
Net unrealized gain on securities available for sale (22) (14) (17)
Deferred gain on installment sale ................... -- (43) (45)
Other ............................................... (6) (27) (25)
----- ----- -----
(65) (121) (127)
----- ----- -----
TOTAL $ 462 $ 416 $ 387
===== ===== =====
</TABLE>
18
<PAGE> 21
NOTE 11 - INCOME TAX (CONTINUED)
An allowance against deferred tax assets has not been recorded for 1998, 1997,
or 1996.
The difference between the financial statement income tax expense and the
amounts computed by applying the federal income tax rate to pretax income is
reconciled as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
----- ----- -----
<S> <C> <C> <C>
Statutory rate ........................ 34% 34% 34%
Income tax computed at statutory rate . $ 640 $ 587 $ 534
Tax effect of
Nontaxable income .................... (70) (72) (78)
Other ................................ (22) (24) (22)
----- ----- -----
TOTAL $ 548 $ 491 $ 434
===== ===== =====
</TABLE>
NOTE 12 - EARNINGS PER COMMON SHARE
A reconciliation of the numerators and denominators of the basic earnings per
common share and diluted earnings per common share computations for the years
ended is presented below:
<TABLE>
<CAPTION>
(In thousands, except per share data) 1998 1997 1996
------ ------ ------
<S> <C> <C> <C>
Basic earnings per common share:
Net income available to common shareholders .................... $1,334 $1,235 $1,136
Weighted average common shares outstanding ..................... 595 595 595
------ ------ ------
BASIC EARNINGS PER COMMON SHARE $ 2.24 $ 2.08 $ 1.91
====== ====== ======
Diluted earnings per common share:
Net income available to common shareholders .................... $1,334 $1,235 $1,136
Weighted average common shares outstanding for basic earnings
per common share .............................................. 595 595 595
Add: dilutive effect of assumed exercise of stock options ...... 5 3 2
------ ------ ------
Weighted average common shares outstanding for diluted earnings
per common share .............................................. 600 598 597
------ ------ ------
DILUTED EARNINGS PER COMMON SHARE $ 2.22 $ 2.07 $ 1.90
====== ====== ======
</TABLE>
Stock options for 4,100 shares of common stock were not considered in computing
diluted earnings per common share for 1998 because they were antidilutive.
NOTE 13 - OTHER COMPREHENSIVE INCOME
Other comprehensive components and related taxes were as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Net change in unrealized gain (loss) on securities available for sale
Unrealized gain (loss) on securities available for sale ............... $ 4 $(12) $ 16
Reclassification adjustments for (gains) losses included in net income 18 5 (6)
---- ---- ----
Net change in unrealized gain (loss) on securities available for sale . 22 (7) 10
Tax effects ............................................................ (8) 3 (4)
---- ---- ----
TOTAL OTHER COMPREHENSIVE INCOME, NET $ 14 $ (4) $ 6
==== ==== ====
</TABLE>
19
<PAGE> 22
NOTE 14 - COMMITMENTS AND CONTINGENCIES
Periodically, in the normal course of business, there are various outstanding
commitments and contingent liabilities, such as commitments to extend credit and
guarantees, which are not reflected in the accompanying consolidated financial
statements. The exposure to credit loss in the event of nonperformance by the
other party to the financial instrument for unused lines of credit, commitments
to make loans and standby letters of credit is represented by the contractual
amount of those instruments. The same credit policy to make commitments is
followed for those loans recorded in the consolidated financial statements.
The contract amounts of these financial instruments are as follows at year-end:
<TABLE>
<CAPTION>
(In thousands) 1998 1997
<S> <C> <C>
Unused lines of credit .. ................................. $7,216 $6,227
Commitments to make loans ................................. 752 342
Standby letters of credit ................................. 479 269
</TABLE>
Commitments are generally made at variable rates, primarily tied to NBD's prime
rate, with maximum commitment periods generally around 365 days. Since many of
the commitments to make loans expire without being used, the amount does not
necessarily represent future cash commitments. Collateral obtained upon the
exercise of the commitments is determined using management's credit evaluation
of the borrower and may include real estate, vehicles, business assets,
deposits, and other items. In management's opinion, these commitments represent
normal banking transactions and no material losses are expected to result.
NOTE 15 - REGULATORY MATTERS
The Bank is subject to regulatory capital requirements administered by federal
banking agencies. Capital adequacy guidelines and prompt corrective action
regulations involve quantitative measures of assets, liabilities, and certain
off-balance-sheet items calculated under regulatory accounting practices.
