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 December 31, 1998
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 February 10, 1999, there were 3,147,664 shares of the Registrant's common
stock, $1 stated value, issued and outstanding.
Exhibit Index is on page 28.
<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 .............................................. 12
Financial Condition................................................. 17
Capital Resources and Capital Requirements.......................... 23
Liquidity........................................................... 25
PART II - OTHER INFORMATION............................................... 26
SIGNATURES................................................................ 27
EXHIBIT INDEX............................................................. 28
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>
DECEMBER 31, JUNE 30,
1998 1998
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C>
ASSETS
Cash and due from banks $ 1,120 $ 1,683
Short-term interest-bearing deposits 8,840 6,260
Federal funds sold 20,000
--------- ---------
Total cash and cash equivalents 29,960 7,943
Interest-bearing deposits 6
Investment securities available for sale 13,119 9,854
Loans 136,658 159,732
Allowance for loan losses (3,931) (3,049)
--------- ---------
Net loans 132,727 156,683
Premises and equipment 5,703 5,846
Federal Home Loan Bank of Indianapolis stock 3,920 3,920
Income tax receivable 3,168 6,690
Other assets 5,724 6,104
--------- ---------
Total assets $194,321 $197,046
========= =========
LIABILITIES
Deposits
Non-interest bearing $ 6,279 $ 4,760
Interest-bearing 144,368 144,179
--------- ---------
Total deposits 150,647 148,939
Short-term borrowings 135 2,531
FHLB advances and other long-term debt 28,213 29,488
Advances by borrowers for taxes and insurance 412 426
Letter of credit valuation allowance 5,883 6,778
Other liabilities 995 1,369
--------- ---------
Total liabilities 186,285 189,531
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 - 3,147,664 and 3,127,208 shares 3,148 3,127
Capital surplus 10,869 10,799
Stock warrants 11 11
Retained earnings, (deficit) (5,944) (6,380)
Accumulated other comprehensive loss-net unrealized losses
on investment securities available for sale (48) (42)
--------- ---------
Total stockholders' equity 8,036 7,515
--------- ---------
Total liabilities and stockholders' equity $ 194,321 $ 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.
3
<PAGE>
FIDELITY FEDERAL BANCORP
AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF INCOME
(IN THOUSANDS, EXCEPT FOR SHARE DATA)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
DECEMBER 31, DECEMBER 31,
1998 1997 1998 1997
------ ------ ------ ------
<S> <C> <C> <C> <C>
INTEREST INCOME
Loans receivable $3,215 $4,081 $6,696 $8,608
Investment securities 129 167 270 375
Federal funds sold 11 41 11 70
Interest-bearing deposits 275 86 457 127
Other interest and dividend income 79 78 158 160
------ ------ ----- -----
Total interest income 3,709 4,453 7,592 9,340
------ ------ ----- -----
INTEREST EXPENSE
Deposits 1,983 2,352 3,992 4,886
Federal Home Loan Bank advances 231 321 475 681
Other interest expense 342 384 707 775
------ ------ ----- -----
Total interest expense 2,556 3,057 5,174 6,342
------ ------ ----- -----
NET INTEREST INCOME 1,153 1,396 2,418 2,998
Provision for loan losses 75 90 150 225
------ ------ ----- -----
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 1,078 1,306 2,268 2,773
------ ------ ----- -----
NON-INTEREST INCOME
Management fees 60 75 154 182
Service charges on deposit accounts 114 126 233 241
Net gains on sale of
Investment securities 74 74
Real estate loans 115 48 223 110
Premises and equipment 23
Letter of credit fees 146 183 291 377
Agent fee income 158 165 325 384
Loan participation fees 197 197
Other income 145 106 384 259
------ ------ ----- -----
Total non-interest income 738 974 1,633 1,824
------ ------ ----- -----
NON-INTEREST EXPENSE
Salaries and employee benefits 865 888 1,752 1,727
Net occupancy expense 104 109 209 222
Equipment expense 74 89 150 177
Data processing expense 103 100 192 189
Deposit insurance expense 72 45 106 60
Legal and professional fees 107 61 177 131
Advertising 51 51 102 103
Other expense 412 354 941 737
------ ------ ----- -----
Total non-interest expense 1,788 1,697 3,629 3,346
------ ------ ----- -----
INCOME BEFORE INCOME TAX 28 583 272 1,251
Income tax expense (73) 175 (165) 334
------ ------ ----- -----
NET INCOME $ 101 $ 408 $ 437 $ 917
====== ====== ===== =====
PER SHARE:
Basic net income $ 0.03 $ 0.13 $0.14 $0.33
Diluted net income 0.03 0.13 0.14 0.32
WEIGHTED AVERAGE SHARES OUTSTANDING 3,147,664 3,128,730 3,138,769 2,879,671
</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 SIX MONTHS ENDED
DECEMBER 31, DECEMBER 31,
1998 1997 1998 1997
------ ------ ------ ------
<S> <C> <C> <C> <C>
BEGINNING BALANCES $7,954 $14,381 $7,515 $12,936
Comprehensive income:
Net income 101 408 437 917
Other comprehensive income (19) (64) (6) (10)
------ ------- ------ -------
Comprehensive income 82 344 431 907
Cash dividends (324) (624)
Issuance of stock 90
Purchase of treasury stock (10) (10)
Exercise of stock warrants 1,311 2,493
------ ------- ------ -------
BALANCES, DECEMBER 31 $8,036 $15,702 $8,036 $15,702
====== ======= ====== =======
</TABLE>
See notes to consolidated condensed financial statements.
