-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, K0+4hAxGBKU9gWc1rPw5hXa+4e1PgiKNnWKxdUPizH7AaqwzvuFdv89ibakBVPLu 2Pa7LQW6bmW8xN4qJNLnug== 0000914317-01-000145.txt : 20010307 0000914317-01-000145.hdr.sgml : 20010307 ACCESSION NUMBER: 0000914317-01-000145 CONFORMED SUBMISSION TYPE: 10-K/A PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 19991231 FILED AS OF DATE: 20010302 FILER: COMPANY DATA: COMPANY CONFORMED NAME: R&G FINANCIAL CORP CENTRAL INDEX KEY: 0001016933 STANDARD INDUSTRIAL CLASSIFICATION: INVESTORS, NEC [6799] IRS NUMBER: 660532217 STATE OF INCORPORATION: PR FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K/A SEC ACT: SEC FILE NUMBER: 000-21137 FILM NUMBER: 1560350 BUSINESS ADDRESS: STREET 1: 280 JESUS T. PINERO AVE CITY: HATO REY, SAN JUAN STATE: PR ZIP: 00918 MAIL ADDRESS: STREET 1: 280 JESUS T PINERO AVE CITY: HATO REY, SAN JUAN STATE: PR ZIP: 00918 10-K/A 1 0001.txt FORM 10-K/A FOR R&G UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K/A [ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended: December 31, 1999 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File No.: 0-21137 R&G FINANCIAL CORPORATION - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) Puerto Rico 66-0532217 - -------------------------------------------------------------------------------- (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification Number) 280 Jesus T. Pinero Avenue Hato Rey, San Juan, Puerto Rico 00918 - ------------------------------------------------------------------------------- (Address of Principal (Zip Code) Executive Offices) Registrant's telephone number, including area code: (787) 758-2424 Securities registered pursuant to Section 12(b) of the Act: Not Applicable Securities registered pursuant to Section 12(g) of the Act: Class B Common Stock (par value $.01 per share) - -------------------------------------------------------------------------------- (Title of Class) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [_] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] As of March 28, 2000, the aggregate value of the 9,853,147 shares of Class B Common Stock of the Registrant issued and outstanding on such date, which excludes 365,304 shares held by all directors and officers of the Registrant as a group, was approximately $91.1 million. This figure is based on the last known trade price of $9.25 per share of the Registrant's Class B Common Stock on March 28, 2000. Number of shares of Class B Common Stock outstanding as of March 28, 2000: 10,218,451 DOCUMENTS INCORPORATED BY REFERENCE List hereunder the following documents incorporated by reference and the Part of the Form 10-K into which the document is incorporated: (1) Portions of the Annual Report to Stockholders for the fiscal year ended December 31, 1999 are incorporated into Parts II and IV. (2) Portions of the definitive proxy statement for the Annual Meeting of Stockholders are incorporated into Part III. PART I Item 1. Business General R&G Financial Corporation (the "Company" or "R&G Financial") is the holding company for R&G Mortgage Corp., a Puerto Rico mortgage banking company ("R&G Mortgage") and R-G Premier Bank of Puerto Rico, a Puerto Rico-chartered commercial bank (the "Bank"). The Company was organized under Puerto Rico law in March 1996. R&G Mortgage was organized in 1972 and the predecessor of the Bank was organized in 1983. In July 1996, the Company acquired the 88.1% ownership interest in the common stock of the Bank and the 100% ownership interest in the common stock of R&G Mortgage held by the Company's Chairman of the Board and Chief Executive Officer, Mr. Victor J. Galan, in exchange for shares of Class A common stock of the Company. In August 1996, the Company conducted an underwritten public offering of Class B common stock. In December 1996, the Company acquired the remaining 11.9% ownership interest in the common stock of the Bank. At December 31, 1999, the Company had total consolidated assets of $2.9 billion, total consolidated borrowings of $1.3 billion, total consolidated deposits of $1.3 billion, and total consolidated stockholders' equity of $269.5 million. In October 1999, the Company entered the United States market with the acquisition by the Bank of Continental Capital Corp. ("Continental"), a Long Island, New York-based mortgage banking company. With the acquisition of Continental, the Company plans to expand its operations in the United States, concentrating initially in New York and then into other markets to the extent that the Company is presented with appropriate expansion opportunities. In addition to considering other mortgage banking companies, the Company will also seek to acquire a financial institution in the United States to take advantage of the same synergies between its operations as it has experienced in Puerto Rico. R&G Financial competes for business in Puerto Rico by providing a wide range of financial services to residents of all of Puerto Rico's major cities through branch offices and mortgage banking facilities at 23 locations. The operations of both R&G Mortgage and the Bank have expanded substantially during the 1990's, due in large part to R&G Mortgage's emergence as a leading originator of loans secured by single-family residential properties in Puerto Rico. During the year ended December 31, 1999, R&G Mortgage originated approximately 30% of all single-family residential loans originated in Puerto Rico, which has resulted in significant growth in its servicing portfolio as well as facilitated rapid expansion of the Bank's franchise and operations. R&G Financial's servicing portfolio has increased 393.9% since December 31, 1991 and, at December 31, 1999, R&G Financial serviced approximately 107,302 accounts with an aggregate loan balance of $6.2 billion. The Bank's asset size, which amounted to $2.3 billion at December 31, 1999, has increased by $2.26 billion since R&G Mortgage became affiliated with the Bank in February 1990, while the branch office network had increased from two to 22 offices. 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 non-interest income. R&G 1 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 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. The Company is subject to regulation and supervision by the Board of Governors of the Federal Reserve System ("Federal Reserve Board") and is subject to various reporting and other requirements of the Securities and Exchange Commission ("SEC"). R&G Mortgage. R&G Mortgage is engaged primarily in the business of originating first and second mortgage loans on single family residential properties secured by real estate which are either insured by the Federal Housing Administration ("FHA") or guaranteed by the Veterans Administration ("VA"). To a lesser extent, R&G Mortgage is also engaged in the origination of subprime--credit quality--residential mortgage loans through a wholly owned subsidiary ("Champion Mortgage Corporation") which commenced operations in October 1997. Approximately 20% of loan originations made by Champion Mortgage consist of subprime residential mortgage loans. Pursuant to agreements entered into between R&G Mortgage and the Bank, non-conforming conventional single-family residential loans and consumer loans secured by real estate are also originated by R&G Mortgage for portfolio retention by the Bank. The Bank retains the non-conforming conventional single-family residential loans because these loans generally do not satisfy resale guidelines of purchasers in the secondary mortgage market, primarily because of size or other underwriting technicalities at the time of origination. Jumbo loans may be packaged into collateralized mortgage obligations ("CMOs") and sold while loans with underwriting technicalities may be cured through payment experience and subsequently sold. During the years ended December 31, 1999, 1998 and 1997, R&G Mortgage originated a total of $1.0 billion, $914.1 million and $598.2 million of loans, respectively. These aggregate originations include loans originated by R&G Mortgage directly for the Bank of $437.1 million, $450.6 million and $285.8 million during such respective periods, or 43.4%, 49.3% and 47.8%, respectively, of total originations. R&G Mortgage pools FHA/VA loans into mortgage-backed securities which are guaranteed by the Government National Mortgage Association ("GNMA"), which securities are sold to securities broker dealers and other investors. Conventional loans may either be sold directly to agencies such as the Federal National Mortgage Association ("FNMA") and the Federal Home Loan Mortgage Corporation ("FHLMC") or to private investors, or which may be pooled into FNMA- or FHLMC-backed mortgage-backed securities which are generally sold to investors. During the years ended December 31, 1999, 1998 and 1997, R&G Mortgage sold $671.2 million, $493.0 million and 2 $246.1 million of loans, respectively, which includes loans securitized and sold but does not include loans originated for the Bank or loans securitized for other institutions. R&G Mortgage generally retains the servicing function with respect to the loans which have been securitized and sold. R&G Mortgage is subject to regulation and examination by the FHA, FNMA, FHLMC, GNMA, VA, the Department of Housing and Urban Development ("HUD") and the Office of the Commissioner of Financial Institutions ("OCFI") of Puerto Rico. R&G Premier Bank. The Bank's principal business consists of attracting deposits from the general public and tax-advantaged funds from eligible Puerto Rico corporations and using such deposits, together with funds obtained from other sources, to originate (through R&G Mortgage) and purchase loans secured primarily by residential real estate in Puerto Rico, and to purchase mortgage-backed and other securities. To a lesser extent but with increasing emphasis over the past few years, the Bank also originates consumer loans, commercial business loans and loans secured by commercial real estate. Such loans offer higher yields, are generally for shorter terms and facilitate the Bank's provision of a full range of financial services to its customers. The Bank also offers trust services through its Trust Department. Total loan originations by the Bank during the years ended December 31, 1999, 1998 and 1997 amounted to $382.0 million, $129.1 million and $89.0 million, respectively. The Bank's deposits are insured by the Federal Deposit Insurance Corporation ("FDIC") and it is regulated and examined by the FDIC as its primary federal regulatory agency as well as by the OCFI. Mortgage Banking Activities Loan Originations, Purchases and Sales. During the years ended December 31, 1999, 1998 and 1997, R&G Financial originated a total of $1.1 billion, $914.1 million and $598.2 million of residential mortgage loans, respectively. These aggregate originations include loans originated by R&G Mortgage directly for the Bank of $437.1 million, $450.6 million and $285.8 million during the years ended December 31, 1999, 1998 and 1997, respectively of such originations, or 43%, 49% and 48%, respectively, of total originations. The loans originated by R&G Mortgage for the Bank are comprised primarily of conventional residential loans and, to a lesser extent, consumer loans secured by real estate. R&G Financial is engaged to a significant extent in the origination of FHA-insured and VA-guaranteed single-family residential loans which are primarily securitized into GNMA mortgage-backed securities and sold to institutional and/or private investors in the secondary market. During the years ended December 31, 1999, 1998 and 1997, R&G Financial originated $288.8 million, $255.6 million and $280.1 million, respectively, of FHA/VA loans, which represented 27.3%, 28.0% and 46.8%, respectively, of total loans originated during such respective periods. R&G Financial also originates conventional single-family residential loans which are either insured by private mortgage insurers or do not exceed 80% of the appraised value of the mortgaged property. During the years ended December 31, 1999, 1998 and 1997, R&G Financial originated $738.6 million, $610.4 million and $265.9 million, respectively, of conventional single-family 3 residential mortgage loans. Substantially all conforming conventional single-family residential loans are securitized and sold in the secondary market, while substantially all non-conforming conventional single-family residential loans are originated by R&G Mortgage on behalf of the Bank and either held by the Bank in its portfolio or subsequently securitized by R&G Mortgage and sold in the secondary market. All non-conforming conventional loans originated by R&G Mortgage through Champion Mortgage are held by Champion Mortgage in its portfolio or subsequently sold in the secondary market. Non-conforming loans generally consist of loans which, primarily because of size or other underwriting technicalities which may be cured through seasoning, do not satisfy the guidelines for resale of FNMA, FHLMC, GNMA and other private secondary market investors at the time of origination. Management believes that these loans are essentially of the same credit quality as conforming loans. During the years ended December 31, 1999, 1998 and 1997, non-conforming conventional loans represented approximately 38%, 44% and 39%, respectively, of R&G Financial's total volume of mortgage loans originated, substantially all of which were originated by R&G Mortgage on behalf of the Bank. During the years ended December 31, 1999, 1998 and 1997, 86.6%, 85.5% and 77.5% of loans originated by R&G Mortgage on behalf of the Bank consisted of single-family residential loans during such respective periods. R&G Mortgage originates single-family residential, construction and commercial real estate loans on behalf of the Bank pursuant to the terms of a Master Production Agreement between R&G Mortgage and the Bank. See "- Lending Activities of the Bank - Origination, Purchase and Sale of Loans." While R&G Financial makes available a wide variety of mortgage products designed to respond to consumer needs and competitive conditions, it currently emphasizes 15-year and 30-year conventional first mortgages and 15-year and 30-year FHA loans and VA loans. Substantially all of such loans consist of fixed-rate mortgages. The average loan size for FHA/VA mortgage loans and conventional mortgage loans is approximately $87,000 and $68,000, respectively. R&G Financial also offers second mortgage loans up to $125,000 with a maximum term of 15 years. The maximum loan-to-appraised value ratio on second mortgage loans permitted by R&G Financial is generally 75% (including the amount of any first mortgage). In addition, R&G Financial also offers real estate secured consumer loans up to $40,000 with a maximum term of 10 years. The maximum loan-to-appraised value ratio on real estate secured consumer loans permitted by R&G Financial is generally 80%. R&G Financial will secure such loans with either a first or second mortgage on the property. The Company's loan origination activities in Puerto Rico are conducted out of R&G Mortgage offices and mortgage banking centers. Residential mortgage loan applications are attributable to walk-in customers, existing customers and advertising and promotion, referrals from real estate brokers and builders, loan solicitors and mortgage brokers. At December 31, 1999, R&G Mortgage employed 80 loan originators who are compensated in part on a commission basis. Loan origination activities of the Company in the U.S. (through Continental) are conducted primarily through loan solicitors. 4 Loan origination activities performed by the Company include soliciting, completing and processing mortgage loan applications and preparing and organizing the necessary loan documentation. Loan applications are examined for compliance with underwriting criteria and, if all requirements are met, the Company issues a commitment to the prospective borrower specifying the amount of the loan and the loan origination fees, points and closing costs to be paid by the borrower or seller and the date on which the commitment expires. R&G Mortgage also purchases FHA loans and VA loans from other mortgage bankers for resale to institutional investors and other investors in the form of GNMA mortgage-backed securities. R&G Mortgage's strategy is to increase its servicing portfolio primarily though internal originations through its branch network and, to a lesser extent, purchases from third parties. Purchases of loans from other mortgage bankers in the wholesale loan market is generally limited to FHA loans and VA loans and such purchases provide R&G Mortgage with a source of low cost production that allows R&G Mortgage to continue to increase the size of its servicing portfolio. R&G Mortgage purchased $307.8 million, $207.1 million and $158.5 million of loans from third parties during the years ended December 31, 1999, 1998 and 1997, respectively. 5 The following table sets forth loan originations, purchases and sales from its mortgage banking business by R&G Financial for the periods indicated.
Year Ended December 31, --------------------------------------------- 1999 1998 1997 --------------------------------------------- (Dollars in Thousands) Loans Originated For the Bank: Conventional loans(1): Number of loans.................................. 5,067 4,918 3,390 Volume of loans.................................. $404,886 $402,447 $233,488 FHA/VA loans: Number of loans.................................. -- -- -- Volume of loans.................................. -- -- -- Consumer loans(2): Number of loans.................................. 1,499 2,268 2,318 Volume of loans.................................. 32,219 $48,155 $52,287 Total loans: Number of loans.................................. 6,566 7,186 5,708 Volume of loans.................................. $437,105 $450,602 $285,775 Percent of total volume.......................... 32% 40% 38% For Third Parties: Conventional loans(1): Number of loans.................................. 4,882 2,989 444 Volume of loans.................................. $333,673 $207,937 $32,419 FHA/VA loans: Number of loans.................................. 3,315 3,298 4,107 Volume of loans.................................. $288,752 $255,601 $280,053 Total loans: Number of loans.................................. 8,197 6,287 4,551 Volume of loans.................................. $622,425 $463,538 $312,472 Percent of total volume.......................... 46% 41% 41% ---------- ----------- --------- Total loan originations........................ $1,059,530 $914,140 $598,247 ========= ======= ======= Loans Purchased For R&G Mortgage: Number of loans...................................... 3,418 2,506 2,052 Volume of loans(3)................................. $307,819 $207,070 $158,456 Percent of total volume............................ 22% 19% 21% Total loan originations and purchases............ $1,367,349 $1,121,210 $756,703 ========= ========= ======= GNMA Pools Purchased for R&G Mortgage: Volume of loans $22,487 $ -- $ 51,537
6
Year Ended December 31, --------------------------------------------- 1999 1998 1997 --------------------------------------------- (Dollars in Thousands) Loans Sold To Third Parties(4): Conventional loans(1): Number of loans.................................. 6,511 2,513 429 Volume of loans.................................. $470,443 $194,909 $39,495 FHA/VA loans: Number of loans.................................. 4,255 4,413 2,775 Volume of loans.................................. $373,730 $298,108 $206,643 Total loans: Number of loans.................................. 9,434 6,926 3,204 Volume of loans(3)............................... $844,173 $493,017 $246,138 Percent of total volume.......................... 62% 44% 33% --------- ----------- -------- Adjustments: Loans originated for the Bank...................... ($437,105) ($450,602) $(285,775) Loans amortization................................. ( 38,863) (1,479) (5,086) --------- ----------- -------- Increase in loans held for sale...................... $ 69,695 $ 176,112 $271,241 ======== ======== ======= Average Initial Loan Origination Balance: The Bank: Conventional loans(1)............................ $80 $82 $ 69 FHA/VA loans..................................... -- -- -- Third Parties: Conventional loans(1)............................ $68 $70 $ 73 FHA/VA loans..................................... 87 78 68 Total Conventional loans(1)............................ $74 $77 $69 FHA/VA loans..................................... 87 78 68 Refinancings(5): The Bank........................................... 72% 74% 70% Third Parties...................................... 49% 44% 31%
