UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15(d) of
the Securities Exchange Act of 1934
For the Quarter Ended March 31, 1999
FIDELITY FEDERAL BANCORP
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Indiana 0-22880 35-1894432
---------------------------- ---------- -------------------
(State of other jurisdiction Commission (IRS Employer
of Incorporation of File No. Identification No.)
Organization)
700 S. Green River Road, Suite 2000
Evansville, Indiana 47715
---------------------------------------------------
(Address of principal executive offices) (Zip Code)
(812) 469-2100
--------------------------------------------------
Registrant's telephone number, including area code
Indicate by checkmark 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 twelve months and (2) has been subject to such filing requirements
for the past 90 days.
YES X NO
--- ---
As of May 6, 1999, there were 3,147,662 shares of the Registrant's common stock,
$1 stated value, issued and outstanding.
Exhibit Index is on page 27.
<PAGE>
FIDELITY FEDERAL BANCORP
AND SUBSIDIARIES
Index
Page
PART I - FINANCIAL INFORMATION
ITEM 1--Financial Statements:
Consolidated balance sheet....................................... 3
Consolidated statement of income................................. 4
Consolidated statement of stockholders' equity................... 5
Consolidated statement of cash flows............................. 6
Notes to consolidated financial statements....................... 7
ITEM 2--Management's Discussion and Analysis of Results of
Operations and Financial Condition
Results of Operations ........................................ 11
Financial Condition........................................... 17
Capital Resources and Capital Requirements.................... 23
Liquidity..................................................... 24
PART II - OTHER INFORMATION......................................... 25
SIGNATURES.......................................................... 26
EXHIBIT INDEX....................................................... 27
2
<PAGE>
Item 1 - Financial Statements
Part I - Financial Information
Fidelity Federal Bancorp
and Subsidiaries
Consolidated Balance Sheet
(In thousands, except for share data)
(Unaudited)
<TABLE>
<CAPTION>
March 31, June 30,
1999 1998
---------- ----------
<S> <C> <C>
Assets
Cash and due from banks $ 1,764 $ 1,683
Short-term interest-bearing deposits 22,537 6,260
--------- ---------
Total cash and cash equivalents 24,301 7,943
Interest-bearing deposits 6
Investment securities available for sale 22,155 9,854
Loans 123,504 159,732
Allowance for loan losses (3,481) (3,049)
--------- ---------
Net loans 120,023 156,683
Premises and equipment 5,658 5,846
Federal Home Loan Bank of Indianapolis stock 3,920 3,920
Income tax receivable 3,611 6,690
Other assets 5,572 6,104
--------- ---------
Total assets $ 185,240 $ 197,046
========= =========
Liabilities
Deposits
Non-interest bearing $ 6,807 $ 4,760
Interest-bearing 134,697 144,179
--------- ---------
Total deposits 141,504 148,939
Short-term borrowings 25 2,531
FHLB advances and other long-term debt 26,878 29,488
Advances by borrowers for taxes and insurance 629 426
Letter of credit valuation allowance 5,918 6,778
Other liabilities 2,187 1,369
--------- ---------
Total liabilities 177,141 189,531
Stockholders' Equity
Preferred stock, no par or stated value
Authorized and unissued - 5,000,000 shares
Common stock, $1 stated value
Authorized - 5,000,000 shares
Issued Outstanding - 3,147,662 and 3,127,208 shares 3,148 3,127
Capital surplus 10,869 10,799
Stock warrants 11 11
Retained earnings, (deficit) (5,809) (6,380)
Accumulated other comprehensive loss-net unrealized losses
on investment securities available for sale (120) (42)
--------- ---------
Total stockholders' equity 8,099 7,515
--------- ---------
Total liabilities and stockholders' equity $ 185,240 $ 197,046
========= =========
</TABLE>
See notes to consolidated financial statements.
NOTE: The consolidated balance sheet at June 30, 1998 has been derived from the
audited financial statements.
2
<PAGE>
Fidelity Federal Bancorp
and Subsidiaries
Consolidated Statement of Income
(In thousands, except for share data)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
March 31, March 31,
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Interest Income
Loans receivable $ 2,723 $ 3,679 $ 9,418 $ 12,288
Investment securities 259 145 529 520
Federal funds sold 14 5 25 75
Interest-bearing deposits 290 86 747 213
Other interest and dividend income 77 78 236 238
----------- ----------- ----------- -----------
Total interest income 3,363 3,993 10,955 13,334
----------- ----------- ----------- -----------
Interest Expense
Deposits 1,817 2,023 5,808 6,909
Federal Home Loan Bank advances 207 302 682 983
Other interest expense 340 375 1,048 1,150
----------- ----------- ----------- -----------
Total interest expense 2,364 2,700 7,538 9,042
----------- ----------- ----------- -----------
Net interest income 999 1,293 3,417 4,292
Provision for loan losses (404) 4,298 (254) 4,523
----------- ----------- ----------- -----------
Net interest income after provision for loan losses 1,403 (3,005) 3,671 (231)
----------- ----------- ----------- -----------
Non-interest income
Management fees 55 83 208 265
Service charges on deposit accounts 105 79 338 320
Net gains on sale of
Investment securities 5 79
Real estate loans 89 8 312 42
Premises and equipment 23
Letter of credit fees 146 152 437 529
Agent fee income 7 126 333 510
Loan participation fees 197
Other income 169 137 553 472
----------- ----------- ----------- -----------
Total non-interest income 571 590 2,204 2,414
----------- ----------- ----------- -----------
Non-interest expense
Salaries and employee benefits 865 842 2,617 2,570
Net occupancy expense 83 120 293 342
Equipment expense 68 87 218 264
Data processing expense 105 125 297 314
Deposit insurance expense 72 42 178 102
Legal and professional fees 86 96 263 227
Advertising 47 56 149 158
Letter of credit valuation provision 35 6,778 35 6,778
Writedown of affordable housing partnership investments 1,478 1,478
Affordable housing group activities 715 715
Other expense 513 731 1,453 1,469
----------- ----------- ----------- -----------
Total non-interest expense 1,874 11,070 5,503 14,417
----------- ----------- ----------- -----------
Income before income tax 100 (13,485) 372 (12,234)
Income tax expense (35) (5,363) (200) (5,029)
----------- ----------- ----------- -----------
Net Income $ 135 $ (8,122) $ 572 $ (7,205)
=========== =========== =========== ===========
Per share:
Basic net income $ 0.04 $ (2.60) $ 0.18 $ (2.49)
Diluted net income 0.04 (2.60) 0.18 (2.49)
Weighted average shares outstanding 3,147,663 3,127,240 3,141,691 2,899,348
</TABLE>
See notes to consolidated financial statements.
4
<PAGE>
Fidelity Federal Bancorp
and Subsidiaries
Consolidated Statement of Stockholders' Equity
(in thousands)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
March 31, March 31,
1999 1998 1999 1998
-------------------- ---------------------
<S> <C> <C> <C> <C>
Beginning Balances $ 8,036 $ 15,702 $ 7,515 $ 12,936
Comprehensive income:
Net income 135 (8,122) 572 (7,205)
Other comprehensive income (72) 12 (78) 2
-------- -------- -------- --------
Comprehensive income 63 (8,110) 494 (7,203)
Cash dividends (314) (938)
Issuance of stock 90
Purchase of treasury stock (5) (15)
Exercise of stock warrants 2,493
-------- -------- -------- --------
Balances, March 31 $ 8,099 $ 7,273 $ 8,099 $ 7,273
======== ======== ======== ========
</TABLE>
See notes to consolidated condensed financial statements.
5
<PAGE>
Fidelity Federal Bancorp
and Subsidiaries
Consolidated Statement of Cash Flows
(Unaudited)
<TABLE>
<CAPTION>
Nine Months ended
March 31,
1999 1998
---- ----
<S> <C> <C>
Operating Activities
Net cash provided by operating activities 4,347 3,144
-------- --------
Investing Activities
Purchases of securities available for sale (18,205) (1,906)
Proceeds from maturities of securities available for sale 5,753 1,909
Proceeds from sale of securities available for sale 3,379
Net change in loans 36,966 38,487
Purchases of premises and equipment (134) (145)
Proceeds from sale of premises and equipment 40
Net changes in interest bearing deposits 6
-------- --------
Net cash provided by investing activities 24,426 41,724
-------- --------
Financing Activities
Net change in:
Noninterest-bearing, interest being demand and
savings deposits (437) (35,077)
Certificates of deposit (6,998) (38)
Short-term borrowings (2,506) (2,777)
Repayment of FHLB advances and other long-term debt (2,610) (4,710)
Net change in advances by borrowers for taxes and insurance 202 21
Purchase of common stock (15)
Cash dividends (156) (873)
Proceeds from exercise of stock warrants 2,493
Issuance of stock 90
-------- --------
Net cash used by financing activities (12,415) (40,976)
-------- --------
Net change in Cash and Cash Equivalents 16,358 3,892
Cash and Cash Equivalents, beginning of period 7,943 3,506
-------- --------
Cash and Cash Equivalents, end of period $ 24,301 $ 7,398
======== ========
Additional Cash Flows and Supplementary information
Cash paid for income taxes, net of refunds $ 625
Cash paid for interest $ 5,279 8,403
</TABLE>
See notes to consolidated financial statements
6
<PAGE>
Fidelity Federal Bancorp
and Subsidiaries
Notes to Consolidated Financial Statements
(Unaudited)
o Accounting Policies
The significant accounting policies followed by Fidelity Federal Bancorp
("Fidelity Federal") and its wholly owned subsidiaries for interim financial
reporting are consistent with the accounting policies followed for annual
financial reporting. All adjustments which are necessary for a fair presentation
of the results for the periods reported, consist only of normal recurring
adjustments, and have been included in the accompanying unaudited consolidated
condensed financial statements. The results of operations for the nine months
ended March 31, 1999 are not necessarily indicative of those expected for the
remainder of the year.
