<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D.C. 20549
FORM 10-Q
(Mark One)
(X) Quarterly Report Pursuant to Section 13 or 15(d) of the
Securities and Exchange Act of 1934
FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 1998
( ) Transition Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the transition period from to
---------- -----------
COMMISSION FILE NUMBER 0-26632
--------------
INTERWEST BANCORP, INC.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
CHARTERED BY THE STATE OF WASHINGTON
--------------------------------------------------------------
(State or other jurisdiction of incorporation or organization)
91-1691216
------------------------------------
(I.R.S. Employer Identification No.)
275 SOUTHEAST PIONEER WAY
OAK HARBOR, WASHINGTON
----------------------------------------
(Address of principal executive offices)
98277
----------
(Zip Code)
Registrant's telephone number including area code: (360) 679-4181
---------------
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has
been subject to such filing requirements for the past 90 days.
YES x NO
----- -----
As of December 31, 1998, 15,674,457 shares of common stock were outstanding
with no par value.
<PAGE>
INTERWEST BANCORP, INC
<TABLE>
<CAPTION>
INDEX PAGE
- ----- -----
<S> <C> <C>
PART 1. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Statements of Financial Condition
as of December 31, 1998 and September 30, 1998 1
Consolidated Statements of Operations
for the three month periods ended
December 31, 1998 and 1997 2
Consolidated Statements of Shareholders' Equity
for the three month period ended December 31, 1998
and the year ended September 30, 1998 3
Consolidated Statements of Cash Flows for
the three month periods ended
Decmber 31, 1998 and 1997 4-5
Notes to Unaudited Consolidated Financial Statements 6-7
Item 2. Management Discussion and Analysis of Financial
Condition and Results of Operations 8-21
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 22
SIGNATURES 23
</TABLE>
<PAGE>
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
<TABLE>
<CAPTION>
DOLLARS IN THOUSANDS December 31, 1998 September 30, 1998
- ----------------------------------------------------------------------------------------------------------
(unaudited)
<S> <C> <C>
ASSETS
Cash and cash equivalents
Non-interest bearing $ 70,245 $ 74,018
Interest-bearing deposits in banks 16,441 107,404
Federal funds sold 14,451 19,863
Securities available for sale, at fair value 825,646 574,346
Securities held to maturity 81,654 87,262
Loans receivable, net 1,352,612 1,359,050
Loans held for sale 101,782 93,125
Interest receivable 15,796 14,991
Real estate held for sale and for development 11,812 11,996
Federal Home Loan Bank (FHLB) stock, at cost 40,232 37,496
Premises and equipment, net 51,397 50,314
Intangible assets 14,088 14,026
Other assets 5,405 3,957
----------------------------------------
Total assets $2,601,561 $2,447,848
----------------------------------------
----------------------------------------
LIABILITIES
Non-interest bearing deposits $ 188,631 $ 178,625
Interest-bearing deposits 1,351,459 1,386,200
----------------------------------------
Total deposits 1,540,090 1,564,825
FHLB advances 718,709 546,033
Securities sold under agreements to repurchase 133,992 128,613
Other liabilities 29,453 28,981
Other borrowings 4,034 7,744
----------------------------------------
Total liabilities 2,426,278 2,276,196
SHAREHOLDERS' EQUITY
Common stock, no par value
Authorized shares 30,000,000
Issued and outstanding 15,674,457 and 15,651,345 -- --
Paid-in-capital 36,715 36,512
Retained earnings 144,934 139,781
Debt related to employee stock ownership plan (ESOP) (3,935) (3,935)
Net unrealized loss on
securities available for sale, net of tax (2,431) (706)
----------------------------------------
Total shareholders' equity 175,283 171,652
----------------------------------------
Total liabilities and shareholders' equity $2,601,561 $2,447,848
----------------------------------------
----------------------------------------
</TABLE>
1
<PAGE>
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
<TABLE>
<CAPTION>
Three months ended December 31,
DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS 1998 1997
- ---------------------------------------------------------------------------------------------
<S> <C> <C>
INTEREST INCOME
Loans receivable and loans held for sale $31,773 $30,928
Securities available for sale 10,462 11,415
Securities held to maturity 1,259 1,850
Other 1,582 703
--------------------------------
45,076 44,896
INTEREST EXPENSE
Deposits 14,664 15,410
FHLB advances and other borrowings 7,890 7,337
Securities sold under agreements to repurchase 1,930 3,193
--------------------------------
24,484 25,940
Net interest income before provision for
losses on loans 20,592 18,956
Provision for losses on loans 498 275
--------------------------------
Net interest income after provision for
losses on loans 20,094 18,681
NONINTEREST INCOME
Gain on sale of loans 4,070 2,225
Service fees 2,661 2,667
Investment product fees and
insurance commissions 590 466
Gain (loss) on sale of securities available for sale (160) 191
Other 680 535
-------------------------------
7,841 6,084
NONINTEREST EXPENSE
Compensation and employee benefits 9,131 7,790
General and administrative 3,954 3,810
Occupancy 2,303 2,137
Data processing 1,084 903
Loss from real estate write-downs
and operations 301 318
--------------------------------
16,773 14,958
Income before income taxes 11,162 9,807
Income tax expense 3,794 3,398
-------------------------------
NET INCOME $7,368 $6,409
--------------------------------
--------------------------------
Basic net income per share $0.47 $0.41
--------------------------------
--------------------------------
Diluted net income per share $0.46 $0.40
--------------------------------
--------------------------------
</TABLE>
2
<PAGE>
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (UNAUDITED)
<TABLE>
<CAPTION>
Unrealized loss Debt
on securities Related
DOLLARS IN THOUSANDS, Common Stock Paid-in Retained available for To Treasury
EXCEPT SHARE DATA # of Shares Capital Earnings sale, net of tax ESOP Stock Total
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance, October 1, 1997 15,664,812 $36,110 $126,064 $(1,115) $ -- $(289) $160,770
Net income 22,642 22,642
Dividends, $0.50 per share (7,676) (7,676)
Issuance of common stock:
Stock option plans 132,993 706 706
Stock purchase plans 1,404 19 19
Purchase and retirement of
treasury stock (809) (323) 289 (34)
Debt related to ESOP (147,055) (3,935) (3,935)
Unrealized gain on securities
available for sale, net of tax 409 409
Pooling accounting adjustment (1,249) (1,249)
- ----------------------------------------------------------------------------------------------------------------------------------
Balance, September 30, 1998 15,651,345 $36,512 $139,781 $(706) $(3,935) $ -- $171,652
Net income 7,368 7,368
Dividends, $0.14 per share (2,215) (2,215)
Issuance of common stock:
Stock option plans 23,112 203 203
Unrealized loss on securities
available for sale, net of tax (1,725) (1,725)
- ----------------------------------------------------------------------------------------------------------------------------------
Balance December 31, 1998 15,674,457 $36,715 $144,934 $(2,431) $(3,935) $ -- $175,283
- ----------------------------------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
3
<PAGE>
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
<TABLE>
<CAPTION>
Three months ended December 31,
DOLLARS IN THOUSANDS 1998 1997
- ----------------------------------------------------------------------------------------------------
<S> <C> <C>
OPERATING ACTIVITIES
Net Income $7,368 $6,409
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 1,585 939
Provision for losses on loans 498 275
Loss on real estate held for sale 232 201
Accretion of premiums and discounts, net 353 248
Gain on sale of loans (4,070) (2,225)
Loss (gain) on sale of securities available for sale 160 (191)
Gain on sale of real estate held for sale and
for development (85) (102)
Loan fees deferred, net of amortization 674 217
FHLB stock dividends (734) (528)
Pooling accounting adjustment (1,114)
Cash provided (used) by changes in
operating assets and liabilities:
Interest receivable (805) (3,206)
