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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the Three Months Ended: Commission File Number:
----------------------------- --------------------------
September 30, 1997 33-27139
FEDERAL TRUST CORPORATION
(Exact name of registrant as specified in its charter)
Florida 59-2935028
---------------------------- ----------------
(State or other jurisdiction (I.R.S. Employer
of incorporation) Identification No.)
1211 Orange Avenue
--------------------------
Winter Park, Florida 32789
(Address of principal executive offices)
----------------------------------------
Registrant's telephone number: (407) 645-1201
FEDTRUST CORPORATION
(Former name of registrant)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such quarterly reports), and (2) has been subject to such
filing requirements for the past 90 days:
YES X NO
----- -----
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the last practicable date:
Common Stock, par value $.01 per share 2,256,505
- ------------------------------------------- ----------------------------------
(class) Outstanding at September 30,1997
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<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements Page
Consolidated Condensed Balance Sheets
September 30, 1997 and December 31, 1996 (unaudited) 3
Consolidated Condensed Statements of Operations for the
Three and Nine months ended September 30, 1997 and 1996 (unaudited) 4
Consolidated Condensed Statements of Cash Flows for the
Nine months ended September 30, 1997 and 1996 (unaudited) 5
Notes to Consolidated Condensed Financial Statements (unaudited) 6-14
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 15-24
PART II. OTHER INFORMATION
Signatures 25
<PAGE>
<TABLE>
<CAPTION>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Condensed Balance Sheets
(Unaudited)
September 30, 1997 December 31, 1996
Assets
<S> <C> <C>
Cash $ 493,278 628,648
Interest bearing deposits 4,809,457 4,837,114
Investment securities available for sale 6,230,828 8,763,641
Investment securities held to maturity 6,344,247 6,290,610
Loans receivable, net (net of allowance for loan losses of
$1,221,784 in 1997 and $1,536,055 in 1996) 113,432,215 112,547,266
Accrued interest receivable - Loans 805,327 833,458
Accrued interest receivable - Securities 94,470 196,171
Notes Receivable 75,000 305,354
Federal Home Loan Bank of Atlanta stock, at cost 1,427,500 1,253,200
Real Estate owned, net 2,325,002 1,508,166
Property and equipment, net 831,516 917,572
Prepaid expenses and other assets 1,924,300 371,161
Deferred income taxes 1,004,116 1,129,696
------------- -----------
Total $ 139,797,256 139,582,057
============= ===========
Liabilities and Stockholders' Equity
Deposit accounts $ 105,971,730 106,119,006
Official Checks 417,512 646,235
Federal Home Loan Bank advances 24,000,000 24,800,000
Advance payments for taxes and insurance 1,315,890 347,774
Accrued expenses and other liabilities 496,503 504,414
------------- -----------
Total Liabilities $ 132,201,635 132,417,429
------------- -----------
Stockholders' equity
Commonstock, $.01 par value,5,000,000 shares authorized
2,256,505 shares issued and outstanding
at September 30, 1997 and December 31, 1996 22,565 22,565
Additional paid-in capital 11,143,659 11,143,659
Accumulated deficit (3,009,750) (3,226,204)
Treasury stock (16,577 shares of common stock, at cost at
September 30, 1997 and December 31, 1996) (76,525) (76,525)
Unrealized loss on investments securities, net (74,482) (210,224)
Unrealized loss on investment securities transferred from
available for sale to held to maturity, net (409,846) (488,643)
------------- -----------
Total Stockholders' Equity $ 7,595,621 7,164,628
------------- -----------
Total Liabilities and Stockholders' Equity $ 139,797,256 139,582,057
============= ===========
See accompanying Notes to Consolidated Condensed Financial Statements
</TABLE>
3
<PAGE>
<TABLE>
<CAPTION>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Consolidated Condensed Statements of Operations
For Three and Nine Months Ended September 30, 1997 and 1996
(Unaudited)
Three Months Nine Months
Ended September 30, Ended September 30,
1997 1996 1997 1996
---- ---- ---- ----
<S> <C> <C> <C> <C>
Interest income:
Loans $2,247,158 2,242,847 $6,863,189 6,815,475
Securities 161,329 182,942 494,778 485,656
Interest-bearing deposits and other 66,968 61,395 162,294 175,581
---------- --------- ---------- ---------
Total interest income 2,475,455 2,487,184 7,520,261 7,476,712
---------- --------- ---------- ---------
Interest expense:
Deposit accounts 1,477,891 1,416,197 4,286,712 4,341,789
Federal Home Loan Bank advances & other
borrowings 338,275 329,130 1,053,438 920,820
---------- --------- ---------- ---------
Total interest expense 1,816,166 1,745,327 5,340,150 5,262,609
---------- --------- ---------- ---------
Net interest income 659,289 741,857 2,180,111 2,214,103
Provision for loan losses 30,000 440,530 67,748 575,096
---------- --------- ---------- ---------
Net interest income after provision 629,289 301,327 2,112,363 1,639,007
---------- --------- ---------- ---------
Other income:
Fees and service charges 26,106 23,233 77,036 76,901
Rents 40,811 -- 110,644 7,706
Gain on sale of assets 230,473 -- 298,657 153,321
Other miscellaneous 61,909 18,110 121,872 55,129
---------- --------- ---------- ---------
Total other income 359,299 41,343 608,209 293,057
---------- --------- ---------- ---------
Other expenses:
Employee compensation & benefits 345,773 288,222 1,006,024 977,926
Occupancy and equipment 131,617 140,830 394,645 625,903
Data processing expense 22,089 20,735 66,618 66,206
Professional fees 79,271 84,398 188,348 342,216
FDIC Insurance 60,513 795,060 184,819 955,010
Other miscellaneous 195,410 164,606 483,364 515,748
---------- --------- ---------- ---------
Total other expense 834,673 1,493,851 2,323,818 3,483,009
---------- --------- ---------- ---------
Net income before income tax 153,915 (1,151,181) 396,754 (1,550,945)
Income tax (benefit) 63,500 (414,425) 180,300 (654,536)
---------- --------- ---------- ---------
Net income $ 90,415 (736,756) $ 216,454 (896,409)
========== ======== ========== ========
Per share amounts:
Earnings per share .04 (0.33) .10 (.40)
Cash dividends per share 0.00 0.00 .00 .00
Weighted average number of shares outstanding 2,256,505 2,256,505 2,256,505 2,256,505
---------- --------- ---------- ---------
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
4
<PAGE>
<TABLE>
<CAPTION>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Consolidated Condensed Statements of Cash Flows
For the Nine Months Ended September 30, 1997 and 1996
(Unaudited)
1997 1996
Cash flows from operating activities:
<S> <C> <C>
Net income (loss) $ 216,454 (896,409)
Adjustments to reconcile net income to net cash flows from operations:
Depreciation & amortization of property & equipment 117,981 297,896
Amort. (net) of premiums, fees & disc. on loans & securities 198,275 26,991
Provision for allowance on real estate owned 72,252 94,861
Provision for loan losses 67,748 554,036
Gain on sale of assets, net (239,533) --
Deferred Income Taxes 125,580 --
Cash provided by (used for) changes in:
Accrued interest receivable 129,832 86,259
Loan sale proceeds receivable -- 37,765
Prepaid expenses & other assets (1,341,013) 449,867
Official checks (228,723) (95,453)
Accrued expenses & other liabilities (7,911) 576,232
------------ --------
Net cash used in operating activities (889,058) 1,132,045
Cash flows from investing activities:
Acquisition of office properties and equipment (13,696) (1,344)
Purchase of Federal Home Loan Bank of Atlanta stock (174,300) --
Proceeds collected from loan sales 2,968,220 4,084,252
Addition to real estate owned (22,695) 1,626,344
Proceeds from sale of real estate owned 1,705,714 --
Principal collected on securities held to maturity 4,880 8,324
Sale of securities available for sale 2,693,363 --
Principal collected on loans 14,432,016 17,967,352
Loans originated or purchased (20,888,311) (23,082,012)
------------ --------
Net cash provided by (used in) investing activities 705,191 602,916
Cash flows from financing activities:
Increase (decrease) in deposits, net (147,276) (4,489,362)
(Increase) Decrease in Federal Home Loan Bank advances (800,000) 4,000,000
Decrease in other borrowings -- (420,000)
Net increase in advance payments by borrowers for taxes & insurance 968,116 956,931
------------ --------
Net cash provided by financing activities 20,840 47,569
Decrease (increase) in cash and cash equivalents (163,027) 1,782,530
Cash and cash equivalents at beginning of period 5,465,762 1,669,761
------------ --------
Cash and cash equivalents at end of period $ 5,302,735 3,452,291
============ =========
</TABLE>
See accompanying Notes to Consolidated Condensed Financial Statements.
