UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended DECEMBER 31, 1997
OR
[ ] Transition Report Pursuant to Section 13 or 15 (d) of
the Securities Exchange Act of 1934
For the Transition Period from _______ to _______
Commission File Number: 0-24526
--------------------------------
COASTAL BANCORP, INC.
---------------------
(Exact name of Registrant as specified in its charter)
Texas 76-0428727
--------------------- ------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
5718 Westheimer, Suite 600
Houston, Texas 77057
------------------------
(Address of principal executive office)
(713) 435-5000
------------------
(Registrant's telephone number)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
N/A N/A
Securities registered pursuant to section 12(g) of the Act:
Common Stock, $0.01 par value per share
---------------------------------------
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports required
by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months and (2) has been subject to such filing requirements for the
past 90 days. Yes X No
-----
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
As of March 13, 1998, the aggregate market value of the 3,989,317 shares of
Common Stock of the Registrant issued and outstanding on such date, excluding
1,045,718 shares held by all directors and executive officers of the Registrant
as a group, was $131,647,461. This figure is based on the closing sale price of
$33.00 per share of the Company's Common Stock on March 13, 1998, as reported in
The Wall Street Journal on March 16, 1998.
- --------------------------
Number of shares of Common Stock outstanding as of March 13, 1998: 5,035,035
DOCUMENTS INCORPORATED BY REFERENCE
List hereunder the following documents incorporated by reference and the
Part of Form 10-K into which the document is incorporated:
(1) Portions of the Registrant's Annual Report to Stockholders for the
fiscal year ended December 31, 1997, are incorporated into Part II, Items 5-8 of
this Form 10-K.
(2) Portions of the Registrant's definitive Proxy Statement for its 1998
Annual Meeting of Stockholders are incorporated into Part III, Items 10-13 of
this Form 10-K.
PART I.
ITEM 1. BUSINESS
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COASTAL BANCORP, INC.
Coastal Bancorp, Inc. (the "Company") is engaged primarily in the business
of serving as the ultimate holding company for Coastal Banc ssb (the "Bank").
The Company was incorporated in March 1994 in connection with the
reorganization of Coastal Banc Savings Association (the "Association") into the
holding company form of organization. The reorganization occurred in July 1994.
In addition, in July 1994, the Association converted to a Texas-chartered
savings bank operating under the name Coastal Banc ssb. On November 30, 1996,
Coastal Banc Holding Company, Inc. ("HoCo") was created as a Delaware unitary
savings bank holding company in accordance with the terms of an agreement and
plan of reorganization dated August 19, 1996 (the "Agreement"). Pursuant to the
terms of the Agreement, the Bank became a wholly-owned subsidiary of HoCo and
HoCo became a wholly-owned subsidiary of the Company. The reorganizations were
treated as combinations similar to a pooling of interests. Accordingly, the
financial information and references presented herein have been restated to give
effect where appropriate, as if the reorganizations had occurred at the earliest
date presented.
In October 1997, Coastal Banc Capital Corp. ("CBCC") was formed as a
wholly-owned subsidiary of HoCo. CBCC, a registered broker-dealer, was
initially formed to trade secured and unsecured whole loan assets primarily for
the Bank and for other businesses. At December 31, 1997, HoCo's equity
investment in CBCC was $76,000. CBCC had a net loss of $24,000 for the year
ended December 31, 1997.
On June 30, 1995, the Company issued $50.0 million of 10.0% Senior Notes
due June 30, 2002 (the "Senior Notes"). The Senior Notes are redeemable at the
Company's option, in whole or in part, on or after June 30, 2000, at par, plus
accrued interest to the redemption date. Of the proceeds received from the
issuance of the Senior Notes, $44.9 million was used to purchase 11.13%
Noncumulative Preferred Stock, Series B, of the Bank (the "Series B Preferred
Stock") which is now owned by HoCo.
At December 31, 1997, the Company had total consolidated assets of $2.9
billion, total deposits of $1.4 billion, $28.8 million in Series A Preferred
Stock and stockholders' equity of $104.8 million.
The Company is subject to examination and regulation by the Office of
Thrift Supervision (the "OTS") and the Company and the Bank are subject to
examination and regulation by the Texas Savings and Loan Department (the
"Department"). The Company is also subject to various reporting and other
requirements of the Securities and Exchange Commission (the "SEC").
The Company's executive offices are located at Coastal Banc Plaza, 5718
Westheimer, Suite 600, Houston, Texas 77057, and its telephone number is (713)
435-5000.
COASTAL BANC SSB
The Bank is a Texas-chartered, Federally insured state savings bank. It is
headquartered in Houston, Texas and operates through 37 branch offices in
metropolitan Houston, Austin, Corpus Christi and small cities in the south east
quadrant of Texas.
The Bank was originally acquired by an investor group (which includes a
majority of the Board of Directors and the present Chairman of the Board,
President and Chief Executive Officer of the Company) in 1986 as a vehicle to
take advantage of the failures and consolidation in the Texas banking and thrift
industries. The Bank has acquired deposits and branch offices in transactions
with the Federal government and other private institutions, in addition to
acquiring an independent national bank in 1995, as a base for the Bank's ongoing
savings bank business and shift towards commercial banking. At February 28,
1986 (the date of change in ownership), the Bank had one full service office and
total assets of approximately $10.7 million. Accordingly, although originally
organized in 1954, the Bank in its current form effectively commenced operations
with the 1986 change in control. By December 31, 1997, the Bank's total assets
had increased to $2.9 billion, total deposits were $1.4 billion and
stockholders' equity totaled $174.2 million.
The Bank attempts to maximize profitability through the generation of net
interest income and fee income. To meet this objective, the Bank has
implemented a strategy of building its core deposit base while deploying its
funds in assets which provide an attractive return with relatively low credit
risk. In carrying out this strategy and to ultimately provide a respectable
return to the Company's shareholders, the Bank adheres to four operating
principles: (i) continuing to expand its low cost core deposit base; (ii)
minimizing interest rate risk; (iii) minimizing credit risk; and (iv)
maintaining a low level of general overhead expense relative to its peers.
These operating principles are briefly discussed below.
CORE DEPOSITS. The Bank has implemented the first operating principle,
developing and expanding a core deposit base, beginning in 1988 through a series
of transactions with the Federal government and private sector financial
institutions, gaining in the process entry into additional markets in Houston,
Austin, Corpus Christi, San Antonio and south Texas.
In 1988, the Bank became the first acquiror of failed or failing savings
institutions under the Federal government's "Southwest Plan." In this
transaction (the "Southwest Plan Acquisition"), the Bank acquired from the
Federal Savings and Loan Insurance Corporation ("FSLIC"), as receiver for four
insolvent savings associations (the "Acquired Associations"), approximately
$543.4 million of assets and assumed approximately $543.4 million of deposits
and other liabilities. The Bank acquired an aggregate of 14 branch offices from
the Acquired Associations in new and existing markets in southwest Houston, west
of Houston along the Houston-San Antonio corridor and in the Rio Grande Valley.
See "The Southwest Plan Acquisition."
Since completion of the Southwest Plan Acquisition, the Bank has entered
into six branch office acquisitions and one whole bank acquisition: two with an
instrumentality of the Federal government (acting as the receiver of insolvent
financial institutions) and five with other private institutions. In each, the
Bank generally agreed to acquire certain assets in consideration of the
assumption of certain deposit and other liabilities with respect to each
institution. In addition, in 1996 the Bank chose to exit two Texas cities, San
Antonio and San Angelo. The Bank sold its San Angelo branch and exchanged its
three San Antonio branches for one branch in Bay City, Texas.
In the first branch acquisition, completed in 1990, the Bank assumed
deposits of $151.1 million in connection with the acquisition of nine branch
offices, which are primarily located in the northwestern Houston metropolitan
area. The acquisition provided the Bank with further penetration in the Houston
market. In the second branch acquisition, completed in 1991, the Bank assumed
deposits of $71.4 million in connection with the acquisition of an office
located in Victoria, Texas. The acquisition of that office expanded the Bank's
presence in the small cities market southwest of Houston toward Port Lavaca. In
the third branch acquisition, completed in 1993, the Bank assumed deposits of
$386.4 million in connection with the acquisition of nine branches located in
Corpus Christi, San Antonio, Conroe, Brenham and Sealy. The Corpus Christi and
San Antonio branch acquisitions allowed the Bank to enter new markets. In the
fourth branch acquisition, also completed in 1993, the Bank assumed deposits of
$45.7 million and acquired two branches located in Harlingen and McAllen, two
small cities southwest of Houston in the Rio Grande Valley (the "Valley"). As a
result of this acquisition, the Bank increased its presence in the Valley. In
the fifth branch acquisition, which was completed in December 1994, the Bank
assumed deposits of $150.2 million and acquired eight branches located in San
Angelo, Marble Falls, Kingsland, Llano, Giddings, Buchanan Dam, Mason and
Burnet, which allowed the Bank to enter new markets in central Texas.
In 1995, the Bank continued to expand its market presence by opening two de
novo branches in the Houston metropolitan area and by completing its first whole
bank acquisition. On November 1, 1995, the Bank consummated the acquisition of
all of the outstanding capital stock of Texas Capital Bancshares, Inc. ("Texas
Capital"). As a result of the acquisition of Texas Capital, Texas Capital Bank,
N.A., a national banking association, with five branch offices, located in
Houston, Katy, Richmond and Austin and total assets of $170.7 million, was
merged with and into the Bank.
In 1996, the Bank consummated the sale of its San Angelo location which had
$14.9 million in deposits and was acquired in the Bank's December 1994 branch
acquisition. In connection with this sale, the Bank recorded a $521,000 gain
before applicable income taxes. On September 5, 1996, the Bank consummated the
exchange of its three San Antonio branches having deposits of $53.8 million for
a branch in Bay City, Texas having deposits of $79.8 million. In 1997, the Bank
completed the acquisition of a branch in Port Arthur, Texas having deposits of
$54.6 million.
All of these transactions resulted in the net assumption of $1.6 billion of
deposits and the acquisition of 46 branch offices (after the San Angelo branch
sale and the swap of the San Antonio branches). The Bank has also opened six de
novo branches since inception. Since its first acquisition, the Bank has been
able to achieve operating economies and improve efficiency by closing an
aggregate of 16 branch offices and transferring the deposits to other offices
located in the same market areas.
The Bank will continue to pursue acquisitions as vehicles for growth,
although there can be no assurance that the Bank will be able to continue to
grow through acquisitions in the future. In the absence of any available,
cost-effective acquisitions, management will continue to focus on internally
generated earnings growth including the further development of the Bank's
commercial lending and growth of commercial business deposits.
INTEREST RATE RISK. The Bank has implemented the second operating
principle, minimizing interest rate risk, by matching, to the extent possible,
the repricing or maturity of its interest-earning assets to its interest-earning
liabilities as well as the basis or index (for example, the London Interbank
Offered Rate ("LIBOR") or the 11th District Federal Home Loan Bank cost of funds
index ("COFI")) upon which these assets and liabilities reprice. Generally this
is achieved through management of the composition of its assets and liabilities.
The Bank also attempts to achieve an acceptable interest rate spread between
interest-earning assets and interest-bearing liabilities by altering the Bank's
cost of funds, or, at times, the yield on certain assets in its portfolio. To
accomplish this, the Bank has purchased interest rate swaps and caps. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Asset and Liability Management" set forth in Item 7 hereof.
The Bank will originate and purchase for retention in its portfolio only
those loans and investments which provide a positive interest rate spread over
funding liabilities matched with similar maturities. Consistent with this
philosophy, a significant portion of the Bank's assets have been invested in
adjustable-rate high quality mortgage-backed securities. At December 31, 1997,
of the Bank's $1.5 billion of mortgage-backed securities, $1.3 billion or 85.9%,
were invested in adjustable rate mortgage-backed securities. To a lesser
extent, the Bank has purchased first lien mortgages on single-family residences,
a large portion of which are adjustable rate mortgages. At December 31, 1997,
$519.8 million, or 41.2% of the Bank's loans receivable portfolio was comprised
of adjustable rate single-family residential mortgage loans.
The Bank also originates and purchases fixed and adjustable rate long-term,
single-family residential loans primarily for sale into the secondary market.
Prior to 1996, this and certain other lending functions were performed for the
Bank by its wholly-owned mortgage banking subsidiary, CBS Mortgage Corp. ("CBS
Mortgage"). Beginning in 1996, the origination function was performed by the
Bank. By originating such loans for sale and generally obtaining a commitment
for the purchase of such loans at the time that the loan applications are
approved, the Bank avoids a significant portion of the interest rate risk
associated with holding fixed-rate mortgage loans.
CREDIT RISK. The Bank has implemented the third operating principle,
minimizing credit risk, by (i) investing a substantial portion of its assets in
cash and mortgage-backed securities, and (ii) taking a cautious approach to the
development of its direct lending operations, including commercial business
lending. At December 31, 1997, of the Company's $2.9 billion in total assets,
$1.5 billion or 52.0% of total assets consisted of mortgage-backed securities
and $37.1 million or 1.3% of total assets consisted of cash and cash
equivalents. At December 31, 1997, the Company's total net loans receivable
portfolio amounted to $1.3 billion or 43.3% of total assets comprised primarily
of $688.6 million of first lien residential mortgage loans, $178.3 million of
commercial real estate loans and $130.3 million of multifamily mortgage loans,
which constituted 54.6%, 14.1% and 10.3%, respectively, of the net loans
receivable portfolio. The balance of the net loans receivable portfolio, by
dollar amount and percent of the portfolio, was comprised of the following:
$98.4 million (or 7.8%) of commercial loans to residential mortgage originators
("Warehouse loans"), $46.2 million (or 3.7%) of residential construction loans,
$23.4 million (or 1.9%) of consumer and other loans, $23.2 million (or 1.8%) of
real estate acquisition and development loans, $32.5 million (or 2.6%) of loans
secured by mortgage servicing rights ("MSR loans"), $29.7 million (or 2.4%) of
commercial, financial and industrial loans and $10.8 million (or 0.8%) of
commercial construction loans. The Company's non-accrual loans as of such date
were $17.4 million or 1.38% of total loans receivable, and the Company's total
nonperforming assets were $20.5 million, or 0.71% of total assets. See "Lending
Activities-General."
NONINTEREST EXPENSE. The Bank has implemented the fourth operating
principle, maintaining a low level of general overhead expense relative to its
peers, by operating an efficiently staffed branch office system which is able to
administer and deliver its products and services in an economical manner. The
Bank believes that it has significant operating leverage, and that continued
incremental growth will not cause its overhead expenses to increase by a
corresponding amount. The growth achieved from the Bank's acquisitions has
facilitated reduced overhead levels as a proportion of assets and a lower cost
of funds from a more meaningful market share of core deposits. The Company's
ratio of noninterest expense to average total assets on a consolidated basis has
decreased, from 2.71% for the year ended December 31, 1988 to 1.36% for the year
ended December 31, 1997.
On September 30, 1996, the Bank recorded the one-time SAIF insurance
special assessment (the "Special Assessment") of $7.5 million ($4.8 million
after applicable income taxes) as a result of the Federal Deposit Insurance Act,
as amended (the "FDIA") being signed into law. The Special Assessment pursuant
to the FDIA was equal to 65.7 basis points on the SAIF assessment base of
deposits existing as of March 31, 1995. Other provisions of the Act provided
for a reduction of the SAIF deposit insurance premium rates beginning in the
fourth quarter of 1996.
The Bank is subject to regulation by the Department, as its chartering
authority and by the FDIC, which regulates the Bank and insures its deposits to
the fullest extent provided by law. The Bank also is subject to certain
regulation by the Board of Governors of the Federal Reserve System (the "Federal
Reserve Board") and is a member of the Federal Home Loan Bank of Dallas (the
"FHLB"), one of the 12 regional banks which comprise the Federal Home Loan Bank
System.
LENDING ACTIVITIES
GENERAL. The Bank has taken a cautious approach to the development and
growth of its direct lending operations in order to minimize credit risk. In
order to avoid incurring undue credit risk, the Bank historically invested a
significant percentage of its assets in alternative financial instruments,
particularly mortgage-backed securities, most of which have certain repayments
guaranteed by the government or Government Sponsored Enterprises ("GSEs"). See
"Mortgage-Backed Securities." The Bank will originate and purchase for
retention in its portfolio only those loans determined by management to have an
acceptable credit risk and which provide a positive interest rate spread over
funding liabilities matched with similar maturities. This strategy is designed
to achieve an acceptable risk adjusted rate of return, as determined and
continuously evaluated by the Board of Directors.
In November 1995, the Bank completed the acquisition of Texas Capital and
its $103.3 million in loans. The loans acquired from Texas Capital included
first lien residential, multifamily, commercial real estate, residential
construction, real estate acquisition and development, commercial, financial and
industrial and consumer loans. Utilizing this acquisition as a springboard, the
Bank implemented its strategic shift towards building a commercial banking
business, which has continued through 1997. The Bank's new concept for
originating, underwriting and approving all loans over $1.0 million was
implemented during the fourth quarter of 1997. The Portfolio Control Center
("PCC") applies Internet and network computer technology to take a loan from
application to closing in less time and incorporating more comprehensive credit
information. The PCC is also responsible for the day-to-day monitoring and
management of the Bank's assets and liabilities.
<PAGE>
The following table sets forth information concerning the composition of
the Bank's net loans receivable portfolio by type of loan at the dates
indicated.
<TABLE>
<CAPTION>
At December 31,
1997 1996 1995
------------ ------------ -----------
Amount Percent Amount Percent Amount Percent
------------ -------- ------------ -------- ----------- --------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Real-estate mortgage loans:
First lien residential $ 689,767 52.33% $ 791,337 61.96% $ 742,880 66.38%
Multifamily 131,454 9.97 139,486 10.92 95,297 8.52
Residential construction 83,359 6.33 77,146 6.04 33,935 3.03
Acquisition and development 31,619 2.40 26,132 2.05 15,517 1.39
Commercial 181,315 13.76 119,004 9.32 122,622 10.96
Commercial construction 14,506 1.10 3,963 0.31 -- --
Commercial, warehouse 98,679 7.49 53,573 4.19 48,822 4.36
Commercial, MSR 32,685 2.48 21,380 1.67 21,548 1.93
Commercial, financial and industrial 30,877 2.34 21,965 1.72 19,860 1.77
Loans secured by savings deposits 8,695 0.66 8,849 0.69 8,292 0.74
Consumer and other 15,030 1.14 14,400 1.13 10,316 0.92
------------ -------- ------------ -------- ----------- --------
Total loans 1,317,986 100.00% 1,277,235 100.00% 1,119,089 100.00%
------------ ======== ------------ ======== ----------- ========
Loans in process (47,893) (38,742) (11,526)
Premium (discount) to record
purchased loans, net 1,680 479 (1,366)
Unearned interest and loan fees (2,926) (2,344) (1,939)
Allowance for loan losses (7,412) (6,880) (5,703)
----------- ----------- -----------
Total loans receivable, net $ 1,261,435 $ 1,229,748 $1,098,555
============ ============ ===========
</TABLE>
<PAGE>
SCHEDULED MATURITIES. The following table sets forth certain
information at December 31, 1997 regarding the principal amount of loans
maturing in the Bank's loans receivable portfolio based on their contractual
terms to maturity. Demand loans, loans having no stated schedule of repayments
and no stated maturity are reported as due in one year or less. First lien
residential mortgage, multifamily mortgage and commercial real estate loans are
based on their contractual terms to maturity assuming no periodic amortization
of principal.
<TABLE>
<CAPTION>
AT DECEMBER 31, 1997
More than More than More than
One year one year to three years five years to
or less three years to five years ten years
--------- ------------ -------------- --------------
(In thousands)
<S> <C> <C> <C> <C>
First lien residential mortgage $ 2,408 $ 5,366 $ 9,790 $ 28,934
Multifamily mortgage 73,997 49,975 6,286 1,196
Residential construction 37,124 8,678 352 597
Real estate acquisition and
development 5,645 18,142 -- --
Commercial real estate 19,464 76,874 38,091 12,659
Commercial construction 8,345 -- 483 819
Commercial, other 122,000 17,928 20,439 1,873
Consumer and other 10,785 5,814 5,036 1,096
--------- ------------ -------------- --------------
Total loans $ 279,768 $ 182,777 $ 80,477 $ 47,174
========= ============ ============== ==============
AT DECEMBER 31, 1997
More than Over
ten years to twenty
twenty years years Total
------------- --------- ----------
(In thousands)
<S> <C> <C> <C>
First lien residential mortgage $ 157,838 $485,431 $ 689,767
Multifamily mortgage -- -- 131,454
Residential construction -- -- 46,751
Real estate acquisition and
development -- -- 23,787
Commercial real estate 34,228 -- 181,316
Commercial construction 1,406 -- 11,053
Commercial, other -- -- 162,240
Consumer and other 994 -- 23,725
------------- -------- -----------
Total loans $ 194,466 $485,431 $1,270,093
============= ======== ===========
</TABLE>
The average maturity of loans is generally substantially less than their
average contractual terms because of prepayments and, in the case of
conventional mortgage loans, due-on-sale clauses, which generally give the Bank
the right to declare a loan immediately due and payable in the event, among
other things, that the borrower sells the real property subject to the mortgage
and the loan is not repaid. The average life of mortgage loans tends to
increase when current mortgage loan rates are substantially higher than rates on
existing mortgage loans and, conversely, decrease when rates on existing
mortgages are substantially lower than current mortgage loan rates (due to
refinancings or adjustable-rate and fixed-rate loans at lower rates). Under the
latter circumstances, the weighted average yield on loans decreases as higher
yielding loans are repaid or refinanced at lower rates.
<PAGE>
The following table sets forth the amounts of loans due after one year from
December 31, 1997 by category and which have fixed or adjustable rates.
<TABLE>
<CAPTION>
Interest-Rate
Fixed Adjustable Total
--------- ----------- --------
(In thousands)
<S> <C> <C> <C>
First lien residential mortgage $ 167,357 $ 520,002 $687,359
Multifamily mortgage 9,972 47,485 57,457
Residential construction 7,238 2,389 9,627
Real estate acquisition and development -- 18,142 18,142
Commercial real estate 57,089 104,763 161,852
Commercial construction 1,246 1,462 2,708
Commercial, other 13,077 27,163 40,240
Consumer and other 11,575 1,365 12,940
--------- ----------- --------
Total $ 267,554 $ 722,771 $990,325
========= =========== ========
</TABLE>
<PAGE>
ORIGINATION, PURCHASE AND SALE OF LOANS. The following table sets forth
the loan origination, purchase and sale activity of the Bank during the periods
indicated. The table does not reflect the activity of CBS Mortgage for other
institutions, GSEs or entities during the periods presented. See "Mortgage
Banking Activities."
<TABLE>
<CAPTION>
Year Ended December 31,
1997 1996 1995
----------- ----------- -----------
(In thousands)
<S> <C> <C> <C>
First lien mortgage loan originations:
Adjustable rate $ 1,458 $ 3,542 $ 985
Fixed rate 4,849 5,471 746
Adjustable rate by correspondent lenders 26,220 67,461 92,911
Fixed rate by correspondent lenders 686 4,058 --
Residential construction and acquisition
and development loan originations 145,727 154,182 61,713
Warehouse loan originations 1,174,639 887,252 549,628
MSR loan originations 55,259 69,172 67,578
Multifamily loan originations 81,148 67,657 42,366
Commercial real estate loan originations 171,497 41,170 29,595
Commercial construction originations 12,222 3,806 --
Commercial, financial and industrial loan originations 43,497 30,080 5,100
Consumer loan originations 18,679 22,256 12,429
----------- ----------- -----------
Total loan originations 1,735,881 1,356,107 863,051
Purchase of residential mortgage loans 108,226 115,928 298,613
Loans acquired (net) in connection with
acquisition and disposition transactions -- 1,018 103,319
Purchase of multifamily and commercial
real estate loans -- 4,604 25,045
Purchase of consumer loans 70 -- --
----------- ----------- -----------
Total loan originations and purchases 1,844,177 1,477,657 1,290,028
----------- ----------- -----------
Foreclosures 4,226 4,363 3,394
Principal repayments and reductions to
principal balance 1,790,790 1,339,691 776,084
Residential loans sold 12,855 -- 679
----------- ----------- -----------
Total foreclosures, repayments and sales of loans 1,807,871 1,344,054 780,157
----------- ----------- -----------
Amortization of premiums, discounts and fees on loans (2,819) (485) 3,316
Provision for loan losses (1,800) (1,925) (1,664)
----------- ----------- -----------
Net increase in loans receivable $ 31,687 $ 131,193 $ 511,523
=========== =========== ===========
</TABLE>
<PAGE>
The following table sets forth the number of bulk loan purchases and the
amount of first lien residential mortgage loans acquired by the Bank through
bulk purchases for the periods indicated.
<TABLE>
<CAPTION>
Year Ended December 31,
1997 1996 1995
-------- -------- --------
(Dollars in thousands)
<S> <C> <C> <C>
Amount purchased $107,881 $112,395 $296,452
Number of bulk
loan purchases 3 9 24
</TABLE>
Personnel from the Bank generally analyze loan bid packages, as they
become available, and the PCC reviews the information in the loan packages to
determine whether to bid (or make an offer) on a package and the price of such
bid (or offer). The pricing with respect to such loan packages is based on a
number of factors, including the ability to create spread income with a funding
source of comparable maturity, the pricing of alternative investments,
particularly mortgage-backed securities, which offer little or no credit risk,
and the credit risk profile of the portfolio offered. The Bank analyzes credit
risk in a whole loan package through its due diligence investigation, which is
designed to provide management with basic underwriting information on each loan
or group of loans, including loan-to-value, payment history, insurance and other
documentation. Because the Bank is purchasing loans in bulk, the Bank prices the
loan packages that it bids on to take into consideration, among other things,
delinquency and foreclosure assumptions based on the risk characteristics of the
loan packages. The Bank intends to continue to make competitive bids on loan
portfolios that meet the Bank's purchase criteria.
Beginning in 1994, the Bank has been originating adjustable rate
residential mortgage loans through correspondent lenders. The correspondents
originate and immediately sell such loans to the Bank. All such loans are
underwritten in accordance with the Bank's policies and procedures. During 1997
(before discontinuing this program), loans purchased from the correspondent
lenders totaled $26.9 million.
The Bank will directly sell mortgage loans and mortgage loan servicing from
time to time in order to replace the loans and servicing with instruments which
have higher credit quality and which generate less interest rate risk. In 1997,
the Bank sold $12.9 million of first lien residential mortgage loans.
While the Bank has the general authority to originate and purchase loans
secured by real estate located anywhere in the United States, the largest
concentration of its residential first lien mortgage and construction loan
portfolios is secured by realty located in Texas.
RESIDENTIAL CONSTRUCTION LENDING. The Bank initiated a construction
lending program with local builders in the latter part of 1989 which has grown
considerably since its inception. At the time of initiation of the program,
management of the Bank surveyed the members of the residential construction
industry in the Bank's Houston market area and targeted those companies which
management believed, based upon its market research, to be financially strong
and reputable. Loans are made primarily to fund residential construction.
Construction loans are made on pre-sold and speculative residential homes only
in well located, viable subdivisions and planned unit developments.
The builders with whom the Bank does business generally apply for either a
non-binding short-term line of credit or for an annual line of credit (subject
to covenants) from the Bank for a maximum amount of borrowing to be outstanding
at any one time. Upon approval of the line of credit, the Bank issues a letter
which indicates to the builder the maximum amount which will be available under
the line, the term of the line of credit (which is generally 90 days to one
year), the interest rate of the loans to be offered under the line (which is
generally set at a rate above the Wall Street Journal prime rate or LIBOR on the
outstanding monthly loan balance) and the loan fees payable. When the builder
desires to draw upon a short-term line of credit, it must make a separate loan
application under the line for a specific loan amount. Each loan commitment
under a short-term line of credit is separately underwritten and approved after
the builder's master file is updated and reviewed. The Bank also funds
construction loans outstanding to builders or individuals under individual
construction loans.
The terms of the Bank's construction loans are generally for nine months or
less, unless extended by the Bank. If a construction loan is extended, the
borrower is generally charged a loan fee for each 90 day extension period. The
Bank reserves the right to extend any loan term, but generally does not permit
the original term and all extensions to exceed 24 months without amortization of
principal either in monthly increments or a lump sum.
The loan-to-value ratio (applied to the underlying property that
collateralizes the loan) of any residential construction loan may not exceed 85%
or 100% of the actual cost. All individual loans are limited in dollar amount
based upon the project proposed by the builder. Draws for lot purchases are
generally limited to the contracted sales price of the lot (to include
escalations) not to exceed 100% of the lot's appraised value. Other special
conditions which the Bank attaches to its construction loans include a
requirement that limits the number and dollar amount of loans which may be made
based upon unsold inventory. The Bank may also, in its sole discretion,
discontinue making any further loans if the builder's unsold inventory exceeds a
certain level from all lending sources or if the builder fails to pay its
suppliers or subcontractors in a timely manner.
The Bank provides construction financing for homes that generally are
priced below $450,000, with most homes priced between $70,000 and $175,000. In
this price range, the Bank has experienced the shortest duration of term, the
highest annualized yield and the least likelihood of defaults because of the
generally high number of pre-completion sales. The Bank will also make
individual construction loans to builders or individuals on single homes or a
panel of homes on substantially the same terms and conditions as loans granted
under the Bank's line of credit program.
At December 31, 1997, the Bank had $46.8 million in outstanding residential
construction loans (net of loans in process). Of the construction loans
outstanding at December 31, 1997, $38.7 million were to 22 builders originated
under the Bank's line of credit program and $8.1 million were to builders or
individuals under individual construction loans. At the present time, the Bank
has approved builders in the Houston, Dallas, and Austin metropolitan areas and
is selectively soliciting new builders for its residential construction lending
program. The Bank intends to continue to do business with the companies
involved in its line of credit program and believes that it will continue to
have construction loan demand from the builders with whom it currently has an
established lending relationship. The Bank does not otherwise actively solicit
construction loans directly or through the mass media.
Construction financing is generally considered to involve a higher degree
of risk than long-term financing on improved, occupied residential real estate,
due to the lender's reliance on the borrower to add to the estimated value of
the property through construction within the budget set forth in the loan
application. The Bank attempts to limit its risk exposure by, among other
things: limiting the number of borrowers to whom it lends and establishing
specific qualification requirements for borrowers generally; continually
monitoring the general economic conditions in the market, recent housing starts
and sales; continually monitoring the financial position of its borrowers
throughout the term of the loan through periodic builder reports and inquiries
to the builder's suppliers and subcontractors; continually monitoring the
progress of the development through site inspections prior to loan
disbursements; utilizing only qualified, approved appraisers; and requiring that
the builder maintain a pre-approved ratio (generally not greater than 50%) of
speculative to pre-sold homes in the development.
MULTIFAMILY MORTGAGE AND COMMERCIAL REAL ESTATE LENDING. The Bank
initiated a program in 1993 to actively seek loans secured by multifamily or
commercial properties (primarily retail shopping centers). Multifamily mortgage
and commercial real estate loans typically involve higher principal amounts and
repayment of the loans generally is dependent, in large part, on sufficient cash
flow being generated by the underlying properties to cover operating expenses
and loan repayments. Market values may vary as a result of economic events or
governmental regulations which are outside the control of the borrower or lender
and which can affect the future cash flow of the properties. The loans are for
a short to medium term of between one to seven years, and have floating rates or
fixed rates based on a spread over similarly fixed borrowings from the FHLB.
The properties securing the loans originated by the Bank are generally located
in Texas. The Bank attempts to limit its risk exposure by, among other things:
lending to proven developers/owners, generally only considering properties with
existing operating performance which can be analyzed, requiring conservative
debt coverage ratios, and continually monitoring the operation and physical
condition of the collateral. At December 31, 1997, multifamily mortgage loans
totaling $131.5 million and commercial real estate loans of $181.3 million were
outstanding. The decision to increase commercial real estate lending resulted
primarily from the improvement in the local economies throughout Texas, which
was reflected in improved occupancy in retail centers together with an
improvement in the quality of the borrowers seeking such loans. At December 31,
1997, the Bank had outstanding commercial real estate loans totaling
approximately $322,000 that were on non-accrual status, $14,000 of which were
acquired from Texas Capital.
The Bank began seeking multifamily and commercial real estate construction
loans in 1996. The Bank will generally underwrite these loans in the same way
it currently underwrites its multifamily mortgage loans and will attempt to
manage the risk of such loans by requiring that the builders provide more equity
in the project than is required in refinancings, lending to those builders with
strong financial statements and requiring that borrowers purchase, if required
by the movement of general market interest rates, interest rate caps for their
loans. At December 31, 1997, commercial construction loans totaling $14.5
million were outstanding, of which $900,000 was on non-accrual status.
WAREHOUSE LENDING. Since 1992, the Bank has provided or participates in
lines of credit to mortgage companies generally for their origination of single
family residential loans which are normally sold no more than 90 days from
origination to the Federal National Mortgage Association (the "FNMA"), Federal
Home Loan Mortgage Corporation ("FHLMC"), Government National Mortgage
Association ("GNMA") or to private investors. The lines of credit are generally
renewable annually. Borrowers pay interest on funds drawn at a floating rate.
In addition, the Bank usually receives a fee for each loan file processed. The
Bank holds the original mortgage loan notes and other documentation as
collateral until repayment of the related lines of credit, except when a third
party bank is acting as the lead bank in the lending relationship.
Warehouse loans are underwritten in accordance with Bank policies and
procedures. Interested loan originators who contact or are contacted by the
Bank are asked to prepare a loan application which seeks detailed information on
the originator's business. After evaluating the application and independently
verifying the applicant's credit history, if the originator appears to be a
likely candidate for approval, Bank personnel will visit the originator and
review, among other things, its business organization, management, quality
control, funding sources, risk management, loan volume and historical
delinquency rate, financial condition, contingent obligations and regulatory
compliance. The originator pays a fee for this review to offset a portion of
the Bank's expense; this amount is deducted from the origination fee if the line
of credit is approved. If the originator meets the established criteria, its
application is submitted for approval.
Bank personnel attempt to minimize the risk of making Warehouse loans by,
among other things, (i) taking physical possession of the originator's
collateral, (ii) directly receiving payment from secondary market investors when
the loans are sold and remitting any balance to the borrower after deducting the
amount borrowed for that particular loan, (iii) visiting the originator's office
from time to time to review its financial and other records and (iv) monitoring
each originator: (a) by periodically reviewing each originator's financial
statements, loan production delinquency and commitment reports; and, (b) on an
annual basis, by reviewing the originator's audited financial statements and the
auditor's letter to the originator's board of directors.
During 1997, the Bank originated $1.2 billion of Warehouse loans and had
such loans outstanding of $98.7 million at December 31, 1997.
MSR LENDING. Since 1992, the Bank has loaned funds to mortgage companies
for their purchase of mortgage servicing rights or to finance the mortgage
companies' ongoing operations to originate and retain mortgage servicing. The
mortgage companies receive fees for servicing mortgage loans which include
collecting and remitting loan payments to FNMA, FHLMC and other investors. Loans
of this nature generally have terms of one to five years, and are generally
limited to 70.0% of the price paid by the mortgage company for servicing rights,
or of the value of the originated servicing rights (subject to the regulatory
maximum for loans to one borrower). MSR loans are made at adjustable rates of
interest tied to LIBOR or the Bank's borrowing rate plus a spread and a
commitment fee. MSR loans are collateralized by purchased or originated
mortgage servicing rights to the remaining cash flows after remittance of
payments to FNMA, FHLMC or other investors on the servicing portfolio. Bank
personnel closely monitor MSR borrowers on a semi-annual basis by, among other
things, reviewing the borrower's financial condition and operations in the same
manner as they do for Warehouse loans and by examining the value of the
borrower's MSR portfolio (through evaluation of the estimated future net cash
flows from the servicing rights) in order to ensure that the loan-to-value ratio
does not exceed 75.0% during the life of the loan. If the continuing
loan-to-value ratio exceeds that amount, the borrower is asked to repay a
portion of the principal balance to maintain the ratio limit. At December 31,
1997, the Bank had $32.7 million in outstanding MSR loans.
REAL ESTATE ACQUISITION AND DEVELOPMENT LENDING. The Bank has increased
the number of loans originated to residential real estate builders and
developers for the acquisition and/or development of vacant land. The proceeds
of the loans are generally used to acquire the land and make the site
improvements necessary to develop the land into saleable lots. The Bank
generally lends only to the major developers with good track records and strong
financial capacity and on property where substantially all of the lots to be
developed are pre-sold. The term of the loans have generally been from 18 to 24
months at a spread over the prime rate, plus an origination fee. Repayment on
the loans is generally made as the lots are sold to builders. Land acquisition
and development loans involve additional risks when compared to loans on
existing residential properties. These loans typically involve relatively large
loan balances to single borrowers, and the repayment experience is dependent
upon the successful development of the land and the resale of the lots. These
risks can be significantly impacted by supply and demand conditions and the
general economic conditions in the local market area. At December 31, 1997, the
Bank had $31.6 million of real estate acquisition and development loans
outstanding.
COMMERCIAL BUSINESS LENDING. Development of a commercial business lending
program is a strategic goal of Bank management. The Texas Capital acquisition
provided the Bank with an established commercial business lending program to
small and medium sized companies primarily in the Houston and Austin
metropolitan areas. In 1997, management continued to develop the infrastructure
for commercial business lending in most of the Bank's major markets. The
commercial, financial and industrial loans ("Commercial Business loans") are
generally made to provide working capital financing or purchase financing to
businesses and are generally secured by the borrower's working capital assets
(i.e. accounts receivable, inventory, etc.) or assets purchased by the borrower
(i.e. operating assets, equipment, etc.). Commercial Business loans generally
have shorter terms (one to five years) at a spread over prime rate and are of
greater risk than real estate secured loans because of the type and nature of
the collateral. In addition, Commercial Business loan collections are more
dependent on the continuing financial stability of the borrower. The Bank
intends to continue to expand the acquired commercial business lending program,
while managing the associated credit risk by monitoring borrowers' financial
position and underlying collateral securing the loans. At December 31, 1997,
Commercial Business loans outstanding totaled $30.9 million, of which $485,000
($336,000 acquired from Texas Capital) was on non-accrual status.
CONSUMER LENDING. The Bank makes available traditional consumer loans,
such as home improvement, new and used car financing, new and used boat and
recreational vehicle financing and loans secured by savings deposits. The
interest rate on loans secured by savings deposits is typically set at a rate
above that paid on the underlying account and adjusts if the rate on the account
changes. At December 31, 1997, the Bank had $23.7 million in consumer loans
outstanding, of which $8.7 million were savings deposit secured loans. At
December 31, 1997, loans totaling $53,000 in this category were on non-accrual
status.
Consumer loans (other than savings deposit secured loans) generally have
shorter terms and higher interest rates than mortgage loans but usually involve
greater credit risk than mortgage loans because of the type and nature of the
collateral. In addition, consumer lending collections are dependent on the
borrower's continuing financial stability, and are thus likely to be adversely
affected by job loss, marital status, illness and personal bankruptcy. In many
cases, repossessed collateral for a defaulted consumer loan will not provide an
adequate source of repayment of the outstanding loan balance because of
depreciation of the underlying collateral. The Bank believes that the generally
higher yields earned on consumer loans compensate for the increased credit risk
associated with such loans and that consumer loans are important to its efforts
to serve the credit needs of the communities that it serves.
The Bank's consumer loan lending territory approximates the markets served
by its retail branches. Persons desiring consumer loans are typically
individuals who have a pre-existing banking relationship with the Bank.
ASSET QUALITY. The Bank, like all financial institutions, is exposed to
certain credit risks related to the value of the collateral which secures loans
held in its portfolio and the ability of borrowers to repay their loans during
the term thereof. Management of the Bank closely monitors the loan portfolio
and the Bank's real estate acquired as a result of foreclosure ("REO") for
potential problems on a weekly basis and reports to the Board of Directors on a
monthly basis. When a borrower fails to make a required loan payment or other
weaknesses are detected in a borrower's financial condition, the Bank attempts
to determine an appropriate course of action by contacting the borrower.
Delinquencies are cured promptly in most cases. If the delinquency on a
mortgage loan exceeds 90 days and is not cured through the Bank's normal
collection procedures, or an acceptable arrangement is not worked out with the
borrower, the Bank will institute measures to remedy the default, including
commencing a foreclosure action. As a matter of policy, the Bank generally does
not accept from the mortgagor a voluntary deed of the secured property in lieu
of foreclosure. If foreclosure is effected, the property is sold at a public
auction in which the Bank may participate as a bidder. If the Bank is the
successful bidder, the foreclosed real estate is then included in the Bank's REO
portfolio until it is sold.
Upon acquisition, REO is recorded at the lower of unpaid principal balance
adjusted for any remaining acquisition premiums or discounts less any applicable
valuation allowance or estimated fair value, based on an appraisal, less
estimated selling costs. All costs incurred from the date of acquisition
forward relating to maintaining the property are recorded as a current expense.
It is the Bank's general policy not to recognize interest income on loans
past due 90 days or more. When a loan is placed on non-accrual status,
previously accrued but unpaid interest is reversed against current interest
income. On a loan-by-loan basis, Bank management may continue to accrue
interest on loans that are past due more than 90 days, primarily if management
believes that the individual loan is in the process of collection and the
interest is fully collectible. At December 31, 1997, 1996 and 1995, the Bank
had the following loans which were 90 days or more delinquent and were on
accrual status:
<PAGE>
<TABLE>
<CAPTION>
At December 31,
1997 1996 1995
----- ------- -----
(Dollars in thousands)
<S> <C> <C> <C>
First lien single family mortgage $ -- $ 106 $ --
Residential construction 79 52 --
Commercial real estate 91 881 --
Commercial, financial and industrial 120 14 231
Consumer 50 142 --
----- ------- -----
Total $ 340 $ 1,195 $ 231
===== ======= =====
</TABLE>
The following table sets forth information regarding the Bank's non-accrual
loans and REO as of the dates shown.
<TABLE>
<CAPTION>
At December 31,
--------------------------------------
1997 1996 1995
----------- ----------- -----------
(Dollars in thousands)
<S> <C> <C> <C>
Non-accrual loans:
First lien single family
mortgage $ 15,591 $12,238 $12,925
Residential construction -- -- 353
Commercial real estate 322 32 965
Commercial construction 900 -- --
Commercial, financial and
industrial 485 496 337
Consumer 53 73 42
---------- -------- --------
Total non-accrual loans 17,351 12,839 14,622
Total REO and repossessed assets 3,198 3,161 4,216
---------- -------- --------
Total nonperforming assets $ 20,549 $16,000 $18,838
========== ======== ========
Ratio of nonperforming
assets to total assets 0.71% 0.56% 0.68%
========== ======== ========
Ratio of non-accrual loans to total
loans receivable 1.38% 1.04% 1.33%
========== ======== ========
</TABLE>
<PAGE>
At December 31, 1997, approximately $925,000 in additional interest income
would have been recorded in the year then ended on the above loans accounted for
on a non-accrual basis if such loans had been current in accordance with their
original terms and had been outstanding throughout the period or since
origination if held for part of the period. For the year ended December 31,
1997, $827,000 in interest income was included in net income for these same
loans prior to the time they were placed on non-accrual status.
At December 31, 1997, the Bank had 236 first lien residential mortgage
loans in non-accrual status, aggregating $15.6 million, with an average balance
of approximately $66,000. A total of 211 of these loans, with an aggregate
balance of $12.9 million, were acquired through bulk loan purchases, 2 of these
loans, with an aggregate balance of $29,000, were acquired through the Southwest
Plan Acquisition and 2 of these loans, with an aggregate balance of $113,000,
were acquired in the Texas Capital acquisition. Of the 211 residential mortgage
loans acquired through bulk purchases, at December 31, 1997, 32 of such loans
totaling $1.3 million were being serviced by other institutions, which
constituted 3.8% of the $35.6 million of aggregate loans serviced by others.
At December 31, 1997, nonperforming assets included REO with an aggregate
book value of $3.2 million and repossessed assets of $12,000. At such date, the
Bank's REO consisted of 36 single family residential properties and 5 commercial
properties (acquired from Texas Capital).
At December 31, 1997, in addition to the loans in non-accrual status, the
Bank had $9.8 million in loans classified as substandard, $42,000 classified as
doubtful and $10.7 million of loans designated as "special mention" for
regulatory purposes. Of these loans, $1.1 million of the substandard loans and
$282,000 of the "special mention" loans were acquired from Texas Capital. Loans
designated as "special mention" are not currently required to be classified for
regulatory purposes but have potential weaknesses or risk characteristics that
could result in future problems.
On January 1, 1995, the Bank adopted the Financial Accounting Standards
Board's (the "FASB") Statement of Financial Accounting Standards No. 114
(Statement 114), "Accounting by Creditors for Impairment of a Loan," as amended
by Statement 118. Under Statement 114, a loan is impaired when it is "probable"
that a creditor will be unable to collect all amounts due (i.e., both principal
and interest) according to the contractual terms of the loan agreement.
Statement 114 requires that the measurement of impaired loans be based on (i)
the present value of the expected future cash flows discounted at the loan's
effective interest rate, (ii) the loan's observable market price, or (iii) the
fair value of the loan's collateral. Statement 114 does not apply to large
groups of smaller balance homogeneous loans that are collectively evaluated for
impairment. The Bank collectively reviews all first-lien residential loans
under $500,000 as a group and all consumer and other loans as a group for
impairment, excluding loans for which foreclosure is probable. The adoption of
Statement 114, as amended by Statement 118, had no material impact on the Bank's
consolidated financial statements as the Bank's existing policy of measuring
loan impairment was generally consistent with methods prescribed in these
standards.
The Bank considers a loan to be impaired when, based upon current
information and events, it is probable that the Bank will be unable to collect
all amounts due according to the contractual terms of the loan agreement. In
determining impairment, the Bank considers, among other things, large
non-homogeneous loans which may include nonaccrual loans or troubled debt
restructurings, and performing loans which exhibit, among other characteristics,
high loan-to-value ratios, low debt coverage ratios, or indications that the
borrowers are experiencing increased levels of financial difficulty. The Bank
bases the measurements of collateral-dependent impaired loans on the fair value
of their collateral. The amount by which the recorded investment in the loan
exceeds the measure of the fair value of the collateral securing the loan is
recognized by recording a valuation allowance. At December 31, 1997, the
carrying value of loans that are considered to be impaired under Statement 114
totaled approximately $2.0 million (all of which were on non-accrual) and the
related allowance for loan losses on those impaired loans totaled $1.1 million.
The average balance of impaired loans during the year ended December 31, 1997
was approximately $897,000. For the year ended December 31, 1997, the Bank did
not recognize interest income on loans considered impaired.
The Bank had loaned $83.4 million at December 31, 1997, under its
residential construction lending program to multiple borrowers who are engaged
in similar activities. These borrowers could be similarly impacted by economic
conditions in Texas. See "Residential Construction Lending." Except for
concentrations in its Warehouse lending lines, the Bank had no other loan
concentrations. At December 31, 1997, the Bank had $98.7 million of Warehouse
loans outstanding. See "Warehouse Lending."
<PAGE>
ALLOWANCE FOR LOAN LOSSES. The Bank maintains loan loss allowances to
absorb future losses that may be realized on its loans receivable portfolio.
The following table summarizes activity in the Bank's allowance for loan losses
during the periods indicated.
<TABLE>
<CAPTION>
Year Ended December 31,
----------------------------
1997 1996 1995
-------- -------- --------
(Dollars in thousands)
<S> <C> <C> <C>
Balance at beginning of year $ 6,880 $ 5,703 $ 2,158
Charge-offs(1) (1,416) (851) (404)
Recoveries 148 103 17
Provisions for loan losses 1,800 1,925 1,664
Acquisition allowance adjustment(2) -- -- 2,268
-------- -------- --------
Balance at end of the year $ 7,412 $ 6,880 $ 5,703
======== ======== ========
Ratio of net charge-offs during the
period to average net loans
outstanding during the period 0.10% 0.06% 0.05%
======== ======== ========
</TABLE>
(1)In 1997, $591,000 of the charge-offs were attributable to single family
residential loans, $472,000 to Commercial Business loans, $349,000 to consumer
and other loans and $4,000 to commercial real estate loans. In 1996, $651,000
of the charge-offs were attributable to single family residential loans,
$142,000 to consumer and other loans and $58,000 to Commercial Business loans.
In 1995, $359,000 of the charge-offs were attributable to single family
residential loans and $45,000 to consumer and other loans.
(2)The acquisition allowance adjustment in 1995 represents the amount allocated
to the allowance for loan losses during the year in connection with (i) a bulk
loan package acquired and (ii) the loans acquired in the Texas Capital
acquisition.
<PAGE>
The following table sets forth the allocation of the allowance for loan
losses by type of loan outstanding at the dates indicated.
<TABLE>
<CAPTION>
At December 31,
1997 1996 1995
------- ------- -------
(In thousands)
<S> <C> <C> <C>
First lien residential mortgage $ 2,566 $ 2,217 $ 2,992
Multifamily mortgage 511 369 249
Residential construction 251 223 307
Real estate acquisition and development 316 261 130
Commercial real estate 1,468 1,151 1,072
Commercial construction 203 20 --
Commercial, Warehouse and MSR 494 361 230
Commercial, financial and industrial 1,008 985 395
Consumer and other 233 374 177
Unallocated 362 919 151
------- ------- -------
$ 7,412 $ 6,880 $ 5,703
======= ======= =======
</TABLE>
<PAGE>
The following table sets forth the allocation of the provision (reduction
of allowance)
for loan losses by loan type during the periods indicated.
<TABLE>
<CAPTION>
At December 31,
1997 1996 1995
-------- -------- --------
(In thousands)
<S> <C> <C> <C>
First lien residential mortgage $ 908 $ (180) $ 1,032
Multifamily mortgage 142 120 23
Residential construction 28 (84) (67)
Real estate acquisition and development 55 131 (25)
Commercial real estate 321 79 479
Commercial construction 183 20 --
Commercial, Warehouse and MSR 133 131 132
Commercial, financial and industrial 416 618 --
Consumer and other 171 322 90
Unallocated (557) 768 --
-------- -------- --------
$ 1,800 $ 1,925 $ 1,664
======== ======== ========
</TABLE>
Provisions for loan losses, currently $450,000 per quarter, are charged to
earnings to bring the total allowance to a level deemed appropriate by
management based on such factors as historical experience, the volume and type
of lending conducted by the Bank, the amount of nonperforming assets, industry
standards, regulatory policies, generally accepted accounting principles,
general economic conditions, particularly as they relate to the Bank's lending
area, and other factors related to the collectibility of the Bank's loan
portfolio.