o Stockholders' Equity
On September 22, 1997, Fidelity Federal filed a Schedule 13E4 with the SEC
regarding a warrant tender offer to holders of its 1994 and 1995 warrants. The
offer and withdrawal rights expired on October 31, 1997. Fidelity Federal
decreased the exercise price, upon the terms and subject to the conditions set
forth in the Letter of Transmittal, to $3.70 for the 1994 Warrants and $4.04 for
the 1995 Warrants. The proceeds from the exercise of the warrants under this
offer totaled $2.5 million.
In connection with Fidelity Federal's second debt and equity rights offering
completed January 31, 1995, Fidelity Federal has reserved 346,500 shares of its
common stock for issuance upon exercise of 1,500 outstanding warrants. Each
warrant represents the right to purchase 231 shares of common stock. The
warrants were valued at $100 per warrant, carry an exercise price of $8.93 per
share, and expire on January 31, 2005. At March 31, 1999, a total of 337,029 of
the shares originally reserved had been issued and 9,471 remained reserved and
unissued.
In connection with Fidelity Federal's first debt and equity rights offering
completed on April 30, 1994, Fidelity Federal has reserved 415,500 shares of its
common stock for issuance upon exercise of 1,500 outstanding warrants. Each
warrant represents the right to purchase 277 shares of common stock. The
warrants were valued at $100 per warrant, carry an exercise price of $6.22 per
share, and expire on April 30, 2004. At March 31, of the shares originally
reserved had been issued and 18,282 remained reserved and unissued. 1999, a
total of 397,218
o Cash Dividend
Fidelity Federal's dividend policy is to pay cash or distribute stock dividends
when the Board of Directors deems it to be appropriate, taking into account
Fidelity Federal's financial condition and results of operations, economic and
market conditions, industry standards, and other factors, including regulatory
capital requirements of its savings bank subsidiary. Fidelity Federal's primary
source of income is dividends from its thrift subsidiary, United Fidelity Bank,
fsb ("United Fidelity"). United Fidelity has entered into a Supervisory
Agreement ("Agreement") with the OTS. One of the provisions of the Agreement
restricts the payments of dividends from United Fidelity to Fidelity Federal
without prior written OTS approval. When necessary, the OTS has permitted
dividends to assist Fidelity Federal in meeting interest payments on its
outstanding debt, however there can be no assurance of these actions going
forward. Refer to "Other Restrictions" below. Fidelity Federal is uncertain when
it will pay dividends in the future to its shareholders, and the amount of such
dividends, if any.
o Company Subsidiaries
United Fidelity, and Village Affordable Housing Corporation are two subsidiaries
of Fidelity Federal. United Fidelity is a federally chartered savings bank, and
is regulated by the Office of Thrift Supervision. Village Affordable Housing
Corporation was formed during the third quarter of fiscal 1998 for the purpose
of holding interests in real estate housing, and is currently inactive. Village
Securities Corporation began operations July 1, 1997, by providing customers
with discount brokerage services for stocks and bonds. Village Securities ceased
operations on December 31, 1998.
7
<PAGE>
United Fidelity's subsidiaries, Village Housing Corporation, Village Management
Corporation and previously Village Community Development Corporation (the
"Affordable Housing Group"), and Village Capital Corporation have been involved
in various aspects of financing, owning, developing, building, renting and
managing affordable housing projects. Village Capital Corporation has earned
fees by providing real estate mortgage banking services to unaffiliated
borrowers since 1994. Another subsidiary of United Fidelity, Village Insurance
Corporation, is engaged in the business of selling various insurance products.
Fidelity Federal reevaluated its business plan in fiscal 1997. As a result,
Village Community Development Corporation reduced its activities significantly,
discontinued activities in fiscal 1998. Its assets and liabilities were
subsequently merged into Village Housing Corporation during the second quarter
of fiscal 1999. Fidelity Federal continues to review the profitability of the
remaining subsidiaries to determine its future impact on the Company's business
plan. Representatives of Village Capital Corporation will broker loans as
opportunities arise. Village Housing Corporation and Village Management
Corporation continue to be fully operational.
o New Accounting Standard
The Financial Accounting Standards Board has issued Statement No. 133,
"Accounting for Derivative Instruments and Hedging Activities," which requires
companies to record derivatives on the balance sheet at their fair value.
Statement No. 133 will be effective for Fidelity Federal beginning in fiscal
2000. The adoption of this statement is not expected to have a material impact
on Fidelity Federal's financial condition or results of operations.
o Other Restrictions
United Fidelity, has entered into a Supervisory Agreement with the OTS on
February 3, 1999. The Supervisory Agreement follows the most recent examination
of United Fidelity by the OTS during the Bank's fiscal 1998 fourth quarter. The
agreement is in effect until terminated, modified or suspended, in writing, by
the OTS. As previously reported and in response to such examination, United
Fidelity voluntarily had already begun taking action to respond to some of the
OTS criticisms in the examination and some of the requirements of the
Supervisory Agreement. In entering into the supervisory Agreement, United
Fidelity did not admit or deny any violations of law or regulations and/or
unsafe or unsound practices.
Under the terms of the Supervisory Agreement, United Fidelity must develop and
submit to the OTS for approval a strategic plan which includes, at a minimum,
capital targets; specific strategies; the completion of quarterly projections
for a three year period; concentration limits for all assets; a plan for
reducing United Fidelity's concentration of high risk assets; review of
infrastructure, staffing and expertise with respect to each area of the Bank's
operations; and capital planning. The strategic plan has been submitted, and is
currently under OTS review.
In addition, United Fidelity must, among other things, take other specified
actions within specified time frames. These actions include, among others: the
development of a written plan for the reduction of classified and criticized
assets to specified levels; maintenance of sufficient reserves in the allowance
for loan and lease losses; reporting quarterly, to the OTS, relating to
classified assets and workout plans, restriction of its growth in total assets
to an amount not in excess of an amount equal to the net interest credited on
deposit liabilities without prior OTS approval; limiting growth of its consumer
loan portfolio to an amount not in excess of 25% of its total assets;
development of a written plan to divest all real estate held for development;
adoption of policies and procedures designed to avoid potential conflicts of
interest; development of policies and procedures to increase liquidity; adoption
of a policy with respect to its mortgage brokerage activity, which would address
the operation and risk management; development of a policy to administer the
general partnerships held by Village Housing Corporation; and maintenance of a
fully staffed and functioning internal audit department and independent loan
review process.
United Fidelity is also prohibited from taking certain actions, including, among
others: investing in, purchasing, or committing to make or purchase any
additional commercial loans or commercial real estate loans; requesting
permission from the OTS to engage in additional commercial loan activity until
United Fidelity has hired an experienced loan staff and credit analyst;
refinancing or extending classified or criticized commercial loans without the
prior approval of the OTS; engaging in "sub prime" consumer lending activities;
making capital distributions, including dividends to Fidelity Federal; making
any additional equity investments; developing any
8
<PAGE>
real estate without specific approval of the OTS; acquiring any additional real
estate for future development; selling any asset to an affiliated party without
prior written approval of the OTS; engaging in any new activities not included
in the to-be developed strategic plan; and, refinancing or extending any
non-classified or criticized commercial loan if additional funds are extended.
United Fidelity is also required to obtain OTS approval prior to adding or
replacing any director or senior executive officer. United Fidelity is also
prohibited, without prior OTS approval, from entering into any contract with any
executive officer or director which would require a "golden parachute" payment
and from increasing the executive benefit package in an amount in excess of the
annual cost of living. United Fidelity is also required to develop a plan to
reduce employee turnover, build an experience staff, and provide for management
succession.
Management of United Fidelity had already begun taking, or refraining from
taking, some of the actions requested by the OTS. United Fidelity expects to
stay in compliance with the terms of the Supervisory Agreement. In this respect,
United Fidelity has already ceased making commercial loans; increased its
allowance for loan and lease losses; restricted its growth; begun the process of
divesting its real estate held for development; engaged an independent vendor to
provide loan review services; ceased making additional equity investments; and
ceased developing real estate. As of March 31,1999 United Fidelity was in full
compliance with the OTS restrictions.
