<PAGE> 1
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1997
Commission File No. 0-20144
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TOWNE FINANCIAL CORPORATION
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(Exact Name of Registrant as specified in its charter)
OHIO 31-1334563
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(State or other (I.R.S. Employer
jurisdiction of Identification
of incorporation Number)
or organization)
4811 COOPER ROAD
BLUE ASH, OHIO 45242
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(Address of principal (Zip Code)
executive office)
Registrant's telephone number, including area code: (513) 791-1870
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
----- -----
As of November 3, 1997, the latest practicable date, 208,500 shares of the
registrant's common shares, $1.00 par value, were issued and outstanding.
Transitional Small Business Disclosure Format: Yes No X
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Page 1 of 38
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TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
INDEX
PAGE
----
PART I - FINANCIAL INFORMATION
Consolidated Statements of Financial 3
Condition
Consolidated Statements of Operations 5
Consolidated Statements of Cash Flows 7
Notes to Consolidated Financial Statements 10
Management's Discussion and Analysis 15
of Financial Condition and Results of
Operations
PART II - OTHER INFORMATION 36
SIGNATURES 38
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TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(In thousands, except share data)
<TABLE>
<CAPTION>
SEPTEMBER 30, JUNE 30,
ASSETS 1997 1997
------------- ----------
<S> <C> <C>
Cash and due from banks $ 1,478 $ 2,310
Federal funds sold 600 200
Interest-bearing deposits in other financial
institutions 159 205
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Cash and cash equivalents 2,237 2,715
Certificates of deposit in other financial
institutions 467 466
Investment securities held to maturity - at
amortized cost, approximate market value of
$1,953 and $1,399 at September 30, 1997 and
June 30, 1997 1,948 1,399
Mortgage-backed securities designated as
available for sale - at market, amortized cost
of $15,183 and $15,538 at September 30, 1997
and June 30, 1997 14,906 15,269
Mortgage-backed securities held to maturity - at
amortized cost, approximate market value of
$11,568 and $11,267 at September 30, 1997 and
June 30, 1997 11,765 11,463
Loans receivable - net 72,512 66,817
Office premises and equipment - at depreciated
cost 2,301 2,335
Federal Home Loan Bank stock - at cost 755 742
Accrued interest receivable on loans 601 562
Accrued interest receivable on mortgage-backed
securities 165 166
Accrued interest receivable on investments and
interest-bearing deposits 43 31
Goodwill - net of accumulated amortization 359 367
Prepaid expenses and other assets 241 226
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TOTAL ASSETS $108,300 $102,558
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</TABLE>
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TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (CONTINUED)
(In thousands, except share data)
<TABLE>
<CAPTION>
SEPTEMBER 30, JUNE 30,
LIABILITIES AND SHAREHOLDERS' EQUITY 1997 1997
------------- ----------
<S> <C> <C>
Deposits $ 87,227 $ 81,794
Advances from the Federal Home Loan Bank 12,000 12,000
Loan of Employee Stock Ownership Plan 60 60
Advances by borrowers for taxes and insurance 333 260
Accounts payable on mortgage loans serviced for
others 311 368
Accrued interest payable 37 28
Other liabilities 181 138
Accrued federal income taxes 86 9
Deferred Federal income taxes 267 263
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Total liabilities 100,502 94,920
Commitments - -
Shareholders' equity
Preferred shares - 250,000 shares of $1.00
par value authorized; no shares issued
and outstanding - -
Common shares - 2,250,000 shares of $1.00
par value authorized; 208,500 shares issued
and outstanding at September 30, 1997 and
June 30, 1997 209 209
Additional paid-in capital 1,680 1,680
Retained earnings - substantially restricted 6,152 5,987
Less required contributions for shares acquired
by Employee Stock Ownership Plan (ESOP) (60) (60)
Unrealized losses on securities designated as
available for sale - net of related tax effects (183) (178)
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Total shareholders' equity 7,798 7,638
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TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $108,300 $102,558
======= =======
</TABLE>
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<PAGE> 5
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
For the three months ended September 30,
(In thousands, except per share data)
<TABLE>
<CAPTION>
1997 1996
---- ----
<S> <C> <C>
Interest income
Loans $1,511 $1,217
Mortgage-backed securities 428 446
Investment securities 29 24
Interest-bearing deposits and other 51 27
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Total interest income 2,019 1,714
Interest expense
Deposits 1,104 934
Borrowings 185 145
----- -----
Total interest expense 1,289 1,079
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Net interest income 730 635
Provision for losses on loans 6 5
----- -----
Net interest income after provision
for losses on loans 724 630
Other income
Loan servicing fees 24 28
Gain on sale of mortgage loans 22 29
Gain on sale of mortgage-backed securities 7 -
Service fees, charges and other operating 12 11
----- -----
Total other income 65 68
General, administrative and other expense
Employee compensation and benefits 268 240
Occupancy and equipment 92 85
Data processing 26 25
Federal deposit insurance premiums 12 409
Franchise taxes 24 23
Advertising 23 21
Amortization of goodwill 8 10
Other operating 51 51
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Total general, administrative and
other expense 504 864
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Earnings (loss) before income taxes
(subtotal carried forward) 285 (166)
</TABLE>
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TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS (CONTINUED)
For the three months ended September 30,
(In thousands, except per share data)
<TABLE>
<CAPTION>
1997 1996
---- ----
<S> <C> <C>
Earnings (loss) before income taxes
(subtotal carried forward) $ 285 $ (166)
Federal income taxes (credits)
Current 92 (85)
Deferred 7 31
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Total federal income taxes (credits) 99 (54)
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NET EARNINGS(LOSS) $ 186 $ (112)
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EARNINGS (LOSS) PER SHARE:
On common and common equivalent shares $ .85 $ (.52)
===== =====
On a fully diluted basis $ .85 $ (.52)
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</TABLE>
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<PAGE> 7
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the three months ended September 30,
(In thousands)
<TABLE>
<CAPTION>
1997 1996
---- ----
<S> <C> <C>
Cash flows provided by (used in) operating activities:
Net earnings for the period $ 186 $ (112)
Adjustments to reconcile net earnings to
net cash provided by (used in) operating
activities:
Amortization of premiums and accretion of
discounts on investment securities, net 1 -
Amortization of premiums and accretion of
discounts on mortgage-backed securities, net (1) 6
Gain on sale of mortgage-backed securities (7) -
Provision for losses on loans 6 5
Gain on sale of mortgage loans (5) (24)
Amortization of deferred loan origination fees (8) (10)
Loans originated for sale in the secondary market (1,196) (529)
Proceeds from sale of loans in the secondary
market 1,327 388
Depreciation and amortization 40 37
Federal Home Loan Bank stock dividends (13) (12)
Amortization of goodwill 8 10
Increases (decreases) in cash due to changes in:
Accrued interest receivable on loans (39) (42)
Accrued interest receivable on mortgage-backed
securities 1 1
Accrued interest receivable on investments
and interest-bearing deposits (12) (3)
Prepaid expenses and other assets (15) 12
Accrued interest payable 9 4
Other liabilities 43 385
Federal income taxes
Current 77 (85)
Deferred 7 31
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Net cash provided by operating activities 409 62
</TABLE>
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<PAGE> 8
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
For the three months ended September 30,
(In thousands)
<TABLE>
<CAPTION>
1997 1996
---- ----
<S> <C> <C>
Cash flows provided by (used in) investing activities:
Proceeds from maturities of investment securities
held to maturity $ - $ 110
Proceeds from called investment securities held
to maturity 100 -
Purchase of investment securities held to maturity (650) (110)
Proceeds from sale of mortgage-backed securities
designated as available for sale 279 -
Purchase of mortgage-backed securities designated as
available for sale - (608)
Purchase of mortgage-backed securities held to
maturity (511) -
Principal repayments on mortgage-backed securities
designated as:
Available for sale 87 160
Held to maturity 206 244
Purchase of loans (90) (40)
Loan disbursements (10,146) (6,779)
Loan principal repayments 4,417 2,991
Purchase of office premises and equipment (6) (9)
Increase in certificates of deposit in other
financial institutions - net (1) -
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Net cash used in investing activities (6,315) (4,041)
Cash flows provided by (used in) financing activities:
Issuance of and credits to deposit accounts 23,793 19,710
Withdrawals from deposit accounts (18,360) (19,068)