5
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
1. General
Federal Trust Corporation ("Company" or "Holding Company") was organized in
February 1989 for the purpose of becoming the unitary savings and loan holding
company for First Coast Savings Bank, F.S.B., a federally-chartered stock
savings bank now known as Federal Trust Bank ("Bank"). The Bank and the Company
are headquartered in Winter Park, Florida. The Company is currently conducting
business as a unitary savings and loan holding company, and its principal asset
is all of the capital stock of the Bank. As a unitary holding company, the
Company has greater flexibility than the Bank to div ersify and expand its
business activities, either through newly formed subsidiaries or through
acquisitions.
The Holding Company's primary investment is the ownership of the Bank. The Bank
is primarily engaged in the business of attracting deposits from the general
public and using these funds with Federal Home Loan Bank ("FHLB") advances to
fund bulk purchases of one-to-four family residential mortgage loans,
residential consumer loans, multi-family loans, and to a lesser extent,
commercial real estate related SBA loans and consumer loans.
Through the first six months of 1996, the Holding Company had been operating two
non-bank subsidiaries, Federal Trust Properties Corp. ("FTPC"), a real estate
holding and development company, organized December 12, 1994, and 1270 Leasing,
Co. ("1270 LC"), a real estate leasing entity organized May 27, 1994, which
leased the Holding Company's former office located in Winter Park, Florida. On
July 1, 1996, the Company sold FTPC to an unaffiliated third party and is
renting the office space previously occupied by the Company to FTPC. On
September 26, 1996, the Company dissolved 1270 LC.
The consolidated condensed balance sheets as of September 30, 1997 and December
31, 1996, and the consolidated condensed statements of operations for the three
and nine month periods ended September 30, 1997 and 1996, and the cash flows for
the nine month periods ended September 30, 1997 and 1996, include the accounts
and operations of the Company and all subsidiaries. All material intercompany
accounts and transactions have been eliminated.
In the opinion of management of the Company, the accompanying consolidated
condensed financial statements contain all adjustments (principally consisting
of normal recurring accruals) necessary to present fairly the financial position
as of September 30, 1997, the results of operations for the three and nine month
periods ended September 30, 1997 and 1996, and cash flows for the nine month
periods ended September 30, 1997 and 1996. The results of operations for the
nine-month period ended September 30, 1997 are not necessarily indicative of the
results to be expected for the full year. These statements should be read in
conjunction with the consolidated financial statements included in the Company's
Annual Report on Form 10 - K for the year ended December 31, 1996.
2. Summary of Significant Accounting Policies
Per Share Amounts:
Earnings per share is computed using the weighted average number of common
shares outstanding during the period.
Real Estate:
Real estate acquired through foreclosure is recorded at the lower of cost
(unpaid loan balance plus foreclosure expenses) or estimated fair value at the
time of acquisition. Subsequently, such real estate is carried at the lower of
cost or fair market value less estimated costs to sell. Fair value is based on
current appraisals reduced by estimated costs to sell.
6
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (unaudited)
3. Loans
The Bank's policy is to classify all loans 90 days or more past due as
non-performing and not accrue interest on these loans and reverse all accrued
and unpaid interest, however, a non-performing loan is not considered impaired
if all amounts due including contractual interest are expected to be co llected.
When the ultimate collectibility of an impaired loan's principal is in doubt,
wholly or partially, all cash receipts are applied to principal. When this doubt
does not exist, cash receipts are applied under the contractual terms of the
loan agreement first to interest income and then to principal. Once the recorded
principal balance has been reduced to zero, future cash receipts are applied to
interest income, to the extent that any interest has been forgone. Further cash
receipts are recorded as recoveries of any amounts previously charged off.
At September 30, 1997, impaired loans amounted to $1.67 million as compared to
$4.47 million at September 30, 1996. Included in the allowance for loan losses
is $437 thousand related to the impaired loans as compared to $934 thousand at
September 30, 1996. The Bank measures impairment on collateralized loans using
the fair value of the collateral, and on unsecured loans using the present value
of expected future cash flows discounted at the loan's effective interest rate.
In the first nine months of 1997, the average recorded investment in impaired
loans was $2.396 million and $13.9 thousand of interest income was recognized on
loans while they were impaired. All of this income was recognized using a cash
basis method of accounting.
4. Allowance for Losses
Allowance for Loan Losses: The following is an analysis of the activity in the
allowance for loan losses for the periods presented:
<TABLE>
<CAPTION>
Three Months Nine Months
Ended September 30, Ended September 30,
------------------- -------------------
1997 1996 1997 1996
---- ---- ---- ----
<S> <C> <C> <C> <C>
Balance at beginning of period $ 1,190,875 1,092,024 1,533,003 2,060,568
Provision for loan losses 30,000 440,530 67,748 554,036
Less Charge-offs (2,158) -- (389,847) (1,088,535)
Plus recoveries 3,067 3,501 10,880 9,986
------------- ----------- ----------- -----------
Balance at end of period $ 1,221,784 1,536,055 1,221,784 1,536,055
============= ========= ========= =========
Loans Outstanding $ 113,432,215 113,115,996 113,432,215 113,115,996
Ratio of charge-offs to Loans Outstanding .002% - 0 -% .34% .96%
Ratio of allowance to Loans Outstanding 1.08% 1.36% 1.08% 1.36%
</TABLE>
A provision for loan losses is generally charged to operations based upon
management's evaluation of the potential losses in its loan portfolio. During
the quarter ended September 30, 1997, management made a provision of $30,000
based on its evaluation of the loan portfolio, as compared to the provision of
$440,530 made in the quarter ended September 30, 1996. The decrease in the
provision was primarily the result of the improving quality in the loan
portfolio.
7
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (unaudited)
5. Supplemental Disclosure of Cash Flow and Non-Cash Investing and Financing
Activities
<TABLE>
<CAPTION>
Nine Months Ended September 30,
1997 1996
---- ----
Cash paid during the period for:
<S> <C> <C>
Interest expense $ 2,554,023 2,588,978
Income taxes $ 10,000 --
Supplemental disclosure of non-cash transactions:
Real Estate Acquired in Settlement of Loans $ 2,389,816 399,392
Market Value adjustment - investment securities
available for sale:
Market value adjustment - investments $ (119,172) (504,874)
Deferred income tax asset $ (44,690) (172,388)
----------- ---------
Unrealized loss on investment securities
available for sale, net $ (74,482) (332,486)
Unrealized loss on investment securities transferred
from available for sale to held to maturity $ (655,753) (727,687)
Deferred income tax asset $ (245,907) (248,466)
----------- ---------
Unrealized loss on investment securities transferred
from available for sale to held to maturity $ (409,846) (479,221)
=========== =========
</TABLE>
6. Real Estate Owned, Net
Real Estate Acquired through Foreclosure, Other Repossessed Assets: The
following is an analysis of the activity in real estate acquired through
foreclosure and other repossessed assets for the periods presented:
<TABLE>
<CAPTION>
Three Months Nine Months
Ended September 30, Ended September 30,
--------------- --- -------------------
1997 1996 1997 1996
---- ---- ---- ----
<S> <C> <C> <C> <C>
Balance at beginning of period $ 3,429,185 1,757,042 1,508,166 3,293,108
Acquired through foreclosure 39,816 71,639 2,389,816 399,392
Add: Capitalized costs -- 13,556 22,695 26,736
Less: Sale of real estate (1,143,999) (201,574) (1,523,423) (2,052,472)
Less: Chargeoffs -- (68,760) (72,252) (94,861)
Less: Allowance for losses -- -- -- --
----------- --------- --------- ---------
Balance at end of period $ 2,325,002 1,571,903 2,325,002 1,571,903
=========== ========= ========= =========
</TABLE>
8
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (unaudited)
7. Investment Securities
At September 30, 1997
Book Value Market Value
Held to maturity:
FHLB Floating Rate Note, 4.873% due 7/30/03 $6,344,247 6,332,813
--------- ---------
Total 6,344,247 6,332,813
========= =========
Available for sale:
FHLB Floating Rate Note, 3.556% due 7/15/98 1,472,344 1,472,344
FHLB Floating Rate Note, 3.556% due 7/15/98 1,472,344 1,472,344
FHLB Floating Rate Note, 3.748% due 7/28/98 3,286,140 3,286,140
--------- ---------
Total $6,230,828 6,230,828
========== =========
The Bank's investment in obligations of U.S. government agencies consists of
dual indexed bonds issued by the Federal Home Loan Bank. At September 30, 1997,
the bonds had a market value of $12,563,641 and gross unrealized pretax losses
of $786,359. The bonds have a par value of $13,350,000 and pay interest based on
the difference between two indices. All of the bonds at September 30, 1997, pay
interest at the 10-year constant maturity treasury ("CMT") rate less the 3 month
or 6 month LIBOR rate plus a contractual amount ranging from 2.3% to 4.0%.