5
<PAGE>
FIDELITY FEDERAL BANCORP
AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
DECEMBER 31,
1998 1997
---- ----
<S> <C> <C>
OPERATING ACTIVITIES
Net income $ 437 $ 917
Adjustments to reconcile net income to net cash provided
by operating activities:
Provision for loan losses 150 225
Investment securities gains (74)
(Gain) loss on sale of premises and equipment (23) (1)
Depreciation 202 228
Investment securities amortization (accretion), net 11 19
Amortization of net loan origination fees and points (38) (33)
Changes in:
Interest receivable and other assets 3,901 720
Interest payable and other liabilities (213) 285
-------- -------
Net cash provided by operating activities 4,427 2,286
-------- -------
INVESTING ACTIVITIES
Purchases of investments securities available for sale (5,191)
Proceeds from maturities of investment securities available for sale 1,905 1,590
Proceeds from sale of investment securities available for sale 3,379
Net changes in loans 22,950 27,295
Purchases of premises and equipment (72) (83)
Proceeds from sale of premises and equipment 35
Net changes in interest bearing deposits 6
-------- -------
Net cash provided by investing activities 19,633 32,181
-------- -------
FINANCING ACTIVITIES
Net change in:
Noninterest-bearing, interest being demand and
savings deposits 260 (20,052)
Certificates of deposit 1,448 (24)
Short-term borrowings (2,396) (2,651)
Repayment of FHLB advances and other long-term debt (1,275) (4,387)
Net change in advances by borrowers for taxes and insurance (14) (214)
Purchase of common stock (10)
Cash dividends (156) (549)
Proceeds from exercise of stock warrants 2,493
Issuance of stock 90
-------- -------
Net cash provided (used) by financing activities (2,043) (25,394)
-------- -------
Net change in Cash and Cash Equivalents 22,017 9,073
Cash and Cash Equivalents, beginning of period 7,943 3,506
-------- -------
Cash and Cash Equivalents, end of period $29,960 $12,579
======== =======
Additional Cash Flows and Supplementary information
Cash paid for income taxes, net of refunds $ 425
Cash paid for interest $ 5,279 6,401
</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 (the
"Company") 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 six months ended December 31, 1998
are not necessarily indicative of those expected for the remainder of the year.
o NET INCOME PER SHARE
Basic and diluted earnings per share have been computed based on the weighted
average number of shares outstanding during the periods. Common stock options
and warrants are included in weighted average shares to the extent they are
dilutive. The Company adopted Statement of Financial Accounting Standards No.
128 (SFAS) "Earnings per Share" for fiscal 1998. All prior periods' earnings per
share have been restated for SFAS 128.
<TABLE>
<CAPTION>
For the Six Months For the Six Months
Ended 12/31/98 Ended 12/31/97
Income Shares Per-Share Income Shares Per-Share
(Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
<S> <C> <C> <C> <C> <C> <C>
BASIC EPS
Income available to
common stockholders $437,477 3,138,769 $0.14 $916,661 2,787,879 $0.33
EFFECT OF DILUTIVE SECURITIES
Options* 25,293
Warrants* 66,499
DILUTED EPS
Income available to common
stockholders plus assumed ------------------------ ------------------------
conversions $437,477 3,138,769 $0.14 $916,661 2,879,671 $0.32
================================================================================
</TABLE>
*Note: The Company has 133,546 options, 27,753 warrants outstanding which,
would have an antidilutive effect on earnings per share in the current
year. As such they are not included in the earnings per share
calculation in accordance with FAS 128.
<TABLE>
<CAPTION>
For the Three Months For the Three Months
Ended 12/31/98 Ended 12/31/97
Income Shares Per-Share Income Shares Per-Share
(Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
<S> <C> <C> <C> <C> <C> <C>
BASIC EPS
Income available to
common stockholders $101,518 3,147,664 $0.03 $407,823 3,085,075 $0.13
EFFECT OF DILUTIVE SECURITIES
Options* 28,040
Warrants* 15,615
DILUTED EPS
Income available to common
stockholders plus assumed ------------------------ ------------------------
conversions $101,518 3,147,664 $0.03 $407,823 3,128,730 $0.13
================================================================================
</TABLE>
*Note: The Company has 133,546 options, 27,753 warrants outstanding which,
would have an antidilutive effect on earnings per share in the current
year. As such they are not included in the earnings per share
calculation in accordance with FAS 128.
Options to purchase 133,546 shares of common stock at an average price of $8.07
and warrants of 27,753 shares at an average price of $7.15 were outstanding
during fiscal 1999, but were not included in the computation of diluted EPS
because the options' exercise price was greater than the average market price of
the common shares.
7
<PAGE>
Options to purchase 55,113 shares of common stock at an average price of $10.42
were outstanding during fiscal 1998, but were not included in the computation of
diluted EPS because the options' exercise price was greater than the average
market price of the common shares.
o STOCKHOLDERS' EQUITY
On September 22, 1997, the Company filed a Schedule 13E4 with the Securities and
Exchange Commission regarding a warrant tender offer to holders of its 1994 and
1995 warrants. The offer and withdrawal rights expired on October 31, 1997. The
Company 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 the Company's second debt and equity rights offering
completed January 31, 1995, the Company 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 December 31, 1998, a total of 337,029
of the shares originally reserved had been issued and 9,471 remained reserved
and unissued.
In connection with the Company's first debt and equity rights offering completed
on April 30, 1994, the Company 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 December 31, 1998, a total of 397,218 of the shares
originally reserved had been issued and 18,282 remained reserved and unissued.
o CASH DIVIDEND
The Company's dividend policy is to pay cash or distribute stock dividends when
the Board of Directors deems it to be appropriate, taking into account the
Company'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. The Company's primary source of
income is dividends from its thrift subsidiary, United Fidelity Bank, fsb
("Savings Bank"). The Savings Bank has entered into a Supervisory Agreement
("Agreement") with the Office of Thrift Supervision ("OTS"), the primary federal
regulator for the Savings Bank. One of the provisions of the Agreement restricts
the payments of dividends from the Savings Bank to the Company without prior
written OTS approval. When necessary, the OTS in the past, has permitted
dividends to assist the Company in meeting interest payments on its outstanding
debt, however there can be no assurance of these actions going forward. Refer to
"Other Restrictions" below. The Company 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 Bank, fsb, Village Securities Corporation and Village Affordable
Housing Corporation are three subsidiaries of the Company. The Savings Bank is a
federally chartered savings bank, and is regulated by the Office of Thrift
Supervision. Village Securities Corporation began operations July 1, 1997, by
providing customers with discount brokerage services for stocks and bonds.
