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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-KSB
ANNUAL REPORT UNDER SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended September 30, 1996
Commission file number 0-24664
FIRST OZAUKEE CAPITAL CORP.
(Exact name of small business issuer as specified in its charter)
Wisconsin 39-1781744
(State of incorporation) (I.R.S. Employer Identification No.)
W61 N526 Washington Avenue
Cedarburg, Wisconsin 53012
(Address of principal executive offices) (Zip Code)
(414) 377-0750
(Registrant's telephone number, including area code)
Securities Registered Under Section 12(b) of the Exchange Act:
None
Securities Registered Under Section 12(g) of the Exchange Act:
Common Stock, $1.00 par value per share
(Title of Class)
Check whether the issuer (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days.
(1) Yes X No
(2) Yes X No
Check if disclosure of delinquent filers in response to Item 405 of Regulation
S-B is not contained in this form, and no disclosure will 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-KSB or any amendment to
this Form 10-KSB.
State issuer's revenues for its most recent fiscal year: $2,634,000 (Total
interest and dividend income and total non-interest income.)
As of December 12, 1996, there were issued and outstanding 627,477 shares of
Common Stock of the Registrant. The aggregate market value of the voting stock
held by non-affiliates of the Registrant, computed by reference to the average
of the bid and asked price of such shares of Common Stock as of December 12, 1996
was $5.7 million. Solely for purposes of this calculation, all executive officers
and directors of the Registrant are considered to be affiliates; also included
as "affiliate shares" are certain shares held by various employee benefit plans
in which the trustees are directors of the Registrant or are required to vote a
portion of unallocated shares at the direction of executive officers or directors
of the Registrant. The exclusion from such amount of the market value of the
shares owned by any person shall not be deemed an admission by the Registrant
that such person is an affiliate of the Registrant.
DOCUMENTS INCORPORATED BY REFERENCE
Parts II and IV of Form 10-KSB: Portions of the Annual Report to Shareholders
for the fiscal year ended September 30, 1996 are incorporated by reference into
Parts II and IV hereof.
Part III of Form 10-KSB: Portions of the Proxy Statement for the 1997 Annual
Meeting of Shareholders are incorporated by reference into Part III hereof.
<PAGE>1
PART I
ITEM I. DESCRIPTION OF BUSINESS
General
First Ozaukee Capital Corp., a Wisconsin corporation (The "Company" or the "Registrant"), was
formed for the purpose of owning all of the outstanding stock of First Ozaukee Savings Bank, a
Wisconsin chartered stock savings bank (the "Bank"), issued in the mutual to stock conversion
of the bank (the "Conversion"). The conversion was consummated on October 21, 1994; the Company
issued 603,345 shares of Common Stock in exchange for proceeds of $4.8 million, and the Company
purchased 1,000 shares of Common Stock of the Bank for $1.9 million. The bank is regulated by
the Department of Financial Institutions Division of Savings Institutions (the "Commissioner")
and the Federal Deposit Insurance Corporation (the "FDIC"). The Bank's deposits are insured up
to applicable limits by the Savings Association Insurance Fund ("SAIF") of the FDIC. The Bank
also is a member of the Federal Home Loan Bank ("FHLB") system. The bank was organized in 1923,
and now has two full service offices located in Ozaukee County, Wisconsin. Because the
Company's only significant business operations are that of the Bank, the business of the Bank
is essentially the only business of the Company.
The Bank is a community oriented financial institution which emphasizes retail financial
services to individuals and consumers within its market areas. The Bank's principal business
is attracting retail deposits from the general public and investing those deposits, together
with funds generated from other operations, primarily to originate residential mortgage loans
within its primary market areas and to invest in mortgage-backed securities and investment
securities. The principal lending is on one-to four-family owner-occupied homes, including ARM
loans, and to a lesser extent, the Bank also originates home equity lines of credit, multi-
family, other consumer, commercial/non-residential and residential construction loans. The Bank
invests a significant portion of its assets in investment securities and mortgage-backed
securities, including U. S. Government and federal agency securities, short-term liquid assets
and other marketable securities. The Bank's revenues are derived principally from interest on
its mortgage loan portfolio, interest on mortgage-backed securities and interest and dividends
on its investment securities. The Bank's principal sources of funds are received from deposits,
repayments on loans and mortgage-backed securities.
Market Area and Competition
The Bank offers a variety of deposit products, services and mortgage loan offerings primarily
within the metropolitan Milwaukee area. The Bank's main office is located at W61 N526
Washington Avenue, Cedarburg, Wisconsin which is approximately 20 miles north of Milwaukee, and
the Bank has one branch office located in Grafton, Wisconsin which is approximately 22 miles
north of Milwaukee. The City of Cedarburg and the City of Grafton are included within the
largest metropolitan statistical area ("MSA") within the State of Wisconsin. The Bank's primary
market area consists of Ozaukee and Washington counties and the northern portions of Milwaukee
county. The Milwaukee MSA, which includes Milwaukee, Waukesha, Ozaukee and Washington counties,
includes a diverse economic base including business, industry and agriculture. Cedarburg's most
predominant industry is manufacturing, which employs approximately 30% of its work force. Major
employers in Cedarburg area include Kelch Corp., Amcast Industrial Corp., Wirth Printing,
Carlson Tool Manufacturing Corp., Pioneer Tool and Die, Inc., High Voltage Components, Inc.,
Cedarburg Dairy and Pioneer Container Corp. The service and retail industries add economic
diversity and stability in the Cedarburg area, employing 40% and 30% of the work force,
respectively.
The Bank has significant competition in both its mortgage and consumer lending business, as well
as in attracting deposits. The bank's competition for loans is principally from other thrift
institutions, savings banks, mortgage banking companies, insurance companies and commercial
banks. Its most direct competition for deposits historically has come from other thrifts,
savings banks, commercial banks and credit unions. Because of the lower interest rate
environment over the past several years, the Bank has faced additional competition for funds
from a number of institutions, including the availability of short-term money market funds and
other corporate and government securities funds offered by other financial service companies,
such as brokerage firms and insurance companies.
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At or For the Year Ended
September 30, 1996
1996 1995 1994
KEY FINANCIAL RATIOS:
Performance ratios:
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Return on assets(1) (0.66)% 0.29% 0.37%
Return on stockholders' equity(2) (2.89)% 1.37% 3.36%
Stockholders' equity to assets ratio(3) 22.69% 21.53% 10.49%
Dividend payout ratio(4) - - -
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(1) Net earnings (loss) divided by average total assets
(2) Net earnings (loss) divided by average stockholders' equity
(3) Average stockholders' equity divided by average total assets
(4) Dividends declared per share divided by net earnings per share
Lending Activities
General
The Bank's largest component of its gross loan portfolio, which totaled $17.1 million at
September 30, 1996 was first mortgage loans secured by owner-occupied one-to four-family
residences. At September 30, 1996, one-to four-family mortgage loans totaled $9.3 million or
54.62% of gross loans. Of the total one-to four-family mortgage loans $9.1 million, or 97.3%
were ARM loans. Of the remaining loans held at September 30, 1996, 10.17% of gross loans, or
$1.7 million, were in home equity loans, 13.59% or $2.3 million were in commercial/non-
residential loans, 7.88% or $1.3 million were in residential construction loans, 11.38% or $1.9
million were in multi-family mortgage loans, and the balance were in other consumer loans (not
including home equity loans). As part of its strategy to reduce interest rate risk, the Bank
originates primarily ARM loans for its own portfolio. However, because consumer demand for ARM
loans has not been high in the last few years in the Milwaukee area, the Bank also offers longer
term fixed rate mortgage loans, most of which are sold immediately into the secondary market.
Composition of Loan Portfolio
The following table sets forth the composition of the Bank's loan portfolio in dollar amounts
and in percentages at the dates indicated.
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At September 30,
1996 1995 1994
Percent Percent Percent
Amount Total Amount Total Amount Total
(Dollars in thousands)
Mortgage loans:
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One-to-four family $ 9,331 54.62% 8,681 56.89% 8,577 67.09%
Residential Construction(1) 1,347 7.88% 2,470 16.18% 141 1.10%
Multi-family 1,945 11.38% 908 5.95% 946 7.40%
Commercial 2,321 13.59% 1,881 12.33% 1,718 13.44%
------ ----- ------ ----- ------ -----
Total mortgage loans 14,944 87.47% 13,940 91.35% 11,382 89.03%
------ ----- ------ ----- ------ -----
Consumer loans:
Home equity 1,737 10.17% 899 5.89% 1,013 7.93%
Other consumer 404 2.36% 421 2.76% 389 3.04%
------ ----- ------ ----- ------ ------
Total consumer loans 2,141 12.53% 1,320 8.65% 1,402 10.97%
------ ----- ------ ----- ------ ------
Gross loans receivable 17,085 100.00% 15,260 100.00% 12,784 100.00%
------ ====== ------ ====== ------ ======
Loans in process (563) (1,336) (112)
Deferred fees and disc. (43) (58) ( 49)
Allowance for loan losses (134) (116) ( 98)
Allowance for uncollected
interest (4) (3) (1)
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Total deductions (744) (1,513) (260)
------ ------ ------
Loans receivable, net $16,341 13,747 12,524
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(1) Residential construction includes both one- to four-family and multi-family construction
loans.
<PAGE>3
Loan Maturity and Repricing
The following table shows the maturity or period to repricing of the Bank's loan portfolio at
September 30, 1996. Loans that have adjustable rates are shown as being due in the period
during which the interest rates are next subject to change. The table does not include
prepayments or scheduled principal amortization. Prepayments and scheduled principal
amortization on mortgage loans totalled $ 2.7 million for the year ended September 30, 1996.
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At September 30, 1996
Multi-
Family/
One-to- Nonres- Consumer
Four Family (1) idential(1) Loans Total
(In Thousands)
Amounts due: (2)
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Within one year $6,012 2,532 1,312 9,856
----- ----- ----- -----
After one year:
One to three years 2,362 2,211 266 4,839
Three to five years 850 84 502 1,436
Five to ten years 89 123 61 273
Ten to twenty years 34 - - 34
Over Twenty years 84 - - 84
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Total due or repricing
after one year 3,419 2,418 829 6,666
----- ----- ----- ------
Total amounts due or repricing 9,431 4,950 2,141 16,522
Deferred fees and discounts (43) - - (43)
Allowance for loan losses (66) (43) (25) (134)
Allowance for uncollected interest (4) - - (4)
----- ----- ----- ------
Loans receivable, net $9,318 4,907 2,116 16,341
===== ===== ===== ======
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(1) Includes some residential construction lending.
(2) These amounts are net of loans in process.
The following table sets forth at September 30, 1996 the dollar amount of all loans due or
scheduled to reprice after September 30, 1997, and whether such loans have fixed interest rates
or adjustable interest rates. Loans that have adjustable rates are shown as being due in the
period during which the interest rates are subject to change.
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Due or Repricing After
September 30, 1997
Fixed Adjustable Total
(In thousands)
Mortgage loans:
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One-to-four family (1) $ 299 3,120 3,419
Multi-family/Nonresidential (1) 274 2,144 2,418
Consumer loans 829 - 829
----- ----- -----
Total due or repricing after one year(2) $1,402 5,264 6,666
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(1) Includes construction lending.
(2) These amounts are net of loans in process.
One- to Four-Family Mortgage Lending
The Bank's primary lending activity has been the origination of first mortgage loans secured by
one-to four-family, owner-occupied residences, including townhouse and condominium units, within
the Bank's primary lending area. All of the ARM loans are originated for the Bank's own
portfolio and fixed rate loans typically are held for sale and then sold into the secondary
market. At September 30, 1996, $9.3 million or 54.62% of the Bank's gross loan portfolio
consisted of loans secured by one-to four-family residential properties. Of the one- to four-
<PAGE>4
family residential mortgage loans in the Bank's gross loan portfolio, $9.1 million or 97.3%
consisted of ARM loans.
Because of the highly competitive mortgage loan market in which the Bank originates loans, a
variety of mortgage products are available from the Bank, with a variety of interest rates, fees
and other origination terms. The Bank offers conventional fixed rate mortgage loans and ARM
loans with maturity dates which typically rank from 15 to 30 years. Residential mortgage loans
generally are underwritten to FHLMC, FNMA and other agency guidelines. The bank rarely
originates loans in excess of these agency limits; however, if the Bank does originate jumbo
loans, the fixed rate jumbo loans generally are sold servicing released without recourse to
secondary market purchasers and the ARM jumbo loans are underwritten in accordance with the
Bank's underwriting guidelines and are retained in the Bank's loan portfolio. ARM loans are
held in the Bank's portfolio and fixed rate loans typically are sold into the secondary market.
Origination fees ranging from zero to two points generally are quoted on mortgage loans. The
interest rates charged on mortgage loans at any given date will vary, depending upon the amount
of origination points to be paid. The interest rates at which the Bank offers to grant a
mortgage loan also are determined by the secondary market pricing for comparable mortgage-backed
securities, local mortgage loan competition and the Bank's yield requirements. Since the
availability of zero point mortgage loans in recent years, most borrowers accept a slightly
higher interest rate and a no point mortgage loan.
Mortgage loan originations are solicited from real estate brokers, builders, developers,
existing or past customers and residents of the local communities located in the Bank's primary
market area. The Bank advertises its product offerings in newspapers and other media
circulating throughout the primary market area in addition to its loan origination officers
soliciting prospects. Upon receipt of a completed mortgage application from a prospective
borrower, a credit report is ordered, income and other information is verified, and, as
necessary, additional financial information is requested. An appraisal of the real estate that
is to secure the loan is required. It is the Bank's policy to obtain title insurance on all
real estate first mortgage loans. Borrowers must present evidence of appropriate hazard
insurance and flood insurance (if applicable) prior to the closing. Borrowers are required to
advance funds on a monthly basis, together with payments of principal and interest, to a
mortgage escrow account from which the Bank makes disbursements for items such as real estate
taxes, and in some instances, hazard insurance and flood insurance. The lending policy of the
Bank restricts mortgage loans to 80% of the lesser of the appraised value or purchase price of
the real estate to be mortgaged to the Bank. The Bank makes mortgage loans to 95% of the lesser
of the appraised value or purchase price subject to the availability of private mortgage
insurance insuring the amount in excess of 75% of the loan. The Bank's underwriting department,
which is independent of loan origination, reviews all the pertinent information and makes a
credit decision for approval or denial within established Bank policy guidelines. Most
recommendations to deny applications based on underwriting considerations are reviewed by the
Bank's President prior to a final loan denial. All one-to four family mortgage loan
applications are reviewed on a monthly basis by the Board of Directors. Mortgage loans in the
Bank's loan portfolio include due-on-sale clauses, which provide the Bank with the contractual
right to deem the loan immediately due and payable in the event the borrower transfers the
ownership of the property without the Bank's consent. The Bank enforces the due-on-sale clauses
of its mortgage loans.
Included in mortgage loans held by the Bank as part of its loan portfolio are ARM loans. Current
one-year ARM loans typically adjust by a maximum of 100 basis points per year with a lifetime
cap of approximately 600 basis points above the interest rate established at the origination
date of the ARM loan. Monthly payments of principal and interest are adjusted when the interest
rate adjusts, in order to maintain full amortization of the mortgage loan within a maximum
30-year term. Also offered are three-year ARM loans, which adjust annually after the initial
three year term. The initial rate offered on ARM loans fluctuates with general interest rate
changes and are determined by secondary market pricing, competitive conditions and the Bank's
yield requirements. Currently, the Bank primarily utilizes the OTS National Median Cost of
Funds, plus a margin, in order to determine the interest rate payable upon the adjustment date
of its ARM loans outstanding. In order to minimize the risk associated with ARM loans, borrowers
under ARM programs are qualified at the higher of the initial offering rate or the fully-indexed
rate and with a specified minimum interest rate. None of the ARM loans are granted with
conversion options. As compared to fixed rate loans, ARM loans generally pose different risks.
In a rising interest rate environment, the underlying loan payment rises, which increases the
potential for default by the borrower. At the same time, the marketability of the underlying
property may be adversely affected by higher interest rates. In a decreasing interest rate
environment, mortgagors tend to refinance into fixed rate loans.
Although the Bank historically has focused its loan origination activities on residential
mortgage financing, commencing in mid-1991 the Bank expanded its one-to four-family owner-
occupied residential mortgage loan activities. As a result of the expanded emphasis on mortgage
loan originations, one-to four-family mortgage loan originations were $9.6 million for the year
<PAGE>5
ended September 30, 1993 compared to $4.2 million for the year ended September 30, 1992. Of
these amounts, $3.6 million and $1.7 million were ARM loans for the years ended September 30,
1993 and 1992, respectively. However, during the years ended September 30, 1996, 1995 and 1994,
the Bank originated only $1.4, $1.7 and $1.9 million of one-to four-family mortgage loans,
respectively, due to rising interest rates, the increased competition for mortgage loan
originations, the lack of quality mortgage loan applications and a temporary reduction in
personnel concentrating on mortgage loan originations. All of the ARM loans originated in these
periods were retained in the Bank's loan portfolio, while all of the fixed rate loans were sold
to Fleet Mortgage Corporation. Market interest rates on mortgage loans increased during the
last half of 1994 and into 1995, before decreasing in mid-1995, due to the anticipated lack of
demand for mortgage loan products and the increasing competition for mortgage loan originations.
In the Bank's market areas, the demand for ARM loans compared to fixed rate loans has been a
function of several factors, including the level of interest rates, the expectations of changes
in the level of interest rates and the difference between the interest rates and loan fees
offered for ARM loans and fixed rate loans. Due to consumer preference for fixed rate loans, ARM
loans are more difficult to originate in low interest rate environments. However, the Bank has
emphasized ARM loans, and as a result, ARM loans amounted to 97%, 100%, and 26.3% of the Bank's
total originations of one-to four-family mortgage loans for the years ended September 30, 1996,
1995, and 1994 respectively.
Multi-family Lending
The Bank originates multi-family loans which it holds in its loan portfolio. In recent years,
the Bank has offered only ARM multi-family loans with terms up to 30 years. The rates charged
on the Bank's ARM multi-family loans are typically 25 to 50 basis points higher than on one-to
four-family residential properties. Multi-family ARM loans typically adjust in a manner similar
to that of the Bank's other ARM loans. An origination fee of 1% to 2% is usually charged on such
loans.
Multi-family loans generally are underwritten in amounts of up to 80% of the lesser of the
appraised value or purchase price of the underlying property. The underlying properties
typically are apartment buildings with 20 or less units. Appraisals on properties which secure
multi-family loans are performed by an independent appraiser designated by the Bank at the time
the application is submitted. All appraisals on multi-family loans are reviewed by Bank
management. In addition, the Bank's underwriting procedures require verification of the
borrower's credit history, an analysis of the borrower's income, personal financial statements
and banking relationships, a review of the property, including cash flow projections and
historical operating results. The Bank evaluates all aspects of multi-family lending in order
to mitigate risk to the extent possible. The Bank seeks to ensure that the property securing the
loans will generate sufficient cash flow to adequately cover operating expenses and debt service
payments. To this end, multi-family loans generally are made at a loan-to-value ratio no greater
than 80%. Typically, individuals guarantee all of their multi-family loans. Substantially all
of the Bank's multi-family loans are secured by properties located with 50 miles of the Bank's
principal office, and within the last five years, virtually all of the Bank's multi-family loans
it originated were located within 50 miles of the Bank's principal office.