Proceeds from Federal Home Loan Bank advances 800 1,600
Repayments of Federal Home Loan Bank advances (800) -
Advances by borrowers for taxes and insurance 73 66
Accounts payable on mortgage loans serviced for
others (57) 1
Dividends paid on common shares (21) -
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Net cash provided by financing activities 5,428 2,309
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Net decrease in cash and cash equivalents (478) (1,670)
Cash and cash equivalents at beginning of period 2,715 3,611
------- -------
Cash and cash equivalents at end of period $ 2,237 $ 1,941
======= =======
</TABLE>
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TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
For the three months ended September 30,
(In thousands)
<TABLE>
<CAPTION>
1997 1996
---- ----
<S> <C> <C>
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Federal income taxes $ 15 $ -
====== ======
Interest on deposits and borrowings $ 1,280 $ 1,075
====== ======
Supplemental disclosure of noncash investing activities:
Transfers from loans receivable to real estate
acquired through foreclosure $ - $ 108
====== ======
Transfers of loans from held for investment
classification to held for sale $ 126 $ 59
====== ======
Recognition of mortgage servicing rights in
accordance with Statement of Financial Accounting
Standards No. 122 $ 17 $ 5
====== ======
Unrealized losses on securities designated
as available for sale - net of related
tax effects $ 5 $ 14
====== ======
</TABLE>
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<PAGE> 10
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the three month periods ended September 30, 1997 and 1996
Towne Financial Corporation ("Towne Financial", or the "Corporation")
conducts a general banking business in southwestern Ohio which consists of
attracting deposits from the general public and applying those funds to the
origination of loans for residential, consumer and nonresidential purposes. The
Corporation's profitability is significantly dependent on its net interest
income, which is the difference between interest income generated from
interest-earning assets (i.e. loans and investments) and the interest paid on
interest-bearing liabilities (i.e. customer deposits and borrowed funds). Net
interest income is affected by the relative amount of interest-earning assets
and interest-bearing liabilities and the interest received or paid on these
balances. The level of interest rates paid or received by the Corporation can be
significantly influenced by a number of environmental factors, such as
governmental monetary policy, that are outside of management's control.
1. Basis of Presentation
---------------------
The accompanying unaudited consolidated financial statements were
prepared in accordance with instructions for Form 10-QSB and, therefore, do not
include information or footnotes necessary for a complete presentation of
financial position, results of operations and cash flows in conformity with
generally accepted accounting principles. However, all adjustments (consisting
of only normal recurring accruals) which, in the opinion of management, are
necessary for a fair presentation of the consolidated financial statements have
been included. The results of operations for the three month periods ended
September 30, 1997 and 1996 are not necessarily indicative of the results which
may be expected for an entire fiscal year.
2. Principles of Consolidation
---------------------------
Towne Financial is a unitary savings and loan holding company. Since
the date of its incorporation, Towne Financial's activities have been limited
primarily to holding the common stock of its wholly-owned subsidiary, The Blue
Ash Building and Loan Company ("Blue Ash", or the "Company").
The accompanying consolidated financial statements include the accounts
of Towne Financial and Blue Ash. Future references to Towne Financial or Blue
Ash are utilized herein as the context
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TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
For the three month periods ended September 30, 1997 and 1996
2. Principles of Consolidation (continued)
---------------------------
requires. All significant intercompany balances and transactions have been
eliminated in the accompanying consolidated financial statements.
3. Effects of Recent Accounting Pronouncements
-------------------------------------------
In June 1996, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 125, "Accounting for
Transfers of Financial Assets, Servicing Rights and Extinguishment of
Liabilities," that provides accounting guidance on transfers of financial
assets, servicing of financial assets and extinguishment of liabilities. SFAS
No. 125 introduces an approach to accounting for transfers of financial assets
that provides a means of dealing with more complex transactions in which the
seller disposes of only a partial interest in the assets, retains rights or
obligations, makes use of special purpose entities in the transaction, or
otherwise has continuing involvement with the transferred assets. The new
accounting method, referred to as the financial components approach, provides
that the carrying amount of the financial assets transferred be allocated to
components of the transaction based on their relative fair values. SFAS No. 125
provides criteria for determining whether control of assets has been
relinquished and whether a sale has occurred. If the transfer does not qualify
as a sale, it is accounted for as a secured borrowing. Transactions subject to
the provisions of SFAS No. 125 include, among others, transfers involving
repurchase agreements, securitizations of financial assets, loan participations,
factoring arrangements and transfers of receivables with recourse. An
institution that undertakes an obligation to service financial assets recognizes
either a servicing asset or liability for the servicing contract (unless related
to a securitization of assets, and all the securitized assets are retained and
classified as held to maturity). A servicing asset or liability that is
purchased or assumed is initially recognized at its fair value. Servicing assets
and liabilities are amortized in proportion to and over the period of estimated
net servicing income or net servicing loss and are subject to subsequent
assessments for impairment based on fair value. SFAS No. 125 provides that a
liability is removed from the
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TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
For the three month periods ended September 30, 1997 and 1996
3. Effects of Recent Accounting Pronouncements (continued)
-------------------------------------------
balance sheet only if the debtor either pays the creditor and is relieved of its
obligations for the liability or is legally released from being the primary
obligor. SFAS No. 125 supersedes SFAS No. 122 and is effective for transfers and
servicing of financial assets and extinguishment of liabilities occurring after
December 31, 1997, and is to be applied prospectively. Earlier or retroactive
application is not permitted. Management does not believe that the adoption of
SFAS No. 125 will have a material adverse effect on Towne Financial's
consolidated financial position or results of operations.
In February 1997, the FASB issued SFAS No. 128, "Earnings Per Share,"
which requires institutions to present basic earnings per share and, if
applicable, diluted earnings per share, respectively. Basic earnings per share
is computed without including potential common shares, i.e., no dilutive effect.
Diluted earnings per share is computed taking into consideration common shares
outstanding and dilutive potential common shares, including options, warrants,
convertible securities and contingent stock agreements. SFAS No. 128, which
supersedes Accounting Principles Board ("APB") Opinion No. 15, is effective for
interim and annual periods ending after December 15, 1997, and prior period
earnings per share disclosures presented for comparative purposes (including
those in interim financial statements, summaries of earnings and selected
financial data) should be restated. Early application of SFAS No. 128 is not
permitted, although institutions may disclose pro forma earnings per share
amounts computed using SFAS No. 128 in financial statement notes in periods
before the effective date. Based upon the provisions of SFAS No. 128, Towne
Financial's basic and diluted earnings per share would have been $.89 and $.85,
respectively, for the three months ended September 30, 1997. Additionally, Towne
Financial's basic and diluted loss per share would have been $.54 and $.52,
respectively, for the three months ended September 30, 1996.
Simultaneously with the issuance of SFAS No. 128, the FASB issued SFAS
No. 129, "Disclosure of Information about Capital Structure," which establishes
standards for disclosing information about an institution's capital structure.
This Statement contains
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<PAGE> 13
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
For the three month periods ended September 30, 1997 and 1996
3. Effects of Recent Accounting Pronouncements (continued)
-------------------------------------------
no change in disclosure requirements for institutions that were subject to the
previously existing requirements. SFAS No. 129 applies to all institutions,
public and nonpublic, and is effective for financial statements issued for
periods ending after December 15, 1997. Management does not believe that the
disclosure requirements of SFAS No. 129 will have a material impact on Towne
Financial's consolidated financial position or results of operations.