During the quarter ended September 30, 1997, the Bank sold bonds with a par
value of $2,750,000 and realized a pretax loss of $54,844.
8. Advances from Federal Home Loan Bank
The following is an analysis of the advances from the Federal Home Loan Bank:
Amounts Outstanding at September 30, 1997:
Maturity Date Rate Amount Type
------------- ---- ------ ----
10/16/97 5.86% $ 5,000,000 Fixed rate
12/02/97 6.55% 6,500,000 Variable rate
06/30/98 6.00% 5,000,000 Fixed rate
03/04/98 6.02% 2,500,000 Fixed rate
09/15/98 6.12% 5,000,000 Fixed rate
---- ---------
Total 6.15% $24,000,000
==== ===========
Variable rate advances reprice daily and may be repaid at any time without
penalty. Fixed rate advances incur a prepayment penalty if repaid prior to
maturity, and the interest rate is fixed for the term of the advance.
Amounts Outstanding at:
Month-end Rate Amount
--------- ---- ------
7/31/97 6.00% $ 23,500,000
8/31/97 6.00% 22,500,000
9/30/97 6.15% 24,000,000
The maximum amount of borrowings outstanding at any month end during the three
and nine months periods ended September 30, 1997 were $24,000,000, and
$27,300,000, respectively. During the three and nine month periods ended
September 30, 1997, average advances outstanding totaled $22.1 million and $23.3
million, at average rates of 6.11% and 6.03%, respectively.
Advances from the FHLB are collateralized by loans and securities that totaled
approximately $33.4 million and $7.0 million, respectively.
9
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (unaudited)
9. Supervision
The Holding Company and the Bank are subject to extensive regulation,
supervision and examination by the OTS, its primary federal regulator, and by
the FDIC with regard to the insurance of deposit accounts. Such regulation and
supervision establishes a comprehensive framework of activities in which a
savings and loan holding company and its financial institution subsidiaries may
engage and is intended primarily for the protection of the deposit insurance
funds and depositors.
The first significant supervisory concerns regarding the Bank's operation and
underwriting policy were cited by the OTS in the December 1992 examination. In
May 1993, the OTS and the Bank entered into a Supervisory Agreement which was
mainly directed at correcting loan underwriting deficiencies, limiting certain
affiliated party transactions, including taking measures to avoid the appearance
of conflicts of interest in transactions with affiliated persons, amending the
Bank's main office lease with an affiliate to more accurately reflect market
rates, developing plans for the disposition of classified assets, and better
monitoring and documenting of loans to borrowers to ensure compliance with the
Bank's loan-to-one-borrower limits.
In the April 1994 examination, the OTS cited the Holding Company and the Bank
with certain deficiencies, many of which stemmed from transactions and loans
which occurred or were made prior to 1993. Management of the Holding Company and
the Bank consented to the issuance of individual Cease and Des ist Orders,
without admitting or denying that grounds for such Orders existed. The Bank's
Order superseded the 1993 Supervisory Agreement with the OTS.
Under the Holding Company's Order, the Holding Company: (i) cannot request
dividends from the Bank without written permission from the OTS; (ii) must
reimburse the Bank for its expenses; and (iii) must develop a Management
Services Agreement with the Bank which provides for the reimbursement for
employees who work for both the Bank and the Holding Company. The Board must
report to the OTS, on a quarterly basis, regarding the Holding Company's
compliance with the Order.
The Bank's Order provides for the Board of Directors to, among other items: (i)
develop, adopt and adhere to policies and procedures to strengthen the Bank's
underwriting, administration, collection and foreclosure efforts; (ii) review
and revise underwriting policies and procedures to comply with regulatory
requirements; (iii) record minutes of the loan committee and grant loans only
pursuant to procedures that comply with regulatory requirements; (iv) record
minutes of the loan committee and grant loans only on terms approved by the loan
committee; (v) develop and implement a written plan to collect, strengthen and
reduce the risk of loss for all real estate owned and for certain loans at risk
and secured by real estate; (vi) comply with policies and procedures requiring
written inspection of development and construction loans; (vii) pay no more than
market rate, determined by a rent study approved by the OTS, for lease of the
Bank's offices; (viii) make no payment of taxes owed by a person affiliated with
the Bank; (ix) seek a Management Services Agreement for work performed for the
Holding Company by Bank employees; (x) develop and submit for approval a
three-year business plan; (xi) comply with loans to one borrower policy; (xii)
make no capital distribution to the Holding Company without the consent of the
OTS; and (xiii) refrain from purchasing additional dual indexed bonds.
The Orders require the Holding Company and the Bank to establish separate
Compliance Committees. The Compliance Committees meet monthly to review, in
detail, the terms of the Orders to ensure that the respective companies are in
compliance with their Orders. The Bank also contracted with a company
specializing in the review of internal control systems and operating procedures
of financial institutions, including compliance with internal policies and
procedures to ensure that the Bank was in compliance with its Order.
10
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (unaudited)
The last full scope OTS examinations of the Holding Company and the Bank were
completed in September, 1996. The examination of the Bank included a review and
evaluation of capital, asset quality, management, earnings, and
liquidity-asset/liability management. While the examination concluded that there
had been modest improvement in the overall condition of the Bank, the Holding
Company and the Bank needed to establish a plan for raising additional capital
due to the level of classified assets. The OTS noted that while classified
assets had declined 37.0% from the prior examination, classified assets still
represented 6.3% of total assets and continued to have an adverse effect on
earnings and capital. The examination did not disclose any violations of the
Bank's Order, law or regulation. The Board of Directors of the Holding Company
and the Bank authorized management to file wri tten appeals regarding the
respective supervisory ratings and to request that the Bank's Order be lifted in
whole or in part. The OTS Regional Director subsequently advised management that
the OTS had decided to upgrade the Holding Company's supervisory rating. As for
the Bank, the OTS Regional Director noted that there was an overall improvement
in the Bank's operations including underwriting procedures, documentation,
disposition of problem assets, significant reduction in the dependency on
wholesale funds and a continued reduction in operating expenses. As a result,
the OTS reduced the number of provisions in the Bank's Order from 27 to 23.
At the request of management, in July 1997, the OTS conducted an examination of
the Bank's loan portfolio, loan classifications and the allowance for loan loss
reserves. As a result of the examination, the Bank was advised that the OTS will
give serious consideration to eliminating all of the conditions of the Bank's
Order dealing with operational issues, reconsider the Bank's current CAMELS
rating, and lift the Bank's current growth restrictions, provided the Bank
receives a capital infusion of $3.7 million and the full examination now
scheduled for November 1997 does not reveal any material problems. While
management believes that these conditions can be satisfied, no assurance can be
given that the total maximum shares being offered in the current Offering will
be sold or that the OTS will take any of the foregoing actions.
On August 5, 1997, the OTS advised management that it was conducting a Formal
Proceeding with respect to the Bank and its affiliates. Although the OTS has not
informed the Bank of the specific subject of the Formal Proceeding, based upon
management's review of the circumstances surrounding the For9mal Proceeding,
management has no reason to believe that the Bank or any member of current
management is the subject of the Formal Proceeding or will be subject to any
additional enforcement action stemming from the Formal Proceeding. Management
does not know when the Formal Proceeding will be con cluded.
Since the issuance of the 1993 Supervisory Agreement, the overall management
team of the Bank as been strengthened with the hiring of James V. Suskiewich as
the CEO/President in January 1993, the addition of a new CFO, Aubrey H. Wright,
Jr., in June 1993, the reorganization of the Loan Department and the
establishment of improved underwriting systems, coupled with the addition of
Louis E. Laubscher as the new CLO/Senior Problem Asset Officer in March 1995.
This transition carried over to the Holding Company in June 1996, when James
Suskiewich was named President and CEO.