Village Affordable Housing Corporation was formed during the third quarter of
fiscal 1998 for the purpose of holding interests in real estate housing, and has
acquired an interest in one partnership. Village Securities ceased operations on
December 31, 1998, in an effort to focus on the profitable segments of the
Company.
The Savings Bank's subsidiaries, Village Housing Corporation, Village Management
Corporation and 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 the Savings Bank, Village Insurance Corporation, is
engaged in the business of selling various insurance products.
The Company reevaluated its business plan in fiscal 1997. As a result, Village
Community Development Corporation reduced its activities significantly,
discontinued activities in fiscal 1998 and was subsequently merged
8
<PAGE>
into Village Housing Corporation during the second quarter of fiscal 1999. The
Company continues to review the profitability of the subsidiaries to determine
its future impact on the Company's business plans. Village Capital Corporation
continues to receive consulting fees for its services in assisting unaffiliated
borrowers obtain financing. 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 the Company beginning in fiscal
2000. The adoption of this statement is not expected to have a material impact
on the Company's financial condition or results of operations.
o OTHER RESTRICTIONS
The Company's subsidiary, United Fidelity Bank, has entered into a Supervisory
Agreement with the Office of Thrift Supervision ("OTS") on February 3, 1999. The
Supervisory Agreement follows the most recent examination of the Bank 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, the Bank 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, the Bank did not admit or deny any violations of law or
regulations and/or unsafe or unsound practices.
Under the terms of the Supervisory Agreement, the Bank 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 the
Bank'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.
In addition, the Bank 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.
The Bank 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
the Bank 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 the Company; making any additional equity
investments; developing any 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.
The Bank is also required to obtain OTS approval prior to adding or replacing
any director or senior executive officer. The Bank 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. The Bank is also required to develop a plan to reduce employee turnover,
build an experience staff, and provide for management succession.
9
<PAGE>
Management of the Bank had already begun taking, or refraining from taking, some
of the actions requested by the OTS and that the Bank expects to stay in
compliance with the terms of the Supervisory Agreement. In this respect, the
Bank has already ceased making commercial loans; increased its allowance for
loan and lease losses; restricted it's 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.
COMPREHENSIVE INCOME
The Company 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.
<TABLE>
<CAPTION>
SIX MONTHS ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31, JUNE 30,
1998 1997 1998
------ ------ ------
<S> <C> <C> <C>
Net income (loss) $437 $917 $(6,794)
Unrealized gains (losses) on securities:
Unrealized holding gains (losses)
arising during period, net of tax (6) (55) (59)
Less: adjustment for gains realized in
net income, net of tax 45 48
---- ---- -------
Net unrealized gains (losses) (6) (10) (11)
Other comprehensive income $431 $907 $(6,805)
==== ==== =======
</TABLE>
o SEGMENT INFORMATION
The Company operates principally in two industries, banking and real estate
development and management. Through the Savings Bank, the Company 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, the Company is or has been involved in various aspects
of developing, building, renting and managing 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 the Company 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.
10
<PAGE>
Presented below is condensed financial information relating to the Company's
business segments:
<TABLE>
<CAPTION>
(IN THOUSANDS) THREE MONTHS ENDED SIX MONTHS ENDED
DECEMBER 31, DECEMBER 31,
1998 1997 1998 1997
---------- ----------- ----------- ----------
<S> <C> <C> <C> <C>
REVENUE:
Banking $ 4,268 $ 5,235 $ 8,851 $ 10,750
Real estate development and management 179 192 374 414
---------- ----------- ----------- ----------
Total consolidated $ 4,447 $ 5,427 $ 9,225 $ 11,164
========== =========== =========== ==========
OPERATING PROFIT:
Banking $ 117 $ 446 $ 584 $ 980
Real estate development and management (16) (38) (147) (63)
---------- ----------- ----------- ----------
Total consolidated $ 101 $ 408 $ 437 $ 917
========== =========== =========== ==========
IDENTIFIABLE ASSETS:
Banking $ 189,950 $ 203,929 $ 189,950 $ 203,929
Real estate development and management 4,371 11,892 4,371 11,892
---------- ----------- ----------- ----------
Total consolidated $ 194,321 $ 215,821 $ 194,321 $ 215,821
========== ========== ========== ==========
DEPRECIATION AND AMORTIZATION:
Banking $ 95 $ 107 $ 196 $ 218
Real estate development and management 3 5 6 10
---------- ----------- ----------- ----------
Total consolidated $ 98 $ 112 $ 202 $ 228
========== ========== ========== ==========
CAPITAL EXPENDITURES:
Banking $ 50 $ 15 $ 71 $ 81
Real estate development and management 3 2 1 2
---------- ----------- ----------- ----------
Total consolidated $ 53 $ 17 $ 72 $ 83
========== =========== =========== ==========
</TABLE>
11
<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 the Company "believes",
"anticipates", "expects", "estimates" or words of similar import. Similarly,
statements that describe the Company'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 the Company 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 December 31, 1998 was $101,000,
compared to net income of $408,000 for the same period last year. Basic and
diluted net income per share was $.03 per share for the three months ended
December 31, 1998, compared to $.13 per share in 1997. The net income for the
six months ended was $437,000 compared to a net income of $917,000 for the same
period last year. Basic and diluted net income per share for the six months
ended December 31, 1998 was $0.14 per share compared to a basic and diluted net
income per share of $0.33 and $0.32 respectively, for the same period last year.
