SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
(Mark One)
x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the fiscal year ended June 30, 1997
TRANSITIONAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _____________ to _______________
Commission File No. 0-25700
QCF BANCORP, INC.
(Name of small business issuer in its charter)
Minnesota 41-1796789
(State or other jurisdiction (I.R.S. employer
of incorporation or organization) identification no.)
501 Chestnut Street, Virginia, Minnesota 55792
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (218) 741-2040
Securities registered pursuant to Section 12(b) of the Act:
Not Applicable
Securities registered pursuant to Section 12(g) of the Act:
Common stock, par value $.01 per share
(Title of Class)
Check whether the issuer (1) has filed all reports required by Section 13 or
15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or
such shorter period that the registrant was required to file such reports) and
(2) has been subject to such filing requirements for the past 90 days. Yes X No
Check if there is no disclosure of delinquent filers pursuant to Item 405 of
Regulation S-B 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 [X]
State issuer's revenues for it's most recent fiscal year: $11,404,000.
As of August 25, 1997, the aggregate market value of the 432,696 shares of
Common Stock of the registrant issued and outstanding held by non-affiliates on
such date was approximately $11,250,096 based on the closing sale price of
$26.00 per share of the registrant's Common Stock on August 29, 1997 as listed
on the National Association of Securities Dealers Automated Quotation National
Market System. For purposes of this calculation, it is assumed that directors,
officers and beneficial owners of more than 5% of the registrant's outstanding
voting stock are affiliates.
Number of shares of Common Stock outstanding as of August 25, 1997: 1,426,200.
DOCUMENTS INCORPORATED BY REFERENCE
The following lists the documents incorporated by reference and the Part of the
Form 10-KSB into which the document is incorporated:
1. Portions of the Annual Report to Stockholders for the fiscal year ended
June 30, 1997.(Parts I, II and IV)
2. Portions of Proxy Statement for 1997 Annual Meeting of Stockholders(Part III)
Transitional Small Business Disclosure Format (Check one):Yes No X
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PART I
Item 1. Description of Business
General
QCF Bancorp, Inc. QCF Bancorp, Inc. (the "Company") was incorporated under
the laws of the State of Minnesota in November 1994 at the direction of the
Board of Directors of Queen City Federal Savings Bank (the "Bank") for the
purpose of serving as the holding company of the Bank upon the acquisition of
all of the capital stock issued by the Bank upon its conversion from the mutual
to the stock form of ownership (the "Conversion"). Prior to the Conversion, the
Company did not engage in any material operations. Currently, the Company's
principal business is the business of the Bank. The Company has no significant
assets other than the outstanding capital stock of the Bank, $10.0 million of
investment securities and a note receivable from the Company's Employee Stock
Ownership Plan (the "ESOP"). At June 30, 1997, the Company had total assets of
$155.2 million, deposits of $103.7 million and stockholders' equity of $27.4
million.
The Company's executive offices are located at 501 Chestnut Street,
Virginia, Minnesota 55792, and its main telephone number is (218) 741-2040.
Queen City Federal Savings Bank. The Bank is a federal savings bank
operating through three offices serving north central St. Louis County in
Minnesota. The Bank was chartered in 1960 under the name "Queen City Federal
Savings and Loan Association of Virginia." In February 1961, the Bank shortened
its name to "Queen City Federal Savings and Loan Association." In 1994, the Bank
amended its charter to become a federal mutual savings bank and adopted its
current name. On March 31, 1995, the Bank consummated its conversion to the
stock form of ownership as a wholly owned subsidiary of the Company. The Bank is
a member of the Federal Home Loan Bank ("FHLB") System, and its deposits are
insured up to applicable limits by the Federal Deposit Insurance Corporation
("FDIC") under the Savings Association Insurance Fund ("SAIF").
The Bank's principal business consists of attracting deposits from the
general public and investing those funds primarily in investment securities and
loans secured by first mortgages on owner-occupied, single-family residences in
the Bank's market area and consumer loans. The Bank also originates first
mortgage loans on multi-family and commercial real estate and commercial loans.
The Bank derives its income principally from interest earned on investments
and loans and, to a lesser extent, loan servicing and other fees and gains on
the sale of investments. The Bank's principal expenses are interest expense on
deposits and borrowings and noninterest expense such as compensation and
employee benefits, office occupancy expenses and other miscellaneous expenses.
Funds for these activities are provided principally by deposits, repayments of
outstanding investments and loans and operating revenues.
The Bank's executive offices are located at 501 Chestnut Street, Virginia,
Minnesota 55792, and its main telephone number is (218) 741-2040.
Market Area
The Bank currently conducts its business through three banking offices
located in Virginia and Ely, which are located in north central St. Louis County
in northeastern Minnesota. The Bank's primary lending area includes the
communities located within a 30-mile radius of the Bank's main office in
Virginia.
The economy in the Bank's market area is dependent on the taconite mining
industry which experienced problems in the late 1970s and early 1980s due to
foreign competition. The Bank's market area experienced plant closings, layoffs
and extremely high levels of unemployment at that time. Since then, the taconite
mining industry has stabilized, and various processors and others continue to
operate taconite mines and plants in the area. However, any decline in that
industry could cause material losses to the Bank if local residents had to leave
the area to find employment and consequently defaulted on their debt
obligations. Due primarily to the economic factors discussed above, the Bank has
limited lending opportunities in its market area and does not anticipate that
lending opportunities will increase in the future because of the lack of growth
in the economy. As a result, the Bank has not been able to originate loans to
the extent desired and consequently has had to invest available funds in
investment securities. Investment securities typically earn lower yields than
single-family, residential mortgage loans, and the Bank's need to purchase
investment securities because of the lack of lending opportunities has caused
the Bank's interest rate spread to be below that of savings banks of comparable
size in more robust market areas. Because of the limited lending opportunities
in its market area, the net proceeds of the Conversion have been invested in
investment securities, making it difficult for the Bank to increase its interest
rate spread and further suppressing the return on equity.
According to the Virginia Bureau of Economic Development, the population of
St. Louis County, Minnesota has decreased gradually
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over the past several decades from 232,000 for the 1960 Census to 198,000
for the 1990 Census, and the population of Virginia has decreased from 14,000
for the 1960 Census to 9,000 for the 1990 Census.
Lending Activities
General. The Bank's gross loan portfolio totaled $62.6 million at June 30,
1997, representing 40.3% of total assets at that date. It is the Bank's policy
to concentrate its lending within its market area. At June 30, 1997, $31.9
million, or 50.9% of the gross loan portfolio, consisted of single-family,
residential mortgage loans. The Bank also originates consumer loans, which
primarily consist of automobile loans, recreation loan and home equity
loans. Consumer loans amounted to $18.3 million, or 29.2% of the Bank's gross
loan portfolio, at June 30, 1997. To a lesser extent, the Bank also originates
loans secured by multi-family and commercial properties and commercial loans.
Included in mortgage loans are loans which are insured by the Federal Housing
Administration ("FHA") or partially guaranteed by the Veteran's Administration
("VA").
The Bank has not actively pursued the origination of loans secured by
multi-family or commercial properties. Such loans have generally been made to
small businesses within the Bank's market area and are secured by warehouses,
retail stores or other commercial property. At June 30, 1997, multi-family and
commercial real estate loans amounted to $2.3 million, or 3.7% of the Bank's
gross loan portfolio. The Bank also engages in commercial lending within its
market area. At June 30, 1997, commercial loans amounted to $10.1 million or
16.1% of the Bank's gross loan portfolio.
Loan Portfolio Composition. The following table sets forth selected data
relating to the composition of the Bank's loan portfolio by type of loan at the
dates indicated. At June 30, 1997, the Bank had no concentration of loans
exceeding 10% of total loans other than as disclosed below.
At June 30,
1997 1996
Amount % Amount %
(Dollars in thousands)
Type of Loan:
Real estate loans:
Single-family residential............ $ 31,888 50.95% $ 28,208 52.48%
Multi-family residential............. 895 1.43 1,158 2.16
Nonresidential....................... 1,448 2.31 896 1.67
Commercial business loans............ 10,067 16.08 7,183 13.36
Consumer loans:......................
Automobile........................... 10,192 16.29 9,185 17.09
Recreational......................... 1,455 2.32 1,587 2.95
Savings account...................... 654 1.05 629 1.17
Second Mortgage ..................... 2,948 4.71 2,543 4.73
Other............................... 3,042 4.86 2,361 4.39
62,589 100.00% 53,750 100.00%
Less:
Loans in process.................... 40 25
Discounts........................... 33 33
Allowance for loan losses........... 1,314 1,331
Total...........................$ 61,202 $ 52,361
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The following table sets forth certain information at June 30, 1997
regarding the dollar amount of loans maturing in the Bank's portfolio based on
their contractual terms to maturity, including scheduled repayments of
principal. Demand loans, loans having no stated schedule of repayments and no
stated maturity, and overdrafts are reported as due in one year or less. The
table below does not include any estimate of prepayments which significantly
shorten the average life of all mortgage loans and may cause the Bank's
repayment experience to differ from that shown below.
<TABLE>
One to Five to More than
One Year or Less Five Years Ten Years 10 years Total
(In thousands)
Single-family residential
<S> <C> <C> <C> <C> <C>
real estate................... $ 111 $ 2,667 $ 8,350 $ 20,750 $ 31,888
Multi-family residential
and nonresidential
real estate................... 142 111 1,098 992 2,343
Consumer........................ 1,874 12,483 2,328 1606 18,291
Commercial business............. 0 2,080 3,078 3,449 10,067
Total...................... $3,587 $ 17,351 $ 14,854 $ 26,797 $62,589
</TABLE>
The following table sets forth at June 30, 1997, the dollar amount of all
loans due one year or more after June 30, 1997 which have predetermined interest
rates and have floating or adjustable interest rates.
Predetermined Floating or
Rate Adjustable Rates
(In thousands)
Single-family residential real estate......... $ 7,571 $ 24,716
Multi-family residential and
nonresidential real estate................... 1,965 236
Consumer...................................... 13,844 2,573
Commercial business........................... 4,500 4,107
Total........................................ $ 27,370 $ 31,632
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Scheduled contractual principal repayments of loans do not necessarily
reflect the actual life of such assets. The average life of long-term loans is
substantially less than their contractual terms, due to prepayments. In
addition, due-on- sale clauses on loans generally give the Bank the right to
declare a loan immediately due and payable in the event, among other things,
that the borrower sells the real property subject to the mortgage and the loan
is not repaid. The average life of mortgage loans tends to increase when current
mortgage loan market rates are substantially higher than rates on existing
mortgage loans and tends to decrease when current mortgage loan market rates are
substantially lower than rates on existing mortgage loans.
Originations, Purchases and Sales of Loans. The Bank's loan originations
are derived from a number of sources, including referrals by realtors,
depositors and borrowers, as well as walk-in customers. In addition, the Bank
originates a portion of its automobile loans on an indirect basis through
various automobile dealerships located in the Bank's market area. The Bank's
solicitation programs consist of advertisements in local media, in addition to
occasional participation in various community organizations and events. Real
estate loans are originated by the Bank's salaried loan officers. Loan
applications are accepted only at the Bank's main office and the Ely branch
office, with the exception of applications which are originated on an indirect
basis through various approved automobile dealerships in the Bank's market area.
In all cases, however, the Bank has final approval of the application.
In the early 1980's, the Bank adopted a policy of selling all fixed-rate,
conventional single-family mortgage loans in the secondary market to remove any
interest rate risk which would result from holding the loans in portfolio. Such
loans are sold with servicing released. Management intends to continue to
originate fixed-rate loans and to sell in the secondary market all such loans
with terms in excess of 15 years or which are insured by the FHA or guaranteed
by the VA in the secondary market.
Loan Underwriting Policies. The Bank's lending activities are subject to
the Bank's written, non-discriminatory underwriting standards and to loan
origination procedures prescribed by the Bank's Board of Directors and its
management. Detailed loan applications are obtained to determine the borrower's
ability to repay, and the more significant items on these applications are
verified through the use of credit reports, financial statements and
confirmations. Property valuations, when required by the Bank, are performed by
appraisers approved by the Bank's Board of Directors. Individual officers of the
Bank have been granted authority by the Board of Directors to approve loans up
to varying specified dollar amounts, depending upon the type of loan. Loans in
excess of $250,000 must be approved by a committee of the Board of Directors.
Applications for fixed-rate, single-family real estate loans are
underwritten and closed in accordance with the standards of FHLMC and FNMA.
Adjustable-rate loans originated by the Bank for its portfolio are underwritten
and closed based on the Bank's own loan guidelines, which may exceed FHLMC and
FNMA standards. The Bank's loans are secured by a variety of properties in its
market area. Included in its portfolio are loans secured by properties in rural
areas that may not conform to secondary market standards and properties that
serve as second or vacation homes. Generally, the Bank compensates for the added
risk of these loans through its pricing mechanism.
The Bank is permitted to lend up to 100% of the appraised value of the real
property securing a mortgage loan. However, if the amount of a residential loan
originated or refinanced exceeds 80% of the appraised value, the Bank's policy
is to obtain private mortgage insurance at the borrower's expense on that
portion of the principal amount of the loan that exceeds 80% of the appraised
value of the property. The Bank will make a single-family residential mortgage
loan with up to a 95% loan-to-value ratio if the required private mortgage
insurance is obtained. The Bank generally limits the loan-to-value ratio on
commercial real estate mortgage loans to 80%. The federal banking agencies,
including the OTS, have adopted regulations that would establish loan-to-value
ratio requirements for specific categories of real estate loans. Management
believes that the Bank's current lending policies conform to the
regulations adopted by the OTS.
Under applicable law, with certain limited exceptions, loans and extensions
of credit by a savings institution to a person outstanding at one time shall not
exceed 15% of the association's unimpaired capital and surplus. Loans and
extensions of credit fully secured by readily marketable collateral may comprise
an additional 10% of unimpaired capital and surplus. Applicable law additionally
authorizes savings institutions to make loans to one borrower, for any purpose,
in an amount not to exceed $500,000 or in an amount not to exceed the lesser of
$30,000,000 or 30% of unimpaired capital and surplus to develop residential
housing, provided: (i) the purchase price of each single-family dwelling in the
development does not exceed $500,000; (ii) the savings institution is and
continues to be in compliance with its fully phased-in regulatory capital
requirements; (iii) the loans comply with applicable loan-to-value requirements;
(iv) the aggregate amount of loans made under this authority does not exceed
150% of unimpaired capital and surplus; and (v) the Director of OTS, by order,
permits the savings association to avail itself of this higher limit. Under
these limits, the Bank's loans to one borrower were limited to $2.5 million at
June 30, 1997. At that date, the Bank had no lending relationships in excess of
the OTS's loans-to-one-borrower limit. The Bank's five largest loans ranged from
$285,000 to $906,000. All of these loans were current as of June 30, 1997.
Interest rates charged by the Bank on mortgage loans are primarily
determined by competitive loan rates offered in its market area and the Bank's
yield objectives. Mortgage loan rates reflect factors such as prevailing market
interest rate levels, the supply of money available to the savings industry and
the demand for such loans. These factors are in turn affected by general
economic conditions, the
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monetary policies of the federal government, including the Federal Reserve
Board, the general supply of money in the economy, tax policies and governmental
budget matters.
Single-Family Residential Lending. The Bank historically has been and
continues to be an originator of loans secured by single-family residential
properties located in its market area. At June 30, 1997, approximately $31.9
million, or 50.9%, of the Bank's gross loan portfolio consisted of loans secured
by single-family residential properties.
The Bank began originating adjustable-rate residential mortgage loans in
1982. Since that time, substantially all single-family mortgage loans originated
by the Bank for retention in the Bank's portfolio have been adjustable-rate
loans with an initial fixed term of one or five years. After the initial term,
the rate adjustments on the Bank's adjustable- rate loans are indexed to the
Contract Interest Rate published by the Federal Housing Finance Board (the
"Contract Rate"). The interest rates on these mortgages are adjusted either once
a year or every five years, with a ceiling rate of 18.75%. The adjustable-rate
mortgage loans offered by the Bank do not provide for initial rates of interest
below the rates that would prevail when the index used for repricing is applied.
At June 30, 1997, the Bank's loan portfolio included $24.7 million in
adjustable-rate, single-family residential mortgage loans, which represented
39.5% of the Bank's gross loan portfolio.
The retention of adjustable-rate loans in the Bank's portfolio helps reduce
the Bank's exposure to increases in prevailing market interest rates. However,
there are unquantifiable credit risks resulting from potential increases in
costs to borrowers in the event of upward repricing of adjustable-rate loans. It
is possible that during periods of rising interest rates, the risk of default on
adjustable-rate loans may increase due to increases in interest costs to
borrowers. Further, although adjustable-rate loans allow the Bank to increase
the sensitivity of its interest-earning assets to changes in interest rates, the
extent of this interest sensitivity is limited by the initial fixed-rate period
before the first adjustment and the lifetime interest rate adjustment
limitations. Accordingly, there can be no assurance that yields on the Bank's
adjustable- rate loans will fully adjust to compensate for increases in the
Bank's cost of funds. Finally, adjustable-rate loans increase the Bank's
exposure to decreases in prevailing market interest rates, although decreases in
the Bank's cost of funds tend to offset this effect.
Multi-Family and Commercial Real Estate Lending. The Bank's multi-family
residential loan portfolio consists primarily of loans secured by small
apartment buildings with between five and 15 units, and the commercial real
estate loan portfolio includes loans to finance the acquisition of small office
buildings and warehouse space. Multi-family and commercial real estate loans
have terms of up to 20 years and are generally underwritten with loan-to-value
ratios of up to 80% of the lesser of the appraised value or the purchase price
of the property. Because of the inherently greater risk involved in this type of
lending, the Bank generally limits its multi-family and commercial real estate
lending to borrowers within its market area with which it has had substantial
experience. However, from time to time, the Bank reviews opportunities to
purchase multi-family and commercial real estate loans and occasionally
purchases such loans outside its market area.
Commercial Business Lending. The Bank's commercial lending activities are
directed to small Minnesota-based businesses. The Bank's commercial borrowers
consist primarily of manufacturing and distribution firms, retailers, and
professionals in health care, accounting and law. Generally, the Bank's
commercial business loans are secured by assets, which may include accounts
receivable, inventory, equipment and other business assets, and are guaranteed
by the principals of the borrowers. The Bank's commercial business loan
portfolio includes loans which may be at least partially secured by real estate
but for which the expected source of repayment for the loan is the cash flow
produced by the borrower's business. At June 30, 1997, the Bank's commercial
business loans totaled $10.1 million, or 16.1%, of the total loan portfolio.
The Bank underwrites its commercial business loans on the basis of the
borrower's cash flow and ability to service the debt from earnings rather than
on the basis of underlying collateral value, and seeks to structure such loans
to have more than one source of repayment. The borrower is required to provide
the Bank with sufficient information to allow the Bank to make its lending
determination. In most instances, this information consists of at least three
years of financial statements, a statement of projected cash flows, current
financial information on any guarantor and any additional information on the
collateral. For loans with maturities exceeding one year, the Bank requires that
borrowers and guarantors provide updated financial information at least annually
throughout the term of the loan.
The Bank's commercial business loans may be structured as term loans or as
lines of credit. Commercial term loans are generally made to finance the
purchase of assets and have maturities of five years or less. Commercial lines
of credit are typically for the purpose of providing working capital and are
usually approved with a six month term. The Bank also offers both commercial and
standby letters of credit for its commercial borrowers. Commercial letters of
credit are written for a maximum term of one year. The terms of standby letters
of credit generally do not exceed one year. The Bank's commercial business loans
generally have interest rates which float at, or at some margin over, the Bank's
reference rate.