Other assets (1,448) (887)
Other liabilities 1,407 (2,782)
-------------------------------------
Net cash provided (used) by operating activities, $5,135 $(2,746)
INVESTING ACTIVITIES
Purchase of securities available for sale (624,823) (199,921)
Proceeds from matured securities available for sale 162,969 52,675
Proceeds from sale of securities available for sale 159,073 60,146
Proceeds from matured securities held to maturity 370 21,235
Principal repayments securities available for sale 48,481 16,640
Principal repayments from securities held to maturity 5,166 2,194
Proceeds from sale of loans 140,904 57,993
Net increase in loans receivable (142,138) (94,133)
Proceeds from sale of real estate held for sale
and for development 1,762 632
Purchases of premises and equipment (2,255) (1,979)
Purchase of FHLB stock (1,863) (4,754)
Net decrease in federal funds sold 5,412 --
Improvements capitalized to real estate held for sale (531) (190)
-------------------------------------
Net cash used by investing activities $(247,473) $(89,462)
</TABLE>
4
<PAGE>
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)(continued)
<TABLE>
<CAPTION>
Three months ended December 31,
DOLLARS IN THOUSANDS 1998 1997
- ----------------------------------------------------------------------------------------------------
<S> <C> <C>
FINANCING ACTIVITIES
Net increase in deposits 25,267 9,255
Net decrease in certificates of deposit (50,002) (25,782)
Proceeds from FHLB advances, securities sold under
agreements to repurchase, and other borrowings 200,822 519,503
Repayment of FHLB advances, securities sold under
agreements to repurchase and other borrowings (26,477) (568,735)
Dividends paid (2,211) (1,291)
Issuance of common stock from exercise of stock options 203 51
----------------------------------
Net cash provided (used) by financing activities 147,602 (66,999)
----------------------------------
Net change in cash and cash equivalents (94,736) (159,207)
CASH AND CASH EQUIVALENTS
Beginning of period 181,422 235,888
----------------------------------
End of period $86,686 $76,681
----------------------------------
----------------------------------
SUPPLEMENTAL DISCLOSURE OF
CASH FLOW INFORMATION
Cash paid during the quarter for:
Interest $25,446 $27,023
Income taxes 7 2,250
Noncash transaction
Loans receivable transferred to real estate held for sale 1,194 957
</TABLE>
5
<PAGE>
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
PERIOD ENDED DECEMBER 31, 1998
NOTE A BASIS OF PRESENTATION
The unaudited consolidated financial statements include the accounts of
InterWest Bancorp, Inc. (InterWest Bancorp) and its wholly owned
subsidiaries, (collectively InterWest). As of December 31, 1998, InterWest
Bancorp's wholly owned subsidiaries were InterWest Bank, Pacific Northwest
Bank, Pioneer National Bank and Kittitas Valley Bank, N.A. All material
intercompany transactions and balances have been eliminated.
On January 15, 1998, InterWest Bancorp acquired Puget Sound Bancorp, Inc.
(Puget) of Port Orchard, whose subsidiary bank was First National Bank of
Port Orchard. On June 15, 1998, InterWest Bancorp acquired Pacific Northwest
Bank (Pacific) of Seattle, Washington. On June 16, 1998, InterWest Bancorp
acquired Pioneer Bancorp, Inc. (Pioneer) of Yakima, Washington, whose
subsidiary bank was Pioneer National Bank. These acquisitions have been
accounted for using the pooling-of-interests method. Accordingly, InterWest's
consolidated financial statements have been restated to include the accounts
and operations of Puget, Pacific and Pioneer as if the companies were
combined for all periods presented.
On August 31, 1998, InterWest Bancorp completed the acquisition of Kittitas
Valley Bancorp, Inc. and its banking subsidiary, Kittitas Valley Bank, N.A.
of Ellensburg, Washington. This acquisition has been accounted for using the
purchase method.
On October 15, 1998, First National Bank of Port Orchard was merged into
Pacific Northwest Bank. Pioneer National Bank was merged into Pacific
Northwest Bank on January 22, 1999. Pioneer National Bank will continue to
operate under the Pioneer Bank name.
The preparation of the financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that impact amounts reported in the financial statements. Changes
in these estimates and assumptions are considered reasonably possible and may
have a material impact on the financial statements and thus actual results
could differ from the amounts reported and disclosed herein.
The unaudited consolidated financial statements have been prepared in
accordance with generally accepted accounting principles for interim
financial information and with the instructions to the Form 10-Q and Rule
10-01 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management,
all adjustments (consisting only of normal recurring accruals) necessary for
a fair presentation are reflected in the interim consolidated financial
statements. The consolidated statements of operations for the three month
periods ended December 31, 1998 and 1997 are not necessarily indicative of
the operating results for the full year. For further information, refer to
the consolidated financial statements and footnotes for the year ended
September 30, 1998.
NOTE B NET INCOME PER SHARE
The diluted weighted average shares outstanding during the three month
periods ended December 31, 1998 and 1997 includes common stock equivalent
shares outstanding using the treasury stock method. Common stock equivalents
include shares issuable upon exercise of stock options. Unallocated shares
relating to the debt leveraged money purchase employee stock ownership plan
(ESOP) debt obligation are deducted in the calculation of weighted average
shares outstanding.
6
<PAGE>
NOTE C RECLASSIFICATIONS
Certain reclassifications have been made to prior financial statements to
conform with current presentation. The effects of the reclassifications are
not considered material.
NOTE D ACCOUNTING CHANGES
On October 1, 1998, InterWest adopted Statement of Financial Accounting
Standards (SFAS) No. 130 "REPORTING COMPREHENSIVE INCOME." This statement
establishes standards for reporting and disclosure of comprehensive income
and its components. Comprehensive income is defined as the change in equity
during the period. Comprehensive income includes net income and other
comprehensive income which refers to unrealized gains and losses that under
generally accepted accounting principles are excluded from net income. The
adoption of this statement does not have any impact on InterWest's financial
condition or results of operations. However, this statement does affect the
disclosures in InterWest's consolidated financial statements.
The following table summarizes comprehensive income for the periods indicated:
<TABLE>
<CAPTION>
Three months ended December 31,
DOLLARS IN THOUSANDS 1998 1997
- ------------------------------------------------------------------------------------------------
<S> <C> <C>
Net income $7,368 $6,409
----------------------------------
Other comprehensive income:
Unrealized gain (loss) on securities available for sale (2,654) 718
----------------------------------
Other comprehensive income before income taxes (2,654) 718
Income tax benefit (expense) on comprehensive income 929 (243)
----------------------------------
Other comprehensive income after income taxes (1,725) 475
----------------------------------
Total comprehensive income $5,643 $6,884
----------------------------------
----------------------------------
</TABLE>
Effective October 1, 1998, InterWest adopted SFAS No. 134 "ACCOUNTING FOR
MORTGAGE-BACKED SECURITIES RETAINED AFTER SECURITIZATION OF MORTGAGE LOANS
HELD FOR SALE BY A MORTGAGE BANKING ENTERPRISE," which amends SFAS No. 65
"ACCOUNTING FOR CERTAIN MORTGAGE BANKING ACTIVITIES." SFAS No. 65 required
that after the securitization of a mortgage loan held for sale, InterWest
classify the resulting mortgage-backed security as a trading security. SFAS
No. 134 amends SFAS No. 65 to require that after securitization of mortgage
loans held for sale, InterWest classify the resulting mortgage-backed
securities or other retained interests based on its ability and intent to
sell or hold those securities. The adoption of this statement did not
materially impact InterWest's financial condition or results of operations.