Interest income decreased $1.7 million from the prior year primarily due to a
decrease in higher yielding multifamily and commercial real estate loans.
Interest expense decreased approximately $1.2 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, the Company's
assets have decreased $21.5 million from December 31, 1997 to $194.3 million at
December 31, 1998. Non-interest income for the six months ended December 31,
1998, decreased $191,000 over the six months ended December 31, 1997 primarily
due to a decrease in gains on sales of loans, investments and a decrease in
participation fees. Non-interest expense increased slightly to $3.6 million
compared to $3.3 million for the six months ended December 31, 1997.
NET INTEREST INCOME. Net interest income, the Company'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 the Company's interest rate-sensitive assets and liabilities. Net
interest income for the three months ended December 31, 1998, was $1,153,000
compared to $1,396,000 for the three month period ending December 31, 1997, a
decrease of $243,000. Net interest income for the six months ended December 31,
1998 was $2.4 million compared to $3.0 million a year ago, a decrease of
$581,000. These decreases are primarily attributable to a decrease 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 the
Company. The reduction in net interest income in Fiscal 1999 was primarily due
to a decrease in average earning assets of $35.5 million, which was offset by a
decrease in average interest-bearing liabilities of $34.6 million. For the three
months ended December 31, 1998 interest income was $3.7 million compared to $4.5
million for the three months December 31, 1997, a decrease of approximately
$744,000 or about 16.7%. Interest expense for the three months ended December
31, 1998 was $2.6 million compared to $3.1 million for the three months ended
December 31, 1997, a decrease of approximately $501,000 or 16.4%. Interest
income for the six months ended December 31, 1998 was $7.6 million compared to
$9.3 million for the same period last year, a decrease of approximately $1.7
million or 8.3%. The reduction in average earning assets was attributable to a
significant number of multifamily and commercial loan payoffs, as well as
payoffs on conventional real estate mortgage loans. The average balance of
agent-acquired certificates of deposit, having an average yield of 6.30% for the
six months ended December 31, 1997, was reduced from $52.0 million to $34.9
million. The average yield decreased to 6.02% for the six months ended December
31, 1998. The net interest margin for the three months ended December 31, 1998
decreased to 2.53% from 2.79% at June 30, 1998 and 2.63% at December 31, 1997.
The net interest margin for the six months ended December 31, 1998 decreased to
2.64% from 2.79% at
12
<PAGE>
June 30, 1998 and 2.75% at December 31, 1997. The decrease in the margin was
affected by the decrease in higher yielding multifamily construction and
commercial real estate loans.
ASSET/LIABILITY MANAGEMENT
The Company 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. The Savings Bank 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 September 30, 1998 and December 31, 1997, is an analysis
performed by the OTS of the Savings Bank'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 September
30, 1998 and December 31, 1997, 2% of the present value of the Savings Bank's
assets was approximately $3.9 million and $4.2 million. Because the interest
rate risk of a 200 basis point increase was $1.4 million at September 30, 1998
and $1.8 million at December 31, 1997, the Savings Bank 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 1998 to
1997 is due to an improved match of expected cash flows from assets and
liabilities.
<TABLE>
<CAPTION>
INTEREST RATE RISK AS OF SEPTEMBER 30, 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 $ 9,901 $(1,682) (15)% 5.34% - 60 bp
+300 bp 10,811 (772) (7) 5.75 - 19 bp
+200 bp 11,559 (23) 0 6.06 12 bp
+100 bp 11,888 306 3 6.15 22 bp
0 bp 11,582 5.94
-100 bp 10,797 (786) (7) 5.50 - 44 bp
-200 bp 10,143 (1,440) (12) 5.12 - 82 bp
-300 bp 9,659 (1,924) (17) 4.83 - 111 bp
-400 bp 9,172 (2,410) (21) 4.54 - 140 bp
</TABLE>
13
<PAGE>
<TABLE>
<CAPTION>
INTEREST RATE RISK AS OF DECEMBER 31, 1997
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 $13,588 $(3,215) (19)% 6.79% - 112 bp
+300 bp 14,780 (2,022) (12) 7.27 - 64 bp
+200 bp 15,821 (982) (6) 7.66 - 25 bp
+100 bp 16,586 (217) (1) 7.91 0 bp
0 bp 16,803 7.92
-100 bp 16,407 (396) (2) 7.65 - 27 bp
-200 bp 15,009 (1,794) (11) 6.95 - 97 bp
-300 bp 13,385 (3,418) (20) 6.15 - 176 bp
-400 bp 11,910 (4,893) (29) 5.43 - 249 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
assume in calculating the table.
NON-INTEREST INCOME. Non-interest income for the quarter ended December 31,
1998, was $738,000 compared to $974,000 for the same period in 1997, a decrease
of $236,000. Non-interest income for the six months ended December 31, 1998, was
$1.6 million compared to $1.8 million for the same period in 1997, a decrease of
$191,000.
NON-INTEREST INCOME
- -------------------
(IN THOUSANDS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
DECEMBER 31, INCREASE
1998 1997 (DECREASE)
---- ---- ----------
<S> <C> <C> <C>
Management fees $ 154 $ 182 $ (28)
Letter of credit fees 291 377 (86)
Service charges on deposit accounts 233 241 (8)
Net gain on sale of loans 83 34 49
Net gain on sale of investments 74 (74)
Net gain on sale of fixed assets 23 23
Loan servicing fees 107 30 77
Release fees 52 44 8
Participation fees 197 (197)
Agent fee income 325 384 (59)
Servicing fees on loans sold 40 62 (22)
Other 325 199 126
------ ------ ------
Total non-interest income $1,633 $1,824 $ (191)
====== ====== ======
</TABLE>
The Company has recorded no Section 42 real estate development fees over the
past year. Fee income from management activities decreased to $154,000 for the
six months ended December 31, 1998 compared to $182,000 for the six months ended
December 31, 1997. The decrease is primarily due to a reduction in fees
collected on partnerships for which Village Housing Corporation is the general
partner.