Consumer Lending. The consumer loans originated by the Bank include
automobile loans, recreational loans, home equity loans, education loans and
loans secured by savings deposits. At June 30, 1997, the Bank's consumer loan
balance totaled $18.3 million, or 29.2%
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of its total loan portfolio.
The Bank's automobile loans are generally underwritten in amounts up to 80%
of the lesser of the purchase price or the retail value as published by the
National Automobile Dealers Association. The terms of the loan generally do not
exceed 60 months for new vehicles or 48 months for used vehicles. The Bank
requires that the vehicles be insured and the Bank be listed as loss payee on
the insurance policy. The Bank originates a portion of its automobile loans on
an indirect basis through various dealerships located in its market area. See "
- -- Originations, Purchases and Sales of Loans."
The Bank's recreational loans are loans to finance the purchase of boats,
snowmobiles, motorcycles and other recreational vehicles. The terms of such
loans generally do not exceed 60 months. At June 30, 1997, recreational loans
amounted to $1.5 million, or 2.3% of the Bank's total loan portfolio.
The Bank's second mortgage loans are made on the security of residential
real estate and generally do not exceed 80% of the estimated value of the
property, less the outstanding principal of the first mortgage, and have terms
of up to 15 years. Second mortgage loans are on an adjustable-rate basis at a
rate which generally is equal to the Contract Rate plus a margin of between .5%
and 1%. At June 30, 1997, second mortgage loans amounted to $3.0 million, or
4.9% of the Bank's total loan portfolio.
Other consumer loans primarily consist of loans for consumer purposes.
Consumer loans generally entail greater risk than do residential mortgage
loans, particularly in the case of consumer loans which are unsecured or secured
by rapidly depreciable assets such as automobiles. In such cases, any
repossessed collateral for a defaulted consumer loan may not provide an adequate
source of repayment of the outstanding loan balance as a result of the greater
likelihood of damage, loss or depreciation. The remaining deficiency often does
not warrant further substantial collection efforts against the borrower. In
addition, consumer loan collections are dependent on the borrower's continuing
financial stability, and thus are more likely to be adversely affected by job
loss, divorce, illness or personal bankruptcy. Furthermore, the application of
various federal and state laws, including federal and state bankruptcy and
insolvency laws, may limit the amount which can be recovered on such loans. Such
loans may also give rise to claims and defenses by a consumer loan borrower
against an assignee of such loans such as the Bank, and a borrower may be able
to assert against such assignee claims and defenses which it has against the
seller of the underlying collateral.
Nonperforming Loans and Other Problem Assets. It is management's policy to
continually monitor its loan portfolio to anticipate and address potential and
actual delinquencies. When a borrower fails to make a payment on a loan, the
Bank takes immediate steps to have the delinquency cured and the loan restored
to current status.
All loans generally are placed on nonaccrual status if the loan becomes
past due more than 90 days, or management concludes that payment in full is not
likely. At June 30, 1997, the Bank had no loans which were past due more than 90
days and still on accrual status. Consumer loans are generally charged off, or
any expected loss is reserved for, after they become more than 120 days past
due. All other loans are charged off when management concludes that they are
uncollectible. See Note 2 of Notes to Consolidated Financial Statements.
Real estate acquired by the Bank as a result of foreclosure is classified
as real estate acquired through foreclosure until such time as it is sold. When
such property is acquired, it is recorded at the lower of cost or its fair value
less estimated selling costs. Any required write-down of the loan to its fair
value less estimated selling costs upon foreclosure is charged against the
allowance for loan losses. See Note 2 of Notes to Consolidated Financial
Statements.
The following table sets forth information with respect to the Bank's
nonperforming assets at the dates indicated.
At June 30,
1997 1996
(Dollars in thousands)
Loans accounted for on a non-accrual basis: (1)
Real estate:
Residential............................... $ 171 $ 95
Commercial................................ -- --
Commercial business.......................... 20 122
Consumer..................................... 34 80
Total..................................... $ 225 $ 297
Percentage of total loans...................... .36% .55%
Other nonperforming assets (2)................. $ 38 $ 6
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____________
(1) Nonaccrual status denotes loans on which, in the opinion of management, the
collection of additional interest is unlikely. Payments received on a nonaccrual
loan are either applied to the outstanding principal balance or recorded as
interest income, depending on assessment of the collectibility of the loan.
(2) Other nonperforming assets represents property acquired by the Bank through
foreclosure or repossession or accounted for as a foreclosure in-substance. This
property is carried at the lower of its fair value less estimated selling costs
or the principal balance of the related loan, whichever is lower.
During the year ended June 30, 1997, gross interest income of $18,000 would
have been recorded on loans accounted for on a nonaccrual basis if the loans had
been current throughout the year. Interest on such loans included in income
during such year amounted to $12,000, for the year ended June 30, 1997. At June
30, 1997, the Bank had no restructured loans.
At June 30, 1997, nonaccrual loans consisted of six mortgage loans secured
by residential properties, one commercial business loan, and six consumer loans.
June 30, 1997, the Bank had no loans modified in troubled debt
restructurings, and there were no loans which are not currently classified as
nonaccrual, 90 days past due or restructured but where known information about
possible credit problems of borrowers caused management to have serious concerns
as to the ability of the borrowers to comply with present loan repayment terms
and may result in disclosure as nonaccrual, 90 days past due or restructured.
Federal regulations require savings institutions to classify their assets
on the basis of quality on a regular basis. An asset meeting one of the
classification definitions set forth below may be classified and still be a
performing loan. An asset is classified as substandard if it is determined to be
inadequately protected by the current net worth and paying capacity of the
obligor or of the collateral pledged, if any. An asset is classified as doubtful
if full collection is highly questionable or improbable. An asset is classified
as loss if it is considered uncollectible, even if a partial recovery could be
expected in the future. The regulations also provide for a special mention
designation, described as assets which do not currently expose a savings
institution to a sufficient degree of risk to warrant classification but do
possess credit deficiencies or potential weaknesses deserving management's close
attention. Such assets designated as special mention may include nonperforming
loans consistent with the above definition. Assets classified as substandard or
doubtful require a savings institution to establish general allowances for loan
losses. If an asset or portion thereof is classified loss, a savings institution
must either establish a specific allowance for loss in the amount of the portion
of the asset classified loss, or charge off such amount. Federal examiners may
disagree with a savings institution's classifications. If a savings institution
does not agree with an examiner's classification of an asset, it may appeal this
determination to the OTS Regional Director. The Bank regularly reviews its
assets to determine whether any assets require classification or
re-classification. At June 30, 1997, the Bank had no assets classified as loss
or doubtful and $153,000 of assets classified as substandard, all of which were
included in nonaccrual loans. The assets classified as substandard consisted of
one consumer loan, one mortgage loan and one commercial loan. At June 30, 1997,
assets designated as special mention totaled $110,000 and consisted of seven
loans secured by residential property and seven consumer loans, all but four of
which were included in nonaccrual loans.
Allowance for Loan Losses. In originating loans, the Bank recognizes that
credit losses will be experienced and that the risk of loss will vary with,
among other things, the type of loan being made, the creditworthiness of the
borrower over the term of the loan, general economic conditions and, in the case
of a secured loan, the quality of the security for the loan. It is management's
policy to maintain an adequate allowance for loan losses based on, among other
things, the Bank's and the industry's historical loan loss experience,
evaluation of economic conditions, regular reviews of delinquencies and loan
portfolio quality and evolving standards imposed by federal bank examiners. The
Bank increases its allowance for loan losses by charging provisions for possible
loan losses against the Bank's income.
Management will continue to actively monitor the Bank's asset quality and
allowance for loan losses. Management will charge off loans and properties
acquired in settlement of loans against the allowances for losses on such loans
and such properties when appropriate and will provide specific loss allowances
when necessary. Although management believes it uses the best information
available to make determinations with respect to the allowances for losses,
future adjustments may be necessary if economic conditions differ substantially
from the economic conditions in the assumptions used in making the initial
determinations.
The Bank's methodology for establishing the allowance for losses takes into
consideration probable losses that have been identified in connection with
specific assets as well as losses that have not been identified but can be
expected to occur. Management conducts regular reviews of the Bank's assets and
evaluates the need to establish allowances on the basis of this review.
Allowances are established by the Board of Directors on a quarterly basis based
on an assessment of risk in the Bank's assets taking into consideration the
composition and quality of the portfolio, delinquency trends, current charge-off
and loss experience, loan concentrations, the state of the real estate market,
regulatory reviews conducted in the regulatory examination process and economic
conditions generally. Specific reserves will be provided for individual assets,
or portions of assets, when ultimate collection is considered improbable by
management based on the current payment status of the assets and the fair value
of the security. At the date of foreclosure or other repossession or at the date
the Bank determines a
7
<PAGE>
property is an "in-substance foreclosed" property, the Bank would transfer the
property to real estate acquired in settlement of loans at the lower of cost or
fair value less estimated selling costs. Any portion of the outstanding loan
balance in excess of fair value less estimated selling costs would be charged
off against the allowance for loan losses. If, upon ultimate disposition of the
property, net sales proceeds exceed the net carrying value of the property, a
gain on sale of real estate would be recorded.
The level of the allowance for loan losses is recommended by management and
reviewed and approved by the Board of Directors on at least a quarterly basis
based on an assessment of risk in the Bank's loan portfolio as a whole taking
into consideration the composition and quality of the portfolio, delinquency
trends, current charge-off and loss experience, the state of the real estate
market and economic conditions generally. Additional provisions for losses on
loans are made in order to bring the allowance to a level deemed adequate.
In December 1993, the banking regulatory agencies, including the OTS,
adopted a policy statement regarding maintenance of an adequate allowance for
loan and lease losses and an effective loan review system. This policy includes
an arithmetic formula for checking the reasonableness of an institution's
allowance for loan loss estimate compared to the average loss experience of the
industry as a whole. Examiners will review an institution's allowance for loan
losses and compare it against the sum of: (I) 50% of the portfolio that is
classified doubtful; (ii) 15% of the portfolio that is classified as
substandard; and (iii) for the portions of the portfolio that have not been
classified (including those loans designated as special mention), estimated
credit losses over the upcoming 12 months given the facts and circumstances as
of the evaluation date. This amount is considered neither a "floor" nor a "safe
harbor" of the level of allowance for loan losses an institution should
maintain, but examiners will view a shortfall relative to the amount as an
indication that they should review management's policy on allocating these
allowances to determine whether it is reasonable based on all relevant factors.
The following table sets forth an analysis of the Bank's allowance for loan
losses for the periods indicated.
Year Ended June 30,
1997 1996
(Dollars in thousands)
Balance at beginning of year $ 1,331 $ 1,375
Consumer loan charge-offs 44 54
Consumer loan recoveries 27 10
Net loan charge-offs 17 44
Provision for loan losses -- --
Balance at end of year $ 1,314 $ 1,331
Ratio of net charge-offs to average loans
outstanding, net during the year .03% .09%
The following table allocates the allowance for loan losses by asset
category at the dates indicated. The allocation of the allowance to each
category is not necessarily indicative of future losses and does not restrict
the use of the allowance to absorb losses in any category.
<TABLE>
June 30
1997 1996
Percent of Percent of
Loans in Each Loans in Each
Category to Category to
Amount Total Loans Amount Total Loans
(Dollars in thousands)
<S> <C> <C> <C> <C>
Real estate 360 54.69% $ 498 56.31%
Commercial business.......................... 379 16.08 287 13.36
Consumer..................................... 575 29.23 546 30.33
Total allowance for loan losses $ 1,314 100.00% $ 1,331 100.00%
</TABLE>
8
<PAGE>
Investment Activities
The Bank is permitted under federal law to make certain investments,
including investments in securities issued by various federal agencies and state
and municipal governments, deposits at the FHLB of Des Moines, certificates of
deposit in federally insured institutions, certain bankers' acceptances and
federal funds. The Bank may also invest, subject to certain limitations, in
commercial paper having one of the two highest investment ratings of a
nationally recognized credit rating agency, and certain other types of corporate
debt securities and mutual funds. Federal regulations require the Bank to
maintain an investment in FHLB of Des Moines stock and a minimum amount of
liquid assets which may be invested in cash and specified securities. The Bank
is also permitted to invest in mortgage-related securities. From time to time,
the OTS adjusts the percentage of liquid assets which savings associations are
required to maintain. For additional information, see " -- Regulation --
Regulation of the Bank -- Liquidity Requirements."
The Bank makes investments in order to maintain the levels of liquid assets
required by regulatory authorities and manage cash flow, diversify its assets,
obtain yield and to satisfy certain requirements for favorable tax treatment.
The investment activities of the Bank consist primarily of investments in
mortgage-backed and related securities and other investment securities,
consisting primarily of securities issued or guaranteed by the U.S. government
or agencies thereof. Typical investments include federally sponsored agency
mortgage pass-through and federally sponsored agency and mortgage-related
securities. Investment and aggregate investment limitations and credit quality
parameters of each class of investment are prescribed in the Bank's investment
policy. The Bank performs analyses on mortgage related securities prior to
purchase and on an ongoing basis to determine the impact on earnings and market
value under various interest rate and prepayment conditions. Under the Bank's
current investment policy, securities purchases must be approved by the Bank's
Treasurer. The Board of Directors reviews all securities purchased on a monthly
basis.
The Bank adopted SFAS No. 115 as of July 1, 1994. Securities designated as
"held to maturity" are those assets which the Bank has the ability and intent to
hold to maturity. Upon acquisition, securities are classified as to the Bank's
intent and a sale would only be effected due to deteriorating investment
quality. The investment portfolio is not used for speculative purposes and is
carried at amortized cost. In the event the Bank sells securities from this
portfolio for other than credit quality reasons, all securities within the
investment portfolio with matching characteristics may be reclassified as assets
available for sale. Securities designated as "available for sale" are those
assets which the Bank may not hold to maturity and thus are carried at market
value with unrealized gains or losses, net of tax effect, recognized in retained
earnings. At June 30, 1997, investment securities with an aggregate amortized
cost of $25.4 million and an aggregate market value of $25.0 million were
included in the portfolio of securities available for sale. The aggregate impact
on retained earnings was an after-tax decrease of $223,000 as of June 30, 1997.
The following table sets forth the carrying value of the Bank's investment
portfolio at the dates indicated. At June 30, 1997 1996
(Dollars in thousands)
Securities available for sale:
U.S. government and agency securities. $ 7,916 $12,792
Corporate obligations. . . . . . . . . . . . 2,431 4,964
Collateralized mortgage obligations . . . . . . . 14,638 16,466
Securities held to maturity:
U.S. government and agency securities. . . . .. . 26,414 21,314
Corporate obligations. . . . . . . . . . . . . . 1,960 2,174
Collateralized mortgage obligations . . . . . . . 26,140 29,309
Mortgage-backed securities. . . . . . . . . . 3,599 4,164
Total investment securities . . . . . . . . . . $83,098 $89,183
The Bank invests in various types of liquid assets that are permissible
investments for federally chartered savings banks, including U.S. Treasury
obligations, securities of various federal agencies, certain certificates of
deposit of insured banks and savings institutions and federal funds. Subject to
various restrictions applicable to all federally chartered savings banks, the
Bank also invests its assets in investment grade corporate debt securities.
Mortgage-Related Securities. CMOs and REMICs are typically issued by a
special purpose entity, which may be organized in a variety of legal forms, such
as a trust, a corporation or a partnership. The entity aggregates pools of
pass-through securities, which are used to collateralize the mortgage-related
securities. Once combined, the cash flows can be divided into "tranches" or
"classes" of individual securities, thereby creating more predictable average
lives for each security than the underlying pass-through pools. Accordingly,
under this security structure, all principal pay downs from the various mortgage
pools are allocated to a mortgage-related securities' class or classes
structured to have priority until it has been paid off. These securities
generally have fixed interest rates, and, as a result, changes in interest rates
generally would affect the market value and possibly the prepayment rates of
such securities.
9
<PAGE>
Some mortgage-related securities instruments are like traditional debt
instruments due to their stated principal amounts and traditionally defined
interest rate terms. Purchasers of certain other mortgage-related securities
instruments are entitled to the excess, if any, of the issuer's cash inflows.
These mortgage-related securities instruments may include instruments designated
as residual interest and are riskier in that they could result in the loss of a
portion of the original investment. Cash flows from residual interests are very
sensitive to prepayments and, thus, contain a high degree of interest rate risk.
The Bank does not purchase residual interests in mortgage-related securities.
At June 30, 1997, the Bank had $40.8 million in CMOs, which amounted to
26.3% of total assets. As of June 30, 1997, the securities in the Bank's private
mortgage-backed securities portfolio were rated AAA by at least one nationally
recognized investment rating service.
Prepayments in the Bank's mortgage-related securities portfolio may be
affected by declining and rising interest rate environments. In a low and
falling interest rate environment, prepayments would be expected to increase. In
such an event, the Bank's fixed-rate CMO/REMICs purchased at a premium price
could result in actual yields to the Bank that are lower than anticipated
yields. The Bank's floating rate CMO/REMICs would be expected to generate lower
yields as a result of the effect of falling interest rates on the indexes for
determining payment of interest. Additionally, the increased principal payments
received may be subject to reinvestment at lower rates. Conversely, in a period
of rising rates, prepayments would be expected to decrease, which would make
less principal available for reinvestment at higher rates. In a rising rate
environment, floating rate instruments would generate higher yields to the
extent that the indexes for determining payment of interest did not exceed the
life-time interest rate caps. Such prepayment may subject the Bank's CMO/REMICs
to yield and price volatility.
Mortgage-Backed Securities. Mortgage-backed securities represent a
participation interest in a pool of single- family or multi-family mortgages,
the principal and interest payments on which are passed from the mortgage
originators through intermediaries that pool and repackage the participation
interest in the form of securities to investors such as the Bank. Such
intermediaries may include quasi-governmental agencies such as FHLMC, FNMA and
GNMA which guarantee the payment of principal and interest to investors.
Mortgage-backed securities generally increase the quality of the Bank's assets
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.
Mortgage-backed securities typically are issued with stated principal
amounts and the securities are backed by pools of mortgages that have loans with
interest rates that are within a range and have similar maturities. The
underlying pool of mortgages can be composed of either fixed-rate or
adjustable-rate mortgage loans. Mortgage-backed securities generally are
referred to as mortgage participation certificates or pass-through certificates.
As a result, the interest rate risk characteristics of the underlying pool of
mortgages, 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 mortgages.
The actual maturity of a mortgage-backed security varies, depending on when
the mortgagors prepay or repay the underlying mortgages. Prepayments of the
underlying mortgages 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 accredited 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 mortgages depend on many factors, including the type of mortgage, the
coupon rate, the age of the mortgages, the geographical location of the
underlying real estate collateralizing the mortgages and general levels of
market interest rates. The difference between the interest rates on the
underlying mortgages 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, and, conversely, during periods
of rising mortgage interest rates, prepayments generally decrease. If the coupon
rate of the underlying mortgage significantly exceeds the prevailing market
interest rates offered for mortgage loans, refinancing generally increases and
accelerates the prepayment of the underlying mortgages. Prepayment experience is
more difficult to estimate for adjustable-rate mortgage-backed securities.
