EX-13 3 0003.txt ANNUAL REPORT EXHIBIT 13 R-G FINANCIAL CORPORATION 1999 ANNUAL REPORT Strategic Expansion Into the XXI Century [GRAPHIC-LOGO FOR R&G FINANCIAL] Table of Contents Financial Highlights 1 Profile 3 Letter to Stockholders 5 Strategic Growth 17 Board of Directors 20 Key People 22 Financials 23 Stockholder Information 83 MISSION STATEMENT WE WILL STRIVE FOR LONG-TERM FINANCIAL STRENGTH AND PROFITABILITY BY CENTERING OUR STRATEGY ON CUSTOMER SATISFACTION, BEING OUR CUSTOMERS' FIRST CHOICE FOR SERVICE AND SOLUTIONS. Providing borrowers with competitive prices, a variety of loan programs, and service which is prompt, courteous and responsive to the unique characteristics of every customer. We seek to be a high-performance financial organization that delivers one-stop financial services to its clients; that is recognized as the best provider of value-added, service oriented financial services; and that offers services of unmatched quality in terms of accessibility, responsiveness and turnaround time. The key to our success is effective execution, every day, everywhere. By everyone. We will achieve these goals by making available a growing number of services and products within an environment that is both technologically advanced and friendly, and by creating a work environment where all team members care and are committed individually and as a team to do their best. What makes us a leader is not what we say, but what we do and the way we do it. Financial Highlights (Dollars in Thousands, except for per Share Data)
Percent Increase 1999 1998 1997 vs. 1998 ------------------------------------------------------------------------------------------------------------------ Loan Production 39% 1,977,322 1,426,069 906,324 Gross Revenues 29 233,953 180,767 138,440 Net Earnings 21 41,335 34,034 23,497 Total Assets 42 2,911,993 2,044,781 1,510,745 Return on Assets (12) 1.72% 1.95% 1.85% Servicing Portfolio 28 6,177,511 4,827,798 3,000,888 Efficiency Ratio (12) 54.39% 48.55% 50.28% Spread Income 29 56,578 43,973 36,530 Fee Income 25 70,811 56,470 41,105 Shareholders Equity 22 269,535 221,162 138,054 Common Shareholders Equity per Share 13 6.79 5.99 4.88 Return on Common Equity (5) 20.23% 21.32% 18.69% Diluted Earnings per Common Share 14 1.28 1.12 0.81 Cash Dividends Declared per Common Share 34 0.149 0.111 0.065 Market Value per Share (45) 11.50 21.00 9.63
[GRAPHIC- GRAPH DEPICTING REVENUES] [GRAPHIC- GRAPH DEPICTING NET INCOME] [GRAPHIC- GRAPH DEPICTING ASSETS] 1 [GRAPHIC- GRAPH DEPICTING LOAN PORTFOLIO] [GRAPHIC- GRAPH DEPICTING DEPOSITS] [GRAPHIC- GRAPH DEPICTING STOCKHOLDERS EQUITY] 2 Profile The Company was organized in 1972 as R-G Mortgage Corp. In 1996 we organized R-G Financial as a bank holding company, and went public on August 22, 1996. R-G Financial has $2.9 billion in assets and operates 53 banking and mortgage banking branches in 29 locations in Puerto Rico and two locations in New York. R-G Financial has the following financial services companies: R-G Premier Bank of Puerto Rico, R-G Mortgage Corp., and Champion Mortgage Corp. located in Puerto Rico, and Continental Capital Corp. located in New York. R-G Mortgage is the second largest mortgage originator in Puerto Rico, and R-G Premier Bank has been one of the fastest growing commercial banks in the island during the last 5 years. R-G Financial as a holding company is the fourth largest locally owned financial institution in Puerto Rico. R-G Financial manages a $6.2 billion servicing portfolio and is growing originations due to a strong housing market, low interest rates, and state-of-the art technology. R-G Financial has a $1.1 billion residential portfolio, $321.2 million in a commercial real estate and construction portfolio, $54.2 million in commercial business loans and leases, and $37.7 in personal loans and credit cards. Its $1.0 bi-llion investment portfolio consists primarily of tax-exempt mortgage-backed securities and U.S. Government agency securities. Approximately 1,300 professionals and a sophisticated computer center support the activities of the operation. R-G Financial common and preferred stocks are publicly traded on the Nasdaq Stock Market under the symbols "RGFC", "RGFCP" and "RGFCO", respectively. 3 [GRAPHIC-MAP OF PUERTO RICO DEPICTING COMPANY BRANCH LOCATIONS] [GRAPHIC-MAP OF LONG ISAND, NEW YORK DEPICTING COMPANY BRANCH LOCATIONS] 4 Letter to Stockholders Executive Overview Dear Fellow Stockholders: I am pleased to report another year of accomplishments for R-G Financial. During 1999 we achieved record double-digit earnings growth and significantly enhanced the fundamentals of our business. We increased our loan portfolio substantially, strengthened our balance sheet, and increased the efficiency of our operations. At the same time, we continued to deliver an exceptionally high level of service through the Bank and our mortgage banking companies, both in Puerto Rico and the mainland. For several reasons 1999 was an outstanding year for R-G. The Company's recurring earnings and dividend distribution reached record highs. Strategic initiatives added strength and depth to the Company, like our expansion to the United States through the acquisition of Continental Capital Corp. in Long Island, New York. The importance of the Long Island banking market is underscored by its sheer size. With a population of seven million (including Brooklyn and Queens) Long Island is the equivalent to the 12th largest state in the United States. Each of the four counties in Long Island is among the 25th largest in the nation, with two of the four having median household income higher than the U.S. average of $36,656, with effective total income of $51.4 billion. These are prosperous markets that we service with two branches located in the Nassau and Suffolk counties and one additional branch opened in Queens in January 2000. This operation will provide the necessary economic support for our entrance to the U.S. market through an operation which has been profitable since it was formed, supporting our pro- [GRAPHIC- GRAPHIC PORTRAIT OF VICTOR J. GALAN, R-G FINANCIAL CORPORATION CHAIRMAN OF THE BOARD AND CHIEF EXECUTIVE OFFICER] 5 posed expansion to the Hispanic population in the US. Above all, 1999 was a year in which we added a substantial number of new customers and increased our assets, deposits and capital to record levels. New banking branches were opened in Plaza del Sol Shopping Center in Bayamon, Plaza Inter-americana in Rio Piedras, and Plaza Las Americas, the largest shopping center in Puerto Rico with more than two million square feet of commercial and office space, located in the center of the city of San Juan. We now have a total of three branches in Bayamon with our latest branch opening in this city, to better serve and fully satisfy the banking needs of our customers in this part of the metro area. Also during 1999, we completed the construction of another new branch in Caguas, one of the largest cities of Puerto Rico, that we already opened in January 2000, and completed a major remodeling of our San Patricio Shopping Center branch located in the Caparra section of the city of San Juan. This expansion should support additional growth of deposits and loans in general since each branch, in addition to the banking business, has mortgage and consumer centers and a commercial lending section seeking new loans, in addition to the standard drive-in facilities and automatic teller machines. Also during this period, we opened new branches of Champion Mortgage in Bayamon, Caguas, Aguadilla and Guayama, increasing the total number of Champion Mortgage branches to six at the end of 1999 from two the prior year. The strategies underlying these achievements are equally notable because they form the basis of our business plan for future growth that we continue to successfully implement. How good a year was it? First, look at the recurring numbers: o $41.3 million net income o 21% earnings increase o 14% earnings per share increase o 20.23% return on equity o $2.9 billion in total assets o 1.72% return on assets o 53 loan production and banking offices located in Puerto Rico and the U.S. o Record annual loan production of $2.0 billion. 1999 was a banner year for R-G. Our profits, volume of loan originations and assets all reached new highs. In addition we increased our servicing portfolio to $6.2 billion, a record [GRAPHIC - CUSTOMER USING AN ATM] 6 amount for the Company. We are currently servicing more than 200,000 customers through our mortgage and commercial banking operation. The stock market was not favorable for financial stocks during 1999, particularly in Puerto Rico, and our stock price fell from a high of $21 to $11.50, an approximate 50% reduction, bringing the stock price close to book value. We believe our stock price is undervalued now, representing a real purchase opportunity for investors. The management team of the Company will continue striving for company growth, profitability and stockholders' value. We believe the continued achivements of these objectives will once again be reflected in a more appropiate valuation of our stock. As part of our strategy we have hedged for this increasing interest rate cycle through the implementation of three main initiatives during recent years - increasing amounts of recurring income to be generated by our loan and servicing portfolio, which we increased to record levels at the end of 1999 ($1.6 billion and $6.2 billion, respectively); increasing our commercial loan portfolio (comprised primarily of adjustable rate loans), which we increased 67% to $280 million during 1999 as a result of our commercial banking expansion; and establishing a low-cost structure in our mortgage banking business, permitting it to be profitable even though we might experience a lower volume of new loan originations. In addition we have introduced new products during the last few years - such as corporate lending and sub prime and home equity loans - which represent significant sources of revenue for R-G. This should maintain profit growth in the future. Puerto Rico's economy appears poised for sustained growth in the first decade of the 21st century. The construction industry is expected to continue expanding during the next years - particularly in homebuilding - mostly due to demographic changes. Demand for additional housing is abundant - for families of new formation, step up buyers seeking better housing and second homes, and empty nesters looking for smaller units, mostly luxury apartments, [GRAPHIC- QUOTE- We believe that the economy in Puerto Rico and the United States will continue to perform strongly in 2000.] 7 while they sell their existing larger homes - completing the cycle of family growth and real estate needs. Investment in homebuilding, which reached an all time high of $3.0 billion in fiscal 1999, exceeded investment in tourism, manufacturing, industrial, and commercial development combined. An important aspect of this investment is that practically all of it was done with capital of local investors who are mostly financed by institutions like ours. We believe that the economy of Puerto Rico and the United States will continue to perform strongly during 2000, with inflation remaining under control, permitting interest rates to eventually stabilize. This will provide the economic support for another vigorous and profitable business cycle, which will be beneficial to institutions like ours dedicated primarily to real estate finance. We believe that the Company's strong position in the mortgage sector, combined with its rapidly expanding banking operation will continue producing asset and earnings growth in the future. This should cause the value of our common stock to increase. The 1999 Year in Review Record Financial Results Earnings for 1999 rose to a record of $41.3 million, increasing 21% from 1998 earnings of $34.0 million. On a per share basis (diluted), R-G Financial earned $1.28 in 1999, compared to $1.12 the previous year, an increase of 14%. Our compounded annual growth rate for the period 1979-99 was 42.5%, and 36.4% for the period since August 22, 1996 when we became a public company. Since our initial public offering, we have generated additional capital for our shareholders of $90 million and increased assets by $1.9 billion, representing a total growth of 86% in capital and 177% in assets, while paying dividends to our common stockholders in the amount of $10.8 million. We believe that this rapid growth is attributable to three strategies in particular - our investment in technology, promotional campaigns and advertising; geographical expansion through the opening of new branches in Puerto Rico and in the United States; and the development of a strong sales culture. This has resulted in improved market share in mortgage, commercial and consumer lending, as well as banking deposits. [GRAPHIC - CUSTOMER USING AN ATM] 8 Total gross revenues for 1999 amounted to $234.0 million compared to $180.8 million for 1998. Net revenues after deducting our cost of interest were $127.4 million, compared to $100.4 million in 1998. A significant portion of our 1999 net revenues consisted of net interest income totaling $56.6 million. Net interest income for 1999 was up by 29% from the 1998 level. The balance of our net revenues, amounting to $70.8 million, consisted of fees generated primarily from the servicing of our mortgage portfolio, the origination and sale of loans, and banking services. The level of fee income in 1999 was 25% higher than in 1998. The Company achieved solid gains in virtually all categories - mortgage and banking operations, electronic banking, trusts, commercial loans, and credit cards - as a direct result of providing a unique line of banking products and personalized services. We increased dividends to $0.149 per share from $0.111 per share in 1998. For the quarter ended December 31, 1999, the dividend was increased to $0.18 per share on an annual basis, a 34% annualized increase from the prior quarterly dividend. This was our 13th consecutive increase since the Company went public. In addition, since January 2000 we offer a stock reinvestment plan to our stockholders as a simple method of reinvesting cash dividends in common stock. (Refer to our Prospectus on this plan) Shareholders' equity of $269.5 million as of December 31, 1999 was up 22% from $221.2 million in 1998. Core capital represented 9.35% of our total assets, significantly above the average commercial bank, and risk-based capital represented 16.47% (on a consolidated basis), substantially exceeding the minimums required by our regulators. [GRAPHIC - GRAPH OF MORTGAGE SERVICING PORTFOLIO] 9 Branch Expansion Program During 1999 we opened three successful banking offices with the goal of increasing commercial and retail core deposits. During 1999, these new branches generated deposits in the amount of $29 million, surpassing our own projections. In our market, branch availability and location still influence consumers' decisions about which bank to do business with. Branches are also important to many of our commercial customers who, to a large extent, still value and need physical access. All our branches are strategically located, mostly in shopping centers, and are designed to be selling platforms for cross-selling and relationship building. We have created, in fact, a network of physical sites where we can interact with our customers. This personal presence allows us to consolidate our franchise in banking and mortgage banking. At the close of the year we had 22 branches of R-G Premier Bank, 23 branches of R-G Mortgage and 6 branches of Champion Mortgage (a subsidiary of R-G Mortgage), each working in tandem in 29 different locations across the island of Puerto Rico. In addition we had two offices of Continental Capital Corp. in Long Island, New York. About 884 employees were assigned to branches, loan origination and processing, 59 to operations, 236 to loan administration, and the balance to general administrative and finance, which results in a total of 1,293 employees. [GRAPHIC - R-G ATM CARD] [GRAPHIC - R-G PREMIER BANK OF PUERTO RICO BANNER] [GRAPHIC - R-G PLAZA LOGO ON BUILDING] 10 With this expansion, we have completed a substantial part of our proposed branch distribution since the most important economic areas of Puerto Rico are covered. Future growth of physical locations will be at a slower pace since we have some other marketing alternatives available to cover the remaining territory of the island in which we do not have physical locations. Record Loan Production and Assets Growth Loan production - comprised of residential and commercial mortgage lending, consumer and business lending - reached an all time high of $2.0 billion in 1999. This represented a 39% increase from the $1.4 billion of production in 1998. We achieved this substantial growth through a very strong advertising effort using print and broadcast media, a substantial expansion in branches and increased telemarketing. Our residential, commercial and construction mortgage originations translated into a market share of 30%, based on an estimated total mortgage market of $5.3 billion in Puerto Rico last year, increasing from 28% the prior year. Significant opportunities remain for even greater market share in mortgage lending. Champion Mortgage, a subsidiary of R-G Mortgage, achieved excellent results, producing a record volume of non-conforming, including sub-prime, residential mortgage loan originations. In view of the initial success of this operation, we expanded its scope of business to include a full line of mortgage products. Our intention is to separate this part of our business in order to focus on the requirements of this very special market niche. During 1999 we opened a new Champion Mortgage branch in Bayamon, a new branch in Caguas, a new branch in Aguadilla, and a new branch in Guayama. In addition, we are presently evaluating five other locations. [GRAPHIC - GRAPH OF TOTAL LOAN PRODUCTION] 11 Our residential portfolio at the end of 1999 totaled $1.1 billion, a 48% increase from $754 million in 1998. The average yield for 1999 was 7.42%. This portfolio included $1.1 billion of residential first mortgages and $13.0 million of second mortgages. During 1998 we expanded our services by organizing a Construction Loan Department to work primarily with real estate developers. Previously we had focused exclusively on financing individual residential construction. As of December 31, 1999, we had outstanding loans of $44.6 million, plus commitments for future funding of $50.6 million. Our commercial loan portfolio, including commercial mortgages and leases, increased to $280.3 million at year-end, an increase of 67% from the prior year. This increase was due mostly to the introduction of customized commercial loans structured to fit borrowers' needs. Most of this portfolio is structured with interest rate floors, and generates yields that adjust with fluctuations in the Prime Rate or LIBOR. Our consumer portfolio, which includes collateralized consumer loans and credit cards, amounted to $114.6 million at the end of 1999. This portfolio generated an average yield of 11.24% which improved the average return of our total portfolio and our spread income. Other than auto lending, a business in which we are not involved for the moment, during 1999 we completed the full line of products necessary to compete effectively either in the asset or the liability side of our banking business. We are able to provide our clients this line of products as part of our cross-selling program. We expanded our servicing portfolio to 107,000 loans with a total balance of $6.2 billion, an increase of $1.3 billion, or 28% from 1998. We estimate the total value of our servicing portfolio at $111.0 million as of December 31, 1999, or $26.8 million above the value reflected in our books under Statement of Financial Accounting Standards No. 125. This extra value is primarily represented by portfolio not capitalized in our books. Our servicing portfolio continues to be a strong source of revenue. Servicing income increased to [GRAPHIC - QUOTE- We are providing a unique line of banking products and personalized services.] 12 $27.1 million in 1999 from $16.0 million in 1998. We strengthened our credit loss reserves during the year, increasing the reserve for loan losses to $9.0 million, a 11% increase from $8.1 million the previous year. Reserves approximate 75% of total non-performing loans as of December 31, 1999, excluding our residential loan portfolio, where losses have historically been minimal. Loans sold during 1999 were substantial, totaling $904.5 million. These sales consisted of $287.9 million of residential FHA and VA mortgage loans securitized and sold in GNMA Pools, and $616.6 million of residential conventional loans mainly sold to the government sponsored agencies (Fannie Mae and Freddie Mac). Our ability to sell conventional mortgage loans was made easier by the installation of scoring systems directly connected with both entities. The direct connection allows for faster response about loan approvals, shorter processing time, and immediate delivery to the secondary market once the loans are closed. Our securities portfolio increased by 63% in 1999, growing to $1.0 billion from $639.7 million in 1998. These investments represented 36% of total assets as of December 31, 1999, and with a yield of 6.30%, generated revenues of $43.8 million. Most of these securities are tax-free federally guaranteed bonds and GNMA's. This contributed to the Company's reduction in taxes for 1999 to an effective tax rate of 23% from 24.5% in 1998. Liquid assets constituted 13.28% of our total assets at year-end, even though we closed new loans totaling $2.0 billion during the year. Assets grew by $867 million during 1999 to a record $2.9 billion. This growth was financed by a $323 million increase in deposits, a $260 million increase in repurchase agreements and a $204 million increase in lines of credit with banks and the Federal Home Loan Bank of New York. The balance was financed through profits, loan payoffs and sales, and funds generated by our preferred stock issue of $25 million last December. The proceeds of this issue, with a gross return to investors of 7.75%, were allocated to increase the capital of the Bank. At year-end, our unused lines of credit, (including lines of 13 credit with the Federal Home Loan Bank), totaled $446.9 million. We had $429.4 million of excess collateral available to cover advances from these lines, with the collateral primarily available from our residential mortgage portfolio, providing us with additional liquidity to continue our fast growth. Record Deposits Deposits were at a record level at the end of 1999, increasing by 32% to $1.3 billion from $1.0 billion in 1998. This growth was mainly due to three initiatives: a very strong promotional campaign designed to generate core deposits and to expand our Private Banking business; the opening of new branches; and the expansion of our existing locations. New deposits with our Private Banking Group rose substantially, and these accounts will lead to additional business in 2000 as the Private Banking Group provides other products and services to these customers, such as sale of investments, mutual funds, and savings and retirement products such as IRAs and Keogh plans. We are providing a unique line of banking products and personalized services in "niche" savings programs. These programs are designed for customers who seek high yields, diversity of products and access to electronic banking services, but who also want their accounts to be FDIC-insured. The average per branch deposit size increased 20% to $60.5 million in 1999 from $50.3 million in 1998, even though we opened three new branches during the year. Our average per branch deposit size exceeds the average per branch deposits in Puerto Rico. Core deposits, primarily consisting of saving and direct deposit accounts, represented 59.7% of our total deposits (also above the average for the banking industry in Puerto Rico). Brokered deposits were only 9.6% of our total deposits. Our share of the total deposit market in Puerto Rico increased to 4.50% from 4.34% in 1998, while our share of the primary markets we serve (northern Puerto Rico plus Caguas, Ponce, and Mayaguez) increased to 5.76% from 5.39%. New Services and State of the Art Technology The introduction of Interactive Internet Banking as part of our strategy to combine "bricks and web" has been a total success, and we continue [GRAPHIC - QUOTE- The introduction of Interactive Internet Banking as part of our strategy has been a total success.] 14 to be one of the few banks in Puerto Rico providing Internet Banking (including bill payments) while expanding physical locations. We are moving a step closer to creating a true virtual bank. With a virtual bank, most transactions done at any physical branch can instead be performed from one's home or office via computer. Access to Internet has grown faster than anticipated. Statistics indicate that there are over 450,000 persons currently connected to the Internet in Puerto Rico. As a result of this widespread acceptance, online banking has experienced steady growth. Web based banking provides us with the potential to increase revenues - by attracting new clients while retaining our existing ones - and decrease operating and transaction costs, thereby improving efficiencies. Please be sure to visit us on the web at www.rgonline.com. With this product, we are offering our customers the full gamut of technological services - electronic commerce, home banking, Internet for mortgage and other loan applications as well as banking transactions, and imaging, as well as our voice response system, ATM's and platform branch automation. With a push of a button, click of a mouse, or phone call, our customers can access their accounts and Company information 24 hours a day, 7 days a week, either through our voice-activated response system, offering a 24-hour toll-free telephone account information access, through home banking, or through interactive Internet banking. The transition into the new millennium was a safe, uneventful situation, with complete absence of glitches. We want to congratulate all our staff for the easy transition that never posed a serious disruption to our business, making the Y2K transition a success. Also we want to thank our [GRAPHIC - GRAPHIC OF R-G ONLINE WEB PAGE] 15 customers for keeping their trust and money in the Bank. We are pleased with the Company's results for 1999. We significantly increased loan originations and, from our internal loan production, added to our inventory $660 million of unsold loans in our balance sheet to expand our earning-assets base. As a result, total assets grew to a record $2.9 billion, and our servicing portfolio increased to a record $6.2 billion. Total assets under administration (including our servicing portfolio) grew to $9.1 billion during 1999, rising 32% from the prior year. All of these accomplishments led to a strong improvement in revenues and net income for 1999. We are optimistic that these accomplishments will also translate into increased profitability in the future. The Company will continue to emphasize strong capital ratios, good asset quality, expense control, and increased spread and fee income as key financial sources of future success. Our competitive advantage is a talented, motivated and highly trained staff that is directed by an excellent management team that is compensated through carefully designed incentive programs. Employees are committed to delivering exceptional products and services to our customers. R-G is already a widely recognized financial brand with a significant franchise in the Puerto Rico market. Our appreciation to our valued customers for their patronage, to our great team of people for being the very best at what they do, to our directors for their exceptional dedication to the Company's success, and to our stockholders for their confidence and support. All of us at R-G look forward to adding value to our investment as shareholders today, tomorrow, as well as into the new century. We thank you for your help, encouragement and support. We are committed to delivering improving returns for our stockholders. /s/ Victor J. Galan ------------------- Victor J. Galan Chairman of the Board and Chief Executive Officer R-G Financial Corporation [GRAPHIC-PHOTO OF VICTOR J. GALAN, R-G FINANCIAL CORPORATION CHAIRMAN OF THE BOARD AND CHIEF EXECUTIVE OFFICER, AND RAMON PRATS, VICE CHAIRMAN OF THE BOARD AND EXECUTIVE VICE PRESIDENT] 16 Strategic Growth At the beginning of a new millennium we face new challenges and opportunities. As we open a new century, the banking industry sets its eyes on consolidation and the enhancement of technology. Staying ahead is now pressed by the need to be prepared. It is essential that R-G maintain its leadership in banking and mortgage products, but also in technology and services. We must Keep pace with technology if we are to provide the most complete and advanced services to our customers and to provide the tools that our team needs to fulfill their expectations. In 2000 we will continue implementing our strategic plan that consists of the following key elements: 1. Continue to expand the Company's branch network into desirable locations in Puerto Rico and the United States in order to gain access to additional retail funding sources and loan business. 2. Retain a portion of our residential, commercial and consumer loan production volume and the associated servicing (thereby benefitting from economies of scale); 3. Continue to utilize advanced technology and automated processes throughout the Company's business to improve customer service, reduce the cost of loan production and servicing, and increase efficiencies. 4. Cross-sell retail and private banking services to the Company's large base of mort- 17 gage customers, including the Hispanic market in the United States. 5. Expand to other sources of income as allowed by local regulations in the immediate future, such as affiliation with insurance companies and securities firms. As time becomes a more valued commodity in daily life, customers will increasingly demand faster, more convenient service. Only the latest state-of-the-art technology will be able to satisfy these client expectations. [GRAPHIC - COMPUTER WITH R-G WEB PAGE ON COMPUTER SCREEN] 18 [GRAPHIC - CORPORATE STRUCTURE FLOW CHART] 19 Corporate Information BOARD OF DIRECTORS Victor J. Galan Chairman of the Board and Chief Executive Officer Ramon Prats Vice Chairman of the Board and Executive Vice President Enrique Umpierre Suarez Secretary of the Board and Attorney in private practice Ana M. Armendariz Treasurer of the Board and Senior Vice President of Finance RGM Benigno R. Fernandez Senior Partner of Fernandez, Perez, Villariny & Co., CPA firm in Hato Rey, Puerto Rico. Eduardo McCormack Retired Businessman. Previously worked for Bacardi Corp. in various capacities. Victor L. Galan Vice President Champion Mortgage [GRAPHIC - PORTRAITS OF R-G BOARD OF DIRECTORS] 20 Gilberto Rivera Arreaga, CPA/ESQ. Executive Vice President National College of Business & Technology, post secondary institution with campuses in Bayamon and Arecibo, Puerto Rico. Laureano Carus Abarca Chairman of Alonso Carus Iron Works in Catano, Puerto Rico, manufacturers of metal products. Juan J. Diaz Retired businessman. Former Senior Vice President of Loan Administration of R-G. Pedro Ramirez President & CEO of Empresas Nativas, Inc., local real estate development firm. Roberto Gorbea President & CEO of Lord Electric Company of Puerto Rico, Inc. Ileana M. Colon Carlo Chief Administration and Financial Officer of McConnell & Valdes, legal counsels. Former Comptroller General of the Commonwealth of Puerto Rico. [GRAPHIC - PORTRAITS OF R-G BOARD OF DIRECTORS] 21 Key People Officers of R-G Financial Corporation: SENIOR MANAGEMENT TEAM VICTOR J. GALAN, Chairman, President and CEO RAMON PRATS, Executive Vice President JOSEPH R. SANDOVAL, Senior Vice President and Chief Financial Officer RAMON PEREZ, Senior Vice President Loan Administration RGM MARIO RUIZ, Senior Vice President Secondary Market RGM ANA M. ARMENDARIZ, Senior Vice President Finance RGM IVAN VELEZ, Senior Vice President Operations RGPB JOSE L. ORTIZ, Vice President Finance RGPB WILLIAM MARTINEZ, Vice President Administration RGM SONIA I. VAZQUEZ, Vice President and General Auditor MIKE WALLACE, Jr. CEO, Continental Capital Corp. PRODUCTION GROUP DENNIS C. TRISTANI, Senior Vice President Commercial Lending RGPB FELIPE FRANCO, Senior Vice President Consumer Lending RGPB ROBERTO CORDOVA, Senior Vice President Loan Production RGM STEVEN VELEZ, Senior Vice President Underwriting & Technology RGM EDWIN REYES, Vice President Branch Administration RGPB VICTOR L. GALAN, Vice President Champion Mortgage RICARDO AGUDO, Vice President New Housing RGM JEANNETE MIRO, Vice President Marketing RGPB ISMENIA ISIDOR, Vice President Closings Department RGM VICTOR IRIZARRY, Senior Vice President Construction and Corporate Banking LOURDES GONZALEZ, Vice President Retail Construction Lending MARY ROSALES, Vice President Interim Construction Lending MIKE MCHUGH, President Continental Capital Corp. 22 SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA OF R&G FINANCIAL The following table presents selected consolidated financial and other data of R&G Financial for each of the five years in the period ended December 31, 1999. The selected consolidated financial data should be read in conjunction with the Consolidated Financial Statements of R&G Financial, including the accompanying Notes, presented elsewhere herein. In the opinion of management, this information reflects all adjustments, consisting only of normal recurring accruals and adjustments, necessary for a fair presentation.