NOTE E SUBSEQUENT EVENTS
On January 20, 1999, the Board of Directors authorized the purchase of up to
5 percent of InterWest Bancorp's outstanding shares of common stock in the
open market over the next twelve months. The planned purchases of common
stock will be limited by the anticipated timing of stock option exercises as
well as other considerations.
7
<PAGE>
ITEM 2. MANAGEMENT DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
BASIS OF PRESENTATION
The following discussion is provided for the consolidated financial condition
and results of operations of InterWest Bancorp, Inc. (InterWest Bancorp),
which includes its wholly owned subsidiaries (collectively InterWest). As of
December 31, 1998, InterWest Bancorp's wholly owned subsidiaries were
InterWest Bank, Pacific Northwest Bank, Pioneer National Bank and Kittitas
Valley Bank, N.A. The purpose of this discussion is to focus on significant
factors concerning InterWest's financial condition and results of operations.
ACQUISITIONS
The acquisitions of Pacific Northwest Bank, Pioneer National Bank, First
National Bank of Port Orchard and Kittitas Valley Bank N.A. reflect a
continuing commitment to commercial banking and the goal of becoming a
statewide institution. InterWest has implemented a plan to become a financial
services company that provides a variety of products and services for both
individual and business customers. InterWest's sales efforts will continue to
change the composition of the loan portfolio and the funding sources for
asset growth. InterWest has experienced growth in transaction accounts while
reducing reliance on certificates of deposit. These changes are designed to
have a positive impact on net interest income, service fee revenue and market
penetration while meeting the needs of InterWest's customers.
The merger with Central Bancorporation (Central) on August 31, 1996 began
this process. Central's commercial banking subsidiary, Central Washington
Bank, operated ten offices in central Washington. At the merger date, Central
had total consolidated assets of $206.1 million, including total loans
receivable of $132.2 million, total deposits of $181.9 million and
shareholders' equity of $17.1 million.
On January 15, 1998, InterWest Bancorp acquired Puget Sound Bancorp, Inc.
(Puget), of Port Orchard, Washington, the holding company of First National
Bank of Port Orchard. Under the terms of this transaction, Puget merged into
InterWest Bancorp, with First National Bank of Port Orchard becoming a
subsidiary of InterWest Bancorp. First National Bank of Port Orchard operated
three branch offices in western Washington. At the acquisition date, Puget
had total consolidated assets of $53.1 million, including total loans
receivable of $38.7 million, total deposits of $45.6 million, and
shareholders' equity of $5.9 million. Each share of Puget common stock was
exchanged for 2.50 shares of InterWest Bancorp common stock.
On June 15, 1998, InterWest Bancorp acquired Pacific Northwest Bank
(Pacific), of Seattle, Washington. Under the terms of this transaction,
Pacific became a subsidiary of InterWest Bancorp. At the acquisition date,
Pacific had four offices in the metropolitan Seattle area of western
Washington and total assets of $200.2 million, including total loans
receivable of $150.1 million, total deposits of $170.2 million, and
shareholders' equity of $16.8 million. Each share of Pacific common stock was
exchanged for 5.93 shares of InterWest Bancorp common stock.
On June 16, 1998, InterWest Bancorp acquired Pioneer Bancorp, Inc. (Pioneer),
of Yakima, Washington, the holding company of Pioneer National Bank. Under
the terms of this transaction, Pioneer merged into InterWest Bancorp, and
Pioneer National Bank became a subsidiary of InterWest Bancorp. Pioneer
National Bank operates five branch offices in central Washington. At the
acquisition date, Pioneer had total consolidated assets of $108.4 million,
including total loans receivable of $63.4 million, total deposits of $87.2
million, and shareholders' equity of $9.3 million. Each share of Pioneer
common stock was exchanged for 2.01 shares of InterWest Bancorp common stock.
8
<PAGE>
These mergers were accounted for using the pooling-of-interests method. In
accordance with generally accepted accounting principles, prior period
financial statements, as well as management discussion and analysis have been
restated as if the companies were combined for all periods presented.
On August 31, 1998, InterWest Bancorp completed the acquisition of Kittitas
Valley Bancorp, Inc. (Kittitas), of Ellensburg, Washington, the holding
company of Kittitas Valley Bank N.A. Under the terms of this transaction,
Kittitas merged into InterWest Bancorp, and Kittitas Valley Bank N.A. became
a subsidiary of InterWest Bancorp. The acquisition was completed through the
payment of $6.4 million in cash and the issuance of 229,831 shares of
InterWest Bancorp common stock to Kittitas shareholders. The shares issued to
Kittitas shareholders were purchased by InterWest Bancorp in the open market.
At the merger date, Kittitas had total consolidated assets of $47.4 million
and shareholders' equity of $4.3 million. This acquisition has been accounted
for using the purchase method.
On October 15, 1998, First National Bank of Port Orchard was merged into
Pacific Northwest Bank. Pioneer National Bank was merged into Pacific
Northwest Bank on January 22, 1999. Pioneer National Bank will continue to
operate under the Pioneer Bank name. The primary purpose of these internal
mergers is to create cost savings and operating efficiencies.
The following table summarizes pertinent information related to the completed
mergers:
<TABLE>
<CAPTION>
Acquisition Total Assets At Merger Date Common Shares
Date Institution (dollars in thousands) Issued
- ---------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
August 31, 1996 Central Bancorporation $ 206,093 2,147,391
January 15, 1998 Puget Sound Bancorp, Inc. 53,109 586,420
June 15, 1998 Pacific Northwest Bank 200,219 2,346,081
June 16, 1998 Pioneer Bancorp, Inc. 108,399 692,846
August 31, 1998 Kittitas Valley Bancorp, Inc. 49,065 229,831
</TABLE>
A source of future growth may be through acquisitions. InterWest believes
that many other financial institutions are considering selling their
institutions for a variety of reasons, including lack of shareholder
liquidity, management succession issues, technology challenges and increasing
competition. InterWest actively reviews proposals for various acquisition
opportunities. InterWest has established a due diligence review process to
evaluate potential acquisitions and has established parameters for potential
acquisitions relating to market factors, financial performance and certain
nonfinancial factors. Successful completion of acquisitions by InterWest
depends on several factors such as the availability of suitable acquisition
candidates, necessary regulatory and shareholder approval and compliance with
applicable capital requirements. No assurance can be made that acquisition
activity will continue in the future.
Today InterWest conducts its business through 55 full-service branch offices
in western and central Washington State. These offices are located in towns,
small cities, suburbs and metropolitan markets. Investments are available
through InterWest Financial Services, Inc., a wholly owned subsidiary of
InterWest Bank and insurance products are available through InterWest
Insurance Agency, Inc., a majority-owned subsidiary of InterWest Bank.