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive
Income," which requires institutions presenting a complete set of financial
statements to include details of comprehensive income that arise in the
reporting period. Comprehensive income consists of net earnings or loss for the
current period and other comprehensive income, expense, gains and losses that
bypass the statement of earnings and are reported in a separate component of
equity, i.e., unrealized gains and losses on certain investments and
mortgage-backed securities. SFAS No. 130 does not apply to an institution that
has no items of other comprehensive income in any period presented. SFAS No. 130
is effective for fiscal years beginning after December 15, 1997, and requires
restatement of prior year financial statements presented for comparative
purposes. The adoption of SFAS No. 130 relates solely to the disclosure
provisions, and therefore, will not have a material effect on Towne Financial's
consolidated financial position or results of operations.
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments
of an Enterprise and Related Information." SFAS No. 131 significantly changes
the way that public business enterprises report information about operating
segments in annual financial statements and requires that those enterprises
report selected information about reportable segments in interim financial
reports issued to shareholders. It also establishes standards for related
disclosures about products and services, geographic areas and major customers.
SFAS No. 131 uses a "management approach" to disclose financial and descriptive
information about the way that management organizes the segments within the
enterprise for making operating decisions and assessing performance. For many
enterprises, the management approach will likely result in more segments being
reported. In addition, SFAS No. 131 requires significantly more
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TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
For the three month periods ended September 30, 1997 and 1996
3. Effects of Recent Accounting Pronouncements (continued)
-------------------------------------------
information to be disclosed for each reportable segment than is presently being
reported in annual financial statements and also requires that selected
information be reported in interim financial statements. SFAS No. 131 is
effective for fiscal years beginning after December 15, 1997, but earlier
application is encouraged. Segment information reported in earlier years is to
be restated to conform to the requirements of SFAS No. 131. Enterprises will not
be required to report segment information in interim financial statements in the
year of adoption, but comparative financial information is required beginning
with the second year after adoption. SFAS No. 131 is not expected to have a
material impact on the Corporation's consolidated financial statements.
4. Earnings per Share
------------------
Earnings per common share and common equivalent share was computed by
dividing net earnings by the weighted average number of shares of common stock
and common stock equivalents outstanding during each of the periods presented.
Earnings per common share and common equivalent share for the three month
periods ended September 30, 1997 and 1996 has been computed based on 218,007 and
214,125 weighted average shares of common stock and common stock equivalents
outstanding, respectively. Exercisable options, attendant to Towne Financial's
Stock Option and Incentive Plan, were considered in the computation of earnings
per common and common equivalent shares.
Fully-diluted earnings per share was computed assuming exercise of all
Towne Financial's outstanding stock options. Fully-diluted earnings per share
for the three month periods ended September 30, 1997 and 1996 has been computed
based on 219,218 and 216,012 weighted average shares of common stock and common
stock equivalents outstanding, respectively.
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<PAGE> 15
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Forward-Looking Statements
- --------------------------
In the following pages, management presents an analysis of Towne
Financial's consolidated financial condition as of September 30, 1997, and the
consolidated results of operations for the three month period ended September
30, 1997, as compared to the same period in 1996. In addition to this historical
information, the following discussion contains forward-looking statements that
involve risks and uncertainties. Economic circumstances, Towne Financial's
operations and Towne Financial's actual results could differ significantly from
those discussed in the forward-looking statements. Some of the factors that
could cause or contribute to such differences are discussed herein but also
include changes in the economy and interest rates in the nation and in Towne
Financial's general market area.
Without limiting the foregoing, some of the forward-looking statements
included herein include the following:
1. Management's determination of the amount of allowance for
loan losses;
2. The effect of changes in interest rates;
3. Changes in deposit insurance premiums;
4. Legislative changes that may change the regulatory
requirements of Towne Financial and Blue Ash;
5. Management's belief that Towne Financial's and Blue Ash's
activities will not be materially affected by proposed changes
in the regulation of all savings institutions and their
holding companies;
6. Management's opinion as to the effects of recent accounting
pronouncements on Towne Financial's consolidated financial
statements.
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<PAGE> 16
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Discussion of Financial Condition Changes from June 30, 1997 to September 30,
- -----------------------------------------------------------------------------
1997
- ----
At September 30, 1997, Towne Financial's consolidated assets totaled
$108.3 million, representing an increase of $5.7 million, or 5.6%, over the
$102.6 million asset level at June 30, 1997. The increase in asset size
experienced during the three months ended September 30, 1997 was funded
principally through an increase in deposits of $5.4 million, or 6.6%, and, to a
lesser extent, an increase in shareholders' equity of $160,000, or 2.1%, and an
increase realized in all noninterest-bearing liabilities of $149,000, or 14.0%.
Such increase in assets was primarily due to an increase in loans receivable of
$5.7 million, or 8.5%, and an increase in investment securities held to maturity
of $549,000, or 39.2%, which were partially offset by a decrease in cash and
cash equivalents of $478,000, or 17.6%. The growth in total assets during the
three months ended September 30, 1997 was consistent with management's
short-term goals and with its strategic objective of continuing to grow the size
of the operations within the existing branch structure.
Cash and due from banks, federal funds sold, interest-bearing deposits
and certificates of deposits in other financial institutions totaled
approximately $2.7 million at September 30, 1997, a decrease of $477,000, or
15.0%, from June 30, 1997 levels of $3.2 million. As a result, regulatory
liquidity approximated only 5.0% at September 30, 1997, as compared to 5.8% at
June 30, 1997. This percentage decline in regulatory liquidity was primarily due
to a higher deposit base at September 30, 1997, coupled with a reduction in cash
and cash equivalents resulting from utilization of excess liquidity to help fund
the growth in the loan portfolio. Such deployment of excess cash and liquid
assets into loans, reflecting management's desire to obtain higher yields
available from investment in loans, was needed as growth in the loan portfolio
slightly outpaced growth in deposits, its primary funding source, during the
three months ended September 30, 1997.
Investment securities held to maturity increased by $549,000, or 39.2%,
during the three months ended September 30, 1997. This
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<PAGE> 17
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Discussion of Financial Condition Changes from June 30, 1997 to September 30,
- -----------------------------------------------------------------------------
1997 (continued)
- ----
increase in investment securities reflected the purchase of callable U.S.
Government agency obligations of $650,000, which was partially offset by
securities being called of $100,000. In addition to funding loans, management
utilized excess cash and cash equivalents, to a lesser extent, to purchase
shorter-term callable U.S. Government agency obligations in order to generate
higher yields than those obtained from federal funds sold and overnight
deposits. Not only did management desire higher yields with its shorter-term
investments, it also invested in securities qualifying for liquidity purposes.
Mortgage-backed securities designated as available for sale and
mortgage-backed securities held to maturity approximated $26.7 million in the
aggregate at September 30, 1997. This level approximated the level reported at
June 30, 1997. During the three months ended September 30, 1997, purchases of
$511,000 in floating-rate collateralized mortgage obligations were fully offset
by proceeds from sale of securities of $279,000 and principal repayments on
securities of $293,000. From time to time, management has decided to use certain
repayment cash flows generated from mortgage-backed securities to originate new
loans. Management has also elected to increase the level of its mortgage-backed
securities in attempts to diversify its holdings and to increase the volume of
interest-earning assets relative to the equity base (leverage) in order to
improve net interest income and overall net earnings. During the three months
ended September 30, 1997, the Corporation sold an adjustable-rate
mortgage-backed security at a profit in order to alleviate the prepayment risk
exposure inherent in the security. With the proceeds from the sale, along with
principal repayment cash flows on existing securities within the portfolio, a
floating-rate collateralized mortgage obligation was purchased for the portfolio
in order to take advantage of an attractive spread to the comparable U.S.
treasury index.