At or For the Year Ended December 31, 1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- (Dollars in Thousands, except for per share data) Selected Balance Sheet Data: Total assets(1) .............................. $2,911,993 $2,044,782 $1,510,746 $1,037,798 $ 853,206 Loans receivable, net ........................ 1,563,007 1,073,668 765,059 603,751 473,841 Mortgage loans held for sale ................. 77,277 117,126 46,885 54,450 21,318 Mortgage-backed and investment securities held for trading ............................ 43,564 450,546 401,039 110,267 113,809 Mortgage-backed securities available for sale 712,705 95,040 46,004 50,841 61,008 Mortgage-backed securities held to maturity .. 23,249 28,255 33,326 37,900 41,731 Investment securities available for sale ..... 258,164 59,502 75,863 30,973 3,280 Investment securities held to maturity ....... 5,438 6,344 10,693 5,270 2,046 Servicing asset .............................. 84,253 58,221 21,213 12,595 8,210 Cash and cash equivalents(2) ................. 65,996 103,728 68,366 98,856 104,195 Deposits ..................................... 1,330,506 1,007,297 722,418 615,567 518,187 Securities sold under agreements to repurchase 731,341 471,422 433,135 97,444 98,483 Notes payable ................................ 132,707 182,748 103,453 126,842 77,130 Other borrowings(3) .......................... 408,843 130,000 91,359 65,463 71,315 Stockholders' equity ......................... 269,535 221,162 138,054 115,633 66,385 Common Stockholders' equity per share(4) ..... $ 6.79 $ 5.99 $ 4.88 $ 4.09 $ 3.55 Selected Income Statement Data: Revenues: Net interest income after provision for loan losses $ 52,053 $ 37,373 $ 30,160 $ 24,665 $ 20,323 Loan administration and servicing fees ............ 27,109 15,987 13,214 13,029 11,030 Net gain on sale of loans ......................... 37,098 34,955 23,286 12,351 8,384 Other(5) .......................................... 6,604 5,528 4,605 3,872 4,028 -------------------------------------------------------------- Total revenue ..................................... 122,864 93,843 71,265 53,917 43,765 -------------------------------------------------------------- Expenses: Employee compensation and benefits ................ 24,433 17,095 13,653 10,794 8,284 Office occupancy and equipment .................... 11,289 8,987 7,131 5,531 4,711 SAIF special assessment ........................... -- -- 2,508 Other administrative and general .................. 33,568 22,687 18,252 15,424 13,731 -------------------------------------------------------------- Total expenses ............. 69,290 48,769 39,036 34,257 26,726 --------------------------------------------------------------
At or For the Year Ended December 31, 1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- (Dollars in Thousands, except for per share data) Income before minority interest in the Bank and Income taxes ....................................... 53,574 45,074 32,229 19,660 17,039 Minority interest in the Bank's earnings ........... -- -- 538 743 Income taxes ....................................... 12,239 11,040 8,732 5,922 5,847 -------------------------------------------------------------- Net income ......................................... 41,335 34,034 23,497 13,200 10,449 -------------------------------------------------------------- Less: Dividends on preferred stock ................. (3,754) (1,234) -- -- -- Net income available to common stockholders ........ $ 37,581 $ 32,800 $ 23,497 $ 13,200 $ 10,449 Diluted earnings per share (4) ..................... $ 1.28 $ 1.12 $ 0.81 $ 0.59 $ 0.56
23 At or For the Year Ended December 31, (Dollars in Thousands, except for per share data)
1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- Selected Operating Data(6): Performance Ratios and Other Data: Mortgage loans originated and purchased .............. $ 1,610,945 $ 1,237,415 $ 758,486 $ 480,525 $ 327,107 Mortgage servicing portfolio ......................... 6,177,511 4,827,798 3,000,888 2,550,169 2,298,200 Return on average assets(6) .......................... 1.72% 1.95% 1.85% 1.38% 1.47% Return on average common equity(6) ................... 20.23 21.32 18.69 15.54 17.08 Equity to assets at end of period .................... 9.26 10.82 9.13 11.14 7.78 Interest rate spread(7) .............................. 2.40 2.43 2.88 3.00 2.93 Net interest margin(7) ............................... 2.60 2.72 3.12 3.24 3.26 Average interest-earning assets to average interest-bearing liabilities ....................... 104.21 105.93 104.61 104.60 106.50 Total non-interest expenses to average total assets .. 2.88 2.80 3.08 3.59 3.80 Full-service Bank offices ............................ 22 20 15 15 14 Mortgage offices (8) ................................. 31 23 19 16 13 Cash dividends declared per common share(4)(9) ....... .149 .111 .065 .069 -- Asset Quality Ratios(10): Non-performing loans to total loans at end of period . 3.66% 4.08% 3.89% 3.09% 2.18% Non-performing assets to total assets at end of period 2.26 2.41 2.12 1.90 1.32 Allowance for loan losses to total loans at end of period ..................................... .55 0.74 0.87 0.55 0.72 Allowance for loan losses to total non-performing loans at end of period ............................... 15.11 17.92 22.34 17.64 33.19 Net charge-offs to average loans outstanding ......... 0.25 0.55 0.40 0.75 0.08 Bank Regulatory Capital Ratios(11): Tier 1 risk-based capital ratio ...................... 12.36% 13.41% 13.10% 13.91% 10.53% Total risk-based capital ratio ....................... 13.08 14.46 14.00 14.79 11.66 Tier 1 leverage capital ratio ........................ 7.07 8.04 7.34 8.45 6.25
(Footnotes on Following Page) 24 ----------------------- (1) At December 1999, R&G Mortgage and the Bank had total assets of $715.7 million and $2.3 billion, respectively, before consolidation. (2) Comprised of cash and due from banks, securities purchased under agreements to resell, time deposits with other banks and federal funds sold, all of which had original maturities of 90 days or less. (3) Comprised of long-term debt, advances from the Federal Home Loan Bank ("FHLB") of New York and other secured borrowings. (4) Per share information for all periods presented takes into consideration a 2 for 1 stock split paid in June 1998 and an 80% stock dividend paid in September 1997. (5) Comprised of change in provision for cost in excess of market value of loans held for sale, net gain on trading account, and other miscellaneous revenue sources, including Bank service charges, fees and other income. (6) With the exception of end of period ratios, all ratios for R&G Mortgage are based on the average of month end balances while all ratios for the Bank are based on average daily balances. (7) Interest rate spread represents the difference between R&G Financial's weighted average yield on interest-earning assets and the weighted average rate on interest-bearing liabilities. Net interest margin represents net interest income as a percent of average interest-earning assets. See "Management's Discussion and Analysis of Financial Condition and Results of Operations of R&G Financial." (8) Includes 6 branches of Champion Mortgage Corporation, R&G Mortgage's wholly owned mortgage banking subsidiary, and 2 branches of Continental Capital Corp., the Bank's wholly owned mortgage banking subsidiary in New York. Also includes 16 R&G Mortgage facilities which are located within the Bank's offices. (9) Includes $500,000 or $0.025 per share paid on the Class A Common Stock in March 1996 prior to the Company's initial public offering. Amount is based on weighted average number of shares of Common Stock (Class A and Class B) outstanding. (10) Non-performing loans consist of R&G Financial's non-accrual loans and non-performing assets consist of R&G Financial's non-performing loans and real estate acquired by foreclosure or deed-in-lieu thereof. (11) All of such ratios were in compliance with the applicable requirements of the FDIC. 25 General R&G Financial, through its subsidiaries, is primarily engaged in a wide range of real estate secured lending activities, including the origination, servicing, purchase and sale of mortgages on single-family residences, the securitization and sale of various mortgage-backed and related securities and the holding and financing of mortgage loans and mortgage-backed and related securities for sale or investment. R&G Financial also originates for its portfolio commercial real estate loans, residential construction loans, commercial business loans and consumer loans. Finally, R&G Financial provides a variety of trust and investment services to its customers. R&G Financial has generally sought to achieve long-term financial strength and profitability by increasing the amount and stability of its net interest income and other non-interest income. R&G Financial has sought to implement this strategy by (i) establishing and emphasizing the growth of its mortgage banking activities, including growing its loan servicing operation; (ii) expanding its retail banking franchise (the Bank has expanded its branch system from two offices at February 1990 to 22 offices at December 31, 1999) through possible branch acquisition opportunities that may arise or the opening of new branches, all in order to achieve increased market presence and to increase core deposits; (iii) enhancing R&G Financial's net interest income by increasing R&G Financial's loans held for investment, particularly single-family residential loans; (iv) developing new business relationships through an increased emphasis on commercial real estate and commercial business lending; (v) diversifying R&G Financial's retail products and services, including an increase in consumer loan originations (such as credit cards); (vi) meeting the banking needs of its customers through, among other things, the offering of trust and investment services; and (vii) controlled growth and the pursuit of a variety of acquisition opportunities when appropriate. R&G Financial attempts to control its overall operating expenses, notwithstanding R&G Financial's recent growth and expansion activities. Asset and Liability Management General. Changes in interest rates can have a variety of effects on R&G Financial's business. In particular, changes in interest rates affect the volume of mortgage loan originations, the interest rate spread on loans held for sale, the amount of gain on the sale of loans, the value of R&G Mortgage's loan servicing portfolio and the Bank's net interest income. A substantial increase in interest rates could also affect the volume of R&G Mortgage's loan originations for both the Bank and third parties by reducing the demand for mortgages for home purchases, as well as the demand for refinancings of existing mortgages. Conversely, a substantial decrease in interest rates will generally increase the demand for mortgages. To the extent that interest rates in future periods were to increase substantially, R&G Financial would expect overall originations to decline. A decrease in the volume of R&G Financial's mortgage originations could result in a decrease in the amount of R&G Mortgage's mortgage origination income and portfolio generated net interest income to the Bank. The principal objective of R&G Financial's asset and liability management function is to evaluate the interest-rate risk included in certain balance sheet accounts and off-balance sheet commitments, determine the appropriate level of risk given R&G Financial's business focus, operating environment, capital and liquidity requirements and performance objectives, establish prudent asset concentration guidelines and manage the risk consistent with Board approved guidelines. Through such management, R&G Financial seeks to reduce the vulnerability of its operations to changes in interest rates and to manage the ratio of interest rate sensitive assets to interest rate sensitive liabilities within specified maturities or repricing dates. The Bank's asset and liability management function is under the guidance of the Interest Rate Risk, Budget and Investments Committee ("IRRBICO"), which is chaired by the Chief Executive Officer and comprised principally of members of the Bank's senior management and at least three members of the Board of Directors. The IRRBICO meets once a month to review, among other things, the sensitivity of the Bank's assets and liabilities to interest rate changes, the book and market values of assets and liabilities, unrealized gains and losses, purchase and sale activity and maturities of investments and borrowings. In connection therewith, the IRRBICO generally reviews the Bank's liquidity, cash flow needs, maturities of investments, deposits and borrowings 26 and current market conditions and interest rates. The Bank's primary IRRBICO monitoring tool is asset/liability simulation models, which are prepared on a monthly basis and are designed to capture the dynamics of balance sheet, rate and spread movements and to quantify variations in net interest income under different interest rate environments. The Bank also utilizes market-value analysis, which addresses the change in equity value arising from movements in interest rates. The market value of equity is estimated by valuing the Bank's assets and liabilities. The extent to which assets have gained or lost value in relation to the gains or losses of liabilities determines the appreciation or depreciation in equity on a market-value basis. Market value analysis is intended to evaluate the impact of immediate and sustained interest-rate shifts of the current yield curve upon the market value of the current balance sheet. A more conventional but limited IRRBICO monitoring tool involves an analysis of the extent to which assets and liabilities are "interest rate sensitive" and measuring an institution's interest rate sensitivity "gap." An asset or liability is said to be interest rate sensitive within a specific time period if it will mature or reprice within that time period. The interest rate sensitivity "gap" is defined as the difference between interest-earning assets and interest-bearing liabilities maturing or repricing within a given time period. A gap is considered positive when the amount of interest rate sensitive assets exceeds the amount of interest rate sensitive liabilities. A gap is considered negative when the amount of interest rate sensitive liabilities exceeds interest rate sensitive assets. During a period of rising interest rates, a negative gap would tend to adversely affect net interest income, while a positive gap would tend to result in an increase in net interest income. During a period of falling interest rates, a negative gap would tend to result in an increase in net interest income, while a positive gap would tend to affect net interest income adversely. At December 31, 1999, R&G Financial's interest-bearing liabilities which mature or reprice within one year exceeded R&G Financial's interest-earning assets with similar characteristics by $691.8 million, or 23.76% of total assets. While a conventional gap measure may be useful, it is limited in its ability to predict trends in future earnings. It makes no presumptions about changes in prepayment tendencies, deposit or loan maturity preferences or repricing time lags that may occur in response to a change in the interest rate environment. R&G Mortgage. The profitability to R&G Mortgage of its mortgage loan originations is in part a function of the difference between long-term interest rates, which is the rate at which R&G Mortgage originates mortgage loans for third parties, and short-term interest rates, which is the rate at which R&G Mortgage finances such loans until they are sold. Generally, short-term interest rates are lower than long-term interest rates and R&G Mortgage benefits from the difference, or the spread, during the time the mortgage loans are held by R&G Mortgage pending sale. A decrease in this spread would have a negative effect on R&G Mortgage's net interest income and profitability, and there can be no assurance that the spread will not decrease. R&G Mortgage generally attempts to reduce this risk by attempting to limit the amount of mortgage loans held pending sale and, as market conditions permit, entering into forward commitments with respect to a portion of its mortgage loan originations. As a general matter, R&G Mortgage attempts to limit its exposure to this interest rate risk through the sale of substantially all loans within 180 days of origination. A mortgage-banking company is generally exposed to interest rate risk from the time the interest rate on the customer's mortgage loan application is established through the time the mortgage loan closes, and until the time the company commits to sell the mortgage loan. In order to limit R&G Mortgage's exposure to interest rate risk through the time the mortgage loan closes, R&G Mortgage generally does not lock-in or guarantee the customer a specific interest rate on such loans through the closing date but rather offers customers an interest rate that will be based on a prevailing market rate that adjusts weekly. Moreover, in order to limit R&G Mortgage's exposure to interest rate risk through the time the loan is sold or committed to be sold, R&G Mortgage may, depending upon market conditions, enter into forward commitments to sell a portion of its mortgage loans to investors for delivery at a future time. At December 31, 1999, R&G Mortgage had $58.6 million of pre-existing commitments by third-party investors to purchase mortgage loans. To 27 the extent that R&G Mortgage originates or commits to originate loans without pre-existing commitments by investors to purchase such loans or is not otherwise hedged against changes in interest rates ("unhedged loans"), R&G Mortgage will be subject to the risk of gains or losses through adjustments to the carrying value of loans held for sale or on the actual sale of such loans (the value of unhedged loans fluctuates inversely with changes in interest rates). Finally, R&G Mortgage carries an inventory of mortgage-backed and related securities (primarily fixed-rate GNMA certificates). Generally, the value of fixed-rate mortgage-backed securities declines when interest rates rise and, conversely, increases when interest rates fall. At December 31, 1999, R&G Mortgage held $43.6 million of mortgage-backed and related securities (all of which carried fixed interest rates) which were classified as held for trading and reported at fair value, with unrealized gains and losses included in earnings. Accordingly, declines in the value of R&G Mortgage's securities held for trading could have a negative impact on R&G Financial's earnings regardless of whether any securities were actually sold. On January 1,1999 R&G Mortgage reclassified $427.4 million of mortgage-backed securities from trading to available for sale upon adoption of a new accounting pronouncement. The adoption of this Statement had no effect on the results of operations of the Company. See Recent Accounting Pronouncements. In order to hedge the interest rate risk with respect to R&G Mortgage's mortgage-backed and related securities portfolio, R&G Mortgage may utilize a variety of interest rate contracts such as interest rate swaps, collars, caps, options or futures (primarily Eurodollar certificates of deposit and U.S. Treasury note contracts). R&G Mortgage will use such hedging instruments based upon market conditions as well as the level of market rates of interest. In determining the amount of its portfolio to hedge, R&G Mortgage will consider the volatility of prices of its mortgage-backed and related securities (Puerto Rican tax-exempt GNMAs are generally less volatile than their U.S. counterparts). For taxable GNMAs, R&G Mortgage enters into forward sales commitments for 30, 60 and 90 days to reduce its interest rate risk. R&G Mortgage may also use interest rate swaps, caps, collars, options and futures to effectively fix the cost of short-term funding sources which are used to originate and or purchase interest-earning assets with longer effective maturities, such as mortgage- backed securities and fixed rate residential mortgage loans held prior to sale in the secondary market. Such agreements thus reduce the impact of increases in interest rates by preventing R&G Mortagage from having to replace funding sources at a higher cost prior to the time that the interest-earning asset which was originated or purchased with such source matures, reprices or is sold, and thus can be replaced with a higher-yielding asset. At December 31, 1999 R&G Mortgage was a party to two interest rate swap agreements. An interest rate swap is an agreement where one party (generally the Company) agrees to pay a fixed-rate of interest on a notional principal amount to a second party (generally a broker) in exchange for receiving from the second party a variable-rate of interest on the same notional amount for a predetermined period of time. No actual assets are exchanged in a swap of this type and interest payments are generally netted. R&G Mortgage's existing interest rate swap agreements have an aggregate notional amount of approximately $70.0 million and expire in December 2009. With respect to such agreements, R&G Mortgage makes fixed interest payments of 5.60% and receives payments based upon the three-month London Interbank Offer Rate ("Libor"). The net interest received relating to R&G Mortgage's fixed-pay interest rate swaps amounted to approximately $107,000 and $248,000 during the years ended December 31, 1999 and 1998, respectively. Such interest rate contracts have reduced the imbalance between R&G Mortgage's interest-earning assets and interest-bearing liabilities within shorter maturities, thus reducing R&G Mortgage's exposure to increases in interest rates that may occur in the future. The Bank. The results of operations of the Bank are substantially dependent on its net interest income, which is the difference between the interest income earned on its interest-earning assets and the interest expense paid on its interest-bearing liabilities. At December 31, 1999, the Bank's interest-earning assets included a portfolio of loans receivable, net of $1.7 billion and a portfolio of investment securities and mortgage-backed securities 28 (including held to maturity and available for sale) of $522.6 million. Because the Bank's interest-earning assets have longer effective maturities than its interest-bearing liabilities, the yield on the Bank's interest-earning assets generally will adjust more slowly than the cost of its interest-bearing liabilities and, as a result, the Bank's net interest income generally would be adversely affected by increases in interest rates and positively affected by comparable declines in interest rates. In addition to affecting net interest income, changes in interest rates also can affect the value of the Bank's interest-earning assets, which are comprised of fixed and adjustable-rate instruments. At December 31, 1999, $493.9 million or 94.5% of the Bank's mortgage-backed and investment securities were classified as available for sale and reported at fair value, with unrealized gains and losses excluded from earnings and reported net of taxes in other comprehensive income, a separate component of stockholders' equity. The Bank has sought to limit its exposure to interest rate risk both internally through the management of the composition of its assets and liabilities and externally through the use of a variety of hedging instruments. Internal hedging through balance sheet restructuring generally involves the attraction of longer-term funds (i.e., certificates of deposit, FHLB advances or 936 Notes), the origination of adjustable-rate and/or shorter-term loans (such as commercial real estate, commercial business and consumer loans) or the investment in certain types of mortgage-backed derivative securities such as CMOs and mortgage-backed residuals (which often exhibit elasticity and convexity characteristics which the Bank can utilize to hedge other components of its portfolio). External hedging involves the use of interest rate swaps, collars, caps, options and futures to reduce interest rate risk on all mortgage-backed securities (excluding CMOs) which are available for sale. At December 31, 1999, mortgage-backed securities available for sale had a fair value of $235.7 million. The Bank generally uses interest rate swaps, collars, caps, options and futures to effectively fix the cost of short-term funding sources which are used to purchase interest-earning assets with longer effective maturities, such as mortgage-backed securities and fixed-rate residential mortgage loans which do not meet the criteria for sale to the FNMA or the FHLMC in the secondary market. Such agreements reduce the impact of increases in interest rates by preventing the Bank from having to replace funding sources at a higher cost prior to the time that the interest-earning asset which was acquired with such source matures or reprices and thus can be replaced with a higher-yielding asset. At December 31, 1999, the Bank was a party to six interest rate swap agreements. The Bank's existing interest rate swap agreements have an aggregate notional amount of approximately $85.0 million and expire between October 2000 and December 2009. With respect to such agreements, the Bank makes fixed interest payments ranging from 4.70% to 6.09% and receives payments based upon the three-month Libor and Libid. The net expense related to the Bank's fixed-pay interest rate swaps amounted to approximately $422,000, $198,000 and $293,000 during the years ended December 31,1999, 1998 and 1997, respectively. Such interest rate contracts have reduced the imbalance between the Bank's interest-earning assets and interest-bearing liabilities within shorter maturities, thus, reducing the Bank's exposure to increases in interest rates that may occur in the future. As discussed above, the Bank may also enter into interest rate, collars, caps, options and futures. However, at December 31,1999 the Bank was not a party to any such interest rate contracts. 29 The following table summarizes the anticipated maturities or repricing of R&G Financial's interest-earning assets and interest-bearing liabilities as of December 31, 1999, based on the information and assumptions set forth in the notes below.