- ----------------- (1) Includes non-conforming loans. (2) All of such loans were secured by real estate. (3) Includes $123.2 million of loans purchased from another institution, and securitized and sold to the same financial institution during 1999. (4) Includes loans converted into mortgage-backed securities. (5) As a percent of the total dollar volume of mortgage loans originated by R&G Mortgage for the Bank (excluding consumer loans) or third parties, as the case may be. In the case of the Bank, refinancings do not necessarily represent refinancings of loans previously held by the Bank. 7 All loan originations, regardless of whether originated through the Company or purchased from third parties, must be underwritten in accordance with R&G Financial's underwriting criteria, including loan-to-appraised value ratios, borrower income qualifications, debt ratios and credit history, investor requirements, necessary insurance and property appraisal requirements. R&G Financial's underwriting standards also comply with the relevant guidelines set forth by HUD, VA, FNMA, FHLMC, bank regulatory authorities, private mortgage investment conduits and private mortgage insurers, as applicable. The Company's underwriting personnel, while operating out of its loan offices, make underwriting decisions independent of the Company's mortgage loan origination personnel. Typically, when a mortgage loan is originated, the borrower pays an origination fee. These fees are generally in the range of 0% to 7% of the principal amount of the mortgage loan, and are payable at the closing of such loan. The Company receives these fees on mortgage loans originated through its retail branches. The Company may charge additional fees depending upon market conditions and regulatory considerations as well as the Company's objectives concerning mortgage loan origination volume and pricing. The Company incurs certain costs in originating mortgage loans, including overhead, out-of-pocket costs and, in some cases, where the mortgage loans are subject to a purchase commitment from private investors, related commitment fees. The volume and type of mortgage loans and of commitments made by investors vary with competitive and economic conditions (such as the level of interest rates and the status of the economy in general), resulting in fluctuations in revenues from mortgage loan originations. Generally accepted accounting principles ("GAAP") require that general operating expenses incurred in originating mortgage loans be charged to current expense. Direct origination costs and origination income must be deferred and amortized using the interest method, until the repayment or sale of the related mortgage loans. Historically, the value of servicing rights which result from R&G Financial's origination activities has exceeded the net costs attributable to such activities. R&G Financial customarily sells most of the loans that it originates, except for those originated on behalf of the Bank pursuant to the Master Production Agreement with R&G Mortgage. See "-Lending Activities of the Bank - Origination, Purchases and Sales of Loans." The loans originated by R&G Mortgage (including FHA loans, VA loans and conventional loans) are secured by real property located in Puerto Rico and constitute "eligible investments" which results in favorable tax treatment under U.S. and Puerto Rico tax laws. See "- Puerto Rico Secondary Mortgage Market and Favorable Tax Treatment." During the years ended December 31, 1999, 1998 and 1997, R&G Financial sold $721.0 million, $493.0 million and $246.1 million of loans, respectively, which includes loans securitized and sold but does not include loans originated by R&G Mortgage on behalf of the Bank or loans securitized for other institutions. With respect to such loan sales, $272.7 million or 37.8%, $298.1 million or 60.5% and $206.6 million or 83.9% consisted of GNMA-guaranteed mortgage-backed securities of FHA loans or VA loans packaged into pools of $1 million or more ($2.5 million to $5 million for serial notes as described below) by R&G Mortgage. These securities were sold primarily to securities broker-dealers and other investors in Puerto Rico. 8 Certain GNMA-guaranteed mortgage-backed securities sold by R&G Mortgage are in the form of GNMA serial notes which permit the investor to receive interest monthly and to select among several expected maturity dates of the notes included in an issue, with each maturity having a specific yield. GNMA serial notes are sold in pools of $2.5 million to $5 million. GNMA serial notes are sold to securities broker-dealers in packages consisting of notes of different yields and maturities, which range from one to 30 years and have an average maturity of 12 years, taking into account historical experience with prepayments of the underlying mortgages. The rates on the serial notes or GNMA pools must be 1/2 of 1% less than the rates on the mortgages comprising the pool. Upon completion of the necessary processing, the GNMA-guaranteed mortgage-backed securities are either offered to the public directly through the Bank's Trust Department or indirectly through securities broker-dealers. During the years ended December 31, 1999, 1998 and 1997, R&G Mortgage issued GNMA mortgage-backed securities totaling approximately $392.6 million, $371.1 million and $397.2 million, respectively, including $174.0 million, $148.3 million and $335.5 million GNMA serial notes, respectively. Conforming conventional loans originated or purchased by the Company are generally sold directly to FNMA, FHLMC or private investors for cash or are grouped into pools of $1 million or more in aggregate principal balance and exchanged for FNMA or FHLMC-issued mortgage-backed securities, which the Company sells to securities broker-dealers. In connection with any such exchanges, the Company pays guarantee fees to FNMA and FHLMC. The issuance of mortgage-backed securities provides R&G with flexibility in selling the mortgages which it originates or purchases and also provides income by increasing the value and marketability of the loans. Mortgage loans that do not conform to GNMA, FNMA or FHLMC requirements (so-called "non-conforming loans") are generally originated on behalf of the Bank by R&G Mortgage and either retained in the Bank's portfolio, sold to financial institutions or other private investors or securitized into "private label" CMOs through grantor trusts or other mortgage conduits and sold through securities broker-dealers. Non-conforming loans consist of jumbo loans or loans that do not satisfy all requirements of FNMA, FHLMC and GNMA at the time of origination of the loan (such as missing tax returns, slightly higher loan-to-value ratios, etc.). Each CMO normally consists of several classes of senior, subordinate and residual certificates. The residual certificates evidence a right to receive payments on the mortgage loans after payment of all required amounts on the senior and subordinate certificates then due. Some form of credit enhancement, such as an insurance policy, letter of credit or subordination, will generally be used to increase the credit rating of the senior certificates and thereby improve their marketability. R&G Mortgage and the Bank have made no sales of CMOs in securitization transactions during 1997 through 1999. When such transactions are made, either the Bank or R&G Mortgage generally retains the residual certificates issued by the respective trusts as well as the subordinate certificates issued in such transactions. As of December 31, 1999, R&G Mortgage held residual certificates issued in CMO transactions involving R&G Mortgage and the Bank with a fair value of $4.6 million. In addition, the Bank held CMO subordinated certificates and residual certificates from one of its 9 issues with a fair value of $9.3 million at December 31, 1999. See "- Investment Activities." Currently a liquid secondary market for subordinate or residual certificates does not exist in Puerto Rico. The value of residual certificates is subject to substantial fluctuations as a result of changes in prevailing interest rates. However, such residuals often exhibit elasticity and convexity characteristics which R&G Financial can utilize to hedge other components of its portfolio. See "Management's Discussion and Analysis of Financial Condition and Results of Operation" incorporated by reference in Item 7 hereof. While R&G Financial's exchanges of mortgage loans into agency securities and sales of mortgage loans are generally made on a non-recourse basis, the Company also engages in the sale or exchange of mortgage loans on a recourse basis. In the past, recourse sales often involved the sale of non-conforming loans to FNMA, FHLMC and local financial institutions. R&G Financial estimates the fair value of the retained recourse obligation at the time mortgage loans are sold. Normally, the fair value of any retained recourse is immaterial because R&G Mortgage's loss experience has been minimal. As of December 31, 1999, R&G Financial had reserves for possible losses related to its recourse obligations of $428,000. At December 31, 1999, R&G Mortgage had loans in its servicing portfolio with provisions for recourse in the principal amount of approximately $646.3 million, as compared to $507.4 million and $374.4 million as of December 31, 1998 and 1997, respectively. Of the recourse loans existing at December 31, 1999, approximately $340.2 million in principal amount consisted of loans sold to FNMA and FHLMC and converted into mortgage-backed securities of such agencies, and approximately $306.1 million in principal amount consisted of non-conforming loans sold to other private investors. R&G Mortgage renders securitization services with respect to the pooling of some of the Bank's mortgage loans into mortgage-backed securities. With respect to the securitization services rendered, the Bank pays a securitization fee of 25 basis points. In addition, the Bank acts as the custodial agent for R&G Mortgage of certain documentation related to the issuance by R&G Mortgage of GNMA or FHLMC mortgage-backed certificates. In consideration of these services, the Bank receives an annual fee of $5.0 for each mortgage note included in a mortgage-backed certificate for which it acts as custodian. See "- Regulation - R&G Financial - Limitations on Transactions with Affiliates." Loan Servicing. R&G Financial acquires servicing rights through its mortgage loan originations (including originations on behalf of the Bank) and purchases from third parties. The Company generally retains the rights to service mortgage loans sold, which it has originated or purchased, and receives the related servicing fees. Loan servicing includes collecting principal and interest and remitting the same to the holders of the mortgage loans or mortgage-backed securities to which such mortgage loan relates, holding escrow funds for the payment of real estate taxes and insurance premiums, contacting delinquent borrowers, supervising foreclosures in the event of unremedied defaults and generally administering the loans. The Company receives annual loan servicing fees ranging from 0.25% to 0.50% of the declining outstanding principal balance of the loans serviced plus any late charges. In general, the Company's servicing agreements are terminable 10 by the investor for cause without penalty or after payment of a termination fee ranging from 0.5% to 1.0% of the outstanding principal balance of the loans being serviced. R&G Financial's servicing portfolio has grown significantly over the past several years. At December 31, 1999, R&G Financial's servicing portfolio totaled $6.2 billion and consisted of a total of 107,302 loans. These amounts include R&G Mortgage's servicing portfolio totaling $5.7 billion and Continental's servicing portfolio totaling $486.2 million at December 31, 1999. At December 31, 1999, R&G Financial's servicing portfolio included $1.1 billion of loans serviced for the Bank or 17.3% of the total servicing portfolio. Substantially all of the mortgage loans in R&G Financial's servicing portfolio are secured by single (one-to-four) family residences. Most of R&G Financial's mortgage servicing portfolio is comprised of mortgages secured by real estate located in Puerto Rico. The Bank sells to R&G Mortgage the servicing rights to all first and second mortgage loans secured by residential properties which become part of the Bank's loan portfolio. R&G Mortgage services all other loans held in the Bank's loan portfolio (including single-family residential loans retained by the Bank and certain commercial real estate loans), although R&G Mortgage does not actually acquire such servicing rights. The Bank pays R&G Mortgage servicing fees with respect to the loans serviced by R&G Mortgage on behalf of the Bank. In addition, the Bank processes payments of all loans originated by R&G Mortgage on behalf of the Bank. In connection therewith, R&G Mortgage pays the Bank a fee equal to between $0.50 and $1.00 per loan. See "- Regulation - R&G Financial - Limitations on Transactions with Affiliates." R&G Financial's mortgage loan servicing portfolio is subject to reduction by reason of normal amortization, prepayments and foreclosure of outstanding mortgage loans. Additionally, R&G Financial may sell mortgage loan servicing rights from time to time. 11 The following table sets forth certain information regarding the total loan servicing portfolio of R&G Financial for the periods indicated.
Year Ended December 31, --------------------------------------------------- 1999 1998 1997 --------------------------------------------------- (Dollars in Thousands) Composition of Servicing Portfolio at End of Period: Conventional and other mortgage loans(1)................. $3,095,920 $2,105,290 $ 1,148,739 FHA/VA loans............................................. 3,081,590 2,722,508 1,852,149 --------- --------- --------- Total servicing portfolio(2)........................... $6,177,511 $4,827,798 $ 3,000,888 ========= ========= ========= Activity in the Servicing Portfolio: Beginning servicing portfolio............................ $4,827,798 $3,000,888 $ 2,550,169 Add: Loan originations and purchases..................... 1,610,945 1,237,415 762,496 Servicing of portfolio loans acquired(3).......... 552,235 1,109,825 5,301 Less: Sale of servicing rights(4)........................ 55,515 - - Run-offs(5)....................................... 757,952 520,330 317,078 ---------- ---------- ---------- Ending servicing portfolio............................... $6,177,511 $4,827,798 $ 3,000,888 ========= ========= ========= Number of loans serviced(6).............................. 107,302 95,946 56,442 Average loan size(6)..................................... $ 58 $ 50 $ 53 Average servicing fee rate(6)............................ 0.530% 0.510% 0.532%
- --------------------- (1) Includes non-conforming loans. (2) At the dates shown, included $1.1 billion, $754.6 million and $448.9 million of loans serviced for the Bank, respectively, which constituted 17.3%, 15.6% and 15.0% of the total servicing portfolio, respectively. (3) Includes $496.5 million related to the servicing portfolio acquired as part of the Company's acquisition of Continental in October 1999, and a $1.1 billion servicing portfolio acquired from another financial institution in Puerto Rico in November 1998 comprised of approximately 32,400 loans. (4) Corresponds to loans sold, servicing released, by Continental. (5) Run-off refers to regular amortization of loans, prepayments and foreclosures. Includes transfers in 1998 and 1997 of $67.7 million and $49.0 million, respectively, of mortgage loans to financial institutions who acquired certain commercial banks whose loans were being serviced by R&G Mortgage. 12 (6) At December 31, 1999, R&G Mortgage was servicing 13,449 loans for the Bank with an average loan size of approximately $79,000 and at an average servicing rate of 0.225%. Amounts include late and other miscellaneous charges. The following table sets forth certain information at December 31, 1999 regarding the number of, and aggregate principal balance of, the mortgage loans serviced by R&G Financial for the Bank and for third parties at various mortgage interest rates.
At December 31, 1999 -------------------------------------------------------------------------------------------------------- Loans Serviced Loans Serviced Total Loans for the Bank for Third Parties Serviced -------------------------------- ----------------------------------- ------------------------------- Number of Aggregate Number of Aggregate Number of Aggregate Loans Principal Balance Loans Principal Balance Loans Principal Balance ----------- -------------------- -------------- -------------------- ------------ ------------------ (Dollars in Thousands) (Dollars in Thousands) (Dollars in Thousands) Mortgage Interest Rate Less than 7.00%............ 388 43,155 10,233 726,734 10,621 769,889 7.00% - 7.49%.............. 3,844 340,595 19,194 1,179,857 23,038 1,520,452 7.50% - 7.99%.............. 4,415 371,811 22,184 1,441,225 26,599 1,813,036 8.00% - 8.49%.............. 2,271 183,546 14,541 807,272 16,812 990,818 8.50% - 8.99%.............. 1,792 116,873 13,155 516,080 14,947 632,953 9.00% - 9.49%.............. 296 15,103 4,850 149,408 5,146 164,511 9.50% - 9.99%.............. 393 14,921 4,173 105,821 4,566 120,742 10.00% - 10.49%............ 124 4,067 1,700 49,008 1,824 53,075 10.50% - 10.99%............ 193 4,930 1,009 26,768 1,202 31,698 11.00% or more............. 179 5,296 2,368 75,041 2,547 80,337 ------- --------- ------- ---------- ------- --------- 13,895 1,100,297 93,407 5,077,214 107,302 6,177,511 ====== ========= ====== ========= ======= =========
The amount of principal prepayments on mortgage loans serviced by R&G Financial was $162.6 million, $96.5 million and $87.2 million for the years ended December 31, 1999, 1998 and 1997, respectively. This represented approximately 2.6%, 2.6% and 2.9% of the aggregate principal amount of mortgage loans serviced during such periods. The primary means used by R&G Mortgage to reduce the sensitivity of its servicing fee income to changes in interest and prepayment rates is the development of a strong internal origination capability that has allowed R&G Financial to continue to increase the size of its servicing portfolio even in times of high prepayments. Servicing agreements relating to the mortgage-backed securities programs of FNMA, FHLMC and GNMA, and certain other investors, require R&G Financial to advance funds to make scheduled payments of principal, interest, taxes and insurance, if such payments have not been received from the borrowers. During the years ended December 31, 1999, 1998 and 1997, the monthly average amount of funds advanced by R&G Financial under such servicing agreements was $5.5 million, $2.3 million and $1.6 million, respectively. Funds advanced by R&G Financial pursuant to these arrangements are generally recovered by R&G Financial within 30 days. In connection with its loan servicing activities, R&G Financial holds escrow funds for the payment of real estate taxes and insurance premiums with respect to the mortgage loans it services. 13 At December 31, 1999, R&G Financial held $109.2 million of such escrow funds, $92.4 million of which were deposited in the Bank and $16.8 million of which were deposited with other financial institutions. The escrow funds deposited with the Bank lower its overall cost of funds and is a means of compensating it for processing mortgages checks received by R&G Mortgage, while the escrow funds deposited with other financial institutions serve as part of R&G Financial's compensating balances which permit the Company to borrow funds from such institutions (pursuant to certain warehouse lines of credit) at rates that are lower than would otherwise apply. See "- Sources of Funds - Borrowings." The degree of risk associated with a mortgage loan servicing portfolio is largely dependent on the extent to which the servicing portfolio is non-recourse or recourse. In non-recourse servicing, the principal credit risk to the servicer is the cost of temporary advances of funds. In recourse servicing, the servicer agrees to share credit risk with the owner of the mortgage loans such as FNMA or FHLMC or with an insurer or guarantor. Losses on recourse servicing occur primarily when foreclosure sale proceeds of the property underlying a defaulted mortgage are less than the then outstanding principal balance and accrued interest of such mortgage loan and the cost of holding and disposing of such underlying property. At December 31, 1999, R&G Financial was servicing mortgage loans with an aggregate principal amount of $646.3 million on a recourse basis. During the last three years, losses incurred due to recourse servicing have not been significant. R&G Financial's general strategy is to retain the servicing rights related to the mortgage loans it originates and purchases. Nevertheless, there is a market in Puerto Rico for servicing rights, which are generally valued in relation to the present value of the expected income stream generated by the servicing rights. Among the factors which influence the value of a servicing portfolio are servicing fee rates, loan balances, loan types, loan interest rates, the expected average life of the underlying loans (which may be reduced through foreclosure or prepayment), the value of escrow balances, delinquency and foreclosure experience, servicing costs, servicing termination rights of permanent investors and any recourse provisions. Although the Company may on occasion consider future sales of a portion of its servicing portfolio, management does not anticipate sales of servicing rights to become a significant part of its operations. The market value of, and earnings from, R&G Financial's mortgage loan servicing portfolio may be adversely affected if mortgage interest rates decline and mortgage loan prepayments increase. In a period of declining interest rates and accelerated prepayments, income generated from the Company's mortgage loan servicing portfolio may also decline. Conversely, as mortgage interest rates increase, the market value of the Company's mortgage loan servicing portfolio may be positively affected. See Note 1 to R&G Financial's Notes to Consolidated Financial Statements for a discussion of SFAS No. 125 and the treatment of servicing rights, incorporated by reference into Item 8 hereof. 14 Mortgage Loan Delinquencies and Foreclosures. The following table shows the delinquency statistics for R&G Mortgage's servicing portfolio at the dates indicated.