The Bank periodically reviews its loan loss allowance policy, at a minimum,
annually. As a result of a comprehensive revision of such policy in 1996, the
Bank changed its method of assessing the adequacy of the allowance for loan
losses. The revised policy provides that the Bank will annually establish a
monthly provision amount to be added to the allowance for loan losses and the
resultant allowance will be "tested" monthly for adequacy based on the
allocation methodology described below. The policy provides that any "excess"
based on this calculation will be maintained in the allowance for loan losses as
"unallocated". The minimum allowance allocation to first lien residential
mortgage loans greater than 90 days delinquent is a general allocation of 5% of
the aggregate net book value. All other first lien residential mortgage loans
are allocated a general allowance of 0.10% of the aggregate net book value. The
Bank generally allocates the allowance to multifamily, residential construction,
commercial construction, real estate acquisition and development, commercial
real estate, Warehouse, MSR, Commercial Business and consumer and other loans in
the following percentages of outstanding principal amounts: 0.25%, 0.25%,
0.50%, 1.0%, 0.50%, 0.25%, 0.50%, 1.0% and 1.0%. In addition, a general
allowance allocation is calculated on unfunded commitments and letters of credit
using the general allowance percentages described above for the applicable loan
type. Specific allowances are established by management on specific loans as
considered necessary.
The Bank's management believes that its present allowance for loan losses
is adequate based upon, among other considerations, the factors discussed above,
its low level of nonperforming loans and its historical loss experience.
Management continues to review its loan portfolio to determine whether its loan
loss allowance policy should be altered in light of current conditions and to
make any additional provisions which may be deemed necessary. While management
uses the best information available to make such determinations, additional
provisions for loan losses may be required to be established in the future
should economic or other conditions change substantially. In addition, the FDIC
and the Department, as an integral part of their examination processes,
periodically review the Bank's loan loss allowances. These agencies may require
the Bank to establish additional loan loss allowances, based on their respective
judgments of the information available at the time of the examinations.
MORTGAGE BANKING ACTIVITIES
LOAN ORIGINATIONS AND SALES. Through 1995, the Bank's wholly-owned
subsidiary, CBS Mortgage, originated loans for the Bank and for others secured
by first lien mortgages on completed single family residences located
principally in the Houston metropolitan area and in geographic areas surrounding
the Bank's branch locations. Beginning on January 1, 1996, the origination
function was performed by the Bank, with CBS Mortgage's activities then limited
to primarily loan servicing. The Bank's present policy is to originate or
purchase and then sell to third party investors fixed rate residential mortgage
loans principally to avoid the interest rate and credit risk associated with
holding fixed rate mortgage loans in portfolio. During the years ended 1997,
1996 and 1995, the Bank (in 1997 and 1996) and CBS Mortgage (in 1995) originated
or purchased with the intent to sell $4.1 million, $11.2 million and $8.8
million, respectively, of single family residential mortgage loans and sold $4.4
million, $11.7 million and $8.3 million, respectively, of such loans to
secondary market investors ("SMI"). During 1997, 1996 and 1995, the Bank (in
1997 and 1996) and CBS Mortgage (in 1995) originated residential real estate
loans for portfolio totaling $6.3 million, $9.0 million, and $1.7 million,
respectively.
"Pipeline risk," which is inherent in mortgage lending operations, arises
when the originator of a loan makes an uncovered commitment to lend funds to a
borrower at a locked-in rate of interest over the period of time which is
required for the lender to close and/or sell the loan. The risk is that market
rates of interest will move higher in the period between the time of commitment
and the time of funding the loan, and the lender will thereafter have difficulty
finding a buyer for such loan at a break-even or better price. Management of the
Bank and of CBS Mortgage believe that its loan origination strategy eliminates
to a large extent any "pipeline risk." The majority of applications taken are
accepted on the basis that rates will be set immediately prior to closing.
Applications that carry a locked-in rate are covered for interest rate risk by
the use of the forward sales of mortgage-backed securities or by registering
each loan with an investor that offers loan-by-loan protection until closing and
delivery to the investor.
Through 1995, CBS Mortgage made available a variety of mortgage products
designed to respond to consumer needs and competitive factors. Beginning on
January 1, 1996, with the transfer of the origination function, these mortgage
products were being made available from the Bank, although not actively
solicited. Conventional conforming loans that are secured by first liens on
completed residential real estate are generally originated for amounts up to 95%
of the appraised value or selling price of the mortgaged property, whichever is
less. All loans with loan-to-value ratios in excess of 80% generally require the
borrower to purchase private mortgage insurance from approved third party
insurers. Conventional non-conforming mortgage loans (i.e., loans for single
family homes with an original balance in excess of the maximum loan balance
amount set by FNMA or FHLMC, which is presently $227,150, or loans that do not
otherwise meet the criteria established by FNMA or FHLMC) are also originated.
Such loans are originated based on underwriting guidelines or standards required
by the SMI to whom such loans are intended to be sold. During 1997, fewer than
10% of the mortgage loans originated by the Bank were non-conforming mortgage
loans.
In addition to 15-year and 30-year conventional mortgages, CBS Mortgage
offered and now the Bank offers, special products designed to provide to its
customers lower rates of interest or lower principal and interest payments.
Borrowers may choose from a wide variety of combinations of interest rates and
points on many products so that its customers may elect to pay higher points at
closing and lower interest over the life of the loan, or pay a higher interest
rate and reduce the points payable at closing. In addition, from time to time
mortgages are offered in the following categories: those which allow the
borrower to make lower monthly payments for the first one, two or three years of
the loan; fixed rate mortgages; and adjustable rate mortgages having interest
rate adjustments every one, five or seven years based upon a specified
independent index.
Borrower demand for adjustable rate mortgage loans compared to fixed rate
mortgage loans is a function of interest rate levels, consumer expectations for
changes in interest rate levels and the difference between interest rates and
loan fees offered for fixed rate mortgage loans and for adjustable rate mortgage
loans. The Bank's and CBS Mortgage's loan origination volume has been subject
to some minor seasonal variations, with the heaviest demand in the late spring
and summer months. Loan demand is also affected by the general interest rate
environment and, to a large measure, by the general state of the local economy.
During times of relatively lower market interest rates, demand by previous
borrowers for refinancings increases. Refinancings are not solicited by CBS
Mortgage or the Bank. However, if a request for a refinancing is received,
borrowers are offered current mortgage loan products. Refinancings are processed
in a manner identical to original originations and are charged the same fees as
charged for original originations.
LOAN SERVICING. CBS Mortgage services residential real estate loans owned
by the Bank as well as for others, including FNMA, FHLMC and other private
mortgage investors. Loan servicing includes collecting and remitting loan
payments, accounting for principal and interest, making advances to cover
delinquent payments, making inspections as required of mortgaged premises,
contacting delinquent mortgagors, supervising foreclosures and property
dispositions in the event of unremedied defaults and generally administering the
loans. Funds that have been escrowed by borrowers for the payment of mortgage
related expenses, such as property taxes and hazard and mortgage insurance
premiums, are maintained in non-interest-bearing accounts at the Bank. At
December 31, 1997, the Bank had $6.2 million deposited in such escrow accounts.
CBS Mortgage receives fees for servicing mortgage loans, which generally
range from 0.250% to 0.375% per annum on the declining principal balance of
fixed rate mortgage loans and from 0.375% to 0.500% per annum on the declining
principal balance of adjustable rate mortgage loans. Such fees serve to
compensate CBS Mortgage for the costs of performing the servicing function.
Other sources of loan servicing revenues include late charges and other
ancillary fees. For the years ended 1997, 1996 and 1995, the Bank earned $1.4
million, $1.6 million and $2.0 million, respectively, in conjunction with CBS
Mortgage's loan servicing. Servicing fees are collected by CBS Mortgage out of
the monthly mortgage payments made by borrowers and are net of the amortization
of mortgage servicing rights.
CBS Mortgage's servicing portfolio is subject to reduction by normal
amortization, by prepayment or by foreclosure of outstanding loans. At December
31, 1997, 1996 and 1995, CBS Mortgage had an aggregate loan servicing portfolio
of $1.6 billion, $1.7 billion and $1.7 billion, respectively. Of these amounts
at such respective dates, CBS Mortgage serviced loans for the Bank aggregating
$879.6 million, $958.2 million and $824.6 million and loans for others
aggregating $675.7 million, $776.7 million and $900.7 million. At December 31,
1997, 56.6% of the dollar value of loans being serviced by CBS Mortgage was for
the Bank, 14.9% was being serviced for FHLMC, 26.7% was being serviced for FNMA
and 1.8% was being serviced for others.
Beginning in 1990, in order to increase the size of its loan servicing
portfolio, CBS Mortgage began to purchase bulk packages of mortgage servicing
rights from the Federal government and other institutions on a competitive bid
basis. The purchased mortgage servicing rights which were acquired in 1990 and
1991 were primarily conventional loans secured by real property. The bulk
purchase market for loan servicing was attractive to purchasers in the early
1990s due to the relatively large amounts of such servicing rights that were
being sold by banks and thrift institutions due to the introduction of new
regulatory capital standards, and by the Resolution Trust Corporation as part of
its liquidation function. Prices bid on these bulk offerings ranged from 0.35%
to 1.25% of the principal balance of the underlying mortgages. Between 1992 and
1994, CBS Mortgage pursued the purchase of servicing rights from private
institutions. The packages of servicing rights purchased from the private
institutions during this period were purchased at prices which have generally
ranged between 0.82% to 1.47% on the principal balances of the underlying
mortgages. No servicing rights were purchased by CBS Mortgage in 1997, 1996 or
1995. As of December 31, 1997, an aggregate of $675.7 million of CBS Mortgage's
$1.6 billion servicing portfolio, or 43.4%, was loans serviced for others. At
December 31, 1997, CBS Mortgage had no commitments for further purchases of
mortgage servicing rights.
The amount, if any, by which purchased mortgage servicing rights exceed the
lower of 90% of determinable fair market value, 90% of origination cost or
current amortized book value must be deducted from capital in calculating
regulatory capital. See "Regulation - Regulatory Capital Requirements." At
December 31, 1997, there were no deductions from capital for purchased mortgage
servicing rights valuation adjustments.
<PAGE>
The following table sets forth certain information regarding CBS Mortgage's
servicing portfolio of mortgage loans for the periods indicated.
<TABLE>
<CAPTION>
Year Ended December 31,
1997 1996 1995
----------- ----------- -----------
(In thousands)
<S> <C> <C> <C>
Beginning servicing portfolio $ 1,735,089 $ 1,725,400 $ 1,511,263
----------- ----------- -----------
Loans originated(1) -- -- 8,810
Bank loan originations 140,673 104,023 68,960
Bank whole loans acquired 126,864 185,176 390,230
----------- ----------- -----------
Total servicing originated
and acquired 267,537 289,199 468,000
----------- ----------- -----------
Loans sold servicing released -- 47 2,602
Amortization and payoffs 430,373 273,219 246,223
Foreclosures 6,249 6,244 5,038
----------- ----------- -----------
Total servicing reductions 436,622 279,510 253,863
----------- ----------- -----------
Ending servicing portfolio $ 1,566,004 $ 1,735,089 $ 1,725,400
=========== =========== ===========
</TABLE>
________________________
(1)Loans originated or purchased for the Bank.
MORTGAGE-BACKED SECURITIES
The Bank maintains a significant portfolio of mortgage-backed securities as
a means of investing in housing-related mortgage instruments without the costs
associated with originating mortgage loans for portfolio retention. At December
31, 1997, the Company's mortgage-backed securities portfolio (including $170.0
million of mortgage-backed securities available-for-sale), net of unamortized
premiums and unearned discounts, amounted to $1.5 billion, or 52.0%, of total
assets. By investing in mortgage-backed securities, management seeks to achieve
a positive spread over the cost of funds used to purchase these securities. At
December 31, 1997, the Company's net mortgage-backed securities had an aggregate
market value of $1.5 billion.
<PAGE>
The following table sets forth the composition of the Company's
mortgage-backed securities portfolio at the dates indicated.
<TABLE>
<CAPTION>
At December 31,
1997 1996 1995
---------------------- --------------------- ----------------------
Amount Percent Amount Percent Amount Percent
------------ -------- ------------ -------- ----------- ---------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Held-to-maturity:
REMICS $ 1,232,219 91.59% $ 1,213,849 90.25% $1,241,999 89.00%
FNMA certificates 69,906 5.20 77,324 5.75 90,061 6.45
GNMA certificates 28,701 2.13 33,900 2.52 39,363 2.82
Non-agency certificates 14,586 1.08 19,826 1.48 24,091 1.73
Interest-only securities 20 -- 38 -- 55 --
------------ -------- ------------ -------- ----------- --------
1,345,432 100.00% 1,344,937 100.00% 1,395,569 100.00%
======== ======== ========
Unamortized premium 2,831 3,153 3,841
Unearned discount (3,173) (3,503) (3,657)
------------ ------------ -----------
Total held-to-maturity $ 1,345,090 $ 1,344,587 $1,395,753
============ ============ ===========
Available-for-sale:
REMICS $ 173,717 100.00% $ 185,651 100.00% $ 186,505 99.52%
Non-agency certificates -- -- -- -- 908 0.48
------------ -------- ------------ -------- ----------- --------
173,717 100.00% 185,651 100.00% 187,413 100.00%
======== ======== ========
Unamortized premium 25 33 44
Unearned discount (247) (255) (284)
Net unrealized loss (3,498) (4,773) (759)
----------- ----------- -----------
Total available-for-sale $ 169,997 $ 180,656 $ 186,414
============ ============ ===========
Total mortgage-backed
securities $ 1,515,087 $ 1,525,243 $1,582,167
============ ============ ===========
</TABLE>
The mortgage-backed securities which the Bank purchases and maintains in
portfolio can include FNMA, FHLMC and GNMA certificates, certain privately
issued, credit-enhanced mortgage-backed securities which are rated "A" or better
by the national securities rating agencies, certain types of collateralized
mortgage obligations ("CMOs") and interest-only ("IO") certificates. The FNMA,
FHLMC and GNMA certificates are modified pass-through mortgage-backed
securities, which represent undivided interests in underlying pools of
fixed-rate, or certain types of adjustable rate, single family residential
mortgages issued by these quasi-governmental (GNMA) and private (FNMA and FHLMC)
corporations. FNMA and GNMA provide to the certificate holder a guarantee
(which is backed by the full faith and credit of the U.S. government in the case
of GNMA certificates) of timely payments of interest and scheduled principal
payments, whether or not they have been collected. FHLMC guarantees the timely
payment of interest and the full (though not necessarily timely) payment of
principal. The guarantees of FNMA and FHLMC are not backed by the full faith
and credit of the U.S. government. The mortgage-backed securities acquired by
the Bank that have been pooled and sold by private issuers, generally large
investment banking firms, provide for the timely payments of principal and
interest either through insurance issued by a reputable insurer or the right to
receive certain payments thereunder is subordinated in a manner which is
sufficient to have such mortgage-backed securities generally earn a credit
rating of "A" or better from one or more of the national securities rating
agencies.
A CMO is a special type of pay-through debt obligation in which the stream
of principal and interest payments on the underlying mortgages or
mortgage-backed securities is used to create classes with different maturities
and, in some cases, amortization schedules and a residual class of the CMO
security being sold, with each such class possessing different risk
characteristics. The residual interest sold represents any residual cash flows
which result from the excess of the monthly receipts generated by principal and
interest payments on the underlying mortgage collateral and any reinvestment
earnings thereon, less the cash payments to the CMO holders and any
administrative expenses. As a matter of policy, due to the risk associated with
residual interests, the Bank has never invested in, and does not intend to
invest in, residual interests in CMOs. CMOs and other mortgage-backed
securities may be structured as Real Estate Mortgage Investment Conduits
("REMICs") for U.S. Federal income tax purposes.
Mortgage-backed securities generally yield less than the loans which
underlie such securities because of their payment guarantees or credit
enhancements which reduce credit risk. In addition, mortgage-backed securities
are more liquid than individual mortgage loans and may be used to collateralize
obligations of the Bank. Mortgage-backed securities issued or guaranteed by
FNMA or FHLMC (except IO securities or the residual interests in CMOs) are
weighted at no more than 20% for risk-based capital purposes, compared to a
weight of 50% to 100% for residential loans. See "Regulation - Regulatory
Capital Requirements."
The FDIC has issued a statement of policy which states, among other things,
that mortgage derivative products (including CMOs and CMO residuals and stripped
mortgage-backed securities such as IOs) which possess average life or price
volatility in excess of a benchmark fixed rate 30 year mortgage-backed
pass-through security are "high-risk mortgage securities," are not suitable
investments for depository institutions, and if considered "high risk" at
purchase must be carried in the institution's trading account or as assets held
for sale, and must be marked to market on a regular basis. In addition, if a
security was not considered "high risk" at purchase but was later found to be
"high risk" based on the tests, the security may remain in the held-to-maturity
portfolio as long as the institution has the positive intent to hold the
security to maturity and has a documented plan in place to manage the higher
risk. At December 31, 1997, the Bank had mortgage-backed securities considered
"high risk" with a recorded booked value of approximately $16.8 million. These
securities were not considered "high risk" at purchase, but were later found to
be "high risk" based on the results of the required tests. The Bank has the
positive intent to hold these securities to maturity and has documented the
Bank's plan to manage the higher risk of these securities. If the Bank should
elect to consider a new type of security for its portfolio, the Bank intends to
ascertain in advance that the security does not fail any of the tests that will
qualify it as a "high risk mortgage security." The Bank will not purchase any
security that fails such tests unless it has in place a documented plan to
manage the higher risk of that security and has approval from the Board of
Directors.
<PAGE>
The following table sets forth the Company's activities with respect to
mortgage-backed securities (including held-to-maturity and available-for-sale)
during the periods indicated.
<TABLE>
<CAPTION>
Year Ended December 31,
1997 1996 1995
--------- --------- ---------
(In thousands)
<S> <C> <C> <C>
Mortgage-backed securities
held-to-maturity purchased $ 56,136 $ -- 52,741
Available-for-sale securities sold(1) (11,308) (864) (72,298)
Amortization of premiums
net of discount accretion (83) (552) (495)
Change in unrealized loss on
mortgage-backed securities
available-for-sale 1,275 (4,013) (24)
Principal repayments on
mortgage-backed securities (56,176) (51,495) (35,845)
--------- --------- ---------
Net decrease in
mortgage-backed securities $(10,156) $(56,924) $(55,921)
========= ========= =========
</TABLE>
(1) Securities sold in 1995 after reclassification from held-to-maturity
portfolio pursuant to the FASB's Special Report, "A Guide to Implementation of
Statement 115 on Accounting for Certain Investments in Debt and Equity
Securities."
On January 1, 1994, the Company adopted the FASB Statement of Financial
Accounting Standards No. 115 (Statement 115), "Accounting for Certain
Investments in Debt and Equity Securities." In accordance with Statement 115,
the Company classifies securities as either held-to-maturity or
available-for-sale. Securities are classified as held-to-maturity when the
Company has the positive intent and ability to hold such securities to maturity.
Securities held-to-maturity are recorded at amortized cost. Permanent declines
in the value of held-to-maturity securities are charged to earnings in the
periods in which the declines are determined. Securities available-for-sale are
securities other than those held-to-maturity or for trading purposes and are
recorded at fair value, with unrealized gains and losses excluded from earnings
and recorded as a separate component of stockholders' equity. In connection
with the adoption of Statement 115, in 1994 the Company transferred
approximately $50.8 million of mortgage-backed securities to the
available-for-sale category. Realized gains and losses on securities are
recorded in earnings in the year of sale based on the specific identification of
each individual security sold. Premiums and discounts on mortgage-backed
securities are amortized or accreted as a yield adjustment over the life of the
securities using the interest method, with the amortization or accretion being
adjusted when the prepayments are received.
In November 1995, the FASB issued the Special Report, "A Guide to
Implementation of Statement 115 on Accounting for Certain Investments in Debt
and Equity Securities." Provisions in this Special Report granted all entities
a one-time opportunity, until no later than December 31, 1995, to reassess the
appropriateness of the classifications of all securities held and to account for
any resulting reclassifications at fair value in accordance with Statement 115.
The provisions of the Special Report also directed that any reclassifications as
a result of this one-time reassessment would not call into question the intent
to hold other debt securities to maturity in the future. In accordance with
this Special Report, on November 20, 1995, the Company reclassified
approximately $226.6 million of mortgage-backed securities to the
available-for-sale category. These mortgage-backed securities reclassified to
the available-for-sale category were primarily COFI securities and gave the
Company the opportunity to somewhat change the composition of the portfolio by
selling certain securities if that was considered necessary. In 1997, 1996 and
1995, the Company sold $11.3 million, $864,000 and $72.3 million, respectively,
of mortgage-backed securities available-for-sale.
INVESTMENT ACTIVITIES
Under the Texas Savings Bank Act (the "Act"), the Bank is permitted to
invest in obligations of, or guaranteed as to principal and interest by, the
United States or the State of Texas, in the stock or in any obligations or
consolidated obligations of the FHLB, and in various other specified
instruments. The Bank holds investment securities from time to time to help
meet its liquidity requirements and as temporary investments until funds can be
utilized to purchase mortgage-backed securities, residential mortgage loans or
to originate other loans for the Bank's portfolio. See Item 7, "Management's
Discussion and Analysis of Financial Condition and Results of
Operations-Liquidity and Capital Resources."
SOURCES OF FUNDS
GENERAL. Advances from the FHLB, deposits, sales of securities under
agreements to repurchase and maturities and principal repayments on loans and
mortgage-backed securities have been the major sources of funds for use in the
Bank's lending and investments, and for other general business purposes.
Management of the Bank closely monitors rates and terms of competing sources of
funds on at least a weekly basis and utilizes the source which is the more cost
effective.
DEPOSITS. The Bank's market for deposits is competitive, which has
necessitated the Bank's emphasis on primarily short term certificate accounts
that are more responsive to market interest rates than savings accounts. The
Bank offers a traditional line of deposit products which currently includes
savings, interest-bearing checking, noninterest-bearing checking, money market
demand accounts and certificates of deposit which generally range in terms from
three to 60 months. Included among these deposit products are individual
retirement account certificates. During 1996 and early in 1997, the Bank began
to offer a range of products for commercial businesses including Small Business
Checking, Business Interest Checking, Analysis Checking and Commercial Money
Market Accounts, the amounts of which, in 1997 or 1996, are not material for
separate presentation.
<PAGE>
The following table shows the distribution of and certain other information
relating to the Company's deposits by type as of the dates indicated.
<TABLE>
<CAPTION>
At December 31,
--------------------------------------
1997(1) 1996(2) 1995(3)
Percent Percent Percent
of of of
Amount Deposits Amount Deposits Amount Deposits
----------- --------- ----------- --------- ----------- ---------
<S> <C> <C> <C> <C> <C> <C>
(Dollars in Thousands)
Demand deposit accounts:
Noninterest-bearing checking $ 101,782 7.40% $ 85,259 6.50% $ 81,207 6.31%
Interest-bearing checking 69,972 5.09 56,862 4.34 47,476 3.69
Savings 25,555 1.86 22,135 1.69 22,374 1.74
Money market demand 165,986 12.07 151,046 11.52 165,214 12.83
----------- --------- ----------- --------- ----------- ---------
Total demand deposit accounts 363,295 26.42 315,302 24.05 316,271 24.57
----------- --------- ----------- --------- ----------- ---------
Certificate accounts:
Within 1 year 781,455 56.83 772,690 58.94 704,966 54.76
1-2 years 186,734 13.58 158,583 12.10 188,400 14.63
2-3 years 30,028 2.18 40,961 3.12 32,556 2.53
3-4 years 7,292 0.53 18,268 1.39 29,717 2.31
4-5 years 6,153 0.45 5,064 0.39 15,210 1.18
Over 5 years 178 0.01 165 0.01 319 0.02
----------- --------- ----------- --------- ----------- ---------
Total certificate accounts 1,011,840 73.58 995,731 75.95 971,168 75.43
----------- --------- ----------- --------- ----------- --------
1,375,135 100.00% 1,311,033 100.00% 1,287,439 100.00%
======== ======= ========
Discount to record
savings deposits at fair value, net. (75) (198) (355)
----------- ----------- -----------
Total $1,375,060 $1,310,835 $1,287,084
=========== =========== ===========
</TABLE>
_______________
(1)In 1997, the Bank assumed approximately $54.6 million in deposits in
connection with the acquisition of one branch office of another financial
institution.
(2)In 1996, the Bank assumed approximately $11.1 million in net deposits in
connection with the exchange of three branch offices for one and the sale of
another branch office.
(3)In 1995, the Bank assumed approximately $157.2 million in deposits in
connection with the acquisition of five branch offices of another financial
institution.
<PAGE>
The following table sets forth the average balance of each deposit type and
the average rate paid on each deposit type for the periods indicated.
<TABLE>
<CAPTION>
Year Ended December 31,
1997 1996 1995
----------- ----------- -----------
(Dollars in Thousands)
Average Average Average Average Average Average
Balance Rate Paid Balance Rate Paid Balance Rate Paid
----------- ---------- ----------- ---------- ----------- ---------
<S> <C> <C> <C> <C> <C> <C>
Demand deposit accounts:
Noninterest-bearing checking $ 91,293 --% $ 85,469 --% $ 62,164 --%
Interest-bearing checking 61,392 1.78 49,181 2.07 29,904 2.06
Savings 23,912 2.29 22,104 2.32 20,162 2.52
Money market demand 158,993 3.63 157,933 3.64 156,730 3.61
Certificate accounts 1,008,845 5.50 970,433 5.42 909,992 5.49
----------- ---------- ----------- ---------- --------- ------
Total deposits $ 1,344,435 4.68% $ 1,285,120 4.66% $ 1,178,952 4.81%
=========== ========== =========== ========== =========== ==========
</TABLE>
The following table presents by various interest rate categories the
amounts of certificate accounts at the dates indicated and the amounts of
certificate accounts at December 31, 1997, which mature during the periods
indicated.
<TABLE>
<CAPTION>
Amounts at December 31, 1997 Maturing
(In thousands)
Amounts at December 31, One Year
1997 1996 or Less
-------------------------- --------
<S> <C> <C> <C>
(In thousands)
Certificate accounts:
2.00% to 3.99% $ 7,905 $ 14,835 $ 7,422
4.00% to 5.99% 899,205 871,852 743,317
6.00 to 7.99% 102,029 104,092 28,900
8.00 to 9.99% 2,701 4,686 1,816
10.00% to 11.99% -- 266 --
---------- -------- --------
Total $1,011,840 $995,731 $781,455
========== ======== ========
Amounts at December 31, 1997 Maturing
(In thousands)
Greater than
Two Years Three Years Three Years
---------- ---------- -------------
<S> <C> <C> <C>
Certificate accounts:
2.00% to 3.99% $ 351 $ 46 $ 86
4.00% to 5.99% 132,851 11,759 11,278
6.00 to 7.99% 52,746 18,223 2,160
8.00 to 9.99% 786 -- 99
10.00% to 11.99% -- -- --
-------- ------- -------
Total $186,734 $30,028 $13,623
======== ======= =======
</TABLE>
<PAGE>
Certificates maturing within one year consist primarily of six month and
one year certificates. Historically, a majority of such certificate holders roll
over their balances into new certificates with similar terms at the Bank's then
current interest rates. The Bank believes that its pricing strategy will help
the Bank to achieve balance levels deemed appropriate by management on a
continuing basis.
The following table sets forth the net deposit flows of the Bank during the
periods indicated.
<TABLE>
<CAPTION>
Year Ended December 31,
1997 1996 1995
-------- --------- ---------
(In thousands)
<S> <C> <C> <C>
Net increase (decrease) before interest
credited(1) $ 2,383 $(34,707) $ 91,052
Interest credited 61,842 58,458 56,410
-------- -------- ---------
Net deposit increase $ 64,225 $ 23,751 $ 147,462
======== ========= =========
</TABLE>
(1) For the years ended December 31, 1997, 1996 and 1995, reflects the effect of
the assumption of $54.6 million, $11.1 million and $157.2 million of net deposit
liabilities in connection with branch office transactions in each respective
year. The net deposit outflow in 1997 and 1996 (net of acquired deposits) was
primarily due to financial disintermediation as described below.
The following table sets forth the amount of the Bank's certificates of
deposits which are $100,000 or more by time remaining until maturity as of
December 31, 1997.
<TABLE>
<CAPTION>
At December 31, 1997
-------------------------
Number of Deposit
accounts Amount
--------- ---------
(Dollars in thousands)
<S> <C> <C> <C>
Three months or less 273 $ 29,844
Over three through six
months 217 23,106
Over six through twelve
months 349 38,383
Over twelve months 293 31,260
--------- ---------
Total 1,132 $ 122,593
========= =========
</TABLE>
The Bank's deposits are obtained primarily from residents of Houston,
Austin, Corpus Christi and small cities in the south east quadrant of Texas.
Currently, the principal methods used by the Bank to attract and retain deposit
accounts include competitive interest rates, having branch locations in
under-served markets and offering a variety of services for the Bank's
customers. The Bank uses traditional marketing methods to attract new customers
and savings deposits, including newspaper advertising. Through 1997, the Bank
has not solicited brokered deposit accounts and generally has not negotiated
rates on larger denomination (i.e., jumbo) certificates of deposit. The Bank
did, however, acquire deposits, classified on the books and records of a prior
entity as brokered, through the branch acquisition in 1994. In addition, in
early 1997, the Bank has begun the solicitation of deposit accounts through a
"money desk." Money desk rates are only offered to institutions (primarily
credit unions and municipal utility districts) and are generally up to 50 basis
points higher than on regular certificate of deposit accounts.
Management of the Bank intensified its deposit product marketing beginning
in 1993 in order to increase its share of core deposits in the markets in which
it operates. Management believes that the combination of the new packaged
deposit products (which generally have higher minimum balance requirements and
which provide value-added incentives to the customer, such as, for example, free
traveler's checks, reduced or waived monthly service charges and free money
orders) plus increased advertising, sales training, branch promotion and
cross-selling of products will help maintain the volume of the Bank's deposits
and strengthen customer relationships without requiring the Bank to alter its
deposit pricing strategy. The Bank's management also believes that such efforts
will assist the Bank in maintaining deposits, particularly during periods of
relatively low deposit rates, which might otherwise flow out of the institution
due to disintermediation (the movement of funds away from savings institutions
and into direct investment vehicles such as government and corporate securities
and mutual funds). Notwithstanding this plan, the ability of the Bank to attract
and maintain deposits and the Bank's cost of funds have been, and will continue
to be, significantly affected by general money market conditions.
The Bank also provides its customers with the opportunity to invest in
mutual funds, including government bond funds, tax-free municipal bond funds,
growth funds, income growth funds, and sector funds specific to an industry,
which are provided through a third party arrangement with another company, which
maintains representatives at the Bank's branch offices. The Bank earns a fee
after the payment of all expenses, which was not material to the Bank's
financial condition.
<PAGE>
BORROWINGS. The following table sets forth certain information regarding
the borrowings of the Bank at or for the dates indicated.
<TABLE>
<CAPTION>
At or For the Year
Ended December 31,
1997 1996 1995
--------- ----------- ---------
(Dollars in thousands)
<S> <C> <C> <C>
FHLB advances:
Average balance outstanding $ 368,896 $ 387,296 $367,895
Maximum amount outstanding
at any month-end during the
period 540,475 491,930 405,016
Balance outstanding at end of
period 540,475 409,720 312,186
Average interest rate during the
period 5.78% 5.62% 6.01%
Average interest rate at end of
period 5.95% 5.61% 5.88%
Securities sold under agreements
to repurchase:
Average balance outstanding $ 974,136 $ 930,706 $752,427
Maximum amount outstanding
at any month-end during the
period 1,035,576 1,022,085 993,832
Balance outstanding at end of
period 791,760 966,987 993,832
Average interest rate during the
period 5.66% 5.52% 5.98%
Average interest rate at end of
period 6.00% 5.55% 5.78%
</TABLE>
Federal funds purchased averaged approximately $161,000 during the year
ended December 31, 1997 with an average interest rate during the period of
5.59%. There were no federal funds purchased outstanding at any month-end
during 1997 and there were no federal funds purchased outstanding during the
years ended December 31, 1996 or 1995.
The Bank obtains long term, fixed rate and short term, variable rate
advances from the FHLB upon the security of certain of its residential first
mortgage loans and mortgage-backed securities, provided certain standards
related to creditworthiness of the Bank have been met. FHLB advances are
generally available for general business purposes to expand lending and
investing activities. Borrowings have generally been used to fund the purchase
of loans receivable and mortgage-backed securities.
Advances from the FHLB are made pursuant to several different credit
programs, each of which has its own interest rate and range of maturities. The
programs of the FHLB currently utilized by the Bank include a variable rate line
of credit, various short-term, variable rate advances and long term, fixed and
variable-rate advances. At December 31, 1997, the Bank had total FHLB advances
of $540.5 million at a weighted average interest rate of 5.95%.
The Bank also obtains funds from the sales of securities to investment
dealers under agreements to repurchase ("reverse repurchase agreements"). In a
reverse repurchase agreement transaction, the Bank will generally sell a
mortgage-backed security agreeing to repurchase either the same or a
substantially identical security on a specified later date at a price less than
the original sales price. The difference in the sale price and purchase price
is the cost of the use of the proceeds. The mortgage-backed securities
underlying the agreements are delivered to the dealers who arrange the
transactions. For agreements in which the Bank has agreed to repurchase
substantially identical securities, the dealers may sell, loan or otherwise
dispose of the Bank's securities in the normal course of their operations;
however, such dealers or third party custodians safe-keep the securities which
are to be specifically repurchased by the Bank. Reverse repurchase agreements
represent a competitive cost funding source for the Bank; however, the Bank is
subject to the risk that the lender may default at maturity and not return the
collateral. In order to minimize this potential risk, the Bank only deals with
large, established investment brokerage firms when entering into these
transactions. At December 31, 1997, the Bank had $791.8 million in borrowings
under reverse repurchase agreements at a weighted average interest rate of
6.00%. At December 31, 1997, the Bank had amounts of securities at risk under
securities sold under agreements to repurchase with three individual
counterparties which exceeded ten percent of stockholders' equity. The amount
at risk with Salomon Brothers Inc. was $12.8 million with an average maturity of
344 days at December 31, 1997. The amount at risk with Credit Suisse First
Boston Corporation was $16.6 million with an average maturity of 27 days at
December 31, 1997. The amount at risk with Goldman, Sachs & Co. was $23.7
million with an average maturity of 8 days at December 31, 1997.
To a lesser extent, beginning in 1997, the Bank utilizes federal funds
purchased from a correspondent bank for overnight borrowing purposes.
The Asset/Liability Subcommittee of the Bank attempts to match the maturity
of reverse repurchase agreements with particular repricing dates of certain
assets in order to maintain a pre-determined interest rate spread. The Bank's
objective is to minimize the increase or decrease in the interest rate spread
during periods of fluctuating interest rates from that which was contemplated at
the time the assets and liabilities were first put on the Bank's books. The
Bank attempts to alter the interest rate risk associated with the reverse
repurchase agreements through the use of interest rate swaps and interest rate
caps purchased from the FHLB and certain large securities dealers. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Asset and Liability Management" in Item 7 hereof.
SUBSIDIARIES OF THE BANK
GENERAL. The Bank is permitted to invest in the capital stock, obligations
and other securities of its service corporations in an aggregate amount not to
exceed 10.0% of the Bank's assets. In addition, the Bank may make conforming
loans in an amount not exceeding 50% of the Bank's regulatory capital to service
corporations of which the Bank owns more than 10% of the stock. At December 31,
1997, the Bank was authorized to have a maximum investment of approximately
$291.0 million in its subsidiaries.
At December 31, 1997, the Bank had two active wholly-owned subsidiaries,
the activities of which are described below. At December 31, 1997, the Bank's
aggregate equity investment in all of its subsidiaries was $8.4 million and the
Bank had a net payable to such subsidiaries totalling $87,000.
CBS MORTGAGE CORP. The Bank is the sole stockholder of CBS Mortgage, a
Texas corporation formed in 1989 to engage in the business of originating,
purchasing, selling and servicing loans secured by first lien mortgages on
completed one-to four-family dwelling units. Beginning on January 1, 1996, the
origination, purchasing and selling functions of CBS Mortgage were performed by
the Bank, with CBS Mortgage's activities then limited to primarily loan
servicing. For a detailed discussion of CBS Mortgage's business operations, see
"Mortgage Banking Activities."
The Bank and CBS Mortgage have entered into a ten year mortgage warehouse
revolving loan agreement pursuant to which the Bank has established a $15.0
million revolving line of credit to be drawn upon from time to time by CBS
Mortgage to finance the acquisition of servicing rights and, prior to 1996, the
origination or acquisition of mortgage loans and the holding of such loans until
they were sold, delivered or pledged to secondary market investors.
The advances drawn by CBS Mortgage are secured by a promissory note payable
upon demand. Interest on the funds advanced by the Bank is payable monthly at
the local prime rate plus 1% per annum. The promissory note between the Bank and
CBS Mortgage provides that CBS Mortgage is credited an amount equal to the local
prime rate less 1% per annum on the average monthly balance of all escrowed
funds held by the Bank. The credit is limited in amount to the interest charged
by the Bank. As a result of such credit, CBS Mortgage made no interest payments
to the Bank under this loan for the year ended December 31, 1997. Principal
balances under the loan are generally repaid through servicing income generated
from servicing rights. At December 31, 1997, the Bank's equity investment in
CBS Mortgage was $8.3 million and had an intercompany payable to CBS Mortgage in
the amount of $106,000. CBS Mortgage had net income of $2.3 million, $2.3
million and $1.3 million for the years ended December 31, 1997, 1996 and 1995,
respectively.
COASTALBANC FINANCIAL CORP. CoastalBanc Financial Corp. ("Financial
Corp.") was formed in 1986 to act as an investment advisor to other insured
financial institutions. The Bank is the sole stockholder of Financial Corp.
Over the past four years, Financial Corp. has been inactive in its investment
advisory capacity. Financial Corp. became active during the last quarter of
1992 in connection with the sale of mutual funds through a third party
intermediary. Fees generated net of expenses, resulted in a net income of
$35,000, $40,000 and $34,000 for the years ended December 31, 1997, 1996 and
1995, respectively.
THE SOUTHWEST PLAN ACQUISITION
During the latter half of the 1980's, severely depressed economic
conditions prevailed in the southwestern United States, and in Texas in
particular, which seriously impaired the operating results of many corporations.
A large number of savings institutions suffered significant losses, which were
attributable to the economic deterioration in the region, as well as, in some
instances, to improper or fraudulent practices by persons affiliated with such
institutions. In an attempt to address the problems of a record number of
savings institution failures, in February 1988 the Federal Home Loan Bank Board
as operating head of the FSLIC, announced the establishment of its "Southwest
Plan," which was designed to consolidate failed or failing savings institutions
located in the southwestern United States with healthy savings institutions,
shrink the number of savings institutions in the Southwest and promote the
infusion of additional capital into the savings industry through financial
assistance and other incentives.
During this period, the Bank developed a business strategy oriented toward
growth and increasing profitability through prudent acquisitions, with
assistance from the Federal government. The strategy was designed to utilize
the deposits obtained in such transactions as an inexpensive source of funds for
growth, which would facilitate reduced overhead levels as a proportion of assets
from economies of scale and lower cost of funds from a more meaningful market
share of core deposits. In order to implement this strategy, the Bank decided
to participate in the Southwest Plan and on May 13, 1988, the Bank became the
first acquiror of failed or failing savings institutions under the FSLIC's
Southwest Plan. The Southwest Plan Acquisition was implemented pursuant to the
terms of an Assistance Agreement, entered into by the FSLIC and the Bank. The
Southwest Plan Acquisition significantly increased the total size and market
penetration of the Bank.
The FSLIC agreed in the Assistance Agreement to provide the Bank with
certain forms of financial assistance, including a guaranteed yield on, and
reimbursement for losses incurred or write-downs directed by the government or
provided by the Bank with respect to, certain assets acquired from the Acquired
Associations (the "Guaranteed Assets") and certain additional forms of financial
assistance.
On April 15, 1994, the Bank and the FDIC announced the early termination of
the Assistance Agreement, effective March 31, 1994. Under the terms of the
agreement, the Bank transferred substantially all of its remaining Guaranteed
Assets to the FDIC in exchange for cash of $37.4 million and also received cash
of $12.7 million for the remaining receivable from the government in order to
record acquired assets at fair value. In addition, the Bank repurchased for
$5.9 million a warrant to purchase Bank common stock that had been granted to
the Federal government. The Federal government will continue to receive the
future federal income tax benefits of the net operating loss carryforwards
acquired from the Acquired Associations. See "Taxation-Federal Taxation" and
Note 17 of the Notes to the Consolidated Financial Statements.
REGULATION
Set forth below is a brief description of certain laws and regulations
which relate to the regulation of the Company and the Bank. The description
does not purport to be complete and is qualified in its entirety by reference to
applicable laws and regulations.
THE COMPANY
REGULATIONS. The Company and HoCo are registered unitary savings and loan
holding companies and are subject to OTS and Department regulation, examination,
supervision and reporting requirements. In addition, because the capital stock
of the Company is registered under Section 12(g) of the Securities Exchange Act
of 1934, the Company is also subject to various reporting and other requirements
of the SEC. As a subsidiary of a savings and loan holding company, the Bank is
also subject to certain Federal and state restrictions in its dealings with the
Company and affiliates thereof.
FEDERAL ACTIVITIES RESTRICTIONS. There are generally no restrictions on
the activities of a savings and loan holding company which holds only one
subsidiary savings bank. However, if the Director of the OTS determines that
there is reasonable cause to believe that the continuation by a savings and loan
holding company of an activity constitutes a serious risk to the financial
safety, soundness or stability of its subsidiary savings institution (i.e., a
savings association or savings bank), the Director may impose such restrictions
as deemed necessary to address such risk, including limiting (i) payment of
dividends by the savings institution; (ii) transactions between the savings
institution and its affiliates; and (iii) any activities of the savings
institution that might create a serious risk that the liabilities of the holding
company and its affiliates may be imposed on the savings institution.
Notwithstanding the foregoing, if the savings institution subsidiary of such a
holding company fails to meet the Qualified Thrift Lender ("QTL") test, then
such unitary holding company also shall become subject to the activities
restrictions applicable to multiple savings and loan holding companies and,
unless the savings institution requalifies as a QTL within one year thereafter,
shall register as, and become subject to the restrictions applicable to, a bank
holding company. See "- Regulation of The Bank - Qualified Thrift Lender Test."
If the Company were to acquire control of another savings institution,
other than through merger or other business combination with the Bank, the
Company would thereupon become a multiple savings and loan holding company.
Except where such acquisition is pursuant to the authority to approve emergency
thrift acquisitions and where each subsidiary savings institution meets the QTL
test, as set forth below, the activities of the Company and any of its
subsidiaries (other than the Bank or other subsidiary savings institutions)
would thereafter be subject to further restrictions. No multiple savings and
loan holding company or subsidiary thereof which is not a savings institution
shall commence or continue beyond a limited period of time after becoming a
multiple savings and loan holding company or subsidiary thereof any business
activity, other than: (i) furnishing or performing management services for a
subsidiary savings institution; (ii) conducting an insurance agency or escrow
business; (iii) holding, managing, or liquidating assets owned by or acquired
from a subsidiary savings institution; (iv) holding or managing properties used
or occupied by a subsidiary savings institution; (v) acting as trustee under
deeds of trust; (vi) those activities authorized by regulation as of March 5,
1987 to be engaged in by multiple savings and loan holding companies; or (vii)
unless the Director of the OTS by regulation prohibits or limits such activities
for savings and loan holding companies, those activities authorized by the
Federal Reserve Board as permissible for bank holding companies. The activities
described in (i) through (vi) above may be engaged in only after giving the OTS
prior notice and being informed that the OTS does not object to such activities.
In addition, the activities described in (vii) above also must be approved by
the Director of the OTS prior to being engaged in by a multiple savings and loan
holding company.
RESTRICTIONS ON ACQUISITIONS. Except under limited circumstances, savings
and loan holding companies are prohibited from acquiring, without prior approval
of the Director of the OTS, (i) control of any other savings institution or
savings and loan holding company or substantially all the assets thereof or (ii)
more than 5% of the voting shares of a savings institution or holding company
thereof which is not a subsidiary. Except with the prior approval of the
Director of the OTS, no director or officer of a savings and loan holding
company or person owning or controlling by proxy or otherwise more than 25% of
such company's stock, may acquire control of any savings institution, other than
a subsidiary savings institution, or of any other savings and loan holding
company.
The Director of the OTS may approve acquisitions resulting in the formation
of a multiple savings and loan holding company which controls savings
institutions in more than one state only if (i) the multiple savings and loan
holding company involved controls a savings institution which operated a home or
branch office located in the state of the association to be acquired as of March
5, 1987; (ii) the acquiror is authorized to acquire control of the savings
institution pursuant to the emergency acquisition provisions of the FDIA, or
(iii) the statutes of the state in which the institution to be acquired is
located specifically permit institutions to be acquired by the state-chartered
institutions or savings and loan holding companies located in the state where
the acquiring entity is located (or by a holding company that controls such
state-chartered savings institutions).
TEXAS REGULATIONS. Under the Texas Savings Bank Act ("TSBA"), each
registered holding company, such as the Company, is required to file reports
with the Department as required by the Texas Savings and Loan Commissioner
("Commissioner") and is subject to such examination as the Commissioner may
prescribe.
REGULATION OF THE BANK
The Bank is required to file reports with the Department and the FDIC
concerning its activities and financial condition, in addition to obtaining
regulatory approvals prior to entering into certain transactions, such as any
merger or acquisition with another institution. The regulatory system to which
the Bank is subject is intended primarily for the protection of the deposit
insurance fund and depositors, not stockholders. The regulatory structure also
provides the Department and the FDIC with substantial discretion in connection
with their supervisory and enforcement functions. The Department and the FDIC
conduct periodic examinations of the Bank in order to assess its compliance with
federal and state regulatory requirements. As a result of such examinations,
the Department and the FDIC may require various corrective actions.
Virtually every aspect of the Bank's business is subject to numerous
federal and/or state regulatory requirements and restrictions with respect to
such matters as, for example, the nature and amounts of loans and investments
that may be made, the issuance of securities, the amount of reserves that must
be established against deposits, the establishment of branches, mergers,
non-banking activities and other operations. Numerous laws and regulations also
set forth special restrictions and procedural requirements with respect to the
extension of credit, credit practices, the disclosure of credit terms and
discrimination in credit transactions.
The description of statutory provisions and regulations applicable to
savings banks set forth in this Form 10-K does not purport to be a complete
description of such statutes and regulations and their effects on the Bank.
Moreover, because some of the provisions of the FDIA, as amended by the FDICIA,
have not yet been fully implemented through the adoption of regulations by the
various federal banking agencies, the Bank cannot yet fully assess the impact of
these provisions on its operations.
In particular, the Bank cannot predict whether it will be in compliance
with such new regulations at the time they become effective. Furthermore, the
Bank cannot predict what other new regulatory requirements might be imposed in
the future.
LIMITATIONS ON TRANSACTIONS WITH AFFILIATES. Transactions between savings
institutions and any affiliate are governed by Sections 23A and 23B of the
Federal Reserve Act. An affiliate of a savings institution is any company or
entity which controls, is controlled by or is under common control with the
savings institution. In a holding company context, the parent holding company
of a savings institution (such as the Company) and any companies which are
controlled by such parent holding company are affiliates of the savings
institution. Generally, Sections 23A and 23B (i) limit the extent to which the
savings institution or its subsidiaries may engage in "covered transactions"
with any one affiliate to an amount equal to 10% of such institution's capital
stock and surplus, and contain an aggregate limit on all such transactions with
all affiliates to an amount equal to 20% of such capital stock and surplus and
(ii) require that all such transactions be on terms substantially the same, or
at least as favorable to the institution or subsidiary, as those provided to a
non-affiliate. The term "covered transaction" includes the making of loans,
purchase of assets, issuance of a guarantee and similar transactions. In
addition to the restrictions imposed by Sections 23A and 23B, no savings
institution may (i) loan or otherwise extend credit to an affiliate, except for
any affiliate which engages only in activities which are permissible for bank
holding companies, or (ii) purchase or invest in any stocks, bonds, debentures,
notes or similar obligations of any affiliate, except for affiliates which are
subsidiaries of the savings institution.
In addition, Sections 22(h) and (g) of the Federal Reserve Act place
restrictions on loans to executive officers, directors and principal
stockholders. Under Section 22(h), loans to a director, an executive officer
and to a greater than 10% stockholder of a savings institution (a "principal
stockholder"), and certain affiliated interests of each of them, may not exceed,
together with all other outstanding loans to such person and affiliated
interests, the savings institution's loans to one borrower limit (generally
equal to 15% of the institution's unimpaired capital and surplus). Section 22(h)
also requires that loans to directors, executive officers and principal
stockholders be made on terms substantially the same as offered in comparable
transactions to other persons and also requires prior board approval for certain
loans. In addition, the aggregate amount of extensions of credit by a savings
institution to all insiders cannot exceed the institution's unimpaired capital
and surplus. Furthermore, Section 22(g) places additional restrictions on loans
to executive officers. At December 31, 1997, the Bank was in compliance with
the above restrictions.
REGULATORY CAPITAL REQUIREMENTS. Federally-insured state-chartered banks
are required to maintain minimum levels of regulatory capital. These standards
generally must be as stringent as the comparable capital requirements imposed on
national banks. The FDIC also is authorized to impose capital requirements in
excess of these standards on individual banks on a case-by-case basis.
Under current FDIC regulations, the Bank is required to comply with three
separate minimum capital requirements: a "Tier 1 capital ratio" and two
"risk-based" capital requirements. "Tier 1 capital" generally includes common
stockholders' equity (including retained earnings), qualifying noncumulative
perpetual preferred stock and any related surplus, and minority interests in the
equity accounts of fully consolidated subsidiaries, minus intangible assets,
other than properly valued mortgage servicing rights up to certain specified
limits and minus net deferred tax assets in excess of certain specified limits.
At December 31, 1997, the Bank did not have any net deferred tax assets in
excess of the specified limits.
TIER 1 CAPITAL RATIO. FDIC regulations establish a minimum 3.0% ratio of
Tier 1 capital to total assets for the most highly-rated state-chartered,
FDIC-supervised banks, with an additional cushion of at least 100 to 200 basis
points for all other state-chartered, FDIC-supervised banks, which effectively
imposes a minimum Tier 1 capital ratio for such other banks of between 4.0% to
5.0%. Under FDIC regulations, highly-rated banks are those that the FDIC
determines are not anticipating or experiencing significant growth and have well
diversified risk, including no undue interest rate risk exposure, excellent
asset quality, high liquidity and good earnings. At December 31, 1997, the
required Tier 1 capital ratio for the Bank was 4.0% and its actual Tier 1
capital ratio was 5.52%.