Four to More Than More Than (Dollars in Thousands) Within Three Twelve One Year to Three Years Over Five Months Months Three Years to Five Years Years Total Interest-earning assets(1): Loans receivable: Residential real estate loans $ 36,328 $ 102,833 $ 233,868 $ 184,472 $ 555,371 $1,112,872 Construction loans 22,013 11,283 11,283 -- -- 44,579 Commercial real estate loans 222,656 633 1,246 693 808 226,036 Consumer loans 26,428 32,981 45,037 20,292 10,398 135,136 Commercial business loans 21,100 16,998 13,225 2,785 123 54,231 Mortgage loans held for sale 20,137 57,140 -- -- -- 77,277 Mortgage-backed securities(2)(3) 142,664 404,320 55,004 42,788 134,742 779,518 Investment securities(3) 56,476 49,944 113,735 39,459 3,987 263,601 Other interest-earning assets(4) 23,744 -- -- -- -- 23,744 ---------------------------------------------------------------------------- Total $ 571,546 $ 676,132 $ 473,398 $ 290,489 $ 705,429 $2,716,994 ---------------------------------------------------------------------------- Interest-bearing liabilities: Deposits(5): NOW and Super NOW accounts(6) $ 6,624 $ 18,575 $ 20,421 $ 16,541 $ 70,516 $ 132,677 Passbook savings accounts(6) 2,842 8,232 20,500 16,400 65,602 113,576 Regular and commercial checking(6) 7,880 22,063 24,254 19,645 83,753 157,595 Certificates of deposit 223,955 536,948 77,900 71,252 11,974 922,029 FHLB advances 264,500 104,500 5,000 10,000 -- 384,000 Securities sold under agreements to repurchase(7) 746,341 -- -- -- -- 746,341 Other borrowings(8) 82,050 25,000 35,500 -- -- 142,550 ---------------------------------------------------------------------------- Total 1,334,192 715,318 183,575 133,838 231,845 2,598,768 ---------------------------------------------------------------------------- Effect of hedging instruments (140,000) 30,000 30,000 -- 80,000 -- $1,194,192 $ 745,318 $ 213,575 $ 133,838 $ 311,845 $2,598,768 Excess (deficiency) of interest- earning assets over interest- bearing liabilities $ (622,646) $ (69,186) $ 259,823 $ 156,651 $ 393,584 $ 118,226 Cumulative excess (deficiency) of interest-earning assets over interest-bearing liabilities $ (622,646) $ (691,832) $ (432,009) $ (275,358) $ 118,226 Cumulative excess (deficiency) of interest-earning assets over interest-bearing liabilities as a percent of total assets (21.38)% (23.76)% (14.84)% (9.46)% 4.06%
30 -------------------- (1) Adjustable-rate loans are included in the period in which interest rates are next scheduled to adjust rather than in the period in which they are due, and fixed-rate loans are included in the periods in which they are scheduled to be repaid, based on scheduled amortization, in each case as adjusted to take into account estimated prepayments. (2) Reflects estimated prepayments in the current interest rate environment. (3) Includes securities held for trading, available for sale and held to maturity. (4) Includes securities purchased under agreement to resell, time deposits with other banks and federal funds sold. (5) Does not include non-interest-bearing deposit accounts. (6) Although the Bank's negotiable order of withdrawal ("NOW") and Super NOW accounts, passbook savings accounts and checking accounts are subject to immediate withdrawal, management considers a substantial amount of such accounts to be core deposits having significantly longer effective maturities based on the Bank's retention of such deposits in changing interest rate environments. The table assumes that funds will be withdrawn from the Bank at annual rates for NOW accounts and for regular and commercial checking accounts, ranging from 10% for 0-12 months, 19% for 1-5 years, 41% for 5-10 years, 65% for 10-20 years and 100% thereafter; and, for passbook savings accounts, ranging from 5% for 0-12 months, 20% for 1-5 years, 40% for 5-10 years, 65% for 10-20 years and 100% thereafter. (7) Includes federal funds purchased. (8) Comprised of warehousing lines, notes payable and other borrowings. Although "gap" analysis is a useful measurement device available to management in determining the existence of interest rate exposure, its static focus as of a particular date makes it necessary to utilize other techniques in measuring exposure to changes in interest rates. For example, gap analysis is limited in its ability to predict trends in future earnings and makes no assumptions about changes in prepayment tendencies, deposit or loan maturity preferences or repricing time lags that may occur in response to a change in the interest rate environment. As a result, R&G Financial, through simulation models, also analyzes on a monthly basis the estimated effects on net interest income under multiple rate scenarios, including increases and decreases in interest rates amounting to 200 and 100 basis points. The IRRBICO regularly reviews interest rate risk by forecasting the impact of alternative interest rate scenarios on net interest income and by evaluating such impact against the maximum potential changes in net interest income. The following table sets forth at December 31, 1999 the estimated percentage change in R&G Financial's net interest income based on the indicated changes in interest rates. NET INTEREST INCOME ----------------------------------------------------------------- Change in Expected Interest Rates Net Interest Amount Percentage (in Basis Points)(1) Income(2) of Change Change ----------------------------------------------------------------- (Dollars in Thousands) +200 $ 46,282 $ (17,588) (27.54)% +100 55,314 (8,556) (13.40) Base Scenario 63,870 -- -- -100 71,028 7,158 11.21 -200 75,809 11,939 18.69 (1) Assumes an instantaneous uniform change in interest rates at all maturities. (2) Net interest income amounts exclude amortization of deferred loan fees. Management of R&G Financial believes that all of the assumptions used in the foregoing analysis to evaluate the vulnerability of its operations to changes in interest rates approximate actual experience and considers them reasonable; however, the interest rate sensitivity of R&G Financial's assets and liabilities and the estimated effects of changes in interest rates on R&G Financial's net interest income indicated in the above table could vary substantially if different assumptions were used or if actual experience differs from the projections on which they are based. 31 Changes in Financial Condition General. At December 31, 1999, R&G Financial's total assets amounted to $2.9 billion, as compared to $2.0 billion at December 31, 1998. The $867.2 million or 42.4% increase in total assets during the year ended December 31, 1999 was primarily the result of a $489.3 million or 45.6% increase in loans receivable, net, a $210.7 million or 38.6% increase in mortgage-backed securities held for trading and available for sale, and a $198.7 million or 333.9% increase in investment securities available for sale. Cash and Money Market Investments. Cash and money market investments (consisting of cash and due from banks, securities purchased under agreements to resell, time deposits with other financial institutions and federal funds sold) amounted to $66.0 million and $103.7 million as of December 31, 1999 and 1998, respectively. Loans Receivable and Mortgage Loans Held for Sale. At December 31, 1999, R&G Financial's loans receivable, net amounted to $1.6 billion or 53.7% of total assets, as compared to $1.1 billion or 52.5% as of December 31, 1998. The growth in R&G Financial's loans receivable, net reflects R&G Financial's strategy of increasing its loans held for investment, including residential mortgage, construction, commercial real estate and commercial business loans. During the years ended December 31, 1999, 1998 and 1997, total loans originated and purchased by the Bank (including loans originated by R&G Mortgage on behalf of the Bank) amounted to $1.1 billion, $755.5 million and $435.4 million, respectively. At December 31, 1999, R&G Financial's allowance for loan losses (all of which is maintained in the Bank's loan portfolio) totaled $9.0 million, which represented a $916,000 or 11.4% increase from the level maintained at December 31, 1998. At December 31, 1999, R&G Financial's allowance represented approximately 0.55% of the total loan portfolio and 15.11% of total non-performing loans, as compared to 0.74% and 17.92% at December 31, 1998. The increase in the allowance for loan losses is attributable to the provision of $4.5 million for loan losses during the year, which exceeded net charge-offs amounting to approximately $3.6 million. During the year ended December 31,1999, the Company experienced a reduction in net charge-offs of approximately $2.1 million compared to the year ended December 31,1998. Management of R&G Financial believes that its allowance for loan losses at December 31, 1999 was adequate, based upon, among other things, the significant level of single-family residential loans within R&G Financial's portfolio (as compared to commercial real estate, commercial business and consumer loans, which are considered by management to carry a higher degree of credit risk) and the low level of loan charge-offs normally experienced by the Company with respect to its loan portfolio. However, there can be no assurances that additions to such allowance will not be necessary in future periods, which could adversely affect R&G Financial's results of operations. At December 31, 1999 and 1998, mortgage loans held for sale amounted to $77.3 million and $117.1 million, respectively. Mortgage loans held for sale primarily reflects loans which are in the process of being securitized and sold. The level of mortgage banking activities is highly dependent upon market and economic factors. Securities Held for Trading, Available for Sale and Held for Investment. R&G Financial maintains a substantial portion of its assets in mortgage-backed and investment securities which are classified as either held for trading, available for sale or held to maturity. At December 31, 1999, R&G Financial's aggregate mortgage-backed and investment securities totaled $1.0 billion or 35.8% of total assets, as compared to $639.7 million or 31.3% at December 31, 1998, respectively. Securities held for trading consist primarily of FHA and VA loans which have been securitized as GNMA pools and are being held for sale to institutions in the secondary market. At December 31, 1999 and 1998, all such securities were held by R&G Mortgage. Securities held for trading are reported at fair value with unrealized gains and losses included in earnings. Securities available for sale consist of mortgage-backed and related securities (tax exempt GNMA pools, FNMA and 32 FHLMC certificates as well as CMOs and CMO residuals) and U.S. Government agency securities, held by the Bank or R&G Mortgage. At December 31, 1999 and 1998, securities available for sale totaled $970.9 million and $154.5 million, respectively. Securities available for sale are reported at fair value with unrealized gains and losses excluded from earnings, and reported in other comprehensive income, a separate component of stockholders' equity. Securities held to maturity consist of mortgage-backed securities (GNMA, FNMA and FHLMC certificates), Puerto Rico Government obligations and other Puerto Rico securities, all of which were held by the Bank. At December 31, 1999 and 1998, securities held to maturity totaled $28.6 million and $34.6 million, respectively. Securities held to maturity are accounted for at amortized cost. At December 31, 1999 and 1998, R&G Financial's securities held to maturity had a market value of $28.7 million and $34.6 million, respectively. Mortgage Servicing Asset. As of December 31, 1999 and 1998, R&G Financial reported servicing assets of $84.3 million and $58.2 million, respectively. R&G Financial recognizes both purchased and originated mortgage servicing rights as assets in its Consolidated Financial Statements. R&G Financial evaluates the fair value of its servicing asset on a quarterly basis to determine any potential impairment. Any future decline in interest rates which results in an acceleration in mortgage loan prepayments could have an adverse effect on the value of R&G Financial's mortgage servicing rights, which is dependent upon the cash flows from the underlying mortgage loans. Deposits. At December 31, 1999, deposits totaled $1.3 billion, as compared to $1.0 billion at December 31, 1998. The $323.2 million or 32.1% increase in deposits during the year ended December 31, 1999 was primarily due to promotions in connection with new accounts and competitive pricing. One of the Bank's strategies is to increase its core deposits, which provide a source of fee income and the ability to cross-sell other products and services. As a result, core deposits (consisting of passbook, NOW and Super NOW, and regular and commercial checking accounts as well as certificates of deposit under $100,000) increased from $711.0 million or 70.6% of total deposits at December 31, 1998 to $794.2 million or 59.7% of total deposits at December 31, 1999. Borrowings. Other than deposits, R&G Financial's primary sources of funds consist of securities sold under agreements to repurchase (consisting of agreements to purchase on a specified later date the same or substantially identical securities) ("repurchase agreements"). At December 31, 1999 and 1998, repurchase agreements totaled $731.3 million and $471.4 million, respectively. Notes payable consist primarily of warehouse lines of credit (which are used to fund loan commitments of R&G Mortgage) and Section 936 promissory notes (which represents a low cost source of short and intermediate-term funds for the Bank). At December 31, 1999, notes payable amounted to $132.7 million, as compared to $182.7 million at December 31, 1998. The $50.0 million or 27.4% decrease in notes payable during the year ended December 31, 1999 reflected a $50.1 million or 50.8% decrease in warehousing lines. Advances from the FHLB of New York amounted to $384.0 million and $121.0 million at December 31, 1999 and 1998, respectively. At December 31, 1999, FHLB advances were scheduled to mature at various dates commencing on January 3, 2000 until December 18, 2003, with an average interest rate of 5.75%. Stockholders' Equity. Stockholders' equity increased from $221.2 million at December 31, 1998 to $269.5 million at December 31, 1999. The $48.4 million or 21.9% increase in stockholders' equity during 1999 was primarily due to the issuance of $25 million of 7.75% non-cumulative, perpetual Monthly Income Preferred Stock, Series B (the "Series B Preferred Stock"), and the $41.3 million of net income for the year. The increases in stockholders' equity were slightly offset by dividends paid during the year of $8.0 million on common and preferred stock, and a decrease in unrealized gains on securities available for sale, from a $1.4 million gain at December 31, 1998 to a $7.8 million loss at December 31,1999. 33 Results of Operations General. R&G Financial's results of operations depend substantially on its net interest income, which is the difference between interest income on interest-earning assets, which consist primarily of loans, money market investments and mortgage-backed and investment securities, and interest expense on interest-bearing liabilities, which consist primarily of deposits and short and long-term borrowings. R&G Financial's results of operations are also significantly affected by its provisions for loan losses, resulting from R&G Financial's assessment of the adequacy of its allowance for loan losses; the level of its non-interest income, including net gain (loss) on sale of loans, unrealized gain (loss) on trading securities and loan administration and servicing fees; the level of its non-interest expenses, such as employee compensation and benefits and office occupancy and equipment expense; and income tax expense. R&G Financial's major business activities consist of: (i) the origination by R&G Mortgage of real estate mortgage loans for sale and the servicing by R&G Mortgage of real estate mortgage loans for third parties; and (ii) attracting deposits from the general public and using such deposits, together with other borrowings, for investment principally by the Bank in loans (single-family residential mortgage loans, construction loans, commercial real estate loans, commercial business loans and consumer loans), and in mortgage-backed and investment securities. To a much more limited extent, R&G Financial also provides trust and investment services to the public through the Bank's Trust Department. The following table reflects the principal revenue sources of the Bank and R&G Mortgage and the percentage contribution of each component for the periods presented.
Year Ended December 31, 1999 1998 1997 (Dollars in Thousands) Amount Percent Amount Percent Amount Percent The Bank: Net interest income after provision for loan losses $ 45,344 36.90% $ 31,193 33.24% $ 25,544 35.84% Loan administration and servicing fees 476 0.39 -- -- -- -- Net gain on sale of loans 9,559 7.78 12,191 12.99 5,436 7.63 Net gain on sale of investment securities 20 0.02 278 0.30 107 0.15 Other income(1) 5,380 4.38 4,780 5.09 2,915 4.09 ------------------------------------------------------------------ 60,779 49.47 48,442 51.62 34,002 47.71 ------------------------------------------------------------------ R&G Mortgage: Net interest income 6,708 5.46 6,180 6.58 4,616 6.48 Loan administration and servicing fees 26,633 21.68 15,987 17.04 13,214 18.54 Net gain on origination and sale of loans 27,541 22.41 22,472 23.95 18,597 26.10 Other income(1) 1,203 0.98 762 0.81 836 1.17 ------------------------------------------------------------------ 62,085 50.53 45,401 48.38 37,263 52.29 ------------------------------------------------------------------ $122,864 100.00% $ 93,843 100.00% $ 71,265 100.00% ------------------------------------------------------------------
(1) Comprised of service charges, fees and other for the Bank and other miscellaneous revenue sources for the Bank and R&G Mortgage. 34 R&G Financial reported net income of $41.3 million, $34.0 million and $23.5 million during the years ended December 31, 1999, 1998 and 1997, respectively. Net income increased by $7.3 million or 21.5% during the year ended December 31, 1999, as compared to 1998, due to a $12.6 million increase in net interest income and a $14.3 million increase in total other income, which were partially offset by a $20.5 million increase in total operating expenses. Net income increased by $10.5 million or 44.8% during the year ended December 31, 1998, as compared to 1997, due to a $7.4 million increase in net interest income and a $15.4 million increase in total other income, which were partially offset by a $9.7 million increase in total operating expenses. Net Interest Income. Net interest income is determined by R&G Financial's interest rate spread (i.e., the difference between the yields earned on its interest-earning assets and the rates paid on its interest-bearing liabilities) and the relative amounts of interest-earning assets and interest-bearing liabilities. Net interest income totaled $56.6 million, $43.9 million and $36.5 million during the years ended December 31, 1999, 1998 and 1997, respectively. Net interest income increased by $12.6 million or 28.7% during the year ended December 31, 1999, as compared to the year ended December 31, 1998, due to significant increases in the average balance of interest-earning assets, which compensated for a decrease in the ratio of average interest-earning assets to average interest-bearing liabilities from 105.93% in 1998 to 104.21% in 1999, as well as a decline in the Company's interest rate spread from 2.43% in 1998 to 2.40% in 1999. Net interest income increased by $7.4 million or 20.4% during the year ended December 31, 1998, due to an increase in the ratio of average interest-earning assets to average interest-bearing liabilities from 104.61% for 1997 to 105.93% for 1998, which was partially offset by a decrease in R&G Financial's interest rate-spread from 2.88% for 1997 to 2.43% for 1998. 35 The following table presents for the periods indicated R&G Financial's total dollar amount of interest from average interest-earning assets and the resultant yields, as well as the interest expense on average interest-bearing liabilities expressed both in dollars and rates, and the net interest margin. The table does not reflect any effect of income taxes. All average balances are based on the average of month-end balances for R&G Mortgage and average daily balances for the Bank in each case during the periods presented.