The Bank's mortgage-backed securities portfolio consists primarily of
seasoned fixed-rate and adjustable rate mortgage-backed and mortgage-related
securities. At June 30, 1997, the Bank had $3.6 million in mortgage-backed
securities (2.3% of total assets) insured or guaranteed by FNMA, FHLMC or GNMA.
10
<PAGE>
The following table sets forth information regarding the expected
maturities, market value and weighted average yields for the Bank's investment
securities at June 30, 1997.
<TABLE>
One Year or Less One to Five Years Five to Ten Years More than Ten Years Total Investment Portfolio
Carrying Average Carrying Average Carrying Average Carrying Average Carrying Market Average
Value Yield Value Yield Value Yield Value Yield Value Value Yield
(Dollars in thousands)
Securities available for sale:
U.S. government and
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
agency securities...... $ 5,966 4.80% $ 1,950 5.23% $ -- -- % $ -- -- % $ 7,916 $ 7,916 4.915%
Corporate obligations.... 502 9.62 646 7.50 -- -- 1,283 7.75 2,431 2,431 8.06
Collateralized mortgage
obligations............ 6,278 5.79 8,360 6.01 -- -- -- -- 14,638 14,638 5.91
Securities held to maturity:
U.S. government and agency
securities.............. 4,067 6.49 19,356 6.52 2,991 6.85 -- -- 26,414 26,448 6.55
Corporate obligations.... -- -- 1,960 7.50 -- -- -- -- 1,960 2,008 7.50
Collateralized mortgage
obligations............ 5,004 6.82 21,136 6.96 -- -- -- -- 26,140 26,268 6.94
Mortgage-backed
securities............. 956 7.54 1,822 7.48 821 8.09 -- -- 3,599 3,611 7.63
Total................ $ 22,773 $ 55,230 $ 3,812 $ 1,283 $ 83,098 $83,320
</TABLE>
For additional information, see Notes 3 and 4 of Notes to Consolidated
Financial Statements.
11
<PAGE>
The Bank is required to maintain average daily balances of liquid assets
(cash, deposits maintained pursuant to Federal Reserve Board requirements, time
and savings deposits in certain institutions, obligations of state and political
subdivisions thereof, shares in mutual funds with certain restricted investment
policies, highly rated corporate debt, and mortgage loans and mortgage-backed
securities with less than one year to maturity or subject to repurchase within
one year) equal to a monthly average of not less than a specified percentage
(currently 5%) of its net withdrawable savings deposits plus short-term
borrowings. Savings associations are also required to maintain average daily
balances of short- term liquid assets at a specified percentage (currently 1%)
of the total of their net withdrawable savings accounts and borrowings payable
in one year or less. Monetary penalties may be imposed for failure to meet
liquidity requirements. The Bank was in compliance with all liquidity
requirements throughout the year.
Deposit Activity and Other Sources of Funds
General. Deposits are the primary source of the Bank's funds for lending
and other investment activities and general operational purposes. In addition to
deposits, the Bank derives funds from loan principal repayments, maturities of
investment securities and interest payments. Loan repayments and interest
payments are a relatively stable source of funds, while deposit inflows and
outflows are significantly influenced by prevailing market interest rates and
money market conditions. Borrowings may be used to supplement the Bank's
available funds. The Bank obtains short-term borrowings through the sale of
securities under agreement to repurchase. In addition, the Bank has access to
borrow from the FHLB of Des Moines and the Federal Reserve Bank of Minneapolis.
Deposits. The Bank attracts deposits principally from within its market
area by offering a variety of deposit instruments, including checking accounts,
savings accounts, money market accounts, retirement savings accounts and
certificates of deposit which range in term from three to 120 months. Deposit
terms vary principally on the basis of the minimum balance required, the length
of time the funds must remain on deposit and the interest rate. Maturities,
terms, service fees and withdrawal penalties for its deposit accounts are
established by the Bank on a periodic basis. The Bank reviews its deposit mix
and pricing on an ongoing basis. In determining the characteristics of its
deposit accounts, the Bank considers the rates offered by competing
institutions, funds acquisition and liquidity requirements, growth goals, and
federal regulations The Bank does not accept brokered deposits.
The following table sets forth the average balances and interest rates
based on month-end balances for interest- bearing demand deposits and time
deposits as of the dates indicated.
Year Ended June 30,
1997 1996
Interest- Interest-
Bearing Bearing
Demand Time Demand Time
Deposits Deposits Deposits Deposits
(Dollars in thousands)
Average balance............$ 41,539 $ 52,008 $ 44,537 $ 52,208
Average rate.............. 2.26% 5.62% 2.28% 5.55%
The following table shows maturities for certificates of deposit of $100,00
or more at June 30, 1997.
Three months or less $ 0
Over three months to six months 243,698
Over six months to twelve months 321,561
Over twelve months 1,297,972
$ 1,863,231
12
<PAGE>
In the unlikely event the Bank is liquidated after the Conversion,
depositors will be entitled to full payment of their deposit accounts prior to
any payment being made to stockholder of the Bank, which is the Company.
Borrowings. Savings deposits historically have been the primary source of
funds for the Bank's lending, investment and general operating activities. The
Bank is authorized, however, to use advances from the FHLB of Des Moines to
supplement its supply of lendable funds and to meet deposit withdrawal
requirements. The FHLB of Des Moines functions as a central reserve bank
providing credit for savings institutions and certain other member financial
institutions. As a member of the FHLB system, the Bank is required to own stock
in the FHLB of Des Moines and is authorized to apply for advances. Advances are
made pursuant to several different programs, each of which has its own interest
rate and range of maturities. The Bank is also eligible to borrow from the
Federal Reserve Bank of Minneapolis. The Bank had $8.1 million in outstanding
borrowings from either the FHLB of Des Moines at June 30, 1997 and no
outstanding borrowings from the Federal Reserve.
From time to time the Bank borrows utilizing repurchase agreements issued
to high balance customers. The form of repurchase agreement used by the Bank
involves the sale of securities owned by the Bank with a commitment to
repurchase the same or substantially the same securities at a predetermined
price at a future date. The Bank utilizes the funds it receives from the
repurchase agreements to purchase investment securities with the same maturity
date as the repurchase agreements.
The following table sets forth certain information regarding the Bank's
short-term borrowings at the dates and for the periods indicated:
At or for the
Year Ended June 30
1997 1996
(Dollars in thousands)
Amounts outstanding at end of period....... $ 22,140 $ 29,264
Maximum amount of borrowings outstanding
at any month end......................... 22,140 29,264
Approximate average short-term borrowings outstanding 21,956 11,980
Average cost of borrowings (1)............... 3.68% 5.60%
(1) Based on month-end balances.
Subsidiary Activities
As a federally chartered savings bank, the Bank is permitted to invest an
amount equal to 2% of its assets in subsidiaries, with an additional investment
of 1% of assets where such investment serves primarily community, inner-city and
community development purposes. Under such limitations, as of June 30, 1997, the
Bank was authorized to invest up to approximately $4.3 million in the stock of
or loans to subsidiaries, including the additional 1% investment for community
inner-city and community development purposes. Institutions meeting their
applicable minimum regulatory capital requirements may invest up to 50% of their
regulatory capital in conforming first mortgage loans to subsidiaries in which
they own 10% or more of the capital stock.
The Bank has one wholly owned subsidiary: Queen City Service Corporation
("Queen City Service"). Queen City Service, a Minnesota corporation, currently
owns part of a commercial condominium building located in Ely, Minnesota that
houses the Bank's Ely branch. A portion of the property is also leased to three
tenants. Queen City Service is also engaged in the sale of tax deferred annuity
contracts and credit life and disability insurance. At June 30,
13
<PAGE>
1997 the Bank's total investment in Queen City Service was $67,000.
SAIF-insured savings institutions must give the FDIC and OTS 30 days' prior
notice before establishing or acquiring a new subsidiary, or commencing any new
activity through an existing subsidiary. Both the FDIC and OTS have authority to
order termination of subsidiary activities determined to pose a risk to the
safety or soundness of the institution. In addition, capital requirements
require savings institutions to deduct from capital the amount of their
investments in and extensions of credit to subsidiaries engaged in activities
not permissible to national banks in determining regulatory capital compliance.
The activities of Queen City Service are not permissible for national banks.
Competition
The Bank faces strong competition both in originating real estate and other
loans and in attracting deposits. The Bank competes for real estate and other
loans principally on the basis of interest rates and the loan fees it charges,
the types of loans it originates and the quality of services it provides to
borrowers. Its competition in originating real estate loans comes primarily from
other savings institutions, commercial banks and mortgage bankers making loans
secured by real estate located in the Bank's market area. Commercial banks,
credit unions and finance companies provide vigorous competition in consumer
lending. Competition may increase as a result of the continuing reduction of
restrictions on the interstate operations of financial institutions.
The Bank attracts all its deposits through its branch offices primarily
from the communities in which those offices are located. Consequently,
competition for deposits is principally from other savings institutions,
commercial banks, credit unions and brokers in these communities. The Bank
competes for deposits and loans by offering a variety of deposit accounts at
competitive rates, a wide array of loan products, convenient business hours and
branch locations, a commitment to outstanding customer service and a
well-trained staff. In addition, the Bank believes it has developed strong
relationships with local businesses, realtors, and the public in general.
Employees
As of June 30, 1997, the Bank had 25 full-time and 12 part-time employees,
none of whom was represented by a collective bargaining agreement.
Regulation
General. As a federally chartered savings bank, the Bank is subject to
extensive regulation by the OTS. The lending activities and other investments of
the Bank must comply with various federal regulatory requirements, and the OTS
periodically examines the Bank for compliance with various regulatory
requirements. The FDIC also has the authority to conduct special examinations.
The Bank must file reports with OTS describing its activities and financial
condition and is also subject to certain reserve requirements promulgated by the
Federal Reserve Board. This supervision and regulation is intended primarily for
the protection of depositors. Certain of these regulatory requirements are
referred to below or appear elsewhere herein.
Regulation of the Bank
Federal Home Loan Bank System. The Bank is a member of the FHLB System,
which consists of 12 district Federal Home Loan Banks subject to supervision and
regulation by the Federal Housing Finance Board ("FHFB"). The Federal Home Loan
Banks provide a central credit facility primarily for member institutions. As a
member of the FHLB of Des Moines, the Bank is required to acquire and hold
shares of capital stock in the FHLB of Des Moines in an amount at least equal to
1% of the aggregate unpaid principal of its home mortgage loans, home purchase
contracts, and similar
14
<PAGE>
obligations at the end of each year, or 1/20 of its advances (borrowings) from
the FHLB of Des Moines, whichever is greater. The Bank was in compliance with
this requirement with an investment in FHLB of Des Moines stock at June 30, 1997
of $554,000.
Qualified Thrift Lender Test. A savings institution that does not meet the
Qualified Thrift Lender ("QTL") test must either convert to a bank charter or
comply with the following restrictions on its operations: (I) the institution
may not engage in any new activity or make any new investment, directly or
indirectly, unless such activity or investment is permissible for a national
bank; (ii) the branching powers of the institution shall be restricted to those
of a national bank; (iii) the institution shall not be eligible to obtain any
advances from its FHLB; and (iv) payment of dividends by the institution shall
be subject to the rules regarding payment of dividends by a national bank. Upon
the expiration of three years from the date the institution ceases to be a QTL,
it must cease any activity and not retain any investment not permissible for a
national bank and immediately repay any outstanding FHLB advances (subject to
safety and soundness considerations).
A savings institution must maintain its status as a QTL on a monthly basis
in nine out of every 12 months. A savings institution that fails to maintain
Qualified Thrift Lender status will be permitted to requalify once, and if it
fails the QTL test a second time, it will become immediately subject to all
penalties as if all time limits on such penalties had expired. Failure to
qualify as a QTL results in a number of sanctions, including the imposition of
certain operating restrictions imposed on national banks and a restriction on
obtaining additional advances from the FHLB System. At June 30, 1997, the Bank
qualified as a QTL.
Regulatory Capital Requirements. Under OTS capital standards, savings
associations must maintain "tangible" capital equal to 1.5% of adjusted total
assets, "core" capital equal to 3% of adjusted total assets and a combination of
core and "supplementary" capital equal to 8% of "risk-weighted" assets. In
addition, the OTS has adopted regulations which impose certain restrictions on
savings associations that have a total risk-based capital ratio that is less
than 8%, a ratio of Tier 1 capital to risk-weighted assets of less than 4% or a
ratio of Tier 1 capital to adjusted total assets of less than 4% (or 3% if the
institution is rated Composite 1 under the OTS examination rating system). See
"-- Prompt Corrective Regulatory Action." The Bank is in compliance with all
currently applicable capital requirements.
In addition to requiring generally applicable capital standards for savings
institutions, the OTS is authorized to establish the minimum level of capital
for a savings institution at such amount or at such ratio of capital-to-assets
as the OTS determines to be necessary or appropriate for such institution in
light of the particular circumstances of the institution. The OTS may treat the
failure of any savings institution to maintain capital at or above such level as
an unsafe or unsound practice and may issue a directive requiring any savings
institution which fails to maintain capital at or above the minimum level
required by the OTS to submit and adhere to a plan for increasing capital. Such
an order may be enforced in the same manner as an order issued by the FDIC.
The table below provides information with respect to the Bank's compliance
with its regulatory capital requirements at June 30, 1997.
15
<PAGE>
Percent of
Amount Assets (1)
(Dollars in thousands)
Tangible capital . . . . . . . . . . . . . . . . . . $16,917 11.7%
Tangible capital requirement . . . . . . . . .. 2,172 1.5
Excess (deficit) . . . . . . . . . . . . . . . . .. $14,745 10.2%
Core capital (2) . . . . . . . . . . . . . . . . . . $16,917 1.7%
Core capital requirement . . . . . . . . . . . . 4,345 3.0
Excess (deficit) . . . . . . . . . . . . . . . . . . . $12,572 8.7%
Risk-based capital . . . . . . . . . . . . . . . . $17,727 27.6%
Risk-based capital requirement . . . . . . . 5,142 8.0
Excess (deficit) . . . . . . . . . . . . . . . . . . $12,585 19.6%
(1) Based on adjusted total assets for purposes of the tangible capital and core
capital requirements and risk-weighted assets for purpose of the risk-based
capital requirement.
(2) Reflects the capital requirement which the Bank must satisfy to avoid
regulatory restrictions that may be imposed pursuant to prompt corrective action
regulations.
16
<PAGE>
Prompt Corrective Regulatory Action. Under the Federal Deposit Insurance
Corporation Improvement Act of 1991 ("FDICIA"), the federal banking regulators
are required to take prompt corrective action if an insured depository
institution fails to satisfy certain minimum capital requirements. All
institutions, regardless of their capital levels, are restricted from making any
capital distribution or paying any management fees if the institution would
thereafter fail to satisfy the minimum levels for any of its capital
requirements. An institution that fails to meet the minimum level for any
relevant capital measure (an "undercapitalized institution") may be: (i) subject
to increased monitoring by the appropriate federal banking regulator; (ii)
required to submit an acceptable capital restoration plan within 45 days; (iii)
subject to asset growth limits; and (iv) required to obtain prior regulatory
approval for acquisitions, branching and new lines of businesses. The capital
restoration plan must include a guarantee by the institution's holding company
that the institution will comply with the plan until it has been adequately
capitalized on average for four consecutive quarters, under which the holding
company would be liable up to the lesser of 5% of the institution's total assets
or the amount necessary to bring the institution into capital compliance as of
the date it failed to comply with its capital restoration plan. A "significantly
undercapitalized" institution, as well as any undercapitalized institution that
did not submit an acceptable capital restoration plan, may be subject to
regulatory demands for recapitalization, broader application of restrictions on
transactions with affiliates, limitations on interest rates paid on deposits,
asset growth and other activities, possible replacement of directors and
officers, and restrictions on capital distributions by any bank holding company
controlling the institution. Any company controlling the institution could also
be required to divest the institution or the institution could be required to
divest subsidiaries.
The federal banking regulators will generally measure a depository
institution's capital adequacy on the basis of the institution's total
risk-based capital ratio (the ratio of its total capital to risk-weighted
assets), Tier 1 risk-based capital ratio (the ratio of its core capital to
risk-weighted assets) and leverage ratio (the ratio of its core capital to
adjusted total assets). Under the regulations, a savings 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: (i) a total risk-based
capital ratio of 10% or greater; (ii) a Tier 1 risk-based capital ratio of 6.0%
or greater; and (iii) a leverage ratio of 5.0% or greater. An "adequately
capitalized" savings institution is a savings institution that does not meet the
definition of well capitalized and has: (I) a total risk-based capital ratio of
8.0% or greater; (ii) a Tier 1 capital risk-based ratio of 4.0% or greater; and
(iii) a leverage ratio of 4.0% or greater (or 3.0% or greater if the savings
institution has a composite 1 CAMEL rating). An "undercapitalized institution"
is a savings institution that has (I) a total risk-based capital ratio less than
8.0%; or (ii) a Tier 1 risk-based capital ratio of less than 4.0%; or (iii) a
leverage ratio of less than 4.0% (or 3.0% if the institution has a composite 1
CAMEL rating). A "significantly undercapitalized" institution is defined as a
savings institution that has: (I) a total risk-based capital ratio of less than
6.0%; or (ii) a Tier 1 risk-based capital ratio of less than 3.0%; or (iii) a
leverage ratio of less than 3.0%. A "critically undercapitalized" savings
institution is defined as a savings institution that has a ratio of "tangible
equity" to total assets of less than 2.0%. Tangible equity is defined as core
capital plus cumulative perpetual preferred stock (and related surplus) less all
intangibles other than qualifying supervisory goodwill and certain purchased
mortgage servicing rights. Tier 1 capital is defined as 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 mortgage servicing rights and qualifying
supervisory goodwill eligible for inclusion in core capital under OTS
regulations and minus identified losses and investments in certain securities
subsidiaries. The OTS may reclassify a well capitalized savings institution as
adequately capitalized and may require an adequately capitalized or
undercapitalized institution to comply with the supervisory actions applicable
to institutions in the next lower capital category (but may not reclassify a
significantly undercapitalized institution as critically under- capitalized) if
the OTS determines, after notice and an opportunity for a hearing, that the
savings institution is in an unsafe or unsound condition or that the institution
has received and not corrected a less-than-satisfactory rating for any CAMEL
rating category. The Bank is classified as "well capitalized" under these
regulations.
Deposit Insurance. The Bank is required to pay assessments based on a
percent of its insured deposits to the FDIC for insurance of its deposits by the
SAIF. The SAIF assessment rate will be a rate determined by the FDIC to be
appropriate to maintain the reserve ratio of the SAIF to 1.25% of insured
deposits or such higher percentage as the FDIC
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determines to be appropriate.
Under the FDIC's risk-based deposit insurance 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 for 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 in 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 supervisory 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 currently ranges from 0.063% of deposits for well capitalized
institutions in Subgroup A to 0.333% of deposits for undercapitalized
institutions in Subgroup C.
The FDIC has adopted a regulation which provides that any insured
depository institution with a ratio of Tier 1 capital to total assets of less
than 2% will be deemed to be operating in an unsafe or unsound condition, which
would constitute grounds for the initiation of termination of deposit insurance
proceedings. The FDIC, however, would not initiate termination of insurance
proceedings if the depository institution has entered into and is in compliance
with a written agreement with its primary regulator, and the FDIC is a party to
the agreement, to increase its Tier 1 capital to such level as the FDIC deems
appropriate. Insured depository institutions with Tier 1 capital equal to or
greater than 2% of total assets may also be deemed to be operating in an unsafe
or unsound condition notwithstanding such capital level. The regulation further
provides that in considering applications that must be submitted to it by
savings associations, the FDIC will take into account whether the savings
association is meeting with the Tier 1 capital requirement for state non- member
banks of 4% of total assets for all but the most highly rated state non-member
banks.