Comprehensive Income
Fidelity Federal adopted Financial Accounting Standards Board Statement No. 130,
"Reporting Comprehensive Income", effective July 1, 1998. The statement was
effective for fiscal years beginning after December 15, 1997. This statement
establishes standards for the reporting and display of comprehensive income,
which includes net income and all other non-owner changes in equity during the
period.
Nine Months Ended Year Ended
March 31, March 31, June 30,
1999 1998 1998
---- ---- ----
Net income (loss) $ 572 $(7,205) $(6,794)
Unrealized gains (losses) on securities:
Unrealized holding gains (losses)
arising during period, net of tax (78) (46) (59)
Less: adjustment for gains realized in
net income, net of tax 48 48
------- ------- -------
Net unrealized gains (losses) (78) 2 (11)
Other comprehensive income $ 494 $(7,203) $(6,805)
======= ======= =======
o Segment Information
Fidelity Federal operates principally in two industries, banking and real estate
management. Through United Fidelity, Fidelity Federal offers traditional banking
products, such as checking, savings, and certificates of deposit, as well as
mortgage, consumer, and commercial loans. Through the Affordable Housing Group,
Fidelity Federal has been involved in various aspects of developing, building,
renting and managing affordable housing projects. Currently Fidelity Federal
only acts as owner and manager of affordable housing projects.
Operating profit is total revenue less operating expenses. In computing
operating profit, income taxes have been deducted.
Identified assets are principally those used in each segment. Real estate
development and management activities conducted by Fidelity Federal are not
asset intensive. The assets in this segment primarily include cash received in
the form of fees and land that was acquired with the intent of its use in future
developments.
9
<PAGE>
Presented below is condensed financial information relating to Fidelity
Federal's business segments:
<TABLE>
<CAPTION>
(In thousands) Three Months Ended Nine Months Ended
March 31, March 31,
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Revenue:
Banking $ 3,847 $ 4,390 $ 12,699 $ 15,141
Real estate development and management 87 193 460 607
--------- --------- --------- ---------
Total consolidated $ 3,934 $ 4,583 $ 13,159 $ 15,748
========= ========= ========= =========
Operating profit:
Banking $ 223 $ (5,530) $ 807 $ (4,550)
Real estate development and management (88) (2,592) (235) (2,655)
--------- --------- --------- ---------
Total consolidated $ 135 $ (8,122) $ 572 $ (7,205)
========= ========= ========= =========
Identifiable assets:
Banking $ 181,883 $ 179,172 $ 181,883 $ 179,172
Real estate development and management 3,357 8,214 3,357 8,214
--------- --------- --------- ---------
Total consolidated $ 185,240 $ 187,386 $ 185,240 $ 187,386
========= ========= ========= =========
Depreciation and amortization:
Banking $ 98 $ 95 $ 294 $ 323
Real estate development and management 3 5 9 15
--------- --------- --------- ---------
Total consolidated $ 101 $ 100 $ 303 $ 338
========= ========= ========= =========
Capital expenditures:
Banking $ 60 $ 28 $ 130 $ 142
Real estate development and management 1 4 3
--------- --------- --------- ---------
Total consolidated $ 60 $ 29 $ 134 $ 145
========= ========= ========= =========
</TABLE>
10
<PAGE>
Item 2 - Management's Discussion and Analysis of Results of Operations and
Financial Condition
Special Note Regarding Forward-Looking Statements
Certain matters discussed in this Quarterly Report on Form 10-Q are
"forward-looking statements" intended to qualify for the safe harbors from
liability established by the Private Securities Litigation Reform Act of 1995.
These forward-looking statements can generally be identified as such because the
context of the statement will include words such as Fidelity Federal "believes",
"anticipates", "expects", "estimates" or words of similar import. Similarly,
statements that describe Fidelity Federal's future plans, objectives or goals
are also forward-looking statements. Such forward-looking statements are subject
to certain risks and uncertainties which are described inclose proximity to such
statements and which could cause actual results to differ materially from those
anticipated as of the date of this report. Shareholders, potential investors and
other readers are urged to consider these factors in evaluating the
forward-looking statements and are cautioned not to place undue reliance on such
forward-looking statements. The forward-looking statements included herein are
only made as of the date of this report and Fidelity Federal undertakes no
obligation to publicly update such forward-looking statements to reflect
subsequent events or circumstances.
o Results of Operations
The net income for the three months ended March 31, 1999 was $135,000, compared
to a net loss of $8,122,000 for the same period last year. Basic and diluted net
income per share was $.04 per share for the three months ended March 31, 1999,
compared to a net loss of $2.60 per share in 1998. The net income for the nine
months ended was $572,000 compared to a net loss of $7,205,000 for the same
period last year. Basic and diluted net income per share for the nine months
ended March 31, 1999 was $0.18 per share compared to a basic and diluted net
loss per share of $2.49 for the same period last year. Interest income decreased
$2.4 million from the prior year primarily due to a decrease in higher yielding
multifamily and commercial real estate loans, and a reduction in residential
mortgage loans, due to refinancing activity. Interest expense decreased
approximately $1.5 million due to the maturity of higher interest bearing
brokered deposits that were partially replaced with retail deposits. As a result
of these maturities and payoffs, Fidelity Federal's assets have decreased $14.4
million from March 31, 1998 to $185.2 million at March 31, 1999. Non-interest
income for the nine months ended March 31, 1999, decreased $210,000 from the
nine months ended March 31, 1998 primarily due to a decrease in gains on sales
of loans and investments, a decrease in participation fees, and a decrease in
agent fees. Non-interest expense decreased slightly to $5.5 million (excluding
the one time charges associated with Fidelity Federal's Section 42 housing
program last year).
Net Interest Income. Net interest income, Fidelity Federal's largest component
of income, represents the difference between interest and fees earned on loans,
investments and other interest earning assets, and interest paid on interest
bearing liabilities. It also measures how effectively management has balanced
and allocated Fidelity Federal's interest rate-sensitive assets and liabilities.
Net interest income for the three months ended March 31, 1999, was $999,000
compared to $1,293,000 for the three month period ending March 31, 1998, a
decrease of $294,000. Net interest income for the nine months ended March 31,
1999 was $3.4 million compared to $4.3 million a year ago, a decrease of
$875,000. These decreases are primarily attributable to decreases in earning
assets and interest bearing liabilities.
The net interest margin is a percentage computed by dividing net interest income
on a fully taxable equivalent basis ("FTE") by average earning assets and
represents a measure of basic earnings on interest bearing assets held by
Fidelity Federal. The reduction in net interest income in Fiscal 1999 was
primarily due to a decrease in average earning assets of $29.1 million, which
was offset by a decrease in average interest-bearing liabilities of $34.6
million. For the three months ended March 31, 1998 interest income was $3.4
million compared to $4.0 million for the three months March 31, 1998, a decrease
of approximately $630,000 or about 15.8%. Interest expense for the three months
ended March 31, 1999 was $2.4 million compared to $2.7 million for the three
months ended March 31, 1998, a decrease of approximately $336,000 or 12.4%.
Interest income for the nine months ended March 31, 1999 was $11.0 million
compared to $13.3 million for the same period last year, a decrease of
approximately $2.3 million or 17.3%. The reduction in average earning assets was
attributable to a significant number of multifamily and commercial loan payoffs,
as well as payoffs on residential real estate mortgage loans. The average
balance of agent-acquired certificates of deposit, which had an average yield of
6.30% for the nine months ended March 31, 1998, was reduced from $46.1 million
to $34.5 million. The average yield decreased to 6.02% for the nine months ended
March 31, 1999. The net interest margin for the three months ended March 31,
1999 decreased to 2.30% from 2.79% at June 30, 1998 and 2.73% at March 31,
11
<PAGE>
1999. The net interest margin for the nine months ended March 31, 1999 decreased
to 2.53% from 2.79% at June 30, 1998 and 2.74% at March 31, 1998. The decrease
in the margin was affected by the decrease in higher yielding multifamily
construction and commercial real estate loans.
Asset/Liability Management
Fidelity Federal is subject to interest rate risk to the degree that its
interest bearing liabilities, primarily deposits with short and medium term
maturities, mature or reprice at different rates than its interest-earning
assets. Although having liabilities that mature or reprice less frequently on
average assets will be beneficial in times of rising interest rates, such as
asset/liability structure will result in lower net income during periods of
declining interest rates, unless off-set by other factors.