Loans receivable and loans held for sale increased in the aggregate by
approximately $5.7 million, or 8.5%, during the three
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<PAGE> 18
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Discussion of Financial Condition Changes from June 30, 1997 to September 30,
- -----------------------------------------------------------------------------
1997 (continued)
- ----
months ended September 30, 1997. This increase was largely attributed to loan
disbursements, loan purchases and loans originated for sale in the secondary
market of $11.4 million, which were partially offset by loan sales, net of
gains, of $1.3 million and principal repayments on loans of $4.4 million. Growth
in the loan portfolio was primarily due to an increase of $4.2 million, or 8.4%,
in one-to-four family residential real estate loans, an increase of $1.1
million, or 36.6%, in multi-family residential real estate loans and an increase
of $556,000, or 5.0%, in nonresidential real estate and land loans, all of which
were partially offset by a decrease of $106,000, or 3.9%, in home equity
line-of-credit loans and a decrease of $47,000, or 18.8%, in passbook loans to
deposit customers. Blue Ash's growth in the loan portfolio was the result of
management's strategy to primarily hold loans in the current interest rate
environment subject to certain interest rate risk limitations, and to redeploy
funds from other asset categories into lending activities to the extent
practicable. This strategy to hold loans reflected management's continued desire
to grow the Corporation largely through loan portfolio growth, management's
desire to obtain a better loan portfolio mix of adjustable and fixed by
increasing the fixed-rate portion of its loan portfolio and management's intent
to increase its loan-to-deposits ratio. In addition, not only was the increase
of $5.7 million, or 8.5%, in loans receivable during the three months ended
September 30, 1997 attributed to management's strategy of holding fixed-rate
mortgage loans in the current interest rate environment, but the loan portfolio
growth was also the result of a continued strong marketing and selling effort by
management to originate loans and the continual development and refinement of
new loan products and programs to better serve the lending area.
At September 30, 1997, the Corporation's allowance for loan losses
totaled $250,000, an increase of $6,000, or 2.5%, over the $244,000 level
represented at June 30, 1997. During the three
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<PAGE> 19
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Discussion of Financial Condition Changes from June 30, 1997 to September 30,
- -----------------------------------------------------------------------------
1997 (continued)
- ----
months ended September 30, 1997, the Corporation increased its allowance for
general loan losses by $6,000. The Corporation's internally-classified assets
totaled approximately $452,000 at September 30, 1997, as compared to $478,000 at
June 30, 1997. Non-performing and nonaccrual loans totaled $452,000, or 0.62% of
loans receivable, at September 30, 1997, and $403,000, or 0.60% of loans
receivable, at June 30, 1997. In the opinion of management, such
internally-classified assets and non-performing and nonaccrual loans in the
aggregate represented an approximate 60-65% loan-to-value ratio at September 30,
1997 and were deemed adequately secured in the event of default by the
borrowers. Because the loan loss allowance is based on estimates, it is
monitored regularly on an ongoing basis and adjusted as necessary to provide an
adequate allowance. The Corporation reviews on a monthly basis its loan
portfolio, including problem loans, to determine whether any loans require
classification and/or the establishment of appropriate allowances. The allowance
for loan losses is determined by management based upon past loss experience,
trends in the level of delinquent and problem loans, adverse situations that may
affect the borrowers' ability to repay, the estimated value of any underlying
collateral and current and anticipated economic conditions in Blue Ash's lending
area. The provision for general loan losses of $6,000 recorded during the three
months ended September 30, 1997 was attributed to the overall growth of 8.5% in
the loan portfolio and the slight increase in non-performing and nonaccrual
loans at September 30, 1997. Management believed that the loan loss allowance
existing at September 30, 1997 was adequate to cover unforeseen loan losses
based upon the ongoing review of such internally-classified assets and
non-performing and nonaccrual loans. Although management believed that its
allowance for loan losses at September 30, 1997 was adequate based on facts and
circumstances available at the time, there can be no assurance that additions to
such allowance will not be necessary in future periods which could adversely
affect the Corporation's results of operations. At September 30, 1997, the
Corporation's allowance for loan losses consisted entirely of general valuation
allowances, as
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<PAGE> 20
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Discussion of Financial Condition Changes from June 30, 1997 to September 30,
- -----------------------------------------------------------------------------
1997 (continued)
- ----
defined by the regulations of the OTS, and represented 0.34% of the total amount
of loans outstanding, including those loans designated as held for sale, and 55%
of internally-classified assets.
Deposits totaled $87.2 million at September 30, 1997, an increase of
$5.4 million, or 6.6%, over the $81.8 million in deposits outstanding at June
30, 1997. The increase in total overall deposits was primarily the result of an
increase in certificates of deposit of $6.5 million, or 10.4%, which was
partially offset by a decrease in transaction accounts (NOW accounts, money
market deposit accounts, passbook accounts and Christmas club accounts) of $1.1
million, or 5.7%. The increase in certificates of deposit (primarily
certificates of deposit with original terms to maturity of two years or less)
during the three months ended September 30, 1997 was attributed to an increase
in certificate of deposit balances obtained from the local market area of $4.8
million, or 8.4%, and an increase in brokered deposits of $1.7 million, or
34.7%. In an effort to sustain deposit growth during the three months ended
September 30, 1997, Blue Ash continued its strategy of selectively obtaining
brokered deposits and out-of-state funds to supplement its local deposit base.
These deposits were typically obtained at interest rates at or below local
market interest rates and had terms to maturity of two years or less. Given its
other available funding alternatives, Blue Ash has the ability to suspend
brokered deposit activity at any time and has the ability to repay its
maturities on all brokered deposits without placing any undue risk on its
liquidity position or cost of funds. However, as long as demand for new loan
production remains strong, brokered deposits will continue to be a viable
funding source, as management is reluctant to aggressively price above market
and seek at all times certificates of deposit from its local market area. The
increase in certificates of deposit from its local market area during the three
months ended September 30, 1997 was attributed to the influx of new accounts
resulting from continued strong marketing efforts and very competitive pricing
on certificate of deposit accounts. The decrease in transaction accounts,
primarily money market deposit
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<PAGE> 21
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Discussion of Financial Condition Changes from June 30, 1997 to September 30,
- -----------------------------------------------------------------------------
1997 (continued)
- ----
accounts and passbook accounts, which are subject to daily repricing, was
primarily due to the transfer of these funds into higher yielding certificate of
deposit investments and other investment alternatives such as mutual funds. As
part of its efforts to further increase the deposit base, management made a more
assertive effort during fiscal 1997 and during the three months ended September
30, 1997 in its attempts to minimize the outflow of funds from transaction
accounts and to reacquire these deposit balances by placing a stronger emphasis
on the cross-selling of deposit products (i.e. checking accounts) at the branch
level and developing specific advertising campaigns aimed at transaction account
customers. Specifically, in order to better market checking accounts to its
customers, Blue Ash introduced a new "free checking" account program in June
1997 at its Mason office. This program was set up to attract a greater volume of
checking accounts at that office and to lower deposit costs. During the three
months ended September 30, 1997, this new checking program helped increase the
number of checking accounts at the Mason office by 30.1%. Due to the initial
success of the program at the Mason office, the "free checking" program was
extended to all the offices during the three months ended September 30, 1997. As
a result of this "free checking" program and all other marketing and selling
efforts to date, the number of overall checking accounts increased by 4.7%
during the three months ended September 30, 1997. The overall growth in deposits
during the three months ended September 30, 1997 reflected management's
continuing efforts to maintain steady growth and was consistent with
management's short-term and long-term goals. From time to time, however, in an
attempt to closely control its overall cost of funds and based on the current
interest rate environment, management may temporarily elect to use alternative
funding sources, such as brokered deposits. It is the continued goal of
management to increase loan production and the level of loan retention, thereby
increasing the need for overall deposits and available liquid assets. Management
expects to continue meeting the need for deposits, for the most part, through
increased marketing and competitive pricing of the
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<PAGE> 22
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Discussion of Financial Condition Changes from June 30, 1997 to September 30,
- -----------------------------------------------------------------------------
1997 (continued)
- ----
Company's deposit products, which could result in additional operating expenses
and interest expense.