Capital amounts and classifications are also subject to qualitative judgments by
regulators about components, risk weightings, and other factors, and the
regulators can lower classifications in certain cases. Failure to meet various
capital requirements can initiate regulatory action that could have a direct
material effect on the consolidated financial statements.
The prompt corrective action regulations provide five classifications, including
well capitalized, adequately capitalized, undercapitalized, significantly
undercapitalized, and critically undercapitalized, although these terms are not
used to represent overall financial condition. If only adequately capitalized,
regulatory approval is required to accept brokered deposits. If
undercapitalized, capital distributions are limited, as is asset growth and
expansion, and plans for capital restoration are required. The minimum
requirements are:
<TABLE>
<CAPTION>
TIER 1
CAPITAL TO CAPITAL TO
RISK-WEIGHTED ASSETS AVERAGE
TOTAL TIER 1 ASSETS
<S> <C> <C> <C>
Well capitalized............................ 10% 6% 5%
Adequately capitalized...................... 8 4 4
Undercapitalized............................ 6 3 3
</TABLE>
20
<PAGE> 23
NOTE 15 - REGULATORY MATTERS (CONTINUED)
At year-end, Bank actual capital levels and minimum required levels were:
<TABLE>
<CAPTION>
(Dollars in thousands) MINIMUM REQUIRED TO BE
MINIMUM REQUIRED WELL CAPITALIZED UNDER
FOR CAPITAL PROMPT CORRECTIVE
ACTUAL ADEQUACY PURPOSES ACTION REGULATIONS
AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
<S> <C> <C> <C> <C> <C> <C>
1998
Total capital
(to risk weighted assets) ....... $11,718 17.7% $5,303 8.0% $6,628 10.0%
Tier 1 capital
(to risk weighted assets) ....... 10,887 16.4 2,651 4.0 3,977 6.0
Tier 1 capital (to average assets) 10,887 11.2 3,898 4.0 4,873 5.0
1997
Total capital
(to risk weighted assets) ....... $10,799 19.7% $4,375 8.0% $5,468 10.0%
Tier 1 capital
(to risk weighted assets) ....... 10,111 18.5 2,187 4.0 3,281 6.0
Tier 1 capital (to average assets) 10,111 12.6 3,213 4.0 4,017 5.0
</TABLE>
The Bank was considered well capitalized at year-end 1998 and 1997.
Federal and state banking laws and regulations place certain restrictions on the
amount of dividends and loans a bank can pay to its parent company. Under the
most restrictive of these regulations, as of year-end 1998, the Bank could pay
approximately $6,415,000 in dividends to the parent company without prior
regulatory approval.
NOTE 16 - FAIR VALUES OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate fair values for
financial instruments. The carrying amount is considered to estimate fair values
for cash and cash equivalents, demand and savings deposits, short-term
borrowings, accrued interest, FHLB stock, and variable rate loans or deposits
that reprice frequently and fully. Securities fair values are based on quoted
market prices or, if no quotes are available, on the rate and term of the
security and on information about the issuer. For fixed rate loans or time
deposits and for variable rate loans or time deposits with infrequent repricing
or repricing limits, the fair value is estimated by discounted cash flow
analysis using current market rates for the estimated life and credit risk. Fair
values for impaired loans are estimated using discounted cash flow analysis or
underlying collateral values, where applicable. Fair value of loans held for
sale is based on market estimates. The fair value of debt is based on currently
available rates for similar financing. The fair value of off-balance-sheet items
is based on the fees or costs that would currently be charged to enter into or
terminate such arrangements and are not material to this presentation.
The estimated year-end fair values of financial instruments were as follows:
<TABLE>
<CAPTION>
(In thousands) 1998 1997
CARRYING ESTIMATED CARRYING ESTIMATED
VALUE FAIR VALUE VALUE FAIR VALUE
<S> <C> <C> <C> <C>
Financial assets
Cash and cash equivalents ............... $ 3,321 $ 3,321 $ 2,188 $ 2,188
Securities available for sale ........... 5,320 5,320 6,271 6,271
Securities held to maturity ............. 6,276 6,484 7,483 7,705
FHLB stock .............................. 787 787 364 364
Loans, net of allowance for loan losses.. 80,904 82,211 60,299 61,162
Accrued interest receivable ............. 509 509 544 544
Financial liabilities
Deposits ................................ (72,389) (72,680) (64,421) (64,597)
Federal funds purchased ................. -- -- (450) (450)
Long-term FHLB borrowings ............... (15,593) (15,824) (3,670) (3,704)
Accrued interest payable ................ (232) (232) (193) (193)
</TABLE>
21
<PAGE> 24
NOTE 16 - FAIR VALUES OF FINANCIAL INSTRUMENTS (CONTINUED)
While these estimates of fair value are based on management's judgment of the
most appropriate factors, there is no assurance that were the Company to have
disposed of such items at year-end 1998 or 1997, the estimated fair values would
necessarily have been achieved at that date, since the market values may differ
depending on various circumstances. Also, the use of different market
assumptions and/or estimation methodologies may have a material effect on the
estimated fair value amounts. The estimated fair values at year-end 1998 and
1997 should not necessarily be considered to apply at subsequent dates.