The OTS utilizes a model, the "Office of Thrift Supervision Net Portfolio Value"
("NPV") model, which uses a net market value methodology to measure the interest
rate risk exposure of savings associations. Under this model, an institution's
"normal" level of interest rate risk in the event of an assumed change in
interest rates is a decrease in the institution's NPV in an amount not exceeding
2% of the present value of its assets. Savings associations with over $300
million in assets or less than 12% risk-based capital ratio are required to file
the OTS Schedule CMR. Data from Schedule CMR is used by the OTS to calculate
changes in NPV (and the related "normal" level of interest rate risk) based upon
certain interest rate changes (discussed below). Associations which do not meet
either of the filing requirements are not required to file OTS Schedule CMR, but
may do so voluntarily. United Fidelity is required to file a CMR since it does
not meet the risk-based capital requirement as of December 31, 1998. Under the
regulation, associations which must file are required to take a deduction (the
interest rate risk capital component) from their total capital available to
calculate their risk based capital requirement if their interest rate exposure
is greater than "normal". The amount of that deduction is one-half of the
difference between (a) the institution's actual calculated exposure to a 200
basis point interest rate increase or decrease (whichever results in the greater
pro forma decrease in NPV) and (b) its "normal" level of exposure which is 2% of
the present value of its assets.
Presented below, at December 31, 1998 and March 31, 1998, is an analysis
performed by the OTS of United Fidelity's interest rate risk as measured by
changes in NPV for instantaneous and sustained parallel shifts in the yield
curve, in 100 basis point increments, up and down 400 basis points. At December
31, 1998 and March 31, 1998, 2% of the present value of United Fidelity's assets
was approximately $3.8 million and $3.9 million. Because the interest rate risk
of a 200 basis point increase was $1.1 million at December 31, 1998 and $1.4
million at March 31, 1998, United Fidelity would not have been required to make
a deduction from its total capital available to calculate its risk based capital
requirement. The decrease in interest rate risk from 1999 to 1998 is due to an
improved match of expected cash flows from assets and liabilities. United
Fidelity's sensitivity to interest rate changes is in the fourth percentile of
all OTS regulated entities at December 31, 1998, the most recent period that
United Fidelity has information.
<TABLE>
<CAPTION>
Interest Rate Risk as of December 31, 1998
NPV as Percent of Present
Net Portfolio Value of Assets Value
(in thousands)
Change Dollar Dollar Percentage
in Rates Amount Change Change NPV Change
<S> <C> <C> <C> <C> <C>
+400 bp $ 9,026 $(2,316) (20)% 5.01% - 99 bp
+300 bp 9,992 (1,350) (12) 5.47 - 53 bp
+200 bp 10,835 (507) (4) 5.85 - 14 bp
+100 bp 11,377 35 0 6.07 8 bp
0 bp 11,342 5.99
-100 bp 10,707 (635) (6) 5.62 - 37 bp
-200 bp 10,258 (1,084) (10) 5.34 - 65 bp
-300 bp 9,976 (1,366) (12) 5.15 - 84 bp
-400 bp 9,596 (1,746) (15) 4.91 - 108 bp
</TABLE>
12
<PAGE>
<TABLE>
<CAPTION>
Interest Rate Risk as of March 31, 1998
NPV as Percent of Present
Net Portfolio Value of Assets Value
(in thousands)
Change Dollar Dollar Percentage
in Rates Amount Change Change NPV Change
<S> <C> <C> <C> <C> <C>
+400 bp $12,722 $(3,124) (20)% 6.90% - 121 bp
+300 bp 13,802 (2,044) (13) 7.37 - 74 bp
+200 bp 14,765 (1,081) (7) 7.76 - 35 bp
+100 bp 15,534 (312) (2) 8.05 - 6 bp
0 bp 15,846 8.11
-100 bp 15,572 (273) (2) 7.89 - 22 bp
-200 bp 14,431 (1,415) (9) 7.26 - 84 bp
-300 bp 13,188 (2,658) (17) 6.59 - 151 bp
-400 bp 12,178 (3,668) (23) 6.04 - 207 bp
</TABLE>
As with any method of measuring interest rate risk, certain shortcomings are
inherent in the methods of analysis presented above. For example, although
certain assets and liabilities may have similar maturities or periods to
repricing, they may react in different degrees to changes in market rates. Also,
the interest rates on certain types of assets and liabilities may fluctuate in
advance of changes in market interest rates, while interest rates on other types
may lag behind changes in market rates. Additionally, certain assets, such as
adjustable-rate loans, have features which restrict changes in interest rates on
a short-term basis and over the life of the assets. Further, in the event of a
change in interest rates, expected rates of prepayments on loans and early
withdrawals from certificates could likely deviate significantly from those
assumed in calculating the table.
Non-interest income. Non-interest income for the quarter ended March 31, 1999,
was $571,000 compared to $590,000 for the same period in 1998, a decrease of
only $19,000. Non-interest income for the nine months ended March 31, 1999, was
$2.2 million compared to $2.4 million for the same period in 1998, a decrease of
$210,000.
Non-interest income
- -------------------
(in thousands)
<TABLE>
<CAPTION>
Nine Months Ended
December 31, Increase
1999 1998 (Decrease)
---- ---- ----------
<S> <C> <C> <C>
Management fees $ 208 $ 265 $ (57)
Letter of credit fees 437 529 (92)
Service charges on deposit accounts 338 320 18
Net gain on sale of loans 312 140 172
Net gain on sale of investments 79 (79)
Net gain on sale of fixed assets 23 23
Release fees 62 60 2
Participation fees 197 (197)
Agent fee income 333 510 (177)
Servicing fees on loans sold (net of amortization) 18 10 8
Other 473 304 169
------- ------- -------
Total non-interest income $ 2,204 $ 2,414 $ (210)
======= ======= =======
</TABLE>
Fidelity Federal has recorded no Section 42 real estate development fees over
the past year. Fee income from management activities decreased to $208,000 for
the nine months ended March 31, 1999 compared to $265,000 for the nine months
ended March 31, 1998. The decrease is primarily due to a reduction in fee
percentage from 5% to 4% collected on partnerships for which Village Housing
Corporation is the general partner.
Letter of credit fees were $437,000 for the nine months ended March 31, 1999 as
compared to $529,000 for the nine months ended March 31, 1998. Outstanding
standby letters of credit at March 31, 1999 were $45.0 million as compared to
$55.6 million at March 31, 1998. The decrease in fee income is partially due to
the reduction in letters of credit outstanding.
13
<PAGE>
Service charges on deposit accounts increased $18,000 to $338,000 for the nine
months ended March 31, 1999 as compared to $320,000 in 1998. The net gain on
sale of single-family loans increased $172,000 for the nine months ended March
31, 1999 compared to the same period in 1998. Fidelity Federal has emphasized
growth in this area and has added originators to increase loan volume. Servicing
fees on loans sold increased $8,000 due to on increase in the number of mortgage
loans being serviced by Fidelity Federal compared to the prior year.
Participation fees decreased $197,000 from prior year due to Fidelity Federal
arranging a participation for a large multifamily loan customer last year. Other
income increased $169,000 over the nine months ended March 31, 1998 due to
increased fees earned on a multifamily loan of $22,000, income of $58,000
relating to repayment of expenses incurred in connection with a payoff on a
multifamily loan, leasing fees of $7,000, subprime mortgage agent fees of
$12,000 and title fee income of $53,000. Title fee income increased over the
prior year primarily due to increased mortgage loan volume.
Fidelity Federal has participated in an arrangement in which automobile loans
are originated on behalf of another organization for the last three fiscal
years. Agent fee income, which represents Fidelity Federal's earned fee from
these transactions, decreased $177,000 for the nine months ended March 31, 1999
compared to the same period last year. The decrease during the first six months
was primarily due to an increase in factory financing incentives offered by the
auto makers, which compete directly for financing. The primary reason for the
decrease in the current quarter was the fact that in January 1999, the head of
United Fidelity's consumer loan division and key members of the consumer loan
division staff left United Fidelity to accept employment with a competitor of
United Fidelity. In the consumer lending division, United Fidelity had
participated in an arrangement in which automobile loans were originated on
behalf of another organization. United Fidelity has been unable to continue to
compete in this market segment since the departure of the staff. As such, United
Fidelity's revenue from consumer loans has been sharply reduced.
United Fidelity received OTS approval in March 1999 to hire individuals based on
the new business plan to resume its indirect and consumer loan business. A
senior vice president and assistant vice president have been hired and the
Company is currently seeking qualified candidates for administrative operations.
Fidelity Federal anticipates that the department will be fully operational by
June 30, 1999.
Provision for Loan Losses
Fidelity Federal makes provisions for possible loan losses in amounts estimated
to be sufficient to maintain the allowance for loan losses at a level considered
necessary by management to absorb possible losses in the loan portfolios. The
provision for loan losses for the nine months ended March 31, 1999 had a credit
balance of $254,000 compared to expense of $4.5 million in the prior year, a
decrease of $4.8 million.