Loans secured by multi-family real estate generally involve a greater degree of credit risk than
one-to four-family mortgage loans and carry larger loan balances. This increased credit risk is
a result of several factors, including the concentration of principal in a limited number of
loans and borrowers, the effects of general economic conditions on income producing properties
and the increased difficulty of evaluating and monitoring these types of loans. Furthermore, the
repayment of loans secured by multi-family real estate is typically dependent upon the
successful operation of the related real estate project. If the cash flow from the project is
reduced, the borrower's ability to repay the loans may be impaired. Despite the risk inherent
in multi-family real estate lending, the Bank's delinquent multifamily loans as a percentage of
gross loans has been minimal.
The Bank holds in its loan portfolio seven multi-family ARM loans which at September 30, 1996
totalled $1.9 million or 11.38% of the Bank's gross loans. The average outstanding loan balance
on each multifamily loan at September 30, 1996 was $277,857. All payments under multi-family
loans originated by the Bank were current and performing in accordance with their terms at
September 30, 1996.
The largest multi-family loan at September 30, 1996 had an outstanding balance of $539,946 and
was secured by two twelve-unit apartment buildings located in Saukville, Wisconsin. All of the
multi-family loans are secured by apartment buildings, ranging from twelve units to 20 units.
At September 30, 1996, the largest aggregate amount of loans outstanding to any one borrower
totalled $820,809, and consisted of three loans secured by multi-family properties located in
Grafton and Port Washington, Wisconsin and two loans secured by commercial/non-residential
properties. At September 30, 1996, these loans were current and performing in accordance with
<PAGE>6
their terms. These loans do not exceed the regulatory "loans to one borrower" limitation at
September 30, 1996. See "Regulation".
Residential Construction Lending
As part of its emphasis to increase mortgage lending, the Bank has undertaken to expand its
market share of new single family owner occupied construction loans. These loans are made to
individuals who have signed construction contracts with a home builder. Loan proceeds are
disbursed in increments as construction of the residence progresses. These loans have loan to
value ratios not exceeding 90%. When the loan to value ratio exceeds 80%, private mortgage
insurance ("PMI") is required which insures payment of the principal balance and reduces the
Bank's exposure to 75% loan to value or less. Single family residential loans
are structured to allow the borrower to pay interest only on the funds advanced during the first
nine months of the loan. Thereafter the borrower is required to begin making principal and
interest payments based on an amortization schedule of 351 months or less. Single family
residential construction loan programs typically offered by the Bank are one or three year ARM
loans.
The Bank does not engage in construction lending for large tract developments. However, from
time to time, the Bank will consider multi-family residential construction lending. The loan to
value ratio on these loans does not exceed 80%. Multi-family construction loans typically
offered by the Bank are ARM loans amortized over 348 months after allowing for interest only
payments during a twelve month construction period. Loan proceeds are advanced in increments as
construction of the project processes.
At September 30, 1996, the Bank had one, one- to four-family residential construction loan in
its loan portfolio, of $222,450 and had three multi-family construction loans aggregating
$1,124,528. For the year ended September 30, 1996, the Bank originated $711,000 and $375,000,
respectively of one-to four family and multi-family construction loans. Because most
residential construction loans are ARM loans, residential construction loans afford the Bank the
opportunity to decrease the interest rate sensitivity of its loan portfolio and to receive
yields on fixed rate loans higher than those obtainable on fixed rate loans secured by existing
residential properties. These higher yields, however, correspond to the higher risks associated
with residential construction loans.
In most cases, the Bank structures residential and multi-family construction loans to
automatically convert to regular first mortgage loans upon completion of the project and
certification of occupancy has been obtained. Upon completion of construction, residential
construction loans generally become 30-year ARM loans with one- and three-year interest rate
adjustments. A conversion option generally is available on the one-year ARM. This conversion
option provides terms under which the borrower may convert the ARM loan to a fixed rate for a
limited period of time in the early term of the ARM loan. The terms at which the ARM loan may
be converted to a fixed rate loan are established at the date of loan origination and are set
at a level allowing the Bank to immediately sell the loan at the time of conversion.
Construction loans made in conjunction with the first mortgage have a loan-to-value ratio limit
not to exceed 80%. As with other residential mortgage loans, when the loan to value ratio
exceeds 80%, PMI is required. Coverage is required to reduce the Bank's exposure to 75% of
value, or less.
On a limited basis, the Bank offers residential construction loans to home builders for
speculation and model homes. These construction loans convert to one-year ARM loans and
typically are made at loan to value ratios of 75%, or less, Payment terms are generally interest
only for twelve months. Thereafter, the borrower is required to begin principal and interest
payments to fully amortize the loan. Loan proceeds are disbursed in increments as construction
of the residence progresses.
Commercial/Non-Residential Lending
Although the current strategy of the Bank does not include either originating or purchasing
commercial/non-residential mortgage loans, the Bank has, in the past, originated loans secured
by a variety of non-residential properties, including small office buildings, and apartment
buildings and small industrial/manufacturing buildings. At September 30, 1996, the Bank's
commercial/non-residential loan portfolio totalled $2.3 million, or 13.59%, of the Bank's gross
loan portfolio. All of the commercial/non-residential loans in the Bank's loan portfolio have
an interest rate adjusted on an annual basis to the OTS national median cost of funds. The
largest commercial/non-residential loan and concentration of loans to any one borrower at
September 30, 1996 had an outstanding balance of $517,963 (i.e. 16.51% participating interest
of a $3.1 million loan) and was secured by an office building complex in West Allis, Wisconsin.
All payments under the Bank's commercial/non-residential loans held in its loan portfolio were
current at September 30, 1996.
<PAGE>7
The risks associated with commercial real estate lending are similar to the risks associated
with multi-family lending discussed above. To minimize these risks, the Bank generally imposes
similar underwriting standards in connection with commercial real estate lending as it does with
multi-family lending. Commercial real estate loans generally are underwritten in amounts of up
to 75% of the lesser of the appraised value or purchase price of the underlying property.
Appraisals on properties which secure commercial real estate loans are performed by an
independent appraiser designated by the Bank at the time the application is submitted. All
appraisals on commercial real estate loans are reviewed by Bank management. In addition, the
Bank's underwriting procedures require verification of the borrower's credit history, an
analysis of the borrower's income, financial statements and banking relationships, a review of
the borrower's property management experience and references and a review of the property,
including cash flow projections and historical operation results. The Bank evaluates all aspects
of commercial real estate lending in order to mitigate risk to the extent possible. The Bank
seeks to ensure that the property securing the loans will generate sufficient cash flow to
adequately cover operating expenses and debt service payments. In addition, the Bank obtains
financial statements on an annual basis to monitor cash flow and financial condition.
Home Equity Lending
The Bank originates home equity loans secured by one-to four-family residences within its
primary market area. These loans are originated with an adjustable interest rate, which
currently adjust monthly to the prime rate plus 100 basis points, and with fixed interest rates.
The Bank originates both fixed rate and variable rate home equity loans. The fixed rate home
equity loans typically are charged an origination fee and have a maximum amortization of ten
years. The ARM home equity loans are typically revolving lines of credit which are granted with
a five year term with possible renewal of up to a maximum total term of 40 years. The maximum
amortization to prepay home equity loans is based on 2.0% of the outstanding balance. The rate
is adjusted monthly to the prime rate plus 200 basis points. The home equity line of credit is
typically not charged an origination fee but is charged an annual service fee. Home equity lines
of credit usually are subject to an 80% loan to value limitation, including any outstanding
prior liens against the property which serve as collateral for the mortgage loan. The Bank is
usually in a second lien position on home equity loans. The Bank reviews completed loan
applications, receives a credit report, verifies income and other financial data and either uses
the tax assessment of the property as assessed by the local municipality or obtains a separate
appraisal of the property in order to determine the maximum amount it will loan on such
property. At September 30, 1996 the Bank held $1.7 million in home equity line of credit loans.
Other Consumer Lending
The Bank originates a variety of other consumer loans, generally consisting of auto loans, home
improvement loans, loans secured by savings accounts and interim financing loans. At September
30, 1996 the total portfolio of these other types of loans totaled $404,000, or 2.36%, of gross
loans. Automobile loans comprised 92.6% of other consumer loans at September 30, 1996. Consumer
loans generally have shorter terms and higher interest rates than mortgage loans but generally
involve more risk than mortgage loans because of the type and nature of the collateral and, in
certain cases, the absence of collateral.
The underwriting standards generally employed by the Bank for other consumer loans include a
determination of the applicant's payment history on other debts and an assessment of the
borrower's ability to meet payments on the proposed loans along with existing obligations. In
addition to the creditworthiness of the applicant, the underwriting process also includes a
comparison of the value of the security in relation to the proposed loan amount. Upon receipt
of a completed consumer loan application from a prospective borrower, a credit report is
ordered, income and other information is verified and, if necessary, additional financial
information is requested.
For all consumer loans, the Bank's underwriters review all pertinent information prior to making
a credit decision. Consumer loans may entail greater risk than residential mortgage loans,
particularly in the case of consumer loans which are unsecured or secured by rapidly
depreciating assets such as automobiles. Although the level of delinquencies in the Bank's
consumer loan portfolio has been low, there can be no assurance that delinquencies will not
increase in the future.
<PAGE>8
The following table sets forth the Bank's loan originations, sales and
principal repayments for the periods indicated. Mortgage loans held for
sale are included in the totals:
<S>
</TABLE>
<TABLE>
<CAPTION>
Year Ended September 30,
1996 1995 1994
(In thousands)
<S> <C> <C> <C>
Mortgage loans (gross):
At beginning of period $13,940 11,382 15,909
------ ------ ------
Mortgage loans originated:
One- to four-family 913 1,703 1,892
One- to four-family construction 711 318 88
Multi-family construction 375 1,092 -
Commercial/nonresidential 110 391 -
------ ------ ------
Total mortgage loans originated 2,109 3,504 1,980
------ ------ ------
Mortgage loans purchased:
One- to four-family 475 - -
Multi-family 350 - -
Multi-family construction - 650 -
Commercial/nonresidential 1,020 - -
------ ------ ------
Total mortgage loans purchased 1,845 650 -
------ ------ ------
Principal repayments (2,662) (1,596) (4,767)
------ ------ ------
Sales of loans - Cash sales (288) - (1,740)
------ ------ ------
At end of period $14,944 13,940 11,382
====== ====== ======
Consumer loans (gross):
At beginning of period $ 1,320 1,402 1,652
Loans originated 1,437 670 726
Principal repayments (616) (752) (976)
------ ------ ------
At end of period $ 2,141 1,320 1,402
====== ====== ======
Total gross loans $17,085 15,260 12,784
====== ====== ======
Sale of Mortgage Loans
</TABLE>
<TABLE>
<S>
In recent years the Bank has sold a portion of its originated residential mortgage loans to
secondary marketing agencies, principally Fleet Mortgage Corporation ("Fleet"), all on a
nonrecourse basis. The Bank, in order to manage its interest rate risk, primarily sells the
fixed rate 15- and 30-year mortgage loans it originates, and retains for its loan portfolio ARM
loans it originates. All mortgage loans, upon commitment, are immediately categorized either as
to be held for investment or held for sale. Mortgage loans originated and sold to Fleet Mortgage
Corp. totalled $288,000 with gains of $3,000 for the year ended September 30, 1996. The Bank
sells the servicing rights with all mortgage loans sold. The loans sold to Fleet are restricted
by contractual agreement to originations secured by first mortgages on deeds of trust on one-to
four-family residential dwellings. Although Fleet has both a fixed rate and ARM program, the
Bank's policy has been to only sell its fixed rate loans to Fleet. To comply with the loan
purchase/sale agreement, the Bank submit all fixed rate mortgage loan originations to a Fleet
designated and approved independent underwriter to review the loan for compliance with FHLMC and
FNMA underwriting guidelines and all other applicable documentation requirements which will
insure conformity to Fleet and secondary market underwriting standards and requirements. Upon
approval from the independent underwriter, the Bank will receive a purchase commitment from
Fleet.
Loan commitments are issued as soon as possible upon completion of the underwriting process, and
mortgage loans are closed as soon as all title clearance and other required procedures have been
completed. Because of the frequency of both the issuance of commitments and the scheduled
closing dates of the loans, the amount of loan commitments outstanding will vary. At September
30, 1996 there were commitments to originate adjustable rate mortgage loans of $713,000.
The Bank is subject to interest rate risk on fixed rate loans in its pipeline from the point in
time that the rate is locked with the borrower until it is sold in the secondary market. The
interest rate is locked in at the time of loan approval and a commitment to sell the loan is
obtained simultaneously.
<PAGE>9
Purchase of Mortgage Loans
The Bank has purchased loans or portions of loans originated by other lenders from time to time.
During August, 1995, the Bank purchased $650,000, or a 54.17% participating interest, in a $1.2
million construction loan secured by eighteen single-family condominiums located in Port
Washington, Wisconsin. The loan was paid off in October, 1996.
During March, 1996, the Bank purchased seven single-family loans totalling $475,000 located in
Rockford, Illinois. During April, 1996, the Bank purchased $520,000, or a 16.51% participating
interest, in a $3.15 million loan secured by an office building complex located in West Allis,
Wisconsin. During May, 1996, the Bank purchased $350,000, or a 17.073% participating interest,
in a $2.05 million loan secured by a 70 unit apartment complex located in Madison, Wisconsin.
During August, 1996, the Bank purchased a $500,000 participating interest in a $4.6 million
construction loan secured by a hotel located in Bloomington, Minnesota.
Loan Approval and Monitoring
All loans are approved monthly by the Board of Directors. Bank management has the authority to
approve consumer loans up to $100,000; one-to four-family mortgage loans up to $300,000;
multi-family loans up to $500,000; and commercial/non-residential real estate loans up to
$200,000. All loans exceeding these amounts are presented to the Board of Directors for final
loan approval.
Loan Origination, Servicing and Other Fees
In addition to interest earned on loans, the Bank receives income through fees in connection
with loan originations, loan sales, loan modifications, late payments and for miscellaneous
services related to its loans. Income from these activities varies from period to period with
the volume and type of loans originated. In connection with the origination of mortgage loans,
the Bank charges points for origination, commitment and discounts, and fees for processing and
closing in addition to requiring borrower reimbursement for out-of-pocket fees for costs
associated with obtaining independent appraisals, credit reports, title insurance, private
mortgage insurance and other items. Because of the highly competitive mortgage market in which
the Bank originates loans, the point structure varies considerably, depending upon the type of
mortgage loan being made, its interest rate and other competitive factors. Origination fees
ranging from zero to two points generally are quoted on mortgage loan originations. The amount
of the origination fee is typically higher with a lower interest rate quoted and lower if a
higher interest rate is established for the loan. Since the availability of zero points mortgage
loans in recent years, most borrowers typically accept a slightly higher interest rate and pay
zero points. Commitment fees are paid by the applicant at time of loan commitment, whereas the
origination and discount fees are paid at time of closing. Accounting standards adopted under
FASB 91 prescribe the accounting treatment for origination and commitment fees. Loan origination
and commitment fees and certain direct loan origination costs are being deferred and the net
amounts amortized as an adjustment of the related loan's yield. These amounts are amortized to
interest income using the level yield method over the contractual life of the related loans.
Deferred loan fees totaled $40,000, $51,000 and $42,000 at September 30, 1996, 1995 and 1994,
respectively. Deferred loan origination fees and costs associated with loans sold are recognized
at the time of sale as a component of gain or loss on the sale of loans.
Delinquencies, Non-Performing Assets and Classified Assets
Delinquent Loans
When a borrower fails to make a required payment by the end of the month in which the payment
is due, the Bank generally initiates collection procedures. The Bank will send a late notice,
and in most cases, delinquencies are cured promptly; however, if a loan has been delinquent for
more than 60 days, the Bank contacts the borrower directly, to determine the reason for the
delinquency and to effect a cure, and where it believes appropriate, reviews the condition of
the property and the financial position of the borrower. At that time, the Bank may: (i.) accept
a repayment program for the arrearage; (ii) seek evidence of efforts
by the borrower to sell the property; (iii) request a deed in lieu of foreclosure; or (iv)
initiate foreclosure proceedings. When a loan secured by a mortgage is delinquent for three or
more monthly installments, the Bank generally will initiate foreclosure proceedings.
On mortgage loans or loan participations purchased by the Bank, the Bank receives monthly
reports from its loan servicers with which it monitors the loan portfolio. Based upon servicing
agreements with the servicers of the loan, the Bank relies upon the servicer to contact
delinquent borrowers, collect delinquent amounts and to initiate foreclosure proceedings, when
necessary, all in accordance with applicable laws, regulations and the terms of the servicing
agreements between the Bank and its servicing agents.
<PAGE>10
At September 30, 1996, 1995 and 1994 delinquencies in the Bank's loan portfolio were as follows:
<S>
</TABLE>
<TABLE>
<CAPTION>
At September 30, 1996
60-89 Days 90 Days or More
Principal Principal
Number Balance Number Balance
of Loans of Loans of Loans of Loans
(Dollars in Thousands)
<S> <C> <C> <C> <C>
Mortgage loans:
One- to four-family - $ - 3 $ 85
Multi-family - - - -
Commercial/nonresidential - - - -
--- -- --- --
Total mortgage loans - - 3 85
--- -- --- --
Consumer loans:
Home equity - - 1 14
Other consumer - - 1 1
--- -- --- --
Total consumer loans - - 2 15
--- -- --- ---
Total gross loans - $ - 5 $100
=== == === ===
Delinquent loans to gross loans - 0.59%
</TABLE>
<TABLE>
<CAPTION>
At September 30, 1995
60-89 Days 90 Days or more
Principal Principal
Number Balance Number Balance
of Loans of Loans of Loans of Loans
(Dollars in Thousands)
<S> <C> <C> <C> <C>
Mortgage loans:
One- to four-family 1 $193 2 $ 84
Multi-family - - - -
Commercial/nonresidential - - - -
--- --- --- --
Total mortgage loans 1 193 2 84
--- --- --- --
Consumer loans:
Home equity - - 1 2
Other consumer - - 1 2
--- --- --- --
Total consumer loans - - 2 4
--- --- --- --
Total gross loans 1 $193 4 $ 88
=== === === ==
Delinquent loans to gross loans 1.26% 0.58%
</TABLE>
<TABLE>
<CAPTION>
At September 30, 1994
60-89 Days 90 Days or more
Principal Principal
Number Balance Number Balance
of Loans of Loans of Loans of Loans
(Dollars in Thousands)
<S> <C> <C> <C> <C>
Mortgage loans:
One- to four-family 4 $273 2 $ 22
Multi-family - - - -
Commercial/nonresidential - - - -
--- --- --- --
Total mortgage loans 4 273 2 22
--- --- --- --
Consumer loans:
Home equity - - 2 5
Other consumer - - - -
--- --- --- --
Total consumer loans - - 2 5
--- --- --- --
Total gross loans 4 $273 4 $27
=== === === ==
Delinquent loans to gross loans 2.14% 0.21%
</TABLE>
<TABLE>
<S>
Non-Performing Assets
Loans are placed on non-accrual status when, in the judgment of Bank management, the probability
of collection of principal or interest is deemed insufficient to warrant further accrual of
interest. The Bank discontinues the accrual of interest on loans when the borrower is delinquent
as to a contractually due principal or interest payment by 90 days or more. When a loan is
placed on non-accrual status, all of the accrued interest on that loan is reversed by way of a
charge to interest income. Accrual of interest on a non-accrual loan is resumed when all
contractually past due payments are current and when management believes the outstanding loan
principal and contractually due interest is no longer doubtful of collection.
Property acquired by the Bank as a result of a foreclosure and property upon which a judgment
of foreclosure has been entered but prior to foreclosure sale are classified as foreclosed
properties. Foreclosed properties are recorded at the lower of the unpaid principal balance of
the related loan or fair market value less estimated selling costs. The amount by which the
recorded loan balance exceeds the fair market value less estimated selling costs at the time a
property is classified as foreclosed property is charged against the allowance for loan losses.