The Board of Directors and management of the Holding Company believe that the
necessary corrective measures are being taken to ensure that the Holding Company
and the Bank are being operated prudently and that the level of classified
assets are being carefully monitored and managed in order to provide for the
steady reduction of classified and non-performing assets. The Board of Directors
of the Holding Company and the Bank are committed to taking the appropriate
steps to have the respective Orders lifted as soon as possible and to assist the
management in its efforts to making the Bank a more traditional financial
institution with consistent core earnings.
10. Stock Options
Stock Option Plan for Directors. On May 5, 1993, the Board of Directors of the
Company approved a Stock Option Plan for Directors ("Stock Plan"). The Stock
Plan provided that a maximum of 176,968 shares of common stock (the "Stock
Options") would be made available to directors and former directors of the
Company. Stock Options were issued on May 6, 1993 to 13 individuals who were at
that time directors or were former directors of the Company. The Stock Options
were for a term of ten (10) years from the date of grant. The Stock Options were
issued at an exercise price of $6.40 per share determined at the time of
issuance to be the fair market value of the underlying Common Stock on the date
the Stock Option was granted. The options held by an active director are
canceled immediately if such director is removed for "cause", as defined in the
Stock Plan.
11
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (unaudited)
On March 7, 1997, the Board of Directors of the Holding Company rescinded the
Stock Plan and the underlying Stock Options were canceled. At the time the Stock
Plan was rescinded, none of the Stock Options had been exercised. The Company
issued no Stock Options or stock appreciation rights as compensation during the
period January 1, 1996 through September 30, 1997.
Stock Options for Stock Sales. In connection with the 1993 Private Placement
Offering and the 1990 Public Offering, the Holding Company issued stock options
to certain sales representatives for their commitment to sell common stock in
the respective offerings. The options have a strike price of $ 10.00 per share
and will expire on October 26, 1999. At September 30, 1997 none of the stock
options for 58,453 shares had been exercised. The stock options have an
anti-dilutive provision which adjusts the strike price in the event of a stock
split or a stock sale wherein the purchase price is l ess than the strike price.
11. Subsequent Events
Rights Offering and County Offering. On July 3, 1997, the Company filed a Form
S-1 Registration Statement with the Securities and Exchange Commission ("SEC")
to offer up to 2,701,619 shares of its common stock, par value $1.00 per share
("Common Stock"), on a priority basis, first to holders of rec ord of its Common
Stock ("Shareholder") at the close of business on March 26, 1997 (the "Record
Date"). The Prospectus was declared effective on October 7, 1997. The Prospectus
and other related Offering documents were first mailed to shareholders on or
about October 10, 1997. According to the terms of the Rights Offering each
shareholder received a nontransferable right to subscribe for and purchase one
additional share of common stock for each whole share of common stock owned on
the Record Date. The Rights Offering terminated at 5:00 p.m. on October 31,
1997, at which time the Company began offering shares not subscribed for in the
Rights Offering to the general public (the "Community Offering"). Keefe,
Bruyette & Woods, Inc., ("KBW"), a registered broker-dealer, has been engaged to
consult with and advise the Company in the Offering. KBW has agreed to use its
best efforts to solicit subscriptions and purchase orders for shares in the
Offering. The Board of Directors of the Holding Company retained RP Financial,
LC. ("RP Financial") a national consulting firm, to provide certain financial
advisory services to the Holding Company in conjunction with the Offering,
including the rendering of an opinion with respect to the fairness of the terms
of the Offering. RP Financial issued its opinion dated October 7, 1997, stating
that the subscription price of $2.00 per share was fair to the Holding Company's
current shareholders from a financial point of view. The price for the shares of
common stock in the Rights and Community Offerings is $2.00 per share, 80% of
the pro forma book value.
Employment Contracts. The Holding Company and the Bank have jointly entered into
employment agreements with two of their executive officers, James V. Suskiewich,
President and Chief Executive Officer, and Aubrey H. Wright, Chief Financial
Officer. The employment agreements, which became effective September 1, 1995,
were amended on August 22, 1997. The employment agreements with Messrs.
Suskiewich and Wright are substantially the same except as noted herein. On
August 22, 1997, the Bank also entered into a Employee Severance Agreement with
Mr. Louis E. Laubscher, its Chief Lending Officer , the material aspects of
which are discussed herein.
Employment Agreements. Messrs. Suskiewich and Wright each are entitled to
receive a base salary, plus reimbursement of reasonable business expenses. The
employment agreements with Messrs. Suskiewich and Wright provide for three-year
terms. Mr. Suskiewich is entitled to a fixed performance bonus equal to 3% of
the Holding Company's quarterly consolidated income before taxes and may be
granted an annual performance bonus which is solely at the discretion of the
Board of Directors, both of which are payable for the duration of his employment
agreement. The 3% fixed performance bonus is paid when the Bank meets the
"Well-Capitalized" definition under OTS regulations and attains quarterly
after-tax earnings of 0.5% or more of the average quarterly assets on an
annualized basis. The fixed performance bonus is paid within 45 days of the end
of a quarter. The Bank is currently considered to be "Adequately Capitalized"
under OTS regulations and does not currently meet the 0.5% after-tax minimum
earnings requirement. For the year ended December 31, 1996, Mr. Suskiewich
received a discretionary performance bonus of $11,000.
12
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (unaudited)
Mr. Wright is entitled to a 1% fixed performance bonus and may be granted an
annual discretionary performance, both of which are payable for the duration of
his employment agreement. The payment of the 1% fixed performance bonus is based
upon the same terms and conditions as provided for Mr. Suskiewich's fixed
performance bonus. For the year ended December 31, 1996, Mr. Wright received a
discretionary performance bonus of $7,500.
Under the employment agreements, the base salary and any bonus is paid by the
Bank. Messrs. Suskiewich and Wright may participate in all employee benefits,
stock option plans, pension plans, insurance plans and other fringe benefits
commensurate with his position. On or before each September 15, the Board of
Directors shall review the employment agreements and the employees' performance
and vote whether to extend the term of the employment agreements for an
additional year. The decision to extend the employment agreements is within the
sole discretion of the Board of Directors.
The employment agreements provide for termination by the Bank for "cause". In
the event the Bank chooses to terminate Messrs. Suskiewich and Wright's
employment for reasons other than for cause, they (or in the event of death,
their respective beneficiaries) would be entitled to a severance payment equal
to the total annual compensation for the remainder of the term of the respective
employment agreement. In the event of a change of control of Holding Company or
the Bank, Mr. Suskiewich will be entitled to a special incentive bonus equal to
three times his annual compensation, times the price/book value ratio at which
Holding Company or the Bank is acquired while Mr. Wright will be entitled to a
special incentive bonus equal to two times his annual compensation then in
effect, times the price/book value ratio at which Holding Company or the Bank is
acquired. For example, if Holding Company was acquired on June 30, 1997, for 1.5
times book value, Mr. Suskiewich would receive $607,500 ($135,000 x 3 x 1.5),
while Mr. Wright would receive $255,000 ($85,000 x 2 x 1.5). The special
incentive bonus is payable by either Holding Company or the Bank.
In the event Messrs. Suskiewich or Wright voluntary terminate their employment
other than for the reasons mentioned herein, all rights and benefits under the
respective employment agreements shall immediately terminate upon the effective
date of termination.
Employee Severance Agreement. On September 8, 1997, the Bank entered into an
employee severance agreement with Louis E. Laubscher. According to the severance
agreement, Mr. Laubscher is entitled to receive a base salary and a
discretionary performance bonus payable annually, plus reimbursement for
reasonable business expenses. The base salary and any discretionary performance
bonus is paid by the Bank. Mr. Laubscher may participate in all employee benefit
plans, stock option plans, and pension plans that are offered to employees of
the Bank. The term of the employee severance agreement is for one year. The
Board of Directors, at their sole discretion, may extend the employee severance
agreement for an additional year. In the event of a change of control, Mr.
Laubscher would be entitled to one year's base salary as his severance payment,
regardless of whether he continues his em ployment with the Bank. Should Mr.
Laubscher be terminated other than for just cause or as a result of a change of
control, Mr. Laubscher would be entitled to a four month's severance payment
based on his base salary at the time of termination. If Mr. Laubscher
voluntarily terminates his employment other than for the reasons previously
described herein, all rights and benefits under the employee severance agreement
shall immediately terminate upon the effective date of termination.