Federal Reserve System. Pursuant to regulations of the Federal Reserve
Board, a thrift institution must maintain average daily reserves equal to 3% on
the first $49.3 million of transaction accounts, plus 10% on the remainder. This
percentage is subject to adjustment by the Federal Reserve Board. Because
required reserves must be maintained in the form of vault cash or in a non
interest-bearing account at a Federal Reserve Bank, the effect of the reserve
require ment is to reduce the amount of the institution's interest-earning
assets. As of June 30, 1997, the Bank met its reserve requirements.
Dividend Restrictions. Under OTS regulations, the Bank may not pay
dividends on its capital stock if its regulatory capital would thereby be
reduced below the amount then required for the liquidation account established
for the benefit of certain depositors of the Bank at the time of the Conversion.
In addition, savings institution subsidiaries of savings and loan holding
companies are required to give the OTS 30 days' prior notice of any proposed
declaration of dividends to the holding company.
Federal regulations impose additional limitations on the payment of
dividends and other capital distributions (including stock repurchases and cash
mergers) by the Bank. Under these regulations, a savings institution that,
immediately prior to, and on a pro forma basis after giving effect to, a
proposed capital distribution, has total capital (as defined by OTS regulation)
that is equal to or greater than the amount of its capital requirements (a "Tier
1 Association") is generally permitted, without OTS approval, to make capital
distributions during a calendar year in the amount equal to the greater of: (I)
75% of its net income for the previous four quarters; or (ii) up to 100% of its
net income to date during the calendar year plus an amount that would reduce by
one-half the amount by which its capital-to-assets ratio exceeded regulatory
requirements at the beginning of the calendar year. A savings institution with
total capital in excess of current minimum capital ratio requirements (a "Tier 2
Association") is permitted to make capital
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distributions without OTS approval of up to 75% of its net income for the
previous four quarters, less dividends already paid for such period. A savings
institution that fails to meet current minimum capital requirements (a "Tier 3
Association") is prohibited from making any capital distributions without the
prior approval of the OTS. A Tier 1 Association that has been notified by the
OTS that its is in need of more than normal supervision will be treated as
either a Tier 2 or Tier 3 Association. The Bank is a Tier 1 Association. Under
the OTS' prompt corrective action regulations, the Bank is also prohibited from
making any capital distributions if after making the distribution, the Bank
would have: (I) a total risk-based capital ratio of less than 8.0%; (ii) a Tier
1 risk-based capital ratio of less than 4.0%; or (iii) a leverage ratio of less
than 4.0%. The OTS, after consultation with the FDIC, however, may permit an
otherwise prohibited stock repurchase if made in connection with the issuance of
additional shares in an equivalent amount and the repurchase will reduce the
institution's financial obligations or otherwise improve the institution's
financial condition. See "-- Prompt Corrective Regulatory Action."
Furthermore, earnings of the Bank appropriated to bad debt reserves for
federal income tax purposes are not available for payment of cash dividends or
other distributions to the Company without payment of taxes at the then current
tax rate by the Bank on the amount of earnings removed from the reserves for
such distributions. See " -- Taxation." The Company intends to make full use of
this favorable tax treatment afforded to the Bank and the Company and does not
contemplate use of any post-Conversion earnings of the Bank in a manner which
would limit either institution's bad debt deduction or create federal tax
liabilities.
Transactions with Related Parties. Transactions between savings
institutions and any affiliate are governed by Sections 23A and 23B of the
Federal Reserve Act. An affiliate of a savings institution is any company or
entity which controls, is controlled by or is under common control with the
savings institution. In a holding company context, the parent holding company of
a savings institution (such as the Company) and any companies which are
controlled by such parent holding company are affiliates of the savings
institution. Generally, Sections 23A and 23B (I) limit the extent to which the
savings institution or its subsidiaries may engage in "covered transactions"
with any one affiliate to an amount equal to 10% of such institution's capital
stock and surplus, and contain an aggregate limit on all such transactions with
all affiliates to an amount equal to 20% of such capital stock and surplus and
(ii) require that all such transactions be on terms substantially the same, or
at least as favorable, to the institution or subsidiary as those provided to a
non-affiliate. The term "covered transaction" includes the making of loans,
purchase of assets, issuance of a guarantee and similar other types of
transactions. In addition to the restrictions imposed by Sections 23A and 23B,
no savings institution may (I) make a loan or otherwise extend credit to an
affiliate, except for any affiliate which engages only in activities which are
permissible for bank holding companies, or (ii) purchase or invest in any
stocks, bonds, debentures, notes or similar obligations of any affiliate, except
for affiliates which are subsidiaries of the savings institution.
Savings institutions are also subject to the restrictions contained in
Section 22(h) of the Federal Reserve Act on loans to executive officers,
directors and principal stockholders. Under Section 22(h), loans to a director,
executive officer and to a greater than 10% stockholder of a savings institution
and certain affiliated interests of such persons, may not exceed, together with
all other outstanding loans to such person and affiliated interests, the
institution's loans-to-one- borrower limit (generally equal to 15% of the
institution's unimpaired capital and surplus) and all loans to such persons may
not exceed the institution's unimpaired capital and unimpaired surplus. Section
22(h) also prohibits loans, above amounts prescribed by the appropriate federal
banking agency, to directors, executive officers and greater than 10%
stockholders of a savings institution, and their respective affiliates, unless
such loan is approved in advance by a majority of the board of directors of the
institution with any "interested" director not participating in the voting. The
Federal Reserve Board has prescribed the loan amount (which includes all other
outstanding loans to such person) as to which such prior board of director
approval is required as being the greater of $25,000 or 5% of capital and
surplus (up to $500,000). Further, Section 22(h) requires that loans to
directors, executive officers and principal stockholders be made on terms
substantially the same as offered in comparable transactions to other persons.
Section 22(h) also generally prohibits a depository institution from paying the
overdrafts of any of its executive officers or directors.
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Savings institutions are also subject to the requirements and restrictions
of Section 22(g) of the Federal Reserve Act on loans to executive officers and
the restrictions of 12 U.S.C. 1972 on certain tying arrangements and extensions
of credit by correspondent banks. Section 22(g) of the Federal Reserve Act
requires that loans to executive officers of depository institutions not be made
on terms more favorable than those afforded to other borrowers, requires
approval by the board of directors of a depository institution for extension of
credit to executive officers of the institution, and imposes reporting
requirements for and additional restrictions on the type, amount and terms of
credits to such officers. Section 1972 (I) prohibits a depository institution
from extending credit to or offering any other services, or fixing or varying
the consideration for such extension of credit or service, on the condition that
the customer obtain some additional service from the institution or certain of
its affiliates or not obtain services of a competitor of the institution,
subject to certain exceptions, and (ii) prohibits extensions of credit to
executive officers, directors, and greater than 10% stockholders of a depository
institution by any other institution which has a correspondent banking
relationship with the institution, unless such extension of credit is on
substantially the same terms as those prevailing at the time for comparable
transactions with other persons and does not involve more than the normal risk
of repayment or present other unfavorable features.
Safety and Soundness Standards. Under FDICIA, as amended by the Riegle
Community Development and Regulatory Improvement Act of 1994 (the "CDRI Act"),
each Federal banking agency is required to establish safety and soundness
standards for institutions under its authority. On July 10, 1995, the Federal
banking agencies, including the OTS, released Interagency Guidelines
Establishing Standards for Safety and Soundness and published a final rule
establishing deadlines for submission and review of safety and soundness
compliance plans. The final rule and the guidelines go into effect on August 9,
1995. The guidelines require savings institutions to maintain internal controls
and information systems and internal audit systems that are appropriate for the
size, nature and scope of the institution's business. The guidelines also
establish certain basic standards for loan documentation, credit underwriting,
interest rate risk exposure, and asset growth. The guidelines further provide
that savings institutions should maintain safeguards to prevent the payment of
compensation, fees and benefits that are excessive or that could lead to
material financial loss, and should take into account factors such as comparable
compensation practices at comparable institutions. If the OTS determines that a
savings institution is not in compliance with the safety and soundness
guidelines, it may require the institution to submit an acceptable plan to
achieve compliance with the guidelines. A savings institution must submit an
acceptable compliance plan to the OTS within 30 days of receipt of a request for
such a plan. Failure to submit or implement a compliance plan may subject the
institution to regulatory sanctions. Management believes that the Bank already
meets substantially all the standards adopted in the interagency guidelines, and
therefore does not believe that implementation of these regulatory standards
will materially affect the Bank's operations.
Additionally, under FDICIA, as amended by the CDRI Act, the Federal banking
agencies are required to establish standards relating to the asset quality and
earnings that the agencies determine to be appropriate. On July 10, 1995, the
federal banking agencies, including the OTS, issued proposed guidelines relating
to asset quality and earnings. Under the proposed guidelines, a savings
institution should maintain systems, commensurate with its size and the nature
and scope of its operations, to identify problem assets and prevent
deterioration in those assets as well as to evaluate and monitor earnings and
ensure that earnings are sufficient to maintain adequate capital and reserves.
Management believes that the asset quality and earnings standards, in the form
proposed by the banking agencies, would not have a material effect on the Bank's
operations.
Regulation of the Company
General. The Company is a savings and loan holding company as defined by
the HOLA. As such, the Company is registered with the OTS and is subject to OTS
regulation, examination, supervision and reporting requirements. As a subsidiary
of a savings and loan holding company, the Bank is subject to certain
restrictions in its dealings with the Company and affiliates thereof.
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Activities Restrictions. The Board of Directors of the Company presently
intends to operate the Company as a unitary savings and loan holding company.
There are generally no restrictions on the activities of a unitary savings and
loan holding company. However, if the Director of the OTS determines that there
is reasonable cause to believe that the continuation by a savings and loan
holding company of an activity constitutes a serious risk to the financial
safety, soundness or stability of its subsidiary savings institution, the
Director of the OTS may impose such restrictions as deemed necessary to address
such risk including limiting: (I) payment of dividends by the savings
institution; (ii) transactions between the savings institution and its
affiliates; and (iii) any activities of the savings institution that might
create a serious risk that the liabilities of the holding company and its
affiliates may be imposed on the savings institution. Notwithstanding the above
rules as to permissible business activities of unitary savings and loan holding
companies, if the savings institution subsidiary of such a holding company fails
to meet the QTL test, then such unitary holding company shall also presently
become subject to the activities restrictions applicable to multiple holding
companies and, unless the savings institution requalifies as a QTL within one
year thereafter, register as, and become subject to, the restrictions applicable
to a bank holding company. See " -- Regulation of the Bank -- Qualified Thrift
Lender Test."
If the Company were to acquire control of another savings institution,
other than through merger or other business combination with the Bank, the
Company would thereupon become a multiple savings and loan holding company.
Except where such acquisition is pursuant to the authority to approve emergency
thrift acquisitions and where each subsidiary savings institution meets the QTL
test, the activities of the Company and any of its subsidiaries (other than the
Bank or other subsidiary savings institutions) would thereafter be subject to
further restrictions. Among other things, no multiple savings and loan holding
company or subsidiary thereof which is not a savings institution shall commence
or continue for a limited period of time after becoming a multiple savings and
loan holding company or subsidiary thereof, any business activity, upon prior
notice to, and no objection by, the OTS, other than: (i) furnishing or
performing management services for a subsidiary savings institution; (ii)
conducting an insurance agency or escrow business; (iii) holding, managing, or
liquidating assets owned by or acquired from a subsidiary savings institution;
(iv) holding or managing properties used or occupied by a subsidiary savings
institution; (v) acting as trustee under deeds of trust; (vi) those activities
authorized by regulation as of March 5, 1987 to be engaged in by multiple
holding companies; or (vii) unless the Director of the OTS by regulation
prohibits or limits such activities for savings and loan holding companies,
those activities authorized by the Federal Reserve Board as permissible for bank
holding companies. Those activities described in (vii) above must also be
approved by the Director of the OTS prior to being engaged in by a multiple
holding company.
Restrictions on Acquisitions. Savings and loan holding companies are
prohibited from acquiring, without prior approval of the Director of OTS, (i)
control of any other savings institution or savings and loan holding company or
substantially all the assets thereof or (ii) more than 5% of the voting shares
of a savings institution or holding company thereof which is not a subsidiary.
Under certain circumstances, a registered savings and loan holding company is
permitted to acquire, with the approval of the Director of the OTS, up to 15% of
the voting shares of an under-capitalized savings institution pursuant to a
"qualified stock issuance" without that savings institution being deemed
controlled by the holding company. In order for the shares acquired to
constitute a "qualified stock issuance," the shares must consist of previously
unissued stock or treasury shares, the shares must be acquired for cash, the
savings and loan holding company's other subsidiaries must have tangible capital
of at least 6-1/2% of total assets, there must not be more than one common
director or officer between the savings and loan holding company and the issuing
savings institution, and transactions between the savings institution and the
savings and loan holding company and any of its affiliates must conform to
Sections 23A and 23B of the Federal Reserve Act. Except with the prior approval
of the Director of the OTS, no director or officer of a savings and loan holding
company or person owning or controlling by proxy or otherwise more than 25% of
such company's stock, may also acquire control of any savings institution, other
than a subsidiary savings institution, or of any other savings and loan holding
company.
The Director of the OTS may only approve acquisitions resulting in the
formation of a multiple savings and loan holding company which controls savings
institutions in more than one state if: (i) the multiple savings and loan
holding company involved controls a savings institution which operated a home or
branch office in the state of the institution
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to be acquired as of March 5, 1987; (ii) the acquiror is authorized to acquire
control of the savings institution pursuant to the emergency acquisition
provisions of the Federal Deposit Insurance Act; or (iii) the statutes of the
state in which the institution to be acquired is located specifically permit
institutions to be acquired by state-chartered institutions or savings and loan
holding companies located in the state where the acquiring entity is located (or
by a holding company that controls such state-chartered savings institutions).
Under the Bank Holding Company Act of 1956, bank holding companies are
specifically authorized to acquire control of any savings association. Pursuant
to rules promulgated by the Federal Reserve Board, owning, controlling or
operating a savings institution is a permissible activity for bank holding
companies, if the savings institution engages only in deposit-taking activities
and lending and other activities that are permissible for bank holding
companies. A bank holding company that controls a savings institution may merge
or consolidate the assets and liabilities of the savings institution with, or
transfer assets and liabilities to, any subsidiary bank which is a member of the
BIF with the approval of the appropriate federal banking agency and the Federal
Reserve Board. The resulting bank will be required to continue to pay
assessments to the SAIF at the rates prescribed for SAIF members on the deposits
attributable to the merged savings institution plus an annual growth increment.
In addition, the transaction must comply with the restrictions on interstate
acquisitions of commercial banks under the Bank Holding Company Act.
Taxation
General. The Company and its subsidiaries will file a consolidated federal
income tax return on a June 30 fiscal year basis. Consolidated returns have the
effect of eliminating intercompany distributions, including dividends, from the
computation of taxable income for the taxable year in which the distributions
occur.
Federal Income Taxation. Thrift institutions are subject to the provisions
of the Internal Revenue Code of 1986, as amended (the "Code") in the same
general manner as other corporations.
The Bank's federal corporate income tax returns have not been audited in
the last five years.
State Income Taxation. The State of Minnesota imposes a corporate franchise
tax at the rate of 9.8% on income which is considered Minnesota taxable income.
Taxable income for the State of Minnesota is substantially the same as federal
taxable income.
For additional information regarding taxation, see Note 11 of Notes to
Consolidated Financial Statements.
Item 2. Description of Properties
The following table sets forth information regarding the Company's offices
at June 30, 1997.
Year Owned or Book Value at Approximate Deposits at
Opened Leased June 30, 1997 Square Footage June 30, 1997
(Deposits in thousands)
Main Office:
501 Chestnut Street 1969 Owned $ 280,123 12,600 $ 79,879
Virginia, Minnesota
55792
Branch Offices:
Thunderbird Mall 1976 Leased N/A 500 -- (1)
Virginia, Minnesota
55792
102 E. Sheridan Street 1974 Owned 63,422 9,900 8,679
Ely, Minnesota 55731
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(1) The Bank does not separately track deposits at the Thunderbird Mall office.
Deposits received at this facility are included in deposits of the main office.
The book value of the Bank's investment in premises and equipment totaled
$425,000 at June 30, 1997. See Note 8 of Notes to Consolidated Financial
Statements.
Item 3. Legal Proceedings.
From time to time, the Bank is a party to various legal proceedings
incident to its business. At June 30, 1997, there were no legal proceedings to
which the Company or the Bank was a party, or to which any of their property was
subject, which were expected by management to result in a material loss to the
Company or the Bank. In addition, there were no pending regulatory proceedings
to which the Company or the Bank was a party, or to which any of their property
was subject, which were expected by management to result in a material loss to
the Company or the Bank.
Item 4. Submission of Matters to a Vote of Security Holders.
No matters were submitted to a vote of security holders during the fourth
quarter of the fiscal year ended June 30, 1997.
PART II
Item 5. Market for Common Equity and Related Stockholder Matters
The information contained under the sections captioned "Stockholders'
Information" in the Company's Annual Report to Stockholders for the Fiscal Year
Ended June 30, 1997 (the "Annual Report") filed as Exhibit 13 hereto is
incorporated herein by reference.
Item 6. Management's Discussion and Analysis of Plan of Operation
The information contained in the section captioned "Management's Discussion
and Analysis of Financial Condition and Results of Operations" on pages 2
through 13 in the Annual Report is incorporated herein by reference.
Item 7. Financial Statements
The Consolidated Financial Statements, Notes to Consolidated Financial
Statements, Independent Auditors' Report contained on pages 14 through 39 in the
Annual Report, which are listed under Item 13 herein, are incorporated herein by
reference.
Item 8. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure
The current report on Form 8-K is incorporated herein by reference.
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PART III
Item 9. Directors Executive Officers, Promoters and Control Persons; Compliance
with Section 16(a) of the Exchange Act
For information concerning the Board of Directors and executive officers of
the Company, the information contained under the section captioned "Proposal I
- -- Election of Directors" in the Company's definitive proxy statement for the
Company's 1997 Annual Meeting of Stockholders (the "Proxy Statement") is
incorporated herein by reference.
Item 10. Executive Compensation
The information contained under the sections captioned "Proposal I --
Election of Directors -- Executive Compensation" " -- Director Compensation," "
- -- Employment Agreements" and " -- Supplemental Executive Retirement Agreement"
in the Proxy Statement is incorporated herein by reference.
Item 11. Security Ownership of Certain Beneficial Owners and Management
(a) Security Ownership of Certain Beneficial Owners
Information required by this item is incorporated herein by reference to the
section captioned "Voting Securities and Principal Holders Thereof" in the Proxy
Statement.
(b) Security Ownership of Management
Information required by this item is incorporated herein by reference to the
sections captioned "Voting Securities and Principal Holders Thereof" and
"Proposal I -- Election of Directors" in the Proxy Statement.
(c) Changes in Control
Management of the Company knows of no arrangements, including any pledge by
any person of securities of the Company, the operation of which may at a
subsequent date result in a change in control of the registrant.
Item 12. Certain Relationships and Related Transactions
The information required by this item is incorporated herein by reference
to the section captioned "Proposal I -- Election of Directors -- Transactions
with Management" in the Proxy Statement.