In addition, other assets and liabilities of the Company that are not defined as
financial instruments are not included in the above disclosures, such as
premises and equipment. Also, non-financial instruments typically not recognized
in financial statements nevertheless may have value but are not included in the
above disclosures. These include, among other items, the estimated earnings
power of core deposit accounts, the trained workforce, customer goodwill, and
similar items.
NOTE 17 - CAPITAL DIRECTIONS, INC. CONDENSED FINANCIAL INFORMATION
(PARENT COMPANY ONLY)
The following condensed financial information is for Capital Directions, Inc.
(parent company only):
<TABLE>
<CAPTION>
CONDENSED BALANCE SHEETS
(In thousands) DECEMBER 31, 1998 1997
<S> <C> <C>
ASSETS
Cash, due from banks, and other cash equivalents ........................ $ 52 $ 4
Investment in Mason State Bank .......................................... 10,928 10,139
Investment in Monex Financial Services, Inc. ............................ 4 4
Other assets ............................................................ 173 182
------- --------
TOTAL ASSETS $11,157 $ 10,329
======= ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Dividends payable ....................................................... $ 160 $ 113
Shareholders' equity .................................................... 10,997 10,216
------- --------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $11,157 $ 10,329
======= ========
</TABLE>
<TABLE>
<CAPTION>
CONDENSED STATEMENTS OF INCOME
(In thousands) YEARS ENDED DECEMBER 31, 1998 1997 1996
<S> <C> <C> <C>
OPERATING INCOME
Dividends from Mason State Bank ........................................ $ 583 $ 338 $ 420
Dividends from Monex Financial Services, Inc. .......................... -- 148 --
------- -------- -------
583 486 420
OPERATING EXPENSES
Wages and benefits ..................................................... 4 68 68
Other expenses and income tax benefit .................................. 19 (3) (6)
------- -------- -------
23 65 62
INCOME BEFORE EQUITY IN UNDISTRIBUTED NET INCOME OF SUBSIDIARIES ........ 560 421 358
Equity in undistributed net income of Mason State Bank .................. 774 961 791
Equity in excess distributed net income of Monex Financial Services, Inc. -- (147) (13)
------- -------- -------
774 814 778
------- -------- -------
NET INCOME $ 1,334 $ 1,235 $ 1,136
======= ======== =======
</TABLE>
Other comprehensive income and comprehensive income for the Parent Company are
equal to the amounts reported for the Consolidated Company for 1998, 1997, and
1996 as disclosed in the Consolidated Statements of Changes in Shareholders'
Equity.
22
<PAGE> 25
NOTE 17 - CAPITAL DIRECTIONS, INC. CONDENSED FINANCIAL INFORMATION (CONTINUED)
<TABLE>
<CAPTION>
CONDENSED STATEMENTS OF CASH FLOWS
(In thousands) YEARS ENDED DECEMBER 31, 1998 1997 1996
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income ................................................. $ 1,334 $ 1,235 $ 1,136
Adjustments to reconcile net income to net cash
from operating activities
Equity in undistributed net income of subsidiaries ........ (774) (814) (778)
Change in other assets .................................... 8 (43) (19)
------- ------- -------
Net cash from operating activities 568 378 339
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from shares issued upon exercise of stock options . 1 3 --
Dividends paid ............................................. (521) (391) (330)
------- ------- -------
Net cash from financing activities (520) (388) (330)
======= ======= =======
Net change in cash and cash equivalents ..................... 48 (10) 9
Cash and cash equivalents at beginning of year .............. 4 14 5
------- ------- -------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 52 $ 4 $ 14
======= ======= =======
</TABLE>
23
<PAGE> 26
CAPITAL DIRECTIONS, INC. DIRECTORS
BOARD OF DIRECTORS
George A. Sullivan
Chairman, Capital Directions, Inc.
Private Practice Attorney
Gerald W. Ambrose
Vice Chairman, Capital Directions, Inc.