Year Ended December 31, 1999 1998 Average Yield/ Average Yield/ Balance Interest Rate (1) Balance Interest Rate (1) ------- -------- -------- ------- -------- -------- (Dollars in Thousands) Interest-Earning Assets: Cash and cash equivalents(2) $ 15,963 $ 840 5.26% $ 25,731 $ 1,341 5.21% Investment securities held for trading -- -- -- 344 19 5.52 Investment securities available for sale 124,559 7,834 6.29 57,042 3,337 5.85 Investment securities held to maturity 6,271 330 5.26 9,485 544 5.74 Mortgage-backed securities held for trading 33,245 1,871 5.63 406,123 24,876 6.13 Mortgage-backed securities available for sale 502,176 31,989 6.37 38,608 2,645 6.85 Mortgage-backed securities held to maturity 29,684 1,763 5.94 31,095 1,877 6.04 Loans receivable, net(3)(4) 1,446,575 117,304 8.11 1,037,829 89,044 8.58 FHLB of New York stock 17,777 1,210 6.81 8,517 614 7.21 --------------------------------------------------------------------- Total interest-earning assets 2,176,250 $163,141 7.50% 1,614,774 $ 124,297 7.70% --------------------------------------------------------------------- Non-interest-earning assets 228,253 129,498 --------------------------------------------------------------------- Total assets $2,404,503 $ 1,744,272 ===================================================================== Interest-Bearing Liabilities: Deposits $ 1,153,537 $ 53,643 4.65% $ 826,487 $ 38,439 4.65% Securities sold under agreements to repurchase(5) 491,230 27,474 5.59 416,249 23,876 5.74 Notes payable 212,028 13,634 6.43 186,147 12,641 6.79 Subordinated debt(6) - - - 1,469 148 10.07 Other borrowings(7) 231,616 11,812 5.10 94,025 5,220 5.55 Total interest-bearing liabilities 2,088,411 $ 106,563 5.10% 1,524,377 $ 80,324 5.27% --------------------------------------------------------------------- Non-interest-bearing liabilities 75,291 46,025 --------------------------------------------------------------------- Total liabilities 2,163,702 1,570,402 Stockholders' equity 240,801 173,870 --------------------------------------------------------------------- Total liabilities and stockholders' equity $ 2,404,503 $ 1,744,272 ===================================================================== Net interest income; interest rate spread(8) $ 56,578 2.40% $ 43,973 2.43% ===================================================================== Net interest margin(8) 2.60% 2.72% ===================================================================== Average interest-earning assets to average interest-bearing liabilities 104.21% 105.93% =====================================================================
(footnotes on following page)
Year Ended December 31, 1997 Average Yield/ Balance Interest Rate (1) (Dollars in Thousands) ------- -------- -------- Interest-Earning Assets: Cash and cash equivalents(2) $ 30,967 $ 1,674 5.41% Investment securities held for trading 5,466 328 6.00 Investment securities available for sale 51,105 3,205 6.27 Investment securities held to maturity 15,095 777 5.15 Mortgage-backed securities held for trading 249,930 17,174 6.87 Mortgage-backed securities available for sale 44,693 3,200 7.16 Mortgage-backed securities held to maturity 35,642 2,152 6.04 Loans receivable, net(3)(4) 732,064 68,514 9.36 FHLB of New York stock 4,710 311 6.60 ----------------------------------- Total interest-earning assets 1,169,672 $ 97,335 8.32% ----------------------------------- Non-interest-earning assets 98,880 ----------------------------------- Total assets $ 1,268,552 =================================== Interest-Bearing Liabilities: Deposits $ 668,704 $ 32,434 4.85% Securities sold under agreements to repurchase(5) 226,771 13,483 5.95 Notes payable 151,440 9,616 6.35 Subordinated debt(6) 3,250 324 9.97 Other borrowings(7) 67,973 4,948 7.28 ----------------------------------- Total interest-bearing liabilities 1,118,138 $ 60,805 5.44% ----------------------------------- Non-interest-bearing liabilities 24,680 Total liabilities 1,142,818 Stockholders' equity 125,734 ----------------------------------- Total liabilities and stockholders' equity $ 1,268,552 =================================== Net interest income; interest rate spread(8) $ 36,530 2.88% =================================== Net interest margin(8) 3.12% =================================== Average interest-earning assets to average interest-bearing liabilities 104.61% ===================================
(footnotes on following page) 36 --------------------- (1) At December 31, 1999, the yields earned and rates paid were as follows: cash and cash equivalents, 5.37%; investment securities held to maturity, 5.91%; investment securities available for sale, 6.76%; mortgage-backed securities held for trading, 6.41%; mortgage-backed securities available for sale, 6.71%; mortgage loans held for sale, 8.18%; loans receivable, net, 8.36%; FHLB of New York stock, 6.75%; total interest-earning assets, 7.68%; deposits, 4.84%; securities sold under agreements to repurchase, 5.89%; notes payable, 6.58%; other borrowings, 5.31%; total interest-bearing liabilities, 5.34%; interest rate spread, 2.34%. (2) Comprised of cash and due from banks, securities purchased under agreements to resell, time deposits with other banks and federal funds sold. (3) Includes mortgage loans held for sale and non-accrual loans. (4) Interest income on loans include loan fees amounting to $295,000, $367,000 and $366,000 during the years ended December 31, 1999, 1998 and 1997, respectively or .25%, .41% and .53% of interest income on loans during such respective periods. (5) Includes federal funds purchased. (6) Represents a seven-year subordinated capital note of the Bank issued in 1991, which was subject to an annual sinking fund requirement and matured in 1998. (7) Comprised of long-term debt, advances from the FHLB of New York and other borrowings. (8) Interest rate spread represents the difference between R&G Financial's weighted average yield on interest-earning assets and the weighted average rate on interest-bearing liabilities. Net interest margin represents net interest income as a percent of average interest-earning assets. The following table describes the extent to which changes in interest rates and changes in volume of interest-related assets and liabilities have affected R&G Financial's interest income and interest expense during the periods indicated. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (change in volume multiplied by prior year rate), (ii) changes in rate (change in rate multiplied by prior year volume), and (iii) total change in rate and volume. The combined effect of changes in both rate and volume has been allocated in proportion to the absolute dollar amounts of the changes due to rate and volume.
Year Ended December 31, 1999 vs. 1998 1998 vs. 1997 Increase / Decrease Total Increase / Decrease Total Due to Increase Due to Increase (Dollars in Thousands) Rate Volume (Decrease) Rate Volume (Decrease) Interest-Earning Assets: Cash and cash equivalents(1) $ 8 $ (509) $ (501) $ ( 50 ) $ ( 283 ) $ ( 333 ) Investment securities held for trading -- (19) (19) ( 2 ) ( 307 ) ( 309 ) Investment securities available for sale 547 3,950 4,497 ( 239 ) 372 133 Investment securities held to maturity (30) (184) (214) 56 ( 289 ) ( 233 ) Mortgage-backed securities held for trading (165) (22,840) (23,005) ( 3,031) 10,733 7,702 Mortgage-backed securities available for sale (2,415) 31,759 29,344 ( 119 ) ( 436 ) ( 555 )
Year Ended December 31, 1999 vs. 1998 1998 vs. 1997 Increase / Decrease Total Increase / Decrease Total Due to Increase Due to Increase (Dollars in Thousands) Rate Volume (Decrease) Rate Volume (Decrease) Interest-Earning Assets: Mortgage-backed securities held to maturity (29) (85) (114) -- ( 275 ) ( 275 ) Loans receivable, net(2) (6,810) 35,070 28,260 ( 8,087 ) 28,617 20,530 FHLB of New York stock (72) 668 596 52 251 303 -------------------------------------------------------------------------------- Total interest-earning assets $ (8,966) $ 47,810 $ 38,844 $ ( 11,420 ) $ 38,383 $ 26,963 -------------------------------------------------------------------------------- Interest-Bearing Liabilities: Deposits $ (7) $ 15,211 $ 15,204 $ ( 1,648 ) $ 7,653 $ 6,005 Securities sold under agreements to repurchase (703) 4,301 3,598 ( 873 ) 11,266 10,393 Notes payable (765) 1,758 993 821 2,204 3,025 Subordinated debt(3) - (148) (148) 2 ( 178 ) ( 176 ) -------------------------------------------------------------------------------- Other borrowings(4) (1,047) 7,639 6,592 ( 1,624 ) 1,896 272 -------------------------------------------------------------------------------- Total interest-bearing liabilities $(2,522) $ 28,761 $ 26,239 $ ( 3,322 ) $ 22,841 $ 19,519 -------------------------------------------------------------------------------- Increase in net interest income $ 12,605 $ 7,444 --------------------------------------------------------------------------------
(Footnotes on following page) --------------------- (1) Comprised of cash and due from banks, securities purchased under agreements to resell, time deposits with other banks and federal funds sold. (2) Includes mortgage loans held for sale. (3) Represents a seven-year subordinated capital note of the Bank issued in 1991, which was subject to an annual sinking fund requirement and matured in 1998. (4) Comprised of long-term debt, advances from the FHLB of New York and other borrowings. 37 Interest Income. Total interest income increased by $38.8 million or 31.3% during the year ended December 31, 1999 as compared to the year ended December 31, 1998, and increased by $27.0 million or 27.7% during the year ended December 31, 1998 over the year ended December 31, 1997. Interest income on loans, the largest component of R&G Financial's interest-earning assets, increased by $28.3 million or 31.7% during the year ended December 31, 1999 as compared to the year ended December 31, 1998, and increased by $20.5 million or 30.0% during 1998 over the year ended December 31, 1997. Such increases were primarily the result of increases in the average balance of loans receivable of $408.7 million and $305.8 million during the years ended December 31, 1999 and 1998, respectively. One of R&G Financial's strategies in recent years has been to grow R&G Financial's loans held for investment. Interest income on mortgage-backed and investment securities (which, for purposes of this discussion, includes securities held for trading, available for sale and held to maturity) increased by $10.5 million or 31.5% during the year ended December 31, 1999 as compared to the year ended December 31, 1998, and increased by $6.5 million or 24.1% during the year ended December 31, 1998 over the year ended December 31, 1997. The increase in interest income on mortgage-backed and investment securities during the year ended December 31, 1999 was primarily due to a $89.3 million increase in the average balance of mortgage-backed securities, together with a $64.0 million increase in the average balance of investment securities during the period. The increase in investment securities reflects purchases of approximately $208.3 million during 1999, net of maturities and sales. The increase in interest income on mortgage-backed and investment securities during 1998 was due primarily to an increase in the average balance of mortgage-backed securities of $156.2 million. Interest income on cash and cash equivalents (consisting of cash and due from banks, securities purchased under agreements to resell, certificates of deposit with other financial institutions and federal funds sold) decreased by $501,000 or 37.4% during the year ended December 31, 1999 as compared to the year ended December 31, 1998, and decreased by $333,000 or 19.9% during the year ended December 31, 1998. The decrease during 1999 was due primarily to a decrease in the average balance of cash and cash equivalents during the period of $9.8 million. The decrease in interest earned on money market investments during 1998 reflected a decrease in the average balance of $5.2 million, together with a decrease in the yield from 5.41% to 5.21%. The fluctuations in yields earned by R&G Financial on its money market investments reflect the general fluctuations in short-term market rates of interest during the periods presented. Interest Expense. Total interest expense increased by $26.2 million or 32.7% during the year ended December 31, 1999, as compared to the year ended December 31, 1998, and increased by $19.5 million or 32.1% 38 during the year ended December 31, 1998. Interest expense on deposits, the largest component of R&G Financial's interest-bearing liabilities, increased by $15.2 million or 39.6% during the year ended December 31, 1999, as compared to the year ended December 31, 1998, and increased by $6.0 million or 18.5% during the year ended December 31, 1998. The increases in interest expense on deposits during the years ended December 31, 1999 and 1998 were due primarily to increases in the average balance of deposits of $327.1 million and $157.8 million during such respective periods. Interest expense on repurchase agreements increased by $3.6 million or 15.1% during the year ended December 31, 1999, as compared to the year ended December 31, 1998, and increased by $10.4 million or 77.1% during the year ended December 31, 1998. The increase in interest expense on repurchase agreements during 1999 was due primarily to an increase in the average balance of repurchase agreements outstanding of $75.0 million, which was partially offset by a decrease in the average rate paid thereon of 15 basis points. The increase in interest expense on repurchase agreements during 1998 was primarily due to an increase in the average balance of repurchase agreements outstanding of $189.5 million, which was partially offset by a decrease in the average rate paid thereon of 21 basis points. R&G Financial generally uses repurchase agreements to repay warehouse lines of credit which are used to fund loan originations. These repurchase agreements are mainly collateralized by mortgage-backed securities held for trading and available for sale. The fluctuations in the average balance of repurchase agreements during the periods presented is therefore mainly a function both of the amount of originations by R&G Financial as well as the level of mortgage-backed securities held for trading and available for sale which are available to collateralize such agreements. Interest expense on notes payable (consisting of warehouse and other lines of credit and promissory notes) increased by $993,000 or 7.9% during the year ended December 31, 1999, as compared to the year ended December 31, 1998, and increased by $3.0 million or 31.5% during the year ended December 31, 1998. The increases during the years ended December 31, 1999 and 1998 were primarily due to increases in the average balance of such lines of $25.9 million and $34.7 million, respectively, as R&G Mortgage made increased use of such lines due to increased mortgage loan originations in such years. Interest expense on other borrowings (consisting principally of advances from the FHLB of New York) increased by $6.6 million or 126.3% during the year ended December 31, 1999, as compared to the year ended December 31, 1998, and increased by $96,000 or 1.8% during the year ended December 31, 1998. The increase in interest expense on other borrowings during 1999 and 1998 was due primarily to an increase in the average balance of such borrowings due to an increased use of FHLB advances to fund increased loan production in the Bank. Provision for Loan Losses. The provision for loan losses is charged to earnings to bring the total allowance to a level considered appropriate by management based on R&G Financial's loss experience, current delinquency data, known and inherent risks in the portfolio, the estimated value of any underlying collateral and an assessment of current economic conditions. While management endeavors to use the best information available in making its evaluations, future allowance adjustments may be necessary if economic conditions change substantially from the assumptions used in making the initial evaluations. R&G Financial made provisions to its allowance for loan losses of $4.5 million, $6.6 million and $6.4 million during the years ended December 31, 1999, 1998 and 1997, respectively. The decrease in the provision for loan losses taken by the Company during 1999 was primarily due to a reduction in net charge-offs during the year. Net charge-offs to average loans outstanding decreased to .25% during 1999 compared to .55% during the year ended December 31, 1998. This reduction is associated with the adoption in prior years of more stringent underwriting procedures to address problems experienced generally in the market for personal loans in such years, as well as an emphasis in collateralized lending instead of unsecured personal loans. The provision for loan losses taken by the Company during 1998 was based primarily on the increase in the 39 Company's loan portfolio during the period as a result of a 40.3 % increase in the Company's loan portfolio during 1998, as well as increased net charge-offs associated primarily with consumer loans. Management believes that its allowance for loan losses at December 31, 1999, was adequate based upon, among other things, the significant level of single-family residential loans within R&G Financial's portfolio (as compared to commercial real estate, commercial business and consumer loans, which are considered by management to carry a higher degree of credit risk) and the low level of loan charge-offs normally experienced by the Company with respect to its loan portfolio. Nevertheless, there can be no assurances that additions to such allowance will not be necessary in future periods, particularly if the growth in R&G Financial's real estate lending, including commercial lending, continues. Non-Interest Income. The following table sets forth information regarding non-interest income for the periods shown. Year Ended December 31, 1999 1998 1997 ---- ---- ---- (Dollars in Thousands) Net gain on origination and sale of loans $37,098 $34,955 $23,286 Loan administration and servicing fees 27,109 15,987 13,214 Service charges, fees and other 6,604 5,528 4,605 --------------------------------- Total other income $70,811 $56,470 $41,105 --------------------------------- Total non-interest income increased by $14.3 million or 25.4% during the year ended December 31, 1999, as compared to the prior year and increased by $15.4 million or 37.4% during the year ended December 31, 1998. Net gain on sale of loans amounted to $37.1 million, $35.0 million and $23.3 million during the years ended December 31, 1999, 1998 and 1997, respectively. Net gain on sale of loans reflects the income generated from R&G Financial's origination and purchase of single-family residential real estate loans and the subsequent securitization and sale of such loans. During the years ended December 31, 1999, 1998 and 1997, R&G Mortgage originated and purchased $878.8 million, $670.6 million and $470.9 million, respectively, and sold $671.2 million, $493.0 million and $246.1 million of mortgage loans, respectively. In addition, the Bank sold $183.5 million, $282.0 million and $118.2 million of loans from its portfolio during such respective periods. R&G Financial's mortgage banking operations are highly dependent upon market and economic conditions. During the years ended December 31, 1999, 1998 and 1997, R&G Financial recognized net profit (loss) on trading securities of ($21,000), $6.0 million and $9.7 million, respectively, which are included in net gains on sale of loans. Such gains and losses primarily reflect fluctuations in the market value of FHA and VA loans which have been securitized into GNMA mortgage-backed securities and are being held for trading. The decrease in net profits in trading securities in 1999 is primarily related to a $407.0 million decrease in mortgage-backed securities held for trading due to the adoption of SFAS No.134 effective January 1, 1999. Pursuant to the adoption of SFAS No. 134, on January 1, 1999 the Company reclassified approximately $427.4 million of mortgage-backed securities from trading to available for sale. The decrease in net profits in trading securities in 1998 is primarily related to a decrease in the origination and purchase of exempt FHA and VA loans in such year, which is primarily related to the changes in the tax exemption on the interest generated by such loans which went into effect on August 1, 40 1997. As a result of changes in the tax exemption of such loans, only loans granted for the purchase of new housing are exempt under the current tax law. Previously, loans for refinancing purposes were exempt as well. During the years ended December 31, 1999, 1998 and 1997, R&G Financial recognized loan administration and servicing fees of $27.1 million, $16.0 million and $13.2 million, respectively. The increase in loan administration and servicing fees over the periods reflects the increase in R&G Financial's loan servicing portfolio from 50,979 loans with an aggregate principal balance of $2.6 billion at January 1, 1997 to 107,302 loans with an aggregate principal balance of $6.2 billion at December 31, 1999, which includes the purchase in November 1998 of a mortgage loan servicing portfolio from another financial institution, comprised of approximately 33,000 loans with an aggregate principal balance of $1.1 billion. Service charges, fees and other amounted to $6.6 million, $5.5 million and $4.6 million during the years ended December 31, 1999, 1998 and 1997, respectively. The $1.1 million or 19.5% and the $923,000 or 20.0% increases during 1999 and 1998, respectively, were primarily due to increased service charges associated with new deposit products and an increasing deposit base, as well as increases in the loan portfolio during such years. Non-Interest Expenses. The following table sets forth certain information regarding non-interest expenses for the periods shown. Year Ended December 31, -------------------------------- 1999 1998 1997 ---- ---- ---- (In Thousands) Employee compensation and benefits $24,433 $17,095 $13,653 Office occupancy and equipment 11,289 8,987 7,131 Other administrative and general 33,568 22,687 18,252 Total non-interest expenses $69,290 $48,769 $39,036 Total non-interest expenses increased by $20.5 million or 42.1% during the year ended December 31, 1999, as compared to the year ended December 31, 1998, and increased by $9.7 million or 24.9% during the year ended December 31, 1998 over 1997. The increase in total non-interest expenses during the years ended December 31, 1999 and 1998 reflect general growth in the Company's operations, increases in total loan production during such years as well as increased costs associated with the opening of new branch offices and remodeling work at six branch locations. The year ended December 31, 1999 represents the first full year of operations of Fajardo Federal Savings Bank, F.S.B., merged into the Bank upon acquisition on August 31, 1998. In addition, operations of Continental Capital Corp., the Company's newly acquired subsidiary in Huntington Station, New York effective October 1, 1999, was also a significant reason for the increase in expenses during the year ended December 31, 1999 when compared to the year ended December 31, 1998. Employee compensation and benefits expense amounted to $24.4 million, $17.1 million and $13.6 million during the years ended December 31, 1999, 1998 and 1997, respectively. The $7.3 million or 42.9% increase in such expense during the year ended December 31, 1999 is primarily associated with an increase in the number of employees as a result of new branch openings, and increased bonus payments associated with increased loan production during 1999. The $3.4 million or 25.2% increase in such expense during the year ended December 31, 1998 is primarily associated with an increase in the number of employees to accomodate higher loan production during the year, as well as to increased bonus payments associated with the increased loan production during the year. Office occupancy and equipment expense amounted to $11.3 million, $9.0 million and $7.1 million during the years ended December 31, 1999, 1998 and 1997, respectively. The $2.3 million or 25.6% increase in office occupancy and equipment expenses during the year ended December 31, 1999 is primarily related to the operation of five additional branches completed during fiscal 1998 and the opening of three additional branches during the year. The $1.9 million or 26.0% increase in expenses during 1998 is related to the opening of 41 and the completion in late 1997 of the remodeling work at the six branches acquired in 1995. Other administrative and general expenses, which consist primarily of advertising, license and property taxes, amortization of servicing asset, insurance, telephone, printing and supplies and other miscellaneous expenses, amounted to $33.6 million, $22.7 million and $18.3 million during the years ended December 31, 1999, 1998 and 1997, respectively. The $10.9 million or 48.0% and the $4.4 million or 24.3% increase in such expenses during the years ended December 31, 1999 and 1998, respectively, is also primarily associated with increased loan production and new additional branch offices during such years, as well as the result of general growth in the operations of R&G Financial and the addition of new products and services offered. In addition, the Company had a $4.4 million increase in amortization expenses during 1999 of the Company's servicing asset, primarily associated with the purchase in late 1998 of a $1.1 billion servicing portfolio from another financial institution. Income Taxes. R&G Financial's income tax provision amounted to $12.2 million during the year ended December 31, 1999, as compared to income tax expense of $11.0 million and $8.7 million during the years ended December 31, 1998 and 1997, respectively. R&G Financial's effective tax rate amounted to 22.8%, 24.5% and 27.1% during the years ended December 31, 1999, 1998 and 1997, respectively. The decrease in R&G Financial's effective tax rate is due primarily to an increase in the Company's exempt interest income and, to a lesser extent, the implementation of certain tax planning strategies during such years. Liquidity and Capital Resources Liquidity. Liquidity refers to R&G Financial's ability to generate sufficient cash to meet the funding needs of current loan demand, savings deposit withdrawals, principal and interest payments with respect to outstanding borrowings and to pay operating expenses. It is management's policy to maintain greater liquidity than required in order to be in a position to fund loan purchases and originations, to meet withdrawals from deposit accounts, to make principal and interest payments with respect to outstanding borrowings and to make investments that take advantage of interest rate spreads. R&G Financial monitors its liquidity in accordance with guidelines established by R&G Financial and applicable regulatory requirements. R&G Financial's need for liquidity is affected by loan demand, net changes in deposit levels and the scheduled maturities of its borrowings. R&G Financial can minimize the cash required during times of heavy loan demand by modifying its credit policies or reducing its marketing efforts. Liquidity demand caused by net reductions in deposits are usually caused by factors over which R&G Financial has limited control. R&G Financial derives its liquidity from both its assets and liabilities. Liquidity is derived from assets by receipt of interest and principal payments and prepayments, by the ability to sell assets at market prices and by utilizing unpledged assets as collateral for borrowings. Liquidity is derived from liabilities by maintaining a variety of funding sources, including deposits, advances from the FHLB of New York and other short and long-term borrowings. R&G Financial's liquidity management is both a daily and long-term function of funds management. Liquid assets are generally invested in short-term investments such as securities purchased under agreements to resell, federal funds sold and certificates of deposit in other financial institutions. If R&G Financial requires funds beyond its ability to generate them internally, various forms of both short and long-term borrowings provide an additional source of funds. At December 31, 1999, R&G Financial had $175.0 million in borrowing capacity under unused warehouse and other lines of credit, $261.8 million in borrowing capacity under unused lines of credit with the FHLB of New York and $10 million available unused fed funds lines of credit. R&G Financial has generally not relied upon brokered deposits as a source of liquidity, and does not anticipate a change in this practice in the foreseeable future. At December 31, 1999, R&G Financial had outstanding commitments (including unused lines of credit) to originate and/or purchase mortgage and non-mortgage loans of $79.6 million. The Company also has agreements with developers to facilitate the mortgage loans to qualified buyers of new housing 42 units on residential projects amounting to $546.8 million. All such agreements are subject to prevailing market rates at time of closing with no market risk exposure to the Company or with firm back-to-back commitments in favor of the mortgagee. Finally, the Company had certificates of deposit which are scheduled to mature within one year totaling $755.6 million at December 31, 1999, and borrowings that are scheduled to mature within the same period amounting to $1.2 billion. R&G Financial anticipates that it will have sufficient funds available to meet its current loan commitments. Capital Resources. The FDIC's capital regulations establish a minimum 3.0% Tier I leverage capital requirement for the most highly-rated state-chartered, non-member banks, with an additional cushion of at least 100 to 200 basis points for all other state-chartered, non-member banks, which effectively will increase the minimum Tier I leverage ratio for such other banks from 4.0% to 5.0% or more. Under the FDIC's regulations, the highest-rated banks are those that the FDIC determines are not anticipating or experiencing significant growth and have well diversified risk, including no undue interest rate risk exposure, excellent asset quality, high liquidity, good earnings and, in