Year Ended December 31, -------------------------------------------------------------------------------------- 1999 1998 1997 -------------------------------------------------------------------------------------- Percent of Percent of Percent of Servicing Number of Servicing Number of Servicing Number of Portfolio Loans Portfolio Loans Portfolio Loans -------------------------------------------------------------------------------------- Loans delinquent for: 30-59 days.......................... 5,334 4.97% 6,276 6.54% 2,531 4.48% 60-89 days.......................... 1,559 1.45 1,545 1.61 572 1.01 90 days or more..................... 2,109 1.97 1,696 1.77 778 1.38 ----- ---- ----- ---- ----- ---- Total delinquencies(1)............ 9,002 8.39% 9,517 9.92% 3,881 6.87% ===== ==== ===== ==== ===== ==== Foreclosures pending(2)............... 1,262 1.18% 993 1.03% 681 1.21% ----- ---- ====== ==== ===== ====
- ------------------------- (1) Includes at December 31, 1999, an aggregate of $101.1 million of delinquent loans serviced by R&G Mortgage for the Bank, or 1.64% of the total servicing portfolio and $8.8 million of delinquent loans held in R&G Mortgage's own portfolio. (2) At December 31, 1999, the Bank had foreclosures pending on $22.8 million of loans being serviced by R&G Mortgage, which constituted 0.37% of the servicing portfolio. R&G Mortgage had foreclosures pending on $3.9 million of loans it is servicing for its own portfolio at December 31, 1999. While delinquency rates in Puerto Rico are generally higher than in the mainland United States, these rates are not necessarily indicative of future foreclosure rates or losses on foreclosures. Real estate owned as a result of foreclosures ("REO") related to R&G Mortgage's mortgage banking business arise primarily through foreclosure on mortgage loans repurchased from investors either because of breach of representations or warranties or pursuant to recourse arrangements. As of December 31, 1999, 1998 and 1997, R&G Mortgage held REO with a book value of approximately $128,000, $128,000 and $165,000, respectively. Sales of REO resulted in gains to R&G Mortgage of $209,000, $26,000 and $145,000 for the years ended December 31, 1999, 1998 and 1997, respectively. There is no liquid secondary market for the sale of R&G Mortgage's REO. With respect to mortgage loans securitized through GNMA programs, the Company is fully insured as to principal by the FHA and VA against foreclosure loans. As a result of these programs, foreclosure on these loans had generated no loss of principal as of December 31, 1999. R&G Mortgage, however, incurs about $3,000 per loan foreclosed in interest and legal charges during the time between payment by R&G Mortgage and FHA or VA reimbursement. For the years ended December 31, 1999, 1998 and 1997, total expenses related to FHA or VA loans foreclosed amounted to $35,000, $286,000 and $189,000, respectively. Although FNMA and FHLMC are obligated to reimburse the Company for principal and interest payments advanced by the Company as a servicer 15 (except for recourse servicing), the funding of delinquent payments or the exercise of foreclosure rights involves costs to the Company which may not be recouped. Such nonrecouped expenses have to date been immaterial. Any significant adverse economic developments in Puerto Rico could result in an increase in defaults or delinquencies on mortgage loans that are serviced by R&G Mortgage or held by R&G Mortgage pending sale in the secondary mortgage market, thereby reducing the resale value of such mortgage loans. Puerto Rico Secondary Mortgage Market and Favorable Tax Treatment. In general, the Puerto Rico market for mortgage-backed securities is an extension of the United States market with respect to pricing, rating of the investment instruments, and other matters. However, United States and Puerto Rico tax laws provide an economic incentive for Puerto Rico residents and Section 936 Corporations (defined below) to invest in certain mortgage loans and mortgage-backed securities originated in Puerto Rico, including FHA and VA loans and GNMA certificates, thereby tending to increase the secondary market demand for, and the resale value of, such mortgage loans and mortgage-backed securities. These tax advantages also favorably affect R&G Financial's net interest income by helping create a pool of lower-cost funds that R&G Financial can access through financial intermediaries such as banks and broker-dealers and use to fund mortgage loans and mortgage-backed securities pending sale. Under various Puerto Rico industrial incentives acts (the "Industrial Incentives Acts"), certain investment income earned by qualified manufacturing entities or service enterprises that have grants of tax exemption issued thereunder ("Exempt Companies"), is exempt from Puerto Rico income tax. Investment income that qualifies for this exemption includes interest on certain mortgage loans and interest on funds of Exempt Companies ("936 Funds") placed with eligible institutions in Puerto Rico (primarily savings and loan associations, commercial banks and registered broker-dealers), provided such funds are invested in certain "eligible activities" in accordance with regulations promulgated by the OCFI, including certain mortgage loans and mortgage-backed securities. The Industrial Incentives Acts encourage investment in Puerto Rico by allowing Exempt Companies subject to tax on dividend distributions to reduce the otherwise applicable dividend withholding tax of 10% (the "Tollgate Tax") on distributions to shareholders by investing their exempt industrial development income ("IDI") in Puerto Rico for fixed periods of time, generally from five years to ten years. An Industrial Incentive Act was approved by the Government of Puerto Rico effective January 1, 1998: the Tax Incentive Act of 1998 (the "1998 TIA"). Grants issued under the 1998 TIA provide for a flat rate of tax on the operating income of Exempt Companies. The same types of investment income that qualified for exemption under the Industrial Incentive Acts will continue to be exempt under the 1998 TIA. Because grantees of tax exemption under the 1998 TIA will not be subject to Tollgate Taxes, they will not have an incentive to invest their IDI in qualifying investments in Puerto Rico, as grantees under the Industrial Incentive Acts presently do in order to reduce their Tollgate Taxes. It should be noted, however, that Exempt Companies currently operating pursuant to grants issued under the Industrial Incentives Acts generally will not be affected by the provisions of the 1998 TIA. Although such Exempt Companies may renegotiate their grants under the 1998 TIA, an amount of IDI equal to the IDI derived in the taxable year preceding the 16 change to the 1998 TIA (or, if greater, the average annual IDI by taking the three years, out of the previous five years, where the highest amount of IDI is derived) will continue to be subject to the tax treatment, including Tollgate Taxes, provided in the Industrial Incentive Act under which their grant was originally issued. Most Exempt Companies are United States corporations which operate in Puerto Rico under Section 936 of the Code. Corporations that meet certain requirements and elect the benefits of Section 936 ("Section 936 Corporations") are entitled to credit against their United States corporate income tax a portion of such tax attributable to income derived from sources outside the United States from the active conduct of a trade or business within Puerto Rico or from the sale or exchange of substantially all assets used in the active conduct of such trade or business ("Active Business Income"). The tax credit available under Section 936 (the "936 Credit") is limited by the amount of credit allowed with respect to Active Business Income under one of two alternatives to be selected at the option of the taxpayer. Under the first alternative, the limit is equal to a fixed percentage of the amount of tax credit allowable under prior law (the "Fixed Percentage Method"). This fixed percentage commenced at 60% for taxable years beginning in 1994 and was reduced by 5% per year until 1998. For taxable years beginning on or after January 1, 1998, such percentage is 40%. Under the second alternative (the "Economic Activity Method"), which is based on the amount of economic activity conducted by the taxpayer in Puerto Rico, the credit may not exceed the sum of the following three components: (i) 60% of the qualified possession wages and the allocable fringe benefits paid by the taxpayer, (ii) applicable percentages of certain depreciation deductions claimed for regular tax purposes by the taxpayer with respect to qualified tangible property and (iii) a portion of the possession income taxes paid by the taxpayer except where the taxpayer uses the profit-split method for determining its income. The SBJPA repealed Section 936, but provided grandfather rules under which a Section 936 Corporation that had elected the benefits of the Section 936 Credit and which was engaged in active trade or business within Puerto Rico on October 13, 1995 (an "Existing Claimant") would be eligible to claim the 936 Credit attributable to Active Business Income during a transition period. A corporation may also qualify as an Existing Claimant if it acquires all the assets of a trade or business of a corporation that meets the active trade or business requirement and the election requirement is satisfied. The amount and computation method of the 936 Credit during the transition period depends upon whether a Section 936 Corporation is using the Economic Activity Method or the Fixed Percentage Method. A Section 936 Corporation that is an Existing Claimant and uses the Economic Activity Method may continue to determine its 936 Credit attributable to Active Business Income as under present law for taxable years beginning after December 31, 1995 and before January 1, 2002. For taxable years beginning after December 31, 2001 and before January 1, 2006, a Section 936 Corporation's Active Business Income eligible for the 936 Credit is subject to a cap, described below. A Section 936 Corporation that is an Existing Claimant and is using the Fixed Percentage Method may continue to determine its 936 Credit attributable to Active Business Income under the existing rules for taxable years beginning after December 31, 1995 and before January 1, 1998. For taxable years beginning after December 31, 1997 and before January 1, 2006, the Section 936 17 Corporation's Active Business Income that is eligible for the 936 Credit is also subject to a cap. For taxable years beginning after December 31, 2005, the 936 Credit attributable to Active Business Income is scheduled to expire. Under the cap rules for both the Economic Activity Method and the Fixed Percentage Method, the income eligible for the 936 Credit is limited to the "adjusted base period income" of the Section 936 Corporation. Computation of the "adjusted base period income" involves three steps: (i) the Section 936 Corporation base period years are determined (which are, generally, three of the Section 936 Corporation's five most recent years ending before October 14, 1995, determined by disregarding the taxable years in which the Section 936 Corporation's Active Business Income was the highest and the lowest); (ii) Active Business Income of the Section 936 Corporation in each of the base period years is adjusted for inflation; and (iii) the income in the base period years, as adjusted for inflation, is averaged. In response to certain proposals put forth by the Government of Puerto Rico (the "Puerto Rico Government Proposals"), the SBJPA added Section 30A to the Code ("Section 30A"). The Puerto Rico Government Proposals included a ten-year grandfather period for the existing 936 Credit and the creation of a new tax credit for qualifying corporations that invest in "economically developing jurisdictions." Section 30A incorporates in part the Puerto Rico Government Proposals and provides for an income tax credit to domestic corporations operating in Puerto Rico. This credit is determined under guidelines similar to the Economic Activity Method. In the absence of the 936 Credit and as a means of continuing to defer U.S. income taxation, subsidiaries of multi-national companies operating under Section 936 of the Code may transfer their operations to a corporation organized under Puerto Rico law, or under the laws of foreign countries. Generally, non-U.S. source earnings of a non-U.S. corporation are not subject to United States income taxes until dividends are repatriated to a United States shareholder. Under Section 954 of the Code, foreign subsidiaries of multi-national companies whose parent corporation is incorporated in the U.S. are not subject to federal income tax on profits on products which they manufacture. Though a Puerto Rico corporation, or a foreign corporation operating in Puerto Rico, is subject to local Puerto Rico taxes, the benefits under the Industrial Incentives Acts and the 1998 TIA for companies that manufacture or provide services in Puerto Rico, would continue to be available. In addition, under Section 901 and 902 of the Code and subject to certain limitations and exceptions, U.S. shareholders of a Puerto Rico or other non-U.S. corporation would be allowed to claim a foreign tax credit with respect to income tax paid in Puerto Rico. United States shareholders are also not required to recognize income attributable to manufacturing operations of a Puerto Rico or other non-U.S. corporation as a general rule under Subpart F of the Code. However, under Section 367 of the Code, multi-national corporations may be required to recognize income upon the transfer of operations to a Puerto Rico or other non-U.S. corporation, depending upon the nature and value of the property transferred. Several multi-national 936 Corporations have taken such steps since the legislation with respect to Section 936 was first introduced in the U.S. Congress. In July 1997, the Government of Puerto Rico amended the tax law that provided Puerto Rico income tax exemption on interest income generated by FHA and VA loans secured by real estate property located in Puerto Rico and mortgage-backed securities secured by such mortgage loans ("GNMAs"). Under the amended law, FHA and VA loans closed prior to August 1, 1997 will 18 continue to be exempt. The interest income on FHA and VA mortgage loans originated on or after August 1, 1997 for purposes other than to finance the acquisition of new housing, and GNMAs secured by such loans, are no longer exempt, and are taxable at a preferential 17% tax rate to individuals and certain taxpayers other than corporations. FHA and VA loans to finance the purchase of new housing, and GNMAs secured by such loans, continue to be exempt. Individuals who are bona fide residents of Puerto Rico are also not subject to United States federal income tax on income from Puerto Rico sources, including interest income derived from mortgage loans originated in Puerto Rico whose mortgagors are residents of Puerto Rico. The exemption for interest earned on qualifying FHA loans, VA loans and GNMA certificates tends to increase the demand for these products and the price R&G Financial may obtain upon their sale. There can be no assurance that the tax exempt treatment of interest on FHA and VA loans will not be further reviewed or modified in the future. Any change in Puerto Rico's political status could result in the elimination or modification of these tax benefits described above. Lending Activities from Banking Operations General. At December 31, 1999, R&G Financial's loans receivable, net totaled $1.6 billion, which represented 53.7% of R&G Financial's $2.9 billion of total assets. At December 31, 1999, all but $545,000 of R&G Financial's loans receivable, net were held by the Bank. The principal category of loans in R&G Financial's portfolio are conventional loans which are secured by first liens on single-family residences. Conventional residential real estate loans are loans which are neither insured by the FHA nor partially guaranteed by the VA. At December 31, 1999, all but $800,000 of R&G Financial's first mortgage single-family residential loans consisted of conventional loans. The other principal categories of loans in R&G Financial's loans receivable, net portfolio are second mortgage residential real estate loans, construction loans, commercial real estate loans, commercial business loans and consumer loans. 19 Loan Portfolio Composition. The following table sets forth the composition of R&G Financial's loan portfolio by type of loan at the dates indicated. Except as noted in the footnotes to the table, all of the loans are held in the Bank's loan portfolio.
December 31, ------------------------------------------------------------------------------- 1999 1998 1997 ------------------------ ----------------------- ---------------------- Amount Percent Amount Percent Amount Percent ------------ ----------- ----------- --------- ------------ --------- (Dollars in Thousands) Residential real estate - first mortgage(1)............................ $1,099,843 67.75% $735,795 66.87% $476,729 61.25% Residential real estate - second mortgage............................... 13,029 0.80 18,634 1.69 17,831 2.29 Retail construction...................... 38,950 2.40 23,280 2.12 13,367 1.72 Commercial construction and land acquisition............................ 78,133 4.81 15,353 1.39 5,785 0.74 Commercial real estate................... 204,155 12.57 117,151 10.65 81,722 10.50 Commercial business...................... 54,231 3.34 46,532 4.23 39,128 5.03 Consumer loans: Loans secured by deposits.............. 20,539 1.27 17,225 1.56 12,472 1.60 Real estate secured consumer loans..... 76,944 4.74 85,055 7.73 81,252 10.44 Unsecured consumer loans............... 37,653 2.32 41,381 3.76 50,103 6.43 ------ ------ ---- ------ -------- Total loans receivable............... 1,623,477 100.00% 1,100,406 100.00% 778,389 100.00% --------- ------ --------- ------ ------- ------ Less: Allowance for loan losses.............. (8,971) ( 8,055) ( 6,772) Loans in process....................... (50,622) (18,170) ( 6,218) Deferred loan fees..................... ( 437) ( 166) 172 Unearned interest...................... ( 440) ( 347) ( 512) ---------- ---------- ---------- (60,471) (26,738) (13,330) -------- ------- ------- Loans receivable, net(2)............... $1,563,007 $1,073,668 $765,059 ========= ========= =======
December 31, --------------------------------------------------- 1996 1995 ---------------------- --------------------------- Amount Percent Amount Percent ------------ -------- ------------ ------------- Residential real estate - first mortgage(1)............................ $370,876 60.75% $282,498 58.23% Residential real estate - second mortgage............................... 15,757 2.58 14,372 2.96 Retail construction...................... 5,351 0.88 15,046 3.10 Commercial construction and land acquisition............................ 5,700 0.93 5,523 1.14 Commercial real estate................... 69,514 11.39 61,862 12.74 Commercial business...................... 31,063 5.09 27,816 5.74 Consumer loans: Loans secured by deposits.............. 9,409 1.54 7,497 1.55 Real estate secured consumer loans..... 42,893 7.03 33,381 6.88 Unsecured consumer loans............... 59,864 9.81 37,180 7.66 ------ -------- ------- ------ Total loans receivable............... 610,427 100.00% 485,175 100.00% ------- -------- ------- ------ Less: Allowance for loan losses.............. (3,332) (3,510) Loans in process....................... (2,430) (5,727) Deferred loan fees..................... 41 (266) Unearned interest...................... ( 955) (1,831) ------- ------- (6,676) (11,334) ------- ------- Loans receivable, net(2)............... $603,751 $473,841 ======= =======
- --------------- (1) Includes $33.9 million and $49.7 million of residential real estate - first mortgage loans which are held by R&G Mortgage at December 31, 1997 and 1996, respectively. (2) Does not include mortgage loans held for sale of $77.3 million, $117.1 million, $46.9 million, $54.5 million and $21.3 million at December 31, 1999, 1998, 1997, 1996 and 1995, respectively. 20 Contractual Principal Repayments and Interest Rates. The following table sets forth certain information at December 31, 1999 regarding the dollar amount of loans maturing in R&G Financial's total loan portfolio based on the contractual terms to maturity. Loans having no stated schedule of repayments and no stated maturity are reported as due in one year or less.
Due 1-5 years Due 5 or more after years after Due 1 year December 31, December 31, or less 1999 1999 Total(1) ------- ---- ---- -------- (In Thousands) Residential real estate ............ $ 57 $ 3,638 $1,109,177 $1,112,872 Retail construction ................ 38,950 -- -- 38,950 Commercial real estate(2) .......... 91,208 85,890 105,190 282,288 Commercial business ................ 24,428 28,504 1,298 54,231 Consumer: Loans on savings ................. 12,627 7,195 717 20,539 Real estate secured consumer loans 787 5,986 70,171 76,944 Unsecured consumer loans ......... 9,187 21,604 6,862 37,653 ---------- ---------- ---------- ---------- Total(3) ........................... $ 177,245 $ 152,817 $1,293,415 $1,623,477 ========== ========== ========== ==========
- --------------- (1) Amounts have not been reduced for the allowance for loan losses, loans in process, deferred loan fees or unearned interest. (2) Includes $78.1 million of commercial construction and land acquisition loans. (3) Does not include mortgage loans held for sale. 21 The following table sets forth the dollar amount of total loans due after one year from December 31, 1999, as shown in the preceding table, which have fixed interest rates or which have floating or adjustable interest rates.
Floating or Fixed rate adjustable-rate Total ------------------ ----------------------- ----------------- (In Thousands) Residential real estate................... $1,112,872 $ -- $1,112,872 Retail Construction....................... 38,950 -- 38,950 Commercial real estate(1)................. 87,282 195,006 282,288 Commercial business....................... 37,280 16,951 54,231 Consumer: Loans on savings........................ 20,539 -- 20,539 Real estate secured consumer loans...... 76,944 -- 76,944 Unsecured consumer loans................ 37,653 -- 37,653 ---------- ---------- ---------- Total.................................. $1,411,520 $211,957 $1,623,477 ========== ========== =========
- --------------- (1) Includes $78.1 million of commercial construction and land acquisition loans. Scheduled contractual amortization of loans does not reflect the expected term of R&G Financial's loan portfolio. The average life of loans is substantially less than their contractual terms because of prepayments and, with respect to conventional loans originated for the Bank after February 1994, due-on-sales clauses, which give R&G Financial the right to declare a conventional loan immediately due and payable in the event, among other things, that the borrower sells the real property subject to the mortgage and the loan is not repaid. The average life of mortgage loans tends to increase when current mortgage loan rates are higher than rates on existing mortgage loans and, conversely, decrease when rates on existing mortgage loans are lower than current mortgage loan rates (due to refinancing of adjustable-rate and fixed-rate loans at lower rates). Under the latter circumstance, the weighted average yield on loans decreases as higher-yielding loans are repaid or refinanced at lower rates. 22 Origination, Purchase and Sales of Loans. The following table sets forth loan originations, purchases and sales from banking operations for the periods indicated.