County Controller, Ingham County
Timothy P. Gaylord
President & Chief Executive Officer
Capital Directions, Inc.
Douglas W. Dancer
Secretary, Capital Directions, Inc.
Realtor, CB Richard Ellis Martin
Marvin B. Oesterle
Partner, Golden Acres Farms and
Oesterle Brothers Seed Corn
Paula Johnson
Co-owner, Vision Real Estate Company and
Developer, PAL, LLC
OFFICERS
George A. Sullivan, Chairman
Gerald W. Ambrose, Vice Chairman
Timothy P. Gaylord, President & Chief Executive Officer
Douglas W. Dancer, Secretary
Lois A. Toth, Treasurer
MASON STATE BANK MANAGEMENT
Timothy P. Gaylord
President & Chief Executive Officer
Thomas L. Peterson
Senior Vice President, Retail Banking
Kathleen Baker
Vice President, Mortgage Loans
Jeff Kumfer
Vice President, Commercial Loans
Joanne Bowerman
Assistant Vice President, Operations
Melanie J. Greene
Assistant Vice President, Director of Marketing
Elizabeth J. Luttrell
Assistant Vice President, Human Resources & Security
Thelma Hines
Customer Services Officer
Lois A. Toth
Controller & Cashier
Virginia Taylor
Auditor & Compliance Officer
Lea Ammerman
Branch Manager
1998 HIGHLIGHTS
THE MISSION OF MASON STATE BANK
IS TO OPERATE AS A FINANCIAL SERVICES
ORGANIZATION IN A SAFE, SECURE,
AND ETHICAL MANNER AND TO PRODUCE
SUPERIOR RETURNS FOR OUR SHAREHOLDERS.
THIS WILL BE ACCOMPLISHED
BY BEING CUSTOMER FOCUSED AND
PROVIDING QUALITY SERVICES AND PRODUCTS
DELIVERED THROUGH A STAFF OF HIGHLY
TRAINED AND MOTIVATED PROFESSIONALS.
[PRESTIGE CLUB PAPER]
In 1998, Mason State Bank entered into an agreement with a local insurance
company and AutoOwners Insurance Group to offer all MSB checking account holders
membership in the Mason State Bank Prestige Club.
Prestige Club members are eligible for exceptional group discounts on private
passenger automobile insurance, homeowners insurance, and executive umbrella
insurance. This free benefit resulted in substantial annual savings for
qualified Mason State Bank checking customers!
You've heard about it in all the media, it goes by different names...the new
millenium...Y2K... it's the Year 2000.
[GRAPHIC]
Mason State Bank has a Year 2000 team that is working on issues related to the
Year 2000. Both hardware and software are inventoried and mission critical
systems have been identified. Our core operating system software and hardware
was certified as Year 2000 compliant. Testing of all mission critical systems
started in June 1998 with completion expected by June 1999. The Bank contacted
both commercial and retail customers to inform them of issues related to the
Year 2000, and assist them in preparing for the change.
24
<PAGE> 27
1998 HIGHLIGHTS (CONTINUED)
[GRAPHIC]
In late 1997, the directors, management, and staff of Mason State Bank and G & R
Felpausch Company of Hastings announced an upcoming Mason State Bank supermarket
branch inside the Leslie Felpausch. The beautiful new branch opened in October
of 1998.
[GRAPHIC]
The best source of growth is not always new customers; but often selling
additional products to existing customers. This is called growing the share of
wallet and it has been a successful strategy for our Commercial Loan Department.
MSB increased the number of profitable products per customer by providing
clients with unparalleled, personalized service and innovative product upgrades
at very competitive prices.
[GRAPHIC]
MSB began its Leslie branch grand opening celebrations on October 23rd. A ribbon
cutting ceremony was conducted by Felpausch and Mason State Bank representatives
with community leaders and residents attending.
[GRAPHIC]
The Bank hosted a grand opening event for the entire community on Saturday the
24th. Clowns painted faces and did balloon tricks, there was a huge hot dog
roast, and many valuable prizes. Everyone involved had a great time, and the
weather was perfect!
[GRAPHIC]
During 1998, Mason State Bank promoted Lea Ammerman to Officer and made her
Branch Manager of the new Leslie location.
Additionally, Lea was elected in 1998 to the Leslie Area Chamber of Commerce
Board of Directors.
[GRAPHIC]
The staff of Mason State Bank bid a fond farewell to Virginia Taylor in 1998.
Virginia retired after 12 years of dedicated service to the Bank as auditor and
compliance officer. She will be missed by everyone!