Item 13. Exhibits and Reports on Form 8-K.
(a) List of Documents Filed as Part of this Report
(1) Financial Statements. The following consolidated financial statements
are incorporated by reference from Item 7 hereof (see Exhibit 13):
Independent Auditors' Report
Consolidated Statements of Financial Condition - June 30, 1997 and 1996
Consolidated Statements of Income - Years ended June 30, 1997, 1996 and
1995
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Consolidated Statements of Stockholders' Equity - Years ended June 30,
1997, 1996 and 1995
Consolidated Statements of Cash Flows - Years ended June 30, 1997, 1996 and
1995
Notes to Consolidated Financial Statements
(2) Financial Statement Schedules. All schedules for which provision is
made in the applicable accounting regulations of the Securities and Exchange
Commission are omitted because of the absence of conditions under which they are
required or because the required information is included in the consolidated
financial statements and related notes thereto.
(3) Exhibits. The following is a list of exhibits filed as part of this
Annual Report on Form 10-KSB and is also the Exhibit Index.
No. Description
3.1 Articles of Incorporation *
3.2 Bylaws *
4 Form of Common Stock Certificate of QCF Bancorp, Inc. **
10.1 QCF Bancorp, Inc. 1995 Stock Option and Incentive Plan *
10.2 QCF Bancorp, Inc. 1995 Management Recognition Plan *
10.3(a) Employment Agreement between QCF Bancorp, Inc.
and Kevin E. Pietrini *
10.3(b) Employment Agreement between Queen City Federal Savings
Bank and Kevin E. Pietrini *
10.4(a) Severance Agreements between QCF Bancorp, Inc.
and Daniel F. Schultz, Gerald D. McKenna, Judith K.
Kauchick and Linda Myklebust *
10.4(b) Severance Agreements between Queen City Federal
Savings Bank and Daniel F. Schultz, Gerald D. McKenna,
Judith K. Kauchick and Linda Myklebust *
10.5 Queen City Federal Savings Bank Deferred
Compensation Plan *
10.6 Queen City Federal Savings Bank Supplemental
Executive Retirement Agreements with Kevin E. Pietrini
and Daniel F. Schultz *
10.7 Queen City Federal Savings Bank Grantor Trust Agreement
Relating to Employment Agreements, Severance Agreements,
Supplemental Executive Retirement Agreements and Deferred *
Compensation Plan
13 Annual Report to Stockholders
21 Subsidiaries of the Registrant
23 Consent of KPMG Peat Marwick LLP
Consent of Mcladrey & Pullen, LLP
27 Financial Data Schedule
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(*) Incorporated herein by reference from Registration Statement on Form
S-1 filed December 6, 1994 (File No. 33- 87044).
(**) Incorporated herein by reference from Registration Statement on Form
8-A filed March 15, 1995 (File No. 0- 25700).
(b) Reports on Form 8-K. During the quarter ended June 30, 1997, the
Registrant did not file any Current Reports on Form 8-K.
(c) Exhibits. The exhibits required by Item 601 of Regulation S-K are
either filed as part of this Annual Report on Form 10-KSB or incorporated by
reference herein.
(d) Financial Statements and Schedules Excluded from Annual Report. There
are no other financial statements and financial statement schedules which were
excluded from the Annual Report to Stockholders pursuant to Rule 14a-3(b) which
are required to be included herein.
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
QCF BANCORP, INC.
September 12, 1997
By:
Kevin E.Pietrini
President and Chief Executive Officer
Pursuant to the requirements of 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.
September 23, 1997
Kevin E. Pietrini
President, Chief Executive Officer
and Director
(Principal Executive Officer)
September 23, 1997
Daniel F. Schultz
Vice President and Treasurer
(Principal Financial and Accounting Officer)
September 23, 1997
Philip K. Schumacher
Chairman of the Board
September 23, 1997
Peter J. Johnson
Director
September 23, 1997
Craig W. Nordling
Director
September 23, 1997
Robert L. Muhich
Director
September 23, 1997
John C. Pearsall
Director
September 23, 1997
John A. Trenti
Director
27
<PAGE>
EXHIBIT 13
To Our Shareholders, Customers and Friends:
The directors, officers and staff of QCF Bancorp, Inc. and Queen City Federal
Savings Bank proudly present our annual report to shareholders. This report
represents an exciting and a productive year at Queen City Federal and a
significant year in terms of earnings. We ended the year with a net income of
$2,011,000. This represents a return on average assets of 1.34%. We also ended
the year with record earnings per share of $1.57.
The significance of this years earnings lies in the fact that these results
include a "one time" special FDIC assessment of $686,000 pre-tax. Without the
special assessment, Queen City Federal would have enjoyed another record year in
terms of earnings. We encourage you to read the"Management's Discussion and
Analysis" section of this report for a more complete explanation of your
Company's financial performance.
In the ensuing year, Queen City Federal will continue to pursue its philosophy
of being our region's "local" financial institution. Although we will continue
providing traditional thrift services, we will move ahead with our plan to be
more "bank like". This trend is evidenced by a 12% increase in consumer loans
over the last year and a 40% increase in commercial business loans. We will
continue our commitment to the local community bank concept by promoting local
involvement in the community. I would also like to thank our employees for their
hard work and dedication in making this another successful year at Queen City
Federal.
The directors, officers and staff of Queen City Federal want to thank all of our
stockholders and customers for their confidence and support in our organization
as we endeavor to enhance shareholder value in the year to come.
Sincerely,
Kevin E. Pietrini
President and
Chief Executive officer
<PAGE>
FINANCIAL HIGHLIGHTS
(Dollars in Thousands, Except Per Share Data)
At or For the Year Ended
June 30, 1997
--------------------------
1997 1996
Operating Results
Net interest income $ 6,029 6,073
Non interest income 566 480
Non interest expense 3,276 2,687
Net Income 2,011 2,333
Per Share Data
Net income $ 1.57 1.44
Book value 19.23 18.47
Balance Sheet Data
Total assets $ 156,727 150,430
Investment Securities 83,098 89,183
Net loans 61,202 52,361
Deposits 103,681 88,832
Short-term borrowings 22,140 29,264
Stockholders' equity 27,423 29,685
Financial Ratios
Return on average assets 1.34% 1.56%
Return on average equity 7.44 8.06
Net interest margin 4.12 4.25
Average equity to average assets 18.03 19.33
Non-performing assets to total assets .17 .20
Total regulatory capital to risk-adjusted assets27.5838.51
Management's Discussion and Analysis of Financial Condition and Results of
Operations
The following discussion is provided to assist readers in their understanding of
the consolidated financial statements of QCF Bancorp, Inc. (QCF). This
discussion should be read in conjunction with the consolidated financial
statements and other financial information presented elsewhere in this report.
QCF is the unitary savings and loan holding company for Queen City Federal
Savings Bank (the Bank). The Bank converted from a federally chartered mutual
savings bank to a federally chartered stock savings bank on March 31, 1995.
1
<PAGE>
FIVE-YEAR SELECTED FINANCIAL SUMMARY(1)
(Dollars in Thousands, Year Ended June 30
Except per Share Data)
Operating Results
1997 1996 1995 1994 1993
Interest income $10,703 10,658 8,867 7,558 8,245
Interest expense 4,674 4,585 4,018 3,947 4,322
Net interest income 6,029 6,073 4,849 3,611 3,923
Provision for loan losses 0 0 0 60 240
Non-interest income 566 480 411 416 638
Non-interest expense 3,276 2,687 2,378 2,164 2,014
Income tax expense 1,308 1,533 1,166 734 953
Income before cumulative effect
of change in accounting principle2,0112,3331,715 1,069 1,354
Net income 2,011 2,333 1,715 1,588 1,354
Per Share Data
Net income (1995 - March 31-June 30)$ 1.57 1.44 0.35
Pro forma net income 1.04
Book value 19.23 18.47 17.17
Balance Sheet Data
Total Assets $156,727 150,430146,548 133,135 135,333
Investment securities 83,098 89,183 88,503 85,412 86,950
Net loans 61,202 52,361 45,964 40,810 39,699
Deposits 103,681 88,832113,544 113,091 104,197
Short-term borrowings 22,140 29,264 0 4,190 16,742
Stockholders' equity 27,423 29,685 30,602 13,991 12,404
Financial Ratios
Return on average assets 1.34% 1.56 1.27 0.80(2) 1.04
Return on average equity 7.44 8.06 10.09 8.02 11.54
Average equity to average assets18.03 19.33 12.62 9.94 9.04
(1) QCF Bancorp, Inc. (QCF) completed a public stock offering on March 31,
1995, which generated net proceeds of $17.0 million. QCF purchased all of the
stock of Queen City Federal Savings Bank (the Bank) with a portion of the
conversion proceeds. The information reflected above represents the financial
condition and the results of operations for the consolidated QCF for 1995
through 1997 and only the Bank for 1993 and 1994.
(2) Ratio is based on income before cumulative effect of change in
accounting principle. After including cumulative effect of change in accounting
principle, the return on average assets would be 1.18%.
Results of Operations
QCF's net income of $2.0 million, or $1.57 per share, in fiscal 1997 decreased
$322,000, or 13.8%, below fiscal 1996 net income. The decrease in net income for
fiscal 1997 was attributable to a special assessment by the FDIC of $416,000 net
of taxes offset by an increase is non-interest income.
Return on average assets was 1.34% for fiscal 1997 compared to 1.56% for fiscal
1996 and 1.27% for fiscal 1995.
Net Interest Income
QCF's net income is dependent primarily on its net interest income, which is the
difference between interest earned on securities, loans and other
interest-earning assets (interest income) and interest paid on deposits
2
<PAGE>
and short-term borrowings (interest expense). Net interest margin is calculated
by dividing net interest income by the average interest-earning assets and is
normally expressed as a percentage. Net interest income and net interest margin
are affected by changes in interest rates, the volume and the mix of
interest-earning assets and interest- bearing liabilities, and the level of
non-performing assets.
The following table presents the total dollar amount of interest income and
expense from average interest- earning assets and liabilities and the results
and yields.
<TABLE>
Year Ended June 30
1997 1996 1995
Average Rate/ Average Rate/ Average Rate/
Balance Interest Yield Balance Interest Yield Balance Interest Yield
(Dollars in Thousands)
Interest-Earning Assets (1)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Loans receivable, net (2) $57,087 5,144 9.01% $48,671 4,439 9.12% $ 43,091 3,840 8.91%
Investment securities 84,388 5,385 6.38 90,373 6,011 6.65 82,112 4,842 5.90
Other including cash equivalents 4,749 174 3.66 4,408 208 4.72 5,351 185 3.46
Total interest-earning assets $146,244 10,703 7.32 $142,909 10,658 7.4 130,554 8,867 6.79
Interest-Bearing Liabilities
NOW accounts $8,835 118 1.34 9,255 127 1.37 10,418 139 1.33
Passbooks 23,939 598 2.50 26,084 652 2.50 28,439 711 2.50
Money market accounts 8,765 224 2.55 9,228 235 2.55 10,629 271 2.55
Certificate accounts 52,008 2,925 5.62 52,208 2,900 5.55 55,464 2,624 4.73
Short-term borrowings 21,956 809 3.68 11,980 671 5.60 7,979 273 3.42
Total interest-bearing liabilities $ 115,503 4,674 4.05 108,755 4,585 4.22 112,929 4,018 3.56
Net Interest Income $ 6,029 $ 6,073 $ 4,849
Net Earning Assets $ 30,721 $ 34,154 $ 17,625
Net Yield on Interest-Earning Assets 4.12% 4.25% 3.71%
Average Interest-Earning Assets to
Average Interest-Bearing Liabilities 126.60% 131.40% 115.61%
<FN>
(1) Tax exempt income was not significant; therefore, was not presented on a tax equivalent basis.
(2) Calculated net of deferred loan fees, loan discounts, loans in process and allowance for loan losses.
Average balance includes non-performing loans.
</FN>
</TABLE>
Net interest income was $6.0 million for the fiscal year ended June 30, 1997,
down from $6.1 million in fiscal 1996. This represents a decrease of 0.7% from
fiscal 1996. The decrease in net interest income was due to a slight decrease in
the Bank's net interest margin and average net-earning assets.
The following schedule presents the dollar amount of change in interest income
and interest expense for major components of interest-earning assets and
interest- bearing liabilities. It distinguishes between the increase/decrease
related to higher outstanding balances and that due to the levels and volatility
of interest rates. For each category of interest-earning assets and
interest-bearing liabilities, information is provided on changes attributable to
(i) change in volume multiplied by old rate and (ii) change in rate (i.e.,
changes in rate multiplied by old volume) . The change in interest due to both
volume and rate has been allocated to volume and rate changes in proportion to
the relationship of the absolute dollar amounts of the change in each.
3
<PAGE>
Year Ended June 30
1997 vs 1996 1996 vs 1995
(Dollars in thousands) Increase(Decrease) Due to
Volume Rate Total Volume Rate Total
Interest-earning assets:
Loans receivable, net $ 760 (55) 705 507 92 599
Investment securities (388) (238) (626) 514 654 1168
Other including cash 15 (49) (34) (37) 60 23
equivalents
Total interest-earning assets $387 (342) 45 984 806 1,790
Interest-bearing liabilities:
NOW accounts $(6) (3) (9) (16) 4 (12)
Passbooks (54) 0 (54) (59) 0 (59)
Money market accounts (11) 0 (11) (36) 0 (36)
Certificate accounts (11) 36 25 (160) 436 276
Short-term borrowings 424 (286) 138 175 223 398
Total interest-bearing
liabilities $342 (253) 89 (96) 663 567
Change in net interest income$ 45 89 44 1,080 143 1,223
In fiscal 1997 the yield on average interest-earning assets decreased by 14
basis points which reduced interest income as compared to fiscal 1996. This was
offset in part by a $ 3.3 million increase in average interest- earning assets
between fiscal years 1997 and 1996. The combined impact (interest rate decrease
and volume increase) caused interest income for fiscal 1997 to increase $45,000
or 0.4%. Interest expense increased $89,000 from fiscal 1996 to 1997. The
increase was due to an increase in average interest-bearing liabilities of $6.7
million or 6.2%,offset by a 17 basis point decrease in interest rates. The
increase in average interest- bearing liabilities was due to a $10.0 million
increase in average short-term borrowings offset by a $3.2 million increase in
deposit accounts.
Provision for Loan Losses
The Bank made no provision for loan losses in fiscal 1997 or 1996. Provision for
loan losses are charged to earnings to maintain the total allowance for loan
losses at a level considered adequate by management to provide for probable loan
losses, based on prior loss experience, volume and type of lending conducted by
the Bank, past due loans in the Bank's loan portfolio and national, regional and
local economic conditions.
Non-interest Income
Non-interest income was $566,000 for fiscal 1997 compared to $480,000 for fiscal
1996. The following table presents major components of non-interest income.
Year Ended June 30
(Dollars in thousands) 1997 1996
Fees and service charges $ 489 438
Other 77 42
Total non-interest income 566 480
4
<PAGE>
The increase of $86,000 or 19.6% in total non-interest income between fiscal
year 1997 and 1996 was primarily due to increased checking and loan fees due to
increased volume in these two areas.
Non-interest Expense
Non-interest expense was $3.4 million for fiscal 1997 compared to $2.7 million
for fiscal 1996. The following table presents the major components of
non-interest expense.
Year Ended June 30
(Dollars in thousands) 1997 1996
Compensation and benefits $1,865 1,712
Occupancy 214 226
Federal deposit insurance premiums 675 240
Advertising 74 76
Other 448 433
Total non-interest expense $3,276 2,687
Total non-interest expense increased $589,000 or 21.9% from fiscal 1996 to
fiscal 1997. The primary cause of the increase was a $435,000 increase in
Federal deposit insurance premiums. Such increase was due to a special
assessment by the FDIC.
Income Taxes
QCF recorded income tax expense of $1.3 million in fiscal 1997 compared to $1.5
million in fiscal 1996. The decrease in income tax expense between 1996 and 1997
is primarily the result of changes in taxable income between the years.
Financial Condition
QCF's total assets at June 30, 1997 were $156.7 million compared to $150.4
million at June 30, 1996. The increase of $6.3 million from 1997 to 1996
reflects fluctuations in levels of deposits and short-term borrowings, which are
responsive to market conditions.
Investment Securities
Investment securities decreased by $6.1 million or 6.8% from fiscal 1996 to
fiscal 1997. The decrease was due to an increase in loan demand. During fiscal
1997, QCF purchased $23.8 million of investment securities and collected
principal from maturities or repayments of $30.5 million.
Cash and Cash Equivalents
Cash and cash equivalents increased by $3.0 million from $4.7 million at June
30, 1996 to $7.8 million at June 30, 1997. The Bank's cash and cash equivalents
fluctuate from period to period depending on liquidity needs and the timing of
purchases of investment securities.
Loans Receivable, Net
Net loans receivable, increased $8.8 million or 16.9% from $52.4 million at June
30, 1996 to $61.2 million at June 30, 1997. The increase reflected increased
mortgage demand, consumer demand for installment loans and business demand for
commercial loans.
5
<PAGE>
Allowance for Loan Losses
In originating loans, the Bank recognizes that credit losses will be experienced
and that the risk of loss will vary with, among other things, the type of loans
being made, the creditworthiness of the borrower over the term of the loan,
general economic conditions and, in the case of a secured loan, the quality of
the security for the loan. It is management's policy to maintain an adequate
allowance for loan losses based on, among other things, the Bank's historical
loan loss experience, evaluation of economic conditions, regular reviews of
delinquencies and loan portfolio quality. The Bank increases its allowance for
loan losses by charging provisions for loan losses against the Bank's income.
Management will continue to actively monitor the Bank's asset quality and
allowance for loan losses. Management will charge off loans and properties
acquired in settlement of loans against the allowances for losses on such loans
and such properties when appropriate and will provide specific loss allowances
when necessary. Although management believes it uses the best information
available to make determinations with respect to the allowance for losses,
future adjustments may be necessary if economic conditions differ substantially
from the economic conditions in the assumptions used in making the initial
determinations.
Non-Performing Assets
Non-performing assets totaled $262,000 at June 30, 1997 compared to $303,000 at
June 30, 1996.
Non-performing assets are summarized in the following table.
June 30
(Dollars in thousands) 1997 1996 1995 1994 1993
Non-accrual loans $ 225 297 182 43 323
Foreclosed assets 38 6 0 4 44
Total non-performing assets $ 263 303 182 47 367
Non-performing assets to year-end assets .17% .20 .13 .04 .27
Non-performing loans to year-end loans .43 .58 .40 .11 .81
Allowance for loan losses to
Non-performing assets 501 439 755 2,955 358
The non-performing assets reflected above primarily consist of one-to-four
family mortgage loans or consumer loans.
Deposits and Short-term Borrowings
The Bank's deposits increased $14.8 million, or 16.7%, from $88.8 million at
June 30, 1996 to $103.7 million at June 30, 1997. Short-term borrowings, which
consist of sales of securities under agreements to repurchase identical
securities, decreased from $26.3 million at June 30, 1996 to $14.0 million at
June 30, 1997. These changes were primarily due to a switch in funding
liabilities from repurchase agreements to regular deposits.
Capital Adequacy
Stockholders' equity was $27.4 million at June 30, 1997 down from $29.7 million
at June 30, 1996. The decrease was due to the repurchase of stock for the
treasury of $2.8 million and for the stock option trust of $1.9 million offset
primarily by earnings of $2.0 million.