Letter of credit fees were $291,000 for the six months ended December 31, 1998
as compared to $377,000 for the six months ended December 31, 1997. Outstanding
standby letters of credit at December 31, 1998 were $47.8
14
<PAGE>
million as compared to $55.3 million at December 31, 1997. The decrease in fee
income is partially due to the reduction in letters of credit outstanding.
Service charges on deposit accounts decreased $8,000 to $233,000 for the six
months ended December 31, 1998 as compared to $241,000 in 1997. The net gain on
sale of single-family loans increased $49,000 for the six months ended December
31, 1998 compared to the same period in 1997. The Company has emphasized growth
in this area and has added originators to increase volume. The increase in
mortgage loan volume also accounted for the $77,000 increase in loan servicing
fees. Servicing fees on loans sold decreased $22,000 due to a decrease in the
number of mortgage loans being serviced by the Company compared to the prior
year. Participation fees decreased $197,000 from prior year due to the Company
arranging a participation for a large multifamily loan customer last year. Other
income increased $127,000 over the six months ended December 31, 1997 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 $10,000, and title fee income of $39,000.
Title fee income increased over the prior year primarily due to increased
mortgage loan volume.
The Company participated in an arrangement in which automobile loans are
originated on behalf of another organization during the first six months of
fiscal 1999. Agent fee income, which represents the Company's earned fee from
these transactions, decreased $59,000 for the six months ended December 31, 1998
compared to the same period last year. This decrease was primarily due to an
increase in factory financing incentives offered by the auto makers, which
compete directly for financing. The Company does not believe that these
incentives will continue to be offered. 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, the Company had participated in an
arrangement in which automobile loans were originated on behalf of another
organization. Agent fee income, which represents the Company's earned fee from
these transactions, increased in 1998 to $650,000, as compared to $452,000 in
1997 and $47,000 in 1996. Because this consumer loan business of United Fidelity
has historically been dependent upon the relationships of these individuals,
United Fidelity has been unable to continue to compete in this market segment.
As such, United Fidelity's monthly revenue from consumer loans has been reduced
to approximately zero. United Fidelity is actively engaged in searching for
qualified individuals to staff its consumer loan division, but there can be no
assurances that such individuals will be hired or what volume of business such
individuals will generate. In addition, United Fidelity must obtain OTS approval
in order to hire such individuals.
PROVISION FOR LOAN LOSSES
The Company 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 current quarter decreased $15,000 compared to
the quarter ended December 31, 1997. The provision for loan losses for the six
months ended December 31, 1998 was $150,000 compared to $225,000 in the prior
year a decrease of $75,000. The ratio of non-performing loans to the allowance
for loan losses was 30.1% at December 31, 1998 compared to 39.0% at December 31,
1997.
The decrease in the provision for loan losses in fiscal 1999 is the result of
the Company providing $4.5 million in the provision for loan losses last year.
As previously noted, during the fourth quarter of fiscal 1998, the OTS performed
an examination of the Bank and the Company. 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 the Company 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 December 31,
1998, was $1,788,000 compared to $1,697,000 for the same period in 1997, an
increase of $91,000, or 5.4%. Non-interest expense for the six months ended
December 31, 1998, was $3.6 million compared to $3.3 million for the same period
in 1997, an increase of $.3 million.
15
<PAGE>
NON-INTEREST EXPENSE
- --------------------
(IN THOUSANDS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
DECEMBER 31, INCREASE
1998 1997 (DECREASE)
---- ---- ----------
<S> <C> <C> <C>
Salaries and employee benefits $1,752 $1,727 $ 25
Legal and professional 177 131 46
Occupancy expense 209 222 (13)
Equipment expense 150 177 (27)
Data processing expense 192 189 3
Advertising 102 103 (1)
Deposit insurance 106 60 46
Correspondent bank charges 78 80 (2)
Printing and supplies 59 49 10
Loss on investment 164 51 113
Telephone 34 38 (4)
Postage 51 35 16
Insurance & surety bond premium 42 57 (15)
Travel and lodging 19 25 (6)
Miscellaneous operating expense 74 6 68
Other operating expense 420 396 24
------ ------ ----
Total non-interest expense $3,629 $3,346 $283
====== ====== ====
</TABLE>
Salaries and employee benefits increased $25,000 for the six months ended
December 31, 1998, 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 increases at the
Bank's subsidiaries. Occupancy and equipment expenses decreased by $13,000 and
$27,000 respectively, compared to the prior year as management continues to
closely monitor expenses. Deposit insurance increased $46,000 from the prior
year, due to an increase in the Savings Bank's risk classification over the
prior year. The Company has written down the investment in various developments
by $164,000 compared to $51,000 in the prior year. These writedowns are
partially offset by tax credits received for the investments in these Section 42
investments. Miscellaneous operating expense increased $68,000 as compared to
the previous year due primarily to the expiration of a $50,000 land option that
was not exercised. Other operating expense increased $24,000 over the prior year
primarily due to an $18,000 increase in appraisal and other expenses associated
with the Company's efforts in refinancing several of the partnerships.
INCOME TAX EXPENSE. Income tax expense decreased $499,000 for the six months
ended December 31, 1998, compared to the same period in 1997, due to tax credits
totaling $266,000 associated with the Company's Section 42 investments and a
decrease in taxable income. Some of the benefits of these credits are partially
offset by additional write downs on the Company's Section 42 investments, which
are included in the above table under the caption "Loss on investment".
YEAR 2000
The Company 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. The Company, 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 March 31, 1999. While the Company 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.
The Company 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 noncompliance with the Year 2000 issue. Specifically, the
Company has developed a testing plan and a customer-based risk management plan.
While the Company believes that it will continue to meet all of the FFIEC
16
<PAGE>
requirements, it cannot guarantee that the systems of other companies on which
the Company's systems rely will be timely converted and not have a material
effect on the Company.