RESULTS OF OPERATIONS
Net income was $7.4 million for the three months ended December 31, 1998,
compared to $6.4 million for the three months ended December 31, 1997. Basic
and diluted net income per share were $0.47 and $0.46, respectively for the
three months ended December 31, 1998 compared to $0.41 and $0.40,
respectively for the three months ended December 31, 1997. The increase from
the three month period one year ago was due to an increase in mortgage
banking and the resulting increase in the gain on sale of loans of $1.8 million
9
<PAGE>
and an increase in net interest income before the provision for losses on
loans of $1.6 million. These increases were partially offset by an increase
in noninterest expense of $1.8 million
InterWest's return on average shareholders' equity was 16.89 percent for the
three months ended December 31, 1998 compared to 15.92 percent for the three
months ended December 31, 1997. InterWest's return on average assets was 1.20
percent for the three months ended December 31, 1998 compared to 1.09 percent
for the three months ended December 31, 1997.
The following table summarizes net income, net income per share and key
financial ratios:
<TABLE>
<CAPTION>
Three months ended December 31,
DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS 1998 1997
- ----------------------------------------------------------------------------------------------
<S> <C> <C>
Net income $7,368 $6,409
----------------------------------
----------------------------------
Basic net income per share $0.47 $0.41
----------------------------------
----------------------------------
Diluted net income per share $0.46 $0.40
----------------------------------
----------------------------------
Efficiency ratio 58.99% 59.74%
Return on average shareholders' equity 16.89% 15.92%
Return on average assets 1.20% 1.09%
Net interest margin 3.58% 3.42%
</TABLE>
NET INTEREST INCOME | InterWest's net income is significantly affected by
changes in net interest income, which is the difference between interest
income received on loans receivable and other interest-earning assets and
interest paid on deposits and borrowings. InterWest's operations are
sensitive to changes in interest rates and the resulting impact on net
interest income.
Net interest income before provision for losses on loans increased to $20.6
million for the three months ended December 31, 1998, compared to $19.0
million for the three months ended December 31, 1997. The increase in net
interest income is due to an increase in interest-earning assets and an
increase in the margin earned on these assets.
InterWest's net interest margin was 3.58 percent for the three months ended
December 31, 1998, an increase from 3.42 percent for the three months ended
December 31, 1997. Several factors have influenced the increase in net
interest margin.
During the quarter ended December 31, 1998, management has increased net
interest income by leveraging the balance sheet with securities growth funded
by borrowings from the Federal Home Loan Bank. However, leveraging the
balance sheet decreases net interest margin as the spread earned on
securities funded by borrowings is lower compared to the spread earned on
loans funded by deposits.
The negative impact on net interest margin from leveraging the balance sheet
has been more than offset by changes in the loan portfolio and deposit
composition as well as the positive impact from the acquisition of Kittitas
Valley Bank, N.A. InterWest will continue to focus on changing the
composition of the loan portfolio by increasing commercial lending and
reducing the dependence on single-family lending. In addition to the changes
in the loan portfolio, the deposit base has changed with increases in
non-interest bearing and interest-bearing transaction deposits and a decrease
in certificates of deposit.
10
<PAGE>
Interest income for the three months ended December 31, 1998 was $45.1
million compared to $44.9 million for the three months ended December 31,
1997. The increase is due to growth in interest-earning assets, which is
partially offset by a decrease in the yield earned on those assets. The yield
on interest-earning assets decreased to 7.83 percent three months ended
December 31, 1998, compared to 8.10 percent for the three months ended
December 31, 1997.
Interest expense decreased to $24.5 million for the three months ended
December 31, 1998 compared to $25.9 million for the three months ended
December 31, 1997. This is due to a decrease in the cost of funds from the
prior year, which is partially offset by an increase in interest-bearing
liabilities. The cost of funds for the three months ended December 31, 1998
was 4.33 percent, a decrease from 4.76 percent for the three months ended
December 31, 1997.
AVERAGE RATES AND BALANCES | The following table indicates the average
balance and average interest rates earned or paid, interest rate spread and
net interest margin for the three months ended December 31:
<TABLE>
<CAPTION>
1998 1997
------------------------- -----------------------
Average Average
DOLLARS IN THOUSANDS Balance Rate Balance Rate
- ---------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Loans receivable and loans
held for sale $ 1,421,388 8.94% $1,364,876 9.06%
Securities available for sale,
securities held to maturity and
other interest-earning assets 879,975 6.05% 852,132 6.56%
---------------------------------------------------
Total interest-earnings assets 2,301,363 7.83% 2,217,008 8.10%
---------------------------------------------------
Deposits 1,552,374 3.78% 1,453,548 4.24%
FHLB advances, securities
sold under agreements
to repurchase and 710,286 5.53% 724,398 5.81%
other borrowings
---------------------------------------------------
Total interest-bearing liabilities 2,262,660 4.33% 2,177,946 4.76%
---------------------------------------------------
Net interest spread $ 38,703 3.50% $ 39,062 3.34%
---------------------------------------------------
---------------------------------------------------
Net interest margin 3.58% 3.42%
------- -------
------- -------
</TABLE>
11
<PAGE>
The following table provides information on changes in net interest income
for the periods which are attributable to changes in interest rates and
changes in volume:
<TABLE>
<CAPTION>
Three months December 31, 1998 vs 1997
Increase (Decrease)
Due to changes in
DOLLARS IN THOUSANDS Rate Volume Total
- -----------------------------------------------------------------------------------------
<S> <C> <C> <C>
INTEREST-EARNING ASSETS
Loans receivable and
loans held for sale $(410) $1,255 $845
Securities available for
sale, securities held
to maturity and other
interest-earning assets (1,147) 482 (665)
--------------------------------------------------
Total net change in income
on interest-earning assets (1,557) 1,737 180
--------------------------------------------------
INTEREST-BEARING LIABILITIES
Deposits (1,983) 1,237 (746)
FHLB advances, securities
sold under agreement to
repurchase and other
borrowings (508) (202) (710)
--------------------------------------------------
Total net change in expense
on interest-bearing liabilities (2,491) 1,035 (1,456)
--------------------------------------------------
Net change in net
interest income $934 $702 $1,636
--------------------------------------------------
--------------------------------------------------
</TABLE>
PROVISION FOR LOSSES ON LOANS | The provision for losses on loans was
$498,000 for the three months ended December 31, 1998, an increase from
$275,000 for the three months ended December 31, 1997.
NONINTEREST INCOME | Noninterest income was $7.8 million for the three months
ended December 31, 1998, compared to $6.1 million for the three months ended
December 31, 1997. The increase in noninterest income from the three months
ended December 31, 1997 was due to increases in mortgage banking and the
resulting gains on the sale of loans. The increase in mortgage banking
activities is due to the current interest rate environment as well as the
overall strategy of changing the composition of the loan portfolio with less
reliance on single-family residential mortgages with a greater emphasis on
commercial lending. During calendar year 1998, the low interest rate
environment resulted in increased fixed-rate single-family residential
mortgage loan originations. It is currently InterWest's strategy to
securitize and sell fixed-rate single-family mortgage loans on the secondary
market while retaining the right to service the loans. Changes in interest
rates can significantly affect the volume of single family loan originations
and refinances which could impact InterWest's mortgage banking revenue.
InterWest will continue to focus on commercial
12
<PAGE>
banking to increase net interest income and service fee revenue while
reducing the impact of potential volatility in mortgage banking revenue.
Service fees were $2.7 million for the three months ended December 31, 1998
compared to $2.7 million for the three months ended December 31, 1997.
Service fees decreased as a result of the closing of the Cornerstone Home
Loan Center Division of InterWest Bank during the quarter ended December 31,
1998. The decrease in service fees from the Cornerstone Home Loan Center was
offset by an increase in service fees resulting from the growth in
transaction deposit accounts and commercial banking services.