Federal savings institutions are required to satisfy their capital requirements:
(I) a requirement that "tangible capital" equal or exceed 1.5% of adjusted total
assets, (ii) a requirement that core capital" equal or exceed 3.0%
6
<PAGE>
of adjusted total assets, and (iii) a requirement that "risk-based capital"
equal or exceed 8.0% of risk-weighted assets. At June 30, 1997 and 1996, the
Bank met each of the three capital requirements.
Liquidity Management
The Bank is required to maintain average daily balances of liquid assets equal
to 5% of its net withdrawable savings deposits plus short-term borrowings. The
Bank must also maintain average daily balances of short-term liquid assets equal
to 1% of its net withdrawable savings deposits plus short-term borrowings. The
Bank has maintained an average daily liquidity ratio in excess of these
requirements.
The primary investing activities are the origination of loans and the purchase
of securities. During the year ended June 30, 1997, net loans increased $8.8
million while maturities and principal collected on investment securities, net
of purchases totaled $6.7 million.
The primary financing activity is the attraction of deposits and short-term
borrowings. During the year ended June 30, 1997, net deposits and short-term
borrowings increased $7.7 million.
QCF's most liquid assets are cash and cash equivalents, represented by cash and
interest-bearing deposits with banks. The level of these assets is dependent on
the operating, financing, and investing activities during any given period. Cash
and cash equivalents increased $3.0 million to $7.8 million during the year
ended June 30, 1997.
Asset/Liability Management
Net interest income, the primary component of the Bank's net income, is derived
from the difference or "spread" between the yield on interest-earning assets and
the cost of interest-bearing liabilities. The Bank has sought to reduce its
exposure to changes in interest rate by matching more closely the effective
maturities or re-pricing characteristics of its interest-earning assets and
interest-bearing liabilities. The matching of the Bank's assets and liabilities
may be analyzed by examining the extent to which its assets and liabilities are
interest rate sensitive and by monitoring the expected effects of interest rate
changes on net portfolio value.
An asset or liability is interest rate sensitive within a specific time period
if it will mature or re-price within that time period. If the Bank's assets
mature or re-price more quickly or to a greater extent than its liabilities, the
Bank's net portfolio value and net interest income would tend to increase during
periods of rising interest rates but decrease during periods of falling interest
rates. If the Bank's assets mature or reprice more slowly or to a lesser extent
than its liabilities, the Bank's net portfolio value and net interest income
would tend to decrease during periods of rising interest rates but increase
during periods of falling interest rates. The Bank's policy has been to mitigate
the interest rate risk inherent in the historical savings institution business
of originating long term loans funded by short term deposits by pursuing certain
strategies designed to decrease the vulnerability of its earnings to material
and prolonged changes in interest rates. The Bank has established an Asset and
Liability Management Committee which currently is comprised of the executive
officers of the Bank. This Committee reviews the maturities of the Bank's assets
and liabilities and establishes policies and strategies designed to regulate the
Bank's flow of funds and to coordinate the sources, uses and pricing of such
funds. The first priority in structuring and pricing the Bank a assets and
liabilities is to maintain an acceptable interest rate spread while reducing the
effects of changes in interest rates.
Management's principal strategy in managing the Bank's interest rate risk has
been to maintain short- and intermediate-term assets in its portfolio, including
locally originated adjustable rate mortgage loans. In addition, in managing its
portfolio of investment securities, the Bank seeks to purchase investment
securities that mature on a basis that approximates as closely as possible the
estimated maturities of the Bank's liabilities.
In addition to shortening the average re-pricing period of its assets, the Bank
has sought to lengthen the average maturities of its liabilities by adopting a
tiered pricing program for its certificates of deposits which provides higher
rates of interest on its longer term certificates in order to encourage
depositors to invest in them.
7
<PAGE>
Dividends
QCF has not paid any dividends to stockholders since its incorporation. The
Board of Directors may consider a policy of paying cash dividends to
stockholders in the future. The declaration of dividends are subject to among
other things, QCF's financial condition and earnings, tax considerations,
economic conditions, regulatory restrictions and other factors.
Effects of Inflation
Because QCF's asset and liabilities are, for the most part, liquid in nature,
they are not significantly affected by inflation. Interest rates have a more
significant impact on Queen City Federal's performance than the effect of
inflation. However, the rate of inflation affects operating expenses, such as
employee salaries and benefits, occupancy and equipment changes, and other
overhead expenses.
8
INDEPENDENT AUDITOR'S REPORT
To the Board of Directors
QCF Bancorp, Inc.
Virginia, Minnesota
We have audited the accompanying consolidated statement of financial condition
of QCF Bancorp, Inc. and subsidiary (the Company) as of June 30, 1997, and the
related consolidated statements of income, stockholders' equity, and cash flows
for the year then ended. 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 audit. The consolidated financial statements
of QCF Bancorp, Inc. and subsidiary for the years ended June 30, 1996 and 1995
were audited by other auditors whose report, dated August 20, 1996, expressed an
unqualified opinion on those statements.
We conducted our audit 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 audit provides a reasonable basis for our opinion. In our
opinion, the 1997 consolidated financial statements referred to above present
fairly, in all material respects, the financial position of QCF Bancorp, Inc.
and subsidiary as of June 30, 1997, and the results of its operations and its
cash flows for the year then ended in conformity with generally accepted
accounting principles.
MCGLADREY & PULLEN, LLP
Duluth, Minnesota
August 18, 1997
9
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Consolidated Statements of Financial Condition
Assets June 30, 1997 June 30, 1996
Cash $ 747,733 379,098
Interest-bearing deposits with banks 7,026,683 4,355,895
Cash and cash equivalents 7,774,416 4,734,993
Securities available for sale
(amortized cost of $25,359,674 and
$33,283,046 at June 30, 1997 and 1996 respectively)24,985,627 32,221,800
Securities held to maturity
(estimated market value of $58,334,591 and
$56,811,210 at June 30, 1997 and 1996 respectively)58,112,799 56,961,040
Loans receivable, net 61,202,301 52,361,221
Federal Home Loan Bank stock, at cost 553,900 553,900
Accrued interest receivable 1,310,779 1,223,713
Premises and equipment 424,609 440,736
Deferred tax asset 519,300 731,396
Prepaid expenses and other assets 1,843,672 1,200,724
Total Assets $156,727,403 150,429,523
Liabilities and Stockholders' Equity
Deposits $103,681,490 88,832,424
Short-term borrowings 14,039,794 26,263,736
Federal Home Loan Bank advances 8,100,000 3,000,000
Accrued interest payable 1,071,313 1,013,368
Advance payments made by borrowers
for taxes and insurance 61,675 56,576
Accrued expenses and other liabilities 2,349,845 1,578,622
Total Liabilities 129,304,117 120,744,726
Commitments and Contingencies
Stockholders' equity:
Serial preferred stock; authorized 1,000,000 shares;
issued and outstanding none 0 0
Common stock ($.01 par value): authorized
7,000,000 shares; issued 1,782,750; outstanding
1,426,200 shares in 1997 17,828 17,828
and 1,606,906 in 1996.
Additional paid-in capital 16,665,625 17,003,711
Retained earnings, subject to certain restrictions 20,051,443 18,040,190
Net unrealized loss on securities available for sale (222,745) (636,750)
Unearned employee stock ownership plan shares (1,080,710) (1,183,330)
Unearned management recognition plan shares (746,292) (944,177)
Shares in stock option trust, at exercise price (1,872,071) 0
Treasury stock, at cost, 356,550 shares in 1997
and 175,844 at June 30, 1996 (5,389,792) (2,612,675)
Total Stockholders' Equity 27,423,286 29,684,797
Total Liabilities and Stockholders' Equity $156,727,403 150,429,523
See accompanying notes to consolidated financial statements.
10
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Consolidated Statements of Income
Year Ended June 30
1997 1996 1995
Interest income:
Loans $5,143,815 4,438,865 3,839,927
Securities 5,558,735 6,218,603 5,027,075
Total interest income 10,702,550 10,657,468 8,867,002
Interest expense:
Deposits 3,864,147 3,914,016 3,744,536
Short-term borrowings 809,248 670,600 273,451
Total interest expense 4,673,395 4,584,616 4,017,987
Net interest income 6,029,155 6,072,852 4,849,015
Provision for loan losses 0 0 0
Net interest income after provision
for loan losses 6,029,155 6,072,852 4,849,015
Non-interest income:
Fees and service charges 489,517 437,961 348,887
Other 76,584 42,352 61,646
Total non-interest income 566,101 480,313 410,533
Non-interest expense:
Compensation and benefits 1,865,372 1,711,540 1,423,142
Occupancy 213,910 225,752 224,329
Federal deposit insurance premiums 675,361 240,000 267,537
Advertising 73,683 76,118 60,955
Other 447,676 433,092 402,438
Total non-interest expense 3,276,002 2,686,502 2,378,401
Income before income tax expense and
cumulative effect of change
in accounting principle 3,319,254 3,866,663 2,881,147
Income tax expense 1,308,000 1,533,000 1,166,000
Net income $2,011,254 2,333,663 1,715,147
Earnings per common share $1.57 1.44 0.35
Pro forma earnings per common share 1.04
Weighted average number of shares 1,284,263 1,617,885 1,646,170
See accompanying notes to consolidated financial statements.
11
<PAGE>
<TABLE>
QCF BANCORP, INC. AND SUBDIDIARY
Consolidated Statement of Stockholders' Equity
Unearned
Net Unrealized Employee Unearned
Gain(loss) on Stock Management
Additional Securities Ownership Recognition Stock Total
Common Paid-in Retained Available Plan Plan Option Treasury Stockholders'
Stock Capital Earnings for Sale Shares Shares Trust Stock Equity
--------------------------------------------------------------------------------------
Balance, June 30, 1994 13,991,380 13,991,380
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Cumulative effect of change in accounting
for securities available for sale at July 1, 1994 (1,332,311) (1,332,311)
Net Income 1,715,147 1,715,147
Change in net unrealized loss on
securities available for sale 523,922 523,922
Sale of common stock 17,828 16,980,172 16,998,000
Adoption of employee stock ownership plan (1,426,200) (1,426,200)
Earned employee stock ownership plan shares 12,009 120,080 132,089
--------------------------------------------------------------------------------------
Balance, June 30, 1995 17,828 16,992,181 15,706,527 (808,389)(1,306,120) 30,602,027
Net income 2,333,663 2,333,663
Purchase of treasury stock (3,746,557)(3,746,557)
Adoption of management recognition plan (41,291) (1,092,591) 1,133,882 0
Amortization of management recognition plan 148,414 148,414
Change in net unrealized loss on securities available for sale 171,639 171,639
Earned employee stock ownership plan shares 52,821 122,790 175,611
--------------------------------------------------------------------------------------
Balance, June 30, 1996 17,828 17,003,711 18,040,190 (636,750)(1,183,330)(944,177) (2,612,675) 29,684,797
Net income 2,011,253 2,011,253
Purchase of treasury stock (2,777,117)(2,777,117)
Purchase of stock for stock option trust (366,969) (1,872,071) (2,239,040)
Amortization of management recognition plan 197,885 197,885
Change in net unrealized loss on securities available for sale 414,005 414,005
Earned employee stock ownership plan shares 28,883 102,620 131,503
--------------------------------------------------------------------------------------
Balance, June 30, 1997 $17,828 16,665,625 20,051,443 (222,745)(1,080,710)(746,292)(1,872,071)(5,389,792)27,423,286
See accompanying notes to consolidated financial statements
</TABLE>
12
<PAGE>
<TABLE>
QCF BANCORP, INC. AND SUBSIDIARY
Consolidated Statements of Cash Flows
Year ended June 30
1997 1996 1995
Operating activities:
<S> <C> <C> <C>
Net income $ 2,011,254 2,333,663 1,715,147
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 91,524 95,931 110,081
Federal Home Loan Bank stock dividend 0 (10,900) 0
Amortization of net premiums on securities 52,777 16,572 281,039
(Increase)decrease in accrued interest receivable (87,066) 36,187 (347,377)
Increase in accrued interest payable 57,945 119,501 153,985
Increase(decrease) in accrued expenses and other liabilities 229,422 (205,767) (221,470)
(Decrease)increase in deferred income taxes (105,100) 23,300 15,500
Amortization of unearned ESOP shares 175,503 175,611 132,089
Amortization of MRP 197,885 148,414 0
( Increase)decrease in other assets (68,842) (105,376 673,610
Net cash provided by operating activities 2,555,302 2,627,136 2,512,604
Investing activities:
Proceeds from maturities and principal collected
on securities held to maturity 22,597,122 51,083,659 34,800,123
Proceeds from maturities and principal collected
on securities available for sale 7,873,050 3,784,710 2,900,813
Purchases of securities held to maturity (23,751,337 (55,272,070) (41,138,736)
Purchases of securities available for sale 0 0 (1,287,717)
Net increase in loans (8,841,080) (6,396,974) (5,153,856)
Net (increase)decrease in real estate owned (32,302) (6,085) 4,112
Purchases of premises and equipment (75,397 (40,131) (31,701)
Net cash used in investing activities (2,229,944) (6,846,891) (9,906,962)
Financing activities:
Net increase (decrease)in deposits 14,849,066 (24,711,547) 453,424
Net (decrease)increase in short-term borrowings (12,223,942) 26,263,736 (4,189,819)
Net increase in Federal Home Loan Bank advances 5,100,000 3,000,000 0
Adoption of ESOP 0 0 (1,426,200)
Proceeds from sale of common stock 0 0 16,998,000
Purchase of treasury stock (2,777,117) (3,746,557) 0
Adoption of stock option trust (2,239,040) 0 0
Increase (decrease)in advance payments made by
borrowers for taxes and insurance 5,098 (4,606) (5,405)
Net cash provided by financing activities 2,714,065 801,026 11,830,000
Increase(decrease) in cash and cash equivalents 3,039,423 (3,418,729 4,435,642
Cash and cash equivalent at beginning of year 4,734,993 8,153,722 3,718,080
Cash and cash equivalents at end of year $7,774,416 4,734,993 8,153,722
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Income taxes $1,311,807 1,678,667 985,000
Interest 4,615,450 4,465,115 3,864,002
Supplemental schedule of non-cash investing activities:
Securities transferred to securities available for sale 0 0 38,702,799
See accompanying notes to consolidated financial statements.
</TABLE>
13
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
(1) Description of the Business
QCF Bancorp, Inc. (the Company) was incorporated under the laws of the State of
Minnesota for the purpose of becoming the savings and loan holding company of
Queen City Federal Savings Bank (the Bank) in connection with the Bank's
conversion from a federally chartered mutual savings bank to a federally
chartered stock savings bank. The Company commenced on February 10, 1995, a
Subscription and Community Offering of its stock in connection with the
conversion of the Bank (the Offering). The Offering was closed on March 17, 1995
and the conversion was consummated on March 31, 1995.
The consolidated financial statements included herein are for the Company, the
Bank and the Bank's wholly- owned subsidiary, Queen City Service Corporation.
All significant inter-company accounts and transactions have been eliminated in
consolidation. All financial information prior to March 31, 1995 contained
herein relates solely to the Bank and its subsidiary.
(2) Significant Accounting Policies
The accounting and reporting policies of the Company and its subsidiary conform
to generally accepted accounting principles and to general practice within the
savings and loan industry. The following is a description of the more
significant of those policies which the Company follows in preparing and
presenting its consolidated financial statements.
Material Estimates
In preparing the financial statements, management is required to make estimates
and assumptions that affect the reported amounts of assets and liabilities as of
the date of the balance sheet and revenues and expenses for the period. Actual
results could differ significantly from those estimates. A material estimate
that is particularly susceptible to significant change in the near-term relates
to the determination of the allowance for loan losses.
Management believes that the allowance for loan losses is adequate. While
management used available information to recognize losses on loans, future
additions to the allowance may be necessary based on changes in economic
conditions. In addition, various regulatory agencies, as an integral part of
their examination process, periodically review the allowance for loan losses.
Such agencies may require additions to the allowance based on their judgment
about information available to them at the time of their examination. Securities
Securities available for sale are carried at market value at June 30, 1997 and
1996. Net unrealized gains and losses, net of tax effect, are credited or
charged to stockholders equity. Securities held to maturity are carried at
amortized cost. Gains and losses on sales of securities are recognized at the
time of sale and are calculated based on the specific identification method.
Premiums and discounts are amortized using the interest method over the term of
the securities.
Loans Receivable
Loans are considered long-term investments and, accordingly, are carried at
historical cost.
Discounts on loans originated or purchased are amortized to income using the
interest method over the estimated average loan life.
The allowance for loan losses is maintained at an amount considered adequate to
provide for probable losses. The allowance for loan losses is based on periodic
analysis of the loan portfolio by management. In this analysis management
considers factors including, but not limited to, specific occurrences, general
economic conditions, loan portfolio composition and historical experience. Loans
are charged off to the extent they are deemed to be uncollectible.
14
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
Loan origination and commitment fees are recorded as income when received and
loan origination costs are expensed as incurred. The Bank has not adapted SFAS
No. 91, "Accounting for Non-refundable Fees and Costs Associated with
originating or Acquiring Loans and Initial Direct costs of Leases", because the
effect of adoption is not material to the consolidated financial statements.
The Company defines a loan as impaired when it is probable the Company will be
unable to collect principal and interest payments due in accordance with the
terms of the loan agreement. Imp' loans that have been separately identified for
evaluation be measured based on the present value of expected future cash flows
or, alternatively, the observable market price of the loans or the fair' value
of the collateral. However, for those loans that are collateral dependent (that
is, if repayment of those loans is expected to be provided solely by the
underlying collateral) and for which management has determined foreclosure is
probable, the measure of impairment of those loans is to be based on the fair
value of the collateral.
Interest on loans is recognized over the terms of the loans arid is calculated
using the simple interest method on principal amounts outstanding. Accrual of
interest is generally stopped when a loan is greater than three months past due.
Interest on these loans is recognized only when actually paid by the borrower if
collection of the principal is likely to occur. Accrual of interest is generally
resumed when the customer is current on all principal and interest payments and
has been paying on a timely basis for a period of time.
Foreclosed Real Estate
Real estate acquired in the settlement of loans is carried at the lower of the
unpaid loan balance plus settlement costs or estimated fair market value less
selling cost. The carrying value of individual properties is periodically
evaluated and reduced to the extent cost exceeds estimated fair value less
selling costs. Costs of developing and improving such properties are
capitalized. Expenses related to holding such real estate, net of rental and
other income, are charged against income as incurred.
Premises and Equipment
Land is carried at cost. Office buildings, improvements, furniture, and
equipment are carried at cost less accumulated depreciation.
Depreciation is computed on a straight-line basis over the estimated useful
lives of 7 to 33 years for office buildings and improvements, and 5 to 7 years
for furniture and equipment.
Cash Equivalents and Cash Flows
Cash equivalents primarily represent amounts on deposit at other financial
institutions and highly liquid financial instruments with original maturities at
the date of purchase of three months or less. Cash flows from loans, deposits,
short term borrowings and FHLB advances are reported net.
Earnings per Share
Earnings per share are based upon the weighted average number of common shares
and common stock equivalents, if dilutive, outstanding during the period. The
only common stock equivalents are stock options. The weighted average number of
common stock equivalents is calculated using the treasury stock method.
The earnings per share for 1995 were computed by dividing net income ($571,604)
from the date of conversion, March 31, 1995, to the end of the year, June 30,
1995, by the weighted average common stock shares outstanding (1,646,170) for
the period. Pro forma earnings per common share were computed by dividing net
income ($1,715,147) for the year ended June 30, 1995, by the weighted average
common stock shares outstanding (1,646,170) for the period. This computation
does not reflect the pro forma effects of the investment income that would have
been received had the net proceeds from the stock offering been received at the
beginning of the year.