13
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (unaudited)
In August, 1995, management was advised by the Office of Thrift Supervision
("OTS") that the Agency was proceeding with an expanded examination of the
Company. On August 1, 1997 management was advised by the OTS that it had issued
a resolution authorizing a "Formal Examination Proceeding to be Conducted on
Federal Trust Bank and its Affiliates" ("Formal Examination Proceedings"). Based
upon management's independent review of the circumstances surrounding the Formal
Examination Proceeding, management has no reason to believe that the Bank or
current management will be subject to any additional enforcement action stemming
from the Formal Examination Proceeding. Management does not know when the Formal
Examination Proceeding will be concluded.
(THE REMAINDER OF THIS PAGE INTENTIONALLY LEFT BLANK)
14
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operation
Overview
The Company's net earnings were favorably affected by the small decline in
interest rates that occurred during the first half of 1996, due to its negative
GAP position, as its liabilities repriced sooner than, and in greater amounts
than, its assets. As a result, the Bank's cost of funds decreased faster than
the yields earned on its assets, resulting in an increase in its interest rate
spread and higher earnings. During the latter half of 1996 and into 1997 rates
began to rise which had an adverse effect due to the Bank's negative GAP
position, however, the Bank has been able to decrease the amount of its negative
GAP during the past year, which should lessen the adverse impact of higher
rates. The Bank has continued to concentrate on increasing its portfolio of
adjustable rate loans and its efforts to lengthen the maturities of its
liabilities in order to reduce its negative GAP position and the impact of
higher interest rates in the future. The Bank's net interest income has declined
in 1997 as a result of an increase in interest rates, offset partially by a
decrease in the amount of non-earning assets, which has resulted in an increase
in the yield on earning assets since the beginning of the year. Should interest
rates increase further before the Bank is able to further reduce its negative
GAP, the Bank's earnings would be adversely affected.
The Bank has been able to decrease its additions to the loss reserves in 1996
and 1997 as a result of a lower level of non-performing loans. Although
management believes that the level of non-performing assets should continue to
decease in future periods, unforeseen economic conditions and other
circumstances beyond the Bank's control could result in material additions to
the loss reserves in future periods if the level of non-performing assets
increases. The Bank does anticipate additions to the loss reserves in future
periods as part of the normal course of business, as the Bank's assets ,
consisting primarily of loans, are continually evaluated and the loss allowances
are adjusted to reflect the potential losses in the portfolio on an ongoing
basis. During the quarter ended September 30, 1997, the bank did make an
addition to its loan loss reserves based on its evaluation of the loan portfolio
During the quarter ended March 31, 1997, the Bank sold a participation interest
in a loan originated in March, 1996 in conjunction with the sale of a previously
foreclosed property, which resulted in the realization of $122,007 in interest
income and $30,993 in profit that had been deferred since the loan was
originated in 1996 in accordance with Statement of Accounting Standards ("SFAS")
No.66 which requires the income on the loan and profit on the sale be deferred
until such time as the loan balance is reduced to a certain level, in this case
85%, when the buyer does not make a cash down payment. Of the $122,007 in
interest income taken into income on this loan during the quarter ended March
31, 1997, $85,463 was attributable to the year 1996 and $36,544 was attributable
to the quarter ended March 31, 1997.
On March 31, 1997, the Bank reached agreement with a borrower to accept a
deed-in-lieu of foreclosure, which resulted in the property being transferred to
Real Estate Owned at its net book value of $2,350,000, which was subsequently
written down, in the quarter ended June 30, 1997, to its fair value of
$2,340,000. The property consists of 44 unsold condominium units, which have
been, and currently are being rented. After evaluating the units, the Bank began
marketing the units in the second quarter of 1997. As of November 1, 1997, 23
units have been sold and all the remaining units are under contract for sale.
The Bank will continue to rent the majority of the remaining units until the
sales are closed, in order to generate income from the property.
The Company has projected an operating profit for the full year of 1997, as a
result of the decrease in non-performing loans at the Bank, and the reduction in
expenses, resulting from the corporate reorganization of the Company in the
second quarter of 1996. However, should interest rates rise during the remainder
of the year or non-performing assets increase due to unforeseen circumstances,
the Company earnings could be adversely affected.
15
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operation
General
Federal Trust Corporation ("Company" or "Holding Company"), formerly FedTrust
Corporation, was incorporated in August 1988 for the purpose of becoming a
unitary savings and loan holding company for First Coast Savings Bank, F.S.B., a
federally-chartered savings bank now known as Federal Trust Bank. The Holding
Company acquired all outstanding common stock of the Bank on February 28, 1989
pursuant to an agreement and plan of reorganization whereby five shares of the
Company's common stock were exchanged for each four shares of the Bank's common
stock on that date. The Bank is currently the only subsidiary of the Company and
began operations on May 3, 1988.
During the first six months of 1996, the Holding Company operated two non-bank
subsidiaries, Federal Trust Properties Corp. ("FTPC"), a real estate holding and
development company, organized December 12, 1994, and 1270 Leasing Co. ("1270
LC"), a real estate entity organized May 27, 1994, which leased the Holding
Company's former office located in Winter Park, Florida.
FTPC was involved with the development of a HUD insured apartment project, which
during the quarter ended June 30, 1996, had advanced to the stage of applying
for a mortgage insurance commitment. Based on the anticipated cash needs and
continuing overhead for such a project, the Company concluded that it would be
in the best interest of the Company, and its banking subsidiary, to sell FTPC,
in order to focus the Company's efforts and resources on the Bank. On July 1,
1996, the Company sold the stock of FTPC for $425,354 consisting of $60,000 in
cash, a note for $60,000 which was due and paid on August 8, 1996, a note for
$230,354 due upon the earlier of certain events, which was paid on September 1,
1997, and three notes for $25,000 each, due December 31, 1998, 1999 and 2000,
respectively. In addition, the Company is currently renting the quarters it
previously occupied to FTPC on a month to month basis. The Company dissolved
1270 LC on September 26, 1996, as it was no longer necessary to maintain the
entity for purposes of the lease on the office space previously occupied by the
Company.
As a result of the sale of FTPC and the dissolution of 1270 LC, the only
remaining subsidiary of the Company is the Bank. The Company's expenses have
been reduced to minimal levels, as there are no longer any salaried employees in
the Company and its offices have been sublet. Employees of the Bank perform all
necessary functions needed by the Company, and the Company reimburses the Bank
for the time they spend on Company business.
On June 1, 1995, the Company assumed the lease from the Bank on the remote
drive-in facility that had been previously used by the Bank. The annual lease
payment on this facility was $40,063. During the second quarter of 1996, the
Company entered into a contract to sell this facility under the purchase option
in the lease. This was done in order to terminate the remaining lease obligation
which had 16 years remaining. The sale closed in September, 1996.
16
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operation
Asset/Liability Management
The operating results of the Company depend primarily on the Bank's net interest
income, which is the difference between interest income on interest-earning
assets, primarily single-family residential loans, and interest expense on
interest-bearing liabilities, consisting of deposits, FHLB advances , and other
borrowings. Net interest income is determined by (i) the difference between
yields earned on interest-earning assets and rates paid on interest-bearing
liabilities ("interest rate spread") and (ii) the relative amounts of
interest-earning assets and interest-bearing liabilities. The Bank's interest
rate spread is affected by regulatory, economic and competitive factors that
influence interest rates, loan demand and deposit flows. In addition, the
Company's net earnings are also affected by the level of non-performing loans
and real estate owned, as well as the level of its non-interest income,
including loan related fees, and its non-interest expenses, such as salaries and
employee benefits, occupancy and equipment costs and provisions for losses on
real estate owned and income taxes.
The Bank's one year GAP position at June 30, 1997, the most recent report
available, was -17%, as compared to -24% at June 30, 1996. The primary reason
for the decrease in the one year GAP has been the ability of the Bank to extend
the maturities of its liabilities and the sale of a portion of the dual-indexed
bonds from the Bank's investment portfolio during the fourth quarter 1996. In
addition, the Bank sold fixed rate loans during 1997 which it replaced with
adjustable rate loans as part of its efforts to continue improving its GAP
position. As interest rates declined slightly in 1996 , the Bank's net interest
spread improved, and as interest rates rose slightly in 1997 the Bank's net
interest spread decreased only slightly as a result of the increased amount of
adjustable rate loans in the portfolio and the decrease in non-performing loans.
Interest rates have increased slightly since the end of the second quarter of
1997, which should cause the Bank's net interest spread to decrease somewhat, as
the rates paid on its liabilities will rise faster than the rates earned on its
assets, however, should interest rates begin to fall the Bank's net interest
income should be favorably affected as a result of its negative GAP.