Expenses incurred to maintain or dispose of a foreclosed property, is charged against current
earnings. At September 30, 1996, the Bank had no properties in foreclosure.
Non-performing loans include loans placed on non-accrual status and troubled debt
restructurings. Non-performing assets consist only of non-performing loans, since there are no
foreclosed properties for the periods indicated below. The following table sets forth
nonperforming loans and assets:
<S>
</TABLE>
<TABLE>
<CAPTION>
At September 30,
1996 1995 1994
(Dollars in thousands)
<S> <C> <C> <C>
Non-accrual mortgage loans $ 85 84 22
Non-accrual consumer loans 15 4 5
--- -- --
Total non-performing assets $100 88 27
=== == ==
Total non-performing loans to
gross loans receivable 0.59% 0.58% 0.21%
==== ==== ====
Total non-performing assets to
total assets 0.29% 0.23% 0.07%
==== ==== ====
Interest on non-performing loans
on the accrual basis $ 9 7 3
Actual interest received on
non-performing loans 5 4 2
--- --- ---
Interest not yet received $ 4 3 1
=== === ===
</TABLE>
<TABLE>
<S>
Most of the Bank's loans are secured by one- to four-family properties. There are no
concentrations of loans exceeding 10% of loans which are not otherwise disclosed as a category
of loans.
Classification of Assets
Federal regulations require that each insured financial institution classify its assets on a
regular basis. In addition, in connection with examination of insured institutions by regulatory
authorities, regulatory examiners have authority to identify problem assets as substandard,
doubtful or loss. Substandard assets have one or more defined weaknesses and are characterized
by the distinct possibility that the Bank will sustain some loss if the deficiencies are not
corrected. Doubtful assets have the weaknesses of substandard assets with the additional
characteristics that the weaknesses make collection or liquidation in full, on the basis of
currently existing facts, conditions and values, questionable, and there is a high possibility
of loss. An asset classified as loss is considered uncollectible and of such little value that
continuance as an asset of the Bank is not warranted. The Bank has adopted an asset
classification methodology which parallels that required by federal regulations. Assets
classified as substandard or doubtful require the Bank to establish prudent general allowances
for loan losses. Assets classified as loss must either be charged off or must have a specific
allowance established for 100% of the asset classified as a loss.
<PAGE>12
At September 30, 1996, based upon the Bank's asset classification methodology, the Bank had
assets classified as substandard of $99,611 and none classified as either doubtful or loss. Of
the three loans classified as substandard at September 30, 1996, all of the loans are secured
by one- to four-family properties. None of the assets classified as substandard are considered
to represent either individually or in the aggregate any material loss to the Bank; however,
such risk has been considered in establishing the allowance for loan losses.
Allowance for Loan Losses
Under federal regulations, when an insured institution classifies problem assets as either
Substandard or Doubtful, it is required to establish general allowances for loans losses in an
amount deemed prudent by management. In addition to general valuation allowances, the Bank may
establish specific loss reserves against specific assets in which a loss may be realized.
General allowances represent loss allowances which have been established to recognize the
inherent risks associated with lending activities, but which, unlike specific allowances, have
not been allocated to recognize probable losses on particular problem assets. The Bank's
determination as to its classification of assets and the amount of its specific and general
valuation allowances are subject to review by the Commissioner and the FDIC, either of which can
order the establishment of additional general or specific loss allowances.
The allowance for loan losses is established through a provision for loan losses based on
management's evaluation of the risk inherent in its portfolio and the general economy. Such
evaluation, which includes a review of all loans on which full collectibility may not be
reasonably assured, considers, among other matters, the estimated value of the underlying
collateral, the nature and type of collateral, economic conditions, recent loan loss experience,
industry standards, regulatory considerations and other factors that warrant recognition in
providing for an adequate loss allowance. There can be no assurance that the allowance for loan
losses will be adequate to cover losses which may in fact be realized in the future and that
additional provisions for loan losses will not be required.
The following table sets forth the activity in the Bank's allowance for loan losses for the
periods indicated.
<S>
</TABLE>
<TABLE>
<CAPTION>
For the Year Ended September 30,
1996 1995 1994
(Dollars in thousands)
<S> <C> <C> <C>
Balance at beginning of period $116 98 80
Provision for loan losses 18 18 18
Charge-offs, net of recoveries:
Mortgage loans - - -
Consumer loans - - -
Total charge-offs (net) - - -
--- --- ---
Balance at end of period $134 116 98
=== === ===
Ratio of allowance for loan losses to
gross loan receivable 0.78% 0.76% 0.77%
Ratio of allowance for loan losses to
non-performing loans at end of period 134.00% 131.82% 362.96%
Ratio of allowance for loan losses to
non-performing assets at end of period 134.00% 131.82% 362.96%
Ratio of net charge-offs to average
gross loans during period - - -
</TABLE>
<PAGE>13
The following table shows the Bank's total allowance for loan losses and
the allocation to the various categories of loans at the dates indicated:
<TABLE>
<CAPTION>
At September 30, 1996
% of Total Loans
% of Allowance In Category to
to Total Loans Total Outstanding
Amount by Category Loans
(In Thousands)
Breakdown of allowance:
Mortgage loans:
<S> <C> <C> <C>
One- to four-family $ 62 .66% 54.62%
Construction 4 .30% 7.88%
Multi-family 20 1.03% 11.38%
Commercial/nonresidential 23 .99% 13.59%
--- -----
Total mortgage loans 109 87.47%
Consumer loans 25 1.17% 12.53%
--- ------
Total allowance for loan losses $134 100.00%
=== ======
</TABLE>
<TABLE>
<CAPTION>
At September 30, 1995
% of Total Loans
% of Allowance In Category to
to Total Loans Total Outstanding
Amount by Category Loans
(In Thousands)
Breakdown of allowance:
Mortgage loans:
<S> <C> <C> <C>
One- to four-family $ 54 0.62% 56.89%
Construction 6 0.24% 16.18%
Multi-family 13 1.43% 5.95%
Commercial/nonresidential 27 1.44% 12.33%
--- -----
Total mortgage loans 100 91.35%
Consumer loans 16 1.21% 8.65%
--- ------
Total allowance for loan losses $116 100.00%
=== ======
</TABLE>
<TABLE>
<CAPTION>
At September 30, 1994
% of Total Loans
% of Allowance In Category to
to Total Loans Total Outstanding
Amount by Category Loans
(In Thousands)
Breakdown of allowance:
Mortgage loans:
<S> <C> <C> <C>
One- to four-family $ 51 0.59% 67.09%
Construction - - 1.10%
Multi-family 9 0.95% 7.40%
Commercial/nonresidential 16 0.93% 13.44%
--- -----
Total mortgage loans 76 89.03%
Consumer loans 22 1.57% 10.97%
--- ------
Total allowance for loan losses $ 98 100.00%
=== ======
</TABLE>
<PAGE>14
<TABLE>
<S>
Investment Activities
General
The investment policy of the Bank, which is established by the Board of Directors and
implemented by the Bank's management, is designed primarily to provide and maintain required
liquidity, generate a favorable return on investments without incurring undue interest rate and
credit risk and complement the Bank's lending activities. The Bank's investment policy permits
investment in various types of liquid assets authorized under FDIC and state regulations, which
include U.S. Treasury obligations, securities of various federal agencies, certain certificates
of deposit of insured banks and savings institutions, certain bankers' acceptances and deposits
at the FHLB-Chicago. The Bank also invests in investment grade corporate debt securities and
mortgage-backed securities.
The investment activities of the Bank consist primarily of investment in mortgage-backed
securities and investment securities, consisting primarily of securities issued or guaranteed
by the United States Government or agencies thereof and corporate obligations. Typical
investments include federally sponsored agency mortgage pass-throughs and private issue and
senior-subordinated pass-throughs.
Mortgage-Backed Securities
Mortgage-backed securities represent a participation interest in a pool of single-family or
multi-family mortgage loans, the principal and interest payments on which are passed from the
mortgage loan originators through intermediaries (generally federal government-sponsored
enterprises) that pool and repackage the participation interest in the form of securities to
investors such as the Bank. Such federal government-sponsored enterprises, which guarantee the
payment of principal and interest to investors include FHLMC, FNMA and GNMA. Mortgage-backed
securities generally increase the quality of the Bank's asset by virtue of the guarantees that
back them, are more liquid than individual mortgage loans and may be used to collateralize
borrowings or other obligations of the Bank.
FHLMC, FNMA and GNMA were established to provide support for low-and middle-income housing.
There are limits to the maximum size of loans that qualify for these programs. Currently, GNMA
limits its maximum loan size to $184,000 for VA loans and on average $124,875 for FHA loans.
FNMA and FHLMC limit their loans to $203,200. To accommodate larger-sized loans and loans that
for other reasons do not conform to the agency programs, a number of private institutions have
established their own securitization programs.
Mortgage-backed securities typically are issued with stated principal amounts and the securities
are backed by pools of mortgage loans with interest rates within a range and have varying
maturities. The underlying pool of mortgage loans can be composed of either fixed rate mortgage
or ARM loans. Mortgage-backed securities commonly are referred to as mortgage participation
certificates or past-through certificates. As a result, the interest rate risk characteristics
of the underlying pool of mortgage loans (i.e., fixed rate or adjustable rate, as well as
prepayment risk) are passed on to the certificate holder. The life of a mortgage-backed
pass-through security is equal to the life of the underlying mortgage loans.
The actual maturity of a mortgage-backed security varies, however, depending on when the
mortgages prepay or repay the underlying mortgage loans. Prepayments of the underlying mortgage
loans may shorten the life of the investment, thereby adversely affecting its yield to maturity
and the related market value of the mortgage-backed security. The yield is based upon the
interest income and the amortization of the premium or accretion of the discount, related to the
mortgage-backed security. Premiums and discounts on mortgage-backed securities are amortized or
accreted over the estimated term of the securities using a level yield method. The prepayment
assumptions used to determine the amortization period for premiums and discounts can
significantly affect the yield of the mortgage-backed security and these assumptions are
reviewed periodically to reflect the actual prepayment. The actual prepayments of the underlying
mortgage loans depend on many factors, including type of mortgage loans and general levels of
market interest rates. The difference between the interest rates on the underlying mortgage
loans and the prevailing mortgage interest rates is an important determinant in the rate of
prepayments. During periods of falling mortgage interest rates, prepayments generally increase.
If the coupon rate of the underlying mortgage loans significantly exceeds the prevailing market
interest rates offered for mortgage loans, refinancing generally increases and accelerates the
prepayment of the underlying mortgage loans. Prepayment experience is more difficult to estimate
for adjustable rate mortgage-backed securities.
A senior-subordinated structure often is used with mortgage-backed securities to provide credit
enhancement for pass-through securities when the underlying collateral is not guaranteed by an
agency of the U.S. Government. These structures divide mortgage pools into two risk classes: a
senior class and one or more subordinated classes. The subordinated classes provide protection
<PAGE>15
to the senior classes. When cash flow is impaired, debt service goes first to the holders of
senior class securities. In addition, incoming cash flows also may go into a reserve fund to
meet any future shortfalls of cash flow to senior noteholders. The subordinated noteholder may
not receive any funds until the senior noteholders have been paid and, when appropriate, until
a specified level of funds has been contributed to the reserve fund.
Composition of Bank's Mortgage-Backed Securities Portfolio
The table below sets forth certain information regarding the carrying value, weighted average
yields and maturities of the Bank's mortgage-backed securities held to maturity at September 30,
1996.
<S>
</TABLE>
<TABLE>
<CAPTION>
At September 30, 1996
Over One to Over Five
One year or Less Five Years to Ten Years
Weighted Weighted Weighted
Carrying Average Carrying Average Carrying Average
Value Yield Value Yield Value Yield
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
GNMA $ - - - - $19 8.02%
FHLMC 83 8.58% - - - -
FNMA - - - - - -
-- --
Total $ 83 8.58% - - $19 8.02%
== ==
</TABLE>
<TABLE>
<CAPTION>
At September 30, 1996
Over Ten Years Mortgage-Backed Securities Total
Average Approx-
Weighted Remaining imate Weighted
Carrying Average Years to Carrying Market Average
Value Yield Maturity Value Value Yield
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
GNMA $ 8 9.87% 9.59 $ 27 $ 26 8.55%
FHLMC 2,234 6.13% 8.28 2,317 2,230 6.22%
FNMA 1,377 6.26% 9.07 1,377 1,326 6.26%
----- ----- -----
Total $3,619 6.19% 8.58 $3,721 $3,582 6.25%
===== ===== =====
</TABLE>
The table below sets forth certain information regarding the carrying and
market values and percentage of total carrying values of the Bank's
mortgage-backed securities held to maturity.
<TABLE>
<CAPTION>
At September 30,
1996 1995
Carrying % of Market Carrying % of Market
Value Total Value Value Total Value
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
GNMA $ 27 0.72% $ 26 $ 62 1.46% $ 63
FHLMC 2,317 62.27% 2,230 2,615 61.56% 2,554
FNMA 1,377 37.01% 1,326 1,571 36.98% 1,530
----- ------ ----- ----- ------ -----
Total $3,721 100.00% $3,582 $4,248 100.00% $4,147
===== ====== ===== ===== ====== =====
</TABLE>
The following table sets forth the activity of the Bank's mortgage-backed
securities held to maturity during the periods indicated.
<TABLE>
<CAPTION>
Year Ended September 30,
1996 1995 1994
(In thousands)
<S> <C> <C> <C>
At beginning of period $4,248 4,876 2,409
Purchases - - 2,984
Sales - - -
Repayments (530) (632) (515)
Premium/discount amortization 3 4 (2)
----- ----- -----
At end of period $3,721 4,248 4,876
===== ===== =====
</TABLE>
<PAGE>16
<TABLE>
<S>
Investment Securities
The Bank invests in various types of liquid assets that are permissible investments for state
chartered savings banks, including United States Treasury obligations, securities of various
federal agencies, certain certificates of deposit of federally insured banks and savings
institutions and federal funds. Subject to various restrictions, the Bank also may invest its
assets in commercial paper and investment grade corporate debt securities. The Bank's current
investment policy permits purchase only of investments rated investment grade (i.e., rated in
one of the top four rating categories) by a nationally recognized statistical rating
organization ("NRSRO") and does not permit purchases of securities of noninvestment grade
quality.
Medium-term corporate notes with a maximum maturity of three years are authorized for purchase
for the Bank's investment portfolio. All purchases are limited to a pre-approved list of
issuers, with maximum exposure determined by the issuer's credit rating by a major credit rating
service. Medium-term corporate notes generally are unsecured debentures of the issuing company.
Most issues approved for purchase are financing subsidiaries of major industrial companies. At
September 30, 1996, the Bank held $2.8 million of corporate debt securities. All corporate debt
securities purchased must be rated in one of the top four rating categories by any of the NRSROs
at the time of purchase. The maximum exposure per issuer is limited to $1.0 million for a single
issuer rated in one of the two highest categories and $500,000 for a single issuer rated in the
third and fourth highest categories.
The table below sets forth certain information regarding the carrying and market values and
percentage of total carrying values of the FOCC's securities.
<S>
</TABLE>
<TABLE>
<CAPTION>
At September 30,
1996 1995
Carrying % of Market Carrying % of Market
Value Total Value Value Total Value
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Securities held to maturity:
U.S. government and other
agency obligations $1,997 100.00% $1,992 $ 5,891 43.36% $ 5,947
Corporate notes - - - 7,696 56.64% 7,715
----- ------ ----- ------ ------ ------
Total $1,997 100.00% $1,992 $13,587 100.00% $13,662
===== ====== ===== ====== ====== ======
</TABLE>
<TABLE>
<CAPTION>
At September 30,
1996 1995
Carrying Carrying
Value % of Amortized Value % of Amortized
(Market) Total Cost (Market) Total Cost
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Securities available for sale:
U.S. Government and other
agency obligations $7,097 72.00% $7,097 $ 4,506 100.00% $ 4,490
Corporate notes 2,760 28.00% 2,753 - - -
----- ------ ----- ----- ------ -----
Total $9,857 100.00% $9,850 $ 4,506 100.00% $ 4,490
===== ====== ===== ===== ====== =====
</TABLE>
<PAGE>17
The table below sets forth certain information regarding the carrying value,
weighted average yields and maturities of FOCC's securities and FHLB stock,
excluding mortgage-backed securities,at September 30, 1996.
<TABLE>
<CAPTION>
At September 30, 1996
Over One to Over Five
One year or Less Five Years to Ten Years
Weighted Weighted Weighted
Carrying Average Carrying Average Carrying Average
Value Yield Value Yield Value Yield
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Securities held to maturity:
U.S. Government and other
agency obligations - - $1,997 6.47% - -
FHLB Stock - - - - - -
---- ---- ----- ---- ---- ----
Total - - $1,997 6.47% - -
==== ==== ===== ==== ==== ====
</TABLE>
<TABLE>
<CAPTION>
At September 30, 1996
No Contractual
Over ten years Maturity Securities Total
Average
Weighted Remaining Weighted
Carrying Average Carrying Years to Carrying Market Average
Value Yield Value Maturity Value Value Yield
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Securities held to maturity:
U.S. Government and other
agency obligations - - - 2.83 $1,997 $1,992 6.47%
FHLB Stock - - $152 N/A 152 152 6.75%
---- ---- --- ----- -----
Total - - $152 $2,149 $2,144 6.49%
==== ==== === ===== =====
</TABLE>
<TABLE>
<CAPTION>
At September 30, 1996
Over One to Over Five
One year or Less Five Years to Ten Years
Weighted Weighted Weighted
Carrying Average Carrying Average Carrying Average
Value Yield Value Yield Value Yield
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Securities available for sale:
U.S. Government and other
agency obligations $2,605 6.76% $4,492 6.77% - -
Corporate notes 1,256 7.93% 1,497 6.39% - -
----- ----- ---- ----
Total $3,861 $5,989 - -
===== ===== ==== ====
</TABLE>
<TABLE>
<CAPTION>
At September 30, 1996
No Contractual
Over ten years Maturity Securities Total
Average
Weighted Remaining Weighted
Carrying Average Carrying Years to Carrying Market Average
Value Yield Value Maturity Value Value Yield
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C> <C>
Securities available for sale:
U.S. Government and other
agency obligations - - - 2.22 $7,097 $7,097 6.76%
Corporate notes - - - 1.07 2,753 2,760 7.09%
---- ---- ---- ----- -----
Total - - - 1.90 $9,850 $9,857 6.86%
==== ==== ==== ===== =====
</TABLE>
<PAGE>18
<TABLE>
<S>
Sources of Funds
General
The Bank's primary sources of funds for use in lending, investing and for other general purposes
are deposits, proceeds from principal and interest payments on loans, mortgage-backed securities
and investment securities. Contractual loan payments are a relatively stable source of funds,
while deposit inflows and outflows and loan prepayments are significantly influenced by general
market interest rates and economic conditions. Borrowings may be used on a short-term basis to
compensate for seasonal or other reductions in normal sources of funds or for deposit inflows
at less than projected levels. The Bank is a member of the FHLB-Chicago and has occasionally
borrowed from the FHLB-Chicago.
Deposits
The Bank offers a variety of deposit accounts having a range of interest rates and terms. The
Bank's deposits principally consist of demand accounts (non-interest bearing checking, NOW, MMDA
and passbook) and certificates of deposit. The flow of deposits is influenced significantly by
general economic conditions, changes in prevailing interest rates and competition. The Bank's
deposits are obtained primarily from the areas in which its offices are located, and the Bank
relies principally on customer service, marketing programs and promotion to attract and retain
deposit accounts also are used. The Bank does not currently solicit or currently accept brokered
deposits. Management monitors the Bank's certificate accounts and based on historical
experience, management believes it will retain a large portion of such accounts upon maturity.