RISK-BASED CAPITAL REQUIREMENTS. The risk-based capital requirements
contained in FDIC regulations generally require the Bank to maintain a ratio of
Tier 1 capital to risk-weighted assets of at least 4.00% and a ratio of total
risk-based capital to risk-weighted assets of at least 8.00%. To calculate the
amount of capital required, assets are placed in one of four categories and
given a percentage weight (0%, 20%, 50% or 100%) based on the relative risk of
the category. For example, U.S. Treasury Bills and GNMA securities are placed
in the 0% risk category. FNMA and FHLMC securities are placed in the 20% risk
category, loans secured by one-to-four family residential properties and certain
privately-issued mortgage-backed securities are generally placed in the 50% risk
category and commercial and consumer loans and other assets are generally placed
in the 100% risk category. In addition, certain off-balance sheet items are
converted to balance sheet credit equivalent amounts and each amount is then
assigned to one of the four categories.
For purposes of the risk-based capital requirements, "total capital" means
Tier 1 capital plus supplementary or Tier 2 capital, so long as the amount of
supplementary or Tier 2 capital that is used to satisfy the requirement does not
exceed the amount of Tier 1 capital. Supplementary or Tier 2 capital includes,
among other things, so-called permanent capital instruments (cumulative or other
perpetual preferred stock, mandatory convertible subordinated debt and perpetual
subordinated debt), so-called maturing capital instruments (mandatorily
redeemable preferred stock, intermediate-term preferred stock, mandatory
convertible subordinated debt and subordinated debt), and a certain portion of
the allowance for loan losses up to a maximum of 1.25% of risk-weighted assets.
At December 31, 1997, the Bank's Tier 1 capital to risk-weighted assets
ratio was 11.46% and its total risk-based capital to risk weighted assets ratio
was 11.98%.
The following table sets forth information with respect to each of the
Bank's capital requirements as of the dates shown.
<TABLE>
<CAPTION>
As of December 31,
1997 1996 1995
------- ------- -------
Actual Required Actual Required Actual Required
------- --------- ------- --------- ------- ---------
<S> <C> <C> <C> <C> <C> <C>
Tier 1 capital to total assets 5.52% 4.00% 5.35% 4.00% 5.30% 4.00%
Tier 1 risk-based capital
to risk weighted assets 11.46 4.00 11.77 4.00 12.36 4.00
Total risk-based capital
risk to risk weighted assets 11.98 8.00 12.30 8.00 12.84 8.00
</TABLE>
<PAGE>
The following table sets forth a reconciliation between the Bank's
stockholders' equity and each of its three regulatory capital requirements at
December 31, 1997.
<TABLE>
<CAPTION>
Tier 1 Total
Tier 1 Risk-based Risk-based
Capital Capital Capital
--------- ------------ ------------
(Dollars in thousands)
<S> <C> <C> <C>
Total stockholders' equity $174,224 $ 174,224 $ 174,224
Unrealized loss on securities
available-for-sale 2,274 2,274 2,274
Less nonallowable assets:
Goodwill (15,717) (15,717) (15,717)
Plus allowances for loan
and lease losses -- -- 7,412
--------- ------------ ------------
Total regulatory capital 160,781 160,781 168,193
Minimum required capital 116,570 56,136 112,271
--------- ------------ ------------
Excess regulatory capital $ 44,211 $ 104,645 $ 55,922
========= ============ ============
Bank's regulatory capital
percentage (1) 5.52% 11.46% 11.98%
Minimum regulatory capital
required percentage 4.00% 4.00% 8.00%
--------- ------------ ------------
Bank's regulatory capital
percentage in excess of
requirement 1.52% 7.46% 3.98%
========= ============ ============
</TABLE>
_______________
(1) Tier 1 capital is computed as a percentage of total assets of $2.9 billion.
Risk-based capital is computed as a percentage of adjusted risk-weighted assets
of $1.4 billion.
FDIC INSURANCE PREMIUMS. The deposits of the Bank are insured to the
maximum extent permitted by the SAIF and the Bank Insurance Fund (the "BIF"),
both of which are administered by the FDIC, and are backed by the full faith and
credit of the U.S. Government. As the insurer, the FDIC is authorized to
conduct examinations of, and to require reporting by, FDIC-insured institutions.
It also may prohibit any FDIC-insured institution from engaging in any activity
the FDIC determines by regulation or order to pose a serious threat to the FDIC.
The FDIC also has the authority to initiate enforcement actions against savings
institutions.
<PAGE>
The Bank currently pays deposit insurance premiums to the FDIC based on a
risk-based assessment system established by the FDIC for all SAIF-member
institutions. In addition, because the Bank acquired approximately $54.6
million in deposits as a result of the Port Arthur branch acquisition on June
21, 1997, $79.8 million in deposits as a result of the Bay City branch
acquisition on September 5, 1996 and $157.2 million in deposits from Texas
Capital as of November 1, 1995, the Bank became responsible for paying deposit
insurance premiums on such deposits at the BIF premium rate. Under applicable
regulations, institutions are assigned to one of three capital groups based
solely on the level of an institution's capital - "well capitalized,"
"adequately capitalized" and "undercapitalized" - which are defined in the same
manner as the regulations establishing the prompt corrective action system under
Section 38 of the FDIA. These three groups are then divided into three
subgroups which reflect varying levels of supervisory concern, from those which
are considered to be healthy to those which are considered to be of substantial
supervisory concern. The matrix so created results in nine assessment risk
classifications, with rates, prior to the FDIA, as amended, being signed into
law, ranging from .23% for well capitalized, healthy SAIF-member institutions to
.31% for undercapitalized SAIF-member institutions with substantial supervisory
concerns. On November 14, 1995, the FDIC adopted a new assessment rate schedule
of zero to 27 basis points (subject to a $2,000 minimum) for BIF members (or
institutions, like the Bank, having BIF deposits) while retaining the existing
assessment rate schedule for SAIF-member institutions.
On September 30, 1996, amendments to the FDIA were signed into law. The
FDIA and implementing regulations provided that all SAIF-member institutions
would pay a special one time assessment of 65.7 basis points on the SAIF
assessment base as of March 31, 1995 to recapitalize the SAIF, which in the
aggregate, would be sufficient to bring the reserve ratio in the SAIF to 1.25%
of insured deposits. The Bank's special assessment amounted to $7.5 million
($4.8 million after applicable income taxes) pursuant to the FDIA. In addition
to the recapitalization provisions, the FDIA equalized the rate schedule for
SAIF and BIF institutions with the rates ranging from zero to 27 basis points
beginning October 1, 1996. At December 31, 1997, the Bank was categorized as
well capitalized.
The FDIA provided for FICO debt sharing by banks and thrifts with proration
sharing in the year 2000. Prior to the year 2000, SAIF insured institutions will
pay approximately 6.5 basis points for FICO, while BIF insured institutions will
pay approximately 1.3 basis points. The FICO provisions of the FDIA also
prohibit deposit migration strategies to avoid SAIF premiums. The FDIA also
provided for the merger of the BIF and the SAIF on January 1, 1999, with such
merger being conditioned upon the prior elimination of the federal thrift
charter.
Under Section 593 of the Internal Revenue Code, thrift institutions such as
the Bank, which meet certain definitional tests primarily relating to their
assets and the nature of their business, are permitted to establish a tax
reserve for bad debts and to make annual additions thereto, which additions may,
within specified limitations, be deducted in arriving at their taxable income.
The Bank's deduction with respect to "qualifying loans" which are generally
loans secured by certain interests in real property, prior to 1996, could be
computed using an amount based on the Bank's actual loss experience (the
"experience method") or a percentage of taxable income, computed without regard
to this deduction, and with additional modifications and reduced by the amount
of any permitted addition to the non-qualifying reserve. See "Taxation-Federal
Taxation."
Effective January 1, 1996, the Bank is unable to make additions to its tax
bad debt reserve, is permitted to deduct bad debts only as they occur and is
additionally required to recapture (i.e. take into taxable income) over a six
year period, the excess of the balance of its bad debt reserve as of December
31, 1995 over the balance of such reserve as of December 31, 1987. Such
recapture requirements can be suspended for each of two successive taxable years
beginning January 1, 1996, in which the Bank originates a minimum amount of
certain residential loans based upon the average of the principal amounts of
such loans made by the Bank during its six taxable years preceding 1996. At
December 31, 1997, the Bank had approximately $3.9 million of post-1987 tax bad
debt reserves, for which deferred taxes have been provided.
REGULATORY CAPITAL REQUIREMENTS. The FDIA requires the Federal banking
agencies to revise their risk-based capital guidelines to, among other things,
take adequate account of interest rate risk. The Federal banking agencies
continue to consider modification of the capital requirements applicable to
banking organizations. In August 1995, the Federal banking agencies amended
their risk-based capital guidelines to provide that the banking agencies will
include in their evaluations of a bank's capital adequacy an assessment of the
bank's exposure to declines in the economic value of the bank's capital due to
changes in interest rates. The agencies also issued a proposed policy statement
that describes the process that the agencies will use to measure and assess the
exposure of a bank's capital to changes in interest rates. The agencies stated
that after they and the banking industry gain sufficient experience with the
measurement process, the agencies would issue proposed regulations for
establishing explicit charges against capital to account for interest rate risk.
The FDIA also requires the FDIC and the other Federal banking agencies to
revise their risk-based capital standards, with appropriate transition rules, to
ensure that they take into account concentration of credit risk and the risks of
non-traditional activities and to ensure that such standards reflect the "actual
performance and expected risk of loss of multifamily mortgages," of which the
Bank had $131.5 million at December 31, 1997. See "Business - Lending
Activities." In December 1995, the FDIC and the other Federal banking agencies
promulgated final amendments to their respective risk-based capital requirements
which would explicitly identify concentration of credit risk and certain risks
arising from nontraditional activities, and the management of such risks as
important factors to consider in assessing an institution's overall capital
adequacy. The FDIC may now require higher minimum capital ratios based on
certain circumstances, including where the institution has significant risks
from concentration of credit or certain risks arising from non-traditional
activities.
The Federal banking agencies have agreed to adopt for regulatory purposes
Statement 115, which, among other things, generally adds a new element to
stockholders' equity under generally accepted accounting principles by including
net unrealized gains and losses on certain securities. In December 1994, the
FDIC issued final amendments to its regulatory capital requirements which would
require that the net amount of unrealized losses from available-for-sale equity
securities with readily determinable fair values be deducted for purposes of
calculating the Tier 1 capital ratio. All other net unrealized holding gains
(losses) on available-for-sale securities are excluded from the definition of
Tier 1 capital. At December 31, 1997, the Bank had $173.5 million of securities
available-for-sale with $3.5 million of aggregate net unrealized losses thereon.
SAFETY AND SOUNDNESS STANDARDS. Each Federal banking agency is required to
prescribe, for all insured depository institutions and their holding companies,
standards relating to internal controls, information systems and internal audit
systems, loan documentation, credit underwriting, interest rate exposure, asset
growth, compensation, fees and benefits and such other operational and
managerial standards as the agency deems appropriate. The compensation
standards would prohibit employment contracts or other compensatory arrangements
that provide excess compensation, fees or benefits or could lead to material
financial loss to the institution. In addition, each Federal banking agency
also is required to adopt for all insured depository institutions and their
holding companies standards that specify (i) a maximum ratio of classified
assets to capital, (ii) minimum earnings sufficient to absorb losses without
impairing capital, (iii) to the extent feasible, a minimum ratio of market value
to book value for publicly-traded shares of the institution or holding company,
and (iv) such other standards relating to asset quality, earnings and valuation
as the agency deems appropriate. On July 10, 1995, the Federal banking
agencies, including the FDIC, adopted final rules and proposed guidelines
concerning safety and soundness required to be prescribed by regulations
pursuant to Section 39 of the FDIA. In general, the standards relate to
operational and managerial matters, asset quality and earnings and compensation.
The operational and managerial standards cover internal controls and information
systems, internal audit systems, loan documentation, credit underwriting,
interest rate exposure, asset growth, and compensation, fees and benefits.
Under the asset quality and earnings standards, which were adopted by the
Federal Banking agencies in October 1996, the Bank would be required to
establish and maintain systems to identify problem assets and prevent
deterioration in those assets and evaluate and monitor earnings to ensure that
earnings are sufficient to maintain adequate capital reserves. If an insured
institution fails to meet any of the standards promulgated by the regulators,
then such institution will be required to submit a plan within 30 days to the
FDIC specifying the steps that it will take to correct the deficiency. In the
event that an insured institution fails to submit or fails in any material
respect to implement a compliance plan within the time allowed by the FDIC,
Section 39 of the FDIA provides that the FDIC must order the institution to
correct the deficiency and may restrict asset growth, require the savings
institution to increase its ratio of tangible equity to assets, restrict the
rates of interest that the institution may pay or take any other action that
would better carry out the purpose of prompt corrective action. The Bank
believes that it has been and will continue to be in compliance with each of the
standards as they have been adopted by the FDIC.
Finally, each Federal banking agency is required to prescribe standards for
the employment contracts and other compensation arrangements of executive
officers, employees, directors and principal stockholders of insured depository
institutions that would prohibit compensation and benefits and arrangements that
are excessive or that could lead to a material financial loss for the
institution. In February 1996, the FDIC adopted final regulations regarding the
payment of severance and indemnification to management officials and other
affiliates of insured institutions (institution affiliated parties or "IAPs").
The limitations on severance or "golden parachute" payments apply to "troubled"
institutions which seek to enter into contracts with IAPs. A golden parachute
payment is generally considered to be any payment to an IAP which is contingent
on the termination of that person's employment and is received when the insured
institution is in a troubled condition. The definition of golden parachute
payment does not include payment pursuant to qualified retirement plans,
non-qualified bona fide deferred compensation plans, nondiscriminatory severance
pay plans, other types of common benefit plans, state statutes and death
benefits. Certain limited exceptions to the golden parachute payment
prohibition are provided for in cases involving the hiring of an outside
executive, unassisted changes of control and where the FDIC provides written
permission to make such payment. The limitations on indemnification payments
apply to all insured institutions, their subsidiaries and affiliated holding
companies. Generally, this provision prohibits such entities from indemnifying
an IAP for that portion of the costs sustained with regard to a civil or
administrative enforcement action commenced by any Federal banking agency which
results in a final order or settlement pursuant to which the IAP is assessed a
civil monetary penalty, removed from office, prohibited from participating in
the affairs of an insured institution or required to cease and desist from
taking certain affirmative actions. Nevertheless, institutions or holding
companies may purchase commercial insurance to cover such expenses (except for
judgments or penalties) and the institutions or holding company may advance
legal expenses to the IAP if its board of directors makes certain specific
findings and the IAP agrees in writing to reimburse the institution if it is
ultimately determined that the IAP violated a law, regulation or other fiduciary
duty.
ACTIVITIES AND INVESTMENTS OF INSURED STATE-CHARTERED BANKS. The activities
and equity investments of FDIC-insured, state-chartered banks are limited by
Federal law to those that are permissible for national banks. An insured state
bank generally may not acquire or retain any equity investment of a type, or in
an amount, that is not permissible for a national bank. An insured state bank
is not prohibited from, among other things, (i) acquiring or retaining a
majority interest in a subsidiary, (ii) investing as a limited partner in a
partnership the sole purpose of which is direct or indirect investment in the
acquisition, rehabilitation or new construction of a qualified housing project,
provided that such limited partnership investments may not exceed 2% of the
bank's assets, (iii) acquiring up to 10% of the voting stock of a company that
solely provides or reinsures directors' and officers' liability insurance, and
(iv) acquiring or retaining the voting shares of a depository institution if
certain requirements are met.
COMMUNITY REINVESTMENT ACT. Under the Community Reinvestment Act ("CRA"),
as implemented by FDIC regulations, a savings institution has a continuing and
affirmative obligation consistent with its safe and sound operation to help meet
the credit needs of its entire community, including low and moderate income
neighborhoods. The CRA does not establish specific lending requirements or
programs for financial institutions nor does it limit an institution's
discretion to develop the types of products and services that it believes are
best suited to its particular community, consistent with the CRA. The CRA
requires the FDIC, in connection with its examination of a savings institution,
to assess the institution's record of meeting the credit needs of its community
and to take such record into account in its evaluation of certain applications
by such institution. As of the date of its most recent regulatory examination,
the Bank was rated "satisfactory" with respect to its CRA compliance.
In May 1995, the FDIC and other Federal banking agencies promulgated final
revisions to their regulations concerning the CRA. The revised regulations
generally are intended to provide clearer guidance to financial institutions on
the nature and extent of their obligations under the CRA and the methods by
which the obligations will be assessed and enforced. Among other things, the
revised regulations substitute for the current process-based assessment factors
a new evaluation system that would rate institutions based on their actual
performance in meeting community credit needs. In particular, the revised
system will evaluate the degree to which an institution is performing under
tests and standards judged in the context of information about the institution,
its community, its competitors and its peers with respect to (i) lending, (ii)
service delivery systems and (iii) community development. The revised
regulations also specify that an institution's CRA performance will be
considered in an institution's expansion (e.g., branching) proposals and may be
the basis for approving, denying or conditioning the approval of an application.
Management of the Bank currently is unable to predict the effects of the
regulations under the CRA as recently adopted.
QUALIFIED THRIFT LENDER TEST. All savings institutions, including the
Bank, are required to meet a QTL test set forth under Section 10(m) of the Home
Owners Loan Act, as amended, ("HOLA") to avoid certain restrictions on their
operations. Under Section 2303 of the Economic Growth and Regulatory Paperwork
Reduction Act of 1996, a savings institution can comply with the QTL test set
forth in the HOLA and implementing regulations or by qualifying as a domestic
building and loan association as defined in Section 7701(a)(19) of the Code.
The QTL test set forth in HOLA requires that a depository institution must have
at least 65% of its portfolio assets (which consist of total assets less
intangibles, properties used to conduct the savings institution's business and
liquid assets not exceeding 20% of total assets) in qualified thrift investments
on a monthly average basis in nine of every 12 months. Loans and
mortgage-backed securities secured by domestic residential housing, as well as
certain obligations of the FDIC and certain other related entities may be
included in qualifying thrift investments without limit. Certain other
housing-related and non-residential real estate loans and investments, including
loans to develop churches, nursing homes, hospitals and schools, and consumer
loans and investments in subsidiaries engaged in housing-related activities may
also be included. Qualifying assets for the QTL test include investments related
to domestic residential real estate or manufactured housing, the book value of
property used by an institution or its subsidiaries for the conduct of its
business, an amount of residential mortgage loans that the institution or its
subsidiaries sold within 90 days of origination, shares of stock issued by any
FHLB and shares of stock issued by the FHLMC or the FNMA. The Bank was in
compliance with the QTL test as of December 31, 1997, with 86.9% of its assets
invested in qualified thrift investments.
RESTRICTIONS ON CAPITAL DISTRIBUTIONS. The Bank is required to provide to
the OTS not less than 30 days' advance notice of the proposed declaration by its
board of directors of any dividend on its capital stock. The OTS may object to
the payment of the dividend on safety and soundness grounds. The FDIA prohibits
an insured depository institution from paying dividends on its capital stock or
interest on its capital notes or debentures (if such interest is required to be
paid only out of net profits) or distribute any of its capital assets while it
remains in default in the payment of any assessment due the FDIC. Texas law
permits the Bank to pay dividends out of current or retained income in cash or
additional stock.
LEGISLATIVE AND REGULATORY PROPOSALS. Proposals to change the laws and
regulations governing the operations and taxation of, and federal insurance
premiums paid by, savings banks and other financial institutions and companies
that control such institutions are frequently raised in Congress, state
legislatures and before the FDIC and other bank regulatory authorities. The
likelihood of any major changes in the future and the impact such changes might
have on the Bank are impossible to determine. Similarly, proposals to change
the accounting treatment applicable to savings banks and other depository
institutions are frequently raised by the SEC, the FDIC, the IRS and other
appropriate authorities, including, among others, proposals relating to fair
market value accounting for certain classes of assets and liabilities. The
likelihood and impact of any additional future accounting rule changes and the
impact such changes might have on the Bank are impossible to determine.
FEDERAL HOME LOAN BANK SYSTEM. The Bank is a member of the FHLB of Dallas,
which is one of 12 regional FHLBs that administer the home financing credit
function of savings institutions and commercial banks. Each FHLB serves as a
source of liquidity for its members within its assigned region. It is funded
primarily from proceeds derived from the sale of consolidated obligations of the
FHLB System. It makes loans to members (i.e., advances) in accordance with
policies and procedures established by its Board of Directors. As of December
31, 1997, the Bank's advances from the FHLB of Dallas amounted to $540.5 million
or 18.6% of its total assets.
As a member, the Bank is required to purchase and maintain stock in the
FHLB of Dallas in an amount equal to the greater of 1% of its aggregate unpaid
residential mortgage loans, home purchase contracts or similar obligations at
the beginning of each year or 5% of total advances. At December 31, 1997, the
Bank had $27.8 million in FHLB stock, which was in compliance with this
requirement.
The FHLBs are required to provide funds for the resolution of troubled
savings associations and to contribute to affordable housing programs through
direct loans or interest subsidies on advances targeted for community investment
and low- and moderate-income housing projects. These contributions have
adversely affected the level of FHLB dividends paid and could continue to do so
in the future. These contributions also could have an adverse effect on the
value of FHLB stock in the future. For the year ended December 31, 1997,
dividends paid by the FHLB of Dallas to the Bank totaled $1.3 million.
FEDERAL RESERVE SYSTEM. The Federal Reserve Board requires all depository
institutions to maintain reserves against their transaction accounts (primarily
checking accounts) and non-personal time deposits. At December 31, 1997, the
Bank was in compliance with such requirements.
The balances maintained to meet the reserve requirements imposed by the
Federal Reserve Board may be used to satisfy applicable liquidity requirements.
Because required reserves must be maintained in the form of vault cash or a
noninterest-bearing account at a Federal Reserve Bank, the effect of this
reserve requirement is to reduce a bank's earning assets. The amount of funds
necessary to satisfy this requirement has not had a material affect on the
Bank's operations.
TEXAS SAVINGS BANK LAW. As a Texas chartered savings bank, the Bank is
subject to regulation and supervision by the Department under the TSBA. The
TSBA contains provisions governing the incorporation and organization, location
of offices, rights and responsibilities of directors, officers and members as
well as the corporate powers, savings, lending, capital and investment
requirements and other aspects of the Bank and its affairs. In addition, the
Department is given extensive rulemaking power and administrative discretion
under the TSBA, including authority to enact and enforce rules and regulations.
The Bank is required under the TSBA to comply with certain capital
requirements established by the Department. The TSBA also restricts the amount
the Bank can lend to one borrower to that permitted to national banks, which is
generally not more than 15% of the Bank's unimpaired capital and unimpaired
surplus and, if such loans are fully secured by readily marketable collateral,
an additional 10% of unimpaired capital and unimpaired surplus. The Department
generally examines the Bank once every year and the current practice is for the
Department to conduct a joint examination with the FDIC. The Department
monitors the extraordinary activities of the Bank by requiring that the Bank
seek the Department's approval for certain transactions such as the
establishment of additional offices, a reorganization, merger or purchase and
assumption transaction, changes of control, or the issuance of capital
obligations. The Department may intervene in the affairs of a savings bank if
the savings bank, or its director, officer or agent has: engaged in an unsafe
and unsound practice, violated the savings bank's articles of incorporation,
violated a statute or regulation, filed materially false or misleading
information, committed a criminal act or a breach of fiduciary duty, or if the
savings bank is, or is in imminent danger of becoming, insolvent.
TAXATION
FEDERAL TAXATION. The Company, the Bank and its subsidiaries file a
consolidated Federal income tax return on a calendar year basis using the
accrual method. Savings banks are subject to provisions of the Internal Revenue
Code ("Code") in the same general manner as other corporations. However, prior
to 1996, institutions such as the Bank which met certain definitional tests and
other conditions prescribed by the Code, benefited from certain favorable
provisions regarding their deductions from taxable income for annual additions
to their bad debt reserve. In years prior to 1996, the Bank was permitted under
the Code to deduct an annual addition to the reserve for bad debts in
determining taxable income based on the experience method or the percentage of
taxable income method. Due to recently enacted legislation, the Bank will no
longer be able to utilize a reserve method for determining the bad debt
deduction, but will be allowed to deduct actual net charge-offs. Further, the
legislation requires the Bank to recapture, into taxable income, over a six year
period, the excess of the balance of its bad debt reserve as of December 31,
1995 over the balance of such reserve as of December 31, 1987. At December 31,
1997, the Bank had approximately $3.9 million of post-1987 tax bad debt
reserves, for which deferred taxes have been provided.
The Bank is not required to provide deferred taxes on its pre-1988 (base
year) tax bad debt reserve of approximately $900,000. This reserve may be
included in taxable income in future years if the Bank makes distributions to
stockholders (including distributions in redemption, dissolution or liquidation)
that are considered to result in withdrawals from that excess bad debt reserve,
then the amounts considered withdrawn will be included in the savings bank's
taxable income. The amount that would be deemed withdrawn from such reserves
upon such distribution and which would be subject to taxation at the savings
bank level at the normal corporate tax rate would be an amount that, after taxes
on such amount, would equal the amount actually distributed plus the amount
necessary to pay the tax with respect to the withdrawal. Dividends paid out of
a savings bank's current or accumulated earnings and profits as calculated for
Federal income tax purposes, however, will not be considered to result in
withdrawals from its bad debt reserves to the extent of such earnings and
profits, but shall be regarded as taken from such reserves only upon exhaustion
of the earnings and profits accounts; however, distributions in redemption of
stock, and distributions in partial or complete liquidation of a savings bank
will be considered to come first from its loss reserve. The Bank has not
conducted a study to determine with certainty the amount of its accumulated
earnings and profits for Federal income tax purposes.
In addition to regular income taxes, corporations are subject to an
alternative minimum tax which is generally equal to 20% of alternative minimum
taxable income (taxable income, increased by tax preference items and adjusted
for certain regular tax items). The preference items generally applicable to
savings banks include (i) prior to 1996, 100% of the excess of a savings bank's
bad debt deduction computed under the percentage of income method over the
amount that would have been allowable under the experience method and (ii) an
amount equal to 75% of the amount by which a savings bank's adjusted current
earnings (alternative minimum taxable income computed without regard to this
preference, adjusted for certain items) exceeds its alternative minimum taxable
income without regard to this preference. The amounts received by the Bank
pursuant to the Assistance Agreement were included in its adjusted current
earnings. Payment of alternative minimum tax gives rise to alternative minimum
tax credit carryovers which may be carried forward indefinitely. These credits
may be used to offset future regular tax liability to the extent the regular tax
liability exceeds future alternative minimum tax.
In connection with the Assistance Agreement, an instrumentality of the
Federal government was obligated to provide the Bank with financial assistance
in connection with various matters that arose under the Assistance Agreement.
Payments to the Bank pursuant to the Assistance Agreement were taxed under the
applicable provisions of the Code which were in effect in 1988. These
provisions of the Code provide generally that payments from such instrumentality
to the Bank pursuant to the Assistance Agreement were not included in the Bank's
income and the Bank was not required to reduce its basis in the Guaranteed
Assets by the amount of such financial assistance. Accordingly, the Bank was not
required to pay Federal income taxes with respect to any amount of the
assistance payments it received pursuant to the Assistance Agreement.
The Assistance Agreement did, however, require the Bank, in effect, to pay
to such instrumentality 100% of the Federal and state "net tax benefits," as
defined, which are realized by the Bank from excluding from its income the
payments received pursuant to the Assistance Agreement on a tax-free basis. The
amount of assistance payments from that governmental instrumentality was reduced
by the amount of tax benefit realized by the Bank by excluding assistance
payments from its taxable income. Accordingly, the Bank, in effect, was passing
back to that governmental instrumentality the entire tax benefit derived from
the tax exemption provided by the Code provisions which were in effect in 1988.
Further, the tax laws in 1988 which applied to the Southwest Plan
Acquisition provided that generally applicable limitations on the ability of an
acquiring corporation to utilize the net operating loss carryforwards, and
built-in losses, as defined, of acquired financial institutions did not apply in
the case of the acquisition of assets from insolvent savings and loan
associations. The generally applicable rules limit the rate at which the net
operating loss carryforwards and built-in (i.e., previously unrecognized) losses
of an acquired corporation may be used by a corporation which acquires "control"
of the corporation which generated the loss. Pursuant to this exception which
existed in 1988 to the generally applicable law, the Bank is allowed to use the
net operating losses and built-in losses of all of the Acquired Associations
except for one without limitation. The net operating loss of one association is
not available to the Bank because such association's deposits at the time of its
acquisition did not represent at least 20% of the Bank's total deposits and
equity as required by the applicable provisions of the Code in 1988.
The Assistance Agreement required that the tax benefit derived by the Bank
from utilizing net operating loss carryforwards acquired from three of the four
Acquired Associations also be applied to reduce the amount of assistance
payments payable to the Bank by the government instrumentality. The Bank's
Consolidated Statements of Operations, therefore, includes a provision for
Federal income taxes which includes amounts credited to that governmental
instrumentality in lieu of Federal income taxes paid to the Internal Revenue
Service with certain adjustments. Although the termination of the Assistance
Agreement was effective March 31, 1994, that governmental instrumentality will
continue to receive the future federal income tax benefits of the net operating
loss carryforwards acquired from the Acquired Associations.
The Company's Federal income tax returns have not yet been audited by the
United States Internal Revenue Service. The tax returns of the Company (and the
Acquired Associations) since 1988 are subject to review by the Internal Revenue
Service.
STATE TAXATION
The Company pays an annual franchise tax equal to the greater of $2.50 per
$1,000 of taxable capital apportioned to Texas, or $4.50 per $100 of net taxable
earned surplus apportioned to Texas. Taxable earned surplus is the Company's
Federal taxable income with certain modifications, such as the exclusion of
interest earned on Federal obligations.
ITEM 2. PROPERTIES
----------
The Company's business is conducted from 37 offices in Texas. The
following table sets forth the location of the offices of the Company, as well
as certain additional information relating to these offices as of December 31,
1997.
<TABLE>
<CAPTION>
Net Book
Value of
Property
Owned/Leased or Percent of
(with Lease Expiration Leasehold Total
Location Date) Improvements Deposits Deposits
- ------------------------ ---------------------- ------------ -------- ---------
(Dollars in thousands)
<S> <C> <C> <C> <C>
BRANCH OFFICES:
- -----------------------------
1329 North Virginia Owned
Port Lavaca, Texas 77979 $ 174 $ 30,537 2.21%
8 Greenway Plaza, Suite 100 Leased;
Houston, Texas 77046 November 1, 1998 21 20,151 1.46
8 Braeswood Square Leased;
Houston, Texas 77096 December 31, 2006 497 63,055 4.57
408 Walnut Owned
Columbus, Texas 78934 301 57,271 4.15
870 S. Mason, #100 Leased;
Katy, Texas 77450 August 31, 2003 51 24,277 1.76
602 Lyons Owned
Schulenburg, Texas 78956 91 32,657 2.37
325 Meyer Street Owned
Sealy, Texas 77474 599 41,499 3.01
116 E. Post Office Owned
Weimar, Texas 78962 42 26,257 1.90
323 Boling Road Owned
Wharton, Texas 77488 134 47,084 3.41
1621 Pine Drive Leased;
Dickinson, Texas 77539 September 30, 1998 -- 43,773 3.17
295 West Highway 77 Owned
San Benito, Texas 78586 240 21,094 1.53
1260 Blalock, Suite 100 Leased;
Houston, Texas 77055 January 20, 1999 50 57,372 4.16
620 W. Main Owned
Tomball, Texas 77375 133 27,628 2.00
915-H North Shepherd Leased;
Houston, Texas 77008 October 31, 2001 182 32,592 2.36
6810 FM 1960 West Leased;
Houston, Texas 77069 September 30, 2000 -- 31,313 2.27
7602 N. Navarro Owned
Victoria, Texas 77904 192 83,485 6.06
2308 So. 77 Sunshine Strip Leased;
Harlingen, Texas 78550 October 31, 1998 622 19,238 1.39
4900 N. 10th St., G-1 Leased;
McAllen, Texas 78504 August 14, 2001 161 16,291 1.18
10838 Leopard Street, Suite B Leased;
Corpus Christi, Texas 78410 December 31, 1998 2 42,358 3.07
4060 Weber Road Leased;
Corpus Christi, Texas 78411 April 30, 1999 4 61,508 4.47
301 E. Main Street Owned
Brenham, Texas 77833 181 63,089 4.57
1192 W. Dallas Leased;
Conroe, Texas 77301 December 31, 1999 -- 51,148 3.71
2353 Town Center Dr. Owned
Sugar Land, Texas 77478 1,112 18,223 1.32
1629 S. Voss Owned
Houston, Texas 77057 1,472 21,671 1.57
531-A Highway 1431 Leased;
Kingsland, Texas 78639 December 31, 1999 -- 20,122 1.46
209 W. Moreland Owned
Mason, Texas 76856 53 17,104 1.24
904 Highway 281 North Owned
Marble Falls, Texas 78654 180 11,329 0.82
101 East Polk Owned
Burnet, Texas 78611 100 19,643 1.42
907 Ford Owned
Llano, Texas 78643 174 16,138 1.17
708 East Austin Owned
Giddings, Texas 78942 280 24,741 1.79
5718 Westheimer, Suite 100 Leased;
Houston, Texas 77057 July 31, 2012 135 38,553 2.80
7909 Parkwood Circle Drive Owned
Houston, Texas 77036 244 11,166 0.81
1250 Pin Oak Road Owned
Katy, Texas 77494 1,185 17,128 1.24
2120 Thompson Highway Owned
Richmond, Texas 77469 492 41,785 3.03
7200 North Mopac Leased;
Austin, Texas 78731 December 31, 2002 8 36,766 2.67
1112 Seventh Street Leased;
Bay City, Texas 77414 April 30, 2002 -- 76,595 5.56
441 Austin Avenue Owned
Port Arthur, Texas 77640 669 50,052 3.63
13695 Research Blvd Under Construction
Austin, Texas 78750 446 -- --
ADMINISTRATIVE OFFICE(1)
- ------------------------------
Coastal Banc Plaza Leased;
5718 Westheimer, Suite 600 July 31, 2012 3,093 64,642 4.69
Houston, Texas 77057
RECORDS & RETENTION OFFICE:
- ------------------------------
227 Meyer St Owned
Sealy, Texas 77474 63 -- -
------------- --------- -----------
Total $ 13,383 $1,379,335 100.00%
============= ========== ===========
</TABLE>
______________________
(1)Includes location of administrative, primary lending and mortgage servicing
offices.
The net book value of the Company's investment in premises and equipment
totaled $22.3 million at December 31, 1997. At December 31, 1997, the net book
value of the Company's electronic data processing equipment, which includes its
in-house computer system, local area network and fifteen automatic teller
machines, was $3.9 million.
ITEM 3. LEGAL PROCEEDINGS
------------------
The Company is involved in routine legal proceedings occurring in the
ordinary course of business which, in the aggregate, are believed by management
to be immaterial to the financial condition of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
-----------------------------------------------------------
Not applicable.
PART II
- --------
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
----------------------------------------------------------------------
The information required herein is incorporated by reference from page 53
of the Company's printed Annual Report to Stockholders for fiscal 1997 ("Annual
Report"), which is included herein as Exhibit 13.
ITEM 6. SELECTED FINANCIAL DATA
-------------------------
The information required herein is incorporated by reference from pages 8
through 11 of the Annual Report.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
---------------------------------------------------------------
The information required herein is incorporated by reference on pages 11
through 23 of the Annual Report.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
-------------------------------------------------------------
The information required herein is incorporated by reference from pages 18
through 19 of the Annual Report. The Company's principal market risk exposure
is to interest rates.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
-----------------------------------------------
The financial statements and supplementary data required herein are
incorporated by reference from pages 25 through 52 of the Annual Report.
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
---------------------------------------------------------------
Not applicable.
PART III
- ---------
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
--------------------------------------------------------
The information required herein is incorporated by reference from the
definitive Proxy Statement filed with the Securities and Exchange Commission.
Otherwise, the requirements of this Item 10 are not applicable.
ITEM 11. EXECUTIVE COMPENSATION
-----------------------
The information required herein is incorporated by reference from the
definitive Proxy Statement filed with the Securities and Exchange Commission.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
--------------------------------------------------------------
The information required herein is incorporated by reference from the
definitive Proxy Statement filed with the Securities and Exchange Commission.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
--------------------------------------------------
The information required herein is incorporated by reference from the
definitive Proxy Statement filed with the Securities and Exchange Commission.
PART IV
- --------
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
---------------------------------------------------------------
(a)(1) The following financial statements are incorporated herein by
reference from pages 25 through 52 of the Annual Report.
Report of Independent Certified Public Accountants.
Consolidated Statements of Financial Condition as of December 31, 1997 and
1996.
Consolidated Statements of Operations for each of the years in the
three-year period ended December 31, 1997.
Consolidated Statements of Stockholders' Equity for each of the years in
the three-year period ended December 31, 1997.
Consolidated Statements of Cash Flows for each of the years in the
three-year period ended December 31, 1997.
Notes to Consolidated Financial Statements.
(a)(2) There are no financial statement schedules filed herewith.
(a)(3) The following exhibits are filed as part of this report.
<TABLE>
<CAPTION>
Exhibit No. Page
- ----------- -------
<C> <S> <C>
3.1 Articles of Incorporation of the Company . . . . . . . . . *
3.2 Bylaws of Company. . . . . . . . . . . . . . . . . . . . . *
4 Form of Company common stock certificate . . . . . . . . . *
4.1 Form of Indenture dated as of June 30, 1995, with respect
to the Company's 10% Notes, due 2002 . . . . . . . . . . . **
10.1 1991 Stock Compensation Program. . . . . . . . . . . . . . *
10.2 1995 Stock Compensation Program. . . . . . . . . . . . . . ***
10.3 Change-In-Control Severance Agreements . . . . . . . . . . E-1
12 Ratio of earnings to combined fixed charges and preferred
stock dividends (See Exhibit 13)
13 Annual Report to Stockholders. . . . . . . . . . . . . . . E -13
27 Financial Data Schedule (electronically filed)
28 Form of proxy to be mailed to stockholders of the Company. E -73
</TABLE>
__________________
* Incorporated by reference to the Company's Registration Statement on
Form S-4 (No. 33-75952) filed on March 2, 1994.
** Incorporated by reference to the Company's Registration Statement on
Amendment No. 6 to Form S-1 (No. 33-91206) filed on June 16, 1995.
*** Incorporated by reference to the Company's Registration Statement
on Form S-1 (No. 33-91206) filed on April 14, 1995.
(b)(1) Form 8-K filed by the Company on May 5, 1997 concerning the
declaration of dividends for the first quarter of 1997.
(b)(2) Form 8-K filed by the Company on October 21, 1997 concerning the
formation of Coastal Banc Capital Corp., a wholly-owned subsidiary of Coastal
Banc Holding Company, Inc.
(b)(3) Form 8-K filed by the Company on March 11, 1998 concerning the
resolution of an outstanding tax benefit issue with the Federal Deposit
Insurance Corporation.
(c) See (a)(3) above for all exhibits filed herewith and Exhibit Index.
(d) All schedules are omitted as the required information is not
applicable or the information is presented in the consolidated financial
statements or related notes.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
COASTAL BANCORP, INC.
Date: March 24, 1998 By: /s/ Manuel J. Mehos
-------------------------------
Manuel J. Mehos,
Chairman of the Board and Chief
Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report is signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.
/s/ Manuel J. Mehos Date: March 24, 1998
- -----------------------------
Manuel J. Mehos, Chairman of the
Board and Chief Executive Officer
/s/ R. Edwin Allday Date: March 24, 1998
- ----------------------------
R. Edwin Allday, Director
/s/ D. Fort Flowers, Jr. Date: March 24, 1998
- ----------------------------
D. Fort Flowers, Jr., Director
/s/ Dennis S. Frank Date: March 24, 1998
- ----------------------------
Dennis S. Frank, Director
/s/ Robert E. Johnson, Jr. Date: March 24, 1998
- ----------------------------
Robert E. Johnson, Jr., Director
/s/ James C. Niver Date: March 24, 1998
- -----------------------------
James C. Niver, Director
/s/ Clayton T. Stone Date: March 24, 1998
- -----------------------
Clayton T. Stone, Director
/s/ Catherine N. Wylie Date: March 24, 1998
- -------------------------
Catherine N. Wylie, Chief Financial
Officer (principal financial and
accounting officer)
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
This schedule contains summary financial information extracted from the
consolidated statement of financial condition, the consolidated statement of
operations and notes thereto found in exhibit 13 of the Company's Form 10-K for
the year ended December 31, 1997 and is qualified in its entirety by reference
to such financial statements
</LEGEND>
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> DEC-31-1997
<CASH> 37,096
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 169,997
<INVESTMENTS-CARRYING> 1,345,090
<INVESTMENTS-MARKET> 1,324,968
<LOANS> 1,261,435
<ALLOWANCE> 7,412
<TOTAL-ASSETS> 2,911,410
<DEPOSITS> 1,375,060
<SHORT-TERM> 1,112,679
<LIABILITIES-OTHER> 49,285
<LONG-TERM> 269,556
0
0
<COMMON> 50
<OTHER-SE> 104,780
<TOTAL-LIABILITIES-AND-EQUITY> 2,911,410
<INTEREST-LOAN> 106,962
<INTEREST-INVEST> 92,755
<INTEREST-OTHER> 1,639
<INTEREST-TOTAL> 201,356
<INTEREST-DEPOSIT> 62,912
<INTEREST-EXPENSE> 144,423
<INTEREST-INCOME-NET> 56,933
<LOAN-LOSSES> 1,800
<SECURITIES-GAINS> 237
<EXPENSE-OTHER> 42,132
<INCOME-PRETAX> 19,385
<INCOME-PRE-EXTRAORDINARY> 11,563
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 11,563
<EPS-PRIMARY> 2.32
<EPS-DILUTED> 2.25
<YIELD-ACTUAL> 2.02
<LOANS-NON> 17,351
<LOANS-PAST> 340
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 6,880
<CHARGE-OFFS> 1,416
<RECOVERIES> 148
<ALLOWANCE-CLOSE> 7,412
<ALLOWANCE-DOMESTIC> 7,412
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
EXHIBIT 13
COASTAL BANCORP, INC.
AND SUBSIDIARIES
FINANCIAL HIGHLIGHTS
DECEMBER 31, 1997, 1996 AND 1995
<TABLE>
<CAPTION>
December 31,
------------
(dollars in thousands, except per share data) 1997 1996 1995
- ----------------------------------------------------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
FOR THE YEAR ENDED
Net interest income $ 56,933 $ 56,426 $ 43,932
Provision for loan losses 1,800 1,925 1,664
Noninterest income 6,384 6,091 5,162
SAIF insurance special assessment (1) -- 7,455 --
Other noninterest expense 39,544 37,927 29,823
Net income available to common stockholders 11,563 6,951 8,542
Diluted earnings per share before the 1996 SAIF
insurance special assessment (2) 2.25 2.34 1.71
Diluted earnings per share 2.25 1.38 1.71
- ----------------------------------------------------- ----------- ----------- -----------
AT YEAR END
Total assets $2,911,410 $2,875,907 $2,786,528
Loans receivable 1,261,435 1,229,748 1,098,555
Mortgage-backed securities held-to-maturity 1,345,090 1,344,587 1,395,753
Mortgage-backed securities available-for-sale 169,997 180,656 186,414
Savings deposits 1,375,060 1,310,835 1,287,084
Borrowed funds 1,332,235 1,376,707 1,306,018
Senior Notes payable 50,000 50,000 50,000
Preferred Stock of the Bank 28,750 28,750 28,750
Stockholders' equity 104,830 94,148 91,679
Book value per common share 20.67 18.70 18.27
Tangible book value per common share 17.74 15.70 14.71
- ----------------------------------------------------- ----------- ----------- -----------
SIGNIFICANT RATIOS FOR THE YEAR ENDED
Return on average assets before the 1996 SAIF
insurance special assessment (2) 0.49% 0.51% 0.45%
Return on average equity before the 1996 SAIF
insurance special assessment (2) 11.68 12.53 9.71
Interest rate spread including noninterest-bearing
savings deposits 1.85 1.89 1.61
Interest rate spread 1.67 1.72 1.46
Net interest margin 2.02 2.06 1.82
Average equity to average total assets 3.41 3.30 3.56
Noninterest expense to average total assets before
the 1996 SAIF insurance special assessment (2) 1.36 1.35 1.21
- ----------------------------------------------------- ----------- ----------- -----------
ASSET QUALITY RATIOS AT YEAR END
Nonperforming assets to total assets 0.71% 0.56% 0.68%
Nonperforming loans to total loans receivable 1.38 1.04 1.33
Allowance for loan losses to nonperforming loans 42.72 53.59 39.00
Allowance for loan losses to total loans receivable 0.59 0.56 0.52
- ----------------------------------------------------- ----------- ----------- -----------
</TABLE>
(1) On September 30, 1996, Coastal recorded the one-time Savings Association
Insurance Fund ("SAIF") insurance special assessment (the "special assessment")
of $7.5 million as a result of the Deposit Insurance Funds Act of 1996 (the
"Act") being signed into law. The special assessment pursuant to the Act was
65.7 basis points on the SAIF assessment base as of March 31, 1995.
(2) These ratios are calculated before the after-tax (as applicable) effect
of the special assessment of $4.8 million recorded on September 30, 1996.
CORPORATE PROFILE
Coastal Bancorp, Inc., headquartered in Houston, Texas, is the holding company
for Coastal Banc Holding Company, Inc. ("HoCo"), a Delaware unitary savings bank
holding company. HoCo is the parent company to Coastal Banc ssb, a
Texas-chartered, state savings bank. Coastal Banc ssb operates 37 branch
offices in metropolitan Houston, Austin, Corpus Christi and small cities in the
south east quadrant of Texas. At December 31, 1997, Coastal Banc ssb had $2.9
billion in assets and was considered to be a "well capitalized" institution
according to Federal Deposit Insurance Corporation ("FDIC") guidelines.
TABLE OF CONTENTS
(Page numbers in printed Annual Report)
<TABLE>
<CAPTION>
<S> <C>
Letter from the Chairman and Chief Executive Officer 2
Selected Consolidated Financial and Other Data . . . 8
Management's Discussion and Analysis . . . . . . . . 11
Independent Auditors' Report . . . . . . . . . . . . 25
Consolidated Financial Statements. . . . . . . . . . 26
Notes to Consolidated Financial Statements . . . . . 31
Stock Prices . . . . . . . . . . . . . . . . . . . . 53
Stockholder Information. . . . . . . . . . . . . . . 54
</TABLE>
CHAIRMAN'S LETTER
Since Coastal Bancorp, Inc. ("Coastal") went public in 1992, all of our annual
reports have shared two traits: each had a large wave on its cover and each of
my letters to Coastal's shareholders ended with the promise that our principal
goal is to maximize shareholder return. The 1997 Annual Report is no exception
- - the large wave on the cover is still building and you can anticipate how this
letter will end. But this year's letter has a new twist because the biggest
Coastal news for 1997 is shareholder return. So shareholder return gets opening
coverage as well as closing coverage this year.
Coastal stock price was up $12.00 per share, or 52% in 1997! That increase is
by far a record dollar and percentage increase for Coastal. At the end of 1997,
Coastal's stock price closed at $34.875 per share, also a record high. Part of
the reason for the increase was a roaring bull market in 1997 coupled with
strong investor demand for bank stocks. But contributing equally to the strong
stock performance is investor recognition of Coastal's successful transition to
full service commercial banking.
This unprecedented Coastal stock performance occurred during a year of somewhat
disappointing earnings. Core earnings for 1997 were short of management's goal
by roughly 25 cents per share and were in line with 1996 core earnings. The
earnings shortfall was directly attributable to temporary changes in the
wholesale funding market in the second half of the year coupled with unusually
high mortgage prepayments on an adjustable rate whole loan package purchased in
June of 1997. As a result, Coastal's net interest margin suffered almost 20
basis points of erosion in the third and fourth quarters. In early January
1998, however, both problems have eased and Coastal has started on the path back
to spreads achieved in the first half of 1997.
We are pleased, however, that investors have focused on Coastal's continuing
success in our shift to commercial banking rather than the temporary market
phenomena. After a detailed discussion of 1997 earnings, I will describe the
progress we made toward our ongoing strategic goals and tell you about Coastal's
future opportunities in the new banking business, which is evolving rapidly into
a more multidimensional enterprise.
1997 EARNINGS
Earnings for 1997 were $14.2 million or $2.25 per share, a 1.6% decline from
1996 earnings of $14.4 million or $2.34 per share before the after-tax effect of
the one-time Savings Association Insurance Fund ("SAIF") special assessment
imposed in 1996 by the FDIC (the "1996 special assessment"). Earnings for 1996,
after the special assessment, were $9.5 million or $1.38 per share. Per share
data during 1997 and 1996 were based on 5.1 million and 5.0 million common
shares outstanding (used in the diluted earnings per share calculation).
The special assessment was a one-time assessment charged (pursuant to 1996
federal legislation) by the FDIC on September 30, 1996, to all SAIF-insured
financial institutions at the rate of $0.657 per $100 of SAIF deposits as of
March 31, 1995. The assessment was intended to restore the SAIF to its minimum
required level and eventually equalize FDIC insurance premiums for both Bank
Insurance Fund and SAIF members. As a result of the legislation, Coastal's FDIC
insurance premiums dropped to approximately $0.0648 per $100 of deposits from
the rate of $.23 per $100 of deposits which was in effect prior to the
legislation. The 1996 special assessment, after taxes, was $4.8 million, or
$0.96 per share.
Despite the net interest margin compression experienced in the second half of
the year, core revenues once again reached a new record high. Net interest
income after provision for loan losses reached $55.1 million during 1997,
compared to $54.5 million in 1996, and loan fees, service charges on deposit
accounts and loan servicing income reached $5.4 million during 1997, compared to
$5.0 million during 1996. However, noninterest expenses reached $39.5 million
during 1997, compared to $37.9 million during 1996 (excluding the 1996 special
assessment). At December 31, 1997, Coastal had total assets of $2.9 billion,
total deposits of $1.4 billion in 37 branch offices and common stockholders'
equity of $104.8 million.
The higher wholesale funding costs and resulting net interest margin compression
during the second half of the year were primarily attributable to an anomaly in
the spread between the London Interbank Offered Rate ("LIBOR") and the Treasury
rate (the "TED spread"). For example, the TED spread historically (6 year
average) has been 40 basis points, but for the fourth quarter of 1997 was 63
basis points which would have equated to an additional 9 cents per share for the
quarter had the spread been consistent with the 6 year average. In addition,
Coastal experienced unusually high payoffs related to an adjustable rate whole
loan package purchased in the second quarter of the year. As a result, higher
than normal amortization of purchased mortgage loan premiums coupled with a
higher borrowing cost caused compression in Coastal's net interest margin.
However, as previously stated, both the wholesale funding anomaly and the
mortgage payoff trend appear to be improving in early 1998.