Total borrowings, which consisted principally of Federal Home Loan Bank
advances, totaled approximately $12.1 million at September 30, 1997, as compared
to $12.1 million at June 30, 1997. During the three months ended September 30,
1997, Blue Ash repaid the remaining $800,000 balance on its line-of-credit
facility with the Federal Home Loan Bank by obtaining an $800,000 one-year
LIBOR-based advance, adjusting monthly. From time to time, Federal Home Loan
Bank advances are utilized as an alternative funding source or as a supplement
to deposits if the cost of such borrowings is favorable in comparison to the
cost of deposits. Federal Home Loan Bank advances are utilized by Blue Ash for
funding in times of low cash availability, as well as funding specific needs,
such as large loans. Another use is the funding of investments and
mortgage-backed securities, where an attractive spread is offered when compared
to the cost of borrowing, and where both the security and the borrowing have
similar terms to maturity or similar repricing patterns. Management believes
that the use of Federal Home Loan Bank advances is a prudent measure in the
above instances. Additionally, Federal Home Loan Bank advances may also be used
as an instrument in the control of interest rate risk when appropriate. In
future periods, management may acquire additional Federal Home Loan Bank
advances to fund loan production, to acquire investments and mortgage-backed
securities, or as a tool to manage the interest rate risk of Blue Ash.
Shareholders' equity totaled $7.8 million at September 30, 1997, an
increase of $160,000, or 2.1%, over the total of $7.6 million at June 30, 1997.
The increase in shareholders' equity was primarily due to net earnings for the
period of $186,000, which was partially offset by the payment of dividends to
shareholders of $21,000 and an increase in unrealized market losses on
securities designated as available for sale, net of related tax effects, of
$5,000. At September 30, 1997, shareholders' equity as a percentage of total
assets was 7.2%.
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<PAGE> 23
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Discussion of Financial Condition Changes from June 30, 1997 to September 30,
- -----------------------------------------------------------------------------
1997 (continued)
- ----
Blue Ash is subject to minimum regulatory capital standards promulgated
by the Office of Thrift Supervision ("OTS"). Failure to meet minimum capital
requirements can initiate certain mandatory - and possibly additional
discretionary - actions by regulators that, if undertaken, could have a direct
material effect on Blue Ash's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, Blue Ash
must meet specific capital guidelines that involve quantitative measures of its
assets, liabilities and certain off-balance sheet items as calculated under
regulatory accounting practices. Blue Ash's capital amounts and classifications
are also subject to qualitative judgments by the regulators about components,
risk weightings and other factors. The minimum capital standards of the OTS
generally require the maintenance of regulatory capital sufficient to meet each
of three tests, hereinafter described as the tangible capital requirement, the
core capital requirement and the risk-based capital requirement. The tangible
capital requirement mandates maintenance of shareholders' equity less all
intangible assets equal to 1.5% of adjusted total assets. The core capital
requirement provides for the maintenance of tangible capital plus certain forms
of supervisory goodwill and other qualifying intangible assets equal to 3.0% of
adjusted total assets, while the risk-based capital requirement mandates
maintenance of core capital plus general loan loss allowances equal to 8.0% of
risk-weighted assets, as defined by OTS regulations.
Management has determined that Blue Ash is in compliance with each of
the three capital requirements at September 30, 1997. Specifically, Blue Ash's
tangible and core capital of $7.6 million, or 7.0% of total adjusted assets,
exceeded the respective minimum requirements of $1.6 million and $3.2 million at
that date by approximately $6.0 million, or 5.5% of total adjusted assets, and
$4.4 million, or 4.0% of total adjusted assets. Additionally, Blue Ash's
risk-based capital of approximately $7.8 million at September 30, 1997, or 14.1%
of risk-weighted assets (including a general loan loss allowance of $250,000),
exceeded the current 8.0%
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<PAGE> 24
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Discussion of Financial Condition Changes from June 30, 1997 to September 30,
- -----------------------------------------------------------------------------
1997 (continued)
- ----
requirement of $4.4 million by approximately $3.4 million, or 6.1% of
risk-weighted assets.
The OTS has proposed an amendment to the core capital requirement that
would increase the minimum requirement to a range of 4.0% - 5.0% of adjusted
total assets for substantially all savings associations. Management anticipates
no material change to Blue Ash's excess regulatory capital position if the
proposal is adopted in its present form.
The OTS adopted a final rule in August 1993 incorporating an interest
rate risk component into the risk-based capital rules. Under the rule, an
institution with a greater than "normal" level of interest rate risk will be
subject to a deduction of its interest rate risk component from total capital
for purposes of calculating the risk-based capital requirement. An institution
with a greater than "normal" interest rate risk is defined as an institution
that would suffer a loss of net portfolio value ("NPV") exceeding 2.0% of the
estimated market value of its assets in the event of a 200 basis point increase
or decrease in interest rates. NPV is the difference between incoming and
outgoing discounted cash flows from assets, liabilities and off-balance sheet
contracts. A resulting change in NPV of more than 2% of the estimated market
value of an institution's assets will require the institution to deduct from its
capital 50% of that excess change. The rule provides that the OTS will calculate
the interest rate risk component quarterly for each institution. The OTS has
indicated that no institution will be required to deduct an interest rate risk
component from capital for purposes of computing the risk-based capital
requirement until further notice. In general, institutions which have risk-based
capital in excess of 12% and assets under $300 million are exempt from the new
requirement unless the OTS requires otherwise. The OTS will continue, however,
to closely monitor the level of interest rate risk at individual institutions
and retains the authority, on a case-by-case basis, to impose a higher
individual minimum capital requirement for individual institutions with
significant interest rate risk. At September 30, 1997, Blue Ash had total assets
of $108.3 million and risk-based capital in excess of 14.1% which would have
qualified Blue Ash for this exemption had the new requirements been in effect at
such date.
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<PAGE> 25
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Three Month Periods Ended September 30,
- -------------------------------------------------------------------------------
1997 and 1996
- -------------
General
- -------
Net earnings totaled $186,000 for the three months ended September 30,
1997, representing an increase of $298,000, or 266.1%, over the $112,000 in net
loss recorded for the three months ended September 30, 1996. The improvement in
earnings level for the three months ended September 30, 1997 was primarily
attributable to an increase in net interest income after provision for losses on
loans of $94,000, or 14.9%, and a decrease in general, administrative and other
expense of $360,000, or 41.7%, which were partially offset by a decrease in
other income of $3,000, or 4.4%. The increase in earnings level before federal
income taxes of $451,000, or 271.7%, resulted in an increase in the provision
for federal income taxes of $153,000, or 283.3%. The Corporation's net earnings
for the three months ended September 30, 1996 were negatively impacted by a
special assessment levied on all savings institutions insured by the Savings
Association Insurance Fund ("SAIF") of the Federal Deposit Insurance Corporation
to recapitalize the SAIF to the required statutory level in accordance with
legislation enacted into law on September 30, 1996. Excluding the nonrecurring
after-tax charge of $242,000, due to the special assessment, the Corporation
would have shown net earnings of $130,000, or $.60 per share, for the three
months ended September 30, 1996. Excluding the SAIF charge, net earnings for the
three months ended September 30, 1997 would have represented an increase in net
earnings of $56,000, or 43.1%, and an increase in earnings per share of $.25, or
41.7%, over the same period in the prior year.