15
<PAGE>
Income taxes
Deferred taxes are provided on an asset and liability method whereby deferred
tax assets are recognized for deductible temporary differences and operating
loss or tax credit carry forwards and deferred tax liabilities are recognized
for taxable temporary differences. Temporary differences are the differences
between the amounts of assets and liabilities recorded for income tax and
financial reporting purposes. Deferred tax assets are reduced by a valuation
allowance when management determines that it is more likely than not that some
portion or all of the deferred tax assets will not be realized. Deferred tax
assets and liabilities are adjusted for the effects of changes in tax laws and
rates on the date of enactment.
Impact on Recently Issued Statements of Financial Accounting Standards
The Financial Accounting Standards Board (FASB) has issued SFAS No.
125."Accounting for Transfers and Servicing of Financial Assets and
Extinguishment of Liabilities" and SFAS No. 127 "Deferral of the Effective Date
of Certain Provisions of Statement No. 125. "SFAS No. 123 provides accounting
and reporting standards for transfers and servicing of financial assets and
extinguishment of liabilities based on control of the underlying financial
assets. The provisions of SFAS No. 125 including those applicable to the
servicing of financial assets were effective as of January 1, 1997. The impact
of these provisions on the consolidated financial statements was not material.
Other provisions of SFAS No. 125, including those applicable to transfers of
financial assets and extinguishment of liabilities, are effective as of January
1, 1999. The impact of these provisions on the consolidated financial statements
is not expected to be material.
SFAS No. 128, "Earnings per Share", was issued in February 1997. Effective for
QCF Bancorp, Inc. as of December 31, 1997, SFAS No. 128 replaces the primary
earnings per share ("EPS") disclosures with basic and diluted EPS disclosures to
simplify the calculation and improve international comparability. Statement No.
128 requires the presentation of earnings per share by all entities that have
common stock or potential common stock, such as options, warrants and
convertible securities, outstanding that trade in a public market. Those
entities that have only common stock outstanding are required to present basic
EPS amounts. All other entities are required to present basic and diluted EPS
amounts. Diluted EPS amounts assume the conversion, exercise or issuance of all
potential common stock instruments unless the effect is to reduce a loss or
increase the income per common share from continuing operations. All entities
required to present per-share amounts must initially apply Statement No. 128 for
annual and interim periods ending after December 15, 1997. Earlier application
is not permitted. The adoption of the is standard is not expected to effect the
historical trends in reported earnings per share.
In June 1997, the FASB issued Statement of Financial Accounting Standards No.
130, "Reporting Comprehensive Income" ("SFAS No. 130") SFAS No. 130 requires
that all items that are components of comprehensive income (defined as "the
change in equity {net assets} of a business enterprise during a period from
transactions and other events and circumstances from nonowner sources. It
includes all changes in equity during a period except those resulting from
investments by owners and distributions to owners", be reported in a financial
statement that is displayed with the same prominence as other financial
statements. Companies will be required to (a) classify items of other
comprehensive income by this nature in a financial statement and (b)display the
accumulated balance of other comprehensive income separately from retained
earnings and additional paid-in capital in the equity section of a statement of
financial position. SFAS No. 130 is effective for fiscal years beginning after
December 13, 1997. and requires reclassification of prior periods presented. As
the requirements of SFAS No. 130 are disclosure-related, its implementation will
have no impact on the Company's financial condition or results of operations.
In June 1997, the FASB issued Statement of Financial Accounting Standards No.
131, "Disclosure about Segments of an Enterprise and Related Information. "
("SFAS No. 131") requires that enterprises report certain financial and
descriptive information about operating segments in complete sets of financial
statements of the Company and in condensed financial statements of interim
periods issued to shareholders. It also requires that a Company report certain
information about their products and services, geographic areas in which they
operate, and their major customers. SFAS No. 131 is effective for fiscal years
beginning after December 15, 1997. As the requirements of SFAS No. 131 are
disclosure related, its implementation will have no impact on the Company's
financial condition or results of operations.
16
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
Reclassifications
Certain prior year amounts have been reclassified to conform with the 1997
presentation.
(3) Securities Available for Sale
Securities available for sale at June 30, 1997 and June 30, 1996 are summarized
as follows:
June 30, 1997
Gross Gross
Amortized unrealized unrealized Fair
Cost gains losses value
------------------------------------------------
Collateralized mortgage
obligations $14,969,882 11,397 (343,326) 14,637,953
U.S. government and
agency securities 8,000,000 0 (83,700) 7,916,300
Corporate bonds and
notes 1,152,410 2,365 (6,526) 1,148,249
Preferred stocks 1,237,382 46,993 (1,250) 1,283,125
$25, 359,674 60,755 (434,802) 24,985,627
June 30, 1996
Gross Gross
Amortized Unrealized Unrealized Fair
cost gains losses value
------------------------------------------------
Collateralized mortgage
obligations $17,279,701 1,791 (815,297) 16,466,201
U.S. government and
agency securities 13,000,000 0 (208,375) 12,791,625
Corporate bonds and
notes 1,727,476 0 (31,002) 1,696,474
Preferred stocks 1,275,863 518 (8,881) 1,267,500
$ 33,283,046 2,309 (1,063,555) 32,221,800
Collateralized mortgage obligations presented in the table above aggregating to
$992,361 and $1,194,356(cost) at June 30, 1997 and 1996, respectively have been
issued by private issuers and are not guaranteed or insured by the U.S.
government.
17
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
The amortized cost and fair value of securities available for sale at June 30,
1997, by maturity, are shown below. Expected maturities will differ from
contractual maturities because borrowers may have the right to call or prepay
obligations with or without call or prepayment penalties. The allocation of
Collateralized mortgage obligations is based upon the anticipated average lives
of the securities using estimated mortgage prepayment speeds.
June 30, 1997
Amortized
cost Fair value
(in thousands)
Due within one year $ 12,965 12,747
Due after one year
through five years 11,158 10,956
Due after five years
through ten years 0 0
No stated maturity 1,237 1,283
$25,360 24,986
There were no sales of securities available for sale during the three years
ended June 30, 1997.
Accrued interest receivable on securities available for sale aggregated to
$201,005 and $261,084 at June 30, 1997 and 1996, respectively.
(4) Securities Held to Maturity
Securities held to maturity at June 30, 1997 and June 30, 1996 are summarized
as follows:
June 30, 1997
Gross Gross
Amortized unrealized unrealized Fair
cost gains losses value
------------------------------------------------
Mortgage-backed
securities $3,598,753 27,836 (16,054) 3,610,535
Collateralized mortgage
obligations 26,139,503 195,842 (66,947) 26,268,389
U.S. government and
agency obligations 26,413,704 91,188 (56,733) 26,448,159
Corporate bonds
and notes 1,960,839 46,669 (0) 2,007,508
$58,112,799 361,535 (139,743) 58,334,591
18
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
June 30, 1996
Gross Gross
Amortized unrealized unrealized Fair
cost gains losses value
------------------------------------------
Mortgage-backed
securities $4,164,043 34,733 (35,106) 4,163,669
Collateralized mortgage
obligations 29,308,904 128,105 (210,009) 29,227,000
U.S. government and
agency obligations 21,314,009 72,445 (170,093) 21,216,362
Corporate bonds
and notes 2,174,084 33,951 (3,856) 2,204,179
$56,961,040 269,234 (419,064) 56,811,210
Collateralized mortgage obligations presented in the tables above aggregating ot
$2,022,092 and $2,385,994 (cost) at June 30, 1997 and 1996 respectively have
been issued by private issuers and are not guaranteed or insured by the U.S.
government.
The carrying amount and fair value of securities held to maturity at June 30,
1997, by maturity, are shown below. Expected maturities will differ from
contractual maturities because borrowers may have the right to call or prepay
obligations with or without call or prepayment penalties. The allocation of
mortgage-backed securities and collateralized mortgage obligations is based upon
the anticipated average lives of the securities using estimated mortgage
prepayment speeds.
June 30, 1997
Amortized Fair
cost value
(in thousands)
Due within one year $10, 027 10,042
Due after one year through
five years 44,274 44,471
Due after five years
through ten years 3,812 3,822
Due after ten years 0 0
$58,113 58,335
There were no sales of securities held to maturity during the three years ended
June 30, 1997.
Accrued interest receivable on securities held to maturity aggregated $661,685
and $574,785 at June 30, 1997 and 1996, respectively.
19
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
(5) Loans Receivable
Loans receivable at June 30, 1997 and 1996 are summarized as follows:
June 30
1997 1996
Residential one-to-four family
mortgage loans $31,888,499 28,207,901
Multifamily mortgage loans 895,364 1,157,815
Commercial real estate loans 1,447,834 896,630
Consumer loans 18,291,160 16,304,510
Commercial loans 10,066,789 7,183,197
62,589,646 53,750,053
Less:
Allowance for losses (1,314,174) (1,331,352)
Loans in process (73,171) (57,480)
$61,202,301 52,361,221
The weighted average annual contractual interest rate for all loans was 8.82%
and 8.80% at June 30, 1997 and 1996, respectively.
Non-accrual loans totaled $224,842 and $297,268 at June 30, 1997 and 1996,
respectively. There were no restructured loans at June 30, 1997 and 1996.
Non-accrual loans are the only loans that are considered to be impaired under
the criteria established by SFAS No. 114 and SFAS No. 118. The related allowance
for credit losses as of June 30, 1997 was $30,621. The average investment in
impaired loans during fiscal 1997 was $281,500.
The effect of impaired loans on interest income for the years ended June 30,
1997, 1996 and 1995 were:
There are no material commitments to lend additional funds to customers whose
loans were classified as non- accrual.
The aggregate amount of loans to directors and executive officers of the Bank
were $50,329 and $32,433 at June 30, 1997 and 1996, respectively. Such loans
were made in the ordinary course of business on normal credit terms, including
interest rate and collateralization and do not represent more than normal risk
of collection.
Accrued interest receivable on loans receivable at June 30, 1997 and 1996 was
$448,089 and $387,844, respectively.
The Bank grants loans to customers who live primarily in northeastern Minnesota.
Although the Bank has a diversified loan portfolio a substantial portion of its
debtors' ability to honor their contracts is dependent upon local economy which
is concentrated in the iron mining and wood products industries.
20
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
At June 30, 1997 and 1996 Bank was servicing loans for others with aggregate
unpaid principal balances of approximately $2,899,003 and $166,458 respectively.
(6) Allowance for Loan Losses
Activity in the allowance for loan losses is summarized as follows:
Balance at June 30, 1994 $1,389,474
Provision for losses 0
Charge-offs (18,446)
Recoveries 3,931
Balance at June 30, 1995 1,374,959
Provision for losses 0
Charge-offs (53,562)
Recoveries 9,955
Balance at June 30, 1996 1,331,352
Provision for losses 0
Charge-offs (44,013)
Recoveries 26,835
Balance at June 30, 1997 $1,314,174
(7) Foreclosed Real Estate
Foreclosed real estate, included in other assets, consisted of the following:
June 30
1997 1996
Real estate in judgment $38,387 6,085
Less allowance for losses 0 0
$38,387 6,085
(8) Premises and Equipment
A summary of premises and equipment at June 30, 1997 and 1996 is as follows:
June 30
1997 1996
Land $90,800 0,800
Office buildings and improvements 1,085,715 1,088,090
Furniture and equipment 873,724 822,530
2,050,239 2,001,420
Less accumulated depreciation (1,625,630) (1,560,684)
$ 424,609 440,736
21
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
(9) Deposits
Deposits and weighted-average interest rates at June 30, 1997 and 1996 are
summarized as follows (dollar amounts in thousands)
June 30
1997 1996
Weighted Weighted
Average Average
Amount Rate Amount Rate
Passbook $25,317 2.50% 23,562 2.50%
Demand deposits 13,506 0.61 11,908 0.63
Money market 9,320 2.55 8,066 2.55
Certificates 55,538 5.28 45,296 5.25
$103,681 $ 88,832
At June 30, 1997 and 1996, the Bank had $5,023,000 and $0, respectively, of
deposit accounts with balances of $100,000 or more. Deposit balances greater
than $100,000 are not insured. The Bank did not have any brokered deposits at
June 30, 1997 or 1996.
Interest expense on deposits is summarized as follows:
Year ended June 30
1997 1996 1995
Passbook $598,475 652,217 710,492
Demand deposits 117,637 126,888 139,000
Money market 223,508 235,323 271,000
Certificates 2,924,527 2,899,588 2,624,044
$3,864,147 3,914,016 3,744,536
Certificates had the following remaining maturities (dollar amounts in
thousands)
June 30, 1997
Weighted
Average
Amount rate
Less than 3 months $10,433 4.12%
3-12 months 16,383 4.78
13-36 months 22,380 6.01
Over 36 months 6,342 5.91
$55,538 5.28
At June 30, 1997 and 1996 no securities were pledged as collateral for deposits.
22
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
(10) Short-term Borrowings
Short-term borrowings consist of sales of securities under agreements to
repurchase the identical securities. The agreements generally mature within 180
days and bear a weighted average interest rate of 3.56% at June 30, 1997.
The agreements are treated as financings with the obligations to repurchase
securities reflected as a liability and the dollar amount of the securities
collateralizing the agreements remaining in the asset accounts. The securities
collateralizing the agreements are in safekeeping at the Federal Home Loan Bank
of Des Moines in the Bank's account. At June 30, 1997, the agreements were
collateralized by securities with a carrying value of $15,631,513 and an
approximate market value of $15,670,527. At June 30, 1996 the agreements were
collateralized by securities with a carrying value of $29,332,063 and an
approximate market value of $28,977,122.
Federal Home Loan Bank advances totaled $8,100,000 and $3,000,000 at June 30,
1997 and 1996, respectively. The advances have an average maturity of 14 months
and 5 months and an average rate of 5.81% and 5.80% at June 30,1997 and 1996,
respectively. The advances are collateralized by the Bank's Federal Home Loan
Bank stock, mortgage loans and government agency securities.
(11) Income Taxes
Federal and state income tax expense is as follows:
Year ended June 30
1997 1996 1995
Current:
Federal $1,075,100 1,149,400 878,022
State 338,000 360,300 272,478
Total current 1,413,100 1,509,700 1,150,500
Deferred:
Federal (78,900) 17,400 11,820
State (26,200) 5,900 3,680
Total deferred (105,100) 23,300 15,500
$1,308,000 1,533,000 1,166,000
The actual income tax expense differs from the "expected" income tax expense
computed by applying the U.S. federal corporate tax rate to income before taxes
as follows:
23
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
Year Ended June 30
1997 1996 1995
Federal "expected" income tax expense $1,128,546 1,314,665 979,590
Items affecting federal income tax:
Preferred stock dividends (22,696) (24,317) 0
State income taxes, net of federal
income tax benefit 206,010 241,692 182,258
Other, net (3,860) 960 4,152
$1,308,000 1,533,000 1,166,000
Effective income tax rate 39.4% 39.6 40.5
The tax effects of temporary differences that give rise to the deferred tax
assets and deferred tax liabilities at June 30, 1997 and 1996 are as follows:
Year Ended June, 30
1997 1996
Deferred tax assets:
Allowance for unrealized losses on securities
available for sale $ 151,191 $424,496
Allowance for loan losses 86,793 98,246
Deferred compensation 205,985 189,748
Supplemental executive retirement plan 183,172 104,326
Other 0 32,114
$ 627,141 $848,930
Deferred tax liabilities:
Federal Home Loan Bank stock $ 76,225 70,815
Premises and equipment 18,847 19,879
Other 12,769 26,840
107,841 117,534
Net deferred tax asset $ 519,300 731,396
No valuation allowance was required for deferred tax assets at June 30, 1997 or
1996.
Retained earnings at June 30, 1997 includes approximately $2,270,000 for which
no provision for federal income tax has been made. This amount represents
allocations of income to bad debt deductions for tax purposes. Reduction of the
amount so allocated for purposes other than to absorb losses will create income
for tax purposes, which will be subject to the then- current corporate income
tax rate.
(12) Commitments and Contingencies
The Bank is a party to financial instruments with off balance sheet risk in the
normal course of business to meet the financing needs of its customers. These
financial instruments include commitments to extend credit and standby letters
of credit. These instruments involve. to varying degrees, elements of credit,
interest rate and liquidity risk in excess of the amount recognized in the
accompanying statements of financial condition.
The Bank's exposure to credit loss in the event of nonperformance by the other
party to the financial instrument for commitments to extend credit and standby
letters of credit written is represented by the contractual amount of those
instruments. The Bank uses the same credit policies in making commitments and
conditional obligations as it does for on-balance sheet instruments.
24
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
Commitments to extend credit are agreements to lend to a customer provided there
is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since certain of the commitments may expire without
being drawn upon, the total commitment amounts do not necessarily represent
future cash requirements. The Bank evaluates each customers' creditworthiness on
a case-by-case basis. The amount of collateral obtained, if deemed necessary by
the Bank upon extension of credit, is based on the loan type and on management's
evaluation of the borrower. Collateral consists primarily of residential real
estate and personal property. The Bank had outstanding commitments to extend
credit of $2,113,765 and $136,250 at June 30, 1997 and 1996, respectively.
Standby letters of credit are conditional commitments issued by the Bank
guaranteeing the performance of a customer to a third party. The standby letters
of credit are primarily issued to support private borrowing arrangements, and
expire within the next fiscal year. The credit risk involved in issuing standby
letters of credit is essentially the same as that involved in making loans to
customers. The amount of collateral the Bank obtains to support standby letters
of credit is based on management's credit evaluation of the borrower. Since the
conditions under which the Bank is required to fund standby letters of credit
may not materialize, the cash requirements are expected to be less than the
total outstanding commitments. The Bank had outstanding standby letters of
credit of $247,000 and $157,400 at June 30, 1997 and 1996, respectively.
(13) Regulatory Capital Requirements
The Bank as a member of the Federal Home Loan Bank System is required to hold a
specified number of shares of capital stock, which is carried at cost, in the
Federal Home Loan Bank of Des Moines. In addition, the Bank is required to
maintain cash and liquid assets in an amount equal to 5% of its deposit accounts
and other obligations due within one year. The Bank has met these requirements.
Federal savings institutions are required to satisfy three capital requirements:
(i) a requirement that "tangible capital" equal or exceed 1.5% of adjusted total
assets, (ii) a requirement that "core-capital" equal or exceed 3% of adjusted
total assets, and (iii) a risk-based capital standard of 8% of "risk-adjusted
assets". Failure to meet these requirements can initiate mandatory and possibly
additional discretionary actions by regulators that, if undertaken, could have a
direct material affect on the Bank's financial statements. The Bank's capital
amounts and classification are also subject to qualitative judgements by the
regulators about components, risk weighting, and other factors. As of June 30,
1997, the most recent notification from the Federal Deposit Insurance
Corporation categorized the Bank as well capitalized under the regulatory
framework for prompt corrective action. There are no conditions or events since
that notification that management believes have changed the Bank's category.
The following table sets forth the Bank's calculation of tangible, core and
risk-based capital and applicable percentages of adjusted assets at June 30,
1997 together with the excess over the minimum capital requirements.