Management considers Bank profitability, the matching of term lengths with assets, the
attractiveness to customers and rates offered by competitors in deposit offerings and
promotions. The Bank has been competitive in the types of accounts and interest rates it has
offered on its deposit products. The Bank intends to
continue its efforts to attract deposits as a primary source of funds for supporting its lending
and investing activities.
The following table presents the deposit activity of the Bank for the periods indicated.
Depositors have been shifting funds from lower interest certificates of deposit to mutual funds
and other investment alternatives offering higher yields. However, the total decrease in
deposits for the year ended September 30, 1994 was positively affected by an increase of $4.3
million in passbook account balances. Because the Conversion was not consummated until October
2, 1994, the stock proceeds were reflected in the passbook account balance at September 30,
1994. The decrease in deposit accounts for the year ended September 30, 1995 is mainly related
to the $4.8 million used to purchase Common Stock in connection with the Conversion. Deposits
decreased by $4.6 million during the year ended September 30, 1996. Management chose to price
deposits to maintain interest margins rather than match or beat interest rates offered by other
financial institutions or competing financial products such as mutual funds and bonds.
The following table presents the deposit activity of the Bank for the periods indicated.
<S>
</TABLE>
<TABLE>
<CAPTION>
Year Ended September 30,
1996 1995 1994
(In thousands)
<S> <C> <C> <C>
Deposits $33,576 42,949 40,249
Withdrawals (39,324) (47,609) (40,621)
------ ------ ------
Net deposits (withdrawals) (5,748) (4,660) (372)
Interest credited on deposits 1,241 1,086 1,021
Charge in accrued interest (39) (58) (21)
------ ------ ------
Total increase (decrease) in deposits $(4,546) (3,632) 628
====== ====== ======
</TABLE>
The Bank had certificates of deposit in amounts of $100,000 or more maturing
as follows:
<TABLE>
<CAPTION>
September 30,
1996 1995
(Dollars in thousands)
<S> <C> <C>
Three months or less $208 211
Over three through six months 104 -
Over six through twelve months 116 312
--- ---
Total $428 523
=== ===
</TABLE>
<PAGE>19
The following table sets forth the distribution of the Bank's deposit
accounts at the dates indicated and the weighted average nominal interest rates
on each category of deposits presented.
<TABLE>
<CAPTION>
At September 30, 1996 At September 30, 1995
Weighted Weighted
Percent Average Percent Average
of total Nominal of total Nominal
Amount Deposits Rate Amount Deposits Rate
(Dollars in Thousands)
Demand accounts:
<S> <C> <C> <C> <C> <C> <C>
Non-interest bearing $ 270 1.09% - $ 231 0.79% -
NOW 1,165 4.69% 2.65% 1,566 5.34% 2.62%
Money Market 2,669 10.74% 4.00% 2,809 9.57% 3.96%
Passbook 4,016 16.17% 2.75% 4,598 15.67% 2.78%
----- ------ ------ ------
Total demand accounts 8,120 32.69% 3.06% 9,204 31.37% 3.04%
----- ------ ------ ------
Certificate accounts:
One to six months 4,144 16.68% 5.14% 4,470 15.23% 6.18%
12 to 20 months 7,418 29.86% 5.40% 8,119 27.66% 6.12%
24 to 36 months 4,728 19.03% 5.50% 7,029 23.95% 5.39%
36 to 60 months 4 0.02% 4.80% 4 .01% 4.80%
Jumbo 428 1.72% 5.30% 523 1.78% 5.50%
------ ------ ------ ------
Total certificates 16,722 67.31% 5.36% 20,145 68.63% 5.86%
------ ------ ------ ------
Total deposit accounts 24,842 100.00% 4.61% 29,349 100.00% 4.98%
====== ======
Accrued interest 120 159
------ ------
Total deposits $24,962 $29,508
====== ======
</TABLE>
<TABLE>
<S>
The following table presents, by various interest rate categories, the amounts of certificate
accounts outstanding at September 30, 1996, 1995 and 1994, and the periods to maturity of the
certificate accounts outstanding at September 30, 1996.
<S>
</TABLE>
<TABLE>
<CAPTION>
Period of Maturity
From September 30, 1996
At September 30, Within One to
1996 1995 1994 One Year Three Years Total
Certificate of deposit accounts:
<S> <C> <C> <C> <C> <C> <C>
3.99% or less $ - 143 2,869 $ - - -
4.00% to 4.99% 4,387 2,341 11,687 2,086 2,301 4,387
5.00% to 5.99% 12,104 7,474 2,973 11,933 171 12,104
6.00% to 6.99% 231 10,187 200 231 - 231
7.00% to 7.99% - - 42 - - -
8.00% to 8.99% - - 17 - - -
------ ------ ------ ------ ----- ------
$16,722 20,145 17,788 $14,250 2,472 16,722
====== ====== ====== ====== ===== ======
</TABLE>
<TABLE>
<S>
Borrowings and Other Financing Transactions
The Bank's other available sources of funds include notes payable to the FHLB-Chicago and
collateralized borrowings. As a member of FHLB-Chicago, the Bank is required to own capital
stock in and is authorized to apply for borrowings from the FHLB-Chicago. Each FHLB credit
program has its own interest rate, which may be fixed or variable, and a range of maturities.
The FHLB-Chicago may prescribe the acceptable uses for these borrowings, as well as limitations
on the amount and repayment provisions. The Bank has rarely borrowed funds in the past, although
it will continue to monitor use of this source in the future. At September 30, 1996 the Bank had
no outstanding borrowings from the FHLB-Chicago, because the Bank had a high level of liquidity.
<PAGE>20
Federal Taxation
General
The following discussion of tax matters is intended to be a summary of the material tax rules
applicable to the Bank and does not purport to be a comprehensive description of all applicable
tax rules.
The Bank and the Holding Company report their income on a fiscal year basis using the accrual
method of accounting and are subject to federal income taxation in the same manner as other
corporations with some exceptions, including particularly the Bank's reserve for bad debts
discussed below.
Bad Debt Reserves
Savings institutions, such as the Bank, which meet certain definitional tests primarily relating
to their assets and the nature of their business ("qualifying thrifts"), are permitted to
establish a reserve for bad debts and to make annual additions thereto, which additions may,
within specified formula limits, be deducted in arriving at their taxable income. Effective for
tax years beginning after December 31, 1995, institutions will be required to recapture into
taxable income over a six year period the portion of the tax bad debt reserve that exceeds the
1987 tax year level. The Bank will be permitted to make additions to the tax bad debt reserve
using the experience method.
Earnings that have been appropriated for bad debt reserves and deducted for federal income tax
purposes cannot be used by the Bank to pay cash dividends to the Holding Company without the
payment of income taxes by the Bank at the then current income tax rate on the amount deemed
distributed, which would include the amount of any federal income taxes attributable to the
distribution. Thus, any dividends to the Holding Company that would reduce amounts appropriated
(to the Bank's bad debt reserves and deducted for federal income tax purposes could create a tax
liability for the Bank. The Bank does not intend to pay dividends that would result in a
recapture of its bad debt reserves.
Distributions
To the extent that (i) the Bank's reserve for losses on qualifying real property loans exceeds
the amount that would have been allowed under an experience method, and (ii) the Bank makes
"non-dividend distributions" to stockholders that are considered to result in distributions from
the excess bad debt reserve or the supplemental reserve for losses on loans ("Excess
Distribution"), then an amount based on the amount distributed will be included in the Bank's
taxable income. Non-dividend distributions include distributions in excess of the Bank's current
or accumulated earnings and profits, distributions in redemption of stock and distributions in
partial or complete liquidation. However, dividends paid out of the Bank's current or
accumulated earnings and profits, as calculated for federal income tax purposes, will not be
considered to result in a distribution from the Bank's bad debt reserves.
The amount of additional taxable income created from an Excess Distribution is an amount that
when reduced by the tax attributable to the income is equal to the amount of the distribution.
Thus, if certain portions of the Bank's accumulated tax bad debt reserve are used for any
purpose other than to absorb qualified bad debt losses, such as for the payment of dividends or
other distributions with respect to the Bank's capital stock (including distributions upon
redemption or liquidation), approximately one and one-half times the amount so used would be
includable in gross income for federal income tax purposes, assuming a 34% corporate income tax
rate (exclusive of state taxes). See "Dividend Policy" and "Regulation" for limits on the
payment of dividends by the Bank.
Corporate Alternative Minimum Tax
For taxable years beginning after December 31, 1986, the Internal Revenue Code imposes an
alternative minimum tax ("AMT") on a corporation's alternative minimum taxable income ("AMTI")
which is imposed at a rate of 20%. The excess of the bad debt reserve deduction using the
percentage of taxable income method, over the deduction that would have been allowable under an
experience method, is treated as a preference item for purposes of computing the AMTI. Only 90%
of AMTI can be offset by net operating losses. For taxable years beginning after December 31,
1989, the adjustment to AMTI based on book income will be an amount equal to 75% of the amount
by which a corporation's adjusted current earnings exceeds its AMTI (determined without regard
to this preference and prior to reduction for net operating losses). In addition, for taxable
years beginning after December 31, 1986, and before January 1, 1996, an environmental tax of
0.12% of the excess of AMTI (with certain modifications) over $2.0 million is imposed on
corporations, including the Bank, whether or not an AMT is due. The Bank is not subject to the
environmental tax and does not expect to be subject to the AMT.
<PAGE>21
State Taxation
The Bank is subject to franchise taxes at a rate of 7.9% imposed by the State of Wisconsin.
Wisconsin taxable income is generally similar to federal taxable income except that interest
from state and municipal obligations is taxable, no deduction is allowed for state income taxes,
and net operating losses may be carried forward but not back. Wisconsin law does not provide for
filing of consolidated income tax returns.
Regulation
The Bank consummated its conversion from a mutual to a stock savings bank on October 21, 1994.
Therefore, the ensuring discussion involves regulations as they apply to stock savings banks.
The Bank is a Wisconsin-chartered stock savings bank and its deposit accounts are insured up to
applicable limits by the FDIC under the Savings Association Insurance Fund ("SAIF"). The Bank
is subject to extensive regulation by the Commissioner, as its chartering agency, and by the
FDIC, as its deposit insurer and principal federal regulator. The lending and investment
authority of the Bank is prescribed by Wisconsin law and regulations, as well as applicable
federal law and regulations, and the Bank is prohibited from engaging in any activities not
permitted by such law and regulations. The Company is a one-bank holding company subject to
regulatory oversight by the Federal Reserve Board ("FRB"), the Commissioner and the Securities
and Exchange Commission ("SEC").
Wisconsin Savings Bank Regulation
The Commissioner has adopted regulations governing the regulation and supervision of
Wisconsin-chartered savings banks which became effective March 1, 1994.
Examinations and Assessments
As a Wisconsin-chartered stock savings bank, the Bank is subject to regulation and supervision
by the Commissioner. The Bank is required to file periodic reports with and is subject to
periodic examinations at least once every 18-month period by the Commissioner. Savings banks are
required by the Commissioner's regulations to pay examination fees and annual assessments to
fund the supervisory operations of the Commissioner.
Investments
Under Wisconsin law, the Bank is authorized to make, invest in, sell, purchase, participate or
otherwise deal in mortgage loans or interests in mortgage loans without geographic restriction,
including loans made on the security of residential and commercial property. Savings banks may
lend funds, on a secured or unsecured basis, for commercial or consumer purposes, provided that
aggregate commercial loans do not exceed 10% of the savings bank's total assets and aggregate
consumer loans do not exceed 10% of the savings bank's total assets. Subject to certain limited
exceptions, savings banks may not make a loan secured by a first lien mortgage in an amount in
excess of 90% of the fair market value of the real estate security.
Savings banks also may invest funds in certain types of debt and equity securities, including
obligations of federal, state and local governments and agencies. Investment in debt securities
of local governmental units may not exceed 50% of capital and temporary borrowings of any local
governmental unit maturing within one year from the date of issue may not exceed 60% of capital.
Investment in short-term commercial paper issued by a financial institution, corporation or
other borrower must have a maturity of two to 270 days and be rated in one of the four highest
categories by a nationally recognized rating service.
Subject to the prior approval of the Commissioner and compliance with capital requirements,
savings banks may invest in residential housing development projects or in the stock of a
corporation that owns one or more of such projects and is a wholly owned subsidiary of a
financial institution, provided that investment in any one project does not exceed 15% of
capital and the aggregate investment in such projects does not exceed 50% of capital.
Under the Commissioner's regulations, savings banks may invest in service corporations or
subsidiaries with the prior approval of the Commissioner and subject to the condition that the
service corporation or subsidiary engages in only those activities pre-approved by the
Commissioner, agrees to be audited annually by a certified public accountant, agrees to bear the
expense of all examinations and audits conducted by the Commissioner, and agrees not to enter
into a business venture, directly, or indirectly with an officer, director or employee of the
savings bank. Under the Commissioner's regulations, a savings bank's investment in a service
corporation or subsidiary is broadly defined to include: acquisition of capital stock;
partnership or joint venture capital contributions; mortgage loans, commercial loans, loan
guarantees and letters of credit; liability for the debt of a partnership or joint venture; or
<PAGE>22
any other obligation for direct or contingent payment of a service corporation or subsidiary's
debt. The Bank does not have any subsidiary operations.
The lending and investment powers of Wisconsin savings banks also are limited by FDIC
regulations and other federal law and regulations. See "Restrictions Upon State-Chartered
Banks".
Loans to One Borrower
Wisconsin-chartered savings banks may make loans and extensions of credit, both direct and
indirect, to one borrower in amounts up to 15% of capital plus an additional 10% for loans fully
secured by readily marketable collateral. In addition, savings banks may make loans to one
borrower for any purpose in an amount not to exceed $500,000, or to develop domestic residential
housing units in an amount not to exceed the lesser of $30 million or 30% of capital, provided
certain conditions are satisfied. If the collateral securing an outstanding loan falls below
100% of the total amount of the loan or extension of credit or otherwise does not conform to the
foregoing loans-to-one borrower limitations, a savings bank must bring such loan into
conformance within 15 business days unless a judicial proceeding or other extraordinary
occurrence prevents the savings bank from taking action. At September 30, 1996, the Bank did not
have any loans which exceeded the loans-to-one borrower limitations.
Qualified Thrift Requirement
As a Wisconsin-chartered savings bank, the Bank must qualify for and maintain a level of
qualified thrift investments equal to 60% of its assets as prescribed in Section 7701(a)(19) of
the Internal Revenue Code of 1986, as amended ("Internal Revenue Code"). At September 30, 1996,
the Bank maintained 82.55% of its assets in qualified thrift investments and therefore met the
qualified thrift requirement.
Dividend Limitations
A savings bank which meets its regulatory capital requirement may declare dividends on capital
stock based upon net profits, provided that its paid-in surplus equals its capital stock. If the
paid-in surplus of the savings bank does not equal its capital stock, the board of directors may
not declare a dividend unless at least 10% of the net profits of the preceding half year in the
case of quarterly or semi-annual dividends, or 10% of the net profits of the preceding year in
case of annual dividends, has been transferred to paid-in surplus. In addition, prior approval
of the Commissioner is required before dividends exceeding 50% of profits for any calendar year
may be declared and before a dividend may be declared out of retained earnings. Under the
Commissioner's regulations, a savings bank which has converted from mutual to stock form also
is prohibited from paying a dividend on its capital stock if the effect thereof would cause the
regulatory capital of the savings bank to be reduced below the amount required for its
liquidation account.
Liquidity
Under the Commissioner's regulations, savings banks are required to maintain an average daily
balance of liquid assets (including cash, certain time deposits, certain banker's acceptances,
certain corporate debt securities and highly rated commercial paper, securities of certain
mutual funds and specified United States government, state or federal agency obligations) of not
less than 8% of its average daily balance during the preceding calendar month of its net
withdrawable accounts plus its short-term borrowings. In addition, the regulations require
savings banks to maintain an average daily balance of short-term liquid assets of not less than
1% of the average daily balance during the preceding calendar month of its net withdrawable
accounts plus its short-term borrowings. On September 30, 1996, the Bank's liquidity ratio as
defined under the Commissioner's regulations was 54.05%.
Prompt Corrective Regulatory Action
The Federal Deposit Insurance Corporation Improvement Act ("FDICIA") establishes a system of
prompt corrective action to resolve the problems of undercapitalized institutions. Under this
system, federal bank regulators are required to take certain supervisory actions with respect
to undercapitalized institutions, the severity of which depends upon the institution's degree
of capitalization. Generally, FDICIA requires federal bank regulators to appoint a receiver or
conservator for an institution that is critically undercapitalized. FDICIA authorizes federal
bank regulators to specify the ratio of tangible capital to assets at which an institution
becomes critically undercapitalized and requires that the ratio be no less than 2% of total
assets.
<PAGE>23
On September 15, 1992, the FDIC adopted a final rule to implement the prompt corrective action
provisions of FDICIA. Under the regulations, an insured institution that is not subject to an
order or written directive to meet or maintain a specific capital level will be deemed "well
capitalized" if it also has a total risk-based capital ratio of 10% or greater, a Tier 1 risk-
based capital ratio of 6.0% or greater, and a leverage ratio of 5.0% or greater. An "adequately
capitalized" institution is an insured institution that does not meet the definition of well
capitalized and has (i) a total risk-based capital ratio of 8.0% or greater, a Tier 1 capital
risk-based ratio of 4.0% or greater, and a leverage ratio of 4.0% or greater (or 3.0% or greater
if the institution has a composite 1 CAMEL rating). An insured institution that has total
capital to risk-based assets of less than 8.0%, core capital to risk-based assets of less than
4.0%, or a leverage ratio that is less than 4.0%, would be considered "undercapitalized". An
insured institution that has total capital to risk-based assets of less than 6.0%, core capital
to risk-based assets of less than 3.0%, or a leverage ratio that is less than 3.0%, would be
considered "significantly undercapitalized" and an insured institution that has tangible capital
to assets ratio equal to or less than 2.0% would be deemed "critically undercapitalized".
Subject to limited exceptions, insured institutions in any of the undercapitalized categories
are prohibited from declaring dividends, making any other capital distribution or paying a
management fee to a controlling person. Undercapitalized institutions are subject to certain
mandatory supervisory actions, including increased monitoring, required capital restoration
planning and growth and acquisition restrictions. The filing of a capital restoration plan,
which must be guaranteed by any parent holding company, also is required. Significantly
undercapitalized institutions face even more severe restrictions, requiring the institution to
raise additional capital; restricting transactions between the institution and its affiliates;
restricting interest rates paid on deposits; requiring the institution to accept an offer to be
acquired by another institution or company; and requiring the institution to terminate, reduce
or alter any activity posing excessive risk to the institution. The Bank currently exceeds all
applicable regulatory capital requirements and therefore is not subject to prompt correction
action.
Brokered Deposits; Interest Rate Limitations
FDIC regulations promulgated under FDICIA govern the acceptance of brokered deposits by insured
depository institutions. The capital position of an institution determines whether and with what
limitations an institution may accept brokered deposits. A "well-capitalized" institution (one
that significantly exceeds specified capital rations) may accept brokered deposits without
restriction. "Undercapitalized" institutions (those that fail to meet minimum regulatory capital
requirements) may not accept brokered deposits and "adequately capitalized" institutions (those
that are not "well-capitalized" or "undercapitalized") may only accept such deposits with the
consent of the FDIC. "Adequately capitalized" institutions may apply for a waiver by letter to
the FDIC. An institution that is not "well capitalized", even if meeting minimum capital
requirements, may not solicit brokered or other deposits by offering interest rates that are
significantly higher than the relevant local or national rate as determined under the
regulations. The Bank is a "well-capitalized" institution and therefore may accept brokered
deposits without restrictions. At September 30, 1996, the Bank had no brokered deposits.