NONINTEREST EXPENSE | Noninterest expense was $16.8 million for the three
months ended December 31, 1998, compared to $15.0 million for the three
months ended December 31, 1997. The operating efficiency ratio was 58.99
percent for the three months ended December 31, 1998, compared to 59.74
percent for the three months ended December 31, 1997. The increase in
noninterest expense from the three months ended December 31, 1997 was due to
activities to develop the resources and infrastructure for commercial banking
growth.
Compensation and employee benefits were $9.1 million for the three months
ended December 31, 1998, an increase from $7.8 million for the three months
ended December 31, 1997. This increase was primarily due to the focus on
commercial banking growth and the acquisition of Kittitas Valley Bank, N.A.
FEDERAL INCOME TAX | Income tax expense was $3.8 million for the three months
ended December 31, 1998, compared to $3.4 million for the three months ended
December 31, 1997. The effective tax rates were 34.0 percent for the three
months ended December 31, 1998, compared to 34.6 percent for the three months
ended December 31, 1997.
REVIEW OF FINANCIAL CONDITION
InterWest's total consolidated assets were $2.602 billion as of December 31,
1998, compared to $2.448 billion as of September 30, 1998. This was an
increase of $154 million or 6.3 percent.
SECURITIES | As of December 31, 1998, InterWest had $825.6 million of
securities available for sale, compared to $574.3 million as of September 30,
1998. Securities held to maturity have decreased to $81.7 million as of
December 31, 1998, compared to $87.3 million as of September 30, 1998. The
overall increase in securities reflects management's leveraging of the
balance sheet to increase net interest income. As of December 31, 1998, 91
percent of InterWest securities were classified as available for sale, an
increase from 87 percent as of September 30, 1998. Management believes that a
higher percentage of securities classified as available for sale provides
greater flexibility to respond to interest rate changes and liquidity needs
to fund loan growth.
InterWest has generally maintained liquidity in excess of regulatory
guidelines. Liquidity levels may be increased or decreased depending upon the
yields on investment alternatives, management's judgment as to the
attractiveness of the yields then available in relation to other
opportunities and management's expectation of the level of yield that will be
available in the future. Management's projections as to the short term demand
for funds to be used for loan originations and other activities can also
impact liquidity levels.
Securities are categorized as held to maturity or available for sale, based
upon management's intent as to the ultimate disposition of each security
acquired. InterWest does not currently trade securities. Securities
classified as held to maturity are stated at cost, adjusted for amortization
of premiums and accretion of discounts over the terms of the securities.
Securities classified as available for sale are reported at fair value, with
unrealized gains and losses (net of deferred income taxes) reported as a net
amount in a separate component of shareholders' equity.
13
<PAGE>
LOANS RECEIVABLE AND LOANS HELD FOR SALE | Loans receivable were $1.35
billion as of December 31, 1998, compared to $1.36 billion as of September
30, 1998. During the three months ended December 31, 1998 the principal
balances outstanding of commercial real estate, real estate construction,
commercial and agricultural loans increased. These increases were offset by a
decrease in single-family residential mortgage loans outstanding.
The principal lending activity of InterWest Bank is the origination of
single-family residential mortgage loans and, to a lesser extent, loans
secured by income property, consumer loans, commercial loans and agricultural
loans. Pacific Northwest Bank, Pioneer National Bank and Kittitas Valley
Bank, N.A. have loan portfolios which have a greater percentage of commercial
loans than InterWest Bank.
The acquisitions of Central, Pacific, Pioneer and Puget increased InterWest's
access to commercial lending. These acquisitions, as well as the development
of commercial banking at InterWest Bank, are changing the composition of the
InterWest loan portfolio to that of a financial institution that emphasizes
both real estate and commercial lending. Growth in commercial lending should
shorten duration risk, produce higher net interest margin, create better
protection from interest rate volatility and ultimately meet the needs of
InterWest's customers.
The commercial loan portfolio increased $11.8 million from September 30,
1998, representing an annualized growth rate of 22 percent. As of December
31, 1998, outstanding commercial loans represent 15.5 percent of the total
gross loans compared to 14.8 percent as of September 30, 1998. Commercial
real estate mortgage loans increased $21.1 million from September 30, 1998,
representing an annualized growth rate of 33 percent. Real estate
construction loans outstanding increased by $13.8 million from September 30,
1998, representing an annualized growth rate of 30 percent. Single-family
residential mortgage loans decreased $46.8 million from September 30, 1998.
This decrease is due to mortgage banking activities and the increased
emphasis on commercial lending. During the quarter ended December 31, 1998,
InterWest securitized and sold $113.8 million of single-family residential
mortgage loans on the secondary market.
Loans held for sale were $101.8 million as of December 31, 1998 compared to
$93.1 million as of September 30, 1998. Loans held for sale are generally
fixed-rate mortgage loans and loans originated under a Small Business
Administration program. The loans are typically sold to FHLMC and other
financial institutions.
The following table sets forth the composition of InterWest's loan portfolio
by type as of December 31, 1998, and September 30, 1998:
<TABLE>
<CAPTION>
DOLLARS IN THOUSANDS December 31, 1998 September 30, 1998
- -----------------------------------------------------------------------------------------------
<S> <C> <C>
Real estate mortgage loans
Single-family residential $580,418 $627,191
Multi-family residential 61,190 62,948
Commercial 278,991 257,906
Real estate construction 195,810 182,020
Consumer loans 80,832 81,386
Commercial loans 229,350 217,546
Agricultural loans 50,023 45,637
---------------------------------------------
1,476,614 1,474,634
Less:
Loans held for sale 101,782 93,125
Allowance for losses on loans 13,527 13,224
Deferred loan fees and discounts 8,693 9,235
----------------- --------------------
$1,352,612 $1,359,050
----------------- --------------------
----------------- --------------------
</TABLE>
14
<PAGE>
Interest is accrued on loans receivable until the loan is 90 days delinquent
or management doubts the collectibility of the loan or the unpaid interest,
at which time InterWest establishes a reserve for any accrued interest. All
loans on which interest is not being accrued are referred to as nonaccrual
loans. As of December 31, 1998, non-accrual loans totaled $12.4 million, an
increase from $8.2 million as of September 30, 1998. The majority of the
increase resulted from one land development loan being placed on nonaccrual
status during the period. Total non-performing assets, including non-accrual
loans and real estate owned through foreclosure, increased to $19.8 million
or 0.76 percent of total assets as of December 31, 1998, compared to $15.8
million or 0.64 percent of total assets as of September 30, 1998.
The following table summarizes non-performing assets as of December 31, 1998
and September 30, 1998:
<TABLE>
<CAPTION>
DOLLARS IN THOUSANDS December 31, 1998 September 30, 1998
- ---------------------------------------------------------------------------------------------------
<S> <C> <C>
NONACCRUAL LOANS
Real estate mortgage loans
Single-family residential $5,565 $5,036
Multi-family residential -- --
Commercial 1,226 557
Real estate construction 3,265 634
Consumer loans 385 174
Commercial loans 1,751 1,682
Agricultural loans 200 127
---------------------------------------------
Total nonaccrual loans 12,392 8,210
REAL ESTATE OWNED THROUGH FORECLOSURE
Total real estate owned through foreclosure 7,421 7,553
---------------------------------------------
Total non-performing assets $19,813 $15,763
---------------------------------------------
---------------------------------------------
</TABLE>
ALLOWANCE FOR LOSSES ON LOANS | The allowance for losses on loans was $13.5
million or 0.99 percent of total loans receivable as of December 31, 1998
compared to $13.2 million or 0.96 percent of total loans receivable as of
September 30, 1998. Net loan charge-offs were $195,000 or 0.05 percent of the
average balance of loans outstanding for the three months ended December 31,
1998.