Year Ended December 31, --------------------------------------------------------- 1999 1998 1997 ------------------ ------------------ ----------------- (Dollars in Thousands) Loan originations: Loans originated by R&G Mortgage: Residential mortgages................................ $ 378,740 $ 385,416 $221,451 Commercial mortgages................................. -- 265 555 Residential construction............................. 26,146 16,766 11,482 Consumer loans....................................... 32,219 48,155 52,287 Total loans originated by R&G Mortgage............. 437,105 450,602 285,775 Other loans originated: Commercial real estate............................... 175,803 54,426 37,129 Commercial business.................................. 36,222 26,191 15,393 Construction and development......................... 54,070 11,365 -- Consumer loans: Loans on deposit..................................... 34,758 27,172 19,711 Real estate secured consumer loans................... -- -- -- Unsecured consumer loans............................. 29,631 9,970 16,742 Total other loans originated....................... 330,484 129,124 88,975 Loans purchased...................................... 279,489 175,735 60,646 Total loans originated and purchased............... 1,047,078 755,461 435,396 Loans sold........................................... ( 133,731) (282,005) (118,234) Loan principal reductions............................ ( 253,534) (142,560) (134,166) Net increase before other items, net................. 659,813 330,896 182,996 Loans securitized and transferred to mortgage-backed securities......................... ( 106,237) -- -- Net increase in loan portfolio....................... $ 553,576 $ 330,896 $182,996
R&G Financial, through the Bank, originates for both investment and sale mortgage loans secured by residential real estate (secured by both first and second mortgage liens) as well as construction loans (for residential real estate), commercial real estate loans, commercial business loans and consumer loans. R&G Mortgage assists the Bank in meeting its loan production targets and goals by, among other things, (i) advertising, promoting and marketing to the general public; (ii) interviewing prospective borrowers and conducting the initial processing of the requisite loan applications, consistent with the Bank's underwriting guidelines; and (iii) providing personnel and facilities with respect to the execution of loan agreements approved by the Bank. R&G Mortgage performs the foregoing loan origination services on behalf of the Bank with respect to residential mortgage loans, 23 some commercial real estate loans and construction loans. R&G Mortgage receives from the Bank 75% of the applicable loan origination fee with respect to loans originated by R&G Mortgage on behalf of the Bank. During the years ended December 31, 1999, 1998 and 1997, R&G Mortgage received $7.5 million, $7.5 million and $5.2 million, respectively, of loan origination fees with respect to loans originated by R&G Mortgage on behalf of the Bank. These fees are eliminated in consolidation in R&G Financial's Consolidated Financial Statements. See "- Regulation - R&G Financial - Limitations on Transactions with Affiliates." The Bank originates commercial real estate, commercial business and consumer loans. Applications for commercial real estate, commercial business and unsecured consumer loans are taken at all of the Bank's branch offices and may be approved by various lending officers of the Bank within designated limits, which are established and modified from time to time to reflect an individual's expertise and experience. All loans in excess of an individual's designated limits are referred to an officer with the requisite authority. In addition, the Management Credit Committee is authorized to approve all loans not exceeding $2.5 million, and the Executive Committee of the Board of Directors is authorized to approve all loans exceeding $2.5 million. All loans originated or purchased by the Bank must be approved by one of the three committees set forth above. Management of the Bank believes that its relatively centralized approach to approving loan applications ensures strict adherence to the Bank's underwriting guidelines while still allowing the Bank to approve loan applications on a timely basis. The Bank also purchases conventional loans secured by first liens on single-family residential real estate from unrelated financial institutions. Such loan purchases are underwritten by the Bank pursuant to the same guidelines as direct loan originations. Loans purchased by the Bank are from time to time securitized by R&G Mortgage and sold by the Bank. During the years ended December 31, 1999, 1998 and 1997, the Bank purchased $279.5 million, $175.7 million and $60.6 million of loans, respectively. During the years ended December 31, 1999, 1998 and 1997, loans sold from banking operations were $133.7 million, $282.0 million and $118.2 million. These loans, which were primarily nonconforming loans at the time of origination, were generally sold in packages in privately negotiated transactions with FNMA and FHLMC. The Bank sells to R&G Mortgage the servicing rights to all first and second mortgage loans secured by residential properties which are or will become part of the Bank's loan portfolio once the Bank has a commitment to sell the loans. R&G Mortgage services all other loans held in the Bank's portfolio (including single-family residential loans retained by the Bank, commercial real estate, commercial business and consumer loans (although R&G Mortgage does not actually acquire such servicing rights)). In addition, the Bank processes payments on all loans serviced by R&G Mortgage on behalf of the Bank. Finally, R&G Mortgage renders securitization services with respect to the pooling of some of the Bank's mortgage loans into mortgage-backed securities. See "- Mortgage Banking Activities." 24 At December 31,1999, R&G Financial's five largest loans-to-one borrower and their related entities amounted to $17.2 million, $14.0 million, $12.7 million, $9.6 million and $9.0 million, all of which were performing. Single-Family Residential Real Estate Loans. The Bank has historically concentrated its lending activities on the origination of loans secured by first mortgage liens on existing single-family residences. At December 31, 1999, $1.1 billion or 67.8% of R&G Financial's total loans held for investment consisted of such loans, of which all but $800,000 consisted of conventional loans. The Bank's first mortgage single-family residential loans consist exclusively of fixed-rate loans with terms of between 15 and 30 years. As evidenced by this statistic, the Puerto Rico residential mortgage market has not been receptive to long-term adjustable rate mortgage loans. The Bank's first mortgage single-family residential loans typically do not exceed 80% of the appraised value of the security property. Pursuant to underwriting guidelines adopted by the Board of Directors, the Bank can lend up to 95% of the appraised value of the property securing a first mortgage single-family residential loan provided the Bank obtains private mortgage insurance with respect to the top 25% of the loan. The Bank also originates loans secured by second mortgages on single-family residential properties. At December 31, 1999, $13.0 million or 0.8% of R&G Financial's total loans held for investment consisted of second mortgage loans on single-family residential properties. The Bank offers such second mortgage loans in amounts up to $125,000 for a term not to exceed 15 years. The loan-to-value ratio of second mortgage loans generally is limited to 75% of the property's appraised value (including the first mortgage). Construction Loans. The Bank has been active in originating loans to construct single-family residences. These construction lending activities generally are conducted throughout Puerto Rico, although loans are concentrated in areas contiguous to Bank branches. At December 31, 1999, retail construction ("spot") loans amounted to $39.0 million or 2.4% of R&G Financial's total loans held for investment, while commercial construction and land acquisition loans amounted to $78.1 million or 4.8% of total loans held for investment. The Bank offers construction loans to individual borrowers for the purpose of constructing single-family residences. Substantially all of the Bank's construction lending to individuals is originated on a construction/permanent mortgage loan basis. Construction/permanent loans are made to individuals who hold a contract with a general contractor acceptable to the Bank to construct their personal residence. The construction phase of the loan provides for monthly payments on an interest only basis at a designated fixed rate for the term of the construction period, which generally does not exceed nine months. Thereafter, the permanent loan is made at then market rates, provided that such rate shall not be more than 2% greater than the interim construction rate. R&G Mortgage's construction loan department approves the proposed contractors and administers the loan during the construction phase. The Bank's construction/permanent loan program has been successful due to its ability to offer borrowers a single closing and, consequently, reduced costs. At December 31, 1999, 25 the Bank's construction loan portfolio included 381 construction/permanent loans with an aggregate principal balance of $39.0 million. The Bank also originates construction loans to developers to develop single family residential properties. The Bank has organized a Construction Loan Department to work primarily with real estate developers. At December 31, 1999, the Bank had 7 residential construction loans outstanding to develop single-family residences with an aggregate principal balance of $15.3 million. Commitments for future funding approximate $34.2 million. In addition, the Bank had 9 loans to develop commercial properties with an aggregate principal balance of $19.1 million. The loans are performing in accordance with their terms at December 31, 1999. In addition to the foregoing, at December 31, 1999, the Bank had 11 land acquisition loans with outstanding balances ranging from $26,000 to $3.0 million, and an aggregate balance of $9.5 million, which were made in connection with projects to construct single-family residences. The Bank and the financial institution which made the interim construction loan have entered into an agreement pursuant to which the Bank is to be paid a percentage of the proceeds from each home as it is released upon construction and sale. The Bank expects to make the permanent construction loan on some of these projects. The Bank does not expect to be active in this business. The Bank intends to continue to increase its involvement in single-family residential construction lending. Such loans afford the Bank the opportunity to increase the interest rate sensitivity of its loan portfolio. Construction lending is generally considered to involve a higher level of risk as compared to permanent single-family residential lending, due to the concentration of principal in a limited number of loans and borrowers and the effects of general economic conditions on real estate developers and managers. Moreover, a construction loan can involve additional risks because of the inherent difficulty in estimating both a property's value at completion of the project and the estimated costs (including interest) of the project. The nature of these loans is such that they are generally more difficult to evaluate and monitor. The Bank has taken steps to minimize the foregoing risks by, among other things, limiting its construction lending primarily to residential properties. In addition, the Bank has adopted underwriting guidelines which impose stringent loan-to-value (80% with respect to single-family residential real estate), debt service and other requirements for loans which are believed to involve higher elements of credit risk and by working with builders with whom it has established relationships or knowledge thereof. At December 31, 1999, $478,000 of the Bank's construction loans were classified as non-performing. Commercial Real Estate Loans. The Bank also originates mortgage loans secured by commercial real estate. At December 31, 1999, $204.2 million or 12.6% of R&G Financial's total loans held for investment consisted of such loans. As of such date, the Bank's commercial real estate loan portfolio consisted of approximately 1,025 loans with an average principal balance of $199,000. At December 31, 1999, $9.0 million of the Bank's commercial real estate loans were classified as nonperforming. 26 Commercial real estate loans originated by the Bank are primarily secured by office buildings, retail stores, warehouses and general purpose industrial space. Although terms vary, commercial real estate loans generally are amortized over a period of 7-15 years and have maturity dates of five to seven years. The Bank will originate these loans with interest rates which adjust monthly in accordance with a designated prime rate plus a margin, which generally is negotiated at the time of origination. Such loans will have a floor but no ceiling on the amount by which the rate of interest may adjust over the loan term. Loan-to-value ratios on the Bank's commercial real estate loans are currently limited to 80% or lower. As part of the criteria for underwriting commercial real estate loans, the Bank generally requires a debt coverage ratio (the ratio of net cash from operations before payment of debt service to debt service) of 1.30 or more. It is also the Bank's general policy to seek additional protection to mitigate any weaknesses identified in the underwriting process. Additional coverage may be provided through mortgage insurance, secondary collateral and/or personal guarantees from the principals of the borrower. Commercial real estate lending entails different and significant risks when compared to single-family residential lending because such loans typically involve large loan balances to single borrowers and because the payment experience on such loans is typically dependent on the successful operation of the project or the borrower's business. These risks can also be significantly affected by supply and demand conditions in the local market for apartments, offices, warehouses or other commercial space. The Bank attempts to minimize its risk exposure by limiting the extent of its commercial lending generally. In addition, the Bank imposes stringent loan-to-value ratios, requires conservative debt coverage ratios, and continually monitors the operation and physical condition of the collateral. Although the Bank has begun to increase its emphasis on commercial real estate lending, management does not currently anticipate that its portfolio of commercial real estate loans will grow significantly as a percentage of the total loan portfolio. Commercial Business Loans. The Bank offers commercial business loans, including working capital lines of credit, inventory and accounts receivable loans, equipment financing (including equipment leases), term loans, insurance premiums loans and loans guaranteed by the Small Business Administration. Depending on the collateral pledged to secure the extension of credit, maximum loan to value ratios are 75% or less, with exceptions permitted to a maximum of 80%. Loan terms may vary from one to 15 years. The interest rates on such loans are generally variable and are indexed to a designated prime rate, plus a margin. The Bank also generally obtains personal guarantees from the principals of the borrowers. At December 31, 1999, commercial business loans amounted to $54.2 million or 3.3% of total loans held for investment. Although the Bank has begun to increase its emphasis on commercial business lending, management does not currently anticipate that its portfolio of commercial business loans will grow significantly as a percentage of the total loan portfolio. Consumer Loans. The Bank originates real estate secured consumer loans. Such loans generally have shorter terms and higher interest rates than other mortgage loans. At December 31, 1999, $135.1 million or 8.3% of the Bank's total loans held for investment consisted of consumer loans. This amount is comprised mostly of real estate secured consumer loans (which are originated by R&G Mortgage), but the Bank also offers loans secured by deposit accounts, credit card loans 27 and other secured and unsecured consumer loans. Most of the Bank's consumer loans are secured and have been primarily obtained through newspaper advertising, although loans are also obtained from existing and walk-in customers. Although the Bank has begun to increase its emphasis on collateralized consumer lending, management does not currently anticipate that its portfolio of consumer loans will grow significantly as a percentage of the total loan portfolio. The Bank currently offers loans secured by deposit accounts, which amounted to $20.5 million at December 31, 1999. Such loans are originated generally for up to 90% of the account balance, with a hold placed on the account restricting the withdrawal of the account balance. The Bank offers real estate secured loans in amounts up to 75% of the appraised value of the property, including the amount of any existing prior liens. Real estate secured consumer loans have a maximum term of 10 years, which may be extended within the sole discretion of the Bank, and an interest rate which is set at a fixed rate based on market conditions. The Bank secures the loan with a first or second mortgage on the property, including loans where another institution holds the first mortgage. At December 31, 1999, real estate secured consumer loans totaled $76.9 million. At December 31, 1999, credit card receivables totaled $4.9 million. Consumer loans generally have shorter terms and higher interest rates than mortgage loans but generally involve more credit risk than mortgage loans because of the type and nature of the collateral and, in certain cases, the absence of collateral. In addition, consumer lending collections are dependent on the borrower's continuing financial stability, and thus are more likely to be adversely effected by job loss, divorce, illness and personal bankruptcy. In many cases, any repossessed collateral for a defaulted consumer loan will not provide an adequate source of repayment of the outstanding loan balance because of improper repair and maintenance of the underlying security. The remaining deficiency may not warrant further substantial collection efforts against the borrower. At December 31, 1999, $802,000 of consumer loans were classified as non-performing. Asset Quality General. When a borrower fails to make a required payment on a loan, R&G Financial attempts to cure the deficiency by contacting the borrower and seeking payment. Contacts are generally made between the 10th and 15th day after a payment is due. In most cases, deficiencies are cured promptly. If a delinquency extends beyond 15 days, the loan and payment history is reviewed and efforts are made to collect the loan. While R&G Financial generally prefers to work with borrowers to resolve such problems, when the account becomes 90 days delinquent in the case of mortgage loans, R&G Financial does institute foreclosure or other proceedings, as necessary, to minimize any potential loss. In the case of consumer loans, the Bank refers the file for collection action after 60 days. Loans secured by real estate are placed on non-accrual status when, in the judgment of management, the probability of collection of interest is deemed to be insufficient to warrant further accrual. When such a loan is placed on non-accrual status, previously accrued but unpaid interest is deducted from interest income. As a matter of policy, the Bank does not accrue interest on loans past 28 due 90 days or more which are secured by real estate. The Bank generally takes the same position in the case of consumer loans. Real estate acquired by the Bank as a result of foreclosure or by deed-in-lieu of foreclosure are classified as real estate owned until sold. Pursuant to a statement of position ("SOP 92-3"), which provides guidance on determining the balance sheet treatment of foreclosed assets in annual financial statements, there is a rebuttable presumption that foreclosed assets are held for sale and such assets are recommended to be carried at the lower of fair value minus estimated costs to sell the property, or cost (generally the balance of the loan on the property at the date of acquisition). After the date of acquisition, all costs incurred in maintaining the property are expensed and costs incurred for the improvement or development of such property are capitalized up to the extent of their net realizable value. The Bank's accounting for its real estate owned complies with the guidance set forth in SOP 92-3. The following table sets forth the amounts and categories of R&G Financial's non-performing assets at the dates indicated. R&G Financial did not have any troubled debt restructurings at any of the periods presented. Except as otherwise indicated in the footnotes to the table, the non-performing assets are assets of the Bank.
December 31, --------------------------------------------------------------------------- 1999 1998 1997 1996 1995 ---------- ------------- ------------ --------- ----------- (Dollars in Thousands) Non-accruing loans: Residential real estate(1)............ $47,413 $32,973 $21,619 $12,991 $7,921 Residential construction.............. 478 441 368 363 -- Commercial real estate................ 9,005 6,463 6,000 3,141 1,903 Commercial business................... 1,255 3,224 765 823 -- Consumer unsecured.................... 802 1,358 1,217 686 40 Other................................. 61 67 117 726 -- --------- -------- ------ ------ ----- Total(2)............................ 59,014 44,526 30,086 18,730 9,864 ------ ------ ----- ------ ----- Accruing loans greater than 90 days delinquent: Residential real estate............... -- -- -- -- -- Residential construction.............. -- -- -- -- 611 Commercial real estate................ -- -- -- -- -- Commercial business................... 63 61 54 22 8 Consumer.............................. 274 357 172 134 94 ------- ------- ------ ----- ------ Total accruing loans greater than 90 days delinquent................ 337 418 226 156 713 ------- ------- ------- ------ ----- Total non-performing loans.......... 59,351 44,944 30,312 18,886 10,577 ------ ------ ----- ------ ------ Real estate owned, net of reserves(3)... 5,852 4,041 1,715 834 654 Other repossessed assets................ 466 237 85 31 -- ------- ------- ------- ------ ----- 6,318 4,278 1,800 865 654 ------- ------- ------- ------ ----- Total non-performing assets......... $65,669 $49,222 $32,112 $19,751 $11,231 ------ ====== ====== ====== ====== Total non-performing loans as a percentage of total loans......... 3.66% 4.08% 3.89% 3.09% 2.18% ===== ==== ==== ==== ==== Total non-performing assets as a percentage of total assets........ 2.26% 2.41% 2.12% 1.90% 1.32% ===== ==== ==== ====== ====
29 - ------------------------- (1) Includes residential real estate loans secured by both first and second mortgages held by the Bank, except for $5.9 million, $4.3 million and $2.8 million held by R&G Mortgage at December 31, 1999, 1998 and 1997, respectively. Also includes $6.1 million, $5.3 million, $2.6 million, $1.1 million and $882,000 consumer loans held by the Bank secured by first and second mortgages on residential real estate at December 31, 1999, 1998, 1997, 1996 and 1995, respectively. (2) As of December 31, 1999, comprised of 868 loans secured by residential real estate, 66 loans secured by commercial real estate, 7 construction loans, 86 commercial business loans and 114 consumer loans. (3) Includes properties held by R&G Mortgage of $128,000, $128,000 and $165,000 as of December 31, 1999, 1998 and 1997, respectively. As of December 31, 1999, the Bank had 48 residential properties and 12 commercial properties aggregating $5.7 million. While the level of total non-performing assets of R&G Financial has increased on an absolute basis during the periods presented, from $11.2 million at December 31, 1995 to $65.7 million at December 31, 1999, R&G Financial's net loans receivable portfolio has increased by 230% during this period, from $473.8 million at December 31, 1995 to $1.6 billion at December 31, 1999. Thus, total non-performing assets as a percent of total assets increased from 1.32% at December 31, 1995 to 2.26% at December 31, 1999. Non-performing residential loans increased by $14.4 million or 43.8% from December 31, 1998 to December 31, 1999. The average loan balance on non-performing mortgage loans amounted to $55,000 at December 31, 1999. As of such date, 528 loans with an aggregate balance of $29.3 million (including 119 consumer loans secured by real estate with an aggregate balance of $2.6 million) were in the process of foreclosure. The total delinquency ratio on residential mortgages, including loans past due less than 90 days, increased from 5.49% in 1998 to 7.11% in 1999. The Company's loss experience on such portfolio has been minimal over the last several years. Non-performing commercial real estate loans increased by $2.5 million or 39.3% from December 31, 1998 to December 31, 1999. The number of loans delinquent over 90 days amounted to 74 loans at December 31, 1999, with an average balance of $122,000. The largest non-performing commercial real estate loan as of December 31, 1999 had a balance of $340,000. Non-performing commercial business loans consist of 86 loans. Such loans include 10 loans with an aggregate balance of $296,000 which are 90% guaranteed by the Small Business Administration, 48 commercial leases amounting to $615,000 and 28 other commercial business loans with an aggregate balance of $344,000. These loans have a combined average loan size of $15,000. The majority of loans in this portfolio were originated during 1995 and 1996. The largest non-performing commercial business loan as of December 31, 1999 had a $110,000 balance. 30 It is the policy of the Bank to maintain an allowance for estimated losses on loans and to increase such allowance when, based on management's evaluation, a loss becomes both probable and estimable (i.e., the loss is likely to occur and can be reasonably estimated). Major loans and major lending areas are reviewed periodically to determine potential problems at an early date. Also, management's 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 loan, the estimated value of any underlying collateral and assessment of current economic conditions. Additions to the allowance are charged to income. Such provisions are based on management's estimated value of any underlying collateral, as applicable, considering the current and anticipated operating conditions of the borrower. Any recoveries are credited to the allowance. The following table sets forth an analysis of R&G Financial's allowance for loan losses during the periods indicated, which is maintained on the Bank's loan portfolio.
At and For the Year Ended December 31, -------------------------------------------------------------------------------- 1999 1998 1997 1996 1995 -------------- ---------------- -------------- -------------- --------------- (Dollars in Thousands) Balance at beginning of period......... $8,055 $6,772 $ 3,332 $3,510 $2,887 ----- ----- ------ ----- ----- Charge-offs: Residential real estate.............. 17 73 13 45 53 Construction......................... -- -- -- 50 -- Commercial real estate............... 353 -- 170 -- -- Commercial business.................. 1,548 1,485 480 110 91 Consumer............................. 2,518 4,455 3,953 1,922 365 Other................................ 4 -- 761 2,535 -- -------- -------------- ------ ----- ------ Total charge-offs.................. 4,440 6,013 5,377 4,662 509 -------- ----------- ------ ----- ----- Recoveries: Residential real estate.............. -- -- 21 -- 1 Commercial real estate............... 69 -- 50 -- -- Commercial business.................. 332 20 32 31 85 Consumer............................. 429 312 344 195 96 Other................................ -- -- 2,000 -- -- --------- ------------- ----- -- -- Total recoveries................... 830 332 2,447 226 182 ------- ----------- ------ ------ ----- Net charge-offs........................ 3,610 5,681 2,930 4,436 327 -------- ---------- ------ ------ ----- Allowance for loan losses acquired from Fajardo Federal....................... -- 364 -- -- -- Provision for losses on loans.......... 4,525 6,600 6,370 4,258 950 -------- --------- ------ ------ ----- Balance at end of period............... 8,971 $ 8,055 $ 6,772 $ 3,332 $3,510 ======== ======== ====== ====== ===== Allowance for loan losses as a percent of total loans outstanding........... 0.55% 0.74 0.87% 0.55% 0.72% ======== ======== ====== ====== ==== Allowance for loan losses as a percent of non-performing loans.............. 15.11% 17.92% 22.34% 17.64% 33.19% ======== ======== ====== ====== ===== Ratio of net charge-offs to average loans outstanding.................... .25% .55% 0.40% 0.75% 0.08% ========== ========== ====== ======= ====
31 The following table sets forth information concerning the allocation of R&G Financial's allowance for loan losses (which is maintained on the Bank's loan portfolio) by loan category at the dates indicated.
December 31, ---------------------------------------------------------------------------------------- 1999 1998 1997 ------------------------- --------------------------- ----------------------------- Percent of Percent of Percent of Loans in Loans in Loans in Each Each Each Category to Category to Category to Amount Total Loans Amount Total Loans Amount Total Loans ---------- -------------- ------------ -------------- ----------- -------------- (Dollars in Thousands) Residential real estate..... $1,419 15.82% $1,272 15.79% $ 593 8.76% Construction................ 186 2.07 46 0.57 7 0.10 Commercial real estate...... 3,258 36.32 2,655 32.96 1,386 20.47 Commercial business......... 1,063 11.85 1,033 12.82 806 11.90 Consumer.................... 3,045 33.94 3,049 37.86 3,980 58.77 ----- ----- ----- ----- ------ ------ Total....................... $8,971 100.00% $8,055 100.00% $6,772 100.00% ===== ====== ===== ====== ===== ======
December 31, --------------------------------------------------------- 1996 1995 -------------------------- ------------------------- Percent of Percent of Loans in Loans in Each Each Category to Category to Amount Total Loans Amount Total Loans --------- ------------- ---------- -------------- (Dollars in Thousands) Residential real estate..... $ 810 24.31% $2,094 59.66% Construction................ 51 1.53 32 0.90 Commercial real estate...... 489 14.68 -- -- Commercial business......... 109 3.27 782 22.28 Consumer.................... 1,873 56.21 602 17.16 ----- ----- ----- ------ Total....................... $3,332 100.00% $3,510 100.00% ===== ====== ===== ======
32 Investment Activities General. R&G Financial's securities portfolio is managed by investment officers in accordance with a comprehensive written investment policy which addresses strategies, types and levels of allowable investments and which is reviewed and approved annually by the respective Boards of Directors of the Bank and R&G Mortgage. The management of the securities portfolio is set in accordance with strategies developed by the Bank's Interest Rate Risk, Budget and Investments Committee ("IRRBICO"). As discussed under "- Mortgage Banking Activities," R&G Mortgage is primarily engaged in the origination of mortgage loans and the securitization of such loans into mortgage-backed and related securities and the subsequent sale of such securities to securities broker-dealers and other investors in the secondary market. As a result of R&G Mortgage's securitization activities, R&G Mortgage maintains a substantial portfolio of GNMA mortgage-backed securities. At December 31, 1999, R&G Mortgage held GNMA mortgage-backed securities with a fair value of $43.6 million which are classified as held for trading. Such securities generally remain in R&G Mortgage's portfolio for between 90 and 180 days. In addition, R&G Mortgage held GNMA mortgage-backed securities with a fair value of $466.2 million which are classified as available for sale. At December 31, 1999, R&G Mortgage's interest-only residuals, which are classified as available for sale, had an amortized cost of $11.1 million and a fair value of $10.8 million. The Bank's Investment Policy authorizes the Bank to invest in U.S. Treasury obligations (with a maturity up to five years), U.S. Agency obligations, FNMA, GNMA and FHLMC mortgage-backed certificates, investment grade municipal obligations (with a maturity of up to five years), bankers' acceptances and Federal Home Loan Bank ("FHLB") notes (with a maturity of up to five years), investment grade commercial paper (with a maturity of up to 9 months), federal funds (with a maturity of six months or less), certificates of deposit in other financial institutions (including Eurodollar deposits), repurchase agreements (with a maturity of six months or less), investment grade corporate bonds (with a maturity of five years or less) and certain mortgage-backed derivative securities (with a weighted average life of less than ten years). At December 31, 1999, the Bank's securities portfolio consisted of $28.7 million of securities held for investments, consisting of $12.8 million of tax-free mortgage-backed securities, $10.4 million of other mortgage backed securities, and $5.4 million of Puerto Rico Government obligations and other Puerto Rico securities. In addition, at December 31, 1999, the Bank had a securities portfolio classified as available for sale with a fair value of $493.9 million, consisting of $97.3 million of tax-free mortgage-backed securities, $126.4 million of other mortgage-backed securities, $32.8 million of FHLB stock, $12.0 million of CMOs and interest-only securities and residuals, $4.9 million U.S. Treasury securities and $220.4 million of U.S. Government agency securities. The Bank's Treasury Department from time to time conducts certain trading activities mainly through investments in U.S. Treasury securities. However, at December 31, 1999 no securities for trading were held by the Bank. 33 The following table presents certain information regarding the composition and period to maturity of R&G Financial's securities portfolio held to maturity as of the dates indicated below. All of such securities are assets of the Bank.