Net Interest Income and Provision for Losses on Loans
- -----------------------------------------------------
The Corporation's net interest income increased by $95,000, or 15.0%,
during the three months ended September 30, 1997, as compared to the same period
in the prior year. The increase in net
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<PAGE> 26
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Three Month Periods Ended September 30,
- -------------------------------------------------------------------------------
1997 and 1996 (continued)
- -------------
Net Interest Income and Provision for Losses on Loans (continued)
- ------------------------------------------------------
interest income during the three months ended September 30, 1997 was primarily
the result of an increase in total interest income, due to increases in the
average outstanding balances of loans, investment securities and other
interest-earning assets, and to increases in the weighted average rates earned
on loans, mortgage-backed securities and other interest-earning assets, which
were partially offset by a decrease in the average outstanding balance of
mortgaged-backed securities and to a decline in the weighted average rate earned
on investment securities. Total interest income on the Corporation's
interest-earning assets increased by $305,000, or 17.8%, during the three months
ended September 30, 1997 due to overall increases of $12.4 million, or 14.1%, in
the average outstanding balances of such assets, which were coupled with overall
increases of 26 basis points (100 basis points equal 1%), or 3.4%, in the
weighted average yields earned on such assets. The increase in total interest
income during the three months ended September 30, 1997 was partially offset by
an increase in total interest expense, primarily due to increases in the average
outstanding balances of deposits and borrowings, which were coupled with
increases in the weighted average rates paid on deposits and borrowings. Total
interest expense on the Corporation's interest-bearing liabilities for the three
months ended September 30, 1997, as compared to the same period in the prior
year, increased by $210,000, or 19.5%, due to overall increases of $11.9
million, or 14.0%, in the average outstanding balances of such liabilities,
which were coupled with overall increases of 24 basis points, or 4.7%, in the
weighted average yields paid on the Corporation's interest-bearing liabilities.
The upward movement in the average yields earned on the Corporation's
interest-earning assets as compared to the average yields paid on the
Corporation's interest-bearing liabilities reflected assets repricing upward
more rapidly than liabilities. Such changes in yields earned and paid were
reflected in the interest rate spread, which had increased from 2.69% during the
three months ended September 30, 1996 to 2.71% during the three months ended
September 30, 1997, and the net yield (net interest income as a percentage of
average interest-earning
- 26 -
<PAGE> 27
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Three Month Periods Ended September 30,
- -------------------------------------------------------------------------------
1997 and 1996 (continued)
- -------------
Net Interest Income and Provision for Losses on Loans (continued)
- -----------------------------------------------------
assets), which had increased from 2.88% during the three months ended September
30, 1996 to 2.90% during the three months ended September 30, 1997. The major
factor contributing to the increases in the interest rate spread and net yield
period-to-period was believed to be management's continued efforts in growing
the loan portfolio by holding in the portfolio the majority of fixed-rate loans
originated given the current interest rate environment.
Interest income on loans increased by $294,000, or 24.2%, during the
three months ended September 30, 1997, as compared to the same period in the
prior year. The increase in interest income on loans during the three months
ended September 30, 1997 was due to an increase of $12.6 million, or 22.0%, in
the average balance of loans outstanding, which was coupled with an increase of
15 basis points, or 1.8%, in the weighted average rate earned on loans. The
increase in the average outstanding balance of loans period-to-period reflected
a continuation of loan demand in which loan originations and purchases exceeded
loan principal repayments, sales and payoffs. The growth in the loan portfolio
was also attributed to management's current strategy to portfolio fixed-rate
mortgage loans in the current interest rate environment subject to certain
interest rate risk limitations. The increase in the average yield earned on
loans was principally the result of management's strategy to hold fixed-rate
mortgage loans to the extent practicable, so as to improve interest rate spread
and overall net earnings. The greater percentage of outstanding fixed-rate
mortgage loans in the loan portfolio during the three months ended September 30,
1997, the upward repricing of existing adjustable-rate ("teaser") mortgage loans
and strong consumer preferences toward originating fixed-rate mortgages as
opposed to lower rate adjustable mortgages in a relatively stable but lower
interest rate environment are other contributing factors leading to overall
higher loan yields during the three months ended September 30, 1997.
Interest income on mortgage-backed securities designated as available
for sale and held to maturity decreased by approximately
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<PAGE> 28
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Three Month Periods Ended September 30,
- -------------------------------------------------------------------------------
1997 and 1996 (continued)
- -------------
Net Interest Income and Provision for Losses on Loans (continued)
- -----------------------------------------------------
$18,000, or 4.0%, during the three months ended September 30, 1997, as compared
to the same period in the prior year. The decrease in interest income on
mortgage-backed securities during the three months ended September 30, 1997 was
the result of a decrease in the average balance of mortgage-backed securities
outstanding of $1.2 million, or 4.4%, which was partially offset by an increase
in the weighted average rate earned on such assets of 3 basis points, or 0.5%.
The decrease in the average balance of mortgage-backed securities outstanding
during the three months ended September 30, 1997 reflected principal repayments
and sales of securities exceeding purchases. Proceeds from sales of securities
and principal repayments were shifted towards the origination of loans, as
management's primary objective was to grow the loan portfolio by earmarking
funds from other asset categories to the extent practicable. The increase in the
weighted average yield earned on mortgage-backed securities period-to-period
generally reflected the upward movement in the eleventh district cost of funds
index ("COFI") on which a majority of the Corporation's adjustable-rate and
floating-rate mortgage-backed securities and collateralized mortgage obligations
are tied to in determining interest rate changes. Such an increase in the COFI
market index was partially offset by decreases in certain other market indexes
which are utilized by the Corporation in determining interest rate changes on a
segment of the securities portfolio, due to a lower interest rate environment
period-to-period.
Interest and dividend income on investment securities held to maturity
and other interest-earning assets increased in the aggregate by $29,000, or
56.9%, during the three months ended September 30, 1997, as compared to the same
period in the prior year. The increase during the three months ended September
30, 1997 was primarily due to increases of $296,000, or 22.3%, and $785,000, or
40.1%, in the average outstanding balances of investment securities and other
interest-earning assets (primarily interest-bearing deposits in other financial
institutions), respectively, and to an increase in the weighted average rate
earned on other interest-earning assets of 192 basis points, or 34.8%, all of
which were partially offset by a decline of 9 basis
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<PAGE> 29
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Three Month Periods Ended September 30,
- -------------------------------------------------------------------------------
1997 and 1996 (continued)
- -------------
Net Interest Income and Provision for Losses on Loans (continued)
- -----------------------------------------------------
points, or 1.2%, in the weighted average rate earned on investment securities.
The increase in the average outstanding balance of investment securities was
principally due to the purchase of callable U.S. government agency obligations.
These securities were generally acquired for liquidity purposes as well as to
provide the Corporation with attractive, above market interest rates to
compensate for the call feature inherent in these securities. Such callable
securities were principally viewed by management as "yield enhancers,"
especially during a flat yield curve environment that predominately existed at
the time of many of these purchases, and helped improve the Corporation's
overall yield on investment securities from past levels. The decrease in the
weighted average yield earned on investment securities was the function of a
lower interest rate environment period-to-period, as newer purchases of callable
agency obligations were obtained at lower rates than those securities previously
purchased and being called. The increase in other interest-earning assets was
attributed in part to increased liquidity needs resulting from significant asset
growth period-to-period. The increase in the weighted average rate earned on
such assets period-to-period was the direct result of an increase in short-term
interest rates by the Federal Reserve in March 1997 and the purchase of
high-yielding short-term certificate of deposit investments for the portfolio
which were acquired subsequent to the 1996 period.