general, which are considered a strong banking organization and are rated composite 1 under the Uniform Financial Institutions Rating System. Leverage or core capital is defined as the sum of common stockholders' equity (including retained earnings), noncumulative perpetual preferred stock and related surplus, and minority interests in consolidated subsidiaries, minus all intangible assets other than certain qualifying supervisory goodwill and certain purchased mortgage servicing rights. The FDIC also requires that banks meet a risk-based capital standard. The risk-based capital standard for banks requires the maintenance of total capital (which is defined as Tier I capital and supplementary (Tier 2) capital) to risk weighted assets of 8%. In determining the amount of risk-weighted assets, all assets, plus certain off-balance sheet assets, are multiplied by a risk-weight of 0% to 100%, based on the risks the FDIC believes are inherent in the type of asset or item. The components of Tier I capital are equivalent to those discussed above under the 3% leverage capital standard. The components of supplementary capital include certain perpetual preferred stock, certain mandatory convertible securities, certain subordinated debt and intermediate preferred stock and general allowances for loan and lease losses. Allowance for loan and lease losses includable in supplementary capital is limited to a maximum of 1.25% of risk-weighted assets. Overall, the amount of capital counted toward supplementary capital cannot exceed 100% of core capital. At December 31, 1999, the Bank met each of its capital requirements, with Tier I leverage capital, Tier I risk-based capital and total risk-based capital ratios of 7.07%, 12.36% and 13.08%, respectively. In addition, the Federal Reserve Board has promulgated capital adequacy guidelines for bank holding companies which are substantially similar to those adopted by the FDIC regarding state- chartered banks, as described above. R&G Financial is currently in compliance with such regulatory capital requirements. Inflation and Changing Prices R&G Financial's Consolidated Financial Statements and related data presented in this Annual Report have been prepared in accordance with generally accepted accounting principles, which require the measurement of financial position and operating results in terms of historical dollars (except with respect to securities which are carried at market value), without considering changes in the relative purchasing power of money over time due to inflation. Unlike most industrial companies, substantially all of the assets and liabilities of R&G Financial are monetary in nature. As a result, interest rates have a more significant impact on R&G Financial's performance than the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or in the same magnitude as the prices of goods and services. The Year 2000 Issue Year 2000 issues result from the inability of many computer programs or computerized equipment to accurately calculate, store or use data for the year 2000 or later. These potential shortcomings could result in a system failure or miscalculations causing disruptions of operation, including among other things, a temporary inability to process transactions, track important 43 customer information, provide convenient access to this information, or engage in normal business operations. While lingering concern exists about certain dates during Year 2000, the most significant date, January 1, 2000, has passed without incident. As a result of its diligent efforts, the Company is pleased to report no interruptions of business or financial losses resulting from Year 2000 Issues. The costs of addressing the Year 2000 issue were approximately $300,000, most of which were incurred during 1999. Most of such costs were directly related to the costs of replacing existing equipment, primarily desktop computers, which were already fully depreciated on the Company's financial statements. Accordingly, the Company's Year 2000 costs expensed during 1999 were insignificant. Recent Accounting Pronouncements Set forth below are recent accounting pronouncements which may have a future effect on R&G Financial's operations. These pronouncements should be read in conjunction with the significant accounting policies which R&G Financial has adopted that are set forth in R&G Financial's Notes to Consolidated Financial Statements. In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS No.133- "Accounting for Derivative Instruments and Hedging Activities." This Statement requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. If certain conditions are met, a derivative may be specifically accounted as a hedge . The accounting for changes in fair value of a derivative (that is, gains and losses) depends on the intended use of the derivative and the resulting designation. This Statement was effective for all fiscal quarters of fiscal years beginning after June 15, 1999. In June 1999, the FASB voted to delay the effective date of this Statement to all fiscal quarters of fiscal years beginning after June 15, 2000. Initial application of this Statement should be as of the beginning of an entity's fiscal quarter; on that date, hedging relationships must be designated anew and documented pursuant to the provisions of this Statement. Management is evaluating its hedging strategy in light of this new pronouncement to establish the initial designation of its hedging activities and determine the effect and timing of adoption. However, due to the relatively limited extent to which the Company is using derivative instruments and the simple nature of the instruments used, management does not expect the impact of adoption to be significant. 44 REPORT OF INDEPENDENT ACCOUNTANTS [PRICEWATERHOUSECOOPERS LOGO] To the Board of Directors and Stockholders of R&G Financial Corporation In our opinion, the accompanying consolidated statements of financial condition and the related consolidated statements of income, of comprehensive income, of changes in stockholders equity and of cash flows present fairly, in all material respects, the financial position of R&G Financial Corporation (the Company) and its subsidiaries as of December 31, 1999 and 1998, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1999, in comformity with generally accepted accounting principles. These financial statements are the responsability of the Companys management; our responsability is to express an opinion on theses financial statements based on our audits. We conducted our audits of these statements in accordance with generally accepted auditing standards which 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above. /S/PricewaterhouseCoopers, LLP ------------------------------ PricewaterhouseCoopers, LLP San Juan, Puerto Rico February 10, 2000 Certified Public Accountants (of Puerto Rico) License No. 216 Expires on December 1, 2001 Stamp 1603133 of the P.R. Society of Certified Public Accountants has been affixed to the file copy of this report 45 R&G Financial Corporation Consolidated Statements of Financial Condition December 31, 1999 and 1998
1999 1998 -------- -------- Assets Cash and due from banks $ 42,251,508 $ 51,804,750 Money market investments: Securities purchased under agreements to resell -- 11,544,123 Time deposits with other banks 23,744,037 30,361,527 Federal funds sold -- 10,018,048 Mortgage loans held for sale, at lower of cost or market 77,277,133 117,126,040 Mortgage - backed securities held for trading, at fair value 43,563,817 450,546,034 Mortgage - backed securities available for sale, at fair value 712,705,165 95,040,331 Mortgage - backed securities held to maturity, at amortized cost (estimated market value: 1999 - $23,305,029; 1998 - $28,260,925) 23,249,247 28,255,518 Investment securities available for sale, at fair value 258,163,657 59,502,140 Investment securities held to maturity, at amortized cost (estimated market value: 1999 - $5,403,755; 1998 - $6,378,634) 5,437,630 6,343,929 Loans receivable, net 1,563,006,802 1,073,668,278 Accounts receivable, including advances to investors, net 16,230,457 9,665,290 Accrued interest receivable 22,386,746 12,505,431 Servicing asset 84,252,506 58,221,052 Premises and equipment 19,459,353 12,962,435 Other assets 20,264,778 17,216,602 -------------- -------------- $2,911,992,836 $2,044,781,528 ============== ============== Liabilities and Stockholders' Equity Liabilities: Deposits $1,330,506,368 $1,007,297,304 Federal funds purchased 15,000,000 -- Securities sold under agreements to repurchase 731,341,340 471,421,726 Notes payable 132,707,001 182,747,956 Advances from FHLB 384,000,000 121,000,000 Other borrowings 9,842,894 9,000,000 Accounts payable and accrued liabilities 33,917,329 28,020,080 Other liabilities 5,142,627 4,132,603 -------------- -------------- 2,642,457,559 1,823,619,669 -------------- -------------- Commitments and contingencies - - Stockholders' equity: Preferred stock, $.01 par value, 10,000,000 shares authorized: 7.40% Monthly Income Preferred Stock, Series A, $25 liquidation value, 2,000,000 shares issued and outstanding 50,000,000 50,000,000 7.75% Monthly Income Preferred Stock, Series B, $25 liquidation value, 1,000,000 shares issued and outstanding 25,000,000 -
1999 1998 -------- -------- ommon stock: Class A - $.01 par value, 40,000,000 shares authorized, 18,440,556 issued and outstanding in 1999 and 1998 184,406 184,406 Class B - $.01 par value, 30,000,000 shares authorized, 10,217,731 issued and outstanding in 1999 (1998 - 10,146,091) 102,177 101,461 Additional paid-in capital 40,753,856 41,544,378 Retained earnings 156,193,131 124,418,278 Capital reserves of the Bank 5,095,658 3,547,798 Accumulated other comprehensive (loss) income (7,793,951) 1,365,538 ---------------------------------- 269,535,277 221,161,859 ---------------------------------- $ 2,911,992,836 $ 2,044,781,528 ==================================
The accompanying notes are an integral part of these financial statements. 46 R&G Financial Corporation Consolidated Statements of Income December 31, 1999, 1998 and 1997
1999 1998 1997 --------- -------- -------- Interest income: Loans $ 117,304,300 $ 89,043,798 $ 68,513,571 Money market and other investments 10,243,856 5,855,157 6,295,443 Mortgage-backed securities 35,593,191 29,397,985 22,525,876 ----------------------------------------------------------- Total interest income 163,141,347 124,296,940 97,334,890 ----------------------------------------------------------- Less - interest expense: Deposits 53,643,104 38,439,016 32,434,559 Securities sold under agreements to repurchase 27,474,602 23,875,744 13,483,500 Notes payable 13,633,767 12,641,438 9,615,560 Secured borrowings - - 3,583,471 Other 11,812,100 5,367,631 1,688,034 ----------------------------------------------------------- 106,563,573 80,323,829 60,805,124 ----------------------------------------------------------- Net interest income 56,577,774 43,973,111 36,529,766 Provision for loan losses 4,525,000 6,600,000 6,370,000 ----------------------------------------------------------- Net interest income after provision for loan losses 52,052,774 37,373,111 30,159,766 ----------------------------------------------------------- Non-interest income: Net gain on origination and sale of loans 37,098,218 34,955,583 23,286,444 Loan administration and servicing fees 27,109,051 15,986,831 13,213,948 Service charges, fees and other 6,603,998 5,527,860 4,604,670 ----------------------------------------------------------- 70,811,267 56,470,274 41,105,062 ----------------------------------------------------------- Total revenues 122,864,041 93,843,385 71,264,828 ----------------------------------------------------------- Non-interest expenses: Employee compensation and benefits 24,432,771 17,094,783 13,652,754 Office occupancy and equipment 11,289,365 8,986,953 7,131,497 Other administrative and general 33,567,706 22,687,336 18,251,497 ----------------------------------------------------------- 69,289,842 48,769,072 39,035,748 ----------------------------------------------------------- Income before income taxes 53,574,199 45,074,313 32,229,080 ----------------------------------------------------------- Income tax expense: Current 8,905,520 6,814,496 6,263,549 Deferred 3,333,687 4,226,020 2,468,319 ----------------------------------------------------------- 12,239,207 11,040,516 8,731,868 ----------------------------------------------------------- Net income $ 41,334,992 $ 34,033,797 $ 23,497,212 ----------------------------------------------------------- Less: Preferred stock dividends (3,753,819) (1,233,819) - ----------------------------------------------------------- Net income available to common stockholders $ 37,581,173 $ 32,799,978 $ 23,497,212 ==================================================================
1999 1998 1997 -------- -------- -------- Earnings per common share: Basic $ 1.31 $ 1.15 $ .83 ------------------------------------------------------------- Diluted $ 1.28 $ 1.12 $ .81 -------------------------------------------------------------
The accompanying notes are an integral part of these financial statements. 47 R&G Financial Corporation Consolidated Statements of Comprehensive Income December 31, 1999, 1998 and 1997
1999 1998 1997 -------- -------- -------- Net income $ 41,334,992 $ 34,033,797 $ 23,497,212 ------------------------------------------------------------------ Other comprehensive income, before tax: Unrealized (losses) gains on securities: Arising during period (15,975,369) 516,061 2,275,009 Less: Reclassification adjustments for losses (gains) included in net income 959,813 (278,028) (107,430) ------------------------------------------------------------------ (15,015,556) 238,033 2,167,579 ------------------------------------------------------------------ Income tax benefit (expense)related to items of other comprehensive income 5,856,067 (92,833) (845,356) ------------------------------------------------------------------ Other comprehensive income (loss), net of tax (9,159,489) 145,200 1,322,223 ------------------------------------------------------------------ Comprehensive income, net of tax $ 32,175,503 $ 34,178,997 $ 24,819,435 ==================================================================
The accompanying notes are an integral part of these financial statements. 48 R&G Financial Corporation Consolidated Statements of Changes in Stockholders' Equity For the Years Ended December 31, 1999, 1998 and 1997
Preferred Stock Common Stock Common Stock Class A Class B Shares Amount Shares Amount Shares Amount Balance at December 31, 1996 5,122,377 $ 51,223 2,735,839 $ 27,360 Transfer to capital reserves Common stock split on September 25, 1997: Stock split 4,097,901 40,980 2,188,635 21,885 Cash paid in lieu of fractional shares Cash dividends declared on common stock Net income Other comprehensive income, net of tax -------------------------------------------------------------------------------- Balance at December 31, 1997 9,220,278 92,203 4,924,474 49,245 -------------------------------------------------------------------------------- Transfer to capital reserves Common stock split on June 25, 1998 9,220,278 92,203 4,924,474 49,245 Issuance of common stock on July 31,1998 to acquire Fajardo Federal 297,143 2,971 Issuance of Series A Preferred Stock 2,000,000 $ 50,000,000 Cash dividends declared: Common stock Preferred stock Net income Other comprehensive income, net of tax -------------------------------------------------------------------------------- Balance at December 31, 1998 2,000,000 50,000,000 18,440,556 184,406 10,146,091 101,461 -------------------------------------------------------------------------------- Issuance of Series B Preferred Stock 1,000,000 25,000,000 Issuance of Common Stock 71,640 716 Transfer to capital reserves Cash dividends declared: Common stock Preferred stock Net income Other comprehensive loss, net of tax -------------------------------------------------------------------------------- Balance at December 31, 1999 3,000,000 75,000,000 18,440,556 $184,406 10,217,731 $ 102,177 ================================================================================
R&G Financial Corporation Consolidated Statements of Changes in Stockholders' Equity For the Years Ended December 31, 1999, 1998 and 1997
Accumulated Additional Capital other comprehensive Retained Paid-in Capital reserves income (loss) earnings Total Balance at December 31, 1996 $ 38,410,683 $ 1,460,707 $ (101,885) $ 75,784,804 $ 115,632,892 Transfer to capital reserves 754,465 (754,465) Common stock split on September 25, 1997: Stock split (62,865) Cash paid in lieu of fractional shares (12,659) (12,659) Cash dividends declared on common stock (2,385,752) (2,385,752) Net income 23,497,212 23,497,212 Other comprehensive income, net of tax 1,322,223 1,322,223 -------------------------------------------------------------------------------- Balance at December 31, 1997 38,347,818 2,215,172 1,220,338 96,129,140 138,053,916 -------------------------------------------------------------------------------- Transfer to capital reserves 1,332,626 (1,332,626) Common stock split on June 25, 1998 (141,448) Issuance of common stock on July 31,1998 to acquire Fajardo Federal 5,258,874 5,261,845 Issuance of Series A Preferred Stock (1,920,866) 48,079,134 Cash dividends declared: Common stock (3,178,214) (3,178,214) Preferred stock (1,233,819) (1,233,819) Net income 34,033,797 34,033,797 Other comprehensive income, net of tax 145,200 145,200 -------------------------------------------------------------------------------- Balance at December 31, 1998 41,544,378 3,547,798 1,365,538 124,418,278 221,161,859 -------------------------------------------------------------------------------- Issuance of Series B Preferred Stock (1,078,356) 23,921,644 Issuance of Common Stock 287,834 288,550 Transfer to capital reserves 1,547,860 (1,547,860) Cash dividends declared: Common stock (4,258,460) (4,258,460) Preferred stock (3,753,819) (3,753,819) Net income 41,334,992 41,334,992 Other comprehensive loss, net of tax (9,159,489) (9,159,489) -------------------------------------------------------------------------------- Balance at December 31, 1999 $ 40,753,856 $ 5,095,658 $ (7,793,951) $ 156,193,131 $ 269,535,277 ================================================================================
The accompanying notes are an integral part of these financial statements. 49 R&G Financial Corporation Consolidated Statements of Cash Flows Years Ended December 31, 1999, 1998 and 1997
1999 1998 1997 -------- -------- -------- ash flows from operating activities: Net income $ 41,334,992 $ 34,033,797 $ 23,497,212 ---------------------------------------------------- Adjustments to reconcile net income to net cash provided by (used in) operating activities: Depreciation and amortization 3,912,603 3,059,742 2,659,888 Amortization of premium (accretion of discount) on investments and mortgage - backed securities, net 236,184 (86,761) (371,816) Amortization of servicing rights 7,382,649 2,994,307 1,837,414 Provision for loan losses 4,525,000 6,600,000 6,370,000 Provision for bad debts in accounts receivable 546,851 300,000 300,000 Gain on sales of mortgage loans (4,935,775) (7,785,630) (2,721,154) Loss (gain) on sales of investment securities available for sale 959,813 (278,028) (107,430) (Increase) decrease in mortgage loans held for sale (117,118,689) (70,240,717) 7,564,836 Net increase in mortgage-backed securities held for trading (43,936,589) (105,247,419) (291,540,928) Net decrease in investment securities held for trading -- 581,332 769,495 Increase in interest and accounts receivable (16,176,210) (4,590,500) (5,607,804) (Increase) decrease in other assets (4,570,159) 1,678,184 (2,840,360) (Decrease) increase in notes payable and other borrowings (40,518,153) 83,295,337 (15,989,480) Increase in accounts payable and accrued liabilities 10,832,064 11,113,881 5,027,646 Increase (decrease) in other liabilities 1,010,024 702,593 (394,179) ----------------------------------------------------- Total adjustments (197,850,387) (77,903,679) (295,043,872) ----------------------------------------------------- Net cash used in operating activities (156,515,395) (43,869,882) (271,546,660) ----------------------------------------------------- Cash flows from investing activities: Purchases of investment securities available for sale and held to maturity (230,790,182) (72,532,667) (83,021,527) Proceeds from sales and redemptions of investment securities available for sale 108,459,617 92,867,182 36,265,089 Proceeds from maturities of investment securities held to maturity 409,000 4,715,420 -- Principal repayments on mortgage-backed securities 40,875,059 13,955,086 9,475,202 Proceeds from sale of loans 135,632,084 254,011,245 120,955,837 Net originations of loans (730,796,715) (573,657,277) (286,229,017) Purchases of FHLB stock, net (21,420,300) (6,211,400) (658,757) Net assets acquired, net of cash received (4,638,371) 4,287,492 -- Acquisition of premises and equipment (8,694,453) (5,936,102) (3,914,192) Acquisition of servicing rights (23,979,840) (40,002,361) (10,455,392) ----------------------------------------------------- Net cash used in investing activities (734,944,101) (328,503,382) (217,582,757) -----------------------------------------------------
(Continued) 50 R&G Financial Corporation Consolidated Statements of Cash Flows Years Ended December 31, 1999, 1998 and 1997
(Continued) 1999 1998 1997 Cash flows from financing activities: Payments on term notes $ (23,600,000) $ -- $ (2,400,000) Increase in deposits, net 323,209,064 263,743,668 106,851,013 Increase in securities sold under agreements to repurchase, net 259,919,614 38,287,220 335,690,058 Increase (decrease) in federal funds purchased 15,000,000 (10,000,000) 10,000,000 Payments on secured borrowings -- -- (16,103,451) Advances from FHLB, net 263,000,000 75,300,000 27,000,000 Repayment of subordinated notes -- (3,250,000) -- Net proceeds from issuance of Preferred Stock 23,921,644 48,079,134 -- Proceeds from issuance of common stock 288,550 -- -- Capital contribution to subsidiary -- (12,000) -- Cash dividends - common stock (4,258,460) (3,178,214) (2,385,752) - preferred stock (3,753,819) (1,233,819) -- Payment of cash in lieu of fractional shares on stock split -- -- (12,659) ----------------------------------------------------- Net cash provided by financing activities 853,726,593 407,735,989 458,639,209 ----------------------------------------------------- Net (decrease) increase in cash and cash equivalents (37,732,903) 35,362,725 (30,490,208) Cash and cash equivalents at beginning of year 103,728,448 68,365,723 98,855,931 ----------------------------------------------------- Cash and cash equivalents at end of year $ 65,995,545 $ 103,728,448 $ 68,365,723 ===================================================== Cash and cash equivalents include: Cash and due from banks $ 42,251,508 $ 51,804,750 $ 32,607,001 Securities purchased under agreements to resell -- 11,544,123 16,000,000 Time deposits with other banks 23,744,037 30,361,527 16,758,722 Federal funds sold -- 10,018,048 3,000,000 ----------------------------------------------------- $ 65,995,545 $ 103,728,448 $ 68,365,723 =====================================================
The accompanying notes are an integral part of thes financial statements. 51 R&G Financial Corporation Consolidated Statements of Financial Condition December 31, 1999, 1998 and 1997 1. Reporting Entity and Significant Accounting Policies Reporting entity The accompanying consolidated financial statements of R&G Financial Corporation (the Company) include the accounts of R&G Mortgage Corp. (R&G Mortgage), a Puerto Rico corporation, and R-G Premier Bank of Puerto Rico (the Bank), a commercial bank chartered under the laws of the Commonwealth of Puerto Rico. R&G Mortgage is engaged primarily in the business of originating FHA insured, VA guaranteed, and privately insured first and second mortgage loans on residential real estate (1 to 4 families). R&G Mortgage pools FHA and VA loans into Government National Mortgage Association (GNMA) mortgage-backed securities and collateralized mortgage obligation (CMO) certificates for sale to permanent investors. Upon selling the loans, it retains the rights to service the loans. R&G Mortgage is also a Federal National Mortgage Association (FNMA) and Federal Home Loan Mortgage Corporation (FHLMC) Seller-Servicer of conventional loans. R&G Mortgage is also engaged in the business of originating non-conforming conventional first mortgage loans on residential real estate (1 to 4 families), including B&C credit quality loans, through its wholly-owned subsidiary Champion Mortgage Corporation. The Bank provides a full range of banking services through twenty two branches located mainly in the northeastern part of the Commonwealth of Puerto Rico. As discussed in Note 15 to the consolidated financial statements, the Bank is subject to the regulations of certain federal and local agencies, and undergoes periodic examinations by those regulatory agencies. The Bank also is engaged in the business of originating FHA insured, VA guaranteed and privately insured first and second mortgage loans on residential real estate (1 to 4 families) in the State of New York through its wholly-owned subsidiary Continental Capital Corporation. Significant Accounting Policies The accounting and reporting policies of the Company conform with generally accepted accounting principles. The following is a description of the significant accounting policies: Basis of consolidation All significant intercompany balances and transactions have been eliminated in the accompanying consolidated financial statements. Use of estimates in the preparation of financial statements The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. R&G Financial Corporation Consolidated Statements of Financial Condition December 31, 1999, 1998 and 1997 Securities purchased under agreements to resell The Company purchases securities under agreements to resell the same securities. Amounts advanced under these agreements represent short-term loans and are reflected as assets in the consolidated statement of financial condition. It is the Companys policy to take possession over the securities that guarantee such loans. However, the counterparties to these agreements retain effective control over such collateral. Investment securities Investments in debt and equity securities are classified at the time of purchase into one of three categories and accounted for as follows: Held to maturity - debt securities which the Company has a positive intent and ability to hold to maturity. These securities are carried at amortized cost. Trading - debt and equity securities that are bought by the Company and held principally for the purpose of selling them in the near term. These securities are carried at fair value, with unrealized gains and losses included in earnings. Available for sale - debt and equity securities not classified as either held-to-maturity or trading. These securities are reported at fair value, with unrealized gains and losses excluded from earnings and reported net of taxes in other comprehensive income. Premiums are amortized and discounts are accreted as an adjustment to interest income over the life of the related 52 securities using a method that approximates the interest method. Realized gains or losses on securities classified as either available for sale or held to maturity are reported in earnings. Cost of securities sold is determined on the specific identification method. Mortgage-backed securities that are held for sale in conjunction with mortgage banking activities were classified as trading securities until December 31, 1998 in accordance with SFAS No.65. On January 1, 1999, the Company reclassified approximately $427.4 million of mortgage-backed securities from trading to available for sale in connection with the adoption of SFAS No. 134 -Accounting for Mortgage-Backed Securities Retained after the Securitization of Mortgage Loans Held for Sale by a Mortgage Banking Enterprise. This Statement amended SFAS No. 65 to require that after the securitization of mortgage loans held for sale, an entity engaged in mortgage banking activities classify the resulting mortgage-backed securities or other retained interest based on its ability and intent to sell or hold those investments, conforming the subsequent accounting for securities retained after the securitization of mortgage loans by a mortgage banking enterprise with the subsequent accounting for securities retained after the securitization of other types of assets by a non-mortgage banking enterprise. The adoption of this Statement had no effect on the results of operations of the Company. Loans and allowance for loan losses Loans are stated at their outstanding principal balance, less unearned interest, deferred loan origination fees and allowance for loan losses. Loan origination and commitment fees and costs incurred in the origination of new loans are deferred and amortized over the life of the loans as an adjustment of interest yield using the interest method. Unearned interest on installment loans is recognized as income under a method which approximates the interest method. Interest on loans not made on a discounted basis is credited to income based on the loan principal outstanding at stated interest rates. Management believes that the allowance for loan losses is adequate. It is the policy of the Bank to increase its valuation allowances for estimated losses on loans when, based on managements evaluation, a loss becomes both probable and estimable. Major loans and major lending areas are reviewed periodically to determine potential problems at an early date. Also, managements periodic evaluation considers factors such as loss experience, current delinquency data, known and inherent risks in the portfolio, identification of adverse situations which may affect the ability of debtors to repay, the estimated value of any underlying collateral and assessment of current economic conditions. Additions to allowances are charged to income. Any recoveries are credited to the allowance. The Company measures impairment of individual loans, except for loans that are valued at fair value or at the lower of cost or fair value, based on the present value of expected future cash flows discounted at the loans effective interest rate, or, as a practical method, at the observable market price of the loan, or the fair value of the collateral if the loan is collateral dependent. The Company considers loans over $500,000 for individual impairment evaluation. The Company collectively performs impairment evaluations for large groups of small - balance homogeneous loans. Loans are considered impaired when, based on managements evaluation, a borrower will not be able to fulfill its obligation under the original terms of the loan. Interest income Recognition of interest on mortgage, consumer and other loans is discontinued when loans are 90 days or more in arrears on payment of principal or interest or earlier when other factors indicate that collection of interest or principal is doubtful. Loans for which the recognition of interest income has been discontinued are designated as non-accruing. Such loans are not reinstated to accrual status until interest is received currently and no other factors indicative of doubtful collection exist. Discounts and premiums on purchased mortgage loans are accreted (amortized) to income over the remaining life of the loans. Mortgage loans held for sale Mortgage loans intended for sale in the secondary market are carried at the lower of cost or estimated market, computed in the aggregate. The amount by which cost exceeds market value is accounted for as a valuation allowance. Changes in the valuation allowance are included in the determination of income in the period in which the change occurs. 