December 31, ---------------------------------------------------------------------------------- 1999 1998 --------------------------------------- ----------------------------------------- Weighted Weighted Carrying Market Average Carrying Market Average Value Value Yield Value Value Yield ----------- ----------- ----------- ------------ ----------- ----------- (Dollars in Thousands) Mortgage-backed securities: GMNA Due within one year........... $ -- $ -- --% $ -- $ -- --% Due from one-five years....... 15 16 10.00 27 29 10.00 Due from five-ten years....... 10,660 10,391 5.79 13,025 12,752 5.79 Due over ten years............ 2,133 2,074 6.17 2,360 2,306 6.17 FNMA Due within one year............. -- -- -- -- -- -- Due from one-five years......... -- -- -- -- -- -- Due from five-ten years......... -- -- -- -- -- -- Due over ten years.............. 10,252 10,644 7.09 12,608 12,944 7.13 FHLMC Due within one year............. -- -- -- -- -- -- Due from one-five years......... -- -- -- -- -- -- Due from five-ten years......... -- -- -- -- -- -- Due over ten years.............. 189 180 5.58 236 230 5.99 Investment Securities: Puerto Rico Government obligations Due within one year............. -- -- -- -- -- -- Due from one-five years......... 1,280 1,272 5.85 -- -- -- Due from five-ten years......... 4,158 4,132 5.95 5,945 5,979 5.80 Due over ten years.............. -- -- -- -- -- -- U.S.Treasury and Government Agency Due within one year............. -- -- -- 399 400 5.40 Due from one-five years......... -- -- -- -- -- -- Due from five-ten years......... -- -- -- -- -- -- Due over ten years.............. -- -- -- -- -- -- Total Securities held for $28,687 $28,709 6.31% $34,600 $34,640 6.31% investment..................
December 31, ----------------------------------------- 1997 ----------------------------------------- Weighted Carrying Market Average Value Value Yield ------------ ------------ -------------- (Dollars in Thousands) Mortgage-backed securities: GMNA Due within one year........... $ -- $ -- --% Due from one-five years....... 49 50 10.00 Due from five-ten years....... -- -- -- Due over ten years............ 18,321 17,705 6.05 FNMA Due within one year............. -- -- -- Due from one-five years......... -- -- -- Due from five-ten years......... -- -- -- Due over ten years.............. 14,675 15,164 7.17 FHLMC Due within one year............. -- -- -- Due from one-five years......... -- -- -- Due from five-ten years......... -- -- -- Due over ten years.............. 281 266 6.00 Investment Securities: Puerto Rico Government obligations Due within one year............. 4,433 4,439 6.22 Due from one-five years......... -- -- -- Due from five-ten years......... 5,920 5,910 5.85 Due over ten years.............. 30 30 8.37 U.S.Treasury and Government Agency Due within one year............. 310 311 6.13 Due from one-five years......... -- -- -- Due from five-ten years......... -- -- -- Due over ten years.............. -- -- -- Total Securities held for investment.................. $44,019 $43,875 6.42% 34 The following table presents certain information regarding the composition and period to maturity of R&G Financial's held for trading and available for sale mortgage-backed and investment securities portfolio as of the dates indicated below.
December 31, ----------------------------------------------------------------------------- 1999 1998 ------------------------------------------ --------------------------------- Weighted Weighted Amortized Fair Average Amortized Fair Average Cost Value Yield Cost Value Yield ------------- ---------- ---------- ------------ ----------- ---------- (Dollars in Thousands) Mortgage-Backed Securities Available for Sale: GNMA Due within one year............................. $ -- $ -- --% $ -- $ -- --% Due from one-five years......................... -- -- -- -- -- -- Due from five-ten years......................... -- -- -- -- -- -- Due over ten years.............................. 570,749 563,533 6.62 55,159 55,159 6.41 FNMA mortgage-backed securities Due within one year............................. -- -- -- - -- -- Due from one-five years......................... -- -- -- -- -- -- Due from five-ten years......................... 741 719 6.50 -- -- -- Due over ten years.............................. 110,855 109,705 7.15 8,092 8,161 6.96 FHLMC mortgage-backed securities Due within one year............................. -- -- -- -- -- -- Due from one-five years......................... 99 99 8.79 89 91 8.83 Due from five-ten years......................... 1,891 1,841 6.77 240 244 8.99 Due over ten years.............................. 14,586 14,036 6.87 21,369 21,724 6.86 CMO residuals and other mortgage-backed securities (1) Due within one year............................. -- -- -- -- -- -- Due from one-five years......................... 8,886 8,886 12.00 -- -- -- Due from five-ten years......................... -- -- -- -- -- -- Due over ten years.............................. 11,823 13,886 8.07 7,845 9,661 8.125 Investment Securities Available for Sale(1) U.S. Treasury Due within one year............................. 4,998 4,945 4.50 -- -- -- Due from one-five years......................... -- -- -- 4,995 4,991 4.50 Due from five-ten years......................... -- -- -- -- -- -- Due over ten years.............................. -- -- -- -- -- -- U.S. Government & Agencies Due within one year............................. -- -- -- -- -- -- Due from one-five years......................... 133,956 130,950 6.19 38,100 38,106 5.64 Due from five-ten years......................... 92,237 89,444 7.28 5,010 5,000 6.72 Due over ten years.............................. -- -- -- -- -- -- FHLB stock........................................ 32,825 32,825 6.75 11,405 11,405 7.21 -------- ------- ---- ------ ------ ---- $983,646 $970,869 6.75% $152,304 $154,542 6.41% ======= ======= ==== ======= ======= ==== Securities held for trading(2): GNMA certificates................................. $ 43,303 $ 43,564 5.27% $427,915 $443,399 6.69% CMO certificates.................................. -- -- -- -- -- -- CMO residuals(4).................................. -- -- -- 7,134 7,147 8.00 U.S. Treasury Bills............................... -- -- -- -- -- -- --------- ------------ ------- --------------- -------------- ------ $ 43,303 $ 43,564 5.27% $ 435,049 $450,546 6.71% ======== ======== ==== ======== ======= ====
(Footnotes on following page)
December 31, ---------------------------------------- 1997 ---------------------------------------- Weighted Amortized Fair Average Cost Value Yield ----------- ------------ ------------ Mortgage-Backed Securities Available for Sale: GNMA Due within one year............................. $ -- $ -- --% Due from one-five years......................... -- -- -- Due from five-ten years......................... -- -- -- Due over ten years.............................. -- -- -- FNMA mortgage-backed securities Due within one year............................. -- -- -- Due from one-five years......................... -- -- -- Due from five-ten years......................... -- -- -- Due over ten years.............................. 9,468 9,670 7.00 FHLMC mortgage-backed securities Due within one year............................. -- -- -- Due from one-five years......................... 71 70 9.00 Due from five-ten years......................... 360 368 9.38 Due over ten years.............................. 27,104 27,513 6.86 CMO residuals and other mortgage-backed securities (1) Due within one year............................. -- -- -- Due from one-five years......................... -- -- -- Due from five-ten years......................... -- -- -- Due over ten years.............................. 7,007 8,382 8.125 Investment Securities Available for Sale(1) U.S. Treasury Due within one year............................. 773 772 5.22 Due from one-five years......................... 30,010 30,100 5.85 Due from five-ten years......................... -- -- -- Due over ten years.............................. -- -- -- U.S. Government & Agencies Due within one year............................. -- -- -- Due from one-five years......................... 35,145 35,105 6.06 Due from five-ten years......................... 5,023 4,981 6.73 Due over ten years.............................. -- -- -- FHLB stock........................................ 4,906 4,906 6.61 ------- ------- ---- $119,867 $121,867 6.44% ======= ======= ==== Securities held for trading(2): GNMA certificates................................. $367,177 $377,362 6.78% CMO certificates.................................. 16,200 15,228 5.95 CMO residuals(4).................................. 7,630 7,868 8.00 U.S. Treasury Bills............................... 581 581 5.23 ------- -------- ---- $391,588 $401,039 6.77% ======= ======= ====
(Footnotes on following page) 35 - --------------- (1) Comprised of subordinated tranches and residuals from the Bank's 1992 Grantor Trust residuals purchased from the Bank in 1995 from its 1993 CMO Grantor Trust, residuals from R&G Mortgage's CMO Grantor Trusts, and interest-only strips resulting from sales of loans by R&G Mortgage and the Bank. (2) Except for GNMA certificates with a fair value of $1.7 million as of December 31, 1997, all of such securities are held in R&G Mortgage's securities portfolio. A substantial portion of R&G Financial's securities are held in mortgage-backed securities. Mortgage-backed securities (which also are known as mortgage participation certificates or pass-through certificates) represent a participation interest in a pool of single-family or multi-family mortgages, the principal and interest payments on which are passed from the mortgage originators, through intermediaries (generally U.S. Government agencies and government sponsored enterprises) that pool and repackage the participation interests in the form of securities, to investors such as R&G Financial. Such U.S. Government agencies and government sponsored enterprises, which guarantee the payment of principal and interest to investors, primarily include the FHLMC, the FNMA and the GNMA. The FHLMC is a public corporation chartered by the U.S. Government and owned by the 12 Federal Home Loan Banks and federally-insured savings institutions. The FHLMC issues participation certificates backed principally by conventional mortgage loans. The FHLMC guarantees the timely payment of interest and the ultimate return of principal within one year. The FNMA is a private corporation chartered by the U.S. Congress with a mandate to establish a secondary market for conventional mortgage loans. The FNMA guarantees the timely payment of principal and interest on FNMA securities. FHLMC and FNMA securities are not backed by the full faith and credit of the United States, but because the FHLMC and the FNMA are U.S. Government-sponsored enterprises, these securities are considered to be among the highest quality investments with minimal credit risks. The GNMA is a government agency within HUD which is intended to help finance government-assisted housing programs. GNMA securities are backed by FHA-insured and VA-guaranteed loans, and the timely payment of principal and interest on GNMA securities are guaranteed by the GNMA and backed by the full faith and credit of the U.S. Government. Because the FHLMC, the FNMA and the GNMA were established to provide support for low- and middle-income housing, there are limits to the maximum size of loans that qualify for these programs. For example, the FNMA and the FHLMC currently limit their loans secured by a single-family, owner-occupied residence to $252,700. To accommodate larger-sized loans, and loans that, for other reasons, do not conform to the agency programs, a number of private institutions have established their own home-loan origination and securitization programs. Mortgage-backed securities typically are issued with stated principal amounts, and the securities are backed by pools of mortgages that have loans with interest rates that are within a range 36 and have varying maturities. The characteristics of the underlying pool of mortgage, i.e., fixed-rate or adjustable-rate, as well as prepayment risk, are passed on to the certificate holder. The life of a mortgage-backed pass-through security thus approximates the life of the underlying mortgages. R&G Financial's securities portfolio includes CMOs. CMOs have been developed in response to investor concerns regarding the uncertainty of cash flows associated with the prepayment option of the underlying mortgagor and are typically issued by government agencies, government sponsored enterprises and special purpose entities, such as trusts, corporations or partnerships, established by financial institutions or other similar institutions. A CMO can be collateralized by loans or securities which are insured or guaranteed by the FNMA, the FHLMC or the GNMA. In contrast to pass-through mortgage-backed securities, in which cash flow is received pro rata by all security holders, the cash flow from the mortgages underlying a CMO is segmented and paid in accordance with a predetermined priority to investors holding various CMO classes. By allocating the principal and interest cash flows from the underlying collateral among the separate CMO classes, different classes of bonds are created, each with its own stated maturity, estimated average life, coupon rate and prepayment characteristics. Mortgage-backed securities generally increase the quality of R&G Financial's assets by virtue of the insurance or guarantees that back them, are more liquid than individual mortgage loans and may be used to collateralize borrowings or other obligations of R&G Financial. At December 31, 1999, $128.3 million or 16.3% of R&G Financial's mortgage-backed securities was pledged to secure various obligations of R&G Financial (excluding repurchase agreements). The FDIC has issued a statement of policy which states, among other things, that mortgage derivative products (including CMOs and CMO residuals) which possess average life or price volatility in excess of a benchmark fixed rate 30-year mortgage-backed pass-through security are "high-risk mortgage securities," are not suitable investments for depository institutions, and if considered "high risk" at purchase must be carried in the institution's trading account or as assets held for sale, and must be marked to market on a regular basis. In addition, if a security was not considered "high risk" at purchase but was later found to be "high risk" based on the tests, it may remain in the held-to-maturity portfolio as long as the institution has positive intent to hold the security to maturity and has a documented plan in place to manage the high risk. At December 31, 1999, the Bank's CMOs, and interest-only securities and residuals, which had a fair value of $12.0 million, were designated as "high-risk mortgage securities" and classified as available for sale. 37 Sources of Funds General. R&G Financial will consider various sources of funds to fund its investment and lending activities and evaluates the available sources of funds in order to reduce R&G Financial's overall funding costs. Deposits, reverse repurchase agreements, warehouse lines of credit, notes payable, FHLB advances, subordinated capital notes and sales, maturities and principal repayments on loans and securities have been the major sources of funds for use in R&G Financial's lending and investing activities and for other general business purposes. Deposits. Deposits are the major sources of the Bank's funds for lending and other investment purposes. Consumer and commercial deposits are attracted principally from within the Bank's primary market area through the offering of a broad selection of deposit instruments, including passbook, NOW and Super NOW, checking and commercial checking and certificates of deposit ranging in terms from 7 days to 10 years. Included among these deposit products are $531.7 million of certificates of deposit with balances of $100,000 or more, which amounted to 40.0% of the Bank's total deposits at December 31, 1999. Deposit account terms vary according to the minimum balance required, the time periods the funds must remain on deposit and the interest rate, among other factors. The Bank attempts to price its deposits in order to promote deposit growth. The Bank regularly evaluates the internal costs of funds, surveys rates offered by competing institutions, reviews the Bank's cash flow requirements for lending and liquidity and executes rate changes when deemed appropriate. The Bank does not obtain funds through brokers on a regular basis, although at December 31, 1999 it held $127.9 million of deposits acquired from money desks in the United States. The principal methods currently used by the Bank to attract deposit accounts include offering a wide variety of services and accounts and competitive interest rates. The Bank utilizes traditional marketing methods to attract new customers and savings deposits, including advertising. 38 The following table presents the average balance of each deposit type and the average rate paid one each deposit type of the Bank for the periods indicated.
December 31, ---------------------------------------------------------------------------------- 1999 1998 1997 -------------------------- ------------------------ -------------------------- Average Average Average Average Average Average Balance Rate Paid Balance Rate Paid Balance Rate Paid ----------- ----------- ------------- ---------- ----------- ----------- (Dollars in Thousands) Passbook...................... $112,107 3.74% $88,754 3.75% $ 75,958 3.79% NOW and Super NOW accounts................... 126,300 3.95 99,336 3.93 86,843 3.84 Checking...................... 41,128 -- 39,052 -- 23,859 -- Commercial checking(1)........ 111,146 -- 77,329 -- 46,301 -- Certificates of deposit....... 762,856 5.83 522,016 5.98 435,743 6.02 ------- ---- ------- ---- --------- ---- Total deposits.............. $1,153,537 4.65% $826,487 4.65% $668,704 4.85% ========= ==== ======= ==== ======= ====
- ---------------- (1) Includes $92.4 million, $109.9 million and $50.2 million of escrow funds of R&G Mortgage at December 31, 1999, 1998 and 1997, respectively, maintained with the Bank. The following table sets forth the maturities of the Bank's certificates of deposit having principal amounts of $100,000 or more at December 31, 1999. Amount ----------------- (In Thousands) Certificates of deposit maturing: Three months or less........................... $117,047 Over three through six months.................. 111,089 Over six through twelve months................. 210,528 Over twelve months............................. 93,050 -------- Total........................................ $531,714 ======= Borrowings. R&G Financial's business requires continuous access to various funding sources, both short and long-term. R&G Mortgage's primary source of short-term funds is through sales of securities to investment dealers under agreements to repurchase ("reverse repurchase agreements"). The Bank also from time to time utilizes reverse repurchase agreements when they represent a competitive short-term funding source. In a reverse repurchase agreement transaction, R&G Financial will generally sell a mortgage-backed security agreeing to repurchase either the same or a substantially identical security on a specified later date (generally not more than 90 days) at a price less than the original sales price. The difference in the sale price and purchase price is the cost of the use of the proceeds. The mortgage-backed securities underlying the agreements are delivered to the dealers who arrange the transactions. For agreements in which R&G Financial has agreed to repurchase substantially identical securities, the dealers may sell, loan or otherwise dispose of R&G 39 Financial's securities in the normal course of their operations; however, such dealers or third party custodians safe-keep the securities which are to be specifically repurchased by R&G Financial. Reverse repurchase agreements represent a competitive cost funding source for R&G Financial. Nevertheless, R&G Financial is subject to the risk that the lender may default at maturity and not return the collateral. The amount at risk is the value of the collateral which exceeds the balance of the borrowing. In order to minimize this potential risk, R&G Financial only deals with large, established investment brokerage firms when entering into these transactions. Reverse repurchase transactions are accounted for as financing arrangements rather than as sales of such securities, and the obligations to repurchase such securities is reflected as a liability in R&G Financial's Consolidated Financial Statements. As of December 31, 1999, R&G Financial had $731.3 million of reverse repurchase agreements outstanding, $404.3 million of which represented borrowings of R&G Mortgage. At December 31, 1999, the weighted average interest rate on R&G Financial's reverse repurchase agreements amounted to 5.92%. R&G Financial's loan originations are also funded by borrowings under various warehouse lines of credit provided by various commercial banks ("Warehouse Lines"). At December 31, 1999, R&G Financial was permitted to borrow under such Warehouse Lines up to $223.4 million, $48.5 million of which was drawn upon and outstanding as of such date. The Warehouse Lines are used by the Company to fund loan commitments and must generally be repaid within 180 days after the loan is closed or when payment from the sale of the funded loan is received, whichever occurs first. Until such sale closes, the Warehouse Lines provide that the funded loan is pledged to secure the outstanding borrowings. The Warehouse Lines are also collateralized by a general assignment of mortgage payments receivable and an assignment of certain mortgage servicing rights. Certain of these warehousing lines of credit impose restrictions with respect to the maintenance of minimum levels of net worth and working capital and limitations on the amount of indebtedness and dividends which may be declared. Management of R&G Financial believes that as of December 31, 1999, it was in compliance with all of such covenants and restrictions and does not anticipate that such covenants and restrictions will limit its operations. The interest rate on funds borrowed pursuant to the Warehouse Lines is based on Libor rates plus a negotiated amount. By maintaining compensating balances, the Company is able to borrow funds under the Warehouse Lines at a lower interest rate than would otherwise apply. These compensating balances are comprised of a portion of the escrow accounts maintained by the Company for principal and interest payments and related tax and insurance payments on loans its services. At December 31, 1999, the weighted average interest rate being paid by the Company under its Warehouse Lines amounted to 6.80%. Although the Bank's primary source of funds is deposits, the Bank also borrows funds on both a short and long-term basis. The Bank actively utilizes 936 Notes as a primary borrowing source. The 936 Notes have original terms to maturity of between five and seven years and bear interest payable quarterly for variable interest rate notes and semiannually for fixed interest rate notes. The Bank is able to obtain such low cost funds by investing the proceeds in eligible activities as proscribed under Puerto Rico law, which provide tax advantages under Puerto Rico tax laws and under U.S. federal tax laws for U.S. corporations which are operating in Puerto Rico pursuant to 40 Section 936 of the Code. See " - Mortgage Banking Activities - Puerto Rico Secondary Mortgage Market and Favorable Tax Treatment." At December 31, 1999, $15.0 million of the 936 Notes were secured by marketable securities, while $45.5 million were secured by standby letters of credit issued by the FHLB of New York (which are, in turn, secured by first mortgage loans, securities and cash deposits). The 936 Notes contain certain provisions which indemnify the holders thereof from the federal tax liability which would be incurred, plus any penalties and interest, if the Bank did not invest the proceeds as required in eligible activities, and also provide for a "gross up" provision which permits the Bank to continue the obligation at an adjusted interest rate based on LIBOR in the event the interest on the 936 Notes is subject in whole or in part to federal and/or Puerto Rico income tax. At December 31, 1999, the Bank had $60.5 million of 936 Notes outstanding, $25.0 million of which mature in 2000, and $35.5 million of which mature in 2001. The Bank obtains both fixed-rate and variable-rate short-term and long-term advances from the FHLB of New York upon the security of certain of its residential first mortgage loans, securities and cash deposits, provided certain standards related to the credit-worthiness of the Bank have been met. FHLB of New York advances are available for general business purposes to expand lending and investing activities. Advances from the FHLB of New York are made pursuant to several different credit programs, each of which has its own interest rate and range of maturities. At December 31, 1999, the Bank had access to $645.8 million in advances from the FHLB of New York, and had 26 FHLB of New York advances aggregating $384.0 million outstanding as of such date, which mature at various dates commencing in January 3, 2000 through December 18, 2003 and have a weighted average interest rate of 5.75%. In addition, at December 31, 1999, the Bank maintained $47.1 million in standby letters of credit with the FHLB of New York, which secured $45.5 million of outstanding 936 Notes payable. At December 31, 1999, the Bank had pledged specific collateral aggregating $504.9 million to the FHLB of New York under its advances program and to secure the letters of credit. The Bank maintains collateral with the FHLB of New York in excess of applicable requirements in order to facilitate any necessary additional borrowings by the Bank in the future. 41 The following table sets forth certain information regarding the short-term borrowings of R&G Financial at or for the dates indicated.