In order to minimize the potential for adverse effects of material and prolonged
increases in interest rates on the Company's results of operations, the Bank has
an Interest Rate Risk Management Policy, which is reviewed and approved by the
Board of Directors on an annual basis. The policy provide s (i) for management
to manage the assets and liabilities of the Bank to protect earnings over the
interest rate cycle; (ii) the maximum allowable percentage changes in net
interest income and net portfolio value over eight interest rate scenarios
(+100, +200, +300, +400 and -100, -200, -300, -400 basis points); (iii) for the
Asset/Liability Management Committee ("ALCO"); and (iv) for quarterly reporting
to the Board of Directors. The ALCO monitors the Bank's interest rate risk
position and manages the asset and liability mix in order to better match the
maturities and repricing terms of the Bank's interest-earning assets and
interest-bearing liabilities. Since the latter half of 1993 the ALCO has focused
primarily on (i) emphasizing the origination and purchase of single-family
residential adjustable-rate mortgage loans ("ARMs"); (ii) extending the term of
the Bank's deposits and borrowings; and (iii) maintaining an adequate amount of
liquid assets (cash and interest-earning assets). As a result, the Bank has
continued to originate and purchase ARM loans throughout this period and has
extended deposits and borrowings to longer terms whenever possible through its
pricing practices. While the Bank has had success in these efforts, it has not
been able to achieve a level of success great enough to completely insulate its
net interest rate spread during periods of rising interest rates. Until such
time as the Bank is able to further reduce its negative GAP position, it will be
subject to a declining net interest spread when interest rates are rising.
17
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operation
<TABLE>
<CAPTION>
The following table sets forth information about rates and yields:
Yields and Rates at
September 30, December 31, September 30,
1997 1996 1996
---- ---- ----
<S> <C> <C> <C>
Yields on:
Loan portfolio 8.11% 8.05% 8.38%
Other interest-earning assets 4.59% 4.12% 5.00%
---- ---- ----
Interest-earning assets 7.60% 7.41% 7.87%
Cost of:
Deposits 5.43% 5.41% 5.42%
FHLB advances and other interest-bearing liabilities 6.03% 5.43% 6.00%
---- ---- ----
Interest-bearing liabilities 5.54% 5.42% 5.52%
Interest rate spread 2.06% 1.99% 2.35%
==== ==== ====
</TABLE>
Liquidity and Capital Resources
General
Like other financial institutions, the Bank must ensure that sufficient funds
are available to meet deposit withdrawals, loan commitments, investment needs
and expenses. Control of the Bank's cash flow requires the anticipation of
deposit flows and loan payments. The Bank's primary sources of funds are deposit
accounts, FHLB advances, and principal and interest payments on loans.
The Bank requires funds in the short-term to finance ongoing operating expenses,
pay liquidating deposits, purchase temporary investments in securities and
invest in loans. The Bank funds short-term requirements through short-term
advances from the FHLB, the sale of temporary investments, deposit growth and
loan principal payments. The Bank requires funds in the long-term to invest in
loans for its portfolio, purchase fixed assets and provide for the liquidation
of deposits maturing in the future. The Bank funds its long-term requirements
with proceeds from maturing loans, the sale of loans, the sale of investments
securities available for sale, deposits, long-term advances from the FHLB and
the sale of real estate. Management has no plans to significantly change
long-term funding requirements.
During the nine-month period ended September 30, 1997, the Company used funds
primarily from principal collected on loans, $14,432,016; proceeds from the sale
of real estate owned, $1,705,714; proceeds from loan sales, $2,968,220; proceeds
from the sale of securities available for sale, $2,693,363; advance payments by
borrowers, $968,116; and a decrease in cash, $163,027; to fund the origination
and purchase of loans, $20,888,311; a decrease in FHLB advances, $800,000; a
decrease in net deposits, $147,276; net cash used in operating activities,
$889,058; and the purchase of Federal Home Loan Bank Stock $174,300. As of
September 30, 1997, the Bank had outstanding FHLB advances of $24,000,000.
Management believes that in the future funds will be obtained from the above
sources.
At September 30, 1997, loans-in-process, or closed loans scheduled to be funded
over a future period of time, totaled $1,959,819. Loans committed, but not
closed, totaled $2,254,822 and available lines of credit totaled $298,933.
During the nine-month period ended September 30, 1997, the Bank acquired $11.8
million in primarily domestic residential mortgage loans. The Company
anticipates that other loan acquisitions will occur in the future. Funding for
these amounts is expected to be provided by the sources described above.
18
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operation
The Company last declared a dividend to its stockholders on September 30, 1994,
which was paid on November 14, 1994. As a result of the net losses that were
incurred by the Company in 1995 and 1996, no additional dividends have been
declared. The Board of Directors decided to suspend the payment of dividends for
calendar years 1995 and 1996, and does not anticipate the payment of dividends
during 1997. In addition, although the Company does not require OTS approval for
the granting of dividends, the Bank is prohibited from granting dividends
without OTS approval and Bank does not anticipate the payment of dividends to
the Company for calendar year 1997. The payment of dividends in subsequent years
will depend on general economic conditions, the overall performance of the
Company, and the capital needs of the Company and the Bank.
Liquidity
OTS regulations require the Bank is required to maintain a daily average balance
of liquid assets equal to a specified percentage (currently 5%) of net
withdrawable deposit accounts and borrowings payable in one year or less.
Federal regulations also require that each member institution maintain
short-term liquid assets of at least 1% of its net withdrawable deposit accounts
and borrowings payable in one year or less. Generally, the Bank's management
seeks to maintain its liquid assets at comfortable levels above the minimum
requirements imposed by the OTS. At September 30, 1997, average liquidity was
10.50%.
The Asset/Liability Management Committee of the Bank meets regularly and, in
part, reviews liquidity levels to ensure that funds are available as needed.
Credit Risk
The Bank's primary business is the origination and acquisition of loans to
families and small businesses. This activity entails potential credit losses,
the magnitude of which depends on a variety of economic factors affecting
borrowers which are beyond the control of the Bank. While the Bank has
instituted guidelines and credit review procedures to protect it from avoidable
credit losses, some losses may inevitably occur.
Short-term balloon mortgage loans are sometimes used to allow borrowers the
option of waiting until interest rates are more favorable for a long term fixed
rate loan. If interest rates rise, these loans may require renewals if borrowers
fail to qualify for a long term fixed rate loan at maturity a nd there is no
assurance that a borrower's income will be sufficient to service the renewal.
Management recognizes the risks associated with this type of lending and
believes that the policies and procedures it applies to such loans lowers the
general risk.
Regulatory Enforcement Action
On October 3, 1994, the Holding Company and the Bank each entered into the
Orders with the OTS. The decision by management and the Board of Directors of
both companies to enter into the Orders was reached after several months of
discussions with the OTS following the 1994 safety and soundness examinations.
Although management and the Board of Directors of the Holding Company and the
Bank believed that significant action had been taken to correct operational
deficiencies cited in the Bank's 1992 safety and soundness examination (which
resulted in a Supervisory Agreement between the Bank an d the OTS) and the
deficiencies cited in the 1994 examinations, it was determined that it was in
the best interest of the Holding Company and the Bank to agree to the Orders due
to the increase in the Bank's classified assets and the resulting increase to
the Bank's loan loss reserves. See "Supervision." In the 1996 safety and
soundness examinations of Holding Company and the Bank, the OTS found the
Holding Company and the Bank to be in compliance with their respective Orders.
In light of the improvement of the Bank's operations, the OTS reduced the number
of provisions in the Bank's Orde r from 27 to 23. Failure to comply with the
terms of the Orders could result in further sanctions against Federal Trust or
the Bank, including but not limited to the assessment of civil money penalties.
19
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operation
As a result of certain regulatory restrictions, the Bank is subject to a limited
growth restriction whereby the Bank cannot increase its assets in an amount that
would exceed net interest credited on deposit liabilities (or earnings credited
on share accounts) during a calendar quarter. Until the growth restrictions are
lifted, the Bank cannot implement its growth strategy.
At the request of management, in July 1997, the OTS conducted an examination of
the Bank's loan portfolio, loan classifications and the allowance for loan loss
reserves. As a result of the examination, the Bank was advised that the OTS will
give serious consideration to eliminating all of the conditions of the Bank's
Order dealing with operational issues, reconsider the Bank's current CAMELS
rating, and lift the Bank's current growth restrictions, provided the Bank
receives a capital infusion of $3.7 million and the full examination now
scheduled to begin in November 1997 does not reveal any material problems. If
the total maximum shares are not sold in current Offering, the Holding Company
will not be able to infuse $3.7 million to the Bank, which could limit the
regulatory relief that the OTS may be willing to provide the Bank. While
management believes that these conditions can be satisfied, no assurance can be
given that the total maximum will be sold or that the OTS will take the
foregoing actions.