The Company 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. The Company has begun testing the
contingency plan and modifying the contingency plan when appropriate, based on
test results.
The Company has accrued a total of $106,000 in Year 2000 related costs at
December 31, 1998, a portion of which have been paid. The amounts that have been
paid to date were to provide assistance to the Company 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 December 31, 1998, the Company has
completed its assessment of the expected total cost of performing necessary
procedures or purchasing equipment that is compliant with Year 2000. The Company
is anticipating costs of approximately $250,000 to ensure Year 2000 compliance.
The Company outsources a significant portion of its data processing to an
outside provider. A worst case scenario for the Company would likely involve
non-compliance with Year 2000 by its primary data processor in such a manner
that would leave the Company in a position where it could not correctly process
and record customer loan and deposit transactions. The Company has reviewed a
substantial portion of the data processing provider's test scripts and results.
At this date, no material problems have come to the Company's attention with
respect to test results.
The Company is currently assessing the potential impact of Year 2000 on its
commercial lending customers, but believes that the impact, in terms of
potential credit exposure, would not be material. The majority of the Company's
commercial lending portfolio consists of commercial real estate loans that are
made to companies that are not highly technologically intensive.
The Company cannot provide any assurance that the effect of Year 2000 will not
be material to the Company's financial position or operating results.
FINANCIAL CONDITION
Total assets decreased by $2.7 million from June 30, 1998, to approximately
$194.3 million at December 31, 1998. The decrease is the result of the Company
increasing its liquidity position.
LOANS. The following table shows the composition of the Company's loan
portfolio as of December 31, 1998 and June 30, 1998.
LOANS OUTSTANDING
- -----------------
(IN THOUSANDS)
<TABLE>
<CAPTION>
DECEMBER 31, JUNE 30,
1998 1998
---- ----
<S> <C> <C>
Real estate mortgage loans
First mortgage loans
Conventional $ 57,799 $ 71,343
Construction 9,559 16,110
Commercial 19,114 20,753
Multifamily 6,771 5,742
First mortgage real estate loans purchased 2,360 2,704
Commercial loans - other than secured by real estate 7,715 11,568
Consumer and home equity loans 33,340 31,512
-------- --------
Total loans $136,658 $159,732
======== ========
Total assets $194,321 $197,046
======== ========
Total loans to total assets 70.3% 81.1%
======== ========
</TABLE>
17
<PAGE>
Total loans decreased by $23.1 million or 14.4% to $136.7 million at December
31, 1998, compared to June 30, 1998. The Savings Bank is continually offering
new and competitive first mortgage and multifamily loan products. The Company
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 real
estate mortgage loans decreased the portfolio by $13.5 million from June 30,
1998 to December 31, 1998.
Construction loans decreased by $6.6 million at December 31, 1998 from June 30,
1998 to $9.6 million at December 31, 1998. Construction loans at December 31,
1998 includes $6.7 million of multifamily loans.
Consumer and home equity loans increased $1.8 million since June 30, 1998 as the
Company has originated an increasing volume of automobile loans. The Company
participates in an arrangement in which the majority of these loans are
originated on behalf of another organization. As previously mentioned in the
"non-interest income" discussion, the Company has ceased operations in this
market segment at this time.
The Company'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. The Company 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 the Company 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)
<TABLE>
<CAPTION>
DECEMBER 31, JUNE 30,
1998 1998
---- ----
<S> <C> <C>
NONACCRUAL LOANS:
Multifamily $ 449
Mortgage 59 $ 461
------ -----
SUBTOTAL 508 461
RESTRUCTURED:
Consumer 59
90 DAYS OR MORE PAST DUE:
Consumer 118 86
Commercial 498 26
------ -----
SUBTOTAL 616 112
------ -----
TOTAL $1,183 $ 573
====== =====
PERCENT OF TOTAL LOANS 0.87% 0.36%
====== =====
</TABLE>
Non-performing loans were .87% of total loans at December 31, 1998, as compared
to .39% of total loans at December 31, 1997 and consisted primarily of
commercial and multifamily loans. The previously reported large multifamily loan
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 quarter. The specific reserve associated
with this loan was reallocated among the loan categories while the Company
continues addressing its remaining classified and criticized assets. 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 permanent multifamily loans to remain performing has been in
part due to general partner
18
<PAGE>
advances made by the Company to support cash flow deficits encountered by the
affordable housing projects. Currently these properties are cashflowing and no
general partner advances have been necessary, however there is no assurance that
general partner advances will not be necessary in the future to support cash
flow deficits. The majority of these general partner advances were charged off
in fiscal 1998. Classified and criticized assets of the Company totaled $50.6
million compared to $57.6 million at June 30, 1998. Classified and criticized
assets were 283.6% of Company's capital and reserves at December 31, 1998.
ANALYSIS OF ALLOWANCE FOR LOAN LOSSES AND LETTER OF CREDIT VALUATION ALLOWANCE
The Company establishes its provision for loan losses and evaluates the adequacy
of the allowance for loan losses based on management 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 evaluation is performed
on a monthly basis and is designed to ensure that all relevant matters affecting
collectibility will 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, in the opinion of management that are considered
substandard or doubtful. At December 31, 1998 the Company had impaired loans
totaling $15.3 million. The allowance for losses on such impaired loans totaled
$1.7 million and is included in the Company's allowance for loan losses at
December 31, 1998. Impaired loans do not include large groups of homogeneous
loans that are collectively evaluated for impairment, such as, residential
mortgage and consumer installment loans.