At or For the Year Ended December 31, ---------------------------------------------------- 1999 1998 1997 ---------------- ------------------ --------------- (Dollars in Thousands) R&G Mortgage: Securities sold under agreements to repurchase: Average balance outstanding....................... $365,177 $354,786 $187,682 Maximum amount outstanding at any month-end during the period............................... 493,527 415,960 385,054 Balance outstanding at end of period.............. 493,527 415,960 385,054 Average interest rate during the period........... 5.52% 5.73% 6.03% Average interest rate at end of period............ 6.15% 5.46% 5.85% Notes Payable: Average balance outstanding....................... $127,565 $102,047 $66,405 Maximum amount outstanding at any month-end during the period............................... 154,922 152,060 93,523 Balance outstanding at end of period.............. 56,907 107,648 24,353 Average interest rate during the period........... 6.67% 7.07% 6.03% Average interest rate at end of period............ 6.89% 6.43% 5.85% The Bank: FHLB of New York advances: Average balance outstanding....................... $222,575 $94,025 $23,524 Maximum amount outstanding at any month-end during the period............................... 384,000 160,100 42,200 Balance outstanding at end of period.............. 384,000 121,000 42,200 Average interest rate during the period........... 5.31% 5.55% 5.80% Average interest rate at end of period............ 5.75% 5.25% 6.03% Securities sold under agreements to repurchase: Average balance outstanding....................... $187,857 $55,915 $39,090 Maximum amount outstanding at any month-end during the period............................... 327,009 79,513 63,088 Balance outstanding at end of period.............. 327,009 75,222 48,080 Average interest rate during the period........... 5.77% 5.57% 5.55% Average interest rate at end of period............ 5.73% 5.35% 5.56% Notes Payable: Average balance outstanding....................... $84,463 $84,100 $85,034 Maximum amount outstanding at any month-end during the period............................... 84,100 84,100 86,500 Balance outstanding at end of period.............. 75,800 84,100 84,100 Average interest rate during the period........... 6.53% 6.45% 6.60% Average interest rate at end of period............ 6.00% 5.74% 5.97%
42 Trust and Investment Services R&G Financial also provides trust and investment services through the Bank's Trust Department. Services offered include custodial services, the administration of IRA accounts and the sale to investors of mortgage-backed securities guaranteed by GNMA. As of December 31, 1999, the Bank's Trust Department administered approximately 7,235 trust accounts, with aggregate assets of $31.2 million as of such date. In addition, during the year ended December 31, 1999, the Bank's Trust Department sold $45.8 million of GNMA mortgage-backed securities. The Bank receives fees dependent upon the level and type of service provided. The administration of the Bank's Trust Department is performed by the Trust Committee of the Board of Directors of the Bank. Personnel As of December 31, 1999, R&G Financial (on a consolidated basis) had 1,293 full-time employees and 73 part-time employees. The employees are not represented by a collective bargaining agreement and R&G Financial believes that it has good relations with its employees. Regulation Set forth below is a brief description of certain laws and regulations which, together with the descriptions of laws and regulations contained elsewhere herein, are deemed material to an investor's understanding of the extent to which R&G Financial, R&G Mortgage and the Bank are regulated. The description of these laws and regulations, as well as descriptions of laws and regulations contained elsewhere herein, does not purport to be complete and is qualified in its entirety by reference to applicable laws and regulations. R&G Financial General. R&G Financial is a registered bank holding company pursuant to the Bank Holding Company Act of 1956, as amended (the "BHCA"). The Company became a bank holding company in July 1996 through its acquisition of Mr. Victor Galan's 88.1% interest in the Bank (which excludes his required qualifying shares as a director of the Bank) in exchange for R&G Financial's Class A Common Stock. R&G Financial acquired the remaining interest in the Bank in December 1996. R&G Financial, as a bank holding company, is subject to regulation and supervision by the Federal Reserve Board and the OCFI. R&G Financial is required to file annually a report of its operations with, and is subject to examination by, the Federal Reserve Board and the OCFI. BHCA Activities and Other Limitations. The BHCA prohibits a bank holding company from acquiring direct or indirect ownership or control of more than 5% of the voting shares of any bank, or increasing such ownership or control of any bank, without prior approval of the Federal Reserve Board. No approval under the BHCA is required, however, for a bank holding company 43 already owning or controlling 50% of the voting shares of a bank to acquire additional shares of such bank. The BHCA also prohibits a bank holding company, with certain exceptions, from acquiring more than 5% of the voting shares of any company that is not a bank and from engaging in any business other than banking or managing or controlling banks. Under the BHCA, the Federal Reserve Board is authorized to approve the ownership of shares by a bank holding company in any company, the activities of which the Federal Reserve Board has determined to be so closely related to banking or to managing or controlling banks as to be a proper incident thereto. In making such determinations, the Federal Reserve Board is required to weigh the expected benefit to the public, such as greater convenience, increased competition or gains in efficiency, against the possible adverse effects, such as undue concentration of resources, decreased or unfair competition, conflicts of interest or unsound banking practices. The Federal Reserve Board has by regulation determined that certain activities are closely related to banking within the meaning of the BHCA. These activities include operating a mortgage company, such a R&G Mortgage, finance company, credit card company, factoring company, trust company or savings association; performing certain data processing operations; providing limited securities brokerage services; acting as an investment or financial advisor; acting as an insurance agent for certain types of credit-related insurance; leasing personal property on a full-payout, non-operating basis; providing tax planning and preparation services; operating a collection agency; and providing certain courier services. The Federal Reserve Board also has determined that certain other activities, including real estate brokerage and syndication, land development, property management and underwriting of life insurance not related to credit transactions, are not closely related to banking and a proper incident thereto. Limitations on Transactions with Affiliates. Transactions between financial institutions and any affiliate are governed by Sections 23A and 23B of the Federal Reserve Act. An affiliate of a financial institution is any company or entity which controls, is controlled by or is under common control with the financial institution. In a holding company context, the parent holding company of a financial institution (such as R&G Financial) and any companies which are controlled by such parent holding company are affiliates of the financial institution. Generally, Sections 23A and 23B (i) limit the extent to which the financial institution or its subsidiaries may engage in "covered transactions" with any one affiliate to an amount equal to 10% of such institution's capital stock and surplus, and contain an aggregate limit on all such transactions with all affiliates to an amount equal to 20% of such capital stock and surplus and (ii) require that all such transactions be on terms substantially the same, or at least as favorable, to the institution or subsidiary as those provided to a non-affiliate. The term "covered transaction" includes the making of loans, purchase of assets, issuance of a guarantee and other similar transactions. In addition to the restrictions imposed by Sections 23A and 23B, no financial institution may (i) loan or otherwise extend credit to an affiliate, except for any affiliate which engages only in activities which are permissible for bank holding companies, or (ii) purchase or invest in any stocks, bonds, debentures, notes or similar obligations of any affiliate, except for affiliates which are subsidiaries of the financial institution. 44 In addition, Sections 22(h) and (g) of the Federal Reserve Act places restrictions on loans to executive officers, directors and principal stockholders. Under Section 22(h), loans to a director, an executive officer and to a greater than 10% stockholder of a financial institution, and certain affiliated interests of either, may not exceed, together with all other outstanding loans to such person and affiliated interests, the financial institution's loans to one borrower limit (generally equal to 15% of the institution's unimpaired capital and surplus). Section 22(h) also requires that loans to directors, executive officers and principal stockholders be made on terms substantially the same as offered in comparable transactions to other persons unless the loans are made pursuant to a benefit or compensation program that (i) is widely available to employees of the institution and (ii) does not give preference to any director, executive officer or principal stockholder, or certain affiliated interests of either, over other employees of the savings institutions. Section 22(h) also requires prior board approval for certain loans. In addition, the aggregate amount of extensions of credit by a financial institution to all insiders cannot exceed the institution's unimpaired capital and surplus. Furthermore, Section 22(g) places additional restrictions on loans to executive officers. R&G Mortgage and the Bank are parties to various agreements which address how each would conduct itself in specifically delineated affiliated transactions (the "Affiliated Transaction Agreements"). The Affiliated Transaction Agreements include a Master Purchase, Servicing and Collections Agreement (the "Master Purchase Agreement"), a Master Custodian Agreement, a Master Production Agreement, a Securitization Agreement and a Data Processing Computer Service Agreement. The terms of these agreements were negotiated at arm's length on the basis that they are substantially the same, or at least as favorable to the Bank, as those prevailing for comparable transactions with, or involving, other nonaffiliated companies. Pursuant to the Master Production Agreement, the Bank, on a monthly basis, determines its loan production targets and goals (the "Loan Production Goals") and R&G Mortgage assists the Bank to reach its Loan Production Goals by, among other things: (i) advertising, promoting and marketing to the general public; (ii) interviewing prospective borrowers and initial processing of loan applications, consistent with the Bank's underwriting guidelines and Loan Production Goals previously established; and (iii) providing personnel and facilities with respect to the execution of any loan agreement approved by the Bank. In exchange for these services, the Bank remits to R&G Mortgage a percentage of the processing or originating fees charged to the borrowers under loan agreements, as set forth in the agreements. See "-Lending Activities of the Bank - Originations, Purchases and Sales of Loans." The Master Purchase Agreement provides for the sale by the Bank to R&G Mortgage of the servicing rights to all first and second mortgage loans secured by residential properties which become part of the Bank's loan portfolio. R&G Mortgage services all other loans held in the Bank's loan portfolio (including single-family residential loans retained by the Bank and certain commercial real estate loans), although R&G Mortgage does not actually acquire such servicing rights. The Master Purchase Agreement further provides that R&G Mortgage exclusively will service such loans and that the Bank will process payments of such loans, all according to a fee schedule. See " - Mortgage Banking Activities - - Loan Originations, Purchases and Sales of Loans." 45 Under the Securitization Agreement, R&G Mortgage renders securitization services with respect to the pooling of some of the Bank's mortgage loans into mortgage-backed securities. With respect to securitization services rendered, the Bank pays a securitization fee of 25 basis points. The Master Custodian Agreement provides that the Bank shall be the custodial agent for R&G Mortgage of certain documentation related to the issuance by R&G Mortgage of GNMA, FNMA or FHLMC mortgage-backed certificates. In consideration of these services, the Bank receives a fee for each mortgage note included in a mortgage-backed certificate per year for which it acts as custodian, as set forth in the agreement. See "- Mortgage Banking Activities - Loan Originations, Purchases and Sales of Loans." Capital Requirements. The Federal Reserve Board has adopted capital adequacy guidelines pursuant to which it assesses the adequacy of capital in examining and supervising a bank holding company and in analyzing applications to it under the BHCA. The Federal Reserve Board capital adequacy guidelines generally require bank holding companies to maintain total capital equal to 8% of total risk-adjusted assets, with at least one-half of that amount consisting of Tier I or core capital and up to one-half of that amount consisting of Tier II or supplementary capital. Tier I capital for bank holding companies generally consists of the sum of common stockholders' equity and perpetual preferred stock (subject in the case of the latter to limitations on the kind and amount of such stocks which may be included as Tier I capital), less goodwill and, with certain exceptions, intangibles. Tier II capital generally consists of hybrid capital instruments; perpetual preferred stock which is not eligible to be included as Tier I capital; term subordinated debt and intermediate-term preferred stock; and, subject to limitations, general allowances for loan losses. Assets are adjusted under the risk-based guidelines to take into account different risk characteristics, with the categories ranging from 0% (requiring no additional capital) for assets such as cash to 100% for the bulk of assets which are typically held by a bank holding company, including multi-family residential and commercial real estate loans, commercial business loans and consumer loans. Single-family residential first mortgage loans which are not past-due (90 days or more) or non-performing and which have been made in accordance with prudent underwriting standards are assigned a 50% level in the risk-weighing system, as are certain privately-issued mortgage-backed securities representing indirect ownership of such loans. Off-balance sheet items also are adjusted to take into account certain risk characteristics. In addition to the risk-based capital requirements, the Federal Reserve Board requires bank holding companies to maintain a minimum leverage capital ratio of Tier I capital to total assets of 3.0%. Total assets for this purpose does not include goodwill and any other intangible assets and investments that the Federal Reserve Board determines should be deducted from Tier I capital. The Federal Reserve Board has announced that the 3.0% Tier I leverage capital ratio requirement is the minimum for the top-rated bank holding companies without any supervisory, financial or operational weaknesses or deficiencies or those which are not experiencing or anticipating significant growth. Other bank holding companies are expected to maintain Tier I leverage capital ratios of at least 4.0% to 5.0% or more, depending on their overall condition. R&G Financial is in compliance with the above-described Federal Reserve Board regulatory capital requirements. 46 Financial Support of Affiliated Institutions. Under Federal Reserve Board policy, R&G Financial will be expected to act as a source of financial strength to the Bank and to commit resources to support the Bank in circumstances when it might not do so absent such policy. The legality and precise scope of this policy is unclear, however, in light of recent judicial precedent. In addition, any capital loans by a bank holding company to a subsidiary bank is subordinate in right of payment to deposits and to certain other indebtedness of such subsidiary bank. In the event of a bank holding company's bankruptcy, any commitment by the bank holding company to a federal bank regulatory agency to maintain the capital of a subsidiary bank will be assumed by the bankruptcy trustee and entitled to a priority of payment. Recent Legislation. On November 12, 1999, the President signed the Gramm-Leach-Bliley Financial Modernization Act of 1999 into law. The Modernization Act will (i) allow bank holding companies meeting management, capital and Community Reinvestment Act standards to engage in a substantially broader range of nonbanking activities than currently is permissible, including insurance underwriting and making merchant banking investments in commercial and financial companies; if a bank holding company elects to become a financial holding company, it files a certification, effective in 30 days, and thereafter may engage in certain financial activities without further approvals; (ii) allow insurers and other financial services companies to acquire banks; (iii) remove various restrictions that currently apply to bank holding company ownership of securities firms and mutual fund advisory companies; and (iv) establish the overall regulatory structure applicable to bank holding companies that also engage in insurance and securities operations. This part of the Modernization Act will become effective on March 13, 2000. On January 19, 2000, the Federal Reserve Board adopted an interim rule allowing bank holding companies to submit certifications by February 15 to become financial holding companies on March 13, 2000. The Federal Reserve Board also provided regulations on procedures which would be used against financial holding companies which have depository institutions which fall out of compliance with the management or capital criteria. Only financial holding companies can own insurance companies and engage in merchant banking. The Modernization Act also modifies other current financial laws, including laws related to financial privacy and community reinvestment. The Bank General. The Bank is incorporated under the Puerto Rico Banking Act of 1933, as amended (the "Puerto Rico Banking Law") and is subject to extensive regulation and examination by the OCFI, the FDIC and certain requirements established by the Federal Reserve Board. The federal and Puerto Rico laws and regulations which are applicable to banks regulate, among other things, the scope of their business, their investments, their reserves against deposits, the timing of the availability of deposited funds and the nature and amount of and collateral for certain loans. There are periodic examinations by the OCFI and the FDIC to test the Bank's compliance with various regulatory requirements. This regulation and supervision establishes a comprehensive framework of activities in which an institution can engage and is intended primarily for the protection of the 47 insurance fund and depositors. The regulatory structure also gives the regulatory authorities extensive discretion in connection with their supervisory and enforcement activities and examination policies, including policies with respect to the classification of assets and the establishment of adequate loan loss reserves for regulatory purposes. Any change in such regulation, whether by the OCFI, the FDIC or the U.S. Congress or Puerto Rico legislature could have a material adverse impact on R&G Financial, R&G Mortgage, the Bank and their operations. FDIC Insurance Premiums. The Bank currently pays deposit insurance premiums to the FDIC based on a risk-based assessment system established by the FDIC for all Savings Association Insurance Fund ("SAIF") and Bank Insurance Fund ("BIF") member institutions. Under applicable regulations, institutions are assigned to one of three capital groups which is based solely on the level on an institution's capital: "well capitalized," "adequately capitalized" and "undercapitalized". These three groups are then divided into three subgroups which reflect varying levels of supervisory concern, from those which are considered to be healthy to those which are considered to be of substantial supervisory concern. The matrix so created results in nine assessment risk classifications, with rates ranging from .0% for well capitalized, healthy institutions to .27% for undercapitalized institutions with substantial supervisory concerns. The Bank was classified as a "well-capitalized" institution as of December 31, 1999. An additional assessment is added to the regular SAIF- assessment and the regular BIF-assessment, respectively, until December 31, 1999, in order to cover Financing Corporation debt service payments. Such additional assessments amount to 6.3 basis points and 1.3 basis points for SAIF insured deposits and BIF insured deposits, respectively. The FDIC may terminate the deposit insurance of any insured depository institution, including the Bank, if it determines after a hearing that the institution has engaged or is engaging in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations, or has violated any applicable law, regulation, order or any condition imposed by an agreement with the FDIC. It also may suspend deposit insurance temporarily during the hearing process for the permanent termination of insurance, if the institution has no tangible capital. If insurance of accounts is terminated, the accounts at the institution at the time of the termination, less subsequent withdrawals, shall continue to be insured for a period of six months to two years, as determined by the FDIC. Management is aware of no existing circumstances which would result in termination of the Bank's deposit insurance. Capital Requirements. The FDIC has promulgated regulations and adopted a statement of policy regarding the capital adequacy of state-chartered banks which, like the Bank, will not be members of the Federal Reserve System. These requirements are substantially similar to those adopted by the Federal Reserve Board regarding bank holding companies, as described above. 