<TABLE>
<CAPTION>
Allowance for Loan Losses Letter Of Credit Valuation Allowance
<S> <C> <C> <C>
Beginning Balance, June 30, 1998 $3,049 Beginning Balance, June 30, 1998 $6,778
Net charge-off's 209
Provision for loan losses (254) Provision 35
Transfer from Letter Of Credit Transfer to allowance for
valuation allowance 895 loan losses (895)
------ -------
$3,481 $5,918
</TABLE>
During the quarter, as a result of a reduction in classified and criticized
assets and an overall improvement in operating results of Fidelity Federal's
affordable housing portfolio, Fidelity Federal reduced its reserve for letters
of credit and recognized income of $300,000. The $300,000 is recorded as a
credit in non-interest expense, where the original expense was recognized and is
offset by an additional $335,000 provision. The additional $335,000 letter of
credit provision did not impact net income due to offsetting credits in the
provision for loan losses. Based on the most recent loan review some reserves
were reclassified between the provision for loan losses and letter of credit
reserves. The ratio of non-performing loans to the allowance for loan losses was
149.4% at March 31, 1999 compared to 18.8% at June 30, 1998 and 24.3% at March
31, 1998. The increase in non-performing loans is due to one large multifamily
loan to an outside borrower which is past due pending its refinancing. Fidelity
Federal is assisting the borrower in obtaining alternate refinancing, however,
the ultimate refinancing of this credit with no additional losses cannot be
assured. A specific reserve has been established for this loan.
The decrease in the provision for loan losses in fiscal 1999 is primarily the
result of Fidelity Federal providing $4.5 million in the provision for loan
losses last year. As previously noted, during the fourth quarter of fiscal
14
<PAGE>
1998, the OTS performed an examination of United Fidelity and Fidelity Federal.
The methodology used by the OTS to compute the allowance for loan losses and to
establish reserves for letters of credit in connection with the Section 42
projects was different than the one previously used by Fidelity Federal to
compute these estimates. The methodology which was used by the OTS and accepted
by management considered only recent cash flows and then used those cash flows
to determine the level of debt service, given certain assumptions, the
individual affordable housing projects could support. This information was then
used to determine whether charge-offs of the loans, equity investments or
general partner loans were required and to compute specific reserves for the
remainder of those assets, as well as for the related letters of credit. A
letter of credit valuation allowance of $6.8 million was also recorded in fiscal
1998.
Non-interest expense. Non-interest expense for the quarter ended March 31, 1999,
was $1.9 million compared to $11.1 million for the same period in 1998, a
decrease of $9.2 million. Non-interest expense for the nine months ended March
31, 1999, was $5.5 million compared to $14.4 million for the same period in
1998, a decrease of $8.9 million. These decreases are primarily attributable to
the $6.8 million letter of credit provision recorded at March 31, 1998, a
writedown of $1.5 million of Fidelity Federal's investments in affordable
housing partnerships, and writedowns totaling $769,000 related to other
affordable housing project related assets. Excluding these changes in the
previous year, non-interest expense would have been $2.1 million and $5.4
million for the quarter and year-to-date, respectively.
<TABLE>
<CAPTION>
Non-interest Expense
- --------------------
(in thousands) Nine Months Ended
March 31, Increase
1999 1998 (Decrease)
---- ---- ----------
<S> <C> <C> <C>
Salaries and employee benefits $ 2,617 $ 2,570 $ 47
Letter of credit valuation provision 35 6,778 (6,743)
Write down of affordable housing partnership investments 1,478 (1,478)
Legal and professional 263 249 14
Occupancy expense 293 342 (49)
Equipment expense 218 264 (46)
Data processing expense 297 364 (67)
Affordable housing group activity expense 769 (769)
Advertising 149 158 (9)
Deposit insurance 178 102 76
Correspondent bank charges 117 119 (2)
Printing and supplies 91 89 2
Loss on investment 215 68 147
Telephone 53 56 (3)
Postage 77 56 21
Travel and lodging 23 34 (11)
Other operating expense 877 921 84
-------- -------- --------
Total non-interest expense $ 5,503 $ 14,417 $ (8,914)
======== ======== ========
</TABLE>
Salaries and employee benefits increased $47,000 for the nine months ended March
31, 1999, compared to the same period last year. Salaries increased primarily
due to an increase in incentives in the mortgage loan area as a result of
increased originations over the prior year and some staffing replacements. Legal
and professional fees increased $14,000 over last year due to additional costs
incurred for workout activities with respect to various classified assets.
Occupancy and equipment expenses decreased by $49,000 and $46,000 respectively,
compared to the prior year as management continues to closely monitor expenses.
Data processing expenses decreased $67,000 due to a smaller number of
transactions with our data processor due to the reduction in asset size. For the
nine months ended March 31, 1998, Fidelity Federal incurred expenses associated
with the writeoffs of various components of Section 42 and multifamily projects
consisting of abandoned projects, partnership management fees, land, real estate
investment banking fees, letter of credit fees and development fees totaling
$769,000. Deposit insurance increased $76,000 from the prior year, due to the
change in United Fidelity's risk classification compared to the prior year.
Fidelity Federal has recorded it's percentage share of losses, as accounted for
by the equity method, for its investment in various developments by $215,000
compared to $68,000 in the prior year. These writedowns are partially offset by
tax credits received and recorded as reductions of
15
<PAGE>
income tax expense. Other operating expense increased $84,000 as compared to the
previous year due primarily to the expiration of a $50,000 land option that was
not exercised and a $21,000 increase in appraisal and other expenses associated
with Fidelity Federal's efforts in refinancing several of the partnerships.
Income Tax Expense. Income tax expense increased $4.8 million for the nine
months ended March 31, 1999, compared to the same period in 1998, primarily due
to an increase in taxable income. Included in the tax benefit of $200,000 for
the nine months ended March 31, 1999, are tax credits of $266,000. These credits
are received from Fidelity Federal's investment in Section 42 affordable housing
projects and comprise a portion of the return on these investments. The Company
also receives the tax benefit of its percentage of the operating losses for
those projects. Some of these benefits associated with these tax credits are
partially offset by reductions of the investment in the Section 42 investments,
which are included in the above table under the caption "Loss on investment".
Year 2000
Fidelity Federal has completed an assessment of its computer systems and
identified those systems that it believes could be affected by the Year 2000
issue and has developed an implementation plan to address the issue. Fidelity
Federal, in addition to completing its assessment and plan, is currently testing
its internal mission critical hardware systems to determine if they are Year
2000 compliant. Internal testing is scheduled to be completed by May 31, 1999.
Fidelity Federal has tested several of its systems, including 90% of all systems
currently being provided by Fidelity Federal's main data processor. Mortgage
loan software, personnel computers, alarms, cameras, VCR's and other related
equipment has also been tested. The results from the testing, while
necessitating some modifications, have been satisfactory. The testing of
consumer loan software used for scoring applicants will be upgraded and
compliant by the end of May. The testing for accounting software used for the
partnerships, by Village Housing, will be completed by May 31, 1999. While
Fidelity Federal has exposure to several risks related to Year 2000, the primary
risk is the potential inability to correctly process and record customer loan
and deposit transactions.
Fidelity Federal is now on schedule with regard to requirements that have been
established for the banking industry by the Federal Financial Institution
Examination Council ("FFIEC"). Theses standards require that a series of
procedures be performed by financial institutions within established timeframes
to reduce the risk of non-compliance with the Year 2000 issue. Specifically,
Fidelity Federal has developed a testing plan and a customer-based risk
management plan. While Fidelity Federal believes that it will continue to meet
all of the FFIEC requirements, it cannot guarantee that the systems of other
companies on which Fidelity Federal's systems rely will be compliant. Third
party non-compliance for the Year 2000 issue could potentially have a material
impact on Fidelity Federal.
Fidelity Federal has completed a contingency plan in the event its internal
systems, or the systems of those material vendors on which it is reliant on,
would not be complaint with Year 2000 requirements. Fidelity Federal has begun
and will continue testing the contingency plan and modifying the contingency
plan when appropriate, based on test results.
The Company has recognized expense of approximately $85,000 over the past two
years for costs related to Year 2000. The amounts that have been paid to date
were to provide assistance to Fidelity Federal with the initial assessment and
formulation of the plan to ensure compliance with Year 2000, equipment to assist
in the testing process and replacement of non-compliant personal computers and
equipment. At March 31, 1999, Fidelity Federal has completed its assessment of
the expected total cost of performing necessary procedures or purchasing
equipment that is compliant with Year 2000. Fidelity Federal is anticipating
costs of approximately $275,000 to ensure Year 2000 compliance. A portion of
these costs will be capitalized with the purchase and replacement of
non-compliant equipment. Fidelity Federal anticipates that it will incur an
additional $60,000 in expense by December 31, 1999. At March 31, 1999, total
commitments to purchase new equipment, software or to incur material costs to
modify existing systems were approximately $130,000. These costs do not include
salaries paid to current employees related to their time spent with the year
2000 issue.
Fidelity Federal outsources a significant portion of its data processing to an
outside provider. A worst case scenario for Fidelity Federal would likely
involve non-compliance with Year 2000 by its primary data processor in such a
manner that would leave Fidelity Federal in a position where it could not
correctly process and record customer loan and deposit transactions. Fidelity
Federal has reviewed a substantial portion of the data processing provider's
test scripts and results. At this time, no material problems have come to
Fidelity Federal's attention with respect to test results. A failure by other
third parties to effectively manage the Year 2000 issue, including Fidelity
Federal's payroll processor, utility company, telecommunications company, or the
government, etc.,
16
<PAGE>
could have an adverse effect on Fidelity Federal operations, customer service
and net income. No assurance can be provided that these third parties will be
Year 2000 compliant.