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 six months ended
December 31, 1998 and the year ended June 30, 1998:
<TABLE>
<CAPTION>
ALLOWANCE FOR LOAN LOSSES
- -------------------------
(IN THOUSANDS) DECEMBER 31, JUNE 30,
1998 1998
---- ----
<S> <C> <C>
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 181 195
-------- --------
Total loan charge-offs 195 3,299
Loan recoveries:
Real estate mortgage 15
Commercial 1
Consumer 16 24
-------- --------
Total loan recoveries 32 24
Net charge-offs 163 3,275
Provision for loan losses 150 4,543
Transfer from letter of credit
valuation allowance 895
-------- --------
Allowance for loan losses
at end of period $ 3,931 $ 3,049
======== ========
Ratio of net charge-offs to
average loans outstanding
during the period 0.44% 1.18%
Ratio of provision for loan losses `
to average loans outstanding
during the period 0.20% 2.52%
Ratio of allowance for loan
losses total loans outstanding
at end of period 2.88% 1.91%
Average amount of loans
outstanding for the period 150,825 180,530
Amount of loans
outstanding at end of period $136,658 $159,732
</TABLE>
The allowance for loan losses was $3.0 million at June 30, 1998 and $4.0 million
at December 31, 1998, and $1.8 million at December 31, 1997. Net loan
charge-offs were $163,000 or .44% of average loans for the six month ended
December 31, 1998 compared to $212,000 or .22% of average loans in December
1997. A letter of credit was called upon during the first quarter of fiscal 1999
and was classified as a non-accrual loan upon conversion along with its specific
reserve. This loan was previously classified as a substandard letter of credit,
with a specific letter of credit reserve of $895,000. The loan was paid off in
full during the second quarter of fiscal 1999 and the Company reallocated the
$895,000 specific reserve in the allowance for loan losses, while the Company
continues working out the remaining classified assets. As discussed previously,
the Company 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 the Company is currently managing. The Company has
loans and letters of credit securing 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 the Company's geographic market.
The Company has 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 December 31, 1998. The decrease is associated with the transfer of $895,000
from the letter of credit valuation allowance to the allowance for loan losses
that is discussed
20
<PAGE>
in the preceding paragraph. Multifamily letters of credit, an off-balance sheet
item, carry the same risk characteristics as conventional loans and totaled
$47.7 million at December 31, 1998. Specific reserves for letters of credit
totaled 12.30% of outstanding letters of credit at December 31, 1998. Classified
loans and letters of credit to total loans and letters of credit were 26.4% at
December 31, 1998 and 5.0% at December 31, 1997. Management is not aware of any
additional LOC's 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 December 31, 1998.
INVESTMENT SECURITIES. The Savings Bank'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 December 31, 1998, the investment portfolio represented 6.8% of the
Company'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. The primary
objectives, in order of priority, are to further the safety and soundness of the
Company, to provide the liquidity necessary to meet day to day funding needs,
cyclical and long-term changes in the mix of our assets and liabilities, and to
provide for diversification of risk and management of interest rate and economic
risk. At December 31, 1998, the entire investment portfolio was classified as
available for sale. The net unrealized gain at December 31, 1998 was $48,000,
which was comprised of gross gains of $3,000, gross losses of $83,000, and a tax
benefit of $32,000. The decrease of $6,000 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 the Savings Bank's securities
available for sale as of the dates indicated.
<TABLE>
<CAPTION>
DECEMBER 31, JUNE 30,
1998 1998
---- ----
(IN THOUSANDS)
<S> <C> <C>
Securities available for sale:
U.S. Treasury securities $ 1,001
Federal agencies securities $ 3,001 2,985
Federal Home Loan Mortgage Corporation
mortgage-backed securities 1,458 1,779
Federal National Mortgage Association
mortgage-backed securities 1,694 1,945
Government National Mortgage Association
mortgage-backed securities 6,967 2,144
------- -------
Total securities available for sale $13,119 $ 9,854
======= =======
</TABLE>
21
<PAGE>
The Savings Bank's total investment securities portfolio increased by $3.3
million at December 31, 1998, from June 30, 1998. The Savings Bank purchased
$5.2 million in GNMA mortgage backed securities, which carry a 0% risk weight,
during fiscal 1999. There was a maturity of a $1.0 million agency bond. 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. The Savings Bank 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 $11.5 million during the first six months of
fiscal 1999. Most of the decreases were due to certificates of deposit acquired
through agents, and retail certificates of deposit which decreased $7.5 million
and $3 million to $34.9 million and $82.7 million, respectively at December 31,
1998. Demand accounts and money market accounts decreased $119,000 and $263,000,
respectively. NOW accounts decreased $997,000, which was partially offset by an
increase in savings accounts of $306,000.
The following table sets forth the average balances of and the average rate paid
on deposits by deposit category for the six months ended December 31, 1998 and
for the year ended June 30, 1998.
<TABLE>
<CAPTION>
THREE MONTHS ENDED YEAR ENDED
DECEMBER 31, 1998 JUNE 30, 1998
------------------ -------------
AVERAGE AVERAGE
BALANCE RATE BALANCE RATE
-------- ---- ------- ----
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C>
Average Deposits
Demand $ 5,210 $ 5,229
Now accounts 21,214 3.74% 22,211 4.24%
Money market accounts 2,764 2.56 3,027 2.71
Savings accounts 5,119 2.42 4,813 2.83
Certificates of deposit 82,719 5.83 85,699 5.80
Agent-acquired certificates of deposit 34,946 6.02 42,443 6.26
-------- --------
Total $151,972 5.21% $163,422 5.38%
======== ========
</TABLE>
22
<PAGE>
FEDERAL HOME LOAN BANK ADVANCES AND OTHER LONG-TERM DEBT. The following table
summarizes the Company's borrowings as of December 31, 1998, and June 30, 1998.
<TABLE>
<CAPTION>
DECEMBER 31, JUNE 30,
1998 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 $2,197 $2,210
Note payable, 8.75% adjusted annually, payable $8
per month, including interest, due September 14, 2010,
secured by specific multifamily mortgages 995 996
Note payable, 8.75% adjusted annually, payable $12
per month, including interest, due September 22, 2010,
secured by specific multifamily mortgages 1,523 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 13,528 14,783
------- -------
Total $28,213 $29,488
======= =======
</TABLE>
Borrowings decreased $1.3 million to $28.2 million at December 31, 1998.