Actual Required Excess
(Dollars in thousands) ---------------------------------------------------
Amount Percent Amount Percent Amount Percent
Tangible capital $16,917 11.68% $ 2,172 1.50% $14,745 10.18%
Core capital 16,917 11.68 4,345 3.00 12,572 8.68
Plus allowed portion of general
allowance for loan losses ---------------------------------------------------
810
Risk-based capital $17,727 27.58 5,142 8.00 12,585 19.58
---------------------------------------------------
25
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
(14) Employee Benefits
During fiscal 1995 the Company adopted an Employee Stock Ownership Plan (the
ESOP) which met the requirements of Section 4975(e)(7) of the Internal Revenue
Code and Section 407(d)(6) of the Employee Retirement Income Security Act of
1974, as amended (ERISA), and as such the ESOP was empowered to borrow in order
to finance purchases of the common stock of the Company. The ESOP borrowed
$1,426,200 from the Company to purchase 142,620 shares of common stock of the
Company on the date of the conversion. The Bank has committed to make annual
contributions to the ESOP necessary to repay the loan including interest. The
Bank contributed $224,961, $302,957 and $167,744 to the ESOP for the years ended
June 30, 1997 and 1996 respectively.
As the debt is repaid, ESOP shares which were initially pledged as collateral
for its debt, are released from collateral and allocated to active employees,
based on the proportion of debt service paid in the year. The Company accounts
for its ESOP in accordance with Statement of Position 93-6, "Employers
Accounting for Employee Stock Ownership Plans". Accordingly, the shares pledged
as collateral are reported as unearned ESOP shares in stockholders' equity. As
shares are determined to be ratably released from collateral, the Company
reports compensation expense equal to the current market price of the shares,
and the shares become outstanding for earnings per share computations. ESOP
compensation benefit expense for 1997, 1996 and 1995 was $175,503, $175,611 and
$132,089, respectively.
All employees of the Bank are eligible to participate in the ESOP after they
attain age 21 and complete one year of service during which they worked at least
1,000 hours. In 1997, the company committed to release 10,262 shares of common
stock which were allocated to eligible participants subject to the restrictions
of the ESOP.
Shares released and allocated 34,549
Unreleased shares 108,071
Total ESOP shares 142,620
Fair value of unreleased shares at June 30, 1997 $2,296,508
On January 6, 1994, the Bank adopted a defined contribution retirement savings
plan covering all employees with at least one year of service. The Bank's
portion of the retirement savings plan contribution was $15,156 for the year
ended June 30, 1995. The plan was suspended on December 31, 1994 and no future
contributions are expected to be made to it until the ESOP loan has been paid in
full.
The Bank has individual deferred compensation and supplemental retirement
agreements with certain directors and officers. The cost of such individual
agreements is being accrued over the period of actual service from the date of
the respective agreement. The cost of such agreements was $205,047, $178,574,
and $176,218 for the years ended June 30, 1997, 1996, and 1995, respectively.
The agreements are funded through a grantor trust with assets which match the
investment options selected by the directors and officers. Increases(decreases)
in the value of the trust assets are recorded as increases(decreases) in the
related liability accounts. The assets of the trust are included under "prepaid
expenses and other assets" and the corresponding liabilities are included under
"accrued expenses and other liabilities" on the consolidated statement of
financial condition.
The Company established the Management Recognition Plan (MRP) for directors and
key officers during the year ended June 30, 1995. Following shareholder approval
of the MRP on October 11, 1995, the Bank purchased 78,441 shares of the
Company's common stock in the open market at $14.46 per share, of which 71,310
were granted to directors and officers in accordance with the provisions of the
MRP The cost of the shares awarded under the plan is recorded as unearned
compensation, a contra equity account, and are recognized as an expense in
accordance with the vesting requirements under the plan. For the fiscal year
ended June 30, 1997 and 1996, the amount included in compensation expense was
$197,885 and $148,414 respectively.
The Company established a stock option plan for directors, officers and
employees. The stock option plan was approved by shareholders on October 11,
1995, and in accordance with the terms of the plan, the exercise
26
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
price was established at the fair market price on the date of shareholder
approval of $13.875 per share. Awards made under the plan may be incentive stock
options as defined by Section 422 of the Internal Revenue Code of 1986 or
options that do not qualify. Under the plan 178,275 options were available for
grant and 160,448 options were granted in 1995. 32,091 options were eligible to
be exercised as of June 30, 1997. No options had been exercised as of June 30,
1997. All options expire on October 11, 2005.
As permitted under generally accepted accounting principles, grants under the
plan are accounted for following the provisions of APB Opinion No. 25 and its
related interpretaions. Accordingly, no compensation cost has been recognized
for grants made to date. Had compensation cost been determined based on the
(fair)(minimum) value method prescribed in the FASB Statement No. 123, reported
net income (and earnings per share) would have been reduced to:
Year ended June 30 Net income Per share
1997 $1,888,854 1.47
1996 2,211,263 1.37
1995 1,715,147 1.04
In determining the pro forma amounts above, the value of each grant is estimated
at the grant date using the (minimum)(fair) value method prescribed in Statement
No. 123, with the following weighted-average assumptions for grants in 1995: No
dividends; risk-free interest rate of 6.0%, expected life of 10 years, (and
expected price volatility of 14.57%).
(15) Stockholders' Equity
The Company was incorporated for the purpose of becoming the savings and loan
holding company of the Bank in connection with the Bank's conversion from a
federally chartered mutual savings bank to a federally chartered stock savings
bank, pursuant to a Plan of Conversion adopted on October 25, 1994.
The Company commenced on February 10, 1995, a Subscription and Community
Offering of its shares in connection with the conversion of the Bank (the
Offering). The Offering was closed on March 17, 1995 and the conversion was
consummated on March 31, 1995, with the issuance of 1,782,750 shares of the
Company's common stock at a price of $10 per share. Total proceeds from the
conversion of $16,998,000 net of costs relating to the conversion of $829,500,
have been recorded as common stock and additional paid-in capital. The Company
purchased all of the capital stock of the Bank in exchange for 50% of the net
proceeds of the conversion.
The Company's articles of incorporation authorized the issuance of up to
1,000,000 shares of preferred stock but to date no shares have been issued.
In order to grant a priority to eligible account holders in the event of future
liquidation, the Bank, at the time of conversion established a liquidation
account equal to its regulatory capital as of December 31, 1994. In the event of
future liquidation of the Bank, an eligible account holder who continues to
maintain their deposit account shall be entitled to receive a distribution from
the liquidation account. The total amount of the liquidation account will be
decreased as the balance of eligible account holders are reduced subsequent to
the conversion, based on an annual determination of such balance.
The Bank may not declare or pay a cash dividend to the Company in excess of 100%
of its net income to date during the current calendar year plus the amount that
would reduce by one-half the Bank's surplus capital ratio at the beginning of
the calendar year without prior notice to the Office of Thrift Supervision
(OTS). Additional limitations on dividends declared or paid on, or repurchases
of, the Bank's capital stock are tied to the Bank's level of compliance with its
regulatory capital requirements.
27
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
(16) Fair Value of Financial Instruments
SFAS No. 107, "Disclosures about Fair Values of Financial Instruments," requires
disclosures of estimated fair values of the Bank's financial instruments,
including assets, liabilities and off- balance sheet items for which it is
practicable to estimate fair value. The fair value estimates are made as of June
30, 1997 and 1996 based upon relevant market information, if available, and upon
the characteristics of the financial instruments themselves. Because no market
exists for a significant portion of the Bank's financial instruments, fair value
estimates are based upon judgments regarding future expected loss experience,
current economic conditions, risk characteristics of various financial
instruments, and other factors. The estimates are subjective in nature and
involve uncertainties and matters of significant judgment and therefore cannot
be determined with precision. Changes in assumptions could significantly affect
the estimates.
Fair value estimates are based only on existing financial instruments without
attempting to estimate the value of anticipated future business or the value of
assets and liabilities that are not considered financial instruments. In
addition, the tax ramifications related to the realization of the unrealized
gains and losses can have a significant effect on the fair value estimates and
have not been considered in any of the estimates.
The estimated fair value of the Bank's financial instruments are shown below.
Following the table, there is an explanation of the methods and assumptions used
to estimate the fair value of each class of financial instruments.
June 30
1997 1996
Carrying Estimated Carrying Estimated
(in thousands) Amount Fair Value Amount Fair Value
Financial assets:
Cash and cash equivalents $7,774 7,774 4,735 4,735
Securities available
for sale 24,986 24,986 32,222 32,222
Securities held to maturity 58,113 58,335 56,961 56,811
Loans receivable, net 61,202 45,583 52,361 52,275
Federal Home Loan
Bank Stock 554 554 554 554
Accrued accounts receivable 1,311 1,311 1,224 1,224
Financial liabilities:
Deposits 103,681 114,022 88,832 88,742
Short-term borrowings 22,140 22,076 29,264 29,998
Accrued interest payable 1,071 1,071 1,013 1,013
Cash and Cash Equivalents
The carrying amount of cash and cash equivalents approximates their fair value.
Securities Available for Sale and Securities Held to Maturity
The fair value of securities are based upon quoted market prices.
Loans Receivable
The fair value of loans receivable were estimated for groups of loans with
similar characteristics. The fair value of the loan portfolio, was calculated by
discounting the scheduled cash flows through the estimated maturity using
anticipated prepayment speeds and using discount rates that reflect the credit
and interest rate risk inherent in each loan portfolio. The fair value of the
adjustable loan portfolio was estimated by grouping the loans with similar
characteristics and comparing the characteristics of each group to the prices
quoted for similar types of loans in the secondary market.
28
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
Federal Home Loan Bank Stock
The carrying amount at FHLB stock approximates its fair value.
Accrued Interest Receivable
The carrying amount of accrued interest receivable approximates its fair value
since it is short-term in nature and does not present unanticipated credit
concerns.
Deposits
The fair value of deposits with no stated maturity such as checking, savings and
money market accounts, is equal to the amount payable on demand. The fair value
of certificates of deposit is based on the discounted value of contractual cash
flows using as discount rates the rates that were offered by the Bank as of June
30, 1997 and 1996 for deposits with maturities similar to the remaining
maturities of the existing certificates of deposit.
The fair value estimate for deposits does not include the benefit that results
from the low cost funding provided by the Bank's existing deposits and long-term
customer relationships compared to the cost of obtaining different sources of
funding. This benefit is commonly referred to as the core deposit intangible.
Short-term Borrowings
The fair value of short-term borrowings due on demand, is equal to the amount
payable on demand. The fair value of other short-term borrowings is based on the
discounted value of contractual cash flows using as discount rates the rates
that were available to the Bank as of June 30, 1997 and 1996 for short-term
borrowings with maturities similar to the remaining maturities of the existing
short-term borrowings.
Accrued Interest Payable
The carrying amount of accrued interest payable approximates its fair value
since it is short-term in nature.
(17) QCF Bancorp, Inc. Financial Information (Parent Company Only)
The parent company's principal assets are its investment in the Bank and its
savings deposits at the Bank. The following are the condensed financial
statements for the parent company only as of June 30, 1997 and 1996.
June 30
Condensed Balance Sheets 1997 1996
Assets:
Cash and cash equivalents $1,826,158 0
Securities available for sale 8,484,571 9,250,806
Investment in subsidiary 16,783,814 20,942,550
Other assets 372,743 437,109
Total assets $27,467,286 30,630,465
Liabilities:
Cash overdraft 0 945,668
Stockholders' equity: 27,467,286 29,684,792
Total liabilities and
stockholders' equity 27,467,286 30,630,465
29
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
Year Ended June 30
1997 1996 1995
Condensed Statements of Income
Interest income $ 722,139 739,706 94,939
Equity in earnings of subsidiary 1,610,787 2,358,885 1,661,741
Other (140,672) (779,929) (5,532)
Income before income tax expense 2,192,254 2,318,662 1,751,147
Income tax expense (benefit) 181,000 (15,000) 36,000
Net income $2,011,254 2,333,662 1,715,147
Condensed Statements of Cash Flows
Operating activities:
Net income $2,011,254 2,333,662 1,715,147
Equity in earnings of subsidiary (1,610,787) (2,358,885)(1,661,741)
Distributions of earnings of subsidiary 6,000,000 0 5,000,000
Amortization of Unearned ESOP shares 175,503 175,611 132,089
Amortization of MRP 197,885 148,414 0
(Decrease)increase in liabilities (945,668) 945,668 0
Decrease in other assets (56,914) (327,326) (109,783)
Net cash provided by operating activities 5,771,273 917,144 5,075,712
Investing activities:
Purchase of securities available for sale 0 (10,006,363) 0
Principal collected from securities
available for sale 1,071,042 687,264 0
Net cash provided by (used in)
investing activities 1,071,042 (9,319,099) 0
Financing activities:
Proceeds from sale of common stock 0 0 16,998,000
Increase in unearned ESOP shares 0 0 (1,426,200)
Purchase of Bank stock 0 0 (8,499,000)
Increase in stock option trust (2,239,040) 0 0
Purchase of treasury stock (2,777,117) (3,746,557) 0
Net cash provided by (used in)
financing activities (5,016,157) (3,746,557) 7,072,800
Increase(decrease) in cash and
cash equivalents 1,826,158 (12,148,512)12,148,512
Cash and cash equivalents, beginning
of period 0 12,148,512 0
Cash and cash equivalents, end
of period $1,826,158 0 12,148,512
30
<PAGE>
QCF BANCORP, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements, Continued
(18) Quarterly Financial Data (Unaudited)
Summarized quarterly financial data (in thousands of dollars except for per
share amounts) for fiscal 1997 and 1996 are as follows:
Three Months Ended
Selected Operations Data ------------------------------------------
6/30/97 3/31/97 12/31/96 9/30/96
Interest income $ 2,726 2,627 2,692 2,657
Interest expense 1,196 1,137 1,175 1,165
Net interest income 1,530 1,490 1,517 1,492
Non-interest income 169 128 134 135
Non-interest expense 678 674 544 1,381
Income tax expense 402 370 436 100
Net income $ 619 574 671 147
Earnings per common share $ .49 .45 .55 .11
High stock price 20.25 19.75 18.25 15.75
Low stock price 20.38 18.75 16.25 15.00
6/30/96 3/31/96 12/31/95 9/30/95
------------------------------------------
Interest income $ 2,620 2,646 2,742 2,649
Interest expense 1,106 1,141 1,223 1,107
Net interest income 1,514 1,497 1,519 1,542
Non-interest income 147 115 101 117
Non-interest expense 663 693 676 654
Income tax expense 382 371 374 406
Net income 615 548 571 600
Earnings per common share $.40 .33 .34 .36
High stock price 15.25 14.88 15.00 14.50
Low stock price 14.00 14.38 14.25 13.00
Selected Financial Condition Data 6/30/97 3/31/97 12/31/96 9/30/96
------------------------------------------
Total assets $ 156,727 149,637 146,922 148,321
Investment securities 83,098 81,889 80,493 87,278
Net loans 61,202 58,465 57,665 55,744
Deposits 103,681 104,946 102,84 81,794
Short-term borrowings 20,140 15,850 15,746 37,905
Stockholders' equity 27,423 27,070 26,760 26,161
6/30/96 3/31/96 12/31/95 9/30/95
------------------------------------------
Total assets $ 150,430 145,608 161,23 153,695
Investment securities 89,183 89,787 105,236 99,726
Net loans 52,361 49,938 48,357 47,118
Deposits 88,832 105,083 103,71 105,037
Short-term borrowings 29,264 7,04 24,292 15,019
Stockholders' equity 29,685 31,760 31,465 31,474
<PAGE>
STOCKHOLDERS' INFORMATION
Annual Meeting Stock Listing
The annual meeting of shareholders QCF's common stock is listed on
will be held on Wednesday, the NASDAQ National Market System with
October 8, 1997 at 9:00 A. M. at a ticker symbol of QCFB.
the executive office of the Company. Stockholders of record: 360
Executive Office Form lO-KSB
QCF Bancorp, Inc. QCF's Form lOKSB is filled with the
501 Chestnut Street Securities and Exchange Commission and
Virginia, MN 55792-1147 is available without charge upon request
(218) 741-2O4O from: QCF Bancorp, Inc.
Attn: Investor Relations
Independent Auditors P.O. Box 1147
McGladrey & Pullen Virginia, MN 55792
227 West First Street
Duluth, MN 55802
Transfer Agent & Registrar
Investor Information Inquiries regarding change of address,
QCF Bancorp, Inc. transfer requirements, lost certificates
Investor Relations should he directed to the transfer agent:
P.O. Box 1147 Registrar and Transfer Company
Virginia, MN 55802 10 Commerce Drive
Cranford, New Jersey 07016
1-800-368-5948
Directors and Officers:
Directors: Executive Officers:
Philip K. Schumacher Kevin C. Pietrini
Chairman of the Board President
President of Arrowhead Health
Care Center
Kevin V. Pietrini Daniel P. Schultz
President and Chief Vice President and Treasurer
Executive Officer
Robert A. Muhich Linda M. Myklebust
Computer Consultant Vice President
Culbert Realty & Appraisal Service
John A. Trenti Gerald D. Mckenna
Attorney at the Trenti Law Firm Vice President
Peter J. Johnson Branch Offices:
President of Hoover Construction Thunderbird Mall
Virginia, MN 55792
Craig W. Nordling
Line Department Manager 102 East Sheridan Street
Lake Country Power Ely, MN 55731
John C. Pearsall
Partner with Mesabi Dental Service
<PAGE>
EXHIBIT 21
Subsidiaries of the Registrant
State or Other
Jurisdiction of Percentage
Incorporation Ownership
Parent
QCF Bancorp, Inc. Minnesota
Subsidiary (1)
Queen City Federal Savings Bank United States 100%
Subsidiaries of Queen City Federal Savings Bank (1)
Queen City Service Corporation Minnesota 100%
________________
(1)
The assets, liabilities and operations of the subsidiaries are included in the
consolidated financial statements contained in the Annual Report to Stockholders
attached hereto as an exhibit.
<PAGE>
EXHIBIT 23
MCGLADREY&PULLEN; LLP RSM
Certified Public Accountants and Consultants international
INDEPENDENT AUDITOR'S REPORT
To the Board of Directors
QCF Bancorp, Inc.
Virginia. Minnesota
We have audited the accompanying consolidated statement of financial condition
of QCF Bancorp, Inc. and subsidiary (the Company) as of June 30, 1997, and the
related consolidated statements of income, stockholders' equity, and cash flows
for the year then ended. 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 audit.
We conducted our audit 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 audit provides 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 QCF Bancorp, Inc.
and subsidiary as of June30, 1997, and the results of its operations and its
cash flows for the year then ended in conformity with generally accepted
accounting principles.
We hereby consent to the incorporation by reference of this repoft included in
this Form l0-KSB in the previously filed Registration Statement of QCF Bancorp,
Inc. on Form S-8 (No.33-98154).
Duluth, Minnesota
August 18, 1997
<PAGE>
Peat Marwick LLP
4200 Norwest Center
90 South Seventh Street
Minneapolis. MN 55402
Consent of Independent Public Accountants
The Board of Directors
QCF Bancorp, Inc.:
We consent to the incorporation by reference in the registration statement (No.
33- 98154) on Form 8-8 of QCF Bancorp, Inc. of our report dated August20, 1996,
relating to the consolidated statement of financial condition of QCF Bancotp,
Inc. and subsidiary as of June 30, 1996, and the related consolidated statements
of income, stockholders' equity and cash flows for each of the years in the
two-year period ended June 30, 1996, which report appears in the June 30, 1997
annual report on Form 10-KSB of QCF Bancorp Inc.
September 17, 1997
<PAGE>
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