Mortgage loan outstandings showed extensive growth in 1998. The Bank marketed
mortgage, refinance, construction, and home equity loans through personal sales
at home shows, sales contacts with Realtors, direct mail, and referrals from
satisfied Mason State Bank customers.
[GRAPHIC]
In addition to increased sales proficiency, quick and efficient processing of
the loans is necessary for such an explosion in mortgage loan outstandings.
During 1998, Deb Whited was promoted to Loan Processing Supervisor. Pairing
increased sales effort with the talent of the loan processing staff allowed the
Bank to process more loans than ever before. This dedication to success led to
Deb Whited being named employee of the year by the staff of Mason State Bank!
[GRAPHIC]
In 1998, Mason State Bank installed a Marketing Customer Information File (MCIF)
program which combines customer, product, and account level information into one
source accessed on a personal computer.
[GRAPHIC]
The Bank now has a complete picture of the relationships any member of a
household has with us. This provides immediate and accurate analysis of the
customer base and allows us to compare, summarize, analyze, segment, research,
or even add information to any or all of the records. This strategic action has
been and will continue to be instrumental to future sales planning and
implementation.
25
<PAGE> 28
FINANCIAL HIGHLIGHTS
<TABLE>
<CAPTION>
CHANGE CHANGE
1998 1997 AMOUNT PERCENT
<S> <C> <C> <C> <C>
INCOME STATEMENT
Net interest income ........................ $ 3,755,000 $ 3,498,000 $ 257,000 7.35%
Net income ................................. 1,334,000 1,235,000 99,000 8.02
Basic earnings per share ................... 2.24 2.08 0.16 7.69
Cash dividend declared per share ........... 0.96 0.70 0.26 37.14
RATIOS
Return on average shareholders' equity ..... 12.53% 12.47%
Return on average assets ................... 1.47 1.56
Average shareholders' equity as a percentage
of average assets ......................... 11.78 12.47
BALANCE SHEET
Total assets ............................... $100,229,000 $79,957,000 $20,272,000 25.35%
Total earning assets ....................... 94,924,000 75,640,000 19,284,000 25.49
Total loans, net ........................... 80,904,000 60,299,000 20,605,000 34.17
Total deposits ............................. 72,389,000 64,421,000 7,968,000 12.37
</TABLE>
<PAGE> 1
EXHIBIT 23
CONSENT OF INDEPENDENT AUDITORS
We hereby consent to the incorporation by reference and use of our report, dated
February 4, 1999, on the consolidated financial statements of Capital
Directions, Inc. which appears on Page 7 of Capital Directions, Inc.'s 1998
Annual Report to Shareholders and is incorporated by reference in the Capital
Directions, Inc. Annual Report on Form 10-K for the year ended December 31,
1998, in the registration statement on Form S-8 for the Capital Directions, Inc.
Incentive Stock Option Plan.
/s/ Crowe, Chizek and Company LLP
------------------------------------
Crowe, Chizek and Company LLP
Grand Rapids, Michigan
March 26, 1999
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM 1998 ANNUAL
REPORT
</LEGEND>
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 2695
<INT-BEARING-DEPOSITS> 26
<FED-FUNDS-SOLD> 600
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 5320
<INVESTMENTS-CARRYING> 6276
<INVESTMENTS-MARKET> 6484
<LOANS> 81915
<ALLOWANCE> 1011
<TOTAL-ASSETS> 100229
<DEPOSITS> 72389
<SHORT-TERM> 0
<LIABILITIES-OTHER> 1250
<LONG-TERM> 15593
0
0
<COMMON> 2976
<OTHER-SE> 8021
<TOTAL-LIABILITIES-AND-EQUITY> 100229
<INTEREST-LOAN> 5870
<INTEREST-INVEST> 824
<INTEREST-OTHER> 186
<INTEREST-TOTAL> 6880
<INTEREST-DEPOSIT> 2472
<INTEREST-EXPENSE> 3125
<INTEREST-INCOME-NET> 3755
<LOAN-LOSSES> (23)
<SECURITIES-GAINS> (18)
<EXPENSE-OTHER> 2461
<INCOME-PRETAX> 1882
<INCOME-PRE-EXTRAORDINARY> 1334
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1334
<EPS-PRIMARY> 2.24
<EPS-DILUTED> 2.22
<YIELD-ACTUAL> 4.50
<LOANS-NON> 243
<LOANS-PAST> 130
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 1035
<CHARGE-OFFS> 30
<RECOVERIES> 29
<ALLOWANCE-CLOSE> 1011
<ALLOWANCE-DOMESTIC> 617
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 394
</TABLE>