53 Loan servicing fees Loan servicing fees, which are based on a percentage of the principal balance of the mortgage loans serviced, are credited to income as mortgage payments are collected. Late charges and miscellaneous other fees collected from mortgagors are credited to income when earned, adjusted for estimated amounts not expected to be collected. Loan servicing costs are charged to expense when incurred. Allowance for doubtful accounts The allowance for doubtful accounts is determined based on experience and results mainly from expenses incurred in the foreclosure of property not reimbursed by insurers on loans serviced for others. Servicing rights The Company capitalizes servicing rights acquired through loan origination activities by allocating a portion of the cost of originating mortgage loans to the mortgage servicing right at the time of sale or securitization based on the relative fair values at such date. To determine the fair value of the servicing rights, the Company uses the market prices of comparable servicing sale contracts. Servicing assets and liabilities are subsequently adjusted by (a) amortization in proportion to and over the period of estimated net servicing income or loss and (b) assessment for asset impairment or increased obligation based on their fair values. For purposes of measuring impairment, mortgage servicing rights are stratified by loan on the basis of interest rates. An impairment is recognized whenever the prepayment pattern of the mortgage loan indicates that the fair value of the related mortgage servicing rights is less than its carrying amount. An impairment is recognized by charging such excess to income. The Company determined that no reserve for impairment was required as of December 31, 1999 or 1998. As of December 31, 1999 and 1998, the fair value of capitalized mortgage servicing rights was approximately $87,140,000 and $59,880,000, respectively. In determining fair value, the Company considers the fair value of servicing rights with similar risk characteristics. Accounting for transfers and servicing of financial assets and extinguishment of liabilities The Company recognizes on its financial statements financial assets and servicing assets controlled by the Company, and derecognizes financial assets when control has been surrendered. The Company follows the specific criteria established in SFAS No. 125- Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities, to determine when control has been surrendered in a transfer of financial assets. Liabilities are derecognized when they are extinguished. Liabilities and derivatives incurred or obtained by the Company as part of a transfer of financial assets are initially measured at fair value, if practicable. Servicing assets and other retained interests in the transferred assets are measured by allocating the previous carrying amount between the assets sold, if any, and retained interests, if any, based on their relative fair values at the date of the transfer. Transfers of receivables with recourse Transfers of receivables with recourse are recognized as a sale if the Company surrenders control of the future economic benefits embodied in the receivables, its obligation under the recourse provisions can be reasonably estimated and the transferee cannot require the Company to repurchase the receivables except pursuant to the recourse provisions. Any transfers of receivables with recourse not meeting all of these conditions are recognized as a liability in the consolidated financial statements. Gains and losses realized on the sale of loans are recognized at the time of the sale of the loans or pools to investors, based upon the difference between the selling price and the carrying value of the related loans sold as adjusted for any estimated liability under recourse provisions. In most sales, the right to service the loans sold is retained by the Company. Sale of servicing rights The sale of servicing rights is recognized upon executing the contract and title and all risks and rewards have irrevocably passed to the buyer. Gains and losses realized on such sales are recognized based upon the difference between the selling price and the carrying value of the related servicing rights sold. 54 Foreclosed real estate held for sale Other real estate owned comprises properties acquired in settlement of loans and recorded at fair value less estimated costs to sell at the date of acquisition. Costs relating to the development and improvement of the property are capitalized, whereas those relating to holding the property are expensed as incurred. Valuations are periodically performed by management, and an allowance for losses is established by a charge to operations if the carrying value of a property exceeds its estimated net realizable value. In providing allowances for losses, the cost of holding real estate, including interest costs, are considered. Gains or losses resulting from the sale of these properties are credited or charged to income. Premises and equipment Premises and equipment are stated at cost, less accumulated depreciation and amortization. Depreciation and amortization are computed using the straight-line method over the estimated useful life of each type of asset. Major additions and improvements which extend the life of the assets are capitalized, while repairs and maintenance are charged to expense. The Company evaluates for impairment long-lived assets and certain identifiable intangibles held and used whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. In performing the review for recoverability, an estimate of the future cash flows expected to result from the use of the asset and its eventual disposition must be made. If the sum of the future cash flows (undiscounted and without interest charges) is less than the carrying amount of the asset, an impairment loss is recognized for the difference, if any, between the discounted future cash flows and the carrying value of the asset. Goodwill and other intangibles On October 7, 1999 the Company acquired Continental Capital Corp. (Continental Capital) at a cost of approximately $5.3 million. The acquisition was accounted under the purchase method of accounting resulting in the recognition of negative goodwill of approximately $1.0 million. Total assets of Continental Capital at the time of acquisition were approximately $21.2 million. On July 31, 1998, the Company acquired Fajardo Federal Savings Bank, F.S.B. (Fajardo Federal) at a cost of approximately $5.9 million. The acquisition was accounted under the purchase method of accounting, resulting in the recognition of goodwill of approximately $3.1 million. Total assets of Fajardo Federal at the time of acquisition were approximately $28.9 million. Goodwill also resulted from the acquisition of the Bank and a mortgage banking institution in prior years. Goodwill is amortized over a fifteen year period. Accumulated amortization amounted to $2,271,000 and $1,757,000 as of December 31, 1999 and 1998, respectively. In addition, the Company has recorded as a deposit intangible the premium paid by the Bank over the value of deposits acquired resulting from the purchase of certain branches from a commercial bank in 1995. The premium paid is being amortized over a 10 year period. Accumulated amortization amounted to approximately $642,000 and $477,000 at December 31, 1999 and 1998, respectively. Securities sold under agreements to repurchase The Company sells securities under agreements to repurchase the same or similar securities. The Company retains effective control over the securities pledged as collateral on these agreements. Accordingly, amounts received under these agreements represent short-term borrowings and the securities underlying the agreements remain in the asset accounts. Interest rate risk management The Company enters into interest rate caps, swaps, options and/or futures contracts (primarily based on Eurodollar certificates of deposits and U.S. Treasury Notes) to manage its interest rate exposure. Such instruments are designated as hedges against future fluctuations in the interest rates of specifically identified assets or liabilities. Options and futures are reported at fair value within investments in the accompanying consolidated statement of financial condition; related gains or losses are reported in the statement of income. 55 Interest rate swaps are not recognized in the consolidated statement of financial condition and are not marked to market. Net interest settlements on interest rate swaps are recorded as adjustments to interest income or expense. Employee benefits The Company and its subsidiaries have no post retirement benefit plans for its employees as of December 31, 1999. Income taxes The Company follows an asset and liability approach to the recognition of deferred tax liabilities and assets for the expected future tax consequences of temporary differences between the carrying amounts and the tax bases of assets and liabilities. A valuation allowance is recognized for any deferred tax asset for which, based on managements evaluation, it is more likely than not (a likelihood of more than 50%) that some portion or all of the deferred tax asset will not be realized. Capital reserve The Banking Act of the Commonwealth of Puerto Rico, as amended, requires that a minimum of 10% of net income of the Bank be transferred to capital surplus until such surplus equals the sum of the Banks paid-in common and preferred stock capital. Stock option plan As discussed in Note 16 to the consolidated financial statements, the Company adopted a Stock Option Plan in June 1996 and granted stock options thereunder to certain employees in conjunction with the Companys initial public offering. Compensation cost on employee stock option plans is measured and recognized for any excess of the quoted market price of the Companys stock at the grant date over the amount an employee must pay to acquire the stock (intrinsic value-based method of accounting). Generally, stock options are granted with an exercise price equal to the face value of the stock at the date of the grant and, accordingly, no compensation cost is recognized. The Company complies with the disclosure provisions of SFAS No. 123 - Accounting for Stock-Based Compensation. Fair value of financial instruments The reported fair values of financial instruments are based on a variety of factors. For a substantial portion of financial instruments, fair values represent quoted market prices for identical or comparable instruments. In a few other cases, fair values have been estimated based on assumptions concerning the amount and timing of estimated future cash flows and assumed discount rates reflecting varying degrees of risk. Accordingly, the fair values may not represent actual values of the financial instruments that could have been realized as of year end or that will be realized in the future. Earnings per share Basic earnings per common share is computed by dividing net income for the year by the weighted average number of shares outstanding during the period. Outstanding stock options granted under the Companys Stock Option Plan are included in the weighted average number of shares for purposes of the diluted earnings per share computation. Statement of cash flows For purposes of reporting cash flows, cash and cash equivalents include cash on hand and amounts due from banks and other highly liquid securities with an original maturity of three months or less. Accounting for derivative instruments and hedging activities In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS No.133-Accounting for Derivative Instruments and Hedging Activities. This Statement requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. If certain conditions are met, a derivative may be specifically accounted as a hedge. The accounting for changes in fair value of a derivative (that is, gains and losses) depends on the intended use of the derivative and the resulting designation. This Statement was effective for all fiscal quarters of fiscal years beginning after June 15, 1999. In June 1999, the FASB delayed the effective date of this Statement to all fiscal quarters of fiscal years beginning after June 15, 2000. Management is evaluating its hedging strategy in light of this new pronouncement to establish the initial 56 designation of its hedging activities and determine the effect and timing of adoption. However, due to the relatively limited extent to which the Company is using derivative instruments and the simple nature of the instruments used, management does not expect the impact of adoption to be significant. Adoption of new accounting standards On January 1,1998, the Company adopted SFAS No. 130- Reporting Comprehensive Income. This Statement requires (1) the classification of items of other comprehensive income by their nature in a financial statement; (2) the display of the accumulated balance of other comprehensive income by their nature in a financial statement; and (3) the display of the accumulated balance of other comprehensive income separately from retained earnings and additional paid-in capital in the equity section of the statement of financial position. For the Company, unrealized gains and losses on certain investments in debt securities was the only other comprehensive income item to be included in comprehensive income, which is now reported with the statement of comprehensive income. The adoption of this Statement affected only financial statement presentation. On January 1, 1998 the Company also adopted SFAS No. 131 - Disclosures about Segments of an Enterprise and Related Information. This Statement requires that a public business enterprise report financial and descriptive information about its reportable segments. Operating segments are components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance. The adoption of this Statement affected only financial statement presentation and disclosure. The required disclosures are provided in Note 24 to the consolidated financial statements. Reclassifications Certain reclassifications have been made to the 1998 and 1997 financial statements to conform to the 1999 financial statement presentation. 57 2. Mortgage Loans Held for Sale Mortgage loans held for sale consist of: December 31, 1999 1998 Conventional loans $ 54,853,175 $ 93,021,032 FHA/VA loans 22,423,958 24,105,008 ------------ ------------ $ 77,277,133 $117,126,040 ============ ============= The aggregate amortized cost and approximate market value of loans held for sale as of December 31, 1999 are as follows: Amortized Gross unrealized Gross unrealized Approximate cost holding gains holding losses market value $77,277,133 $ 2,242,465 $ (803,495) $78,716,103 Substantially all of the loans are pledged to secure various borrowings from lenders under mortgage warehousing lines of credit (see Note 9). The following table summarizes the components of gain on sale of mortgage loans held for sale and mortgage-backed securities held for trading:
Year ended December 31, 1999 1998 1997 Proceeds from sales of mortgage loans and mortgage-backed securities $ 855,471,398 $ 783,914,438 $ 369,267,397 Mortgage loans and mortgage- backed securities sold (832,057,042) (761,449,308) (359,001,427) Gain on sales, net 23,414,356 22,465,130 10,265,970 Deferred fees earned, net of loan origination costs and commitment fees paid 13,685,619 6,207,098 3,235,381 37,099,975 28,672,228 13,501,351 Net unrealized (loss) profit on trading securities (21,288) 6,005,327 9,677,663 Net gain on origination and sale of mortgage loans 37,078,687 34,677,555 23,179,014 Gains on sales of investment securities available for sale from non-mortgage banking activities 19,531 278,028 107,430 --------------------------------------------------- $ 37,098,218 $ 34,955,583 $ 23,286,444 ===================================================
Total gross loan origination fees totaled approximately $ 28,442,000, $20,270,000 and $13,683,000 during the years ended December 31, 1999, 1998 and 1997, respectively. Gross gains of $32,261,508, $25,445,179 and $11,532,566, and gross losses of $8,847,152, $2,980,049 and $1,266,596 were realized on the above sales during the years ended December 31, 1999, 1998 and 1997, respectively. 58 3. Investment Securities December 31, 1999 1998 Mortgage-backed securities held for trading CMO Residuals (interest only) $ -- $ 7,146,762 GNMA Certificates 43,563,817 443,399,272 $ 43,563,817 $450,546,034 The carrying value and estimated fair value of investment securities available for sale and held to maturity by category and contractual maturities are shown below. The fair value of investment securities is based on quoted market prices and dealer quotes except for the investment in Federal Home Loan Bank (FHLB) stock which is valued at its redemption value. Expected maturities on debt securities will differ from contractual maturities because borrowers may have the right to call or repay obligations with or without call or prepayment penalties.
December 31, 1999 1998 Amortized Fair Amortized Fair cost value cost value ---- ----- ---- ----- ortgage-backed securities available for sale CMO residuals (interest only) and other mortgage-backed securities $ 20,709,050 $ 22,772,039 $ 7,845,382 $ 9,661,171 --------------------------------------------------------------- FNMA certificates: Due from five to ten years 740,977 718,979 -- -- Due over ten years 110,854,889 109,705,450 8,091,335 8,161,704 --------------------------------------------------------------- 111,595,866 110,424,429 8,091,335 8,161,704 FHLMC certificates: Due from one to five years 98,693 98,882 89,209 90,765 Due from five to ten years 1,891,072 1,840,979 240,394 244,140 Due over ten years 14,586,274 14,036,216 21,368,689 21,723,711 16,576,039 15,976,077 21,698,292 22,058,616 GNMA certificates- --------------------------------------------------------------- Due over ten years 570,748,830 563,532,620 55,158,840 55,158,840 $719,629,785 $712,705,165 $ 92,793,849 $ 95,040,331 ===============================================================
59
December 31, 1999 1998 Amortized Fair Amortized Fair cost value cost value ---- ----- ---- ----- Investment securities available for sale U.S. Treasury securities: Due within one year $ 4,998,011 $ 4,944,500 $ -- $ -- Due from one to five years -- -- 4,995,028 4,990,625 4,998,011 4,944,500 4,995,028 4,990,625 U.S. Government and Agencies securities: Due from one to five years 133,955,940 130,950,440 38,100,000 38,106,648 Due from five to ten years 92,236,888 89,443,550 5,010,140 5,000,000 226,192,828 220,393,990 43,110,140 43,106,648 --------------------------------------------------------------- FHLB stock 32,825,167 32,825,167 11,404,867 11,404,867 --------------------------------------------------------------- $264,016,006 $258,163,657 $ 59,510,035 $ 59,502,140 =============================================================== Mortgage-backed securities held to maturity GNMA certificates: Due from one to five years $ 15,478 $ 16,601 $ 27,227 $ 29,201 Due from five to ten years 10,659,910 10,390,712 13,024,960 12,751,640 Due over ten years 2,132,629 2,074,108 2,359,713 2,306,529 12,808,017 12,481,421 15,411,900 15,087,370 --------------------------------------------------------------- FNMA certificates- Due over ten years 10,252,615 10,643,767 12,607,700 12,944,020 --------------------------------------------------------------- FHLMC certificates- Due over ten years 188,615 179,841 235,918 229,535 --------------------------------------------------------------- $23,249,247 $23,305,029 $28,255,518 $28,260,925 ===============================================================
60
December 31, 1999 1998 Amortized Fair Amortized Fair cost value cost value ---- ----- ---- ----- nvestment securities held to maturity U.S. Treasury securities- Due within one year $ - $ - $ 194,892 $ 196,000 U.S. Government and Agencies securities- Due within one year - - 204,167 204,167 Puerto Rico Government and Agencies obligations: Due from one to five years 1,280,000 1,272,000 - - Due from five to ten years 4,157,630 4,131,755 5,944,870 5,978,467 5,437,630 5,403,755 5,944,870 5,978,467 --------------------------------------------------------------- $ 5,437,630 $ 5,403,755 $ 6,343,929 $ 6,378,634 ===============================================================
Unrealized gains and losses on securities held to maturity and available for sale follows:
December 31, 1999 1998 Gross unrealized Gross unrealized Gains Losses Gains Losses ----- ------ ----- ------ ecurities held to maturity: Puerto Rico and United States Government obligations $ - $ (33,875) $ 39,705 $ (5,000) Mortgage-backed securities 392,274 (336,492) 338,294 (332,887) $ 392,274 $ (370,367) $ 377,999 $ (337,887) --------------------------------------------------------------- Securities available for sale: U.S. Government obligations $ 9,000 $ (5,861,349) $ 6,648 $ (14,543) Mortgage-backed securities 2,570,658 (9,495,278) 2,276,566 (30,084) --------------------------------------------------------------- $ 2,579,658 $(15,356,627) $ 2,283,214 $ (44,627) ===============================================================
During 1997 the Company had proceeds from the sale of investment securities held for trading of approximately $10,083,000; gains realized on such sales totaled approximately $31,000; no losses were realized. There were no sales of investment securities held for trading during 1999 and 1998. During the years ended December 31, 1999, 1998 and 1997, proceeds from the sale of securities available for sale totaled approximately $88,760,000, $45,917,000 and $7,915,000, respectively; gross gains realized on such sales totaled approximately $1,392,000, $278,000 and $107,000, respectively; gross losses realized in 1999 were approximately $2,352,000; no losses were realized in 1998 and 1997. During 1999, the Company reclassified $9,296,000 (1998- $55,159,000) securities held for trading to available for sale. As discussed in Notes 7, 8, 9 and 10 to the consolidated financial statements, as of December 31, 1999 the Company had investment securities, mortgage-backed securities and mortgage loans amounting to approximately $1.3 billion pledged to secure certain deposits, securities sold under agreements to repurchase, advances from the FHLB, notes payable, and irrevocable standby letters of credit issued by the FHLB. 61 4. Loans and Allowance for Loan Losses Loans consist of the following: December 31, 1999 1998 ---- ---- Real estate loans: Residential - first mortgage $ 1,097,891,436 $ 735,457,756 Residential - second mortgage 13,028,816 18,633,916 Land 1,952,043 337,250 Construction 95,201,185 34,391,170 Commercial 226,036,358 121,393,030 1,434,109,838 910,213,122 ---------------------------------------- Undisbursed portion of loans in process (50,622,579) (18,170,178) Net deferred loan fees (436,852) (166,056) 1,383,050,407 891,876,888 ---------------------------------------- Other loans: Commercial 54,230,506 46,532,311 Consumer: Loans secured by deposits 20,538,734 17,225,437 Loans secured by real estate 76,944,484 85,054,815 Other 37,653,140 41,381,304 Unamortized discount (356,142) (163,499) Unearned interest (83,722) (183,546) 188,927,000 189,846,822 ---------------------------------------- Total loans 1,571,977,407 1,081,723,710 ---------------------------------------- Allowance for loan losses (8,970,605) (8,055,432) $ 1,563,006,802 $ 1,073,668,278 ======================================== The changes in the allowance for loan losses follow: Year ended December 31, 1999 1998 1997 Balance, beginning of year $ 8,055,432 $ 6,771,702 $ 3,331,645 Provision for loan losses 4,525,000 6,600,000 6,370,000 Acquired reserves -- 364,064 -- Loans charged-off (4,439,807) (6,012,792) (5,376,573) Recoveries 829,980 332,458 2,446,630 Balance, end of year $ 8,970,605 $ 8,055,432 $ 6,771,702 =============================================== Recoveries during the year ended December 31, 1997 include $2 million received from the Companys fidelity insurance carrier as part of a settlement of a claim filed by the Company in late 1996. The amount received was recorded as a recovery of loans previously charged-off. As of December 31, 1999 and 1998 the Company had commercial loans classified as impaired totaling $928,000 and $1,021,000, respectively. No reserves for impairment were necessary as of such dates since the fair value of the collaterals securing such loans exceeded their outstanding balances. As of December 31, 1999, 1998 and 1997, loans on which the accrual of interest income had been discontinued amounted to approximately $59,014,000, $44,526,000 and $30,086,000, respectively. The additional interest income that would have been recognized during 1999, 1998 and 1997 had these loans been accruing interest amounted to approximately $ 1,637,000, $1,408,000 and $1,095,000, respectively. The Company has no material commitments to lend additional funds to borrowers whose loans were in non-accruing status at December 31, 1999. 62 5. Mortgage Loan Servicing The Companys fees for servicing mortgage loans generally range from .25% to .50% on the declining outstanding principal balances of the mortgage loans serviced. Servicing fees are collected on a monthly basis out of payments from mortgagors. The servicing agreements are terminable by permanent investors for cause without penalty or after payment of a termination fee ranging from .5% to 1% of the outstanding principal balance of the loans. At December 31, 1999 and 1998, the mortgage loans servicing portfolio amounted to approximately $6,177,511,000 and $4,827,798,000, respectively, including approximately $1,069,100,000 and $754,623,000, respectively, serviced for the Bank, and $486,199,000 under sub-servicing contracts at December 31, 1999. The changes in the servicing asset of the Company follows: Year ended December 31, 1999 1998 1997 Balance at beginning of period $ 58,221,052 $ 21,212,998 $ 12,595,020 Rights originated 14,072,094 11,845,775 8,057,574 Rights purchased 19,342,009 28,156,586 2,397,818 Scheduled amortization (7,382,649) (2,994,307) (1,837,414) Balance at end of period $ 84,252,506 $ 58,221,052 $ 21,212,998 ============================================= Among the conditions established in its various servicing agreements, the Company is committed to advance from its own funds any shortage of moneys required to complete timely payments to investors in GNMA mortgage-backed securities issued and in its FNMA and FHLMC portfolio. At December 31, 1999, the mortgage loan portfolio serviced for GNMA, FNMA and FHLMC and subject to the timely payment commitment amounted to approximately $2,880,069,000, $537,881,000 and $981,168,000, respectively (1998 - $2,575,794,000, $219,178,000, and $831,184,000). Total funds advanced as of December 31, 1999 in relation to such commitments amount to $2,693,000 , $6,740,000 and $1,501,000 for escrow advances, principal and interest advances and foreclosure advances, respectively (1998 - $1,458,000, $3,429,000 and $757,000). In connection with mortgage servicing activities, the Company holds funds in trust for investors representing amounts collected primarily for the payment of principal, interest, real estate taxes and insurance premiums. Such funds are deposited in separate custodial bank accounts, some of which are deposited in the Bank. At December 31, 1999 and 1998, the related escrow funds include approximately $92,361,000 and $109,857,000, respectively, deposited in the Bank; these funds are included in the Companys consolidated financial statements. Escrow funds also include approximately $16,826,000 and $6,732,000 at December 31, 1999 and 1998, respectively, deposited with other banks and excluded from the Companys assets and liabilities. 6. Premises and Equipment Premises and equipment consist of: Estimated useful lives December 31, (Years) 1999 1998 Buildings 20 $ 1,895,066 $ -- Furniture and fixtures 5 22,398,620 17,588,015 Leasehold improvements 10 11,952,402 7,966,402 Autos 5 544,355 487,562 36,790,443 26,041,979 ----------------------------- Less - Accumulated depreciation and amortization (17,331,090) (13,079,544) ----------------------------- $ 19,459,353 $ 12,962,435 ============================= 63 7. Deposits Deposits are summarized as follows: December 31, 1999 1998 Passbook savings $ 113,576,010 $ 106,389,879 NOW accounts 38,764,771 34,954,647 Super NOW accounts 93,912,535 81,511,705 Regular checking accounts (non-interest bearing) 54,020,104 46,328,445 Commercial checking accounts (non-interest bearing) 103,575,340 126,171,795 290,272,750 288,966,592 --------------------------------------- Certificates of deposit: Under $ 100,000 390,314,490 315,641,230 $100,000 and over 531,714,386 294,270,322 922,028,876 609,911,552 --------------------------------------- Accrued interest payable 4,628,732 2,029,281 $ 1,330,506,368 $ 1,007,297,304 ======================================= The weighted average stated interest rate on all deposits at December 31, 1999 and 1998 was 4.84% and 4.50%, respectively. As of December 31, 1999, the Company had delivered investment securities held to maturity with an amortized cost of approximately $4.2 million as collateral for public funds deposits. At December 31, 1999 scheduled maturities of certificates of deposit are as follows: 2000 $755,614,168 2001 46,841,853 2002 32,263,785 2003 31,574,142 2004 39,153,143 Thereafter 16,581,785 $922,028,876 ============ 64 8. Securities Sold Under Agreements to Repurchase At December 31, 1999, repurchase agreements mature within ninety days, except for repurchase agreements totaling $70,000,000 maturing in December 2000. Information on these agreements follows:
December 31, 1998 1997 Approximate market Approximate market Repurchase and carrying value of Repurchase and carrying value of liability underlying securities liability underlying securities --------- --------------------- --------- --------------------- Type of security U.S. Government and Agencies securities $ 124,392,000 $ 123,548,392 $ 6,967,000 $ 7,151,947 GNMA 570,743,356 590,468,925 439,960,446 448,732,603 CMO Residuals 8,162,280 4,592,934 8,162,280 5,848,724 FHLMC 15,763,948 16,053,021 12,682,000 12,983,712 FNMA 12,279,756 13,699,487 3,650,000 3,216,694 --------------------------------------------------------------------------- $ 731,341,340 $ 748,362,759 $ 471,421,726 $ 477,933,680 ===========================================================================
Maximum amount of borrowings outstanding at any month-end during 1999 and 1998 under the agreements to repurchase were $643,352,000 and $471,422,000, respectively. The approximate average aggregate borrowings outstanding during the periods were $482,335,000 and $410,701,000, respectively. The weighted average interest rate of such agreements was 5.92% and 5.42% at December 31, 1999 and 1998, respectively; the weighted average rate during 1999 and 1998 was 5.59% and 5.74%, respectively. The securities underlying such agreements were delivered to, and are being held by, the dealers with whom the securities sold under agreements to repurchase were transacted. The dealers may have sold, lent, or otherwise disposed of such securities to other parties in the normal course of their operations, but have agreed to resell the Company the same or similar securities at the maturities of the agreements. Since repurchase agreements are short-term commitments to borrow funds, they can be assumed to reprice at least quarterly. Therefore, the outstanding balance of repurchase agreements is estimated to be its fair value. 65 9. Notes Payable Notes payable consist of:
December 31, 1999 1998 arehousing lines, bearing interest at floating rates ranging from 1.125% to 1.25% over the counterpartys cost of funds (6.78% in 1999 and 6.43% in 1998) $ 48,507,001 $ 98,647,956 Lines of credit with banks for an aggregate of $25 million bearing interest at floating rates ranging from 1.375% to 1.75% over the counterpartys cost of funds 7.25% in 1999), collateralized by mortgage servicing rights with a fair value of approximately $35,000,000 23,700,000 - Promissory notes maturing in 1999 paying semiannual interest at fixed annual rates ranging from 6.20% to 7.15% - 23,600,000 Promissory notes maturing in 2000 paying semiannual interest at fixed annual rates ranging from 5.60% to 6.30% 15,000,000 15,000,000 Promissory note maturing in 2000 paying quarterly interest at a floating rate of 84% of the three month Libor rate less .125% (4.99% at December 31, 1999 and 4.36% at December 31, 1998) 10,000,000 10,000,000 Promissory note maturing in 2001 paying quarterly interest at a floating rate of 96% of the three month Libid rate (5.81% at December 31, 1999 and 4.95% at December 31, 1998) 25,000,000 25,000,000 Promissory note maturing in 2001 paying semiannual interest at a fixed annual rate of 6.52% 10,500,000 10,500,000 $ 132,707,001 $ 182,747,956 ================================
As of December 31, 1999, the Company had various credit line agreements permitting the Company to borrow up to $223.4 million in warehousing lines with banks; the unused portion of warehousing lines totaled approximately $174.9 million. Warehousing lines at December 31, 1999 are collateralized by approximately $44.2 million in mortgage loans, mortgage servicing rights with a fair value of $8 million, and a general assignment of mortgage payments receivable. These borrowings bear interest at rates related to the respective counterpartys cost of funds. Several credit line agreements impose certain requirements on the Company of which the most important include maintaining net worth and debt service over certain defined minimums, and limitations on indebtedness and declaration of dividends. At December 31, 1999 the Company was in compliance with the loan requirements. 66 The following information relates to borrowings of the Company under the credit line agreements: December 31, ------------ (Dollars in Thousands) 1999 1998 ---- ---- Maximum aggregate borrowings outstanding at any month-end $ 233,100 $ 161,060 Approximate average aggregate borrowings outstanding during the year $ 140,548 $ 102,047 Weighted average interest rate during the year computed on a monthly basis 6.35% 7.07% Weighted average interest rate at end of year 6.87% 6.43% Certain promissory notes include pledge agreements where the Company has pledged certain negotiable securities as a guarantee for payment of some of the notes. The pledge agreements provide that the value of the pledged securities must not fall below 105% of the principal balance of the promissory note plus accrued interest on such amount. In the event that the securities value falls below the stated percentage, the Company must deliver additional negotiable securities. At December 31, 1999 securities pledged in relation to this requirement consist of investment and mortgage-backed securities with an amortized cost of approximately $14.3 million and approximate market value of $14.2 million. At December 31, 1999 floating rate notes in the aggregate amount of $35,000,000 and fixed rate notes of $10,500,000 are guaranteed by letters of credit issued by the FHLB -NY. Promissory notes by maturity as of December 31, 1999 follows: 2000 $25,000,000 2001 35,500,000 $60,500,000 ==================== 67 10. Advances from The Federal Home Loan Bank of New York Advances from the FHLB totaled $384 million and $121 million as of December 31, 1999 and 1998, respectively. At December 31, 1999 advances from FHLB mature at various dates commencing on January 3, 2000 until December 18, 2003, and bear interest at various rates ranging from 4.22% to 6.43%. The weighted average stated interest rate on advances from the FHLB was 5.75% and 5.25% at December 31, 1999 and 1998, respectively. The Bank receives advances from the FHLB under an Advances, Collateral Pledge and Security Agreement (the Agreement), which allows the Company to borrow up to $645.8 million as of December 31, 1999. The unused portion under such line of credit was approximately $261.8 million. Under the Agreement, the Bank is required to maintain a minimum amount of qualifying collateral with a market value of at least 110% of the outstanding advances. In addition, the Bank maintains standby letters of credit with the FHLB amounting to approximately $47.1 million at December 31, 1999. At December 31, 1999 the specific collateral (principally in the form of first mortgage notes) amounting to approximately $504.9 million was pledged to the FHLB as part of the Agreement and to secure standby letters of credit. At December 31, 1999, the market value of the collateral indicated above was sufficient to comply with the provisions of the Agreement. 11. Income Taxes Under the Puerto Rico tax law a companys tax liability will be the greater of the tax computed under the regular tax system or the alternative minimum tax (AMT) system. The AMT is imposed based on 22% of regular taxable income after certain adjustments for preference items. An AMT credit may be claimed in future years for tax paid on an AMT basis in excess of the regular tax basis. Under the Puerto Rico Income Tax Law entities are not entitled to file consolidated tax returns. The Bank is subject to Puerto Rico income tax on its income derived from all sources within and outside Puerto Rico. The Bank is also subject to United States income taxes on certain types of income from such source. However, any United States income tax paid by the Bank is, subject to certain conditions and limitations, creditable as a foreign tax credit against its Puerto Rico income tax liability. A portion of the Companys interest income arises from mortgage loans and mortgage-backed securities which are exempt for Puerto Rico income tax purposes. The elimination of exempt income, net of related expenses, from the determination of taxable income results in a reduction of its income tax liability. Deferred tax liabilities (assets) are as follows:
December 31, 1999 1998 Deferred tax liabilities: Unrealized gain on securities held for trading $ 101,782 $ 6,038,762 Reserve for bad debts -- 19,371 CMO residuals (IOs) 4,387,577 1,778,693 Servicing asset 8,260,486 4,839,238 Securitization gains on mortgage -backed securities 4,710,779 -- Unrealized gain on securities available for sale -- 873,049 17,460,624 13,549,113 -------------------------------
December 31, 1999 1998 Deferred tax assets: Deferred loan origination income, net (1,974) (313,111) Allowance for loan losses (3,498,536) (2,799,369) Contingency reserve -- (234,000) AMT credits (1,191,200) (124,937) Other foreclosed property reserve (38,571) -- Recourse contingency -- (61,653) Reserve for bad debts (253,664) -- Unrealized losses on securities available for sale (4,983,018) -- Deferred gains on sale of investment securities (183,336) (183,336) (10,150,299) (3,716,406) ------------------------------- Net deferred tax liability $ 7,310,325 $ 9,832,707 ===============================
68 The provision for income taxes of the Company varies from amounts computed by applying the Puerto Rico statutory tax rate to income before taxes as follows:
Year ended December 31, 1999 1998 1997 % of pretax % of pretax % of pretax Amount income Amount income Amount income (Dollars in Thousands) Computed income tax at statutory rate $ 20,894 39% $ 17,579 39% $ 12,569 39% Effect on provision of: Tax-exempt interest (5,629) (10) (7,084) (15) (2,947) (9) Adjustment for tax differences expected to reverse at tax rates lower than the statutory rate (2,040) (4) -- -- -- -- Discount on tax credits purchased (506) (1) (385) (1) (1,006) (3) Other (non-taxable) / non-deductible items, net (480) (1) 931 2 116 -- ------------------------------------------------------------------------- $ 12,239 23% $ 11,041 25% $ 8,732 27% =========================================================================
In early February 1998, the Puerto Rico Treasury Department began an income tax examination of R&G Mortgages and the Bank's income tax returns for the year 1995. Management believes that this examination should not result in any significant adverse effect on the Company's financial condition or results of operations. 12. Stockholders' Equity On April 16, 1998 the Company's Board of Directors authorized a two-for-one stock split of the Company's $.01 par value Class A and Class B common stock (the common stock). The stock split was effected, on June 25, 1998 in the form of a stock dividend of one share for each share held of record on June 12, 1998. Prior to the declaration of the stock split, the Company had 14,144,752 shares of common stock outstanding. As a result of the split, 14,144,752 shares were issued and $141,448 were transferred from additional paid-in-capital to common stock. On July 15, 1997 the Company's Board of Directors authorized a nine-for-five stock split of the Company's common stock. The stock split was effected on September 25, 1997 in the form of a stock dividend of four shares of common stock for each five shares held of record on September 15, 1997. Prior to the declaration of the stock split, the Company had 7,858,216 shares of common stock outstanding. As a result of the split, 6,286,536 shares were issued and $62,865 were transferred from additional paid-in-capital to common stock. The stock splits did not dilute shareholders' voting rights or their proportionate interest in the Company. All per share data included herein has been adjusted to reflect the stock splits. The Company's average number of common shares outstanding used in the computation of basic earnings per common share was 28,632,768 (1998-28,413,314; 1997-28,289,504); the weighted average number of shares outstanding for the computation of diluted earnings per share was 29,334,224 (1998 -29,169,314; 1997 -29,042,504) after giving effect to outstanding stock options granted under the Company's Stock Option Plan. During 1999, cash dividends of $.14875 (1998 -$0.111375; 1997 -$0.084375) per common share amounting to $4,258,460 (1998 -$3,178,214; 1997 -$2,385,752) were paid. 69 13. Non-interest Expenses Non-interest expenses consist of the following:
Year ended December 31, 1999 1998 1997 Stationary and supplies $ 2,018,569 $ 1,548,459 1,640,131 Advertising and promotion 5,718,016 4,277,685 3,154,189 Telephone 1,585,587 1,004,213 871,029 License and other taxes 2,693,461 2,074,144 1,595,276 Deposit insurance 514,473 401,933 346,625 Other insurance 801,334 661,951 590,066 Legal and other professional services 2,254,510 2,169,209 2,193,687 Amortization of mortgage servicing asset 7,382,649 2,994,307 1,837,414 Goodwill amortization 514,293 393,507 307,233 Guaranty fees 2,060,884 1,366,296 1,246,300 Other 8,023,930 5,795,632 4,469,547 $33,567,706 $22,687,336 $18,251,497
14. Related Party Transactions The Company leases some of its facilities from an affiliate, mostly on a month-to-month basis. The annual rentals under these agreements during 1999 were approximately $1,736,000 (1998- $ 1,566,000). Loans to directors, officers and employees of the Company were made in the ordinary course of business. Interest rates on such loans were substantially the same as those prevailing at the time for comparable transactions with unrelated parties and did not involve more than a normal risk of collectibility. At December 31, 1999 the aggregate amount of loans outstanding to officers, directors, and principal stockholders of the Company and its subsidiaries were insignificant. 15. Regulatory Requirements The Company is approved by the Board of Governors of the Federal Reserve System (Federal Reserve Board) as a registered bank holding company pursuant to the Bank Holding Company Act of 1956, as amended. The Company, as a bank holding company, is subject to regulation and supervision by the Federal Reserve Board. The Federal Reserve Board has established guidelines regarding the capital adequacy of bank holding companies, such as the Company. These requirements are substantially similar to those adopted by the FDIC for depository institutions, as set forth below. The Bank is incorporated under the Puerto Rico Banking Act, as amended, and is subject to extensive regulation and examination by the Commissioner of the Officer of Financial Institutions of the Commonwealth of Puerto Rico, the FDIC and certain requirements established by the Federal Reserve Board. The mortgage banking business conducted by R&G Mortgage is subject to the rules and regulations of FHA, VA, FNMA, FHLMC, GNMA and the Commissioner with respect to originating, processing, selling and servicing mortgage loans and the issuance and sale of mortgage-backed securities. R&G Mortgages affairs are also subject to supervision and examination by FNMA, FHA, FHLMC, GNMA, HUD and VA at all times to assure compliance with the applicable regulations, policies and procedures. Mortgage origination activities are subject to, among others, the Equal Credit Opportunity Act, Federal Truth-in-Lending Act and the Real Estate Settlement Procedures Act and the regulations promulgated thereunder. R&G Mortgage is a U.S. Department of Housing and Urban Development (HUD) approved non-supervised mortgagee. 70 The Company is subject to various regulatory capital requirements administered by the federal banking agencies. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company must meet specific capital guidelines that involve quantitative measures of the Companys assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. The Companys capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy requires the Company and the Bank to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I capital to average assets (as defined). Failure to meet capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Companys financial statements. As of December 31, 1999, the Company meets all capital adequacy requirements to which it is subject. As of December 31, 1999, the most recent notification from the FDIC categorized the Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized the Bank must maintain minimum total risk-based, Tier I risk-based and Tier I leverage ratios as set forth in the table below. There are no conditions or events since that notification that management believes have changed the Banks category. The following table reflects the Companys and the Banks actual capital amounts and ratios, and applicable regulatory capital requirements at December 31, 1999 and 1998:
To be well capitalized For capital under prompt corrective Actual adequacy purposes action provisions Amount Ratio Amount Ratio Amount Ratio ------ ----- ------ ----- ------ ----- (Dollars in Thousands) As of December 31, 1999 Total capital (to risk weighted assets): Consolidated $271,716 16.47% $131,966 8% N/A N/A R-G Premier Bank only $161,754 13.08% $ 98,921 8% $123,651 10% Tier I capital (to risk weighted assets): Consolidated $262,746 15.93% $ 65,983 4% N/A N/A R-G Premier Bank only $152,784 12.36% $ 49,460 4% $ 74,190 6% Tier I capital (to average assets): Consolidated $262,746 9.35% $112,368 4% N/A N/A R-G Premier Bank only $152,784 7.07% $ 86,453 4% $108,066 5% As of December 31, 1998 Total capital (to risk weighted assets): Consolidated $215,287 14.28% $120,638 8% N/A N/A R-G Premier Bank only $110,501 14.46% $ 61,124 8% $ 76,405 10% Tier I capital (to risk weighted assets): Consolidated $207,232 13.74% $ 60,319 4% N/A N/A R-G Premier Bank only $102,446 13.41% $ 30,562 4% $ 45,843 6% Tier I capital (to average assets): Consolidated $207,232 10.88% $ 76,172 4% N/A N/A R-G Premier Bank only $102,446 8.04% $ 50,993 4% $ 63,741 5%
71 16. Stock Option Plan The Company has a Stock Option Plan, which is designed to attract and retain qualified personnel in key positions, provide officers and key employees with a proprietary interest in the Company as an incentive to contribute to the success of the Company, and reward key employees for outstanding performance and the attainment of targeted goals. An amount of Company common stock equal to 10% of the aggregate number of Class B Shares sold in the Companys initial public offering (241,500 shares, equivalent to 869,400 shares after giving effect to stock splits) were authorized under the Stock Option Plan, which may be filled by authorized but unissued shares, treasury shares or shares purchased by the Company on the open market or from private sources. The Stock Option Plan provides for the grant of stock options at an exercise price equal to the fair market value of the Class B shares at the date of the grant. Stock options are available for grant to key employees of the Company and any subsidiaries. No options were issued prior to the public offering. In connection with the Companys initial offering on August 27,1996, the Company awarded options for 200,000 shares (720,000 shares as adjusted for stock splits) to 28 employees of R&G Mortgage and the Bank at the initial public offering price of $14.50 per share. In January 1997 the Company awarded options for an additional 10,000 shares (36,000 shares as adjusted for stock splits) to a certain employee. The maximum term of the options granted are ten years. Under the provisions of the Stock Option Plan, options can be exercised as follows: 20% after one year, 40% after two years, 60% after three years, 80% after four years and 100% after five years. As of December 31, 1998 none of the options granted have been exercised. Stock options granted, cancelled and exercised during 1999 were as follows: Weighted Average Price Outstanding stock options, January 1, 1999 756,000 $ 4.1568 Granted 96,000 $ 16.1250 Exercised (71,640) $ 4.0278 Cancelled (25,200) $ 4.0278 Outstanding stock options, December 31, 1999 755,160 $ 5.6948 The Company adopted in 1996 the disclosure provisions of SFAS No. 123- Accounting for Stock-Based Compensation (SFAS 123). Accordingly, no compensation cost has been recognized for the Companys Stock Option Plan. Had compensation cost for the Companys Stock Option Plan been determined based on the fair value of the options at the grant date consistent with the provisions of SFAS 123, the Companys net earnings and earnings per share for the years ended December 31, 1999 and 1998 would have been reduced to the pro forma amounts indicated below: 1999 1998 Net earnings - as reported $ 41,334,992 $ 34,033,797 Net earnings - pro forma $ 41,180,478 $ 33,879,283 Basic earnings per share - as reported $ 1.31 $ 1.15 Basic earnings per share - pro forma $ 1.31 $ 1.15 1999 1998 Diluted earnings per share - as reported $ 1.28 $ 1.12 Diluted earnings per share - pro forma $ 1.28 $ 1.12 The fair value of the option grants were estimated on the date of the grant using the Black-Scholes option pricing model with the following weighted average assumptions: Stock Price and Exercise Price - $14.50 for options granted based on the terms of the awards. Expected Option Term - 6 years. Expected Volatility - 42.54% for options granted calculated using weekly closing prices of three peer financial institutions given the Companys limited publicly trading history. Expected Dividend Yield - Calculated as the annualized quarterly dividend closest to the grant date divided by the stock price on the grant date. Risk-Free Interest Rate - 6.48% for options granted determined as the yield, on the date of grant, on a U.S. Treasury zero coupon bond with a maturity equal to the expected term of the option. 72 17. Profit Sharing Plan The Company has a profit sharing plan (the Plan) which covers substantially all regular employees. Annual contributions to the Plan are based on matching percentages up to 5% of employee salaries, based on the employees years of service and on operational income, as defined by the Plan, and are deposited in a trust. Contributions to the Plan during the years ended December 31, 1999, 1998 and 1997 amounted to approximately $120,000, $103,000, and $79,000, respectively. 18. Commitments and Contingencies Commitments to buy and sell GNMA certificates As of December 31, 1999, the Company had open commitments to issue GNMA certificates in the amount of $52.0 million. Commitments to sell mortgage loans As of December 31, 1999 the Company had commitments to sell mortgage loans to third party investors amounting to $64.8 million. Lease commitments The Company is obligated under several noncancellable leases for office space and equipment rentals, all of which are accounted for as operating leases. The leases expire at various dates with options for renewals. As of December 31, 1999, minimum annual rental commitments under noncancellable operating leases for certain office space and equipment, including leases with an affiliate, were as follows: Year Amount 2000 $ 3,444,327 2001 3,265,865 2002 3,137,709 2003 2,793,145 2004 2,538,732 Later years 13,525,469 $ 28,705,247 Rent expense amounted to approximately $4,081,000 in 1999, $3,097,000 in 1998 and $2,483,000 in 1997. Litigation The Company is a defendant in legal proceedings arising from normal business activities. Management believes, based on the opinion of legal counsel, that the final disposition of these matters will not have a material adverse effect on the Companys financial position or results of operations. Others At December 31, 1999 the Company is liable under limited recourse provisions resulting from the sale of loans to several investors principally FHLMC. The principal balance of these loans, which are serviced by the Company, amounts to approximately $646.3 million at December 31, 1999. Liability, if any, under the recourse provisions at December 31, 1999 is estimated by management to be insignificant. 19. Supplemental Disclosure on the Statements of Cash Flows During 1999, 1998 and 1997, the Company paid interest amounting to approximately $99,587,000, $79,576,000 and $60,846,000, respectively, and income taxes of approximately $8,241,000, $4,306,000 and $9,699,000, respectively. During 1999, 1998 and 1997 the Company retained as investment securities approximately $106,237,000, $0 and $11,346,000, respectively, of loans securitized from its mortgage loan portfolio. 73 20. Financial Instruments with Off-Balance Sheet Risk and Concentrations of Credit Risk In the normal course of business, the Company uses various off-balance sheet financial instruments to satisfy the financing needs of its customers and to reduce its own exposure to fluctuations in interest rates. These financial instruments include loan commitments and interest rate exchange agreements (swaps). These instruments involve, to varying degrees, elements of credit and interest rate in excess of the amount recognized in the statements of financial condition. The contract or notional amounts of these instruments, which are not included in the statements of financial condition, are an indicator of the Companys activities in particular classes of financial instruments. The Companys exposure to credit loss in the event of nonperformance by the other party to the financial instruments for commitments to extend credit is represented by the contractual notional amount of those instruments. The Company uses the same credit policies in making commitments as it does for on-balance sheet instruments. For interest rate swaps, the contract or notional amounts do not represent exposure to credit loss. Instead, the amount potentially subject to credit loss is substantially less. Contractual commitments to extend credit are legally binding agreements to lend money to customers at predetermined interest rates for a specified period of time. Since many of the loan commitments may expire without being drawn upon, the total commitment amount does not necessarily represent future cash requirements. To extend credit the Company evaluates each customers credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Company upon extension of credit, is based on managements credit evaluation of the counterparty. A geographic concentration exists within the Companys mortgage loans portfolio since most of the Companys business activity is with customers located in Puerto Rico. Interest rate swap agreements involve the exchange of fixed and floating rate interest payment obligations without the exchange of the underlying principal. Entering into interest rate agreements involves the risk of dealing with counterparties and their ability to meet the terms of the contracts, and also the interest rate risk associated with unmatched positions. The total amounts of financial instruments with off-balance sheet risk at December 31, 1999 follows: Financial instruments whose contract amounts represent potential credit risk: Commitments to extend credit excluding the undisbursed portion of loans in process: Unused lines of credit $ 29,016,736 -------------------------------------------------------------------------------- Financial instruments whose notional or contractual amounts exceed the amount of potential credit risk: Interest rate swap contracts $ 155,000,000 -------------------------------------------------------------------------------- A detail of interest rate swaps by contractual maturity at December 31, 1999 follows: National Pay Fixed Receive Amount Maturity Rate Rate Floating ------ -------- ---- ------------- $ 10,000,000 October 24, 2000 5.20% 84% of 3 month Libid 25,000,000 September 10, 2001 6.09% 96% of 3 month Libid 15,000,000 January 26, 2001 5.59% 3 month Libor 15,000,000 September 17, 2002 5.79% 3 month Libid 10,000,000 September 15, 2003 4.70% 3 month Libor 70,000,000 December 8, 2009 5.60% 3 month Libor 10,000,000 December 15, 2009 5.69% 3 month Libor 74 The following table summarizes the changes in notional amounts of swaps outstanding during 1999: Beginning balance $ 205,000,000 New Swaps 80,000,000 Maturities (130,000,000) -------------- Ending balance $ 155,000,000 ============== As of December 31, 1999, interest rate swap maturities are as follows: 2000 $ 10,000,000 2001 40,000,000 2002 15,000,000 2003 10,000,000 2009 80,000,000 --------------------- $ 155,000,000 ===================== Expected maturities will differ from contracted maturities because counterparties to the agreements may have the right to call the swaps. As of December 31,1999 swap agreements with a notional amount of $105,000,000 had call options at various dates commencing on September 2000 through December 2000. Net interest settlements on swap agreements are recorded as an adjustment to interest expense on notes payable and repurchase agreements. Net interest paid during 1999 and 1997 amounted to approximately $315,000 and $293,000, respectively; net interest received amounted to approximately $50,000 during 1998. 21. Supplemental Income Statement Information Employee costs and other administrative and general expenses are shown in the Consolidated Statements of Income net of direct loan origination costs. Direct loan origination costs are capitalized as part of the carrying cost of mortgage loans and are offset against mortgage loan sales and fees when the loans are sold, or amortized as a yield adjustment to interest income on loans held for investment. Total employee costs and other expenses before capitalization follow:
Year ended December 31, 1999 1998 1997 Employee costs $39,738,671 $30,013,967 $21,368,723 Other administrative and general expenses $37,366,087 $25,906,635 $22,662,971
Set forth below are the direct loan origination costs that were capitalized as part of the carrying cost of mortgage loans inventory or offset against mortgage loan sales and fees and interest income.