On August 5, 1997, the OTS advised management that it was conducting Formal
Proceeding with respect to the Bank and its affiliates. Although the OTS has not
informed the Bank of the specific subject of the Formal Proceeding, based upon
management's review of the circumstances surrounding the Formal Proceeding,
management has no reason to believe that the Bank or any member of current
management is the subject of the Formal Proceeding or will be subject to any
additional enforcement action stemming from the Formal Proceeding. Management
does not know when the Formal Proceeding will be concl uded.
Capital Requirements
The Bank is required to meet certain minimum regulatory capital requirements.
The following table presents a summary of the capital requirements for
adequately capitalized banks, the Bank's capital and the amounts in excess as of
September 30, 1997:
<TABLE>
<CAPTION>
At September 30, 1997
---------------------
Tangible Core Risk-Based
-------- ---- ----------
(Dollars in Thousands)
Percent Percent Percent
Amount of Assets Amount of Assets Amount of Assets
------ --------- ------ --------- ------ ---------
<S> <C> <C> <C> <C> <C> <C>
Regulatory Capital $7,030 5.05% $7,030 5.05% $7,992 10.14%
Requirement 2,089 1.50% 4,177 3.00% 6,303 8.00%
----- ---- ----- ---- ----- ----
Excess $4,941 3.55% $2,853 2.05% $1,689 2.14%
====== ==== ====== ==== ====== ====
</TABLE>
20
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operation
Impact of Inflation and Changing Prices
The financial statements and related data presented herein have been prepared in
accordance with Generally Accepted Accounting Principles ("GAAP"), which require
the measurement of financial position and operating results in terms of
historical dollars, without considering changes in the relative purchasing power
of money over time due to inflation. Unlike most industrial companies,
substantially all of the assets and liabilities of the Company are monetary in
nature. As a result, interest rates have a more significant impact on the
Company's performance than the effects of general levels of inflation. Interest
rates do not necessarily move in the same direction or in the same magnitude as
the prices of goods and services, since such prices are affected by inflation to
a larger extent than interest rates.
Impact of Accounting Requirements
In June 1996, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards No. 125, "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities." SFAS 125
provides accounting and reporting standards for transfers and servicing of
financial assets and extinguishments of liabilities. Those standards are based
on consistent application of a financial-components approach that focuses on
control. Under that approach, after a transfer of financial assets, an entity
recognizes the financial and servicing assets it controls and the liabilities it
has incurred, derecognizes financial assets when control has been surrendered,
and derecognizes liabilities when extinguished. SFAS 125 is effective for
transfers and servicing of financial assets and extinguishments of liabilities
occurring after December 31, 1996, and is to be applied prospectively. There was
no impact on its operations or financial position from the implementation of
SFAS 125, as amended.
In February 1997, the FASB issued Statement of Accounting Standards No. 128,
"Earnings Per Share." SFAS 128 establishes new standards for computing and
presenting earnings per share (EPS) and applies to entities with publicly held
common stock. In effect, this statement simplifies the standards for computing
EPS previously addressed in APB Opinion No. 15, "Earnings Per Share," by making
them comparable to international EPS standards. SFAS 128 replaces the
presentation of primary EPS with a presentation of basic EPS and it also
requires dual presentation of basic and diluted EPS on the face of the income
statement for all public entities with complex capital structures. In addition,
the statement requires a reconciliation of the numerator and denominator used to
compute basic EPS. SFAS 128 supersedes APB Opinion No. 15 and the AICPA
Interpretations thereon and is effective for financial statements issued for
periods ending after December 15, 1997. The standard also requires the
restatement of all prior-period EPS data presented in the financial statements.
The Company had not adopted the disclosure requirements of this standard in its
December 31, 1996 consolidated financial statements and does not anticipate a
material impact on its operations or financial position from its implementation
during the fiscal year ending December 31, 1997. However, had the Company
adopted the provisions of SFAS 128, there would have been no impact on the
earnings per share informati on presented.
In June 1997 the FASB issued Statement of Financial Accounting Standards No.
130, "Reporting Comprehensive Income." This statement establishes standards for
reporting and display of comprehensive income and its components (revenues,
expenses, gains, and losses) in a full set of general-purpose financial
statements. This statement requires that all items that are required to be
recognized under accounting standards as components of comprehensive income be
reported in a financial statement that is displayed with the same prominence as
other financial statements. The statement also requires that an enterprise (a)
classify items of other comprehensive income by their nature in a financial
statement and (b) display the accumulated balance of other income separately
from retained earnings and additional paid-in capital in the equity section of a
statement of financial position. The statement is required for fiscal years
beginning after December 15, 1997. The adoption of this standard will require
the Company to disclose as a component of comprehensive income the activity in
its unrealized gain or loss on investment securities available for sale.
21
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operation
In June 1997 the FASB issued Statement of Financial Accounting Standards No.
131, "Disclosures about Segments of an Enterprise and Related Information." This
statement establishes standards for the way that public business enterprises
report information about operating segments in annual financial statements and
requires that those enterprises report selected information about operating
segments in interim financial reports issued to shareholders. The statement is
required for fiscal years beginning after December 15, 1997. The Company does
not anticipate adoption of this standard will ha ve a significant impact on its
consolidated financial statements upon adoption.
Results of Operations
Comparison of the Three-Month Periods Ended September 30, 1997 and 1996
General. The Company had a net profit for the three-month period ended September
30, 1997 of $90,415 or $.04 per share, compared to a net loss of $736,756 or
$.33 per share for the same period in 1996. The increase in the net profit was
due primarily to the reduction in provision for losses, increased other income,
and the reduction of other expenses, primarily as a result of the one time
special assessment by the FDIC on SAIF deposits in 1996, offset partially by
decreased net interest income.
Interest Income and Expense. Interest income decreased by $11,729 to $2,475,455
for the three-month period ended September 30, 1997 from $2,487,184 for the same
period in 1996. Interest income on loans increased to $2,247,158 in 1997 from
$2,242,847 in 1996, primarily as a result of a decrease in the average amount of
non-earning loans outstanding. Interest income on the securities portfolio
decreased by $21,613 for the three-month period ended September 30, 1997 over
the same period in 1996, as a result of a decrease in the average yield on
securities held. Other interest and dividends increased $5,573 during the same
three-month period in 1997 from 1996 as a result of an increase in the average
volume of other interest-bearing assets. Management expects the rates earned on
the portfolio to fluctuate with general market conditions.
Interest expense increased to $1,816,166 during the three-month period ended
September 30, 1997 from $1,745,327 for the same period in 1996 due to an
increase in the amount of such deposits and FHLB advances and an increase in the
rates paid. Interest on deposits increased to $1,477,891 in 1997 from $1,416,197
in 1996 as a result of an increase in the rates paid on deposits, and interest
on FHLB Advances increased to $338,275 in 1997 from $329,130 in 1996 as a result
of the increase in the average amount of advances outstanding and an increase in
the rates paid on advances. Management expects to continue to use FHLB advances
as a liability management tool.
Provisions for Loan Losses. A provision for loan losses is generally charged to
operations based upon management's evaluation of the potential losses in its
loan portfolio. During the quarter, management made a provision for loan losses
of $30,000 based on its evaluation of the loan portfolio, which was a decrease
of $410,530 from the same period in 1996, when the Bank made a provision for
loan losses $440,530, There were net recoveries of $909 during the three-month
period ended September 30, 1997 as compared to net recoveries of $3,501 during
the three-month period ended September 30, 1996. Total non-performing loans at
September 30, 1997 were $2,252,608 compared to $1,618,075 at September 30, 1996.
The allowance for loan losses at September 30, 1997 was $1,221,784 or 54% of
non-performing loans and 1.08% of net loans outstanding, versus $1,536,055 at
September 30, 1996 or 95% of non-performing loans and 1.36% of net loans
outstanding.
22
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operation
Total Other Income. Other income increased from $41,342 for the three-month
period ended September 30, 1996 to $359,299 for the same period in 1997. The
increase in other income was due to an increase of $230,473 in gains on the sale
of assets, an increase of $40,811 in rental income, an increase of $43,799 in
other miscellaneous income, and an increase in fees and service charges of
$2,873. Rental income increased as a result of an increase in the amount of
income producing repossessed properties at the Bank and a previously foreclosed
property beginning to generate rental income. Other miscellaneous income
increased for the three-month period ended September 30, 1997 due primarily to
increased other loan income, and gains on the sale of assets increased as a
result of gains on the sale of REO by the Bank. Fees and service charges
increased primarily because of an increase in the fees and charges earned by the
Bank on deposit accounts.