The allowance for losses on loans is maintained at a level sufficient to
provide for estimated losses based on evaluating known and inherent risks in
the loan portfolio and upon management's continuing analysis of the factors
underlying the quality of the loan portfolio. These factors include changes
in the size and composition of the loan portfolio, delinquency levels, actual
loan loss experience, current economic conditions, and detailed analysis of
individual loans for which full collectibility may not be assured. The
appropriate level of the allowance for losses on loans is estimated based
upon factors and trends identified by management.
When available information confirms that specific loans or portions thereof
are uncollectible, these amounts are charged-off against the allowance for
losses on loans. The existence of some or all of the following criteria will
generally confirm that a loss has been incurred: the loan is significantly
delinquent and the borrower has not evidenced the ability or intent to bring
the loan current; there is no recourse to the borrower, or if there is
recourse, the borrower has insufficient assets to pay the debt; the fair
value of the loan collateral is significantly below the current loan balance,
and there is little or no near-term prospect for
15
<PAGE>
improvement. A provision for losses on loans, which is a charge against
operations, is added to the allowance for losses on loans based on ongoing
assessments of credit risk in the loan portfolio.
The following tables summarize the activity in allowance for losses on loans
during the three months ended December 31:
<TABLE>
<CAPTION>
DOLLARS IN THOUSANDS 1998 1997
- --------------------------------------------------------------------------------------------------
<S> <C> <C>
Balance at beginning of period $13,224 $11,104
Provision for losses on loans 498 275
Pooling accounting adjustment (76)
Recoveries 123 117
Charge-offs (318) (411)
---------------------------------------------
Balance at end of period $13,527 $11,009
---------------------------------------------
---------------------------------------------
</TABLE>
DEPOSITS | Noninterest bearing deposits increased to $188.6 million as of
December 31, 1998 from $178.6 million as of September 30, 1998. Noninterest
bearing deposits represented 12.3 percent of total deposits as of December
31, 1998, an increase from 11.4 percent as of September 30, 1998. Interest
bearing transaction accounts (which includes interest-bearing checking, money
market and savings accounts) increased to $554.4 million as of December 31,
1998 compared to $539.2 million as of September 30, 1998. Interest bearing
transaction accounts represented 35.9 percent of total deposits as of
December 31, 1998, an increase from 34.5 percent as of September 30, 1998.
Money market and interest bearing checking account balances increased by $2.3
million and $15.4 million, respectively, from September 30, 1998.
Certificates of deposit decreased to $797.0 million as of December 31, 1998
compared to $847.0 million as of September 30, 1998. Certificates of deposit
currently represent 51.8 percent of total deposits which is a decrease from
54.1 percent as of September 30, 1998.
Management is continuing to pursue initiatives to increase the percentage of
noninterest bearing deposits and interest bearing transaction deposits
relative to certificates of deposit. This activity should increase net
interest income, service fee revenue and customer growth and retention. As of
December 31, 1998, 48.2 percent of InterWest's deposits were transaction
accounts, which is an increase from 45.9 percent as of September 30, 1998.
The following table sets forth the balances of deposits in the various
types of accounts as of December 31, 1998 and September 30, 1998:
<TABLE>
<CAPTION>
DOLLARS IN THOUSANDS December 31, 1998 September 30, 1998
- ------------------------------------------------------------------------------------
<S> <C> <C>
Non-interest bearing deposits $188,631 $178,625
Interest-bearing checking accounts 177,442 162,051
Money market accounts 270,221 267,953
Savings accounts 106,750 109,148
Certificates 797,046 847,048
-------------- ------------
Total $1,540,090 $1,564,825
-------------- ------------
-------------- ------------
</TABLE>
16
<PAGE>
FHLB ADVANCES, SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE AND OTHER
BORROWINGS | InterWest borrows through advances from the Federal Home Loan
Bank (FHLB) and securities sold under agreements to repurchase. InterWest had
$718.7 million outstanding in FHLB advances as of December 31, 1998, an
increase from $546.0 million as of September 30, 1998. The increase in FHLB
advances was used to fund the growth in securities.
The FHLB provides credit for member financial institutions. As members, banks
are required to own capital stock in the FHLB, and are authorized to apply
for advances on the security of such stock and certain of its home mortgages
and other assets (principally securities that are obligations of, or
guaranteed by, the United States) provided certain standards related to
creditworthiness have been met. Advances are made to members pursuant to
several different programs. These programs are generally designed to meet the
institution's need while still reflecting market terms and conditions.
InterWest relies upon advances from the FHLB to supplement its supply of
lendable funds and to meet liquidity guidelines. The rates on these advances
vary from time to time in response to general economic conditions.
InterWest uses the securities market as a vehicle for borrowing by utilizing
its securities as collateral. As of December 31, 1998, InterWest had $134.0
million outstanding in securities sold under agreements to repurchase, an
increase from $128.6 million as of September 30, 1998.
SHAREHOLDERS' EQUITY | InterWest Bancorp is committed to managing capital for
maximum shareholder benefit and maintaining strong protection for depositors
and creditors at both the holding company and subsidiary bank level.
InterWest manages various capital levels at both the holding company and
subsidiary bank level to maintain appropriate capital ratios and levels in
accordance with external regulations and capital guidelines established by
the Board of Directors of each institution
InterWest's total shareholders equity was $175.3 million as of December 31,
1998, an increase of $3.6 million from $171.7 million as of September 30,
1998. Book value per share increased to $11.18 as of December 31, 1998, from
$10.97 as of September 30, 1998. During three months ended December 31, 1998,
InterWest Bancorp declared cash dividends totaling $0.14 per share, an
increase from $0.12 per share for the three months ended December 31, 1997.
InterWest Bancorp and its banking subsidiaries are subject to risk-based
capital guidelines requiring minimum capital levels based on the credit risk
of assets. Failure to meet minimum capital requirements can initiate certain
mandatory, and possibly additional discretionary, actions by regulators that,
if undertaken, could have a material effect on InterWest's financial
statements. Under capital adequacy guidelines and the regulatory framework
for prompt corrective action, InterWest Bancorp and its banking subsidiaries
must meet specific capital guidelines that involve quantitative measures of
assets, liabilities and certain off-balance-sheet items as calculated under
regulatory accounting practices. Capital classifications are also subject to
qualitative judgments by the regulators about components, risk weightings and
other factors.
The regulations define the relevant capital levels for the five categories.
In general terms, the capital definitions are as follows:
<TABLE>
<CAPTION>
Total Capital Tier 1 Tier 1
(to Risk (to Risk (to Average
Weighted Assets) Weighted Assets) Assets)
------------------ ------------------- --------------
<S> <C> <C> <C>
Well capitalized 10% 6% 5%
Adequately capitalized 8% 4% 4%
Undercapitalized Below 8% Below 4% Below 4%
Significantly undercapitalized Below 6% Below 3% Below 3%
Critically undercapitalized - - 2% or less
</TABLE>
17
<PAGE>
InterWest Bancorp is subject to risk-based capital guidelines issued by the
Federal Reserve Board (FRB) which establish a risk-adjusted ratio relating
capital to different categories of assets. InterWest Bancorp's Tier I capital
is composed of shareholders' equity less certain intangibles, and excludes
the equity impact of adjusting securities available for sale to fair value.