Interest expense on deposits, the largest component of the Corporations
interest-bearing liabilities, increased by $170,000, or 18.2%, during the three
months ended September 30, 1997, as compared to the same period in the prior
year. The increase in interest expense on deposits during the three months ended
September 30, 1997 was due to an increase of $9.3 million, or 12.3%, in the
average balance of deposits outstanding, which was coupled with an increase of
26 basis points, or 5.3%, in the weighted average rate paid on deposits. The
increase in the average balance of deposits outstanding during the periods
presented reflected a significant increase in term certificates of deposit
(primarily certificates of deposit with original terms to
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<PAGE> 30
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Three Month Periods Ended September 30,
- -------------------------------------------------------------------------------
1997 and 1996 (continued)
- -------------
Net Interest Income and Provision for Losses on Loans (continued)
- -----------------------------------------------------
maturity of two years or less) of $10.0 million, or 17.8%, which was partially
offset by a decline of $695,000, or 3.6%, in deposit balances subject to daily
repricing (passbook, money market deposit and NOW accounts). Such increase in
certificates of deposit emanated from depositors' preference for shifting funds
from deposits subject to daily repricing to higher-yielding term certificates of
deposit and from an influx of new deposits due to increased marketing and
selling efforts by management and competitive pricing strategies. In addition,
during the three months ended September 30, 1997, management utilized brokered
deposits and other out-of-state funds as an alternative source of funds in an
effort to continue the growth in certificates of deposit. In many cases,
interest rates paid on brokered deposits were actually the same or lower than
interest rates paid on local deposits. The increase in the average outstanding
balance of deposits was necessary to predominately fund the growth in the loan
portfolio. The increase in the weighted average rate paid on deposit accounts
period-to-period reflected higher market rates of interest. Specifically, the
weighted average rate paid on certificates of deposit increased from 5.70%
during the three months ended September 30, 1996 to 5.90% during the three
months ended September 30, 1997, while the weighted average rate paid on
transaction accounts decreased slightly from 2.71% during the three months ended
September 30, 1996 to 2.69% during the three months ended September 30, 1997.
Interest expense on borrowings, consisting primarily of fixed-rate
Federal Home Loan Bank advances, adjustable-rate LIBOR-based advances and, to a
lesser extent, an adjustable-rate loan of the ESOP, increased by $40,000, or
27.6%, during the three months ended September 30, 1997, as compared to the same
period in the prior year. The increase in interest expense on borrowings during
the three months ended September 30, 1997 was attributed to an increase of $2.6
million, or 27.4%, in the average outstanding balance of borrowings, which was
coupled with an increase of 1 basis point, or 0.2%, in the weighted average rate
paid on borrowings. Such increase in the average outstanding balance of
borrowings period-
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<PAGE> 31
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Three Month Periods Ended September 30,
- -------------------------------------------------------------------------------
1997 and 1996 (continued)
- -------------
Net Interest Income and Provision for Losses on Loans (continued)
- -----------------------------------------------------
to-period was the result of management utilizing new borrowings from the Federal
Home Loan Bank to assist, in part, in funding the Corporation's lending and
investment activities. Advances from the Federal Home Loan Bank were utilized by
management as an alternative funding source to deposits in order to provide
additional liquidity and sources of funds to the lending function during periods
of cash outflows, as well as to pursue its lending and investment programs when
the opportunities existed. During the three months ended September 30, 1997, the
weighted average rate paid on borrowings increased to 6.14%, an increase of 1
basis point, or 0.2%, from the 6.13% during the three months ended September 30,
1996. This increase in the weighted average rate paid period-to-period generally
reflected the higher costs of new borrowings in comparison to borrowings
obtained in prior periods and the higher interest costs paid on the
adjustable-rate portion of Federal Home Loan Bank advances resulting from a rise
in short-term market interest rates in March 1997.
The Corporation's provision for losses on loans increased by $1,000, or
20.0%, during the three months ended September 30, 1997, as compared to the same
period in the prior year. The provision for losses on loans, which was comprised
solely of discretionary additions to the general loan loss allowance, represents
a charge to earnings to maintain the allowance for loan losses at a level
management believes is adequate to absorb losses in the loan portfolio. The 1997
three month period loan loss provision was the result of management's continued
efforts to set the allowance at a level considered to be appropriate based upon
the internal analysis of the risk of loss in the loan portfolio. Among the
factors considered in this analysis were the assessment of general economic
conditions in Blue Ash's lending area applied to the portfolio, analysis of
specific loans in the portfolio, known and inherent risk in the portfolio and
other factors previously discussed. The Corporation has historically followed
strict underwriting guidelines in its loan origination process, and this is
considered to be one of the many factors which have resulted in minimal loan
losses (charge-offs) over the past five years. The Corporation's
- 31 -
<PAGE> 32
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Three Month Periods Ended September 30,
- -------------------------------------------------------------------------------
1997 and 1996 (continued)
- -------------
Net Interest Income and Provision for Losses on Loans (continued)
- -----------------------------------------------------
provision for losses on loans during the three months ended September 30, 1997
was principally attributable to loan portfolio growth of 8.5% and a slight
increase in non-performing and nonaccrual loans. Management uses the best
information available in providing for possible loan losses and believes that
the allowance is adequate to cover any unforeseen losses in the loan portfolio
at September 30, 1997. However, future adjustments to the allowance could be
necessary and net earnings could be affected if circumstances and/or economic
conditions differ substantially from the assumptions used in making the initial
determinations.
As a result of the foregoing changes in interest income, interest
expense and provision for losses on loans, net interest income after provision
for losses on loans increased during the three months ended September 30, 1997
by $94,000, or 14.9%, as compared to the same period in the prior year.
Other Income
- ------------
Total other income decreased by $3,000, or 4.4%, from $68,000 during
the three months ended September 30, 1996 to $65,000 during the three months
ended September 30, 1997. The principal causes for this decline in other income
during the three months ended September 30, 1997 were a decrease in gain on sale
of mortgage loans of $7,000, or 24.1%, and a decrease in loan servicing fees of
$4,000, or 14.3%, which were partially offset by an increase in gain on sale of
mortgage-backed securities of $7,000 and an increase in service fees, charges
and other operating income of $1,000, or 9.1%.
The decrease in gain on sale of mortgage loans of $7,000, or 24.1%,
period-to-period, was the result of the absence in the 1997 period of $19,000 in
unrealized market gains on loans identified as held for sale during the 1996
period, which was partially offset by an increase of $12,000 in gains (including
SFAS No. 122 gains) on the sale of mortgage loans in the secondary market. The
Corporation recognized gains on the sale of mortgage loans in the secondary
market of $22,000 and $10,000 during the three months
- 32 -
<PAGE> 33
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Three Month Periods Ended September 30,
- -------------------------------------------------------------------------------
1997 and 1996 (continued)
- -------------
Other Income (continued)
- ------------
ended September 30, 1997 and 1996, respectively. As a result, proceeds from the
sale of loans in the secondary market increased from $388,000 during the three
months ended September 30, 1996 to $1.3 million during the three months ended
September 30, 1997, and loans originated for sale in the secondary market
increased from $529,000 during the three months ended September 30, 1996 to $1.2
million during the three months ended September 30, 1997. Due to a lower
interest rate environment prevailing during the three months ended September 30,
1997, management elected to begin originating more fixed-rate mortgage loans for
sale as a means of minimizing interest rate risk as well as generating
additional funds for lending and other purposes.
The increase in gain on sale of mortgage-backed securities of $7,000
during the three months ended September 30, 1997 was due to increased sales
activity. During the three months ended September 30, 1997, there were proceeds
of $279,000 from the sale of mortgage-backed securities, while there was no
sales activity during the three months ended September 30, 1996. The decrease in
loan servicing fees of $4,000, or 14.3%, during the three months ended September
30, 1997 was principally attributed to a decline of approximately $5.1 million,
or 10.8%, in the average outstanding balance of loans sold in the secondary
market and to other financial institutions, which was coupled with an increase
of $1,000 in expense for amortization and impairment of originated mortgage
servicing rights under SFAS No. 122. The increase in service fees, charges and
other operating income of $1,000, or 9.1%, reflected increased fees generated
period-to-period from NOW accounts, construction loans and mortgage loan
modifications, which were partially offset by a reduction in fee income received
from correspondent lenders for nonconforming loans.