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 increases the minimum Tier I leverage ratio for such other banks to 4.0% to 5.0% or more. Under the FDIC's regulation, 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 48 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. The FDIC and the other federal banking agencies have published a joint policy statement that describes the process the banking agencies will use to measure and assess the exposure of a bank's net economic value to changes in interest rates. The FDIC and other federal banking agencies have also adopted a joint policy statement on interest rate risk policy. Because market conditions, bank structure, and bank activities vary, the agencies concluded that each bank needs to develop its own interest rate risk management program tailored to its needs and circumstances. The policy statement describes prudent principles and practices that are fundamental to sound interest rate risk management, including appropriate board and senior management oversight and a comprehensive risk management process that effectively identifies, measures, monitors and controls risks. Activities and Investments. The activities and equity investments of FDIC-insured, state-chartered banks (which under the Federal Deposit Insurance Act includes banking institutions incorporated under the laws of Puerto Rico) are generally limited to those that are permissible for national banks. Under regulations dealing with equity investments, an insured state bank generally may not directly or indirectly acquire or retain any equity investment of a type, or in an amount, that is not permissible for a national bank. An insured state bank is not prohibited from, among other things, (i) acquiring or retaining a majority interest in a subsidiary, (ii) investing as a limited partner in a partnership the sole purpose of which is direct or indirect investment in the acquisition, rehabilitation or new construction of a qualified housing project, provided that such limited partnership investments may not exceed 2% of the bank's total assets, (iii) acquiring up to 10% of the voting stock of a company that solely provides or reinsures directors', trustees' and officers' liability insurance coverage or bankers' blanket bond group insurance coverage for insured depository institutions, and (iv) acquiring or retaining the voting shares of a depository institution if certain requirements are met. In addition, an insured state-chartered bank may not, directly, or indirectly through a subsidiary, engage as "principal" in any activity that is not permissible for a national bank unless the FDIC has determined that such activities would pose no risk to the 49 insurance fund of which it is a member and the bank is in compliance with applicable regulatory capital requirements. Any insured state-chartered bank directly or indirectly engaged in any activity that is not permitted for a national bank must cease the impermissible activity. Puerto Rico Banking Law. As a commercial bank organized under the laws of the Commonwealth, the Bank is subject to supervision, examination and regulation by the OCFI pursuant to the Puerto Rico Banking Law. The Puerto Rico Banking Law requires that at least ten percent (10%) of the yearly net income of the Bank be credited annually to a reserve fund. This apportionment shall be done every year until the reserve fund shall be equal to the sum of the Bank's paid-in common and preferred stock capital. As of December 31, 1999, the Bank had credited $5.1 million to such reserve fund. The Puerto Rico Banking Law also provides that when the expenditures of a bank are greater than the receipts, the excess of the former over the latter shall be charged against the undistributed profits of the bank, and the balance, if any, shall be charged against the reserve fund, as a reduction thereof. If there is no reserve fund sufficient to cover such balance in whole or in part, the outstanding amount shall be charged against the capital account and no dividend shall be declared until said capital has been restored to its original amount and the reserve fund to 20% of the original capital. In addition, every bank is required by the Puerto Rico Banking Law to maintain a legal reserve which shall not be less than 20% of its demand liabilities, except government deposits (federal, state and municipal) which are secured by actual collateral. The reserve is required to be made up of any of the following instruments or any combination of them: (i) legal tender of the United States; (ii) checks on banks or trust companies located in any part of Puerto Rico, to be presented for collection during the day following that on which they are received; (iii) money deposited in other banks provided said deposits are authorized by the Commissioner, subject to immediate collection; and (iv) federal funds sold and securities purchased under agreements to resell, provided such funds are repaid on or prior to the close of the next business day. Under the Puerto Rico Banking Law, the Bank is permitted to make loans to any one person, firm, partnership or corporation, up to an aggregate amount of fifteen percent (15%) of the paid-in capital and reserve fund of the Bank, plus 15% of 50% of undistributed earnings for "well capitalized" institutions. As of December 31, 1999, the legal lending limit for the Bank under these provisions was approximately $20.0 million and its maximum extension of credit to any one borrower was $17.2 million. If such loans are secured by collateral worth at least twenty-five percent (25%) more than the amount of the loan, the aggregate maximum amount may reach one-third of the paid-in capital of the Bank, plus its reserve fund. There are no restrictions on the amount of loans to subsidiaries of banks, or loans that are secured by mortgages by real estate, or loans that are wholly secured by bonds, securities and other evidences of indebtedness of the United States or the Commonwealth, or by current debt bonds, not in default, of municipalities or instrumentalities of the Commonwealth. Loans to non-banking affiliates of the Bank, are subject however to the lending limitations set forth in Sections 23A and 23B of the Federal Reserve Act. The Puerto Rico Banking Law also authorizes the Bank to conduct certain financial and related activities directly or through subsidiaries. The Puerto Rico Banking Law also prohibits Puerto Rico banks from making loans secured by their own stock, and from purchasing their own stock, unless 50 such purchase is necessary to prevent losses because of a debt previously contracted in good faith. The stock so purchased by the bank must be sold in a private or public sale within one year from the date of purchase. The Bank may repurchase its own stock for the purpose of reducing its capital, subject to the approval of the OCFI. The rate of interest that the Bank may charge on mortgage and other types of loans to individuals in Puerto Rico is subject to Puerto Rico's usury laws. Such laws are administered by the Financing Board, which consists of the Commissioner of Financial Institutions, the President of the Government Development Bank, the Chairman of the Planning Board and the Puerto Rico Secretaries of Commerce, Treasury and Consumer Affairs and three representatives from the private sector. The Financing Board promulgates regulations which specify maximum rates on various types of loans to individuals. The Financing Board eliminated the regulations that set forth the maximum interest rates that could be charged on consumer loans, mortgage loans and commercial loans. The origination charges on residential mortgage loans may not exceed 6% of the loan amount. Regulatory Enforcement Authority. Applicable banking laws include substantial enforcement powers available to federal and Puerto Rico banking regulators. This enforcement authority includes, among other things, the ability to assess civil money penalties, to issue cease-and-desist or removal orders and to initiate injunctive actions against banking organizations and institution-affiliated parties, as defined. In general, these enforcement actions may be initiated for violations of laws and regulations and unsafe or unsound practices. Other actions or inactions may provide the basis for enforcement action, including misleading or untimely reports filed with regulatory authorities. R&G Mortgage The mortgage banking business conducted by R&G Mortgage is subject to the rules and regulations of FHA, VA, FNMA, FHLMC and GNMA with respect to originating, processing, selling and servicing mortgage loans and the issuance and sale of mortgage-backed securities. Those rules and regulations, among other things, prohibit discrimination and establish underwriting guidelines which include provisions for inspections and appraisals, require credit reports on prospective borrowers and fix maximum loan amounts and, with respect to VA loans, fix maximum interest rates. Moreover, lenders are required annually to submit to FNMA, FHA, FHLMC, GNMA and VA audited financial statements, and each regulatory entity has its own financial requirements. R&G Mortgage's 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's mortgage loan production activities are subject to the Federal Truth-in-Lending Act and Regulation Z promulgated thereunder. The Truth-in-Lending Act contains disclosure requirements designed to provide consumers with uniform, understandable information with respect to the terms and conditions of loans and credit transactions in order to give them the ability to compare credit terms. The Truth-in-Lending Act provides consumers a three day right to cancel 51 certain credit transactions, including any refinance mortgage or junior mortgage loan on a consumer's primary residence. R&G Mortgage is required to comply with the Equal Credit Opportunity Act of 1974, as amended ("ECOA"), and Regulation B promulgated thereunder, which prohibit creditors from discriminating against applicants on the basis of race, color, sex, age or marital status, and restrict creditors from obtaining certain types of information from loan applicants. It also requires certain disclosures by lenders regarding consumer rights and requires lenders to advise applicants of the reasons for any credit denial. In instances where the applicant is denied credit or the rate or charge for loan increases as a result of information obtained from a consumer credit agency, another statute, The Fair Credit Reporting Act of 1970, as amended, requires the lenders to supply the applicant with the name and address of the reporting agency. The Federal Real Estate Settlement Procedures Act ("RESPA") imposes, among other things, limits on the amount of funds a borrower can be required to deposit with R&G Mortgage in any escrow account for the payment of taxes, insurance premiums or other charges. R&G Mortgage is also subject to regulation by the OCFI, with respect to, among other things, licensing requirements and the record-keeping, examination and reporting requirements of the Puerto Rico Mortgage Banking Institutions Law (the "Mortgage Banking Law"). R&G Mortgage is licensed by the OCFI as a mortgage banking institution in Puerto Rico. Such authorization to act as a mortgage banking institution must be renewed as of January 1 of each year. In the past, R&G Mortgage has not had any difficulty in renewing its authorization to act as a mortgage banking institution, and management is unaware of any existing practices, conditions or violations which would result in R&G Mortgage being unable to receive such authorization in the future. The Mortgage Banking Law requires the prior approval of the OCFI for the acquisition of control of any mortgage banking institution licensed under the Mortgage Banking Law. For purposes of the Mortgage Banking Law, the term "control" means the power to direct or influence decisively, directly or indirectly, the management or policies of a mortgage banking institution. The Mortgage Banking Law provides that a transaction that results in the holding of less than 10% of the outstanding voting securities of a mortgage banking institution shall not be considered a change of control. Pursuant to the Mortgage Banking Law, upon receipt of notice of a proposed transaction that may result in change of control, the OCFI is obligated to make such inquires as it deems necessary to review the transaction. Under the Mortgage Banking Law, the determination of the OCFI whether or not to authorize a proposed change of control is final and non-appealable. As is the case with the Bank, the rate of interest that R&G Mortgage may charge on mortgage loans to individuals is subject to Puerto Rico's usury laws. Such laws are administered by the Financing Board which promulgates regulations that specify maximum rates on various types of loans to individuals. Regulation 26-A promulgated by the Financing Board fixes the maximum rate (which is adjusted on a weekly basis) which may be charged on residential first mortgage loans. 52 Effective April 1996, the Financing Board eliminated the regulations that set forth the maximum interest rates that could be charged on non-federal government guaranteed loans. Item 2. Properties. The Company's principal executive office is located at 280 Jesus T. Pinero Avenue, Hato Ray, San Juan, Puerto Rico 00918. The following table sets forth the net book value (including leasehold improvements and equipment) and certain other information with respect to the offices and other properties of R&G Financial at December 31, 1999, all of which properties are leased.
Net Book Value Description/Address Lease Term Expiration of Property - ----------------------------------------------------------------------------------- ------------------- (In Thousands) The Bank: Hato Rey Branch(1)(2)(3) December 31, 2003 $1,548 280 Jesus T. Pinero Avenue One (1) five year option Hato Rey, PR 00919 Los Jardines Branch September 4, 2000 114 Los Jardines de Guaynabo Shopping Center PR Road No. 20 Guaynabo, PR 00969 San Patricio Branch(4) June 30, 2013 1,392 San Patricio Plaza Ortegon Street Guaynabo, PR 00969 Bayamon Branch(2)(3) May 31, 2001 206 42-43 Betances Avenue One (1) ten year option Hermanas Davila Bayamon, PR 00959 Bayamon East Branch(4) January 10, 2001 363 Road #174, Lot 100 Two (2) five year options Minillas Industrial Park Bayamon, PR 00959 Arecibo Branch(3) December 31, 2001 144 Marginal Vista Azul Two (2) five year options Corner San Daniel Avenue Arecibo, PR 00612 Manati Branch(3) August 8, 2009 415 Plaza Puerta del Sol Four (4) five year options PR Road No. 2, Km. 49.7 Manati, PR 00674
53
Net Book Value Description/Address Lease Term Expiration of Property - ----------------------------------------------------------------------------------- ------------------- Carolina Branch(4) July 31, 2003 248 65th Infantry Avenue Corner San Marcos Street Carolina, PR 00985 Trujillo Alto Branch(4) October 31, 2004 134 Trujillo Alto Shopping Center Trujillo Alto, PR 00976 Santurce Branch(4) April 30, 2005 312 1077 Ponce de Leon Avenue Two (2) six year options Santurce, PR 00917 Laguna Gardens Branch(4) April 30, 2004 113 Laguna Gardens Shopping Center Isla Verde Carolina, PR 00979 Plaza Carolina Branch(4) May 31, 2000 147 Plaza Carolina Mall Carolina, PR 00985 Norte Shopping Branch(4) April 30, 2000 140 Norte Shopping Center Two (2) five year options Baldorioty de Castro Avenue San Juan, PR 00907 Vega Baja Branch(4) May 31, 2003 321 Cabo Caribe Development One (1) five year option PR Road No. 2, Marginal Vega Baja, PR 00693 Mayaguez Branch(3) April 30, 2002 600 McKinley Street Three (3) five year options Corner Dr. Vady Mayaguez, PR 00680 Fajardo I Branch(2)(4) March 15, 2003 354 Garrido Morales Street Two (2) five year options Corner San Rafael Fajardo, PR 00738 Martinez Nadal Branch(4) June 14, 2003 543 Paradise Mall Two (2) five year options Corner Jesus T. Pinero Ave. Rio Piedras, PR 00925
54
Net Book Value Description/Address Lease Term Expiration of Property - ----------------------------------------------------------------------------------- ------------------- (In Thousands) Ponce Branch(4) March 31, 2005 281 Lifetime Building Lot 5 Two (2) five year options Industrial San Rafael Ponce, PR 00731 Fajardo II Branch(4) September 1, 2006 52 Celis Aguilera #161 One (1) seven year option Fajardo, PR 00738 Plaza del Sol Branch(4) November 15, 2010 790 Plaza del Sol Mall Two (2) four year options 725 West Main Ave. Bayamon, PR 00961 Operations Center(2) January 10, 2001 2,581 Road #174, Lote 100 Two (2) five year options Minillas Industrial Park Bayamon, PR 00959 Plaza Interamericana Branch September 30, 2002 1,253 Plaza Interamericana Mall Five (5) five year options Sein Street and PR Road No. 177 San Juan, PR 00908 Plaza Las Americas Branch June 30, 2004 421 Plaza Las Americas Shopping Center Hato Rey, PR 00918 Caguas Branch August 25, 2004 415 PR Road No. 1, Km 33.6 Three (3) five year options Villa Blanca Industrial Area Caguas, Puerto Rico 00725 Branch locations to be -- 268 opened in 2000 ------- 13,155 ------- Continental Capital: Huntington Office -- 950 1841 New York Avenue Huntington Station, NY 11746 Bay Shore Office (month-to-month) 20 1555 Sunrise Hwy. Bay Shore, NY 11706 Administrative Office October 2004 45 125 Bayless Rd. One (1) five year option Melville, NY 11747 Office location to be opened in 2000 35 ------- 1,050 -------
55
Net Book Value Description/Address Lease Term Expiration of Property - ----------------------------------------------------------------------------------- ------------------- (In Thousands) Champion Mortgage: Hato Rey Branch June 30, 2003 195 295 Jesus T. Pinero One (1) five year option San Juan, PR 00918 Ponce Branch (month-to-month) 32 Las Americas Ave Ext. Buena Vista #25 Ponce, PR 00731 Bayamon Branch March 31, 2004 107 Street No. 1, #44 Two (2) five year options Hermanas Davila Bayamon, Puerto Rico 00959 Aguadilla Branch May 2006 57 PR Road No. 2 One (1) five year option Punto Oro Shopping Center Aguadilla, Puerto Rico 00603 Caguas Branch October 2004 32 Pino Street, H22 Two (2) one year options Villa Tarabo Caguas, Puerto Rico 00725 Guayama Branch August 2000 -- Ashford Ave., #45 South Three (3) three year options Guayama, Puerto Rico 00784 ------- 423 ------- R&G Mortgage: Caguas Office July 31, 2000 43 D-9 Degetau Street One (1) five year option San Alfonso Caguas, PR 00725 Los Jardines Office(5) August 1, 2006 16 Los Jardines de Guaynabo Shopping Center One (1) five year option PR Road No. 20 Guaynabo, PR 00969 Hato Rey Office(2)(3) December 31, 2002 4,637 280 Jesus T. Pinero Avenue Two (2) five year options Hato Rey, PR 00919
56
Net Book Value Description/Address Lease Term Expiration of Property - ----------------------------------------------------------------------------------- ------------------- (In Thousands) Bayamon Office(2)(3) May 30, 2001 63 42-43 Betances Avenue One (1) ten year option Hermanas Davila Bayamon, PR 00959 Arecibo Office(3) January 1, 2002 6 Marginal Vista Azul Two (2) five year options Corner San Daniel Avenue Arecibo, PR 00612 Manati Office(3)(6) October 30, 2003 40 Plaza Puerta del Sol One (1) five year option PR Road No. 2, Km. 49.7 Manati, PR 00674 Mayaguez Office(3)(6) October 30, 2003 26 McKinley Street One (1) five year option --------- Corner Dr. Vady Mayaguez, PR 00680 4,831 --------- 19,459 =========
(Footnotes on following page) 57 - ---------------------- (1) Also serves as the main office of R&G Financial. (2) Leased from VIG Leasing, S.E., which is owned by the family of Victor J. Galan, Chairman of the Board and Chief Executive Officer of R&G Financial. (3) The Bank and R&G Mortgage each maintain separate offices in the same building. (4) Facility includes an R&G Mortgage Banking Center. (5) The Bank maintains an office at this location in a separate facility. Item 3. Legal Proceedings. The Company is not involved in any pending legal proceedings other than nonmaterial legal proceedings occurring in the ordinary course of business. Item 4. Submission of Matters to a Vote of Security-Holders. Not applicable. PART II. Item 5. Market for Registrant's Common Equity and Related Stockholder Matters. The information required herein is incorporated by reference from pages 83 and 84 of the Registrant's 1999 Annual Report. Item 6. Selected Financial Data. The information required herein is incorporated by reference from pages 23 to 25 of the Registrant's 1999 Annual Report. Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. The information required herein is incorporated by reference from pages 26 to 44 of the Registrant's 1999 Annual Report. 58 Item 7A. Quantitative and Qualitative Disclosures About Market Risk. The information required herein is incorporated by reference from pages 26 to 31 of the Registrant's 1999 Annual Report. Item 8. Financial Statements and Supplementary Data. The information required herein is incorporated by reference from pages 45 to 82 of the Registrant's 1999 Annual Report. Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure. Not applicable. PART III. Item 10. Directors and Executive Officers of the Registrant. The information required herein is incorporated by reference from pages three to eight and 11 of the Registrant's Proxy Statement dated April 4, 2000 ("Proxy Statement"). Item 11. Executive Compensation. The information required herein is incorporated by reference from pages 12 to 16 and 19 to 22 of the Registrant's Proxy Statement. Item 12. Security Ownership of Certain Beneficial Owners and Management. The information required herein is incorporated by reference from pages nine to 11 of the Registrant's Proxy Statement. Item 13. Certain Relationships and Related Transactions. The information required herein is incorporated by reference from pages 16 to 19 of the Registrant's Proxy Statement. 59 PART IV. Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K. (a) Documents Filed as Part of this Report (1) The following financial statements are incorporated by reference from Item 8 hereof (see Exhibit 13): Independent Auditors' Report. Consolidated Statements of Financial Condition as of December 31, 1999 and 1998. Consolidated Statements of Income for the Years Ended December 31, 1999, 1998 and 1997. Consolidated Statements of Cash Flows for the Years Ended December 31, 1999, 1998 and 1997. Consolidated Statements of Changes in Stockholders' Equity for the Years Ended December 31, 1999, 1998 and 1997. Notes to Consolidated Financial Statements. (2) All schedules for which provision is made in the applicable accounting regulation of the SEC are omitted because of the absence of conditions under which they are required or because the required information is included in the consolidated financial statements and related notes thereto. 60 (3) The following exhibits are filed as part of this Form 10-K, and this list includes the Exhibit Index. No. Description - ------------ --------------------------------------------------------------- 2.0 Amended and Restated Agreement and Plan of Merger by and between R&G Financial Corporation, the Bank and R-G Interim Premier Bank, dated as of September 27, 1996.(1) 3.1 Certificate of Incorporation of R&G Financial Corporation.(2) 3.2 Certificate of Amendment to Certificate of Incorporation of R&G Financial Corporation.(2) 3.2.1 Amended and Restated Certificate of Incorporation of R&G Financial Corporation(4) 3.3 Bylaws of R&G Financial Corporation.(2) 3.4 Certificate of Resolutions designating the terms of the Series A Preferred Stock.(6) 3.5 Certificate of Resolutions designating the terms of the Series B Preferred Stock. 4.0 Specimen of Stock Certificate of R&G Financial Corporation.(2) 4.1 Form of Series A Preferred Stock Certificate of R&G Financial Corporation.(3) 4.2 Form of Series B Preferred Stock Certificate of R&G Financial Corporation.(5) 10.1 Master Purchase, Servicing and Collection Agreement between R&G Mortgage and the Bank dated February 16, 1990, as amended on April 1, 1991, December 1, 1991, February 1, 1994 and July 1, 1994.(2) 10.2 Master Custodian Agreement between R&G Mortgage and the Bank dated February 16, 1990, as amended on June 27, 1996.(2) 10.3 Master Production Agreement between R&G Mortgage and the Bank dated February 16, 1990, as amended on August 30, 1991 and March 31, 1995.(2) 10.4 Data Processing Computer Service Agreement between R&G Mortgage and R-G Premier Bank dated December 1, 1994.(2) 10.5 Securitization Agreement by and between R&G Mortgage and the Bank, dated as of July 1, 1995.(2) 10.6 R&G Financial Corporation Stock Option Plan.(2)(*) 13.0 1999 Annual Report to Stockholders. 21.0 Subsidiaries of the Registrant - Reference is made to "Item 1. Business" for the required information. 27.0 Financial Data Schedule. 99.1 Valuation Report on Minority Interest of Bank Stockholders, prepared by Friedman, Billings, Ramsey & Co., Inc., dated June 13, 1996.(2) 99.2 Update to Valuation on Minority Interest of Bank Stockholders, prepared by Friedman, Billings, Ramsey & Co., Inc., dated September 27, 1996.(1) - ------------------------- (1) Incorporated by reference from the Registration Statement on Form S-4 (Registration No. 333-13199) filed by the Registrant with the Securities and Exchange Commission ("SEC") on October 1, 1996. 