Fidelity Federal completed its assessment of the potential impact of Year 2000
on its commercial lending customers, and believes the impact, in terms of
potential credit exposure, would not be material. The majority of Fidelity
Federal's commercial lending portfolio consists of commercial real estate loans
that are made to companies that are not highly technologically intensive.
Fidelity Federal cannot provide any assurance that the effect of Year 2000 will
not be material to Fidelity Federal's financial position or operating results.
Financial Condition
Total assets decreased by $11.8 million from June 30, 1998, to approximately
$185.2 million at March 31, 1999.
Loans. The following table shows the composition of Fidelity Federal's loan
portfolio as of March 31, 1999 and June 30, 1998.
Loans Outstanding
- -----------------
(in thousands)
March 31, June 30,
1999 1998
--------- ---------
Real estate mortgage loans
First mortgage loans
Conventional $ 52,726 $ 71,343
Construction 8,504 16,110
Commercial 15,284 20,753
Multifamily 7,581 5,742
First mortgage real estate loans purchased 2,263 2,704
Commercial loans - other than secured by real estate 6,570 11,568
Consumer and home equity loans 30,576 31,512
-------- --------
Total loans $123,504 $159,732
======== ========
Total assets $185,240 $197,046
======== ========
Total loans to total assets 66.7% 81.1%
======== ========
Total loans decreased by $36.2 million or 22.7% to $123.5 million at March 31,
1999, compared to June 30, 1998. Fidelity Federal's savings bank is continually
offering new and competitive first mortgage loan products. Fidelity Federal
continues to sell current production of 1-4 family loans in fiscal 1999,
recording the gain or loss and using the proceeds to fund new products. As a
result of historically low market interest rates, payoffs of conventional
residential real estate mortgage loans decreased the portfolio by $18.6 million
from June 30, 1998 to March 31, 1999.
Construction loans decreased by $7.6 million at March 31, 1999 from June 30,
1998 to $8.5 million at March 31, 1999. Construction loans at March 31, 1999
include $6.8 million of multifamily loans.
Commercial loans have also decreased $5.5 million since June 30, 1998. According
to the OTS supervisory agreement, United Fidelity is not to enter into any new
lines of credit or originate any new commercial loans. The focus of United
Fidelity's commercial lending department personnel has been to develop action
plans to minimize potential losses relating to its classified commercial credits
and its letter of credit exposure.
Consumer and home equity loans decreased $936,000 since June 30, 1998. The
current portfolio continues to shrink due to paydowns and payoffs. As previously
mentioned in the "non-interest income" discussion, Fidelity Federal has
experienced employee turnover in the consumer loan division and has therefore
generated a lower volume of loans. As a result of hiring a Senior Vice President
and Assistant Vice President to head the consumer loan division, management
anticipates that consumer loan volume will increase from levels attained in the
third fiscal quarter of 1999.
17
<PAGE>
Fidelity Federal's loan portfolio contains no loans to foreign governments,
foreign enterprises, foreign operations of domestic companies, hedge funds, or
for highly leveraged transactions.
Non-performing loans. Fidelity Federal discontinues the accrual of interest
income on loans when, in the opinion of management, there is reasonable doubt as
to the timely collectibility of interest or principal. When a loan reaches a
ninety day or more past due status, the asset is generally repossessed or sold,
if applicable, or the foreclosure process is started and the loan is moved to
other real estate owned to be sold. A loan could be placed in a nonaccrual
status sooner than ninety days, if management knows the customer has abandoned
the collateral and has no intention of paying. At this point, the loan would go
into non-accrual status and Fidelity Federal would start the repossession or
foreclosure process. Typically, when a loan goes to nonaccrual status, the
accrued interest is reversed from income, unless strong evidence exists that the
value of the collateral would support the collection of interest in a
foreclosure situation. Nonaccrual loans are returned to an accrual status when
in the opinion of management, the financial position of the borrower indicates
that there is no longer any reasonable doubt as to the timely payment of
principal and interest.
Non-performing loans
- --------------------
(in thousands)
March 31, June 30,
1999 1998
-------- --------
Nonaccrual loans:
Multifamily $4,112
Mortgage 67 $ 461
------ ------
Subtotal 4,179 461
Restructured:
Consumer 77
90 days or more past due:
Consumer 120 86
Commercial 747
Mortgage 79 26
------ ------
Subtotal 946 112
------ ------
Total $5,202 $ 573
====== ======
Percent of total loans 4.21% 0.36%
====== ======
Non-performing loans at March 31, 1999, consisted primarily of commercial and
multifamily loans. As discussed in the provision for loan loss section, the
increase in non-performing loans is due to one large multifamily loan to an
outside borrower which is past due pending its refinancing. Company officials
are assisting the borrower in obtaining alternate financing, however, the
ultimate refinancing of this credit with no additional losses cannot be assured.
One multifamily loan which was reported in the September 30, 1998, Form 10-Q, of
$4.2 million with a specific reserve of $895,000 paid off in full during the
second quarter. The specific reserve associated with this loan was reallocated
among the loan categories, based on the most recent loan review and evaluation
by Fidelity Federal. The remaining multifamily affordable housing loans, for
which specific reserves have been computed, are currently performing with
respect to debt service and are therefore not included in the above
"non-performing loans" totals. In the past, the ability of the multifamily loans
to remain performing has been in part due to general partner advances made by
Fidelity Federal to support cash flow deficits incurred by the affordable
housing projects. During the current fiscal year, operating cash flows for most
of the properties has improved and general partner advances have significantly
decreased. There is no assurance that general partner advances will not be
necessary in the future to support cash flow deficits. The majority of recorded
general partner advances were charged off in fiscal 1998.
18
<PAGE>
Classified Assets and Letters of Credit
(in thousands)
March 31, June 30, March 31,
--------- -------- ---------
1999 1998 1998
Classified assets $21,244 $24,805 $29,270
Classified letters of credit 25,450 34,615 37,770
------- ------- -------
Total classified assets/letters of
credit $46,694 $59,420 $67,040
======= ======= =======
Classified and criticized assets of Fidelity Federal totaled $46.7 million
compared to $59.4 million at June 30, 1998. Classified assets and letters of
credit were 280.4% of Fidelity Federal's capital and reserves at March 31, 1999
compared to 377.5% at March 31, 1998.
Analysis of Allowance for Loan Losses and Letter of Credit Valuation Allowance
Fidelity Federal establishes its provision for loan losses and evaluates the
adequacy of the allowance for loan losses based on management's evaluation of
its loan and letter of credit portfolio and changes in loan and letter of credit
activity. Such evaluation, which includes a review of all loans and letters of
credit for which full collectibility may not be reasonably assured, considers
among other matters, the estimated fair value of the underlying collateral,
economic conditions, historical loss experience, the composition of the
portfolios and other factors that warrant recognition in providing for an
adequate loan loss allowance and letter of credit valuation allowance. This
process is designed to ensure that all relevant matters affecting collectibility
will be consistently identified in a detailed review and that the outcome of the
review will be considered in a disciplined manner by management in determining
the necessary allowances and related provisions. The amounts actually reported
in each period will vary with the outcome of this detailed review.
Impaired loans are those that management considers to be substandard or doubtful
of collection. At March 31, 1999 Fidelity Federal had impaired loans totaling
$12.7 million. The allowance for losses on such impaired loans totaled $1.9
million and is included in Fidelity Federal's allowance for loan losses at March
31, 1999. In addition, using the same guidelines for impaired loans, impaired
letter of credits totaled $18.0 million. The valuation allowance on such
impaired letter of credits totaled $2.9 million and is included in Fidelity
Federal's letters of credit valuation allowance at March 31, 1999.