Uniform Lending Standards
Under FDICIA, federal bank regulators are required to adopt uniform regulations prescribing
standards for extensions of credit that are secured by liens on interests in real estate or made
for the purpose of financing the construction of a building of other improvements to real
estate. Savings institutions and savings banks must adopt and maintain written policies that
establish appropriate limits and standards for extensions of credit secured by liens or
interests in real estate or made for the purpose of financing permanent improvements to real
estate. These policies must establish loan portfolio diversification standards, prudent
underwriting standards (including loan-to-value limits) that are clear and measurable, loan
administration procedures and documentation, approval and reporting requirements. The real
estate lending polices must reflect consideration of the Interagency Guidelines for Real Estate
Lending Policies adopted by federal bank regulators. The Bank has adopted and maintains such
policies.
Standards for Safety and Soundness
FDICIA required federal bank regulators to prescribe operational and managerial standards for
all insured depository institutions and depository institution holding companies relating to
internal controls, information systems and audit systems; loan documentation; credit
underwriting; interest rate risk exposure; asset growth; and compensation, fees and benefits.
The compensation standards would prohibit employment contracts, compensation or benefit
arrangements, stock option plans, fee arrangements or other compensatory arrangements that would
provide excessive compensation, fees or benefits or could lead to material financial loss. In
addition, federal bank regulators were required to prescribe standards relating to asset
<PAGE>24
quality, earnings and stock valuation that the regulators determined to be appropriate.
On September 23, 1994, the Riegle Act (the "Riegle Act") was enacted. The Riegle Act amended
Section 39 of the FDI Act: (1) To authorize the federal bank regulators to establish safety and
soundness standards by regulation or by guideline for all insured depository institutions; (2)
to give the regulators greater flexibility in prescribing asset quality and earnings standards;
and (3) to eliminate the requirement that standards prescribed under Section 39 apply to
depository institution holding companies.
On July 10, 1995, federal bank regulators adopted Interagency Guidelines Establishing Standards
for Safety and Soundness (the "Guidelines") and also adopted a final rule establishing deadlines
for submission and review of safety and soundness compliance plans. Federal bank regulators are
authorized, but not required, to request a compliance plan for failure to satisfy the safety and
soundness standards set out in the Guidelines. An institution must file a compliance plan within
30 days of a request to do so from the institution's primary federal regulators. Regulators
expect to request a compliance plan from an institution whose failure to meet one or more of the
standards is of such severity that it could threaten the safe and sound operation of the
institution.
With respect to internal controls, information systems and internal audit systems of
institutions, the Guidelines prescribe the functions that adequate internal controls and
information systems must be able to perform, rather than providing the types of controls or
systems that must be present in every case. Each institution is required to have an internal
audit system that provides for adequate testing and review of internal controls and information
systems.
The Guidelines do not specify in detail what loan documentation must contain; documentation
practices would be evaluated based upon each institution's ability to: make informed decisions
and assess risk on an ongoing basis; identify the purpose of the loan and assess the ability of
the borrower to repay the indebtedness in a timely manner; insure that any claim against a
borrower is legally enforceable; demonstrate appropriate administration and monitoring of the
loan; and take account of the size and complexity of the loan. The Guidelines establish general
parameters of safe and sound credit underwriting practices, and require each institution to
establish and maintain prudent credit underwriting practices commensurate with the size of the
institution and the nature and scope of its lending activities.
With respect to interest rate risk management, the Guidelines require institutions to manage
interest rate risk in a manner appropriate to the size of the institution and the complexity of
its assets and liabilities. Larger institutions that are exposed to significant interest rate
risk would be expected to maintain a more formal system for the measurement and management of
such risk. Further, an institution is required to base its asset growth on a plan that reflects
consideration of: (i) the source, volatility and use of the funds that support asset growth;
(ii) any increase in credit risk or interest rate as a result of growth; and (iii) the effect
of growth on the institution's capital.
The Guidelines also require an institution to base its asset growth on a plan that fully
considers the source of an institution's growth, the risks presented by such growth, and the
effect of growth on the institution's capital. Regulators will evaluate asset growth against an
institution's overall strategic plan for growth.
In addition, the Guidelines would require that each institution maintain safeguards to prevent
the payment of compensation, fees, or benefits that are excessive or could lead to material
financial loss. Compensation that is unreasonable or disproportionate to the service actually
performed by the institution being compensated would be considered excessive. In making such a
determination, the federal regulators would consider all relevant factors, including the
compensation history of the individual and other individual with comparable expertise at the
institution, the financial condition of the institution, comparable compensation packages at
comparable institutions, and any connection between an individual and any wrongdoing at the
institution.
The final rule does not set forth any standards related to asset quality and earnings in the
final Guidelines. Federal regulators-intend to add revised asset quality and earnings standards
to the Guidelines after receiving comments and finalizing such standards. The federal regulators
also concluded that establishing stock valuation standards for publicly traded institutions is
not appropriate. Regulators intend to-continue existing practice of augmenting overall
examinations and ongoing monitoring of publicly-traded institutions through the review of stock
price changes, market price to book value ratios, bond ratings and other indicators of the
market's assessment of an institution's performance.
The Bank believes that its operational and managerial standards substantially comply with a
standards set forth in the Guidelines and that compliance with the Guidelines will therefore not
<PAGE>25
impose a significant burden on Bank operations.
Restrictions Upon State-Chartered Banks
The FDICIA added a new Section 24 to the Federal Deposit Insurance Act of 1950 ("FDI Act") which
generally limits the activities and equity investments of FDIC-insured state-chartered banks and
their subsidiaries to those permissible for federally chartered national banks and their
subsidiaries, unless such activities and investments are specifically exempted by Section 24 or
consented to by the FDIC.
Regulations governing equity investments of banks generally prohibit certain equity investments
and require divestiture of such investments by December 19, 1996. Section 24 provides an
exception for investments in common and preferred stocks listed on a national securities
exchange or the shares of registered investment companies by a bank if (1) the bank held such
types of investments during the 14-month period from September 30, 1990 through November 26,
1991, (2) the state in which the bank is chartered permitted such investments as of September
30, 1991, and (3) the bank notifies the FDIC and obtains approval from the FDIC to make or
retain such investments. Upon receiving such FDIC approval, an Institution's investment in such
equity securities will be subject to an aggregate limit up to its core capital. Section 24 also
contains an exception for certain majority-owned subsidiaries. Banks holding impermissible
equity investments that do not receive FDIC approval must submit to the FDIC a plan for
divesting such investments as quickly and as prudently as possible. The Bank does not hold any
impermissible equity investments.
Insured savings banks must obtain the FDIC's prior approval before directly, or indirectly
through a majority-owned subsidiary, engaging "as principal" in any activity that is not
permissible for a national bank unless certain exceptions apply. An "activity permissible for
a national bank" includes any activity that is authorized for a national bank under the National
Bank Act (12 U.S.C. 21 et seq.) or any other statute, as well as activities recognized as
permissible in regulations issued by the Office of Comptroller of Currency (the "OCC"), official
circulars or bulletins issued by the OCC, or any order or written interpretation issued by the
OCC. However, in order for a state bank to conduct an activity as principal without the FDIC's
consent, the activity must be conducted in the same manner in which a national bank is
authorized to conduct the activity. Under the activity regulations, FDIC-supervised state banks
will not-be permitted to directly engage in commercial ventures or any insurance underwriting
activity other than to such activities are permissible for a national bank or a national bank
subsidiary or except for certain limited insurance underwriting activities. In addition, the
activity regulations provide that state banks which meet all regulatory capital requirements may
engage in certain activities that are not permissible for national banks which are deemed not
to present a significant risk to the insurance fund, including guaranteeing certain obligations
of others, activities which the FRB has found to be closely related to banking and certain
securities activities conducted through subsidiaries. The FDIC will not approve an activity it
determines would present a significant risk to FDIC insurance funds. Bank activities are of a
type permissible under FDICIA.
As a SAIF-insured, state-chartered savings bank which was formerly a state-chartered savings
association, the Bank was subject to certain restrictions which are imposed by federal law on
state-chartered savings associations, including a prohibition against engaging in activities
(other than as agent for its customers) that are not permissible for a federally chartered
savings association or engaging in activities authorized for federally chartered associations,
but to a greater extent than authorized for federally chartered associations, unless the
association met its fully phased-in capital requirements and the FDIC determined that the
activity will not pose a significant risk to the deposit insurance fund. Effective December 8,
1993, the FDIC amended its regulations to delete certain provisions requiring SAIF insured state
banks to continue to comply with certain restrictions applicable to state-chartered savings
associations. The effect of such amendment is to treat SAIF-insured state banks and Bank
Insurance Fund ("BIF") member state banks the same rather than subject such institutions to
additional restrictions based on insurance fund membership.
Capital Maintenance
FDIC Regulation
FDIC-insured institutions are required to follow certain capital adequacy guidelines which
prescribe minimum levels of capital and require that institutions meet certain risk-based and
leverage capital requirements. Under the FDIC capital regulations, the Bank is required to meet
the following capital standards: (i) "Tier 1 capital" in an amount not less than 3% of total
assets; (ii) "Tier 1 capital" in an amount not less than 4% of risk-weighted assets; and (iii)
"total capital" in an amount not less than 8% of risk-weighted assets.
FDIC-insured institutions in the strongest financial and managerial condition (with a composite
<PAGE>26
rating of "1" under the Uniform Financial Institutions Rating System established by the Federal
Financial Institutions Examination Council) are required to maintain "Tier 1 capital" equal to
at least 3% of total assets (the "leverage limit" requirement). For all other FDIC-insured
institutions, the minimum leverage limit requirement is 3% of total assets plus at least an
additional 100 to 200 basis points. Tier 1 capital is defined to include the sum of common
stockholders' equity, noncumulative perpetual preferred stock (including any related surplus),
and minority interests in consolidated subsidiaries, minus all intangible assets (other than
qualifying servicing rights). An institution that fails to meet the minimum leverage limit
requirement must file a capital restoration plan with the appropriate FDIC regional director
that details the steps it will take to reach capital compliance. At September 30, 1996, the
Bank's ratio of Tier 1 capital to total assets was 17.16% or 13.16% in excess of the minimum
leverage limit requirement.
FDIC-insured institutions also are required to adhere to certain risk-based capital guidelines
which are designed to provide a measure of capital more sensitive to the risk profiles of
individual banks. Under the risk-based capital guidelines, capital is divided into two tiers:
core (Tier 1) capital, as defined above, and supplementary capital (Tier 2). Tier 2 capital is
limited to 100% of core capital and includes cumulative perpetual preferred stock, mandatory
convertible securities, subordinated debt, intermediate preferred stock and allowance for
possible loan and lease losses. Allowance for possible loan and lease losses includable in
supplementary capital is limited to a maximum of 1.25% of risk-weighted assets. Total capital
is the sum of Tier 1 and Tier 2 capital. The risk-based capital framework assigns balance sheet
assets to one of four broad risk categories which are assigned risk-weights ranging from 0% to
100% based primarily on the degree of credit risk associated with the obligor. Off-balance sheet
items are converted to an on-balance sheet "credit equivalent" amount utilizing certain
conversion factors. The weighted sum of the four risk-weighted categories equals risk-weighted
assets. At September 30, 1996, the Bank's Tier 1 capital to risk-weighted assets was 33.77%, or
29.77% in excess of the FDIC requirement and the Bank's total capital to risk-weighted assets
were 34.56% or 26.56% in excess of the FDIC requirement.
Wisconsin Regulation
Wisconsin-chartered savings banks are required to maintain a minimum capital to assets ratio of
6% and must maintain total capital necessary to ensure the continuation of insurance of deposit
accounts by the FDIC. If the Commissioner determines that the financial condition, history,
management or earning prospects of a savings bank are not adequate, the Commissioner may require
a higher minimum capital level for the savings bank. If a savings bank's capital ratio falls
below the required level, the Commissioner may direct the savings bank to adhere to a specific
written plan established by the Commissioner to correct the savings bank's capital deficiency,
as well as a number of other restrictions on the savings bank's operations, including a
prohibition on the declaration of dividends by the savings bank's board of directors. At
September 30, 1996, the Bank's total capital, as calculated under Wisconsin law, was $5.9
million or 18.40% of total assets, which was 12.40% in excess of the required amount.
Insurance of Deposits
The Bank is required to pay assessments based on a percentage of its insured deposits to the
FDIC for insurance of its deposits by the SAIF. Under the Federal Deposit Insurance Act, the
FDIC is required to set semi-annual assessments for SAIF-insured institutions to maintain the
designated reserve ratio of the SAIF at 1.25% of estimated insured deposits or at a higher
percentage of estimated insured deposits that the FDIC determines to be justified for that year
by circumstances raising a significant risk of substantial future losses to the SAIF.
Under the FDIC's risk-based assessment system, the assessment rate for an insured depository
institution depends on the assessment risk classification assigned to the institution by the
FDIC, which is determined by the institution's capital level and supervisory evaluations. Based
on the data reported to regulators the date closest to the last day of the seventh month
preceding the semi-annual assessment period, institutions are assigned to one of three capital
groups -- well capitalized, adequately capitalized or undercapitalized -- using the same
percentage criteria as under the prompt corrective action regulations. See "--Prompt Corrective
Regulatory Action." Within each capital group, institutions are assigned to one of three
subgroups on the basis of supervisor evaluations by the institution's primary supervisory
authority and such other information as the FDIC determines to be relevant to the institution's
financial condition and the risk posed to the deposit insurance fund. Subgroup A consists of
financially sound institutions with only a few minor weaknesses. Subgroup B consists of
institutions that demonstrate weaknesses which, if not corrected, could result in significant
deterioration of the institution and increased risk of loss to the deposit insurance fund.
Subgroup C consists of institutions that pose a substantial probability of loss to the deposit
insurance fund unless effective corrective action is taken. The assessment rate ranges from
0.23% of deposits for well capitalized institutions in Subgroup A to 0.31% of deposits for
undercapitalized institutions in Subgroup C while assessments for over 90% of the BIF members
<PAGE>27
had been the statutory minimum of $2,000. Recently enacted legislation provided for a one-time
assessment of 65.7 basis points of insured deposits as of March 31, 1995, that fully capitalized
the SAIF and had the effect of reducing future SAIF assessments. Accordingly, although the
special assessment resulted in a one-time charge to the Bank of approximately $178,000 pretax
and $108,000 net of tax effect, the recapitalization of the SAIF had the effect of reducing the
Bank's future deposit insurance premiums to the SAIF. Under the recently enacted legislation,
both BIF and SAIF members will be assessed an amount for the FICO Bond payments. BIF members
will be assessed approximately 1.3 basis points while the SAIF rate will be approximately 6.4
basis points until January 1, 2000. At that time, BIF and SAIF members will begin pro rata
sharing of the payment at an expected rate of 2.43 basis points.
SAIF members are generally prohibited from converting to the status of members of the Bank
Insurance Fund ("BIF") administered by the FDIC or merging with or transferring assets to a BIF
member before the date on which the SAIF meets or exceeds the designated reserve ratio of 1.25%
of insured deposits. The FDIC, however, may approve such a transaction in the case of a SAIF
member in default or if the transaction involves an insubstantial portion of the deposits of
each participant. In addition, mergers, transfers of assets and assumptions of liabilities may
be approved by the appropriate bank regulator so long as deposit insurance premiums continue to
be paid to the SAIF for deposits attributable to the SAIF members plus an adjustment for the
annual rate of growth of deposits in the surviving bank without regard to subsequent
acquisitions. Each depository institution participating in a SAIF to BIF conversion transaction
is required to pay an exit fee to SAIF and an entrance fee to BIF. A savings association may
adopt a commercial bank or savings bank charter if the resulting bank remains a SAIF member.
The FDIC has proposed a rule that would lower the regular semi-annual SAIF assessment rates by
establishing a base assessment rate schedule ranging from 4 to 31 basis points effective October
1, 1996. The rule widens the range between the lowest and highest assessment rates among
healthy and trouble institutions with the intent of creating an incentive for savings
institutions to control risk-taking behavior. The rule also prevents the FDIC from collecting
more funds than needed to maintain the SAIF's capitalization at 1.25% of insured deposits.
Under law, the FDIC may not impose semi-annual assessments which would cause it to collect more
funds than are necessary to maintain the SAIF's designated reserve ratio. As a result, the base
assessment rate schedule will be immediately modified in two ways. The first modification,
applying to institutions such as certain BIF members and SAIF-member banks that do not pay
assessments to the FICO, reduces the base assessment rate by 4 basis points for a range from 0
to 27 basis points. The second modification sets a special interim rate schedule from 18 to 27
basis points for the period from October 1, 1996 to December 31, 1996 to SAIF-member savings
associations that pay assessments to the FICO. After December 31, 1996, the special interim
rates would terminate and these institutions would also pay the base assessment rate as reduced
by the 4 basis point adjustment. Any excess funds collected by the FDIC in the last six months
of 1996 would be refunded or credited, with interest to the institution.
Restrictions on Loans to and Transactions with Insiders and Affiliates
In accordance with Section 22(h) of the Federal Reserve Act of 1913, as amended ("Federal
Reserve Act"), FRB regulations limited the total amount a savings bank may lend to its executive
officers, directors, principal shareholders and their related interests
(collectively referred to herein as "affiliated persons"). Generally, an affiliated person may
borrow an aggregate amount not exceeding 15% of a savings bank's unimpaired capital and
unimpaired surplus on an unsecured basis and an additional 10% on a secured basis. FDICIA also
set a limit on the aggregate amount a depository institution may lend to affiliated persons as
a class to an amount not exceeding the institution's unimpaired capital and unimpaired surplus.
The FRB was authorized to make an exception to this aggregate limit for banks with deposits of
less than $100 million in cases where an exception was determined to be important to avoid
constricting the availability of credit in small communities or to attract directors to such
banks. By final rule issued February 24, 1994, the FRB will permit the extension of credit by
small adequately capitalized banks to affiliated persons in an amount up to 200% of unimpaired
capital and unimpaired surplus in such cases.
To implement changes made to Section 22(h) by the Housing and Community Development Act of 1992,
the FRB amended its implementing regulations, effective May 3, 1993, to provide for certain
exceptions from the definition of "extension of credit" that pose a minimal risk to
institutions, including extensions of credit secured by obligations fully guaranteed by the
federal government, unconditional takeout commitments or guarantees of any U.S. agency,
department or wholly owned corporation, or a segregated deposit account at the institution.
Further, pursuant to the final rule issued February 24, 1994, the FRB amended the definition of
"extension of credit" in several respects. First, the FRB amended the "tangible economic
benefit" rule to clarify that the rule does not apply to an arms-length extension of credit by
a bank to a third party where the proceeds of the credit are used to finance the bona fide
acquisition of property, goods or services from an insider or an insider's related interest.
<PAGE>28
Second, an "extension of credit" will no longer include a discount of promissory notes, bills
of exchange, conditional sales contracts or similar paper, which are made without recourse.
Finally, the FRB has increased to $15,000 the threshold above which standard credit card loans
to insiders would be counted as "extensions of credit".
In addition, the Commissioner's regulations establish restrictions on loans and other
transactions with the Bank's affiliated persons. All loans to affiliated persons must be made
in the "ordinary course of business" involving not more than the "normal risks of
collectibility" and not exceeding the loan amount which would be available to members of the
general public of similar credit status, must be secured by the principal residence of the
affiliated person or deposit accounts maintained at the Bank and must be approved by a majority
of the Bank's disinterested directors. Interest rates on loans to affiliated persons must be
equal to or greater than the Bank's current cost of funds, except that the interest rate of a
loan secured by a deposit account must be at least 1% above the rate of return on the deposit
account. Extensions of credit to affiliated persons for commercial purposes, in the aggregate,
may not exceed $100,000.