THE BALANCE SHEET SHOWS SIGNS OF OUR COMMERCIAL STRATEGY
Closer examination of the changes in components of the balance sheet at the end
of 1997 will reveal evidence that Coastal's strategic direction into commercial
loans and commercial deposits is producing tangible results. Management was
somewhat disappointed that the rapid decline in the mortgage portfolio and
unusually high funding costs overshadowed growth in commercial loans and
increases in low cost business deposits.
Consider this: The single family mortgage portfolio had principal reductions of
$243.0 million in 1997 but for the year only decreased $101.5 million from
$791.3 million at the end of 1996 to $689.8 million at the end of 1997. Total
loans, however, increased during the same period by over $30 million, from $1.23
billion at the end of 1996 to $1.26 billion at the end of 1997. Thus, all
categories of commercial loans experienced sufficient growth to offset the
$101.5 million decrease in single family mortgage loans and still provided for
overall loan growth. Furthermore, even though single family mortgage rates
declined during 1997, the weighted average yield on the loan portfolio at year
end increased from 8.23% at December 31, 1996 to 8.30% at December 31, 1997,
fulfilling our primary objective of higher yielding, floating index loans that
come with a shift to commercial banking.
And consider this: Evidence of Coastal's campaign to promote low rate
commercial transaction accounts - another primary objective of our commercial
banking strategy - lies in the deposit numbers. Wholesale borrowing costs were
substantially higher in 1997 when compared to 1996, but Coastal's year end 1997
weighted-average cost of deposits was 4.67%, unchanged from 1996. As of the end
of 1997, certificates of deposit at rates above 5% increased by over $50 million
while certificates of deposit at rates below 5% actually decreased in comparison
to year end 1996. Coastal's overall cost of deposits did not increase, however,
because low cost transaction accounts increased by almost $50 million.
Coastal commenced its strategic shift into commercial banking in 1996 with the
primary objectives of increasing Coastal's net interest margin and fee income
while decreasing Coastal's vulnerability to volatile market interest rates.
After two full years of introducing commercial bank services and products, you
can clearly see the results of our strategy within the changing composition of
the loan and deposit portfolios. But this is just the beginning. We will
continue to allocate more resources to commercial customers because, so far, the
results are a strategic success.
TIME TO CHANGE THE BANKING FORMULA
Now that we have a commercial platform and commercial customers, we are real
bankers, right? Coastal will make commercial loans at prime, graciously accept
their business deposits without paying interest, earn a healthy spread and juicy
account fees, and live happily ever after, right? We wish. But it doesn't work
that way any more. In today's market, a typical commercial customer expects
either a fixed rate loan or a loan at a small spread tied to LIBOR. They expect
the deposits to be swept at the end of each day to an interest-bearing account,
which may be located at their friendly neighborhood brokerage house.
Eventually, that brokerage house will find a way to finance the rest of the
customer's needs.
Traditional banking profit strategies are commonly based on the view that a
fixed formula amount of marginal overhead sustains a predictable amount of
spread income and fee income. This approach is flawed because overhead is
perceived as a machine that generates a given amount of loans, deposits and,
thus, spread income, which will remain on the balance sheet for a minimum period
of time. Any further growth requires a formula-derived amount of marginal
overhead growth.
As long as a constant level of interest rate spread can be maintained, the
traditional formula works and the required level of returns on equity can be
achieved. The trouble is, when the yield on new loans is declining and the cost
of deposits is climbing, the formula no longer works. Thus, the incremental
overhead must produce increasingly more loans and deposits for the formula to
work. All because the spreads produced by loans and the amount of time the
loans and deposits remain on the balance sheet are both declining.
Profits per the typical commercial banking customer have been roughly cut in
half, and they remain on the books for a much shorter period of time. This is
nothing more than a gross margin squeeze; therefore, it must be fixed by
increasing total revenues per customer and reducing marginal expenses per
customer. Banks must sell more services per business customer, reduce the
turnover and, most importantly, offer business customers services that
traditionally have not been the domain of the banking industry. Based on this
new formula, Coastal's strategy employs technology to increase the number of
business customers per dollar of overhead. Then we migrate down the customers'
balance sheets to provide services heretofore provided by that friendly
neighborhood brokerage firm.
TECHNOLOGY BRIDGES LOCAL PRESENCE
With the exception of commercial loans to medium sized businesses, most
traditional banking loans have reached a level of standardization whereby a
local presence doesn't provide a bank much of a competitive advantage. Consumer
loans, mortgage loans, and small business loans are sold through the mail and on
the Internet. Commercial real estate mortgage loans are provided by national
conduits and mortgage Real Estate Investment Trusts. Non-local creditors now
offer commercial construction loans.
Coastal will continue to offer and profitably produce all of these types of
loans. Several of these categories are a big part of our current loan
portfolio. However, at this mature stage of the loan cycle, they are becoming
increasingly difficult to originate at a profitable yield without taking
additional credit risk - not an option for Coastal.
Medium-sized business banking loans, on the other hand, have not completely
turned into standardized commodities without geographical ties. Location still
counts for something. Credit decisions and loan pricing rely on less
standardized information, and someone from the lending organization must have a
certain amount of continuous contact with the customer.
However, we still have to solve the dilemma of reduced customer profitability,
particularly given the intense competition of today's mature lending cycle. The
best way to maintain profit growth in this environment is by producing many more
customers with the same amount of overhead. Rather than take more credit risk
with a fewer customers, Coastal chooses to take less credit risk with more
customers. But to do this, a revolutionary platform for processing more
customers faster (but at the same level of risk) was needed.
Last year in my letter to you I described the Portfolio Control Center ("PCC"),
Coastal's new concept for originating, underwriting and approving commercial
loans. The PCC, operating full time, applies Internet and network computer
technology to an interactive, dynamic process for taking a commercial loan from
application to closing in less time and incorporating more comprehensive credit
information. The PCC allows the loan officer to manage more new customers and a
larger portfolio of existing customers.
In last year's letter, the PCC was a concept. Today it is a reality. The PCC
became fully operational during the fourth quarter of 1997. The bulk of
Coastal's commercial loan production now originates through the PCC. As a
result, loan velocity has substantially improved and the loan officers are
getting immediate feedback, freeing their time to pursue more customers.
"SOUTH" BALANCE SHEET SERVICES
But increasing the number of business customers is only half the battle.
Coastal must provide a larger universe of services to its business customers in
order to maintain adequate profitability per customer over a longer period of
time. Providing products principally for the "north" side of the balance sheet
- - working capital loans, cash management, etc. - is not enough. It's time to
begin the migration south on the customer balance sheet and provide services
that traditionally were the domain of the investment bankers - alternative
financing, raising capital, merger and acquisition services, etc. The local
advantage we have in business banking will provide a similar advantage in
investment banking.
This strategy has a dual purpose: First, it provides an avenue for Coastal to be
able to provide most balance sheet services, rather than saying "I'm sorry, we
don't do that." Second, for the long term it provides Coastal a means to
become less reliant on credit risk to produce earnings growth. Let me explain.
The traditional investment banking balance sheet is more of a virtual bank
balance sheet: The credit risk passes through to other investors but a snapshot
of the transaction (spread, fee, gain, loss) at the time of funding remains in
retained earnings. On the other hand, the traditional bank balance sheet
maintains the credit risk of its customers on its balance sheet and the spread
remains throughout the life of the relationship. Investment banks must continue
to replenish their balance sheets with new transactions, therefore they must pay
the necessary expenses. Banks don't have to replenish as often, but sometimes
pay in the form of credit losses.
As long as Coastal has low cost deposits, loan spreads on a risk-adjusted basis
will continue to be profitable. But as business customers continue to sweep
their deposits into interest-bearing accounts and spreads continue to contract,
certain types of credit risk may not be justifiable. The "credit expense" for
some of our potential customers reduces the margin on the spread to an
unacceptable level. Operating only as a traditional bank, we would turn the
customer away. But with certain investment banking capabilities, Coastal could
keep the customer, pass the credit risk through to other investors, and
replenish the balance sheet with another transaction.
The important change to note here is that Coastal will have a choice. Today,
our only choice is whether to take credit risk. Equipped with these new
capabilities, Coastal will be able to increase the number and type of business
customers, increase the revenue potential from each customer, and better manage
the credit expense imbedded in our balance sheet.
During the fourth quarter of 1997, Coastal formed Coastal Banc Capital Corp.
("CBCC"). The initial purpose of this corporation is to trade whole mortgages
and purchase mortgages for Coastal's balance sheet. Ultimately CBCC is intended
to operate as an investment banking company. This phase of our business may
take some time to develop. Once developed, Coastal will be equipped to satisfy
the non-traditional needs of our local customers. With the growth of CBCC, all
local businesses will become a potential revenue source.
LOW COST DEPOSITS IN LOW COST BRANCHES
To more effectively manage the delivery of a full complement of new commercial
products introduced during 1997, Coastal reallocated its branch banking
resources according to market needs. Adhering to its successful formula of low
overhead and low risk, management implemented a three-tier branch system. Group
1 branches offer Coastal's full line of commercial and retail products, both
lending and deposits. Group 2 branches offer full commercial and retail deposit
services, but only retail lending services. Group 3 branches offer only retail
services.
The strategy allowed the successful introduction of new commercial products
without a significant increase in overall branch overhead. However, one
experimental aspect of the new program presented an important lesson in small
community business banking. Under the new guidelines, six branches were
initially established as Group 1 branches, three of which were in small-city
markets where Coastal did not have an established commercial customer base. By
the end of 1997, the experiment revealed to management that unless a branch in a
small city market has an established clientele, the amount of resources needed
to properly establish a commercial customer base is prohibitive for a low-cost
operator such as Coastal. Therefore, during 1998, Coastal has reduced its Group
1 branches to four branches in the Houston, Austin and Victoria markets.
During 1997, Coastal acquired a $54.6 million branch in Port Arthur, Texas from
Wells Fargo Bank (Texas). Coastal will continue to seek strategic acquisitions
of whole banks and branches of banks within our markets and adjacent to our
markets. However, at present, acquisition prices have become prohibitively
expensive. Until acquisition prices become more reasonable for Coastal,
management will develop new branch locations that have the best business
potential and complement Coastal's existing branch structure. Two new branches
are planned for 1998, one in Austin and one in Houston. Due to certain budget
parameters, we are limited to establishing a maximum of two new branches per
year.
As I previously discussed, the primary reason Coastal maintained a low cost of
deposits in 1997 while new certificates of deposits were issued at higher rates
was a significant increase in transaction accounts such as money market,
checking and business checking accounts. The acquisition of the Port Arthur
branch, checking and money market account promotional campaigns coupled with
strategic initiatives to convert commercial loan customers to checking and cash
management customers made a significant positive impact on Coastal's cost of
deposits, sensitivity to interest rate changes and deposit product fee income.
Fees on deposit products, both retail and commercial, increased by 26.4% to $2.3
million in 1997 as compared to $1.8 million in 1996.
In this mature stage of the lending cycle, quality loan growth will continue to
be challenging. Since Coastal does not plan to lower its credit standards for
the sake of loan growth and earnings growth, the most effective and safest way
to improve earnings is to reduce Coastal's cost of deposits. A major strategic
focus for Coastal in 1998 will be to continue the promising trend in transaction
accounts established in 1997 and introduce additional strategies for further
reducing Coastal's cost of deposits. We will improve our certificate of deposit
pricing strategies with the goal of reducing rates in Coastal's least price
sensitive markets. We will aggressively market commercial cash management
accounts and introduce an off-balance sheet sweep account in the second quarter
of 1998 in order to attract more commercial depositors. And we will implement
new product and customer-level profitability measurements. A principal factor
in measuring profitability will be the amount by which the measured product
reduces Coastal's cost of funds.
STEPPING INTO A NEW BANKING ERA
On the weekend of July 4, 1997, Coastal moved into its new corporate
headquarters, Coastal Banc Plaza, a few miles southwest of downtown Houston.
The timing was appropriate. By mid-1997, Coastal had shed its thrift veneer and
established itself as a leading independent banking institution in Houston.
Now Coastal will confront its biggest challenge. Since we were founded in 1986,
Coastal has fed on the remnants of collapsed markets in Texas. We bought loans,
deposits and banks when everyone else was skeptical. We ventured into lending
markets in Texas before everyone was absolutely sure it was safe. Now, the
world of finance has arrived in Texas and crowded Coastal's domain. Our former
banking frontier is now a bustling metropolis of out-of-state financiers.
Notwithstanding the crowd, we have found a way to win: geography, technology,
velocity and "yes." Geography because we are local, and have been for a while.
Our customer's individual banker will not change every six months. Technology
because we use it for local delivery of custom commercial products rather than
for building and selling volumes of standardized products. Velocity because we
use geography and technology to respond immediately. And "yes," because we are
migrating south down our customers' balance sheets. It will take a little
while, but one day Coastal will provide financial services for the entire
customer balance sheet. One day our response to all commercial customers will
be: "Yes, we can do that for you."
Each year I re-state Coastal's commitment to the four operating principles that
brought us to where we are today. They have served us well since 1986, and if
you examine our present strategy, you will find those principles firmly
entrenched. We talked about reducing our cost of funds, selling more
transaction accounts, and using technology to deliver more commercial loans per
overhead dollar, but we reallocate resources to do so rather than spending new
resources. Translation: Maintain a low cost operation. We increase the
proportion of transaction deposit accounts and floating index commercial loans.
Translation: Minimize interest rate risk. We strive to make more loans with
less credit risk and introduce services that will eventually provide us a credit
risk choice. Translation: Minimize credit risk. But these three principles
are designed and strictly adhered to in order to execute, in all market
conditions, our most important principle and overall Coastal objective (I told
you it would end this way again): Maximize shareholder return.
/s/ Manuel J. Mehos
- --- -----------------
Manuel J. Mehos
Chairman of the Board and
Chief Executive Officer
COASTAL BANCORP, INC. AND SUBSIDIARIES
SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA
The following selected consolidated summary financial and other data of Coastal
Bancorp, Inc. and subsidiaries ("Coastal") does not purport to be complete and
should be read in conjunction with, and is qualified in its entirety by, the
more detailed information contained in the Consolidated Financial Statements and
Notes thereto included elsewhere herein.
<TABLE>
<CAPTION>
At December 31,
1997 1996 1995 1994 1993
---------- ---------- ---------- ---------- ----------
(in thousands except per share data and selected ratios)
<S> <C> <C> <C> <C> <C>
Balance Sheet Data
Total assets $2,911,410 $2,875,907 $2,786,528 $2,299,769 $1,928,550
Mortgage-backed securities held-to-maturity (1) 1,345,090 1,344,587 1,395,753 1,605,839 1,324,904
Mortgage-backed securities available-for-sale 169,997 180,656 186,414 32,249 --
Loans receivable (1) 1,261,435 1,229,748 1,098,555 587,032 450,104
Guaranteed Assets (2) -- -- -- -- 68,928
Savings deposits 1,375,060 1,310,835 1,287,084 1,139,622 1,023,105
Securities sold under agreements to repurchase 791,760 966,987 993,832 645,379 --
Advances from the Federal Home Loan Bank of
Dallas ("FHLB") 540,475 409,720 312,186 386,036 788,867
Senior Notes payable 50,000 50,000 50,000 -- --
Preferred Stock of the Bank 28,750 28,750 28,750 28,750 28,750
Stockholders' equity 104,830 94,148 91,679 84,680 79,254
</TABLE>
<TABLE>
<CAPTION>
For the Year Ended December 31,
1997 1996 1995 1994 1993
--------- --------- --------- --------- ---------
(in thousands except per share data and selected ratios)
<S> <C> <C> <C> <C> <C>
Operating Data (10)
Interest income $201,356 $194,611 $170,286 $129,037 $ 90,024
Interest expense 144,423 138,185 126,354 88,519 53,578
-------- -------- -------- -------- ---------
Net interest income 56,933 56,426 43,932 40,518 36,446
Provision for loan losses 1,800 1,925 1,664 934 1,151
-------- -------- -------- -------- ---------
Net interest income after provision for loan losses 55,133 54,501 42,268 39,584 35,295
Gain (loss) on sales of mortgage-backed securities
available-for-sale, net 237 (4) 81 192 --
Gain on sale of branch office -- 521 -- -- --
Other noninterest income 6,147 5,574 5,081 6,539 3,888
SAIF insurance special assessment (3) -- (7,455) -- -- --
Other noninterest expense (39,544) (37,927) (29,823) (25,731) (22,882)
-------- -------- -------- -------- ---------
Income before provision for Federal income taxes,
minority interest and cumulative effect of
accounting change 21,973 15,210 17,607 20,584 16,301
Provision for Federal income taxes (7,822) (5,671) (6,477) (4,333) (4,925)
Minority interest in income of consolidated
subsidiary -- -- -- (211) (643)
Cumulative effect of change in accounting for
income taxes (4) -- -- -- -- 973
Net income before preferred stock dividends 14,151 9,539 11,130 16,040 11,706
-------- -------- -------- -------- ---------
Preferred stock dividends of the Bank (2,588) (2,588) (2,588) (2,588) (395)
Net income available to common stockholders 11,563 6,951 8,542 13,452 11,311
======== ======== ======== ======== =========
Diluted earnings per share before cumulative effect
of accounting change (4) 2.25 1.38 1.71 2.64 1.92
Diluted earnings per share 2.25 1.38 1.71 2.64 2.10
</TABLE>
COASTAL BANCORP, INC. AND SUBSIDIARIES
SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA
<TABLE>
<CAPTION>
At or For the Year Ended December 31,
-------------------------------------
1997 1996 1995 1994 1993
------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C>
Selected Ratios
Performance Ratios (5) (10):
Return on average assets before the
1996 SAIF insurance
special assessment (6) 0.49% 0.51% 0.45% 0.71% 0.75%
Return on average assets after the
1996 SAIF insurance special
assessment 0.49 0.34 0.45 0.71 0.75
Return on average equity before the
1996 SAIF insurance
special assessment (6) 11.68 12.53 9.71 16.57 15.16
Return on average equity after the
1996 SAIF insurance special
assessment 11.68 7.50 9.71 16.57 15.16
Dividend payout ratio before the
1996 SAIF insurance special
assessment (6) 19.83 16.82 18.56 8.83 --
Dividend payout ratio after the
1996 SAIF insurance special
assessment 19.83 28.55 18.56 8.83 --
Average equity to average total assets 3.41 3.30 3.56 3.59 4.77
Net interest margin (7) 2.02 2.06 1.82 1.84 2.42
Interest rate spread including
noninterest-bearing savings
deposits (7) 1.85 1.89 1.61 1.68 2.30
Interest rate spread (7) 1.67 1.72 1.46 1.57 2.21
Noninterest expense to average total
assets before the 1996
SAIF insurance special assessment (6) 1.36 1.35 1.21 1.14 1.46
Noninterest expense to average total
assets after the 1996 SAIF
insurance special assessment 1.36 1.61 1.21 1.14 1.46
Average interest-earning assets to
average interest-bearing
liabilities 106.72 106.75 106.78 106.71 105.91
Ratio of earnings to combined fixed
charges and preferred stock dividends
before the 1996 SAIF insurance special
assessment (6):
Excluding interest on deposits 1.23X 1.25X 1.21X 1.33X 1.64X
Including interest on deposits 1.13 1.14 1.12 1.19 1.28
Ratio of earnings to combined fixed
charges and preferred stock dividends
after the 1996 SAIF insurance special
assessment:
Excluding interest on deposits 1.23 1.15 1.21 1.33 1.64
Including interest on deposits 1.13 1.09 1.12 1.19 1.28
Asset Quality Ratios:
Nonperforming assets to total assets (8) 0.71% 0.56% 0.68% 0.30% 0.22%
Nonperforming loans to total loans receivable 1.38 1.04 1.33 1.04 0.91
Allowance for loan losses to nonperforming loans 42.72 53.59 39.00 35.37 37.32
Allowance for loan losses to total loans receivable 0.59 0.56 0.52 0.37 0.34
Bank Regulatory Capital Ratios (9):
Tangible capital to adjusted total assets N/A N/A N/A N/A 5.11
Tier 1 capital to total assets 5.52 5.35 5.30 4.54 5.17
Tier 1 risk-based capital to risk-weighted assets 11.46 11.77 12.36 12.37 N/A
Total risk-based capital to risk-weighted assets 11.98 12.30 12.84 12.63 18.63
Other Data:
Full-time employee equivalents 451 433 390 298 288
Number of full service offices 37 37 40 34 26
</TABLE>
<PAGE> FOOTNOTES TO SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA
(1) Mortgage-backed securities held-to-maturity are net of premiums and
discounts. Loans receivable are net of loans in process, premiums, discounts,
unearned interest and loan fees and the allowance for loan losses.
(2) Guaranteed Assets were governed by the Assistance Agreement in
connection with the Southwest Plan Acquisition in 1988. Coastal and the FDIC
terminated the Assistance Agreement, effective March 31, 1994, pursuant to which
Coastal transferred substantially all the Guaranteed Assets back to the FDIC in
exchange for cash.
(3) On September 30, 1996, Coastal recorded the special assessment of $7.5
million as a result of the Act being signed into law. The special assessment
pursuant to the Act was 65.7 basis points on the SAIF assessment base as of
March 31, 1995. See Note 18 of the Notes to Consolidated Financial Statements.
(4) Coastal adopted the Financial Accounting Standards Board's Statement No.
109 as of January 1, 1993. The cumulative effect of this change in accounting
for income taxes of $973,000 was determined as of January 1, 1993. Prior years'
financial statements were not restated to apply the provisions of Statement No.
109.
(5) Ratio, yield and rate information are based on year-to-date average
balances.
(6) These ratios are calculated before the after-tax effect of the special
assessment of $4.8 million recorded on September 30, 1996. See Note 18 of the
Notes to Consolidated Financial Statements.
(7) Net interest margin represents net interest income as a percentage of
average interest-earning assets. Interest rate spread including
noninterest-bearing savings deposits represents the difference between the
weighted average yield on interest-earning assets and the weighted average rate
on interest-bearing liabilities and noninterest-bearing savings deposits.
Interest rate spread represents the difference between the weighted average
yield on interest-earning assets and the weighted average rate on
interest-bearing liabilities.
(8) Nonperforming assets consist of nonaccrual loans, real estate acquired
by foreclosure and repossessed assets but do not include Guaranteed Assets
acquired in the Southwest Plan Acquisition. See Note 2 above.
(9) Prior to the conversion of the Bank to a state savings bank in July
1994, Office of Thrift Supervision ("OTS") regulations required the Bank to
maintain tangible capital equal to at least 1.5% of adjusted total assets,
minimum core or Tier 1 capital equal to at least 3.0% of adjusted total assets
and a minimum ratio of total capital to risk-weighted assets of 8.0%. Current
FDIC regulations require the Bank to maintain Tier 1 capital equal to at least
4.0% of total assets, Tier 1 risk-based capital equal to at least 4.0% of
risk-weighted assets and total risk-based capital equal to at least 8.0% of
risk-weighted assets.
(10) Certain 1996, 1995, 1994 and 1993 balances have been reclassified to
conform to the 1997 presentation. Such reclassifications had no effect on net
income or total stockholders' equity.
COASTAL BANCORP, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
GENERAL
Coastal Bancorp, Inc. was incorporated on March 8, 1994 in connection with
the proposed reorganization of Coastal Banc Savings Association (the
"Association") into the holding company form of organization, which occurred on
July 29, 1994. In addition, effective July 29, 1994, the Association converted
to a Texas-chartered savings bank known as Coastal Banc ssb (the "Bank"). As a
result of the reorganization, Coastal Bancorp, Inc. ("Bancorp") became the owner
of 100% of the voting stock of the Bank and each share of the Association's
common stock now represents one share of common stock of Bancorp. The holders
of the 9.0% Noncumulative Preferred Stock, Series A, of the former Coastal Banc
Savings Association now own an equal number of shares of 9.0% Noncumulative
Preferred Stock, Series A, of the Bank.
On November 30, 1996, Coastal Banc Holding Company, Inc. ("HoCo") was
created as a Delaware unitary savings bank holding company in accordance with
the terms of an agreement and plan of reorganization dated August 19, 1996 (the
"Agreement"). Pursuant to the terms of the Agreement, the Bank became a
wholly-owned subsidiary of HoCo and HoCo became a wholly-owned subsidiary of
Bancorp.
On September 30, 1996, Coastal recorded the special assessment of $7.5
million ($4.8 million after applicable income taxes) as a result of the Act
being signed into law. The special assessment pursuant to the Act was 65.7
basis points on the SAIF deposit assessment base as of March 31, 1995. Other
provisions of the Act provided for a reduction of the SAIF deposit insurance
premium rates beginning in the fourth quarter of 1996.
On June 30, 1995, Bancorp issued $50.0 million of 10.0% Senior Notes due
June 30, 2002. The Senior Notes are redeemable at Coastal's option, in whole or
in part, on or after June 30, 2000, at par, plus accrued interest to the
redemption date. Of the proceeds received from the issuance of the Senior
Notes, $44.9 million was used to purchase the 11.13% Noncumulative Preferred
Stock, Series B, of the Bank which is now owned by HoCo.
FINANCIAL CONDITION
Total assets increased 1.23% or $35.5 million from December 31, 1996 to
December 31, 1997. The net increase resulted primarily from the increase in
loans receivable of $31.7 million, an increase in cash and amounts due from
depository institutions of $9.4 million and an increase in property and
equipment of $7.3 million offset by a decrease of $10.7 million in
mortgage-backed securities available-for-sale. The increase in loans receivable
consisted primarily of increases of $62.3 million, $45.1 million and $11.3
million, in commercial real estate mortgage loans, commercial loans secured by
residential mortgage loans held for sale, and commercial loans secured by
mortgage servicing rights, respectively, offset by a $101.6 million decrease in
first lien residential mortgage loans due to principal reductions and payoffs
received. The increase in property and equipment was due primarily to the
acquisition of assets related to the relocation of Coastal's corporate
headquarters in July of 1997. The relocation consolidated Coastal's
administrative, primary lending and mortgage servicing offices. The decrease in
mortgage-backed securities available-for-sale was primarily due to the sale of
$11.3 million of securities in this category. At December 31, 1997, loans
receivable as a percentage of total assets increased to 43.3% as compared to
42.8% at December 31, 1996, as part of management's plan to increase the loans
receivable portfolio to approximately 50% of total assets within three to five
years.
Savings deposits increased 4.9% or $64.2 million from December 31, 1996 to
December 31, 1997. This increase was primarily due to a branch acquisition of
$54.6 million in deposits completed on June 21, 1997. Advances from the FHLB
increased by 31.9% or $130.8 million and securities sold under agreements to
repurchase decreased 18.1% or $175.2 million from December 31, 1996 to December
31, 1997. The reallocation of borrowings during such period was directly
attributable to Coastal's change in funding sources to take advantage of more
favorable interest rates and the deployment of cash received from the branch
acquisition.
Common stockholders' equity increased 11.4% or $10.7 million from December
31, 1996 to December 31, 1997 due to 1997 net income available to common
stockholders of $11.6 million and a $829,000 decrease in the unrealized loss on
securities available-for-sale, offset by common stock dividends declared of $2.3
million.
RESULTS OF OPERATIONS FOR THE THREE YEARS ENDED DECEMBER 31, 1997
The results of operations of Coastal Bancorp, Inc. and subsidiaries depend
primarily on its net interest income, which is the difference between interest
income on interest-earning assets and interest expense on its interest-bearing
liabilities. Coastal's interest-earning assets consist principally of
mortgage-backed securities, loans receivable and other investments. Coastal's
interest-bearing liabilities consist primarily of savings deposits, securities
sold under agreements to repurchase, advances from the FHLB and its Senior
Notes. Coastal's net income is also affected by its level of noninterest
income, including loan fees and service charges on deposit accounts, loan
servicing income, and gains on sales of assets, as well as by its noninterest
expense, including compensation and benefits and occupancy costs and, in 1996,
the special assessment.
The following table sets forth, for the periods and at the dates indicated,
information regarding Coastal's average balance sheets. Ratio, yield and rate
information is based on year-to-date average balances.
<TABLE>
<CAPTION>
At Year Ended
December 31, 1997 December 31,1997
Yield/ Average Yield/
Rate Balance Interest Rate
----------------- --------- -------- -------
(Dollars in thousands)
<S> <C> <C> <C> <C>
ASSETS
Interest-earning assets:
Loans receivable 8.30% $1,281,493 $ 106,962 8.35%
Mortgage-backed securities 6.25 1,514,541 92,755 6.12
U.S. Treasury security -- 3 -- --
Securities purchased under agreements to resell
and federal funds sold -- 4,024 251 6.24
FHLB stock 6.00 21,663 1,292 5.96
Interest-earning deposits in other depository
institutions 5.89 2,416 96 3.97
------ ---------- -------- ------
Total interest-earning assets 7.17 2,824,140 201,356 7.13
------ ---------- ------- ------
Noninterest-earning assets (1) 81,400
----------
Total assets (2) $2,905,540
==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest-bearing liabilities:
Interest-bearing savings deposits 5.04% $1,253,142 $ 62,912 5.02%
Securities sold under agreements to repurchase
and federal funds purchased 6.00 974,297 55,189 5.66
Advances from the FHLB 5.95 368,896 21,322 5.78
Senior Notes payable 10.00 50,000 5,000 10.00
------ ---------- -------- -----
Total interest-bearing liabilities 5.60 2,646,335 144,423 5.46
------ ---------- -------- ------
Noninterest-bearing liabilities 131,431
----------
Total liabilities 2,777,766
Preferred Stock of the Bank 28,750
Stockholders' equity 99,024
----------
Total liabilities and stockholders' equity $2,905,540
==========
Net interest income; interest rate spread 1.57% $ 56,933 1.67%
======= ========= =====
Net interest-earning assets; net interest yield on
interest-earning assets $ 177,805 2.02%
========== ======
Ratio of average interest-earning assets to average
interest-bearing liabilities 1.07x
==========
Year Ended December 31, 1996
Average Yield/
Balance Interest Rate
------- -------- ----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
ASSETS
Interest-earning assets:
Loans receivable $ 1,156,933 $ 97,935 8.47%
Mortgage-backed securities 1,556,966 95,155 6.11
U.S. Treasury security 1,002 54 5.39
Securities purchased under
agreements to resell
and federal funds sold -- -- --
FHLB stock 21,853 1,288 5.89
Interest-earning deposits in other
depository institutions 4,149 179 4.31
----------- ------- -----
Total interest-earning assets 2,740,903 194,611 7.10
----------- -------- ------
Noninterest-earning assets (1) 71,344
-----------
Total assets (2) $ 2,812,247
===========
LIABILITIES AND STOCKHOLDERS'
EQUITY
Interest-bearing liabilities:
Interest-bearing savings deposits $ 1,199,651 $ 60,076 5.01%
Securities sold under agreements
to repurchase
and federal funds purchased 930,706 51,360 5.52
Advances from the FHLB 387,296 21,749 5.62
Senior Notes payable 50,000 5,000 10.00
----------- ------- ------
Total interest-bearing liabilities 2,567,653 138,185 5.38
----------- -------- ------
Noninterest-bearing liabilities 123,160
-----------
Total liabilities 2,690,813
Preferred Stock of the Bank 28,750
Stockholders' equity 92,684
-----------
Total liabilities and
stockholders' equity $ 2,812,247
===========
Net interest income; interest rate spread $ 56,426 1.72%
======== ======
Net interest-earning assets;
net interest yield on
interest-earning assets $ 173,250 2.06%
=========== ======
Ratio of average interest-earning
assets to average
interest-bearing liabilities 1.07x
===========
Year Ended December 31, 1995
Average Yield/
Balance Interest Rate
------- -------- ------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
ASSETS
Interest-earning assets:
Loans receivable $ 765,404 $ 66,405 8.68%
Mortgage-backed securities 1,625,044 102,194 6.29
U.S. Treasury security 667 39 5.85
Securities purchased under
agreements to resell and
federal funds sold -- -- --
FHLB stock 20,297 1,318 6.49
Interest-earning deposits in other
depository institutions 3,958 330 8.34
----------- -------- ------
Total interest-earning assets 2,415,370 170,286 7.05
----------- -------- ------
Noninterest-earning assets (1) 56,370
-----------
Total assets (2) $ 2,471,740
===========
LIABILITIES AND STOCKHOLDERS'
EQUITY
Interest-bearing liabilities:
Interest-bearing savings deposits $ 1,116,788 $ 56,716 5.08%
Securities sold under agreements to
repurchase and federal funds purchased 752,427 45,022 5.98
Advances from the FHLB 367,895 22,116 6.01
Senior Notes payable 25,000 2,500 10.00
----------- --------- ------
Total interest-bearing liabilities 2,262,110 126,354 5.59
----------- -------- ------
Noninterest-bearing liabilities 92,919
-----------
Total liabilities 2,355,029
Preferred Stock of the Bank 28,750
Stockholders' equity 87,961
-----------
Total liabilities and stockholders' equity $ 2,471,740
===========
Net interest income; interest rate spread $ 43,932 1.46%
======== ======
Net interest-earning assets; net
interest yield on interest-earning assets $ 153,260 1.82%
=========== ======
Ratio of average interest-earning assets to average
interest-bearing liabilities 1.07x
===========
</TABLE>
(1) Includes goodwill, accrued interest receivable, property and equipment,
cash, mortgage servicing rights, prepaid expenses and other assets.
(2) Nonaccruing loans are included in total assets, but are immaterial.
The following table analyzes net interest income in terms of changes in the
volume of interest-earning assets and interest-bearing liabilities and changes
in yields and rates. The table reflects the extent to which changes in
Coastal's interest income and interest expense are attributable to changes in
volume (change in volume multiplied by prior year rate) and changes in rate
(changes in rate multiplied by prior year volume). Changes attributable to the
combined impact of volume and rate have been allocated proportionately to
changes due to volume and changes due to rate.
<TABLE>
<CAPTION>
Year Ended December 31, Year Ended December 31,
1997 vs 1996 1996 vs 1995
----------------------------- ----------------------------
Increase (Decrease) Due To Increase (Decrease) Due To
----------------------------- ----------------------------
Volume Rate Net Volume Rate Net
-------- --------- -------- --------- -------- ---------
(in thousands)
<S> <C> <C> <C> <C> <C> <C>
INTEREST INCOME
Loans receivable $10,431 $ (1,404) $ 9,027 $ 33,176 $(1,646) $ 31,530
Mortgage-backed securities (2,558) 158 (2,400) (4,182) (2,857) (7,039)
U.S. Treasury security (27) (27) (54) 18 (3) 15
Securities purchased under
agreements to resell and federal
funds sold 126 125 251 -- -- --
FHLB stock (11) 15 4 97 (127) (30)
Interest-earning deposits in
other depository institutions (70) (13) (83) 15 (166) (151)
-------- --------- -------- --------- -------- ---------
Total 7,891 (1,146) 6,745 29,124 (4,799) 24,325
-------- --------- -------- --------- -------- ---------
INTEREST EXPENSE
Interest-bearing savings deposits 2,714 122 2,836 4,152 (792) 3,360
Securities sold under agreements
to repurchase and federal
funds purchased 2,484 1,345 3,829 10,010 (3,672) 6,338
Advances from the FHLB (1,042) 615 (427) 1,122 (1,489) (367)
Senior Notes payable -- -- -- 2,500 -- 2,500
-------- --------- -------- --------- -------- ---------
Total 4,156 2,082 6,238 17,784 (5,953) 11,831
-------- --------- -------- --------- -------- ---------
Net change in net interest income . $ 3,735 $ (3,228) $ 507 $ 11,340 $ 1,154 $ 12,494
======== ========= ======== ========= ======== =========
</TABLE>
NET INCOME
Coastal reported net income before preferred stock dividends of $14.2
million for the year ended December 31, 1997, $14.4 million for the year ended
December 31, 1996, before the after-tax effect of the 1996 special assessment,
and $11.1 million for the year ended December 31, 1995, respectively, a decrease
of $234,000 or 1.6% in 1997 and an increase of $3.3 million or 29.2% in 1996 in
each case in comparison to the prior year. The $234,000 decrease in 1997 was
primarily due to a $507,000 increase in net interest income, a $125,000 decrease
in the provision for loan losses and a $293,000 increase in noninterest income
offset by a $1.6 million increase in noninterest expense (excluding the 1996
special assessment). The increase in noninterest income is due to a $568,000
increase in loan fees and service charges on deposit accounts, a $237,000 gain
on sales of mortgage-backed securities available-for-sale in 1997 and a $164,000
increase in other noninterest income, offset by a $159,000 decrease in loan
servicing income and the $521,000 gain on the sale of a branch office recognized
in 1996. The $1.6 million increase in noninterest expense (excluding the 1996
special assessment) was primarily due to the overall compensation and occupancy
expenses related to an increase in personnel hired for the expansion of the loan
products offered and the continuing development of commercial business lending
programs. In addition, occupancy expenses also increased due to the acquisition
of assets and other expenses related to the relocation of Coastal's corporate
headquarters and consolidation of its administrative, primary lending and
mortgage servicing offices in the third quarter of 1997. These increases were
somewhat offset by the $1.1 million decrease in insurance premiums (primarily
deposit insurance premiums). In addition, other noninterest expense and data
processing expense decreased $646,000 and $202,000, respectively.
The $3.3 million increase in net income before preferred stock dividends in
1996 was primarily due to a $12.5 million increase in net interest income, a
$929,000 increase in noninterest income, offset by a $8.1 million increase in
noninterest expense before the $7.5 million special assessment. The increase in
noninterest income was primarily a result of increased loan fees and service
charges on deposit accounts of $952,000 and the $521,000 gain on the sale of a
branch office, partially offset by a decrease in loan servicing income of
$391,000. The increase in noninterest expense before the $7.5 million special
assessment was primarily due to increased operating expenses as a result of the
Texas Capital Bancshares, Inc. ("Texas Capital") acquisition on November 1,
1995. The increased noninterest expense was also due to overall compensation
and occupancy expenses related to the expansion of the loan product base being
offered by Coastal to its customers, primarily relating to the continuing
development of commercial business lending programs, the May 1996 bank data
processing conversion and the June 1996 conversion of the five former Texas
Capital locations to the new data processing system. Coastal converted its bank
data processing system to a PC based client server technology throughout its
branch network to enable the branch offices to offer a more expanded product
base (including loan and deposit products) and to automate and upgrade the work
flow in the customer contact areas, allowing branch office employees a better
opportunity to serve their customers. The cost during the period related to the
data processing conversion was approximately $360,000. Net income before
preferred stock dividends and after the after-tax effect of the special
assessment was $9.5 million for the year ended December 31, 1996.
NET INTEREST INCOME
Net interest income amounted to $56.9 million in 1997, a $507,000, or 0.9%
increase over 1996. The increase in net interest income was due to a slight
increase in average net interest-earning assets of $4.6 million offset by the
overall decrease in interest rate spread, defined to exclude noninterest-bearing
deposits, from 1.72% in 1996 to 1.67% in 1997. Management also calculates an
alternative net interest spread which includes noninterest-bearing deposits.
Under this calculation, the net interest spreads for 1997 and 1996 were 1.85%
and 1.89%, respectively. Net interest rate spread is affected by the changes in
the amount and composition of interest-earning assets and interest-bearing
liabilities and their concomitant interest rates. The decrease in the net
interest spread in 1997 was primarily due to the increase in the average yield
on interest-earning assets from 7.10% in 1996 to 7.13% in 1997, offset by the
increase in the average interest rates on interest-bearing liabilities from
5.38% in 1996 to 5.46% in 1997. During 1997, Coastal experienced a tightening
in net interest income due primarily to higher borrowing costs and the anomaly
that the spread between the London Interbank Offered Rate ("LIBOR") and the
Treasury rate (the "TED" spread) has been much wider than usual. The TED spread
historically (6 year average) has been 40 basis points, but for 1997 was 56
basis points, which would equate to an additional $1.4 million in net income or
$0.27 per share (after tax) for the year had the spread been consistent with the
6 year average. While management believes that the higher borrowing costs are
temporary due to the TED spread and usual year-end pricing, efforts are
continuing to replace borrowings with lower cost deposits and to maintain
reasonable operating expenses during this period. In addition, interest income
for the last six months of 1997 was reduced by the additional amortization of
premium on purchased mortgage loans of approximately $1.3 million. This
amortization was attributable to prepayments related to an adjustable rate whole
loan package purchased in the second quarter of the year. Management believes
the prepayments could continue at least through the first quarter of 1998,
depending on interest rate movements.
Net interest income amounted to $56.4 million in 1996, a $12.5 million, or
28.4% increase over 1995. This increase in net interest income was due to an
increase in average net interest-earning assets of $20.0 million and an increase
in interest rate spread, defined to exclude noninterest-bearing deposits, from
1.46% in 1995 to 1.72% in 1996. The net interest spread including
noninterest-bearing deposits for 1996 and 1995 was 1.89% and 1.61%,
respectively. The increase in the net interest spread in 1996 was primarily due
to the decrease in the average interest rates on interest-bearing liabilities
from 5.59% in 1995 to 5.38% in 1996 and a slight increase in the average yield
on interest-earning assets from 7.05% in 1995 to 7.10% in 1996.
Total interest income amounted to $201.4 million during 1997, a $6.7
million, or 3.5% increase from 1996. A $9.0 million, or 9.2%, increase in
interest earned on loans receivable during 1997 resulted from a $124.6 million,
or 10.8%, increase in the average balance of loans receivable offset partially
by a decrease of 12 basis points in the yield earned compared to 1996. A $2.4
million, or 2.5%, decrease in interest earned on mortgage-backed securities
during 1997 was due to a $42.4 million, or 2.7%, decrease in the average balance
of mortgage-backed securities due to principal payments received and the sale of
$11.3 million of mortgage-backed securities available-for-sale. In addition,
interest earned on federal funds sold, certificates of deposits and other
investments increased slightly by $118,000, or 7.8%, due primarily to the
increase in the average balance of such assets, through growth and the branch
acquisition, of $1.1 million during 1997.
Total interest income amounted to $194.6 million during 1996, a $24.3
million, or 14.3%, increase from 1995. A $31.5 million, or 47.5%, increase in
interest earned on loans receivable during 1996 resulted primarily from a $391.5
million, or 51.2%, increase in the average balance of loans receivable offset
partially by a decrease in the yield earned of 21 basis points compared to 1995.
A $7.0 million, or 6.9%, decrease in interest earned on mortgage-backed
securities during 1996 was due to a $68.1 million, or 4.2%, decrease in the
average balance of mortgage-backed securities due to principal payments received
and a decrease in the yield earned of 18 basis points. In addition, interest
earned on federal funds sold, certificates of deposits and other investments
decreased $166,000, or 9.8%, due to the lower average yield earned during 1996.
Total interest expense amounted to $144.4 million in 1997, a $6.2 million,
or 4.5%, increase from 1996. Interest expense on other borrowed money increased
$3.8 million, or 7.5%, due to the $43.6 million, or 4.7%, increase in the
average balance of securities sold under agreements to repurchase and federal
funds purchased and a 14 basis point increase in the interest rates paid. A
$2.8 million, or 4.7%, increase in interest on savings deposits was primarily
due to a $53.5 million, or 4.5%, increase in the average balance of
interest-bearing savings deposits. Interest expense on advances from the FHLB
decreased $427,000, or 2.0%, due to the decrease in the average balance of
advances from the FHLB of $18.4 million, or 4.8%, offset by a 16 basis point
increase in the average rates paid.
Total interest expense amounted to $138.2 million in 1996, an $11.8
million, or 9.4%, increase from 1995. A $6.3 million, or 14.1%, increase in
interest paid on other borrowed money was due to a $178.3 million increase in
the average balance of securities sold under agreements to repurchase and
federal funds purchased offset by a 46 basis point decrease in interest rates
paid. A $3.4 million, or 5.9% increase in interest paid on savings deposits was
due to a $82.9 million, or 7.4%, increase in the average balance of
interest-bearing deposits offset by a 7 basis point decrease in interest rates
paid. The interest expense of $5.0 million on the Senior Notes payable in 1996
was due to the issuance of $50.0 million of the 10.0% Senior Notes on June 30,
1995. These increases were somewhat offset by the $367,000 decrease in interest
paid on advances from the FHLB. The decrease in interest paid on advances from
the FHLB was due to a 39 basis point decrease in interest rates paid offset by a
$19.4 million increase in the average balance.
PROVISION FOR LOAN LOSSES
Management established provisions for loan losses of $1.8 million, $1.9
million and $1.7 million for the years ended December 31, 1997, 1996 and 1995,
respectively. Provisions for loan losses, currently $450,000 per quarter, are
charged to earnings to bring the total allowance for loan losses to a level
deemed appropriate by management based on such factors as historical loss
experience, the volume and type of lending conducted by Coastal, the amount of
nonperforming assets, industry standards, regulatory policies, generally
accepted accounting principles, general economic conditions, particularly as
they relate to Coastal's lending areas, and other factors related to the
collectibility of Coastal's loan portfolio. Coastal's asset quality ratios have
remained relatively consistent from December 31, 1995 to December 31, 1997.
Nonperforming loans as a percentage of total loans receivable was 1.4%, 1.0% and
1.3% at December 31, 1997, 1996 and 1995, respectively. The allowance for loan
losses as a percentage of nonperforming loans was 42.7%, 53.6% and 39.0% at
December 31, 1997, 1996 and 1995, respectively. The allowance for loan losses
as a percentage of total loans receivable was 0.6%, 0.6% and 0.5% at December
31, 1997, 1996 and 1995, respectively.
Coastal's management believes that its present allowance for loan losses is
adequate, based upon, among other factors, its low level of nonperforming assets
and minimal loss experience. Management will continue to review its loan loss
policy as Coastal's loan portfolio grows and diversifies to determine if changes
to the policy are necessary.
<PAGE>
NONINTEREST INCOME
Total noninterest income amounted to $6.4 million during 1997, an increase
of $293,000, or 4.8%, over 1996. The increase in noninterest income is
primarily due to an increase of $568,000 in loan fees and service charges on
deposit accounts, a $237,000 gain on sales of mortgage-backed securities
available-for-sale in 1997 and a $164,000 increase in other noninterest income,
offset by the decrease of $159,000 in loan servicing income, due to the reducing
servicing portfolio, and the $521,000 gain on the sale of a branch office
recorded in 1996. The increase in loan fees and service charges on deposit
accounts consisted of an increase of $87,000 in loan fees and a $481,000
increase in service charges on deposit accounts, primarily due to the increase
in transaction type deposit accounts from 1996 to 1997 and the 1997 branch
acquisition which consisted of 53.5% transaction type deposit accounts. The
gain on the sales of mortgage-backed securities available-for-sale was the
result of the sale of securities with a book value of $11.3 million during 1997.
Total noninterest income amounted to $6.1 million during 1996, an increase
of $929,000, or 18.0%, over 1995. The increase in noninterest income was
primarily due to an increase of $952,000 in loan fees and service charges on
deposit accounts and a $521,000 gain recorded as a result of the sale of a
branch office in May 1996 offset by a decrease of $391,000 in loan servicing
income in 1996 from 1995. The increase in loan fees and service charges on
deposit accounts consisted of a $46,000 increase in loan fees and a $906,000
increase in service charges on deposit accounts primarily due to the Texas
Capital acquisition. Coastal also experienced slight decreases of $85,000 and
$68,000 in the gain (loss) on sales of mortgage-backed securities
available-for-sale and other noninterest income, respectively.
NONINTEREST EXPENSE
Total noninterest expense amounted to $39.5 million during 1997, an
increase of $1.6 million, or 4.3%, over 1996 before the effect of the 1996
special assessment. Compensation, payroll taxes and other benefits and office
occupancy increased $2.2 million and $1.3 million, respectively, primarily due
to the overall increase in personnel hired for the expansion of the loan
products offered and the continuing development of the commercial business
lending programs. In addition, occupancy expenses also increased due to the
acquisition of assets and other expenses related to the relocation of Coastal's
corporate headquarters and consolidation of its administrative, primary lending
and mortgage servicing offices in the third quarter of 1997. Of the $1.3
million increase in occupancy expenses, approximately $128,000 were nonrecurring
expenses incurred due to the relocation. The amortization of goodwill increased
$56,000 during 1997 due primarily to the 1997 branch acquisition and the related
goodwill recorded. These increases were somewhat offset by decreases of $1.1
million, $646,000 and $202,000 in insurance premiums, other noninterest expenses
and data processing expense, respectively. The decrease in insurance premiums
was due to the decrease in deposit insurance premiums pursuant to the reduced
assessment rates applicable to Coastal as a result of the passage of the Act in
1996. The decrease in data processing expenses was primarily due to the
expenses incurred in 1996 related to the May 1996 bank data processing
conversion and the conversion in June of 1996 of the five former Texas Capital
locations acquired in 1995 to the new data processing system.
Total noninterest expense, excluding the $7.5 million special assessment
(before applicable income taxes), amounted to $37.9 million during 1996, an
increase of $8.1 million, or 27.2%, over 1995. Compensation, payroll taxes and
other benefits and office occupancy expense increased $4.5 million and $1.4
million to $16.5 million and $6.0 million, respectively, primarily due to the
operation of the five offices acquired from Texas Capital on November 1, 1995,
two de novo branches opened in March 1995 and staffing increases related to the
expansion of the loan product base available to customers and the continuing
development of the commercial business lending programs and to the overtime and
contract labor utilized for the data processing conversion. The amortization of
goodwill increased by $511,000, also due primarily to the Texas Capital
acquisition. Data processing expenses increased $678,000 due to the Texas
Capital acquisition, the May 1996 bank data processing conversion and the
conversion in June 1996 of the former Texas Capital locations acquired in 1995
to the new data processing system. Expenses related to real estate owned
increased by $484,000 and other expenses (including advertising) increased $1.5
million, or 23.8%, over the prior year. Insurance premiums decreased $1.0
million, or 32.2%, due to the $636,000 refund of the fourth quarter 1996 SAIF
assessment payment as a result of the re-capitalization of SAIF pursuant to the
Act and an overall decrease in assessment rate applicable in 1996 as compared to
the rate applicable in 1995.
PROVISION FOR FEDERAL INCOME TAXES
Coastal generated no regular Federal taxable income in 1997, 1996 or 1995
primarily due to the utilization of the net operating loss carryovers acquired
from the associations obtained in connection with the Southwest Plan Acquisition
and because payments to Coastal pursuant to the Assistance Agreement in prior
years were excludable from taxable income, which resulted in Coastal reporting
losses each year for tax purposes. However, pursuant to the terms of the
Assistance Agreement, the FSLIC Resolution Fund ("FRF") retained all of the
future tax benefits to be derived from the Federal income tax treatment of the
assistance payments received from the FRF and from the utilization of the net
operating loss carryovers acquired. The amount of tax benefit to Coastal during
these years (which corresponds to the amount of Federal taxes which Coastal
would have paid in these years but for the tax-exempt nature of the assistance
payments from the FRF and the utilization of the net operating loss carryovers)
is recorded in Coastal's Consolidated Statements of Operations as its provision
for Federal income taxes, which also includes alternative minimum taxes paid.