19
<PAGE>
The following table sets forth loan charge-offs and recoveries by the type of
loan and an analysis of the allowance for loan losses for the nine months ended
March 31, 1999 and the year ended June 30, 1998:
Allowance for Loan Losses
- -------------------------
(in thousands) March 31, June 30,
1999 1998
---- ----
Allowance for loan losses
Balance at July 1, $ 3,049 $ 1,781
Loan charge-offs:
Real estate mortgage 15
Multifamily 3,089
Commercial 14
Consumer 239 195
--------- ---------
Total loan charge-offs 253 3,299
Loan recoveries:
Real estate mortgage 15
Commercial 2
Consumer 27 24
--------- ---------
Total loan recoveries 44 24
Net charge-offs 209 3,275
Provision for loan losses (254) 4,543
Transfer from letter of credit
valuation allowance 895
--------- ---------
Allowance for loan losses
at end of period $ 3,481 $ 3,049
========= =========
Ratio of net charge-offs to
average loans outstanding
during the period 0.19% 1.18%
Ratio of provision for loan losses `
to average loans outstanding
during the period -0.23% 2.52%
Ratio of allowance for loan
losses to total loans outstanding
at end of period 2.82% 1.91%
Average amount of loans
outstanding for the period 144,095 180,530
Amount of loans
outstanding at end of period $ 123,504 $ 159,732
The allowance for loan losses was $3.0 million at June 30, 1998, $3.5 million at
March 31, 1999, and $3.1 million at March 31, 1998. Net loan charge-offs were
$209,000 or .19% of average loans for the nine months ended March 31, 1999
compared to $3.3 million or 1.18% of average loans for the nine months ended
March 31,1998. A letter of credit was funded during the first quarter of fiscal
1999 and was classified as a non-accrual loan upon conversion. This loan was
previously classified as a substandard letter of credit, with a specific reserve
of $895,000. The loan was paid off in full during the second quarter of fiscal
1999 and Fidelity Federal reclassified the $895,000 specific reserve to the
general allowance for loan losses, based on the most recent loan review by
Fidelity Federal. As discussed previously, Fidelity Federal increased the
provision for loan losses during fiscal 1998 primarily in connection with loans
made to certain Section 42 tax-credit real estate development projects that
Fidelity Federal is currently managing. Fidelity Federal has loans and letters
of credit securing third party loans to these projects and also has other loans
and letters of credit outstanding that relate to other multifamily developments,
most of which are outside Fidelity Federal's geographic market.
Fidelity Federal also recorded a letter of credit valuation allowance and
related provision of $6.8 million in fiscal 1998, the balance of which is $5.9
million at March 31, 1999. The decrease is primarily due to the transfer of
$895,000 from the letter of credit valuation allowance to the allowance for loan
losses that is discussed in the preceding paragraph. Multifamily letters of
credit, an off-balance sheet item, carry the same risk characteristics
20
<PAGE>
as conventional loans and totaled $45.0 million at March 31, 1999. Specific
reserves for letters of credit totaled 13.14% of outstanding letters of credit
at March 31, 1999. Classified loans and letters of credit to total loans and
letters of credit were 27.9% at March 31, 1999 and 28.2% at March 31, 1998.
Management is not aware of any additional letters of credit that are expected to
be called and funded. Management considers the allowance for loan losses and
letter of credit valuation reserve adequate to meet losses inherent in the loan
portfolio as of March 31, 1999.
Investment securities. United Fidelity's investment policy is annually reviewed
by its Board of Directors and any significant changes to the policy must be
approved by the Board. The Board has an asset/liability management committee
which is responsible for keeping the investment policy current.
As of March 31, 1999, the investment portfolio represented 12.0% of Fidelity
Federal's assets compared to 5.0% at June 30, 1998, and is managed in a manner
designed to meet the Board's investment policy objectives. Due to continued
reductions in the loan portfolio, the excess liquidity has been reinvested in
lower risk investment securities. The primary objectives, in order of priority,
are to further the safety and soundness of Fidelity Federal, to provide the
liquidity necessary to meet day to day funding needs, and to provide for
diversification of risk and management of interest rate and economic risk. At
March 31, 1999, the entire investment portfolio was classified as available for
sale. The net unrealized loss at March 31, 1999 was $120,000, which was
comprised of gross gains of $1,000, gross losses of $199,000, and a tax benefit
of $78,000. The decrease of $78,000 from June 30, 1998 was caused by market
interest rate changes during the period. Although the entire portfolio is
available for sale, management has not identified individual investments for
sale in future periods.
The following table sets forth the components of United Fidelity's securities
available for sale as of the dates indicated.
March 31, June 30,
1999 1998
---- ----
(in thousands)
Securities available for sale:
U.S. Treasury securities $ 1,001
Federal agencies securities 2,985
Federal Home Loan Mortgage Corporation
mortgage-backed securities 1,311 1,779
Federal National Mortgage Association
mortgage-backed securities 1,603 1,945
Government National Mortgage Association
mortgage-backed securities 19,240 2,144
Other securities available for sale 1
-------
Total securities available for sale $22,155 $ 9,854
======= =======
United Fidelity's total investment securities portfolio increased by $12.3
million at March 31, 1999, from June 30, 1998. United Fidelity purchased $18.2
million in GNMA mortgage backed securities, which carry a 0% risk weight, during
fiscal 1999. There were maturities of $4.0 million relating to agency bonds,
while the remaining decreases are monthly payments of principal and interest on
its mortgage-backed securities. These certificates represent ownership of pools
of one-to-four family mortgage loans. As interest rates decline, principal of
the underlying mortgage loans typically is returned more quickly in the form of
payoffs and refinancings.
Funding Sources
Deposits. United Fidelity attracts both short-term and long-term deposits from
the retail market by offering a wide assortment of accounts with different terms
and different interest rates. These deposit alternatives include checking
accounts, regular savings accounts, money market deposit accounts, fixed rate
certificates with varying maturities, variable interest rate certificates,
negotiable rate jumbo certificates ($100,000 or more), and variable rate IRA
certificates.
Average deposits decreased by $13.3 million during the first nine months of
fiscal 1999. Most of the decreases were due to certificates of deposit acquired
through agents, and retail certificates of deposit which decreased $7.9 million
and $4.3 million to $34.5 million and $81.4 million, respectively at March 31,
1999. Money market
21
<PAGE>
accounts decreased $284,000. NOW accounts decreased $1.4 million, which was
partially offset by an increase in demand and savings accounts of $294,000 and
$228,000, respectively.
The following table sets forth the average balances of and the average rate paid
on deposits by deposit category for the nine months ended March 31, 1999 and for
the year ended June 30, 1998.
<TABLE>
<CAPTION>
Nine Months Ended Year Ended
March 31, 1999 June 30, 1998
----------------- ----------------------
Average Average
Balance Rate Balance Rate
------- ---- ------- ----
<S> <C> <C> <C> <C>
(dollars in thousands)
Average Deposits
Demand $ 5,524 $ 5,229
Now accounts 20,809 3.59% 22,211 4.24%
Money market accounts 2,743 2.32 3,027 2.71
Savings accounts 5,041 2.28 4,813 2.83
Certificates of deposit 81,419 5.81 85,699 5.80
Agent-acquired certificates of deposit 34,545 6.02 42,443 6.26
-------- --------
Total $150,081 5.16% $163,422 5.38%
======== ========
</TABLE>
Federal Home Loan Bank Advances and Other Long-Term Debt. The following table
summarizes Fidelity Federal's borrowings as of March 31, 1999, and June 30,
1998.
<TABLE>
<CAPTION>
March 31, June 30,
1999 1998
---- ----
(in thousands)
<S> <C> <C>
Notepayable, 7.43% adjusted annually, payable $16 per month, including
interest, due April 1, 2009,
secured by specific multifamily mortgages $2,191 $2,210
Note payable, 8.75% adjusted annually, payable $8
per month, including interest, due September 14, 2010,
secured by specific multifamily mortgages 993 996
Note payable, 8.75% adjusted annually, payable $12
per month, including interest, due September 22, 2010,
secured by specific multifamily mortgages 1,520 1,529
Junior subordinated notes, 9 1/8%, interest paid
semi-annually, due April 30, 2001, unsecured 1,476 1,476
Junior subordinated notes, 9 1/4% interest paid
semi-annually, due January 31, 2002 unsecured 1,494 1,494
Senior subordinated notes, 10%, interest paid semi-
annually, due June 1, 2005, unsecured 7,000 7,000
Federal Home Loan Bank advances due at various dates
through 2002 12,204 14,783
------- -------
Total $26,878 $29,488
======= =======
</TABLE>
22
<PAGE>
In the above table, all notes, except for the Federal Home Loan Bank advances,
are debt of the Parent Company and total $14.7 million. Borrowings have been
reduced during fiscal 1999 primarily due to large payoffs received in loans and
the continued sales of current 1-4 family loan production. The decrease is due
primarily to the maturity of FHLB advances. Fidelity Federal, thus far, has been
in a position to allow FHLB advances to mature and not replace them. Alternate
funding sources were provided by loan sales and payoffs, retail deposits, and
public funds. Fidelity Federal may utilize FHLB advances, as a source of funds
again should the need arise.
Capital Resources and Capital Requirements
The ratio of stockholders' equity to total assets for United Fidelity, was 7.86%
at March 31, 1999, compared to 6.31% at June 30, 1998, due primarily to a
reduction in United Fidelity's asset size. Fidelity Federal issued stock in
exchange for a general partnership interest in a Fidelity Federal-financed
multifamily housing development. This issuance of stock, and net income for the
period increased the book value, while an increase in the unrealized loss on
available for sale investments decreased the ratio. Fidelity Federal's book
value per share at March 31, 1999 was $2.57, compared to $2.40 at June 30, 1998.