Total capital is Tier I capital and the allowance for losses on loans. The
FRB's risk-based capital rules have been supplemented by a leverage capital
ratio, defined as Tier I capital to adjusted quarterly average total assets.
As of December 31, 1998, under the FRB's capital guidelines, InterWest
Bancorp's levels of consolidated regulatory capital exceed the FRB's minimum
requirements.
The capital amounts and ratios for InterWest Bancorp, InterWest Bank and
Pacific Northwest Bank as of December 31, 1998 are presented in the following
table:
<TABLE>
<CAPTION>
To Be Well
Capitalized Under
For Capital Prompt Corrective
Amount Adequacy Purposes Action Provisions
-------------------------------------------------------------------------
DOLLARS IN THOUSANDS Amount Ratio Amount Ratio Amount Ratio
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
INTERWEST BANCORP:
Total Capital
(to Risk Weighted Assets) $180,729 10.77% $134,298 8.0% $167,873 10.0%
Tier I Capital
(to Risk Weighted Assets) 167,202 9.96% 67,149 4.0% 100,724 6.0%
Tier I Capital
(to Average Assets) 167,202 6.79% 73,900 3.0% 123,166 5.0%
INTERWEST BANK:
Total Capital
(to Risk Weighted Assets) $145,615 10.91% $106,774 8.0% $133,467 10.0%
Tier I Capital
(to Risk Weighted Assets) 136,453 10.22% 53,387 4.0% 80,080 6.0%
Tier I Capital
(to Average Assets) 136,453 6.70% 81,496 4.0% 101,870 5.0%
PACIFIC NORTHWEST BANK:
Total Capital
(to Risk Weighted Assets) $25,942 11.12% $18,663 8.0% $23,329 10.0%
Tier I Capital
(to Risk Weighted Assets) 23,702 10.16% 9,332 4.0% 13,997 6.0%
Tier I Capital
(to Average Assets) 23,702 8.85% 10,716 4.0% 13,395 5.0%
</TABLE>
As of December 31, 1998, all subsidiary banks were in compliance with the
well-capitalized capital requirements. Management believes that under the
current regulations the subsidiary banks will continue to meet minimum
capital requirements in the foreseeable future. However, events beyond the
control of the subsidiary banks, such as a downturn in the economy in areas
where the subsidiary banks have most of their loans, could adversely affect
future earnings and, consequently, the ability of the subsidiary banks to
meet future minimum capital requirements.
On January 20, 1999, the Board of Directors of InterWest Bancorp authorized
the purchase of up to 5 percent of InterWest Bancorp's outstanding shares of
common stock in the open market over the next twelve months. The planned
purchases of common stock will be limited by the anticipated timing of stock
option exercises as well as other considerations.
18
<PAGE>
LIQUIDITY RESOURCES
Liquidity management focuses on the need to meet both short-term funding
requirements and InterWest's long-term strategies and goals. Specifically,
the objective of liquidity management is to ensure the continuous
availability of funds to meet the demands of depositors, creditors and
borrowers. Management is structuring the balance sheet to meet these needs.
InterWest desires to attract and retain consumer and business customer
relationships with a focus on transaction accounts and commercial and
consumer lending. InterWest also uses wholesale funds through advances from
the Federal Home Loan Bank of Seattle (FHLB) and the sale of securities under
agreements to repurchase to fund asset growth. Other sources of funds for
liquidity include loan repayments, loan sales, securities sales and
mortgage-backed and related security repayments. Repayments on loans and
mortgage-backed and related securities and deposit inflows and outflows are
impacted by changes in interest rates.
InterWest has additional capacity to borrow funds from the FHLB through a
pre-approved credit line. This credit line has a pledge requirement whereby
InterWest must maintain unencumbered collateral with a par value at least
equal to the outstanding balance. InterWest uses the securities market as a
vehicle for borrowing by utilizing its securities available for sale and
securities held to maturity as collateral. These borrowings are
collateralized by securities with a market value exceeding the face value of
the borrowings. If the market value of the securities were to decline as a
result of an increase in interest rates or other factors, InterWest would be
required to pledge additional securities or cash as collateral.
The analysis of liquidity also includes a review of InterWest's consolidated
statement of cash flows for the three months ended December 31, 1998. The
consolidated statement of cash flows details InterWest's operating, investing
and financing activities during the period. The most significant item under
operating activities was net income of $7.4 million for the three months
ended December 31, 1998. Investing activities included proceeds from the sale
of securities available for sale of $159.1 million, security maturities
totaling $163.0 million and purchases of securities available for sale of
$624.8 million. Investing activities also included $142.1 million in loan
originations, net of principal repayments and $140.9 million of proceeds from
the sale of loans. During the period, financing activities included $174.3
million in borrowing repayments, net of borrowing proceeds, a $25.3 million
increase in deposits, a $50.0 million decrease in certificates of deposit and
a total of $2.2 million paid in cash dividends to shareholders.
YEAR 2000
The century date change for the year 2000 is a serious issue that may impact
virtually every organization, including InterWest. Many software programs are
not able to recognize the year 2000, since most programs and systems were
designed to store calendar years in the 1900s by assume the "19" and storing
only the last two digits of the year. The problem is especially important to
financial institutions since many transactions, such as interest accruals and
payments, are date sensitive, and because InterWest interacts with numerous
customers, vendors and third party service providers who must also address
the year 2000 issue. The problem is not limited to computer systems. Year
2000 issues will potentially affect every system that has an embedded
microchip, such as automated teller machines, elevators and vaults.
INTERWEST'S STATE OF READINESS/ InterWest is committed to addressing these
Year 2000 issues in a prompt and responsible manner, and has dedicated the
resources to do so. Management has completed an assessment of its automated
systems and has implemented a program consistent with applicable regulatory
guidelines, to complete all steps necessary to resolve identified issues.
InterWest's compliance program has several phases, including project
management, assessment, testing, remediation and implementation.
PROJECT MANAGEMENT. Each subsidiary bank has developed a process to address Year
2000 compliance matters. This process includes a project manager, senior
management and departmental representatives. There are periodic meetings with
senior management of each subsidiary bank to discuss the process, assign tasks,
determine priorities and monitor progress. Periodic reports are provided to each
subsidiary banks'
19
<PAGE>
Board of Directors on the status of the Year 2000 project. Additionally, the
subsidiary banks regularly report to InterWest Bancorp management and to the
InterWest Bancorp Board of Directors.
ASSESSMENT. InterWest's computer equipment and mission-critical software
programs have been identified. InterWests' primary software vendors were also
assessed during this phase, and vendors who provide mission-critical software
have been contacted. InterWest will continue to monitor and work with these
vendors. Additionally, InterWest has identified, and began working with,
significant borrowers to assess the extent to which they may be affected by
Year 2000 issues.
TESTING. Updating and initial testing of InterWest's automated systems has
been completed. Based on the results of initial testing, InterWest has been
able to identify internal computer systems that are non-compliant and further
remediation and testing will continue during 1999.
REMEDIATION AND IMPLEMENTATION. This phase involves obtaining and
implementing renovated software applications provided by InterWest's vendors.
As renovated applications or new applications are received and implemented,
InterWest tests them for Year 2000 compliance. This phase also involves
upgrading and replacing systems where appropriate, and will continue
throughout 1999.