The alternative minimum taxes recorded during these years will be available as
credit carryforwards to reduce future Federal regular income taxes over an
indefinite period.
The provisions for Federal income taxes were $7.8 million in 1997, $5.7
million in 1996 and $6.5 million in 1995. Although the termination of the
Assistance Agreement was effective March 31, 1994, the FRF will continue to
receive the future Federal income tax benefits of the net operating loss
carryforwards acquired.
ASSET AND LIABILITY MANAGEMENT
Coastal's asset and liability management process is utilized to measure and
manage its interest rate risk exposure, which is Coastal's primary market risk.
Interest rate risk can be defined as the exposure of Coastal's net interest
income to adverse movements in interest rates. The principal determinant of the
exposure of Coastal's earnings to interest rate risk is the timing difference
between the repricing or maturity of Coastal's interest-earning assets and the
repricing or maturity of its interest-bearing liabilities. In order to minimize
interest rate risk and achieve an acceptable interest rate spread between
interest-earning assets and interest-bearing liabilities, Coastal endeavors to
match the timing of the repricing or maturities as well as the basis (for
example, LIBOR or cost of funds rate) of its interest-earning assets to its
interest-bearing liabilities. Coastal also uses interest rate swap and cap
agreements to aid in minimizing exposure to interest rate fluctuations. These
strategies are described below.
Coastal's asset and liability management strategy is formulated and
monitored by the Asset/Liability Committee of the Board of Directors of the Bank
(the "Board"). The Board's written policies and procedures are implemented by
the Asset/Liability Subcommittee (the "Subcommittee"), a management-staffed
committee composed of the Chief Executive and Chief Lending Officers of the
Bank, in addition to members of the Bank's Portfolio Control Center. The
Subcommittee meets regularly to review, among other things, the sensitivity of
Coastal's assets and liabilities to interest rate changes, including those
transactions attributable to altering the interest rate risk, the purchase and
sale activity and maturities of investments and borrowings. A representative of
the Subcommittee also meets with members of Coastal's banking, treasury and
marketing areas to participate in pricing and funding decisions with respect to
Coastal's overall asset and liability composition. In accordance therewith, the
Subcommittee reviews Coastal's liquidity, cash flow needs, maturities of
investments, deposits and borrowings, interest rate matching, core deposit
activity, current market conditions and interest rates on both a local and
national level.
To effectively measure and manage interest rate risk, the Asset/Liability
Committee of the Board and the Subcommittee regularly review interest rate risk
by forecasting the impact of alternative interest rate scenarios on net interest
income and on Coastal's economic value of equity ("EVE"), which is defined as
the difference between the market value of Coastal's existing assets and
liabilities, including the effects of off-balance sheet instruments, and by
evaluating such impact against the guidelines established by the Board for
allowable changes in net interest income and EVE. Coastal utilizes the
market-value analysis to address the change in the equity value of Coastal's
balance sheet arising from movements in interest rates by computing the net
present value of Coastal's assets, liabilities and off-balance sheet instruments
using selected interest rate scenarios. The extent to which assets have gained
or lost value in relation to the gains or losses of liabilities determines the
appreciation or depreciation in equity on a market-value basis. Economic value
analysis is intended to evaluate the impact of immediate and sustained interest
rate shifts of the current yield curve upon the market value of the current
balance sheet.
From these analyses, interest rate risk is quantified and appropriate
strategies are formulated and implemented on an ongoing basis. Based on
Coastal's December 31, 1997 interest rate sensitivity position, management
believes that at December 31, 1997 an immediate 100 basis point increase in
interest rates could cause a short term decrease in net interest income due to
timing differences but would not have a significant impact over a twelve month
period. There can be no assurance that this conclusion will not change as the
assumptions utilized by management to reach such conclusion change over time.
The following table presents an analysis of the sensitivity in Coastal's
net interest income over a four-quarter period and the EVE based on the
indicated changes in interest rates at December 31, 1997 and 1996. The interest
rate scenarios presented in the table include interest rates at December 31,
1997 and 1996 and, for the net interest income calculation, as adjusted by the
indicated changes in interest rates over a four-quarter period, and for the EVE
calculation, as adjusted by instantaneous and parallel changes in interest rates
of upward and downward of up to 200 basis points. Each rate scenario reflects
unique prepayment and repricing assumptions.
<PAGE>
<TABLE>
<CAPTION>
Estimated Change In
Change Net Interest Income EVE
In Interest Rates December 31, December 31,
(in basis points) 1997 1996 1997 1996
- ------------------- ------- ------ ------- -------
<S> <C> <C> <C> <C>
+200 (7.41)% 0.96% (21.07)% (36.81)%
+100 (3.76) (0.35) (6.52) (17.02)
0 -- -- -- --
- -100 3.52 1.57 0.18 7.02
- -200 7.25 1.37 (6.54) 3.78
</TABLE>
There are limitations inherent in any methodology used to estimate the
exposure to changes in market interest rates. Therefore, this analysis is not
intended to be a forecast of the actual effect of a change in market interest
rates on Coastal. Management of Coastal believes that all of the assumptions
used in this analysis to evaluate the vulnerability of Coastal's operations to
changes in interest rates take into account historical experience and considers
them reasonable; however, the interest rate sensitivity of Coastal's assets and
liabilities and the estimated effects of changes in interest rates on Coastal's
net interest income and EVE indicated in the above analysis could vary
substantially if different assumptions were used or if actual experience differs
from the historical experience on which it is based.
The EVE is significantly impacted by the estimated effect of prepayment
risk on the value of mortgage-backed securities, loans receivable and mortgage
servicing rights as market interest rates change. Prepayment risk arises due to
the possibility that the cash flow experience of an asset may change as interest
rates change. When interest rates increase, assets will generally not be
prepaid and conversely, when interest rates decrease, prepayments increase. The
magnitude of the risk that a higher yielding asset will prepay is a direct
function of interest rate variability over the life of the assets. Prepayments
affect Coastal's net spread and the duration match of its assets and
liabilities. Coastal has prepayment risk on its mortgage-backed securities and
loans receivable held at a premium and on its mortgage servicing rights due to
the fact that the amortization of the capitalized premiums on those assets will
accelerate when the underlying loans are prepaid. Coastal attempts to
anticipate its prepayment risk by extrapolation from past prepayment behavior
after adjusting for expected interest rate levels and other economic factors and
utilizes these assumptions when analyzing its risk exposure.
A more conventional but limited asset and liability monitoring tool
involves analyzing the extent to which assets and liabilities are "interest rate
sensitive" and measuring an institution's interest rate sensitivity "gap."
While this conventional gap measure may be useful, it is limited in its ability
to predict trends in future earnings and to predict the effect of changing
interest rates. It makes no assumptions about changes in prepayment tendencies,
deposit or loan maturity preferences or repricing time lags that may occur in
response to a change in the interest rate environment. An asset or liability is
said to be interest rate sensitive within a specific time period if it will
mature or reprice within that time period. The interest rate sensitivity "gap"
is defined as the difference between interest-earning assets and
interest-bearing liabilities maturing or repricing within a given time period.
A gap is considered positive when the amount of interest rate sensitive assets
exceeds the amount of interest rate sensitive liabilities. A gap is considered
negative when the amount of interest rate sensitive liabilities exceeds interest
rate sensitive assets. During a period of rising interest rates, a negative gap
would tend to adversely affect net interest income, while a positive gap would
tend to result in an increase in net interest income. During a period of
falling interest rates, a negative gap would tend to increase net interest
income, while a positive gap would tend to adversely affect net interest income.
Given Coastal's current position based on this "gap" analysis, however,
Coastal's net interest spread would benefit over time from a gradual increase in
interest rates, in which its assets may be redeployed at higher yields. If
interest rates were to fall, yields earned on interest rate sensitive
investments would be reduced, while longer term fixed liability costs, such as
Coastal's certificates of deposits, would not immediately change. While this
interest-sensitivity analysis takes into account repricing and maturities of
assets and liabilities, it fails to consider the interest rate sensitivities of
those asset and liability accounts.
The following table summarizes the contractual maturities or repricing
characteristics of Coastal's interest-earning assets and interest-bearing
liabilities adjusted for the effects of interest rate swaps and caps at December
31, 1997. The principal balance of adjustable rate assets is included in the
period in which they are first scheduled to adjust rather than in the period in
which they mature. Other material assumptions are set forth in the footnotes to
the table.
<TABLE>
<CAPTION>
As of December 31, 1997
More than
Three months three months
or less to one year
--------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C>
INTEREST-SENSITIVE ASSETS
Loans, net (1)(2):
First lien mortgage-single family fixed rate $ 665 $ 1,094
First lien mortgage-single family adjustable
rate 56,558 383,485
First lien mortgage-multifamily fixed rate 6,075 7,724
First lien mortgage-multifamily variable rate 106,583 --
Construction and acquisition and
development, net of loans in process 71,848 86
Commercial real estate 120,797 1,343
Commercial 146,867 1,120
Consumer and other 7,447 4,537
Mortgage-backed securities held-to-maturity(1)(2) 1,131,883 --
Mortgage-backed securities available-for-sale
(1)(2) 169,997 --
Other interest-earning assets (3) 32,038 --
----------- ----------
Total interest-sensitive assets 1,850,758 399,389
----------- ----------
Noninterest-sensitive assets
Total assets
INTEREST-SENSITIVE LIABILITIES:
Savings deposits (4):
Interest-bearing checking accounts $ 69,972 $ --
Savings accounts 25,555 --
Money market accounts 165,986 --
Certificate accounts (including discount) 257,263 524,117
Securities sold under agreements to repurchase 647,048 144,712
Advances from the FHLB 307,100 13,819
Senior Notes payable -- --
----------- ----------
Total interest-sensitive liabilities 1,472,924 682,648
----------- ----------
Noninterest-sensitive liabilities
Total liabilities
Preferred Stock of the Bank
Common stockholders' equity
Total liabilities and stockholders'
equity
Gap during the period $ 377,834 $(283,259)
Effect of interest rate swaps and caps(5) 84,847 (43,400)
----------- ----------
Cumulative gap after effect of interest rate swaps
and caps $ 462,681 $ 136,022
=========== ==========
Interest-sensitive assets as a % of interest-sensitive
liabilities (cumulative) 125.65% 104.39%
Interest-sensitive assets as a % of total
assets (cumulative) 63.57 77.29
Ratio of gap after effect of interest rate swaps and caps
to total assets 15.89 (11.22)
Ratio of cumulative gap after effect of interest rate
swaps and caps to total assets 15.89 4.67
As of December 31, 1997
-----------------------------------
More than More than
one year to three years to
three years five years
-----------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C>
INTEREST-SENSITIVE ASSETS
Loans, net (1)(2):
First lien mortgage-single family fixed rate $ 3,553 $ 7,051
First lien mortgage-single family adjustable
rate 60,158 14,980
First lien mortgage-multifamily fixed rate 8,023 674
First lien mortgage-multifamily variable rate -- --
Construction and acquisition and
development, net of loans in process 6,223 422
Commercial real estate 16,848 7,013
Commercial 2,062 9,620
Consumer and other 5,143 4,272
Mortgage-backed securities held-to-maturity(1)(2) -- 1
Mortgage-backed securities available-for-sale
(1)(2) -- --
Other interest-earning assets (3) -- --
----------- -----------
Total interest-sensitive assets 102,010 44,033
----------- -----------
Noninterest-sensitive assets
Total assets
INTEREST-SENSITIVE LIABILITIES:
Savings deposits (4):
Interest-bearing checking accounts $ -- $ --
Savings accounts -- --
Money market accounts -- --
Certificate accounts (including discount) 216,762 13,445
Securities sold under agreements to repurchase -- --
Advances from the FHLB 128,421 78,343
Senior Notes payable -- 50,000
----------- -----------
Total interest-sensitive liabilities 345,183 141,788
----------- -----------
Noninterest-sensitive liabilities
Total liabilities
Preferred Stock of the Bank
Common stockholders' equity
Total liabilities and stockholders'
equity
Gap during the period $ (243,173) $ (97,755)
Effect of interest rate swaps and caps(5) (21,920) --
----------- -----------
Cumulative gap after effect of interest rate swaps
and caps $ (129,071) $ (226,826)
=========== ===========
Interest-sensitive assets as a % of interest-sensitive
liabilities (cumulative) 94.06% 90.68%
Interest-sensitive assets as a % of total
assets (cumulative) 80.79 82.30
Ratio of gap after effect of interest rate swaps and caps
to total assets (9.11) (3.36)
Ratio of cumulative gap after effect of interest rate
swaps and caps to total assets (4.43) (7.79)
As of December 31, 1997
-----------------------------------
More than More than
five years to ten years to
ten years twenty years
-----------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C>
INTEREST-SENSITIVE ASSETS
Loans, net (1)(2):
First lien mortgage-single family fixed rate $ 19,267 $ 71,073
First lien mortgage-single family adjustable
rate 4,403 --
First lien mortgage-multifamily fixed rate 1,185 --
First lien mortgage-multifamily variable rate -- --
Construction and acquisition and
development, net of loans in process 591 1,149
Commercial real estate 6,201 26,068
Commercial 913 --
Consumer and other 1,039 981
Mortgage-backed securities held-to-maturity(1)(2) -- --
Mortgage-backed securities available-for-sale
(1)(2) -- --
Other interest-earning assets (3) -- --
----------- -----------
Total interest-sensitive assets 33,599 99,271
----------- -----------
Noninterest-sensitive assets
Total assets
INTEREST-SENSITIVE LIABILITIES:
Savings deposits (4):
Interest-bearing checking accounts $ -- $ --
Savings accounts -- --
Money market accounts -- --
Certificate accounts (including discount) 178 --
Securities sold under agreements to repurchase -- --
Advances from the FHLB 7,041 5,751
Senior Notes payable -- --
----------- -----------
Total interest-sensitive liabilities 7,219 5,751
----------- -----------
Noninterest-sensitive liabilities
Total liabilities
Preferred Stock of the Bank
Common stockholders' equity
Total liabilities and stockholders'
equity
Gap during the period $ 26,380 $ 93,520
Effect of interest rate swaps and caps(5) (19,527) --
----------- -----------
Cumulative gap after effect of interest rate swaps
and caps $ (219,973) $ (126,453)
=========== ===========
Interest-sensitive assets as a % of interest-sensitive
liabilities (cumulative) 91.70% 95.24%
Interest-sensitive assets as a % of total
assets (cumulative) 83.46 86.87
Ratio of gap after effect of interest rate swaps and caps
to total assets (0.24) 3.21
Ratio of cumulative gap after effect of interest rate
swaps and caps to total assets (7.56) (4.34)
As of December 31, 1997
------------------------------
Over
twenty years Totals
------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C>
INTEREST-SENSITIVE ASSETS
Loans, net (1)(2):
First lien mortgage-single family fixed rate $ 66,125 $ 168,828
First lien mortgage-single family adjustable
rate 169 519,753
First lien mortgage-multifamily fixed rate -- 23,681
First lien mortgage-multifamily variable rate -- 106,583
Construction and acquisition and
development, net of loans in process -- 80,319
Commercial real estate -- 178,270
Commercial -- 160,582
Consumer and other -- 23,419
Mortgage-backed securities held-to-maturity(1)(2) 213,206 1,345,090
Mortgage-backed securities available-for-sale
(1)(2) -- 169,997
Other interest-earning assets (3) -- 32,038
--------- -----------
Total interest-sensitive assets 279,500 2,808,560
---------
Noninterest-sensitive assets 102,850
-----------
Total assets $ 2,911,410
===========
INTEREST-SENSITIVE LIABILITIES:
Savings deposits (4):
Interest-bearing checking accounts $ -- $ 69,972
Savings accounts -- 25,555
Money market accounts -- 165,986
Certificate accounts (including discount) -- 1,011,765
Securities sold under agreements to repurchase -- 791,760
Advances from the FHLB -- 540,475
Senior Notes payable -- 50,000
--------- -----------
Total interest-sensitive liabilities -- 2,655,513
---------
Noninterest-sensitive liabilities 122,317
-----------
Total liabilities 2,777,830
Preferred Stock of the Bank 28,750
Common stockholders' equity 104,830
-----------
Total liabilities and stockholders'
equity $ 2,911,410
===========
Gap during the period $ 279,500
Effect of interest rate swaps and caps(5) --
---------
Cumulative gap after effect of interest rate swaps
and caps $ 153,047
=========
Interest-sensitive assets as a % of interest-sensitive
liabilities (cumulative) 105.76
Interest-sensitive assets as a % of total
assets (cumulative) 96.47
Ratio of gap after effect of interest rate swaps and caps
to total assets 9.60
Ratio of cumulative gap after effect of interest rate
swaps and caps to total assets 5.26
</TABLE>
(1) Fixed-rate mortgage loans, consumer loans and fixed-rate mortgage-backed
securities are based on contractual maturities (assuming no periodic
amortization).
(2) Variable and adjustable rate mortgage loans and adjustable rate
mortgage-backed securities are included in the period in which they reprice
(assuming no periodic amortization).
(3) Includes interest-bearing deposit accounts and FHLB stock.
(4) Interest-bearing checking accounts, savings accounts and money market
accounts are all assumed to be interest-rate sensitive. Fixed-rate certificate
accounts are based on contractual maturities.
(5) Amounts represent the notional principal amount of the interest rate
swaps and certain interest rate cap agreements which are designed to protect
Coastal against rising interest rates, which are currently "in the money."
<PAGE>
INTEREST RATE RISK MANAGEMENT
Coastal enters into interest rate swap and interest rate cap agreements
with selected broker/dealers who are primarily government securities dealers
("Brokers") to reduce its exposure to floating interest rates on a portion of
its adjustable rate liabilities.
An interest rate swap is an agreement where one party (generally Coastal)
agrees to pay a fixed rate of interest on a notional principal amount to a
second party (generally the Broker) in exchange for receiving from the second
party a variable rate of interest on the same notional amount for a
predetermined period of time. No actual assets are exchanged in a swap of this
type and interest payments are generally netted. Coastal enters into this type
of transaction in order to maintain a spread position between certain assets and
liabilities in the event that interest rates increase. If Coastal pays a fixed
rate and receives a variable rate, the variable rate to be received by Coastal
will reprice at the same time and at a similar rate as the funding liabilities
which are altered by the swap and will thereby offset, to a certain degree,
increases in funding costs. Under any other interest rate scenario, the swap
will have a negative impact on net interest income.
At December 31, 1997, Coastal was a party to interest rate swap agreements
which have an aggregate notional amount of $45.8 million and expire from 1998 to
2005. With respect to such agreements, Coastal makes weighted-average fixed
interest payments ranging from 6.00 to 6.93%, and receives payments based on the
floating three-month LIBOR. Coastal records net interest income or expense
relating to the swap agreements on a monthly basis in interest expense on other
borrowed money. The net effect of the interest rate swaps to Coastal for the
year ended December 31, 1997 was to increase interest expense by approximately
$431,000. See Note 15 of the Notes to Consolidated Financial Statements.
An interest rate cap is a guarantee given by one party, referred to as the
issuer (the Broker), to another party, referred to as the purchaser (Coastal),
in exchange for the payment of a premium, that if interest rates rise above a
specified rate on a specified interest rate index, the issuer will pay to the
purchaser the difference between the then current market rate and the specified
rate on a notional principal amount for a predetermined period of time. No
funds are actually borrowed or repaid. The principal purpose of purchasing
these caps is to prevent the occurrence of a negative spread relating to certain
adjustable rate mortgage-backed securities and loans receivable in Coastal's
portfolio during a period in which the cost of funds borrowed to acquire such
assets rises above the contractual interest rate ceiling on the asset purchased.
Interest rate caps generally decrease the interest margin because Coastal
receives no payment from the issuer (until the rate index rises above the rate
cap) but continues to amortize the prepaid premium. At December 31, 1997,
Coastal had interest rate cap agreements, which expire from 1998 to 2001,
covering an aggregate notional amount of $231.2 million, of which $118.2 million
are covering certain of Coastal's loans receivable, and are triggered, depending
on the particular contract, whenever the defined floating rate exceeds 5.0% to
12.5%. The purchase price or premium of the interest rate cap agreements paid
by Coastal is capitalized and included in prepaid expenses and other assets and
is amortized over the life of the agreements using the straight-line method.
For the year ended December 31, 1997, the interest rate caps resulted in an
overall decrease in interest income of approximately $218,000. See Note 15 of
the Notes to Consolidated Financial Statements.
LIQUIDITY AND CAPITAL RESOURCES
Coastal's assets approximated $2.9 billion at December 31, 1997 and 1996.
Stockholders' equity amounted to $104.8 million, or $20.93 per share, at
December 31, 1997. The regulatory capital of Coastal's subsidiary, Coastal Banc
ssb, exceeded all three of the Bank's regulatory capital requirements at
December 31, 1997. At December 31, 1997, the Bank's core capital amounted to
5.52% of adjusted total assets, compared to the requirement of 4.0%, its Tier 1
risk-based capital amounted to 11.46% of risk-adjusted assets as compared to the
requirement of 4.0% and its total risk-based capital amounted to 11.98% of
risk-adjusted assets, compared to a requirement of 8.0%.
Coastal's primary sources of funds consist of savings deposits bearing
market rates of interest, securities sold under agreements to repurchase and
federal funds purchased, advances from the FHLB and principal and interest
payments on loans receivable and mortgage-backed securities. On June 21, 1997,
Coastal acquired a branch which resulted in the assumption of $54.6 million in
savings deposits. Coastal uses its funding resources principally to meet its
ongoing commitments to fund maturing deposits and deposit withdrawals, repay
borrowings, purchase mortgage-backed securities and loans receivable, fund
existing and continuing loan commitments, maintain its liquidity, meet operating
expenses and fund acquisitions of other banks and thrifts, either on a branch
office or whole bank acquisition basis. At December 31, 1997, Coastal had
binding commitments to originate or purchase loans totaling approximately $50.2
million and had $47.9 million of undisbursed loans in process. In addition, at
December 31, 1997, Coastal had commitments under lines of credit to originate
primarily construction and other loans of approximately $119.3 million and
letters of credit outstanding of $1.7 million. Scheduled maturities of
certificates of deposit during the twelve months following December 31, 1997
totaled $781.5 million. Management believes that Coastal has adequate resources
to fund all its commitments.
INFLATION AND CHANGING PRICES
The Consolidated Financial Statements and related data presented herein
have been prepared in accordance with generally accepted accounting principles,
which require the measurement of financial position and operating results in
terms of historical dollars, without considering changes in the relative
purchasing power of money over time due to inflation. Unlike most commercial
companies, substantially all of the assets and liabilities of Coastal are
monetary in nature. As a result, interest rates have a more significant impact
on Coastal's performance than the effects of general levels of inflation.
Interest rates do not necessarily move in the same direction or with the same
magnitude as the prices of goods and services.
YEAR 2000
Coastal formally initiated a project during the first quarter of 1997 to
ensure that its operational and financial systems will not be adversely affected
by year 2000 software problems. A year 2000 project team has been formed with
representatives from all areas of Coastal including executive management. An
inventory of all core systems and products that could be affected by the year
2000 date change has been developed. The software for Coastal's systems is
primarily provided through third party service bureaus and software vendors.
Coastal is requiring its software providers and vendors to demonstrate and
represent that the products provided are or will be year 2000 compliant and has
planned an internal program of testing for compliance beginning in 1998.
Management does not expect the costs of bringing Coastal's systems into year
2000 compliance to have a material impact on Coastal's consolidated financial
position.
RECENT ACCOUNTING STANDARDS
A discussion of recently issued accounting pronouncements and their impact
on the Consolidated Financial Statements is provided in Note 2 to the
Consolidated Financial Statements.
FORWARD-LOOKING INFORMATION
The above discussion should be read in conjunction with the information
contained in the Consolidated Financial Statements and the Notes thereto. The
above information contains "forward-looking statements" within the meaning of
the Private Securities Litigation Reform Act of 1995 (the "Reform Act"), and are
subject to the safe harbor created by the Reform Act. The words "estimate,"
"project," "anticipate," "expect," "intend," "believe," "plans," and similar
expressions are intended to identify forward-looking statements. Because such
forward-looking statements involve risks and uncertainties, there are important
factors that could cause actual results to differ materially from those
expressed or implied by such forward-looking statements. Factors, all of which
are difficult to predict and many of which are beyond the control of Coastal,
that could cause actual results to differ materially include, but are not
limited to: risks related to Coastal's acquisition strategy, including risks of
adversely changing results of operations and factors affecting Coastal's ability
to consummate further acquisitions; changes in general economic and business
conditions; changes in market rates of interest; changes in the laws and
regulations applicable to Coastal; the risks associated with the Bank's
non-traditional lending (loans other than single-family residential mortgage
loans such as multifamily, real estate acquisition and development, commercial
real estate and commercial loans); and changes in business strategies and other
factors as discussed in Coastal's Annual Report on Form 10-K as filed with the
Securities and Exchange Commission.
<PAGE>
Coastal Bancorp, Inc. and Subsidiaries
DIRECTORS AND OFFICERS
BOARD OF DIRECTORS OF COASTAL BANCORP, INC., COASTAL BANC SSB AND SUBSIDIARIES
(AS NOTED)
MANUEL J. MEHOS
Chairman of the Board, President and Chief Executive Officer of Coastal Bancorp,
Inc.; Chairman of the Board, President and Chief Executive Officer of Coastal
Banc Holding Company, Inc.; Chairman of the Board of Coastal Banc Capital Corp.,
a wholly-owned subsidiary of Coastal Banc Holding Company, Inc.; Chairman of the
Board, President and Chief Executive Officer of the Bank, a wholly-owned
subsidiary of Coastal Banc Holding Company, Inc.; and President of CBS Asset
Corp., and Chief Executive Officer of CoastalBanc Financial Corp., each
wholly-owned subsidiaries of the Bank
R. EDWIN ALLDAY
Consultant for The Dini Partners, Inc., a company that provides counseling in
philanthropy and non-profit management, Houston, Texas
D. FORT FLOWERS, JR.
President of Sentinel Trust Company, a Texas Limited Banking Association
providing fiduciary and investment management services to affluent families,
their closely held corporations and foundations, Houston, Texas, and Director of
The Ohio Bank, Findlay, Ohio
DENNIS S. FRANK
Chief Executive Officer and President of Silvergate Bancorp, a thrift and loan
holding company, and of Silvergate Thrift and Loan, La Mesa, California, and
President and Chief Executive Officer of DSF Management Corp., a private
investment company, Houston, Texas
ROBERT E. JOHNSON, JR.
Partner, law firm of Johnson & Johnson, Austin, Texas
JAMES C. NIVER
Retired, former President of Century Land Company, a residential real estate
development company, Houston, Texas
CLAYTON T. STONE
Executive Vice President of Hines Interests Limited Partnership, Aspen, Colorado
CORPORATE OFFICERS OF COASTAL BANCORP, INC.
MANUEL J. MEHOS
Chairman of the Board, President and Chief Executive Officer
CATHERINE N. WYLIE
Executive Vice President, Chief Financial Officer and Treasurer
LINDA B. FRAZIER
Vice President and Secretary
CORPORATE OFFICERS OF COASTAL BANC HOLDING COMPANY, INC.
MANUEL J. MEHOS
Chairman of the Board, President and Chief Executive Officer
CATHERINE N. WYLIE
Director, Executive Vice President, Chief Financial Officer and Treasurer
LINDA B. FRAZIER
Director, Vice President and Secretary
BARBARA A. STEEN
Director, Assistant Treasurer and Assistant Secretary
CORPORATE OFFICERS OF COASTAL BANC SSB
MANUEL J. MEHOS
President and Chief Executive Officer
JOHN D. BIRD
Executive Vice President - Chief Administrative Officer
GARY R. GARRETT
Executive Vice President - Chief Lending Officer
DAVID R. GRAHAM
Executive Vice President - Real Estate Lending Group
SANDRA S. ORR
Executive Vice President - Chief Investment Officer
NANCY S. VADASZ
Executive Vice President - Market and Product Strategies
CATHERINE N. WYLIE
Executive Vice President - Chief Financial Officer
COASTAL
A HISTORICAL VIEWPOINT
Coastal was acquired by an investor group in 1986 as a vehicle to take
advantage of the failures and consolidation in the Texas banking and thrift
industries. At February 28, 1986 (the date of the change in ownership), Coastal
had one full service office and total assets of approximately $10.7 million.
In May 1988, Coastal became the first acquirer of failed or failing savings
institutions under the Federal government's "Southwest Plan." In this
transaction, Coastal acquired from the Federal Savings and Loan Insurance
Corporation, as receiver for four insolvent savings associations, 14 additional
branch offices and approximately $543.4 million of assets and assumed $543.4
million in deposits and other liabilities. Since completion of the Southwest
Plan acquisition and through 1997, Coastal entered into six branch acquisitions
and one whole bank acquisition: two with an instrumentality of the Federal
government and five with private institutions. In each transaction, Coastal
agreed to acquire certain assets in consideration of the assumption of certain
deposit liabilities with respect to each institution. In 1996, Coastal also
exchanged three branches for one resulting in a net deposit increase of $26.0
million and sold one branch in separate transactions. All of these transactions
resulted in the net assumption of $1.6 billion of deposits and the net
acquisition of 46 branch offices. Coastal has also opened six de novo branches
since inception. Coastal has been able to achieve operating economies and
improve efficiency by closing an aggregate of 16 branch offices and transferring
the deposits to other offices located in the same market area.
At December 31, 1997, Coastal had total assets of approximately $2.9
billion and total deposits of approximately $1.4 billion with 37 branch offices
in metropolitan Houston, Austin, Corpus Christi and small cities in the south
east quadrant of Texas.
Independent Auditors' Report
----------------------------
The Board of Directors
Coastal Bancorp, Inc.:
We have audited the accompanying consolidated statements of financial
condition of Coastal Bancorp, Inc. and subsidiaries as of December 31, 1997 and
1996 and the related consolidated statements of operations, stockholders' equity
and cash flows for each of the years in the three-year period ended December 31,
1997. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial condition of Coastal
Bancorp, Inc. and subsidiaries at December 31, 1997 and 1996 and the results of
their operations and their cash flows for each of the years in the three-year
period ended December 31, 1997 in conformity with generally accepted accounting
principles.
/s/ KPMG Peat Marwick LLP
- -----------------------------
January 15, 1998
Houston, Texas
<TABLE>
<CAPTION>
COASTAL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
DECEMBER 31, 1997 AND 1996
(IN THOUSANDS, EXCEPT SHARE DATA)
<S> <C> <C> <C> <C>
ASSETS 1997 1996
- ------------------------------------------------------ ---------- ----------
Cash and amounts due from depository institutions $ 37,096 $ 27,735
Loans receivable (Notes 6 and 11) 1,261,435 1,229,748
Mortgage-backed securities held-to-maturity
(market value of $1,324,968 in 1997 and
$1,308,598 in 1996) (Notes 5, 11, 12, 14 and 15) 1,345,090 1,344,587
Mortgage-backed securities available-for-sale,
at market value (Notes 5, 11, 12 and 14) 169,997 180,656
U.S. Treasury security available-for-sale, at
market value -- 11
Mortgage loans held for sale -- 298
Accrued interest receivable (Note 7) 14,813 14,690
Property and equipment (net of accumulated
depreciation and amortization of $8,100 in
1997 and $7,009 in 1996) 22,250 14,987
Stock in the Federal Home Loan Bank
of Dallas ("FHLB") 27,801 25,971
Goodwill (net of accumulated amortization
of $11,270 in 1997 and $9,430 in 1996) 15,717 15,596
Mortgage servicing rights (Note 8) 5,653 6,810
Prepaid expenses and other assets (Notes 9, 15 and 17) 11,558 14,818
---------- ----------
$2,911,410 $2,875,907
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
---------------------------------------
Liabilities:
Savings deposits (Note 10) $1,375,060 $1,310,835
Advances from the FHLB (Note 11) 540,475 409,720
Securities sold under agreements to
repurchase (Note 12) 791,760 966,987
Senior Notes payable (Note 13) 50,000 50,000
Advances from borrowers for taxes and insurance 3,975 4,676
Other liabilities and accrued expenses 16,560 10,791
----------- -----------
Total liabilities 2,777,830 2,753,009
----------- -----------
9.0% noncumulative preferred stock of Coastal
Banc ssb (Note 22) 28,750 28,750
Commitments and contingencies (Notes 6, 15, 19 and
24)
Stockholders' equity (Notes 5, 19, 21 and 23):
Preferred Stock, no par value; authorized shares
5,000,000;
no shares issued -- --
Common Stock, $.01 par value; authorized shares
30,000,000;
5,008,926 and 4,966,941 shares issued and
outstanding in
1997 and 1996 50 50
Additional paid-in capital 33,186 32,604
Retained earnings 73,868 64,597
Unrealized loss on securities available-for-sale (2,274) (3,103)
----------- -----------
Total stockholders' equity 104,830 94,148
----------- -----------
$2,911,410 $2,875,907
=========== ===========
</TABLE>
See accompanying notes to Consolidated Financial Statements.
<TABLE>
<CAPTION>
COASTAL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS, EXCEPT PER SHARE DATA)
1997 1996 1995
-------- --------- --------
<S> <C> <C> <C> <C> <C> <C>
Interest income:
Mortgage-backed securities $ 92,755 $ 95,155 $102,194
Loans receivable 106,962 97,935 66,405
Federal funds sold, certificates of
deposits and other investments 1,639 1,521 1,687
-------- --------- --------
201,356 194,611 170,286
-------- --------- --------
Interest expense:
Savings deposits 62,912 60,076 56,716
Other borrowed money 55,189 51,360 45,022
Senior Notes payable 5,000 5,000 2,500
Advances from the FHLB:
Short-term 8,562 6,622 1,703
Long-term 12,760 15,127 20,413
-------- --------- --------
144,423 138,185 126,354
-------- --------- --------
Net interest income 56,933 56,426 43,932
Provision for loan losses (Note 6) 1,800 1,925 1,664
-------- --------- --------
Net interest income after
provision for loan losses 55,133 54,501 42,268
-------- --------- --------
Noninterest income:
Loan fees and service charges 4,018 3,450 2,498
on deposit accounts
Loan servicing income, net 1,406 1,565 1,956
Gain on sale of branch office (Note 3) -- 521 --
Gain (loss) on sales of mortgage-backed
securities available-for-sale, net 237 (4) 81
Other 723 559 627
-------- --------- --------
6,384 6,091 5,162
-------- --------- --------
Noninterest expense:
Compensation, payroll taxes
and other benefits 18,754 16,547 12,029
Office occupancy 7,312 6,002 4,590
Insurance premiums 1,091 2,199 3,244
Data processing 2,245 2,447 1,769
Amortization of goodwill 1,840 1,784 1,273
Other 8,302 8,948 6,918
SAIF insurance special
assessment (Note 18) -- 7,455 --
-------- --------- --------
39,544 45,382 29,823
-------- --------- --------
Income before provision 21,973 15,210 17,607
for Federal income taxes
Provision for Federal income taxes (Note 17) 7,822 5,671 6,477
-------- --------- --------
Net income before preferred 14,151 9,539 11,130
stock dividends
Preferred stock dividends of Coastal
Banc ssb 2,588 2,588 2,588
-------- -------- --------
Net income available to
common stockholders $ 11,563 $ 6,951 $ 8,542
======== ========= ========
Basic earnings per share (Note 21) $ 2.32 $ 1.40 $ 1.72
======== ========= ========
Diluted earnings per share (Note 21) $ 2.25 $ 1.38 $ 1.71
======== ========= ========
</TABLE>
See accompanying notes to Consolidated Financial Statements.
<PAGE>
<TABLE>
<CAPTION>
COASTAL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS)
Unrealized
loss on
Additional securities
Common paid-in Retained available-for-
Stock capital earnings sale Total
------- ----------- ---------- -------------- ------
<S> <C> <C> <C> <C> <C>
Balance - December 31, 1994 $ 50 $ 32,434 $ 52,674 $ (478) $ 84,680
Dividends on preferred stock
of Coastal Banc ssb -- -- (2,588) -- (2,588)
Dividends on Common Stock -- -- (1,585) -- (1,585)
Exercise of stock options
(Note 19) -- 58 -- -- 58
Unrealized loss on securities
transferred to available-for-
sale (Note 5) -- -- -- (1,556) (1,556)
Change in net unrealized holding
gain (loss) on securities available-
for-sale (Note 5) -- -- -- 1,540 1,540
Net income for 1995 -- -- 11,130 -- 11,130
------- ----------- ---------- ---------------- ---------
Balance - December 31, 1995 50 32,492 59,631 (494) 91,679
Dividends on preferred stock
of Coastal Banc ssb -- -- (2,588) -- (2,588)
Dividends on Common Stock -- -- (1,985) -- (1,985)
Exercise of stock options
(Note 19) -- 112 -- -- 112
Change in net unrealized holding
gain (loss) on securities available-
for-sale (Note 5) -- -- -- (2,609) (2,609)
Net income for 1996 -- -- 9,539 -- 9,539
------- ----------- ---------- ---------------- ---------
Balance - December 31, 1996 50 32,604 64,597 (3,103) 94,148
Dividends on preferred stock
of Coastal Banc ssb -- -- (2,588) -- (2,588)
Dividends on Common Stock -- -- (2,292) -- (2,292)
Exercise of stock options
(Note 19) -- 582 -- -- 582
Change in net unrealized holding
gain (loss) on securities available-
for-sale (Note 5) -- -- -- 829 829
Net income for 1997 -- -- 14,151 -- 14,151
------- ----------- ---------- ---------------- ---------
Balance - December 31, 1997 $ 50 $ 33,186 $ 73,868 $ (2,274) $104,830
======= =========== ========== ================ =========
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
COASTAL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS)
1997 1996 1995
---------- ---------- ----------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income before preferred stock dividends $ 14,151 $ 9,539 $ 11,130
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization of property and equipment,
mortgage servicing rights and prepaid expenses
and other assets 7,485 6,098 5,191
Net premium amortization (discount accretion) 3,025 1,146 (2,236)
Provision for loan losses 1,800 1,925 1,664
Amortization of goodwill 1,840 1,784 1,273
Originations and purchases of mortgage loans held for sale (8,063) (19,739) (8,812)
Sales of mortgage loans held for sale 8,361 20,158 8,268
(Gain) loss on sales of mortgage-backed securities
available-for-sale (237) 4 (81)
Gain on sale of branch office -- (521) --
Decrease (increase) in:
Accrued interest receivable (123) 853 (4,852)
Other, net 9,668 (3,024) 6,003
Stock dividends from the FHLB (1,287) (1,288) (1,318)
------- -------- --------
Net cash provided by operating activities 36,620 16,935 16,230
------- -------- --------
Cash flows from investing activities:
Purchases of mortgage-backed securities held-to-maturity (56,136) -- (52,741)
Purchase of U.S. Treasury security available-for-sale -- (11) --
Principal repayments on mortgage-backed securities
held-to-maturity 55,549 50,616 35,742
Principal repayments on mortgage-backed securities
available-for-sale 627 879 103
Proceeds from maturity of U.S. Treasury security
available-for-sale 11 4,000 --
Proceeds from sales of mortgage-backed securities
available-for-sale 11,545 860 72,379
Purchases of loans receivable (135,202) (190,612) (416,569)
Net decrease in loans receivable 94,670 53,678 6,623
Purchases of property and equipment, net (9,825) (4,273) (3,579)
Purchase of FHLB stock (9,543) (7,924) (2,984)
Proceeds from sales of FHLB stock 9,000 5,000 3,245
Capitalization of mortgage servicing rights (116) -- --
Cash and cash equivalents received in business combination
transactions, net of disposition transaction in 1996 52,093 11,652 34,311
------- -------- --------
Net cash provided (used) by investing activities 12,673 (76,135) (323,470)
------- -------- --------
</TABLE>
See accompanying notes to Consolidated Financial Statements.
<TABLE>
<CAPTION>
COASTAL BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED
(IN THOUSANDS)
1997 1996 1995
------------- ------------ ------------
<S> <C> <C> <C>
Cash flows from financing activities:
Net decrease (increase) in savings deposits $ 9,539 $ 12,497 $ (10,336)
Advances from the FHLB 3,560,603 3,629,022 746,899
Principal payments on advances from the FHLB (3,429,848) (3,531,488) (820,749)
Proceeds from securities sold under agreements
to repurchase and
federal funds purchased 9,834,639 9,276,713 8,648,728
Repayments of securities sold under agreements
to repurchase and
federal funds purchased (10,009,866) (9,303,558) (8,300,275)
Proceeds from issuance of Senior Notes payable, net -- -- 47,635
Exercise of stock options for purchase of common stock, net 582 112 58
Net increase (decrease) in advances from borrowers
for taxes and Insurance (701) (1,834) 3,109
Dividends paid (4,880) (4,573) (4,173)
------------ --------- ------------
Net cash provided (used) by financing activities (39,932) 76,891 310,896
------------ --------- ------------
Net increase in cash and cash equivalents 9,361 17,691 3,656
Cash and cash equivalents at beginning of year 27,735 10,044 6,388
------------ --------- ------------
Cash and cash equivalents at end of year $ 37,096 $ 27,735 $ 10,044
============ =========== ============
Supplemental schedule of cash flows--interest paid $ 142,532 $ 139,926 $ 123,030
============ =========== ============
Supplemental schedule of noncash investing and
financing activities:
Transfer of mortgage-backed securities to available-
for-sale category $ -- $ -- $ 226,591
============ =========== ============
Foreclosures of loans receivable $ 4,226 $ 4,363 $ 3,394
============ =========== ============
</TABLE>
See accompanying notes to Consolidated Financial Statements.
COASTAL BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1997 and 1996
(1) ORGANIZATION AND BACKGROUND
ORGANIZATION
Coastal Bancorp, Inc. was incorporated on March 8, 1994 as a first-tier
subsidiary of Coastal Banc Savings Association (the "Association") in connection
with the proposed reorganization of the Association into the holding company
form of organization. The reorganization of the Association into the holding
company form of organization occurred on July 29, 1994. In addition, effective
July 29, 1994, the Association converted to a Texas-chartered savings bank known
as Coastal Banc ssb. As a result of the reorganization, Coastal Bancorp, Inc.
("Bancorp") became the owner of 100% of the voting stock of Coastal Banc ssb.
The holders of the 9.0% Noncumulative Preferred Stock, Series A, of the former
Coastal Banc Savings Association now own an equal number of shares of the 9.0%
Noncumulative Preferred Stock, Series A, of Coastal Banc ssb.
On November 30, 1996, Coastal Banc Holding Company, Inc. ("HoCo") was created as
a Delaware unitary savings bank holding company in accordance with the terms of
an agreement and plan of reorganization dated August 19, 1996 (the "Agreement").
Pursuant to the terms of the Agreement, Coastal Banc ssb became a wholly-owned
subsidiary of HoCo and HoCo became a wholly-owned subsidiary of Bancorp.
The reorganizations were accounted for in a manner similar to that in pooling of
interests accounting and all financial statements issued after consummation of
the reorganization reflect the consolidated operations as if the reorganization
had taken place prior to the periods covered by such consolidated financial
statements.
BACKGROUND
Coastal Banc ssb was acquired by an investor group in 1986 as a vehicle to take
advantage of the failures and consolidation in the Texas banking and thrift
industries. Coastal Banc ssb acquired deposits in transactions with the federal
government and other private institutions as a base for developing an ongoing
thrift and banking business. Coastal Banc ssb's first acquisition was in 1988
under the Federal Savings and Loan Insurance Corporation's ("FSLIC") Southwest
Plan, whereby the FSLIC provided financial and other forms of assistance in
connection with the acquisition of insolvent FSLIC-insured institutions (the
"Acquired Associations").
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND BASIS OF PRESENTATION
The following significant accounting policies, together with those disclosed
elsewhere in the Consolidated Financial Statements or notes thereto, are
followed by Coastal Bancorp, Inc. and subsidiaries in preparing and presenting
the consolidated financial statements.
BASIS OF CONSOLIDATED FINANCIAL STATEMENTS
The consolidated financial statements include the accounts of Coastal Bancorp,
Inc., its wholly-owned subsidiary, HoCo and its wholly-owned subsidiaries,
Coastal Banc ssb and subsidiaries and Coastal Banc Capital Corp. (collectively,
"Coastal"). Coastal Banc ssb's subsidiaries include CoastalBanc Financial
Corp., CBS Mortgage Corp. and CBS Asset Corp. (collectively with Coastal Banc
ssb, the "Bank"). All significant intercompany balances and transactions have
been eliminated in consolidation.
Certain amounts within the accompanying consolidated financial statements and
the related notes have been reclassified to conform to the current year
presentation. Such reclassifications had no effect on net income or total
stockholders' equity.
USE OF ESTIMATES
The preparation of the consolidated financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the consolidated
financial statements and the reported amounts of income and expenses during the
reporting period. Actual results may differ from those estimates.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents are comprised primarily of cash on hand and
interest-earning and noninterest-earning deposits in other banks.
INVESTMENT AND MORTGAGE-BACKED SECURITIES
Coastal classifies securities as either held-to-maturity or available-for-sale.
Securities are classified as held-to-maturity when Coastal has the positive
intent and ability to hold such securities to maturity. Securities
held-to-maturity are recorded at amortized cost. Securities available-for-sale
are securities other than those held-to-maturity or trading and are recorded at
fair value, with unrealized gains and losses excluded from earnings and recorded
as a separate component of stockholders' equity.
On January 1, 1994, Coastal adopted the Financial Accounting Standards Board's
Statement of Financial Accounting Standards No. 115 ("Statement 115"),
"Accounting for Certain Investments in Debt and Equity Securities." In November
1995, the Financial Accounting Standards Board issued the Special Report, "A
Guide to Implementation of Statement 115 on Accounting for Certain Investments
in Debt and Equity Securities." Provisions in this Special Report granted all
entities a one-time opportunity, until no later than December 31, 1995, to
reassess the appropriateness of the classifications of all securities held and
to account for any resulting reclassifications at fair value in accordance with
Statement 115. The provisions of the Special Report also directed that any
reclassifications as a result of this one-time reassessment would not call into
question the intent to hold other debt securities to maturity in the future. In
accordance with this Special Report, on November 20, 1995, Coastal reclassified
approximately $226,591,000 of mortgage-backed securities to the
available-for-sale category and recorded an unrealized loss of approximately
$1,556,000 in stockholders' equity.
Realized gains and losses on securities classified as available-for-sale are
recorded in earnings in the year of sale based on the specific identification of
each individual security sold.
Coastal records investment and mortgage-backed securities transactions as of the
settlement date. There were no pending transactions as of December 31, 1997 or
1996.
Premiums and discounts on investment and mortgage-backed securities are
amortized or accreted as a yield adjustment over the life of the securities
using the interest method, with the amortization or accretion being adjusted
when the prepayments are received.
TRADING ACCOUNT SECURITIES
Trading account securities are recorded at market value; however, at December
31, 1997 and 1996, there were no trading account securities held. Gains or
losses on the revaluation or sale of trading account securities are included in
noninterest income.
LOANS RECEIVABLE
Loans receivable are stated at the principal balance outstanding adjusted for
loans in process, the allowance for loan losses, unearned interest and loan fees
and the premium to record purchased loans. Interest on loans receivable is
primarily computed on the outstanding principal balance at appropriate rates of
interest. The net premium to record purchased loans is being amortized using
the level yield method, adjusted for prepayments.
It is the general policy of Coastal to stop accruing interest income and place
the recognition of interest on a cash basis when any loan is past due as to
principal and interest more than 90 days. When a loan is placed on nonaccrual,
any interest previously accrued but not collected is reversed against current
interest income.
Coastal adopted Statement of Financial Accounting Standards No. 114 ("Statement
114"), "Accounting by Creditors for Impairment of a Loan," as amended by
Statement 118, effective January 1, 1995. Under Statement 114, a loan is
impaired when it is "probable" that a creditor will be unable to collect all
amounts due (i.e., both principal and interest) according to the contractual
terms of the loan agreement. Statement 114 requires that the measurement of
impaired loans be based on (i) the present value of the expected future cash
flows discounted at the loan's effective interest rate, (ii) the loan's
observable market price, or (iii) the fair value of the loan's collateral.
Statement 114 does not apply to large groups of smaller balance homogeneous
loans that are collectively evaluated for impairment. Coastal collectively
reviews all first-lien residential loans under $500,000 as a group and all
consumer and other loans as a group for impairment, excluding loans for which
foreclosure is probable. The adoption of Statement 114, as amended by Statement
118, had no material impact on Coastal's consolidated financial statements as
Coastal's existing policy of measuring loan impairment was generally consistent
with methods prescribed in these standards.
Coastal considers a loan to be impaired when, based upon current information and
events, it is probable that Coastal will be unable to collect all amounts due
according to the contractual terms of the loan agreement. In determining
impairment, Coastal considers, among other things, large non-homogeneous loans
which may include nonaccrual loans or troubled debt restructurings, and
performing loans which exhibit, among other characteristics, high loan-to-value
ratios, low debt coverage ratios, or indications that the borrowers are
experiencing increased levels of financial difficulty. Coastal bases the
measurements of collateral-dependent impaired loans on the fair value of their
collateral. The amount by which the recorded investment in the loan exceeds the
measure of the fair value of the collateral securing the loan is recognized by
recording a valuation allowance.
<PAGE>
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is maintained at a level determined to be adequate
by management to absorb future losses on loans receivable. The adequacy of the
allowance is based on management's evaluation of the loans receivable portfolio
and its consideration of such factors as historical loss experience,
identification of adverse situations which may affect the ability of borrowers
to repay, assessment of current and future economic conditions and the estimated
net realizable value of the underlying collateral. While management uses
available information to estimate losses on loans receivable, future additions
to the allowance may be necessary based on changes in economic conditions. In
addition, various regulatory agencies, as an integral part of their examination
process, periodically review Coastal's allowance for loan losses. Such agencies
may require Coastal to recognize additions to the allowance based on their
judgments about information available to them at the time of their examination.
SALES OF LOANS RECEIVABLE
Loans are sold periodically to institutional and private investors. When
Coastal sells whole mortgage loans, gains or losses on such sales are recognized
at the time of sale and are determined by the difference between net sales
proceeds and the unpaid principal balance of the loans sold, adjusted for any
yield differential, servicing fees and servicing costs applicable to future
years. Coastal continues to collect loan payments and provide normal services
to the borrower under loan servicing agreements with the investors on those
loans sold with servicing retained. The investor is paid its share of the
principal and interest collected, net of a service fee retained by Coastal.
MORTGAGE LOANS HELD FOR SALE
Mortgage loans held for sale are carried at the lower of cost or market as
determined by outstanding commitments from investors or current investor market
yield requirements calculated on the aggregate loan basis.
LOAN FEES
Loan origination and commitment fees, as well as certain direct loan origination
and commitment costs, are deferred and amortized into income over the lives of
the related loans using the level yield method. When the loans receivable are
sold, the remaining loan fees are recognized as income in the period of the
sale.