The OTS has adopted capital standards under which savings associations must
maintain (i) "core capital" in an amount not less than 3% of total assets, (ii)
"tangible capital" in an amount not less than 1.5% of total adjusted assets, and
(iii) a level of risk-based capital equal to 8.0% of risk-weighted assets. The
capital standards established by the OTS for savings associations must generally
be no less stringent than those applicable to national banks.
Under OTS regulations "core capital" includes common stockholders' equity,
noncumulative perpetual preferred stock and related surplus, and minority
interests in the equity accounts of consolidated subsidiaries, less intangible
assets other than certain qualifying supervisory goodwill and certain purchased
mortgage servicing rights. In determining compliance with the capital standards,
a savings association must deduct from capital its entire investment in and
loans to any subsidiary engaged in activities not permissible for a national
bank, other than subsidiaries (i) engaged in such non-permissible activities
solely as agent for their customers; (ii) engaged in mortgage banking
activities; or (iii) that are themselves savings associations, or companies the
only investment of which is another insured depository institution, acquired
prior to May 1, 1989. In determining total risk-weighted assets for purposes of
the risk based requirement, (i) each off-balance sheet asset must be converted
to its on-balance sheet credit equivalent amount by multiplying the face amount
of each such item by a credit conversion factor ranging from 0% to 100%
(depending upon the nature of the asset), (ii) the credit equivalent amount of
each off-balance sheet asset and the book value of each on-balance sheet asset
must be multiplied by a risk factor ranging from 0% to 100% (again depending
upon the nature of the asset), and (iii) the resulting amounts are added
together and constitute total risk-weighted assets. Total capital, for purposes
of the risk-based capital requirement, equals the sum of core capital plus
supplementary capital (which, as defined, includes, among other items, perpetual
preferred stock not counted as core capital, limited life preferred stock,
subordinated debt, and general loan and lease loss allowances up to 1.25% of
risk-weighted assets) less certain deductions including the savings
association's interest-rate risk component. The amount of supplementary capital
that may be counted towards satisfaction of the total capital requirement may
not exceed 100% of core capital.
At March 31, 1999, actual and required minimum levels of regulatory capital for
United Fidelity were as follows:
<TABLE>
<CAPTION>
(Dollars in Thousands)
Required
Amount Percent Amount Percent Excess
-------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Core $14,011 7.86% $5,350 3.0% $8,661
Tangible $14,011 7.86% $2,675 1.5% $11,336
Risk-based $20,680 14.46% $11,442 8.0% $9,238
</TABLE>
Pursuant to HOLA of 1933, as amended, the OTS is required to issue capital
standards that are no less stringent than those applicable to national banks. In
April 1991, the OTS proposed to amend its capital regulations to reflect
amendments made by the OCC to the leverage ratio capital requirement for
national banks. The proposal would establish a core capital leverage ratio (core
capital to adjusted total assets) of 3% for savings associations
23
<PAGE>
rated composite 1 under the OTS MACRO rating system. For all other savings
associations, the minimum core capital leverage ratio would be 3% plus at least
an additional 100 to 200 basis points. Under the proposal, the OTS may impose
higher regulations for individual savings associations. The OTS has not adopted
this regulation in final form. The prompt corrective action regulation adopted
by the OTS provides that a savings association that has a leverage capital ratio
of less than 4% will be considered "undercapitalized" and may be subject to
certain restrictions. At March 31, 1999 United Fidelity had a core capital
leverage ratio (as defined in the proposal) of 7.86%.
The OTS adopted a final regulation adding an interest-rate risk component to its
risk-based capital rule. A savings association's interest-rate risk is generally
defined as the change that occurs to its net portfolio value as a result of a
hypothetical two hundred basis point increase or decrease in market interest
rates. A "normal level" of interest-rate risk is defined as any decline in net
portfolio value of up to 2% of the institution's assets. If the 2% threshold is
exceeded, a savings association will be required to deduct from its capital, for
purposes of determining whether the institution meets its risk-based capital
requirements, an amount equal to one-half of the difference between the measured
risk and 2% of assets.
Capital requirements higher than the generally applicable minimum requirement
may be established for a particular savings association if the OTS determines
that the institution's capital was or may become inadequate in view of its
particular circumstances. Individual minimum capital requirements may be
appropriate where the savings association is receiving special supervisory
attention, has a high degree of exposure to interest rate risk, or poses other
safety or soundness concerns.
The capital category assigned to an entity can also be affected by qualitative
judgments made by regulatory agencies about the risk inherent in the entity's
activities that are not part of the calculated ratios. At March 31, 1999 and
March 31, 1998, United Fidelity was categorized as well capitalized and met all
subject capital adequacy requirements at those dates. United Fidelity's primary
regulatory agency, the OTS, notified United Fidelity in October 1998 that its
capital position was not adequate and needed to be substantially improved, which
was detailed in the Supervisory Agreement. Since June 30, 1998 United Fidelity's
capital ratio has increased from 10.79% to 14.46% through the shrinkage of
assets leaving a higher risk weighting or investing in lower risk weighted
assets.
Fidelity Federal plans to evaluate alternatives and pursue opportunities to
raise additional capital in Final 1999 with the purpose of continuing to improve
its capital ratios. The Company recently filed a Form S-3 with the SEC on March
24, 1999. Fidelity Federal is in the process of raising capital by issuing
approximately 525,000 shares to its existing shareholders as of the record date.
Approximately $1.5 million will be infused into United Fidelity to continue
improving its capital ratios while the remainder will service existing debt at
Fidelity Federal.
Liquidity
Liquidity for a savings bank represents its ability to accommodate growth in
loan demand and/or reduction in deposits. United Fidelity's liquidity ratio was
29.98% on March 31, 1999, up from 6.70% on June 30, 1998. The liquidity ratio
has increased because of payoffs of commercial and conventional mortgage loans.
Management believes that this level of liquidity is sufficient to meet any
anticipated requirements for the Bank's operations. Federal regulations have
historically required the Bank to maintain minimum levels of liquid assets. The
required percentage has varied from time to time based on economic condition and
savings flows, and is currently 4% of net withdrawable savings deposits and
borrowings payable on demand or in one year or less during the preceding
calendar month.
24
<PAGE>
PART II -- OTHER INFORMATION
ITEM 1 Legal Proceedings:
-------------------
There are no material pending legal proceedings, other than ordinary
routine litigation incidental to the Registrant's business, to which the
Registrant or its subsidiaries are a party of or which any of their
property is the subject.
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:
----------------------------------------------------
None
ITEM 5 Other Information:
------------------
None
ITEM 6 Exhibits and Reports on Form 8-K:
---------------------------------
a. The following exhibit is submitted herewith:
27 Financial Data Schedule
b. No new reports on Form 8-K.
A Form 8-K was previously filed on February 8, 1999 and was
included in the December 31, 1998 Form 10-Q filing.
25
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
FIDELITY FEDERAL BANCORP
Date: MAY 14, 1999 By: /s/ M. BRIAN DAVIS
--------------- ----------------------------------
M. Brian Davis
President and CEO
By: /s/ DONALD R. NEEL
----------------------------------
Donald R. Neel,
Executive Vice President, CFO and
Treasurer
(Principal Financial Officer)
26
<PAGE>
Exhibit Index
Reg. S-K
Exhibit No. Description of Exhibit Page
- -------------------------------------------------------------------------
27 Financial Data Schedule 28
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM
FIDELITY FEDERAL BANCORP CONSOLIDATED BALANCE SHEET AS OF 3/31/99 AND THE
CONSOLIDATED INCOME STATEMENT FOR THE NINE MONTHS ENDED 3/31/99 AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> JUN-30-1999
<PERIOD-START> JUL-01-1998
<PERIOD-END> MAR-31-1999
<CASH> 1,764
<INT-BEARING-DEPOSITS> 22,537
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 22,155
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 123,504
<ALLOWANCE> 3,481
<TOTAL-ASSETS> 185,240
<DEPOSITS> 141,504
<SHORT-TERM> 25
<LIABILITIES-OTHER> 8,734
<LONG-TERM> 26,878
0
0
<COMMON> 3,148
<OTHER-SE> 4,951
<TOTAL-LIABILITIES-AND-EQUITY> 185,240
<INTEREST-LOAN> 9,418
<INTEREST-INVEST> 529
<INTEREST-OTHER> 1,008
<INTEREST-TOTAL> 10,955
<INTEREST-DEPOSIT> 5,808
<INTEREST-EXPENSE> 7,538
<INTEREST-INCOME-NET> 3,417
<LOAN-LOSSES> 312
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 5,503
<INCOME-PRETAX> 372
<INCOME-PRE-EXTRAORDINARY> 372
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 572
<EPS-PRIMARY> .18
<EPS-DILUTED> .18
<YIELD-ACTUAL> 2.53
<LOANS-NON> 4,179
<LOANS-PAST> 946
<LOANS-TROUBLED> 77
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 3,049
<CHARGE-OFFS> 253
<RECOVERIES> 44
<ALLOWANCE-CLOSE> 3,481
<ALLOWANCE-DOMESTIC> 3,331
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 150
</TABLE>