ESTIMATED COSTS TO ADDRESS INTERWEST'S YEAR 2000 ISSUES/ The total financial
effect that year 2000 issues will have on InterWest cannot be predicted with
any certainty at this time. In fact, in spite of all efforts being made to
rectify these problems, the success of InterWest's efforts will not be known
until the year 2000 actually arrives. However, based on its assessment to
date, InterWest does not believe that expenses or required capital
expenditures related to meeting Year 2000 challenges will have a material
effect on the operations or financial condition of InterWest. Year 2000
challenges facing vendors of mission-critical software and systems,
third-party service providers, and customers, could have a material effect on
the operations or financial condition of InterWest, to the extent such
parties are materially affected by such challenges.
RISKS RELATED TO YEAR 2000 ISSUES/ The Year 2000 poses certain risks to
InterWest and its operations. Some of these risks are present because
InterWest purchases technology and information systems applications from
other parties who face Year 2000 challenges and relies on third party service
providers for processing data. In addition, other risks are inherent in the
business of banking or are risks faced by many companies. Although it is
impossible to identify all possible risks that InterWest may face moving into
the millennium, management has identified the following significant potential
risks:
Commercial banks may experience a contraction in their deposit base, if a
significant amount of deposited funds are withdrawn by customers prior to the
Year 2000, and interest rates may increase as the millennium approaches. This
potential deposit contraction could make it necessary for InterWest to change
its sources of funding and could affect future earnings. InterWest has
established a contingency plan for addressing this situation, should it
arise, in its asset and liability management policies. The plan includes
maintaining the ability to borrow funds from correspondent banks and the
Federal Home Loan Bank of Seattle. Significant demand for funds from other
banks could reduce the amount of funds available for InterWest to borrow. If
insufficient funds are available from these sources, InterWest may also sell
investment securities or other liquid assets to meet liquidity needs.
InterWest originates loans to businesses in its marketing area. If these
businesses are adversely affected by Year 2000 problems, their ability to
repay loans could be impaired. This increased credit risk could adversely
affect InterWest's financial performance. During the assessment phase of
InterWest's Year 2000 program, InterWest identified substantial borrowers,
and is working with such borrowers to ascertain their levels of exposure to
Year 2000 problems. To the extent that InterWest is unable to assure itself
of the Year 2000 readiness of such borrowers, it intends to apply additional
risk assessment criteria to the indebtedness of such borrowers and make any
necessary related adjustments to InterWest's provision for losses on loans.
20
<PAGE>
InterWest's operations, like those of many other companies, can be adversely
affected by the Year 2000-triggered failures of other companies upon whom
InterWest depends for the functioning of its automated systems. Accordingly,
InterWest's operations could be materially affected if the operations of
mission-critical third party service providers are adversely affected. As
described previously, InterWest has identified its mission-critical vendors
and is monitoring their Year 2000 compliance programs.
INTERWEST'S CONTINGENCY PLANS/ InterWest has initially developed contingency
plans related to Year 2000 issues. As InterWest continues the testing phase,
and based on future ongoing assessment of the readiness of vendors, service
providers and substantial borrowers, InterWest will modify contingency plans
as necessary or develop additional contingency plans. The review of
contingency plans is an ongoing process subject to internal assessments,
third party and regulatory review. Additionally, specific timeframes have
been established for the monitoring and assessment of contingency planning as
well as "trigger" dates for implementing contingency plans. Certain
circumstances, as described above in "Risks" may occur for which there are no
completely satisfactory contingency plans.
MARKET RISK
InterWest's results of operations are largely dependent upon its ability to
manage interest rate risk. Management considers interest rate risk to be a
significant market risk that could have a material effect on InterWest's
financial condition and results of operations. InterWest does not currently
use derivatives to manage market and interest rate risks.
InterWest is sensitive to the potential change in interest rates and the
resulting impact on net interest income. It has been an objective of
management to reduce this sensitivity through the use of adjustable rate
loans which enables InterWest to better match the duration of its deposit
base with these types of assets.
In addition to adjustable rate loans, InterWest uses a number of additional
strategies to minimize the impact on net income during significant changes in
interest rates. The strategies utilized by InterWest to achieve this goal
include sales of fixed-rate mortgage loans; growth in non-interest bearing
deposits, purchases of adjustable rate and callable agency securities and
short-term commercial lending.
FORWARD LOOKING STATEMENTS | In this document, InterWest has included certain
"forward looking statements" concerning the future operations of InterWest.
It is management's desire to take advantage of the "safe harbor" provisions
of the Private Securities Litigation Reform Act of 1995. This statement is
for the express purpose of availing InterWest of the protections of such safe
harbor with respect to all "forward looking statements" contained in this
registration statement. We have used "forward looking statements" to describe
the future plans and strategies including our expectations of InterWest's
future financial results. Management's ability to predict results or the
effect of future plans and strategy is inherently uncertain. Factors that
could effect results include interest rate trends, the general economic
climate in Washington State and the country as a whole, loan delinquency
rates, and changes in federal and state regulation. These factors should be
considered in evaluating the "forward looking statements" and undue reliance
should not be placed on such statements.
21
<PAGE>
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) REPORTS ON FORM 8-K
None
EXHIBITS
(27) Financial Data Schedule
22
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
INTERWEST BANCORP, INC.
By: /s/ Stephen M. Walden
-------------------------------------
Stephen M. Walden,
President and Chief Executive Officer
Dated: February 11 , 1999
----------------------------------------
23
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS FINANCIAL INFORMATION EXTRACTED FROM THE CONSOLIDATED
FINANCIAL STATEMENTS OF INTERWEST BANCORP., INC. AS OF AND FOR THE THREE MONTHS
ENDED DECEMBER 31, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> SEP-30-1999
<PERIOD-START> OCT-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 70,245
<INT-BEARING-DEPOSITS> 16,441
<FED-FUNDS-SOLD> 14,451
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 825,646
<INVESTMENTS-CARRYING> 81,654
<INVESTMENTS-MARKET> 81,462
<LOANS> 1,352,612
<ALLOWANCE> 13,527
<TOTAL-ASSETS> 2,601,561
<DEPOSITS> 1,540,000
<SHORT-TERM> 135,228
<LIABILITIES-OTHER> 29,453
<LONG-TERM> 721,507
0
0
<COMMON> 36,715
<OTHER-SE> 138,568
<TOTAL-LIABILITIES-AND-EQUITY> 2,601,561
<INTEREST-LOAN> 31,773
<INTEREST-INVEST> 11,721
<INTEREST-OTHER> 1,582
<INTEREST-TOTAL> 45,076
<INTEREST-DEPOSIT> 14,664
<INTEREST-EXPENSE> 24,484
<INTEREST-INCOME-NET> 20,592
<LOAN-LOSSES> 498
<SECURITIES-GAINS> (160)
<EXPENSE-OTHER> 16,773
<INCOME-PRETAX> 11,162
<INCOME-PRE-EXTRAORDINARY> 7,368
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 7,368
<EPS-PRIMARY> 0.47
<EPS-DILUTED> 0.46
<YIELD-ACTUAL> 3.58
<LOANS-NON> 12,392
<LOANS-PAST> 0
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 13,224
<CHARGE-OFFS> 318
<RECOVERIES> 123
<ALLOWANCE-CLOSE> 13,527
<ALLOWANCE-DOMESTIC> 9,883
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 3,644
</TABLE>