STOCK IN THE FEDERAL HOME LOAN BANK OF DALLAS
As a member of the FHLB System, Coastal is required to purchase and maintain
stock in the FHLB in an amount equal to the greater of 1% of the aggregate
unpaid balance of loans and securities secured by single family and multi-family
properties, .3% of total assets, or 5% of total FHLB advances. FHLB stock is
redeemable at par value at the discretion of the FHLB.
GOODWILL
Goodwill resulting from acquisitions is amortized on a straight-line basis over
the estimated period of benefit, not to exceed fifteen years. Coastal evaluates
the recorded goodwill amounts for impairment on an ongoing basis to determine
whether events and circumstances have developed that warrant revision of the
estimated benefit periods.
PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost less accumulated depreciation and
amortization. Coastal computes depreciation and amortization on a
straight-line basis over the estimated useful lives (15-30 years for buildings
and 3-10 years for furniture and equipment) of the respective assets.
Leasehold improvements are amortized on a straight-line basis over the lesser of
the terms of the respective lease or the estimated useful lives of the related
assets.
MORTGAGE SERVICING RIGHTS
Coastal adopted the Financial Accounting Standards Board's Statement No. 122
("Statement 122"), "Accounting for Mortgage Servicing Rights -- an amendment of
FASB Statement No. 65" effective January 1, 1996. Statement 122 eliminated the
accounting distinction between rights to service mortgage loans for others that
are acquired through loan origination activities and those acquired through
purchase transactions. On January 1, 1997, Coastal adopted Financial Accounting
Standards Board's Statement No. 125, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishment of Liabilities," which supersedes Statement
122, and requires, among other things, that the book value of loans be allocated
between mortgage servicing rights and the related loans at the time of the loan
sale or securitization, if servicing is retained.
The amount capitalized as mortgage servicing rights is amortized in proportion
to, and over the period of, estimated net servicing revenues. Coastal
periodically evaluates the carrying value of the mortgage servicing rights for
impairment based on the fair value of those rights. The fair value of mortgage
servicing rights is determined by discounting the present value of the estimated
future net servicing revenues using a discount rate commensurate with the risks
involved based on management's best estimate of remaining loan lives. This
method of valuation incorporates assumptions that market participants would use
in their estimate of future servicing income and expense, including assumptions
about prepayments, defaults and interest rates. For purposes of measuring
impairment, the loans underlying the mortgage servicing rights are stratified on
the basis of interest rate and type (fixed or adjustable). The amount of
impairment is the amount by which the mortgage servicing rights, net of
accumulated amortization, exceed their fair value by strata. Impairment, if
any, is recognized through a valuation allowance and a charge to current
operations.
REAL ESTATE OWNED
Real estate owned represents real estate acquired through foreclosure and is
initially recorded at the lower of unpaid principal balance adjusted for any
acquisition premiums or discounts remaining less any applicable valuation
allowance or estimated fair value less estimated selling costs. Subsequent to
foreclosure, real estate owned is carried at the lower of the new cost basis or
fair value, with any further declines in fair value charged to operations.
FEDERAL INCOME TAXES
Bancorp files a consolidated federal income tax return with HoCo, Coastal Banc
Capital Corp., the Bank and all of the Bank's wholly-owned subsidiaries.
Federal income taxes are allocated on the basis of each entity's contribution to
consolidated taxable income.
Income taxes are accounted for under the asset and liability method. Deferred
tax assets and liabilities are recognized for the future tax consequences
attributable to differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases. Deferred tax
assets and liabilities are measured using enacted tax rates expected to apply to
taxable income in the years in which those temporary differences are expected to
be recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date.
OFF-BALANCE SHEET INSTRUMENTS USED FOR INTEREST RATE RISK MANAGEMENT
Coastal enters into interest rate swap and cap agreements to manage its
sensitivity to interest rate risk. For interest rate risk management swap and
cap agreements, interest income or interest expense is accrued over the terms of
the agreements and transaction fees are deferred and amortized to interest
income or expense over the terms of the agreements. The fair values of interest
rate swap and cap agreements used for interest rate risk management are not
recognized in the consolidated financial statements.
STOCK OPTIONS
Prior to January 1, 1996, Coastal accounted for its stock compensation programs
in accordance with the provisions of Accounting Principles Board ("APB") Opinion
No. 25, "Accounting for Stock Issued to Employees," and related interpretations.
As such, compensation expense would be recorded on the date of grant only if the
current market price of the underlying stock exceeded the exercise price. On
January 1, 1996, Coastal adopted the Financial Accounting Standards Board's
Statement No. 123 ("Statement 123"), "Accounting for Stock-Based Compensation,"
which permits entities to recognize as expense over the vesting period the fair
value on the date of grant of all stock-based awards. Alternatively, Statement
123 also allows entities to continue to apply the provisions of APB Opinion No.
25 and provide pro forma net income and pro forma earnings per share disclosures
for employee stock option grants made in 1995 and future years as if the
fair-value based method defined in Statement 123 had been applied. Coastal has
elected to continue to apply the provisions of APB Opinion No. 25 and provide
the pro forma disclosure provisions of Statement 123.
EARNINGS PER SHARE
Statement of Financial Accounting Standards No. 128, "Earnings per Share"
("Statement 128") was issued in February 1997. Statement 128 establishes
standards for computing and presenting earnings per share ("EPS") and replaces
the presentation of primary EPS with a presentation of basic EPS. Statement 128
also requires dual presentation of basic and diluted EPS for entities with
complex capital structures as well as a reconciliation of the basic EPS
computation to the diluted EPS computation. Statement 128 is effective for
financial statements issued for periods ending after December 15, 1997,
including interim periods. Coastal adopted Statement 128 in 1997, accordingly,
all prior period EPS data presented in the accompanying consolidated financial
statements has been restated to conform to the requirements of Statement 128.
Basic EPS is calculated by dividing net income available to common stockholders,
by the weighted average number of common shares outstanding. The computation of
diluted EPS assumes the issuance of common shares for all dilutive potential
common shares outstanding during the reporting period. The dilutive effect of
stock options are considered in earnings per share calculations if dilutive,
using the treasury stock method.
CONSOLIDATED STATEMENTS OF CASH FLOWS
For purposes of reporting cash flows, cash and cash equivalents include cash and
amounts due from depository institutions.
RECENT ACCOUNTING PRONOUNCEMENTS
Statement of Financial Accounting Standards No. 127, "Deferral of Certain
Provisions of FASB Statement No. 125," requires that certain provisions of
Statement of Financial Accounting Standards No. 125 ("Statement 125") are not
effective until January 1, 1998. The deferred provisions relate to secured
borrowings and collateral for all transactions and transfers of financial assets
for repurchase agreements, dollar rolls, securities lending, and similar
transactions. Implementation of the deferred portion of Statement 125 should
have no material effect on Coastal's Consolidated Financial Statements.
Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive
Income" ("Statement 130") requires that all components of comprehensive income
and total comprehensive income be reported on one of the following: (1) the
statement of operations, (2) the statement of stockholders' equity, or (3) a
separate statement of comprehensive income. Comprehensive income is comprised
of net income and all changes to stockholders' equity, except those due to
investments by owners (changes in paid-in capital) and distributions to owners
(dividends). Statement 130 is effective for fiscal years beginning after
December 15, 1997. The implementation of Statement 130 should have no material
impact on Coastal's Consolidated Financial Statements.
Statement of Financial Accounting Standards No. 131, "Disclosure About Segments
of an Enterprise and Related Information" ("Statement 131") requires public
companies to report certain information about their operating segments in their
annual financial statements and quarterly reports issued to shareholders. It
also requires public companies to report certain information about their
products and services, the geographic areas in which they operate, and their
major customers. Statement 131 is effective for fiscal years beginning after
December 15, 1997. Implementation of Statement 131 should have no material
effect on Coastal's Consolidated Financial Statements.
(3) ACQUISITION AND DISPOSITION TRANSACTIONS
PORT ARTHUR BRANCH ACQUISITION
On June 21, 1997, Coastal consummated the purchase of the Port Arthur, Texas
branch of Wells Fargo Bank (Texas). Summarized below are the assets and
liabilities recorded at fair value at the date of the acquisition (in
thousands):
<TABLE>
<CAPTION>
<S> <C> <C>
Cash $52,093
Goodwill 1,961
Property and equipment 693
-------
Total assets $54,747
=======
Deposits 54,563
Accrued interest payable and other liabilities 184
-------
Total liabilities $54,747
=======
</TABLE>
BRANCH SWAP
On September 5, 1996, Coastal consummated the exchange of certain branch
locations with Compass Bank. Coastal sold its three San Antonio branches having
deposits of approximately $53.8 million to Compass Bank and purchased the
Compass Bay City branch having deposits of approximately $79.8 million.
Summarized below are the net assets and liabilities recorded at fair value at
the date of the swap (in thousands):
<TABLE>
<CAPTION>
<S> <C> <C>
Cash and cash equivalents $25,274
Loans receivable 1,173
Goodwill 72
Property and equipment (103)
Other assets 5
--------
$26,421
========
Deposits 25,992
Other liabilities 429
--------
$26,421
========
</TABLE>
<PAGE>
SAN ANGELO BRANCH SALE
On May 24, 1996, Coastal consummated the sale of its San Angelo location, which
had approximately $14.9 million in deposits, to First State Bank, N.A., a
subsidiary of Independent Bankshares, Inc., headquartered in Abilene, Texas. As
a result of this sale, Coastal recorded a $521,000 gain before applicable income
taxes. Coastal acquired this location in the 1994 acquisition of Texas Trust
Savings Bank, FSB. In connection with the sale of this branch office, Coastal
recorded the following reductions of assets and liabilities (in thousands):
<TABLE>
<CAPTION>
<S> <C> <C>
Savings deposits sold $14,850
Accrued interest payable and other liabilities sold 69
Loans receivable sold 155
Property and equipment sold 438
Reduction of goodwill 179
</TABLE>
TEXAS CAPITAL BANCSHARES, INC. ACQUISITION
On November 1, 1995, Coastal consummated the acquisition of all the issued and
outstanding common stock of Texas Capital Bancshares, Inc. for a purchase price
of approximately $21.1 million. Summarized below are the assets and liabilities
recorded at fair value at the date of the acquisition (in thousands):
<TABLE>
<CAPTION>
<S> <C> <C>
Cash and cash equivalents, net of purchase price $ 34,311
Loans receivable 103,319
Goodwill 9,769
U.S. Treasury security available-for-sale 3,993
Property and equipment 2,782
Real estate owned 2,430
Other assets 2,471
--------
Total assets $159,075
========
Deposits 157,209
Other liabilities 1,866
--------
Total liabilities $159,075
========
</TABLE>
The acquisitions described above have been accounted for as purchases and,
accordingly, all assets and liabilities acquired were adjusted to and recorded
at estimated fair values as of the acquisition dates.
The transactions described above are not material to the consolidated financial
position or results of operations of Coastal; therefore pro forma information is
not presented.
<PAGE>
(4) SECURITIES PURCHASED UNDER AGREEMENTS TO RESELL AND FEDERAL FUNDS SOLD
An analysis of securities purchased under agreements to resell ("repurchase
agreements") and federal funds sold for the year ended December 31, 1997 is as
follows (dollars in thousands):
<TABLE>
<CAPTION>
<S> <C> <C>
Repurchase agreements:
Balance outstanding at December 31, 1997 $ --
Maximum outstanding at any month-end --
Average balance outstanding 1,973
Average interest rate 6.89%
Federal funds sold:
Balance outstanding at December 31, 1997 $ --
Maximum outstanding at any month-end 10,500
Average balance outstanding 2,051
Average interest rate 5.61%
</TABLE>
The securities underlying the repurchase agreements are delivered by entry into
Coastal's account maintained at a third-party custodian designated by Coastal
under a written custodial agreement that explicitly recognizes Coastal's
interest in the securities.
There were no repurchase agreements or federal funds sold outstanding during
1996 or 1995.
(5) MORTGAGE-BACKED SECURITIES
Mortgage-backed securities at December 31, 1997 are as follows (in thousands):
<TABLE>
<CAPTION>
Gross Gross
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
--------- ---------- ------------ ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Held-to-maturity:
REMICS - Agency $ 950,689 $ 5,022 $ (20,478) $ 935,233
REMICS - Non-agency 279,131 701 (5,610) 274,222
FNMA certificates 71,887 144 (683) 71,348
GNMA certificates 28,808 566 -- 29,374
Non-agency securities 14,555 239 (23) 14,771
Interest-only securities 20 -- -- 20
----------- ----------- ------------ -----------
$ 1,345,090 $ 6,672 $ (26,794) $ 1,324,968
=========== =========== ============ ===========
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Available-for-sale:
REMICS - Agency $ 171,167 $ 579 $ (4,044) $ 167,702
REMICS - Non-agency 2,328 -- (33) 2,295
----------- ----------- ------------ -----------
$ 173,495 $ 579 $ (4,077) $ 169,997
=========== =========== ============ ============
</TABLE>
<PAGE>
Mortgage-backed securities at December 31, 1996 are as follows (in thousands):
<TABLE>
<CAPTION>
Gross Gross
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
--------- ------------ ------------ ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Held-to-maturity:
REMICS - Agency $ 932,488 $ 4,730 $ (31,142) $ 906,076
REMICS - Non-agency 278,612 834 (9,958) 269,488
FNMA certificates 79,628 72 (1,072) 78,628
GNMA certificates 34,031 282 -- 34,313
Non-agency securities 19,790 363 (95) 20,058
Interest-only securities 38 -- (3) 35
----------- ----------- ------------ -----------
$ 1,344,587 $ 6,281 $ (42,270) $ 1,308,598
=========== =========== ============ ===========
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Available-for-sale:
REMICS - Agency $ 182,467 $ 1,207 $ (5,946) $ 177,728
REMICS - Non-agency 2,962 -- (34) 2,928
----------- ----------- ------------ -----------
$ 185,429 $ 1,207 $ (5,980) $ 180,656
=========== =========== ============ ===========
</TABLE>
As discussed in Note 2 to the Consolidated Financial Statements, pursuant to the
Financial Accounting Standards Board's Special Report, "A Guide to
Implementation of Statement 115 on Accounting for Certain Investments in Debt
and Equity Securities," Coastal reclassified, in 1995, approximately
$226,591,000 of mortgage-backed securities to the available-for-sale category
and recorded an unrealized loss of approximately $1,556,000 in stockholders'
equity. Proceeds from sales of mortgage-backed securities available-for-sale
during 1997, 1996 and 1995 were approximately $11,545,000, $860,000 and
$72,379,000, respectively. Gross gains of approximately $237,000 were realized
on these sales in 1997 and gross losses of approximately $4,000 were realized on
these sales in 1996. Gross gains and gross losses of approximately $209,000 and
$128,000, respectively, were realized on these sales in 1995.
<PAGE>
(6) LOANS RECEIVABLE
Loans receivable at December 31, 1997 and 1996 are as follows (in thousands):
<TABLE>
<CAPTION>
1997 1996
------------ ------------
<S> <C> <C> <C> <C>
Real estate mortgage loans:
First lien mortgage, primarily residential $ 689,767 $ 791,337
Multifamily 131,454 139,486
Residential construction 83,359 77,146
Acquisition and development 31,619 26,132
Commercial 181,315 119,004
Commercial construction 14,506 3,963
Commercial loans, secured by residential mortgage
loans held for sale 98,679 53,573
Commercial loans, secured by mortgage servicing rights 32,685 21,380
Commercial, financial and industrial 30,877 21,965
Loans secured by savings deposits 8,695 8,849
Consumer and other loans 15,030 14,400
------------ ------------
1,317,986 1,277,235
Loans in process (47,893) (38,742)
Allowance for loan losses (7,412) (6,880)
Unearned interest and loan fees (2,926) (2,344)
Premium to record purchased loans, net 1,680 479
------------ ------------
$ 1,261,435 $ 1,229,748
============ ============
Weighted average yield 8.30% 8.23%
============ ============
</TABLE>
In the normal course of business, Coastal enters into various transactions
which, in accordance with generally accepted accounting principles, are not
included on the balance sheets. These transactions are referred to as
"off-balance sheet commitments." Coastal enters into these transactions to meet
the financing needs of its customers. These transactions include commitments to
extend credit which involve elements of credit risk in excess of the amounts
recognized in the balance sheets. Coastal minimizes its exposure to loss under
these commitments by subjecting them to credit approval and monitoring
procedures.
Coastal enters into contractual commitments to extend credit, normally with
fixed expiration dates or termination clauses, at specified rates and for
specific purposes. Customers use credit commitments to ensure that funds will
be available for working capital purposes, for capital expenditures and to
ensure access to funds under specified terms and conditions. Substantially all
of Coastal's commitments to extend credit are contingent upon customers
maintaining specific credit standards at the time of loan funding. Management
assesses the credit risk associated with certain commitments to extend credit in
determining the level of the allowance for loan losses.
At December 31, 1997, Coastal had outstanding commitments to originate or
purchase approximately $50,174,000 of first lien mortgage and other loans and
had commitments under lines of credit to originate primarily construction and
other loans of approximately $119,308,000. In addition, at December 31, 1997,
Coastal had letters of credit of approximately $1,711,000 outstanding.
A portion of Coastal's first lien mortgage loan portfolio is pledged as
collateral to secure advances from the FHLB (Note 11).
Included in loans receivable at December 31, 1997 and 1996 are loans totaling
approximately $17,351,000 and $12,839,000, respectively, which are on nonaccrual
(loans which are 90 days or more delinquent or on which the collection of
interest is considered doubtful). During the years ended December 31, 1997,
1996 and 1995, Coastal recognized interest income on these nonaccrual loans
(outstanding as of the period end) of approximately $827,000, $507,000, and
$303,000, respectively, whereas approximately $925,000, $816,000 and $499,000,
respectively, in additional interest income would have been recorded if such
loans had been performing in accordance with their original terms.
At December 31, 1997 and 1996, the carrying value of loans that are considered
to be impaired under Statement 114 totaled approximately $2,029,000 and
$725,000, respectively (all of which are on nonaccrual) and the related
allowance for loan losses on those impaired loans totaled $1,138,000 and
$524,000, respectively. The average recorded investment in impaired loans
during the years ended December 31, 1997, 1996 and 1995 was approximately
$897,000, $846,000 and $311,000, respectively. For the years ended December 31,
1997, 1996 and 1995, Coastal did not recognize interest income on loans
considered impaired.
An analysis of activity in the allowance for loan losses is as follows (in
thousands):
<TABLE>
<CAPTION>
Years ended December 31,
1997 1996 1995
-------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
Balance, beginning of year $ 6,880 $5,703 $2,158
Provision for loan losses 1,800 1,925 1,664
Charge-offs, net of recoveries (1,268) (748) (387)
Acquisition allowance adjustment -- -- 2,268
-------- ------- -------
Balance, end of year $ 7,412 $6,880 $5,703
======== ======= =======
</TABLE>
The adoption of Statement 114, as amended by Statement 118, effective January 1,
1995, did not result in additional provisions for loan losses during the years
ended December 31, 1997, 1996 or 1995.
<PAGE>
(7) ACCRUED INTEREST RECEIVABLE
Accrued interest receivable at December 31, 1997 and 1996 is as follows (in
thousands):
<TABLE>
<CAPTION>
1997 1996
------- -------
<S> <C> <C> <C> <C>
Mortgage-backed securities $ 6,684 $ 6,606
Loans receivable 8,124 8,084
Federal fund sold, certificates of
deposits and other investments 5 --
------- -------
$14,813 $14,690
======= =======
</TABLE>
(8) MORTGAGE SERVICING RIGHTS
Coastal services for others loans receivable which are not included in the
consolidated financial statements. The total amounts of such loans were
approximately $675,737,000, $776,694,000, and $900,702,000 at December 31, 1997,
1996 and 1995, respectively. At December 31, 1997 and 1996, Coastal serviced
approximately $2,177,000 and $2,750,000 of loans sold with recourse,
respectively.
An analysis of activity of mortgage servicing rights for the years ended
December 31, 1997, 1996 and 1995 is as follows (in thousands):
<TABLE>
<CAPTION>
Years ended December 31,
1997 1996 1995
-------- -------- ---------
<S> <C> <C> <C> <C> <C> <C>
Balance at beginning of period $ 6,810 $ 8,323 $ 9,925
Additions 116 -- --
Amortization (1,273) (1,513) (1,597)
Adjustments -- -- (5)
--------- --------- ---------
Balance at end of period $ 5,653 $ 6,810 $ 8,323
========= ========= =========
</TABLE>
At December 31, 1997, the estimated fair value of Coastal's recognized mortgage
servicing rights was $7,402,000.
(9) REAL ESTATE OWNED
Included in prepaid expenses and other assets is real estate owned at December
31, 1997 and 1996 of approximately $3,186,000 and $3,161,000, respectively.
<PAGE>
(10) SAVINGS DEPOSITS
Savings deposits and the related weighted average interest rates at December 31,
1997 and 1996 are summarized as follows (dollars in thousands):
<TABLE>
<CAPTION>
1997 1996
---------------------------- ------------------------------
Stated Rate Amount Stated Rate Amount
---------------- ------------ ---------------- ------------
<S> <C> <C> <C> <C>
Noninterest-bearing checking 0.00% $ 101,782 0.00% $ 85,259
Interest-bearing checking 1.49 - 2.00 69,972 2.00 56,862
Savings accounts 2.18 - 2.75 25,555 2.28 - 2.75 22,135
Money market demand accounts 2.96 - 4.51 165,986 3.15 - 4.51 151,046
-------------- ------------ ------------- ------------
363,295 315,302
------------ ------------
Certificate accounts 2.00 - 2.99 5,142 2.00 - 2.99 12,930
3.00 - 3.99 2,763 3.00 - 3.99 1,905
4.00 - 4.99 64,478 4.00 - 4.99 95,087
5.00 - 5.99 834,727 5.00 - 5.99 776,765
6.00 - 6.99 94,405 6.00 - 6.99 91,128
7.00 - 7.99 7,624 7.00 - 7.99 12,964
8.00 - 8.99 1,854 8.00 - 8.99 3,515
9.00 - 9.99 847 9.00 - 9.99 1,171
10.00 - 10.99 -- 10.00 - 10.99 249
11.00 - 11.99 -- 11.00 - 11.99 17
--------------- ------------ --------------- --------
1,011,840 995,731
------------ --------
Discount to record savings
deposits at fair value, net (75) (198)
------------ ------------
$ 1,375,060 $ 1,310,835
============ ============
Weighted average rate 4.67% 4.67%
============ ============
</TABLE>
The scheduled maturities of certificate accounts outstanding at
December 31, 1997 were as follows (in thousands):
<TABLE>
<CAPTION>
Year Ended December 31,
-----------------------
<S> <C> <C>
1998 $ 781,455
1999 186,734
2000 30,028
2001 7,292
2002 6,153
Subsequent years 178
-----------
$ 1,011,840
===========
</TABLE>
The aggregate amount of certificate accounts with balances of $100,000 or
more was approximately $122,593,000, and $109,371,000 at December 31, 1997 and
1996, respectively.
<PAGE>
(11) ADVANCES FROM THE FEDERAL HOME LOAN BANK OF DALLAS
Advances from the FHLB for the years ended December 31, 1997, 1996 and 1995 are
summarized as follows (dollars in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
-------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Balance outstanding at end of year $540,475 $409,720 $312,186
Average balance outstanding 368,896 387,296 367,895
Maximum outstanding at any month-end 540,475 491,930 405,016
Average interest rate during the year 5.78% 5.62% 6.01%
Average interest rate at end of year 5.95% 5.61% 5.88%
</TABLE>
The scheduled maturities and related weighted average interest rates on advances
from the FHLB at December 31, 1997 are summarized as follows (dollars in
thousands):
<TABLE>
<CAPTION>
<S> <C> <C> <C>
Due during the year Weighted Average
ended December 31,. Interest Rate Amount
- ------------------- ----------------- --------
1998 5.84% $320,919
1999 6.08 120,411
2000 6.16 8,010
2001 6.22 8,656
2002 5.89 69,687
2004 6.52 2,854
2006 6.91 3,115
2007 6.78 1,072
2009 8.25 4,469
2011 6.78 1,282
----------------- --------
5.95% $540,475
================= ========
</TABLE>
At December 31, 1997, Coastal had a $50,000,000 unused line of credit with the
FHLB. The FHLB advances are secured by certain first lien mortgage loans and
mortgage-backed securities with an aggregate carrying value of approximately
$540,500,000 at December 31, 1997.
<PAGE>
(12) SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE AND FEDERAL FUNDS PURCHASED
Securities sold under agreements to repurchase at December 31, 1997 and 1996 are
as follows (dollars in thousands):
<TABLE>
<CAPTION>
Repurchase Repurchase Repurchase
Liability Liability Liability
Maturing Maturing Maturing
in up to in 30 to in over
30 days 90 days 90 days Total
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
December 31, 1997:
- -------------------------------
Book value of mortgage-backed
securities sold $ 693,058 $ -- $ 157,530 $ 850,588
Market value of mortgage-backed
securities sold 682,669 -- 154,427 837,096
Repurchase liability 647,048 -- 144,712 791,760
Weighted average interest rate 6.00%
Weighted average maturity 75 days
December 31, 1996:
- -------------------------------
Book value of mortgage-backed
securities sold $ 755,512 $ 138,720 $ 156,987 $1,051,219
Market value of mortgage-backed
securities sold 738,861 136,188 152,233 1,027,282
Repurchase liability 695,132 127,143 144,712 966,987
Weighted average interest rate 5.55%
Weighted average maturity 126 days
</TABLE>
Coastal enters into sales of securities under agreements to repurchase ("reverse
repurchase agreements"). Fixed coupon reverse repurchase agreements are treated
as financing arrangements, and the obligations to repurchase securities sold are
reflected as a liability in the consolidated statements of financial condition.
The dollar amounts of securities underlying the agreements are recorded in the
respective asset accounts.
At December 31, 1997 and 1996, $791,760,000 and $940,320,000, respectively, of
the agreements relating to the mortgage-backed securities were agreements to
repurchase the same securities, while $26,667,000, of the agreements at December
31, 1996 were agreements to repurchase substantially identical securities.
Securities sold under agreements to repurchase at December 31, 1997 mature in
1998. Securities sold under agreements to repurchase averaged approximately
$974,136,000, $930,706,000 and $752,427,000 during 1997, 1996 and 1995,
respectively, and the maximum outstanding amounts at any month-end during 1997,
1996 and 1995 were approximately $1,035,576,000, $1,022,085,000 and
$993,832,000, respectively.
At December 31, 1997, Coastal had amounts of securities at risk under securities
sold under agreements to repurchase with three individual counterparties which
exceeded ten percent of stockholders' equity. The amount at risk with Salomon
Brothers Inc. was $12,818,000 with an average maturity of 344 days at December
31, 1997. The amount at risk with Credit Suisse First Boston Corporation was
$16,621,000 with an average maturity of 27 days at December 31, 1997. The
amount at risk with Goldman, Sachs & Co. was $23,656,000 with an average
maturity of 8 days at December 31, 1997.
Federal funds purchased averaged approximately $161,000 during the year ended
December 31, 1997. There were no federal funds purchased outstanding at any
month-end during 1997 and there were no federal funds purchased outstanding
during the years ended December 31, 1996 or 1995.
(13) SENIOR NOTES PAYABLE
On June 30, 1995, Coastal issued $50.0 million of 10.0% Senior Notes due
June 30, 2002. The Senior Notes are redeemable at Coastal's option, in whole or
in part, on or after June 30, 2000, at par, plus accrued interest to the
redemption date. Interest on the Senior Notes is payable quarterly.
(14) INTEREST RATE RISK MANAGEMENT
Coastal's strategy to manage interest rate risk is to minimize
interest rate risk rather than hedge market values. Generally, Coastal
minimizes its exposure to interest rate fluctuations by the origination and
purchase of adjustable-rate mortgage loans, adjustable-rate mortgage-backed
securities and the use of interest rate swap and interest rate cap agreements.
Coastal's goal is to minimize the timing differences between the repricing or
maturity of its assets and the repricing or maturity of its liabilities, without
speculation of interest rates, to alter interest rate risk as much as possible
to withstand interest rate changes. Coastal's approach to minimizing interest
rate risk is through the structure of its balance sheet whereby asset purchases
are closely matched with funding sources that have similar rate movement and
repricing terms.
(15) FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK
Coastal is a party to financial instruments with off-balance sheet risk in the
normal course of business to reduce its own exposure to fluctuations in interest
rates. These financial instruments include interest rate swap agreements,
interest rate cap agreements and financial futures contracts.
INTEREST RATE AGREEMENTS
Coastal is a party to interest rate swap and interest rate cap agreements in
order to reduce its exposure to floating interest rates on a portion of its
variable rate assets and borrowings. At December 31, 1997, Coastal had interest
rate swap and cap agreements on notional amounts totaling $45,847,000 and
$231,229,000, respectively.
Coastal has entered into interest rate swap agreements with various investment
companies. The agreements provide for Coastal to make fixed interest payments
and receive payments based on a floating LIBOR index, as defined in each
agreement.
The weighted average interest rate of payments received on all of the interest
rate swap agreements was approximately 5.76% in 1997 and 5.56% in 1996. The
weighted average interest rate of payments made on all of the interest rate swap
agreements was approximately 6.51% in 1997 and 6.35% in 1996. Payments on the
interest rate swap agreements are based on the notional principal amount of the
agreements; no funds were actually borrowed or are to be repaid. Coastal records
net interest expense or income related to these agreements on a monthly basis in
"interest expense on other borrowed money" in the accompanying consolidated
statements of operations. The interest expense related to these agreements was
approximately $431,000, $593,000 and $24,000, for the years ended December 31,
1997, 1996 and 1995, respectively. Coastal had pledged approximately $6,405,000
and $6,123,000 of mortgage-backed securities to secure interest rate swap
agreements at December 31, 1997 and 1996, respectively.
<PAGE>
The terms of the interest rate swap agreements outstanding at December 31, 1997
and 1996 are summarized as follows (dollars in thousands):
<TABLE>
<CAPTION>
Floating Fair Value
Rate at
at End of
Notional LIBOR Fixed End of Period
Maturity Amount Index Rate Period gain (loss)
- --------------------- --------- ----------- ------ --------- ------------
(unaudited)
<S> <C> <C> <C> <C> <C>
At December 31, 1997:
1998 $ 4,400 Three-month 6.709% 5.875% $ (28)
1999 14,600 Three-month 6.926 5.875 (239)
2000 4,800 Three-month 6.170 5.906 (99)
2,520 Three-month 6.000 5.906 --
2005 19,527 Three-month 6.500 5.879 (230)
--------- ------------
$ 45,847 $ (596)
========= ============
At December 31, 1996:
1997 $ 5,000 One-month 4.990% 5.633% $ 6
6,000 Three-month 6.493 5.500 (65)
1998 4,400 Three-month 6.709 5.500 (111)
1999 14,600 Three-month 6.926 5.500 (619)
2000 4,800 Three-month 6.170 5.543 (64)
2,660 Three-month 6.000 5.617 24
2005 23,442 Three-month 6.500 5.500 (15)
--------- ------------
$ 60,902 $ (844)
========= ============
</TABLE>
Coastal has interest rate cap agreements with third parties. The agreements
provide for the third parties to make payments to Coastal whenever a defined
floating rate exceeds rates ranging from 5.00% to 12.50%, depending on the
agreement. Payments on the interest rate cap agreements are based on the
notional principal amount of the agreements; no funds were actually borrowed or
are to be repaid. The purchase prices of the interest rate cap agreements are
capitalized and included in "prepaid expenses and other assets" in the
accompanying consolidated statements of financial condition and are amortized
over the life of the agreements using the straight-line method. The unamortized
portion of the purchase price was approximately $286,000 and $1,070,000 at
December 31, 1997 and 1996, respectively, with the estimated fair value of the
agreements being $300,000 and $639,000 at December 31, 1997 and 1996,
respectively. The interest rate cap agreements are used to alter the interest
rate sensitivity of a portion of Coastal's mortgage-backed securities, loans
receivable and their related funding sources. As such, the amortization of the
purchase price and interest income from the interest rate cap agreements are
recorded in "interest income on mortgage-backed securities or loans receivable,"
as appropriate, in the accompanying consolidated statements of operations. The
net increase (decrease) in interest income related to the interest rate cap
agreements was approximately $(218,000), $(518,000) and $681,000 for the years
ended December 31, 1997, 1996, and 1995, respectively.
<PAGE>
Interest rate cap agreements outstanding at December 31, 1997 expire as
follows (dollars in thousands):
<TABLE>
<CAPTION>
Year of Strike rate Notional
expiration range amount
- ---------- ------------------ ---------
<S> <C> <C> <C>
1998 5.00 - 12.50% $ 156,400
1999 7.25 - 11.00 63,564
2000 8.50 - 9.50 8,000
2001 7.50 3,265
---------
$ 231,229
=========
</TABLE>
Market risk, or the risk of loss due to movement in market prices or rates is
quantified by Coastal through a risk monitoring process of marking to market the
portfolio to expected market level changes in an instantaneous shock of plus and
minus 200 basis points on a quarterly basis. This process discloses the effects
on market values of the assets and liabilities, unrealized gains and losses,
including off-balance sheet items, as well as potential changes in net interest
income.
The fluctuation in the market value, however, has no effect on the level of
earnings of Coastal because the securities are categorized as "held-to-maturity"
and Coastal has the positive intent and ability to hold these to maturity.
Coastal is exposed to credit loss in the event of nonperformance by the
counterparty to the swap or cap and controls this risk through credit monitoring
procedures. The notional principal amount does not represent Coastal's exposure
to credit loss.
FINANCIAL FUTURES
Coastal has used financial futures contracts in its asset/liability management
function to alter the interest rate sensitivity of Coastal's net interest
income. In 1992, Coastal discontinued this hedging strategy. The net
unamortized contract losses on closed positions were approximately $1,207,000
and $1,410,000 at December 31, 1997 and 1996, respectively.
(16) FAIR VALUE OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards No. 107, "Disclosures about Fair
Value of Financial Instruments", requires that Coastal disclose estimated fair
values for its financial instruments. The fair value estimates presented herein
are based on relevant information available to management as of December 31,
1997 and 1996. Because the reporting requirements exclude certain financial
instruments and all nonfinancial instruments, the aggregate fair value amounts
presented herein do not represent management's estimate of the underlying value
of Coastal. The fair value estimates, methods and assumptions used are set
forth below for Coastal's financial instruments (in thousands):
<PAGE>
<TABLE>
<CAPTION>
At At
December 31, 1997 December 31, 1996
---------------------------- --------------------------
Carrying Fair Carrying Fair
Value Value Value Value
---------- ----------- ------------ -----------
<S> <C> <C> <C> <C>
Financial assets:
Cash and cash equivalents $ 37,096 $ 37,096 $ 27,735 $ 27,735
Loans receivable 1,261,435 1,283,023 1,229,748 1,247,527
Mortgage-backed securities
held-to-maturity 1,345,090 1,324,968 1,344,587 1,308,598
Securities available-for-sale 169,997 169,997 180,667 180,667
Mortgage loans held for sale -- -- 298 301
Stock in the FHLB 27,801 27,801 25,971 25,971
Interest rate cap agreements 286 300 1,070 639
Financial liabilities:
Savings deposits 1,375,060 1,377,431 1,310,835 1,313,385
Advances from the FHLB 540,475 541,645 409,720 409,478
Securities sold under
agreements to repurchase 791,760 791,742 966,987 966,881
Senior Notes payable 50,000 50,750 50,000 51,000
Off-balance sheet instruments:
Interest rate swap agreements -- (596) -- (844)
Commitments to extend -- 171,193 -- 134,698
credit
</TABLE>
CASH AND CASH EQUIVALENTS
Carrying value approximates fair value because of the short maturity of these
instruments and absence of any anticipated credit concerns.
LOANS RECEIVABLE
The fair values of loans receivable are estimated for segregated groupings of
loans with similar financial characteristics. Loans are segregated by type such
as residential mortgage, commercial and consumer. Residential mortgage loans
are further subdivided into fixed and adjustable rate loans including single
family, multifamily and construction.
The fair value of single family residential loans is estimated based on current
investor market prices and yields for mortgage-backed securities with similar
maturities, interest rate indexes and prepayment characteristics. The fair
value of multifamily residential, construction, commercial and consumer loans
are estimated using factors that reflect the credit and interest rate risk in
these loans.
MORTGAGE-BACKED SECURITIES HELD-TO-MATURITY AND SECURITIES AVAILABLE-FOR-SALE
The fair values of mortgage-backed securities are estimated based on published
market prices or market prices from investment dealers and companies. If a
quoted market price is not available, fair value is estimated using quoted
market prices for similar securities.
MORTGAGE LOANS HELD FOR SALE
The fair value of mortgage loans held for sale is estimated based on outstanding
commitments from investors or current investor market yields calculated on an
aggregate loan basis.
STOCK IN THE FHLB
The carrying amount of the stock in the FHLB approximates fair value.
INTEREST RATE CAP AND SWAP AGREEMENTS
The fair values of interest rate cap and swap agreements are based on the
discounted value of the differences between contractual interest rates and
current market rates for similar agreements.
SAVINGS DEPOSITS
The fair value of deposits with short-term or no stated maturity, such as
noninterest-bearing checking, interest-bearing checking, savings accounts and
money market demand accounts is equal to the amounts payable as of December 31,
1997 and 1996. The fair value of certificate accounts is based on the
discounted value of contractual cash flows. The discount rate is estimated
using the rates currently offered for deposits of similar remaining maturities.
ADVANCES FROM THE FHLB AND SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
The fair values of advances from the Federal Home Loan Bank of Dallas and
securities sold under agreements to repurchase are estimated based on quoted
market prices for similar agreements or current rates offered to Coastal for
borrowings with similar remaining maturities.
SENIOR NOTES PAYABLE
The fair value of Senior Notes payable is based on quoted market prices for
similar securities.
COMMITMENTS TO EXTEND CREDIT
The fair value of commitments to extend credit is estimated using current
interest rates and committed interest rates.
(17) FEDERAL INCOME TAXES
The acquisition of the Acquired Associations under the FSLIC's Southwest Plan on
May 13, 1988 qualified for tax-free reorganization status under Section
368(a)(3)(D) of the Internal Revenue Code of 1986 as amended ("IRC").
Accordingly, the tax bases of assets of the Acquired Associations carried over
to Coastal. In connection with this acquisition, the FSLIC Resolution Fund
("FRF") retained all of the future federal income tax benefits derived from the
federal income tax treatment of certain items, in addition to net operating loss
carryforwards related to the acquisition for which Coastal agreed to pay the FRF
when actually realized. The provisions for federal income taxes recorded for
the years ended December 31, 1997, 1996 and 1995, represent the gross tax
liability computed under these tax sharing provisions before reduction for
actual federal taxes paid to the Internal Revenue Service. Alternative minimum
taxes paid with the federal return in 1997, 1996 and 1995 will be available as
credit carryforwards to reduce regular federal tax liabilities in future years,
over an indefinite period. To the extent these credits were generated due to
the utilization of other tax benefits retained by the FRF, they will also be
treated as tax benefit items. Although the termination of the Assistance
Agreement was effective March 31, 1994, the FRF will continue to receive the
future federal income tax benefits from the net operating loss carryforwards
acquired from the Acquired Associations.
<PAGE>
The components of the provision for federal income tax expense (benefit) for the
years ended December 31, 1997, 1996 and 1995 are as follows (in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
Current $7,831 $5,920 $6,665
Deferred (9) (249) (188)
------- ------- -------
$7,822 $5,671 $6,477
======= ======= =======
</TABLE>
A reconciliation of the expected federal income taxes using a corporate tax rate
of 35% for the years ended December 31, 1997, 1996 and 1995 is as follows (in
thousands):
<TABLE>
<CAPTION>
1997 1996 1995
------- ------ ------
<S> <C> <C> <C> <C> <C> <C>
Computed expected tax provision $7,691 $5,324 $6,162
Net purchase accounting adjustments 282 287 104
Other, net (151) 60 211
------- ------ ------
$7,822 $5,671 $6,477
======= ====== ======
</TABLE>
Significant temporary differences that give rise to the deferred tax assets and
liabilities as of December 31, 1997 and 1996 are as follows (in thousands):
<TABLE>
<CAPTION>
1997 1996
------- ------
<S> <C> <C> <C>
Deferred tax assets:
Loans receivable, principally due to
purchase accounting discount
and allowance for loan losses $1,277 $1,247
Property and equipment 134 100
Real estate owned, principally 331 320
due to unrealized writedowns
Unrealized loss on securities
available-for-sale 1,224 1,670
Goodwill 383 268
Other 208 163
------ ------
3,557 3,768
------ ------
Deferred tax liabilities:
Mortgage-backed securities, principally
due to deferred hedging losses 422 494
FHLB stock 703 451
Other 111 47
------ ------
1,236 992
------ ------
Net deferred tax asset $2,321 $2,776
====== ======
</TABLE>
No valuation allowance on deferred tax assets has been established as management
believes that it is more likely than not that the existing deductible temporary
differences will reverse during periods in which Coastal generates net taxable
income.
In years prior to 1996, Coastal was permitted under the IRC to deduct an annual
addition to a reserve for bad debts in determining taxable income. This
addition differs from the provision for loan losses for financial reporting
purposes. Due to recently enacted legislation, Coastal will no longer be able
to utilize a reserve method for determining the bad debt deduction but will be
allowed to deduct actual charge-offs. Further, Coastal's post-1987 tax bad debt
reserve will be recaptured into income. The reserve will be recaptured over a
six year period. At December 31, 1997, Coastal had approximately $3,935,000 of
post-1987 tax bad debt reserves, for which deferred taxes have been provided.
Coastal is not required to provide deferred taxes on its pre-1988 (base year)
tax bad debt reserve of $928,000. This reserve may be included in taxable
income in future years if the Bank pays dividends in excess of its accumulated
earnings and profits (as defined in the IRC) or in the event of a distribution
in partial or complete liquidation of the Bank.
(18) SAVINGS ASSOCIATION INSURANCE FUND ("SAIF") INSURANCE SPECIAL ASSESSMENT
On September 30, 1996, Coastal recorded the one-time SAIF insurance special
assessment (the "special assessment") of $7,455,000 as a result of the Deposit
Insurance Funds Act of 1996 (the "Act") being signed into law. The special
assessment pursuant to the Act was 65.7 basis points on the SAIF deposit assess-
ment base as of March 31, 1995.
(19) STOCK COMPENSATION PROGRAMS
In December 1991, the Board of Directors adopted the 1991 Stock Compensation
Program ("the 1991 Program") for the benefit of officers and other selected key
employees of Coastal. The 1991 Program was approved by stockholders in December
1991. Four kinds of rights, evidenced by four plans, are contained in the
Program and are available for grant: incentive stock options, compensatory
stock options, stock appreciation rights and performance share awards. The
maximum aggregate number of shares of Common Stock available pursuant to the
Program was equal to 10% of Coastal's issued and outstanding shares of Common
Stock. Coastal reserved the shares for future issuance under the Program. The
stock options were granted at a price not less than the fair market value on the
date of the grant, are exercisable ratably over a four year period and may be
outstanding for a period up to ten years from the date of grant. Generally, no
stock option may be exercised until the employee has remained in the continuous
employ of Coastal for six months after the option was granted.
On March 23, 1995, the Board of Directors adopted the 1995 Stock Compensation
Program ("the New Program"). The New Program is substantially similar to the
1991 Program and was approved by stockholders in April 1995. The Board reserved
255,261 shares of Common Stock for issuance under the New Program.
Coastal applies APB Opinion No. 25 and related interpretations in accounting for
its stock compensation programs. Accordingly, no compensation cost has been
recognized for its stock option rights. Had Coastal determined compensation
cost based on the fair value at the grant date for its stock options under
Statement 123, Coastal's net income available to common stockholders and diluted
earnings per share would have been reduced to the pro forma amounts indicated
below.
<PAGE>
<TABLE>
<CAPTION>
Years ended December 31,
---------------------------------
1997 1996 1995
------- ------ ------
<S> <C> <C> <C> <C> <C> <C>
Net income available to common
stockholders (in thousands):
As reported $11,563 $6,951 $8,542
Pro forma $11,169 $6,739 $8,446
Diluted earnings per share:
As reported $ 2.25 $ 1.38 $ 1.71
Pro forma $ 2.17 $ 1.34 $ 1.69
</TABLE>
Pro forma net income and diluted earnings per share reflect only options granted
in 1997, 1996 and 1995. Therefore, the full impact of calculating compensation
cost for stock options under Statement 123 is not reflected in the pro forma net
income or diluted earnings per share amounts presented above because
compensation cost is reflected over the options' vesting period of 4 years and
compensation cost for options granted prior to January 1, 1995 is not
considered.
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option-pricing model with the following weighted average
assumptions used for grants in 1997, 1996 and 1995:
<TABLE>
<CAPTION>
1997 1996 1995
------------ ------------ ------------
<S> <C> <C> <C>
Assumptions:
Expected annual dividends $0.48/share $0.40/share $0.32/share
Expected volatility 22.30% 20.97% 23.24%
Risk-free interest rate 6.87% 6.46% 6.38%
Expected life 10 years 10 years 10 years
</TABLE>
<PAGE>
A summary of the status of the stock options as of December 31, 1997, 1996 and
1995 and changes during the years then ended is as follows:
<TABLE>
<CAPTION>
1997 1996 1995
--------- --------- ---------
Weighted- Weighted- Weighted-
Number Average Number Average Number Average
of Exercise of Exercise of Exercise
Shares Price Shares Price Shares Price
--------- ---------- --------- ---------- --------- ----------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning
of year 340,087 $ 14.989 242,907 $ 13.828 178,611 $ 13.084
Granted 125,400 23.526 112,000 17.383 77,446 15.500
Exercised (41,985) 13.869 (9,071) 12.372 (5,249) 11.088
Forfeited (10,605) 20.291 (5,749) 16.733 (7,901) 15.214
-------- ---------- -------- ---------- --------- ----------
Outstanding at end
of year 412,897 $ 17.559 340,087 $ 14.989 242,907 $ 13.828
======== ========== ======== ========== ========= ==========
Options exercisable at
end of year 253,861 209,999 151,141
======= ======= =======
Weighted-Average fair
value of options
granted during the year
(per share) $ 9.28 $ 6.56 $ 7.83
======= ======= =======
</TABLE>
The following table summarizes information about stock options outstanding
at December 31, 1997:
<TABLE>
<CAPTION>
Options outstanding
----------------------------------------------------------
Weighted-Average Weighted-average
Number Remaining Exercise Price
Range of Exercise Prices Outstanding Contractual Life
- ------------------------- ------------------- ---------------- -------------------
<S> <C> <C> <C>
10.625 to $12.875 90,136 5.0 years $ 11.564
15.500 to $18.750 203,461 7.7 years $ 16.693
22.750 to $30.500 119,300 9.4 years $ 23.565
------------------- ------------- $ -------
412,897 7.6 years 17.559
=================== ============= $ =======
Options exercisable
-------------------------------------------
Number Weighted-Average
Range of Exercise Prices Exercisable Exercise Price
- ------------------------- ------------------------- ----------------
<S> <C> <C>
10.625 to $12.875 90,136 $ 11.564
15.500 to $18.750 135,150 $ 16.600
22.750 to $30.500 28,575 $ 23.262
------------------- ---------------
253,861 $ 15.562
=================== ===============
</TABLE>
(20) EMPLOYEE BENEFITS
Coastal maintains a 401(k) profit sharing plan. Coastal's contributions to this
plan were approximately $157,000, $105,000 and $94,000 for the years ended
December 31, 1997, 1996 and 1995, respectively. Pursuant to this plan,
employees can contribute up to 15% of their qualifying compensation into the
plan. Beginning January 1, 1990, Coastal has matched 25% of the employee
contributions up to 15% of their qualifying compensation.
<PAGE>
(21) EARNINGS PER SHARE
The following summarizes information related to the computation of basic and
diluted EPS for the years ended December 31, 1997, 1996 and 1995 (dollars in
thousands, except per share data).
<TABLE>
<CAPTION>
1997 1996 1995
---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Net income available to common
stockholders $ 11,563 $ 6,951 $ 8,542
========== ========== ==========
Weighted average number of common shares
outstanding used in basic EPS calculation 4,983,994 4,962,456 4,955,731
Add assumed exercise of outstanding stock
options as adjustments for dilutive securities 164,436 75,461 35,642
---------- ---------- ----------
Weighted average number of common shares
outstanding used in diluted EPS calculation 5,148,430 5,037,917 4,991,373
========== ========== ==========
Basic EPS $ 2.32 $ 1.40 $ 1.72
========== ========== ==========
Diluted EPS $ 2.25 $ 1.38 $ 1.71
========== ========== ==========
</TABLE>
(22) COASTAL BANC SSB PREFERRED STOCK
On October 21, 1993, the Bank issued 1,150,000 shares of 9.0% Noncumulative
Preferred Stock, no par Series A, at a price of $25 per share to the public.
Dividends on the Preferred Stock are payable quarterly at the annual rate of
$2.25 per share, when, as and if declared by the Board of Directors of the Bank.
At any time on or after December 15, 1998, the Preferred Stock may be redeemed
in whole or in part only at the Bank's option at $25 per share plus unpaid
dividends (whether or not earned or declared) for the then current dividend
period to the date fixed for redemption.
(23) STOCKHOLDERS' EQUITY
On April 24, July 24 and October 23, 1997, Coastal declared a dividend of $0.12
per share of Common Stock outstanding for the stockholders of record of May 15,
August 15, and November 15, 1997, respectively. Prior to April 24, 1997,
Coastal declared a dividend of $0.10 per share of Common Stock outstanding for
the stockholders of record of February 15, 1997.
On January 25, April 25, July 25, and October 24, 1996, Coastal declared a
dividend of $0.10 per share of Common Stock outstanding for the stockholders of
record of February 15, May 15, August 15, and November 15, 1996, respectively.
On January 26, April 27, July 27, and October 26, 1995, Coastal declared a
dividend of $0.08 per share of Common Stock outstanding for the stockholders of
record on February 21, May 15, August 15, and November 15, 1995, respectively.
(24) COMMITMENTS AND CONTINGENCIES
Coastal is involved in various litigation arising from acquired entities as well
as in the normal course of business. In the opinion of management, the ultimate
liability, if any, from these actions should not be material to the consolidated
financial statements.
<PAGE>
At December 31, 1997, the minimum rental commitments under all noncancelable
operating leases with initial or remaining terms of more than one year were as
follows (in thousands):
<TABLE>
<CAPTION>
<S> <C> <C>
Year ending
December 31, Amount
- --------------------- -------
1998 $ 2,376
1999 2,225
2000 2,182
2001 2,134
2002 and thereafter 18,297
</TABLE>
Rent expense for the years ended December 31, 1997, 1996 and 1995 amounted to
approximately $2,290,000, $2,000,000 and $1,465,000, respectively.