FDIC-insured state-chartered savings banks must comply with Sections 23A and 23B of the Federal
Reserve Act ("Sections 23A and 23B") relating to transactions with affiliates in the same manner
and to the same extent as if the savings bank were a Federal Reserve member bank. Generally,
Sections 23A and 23B limit the extent to which an insured institution or its subsidiaries may
engage in certain covered transactions with an affiliate to an amount equal to 10% of such
institution's capital and surplus, plus and aggregate limit on all such transactions with
affiliates to an amount equal to 20% of such capital and surplus, and require that all
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, the purchase of assets, issuance of a guaranty and similar other types of
transactions. The Commissioner, for safety and soundness reasons, may impose more stringent
restrictions on savings banks but may not exempt transactions from or otherwise abridge Sections
23A and 23B. Exemptions from 23A and 23B may be granted only by the FRB.
Unless prior approval of the Commissioner is obtained, a savings bank may not purchase, lease
or acquire a site for an office building or an interest in real estate from an affiliated
person, including a stockholder owning more than 10% of its capital stock, or from any firm,
corporation, entity for family in which an affiliated person or 10% stockholder has a direct or
indirect interest. The Bank has not been significantly affected by such restrictions on loans
to and transactions with affiliates.
Community Reinvestment Act
Under the Community Reinvestment Act of 1977, as amended (the "CRA"), as implemented by FDIC
regulations, the Bank has a continuing and affirmative obligation consistent with this 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 it believes are best suited to its particular community. The CRA
requires the FDIC, in connection with examination of a bank, 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. The Financial Institutions Reform,
Recovery and Enforcement Act of 1989 ("FIRREA") amended the CRA to require, effective July 1,
1990, public disclosure of an institution's CRA rating and require the primary regulator to
provide a written evaluation of an institution's performance.
On May 4, 1995, the federal banking regulators adopted a final rule ("Final CRA Rule") governing
compliance with CRA. The Final CRA Rule eliminates the previous-CRA regulation's 12 assessment
factors and substitutes a performance based evaluation system. The Final CRA Rule was phased in
over a period of time and became fully effective by July 1, 1997. Under the Final CRA Rule, an
institution's performance in meeting the credit needs of its entire community, including low-
and moderate-income areas, as required by the CRA, is generally evaluated under three assessment
tests relating to lending, investment and service.
The lending test analyzes lending performance using five criteria: (i) the number and amount of
loans in the institution's assessment area, (ii) the geographic distribution of lending,
including the proportion of lending in the assessment area, the dispersion of lending in the
assessment area, and the number of amount of loans in low-, moderate-, middle-, and upper-income
areas in the assessment area, (iii) borrower characteristics, such as the income level of
individual borrowers and the size of businesses or farms, (iv) the number and amount, as well
as the complexity and innovativeness of an institution's community development lending and (v)
the use of innovative or flexible lending practices in a safe and sound manner to address the
credit needs of low- or moderate-income individuals or areas.
<PAGE>29
The investment test analyzes investment performance using four criteria: (i) the dollar amount
of qualified investments, (ii) the innovativeness or complexity of qualified investments, (iii)
the responsiveness of qualified investments to credit and community development needs and (iv)
the degree to which the qualified investments made by the institution are not routinely provided
by private investors.
The service test analyzes service performance using six criteria: (i) the institution's branch
distribution among low-, moderate-, middle- and upper-income areas, (ii) its record of opening
and closing branches, particularly in low- and moderate-income areas, (iii) the availability and
effectiveness of alternative systems for delivering retail banking services, (iv) the rate of
services provided in low-, moderate-, middle-, and upper-income areas and extent to which those
services are tailored to meet the needs of those areas, (v) the extent to which the institution
provides community development services, and (vi) the innovativeness and responsiveness of
community development services provided.
Financial institutions with assets of less than $250 million, or a financial institution with
assets of less than $250 million that is a subsidiary of a holding company with assets of less
than $1 billion, will be evaluated under a streamlined assessment method based primarily on its
lending record. The streamlined test considers an institution's loan-to-deposit ratio adjusted
for seasonal variation and special lending activities, its percentage of loans and other lending
related businesses and farms of different sizes, the geographic distribution of its loans, and
its record of taking action, if warranted, in response to written complaints. In lieu of being
evaluated under the three assessment tests or the streamlined test, a financial institution can
adopt a "strategic plan" and elect to be evaluated on the basis of achieving the goals and
benchmarks outlined in the strategic plan. Based upon a review of the Final CRA Rule, management
of the holding Company does not anticipate that the new CRA regulations will adversely affect
the Bank.
Federal Reserve System
Regulation D, promulgated by the FRB, imposes reserve requirements on all depository
institutions, including savings banks and savings institutions, which maintain transaction
accounts or non-personal time deposits. Checking accounts, NOW accounts and certain other types
of accounts that permit payments or transfers to third parties fall within the definition of
transaction accounts and are subject to Regulation D reserve requirements, as are any
non-personal time deposits (including certain money market deposit accounts) at a savings
institution. A depository institution must maintain average daily reserves equal to 3% of the
first $54.0 million of net transaction accounts and an initial reserve of 01.6 million, plus 10%
of net transaction accounts in excess of 054.0 million. In addition, the first $4.2 million of
otherwise reservable liabilities are exempt from the reserve requirement. These percentages and
threshold are subject to adjustment by the FRB. The Bank satisfies its reserve requirements on
an on-going basis by maintaining average balances of vault cash and non-interest bearing reserve
deposits with the FHLB-Chicago (which are passed through to the FRB) which in total are greater
than or equal to its required daily average balance.
Thrift institutions also have authority to borrow from the Federal Reserve Bank "discount
window", but FRB policy generally requires thrift institutions to exhaust all sources before
borrowing from the Federal Reserve System. The Bank had no discount window borrowings as of
September 30, 1996.
Federal Home Loan Bank System
The Federal Home Loan Bank System, consisting of 12 FHLBs, is under the jurisdiction of the
Federal Housing Finance Board ("FHFB"). The designated duties of the FHFB are to supervise the
FHLBs; ensure that the FHLBs carry out their housing finance mission; ensure the FHLBs remain
adequately capitalized and able to raise funds in the capital market; and ensure that the FHLBs
operate in a safe and sound manner.
The Bank, as a member of the FHLB-Chicago, is required to acquire an hold shares of capital
stock in the FHLB-Chicago in an amount equal to the greater of i) 1% of the aggregate
outstanding principal amount of residential mortgage loans, home purchase contracts and similar
obligations at the beginning of each year, or ii) 1/20 of its advances "borrowings) from the
FHLB-Chicago. The Bank is in compliance with this requirement with an investment in FHLB-Chicago
stock of $152,000 at September 30, 1996.
Among other benefits, the FHLBs provide a central credit facility primarily for member
institutions. It is funded primarily from proceeds derived from the sale of consolidated
obligations of the FHLB System. It makes advances to members in accordance with policies and
procedures established by the FHFB and the Board of Directors of the FHLB-Chicago. At September
30, 1996, the Bank had no advances from the FHLB-Chicago.
<PAGE>30
Holding Company Regulation
Federal Regulation
The Company applied for the prior approval of the FRB, at the Federal Reserve Bank of Chicago
(the "Reserve Bank"), to become a registered bank holding company pursuant to the Bank Holding
Company Act of 1956, as amended the "BHCA") by acquiring all of the common stock of the Bank to
be issued in connection with the Conversion. On July 22, 1994, the Reserve Bank advised the
Company its application would not be acted on by the Reserve Bank pursuant to delegated
authority from the FRB, and the application would be acted upon by the FRB under a 60-day review
process. The FRB approved the application on August 17, 1994.
The Company is subject to examination, regulation and periodic reporting under the BHCA, as
administered by the FRB. The FRB has adopted capital adequacy guidelines for bank holding
companies on a consolidated basis) substantially similar to those of the FDIC for the Bank. The
Company's total and Tier 1 capital significantly exceed such capital adequacy requirements.
The Company is required to obtain the prior approval of the FRB to acquire all, or substantially
all, of the assets of any bank or bank holding company. Prior FRB approval will be required for
the Company to acquire direct or indirect ownership or control of any voting securities of any
bank or bank holding company if, after giving effect to such acquisition, it would, directly or
indirectly, own or control more than 5% of any class of voting shares of such bank or bank
holding company. The BHCA also prohibits the acquisition by the Company of more than 5% of the
voting shares or substantially all the assets of a bank located outside the State of Wisconsin
unless such an acquisition is specifically authorized by the laws of the state in which such
bank is located. In addition to the approval of the FRB, before any bank acquisition can be
completed, prior approval thereof also may be required to be obtained from other agencies having
supervisory jurisdiction over the bank to be acquired, including the Commissioner.
The Company is required to give the FRB prior written notice of any purchase or redemption of
its outstanding equity securities if the gross consideration for the purchase or redemption,
when combined with the net consideration paid for all such purchases or redemptions during the
preceding 12 months, is equal to 10% or more of the Company's consolidated net worth. The FRB
may disapprove such a purchase or redemption if it determines that the proposal would constitute
an unsafe and unsound practice, or would violate any law, regulation, FRB order or directive,
or any condition imposed by, or written agreement with the FRB.
The status of the Company as a registered bank holding company under the BHCA does not exempt
it from certain federal and state laws and regulations applicable to corporations generally,
including without limitation, certain provisions of the federal securities laws.
In addition, a bank holding company generally is prohibited from engaging in, or acquiring
direct or indirect control of any company engaged in, non-banking activities. One of the
principal exceptions to this prohibition is for activities found by the FRB to be so closely
related to banking or managing or controlling banks as to be a proper incident thereto. Some of
the principal activities the FRB has determined by regulation to be so closely related to
banking are: (i) making or servicing loans; (ii) performing certain data processing services;
(iii) providing discount brokerage services; (iv) acting as fiduciary, investment or financial
advisor; (v) leasing personal or real property; (vi) making investments in corporations or
projects designed primarily to promote community welfare; and (vii) acquiring and/or operating
a savings and loan association.
Under FIRREA, depository institutions are liable to the FDIC for losses suffered or anticipated
by the FDIC in connection with the default of a commonly controlled depository institution or
any assistance provided by the FDIC to such an institution in danger of default. This law would
have potential applicability if the Company ever acquired as a separate subsidiary a depository
institution in addition to the Bank.
The FRB's "Policy Statement on Cash Dividends Not Fully Covered by Earnings" sets forth
guidelines a bank holding company should follow when establishing its dividend policy. In
general, the policy statement provides that dividends should be paid only out of current
earnings and only if the prospective rate of earnings retention by the bank holding company
appears consistent with its capital needs, asset quality and overall financial condition. The
FRB policy also requires that a bank holding company serve as a source of financial strength to
its subsidiary banks by standing ready to use available resources to provide adequate capital
funds to those banks during periods of financial stress or adversity. These policies could
affect the ability of the Company to pay cash dividends.
Subsidiary banks of a bank holding company are subject to certain quantitative and qualitative
restrictions imposed by the Federal Reserve Act on any extension of credit to, or purchase of
assets from, or letter of credit on behalf of, the bank holding company or its subsidiaries, and
<PAGE>31
on the investment in or acceptance of stocks or securities of such holding company or its
subsidiaries as collateral for loans. In addition, provisions of the Federal Reserve Act and FRB
regulations limit the amounts of, and establish required procedures and credit standards with
respect to, loans and other extensions of credit to officers, directors and principal
shareholders of the Bank, the Company, any subsidiary of the Company and related interests of
such persons. See "Restrictions on Loans to and Transactions with Insiders and Affiliates".
Moreover, subsidiaries of bank holding companies are prohibited from engaging in certain tie-in
arrangements (with the Company or any of its subsidiaries) in connection with any extension of
credit, lease or sale of property or furnishing of services .
The Company and its subsidiary, the Bank, will be affected by the monetary and fiscal policies
of various agencies of the United States government, including the Federal Reserve System. In
view of changing conditions in the national economy and in the money markets, it is impossible
for management of the Company to accurately predict future changes in monetary policy or the
effect of such changes on the business or financial condition of the Company.
State Savings Bank Holding Company Regulation
In addition to the FRB bank holding company regulations, a bank holding company that owns or
controls, directly or indirectly, more than 25% of the voting securities of a state savings bank
also is subject to regulation as a savings bank holding company by the Commissioner. The
Commissioner has not yet issued proposed regulations governing savings bank holding companies.
Acquisition of the Holding Company
Under the federal Change in Bank Control Act of 1978, as amended ("CBCA"), a notice must be
submitted to the FRB if any person (including a company), or group acting in concert, seeks to
acquire 10% or more of the Company's shares of Common Stock outstanding, unless the FRB has
found that the acquisition will not result in a change in control of the Company. Under the
CBCA, the FRB has 60 days within which to act on such notices, taking into consideration certain
factors, including the financial and managerial resources of the acquiror, the convenience and
needs of the communities served by the Company and the Bank, and the antitrust effects of the
acquisition. Under the BHCA, any company would be required to obtain approval from the FRB
before it may obtain "control" of the Company within the meaning of the BHCA. Control generally
is defined to mean the ownership or power to vote 25% or more of any class of voting securities
of the Company or the ability to control in any manner the election of a majority of the
Company's directors. In addition, the BHCA prohibits the acquisition of the Company by a bank
holding company located outside the State of Wisconsin, unless such acquisition is specifically
authorized by Wisconsin law.
Regulatory and Criminal Enforcement Provisions
FIRREA contains several changes to existing regulatory and criminal enforcement provisions. The
major applicable provisions: expand the reach of the depository institution regulatory agencies'
civil enforcement authority to include, in addition to directors, officers
employees and agents, any "institution-affiliated party" of a depository institution; clarify
and enhance the authority of the agencies to order restitution or reimbursement in a cease-
and-desist order; unify removal provisions by the regulators and allow the agencies to
proceed with a removal or prohibition action when an institution has been harmed without
requiring the agencies to quantify the harm or prejudice; authorize the agencies to take
enforcement actions against culpable institution-affiliated parties who depart from an
institution, within six years of the departure date; increase the maximum amount for civil money
penalties from an institution, within six years of the departure date; increase the maximum
amount for civil money penalties ("CMPs") and expand the grounds for imposing them; increase the
criminal penalty to $1 million and five years' imprisonment for violations of a removal order;
impose a three-tier level of CMPs for both failure to file or the late filing of call reports
and other information and filing any false or misleading report or information; permit the FDIC
to take particular enforcement actions against savings banks; require publication of formal
enforcement orders issued by the agencies; shorten the period from 120 days to 30 days for
agency notice for termination of deposit insurance; and increase to 20 years the maximum prison
term for the banking-related offenses in the Federal Criminal Code.
Federal Securities Laws
The Company filed with the SEC a registration statement under the Securities Act of 1933, as
amended (the "Securities Act"), for the registration of the Common Stock issued pursuant to the
Conversion. Upon completion of the Conversion, the Company's Common Stock was registered with
the SEC under the Securities Exchange Act of 1934, as amended (the "Exchange Act"). The Company
is subject to the information, proxy solicitation, insider trading restrictions and other
requirements under the Exchange Act.
<PAGE>32
The registration under the Securities Act of the shares of the Common Stock does not cover the
resale of such shares. Shares of Common Stock purchased by persons who are not affiliates of the
Company may be resold without registration. Shares purchased by an affiliate of the Company will
be subject to the resale restrictions of Rule 144 under the Securities Act. If the Company meets
the current public information requirements of Rule 144 under the Securities Act, each affiliate
of the Company who complies with the other conditions of Rule 144 (including those that require
the affiliated sale to be aggregated with those of certain other persons) would be able to sell
in the public market, without registration, a number of shares not to exceed, in any three-month
period, the greater of (i) 1` of the outstanding shares Common Stock of the Company, or (ii) the
average weekly volume of trading in such shares during the preceding four calendar weeks.
ITEM 2. DESCRIPTION OF PROPERTY
The Bank conducts its operations through two offices located in Cedarburg and Grafton,
Wisconsin. Management believes the Bank's current facilities are adequate to meet present needs.
A listing of the Bank's offices is as follows:
<S>
</TABLE>
<TABLE>
<CAPTION>
Net Book Value
Year of Property at
Location Opened Owned or Leased September 30. 1996
(In Thousands)
<S> <C> <C>
Cedarburg Home Office 1923 Owned $230
W61 N526 Washington Avenue
Cedarburg, WI 53012
Grafton Office 1991 Owned 268
1650 9th Avenue
Grafton, WI 53024
---
Total Net Book Value of office
buildings and improvements 498
Furniture, fixtures and
equipment 49
Vehicles 25
---
Total $572
===
</TABLE>
<TABLE>
<S>
ITEM 3. LEGAL PROCEEDINGS
The Bank is not involved in any pending legal proceedings other than routine legal proceedings
occurring in the ordinary course of business, which in the aggregate involve amounts that are
believed by management to be immaterial to the financial condition of the Bank.
The Bank has been named by the Wisconsin Department of Natural Resources ("WDNR") as a
potentially responsible party with respect to soil and groundwater contamination beneath and
adjacent to the Bank's Cedarburg home office. The Bank has engaged an independent environmental
engineering firm, Key Environmental Services, Inc., to replace the prior firm, Northern
Environmental. Key Environmental has prepared a review and evaluation of remediation
alternatives. Based on their study, they have provided the Bank with a range of estimated costs
for the remediation. Key Environmental has also indicated it is highly probable that the Bank
will be eligible for Petroleum Environmental Cleanup Fund ("PECFA") reimbursement over the PECFA
deductible of $15,000 plus 2% of costs over $200,000, which the Bank expects to meet. Based on
information from Key Environmental, the Bank has booked $252,500 (midpoint of the cost range)
as a liability and an expense and also booked a receivable of $252,500 from PECFA for the
expense recovery. Environmental expenses not recoverable from PECFA, excluding related legal
fees, were $8,700 for the year ended September 30, 1996.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of shareholders of the Company during the three months ended
September 30, 1996.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Information required by this item is included under the headings, "Business of the Company and
the Bank" and "Corporate Information" in the Registrant's Annual Report to Shareholders for the
fiscal year ended September 30, 1996, which has been filed separately pursuant to Rule 14a-3
under the Securities Exchange Act of 1934 and in accordance with General Instruction E(2) to
Form 10-KSB, and which sections are hereby incorporated herein by reference.
<PAGE>33
The Board of Directors of the Registrant does not anticipate the declaration or payment of a
dividend in the near future. Future payments of dividends will be subject to determination and
declaration by the Registrant's Board of Directors, which will take into account the
Registrant's financial condition, results of operations, tax considerations, industry standards,
economic conditions and other factors, including the regulatory restrictions which affect the
payment of dividends by the Bank to the Company. There can be no assurance that dividends will
in fact be paid on the shares of Common Stock or that, if paid, such dividends will not be
reduced or eliminated in future periods.
ITEM 6. MANAGEMENTS DISCUSSION AND ANALYSIS OR PLAN OF OPERATION"
The Item 6 information for the Registrant has been provided, and is included under the heading
"Management's Discussion and Analysis of Financial Condition and Results of Operations" in the
Registrant's Annual Report to Shareholders for the fiscal year ended September 30, 1996, which
has been filed with the Securities and Exchange Commission separately pursuant to Rule 14a-3
under the Securities Exchange Act of 1934 and in accordance with General Instruction E(2) to
Form 10-KSB, and which section is hereby incorporated herein by reference.