Year ended December 31, 1999 1998 1997 Offset against mortgage loan sales and fees $ 7,069,831 $ 2,623,316 $ 2,931,394 Offset against interest income on loans $ 3,210,847 $ 3,113,946 $ 2,122,727 Capitalized as part of loans held for sale and loans held for investment $ 8,823,603 $10,401,221 $ 7,073,322
75 22. Fair Value of Financial Instruments The estimated fair value of the Company's financial instruments as of December 31 are as follows:
1999 1998 Estimated Estimated Carrying Fair Carrying Fair Value Value Value Value ----- ----- ----- ----- (Dollars in Thousands) Financial Assets Cash and due from banks $ 42,252 $ 42,252 $ 51,805 $ 51,805 Money market investments 23,744 23,744 51,924 51,924 Mortgage loans held for sale 77,277 78,716 117,126 118,455 Mortgage-backed securities held for trading 43,564 43,564 450,546 450,546 Investment and mortgage-backed securities available for sale 938,044 938,044 143,137 143,137 Investment in Federal Home Loan Bank stock 32,825 32,825 11,405 11,405 Investment and mortgage-backed securities held to maturity 28,687 28,687 34,599 34,640 Loans, net 1,563,007 1,549,772 1,073,668 1,108,684 Accounts receivable 38,617 38,617 22,171 22,171 Financial Liabilities Deposits: Non-interest bearing demand $ 157,595 $ 157,595 $ 172,500 $ 172,500 Savings and NOW accounts 246,253 232,283 222,856 212,797 Certificates of deposit 922,029 920,829 609,912 620,383 Securities sold under agreements to repurchase 731,341 731,341 471,422 471,422 Notes payable 132,707 132,278 182,748 182,191 Advances from FHLB 384,000 383,850 121,000 118,856 Other borrowings 9,843 9,843 9,000 9,000 Accounts payable and accrued liabilities 33,917 33,917 28,020 28,020 Unrecognized financial instruments - Interest rate swap agreements in a net receivable (payable) position* $ 65 $ 5,616 $ (111) $ 1,855
* The amount shown under "carrying amount" represents net accrual arising from those unrecognized financial instruments. The following methods and assumptions were used to estimate the fair value of each class of financial instruments: Short-term financial instruments Short-term financial instruments, which include cash and due from banks, money market investments, accounts receivable, securities sold under agreements to repurchase, warehousing lines included in notes payable and accounts payable and accrued interest, have been valued at their carrying amounts reflected in the Consolidated Statements of Financial Condition as these are reasonable estimates of fair value given the relatively short period of time between origination of the instruments and their expected realization. Investment securities The fair value of investment securities is based on quoted market prices or dealer quotes except for the investments in FHLB stock which is valued at its redemption value. 76 Loans The fair value for loans has been estimated for groups of loans with similar financial characteristics. Loans were classified by type such as commercial, commercial real estate, residential mortgage, and consumer. These asset categories were further segmented into various maturity groups, and by accruing and non-accruing groups. The fair value of accruing loans was calculated by discounting scheduled cash flows through the estimated maturity using estimated market discount rates that reflect the credit and interest rate risk inherent in the loan. Prepayment experienced in previous periods when interest rates were at levels similar to current levels was assumed to occur for mortgage loans, adjusted for any differences in the outlook of interest rates. Other loans assume little or no prepayments. Non-accruing loans were assumed to be repaid after one year. Presumably this would occur either because the loan is repaid or collateral has been sold to satisfy the loan. The value of non-accruing loans was therefore discounted for one year at the going rate for new loans. Mortgage loans held for sale have been valued based on market quotations or committed selling prices in the secondary market. Loans held for sale from the Bank have been valued using the same methodology described in the first paragraph above. Deposits The fair value of deposits with no stated maturity, such as non-interest bearing demand deposits, savings, and NOW accounts, and money market and checking 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. The discount rate is estimated using the rates currently offered for deposits of similar remaining maturities. The fair value estimates of deposits do not include the fair value of core deposits intangible. Borrowings The fair value of promissory notes included in notes payable, advances from FHLB, subordinated notes and other secured borrowings was determined using discounted cash flow analysis over the remaining term of the obligations using market rates for similar instruments. Interest rate swap agreements The fair value of interest rate swap agreements was determined taking into account the current interest rates at December 31, 1999. This value represents the estimated amount the Company would pay to terminate the contract or agreement taking into account current interest rates and, when appropriate, the current credit worthiness of the counterparties. Limitations Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instruments. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company's entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Company's financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These 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. In addition, the fair values presented do not attempt to estimate the value of the Company's fee generating businesses and anticipated future business activities, that is, they do not represent the Company's value as a going concern. Furthermore, the differences between the carrying amounts and the fair values presented may not be realized since, in many cases, the Company generally intends to hold these financial instruments to maturity and realize the recorded values. Reasonable comparability of fair values among financial institutions is not likely due to the wide range of permitted valuation techniques and numerous estimates that must be made in the absence of secondary market prices. This lack of objective pricing standards introduces a greater degree of subjectivity to these derived or estimated fair values. Therefore, while disclosure of estimated fair values of financial instruments is required, readers are cautioned in using this data for purposes of evaluating the financial condition of the Company. 77 23. R&G Financial Corporation (Holding Company Only) Financial Information The following condensed financial information presents the financial position of R&G Financial Corporation (the Holding Company) only as of December 31, 1999 and 1998 and the results of its operations and its cash flows for each of the three years ended on December 31,1999: Statements of Financial Conditions December 31, 1999 1998 Assets Cash $ 119,380 $ 145,314 Investment in R-G Premier Bank, at equity 157,038,667 114,706,236 Investment in R&G Mortgage, at equity 127,314,792 106,307,634 Accounts receivable - subsidiaries 139,156 69,828 Other assets 116,442 32,234 ----------------------------- Total assets $284,728,437 $221,261,246 ============================= Liabilities and Stockholders Equity Advances from subsidiaries $ 15,000,000 $ -- Other liabilities and accrued expenses 193,160 99,387 Stockholders equity 269,535,277 221,161,859 ----------------------------- Total liabilities and stockholders equity $284,728,437 $221,261,246 =============================
Year ended December 31, 1999 1998 1997 ncome: Dividends from subsidaries $ -- $ 2,404,787 $ 2,953,225 Management fees 555,371 384,638 423,178 ------------------------------------------- 555,371 2,789,425 3,376,403 ------------------------------------------- Operating expenses 505,183 349,669 384,707 ------------------------------------------- Income before income taxes and equity in undistributed earnings of subsidiaries 50,188 2,439,756 2,991,696 ------------------------------------------- Income taxes 14,053 9,477 8,079 ------------------------------------------- Income before equity in undistributed earnings of subsidiaries 36,135 2,430,279 2,983,617 ------------------------------------------- Equity in undistributed earnings of subsidiaries 41,298,857 31,603,518 20,513,595 ------------------------------------------- Net income $41,334,992 $34,033,797 $23,497,212 ===========================================
The Holding Company had no operations during the years ended December 31, 1999, 1998 and 1997. The principal source of income for the Holding Company consists of dividends from R-G Premier Bank of Puerto Rico and R&G Mortgage Corp. The payment of dividends by the Bank to the Holding Company may be affected by certain regulatory requirements and policies, such as the maintenance of certain minimum capital levels. 78
Year ended December 31, 1999 1998 1997 Statements of Cash Flows Cash flows from operating activities: Net income $ 41,334,992 $ 34,033,797 $ 23,497,212 ------------------------------------------------- Adjustments to reconcile net income to cash provided by (used in) operating activities: Equity in undistributed earnings of subsidiaries (41,298,857) (31,603,518) (20,513,595) (Increase) decrease in accounts receivable - subsidiaries (69,328) 353,350 (423,178) Increase in other assets (84,208) (32,234) -- Increase in other liabilities and accrued expenses 93,773 58,013 26,505 ------------------------------------------------- Total adjustments (41,358,620) (31,224,389) (20,910,268) ------------------------------------------------- Net cash (used in) provided by operating activities (23,628) 2,809,408 2,586,944 ------------------------------------------------- Cash flows from investing activities: Capital contribution to subsidiary -- (12,000) -- Cash investment in R-G Premier Bank pursuant to acquisition of Fajardo Federal -- (639,322) -- Investment in Bank common stock (39,212,500) (19,370,000) -- Investment in R-G Mortgage common stock -- (29,055, 000) -- Collections of advances to subsidiaries -- -- 290,000 Dividends on common stock from subsidiaries 8,012,279 2,122,649 -- ------------------------------------------------- Cash (used in) provided by investing activities (31,200,221) (46,953,673) 290,000 ------------------------------------------------- Cash flows from financing activities: Issuance of common stock 288,550 -- -- Net proceeds from issuance of preferred stock 23,921,644 48,079,134 -- Cash dividends (8,012,279) (4,412,033) (2,385,752) Net advances from subsidiaries 15,000,000 -- -- Repayment of advances from subsidiaries -- -- (666,975) Payment of cash in lieu of fractional shares on stock split -- -- (12,659) Net cash provided by (used in) financing ------------------------------------------------- activities 31,197,915 43,667,101 (3,065,386) ------------------------------------------------- Net decrease in cash (25,934) (477,164) (188,442) Cash at beginning of year 145,314 622,478 810,920 ------------------------------------------------- Cash at end of year $ 119,380 $ 145,314 $ 622,478 =================================================
79 24. Industry Segments The following summarized financial information presents the results of the Companys operations for the three year period ended December 31,1999 for its traditional banking and mortgage banking activities:
1999 1998 Segment Segment Bank Mortgage Totals Bank Mortgage Totals evenues: Net interest income after provision for loan losses $ 45,326,068 $ 6,726,706 $ 52,052,774 $ 31,279,733 $ 6,093,378 $ 37,373,111 Non-interest income: Net gain on origination and sale of loans 7,922,662 29,156,025 37,078,687 12,542,960 22,120,015 34,662,975 Net gain on sales of investment securities available for sale 19,531 -- 19,531 278,028 -- 278,028 Loan administration and servicing fees -- 29,037,883 29,037,883 -- 17,340,415 17,340,415 Service charges, fees and other 6,135,232 1,892,304 8,027,536 5,433,556 1,383,042 6,816,598 ------------------------------------------------------------------------------------ 59,403,493 66,812,918 126,216,411 49,534,277 46,936,850 96,471,127 ------------------------------------------------------------------------------------ Non-interest expenses: Salaries and employee benefits 12,733,017 11,699,754 24,432,771 9,169,292 7,925,491 17,094,783 Office occupancy and equipment 7,538,952 3,750,413 11,289,365 5,917,063 3,069,890 8,986,953 Other 14,433,103 21,765,464 36,198,567 11,232,822 13,420,625 24,653,447 ------------------------------------------------------------------------------------ 34,705,072 37,215,631 71,920,703 26,319,177 24,416,006 50,735,183 ------------------------------------------------------------------------------------ Income before income taxes $ 24,698,421 $ 29,597,287 $ 54,295,708 $ 23,215,100 $ 22,520,844 $ 45,735,944 ====================================================================================
1997 Segment Bank Mortgage Totals evenues: Net interest income after provision for loan losses $ 25,543,992 $ 4,615,774 $ 30,159,766 Non-interest income: Net gain on origination and sale of loans 5,436,030 18,596,684 24,032,714 Net gain on sales of investment securities available for sale 107,430 -- 107,430 Loan administration and servicing fees -- 14,079,644 14,079,644 Service charges, fees and other 3,431,241 1,142,014 4,573,255 ---------------------------------------- 34,518,693 38,434,116 72,952,809 ---------------------------------------- Non-interest expenses: Salaries and employee benefits 7,654,668 5,998,086 13,652,754 Office occupancy and equipment 4,660,583 2,470,914 7,131,497 Other 9,564,598 9,799,853 19,364,451 ---------------------------------------- 21,879,849 18,268,853 40,148,702 ---------------------------------------- Income before income taxes $ 12,638,844 $ 20,165,263 $ 32,804,107 ========================================
The following is a reconciliation of reportable segment revenues and income before income taxes to the Companys consolidated amounts:
Year ended December 31, 1999 1998 1997 Revenues: Total revenues for reportable segments $126,216,411 $ 96,471,127 $ 72,952,809 Elimination of intersegment revenues (3,352,370) (2,627,742) (1,687,981) -------------------------------------------- Total consolidated revenues $122,864,041 $ 93,843,385 $ 71,264,828 ============================================
80
Year ended December 31, 1999 1998 1997 Income before income taxes: Total income before income taxes for reportable segments $ 54,295,708 $ 45,735,944 $ 32,804,107 Elimination of intersegment profits (216,326) (311,962) (190,320) Unallocated corporate expenses (505,183) (349,669) (384,707) ------------------------------------------------- Income before income taxes, consolidated $ 53,574,199 $ 45,074,313 $ 32,229,080 =================================================
Total assets of the Company among its industry segments and a reconciliation of reportable segment assets to the Companys consolidated total assets as of December 31, 1999 and 1998 follows: December 31, 1999 1998 Assets: Bank $ 2,285,371,757 $ 1,413,439,195 Mortgage 741,260,519 656,598,961 ------------------------------------ Total assets for reportable segments 3,026,632,276 2,070,038,156 Parent company assets 116,442 32,234 Elimination of intersegment balances (114,755,882) (25,288,862) ------------------------------------ Consolidated total assets $ 2,911,992,836 $ 2,044,781,528 ==================================== 25. Quarterly Financial Data (Unaudited): Following is a summary of selected financial information of the unaudited quarterly results of operations. In the opinion of management, all adjustments necessary for a fair presentation have been made. (Dollars in Thousands, Except for per share data)
1999 March 31 June 30 Sept. 30 Dec. 31 -------- ------- -------- ------- Interest income $ 35,385 $ 36,437 $ 43,946 $ 47,373 Interest expense 22,151 23,909 28,142 32,361 Net interest income 13,234 12,528 15,804 15,012 Provision for loan losses (1,300) (1,100) (1,000) (1,125) Income before income taxes 14,839 13,882 13,906 10,947 Income tax expense (3,689) (2,072) (3,789) (2,689) Net income 11,150 11,810 10,117 8,258 Net income per common share - Basic $ .36 $ .38 $ .32 $ .25 Net income per common share - Diluted $ .35 $ .37 $ .31 $ .25
(Continued) 81 (Dollars in Thousands, Except for per share data)
1998 March 31 June 30 Sept. 30 Dec. 31 Interest income $ 27,776 $ 29,946 $ 33,179 $ 33,395 Interest expense (17,790) (19,134) (21,443) (21,956) Net interest income 9,986 10,812 11,736 11,439 Provision for loan losses (1,500) (1,500) (1,500) (2,100) Income before income taxes 10,736 9,994 12,347 11,997 Income tax expense (3,256) (2,023) (3,810) (1,951) Net income 7,480 7,971 8,537 10,046 Net income per common share - Basic $ .26 $ .28 $ .29 $ .32 Net income per common share - Diluted $ .26 $ .27 $ .28 $ .31
82 Stockholder Information Corporate Office R-G Plaza 280 JT Pinero Ave. San Juan, Puerto Rico 00918 tel. (787) 758-2424 US Operations 1841 New York Avenue Huntington Station New York 11746 (631) 549-8188 Annual Meeting April 26, 2000 10:00 a.m. Atlantic time Bankers Club Hato Rey, Puerto Rico Special Counsel Elias, Matz, Tiernan & Herrick L.L.P. 734 15th Street N.W. - 12th Floor Washington, DC 20005 McConnell & Valdes 270 Munoz Rivera Ave. San Juan, Puerto Rico 00918 Transfer Agent and Registrar American Stock Transfer & Trust Co. 40 Wall Street-46th floor New York, New York 10005 Independent Public Accountants PricewaterhouseCoopers, LLP BBV Tower-9th Floor San Juan, Puerto Rico 00918 Market Makers Friedman Billings Ramsey & Co. 1001 19th Street North Arlington, VA 22209 PaineWebber Incorporated of PR American International Plaza Penthouse Floor 250 Munoz Rivera Ave. San Juan, Puerto Rico 00918 Sandler O'Neill & Partners 2 World Trade Center 104th Floor New York, N.Y. 10048 General Inquiries & Reports R-G Financial is required to file an annual report on Form 10K for its fiscal year ended December 31, 1999 with the Securities and Exchange Commision. Copies of its Annual Report and quarterly reports may be obtained without charge by contacting: Investor Relations Department, Attention Ms. Luz Damarys Quiles Tel.: (787) 756-2801 Internet Website http://www.rgonline.com (in Spanish and English) The 1999 Annual Report from R-G Financial Corporation was designed and produced by Adworks, San Juan, Puerto Rico. 83 Stock Listings Symbol: RGFC-NASDAQ RGFCP-NASDAQ RGFCO-NASDAQ At December 31, 1999, the Company had 227 stockholders of record, which does not take into consideration investors who hold their stock through brokerage and other firms. The high and low prices and dividends paid per share (as adjusted for stock splits paid in 1998) for the Company's stock during each quarter during the last two fiscal years were as follows.
Mar 31 Jun 30 Sep 30 Dec 31 Mar 31 Jun 30 Sep 30 Dec 31 1998 1998 1998 1998 1999 1999 1999 1999 High 17.25 21.50 21.25 21.50 21.50 19.375 18.1875 16 Low 9.625 16.407 15.0625 12.25 17.75 14.25 12.1875 9.875 Dividends Paid 0.02500 0.02687 0.02875 0.03075 0.033 0.03575 0.0385 0.0415
84 R&G Plaza 280 Jesus T. Pinero Ave. San Juan, Puerto Rico 00918 Tel. (787) 758-2424 [GRAPHIC - R-G COMPANY LOGO]