(25) REGULATORY MATTERS
The Bank is subject to various regulatory capital requirements administered by
the Federal Deposit Insurance Corporation ("FDIC"). Failure to meet minimum
capital requirements can initiate certain mandatory--and possibly additional
discretionary--actions by regulators that, if undertaken, could have a direct
material effect on the Bank's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, the Bank
must meet specific capital guidelines that involve quantitative measures of the
Bank's assets, liabilities, and certain off-balance-sheet items as calculated
under regulatory accounting practices. The Bank's capital amounts and
classification are also subject to qualitative judgments by the regulators about
components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios (as defined in the
applicable regulations) of Tier 1 (core) capital to total assets, Tier 1
risk-based capital to risk weighted assets and total risk-based capital to
risk-weighted assets. Management believes, as of December 31, 1997, that the
Bank met capital adequacy requirements to which it is subject.
As of December 31, 1997, the most recent notification from the FDIC categorized
the Bank as well capitalized under the regulatory framework for prompt
corrective action. To be categorized as well capitalized the Bank must maintain
minimum Tier 1 (core), Tier 1 risk-based and total risk-based ratios as set
forth in the table below. There are no conditions or events since that
notification that management believes have changed the institution's category.
<PAGE>
The Bank's regulatory capital amounts and ratios, as of December 31, 1997 and
1996, in relation to its existing regulatory capital requirements for capital
adequacy purposes as of such dates are as follows (dollars in thousands):
<TABLE>
<CAPTION>
Minimum For Capital Well-Capitalized
Actual Adequacy Purposes Requirements
-------------------- ---------------- ---------------
Capital Requirement Amount Ratio Amount Ratio Amount Ratio
- ------------------------- -------- ---------- -------- ------ ------- ------
<S> <C> <C> <C> <C> <C> <C>
As of December 31, 1997:
Tier 1 (core) $160,781 5.52% $116,570 4.00% 145,713 5.00%
Tier 1 risk-based 160,781 11.46 56,136 4.00 84,204 6.00
Total risk-based 168,193 11.98 112,271 8.00 140,339 10.00
As of December 31, 1996:
Tier 1 (core) $152,932 5.35% $114,377 4.00% 142,971 5.00%
Tier 1 risk-based 152,932 11.77 51,970 4.00 77,955 6.00
Total risk-based 159,812 12.30 103,940 8.00 129,925 10.00
</TABLE>
(26) PARENT COMPANY FINANCIAL INFORMATION
Condensed financial information for Coastal Bancorp, Inc. is as follows (in
thousands):
<TABLE>
<CAPTION>
Coastal Bancorp, Inc.
Statements of Financial Condition
December 31,
---------------------------------
1997 1996
-------- --------
<S> <C> <C> <C> <C>
Assets:
Cash and cash equivalents $ 1,570 $ 871
Investment in subsidiary 145,550 136,675
Mortgage-backed securities
held-to-maturity 1,761 2,079
Other assets 6,731 5,125
-------- --------
Total assets $155,612 $144,750
======== ========
Liabilities and stockholders'
equity:
Senior Notes payable $ 50,000 $ 50,000
Other liabilities 782 602
-------- --------
Total liabilities 50,782 50,602
Total stockholders'
equity 104,830 94,148
-------- --------
Total liabilities and
stockholders' equity $155,612 $144,750
======== ========
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Coastal Bancorp, Inc.
Statements of Operations
------------------------
Years ended December 31,
1997 1996 1995
------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
Income:
Dividends from subsidiary $ 7,293 $ 7,001 $ 4,093
Equity in undistributed earnings of
subsidiary, net of income tax 7,946 3,686 6,332
Interest income 131 143 66
------- ------- -------
Total income 15,370 10,830 10,491
------- ------- -------
Expense:
Interest expense 5,000 5,000 2,500
Noninterest expense 786 891 464
------- ------- -------
Total expense 5,786 5,891 2,964
------- ------- -------
Federal income tax benefit 1,979 2,012 1,015
------- ------- -------
Net income available
to common stockholders $11,563 $ 6,951 $ 8,542
======= ======= =======
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Coastal Bancorp, Inc.
Statements of Cash Flows
------------------------
Years ended December 31,
1997 1996 1995
-------- -------- ---------
<S> <C> <C> <C> <C> <C> <C>
Cash flows from operating activities:
Net income available to common stockholders $11,563 $ 6,951 $ 8,542
Adjustments to reconcile net income to net
cash provided by operating activities:
Equity in undistributed earnings of subsidiary (7,946) (3,686) (6,332)
Net increase in other assets and other liabilities (1,426) (1,262) (890)
-------- -------- ---------
Net cash provided by operating activities 2,191 2,003 1,320
-------- -------- ---------
Cash flows from investing activities:
Transfer of mortgage-backed securities
From subsidiary -- -- (2,517)
Net decrease in mortgage-backed securities 318 336 102
Investment in subsidiary (100) -- (44,930)
-------- -------- ---------
Net cash provided (used) by investing activities 218 336 (47,345)
-------- -------- ---------
Cash flows from financing activities:
Exercise of stock options for purchase of
Common stock 582 112 58
Issuance of Senior Notes payable, net -- -- 47,635
Dividends paid (2,292) (1,985) (1,585)
-------- -------- ---------
Net cash provided (used) by financing activities (1,710) (1,873) 46,108
-------- -------- ---------
Net increase in cash and cash equivalents 699 466 83
Cash and cash equivalents at beginning of year 871 405 322
-------- -------- ---------
Cash and cash equivalents at end of year $ 1,570 $ 871 $ 405
======== ======== =========
</TABLE>
<PAGE>
(27) SELECTED QUARTERLY FINANCIAL DATA
Selected quarterly financial data is presented in the following tables for the
years ended December 31, 1997 and 1996 (in thousands, except per share data):
<TABLE>
<CAPTION>
1997 Quarter Ended (unaudited)
March 31, June 30, September 30, December 31,
---------- --------- -------------- -------------
<S> <C> <C> <C> <C>
Interest income $ 49,604 $ 49,898 $ 51,251 $ 50,603
Interest expense 34,956 35,634 37,052 36,781
---------- --------- -------------- -------------
Net interest income 14,648 14,264 14,199 13,822
Provision for loan losses 450 450 450 450
Gain on sales of mortgage-backed
Securities available-for-sale -- -- 237 --
Noninterest income 1,469 1,550 1,506 1,622
Noninterest expense 9,557 9,894 10,175 9,918
---------- --------- -------------- -------------
Income before provision
for Federal income taxes 6,110 5,470 5,317 5,076
Federal income taxes 2,225 2,004 1,953 1,640
Preferred stock dividends of
Coastal Banc ssb 647 647 647 647
---------- --------- -------------- -------------
Net income available to common
Stockholders $ 3,238 $ 2,819 $ 2,717 $ 2,789
========== ========= ============== =============
Basic earnings per share $ 0.65 $ 0.57 $ 0.54 $ 0.56
========== ========= ============== =============
Diluted earnings per share $ 0.63 $ 0.55 $ 0.52 $ 0.54
========== ========= ============== =============
</TABLE>
<TABLE>
<CAPTION>
1996 Quarter Ended (unaudited)
March 31, June 30, September 30, December 31,
---------- --------- --------------- -------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest income $ 48,554 $ 48,200 $ 48,242 $ 49,615
Interest expense 34,707 33,902 34,228 35,348
---------- --------- --------------- -------------
Net interest income 13,847 14,298 14,014 14,267
Provision for loan losses 575 450 450 450
Gain on sale of branch office -- 521 -- --
Noninterest income 1,295 1,289 1,419 1,567
Noninterest expense 9,140 9,897 9,593 9,297
SAIF insurance special assessment -- -- 7,455 --
---------- --------- --------------- -------------
Income (loss) before provision
for Federal income taxes 5,427 5,761 (2,065) 6,087
Federal income taxes 1,987 2,103 (636) 2,217
Preferred stock dividends of
Coastal Banc ssb 647 647 647 647
---------- --------- --------------- -------------
Net income (loss) available to
Common stockholders $ 2,793 $ 3,011 $ (2,076) $ 3,223
========== ========= =============== =============
Basic earnings (loss) per share $ 0.56 $ 0.61 $ (0.42) $ 0.65
========== ========= =============== =============
Diluted earnings (loss) per share $ 0.56 $ 0.60 $ (0.41) $ 0.63
========== ========= =============== =============
</TABLE>
STOCK PRICES AND DIVIDENDS
The following table sets forth the high and low price range and dividends by
quarter for the two years ended December 31, 1997 of the Common Stock of Bancorp
("CBSA") and the Series A Preferred Stock of the Bank ("CBSAP") as listed and
quoted on the NASDAQ National Market System.
COASTAL BANCORP, INC. COMMON STOCK:
<TABLE>
<CAPTION>
1997 1996
---------------------------- -----------------------------
High Low Dividends High Low Dividends
------- ------- ---------- ------- ------- ----------
<S> <C> <C> <C> <C> <C> <C>
First Quarter $28.250 $22.375 $ 0.100 $18.750 $16.625 $ 0.100
Second Quarter 29.750 22.750 0.120 18.875 17.000 0.100
Third Quarter 33.250 29.000 0.120 20.375 16.500 0.100
Fourth Quarter 35.000 28.125 0.120 24.750 19.875 0.100
</TABLE>
COASTAL BANC SSB PREFERRED STOCK, SERIES A:
<TABLE>
<CAPTION>
1997 1996
---------------------------- -----------------------------
High Low Dividends High Low Dividends
------- ------- ---------- ------- ------- ----------
<S> <C> <C> <C> <C> <C> <C>
First Quarter $25.500 $25.000 $ 0.563 $25.750 $24.750 $ 0.563
Second Quarter 25.500 24.875 0.563 24.875 24.500 0.563
Third Quarter 26.000 25.125 0.563 25.250 24.625 0.563
Fourth Quarter 25.625 25.000 0.563 25.250 24.875 0.563
</TABLE>
Coastal Bancorp, Inc.
STOCKHOLDER INFORMATION
ANNUAL MEETING
The Annual Meeting of Stockholders of Coastal Bancorp, Inc. will be held at the
corporate offices of Coastal Bancorp, Inc. at 5718 Westheimer, Houston, Texas in
the Coastal Banc auditorium, Suite 1101, on April 23, 1998 at 11:00 a.m.
TRANSFER AGENT AND REGISTRAR
ChaseMellon Shareholder Services, L.L.C.
Overpeck Centre
85 Challenger Road
Ridgefield Park, New Jersey 07660
(800) 851-9677
www.chasemellon.com
INDEPENDENT AUDITORS
KPMG Peat Marwick LLP
700 Louisiana Street, Suite 2700
Houston, Texas 77002
SPECIAL COUNSEL
Elias, Matz, Tiernan & Herrick L.L.P.
734 15th Street, N.W.
Washington, D.C. 20005
INQUIRIES, PUBLICATIONS AND FINANCIAL INFORMATION (INCLUDING COPIES OF THE
ANNUAL REPORT AND FORM 10-K)
Manuel J. Mehos
Chairman of the Board
and Chief Executive Officer
or
Catherine N. Wylie
Executive Vice President
and Chief Financial Officer
Coastal Bancorp, Inc.
Coastal Banc Plaza
5718 Westheimer, Suite 600
Houston, Texas 77057
(713) 435-5000
www.coastalbanc.com
STOCK LISTING AND OTHER INFORMATION
The common stock of Coastal Bancorp, Inc. is listed on the over-the-counter
market and quoted on the NASDAQ National Market System under the symbol "CBSA."
As of February 26, 1998, there were 5,035,030 shares of Common Stock of Coastal
Bancorp, Inc. issued and outstanding and the approximate number of registered
stockholders was 29, representing approximately 1,500 beneficial stockholders at
such record date.
On March 25, 1992, Coastal Banc Savings Association (the "Association")
issued 2,061,384 shares of Common Stock at $12.50 per share in its initial
public offering. As of such date, the Common Stock of the Association became
registered under the Securities Exchange Act of 1934 and also became listed for
quotation on the NASDAQ National Market System. The Common Stock issued by the
Association became the Common Stock of Coastal Bancorp, Inc. on July 29, 1994,
as a result of the holding company reorganization of the Association.
On October 21, 1993, the Association issued 1,150,000 shares of 9.0%
Noncumulative Preferred Stock, Series A, at $25.00 per share. As of such date,
the Preferred Stock of the Association became registered under the Securities
Exchange Act of 1934. After the reorganization into a holding company form of
ownership and conversion of the Association to a Texas-chartered savings bank,
the Preferred Stock of the Association became the Preferred Stock of Coastal
Banc ssb. The Preferred Stock is redeemable at any time on or after December
15, 1998, only at the option of the Bank, in whole or in part, at a redemption
price of $25.00 per share plus accrued and unpaid dividends. The Preferred
Stock is listed and quoted on the NASDAQ National Market System under the symbol
"CBSAP." As of February 26, 1998, there were 1,150,000 shares of Preferred
Stock issued and outstanding and held by approximately 197 registered
stockholders, representing approximately 1,900 beneficial stockholders at such
record date.
Coastal declared dividends on the Common Stock payable during 1997.
Quarterly dividends in the amount of $.10 per share were paid on March 15, 1997,
and quarterly dividends in the amount of $.12 per share were paid on June 15,
1997, September 15, 1997 and December 15, 1997. On March 15, 1998, Coastal paid
a quarterly dividend in the amount of $.12 per share on its Common Stock.
Coastal will continue to review its dividend policy in view of the operating
performance of the Bank, and may declare dividends on the Common Stock in the
future if such payments are deemed appropriate and in compliance with applicable
law and regulations. Prior to the declaration of dividends, Coastal must notify
the Office of Thrift Supervision, the holding company's primary federal
regulator, which may object to the dividends on the basis of safety and
soundness.
EXHIBIT 10.3
CHANGE-IN-CONTROL SEVERANCE AGREEMENTS
EXECUTIVE SEVERANCE AGREEMENT
THIS AGREEMENT is entered into and effective this 26th day of June, 1997,
("Effective Date") by and between Coastal Bancorp, Inc. (the "Company") and
Coastal Banc ssb (the "Bank") and Catherine N. Wylie (the "Employee").
WHEREAS, the Employee had heretofore been employed by the Company and the
Bank as an executive officer, and the Company and the Bank deems it to be in
their best interest to enter into this Agreement as additional incentive to the
Employee to continue as an executive employee of the Company and the Bank; and
WHEREAS, the parties desire by this writing to set forth their
understanding as to their respective rights and obligations in the event a
"change in control" (as defined herein) occurs with respect to the Bank or the
Company;
NOW, THEREFORE, the undersigned parties AGREE as follows:
1. Defined Terms
--------------
When used anywhere in the Agreement, the following terms shall have
the meaning set forth herein.
(a) "Change in Control" shall mean any one of the following
events: (i) where, during any period of two consecutive years, individuals (the
"Continuing Directors") who at the beginning of such period constitute the Board
of Directors of the Bank or the Company (the "Existing Board") cease for any
reason to constitute at least two-thirds thereof, provided that any individual
whose election or nomination for election as a member of the Existing Board was
approved by a vote of at least two-thirds of the Continuing Directors then in
office shall be considered a Continuing Director following: (A) the acquisition
by a person of ownership, holding or power to vote more than 25% of the Bank's
or the Company's voting stock, (B) the acquisition by any person of the ability
to control the election of a majority of any class or classes of the Bank's or
the Company's directors, or (C) the acquisition of a controlling influence over
the management or policies of the Bank or the Company defined as set forth in 12
C.F.R. 574.4(b),(c) and (d) by any person or to persons acting as a "group"
(within the meaning of Section 13(d) of the Securities Exchange Act of 1934), or
(ii) the sale, exchange, lease, transfer or other disposition (in one or more
transactions) to any person of all or a substantial part of the assets,
liabilities or business of the Company or the Bank, (iii) any merger or
consolidation or share exchange of the Company or the Bank with any other person
which subsequent thereto the Company or the Bank is not the surviving entity, or
(iv) any change in business of the Company or the Bank such that the Company
does not own the voting stock of an insured depository institution or the
business of the Bank is not as an insured depository institution.
Notwithstanding the foregoing, in the case of (i) or (ii) or (iii) hereof,
change of ownership or control of the Bank by the Company itself to or among
direct or indirect wholly-owned subsidiaries of the Company shall not constitute
a Change in Control. For purposes of this paragraph only, the term "person"
refers to an individual or a corporation, limited liability company,
partnership, trust, association, joint venture, pool, syndicate, sole
proprietorship, unincorporated organization or any other form of entity not
specifically listed herein. The decision of the Bank's non-employee directors
as to whether or not a Change in Control, as defined herein, has occurred, and
the date of such occurrence, shall be conclusive and binding.
(b) "Code" shall mean the Internal Revenue Code of 1986, as amended
from time to time, and as interpreted through applicable rulings and regulations
in effect from time to time.
(c) "Code 280G Maximum" shall mean product of 2.99 and the "base
amount" as defined in Code 280G(b)(3).
(d) "Good Reason" shall mean any of the following events, which has not
been consented to in advance by the Employee in writing: (i) the requirement
that the Employee move his personal residence, or perform his principal
executive functions, more than thirty (30) miles from his primary office as of
the date of the Change in Control; (ii) a material (defined to be 10% or more)
reduction in the Employee's base compensation as in effect on the date of the
Change in Control or as the same may be increased from time to time; (iii) a
successor to the Company or the Bank fails or refuses to assume the Company's
and the Bank's obligations under this Agreement; (iv) the Company, the Bank or
successor thereto breaches any provision of this Agreement; or (v) the Employee
is terminated for other than just cause after the Change in Control.
(e) "Just Cause" shall mean, in the good faith determination of the
Company's and the Bank's Boards of Directors, the Employee's personal
dishonesty, incompetence, willful misconduct, breach of fiduciary duty involving
personal profit, intentional failure to perform stated duties, willful violation
of any law, rule or regulation (other than traffic violations or similar
offenses) or final cease-and-desist order, or material breach of any provision
of this Agreement. The Employee shall have the right to make a presentation to
the Board of Directors with counsel prior to the rendering of such determination
by the Board. The Employee shall have no right to receive compensation or other
benefits for any period after termination for Just Cause. No act, or failure to
act, on the Employee's part shall be considered "willful" unless he has acted,
or failed to act, with an absence of good faith and without a reasonable belief
that his action or failure to act was in the best interest of the Bank and the
Company.
(f) "Protected Period" shall mean the period that begins on the date
six months before a Change in Control and ends on the later of the third annual
anniversary of the Change in Control or the expiration date of this Agreement.
2. Trigger Events
---------------
The Employee shall be entitled to collect the severance benefits set forth
in Section 3 of this Agreement in the event that (a) a Change of Control has
occurred and the Employee voluntarily terminates his employment within the
30-day period beginning on the first anniversary of the date of the occurrence
of a Change in Control, (b) the Employee voluntarily terminates employment
within 90 days of an event that both occurs during the Protected Period and
constitutes Good Reason, or (c) the Bank, the Company, or their successor(s) in
interest terminate the Employee's employment for any reason other than Just
Cause during the Protected Period.
3. Amount of Severance Benefit
------------------------------
(a) If the Employee becomes entitled to collect severance benefits
pursuant to Section 2(a) hereof, the Company and/or the Bank shall pay Employee
one (1) times the annual salary and bonus or incentive compensation (not
including stock compensation plans) paid to Employee by the Company and/or the
Bank during the immediately preceding year of the term of employment, such sum
to be paid within five (5) days of the date that Employee's employment actually
ceases.
(b) If the Employee becomes entitled to collect severance benefits
pursuant to Section 2(b) or 2(c) hereof, the Company and/or the Bank shall pay
Employee 2.99 times the annual salary and bonus or incentive compensation (not
including stock compensation plans) paid to Employee by the Company and/or the
Bank during the immediately preceding year of the term of employment, such sum
to be paid within five (5) days of the date that Employee's employment actually
ceases.
(c) The provisions of this Agreement shall not reduce any amounts
otherwise payable to the Employee or in any way diminish the employee's rights,
whether existing now or hereafter under any benefit plan of the Company or the
Bank. The Employee shall not be obligated to mitigate any payments entitled to
be received hereunder.
(d) The foregoing payments and benefits shall be paid to the Employee's
beneficiaries by testate or intestate succession in the event of Employee's
death during the period during which such payments and benefits are being
provided.
(e) In the event that the Employee and the Company or the Bank, as the
case may be (hereinafter, in this Section 3(e), the "Company") agree that the
Employee has collected an amount exceeding the Code 280G Maximum, the parties
agree as follows:
(i) In the calendar year that the Employee is entitled to receive
a payment or benefits under the provisions of this Agreement, the independent
accountants of the Company shall determine if an excess parachute payment (as
defined in Section 4999 of the Code, as amended, and any successor provision
thereto) exists.
Such determination shall be made after taking any reductions
permitted pursuant to Section 280G of the Code and the regulations thereunder.
Any amount determined to be an excess parachute payment after taking into
account such reductions shall be hereafter referred to as the "Initial Excess
Parachute Payment". As soon as practicable after a Change in Control of the
Company or the Bank, the Initial Excess Parachute Payment shall be determined.
Immediately following a Change in Control of the Company or the Bank, the
Company or the Bank shall pay the Employee, subject to applicable withholding
requirements under applicable state or federal law an amount equal to:
(a) twenty (20) percent of the Initial Excess Parachute Payment (or such
other amount equal to the tax imposed under Section 4999 of the Code), and
(b) such additional amount (tax allowance) as may be necessary to compensate
the Employee for the payment by the Employee of state and federal income and
excise taxes on the payment provided under Clause (a) and on any payments under
this Clause (b). In computing such tax allowance, the payment to be made under
Clause (a) shall be multiplied by the "gross up percentage" ("GUP"). The GUP
shall be determined as follows:
GUP = Tax Rate
---------
1 - Tax Rate
The Tax Rate for purposes of computing the GUP shall be the highest marginal
federal and state income and employment-related tax rate, including any
applicable excise tax rate, applicable to the Employee in the year in which the
payment under Clause (a) is made.
(ii) Notwithstanding the foregoing, if it shall subsequently be
determined in a final judicial determination or a final administrative
settlement to which the Employee is a party that the excess parachute payment is
defined in Section 4999 of the Code, reduced as described above, is different
from the Initial Excess Parachute Payment (such different amount being hereafter
referred to as the "Determinative Excess Parachute Payment") then the Company's
independent accountants shall determine the amount (the "Adjustment Amount") the
Employee must pay to the Company or the Bank or the Company or the Bank must pay
to the Employee in order to put the Employee (or the Company or the Bank, as the
case may be) in the same position the Employee (or the Company or the Bank, as
the case may be) would have been if the Initial Excess Parachute Payment had
been equal to the Determinative Excess Parachute Payment. In determining the
Adjustment Amount, the independent accountants shall take into account any and
all taxes (including any penalties and interest) paid by or for the Employee or
refunded to the Employee or for the Employee's benefit. As soon as practicable
after the Adjustment Amount has been so determined, the Company or the Bank
shall pay the Adjustment Amount to the Employee or the Employee shall repay the
Adjustment Amount to the Company or the Bank, as the case may be.
(iii) In any calendar year that the Employee receives payments of
benefits under this Agreement, the Employee shall report on his state and
federal income tax returns such information as is consistent with the
determination made by the independent accountants of the Company as described
above. The Company and the Bank shall indemnify and hold the Employee harmless
from any and all losses, costs and expenses (including without limitation,
reasonable attorney's fees, interest, fines and penalties) which the Employee
incurs as a result of so reporting such information. Employee shall promptly
notify the Company and the Bank in writing whenever the Employee receives notice
of the institution of a judicial or administrative proceeding, formal or
informal, in which the federal tax treatment under Section 4999 of the Code of
any amount paid or payable under this the Employment Agreement is being reviewed
or is in dispute. The Company or the Bank shall assume control at its expense
over all legal and accounting matters pertaining to such federal tax treatment
(except to the extent necessary or appropriate for the Employee to resolve any
such proceeding with respect to any matter unrelated to amounts paid or payable
pursuant to this contract) and the Employee shall cooperate fully with the
Company or the Bank in any such proceeding. The Employee shall not enter into
any compromise or settlement or otherwise prejudice any rights the Company or
the Bank may have in connection therewith without prior consent of the Company
or the Bank.
4. Term of the Agreement
------------------------
This Agreement shall remain in effect for the period commencing on the
Effective Date and ending on the earlier of (i) the date 36 months after the
Effective Date, and (ii) the date on which the Employee terminates employment
with the Company or the Bank; provided that the Employee's rights hereunder
shall continue following the termination of his employment with the Company or
the Bank under any of the circumstances described in Section 2 hereof.
5. Termination or Suspension Under Federal Law
------------------------------------------------
Any payments made to the Employee pursuant to this Agreement, or otherwise,
are subject to and conditioned upon their compliance with 12 U.S.C. 1828(k) and
any regulations promulgated thereunder.
6. Expense Reimbursement
----------------------
In the event that any dispute arises between the Employee and the Company
or the Bank as to the terms or interpretations of this Agreement, whether
instituted by formal legal proceedings or otherwise, including any action that
the Employee takes to enforce the terms of this Agreement or to defend against
any action taken by the Company or the Bank, the Employee shall be reimbursed
for all costs and expenses, including reasonable attorneys' fees, arising from
such dispute, proceedings or actions, provided that the Employee shall obtain a
final judgment in favor of the Employee in a court or competent jurisdiction or
in binding arbitration under the rules of the American Arbitration Association.
Such reimbursement, which may be in advance of any final judgment or
determination in arbitration, if requested in writing by the Employee, shall be
paid within ten (10) days of Employee's furnishing to the Company or the Bank
written evidence, which may be in the form, among other things, or a canceled
check or receipt, of any costs or expenses incurred by the Employee.
7. Successors and Assigns
------------------------
(a) This Agreement shall inure to the benefit of and be binding upon
any corporate or other successor or assign of the Company or the Bank which
shall acquire, directly or indirectly, by merger, consolidation, purchase or
otherwise, all or substantially all of the assets or stock of the Bank or
Company. This Agreement shall inure to the benefit of and be enforceable by the
Employee's personal and legal representatives, executors, administrators,
successors, heirs, devisees and legatees. If the Employee should die while any
amounts are still payable to him/her hereunder, all such amounts shall be paid
in accordance with the terms of this Agreement to the Employee's devisee,
legatee or other designee, or if there be no such designee, to the Employee's
Estate.
(b) Since the Company and the Bank are contracting for the unique and
personal skills of the Employee, the Employee shall be precluded from assigning
or delegating his rights or duties hereunder without first obtaining the written
consent of the Company or the Bank.
8. Amendments
----------
No amendments or additions to this Agreement shall be binding unless made
in writing and signed by all of the parties, except as herein otherwise
specifically provided. No waiver by either party hereto at any time of any
breach by the other party hereto, or of compliance with, any condition or
provision of this Agreement to be performed by such other party will be deemed
to be a waiver of similar or dissimilar provisions or conditions, at the same or
any prior or subsequent time.
9. Applicable Law
---------------
Except to the extent preempted by Federal law, the laws of the State of
Texas shall govern this Agreement in all respects, whether as to its validity,
construction, capacity, performance or otherwise.
10. Severability
------------
The provisions of this Agreement shall be deemed severable and the
invalidity or unenforceability of any provision shall not affect the validity or
enforceability of the other provisions hereof.
11. Entire Agreement
-----------------
This Agreement, together with any understanding or modifications thereof as
agreed to in writing by the parties, shall constitute the entire agreement
between the parties hereto.
12. Notices
-------
For purposes of this Agreement, notices and other communications provided
for in this Agreement shall be in writing and shall be deemed to have been duly
given when delivered or mailed by U.S. registered or certified mail, return
receipt requested, postage prepaid, as follows: If to the Company or the Bank:
Chairman of the Board and Chief Executive Officer, Coastal Bancorp, Inc., 5718
Westheimer, Suite 600, Houston, Texas 77057. If to the Employee:
Catherine N. Wylie
3225 Bellefontaine
Houston, Texas 77025
Signature Page to Follow
<PAGE>
IN WITNESS WHEREOF, the parties have executed this Agreement on the day and
year first herein above written.
ATTEST: COASTAL BANCORP, INC.
/s/ Linda B. Frazier By: /s/ Manuel J. Mehos
- ------------------------- ----------------------------
Secretary Manuel J. Mehos,
Chairman of the Board
and Chief Executive Officer
By: /s/ James C. Niver
-----------------------------
James C. Niver
Chairman, Compensation Committee
ATTEST: COASTAL BANC SSB
/s/ Linda B. Frazier By: /s/ Manuel J. Mehos
- ------------------------- ----------------------------
Secretary Manuel J. Mehos,
Chairman of the Board
and Chief Executive Officer
WITNESS
/s/ Pamela S. Watkins By: /s/ Catherine N. Wylie
- -------------------------- ---------------------------
Pamela S. Watkins Gary R. Garrett
Executive Vice President/
Chief Financial Officer
<PAGE>
EXECUTIVE SEVERANCE AGREEMENT
THIS AGREEMENT is entered into and effective this 26th day of June, 1997,
("Effective Date") by and between Coastal Bancorp, Inc. (the "Company") and
Coastal Banc ssb (the "Bank") and Gary R. Garrett (the "Employee").
WHEREAS, the Employee had heretofore been employed by the Company and the
Bank as an executive officer, and the Company and the Bank deems it to be in
their best interest to enter into this Agreement as additional incentive to the
Employee to continue as an executive employee of the Company and the Bank; and
WHEREAS, the parties desire by this writing to set forth their
understanding as to their respective rights and obligations in the event a
"change in control" (as defined herein) occurs with respect to the Bank or the
Company;
NOW, THEREFORE, the undersigned parties AGREE as follows:
1. Defined Terms
--------------
When used anywhere in the Agreement, the following terms shall have
the meaning set forth herein.
(a) "Change in Control" shall mean any one of the following
events: (i) where, during any period of two consecutive years, individuals (the
"Continuing Directors") who at the beginning of such period constitute the Board
of Directors of the Bank or the Company (the "Existing Board") cease for any
reason to constitute at least two-thirds thereof, provided that any individual
whose election or nomination for election as a member of the Existing Board was
approved by a vote of at least two-thirds of the Continuing Directors then in
office shall be considered a Continuing Director following: (A) the acquisition
by a person of ownership, holding or power to vote more than 25% of the Bank's
or the Company's voting stock, (B) the acquisition by any person of the ability
to control the election of a majority of any class or classes of the Bank's or
the Company's directors, or (C) the acquisition of a controlling influence over
the management or policies of the Bank or the Company defined as set forth in 12
C.F.R. 574.4(b),(c) and (d) by any person or to persons acting as a "group"
(within the meaning of Section 13(d) of the Securities Exchange Act of 1934), or
(ii) the sale, exchange, lease, transfer or other disposition (in one or more
transactions) to any person of all or a substantial part of the assets,
liabilities or business of the Company or the Bank, (iii) any merger or
consolidation or share exchange of the Company or the Bank with any other person
which subsequent thereto the Company or the Bank is not the surviving entity, or
(iv) any change in business of the Company or the Bank such that the Company
does not own the voting stock of an insured depository institution or the
business of the Bank is not as an insured depository institution.
Notwithstanding the foregoing, in the case of (i) or (ii) or (iii) hereof,
change of ownership or control of the Bank by the Company itself to or among
direct or indirect wholly-owned subsidiaries of the Company shall not constitute
a Change in Control. For purposes of this paragraph only, the term "person"
refers to an individual or a corporation, limited liability company,
partnership, trust, association, joint venture, pool, syndicate, sole
proprietorship, unincorporated organization or any other form of entity not
specifically listed herein. The decision of the Bank's non-employee directors
as to whether or not a Change in Control, as defined herein, has occurred, and
the date of such occurrence, shall be conclusive and binding.
(b) "Code" shall mean the Internal Revenue Code of 1986, as amended
from time to time, and as interpreted through applicable rulings and regulations
in effect from time to time.
(c) "Code 280G Maximum" shall mean product of 2.99 and the "base
amount" as defined in Code 280G(b)(3).
(d) "Good Reason" shall mean any of the following events, which has not
been consented to in advance by the Employee in writing: (i) the requirement
that the Employee move his personal residence, or perform his principal
executive functions, more than thirty (30) miles from his primary office as of
the date of the Change in Control; (ii) a material (defined to be 10% or more)
reduction in the Employee's base compensation as in effect on the date of the
Change in Control or as the same may be increased from time to time; (iii) a
successor to the Company or the Bank fails or refuses to assume the Company's
and the Bank's obligations under this Agreement; (iv) the Company, the Bank or
successor thereto breaches any provision of this Agreement; or (v) the Employee
is terminated for other than just cause after the Change in Control.
(e) "Just Cause" shall mean, in the good faith determination of the
Company's and the Bank's Boards of Directors, the Employee's personal
dishonesty, incompetence, willful misconduct, breach of fiduciary duty involving
personal profit, intentional failure to perform stated duties, willful violation
of any law, rule or regulation (other than traffic violations or similar
offenses) or final cease-and-desist order, or material breach of any provision
of this Agreement. The Employee shall have the right to make a presentation to
the Board of Directors with counsel prior to the rendering of such determination
by the Board. The Employee shall have no right to receive compensation or other
benefits for any period after termination for Just Cause. No act, or failure to
act, on the Employee's part shall be considered "willful" unless he has acted,
or failed to act, with an absence of good faith and without a reasonable belief
that his action or failure to act was in the best interest of the Bank and the
Company.
(f) "Protected Period" shall mean the period that begins on the date
six months before a Change in Control and ends on the later of the third annual
anniversary of the Change in Control or the expiration date of this Agreement.
2. Trigger Events
---------------
The Employee shall be entitled to collect the severance benefits set forth
in Section 3 of this Agreement in the event that (a) a Change of Control has
occurred and the Employee voluntarily terminates his employment within the
30-day period beginning on the first anniversary of the date of the occurrence
of a Change in Control, (b) the Employee voluntarily terminates employment
within 90 days of an event that both occurs during the Protected Period and
constitutes Good Reason, or (c) the Bank, the Company, or their successor(s) in
interest terminate the Employee's employment for any reason other than Just
Cause during the Protected Period.
3. Amount of Severance Benefit
------------------------------
(a) If the Employee becomes entitled to collect severance benefits
pursuant to Section 2(a) hereof, the Company and/or the Bank shall pay Employee
one (1) times the annual salary and bonus or incentive compensation (not
including stock compensation plans) paid to Employee by the Company and/or the
Bank during the immediately preceding year of the term of employment, such sum
to be paid within five (5) days of the date that Employee's employment actually
ceases.
(b) If the Employee becomes entitled to collect severance benefits
pursuant to Section 2(b) or 2(c) hereof, the Company and/or the Bank shall pay
Employee 2.99 times the annual salary and bonus or incentive compensation (not
including stock compensation plans) paid to Employee by the Company and/or the
Bank during the immediately preceding year of the term of employment, such sum
to be paid within five (5) days of the date that Employee's employment actually
ceases.
(c) The provisions of this Agreement shall not reduce any amounts
otherwise payable to the Employee or in any way diminish the employee's rights,
whether existing now or hereafter under any benefit plan of the Company or the
Bank. The Employee shall not be obligated to mitigate any payments entitled to
be received hereunder.
(d) The foregoing payments and benefits shall be paid to the Employee's
beneficiaries by testate or intestate succession in the event of Employee's
death during the period during which such payments and benefits are being
provided.
(e) In the event that the Employee and the Company or the Bank, as the
case may be (hereinafter, in this Section 3(e), the "Company") agree that the
Employee has collected an amount exceeding the Code 280G Maximum, the parties
agree as follows:
(i) In the calendar year that the Employee is entitled to receive
a payment or benefits under the provisions of this Agreement, the independent
accountants of the Company shall determine if an excess parachute payment (as
defined in Section 4999 of the Code, as amended, and any successor provision
thereto) exists.
Such determination shall be made after taking any reductions
permitted pursuant to Section 280G of the Code and the regulations thereunder.
Any amount determined to be an excess parachute payment after taking into
account such reductions shall be hereafter referred to as the "Initial Excess
Parachute Payment". As soon as practicable after a Change in Control of the
Company or the Bank, the Initial Excess Parachute Payment shall be determined.
Immediately following a Change in Control of the Company or the Bank, the
Company or the Bank shall pay the Employee, subject to applicable withholding
requirements under applicable state or federal law an amount equal to:
(a) twenty (20) percent of the Initial Excess Parachute Payment (or such
other amount equal to the tax imposed under Section 4999 of the Code), and
(b) such additional amount (tax allowance) as may be necessary to compensate
the Employee for the payment by the Employee of state and federal income and
excise taxes on the payment provided under Clause (a) and on any payments under
this Clause (b). In computing such tax allowance, the payment to be made under
Clause (a) shall be multiplied by the "gross up percentage" ("GUP"). The GUP
shall be determined as follows:
GUP = Tax Rate
---------
1 - Tax Rate
The Tax Rate for purposes of computing the GUP shall be the highest marginal
federal and state income and employment-related tax rate, including any
applicable excise tax rate, applicable to the Employee in the year in which the
payment under Clause (a) is made.
(ii) Notwithstanding the foregoing, if it shall subsequently be
determined in a final judicial determination or a final administrative
settlement to which the Employee is a party that the excess parachute payment is
defined in Section 4999 of the Code, reduced as described above, is different
from the Initial Excess Parachute Payment (such different amount being hereafter
referred to as the "Determinative Excess Parachute Payment") then the Company's
independent accountants shall determine the amount (the "Adjustment Amount") the
Employee must pay to the Company or the Bank or the Company or the Bank must pay
to the Employee in order to put the Employee (or the Company or the Bank, as the
case may be) in the same position the Employee (or the Company or the Bank, as
the case may be) would have been if the Initial Excess Parachute Payment had
been equal to the Determinative Excess Parachute Payment. In determining the
Adjustment Amount, the independent accountants shall take into account any and
all taxes (including any penalties and interest) paid by or for the Employee or
refunded to the Employee or for the Employee's benefit. As soon as practicable
after the Adjustment Amount has been so determined, the Company or the Bank
shall pay the Adjustment Amount to the Employee or the Employee shall repay the
Adjustment Amount to the Company or the Bank, as the case may be.
(iii) In any calendar year that the Employee receives payments of
benefits under this Agreement, the Employee shall report on his state and
federal income tax returns such information as is consistent with the
determination made by the independent accountants of the Company as described
above. The Company and the Bank shall indemnify and hold the Employee harmless
from any and all losses, costs and expenses (including without limitation,
reasonable attorney's fees, interest, fines and penalties) which the Employee
incurs as a result of so reporting such information. Employee shall promptly
notify the Company and the Bank in writing whenever the Employee receives notice
of the institution of a judicial or administrative proceeding, formal or
informal, in which the federal tax treatment under Section 4999 of the Code of
any amount paid or payable under this the Employment Agreement is being reviewed
or is in dispute. The Company or the Bank shall assume control at its expense
over all legal and accounting matters pertaining to such federal tax treatment
(except to the extent necessary or appropriate for the Employee to resolve any
such proceeding with respect to any matter unrelated to amounts paid or payable
pursuant to this contract) and the Employee shall cooperate fully with the
Company or the Bank in any such proceeding. The Employee shall not enter into
any compromise or settlement or otherwise prejudice any rights the Company or
the Bank may have in connection therewith without prior consent of the Company.
4. Term of the Agreement
------------------------
This Agreement shall remain in effect for the period commencing on the
Effective Date and ending on the earlier of (i) the date 36 months after the
Effective Date, and (ii) the date on which the Employee terminates employment
with the Company or the Bank; provided that the Employee's rights hereunder
shall continue following the termination of his employment with the Company or
the Bank under any of the circumstances described in Section 2 hereof.
5. Termination or Suspension Under Federal Law
------------------------------------------------
Any payments made to the Employee pursuant to this Agreement, or otherwise,
are subject to and conditioned upon their compliance with 12 U.S.C. 1828(k) and
any regulations promulgated thereunder.
6. Expense Reimbursement
----------------------
In the event that any dispute arises between the Employee and the Company
or the Bank as to the terms or interpretations of this Agreement, whether
instituted by formal legal proceedings or otherwise, including any action that
the Employee takes to enforce the terms of this Agreement or to defend against
any action taken by the Company or the Bank, the Employee shall be reimbursed
for all costs and expenses, including reasonable attorneys' fees, arising from
such dispute, proceedings or actions, provided that the Employee shall obtain a
final judgment in favor of the Employee in a court or competent jurisdiction or
in binding arbitration under the rules of the American Arbitration Association.
Such reimbursement, which may be in advance of any final judgment or
determination in arbitration, if requested in writing by the Employee, shall be
paid within ten (10) days of Employee's furnishing to the Company or the Bank
written evidence, which may be in the form, among other things, or a canceled
check or receipt, of any costs or expenses incurred by the Employee.
7. Successors and Assigns
------------------------
(a) This Agreement shall inure to the benefit of and be binding upon
any corporate or other successor or assign of the Company or the Bank which
shall acquire, directly or indirectly, by merger, consolidation, purchase or
otherwise, all or substantially all of the assets or stock of the Bank or
Company. This Agreement shall inure to the benefit of and be enforceable by the
Employee's personal and legal representatives, executors, administrators,
successors, heirs, devisees and legatees. If the Employee should die while any
amounts are still payable to him/her hereunder, all such amounts shall be paid
in accordance with the terms of this Agreement to the Employee's devisee,
legatee or other designee, or if there be no such designee, to the Employee's
Estate.
(b) Since the Company and the Bank are contracting for the unique and
personal skills of the Employee, the Employee shall be precluded from assigning
or delegating his rights or duties hereunder without first obtaining the written
consent of the Company or the Bank.
8. Amendments
----------
No amendments or additions to this Agreement shall be binding unless made
in writing and signed by all of the parties, except as herein otherwise
specifically provided. No waiver by either party hereto at any time of any
breach by the other party hereto, or of compliance with, any condition or
provision of this Agreement to be performed by such other party will be deemed
to be a waiver of similar or dissimilar provisions or conditions, at the same or
any prior or subsequent time.
9. Applicable Law
---------------
Except to the extent preempted by Federal law, the laws of the State of
Texas shall govern this Agreement in all respects, whether as to its validity,
construction, capacity, performance or otherwise.
10. Severability
------------
The provisions of this Agreement shall be deemed severable and the
invalidity or unenforceability of any provision shall not affect the validity or
enforceability of the other provisions hereof.
11. Entire Agreement
-----------------
This Agreement, together with any understanding or modifications thereof as
agreed to in writing by the parties, shall constitute the entire agreement
between the parties hereto.
12. Notices
-------
For purposes of this Agreement, notices and other communications provided
for in this Agreement shall be in writing and shall be deemed to have been duly
given when delivered or mailed by U.S. registered or certified mail, return
receipt requested, postage prepaid, as follows: If to the Company or the Bank:
Chairman of the Board and Chief Executive Officer, Coastal Bancorp, Inc., 5718
Westheimer, Suite 600, Houston, Texas 77057. If to the Employee:
Gary R. Garrett
1231 Creekford
Sugar Land, Texas 77478
Signature Page to Follow
<PAGE>
IN WITNESS WHEREOF, the parties have executed this Agreement on the day and
year first herein above written.
ATTEST: COASTAL BANCORP, INC.
/s/ Linda B. Frazier By: /s/ Manuel J. Mehos
- ------------------------- ----------------------------
Secretary Manuel J. Mehos,
Chairman of the Board
and Chief Executive Officer
By: /s/ James C. Niver
-----------------------------
James C. Niver
Chairman, Compensation Committee
ATTEST: COASTAL BANC SSB
/s/ Linda B. Frazier By: /s/ Manuel J. Mehos
- ------------------------- ----------------------------
Secretary Manuel J. Mehos,
Chairman of the Board
and Chief Executive Officer
WITNESS
/s/ Pamela S. Watkins By: /s/ Gary R. Garrett
- -------------------------- ---------------------------
Pamela S. Watkins Gary R. Garrett
Executive Vice President/
Chief Lending Officer
\\enterprise\data\acctexe\watkins\word\form-10k\1997\ex-10.3edgared.doc
EXHIBIT 28
FORM OF PROXY TO BE MAILED TO
STOCKHOLDERS OF THE COMPANY
March 24, 1998
Dear Stockholder:
You are cordially invited to attend the Annual Meeting of the
stockholders of Coastal Bancorp, Inc. (the "Company"). The meeting will be
held at the corporate offices of Coastal Bancorp, Inc., at 5718 Westheimer,
Houston, Texas in the Coastal Banc auditorium, Suite 1101, on Thursday, April
23, 1998, at 11:00 a.m., Central Time.
The attached Notice of Annual Meeting and Proxy Statement describe the
formal business to be transacted at the meeting. Stockholders will vote to
elect directors and ratify the Company's independent auditors. The Company's
Board of Directors believes that these proposals are in the best interest of
the Company and its stockholders and recommends that stockholders vote "for"
them at the Annual Meeting. Directors and officers of the Company and
representatives of the Company's independent auditors will be present to
respond to any questions that our stockholders may have.
It is very important that you be represented at the Annual Meeting
regardless of the number of shares you own or whether you are able to attend
the meeting in person. Let me urge you to mark, sign and date your proxy card
today and return it in the postage paid envelope provided, even if you plan to
attend the Annual Meeting. This will not prevent you from voting in person,
but will ensure that your vote is counted if you are unable to attend.
Your continued support and interest in Coastal Bancorp, Inc. is
appreciated.
Sincerely,
/s/ Manuel J. Mehos
--------------------------
Manuel J. Mehos
Chairman of the Board, President
and Chief Executive Officer
<PAGE>
COASTAL BANCORP, INC.
COASTAL BANC PLAZA
5718 WESTHEIMER, SUITE 600
HOUSTON, TEXAS 77057
NOTICE OF ANNUAL MEETING OF STOCKHOLDERS
TO BE HELD APRIL 23, 1998
NOTICE IS HEREBY GIVEN that the Annual Meeting of Stockholders ("Annual
Meeting") of Coastal Bancorp, Inc. (the "Company") will be held at the
corporate offices of Coastal Bancorp, Inc., at 5718 Westheimer, Suite 1101,
Houston, Texas at 11:00 a.m., Central Time, on April 23, 1998 for the
following purposes, all of which are more completely set forth in the
accompanying Proxy Statement:
(1) To elect three directors of the Company to serve until the annual
meeting of stockholders in the year 2001 and until their successors are
elected and qualified;
(2) To ratify the appointment of KPMG Peat Marwick LLP as the
Company's independent auditors for the fiscal year ending December 31, 1998;
and,
(3) To transact such other business as may properly come before the
Annual Meeting, or any adjournment or postponement thereof. Except with
respect to procedural matters incident to the conduct of the Annual Meeting,
management of the Company is not aware of any matters other than those set
forth above which may properly come before the Annual Meeting.
The Board of Directors has fixed February 26, 1998 for the determination
of stockholders entitled to notice of, and to vote at, the Annual Meeting and
any adjournment or postponement thereof. Only those stockholders of record as
of the close of business on that date will be entitled to vote at the Annual
Meeting or at any such adjournment or postponement.
BY ORDER OF THE BOARD OF
DIRECTORS
/s/ Linda B. Frazier
---------------------------
Linda B. Frazier
Secretary
Houston, Texas
March 24, 1998
YOU ARE CORDIALLY INVITED TO ATTEND THE ANNUAL MEETING. IT IS IMPORTANT
THAT YOUR SHARES BE REPRESENTED REGARDLESS OF THE NUMBER YOU OWN. EVEN IF YOU
PLAN TO BE PRESENT, YOU ARE URGED TO COMPLETE, SIGN, DATE AND RETURN THE
ENCLOSED PROXY PROMPTLY IN THE ENVELOPE PROVIDED. IF YOU ATTEND THIS MEETING,
YOU MAY VOTE IN PERSON OR BY PROXY. ANY PROXY GIVEN MAY BE REVOKED BY YOU IN
WRITING OR IN PERSON AT ANY TIME PRIOR TO THE EXERCISE THEREOF.
COASTAL BANCORP, INC.
PROXY STATEMENT
ANNUAL MEETING OF STOCKHOLDERS
This Proxy Statement is furnished to the holders of the common stock,
$.01 par value per share (the "Common Stock") of Coastal Bancorp, Inc. (the
"Company") in connection with the solicitation of proxies on behalf of the
Board of Directors of the Company, to be used at the Annual Meeting of
Stockholders to be held at the corporate offices of Coastal Bancorp, Inc., at
5718 Westheimer, Houston, Texas in the Coastal Banc auditorium, Suite 1101, at
11:00 a.m., Central Time, on April 23, 1998 and at any adjournment or
postponement thereof for the purposes set forth in the Notice of Annual
Meeting of Stockholders. This Proxy Statement is expected to be mailed to
stockholders on or about March 24, 1998.
Each proxy solicited hereby, if properly signed and returned to the
Company, will be voted in accordance with the instructions contained therein
if it is not revoked prior to its use. IF NO CONTRARY INSTRUCTIONS ARE GIVEN,
EACH PROXY RECEIVED WILL BE VOTED: (I) FOR THE ELECTION OF THE BOARD'S
NOMINEES AS DIRECTORS OF THE COMPANY; (II) FOR THE PROPOSAL TO RATIFY THE
APPOINTMENT OF KPMG PEAT MARWICK LLP AS THE COMPANY'S INDEPENDENT AUDITORS FOR
THE FISCAL YEAR ENDING DECEMBER 31, 1998; AND (III) UPON THE TRANSACTION OF
SUCH OTHER BUSINESS AS MAY PROPERLY COME BEFORE THE ANNUAL MEETING, IN
ACCORDANCE WITH THE BEST JUDGMENT OF THE PERSONS APPOINTED AS PROXIES. ANY
HOLDER OF COMMON STOCK WHO RETURNS A SIGNED PROXY BUT FAILS TO PROVIDE
INSTRUCTIONS AS TO THE MANNER IN WHICH SUCH SHARES ARE TO BE VOTED WILL BE
DEEMED TO HAVE VOTED IN FAVOR OF THE MATTERS SET FORTH IN THE PRECEDING
SENTENCE.
Any stockholder giving a proxy has the power to revoke it at any time
before it is exercised by (i) filing with the Secretary of the Company written
notice of revocation thereof (Linda B. Frazier, Coastal Bancorp, Inc., Coastal
Banc Plaza, 5718 Westheimer, Suite 600, Houston, Texas 77057), (ii) submitting
a duly executed proxy bearing a later date; or (iii) by appearing at the
Annual Meeting and giving the Secretary notice of his or her intention to
vote in person. Proxies solicited hereby may be exercised only at the Annual
Meeting and any adjournment or postponement thereof and will not be used for
any other meeting.
<PAGE>
BACKGROUND INFORMATION
ON
COASTAL BANCORP, INC.