ITEM 7. FINANCIAL STATEMENTS
Form 10-KSB equivalent financial information for the Registrant for the fiscal year ended
September 30, 1996, has been provided, and is included under the headings "Financial Statements
of First Ozaukee Capital Corp." and "Notes to Consolidated Financial Statements of First Ozaukee
Capital Corp." in the Registrant's Annual Report to Shareholders for the fiscal year ended
September 30, 1996, which has been filed with the Securities and Exchange Commission separately
pursuant to Rule 14a-3 under the Securities Exchange Act of 1934 and in accordance with General
Instruction E(2) to Form 10-KSB, and which sections are hereby incorporated herein by reference.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, AND CONTROL PERSONS: COMPLIANCE WITH SECTION 16(A) OF THE
EXCHANGE ACT.
Information required by this item with respect to directors is included under the heading
"Matter 1 Election of Directors" in the Registrant's definitive Proxy Statement dated December
30, 1996 relating to the 1997 Annual Meeting of the Shareholders scheduled for January 28, 1997,
which has been filed separately with the Securities and Exchange Commission pursuant to Rule
14a-6 under the Securities Exchange Act of 1934 and in accordance with General Instruction E(3)
to Form 10-KSB, not later than 120 days after the end of the Registrant's fiscal year, and which
section is hereby incorporated herein by reference.
The following information as to the business experience during the past five years is supplied
with respect to executive officers of the Registrant who do not serve on the Registrant's Board
of Directors. There are no arrangements or understandings between the persons named and any
other person pursuant to which such officers were selected, nor are there any family
relationships among them.
Mary E. Lammers has been Secretary of the Company since 1994. Ms. Lammers joined the Bank in
1985 as a teller and was promoted to teller supervisor in 1987, corporate secretary in 1991 and
vice president in 1994.
Marcia A. Guidinger has been Treasurer of the Company since 1994. Ms. Guidinger joined the Bank
in 1978 as a teller and was promoted to teller supervisor in 1991 and treasurer in 1992 and
secretary/treasurer in 1994.
Information required by this item with respect to Item 405, Compliance with Section 16(a) of the
Exchange Act, is included under the heading "Section 16 Compliance" in the Registrant's
definitive Proxy Statement dated December 30, 1996 relating to the 1997 Annual Meeting of
Shareholders scheduled for January 28, 1997, which has been filed separately with the Securities
and Exchange Commission pursuant to Rule 14a-6 under the Securities Exchange Act of 1934 and in
accordance with General Instruction E(3) to Form 10-KSB, not later than 120 days after the end
of the Registrant's fiscal year, and which section is hereby incorporated herein by reference.
<PAGE>34
ITEM 10. EXECUTIVE COMPENSATION
Information required by this item is included under the heading "Compensation of Executive
Officers and Directors" and "Compensation Committee Report" in the Registrant's definitive Proxy
Statement dated December 30, 1996, relating to the 1997 Annual Meeting of Shareholders scheduled
for January 28, 1997, which has been filed separately with the Securities and Exchange
Commission pursuant to Rule 14a-6 under the Securities Exchange Act of 1934 and in accordance
with General Instruction E(3) to Form 10-KSB, not later than 120 days after the end of the
Registrant's fiscal year, and which section is hereby incorporated herein by reference.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information required by this item is included under the heading "Stock Ownership of Certain
Beneficial Owners" in the Registrant's definitive Proxy Statement dated December 30, 1996,
relating to the 1996 Annual Meeting of Shareholders Scheduled for January 28, 1997, which has
been filed separately with the Securities and Exchange Commission pursuant to Rule 14a-6 under
the Securities Exchange Act of 1934 and in accordance with General Instruction E(3) to Form
10-KSB, not later than 120 days after the end of the Registrant's fiscal year, and which section
is hereby incorporated herein by reference.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information required by this item is included under the heading "Indebtedness of Management and
Certain Transactions" in the Registrant's definitive Proxy Statement dated December 30, 1996,
relating to the 1997 Annual Meeting of Shareholders scheduled for January 28, 1997, which has
been filed separately with the Securities and Exchange Commission pursuant to Rule 14a-6 under
the Securities Exchange Act of 1934 and in accordance with General Instruction E(3) to Form
10-KSB, not later than 120 days after the end of the Registrant's fiscal year, and which section
is hereby incorporated herein by reference.
PART IV
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits Required by Item 601:
13.1 1996 Annual Report to Shareholders
23.1 Consent of Meier, Clancy, George & Co. LLP
99.1 Financial Statements of First Ozaukee Capital Corp.
Independent Auditors' Report
Financial Statements: Consolidated Statements of Financial Condition at September 30, 1996 and
1995.
Consolidated Statements of Income for the Years Ended September 30, 1996 and 1995,
and 1994.
Consolidated Statements of Stockholders' Equity for the Years Ended September 30, 1996, 1995,
and 1994.
Consolidated Statements of Cash Flow for the Years Ended September 30, 1996, 1995 and 1994.
Notes to Consolidated Financial Statements
99.2 Proxy Statement for 1997 Annual Meeting of Shareholders
(b) Reports on Form 8-K.
No reports on Form 8-K were filed by the Registrant during the three months ended September 30,
1996.
SIGNATURES
In accordance with 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, herewith duly
authorized.
FIRST OZAUKEE CAPITAL CORP.
Dated: December 30, 1996 by: /s/ Russell S. Jones
Russell S. Jones, Chairman of the
Board and President (Principal
Executive Officer and Principal
Financial and Accounting Officer)
In accordance with the Securities Exchange Act of 1934, this report has been signed below by the
following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Signature Title Date
/s/Russell S. Jones Chairman of the Board, President December , 1996
Russell S. Jones (Principal Executive Officer and
and Principal Financial and
Accounting Officer) and Director
/s/Frank M. Kennedy Director December , 1996
Frank M. Kennedy
/s/George P. Kraemer Director December , 1996
George P. Kraemer
/s/Richard E. Peterson Director December , 1996
Richard E. Peterson
/s/Harry J. Sanders Director December , 1996
Harry J. Sanders
EXHIBIT INDEX
Exhibit No. Description
13.1 1996 Annual Report to Shareholders
23.1 Consent of Meier, Clancy, George & Co., LLP
We hereby consent to the incorporation by reference and use of our report, dated
October 23, 1996 on the consolidated financial statements of First Ozaukee Capital
Corp. which appears in the First Ozaukee Capital Corp.'s Annual Report of
Shareholders and Form 10-KSB for the year ended September 30, 1996, and in First
Ozaukee Capital Corp's previously filed Registration Statement on Form S-8
(Registration No. 333-1038).
/s/ Meier, Clancy, George & Co., LLP
99.2 Proxy Statement for 1997 Annual Meeting
of Shareholders
<S>
</TABLE>
<TABLE>
<S>
Business of the Company and the Bank
First Ozaukee Capital Corp. (Company) is the holding company for First Ozaukee Savings Bank
(Bank). The Bank converted from a Wisconsin-chartered mutual savings bank to a Wisconsin-
chartered stock savings bank on October 21, 1994. In connection with the Conversion, First
Ozaukee Capital Corp. sold 603,345 shares of its common stock at $8.00 per share in
conjunction with the subscription offering to the Bank's Employee Stock Ownership Plan
(ESOP), eligible account holders and other members. Net proceeds of the sale of common
stock of the Company were $4,097,057, after deducting conversion costs of $488,365, and
unearned compensation of $241,338 related to shares issued to the ESOP. The Company
retained 50% of the net conversion proceeds and used the balance of the net proceeds to
purchase all of the stock of the Bank issued in the conversion for $1,927,861 and fund the
ESOP loan of $241,338.
First Ozaukee Savings Bank was established in 1923, and is regulated by the state of
Wisconsin, Department of Financial Institutions Division of Savings Institutions and the Federal
Deposit Insurance Corporation (FDIC). The Company has no significant assets other than the
common stock of the Bank, the loan to the ESOP and net proceeds retained by the Company
following the conversion. The Company's principal business is the business of the Bank. The
Bank is a community-oriented, full-service financial institution offering a variety of retail
financial services to meet the needs of the communities it serves. The Bank's principal
business consists of attracting funds in the form of deposits and investing such funds in loans
secured by real estate, primarily residential loans, various types of consumer loans, mortgage-
backed securities and investment securities. The Bank has two full-service offices, both of
which are located in Ozaukee County, Wisconsin. At September 30, 1996, the Company and
Bank had consolidated total assets of $34.0 million, total deposits of $25.0 million and
stockholders' equity of $8.2 million.
The shares of common stock of First Ozaukee Capital Corp. are publicly traded in the over-the-
counter market through the OTC Bulletin Board under the symbol "FOZK".
<S>
</TABLE>
<TABLE>
<CAPTION>
Quarter Ended High Low Dividend
<S> <C> <C> <C>
December 31, 1995 $13.75 $11.63 $.00
March 31, 1996 $15.00 $12.50 $.00
June 30, 1996 $15.00 $14.00 $.00
September 30, 1996 $15.50 $13.75 $.00
</TABLE>
<TABLE>
<S>
Dividend declaration and payment decisions are made after considering a variety of factors,
including earnings, financial condition, market considerations and regulatory restrictions.
Restrictions on dividend payments are described in note 11 of the Notes to Consolidated
Financial Statements.
As of September 30, 1996, the Company had approximately 150 stockholders of record
(which includes nominees for beneficial owners holding shares in "street name").
Selected Financial Highlights
Set forth below are selected financial and other data of the Company. The financial data is derived in
part from, and should be read in conjunction with, the Consolidated Financial Statements of the
Company and notes thereto presented elsewhere in this Annual Report.
<S>
</TABLE>
<TABLE>
<CAPTION>
Financial Condition Data:
At September 30,
1996 1995 1994 1993 1992
(Dollars in Thousands)
<S> <C>
Total assets $ 34,048 38,151 37,671 36,947 41,217
Cash and cash equivalents 725 870 4,575 7,054 10,563
Loans receivable, net 16,341 13,747 12,524 16,691 19,778
Loans held for sale - - - 385 94
Securities 11,854 18,093 14,169 9,156 8,753
Mortgage-backed securities 3,721 4,248 4,876 2,409 764
FHLB stock 152 168 166 257 251
Deposits 24,962 29,508 33,140 32,512 36,656
Stockholders' equity(1) 8,186 8,195 3,979 3,848 3,714
Full Service Offices Open 2 2 2 2 2
Selected Operating Data:(2)
For the Year Ended September 30,
1996 1995 1994 1993 1992
(Dollars in Thousands)
Interest and dividend income $ 2,549 2,484 2,218 2,534 3,440
Interest expense (1,364) (1,300) (1,201) (1,496) (2,236)
Net interest income 1,185 1,184 1,017 1,038 1,204
Provision for loan losses (18) (18) (18) (18) (18)
Net interest income after
provision for loan losses 1,167 1,166 999 1,020 1,186
Noninterest income 85 77 78 153 86
General and administrative
expenses (1,614) (1,070) (902) (911) (886)
Income (loss) before income taxes (362) 173 175 262 386
Income taxes 125 (64) (44) (128) (156)
Net income (loss) $ (237) 109 131 134 230
Income (loss) per share $ (.40) .19 - - -
Dividends per share $ .00 .00 - - -
</TABLE>
<TABLE>
<S>
(1) Stockholders' equity at September 30, 1996 and 1995 includes $4.1 million from the net proceeds of the sale
of common stock in connection with the conversion from mutual to stock form and the formation of a holding
company.
(2) Fiscal years ended September 30, 1996 and 1995 are based on the audited consolidated financial statements
of the Holding Company and its wholly owned Bank. Fiscal years ended September 30, 1994, 1993 and 1992
are based on the Bank only audited financial statements.
Management's Discussion and Analysis of Financial Condition and Results of Operations
General
The business of the Bank is that of a financial intermediary consisting primarily of attracting deposits
from the general public and using such deposits to originate mortgage loans secured by one-to-four-
family residences and, to a lesser extent, commercial and agricultural real estate loans, and consumer
loans. The Bank's revenues are derived principally from interest earned on loans and, to a lesser extent,
from interest earned on investments. The operations of the Bank are influenced significantly by general
economic conditions and by policies of financial institution regulatory agencies, including the FDIC. The
Bank's cost of funds is influenced by interest rates on competing investments and general market
interest rates. Lending activities are affected by the demand for financing of real estate and other types
of loans, which in turn is affected by the interest rates at which such financing may be offered.
The Bank's net interest income is dependent primarily upon the difference or spread between the
average yield earned on loans and investments and the average rate paid on deposits, as well as the
relative amounts of such assets and liabilities. The Bank, as other financial institutions, is subject to
interest rate risk to the degree that its interest-bearing liabilities mature or reprice at different times, or
on a different basis, than its interest-earning assets.
Certain statements in this report which relate to the Company's plans, objectives or future performance
may be deemed to be forward-looking statements within the meaning of Private Securities Litigation
Act of 1995. Such statements are based on management's current expectations. Actual strategies
and results in future periods may differ materially from those currently expected because of various
risks and uncertainties. Additional discussion of factors affecting the Company's business and
prospects is contained in periodic filings with the Securities and Exchange Commission.
Management Strategy
Management's strategy has focused on maintaining the Bank's strong capital position through controlled
growth, while continuing to provide quality customer service. The Bank has sought to implement this
strategy by emphasizing deposits as its primary source of funds, originating one-to-four-family mortgage
loans in its market area, and investing in mortgage-backed securities and investment securities.
Financial highlights and operating strategies of the Bank include the following:
Asset Quality. The Bank focuses on high asset quality in both its lending activities and investment
portfolio. Nonperforming assets were .29% and .23% of total assets at September 30, 1996 and
1995. The Bank has had no charge-off of loans in recent years.
Residential Mortgage Lending Emphasis. The Bank has historically focused its loan origination
activities on adjustable rate residential mortgage loans (AMLs). Beginning in 1993, the Bank
expanded its emphasis to include originations and sales of fixed rate mortgage loans. The program
was very successful in 1993. However, because of a substantial increase in competition for loans,
the Bank had limited success with this program in recent years.
Profitability and Capital Strength. The Bank has historically maintained capital ratios substantially
higher than required by Federal insurance regulations or state law. At September 30, 1996, the
Bank had a Tier 1 risk-based capital ratio of over 33% and Tier 1 leverage ratio of more than 17%.
The Bank's Tier 1 risk-based capital ratio is more than eight times the required amount, while the
Bank's Tier 1 leverage ratio is more than four times the amount required.
Although the Bank has historically been profitable, 1996 included many new factors which resulted
in the first net loss since the early 1980's. The conversion to stock form enabled the Company
to increase its net interest income. However, the stock benefit plan expenses and costs of
operating as a public company have been substantial. The Company has taken steps to reduce
such costs. The Company adopted a Business Incentive Plan (BIP), effective November 7, 1995,
which is similar to plans of other publicly traded thrift institutions. Because of the vesting schedule
of the plan, which vests one-third of the shares upon adoption of plan, the Company was required
to expense over 60% of the shares in the year ended September 30, 1996. BIP expense for the
year was $193,822. BIP expense for the year ended September 30, 1997 is expected to be
substantially lower because fewer shares are expected to be vested.
Legislation was enacted September 30, 1996 to recapitalize the SAIF fund. The Bank will be
required to pay a non-recurring special assessment of approximately $178,000. Future recurring
SAIF assessments are expected to be lower than those in recent years.
Interest Rate Risk Management. Since the early 1980's, the Bank's business plan has included
investing significantly in corporate debt securities, in addition to its investment in mortgage-backed
securities. This diversified portfolio enables the Bank to provide and maintain high liquidity levels;
maintain a balance of high quality, diversified investments; and manage the interest rate risk of the
Bank. The Bank typically sells its 15-year and 30-year fixed rate loans to improve its gap position
by shortening the maturity of its assets. In addition, the Bank has attempted to reduce its interest
rate risk by originating ARM loans for retention in its loan portfolio and by selling most of the fixed
rate loans it originates. Management believes this strategy has reduced its net income over the
past few years due to lower initial yields on the ARM loans in comparison to longer term fixed rate
investments. However, management believes that reducing its exposure to interest rate
fluctuations tends to reduce the volatility of the Bank's net interest income over the long term.
Liquidity and Capital Resources
The Bank's principal sources of funds are cash receipts from deposits, loan repayments by borrowers,
proceeds from maturing securities, and net income. The Bank has an agreement with the FHLB of
Chicago to provide cash advances, should the Bank need additional funds. For regulatory purposes,
liquidity is measured as a ratio of cash and certain investments to withdrawable deposits. The minimum
level of liquidity required by regulation is presently 8%. The Bank's liquidity ratio at September 30,
1996 was approximately 54%. The Bank maintains a higher level of liquidity than required by
regulation as a matter of management philosophy in order to more closely match interest-sensitive
assets with interest-sensitive liabilities.
The Bank has $14.3 million in certificates due within one year and $8.1 million in other deposits
without specific maturity at September 30, 1996. Management estimates that most of the deposits
will be retained or replaced by new deposits.
Assets decreased from $38.2 million at September 30, 1995 to $34.0 million at September 30, 1996.
Competition for customer deposits was fierce during 1996. Deposits decreased from $29.5 million at
September 30, 1995 to $25.0 million at September 30, 1996. Management chose to price deposits
to maintain interest margins, rather than match or beat interest rates offered by other financial
institutions or competing financial products such as mutual funds and bonds. The Bank was successful
in increasing the loans receivable portfolio from $13.7 million in 1995 to $16.3 million in 1996. Prepaid
expenses and other assets increased primarily as a result of recording a receivable of $252,500 relating
to environmental clean-up costs. Other liabilities includes the same amount based on an independent
study. See note 13 of Notes to Consolidated Financial Statements for further information.
Deposit outflows and the increase in loans receivable were funded principally by sales and maturities
of investment securities. Accrued interest receivable on loans increased due to a higher portfolio
balance. Other liabilities at September 30, 1996 also increased due to a provision for a special
assessment of the SAIF of $178,000.
Commitments to originate loans are legally binding agreements to lend to the Bank's customers.
Commitments to originate adjustable-rate loans at September 30, 1996, which generally expire in 90
days or less, were $713,000. Commitments to fund equity and credit card lines of credit totaled
$1,075,000 at September 30, 1996.
The Bank is required to maintain a minimum level of capital under FDIC and Wisconsin laws and
regulations. See note 11 of Notes to Consolidated Financial Statements for further information.
Average Balances, Interest and Average Yields and Rates
The following table presents for the years indicated the total dollar amount of interest income from
average interest-earning assets and the resultant yields, as well as the interest expense on average
interest-bearing liabilities, expressed both in dollars and rates. No tax equivalent adjustments were
made. All average balances are monthly average balances. Nonaccruing loans have been included in
the table as loans carrying a zero yield.
<S>
</TABLE>
<TABLE>
<CAPTION>
Year Ended September 30,
1996 1995 1994
Average Average Average
Average Yield/ Average Yield/ Average Yield/
Balance Interest Cost Balance Interest Cost Balance Interest Cost
(Dollars in thousands)
<S>
Interest-earning assets:<C> <C> <C> <C> <C> <C> <C> <C> <C>
Loans receivable $ 15,443 1,287 8.33% 13,016 1,085 8.34% 14,231 1,208 8.49%
Mortgage-backed
securities 3,972 243 6.12% 4,626 282 6.10% 4,420 267 6.04%
Securities and other
interest-earning
assets 15,869 1,008 6.35% 17,593 1,106 6.29% 15,602 730 4.68%
Federal Home Loan
Bank Stock 160 11 6.88% 167 11 6.59% 212 13 6.13%
Total interest-
earning assets 35,444 2,549 7.19% 35,402 2,484 7.02% 34,465 2,218 6.44%
Interest-bearing
liabilities:
Deposits 28,074 1,359 4.84% 28,432 1,295 4.55% 31,206 1,194 3.83%
Advances from
borrowers for taxes
and insurance 248 5 2.02% 249 5 2.01% 296 7 2.36%
Total interest-
bearing
liabilities $ 28,322 1,364 4.82% 28,681 1,300 4.53% 31,502 1,201 3.81%
Net interest income
before provision
for loan losses $ 1,185 1,184 1,017
Interest rate spread 2.37% 2.49% 2.63%
Net earning assets $ 7,122 6,721 2,963
Net yield on average
interest-earning assets 3.34% 3.34% 2.95%
Ratio of average
interest-earning
assets to average
interest-bearing
liabilities 125.15% 123.43% 109.41%
</TABLE>
<TABLE>
<S>
Rate/Volume Analysis
The following table sets forth certain information regarding changes in interest income and interest
expense of the Company for the years indicated. For each category of interest-earning assets and
interest-bearing liabilities, information is provided on changes in volume (changes in volume multiplied
by prior year's rate) and rates (changes in rate multiplied by prior year's volume).