Borrowings have been reduced during fiscal 1998 primarily due to large payoffs
received in loans and the continued sales of current 1-4 family loan production.
This allows the Company to use the proceeds from the sale of loans to fund new
loan originations and ease the need for additional borrowings. The decrease is
due primarily to the maturity of FHLB advances. The Company, thus far, has been
in a position to allow the FHLB advance to mature and not replace it. Alternate
funding sources were provided by loan sales and payoffs, retail deposits, and
public funds. However, when prudent, the Company may utilize FHLB advances as an
option again.
CAPITAL RESOURCES AND CAPITAL REQUIREMENTS
The ratio of stockholders' equity to total assets for the Savings Bank, was
7.22% at December 31, 1998, compared to 6.31% at June 30, 1998, due primarily to
a reduction in the Savings Bank's asset size. The Company issued stock in
exchange for a general partnership interest in a Company-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. The Company's book value per share at
December 31, 1998 was $2.55, 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
23
<PAGE>
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 December 31, 1998, actual and required minimum levels of regulatory capital
for the Savings Bank were as follows:
<TABLE>
<CAPTION>
(Dollars in Thousands)
Required
Amount Percent Amount Percent Excess
------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Core $13,511 7.22% $5,617 3.0% $7,894
Tangible $13,511 7.22% $2,808 1.5% $10,703
Risk-based $20,332 13.16% $12,364 8.0% $7,968
</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 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 December 31, 1998 the Savings Bank had a core capital leverage
ratio (as defined in the proposal) of 7.22%.
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 December 31, 1998 and
December 31, 1997, the Bank was categorized as well capitalized and met all
subject capital adequacy requirements at those dates; however, the Savings
Bank's primary regulatory agency, the OTS, has notified the Savings Bank in
October 1998 that its capital position is not adequate and needs to be
substantially improved. Since October the Company's capital has increased from
10.79% to 13.16% through the shrinkage of assets leaving a higher risk weighting
or investing in lower risk weighted assets.
The Company plans to evaluate alternatives and pursue opportunities to raise
additional capital in 1999 with the purpose of improving its capital ratios.
24
<PAGE>
LIQUIDITY
Liquidity for a savings bank represents its ability to accommodate growth in
loan demand and/or reduction in deposits. The Savings Bank liquidity ratio was
24.79% on December 31, 1998, 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 appropriate while it
attempts to reduce the risk profile of the loan portfolio. 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.
25
<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:
----------------------------------------------------
On November 30, 1998 at 9:00 AM, at the Company's principal executive
offices at 18 N.W. Fourth Street, Evansville, Indiana, the Annual
meeting of Shareholders was held in order to vote on two matters.
Matter 1 was to elect three directors to the Board of Directors to serve
for the ensuing term of three years and until their successors are duly
elected and qualified. The vote tabulation for the election of William
Baugh was 2,544,878 for and 293,081 shares against. For Bruce A.
Cordingley the vote tabulation was 2,579,165 for, and 269,409 against.
For M. Brian Davis the vote tabulation was 2,582,310 for, and 267,312
against.
The following directors term continued after the meeting, Jack
Cunningham, Robert F. Doerter, Curt J. Angermeier, Barry A. Schnakenburg
and Donald R. Neel.
Matter 2 was the ratification of the appointment of the auditor of the
Company. The vote tabulation for Olive, LLP was 2,573,176 for, 241,447
shares against, and 20,451 shares abstained.
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. Reports on Form 8-K
A Form 8-K was filed on February 8, 1999.
The Company released that the Board of Directors of United
Fidelity Bank, a wholly owned subsidiary of Fidelity Federal
Bancorp entered into a Supervisory Agreement with the Office of
Thrift Supervision on February 3, 1999. A copy of the press
release was included in the filing.
26
<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: FEBRUARY 11, 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)
27
<PAGE>
Exhibit Index
Reg. S-K
Exhibit No. Description of Exhibit Page
- -----------------------------------------------------------------------------
27 Financial Data Schedule 29
28
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM
FIDELITY FEDERAL BANCORP CONSOLIDATED BALANCE SHEET AS OF 12/31/98
AND THE CONSOLIDATED INCOME STATEMENT FOR THE SIX MONTHS ENDED 12/31/98
AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> JUN-30-1999
<PERIOD-START> JUL-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 1,120
<INT-BEARING-DEPOSITS> 8,840
<FED-FUNDS-SOLD> 20,000
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 13,119
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 136,658
<ALLOWANCE> 3,931
<TOTAL-ASSETS> 194,321
<DEPOSITS> 150,647
<SHORT-TERM> 135
<LIABILITIES-OTHER> 7,290
<LONG-TERM> 28,213
0
0
<COMMON> 3,148
<OTHER-SE> 4,888
<TOTAL-LIABILITIES-AND-EQUITY> 194,321
<INTEREST-LOAN> 6,696
<INTEREST-INVEST> 270
<INTEREST-OTHER> 626
<INTEREST-TOTAL> 7,592
<INTEREST-DEPOSIT> 3,992
<INTEREST-EXPENSE> 5,174
<INTEREST-INCOME-NET> 2,418
<LOAN-LOSSES> 150
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 3,629
<INCOME-PRETAX> 272
<INCOME-PRE-EXTRAORDINARY> 272
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 437
<EPS-PRIMARY> .14
<EPS-DILUTED> .14
<YIELD-ACTUAL> 2.64
<LOANS-NON> 508
<LOANS-PAST> 616
<LOANS-TROUBLED> 59
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 3,049
<CHARGE-OFFS> 195
<RECOVERIES> 32
<ALLOWANCE-CLOSE> 3,931
<ALLOWANCE-DOMESTIC> 3,729
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 202
</TABLE>