AND
SUBSIDIARIES
Coastal Bancorp, Inc. was incorporated in Texas in March 1994 in
connection with the reorganization of Coastal Banc Savings Association (the
"Association") into the holding company form of organization, which occurred
on July 29, 1994. In addition, effective July 29, 1994, the Association,
which had been a Texas-chartered savings and loan association, converted to a
Texas-chartered savings bank known as Coastal Banc ssb (the "Bank").
Effective November 30, 1996, the Bank engaged in a further holding company
reorganization whereby Coastal Banc Holding Company, Inc., a Delaware
corporation ("HoCo"), became a first-tier wholly-owned subsidiary of the
Company. As a result of these reorganizations, the Company owns 100% of the
voting stock of HoCo and HoCo owns 100% of the voting stock of the Bank. In
addition, HoCo owns 100% of the stock of Coastal Banc Capital Corp. ("CBCC").
HoCo has no operations other than holding the voting common stock of CBCC and
the Bank. The 9.0% Noncumulative Preferred Stock, Series A, issued by the
Association on October 21, 1993 continues to represent, on a share for share
basis, the 9.0% Noncumulative Preferred Stock, Series A, of the Bank. Coastal
Bancorp, Inc. is a registered unitary savings and loan holding company
regulated by the Office of Thrift Supervision.
VOTING SECURITIES AND BENEFICIAL
OWNERSHIP THEREOF
Only holders of record of the Company's Common Stock at the close of
business on February 26, 1998 ("Record Date") will be entitled to notice of,
and to vote at, the Annual Meeting. On the Record Date, there were 5,035,035
shares of Common Stock outstanding and the Company had no other class of
equity securities outstanding. Only holders of Company Common Stock will be
entitled to vote at the Annual Meeting and each share of Common Stock will be
entitled to one vote on all matters properly presented. Stockholders of the
Company are not permitted to cumulate their votes for the election of
directors.
The presence in person or by proxy of at least a majority of the
outstanding shares of Common Stock entitled to vote is necessary to constitute
a quorum at the Annual Meeting. Directors will be elected by a plurality of
the votes cast at the Annual Meeting. The affirmative vote of a majority of
the total votes present at the Annual Meeting is required for approval of the
proposal to ratify the appointment of the Company's independent auditors.
Abstentions will be counted for purposes of determining the presence of a
quorum at the Annual Meeting. Because of the required votes, abstentions will
have the same effect as a vote against the proposal to ratify the appointment
of the Company's independent auditors, but will not be counted as votes cast
for the election of directors and, thus, will have no effect on the voting for
the election of directors. Under the applicable rules, all of the proposals
for consideration at the Annual Meeting are considered "discretionary" items
upon which brokerage firms may vote in their discretion on behalf of their
clients if such clients have not furnished voting instructions. Thus, there
are no proposals to be considered at the Annual Meeting which are considered
"non-discretionary" and for which there will be "broker non-votes".
At February 26, 1998, directors, executive officers and their affiliates
beneficially owned 1,045,718 shares of Common Stock or 20.12% of the total
shares of Common Stock outstanding on such date. It is anticipated that all
of such shares will be voted for the election of the nominees of the Company's
Board of Directors and in favor of all of the proposals of the Board described
herein.
The following table sets forth the beneficial ownership of the Common
Stock as of February 26, 1998, with respect to (i) any person or entity who is
known to the Company to be the beneficial owner of 5% or more of the Common
Stock; (ii) each nominee for director; (iii) each director of the Company;
(iv) each of the executive officers named in the summary compensation table
(see "Executive Compensation - Summary Compensation Table") and (v) all
directors and executive officers of the Company and its subsidiary, Coastal
Banc ssb, as a group. The address for all directors and executive officers of
the Company and the Bank is Coastal Banc Plaza, 5718 Westheimer, Suite 600,
Houston, Texas 77057. Except as set forth below, as of February 26, 1998, the
Company was aware of no other person or entity unaffiliated with the Company
that was the beneficial owner of 5% or more of the Common Stock.
<PAGE>
<TABLE>
<CAPTION>
Amount of Shares of
Common Stock
Name Beneficially Owned
(and Address) of as of February 26, Percent of
Beneficial Owner 1998(1) Class
- ----------------------------------------- -------------------- --------
<S> <C> <C>
First Manhattan Co.. . . . . . . . . . . . . 481,010(2) 9.26%
437 Madison Avenue
New York, New York 10022
Friedman, Billings, Ramsey Group, Inc. . . . 410,625(2) 7.90
1001 19th Street North
Arlington, Virginia 22209-1710
Robert Edwin Allday, Director. . . . . . . . 0(3) *
Coastal Bancorp, Inc. and Coastal Banc ssb
D. Fort Flowers, Jr., Director . . . . . . . 179,880(4) 3.46
Coastal Bancorp, Inc. and Coastal Banc ssb
Dennis S. Frank, Director. . . . . . . . . . 20,000 *
Coastal Bancorp, Inc. and Coastal Banc ssb
Robert E. Johnson, Jr., Director . . . . . . 12,880(5) *
Coastal Bancorp, Inc. and Coastal Banc ssb
Manuel J. Mehos, Chairman of the Board,. . . 363,750(6) 7.00
President and Chief Executive Officer
Coastal Bancorp, Inc., Coastal Banc
Holding Company, Inc. and Coastal Banc ssb
James C. Niver, Director . . . . . . . . . . 368,952(7) 7.10
Coastal Bancorp, Inc. and Coastal Banc ssb
Clayton T. Stone, Director . . . . . . . . . 600 *
Coastal Bancorp, Inc. and Coastal Banc ssb
John D. Bird, Executive Vice President,. . . 23,666(6) *
Chief Administrative Officer and
Assistant Secretary
Coastal Banc ssb
Gary R. Garrett, Executive Vice President and. 25,548(6) *
Chief Lending Officer
Coastal Banc ssb
David R. Graham, Executive Vice President -. . 9,411(6) *
Real Estate Lending
Coastal Banc ssb
Nancy S. Vadasz, Executive Vice President -. . 14,060(6) *
Market and Product Strategies
Coastal Banc ssb
Catherine N. Wylie, Executive Vice President . 26,971(6) *
and Chief Financial Officer
Coastal Bancorp, Inc., Coastal Banc Holding
Company, Inc. and Coastal Banc ssb
All directors and executive officers of the. . 1,045,718(6) 20.12
Company and the Bank as a group
(12 persons)
</TABLE>
* Represents less than 1.0% of the Common Stock outstanding.
(1) Based upon information furnished by the respective individuals and
filings pursuant to the Securities Exchange Act of 1934, as amended (the
"Exchange Act"). The information is not necessarily indicative of beneficial
ownership for any other purpose. Under regulations promulgated pursuant to
the Exchange Act, shares are deemed to be beneficially owned by a person if he
or she directly or indirectly has or shares (i) voting power, which includes
the power to vote or to direct the voting of the shares, or (ii) investment
power, which includes the power to dispose or to direct the disposition of the
shares. Unless otherwise indicated, the named beneficial owner has sole
voting and dispositive power with respect to the shares.
(2) Based on a Schedule 13G filed under the Exchange Act.
(3) Mr. Allday is the beneficial owner of 2,000 shares of the Bank's 9.0%
Noncumulative Preferred Stock, Series A.
(4) Of such shares, 176,880 are owned by a trust over which Mr. Flowers
has shared voting and dispositive power with two other co-trustees.
(5) Shares are held in trust for his minor children for which Mr. Johnson
serves as trustee.
(6) Under applicable regulations, a person is deemed to have beneficial
ownership of any shares of Common Stock which may be acquired within 60 days
of the Record Date pursuant to the exercise of outstanding stock options.
Shares of Common Stock which are subject to stock options are deemed to be
outstanding for the purpose of computing the percentage of outstanding Common
Stock owned by such person or group but not deemed outstanding for the purpose
of computing the percentage of Common Stock owned by any other person or
group. The amounts set forth in the table include 23,666, 25,548, 9,411,
63,750, 14,060 and 25,021 shares which may be received upon the exercise of
stock options by Messrs. Bird, Garrett, Graham and Mehos and Mmes. Vadasz and
Wylie, respectively, pursuant to stock options. For all directors and
executive officers as a group, the number of shares includes 161,456 shares of
Common Stock subject to outstanding stock options.
(7) Mr. Niver is the co-trustee with his wife of a trust which holds such
shares for their benefit.
INFORMATION WITH RESPECT TO NOMINEES FOR DIRECTOR,
DIRECTORS WHOSE TERMS CONTINUE AND EXECUTIVE OFFICERS
ELECTION OF DIRECTORS
Coastal Bancorp, Inc. is a Texas corporation, formed pursuant to the
Texas Business Corporation Act which requires that the business and affairs of
the Company shall be managed by or under the direction of the Board of
Directors. The Company's Articles of Incorporation provide that the Company's
Board of Directors be divided into three classes as nearly equal in number as
possible, with one class to be elected annually, and the Bylaws state that
members of each class are to be elected for a term of office to expire at the
third succeeding annual meeting of stockholders and when their respective
successors have been elected and qualified. The number of directors is
determined from time to time by resolution of the Board. On July 27, 1995,
the Board of Directors voted to increase the size of the Board from seven to
eight members and elected Mr. Clayton T. Stone to fill such vacancy effective
August 24, 1995. Mr. Stone stood for election by the stockholders at the 1996
annual meeting and was elected to a three year term. Effective April 1, 1996,
Mr. Donald Bonham retired from the Board of Directors for personal reasons.
The Board of Directors has not nominated anyone to replace Mr. Bonham as of
the date hereof.
Three of the positions on the Board are to be elected in 1998. Prior to
the formation of the Company, these individuals served as directors of the
Association. The information set forth below relating to their tenure as
directors is as of the date they were first elected as directors of either the
Association or the Company, where applicable. There are no arrangements or
understandings between the Company and any person pursuant to which such
person has been selected as a nominee, and no director is related to any other
director or executive officer of the Company or the Bank by blood, marriage or
adoption.
INFORMATION WITH RESPECT TO CONTINUING DIRECTORS AND NOMINEES FOR DIRECTORS
Information concerning those members of the Board whose terms do not
expire in 1998, including age, tenure and principal position with the Company
and principal occupation during the past five years, as well as the year his
term will expire, is set forth below:
ROBERT E. JOHNSON, JR. Age 44. Director since 1986. Mr. Johnson is a
partner in the law firm of Johnson & Johnson, Austin, Texas. His term as a
director of the Company will expire in 1999.
MANUEL J. MEHOS. Age 43. Director since 1986. Mr. Mehos is the
Chairman of the Board, President and Chief Executive Officer of the Company,
Coastal Banc Holding Company, Inc., Coastal Banc Capital Corp., and the Bank
and also Chief Executive Officer of CoastalBanc Financial Corp., a Bank
subsidiary. He is also a director of each of the Bank's subsidiaries and is
the President of CBS Asset Corp., CBS Builders, Inc. and CoastalBanc
Investment Corporation, which are wholly-owned subsidiaries of the Bank, all
of which are located in Houston, Texas. CBS Asset Corp., CBS Builders, Inc.
and CoastalBanc Investment Corporation are presently inactive. Mr. Mehos also
currently serves on the Finance Commission of Texas. His term as a director
of the Company will expire in 2000.
JAMES C. NIVER. Age 68. Director since 1986. Mr. Niver is retired and
from 1972 until 1995 was employed by Century Land Company, Houston, Texas,
retiring as its President. His term as a director of the Company will expire
in 2000.
CLAYTON T. STONE. Age 63. Director since August 1995. Mr. Stone is an
Executive Vice President of Hines Interests Limited Partnership, Aspen,
Colorado since 1996. Mr. Stone came out of retirement to take this position.
Prior to 1996 he was an independent business consultant and a retired officer
of Gerald D. Hines Interests, Houston, Texas. His term as a director of the
Company will expire in 1999.
THE NOMINEES
Unless otherwise directed, each proxy executed and returned by a
stockholder will be voted "FOR" the election of each of the nominees listed
below. If any person named as a nominee should be unable or unwilling to
stand for election at the time of the Annual Meeting, the Board of Directors
will nominate, and the persons named as proxies will vote, for any replacement
nominee or nominees recommended by the Board of Directors. At this time, the
Board of Directors knows of no reason why any of the nominees listed below may
not be able to serve as a director if elected.
Information concerning the nominees for director, including age, tenure,
principal position with the Company and principal occupation during the past
five years, as well as the year his term will expire, is set forth below:
R. EDWIN ALLDAY. Age 47. Director since 1986. Mr. Allday is a private
investor and in September 1993 became a senior consultant with The Dini
Partners, Inc., Houston, Texas, a company that provides counseling in
philanthropy and non-profit company management. Mr. Allday was an independent
consultant for community relations for charitable organizations from March
1990 to June 1993. From August 1988 to March 1990, Mr. Allday was the Chief
Operating Officer of the American Leadership Forum, a non-profit organization
which teaches business leadership skills located in Houston, Texas. From
March 1982 to August 1988, Mr. Allday was the General Manager of Anglia
Companies, a family-owned investment management business in Houston, Texas.
If elected, his term as a director of the Company will expire in 2001.
D. FORT FLOWERS, JR. Age 36. Director since 1992. Mr. Flowers is the
President of Sentinel Trust Company, a Texas Limited Banking Association,
Houston, Texas, providing fiduciary and investment management services to
affluent families, their closely held corporations and foundations, a position
he has held since January 1997. Additionally, Mr. Flowers was Chairman of the
Board of DIFCO, Inc., a railroad car engineering and manufacturing company
from before the time he became a director until August, 1997 when that company
was sold. Mr. Flowers is also a director of The Ohio Bank, Findlay, Ohio. If
elected, his term as a director of the Company will expire in 2001.
DENNIS S. FRANK. Age 41. Director since 1988. Mr. Frank is the
Chairman of the Board, Chief Executive Officer and President of Silvergate
Bancorp, La Mesa, California, a position he has held since December 1996.
Additionally, he has been the President and Chief Executive Officer of DSF
Management Corp., a private investment company, located in Houston, Texas,
since March 1994. Prior to that, Mr. Frank was the Manager of the
Association's Capital Markets Division from July 1988 to April 1993 and a
consultant to the Association from April 1993 to April 1994. If elected, his
term as a director of the Company will expire in 2001.
THE BOARD OF DIRECTORS RECOMMENDS THAT THE ABOVE NOMINEES
BE ELECTED AS DIRECTORS OF THE COMPANY.
<PAGE>
STOCKHOLDER NOMINATIONS
The Company's Articles of Incorporation govern nominations for election
to the Board of Directors and require that all nominations for election to the
Board of Directors other than those made by the Board, be made by a
stockholder who has complied with the notice provisions in the Articles.
Written notice of a stockholder's nomination must be communicated to the
attention of the Company's Secretary and either delivered to, or mailed and
received at, the principal executive offices of the Company not less than 60
days prior to the anniversary date of the mailing of the proxy materials by
the Company in connection with the immediately preceding annual meeting of
stockholders of the Company, and with respect to a special meeting of
stockholders for the election of directors, on the close of business on the
tenth day following the date on which notice of such meeting is first given to
stockholders. Such notice shall include specified matters as set forth in the
Articles of Incorporation. If the nomination is not made in accordance with
the requirements set forth in the Articles of Incorporation, the defective
nomination will be disregarded at the Annual Meeting. The Company did not
receive any nominations from stockholders for the Annual Meeting.
BOARD OF DIRECTORS MEETINGS AND COMMITTEES
OF COASTAL BANCORP, INC. AND COASTAL BANC SSB
Regular meetings of the Board of Directors of the Company are held
quarterly and special meetings may be called at any time as necessary. During
the year ended December 31, 1997, the Board of Directors of the Company held
ten meetings. No incumbent director of the Company attended fewer than 75% of
the aggregate of the total number of Board meetings held during the period in
which he served as a director in 1997 except Mr. Frank who attended 70%.
The Board of Directors is authorized by its Bylaws to elect members of
the Board to committees of the Board which may be necessary or appropriate for
the conduct of the business of the Company. At December 31, 1997, there were
no committees of the Board of the Company.
Regular meetings of the Board of Directors of the Bank are held monthly
and special meetings may be called at any time as necessary. During the year
ended December 31, 1997, the Board of Directors of the Bank held twelve
meetings. No incumbent director of the Bank attended fewer than 75% of the
aggregate of the total number of Board meetings held during the period in
which he served as a director and the total number of meetings held by
committees of the Board of Directors of the Bank on which he served in 1997.
The Board of Directors of the Bank is authorized by its Bylaws to elect
members of the Board to committees of the Board which may be necessary or
appropriate for the conduct of the business of the Bank. At December 31,
1997, the Bank had an Audit, Compensation, Asset/Liability, Directors' Loan
Review and a Community Reinvestment Act Committee of the Board.
The Audit Committee of the Bank's Board is responsible for reviewing the
reports of the independent auditors and examination reports of regulatory
authorities, monitoring the functions of the internal audit department, which
reports directly to this Committee, and generally overseeing compliance with
internal policies and procedures. The Audit Committee members are Messrs.
Niver (Chairman), Allday and Johnson. This Committee met seven times during
1997.
The Compensation Committee reviews the compensation of senior executive
officers and recommends to the Board adjustments in such compensation based on
a number of factors, including the profitability of the Bank. Messrs. Niver
(Chairman), Flowers and Johnson comprise the Compensation Committee, which met
four times during 1997. See "Executive Compensation - Report of the Board of
Directors on Compensation During Fiscal 1997."
The Asset/Liability Committee met four times in 1997 to authorize
investment categories, overall investment limitations and brokers to be
utilized, to review trade recommendations and past trades of the
Asset/Liability Subcommittee (composed of certain officers) and compliance of
the Bank's investment activities with the Bank's Investment and Interest Rate
Risk Policies and with Board recommendations. The Committee also makes
interest rate risk assessments and formulates asset/liability management
policy for the forthcoming quarterly period. This Committee consists of
Messrs. Frank (Chairman), Flowers, Mehos and Stone.
The Directors' Loan Review Committee met twenty-six times in 1997 to
approve and/or review certain loans. The Committee can approve any class or
type of loan which is authorized for investment by the Board. Specified loan
authority limits are further delegated to the management loan committee, the
management construction loan committee or an individual officer of the Bank.
The Directors' Loan Review Committee consists of Messrs. Mehos (Chairman),
Flowers, Frank, Niver, and Stone.
The Community Reinvestment Act ("CRA") Committee was established to
monitor the Bank's efforts in serving the credit needs of the residents of the
communities in which it does business, including those credit-worthy persons
having low and moderate incomes. The CRA Committee has appointed a CRA
Officer who is responsible for developing and administering the Bank's CRA
program and for training the Bank's staff to comply with CRA regulations, and
Bank policies and procedures. The CRA Officer chairs a management CRA
Committee which works to oversee that the Bank meets the procedural
requirements of the CRA. The CRA Committee is composed of Messrs. Allday
(Chairman), Frank, Mehos and Johnson and met two times in 1997.
<PAGE>
BOARD FEES
Through February 26, 1998, each non-employee director of the Company and
the Bank was paid a fee of $1,550 for each Board meeting attended and a fee of
$300 for each committee meeting attended. From February 26, 1998, forward
however, each non-employee director of the Company and the Bank that attends
the monthly Directors' Loan Review Committee and any additional ad hoc PCC
meeting will be paid a maximum of $600 per month for all meetings. When Board
and committee meetings of the Company are held on the same day as meetings of
the Board and committees of the Bank, only one fee is paid for that date. No
fees are paid for non-attendance; attendance by conference telephone is
similarly not compensated. Directors are also reimbursed for reasonable
travel expenses. Directors who are also employees of the Company and the Bank
receive no fees for attendance at Board or committee meetings.
SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE OF THE EXCHANGE ACT
Section 16(a) of the Exchange Act requires the Company's officers and
directors of the Company to file reports to indicate ownership and changes in
ownership with the Securities and Exchange Commission and to furnish the
Company with copies of such reports.
Based upon a review of the copies of such forms, the Company believes
that during the year ended December 31, 1997, all Section 16(a) filing
requirements applicable to the Company's officers and directors of the Company
and/or the Bank were complied with.
<PAGE>
EXECUTIVE OFFICERS WHO ARE NOT DIRECTORS
The following table sets forth information concerning executive officers
of the Bank or its subsidiaries who do not serve on the Bank's Board of
Directors. All executive officers are elected by the Board of Directors of
the Bank or of the respective subsidiary and serve until their successors are
elected and qualified. No executive officer is related to any director or
other executive officer of the Bank or its subsidiaries by blood, marriage or
adoption, and there are no arrangements or understandings between a director
and any other person pursuant to which such person was elected an executive
officer.
<TABLE>
<CAPTION>
Position with Bank and
Name Age Principal Occupation During Last Five Years
- --------------- ---- ------------------------------------------------
<S> <C> <C>
John D. Bird . . . 54 Executive Vice President since August 1993, Chief
Administrative Officer since June 1993, and Assistant
Secretary since March 1986; Chief Operations Officer
from March 1986 to June 1993; President and sole
stockholder of Coastal Banc Insurance Agency, Inc.,
an affiliate of the Bank, since May 1987.
Gary R. Garrett. . 51 Executive Vice President since August 1993 and a
director of each of the Bank's subsidiaries; Chief
Lending Officer since 1995; Senior Vice President
--Mortgage Lending from October 1991 to August
1993; Chief Executive Officer and President of
CBS Mortgage Corp. since August 1993; Executive
Vice President, CBS Mortgage Corp. from January
1989 to August 1993. Director and Executive Vice
President of Coastal Banc Capital Corp., an affiliate
of the Bank, since
August 1997.
David R. Graham. . 54 Executive Vice President since August 1993 and a
director of each of the Bank's subsidiaries; Senior
Vice President--Real Estate Lending Division from
May 1988 to August 1993. Senior Vice President of
CBS Asset Corp. since April 1993.
Nancy S. Vadasz. . 44 Executive Vice President since June of 1994, Senior
Vice President since September 1991.
Catherine N. Wylie 43 Executive Vice President of Coastal Banc Holding
Company, Inc. since November, 1996, of the
Company since July 1994 and of the Bank since
August 1993 and a director of Coastal Banc Holding
Company, Inc., and of each of the Bank's
subsidiaries; Chief Financial Officer since October
1993; Controller from April 1989 to October 1993;
also Executive Vice President/Treasurer of each
of the Bank's subsidiaries since October 1990.
Director and Executive Vice President of Coastal
Banc Capital Corp., an affiliate of the Bank
since August 1997.
</TABLE>
<PAGE>
EXECUTIVE COMPENSATION
REPORT OF THE BOARD OF DIRECTORS ON COMPENSATION DURING FISCAL 1997.
Officers of the Company do not receive compensation for their services.
The Compensation Committee of the Board of Directors of the Bank (the
"Committee") is composed entirely of independent outside directors. See
"Information With Respect to Nominees for Director, Directors Whose Terms
Continue and Executive Officers - Board of Directors Meetings and Committees
of Coastal Bancorp, Inc. and Coastal Banc ssb." The Committee is responsible
for reviewing the compensation of executive officers of the Bank and
recommending executive compensation proposals to the Bank's Board of Directors
for approval.
The Board of Directors of the Bank has a compensation philosophy pursuant
to which executive compensation is designed to be at least comparable with
average executive compensation for the Bank's peers, which are generally
considered to be companies of approximately the same size and in the same
industry. Companies included are independent financial companies, banks and
savings and loan associations ranging from $900 million to $4.0 billion in
asset size. In May 1992, the Bank retained an executive compensation
consultant to review its executive compensation policies. The consultant
developed a compensation program for the Bank's executive officers which is a
combination of base salary plus incentive compensation linked to the Bank's
profitability.
The Committee evaluates the base salaries of the Bank's executive
officers annually. An executive officer's base salary is determined based
upon longevity with the Bank, the effectiveness of such individual in
performing his or her duties, peer averages at the position in question and
the Bank's overall performance. No particular weight is assigned to these
variables. The base salary component alone, while designed to be competitive
with peer group averages, is not designed to produce top levels of
compensation for the Bank's executive officers when compared to its peer
group. The incentive component, as described below, which requires the Bank
to achieve returns at a pre-specified level before additional compensation is
paid, is the element which is designed to make total compensation for each of
the Bank's executive officers comparable or better than the comparable
executive compensation for the executive officers in the Bank's peer group.
Based upon the foregoing, Mr. Mehos, the Chief Executive Officer, earned
$264,000 in base salary during 1997.
The amount of incentive compensation is related to the performance of the
Bank. No cash incentive compensation will be paid to the Bank's executive
officers unless the Committee determines the Bank is safe and sound in the
following areas: capital adequacy, earnings composition, earnings capability,
liquidity, risk management (classified assets), strategic planning, and
compliance with laws and regulations.
During 1997, the Board of Directors determined that no incentive awards
to its Executive Management would be paid unless a 7.5% return on average
equity ("ROE") was achieved. Any earnings from extraordinary items or unsound
practices are excluded from such calculations at the Board's discretion.
Gains on sales of securities from the investment account, net of losses of
sales from the investment account, are deducted from the earnings pool.
During 1997, the compensation committee calculated that the Company achieved a
11.68% ROE.
Accordingly, during 1997, a bonus pool of $255,900 in the aggregate was
established and incentive awards were paid to the three top executive officers
of the Bank. See "Summary Compensation Table."
By the Committee:
/s/ James C. Niver
-----------------------
James C. Niver (Chairman)
D. Fort Flowers, Jr.
Robert E. Johnson, Jr.
<PAGE>
SUMMARY COMPENSATION TABLE. To meet the goal of providing shareholders a
concise, comprehensive overview of compensation awarded, earned or paid in the
reporting period, the Summary Compensation Table is utilized by the Company.
The Summary Compensation Table includes individual compensation information
with respect to the Chief Executive Officer and the four other most highly
compensated executive officers of the Bank and its subsidiaries whose total
compensation exceeded $100,000 for services rendered in all capacities during
the fiscal years ended December 31, 1997, 1996 and 1995.
<TABLE>
<CAPTION>
ANNUAL
COMPENSATION
----------------------
NAME AND PRINCIPAL
POSITION(1) Year SALARY(2) BONUS(3)
- ------------------------------ ---- ---------- ---------
<S> <C> <C> <C>
Manuel J. Mehos
Chairman of the Board, 1997 $ 264,000 $ 127,900
President and . . . . . . . . 1996 241,000 131,228
Chief Executive Officer . . . 1995 222,000 0
John D. Bird 1997 130,630 30,000
Executive Vice President and . 1996 121,000 40,000
Chief Administrative Officer. 1995 111,565 0
Gary R. Garrett 1997 164,800 64,000
Executive Vice President and . 1996 160,000 70,000
Chief Lending Officer . . . . 1995 113,300 0
David R. Graham 1997 124,630 32,895
Executive Vice President . . . 1996 121,000 40,000
Real Estate Lending Division. 1995 110,335 0
Catherine N. Wylie 1997 164,800 64,000
Executive Vice President and . 1996 160,000 70,000
Chief Financial Officer . . . 1995 113,300 0
ALL
NAME AND PRINCIPAL AWARDS OTHER
POSITION(1) OPTIONS(4) COMPENSATION(5)
- ------------------------------ ---------- ----------------
<S> <C> <C>
Manuel J. Mehos
Chairman of the Board, . . . . 22,000 $ 2,000
President and . . . . . . . . 30,000 1,425
Chief Executive Officer . . . 19,000 2,310
John D. Bird 5,000 8,000
Executive Vice President and . 5,000 7,425
Chief Administrative Officer. 4,448 8,310
Gary R. Garrett 11,000 5,000
Executive Vice President and . 10,000 4,425
Chief Lending Officer . . . . 5,445 4,700
David R. Graham 8,000 2,000
Executive Vice President . . . 7,500 1,425
Real Estate Lending Division. 4,881 2,310
Catherine N. Wylie 11,000 5,000
Executive Vice President and . 10,000 4,425
Chief Financial Officer . . . 5,445 4,060
</TABLE>
(1) Principal positions are for fiscal 1997.
(2) Does not include amounts attributable to miscellaneous benefits
received by executive officers of the Bank, including use of Bank owned
vehicles. In the opinion of management of the Company, the costs to the
Company of providing such benefits to any individual executive officer during
the year ended December 31, 1997, did not exceed the lesser of $50,000 or 10%
of the total of annual salary and bonus reported for the individual.
(3) Includes lump sum cash bonuses earned for the fiscal year stated
and paid in some cases the subsequent year.
(4) Free standing stock options; see "- Option Grants in Last Fiscal
Year."
(5) Includes for the named individuals employer matching contributions
accrued pursuant to the Company's Profit Sharing (401k) Plan and any car
allowances.
<PAGE>
EXECUTIVE SEVERANCE AGREEMENTS
On June 26, 1997, the Company extended the term of the executive
severance agreements (the "Executive Severance Agreements") with Mr. Garrett
and Ms. Wylie (the "Employees" or "Employee") out one year to expire June 26,
2000. The Executive Severance Agreements provide for the payment of certain
severance benefits to Mr. Garrett and Ms. Wylie in the event of a trigger
event under the Executive Severance Agreements, which means (i) the occurrence
of a change in control of the Company as defined below, or (ii) the voluntary
termination within 90 days of an event which occurs during the "Protected
Period" (i.e., the period six months before and three years after a change of
control or after the expiration of the Executive Severance Agreement) and
constitutes "Good Reason" (as defined below), or (iii) termination for any
reason other than "Just Cause" during the Protected Period. If a trigger
event occurs, the Employees will be entitled to (x) payment by the Company or
the Bank of one times the annual salary and bonus for incentive compensation
(not including stock compensation plans) paid to the Employee during his or
her immediately preceding year of employment or (y) the payment by the Company
or the Bank of an amount equal to 2.99 times their annual salary plus bonuses
paid during the immediately preceding year; and (z) the Company will cause any
and all outstanding options to purchase stock of the Company held by each
Employee to become immediately exercisable in full. The Executive Severance
Agreement also provides that the Company will reimburse the Employee for all
costs and expenses, including reasonable attorney's fees incurred by the
Employee to enforce rights or benefits under such agreements. Other than the
foregoing, the Company has not entered into any employment contracts with any
of its officers.
Under the Executive Severance Agreements, a "Change In Control" of the
Company would be deemed to occur if, (i) the Company is not the surviving
entity in any merger, consolidation, or other reorganization, (ii) the sale,
exchange, lease, transfer or other disposition to any person of all or a
substantial part of the assets, liabilities, or business of the Company or the
Bank, (iii) any change in business of the Company or the Bank such that the
Company does not own the voting stock of the Bank or the business of the Bank
is not as an insured depository institution, (iv) any person or entity
including a "group" as contemplated by Section 13(d)(3) of the Exchange Act
acquires or gains ownership or control (including, without limitation, power
to vote) of more than 25% of the outstanding shares of the Bank's or the
Company's voting stock, or (v) as a result of or in connection with a
contested election of directors, the persons who were directors of the Bank or
the Company before such election cease to constitute at least two-thirds of
the Board of Directors.
Under the Executive Severance Agreements, (a) "Good Reason" means any of
the following events, which has not been consented to in advance by the
Employee in writing: (i) the requirement that the Employee move his or her
personal residence, or perform his or her principal executive functions, more
than thirty (30) miles from his or her primary office as of the date of the
Change in Control; (ii) a material (defined to be 10% or more) reduction in
the Employee's base compensation as in effect on the date of the Change in
Control or as the same may be increased from time to time; (iii) a successor
to the Company or the Bank fails or refuses to assume the Company's and the
Bank's obligations under the Executive Severance Agreement; (iv) the Company,
the Bank or successor thereto breaches any provision of the Executive
Severance Agreement; or (v) the Employee is terminated for other than Just
Cause after the Change in Control; and (b) "Just Cause" means, in the good
faith determination of the Company's and the Bank's Boards of Directors, the
Employee's personal dishonesty, incompetence, willful misconduct, breach of
fiduciary duty involving personal profit, intentional failure to perform
stated duties, willful violation of any law, rule or regulation (other than
traffic violations or similar offenses) or final cease-and-desist order, or
material breach of any provision of the Executive Severance Agreement. The
Employee shall have the right to make a presentation to the Board of Directors
with counsel prior to rendering of such determination by the Board. The
Employee shall have no right to receive compensation or other benefits for any
period after termination for Just Cause. No act, or failure to act, on the
Employee's part shall be considered "willful" unless he has acted, or failed
to act, with the absence of good faith and without a reasonable belief that
his action or failure to act was in the best interest of the Bank and the
Company.
In the event that the Employee and the Company or the Bank agree that the
Employee will be paid an amount under the Executive Severance Agreement which
triggers the requirement to pay the excise tax required under Section 280G of
the Internal Revenue Code of 1986, as amended, the Company or the Bank will
reimburse the Employee for all such excise taxes.
The Executive Severance Agreement remains in effect for the modified
period commencing on June 26, 1997 (the "Effective Date") and ending on the
earlier of (i) June 26, 2000, or (ii) the date on which the Employee
terminates his or her employment with the Company or the Bank. Any payments
made to the Employee pursuant to the Executive Severance Agreement, or
otherwise, are subject to and conditioned upon their compliance with the
Federal Deposit Insurance Act and any regulations promulgated by the Federal
Deposit Insurance Corporation thereunder.
OPTION GRANTS IN LAST FISCAL YEAR
On March 23, 1995, the Board of Directors adopted the 1995 Stock
Compensation Program (the "New Program"). Stockholders of the Company
approved the New Program at the April 27, 1995 annual meeting. The New
Program is substantially similar to the 1991 Program, as described below. The
Board reserved 255,261 shares of Common Stock for issuance under the New
Program at the time of adoption. There were 125,400 options issued under the
New Program in 1997.
The Board of Directors adopted the 1991 Stock Compensation Program (the
"1991 Program") for the benefit of officers and other selected key employees
of the Company and the Bank who were deemed to be responsible for the future
growth of the Company. Stockholders of the Company approved the program at a
Special Meeting of Stockholders held in December 1991. In connection with the
reorganization of the Association in 1994, the 1991 Program was adopted by the
Company, and approved by stockholders for the benefit of officers and key
employees of the Company and the Bank and its subsidiaries.
An aggregate of 241,001 shares of authorized but unissued shares of
Company Common Stock were originally reserved for future issuance under the
1991 Program. All shares of the 1991 Program have been issued. Shares
issuable under the New Program and the 1991 Program (collectively, the
"Programs") pursuant to the exercise of stock options and/or the granting of
stock appreciation rights and performance shares, are subject to modification
or adjustment to reflect changes in the Company's capitalization.
Of the shares reserved for issuance under the Programs, 30,968 shares are
not currently subject to option at February 28, 1998. The Programs will
remain in effect for a term of ten years from the date of adoption unless
sooner terminated in accordance with the provisions of the Programs. Four
kinds of rights, evidenced by four plans, are contained in the Programs and
are available for grant: (i) incentive stock options; (ii) compensatory stock
options; (iii) stock appreciation rights; and (iv) performance share awards.
The Programs are administered by Messrs. Niver, Flowers and Johnson (the
"Program Administrators"). The Program Administrators are given absolute
discretion under each Program to select the persons to whom options, rights
and awards will be granted and to determine the number of shares subject to
each option, right or award. Only regular, full-time employees of the Company
or the Bank, or any subsidiary of the Company or the Bank are eligible for
selection by the Program Administrators to participate in the Programs.
Non-employee directors are not eligible to receive awards under the Programs.
The option prices per share for incentive stock options granted under the
Programs may not be less than the fair market value of the Company's Common
Stock on the date of the grant; provided, however, that if any employee owns
more than 10% of the combined voting power of all classes of stock of the
Company, the purchase price for shares acquired pursuant to the exercise of an
option shall not be less than 110% of the fair market value of the Common
Stock. The per share exercise price for compensatory options granted under the
Programs may be equal to or less than the fair market value on the date of
grant. The purchase price for shares of Common Stock subject to incentive or
compensatory options may be paid in cash, by check, or if permitted by the
Program Administrators at the time the option is granted, by shares of Common
Stock, or by a combination thereof.
In the event of a change in control of the Company, as defined, all
incentive and compensatory stock options previously granted may become
immediately exercisable notwithstanding any existing installment limitation
which may be established by the Program Administrators, provided that the
exercisability of an option may not be accelerated prior to the six month
anniversary of the date the option is granted.
<PAGE>
AGGREGATE OPTIONS GRANTED IN LAST FISCAL YEAR
The following table sets forth individual grants of options that were
made during the last fiscal year to the executive officers named in the
Summary Compensation Table. This table is intended to allow stockholders to
ascertain the number and size of option grants made during the fiscal year,
the expiration date of the grants and the potential realizable present value
of such options under specified assumptions.
<TABLE>
<CAPTION>
PERCENT OF
OPTIONS TOTAL OPTIONS
GRANTED GRANTED TO EXERCISE
(NO. OF EMPLOYEES PRICE
NAME SHARES)(1) IN FISCAL YEAR PER SHARE
- ----------------- ---------- -------------- ---------
<S> <C> <C> <C>
Manuel J. Mehos. . 9,000 7.18% $29.25
Manuel J. Mehos. . 13,000 10.37 22.75
John D. Bird . . . 5,000 3.99 22.75
Gary R. Garrett. . 11,000 8.77 22.75
David R. Graham. . 8,000 6.38 22.75
Catherine N. Wylie 11,000 8.77 22.75
GRANT DATE
EXPIRATION PRESENT
NAME DATE VALUE(2)
- ---------------- ---------- -----------
<S> <C> <C>
Manuel J. Mehos. . 6/26/07 $107,829
Manuel J. Mehos. . 4/24/07 115,999
John D. Bird . . . 4/24/07 44,615
Gary R. Garrett. . 4/24/07 98,153
David R. Graham. . 4/24/07 71,384
Catherine N. Wylie 4/24/07 98,153
</TABLE>
(1) Total options granted in 1997 were 125,400 shares. The options vest
25% during the first year and an additional 25% for each of the next three
years.
(2) The potential realizable value of the grant of options is the present
value of the grant at the date of grant using a variation of the Black-Scholes
option pricing model. Assumptions used to calculate the present value of the
options granted on April 24, 1997 and June 26, 1997, respectively, were as
follows: an expected volatility rate of 22.19% and 23.18%, a risk free rate
of return of 6.93% and 6.49%, a dividend yield of $.48 per share per year and
the expiration date of April 24, 2007 and June 26, 2007, respectively.
AGGREGATE OPTIONS EXERCISED IN LAST YEAR AND FISCAL YEAR-END OPTION VALUES
The following table sets forth, with respect to the executive officers
named in the Summary Compensation Table, information with respect to the
aggregate amount of options exercised during the last fiscal year, any value
realized thereon, the number of unexercised options at the end of the fiscal
year (exercisable and unexercisable) and the value with respect thereto.
<TABLE>
<CAPTION>
Shares Number of Unexercised
Acquired on Value Options at Fiscal Year-End
Name Exercise Realized(2) Exercisable Unexercisable
- ------------ -------- ----------- ----------- -------------
<S> <C> <C> <C> <C>
Manuel J. Mehos. . -- -- 63,750 36,250
John D. Bird . . . -- -- 23,666 7,362
Gary R. Garrett. . -- -- 25,548 14,611
David R. Graham. . 14,894 249,364 9,411 10,970
Catherine N. Wylie -- -- 25,021 14,611
Value of Unexercised
in-the-Money Options at
Fiscal Year-End(1)
------------------
Name Exercisable Unexercisable
- ------------- ----------- -------------
<S> <C> <C>
Manuel J. Mehos. . $1,179,031 $516,344
John D. Bird . . . 503,666 111,701
Gary R. Garrett. . 512,346 215,780
David R. Graham. . 162,208 163,424
Catherine N. Wylie 499,748 215,780
</TABLE>
(1) Based upon a closing market price for the Company's Common Stock as of
December 31, 1997 of $34.875.
(2) Based upon actual sales price at the time of exercise and sale.
COMPARATIVE STOCK PERFORMANCE GRAPH
The stock performance graph below compares the cumulative total
stockholder return of the Company's Common Stock from December 31, 1992 to
December 31, 1997 with the cumulative total return of the National Association
of Securities Dealers Automated Quotations ("NASDAQ") Market Index and certain
SNL thrift institutions traded on the NASDAQ, as compiled by SNL Securities,
L.P. in its OTC Thrift Index, assuming an investment of $100 on December 31,
1992 and the reinvestment of all dividends. The Company did not pay dividends
on the Company's Common Stock during 1992 or 1993. In 1994, the Company paid
its first dividend of $.08 per share on June 15, 1994. Quarterly dividends of
the same amount were paid on September 15, 1994, December 15, 1994, March 15,
1995, June 15, 1995, September 15, 1995, and December 15, 1995. The Board of
Directors voted at the January 25, 1996 regularly scheduled Board Meeting to
increase the dividend for the fourth quarter of 1995 from $.08 per share to
$.10 per share. Quarterly dividends of $.10 per share were paid on March 15,
1996, June 15, 1996, September 15, 1996 and December 15, 1996. During 1997
the Company paid quarterly dividends in the amount of $.10 per share for March
15, 1997 and quarterly dividends of $.12 per share for June 15, 1997,
September 15, 1997 and December 15, 1997.
<PAGE>
Comparison of Five Year-Cumulative Total Return Performance
<TABLE>
<CAPTION>
Index Period Ending
12/31/92 12/31/93 12/31/94
<S> <C> <C> <C>
Coastal Bancorp, Inc. 100.00 103.92 114.32
NASDAQ - Total US . . 100.00 114.80 112.21
OTC Thrifts . . . . . 100.00 138.34 139.72
Index Period Ending
12/31/95 12/31/96 12/31/97
<S> <C> <C> <C>
Coastal Bancorp, Inc. 142.03 189.66 293.98
NASDAQ - Total US . . 158.70 195.19 239.53
OTC Thrifts . . . . . 212.45 276.38 448.90
</TABLE>
Notes:
A. Each index is weighted for all companies that fit the criteria of
that particular index. The index is calculated to exclude companies as they
are acquired, and add them to the index calculation as they become publicly
traded companies. All companies in existence at a certain time are included
in the calculations.
B. Each index value measures dividend re-investment by assuming
dividends are received in cash on the ex-date and re-invested back into the
company stock paying the dividend on the same day. The stock price on the
ex-date is used to calculate how many shares can be bought with the dividend.
Prepared by SNL Securities LP
Charlottesville, VA 22902
CERTAIN TRANSACTIONS
The Company may make home mortgage or consumer loans to directors,
officers and employees. Any such loan will be made in the ordinary course of
business and on the same terms and conditions, including interest rates and
collateral, as those prevailing for comparable transactions at that time with
non-affiliated parties. The Company had no loans to directors or executive
officers outstanding at the year ended 1997. As a result of the enactment of
the Financial Institutions Reform, Recovery, and Enforcement Act of 1989
("FIRREA") on August 9, 1989, Section 22(h) of the Federal Reserve Act became
applicable to a savings institution, such as the Bank. This law generally
provides that any credit extended by a savings institution to its executive
officers, directors and, to the extent otherwise permitted, principal
stockholder(s), or any related interest of the foregoing, must (i) be on
substantially the same terms, including interest rates and collateral, as
those prevailing at the time for comparable transactions by the savings
association with non-affiliated parties; (ii) be pursuant to underwriting
standards that are no less stringent than those applicable to comparable
transactions with non-affiliated parties; (iii) not involve more than the
normal risk of repayment or present other unfavorable features; and (iv) not
exceed, in the aggregate, the institution's unimpaired capital and surplus, as
defined.
In 1987, the Bank entered into an Administrative Services Agreement with
Coastal Banc Insurance Agency, Inc. ("CBIA"), a Texas business corporation
licensed under Texas law to act as a life insurance agent. CBIA is
wholly-owned by an executive officer of the Bank who receives no salary or
dividends from CBIA. CBIA has granted to the Bank the legal ownership of all
of its books and records and the stockholder of CBIA has granted to the Bank
the right to assign all of its stock in CBIA to any other properly licensed
life insurance agent in the Bank's sole discretion. The Bank has agreed to
provide to CBIA certain services, including but not limited to employee
training, office space, furniture, fixtures, equipment, clerical services,
data processing and other services as well as marketing leads and information
to assist CBIA in the sale of annuities underwritten by an independent annuity
company to the Bank's deposit and loan customers. In consideration for such
services, CBIA has agreed to pay the Bank a flat fee which is subject to
renegotiation on a quarterly basis. The fee payable to the Bank was last
negotiated on December 19, 1997, and was $220,000 for the year ended December
31, 1997. Such fee represented substantially all of CBIA's net income for the
year then ended.
RATIFICATION OF APPOINTMENT OF INDEPENDENT AUDITORS
The Board of Directors of the Company has appointed KPMG Peat Marwick LLP
as independent auditors for the Company for the year ending December 31, 1998,
and has further directed that the selection of auditors be submitted for
ratification by the stockholders at the Annual Meeting. The Company has been
advised by KPMG Peat Marwick LLP that neither the firm nor any of its
associates has any relationship with the Company or its subsidiaries other
than the usual relationship that exists between independent public accountants
and clients. KPMG Peat Marwick LLP will have one or more representatives at
the Annual Meeting who will have an opportunity to make a statement, if he or
she so desires, and will be available to respond to appropriate questions.
THE BOARD OF DIRECTORS RECOMMENDS A VOTE "FOR" RATIFICATION OF THE
APPOINTMENT OF KPMG PEAT MARWICK LLP AS INDEPENDENT AUDITORS FOR FISCAL 1998.
STOCKHOLDER PROPOSALS
Any proposal which a stockholder wishes to have presented at the next
Annual Meeting of Stockholders of the Company and included in the proxy
materials used by the Company in connection with such meeting must be received
at the corporate headquarters office of the Company at Coastal Banc Plaza,
5718 Westheimer, Suite 600, Houston, Texas 77057, no later than November 24,
1998. If such proposal is in compliance with all of the requirements of Rule
14a-8 promulgated under the Exchange Act, it will be included in the Proxy
Statement and set forth on the form of proxy issued for the next Annual
Meeting of Stockholders. It is urged that any such proposals be sent by
certified mail, return receipt requested.
Stockholder proposals which are not submitted for inclusion in the
Company's proxy materials pursuant to Rule 14a-8 under the Exchange Act may be
brought before an annual meeting pursuant to the Company's Articles of
Incorporation, which provide that business must be properly brought before the
meeting by or at the direction of the Board of Directors, or otherwise
properly brought before the meeting by a stockholder. For business to be
properly brought before an annual meeting by a stockholder, the stockholder
must have given timely notice thereof in writing to the Secretary of the
Company. To be timely, a stockholder's notice must be delivered to, or mailed
and received at, the principal executive offices of the Company not less than
60 days prior to the anniversary date of the mailing of proxy materials by the
Company in connection with the immediately preceding annual meeting of
stockholders of the Company. A stockholder's notice shall set forth as to
each matter the stockholder proposes to bring before an annual meeting such
information specified in the Company's Articles of Incorporation. If the
proposal is not made in accordance with the terms of the Articles of
Incorporation, such proposal will not be acted upon at the Annual Meeting. No
stockholder proposals were received by the Company in connection with the 1998
Annual Meeting.
OTHER MATTERS
Management is not aware of any business to come before the 1998 Annual
Meeting other than those matters described above in this Proxy Statement and
possibly, procedural matters incident to the conduct of the meeting. However,
if any other matters should properly come before the meeting, it is intended
that the proxies solicited hereby will be voted with respect to those other
matters in accordance with the judgment of the persons voting the proxies.
The cost of the solicitation of proxies will be borne by the Company.
The Company will reimburse brokerage firms and other custodians, nominees and
fiduciaries for reasonable expenses incurred by them in sending proxy
materials to the beneficial owners of the Company's Common Stock. In addition
to solicitations by mail, directors, officers and employees of the Company or
its subsidiary may solicit proxies personally or by telephone without
additional compensation.
ANNUAL REPORT AND FINANCIAL STATEMENTS
A copy of the Company's Annual Report for the year ended December 31,
1997 ("Annual Report") accompanies this Proxy Statement. The Annual Report is
not a part of the proxy solicitation materials.
UPON RECEIPT OF A WRITTEN REQUEST, THE COMPANY WILL FURNISH TO ANY
STOCKHOLDER, WITHOUT CHARGE, A COPY OF THE COMPANY'S ANNUAL REPORT ON FORM
10-K FOR THE YEAR ENDED DECEMBER 31, 1997, AND ANY EXHIBITS THERETO REQUIRED
TO BE FILED WITH THE SECURITIES AND EXCHANGE COMMISSION UNDER THE EXCHANGE
ACT. SUCH WRITTEN REQUEST SHOULD BE DIRECTED TO CATHERINE N. WYLIE, CHIEF
FINANCIAL OFFICER, COASTAL BANCORP, INC., COASTAL BANC PLAZA, 5718 WESTHEIMER,
SUITE 600, HOUSTON, TEXAS 77057. THE FORM 10-K IS NOT A PART OF THE PROXY
SOLICITATION MATERIALS.
By Order of the Board of Directors
/s/ Linda B. Frazier
-------------------------
Linda B. Frazier
Secretary
March 24, 1998
template1
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
This schedule contains summary financial information extracted from the
consolidated statement of financial condition, the consolidated statement of
operations and notes thereto found in exhibit 13 of the Company's Form 10-k for
the year ended December 31, 1997 and is qualified in its entirety by reference
to such financial statements
</LEGEND>
<RESTATED>
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-END> DEC-31-1996
<CASH> 27,735
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 180,667
<INVESTMENTS-CARRYING> 1,344,587
<INVESTMENTS-MARKET> 1,308,598
<LOANS> 1,229,748
<ALLOWANCE> 6,880
<TOTAL-ASSETS> 2,875,907
<DEPOSITS> 1,310,835
<SHORT-TERM> 1,011,402
<LIABILITIES-OTHER> 44,217
<LONG-TERM> 415,305
0
0
<COMMON> 50
<OTHER-SE> 94,098
<TOTAL-LIABILITIES-AND-EQUITY> 2,875,907
<INTEREST-LOAN> 97,935
<INTEREST-INVEST> 95,155
<INTEREST-OTHER> 1,521
<INTEREST-TOTAL> 194,611
<INTEREST-DEPOSIT> 60,076
<INTEREST-EXPENSE> 138,185
<INTEREST-INCOME-NET> 56,426
<LOAN-LOSSES> 1,925
<SECURITIES-GAINS> (4)
<EXPENSE-OTHER> 47,970
<INCOME-PRETAX> 12,622
<INCOME-PRE-EXTRAORDINARY> 6,951
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 6,951
<EPS-PRIMARY> 1.40
<EPS-DILUTED> 1.38
<YIELD-ACTUAL> 2.06
<LOANS-NON> 12,839
<LOANS-PAST> 1,195
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 5,703
<CHARGE-OFFS> 851
<RECOVERIES> 103
<ALLOWANCE-CLOSE> 6,880
<ALLOWANCE-DOMESTIC> 6,880
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