Total Other Expense. Other expense decreased to $834,673 for the three-month
period ended September 30, 1997 from $1,493,851 for the same period in 1996. The
decrease in 1997 was primarily the result of the one time special assessment in
1996 by the FDIC on SAIF deposits which amounted to $716,498. Compensation and
benefits increased to $345,773 in 1997 from $288,222 in 1996 as a result of an
increase in staff and the implementation of a 401k savings plan for the staff.
Professional fees decreased by $5,127 primarily as a result of decreased legal
costs associated with non-performing loans. Other miscellaneous expense
increased by $30,804 due to losses on the sale of REO and investments. Occupancy
and equipment expense decreased by $9,213 in 1997 to $131,617 due to decreases
in various office building expenses. FDIC Insurance expense decreased by
$734,547 as a result of the one time special assessment in 1996 by the FDIC and
the reduction in the premium rate charged by the FDIC. Data Processing expense
increased by $1,354 due to an increase in the number of accounts at the Bank.
Management expects professional fees and other miscellaneous expenses to
decrease further as non-performing loans are resolved and repossessed assets are
disposed of.
Comparison of the Nine-Month Period Ended September 30, 1997 and 1996
General. The Company had a net profit for the nine-month period ended September
30, 1997 of $216,454 or $.10 per share, compared to net loss of $896,409 or $.40
per share for the same period in 1996. The decrease in the net loss was due
primarily to the decrease in provision for loan losses, increased other income
and decreased other expense, primarily as a result of the one time special
assessment by the FDIC on SAIF deposits in 1996, offset partially by decreased
net interest income.
Interest Income and Expense. Interest income increased to $7,520,261 for the
nine-month period ended September 30, 1997 from $7,476,712 for the same period
in 1996. Interest income on loans increased to $6,863,189 in 1997 from
$6,815,475 in 1996, primarily as a result of an increase in the yield on loans
outstanding, which was attributable to interest income received on a loan
originated in 1996 which was deferred in accordance with SFAS No. 66 which
required the income to be deferred until such time as the loan balance was
reduced to 85% of the original loan amount since the borrower did not make a
cash downpayment. Interest income on the securities portfolio increased by
$9,122 for the nine-month period ended September 30, 1997 over the same period
in 1996, as a result of an increase in the yield on securities owned. Other
interest and dividends decreased $13,287 during the same nine-month period in
1997 from 1996 as a result of a decrease in the average volume of other
interest-bearing assets. Management expects the rates earned on the portfolio to
fluctuate with general market conditions.
Interest expense increased by $77,541 to $5,340,150 during the nine-month period
ended September 30,1997 from $5,262,609 for the same period in 1996 due to an
increase in the total average amount of FHLB advances outstanding and an
increase in the rates paid on advances, offset partially by a decrease in
interest bearing deposits. Interest on deposits decreased to $4,286,712 in 1997
from $4,341,789 in 1996 as a result of decreased deposits and a decrease in the
average rate paid, and interest on FHLB Advances increased to $1,053,438 in 1997
from $920,820 in 1996 as a result of an increase in the average amount of, and
an increase in the rates paid on, advances.
23
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operation
Provisions for Loan Losses. A provision for loan losses is generally charged to
operations based upon management's evaluation of the potential losses in its
loan portfolio. During the first nine months of 1997 management did make a
provision for loan losses of $67,748 based on its evaluation of the loan
portfolio. The Bank's total provision for loan losses was $575,096 during the
same period in 1996. Net charge-offs on loans totaled $378,967 during the
nine-month period ended September 30, 1997 and $1,078,549 during the nine-month
period ended September 30,1996. Total non-performing loans at September 30, 1997
were $2,252,608 compared to $1,618,075 at September 30, 1996. The allowance for
loan losses at September 30, 1997 was $1,221,784 or 54% of non-performing loans
and 1.08% of net loans outstanding.
Total Other Income. Other income increased from $293,057 for the nine-month
period ended September 30, 1996 to $608,209 for the same period in 1997. The
increase in other income was due to a $145,336 increase in gains on the sale of
assets, an increase of $135 in fees and services charges, an increase in rental
income of $102,938 and an increase in other miscellaneous income of $66,743.
Gains on the sale of assets increased as a result of more asset sales, primarily
REO, and fees and service charges increased primarily because of an increase in
the fees and charges earned by the Bank on deposit accounts. Rental income
increased as a result of an increase in the amount of income producing
repossessed properties at the Bank and a previously foreclosed property
beginning to generate rental income. Other miscellaneous income increased for
the nine-month period ended September 30, 1997 due primarily to increased loan
servicing fees and increased other loan income.
Total Other Expense. Other expense decreased to $2,323,818 for the nine-month
period ended September 30, 1997 from $3,483,009 for the same period in 1996. The
decrease in 1997 was the result of decreased occupancy and equipment expense,
decreased professional fees, decreased FDIC insurance expense and decreased
miscellaneous expense, offset partially by increased employee compensation and
benefit expense, and increased data processing expense. Compensation and
benefits increased to $1,006,024 in 1997 from $977,926 in 1996 as a result of
increased staff and the implementation of a 401k plan for the staff. Occupancy
and equipment expense decreased by $231,258 in 1997 to $394,645 due to the one
time charge, totaling $149,567, taken in 1996 to writeoff the leasehold
improvements at the Company's office in the amount of $114,646, and to writeoff
the leasehold improvements at the closed drive-in facility in the amount of
$34,921. The remainder of the decrease in occupancy and equipment expense was
the result of reduced rental expense, resulting from the sale of the drive-in
facility which was previously rented, and the subletting of the Company's former
office. Data processing expense increased by $412 as a result of an increase in
the charges from the service bureau that process customer accounts at the bank.
Professional fees decreased by $153,868 primarily as a result of decreased legal
costs associated with non-performing loans. FDIC Insurance expense decreased by
$770,191 as a result of the one time special assessment in 1996 by the FDIC and
the reduction in the premium rate charged by the FDIC. Other miscellaneous
expense decreased by $32,384 primarily due to reduced costs associated with
repossessed assets.
24
<PAGE>
FEDERAL TRUST CORPORATION AND SUBSIDIARIES
PART II. OTHER INFORMATION
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused the report to be signed on its behalf by the
undersigned thereunto duly authorized.
FEDERAL TRUST CORPORATION
(Registrant)
Date: November 12 , 1997 By: /s/ Aubrey H. Wright, Jr.
- ---------------------------- ----------------------------------------
Aubrey H. Wright, Jr.
Chief Financial Officer and
duly authorized
Officer of the Registrant
25
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEETS AND CONSOLIDATED STATEMENTS OF OPERATIONS FOUND ON
PAGES 2 AND 3 OF THE COMPANY'S FORM 10-Q FOR THE YEAR TO DATE.
</LEGEND>
<MULTIPLIER> 1,000
<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> SEP-30-1997
<EXCHANGE-RATE> 1
<CASH> 493
<INT-BEARING-DEPOSITS> 4,809
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 6,231
<INVESTMENTS-CARRYING> 6,344
<INVESTMENTS-MARKET> 6,333
<LOANS> 113,432
<ALLOWANCE> 1,222
<TOTAL-ASSETS> 139,797
<DEPOSITS> 105,972
<SHORT-TERM> 24,000
<LIABILITIES-OTHER> 2,230
<LONG-TERM> 0
0
0
<COMMON> 23
<OTHER-SE> 7,573
<TOTAL-LIABILITIES-AND-EQUITY> 139,797
<INTEREST-LOAN> 2,247
<INTEREST-INVEST> 161
<INTEREST-OTHER> 67
<INTEREST-TOTAL> 2,475
<INTEREST-DEPOSIT> 1,478
<INTEREST-EXPENSE> 338
<INTEREST-INCOME-NET> 659
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<EXPENSE-OTHER> 835
<INCOME-PRETAX> 154
<INCOME-PRE-EXTRAORDINARY> 154
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 90
<EPS-PRIMARY> 0.04
<EPS-DILUTED> 0.04
<YIELD-ACTUAL> 7.60
<LOANS-NON> 2,252
<LOANS-PAST> 0
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<LOANS-PROBLEM> 5,627
<ALLOWANCE-OPEN> 1,191
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</TABLE>