General, Administrative and Other Expense
- -----------------------------------------
Total general, administrative and other expense decreased by $360,000,
or 41.7%, during the three months ended September 30, 1997, as compared to the
same period in the prior year. The
- 33 -
<PAGE> 34
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Three Month Periods Ended September 30,
- -------------------------------------------------------------------------------
1997 and 1996 (continued)
- -------------
General, Administrative and Other Expense (continued)
- -----------------------------------------
components of this decrease in total general, administrative and other expense
during the three months ended September 30, 1997 were comprised of a decrease in
federal deposit insurance premiums of $397,000, or 97.1%, and a decrease in
amortization of goodwill of $2,000, or 20.0%, which were partially offset by an
increase in employee compensation and benefits of $28,000, or 11.7%, an increase
in occupancy and equipment expense of $7,000, or 8.2%, an increase in
advertising expense of $2,000, or 9.5%, an increase in state franchise tax
expense of $1,000, or 4.3%, and an increase in data processing expense of
$1,000, or 4.0%.
The driving factor behind the significant decline in total general,
administrative and other expense during the three months ended September 30,
1997 was the decrease in federal deposit insurance premiums of $397,000, or
97.1%, which was due to the one-time special assessment of $366,000 to
recapitalize the SAIF to federally-mandated levels and to reduced deposit
insurance premiums of $31,000 following the September 1996 SAIF
recapitalization. Excluding the SAIF special assessment, total general,
administrative and other expense would have only increased from $498,000 during
the three months ended September 30, 1996 to $504,000 during the three months
ended September 30, 1997, an increase of $6,000, or 1.2%.
The principal category of the Corporation's general, administrative and
other expense is employee compensation and benefits. The increase in this
expense category of $28,000, or 11.7%, during the three months ended September
30, 1997, as compared to the same period in the prior year, was primarily due to
normal merit increases, increases in employee group health insurance premiums,
increases in expenses related to the ESOP due to the payout of benefits to
terminated employees, increases in loan officer bonus expense as a result of a
greater loan volume, increases in annual bonus expense to employees and officers
stemming from a higher earnings level and increases in certain payroll-related
taxes, all of which were partially offset by an increase of $10,000, or 38.5%,
in deferred loan origination costs
- 34 -
<PAGE> 35
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (CONTINUED)
Comparison of Operating Results for the Three Month Periods Ended September 30,
- -------------------------------------------------------------------------------
1997 and 1996 (continued)
- -------------
General, Administrative and Other Expense (continued)
- -----------------------------------------
in accordance with SFAS No. 91 as a result of an approximate $4.1 million, or
55.6%, increase in total lending volume period-to-period.
The increase in occupancy and equipment expense of $7,000, or 8.2%, was
largely due to increases in office building repair and maintenance, furniture
and fixture expenses and telephone, which were partially offset by lower
expenses associated with ATM processing. The increase in advertising expense of
$2,000, or 9.5%, was principally attributable to a continuation of intensified
marketing and selling efforts by management, which were directed toward the loan
origination function and attracting new deposits. The increase in data
processing expense of $1,000, or 4.0%, reflected an increased average deposit
base as well as growth in lending operations, while the increase in state
franchise tax expense of $1,000, or 4.3%, was primarily attributed to an
enhanced equity capital position period-to-period.
Federal Income Taxes (Credits)
- ------------------------------
The provision for federal income taxes totaled $99,000 for the three
months ended September 30, 1997. For the three months ended September 30, 1996,
the Corporation recognized federal income tax credits of $54,000. The increase
of $153,000, or 283.3%, in provision for federal income taxes in the 1997
period, as compared to the 1996 period, reflected the higher level of pre-tax
earnings, an increase of $451,000, or 271.7%. As previously discussed, the
one-time charge to replenish the SAIF had a detrimental impact on net earnings
for the three months ended September 30, 1996. As a result, the level of federal
income tax expense for the three months ended September 30, 1997 generally
reflected the level of pre-tax earnings for such period, while the level of
federal income tax credits for the three months ended September 30, 1996
generally reflected the level of pre-tax loss for such period.
- 35 -
<PAGE> 36
TOWNE FINANCIAL CORPORATION AND SUBSIDIARY
PART II
ITEM 1. Legal Proceedings
-----------------
Neither the Corporation nor Blue Ash is involved in any
pending legal proceedings other than non-material legal
proceedings occurring in the ordinary course of business.
ITEM 2. Changes in Securities
---------------------
Not Applicable
ITEM 3. Defaults Upon Senior Securities
-------------------------------
Not Applicable
ITEM 4. Submission of Matters to a Vote of Security Holders
---------------------------------------------------
The Annual Meeting of Shareholders of Towne Financial
Corporation was held on October 29, 1997. At the Annual
Meeting, shareholders elected one director to a three year
term expiring in 2000. The Corporation solicited proxies for
the Annual Meeting. There was no solicitation in opposition to
management's nominee for election as director and such nominee
was elected. The director nominated for re-election was
re-elected by the following votes:
<TABLE>
<CAPTION>
For Withheld
--- --------
<S> <C> <C>
Ralph E. Heitmeyer 197,409 3,185
</TABLE>
The shareholders approved the adoption of the Towne Financial
Corporation 1997 Stock Option Plan for key management
personnel and the Board of Directors of the Corporation and
Blue Ash by the following vote:
For: 133,260 Against: 44,632 Abstain: 3,367
The shareholders also ratified the selection of Grant Thornton
LLP as the Corporation's independent public accountants for
the year ending June 30, 1998 by the following vote:
For: 199,594 Against: 1,000
- 36 -
<PAGE> 37
ITEM 5. Other Materially Important Events
---------------------------------
None
ITEM 6. Exhibits and Reports on Form 8-K
--------------------------------
Exhibit 27 - Financial Data Schedule
- 37 -
<PAGE> 38
SIGNATURES
----------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Dated: November 12, 1997 By:/s/ William S. Siders
----------------------------
William S. Siders
Executive Vice President
Dated: November 12, 1997 By:/s/ Joseph L. Michel
----------------------------
Joseph L. Michel
Chief Financial Officer, Vice
President and Treasurer
- 38 -
<TABLE> <S> <C>
<ARTICLE> 9
<CIK> 0000880052
<NAME> TOWNE FINANCIAL CORP/OH
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JUN-30-1998
<PERIOD-START> JUL-01-1997
<PERIOD-END> SEP-30-1997
<CASH> 1,478
<INT-BEARING-DEPOSITS> 159
<FED-FUNDS-SOLD> 600
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 14,906
<INVESTMENTS-CARRYING> 13,713
<INVESTMENTS-MARKET> 13,521
<LOANS> 72,512
<ALLOWANCE> 250
<TOTAL-ASSETS> 108,300
<DEPOSITS> 87,227
<SHORT-TERM> 5,356
<LIABILITIES-OTHER> 1,215
<LONG-TERM> 6,704
0
0
<COMMON> 209
<OTHER-SE> 7,589
<TOTAL-LIABILITIES-AND-EQUITY> 108,300
<INTEREST-LOAN> 1,511
<INTEREST-INVEST> 457
<INTEREST-OTHER> 51
<INTEREST-TOTAL> 2,019
<INTEREST-DEPOSIT> 1,104
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<EXPENSE-OTHER> 504
<INCOME-PRETAX> 285
<INCOME-PRE-EXTRAORDINARY> 285
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 186
<EPS-PRIMARY> .85
<EPS-DILUTED> .85
<YIELD-ACTUAL> 2.90
<LOANS-NON> 101
<LOANS-PAST> 351
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 244
<CHARGE-OFFS> 0
<RECOVERIES> 0
<ALLOWANCE-CLOSE> 250
<ALLOWANCE-DOMESTIC> 250
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