61 (2) Incorporated by reference from the Registration Statement on Form S-1 (Registration No. 333-06245) filed by the Registrant with the SEC on June 18, 1996, as amended. (3) Incorporated by reference from the Registrant's Registration Statement on Form S-3 (Registration No. 333-60923), as amended, filed with the SEC on August 7, 1998. (4) Incorporated by reference from the Registrant's Current Report on Form 8-K filed with the SEC on November 19, 1999. (5) Incorporated by reference from the Registrant's Registration Statement on Form S-3 (Registration No. 333-90463), filed with the SEC on November 5, 1999. (6) Incorporated by reference from the Registrant's Current Report on Form 8-K filed with the SEC on August 31, 1998. (*) Management contract or compensatory plan or arrangement. (3)(b) Reports on Form 8-K. Current Report on Form 8-K filed November 19, 1999 with respect to Amended and Restated Certificate of Incorporation of Registrant. None. 62 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. R&G FINANCIAL CORPORATION March 1, 2001 By: /s/ Victor J. Galan ------------------- Victor J. Galan Chairman of the Board and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. /s/ Victor J. Galan March 1, 2001 - -------------------------------------------- Victor J. Galan Chairman of the Board and Chief Executive Officer (principal executive officer) /s/ Joseph R. Sandoval March 1, 2001 - -------------------------------------------- Joseph R. Sandoval Senior Vice President and Chief Financial Officer (principal financial and accounting officer) /s/ Ana M. Armendariz March 1, 2001 - -------------------------------------------- Ana M. Armendariz Director and Treasurer /s/ Ramon Prats March 1, 2001 - -------------------------------------------- Ramon Prats President and Director /s/ Enrique Umpierre-Suarez March 1, 2001 - ------------------------------------------- Enrique Umpierre-Suarez Director and Secretary /s/ Victor L. Galan Fundora March 1, 2001 - ------------------------------------------- Victor L. Galan Fundora Director /s/ Pedro Ramirez March 1, 2001 - ------------------------------------------- Pedro Ramirez Director /s/ Laureno Carus Abarca March 1, 2001 - ------------------------------------------- Laureno Carus Abarca Director /s/ Eduardo McCormack March 1, 2001 - ------------------------------------------- Eduardo McCormack Director /s/ Gilberto Rivera-Arrega March 1, 2001 - ------------------------------------------- Gilberto Rivera-Arreaga Director /s/ Benigno R. Fernandez March 1, 2001 - ------------------------------------------- Benigno R. Fernandez Director /s/ Ileana M. Colon-Carlo March 1, 2001 - ------------------------------------------- Ileana M. Colon-Carlo Director /s/ Roberto Gorbea March 1, 2001 - ------------------------------------------- Roberto Gorbea Director EX-3.5 2 0002.txt EXHIBIT 3.5 Certificate of Resolution Establishing and Designating the Series and Fixing and Determining the Relative Rights and Preferences of the Noncumulative Perpetual Monthly Income Preferred Stock, Series B ($25 Liquidation Preference Per Share) of R&G Financial Corporation I, Enrique Umpierre-Suarez, the duly appointed Secretary of R&G Financial Corporation (the "Corporation"), a corporation organized and existing under the laws of the Commonwealth of Puerto Rico, hereby certify that the following resolutions were duly adopted by the Board of Directors of the Corporation pursuant to authority conferred by the Corporation's Certificate of Incorporation, as amended (the "Certificate of Incorporation"), at a meeting thereof duly held on October 28, 1999 and by the Pricing Committee of the Board of Directors, pursuant to authority conferred by the Board of Directors, at a meeting thereof duly held on December 16, 1999: RESOLVED, that pursuant to the authority expressly vested in the Board of Directors of the Corporation by Article IV of its Certificate of Incorporation, the Board of Directors hereby authorizes the issuance of up to 1,000,000 shares of its preferred stock, par value $0.01, liquidation preference $25.00 per share to be designated as R&G Financial Corporation Noncumulative Perpetual Monthly Income Preferred Stock, Series B (the "Series B Preferred Stock"). The preferences, voting powers, restrictions, limitations as to dividends, qualifications, and terms and conditions of redemption, of the shares of the Series A Preferred Stock are as follows: 1. Dividend Rights (a) Holders of record of Series B Preferred Stock shall be entitled to receive noncumulative cash dividends payable monthly in arrears for each month at the Dividend Rate (as hereinafter defined) as applicable, when and as and if declared by the Board of Directors, or a duly authorized committee thereof, out of funds legally available therefor. Dividends on the Series B Preferred Stock will accrue from their date of issuance and will be payable monthly in arrears in United States dollars commencing on January 1, 2000, and for each monthly dividend period commencing on the first day of each month thereafter, and ending on and including the day next preceding the first day of the next Dividend Period (each, a "Dividend Period") to the holder of record of the Series B Preferred Stock as they appear on the books of the Corporation on the second business day (as defined below), immediately preceding the relevant Dividend Payment Date (as defined below). Dividends so declared will be payable on the first day of each month commencing on January 1, 2000 (each, a "Dividend Payment Date"). The amount of dividends payable per share of Series A Preferred Stock for each Dividend Period shall be computed on the basis of twelve 30-day months and a 360-day year. The amount of dividends payable for any period shorter than a full month dividend period will be computed on the basis of the actual number of days elapsed in such period. (b) Holders of Series B Preferred Stock will not participate in dividends, if any, declared and paid on the common stock of the Corporation (the "Common Stock"). Except as descried herein, holders of the Series B Preferred Stock will have no other right to participate in the profits of the Corporation or to receive dividends. The right of holders of Series B Preferred Stock to receive dividends is noncumulative. (c) If the Board of Directors of the Corporation or an authorized committee thereof does not declare a dividend on the Series B Preferred Stock for a Dividend Period, then holders of the Series B Preferred Stock will have no right to receive a dividend for that Dividend Period, and the Corporation will have no obligations to pay the dividend accrued for that Dividend Period, whether or not dividends are declared for any subsequent Dividend Period. (d) When dividends which are not paid in full on the Series B Preferred Stock and on any other shares of preferred stock of the Corporation ranking on a parity as to the payment of dividends with the Series B Preferred Stock, including the 7.4% Noncumulative Perpetual Monthly Income Preferred Stock, Series A, all dividends declared upon the Series B Preferred Stock and any such other shares of preferred stock will be declared pro rata so that the amount of dividends declared per share on the Series B Preferred Stock and any such other shares of preferred stock will in all cases bear to each other the same ratio that the liquidation preference per share of the Series B Preferred Stock and any such other preferred stock bear to each other. (e) So long as any shares of the Series B Preferred Stock remain outstanding, unless the full dividends on all outstanding shares of Series B Preferred Stock have been declared and paid or set apart for payment for the current Dividend Period and have been paid for all Dividend Periods for which dividends were declared and not paid, (i) no dividend (other than a dividend in Common Stock or in any other stock of the Corporation ranking junior to the Series B Preferred Stock as to dividends or distribution of assets upon liquidation, dissolution or winding up) may be declared and paid, or set apart for payment, or other distribution declared or made, on the Common Stock or on any other stock ranking junior to or on a parity with the Series B Preferred Stock as to dividends or distribution of assets upon liquidation, dissolution or winding up and (ii) no shares of Common Stock or shares of any other stock of the Corporation ranking junior to or on a parity with the Series B Preferred Stock as to dividends or distribution of assets upon liquidation, dissolution or winding up, will be redeemed, purchased or otherwise acquired for any consideration by the Corporation or any subsidiary of the Corporation (nor may any moneys be paid to or made available for a sinking or other fund for the redemption, purchase or other acquisition of any shares of any such stock), other than by conversion into or exchange for Common Stock or any other stock of the Corporation ranking junior to the Series B Preferred Stock as to dividends or distribution of assets upon liquidation, dissolution or winding up. (f) When a Dividend Payment Date falls on a day that is not a Business Day, the dividend will be paid on the next Business Day, without any interest or accumulation on payment in respect of any such delay. A "Business Day" is a day on which the Nasdaq National Market is open for trading and which is not a Saturday, Sunday or other day on which the banks in the Commonwealth of Puerto Rico or New York City are authorized or obligated by law to close. 2. Dividend Rate The annual dividend rate per share for the Series B Preferred Stock shall be 7.75% of the $25 liquidation preference per share, or $0.1614583 per share per month (the "Dividend Rate"). 3. Conversion; Exchange The Series B Preferred Stock will not be convertible into, or exchangeable for any other securities of the Corporation. 4. Redemption at the Option of the Corporation (a) The shares of the Series B Preferred Stock are not redeemable prior to January 1, 2005. On or after such date, the shares of Series B Preferred Stock will be redeemable in whole or in part from time to time at the option of the Corporation, upon not less than 30 nor more than 60 days' notice, by mail, at the redemption prices set forth in the table below, during the twelve month periods beginning on January 1 of the years set forth below, subject to the prior approval of the Board of Governors of the Federal Reserve System, if required by applicable law, plus an amount equal to dividends declared and unpaid for the then-current Dividend Period (without accumulation of accrued and unpaid dividends for prior Dividend Periods and without interest) to the date fixed for redemption. Redemption Year Price ------------------- --------------- 2005 $25.50 2006 25.25 2007 and thereafter 25.00 (b) In no event shall the Corporation redeem less than all of the outstanding Series B Preferred Stock, unless dividends for the then-current Dividend Period to the date fixed for redemption for such series shall have been declared and paid or set apart for payment on all outstanding Series B Preferred Stock, provided however, that the foregoing provisions will not prevent, if otherwise permitted, the purchase or acquisition by the Corporation of Series B Preferred Stock pursuant to a tender or exchange offer made on the same terms to holders of all the outstanding Series B Preferred Stock and mailed to the holders of record of all such outstanding shares at such holders' address as the same appear on the books of the Corporation; and provided, further, that if some, but less than all, of the Series B Preferred Stock are to be purchased or otherwise acquired by the Corporation, the Series B Preferred Stock so tendered will be purchased or otherwise acquired by the Corporation on a pro rata basis (with adjustments to eliminate fractions) according to the number of such shares tendered by each holder so tendering Series B Preferred Stock for such purchase or exchange. (c) In the event that less than all of the outstanding shares of the Series B Preferred Stock are to be redeemed in any redemption at the option of the Corporation, the total number of shares to be redeemed in such redemption shall be determined by the Board of Directors and the shares to be redeemed shall be allocated pro rata or by lot as may be determined by the Board of Directors or by such other method as the Board of Directors may approve and deem equitable, including any method to conform to any rule or regulation of any national or regional stock exchange or automated quotation system upon which the shares of the Series B Preferred Stock may at the time be listed or eligible for quotation. (d) The Corporation may redeem the Series B Preferred Stock without ever having declared or paid a dividend on such stock. (e) Notice of any proposed redemption shall be given by the Corporation by mailing a copy of such notice to the holders of record of the shares of Series B Preferred Stock to be redeemed, at their address of record, not more than 60 days nor less than 30 days prior to the redemption date. The notice of redemption to each holder of shares of Series B Preferred Stock shall specify the number of shares of Series B Preferred Stock to be redeemed, the redemption date and the redemption price payable to such holder upon redemption and shall state that from and after said date dividends thereon will cease to accrue. If less than all the shares owned by a holder are then to be redeemed at the option of the Corporation, the notice shall also specify the number of shares of Series B Preferred Stock which are to be redeemed and the numbers of the certificates representing such shares. Any notice which is mailed as herein provided shall be conclusively presumed to have been duly given, whether or not the stockholder receives such notice. Failure to duly give such notice by mail, or any defect in such notice, to the holders of any stock designated for redemption shall not affect the validity of the proceedings for the redemption of any other shares of Series B Preferred Stock. Notice having been mailed as aforesaid, from and after the redemption date (unless default be made in the payment of the redemption price for any shares to be redeemed), all dividends on the shares of Series B Preferred Stock called for redemption shall cease to accrue and all rights of the holders of such shares as stockholders of the Corporation by reason of the ownership of such shares (except the right to receive the redemption price, on presentation and surrender of the respective certificates representing the redeemed shares) shall cease on the redemption date, and such shares shall not after the redemption date be deemed to be outstanding. In case less than all the shares represented by any such certificate are redeemed, a new certificate shall be issued without cost to the holder thereof representing the unredeemed shares, if requested by such shareholder. (f) At its option, the Corporation may, on or prior to the redemption date, irrevocably deposit with a paying agent (a "Paying Agent"), having surplus and undivided profits aggregating at least $50 million, funds necessary for such redemption in trust, with irrevocable instructions and authorization that such funds be applied to the redemption of the shares of Series B Preferred Stock called for redemption upon surrender of certificates for such shares (properly endorsed or assigned for transfer). If notice of redemption shall have been mailed and such deposit is made and the funds so deposited are made immediately available to the holders of the shares of the Series B Preferred Stock to be redeemed, the Corporation shall thereupon be released and discharged (subject to the provisions described in the next paragraph) from any obligation to make payment of the amount payable upon redemption of the shares of the Series B Preferred Stock to be redeemed. Notwithstanding that any certificates for such shares shall not have been surrendered for cancellation, the shares represented thereby shall no longer be deemed to be outstanding. Thereupon, the holders of such shares shall look only to the Paying Agent for such payment. Thereafter, all rights of the holders of such shares as holders of Series B Preferred Stock (except the right to receive the redemption price, but without interest) will cease. (g) Any funds remaining unclaimed at the end of two years from and after the redemption date in respect of which such funds were deposited shall be returned to the Corporation forthwith and thereafter the holders of shares of the Series B Preferred Stock called for redemption with respect to which such funds were deposited shall look only to the Corporation for the payment of the redemption price thereof. Any interest accrued on any funds deposited with the Paying Agent shall belong to the Corporation and shall be paid to it from time to time on demand. (h) Any shares of the Series B Preferred Stock which shall at any time have been redeemed shall, after such redemption, have the status of authorized but unissued shares of preferred stock, without designation as to series, until such shares are once more designated as part of a particular series by the Board of Directors. 5. Voting Rights (a) Except as indicated herein, or except as required by applicable law, the holders of the Series B Preferred Stock will not be entitled to receive notice of or attend or vote at any meeting of the stockholders of the Corporation. (b) If a Voting Event (as defined in the next paragraph) occurs, the holders of outstanding shares of the Series B Preferred Stock, together with the holders of shares of any one or more other series of preferred stock entitled to vote for the election of directors in the event of any failure to pay dividends, acting as a single class will be entitled, by written notice to the Corporation given by the holders of a majority in liquidation preference of such shares or by ordinary resolution passed by the holders of a majority in liquidation preference of such shares present in person or by proxy at a separate special meeting of such holders convened for the purpose, to appoint two additional members of the Board of Directors of the Corporation, to remove any such member from office and to appoint another person in place of such member. Not later than 30 days after a Voting Event occurs, if written notice by a majority of the holders of such shares has not been given as provided for in the preceding sentence, the Board of Directors or an authorized committee thereof will convene a separate special meeting for the above purpose. If the Board of Directors or such authorized committee fails to convene such meeting within such 30-day period, the holders of 10% of the outstanding shares of the Series B Preferred Stock and of any such other securities will be entitled to convene such meeting. The provisions of the Certificate of Incorporation and the By-Laws of the Corporation relating to the convening and conduct of general meetings of stockholders will apply with respect to any such separate special meeting. Any member of the Board of Directors so appointed shall vacate office if, following the event which gave rise to such appointment, the Corporation shall have resumed the payment of dividends in full on the Series B Preferred Stock and each such other series of stock for twelve consecutive monthly Dividend Periods. (c) A "Voting Event" will be deemed to have occurred in the event that dividends payable on any share or shares of Series B Preferred Shares shall not be declared and paid at the stated rate for the equivalent of eighteen full monthly Dividend Periods (whether or not consecutive). A Voting Event will be deemed to have been terminated when dividends have been paid regularly for twelve consecutive monthly Dividend Periods. (d) Any variation or abrogation of the rights, preferences and privileges of the Series B Preferred Stock by way of amendment of the Certificate of Incorporation or otherwise (including, without limitation, the authorization or issuance of any shares of the Corporation ranking, as to dividend rights or rights on liquidation, winding up and dissolution, senior to the Series B Preferred Stock) shall not be effective (unless otherwise required by applicable law) except with the consent in writing of the holders of at least two-thirds of the outstanding shares of the Series B Preferred Stock or with the sanction of a special resolution passed at a separate special meeting by the holders of at least two-thirds of the outstanding shares of the Series B Preferred Stock. Notwithstanding the foregoing, the Corporation may, without the consent or sanction of the holders of Series B Preferred Stock, authorize and issue shares of the Corporation ranking as to dividend rights and rights on liquidation, winding up or dissolution, on a parity with or junior to the Series B Preferred Stock. (e) No vote of the holders of the Series B Preferred Stock will be required for the Corporation to redeem or purchase and cancel the Series B Preferred Stock. (f) The Corporation will cause a notice of any meeting at which holders of Series B Preferred Stock are entitled to vote to be mailed to each record holder of the Series B Preferred Stock. Each such notice will include a statement setting forth (i) the date of such meeting, (ii) a description of any resolution to be proposed for adoption at such meeting on which such holders are entitled to vote and (iii) instructions for deliveries of proxies. 5. Liquidation Preference (a) In the event of any voluntary or involuntary liquidation, dissolution or winding up of the Corporation, the holders of shares of Series B Preferred Stock will be entitled to receive out of assets of the Corporation available for distribution to stockholders, before any distribution of the assets is made to the holders of shares of the Common Stock or on any other class or series of stock of the Corporation ranking junior to the Series B Preferred Stock as to such a distribution, an amount equal to $25.00 per share, plus an amount equal to dividends declared and unpaid for the then current Dividend Period (without accumulation of accrued and unpaid dividends for prior Dividends Periods) to the date fixed for payment of such distribution. (b) If, upon any voluntary or involuntary liquidation, dissolution or winding up the Corporation, the assets of the Corporation are insufficient to make the full liquidation payment on the Series B Preferred Stock and liquidating payments or any other class or series of stock of the Corporation ranking on a parity with the Series B Preferred Stock as to any such distribution, then such assets will be distributed among the holders of the Series B Preferred Stock and such other class or series of parity stock ratably in proportion to the respective full preferential amounts to which they are entitled. (c) After any liquidating payments, the holders of the Series B Preferred Stock will be entitled to no other payments. A consolidation or merger of the Corporation with or into any other corporation or corporations or the sale, lease or conveyance, whether for cash, shares of stock, securities or properties, of all or substantially all the assets of the Corporation will not be regarded as a liquidation, dissolution or winding up of the Corporation. IN WITNESS WHEREOF, I have hereunto set my hand and affixed the seal of the Corporation this 17th day of December, 1999. /s/ Enrique Umpierre-Suarez --------------------------- Enrique Umpierre-Suarez Secretary 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] EX-27 4 0004.txt
9 1000 12-MOS DEC-31-1999 JAN-01-1999 DEC-31-1999 42,251,508 23,744,037 0 43,563,817 970,868,822 28,686,877 28,708,784 1,563,006,802 8,970,605 2,911,992,836 1,330,506,368 1,272,891,235 39,059,956 0 0 75,000,000 41,040,439 153,494,838 269,535,277 117,304,300 35,593,191 10,243,856 163,141,347 53,643,104 106,563,573 56,577,774 4,525,000 (981,101) 69,289,842 53,574,199 53,574,199 0 0 41,334,992 1.31 1.28 7.50 59,013,827 337,341 0 61,160,068 8,055,432 4,439,807 829,980 8,970,605 8,970,605 0 0
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