<S>
</TABLE>
<TABLE>
<CAPTION>
Year Ended September 30,
1996 vs. 1995 1995 vs. 1994
Increase (Decrease) Due To Increase (Decrease) Due To
Rate Volume Total Rate Volume Total
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest income:
Loans receivable $ - 202 202 (21) (102) (123)
Mortgage-backed securities 1 (40) (39) 2 13 15
Securities and other
interest-earning assets 12 (110) (98) 274 102 376
Federal Home Loan Bank Stock - - - 1 (3) (2)
Total interest- earning assets 13 52 65 256 10 266
Interest expense:
Deposits 80 (16) 64 189 (88) 101
Advances from borrowers for
taxes and insurance - - - (1) (1) (2)
Total interest-bearing
liabilities 80 (16) 64 188 (89) 99
Net interest income $ 1 167
</TABLE>
<TABLE>
<S>
Results of Operations
Comparison of the Year Ended September 30, 1996 to the Year Ended September 30, 1995
Net Earnings (Loss)
Net earnings decreased from $109,000 for the year ended September 30, 1995 to a net loss of
$237,000 for the year ended September 30, 1996. The decrease in net earnings was due to expenses
associated with the stock benefit plans, and substantially higher legal, audit, examination and
accounting fees.
Interest and Dividend Income
Interest and dividend income increased from $2,484,000 for the year ended September 30, 1995 to
$2,549,000 for the year ended September 30, 1996. While the average balance of interest-earning
assets was virtually unchanged from 1995 to 1996, the average yield increased from 7.02% in 1995
to 7.19% in 1996. Average loans increased from $13.0 million in 1995 to $15.4 million in 1996.
Average interest rates on loans receivable were virtually identical. Sales and maturities of securities
were reinvested, in part, in loans which bear higher interest rates. Interest on securities and other
interest-earning assets and MBS's decreased due to lower average balances. Components of interest
income vary from time to time based on the availability, quality and interest rates of loans, securities,
cash equivalents and MBS's.
Interest Expense
Interest expense increased from $1,300,000 for the year ended September 30, 1995 to $1,364,000
for the year ended September 30, 1996. The increase was due primarily to the very competitive
environment for certificate of deposits in the Bank's market area. The average rate for all interest-
bearing liabilities increased from 4.53% in 1995 to 4.82% in 1996.
Net Interest Income
Net interest income was virtually unchanged increasing from $1,184,000 for 1995 to $1,185,000 for
1996. The ratio of average interest-earning assets to average interest-bearing liabilities increased from
123.43% for 1995 to 125.15% for 1996, in part, due to the effect of the sale of common stock. The
interest rate spread decreased from 2.49% for 1995 to 2.37% for 1996 due primarily to a higher
weighted-average rate paid on deposits.
Provision for Loan Losses
Provision for loan losses was $18,000 for 1995 and 1996. The Bank did not charge-off any loans in
either year. The provision for loan losses was based upon management's consideration of existing and
anticipated economic conditions which may affect the ability of borrowers to repay the loans. The
provision is also based on an 19% increase in the loan portfolio from $13.7 million at September 30,
1995 to $16.3 million at September 30, 1996. Management also reviews individual loans for which
full collectibility may not be reasonably assured and considers, among other matters, the risks inherent
in the Bank's portfolio and the estimated fair value of the underlying collateral. This evaluation is
ongoing and results in variations in the Bank's provision for loan losses.
Noninterest Income
Noninterest income increased from $77,000 for 1995 to $85,000 for 1996 due primarily to higher
gains on sales of securities available for sale in 1996 than in 1995. In 1995, the Bank recognized a
gain on sale of fixed assets of $27,000. Such gains are not stable sources of income and no assurance
can be given that the Bank or Company will realize gains on securities or fixed assets in the future.
General and Administrative Expenses
General and administrative expenses increased from $1,070,000 for 1995 to $1,614,000 for 1996.
Compensation and benefits increased from $441,000 for 1995 to $708,000 for 1996 due primarily to
the implementation of the Bank's ESOP plan and Business Incentive Plan (BIP). ESOP and BIP expenses
were $42,000 and $194,000, respectively for 1996 compared to none for 1995. Under generally
accepted accounting principles, expense of the ESOP is affected by changes in the market price of the
Company's common stock and ESOP shares committed to be released. Federal insurance premiums
increased from $68,000 for 1995 to $245,000 for 1996 due to a non-recurring special assessment by
the SAIF for $178,000 in 1996. The special assessment, which was paid in November, 1996, will
result in substantially lower recurring premiums effective January 1, 1997. Other expenses increased
in 1996 due to higher indirect loan expenses and a full year of expenses of operating as a public
company. Legal, audit, examination and accounting fees increased from $147,000 for 1995 to
$231,000 for 1996 due to initial fees incurred with implementation of stock benefit plans and the
Company's first annual meeting. Management has taken steps to reduce such fees in the future.
Income Taxes
Income taxes decreased from $64,000 for 1995 to a credit of $125,000 for 1996 as a result of lower
earnings before income taxes.
Comparison of the Year Ended September 30, 1995 to the Year Ended September 30, 1994
Net Earnings
Net earnings decreased from $131,000 for the year ended September 30, 1994 to $109,000 for the
year ended September 30, 1995. The decrease in net earnings was due to higher compensation and
benefits, and substantially higher legal, audit, examination and accounting fees, offset by higher net
interest income.
Interest and Dividend Income
Interest and dividend income increased from $2,218,000 for the year ended September 30, 1994 to
$2,484,000 for the year ended September 30, 1995. The average balance of interest-earning assets
increased by $937,000, while the average yield increased from 6.44% in 1994 to 7.02% in 1995.
Average loans decreased from $14.2 million in 1994 to $13.0 million in 1995. Average interest rates
on loans receivable decreased from 8.49% for 1994 to 8.34% for 1995. Interest on securities and
other interest-earning assets and MBS's increased due to higher average balances and rates.
Components of interest income vary from time to time based on the availability, quality and interest
rates of loans, securities, cash equivalents and MBS's.
Interest Expense
Interest expense increased from $1,201,000 for the year ended September 30, 1994 to $1,300,000
for the year ended September 30, 1995. The increase was due primarily to the very competitive
environment for certificate of deposits in the Bank's market area. The average rate for all interest-
bearing liabilities increased from 3.81% in 1994 to 4.53% in 1995.
Net Interest Income
Net interest income increased from $1,017,000 for 1994 to $1,184,000 for 1995. The ratio of
average interest-earning assets to average interest-bearing liabilities increased from 109.41% for 1994
to 123.43% for 1995, in part, due to the effect of the sale of common stock. The interest rate spread
decreased from 2.63% for 1994 to 2.49% for 1995 due primarily to a higher weighted-average rate
paid on deposits.
Provision for Loan Losses
Provision for loan losses was $18,000 for 1994 and 1995. The Bank did not charge-off any loans in
either year. The provision for loan losses was based upon management's consideration of existing and
anticipated economic conditions which may affect the ability of borrowers to repay the loans.
Management also reviews individual loans for which full collectibility may not be reasonably assured
and considers, among other matters, the risks inherent in the Bank's portfolio and the estimated fair
value of the underlying collateral. This evaluation is ongoing and results in variations in the Bank's
provision for loan losses.
Noninterest Income
Noninterest income decreased from $78,000 for 1994 to $77,000 for 1995. In 1995, the Bank
recognized a gain on sale of fixed assets of $27,000, and in 1994 the Bank recognized a gain on sale
of mortgage loans of $27,000. Such gains are not stable sources of income and no assurance can be
given that the Bank or Company will realize gains in the future.
General and Administrative Expenses
General and administrative expenses increased from $902,000 for 1994 to $1,070,000 for 1995.
Compensation and benefits increased from $388,000 for 1994 to $441,000 for 1995 due to higher
compensation and employee benefits. Federal insurance premiums decreased from $74,000 for 1994
to $68,000 for 1995 due to a lower level of deposits. Legal, audit, examination and accounting fees
increased from $28,000 for 1994 to $147,000 for 1995 due to initial fees incurred with
implementation of stock benefit plans and operating as a public company.
Income Taxes
Income taxes increased from $44,000 for 1994 to $64,000 for 1995 as a result of non-recurring
credits to tax expense of $17,000 in 1994.
Impact of Inflation
The 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. The primary impact of inflation on the operations of the
Bank is reflected in increased operating costs. Unlike most industrial companies, virtually all of the
assets and liabilities of a financial institution are monetary in nature. As a result, interest rates,
generally, have a more significant impact on a financial institution's performance than does inflation.
Interest rates do not necessarily move in the same direction or to the same extent as the prices of
goods and services. In the current interest rate environment, liquidity and the maturity structure of the
Bank's assets and liabilities are critical to the maintenance of acceptable performance levels.<PAGE>
CORPORATE INFORMATION
<S>
</TABLE>
First Ozaukee Capital Corp.
Financial Statements
September 30, 1996 and 1995
Including Independent Auditor's Report
<TABLE>
<CAPTION> PAGE
<S> <C>
Independent Auditor's Report 1
Financial Statements:
Consolidated Statements of Financial
Condition at September 30, 1996 and 1995 2
Consolidated Statements of Income for the
Years Ended September 30, 1996, 1995 and 1994 3-4
Consolidated Statements of Stockholders' Equity
for the Years Ended September 30, 1996, 1995 and 1994 5
Consolidated Statements of Cash Flows for the Years
Ended September 30, 1996, 1995 and 1994 6-7
Notes to Consolidated Financial Statements 8-37
</TABLE>
<PAGE>
<TABLE>
<S>
INDEPENDENT AUDITOR'S REPORT
Board of Directors
First Ozaukee Capital Corp.
Cedarburg, Wisconsin
We have audited the accompanying consolidated statements of financial condition
of FIRST OZAUKEE CAPITAL CORP. as of September 30, 1996 and 1995, and the
related consolidated statements of income, stockholders' equity, and cash flows for
the three years in the period ended September 30, 1996. These financial statements
are the responsibility of the Company's management. Our responsibility is to express
an opinion on these 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 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 position of FIRST OZAUKEE CAPITAL
CORP. as of September 30, 1996 and 1995, and the results of its operations and its
cash flows for each of the three years in the period ended September 30, 1996 in
conformity with generally accepted accounting principles.
Meier, Clancy, George & Co., LLP
Certified Public Accountants
October 23, 1996
Brookfield, Wisconsin
<S>
</TABLE>
<PAGE>1
<TABLE>
<CAPTION>
FIRST OZAUKEE CAPITAL CORP.
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
September 30,
1996 1995
(Dollars in thousands except
share and per share amounts)
Assets
<S> <C> <C>
Cash $ 526 $ 712
Cash equivalent interest-bearing deposits 199 158
Total cash and cash equivalents 725 870
Securities held-to-maturity:
Debt securities (market value of $1,992
at September 30,1996; $13,662 at
September 30, 1995) 1,997 13,587
Mortgage-backed securities (market
value of $3,582 at September 30, 1996;
$4,147 at September 30, 1995) 3,721 4,248
Securities available-for-sale:
Debt securities, at market value 9,857 4,506
Accrued interest on investments and
morgage-backed securities 308 312
Loans held for sale - -
Loans receivable - net 16,341 13,747
Accrued interest receivable on loans 75 57
Foreclosed properties and properties
subject to foreclosure - net - -
Office properties and equipment 572 606
Federal Home Loan Bank stock - at cost 152 168
Prepaid expenses and other assets 300 50
Total assets $ 34,048 $ 38,151
Liabilities and Equity
Deposit accounts $ 24,962 $ 29,508
Advance payment by borrowers for
taxes and insurance 373 396
Federal and state income taxes:
Current (8) (134)
Deferred (24) 103
Other liabilities 559 83
Total liabilities 25,862 29,956
Commitments and contingencies - -
Stockholders' Equity:
Preferred stock - par value $1 per share;
authorized 2,000,000 shares; issued and
outstanding, none - -
Common stock - par value $1 per share;
authorized 4,000,000 shares; issued and
outstanding 627,477 shares at
September 30, 1996, 603,345
September 30, 1995 627 603
Additional paid-in capital 4,032 3,735
Unearned ESOP compensation (217) (241)
Unearned BIP compensation (111) -
Unrealized gain on securities
available-for-sale net of applicable
deferred income taxes 4 10
Retained earnings, substantially restricted 3,851 4,088
Total stockholders' equity 8,186 8,195
Total liabilities and
stockholders' equity $ 34,048 $ 38,151
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
<PAGE>2
<TABLE>
FIRST OZAUKEE CAPITAL CORP.
CONSOLIDATED STATEMENTS OF INCOME
<CAPTION> Years Ended September 30,
1996 1995 1994
(In thousands except per share data)
<S> <C> <C> <C>
Interest and dividend income:
Interest on mortgage loans $ 1,129 $ 956 $ 1,085
Interest on other loans 158 129 123
Interest on investment securities
and other interest-earning assets 1,008 1,106 730
Interest on government agency
mortgage-backed securities 243 282 267
Dividends on Federal Home Loan
Bank stock 11 11 13
Total interest and dividends 2,549 2,484 2,218
Interest expense:
Deposits 1,359 1,295 1,194
Escrows/borrowed funds 5 5 7
Total interest expense 1,364 1,300 1,201
Net interest income 1,185 1,184 1,017
Provision for loan losses 18 18 18
Net interest income after provision
for loan losses 1,167 1,166 999
Noninterest income:
Other fees and service charges 5 4 4
Gain on sale of securities
available for sale 47 8 -
Gain on call of securities
held to maturity 8 10 -
Gain on sale of fixed assets - 27 -
Gain on sale of mortgage loans 3 - 27
Deposit account fees and service
charges 10 9 9
Rental income 9 11 26
Other income 3 8 12
Total noninterest income 85 77 78
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
<PAGE>3
<TABLE>
FIRST OZAUKEE CAPITAL CORP.
CONSOLIDATED STATEMENT OF INCOME
<CAPTION>
Years Ended September 30,
<S> 1996 1995 1994
General and administrative expenses: <C> <C> <C>
Compensation and benefits 708 441 388
Occupancy and insurance 160 169 175
Advertising and promotional 10 25 25
Federal insurance premiums 67 68 74
SAIF special assessment 178 - -
Stationery, communications and other
operating expenses 119 94 86
Directors' fees 25 24 22
Expenses of directors, officers and
employees 8 9 9
Data processing fees 99 93 95
Legal, audit, examination and
accounting fees 231 147 28
Environmental remediation expenses 9 - -
Total general and
administrative expenses 1,614 1,070 902
Income (loss) before income taxes (362) 173 175
Income taxes:
Current (1) 10 62
Deferred (124) 54 (18)
Total income tax expense (benefit) (125) 64 44
Net income (loss) $ (237) $ 109 $ 131
Earnings (loss) per share $ (0.40) $ 0.19 $ N/A
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
<PAGE>4
<TABLE>
FIRST OZAUKEE CAPITAL CORP.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<CAPTION>
Unrealized
Gains
(Losses) on
Shares Available-
of Additional Unearned Unearned For-Sale
Common Common Paid-In ESOP BIP Securities, Retained
Stock Stock Capital Compen- Compen- Net Earnings Total
(In thousands, except shares of common stock)
<S> <C> <C> <C> <C> <C> <C> (In thousands)
<S> <C> <C>
Cash Flows from Investing Activities:
Purchase stock of subsidiary - (1,928)
Purchase of investment securities held-to-
maturity (1,500) (2,490)
Proceeds of called investment securities
held-to-maturity 1,508 500
Payment on ESOP loan/loan to ESOP 17 (241)
Net cash used by investing activities 25 (4,159)
Cash Flows from Financing Activities:
Net proceeds from sale of stock - 4,338
Net cash provided by financing
activities - 4,338
Net increase in cash and cash equivalents 50 114
Cash and cash equivalents at beginning 114 -
Cash and cash equivalents at end $ 164 $ 114
</TABLE>
NOTE 19 QUARTERLY CONSOLIDATED FINANCIAL INFORMATION
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended
Dec. 31, March 31, June 30, Sept. 30,
1995 1996 1996 1996
(In thousands except per share amounts)
<S> <C> <C> <C> <C>
Interest and dividend income $ 641 $ 622 $ 647 $ 639
Interest expense 352 344 352 316
Net interest income 289 278 295 323
Provision for loan losses 5 4 5 4
Net interest income after
provision for loan losses 284 274 290 319
Non-interest income 32 24 15 14
Non-interest expense 380 401 295 538
Income (loss) before income taxes (64) (103) 10 (205)
Income taxes (28) (11) (3) (83)
Net income (loss) $ (36) $ (92) $ 13 $ (122)
</TABLE>
<PAGE>36
<TABLE>
<S>
The following schedule is a summary of earnings per share and market information
during the year ended September 30, 1996. No dividends were declared on the
shares of common stock during the year ended September 30, 1996.
<S>
</TABLE>
<TABLE>
<CAPTION>
Dec. 31, March 31, June 30, Sept. 30,
1995 1996 1996 1996
<S> <C> <C> <C> <C>
Earnings per share $ (0.06) $ (0.15) $ 0.02 $ (0.21)
Market information
Trading range
High 13-3/4 15 15 15-1/2
Low 11-5/8 12-1/2 14 13-3/4
Close 12-1/4 15 14-1/4 14-7/16
<PAGE>37
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 9
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> SEP-30-1996
<PERIOD-END> SEP-30-1996
<CASH> 526
<INT-BEARING-DEPOSITS> 199
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 9857
<INVESTMENTS-CARRYING> 5718
<INVESTMENTS-MARKET> 5574
<LOANS> 20062
<ALLOWANCE> 134
<TOTAL-ASSETS> 34048
<DEPOSITS> 24962
<SHORT-TERM> 0
<LIABILITIES-OTHER> 900
<LONG-TERM> 0
0
0
<COMMON> 627
<OTHER-SE> 7559
<TOTAL-LIABILITIES-AND-EQUITY> 34048
<INTEREST-LOAN> 1530
<INTEREST-INVEST> 1019
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 2549
<INTEREST-DEPOSIT> 1359
<INTEREST-EXPENSE> 1364
<INTEREST-INCOME-NET> 1185
<LOAN-LOSSES> 18
<SECURITIES-GAINS> 55
<EXPENSE-OTHER> 1614
<INCOME-PRETAX> (362)
<INCOME-PRE-EXTRAORDINARY> (237)
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (237)
<EPS-PRIMARY> (.40)
<EPS-DILUTED> (.40)
<YIELD-ACTUAL> 3.34
<LOANS-NON> 100
<LOANS-PAST> 100
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 116
<CHARGE-OFFS> 0
<RECOVERIES> 0
<ALLOWANCE-CLOSE> 134
<ALLOWANCE-DOMESTIC> 134
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
